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Koreans stun Canadian oil patch State-run KNOC offers premium for Harvest Energy Trust holdings in search for energy security; bolsters chances of new sands market Gary Park For Petroleum News
South Korea’s state-run Korea National Oil Corp. has taken a headlong plunge into Canada’s energy sector in a highly complex move that is causing widespread head scratching within the industry.
The move came amid reports that KNOC was still seething over its failure earlier this year to outwit and outbid China Petrochemical Corp. (better known as Sinopec) in a contest for Swiss-based Addax Petroleum.
Sinopec landed Addax, which is active in West Africa and Iraq’s Kurdistan region, for US$7.24 billion.
KNOC retaliated Oct. 22 with a C$4.1 billion offer (C$1.8 billion in cash and C$2.3 billion assumed debt) for Harvest Energy Trust, effectively laying out C$63,000 per flowing barrel of Harvest production and a widely scattered bundle of assets.
If there is a competing bid, which few seem to expect, KNOC will have five business days to counter.
Should the deal not go through, KNOC has also agreed to a noncompletion fee of C$100 million.
Analyst doesn’t expect competition UBS analyst Travis Wood said in a research note that competing bidders are unlikely to emerge given that KNOC, on a flowing barrel-of-production basis, is paying a 25 percent premium to recent deals and about 10 percent for reserves in the ground.
“Harvest’s rationale — take it and run,” he said.
Wood said he expects KNOC will spend more capital than Harvest has as it chases production growth.
What startles observers is KNOC’s offer of C$10 per trust unit, a 47 percent premium over the 30-day weighted average trading price on the Toronto Stock Exchange and 37 percent over Oct. 21, the day before the offer was launched.
To complete the deal in December, KNOC needs support from two-thirds of Harvest unit holders, regulatory and court approvals and an automatic review under the Investment Canada Act, which can reject foreign takeovers seen to be at odds with Canada’s strategic interests and unable to establish a net benefit for Canada.
Foreign takeovers a trend The aggressive buying of KNOC, PetroChina and Abu Dhabi’s TAQA are expanding the pattern of foreign takeovers in Canada’s energy sector, one that Clarus Securities analyst Victor Rodberg said is “certainly a trend and it’s definitely not slowing down.”
He said foreign acquisitors apparently see more long-term value in Canadian companies that domestic buyers, but the danger for Canada is losing head offices and becoming branch plants or subsidiaries of foreign state-controlled enterprises.
If the various hurdles can be cleared, KNOC will inherit 154 million barrels of oil equivalent in proved reserves and 220 million boe in proved-plus-probable reserves, few of which are considered gems outside of a stake in Saskatchewan’s Bakken formation; conventional production of about 52,000 boe per day (70 percent oil and natural gas liquids and 30 percent natural gas); 3 billion barrels of potential oil sands reserves spread over 42,000 net acres in the Peace River and Cold Lake areas of Alberta; 2 trillion to 3 trillion cubic feet of coalbed methane prospects; and a 115,000 bpd refinery in Newfoundland.
Shoring up energy security The conclusion, given this disparate bundle, is that KNOC is ready to make bold moves to shore up South Korea’s energy security and was not prepared to sit back and watch China expand its oil sands presence, two months after PetroChina offered C$1.9 billion for a 60 percent share of two projects by Athabasca Oil Sands.
It may also have been prodded into action by word from Enbridge that it hopes to submit a regulatory application in November for its proposed Northern Gateway pipeline from Alberta to the Kitimat deepwater port on the northern British Columbia coast.
The pipeline is designed to carry 525,000 bpd, with the bulk tagged for Asian refiners, with Korea and Japan thought to be higher on the list than China.
It could hold the key to growing industry and government beliefs that Canada needs an alternative outlet to the United States for its bitumen.
“Selling into the declining or even stagnant market is a difficult thing to do, especially when it is your only market,” Peter Tertzakian, energy economist at ARC Financial, told the Globe and Mail earlier in October. “That’s why it is paramount for Canada to be thinking about opening up other markets, particularly the growth markets of Asia for our product.”
Increased production the goal South Korea has its sight set on raising KNOC’s production from 70,000 bpd (excluding Harvest’s volumes) to 300,000 bpd by 2012, accounting for about 18.1 percent of its needs and reducing its role as the world’s fifth largest importer of crude.
That program has included asset purchases and exploration in Peru, the U.S. Gulf Coast and Iraq this year.
To that end, KNOC expects to buy at least one more company this year, a government official said.
KNOC established a toehold in 2006, paying C$270 million to Newmont Mining for the BlackGold oil sands leases estimated to hold about 300 million barrels of recoverable bitumen.
So far, KNOC’s only significant moves have been to scale back its original plans to produce 100,000 bpd by 2015 to a 30,000-35,000 bpd operation (starting at 10,000 bpd in 2010), then putting an indefinite hold on development pending the release of government environmental regulations and an economic recovery. The feeling within the industry is that KNOC has been unable to hire the talent needed to commercialize BlackGold.
Young-won Kang, president of KNOC, said the Harvest takeover is a “perfect fit for KNOC’s North American growth strategy.”
“KNOC has ambitious plans for future growth and is committed to a long-term investment strategy for Canada,” he said.
The company has set a goal to become “expert in the oil sands” by about 2015, certain that oil prices and its own technological skills will make the oil sands deposits a prime development resource.
Korea Gas signs with Kitimat Also operating outside the spotlight, Korea Gas Corp. signed a memorandum of understanding this year with Kitimat LNG to take 40 percent of its proposed 5 million metric tons a year of LNG shipments from the Kitimat export terminal that could start operations within five years.
Kyle Preston, an analyst with Canaccord Adams, said Harvest has landed a good price after struggling with debt issues and weaker refining margins.
From having one of the trust sector’s highest cash distribution ratios, it slashed annual payouts in March to C$100 million from C$500 million
Despite these problems, Harvest Chief Executive Officer John Zahary said the board of directors was not looking to sell the trust until KNOC arrived on the doorstep.
“KNOC knew what it wanted. … It was very motivated,” he said, adding the financial backing from KNOC will be “helpful in funding the attractive investment opportunities in our assets.”
Help with refinery capital In particular, Zahary suggested KNOC may be able to solve the bind Harvest faces with its Come By Chance refinery in Newfoundland, which it acquired three years ago in a C$1.6 billion takeover of North American Refining.
Plans to spend C$2 billion adding 75,000 bpd of capacity were shelved last year, while Harvest started looking for a partner to share the costs.
KNOC’s financial clout improves the odds of that work going ahead, as well as ensuring that some other projects that were deferred or slowed down can resume progress, Zahary said.
“You’ve got to put some capital spending into your business and our capital spending has been somewhat constrained lately with the state of the capital markets,” he said.
Harvest also had some good news related to the refinery earlier in October when it renewed and extended its existing crude oil supply and refined product offtake agreement with Vitol Refining, adding two years to a deal that takes effect on Nov. 1.
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