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Analysts: EnCana means more deal-making is in store for Canada Experts see pressure building on a handful of independents and Canadian-controlled integrateds to find alternatives to languishing share values and inability to finance projects; A.T. Kearny predicts mergers will result in three top firms Gary Park PNA Canadian Correspondent
For those who thought nothing could surpass the buyout spree of recent years in Canada, a global consulting firm has advice: The torrid pace of shopping could last another five to 10 years.
Intense merger activity will continue until oil patch ownership is concentrated among three top firms, said A.T. Kearny, basing its conclusions on deal-making among 25,000 listed companies in 24 industries around the world between 1998 and 2000.
It said the formation of EnCana Corp. from the blockbuster merger of Alberta Energy Co. Ltd. and PanCanadian Energy Corp. pushed consolidation to the stage when market leaders tend to focus less on mega-mergers and more on strengthening core competencies and cleaning up their portfolios.
Over this period, merger activity remains high, but targets tend to be more focused and strategic, resulting in the top three players controlling 45 percent to 60 percent of the market, the study said. Focus rather than accumulation As a result of the EnCana deal, it along with the other major Canadian-controlled companies Petro-Canada and Suncor Energy Inc. now represent more than 50 percent of the market capitalization of Canada’s publicly-traded oil and gas companies.
“By pushing the market concentration of the top three from 43 percent to 55 percent, the EnCana merger signifies that the Canadian oil patch has moved from the accumulation phase to the focus phase,” said A.T. Kearny.
The consultant said it would not be surprised to see the top three Canadian firms account for more than 70 percent of the total market capitalization of the industry within five to 10 years.
The lull following EnCana ended in mid-May when Canadian Natural Resources Ltd. bid C$2.4 billion for Rio Alto Exploration Ltd. and Paramount Resources Ltd. struck a friendly deal to buy Summit Resources Ltd. for C$332 million.
Analysts say these stirrings are evidence to all companies that this is no time to fall asleep.
The formation of EnCana puts its Canadian-based rivals at a severe disadvantage and serves notice that they must be prepared to chase similar opportunities, says one analyst. More deals predicted Pentti Karkkainen, a founding member of Kern Partners Ltd., a Calgary-based merger and acquisition firm that was a key advisor in the EnCana deal, said flatly “there are going to be more deals, more transactions.”
Next on the list of potential buyers or sellers among Canadian E&P companies are Canadian Natural itself, Talisman Energy Inc., Nexen Inc., Husky Energy Inc., Penn West Petroleum Ltd. and Baytex Energy Ltd.
EnCana’s emergence suggests no company is immune, putting the spotlight for the first time on the Canadian-owned integrated oil and gas companies, including Suncor Energy Inc. and Hurricane Hydrocarbons Ltd.
The only exceptions are Imperial Oil Ltd. (69.6 percent owned by ExxonMobil Corp.) and Shell Canada Ltd. (78 percent controlled by the Royal Dutch/Shell Group) and Petro-Canada, so long as it operates under a federal law that prevents anyone from holding more than 20 percent of its shares. Takeover speculations The others often surface in takeover speculation, especially Husky in recent months, with state-owned PetroChina and TotalFinaElf SA acknowledging that they have been in talks with Husky before finding the Hong Kong-controlled company to be overpriced.
Karkkainen, while conceding it has become more of a challenge for others to repeat the EnCana model, they have to figure out a way to get on an equal footing with EnCana’s cost-of-capital advantage.
Canadian companies that can’t draw the attention of U.S. investors will find their shares languishing and their ability to finance capital projects impaired, he said.
But Karkkainen said the EnCana fit was “so good and powerful,” that any similar transactions will be difficult to create. Several drivers to takeovers The shopping spree by U.S. buyers, who have accounted for an estimated 80 percent of all M&A deals in the last two years, has been driven by a number of factors — Canada’s low dollar, the higher market valuations enjoyed by U.S. companies and the greater ability of U.S. companies to use debt.
Investment banker Mike Tims, chief executive officer of Peters & Co., said the “currency gap” allows U.S. companies to buy for less and sell the resulting oil and gas production into export markets for U.S. dollars.
Because of greater market support and liquidity in the U.S., American buyers of Canadian assets have an advantage when they use their stock to make the purchases, said Wilf Gobert, also of Peters & Co.
In addition, the U.S companies can borrow in the private debt market from insurance companies and others, obtaining 30-year maturity money with low interest rates, while most debt borrowing in Canada is done by banks, with floating interest rates and short-term repayment obligations, he said.
U.S. buyers are also making double deductions of their interest expenses against both their U.S. and Canadian incomes to finance their deal-making. Risks from low commodity prices Although Canada has the advantage over the U.S. of offering less-explored basins and higher per well reserve potential — especially in the Alberta oil sands, East Coast offshore and the Arctic — there are risks if commodity prices go into a dive.
Analysts point out that Devon Energy Corp., which purchase Anderson Exploration Ltd. for about C$7.1 billion about the same time that it acquired Houston-based Mitchell Energy & Development Corp., paid a premium for Anderson’s assets.
Devon forked over US$8.26 per barrel (or natural gas equivalent) for Anderson’s reserves against US$6.25 for the equivalent Mitchell reserves.
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