Deals of the Week: Linn Energy Deal Strengthens US Portfolio at the Expense of its Escalating Debt Level

Linn Energy conducted the largest deal in the oil patch this week by acquiring BP’s Hugoton basin assets in Kansas for $1.2 billion. The acquisition follows on from Linn Energy’s linear acquisition strategy, which has seen it aggressively acquiring onshore US assets over the past 5 years. Financed exclusively with debt, this strategy has led to Linn Energy operating with a debt to equity level of over 100% at present but has also seen the company triple its market capitalization since 2008.

Although the deal is weighted towards gas, 37% of the reserves are composed of natural gas liquids which will offer some respite from ailing US gas prices. The reserves are highly developed at 81%, are 98% operated and the financing that Linn Energy agreed upon immediately following the purchase was at a competitive rate of 6.25% making this acquisition fairly safe if not spectacular. Upon the announcement of the deal, the lack of any dramatic change in the volume or share price of Linn echoed the sentiment that the deal value was fair but the level of debt that Linn continues to add to its balance sheet is likely to make some investors nervous.

The acquisition is the second largest in Linn Energy’s history, falling short of the company’s $2 billion acquisition of a package of assets in the US mid-continent from Dominion Resources in 2007. For BP the deal represents only a small portion of the funds needed to cover the $37 billion charge as a result of the Deepwater Horizon explosion. The deal fits in well with the BP’s divestiture plan to offload mature assets in order to focus on higher growth opportunities.

Whitecap Resources made its fifth significant acquisition in its short history with a C$550 million takeover of Midway Energy this week. Whitecap gained stock market status in June 2010 via a reverse takeover of Spitfire Energy and since then has gone on to make almost $1 billion worth of oil weighted acquisitions in West Central Alberta and South East Saskatchewan. These acquisitions have been financed via $500 million of equity transfers and $350 million of placings and despite the dilution in stock that this has inevitably caused the share price of Whitecap has still prospered with a 37% increase in the past year. This latest deal however has not been met with the same positivity as in the past with the share price of Whitecap falling 6% on the day of the deal announcement. The reason for this is likely due to the high metrics of the Midway acquisition, which even after taking into account the value of undeveloped land and tax pools, equates to $24 per proven boe and infers only a 2.5% annual return on the acquisition cost based on the NPV of these resources. This will significantly drop however if Whitecap reaches its stated target of a recovery factor of 15% as opposed to the 5.4% recovery rate that the reserves are currently based on.

In Ghana, Kosmos Energy increased its stake in the Deepwater Tano block by 4.05% via the exercise of its right to acquire Sabre Oil & Gas, in a deal that could range in value between $365 and $410 million depending on certain performance milestones. The main asset of the Deepwater Tano block is the Jubilee field, which was discovered in 2007 with recoverable reserves of 1 billion barrels of oil and has a current production capacity of 120,000 boe/d. The block also includes the Tweneboa and Enyenra discoveries and additional opportunities that may arise from the 2012 exploration programme on the block.

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