Canadian independents with significant natural gas and land positions are at some risk of becoming an endangered species, with a spate of takeover deals already on the books this year.
Other issues facing companies include land access, aboriginal rights, and the need for regulatory streamlining.
M&A action
Sayer Securities Ltd., Calgary, an investment firm specializing in oil industry merger and acquisition (M&A) activity, recorded the highest dollar value in deals in the past decade in first half 2001. The total value of more than 70 M&A deals was $21 billion (Can.) in the first 6 months of this year. The total was swelled by several multibillion-dollar takeovers of large Canadian independents by US firms seeking to expand their gas portfolios and reserves potential.
A Sayer report says higher natural gas prices in the first half were a factor, as well as increased buying by US firms, and acquisitions by royalty income trusts (RITs). A weak Canadian dollar and undervalued energy stocks were also factors that made some independents tempting targets.
Companies frequently named this year by analysts as potential takeover targets have included PanCanadian Petroleum Ltd., Talisman Energy Inc., Alberta Energy Company Ltd., Canadian Natural Resources Ltd., Anderson Exploration Ltd., Rio Alto Exploration Ltd., Husky Oil Co., Canadian Hunter Exploration Ltd., Gulf Canada Resources Ltd., and Nexen Inc. Gulf Canada and Anderson Exploration were recently taken over by US firms.
Firms making acquisitions paid significant premiums over trading values for their deals.
The average value of a takeover in the first half was $233.7 million, almost double the $123.4 million average recorded in the first half of 2000. The average figure in the first half of 1999, by comparison, was a relatively minuscule $29.7 million. In the first half of 2001, US firms accounted for 54% of the Canadian M&A market, with spending of $11.4 billion, including $7.2 billion for purchases of companies, rather than asset transactions.
Major deals that increased the M&A total in the first half included the Conoco Inc. purchase of Gulf Canada for $6.9 billion, Anadarko Petroleum Corp.'s acquisition of Berkley Petroleum Corp. for $1.2 billion, and Calpine Corp.'s purchase of Encal Energy Ltd. for $1.4 billion. The Gulf-Conoco deal in June was the largest dollar value takeover of an exploration and production company recorded in the Canadian oil industry.
RITs, a popular investment vehicle, accounted for $5.7 billion in Canadian M&A activity in first half 2001. Deals included the merger of Canadian Oil Sands Trust with Athabasca Oil Sands Trust worth $1.97 billion and a merger of Enerplus Resources Fund with EnerMark Income Fund, also worth about $1.97 billion. Fourteen other deals involving RITs had a combined dollar value of $1.8 billion.
Sayer Securities says the median acquisition price for 2001 rose to $10.53/boe (with gas converted to oil on a 10:1 ratio) from $6.44/boe in the first half of 2000. The median price for gas in first half 2001 increased 91% over first half 2000, while the median price for oil increased only 34%.
A sharp decline in gas prices helped produce a hiatus in M&A activity in Canada over the summer. That hiatus ended abruptly in September with the $7 billion cash and stock takeover of Anderson Exploration by Devon Energy of Oklahoma City. Devon offered $40/share to make the deal, a 51% premium over the previous closing price, to acquire Anderson, whose assets include the largest land position in the Mackenzie Delta. Devon initially moved into western Canada 3 years ago with the takeover of Northstar Energy Ltd. The acquisition makes it Canada's third-largest oil and gas producer, behind PanCanadian Petroleum and Canadian Natural Resources. Devon will have Canadian production of more than 1 bcfd of gas and 85,000 b/d of oil.
Sayer Securities Pres. Frank Sayer says he had not analyzed the Anderson-Devon deal in depth yet, but says it represents a conundrum in the M&A market. He says lower M&A prices have been expected because of a decline in gas prices.
"Maybe it's just a one-off deal and Devon is buying for strategic reasons for too high a price. One transaction does not make a trend," Sayer said.
However, Sayer says he can seen no reason why the trend would not continue for the most attractive Canadian independents to be takeover targets.
"I would say, why wouldn't they? I can't see any reason why they won't keep disappearing," he said.
However, Sayer notes there have been cycles before where US firms went on an acquisition spree in Canada, gradually lost interest in the properties, and sold them back to Canadian companies.
Gas outlook
Bill Gwozd, gas services manager for Ziff Energy Group, Calgary, says the long-term outlook for natural gas demand is strong, and companies making acquisitions are looking toward future demand in North America reaching 31.5 tcf/year.
"I would suggest that they are looking at the longer-term strategic position," he said. "Where are gas prices going to be 2, 3, and 5 years from now?"
"Companies bought land at sales in the Fort Liard region [of the Northwest Territories] in the mid-1990s when the price of gas was under $2[/MMbtu]. Firms venturing that far north had to think that gas prices would be adequate and [they] had to have a long-term vision. So it is the same thing today, and producers have to have a long-term vision."
Gwozd says future gas supply will come from both conventional and frontier areas, and the Gulf-Conoco and Anderson-Devon deals put the US buyers where they want to be: in the Mackenzie Delta.
The Ziff executive said that, for many producers, the gas reserves life index is now less than 10 years, and companies are positioning themselves for the future.
Independents' views
Senior executives of large Canadian independents generally agree that any company can become a takeover target, but they contend their focus is on growth by being highly competitive global players.
Gwyn Morgan, CEO of Alberta Energy Co. (AEC), Canada's largest gas producer, says the best way to ensure continued independence of Canadian companies is for them to be highly competitive. AEC recently acquired two companies and substantial gas assets in the US Rockies for $1.5 billion. Morgan is also critical of current federal tax policies, which he says discriminate against the Canadian oil companies.
"The best way to avoid them [independents] becoming branch office operations is to perform at a world-class level and to establish Canadian policies that put us on a level playing field," Morgan says.
"We need fair taxation and equal access to capital. That means policies that encourage investors to buy our stock. What we can't afford are discriminatory policies that make it better to be headquartered in Houston."
CAPP's M&A view
Greg Stringham, vice-president of the Canadian Association of Petroleum Producers, says the association will not speculate on potential takeover targets.
Stringham says it is not the first time US firms have bought into the Canadian oil sector, and he noted that Canadian independents have also made acquisitions, such as Canadian Natural Resources Ltd.'s purchase of Amoco Canada Ltd. assets.
Stringham notes that, in the late 1970s, before deregulation, about 74% of Canadian production was under foreign control. He says that figure has gone down significantly and is now about 45%. He adds that Canada retains legislative control over its resources, and the oil sector remains viable and substantial with more than 500 large and small firms in operation.
Issues
The CAPP executive said that other issues facing companies are land access and native rights in some areas, the need to streamline and clarify regulatory structures so that companies can obtain timely approvals for drilling projects, and changes now in the works for financial disclosure requirements.
Stringham says that the British Columbia government is working now to resolve land access problems, such as the situation developing in the Ladyfern region of northeastern British Columbia, location of a major gas play. CAPP says Ottawa must also become involved for a lasting solution.
Native groups in the region have blockaded roads and halted oil and gas activity by several companies, including Petro-Canada and Anadarko Petroleum Corp. The First Nations say they want to be consulted on development by government and industry and want their treaty and aboriginal rights protected. There are similar issues that must be resolved involving aboriginal groups in the Canadian Arctic, where plans are under way for additional exploration and pipeline development.
Another issue for Canadian independents is the discussion of new disclosure requirements for reserves and related information proposed by an oil and gas task force of the Alberta Securities Commission.
The task force's proposals include new professional standards for reservoir engineering reports and a broad overhaul of disclosure rules that have been in place for 20 years. The proposals could have a significant impact on reporting of items such as reserve volumes and discounted cash flow.
The recommendations, which are now under detailed review by the ASC, will be submitted to other Canadian securities agencies, and then will be made available for comment before legislation is passed. ASC wants the new rules in place by 2002-03.