Australia | May 23 2016
-Values InterOil around US$2.2bn
-Sign of confidence in Elk/Antelope field
-Risk that OSH valuation increases
By Eva Brocklehurst
Oil Search ((OSH)) has made a play for InterOil ((IOC)), amid plans to simplify the joint venture structure underpinning the Papua LNG project and strengthen the potential for synergies and collaboration with PNG LNG.
The intention is to on-sell a 60% stake in the acquired assets to Total, which will mean Oil Search's stake in Papua LNG (Elk/Antelope) increases to 29%, consistent with its stake in PNG LNG. Oil Search has offered 8.05 shares for every InterOil share, valuing the stock at US$40.75 a share and representing an enterprise value consideration of US$2.2bn.
As an alternative to scrip, InterOil shareholders can opt for a cash component of up to US$770m. If the cash component comes below this figure Oil Search will use the remainder to buy back shares. This enables the company to minimise the number of its shares issued under the deal and, therefore, dilution to existing shareholders.
The issue of a contingent value right (CVR) also means InterOil shareholders will receive an additional US$6.05/share for every Tcfe of gas certified above 6.2 Tcfe, with Total to contribute 60% of the cost of the CVR. InterOil shareholders will end up owning around 21% of the combined entity. The acquisition is subject to 66.7% of InterOil shareholders approving the deal and regulatory approval.
Deutsche Bank finds merit in the transaction, with the streamlined structure expected to accelerate development. The partial sell-down to Total also is appealing as it ensures Oil Search can better manage its increased funding requirement for the development.
The transaction's metrics represent a 30-50% premium to the company's purchase of a 18% stake in 2014 in the Elk/Antelope field but the broker believes this is a sign of confidence in the de-risking of higher resource outcomes after recent appraisal drilling. Hence, Deutsche Bank likes the exposure to one of the lowest-cost LNG development opportunities globally and retains a Buy rating.
Oil Search has indicated it will seek to bring forward co-operation with PNG LNG, suggesting that equity is available in Elk/Antelope for other parties and that this is an important factor in any collaboration. This indicates to Deutsche Bank that Oil Search and Total may offer equity to PNG LNG's Exxon Mobil as an incentive to secure a combined development.
Ord Minnett likes the plan, as the measures should strengthen Oil Search's balance sheet and add value as the project de-risks. The main risk is that the contribution of Papua LNG to the company's overall valuation has increased, even though the project is not expected to reach a final investment decision until 2018.
The risks lie, too, in a number of uncertainties ahead for the project, including plant size, capital expenditure and timing. The broker observes the deal will result in a cash inflow to Oil Search of US$560-840m.
It is strategically sensible as it removes a minority shareholder in Papua LNG, with considerable upside should this project be developed with PNG LNG, something Oil Search has flagged in the past.
Ord Minnett does not completely dismiss the likelihood of Exxon Mobil or another rival proposing a higher bid but considers the risk is low. Given a 27% premium to the current share price the broker also expects InterOil shareholders to accept the offer. The broker likes Oil Search's low-cost assets, growth profile and longer-term corporate appeal, retaining an Accumulate rating.
UBS also believes upside is possible from the deal if cost synergies can be achieved between PNG LNG and Papua LNG but retains a Sell rating on Oil Search.
FNArena's database has a consensus target of $7.32, suggesting 9.6% upside to the last share price. There are three Buy ratings, two Hold and one Sell. Morgan Stanley and Macquarie are advising in the transaction and provide no rating or target at this juncture.
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