It cannot really be said that the announcement of the acquisition of Petrohawk (NYSE:HK) Thursday night was a big surprise. Not only was this an attractive "mid-major" with productive and highly concentrated assets, but most analysts of note thought it was trading well below the fair value of its assets. Apparently BHP Billiton (NYSE:BHP) agreed, and had no problem opening its wallet and paying a premium for this natural gas-focused exploration and production company. (To learn more about mergers, check out The Merger - What To Do When Companies Converge.)
TUTORIAL: Merger and Acquisitions
The Terms of the Deal
BHP Billiton proposes to acquire Petrohawk for $38.75 per share in cash, a price that creates a total deal value of approximately $15 billion (including debt) and a 65% premium on the shares. Assuming that the deal goes through, and the $400 million break-up is high but not necessarily prohibitive, BHP will be paying something north of seven times the forward EBITDA for Petrohawk - more or less near the "standard" forward multiple for a company like this (albeit a premium to the current group average in the "5s").
Looking at the deal in a different way, BHP is paying about $4.10 per proved Mcf of natural gas (including those liquid assets converted to their natural gas equivalent) - roughly a 50% premium to many comps. With natural gas presently trading over $4.00 per Mcf (and contracts 18 months out over $5.00/Mcf), that does not seem like an unreasonable price.
What BHP Billiton Is Getting
Petrohawk was an attractive asset among U.S. onshore companies. The company has a relatively concentrated asset base, with pretty much all of its significant assets in Texas and Louisiana (an area rich in pipelines). Petrohawk's Haynessville and Eagle Ford assets have done well, and the company recently added assets in the Permian basis. Most of Petrohawk's Haynesville leases are held by production and the company's Black Hawk asset has produced some of the best returns of late in the onshore group.
This is not a deal without some risk for BHP, though. Petrohawk's reserve base is expensive to exploit, with average well costs in the vicinity of $10 million. This is also a reserve base that basically needs hydraulic fracturing to be viable and that procedure has become increasing controversial. If companies like Baker Hughes (NYSE:BHI), Superior Energy (NYSE:SPN), or Schlumberger (NYSE:SLB) are proscribed from fracking (also spelled "fraccing"), that could significantly change the realizable value from Petrohawk's assets, though the likelihood of Texas and Louisiana aggressively pursuing this legislation seems slim.
Still, it looks worth the risk for BHP. Petrohawk's 3.4 Tcfe in reserves should expand the company's resource base by about 30% (and help it consolidate its U.S. onshore assets), and judging by the conference call BHP management thinks there's quite a bit more gas and liquid to be found in Petrohawk's asset base. (To learn more about Takeovers, read Mergers And Acquisitions: Understanding Takeovers.)
With this deal in hand, it would not be surprising to see some of Petrohawk's direct comps in those production regions see higher trading prices. Companies active in Haynesville, Eagle Ford, and/or Permian would include Rosetta Resources (Nasdaq:ROSE), Swift Energy (NYSE:SFY), Pioneer Natural Resources (NYSE:PXD), EOG Resources (NYSE:EOG) and Carrizo Oil & Gas (Nasdaq:CRZO). Of course, it would be surprising to see other "pure plays" in attractive basins get some interest as well - companies like Range Resources (NYSE:RRC), Brigham Exploration (Nasdaq:BEXP) and Kodiak Oil & Gas (NYSE:KOG) could all see their respective discounts to NAV shrink with this reminder that there are buyers out there willing to pay well above stock market prices for valuable assets.
The Bottom Line
Natural gas is still something of a "buy it and they will come" trade, as many analysts and energy experts believe that prices will have to climb as high oil prices and environmental concerns about coal push this country to adopting natural gas in more applications. Nobody really knows when that will come, though, and natural gas is a highly volatile commodity.
Even with that volatility, investors should absolutely spend some time finding companies with high-quality asset bases and attractive valuations. There is no shortage of options out there, but that list of companies with attributes similar to Petrohawk is at least a good place to start. (For more on how these deals work, see What Makes An M&A Deal Work?)