Shareholders of copper giant Freeport-McMoRan (NYSE:FCX) had been waiting a while for the company to "do something," and they certainly got their wish on Wednesday, though almost certainly not in the fashion they were expecting. While many analysts and investors had been looking for Freeport-McMoRan to announce a big move with its capital, either a sizable buyback/special dividend or further diversification in mining, almost nobody expected the big move into energy that the company announced Wednesday morning.

Not only does the sheer size of the transactions make this a risky move for Freeport-McMoRan, but so too do the details. In buying Plains Exploration & Production (NYSE:PXP) and McMoRan Exploration (NYSE:MMR), Freeport is buying two companies that are not exactly non-controversial assets in their own right. Consequently, this looks like a pretty high-risk/high-reward transaction for this copper mining giant.

Guide To Oil And Gas Plays: We've got your comprehensive guide to oil and gas shales in North America.

A Giant Two-for-One
Freeport-McMoRan announced that it had reached agreements to acquire both Plains Exploration and McMoRan Exploration. Perhaps not surprisingly, these deals feature a complicated mix of cash, equity and a new royalty trust.

For Plains Exploration, Freeport is offering $50 per share, a 39% premium to the prior day's close. Half of the offer will come from cash ($25 per share), with the rest coming from equity (91 million shares of FCX, or 0.6531 shares per PXP share). As I understand the release, Plains Exploration shareholders will have a choice in receiving cash or equity, but there will be collars on the cash and equity amounts and proration if necessary. When including Plains Exploration's debt ((including that taken on to fund the acquisition of assets from BP (NYSE:BP)), the deal enterprise value appears to be close to $19 billion.

The deal for McMoRan is more complicated. Plains Exploration already owned more than 31% of McMoRan, and Freeport owned a small stake as well. Consequently, the net value of this deal is more on the order of $2.4 billion, with Freeport offering $14.75 per McMoRan share in cash. Complicating the deal, Freeport will be establishing a royalty trust that will earn a 5% royalty interest on McMoRan's future production, and McMoRan shareholders will get 1.15 units of that trust for each share.

A Big Swing at the Fence
Freeport certainly did not ease themselves into the shallow end of the energy market with these deals. That said, energy is not completely unfamiliar to the company. As the spelling may suggest, McMoRan Exploration was once part of Freeport McMoRan (spun off in 1994).

Plains Exploration is an interesting asset. While the company overpaid for its Haynesville assets ((through a venture with Chesapeake Energy (NYSE:CHK)), the company's overall finding and development and per-Mcf energy cash operating costs are pretty competitive. What's more, the company's Eagle Ford and California assets look good, and though the company again appeared to overpay in buying assets from BP, there is potential for long-term development there.

For whatever controversy there may be on Plains Exploration, it's practically a savings bond compared to McMoRan. McMoRan is attempting some very ambitious ultra-deepwater projects in the Gulf of Mexico, drilling to depths of over 30,000 feet. So far, though, it hasn't worked well - the company has had huge execution issues with its Davy Jones #1 project, so much so that some have claimed the stock is/was basically worthless. On the flip side, bulls believe that there is huge resource potential in McMoRan's development blocks and that once the initial kinks are worked out, these will prove to be very lucrative oil and gas reservoirs.

In any case, Freeport is certainly not getting these assets at a deep bargain. Adding up the proved reserves of Plains Exploration and McMoRan, and including the recently-acquired BP assets, it looks like Freeport is paying around $38 per barrel of oil equivalent (for resources about 55 to 58% weighted towards oil). That's certainly not the most expensive deal seen of late, but it's not a bargain (Halcon recently paid about $35 per barrel for resources with significant growth potential).

The Bottom Line
If McMoRan can deliver the goods on its ultra-deepwater projects, this could be a major win for Freeport. As it is, it will make energy about one-quarter of company EBITDA and it gives the company more exposure to the friendlier (or at least more predictable) rules and regulations of North America. What's more, it's worth noting that risk-taking is in Freeport's DNA - there were plenty of skeptics regarding Freeport's odds of finding and developing real copper resources in Indonesia, and the Grasberg project has been phenomenally successful.

I've gotten very close to pulling the trigger on Freeport-McMoRan many times over the past year, as I did believe that the company's shares were too cheap provided that China's commodity-buying binge still has legs (once its economy recovers). With this deal, and the premiums involved, though, I can't say I'm as enamored with Freeport. While I'd probably reexamine the shares if they continued to slide post-announcement, I'd rather buy miners that stick to mining and energy producers that stick to energy.

At the time of writing, Stephen D. Simpson did not own any shares in any company mentioned in this article.

Related Articles
  1. Savings

    Easy Ways to Go Green and Stay Budget Friendly

    Social entrepreneurs recruit "skeptics" to team green, by providing economically efficient products and services that minimize consumers' carbon footprint.
  2. Investing

    Top Investment Banks In The Energy Industry

    Many global Investment banks are highly involved in the energy industry, but there are also some smaller banks and boutiques that are strong players.
  3. Stock Analysis

    3 Stocks that Are Top Bets for Retirement

    These three stocks are resilient, fundamentally sound and also pay generous dividends.
  4. Investing News

    Are Stocks Cheap Now? Nope. And Here's Why

    Are stocks cheap right now? Be wary of those who are telling you what you want to hear. Here's why.
  5. Investing News

    4 Value Stocks Worth Your Immediate Attention

    Here are four stocks that offer good value and will likely outperform the majority of stocks throughout the broader market over the next several years.
  6. Investing News

    These 3 High-Quality Stocks Are Dividend Royalty

    Here are three resilient, dividend-paying companies that may mitigate some worry in an uncertain investing environment.
  7. Stock Analysis

    An Auto Stock Alternative to Ford and GM

    If you're not sure where Ford and General Motors are going, you might want to look at this auto investment option instead.
  8. Stock Analysis

    The 6 Biggest Russian Energy Companies

    Learn about the top energy companies in Russia, a country that holds some of the largest reserves of oil, natural gas and coal in the world.
  9. Mutual Funds & ETFs

    The 4 Best Buy-and-Hold ETFs

    Explore detailed analyses of the top buy-and-hold exchange traded funds, and learn about their characteristics, statistics and suitability.
  10. Stock Analysis

    The Biggest Oil Producers in Asia

    Learn which Asian countries deliver the most crude oil to market, and discover what companies are the biggest producers in each country.
  1. How do dividends affect retained earnings?

    When a company issues a cash dividend to its shareholders, the retained earnings listed on the balance sheet are reduced ... Read Full Answer >>
  2. What is the difference between called-up share capital and paid-up share capital?

    The difference between called-up share capital and paid-up share capital is investors have already paid in full for paid-up ... Read Full Answer >>
  3. Why would a corporation issue convertible bonds?

    A convertible bond represents a hybrid security that has bond and equity features; this type of bond allows the conversion ... Read Full Answer >>
  4. How does additional paid in capital affect retained earnings?

    Both additional paid-in capital and retained earnings are entries under the shareholders' equity section of a company's balance ... Read Full Answer >>
  5. What types of capital are not considered share capital?

    The money a business uses to fund operations or growth is called capital, and there are a number of capital sources available. ... Read Full Answer >>
  6. What is the difference between issued share capital and subscribed share capital?

    The difference between subscribed share capital and issued share capital is the former relates to the amount of stock for ... Read Full Answer >>

You May Also Like

Trading Center
You are using adblocking software

Want access to all of Investopedia? Add us to your “whitelist”
so you'll never miss a feature!