Brigham Takeover Deal Has Some Uncertainties, But Profit Potential

Oct.19.11 | About: Statoil ASA (STO)

Norwegian energy giant Statoil (NYSE:STO) announced on Monday that it will be purchasing Brigham Exploration Company (BEXP) in an all cash deal. The value of the announced acquisition was $36.50 per share of Brigham or approximately $4.4 billion. This price represents a 36% premium over the average trading price of Brigham stock during the 30 day period prior to the deal’s announcement but it is 3.6% lower than Brigham’s 52-week high. Brigham’s board of directors has unanimously recommended that shareholders accept the deal.

Discussion of this acquisition has been lighting up the financial blogosphere since the deal was announced. Brigham shareholders seem to be mixed in their support of the buyout. Some shareholders support it while others oppose, generally for one of two reasons:

  1. There was no open auction for Brigham. Other potential acquirers than may have been willing to pay more than Statoil never got the chance to bid.
  2. Statoil’s $4.4 billion offer substantially undervalues Brigham.

Statoil shareholders, on the other hand, have very little to dislike about this deal. Statoil has been working very aggressively in recent years to expand their production base outside of Norway. The acquisition of Brigham Exploration serves to further this goal. Brigham is based in Austin, Texas but has strong positions in the Bakken and Three Forks unconventional oil plays in the Williston Basin in North Dakota and Montana. While Brigham does have other assets, Statoil CEO Helge Lund made it quite clear that the biggest reason for acquiring Brigham is to acquire the Bakken and Three Forks assets, stating,

“The U.S. unconventional plays hold a substantial resource base and represent an increasingly important part of future energy supplies. Statoil has step by step developed industrial capabilities through early entrance into Marcellus and Eagle Ford. Entering the Bakken and Three Forks tight oil plays and taking on operatorship represents a new significant step for Statoil. We are positioning ourselves as a leading player in the fast growing U.S. onshore oil and gas industry, in line with the strategic direction we have set out.”

The deal assigns an enterprise value of $4.7 billion to Brigham. According to Yahoo Finance, Brigham has a TTM EBITDA of $191.97 million. Thus, Statoil is paying 22.9x trailing EBITDA. Brigham has an incredible growth rate, so looking at trailing earnings can give a misleading impression of the value of this deal. According to Yahoo Finance, Statoil is paying 16.01x forward earnings for Brigham. Zacks Investment Research projects earnings for Brigham differently and using their estimates reveals that Statoil is paying 26.64x 2011 projected earnings but only 15.47x 2012 projected earnings. Both sites agree that Statoil is getting a good deal. Yahoo Finance says that Brigham has a PEG ratio of 0.53 at a stock price of $36.50 while Zacks gives it a PEG ratio of 0.76 at the same price. As any value investor could tell you, a PEG ratio under 1.0 indicates that a stock is cheap relative to future growth. So, Statoil looks to be getting an excellent deal here from a valuation perspective.

Brigham currently has more than 375,000 net acres in the Williston Basin which holds the potential for production in the Bakken and Three Forks formations. At the current deal value of $4.4 billion, Statoil is paying $11,733 per acre. That price, however, completely ignores Brigham’s interests in 40,000 net acres in other areas as well as all of the company’s other assets. The risked resource base is 300 million to 500 million barrels of equivalent equity, which would have Statoil paying between $8.80 and $14.67 per barrel of oil equivalent. Current equity production from the acreage is 21,000 boe per day. The acreage has the potential to ramp up to between 60,000 and 100,000 boe equivalent equity production per day over the next five years. Assuming an $85 per barrel price for oil, this would immediately increase Statoil’s revenues by $651.5 million annually before the production ramps up. If this acreage begins producing 100,000 boe per day, that would generate $3.1 billion in annual revenues for Statoil at $85 per barrel. Unconventional oil such as what is found in the Bakken does cost more to produce than more conventional sources but the profits that Statoil stands to make from Brigham’s land in the Williston Basin alone more than justifies the $4.4 billion price tag. Once again, this would also assume that Brigham has absolutely no valuable assets other than this land in the Williston Basin. This is most certainly not the case and when Brigham’s other assets are included in this analysis then the deal looks even better for Statoil.

As I mentioned earlier, Brigham shareholders are not united in their support for this deal. In fact, a quick glance at the company’s stock page on Yahoo Finance shows at least four law firms (and likely more by the time that this article is published) that are investigating Brigham’s board of directors for violations of security laws and breaches of fiduciary duty with the way that the sale of the company was conducted. There is certainly a strong chance here that Statoil is underpaying for Brigham and so there is a very high probability that the shareholders would have gotten a higher price for their company if it had been shopped around more. It is too early to say which way these legal challenges will ultimately go, however.

The cash tender offer was expected to commence within ten business days with shareholders then having twenty business days to tender their shares. The legal challenges to this deal may delay this takeover process though or possibly even void the merger agreement. Also, if less than the majority of shares are tendered, for example if enough shareholders oppose the deal, then this may prevent the merger from going forward. There are a few ways that investors could play upon this uncertainty.

  1. If you believe that the merger will fail to be completed, then short BEXP. While the company looks to be undervalued at present levels, its stock will likely fall on news of the deal’s failure. Close the short after the sell off on the news and then take a long position in Brigham at value prices.
  2. If you believe that the merger will be consummated as announced then you may want to take a long position in Statoil. While it is unlikely that the stock will post enormous gains from the successful completion of the acquisition, Statoil will still ultimately benefit. Another way to profit if you believe that the deal will close successfully is to buy BEXP at any price below $36.50 per share and short it at any price above $36.50. This would generate an easy profit off of the cash tender.

Disclosure: I am long STO.