In a significant move that has shaken the foundations of the American energy sector, two of the nation’s oil and gas titans, ExxonMobil and Chevron, have recently embarked on monumental acquisition endeavors, totaling nearly $120 billionThe whirlwind began in early October when ExxonMobil announced its decision to acquire Pioneer Natural Resources for approximately $59.5 billionWhen accounting for debt, the deal's total value escalates to about $64.5 billion, marking it as one of the largest mergers in the U.Supstream energy sector in several decadesThis was followed by Chevron's announcement in late October of its intent to purchase Hess CorporationAnalysts predict that these acquisitions will be finalized in the first half of 2024, potentially signaling the dawn of a new wave of mergers and acquisitions within the American energy industry.
What sets these acquisitions apart is their exclusive all-stock nature, eschewing any cash transactions
This highly strategic approach mitigates the potential adverse impact of fluctuating oil prices on both the acquiring and target firmsThe primary objective of both acquisitions appears to focus on augmenting production capabilities and enhancing cash flow, a necessity in the competitive and volatile energy market.
However, the reactions from investors in the secondary market have been mixedThere are concerns among certain investors that these acquisitions may dilute the interests of existing shareholdersIn response to these sentiments, Chevron has pledged to counteract some of the dilution's effects by increasing its share buybacks and dividend yield in 2024. This statement by Chevron reflects a keen awareness of the intricate balance between corporate growth and shareholder value, especially amidst ongoing discussions about the companies’ future potential.
The structure of these deals has been lauded by industry experts
- Intel Plans to Spin Off Venture Capital Unit
- Global Markets Surge Overnight
- Will South Korea's Central Bank Continue Its Rate Cut Streak?
- Fixed Income Plus Strategies Attract Investor Attention
- The Decline of U.S. Treasury Bonds Eases
Pierre Breber, Chevron's Chief Financial Officer, remarked on the reasoning behind the all-stock transactionsHe elaborated that utilizing cash could jeopardize the companies' ability to secure stable deals, given the unpredictable nature of oil pricing fluctuationsBreber emphasized that an all-stock deal attempts to create a mutually beneficial transaction structure, particularly in an era where oil prices can experience significant volatility.
According to the merger agreements, shareholders of Pioneer Natural Resources will exchange each share for 2.3234 shares of ExxonMobil, while Hess shareholders will receive 1.025 shares of Chevron for every share they holdThe competitive nature of these negotiations is illustrated by the premiums offered; ExxonMobil's acquisition price represented an 18% premium relative to Pioneer’s closing price on the day of the announcement, while Chevron's bid for Hess reflected a more modest 5% premium.
Remarkably, despite these premiums, valuation metrics reveal a stark contrast between the two companies being acquired
Recent data indicates that while Pioneer Natural Resources holds a price-to-earnings (P/E) ratio of 13, Hess commands an impressive P/E ratio of 30.95. This discrepancy in valuations raises questions about the strategic motives behind both acquisitions and the benefits each company's shareholders will derive post-merger.
Another noteworthy aspect of the Hess acquisition is the significant portion of its shares—10%—which is held by the CEO’s familyThis unique structure may influence shareholder acceptance of the all-stock deal, providing a compelling incentive for them to transition from a smaller company to a larger, financially robust player like ChevronThe allure of converting shares to a stronger stock with a higher dividend yield is another appealing factor for Hess's shareholders.
Industry observers are optimistic that these landmark transactions will trigger a broader wave of consolidation within the American energy landscape
The sentiment is that these major deals signify a strong belief among U.Senergy giants that oil and gas will continue to play a central role in global energy strategies for the foreseeable futureReports are surfacing of other energy players, such as Devon Energy, eyeing potential acquisitions in the industry, with Chesapeake Energy reportedly considering a purchase of Southwest Energy.
The focus of these acquisitions is twofold: increasing output and enhancing free cash flowThis emphasis is particularly critical as investors have increasingly expressed concerns about the declining production rates of some American oil wellsExxonMobil's acquisition of Pioneer is strategically aligned with the high-potential drilling operations found in the Permian Basin, America’s most productive oil-producing region, where Pioneer is indicated to hold substantial undeveloped oil fields.
ExxonMobil's CEO, Darren Woods, reinforced the strategic rationale behind the merger, stating that Pioneer is a clear leader in the Permian Basin, boasting a unique asset base and an extensive industry background
He predicted that the merger would yield value far exceeding what both companies could achieve independently.
Under the merger's terms, the combined entity is projected to achieve daily production of 2 million barrels in the Permian Basin by 2027. ExxonMobil also aspires to reach a global production target of 5 million barrels per day by 2027, which would represent about 5% of total global oil supplyAt present, the company produces around 3.7 million barrels per day, with expectations to escalate to 4.3 million barrels by the third quarter of next year.
Within Chevron's acquisition framework, the focus primarily rests on Hess's assets in GuyanaFrom both scale and production cost perspectives, the Guyanese oil fields are regarded as among the most promising in the worldUpon completion of the acquisition, Chevron will secure a 30% stake in the oil exploration projects located in Guyana—a project in which ExxonMobil is also heavily invested and serves as the leading operator.
Public records indicate that the Guyana oil fields harbor a staggering 11 billion barrels of oil and are ramping up development, currently producing over 300,000 barrels of oil equivalent daily
ExxonMobil has projected that by 2027, the Guyana project could achieve production levels of approximately 800,000 barrels per day.
Pierre Breber highlighted the long-term potential of the Guyana operations, asserting that they could sustain production well into the 2030sChevron is set to drill between 10 to 12 wells in the upcoming year as part of its commitment to expanding its exploratory activities in the regionThe company anticipates that the acquisition will notably boost both its output and free cash flow for five consecutive years.
Market analysts interpret these acquisitions as a strategic balancing act between growth potential and cash flowThe preference for acquiring existing production assets over increased exploration and development investment suggests a pronounced focus on immediate cash flow—a pivotal concern for companies operating in an epoch of uncertainty.
For instance, Chevron predicts that if international oil prices stabilize at $60 per barrel, its annual free cash flow is expected to rise by over 10%. The acquisitions also highlight an essential aspect of energy giants maintaining competitive advantages over smaller players, as the valuations of major firms tend to provide a premium over smaller drilling companies.
As of early November, data reveals that the median P/E ratio of the top 40 U.S
oil and gas companies stands at 8.5 times earnings, whereas ExxonMobil and Chevron report significantly higher ratios at 10.5 and 10.9, respectivelyAnalysts suggest that these valuation advantages empower ExxonMobil and Chevron to undertake such substantial acquisitions effectively.
Adding to the context, early in 2023, Chevron completed a previous acquisition of Colorado-based producer PDC Energy using an all-stock transaction as wellHowever, the all-stock acquisition method remains a point of contention among investorsSuch arrangements often necessitate the issuing of new shares, leading to potential dilution of existing shareholders' interestsConsequently, investor skepticism was evident, as reflected in the market's response; shares of both companies experienced declines following the announcement of the mergers.
The financial repercussions have not gone unnoticed by analysts, such as Truist's Neal Dingmann, who adjusted Chevron's target price downward post-announcement, citing dilution concerns for shareholders
Nevertheless, he acknowledged the remedial measures Chevron intends to implement, including an 8% increase in quarterly dividends and a buyback program aimed at offsetting some of the dilution effects.
In 2022, Chevron unveiled a significant $75 billion buyback plan, forecasting that over the next four to five years, approximately 25% of its shares would be repurchasedEarlier in 2023, the company increased its annual stock buyback target by 55% compared to the previous yearThis strategy is projected to ensure a total annual return of around 10% for investors, balancing the need for capital return with growth.
Despite these preparations and strong fundamentals, both energy giants have faced some headwindsAs of early November, Chevron's stock had dipped nearly 15% this year, while ExxonMobil recorded a modest 1.37% increase
Even renowned investor Warren Buffett reduced his position in Chevron during the second quarter, signaling a cautious sentiment in the market.
Analysts have pointed to disappointing third-quarter performance as part of the pressure on stock prices for both companiesFor example, Chevron reported an adjusted EPS of $3.05, marking a year-on-year decline of approximately 45% and falling short of market expectations by about 20%. This context led to a 6% drop in Chevron’s stock on the day of the earnings announcement, while ExxonMobil also saw a near 2% decline after announcing an adjusted EPS of $2.27—below the anticipated $2.37.
Challenging circumstances persist for these oil and gas titans, as Chevron operates several assets in politically unstable regions, and both companies have encountered weaker prices for natural gas post-acquisition of PDC Energy
Furthermore, international oil prices have similarly faced significant downward pressure compared to last year.
Nevertheless, many experts remain optimistic, believing oil prices could rebound toward the $100 markGoldman Sachs has projected that Brent crude stands to rise from around $85 per barrel to approximately $100 by June 2024. This perception of an impending price recovery indicates a growing belief that investing in the likes of ExxonMobil and Chevron could represent a sound strategy for those looking to capitalize on the longer-term trajectory of oil and gas prices.
In the context of long-term investment strategies, Allen Good, director of equity research at Morningstar, suggested that ExxonMobil and Chevron may be more attractive options for investors betting on a rise in energy prices