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Aussie oil major stares down Harbour offer

Glenn Freeman  |  28 May 2018Text size  Decrease  Increase  |  
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The ill-fated Santos acquisition bid by Harbour Energy is a complicated ordeal featuring fractious boards and shareholders, a rapidly appreciating oil price and entrepreneurial pride.

Australia's second-largest oil and gas exploration and production company, Santos also has operations in Indonesia, Vietnam, and Papua New Guinea.

A deal has been in the offing since at least the third-quarter of 2017, when a $7 billion bid by Dubai and Brunei-backed company Scepter Partners was rejected. Now, the sixth and final offer from Harbour has been rejected, in a move that shocked many onlookers.

"Some may say it's a brave move, and a 10 per cent decline in the shares upon announcement suggests it might be more than just some. But we think Santos' CEO Kevin Gallagher may just be the man to prove them wrong," Morningstar equity analyst Mark Taylor wrote in his most recent report.

Before the offer's rejection, Taylor had left only a 40 per cent margin of doubt in the acquisition, having increased his Santos fair value estimate (FVE) to $6.70 from $6.15, on the combined strength of the offer and the reduced AUD/USD exchange rate. The final rebuff saw Morningstar's FVE revised back down to $6.30.

"Santos' rejection pointed to the highly leveraged nature of the bid structure and its not representing full value as key elements in its thinking.

"It was not willing to lend support to Harbour's debt raising, including hedging a significant portion of oil-linked production, that would have limited upside to rising oil prices. These are all valid points," Taylor says.

Other analysts have been considerably more negative. Citi urged investors to dump their shares at news of the breakdown in negotiations. Analysts from RBC and UBS see a downturn in Santos' share price.

Oil price movement

A belief it can bring forward by two years its $2 billion debt reduction target, if oil prices remain heightened, underpins the board's rejection.

Taylor doesn't expect Brent crude to remain at its current US$80 mark, with elevated prices encouraging further US shale gas production, which will in turn drive prices back down. "You will see some stabilisation eventually around our long-term US$60 a barrel forecast. That's the level we think is the sweet spot where the world gets enough oil supply but not too much," Taylor says.

Even at this level, he anticipates a 5 per cent five-year group level compound annual growth rate for Santos, with just a 20 per cent production increase. "Something suggests Santos may not be happy to sit on such a pedestrian path, however. There is considerably more expansion potential in the wings, not included in our FVE."

Santos shares were trading at $5.78 at time of publication.

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Glenn Freeman is senior editor at Morningstar Australia.

© 2018 Morningstar, Inc. All rights reserved. Neither Morningstar, its affiliates, nor the content providers guarantee the data or content contained herein to be accurate, complete or timely nor will they have any liability for its use or distribution. This information is to be used for personal, non-commercial purposes only. No reproduction is permitted without the prior written consent of Morningstar. Any general advice or 'class service' have been prepared by Morningstar Australasia Pty Ltd (ABN: 95 090 665 544, AFSL: 240892), or its Authorised Representatives, and/or Morningstar Research Ltd, subsidiaries of Morningstar, Inc, without reference to your objectives, financial situation or needs. Please refer to our Financial Services Guide (FSG) for more information at www.morningstar.com.au/s/fsg.pdf. Our publications, ratings and products should be viewed as an additional investment resource, not as your sole source of information. Past performance does not necessarily indicate a financial product's future performance. To obtain advice tailored to your situation, contact a licensed financial adviser. Some material is copyright and published under licence from ASX Operations Pty Ltd ACN 004 523 782 ("ASXO"). The article is current as at date of publication.

is senior editor for Morningstar Australia

© 2020 Morningstar, Inc. All rights reserved. Neither Morningstar, its affiliates, nor the content providers guarantee the data or content contained herein to be accurate, complete or timely nor will they have any liability for its use or distribution. This information is to be used for personal, non-commercial purposes only. No reproduction is permitted without the prior written consent of Morningstar. Any general advice or 'class service' have been prepared by Morningstar Australasia Pty Ltd (ABN: 95 090 665 544, AFSL: 240892), or its Authorised Representatives, and/or Morningstar Research Ltd, subsidiaries of Morningstar, Inc, without reference to your objectives, financial situation or needs. Please refer to our Financial Services Guide (FSG) for more information at www.morningstar.com.au/s/fsg.pdf. Our publications, ratings and products should be viewed as an additional investment resource, not as your sole source of information. Past performance does not necessarily indicate a financial product's future performance. To obtain advice tailored to your situation, contact a licensed financial adviser. Some material is copyright and published under licence from ASX Operations Pty Ltd ACN 004 523 782. The article is current as at date of publication.

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