A Large Buy Isn't a Foregone Conclusion for Shell

LONDON, Jul 19, 2005 (Dow Jones Commodities News via Comtex)

Royal Dutch/Shell Group (RD, SC) may consider buying natural gas companies after it unifies into a single company this week, but it may be better off pursuing internal growth or partnerships, analysts and bankers said.

The Anglo-Dutch oil and gas major Wednesday will end a century-old dual structure when it starts trading as Royal Dutch Shell PLC, a single stock.

Two separate companies own the group until the unification. Royal Dutch Petroleum Co. owns 60% of the group and Shell Transport & Trading Co. owns 40%.

The group has made it clear having a single stock would enable it to acquire companies or assets in exchange for shares. But it has also said that high valuations linked to strong oil prices make any large acquisition too expensive at the moment.

Many analysts have argued, however, that Shell will need to swallow another large company specializing in exploration and production to replenish its dwindling oil and gas reserves.

Shell could also leverage "a momentum on its shares as mutual funds move on the stock before the unification," said Tai-Mey Lim, head of relative value research at Societe Generale.

Shell's shares have gained 14% in the second quarter this year compared to 5% for BP PLC (BP), after having lost ground last year when Shell acknowledged it had materially overestimated its energy reserves.

"If it has a very robust outlook and expects high commodity prices in the long term, then it would make sense to make large acquisitions," said a banker familiar with the company. In such a scenario, the acquisitions would become profitable in two to three years, he said.

Another banker close to the company said Shell's management had approached financial institutions to raise cash via a share or debt issue, for possibly between EUR4 billion and EUR5 billion.

Though the company wouldn't need the money after having posted an $18.5 billion net profit for last year, it may want to retain a solid balance sheet in case it makes a large acquisition, the banker said. Shell declined to comment.

The company has been mulling the acquisition of mid-size companies. For instance, it looked into the data room of $3.6 billion Canadian gas explorer First Calgary Petroleums Ltd. (FCP.T) but decided against buying it, people familiar with the matter have said.

Royal Dutch/Shell has expressed interest in the privatization of Turkish Petroleum Refineries Corp., or Tupras (TUPRS.IS), the Turkish government said. Tupras is a refiner with exploration ambitions in the Middle East.

Analysts have also mentioned independent oil companies Talisman Energy Inc. (TLM) and Anadarko Petroleum Corp. (APC) and natural gas companies BG PLC (BRG) and Williams Cos. (WMB) as potential takeover targets.

On Monday, a Russian press report said Shell could launch a joint bid for Russia's OAO Sibneft (SIBN.RS) along with OAO Gazprom (GSPBEX.RS). Shell has already signed a preliminary deal with Gazprom to swap a stake in the Sakhalin II gas project for a share in a massive gas field.

Recently, Oppenheimer analyst Fadel Gheit also speculated that Shell could join the $18.5 billion takeover battle for Unocal Corp. (UCL), along with current bidders Cnooc Ltd. (CEO) and Chevron Corp. (CVX).

Organic Growth Seen Healthier

Bankers and analysts said the ideal target, if any, would be in the natural gas sector, especially with a strong U.S. presence, to beef up what has become Shell's key growth area.

U.S. benchmark Henry Hub gas prices rose 12.5% to $6.74 per million British thermal units in the second quarter, compared to the previous year, according to average industry prices released by BP.

Acquiring BG - seen as a prime target by many analysts - "would inject life in the business, but (Shell would) have to be very careful to preserve" BG's dynamic culture, said Jonathan Copus, an analyst at Investec Henderson Crosthwaite.

BG also is expensive, with a market value of GBP16.2 billion ($28.5 billion), Copus added.

Shell is "underexposed to U.S. gas" compared to BP PLC (BP), Chevron Corp. (CVX) or Exxon Mobil Corp. (XOM), said Wood Mackenzie analyst Tom Ellacott.

Encana Corp. (ECA) would be an attractive target, as its portfolio is centered on unconventional gas, which has a strong upside potential, Ellacott said.

A Shell spokeswoman declined to comment on any potential acquisition targets, saying it was market speculation. But she said Shell has made a priority of its expansion in the gas sector.

Analysts and bankers, however, said Shell's track record in large acquisitions is so far unproven.

Unlike BP, which bought Amoco in 1998 and Atlantic Richfield Co. in 2000, Shell has only acquired one exploration and production company in 10 years - the U.K.'s Enterprise Oil.

That transaction "doesn't seem to have a been a great success," said Antoine Leurent, an analyst with KBC PeelHunt.

In recent years, Shell made two unsuccessful bids on other producers, Barrett Resources of the U.S. - where Williams placed the highest bid - and Woodside Petroleum Ltd. (WPL.AU) of Australia.

The Australian government barred the attempt to take over Woodside in 2000, arguing it was protecting national interests.

An additional difficulty, Leurent said, is that the new Royal Dutch/Shell management, though untainted by previous failures, "lacks experience."

On the other hand, Shell's portfolio is "fundamentally sound," with more diverse exploration assets and a production profile only marginally less favorable than its rivals, Wood Mackenzie's Ellacott said.

Shell's capital-spending plans are still viable at a mid-term $25 per barrel, while a mid-term $30 to $40 price is factored in most companies' valuations, Ellacott said.

Investec's Copus said Shell has indicated it "sees a more creative way to use cash than buy in the $60 oil price environment." He cited its liquefied natural gas project signed with Libya and the asset swap signed with Gazprom.

But Shell's $10 billion overrun in the Sakhalin growth project it operates demonstrates the fine line companies walk in determining whether to grow through acquisitions or internal projects and partnerships.

Copyright (c) 2005 Dow Jones & Company, Inc.