Shell's Interesting Approach To BP

Todd Shriber
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Mergers and acquisitions rumors can be a lot like cats: They have multiple lives. Such is the case with rumors regarding a marriage of Royal Dutch Shell and BP, Europe's two largest oil companies. Speculation on a merger between Shell and BP dates back to at least 2004 and talks were quite advanced back then. Former BP CEO Sir John Browne would later say his company ''missed the boat'' on that opportunity.

The scuttlebutt emerged again in 2007, but again, no deal was ever reached. A couple of years later, another former BP CEO, Tony Hayward actually spoke out against the idea of combining with Shell, but Hayward is long gone. To the surprise of no one that even casually follows the oil business, Shell was mentioned as a possible suitor for BP in the days and weeks following the Gulf of Mexico oil spill when it looked like a sale might be the only option for BP (BP) salvation.

Fast-forward a few months and the rumor is again gaining steam and this time there are some interesting pieces to the puzzle. Shortly before the holidays, BP shares had a nice intraday pop and that was attributed to the Shell (RDS-A) rumor. Sources were not identified, but credible press agencies picked up the story.

Now the rumor is really taking off thanks to a report in the Daily Mail that ran on Monday. The report says that Shell was in fact interested in BP following the Gulf spill and still is. Of course all of this is attributed to unidentified sources so make of it what you will.

Here is where things get interesting. As the Daily Paints the picture, Shell was on red alert in the days following the spill, ready to make a counteroffer for BP should Exxon Mobil or Chevron (CVX) have struck first. While Shell was not willing to move first on BP because of the unknown liabilities, the Anglo-Dutch company certainly did not want BP falling into American hands.

Exxon (XOM), at least as far as we known, never made a pass at BP and Chevron would be a stretch to begin with. Adding to the intrigue is the fact that Shell still does not want to act first for BP. The Mail basically says Shell would be fine with an auction process (read: bidding war). This is an odd and potentially expensive strategy.

In the darkest days following the spill, all of BP could have probably been had for $200 billion or (a lot) less. Now, the company's market cap is back up to almost $145 billion. The average premium paid in energy M&A in 2010 was around 22% or 23%, so assume that someone makes a move on BP with a 25% premium tomorrow. That would run the price over $180 billion, but with oil prices rising and BP still in possession of some desirable assets, the bidding would probably start higher than that and Shell would have to come in offering several billion above the first offer. Now we're getting close to or over $200 billion.

All of this price speculation is just that: Speculation. Still, it is hard to understand why Shell would want to get into a bidding war for BP when it could have had its rival without much challenge in June or July and at a far lower price tag. Paying an extra $20-$30 billion or more now for BP means that much less cash in the coffers for share repurchases, dividends and exploration projects. And if Shell has to pay north of $60 a share for BP, then the company is being borderline reckless.