Exxon Puts Some Gas in the Tanks

Jim Brown
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In a surprise move Exxon announced the acquisition of XTO Energy for $31 billion in stock and $10 billion in debt assumption. This is the largest acquisition for the company since the $81 billion merger of Exxon and Mobil in 1999. It is also the biggest oil and gas deal in the last four years. The key point here is that XTO is primarily a natural gas company and Exxon saw the need for additional gas reserves and production in the coming years.

(XTO) has quietly become the nations second largest natural gas producer by acquiring and developing plays all over the U.S. including large shale leases. The acquisition of XTO adds 45 trillion cubic feet (TCF) of proven reserves to its inventory.

Natural gas had fallen to as little as $2.50 per mcf in September but has rebounded despite record amounts of gas in storage (3.7 tcf) and very little draw from that storage in recent weeks. The rise in prices has been due to curtailment by large producers and recent news reports about rapid production declines in new shale wells. Some noted analysts predict that the amount of gas produced from shale wells could be 50% less than originally expected due to abnormally high depletion rates.

The Exxon acquisition of XTO is a major bet on the future of natural gas in the USA. This is a bet on new gas fired power plants, gas vehicles and a decline in the acceptance of coal as a electric generation fuel.

I am surprised that more gas producing companies have not been snapped up when the gas prices were so low because most were leveraged to the hilt and the low gas prices made them susceptible to takeovers but the actual deals have been very few. Evidently the low gas prices scared the acquirers as well. With Exxon making this purchase it should give other bidders confidence of future gas pricing and this could trigger a wave of consolidation. Gas prices rose to $14 per mcf in 2008.

Recently (BP), Statoil (STO)and ENI have bought several billion dollars of shale gas assets in Pennsylvania, Oklahoma, Texas and Arkansas.

Since many of the small companies had been so overleveraged they had acquired massive acreages but with the drop in gas prices they had no money to develop them. BP, Statoil and ENI have been capitalizing on this and picking the bones of these starving companies.

David Rockecharlie, co-head of the energy investment banking group at the Jefferies Group, who was a lead adviser to XTO in its negotiations with Exxon, estimated that it would take more than $1 trillion to develop domestic shale fields. That is an amount that independent producers cannot finance alone.

Range Resources, (RRC) a possible takeover target with gas assets in Texas, said "There are other majors looking at these shale plays. It would not surprise me at all to see these shale assets being bought by the major oil companies."

Exxon has several major gas plays and recently signed deals to deliver $37 billion in Australian gas to Asia and develop a $15 billion project in Papua New Guinea to deliver gas to Japan and China.

XTO recently reported a 23% jump in production to 2.33 bcf per day. Only Chesapeake (CHK) is a larger U.S. producer. It is also twice as much gas as Exxon produces today. XTO has also been applying the technological experience it gained in the U.S. shale area to shale properties in Poland, Hungary and Argentine. XTO is not just a U.S. producer.

Exxon CEO Rex Tillerson, said on the conference call that Exxon expects gas demand to grow faster than coal or oil over the coming years and all of XTO's reserves would be viable in filling that demand. The Dept of Energy is not that bullish. The DOE expects only a modest rise to 25 TCF in demand by 2035 compared to 23 TCF today. The DOE also expects prices to rise to only about $7 by 2020.

Personally I would bet with Exxon rather than on the DOE estimates.

Spurring the demand will be the rapidly rising costs of coal-fired plants if the climate debate continues and restrictions are added. The Cap and Tax bill being considered now could double utility rates over the next five years with coal generation bearing the biggest financial burden.

Jim Brown