Suppose that you were working as an equity analyst in 2005 and were assigned the task of valuing the proposed acquisition, which is described in the following press release:
18 © 2010 Betty Simkins, Williams Companies Professor of Business and Professor of Finance, Oklahoma State University. All Rights Reserved. Reprinted with permission.
Houston, Texas (December 12, 2005)—ConocoPhillips (NYSE: COP) and Burlington Resources Inc. (NYSE: BR) announced today they have signed a definitive agreement under which ConocoPhillips will acquire Burlington Resources in a transaction valued at $33.9 billion. The transaction, upon approval by Burlington Resources shareholders, will provide ConocoPhillips with extensive, high-quality natural gas exploration and production assets, primarily located in North America. The Burlington Resources portfolio provides a strong complement to ConocoPhillips’ global portfolio of integrated exploration, production, refining, and energy transportation operations, thereby positioning the combined company for future growth.
In his letter to ConocoPhillips shareholders contained in the company’s 2005 annual report, CEO Jim Mulva described the rationale for the proposed Burlington acquisition as follows:
Burlington’s near-term production profile is robust and growing, plus Burlington possesses an extensive inventory of prospects and significant land positions in the most promising basins in North America, primarily onshore. With this access to high-quality, long-life reserves, the acquisition enhances our production growth from both conventional and unconventional gas resources.
Specifically, our portfolio will be bolstered by opportunities to enhance production and gain operating synergies in the San Juan Basin of the United States and by an expanded presence and better utilization of our assets in Western Canada. In addition to growth possibilities, these assets also provide significant cash generation potential well into the future.
Beyond adding to production and reserves, Burlington also brings well-recognized technical expertise that, together with ConocoPhillips’ existing upstream capabilities, will create a superior organization to capitalize on the expanded asset base. We do not anticipate that the $33.9 billion acquisition will require asset sales within either ConocoPhillips or Burlington, nor should it change our organic growth plans for the company. We expect to achieve synergies and pretax cost savings of approximately $375 million annually, after the operations of the two companies are fully integrated.
We anticipate immediate and future cash generation from this transaction that will aid in the rapid reduction of debt incurred for the acquisition and go toward the redeployment of cash into strategic areas of growth. Burlington shareholders will vote on the proposed transaction at a meeting on March 30, 2006.
Exhibit P8-13.1 Income Statement and Balance Sheet Values ($ Thousands)
|XTO Energy||Chesapeake Energy||Devon Energy||Apache||Burlington Resources|
|Income statement ($000)|
|Cost of revenue||436,998||204,821||1,535,000||946,639||1,040,000|
|Selling, general, and administrative||165,092||896,290||1,616,000||173,194||215,000|
|Depreciation, depleletion, and amortization||414,341||615,822||2,334,000||1,270,683||1,137,000|
|Operating income or loss||919,290||992,335||3,704,000||2,779,568||2,586,000|
|Income from continuing operations|
|Total other income/expenses (net)||—||20,081||64,000||857||—|
|Earnings before interest and taxes||919,281||972,254||3,768,000||2,780,425||2,586,000|
|Income before tax||825,620||804,926||3,293,000||2,663,083||2,304,000|
|Income tax expense||317,738||289,771||1,107,000||993,012||777,000|
|Net income from continuing operations||507,882||515,155||2,186,000||1,670,071||1,527,000|
|Effect of accounting changes||—||—||—||1,317||—|
|Preferred stock and other adjustments||—||—||10,000||5,680||—|
|Net income applicable to common shares||$ 507,882||$ 515,155||$2,176,000||1,663,074||$1,527,000|
|Balance sheet ($000)|
|Cash and cash equivalents||9,700||6,896||1,152,000||111,093||217,900|
|Other current assets||47,716||—||143,000||57,771||158,000|
|Total current assets||436,965||567,540||3,583,000||1,348,782||3,455,000|
|Property, plant, and equipment||5,624,378||7,444,384||19,346,000||13,860,359||1,103,300|
|Deferred long-term asset charges||—||—||—||104,087||—|
|Short/current long-term debt||75,534||91,414||1,378,000||21,273||2,000|
|Other current liabilities||259||—||—||103,487||41,500|
|Total current liabilities||500,966||963,953||3,100,000||1,282,891||1,599,000|
|Deferred long-term liability charges||756,369||933,873||4,800,000||2,372,481||2,396,000|
However, at an analysts’ meeting, CEO Mulva hinted that the price ConocoPhillips paid for Burlington might be viewed as high by some:
Your task is to answer the following basic question: “Is Burlington Resources worth the $35.6 billion offered by ConocoPhillips?” Although you are new to the exploration and production (E&P) industry, you have quickly learned that the method of multiples, or market-based comparables, and specifically the ratio of enterprise value (EV) to EBITDAX are typically used as benchmarks to value E&P companies. In this context, EBITDAX stands for “earnings before interest, taxes, depreciation and amortization, and exploration expenses.” EBITDAX differs from EBITDA in that it adds back exploration expenses in addition to depreciation and amortization—hence the term EBITDAX.
for Burlington Resources and each of the comparable firms.
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