By Harvey George, Ilya Korzinkin (LSE) 04/10/2018 |
Overview of the deal
Acquirer: Marathon Petroleum Inc.
Advisors: Goldman Sachs Co.
Target: Andeavor Corporation
Advisors: Barclays Plc
Estimated transaction value: $23.3bn
Announcement date: April 2018
On the back of rising Oil prices squeezing global refiners’ profit margins, as well as a looming change in fuel preferences towards low-sulphur products (IMO 2020), the need for diversification for global refiners is paramount. This merger aims to not only consolidate two companies’ asset portfolios ahead of anticipated market trends, but to also capitalise on a wide variety of synergies that could make the combined entity an undisputed market leader in the US refinery industry.
Marathon Petroleum has purchased all outstanding shares of Andeavor, in a transaction that has been unanimously approved by the boards of both companies at a valuation of $23.3bn. Andeavor shareholders will have the option to choose 1.87 shares of Marathon stock or $152.27 in cash subject to a proration mechanism that will result in 15% of Andeavor’s fully diluted shares receiving cash consideration. When the integration is complete, Marathon and Andeavor shareholders will own about 66% and 34% of the combined company, respectively. The NewCo will operate under the Marathon Petroleum name, and will have a combined 26% market share with 17 refineries across the US. The NewCo’s closest competitor will be Valero Energy who own only 13. The transaction is expected to yield $1bn in cost-saving efficiency gains.
“Marathon’s gambit feels like a milestone in the remaking of the country’s place in the global oil market. It would cement a distinct gap between a “big three” and a set of smaller, more regional independent refiners. Just being bigger isn’t necessarily better, obviously. Marathon will have to prove its optionality has actual value” -Bloomberg
Company details (Marathon Petroleum)
Marathon Petroleum core business is refining, marketing, retailing and transporting petroleum in the US. The firm was spun-off from Marathon Oil in 2011 and it currently owns 6 refineries across the US.
- Incorporated in 2009, Headquartered in Findlay, Ohio, US
- President and CEO: Gary Heminger
- Number of employees: 43,000
- Market Cap: $37.7bn - EV: $52.4bn
- LTM Revenue: $75.4bn - LTM EBITDAX: $6.1bn
- LTM EV/Revenue: 0.7x - LTM EV/EBITDAX: 8.5x
Company details (Andeavor)
Andeavor (formerly Tesoro Corp. until 2017) is a petroleum refining, logistics and marketing company, operating across the United States. The company owns 11 refineries located in Western regions of the United States.
- Founded in 1968, Headquartered in San Antonio, Texas, US
- President and CEO: Gregory Goff
- Number of employees: 14,300
- Market Cap: $22.9bn - EV: $31.1bn
- LTM Revenue: $34.2bn - LTM EBITDAX: $2.9bn
- LTM EV/Revenue 0.9x: - LTM EV/EBITDAX: 10.7x
Projections and assumptions
After the merger is fully completed and finalised by mid- October 2018, the most immediate consequence will be that the NewCo will become the leading refiner and gas retailer in the US - in addition to ascending to one of the top 5 largest refiners, by barrels per day (bpd), in the world. Moreover, in the market for refiners in the US, where any rapid change is hard to come by, a competitor reaction in the short-run is not expected. Indeed the NewCo’s biggest rival, Valero, has not made an acquisition in 7 years. Further, because of the complex operations and supply-chain networks in the refinery business, any changes in rivals’ business models in response to this merger will take reasonably long to implement which will relieve a portion of any short-term strategy pressure on the NewCo.
Andeavor’s assets in the Permian Basin will also be transferred to the NewCo, and as the epicenter of US oil extraction these are crucial assets for ensuring top and bottom line growth. The merger will also positively impact the convenience store aspect of the business, adding approximately 1000 of Andeavor’s stores to Marathon’s 2740 across the country, creating future value for the rumored spin-off of Marathon’s retail division. As evidenced before by Valero this can be a profitable strategy - when Marathon’s rival spun-off its retail business it streamlined operations and greatly reducing costs. Also, to prepare for the conversion to low-sulphur shipping fuels in 2020, the NewCo would be well positioned for increased Capex for new filtering equipment because of a stronger combined Balance Sheet and Cash Flows.
With Andeavor’s assets situated in the West of the US, and Marathon’s in the East, the merger will create a geographically diverse portfolio, strengthening the NewCo’s operating segments, as well as top-line expectations due to greater exposure to different export markets.
Since there is market overlap between the two companies only in Texas, large cuts in staff or spin-off of assets are not expected, although management does expect substantial cost improvements. This will most likely occurring in the logistics division of the NewCo which will be integrated into one combined entity to eliminate duplicate positions, and other corporate restructuring that will improve economies of scale. Another contributing factor is that Andeavor’s controlling 25% stake in the West Texas GreyOak pipeline would give Marathon’s refineries in the area cheaper access to oil, reducing associated transport costs. Indeed, according to the board, the integration will generate $1 billion of tangible run-rate synergies within the first 3 years.
One of the more important long-term consequences will be the increased ability to export to Mexico, where recent reforms have opened the country up for foreign petroleum importers and imports have surged five-fold in the last 10 years. With Andeavor being the first U.S. refiner to be approved to use Pemex’s pipelines and storage (partly government-owned), and Marathon being the largest supplier of fuels to the East Coast of Mexico, the NewCo would have unparalleled opportunities to profit from Mexico’s domestic fuel shortage and the robust Mexican economic growth expected in the next few years.
Risks and uncertainties
The greatest risk to the NewCo’s success is derived from the geopolitical stage, namely the escalating US-China trade tensions. China is projected to be a crucial source of top-line growth for the NewCo, Chinese imports of US oil were expected to double over the next 6 years, and Marathon was well positioned to capitalise on growing Asian demand by securing access to Andeavor’s West Coast terminals. With trade tensions and additional uncertainty in the regulatory space, fuel exports from the US to Chinese, whilst still projected to increase, face new hurdles and thus look less certain than before.
Another concern arises from Mexico, where sanctions and tariffs imposed by Washington have prompted the Mexican government to retaliate against a number of US products. While fuel has been exempt for now - partly because of the ongoing Mexican fuel shortage - it nonetheless adds to the uncertainties of trade between the two countries. Moreover we cannot rule out the threat of hindering the co-operative business mentality between the nation’s corporate counterparts.
As in most transactions, a minor uncertainty is whether the NewCo will be able to create the anticipated value and deliver on their cost saving projections; however given the evident financial, geographical and cost synergies, the combined entity’s extreme underperformance is unlikely. With Andeavor’s top executives joining Marathon’s board, shareholders can have further trust in management’s experience and expertise for integrating the two entities.
Brad Heffern, an analyst at RBC Capital Markets, raised some concerns about the acquisition, saying: “The synergy timeline is relatively long at three years, the deal is being done at peak refining bullishness . . . and [Marathon] is using a currency that we have seen as chronically undervalued to acquire one that we see as more fairly valued.”
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