Mcmoran Exploration Returns to its Roots

Dr. Osman is a member of The Motley Fool Blog Network -- entries represent the personal opinion of the blogger and are not formally edited.

Shareholders of oil and gas producer McMoRan Exploration (NYSE: MMR) got an early holiday present when their shares vaulted from $8.36 on Dec. 4 to $15.82 on Dec. 5, almost doubling in price.

The good news was an announcement the company’s one-time parent, copper mining giant Freeport-McMoRan Copper & Gold (NYSE: FCX), that it intends to acquire Mcmoran, along with another mid-cap oil and gas company, Plains Exploration & Production (NYSE: PXP).  The deal is somewhat complex, with Freeport paying about $6.4 billion in cash and stock for Plains Exploration and an additional $2.1 billion in cash to buy out the 64% interest in McMoRan that Freeport-McMoRan does not currently own. 

Should the deal go through, the new Freeport-McMoRan would emerge as a diversified natural resources company.  Both McMoRan and Plains will benefit from an infusion of much needed capital to fund their exploration projects.

Future Prospects

Freeport’s surprising move was met with skepticism from the investment community at large as the stock faced a massive sell-off from investors and analysts piled on with downgrades.  Lawyers soon followed with investigations and possible class action shareholder lawsuits.  A large part of the controversy stems from the fact Freeport-McMoRan and McMoRan share the same chairman of their respective boards, geologist James Moffet.

Despite the negative reaction to the move from Freeport investors and analysts, the deal is seen as positive for McMoRan.  In the days following the announcement, the target price for McMoRan share was raised by several firms, from $10 to $15.50 at RBC Capital and to $18 at Susquehanna.

McMoRan vs. the Rest

McMoRan is primarily an oil and gas explorer with minimal production.  As such, there are limitations to comparing McMoRan with mid-cap peers that are already producing assets.  There are still relevant measures to consider and the following table looks at some key performance metrics for McMoRan and two other mid-cap oil and gas explorers, Plains Exploration & Production (NYSE: PXP), and W & T Offshore (NYSE: WTI).

<table> <tbody> <tr> <td> <p><strong> </strong></p> <p><strong> </strong></p> <p><strong>Indicator</strong></p> </td> <td> <p><strong>McMoRan Exploration</strong></p> </td> <td> <p><strong>Plains Exploration & Production</strong></p> </td> <td> <p><strong>W&T </strong></p> <p><strong>Offshore</strong></p> </td> </tr> <tr> <td> <p><strong>Market Cap</strong></p> </td> <td> <p>$2.5 bil</p> </td> <td> <p>$5.8 bil</p> </td> <td> <p>$1.3 bil</p> </td> </tr> <tr> <td> <p><strong>Trailing P/E</strong></p> </td> <td> <p>-</p> </td> <td> <p>33.4</p> </td> <td> <p>12.6</p> </td> </tr> <tr> <td> <p><strong>Forward P/E</strong></p> </td> <td> <p>-</p> </td> <td> <p>11.2</p> </td> <td> <p>15.6</p> </td> </tr> <tr> <td> <p><strong>Price/Book</strong></p> </td> <td> <p>2.8</p> </td> <td> <p>1.8</p> </td> <td> <p>2.1</p> </td> </tr> <tr> <td> <p><strong>Debt/Equity</strong></p> </td> <td> <p>0.6</p> </td> <td> <p>1.4</p> </td> <td> <p>1.22</p> </td> </tr> <tr> <td> <p><strong>Return on Equity</strong></p> </td> <td> <p>-12.5%</p> </td> <td> <p>6.3%</p> </td> <td> <p>17.8%</p> </td> </tr> <tr> <td> <p><strong>Total Debt (MRQ)</strong></p> </td> <td> <p>$557.12 mil</p> </td> <td> <p>$4.52 bil</p> </td> <td> <p>$719 mil</p> </td> </tr> <tr> <td> <p><strong>Total Cash (MRQ)</strong></p> </td> <td> <p>$191.93 mil</p> </td> <td> <p>$736.39 mil</p> </td> <td> <p>$2.99 mil</p> </td> </tr> </tbody> </table>

W&T Offshore shows a significantly higher Return on Equity than the others do, and McMoRan investors have not fared very well.  The important numbers to look at in capital-intensive industries like oil and gas exploration and production are debt and cash on hand. Companies can burn through cash at alarming rates while awaiting the big find that leads to production and revenue.  None of these companies has a strong balance sheet, and therefore the cash burn rate is a real concern.

Foolish Summary

It is somewhat puzzling that one of the concerns expressed by analysts about this move was the lack of similarities between mining exploration and production and oil and gas exploration and production.  However, if you think of oil, gas, copper, and gold as natural resources to be extracted from the earth at a profit, what is wrong with that forward-looking expansion?  Are the critics forgetting the strategy in play at the world’s largest diversified miner, BHP Billiton ADR (NYSE: BHP)? They have already expanded into oil and gas assets in the US.  So why shouldn’t Freeport do the same by acquiring McMoRan Exploration?

ecofinstat has no positions in the stocks mentioned above. The Motley Fool owns shares of Freeport-McMoRan Copper & Gold. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy. Is this post wrong? Click here. Think you can do better? Join us and write your own!

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