Linn Energy is a Buy After Berry's Acquisition

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Linn Energy (NASDAQ: LINE) has just announced that it will boost its oil reserves in several states in the US by acquiring Berry Petroleum (NYSE: BRY) for about $2.5 billion in stock, with a total deal value of $4.3 billion, including debt. Does the deal overvalue or undervalue Berry Petroleum? Is Linn a good buy after this deal?

Deal Structure

With a total deal value of $4.3 billion, Berry was valued at around $46.23 per share, based on LinnCo’s (NASDAQ: LNCO) closing price as of Feb. 20, 2013. LinnCo was established by Linn Energy for the sole purpose of raising money for acquisitions and owning Linn Energy units. Thus, it doesn’t have any operations. Barry shareholders would receive 1.25 shares of LinnCo for each common share of Berry prior to the merger. As it is a stock-for-stock merger, the deal is expected to be tax-free to the shareholders of Berry. When the merger is completed, LinnCo will transfer Berry’s asset to Linn Energy in exchange for Linn Energy units.

Linn Energy’s Snapshot

Linn Energy is an independent oil/gas company in several regions in the US, including the Mid-Continental, the Hugoton Basin, the Green River Basin and the Permian Basin. As of December 2012, Linn Energy had nearly 4.8 tcfe, or 800 million BOE, in total proved reserves. The majority of the proved reserves were natural gas, accounting for around 54% of the total proved reserves, while oil and natural gas liquids represented 24% and 22% of the total proved reserves, respectively. In 2012 it recorded more than $1.6 billion in revenue, but a loss of nearly $387 million in net income. The loss was due to $606 million in depreciation, depletion and amortization charges, and $422 million in long-lived asset impairment. The adjusted EBITDA came in at more than $1.4 billion in 2012. At the current share price of $37.70 per share, the total enterprise value is about $14 billion. Thus, the market is valuing Linn Energy at around 10 times EV/EBITDA.

Linn is A High Yielding Stock

Investors like Linn Energy for being a quite high yielding stock. In the past 10 years, Linn Energy has been paying consistently increasing distributions to shareholders. The forward annual dividend yield stays at around 8.1%. LinnCo is trading at $39 per share, with a total market cap of $1.36 billion. LinnCo is paying a forward annual dividend yield of 7.7%. After the deal, Linn Energy plans to grow its quarterly distribution by 6.2%, while LinnCo’s dividend is expected to increase by 8.5% to $3.08 per share, including the $0.18 per share increase in Linn Energy’s distributions. 

A Relatively Cheap Price

Berry Petroleum is an oil/gas company with around 275 MMBOE, of which around 70% was oil. In the past four years, Berry has been growing its cash flow per share consistently, from $4 in 2009 to nearly $10 in 2012. In 2012, Berry has focused its capital investment of $600 - $650 million in three main oil basins: Utah (25% of the total capital investment), California (33%) and the Permian (45%). Over the past 12 months, Berry generated around $508 million in EBITDA. Thus, the deal values Berry at around 7.4 times EV/EBITDA. As Linn Energy is currently trading at 10 times EV/EBITDA, a deal valuation of 7.4x Berry’s EV/EBITDA is relatively cheap. In addition, Berry’s acquisition would increase Linn Energy’s proved reserves by nearly 35%.

Foolish Bottom Line

Berry Petroleum seems to be quite a sweet deal for Linn Energy. After the deal, Linn Energy would have about 1.75 billion BOE in total proved reserves. Linn’s share price will be moving upwards in the coming months due to the increase in the proved reserves, increasing EBITDA, and increasing unit distributions.




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