Catalyst on the Horizon?
Christopher is a member of The Motley Fool Blog Network -- entries represent the personal opinion of the blogger and are not formally edited.
As of October 28, shareholders of Nexen (NYSE: NXY) anxiously await the Canadian government's decision as to whether to allow the Chinese National Oil Company (NYSE: CEO) to complete its takeover of Nexen at $27.50 (U.S.) per share. This government approval will be the catalyst to unlock the approximate $3.60 in capital gains that awaits the brave holder of Nexen shares in the interim.
For some background, CNOOC announced its bid on July 23. The stock is currently trading at $23.90 as of market close on October 31. This represents a spread of 15.26%. The Canadian government is scheduled to approve or disapprove the takeover by November 11, a decision which centers around whether the takeover is of "net benefit" to Canada. If the deal goes through as scheduled, this trading opportunity could produce a nice capital gain in a short period of time. The risk of the deal being rejected produces the price spread. That risk is very real, hence the $3.60 capital gain spread. Those unwilling to bear disapproval by the Canadian government should not buy Nexen shares at this time.
Nexen, in its last quarterly statement confirmed that it expects the deal to close by year-end. This may be a signal that one further thirty-day extension will be sought by the Canadian government, and that the final decision may not be announced until December, not November 11.
That being said, the daring speculator/investor can earn a $3.60 U.S. dollar per share premium if the deal closes. The price paid will be $27.50 U.S. per share, in cash. Currently, Scotia Capital, one of Canada's top brokerage firms is placing a 65%-70% chance on the deal being approved. The current Nexen stock price is factoring in a 50% chance. The deal could also be allowed by the Canadian government with certain conditions attached.
This type of trade where one depends on a binary catalyst may be speculating to some, gambling to others.
In my opinion, the Canadian government will have a hard time turning the deal down in as much as Nexen was seen as a laggard in the oil and gas world; in need of substantial capital to continue its global exploration operations in oil sands, Gulf of Mexico, and the North Sea. Further, CNOOC has promised to keep Nexen's management/employees in place; keep the Nexen headquarters in Calgary, Alberta, Canada, and list CNOOC shares on the Toronto Stock Exchange. In addition, the Canadian government risks alienating foreign investors and governments if it is perceived as being hostile to said foreign interests and indifferent to the massive amount of capital that is available and needed for investment in the Canadian oil and gas world.
The recent history of Nexen, once BP Canada, is important to know before you decide to invest. In July, Nexen, a Canadian large cap upstream exploration company with a market cap of 12.5 billion, had been struggling operationally. Production was declining. It share price was $15.66 CDN on July 12, after reaching a high in the mid-thirties in 2008. This all despite listings on the New York and Toronto Stock Exchanges, a modest dividend yield of ~ 1%, and diversified production from Canada (oil/gas/oil sands, 7% of Syncrude partnership), U.S. (Gulf of Mexico deep water), United Kingdom (North Sea), and Africa (off-shore, deep water). Nexen's Canadian oil/gas reserves alone are said to be in the range of 900 million barrels.
The relationship between Nexen and CNOOC began in 2010. CNOOC entered into two partnerships with Nexen. One centered on blocks/wells in the Gulf of Mexico, the other took place when CNOOC bought the interests of Nexen's minority partner in the Long Lake oil sands complex in Canada. The takeover bid followed in 2012.
In my opinion, the long-term downside risk to the deal being rejected is not substantial. Thus, the speculator/investor can also look at the merits of this trade by examining the net asset value of Nexen.
By some analysis, Nexen's NAV is no less than the $27.50 per share that CNOOC is offering, and maybe higher. This however, does not discount the very real risk of owning Nexen at this time. That risk is that if the takeover is disallowed the stock price will surely drop..... by as much as an estimated $3 per share. No near-term catalyst would be on the horizon at that point. Even so, Nexen traded at $22 a share in March, before the takeover. If CNOOC is unsuccessful, it can be reasonably assumed that a new suitor could emerge or that Nexen management would undertake efforts with Godspeed to unlock shareholder value, i.e. selling or spinning off different parts of the company.
Thus, for the forgoing reasons, the current purchase of Nexen shares at $23.90, may present an opportunity, but the catalyst of Canadian government approval stands in the way of the investor making the approximate $3.60 of capital gain presented.
ulysessjr is long NEXEN.. The Motley Fool has no positions in the stocks mentioned above. 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.If you have questions about this post or the Fool’s blog network, click here for information.