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Further doubts over Shell/BG deal

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Screen Shot 2015-12-23 at 09.03.45…the deal doesn’t make financial sense unless Brent crude is sustained at around $60 a barrel.

By Mark Robinson: 29 December 2015

Midway through December, Chinese anti-trust regulators granted unconditional clearance to the proposed £47bn merger between BG Group

(BG.) Royal Dutch Shell (RDSB). The decision effectively removed the final regulatory hurdle, although the deal is still subject to shareholder approval at meetings that are expected to be convened on 27 and 28 January 2016, respectively.

With anti-trust strictures no longer an issue, you would imagine that final approval would amount to a formality, but some industry analysts have questioned whether the terms of the offer still represent fair value in light of reduced assumptions on energy prices through 2016. Spot prices for Brent crude are down by a third since the proposal was announced back in April, so it’s perhaps understandable that there are gathering reservations about the deal.

It has emerged that Capital Group, a large institutional holder in BG, offloaded a £100m stake in the energy group subsequent to the latest regulatory approval. Los Angeles-based Capital Group also reportedly increased its existing stake in Shell; a possible indication that it expects the deal to founder, as Shell’s market valuation has pulled back markedly following announcement of the merger. The reports would seem to add ballast to recent warnings from Standard Life Investments, another major shareholder in both groups, that the deal doesn’t make financial sense unless Brent crude is sustained at around $60 a barrel.

A month prior to the Capital Group divestment, doubts emerged over whether shareholder support for the proposed merger was wavering, following news that the Qatar Investment Authority (QIA) had offloaded shares in Shell and BG worth nearly £1bn in aggregate. Though the sovereign wealth fund subsequently said that the sales were part of a re-balancing of its investment portfolio, they have obviously made some BG shareholders rather jittery as the final act looms into view.

The merger deal attracted criticism on the valuation front right from the off, particularly as it was struck at a significant premium during a buyers’ market. At the time we said that it would provide “significant cost synergies across the combined entity” and that the “primary strategic aim of the move is to place Shell at the apex of the global market for liquefied natural gas”. Our view hasn’t changed, but near-term anxieties over the oil price now dominate the narrative.

IC VIEW:
With an industry pretty much at full tilt, surplus production is now running at around 2m barrels a day (bopd), yet annual global demand is increasing at 1.4-1.8m bopd – equilibrium in oil markets is much nearer than we might imagine. This is a long-term strategic play, so near-term anxieties over the oil price, while understandable, are divorced from the rationale.

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