October 28, 2023 – In the mid-19th century, there was a growing demand for sources of energy as the U.S. was experiencing rapid industrialization. Whale oil was commonly used for lighting, however, it was becoming scarcer and more expensive. The search for alternative sources of oil became increasingly important.
In 1859, near Titusville, Pennsylvania, a former railroad conductor and entrepreneur named Edwin L. Drake was hired by a group of investors to find a practical way to extract oil from the ground. Up to this point, oil was collected from seeps and springs in the region, but there was no systematic method for drilling and extracting it.
That fateful year, Drake and his team started drilling a well using a steam engine to power the drilling rig. Progress was slow, and many people were skeptical of the venture. By the fall, they had reached a depth of about 69.5 feet when they encountered oil-saturated sandstone. They had been using a percussion drilling technique that involved repeatedly dropping a heavy iron bit into the well to break through the rock layers. On the morning of August 27th, 1859, they decided to take a break from drilling. When they returned to the well the next day, they found oil visible on top of the water 5 inches from the top of the well. Drake and his team had struck black gold for the first time.
While Drake’s well produced as much as 20 barrels of oil per day, it was never profitable. However, its discovery led to the birth of a new industry. The oil produced from Edwin Drake’s well, which was refined into kerosene initially used for lighting, not only revolutionized the way people lit their homes and powered machinery but also kicked off the start of the modern oil industry.
In modern-day capital markets, oil is discovered in the ground and also on the stock market. Mergers and acquisitions present a reliable approach for an oil company to readily increase its production and reserves.
This month, dealmakers in the oil patch hit a gusher.
October was the busiest month for mergers and acquisitions in at least the past five years, with $155 billion of publicly-listed mergers announced in North America.
The boom in deal-making activity has been in the oil and gas sector. Specifically, there were two oil megadeals announced in October.
On October 11th, Exxon Mobil announced the friendly acquisition of Pioneer Natural Resources in an all-stock transaction worth $64.5 billion. From a strategic perspective, the deal will help Exxon more than double its footprint in the prolific Permian shale oil play. After the deal closes, Exxon Mobil’s Permian production volume will more than double to 1.3 million barrels of oil equivalent per day (MOEBD), representing more than 10% of all U.S. oil production, and is expected to increase to approximately 2 MOEBD in 2027. (Disclosure: the Accelerate Arbitrage Fund (TSX: ARB) is long Pioneer stock and short Exxon stock).
Oil tycoons are a competitive lot. Not to be outdone, fellow supermajor Chevron announced a megadeal of its own just twelve days later. On October 23rd, Chevron announced the friendly acquisition of Hess for $60 billion. Similar to the Pioneer / Exxon deal, it was an all-stock merger.
In contrast to the rest of the merger market, oil mergers have had far lower takeover premiums. For example, out of the 74 U.S. M&A transactions currently outstanding, the average takeover premium is 40.1%. The control premium paid for Pioneer was 17.8%, while the premium paid for Hess was just 4.9%. Perhaps a relic of the brutal energy bear market from 2014 to 2021, energy sector acquirors are extremely disciplined and highly sensitive to overpaying.
These recent two oil mega-mergers are amongst the largest in history. The only comparable deal in recent memory is Occidental’s $57 billion acquisition of Anadarko in 2019. It is safe to say the age of oil & gas consolidation has arrived. Now that the industry’s two largest and most influential players have commenced a deal boom, look for M&A activity across the sector to increase markedly.
In addition to the two aforementioned oil mergers, M&A activity has been robust this month. In the U.S., 20 new transactions were announced worth nearly $153 billion. Notably, a quarter of these deals were private equity buyouts. In addition, Canada saw a flurry of deals announced during the month, with 6 deals struck worth an aggregate of $3.6 billion. Private equity firms are finding many opportunities up north, with five of the six announced acquisitions in Canada having a financial sponsor as a buyer.
Fifteen deals worth nearly $120 billion closed during the month, with two particularly large acquisitions finally consummating – Microsoft’s $69 billion merger with Activision Blizzard and Amgen’s $28 billion acquisition of Horizon Therapeutics. Conversely, two deals were terminated in October, including Ellington Financial’s proposed $172 million all-stock merger with Great Ajax and Flowserve’s proposed $329 million acquisition of Velan. While small-cap mergers, representing deals below $2 billion, historically have a lower failure rate than large-cap transactions, this dynamic has not played out recently. A couple of large-cap, high-profile deals that faced much regulatory consternation closed successfully, while two under-the-radar small-cap deals were terminated, exemplifying the risk in risk arbitrage.
In any event, current arbitrage spreads adequately compensate investors for the risks, with high-quality transactions yielding 6-8% and the average merger arbitrage opportunity yielding nearly 14%. The total North American merger arbitrage opportunity set stands at an aggregate of $475 billion across 84 deals.
Despite the recent market swoon, with the S&P 500 entering correction territory and bond indexes suffering their third consecutive down year, the merger market remains as active as ever. Deal activity remains very robust, and opportunities abound for enterprising investors.
The AlphaRank.com Merger Monitor below represents Accelerate’s proprietary analytics database on all announced liquid U.S. mergers. The AlphaRank Merger Arbitrage Effective Yield represents the average annualized returns of all outstanding merger arbitrage spreads and is typically viewed as an alternative to fixed income yield.
Each individual merger is assigned a risk rating:
- AA – a merger arbitrage rated ‘AA’ has the highest rating assigned by AlphaRank. The merger has the highest probability of closing.
- A – a merger arbitrage rated ‘A’ differs from the highest-rated mergers only by a small degree. The merger has a very high probability of closing.
- BBB – a merger arbitrage rated ‘BBB’ is of investment grade and has a high probability of closing.
- BB – a merger arbitrage rated ‘BB’ is somewhat speculative in nature and has a greater than 90% probability of closing.
- B – a merger arbitrage rated ‘B’ is speculative in nature and has a greater than 85% probability of closing.
- CCC – a merger arbitrage rated ‘CCC’ is very speculative in nature. The merger is subject to certain conditions that may not be satisfied.
- NR – a merger-rated NR is trading either at a premium to the implied consideration or a discount to the unaffected price.
The AlphaRank merger analytics database is utilized in running the Accelerate Arbitrage Fund (TSX: ARB), which may have positions in some of the securities mentioned.
* AlphaRank is exclusively produced by Accelerate Financial Technologies Inc. (“Accelerate”). Visit Alpharank.com for more information. Disclaimer: This research does not constitute investment, legal or tax advice. Data provided in this research should not be viewed as a recommendation or solicitation of an offer to buy or sell any securities or investment strategies. The information in this research is based on current market conditions and may fluctuate and change in the future. No representation or warranty, expressed or implied, is made on behalf of Accelerate as to the accuracy or completeness of the information contained herein. Accelerate does not accept any liability for any direct, indirect or consequential loss or damage suffered by any person as a result of relying on all or any part of this research and any liability is expressly disclaimed. Accelerate may have positions in securities mentioned. Past performance is not indicative of future results.
