Conoco on Monday announced a $9.7 billion all-stock takeover of Concho Resources (CXO), a fracker squarely focused on the Permian Basin, the massive West Texas oilfield at the heart of the shale revolution.
The companies said the deal will make the new Conoco (COP) the largest independent oil-and-gas company in the United States, with daily production surpassing 1.5 million barrels. (Diversified oil companies like ExxonMobil and Chevron (CVX) pump more oil.) But it will also make Conoco even more exposed to the same forces that have swiftly moved against fossil fuels.
"It is a bit of a contrarian move to double down on oil and gas at a time when it's unpopular in the investment community," said Pavel Molchanov, energy analyst at Raymond James.
The industry could also become unpopular in Washington depending on what happens in next month's election. If Democrats sweep the White House and Congress, new regulations targeting fossil fuels could be on the way.
Democratic nominee Joe Biden has proposed banning new oil and gas permitting on public lands and waters. Biden has also laid out a $1.7 trillion climate plan focused on clean energy and set a goal of net-zero emissions by no later than 2050.
'Cheap' price tag. But cheap enough?
Beyond the climate crisis, the oil industry is still reeling from two massive oil crashes in just the past six years. The latest, set off by the pandemic and an epic price war between Russia and Saudi Arabia, caused crude to briefly crash below zero this spring. The health crisis made 107,000 oil and gas jobs disappear.
"Many investors are turned off by the commodity volatility, regardless of what they think about climate," said Molchanov.
That's why Conoco didn't have to spend that much in this deal, which is its first major takeover since 2005. The all-stock transaction translates to a slim 15% premium to Concho's share price on October 13, the day before rumors of a takeover swirled on Wall Street.
Concho is being acquired at just $10,700 per acre in the Permian Basin -- well shy of the $40,000 it used to cost to buy land in the shale oilfield, according to Raymond James.
"These are cheap valuations. The bet Conoco is making is that valuations will eventually improve -- and this is the time to be a buyer," said Molchanov.
Both companies have lost more than 40% of their value in 2020. Like the rest of the sector, Conoco and Concho have been slammed by weak oil prices, frustration with the industry's history of losing money and the rise of socially conscious investing amid the climate crisis.
Doubling down on the Permian Basin
Yet the deal may not require a massive oil price recovery to be viewed as a success.
The companies said their average cost of supply will be below $30 a barrel, compared with current prices around $40. Concho and Conoco also expect to generate $500 million of annual cost and capital savings by 2022.
"Together, ConocoPhillips and Concho will have unmatched scale and quality across the important value drivers in our business: an enviable low cost of supply asset base, a strong balance sheet, a disciplined capital allocation approach, ESG excellence and great people," Conoco CEO Ryan Lance said in a statement.
And it's no coincidence Conoco is focusing on the Permian Basin, the shale hotbed that made the United States the world's largest oil producer. Concho is viewed as one of the best Permian operators and brings along a large amount of expertise on the region.
"Through a multitude of acquisitions the company (Concho) has been able to piece together one of the best footprints in the region," Ben Shattuck, director at consulting company WoodMackenzie wrote in a report Monday.
Europe is moving the opposite direction
The broader challenge to the deal is the climate crisis.
The mood is so glum in the oil industry that European oil majors are pivoting away from oil and gas in favor of renewables and low-carbon solutions.
BP (BP) revealed plans in August to slash its oil production by 40% and pour billions of dollars into clean energy as it attempts to deliver net-zero emission by 2050. The UK company also warned that world demand for oil may have peaked last year. The moves could make BP more appealing to ESG investors, at least compared with US oil companies.
The rise of ESG and heightened awareness of the climate crisis have contributed to historically weak valuations in the oil industry. Many investors would simply rather bet on Tesla and companies viewed as the solution. ExxonMobil (XOM), once the world's most valuable company, was recently surpassed in market capitalization by wind and solar company NextEra Energy (NEE).
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