"Canadian energy giants Suncor Energy (NYSE: SU) and PetroCanada (NYSE: PCZ) announced their intention to merge; Suncor, a holding in our 'Wildcatters Portfolio' will be the surviving entity," says Elliott Gue.
In his The Energy Strategist he explains, "The combined firm will be the fifth-largest energy company in North America and the largest in Canada." Here, he explains why the new stock remains a buy.
"The combined firm will have more financial flexibility than Suncor did on its own. Debt ratios will be healthier, and the combined firm will also be able to redirect certain planned capital expenditures to higher return potential projects.
"Based on comments made during its recent Q&A session, it seems that the combined firm won’t be using its enhanced financial flexibility to pursue more big deals.
"Management seemed far more focused on examining existing 'shovel-ready' investments at both firms and refocusing investment on the areas with the highest perspective returns on investment.
"One of the major justifications for the deal was that Suncor has been cutting its capital spending (CAPEX) intentions in the oil sands region due to low commodity prices.
"This deal will allow the combined firm to invest more effectively in oil sands expansion so it’s ready to benefit in the coming up-cycle.
"Suncor is almost totally focused on oil sands, while PetroCanada is far more diversified. PetroCanada’s operations include conventional production in Canada as well as international investments.
"While management refused to say outright that it might be interested in selling off these assets, they were clear on the call that the combined firm will remain an oil sands-centric play.
"In fact, there is little doubt in my mind that the combined firm is the premier oil sands play with some of the largest reserves and most experience operating in the region.
"It’s also clear that downstream operations--refining and marketing--were as important a part of this deal as simply boosting reserves.
"PetroCanada is one of the largest refiners in the nation, and many of its facilities will be capable of handling production from the oil sands; integration of heavy oil refining capacity with oil sands production makes sense and should help boost profit margins at the combined firm.
"Finally, it’s worth noting that the deal will be subject to what’s likely to be an intense review by Canadian competition authorities.
"However, management has downplayed the risk, suggesting that Canadian authorities will regard this 'Made in Canada' deal as desirable.
"At any rate, management is estimating a four- to six-month timetable for completing the deal, which strikes me as ambitious. I expect most analysts to take a similarly favorable view of the deal.
"After all, a consistent theme in recent months among many energy analysts--me included--is that we’d see more mergers and acquisitions activity in the energy patch as larger companies looked to take advantage of depressed prices to shore up their competitive position. This deal fits that theme to a' T'."
