santos bid for qgc highlights that time to buy is

the australian newspaper


Santos bid for QGC highlights that time to buy is before future is priced in


COMMENT
Matthew Stevens
October 14, 2006
THIS week's entertaining early skirmish between Santos and its latest target Queensland Gas Co highlights again how important timing is in valuing companies.

Santos has made its $606 million offer for QGC just as Queensland's junior gas player morphs from explorer to dinkum gas producer and as the coal-seam gas industry completes its transformation from an exotic bet into a mainstream energy source.



At issue here is how the market values opportunity and future performance. And it has to be said that, in recent times, the asset poachers, local and international, have recognised the strategic value of assets far more acutely than the owners of their Australian targets.

Look at BHP Billiton's acquisition of WMC.

The final price was 84 per cent higher than the pre-bid consensus view of the analysts? How can that be? How can Toll Holdings end up paying 40 per cent more than the brokers initially thought it was worth?

Of course, this is not just a problem of history. We are at the dangerous end of a market boom and watching a takeover frenzy in our markets. Which means the issue of value becomes ever more essential to shareholders.

There remains, for example, a good chance that the shareholders of Coles Myer will be delivered with a value dilemma soon, given that we all expect private equity to deliver a takeover for the under-performing retailer.

Takeover bids obviously clarify a company's value. To some degree, they force shareholders to weigh up whether their shares should be valued on the sort of historic data which informs the analysts or the potential routinely presented by defensive management.

Coles's John Fletcher, to offer an example, argues he is running a titanic corporation which is slowly changing course and that, with time, will make a big difference to the Coles share price.

Fletcher though is, I reckon, seriously hamstrung by the fact that Coles is a retailer. It is rated by industrial analysts who discount blue sky. QGC by comparison has no such problems.

Now, by any formal numerical measure, Santos has made a pretty good offer here. As it boasts, a $1.26-a-share price tag represents all sorts of premium over recent trading markers.

For example, QGC's lucky shareholders are being offered a 29 per cent premium on the nascent's gas company's one-month volume-weighted average share price (VWAP). Better still, the offer is 49 per cent above the three-month VWAP and a 100 per cent premium on the 63c-a-share rights issue QGC completed only in September.

But for all the logic of the numbers, the market has stated bluntly that Santos boss John Ellice-Flint has made a low-ball pitch. Yesterday's closing QGC price of $1.45 a share says Santos is at least $100 million shy of success in its pitch for Richard Cottee's nascent gas empire.

Coincidentally enough, that $100 million gap is pretty much the same margin by which Santos was recently defeated in its play to clear-up the ownership of the Cooper Basin in trying to buy long-time project partner Delhi Petroleum.

Ellice-Flint offered $474 million for Delhi but he was, in the end, easily trumped by Beach Petroleum which effectively paid $574 million for a 21 per cent share of the Cooper oil, condensate and gas flows.

Santos surrendered quickly on Delhi because it knows all too much about the Cooper Basin story. No matter how you want to play it, the rich Cooper-Eromanga Basin fields are in relentless decline and an ownership clean-up, for all it represented easy growth, was not really a core aspiration.

QGC though is another story. It is a vehicle for getting in at the productive ground floor of the Bowen Basin coal-seam gas boom. Better still, QGC's fields sit between the Cooper and the east-coast growth corridor which is Queensland.

So the first big bet the market is making is that, even if no other bid emerges, QGC is so important to Santos's future that it must pay more. And, of course, if another bidder emerges, which remains a real possibility, then all bets are off.

But there is something more than ownership premium being factored in to the QGC share price. It seems to me that QGC is trading comfortably ahead of both the Santos offer price and the pre-bid valuations because resources analysts are well used to valuing opportunity. So, in a rare confluence, the premium Santos has identified is also being actively valued by the market.

To the frustration of Santos, investors have backed QGC's view on the potential of its asset base and of its business model, which is based on the idea that it can be a core player in the developing peak-load gas and electricity markets.

Now, the idea that a gas producer might be able to live and die in the margins - peak-load demand - is a fairly novel one. Cottee is betting the PNG gas pipeline is nothing but a pipedream and that, for the medium term, there will be serious shortfalls in the Queensland gas supply in particular.

Which means customers will pay top dollar for uncommitted gas. Enter QGC.

Now that all sounds pretty good. The trouble for Santos is that the market actually gets it. Just as it believes Cottee when he says that QGC's current drilling program will more than double its bankable gas reserves (which means proved and probable reserves) from 422.7 petajoules to more than 1000PJ.

Based on that view, Santos's bid would certainly be at the bottom end of recent gas acquisitions. Understandably, the big brother of onshore gas says the price has to be based on what is known, not what Cottee might speculate.

Which brings me back to my first point: bids are about timing.

Santos has demanded that QGC promptly respond to its unusually speedy bidder's statement by producing an independent expert's report which supports Cottee's rejection of the bid as manifestly inadequate.

Which is fair enough. But it is an invitation Cottee will rightly spurn: at least until he can produce the results from the latest round of drill testing. The most recent declaration was based on drilling done in February.