Natural Gas Merger Activity Is Up

08/29/2012 8:45 am EST

Focus: STOCKS

Elliott Gue

Editor and Publisher, Energy and Income Advisor and Capitalist Times

Smart, strong players in the natural gas sector are using low prices to snap up properties and competitors and consolidate their base while waiting for prices to turn around, observes Elliott Gue of The Energy Strategist.

Linn Energy (LINE) and other savvy publicly traded partnerships are buying gas-producing properties at low prices and locking in favorable prices on expected output through futures contracts.

The firm has moved quickly to acquire gas-rich acreage at valuations and hedge future production at prices that guarantee a reasonable rate of return. As such, we view Linn Energy as a low-risk, high-yield bet on natural gas.

If natural gas prices remain depressed for an extended period, these acquirers can cut their costs to the bone by performing only basic well-maintenance work. If natural gas prices rally after 2015, these companies can ramp up drilling activity to boost production and take advantage of higher prices.

On March 30, Linn Energy completed the $1.2 billion acquisition of 600,000 net acres and 2,400 wells in the Hugoton Basin of Kansas from energy giant BP (BP). These wells currently generate 110 million cubic feet of natural gas equivalent per day, roughly 63% of which is natural gas and 37% of which are NGLs.

Linn Energy hedged 100% of its expected natural gas output from these wells over the next five years. The purchased acreage also contains an identified drilling inventory of 800 additional sites, providing plenty of upside if natural gas prices rally.

Management notes that that deal will be immediately accretive to the Linn Energy’s distributable cash flow, enabling the firm to boost its quarterly payout to unitholders while maintaining a comfortable coverage ratio.

Linn Energy followed up this transaction with another deal with BP, spending $1 billion on 12,500 net acres and 750 producing wells in Wyoming’s Jonah Field. Linn Energy also hedged all its anticipated production from this field through the end of 2017, limiting its exposure to fluctuations in commodity prices and locking in favorable profit margins.

Thus far in 2012, Linn Energy has completed almost $2.8 billion worth of acquisitions, compared to less than $1.5 billion in all of 2011 and $1.35 billion in 2010.

The upstream operator—which currently yields over 7%—has grown its distribution by roughly 10% over the last year. These latest deals should give the company the scope to increase its quarterly payout by another 10% to 15% in the next 12 months.

Subscribe to The Energy Strategist here...

Related Reading:

MLPs Fail, but REITs Have Luster

A Profit Pipeline to Keep Watching

This Coal Company Will Clean Up

Related Articles on STOCKS