Canadian Manufacturing

Obsidian hostile takeover bid for Bonterra shows ‘frustration’

Slow pace of consolidation needed to create larger entities that would be more liquid and resilient and therefore more attractive to investors

September 1, 2020  The Canadian Press

CALGARY — A hostile takeover offer by Obsidian Energy Ltd. launched by making public a letter to the CEO of Bonterra Energy Corp. demonstrates growing frustration at the slow pace of consolidation in the sector, energy industry analysts say.

Obsidian interim CEO Stephen Loukas released the letter addressed to Bonterra chairman and CEO George Fink Aug. 31 in which an offer is made to combine the two small Calgary-based oil and gas producers.

Under the proposed deal, two Obsidian shares would be issued for each Bonterra share — although Bonterra was trading at nearly a three-to-one valuation at market close on Friday.

“I don’t know that this goes anywhere only to say that, hey, finally people are getting more aggressive with their consolidation ideas in the space,” said Cody Kwong, managing director, institutional research, for Stifel FirstEnergy in Calgary.

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“I think that’s what our space needs is consolidation, and I think there’s kind of frustration that maybe some deals haven’t been consummated.”

Analyst Patrick O’Rourke of ATB Capital Markets agreed that consolidation is needed to create larger entities that would be more liquid and resilient and therefore more attractive to investors who have been steering clear of the energy sector.

In his letter, Loukas concedes the offer, which would leave Bonterra shareholders with 48% of the merged company, doesn’t match up with current market valuations.

“While this is currently below a trading price-based exchange ratio, our detailed contribution analysis supports that this is a competitive and highly compelling exchange ratio,” he says.

“Bonterra currently trades at a premium to Obsidian Energy and other relevant public oil-producing companies, despite recent performance that has been weaker than Obsidian Energy as measured by cash flow, operating costs and well results.”

He says the companies have been talking about a merger since early 2019 but failed to make “meaningful progress” because of Bonterra’s insistence on “standstill” provisions that would limit flexibility.

The merger would result in $50 million in the first year and $100 million over the first three years in administrative, operating and capital cost savings plus additional cash flow, he said.

Neither company is financially strong and there is some doubt the merger would create the claimed synergies, said Kwong.

“Both entities are financially constrained and are having a hard time showing a pathway to true free cash flow generation right now, which is what the market really wants to see,” he said.

In a report, analyst Christopher Jones of Haywood Securities pointed out a merged company would be heavily endebted, inheriting both Obsidian’s net debt of about $518 million and Bonterra’s $300 million, as of June 30.

Obsidian, formerly known as Penn West Petroleum Ltd., recently announced second-quarter production of 25,900 barrels of oil equivalent per day, while Bonterra produced 10,180 boe/d.

In September 2019, Obsidian launched a formal process to explore strategic alternatives, including the possible sale of the company, to maximize shareholder value.

Two weeks ago, Bonterra announced it had secured financing from the Business Development Bank of Canada in co-operation with its existing syndicate of lenders that would allow it to restart its suspended capital program this year and allow it to bring production back to last year’s levels.