When E.ON, the E83 billion German energy utility, and BP, the £99 billion (E157 billion) UK oil giant, announced plans in July to swap two subsidiaries, senior managers at both businesses were thrilled. For, while the deal was complicated and took over six months to complete, it was viewed favorably by investment analysts and executives alike.
”[E.ON’s] agreement with BP is strategically sound, well timed and reasonably priced,” says Martin Dixon-Ward, an equity analyst at Williams de Broë.
Under the terms of the swap, both companies offload unwanted divisions in return for assets that fit more closely with their core businesses. E.ON will acquire a 51 percent stake in Gelsenberg, a BP subsidiary which holds 25.5 percent of Ruhrgas, a German gas supplier. In exchange, BP will buy a 51 percent stake in Veba Oil, an E.ON subsidiary which owns Aral, Germany’s biggest petrol-retailing business. Additionally, as of January 2002, both companies are expected to exercise put options that let them sell their remaining 49 percent stakes to each other.
Despite the apparent success of the E.ON/BP deal (which remains subject to regulatory approval), investment bankers aren’t expecting a flood of phone calls from CFOs hoping to arrange similar asset exchanges.
That’s not to say that asset swaps don’t bring many benefits. For one, such deals let two companies simultaneously dispose of non-core assets while acquiring desirable new businesses. For another, asset swaps tend to be highly efficient, combining the costs of several deals in a single transaction.
Nonetheless, bankers say that the difficulty of finding asset swaps that are acceptable to both parties, the complexity of the transactions, as well as wider uncertainty in lacklustre M&A markets, means such deals will remain few and far between.
”Everybody dreams about swaps, but they rarely happen,” says Norbert Reis, co-head of Credit Suisse First Boston in Germany, who advised E.ON on its deal with BP. ”For an asset swap to happen you have to agree two transactions that are in the interests of both parties. Often that can be an insurmountable test.”
Reis says a frequent problem is that senior managers are reluctant to go ahead with an asset swap if one company appears to be benefiting more than the other. ”Often one part of the transaction is beneficial to both sides, while the other is only beneficial to one side,” he says. ”That results in acrimony and the deal goes astray.”
That doesn’t appear to have been the case with the E.ON/BP deal. Industry watchers say that’s partly because the asset swap clearly benefits both companies. E.ON had publicly stated its intention to offload Veba Oil, while gaining BP’s 25.5 percebt stake in Ruhrgas neatly fitted into E.ON’s core focus as an energy utility. BP, on the other hand, was under increasing pressure to make an acquisition in Germany after its rival Royal Dutch/Shell struck a deal with Hamburg- based RWE-DEA in March, making it a significant fuels-retailer in Europe’s largest market. What’s more, BP had been looking to offload Ruhrgas since 1989.
For John Browne, BP’s CEO, the deal was a coup: ”It allows us to exit Ruhrgas, a passive equity investment we have been seeking to monetise for a decade, [and sell it] to a buyer happy to pay an excellent premium for an asset that fits neatly with their growth strategy.”
Nonetheless, even when the logic of such deals isn’t in doubt, consultants say completing transactions can be perilous. Mike Stevens, vice-chairman of corporate finance at KPMG Consulting, notes that asset swaps are effectively two deals in one. That, he says, means the risks of failure are higher than with a straightforward acquisition or disposal. ”You’re faced with all the usual issues that arise with any deal — except they’re intensified,” he says.
With E.ON and BP, CSFB’s Reis says the most difficult aspect was agreeing valuations. He notes that a lack of straightforward valuation benchmarks in the oil and gas sector meant valuing the deal required intensive negotiation. In the end, the value of the assets being swapped didn’t match exactly, and BP has agreed to make a balancing cash payment of $1.94 billion (E2.12 billion), as well as assuming Veba Oil’s debt of E1.1 billion. Factor in the value of Ruhrgas, E.ON says, and the enterprise value of Veba Oil was around E6.5 billion.
Regulatory risk is also doubled when two transactions are combined. The European Commission has said it will review E.ON and BP’s swap deal. Meanwhile, politicians in Germany have also asked the Bundeskartellamt, Germany’s cartel office, to investigate the E.ON/BP transaction. Their big concern: if the E.ON/BP deal goes ahead, BP and Royal Dutch/Shell will control over 50 percent of German downstream petrol and oil operations. ”The potential fly in the ointment could come from the regulatory authorities,” notes Williams de Broë’s Dixon- Ward. ”Regulatory approval is by no means certain.” E.ON and BP expect a decision by the end of the year.
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