Merger Mania On Wall Street Will Have Far-Reaching Ramifications

The 30 per cent collapse in crude oil prices since June 2014 has coincided with a time of escalating geopolitical turmoil in the Middle East. A self declared “caliphate” seized Mosul, much of Anbar Province and northeast Syria, committed a series of massacres, and triggered US military intervention via airstrikes.

In Ukraine, Russia showed no inclination to back down despite sanctions, a collapse in the rouble and a big chill in relations with Berlin and Washington. In Yemen, pro-Iran Houthi rebels seized the capital Sanaa. In Libya, the government in Tripoli was driven out by rival militias and the 340,000 barrel a day Shahara oilfield in the Fezzan, Libya’s largest, was once again shut down by militia violence. In Nigeria, Boko Haram’s reign of terror continues.

The world oil market is simply not concerned with geopolitical risk at a time when it’s glutted by at least one million barrels of excess crude. The glut in crude oil is due to the surge in US shale oil production that has led to a 90 per cent fall in US imports of Nigerian Bonny Light and Angolan crude, which have been then diverted to the spot market.

Saudi Arabia has also refused to play its traditional role of swing producer in OPEC and Saudi Aramco has actually raised output in September and October to its Asian clients.

Only Saudi Arabia has the spare capacity to enforce quota discipline in OPEC but the Kingdom has opted to protect its downstream market share in Asia, particularly in China, where it exports 1.1 million barrels a day and competes with Iraqi, Kuwaiti, Angolan and Iranian crudes.

As in the late 90s, an oil shock can trigger a wave of energy “merger mania” on Wall Street. Halliburton has made a takeover bid for Baker Hughes in the biggest oil services deal in the world since Schlumberger acquired Smith International in 2010.

Baker Hughes shares surged 20 per cent once the Wall Street grapevine flashed rumours about a takeover bid. Halliburton’s acquisition of Baker Hughes would create America’s second largest oil services firm after Schlumberger at a time of cutthroat competition in drilling, cementing and hydraulic fracturing from Chinese, South Korean, French and Indian oil services companies.

If oil prices continue to trade in the $70 to $80 range, it is entirely possible that many offshore deep-water projects will be cancelled in West Africa, Brazil, Southeast Asia and even the Gulf of Mexico.

Exxon has cancelled its deep-water joint venture project with Rosneft to drill for oil in the Russian Arctic after new sanctions imposed by the Obama’s White House to punish the Kremlin’s annexation of Crimea. Mergers in the oil patch are often defensive in nature, designed to boost economies of scale and pricing power.

Halliburton, where former US vice president Dick Cheney was once chairman and CEO, pioneered the development of the hydraulic fracturing technologies that could well enable the US to surpass Russia and Saudi Arabia as the world’s leading energy superpower in the next decade. However, Halliburton has lacked the global footprint or 20 per cent operating margins of its bigger rival Schlumberger.

Halliburton could well make a hostile bid if the Baker Hughes board rejects its initial buyout offer. This could lead to Houston’s most high profile oil services takeover battle since the 1980s.

Halliburton cannot offer a rich takeover premium to Baker Hughes at a time when the oil shock makes demand for “fracking” equipment from its North American oil and gas exploration and production corporate clients uncertain.

If oil prices continue to fall, Baker Hughes shareholders could be tempted to sell out to a bigger rival. Halliburton, in this scenario, could be the ultimate strategic loser even if it wins control of Baker Hughes in a takeover bid.

Halliburton could also face antitrust objections to the deal from Washington. In this case, Baker Hughes will be “in play” for a white knight eager to acquire a unique prize in shale oil services.