Reaching into its famously deep pockets, Royal Dutch/Shell's plan to acquire the U.K.'s biggest-and only remaining large-independent, Enterprise Oil Plc, gets it a 6% increase in production for about $5 billion in cash and assumption of about $2 billion in debt. "It's a nice little niche fit, if you will," says Gene Gillespie, who covers Shell for Howard Weil in New Orleans. "It's not a bad price at all-certainly not an unreasonable price." If the offer is accepted, Shell will gain proved reserves for $6 per barrel of oil equivalent (BOE) and proved-plus-probable for $4 per BOE. While Enterprise shareholders, other than board members, have been slow to tender their shares (10 days after the offer, 15% of shares had been tendered), no other offer has appeared. Italy's Eni had reportedly bid on the company in January, but its chief executive says it won't offer more than Shell has. Norway's Statoil and France's TotalFinaElf were also named in rumors as counterbidders. But Gillespie doubts they will make a move. Mark Redway, who covers Enterprise for Teather & Greenwood in London, doubts too that there will be a better offer. According to Redway's models on Enterprise, the company's cash flow was worth 717 pence per share, assuming $20-per-barrel oil. "It's possible that some people may have a more optimistic view on the price of oil going forward than $20," he says. "Even so, at this moment in time, I don't think many companies are willing to pay on the basis of a $22-or even $25-sustainable oil price. I don't think there will be a counterbid." Shell is offering 725 pence per share-a 15% premium to Enterprise's closing price prior to the acquisition announcement. The price is a 45% premium to Enterprise's closing prior to the January announcement of a takeover offer, which Enterprise board members had rejected. On the New York Stock Exchange, Enterprise closed at $31.46 the day the Shell offer was announced, up from $27.67. Royal Dutch closed at $55.48, up from $55.09. The acquisition would boost production growth in key areas, including the North Sea and the deepwater Gulf of Mexico. It also helps to answer the market's questions as to how the No. 2 oil and gas producer in the world intends to keep up with the frantic merger pace of its peers. In the U.K. North Sea, Shell's production would increase 30%. Offshore Ireland, Shell would gain Enterprise's Corrib gas field, which is expected to begin producing in 2004. "Since the bulk of Enterprise's assets are concentrated in the North Sea, which is one of [Royal Dutch/Shell's] core areas, integration should be relatively smooth," says Michael Mayer, who follows Shell for Prudential Securities Inc. in Menlo Park, California. "The acquisition should allow Royal Dutch/Shell to surpass ExxonMobil Corp. and become the No. 2 producer in the North Sea after BP." Other areas in Enterprise's portfolio include: • Norway, where Shell production would grow more than 50%. In particular, the deal would build on Shell's recent Draugen acquisition and strengthen its exposure to mid-Norway-the key growth area on the Norwegian Continental Shelf. • Italy, which would be a new opportunity for Shell. Executives say Enterprise is at a key stage in the development of both the Tempa Rossa and Val d'Agri regions, and has come to a point where application of Shell's technology and development experience could unlock significant value. • Brazil, where Shell will add to its holdings in high-potential deepwater blocks. • The Gulf of Mexico and Morocco, where Shell would add additional deepwater positions that can be easily integrated, and which may offer some attractive exploration potential. Just before the offer, the Tahiti #1 well in the deepwater Gulf was reported to have found high-quality reservoir sand with total net pay of more than 400 feet. Enterprise owns 17% of it. "Shell has been struggling a little bit in terms of finding new things in the deepwater Gulf, and they have a lot of capital tied up there," Gillespie says. Besides the Tahiti results, Enterprise operates a potential deepwater Gulf of Mexico development, Llano, which is very close to Shell's Auger platform, and future production could be routed through Auger. At $18 West Texas Intermediate, the acquisition is expected to be mildly dilutive to earnings per share (about 2%) but slightly positive to cash flow (about 1% to 2%) in 2003. The deal is expected to close during the second half of 2002. Investment bank Schroder Salomon Smith Barney represented Shell in the deal, while Rothschild and Morgan Stanley advised Enterprise. Moody's Investors Service notes that this deal, Shell's recent acquisition of Texaco's interests in downstream ventures Equilon Enterprises and Motiva Enterprises, plus another large deal Shell announced just a week prior to the Enterprise offer-the purchase of Pennzoil-Quaker State Co.-will result in an increase in the company's debt level beyond its historical norm. "The magnitude of total debt Shell will incur in all of these transactions is sizable, in the area of $12.9 billion, both in absolute terms and relative to its historical debt balances. When completed, Shell will become more levered, shifting from what has been in recent years a large net cash balance-$6.7 billion in cash at year end-to a net debt position that could exceed $15 billion by year-end 2002." On a pro forma basis, this should place Shell's consolidated debt-to-capitalization ratio in the area of 20%, a more leveraged financial position but still in line with its strongest-rated industry peers, the rating agency says. J.J. Traynor, oil analyst for Deutsche Bank in London, says the deal looks expensive, "given the lack of strategic uplift from an admittedly high-quality asset base. Much depends on Shell's ability to extract more from Enterprise than Enterprise could from itself." Downstream change-up In buying Pennzoil-Quaker State, Shell will replace the motor-oil business it will lose, along with the Havoline brand, to ChevronTexaco Corp. next year. "The deal represents a step-change in a key oil-products segment-lubricants," Shell managing director Paul Skinner explains. "I consider this a further major step forward for Shell Oil Products that will benefit both customers and shareholders." Kathryn Carnes, editor of Lubricants World magazine, says, "It actually was rumored for a couple of years. For a long time, it was recognized that Shell was weak in the U.S. market in consumer oil product sales. It was due to lose the Havoline brand, so this was not unexpected. This ought to be a good move for both companies-assuming Shell does a good job of integrating this consumer-products focus, which it has never had before, into its organization." Mayer says, "It's a very good strategic fit for Shell, and fills a big hole in its U.S. consumer-products offering." Richard Leader, who follows Pennzoil-Quaker State for Burnham Securities Inc. in Houston, says, "These brands have value. While oil essentially is a commodity, the company has brand value that many investors don't appreciate. Shell was by itself in this area and, for a relatively modest amount, put a feather in its cap." Shell Oil gained rights to Texaco's Havoline brand several years ago when it formed the two U.S. downstream joint ventures with the White Plains, N.Y., multinational oil company and Saudi Aramco Inc. But it will retain those rights only for another 18 months after buying out Texaco's stake in Equilon and, with Saudi Aramco, in Motiva. Skinner, the Shell managing director, says, "We knew, as we came away from the Equilon-Motiva transaction, that the Havoline brand would revert to Texaco. We looked at transferring some of our existing brands to the U.S., but realized that we would be doing that from a standing start. So we looked at brands outside the company. Pennzoil-Quaker State was the ideal choice."