Forest Oil Sells South Texas Assets

Transaction Type
Buyers
Announce Date
Post Date
Close Date
Estimated Price
$307.0MM
Description

Sale of South Texas assets producing 66 MMcfe per day, 86% of which is natural gas.

Forest Oil Corp. (NYSE: FST) plans to sell a portion of its South Texas properties, excluding the Eagle Ford shale, for after-tax proceeds of $325 million to an undisclosed buyer. At closing, the amount was adjusted to $307 million.

The deal is expected to close on or before Feb. 15 and has an effective date of Jan. 1. The properties produced 66 million cubic feet equivalent (MMcfe) per day, 86% of which is natural gas during the third quarter of 2012. The properties had estimated proved reserves of 272 Bcfe, 85% of which is natural gas as of Dec. 31, 2011 and generated about $60 million of lease income during 2012.

Forest intends to use the proceeds from the sale to pay down debt and retains all of its natural gas hedges. Forest president and chief executive Patrick McDonald said the sale is part of an ongoing strategy to strengthen the company’s balance sheet. “We are pleased to announce further progress in our deleveraging plan with the sale of our non-core South Texas natural gas properties at metrics that are attractive to Forest shareholders from an equity and debt perspective. We have now made significant progress in executing our stated goal of improving and restoring flexibility to our balance sheet,” he said.

The sale is also part of the company’s plans to reallocate capital towards strategic areas.

“The allocation of capital and resources towards our core oil and liquids assets in the Texas Panhandle and Eagle Ford, alongside the evident improvement in our financial position, is a material positive for us. In addition to the deleveraging aspect of this transaction, on a pro forma basis, the liquids contribution of our production mix is approximately forty percent and will continue to increase due to our oil-focused drilling program. Furthermore, Forest continues to maintain its strategic natural gas optionality within our significant East Texas / North Louisiana acreage position,” he said.

The initial reaction from analysts was mixed, although the market took the news well. The price of Forest shares surged more than 6% in the hours after the deal was announced.

Wells Fargo Securities LLC said the details of the deal are somewhat surprising, it is an important part of the company’s debt reduction plan.

“We believe the sale will be a positive surprise as FST had not talked extensively about selling these assets as a part of its previously announced asset rationalization process. Total proceeds now top $600 million from divestitures since the program began last summer, which far surpasses our initial target of $300 million,” according to a recent report about the sale.

The sale price boils down to $4,924 per Mcfe per day of production, $1.20 per Mcfe of proven reserves, and about 5.4 times EBITDA (earnings before interest, taxes, depreciation and amortization), Wells Fargo reported. After the sale, Forest debt would consist of $1.5 billion of long-term debt due in 2019 and 2020, according to the report. The deal will likely affect the company’s borrowing base, but Wells Fargo reported the company had nothing drawn on the $1.1 billion credit facility at the end of the third quarter. Finally, Forest retains all of its natural gas hedges, which gives it additional financial flexibility.

Forest has raised $602 million from the sale of assets producing 88 MMcfe per day in the third quarter. The sale represents 324 Bcfe of proved reserves, of 17% of its 2011 year-end proved reserves, Wells Fargo reported. Forest initially stated it would raise about $300 million from asset sales, but the total is now twice that level.

The sales are generally good for the company, Wells Fargo reported. “In addition to the proceeds, the continued execution of planned asset sales also helps build Street credibility for a CEO who has only been in place five months, and sends a positive signal to the market about the current management team's willingness to evaluate and execute transactions that make sense,” the report stated.

The sale makes sense to Wells Fargo, which said the sold production is mainly dry gas that received minimal maintenance capital expenditures.

Forest could sell Eagle Ford and midcontinent assets and use those proceeds to accelerate its drilling program. Wells Fargo rates Forest as “outperform,” meaning its total return is expected to beat the market return during the next 12 months.

Analysts from Robert W. Baird & Co. also liked the deal. Production from the assets were in decline and Forest received a good price on the transaction when measured by cash flows. The deal will bring in fresh capital to Forest and allow it to pay off its debt. “We like the deal,” the report states.

Other equity analysts were less optimistic about the sale. Jefferies Equity research said the price for the South Texas is at the lower end of transactions for natural gas in the region and that the sale would only have a modest impact on the company’s debt ratio.

The sale improves the company’s net debt to adjusted EBITDA from 4.3 to 4.2 times, but Forest will have to sell other non-producing assets in the Permian Basin and Eagle Ford to make a meaningful debt in its leverage ratios, Jefferies reported.

Looking forward, Forest’s management wants to focus on the company's core areas in the Texas Panhandle, Eagle Ford, East Texas and the Haynesville. The next block of non-core assets are the Arkoma Basin properties. Associated production is about 30 million cubic feet equivalent per day. Jefferies rates forest as a hold and has a target price of $7 per share.