Halcon Resources Corp. (HK:US)’s takeover of GeoResources Inc. is giving traders the opportunity to reap the biggest arbitrage profit in America.
GeoResources, which owns oil fields in the Bakken shale formation in North Dakota and Montana, slid for a second week and ended last month $1.63 a share below Halcon’s cash-and-stock offer of $38.24. While both companies have fallen as oil slumped to a nine-month low, traders can still secure an annualized profit of 56 percent by buying GeoResources on the bet the deal will close by July 31, according to data compiled by Bloomberg.
The takeover will let Halcon, run by former Petrohawk Energy Corp. head Floyd C. Wilson, more than double production and gain footholds in the Bakken and the Austin Chalk formation in Texas, the biggest continuous oil deposits in the continental U.S. With GeoResources’s cash from operations increasing four times as fast as similar-sized U.S. exploration companies since 2009, Halcon will also acquire more currency to finance its expansion at a time when analysts are forecasting a rebound in oil to more than $100 a barrel, Stephens Inc. said.
“If you look at GeoResources’s cash flows and production levels, it’s a great fit for what Halcon’s trying to do,” Jason Wangler, a Houston-based analyst at Wunderlich Securities Inc., said in a telephone interview. “The deal just makes a lot of sense to me and it’s likely going to get done.”
Frank Lodzinski, GeoResources’s chief executive officer, declined to comment beyond the company’s June 25 joint statement (HK:US) with Halcon. In it, the companies said they “hope to complete the merger as soon as reasonably practicable” and expect it to close this quarter.
“We’re confident the deal will close as expected,” said Scott Zuehlke, a spokesman for Halcon. “The special meeting and shareholder vote is scheduled for July 31 and we expect to close that day or the following the day.”
Halcon agreed April 25 to pay GeoResources holders $20 in cash and 1.932 shares of Halcon for each one they own. Both companies are based in Houston. The deal, which valued GeoResources at $992 million excluding net cash, was 20 percent higher than GeoResources’s average share price in the 20 days before the announcement, data compiled by Bloomberg show.
The purchase will boost Halcon’s average net daily production to the equivalent of 11,070 barrels of oil per day, the companies said in the April statement.
While GeoResources climbed to a record on June 20, it has since retreated as oil-industry stocks fell along with a slump in crude oil prices. Oil futures declined 18 percent to $84.96 a barrel last quarter, the biggest plunge since the depth of the financial crisis in the fourth quarter of 2008.
GeoResources ended at $36.61 a share last week, 4.3 percent below Halcon’s offer. That meant traders buying GeoResources today could lock in a profit of about 56 percent on an annualized basis if the deal closes July 31, when shareholders of both companies are scheduled to vote, according to data compiled by Bloomberg.
That’s the biggest windfall for any pending U.S. takeover worth more than $500 million, the data show. Directors for GeoResources and Halcon have approved the transaction.
“It is an attractive spread, especially when you consider Halcon is a committed, strategic buyer,” Yemi Oshodi, New York- based managing director of M&A and special situations trading at WallachBeth Capital LLC, said in a telephone interview. “Some people are worried about energy prices. But all you need to do is speak to the guys at Halcon and they’ll tell you, ‘We’re not buying this for an overnight flip.’”
GeoResources slipped 0.7 percent to $36.36 at 11:58 a.m. today in New York after earlier gaining as much as 1.1 percent. Halcon dropped 1.3 percent to $9.32.
With GeoResources, Halcon gains access to the Williston Basin, an ancient sedimentary deposit stretching from South Dakota into Canada’s province of Saskatchewan, said William Butler, a Fort Worth, Texas-based analyst at Stephens.
Some of GeoResources’s assets are located in Williston’s Bakken formation, which the U.S. Geological Survey said in April 2008 may contain as much as 4.3 billion barrels of technically recoverable oil under western North Dakota and eastern Montana.
The amount is enough to meet all U.S. crude oil needs for more than 220 days, based on an estimate by the Central Intelligence Agency.
“The primary reason for the deal is to get Halcon a starter kit in the Williston Basin,” Butler said in a telephone interview. “That’s going to be one of the most important oil basins to the U.S. energy supply for the next generation. Halcon sees that and therefore wants a position in it.”
Halcon is also getting GeoResources’s Woodbine shale deposit in the Austin Chalk formation, which rests above the Eagle Ford region in Texas and is the second-biggest continuous oil deposit behind the Bakken.
“They’re the next hot resources that people haven’t really tapped into,” Hsulin Peng, a New York-based analyst at Robert W. Baird & Co., said in a telephone interview.
GeoResources’s cash flow will increase to $5.14 a share this year, a 253 percent gain since 2009, according to analysts’ estimates compiled by Bloomberg. That’s four times the median increase for U.S. oil explorers and producers with market values from $500 million to $1 billion, the data show.
Halcon can use the cash from GeoResources’s conventional oil fields in Louisiana, New Mexico and western Texas to fund more shale acquisitions, Wunderlich’s Wangler said.
Traders who want to exploit the difference between GeoResources’s stock and Halcon’s offer price may not be able to find enough Halcon shares to borrow, said John Maysles, a Los Angeles-based event-driven analyst at Elevation LLC.
Merger arbitragers usually short the acquirer’s stock while buying shares of the target. In a short sale, investors sell borrowed stock and profit from buying it back at a lower price.
Executives, directors and other insiders (HK:US) own more than half Halcon’s stock, while speculators have already borrowed 88 percent of its shares available for lending, according to data compiled by Markit, a London-based research firm.
The cost to borrow Halcon’s stock has now climbed to a level of 10, the most expensive point on its scale. That’s the reason the spread between GeoResources (GEOI:US)’s stock price and Halcon’s offer hasn’t narrowed further, Maysles said.
“There’s not any indication of worries that the deal might be in any kind of jeopardy,” he said. “It’s simply an issue with borrowing shares to short Halcon.”
For Stephens’s Butler, the deal will benefit Halcon so much that investors can just purchase GeoResources as a way to get a slice of the combined company’s future earnings (HK:US) at a discount.
Analysts are also projecting that oil prices will recover and average $102 a barrel this quarter, according to the median estimate compiled by Bloomberg. On June 29, oil futures surged by the most in more than three years, rebounding from the lowest price since October, data compiled by Bloomberg show.
“The deal probably will close,” Butler said. “Even if you couldn’t short Halcon, you could actually go naked long on GeoResources and synthetically get Halcon at a cheaper price.”
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