A consolidation wave continues to wash over the oil patch. ExxonMobil kicked off the current boom in mergers and acquisitions last year with its recently closed $60 billion deal for Pioneer Natural Resources.
Rival Chevron followed with its acquisition of Hess, which it hopes to close in the coming months. The sector has seen several smaller transactions as oil companies pair up to enhance their positions and reduce costs.
The latest industry tie-up will see ConocoPhillips (COP -0.43%) acquire Marathon Oil (MRO) in a $22.5 billion all-stock deal (which includes the assumption of Marathon's $5.4 billion of net debt). The transaction will create a much larger-scale and lower-cost global oil and gas producer. And the combined company will generate more free cash flow, which it expects to return to investors via a rapidly rising dividend and meaningful share repurchase program.
Drilling down into the deal
ConocoPhillips' acquisition of Marathon Oil will significantly enhance its low-cost resource position in the U.S. The deal will add roughly 940,000 highly complementary acres to ConocoPhillips' existing U.S. onshore position:
Image source: ConocoPhillips.
As that slide shows, much of Marathon's land is adjacent to ConocoPhillips' existing position across three of the top U.S. shale plays. That will enable cost and capital synergies creating $500 million in savings during the first year following the transaction.
That land is estimated to hold more than 2 billion barrels of resources with an estimated cost of supply below $30 a barrel. ConocoPhillips believes there are about 2,000 future drilling locations across that land and the opportunity to apply refracking to over 1,000 existing wells.
Marathon Oil produces about 390,000 barrels of oil equivalent per day in high-margin oil and gas. That will boost ConocoPhillips' production rate to around 2.3 million BOE/d, strengthening its position as the third-largest U.S. producer.
The low cost of supply, cost savings, and high-margin production has ConocoPhillips believing that the acquisition will be immediately accretive to its earnings, cash flow from operations, free cash flow, and return-of-capital per share to investors.
Boosting its ability to return cash to shareholders
The highly accretive nature of this acquisition should enable ConocoPhillips to return more cash to investors. It plans to deliver at least 30% of its growing operating cash flow to shareholders via dividends and buybacks.
Management expects to increase its ordinary base dividend by 34% in the fourth quarter (even if it doesn't close the Marathon deal). It also aims to deliver dividend growth in the top 25% of companies in the S&P 500.
Since resetting its dividend in 2016, ConocoPhillips has grown its payout by 132%. Its fourth-quarter boost will push its dividend growth rate up over 200% since the reset. The higher rate gives ConocoPhillips an implied forward dividend yield of 2.6%. That's roughly double the S&P 500's yield of 1.3%.
The company also says it intends to prioritize share repurchases following the acquisition, with plans to repurchase more than $7 billion in stock in the first full year following the deal (up from over $5 billion as a stand-alone company). It aims to buy back over $20 billion in stock in the first three years following the deal (as long as commodity prices cooperate).
That should enable it to retire a number of shares equivalent to those it will issue to acquire Marathon over the next two to three years (it's paying roughly $17.5 billion in stock for the deal).
The combination of rising cash flow per share, top-tier dividend growth, and a steady decline in outstanding shares should help grow shareholder value over the long term.
A value-enhancing acquisition
This acquisition checks all the boxes: It's highly accretive, enhances the company's already strong position in the U.S., and will generate shareholder value. It all makes ConocoPhillips a compelling oil stock to hold for the long term.
