According to the story, Shell is going to buy BG for $70 b. Shell is worth $199 b, and BG is worth $60 b. In July 2014, Shell had a market cap of $280 b, and in April 2011, BG had $88 b. Just a few days back, though, market cap of BG was $42 b. Well, the market has reacted to the news report.
I don't want to get into whether the acquisition makes sense in terms of synergy, control, and other benefits. I will also not comment on whether the acquisition is costly or a bargain for Shell. What I want to note is how Shell is funding its acquisition: It is a combination of cash (383 pence) and stock (984 pence) totaling 1367 pence per share of BG.
In effect, Shell is paying $50 b in stock. My question is whether it makes sense to pay in stock at the current price. It usually makes sense to use shares as a currency when its price not cheap. In other words, if Shell considers that its stock price is higher than its intrinsic value, it can use it for acquisition. The expectation then is that it will get more value than what is paid out.
Now let's come to what else Shell is going to do. It has committed to a shares buyback of $25 b in the coming years. There are at least two things to be checked before a firm can go for buyback of its shares: It should have excess cash; and its stock price should be cheap, or at least not higher than its intrinsic value.
For acquisition to hold good, we have to assume that Shell, in fact, considers that its stock price is on the higher side, otherwise, it would not have used its shares for acquisition.
Whereas for stock buybacks, we have to assume that Shell, in fact, considers that its stock price is and going to remain on the lower side, otherwise, it would not have committed to the buyback program.
Heck, too much confusion...for the Shell managers, I guess.
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