Mitsubishi reinforces ties with Medco Energi

Mitsubishi's acquisition of an indirect stake in the Indonesian oil and natural gas explorer will have wider implications for future gas sales.
Japanese trading company Mitsubishi Corporation has acquired an indirect 19.97% holding in Indonesian oil and gas exploration and production company PT Medco Energi Internasional by partnering with its unlisted controlling shareholder Encore International Limited.

In a deal that was announced late Thursday, Mitsubishi bought 39.4% of a new company that will hold a direct 50.7% stake in Medco for $352 million. The other 60.6% of the new company, which is called Encore Energy, is owned by Encore International, which in turn is controlled by IndonesiaÆs Panigoro family. As a result of the new partnership, Encore InternationalÆs stake in Medco will fall to an indirect 30.7% from an absolute majority of 50.7%, but it will remain the controlling shareholder, according to a release.

MedcoÆs share price rallied 12.8% to Rp4,200 on Thursday as news of the deal leaked out to the market and, according to analysts, MitsubishiÆs investment could indeed have very positive implications for the listed company - even though the acquisition is at the shareholder level and is expected to have come about primarily because the Panigoro family is in need of cash to settle some of its large outstanding debts.

The reason, analysts say, is that it dramatically increases the chances that a separate deal that could see Mitsubishi buy gas from Medco EnergiÆs 50%-owned Senoro natural gas field will go through. Such a purchase agreement is expected to be tied to MitsubishiÆs agreement earlier last week to take a 51% stake in a $1 billion project to construct a liquefied natural gas plant at Senoro. The LNG plant deal was initially flagged in May, but an actual gas sales agreement has yet to be signed.

MitsubishiÆs partners in the LNG plant is Medco, with a 20% stake, and state energy firm Pertamina, the joint owner of the Senoro gas field in Central Sulawesi, which will hold 29%.

Analysts have expressed concerns, however, that the sales agreement may not go through. Some of their doubts may be due to the fact that a number of similar attempts to commercialise the Senoro field over the past seven years have failed, but more importantly they also regard the talked-about terms and conditions of the deal as being very favourable to Medco. However, MitsubishiÆs indirect investment into Medco is ôa pretty good signö that Mitsubishi is committed to this partnership and the implication is that the Senoro deal is likely to be signed, says Adam Worthington, an analyst with Macquarie.

Neither of the involved companies made any comments on this last week, but in a press release Mitsubishi said that in connection with the indirect investment it had also signed a Strategic Alliance Agreement with Medco. Under this agreement, both companies will look to expand and reinforce the business relationship with a view to enhancing their respective presence in the jurisdictions in which they operate, both in the upstream oil and gas industry and drilling and rig businesses and downstream in the power generation, chemical and bio-ethanol markets.

ôIf the terms of the (potential gas sales) agreement that are currently being discussed are true and signed off on, my share price target (for Medco) would probably go from about Rp4,200 fair value to something like Rp7,000. So if this deal comes off, it is very, very significant for the company,ö Worthington says.

This means that the acquisition price of MitsubishiÆs indirect 20% stake, which at first glance looks quite steep in relation to MedcoÆs current share price, could make a lot of sense if one assumes Mitsubishi will also go ahead and buy LNG from Senoro for onward export to Japan once the plant comes on stream in 2010. The plant will have a production capacity of 2 million metric tonnes of LNG per year.

Based on ThursdayÆs exchange rate, the acquisition price equals about Rp4.950 per share, which translates into a 17.9% premium to the closing price on that day or a 32.9% premium to WednesdayÆs close before the share price started moving on the news. On Friday the share price traded up to Rp4,500, but eventually settled 1.2% lower at Rp4,150.

MitsubishiÆs investments into Encore Energy and the LNG terminal are also part of a larger trend that is seeing increasing interest from Japanese companies in Indonesian energy assets. Mitsubishi reportedly beat three other Japanese companies for the Senoro LNG plant and when Tata bought 30% of Bumi ResourcesÆ coal assets earlier this year it did so in contention with a couple of Japanese bidders.

In April this year, Mitsubishi and upstream oil and gas company Japan Petroleum Exploration Co (Japex) spent $360 million for a combined 50% stake in Energi Mega PersadaÆs prospective Kangean oil and gas block off the shore of East Java.

Such tie-ups are seen beneficial to both parties. The Japanese firms get access to much needed oil and gas, while the Indonesian companies gain some added credibility in terms of transparency and corporate governance from having a blue-chip Japanese investor or partner.

ôI think there is a clear trend here of swapping Indonesian energy for Japanese corporate governance and technology,ö says MacquarieÆs Worthington, who notes that the low Japanese interest rate is supporting more deals of this kind by allowing Japanese companies to invest aggressively through the use of debt financing.

Indeed, other analysts argue that MitsubishiÆs support could come real handy for Medco, which is facing significant capital expenditures of about $1.3 billion over the next three years to cover exploration costs as well as a maturing bond issue in 2010.

ôThe stake purchase will basically increase the transparency of Medco as it is always better to have an international institutional investor in the companyàand it could mean that Medco could seek capital support from Mitsubishi in the future,ö says one Singapore-based fixed income analyst.

According to its website, Mitsubishi is the largest general trading company in Japan with businesses in 80 countries worldwide and interests in a variety of interests including energy, metals, machinery, chemicals, food and general merchandise.

Credit Suisse acted as financial adviser to Encore Energy.
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