SK Corp buys Inchon Oil

Post-Sovereign Asset Management, SK Corp makes first acquisition.

In a move that will possibly hearten SK Corp's foreign shareholders - especially in the wake of Sovereign Asset Management's exit - the Korean company has announced a transformational M&A transaction that is in its core business.

The deal was greeted with enthusiasm by the market. Indeed, while the acquisition of Inchon Oil Refinery was only officially announced late on Friday, rumours of the deal leaked on Thursday night, and SK Corp's stock reacted well. It closed up 2.36% at W56,300 on Friday and during intraday trading it was up as much as 6% to W58,300.

The deal will see SK Corp become Asia's fourth largest refiner, adding Inchon's 275,000bpd (barrels per day) to its own capacity - and will mean the Korean refiner will cross the psychological 1,000,000bpd mark. Additionally, because Inchon's production facilities are in the Northernmost part of South Korea (SK Corp's are in the South at Ulsan), the company believes that it will be able to use its capacity to serve the expanding China market. SK Corp has stated that it plans to deliver the majority of Inchon's refined product to China.

SK Corp beat out six other bidders including China's Sinochem, Korea's S-Oil and a Citigroup private equity consortium to buy Inchon Oil from a group of creditors. Inchon Oil has been under court receivership, and in selecting SK Corp it is thought that its proven track record in the refining business - its Ulsan refinery is the single largest oil refining facility (in a single location) in the world - would see SK turnaround Inchon's facilities and improve their efficiency and scale.

SK Corp will pay the creditors between W800-900 billion, but will see a total outlay of W3.2 trillion when bond purchases and new paid-in capital are accounted for. Some of the funds will be used to upgrade Inchon's facilities.

After the acquisition completes, SK Corp will have 90% equity ownership of Inchon Oil Refinery. Given the current strains on refining capacity, the move by the company to expand capacity looks very sensible - and given it will be absorbing another Korean player, the integration issues should be easier.

SK Corp, which recently paid out the biggest dividend in its 33 year history, has steadily been reducing its gearing in recent years. However, this transaction will probably see a reversal in this trend.

SK Corp's President and CEO, Heon Cheol Shin comments: "Our strong balance sheet, the favourable environment in the capital market and asset disposal opportunities will allow us to generate the funds for this acquisition and the capital improvements necessary at Inchon Oil. As we have stated previously, we are committed to long term shareholder value, and we believe this acquisition better positions SK Corp for the future."

At W3.2 trillion ($3.1 billion), the deal ranks as one of Korea's biggest M&A transactions of the year, falling just behind Hite's W3.4 trillion acquisition of Jinro, and Standard Chartered $3.3 billion acquisition of Korea First Bank. All in all it has been a good year for sellers in Korean M&A auctions, with intense buyer competition seeing high prices paid - with the trend established in January when Doosan Heavy paid a 220% premium for Daewoo Heavy in a government sale.

This deal sees SK Corp add a third to its oil refining capacity, but is it paying too much? Its current market capitalization is just over $7 billion, which would suggest, on the surface, that at $3.1 billion, SK Corp is paying a premium for Inchon. However, when you strip out SK Corp's own E&P assets, that premium looks less severe. As with many acquisitions, it will only be clear whether SK Corp paid the right price in the next couple of years - with the management then demonstrating it has delivered on synergies. Much will also depend on whether refining margins stay at recent highs.

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