Royal Dutch Shell is making a move to enter the hydrocarbon-rich areas of Kenya and Mozambique with a proposed offer to acquire Cove Energy plc for US$1.56 billion (GBP 992.4 million).

News of the proposed offer by Shell Bidco, an indirect wholly-owned subsidiary of Shell, comes after an early January announcement by East Africa-focused Cove Energy to conduct a formal sale of the company following numerous discoveries in Mozambique’s Offshore Area 1 license where it holds an 8.5% interest beside operator Anadarko Petroleum Corp.’s 36.5%.

Mozambique discoveries

On January 17, Anadarko announced results of the Lagosta-2 appraisal well, its seventh and “largest pay count of any well in the complex to date,” noted Bob Daniels, Anadarko senior vice president, Worldwide Exploration. The well, located about 4.4 miles north of the Lagosta discovery and 5.3 miles south of the Camarao well, encountered 777 total net feet of natural gas pay in multiple zones.

The result beats appraisals at previous wells, including Barquentine-3 (662 ft), Windjammer (555 ft.), Lagosta (550 ft.), and Camarao (380 ft.). Just the Camarao-Lagosta portion of the Area 1 license could hold roughly 5 Tcf of recoverable gas, noted Global Hunter Securities in a January 17 note to investors.

The long lead time of the project (first gas not expected until 2018) made it difficult for the market to value, explained Jefferies & Co. Inc., who, at the time, noted that a “mark-to-market of Mozambique could come earlier than expected with the potential sale of Cove Energy. A $1 billion takeout of Cove would imply $8-9/share for Anadarko," they said.

With the proposed offer from Shell, that valuation is now starting to take shape.

In a February 22 note to investors, Jefferies & Co. Inc. detailed exploration and production analyst Laura Loppacher’s estimate that $1.3-1.4 billion of the bid represents value for Cove’s Mozambique assets, saying the remainder of the value would be attributable to other assets, namely Kenya. “She also calculates that the bid implies a $100 oil price, an 8% discount rate, 100% probability of a 3-train development, and 50% probability of a 4-train development,” the note continued.

While the sale process is still ongoing, the deal is supported by Cove’s board of directors and, at least in the eyes of Jefferies & Co. Inc., a higher competing offer is not expected to materialize.

The bid is subject to consent from the Mozambique government, but the analysts believe the government would welcome Shell's technical expertise.

Complementary positions

According to Shell, East Africa is a major prospective hydrocarbon province, which has seen a significant increase in exploration activity in recent years. The company currently has interests in Tanzania and the acquisition of Cove would further complement exploration positions in East Africa.

In Mozambique, the Rovuma offshore basin is a frontier exploration area that holds large resources of natural gas reserves, suitable for LNG projects. According to Cove, the play represents the potential for 30+ tcf and 6 LNG trains.

Shell touts itself as one of the world's largest LNG producers, with equity sales volumes of 18.83 mtpa of LNG in 2011. Shell holds the largest equity share of LNG capacity among IOCs – currently holding some 20.5 mtpa of equity LNG capacity on-stream. Adding Cove's assets to Shell's portfolio would strengthen and further diversify Shell's existing global LNG portfolio of production and development projects.

In joint ventures with partners, Shell currently produces LNG in Australia, Brunei, Malaysia, Nigeria, Oman, Russia and Qatar.

Additional growth possible

While the close of the sale would add to Shell’s global portfolio, the company may not be finished dealing. “We believe Shell could be looking for more than an 8.5% non-op stake,” said Jefferies analysts. Two possible scenarios include purchasing an interest in Eni's adjacent blocks as Eni has expressed interest in selling down 20% of its 70% interest, as well as a purchase of an additional stake in the Anadarko-operated blocks, the analysts speculated.

As for the proposed offer of Cove Energy plc, Shell plans to release additional details as they become available. Morgan Stanley & Co. Ltd. is acting as financial adviser to Shell Bidco. Standard Chartered Bank is acting exclusively for Cove in connection with the proposed offer. Cenkos Securities plc is acting exclusively for Cove as nominated adviser and broker.