PDC Energy [stock_market_widget type="inline" template="generic" color="default" assets="PDCE" markup="(NASDAQ: {symbol} {currency_symbol}{price} ({change_pct}))" api="yf"] recently announced that it is going to merge with SRC Energy [stock_market_widget type="inline" template="generic" color="default" assets="SRCI" markup="(NYSE: {symbol} {currency_symbol}{price} ({change_pct}))" api="yf"] in an all-stock transaction worth $1.7 billion that includes $685 million of the latter’s debt. Investors seem to have welcomed this acquisition as the shares of both companies jumped after the merger was announced.
But are PDC and SRC doing the right thing by merging in light of the macroeconomic problems prevailing currently, as well as the uncertainty looming over oil prices? Let’s find out.
Is This the Right Move?
PDC Energy is going to become the majority player in this combination once the transaction closes in the fourth quarter of 2019. Its shareholders will hold 62% of the combined company, while SRC shareholders will hold the remaining stake.
PDC management believes that the combination is the right way to go as it will unlock more value for shareholders. Assuming a WTI oil price of $55 per barrel, PDC projects that the combined company will generate $800 million in proforma free cash flow from the third quarter of 2019 through the end of 2021.
This free cash flow generation will be the result of the creation of “a low-cost mid-cap producer with anticipated peer-leading G&A of approximately $2.00 per Boe in 2020,” according to PDC management. What’s more, PDC says that it will realize $40 million worth of savings in general and administrative expenses next year, with an additional $10 million of synergies in the following year once the integration is complete.
The gains expected by PDC don’t seem surprising as SRC has been busy ramping up production at a terrific pace, though weak oil prices have weighed on its results. The company kept that momentum up in the recently-reported fiscal second quarter as crude oil production shot up 32% year over year, and overall sales volumes spiked 28%.
Though the average sales price was down 15% annually, the strong production growth enabled SRC Energy to boost revenue by 11% year over year. More importantly, the company was able to keep a handle on its expenses. Its lease operating expense dropped 18% during the quarter, while net G&A expenses increased just 4%.
PDC’s Attractive Operational Profile Should Get Better
PDC Energy, on the other hand, has also been keeping a nice control over its cost profile. The company delivered a 24% increase in its crude oil production last quarter, while oil equivalent production increased 32.4% year over year.
Meanwhile, its costs actually fell on a year-over-year basis. PDC Energy’s total costs per barrel of oil equivalent came in at $5.57 during the quarter as compared to $6.81 in the prior-year period.
So the acquisition of SRC starts making sense as the combined synergies should lead to a further decrease in costs, eventually leading to a better bottom line in the future. Unsurprisingly, investors have been celebrating this merger as the stock price action suggests and they are right in doing so as a combined SRC and PDC can deliver stronger growth in the future.
