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Southwestern (SWN) to Acquire Indigo for $2.7B: Here's Why

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Southwestern Energy Company (SWN - Free Report) recently agreed to acquire private natural gas producer Indigo Natural Resources, LLC for around $2.7 billion. The move comes at a time when gas prices are expected to rise in the coming days.

About Indigo & Transaction

Indigo’s net production stands at 1 billion cubic feet of natural gas per day (Bcf/d), which is expected to rise after the closing of the acquisition. The acquiree is a low-cost producer in the core of prolific Haynesville play. Its net adjusted debt stands at $631 million, with 1.1X leverage.

Total consideration of the $2.7-billion deal includes only $400 million in cash. The rest will be paid in around $1.6 billion in Southwestern’s common stock and $700 million in debt. Some analysts are wondering whether the company’s balance sheet can take the additional burden. As of Mar 31, 2021, its cash and cash equivalents were $4 million, while long-term debt was $2,812 million. The figure represents a debt to capitalization of 82.8%. However, the gains from the acquisition are too huge to overlook.

Deal Rationale

Southwestern already boasts a diversified reserve base in multiple U.S. basins and remains focused on investments in high-return areas such as Appalachia. The acquisition of Indigo further expands its reach in the Haynesville and Bossier shale plays of northern Louisiana. Indigo’s low-cost production structure will boost Southwestern’s profitability. Moreover, the acquirer is expected to get access to the premium Gulf Coast export market. The deal is likely to conclude in early fourth quarter.

Last August, Southwestern’s acquisition of Montage Resources boosted its Appalachian Basin footprint with high-return Marcellus and Utica assets, creating the third-largest producer in the basin, with net production of 3 billion cubic feet of natural gas equivalent per day (Bcfe/d). Acquiring Indigo assets will enable it to further ramp up net output to 4.1 Bcfe/d.

Therefore, rising production and commodity prices can fetch the company massive profits. The U.S. Energy Information Administration anticipates the Henry Hub spot price to average $3.05 per million British thermal units (MMBtu) in 2021 and $3.02 per MMBtu in 2022, indicating a significant increase from the 2020 average of $2.03. Increasing liquefied natural gas (LNG) exports and domestic demand will likely drive the prices. Demand for the commodity is likely to rise in commercial, industrial and residential places.

The latest deal is expected to boost synergies, reduce unit costs and increase the company’s 2022 EBITDA by 54% to $2 billion. Free cash flow for 2022 will likely rise 96% for the combined entity to $470 million. Importantly, its E&P margin in 2022 is likely to increase 12% to $1.30 per Mcfe due to the acquisition.

This latest acquisition adds to a long list of mergers and acquisitions in the U.S. shale plays, as producers are trying to scale up and reduce unit costs, after multiple vaccine rollouts are boosting economic recovery following the COVID-19 pandemic. EQT Corporation’s (EQT - Free Report) acquisition of Alta Resources, Pioneer Natural Resources Company (PXD - Free Report) buyout of DoublePoint Energy, Cimarex Energy Co. (XEC - Free Report) and Cabot Oil and Gas’ proposed merger deal are some of the notable examples.

Price Performance & Zacks Rank

Southwestern stock has jumped 77.7% in the past year compared with 98.4% rise of the industry it belongs to. The company currently has a Zacks Rank #3 (Hold). You can see the complete list of today’s Zacks #1 Rank (Strong Buy) stocks here.

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