analysis merger of petrochina company limited and...

International Conference on Education For Economics, ISSN (Print) 2540-8372 Business, and Finance (ICEEBF) 2016 ISSN (Online) 2540-7481

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ANALYSIS MERGER OF PETROCHINA COMPANY

LIMITED AND SINOPEC LIMITED USING

DISCOUNTED CASH FLOW METHOD

Marissa Ramadhana1, Subiakto Soekarno2

1. School of Business and Management, Bandung Institute of Technology, Indonesia

2. School of Business and Management, Bandung Institute of Technology, Indonesia

E-mail : [email protected] , [email protected]

Abstract

In the past decades, we have been using oil as our first resource of energy, however, there is a new resource of energy that has been developed in America which is shale oil, due to

that, the demand of oil is decreasing compared to these last decades and it made oil price decreased dramatically. PetroChina Company Limited and Sinopec Limited are one of

several successful company in oil & gas fields based in China, but due to the crisis, they need to decrease its cost such as labor cost also decrease a budget to open a new drilling area in order to have a profit. Thus, one of a solution for the company is to be merged with another

company in order to decrease its cost and increase company profit and shares also being merger with another company could increase the company power. Therefore, the author wants know the impact for both companies if they are being merge with each other whether

it will increase its power on China Oil as well as decreasing the production cost and increase its income or not. The author will use data of both companies from Annual Report and Capital Market Data of PetroChina Company Limited and Sinopec Limited from year 2010 – 2014

to help the author calculate the synergy of both companies after being merger and to find the valuation of the two companies by using discounted cash flow, this method is a preferred

approach to valuing a company. The findings suggest PetroChina Company Limited and Sinopec Limited to be merge since its create synergies. Based on three scenarios, the synergies which created in pessimistic, most- likely and optimistic scenarios are

¥820.832,78, ¥844.294,71 and ¥ 1.344.618,97.

Keywords: Merger, Acquisitions, Valuation, Oil Company, Oil Price, Discounted Cash Flow, Synergy, Shale Oil

I. Introduction

Oil is our biggest source of oil, especially in America. However, America has found a new technology, which can cultivate sediIIImentation from rocks and contains a

large amount of Kerogen, called shale oil. Consequently, America start to develop

shale oil and decrease its demand towards raw oil. In Japan, they started to develop

a new resource of energy, which can save a large amount of money other than import

raw oil overseas and since America is the largest importer of oil it made oil demand

is decreasing since July of 2014.

Middle East and Dubai are one of the biggest exporters in oil & gas field and currently spends considerable amount of money to develop their country. Both

country biggest incomes are from exporting oil. Due to that, they start to sell their

oil cheaper than shale oil to make America re-considered of buying oil rather than

shale oil to make an income for their country. This action made a lot of oil & gas

mailto:[email protected]

mailto:[email protected]

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company start to lowered they price below Middle East and Dubai oil price because

if they did not lowering the price, oil & gas company will go broke.

Figure 1.1: Daily Crude Oil Prices, June 2015 - June 2015

Over the past decades, PetroChina Company Limited and Sinopec Limited are one

of several successful company in oil & gas fields based in China, but due to the

crisis, they have a decrease in income, with the uncertainty of oil price, if they

still want to get a profit income they should decrease its cost such as labor cost also

decrease a budget to open a new drilling area in order to have a profit.

Looking at the situation of both

company, there is a huge

probability the both company

being merger to decrease its

outcome and also increase its

revenue as the news in Wall

Street Journal on Feb 18th

,

2015, but until now Chinese

Government has not give any

confirmation regarding the

merger of both company issue.

There is a lot of talk about the

two company wants to be

merger. Therefore, the author wants to analysis both company to make them

sure if the both company being merge it will create a synergy by using valuation

discounted cash flow.

Figure 1.2 : PetroChina and Sinopec Profit

International Conference on Education For Economics, ISSN (Print) 2540-8372

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II. Teoritic›al Framework

PEST Analysis and SWOT Analysis PEST Analysis and SWOT Analysis is used in the research to define and identify

the external as well as internal environment of PetroChina and Sinopec Company

itself. PEST Analysis is focusing on external environment and China’s politic,

economy, social and technology condition while SWOT Analysis is focusing on

internal company to identify each companies strenght, weakness, opportunity and

threat among other oil&gas company.

Merger and Acquisitions The combining of two or more companies, generally by offering the stockholders

of one company securities in the acquiring company in exchange for the surrender

of their stock by making one new company and both of the company are having an

agreement. In this research we use Horizontal Merger due to PetroChina and

Sinopec produces and sells an identical or similar product in the same geographic

area could encourage cost efficiency. The benefit of the merger is to eliminates

the competitor of both firms as well as increase its market share, revenue and profit.

However, an acquisition is when one company wants to buy more than 50% of the

target’s company ownership stakes to control the target firm. The purpose of

acquisitions is to increase the company growth and it is more beneficial to acquire

an existing firm rather ran expanding our company ourselves. The payment in

acquisitions usually paid in cash and the acquiring company’s stock or the

combination of both. The acquiring company used to offers to buy the premium

price of the target firm’s stock price in order to the stakeholder of the target firm

wants to sell. (Investopedia 2013)

Discounted Cash Flow Discounted Cash Flow is estimating the expected future cash flows,

which discounted to the present value or we used to call it time value of money.

(Wikipedia 2015). The step to valuate using discounted cash flow as follows,

1. Estimate future cash flow from investment

2. Consider the riskiness of cash flows and interest rate in capital market

3. Estimate a reasonable discount rate

4. Calculate the present value of the future cash flow

Following is the formula of Discounted Cash Flow,

V = CF1 / (1+k) + CF2 / (1+k)2

+ [TCF / (k - g)] / (1+k)n-1

To calculate the value of firm, the expected cash flow should be discounted due to

any payments to either debt or equity holders, at the weighted average cost of

capital, which is the cost of different components of financing used for the firm.

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Where,

PV = Present Value CFi = Cash Flow in Year i k = Discount Rate

TCF = The terminal year cash flow g = Growth rate assumption in perpetuity beyond terminal year n = The number of periods in the valuation model including the terminal year

Following is the formula to calculate value of firm,

Where,

CF to Firmt = Expected Cash Flow to firm in period t, WACC = Weighted average vost of capital, T = time period

Free Cash Flow

Free Cash Flow represents the cash in the company and able to generate after

laying out the money required to maintain or expand its asset base. Free Cash Flow

is important because it allows a company to pursue opportunities that enhance

shareholder value (Wikipedia 2015).

The formula of standard statement of cash flows,

FCF = EBIT(1-Tax Rate) + Depreciation&Amortization – Change in Net Working Capital – Capital Expenditure

The formula if net profit and tax rate applicable are given,

FCF = Net Profit + Interest Expense – Net Capital Expenditure – Net changes in Working Capital – Tax shield on Interest Expense

Where,

Net Capital Expenditure (CAPEX) = Capex – Depreciation & Amortization

Tax Shield = Net Interest Expense x Effective Tax Rate

Investors think that Free Cash Flow is giving them much clearer view of the ability

to generate cash and profit, also if the Free Cash Flow is negative it doesn’t mean

bad, it could be the company is making an investment. (Investopedia 2015)

Terminal Value

Terminal Value is use for an approach that involves making some assumptions

about long-term cash flow growth. To determine terminal value (Investopedia

2015), we use Gordon Growth Model and the model uses this formula,

Terminal Value = Final Projected Year Cash Flow x (1 + Long-Term Cash Flow Growth Rate)(Discount Rate – Long-Term Cash Flow Growth Rate)

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Discount Rate

WACC (Weighted Average Cost of Capital, is the calculation of a firm’s cost

of capital which each category of capital is proportionately weighted. The

resource of this capital includes common stock, preferred stock, bonds and other

long-term debt. The WACC of the firm would increases along with the beta

and rate of return on equity increase, while WACC increasing, there’s a decrease

in valuation and would increase the risk (Investopedia 2015).

The formula of Weighted Average Cost of Capital as follows,

Where:

Re =Cost of Equity

Rd = Cost of Debt

E = Market value of the firm's equity

D = Market value of the firm's debt

V = E + D = Total market value of the firm’s financing (equity and debt)

E/V = Percentage of financing that is equity

D/V = Percentage of financing that is debt

Tc = Corporate tax rate

Cost of Equity is the return a firm theoretically pays to its equity investors,

shareholders, to compensate for the risk they undertake by investing their capital

(Wikipedia 2015).

The formula of Cost of Equity,

Where,

Rs = Cost of Equity

Rs = Rf + Beta x (Rm – Rf)

B = Beta Coefficient, measure of systematic risk of a firm’s common stock

Rm-Rf = The expected market risk premium for China

Synergy

Synergy is the source of benefit to stockholders. The concept of synergy is

when the value and performance of two company combined will be greater

rather the total of the separate individual parts. The purpose of synergy is

combining two companies could lead to a greater financial result than they

ever achieve alone. (Jaffe 2013)

Synergy = VAB – (VA + VB) VA = The value of firm A

VB = The value of firm B

VAB = Difference between the value of the combined firm

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Synergy came from the increases in cash flow that could create a value. We

calculate ΔCFt as the difference between Cash Flow when the two firms combined

and the sum of the separate individual parts.

ΔCFt = ΔRevt - ΔCostst - ΔTaxest - ΔCapital Requirementst

ΔRevt = Incremental revenue of the acquisitions

ΔCostst = Incremental cost of the acquisitions

ΔTaxest = Incremental acquisitions of taxes

ΔCapital Requirementst

and fixed assets

= Incremental new investment required in

working capital

Therefore, the synergy is be possible if the revenue increasing, cost reducing,

lowered tax and low capital investment or at least one of four categories

make an improvements we could call it synergy. (Jaffe 2013)

III. Research Methods

The author will analyze the synergy of both company, which are PetroChina and

Sinopec Company by calculate their valuation without synergy as well as

combine firm of these companies with synergy and compared them. Afterwards,

the author will give recommendation for both companies also the China’s

government to make a merger decisions.

The research would use secondary data from PT PetroChina and PT Sinopec main

website. Following are the data which author will use,

1. PT PetroChina Annual Report from year 2010 – 2014

2. PT Sinopec Annual Report from year 2010 – 2014

These four data would be use to analysis the merger/acquisition also the synergy of

both companies.

The data which already collect before, being analyze using Discounted Cash

Flow, also we need to determine the synergy of both company and calculate

PetroChina and Sinopec Company growth if they combined together using the

method and formula in literature review. PEST and SWOT Analysis are also use

for the research, PEST Analysis is to identify and analyze macro environment

around both companies and SWOT Analysis to identify internal and external

situations.

The step to conduct the data analysis, followings:

1. Calculate each of the company’s value of firm. The valuation method

which the author use is discounted cash flow with free cash flow

2. Calculate the value of combined firms with no synergy by adding the

value of firm which the author already calculate in the first step

3. Estimate the effects of synergy using expected growth rates and cash

flows also the author will calculate the value of the combined firms with

synergy


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IV. Result and Discussion Industry Overview The industrial Overview will be used for the fundamental in determining the

future projection of both companies and combined firm. The analysis will use

PESTEL analysis for the oil and gas industry situation in China and worldwide also

SWOT analysis for both companies which are Petrochina and Sinopec Company.

PEST Analysis PEST Analysis is a framework of macro-environmental factors to scan

the environment component of company’s strategic management. PEST

consists of Politic, Economy, Social and Technology.

In the term of Politic, the most influence factor for the government regulation in

China, not only for the government regulation that could impact oil and gas

companies in China but also geopolitical conflicts also political instability.

PetroChina and Sinopec Company are both oil and gas national companies in China,

therefor they both have exclusive right for Sino-foreign co-operation in the CBM

(Coal-bed Methane). Sino-foreign is a joint venture, which can be form into equity

joint ventures as well as cooperative joint venture. However, in Chinese Law only

Chinese companies can become shareholders of joint venture.

In term of Economic, China is a global hub for manufacturing as well as the largest

manufacturing economy and exporter of goods in the world. According to IMF,

China’s the world largest economy by purchasing power party. Based on The World

Bank, China has a GDP growth of 6,7% on 2014, however since 2010 up till 2015,

data shows China experience a decrease for the last five year. York (Analyst of

Woods Mackenzie) state, by 2020 China will be second only to the U.S for the total

fleet of personal auto vehicles in use. From 2005 – 2020, China will see the number

of vehicles rise from 20 million to 160 million, which means the demand of

domestic oil demand growth due to cars and commercial ground transportation.

In term of Social, United Nations predicts China’s population projection by the

end of 2020 is 1,387,792,000. This will be a huge advantage for national oil

company to generate it sales on gasoline or petrol for cars and commercial ground

transportation. According to trading economics, the labor cost in China will be

stable up to 2020, thus it will be an advantage for national companies to increase its

supply to reach demand.

In term of technology, China made an R&D with SASOL which is a chemical

company based in South Africa, to establish coal to liquid fuel capabilities in China,

since it will improve economics of china as well as the environment itself.


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SWOT Analysis Below are the SWOT Analysis for both Companies, Petrochina Company Limited

SWOT Analysis,

Strengths

• Strong Foothold in China à controlled

and owned by China National Petroleum

• Research and Development Activities

• Biggest oil producer in China

• Well-known company

Weakness

• Lacking offshore presence in China

• Declined Liquidity

• Operating Loss

Opportunities

• Growth in Asia-Pasific Refining

Capacities

• Growth Initiatives à explore market outside China

• Positive outlook of petrochemical industry

Threats

• Fluctuations in the oil & gas prices

• High competitions

• Government regulations

• Environmental Laws

• Stringent Policies and Regulations

Table 4.1 : PetroChina Company Limited SWOT Analysis

Sinopec Company Limited SWOT Analysis

Strengths

• Strong name in China

• One of the top companies in terms of sales

• Operations include oil & gas refining, exploration, marketing, storage, and

pipeline transportation

• Largest Oil refiner in Asia by annual

volume

Weakness

• Dependence on third party

crude oil suppliers

• Lack of geographical diversification

• Decline in crude oil reserves

Opportunities

• Growth through joint venture and

alliances

Threats

• Intense competition

• Government regulations

• Environmental Laws

Table 4.2: Sinopec Company Limited SWOT Analysis

Financial Performance Analysis Financial performance analysis is a subjective measure of how well a firm can

use assets from its, primary mode of business and generate revenues (Investopedia,

2016). To conduct financial performance analysis for PetroChina Company

Limited and Sinopec Company Limited, the author calculate liquidity, activity,

debt, and profitability analysis. This analysis is conducted from 2010 – 2014

also only use time-series due to the cross – analysis since the benchmark is only

available on 2015.


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Below is PetroChina’s financial performance analysis,

Data 2010 2011 2012 2013 2014 Time - Series Overall

Liquidity

Current Ratio 0,66 0,64 0,64 0,67 0,79 Poor Poor

Quick Ratio 0,33 0,29 0,27 0,29 0,48 Poor Poor

Activity

Average

Collection Period

5,52

3,72

3,15

4,20

4,18

Good

Good

Average

Payable Period

155,90

127,81

115,85

125,04

100,97

Good

Good

Total Asset

Turnover

0,72

0,83

0,77

0,74

0,76

OK

OK

Inventory

Turnover

6,09

6,54

6,02

5,80

8,65

Poor

Poor

Debt

Debt Ratio 35,88% 39,50% 43,70% 42,40% 40,79% OK OK

Debt to Equity

Ratio

55,96%

65,30%

77,61%

73,61%

68,90%

Poor

Poor

Profitability

Gross Profit

Margin

33,99%

27,09%

25,20%

26,25%

23,89%

Poor

Poor

Operating Profit

Margin

15,20%

10,08%

7,67%

7,85%

6,49%

Net Profit

Margin

13,42%

9,82%

7,73%

9,86%

6,87%

Poor

Poor

Earnings per

share

¥0,72

¥0,69

¥0,57

¥0,73

¥0,53

Poor

Poor

Return on Total

Assets

9,72%

8,19%

5,94%

7,29%

5,21%

Poor

Poor

Return on

Equity

15,16%

13,54%

10,55%

12,65%

8,80%

Poor

Poor

Table 4.3 : PetroChina's Financial Performance Analysis


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Data

2010

2011

2012

2013

2014

Time -

Series

Overall

Liquidity

Current Ratio 0,69 0,67 0,61 0,55 0,82 Poor Poor

Quick Ratio 0,29 0,26 0,21 0,25 0,63 Poor Poor

Activity

Average

Collection Period

16,95

14,86

14,46

19,59

67,62

OK

OK

Average

Payable Period

113,14

102,06

117,90

130,44

173,51

Good

Good

Total Asset

Turnover

1,41

1,60

1,58

1,42

1,13

Good

Good

Inventory

Turnover

8,73

8,47

8,70

9,40

13,03

Poor

Poor

Debt

Debt Ratio 54,14% 55,06% 54,24% 53,89% 50,16% Good Good

Debt to Equity

Ratio

118,03%

122,50%

118,51%

116,88%

100,65%

Poor

Poor

Profitability

Gross Profit

Margin

24,24%

20,77%

20,42%

19,77%

20,42%

Poor

Poor

Operating

Profit Margin

6,75%

5,02%

4,72%

4,28%

2,92%

Net Profit

Margin

5,62%

4,25%

3,90%

3,52%

2,63%

Poor

Poor

Earnings per share

¥5,52

¥5,41

¥5,24

¥4,74

¥2,66

Poor

Poor

Return on

Total Assets

7,95%

6,81%

6,15%

5,01%

2,97%

Poor

Poor

Return on

Equity

17,33%

15,15%

13,44%

10,87%

5,97%

Poor

Poor

Table 4.4 : Sinopec's Financial Performance Analysis

Liquidity Ratio Liquidity is a firm’s ability to satisfy its short-term obligations as they come due.

It refers to the wealth of the company’s overall financial position, which it can pay

its bills. The ratio above can shows early signs of cash flow problem and impeding


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business failure. PetroChina and Sinopec’s main business is in petroleum as well as

chemical field, PetroChina is focusing on upstream are which are drilling and

finding new place to drill while Sinopec is focusing on downstream such as

production of its oil from crude oil to gasoline. PetroChina and Sinopec inventory

of its firm cannot be easily sold because they are partially special-purpose items

due to that its liquidity ratio (current & quick ratio) is poor. Based on time-series

analysis, both companies liquidity ratio is inconsistence. Basically, PetroChina and

Sinopec’s liquidity ratio shows both firms is in poor performances.

Activity Ratio Activity ratios measure activity ratios measure how efficiently a firm operates

along a variety of dimensions such as inventory management, disbursements, and

collections. Based on the calculation, PetroChina took four days (average) to collect

its account receivable while Sinopec took 20 days (average) to collect its average

collection, however on 2014, Sinopec average collection period is 64,62. In term of

average payment, PetroChina experience a fluctuates condition due to oil price’s

condition while for Sinopec in year 2011 – 2014 experience an increase in

its average payment. PetroChina efficiency on using its assets to generate sales

considered as ok since its average is on 0,76 while Sinopec considered as good since

its average is 1,43. Hence, both companies shows an efficiency on its assets.

Inventory turnover calculates the activity or liquidity of a firm’s inventory, and for

both firms inventory turnover is considered as poor. Hence, overall condition

for both firms is still in good performances.

Debt Ratio The debt position of a firm indicates the amount of other people’s money being

used to generate profits. PetroChina and Sinopec is doing good on debt ratio since

the calculation above indicates that the company has financed close to half of its

assets with debt. However, both PetroChina and Sinopec experience a decrease in

its indebtness from 2013 – 2015. Based on calculation, debt to equity ratio

on PetroChina shows it has lower debt rather than its equity while for Sinopec its

equity is higher than debt. It could be dangerous for Sinopec because it could affect

the firm itself if its debt increasing while its revenue is decreasing.

Profitability Ratio In this section, PetroChina and Sinopec profitability ratio is decreasing each years.

However, both companies is still having an increase on its operating income each

year. Hence, the earnings per share of PetroChina is fluctuate while for Sinopec is

decreasing on each year. Basically, the profitability ratio on both companies is still

near-stable condition.

Key Assumptions To calculate PetroChina Company Limited and Sinopec Company Limited by

using Discounted Cash Flow Method, the author made an assumption to projecting the discount rate, perpetuity growth and the corporate tax of the company. These

assumptions are made by the historical data, market data and actual data.

The assumptions for both companies valuation are given in the table below,


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No Description Value Information 1 Risk Free Rate (Rf) 4,22% Nominal Rate of The People’s Bank of China on

2014

2 Market Retrurn (Rm – Rf) 5,33% Implied Market Risk Premia for China, based on

Fenebris. 3 Perpetuity Growth 2% Inflation Rate on 2014 in China based on The

World Bank 4 Corporate Tax 25% Company’s effective tax rate under the Income

Tax Table 4.5 : Assumptions for Valuation

Following is the summary of valuation results of both PetroChina and Sinopec

Company,

Summary PT PetroChina Company Limited

Pessimistic Most-Likely Optimistic

Beta 0,255157227 0,255157227 0,255157227

Pretax cost of debt 5,72% 5,72% 5,72%

Tax Rate 25% 25% 25%

After-tax cost of debt 4,29% 4,29% 4,29%

Cost of Equity 4,23502% 4,23502% 4,23502%

Cost of Capital 5,34% 5,34% 5,34%

Debt to Capital ratio 0,18224347 0,182243466 0,182243466

Terminal Value ¥22.622.543,58 ¥32.991.712,98 ¥34.808.744,88

Value of firm ¥20.224.897,86 ¥28.483.699,17 ¥30.059.177,27

Pretax return on capital 16,07% 16,07% 16,07%

After-tax return on capital 12,05% 12,05% 12,05%

CAGR -9,85% 9,44% 16,06%

Length of growth period 6years 6years 6years

Expected growth rate -9,85% 9,44% 16,04%

Perpetuity growth rate 2% 2% 2%

Summary

PT Sinopec Company Limited

Pessimistic Most-Likely Optimistic

Beta 0,063547312 0,063547312 0,063547312

Pretax cost of debt 6,72% 6,72% 6,72%

Tax Rate 25,00% 25,00% 25,00%

After-tax cost of debt 5,04% 5,04% 5,04%

Cost of Equity 4,239082% 4,239082% 4,239082%

Cost of Capital 4,79% 4,79% 4,79%

Debt to Capital ratio 0,473835866 0,473835866 0,473835866

Terminal Value ¥2.440.576,46 ¥4.544.895,76 ¥6.650.747,93

Value of firm ¥3.137.501,74 ¥4.838.412,92 ¥6.594.068,49

Pretax return on capital 11,17% 11,17% 11,17%

After-tax return on capital 8,38% 8,38% 8,38%

CAGR -18,59% 0,70% 7,30%

Length of growth period 6years 6years 6years

Expected growth rate -18,59% 0,70% 7,30%


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Perpetuity growth rate 2% 2% 2%

Following is the result valuation of combined company,

Cost of Equity Combined Firm

Rf 4,22%

Beta 0,22918195

Risk Premium 5,33%

Re 5,44%

Market of Value Equity ¥1.362.144,61

Cost of Debt

Interest Coverage Ratio 4,138691838

Rating BBB

Typical Default Spread 1,50%

Company Tax Rate 25,00%


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After Tax Cost of Debt 4,29%

WACC

Wd 0,203171461

We 0,796828539

Rd 4,29%

Re 5,44%

WACC 5,21%

Based on the calculation and assumption above, the author use discounted cash flow method to estimate the combined firm value as well as PetroChina and Sinopec

Company value itself. However, PetroChina as the acquirer will experience a

decrease growth in combined firm, for pessimistic, most-likely and optimistic

here are the calculation below,

Growth PetroChina Combined

Firm Pessimistic -9,85% -11,41%

Most-Likely 9,44% 7,

8

8%

Optimistic 16,06% 14,4921%

The situation above happen due to PT Sinopec has a low growth rate compared to PetroChina as the acquirer, which is 0,70%, while PetroChina has 9,44%. However,

according to the calculation, which the author did for the research, combined firm

have a higher value rather than PetroChina itself as the acquirer without having

merger with Sinopec. The combined firm also has a lower cost of capital for 5,21%

rather than PetroChina with 5,34%. Sum of both companies value also lower than

the value of combined firm itself, the value for combined firm for pessimistic, most-

likely and optimistic are ¥24.183.232,38, ¥34.166.406,79 and ¥37.997.864,73

where the sum of PetroChina and Sinopec’s value for pessimistic, most-likely and

optimistic are ¥23.362.399,6, ¥33.322.112,08 and ¥36.653.245,76. Based on the

calculation above, merger of PetroChina and Sinopec will create a synergy based

on the value. The synergy can be known by subtracting combined firm and sum of

PetroChina and Sinopec value for pessimistic, most-likely and optimistic which

are

¥820.832,78, ¥844.294,71 and ¥ 1.344.618,97.

Stock Exchange Ratio

Exchange Ratio is the relative number of new shares, which will be given to existing shareholders of a company that has been acquired or has merged with

another.

Following is the summary of PetroChina and Sinopec Company stock,

PetroChina Sinopec

Earnings after tax ¥96.864,00 ¥32.145,00

No of shares 183021 12107


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Price/Earning Ratio ¥13,39599 ¥2,00825

EPS ¥0,53 2,65504926

Price ¥7,08984 ¥5,33200

To calculate the new shares outstanding for PT Sinopec after being acquired by PetroChina is by using stock exchange ratio, which is comparing PetroChina’s price

stock with PT Sinopec.

Based on the calculation above, every 0,752062197 share of PetroChina equals to1

share of Sinopec. Below is the calculation for Sinopec’s new shares of outstanding

post-merger,

[0,75206197 x 12,107 shares] = 9.105,31 new shares outstanding ≈ 9.106

Therefore, PetroChina will issue 9106 new shares of outstanding to acquire Sinopec. To know the accuracy of the calculation for this merger, the author will

calculate by subtracting combined firm value with debt and divide it with new total

shares then multiply it again with the new total shares. If the value of combined

company equals with value of PetroChina, Sinopec and additional synergy,

basically the calculation the author use in this research is accurate.

Value Combined Company ¥34.166.406,79

Debt ¥347.313,00

New Total Shares 192126

New Price ¥176,03

Value of Combined Company (minus debt) ¥33.819.093,79

Value PetroCina + Sinopec + Synergy (minus debt)

¥33.819.093,79

For the new share ownership and the structure based on the weight calculation by dividing the PetroChina shares with total new shares of outstanding,

PetroChina will owns 95,261% of combined firm, while Sinopec owns 4,739% of

the new combined firm. Basically, PetroChina will be responsible for making

operation, financial and company decisions.


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V. Conclusion and Recommendation

Conclusion

Based on the calculations, fundamental and analysis in the previous section, the

author concludes the financial performance of PetroChina and Sinopec, both firm

are in their poor condition. However, the ctivity ratio for both firm are in

good condition due which means they are efficient on operating its own firm as well

as the debt ratio, both firms experience good conditions. However, regarding of the

poor financial condition both firms have, if PetroChina and Sinopec Company are

being merged there will be a synergy created. Based on the discounted cash flow

method all three scenarios (pessimistic, most-likely and optimistic scenarios) are

creating synergy which are ¥24.183.232,38, ¥34.166.406,79 and ¥37.997.864,73.

The calculation of combined firm value have a higher results compared to the

sum of both companies, and here are the additional synergy value which created by

using discounted cash flow model for pessimistic, most-likely and optimistic

scenarios,

¥820.832,78, ¥844.294,71 and ¥ 1.344.618,97.

The author also made PEST Analysis and SWOT Analysis, these firms has a benefit due to the economy condition in China since in the future China’s usage of vehicle

is predicted to rise from 20 million to 160 million, which means there will be a high

demand growth for oil as well as developing its company technologies. Combined

firm will experience higher efficiency on cost for oil production (upstream and

downstream) since PetroChina focusing more on upstream area compared to PT

Sinopec which focusing on downstream area, hence, combined firm should

have more efficiency on both area. PetroChina and Sinopec Company also has a

strong foothold in China, therefor if the merger happen, they would be the biggest

oil company in China also an influential for oil price market for the whole globe.

There is also another factors which contribute for a creation of synergy of combined firm, new cost of equity. The new cost of equity for combined firm is lower than

PetroChina itself, new cost of equity for combined firm is around 5,44% while

for the cost of capital for pessimistic, most-likely and optimistic scenarios are

5,22%, 5,21% and 5,18%.

Recommendation

Based on above conclusions, the author suggests PetroChina and Sinopec Company to do a merger. Hence, a merger of between these two companies will

create a larger market shares as well as to make a largest company in China, which

in the future could predominantly affect the market price of oil company.

The author also suggests PetroChina as the biggest company to acquire Sinopec under PetroChina name. The merger could be done for both companies by

exchange it with PetroChina stock, which is for every 0,752062197 shares of

PetroChina is equals to 1 PT Sinopec share. Overall, PetroChina will issue new

shares of outstanding for 9105,307 (9106) new shares. The new combined firm is

also being control by PetroChina since PetroChina has 95% stock of combined

firm, also for the operational structure it will be best if PetroChina still focusing on


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upstream while Sinopec focus on downstream since its what both companies do best

to increase its production activities for combined firm.

In the future, the author suggests to use discounted cash flow method to estimate

companies value as well as calculate the cost of merger and determine the most

advantages and appropriate way to do a merger.

References

(1) About PetroChina: Company Profile PetroChina Company Limited. (2016, April

15). Retrieved from http://www.petrochina.com.cn/ptr/gsjs/gsjs.shtml

(2) About Sinopec: Company Profile Sinopec Corp. (2016, April 15). Retrieved from

http://english.sinopec.com/about_sinopec/

(3) Damodaran, A. 2006. Damodaran on Valuation: SECOND EDITION. Wiley

Finance

(4) Gitman, L.J. 2012, Principles of Managerial Finance: Thirteen Edition. Pearson P.

(5) Kearney, AT. 2013. M&A Deal Evaluation: Challenging Metrics Myths.

ThomasKearney.

(6) Ross, Westerfield, Jaffe. 2012. Corporate Finance: Tenth Edition. McGraw-

Hill/Irwin.

(7) Group, Fitch. (2015, April 30). PetroChina-Sinopec Merger: an Oil Giant in the

Making. Retrieved from http://www.bmiresearch.com/

(8) Organization of the Petroleum Exporting Countries. 2015. World Oil Outlook.

Vienna, Austria : OPEC.

(9) Knomea. (2016, July 16). Crude Oil Price Forecast: Long Term 2016 to 2025 | Data

and Charts. Retrieved from https://knoema.com/yxptpab/crude-oil-price-forecast-

long-term-2016-to-2025-data-and-charts.

(10) PetroChina Company Limited. Annual Report 2010. Company Annual Report,

Beijing: PetroChina Company Limited, 2010.









(15) Sinopec Company Limited. Annual Report 2010. Company Annual Report, China:

Sinopec Company Limited, 2010.









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