In a vast financial restructuring seen as at least partially inspired by takeover fears, Atlantic Richfield announced plans Monday to buy back $4 billion of its stock and cut back its operations sharply nationwide.
Among the consequences will be the addition of $4 billion in debt to the Los Angeles-based company’s balance sheet, a one-time write-off of $1.3 billion against 1985 earnings and layoffs or early retirement for perhaps thousands of the company’s 34,900 employees.
The program, approved Sunday at a special meeting of the company’s board of directors, includes Arco’s withdrawal from the refining and petroleum marketing businesses east of the Mississippi River, a region that includes 1,350 service stations and that has accounted for half of its gasoline sales. Those sales have been unprofitable since 1981, a company executive said.
Further Oil Price Declines
Arco also will sell all its remaining non-coal minerals operations, completing a program that began with the sale of its aluminum operations earlier this year. And the company, citing its “diminished expectations” for oil prices, said it will cut spending on exploration by as much as $250 million a year.
The program is built upon the assumption that oil prices will decline in the future to as low as $18 per barrel of West Texas crude oil from $29 now, the company said.
In all, Arco said, its reorganization will save it $500 million per year after taxes in 1986 and beyond. Half of that savings will be consumed, at least at first, by higher interest costs resulting from money borrowed for the share repurchases, however.
If the entire program were to be executed this year--something the company considers unlikely--its bottom-line profit would be about $340 million, after including the $1.3-billion write-off. Arco had profits of $567 million last year on revenues of $24.7 billion, following after-tax write-offs totaling $785 million in its minerals and metals businesses.
Monday’s move by the oil giant is the latest in a series of major reorganizations by U.S. oil companies. But it is the first to take place without a hostile takeover bid from a raider, such as T. Boone Pickens, who has made well-publicized assaults on Gulf Oil, Phillips Petroleum and, currently, Unocal.
Putting Up Defenses
“Arco is saying, ‘We’re putting up our defenses before we’re attacked,’ ” said Daniel F.D. McKinley, an oil industry analyst for the investment firm of Smith Barney, Harris Upham & Co.
In its official statement, Arco did not explicitly tie its program to the takeover threat. Instead, it cited the continuing decline in oil prices. “The petroleum industry faces a difficult environment,” said its chairman, Robert O. Anderson, in a prepared statement. “We believe that those who are willing to confront it realistically will find substantial opportunities. This program puts us where we need to be in both operating and capital structure.”
By adding $4 billion to Arco’s long-term debt and pushing up the price of its stock, the share repurchase program erects two significant barriers to raiders of the Pickens ilk whose financial resources are relatively modest. Arco also will increase its annual common stock dividend from $3 to $4, following a 25% increase last year.
The stock market reacted enthusiastically Monday. Arco shares, one of the most heavily traded issues on the New York Stock Exchange, closed up $5.25 per share at $58.25. Other oil companies also rose as investors speculated on the potential for similar restructurings. Mobil Corp. closed up $1 at $31.27, Amoco Corp. up 87.5 cents at $64.75 and Standard Oil Co. (Ohio) up $1.25 to $49.50.
Arco’s actions mirror two developments in the U.S. oil industry: The increasing accumulation of debt among major companies as a reaction to, or protection against, takeover entrepreneurs, and the withdrawal of those companies from refining and retailing operations.
In the last three years, one Arco executive estimated, 100 U.S. refineries have been closed. This has taken place as member nations of the Organization of Petroleum Exporting Countries, particularly Kuwait, have shown more interest in taking on refining capacity. Some analysts say Arab investors may represent Arco’s only hope of finding a buyer for its Philadelphia refinery, which it will shut down as part of its streamlining.
Risk of High Debt
Arco, whose debt would come to 55% of net worth following its share repurchases, is the third company in recent months to propose or announce a plan to bring debt to more than 50% of its total net worth--after Phillips, whose restructuring contemplates a debt-to-capital ratio of 75%, and Unocal, which plans to boost its leverage to 70%. Significantly, both of those companies planned their restructurings in the teeth of Pickens’ assaults.
“Clearly that gentleman’s presence intrudes into every board room in the oil industry,” remarked Joel D. Fischer, a petroleum industry analyst for the investment firm of Drexel Burnham Lambert, which has helped bankroll Pickens’ campaigns.
The inherent risk of such debt is that the price of oil will plummet and interest costs will rise, squeezing the high-debt companies for cash. Arco intends to reduce its debt load rapidly by selling its overvalued assets and by applying its more than $2 billion in annual cash flow to pay off borrowings.
For his part, Pickens praised the reorganization as a case of “management looking after the shareholders.” He minimized the threat he represented to Arco, however, noting that he is still involved in a battle with Unocal.
“It’s unfair as hell to say Arco’s doing this from fear,” he said from his office in Amarillo, Tex. “While we’re up to our armpits in a deal right now, Arco knows they don’t have anything to fear from Boone Pickens.”
Analysts said Arco had begun to appear vulnerable to a takeover after Pickens’ raids on Gulf, Phillips and Unocal over the last two years demonstrated that an oil company’s size was not the takeover barrier that it once seemed. With its assets estimated to be worth $122 per share while its stock price stood at less than $50 per share, the company was “selling at the largest discount-to-asset value of any oil company,” said James D. Balakian, an industry analyst for the brokerage of L. F. Rothschild, Unterberg, Towbin. The gap represents the potential profit for a takeover entrepreneur.
Mortgage on Future Earnings
Arco’s choice, therefore, was to deliver part of that asset value to its shareholders by borrowing $4 billion against it and distributing the money to them through its repurchase of shares and its higher dividend. In effect, the company is taking a mortgage on its future earnings to produce cash today.
Share repurchases will begin May 1 and continue into 1986, the company said. Depending upon the price, the company will buy between 50 million and 67 million shares. In a similar program that ended earlier this year, Arco bought up 22 million of the 256.3 million shares that existed then.
The other element of Arco’s plan is its scrapping of what it sees as outdated operations, including retail sales, refining and non-coal mining operations in the East.
In addition to disposing of its Philadelphia refinery by selling or scrapping it, Arco will sell all of its 1,350 gas stations in 10 Eastern states and the District of Columbia. While the company will retain 1,250 stations in California, Arizona, Nevada, Oregon and Washington, it will for the first time produce more crude oil for sale to others than for its own refineries.
Arco said it has been losing money on its Eastern refining and merchandising operations since oil prices were decontrolled in 1981. “Everyone just assumes we’ve been making money hand over fist over there because we’re an oil company,” said James S. Morrison, president of the company’s petroleum products subsidiary.
“To the extent anybody is selling on the East Coast, they’re losing money” because of stagnant demand, less efficient refineries, and greater availability of imported oil, he said.
Commodity Chemical Business
The $1.3-billion write-off in 1985 represents the cost of Arco’s withdrawal from a number of scarcely profitable businesses, including copper and molybdenum mining and the petrochemical business. About half of the amount is the result of devaluing the company’s investment in the commodity chemical business, mostly in Texas, analysts said.
Arco officials said the company hopes to save $115 million a year after taxes in 1986 and beyond through reductions in “staff and overhead.” The company announced an extensive severance and pension program to promote resignations and early retirements, but company spokesmen would not say how many employees they hope to pare from the payroll or how much the program would cost.
For workers who agree to retire by June 30, the company will provide enhanced benefits and vesting rights, as well as a lump sum payment equal to 1.5 weeks of pay for every year of company service, up to a maximum of 36 weeks’ pay.