How UK fund houses are voting on the Shell/BG merger

Falling oil prices have made energy an increasingly tough business to operate in, and mergers and acquisitions (M&A) are on the increase. In April last year, Shell confirmed that trend by announcing its intention to buy oil and gas exploration group BG in a deal valuing it at £47bn - at the time a premium of around 50 per cent to the market value of BG's shares. The tie-up would see Shell take ownership of the majority of the combined entity. Shell has said the merger would add around 25 per cent to its oil and gas reserves and 20 per cent to its production (on a 2014 basis), and give it a vital foothold in liquid natural gas (LNG) assets in Australia.

But the oil price has nosedived since the deal was announced, calling into question whether or not it remains good value for Shell. More than two-thirds of the takeover is being funded by Shell 'B' shares being paid to BG shareholders, with the rest in cash. But the value of the deal has tumbled since it was announced due to the plunging oil price, which has fallen from around $60 to below $30 a barrel this month.

Last week Standard Life, the 11th largest shareholder of Shell's 'B' shares, said it was not planning on backing the deal because it had become bad value for Shell due to the drop in the oil price. In a statement on 8 January, David Cumming, head of equities at Standard Life Investments, said: "We have concluded that the proposed terms of the acquisition of BG are value destructive for Shell shareholders. This view is based on the downside risks to Shell's oil price assumptions, plus the tax and operational risks surrounding BG's Brazilian asset base. Consequently, we shall vote against the deal."

The company asked Shell to renegotiate the deal and said it was planning on voting it down at the Shell shareholder meeting on 27 January.

However, because Standard Life holds both Shell and BG, as is the case with many other large fund houses, it is reported to be planning to vote in favour of the merger at the BG shareholder meeting. Standard Life declined to comment.

Standard Life might not be the only fund house voting both ways. Several large fund houses give their investment trust managers a free vote as trusts are listed companies and appear as separate shareholders on a company's register.

However, others enforce a house view and ask all fund managers to vote accordingly. These include Kames, which is understood to be backing the deal on behalf of its stake in both Shell and BG, and which takes a unified house approach to company votes.

Fund houses saying yes

Rathbone Investment Management, which has a stake in Shell and smaller holding in BG, has taken a different approach. "We have given our investment managers the opportunity to represent their clients and vote accordingly," says Julian Chillingworth, chief investment officer at Rathbones. "Our house view is that on balance this deal is good for Shell in the medium term and that it should go ahead. Having had a close dialogue with Shell over the past six months its pitch is that this is a one-off opportunity and these assets do not come around too often."

He says the deal makes sense for Shell even though the oil price move has made it look unappealing. "Obviously, when the deal was first couched the oil price was considerably higher and I think in the short term there have been some question marks around the price Shell is paying. But the company is getting a selection of assets, particularly in the LNG area, which will in the medium term be very positive," he says.

Richard Marwood, manager of the AXA Distribution (GB0006160542), Ethical Distribution (GB00B3FKKK57) and Defensive Distribution (GB0005409486) funds, says he will also be backing the deal as both a BG and Shell shareholder. "A lot of the conversations have been around the way the price has moved since the deal, and the terms have undoubtedly moved in favour of BG owners because of the consideration of cash involved. But is that enough to make it worth derailing the transaction? I don't think so. In the long term this deal will help Shell's dividend because it will add growth from BG pipelines, but in the short term it might not be quite so helpful."

Shell's dividend has remained uncut since 1945 and is at the heart of Shell shareholder dissent, according to the head of equities from a large UK fund house. "If you were only a Shell shareholder you might be more worried about cash coverage of the dividend and might want to preserve cash for that rather than looking further ahead at Shell's strategic aims," he says.

IC Top 100 Fund managers' view

Job Curtis, manager of City of London Investment Trust (CTY)

Mr Curtis owns Shell but not BG. "We will be voting in favour," he says. "I think this is the right thing for Shell to be doing. Rather than drilling in the arctic it's time to be drilling on Wall Street or the London Stock Exchange, and it is buying quality assets it has been coveting for a while. Shell also argues that this will help sort its entire structure out and make it into a lower-cost business, and the deal brings in a lot of high-quality LNG assets and oilfields in Brazil, which BG has spent a lot of money on.

"But, ultimately, whether or not you think the deal is good value for Shell does depend on your view of the oil price. If you think it is going to stay at $33 it doesn't make sense. But I think it is more likely that the oil price will rise from here.

"With companies cutting back on capital expenditure (capex) everyone will be feeling the pain for the foreseeable future, but I stand by my view that oil will recover at some point. In the end these capex declines will start restricting or curtailing supply. And a lot of US shale producers will have trouble refinancing while there are a lot of debts in the high-yield market related to shale. So there is oversupply, but over three years supply and demand could move back into balance."

Laura Foll, deputy manager of Lowland Investment Company (LWI)

Lowland owns Shell, but not BG. Ms Foll says she will be voting for the tie-up across all the funds she manages, which include Lowland and Henderson UK Equity Income & Growth (GB0007493470).

"I think the deal makes sense for Shell," she says. "With perfect hindsight they would have waited until later on in the year, but last April people did praise Shell for being contrarian because the price had already fallen back. Traditionally, we would praise companies for buying assets that are cheap and at least there was a share component to the deal, meaning it adjusted itself downwards slightly. So it is a sensible tie-up, but you do have to be patient. It might not look clever on a one- to two-year view, but Shell is buying with a strong view that the oil price will recover.

"The strategy here is also very complimentary in terms of assets. Shell is strong in LNG and deepwater, and those are also BG's strengths. This also allows Shell to divest assets that don't fit as neatly into the broad portfolio.

"Whether or not this is good value for Shell depends on the timeframe. On a five- to 10-year view Shell might come out well from this. OK they didn't buy right at the bottom, but they also didn't buy when oil was over $100 a barrel either.

"I think it is a good deal for BG - the share price would be considerably lower had it not been for Shell coming in.

"Over the long term the price should recover because capex cuts from Shell, Total (FP:PAR) and BP (BP.) must ultimately have an impact, and you are starting to see supply at the very margin rolling over and demand proving resilient partly because the price is so low. You would expect supply and demand to rebalance, but I don't have a view on when that will occur. Because we are long-term investors, we've been buying into the companies that will be the survivors and Shell will be one of those. But we do have a very long-term time horizon so we're not doing any betting on the oil price in the near future."

Funds with largest holdings in Shell

Trusts with highest stake in Shell

Funds with highest stake in BG

Trusts with highest stake in BG

Source: Trustnet, as at 15.01.16