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Hostile intentions

OMV wants to create a new Austro-Hungarian energy empire. Derek Brower met the company's executives in Vienna last month to find out why

OFFENCE is the best defence, says the sporting cliché. OMV agrees: at the end of September, the Austrian company went public with a hostile takeover bid for its Hungarian rival and occasional partner Mol. That brought into the open a process that started in the summer, when OMV increased its shareholding in Mol to 18.6% and called for a "friendly merger" of the two companies.

Mol's board unanimously rejected that proposal and began to prepare its defence against a bid, but, for now, the force seems to be with OMV. "We will take however long is necessary," Wolfgang Ruttenstorfer, OMV's chief executive, told Petroleum Economist last month. That could be two to three years, he says. OMV made the bid public, after Mol refused to negotiate. The move has not pleased Mol, but OMV is confident of getting its way.

Patience might be OMV's most important asset, because there are signs that the proposed deal could turn into the kind of protracted battle that has characterised other mergers in the European energy sector in the past few years. Indeed, the angry reaction of Mol and the Hungarian government is reminiscent of the political saga that followed German E.On's bid for Spain's Endesa last year.

Rising tensions

Last month, Mol's executive chairman, Zsolt Hernadi, increased the tension between the two companies by implying that OMV's hostile bid was an example of energy nationalism – and claimed it would dissuade other governments in central and eastern Europe from pursuing privatisations. That is because OMV's largest single shareholder, with 31% of the company, is the Austrian state. If governments in the region think that a privatisation will result in a foreign state buying control, suggested Hernadi, it could derail plans for further asset sales.

Meanwhile, Mol's chief executive, Gyorgy Mosonyi, has also claimed the merger would reduce efficiency and competition in central Europe, giving the combined firm's domination of downstream oil markets in the region.

Mol might think that such rhetoric will help it win support from the European Commission. But Brussels' body language does not look encouraging for the Hungarian firm. Andris Piebalgs, Europe's energy commissioner, was in Vienna last month as a guest of OMV. His warm reception from the Austrian firm at an OMV event last month – and, in particular, from Ruttenstorfer – suggested OMV's relationship with Brussels is on a good footing.

Piebalgs' comments on the proposed merger were not encouraging for Mol either: "It is for shareholders to decide," he told journalists. "The Commission's task is to make sure laws are obeyed. We can only give conditions." And, ominously for Mol, he added: "There are no Latvian, Estonian or Spanish companies. There are only European companies.

Case for the defence

That seemed to be a reference to the gathering momentum in Hungary behind Mol's defence, which has worried the Commission with its nationalistic flavour. There are two parts to its defence – one corporate and one bureaucratic. In the first, Mol has begun to increase control over its own shares. Although laws in Hungary prevent Mol's management from owning more than 10% of the company, analysts say investors friendly to the management have increased their holding of Mol to almost 40% of the company. Russia's Lukoil has also been approached to act as a white knight, according to rumours.

The second plank of its defence is in the hands of the government, which last month was trying to devise legislation that would prevent any strategic assets in Hungary from falling into the grasp of foreign companies. Prime minister Ferenc Gyurcsany said his government would use "everything in our hands" to prevent the take over. Analysts say Hungary is modelling the new laws on the US' Committee on Foreign Investment, a body with power to prevent foreign companies buying strategic assets in that country.

Hungary's economy minister, Janos Koka, says the new legislation "is not about protection against foreign investors. It's about protection against illegal hostile demands." Mol's shareholders and OMV might want to know how the bid can be deemed to be an "illegal hostile demand".

That is certainly not the way the Commission seems to see it, either. Indeed, Charlie McCreevy, the single-market commissioner, has written to the Hungarian government to warn against enacting the new laws. The Commission, he said, would continue to prosecute a separate case it already has against Hungary in the European Court of Justice, relating to perceived prejudice against foreigners investing in the country. The letter to Koka also said that "if the actions or legislation envisaged by your authorities were to put an impediment on economic factors from other member states taking an interest in Mol" they would also be subject to prosecution.

That would be a blow to Mol's defence. But in any event, the decisive steps could be taken by independent shareholders – in particular two large institutional investors, Templeton and Centaurus. Ruttenstorfer claimed investors had welcomed the bid. "I haven't spoken to one fund that has said [the merger] doesn't make sense."

There may also be room for OMV to raise its bid for Mol. At present, the offer is for Ft32,000 ($181.12) a share for the outstanding stake in the company, valuing it at $22.75bn, Ruttenstorfer said some investors say Ft34,000 could be a good price.

If the take-over move is hostile, its logic is defensive. "We didn't want to wake up and find that someone else owned Mol," said Ruttenstorfer. He claimed that consolidation in the region is inevitable – and it will be better for OMV's shareholders if the company is a leader in the process and not a victim of it. OMV, he said, is willing to meet whatever conditions on the merger the Commission sets.

With or without Mol, OMV has bold expansion plans. At last month's presentation to journalists in Vienna, the company revealed its intention to increase its presence "along the EU growth belt" – targeting Ukraine, Poland and the Baltic states. By 2010, it wants to increase production from 324,000 barrels of oil equivalent a day (boe/d) to 0.5m boe/d. The target for refining capacity is to hit more than 50m tonnes a year (t/y) by 2010, compared with 26.4m t/y in 2006.

Organic growth

Ruttenstorfer said none of these targets depends on the take over of Mol. OMV's watchword for the growth is "organic", although its plans seem to contradict that claim. To meet the production targets, the company has allocated spending of €0.7bn a year in the upstream and projects "significant growth" from North Africa, the Middle East, Russia, the Caspian region and northwest Europe. Organic growth will come from 70,000 boe/d added through enhanced recovery at producing fields and 20,000 boe/d from new discoveries. Another 100,000 boe/d, however, will come from a non-organic source: acquisitions.

The key to success could be Romania's Petrom, the biggest oil producer in southeast Europe. OMV bought 51% of the company when it was privatised in 2004. Petrom's exploration and production assets include some 300 oil and gas fields, 15,000 production wells, offshore assets in the Black Sea and producing fields in Kazakhstan. And the company says it is "evaluating" upstream opportunities in Russia. It wants to double its own production from around 105,000 barrels a day (b/d) in 2005 to 210,000 b/d in 2010. Of OMV's total proved reserves of 1.298bn boe, the Romanian firm accounts for 0.94bn boe.

Downstream, OMV is also banking on a recovery in the Turkish economy – GDP growth was 8% in 2006 – to yield opportunities in the retail fuels market. OMV already holds a 34% stake in Petrol Ofisi, the largest fuel retailer in Turkey and it plans to build a 200,000 b/d refinery in Ceyhan. The company says it has completed a "concept study" for the project and it should be on stream in 2012 at the earliest. It is also upgrading Petrom's 70,000 b/d Petrobrazi refinery, which could also target the Turkish market.

While Turkey and Romania will drive some of the company's growth, it is the Mol acquisition that offers the greatest potential for OMV. The combined production of the two companies would bring the Austrian firm to within striking distance of its targets for 2010 (see box). And it is hard to disagree with Ruttenstorfer's assumption that further consolidation is inevitable.

After buying the Czech Republic's Unipetrol, a string of filling stations in Germany and Lithuania's Mazeikiu Nafta, Poland's PKN Orlen has led some of that process already – and as recently as 2005 was also considering a bid for Mol. And the Hungarian firm has been one of the consolidators itself: it bought Slovenia's national refinery Slovneft in 2000 and last month won permission from the Croatian government to buy total control of Tifon, a local fuel retailer. It already owns 25% of Croatia's largest energy firm, Ina. And OMV points out that Russian companies are eyeing assets in the region too.

The potential take over of Mol, however, is not the only question mark hanging over OMV's strategy. The company aims to increase its gas-transit volumes from around 47bn cubic metres a year (cm/y) to 56bn cm/y by 2010 and by a further 42bn cm/y in the longer term. While the 9bn cm/y increase over three years is a modest target, the next step is highly ambitious and depends largely on two speculative projects. One of them, a terminal to receive up to 12bn cm/y of liquefied natural gas (LNG) at a terminal in Adria, Croatia, remains in the feasibility stage. Ruttenstorfer says no decision on whether to proceed with the project will be made until the OMV-led consortium developing it has signed supply contracts. With tightness in the supply side of the LNG business, an agreement of that kind could be some time off.

Nabucco: a sketchy prospect

The second project, the Nabucco pipeline, is just as sketchy a prospect, despite OMV's hopes that it will come on stream in 2012. It has political support in Brussels, where it is considered essential to European efforts to diversify its import sources, but OMV and its partners have yet to establish clearly where the gas to feed Nabucco will come from. "In every business plan there are some 'ifs'," Werner Auli, head of OMV's gas division, told Petroleum Economist last month. "But I am convinced we will have much more gas than we will have capacity to export."

Some of the gas for Nabucco will come from Azerbaijan, says Auli. But whether Iran, Iraq, Egypt or other Central Asia suppliers will export gas through Nabucco, as OMV hopes, is debatable. Each presents significant problems as a supplier and, perhaps with that in mind, OMV's plans for Nabucco are now slightly more modest. Initial throughput capacity will be just 8bn-12bn cm/y by 2012, with an increase to 30bn cm/y "after 2017". Originally, the consortium targeted start-up in 2009 with imports of 31bn cm/y by 2015.

Plans by Russia's Gazprom and Italy's Eni to export gas to Europe through the South Stream pipeline has also been seen by many analysts as a threat to Nabucco's progress. Both pipelines would target the same central European consumers.

However, Auli claimed Europe will need both pipelines. Indeed, despite the perception of competition between the projects, he says Gazprom initially invited OMV to participate in the South Stream development. "Nabucco is not a competitor to South Stream, it is a competitor to Ukraine." At the same time, there remains a good chance, he said, that Nabucco will offer the Russian company another means of exporting Russian gas to Europe.

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