Before market pressures started to buffet Linn Energy LLC (LINE) and LinnCo LLC (LNCO), the companies began stockpiling firepower.

On July 6, Linn sent out an impressive volley, saying it had sold its remaining Permian Basin holdings and signed a $1 billion funding agreement with Quantum Energy Partners for acquisitions and a $500 million drilling agreement with Blackstone’s GSO Capital Partners LP.

Linn, a publicly traded partnership, said it signed a definitive agreement to sell its remaining 6,400 acre position in Howard County, Texas, in the Permian for a contract price of $281 million. The buyer was not disclosed.

The transaction far exceeded estimates by Raymond James, which said Linn’s acreage would most likely command a cash offer of $132 million to $165 million.

“This would be capital Linn could use to fund an acquisition which would help boost cash flow and incrementally lower the partnership’s leverage ratio,” said Kevin Smith, analyst, Raymond James.

The Permian assets include about 6,400 net acres prospective for horizontal Wolfcamp drilling and about 2,000 barrels of oil equivalent in production from 133 gross wells. The deal is the latest since 2006, during which Linn has made 62 transactions—buying and selling that totals $17 billion.

In November, Linn closed on the sale of its Wolfberry positions in Ector and Midland counties, Texas, in the Permian Basin to Fleur de Lis Energy LLC for $350 million.

During June, both Linn and LinnCo’s stock prices have been under duress as the market has been skittish over Linn’s leverage and its ability to pay distributions.

Much of that changed July 6. Smith said the partnership received $28,000 per acre, better than expectations of $20,000-25,000 per acre based on recent Permian acreage comps.

Diamondback Energy Inc. (FANG) recently paid similar valuation for 10,000 net acres in Howard County, according to a note by Tudor, Pickering, Holt & Co.

“Although oil prices should weigh heavily on the energy markets today, we view the Permian sale and the strategic alliance finalizations as incremental positives for Linn,” Smith said. “As far as the Permian deal goes, this is capital Linn can now use to fund acquisitions, which will subsequently help boost cash flow and incrementally lower the partnership's leverage.”

The sale is expected to close in the third quarter of 2015 with an effective date of May 1. RBC Richardson Barr was financial adviser to Linn for the transaction.

Votes Of Confidence

Linn also finalized its previously announced strategic alliances with private equity companies that total a potential $1.5 billion.

Linn’s strategic alliance with Quantum Energy Partners brings the Linn an initial $1 billion of capital for acquisitions, bringing the total potential size of the alliance to more $2.5 billion when combined with the ability to leverage the acquisition company, Smith said.

AcqCo assets will be managed by Linn in exchange for reimbursement of general and administrative expenses. After certain investor return hurdles are met, Linn will have the ability to earn a promoted interest in AcqCo. If any assets are sold by AcqCo, Linn will be given right of first offer to acquire the assets.

Strategic advantages expected for Linn:

  • Creates a dropdown entity to purchase and harvest assets on an ongoing basis;
  • Allows participation in acquisitions outside of the conventional MLP asset profile;
  • Enhances ability to capture acquisitions during distressed market conditions;
  • Provides potentially more accretion to cash flow per unit as a result of the promote structure; and
  • Creates a long-term partnership with a private capital provider which is scalable and repeatable.

"We anticipate a number of attractive assets may come to market in the current environment and we expect these agreements will position the company to take advantage of such opportunities," said Mark E. Ellis, chairman, president and CEO of Linn.

In Linn’s deal with GSO, the credit platform of The Blackstone Group LP (BX), gives Linn a commitment of $500 million to use in drilling programs on locations provided by Linn.

GSO agreed to make the funding available for five years, subject to adjustments depending on asset characteristics and return expectations.

GSO will fund 100% of the costs associated with new wells drilled under the DrillCo agreement and is expected to receive an 85% working interest in the wells until it achieves a 15% internal rate of return on annual groupings of wells.

Linn is expected to receive a 15% carried working interest. Upon reaching the internal rate of return target, GSO's interest will be reduced to 5%, while Linn's will increase to 95%.

Ellis said the agreement with GSO creates a new source of capital that “will allow us to develop assets without increasing capital intensity, enhance our long-term ability to live within cash flow and provide cashless dropdowns of stable production over time."

DrillCo:

  • Allows Linn to develop assets without increasing capital intensity;
  • Could add a steady and growing cash flow stream with no capital requirement;
  • Increases Linn's long-term ability to fund all oil and natural gas development capital and the distribution from internally generated cash flow;
  • Mitigates drilling risk;
  • Potentially broadens acquisition universe; and
  • Upon meeting the return hurdle, provides incremental low decline production growth for Linn.

The finalization of both alliances should alleviate any market concerns that the alliances wouldn't ultimately be moving forward, Smith said.

“We continue to support the notion that both of these structures will contribute to the partnership's ability to finance acquisitions and fund its drilling program in a balance-sheet-friendly manner,” Smith said. “And we believe that AcquisitionCo could possibly add value before year-end.”

Jefferies LLC was financial adviser to Linn for the DrillCo and AcqCo agreements. In the Quantum deal, Latham & Watkins provided legal advice to Linn while Vinson & Elkins provided legal advice to Quantum.

Contact the author, Darren Barbee, at dbarbee@hartenergy.com.