The near-US$30 billion bid for Santos Ltd (ASX:STO) by a consortium led by the Abu Dhabi National Oil Company (ADNOC) may appear generous, but Morningstar’s market strategist Lochlan Halloway believes it significantly undervalues the Australian oil and gas company.
“There’s probably a degree to which (Santos) investors are just throwing in the towel,” Halloway stated in his Friday briefing, noting the company’s long-term underperformance.
Santos’ share price has stagnated for two decades, though Halloway points out this does not reflect the company's earnings trajectory. “Rather, Santos’ multiple has collapsed,” he said. “In the midst of the China boom, the business traded on roughly 10 times EV/EBITDA (enterprise value to earnings before interest, taxes, depreciation, and amortisation). That has now fallen to about five.”
He noted that Santos has also underperformed its peers on valuation metrics since 2023.
Long-term strength in gas demand
Despite sectoral pressures including decarbonisation and divestment mandates from fund managers, Morningstar sees long-term strength in gas demand. “Ultimately, there might not be a purely financial justification for Santos’ multiple compression,” Halloway said. “The sector is well out of favour, and persistent share price declines are probably compounded by passive selling.
“Either way, ADNOC recognised the widening gap between the intrinsic worth of the business and the market’s valuation. And it looks like the consortium will pick up Santos on the cheap,” he added. Morningstar values the company at A$10 per share, while ADNOC’s offer stands at A$8.89.
Government approval remains a significant obstacle, with Halloway assigning just a 50% probability of the deal proceeding.
Meanwhile, Australia’s largest energy firm, Woodside Energy Group Ltd (ASX:WDS, LSE:WDS, OTC:WOPEF), could also become a target, Halloway said. “The case remains compelling (for Woodside too): resilient demand for gas consumption, a market valuation well below the replacement cost of its assets, and a strong balance sheet that supports ongoing investment and shareholder returns.”
At last close, Santos shares were trading at A$7.74, and Woodside at A$25.63.