Linn Energy LLC, the oil and natural gas partnership that agreed to buy Berry Petroleum Co. for $2.42 billion, fell the most in more than seven years after disclosing a U.S. Securities and Exchange Commission inquiry into the deal and its accounting.
Linn dropped 19 percent to $27.05 at the close in New York, the biggest decline since trading began in January 2006. LinnCo LLC, the affiliate whose stock will be used for the purchase, fell a record 17 percent to $30.90 and Berry decreased 5.8 percent to $39.86.
SEC staff notified Houston-based Linn and LinnCo of a “non-public inquiry,” the companies said in a statement after markets closed yesterday. Investigators want documents preserved that relate to the Berry deal as well as hedging strategies and certain financial measures, according to the statement.
Linn agreed to buy Berry in February to increase its oil reserves and provide enough cash flow to boost payments to unitholders. The partnership has been criticized for its use of options to guarantee a price for its gas output. Hedgeye Risk Management LLC, an independent research company, said in a June 18 presentation that Linn isn’t accounting for the full cost of the put options and capital expenses such as drilling. It called the partnership “the best short in the oil and gas space today.”
In response to the inquiry disclosure, Linn was downgraded by at least five analysts.
The SEC inquiry may delay the deal and strengthen a campaign by short-sellers to undermine Linn, Ethan Bellamy, a Denver-based analyst at Robert W. Baird & Co., wrote in a note to clients today. “At worst, Berry management will cave into the short campaign whose goal is to kill the merger.”
Berry could recover to as much as $51 a share, Duane Grubert, an analyst at Susquehanna Financial Group in Stamford, Connecticut, wrote in a note to clients.
“A deal sweetener is likely to be discussed,” including a cash dividend to make up for the drop in Linn and LinnCo’s share price, Grubert wrote. Berry could seek another buyer or set up its own tax-advantaged partnership, Grubert wrote.
Linn and Berry said they are still committed to closing the deal.
“The SEC has stated that the fact of the inquiry should not be construed as an indication that the SEC or its staff has a negative view of any entity, individual security,” Linn said in the statement.