Flame Acquisition Corp. (NYSE:FLME) has entered into a definitive agreement to combine with energy company Sable Offshore at an enterprise value of $883 million.

Sable Offshore is set to purchase the Santa Ynez Unit (SYU) offshore oil field and its associated onshore facilities off the coast of California.

The combined company is expected to trade on the NYSE once the deal is completed

Transaction Overview

Flame has about $289 million in its current trust and has arranged a $71.5 million PIPE at $10 per share, which it aims to expand to $300 million before close. The SPAC has also arranged a $623 million term loan with a five-year maturity at 10% interest per annum and requires a $19 million net deposit up front.

Sable plans to add $258 million from proceeds to its balance sheet while spending $331 million on start-up expenses for newly acquired assets and lease operating expenses. These include $172 million to bring new assets online by the first quarter of 2024, $75 million in lease expenses accrued since January 1, 2022, $65 million in transaction fees, and the $19 million deposit to Exxon Mobil (NYSE:XOM).

Both these expenses and the cash additions could be covered by the new debt, but Flame nonetheless must maintain at least $5 million in cash available in order for the deal to close.

Sable shareholders are expected to own just 4% of the combined entity with 3,000,000 shares, but this could more than double as Sable’s management is to receive 3,600,000 incentive shares subject to vesting and lock-up requirements. Flame shareholders would own 42% of the company in a zero redemptions scenario and a $300 million PIPE would account for the largest stake at 44%.

Should PIPE or public share levels come in below these expectations, Sable’s package of shares will be adjusted downward such that its total stake will be no greater than 15%.

The SPAC’s sponsor has agreed to a one-year lock-up, but may be released early should the stock trade with a VWAP at or above $12 for 20 of 30 trading days. Company shareholders are meanwhile locked for three years.

Quick Takes: The Santa Ynez Unit (SYU) offshore oil field at the center of this transaction is an interesting story.

Situated off the coast of Santa Barbara, California, it has been operated by Exxon since 1981. Over that time, it operated 112 wells via three platforms and produced about 671 million barrels of oil equivalent (MMBoe).

But, that all came to an abrupt halt on May 19, 2015, when a pipeline running from SYU to onshore facilities ruptured near Santa Barbara, gushing about 3,400 barrels of oil onto Refugio State Beach and the Pacific Ocean. This was the biggest spill in the region since 1969 and all of the facilities on both ends of the pipeline, including SYU, were immediately shut down.

That has been the status quo ever since. Plains All American Pipeline (NASDAQ:PAA), which operated the pipeline infrastructure, was convicted of criminal charges for the spill in 2018, and Exxon has since been trying to come up with an alternative means to get the oil from the ocean seabed to onshore refineries.

It was permitted to move oil by truck between its onshore facilities in 2016 as an interim solution as it sought out a new way of restarting SYU. But both the restart and the continued trucking were blocked in March of this year by the Santa Barbara County Board of Supervisors. Exxon is now suing the Board of Supervisors, but at some point it appears to have decided it would be cheaper to save the trouble and sell SYU and its accompanying onshore facilities.

With this deal, Exxon is essentially lending Flame, Sable’s management team and PIPE investors the money to buy the facilities from itself. If they are able to get them back online, great, Exxon gets its $623 million loan paid back with 10% interest. If not, it presumably repossesses the facilities and their associated headaches.

After all, production at SYU had been declining for 20 years before the shutdown. The parties note that it was predicted to decline in production about -8% annually in the five years following 2015, but even at this point it was producing 38% of what it was at its peak in the mid-1990’s.

Nonetheless, the new Sable entity predicts it could achieve a restart by the first quarter of 2024, but that will first require that the existing pipeline – which Exxon has since bought – will be approved by local regulators. Exxon has applications in with the California Fire Marshal and has received some clearances.

But beyond the Fire Marshal’s office, Sable is likely to encounter political pushback to any restart. At the state level, California is perhaps the most ambitious state in the country in pushing its transition away from fossil fuels and into renewable energy, mandating that no internal combustion cars can even be bought in the state by 2035.

At the local level, the fight might be even harder, as Santa Barbara get less of the direct benefit from any oil that comes out of the project. Exxon has said that restarting it would bring 200 to 250 jobs to the community as well as tax revenue. But, the already affluent community seems to have been unmoved by this if the actions of its local government are any guide.

Exxon released an FAQ to assure the public of SYU’s cleanliness and safety, but even it included answers to questions like “Why do I smell gas when I walk on the beach?” which may be more indicative of what is on the public’s mind.

Lastly, it does seem like this deal could be setting up Sable for the next step in SYU lifecycle. Flame is led by longtime Freeport-McMoRan (NYSE:FCX) exec James Flores, whose most recent experience was in leading Sable Permian Resources as it applied for bankruptcy in 2020 and emerged from it in 2021.

Prior to the spill in 2014, SYU generated $317 million in net free cash flow. With it shut down, it has burned -$596 million in cash supporting operating overhead with essentially zero revenue since. This includes -$43 million in cash burn year-to-date in 2022. Should Flores’ recent bankruptcy experience come into play moving forward with the company, at least its largest creditor will be the familiar Exxon Mobil.

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ADVISORS

• Petrie Partners Securities, LLC is serving as financial advisor to the board of directors of Flame.
• Cowen and Company, LLC, Intrepid Partners, LLC, and Jefferies LLC are serving as joint financial advisors to Sable.
• Cowen, Intrepid and Jefferies are serving as joint placement agents in connection with the Sable PIPE Investment.
• Latham & Watkins LLP is serving as legal counsel to Flame.
• Bracewell LLP is serving as legal counsel to Sable.
• Kirkland & Ellis LLP is serving as legal counsel to Cowen, Intrepid and Jefferies.