Gulf Oil Summary George Keller of the Standard Oil Company of California (Socal) wants to acquire Gulf Oil
Company. He has to make a decision on how much to bid to win against competitors like Atlantic
Richfield Company (ARCO) and Kohlberg Kravis Roberts & Company. These competitors are willing to pay $70 or more. Although ARCO is willing to pay this price, its debt to total capital ratio could amount up to 60%, which is risky for a company. On the other hand, Socal debt to equity ratio is low. This means that banks are willing to lend money to the company to acquire Gulf Oil Corporation. Kohlberg Kravis
Roberts & Company’s advantage lays in the fact that it is willing to preserve the current structure of Gulf
Oil until management finds a long term solution. This was the main concern for Gulf Oil Corporation’s executives when they decided to liquidate the company in order to overturn a takeover by Mesa
Petroleum Company.
In fact, Gulf Investors Group (Mesa) purchased several shares of Gulf Oil for $39. Its president,
Boone Pickens, had the objective to be a member of the board of directors to change the company’s policies. The idea was to mimic what he did with Mesa by moving from domestic oil and gas properties to a royalty trust. In his attempt to disrupt the company, he also made a tender offer at $65 per share in 1984.
The Gulf Investors Group (GIG) could only afford to buy 21% of Gulf’s stock. The reincorporation strategy operated by Gulf Oil resulted in making the GIG willing to control more shares. Although owning a majority at Gulf Oil was above their means, this show of strength was a strategy to attract more outside financial backing.
Gulf Oil’s current stock price at $70 is overvalued. In comparison, the average stock price for the seven major oil companies was at $53.03 in 1983. The long­term development and incorporation of Gulf
Oil with Socal needs to make up for the overstated price. Although Socal has the ability to buy the stock at over $80, the debt resulting from the acquisition needs to be worthwhile. For now, Gulf’s profits are the

direct result of its concentration on oil, and its efforts on exploration and development. However, after it is acquired by Socal, its debt will also transfer to the acquisitor. The plan for Keller is to sell Gulf Oil’s assets, and stop the exploration and development efforts to soak up debt. The price at which Keller makes the bid has a direct impact on Socal’s long term debt. At a price of $70 per share, Socal will have worth
$15, 761 million debt compared to $19, 068 million at a price of $90.
Acquiring Gulf Oil company could benefit Socal, however it is not easy to precisely estimate the future profits. One of the reasons is because Gulf Oil has a large amount of debt. It’s current total amount of debt is $10,836 million. Deciding how to get rid of this debt after acquiring Gulf can be difficult.
Kohlberg Kravis offered to leave Gulf’s company structure the same leaving Gulf’s assets unaffected.
Keller’s strategy is to use Gulf’s assets to reduce the company’s debt. In this sight, Kohlberg’s view for the future of the company is more in line with the one wanted by Gulf’s management. Should Keller make a similar offer to the one from Kohlberg? What bid price would represent the best bet for a positive net present value?
Another important factor to evaluate is the value that Gulf’s reserves would add to acquisition.
With Gulf Oil, Socal will have more than double composite barrels of oil. These additional reserves would allow Socal to cut exploration costs. Socal would also increase its net income from reducing costs in the long run. This is especially true because the price has been only been increasing since 1976.
According to Exhibit 3, the price of oil has increased from $5.76 to $22.42, in just 8 years. This just proves that oil price is most likely to increase in the years to come and if Socal acquires Gulf, profits will continue to grow.