Two proxy advisory firms called for shareholders to approve the $18.8 billion merger of natural gas midstream operator Oneok Inc. and oil midstream services firm Magellan Midstream Partners LP.

Institutional Shareholder Services and Glass Lewis & Co. recommended that Oneok shareholders vote in favor of the proposed merger, Oneok said Sept. 7. The advisory firms have also advised Magellan unitholders to approve the deal, according to Oneok.

Both firms said combining the companies will increase cash flows while creating a midstream giant with feet in the natural gas and crude oil worlds. Magellan and Oneok shareholders will vote on the deal at special shareholder meetings on Sept. 21.

Synergies and opportunities

"Strategically, we believe the proposed merger could be beneficial to shareholders/unitholders of both the merger parties, as the deal would result in the creation of a combined energy infrastructure firm with greater scale, breadth and earnings diversity," according to the Oneok quote of the Glass Lewis report. "The proposed merger is also expected to yield meaningful annual cost synergies and enhanced commercial opportunities for the combined company."

The deal valued Magellan at $67.50 per unit, a 22% premium for Magellan unitholders based on May 12 closing prices. It would create a midstream company with an enterprise value of $60 billion and a 25,000-mile network of oil and gas midstream infrastructure stretching from North Dakota's Bakken Shale to the Gulf Coast.

Hefty tax bill

Hedge fund Energy Income Partners LLC (EIP), Magellan's third-largest shareholder, according to S&P Global Market Intelligence data, has made no secret it opposes the deal, primarily because long-term Magellan unitholders face a big tax bill for the deferred value of their equity. EIP said if Magellan needs to change, a tax-efficient conversion to a C-corp should be considered.

"We remain against the deal," EIP co-portfolio manager and principal Eva Pao said in a Sept. 8 email. Pao said EIP is asking ISS for permission to release more of a report that EIP said Oneok is selectively quoting from. ISS "highlighted our position about negative premium for longer-term holders," Pao said.

Pao said the biggest question before the vote is the level of participation of individual retail shareholders, who constitute a "substantial" bloc, Pao said.

"We have also heard that some top 20 investors are asking Oneok directly for a higher offer — i.e., your current offer pays for tax, now we want some share of synergy," Pao said.

"We maintain our position — Magellan is a superior standalone business with potential to convert to a C-corp on their own," Pao said. "We do not want to pay a huge upfront tax payment to do a merger that has weak rationale."

S&P Global Commodity Insights produces content for distribution on S&P Capital IQ Pro.