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    Consolidation in E&P Sector to Pick up Pace: WoodMac


The trend of consolidation will accelerate in the face of the energy transition, Wood Mackenzie argues.

by: Joseph Murphy

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Consolidation in E&P Sector to Pick up Pace: WoodMac

The trend of consolidation among independent oil and gas producers will pick up pace as a result of the energy transition, Wood Mackenzie said in a research note on November 17, as "a world on a 2-degree glidepath does not need thousands of independents chasing volume."

As oil and gas investors focus more on stable dividends, a strong balance sheet, low capital costs and high environmental, social and governance ratings, upstream firms will face "existential choices," WoodMac said.

"The independents' strategies will need to evolve, as they move to minimise risks they can control. For most, investment horizons will get progressively shorter across the board – exploration, development, and acquisition. Anything that does not pay back in a narrowing timeframe will be increasingly overlooked," WoodMac vice president Luke Parker explained. "But with that shift, the very nature of the independents will change."

"The risk-reward balance that has always been core to the E&P 'value proposition' gets diluted," he continued. "Independents increasingly look and act like larger companies, only without the advantages of actually being a larger company." 

Consolidation will be the "defining theme" over the coming decades, WoodMac said. Some oil and gas companies will scale back their upstream operations and emerge as big energy players, while others will establish themselves as big oil players, through vertical mergers with value chain integration. Some existing oil majors will grow bigger, as demonstrated by Chevron's recent acquisition of Houston-based Noble, WoodMac said.

"The independents that positioned themselves well for this future – advantaged assets, cash generative, resilient to low prices, strong balance sheet, top quartile ESG – are best placed to evolve," Parker said. "They are able to remain independent for longest, but they also make the most attractive consolidation targets."

Another trend will be privatisation, with private equity investors, hedge funds and sovereign wealth funds seeking opportunities to buy low-multiple, high cash-flow companies otherwise finding it difficult to attract funding. 

 "Essentially we are talking about companies that will find it increasingly difficult to operate in public hands," Parker explained. "Taking them private – free from stakeholder pressure, with an advantaged cost of capital and different investment horizon – could be a lifeline to many."
WoodMac estimates the value of listed independents at $1 trillion, assuming a long-term Brent price of $50/barrel, which is six times the amount private equity players spent on upstream mergers and acquisitions over the last decade. While mergers may "prolong the inevitable," many independents will not survive to 2050 in any form.

"In a future that threatens terminal decline and massive value destruction, the dynamic is shifting," Parker said. "The independents will no longer get endless chances to re-invent themselves. Failure at the margin will, increasingly, be terminal."