M&A rises in Q3 as majors target US shale [NGW Magazine]
Upstream oil and gas witnessed a sharp rise in merger and acquisition (M&A) activity in the third quarter of this year to $50bn, which was up 145% on Q2 and 78% above the same quarter in 2017. This was the highest quarterly deal total since Q1 2017, when there were $67bn-worth of deals, according to analysis from Evaluate Energy.
The North American onshore has been the focus of attention for mergers and acquisition activity, as payback there is quick and asset prices are still attractive.
The factors encouraging deals included expectations of stable or higher oil and gas prices in coming months – although the last week or two may raise questions over that; a need to replace reserves following low recent capital expenditure (capex); and improved financial performance among oil and gas companies. This was particularly true in the US onshore, where debt default rates are expected to fall to 11% this year after hitting 17.5% in 2017, according to Fitch Ratings.
Relatively low interest rates have also encouraged borrowing for M&A activity, but levels are now on the rise, which could act as a dampener going forward. Much of the recent buying has been debt financed, with leveraged loan issuance in the oil and gas industry in the first half of 2018 reaching $62.9bn, according to Thomson Reuters’ data. That is more than twice the $30.5bn seen in the first half of 2017, when investors stopped lending owing to low oil prices.
Interest has been led by majors and other large operators, which have maintained financial discipline over recent years through tighter capex and improved efficiency - so now that prices are rising again, they have funds available and a need to replace reserves. Private equity (PE)also played a part, although with prices having risen this year, PE activity is now slowing, especially as concern grows over rising trade and geopolitical tensions.
As usual, most of the Q3 deals were in North America. Upstream M&A in the US and Canada accounted for over $39bn, or 79%, of total global spending, helped by a general view of stable to higher oil prices. In the US. alone, the figure was $32bn, which was the highest since Q4 2012 and 76% higher than the quarterly average (since 2009) of $18.3bn, according to US analysts, Drillinginfo.
The continent’s largest deal of the quarter was BP’s acquisition of BHP’s assets in the Eagle Ford, the Permian, the Haynesville and the Fayetteville for $10.5bn. Other bidders included large private equity buyers and rival majors Shell and Chevron. It was the biggest acquisition for BP since buying Arco in 1999. Most of the 190,000 boe/d assets came from BHP’s 2011 $15bn Petrohawk deal, which was widely seen as overvalued, given the subsequent fall in US gas prices: the assets were 90% gas in 2011, although the proportion is much lower today.
Other recent examples include ExxonMobil’s purchase of Permian Resources for $6.6bn in 2017. Exxon plans to increase its shale oil production in the basin fivefold, to 500,000 boe/d, by 2025. The Anglo-Dutch major Shell is also active, having announced plans to spend $2.5bn/yr on US shale assets, or about 10% of its total budget.
Other major deals, including Diamondback Energy’s purchase of Energen for $9.2bn were also focused on the Permian, suggesting an especially strong trend towards consolidation there, partly owing to the need for deep pockets to overcome infrastructure constraints. Marathon Petroleum’s acquisition of Andeavor for $35.6bn was recorded as Q2’s top deal for the industry.
Private equity was still successfully active at scale in the midstream segment in Q3, with KKR teaming up alongside Williams to purchase Discovery Midstream for $1.2bn.
Consolidation in the U.S. onshore had been expected to pick up. Explosive growth over the last decade has resulted in a highly competitive, but fragmented sector. Now oil prices are higher again, margins are increasingly attractive, and a number of large deals have been pending for a while.
“The larger transactions all carried their own specific driver, but the constant theme is the perceived market preference for a producer to be single-basin focused and cash-flow positive – or at least cost conscious. This would in turn encourage consolidations and the sale of “non-core” assets to generate revenues to offset drilling operations,” said Austin Elam, an associate at law firm Haynes & Boone.
Drillinginfo expects the US M&A activity to remain high over the next six months to a year, with assets worth $30bn on offer, including Occidental Petroleum’s pipeline assets at over $5bn. Elam said there was uncertainty over predicting activity levels in Q4, “given the public company focus upon becoming cash flow positive, as opposed to actively growing reserves,” but some factors would continue to stimulate activity.
“We expect to see continued “non-core” asset sales by large producers seeking to redeploy capital although the level of activity will almost certainly vary widely by basin. There is expected to be continued consolidation in the Permian and elsewhere as a means to “core-up” acreage positions and reduce overall costs,” he said.
Ducks in a row for Canada’s East Coast LNG
An important gas-focused deal came from Pieridae Energy, which plans to export LNG from its planned Goldboro LNG export facility in Nova Scotia to Europe and elsewhere from 2023. The Canadian company agreed to acquire Ikkuma Resources, which produces gas in Alberta, for $119mn. The deal could be an important step towards ensuring integrated upstream supply for Goldboro, helping bring the plan closer to fruition.
The company is aiming to achieve a final investment decision for the project this year and has already signed a 5mn metric ton/yr deal to supply German utility, Uniper. Pieridae is planning to supply gas to Goldboro LNG using existing pipelines – keeping costs down relative to its rival LNG Canada, which is planning a new multi-billion-dollar pipeline.
The biggest deal outside North America in Q3 was also gas-focused, with Santos buying Quadrant Energy for $2.15bn in Australia. The primary reason for the acquisition was to expand Santos’ gas operations in Western Australia, and the deal will boost gas production volumes, generating cash flow for future LNG expansion projects. Santos recently divested its non-core Asian assets to Ophir, and the deal further emphasises the company’s refocusing on its home Australian market.
Another notable gas-focused deal was OMV’s agreement with Malaysia’s Sapura Energy to acquire a 50% interest in Sapura’s wholly-owned subsidiary, Sapura Upstream. The new “strategic partnership” includes a portfolio of commercially viable gas assets offshore Sarawak and acreage in New Zealand, the Gulf of Mexico and Australia.
Companies seeking to rid themselves of fossil fuel assets on environmental grounds have also brought no-longer-needed assets to the market as they seek greener investors and customers. The fourth largest deal this year, amounting to just under $2.4bn, came from Caixa Bank, which sold off its 9.36% stake in Repsol as part of plans to divest from fossil fuel and other industries, presenting a greener image to customers in the process.
The biggest deal of this sort to date is the former Dong Energy’s sale of its hydrocarbon assets to Ineos for £1.3 bn in 2017, when the former Danish oil and gas producer became Oersted and a renewables-only operation. Similar trends are occurring outside upstream oil and gas, in the power sector, where Scottish Power recently divested itself of gas-fired generating and hydro assets, which went to Drax, leaving it with only wind. Engie is also becoming greener, shedding coal and some of its gas – but not, notably, its plans to finance part of Gazprom’s Nord Stream 2 pipeline.
While analysts such as Drillinginfo point to plentiful assets on the market as a sign that high levels of M&A activity are likely to continue, the recent high crude prices and volatility, along with higher interest rates and rising concerns over global economic growth and geopolitical events, could well dampen interest over coming months.