In fourth-quarter 2018 upstream, merger and acquisition activity fell to its lowest level since first-quarter 2015 as volatile oil prices and bearish equity markets impeded deal flow. Activity also may be sluggish in 2019, according to Wood Mackenzie.
“It is difficult to see 2019 being a bumper period for upstream M&A. If volatility cedes to stable but lower oil prices, history suggests we’ll see a relatively sluggish year—we tend to see more deals when confidence and investment are high,” said Greig Aitken, director, M&A research. In any environment, however, there are always “motivated sellers and opportunistic buyers.”
Deals to tighten portfolios
Since the downturn, oil and gas majors have worked exceptionally hard to focus businesses on long-life, low-cost growth assets, and that will continue this year, Aitken said. “Expect more country exits, more portfolio high-grading, and more exits from legacy assets.”
Bolt-ons to existing operations and material purchases in core target areas can be expected, however, there are large discovered resource opportunities—Brazil’s 9 billion boe surplus volumes of the transfer of rights contract (with an expected $30 billion in signature bonuses) and Qatar’s North Field expansion—which will compete for the majors’ capital, he said.
Concentration is expected to increase in 2019, Aitken said, as many North American-headquartered independents have become increasingly North America-focused in recent years. “In a low-price environment, companies may rein in budgets so capex is organically funded, but overseas disposals will support balance sheet strengthening and shareholder distributions.”
Permian deals
Scale was the word of the year in the Permian in 2018, as Concho Resources Inc. and Diamondback Energy Inc. spent a combined $20 billion catapulting themselves into the big league, WoodMac said. Small-cap pure-play Resolute Energy Co. was exploring strategic alternatives when larger peer Cimarex Energy Co. swooped in November.
“Remaining small and midcap pure-plays will also be asking themselves some serious questions. In a play that is increasingly being dominated by larger companies, how do smaller companies compete for services? How do they compete on productivity and costs? How do they remain relevant to investors? We expect more combinations,” Aitken said.
M&A activity won’t be limited to the listed pure-plays, he said. While many of the larger privately held positions were acquired in 2016-17, at least two material positions are piquing interest—Felix Energy’s Delaware basin and Endeavor Energy Resource LP.
“With over 300,000 net acres in the Midland basin, it is no surprise that Chevron, ExxonMobil, and Shell are rumored to have kicked Endeavor’s tires. A deal in 2019 is not a foregone conclusion, but if Endeavor's backers want a near-term exit, the IPO route looks a nonstarter under current market conditions,” Aiken said.
Corporate consolidation
A continued focus on discipline means that a recent uptick in corporate-level consolidation will likely gather pace, WoodMac said. Balance sheets can be quickly strengthened through corporate M&A, particularly if the deal currency is equity. Diversifying transactions can reduce the risk of exposure to worrisome pricing differentials. Increased size boosts operations through economies of scale.
“Moreover, 3 years of discipline has failed to provide tangible rewards for many shareholders; a late 2018 sell-off has left many companies trading at, or close to, multiyear lows. Small and midcaps will be the primary targets. But combinations between large Independents should not be ruled out. North America is likely to be the hub of consolidation, due to the unrivalled diversity of its corporate landscape,” Aitken said.
Share price weakness
The E&P share price slide presents a unique opportunity. There are potential bargains out there – good-quality companies which are undervalued due to cyclical, external factors.
Aitken said: “The question is, who's in the best position to take advantage of this? Cash buyers would certainly accrue the biggest benefits, by avoiding paying for acquisitions using similarly undervalued stock. That requires a balance sheet which is strong enough to withstand a period of low prices.
“Some national oil companies (NOCs) may have the firepower to bargain hunt, but there is no sign that the Chinese NOCs still have the appetite for big deals. Other Asian and Middle Eastern NOCs are more likely candidates, based on recent form and clear intentions.
“Private equity, sovereign wealth funds and other investors are well placed. Discounted market valuations are exactly the type of scenario in which these companies can generate value.”