Oil and gas tie-ups ignite after slow burn
29 October 2020 - 04:12 pm UTC
by Hana Askren in New York, Nate Trela in Denver and Onofrio Castiglia in Charlottesville, Virginia
Oil shock and curbed demand heated up long simmering deals
Activity likely to stay heaviest in Permian
Exxon Mobil, EOG, Diamondback among names tipped for possible deals
A flurry of energy deals in recent weeks was likely the culmination of years of calls for upstream oil and gas consolidation, with the market's positive response to announced no-premium, all-equity deals likely to push more partners together, according to industry sources.
The generally favorable market reactions to tie-ups started in July with Noble's [NASDAQ:NBL] sale to Chevron [NYSE:CVR], and continued more recently with Parsley's [NYSE:PE] sale to Pioneer [NYSE:PXD], and WPX's [NYSE:WPX] merger with Devon [NYSE:DVN] -- an endorsement of deals that bring synergies and concentrate assets that can turn a profit at USD 40 oil.
"There's momentum now," a sector advisor said. "You don't want to get caught without a partner so old conversations are getting revisited."
A sector executive said a number of factors are pushing deals to happen now. Election concerns about potential tax and regulatory changes that Joseph Biden (D-Delaware) could institute, if elected, are not of central importance in the upstream space, he said. The first deals came prior to those considerations as acceptance of a new normal settled on the oil and gas industry over the last year.
By early March, the potential imbalance between supply and demand became a painful reality, the executive said. First, Saudi Arabia and Russia's failure to agree to a production cut threatened a glut of oil far exceeding existing demand. Then lockdowns brought on by the COVID-19 slashed demand.
Another driver is the global investor push toward ESG issues, which is independent of politics, said the executive and a second advisor. "There is an expectation that investors will continue moving away from fossil fuels no matter who is president," agreed a third advisor.
All of these variables are leading public companies to focus on assets that can be profitable at USD 35 or USD 30 per barrel and that generate cash flow, in preparation for more volatility. US oil prices closed at USD 36 per barrel on 29 October.
"Unless you're one of the majors or really large independents, you don't have several years of assets that good," the executive said. "That doesn't mean your other acreage is worthless, but it's not going to help you right now. So you either lengthen the runway with a deal or you take your licks."
Most majors should be done shopping
All four sources agreed that Exxon Mobil [NYSE:XOM] could be on the hunt for acquisitions, particularly in the Permian. The first and third advisor and a second executive said it is the most likely major to go shopping, with European companies Total [EPA:FP], BP [NYSE:BP] and Shell [AMS:RDSA] shifting towards clean energy and carbon-neutral practices. Chevron could still do a multi-billion dollar deal, noted the exec.
Exxon made a significant move into the Permian in 2017 with its USD 6.6bn acquisition of Bopco and other assets in the basin from the Bass family, but that package needed significant investment to grow production, the first advisor said. As the industry pivots to a greater focus on free cash flow and shareholder returns over production growth, the major would be well suited to acquire cash-generating assets.
On 29 October, Exxon announced it would cut its global workforce by as much as 15%, including 1,900 jobs in the US.
Both advisors have heard rumors of Exxon showing interest in EOG Resources [NYSE:EOG], whose multi-play portfolio includes significant assets in the Permian and Eagle Ford plays. The company produced USD 4.6bn of free cash flow from 2017 through 2019, according to financial statements. The first advisor also noted that EOG's top two C-suite executives have around 40 years in the industry and there was no obvious successor in house.
That said, EOG is also in a good position to be a buyer, the first advisor said. And while it has not been a prolific acquirer, making an acquisition could also allow it to deepen its bench of potential future leaders for the company. Its last major upstream buy came in 2016, when it paid USD 2.3bn for Yates Petroleum and related companies.
The boundaries of what is an acceptable premium to pay were probably pushed by ConocoPhillips' USD 13.3bn acquisition of Concho Resources, the executive said. That deal came at a 15% premium and ConocoPhillips' stock has fallen about 10% since the announcement.
Permian players could partner up
Deals in the US have focused on the Permian in large part, and that is likely to continue, the first advisor said. It simply has the greatest amount of acreage that could work below USD 40 a barrel and, at least for now, has adequate existing or future infrastructure to support current production levels. Investor demand for synergies and concentration of assets also make it the likeliest spot for consolidation.
The second and third advisors highlighted Diamondback Energy [NASDAQ:FANG] as a likely consolidator throughout the play, with "the best opportunity to stay independent," according to the second advisor. The company, which made more than USD 13bn worth of acquisitions in the play from 2016 to 2018, should aggressively look at down market Permian players and PE-backed companies throughout the play. The second advisor tipped SM Energy [NYSE:SM], Guidon, and Apache [NASDAQ:APA] as possible targets.
The second advisor also named Cimarex as a possible target, but the first advisor said it could be in a position to make buys because of its low debt levels and significant amount of acreage held by production.
Other potential targets named by the first advisor include Murphy Oil, Centennial Resource Development [NASDAQ:CDEV] and Callon Petroleum [NYSE:CPE].
The first advisor did caution that oil-weighted companies with multi-basin portfolios in the US may have a harder time finding M&A deals, particularly with many public companies cutting spending outside of the Permian. Outside of this week's Contango-Mid-Con Energy Partners deal, M&A focused on oil-weighted assets in the US has been pretty much nonexistent since the COVID-19 pandemic started. If oil deals are going to be done, they will be in the Permian almost exclusively, he said. "If it's oil, [the Permian] is where most of the action will be for the foreseeable future," he said.
Exxon declined to comment for this story. Diamondback, EOG and Chevron did not immediately respond to requests for comment.