Oil and gas industry looks at debt-driven shakeouts in 2016, says report
AT Kearney, a leading global management consulting firm, released a report on April 25 revealing that 2016 will be a pivotal year for all oil and gas companies as they look to complement their aggressive capex and cost reductions with divestitures, mergers and acquisitions. According to A.T. Kearney’s Oil and Gas M&A Outlook, depressed oil prices will force oil and gas companies in distress to seek scarce buyers in a debt-driven shakeout.
The report is based on an AT Kearney global study and analysis of the oil and gas industry across the entire value chain—from the oil majors, national oil companies, and leading independents to service companies and financial investors—and interviews with senior executives in the industry. Research comprises M&A in the oil and gas industry from January 2003 to December 2015, with utilities classified by Standard Industrial Classification (SIC) codes.
Companies in a stronger financial position will have the opportunity to capture reserve and merger synergies, while companies with weak balance sheets will be forced to offload assets and seek partners to support their cash position as funding options dry up.
“There will be ample opportunities for potential buyers, and we expect to see a surge in assets and companies up for sale,” said Richard Forrest, A.T. Kearney’s global lead partner for the Energy Practice and co-author of the report. “In addition to dramatic capex and cost reductions, today’s survival imperative is to shore up the balance sheet, through shareholder cash injections, debt refinancing, and asset sales,” he added.
Oil and gas M&A activity was limited in 2015 with only a few major deals dominating headlines such as Royal Dutch Shell’s US$81.5 billion acquisition of BG Group.Midstream deal value rose by 68 percent, with the Energy Transfer Equity–Williams deal in the lead. Master limited partnerships (MLPs) largely contributed to this increase, making up well over half the total deal value.
However, total upstream deal value declined by 13%; if the impact of the outsized US$81.5 billion Shell–BG deal in 2015 is excluded, total upstream deal volumes dropped by 54%. Oil field services total deal volume declined 61%, and with the exception of the Cameron International–Schlumberger transaction, the top 10 deals involved financial investors rather than incumbent firms within the industry purchasing oil and gas assets.
Cash preservation and cost reductions are the focus of companies right now but they are quickly running out of options. They have to dig deeper now and structurally change their strategies. Recent price volatility hascreated sharp differences in valuation expectations between buyers and sellers, delaying M&A decisions.
This year will be a pivotal one as cash and liquidity concerns drive a shakeout for those with high costs and debt, the report said. Operators with high debt holdings, especially those relying on reserve-based lending, could see their funding squeezed and credit facilities reduced, triggering them to shed low-performing assets. This will present opportunities for those willing and able to adopt contrarian strategies and take advantage of creative deal structures. M&A deals—whether acquiring, partnering, or divesting—will be a vital way to grow value, cut costs, and navigate the new, more turbulent landscape.
“There are limited buyers today, but the current situation represents a huge opportunity for those with the financial strength required,” said Alvin See, A.T. Kearney principal and co-author of the report. “Companies, including selected national oil companies (NOCs), may capitalize on the current climate to secure reserves or expand operations, and financial investors are busily gearing themselves up for deals. Any run-up in oil prices lasting a couple of quarters will likely be met with a flurry of deals.”
Stronger independents will have the opportunity to acquire assets at a deep discount as debt covenants and redeterminations will play a larger role in triggering M&A. Financial investors will also seek opportunities to put capital to work, targeting different levels of return through varied M&A approaches.
International oil companies (IOCs) will focus on structural cost reduction and portfolio high-grading, making selective acquisitions and continuing divestment programs, especially in unconventional resources, more likely than mega-mergers. BP, Chevron, and Shell, for example, have announced over US$45 billion in combined asset sales over the next few years.
The report forecasts that geopolitics will have a major impact on M&A activity as fiscal austerity will limit M&A in the Middle East, while in China opportunistic oil and gas M&A will play well into Xi Jinping’s “One Belt, One Road” vision. In addition, 2016 will bring consolidation as smaller companies become targets or start to consider creative financing options.
“The year ahead will require tough decisions and a survival mind-set for many non-competitive operators,” Richard Forrest concluded. “For those willing to think and strategize creatively, 2016 will be transformational for individual companies and the long-term future of the industry.”
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