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Not that long ago, many oil and gas companies secured at least a part of their revenue by hedging contracts. Bloomberg already reported in June that many of these companies saw their artificial safety nets vanishing as oil prices failed to recover. One month later, we heard such morale-boosting terms as "frack now, pay later," which were merely a bold move by struggling oil services companies to encourage cash-strapped oil and gas companies to continue operations.
Simultaneously, we witnessed the bankruptcies of companies such as Samson Resources, Hercules Offshore and Sabine Oil & Gas Corp. These bankruptcies put the industry on notice. The cash flow situation for the entire oil and gas sector looks outright grim. Credit rating agency Moody's expects a sectorwide negative cash flow of $80 billion and is expecting spending cuts to continue next year. See figure 1 below for an overview of industry income and spending.
Summing it up, debt, negative cash flows and the outlook for oil prices have led companies with weak balance sheets to divest in a big way.
Although we have witnessed a couple of noteworthy acquisitions in recent months, which put 2015 in the books as a year with a high volume of takeovers, we cannot yet speak about an absolute M&A boom.
One of the most important reasons holding back takeovers of entire companies is the oil price volatility we have seen in the last few weeks. Financially stronger oil and gas companies seem to have postponed takeover plans and are now focusing on the acquisition of promising land holdings. Nonetheless, it seems that both buyers and sellers are preparing themselves for what could turn out to be a fire sale.
According to Bloomberg, the shelves of the M&A supermarket are filled with over $200 billion worth of oil and gas assets for sale worldwide. When taking a closer look at the "market ware," it becomes clear that the vast majority of oil and gas assets for sale are located in North America. As previously mentioned, debt pressure, but also the need for focus on core activities, has increased the number of assets for sale in this part of the world.
CEO Doug Lawler of Chesapeake Energy Corp. denied that the offering of its Utica dry gas assets is a fire sale, telling investors that the company is not desperate. This might have been true for Chesapeake, but an increasing number of cash-strapped U.S shale drillers have less time to ponder potential asset sales as interest payments and debt maturation prompt companies to take immediate action. Figure 2 below gives a good insight on the debt pressure some of the U.S shale drillers are currently facing.
This increased pressure and limited time to sell off assets has resulted in a steep price drop in oil and gas assets predominantly in North America, but also in the U.K.
Some of the more comfortably positioned drillers such as ConocoPhilips (over $1 billion in asset sales), Encana ($900 million) and even oil major Repsol ($6.2 billion) are selling off non-core assets in order to focus on core projects.
Some other drillers are letting valuable land positions in one of the highest-yielding basins in the United States go for less money than they had hoped. Linn Energy sold high-yield Permian positions (worth $281 million). W&T Offshore had to sell off Permian assets for which, according to Bloomberg, it received "less than a fourth what was paid for similar land in another deal just months ago" ($376 million) in order to reinforce its balance sheet. Debt-laden California Resources Corp., the state's largest oil and gas producer, is considering the sale of some of its major assets in order to ease its $6.5 billion debt burden.
Even copper miner Freeport McMoRan has put its oil and gas assets up for sale after its debt position got completely out of hand. According to Bloomberg, the company's assets are now worth $1.8 billion less than they were a year ago.
And most likely, the amount of assets for sale is not likely to decrease anytime soon. According to Moody's Corp., one out of eight junk-rated oil drillers was at risk of defaulting when oil fell below $40 per barrel last month. And more "drillers in distress" can only mean more oil and gas assets up for sale.
As dire as the situation might be for some drillers, some financially stronger companies and investors are looking at something that might be developing into a generational opportunity for consolidation and growth in the oil and gas sector.
As mentioned before, some major acquisitions have been made or are currently in the pipeline, such as the Shell-BG takeover and the Halliburton-Baker Hughes merger. It may, however, be more interesting and rewarding for both oil and energy investors and financially strong oil and gas companies to watch vast amounts of assets being auctioned in what may soon turn out to be a fire sale of onshore and offshore positions in the best-performing North-American oil and gas plays.
Tomorrow's winners will undoubtedly be the companies that manage to secure promising positions without jeopardizing their balance sheets.