Last week, Mercer Capital released its 2019 Energy Purchase Price Allocation Study. In this post, we’ll be taking a deeper dive into the Exploration & Production transactions reviewed in the analysis.
The E&P sector had the lowest average allocation to intangible assets, at just 2% of total purchase consideration. In fact, only two of the eleven transactions analyzed had any intangible allocation at all. Oasis Petroleum recorded a small ($1 million) intangible asset related to a non-compete agreement in connection with its acquisition of Forge Energy. The major outlier was Concho Resources, which recorded over $2.2 billion of goodwill related to its acquisition of RSP Permian.
Exploration & Production is not an intangible asset-driven business model. These companies sell a commodity, so there is no real brand value leading to trademark or trade name allocations. Bill Barrett and Fifth Creek rebranded as HighPoint Resources after their merger, and recently two E&P companies (Ovintiv, formerly Encana, and Battalion Oil Corporation, formerly Halcon Resources) changed names, the latter likely influenced by its emergence from bankruptcy.
The commodity is generally sold at market hubs, so specific customer relationships have minimal value. (To the extent the company has derivatives that result in above-market pricing realizations, that asset is captured separately.)
And while E&P companies tout their technical prowess, few outside of the majors spend meaningfully on R&D or have protected intellectual property. None of the transactions analyzed in this year’s study included allocations to Developed Technology or In Process Research & Development.
Ultimately, the value of an E&P company is driven by its reserves, and purchase price allocations generally reflected that. Based on the transactions reviewed in our analysis, ~90% of purchase consideration was allocated to reserves.
Again, the outlier in the data is Concho’s acquisition of RSP Permian, in which over $2.2 billion was allocated to goodwill. In its 2018 10-K filing, Concho rationalized the goodwill value as follows:
Goodwill recognized is primarily attributable to the following factors: (i) operating and administrative synergies and (ii) net deferred tax liabilities arising from the differences between the purchase price allocated to RSP’s assets and liabilities based on fair value and the tax basis of these assets and liabilities. For the operating and administrative synergies, the total consideration for the RSP Acquisition included a control premium, which resulted in a higher value compared to the fair value of net assets acquired. There are also other qualitative assumptions of long-term factors that the RSP Acquisition creates for the Company’s stockholders, including additional potential for exploration and development opportunities and additional scale and efficiencies in basins in which the Company operates.
Despite the headwinds faced by the E&P sector since the Concho / RSP transaction, Concho has indicated that this goodwill value has not been impaired. The company’s most recent 10-Q indicates that quantitative impairment tests were performed as of July 1, August 29, and September 30, 2019. (However, Concho did take an $81 million goodwill impairment charge related to certain New Mexico Shelf acreage that was divested in 2019.)
In an environment of increasingly complex fair value reporting standards and burgeoning regulatory scrutiny, Mercer Capital helps clients resolve financial reporting valuation issues successfully. We have the capability to serve the full range of fair value valuation needs, providing valuation opinions that satisfy the scrutiny of auditors, the SEC, and other regulatory bodies. Contact our Energy Industry or Financial Reporting Valuation teams to discuss your valuation needs in confidence.