Earlier this month, the NAPE Expo in Houston, TX, was once again at the center of the oil and gas industry. Every February, NAPE’s Global Business Conference provides insight from multiple perspectives in the industry. This year it included, among other topics, discussions of energy policy around the globe. Additionally, TPH&Co. provided a review of 2022 and an outlook on the merger and acquisition market in 2023.
Oil & Gas Consequences on Energy Policy
A panel comprised of Doug Sheridan of EnergyPoint Research and my Forbes.com colleague, David Blackmon of DB Energy Advisors, started off the conference. Ed Crooks of Wood Mackenzie moderated. The discussion began with commentary regarding the EU trying to wean itself off Russian energy. Sheridan was surprised at how much the EU has committed to its stance thus far and in how much better shape it is than otherwise expected (thanks to a milder winter this year and a drop-off of LNG demand in China). The flip side of that is the fungibility of the market for Russian crude through its shift to selling cheaply to India.
Blackmon noted that the EU has fared better with LNG shipments diverted to Europe instead of Asia. This makes things harder for Sri Lanka, Pakistan, and other places in the short run. However, he was unsure how reliable the U.S. would be as a European trading partner. For example, President Biden made commitments in March 2022 to the EU; however, he may not have consulted the industry before making that proclamation. It is a three-year cycle from FID to producing first gas if one can get the permits, but a company Blackmon knows had been waiting 14 months for a permit to move infrastructure 30 feet to the east of its plant. Sheridan was a bit more bullish on this, noting the inelasticity of both crude and gas.
Regarding domestic company policies, most management teams appear happy with executing the same plan in 2023 as they did in 2022. The industry remains in sort of a defensive, disciplined posture. Maybe that isn’t a permanent arrangement, but it’s a comfortable one. The industry has gone from a drilling boom into this long-term development phase.
Another interesting part of the discussion centered around a Financial Times article (subscription required) comparing the views of Exxon and BP around longer-term vantage points and climate policy. Both Blackmon and Sheridan agreed more with Exxon’s perspective that to get to where governments desire, major subsidies are required for companies to act. There are ultimate mineral limitations for batteries, and the electric vehicle projections are based on fantasy. Blackmon noted that private capital will continue to pursue renewables to attain the subsidy dollars being handed out, but the tradeoff will be more unstable electric grids powered by solar and wind that eventually may cause voters to rebel against these policies.
Pricing expectations for 2023 were similar between the panelists. $90 Brent (with associated volatility, of course) will have to be the case to stimulate supply. Natural gas prices will stabilize again in the $3-$5 range. There’s too much gas supply to keep prices high for long.
Both Blackmon and Sheridan thought the narrative discussion would gravitate towards “energy diversification” and away from “energy transition.” Too much energy will be needed to discontinue those pursuits in the long run.
Merger and Acquisition Outlook
Chad Michael, President of TPH&Co. provided an update on the M&A market for energy. Leaning on football analogies with the Super Bowl looming, he noted that the volume of deals and dollars was way down in 2022. $2 trillion dollars of merger volume in 2021 dwindled to $1.2 trillion in 2022. This happened as energy outperformed the stock market. While upstream deals were down from 2021, it was still relatively robust from a historical perspective.
The most successful strategies centered around (i) basin bolt-on acquisitions coupled with (ii) accretive multiple acquisitions. On average, buyers had 4.4x multiples, while targets had 2.6x multiples. This accretion centered on free cash flow and positive stock price reactions. There were also mergers of equals, such as the Oasis and Centennial mergers.
Another trend in 2022 was the increased role in passive acquisitions—namely, the non-operating and royalty market, which now comprises 10-15% of the market overall.
In 2023, Michael estimates that many of the same strategies will be employed. There is a strong correlation between size and trading multiples as well as inventory life and valuation (particularly Tier 1 drilling inventory). One thing that may develop this year as smaller to mid-cap companies become a more relevant part of the market, they may see more mergers to manage overhead expenses efficiently.
Other less-likely strategies mentioned are out-of-basin spending, adding financial leverage to change inventory profile, or even integrating the value chain. However, Michael wasn’t particularly optimistic that any of these concepts would make much of a splash in 2023.
Other areas discussed included a more oil-weighted acquisition market with less volatility and less optimistic strip pricing. Discount rates varied widely in 2022, depending on the profile. PDPs saw 10%-15% discount rates, but overall Michael’s comment was, “give me a profile, and I’ll tell you the discount rate.” There are a lot of production-heavy assets right now, but Michael noted that it is hard to get private equity-style return expectations with PDP-heavy assets alone. However, as long as some inventory is there, a deal can get done.