Last week, it was announced that global M&A activity has reached a 7-year high. Although the activity is linked to the recent mega-deals by large corporations, the flowing dollars may set the stage for exceptional activity in the right industries — especially the energy sector.
“It is a very active time for the energy sector,” explained Shareef Batata, Senior Vice President at Allegiance Capital Corporation. “It is a hot market in general and both sides (buyers and sellers) are looking to consummate deals that are mutually beneficial.”
The activity in the energy sector is being driven by a combination of macroeconomic and industry-specific undercurrents. Many of the trends are pointing to now being the perfect time to sell a business:
Why the Cycle is Peaking
Within the oil and gas drilling and support activities sector, one of the most important trends impacting deal activity is that “oil prices are expected to decline to $85/bbl per Bloomberg,” said Batata. “That is a significant hit and warrants further consideration of what’s next. It doesn’t mean we’re going through a contraction — it just means things will eventually cool off from double digit growth.”
The activity in the energy sector is also being influenced by overall market robustness – after all, a rising tide lifts all boats. As Batata explained, “If we look at the macro level, markets are peaking — trending stocks, Warren Buffett’s valuation indicator pointing to US publicly-listed market caps well outpacing the GDP, etc. — indicating that things are getting frothy.” He added, “It is a good time to sell solid businesses across the board, including oil & gas.”
Many entrepreneurs have also seen these favorable signs and seek to take advantage of them. “Business owners are now starting to consider selling their business, which was not the case over the last few years because they were so focused on growing their business,” said Batata. “As [activity] picks up, they realize the opportunities that bringing in a strategic partner may create.”
In addition to the economy, the oil and gas industry is subject to demographic shifts as well. As Bruce Condit, VP of Public Relations at Allegiance explained, “The O&G industry is relatively mature — you have a lot of baby boomer owners out there. After surviving the 2008 downturn, many baby boomers may not be willing to go through another down cycle.”
These positive macroeconomic and industry-specific trends have brought many business owners to the table: O&G deal flow on Axial increased 48% from Q4’13 to Q1’14.
Majority and Minority Options Simplifying Exits
However, Batata pointed out that these favorable trends are highly subject to change. “One of the biggest challenges for O&G is that political, geological, or social shifts can quickly change demand.” The recent uprisings in Iraq are a perfect example of unpredictable events that can shift the supply of resources. He continued, “Everyone knows it is a very cyclical business, as well, and it is important to take stats with a grain of salt. There is always the ‘what if?’ question.”
Many financial sponsors are willing to look past the ‘what if?’ question because of the lucrative possibilities in oil & gas. Some of the most experienced buyers are looking to capitalize on the significant proliferation in recent years of oil and gas companies. As Batata explained, “Consolidation definitely makes sense, whether it is O&G or other. Where you have fragmentation, you have inefficiencies.” He continued, “Even if prices do drop, many O&G companies are still looking at high single digit growth, like 9%. Most PE groups would be very happy if they had guaranteed 9% growth through 2017.”
Since financial sponsors are “looking for opportunities that will help them enter the market or augment their positions within it,” many are beginning to pursue minority investments to secure the deal. “Private equity firms have personally told us they are now willing to take minority stakes in companies,” said Condit. “This is a significant departure from past practices for most funds.”
With increased competition heating up the M&A market and most signs pointing to a frothy market, oil and gas business owners are looking for ways to take a few chips off the table. Though not every owner is ready to completely exit, transactions with longer-term buyouts, minority stakes and other creative structuring can help push deals across the finish line.