Oil & Gas Infra M&A in 2011: A good year for asset acquisition

Gaurav Sharma 10/10/2011 The type of transaction that always tops Infrastructure Journals current corporate finance league table data series, started in 2008, is infrastructure asset mergers and acquisitions. Furthermore, classifying M&A transactions by sector, oil & gas leads the way. Despite an aura of predictability about both the type of transaction and the sector that dominate our corporate finance data, for all intents and purposes, 2011 is turning out to be a gem of a year for energy asset acquisitions.

This one is not hunting for energy assets! (Trans Alaska Pipeline, USA Michael S. Quinton/ National Geographic)

In fact, the year still has a little over two months left and already the deal valuation figure, using September 30th as a cut-off date, is well above the total valuation for 2008, the year that the global credit squeeze meaningfully constricted capital flows. In 2008, IJ analysts noted 23 oil & gas M&A transactions valued at US$19.33 billion. Deal valuation then declined to US$18.14 billion and US$16.70 billion in 2009 and 2010 while the

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number of transactions first fell to 19 and then rose to 32. In fact 2009 would have been a wretched year in relative terms, had it not been for a US$6.3 billion transaction concerning the acquisition of Stogit & Italgas. Big ticket items were largely absent in 2010 and while the number of transactions rose, valuation declined. By contrast 2011 is apparently suffering from no hang-ups simply because, and to quote one industry insider, now would be a good time to make strategic energy asset acquisitions; given the economic headwinds or shall we say perceived economic headwinds some assets or stakes in ongoing projects could be purchased at a discount.

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Many are using that logic, as IJ analysts have so far noted 21 transactions and a deal valuation to the tune of US$27.11 billion (and counting). The question is why isnt the current economic malaise affecting investor mindset? The answer is neither simple nor linear. Market conjecture is, while the current trend for crude oil price is decidedly bearish, the sentiment cannot last forever. Yet the economic climate does have a bearing on touted price of the energy assets, especially prospection fields/development licences with no short term prospects of hitting black gold and refinery infrastructure. So if you acquire a liability at a discount and hold on to the liability long enough lo and behold it becomes an asset and the potential rewards can be great, more so than any other sector. Furthermore, when it comes to the refineries sub-component of this infrastructure sector, asset acquisition is a good avenue rather than new build given the present issues related to poor margins and overcapacity in most international jurisdictions. The maths is simple; as I noted in my refinery infrastructure report (November 2010)[1]. To build a new refinery, project costs may vary from US$1 to 10 billion contingent upon capacity and complexity.

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Looking at historic transactions of refineries bought and sold over the last five years and comparing them to new build costs, there are instances where the transaction value is 20 per cent of rebuild cost. So the acquisition of a built refinery with a modest capacity could be in the "millions" of dollars or but to build one the capital spend would US$1.5 billion or over. Many oil majors have stated intentions of reducing their downstream portfolio by 15 to 20 per cent which without a doubt means selling some of their refinery assets. Regrettably, while market intelligence suggests that a lot of portfolio tweaking is happening, most substantive asset acquisitions or corporate deals for that matter that IJ analysts note are not refineries. Not so for upstream assets, where a different high risk, high reward model applies.

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Michael Byrd, Houston-based partner at Baker & McKenzie feels that conditions for making an oil & gas asset acquisition are quite conducive, more so for upstream assets. Opportunities exist in all three Downstream, Midstream and Upstream projects, but in case of the latter, projects in remote offshore and onshore basins have become more economical due to new technologies and more favourable oil prices (long-term), he said[2]. Invariably, the wider market is not likely to miss this as is evident from IJ data, but Byrd advocates an abundance of caution for prospective investors, especially those excited by markets other than the hitherto traditional energy asset markets such as US, Canada and European jurisdictions.

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In this climate, with assets on offer from Azerbaijan to Nigeria, he feels certain issues beginning with structure of acquisition vehicle should be well thought out along with the nature of asset(s) to be obtained, local jurisdictional issues (e.g. regulatory and compliance, including anti-bribery statutes), transaction issues (e.g. title and limitations on transfers) and last but not the least the crucial need for local counsel. Furthermore, the desired structure for the acquisition vehicle will be influenced by many factors, including, but not limited to tax issues (with regard to local laws, applicable treaties, and home country laws) and limitations on foreign ownership of certain interests. In the current geopolitical climate and its inexorable impact on the energy business, should the worst happen or business conditions demand it, exit strategies must also be thought of. For the moment, there is no curbing of the M&A enthusiasm in the oil & gas infrastructure sector especially if punters dont throw caution to the wind. NOTES: [1] Oil Refinery Infra Outlook 2011: An Unloved Energy Asset?, Gaurav Sharma, Infrastructure Journal, November 10, 2010. Available here. [2] Acquiring Strategic Stakes in Publicly Listed Companies or Direct Interests in Energy Assets, Baker & McKenzie webinar, Partners - Hugh Stewart, Robert Adam and Michael

Byrd (First broadcast on September 28, 2011).

This report was first published by Infrastructure Journal on Oct 10th, 2011.

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