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Buyer's market

Deal making recovered in 2017 and will continue to pick up in 2018 as investors look for new growth opportunities

Oil and gas mergers and acquisitions (M&A) had a strong 2017 and the momentum is set to carry into 2018. After spending much of the downturn optimising their portfolios, though, companies are now starting to shift their deal making to propel growth. This is supported by the latest EY Capital Confidence Barometer (CCB), which found that oil and gas companies have the highest acquisition appetite among all sectors surveyed, with 69% planning to acquire within the next 12 months.

The Opec supply-cut deal in November 2016 helped stabilise the M&A market by fostering a consensus about where the market was heading. The value of oil and gas deals through 2017 was almost 60% higher than in 2016, with 96% of oil and gas CCB respondents stating that the M&A market was improving or stable.

The US drove upstream M&A activity in 2017, accounting for more than 40% of deals globally—with activity in the Permian Basin representing more than 40% of US deal value. Conversely, the appetite for M&A in the US midstream was subdued, in light of heightened regulatory uncertainty as the new Trump administration, although generally supportive of the industry, proposed a number of policies that could potentially dampen investor enthusiasm.

Upstream activity in Canada and the North Sea was buoyant. Portfolio optimisation resulted in a sharp increase in M&A deals in Canada as several international majors exited from the oil sands, selling their assets to Canadian specialists. Overall, deal value in the North Sea reached multi-year highs at $18.4bn, more than four times the value during 2016.

It's also reassuring that financing hasn't been an obstacle to deal activity in the upstream. And while buyers appear to be adopting a more cautious approach in selecting assets to invest and divest, I expect upstream M&A activity to remain strong for the next 12 months.

Private equity (PE) investment activity, in particular, is expected to intensify in 2018 thanks to $143bn of "dry powder" that hasn't yet been invested. Notably, 45% of oil and gas CCB respondents said that they anticipate increasing competition for assets from PE over the next 12 months.

69%—Companies looking at acquisitions in 2018

In the upstream, North American unconventional plays remain most attractive, given their fast-response and compelling economics. The Permian Basin has been the epicentre of activity. But as competition heats up and land valuations keep rising in this basin, investor appetite is slowly shifting toward other emerging targets, including the Oklahoman Scoop/Stack plays, and across the Central Basin and Powder River.

PE investors are expected to pick up assets that are concentrated either around established conventional assets or more mature unconventional plays, to help ensure downside oil-price risk protection. Deal opportunities are expected to continue from strategic players looking to focus on their core assets or plays, while selling off their non-core assets.

Furthermore, as we enter 2018, alternative deal structures—drillcos and strategic partnerships between PE and oil and gas companies—are likely to remain in favour as they marry PE firms' desire for exploration and production exposure, and oil and gas operators' need for capital.

Internationally within the upstream, the mature North Sea has remained a popular destination for PE investment, and this trend is likely to continue. Other regions, including Latin America and Asia-Pacific, are also emerging on the radar of PE firms looking for international diversification.

The outlook for deal making across oilfield services (OFS) is looking brighter in light of the increased stability across the sector. I expect significant consolidation and integration in the short-to-medium term, driven by PE-backed tier-1 specialists acquiring assets from bigger players, specifically in late-life basins such as the North Sea. And in North America, PE-backed OFS players are looking for companies that have a strategic technology advantage, specifically in artificial intelligence and big data, which can further help drive down per-barrel oil cost.

Downstream activity is being propelled by national oil companies' (NOC) efforts to increase geographic penetration and integration. New markets, including Brazil and Mexico, are likely to continue to drive interest from NOCs looking to acquire or invest in refining assets.

I also see companies increasingly considering convergence across the energy landscape. Emerging technologies continue to disrupt the oil and gas market, with the rise of electric vehicles and alternative charging stations exposing the majors' traditional network of petrol and diesel fueling stations to new risks.

In these uncertain and changing times, I believe M&A will be a key driver for success across the sector, and companies that embrace the future through convergence with other industries—including automotive—will position themselves ahead of the competition. I therefore expect the recent growth trajectory to be further fueled by cross-sector deals and continued consolidation into 2018.

Andy Brogan is EY Global Oil & Gas Transactions Leader

This article is part of Outlook 2018, our annual book looking at energy market trends for the year ahead. To purchase a copy, click here

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