News

“May you live in interesting times” – is apparently a Chinese curse, which looks to have been visited upon us these last few months. 

Many of the world’s economies are in disarray, including our own one. In response to the economic downturn, the price of a barrel of oil is currently fluctuating between a quarter and a third of where it was at the beginning of summer. While this is good news for many, it is not quite so good for those in the oil and gas industry.  As that industry is one of the mainstays of the north east economy that comment will apply to many of us who live and work here. 

How has the falling oil price affected the oil and gas M&A market? Less than a year ago, particularly in the oil service sector, the market was in overdrive when prices were high, the industry was booming, and oil service companies’ main complaint was the lack of personnel and materials to service their commitments. On top of that, due to important tax changes there was huge pressure on many M&A professionals to get deals “over the line” by April 5, 2008 in order to save their clients from an 80% tax increase on the sale of their company. 

Where are we now? Well, there has undoubtedly been a slow-down in the level of M&A activity in the sector. There are a number of reasons for this. One of these is the basic economic uncertainty. While the longer-term fundamentals of the oil industry appear to be sound, how soon will the oil price increase to levels that will support further investment?

In this context the viability rate for North Sea activity is believed to be in the price range of $60-80 per barrel. If this were to happen in the not too distant future, then while there will still be a reduction in capital spending by the oil companies, the impact on the service companies may not be all that bad. If, however, the recession and low oil prices were to be dragged out for a lengthy period, then the consequences would be much more severe both for oil companies and service companies.

The funding issue is another major factor. The well-documented lack of bank funding is a serious problem which the UK and other governments are desperately trying to fix. Until that happens, this will put severe constraints on companies, whose priority understandably is likely to be the sustainability of their own business rather than acquiring other businesses. Probably the best advice we are offering our clients at present is: don’t fall out with your existing banker. Sometimes of course that is simply not possible. There are also currently far fewer buyers in the market – with a reduction in the number of private equity buyers from previous times. And to date trade buyers have shown no great appetite for purchase albeit that may come. 

A number of the smaller E&P companies will undoubtedly struggle in this difficult financial environment. Oilexco North Sea has recently appointed Administrators and they are unlikely to be the last. The long-awaited process of consolidation within the E&P sector now looks overdue for action, and would be productive M&A activity.

Companies presently struggling with their finances need, of course, to keep their situation under constant review. There are onerous responsibilities on directors in these situations. Administration is, however, not inevitable. For example reconstructions, debt-to-equity swaps, and other forms of corporate recovery may well achieve a successful outcome. A supportive bank or other funder is likely to be a key part of this process, as is experienced professional advice for the company. 

While there has been a slowdown, M&A deals do continue to be done and for those fortunate purchasers with cash, this is a good buying opportunity. We would expect that M&A activity will continue – it may well just be different from last year and there will be some distress sales. There will equally be more deals done once purchaser-confidence improves along with a freeing up in the availability of finance, plus the all-important ingredient of realistic vendor expectations.

So a challenging period ahead in the M&A market, but with opportunities too, and in the immortal words of Corporal Jones: “Don’t panic!”

Alan McNiven is the Head of Corporate, and is also an Accredited Insolvency Law Specialist, at the commercial law firm Paull & Williamsons.

This article previously appeared in the M&A supplement of Press & Journal on 16 February 2009.