Following a record year in U.S. oil and gas transaction deal value of $78 billion last year, 2011 promises to match the pace in deal flow with unconventional shale resource plays leading the charge, according to two energy asset advisors.
"It’s really a true boom," says Randy King, managing director of Bank of America Merrill Lynch, "with strong fundamental value creation spreading the wealth. We’re going to see joint ventures and non-operated participants that have capital continue to come into these plays. We’re going to see some sales of selected noncore assets."
"We’re seeing incredible deal flow," echoes Scott Richardson, principal of RBC Richardson Barr, referencing high oil prices and liquid capital markets as lubricants for asset movement. "We have buyer demand, and not just from the U.S. serial basin buyers. It’s also from royalty trusts and Asian and European integrated companies. It’s become a global business."
King and Richardson presented their observations to some 2,400 attendees at Hart Energy’s Developing Unconventional Gas conference in Fort Worth.
Richardson believes geopolitical turmoil in the Middle East, the deepwater Gulf of Mexico Macondo oil spill and the earthquake and resulting nuclear crisis in Japan are all factors driving interest in U.S. resource plays. "Resource plays are the name of the game for the next 10 years," he predicted.
Sporting lower finding and development costs and low-risk repeatability, resource plays now trade at huge premiums to conventional assets, he said. "Clearly it’s all about low risk. As we see the challenges globally, its going to make the U.S. and Canadian resource plays that much more attractive."
Of 44 deals greater than $200 million since the beginning of 2010, some 55% have centered on shales, according to BoA Merrill Lynch. Year-to-date 2011, that number is 73% by RBC Richardson Barr estimates.
"The markets have clearly moved aggressively toward this new product," said King.
Comparing conventional metrics with unconventional during this period, the mean average deal size for either is $1 billion, a ten-fold increase over the past two decades, he noted, when a $100-million deal was considered sizeable.
Too, shale-based deals are being priced at higher multiples of current production due to the earlier development phase, about $76,000 per flowing barrel for conventional vs. $154,000 for unconventional. But when compared on a proved reserve multiple, they are very similar, about $22 to $23 per barrel of oil equivalent.
"The large future drilling development on the shale properties presents a comparable unit entry cost," he said.
Yet while shale plays are taking the headlines, King believes the line is blurring between unconventional and conventional plays as operators apply shale-derived technology using horizontal laterals and multistage fractures to conventional reservoirs.
"Any time you put a lateral and frac it, you're going to help a reservoir whether it's conventional or unconventional," he said.
He singles out the Granite Wash, Cotton Valley, Mississippian, Bone Spring and Cleveland formations as examples of conventional reservoirs targeted for unconventional attention.
"Many of these conventional deals that we’re involved in today have horizontal targets and big uplifts in productivity. Many of these deals will revitalize older fields."
King said the industry has underestimated the density of ultimate development of the resource plays, with resulting capital requirements that will be astounding.
"More extensive running room has unfolded in these plays than we ever anticipated. It's been amazing to watch."
The geometric increase in development locations is at least five-to-one from the first well that holds a section to ultimate development, and, "If ultimate spacing gets below 500 feet per lateral—and they’re doing some at 250 feet in the Barnett—I could see another geometric increase in the ultimate development."
Even a modest play of 10,000 acres with 60 locations on 160-acre spacing requires $300- to $400 million in capital. This will lead to more joint-venture transactions, nonoperated partners with capital, the sale of noncore assets, and increased equity and debt financing to bridge funding gaps.
Richardson confirmed the capital requirements will be a big driver of deal flow in the shale plays.
"Developing these massive acreage positions requires a tremendous amount of capital in a relatively short time period in order to protect against acreage expiry," he said. "When you see $20- to $30-billion companies scratching their heads wondering how they’re going to fund the Marcellus, you know it’s ultimately a big boy game."
Asset sales will dominate the field this year, per Richardson, who believes corporate acquisitions have quieted down following a handful of banner mergers in recent months.
"A lot of the leading resource-play companies started in gas, and as a result their valuations right now are about 60% of where they were first-half 2008. We don’t see a huge desire for these companies to sell," he said, "so I think we’re going to see more A&D, and more and more joint ventures."
In terms of deal supply, "2011 is going to look a lot like 2010. It we don’t have any hiccups in the capital markets, you're going to see a heck of a lot of deal flow."
Contact the author, Steve Toon, at email@example.com.
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