Pessimism breeds fire sales, at least in the oil and gas industry.

But buyers and sellers may want to heed the Talking Heads classic song Burning Down the House, which cautions: “Watch out, you might get what you’re after.”

About 75% of oil and gas CFOs expect M&A activity to rise in 2016, according to BDO USA LLP’s annual Energy Outlook Survey. In 2015, 56% percent of CFOs thought deals would increase.

A&D activity was slower than experts forecast in 2015, but deal pace has started to pick up. Schlumberger Ltd. (NYSE: SLB) has acquired smaller rivals who have been struggling in the rocky commodity price environment.

However, the overall A&D landscape saw far fewer deals at values far lower than 2014—an average of $443 million in 2015 compared to $673 million in 2014.

Roughly 49% of CFOs believe undervalued oil and gas assets will be the primary driver of transactions as larger companies and investors target distressed companies looking to raise capital by divesting assets.

“Throughout 2015, we saw many M&A players hesitant to engage in deal activity, likely because sellers hoped the bust cycle would balance out throughout the year and drive valuations up,” said Charles Dewhurst, leader of BDO’s Natural Resources practice. “As we enter the new year, they are letting go of the idea of rapid recovery and may look to sell before valuations bottom out further.”

Cover Me

Recovery of prices—even to the $50 per barrel of oil level—seems farfetched for the time being.

The Bloomberg Commodity Index (BCOM), a measure of investor returns in raw materials, divided 25% in 2015, a fifth straight annual loss and the longest slide since the data began in 1991.

Crude oil was the worst performer, tumbling 45% on a supply glut.

The Bloomberg Petroleum Index (BCOMPE) also sank 13% in December and lost 39% for the year. Oil capped its biggest two-year loss with prices dropping about 30% in 2015 and averaging the lowest levels since 2004.

Moody’s Investors Service is also expecting industry consolidation to increase in 2016, though analyst Steven Wood said deal making would remain subdued.

“Industry stress will force many companies to sell assets to improve liquidity and financial leverage, and increased bankruptcy filings will facilitate more attractive asset valuations,” Wood said. “There will be ample energy asset-purchase opportunities in 2016, but weak commodity prices present a challenge for potential upstream buyers.”

Moody’s predicts capex will fall by up to 25% in 2016 across the E&P sector while oilfield services and drilling will continue to face the most stress.

“Lower capital spending will lead to further capital budget cuts for Integrated and national oil companies (NOCs), but OFS [oilfield services] companies in particular will emphasize cost reduction in response to reduced demand,” Wood said. “OFS defaults will rise, but companies with high-quality assets, niche products or technology, or reasonable debt loads might still take part in industry consolidation or asset sales in 2016.”

Still, BDO said the energy sector’s increasingly dour outlook at access to capital and credit may also catalyze deal activity in the months to come.

The firm’s survey found the percentage of CFOs who feel worse about their company's access to capital has more than doubled to 45% in 2016 from 20% in 2015.

During October 2015's debt redetermination period, many heavily indebted exploration and production companies saw reductions in their borrowing bases, which has already produced operational impacts, cost cutting and new sources of money.

The survey also found:

  • 45% of CFOs who experienced project delays or terminations in 2015 cited lack of capital as a leading cause;
  • 55% of CFOs surveyed say they are likely to turn to private equity as a source of outside capital in. (50% in 2015); and
  • 71% of CFOs plan to keep staffing levels consistent and 57% expect employees’ fiscal year 2015 bonuses to be smaller.

Recruits

In 2016, CFO’s expect to add the smallest percentage of new hires since 2010.

Executives will have to balance labor costs with the risk that a large reduction in staff may catch them on the back foot when prices begin to climb again, said Jim Willis, senior director of compensation consulting in the Global Employer Services group and a member of BDO’s Natural Resources practice. “The industry is threading this needle for now by effectively implementing a hiring freeze, but if prices remain low for much longer, more companies may need to seriously evaluate reducing their headcount.”

The survey examined the opinions of 100 CFOs at U.S. oil and gas E&Ps. It was conducted from September through November.

Darren Barbee can be reached at dbarbee@hartenergy.com.