U.S. oil and gas M&A activity in third-quarter 2018 shot up 250% over the previous quarter and broke all quarterly records dating back to fourth-quarter 2012, a recent Drillinginfo report said.

The final tally for the third quarter is $32 billion, up from $9.1 billion in the second quarter. With OPEC’s decisions and activity in the Permian, Drillinginfo accurately predicted the record quarter at the beginning of July 18.

“At the end of Q2 several things were lining up to create a more active M&A in the second half of 2018,” Drillinginfo senior director Brian Lidsky said to Hart Energy. “[It was] primarily OPEC and their coming together to maintain supply and no surprises. At that point and time, there was some concern about the future price of oil, but the OPEC meeting did in our minds take away the risks of really another downturn in oil prices to the $50 or lower level.”

The second thing, Lidsky said, was the Permian takeaway bottleneck.

“That was going to drive some activity among the Permian Basin players in order to position themselves to get access to that takeaway capacity,” he said.

The highlight of the quarter was the $10.5 billion deal by BP Plc (NYSE: BP) to buy a portion of BHP Billiton Ltd.’s (NYSE: BHP) U.S. onshore portfolio in the Permian, Eagle Ford and Haynesville. It was the single largest asset level purchase on record while also marking BP’s return to offense with its largest upstream buy since acquiring Atlantic Richfield Co., known as ARCO, for $28 million in 1999.

US Upstream Deal Value By Top Plays (Source: Drillinginfo)

Royal Dutch Shell Plc (NYSE: RDS.A) is considered the company BP beat out to acquire the BHP asset, but Chevron Corp. (NYSE: CVX) had rumored to be interested, as well. Still, the BHP acquisition by BP solidified the importance of the U.S. shales as a key portfolio element for global majors.

“The big thing was clearly BHP had been marketing a significant U.S. Shale portfolio and certainly there was strong interest in that portfolio,” Lidsky said.

In addition to BP’s acquisition during the quarter, Permian-focused Diamondback Energy Inc. (NASDAQ: FANG) agreed to boldly acquire fellow-Permian producer Energen Corp. (NYSE: EGN) for $9.2 billion. The Diamondback/Energen deal is just a number shy of the Permian record $9.5 billion paid by Concho Resources Inc. (NYSE: CXO) earlier in the year for RSP Permian during the first quarter.

Here are some other factors Drillinginfo said led to the drastic M&A surge:

  • More than $50 billion of deals for sale as of July 1 largely by motivated sellers;
  • More than $15 billion of private equity dry powder looking for rapid deployment;
  • Mandates by Wall Street for public companies to focus on core-of-core to drive free cash flow;
  • Elimination of the sub-$50 oil price risk with stable to higher pricing on the horizon; and
  • Consensus view of stable to higher oil prices.

Lidsky said in the marketplace it has become common for smaller to mid-size companies to need to partner with larger companies to remain viable and cash flow responsible.

Additionally, the smaller to medium-sized companies may have favorable plays and assets that larger companies want to acquire and can provide the efficiency for greater profit. This, Lidsky said, is one the three main drivers for M&A activity.

The other drivers for deal making Lidsky noted include balance sheets and the current trend of larger companies getting even bigger within shale plays such as the Permian, Eagle Ford, Bakken and Marcellus.

“We are entering into a phase generally within the shale plays where size does matter,” he said. “If you look at the Eagle Ford and other sorts of shale plays there is still a tremendous amount of smaller- and mid-sized companies within those plays. We do think we are entering into a consolidation phase where to truly optimize development and the main factoring nature of those plays that it does favor larger players.

“So, if you are a mid- or smaller-sized play joining forces with a larger company often is a good strategic decision because then you get the benefit of the optimal supply chain and a better valuation in the marketplace.”

Here are some of the major takeaways from third-quarter 2018:

  • Activity catapulted to $32 billion vs. $9.1 billion in second-quarter and $18.2 billion quarterly average since 2009 and is the highest quarter since fourth-quarter 2012’s $37.8 billion;
  • Interestingly, on the first trading day of fourth-quarter 2018, near-month Nymex West Texas Intermediate breaches the psychologically important $75 level, settling at $75.30 (up $2.05 per barrel) and the first close above $75 since November 2014 (just before the last oil price crash);
  • BP won the prized onshore shale portfolio of BHP for the largest asset level U.S. deal recorded for $10.5 billion, reportedly beating Shell who likely remains on the hunt;
  • Diamondback Energy buys Energen for $9.2 billion confirming that the first quarter’s Concho/RSP Permian $9.5 billion deal was not an aberration of the consolidation thesis;
  • The “show me the cash” mood of Wall Street remains intact and favors larger companies that have visibility to free cash via substantial Tier 1 acreage in focused portfolios;
  • An early September land auction in the New Mexico portion of the northern Delaware Basin breaks all Bureau of Management land sale records at $972 million with record high bids reaching $95,001 per acre;
  • While active, the M&A market remains largely in the buyer’s camp as examples of motivated sellers failing to receive minimum acceptable bids include SandRidge Energy Inc. (NYSE: SD) with an attempted corporate sale and Whiting Petroleum Corp.’s (NYSE: WLL) canceled sale of Redtail Niobrara/Codell assets in the Denver-Julesburg Basin; and
  • Globally, the third quarter’s $156 billion in energy transactions across the value chain (upstream, midstream, downstream, oilfield services, power, utilities and LNG) compares to $161 billion in second-quarter 2018.

“Managers or management teams of public companies have certainly gotten the message,” Lidsky said. “The number one thing is to live and spend within cash flow and provide some sort of transparency as to a point and time in the future that which your company will be in the positive in pre-cash flow, while maintaining a stable level of production in the shales. That is a new dynamic that public companies are now living with.”

Currently $30 Billion In U.S. Oil And Gas Upstream Deals In Play. (Source: Drillinginfo)

The Drillinginfo report contends that the high-pace of U.S. M&A will continue for the next six to 12 months. Expect $30 billion of U.S. deals for sale to provide quality inventory for deal activity. Consolidation within shale plays likely to increase in momentum as scale and efficiency rewards larger players.

“We are now over 10 years into the development of these shale resources so we have very well defined, proven resources and decades of inventory to drill to maintain current production and to grow current production in this country,” Lidsky said. “The leaders that are leading this have within their portfolios tens of thousands of locations. On top of that on a regular basis, we are further delineating some of these benches within these resource plays.” 

Terrance Harris can be reached at tharris@hartenergy.com.