Special Focus on Independent Oil & Gas
2012 Independent Oil & Gas Outlook Written by Ian McLelland, Director, Sector Head Oil & Gas, Edison Investment Research
2011 was undoubtedly a difficult year for independent oil and gas companies, with the junior sector in particular suffering in the wake of tough economic conditions. In hindsight, this was partly a necessary correction from the euphoria of 2010 when equities clearly disconnected from fundamentals, while uncertainty over commodity prices and access to capital heaped further pressure on the sector. However, moving into 2012 there are clear signs of renewed interest, with three key issues in play that we see pointing to a more promising year ahead.
Fundamental Disconnects Will Act AsM&A Catalysts
Oil and gas stocks experienced almost continuous downward pressure during 2011, despite the robustness of crude prices. This was most in evidence in the junior sector, where high beta stocks were pilloried as risk-averse investors took flight from the sector, citing access to capital and an uncertain oil price outlook as key issues. As a result of this, when adjusted for crude prices, the AIM O&G Index at the end of 2011 traded at near-record lows. Asset values have never been cheaper. Entering 2012, this creates an interesting and healthy tension. Many companies that have struggled to get high-quality projects away are now looking over their shoulders at potential M&A vultures. Oil and gas resources do not just disappear into thin air, so when equity markets discount company values well below fundamentals it is only natural for more cash-rich third parties to move in. Premier’s acquisition of Encore and Ophir’s acquisition of Dominion were probably the two stand-out deals in the UK during 2011, and Ithaca may be next, having recently announced an acquisition discussions. However, we do not see M&A as the only reason for some upward share prices over the next 12 months.
More Stable Oil Outlook Easing Access To Capital
Oil prices remained resolutely high in 2011, as OECD demand concerns contrasted with supply issues in the wake of the Arab Spring. During 2012 we had expected a softening outlook as an anticipated supply surplus built on rapidly slowing demand growth coupled with firming production more likely to push down prices; however, EU sanctions on Iran and the knock-on threat to the Strait of Hormuz could well now flip things the other way. However, most critical for equities is a growing recognition from both lending banks and investors alike that a precipitous collapse in prices is unlikely in the near term and that price deck assumptions for investment and funding are significantly up on recent years.
A recent survey of investment bank WTI price forecasts, excluding the Goldman Sachs hyper-bulls, indicated a consensus around $80-100/bbl in 2012, increasing to $90-120/bbl in 2013. Reserve-based lending price decks are also up as banks re-evaluate what they will lend on, although the halcyon days of 80-90% debt for developments are clearly behind us. Further out, BP’s recently published Energy Outlook 2030 continues to predict growing oil demand as part of its primary energy demand growth forecast of 1.6% pa. Overall, the commodity price outlook is more stable and this can only be good news for oil and gas independents struggling to get their prized projects off the ground.
Temporary Delays Mean No Shortage Of Excellent Projects
While perhaps not quite the hedge that gold is, oil and gas assets in the ground do not simply lose their value when times are tough. Good projects will always be revisited and we expect this to be very much the case in 2012 as funding becomes more accessible.
There are good news stories across the planet to look forward to. Elephant-hunting explorers are set to provide healthy newsflow, with drilling campaigns in the Falklands, Guyane and offshore Namibia all in the spotlight. The North Sea continues to confound sceptics with a surge of drilling and development activity that includes more wells in the Greater Catcher Area, the biggest discovery in the UKCS in the last 10 years. Sub-Saharan Africa probably remains the hottest ticket in town, with licence rounds likely to introduce us to new players in West Africa, ready to supplement the successful pioneers such as Tullow and Afren.
Meanwhile, gas volume estimates offshore East Africa keep growing at an incredible rate making this area the global development story for the coming years. And the undoubted resource potential in Kurdistan also made significant strides towards commerciality in the wake of some high-profile corporate deals. Finally in this section, the rise of unconventional exploration and development activity is set to continue, with yet more shale gas, shale oil, oil shale and GTL projects set to make us rethink our estimates of global hydrocarbon resources. It remains early days, but 2012 appears set to offer up many interesting stories for both small and large players in the independent oil and gas sector. Coupled with a potentially M&A-fuelled equities market and encouraging noises around finance availability, the catalysts are certainly in place for companies to unlock the inherent value that undoubtedly exists within their portfolios. Contact Ian directly at:
IMcLelland@edisoninvestmentresearch.co.uk
Drillers and Dealers :::
::: February 2012 Edition
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