DUG Canada 2013: Shale Projects Turn To Private Equity, Asia

For unconventional shale, support from public equity is dwindling, resource plays require staggering capitalization and joint ventures are beginning to take center stage because even companies as large as Encana Corp. (NYSE: ECA) can’t go it alone.

Private equity is taking up the slack as investors back companies just long enough to highlight their proven reserves. Then, it’s time to sell to an international or one of the majors.

Speaking at DUG Canada 2013, Andy Evans, senior vice president and director, ARC Financial, talked about the influx of private equity into Canada's oil patch.

His memorable line: “Don’t bring a knife to a gun fight.”

“It takes a lot of capital to develop unconventional,” he said. “We’ve seen a dramatic increase in the initial capitalizations of private startups in the Canadian western basin.”

Evans said the companies his firm sponsors don’t set out to do full development. They aim for preliminary drilling, gathering seismic data and other information for an aggregator, such as ExxonMobil.

“They’re going to have to sell to a larger resource developer, hopefully one of the Asian buyers or one of the larger strategics that consolidate these plays,” Evans said.

A major difference between conventional and unconventional plays has been how highly valued reserves are.

“Now there’s a much bigger prize. It’s the contingent and prospective resources that companies are trying to demonstrate,” Evans said. “But the problem is there’s a lot more capital required to get to the finish line.”

If the exit works out, the company has gone from startup to rapid value creation through reserve and resource recognition, Evans said.

One recent example is ExxonMobil’s acquisition of Calgary-based Celtic Exploration Ltd. Exxon bid C$3 billion for the company’s 650,000 net acres in the Montney and Duvernay shales.

“If you look at the value that was placed on their undeveloped resources, it was multiples of their reserves,” Evans said.

Bill Marko, managing director, Jefferies & Co., said that for the past four years, North American M&A activity has averaged about $100 billion a year. In 2012, $116 billion changed hands.

What’s changed since 2009 is “a vastly increasing amount of international investment,” he said. “There are a lot of international buyers.”

And Canada is gaining ground in raising capital.

About 10 years ago, “Canadian deal flow vs. U.S. deal flow was probably 20% or 25%” of North American deals, he said. “Canadian deal flow now is more than a third of the total U.S. and Canada deal flow.”

Over the past five years, Marko said that of the roughly $500 billion raised, more than half came from North America from companies selling. Another $112 billion was produced through debt, $74 billion through equity and $53 billion in joint ventures.

Billion Dollar Canadian Deals 2010-2012

Marko said Canada is a particularly hot market.

He said he was recently in Asia, and out of 19 companies at least a dozen wanted to do liquids-rich Canadian deals.

“I was surprised because the feedback was so consistent,” Marko said. “But I think they think this is the best place to shop right now.”

But not in the markets, where the amount of equity backing saw a dramatic drop in 2012 ? and 2013 looks to be even worse, Evans said. Since 2010, E&P equity financings fell 32%, Evans said.

The silver lining is that private equity has taken up the slack. Sponsorship for startup capital has increased to an average C$142 million in 2012 from C$69 million in 2010. The average is based on 70 startups.

Evans said Canada has also become interesting for its opportunities in conventional resources.

“The quality of assets becoming available is unrivaled in our memories,” Evans said. “These are companies that have to sell assets, not wanting to sell assets. It’s probably a good entry point here for acquiring high quality long reserve life conventional assets both in oil and gas.”

At Morgan Stanley, John Moon, managing director and partner, said the firm is focused on the middle market.

“There’s a lot going on more globally with regard to global competitors, global partners, global players who are going to have a very big impact whether you like it or not on our industry,” Moon said. “So you might as well use that to your advantage. One of the ways we see that taking place in our own investment strategy is really trying to stick to middle market.”

Moon said that the middle market hasn’t been penetrated by international companies because it’s too much work for them to do thousands of miles away.

“We think that is where the better investment opportunities are,” he said. “On the other hand we are very much focused on the global competitor because we think they can be interesting partners and, frankly, buyers of assets we are developing.”

Moon said people should keep an eye on the international arena and warned that international fund flows should be a friend, not a competitor.

“I just don’t see how anybody is going to make money competing with the international players,” Moon said. “On the other hand, I can see a lot of people making money partnering with them or alternatively exiting to them.”