Good afternoon. I'm Deon Daugherty, editor in chief of Oil and Gas Investor. I am here at our annual A&D Strategies and Opportunities Conference in Dallas with John Fossum, managing director at Petrie Partners. John just wrapped up a panel discussing asset deal flow, what's left and who could be making these deals. So John, thank you so much for joining us today, on the stage and then on the sideline interview, kind of expanding on your insights.
Let's just kind of begin with the question. Everybody's trying to, I think, figure out post consolidation. There's the integration aspect of the two merged companies and then they start looking at divesting. What is the timeline that you foresee for these mega-mergers in some cases for divesting?
John Fossum, managing director, Petrie Partners: Yeah, I think especially when we're talking about the super independents and supermajors, your divestiture timeline is probably going to be measured in 12 [months] to 18 months, and that's typically what they've been publishing in their public guidance, if they do talk about a divestiture target and timeline, I think you've seen some of the SMID cap or midcap companies be a little bit faster, and that might be somewhat driven by, they have a better sense of what assets they want to sell or maybe those are more saleable assets in the current market given the [characteristics] of those assets. But typically if you had even a meaningful size transaction, whether that was all of your divesture target or just a meaningful component of your divestiture target, within six [months] or nine months of the closing of your merger combination transaction, I would say that that would be a pretty quick turnaround time and that is typically more in the 12 [month], 18 [month], maybe even 24-month timeline.
DD: So I guess I have a two-part question. Is the bulk of the M&A over and if not, how do some of the smaller or mid-size companies that do want to conduct these sorts of transactions, what's their access to capital like?
JF: Yeah, so I think on your question on the consolidation, we view that we're certainly in the later innings. I think if you went back over the last 20 years, it would be typical to see one to three public mergers in a year. Over the last four or five years you've seen anywhere from kind of three to five or six. And so we really have been in this consolidation wave. It feels like that's winding down. There's a handful of deals that could still happen that would make industrial logic. I think one of the things that could be a holdup to that is that most of the companies that remain at this point, view themselves as the consolidator as opposed to a consolidatee. And you may end up with some social issues around who's the surviving management team, et cetera. If both sides think they're the survivor, that makes it challenging to do a deal. So I think that's probably one of the limitations on some of the remaining deals that could or should happen. As far as on the transaction side, I guess is your question, if you're one of these SMID cap companies, what's your access to capital? To go and try and buy some assets maybe out of one of these consolidated businesses?
So if the seller is a private company, I think that your hope as a smaller mid-cap public, your hope is that you can use a meaningful amount of your stock as part of the consideration. And when I say meaningful, that's probably realistically maybe 10% to 40% of the transaction value is kind of what I think they would be targeting. And then hopefully you've got a relatively under-levered balance sheet where you can use a little bit of debt to ultimately fund the balance of the cash. So yeah, I think that's what the hope is really, that you're able to use some equity because without using equity, I think you run the risk of re-levering a balance sheet, which is kind of against what the public market investors appear to want at this point in time. Now if you're buying from a public, I think that's a little bit more challenging because most publics don't want to take the stock of another public as part of the consideration.
You've seen that in a handful of cases where that actually has happened, but it's much rarer and the exception versus the rule. So I think in that situation, you need to be able to come with kind of a fully financed cash bid and hopefully you've got a balance sheet that can support whatever leverage you might need to take on to fund that. I think the other thing we've seen in Vitol has probably been a good example of doing these types of transactions, and I believe Earthstone [Energy] did as well before they were sold or before they merged with Permian Resources. But bringing in a non-op partner to help buy down some of the purchase price has been something else that we've seen as a way to fill a financing gap to basically use a non-op partner or structured finance partner at the asset level to acquire some of the assets.
DD: Okay, and that's interesting. I know Northern Oil and Gas is quite involved in lots of deal making and they're the king of the non-ops it seems like right now. For private companies that are trying to raise money for growth or for acquisitions, is an IPO strategy realistic?
JF: Look, you've seen an IPO get done here recently on more natural gas and fully integrated power and carbon sequestration business model than traditional only upstream business model. You've got another potential IPO that's in the market right now that should price either this week or next, which will be a very interesting test case. I know there are a handful of other companies that are looking at and going through the IPO process. I think my personal belief is that if you went back 10 [years] or 15 years ago, we had a number of [what was called] sub-billion dollar public companies in the upstream oil and gas space and that there was a thriving investor base or at least an interested investor base in those types of companies. From the interactions I have with some of the investors out there, there appears to be less interest in those types of companies. So I'm a little bit skeptical on that. And we will look in another couple of years and we'll have five or eight new, small-cap sub-billion dollar public oil and gas companies, but I very well could be wrong. I hope I'm wrong for the industry and that would be another great avenue of access to capital, but it doesn't feel like that's where the market's at right now.
DD: Yeah. So lots of companies have been exploring alternative financial measures or approaches to generate cash, and one that seems to be gaining a lot of momentum is family offices, which you've discussed. Tell us about that. How is that playing out and why now?
JF: Yeah, so I think what we've seen is the family offices have really filled the gap on the private capital side where you had a pullback from traditional private equity [PE] funds and some of that was just driven by, it became harder for a lot of the funds, our traditional PE funds to raise capital as some of their traditional LPs pulled back and didn't really want to invest in the oil and gas space. And so to fill that void, we saw family offices enter and be a capital provider there. What I would say is the reason that family office from my perspective came into the space was they saw an interesting and attractive risk reward opportunity of being able to invest in businesses for sub three times cashflow that were generating cashflow, making distributions with that cashflow and had growth prospects and places to allocate capital to.
So I think they filled that void. We've seen family offices play in the 50 [million] to 100 million dollars size space and then all in the multi hundred-million-dollar size space and all the way up to maybe pushing into a billion. One of the considerations of that capital is you're typically taking money from multiple family offices, you're creating a consortium or a syndicate. It's not a single check writer. And so both just the wrangling upfront of [getting] that capital can be challenging and take time and be frustrating quite wrinkly. And that's from the advisor perspective of just wrangling capital. And then if you're the management team in the company, [you’re] setting up the governance because you now have multiple investors that are meaningful scale investors in your business and setting up a board of directors and a set of governance that works for both management and this new investor base that we've seen that has taken a little bit of back and forth to get that right.
DD: So the profound diminishment in available private equity capital that I've talked with some other folks about created sort of a unique situation, it seems like, that lured in the family offices. So do you view family office interest in the oil and gas space as an anomaly or is it something they’re in for the long haul now?
JF: I think it's both, right. I think that there are some of these family offices who saw an opportunity that capital had left the industry for non-economic reasons and that there was an opportunity to make better risk adjusted returns, then they could other places. And I think some of those people will reach a point where they say, ‘Hey, we have interesting risk adjusted returns to make elsewhere,’ and they may pull back completely or pull back some from the industry. I think there are others who look at it and say, I can invest in cash flowing businesses and make a really good return, and ultimately my entry value is very low and this is a really interesting place to invest. And so I think the family office money that's investing in drilling opportunities, that might go away over time. I think the family offices that are recapitalizing and buying real businesses, but they're in second or third tier basins, I think that that may have some legs because there's just really not a cash A&D market for those types of private companies or the assets are very weak.
And I think your ability as the management team to say, ‘Hey, we can continue to own and operate this. We're just changing out the equity that owns the business. We're maybe crystallizing our promote structure if we are in the promote for ourselves and putting in a new promote structure and we're still getting to operate and own our business.’ That's much more compelling than, ‘Hey, I sold the business at what I thought was a pretty low value and I wasn't excited about, but that was just what we had to do. We had no other alternative.’
So I do think you will continue to see the family office and small institution capital fill the void or play in the space of these kind of cash flowing businesses that are in second or third tier basins.
DD: Okay, that's fascinating. And something, as I've said to you before, it seems like it's part of every conversation about financing any sort of deal or growth. So thank you, John Fossum from Petrie Partners, thank you so much for joining us today. Lots of great insights and thank you for talking with us here after the panel. I'm Deon Daugherty with Oil and Gas Investor at the A&D Strategies and Opportunities Conference. Thanks so much.
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