In this episode, Greg Pardy (Head of Global Energy Research, Canadian Senior E&P & Integrated Oil Analyst), Scott Hanold (Managing Director, US E&P Analyst) and Biraj Borkhataria (Head of Global Energy Transition Research, Euro & US Integrated Oil Analyst) join Graeme Pearson (Co-Head of Global Research) to discuss themes in M&A and capital allocation amongst global energy producers.

M&A activity amongst energy producers is always a wildcard, but the recent tidal wave of consolidation activity unfolding in the United States is like a fever that has yet to run its course. Fortified balance sheets are the strongest we’ve seen in over a decade, with net debt at the end of 2023 about one-half that seen in 2020 during the pandemic, as energy producers globally have embraced a new model fusing financial resiliency with shareholder returns. This has also opened the door to intensified M&A activity via increased funding capacity.

US deals appear aimed at achieving quality scale, a lower cost of capital, overhead cost savings, and bolstering resource depth or enhancing portfolio diversification. The European majors could be buyers of US natural gas resources to rebalance LNG commitments. The next inflection point in this chapter could also involve M&A in Canada’s Montney play.

Graeme:

Welcome to the Industries in Motion podcast from RBC Capital Markets, where we'll be exploring what's new, and what's next in today's fast-moving markets and industries. Please listen to the end of this podcast for important disclaimers.

I’m Graeme Pearson, Co-Head of Global Research at RBC Capital Markets. Today I’m pleased to be joined by:

• Greg Pardy – Head of Global Energy Research, as well as our Canadian Senior E&P and Integrated Oil Analyst

• Scott Hanold, Managing Director and US E&P Analyst

• Biraj Borkhataria, Head of Global Energy Transition Research, as well as our European & US large cap integrated oil analyst

Today we will discuss themes in M&A and capital allocation amongst the global energy producers. Our Global Energy Research team has recently published two reports in our Energy Insights series which addressed these themes – one titled “M&A – Who’s Next”, exploring M&A trends and considerations, and another called “By the Numbers”, looking at shareholder returns and balance sheet positioning.

Graeme:

Greg, let’s kick it off with you. Why is M&A front and centre in the energy sector right now?

Greg:

M&A activity amongst energy producers is always a wildcard—and one we’ve been talking about for a couple of years now—but the tidal wave of consolidation activity unfolding in the United States is like a fever that has yet to run its course.

The M&A playbook has also changed. In the past, shareholders of potential targets were typically offered attractive premiums to sweeten the pot. Today the sheer number of deals mentioned in the press prior to official transaction announcement has drawn attention to possible combinations and in some cases has equilibrated share exchange ratios in advance of formal announcements. That’s very different from what we’ve seen in the past.

So in order to assist energy investors with analyzing who might be next from a consolidation standpoint, our Global Energy Research team has applied its judgement to group companies within our integrated, producer, oilfield services and midstream coverage universe into three buckets: (1) logical acquirers, including bolt-on assets, (2) neutral, or no strong stance either way, and (3) logical targets and sellers of non-core assets, which we’ve outlined in our report called “M&A – Who’s Next”.

Graeme:

Thanks Greg. Scott, what’s driving this intensified M&A activity—particularly in the United States?

Scott:

Last year was a record in terms of number of public mergers and in total dollars, on top of that there were a significant number of private deals. The key driver in many of these transactions are to enhance the sustainability of the FCF profiles, which is a major driver in the value of energy stocks. What stands-out are synergies that are not only significant but also highly tangible and many of the benefits are occurring more rapidly than anticipated. The US is moving into a more mature stage of development and while there is still a good 4-5 years of core inventory, most investors want to see that closer to a decade. Accordingly, we see more modest growth plans along with M&A to further enhance that runway.

Graeme:

Greg, can the same be said for Canada—particularly the oil sands and possibly the Montney?

Greg:

Scott’s making an important point on the maturity of basins in the US, and that’s where Canada is different. In the oil sands, resource abundance and shareholder returns remain in sharp focus amongst the major players. As such, our thinking is that we’ll see opportunistically driven transactions of all sizes—rather than a feeding frenzy.

Graeme:

Biraj, how might the European majors become further involved with M&A in the US?

Biraj:

Graeme:

Now, stepping back a bit, we started this discussion by noting that stronger balance sheets among global energy producers have opened the door to intensified M&A activity, by increasing funding capacity. Greg, talk us through how balance sheet positioning and capital allocation have changed over the past few years, and what that means for shareholder returns.

Greg:

Ultimately, we believe that disciplined capital investment will bear fruit in the form of higher mid-cycle cash flow generation.

And all of this suggests to us that energy producers are well equipped to afford durable shareholder return optionality via buybacks/dividends in the coming years.

Graeme:

Well, Greg, Scott and Biraj, thank you very much for your time and insights into the global energy sector.