Head of EMEA Infrastructure M&A
Project Manager, UK M&A
Executive Director UK M&A
COVID-19, the low oil price environment and an increasing focus on decarbonisation, are creating unique challenges for energy. Many are turning to M&A to add green assets, strengthen their balance sheets and redeploy capital.
There is significant M&A activity in the energy sector and it seems likely this trend will continue, as the sector faces a number of headwinds that are concentrating minds when it comes to strategic acquisitions and divestitures.
Low commodity prices, the impairment of assets and high operational costs in areas such as upstream energy, are encouraging firms to sell-off non-core assets and focus on areas with higher returns. The pandemic has added further impetus, as energy demand has fallen.
Conditions have created buoyant levels of M&A demand and supply. On the demand-side, there is a wall of capital raised by infrastructure, pension and sovereign wealth funds that is looking for diversified and attractive returns. Many are considering energy, even in the face of divestment pressures that are looking to ‘green’ the financial system. Stressed energy balance sheets in the face of the low oil price environment and COVID-19 are helping to drive up supply.
Energy is looking a particularly attractive prospect for institutional investors due to the cost of capital differential most financial firms enjoy. Acquirers are employing this differential to pursue energy opportunities underpinned by long-term contracts and strong counter-party credit. Midstream acquisitions such as pipeline networks are helping to pep-up and lock-in returns for the long-term; while allowing energy firms to concentrate operationally and financially on their core specialism/s.
“Firms need to see M&A as an opportunity to strengthen their balance sheet and reposition for the energy transition.”
These factors have been further reinforced by moves to decarbonise. In this area M&A activity forms the twin arms of a pincer – with one arm the divestment of carbon-intensive segments of the portfolio and the other the acquisition of – and investment in – renewables. Where these are acquisitions, they are less about pure synergies and more about facilitating a strategic change towards a lower carbon footing.
The transition and a strategic driver
What is apparent is that there will be significant M&A activity linked to the energy transition. Firms need to see M&A as an opportunity to strengthen their balance sheet and reposition for the energy transition. The likes of BP and Shell are already pursuing such opportunities as they evolve their strategy.
When it comes to synergies with areas such as power and renewables, firms need to consider how these will create value. Scale will inevitably be important, but if you are simply buying scale, without considering the underlying capability needed in these combined companies, acquisitions may prove a challenge to integrate. M&A can prove game-changing, but the more successful transactions will be those that marry external capability with that built in-house.
This involves retooling staff and refocusing efforts on areas of the business that can support the energy transition. BP, for example, have done exactly that by developing in-house renewables capabilities and then acquiring Light Source, a developer and operator of solar projects. This has enabled BP - through its financial and operational strength and access to capital – to throw its weight behind Light Source’s renewables ventures, fast-tracking the deployment of solar capabilities.
This strategic pivot to decarbonise through the pursuit of energy-power combinations, is also helping firms to stave-off divestment pressure and negative PR linked to more carbon intensive operations. This is particularly true for listed companies which face the more acute pressure to transition and champion their green credentials.
“We anticipate a deepening of core trends, with transactions linked to, and augmenting, energy companies push to decarbonise. Hydrogen appears particularly promising, with advancements in technology and storage opening up significant possibilities.”
Much will depend on the recovery in the oil price. If we don’t see oil heading north of USD 60 a barrel, we anticipate greater consolidation, particularly among the smaller players, and the sale of non-core assets in places like South America and Africa.
If we see an uptick to USD 70-100 a barrel, we will likely see consolidation within the fracking sector, with distressed companies in the US and elsewhere being acquired.
Firms looking to bridge into the green sector will also drive a significant level of M&A, which will be a facilitator of a broader corporate strategy.
We anticipate a deepening of core trends, with transactions linked to, and augmenting, energy companies push to decarbonise. Hydrogen appears particularly promising, with advancements in technology and storage openingup significant possibilities. With obvious synergies with oil and gas storage and a bridge to renewables, we anticipate interest among energy firms.
More broadly, energy M&A will continue to be linked to commodity pricing and the long-term profitability of operations.
When it comes to trends in the wider M&A space, we anticipate the breadth of involvement and the use of data and analytics to deliver far greater rigour and granularity around transactions. Engagement will be not simply around the deal, but will address underlying capabilities and liabilities, including issues such as talent, cyber, intellectual property and supply chain.
Please click here to download the report.