Low prices, some small and mid-sized companies in North America riper for the picking

After a lull in activity early this year, the pace of merger and acquisition (M&A) activity in the onshore crude oil exploration and production (E&P) business will pick up in the second half of 2015, as low prices make some small and mid-sized companies in North America riper for the picking. In the latest of a series of webcasts entitled "Oil: The Great Deflation," a team of IHS experts this week delivered a presentation called "M&A Onshore North America: Nowhere to Run."

Insight leaders, Dan Pratt and Jerry Kepes with IHS Energy, discussed the factors that will drive a wave of consolidation in the E&P business later in 2015. The experts also examined the future shape of the market, including the repercussions of the recent oil price plunge and cost developments for major energy companies.

Although crude oil prices have plunged since mid-2014, equity prices for E&P companies have held up somewhat stronger, limiting their declines. This is because Wall Street continues to anticipate a quick rebound in prices.

As a result, E&P companies that are in the M&A hunt believe current valuations for potential onshore acquisitions are still too high. On the other side of the equation, sellers are waiting to see if the market perception of a quick rebound is correct before considering any offers. This situation is creating a major disconnect between buyers and sellers, which has caused recent M&A activity to come to a near halt in North America.

However, for the last 20 years, price troughs have typically been trigger points for significant M&A activity.

Because of this, IHS expects M&A activity to start kicking off in the second half of 2015, after buyers and sellers converge on price and asset valuation. Low oil prices will also create a distressed situation for some onshore E&P companies, making them more attractive M&A targets.

In particular, small- and medium-sized E&Ps in North America that have higher debt levels and lower hedge protection will be prime targets for acquisition. Many of these companies are engaged in exploiting tight oil resources.

While it might seem likely that these companies will be swallowed up by the majors-i.e., the world's largest E&P companies including BP, Chevron, ExxonMobil and Shell-this may not be what happens. The majors have not yet been engaged much in the tight oil business. Part of the reason is that the majors didn't get involved in the early stages of the market, and thus don't have access to the prime tight oil plays. Because of this, they were frozen out-and they couldn't buy access from companies that had original positions here. However, even if the majors engage in M&A, it's not clear they will get access to the better parts of the shale plays at this point in the evolution of different plays.

Furthermore, the shale producers and the majors have very different cost structures and operating cultures that are suited for their different types of the upstream business.

One option for the majors is to establish their wholly owned tight oil E&P businesses that act like independent companies. It may also turn out that spinning off such companies works better, even if this could lead to the disaggregation of the majors' business.

This means it is unlikely that the next wave of M&A activity will result in the domination of the industry by larger companies, compared to the mix of small, medium and large firms existing today.

Learn more about IHS company valuation, strategy, and performance as well as M&A market.

The next presentation in The Great Deflation Framework Series will be entitled "Global Oil Market Outlook to 2020: World Supply, Demand, and Price."

By IHS Staff Writer

This article was published by S&P Global Commodity Insights and not by S&P Global Ratings, which is a separately managed division of S&P Global.