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Finance Series: corporate-finance

There Will Be Blood - what the falling price of oil means for M&A

With the price of oil more than halving since 2013, a new report from the M&A Research Centre (MARC) at Cass Business School investigates how the level of M&A activity in the oil & gas sector responds to price movements.

Author(s): Dr Valeriya Vitkova - Cass Business School; Professor Scott Moeller - Cass Business School; Jorge Gonzalez Sadornil - Cass Business School

With the price of oil more than halving since 2013, this research investigates how the level of M&A activity in the oil & gas sector responds to price movements. Taking a statistical approach, M&A activity of all size over the last twelve years is examined with the aim of discerning what factors drive dealmaking, with the ultimate aim of producing an accurate forecasting tool.

The model obtained has a very satisfactory predictive quality and was able to explain 58.4% of M&A activity in the sector.

The research highlights several main points:

  • It's never just about one simple factor and no model is perfect
    The oil price has more than halved since 2013 and yet merger deals of significant size have still occurred. The oil sector is unusual in that M&A activity does not show the correlation with economic activity that the broader market does. The best model uses the valuation of the sector and the US 5 year treasury yield as well as the oil price itself. Given the uncertainties around the oil price, researchers do not enumerate a point forecast for M&A but have three flex scenarios for different oil price, economic and market outcomes.
  • Some scenarios do imply more M&A than others
    The paper tested 3 scenarios for oil price: progressive recovery, rapid recovery and rapid fall. The scenario with the greatest number of deals, according to the report's model, would be a rapid recovery of the oil price to US$70-75/bbl. However the window would be short, with a pullback in activity seen soon after.
  • M&A is a necessity, unless you want to be running a much smaller business
    Recoverable oil reserves are growing but in ever more inaccessible places, both geographically and politically. Therefore, M&A can be useful to oil companies facing greater costs in tapping such reserves. M&A can be needed to simply maintain production levels or to bring down break even oil price levels through cost synergies. For some stakeholders however, being a smaller business isn't necessarily a bad thing. The market's reaction to recent acquisitions would suggest this to be a strong sentiment.
  • Be prepared, as there will be blood
    Companies that made large transactions either before or during the fall of oil price may find they have to dispose of assets and this could present opportunities for acquisitive competitors. Such disposals may also represent improved value for the purchaser, as the price premium should be far less than when the assets were acquired prior to the oil price fall. We've also seen that large deals can occur even during a period of falling prices. If big deals take place in the sector, defensive moves can follow like falling dominoes. The message that M&A isn't going to dry up given the oil price drop means that corporates always need to be prepared to deal with approaches by potential bidders.

Dr Valeriya Vitkova of Cass Business School said, "At this time of great turmoil in the oil sector, both in terms of corporate activity and uncertainty around the commodity's value, it is interesting to find that there are some consistent drivers of activity in the sector."

This research will be of interest to analysts, investors, governments and oil company executives.

The full report was recently published by MARC (Cass' M&A Research Centre) and is available for download here.

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