HOUSTON—The outlook for improving capital access for oil and gas companies in 2020 remains grim as investors will continue to look elsewhere for better returns on their money.

That was a prevailing message given to attendees at the Private Capital Conference hosted recently by the Independent Petroleum Association of America (IPAA). With commodity prices languishing and oil companies having to shift from growth mode to one of living within cash flow, additional investment dollars have become much tougher to come by. Some estimate the number of banks that would even entertain investing in new deals in the market down by half over traditional numbers.

“The last six months or so have been rather difficult,” said Don McKinnerney, managing director for RBC Capital Markets. “We’ve seen some failed syndications, some tough syndications, in the RBL [reserve-based lending] market. For new deals, we think that the bank market right now is about 25 banks that are willing to put capital to work. Historically, the market has been around 50 banks.”

So what will bring the banks back? At this point, the key to the return of external investment revolves around oil companies proving they can generate free cash flow. The “shale gale” that blew through the industry for several years beginning in the early 2000s saw investors rewarding growth and paying less attention to the poor returns being achieved. That wind has since shifted. Energy has underperformed as an industry, and investors have turned their attention away from hydrocarbons and toward more rewarding ventures.

“Investor interest in this industry has been cut in half over the last decade,” said Tim Perry, co-global head of oil and gas for Credit Suisse. “Energy-focused funds have dried up. Free cash flow is really what investors are looking for. Technology is slower growth than E&P but higher free cash flow and unfortunately, these other industries really offer higher returns to investors.”

Even with fewer banks and scarcer private-equity opportunities, there remains some cash available for companies with solid management teams and strong assets. Direct lenders are proving to be another source of capital. Refinancings with first-lien revolvers or first-lien term loans are available for liquidity needs, according to Perry.

“Until we can demonstrate good returns I think investors will continue to stay on the sidelines,” said Kyle Kafka, partner of EnCap Investments. “As a result, the A&D market is broken. There is no capital to go buy assets. Sellers don’t want to sell while valuations are at all-time lows, so there are really not a lot of transactions happening.”

 

EnCap has about $6 billion in cash spread across two funds focused solely on the U.S. upstream market—one of the larger war chests of dry powder available in the market today. The capital is supporting its existing base of management teams as well as seeking new investments.

Energy is now only 4.4% of the S&P 500. In just the past decade, that number ran closer to 9% to 12%.

“There is little incentive for portfolio managers to continue to invest in energy,” said Kim Bourgeois, managing director at HPS Investment Partners. “Borrowing base decreases are at an all-time high. So that is certainly causing liquidity strains on companies.”

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