The fast pace of M&A transactions seen in 2006 may not be sustainable this year, absent the many large deals announced as Anadarko Petroleum Corp. restructures, according to Randy King, managing director of Merrill Lynch Petrie Divestiture Advisors. He spoke recently to Houston Energy Finance Group members.

The capital markets recognize that energy fundamentals are still good, he said, but the stock market's expression of that-higher equity values-has varied over time, so there is still some misunderstanding.

The market recognizes energy problems that could portend success for U.S. companies as commodity prices go higher: limited access to resources, greater geopolitical risk, high North American production declines and the heightened competition from national oil companies.

But the energy sector makes up only 10% of the Standard & Poor's 500, versus 12% in the late 1980s and 20% in the late 1970s.

Reduced exploration spending is another challenge King foresees. From 2001-06, such spending was 14% of total expenditures by E&P companies, but in 1990 it was 25%, he said. If exploration cannot help a company grow, then acquisitions can.

The average transaction size has been increasing. In 2005, the average was $220 million, with four deals announced above $1 billion. In 2006, the average size was greater, some $310 million, with a significant nine deals of more than $1 billion.

Before the end of first-quarter 2007, the average had grown again, to $414 million. Some $2.9 billion in just seven deals had been announced already.

So while it looks like 2007 will be a blow-out year, King says that is skewed by the many large divestitures Anadarko Petroleum is doing as it digests its $23 billion of acquisitions made last year. "I think the second and third quarters of 2007 may be a bit lighter than expected," King said.

"The rollover in commodity prices has set an early, cautious tone. The industry and asset owners have a sense of timing and want to hold off for a while. On the other hand, finding and development (F&D) costs are way up and the fundamentals that drive growth continue to create a need for doing deals."

Resource plays continue to have the lowest F&D costs, and are popular purchase targets. "We run into a lot of companies that have taken spec positions in shale plays around the country."

Comments