Oil and Gas Investor A&D Trends: Automatic Earth

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[Editor's note: A version of this story appears in the July 2021 issue of Oil and Gas Investor magazine. Subscribe to the magazine here.]

After months of buying and selling chaos, oil and gas A&D finally went full-on Adderall as it barreled into the official start of summer.

What’s been most interesting to observers of the cogs, wheels and sprockets of the industry’s deal machinery is just how much the torque has changed on transactions.

This is most obvious in the Permian Basin, America’s breadbasket as far as oil goes.

Justin J. F. Ramirez, a senior financial analyst at Mercer Capital, noted that data show a possible inflection point in deal valuations in the past 12 months. On the whole, transaction values spiked from July to October 2020. Specific to the Permian Basin, deal values are “pale in comparison to those in early periods,” Ramirez wrote on June 18.

Inversely, the cost-per-acre valuation in the Permian nearly split in two. From July to October 2020, acreage values averaged $10,482 compared with $20,449 per acre previously.

Colgate Operating’s purchase of the vaunted Occidental Petroleum Corp. lands in Reeves and Ward counties, Texas, were valued at $508 million—which came in at an adjusted price per acre of just $10,380, according to data from Raymond James. That may not be Lilis Energy-bankruptcy-sale lows (Lilis took about $2,800 per acre to leave) but the Permian’s “like a boss” days may indeed be fading.

In the past year, the only operated asset deal that’s come close to the Permian’s M&A glory days is Pioneer Natural Resources Co.’ agreement to buy DoublePoint Energy for about $6.4 billion, or $42,010 per acre.

A bigger deal may be in the offing for the Permian; however, far more grandiose than mere Pioneer’s dear to dream.

As Ramirez noted, and is subsequently re-noted here, Royal Dutch Shell Plc is considering a sale of its holdings in the Permian Basin, which are considered to be ginormous. Reuters reported that Shell’s Permian holdings account for about 6% of the company’s oil and gas holdings—a huge, money intensive creature that could be worth $10 billion. But selling now would have to be the ultimate contrarian’s contrarian move.

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What’s Driving Some to Consider a Permian Basin Exit

Consider: Spot oil prices have emerged from their groundhog shadows with $70/bbl oil sloshing around. Astonishingly, rather than testing the resolve of producers, rising oil prices appear irrelevant. Apart from private equity businesses, few producers are ramping up to crank out more crude.

In a June 16 report, Goldman Sachs forecast U.S. crude supply for 2021 to 2022 to remain below 2019 levels. That will make for a tight and potentially profitable stretch for oil companies. For its upstream coverage, Goldman Sachs expects free cash flow in 2022 to hit a 19% yield. That compares to refiners, which the firm expects to return 7% free cash flow yields.

Ramirez hypothesized that some of the chill on A&D flow was due to the sneaking suspicion that President Biden may want to choke off America’s fuel supply.

But just as damaging a certain flavor of cancel culture, which has for years unleashed broadsides against oil and gas—attacks that are going to make fuel very expensive at some point.

Apart from being the energy source for moving everything around the planet, oil and gas provides the feedstocks necessary for clothing, milk cartoons and so on. Yet the oil and gas industry is essentially the outcast of the world’s 11 market sectors. Certainly, information technology, financials and even healthcare don’t get the bad rap associated with energy.

Why is Shell considering a hasty retreat from Texas? Well, consider how The New York Times recently reported Shell’s position. The company is “under pressure to move away from climate-damaging fossil fuels,” the newspaper said.

And this brings us to smart phones. One of the great annoyances of smart phones is the autocorrect feature that changes the spelling or entire words. (Another is that while we don’t use our phones to talk to people, our phones insist on talking to us.)

Apple, for one, is a great purveyor of the convenience of autocorrect. One quirk, for instance, is associated with the acronym “OMW,” which typically corrects to “on my way.” So? Is there any real harm as a result? But autocorrect software changes other things.

For instance, type the term “safe word”— let’s assume there’s a perfectly innocent explanation for inputting it into your phone—and it automatically corrects to SafeWord, the name of an alleged television program on MTV.

In ways subtle and obnoxious, Apple is rewriting how we use our language, usually with our permission. So it goes with oil and gas. The New York Times and other outlets autocorrect oil and gas to “dirty fossil fuel” and “climate damaging,” and there’s simple, silent assent.

So in the West, the Permian seems to fade and valuations plummet. Could a giant autocorrection be coming?