A version of this story appears in the February 2018 edition of Oil and Gas Investor. Subscribe to the magazine here.

Last year, public-equity investors abandoned the oil and gas space. Could private-equity investors do the same this year? The answer depends on your perspective.

In the A&D world, private capital is in the driver’s seat at present. Deal facilitator Bill Marko, managing director at Jefferies, said from this perspective private capital is “extremely important.” Speaking at the Society of Petroleum Engineer’s MA&D Symposium in January, he said to “understand private capital as much as you can. They’re the guys with the money.”

And the deal oxygen. When public investors pulled out of the market by second-half 2017, taking with them billion-dollar overnight offerings to fund deals announced the previous day, private equity stepped in with very large oxygen tanks. Marko estimates some 350 privately backed management teams are attempting to place upward of $100 billion, that’s significant change in play.

“Whether you’re buying or selling, learn as much as you can about how these people think and tick,” he advised. “This is where the action is; this where the big pools of capital are.”

But it’s the behind-the-scenes wranglings where cracks may be appearing. Investor relation professionals at the energy-focused private-equity funds indicate that fundraising is incredibly challenging in the current environment, for various reasons.

Could this deep and wide pool of capital be drying up?

“We’ve got senior portfolio management professionals that are used to very easy raises and are used to people throwing money at them. That’s not necessarily the environment anymore,” said Lincoln Singleton, senior managing director of client relations for Kayne Anderson Capital Advisors, who indicated fundraises are taking twice as long as they did pre-downturn.

Singleton spoke to the challenges energy funds are facing at the PrivCap Energy Game Change conference In December, along with Charles Bauer, managing director with EnCap Investments LP and Latham & Watkins LLP partner Nadia Sager, all who deal directly with the limited partners investing the capital.

“2017 saw healthy tension between investment staffs and boards, where investment staff saw the opportunity and wanted to put capital to work, while boards were more hesitant to put additional capital into this space,” said Bauer.

One headwind is just the sheer multitude of energy focused funds seeking placements. “It’s multiplied exponentially,” Bauer said. “Capturing mindshare in today’s market in E&P is incredibly difficult.” A second factor is fallout from the downturn, where many investors came up in the losers bracket.

“I’ve got a couple of big public pensions that are dealing with tension between the board and investment team, where the investment board has a bad taste in their mouths about oil and gas because of past poor performance in past funds or because of these restructurings,” said Singleton.

Another, and possibly more ominous, is the social pushback. Members of endowment and pension funds are turning off to the oil and gas sector in favor of “greener” investments. The anti-fracking movement is having repercussions on capital availability.

“Pay specific attention to your firm’s and your portfolio companies’ ESG [environmental, social and governance] policies,” Bauer alerted. For institutional investors, it’s risen to become the second highest criteria for investing, behind trach record, particularly regarding foundations based in the Northeast and any fundraising outside the U.S.

This past year marked the first time certain investors actually passed on investing. He referenced one endowment fund investment team that was ready to go all in with their proposal to the board, only to have them balk due to students pushing back. The board’s response: “We should be in the oil and gas space, but we don’t think this is the appropriate time to be making oil and gas investments.”

But they’re not divesting existing investments—yet. “They’re beginning to re-evaluate their programs,” he said, “and whether they’ll continue to invest in oil and gas in the future.” It’s a wave that is potentially coming, and you need to beginning preparing your mind that there are more and more people out there with that intention.”

Sager, who works with a number of sponsors, says the fundraisings world is bifurcated now, with some capital providers struggling to get the funds, to those that are having very successful raises. Ergo EnCap closing a $7-billion fund year-end. “It’s not easy for anyone,” she noted, “but we’re in the best place we’ve been” since the beginning of the price downturn.

Maybe there’ll be some cash left in the private till yet. “It’s interesting times in raising funds these days,” said Singleton, who is also raising a new fund for Kayne. “Fact is, we have to fight for it.”

Steve Toon can be reached at stoon@hartenergy.com.

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