Private Equity And M&A In The Petroleum Industry: Thriving In Texas

Thursday, September 1, 2011 - 00:00

The Editor interviews Rodney L. Moore , Partner, Weil, Gotshal & Manges LLP.

Editor: Please tell us about your background and experience.

Moore: I joined Weil in July and am resident in Weil's Dallas and Houston offices. Prior to joining Weil, I was with Vinson & Elkins. My practice primarily focuses on M&A and private equity work, specifically upstream and midstream oil and gas transactions. Over the past ten years, private equity firms have increased their focus on the oil and gas industry, due in part to the resurgence in the development of oil and gas plays and the onset of the shale plays and the value propositions they present. Over this period, the transactional activity in the oil and gas industry has evolved with the industry and with the increasingly complex issues presented, and has constituted 80-90 percent of my work. The combination of my private equity experience and oil and gas transactional practice allows me to counsel both private equity firms and oil and gas companies on transactional matters in the oil and gas industry.

Editor: Are there any oil and gas areas in which you specialize?

Moore: I focus on the upstream and midstream sectors and, within those, primarily on M&A transactions and joint venture work that includes backing management teams and partnering with others to develop oil and gas assets. Every M&A deal is different. An upstream transaction - which may involve developed or undeveloped assets, multiple working interest owners, dedications, and joint development obligations - requires a broad understanding of the myriad of complex issues that may come into play, depending on the particular assets involved. The same is true on the midstream side, but with a different set of potential issues that depend on a number of factors, including the location of the pipeline; if there are processing and/or treatment facilities involved; and whether it is an inter- or intra-state pipeline. It is critical to be able to recognize the issues in these transactions at the outset to be able to properly structure the transactions and timely address the issues, including regulatory aspects.

Editor: Could you define midstream?

Moore: Once you lift the hydrocarbons to the surface (the upstream segment), you have to process and transport them for delivery to the downstream provider. Midstream is from the wellhead to the downstream source. Oil is generally separated from gas and initially stored on site in tanks, then transported by truck or pipeline to refineries. Natural gas is gathered and processed to remove oil, water, natural gas liquids (NGLs) and sulfur, then transported and stored until it is distributed to customers through the downstream segment. This process of gathering, processing and transporting natural gas is what is commonly referred to as midstream activity.

Editor: Please give some examples of the work you've done in M&A.

Moore: I have done a lot of M&A transactions - on the upstream side - for companies such as HM Capital Partners, Range Resources, EXCO Resources, BlackBrush Oil & Gas, and Concho Resources, and - on the midstream side - for companies such as HM Capital Partners, Natural Gas Partners, Regency Energy Partners, and TexStar Field Services. Joint ventures came more into favor several years ago when the economic downturn caused credit markets to dry up. Upstream companies had a lot of acreage that they needed to develop to meet drilling obligations and to hold acreage, and they needed capital to drill. With the evolution of the shale plays, these drilling activities became more expensive. Midstream companies needed to build midstream assets to service the production coming on line. Because financing was unavailable, joint ventures were created to raise capital for development of these assets. These projects covered the whole range of activities, from drilling just enough to preserve the leasehold right to full drilling programs. I recently worked on the joint venture between Pioneer Natural Resources and Reliance Industries and on the BlackBrush TexStar LP joint venture between HM Capital Partners and EIG Global Energy Partners. Both involved the development of upstream and midstream assets.

Editor: We understand that Exxon-Mobil's acquisition of XTO Energy was one of the largest in the gas industry. Do you see this as a growing trend?

Moore: There is some debate about whether some independent companies are growing to the point of being too large to be acquisition targets. They may opt to grow and stay independent, or they may grow with a strategic goal of selling off non-core assets and retaining core assets with a value proposition that makes them a good acquisition target. The XTO transaction was unique, and there has been much discussion but no real consensus about what the future holds.

Editor: What are some key areas of opportunity in the petroleum industry today?

Moore: We've seen the development of shale plays - for example, Haynesville Shale and Barnett Shale - that were primarily gas plays. Gas prices have been depressed since their heyday several years ago. However, as additional shale plays are being discovered and developed - and as companies are looking at both oil and natural gas liquids available in shale plays - the key areas of opportunity are further discovery and development of these shale plays. Private equity firms and oil and gas companies alike always are looking for the next big thing, but right now, the industry is focused on shale plays, and primarily on shale plays with high liquids content. As technology evolves and pricing adjusts, dry gas shale plays may gain favor once again as they become more economical.

Even with the increased availability of debt financing, I think we will continue to see a number of the joint ventures I mentioned earlier as companies look to recognize some of the increased valued of these shale assets acquired over the past few years, while acquiring capital to develop these assets (which initially provide limited borrowing base capacity) and hedging the risks and high costs of developing these shale plays.Buyers are still interested in these assets because, although the cost of entry is far greater than several years ago, the value propositions are great enough to attract certain industry participants.

Editor: There have been criticisms in national publications of the shale plays, claiming that effluent releases in extracting the gas are finding their way into the water supply. Is there much credence to these criticisms?

Moore: Only time will tell, but it is important to realize that fracking has been going on for a long time. While there has been a lot of environmental consciousness in raising these issues, I believe if the history and research on this issue provided credible evidence tying the two together, the industry would have addressed the matter differently than it has. I just don't believe it is likely that this issue will have a material adverse impact on the oil and gas industry.

Editor: Does the gas price per mcf have to reach a certain level before gas plays become economically viable?

Moore: Shale contains not only natural gas but also oil and natural gas liquids. Because of the current price of natural gas, more focus is on shale plays that contain oil and higher volumes of natural gas liquids than dry gas. Even considering lower gas prices, companies still will hold and develop shale gas assets because the expectation is that the market will come back. I can't make predictions about the timing or what the drivers will be that affect natural gas prices, and, for now, the focus generally is on shale plays with higher liquids content - for example, the Utica, Eagle Ford, Wolfcamp, Bakken and Niobrara shale plays are getting a lot of attention.

Editor: Have private equity firms increased their efforts to grow in the energy area?

Moore: There are private equity groups whose core focus is energy and others that have energy groups within a more general firm. Over the last ten years - particularly with the development of shale plays and the value proposition they present - more private equity investors are interested and focused on entering the energy industry. So, yes, there are more private equity firms already involved with or actively seeking opportunities in the energy industry than we have seen in the past.

Editor: Are integrated oil companies investigating shale?

Moore: Yes, many integrated energy companies are involved in shale plays, which is a big factor in creating the value proposition enjoyed by private equity groups that got in early. The Eagle Ford shale in South Texas is a good example. Both private equity firms and energy companies were involved right from the start. Originally, many companies were interested in other formations - not the shale plays - but the subsequent development of shale plays and advancements in horizontal drilling technology created tremendous value propositions because companies weren't forced to enter at the high prices a developed shale play could command. Many energy companies had shale acreage as part of acreage where they were there drilling other formations; they had the shale formations but did not develop them until these value propositions began to emerge. As shale plays developed, energy companies began increasing their efforts to identify and acquire available acreage, and continue to invest in shale plays to replace and increase reserves. The value proposition presented by the oil and natural gas liquids held by these shale plays makes them an attractive asset for the energy companies, while the higher entry and development costs associated with known shale plays cause some private equity investors to shy away from pursuing the more developed shale plays and pursue the next golden nugget.

Editor: Have financial institutions relaxed their restrictions on lending to the oil and gas industry?

Moore: I don't know that I would say they have "relaxed their restrictions." Some financial institutions have been lending in the oil and gas industry for a long time, and others have more recently entered the market. During the economic downturn, credit markets tightened up, but as the economy improves and recognizable stability returns to the industry, the money has become more freely available. Financial institutions have, and will continue to have, standards governing the amount they will lend against oil and gas assets; it is the willingness to lend at all that affected a lot of companies, particularly private equity. As credit markets come back, more private equity groups are attracted as they are able to lever up the investments, making the multiples on the return on capital more attractive. As a result, there is more competition for the assets.

Editor: Has there been an influx of foreign investment into this industry?

Moore: Yes. We've seen more foreign investment into the industry in the past five or six years. Shale plays are a draw, and foreign companies are looking to gain more insight into the technology on shale plays and to take advantage of the attractive value propositions they create.

Editor: Why is Texas a great home for industry?

Moore: Texas offers relatively low living/workforce costs and favorable tax treatment, with no state income tax. It's a particularly great place for oil and gas companies to set up headquarters and operations. After all, the industry grew up here, and there is a tremendous amount of activity right in our backyard. Texas has an established regulatory structure and legal climate for the oil and gas industry and boasts an experienced oil and gas workforce that has matured with the industry and has great knowledge of the financial and operational aspects of the industry. Thus, the state's long history with the industry, combined with a well-established regulatory structure and a deep, talented workforce make Texas a very favorable location for the oil and gas industry.

Editor: Do you have any final comments for our readers?

Moore: Weil's excellent private equity practice has been located in Dallas and Houston for 25 years, and I recognized a great opportunity to join the firm and service the private equity sector in oil and gas transactions. My move to the firm enhances its capabilities to serve private equity clients and offers me the opportunity to tap Weil's expertise and its deep talent to better serve my existing private equity clients and the oil and gas companies that I've historically represented. New York firms increasingly acknowledge that energy is a growing sector for M&A and private equity activity, and Weil has made a real effort to ensure that it is well positioned to service those clients.

Please email the interviewee at rodney.moore@weil.com with questions about this interview.