Oil & gas services still poised for investments, despite price fall

European private equity saw the first casualty of the falling price of Brent Crude – from more than $100 per barrel to less than half that in the span of six months – when HitecVision-backed Reef Subsea went into administration in early February.

The Norwegian oil & gas-focused GP is reported to have lost as much as NOK 500m on its investment in the Stavanger-based installer of submarine cables and subsea products.

While most generalist buyout funds' exposure is limited to two or three investments in O&G services, specialist GPs such as HitecVision, Limerock and Riverstone are naturally far more exposed.

However, Reef Subsea's demise is not likely to be the precursor to an imminent oil & gas apocalypse, where rigs are crushed under the burden of low commodity prices and sink to the bottom of a too-expensive-to-explore North Sea, dragging O&G services firms down with them.

"Just because the price has gone down, it doesn't mean that every business will go backwards or flat, and there are opportunities for a lot of businesses to grow in that environment – whether it's by growing market share, deepening their service offering to customers or even through acquisitions," says Nick Dalgarno, managing partner at financial advisory Simmons & Company International.

Cost cutters
"It's survival of the fittest," says Altium managing director Adrian Reed. "There are going to be cost savings needed, so people who can provide cost-saving services are going to do well."

His view is reflected by Dalgarno: "There's an opportunity for the industry here to get to grips with some of the cost inflation – to look at the way things are done and to secure a better long-term future for the industry than might otherwise have been available." He says this will translate into very good opportunities for private equity over the next 12 to 18 months.

The cost of services has increased steadily over the past decade, providing good profits for investors and boosting the sector's popularity with private equity houses.

As the price of oil settles on its new normal, services costs will follow downward. Dalgarno says this is a largely positive change, and that some companies were already anticipating an austere 2015 last year. It was also indicated by an SEB survey of the exploration & production sector in August, which showed most companies expected flat or lower spending across the board.

Many companies responded quickly to falling prices by cutting costs, changing payment models or offering additional services in order to cope, and accepting short-term pain for long-term gain.

"Generally, people are just sitting tight and everybody is going to try and make things as efficient as they can," says Reed. "There is going to be a period over the next few years where anybody who can do something that makes things more cost-effective – who can help reduce costs, which maybe wasn't the focus previously – could create really good opportunities."

Both Dalgarno and Reed say there will be opportunities for companies in the asset protection industry, such as oil rig integrity. "Rust never sleeps," Dalgarno says, quoting Matt Simmons, the founder of Simmons & Co. "You put steel structures in water and you can protect them, but they will eventually rust, so [they] will need to be repaired."

Reed points out that exploration oil rigs are already being temporarily taken out of service until prices rise again, leading to opportunities for mothballing services companies and the like. Decommissioning services companies could also see a boon, as Shell begins decommissioning ageing rigs in the Brent field, with others potentially following.

Ongoing attraction
The services sector has previously experienced commodity price falls similar to the recent drop, but has remained in favour with private equity. Deal volumes have increased and decreased roughly in step with the global economic cycle since 2000, according to unquote" data.

"It's not like we haven't experienced a 50% oil price fall in the past, and people who have been through that will know how to deal with it," says Reed, emphasising the sector will always be attractive to investors.

His view is supported by Dalgarno: "There is still opportunity for private equity funds in this sector. It's about backing good businesses and good management teams." He says GPs with expertise in the sector are well-equipped to support their portfolios and continue investing.

Although it is still too early to discern any meaningful effect the current oil downturn has had on dealflow, investors in the sector will likely have to take some short-term pain and extend investment horizons by a few years.

Dalgarno says he does not foresee any substantial number of deals being dropped because of it, however, and that success is entirely dependent on the underlying business.

Meanwhile, there have not been any meaningful worries among LPs in funds with O&G exposure, although they are aware of the macro issues and are, in some cases, asking GPs to justify investments in the sector more extensively, according to Dalgarno.

He says some have put transactions on hold temporarily due to the uncertainty, while others recognise the short-term earnings pressure but are keen to continue investing. Dalgarno says there has also been a lot of interest from "ambulance chasers" – investors looking to take over these struggling businesses at rock-bottom prices.

"They're worse than ambulance chasers: they're ahead of the ambulance. The patients are trying to work out whether they're going to live – they're looking for a doctor and the lawyers are appearing on the scene," he says, adding that he believes they are misguided.

"This is not a fire sale," Dalgarno states. "People are going to have to assess deals on their merit, as opposed to hunt for bargains. I think only bad deals will be done by those people."

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• Topics
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• Oil & Gas
• Simmons & Company International
• Unq2015Mar