Out-Law Analysis | 04 Feb 2016 | 8:30 am | 3 min. read
For more in depth analysis on Pinsent Masons' research on oil and gas services, see our Ahead Of The Curve special reports .
Unlike corporate investors, who our findings suggest plan an investment based on their desire to acquire new technology or expand their own business into new territories, PE firms are simply seeking a return on their investment. This is likely to drive funds to seek investment in proven business models, strong contract pipelines and supportive regulatory environments.
The typical PE firm will expect to deliver substantial returns to its shareholders on their investments within five to seven years. Recent research on behalf of Pinsent Masons, the law firm behind Out-Law.com, anticipates a recovery in the UK oil and gas market within a similar timescale.
Nearly half of those surveyed on behalf of the firm, who were drawn from both the corporate and PE worlds, expect this to happen within three to five years. A further 28% expect this even sooner. The current downturn in oil prices therefore gives PE investors an opportunity to buy up distressed assets and implement a revised business plan, in exchange for higher returns when the market rallies again.
This strategy is borne out by industry experience to date, as revealed by the Pinsent Masons research. Where 50% of the corporates who had acquired an additional business told us that they were spending more on technology and R&D, exploring ways to increase efficiencies in line with the UK government's Maximising Economic Recovery (MER) agenda, the majority of PE respondents have focussed on restructuring and downsizing operational costs.
Post-acquisition restructuring is typical of this type of investment, given PE investors' experience with cost control and portfolio efficiency, but with oil prices now almost 50% lower than the range anticipated by our survey respondents in November many will now be calculating a longer game to maximise the return on their investments.
One UK-based partner told us that his PE firm had restructured a few of its companies' operations and management and had conducted layoffs to "keep our operations running and investors happy" - the lower oil price environment can only accelerate these strategies and encourage investors to be bolder.
Although there was little to distinguish between PE and corporate responses to our high-level questions, drilling down to the factors influencing individual acquisitions revealed some interesting findings which back our conclusions above. PE respondents attached more significance to the quality of existing infrastructure than their corporate counterparts, and were more likely to focus on countries with proven reserves compared to corporates. Both PE and corporate respondents told us that they were targeting businesses with a strong contract pipeline - but PE firms also stated a preference for businesses which already had strong balance sheets, and management in place with a proven track record for delivering on time and on budget.
Due to the longer-term timeframes of their investments, PE investors are traditionally more averse to political risk. It was no surprise, therefore, to see that regulatory stability and favourable business environments ranked highly among the factors that made particular territories more attractive investment targets. With these factors less important to corporate investors, which were keener to take risks in order to expand into new marketplaces, we may find PE and corporate investors chasing assets in different geographies over the next few years.
One emerging region which was considered attractive to PE and corporate respondents alike was Latin America - but, here too, sympathetic regulatory regimes and effective supporting infrastructure will distinguish between attractive investment targets and those not yet suited to PE investment.
In 2015 US-based PE firm KKR entered into a high profile joint venture with Monterra Energy to develop new projects and pursue mid-stream acquisition and investment opportunities in Mexico – but Mexico and the likes of Peru benefit from supportive regimes as well as a wide variety of prospecting opportunities. By contrast, financial and political instability in the likes of Columbia mean that some Latin American countries lack the necessary infrastructure needed to transport resources from their extraction point to market.
A general rebound in oil prices will, of course, remain a critical caveat for all, and some of our respondents urged caution despite general optimism about the future of the North Sea. Latin America or Southeast Asia offered more competitive and profitable opportunities to these investors than the UK, where one partner at a UK-based PE firm told us that many companies had "reduced or are stopping operations to save costs".