The tumble in oil prices has meant a number of exploration and production companies are simply trying to survive until the market recovers, says Wayne Fedun, partner and Canadian head of energy at Norton Rose Fulbright LLP.
Canadian oil and gas companies are caught in a double whammy of sorts, according to Fedun, who says that, in addition to the drop in oil prices, they’re also feeling the crunch of insufficient pipeline capacity.
“Because of constraints on takeaway pipeline capacity, oil production in Canada is being sold at a significant discount to WTI prices,” he says. “So producers’ prices are suffering in addition to the general commodity price situation. Simply stated, there needs to be more takeaway pipeline capacity that will allow oil to flow freely to markets.”
The capital that kept companies afloat may have so far come from lenders, but as banks now review their borrowers’ reports — and quite likely find them unimpressive — companies will have to look elsewhere for cash.
“I think because equity markets don’t present a number of options for companies, one of the ways that they’re going to raise the necessary capital is going to include the sale of upstream and midstream assets,” says Fedun, adding the necessity for capital will narrow the bid-ask gap and spur transactions.
“There will need to be asset sells that have to happen as opposed to companies wanting to, in ordinary situations, undertake those kinds of transactions,” he adds.
The longer oil prices remain low, it’s more likely banks are going to start pressuring borrowers to sell themselves or their assets, says Don Greenfield, energy and M&A lawyer at Bennett Jones LLP in Calgary.
But while this has so far meant hints of more activity in M&A, it’s “by no means in full flood,” Greenfield says.
According to Fedun, there’s a considerable amount of private equity on the sidelines waiting for the bid-ask gap to close. This capital is ultimately going to flow into jurisdictions and operations in North America where the rate of return is most attractive, he says, adding he expects some competition for capital.
This year, Fedun co-led the Canadian side of a multijurisdictional Norton Rose team that represented Brookfield Infrastructure Partners L.P. in its agreement to acquire 100 per cent of the outstanding equity interests in Niska Gas Storage Partners LLC, a publicly traded natural gas storage business with operations in the U.S. and Canada. The $912-million transaction also includes a short-term working capital facility to be provided by a Brookfield subsidiary to Niska in the period between signing and closing. The closing of the
acquisition is subject to a number of conditions, including receipt of regulatory approvals, according to Norton Rose.
Greenfield says that, currently, buyers and sellers have wildly different views on how much assets are worth. “Sellers aren’t prepared to sell on those assumptions because they see some light at the end of the tunnel, so there’s a gulf between what the seller and buyers think assets are worth,” he says.
Sébastien Vézina, mergers and acquisitions partner at Lavery de Billy LLP, says buyers who purchase non-performing assets in the natural resources sector, and especially in oil, will do so with a long-term vision.
“Commentators are saying . . . the lower oil prices will not be a situation we’re going to be facing for 10 years or five years. We’re talking about years, but we’re talking about one or two years. Some people are saying the end of 2017 we’re going to be getting out of this,” Vézina says. “So when you think about it, being very reasonable, 24 months is not a long period of time.”
According to Vézina, it’s easier to more accurately predict the future potential of purchased assets in oil and gas as opposed to mining, where there is less consensus around when commodity prices will recover.
Still, there have been some transactions in mining lately. In Quebec, Agnico Eagle Mines Limited and Yamana Gold Inc. recently acquired all issued and outstanding common shares of Osisko Mining Corporation. In December, Champion Iron Limited announced that its subsidiary Québec Iron Ore Inc. entered into an asset purchase agreement to acquire Bloom Lake Mine and related rail assets.
In a press release issued at the time, Champion said it was confident about the potential of the Bloom Lake assets.
“Champion believes there is capacity to reduce the care and maintenance costs at the Bloom Lake Mine, which would reduce the overall required capital. Discussions with leading commodities traders have also confirmed off-take interest with the backing of steel mills, to the extent that Champion has confidence that future Bloom Lake production could be pre-sold,” the company said. “Additionally, discussions with strategic partners, funds, government agencies, and private investors are at an advanced stage for the company to obtain additional financing in order to secure up to 24 months of care and maintenance should low iron ore prices prevail during this period.”
In some ways, the mining sector is a bit ahead of the oil and gas sector in terms of transactions, according to Crae Garrett, partner in the Calgary office at Norton Rose Fulbright LLP. Mining is seeing the same downward pressures hitting base commodities, Garrett says, and there have been significant sell-offs of non-performing assets.
“During the boom time in precious metals, and in fact during the boom time in base metal, a lot of gold companies in particular let their balance sheets get carried away with themselves.” If they’re going to rectify that, there’s going to be “a lot of asset shading going on,” Garrett says, adding, “It’s not a bad indication of the kind of activity we might start to see in the oil and gas sector.”
However, in Vancouver, Robin Longe, business partner at Bull Housser & Tupper LLP, is less optimistic about transactions in the mining sector. “The junior companies that aren’t able to hold on to their assets — they’d want to sell them, but they also have to have a willing buyer, and the problem is that the major companies are not in a great cash flow position and are reluctant to spend money on assets that aren’t already proven or in production,” Longe says.
‘That’s the issue — the juniors typically [have] assets that are in the preliminary stage of development that still need to be proven,” he says, adding there might be transactions between two willing partners, but things will be slow until the market turns around.
Amid all the gloom in the natural resources sector, there’s been a ray of sunshine in forestry. The weaker loonie has meant increased selling of Canadian wood south of the border. “Forestry has had market pressures throughout what was the commodities’ pretty significant boom time, so I think the forestry sector is much more savvy at dealing with market disruption in general. It’s good at dealing with it because all of the forestry organizations that weren’t good at it no longer exist. It’s kind of an evolutionary thing,” Garrett says.
As occurred during the economic downturn in 2009, the least efficient of players in mining “become the first casualties,” Garrett adds. “When the dust settles, the people that know their stuff are the people that survive. If you do that cycle a few times, you get people who really understand their sector and have really adapted.”