This past year has been one wild ride. The pandemic and uncertainty around how long we would be stuck living under restrictions imposed fundamental changes in our daily lives. And while no one would choose to relive this past year, many of the adaptations made to cope with the situation are changes that we should embrace in both our personal and professional endeavors. These changes were coming anyway and 2020 just forced us to accelerate the pace of innovation and adoption.
The oil and gas industry was not in a great place entering the year. As the pandemic gained prominence in the first quarter of 2020 demand for refined products experienced a sudden and massive contraction. Flights stopped, cars parked, people afraid for their jobs tightened spending and almost overnight 30% of the end use of our sector was gone. Supply overwhelmed demand and commodity prices collapsed.
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The demand destruction and price collapse we experienced in 2020 expedited/enhanced two ongoing changes in the industry: 1) the quest for positive cash flow and 2) a shrinking availability of capital. In this environment there is a massive reshuffling underway as managers and financiers figure out a new model for the energy world.
The long-awaited consolidation play is (finally) underway. In the public markets we are seeing stock for stock transactions, while in the private equity world 2020 has brought us the “smash up”. These consolidations pair cash flowing assets with undercapitalized opportunities and shed excess G&A costs by eliminating management teams. The teams with the best balance sheets, best capital relationships and previous track records of success delivering returns to investors are getting the opportunity to survive and lead the industry forward.
As we exit the year there is virtually no traditional capital available for existing operations. The public markets are closed, private equity is trying to get smaller to get stronger and commercial banks are desperately working to avoid write offs and likely ending their participation on a go forward basis. Managers are on the clock to generate positive cash flow or find a partner to transact with.
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The third significant topic facing the oil and gas community today is the spotlight on ESG and the historical negative public perception of our industry. This paradigm is exemplified by the recent North Face rejection of an order by Innovex Downhole Solutions. The disconnect between what we provide versus our market perception is frightful as we have been lumped in with tobacco, alcohol and porn. We power the world, support our local communities, provide good jobs and pay millions in tax dollars. Our industry leaders need to better portray the all the positive factors our sector contributes.
If this year taught us nothing it should be to expect the unexpected but with 2020 fading, we turn to the next twelve months and 2021. I don’t see a material divergence in course with further consolidation and tight access to capital. Prices should see a slight uptick as demand continues to recover globally. On the supply side, the impact of the drilling shutdown in 2020 plus the natural production decline of wells (especially in shale wells) should further support stabilized pricing.
The wave of bankruptcies, recapitalizations and consolidation should continue as the positive cash flow model squeezes management teams. Out of those combinations will come opportunities for buyers as carved out of noncore assets and out of favor projects get sold off to solidify balance sheets and free up cash for priority projects.
Glimmers of new capital are emerging, but not as life lines to existing entities. Distressed buyers and family offices with long term outlooks for commodity prices are surfacing. They’ll look to scoop up assets on the cheap and hold or diligently develop on a time frame that meets their investment criteria versus shareholders seeking annual returns that are competitive public markets.
And finally, the sector will continue to identify and push for the adoption of efficiency across the board. More than ever, the oil and gas industry has shifted from the dreams of prospectors to an economic model based on investment returns to demanding sources of capital. The winners will optimize results and competitively reduce costs. This will include an adoption of technologies both in the field and the back office, partnerships amongst experts of different backgrounds and a willingness to embrace and adapt to the external forces impacting their business.
Obstacles create opportunity for those willing to employ power, strength and wisdom. We look forward to a brighter 2021 and are thankful and optimistic for the future of our company and our relationships with our customers.