Dealmaking in the US oil & gas (O&G) and power markets has been an uncertain business over recent years, with overall M&A volumes and values characterized by huge swings and volatility.

But there are strong indications that confidence in US power and O&G is back as the market shows signs of stabilizing. Deal value has been rising for five consecutive quarters, culminating in US$121.9 billion worth of deals in Q3 2018. This is the third-highest quarter on record and up 195% on the same quarter in 2017 (US$41.26 billion).

A trend towards larger, higher-value transactions suggests dealmakers are more comfortable deploying larger amounts into single assets—indeed, the value and volume of megadeals is likely to reach record levels given that there is still a quarter to go.

Predictability brings stability

In the O&G subsector, a steady oil price that has traded in the US$70 to US$80 range since the end of March—significantly higher than the sub-US$60 prices seen a year ago—has made it easier to value O&G assets and given investors increased confidence in their ability to transact.

Price stability has also encouraged higher production from US shale fields, which has helped to push US crude oil production to more than 11 million barrels per day—a record high according to the US Energy Department. This in turn has sparked M&A up and down the supply chain, as evidenced by refiner Marathon Petroleum’s US$31.32 billion acquisition of rival Andeavor.

The deal, which is the second largest O&G transaction in the US so far this year, was predicated on the fact that refineries such as Andeavor, which are capable of processing light crude oils, are perfectly placed to profit from the production boom.

Upstream O&G companies are also getting in on the action. Against the backdrop of a less volatile oil price, M&A activity has been gathering momentum through the year. In March this year, shale groups Concho Resources and RSP Permian led the way, combining in a US$9.48 billion deal. The third quarter has seen two more megadeal shale plays. In August, BHP Billiton offloaded Petrohawk, a portfolio of US shale acreage, to BP in a US$10.5 billion deal and Diamondback Energy announced the proposed acquisition of rival Energen in a US$9.11 billion transaction one month later.

The last six months have been broadly positive for O&G dealmaking, including some transactions that have been driven by a restructuring focus. In August, the US$59.61 billion deal between Energy Transfer Partners and Energy Transfer Equity, Williams Companies’ US$10.46 billion purchase of a 26.71% stake in Williams Partners and Enbridge’s US$7.34 billion acquisition of Spectra Energy Partners are examples of pipeline companies unwinding their corporate structures through M&A.Energy Transfer, Williams Partners and Spectra were all set up as master limited partnership (MLPs), which are flow-through tax structures designed to pay out profits to investors via tax efficient distributions. Pipeline MLPs, however, have focused on simplifying their ownership models, in part because of a US appeals court ruling discouraging such structures.

Power plays

The power sector has also delivered its share of megadeals in 2018. Dominion Energy’s US$14.25 billion proposed acquisition of the South Carolina power company SCANA ranks as the third-largest deal of the year, with NextEra Energy’s US$5.75 billion move for Gulf Power Company just outside the top ten deals in the sector.

But while headline power deals are being announced, M&A activity in the power sector has been patchier than the more buoyant O&G space. While O&G value has climbed in every quarter since Q2 2017, quarterly power M&A value has been more unpredictable.

Regulatory interventions have been one factor putting the brakes on momentum. NextEra Energy’s move for Gulf Power Company, for example, follows two earlier unsuccessful attempts to buy power companies. In 2015, the Hawaii Public Utilities Commission blocked NextEra’s acquisition application to buy Hawaiian Electric, ruling that the deal did not demonstrate clear benefits for residents and commitment to the state’s clean energy targets. In 2017, NextEra was rebuffed again, this time by the Texas Public Utilities Commission, which blocked its bid for Texas power company Oncor Electric.

Despite regulatory hurdles, regulated power companies like NextEra, which holds a portfolio of gas generator and renewable energy assets, can offer attractive yields for investors. A regulated power utility can bring added stability to these kinds of portfolios, which are otherwise exposed to volatility in energy markets.

The holders of utility assets, meanwhile, are keen to raise capital for investment in their core networks and focus their offerings on key geographies. Southern Company, seller of Gulf Power, is seeking to raise US$7 billion of equity over a five-year period for investment in its gas and electric utilities and wants to refocus its utility offerings across the three states of Mississippi, Alabama and Georgia.

Outlook

With a number of deals in the pipeline, M&A in O&G and power sectors is well-placed to finish 2018 strongly.

Regulatory intervention will continue to influence M&A activity in the power sector, but a strong appetite from buyers and a willingness from vendors to sell assets suggests that power deals will get done despite the ups and downs.

It is in the O&G sector, however, where momentum is strongest. Demand for quality shale assets is healthy, and the fact that a number of large M&A transactions have closed should bolster market confidence.