Overviewi Oil and gas
The oil and gas industry is composed of four separate but related sectors:
- upstream (companies engaged in the business of extracting hydrocarbons);
- midstream (companies engaged in the business of transporting hydrocarbons);
- services (companies engaged in the business of assisting upstream and midstream companies with the extraction and transportation of hydrocarbons); and
- downstream (companies engaged in the business of refining petroleum after extraction).
For a number of reasons, 2020 has been a difficult year for the oil and gas industry. The year started off with promise but quickly turned negative when, in March 2020, the OPEC+ countries engaged in a relatively brief but damaging price war, which resulted in oil prices falling over 60 per cent. Shortly after the initiation of the OPEC+ price war, the world was ravaged by the covid-19 pandemic, which dramatically supressed the demand for oil and natural gas. This resulted in a dramatic increase in the number of bankruptcies for such companies and a precipitous drop in M&A activity in the industry. Beyond concerns related to the commodity price drop and global pandemic, the investment community has continued to withdraw from the oil and gas industry because of concerns over sustainability, high levels of debt, the lack of free cash flow at many of these companies, and environmental, social and governance (ESG) issues. These concerns have created further downward price pressure on oil and gas company stocks and would in turn lead to reduced operational and financial growth generally for companies in the oil and gas industry.
The equity and debt capital markets have continued to remain closed for most oil and gas companies, with the exception of those companies with the best credit profile. Investors are looking for low levels of indebtedness, visibility to free cash flow generation and a return of capital through share repurchases or dividends, which many oil and gas companies cannot provide. Private equity investment in the oil and gas industry has slowed somewhat in 2020 as compared to prior years, but these companies continue to offer an alternative source of financing through the use of various deal structures, including drillcos, wellbore securitisations and non-op joint ventures.ii Power and utilities
Consistent with M&A volumes and value generally, the power and utilities sector saw a reduction in M&A activity in the first half of 2020 when compared to 2019 levels, both in terms of deal activity and deal value, in part because of the covid-19 global pandemic, a drop in commodity prices and general uncertainty in terms of market outlook and liquidity. In fact, 2020 deal activity and volume figures have fallen below historical averages, with M&A deal volume in Q2 2020 falling to the lowest levels in the last four years. Prospective buyers and sellers focused much of their attention in the first half of 2020 on the safety of personnel, implementing business continuity plans and seeking to assess the impacts of the pandemic. As of the time of writing, there appears to be a significant uptick in M&A activity in the second half of 2020, but deals in the second half of 2020 are not likely to make up for the slowdown in the first half of 2020. Asset deals have continued to be a primary driver for M&A activity for power and utilities in 2020 – this has been a trend since 2018 which, when combined with lower deal values as seen in 2020, signals a continued slowdown in consolidation in the sector generally since the most recent utility M&A wave in 2015 and 2016. In addition, in part because renewables businesses have been relatively shielded from the impact of the pandemic but also because of the continuation of improvements in technology, favourable regulatory policies and investor commitments, renewables deals have continued to drive a significant portion of US power and utilities sector deal activity.
Strategic deal count marginally exceeded deal activity of private equity and other financial investors in US power and utilities M&A throughout 2020, yet the latter contributed to a significant portion of deal value over the same period. In fact, one of the largest deals in terms of value for 2020 is Brookfield Renewable Partners' US$8.3 billion acquisition of a 38.5 per cent stake in TerraForm Power by merger. The expectation is for private equity and other financial investors to continue to play a larger and more significant role in power and utilities M&A, in large part because of capital deployment needs of infrastructure-focused funds, which have grown significantly in number and size. Over 250 infrastructure-focused funds were seeking over US$200 billion in capital from investors at the start of 2020, and because of the substantial growth in infrastructure investing in recent years, assets under management by infrastructure funds are on track to reach over US$1 trillion by the end of 2022.
Despite a slowdown in US power and utilities M&A in 2020, renewable energy continues to play an increasingly important role in the US power and utilities sector. Renewable deals drove nearly 75 per cent of US power and utilities M&A activity in the first half of 2020. Additionally, the renewable energy sector experienced a very active development pipeline in 2020 despite macro-economic factors such as the covid-19 pandemic. New development is likely to drive even more M&A activity in years to come. The US solar sector has continued significant growth in utility-scale solar power projects in 2020, reaching over 42,000MWs of total installed utility-scale solar power capacity by the end of Q3 2020, tripling the amount of such capacity when compared to 2015, while the US wind project pipeline is expect to add over 30,000MWs in 2020. Policy shifts at all levels of the government and among investors in the US have – and will continue to have – meaningful impacts on renewable energy M&A activity. This undoubtedly will be accelerated under an administration led by President-Elect Joseph R Biden, Jr. who announced during his campaign a US$2 trillion Plan to Build a Modern, Sustainable Infrastructure and an Equitable Clean Energy Future.
Legal and regulatory framework
As with M&A more broadly, the legal framework for energy M&A involves concurrent regulation under a variety of federal and state laws.
M&A in the energy industry (both oil and gas and power and utilities) are regulated at both the state and federal level. At the state level, approvals are typically required under applicable corporate laws where each entity to the transaction is organised and, in the case of certain portions of the power industry, approvals by local public utility commissions. At the federal level, strategic transactions receive the most scrutiny typically associated with the solicitation of votes from shareholders, the registration of shares being issued as consideration and the disclosures required for a fully informed vote by shareholders.
M&A in the energy industry are also subject to antitrust laws, as discussed in Section VIII.
The energy regulatory frameworks applicable to energy M&A activities vary between upstream oil and gas E&P, midstream oil and gas infrastructure, and power assets.
Energy M&A activity involving upstream oil and gas exploration and midstream infrastructure is governed by a patchwork of state and federal laws and regulations. At the state level, the requirements vary by state, and are most often administered by a state's public utility commission, the state agency with jurisdiction over environmental matters, or both. For transactions involving upstream oil and gas E&P, the energy regulatory requirements generally are, in relative terms, not onerous. Those requirements typically involve the need to obtain approval from, or in some jurisdictions merely providing notice to, the relevant state regulatory body for the change in control or ownership of mineral leases, rights of way and other property interests involved in the transaction. If the transaction involves oil and gas exploration or production on federal lands, or in federal waters, there may be similar regulatory requirements at the federal level. Those federal requirements vary based on the type of federal lands or waters at issue (e.g., national parks, national forests, and waters of the Outer Continental Shelf) and the regulatory agency with jurisdiction over activities in such lands or waters.
Similarly, the legal framework for energy M&A activity involving midstream oil and gas infrastructure primarily consists of various state requirements. The states' respective regulatory requirements for energy M&A transactions range from minimal (for example, post-closing notification of a transaction) to significant (for example, requiring prior authorisation to consummate a transaction). Further, even among those states that require prior authorisation of such transactions, the timelines and standards of review used in those regulatory proceedings vary by state. At the federal level, there is no generic energy regulatory requirement applicable to energy M&A transactions involving midstream infrastructure. However, if a transaction involves changes to the physical or operational characteristics of, or the services provided by, a natural gas or oil pipeline that is regulated by the Federal Energy Regulatory Commission (FERC), those changes may require prior approval from FERC. Additionally, a change in ownership may require the filing of a post-closing notice at FERC, to the extent the change affects certain corporate information on file with the agency. Transactions involving the export or import of natural gas or oil can also trigger regulatory regimes administered by the US Department of Energy (DOE), the Marine Administration (MARAD) and the US Coast Guard (USCG), which may necessitate those agencies' prior authorisation of the transaction.
In contrast to the regulatory regimes for upstream and midstream oil and gas M&A transactions, the merger control regime for power (conventional and renewable) and utilities includes a robust federal regulatory programme. Depending on the specific assets involved in a transaction, prior authorisation for the transaction may need to be obtained from one or more regulatory agencies, including FERC, DOE, the Nuclear Regulatory Commission (NRC) and the Federal Communications Commission (FCC). Further, as with upstream and midstream oil and natural gas transactions, there is a patchwork of state legal and regulatory requirements applicable to energy M&A transactions involving power and utilities. Those requirements typically involve approval by the public utility commission or commissions in the states relevant to the transaction. At both the federal and state level, the regulators generally have the authority to impose conditions on a proposed transaction to ensure that the transaction is consistent with the public interest. It is not uncommon for regulators to exercise that authority, and the basis for doing so is most often to protect electricity consumers against potential, adverse rate impacts that could result from the transaction.