Unusually large price discounts for Canadian crude, due to clogged pipelines, and faltering global prices have made growth hard to realize. Some producers have reduced output and lower cash flow has left consolidation using stock as the main option.
Shares of Encana Corp, Baytex Energy Corp and International Petroleum Corp, for example, each plummeted by double-digits on the days they announced deals to buy rivals with shares. The TSX energy index performed better on those days, although it has been in steep decline since early October.
“We’ve been getting shocked with bad news all year, and investors don’t necessarily believe that consolidation is a big enough catalyst to offset all the macro headwinds,” said Kevin Brent, vice-president of investment for BlueSky Equities, which owns shares in Seven Generations Energy and Crescent Point Energy Corp .
Canadian oil producers face a dwindling amount of capital willing to invest in the sector, leaving many with a stark choice, said Eric Nuttall, senior portfolio manager at Ninepoint Partners, which owns shares in MEG Energy, Baytex and Athabasca Oil.
“Do you increase in scale and get your market cap above $1 billion to get on the radar screen? Or do you just throw in the towel?”
Many are scaling up. The result, Nuttall said, will likely be more deals into early 2019, and a shrinking number of small-cap Canadian oil producers in the long term.
The Canadian oil patch has made 29 deals so far in the second half, worth $9.5 billion, the busiest half-year period for deals since the first half of 2017, according to Cormark Securities data.
Further deals may have to rely on shares and private equity, said Andy Mah, CEO of Advantage Oil & Gas.
“When you get into a period of such volatility, I think any kind of M&A is very difficult because revenues are certainly challenged.”
Shareholders are mainly interested in companies that pay dividends or buy back shares, said Cormark analyst Amir Arif.
“It’s almost like you can’t win if you’re a Canadian energy company,” said Janan Paskaran, a partner at Torys LLP who provides M&A advice to energy companies. “It’s hard to invest within Canada, and it’s tough to get investor support when you expand outside.”
“People are saying, ‘let’s not spend any capital.'”
On Tuesday, Trinidad Drilling shareholders rejected a friendly stock deal to sell to Precision Drilling Corp , choosing instead the certainty of a cash offer from Ensign Energy Services .
Swiss-based IPC’s shares have traded more in line with the industry since the steep sell-off last month when it announced its purchase of BlackPearl Resources, and investors generally support the deal, said CEO Mike Nicholson.
“We’re now well positioned for the recovery over the next two to three years,” Nicholson said in an interview from Geneva. “Should we start to see (Canadian) pipelines and crude-by-rail improve, I think there’s a huge amount of upside now in our share price.”