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Blockbuster Appalachian Deals Unlikely Anytime Soon As Operators Hunker Down

Don't expect any blockbuster deals in the Appalachian Basin anytime soon that would find new entrants in the plays or large swaths of acreage being eaten up, as the financing outlook remains grim for many producers that aren't that interested and focusing more on their core acreage instead.

After about 10 years of Marcellus Shale development and roughly five in the Utica Shale, activity in the nation's leading gas basin is finally settling, with more stability among a coterie of producers that better understand what they need to accomplish moving forward, according to William Marko, Managing Director of the energy investment bank group at Jefferies LLC. Marko offered his outlook for mergers, acquisitions and divestitures in the basin and across the country at an industry conference in Pittsburgh on Thursday.

Marko noted that about $75 billion is the par for any normal year of dealmaking in the U.S. upstream sector, adding that it was just $30 billion in 2015.

"I think what's going on in the deal flow is people are using the near-term oil price about as is for maybe the next year or two," he said. "But then I think the winning bidders are maybe more bullish than this would indicate, really bidding on $60, $65 oil in the future, say 2018 and above."

The New York Mercantile Exchange forward prices aren't currently supporting increased production or upstream growth, with gas at less than $3/MMBtu in 2017 and under $4 through 2025, while oil isn't faring any better at just over $52/bbl through 2018. Many deals, Marko said, are currently based on those kinds of prices, making them less lucrative for some.

Last year was the slowest in eight years for deal making across all segments of the U.S. natural gas and oil patch, and lukewarm sales activity continued through the first quarter of this year, according to PwC US (see Daily GPIApril 21). During the first three months of this year, PwC said 39 deals were announced worth $28 billion, compared to the year-ago period when the same amount were recorded at a value of $34.4 billion, or a 19% decline.

Equity access and debt financing markets remain elusive for many producers, as low cash flow, increasing debt and pending maturities with the threat of default have chased off investors. But both Marko and Tim Murray, Managing Director of the investment firm Benefit Street Partners LLC, said private equity and mezzanine lenders are waiting in the wings to fill that capital vacuum.

"This year, we're kind of on a similar rate," Marko said of the deal volume. "But I think we're picking up speed. The second half of the year looks to be really busy. There's a lot of companies capitulating and saying, 'with oil at $50, I can sell and be reasonably happy. I've got some assets that are not worth as much to me as they might be to the market.'"

He noted a package of nearly $2 billion in sales recently announced by Devon Energy Corp. in East Texas, the Permian Basin's Midland sub-basin and the Anadarko Basin's Granite Wash formation to several buyers, including Pioneer Natural Resources Co. (see Shale DailyJune 16June 6)

Some producers and basins are faring better amid the price collapse, with Marko and Murray both noting how attractive the Permian Basin is for oil investment and the Appalachian Basin for natural gas opportunities.

The equity markets haven't shown the upstream sector much love over the last two years. That trend only appeared to be exacerbating on Friday after Great Britain voted to leave the European Union, sending energy stocks even lower along with the global markets (see related story). But Appalachian producers were up 94% over the last four months as of Thursday, according to one exploration and production equity index cited by Marko.

Murray, citing a report released in May by the Dallas-based law firm Haynes and Boone LLP, said 81 North American oil and gas producers have filed for bankruptcy since 2015.  Just one Northeast-focused operator with an Appalachian core, Magnum Hunter Resources Corp., was on the list compiled by the law firm. Murray commended the region's producers on how they've managed their debt.

Private equity firms, he added, have taken note. They've invested the most of any financiers since 2014 and are expected to put up more capital heading into the end of the year and into 2017, according to a recent survey of 100 global firms by Ernst & Young (see Daily GPIJune 21).

"When you think about what the most attractive areas are for capital providers like us in terms of oil, it's Permian," Murray told attendees at Hart Energy's DUG East Conference & Exhibition about the projected growth in West Texas. "The Permian is where everyone wants to be...But when you think about the gas market growth, the king here is the Utica/Marcellus; we don't need to drill gas wells anywhere else in America but right here."

Marko added, however, that Southwestern Energy Co.'s nearly $5 billion acquisition in 2014 of 413,000 acres in Pennsylvania and West Virginia from Chesapeake Energy Corp. is likely to be the region's largest deal for quite sometime (see Shale DailyDec. 24, 2014).

"People are very focused on efficiency right now. It's type curve; estimated ultimate recovery; lateral length; it's how much you can produce, cost and how you drill the wells. And you can see dramatic improvements," Marko said of current activity in Appalachia. "I think we're really only in the second inning of a nine inning ball game of what we'll be able to do with efficiency, and people are paying a lot of attention to that and I think we're having some major achievements.

"That's also why people are way more focused on consolidation here than they are new entry," he added. "The players that are here already know the plays, they know the sweet spots and they have their own ideas on where they go with their own acreage. And as they buyout others near them, they keep pushing costs down."

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