Increased exploration in North America last year pushed oil and natural gas sector transactions to record highs, according to Ernst & Young LLP.

The consultancy’s “Global Oil and Gas Transactions Review 2011,” a compilation of data on oil and gas merger and acquisition (M&A) activity in 2011, was unveiled Tuesday.

“In the last two or three years, the oil and gas services sector has recovered from the shock of 2008, adapted to a market environment and the outlook is robust in the long term,” said Ernst & Young’s Jon Clark, a partner in M&A. “The industry is getting on and making long-term decisions. There is clear growth potential, which is not true in other sectors.”

Growth was attributed to technology gains in exploration, as well as a jump in oil prices. Interestingly, more stringent regulations and penalties also heightened interest in making deals last year. “Events have shown that the cost of failure is much greater than cost of services,” said Clark. “People will be investing more, not less.”

North America led M&A activity last year with almost 60% of the total transactions; in 2010 the region accounted for 61% of all global transactions.

“The North American bias is echoed in transaction values, with 58% of announced deal value being in the U.S. and Canada,” the report said. “Although remaining second to the U.S. in transaction numbers, Canadian deal activity was down more than 30% on 2010, with 124 announced deals versus 186 for the prior year; and with fewer top-end deals, total value was down 65%.”

The U.S. M&A market transaction values increased more than 30% in 2011 versus 2010, while deal volume increased almost 14% over the same period. U.S. transactions accounted for more than half of total global oil and gas transaction values during 2011 and about 45% of total global oil and gas deal volumes for the same period.

Canada, however, “endured a significant decline in both the volume and value of transactions, led by the upstream sector. There was a 56% decrease compared to 2010 in the value of Canadian oil and gas transactions from $37.6 billion to $16.4 billion. The total number of deals decreased by 25% from 202 in 2010 to 151 in 2011. In essence, fewer deals were consummated this year and the ones that did get done were generally smaller in value.

In total more than 1,322 global oil and gas transactions were announced in 2011, which was 5% more than in 2010.

“With an average of more than three transactions every day, oil and gas has continued to be one of the most active global sectors for M&A,” the report said. “Only the downstream segment of the industry saw a decline in transaction volumes in 2011, with the oilfield services segment turning in a very healthy 64% increase.”

The aggregate value of global oil and gas transactions totaled $317 billion, which was about 7% below 2010’s $341 billion, mostly because there were fewer “megadeals.” For instance, in 2010 76 transactions were valued in excess of $1 billion, while in 2011 the number declined to 71. The largest global transaction last year was Kinder Morgan Inc.’s acquisition of El Paso Corp. for an estimated $38 billion (see Daily GPI, Oct. 18, 2011); the deal is scheduled to be completed later this year. According to Ernst & Young, the biggest transaction in 2010 was a $42.5 billion equity transaction by Brazil’s Petroleo Brasileiro, or Petrobras.

“The upstream segment remained the most active, representing 72% of total deal volumes” in 2011, the report said. “North America, accounting for 562 upstream deals, or 59%, remained the most active market,” but the “strongest growing regions were Europe and the CIS,” the Commonwealth of Independent States, which is composed of former Soviet Republics.

“The oil and gas sector is critical to the global economy,” Ernst & Young said. “By the same token, the oil and gas sector cannot exist perpetually insulated from wider political and economic turmoil. These dynamics are driving considerable volatility in the capital markets, and this is likely to have a significant impact on capital intensive sectors such as oil and gas. We anticipate that capital constraints among the independent sector, combined with well-capitalized large caps and sovereign-sponsored organizations, will underpin a robust level of transaction activity in 2012.”

There could be pitfalls this year for the U.S. oil and gas industry, said Ernst & Young.

This year “uncertainty about the global economy as well as additional potential regulation from the environmental, taxation and various financial sector developments remain wildcards for the U.S. oil and gas industry. We believe this will continue to temper the pace of the U.S. oil and gas transaction recovery/expansion for 2012. However, improved corporate balance sheets and the stockpile of corporate and energy private equity funds targeted toward oil and gas investment potentially provides a fuel for a continually increasing oil and gas deal flow.

“Likewise, the continued interest from foreign investors in Asia and Europe remains strong. Overall, we see a continued robust and steady investment and transaction environment for the oil and gas industry in the U.S., but at levels not approaching the heights of the last oil and gas transaction cycle peaks.”

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