After a burst of deal-making activity that has sent Permian valuations skyrocketing and seen the best drilling locations already swap hands, buyers' attention is turning to less prominent shale basins that have been overlooked up until now.
Such was the case when US independent SM Energy splashed out $2bn for 80pc of the assets of privately held XCL Resources to gain a foothold in the Uinta basin of northeast Utah, best known for its waxy crude that is popular with refiners. The transaction marks a departure from the vast majority of deals in the past year, which have targeted the increasingly consolidated Permian basin of west Texas and New Mexico. It also represents a shift in strategy, given SM Energy is expanding beyond its core operations in the Midland basin and south Texas.
Other takeovers have seen companies combine acreage in existing basins to squeeze out savings. Chief executive Herb Vogel told analysts he had looked at other deal options, but his priority was to keep a strong balance sheet and "maintain discipline so that we wouldn't overpay for something".
About $41bn of non-Permian merger and acquisition opportunities are on the market, according to consultancy Rystad Energy. With premium acreage becoming increasingly scarce in the top-performing shale play, far-flung regions are poised totake centre stage. Another potential draw for SM Energy may have been that it sawless risk of its transaction being singled out for attention from anti-trust regulators, as several deals involving in-basin consolidation have attracted unwelcome scrutiny.
But entry into a new play, as well as concerns over its legacy assets, spooked investors and contributed to a 10pc decline in SM Energy's share price on the day the deal was announced. "It could take a couple of quarters of performance for investors to digest this activity shift and to evaluate the Uinta's potential," analysts at RBC Capital Markets say.
Producers are likely to continue the hunt for deals in lesser-known basins as they seek to scale up their inventory at reasonable prices. "A key driver of the deal, like most other transactions seen over the last few years, is adding inventory, particularly at the low end of the cost curve," consultancy Enverus principal analyst Andrew Dittmar says. The Uinta basin offers some of the highest rates of oil recovery per lateral foot in the Lower 48, according to Dittmar.
Lubricating the transaction
Parts of the basin could achieve oil production performance similar to that of the Permian, according to a recent report by data analyst Novi Labs. "The waxy nature is in high demand by refiners and upper-end lubricant markets," Vogel says. The latest acquisition hands SM Energy around 37,200 net acres, boosting its core net acreage by 14pc. It adds 43,000 b/d of oil equivalent (boe/d), increasing the company's overall production next year to 195,000 boe/d, with oil now making up more than 50pc of the mix. SM Energy also gets 390 drilling locations with breakevens of $43-57/bl, boosting the operator's inventory life by two years.
As part of the same deal, US independent Northern Oil and Gas is purchasing 20pc of the XCL assets, helping to offset the total cost for SM Energy. XCL is backed by EnCap Investments and the Rice Investment Group. It was the second exit involving an EnCap-backed company in recent weeks after independent Matador Resources acquired a unit of private equity-backed Ameredev II for $1.9bn to expand in the Permian's Delaware basin. Private equity investors, which have mainly been sellers in recent years, look set to step up their search for undervalued assets as they seek to refill their portfolios. "Combined, those forces should drive a robust market for assets and see valuations rise outside the Permian, although not fully to Permian levels," Dittmar says.
