Author: Aaron Kim
Editor: Clara Conry
Oftentimes, businesses’ goal of generating revenue comes at the cost of environmentally damaging practices like emissions, chemical pollutants, etc. The question then becomes, how do companies maintain growth while becoming more environmentally friendly? The answer, as it pertains to energy, is Mergers and Acquisitions (M&A) in the natural resources industry, which have seen a massive uptick in the past year. There are plenty of other issues but as the energy industry, particularly oil-related companies, grows both in size and impact, their transition to more sustainable sources of energy is critical.
M&A is an often under covered aspect of environmental concerns, an oversight that is detrimental given the lack of capacity for companies to develop clean energy sources. While it seems as though M&A will result in less clarity regarding business models and environmental effects, the upsides of M&A may outweigh any potential downsides regarding the environment.
What is M&A?
M&A is inorganic growth by companies, meaning they simply merge or acquire another company that has already been established. Organic growth is where companies invest in their human resources to grow or create parts of their business plan, requiring increased investment. For example, if Microsoft needed a larger cybersecurity team, they could invest in hiring a set of cybersecurity software engineers, or they could just acquire a smaller cybersecurity company to do that work for them. There are three main drivers of M&A: growth, where companies build out their capabilities in a field they are currently weak, acquiring synergies, where two companies are more valuable than the sum of their parts, and evolving to adjust to new market dynamics.
Energy Industry M&A
Covid-19 saw a record decrease in M&A activity, alongside the global economy as a whole. Global oil and gas M&A is up about 83% from 2022 to 2023, reaching a five-year high at $350 billion. Despite the increasing deals in the industry, overall capital market limitations, like a lack of available debt, may place a cap on potential acquisitions going forward. Therefore, most of the acquisitions going forward will be from larger companies with more cash not used for day to day operations to make acquisitions. In addition, the premium paid for these companies (the price above the current market capitalization) is at 17%, under the historical average of 20%, indicating that these acquisitions are not just to grow, but to expand into particular regions without overpaying. These acquisitions will lead to higher competitiveness, despite assumptions that M&A will lead to decreases in competitiveness. The consolidation of companies should be seen in the context of other energy markets. While this may lead to the consolidation of the energy industry to a few giants, this is still far more competitive than energy industries abroad dominated by OPEC, the Organization of Petroleum Exporting Countries.
The most influential trend in the energy industry is the recent wave of M&A. Four recently announced deals have redefined the energy landscape: ExxonMobil-Pioneer Natural Resources, Chevron-Hess, Diamondback Energy-Endeavor Energy Resources, and Permian Resources-Earthstone Energy. Only the Permian Resources-Earthstone Energy deal has been finished, with the other three most likely to wrap up sometime this year. That being said, it leaves many antitrust and other regulatory considerations up in the air, meaning some of these deals may not close. These deals signal a race to acquire market share in some of the most important energy sources in the US, particularly the Permian Basin. Activity regarding the Permian Basin, a hot spot for oil in the Southwest, is mostly driven by the natural life cycle of basins or when the basin will run out of oil. Geopolitical risks have also driven domestic energy production, increasing the demand for US-based liquified natural gas (LNG) exports.
Upsides of Energy M&A
The recent wave of M&A has pointed to a more environmentally friendly industry. The transition to clean energy accounted for $32 billion of energy M&A deals in 2022. The majority of these are wind, solar, and biofuel-based energy deals. In addition, a third of joint ventures, when two companies come together to work on a particular project, in the energy industry are driven by clean energy, which is also an all-time high. These joint ventures have also diversified in their energy mix, moving from predominantly hydrocarbon-based businesses to other industries such as wind, solar, and carbon capture programs. While adding renewable sources of energy, these deals also involve sellers with more positive Environmental, Social, and Governance (ESG) profiles. The increase illustrates ESG profiles as being marketable, signaling a shift towards a conscious decision on the side of acquirers to maintain more environmentally positive business models.
Energy has shifted to more green sources like carbon capture, synthetic, and alternative fuels. Although oil and gas will be a mainstay, the increase in green M&A may illustrate a rise in the demand for clean energy. Ultimately, consumers will drive the transition to cleaner energy sources as they adopt more renewable energy technologies.
M&A will also play a critical role in the ability for oil and gas companies to reshape their portfolios towards more renewable and low-carbon options. From a macro-energy market perspective, the latest reports expect a peak in oil demand by the end of the decade, with peak demand for gas to come in the 2030s. Oil and gas M&A will increase over the next few years as a response to the energy transition. The capital efficiency and cost-saving measures from M&A will, hopefully, also free up funds for companies to invest in the decarbonization of their assets and operations.
Downsides of Energy M&A
Despite the upsides of M&A, there are still downsides to that may make its increase a detriment to environmental goals. There are two main trends over the past five years in energy M&A that thwart any attempt to transition to renewable energy and broader environmental goals. First, M&A allows environmentally damaging assets to move out of the hands of public companies. Sales from public to private companies have been a mainstay of energy M&A. While public companies have strict environmental reporting requirements, private companies have much less stringent reporting requirements. Thus, while the emissions reported from oil and gas companies have decreased, that may just be the result of public companies selling their oil and gas assets to private companies, who then do not report the negative impacts associated with those assets.
Second, the sale of assets is generally from companies with high standards for environmental goals, while the buyers are usually those with lower requirements for climate stewardship. For example, imagine an asset sale from Company ABC to Company 123. Company ABC may have very high standards regarding climate goals and may be selling assets like their fracking-related equipment that is very environmentally damaging. The reason for this sale, while obviously financial, may also be because fracking-related equipment is environmentally damaging. Company 123, on the other hand, does not care about its environmental footprint – hence its willingness to purchase fracking-related equipment. Even though fracking equipment in general is environmentally damaging, in the hands of 123 who has far lower environmental standards, it will be far more damaging.
The Future of M&A and the “Green Transition”
Ultimately, M&A in the oil and gas industry is set to increase, but at a constrained level due to capital markets. This may be the best of both worlds – while historic deals in the past have been environmentally damaging, a relatively higher cost of capital may constrain the worst excesses of asset sales that lead to negative environmental impacts. Meanwhile, M&A will continue to lead to excess cash for the energy transition due to overall market trends.
M&A in the energy industry will overall be a tailwind for the energy transition and the environment. With clean energy M&A being at an all-time high, and deals freeing up capital for companies to invest in energy transition-related capital expenditures, the downsides of historical M&A may be largely mitigated. The downsides assume a historical trend of particular companies not caring about the environment. While there will always be companies that care less, recent market trends indicate clean energy will be the most profitable and growing sector of the energy industry.
Any clean energy transition will require a fundamental change in energy companies. Only with the addition of green energy infrastructure through inorganic growth or more M&A can the current energy industry be transformed.
Emory Environmental Report 
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