Where are the deals in the oil patch? We keep waiting and waiting. Stocks drift down that have all of these assets. They sell for a fraction of what they once did. Where are the opportunistic companies, the ones with the cash and the fabulous balance sheets? What the heck are they waiting for?
The answer: They aren't waiting. They simply don't care. Why? Steve Chazen, Occidental Petroleum's (OXY) outgoing CEO, said it best when we asked him about why there have been no deals of any consequence since the downturn.
First, the asset quality of most of the companies with stocks on their butts is poor. "They have break evens, maybe at $80 oil," he said. "Nobody needs to pay $80 breakeven oil properties."
How true. Rusty Braziel, my most trusted authority on oil and author of The Domino Effect, said of the shale revolution in this country that only a dozen counties actually produce oil at any real profit at these prices. Needless to say the distressed companies do not have assets in those counties.
Second, Chazen says the down-and-outers "have lousy balance sheets, so if you buy them you're stuck with lousy balance sheets." An outfit like Action Alerts PLUS holding
OXY, which has among the best balance sheets in the industry, could refinance high debt at low prices. But why bother if the prospects aren't any good anyway?
Third, he says, "there's lots of optimism still by management that it's going to be okay in six months, if they can just make it." This is dead right. I cannot believe how optimistic most oil people are about oil making a big comeback in a short period of time. It is true that there's a lot of falloff in U.S. oil, and that we could be producing a million fewer barrels next year than the approximate 9 million barrels a day we currently produce. Others, noticeably Iran, are making up for it. But oil men in this country seem almost surreally optimistic that oil can double in a year's time. It's just not going to happen.
Finally, Chazen points out that, unlike mergers in most industries, the "synergies and combination of exploration and production companies are really low." Therefore, he says, the deals are awfully hard to explain to shareholders.
Now we hear a lot about how producers are getting together at a meeting on Apr. 17 - perhaps to resolve some sort of freeze. I think the endless self-serving chatter from each individual oil minister has been responsible for a lot of the movement higher in oil by suggesting that some deal can be reached. To me, it is almost an impossibility. There is no OPEC any more. There is no restraint. There's just the Saudis pumping like mad to wreck our shale industry and the Russians pumping like crazy to meet budget needs post-Ukraine-sanctions, and Iran and Iraq going nuts producing because of a critical need for cash.
Put it altogether, and what I think you have is a situation where strapped producers will sell oil above $40 at a loss just to generate some cash flow to pay debts.
That will drive oil back into the $30s as it yo-yos to and fro, although I doubt it gets back to $26, the low earlier in the year.
And Occidental? It's in the catbird seat, with an amazingly strong balance sheet, an easily affordable dividend and, best of all, a major of those counties that can produce lucrative oil at these prices.
So, don't speculate on the broken-down stocks. There will most likely be no buyers. Go for the highest quality. That way you can win if oil goes lower or if it goes higher, and that's the best calculated risk in the entire oil and gas complex.