From The Wall Street Journal
A private-equity firm is urging oil producer Resolute Energy Corp. REN to merge with a rival, the latest salvo in a growing campaign by some investors to force shale drillers to consolidate.
Kimmeridge Energy Management Co. told Resolute’s board of directors in a letter Friday that it was stepping up call for changes at the company, saying Resolute had failed to follow through on a strategic review to explore a merger or potential asset sale announced in May after investor pressure.
New York-based Kimmeridge said in the letter that it may seek to install new board members at Resolute, which is focused on the Permian Basin in West Texas and New Mexico, if it doesn’t heed the firm’s suggestions. Kimmeridge, which has about $1.2 billion under management, owns nearly 10% of Resolute’s shares, according to S&P Capital IQ.
Resolute did not immediately respond to requests for comment.
Resolute’s shares are down around 9% for the year, while oil and gas companies are collectively up nearly 6%. U.S. oil prices have surged by almost 20% in that time. The failure of most shale companies to rise with the rally in crude prices has frustrated investors and put pressure on company leaders.
The activist campaign is the latest to hit the shale oil and gas industry, a sector many investors believe needs to consolidate to generate profits.
Well-known activists, including Elliott Management Corp. and billionaire investor Carl Icahn, have recently taken aim at oil producers. Nine producers in North America have been publicly subjected to activist demands over the past year, according to research firm Activist Insight. Energen Corp. , EQT Corp. and Hess Corp. have each made concessions to activist investors to stave off proxy fights, and many in the energy industry expect more campaigns in coming months.
BHP Billiton Ltd.’s $10.5 billion sale of U.S. shale assets to BP PLC in July was spurred by Elliott, which had pushed the Australian mining company to sell or spin off the oil unit.
Diamondback Energy Inc. announced a deal in August to buy Energen for more than $9 billion. Mr. Icahn and Elliott had pushed Energen to sell itself for some time.
Kimmeridge, which typically buys and operates drilling fields with its private-equity funds, pushed Houston explorer Carrizo Oil & Gas Inc. to sell assets earlier this year. The firm sold out of all but a sliver of its take in June for a $90 million profit after the company said it would hold on to the assets.
Kimmeridge argued in its letter Friday that Resolute, based in Denver, is too small to properly develop its assets, and said that its management has enriched itself while pursuing growth over returns. Resolute appointed three outside directors to its board in May and said at the time that it was committed to addressing shareholder feedback.
The shale industry has attracted activists, in part, because shifting from proving untested shale wells to economically producing oil and gas from them has been far more challenging than many executives and analysts predicted.
Two-thirds of U.S. oil producers failed to live within their means in the second quarter, even as oil prices have risen almost 40% over the past year to more than $70 per barrel. Fifty major U.S. oil companies reported they collectively spent $2 billion more than they took in, according to an analysis of free cash flow by FactSet.
“That will be ripe ground for activism in the space,” said Andrew Calder, head of Kirkland & Ellis LLP’s energy practice.
Investors have begun pushing companies in the shale sector, populated with many small and midsize firms, to pursue purchases or combinations, arguing that greater scale will help them turn profits. Companies that are big enough to drill giant wells, finance new pipelines and lock up equipment and other needs in long-term contracts have a strong advantage over those that cannot, some analysts say.
“Consolidation is long overdue,” said Todd Heltman, a senior analyst with Neuberger Berman Group, which has more than $300 billion in assets under management. “It makes sense operationally and financially, but often there aren’t enough incentives for management teams to do it.”
Some frustrated investors see consolidation as a clear solution that many top executives won’t consider for reasons of ego or CEO pay. Annual compensation for some shale executives can top $10 million or more, and their equity stakes sometimes represent less than three years’ compensation, making the value of the job greater than any share price uplift from a merger. Those incentives may be setting them up to avoid merger discussions that are in the best interests of shareholders, Mr. Heltman said.
Numerous shale companies took steps to change pay practices in the past year, placing added emphasis on metrics such as return on capital rather than on growth-related targets. Most of the companies didn’t go far enough, analysts say.
