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Strong oil prices open doors for the cash rich

GOOD REASON TO SMILE: Robert Eddon, winner of Young Emerging Talent at Subsea UK Awards
GOOD REASON TO SMILE: Robert Eddon, winner of Young Emerging Talent at Subsea UK Awards

Our demand for energy is immense and growing. World energy consumption continues to grow and with China and India representing over a third of the world’s population, their rapid development is set to increase energy consumption significantly in the coming years.

The fact remains we have an unwanted dependency on fossil fuels to satisfy this increasing demand and thus far it is this demand which is supporting the oil price.

However, with global economic growth still being influenced by the problems in the Eurozone and with a notable rise in global political tensions, particularly with regard to Iran in recent months, supply could have a bigger impact on oil prices in 2012 and I wouldn’t rule out another spike in the oil price similar to that in 2011.

Albeit this has potential negative connotations for the fragile recovery in the world economy, it opens new opportunities for the oil industry.

With the exception of the US, oil and gas are commodities that are seldom found where they are needed and neither are they needed much where they are found. Fairly robust oil prices has meant companies are focussing on less accessible areas in order to satisfy demand, as deep sea deposits, sands oil and shale oil all become more commercially viable.

As part of the judging process for the Subsea Company of the Year, at the recent Subsea UK awards, we were privy to the operations of some exceptional companies pushing the boundaries of deep sea technology.

The strap-line for the awards ceremony was “striving further, going deeper” and it is the ongoing technological advances that allow the exploration companies to do just that.

The beneficiaries are often smaller exploration companies who take on licences for areas long since abandoned by oil majors for being too difficult. Success, however, is often of a binary nature and this is reflected in the share price movements.

A case in point is the Falkland Islands where the focus is now moving from the Northern basin where Rockhopper and Desire Petroleum have had varying degrees of success, to the less hospitable Southern Basin, where Borders & Southern have commenced their drilling campaign to be shortly followed by Falklands Oil & Gas.

The potential oil deposits in the Southern Basin are expected to be more difficult to access, working in deeper water and more hostile weather conditions.

We will monitor the progress with interest, however, having witnessed the shares of both rise significantly since the arrival of the Leiv Eiriksson rig at the start of the year it may be a case of better to travel than arrive, with significant downside risk should the drilling campaigns disappoint.

Another consequence of a strong oil price is the cash-rich oil majors and national oil companies taking advantage of current low valuations on second and third line exploration and production companies to make acquisitions where it proves to be more economical to buy reserves through the stock market than to explore.

Indeed the acquisition and merger theme is one recently covered in this article and is beginning to be borne out with the current Royal/Dutch Shell bid for Cove Energy, and the possible offer for Bowleven from Dragon Oil.

Key in identifying bid targets will be where companies trade at a discount to net present value (NPV) and offer larger predators the opportunity to increase proven reserves at attractive prices.

In terms of North Sea assets both Nautical Petroleum and Ithaca Energy have been mooted as potential bid targets, indeed Ithaca confirmed in late January they have received a preliminary approach from an unnamed company.

Further afield Gulf Keystone continues its plans for a main market listing. The company has also engaged their corporate advisors to find a buyer for its stake in the Akri-Bijeel block to focus efforts on the much larger Shaiken asset.

GKP shares have reacted strongly in recent weeks as the market eagerly anticipates an update on the Shaiken-5 and Shaiken-6 appraisal wells, yet bid speculation persists.

Based on current market capitalisation the company is likely to be a candidate to join the FTSE 100 at the first quarterly review following the main listing. Whether GKP survives as an independent that long is another matter.

Steve McKay is divisional director at the Aberdeen office of wealth management specialist Brewin Dolphin

Past performance is not a guide to future performance.

The value of investments can fall and you may get back less than you invested.

No investment is suitable in all cases and if you have any doubts as to an investment’s suitability then you should contact us.

The opinions expressed in this article are not necessarily the views held throughout Brewin Dolphin Ltd. No director, representative or employee of Brewin Dolphin Ltd accepts liability for any direct or consequential loss arising from the use of this document or its contents.

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