SPACInsider contributors Anthony Sozzi and Sam Beattie this week compiled their three favorite potential SPAC targets among companies in the North American oil and gas sector. We look at why they are compelling and why each could be a fit for a blank-check merger.
Every SPAC team sets out with its own collection of experts and hypotheses about what sectors are going to be best for value creation. But, ultimately, they are all trying to answer for themselves “What does the market want?” and hoping to deliver a winning answer.
Two years ago, the market sure seemed to want bold plays on a green energy future. But, today the market has stacked up enough volatility as to be seemingly uninterested in any future more than a quarter away. The private and public capital markets appear to be somewhat aligned in this as US startups are on track to raise just $61 billion this quarter – their lowest total since 2020, according to CB Insights.
So, naturally, with tech stocks getting hammered and a recession looming, legacy, cash flowing businesses suddenly look far more attractive. And, as those companies increasingly find ways of satisfying ESG concerns, there are still ways for SPACs to have their cake and eat it too by combining with industries of the past that are doing things like companies of the future.
These factors all make a strong argument for the oil & gas sector, which, given the deal volume of the last two years, may appear to be the least SPAC-y industry imaginable. But, more traditional energy and mining companies used to be a staple of SPAC deal flows and as such, a return to the industry would be more like things coming full circle.
In fact, three of the top 20 performers among de-SPACs in terms of current share price are oil and gas ventures, while a fourth was acquired at a time when its stock was above $62.
There were already hints of this in a busy week for SPAC deals that has led May’s deal volume to match that of April already with more than a week in the month to go. The week kicked off with Executive Network Partnering (NYSE:ENPC)’s $1.3 billion deal with oil & gas producer Granite Ridge.
Though this O&G deal was only one of the eight deals announced Monday through Thursday, it was noteworthy in that Executive Network had been a prominent SPAC, chaired by former House Speaker Paul Ryan. Its team is also made up of executives with extensive consumer and retail experience that nonetheless saw the opportunity was ripe to veer away from this expertise and into hydrocarbons in the current market.
Hammerhead Resources ticks plenty of boxes for the current market climate. The Alberta-based oil and gas producer has been developing a large contiguous 113,000-acre land plot within the Montney basin in Canada since 2011.
Back then, it was producing about 2,000 barrels of oil equivalent per day (boed), but is now up to about 32,900 boed coming out of about 1,500 drilling locations. For reference, this is about 60% more production than Executive Network’s target Granite Ridge has at the moment. However, Granite Ridge’s portfolio in five US basins is comprised of wells that are currently more profitable.
Nonetheless, Hammerhead expects to turn $21 million free cash flow (FCF) from $392 million in EBITDA in 2022E and believes it has the existing capacity to more than double its production to 68,000 boed. One reason its FCF for the year is not higher is that it is allocating cash to de-lever and expects to get its net debt to FCF ratio to 0.6x this year, down from 1.5x in 2021.
Naturally, a capital infusion from a SPAC deal could do some of that de-leveraging work for it, freeing up more cash for capex or dividends. And, the fact that the company has an extensive financial presentation available on its website (from which the aforementioned figures were derived), suggests it’s keeping its door open to prospective investors.
It also has positioned itself to not offend some ESG capital and has reduced its total emissions even while significantly scaling up production since 2014. Hammerhead is currently retrofitting its well sites and future sites are designed to vent zero gas during operations. Importantly, its management is incentivized to keep this work up, with 20% of its variable corporate compensation tied to ESG performance.
Among the companies working to capture some of the emissions from companies like Hammerhead is Houston-based Nacero.
It draws in gas from a variety of sources. Some of this is renewable natural gas taken captured from agricultural livestock waste and landfills, but it also supplements this with captured emissions fron oil and gas wells as well as directly purchased gas supplies from those producers.
Nacero then processes these inputs into hydrogen and methanol. From this, it generates two retail gasoline equivalents – Nacero Blue, which is partially renewable and designed to be cost-competitive with traditional gasoline, and Nacero Green, which will be a more expensive but a fully renewable consumer fuel.
This vision is not fully commercialized, but it has already gained regulatory approvals for a $7 billion plant to process these inputs into gasoline near Odessa, Texas. The facility has state support and Nacero is expected to break ground on it early this year.
It also secured a power purchase agreement with a NextEra (NYSE:NEE) subsidiary in February to supply it with wind energy to supplement its 200 MW on-site solar plant, ensuring it can be 100% renewably powered.
NextEra was also an anchor PIPE investor in a similar sustainable fuel venture OPAL, which has a pending combination with ArcLight II (NASDAQ:ACTD). As such, it could potentially see an interest in further supporting its client, particularly if participation in a SPAC deal could accelerate the project.
For a more straight-forward play, Moontower Resources has built out a portfolio of shale oil assets in the Permian basin as a joint venture with Oaktree Capital Management.
Oaktree invested $600 million into the company in 2016 with an additional $300 million runway commitment. At the time, Moontower had secured plans to develop about 100 horizontal well locations over 85,000 acres in the Delaware Basin area within the wider Permian extraction region.
Moontower, then called Charger Shale, was initially led by former executives at Tall City Exploration that had acquired and flipped shale acreage for roughly 5x returns. But, in 2018, Oaktree tapped former ExxonMobil and Three Rivers Operating engineer Kristel Franklin to serve as CEO of the company.
The company has kept its operations closer to the vest than Hammerhead since this point, but had planned to eventually acquire a similar-sized portfolio of 100,000 acres and about 1,500 well sites. The Permian is also a generally more valuable basin than Hammerhead’s swimming grounds up in Montney.
According to the US Energy Information Administration, it is by far the most productive US oil basin, representing nearly 60% of the US’ projected oil production for the month of May and 22% of its gas production.
With crude oil prices well above their five-year high, it does seem like Moontower would be at a sweet spot for Oaktree’s exit timeline. And, while the firm did not target its own former investments with its first two SPACs, it has one more SPAC on file in Oaktree III (NYSE:OACC) awaiting its IPO that it could use to get a deal done.
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