Energy prominent as BMO Capital Markets does deals

BMO Capital Markets celebrated the 50th anniversary of its Houston office this year, and although energy isn’t the company’s only business, it remains key.

“In the early 1960s, we opened in Houston and we were the first foreign bank in the state of Texas, when the definition of foreign was ‘not from Texas,’?” joked William Downe, president and CEO of parent company BMO Financial Group. BMO Capital Markets is the investment and corporate banking division.

BMO has been involved with some of the biggest deals in the energy field over the past few years.

Downe and Tod Benton, a managing director and group head for energy in the United States, recently spoke with the Chronicle about energy finance and how it is changing. Edited excerpts:

Q: What’s behind the latest round of mergers and acquisitions?

Benton: A lot of things are driving the business this year, including tax law change in 2013. There are a lot of private guys looking to sell out prior to year-end. There are a lot of MLPs (master limited partnerships) that need to feed the beast, so they’re constantly on the prowl for assets. And there’s the constant weeding of your portfolio.

Q: How much impact will the tax law changes have?

Benton: For private guys, it’s a significant driver but not the key driver.

The biggest thing is with the shale plays. People are really focused on deploying capital where they’re getting the biggest return.

As a result, they’re taking capital from less-strategic assets, and they’re moving that into shale plays.

I think there were a number of people who thought Romney was going to win the election, and they were holding off. And when the election went the way it did, we did get a flurry of activity, trying to get year-end deals done.

Q: Is that edging out the small independent? Is there still a place for the little guy?

Downe: After a wave of acquisitions, the dynamics of the market always change, and the entrepreneurial nature of the industry gives rise to people who have perhaps previously sold, re-entering the business. And when big companies acquire assets, they generally find some percentage of them are too small or too dispersed to be economic, and they package them up to resell.

That gives birth to another generation of small companies, some of which grow, many of which perish.

Benton: The small independents are going to be here. I have clients that have done it three or four times. But there’s this constant grow or go away situation.

Q: What are the most active sources of funding for the oil and gas industry today?

Benton: Obviously private equity, but also high-yield markets. Energy companies are very capital intensive. The high-yield market has been wide open this year.

Q: But you’re still seeing a lot of private equity?

Benton: They really are a big part of the business. They fund a lot of these portfolio companies. They fund a lot of management teams. We were involved with both the ($7.2 billion) Samson Investment Co. buyout by KKR & Co. and the Apollo deal with El Paso. (Apollo Global Management bought El Paso Corp.’s exploration and production businesses for about $7.15 billion.)

I think private equity funds see that the energy business can provide a decent return.

Downe: If you look at the history of the industry, a lot of the company building was done with bank loans, and the banks that dominated that sector are essentially gone. The best reason for private equity coming in, they’re an efficient source of capital, and they’re largely displacing a historic source of capital, which was secured production loans from a large number of commercial banks that were serving the market.

Q: How has shale gas changed the business?

Benton: From a banking perspective, it hasn’t changed what we do, just the order of magnitude has gone up dramatically.

People will buy into the Eagle Ford, they’ll pay $500 million for acreage, then they forget they have to spend $2 billion to develop it, and they don’t have it. The shale plays changed the world in that we have a lot more product. We have a lot more natural gas, a lot more oil, but we need a lot more capital to develop it.

Q: How will it affect energy financing if Congress and the president don’t reach a deal on the fiscal cliff?

Benton: It’s going to hurt the economy. I think there’s a high likelihood we’ll have a recession. In those kinds of environment, we typically see demand fall off for both oil and natural gas, so prices will likely fall. As prices contract, you’ll see activity levels reduce. People will continue to drill where they have to hold acreage (under lease agreements that set deadlines for drilling). If they don’t have to drill, they will cut back.