Natural Resources & Utilities: Europe - Plentiful Opportunities

1http://www.bakermckenzie.com/en/newsroom/2015/06/global-ma-and-ipo-activity-to-accelerate-until-2__2 http://www2.deloitte.com/content/dam/Deloitte/cn/Documents/international-business-support/deloitte-cn-csg-2015-china-outbound-ma-spotlight-brochure-en-151111.pdf

3http://www.kwm.com/en/knowledge/downloads/china-oil-gas-shale-market-opportunities-challenges-201511124https://www2.deloitte.com/content/dam/Deloitte/us/Documents/energy-resources/us-energy-and-resources-oil-and-gas-m-n-a-report-2016.pdf

The Natural Resources and Utilities (NRU) sector in Europe is approaching a tipping point. Conditions for certain buyers appear

ideal and there is no shortage of distressed assets looking for a new home. Yet a variety of factors have so far delayed what

seemed to many an inevitable rush of M&A activity. It seems increasingly likely that this situation will change in the coming year

and M&A levels will rise substantially1. This in turn will create an intense period of activity for corporate treasuries. Many of these

will find that while some of the treasury consequences of European M&A activity are similar to those applying elsewhere, others

are rather different.

Opportunities abounding...

From a macro economic standpoint, Europe currently looks

particularly attractive to those from outside the region seeking

to acquire Natural Resources and Utilities (NRU) assets. This

is especially true of US buyers, who have benefited from the

Euro’s slide against the US dollar since early 2014. At the start

of that period, EUR / USD stood at ~1.40, while for much of

the past two years it has oscillated around ~1.10. The recent

rise in US interest rates has more recently provided additional

USD support. Therefore, EUR-denominated NRU assets

appear relatively cheap to US buyers.

Elsewhere, while the EUR / RMB exchange rate has been

less favourable to Chinese buyers, this does not appear to

be damping China’s outbound M&A activity. Total Chinese

outbound M&A by value in the first six months of 2016

almost exceeded total M&A for the whole of 2015. By

the end of August 2016, China had completed 173 global

outbound deals totalling USD128.7bn. While these figures

relate to M&A across all sectors, leading Chinese oil

companies CNPC, Sinopec and CNOOC have all publicly

indicated that they are considering global M&A23.

...but not yet taken

Yet despite these favourable conditions, actual European

M&A activity has been far below the levels many predicted

for 2014 and 2015, with several factors likely to be influencing

this situation4. Continued weakness in commodity prices

appears to have created a situation where buyers are waiting

for the bottom of the market, but there is ongoing uncertainty

as to whether that point has yet been reached. At the same

time, sellers seem to have been basing their desired sale

prices more on internal expectations rather than external

realities. However, as pressure continues to mount, it seems

credible that this gap between buyers and sellers will close

and that perhaps just one major European acquisition will be

sufficient to trigger a cascade of others.

Nevertheless, despite no shortage of private equity and other

investors looking to acquire inexpensive European assets,

debt financing of such assets has become more challenging.

Several banks have reduced or stopped providing financing

for businesses in the oil and gas sector. In addition, a major

focus across the sector at present is the reduction of debt

ratios. This is partly being driven by the current emphasis of

rating agencies on ensuring that companies are well balanced

from a debt standpoint.

Natural Resources and Utilities: Europe - Plentiful Opportunities

Consequences for treasury

Changing operating models

NRU company treasuries globally have had to make

significant changes to their operating models as

commodity prices have fallen. In a sense, these

treasuries have been encountering the same cost

cutting pressures that their counterparts in other sectors

encountered immediately post 2008. Quite apart from

the consequences of any M&A activity, there has been

a more general need to streamline processes, increase

automation and improve efficiency. In the case of any

merger or acquisition activity, this need is even more

pressing as there will be considerable duplication of

processes, personnel and technology that needs to

be quickly rationalised. Apart from cost reduction, this

situation also creates considerable operational risks that

need to be rapidly mitigated.

Dealing with this situation successfully requires careful

planning and swift execution. It is also an area where

the right banking partner can significantly alleviate the

workload by sharing industry best practice, as well

as with practical implementation support. This would

apply in any circumstance, but is especially germane in

the case of companies from outside Europe acquiring

European assets. While European business and treasury

practices may be relatively familiar to US corporate

treasuries, the same may be rather less true of many

Chinese NRU companies. Co-ordinated support from a

banking partner at local level in both China and Europe

that also leverages global expertise and network can

appreciably enhance outcomes.

Visibility, liquidity and funding

One of the most time-critical tasks post-acquisition

is gaining visibility and control of cash across the

acquired entity. There are various ways in which this

can be achieved and the strategy chosen will be driven

by a mixture of corporate policy and what is actually

practicable. One useful solution is to use a suitable

cloud-based treasury management system (TMS). The

best of these already have extensive integration built

in for a wide range of ERP, accounting and treasury

systems. This makes quick access to a new acquisition’s

bank account and financial information both possible,

scalable and relatively painless. In some cases, the

advantages of such a cloud-based TMS may mean it is

also acceptable as a permanent solution for additional

tasks such as automated cash flow forecasting and

providing equity and debt instrument information.

While on the subject of debt, this is an area that is likely

to require attention after any M&A activity in the context

of liquidity management. The acquirer may have been

strongly cash-positive pre-acquisition, but the costs

of the acquisition may have significantly changed this

situation and/or added external debt. This makes not

just cash visibility, but also cash mobilisation and robust

liquidity management an imperative - especially in view

of the importance rating agencies are attach to debt/

equity ratios5.

Any review of liquidity management may also need to

examine the acquirer’s currency mix, which may have

changed and need rebalancing. In the case of Europe,

standardisation of regulation relating to cross border

flows within the region and initiatives such as SEPA may

make regional liquidity management less challenging

from a technical perspective than regions such as

Asia. Nevertheless, the acquirer may still have to make

significant structural changes in order to balance its debt

position with the need to ensure that the acquired entity

retains sufficient cash to fund day to day operations.

Banking relationships

Acquiring an asset may also involve acquiring (at least in

the short term) new banking relationships, which given

the long-term consequences of 2008 for many banks in

Europe may have important treasury policy implications.

Many larger acquirers are likely to have minimum credit

quality criteria for banking relationships as part of their

treasury policy that may not be met by newly-acquired

assets’ existing banks.

5https://www2.deloitte.com/content/dam/Deloitte/ro/Documents/energy-resources/us-er-crude-downturn-2016.pdf

Published: October 2016

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Transitioning all accounts to a new bank will typically take

at least several weeks, which creates a need for more

immediate interim measures. One tactic is to set maximum

acceptable balance levels for the acquired asset’s existing bank

relationships and automatically sweep all cash above those

levels to the acquirer’s preferred partner bank until a more

permanent solution can be established.

Early engagement with your existing banking partner can

add significant value during this time of change. Given the

commonality of event driven change your bank can be a key

source of ideas on how to address other challenges, what

other companies have done to address certain points and also

connect you with these companies if appropriate. Your existing

partner can then provide guidance on a more formal future by

way of a tender. Not only will this help frame the alternatives

available, it will ensure competitive fees and charges apply to

your business.

Conclusion

It seems increasingly likely that a new wave of NRU M&A

activity will soon arrive in Europe. The weakness of the Euro

versus the US dollar plus the quantity of distressed assets

available make that almost inevitable. If this flurry of activity

occurs, NRU corporate treasuries will become even busier and

resource-pressured than usual. That will result in many such

treasuries looking for banks capable of supporting them in

quickly integrating assets in potentially unfamiliar locations that

are using equally unfamiliar technology and processes.