Zennor gets turbo-charged
Private equity has boosted the 12-year-old company’s firepower
Zennor Petroleum traces its roots back as far the mid-90s, when many of its team worked for US independent Arco, subsequently swallowed by BP. Founded as MPX in 2006, it became Zennor following its acquisition by private equity (PE) firm Kerogen Capital in August 2015.
Since then, the firm has been active developing its portfolio both by acquisition and through its core appraisal and development focus. Managing director Martin Rowe recently spoke to Petroleum Economist editor-in-chief Peter Ramsay. Edited highlights follow.
PR: Is "private equity in the North Sea" almost a slightly misleading term, given the range of firms it encompasses?
MR: I think that is a fair statement. The value proposition for PE-backed players is quite wide—all the way from those focused on sweating older producing assets to explorers. Geographically, the PE-backed explorers tend to be on the NCS, due to the different Norwegian fiscal regime. Zennor sits somewhere in the middle, with its focus on appraisal and development.
But firms' activities will likely converge more further down the line. PE is about creating value and the way to do that in this business is to find, develop and produce hydrocarbons. So everyone is eventually going to be doing a large proportion of that activity spread.
PR: Should PE investment be seen in a far more positive light than a focus on cutting costs, sweating assets, or even darker hints of simply shuffling the numbers or compromising safety?
MR: Absolutely. Aside from the majors, where you are still seeing investment on a project-specific basis, PE is the most important source of equity funding in the North Sea in the short to medium-term.
Some of the coverage around PE investment is not a fair representation. In particular, on safety, whether you are PE-backed or not, safety and environmental standards are at the forefront of our industry. Companies need a government licence to operate. If you do not do things appropriately, you do not get to play.
The funds investing are international—their entry reflects confidence in the North Sea as a province where you can generate returns. And there will be more investment. In the beginning of the PE investment wave, the focus was maybe on buying production, but that narrative is beginning to change. Those players will have to step out and add barrels through drilling, either through in-fill wells or developing adjacent resources. The oil price and financial engineering only gets you so far. We are already seeing that—Zennor was the first to deploy operated drilling dollars and to deploy equity development dollars, but now others, like Siccar Point at Cambo, are moving in the same direction.
PR: What is the "value add" strategy for Zennor?
MR: Finlaggan is the perfect example of our sweet spot. Our core proposition is turning 2C resources into 2P reserves, through appraisal drilling, a good commercial strategy and development engineering solutions. On Finlaggan, we drilled an appraisal well both relatively cheaply and quickly, we instigated a competitive process for securing an off-take solution for the barrels and we developed a low-cost development solution. It is close to Britannia but also a few others, so we were able to negotiate a really competitive set of off-take terms. It is a good example of a ‘for best value' development, bearing in mind that some solutions can be cheaper but take longer while others are more expensive but quicker.
PR: Looking at Finlaggan in particular, would it have ever been produced if Zennor and Kerogen had not come along?
MR: It is hard to say, maybe someone else would have come along with a similar plan to ours. There are a number of these undeveloped discoveries out there, it is just a matter of identifying them, and particularly those that offer competition for offtake. To some extent, it is a matter of understanding the potential of the area in which you are working. We picked up a lot of acreage close to Finlaggan in the 30th licensing round and there is a discovery there, which we are calling Leverett, which needs another appraisal well but could eventually be tied-in to the Finlaggan infrastructure.
At the end of the day, this industry is not rocket science, you need a team of good people around you and you need financial backing.
PR: Causeway is soon going to submit its CoP. How does decommissioning impact on investors in the UKCS in its later life?
MR: The short answer is that it is a significant issue for anyone investing in the North Sea at this stage. For Zennor, we try to minimise the abandonment liabilities in any transaction we do. The Causeway liabilities, along with those associated with Mungo and Monan, Bacchus and Cormorant East, came as part of the deal to buy the First Oil assets in 2016. We were aware of them and we made a conscious decision that we were comfortable with them. You need to have a clear understanding of the potential impact not only on value but also on the exit window to which your investors might be working.
It is about going into any acquisition with your eyes wide open. In contrast to the First Oil deal, when we bought the stake in Britannia from Mitsui, we left the vast majority of the liabilities with the seller.
PR: With Zennor's portfolio concentrated in two areas, what is the advantage of this focus?
MR: I think two things are in play. In terms of having a specific focus, it really helps a team to execute on a plan as quickly as possible. PE is about speed—deploying capital, creating value and exiting. We have extensive experience within the Zennor team, we have been doing this a long time, so we were able to really hit the ground running.
We are also seeing many of the PE investors creating a portfolio of firms with different specialisms. To take Kerogen as an example, there is Zennor on the UKCS, Pandion on the NCS and Hurricane pursuing a focused geological play. While the specific investments concentrate on their specific things, you get the diversification at fund level.
PR: What can Zennor with Kerogen backing achieve that MPX could not?
MR: Having the balance sheet and equity investment behind us makes a huge difference to our ability to execute. While we had a number of different backers as MPX, we never had this sort of firepower behind us. We can speed up execution, we can take on projects at a much greater scale than before, in short we are turbo-charged.
PR: Does Zennor have any views on the likely exit strategy for its PE investor?
MR: PE money is usually invested for x number of years and then looks for an exit, either by a trade sale or IPO. I cannot foresee us being any different. Kerogen made the investment in 2015 and its usual horizon is 5–7 years, so we would be looking at an exit in the early 2020s.
PR: If the preferred exit option is a trade sale, are there any concerns that would-be buyers will be out there?
MR: I am confident that buyers will be there. If you look at the North Sea over the last 30 years, there has been constantly changing new entrant and buyer universe. At first it was the majors, then the large independents, then the utility players and Japanese firms. Now we have seen largely the exit of the utilities and some of the Japanese leaving too, and PE money coming in. It remains to be seen where the next wave will come from—it could be southeast Asian NOCs or eastern European NOCs coming in. But there has always been, and there will continue to be, a wide universe of buyers. And, even if you do not see a big influx of new capital, the existing players will continue to see opportunities for growth and for amalgamations. Zennor may itself be a potential amalgamator ahead of an IPO, or it may be amalgamated with another operator in a trade sale, but we believe the appe