Opportunity for Owner Managers of international SME oil and gas companies Part I.

Why now?

?U.S and Canadian SME oil and gas service companies are struggling to generate cashflow. Prior to 2020, many U.S and Canadian SME oil and gas service companies were barely generating profits from the low oil prices.

?As oil prices dropped below $50, U.S and Canadian SME oil and gas service companies struggled to break even with large production costs, increasing taxation, new environmental laws, new renewable energy sources and increased funding and legislation supporting renewable energies and cutting the funding for the oil and gas sector.

?In 2020, the COVID-19 pandemic brought the entire world to a screeching halt as many countries around the world implemented mandatory shutdowns and quarantines. Large consumers of oil and gas such as China, India and the US were all on lock down forcing flights, transportation, and manufacturing to be halted for months.

?With a lack of demand for oil, the oil stores began to fill up.

?Soon there was nowhere to place newly produced oil.

?There was a glut in the oil market, and this along with Russia and Saudi Arabia feuding over the production of oil, drove the oil prices into the negatives.

?Then, in September the oil price returned to just about US$40. ?For many SME oil and gas service companies in the U.S and Canada, the oil prices were still too low to break even and they had to find a way to produce cashflow, avoid bankruptcy and keep their company operating.

?From 2015 to July 2020, 231 oil and gas companies filed for bankruptcies in the U.S and Canada alone.

?Many of these SMEs in the U.S should have considered taking their know-how, relationships and their presence in the U.S and leveraging that along with lower cost production fields in Latin America. But, there are many reasons why this often does not happen. The focus on international is comparatively quite small compared to Canadian SMEs which are very active internationally.

?Small play projects present very high IRRs.

?It is important to know that small play oil and gas opportunities financial models often present opportunities that have IRRs of 200 and 300% sometimes more. These types of returns are not achieved by investing in equities and stocks and other mainstream securities. ??Dollar for dollar these investment opportunities are nothing less than fantastic or spectacular. But international SME's are perceived as very high risk by investors and also high compliance risk by the compliance departments are private banks where investors keep their investment capital. This confluence of not highly objective parameters serves to restrict access to capital for international owner managed SMEs.

?The world's largest multinational corporations are just that, multinational. They are expert at systematically operating in countries all over the world regardless to the existence of political instability or different languages and cultures or war.

?We see this for example in Africa where vast amounts of cobalt that supplies the world's electronic companies continues unabated regardless to news press stories of slavery and video and audio evidence of war crimes and other things. The point here is that the cobalt continues to flow there is no multinational corporation that is being criminally prosecuted or prevented from doing business for using cobalt in its branded products.

?So we really have to ask what is this perceived risk that some investors have when it comes to international SME's.

?Objectively speaking in principle, provided there is competent management, sufficient risk mitigation, and experienced and capable senior employees with operational experience, there is no objectively higher or increased risk from doing business internationally.

It is granted that international business requires what any business requires which is essentially competent management. The types of problems that have to be managed may be different but they nonetheless require competence just like domestic investment projects.

?For example, the rise of ESG, is a clear sign that the investing community is beginning to develop an appetite for projects that are well run and ethically sourced. But all investors are not driven by ESG though this demographic is increasing, and so international SMEs owners can target both groups of potential investors.

?On analysis it does not seem that international businesses present a higher risk than large multinational corporations. Prices of large multinational corporations rise and fall. Large multinational corporations make losses and some do go out of business.

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“Small play” SMEs despite high NPVs, IRRs, cannot get access to capital.

?SME oil and Gas property owners in Latam, are also struggling, however, their struggles originate in the lack of funding at the outset and when the price of a barrel is below US$40. Many banks, large private equity firms, and regulated financial institutions do not want to fund oil and gas production projects under US$100m. And those in the U.S that possibly would, do not want to lend the money to owner-managers in Latam due to the perceived high compliance and money laundering risks.??

Thus, Latam SME oil and gas property owners have the land, oil and low production cost to produce the oil and gas, but no funding to get production started and keep going.

Investors know the history of oil and that there are up and down cycles for oil and gas prices. And when oil and gas becomes successful it attracts many investors and supply increases substantially. After this, the cartels and the larger companies operate to reduce the price of per barrel of oil.

Knowing this, investors are therefore weary of investing in SME oil and gas ventures as they are subject to the cycles which are controlled by larger forces. SME oil and gas companies do not have large accumulated resources of cash that would allow them to keep operating at lower oil and gas prices especially when the SME company is owned by one person or a small number of people. ?

Also the investors in small SMEs are essentially relatively small investors. Large institutions and private equity companies do not invest in small SME's oil and gas companies.

The reason for this is because they are small, and the returns are small, and because the business model of large institutions and large private equity companies is that they invest large amounts of money. They don't invest in small amounts because of their operating costs. That means that small SMEs do not have access to financing during down cycles and investors know this.

But owners know the value of the small play opportunities, and they proceed nonetheless and operate strategies to survive when the price of a barrel of oil is below 40. ?Some SME owners in oil and gas are adept at operating and choose small fields and prolific basins and operate them at very low production cost. ?In general for SMEs however there is a level below which the operating cash flow of an oil & gas SME company is not driven by the nature of the oil well but by the nature of the operation above it. ?That begins to come into play roughly around $40 and below. This is the point where the SME either begin to go out of business or of course needs working capital to be able to continue.

But all countries and environments do not offer low-cost opportunities past a certain point because the tax regime or the regulatory regime means that costs kind of go below a certain floor. Some countries of course also have unions and working rules that means that labor commitments cannot be reduced and have to be maintained. There is also the fact that in many Latin American jurisdictions’ companies do not have the corporate fill.?

In many Latin American jurisdictions, the corporate veil does not exist for shareholders owners and senior managers of Companies. So even oil and gas company’s get into trouble due to the drop in oil price, and they are unable to pay unions, maintain employment and social benefit costs. These liabilities can ultimately fall at the feet of the owners of the SME companies and these liabilities can also impact their personal liabilities. Owners of SME oil and gas companies in Latin America therefore have even greater risks due to the nonexistence of the corporate veil.

In part II of this article we will discuss how non-U.S SMEs can use an international Private Investment Fund to facilitate international fundraising for their oil and gas project.

When you know you can trust.

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