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Traditional oil & gas project financing has witnessed a marked change in recent years as the industry struggled through demand shocks during Covid and price volatility, first on account of a sustained but short-lived post-Covid recovery in 2021, and more recently in the aftermath of Russia’s Ukraine invasion last year

The investment landscape has become challenging for upstream producers as banks have pulled back on E&P funding, and established investment options like RBL (Reserve Based Lending) or production hedges have been limited both in scope and numbers in recent years. 

It is here that asset-based securitisation, as an alternate source of funding CAPEX intensive oil & gas projects (usually in the development and/or production strategy), has recently picked up with nearly US$2bn of placement expected to take place via this route in the US in 2022.

Asset securitisation is not a new product and has been used extensively in the past. Simply put, it refers to the process of creating a financial instrument, called a security, that is backed by the revenue generated from specific assets, such as oil and gas wells, pipelines, or power plants. The goal of energy asset securitisation is to provide companies with a source of financing that is independent of the fluctuations of the energy market and to offer investors a new investment opportunity with predictable returns.

Specific to the oil & gas sector, upstream assets with 1P (either developed or yet to produce) reserves refer to fields that have been fully evaluated and/ or are currently producing. These reserves are considered to be low-risk investments with a predictable stream of revenue, making them an attractive option for securitisation.

In this case, Proved Developed Producing (PDP) securitisation refers to a type of energy asset securitisation that involves the creation of a financial instrument, such as a bond or note, that is backed by the revenue generated by producing or yet to produce, upstream fields. This typically involves creating a special-purpose entity that takes ownership of a portfolio of energy assets and issues securities backed by the revenue generated by those assets. 

These securities can be sold to investors, providing the principal entity with the capital needed to fund existing operations or even acquire new businesses and continue to grow. Investors, in turn, receive a stream of income that is derived from the sale of this production, offering them a more predictable return on their investment compared to other forms of investment in the energy sector.

Here is how the process typically works:

1. Creation of a special purpose entity (SPE): A special purpose entity is created to take ownership of a portfolio of energy assets. The SPE is typically structured as a limited partnership or a trust and is responsible for issuing securities that are backed by the revenue generated by the energy assets.

2. Issuance of securities: The SPE issues securities, such as bonds or notes, that are backed by the revenue generated by the energy assets. These securities can be sold to investors, providing the SPE with the capital it needs to continue/ enhance operations or acquire more energy assets and grow its portfolio.

3. Investment: Investors can purchase these securities, providing them with an indirect ownership stake in the energy assets and a stream of income that is derived from the energy production of the assets.

4. Payment of returns: The SPE uses the revenue generated by the energy assets to make regular payments to the investors, providing them with a predictable return on their investment.

5. Liquidation: At the end of the investment period, the SPE liquidates its energy assets, and any remaining revenue is distributed to the investors.

In short, asset securitisation offers investors an opportunity to invest in energy assets with a predictable return and reduced risk compared to other forms of investment in the energy sector. By investing in these securities, investors can benefit from the stability and predictability of energy-based investments while also supporting the growth and development of the energy industry.

With oil & gas demand not expected to slow down in the coming years and investments yet to reach pre-pandemic levels of 2019, we foresee a big gap with existing fields being unable to keep up with the rising demand for hydrocarbons. As companies, and countries, race to get adequate supply to the market, new forms of development finance will be needed to bring early-stage assets on stream to cater to the energy-hungry economies of Asia and Africa, where most of the demand is expected to originate. 

This article is authored by Synergy Consulting IFA.