A CAPITAL TRIO. Three fundraisers offer insight on how to get deals done in the current financing environment.

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2 FINANCING TRENDS A CAPITAL TRIO Three fundraisers offer insight on how to get deals done in the current financing environment. ARTICLE BY BRIAN K. TULLY Senior managing director Mitch Solich (top) and managing director Geoff Solich of SFC Energy Partners note the privateequity firm just closed its second fund in April. Circumstances in the upstream industry have been improving since 2009, and capital providers have once again begun to announce fundraising results and capital commitments. As the climate heats up, Oil and Gas Investor interviewed three companies with different perspectives to glean transaction trends and best practices in today s oil and gas market. Private equity figures heavily into the E&P equation, and SFC Energy Partners is coming off a recent $596-million fundraising endeavor, its second. On the other side of the table, Petro Capital Securities, a boutique investment bank, recently helped guide $420 million in funding for an independent s E&P and midstream growth projects. Finally, Energy Ventures just closed its fourth fund: $350 million for upstream technology acceleration. When Mitch and Geoff Solich and Roger Flahive sold their E&P company, Medicine Bow Energy Corp., to El Paso Production Holding Co. in July 2005, each of them had more than 25 years in the oil and gas industry. They had traditionally sourced capital from privateequity funds for their own E&P companies. This time around, however, they decided to form their own private-equity shop. In April of this year, the firm they assembled, SFC Energy (originally SBE), raised a second fund totaling $596 million. The Denver group will begin committing the new funds as soon as the third quarter of this year. We had known for a long time that we didn t have the corner on ideas or creativity, and we began to think through the possibility of forming our own private-equity fund, says Mitch Solich, SFC Energy Partner s senior managing director, who began his career as a banker. The drivers in starting a fund were the ability to tap into a bigger talent pool and diversify into more geologic basins. Although a Denver-based company, SFC is not Rockies-focused. The firm has made investments in the Marcellus, Wolfberry, Cardium and nearly everything in between. The more the partners talked among themselves, the more traction the idea of raising their own fund gained. They decided a person with corporate finance and direct investing experience would round out the team. That was John Cleveland, a geologist who had spent several decades in finance in positions with Chemical Bank, HSBC and Enron, and was coming from GE Capital in Denver. The four initiated fundraising for their first fund in 2006, and launched it in 2007 with $415 million in subscriptions. Since then, SFC has invested in seven portfolio companies and may have room for one more investment in Fund I, even as it launched fundraising for Fund II. For many years, private-equity funding was for an acquire-and-exploit model only. In the last handful of years, private-equity dollars have gone more to drilling and development, says managing director Flahive, who oversees technical efforts at SFC. He says the firm will evaluate both types of opportunities independently. Cleveland, a classic-pickup-truck enthusiast, says comparing SFC s niche to the prototypical classic car in a barn find is not a stretch. In fact, one of SFC s recent commitments is of a similar vintage. A 1950s Permian Basin discovery by Gulf Oil, the deep Ellenburger reservoir was exploited, but half a dozen or more shallower zones were bypassed. SFC has committed $45 million to an E&P company targeting this field, with more funding possible. We identify the project, polish it up a bit and prove the concept. Then we articulate to a buyer that they can have the same success we have had doing the same thing, he says. To prove the concept, enough data and production history is needed to convince a public E&P or an MLP the process and production are repeatable on the assets for sale. According to Cleveland, SFC feeds the public company machine, a beast that requires an increasing reserves base and cash flow to appease investors. That generally translates into more drilling locations, which can lead to buying private-equity-backed E&Ps. Gulf Oil developed this particular field into the 1970s, at which point, Cleveland suspects, operator fatigue set in and the company moved on. Forgotten infield prospects like this can be unearthed and engineered using modern technology, and as such don t have the high costs of some of the hot, cutting-edge plays such as the shales. September 2011 OilandGasInvestor.com 71

3 We are not ignoring gas deals, but I think it is difficult for us to do a drygas deal right now, says SFC managing director John Cleveland. SFC identifies dislocations in the market that can be capitalized upon with investment. A typical situation arises when employees exit a major or large independent and take with them knowledge of a project that has been tucked away. According to managing director Geoff Solich, SFC s strategy is to find great management teams with compelling projects. The ability to do this is something they developed in the industry, and it affects how the group views its relationships with the teams that approach SFC. Coming from the oil and gas side of the business, we tend to partner with those teams in the same way we partnered with other companies when we were running our own E&P: in a very collaborative, iterative relationship, he says. We all use the term partner frequently, because solid partnering allowed us to exploit more opportunities. We ve learned how to be a good partner. SFC tends to work with teams eyeing an opportunity that has been put on the back burner. Most often what they have is knowledge of opportunities lost in the files : some project they worked on that has been forgotten. Projects just sit as people move around, says Cleveland. The firm evaluates those opportunities by starting at the finish: quantifying the exit. SFC researches and extrapolates the project to a logical conclusion. The team looks at similar transactions and compares possible monetization outcomes. If the project can be pried loose from the current owner, and is evaluated as able to benefit from the application of technology and capital, it could see investment. This evaluation is as technical as it is financial, and continues after investment. W e watch investments in an eyeson, not hands-on way, says Flahive, observational over operational. The other area of technical effort is in-house initiatives, including chasing geologic concepts, technology applications and play types. This forms the basis of decisions on how to allocate fund monies and align teams to support those decisions. SFC has concentrated on opportunities onshore North America. Its largest commitment to date has been $75 million, and Fund I investments have ranged from $40-to $70 million. The group has not done much in California, as the depth of the market for exits, in its view, is limited. Alaska, too, has a small population of buyers, but Cleveland says there is plenty to do between the U.S. and Canada outside of these exceptions. The time frame is typically the two-to-fiveyear private-equity horizon. Partly this is because SFC structures agreements to reward FUNDING BRIGHT IDEAS I ndependent global venture-capital firm Energy Ventures just closed a $350-million raise in early April. The Norwayheadquartered upstream oil and gas investment firm reached the hard cap on its fourth technology fund since 2002, bringing its total committed capital to $750 million. Our basic premise is that hydrocarbons will continue to be the dominant energy resource for decades to come, and technology will play an increasingly important role in extraction, says Jim Sledzik, partner and president of the group s Houston office. The upstream, oil and gas-centric firm also recently closed its first fund, which had an IRR of 76%. Sledzik says the firm is actively investing Fund IV now. Our funds are focused on supporting entrepreneurs with game-changing technologies that are protected by intellectual property, says Sledzik. The first commitment from the recent fund a wireless seismic venture in which it co-invested with Chesapeake Energy Corp. was made in December Across nine years, Energy Ventures has remained concentrated on upstream technology, despite changing and growing in terms of geography and investor base. Following the first fund, which focused on Norway and was in kroner, EV expanded into a broader European investor base and subsequently brought in capital from Singapore-based Temasek Holdings Pte. Ltd. and Keppel. The most recent fund added new U.S. investors University of Texas Investment Management Co. (UTIMCO), Meketa and Parish Capital, as well as SL Capital Partners from Europe. The vibrancy of the oil and gas industry in Houston made it a natural fit for Energy Ventures to expand, but there was some concern that because the venture capital model in the U.S. was mature, the deal quality we would see could be reduced, says Sledzik about the expansion decision. The EV team draws on principals with backgrounds in E&P and oilfield services to analyze opportunities, and has found that, so far, its concern about quality has been unwarranted. The firm needs to see as many opportunities as it can; it only invests in 1% to 2% of deals it evaluates. Sledzik says the firm spends a lot of time working with management teams on strategy, intellectual property development, commercialization of technologies and geographic expansion. It approaches tech- 72 OilandGasInvestor.com September 2011

4 management based on internal rate of return, instead of return on investment. We aren t in the business of holding forever in the hope of increasing prices. We like to bring things to market, and some have occurred more quickly than two years, says Mitch Solich, referring to two partial monetizations. Though receptive to an initial public offering, the group s institutional investors prefer liquidity, and would be concerned about holding more stock than would be feasible to sell without drastically reducing the stock price. Some management teams are compensated based on ROI, but when we started Fund I we thought IRR was better for us, says Cleveland. That means time is a part of the value calculation, so faster exits are more valuable. It is crucial that the opportunity not be solely dependent on an exit based on commodity prices, and SFC runs sensitivity cases to make sure investments can tolerate price volatility. Cleveland says SFC adopted an oil bias several years before the shine had worn off dry gas, a move that has served it well. We are not ignoring gas deals, but I think it s difficult for us to do a dry-gas deal right now, because it is difficult to get a handle on the exit market for gas deals, he says. You could be sitting on one five years from now. He thinks the gas price will turn at some point, and there will be a good time to invest in highquality natural gas properties, but for SFC s private-equity model, the fit isn t there yet. The firm expects to activate $596-million Fund II later this year, with potential to pull the trigger on the first deal in the third quarter. Investment banking s view Not all financiers are specifically raising funds to back oil and gas companies. Investment banks on the advisory side are also seeing plenty of deal flow, and they have a different point of view on today s market. Generally, the strategic advice being delivered has changed over the past few years, coinciding with private-equity funds returning to the market. As its name indicates, investment bank Petro Managing Capital Securities LLC, Dallas, is solely focused on raising capital and providing advisory SFC s investment director Roger Flahive describes services to E&P, midstream and oilfield services companies. The Petro Capital Group, of not hands-on. style as eyes-on, which Petro Capital Securities is a part, began in 2002 targeting early-stage principal investments in energy companies. In response to the market upheaval in 2008, Petro Capital Group saw an opportunity to grow Petro Capital Securities as a stand-alone investment-banking practice, but it needed a capable leader to head this initiative. E nter Marvin Webb, an experienced investment banker in Bear Stearns natural resources group, who came aboard to build the franchise following the sale of Bear Stearns to JP Morgan in the summer of nologies with the intent to commercialize as At first I entertained the idea of joining another big organization, but upon reflection, fast as possible, focusing on deconstructing the E&P technology-adoption cycle and what interested me most was working with shortening the time for those technologies to growth-oriented companies that might not catch be taken up by industry. The firm funds both the eye of bigger organizations, he says. I venture and early-stage growth companies. sought a smaller, more agile platform to service Business model innovation has not traditionally been a strength of the oilfield ser- that. these clients. This was my chance to do just vices industry, but understanding how the Since Webb joined as managing director, business model can accelerate adoption of Petro Capital Securities has raised capital for new technology with the key E&P customers start-ups and established companies and provided M&A and strategic advisory services. while growing shareholder value is critical, he notes. In late 2008 and 2009, a primary focus of Knowledge of the E&P industry and the the firm was advising clients on strategic alternatives to help keep their companies together or upstream market is also important, as it can ferret out compelling events that Sledzik describes as enabling more rapid technology Webb. While fundraising in 2007 and first-half for technology to hold positions, as opposed to growth, says The opportunity adoption. The shale boom has been one of 2008 had been fevered, in the latter half of impact the those. shales is only 2008 and 2009, capital sat on the sidelines. beginning, says Unconventionals have opened up a lot of The firm brings a well-rounded approach, as Jim Sledzik, activity. The opportunity for technology to its senior principals have backgrounds in partner and president of impact the shales and tight oil is only beginning, and has been a focus for us for the last vate-capital investment. For example, prior to Houston office. petroleum engineering, land, finance and pri- Energy Venture s few years. his tenure at Bear Stearns, Webb was a Unconventional formations will remain a petroleum engineer for Burlington Resources key opportunity for Energy Ventures for the and Phillips Petroleum. next five years and beyond, says Sledzik. Another member of the Petro Capital Securities team, director John Calce, previously The firm has already invested capital with several portfolio companies, like Houstonbased Ingrain and Oxane Materials, which deals in the Barnett shale, East Texas and the worked on assembling and syndicating drilling are commercializing game-changing technology today. professionals in the process, a unique advantage Midcontinent. He built a deep network of land for clients. September 2011 OilandGasInvestor.com 73

5 Petro Capital Securities managing director Marvin Webb (near left) says investors are willing to be more aggressive in oil-heavy plays. Director John Calce (center), and associate David LaLonde (far right) join Webb on the management team. Says David LaLonde, associate and third Shortly after placing the equity commitment, member of the leadership team, Often, our Petro Capital Securities, through its land contacts, clients and investment firms ask us to help procured a $27-million acreage acquisi- them enter or grow existing positions in highly tion for Liberty that offset its existing assets. coveted resource plays. With our land connections, In March 2011, the firm advised BlackBrush we can drum up proprietary acreage deals Oil & Gas LP and TexStar Midstream Services others can t access. Not many investment banks LP, which sought funding to expand E&P and can source transactions of this type. His experience midstream assets in South Texas, including the includes principal investing at The Ster- Eagle Ford shale. Petro Capital Securities was ling Group and investment banking at Bear able to source a $220-million equity commitment Stearns. and $200-million senior debt facility. Beyond deal access, Petro Capital Securities The BlackBrush transaction was well received provides its clients an understanding of current by the marketplace. We encountered market conditions and educates them on the great interest from both equity and debt capital-raising process. providers, resulting in numerous financing alternatives Oftentimes, people who are expert at finding for our client, LaLonde says. and developing oil and gas do not possess P etro Capital Securities currently sees many much experience in dealing with institutional opportunities to acquire and develop capital sources, says Calce. A key aspect of acreage adjacent to existing producing our capital-raise process is to not just close the properties. Webb estimates that the majority of deal, but also find the right terms and capital the firm s prospective financing transactions partner for our client. today are focused on sourcing capital for development Although 2008 and early 2009 brought challenges, projects for which the acreage has al- the firm s growth and expanded knowledge ready been leased. He says more capital is base and capabilities quickly bore fruit. returning to big acreage buys, with a caveat that While there was still uncertainty as to whether most investors will require such positions to be we had reached a trough in commodity prices, located in the core area of a play. we began to see a shift in the last quarter of Webb believes capital markets will remain Investors returned to the market and highly active, with ample capital and many began to focus on value-oriented deals, says providers becoming more aggressive about Webb. putting dollars to work. For investors with flexible This shift was evident when Petro Capital capital to deploy, he says, creative deals Securities completed a series of transactions for and financing structures can be done. Investors Eagle Energy Co. of Oklahoma, a start-up led are willing to be more aggressive in oil-heavy by industry veteran Steve Antry. The investment plays like those in West Texas, the Eagle Ford, bank helped negotiate an acquisition in and the Bakken shale. the Midcontinent and secured a $100-million While the shale plays continue to garner equity commitment and $150-million credit facility much of the popular interest, the firm believes to close the deal and provide growth capi- that 2011 and 2012 will be highlighted by the tal. This opportunity was not only a tipping application of modern horizontal and completion point for the firm, but also an indication of capital technology to develop/redevelop conven- returning from the sidelines. (For more on tional reservoirs. Eagle Energy, see Mississippi Lime, Oil and Webb suggests that although the E&P and Gas Investor, April 2011.) midstream sectors have been hot, oilfield services Petro Capital Securities followed up those also hold promise, as the industry faces transactions with a series of capital placements equipment and human-capital constraints. He and advisory assignments in It sourced a thinks oilfield service providers will face capital $200-million private-equity commitment for demands, because many are operating at the Liberty Resources LLC to acquire and develop limit of their equipment s capacity. They will Bakken shale assets. Liberty is led by a highly have to build or buy equipment, and the firm is credentialed management team with significant starting to see an influx of service-oriented operation and completion-design expertise. transaction opportunities. 74 OilandGasInvestor.com September 2011

6 PETRO CAPITAL MORE THAN JUST A NAME IT S WHAT WE DO March 2011 March 2011 South TX / Eagle Ford South TX / Eagle Ford $220,000,000 $200,000,000 Equity Commitment Lead Advisor Senior Debt Facility Lead Advisor June 2010 September 2010 East Texas Woodbine Divestiture of Assets Marcellus Shale Joint Venture of Assets January 2011 Marcellus Shale January 2011 September 2010 Bakken Shale Bakken Shale $75,000,000 $27,000,000 $200,000,000 Senior Credit Facility Acreage Acquisition Equity Commitment February 2010 December 2009 December 2009 Marcellus Shale Mid-Continent Mid-Continent $38,000,000 $100,000,000 $150,000,000 Divestiture of Assets Equity Commitment Senior Credit Facility ACQUISITION & DEVELOPMENT CAPITAL MERGERS, ACQUISITIONS & DIVESTITURES STRATEGIC ADVISORY Petro Capital Securities, LLC is an investment bank committed to delivering value-added capital market, mergers, acquisitions, divestitures and strategic advisory services to growth oriented companies in the E&P, Midstream and Oilfield Services sectors. Petro Capital is solely focused on energy. The Investment Banking Team has significant transaction and operations experience in the major North American oil and gas basins and the unconventional plays with recent experience in the Bakken, Marcellus and Eagle Ford shales. At Petro Capital, the corporate culture is client focused and success driven. With access to real-time market intelligence and longstanding relationships in the energy industry and investor community, Petro Capital can help deliver creative solutions and outstanding results for you and your company. Marvin Webb John Calce David LaLonde Petro Capital Securities, LLC is a Registered Member of FINRA