Scouting for capital: A case study on oil patch financing

A decade ago, Bill McCaffrey was like a lot of wide-eyed dreamers in Alberta - a refugee from the corporate world with a big idea for a patch of ground near Fort McMurray.

Most of those visionaries fell by the wayside, victims of gyrating oil prices and a harsh climate for long shots in the oil sands.

But Mr. McCaffrey's star continued to rise, as $100-a-barrel oil turned Fort Mac into a global shopping bazaar. Today, at 54, he runs a much-admired independent producer, MEG Energy Corp. , with a market value of $9.4-billion and about $2-billion of cash in the bank.

The difference between him and other dreamers was an iron discipline and a tireless quest for global money. "There is a big prize at the end, but if you structure your financing wrong, it may never see the light of day," Mr. McCaffrey says. "We were very patient." Calgary-based MEG is a company built in the ground south of Fort McMurray and in the air over North America, Asia and Europe, as Mr. McCaffrey took his road show to the world.

Faced with a tough market in Canada, he circled the globe to find blue-chip investors who shared his long-term vision - from New York private equity players to Middle East sovereign funds and China National Offshore Oil Corp. (CNOOC).

He waited 11 years to take MEG public - an unusually long stretch for a capital-hungry energy startup. Meanwhile, he attracted $3-billion in private equity funding, one of the largest intakes for a North American company in the pre-initial offering stage.

His long-haul strategy was rewarded last month when the Canadian Venture Capital Association named him its Entrepreneur of the Year for building success with venture capital backing.

Indeed, Mr. McCaffrey did attract VC money - Calgary's KERN Partners was there near the start - but many large Canadian institutions are kicking themselves now for not getting in the ground floor.

It reflects a different world in 1999-2000, when oil was around $12 a barrel, and MEG was pioneering costly in situ extraction technology that was less familiar than the prevailing mining approach. And China had not yet become a voracious buyer of Canadian energy assets.

In 1999, Mr. McCaffrey, his brother-in-law and a friend sunk just over $150,000 into their first property leases around Christina Lake, 120 kilometres south of Fort McMurray.

Now, almost a year after the IPO, his stake in MEG is worth more than $50-million, and his 30 elite institutional backers aren't complaining either. "They've done very well," he says.

"MEG has financed itself extremely well and the quality of the asset base is well respected in the industry," says Michael Tims, chairman of Peters & Co., part of the IPO underwriting group.

Indeed, its funding approach is a textbook on how to build value in today's oil patch:

Buy an option on greatness

After former employer Amoco was acquired by BP PLC in 1998, Mr. McCaffrey used some time off to study opportunities. The Christina Lake property was a jewel, but not well known back then. The leases came cheap - even though they contained a billion barrels of oil.

The energy price was depressed but "the barrels weren't going anywhere and there was a lot of value there from a pure options point of view," Mr. McCaffrey says. "All you needed to believe is the world needed energy and you could hold these leases a long time."

Since then, players such as Devon Energy and Cenovus Energy have also made the Christina Lake area a focus for activity.

Mr. McCaffrey, who spent 17 years with Amoco, surrounded himself with a strong technical team. It helped too, that MEG is very efficient in steam-assisted gravity drainage (SAGD) technology, which leaped to the forefront because 80 per cent of the oil sands bitumen is too deep to mine.

Build your following

Mr. McCaffrey's experience at Amoco was broad-based, which gave him seasoning to run a company, but the hard part was learning how to raise money. Mr. McCaffrey, whose wife Janice is a former Olympic race walker, took that same slower-but-steady approach. "You do it one day at a time," he says.

He found himself on the cocktail party circuit and showing up at conferences simply because there would be investors on hand. It was unfamiliar territory, but he was determined to raise equity and avoid debt. And there was no thought of going public. "The pressures of the public market would be too great for that stage of development."

Mr. McCaffrey painstakingly recruited local investors, one or two at a time, before amassing 70 high-net-worth individuals. As his capital needs expanded, he shifted sights beyond his own country.

"We have done laps around the Earth raising money," he says. "It was often three nights sleep in three continents. You headed east and come back from the west in five days."

Get through the middle ground

Affluent individuals were fine for providing $25,000 to $50,000 a pop, but he faced a funding gap before the equity funds would kick in with sums of $5-million to $10-million.

"You do not want to raise too many dollars at that stage, and you have this dance back and forth on the right approach," he admits. "Until you get through that phase, there is a little bit of a slowdown in your timing."

He worked his way through the lull, before pitching private equity managers. The breakthrough was a commitment by global investor Warburg Pincus in 2004. It took a year of educating the firm before it came on board, and it is now MEG's largest shareholder with 22 per cent. "The private equity world is so pivotal for the success in the oil sands," Mr. McCaffrey says.

Working with the Chinese

By 2005, MEG was still a mystery to many Canadian investors, but had a cachet in knowledgeable energy circles. Mr. McCaffrey was approached by CNOOC about buying in. The Chinese company had been studying the oil sands for four years and narrowed its focus to one company. MEG wasn't even looking for money, but Mr. McCaffrey found a way to work something out.

The Chinese were interested in financial returns, but they also wanted knowledge - and MEG is a master of SAGD. It has been a true partnership, he says. "We have taught them about technologies and they teach us about China in exchange."

Don't be greedy

As markets regained momentum from the 2008 meltdown, MEG, now a producing oil sands player at 27,000 barrels a day, prepared to go public. It astonished many people by its size and assets. That was partly by design - by seeming to come out of nowhere, it built a certain excitement factor.

But the timing was tricky. MEG came to the market in July, 2010, just after the Athabasca Oil Sands Corp. debacle. When Athabasca had floated its shares, its stock tanked, leaving a trail of angry investors.

"It was a tough time because we had many investors asking if they came in, how did they know the price wouldn't go down?" Mr. McCaffrey says. "All we could tell them was our shareholders were very supportive and committed, and the company was at a much different stage [than Athabasca]"

Gauging the market, MEG lowered its target price and settled for an offering of $700-million, down from earlier estimates of over $1-billion. "Things change a lot at the last minute and you have to be prepared to only accept what you are comfortable with," Mr. McCaffrey says.(Shares closed on Thursday at $49, up from an IPO price of $35.)MEG's current status, with its private equity shareholders and large cash reserves, raises the speculation: Will it be a buyer or seller in the future?

"We're a developer," Mr. McCaffrey quickly replies, insisting that the primary goal is hitting production of 260,000 barrels a day by 2020. Getting there from today's 27,000 barrels will soak up a lot of capital.

Mr. McCaffrey doesn't sound like a seller - "you can hear in my voice how excited I am, because I know how big this prize can be" - but events may be beyond his control. And if MEG sees opportunities that make sense, it could buy, as well.

But while it is a world traveller in scouting for capital, it is a homebody about its operations. "We don't wander around - we stick to our area and we try to get the best value out of every barrel."

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BIOGRAPHY

Title

Chairman, president and chief executive officer, MEG Energy Corp.

Personal

54 years old

Wife Janice is a former Olympic race walker

Education

Civil engineering degree, University of Alberta, 1981

Bachelor of science degree in biology/chemistry, University of Alberta, 1978

Received designation of professional engineer in 1983

Career highlights

Served 17 years at Amoco Canada in various managerial positions, including manager of business development and growth for oil sands developments

Named Entrepreneur of the Year last month by the Canadian Venture Capital Association