The precipitous fall in global crude oil prices over the past nine months has led oil and gas companies as well as investors to strategically appraise their operations and portfolios respectively. While oil and gas companies have been restructuring ― paring capital expenditure, divesting assets, laying off staff, deferring or cancelling projects, etc ― investors have been mulling over stocks with a view for value optimization. At present, there is some disconnect between oil and gas company stocks and global crude oil prices: for example, a recent Financial Post report shows that stocks on the Standard and Poor’s/TSX Energy Sector Index are priced at an all-time high of 65 times expected earnings (more than double those for their United States peers); and according to World Oil (3/25/2015):

Since Dec. 15, stock values in an index of 20 U.S. producers have bounced back an average 7%, even as oil fell another 15% to $47.51/bbl on Tuesday.

With global oil prices key to such appraisals, three critical issues will most probably define oil and gas investment in the near term:

1. Oil Supply

The recent oil price slip has been driven in the main by a surplus in global production of, and a weak global demand for the commodity; the greater proportion of this surplus derives from unconventionals in the United States (shale) and Canada (oil sands). Many shale operators in the United States hedged their production and this has led to continued output in spite of the slide in oil prices. In Canada, the Canadian Association of Petroleum Producers, CAPP, expects oil sands production for 2015 to exceed that of 2014.

In the United States, after ten consecutive weeks of stock buildup, estimates of the current oil imbalance (excess of output over consumption) stand at between one and two million barrels per day, most of which is being put away in storage facilities; but with stock levels testing the capacities of these storage facilities, the imminent shutdown of refineries for spring maintenance will further increase that oil imbalance, exerting further downward pressures on oil prices.

2. Availability of Capital

According to a report by PricewaterhouseCoopers, during the seven years to 2012, unit capital productivity (quantity of crude oil produced per dollar employed) halved for the world’s top 74 oil and gas companies; and that, in spite of the massive production from unconventionals. The 15 largest shale operators in the United States have witnessed assets write-downs of US$35 billion since the shale boom and for many shale operators, cash-flow, positive inflection points are still further away. A recent report by Evaluate Energy shows that low oil prices were responsible for major asset impairments among 72 U.S.-focused oil and gas companies with market capitalizations less than USS$80 billion; for those companies, Q1-Q3 2014 impairments were US$7.83 while values for Q4 ― when the impact of falling oil prices began to take hold ― stood at US$36.85.

With low, oil price regimes, availability of capital (loans, etc) to fund operations may be a problem for debt-burdened oil producers, especially if the United States Federal Reserve Bank raises interest rates. Such producers may then become candidates for mergers and acquisitions, which may impact stock valuations.

3. Exigencies

Global crude oil prices are often responsive to certain geopolitical flashpoints. It is quite significant for example, that in a market characterized by oversupply and weak demand, the recent air strikes on Yemen by a Saudi-led coalition saw immediate spikes in oil prices. The international benchmark Brent for May delivery rose up to 5.8% on the London ICE Futures exchange, reaching its highest since March 9; West Texas Intermediate for the same delivery period also rose significantly in high volume trading on the New York Mercantile Exchange.

Whether those price spikes are sustainable may be another question but the event demonstrates the potential of any crisis in that region to influence oil prices. Yemen is not a major oil producer by any measure ― the country supplied 0.17% of world output in 2013 ― but the region boasted more than 30% of the world’s oil supply in 2013 according to the Energy Information Administration; the concern is that a longstanding conflict between Sunni and Shia branches of Islam may find violent expression in a proxy war between the Saudi-led coalition (Sunni) and Iran (Shia) which backs the Houthi militants in Yemen.

Of particular concern is the Strait of Hormuz, a potential choke point in that hyper-critical, global oil supply route. News reports of an imminent ground invasion of Yemen by Saudi and Egyptian forces have only accentuated those concerns.

All said then, a sustained regime of low oil prices is expected to force corporate consolidations in the energy sector, notwithstanding the current levels of share prices. Given the need for operational efficiency, targets may be business units rather than whole companies. However, strategies are different for corporate buyers and sellers; while buyers await a share price floor, targets of acquisitions are availing themselves of the current share price levels (compared to oil prices) to raise necessary operational capital. Whiting Petroleum for example, a prominent Bakken shale operator had earlier put itself up for sale but subsequently elected to raise operational capital through sale of shares ― which are yet to fall in sympathy with oil prices. Other attractive acquisition targets such as Noble Energy Inc, Encana Corp. and Tullow Oil Plc have also beaten a similar path.

ExxonMobil (XOM), with great financial muscle but challenged by reserves addition, is expected to avail itself of these market conditions and the company has expressed interest in drilling assets. Oilfield services companies Baker Hughes (BHI) and Halliburton (HAL) have already seen a nod to their merger agreement, though the deal still awaits regulatory approval.

With current crude oil inventory levels and global economic activity, it may well be late H2 2015 ― short of major geopolitical exigencies ― before oil prices begin any sustained rebound; and with the capability of shale operators in the United States for a quick ramp-up in production, sustainable, triple digit oil prices may still be quite further removed.