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An oil derrick at a fracking site for extracting oil outside of Williston, N.D., on the Bakken oil formation. North Dakota and Texas are key states when it comes to surging oil production, which is crucial for the United States to wean itself off oil imports.Reuters

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Private equity's role in financing the oil patch has never been larger than it is now and it's expected to keep growing even as public markets recover from a year-long slowdown.

The energy industry's turn to private equity reflects a technological evolution. As companies have come to rely more on horizontal drilling and hydraulic fracturing to tap into shale deposits, the business of developing oil and gas resources has become both more expensive and more time-consuming – attributes that make it better suited for patient private-equity players than retail investors looking for a more immediate payoff.

Capital-intensive oil sands projects also lend themselves to private capital in the early stages. Combined with a lack of interest from the public market that has resulted in an increasing presence for private equity firms.

"This is probably the most active we've seen private equity in a very long time," said Shane Fildes, managing director and global head of energy at BMO Nesbitt Burns.

Private-equity investments in energy projects around the world totalled more than $27-billion (U.S.) in 2012, more than seven times the value in 2009, according to a survey of private-equity executives by Ernst & Young.

In Canada, the deal value totalled $3.2-billion (Canadian) in 2012, dipped to $1.6-billion in 2013, but has already tallied $1.6-billion so far this year, according to Canada's Venture Capital & Private Equity Association.

Big-name private-equity players are keeping a close eye on the Canadian oil industry.

This month, KKR & Co., the New York-based buyout firm, is opening an office in Calgary to scout for Canadian opportunities to complement two it has already funded.

Other private equity firms, such as Warburg Pincus LLC and ARC Financial Corp., are long-time players with numerous investments.

"It's a function of more supply. There are more capital providers and they have more capital," said Lauchlan Currie, president of ARC, whose investments include such names as Unconventional Gas Resources, STEP Energy Services Ltd. and Shiningstar Energy. "I'm talking about the Canadian funds and there also seems to be more interest from the U.S. private-equity funds that are finding it less competitive in Canada."

Private capital helped fill a void as public investors turned off the taps for equity financing to energy companies in the first three quarters of 2013, resulting in the weakest market in years. But investment bankers and private-equity investors say the shift to private equity also reflects more fundamental changes.

In the 1990s and 2000s, the Canadian energy industry was fertile ground for junior oil companies, whose managers could scare up financing relatively easily through initial public offerings, use the money to drill wells for less than $1-million apiece, then sell out to a larger company or income trust. That method has largely run its course, said Pentti Karkkainen, founder of KERN Partners, which numbers Black Swan Energy Ltd., Cequence Energy Ltd. and Aduro Resources Ltd. among its investments.

Today, the trust sector is essentially gone and drilling and completion of a well can cost up to 10 times as much as it used to. Plays can take years to start generating the cash flow that might be attractive for public investors, Mr. Karkkainen said.

"The nature of the business is such that [a new project] might take five or six years to get to a point of relevance, to get to a point where it can satisfy what the public market wants, which is predictability and a reasonable profile of growth," he said.

He laments the short-term focus of public markets in a business where it can take years to develop and employ technology to coax oil and gas to the surface.

Private equity is equipped to take the long view of such investments, says David Krieger, managing director of New York-based Warburg Pincus, which has a long history of investing in Canada. Some of its companies are oil sands developer MEG Energy Corp., Canbriam Energy Inc. and Endurance Energy Ltd.

"In order for a startup to de-risk its business and achieve a meaningful amount of cash flow where it can self-sustain its growth, it requires a larger starting point, a larger balance sheet to get it off the ground," he said. "On a relative basis, the larger private equity firms have the ability to give commitments of that scale to management teams."

Recently, public markets have shown signs of interest in the energy sector, with a successful IPO and subsequent private placement for Cardinal Energy Ltd. and a $1.3-billion equity financing for Baytex Energy Corp. that was the sector's largest stock issue in years, said Michael Freeborn, head of energy investment banking at CIBC World Markets.

He sees a role for both private and public financing. "The capital markets are still there for good ideas, and supporting good stories. That hasn't gone away," Mr. Freeborn said. "But private equity are great clients of ours. They put in the capital in the early stages, then they look to exit through IPOs and through trade sales. That's the role we tend to play."

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