Price fall’s ill-timed: Banks could tighten credit lines for drillers
new york — The rally in global oil prices has stalled at the worst possible time for explorers, just as banks reassess credit lines crucial to their growth.
This year’s reviews, due to start next month, will arrive with the industry nursing a nasty case of whiplash. Spot prices surged late last year on Opec’s pledge to cut output, hitting $54.06 a barrel in New York. Since then, they’ve fallen 12 per cent, undercut by rising US rig counts. Futures contracts show longer-term prices deteriorating as well.
A drop below $45 would likely spur credit line reductions, raising the specter of cuts that crippled drillers a year ago, said Kraig Grahmann, a partner in Houston for law firm Haynes & Boone. Between the end of 2015 and October, when credit lines were last reassessed, the average borrowing base for US explorers fell 16 per cent, according to data compiled by Bloomberg.
“The next month is going to be absolutely critical from an oil price standpoint,” said Paul Grigel, an analyst at Macquarie Capital USA. “If you see prices retrench further, clearly the banks are going to have to re-evaluate. They are going to say, ‘Should we be pulling back?’”
Credit reviews are “a combination of art and science,” Grigel said, with banks taking into account a company’s reserves, production trends and the future outlook for the market as well as current prices.
If you see prices retrench further, clearly the banks are going to have to re-evaluate. They are going to say, ‘Should we be pulling back’ Paul Grigel, analyst at Macquarie Capital
Lenders can also be reluctant to cut credit lines if it would mean mortally wounding a borrower and raising the risk of default.
In late 2015, even with crude plunging, banks made modest changes as they waited to see how the market would shake out.
Now it’s once again a precarious time for the industry. After a twoand-a-half year price rout was cut short by the Opec deal, US companies are exploiting new cost-saving drilling techniques to spark a level of growth that some fear could pave the way for yet another longrunning slump in prices.
Industry budgets this year call for spending about $25 billion more collectively than in 2016, an 11 per cent increase, according to a report last week from Wood Mackenzie. EOG Resources said it will increase capital spending 44 per cent in 2017 to about $3.9 billion, while Continental Resources will elevate spending 68 per cent to $1.95 billion.
For many companies, credit lines remain a major determiner of how much growth they can achieve, said Spencer Cutter, a Bloomberg Intelligence analyst. The reassessments are traditionally done in April and October, when bankers will review both commodity prices and reserves, which are put up as collateral.
“This is their working capital,” Cutter said. “It’s how a lot of them fund their capital spending budgets for the year. It’s the blood that flows through the financial veins of the company on a day-to-day basis.”
For some companies, it’s not about growth, but survival.
Natural gas driller Exco Resources said on March 15 that its borrowing base had been cut to $150 million, down from $285 million last year. The move was part of a financial rescue package in which the struggling company agreed to issue or swap $1 billion in new debt. The proceeds will help pay off money that Exco had already drawn on its credit line.
Last year, with crude prices tumbling below $30 a barrel, producers including W&T Offshore and Denbury Resources were hit with cuts of 30 per cent or more.
That’s less likely this year, Cutter said. The surviving producers have emerged stronger after more than a year of cost-cutting and asset sales. And the run-up in prices after Opec announced its supply cuts allowed oil and gas companies to lock in higher revenues through hedging contracts.
Still, companies that focus on natural gas, where prices have fallen faster, could be more vulnerable to credit cuts, Cutter said. — Bloomberg