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Energy Industry Coping by Cutting Jobs, Revising Financial Strategies

U.S. operators have begun implementing various ways to maintain their exploration and development programs in the United States, with some tweaking hedging strategies, others working with lenders and some scrapping expansion plans. Even more appear to be cutting back on employees and contractors, according to Friday's jobs report.

The Department of Labor said the United States posted its strongest year of job growth in 15 years, with the unemployment rate falling to 5.6% at the end of December.

Oil and gas extraction jobs actually rose by about 400 in December to 216,100, the report indicated. However, that higher job figure is much lower than the pace of earlier industry hiring. More than 12,000 industry sector jobs had been added over the course of the year.

Labor Department data indicated that employment supporting all "activities for oil and gas operations" actually fell by 2,000 in October and was unchanged in November.

Antero Resources Corp. joined Halliburton Co. and Schlumberger Ltd. in announcing job cutbacks. Antero is laying off about half of its estimated 1,000-1,200 land brokers, all contractors, who work in various offices around the country (see Shale Daily, Jan. 6). None of the full-time employees are to be impacted. Job losses are said to be prevalent throughout Texas now, with land brokers, mostly contractors, among the first to be let go.

Other companies are coping by delaying business expansions and new strategies.

MDU Resources Group Inc. on Friday said it would delay plans to market the Fidelity Exploration & Production (E&P) business because of the sharp decline in oil prices (see Shale Daily, Nov. 12, 2014).

"We believe marketing Fidelity is the right strategic decision for the company and our shareholders, but it makes sense to delay our plans in light of the recent volatility of oil prices," said MDU CEO David L. Goodin. "We are nearing completion of the data room and other preparatory work that will be necessary, so we will be prepared to expedite the process when we believe the time is right."

Most E&Ps are slashing their capital expenditures, with some, like Halcon Resources Corp., down to about one-quarter of 2014 spending levels. Denver-based American Eagle Energy Corp. has taken even more drastic measures, announcing it would suspend drilling operations  and release a drilling rig in the Bakken Shale, though it still plans to complete two wells there (see Shale Daily, Jan. 2).

Another strategy to cope with flagging prices is to adjust hedging, like Dallas operator Pioneer Natural Resources Co., which has converted nearly all of its 2015 oil derivative contracts to fixed-price swaps. Natural gas hedges also are in place.

"Over the past five years, our derivative strategy has successfully protected our cash flow and allowed us to execute a highly productive drilling program," Pioneer CEO Scott Sheffield said. The fixed swaps "establish a firm oil price floor and lock in the corresponding cash flow." The hedging revisions position Pioneer "to manage through the current price downturn and emerge as an even stronger company when oil prices recover."

Pioneer converted 85% of its 2015 oil derivative contracts to fixed-price swaps covering 82,000 b/d at an average New York Mercantile price of $71.18/d. The swaps and remaining three-way collar contracts for 2015 (13,767 b/d) cover 85% of expected 2015 oil production. Three-way collars were maintained for 2016 for 73,000 b/d with a $96.46/bbl call price, a $85.47/bbl put price and a $74.35/bbl short put price.

Derivatives also are in place covering 85% of projected natural gas production in 2015 through a combination of three-way collar contracts that cover 285,000 MMBtu/d at a Henry Hub call price of $5.07/MMBtu, a put price of $4.00/MMBtu and a short put price of $3.00/MMBtu. Derivative swap contracts cover 20,000 MMBtu/d at an average Henry price of $4.31.

American Energy Partners LP's Permian affiliate also updated its hedging position, purchasing puts at a weighted average price of $91.68/bbl on 4.7 million bbl of oil, or about 70% of anticipated output for 2015. It also secured basis protection between Midland, TX, and Cushing, OK, markets through financial swaps and term sales at a weighted average discount to Cushing of $2.41/bbl on 2.6 million bbl, or about 38% of this year's production. Gas hedging includes swaps at a weighted average price of $4.62/Mcf on a total of 502 MMcf, or 29% of the company's 1Q2015 anticipated output.

American Energy-Permian Basin LLC (AEPB) also has some breathing room on the balance sheet side, said management. AEPB exited 2014 with $100 million of borrowings outstanding under its $650 million revolving credit facility and more than $50 million of cash, resulting in more than $600 million of total liquidity entering 2015.

To provide more financial flexibility in 2015, AEPB and its lending group amended the maintenance covenants in the company's revolving credit facility. Changes included suspending the leverage ratio requirement for 4Q2014 and increasing the leverage ratio requirement to 5.75 times (from 5.25) in 1Q2015. The required ratio is to be lowered 0.25 until 1Q2016, at which time it would remain "constant" at 4.75 times until the facility matures.

Barclays Capital analyst Dave Anderson said Friday E&Ps have been less hedged of late because they have been operating with declining cash flow as the market became "comfortable" with $90-plus oil prices.

At the end of September, small/mid-cap E&Ps had hedged only about one-third of expected 2015 oil volumes, "well below the 47% of oil volumes hedged in 2013 and 46% in 2014."

The large-cap E&Ps are even more exposed to oil prices, he said, because as of the end of 3Q2014, they'd hedged around 14% of volumes, versus 26% in 2013.

"With the 50% drop in oil prices over the past six months, E&Ps are unlikely to hedge any further, making 2015 spending even more at risk if oil prices were to fall further," Anderson said. While oil prices have remained volatile over the past two to three years, the North American industry had begun to rely on a $90-100/bbl WTI range, which may have bred a measure of complacency among producers that oil prices would remain stable to reduce the need for hedging."

For a few E&Ps, the final strategy may be to declare bankruptcy. Texas junior WBP Energy LP has announced it would restructure under Chapter 11.

The plunge in prices also poses "serious implications" for bondholders in the oil and gas sector, said Moody's Investors Service Vice President Alexander Dill, who is head of covenant research. Credit positions have become "more precarious" because financing may take a form that could raise subordination risk.

"Oil companies require a high level of ongoing investment in exploration and development to maintain their asset base, much of which has been funded with debt," Dill said. "Amid falling oil and gas prices, their financing is most likely to take the form of second-lien debt secured by collateral of diminished value and that ranks senior to liens held by their bondholders."

Risks appear "most frequently" in the midstream (86.7%) and propane (85.7%) subsectors, and least often in the oilfield services and refining/marketing subsectors, whose percentages are both below the North American average for all bonds.

"The midstream and propane subsectors offer the poorest protection against liens subordination," Dill said. "This isn't surprising since virtually all are master limited partnerships, which each quarter must distribute substantially all their cash from operating surplus as dividends in order to keep their beneficial tax status."

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