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E&Ps Get Reprieve in Fall Redeterminations, But Spring Could Be Harsh

Exploration and production (E&P) companies may have been stressed about the fall redeterminations this month but the banks have been "surprisingly gentle," according to a review by Jefferies LLC.

"Lower commodity price assumptions are a clear headwind, but banks appear to have taken action to protect customers by setting more capital aside," analyst Jonathan D. Wolff said in a note Monday.

Short-term liquidity is intact, but E&P companies have seen overall leverage rapidly increase this year, he said. Two times each year, E&Ps face redeterminations of their borrowing bases, or reserve base lending (RBL). RBLs generally are executed for five years, with E&Ps required to use independent engineering firms to establish the gross value of their proved reserves. A review is done by the banks twice a year, in the spring and the fall.

This past spring most E&Ps had few issues securing borrowing, and analysts had expected problems to emerge this fall (see Shale DailySept. 18). However, short-term bank liquidity is more stable than expected.

"Meanwhile, the real going-concern risk for producers, in our opinion, relates to coming bond maturities,” Wolff said. “High-yield bond issuances surged after the mortgage crisis amid easy monetary policy and wide demand to play an energy recovery. But now maturities loom with a wide swath of unsecured bonds coming due in 2018-2023."

The high-yield bond market for energy bonds, however, "is now moribund" and has hardly been tested this year which means refinancing risk "appears very high." High-yield energy bonds have been sold in recent months because of concerns regarding principal repayments.

"Pulling on RBLs or even junior lien structures...may be the only realistic way to repay near-term maturities and continue to operate (at the further detriment to longer-term unsecured bondholders)," Wolff said. "As evidence of the distress created by significant near-term bond maturities, some 40% of the companies we track have equity values that are below notional value of debt."

The spring 2016 redeterminations "could be much tougher without significant commodity price improvement."

One sector that has gotten and may continue to get a pass is the large producer group because these E&Ps tend to qualify for unsecured credit facilities if they have or are near investment grade, Wolff said. "We believe these companies will have an advantage in accessing liquidity in the bond or equity market and won't be as impacted by potentially harsh spring redeterminations."

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