Strong commodity prices overall have continued to temper the negative impact of higher oilfield costs, but several factors could disrupt the relatively “benign” environment in the exploration and production (E&P) sector through the rest of the year, according to Standard & Poor’s (S&P) credit analysts.
“For a volatile industry, year-to-date credit trends have been generally favorable in the upstream sector,” said S&P analysts in a new report. “Crude oil prices continue to edge up, driven by a tight supply-and-demand balance and geopolitical turmoil, and are testing all-time highs at over $76 per barrel. As expected, natural gas prices fell throughout the quarter, due to the seasonal nature of demand.”
However, analysts noted that Henry Hub gas prices averaged $7.52/MMBtu in the second quarter, up from $6.50 in the same period a year ago.
“Benchmark prices, of course, don’t tell the whole story,” said analysts. “Across the U.S., natural gas basis differentials widened in the second quarter and were particularly severe in the Rockies, where they averaged well over $3/MMBtu. Nonetheless, at these prices, almost all North American oil-focused producers are generating strong returns, while most natural gas-focused producers are realizing acceptable returns, with the possible exception of those companies with significant exposure to the Rockies.”
S&P said it “generally” expects the energy sector’s credit quality to improve through the rest of 2007, but “several factors could disrupt today’s benign environment and begin to pressure ratings.” These factors include:
“Spurred by market expectations of continued strong prices, aggressive spending levels, including for M&A, will continue in the near term,” said credit analyst Paul Harvey. “Companies looking to take advantage of the current market conditions to expand or realign business models are likely to continue driving M&A.”
S&P credit analyst Ben Tsocanos added that the ratings service expects “generally favorable” ratings trends to continue through the rest of this year for U.S.-based E&Ps.
“Upgrades have outpaced downgrades by nearly six to one through the first half of the year,” Tsocanos wrote. “Robust hydrocarbon prices and improved operating performance (particularly by companies in the services sector) are the key drivers of positive ratings activity. Price volatility is more pronounced on the upside, which also helps to provide a beneficial operating climate for the sector.”
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