E&P lenders assess paring back exposure amid downbeat price projections, tepid A&D market

 
Bulge bracket banks have laid the groundwork for a borrowing base reckoning in the oil and gas space this November, when most reserve-based loans come up for redetermination, according to two lenders, six buysiders, and two industry bankers. Downbeat commodity price projections published by a handful of the lending giants could help justify a contraction – and some regional banks are also seeking to pare down exposure by shopping around their energy books and downsizing their respective teams, three of the sources said.
 
The lenders’ defensive stance comes as much of the high-yield E&P sector struggles to operate within their respective cash flows, and as a wave of maturities are slated to kick in next year amid a volatile commodities backdrop. In turn, the most marginal borrowers could face a liquidity squeeze and attempt to turn to alternative lenders to preserve optionality, the sources said.
 
As of 19 September close, WTI 12-months strip prices are at USD 58.08/barrel for 2019 and USD 51.17/barrel for 2023. Meanwhile, Henry Hub natural gas futures are at USD 2.61/MMbtu for 2019 and USD 2.63/MMbtu for 2023.
 
Noticeably, the banks have struck a much more decisively bearish tone, leading to an unusually wide disconnect between their price decks and the strip prices, sources noted.
 
A group of large banks including Citi, Wells Fargo, JPMorgan, BAML and BMO have all released downbeat price decks, with an average projection among them that WTI reaches 47.33/barrel in 2019 and 48.33/barrel in 2023; while natural gas prices are to go from USD 2.13/MMbtu to USD 2.40/MMbtu over the same period, according to one of the buysiders and one of the bankers.
 
“The price decks are definitely not constructive,” another buysider said. “Based on that alone, bank lenders could cut borrowing base, keep only the high-margin customers, or get out of some revolving credit facilities.”
 
 
Lack of conviction
 
Some bank lenders have already gone on offense with interim redeterminations in a bid to reduce exposure to troubled E&P companies. Alta Mesa Holdings’ borrowing base, for example, was slashed by USD 170m to USD 200m on 13 August, ahead of the typical 1 November fall redetermination. Alta Mesa Resources filed for a freefall bankruptcy shortly after, aiming to find a buyer for its upstream and midstream assets while negotiating on a restructuring plan.
 
“It’s a big deal if banks are doing a redetermination on a whim, and a very negative connotation that banks are pissing off their borrowers,” said a third buysider, citing redeterminations due to substantial asset acquisition and divestiture (A&D) deals as an exception.
 
Regional banks are taking a more conservative posture as well. Mutual of Omaha Bank, for one, has been trying to offload its energy book over the past year and a half, said two of the buysiders. However, several buyside shops passed on a potential deal, citing substantial bid-ask gaps, they added. (On 13 August the bank said it had agreed to be acquired by CIT in a deal expected to close in 1Q20, according to company announcements. The new ownership could lead to a different strategy as to how to handle its energy exposure.)
 
First Tennessee Bank is also reevaluating its loan allocations and seeking to reduce its energy staffing, a fourth buysider and a third banker said.
Mutual of Omaha Bank declined comment, while First Tennessee Bank did not respond to requests for comment.
To be sure, lenders’ reassessments of risks in the oil patch are nothing new. The string of disappointing earnings and production guidance from E&P players have led to a renewed scrutiny on valuation models, with some investors applying 15%-20% discounts to the value of proved developed reserves.
 
Tapping the brakes
 
Such depressed valuations have in part contributed to lukewarm capital markets reception for operators in the sector and imbalanced acquisition & divestiture (A&D) market dynamics, where an overwhelming number of sellers are trying to offload assets and few buyers are willing to pay for full PDP value.
 
A recent example is O’Benco IV LP, which went through an extensive search for a capital raise and/or a buyer this March. However, the company failed to obtain acceptable bids, prompting its revolver agent Associated Bank to issue a notice of foreclosure in May.
 
White Star Petroleum also sought to refinance its revolver debt back in March, but struggled to do so by mid-April and lost access to its revolver in the run-up to its bankruptcy. The Energy & Minerals Group-backed company just inked an agreement to sell its assets to Contango Oil & Gas for less than USD 100m in cash proceeds, implying a steep haircut to revolver lenders owed USD 274m.
 
“Companies are used to buying assets and financing them nearly with all revolver debt, and banks are tapping the brakes on that,” another buysider noted.
 
Middle market companies are hit especially hard by the lack of exit opportunities and unfavorable capital markets conditions.
 
As such, a slate of energy-focused sponsors are looking to smash together their portfolio companies and ejecting management teams as new ways to squeeze out efficiencies.

With the exception of one large deal – Occidental Petroleum’s USD 55bn acquisition of Anadarko Petroleum Corp – A&D activity has dramatically slowed this year compared to last year. There were 156 oil & gas asset and corporate deals year-to-date through 23 September, compared to 716 at the same point in 2018, according to the BMO A&D Market Monitor.
 
Dollar volume-wise, this year’s deals amount to USD 82.7bn YTD compared to USD 60.4bn last year – but absent the high-quality Occidental megadeal, volume is down 45% year-over-year to USD 27.7bn.
 
In terms of nearing maturities, California Resources Corporation is gauging sale prospects of its royalty interests ahead of a USD 100m 5% unsecured note due in January 2020 and USD 1.6bn of maturities in 2021. Vine Oil & Gas recently pushed out the maturity of its USD 150m super-priority facility to November 2020, and it also has USD 350m first lien revolver due November 2021 and a USD 380m 9.75% unsecured note due 2023.
 
And EP Energy has been negotiating with its bondholders on a restructuring framework. The company's sprawling cap structure is led by USD 182m in stub 2020 unsecured notes due in May 2020 and a USD 629m revolver due 2021.