Exploration and production (E&P) and oilfield service companies are suffering the effects of low natural gas prices, according to Standard & Poor’s.
Natural gas prices have fallen to the $3-$4/per million Btu (mmBtu) range in recent months after reaching a high of more than $13 mmBtu in July (Henry Hub).
Although companies in the oil and gas sector are accustomed to hydrocarbon price volatility, the prolonged decline in natural gas prices since the summer of 2008 has created new hurdles.
Lower natural gas prices hurt ratings on E&P companies for several reasons:
- Lower operating cash flow. Because of the hydrocarbon price declines and E&P companies’ innate high leverage, cash flows have fallen significantly in recent quarters.
- Financial covenants. As a direct result of lower cash flows, some companies are facing greater challenges in complying with financial covenants, such as debt to EBITDA tests.
- Reduced borrowing bases. Most speculative-grade companies’ (those rated ‘BB+’ or below) borrowing bases are re-determined semi-annually. As commercial banks lower their pricing assumptions, borrowing bases could decline, potentially causing liquidity constraints.
For details see Credit FAQ: How U.S. Exploration And Production And Oilfield Service Companies Are Coping With Lower Natural Gas Prices. The report answers frequently asked questions by investors about the implications of lower natural gas prices for E&P and oilfield service companies’ credit quality.
In a related report S&P sees Tough Times Ahead For European Oil and Gas Refiners
European refining activities are now exposed to what we think will be a prolonged refining downturn.
“Strength in diesel and gasoline cracks has switched around compared with 2008, and European players risk suffering the most in 2009. Visibility for oil service companies is also low as pricing pressures have increased and demand remains uncertain. Upstream-focused oil and gas companies are showing resilience, though, as evidenced by reasonable first-quarter results. ”
CreditSights has updated its Oil & Gas Capital Structure Update, which includes recent reports, earnings expectations, credit ratings, valuation comparisons, and performance comparisons.
Technorati Tags: natural gas, oil-&-gas, oil-exploration, oil-services
Moody’s says the drop in oil and gas prices over the last year may have given some US oil and gas producers an opportunity to mask production problems—as opposed to uneconomical conditions—that may have contributed to downward revisions in their reserves.
Amid the steep drop in commodity prices, the reserves considered economical to produce under SEC rules have dwindled and independent exploration and production (E&P) companies’ reported reserves have dropped accordingly, Moody’s says. Changes in pricing rules which come into effect on January 1, 2010, promise a far less volatile valuation for oil and natural gas reserves over the years.
“Last year for example, despite the enormous increase in oil prices in the first half of 2008, oil and gas prices tumbled from year-end 2007 to year-end 2008. In the case of investment-grade companies which accounted for 73% of total proved reserves, almost all revisions were price-related. Interestingly, a modest 4% of total reserves revisions in 2008 were performance-related.”
Overall, the E&P sector suffered a poor year in terms of reserves replacement. In Moody’s 54-company North American E&P universe, total proved reserves of 33.2 billion barrels of oil equivalent (boe) were revised lower from earlier reported figures by 757.2 million boe.
Around 61% of this downward revision was due to falling commodity prices; hence, companies attributed nearly 40% of their 2008 revisions to performance.
For details and company-by-company reserves see E&P Reserves Revisions: Price issue or performance problem?
Technorati Tags: oil reserves, oil-&-gas, oil-exploration
KPMG forecasts that 2009 will see a continued fall in global mergers and acquisitions (M&A) but that deal activity should slowly return late in the year as liquidity improves and attractive value is recognized in certain sectors.
KPMG’s latest Corporate Finance’s Global M&A Predictor— a forward looking survey of 1,000 leading companies’ estimated net debt to EBITDA ratios and prospective Price Earnings ratios — reveals a significant fall in 12-month forward corporate valuations and therefore appetite to do deals (down globally 22.2 percent from 15.3x end May 2008 to 11.9x at the end of November 2008). Forecast Net debt to EBITDA ratios have moved from 0.93 times to 1.06 times, a 13.5 percent deterioration, signaling a decreasing capacity to do deals.
However, our detailed analysis of the results of KPMG’s Predictor, coupled with historic M&A cycle trends, leads us to believe that there are indications that the corner may well be turned late in the second half of this year.
The Predictor has shown a decline in forward PE valuation across all sectors, with Technology (18.4x to 12.6x), Basic Materials (13.8x to 9.6x) and Industrials (15.5x to 11.1x) registering the most significant deterioration. Unlike the previous Predictor, Oil & Gas fell significantly (11.8x to 8.6x) along with Telecommunications (14.1x to 10.8x) Consumer Services (17.0x to 13.5x) and Health Care (15.5x to 12.5x). The smallest decline was the Consumer Goods sector (16.2x to 14.6x).
Utilities and Industrials continue to maintain the highest debt ratios, with net debt to EBITDA at 2.68 times and 2.27 times respectively. The Technology sector continues to show net cash which reflects a traditional balance sheet structure for this peer group but Health Care has moved from a net cash position to one of net debt.
No sectors/regions have shown improvement in both valuation and balance sheet capacity in the last six months, providing evidence that all sectors and regions have seen a decrease in both appetite and capacity.
The sectors/regions with the greatest balance sheet deterioration were Technology Latin America (0.19 times to 0.34 times), Consumer Goods Europe (0.84 times to 1.49 times), Oil & Gas AsPac (0.39 times to 0.63 times) and Oil & Gas North America (0.31 times to 0.49 times).
Technorati Tags: basic materials, consumer goods, health care, industrials, M&A, mergers and acquisitions, oil-&-gas, technology
Some weaker oil and gas companies could face difficulty funding their operations as a result of the sharp and swift decline in oil prices, according to Fitch Ratings.
The sharp drop in hydrocarbon prices at year-end 2008 may have a significantly negative impact on proven oil & gas reserve bookings under existing accounting rules, leading to increased debt/boe (barrel of oil equivalent) metrics across the sector, Fitch says in Lower Oil Prices to Pressure Debt/Reserve Metrics in 2009.
Firms with significant reserves booked under Production Sharing Contracts (PSCs)- predominantly integrated oil companies and larger independents- may see a partial offset to this as these contracts are generally structured to increase bookings under a low oil price environment and decrease bookings under a high-priced environment, Fitch says.
Currently, Securities and Exchange Commission (SEC) oil & gas disclosure rules require that firms test the economic viability of reserves based on year-end hydrocarbon prices. Although the SEC recently approved a major overhaul of these rules, including a move to 12-month average pricing instead of year-end pricing for the reserves test, these changes will not be effective for the 2008 fiscal year.
“From a ratings perspective, the impact of price-based negative reserve revisions may be muted insofar as they stem from a particular accounting rule which is in the process of being changed. In addition, it is important to note that Fitch evaluates the creditworthiness of the upstream sector throughout the cycle. However, with that said, Fitch expects that the range of negative reserve revision information will also communicate important information about an individual company’s relative asset quality.”
Fitch also notes that while negative price-based reserve revisions are not expected to affect the liquidity of most investment grade issuers, those companies whose revolvers are linked to the size and/or value of their reserves via a borrowing base could be negatively affected by downwards reserve revisions in the form of reduced borrowing capacity, which in turn may limit their ability to fund operations.
Technorati Tags: energy, oil-&-gas
The International Energy Agency has issued 25 policy recommendations it says would cut greenhouse gas emissions by 20% per year.
The IEA projects global primary energy demand could grow by 55% from 2005 to 2030, raising serious energy security and environmental sustainability concerns.
Global energy-related CO2 emissions, which account for 61% of global greenhouse gas emissions, show no sign of decline. The latest complete data of CO2 emissions indicate a 33% rise between 1990 and 2006. Between 2005 and 2006, all of the growth in these emissions took place outside the OECD region.
The dramatic fall in energy prices in recent months has helped provide breathing space for the depressed economy, but could cause delays in investment in new production, leading to a supply crunch in the medium term as energy demand grows, and slow progress in energy efficiency and the development of cleaner alternative technologies.
By adopting new energy efficiency measures, constructing green energy infrastructure and taking steps to integrate cleaner energy into the power grids, governments can lock in sustainable technologies and reduce CO2 emissions by almost 40% relative to the projected baseline emissions for 2030.
To advance global energy efficiency efforts, the IEA developed a set of 25 policy recommendations that, if implemented, could reduce global CO2 emissions by 20% per year (8.2 GtCO2/yr) by 2030. The recommendations aim to:
- save large quantities of energy at low cost
- address existing market imperfections or barriers
- address significant gaps in existing policy
- encourage widespread implementation
Details are available in the free IEA report Energy Efficiency Policy Recommendations.
Technorati Tags: energy-efficiency, greenhouse-gases, oil-&-gas, renewable-energy, utilities
The last week was one of extremes. On a positive note, five straight days of rising stock prices, driven primarily by optimism over President-elect Obama’s confidence-building announcements of his economic team led by Timothy Geithner, Larry Summers and Paul Volcker, coupled with strong signals of a moderate course on foreign policy issues through expected nominations of Hillary Clinton, Robert Gates and James Jones to key posts.
The wisdom of keeping Gates in place as Defense Secretary was underscored by the horror in Mumbai, which served as a worrisome reminder of the unpredictability and disruptive potential of terrorist attacks both to political and financial stability.
Back to the positive, the outgoing administration’s latest measures to resolve the credit crisis were generally well received, but the smorgasbord of government interventions is racking up a massive liability and looks increasingly ad hoc, piecemeal and reactive. Perhaps this is part of the reason Obama’s measured approach to everything is reassuring to the markets.
Visitors to Research Recap appear concerned that the crisis is far from over: our most popular posts this week focused on growing problems with credit card and not-quite-prime mortgage loans: Moody’s US Credit Card Performance Indicators Continue to Weaken highlighted the increase in delinquencies and chargeoffs in credit-card debt, while CreditSights warned that the “Dramatic Rise” in Alt-A Loan Delinquencies May Continue. The International Monetary Fund’s paper confirming the all-too-apparent interconnectedness of the financial world also was popular. The paper found that a Major Bank Failure Could Spur Losses of Over $1,500 Billion.
More gloomy news was featured in Moody’s Expects 20-30% Decline in Commercial Real Estate and Capgemini’s Oil Price Decline Bad News for Future Supplies. A glimmer of home came from a popular MIT paper Cap-and-Trade Can Cut Emissions Without Major Economic Hit.
Research Recap Quote of the Week:
Everything Obama is doing with his appointments is signaling continuity in U.S. policy.- Stratfor
Technorati Tags: Alt-A, banking-system, cap-and-trade, commercial-real-estate, credit card ABS, crtedit crisis, financial-system, oil-&-gas, subprime-mortgage, Zeitgeist
As consumers rejoice over sub-$2-a gallon gasoline, Capgemini points out that the decline in oil prices is very bad news for future oil supplies. In its annual European Energy Markets Observatory, Capgemini ticks of a litany of worrying developments:
- Long term investments in exploration projects require stability in oil prices. Price volatility increases investment risks.
- A big drop in oil price will render expensive projects no longer financially viable. $90 per barrel is about the threshold below which production from the extra heavy oil sand in Canada would not give a satisfactory Return on Investment. At the same time, this heavy oil is needed for the future, and investment needs to start now.
- Even if economies of Western countries slow down or even go into recession, pushing down their oil consumption, it will not be enough to offset the steady consumption growth in the developing world.
- Technical difficulties to replace current oil production with new discoveries will remain.
- Unfortunately, there is little hope that geopolitical tensions between some oil and gas producing countries, notably Russia and Iran, and the western import countries, will ease soon.
In order to comply with the forecasted energy demand growth and replace aging infrastructure, huge investments are needed Capgemini notes:
At 2% global economic growth rate, the world would need about $22 trillion cumulative investments in energy (oil, gas and electricity) infrastructure between 2006 and 20304, half of them in developing countries.
“In the previous EEMO editions, we estimated that €1 trillion investment is needed in electricity and gas infrastructures in Europe. Our report cautioned that without a vigorous construction program, security of energy supply would be threatened. Since then, raw material cost growth and difficulties in finding qualified human resources have pushed investment amounts up and delayed commissioning dates of some much needed plants, electrical grids and pipelines.”
Technorati Tags: Add new tag, electric-utilities, infrastructure, natural gas, oil prices, oil-&-gas, oil-exploration
The International Energy Agency’s latest World Energy Outlook offers a stark reminder of the challenges of reducing carbon dioxide emissions.
The IEA’s “WEO-2008″ analyses policy options for tackling climate change after 2012, when a new global agreement – to be negotiated at the UN Conference of the Parties in Copenhagen next year – is due to take effect. The analysis assumes a hybrid policy approach, comprising a plausible combination of cap-and-trade systems, sectoral agreements and national measures.
On current trends, energy-related CO2 emissions are set to increase by 45% between 2006 and 2030, reaching 41 Gt, the IEA says.
Three-quarters of the increase arises in China, India and the Middle East, and 97% in non-OECD countries as a whole.
“Stabilising greenhouse gas concentration at 550 ppm of CO2-equivalent, which would limit the temperature increase to about 3°C, would require emissions to rise to no more than 33 Gt in 2030 and to fall in the longer term. The share of low-carbon energy – hydropower, nuclear, biomass, other renewables and fossil-fuel power plants equipped with carbon capture and storage (CCS) – in the world primary energy mix would need to expand from 19% in 2006 to 26% in 2030.”
This would call for $4.1 trillion more investment in energy-related infrastructure and equipment than in the Reference Scenario – equal to 0.2% of annual world GDP.
Most of the increase is on the demand side, with $17 per person per year spent worldwide on more efficient cars, appliances and buildings, the IEA says. “On the other hand, improved energy efficiency would deliver fuel-cost savings of over $7 trillion. The scale of the challenge in limiting greenhouse gas concentration to 450 ppm of CO2-eq, which would involve a temperature rise of about 2°C, is much greater. World energy-related CO2 emissions would need to drop sharply from 2020 onwards, reaching less than 26 Gt in 2030.”
Our analysis shows that OECD countries alone cannot put the world onto a 450-ppm trajectory, even if they were to reduce their emissions to zero.
Technorati Tags: cap-and-trade, carbon-tax, climate-change, energy, global-warming, oil-&-gas, renewable-energy
A perfect storm of steeply falling demand and continued additions to refining capacity are hitting independent oil refiners’ profit margins, and the industry is expected to experience “maximum stress through at least 2009,” said Moody’s Investor Services in a report explaining its ratings downgrade of the group to negative from neutral.
While cyclicality is built into our refining outlooks, the move to a negative outlook stems from demand changes that appear to be structural and enduring.
Moody’s said the fall-off in demand is the steepest since the early 1980’s, suggesting more lasting damage to worldwide refined oil demand in coming years.
High complexity refiners, such as Tesoro Petroleum (TSO) and Valero Energy Corp. (VLO), are better positioned to ride the down-cycle, Moody’s said, and noted that refiners came into the downturn after four straight years of strong margin growth.
See Moody’s full industry outlook at “Independent Refining and Marketing.”
Technorati Tags: (TSO), (VLO), Add new tag, crude oil, demand destruction, demand-response, energy, global refining, independent oil refiners, oil prices, oil-&-gas, oil-refining, petroleum, recession, Tesoro Petroleum, Valero Energy
Russia’s financial markets have been hit hard in the current global economic crisis and its balance sheet could suffer as oil prices decline, but Fitch Ratings said it expects the country’s sovereign debt rating to remain stable.
Russia’s equity markets and credit default swap spreads have reflected greater financial stress than most other emerging markets, Fitch noted.
The world’s second-largest oil exporter and world’s largest gas exporter faces a liquidity squeeze as a result of capital outflows, falling oil prices and declining international sentiment toward Russia over its war with neighboring Georgia.
Fitch views the sizeable external debt burden and payment schedule of the Russian private sector as a significant financial, economic and rating weakness, particularly in current global market conditions.
But Fitch’s BBB+ Long-term Foreign and Local Currency Debt rating for Russia, which has been in place since 2006, has incorporated these risks to some degree.
While Fitch now expects some deterioration in Russia’s sovereign balance sheet, the agency’s central case is that the deterioration will be contained within tolerances for the sovereign’s ‘BBB+’ rating.
Fitch said the current stable outlook for Russia could change if there’s a further steep decline in oil prices, large net capital outflows, deepening banking problems, or the need for a massive bailout of the private sector.
For details, see “Russia: Global Shocks Expose Weaknesses”
Technorati Tags: credit-crisis, credit-default-swaps, energy, global-credit, global-economy, oil prices, oil-&-gas, Russia, sovereign-debt
