Shale debt crunch could intensify in April

HOUSTON – U.S. oil companies could see the amount of money they can borrow shrink significantly next April when banks reassess credit conditions amid falling oil prices.

That will reduce the available cash they need to drill pricey wells into shale basins, a painful prospect for firms that rely on high spending levels to maintain oil production and their income levels.

Unless crude prices climb back up by next spring, financial institutions will reset their assumptions about the value of oil reserves, which were last set in October, when oil traded above $80 a barrel. If that happens, the energy sector “will experience a shortfall in borrowing capacity,” said Shaia Hosseinzadeh, a principal at investment firm WL Ross & Co.

Liquidity levels in high-yield bond markets have already dropped off significantly for oil companies, as junk bond prices have fallen 18.9 percent since June, according to Barclays.

Oil companies have also scooped up billions in leveraged loans, a riskier type of bank debt.

In April, banks will have to work their way through their energy portfolios to hunt for oil companies that haven’t hedged enough of their oil production or that have too much debt, said Tony Weber, managing partner and chief financial officer at Irving-based private equity firm Natural Gas Partners.

They’re going to force the borrowers to act, and get them to sell assets or their companies,” Weber said. “Some defaults could start appearing in April.”

Oil companies typically need 20 to 30 percent more money than their cash flows allow to finance their capital expenditures, but if they can’t spend at higher levels, their pre-tax cash flows will decline. And because some companies have to pay off more debt than they have in cash, “you have a viscous cycle,” Hosseinzadeh said.

The sector is a chronic borrower, and we think that is a bad recipe for what it means for defaults,” Hosseinzadeh said.

Still, oil companies are planning to reduce their capital spending next year, especially in more costly regions in U.S. shale plays, so to an extent they’ll need less debt financing, said Adrian Reed, managing director at Berkeley Research Group.

They’ll need less liquidity as they lay down their rigs,” Reed said. “There will be stronger players, with stronger balance sheets that will continue to produce and develop their fields.”

For companies sitting on the fringe of shale formations like the Bakken Shale in North Dakota, “they’re not going to get capital,” Reed said. 

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