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"There's Just No Cash" Oil Price Increase Will Not Come Fast Enough To Save Alberta
Submitted by David Yager via OilPrice.com,
“There’s just no cash.” That’s the Coles Notes from a senior banker describing the book of oil service loans he manages for one of Alberta’s leading lenders. There’s simply not enough cash flow to support current levels of debt.
Bankers and borrowers have kicked the can down the road about as far as they can as more oilfield service (OFS) and exploration and production (E&P) companies default on their loans and seek more relief on lending covenants. While a significant oil price increase to lift all the sinking boats will surely come, it won’t happen soon enough. More of the same won’t work.
Oil industry debt is everyday news. But the discussion is about the symptoms, not the ailment.
Companies cannot borrow their way out of debt. Equity capital is only available at distressed valuations. Specialized OFS assets will fetch only a fraction of replacement cost—if somebody actually wants them. Although oil and gas reserve valuations are down by half, borrowers are being forced to sell them anyway to repair balance sheets. The last four months of 2015 will be very difficult for any company with meaningful amounts of debt. Same for their lenders, the other signatories to the loan agreement.
As the banker said, “There’s just no cash.” Here’s what it means.
The foundation of global credit markets is based upon the borrower’s capability, obligation and commitment to pay the money back. The amount of money anybody can or should borrow is dependent upon free cash. Not forecast cash flow, not earnings before interest, taxes, depreciation, and amortization (EBITDA), not good intentions. Free cash. How much money is available to service debt after all the other bills are paid. This is the key factor behind every credit application, from a car loan or home mortgage to an operating line of credit or senior secured term debt. The more free cash you generate, the more you can borrow. When free cash drops, the opposite is true.
But what happens when an entire industry can no longer service previous levels of debt?
ARC Financial produces a weekly chart calculating revenue, spending and upstream cash flow for the entire Canadian E&P sector for the current and preceding 14 years. Selected data has been reproduced below. MNP added 1998, 1999 and 2000 from prior reports. ARC calculates total revenue from all oil and gas produced, then deducts direct lifting and operating costs, taxes and royalties and the administrative cost of running the business. The result is “after-tax cash flow,” which is the free cash available for exploration, development, dividends and, of course, debt servicing.

Gross revenue from production sales is in blue and after-tax cash flow in red. The green line is 2015’s estimated cash flow compared to prior years. The figures are not corrected for inflation.
While the 2014 numbers aren’t finalized, ARC estimates total revenue was an all-time record $149.2 billion, generating after-tax cash flow of $67.1 billion, the second-highest in history. Combined with capital inflows from debt and equity and inter-company transfers, E&Ps invested $75 billion on conventional and oilsands capital expenditures (CAPEX, not shown). CAPEX in 2014 was also at an all-time record which created fabulous revenue and earnings for OFS.
This year is brutal. ARC expects revenue to plunge 33.6 percent to $99 billion, the lowest number since 2009. Except for the recession, you have to go back to 2004 to find total revenue that low. But because today’s production mix is increasingly composed of high-cost oilsands, cash flow is expected to be only $28.9 billion, 43 percent of 2014’s levels. This is the lowest level of after-tax cash flow generated by producers since 2001.
ARC’s estimated CAPEX this year is only $39.1 billion, 52 percent of last year’s levels. That’s why the active rig count is the lowest in years.
If the whole industry only has 43 percent of 2014’s cash flow, then in theory it can only carry 43 percent of last year’s debt. Of course, debt is not evenly distributed but the point is clear; the industry’s macro balance sheet is under severe stress. When Canada’s Big Six banks reported their earnings for the third quarter ended July 31, 2015 it was noted these lenders had total exposure to the upstream oil and gas industry of about $44 billion. Including other sources of debt (bonds, other banks, equipment leasing companies), this figure is likely only a fraction of total obligations. It could easily be $60 billion, probably much more. With so many private operators complete figures are impossible to compile.
At current oil prices, too many producers are not generating enough free cash for their debt levels. For oilsands, some bitumen is undoubtedly produced at a cash loss. Success at current prices is based entirely on geology. Some reservoirs are less price sensitive than others. Some E&Ps have less debt than others. Hedges on future production locked in last year at much higher prices cushioned the problem. As they expire, they cannot be replaced.
When you see reports that some producers are cutting staff, slashing dividends and selling properties, that’s because they’ve hit the debt-to-free-cash wall. OFS is also in tough shape. E&Ps have demanded suppliers cut prices and vendors have complied. Free cash from operations is either nominal or non-existent. Some are in default, some are in special credit and some are insolvent. Service companies are also slashing or cancelling dividends. Like E&Ps, you pay your shareholders AFTER you have paid your banker.
So, if too many outfits are seriously over-levered for current prices, now what? How this affects different companies is as diverse as the companies themselves. The quickest way to de-lever balance sheets is to sell things—either shares or assets—to raise cash. But to whom? At what price? What if this can’t be done?
Lenders are also in this mess up to their nostrils. They’ve been hoping this problem would just go away, a strategy with significant merit considering the alternative. The first quarter of 2015 was mostly shock and awe as prices tumbled. Where’s the bottom? It came on March 17 when benchmark West Texas Intermediate (WTI) crude closed US$43.39. Or so everyone thought. The first quarter average price was US$48.54. Awful, but surely it couldn’t get worse.
The second quarter looked promising as WTI recovered significantly, reaching US$61.36 on June 10. The average price in Q2 was US$57.85. There was optimism that the worst was over. Borrowers requesting covenant waivers and forbearance letters were, for the most part, accommodated. No need to panic. Rising oil prices saved the day in 2009. Perhaps this would happen again.
But the summer of 2015 has been brutal and set the tone for the rest of the year. Oil started to slide in July, averaging only US$50.90, and fell further in August until WTI reached a new six year low of US$38.22 on August 24. It closed on Friday September 4 at US$45.77. Futures markets, which showed materially higher forward prices earlier this year, indicate few believe crude will recover soon. The October 2016 WTI price was only US$51.59 on September 4. October 17 was US$55.47. No hedging opportunities now.
What will lenders do? When Canada’s Big Six banks reported results for the quarter ended July 31, 2015, they declared Gross Impaired Loans of $13.8 billion, about $1.8 billion more than the same period in 2014. They set aside more funds for bad oil and gas loans but also published explanations of how their oilpatch exposure was manageable. But things got much worse in August. This figure will surely rise for year-end reports prepared as of October 31, 2015.
In the next few months, non-performing loans (offside of covenants) will be split into two categories: salvageable and hopeless. The former could live to fight another day. The latter may end up with new owners, new lenders or completely insolvent with assets auctioned to the highest bidder.
Salvageable loans will be those where management has demonstrated its understanding of the seriousness of breaching covenants and will have done everything possible to work with the bank, keep the credit in place and preserve shareholders’ equity. This includes cutting costs, slashing or eliminating dividends and raising equity or selling assets to reduce debt and de-leverage. Key elements include lender relationship management, presentation of all relevant data, credible forecasts and respect for who is really driving the bus. Covenants will be amended and stretched. There will be a serious effort by lenders to keep these borrowers and loans solvent to maintain the debt as an asset on their own balance sheets.
Hopeless loans will be dealt with increasingly expeditiously. These are companies with business models that no longer work or companies which are unable or unwilling to present the information lenders require to further amend credit terms that have already been amended. Impossible demands for cash will be made from asset sales or equity injections. When this can’t be done, the file will be moved to special credit. There, the lender will do whatever it must to recover as much cash as possible. Options include selling the debt or the assets at whatever price can be secured. Shareholders’ equity will be zero, current management will likely be replaced and companies may disappear.
Back in the last half of the 1980s, things were equally awful. Then, at least one major bank converted its loan to a drilling contractor to equity, in the form of preferred shares, coined “distress prefs.” The covenants were as rigid as the debt, but it worked. Whether lenders and borrowers will become this creative this time is not yet known. The story goes the largest drilling contractor in Canada in the 1980s was the Royal Bank of Canada. It’s safe to say they don’t ever want to get back into this business.
There are significant pools of capital – equity and debt – waiting patiently to exploit opportunities. Valuations and calling the bottom have been major obstacles. Lenders will take care of that. Owners and equity holders on the wrong side of their debt will no longer be in a position to dictate price or value. Deals will get done.
There is great remorse on all sides. Companies are realizing when business was good they got greedy and tried to grow faster than cash flow permitted, and used debt instead of equity to lever shareholder returns. Lenders are realizing they loaned money to management teams which talked a good story but in the end didn’t have the business model or know-how to manage the company through a serious and prolonged slump.
To remain competitive, the Canadian oilpatch must seriously de-lever. Everybody – lenders and borrowers – will be taking a haircut until total debt is in line with free cash. Many companies will become “second owner businesses” as new lenders or owners restructure and reduce debt until it reaches a level the market can support.
It would be great to be wrong but oil prices will not solve this problem anytime soon.
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Good, maybe Alberta can go back to looking like in the picture.
Employees of those companies make big money. It's a high income, hyper-consumption racket. When times are good and oil is priced high, nothing can go wrong. When things go wrong and the oil price falls, they cry too much taxation.
“a senior banker describing the book of oil service loans he manages for one of Alberta’s leading lenders”
Yep, soon it will be time for the banking racket to scoop up the assets for pennies on the dollars that they counterfeited in the first place.
That's how dumb I am. I thought the banks would choke on that oil debt. They are laughing all the way to...
Alberta pays ~$40B/yr total in taxes to the feds - only $19 billion is spent on Albertans - the rest goes to "transfer payments" to other provinces...such as Quebec, with their $250B debt...annual debt servicing is $11B...almost equal to what they get from Alberta.
Too bad Alberta's would-be emergency fund is simply donated to bankers - like a lot of things.
Equalization payments are economic illiteracy and only enables prolifigate spending by other provinces that they can't sustain while bleeding productive provinces dry.
Equalization payments are economic illiteracy and only enable prolifigate spending by other provinces that they can't sustain while bleeding productive provinces dry.
That's the whole idea. Let the little companies go out and take the risk, kill the price, then buy them up on the cheap.
this is only the beginning and all to plan, on the sign posts up ahead? default. they will have plenty of company on their road.
I'm one of those employees and over half of my gross income is paid to various government taxes. But people like me who have lived in Alberta for a long time realize that the economy is bust and boom and plan accordingly. Stack is high and debt is low. Any company that has been around a while will be set up the same way and waiting for the opportunities that occur when the bust happens. As for the get rich quick gang... they're shit outa luck.
Meanwhile there is wheat to harvest and calves to wean.
Life sucks when you don't own your own printing press. If oil exploration and service companies had one they'd be printing until the bearings melted out of it.
They need the ones that DCRB sells to the FED. Those ceramic ones dissipate heat like no other.
pods
Debt
Misery to mankind
"Companies cannot borrow their way out of debt."...Can Countries?
Defunct ENRON OIL. Located Houston TX. Is the scenario. Country (Enron company) collapses. Each city and states (employees) will secede and take the debt (once an asset) And crumble for the loses...
I am Shocked that supply and demand are allowed to work at all. Banking Oligopoly get to work!
LOL!!! Alberta is beautiful, trust me, the people who live there, especially year round, do not need to be "saved".
The bankers/financiers are starting to get worried, as they should. Fuck em.
Correct!!
I've lived in Alberta since 1977 and can coroborate your message. Yes many in the oil patch are fucked, they were the hangers on and start ups but the big players are just trimming dead wood and squeezing pricing back down to lower rates. Ie. trucking used to be $220 / hr to hire an owner operator it's now $150-160/hr where it should be.
That's Lake Louise in the picture. It's hard to worry about the world when you're sitting in that spot.
Actually, I believe that's Moraine Lake only a few miles down the road from Lake Louise. The beauty of those two lakes are ineffable. For someone who's never been there, it may be hard to believe but those photos are not doctored. I was able to see them last year with my own peepers for which I still feel blessed. Can't wait to make it back to Banff & Jasper Nat'l Parks. So much better than a beach.
Hubbert's "Rocky Plateau" - get used to it, this is what the top of the production curve looks like.
It's simple, the E&P industry needs a 30 billion dollar subsidy. That's like 900 dollars per Canuck. If the oil companies give all of us free energy for life then I agree to give them a 30 billion dollar subsidy every year.
My CDN gas is currently 97 cents (CDN) per liter.
Thats 97 X 4.54 = $ 4.40/ Imperial Gallon (160 oz)
= $ 3.52/ American Gallon (128 oz)
= $2.65 USD/US Gallon
I'm seeing gas in Michigan at $1.92 USD/US Gallon
We subsidize already...
That is luxury!
http://www.finviz.com/quote.ashx?t=CXO&ty=c&ta=0&p=w&b=1
Funny, the current stock price of this given present/near future oil pricing.
Add to that, basically the entire pipeline complex is a complete disaster and has way, way farther to fall.
Don't worry about Warren Buffet's business. He can switch from shipping oil to transporting refugees by simply rinsing out the tanks.
There are these pods you send down the oil-pipes. Each pod holds one refugee. I saw it in a James Bond movie.
I guess what I mean is nationalize the oil companies, build refineries, and stop selling OUR oil to the USA. Elect Trudeau!
PS. Close down the tar-sands.
Yeah right, eh, elect Trudeau, and 'the books will balance themselves'.
p.s. Teaching 'drama' to grade school kids does not qualify Trudeau to
manage the Canadian economy.
Note: China owns over half of Athabaska oil sands.
Where did you get that ridiculous number?
"The analysis, which also used production data in January from OilsandsReview, a publication that focuses on unconventional oil issues, found $11.7-billion of investments in oilsands production between 2007 and 2011 were coming from China, making up about 16% of the total investments of $73.6-billion in that time period."
http://business.financialpost.com/news/majority-of-oil-sands-ownership-a...
I read an article more than a decade ago that stated that China was the principle owner of Athabasca. I took a look at more articles and now realize that they meant 'foreign investors'. I now realize that the foreign investors include more than China's contribution in the mix. Further, my CA father used to work for National Revenue CANADA and he told me years ago that China was a major consumer of that resource, and would be expected to be a major consumer far into the future. I did not realize that the percentage they owned was lower than 50%. China Oil Inc. was going to buy in on Athabasca Oil Inc. to the tune of 60%, but that deal seems to have fallen through since 2012. Thanks for the correction, opport.knocks.
Trudeau?
So you are not a merit based voter but rather impressed with someones hair.
Good to know your comment reflects your full ignorance.
Debt Jubillee. It is the only solution!!!!
The defunct frackers............
Just caught Jack Ma on the teletube. Says "Trust me."
Seems to be the wall street refrain lately, but how can they keep a straight face?
How about selling some moar 30 year oilbonds?!
Im sure China is interested.
What is the problem? Debt is created out of thin air and can go away the same way. What I do not understand is how the banks can think that they have some claim on the assets after they have done nothing except making a few ledger entries and mumble legal incantations over a few computers. It is insane.
Forcing the securitization of phantom debt with real value adding assets is insane and criminal.
When loans were first set up, the banks would lend excessively, creating banknotes. Then eventually the holders of the banknotes would come to the bank and want the gold that these notes represented. The bank, having created more claims on gold than gold in the vault, would go bankrupt and the banksters hung or run out of town.
However this was not the end of the story because the sovereign was a king who would need money from time to time to defend or extend his kingdom; but raising taxes could result in his overthrown.
So Bankers changed the system by allying wth the soverign who gets to run deficits and in return gives the banks the monopoly power over the money which is demanded for to pay taxes, thus giving it intrinsic value, but becaue it is excessively produced, it can no longer be turned into gold at a fixed exchange rate. Eventually the soverign is just a middle man who gets forced out and the country's government is replaced with 'democracy' or 'republicanism' resulting in candidates who are need money and or can be bribed by the bankers. The Bankers thus take over completely.
The system goes on until the citizens become informed and concerned enough to change it by having their government take control of the central bank and the supply of money. And that takes revolutionary energy and zeal that is sorely lacking at the moment.
And the King takes his rightful throne.
I am, of course, speaking of Elvis.
(He's not dead, he just went home.)
but oil prices will not solve this problem anytime soon.
sure it will - rising prices lift all boats!
the debt is a function of the age of the players - those still in the business from 1986 - dont take on the leverage - too painful to go thru again and they know the down price inevitably comes and they can buy the assets cheap
but there are few in their 60's still in the game - so the leverage builds and bankers are young and interested in commissions and so it goes
having your life's work blow up is a heart wrenching experience - I saw it in 86' - leverage on fixed assets is the only way for the young to build a stake and serve their customer base - so they lose as the cycle completes itself and Swartzman et al come in and buy for free
Larry Tisch made the buy of the 80's in offshore equipment - but he owned a insurance company which was patient money and could wait it all out
this cycle will be worse than the 80's because China accelerated the commodities boom and the Fed put it into overdrive with ZIRP - that fuel wasnt there in the 80's - US Treasuries were 10% +++ peaking at 17% - so the catalyst wasnt there
it will be very bad this time around
Just before a national election Prime Minister Stephen Harper is desperate to hold onto his seat in his home Province of Alberta,which Provincially just voted in a left wing socialist party(NDP).He just announced a budget surplus to keep his promise of balancing the nation's budget but transferred ruffly 175 billion onto the overall deficit that the country holds.Previously he bailed out the Canadian banks and took their bad U.S. real estate loans and put them onto CMHC's balance sheet.If you cannot come up with a proper down payment when buying a home you have to buy mortgage insurance through Canada Mortgage and Housing Corporation.Now orinary working people must pay increased insurance premiums in order to pay back what Canadian banks did during the great financial crisis.That's the principle laid out by a far right-wing neo-con government.Dont forget that Harper served as the CIA puppet visiting Ukraine right after the CIA Director was there.He continues to ship arms there which go into the hands of neo-nazis elements and Chechen rebels that are in the Ukraine on behalf of Obama and the neo-cons in Washington.He was simply trying his best to please as a servant in order to try anything to get Keystone-XL Pipeline through across the border.Very pitiful and Obama simply wiped his ars with Harpers face.
http://www.debtclock.ca/
Harper touched the wailing wall, he is zion, he doesn't work for Canada.
In your pea sized bigoted brain is it possible to be openb to other religions without it affecting your loyalty to your country?
Just wondering if one could be a US catholic presdient? Or did JFK merely work for the Vatican?
In your pea sized bigoted brain is it possible to be openb to other religions without it affecting your loyalty to your country?
Just wondering if one could be a US catholic presdient? Or did JFK merely work for the Vatican?
????
what the hell does that even mean?
Harper's alternatives aren't that much better - socialists like trudeau and mulcair, who'll destroy Canada much like how notley (ndp socialist) is destroying Alberta. A vote for liberal trudeau or ndp/socialist mulcair, is a vote for exponential job losses.
But why do we need jobs when the government will increase taxes on the evil corporations and give our money back to us via social programs?
Because everywhere things are becoming better, everywhere things are becoming merrier!
"You can be your own private NSA" (Remember that Harper's Economic Action Plan funnels money to CSIS.)
http://www.cbc.ca/news/technology/how-new-data-collection-technology-mig...
Canada's only other products are beaver pelts, wool blankets, and that friction tape for hockey sticks.
They have been thumbing their noses at the US and our economy for years.
Boo hoo.
The US economy is propped up & corrupted beyond all hope. The US has a failed economy, and failed Economists, as well as a failure for Central Banks. Old Yeller is not exactly a paragon of virtue when it comes to CB flexibility, eh. And Bernanke, Paulson, and Geithner, did not exactly instill great confidence during their tenure IMHO. Paulson singlehandedly sold you, and your future, down the road to the Investment Banking industry, and Gates & Buffett are not exactly 'masters of the universe' anymore. That leaves Greedscum, Larry Samuelson Summers, and Boob Rubin, Jon Corzine, et al.
Note: Most rational investors would understand why CANADA thumbs it's nose at the incompetent American Economists that cannot understand basic accounting procedure, or basic mathematics, let alone Quantum Behavioural Economics, Quantum Mechanics, or Quantum Physics, eh.
"There’s simply not enough cash flow to support current levels of debt.'
Not to brag, but I believe I said that same thing a long time ago! Why are bankers behind the ZH readers?
But what happens when an entire industry can no longer service previous levels of debt?
The companies go broke, the wells are capped and the roughnecks go back to New Foundland, just like they always have.
This has happened before you know.
All you young puppies writing on this site as if this is the first time this has all happened....it isn't and it won't be the last either.
Squid
I lost mine in 1982
True. Although when it does happen, housing prices go down enought that many people walk away from their mortgages - a deflationary event.
But Alberta isn't addicted to oil money like the Saudis. Its very diverse in fact.
Wow! You don't think that this plunge in oil prices was ochestrated by the Saudis and other Gulf producers to bankrupt North American producers with the goal of buying their assests up for pennies on the dollar and maintaining their monopoly and pricing power?
They're not going to build those Nat. Gas LNG pipeline from Fort St. John, BC, to the coast to the LNG Terminal that doesn't exist yet. No Nat. Gas pipeline, no LNG sales to China/Asia! Not that they'd be big buyers right now anyways..are the Americans going to let Canada ship LNG to their enemy, China? No, it won't get built until the geopolitical risk is off...and that won't be for quite some time.
I just sold my house in the NE B.C. Nat. Gas patch in July, thanks to Zero Hedge for helping me see all this coming or I'd be just like all the "Hurtin' Albertans" out there!
A message to all my Grande Prairie, Alberta friends out there...Jim Rogers says Agriculture is the next big thing and is throwing resources there...you guys are all part time Ranchers, time to kick it up a notch!
The Alberta creedo,
Dear God, we know we pissed it all away the last time (1982) but, we know you will give us another chance.
So, God....lets get the show on the road.