Earlier today we reminded readers about the circular (and why note fraudulent conveyance) scheme hatched by JPMorgan to reduce its secured loan exposure to Weatherford, when just two weeks ago none other than JPM underwrote an WFT equity offering in which it sold equity in the company, and which proceeds were promptly used by the company to repay the JPMorgan revolver.
We then showed that it wasn't just Weatherford: most of the "uses of funds" from the recent record surge in oil and gas equity offerings, have been used to repay the secured debt/revolver facilities, thereby eliminating funded and unfunded balance sheet exposure of major US banks.
But while lender banks are all too eager to take advantage of the brief surge in equity prices just so they can "help" their clients dilute their shareholder base so to repay the very same lender banks, they know quite well that the equity offering window is rapidly closing; in fact it will slam shut as soon as the price of oil resumes its downward trajectory.
That does not mean they are out of options to reduce their exposure to US shale, however. Quite the contrary, and in fact the "exposure reduction" is about to begin in earnest. We hinted at what it would look like in early January when we reported that already some 25 of the most distressed shale companies have seen their revolving bases slashed by as much as 50%.
These were just the beginning. As Bloomberg wrote earlier, U.S. exploration and production companies must brace for further cuts to their borrowing-base credit lines this spring, as part of the spring 2016 borrowing base redeterminations.
According to Bloomberg, Royal Bank of Canada estimated that cuts to U.S. borrowing-base credit lines last fall averaged only 6%, while - ironically enough - JPMorgan predicts that the average cut may reach 20% over the next several months. JPMorgan expects some credit lines to be chopped by as much as 50%.
What is ironic is that the credit lines with the biggest cuts will be those issued by JPMorgan.
At least 10 E&P companies had fully utilized their credit lines by the end of February, either because their capacities were cut or because they borrowed the remaining amount available to build liquidity. Bloomberg adds that companies nearing current borrowing base limits may be most affected by any further reductions. Those include Vanguard Natural Resources (95 percent), Legacy Resources and Atlas Resource Partners (both at 85 percent), Memorial Production and Breitburn Energy.
"The cuts we saw in 2015 were less than what the market expected, which may imply that the banks were trying to give these companies time to find other ways to address their balance sheet problems," Bloomberg analyst Spencer Cutter said in a telephone interview on March 12.
One company that expects significant borrowing base cuts is Memorial Production whose treasurer, Martyn Willsher, said in an e-mail on March 12 that his company expects its borrowing base to be reduced. Memorial is generating $70 million to $80 million of positive cash flow this year and has "other liquidity measures that will ensure we do not have to change our strategy due to a lack of liquidity," Willsher said.
Despite its recent rebound above $35 a barrel, oil is still below where it was when borrowing bases were reset in the fall. It has averaged $32 a barrel in 2016, versus $45 in September.
When oil fell below $30 a barrel in January, "that fundamentally altered the mindset for everyone in the industry, including the banks," Cutter said.
Furthermore, with banks facing increasing scrutiny about their exposure to the industry, "they may not be as patient this time," he said. After all, it was the Dallas Fed which made it very clear to banks to do everything in their power to reduce their exposure to energy companies without unleashing a default tsunami in the process. Most banks are confident they have held up to their end of the bargain, and now the revolver slashing will begin.
Nowhere is this reduction in bank exposure more evident than in shale giant Whiting Petroleum. Jim Volker, the CEO of Whiting, which recently announced a halt to all fracking in the Bakken shale, said last Thursday that he expects his company's credit line to be cut by more than $1 billion in an early May loan review, in a move which Reuters dubbed "the latest industry fallout from low oil prices crimping margins and fueling massive spending cuts."
For those unfamiliar, the semi-annual review of credit access for small- and medium-sized oil companies is critical in determining not only the market value of their working capital but more importantly their accessible liquidity as a result; because loans tends to be backed by the value of oil reserves, falling crude prices erode the underlying collateral and force a redetermination.
Whiting is the canary in the coalmine: the company's massive credit line cut would prove to be one of the biggest of this price downturn and be larger than executives themselves expected as recently as last month.
Whiting, the largest oil producer in North Dakota's Bakken shale formation, had $2.7 billion left on a loan revolver at the end of 2015. Its CEO Volcker said on Thursday he expects Whiting will have "at least $1.5 billion" left on the loan after the redetermination, implying a cut of $1.2 billion.
What is most troubling is that as recently as late February, or just a few weeks ago, Volker said he expected a cut of no more than 30 percent, which would have been roughly $800 million.
What this suggests is that even as the price of oil has surged since the February lows, the banks have suddenly gotten far more aggressive about trimming their unfunded (and funded in the case of Weatherford) exposure.
To be sure, Whiting is trying to put a favorable spin on it: "I'm sure we'll still have lots of liquidity after our next borrowing base redetermination," Volker said at the DUG Rockies conference in Denver. In Whiting's case, its strong position in North Dakota as well as Colorado, combined with hedges for nearly half of its 2016 production, likely worked in its favor as it met with lenders earlier this month.
As we reported previously, aware that it would lose billions in liquidity, Whiting entered cash hibernation mode: last month the company slashed its 2016 capital budget by 80 percent and suspended fracking; as part of that, Whiting plans to build a backlog of 168 wells this year that are drilled but not brought online, a step should help Whiting save $530 million this year, Volker said.
"Delaying these completions will afford us optionality to resume growth as oil prices begin to rebound," Volker said.
Unfortunately, if only judging by the lenders' sudden hardball, the price of oil is not going to rebound; quite the contrary and banks are taking every opportunity of the current bounce to reduce or outright eliminate all secured exposure.
And while Whiting may be big enough to get funding even when the next leg lower in crude hits, others won't be nearly as lucky and in a few short weeks, once redetermination season is over, we will have the full list of companies whose liquidity is collapsing alongside the plunging price of oil in what will be the most toxic feedback loop of 2016.
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But what is most ironic in this whole situation is who is on the other side of Whiting revolver cut. The bank which is rapidly slashing its oil and gas exposure, first to Weatherford and now to Whiting is shown below.