It's time for an updated look at liquidity in the oil patch.
In late March, I wrote a commentary on a somewhat obscure subject: oil and gas company borrowing bases.
As the backbone of reserve-based lending by creditors (banks, mostly), borrowing base levels can quite literally make or break an independent producer. While that article didn't turn nearly as many heads as my more sensational macro call, it's one of the most important subjects I've tackled this year.
Now that the semi-annual redeterminations of borrowing base levels are mostly done with, I'd like to update the liquidity situation in the oil patch. While we've seen a few listed companies turn the page to Chapter 11 bankruptcy protection, things are not as dire as I had feared a short time ago.
That's probably true of most industries. But excessive leverage has a way of biting a company in the behind one way or another, and there have been at least three rather startling steps taken by capital-constrained E&Ps in the past two weeks.
Borrowing base bruised
The crude credit crunch has hit small to mid-sized E&Ps in multiple ways. Higher borrowing costs on revolving lines of credit -- both for the committed and uncommitted portion in many cases -- are pinching the budgets of producers from Chesapeake Energy (NYSE: CHK ) on down to the smallest mom-and-pop shops.
More dramatically, firms like McMoRan Exploration have seen these credit facilities cut, which limits capital spending flexibility exactly when cash flows are at an ebb. This parallels the move by consumer lenders like American Express (NYSE: AXP ) to cut the credit limits of their cardholders.
Stone Energy (NYSE: SGY ) , an offshore shop I highlighted as vulnerable to a cut, has since seen its borrowing base drop from $625 million to $425 million. The firm thus went from having $179 million of availability to $0 of availability on the facility.
That sounds pretty bad, but this example actually highlights something that is saving these strapped explorers from a much worse fate. The banks are actually being fairly accommodative. I think the lender group could have justified a steeper cut to Stone's borrowing base if it had really wanted to put the screws to the company. But that would have put Stone in a tough spot, and at the end of the day, that hurts the lenders' prospects of recovering their loans. These banks also have no interest in taking oil and gas properties onto their own balance sheets.
Credit is due to energy banker Tudor Pickering Holt for being early to sound the all-clear on this round of redeterminations. October/November is another story, however, with commodity price hedges rolling off and leaving firms like Plains Exploration & Production (NYSE: PXP ) and EXCO Resources (NYSE: XCO ) looking vulnerable, in that bank's eyes.
Paying the piper
So the highly (but not lethally) leveraged oil patch players have been handed a pass by their lenders. That doesn't mean they're not taking some pretty desperate measures to stay solvent.
Consider the recent equity offerings by Delta Petroleum and Brigham Exploration (Nasdaq: BEXP ) . Each firm has done its best to capitalize on the recent market rally by selling a stupefying amount of stock in order to pay down liabilities. The resulting shareholder dilution is just dismal.
Delta initially offered 70 million shares, plus an extra 15% at the option of the underwriters. The final tally more than doubled that amount, with 172.5 million shares placed at $1.50. Delta previously had a touch over 100 million shares outstanding.
Brigham, a firm whose poison pill I had a hard time swallowing back in December, just recently offered 30 million shares, with the same 15% underwriter's option. Whatever the final tally, this will simply explode the prior share count. The company partly put itself in this position by completely drawing down its $145 million revolver, which its lenders have now cut to $110 million.
For some reason, the company has only committed to covering the sudden $35 million hole in its balance sheet, which would keep it 100% drawn on the amended facility. Instead, Brigham's chief executive, whose ownership position seemingly had no restraining effect here, had the audacity to boast that the offering would enable the firm to increase its capital spending budget this year.
I'm not at a loss for words here. I'm just not allowed to print them.
Finally, I have to mention Denbury Resources' (NYSE: DNR ) cut-rate sale of 60% of its Barnett shale properties last week for roughly $1 per thousand cubic feet equivalent (mcfe) of proved reserves. Granted, those are largely undeveloped reserves, and Denbury's an oil-focused enterprise that's better off deploying capital in higher rate of return enhanced oil recovery projects. But $1/mcfe is still bargain-basement territory, and is one more example of the benefits of being an opportunistic buyer in this market.