In the past few years, more than a few energy companies have filed for Chapter 11. But an unsettling number of those restructurings have involved hefty payouts to the managements that led to their failure.
In this Industry Focus clip, Motley Fool energy analysts Sean O'Reilly and Taylor Muckerman look at what's going on with this trend, some of the worst offenders in the past few years, and what it means for the companies involved.
A full transcript follows the video.
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This video was recorded on April 27, 2017.
Sean O'Reilly: More than a few oil and gas companies, producers, have gone belly up in the last couple years.
Taylor Muckerman: They went through some restructuring. They emerged.
O'Reilly: It's not quite belly up, because there's a difference between Chapter 7 bankruptcy, which is liquidation, and Chapter 11, which is restructuring, getting rid of some debt, converting it to equity, that kind of thing.
Muckerman: Selling some assets, yeah.
O'Reilly: Which, of course begs the question, what happens to the executives? It sounds like some good stuff.
Muckerman: Good stuff for whom?
Muckerman: For them, there's a lot of good news. The Houston Chronicle recently put out an article showing that 10 companies with promises to management of between 5% and 10% of new equity rewards go ahead and reserve --
O'Reilly: Of the company.
Muckerman: Yeah, of the new restructured equity structure; 5% to 10% of those outstanding shares are just reserved for management.
O'Reilly: Why are the debtholders, the bondholders, OK with this? I mean, I know they don't want to run an oil company, but still.
Muckerman: A lot of people were saying, "Hey, these guys were able to build this company to begin with; we don't want them to be offered more money from somewhere else and jump ship, and then have to emerge ... "
O'Reilly: But their company went under, Taylor.
Muckerman: I know! I know. And they have to emerge from restructuring with a CEO that might not know as much about the company. I personally as a shareholder would not be too pleased. I mean, I'm fine with the same CEO being there.
O'Reilly: Well, if you're an original shareholder, you're gone, sorry.
Muckerman: I'm fine with the CEO remaining, but not with increased share structure. And it's just a bad incentive structure, when they can make even more money than they're being given. Floyd Wilson -- $24.1 million in annual comp coming out of [Halcon Resources'] bankruptcy restructuring. Up from an average of the previous few years of $3.4 million. So almost 8x.
O'Reilly: It's good to be the king.
Muckerman: Now, within that $24.1 million, it could be higher or lower in value, because some of it is options-based, some of it is restricted shares-based, so they divest over time. But the simple fact that the predominant amount of this compensation is share-based, you might have a situation where some of these CEOs just try to roll out as quickly as possible and get themselves into the same situation that led them to bankruptcy when the oil markets sold off. Linn Energy, one of your favorite oil companies of yesteryear, their CEO, Mark Ellis, received $16 million in restricted shares post-bankruptcy. That company actually set aside 7% of shares to reward management, which, at the time of the reservation, were worth $173 million. This is a company that was one of the biggest bankruptcies in the entire energy world over the last couple years, setting aside 7% of their shares for management rewards.
O'Reilly: No words.
Muckerman: Yeah, no words. And Goodrich Petroleum, Basic Energy, among the other two that were part of that 10 that they identified. To me, hooray for them, but the incentivization is all wrong, coming out of bankruptcy, giving them vested shares, options.
O'Reilly: I wonder what happened in the last big downdraft in the '90s in the oil sector, if something like this had happened.
Muckerman: Yeah, I don't know if there was a paper out there about that.
O'Reilly: Oh, well. Bottom line -- don't worry, the executives are just fine.
Muckerman: Yeah, they're doing all right. But if maybe you wanted to invest in a company that has just restructured thinking there might be an opportunity for some significant upside, bear in mind that --
O'Reilly: Seven percent of it is going to ... [laughs]
Muckerman: They could be incentivized for rapid growth and long-term potential destruction, depending on the cyclicality of the industry.