Economic – Oil + Gas Monitor http://www.oilgasmonitor.com Your Monitor for the Oil & Gas Industry Mon, 15 Aug 2016 06:57:26 +0000 en-US hourly 1 https://wordpress.org/?v=4.6.9 The cleaver, the scalpel, and then, finally, some glue… http://www.oilgasmonitor.com/cleaver-scalpel-finally-glue/ Mon, 01 Aug 2016 06:30:37 +0000 http://www.oilgasmonitor.com/?p=11411 Joe Gibney | Capital One Securities A look at operating model adjustments, M&A, and collaboration within the oilfield equipment manufacturing sector through the industry decline of the past year and a half.   The butcher’s bill for the whole of the oilfield services sector has been extensive in the wake of WTI’s mid $20s bottoming […]

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August 1, 2016
Joe Gibney | Capital One Securities
A look at operating model adjustments, M&A, and collaboration within the oilfield equipment manufacturing sector through the industry decline of the past year and a half.
 
The butcher’s bill for the whole of the oilfield services sector has been extensive in the wake of WTI’s mid $20s bottoming and the resulting CAPEX austerity. With liquidity preservation understandably serving as priority one for E&P customers during the maelstrom, short-cycle activity ground to a standstill and orders – both via capital equipment deferral/cancellation and inventory cannibalization for consumables – dried up completely. The recent WTI recovery to the mid $40s has only just now begun to shake loose an increase in customer inquiries. While the rig count has shown signs of modest uplift with speculation regarding the return of completions work, most operators are still characterizing the inquiry lift as yellow shoots – that is, the phone is ringing more but it’s not yet meaningfully translating into purchase orders or booked jobs.

The butcher’s bill itself is staggering. The U.S. total rig count bottomed 77% from peak levels in the fourth quarter of 2014. The international total rig count is down 33% and still declining. The global contracted offshore floating rig count is down 36%. Fifty-eight floaters have been retired since October 2014 (equivalent to the amount retired over the last 30 years). Full year 2015 industry-wide subsea tree orders were down 34% year over year, following 58% declines in 2014. National Oilwell Varco’s (NYSE:NOV) Rig Systems orders have averaged $93 million over the last two quarters versus $2.6 billion per quarter at the peak.

This is where the industry began using the cleaver, as its initial operating response was blunt force trauma, attempting to match headcount reductions and facility closures with the plummeting drilling activity. General and administrative spending trends from peak 2014 levels serve as a reasonable proxy for this cleaving, with average reductions across our covered OEM universe around 35%. NOV alone has closed more than 200 facilities, and every operator has looked at ways to re-trench into core facilities, insource machining hours, move to single shifts, and reduce wages.

As the velocity of the activity and order declines slowed, however, we began to see operators put down the cleaver and pick up the scalpel. This has been a more challenging and nuanced exercise that involves ascertaining what level of forward capacity is appropriate and trying to balance the last 18 months of acute cost control against the need to preserve the ability to participate in the inevitable upcycle. On the short-cycle side, this is more of a near-term geographic positioning exercise with restructuring of management and service-line consolidation shifting to a desire to keep field personnel and positioning them in basins likeliest to see the most near-term improvement. How much incremental activity can be absorbed by this level of field personnel is an oft-discussed topic but most operators seem confident they can absorb an activity rebound back to more than 800 rigs in the United States without adding much in terms of incremental cost other than logistics, transport, and overtime. This is a balancing act that pales in comparison to longer-term structural planning on the manufacturing capacity front.

Instilling lean initiatives and de-layering organizations in order to deliver sustainable cost reductions are the main drivers of the ongoing scalpel moves within the OEM space. Standardization of processes (machining, assembly, testing) enables consolidation into fewer locations and greater efficiency. These initiatives are underway within FTI’s Subsea division, within NOV Rig Systems, and across the board for all OEMs with a global footprint. Forum Energy Technologies (NYSE:FET) set a goal to consolidate global manufacturing and distribution facilities by 20% without sacrificing capacity. This consolidation, along with procurement initiatives, is driving a targeted $100 million improvement in cost structure that is expected to increase margins in a recovery scenario by 500 basis points. Some costs are inevitably going to rise with an upturn but these scalpel initiatives should enable a core of permanent cost reductions that should lead to healthier incremental margins in the upturn.

A cyclical recalibration of this magnitude requires putting everything on the table and rethinking prior accepted processes, considering out-of-the-box thinking to grow share in a smaller opportunity pool, and working with customers to realize the needed cost reductions that will lead to acceptable project economics. Overhead and price reductions only go so far – fundamental changes in development approach are also required. This is where the strategy through the downturn shifts to the glue, as collaboration, consolidation, and M&A now begin to coalesce.

The genesis of this thinking can be seen in the August 2015 Cameron-Schlumberger merger (following their OneSubsea JV which became operational in June 2013). Some aspects of this transaction were hard to reconcile: a greater than 56% premium and marrying a service provider with a manufacturer seemed incongruous in terms of culture and process, and CAM’s drilling franchise was (and is) an overhang given order/throughput challenges. However, in an effort to achieve total well cost savings with better integration of equipment and service, SLB had already progressed from reservoir characterization to downhole tool and rotary steerables integration, SII/M-I bits, and fluids, leading to a fully integrated downhole system along with tucking in select completion hardware into the service offering. With a target of $600 million in synergies and a “pore-to-pipeline” emphasis on product and service deliverability, CAM carries this progression to its next iteration – marrying downhole/reservoir expertise with manufacturing process/installed base, overlaid with instrumentation/automation to create an end-to-end product-service concept with significant scale synergies.

The FTI-Technip collaboration via the Forsys JV (announced March 2015) that progressed to a full company combination (announced May 2016) provides another collaborative example. Similar to CAM-SLB, questions arose: a long wait on $400 million cost synergy realization, uncertain customer embrace of the EPIC/integrated approach, and how onshore will benefit from the integration beyond a more bundled product/service sales approach. Despite these questions, the original intention of Forsys remains: demonstrate that early involvement in the FEED stage, standardization of products and interfaces, technology sharing, and end-to-end coordination of subsea production systems and subsea installation (which constitute approximately 1/3 of offshore total well costs) can result in meaningful cost reductions of more than 25%.

In July 2016, NOV and GE Oil & Gas also furthered the collaborative agenda with the announcement of an agreement to jointly develop FPSO solutions. This brings together NOV’s product positioning on turret mooring systems, flexible risers/flowlines, composite piping, cranes, and fluids pumping & treatment with GE’s positioning in topsides power gen and compression. It’s been slow going on the FPSO front, as NOV has built its product suite via a series of acquisitions, primarily APL, Prosafe, and NKT going back to 2010 with the aim to create a standardized FPSO kit similar to a deepwater rig package. The company remains involved with several FEEDs, bidding both separate turret/mooring systems along with a full standardized package. Marrying up the power gen/compression piece of GE completes the full topsides package and, with standardization of interfaces and supply chain efficiencies, can now more meaningfully drive reduced costs.

The final application of glue will inevitably center on a return to bolt-on M&A. Bid-ask spreads have understandably been misaligned for the last 18 months, as all prospective deal-making parties have been searching for the bottom and some sense of the pace of initial recovery. M&A historically begins to pick up as activity inflects off the bottom and we are now only in the nascent stages, as the free cash flow and liquidity survivors of the space look to expand product portfolios and market share.

While smaller in scale, the recent NOW Inc. (NYSE:DNOW) acquisition of Power Services (finalized June 2016) demonstrates an effective combination of innovative thinking coupled with market share-driven, bolt-on intent. The acquisition bolsters valve content with spooling and modification capabilities and more meaningfully pushes DNOW outside its distributor core and into fabrication with Power Services’ modularized tank battery solutions. This provides DNOW with a more competitive turnkey solution to well completion sites and potentially serves as a differentiator to garner market share in a smaller North America upstream opportunity set.

It’s been a challenging 18 months for the industry, with the velocity of commodity and activity declines making this cyclical downturn one of the most severe in history. But with the cleaving behind us, select scalpel work being finished up, and the first signs of meaningful glue being applied, we’re all looking forward to hopefully better days ahead as a new upturn inevitably begins to coalesce.

Disclosure:

Securities products and services are offered through Capital One Securities, Inc., a non-bank affiliate of Capital One, N.A., a wholly-owned subsidiary of Capital One Financial Corporation and a member of FINRA and SIPC. The products and services offered or recommended are: Not insured by the FDIC; Not bank guaranteed; Not a deposit or obligation of Capital One; May lose value.

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Thriving and Surviving in Oil & Gas http://www.oilgasmonitor.com/thriving-surviving-oil-gas/ Wed, 27 Apr 2016 06:37:32 +0000 http://www.oilgasmonitor.com/?p=11308 Dan Turner | Kepware Technologies It’s been happening all our lives. Oil & Gas prices fluctuate, and with the ups and downs, the industry adapts and looks to thrive—and more recently, to survive. In 2015, when oil fell to its lowest price in seven years, more than 100,000 jobs were shed and organizations looked to […]

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April 27, 2016
Dan Turner | Kepware Technologies
It’s been happening all our lives. Oil & Gas prices fluctuate, and with the ups and downs, the industry adapts and looks to thrive—and more recently, to survive. In 2015, when oil fell to its lowest price in seven years, more than 100,000 jobs were shed and organizations looked to slash billions in spending.  It’s a cycle. It always has been, and always will be. Despite this fact, there is technology on the horizon that can help organizations make right-size investments during the survival phase.

A novel approach to survival in a volatile market with thinning margins is to do more with less. Automation, monitoring, and control are not new concepts, nor are predictive maintenance and resolving high-frequency maintenance issues. While many objectives remain constant, one major change introduced in the past few years is the ability to flexibly store and mine increasing large volumes of field data. Data is expanding at an exponential rate due to the advancing horde of intelligent, Internet-connected devices that are ready to serve up their data for analysis.

This trend will only continue as the Internet of Things (IoT) grows from concept to implementation. For background, the IoT is essentially the network of Internet-enabled devices and the communication that occurs between these objects and other devices and systems. At Kepware, we are already seeing the IoT become a reality right before our eyes—particularly for customers in the Manufacturing, Building Automation, and Energy Management verticals. According to Cisco, the number of Internet-connected things will reach 50 billion by 2020, with $19 trillion in profits and cost savings recognized from the IoT over the next decade.

More and more organizations are realizing the value of the IoT through monitoring, control, optimization, and analysis. New vendors and technology entering the industrial market are driving down the cost of automation, data flow, and handling, which in turn provides savings to end users and enables system improvements. This is where doing more with less becomes important and we are able to become more efficient—squeezing every bit out of every asset at our disposal.

While the up-front cost of an IoT solution is something to consider, the investment is small compared to the process improvements made possible by the ability to make good, data-driven decisions. Furthermore, in an industry where buying and selling assets is as common place as drilling, fracking, or filling your car at the pump, maintaining servers and licenses throughout the lifetime cost of a solution becomes a moot point.

While the data systems may not be the largest investment an organization will face, it is an optimizable one that can be maximized with highly flexible and expandable Cloud platforms. For example, it’s not uncommon to double the size of your assets during a growth period. If you have a fully functioning system, it rarely—if ever—is sold in the sale alongside the field assets. After the sale, you have less assets, but still hold a full-size automation and monitoring solution with licenses that need to be updated, annual service contracts that must be paid, and out-of-date server hardware that will eventually need to be replaced. Now imagine instead that the cost of data and information flow could be adjusted based on the size required by the current asset owner. That’s the value the Cloud brings to O&G.

As we continue to navigate the natural ebbs and flows of O&G, the organizations that can master and harmonize the cacophony of the most data, will win in all aspects of the industry. Companies that find ways to do more and produce more with less will do well no matter what phase of the cycle we are in. Less cost handling and more automation mean more production—and ultimately more product flow to the customer.

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Oil and Gas Cost Savings: Time is the Most Valuable Commodity http://www.oilgasmonitor.com/oil-gas-cost-savings-time-valuable-commodity/ Mon, 18 Apr 2016 06:02:48 +0000 http://www.oilgasmonitor.com/?p=11258 Michael G. DeCata | Lawson Products Focus on what you can control.   The historic decline in the price of oil, which has dropped 70 percent since the summer of 2014, brought with it operational challenges for oil and gas enterprises, including unprecedented headcount and CAPEX reductions. New performance strategies ensuring production uptime, particularly in […]

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April 18, 2016
Michael G. DeCata | Lawson Products
Focus on what you can control.
 
The historic decline in the price of oil, which has dropped 70 percent since the summer of 2014, brought with it operational challenges for oil and gas enterprises, including unprecedented headcount and CAPEX reductions. New performance strategies ensuring production uptime, particularly in aging assets both upstream and downstream, and establishing efficient workflow processes are vital to improved and profitable business operations, returning some control in a struggling climate.

Maximizing productivity is critical to reducing the market’s impact on financial performance. And there is one metric that is preeminent over all others: time. Whether you consider machine time or labor, accomplishing more per unit of time is the difference between succumbing and surviving. And when the market regains its footing, accomplishing more per unit of time will mark the difference between average profits and superior profits; between competing and winning.

In a downturn, firms often focus on price rather than cost. Equipment maintenance is a prime example.  The value of machine uptime and labor productivity often dwarfs the price of consumable maintenance components. A $300,000 excavator that an operating company uses can be disabled by a $5.00 hydraulic hose fitting. Without the replacement part on hand, one or two days of service may be lost, pushing back production. Think about the decision to cannibalize a part from a sidelined rig, only to have it fail, potentially with a devastating safety or environmental effect. How much could a work interruption cost you?

High service, vendor managed inventory (VMI) is an approach to insuring part availability at the instant the part is needed, without the loss of production incumbent with next day service. High service VMI minimizes inventory costs associated with just in case inventory by monitoring consumption on a weekly or bi-weekly basis, improving both asset time utilization and the productivity of skilled mechanics.

Operating company extracts dramatic savings

One of Lawson Products’ largest customers is a major international oilfield services company. This operating company provides production management, the crews, infrastructure, rigs, hydraulics, casings, trucks, and more – everything required to respond to exploration and production (E&P) customer needs.

The service provider significantly improved equipment utilization and reduced turnaround times in its pressure pumping division by reducing inventory and maximizing the productivity of its mechanics.

Over the past year, Lawson has provided this customer 12,220 unique items, totaling several million pieces, at an average piece price of less than $1.00. The real-time availability and labor productivity associated with these expense items is extraordinary.

Time is money

Because of the nature of maintenance repair and operating supplies, consumable MRO in this case, it touches everything. Whether for exploration and production or operating companies, it’s all of those consumable maintenance items – drill bits, specialty adhesives and chemicals, or a broad range of fasteners – that mechanics or engineers expect to be there when they reach for them. This affects both productivity and profitability. An empty drawer or shelf could keep a critical piece of equipment offline. VMI programs done to the fullest extent directly impact an organization’s earnings.

Due to headcount reductions, we’ve seen more clients using multi-skilled crews to address resource management. Set expectations with your VMI provider to handle all of the ordering, inventory management and stocking of your bins, freeing up staff to focus on more strategic work. We have an E&P client that helicopters our sales representative out to the rig to do workspace audits, restocking and consultations on the right way to use products and demonstrate additional uses for them. Especially in distressed periods, you’ll put time back on your side by leveraging high service from your VMI provider.

Lastly, it’s well documented that a significant percentage of downtime that companies experience relate to product reliability. That’s a final area of cost savings. Selecting quality, highly engineered and more durable products gets to a lower cost overall, due to greater uptime.

There’s that word again, time.

During this challenging period in the oil and gas industry, every minute of productivity counts.

High-service VMI is the best way to squeeze every minute of productivity from your machines and make every minute of your mechanics’ time available for value-added work.

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Breakout Together – Consolidating in a Time of a Shakeup http://www.oilgasmonitor.com/breakout-together-consolidating-in-a-time-of-a-shakeup/ Mon, 07 Mar 2016 07:54:02 +0000 http://www.oilgasmonitor.com/?p=11067 Daniel Choi | Lux Research In the past year, leading oil and gas companies across the supply chain have announced plans to significantly reorganize, signaling a broader industry trend of consolidation. For instance, Hercules Offshore, a major drilling services provider that once had a market capitalization of over a billion dollars, recently filed for Chapter […]

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March 7, 2016
Daniel Choi | Lux Research
In the past year, leading oil and gas companies across the supply chain have announced plans to significantly reorganize, signaling a broader industry trend of consolidation. For instance, Hercules Offshore, a major drilling services provider that once had a market capitalization of over a billion dollars, recently filed for Chapter 11 bankruptcy. In April 2015, Shell announced its plan to acquire BG Group for $70 billion. To better understand the impact of lower commodity prices and implications to distressed players it is important to analyze trends in two common exit strategies: bankruptcy and M&A.

Current State of the Market

Generally, a company may choose to file for bankruptcy protection if its investors believe the company can emerge from the protection period as a profitable company. For instance, EPL Oil & Gas filed for Chapter 11 bankruptcy in 2009 when oil prices crashed from over $140 per barrel to about $30 per barrel. EPL emerged from the bankruptcy stronger than ever and was eventually acquired by Energy XXI for $2 billion in 2014. Lux tracked 112 bankruptcies totaling $29 billion in liabilities (at initial filing) from 2010 through Q4 2015 (see Figure 1). The oil and gas industry averaged 3.3 bankruptcies per quarter from 2010 through Q2 2014 (right before prices fell). Since then, the average number of bankruptcies per quarter more than doubled to 7.6. The average total liability per company increased four-fold from $600 million per company pre-Q3 2014 to $2.5 billion afterwards, suggesting that larger, more established companies have been filing for bankruptcy. Major bankruptcies in Q3 2015 include Sabine Oil and Gas, Hovensa (joint venture of Hess and PDVSA), Hercules Offshore, and Samson Energy, each which has at least a billion dollars in liabilities.

Chart_1

Lux also tracked 9,687 M&A deals with a total transaction value of $2.35 trillion (see Figure 2). While the number of bankruptcies has increased dramatically, the number of M&A deals has actually trended downward. Since Q3 2014, there was an average of 360 M&A deals per quarter, down from the average of 418 deals per quarter between Q1 2010 and Q2 2014. However, between the two time periods, the average size of each M&A deal has increased from $163 million to $291 million, again suggesting large players have been prime M&A targets. Major recently announced M&A deals include Repsol/Talisman, Halliburton/Baker Hughes, Schlumberger/Cameron International, Noble/Rosetta, and Shell/BG.

Chart_2

Preparing for the Future

Goldman Sachs’ most recent forecast predicts oil prices may remain at $50 per barrel through 2020. For companies seeking bankruptcy protection today, a prolonged recovery means most will not emerge profitably like EPL did when the down cycle lasted just a year. For well-capitalized players, an industry-wide fire sale could strengthen their long-term competitive positions. During this period of consolidation, suppliers should consider repositioning their product portfolio away from the needs of oil and gas producers with assets in regions that have high lifting costs like the Alberta oil sands and Venezuela’s Orinoco Belt. While there are technologies from companies like Independent Energy Partners and ETX Systems that promise to lower overall production, transportation, and processing costs, many of these are capital intensive – a barrier that may be insurmountable during a time when buyers (oil and gas companies) are shedding costs across their organization.

That said, there is still opportunity for new technologies in high potential, relatively underdeveloped plays. Tight oil and shale gas will continue to be an attractive market in North America because many major independent operators have found innovative ways of cutting costs already, from reducing nonproductive time to data-driven use cases of predicting equipment failure. Internationally, China and the Middle East continue to remain open to emerging technologies. TouGas and ChemEOR, both initially focused on the frac fluid market, have plans to expand into the enhanced oil recovery market in China. NEOS Geo, a geophysical services provider, said it has seen significant interest from Middle Eastern NOCs to find and develop gas.

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Problems Oil Executives Face – Finding Alternative Ways to Unlock Capital http://www.oilgasmonitor.com/problems-oil-executives-face-finding-alternative-ways-to-unlock-capital/ Fri, 04 Mar 2016 07:41:16 +0000 http://www.oilgasmonitor.com/?p=11060 Albert Lee | Seagora Ltd. Drill the well.  Complete the well.  Produce the oil.  Sell the oil.  Make a profit.   These are normal activities that happen every day in a producing oil and gas company.  When oil is $100 and the cashflow is growing, all stakeholders are satisfied.  So what happens when oil drops […]

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March 4, 2016
Albert Lee | Seagora Ltd.
Drill the well.  Complete the well.  Produce the oil.  Sell the oil.  Make a profit.
 
These are normal activities that happen every day in a producing oil and gas company.  When oil is $100 and the cashflow is growing, all stakeholders are satisfied.  So what happens when oil drops to $30?  Not as many wells are drilled, not as much oil is produced and not as much profit is made.

It is in these times that executives in the oil and gas industry must come up with alternative ways to maximize their available capital so they can reinvest in opportunities that provide a better return.

Idle Equipment – Money Left Behind

Over time, oilfield equipment becomes idle due to depletion of reserves, poor economic conditions, or even because new equipment was purchased for projects that have since been cancelled.  In a typical mid-sized company, the value of this idle surplus equipment could be in the tens of millions of dollars.  The capital invested in this equipment is stranded in that it has no useful value unless the equipment is redeployed or sold.

The first step in monetizing surplus equipment is knowing what you own.  Equipment inventory management in producing companies is typically a low priority, as the primary focus is to produce hydrocarbons.  This results in forgotten equipment in boneyards and warehouses all over the country.  A properly built and maintained inventory system is key in being able to make decisions on what to do with your equipment.

Selling Your Equipment – How Do You Do It?

The second step in monetizing surplus equipment is properly valuing each piece.  A piece of oilfield equipment is a depreciating asset as soon as you buy it, much like your car.  However you can sell anything for the right price.

Historically, selling oilfield equipment has been done through a combination of relationships (word of mouth), equipment brokers and auctions.  Each method has its advantages and disadvantages. Relationship and word of mouth sales are time consuming and reach a limited audience.  Typically, broker selling is also a relationship business but with a commission being charged, it reduces your cash return.  Auction sales are quite successful at selling equipment, but usually at a price far below its value.

Ultimately, the ability to expose your inventory to a greater audience will maximize the number of sales and realized sale price.

Buying Used Equipment – Should I Buy Used Equipment?

Buying used equipment can be an effective way to keep capital costs down.  In this market, there is an abundance of surplus equipment available at a greatly reduced price.  In busier times, there has been a reluctance to buy used equipment due to not knowing the condition of a piece of equipment, not having the time available to look for it, or simply by purchasing new, you get a custom product.

Oilfield equipment is not a commoditized item, but if you take the time to explore, used surplus can be purchased at 20-30% the value of a new piece of equipment.  The buyer just has to ensure a proper evaluation and inspection is conducted prior to committing to a purchase.

The surplus inventory market is an evolving business.  There are tried and true methods to sell your surplus equipment, but with the exposure available today using the internet and social media, the opportunity to reach a greater audience is there to utilize.

In current market conditions, every dollar counts to maximize return on capital.  Selling surplus equipment is one alternative for companies looking to monetize stranded assets for reinvestment.  Buying used equipment is a great opportunity to take advantage of the current surplus in the industry and spend capital effectively.

There are millions of dollars tied up in surplus inventory available to be bought and sold, so:

  • Ensure equipment inventory is complete and current
  • Assign a proper value to each piece of equipment based on age and condition
  • Conduct a proper inspection and evaluation of a piece of equipment prior to purchasing
  • Explore different methods of exposing equipment to the largest audience possible using both traditional methods and internet and social media.

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Problem in the Oil Patch – Oil, Oil Everywhere http://www.oilgasmonitor.com/problem-in-the-oil-patch-oil-oil-everywhere/ Fri, 19 Feb 2016 07:58:44 +0000 http://www.oilgasmonitor.com/?p=11018 Joel Berman| Credit Insurance International Risk Management, Inc. (CII) With the world awash in oil, the problems that it brings become ever more evident.  With prices dropping precipitously, profitability goes down with it.  With more product chasing smaller demand, it produces an ever increasing price spiral downward.  As companies and Countries continue to produce, as […]

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February 19, 2016
Joel Berman| Credit Insurance International Risk Management, Inc. (CII)
With the world awash in oil, the problems that it brings become ever more evident.  With prices dropping precipitously, profitability goes down with it.  With more product chasing smaller demand, it produces an ever increasing price spiral downward.  As companies and Countries continue to produce, as produce they must, they are caught in this trap.

Aside from brick and mortar or in this case, land and drilling equipment, the next largest asset on a company’s books are usually its’ accounts receivable (A/R).  As company’s results continue to deteriorate, the risk of the A/R itself correspondingly are drawn down into this abyss.

There is a cure.  Not a cure all, but an option that remains available to the wide spectrum of players in this universe.  Whether you are a seller or importer of crude or refined products or a service provider selling pipe or other services, the market segment that you service can be addressed by utilizing a product called credit insurance.

Credit Insurance is an insurance product that is grossly underutilized, but has been around in this country since 1897.  It insures A/R against losses due to insolvency and or delinquency:  Domestic and or Foreign A/Rs are eligible for insurance coverage.  Risk is measured and a rate determined.  It is not designed for a single debtor but that is possible if the debtor qualifies for special packaging. The policies CANNOT be used for financial guaranty s; there must be an element of trade in the underlying transaction.  Policies are traditionally written on an annual basis on a multi-debtor platform.

Credit insurance functions at two levels.  The first is the black print of the policy as stated above: provides risk Amelioration. The second level of the policy, the white print, functions as a collateral enhancement vehicle.  To the extent that a policy is put into place, the policy can be used with a company’s lender in order to get a more user friendly borrowing package. Examples:  Higher advance rate on discounted A/Rs, eligibility of Foreign A/R inclusive of sovereign risk and perhaps even a lowering of the cost of borrowed funds. That of course is a function of the company’s balance sheet and the strength of the CFO in making the case.

The cost of credit insurance is remarkably low as it is measured in basis points (B.P’s).  The cost is volume sensitive.  As volume goes up, rate comes down. There is also a qualitative component to the pricing.  Prior to the current oil crisis, the quality of the debtors was significantly stronger and the appetite of the underwriters was correspondingly greater.  Today, amid all the losses, and the continuing failures, the underwriters are more difficult to please; but not impossible.  The debtor mix and client experience will determine the appetite of the underwriter for the particular package.

One of the most important components of this is that the cost is completely tax deductible, so to the extent that the policyholder is a tax paying entity, the government shares a significant portion of the cost.

In addition to providing both the black and white features of the policy, the policy will also offer guidance to the policy holder in that the underwriter will by his approvals and or denials offer insight into the viability of the debtors submitted.  The policy will also offer growth in that the policy can allow the policyholder to ship more than they might have been willing to ship on their own.

At the end of the day, credit insurance is a financial services tool, that if used aggressively can both help a company grow safely while enhancing its’ relationship with its’ lenders.

I am not an economist but I have been offering credit insurance to my clients for 44 years across many commercial areas.  The information is applicable to most industries.  The packaging will vary with the industry and the carrier.

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Will Falling Oil & Gas Prices Finally Force a Sell-Off? http://www.oilgasmonitor.com/will-falling-oil-gas-prices-finally-force-a-sell-off/ Wed, 20 Jan 2016 07:03:31 +0000 http://www.oilgasmonitor.com/?p=10762 Keith Trammell & Seth Belzley| Hogan Lovells Unlike the record setting pace of global energy sector M&A in 2014, those expecting falling commodity prices to spur new records for deal-making in 2015 were, on the whole, disappointed.  2015 started off strong, but in the end, the year will be remembered as a year of hunkering […]

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January 20, 2016
Keith Trammell & Seth Belzley| Hogan Lovells
Unlike the record setting pace of global energy sector M&A in 2014, those expecting falling commodity prices to spur new records for deal-making in 2015 were, on the whole, disappointed.  2015 started off strong, but in the end, the year will be remembered as a year of hunkering down to wait out the storm.  Commodity price volatility and valuation uncertainties for US E&P companies combined to produce strong headwinds for takeover activity, in spite of the impetus for acquisitions from historically low oil prices.  While the US energy industry saw a number of high profile mega-consolidations, equity markets responded unfavorably to acquisitive E&P companies, and although the first half of 2015 saw record levels of consolidation in the midstream, even that deal flow eventually slowed to a trickle by the end of the second quarter.

Many bargain hunters who began to descend on the sector in late 2014 and early 2015 were also disappointed.  The number of E&P companies facing near term financial distress turned out to be fewer than expected.  During the Spring and Fall borrowing base redeterminations, lenders proved more conciliatory than many predicted.  In addition, early in the year, investors rotated out of other overvalued sectors and turned to energy believing equity valuations had already largely absorbed sector risks.  They began investing actively in depressed energy stocks and high yield debt, and prices rose.  Seeing this, oil and gas companies began to issue new high yield debt and even new equity to fund their cash-flow negative operations for a while longer.  For example, US E&P companies raised $16.6bn from bond issues in the first five months of this year, compared with $13.1bn in the equivalent period of 2014.  As a result, the number of E&P companies facing immediate financial distress remained lower than many had predicted at the beginning of the year.

There is, however, reason to believe the time for a dramatic surge in distress M&A activity will finally come in 2016.  Further rounds of borrowing base redeterminations will continue to ratchet down the amount of bank debt available to the industry.  And whereas borrowing base cuts in 2015 remained smaller than declines in commodity prices generally, regulated lenders are likely to face increased scrutiny from US regulators such as the Office of the Comptroller for the Currency, the Federal Deposit Insurance Corporation, and the Federal Reserve Board, who are threatening tougher standards on bank leverage and asset coverage for energy loans.  In addition, the companies that raised additional equity or bond financing in 2015 will likely not find a receptive market again.  Further, the buffer from hedges that have protected companies from the harshest impact of the price climate will soon expire.  According to the Colorado-based IHS Inc., based on a survey of 48 North American E&P companies of all sizes, hedges will cover only 11 percent of these companies’ production in 2016 — down from about 28 percent during the last half of 2015, “leaving many at very high risk of financial stress.”

M&A markets appear primed for a fire sale, with stronger companies and some investors poised to jump into what could be a generational opportunity for consolidation and growth.  In October 2015, Bloomberg reported that over $200 billion worth of oil and gas assets were available for sale worldwide, with the vast majority of those assets located in North America.  Most believe that number will continue to rise.  Giving more credence to that forecast, on December 23, 2015, sources reported that FreePort-McMoRan plans to auction the majority of its North American oil and gas assets in early 2016.

As stresses mount, the range of alternatives to company executives is likely to shrink, making M&A an increasingly attractive choice.  Distressed companies generally favor consolidation over bankruptcy.  While uncertainty over future commodity prices and volatility have kept buyers and sellers apart on valuation for most of 2015, the recent surge in energy company bankruptcies is likely to pressure would-be sellers to overcome that valuation gap.  During the 4th quarter of 2015, bankruptcies among oil and gas companies reached quarterly levels last seen in the Great Recession, according to the Federal Reserve Bank of Dallas.  At least nine U.S. oil and gas companies that accounted for more than $2 billion in debt filed for bankruptcy in the fourth quarter alone.

Meanwhile, private equity firms – the “smart money” – have been aggressively fundraising – amassing capital commitments in the tens of billions of dollars in oversubscribed funds, enticing limited partners with the opportunity to buy good assets at record low prices.  Blackstone, the Carlyle Group, Apollo and KKR together have raised about $30 billion for energy investments, according to Bloomberg.  Warburg Pincus, Riverstone, and many others have also been raising billions of dollars each.  2015 saw the piles in dry powder grow by the day.  According to Blackstone’s CEO, Steve Schwartzman, “The timing of having that capital available now really couldn’t be better.”

The best leading indicator of a potential fire sale could come from the oil field services sector.  With E&P companies slashing drilling budgets, the services firms were the first to feel the effects of the downturn in commodity prices.  Halliburton’s $34.6 billion acquisition of Baker Hughes and Schlumberger’s acquisition of Cameron International for $12.7 billion are perhaps among the most notable of the recent consolidations.  Services firms frequently look to consolidation to cut costs since mergers facilitate greater efficiency from cuts in excess personnel and expenses.

It remains unclear exactly when and if the waiting game that marked 2015 will end, and if it does, whether the floodgates for distressed M&A will open.  However, all signs appear to point to a rapid acceleration of deal activity, with buyers poised to take advantage of acquisition opportunities at unprecedented rock-bottom prices. If that’s the case, 2016 will likely be remembered as a year of dramatic consolidation in the energy industry.

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Saudi Arabia: At the Brink of Falling into Economic Quick Sand http://www.oilgasmonitor.com/saudi-arabia-at-the-brink-of-falling-into-economic-quick-sand/ Mon, 04 Jan 2016 07:30:16 +0000 http://www.oilgasmonitor.com/?p=10614 Albert Goldson | Indo-Brazilian Associates LLC For the first time since they became a world oil producing powerhouse, Saudi Arabia is facing intense and challenging pressure simultaneously from several areas that threaten not only the citizenry’s way of life, but its critical role in an increasing hostile region as well as globally.   The dynamics […]

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January 4, 2016
Albert Goldson | Indo-Brazilian Associates LLC
For the first time since they became a world oil producing powerhouse, Saudi Arabia is facing intense and challenging pressure simultaneously from several areas that threaten not only the citizenry’s way of life, but its critical role in an increasing hostile region as well as globally.
 
The dynamics of world energy and the Middle East are changing rapidly and fundamentally. Although the new Saudi leadership has aggressively undertaken measures to meet those challenges, these may be too little, too late.

For decades the Saudi government has heavily subsidized housing, health care, fuel ($0.50/gallon), electricity $0.01/kwh), and other generous benefits -essentially a systematic massive underwriting exercise  – creating a spoiled society, to keep their citizens at most socio-economic levels content and quell discontent. These short-term tactics worked rather well particularly as a stop-gap during the 2011 Arab Spring.

The Saudi government has never faced a steadily growing political and economic dilemma with respect to demographics. About two-thirds or 18-20 million, of the population is under 25 years old, creating meaningful jobs for Saudi youth is challenged by skyrocketing costs. One of these key costs is health care because the population is living far longer than the average 40-45 year lifespan of the typical Saudi in 1970. Additionally this young population is restive for change specifically personal freedom of expression within the framework of their culture, albeit not a western democracy.

The Saudis are the world’s 6th largest energy consumer despite a population of only 30 million which makes the economic figures sobering. The Saudis government face a series of daunting long-term economic dilemmas namely low oil prices and tepid global demand resulting in an historical oil glut and increasing production from their chief competitors namely Russia, Iraq and the US (not to mention the upcoming crude exports).

Because of these tectonic shifts an ever greater amount of its estimated current 10.3 million/bbls day production is dedicated to its voracious domestic demand. This demand includes the burning of oil instead of natural gas or coal with inefficient power plants. The Saudis must to produce 8 million bbls/day to collect natural gas that comes out of the ground with oil critical to power residential and industrial needs. For example, air conditioners consumed 70% of electricity use in 2013 and oil is the base fuel for the desalination of water.

Additionally, the lack of refineries means that they must import refined products at international prices because its refineries can’t produce enough of it to satisfy domestic demand. In fact, because of the domestic demand for gasoline, diesel and jet fuel has grown 60% since 2005, the trend has converted the Saudis into a net importer of these fuels. In an expensive but necessary long-term project to meet the increasing domestic consumption needs, Saudi Arabia has a new $22 billion joint venture with Dow Chemical for the construction of several refineries costing $12 billion each. Their completion may be too late.

Exacerbating the problem even the quality of oil has declined resulting in the production of less desirable heavier, sour crudes which are sold cheaply on world markets. Furthermore, there have been no new significant discoveries of oil reserves. For these reasons, the Saudis are highly reluctant to cut.

Historically Saudis’ foreign reserves have cushioned short-term crises. Despite an estimated foreign reserve of $640 billion, this confluence of on-going and longer term issues are draining their reserves faster than projected. In fact this past October the Saudis spent $7 billion of foreign reserves to cover domestic economic shortfalls. To temper this burn rate, the Saudis have dipped into the international debt markets for the first time in decades. Despite possessing burgeoning surpluses for decades they’ve procrastinated and lost numerous opportunities to diversify an oil-dependent economy.

Politically, the greatest threat is internal featuring a potential volatile mix of power struggles amongst the royal family rifts, the clerics, and the young tigers biting at the bit, and a restive, alienated youth. Because it’s a closed society, determining the depth, breadth and intensity of such power struggles is difficult to ascertain.

The short-term forecast is favorable. Saudi Arabia is the most politically stable country in the region and will continue to remain an important, though not as dominant swing producer, and is welcome to continued energy services investments. The Saudis have a long, deep relationship with world banks and energy services firms and still maintain low production costs and robust foreign reserves.

The national oil company ARAMCO is a case study model of efficiency the perfect corporate utopia in a sea of impending chaos. It’s an oasis of a corporate culture representing what Saudi Arabia could or should be but isn’t: a dynamic, superbly run corporation of professional men and women, Sunni and Shia, foreigners and Saudis. Investments to maintain and upgrade facilities, yet the challenge of meeting increasing budgetary needs in a prolonged low oil price environment.

On the other hand the long-term prognosis does not bode well. The demographic changes will continue to put upward pressure on Saudi finances and, according to the IMF, at this burn rate may run out of cash in 5 years making it a debtor country. Even if oil prices magically rebound overnight to $100/bbl, Saudi Arabia’s economic problems would only get delayed because low oil prices have exposed their vulnerability and raised overall risk.

Politically Iran, like today’s Saudi Arabia, was a monarchy from 1925 to 1979 until it was overthrown by religious extremists. In an eerie parallel the Saudis have a restive population angered over corruption and lack of political participation. However what makes the Saudi situation more unstable than the Iranian Revolution is that unlike a stable Cold War environment and high oil prices, the Saudis are surrounded by failed states, plunging revenue because of low oil prices and supporting an expensive protracted war in Yemen.

The Saudis have oil and money but neither can buy more time to swiftly arrest such a powerful confluence of changes. Government planning is one thing, implementation is another because it requires, changing their citizens’ hearts & minds – their mindset. Theirs is an entitled population who is spoiled during many decades of subsidies and who may be highly resistant to the reduction or even elimination of these subsidies despite the onerous economic consequences.

Should any extended or extreme civil unrest or turmoil occur Saudi Arabia will still produce oil but like present-day Iraq, with a weak government, sectarian strife and continued robust oil production regardless of the leadership. An extreme scenario would see an Iranian-style implosion with the emergence of a new leadership that is hostile to the West, perhaps only politically but would control its oil in the manner that Russia controls gas exports to Western Europe – on a whim.

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Fall Borrowing-Base Redeterminations are Coming… Let the Bidding Begin http://www.oilgasmonitor.com/fall-borrowing-base-redeterminations-are-coming-let-the-bidding-begin/ Mon, 28 Sep 2015 06:33:25 +0000 http://www.oilgasmonitor.com/?p=10168 Holt Foster|Thompson & Knight Just when U.S. oil prices appeared to have stabilized at $60 per barrel and industry players were acclimating to this “new normal”, recent geo-political and -economic pressures have caused prices again to plummet below $50 a barrel for the first time since early April. With prices continuing to hover at these […]

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September 28, 2015
Holt Foster|Thompson & Knight
Just when U.S. oil prices appeared to have stabilized at $60 per barrel and industry players were acclimating to this “new normal”, recent geo-political and -economic pressures have caused prices again to plummet below $50 a barrel for the first time since early April.

With prices continuing to hover at these bear market levels, the worldwide glut of oil shows little sign of abating. Saudi Arabia and Iraq crude output have surged to record levels, U.S. production remains near its four-year apex, and Iran is focused on resuming oil exports on the heels of its tentative nuclear agreement with six world powers.

Against the backdrop of declining prices and increased production, oil companies are bracing themselves for the pending borrowing-base redeterminations this fall. Over the last 10 months, many companies have successfully survived prior borrowing-base redeterminations by slashing costs and maximizing favorable hedging programs through increased production.

Time, however, like companies’ higher-priced hedges, may be running out for many in the oil and gas industry. Sustained lower crude prices will result in many industry players experiencing a significant devaluation of their assets when banks re-determine borrowing bases for existing loans. Consequently, although they already have trimmed the fat from their balance sheets and now are operating at near-maximum efficiency, the only solution for many companies will be to sell off assets and begin using the proceeds to pay down debt in order to meet their new loan-to-(lower valued) asset ratios.

And, Private Equity is Waiting in the Wings…

Private equity funds have seen a significant spike in commitments from investors as they’ve amassed billions and billions of dollars over the past year while lying in wait. These funds believe there’s money to be made by buying distressed oil assets in the wake of the coming borrowing-base redeterminations.

This belief has only compounded with the recent tumble in crude prices. Due to sharp declining values, many companies may not be able to earn enough by selling their lower valued C- and D-tiered assets to pay off the debt in hopes of retaining their A- and B-tiered assets.

Potential purchasers may believe the profit margin will be too thin in the lesser, non-core assets to merit buying and exploiting them in this lower-priced environment. Consequently, the only way for many companies to remain solvent and not violate their bank covenants may be to sell their prime, core assets in a very suppressed market.

Glimmers of Hope in Private Equity Deals

While current oil prices have many industry players feeling glum, a few glimmers of hope still exist for prospective sellers. With so much private equity money on the sidelines, many hypothesize pent-up demand could artificially inflate prices in mergers and acquisitions, offsetting the sinking price per barrel. Additionally, there may be enough time prior to this fall’s redeterminations for geo-political and -economic conditions to improve, which could spawn renewed consumer confidence and help prices re-stabilize at $60 (or more) per barrel.

Either of these events could cause prospective buyers to become more bullish on the future of oil prices and incentivize them to purchase lower margin C- and D-tiered properties at higher prices in hopes of exploiting the upside. So, while many companies likely will have to shed assets to comply with their new borrowing bases, with a little luck they still may be able to hold on to their prized A and B properties.

Regardless of where oil prices are this fall, the reality is that borrowing-base redeterminations are coming. Consequently, many companies likely are going to have to liquidate their assets – be they A, B, C or D – just to stay alive. And, private equity funds are chomping at the bit. Let the bidding begin…

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Asset Sales & Hedge Monetizations – Potential Liquidity Solutions for E&P Companies and their Lenders http://www.oilgasmonitor.com/asset-sales-hedge-monetizations-potential-liquidity-solutions-for-ep-companies-and-their-lenders/ Thu, 10 Sep 2015 06:05:23 +0000 http://www.oilgasmonitor.com/?p=10081 Laura Martone & Jon English | Bracewell & Giuliani The swift and steep decline in oil prices in 2014 coupled with increased lending to the energy sector over the past few years has left many exploration and production (E&P) companies with insufficient cash to fund their operations and repay their debt.  In turn, many of […]

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September 10, 2015
Laura Martone & Jon English | Bracewell & Giuliani

The swift and steep decline in oil prices in 2014 coupled with increased lending to the energy sector over the past few years has left many exploration and production (E&P) companies with insufficient cash to fund their operations and repay their debt.  In turn, many of their lenders are holding loans that are either in or close to default and secured by collateral that is significantly less valuable than when these loans were made.  As a result, many E&P companies are exploring ways to raise cash in the near term, not only to continue to operate, but also to appease their lenders.  These companies are increasingly using asset sales and hedge monetizations in order to accomplish these goals.

Selling assets is a fairly straightforward way for E&P companies to raise liquidity, and such sales may also provide an opportunity to shed non-core assets and streamline operations. Likewise, monetizing favorable hedge positions is another option for many of these companies to generate cash.  Many E&P companies hedge their production to protect themselves from commodity price volatility, and the recent decline in oil prices has left many of them with hedge positions that are “in the money”.  Assuming the counterparty consents (which many are willing to do for the right price), unwinding hedges allows an E&P company to receive a lump sum of cash today, rather than wait for the value of the hedge to potentially be realized over time.

Depending on the specific covenants in its credit documentation, an E&P company may be able to raise cash using these two strategies without having to seek consent from its lenders or share the proceeds with them – and, undoubtedly, some of these companies are carefully analyzing the covenants in their loan agreements in order to do just that.  But many of these companies are already at the table with their lenders because of existing or anticipated defaults, and lenders are increasingly conditioning waivers or forbearances on the consummation of one or more of these types of liquidity events.  These conditions can be explicit, but they can also take the form of incentives, such as avoiding increased pricing if a liquidity event like an asset sale or hedge monetization takes place by a certain date.

Notwithstanding a default or potential default situation, many E&P companies are intensely negotiating with their lenders over how to split the proceeds from an asset sale or hedge monetization, and in many cases, only a portion of the proceeds is being required to be used to pay down debt.  How these negotiations play out is of course likely to be informed by the lenders’ view of the long term viability of the company.  Some lender groups are weathering the storm alongside their borrowers and are looking to preserve those relationships; these groups may let a company that is selling assets or monetizing hedges keep some or most of the proceeds to reinvest in its business.

However, these lenders may also implement minimum hedging requirements – even after permitting a hedge monetization – as a way to make sure their borrower is protected from oil price volatility going forward.  Of course, with many E&P companies on the brink of insolvency, some lenders are looking to reduce their exposure – whether to a specific borrower or the E&P industry as a whole – at the earliest opportunity.  This has led some lender groups to require that all or a substantial amount of any cash proceeds received from these types of liquidity events be applied to immediate debt repayment.

Selling assets and monetizing hedges have the potential to (at least partially) satisfy the goals of both struggling E&P companies and their lender groups; the companies raise additional cash for operations and their lenders likely receive some amount of debt repayment (and perhaps also a borrower that is better equipped to move forward in the current price environment).  Even E&P companies with stronger balance sheets are exploring these options in response to predictions that borrowing bases will contract in the upcoming fall redeterminations and that regulators will continue to increase their scrutiny on lenders’ exposure to E&P companies.  As a result, E&P companies will likely continue to turn to these two strategies in the near future as a means to generate liquidity and stay on the right side of their lenders.

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