Fitch Rates Southwestern Energy Co.'s Term Loan 'BBB-'
KEY RATING DRIVERS
Southwestern's ratings are supported by its credit-conscious financial policy and strong operating history that has resulted in the achievement of drilling efficiencies and competitive production and finding and development (F&D) cost profiles. Offsetting factors include the company's nearly-exclusive natural-gas focus that results in lower netbacks per barrel of oil equivalent (boe) relative to liquid peers and its limited geographic diversity.
The company reported net proved (1p) reserves of 1,791 million boe (mmboe) and production of 351 thousand boe per day (mboepd) for the year ended 2014. This results in a reserve life of about 14 years. Production has grown considerably through the first nine months of 2015 to over 452 mboepd. This increase is attributable to the integration of approximately 61 mboepd of the acquired Southwestern Appalachia production and about an equal amount of organic growth within the Northeastern and Southwestern Appalachia properties offset by production declines in the Fayetteville and other properties.
Lower benchmark Henry Hub and realized prices have contributed to negative unhedged full-cycle netback of $7.79/boe for Q3 2015 compared to a positive $3.68/boe for the year ended Dec. 31, 2014. Weaker Henry Hub differentials of $0.98/million cubic feet (mcf) in Q3 2015 are expected to improve as seasonal demand increases over the near term and addition takeaway capacity becomes available over the medium term. Cash netbacks remained positive at $1.63/boe in Q3 2015 benefiting from a $0.93/boe improvement in production expenses, or an 11% reduction, since year end 2014 mainly due to better Marcellus unit costs.
FORECAST CASH FLOW METRICS WIDEN, UPSTREAM METRICS REMAIN SOLID
Fitch's base case, assuming a West Texas Intermediate (WTI) and Henry Hub price of $50 and $2.75, respectively, projects that Southwestern will be approximately $400 million free cash flow (FCF) negative in 2015. The Fitch base case results in debt/EBITDA of under 3.3x in 2015 mainly due to the weaker oil & gas market pricing environment. Debt/1p reserves and debt per flowing barrel metrics are forecast to remain solid at over $2.50/boe, subject to any yearend price revisions, and approximately $10,725, respectively.
Fitch's base case WTI and Henry Hub price forecast assumptions of $50 and $2.75, respectively, suggest that Southwestern will materially reduce capital spending in 2016. The Fitch base case considers that the company will spend within operating cash flow consistent with guidance from management. Fitch believes that capital is likely to be weighted towards its highest return Northeastern Appalachian acreage followed by Southwestern Appalachia and, to a lesser extent, Fayetteville. Fitch's base case forecasts debt/EBITDA of 3.6x in 2016. This considers the production profile benefits from capital allocation and efficiency gains and incorporates the potential for asset sales. Fitch assumes potential asset sales of $500 million in its base case, which is below the over $700 million in asset sales executed by Southwestern during Q1 2015. Proceeds are allocated to repay debt in Fitch's base case consistent with the prepayment disposition clause within the term loan agreement. Fitch calculates that each $100 million change in its asset sale assumption results in a less than 0.1x difference in leverage metrics. Fitch's market price assumptions lead to debt/EBITDA nearing 2.5x in 2017.
Management maintains fixed-price hedges with an average price of $4.40/mcf equivalent to 27% (240 billion cubic feet) of planned production for 2015 that help mitigate the near-term impact of market prices on cash flow and support production. The company does not currently have any hedge positions for 2016.
KEY ASSUMPTIONS
Fitch's key assumptions within the rating case for Southwestern include:
--WTI oil price that trends up from $50/barrel in 2015 to a long-term price of $70/barrel;
--Henry Hub gas that trends up from $2.75/mcf in 2015 to a long-term price of $3.50/mcf;
--Production growth of about 27% in 2015, generally consistent with guidance, followed by very modest growth in 2016 with a higher growth profile as oil & gas prices improve;
--Liquids mix, principally natural gas liquids, increases to over 7% in 2015 with incremental improvements thereafter as the Southwestern Appalachia acreage continues to develop;
--Capital spending is forecast to be $1.875 billion in 2015, consistent with guidance, followed by capital spending profile until prices support a moderate level of outspending;
--Asset divestitures of approximately $700 million in 2015 followed by an assumed $500 million in potential sales in 2016.
RATING SENSITIVITIES
Positive: Future developments that may, individually or collectively, lead to a positive rating action include:
--Increased size, scale, and diversification of the company's reserve base that yields favorable netbacks;
--Mid-cycle debt/EBITDA below 1.5x on a sustained basis;
--Mid-cycle debt/1p reserves below $2.00/boe and/or debt/flowing barrel under $8,000.
Negative: Future developments that may, individually or collectively, lead to a negative rating action include:
--Mid-cycle debt/EBITDA above 2x on a sustained basis;
--Mid-cycle debt/1p reserves nearing $4.00/boe and/or debt/flowing barrel around $15,000;
--A sustained weak natural gas pricing environment without a corresponding reduction in capex;
--Commencement of dividend or share repurchases inconsistent with the expected cash flow and leverage profile.
Fitch recognizes that Southwestern's increasing size and improving unit economics provide considerable financial flexibility that allows the company to better manage cyclical changes to its leverage profile.
LIQUIDITY AND MATURITY PROFILE
Southwestern has historically maintained a nominal cash balance and had approximately $15 million as of Sept. 30, 2015. The company's primary source of liquidity is its $2 billion unsecured credit facility (Fitch estimates pro forma available capacity to be $1.95 billion) maturing in December 2018 and recently established CP program sized to the revolving credit facility. The main financial covenant is a maximum debt-to-capital ratio of 60% (management estimate of 36% as of Sept. 30, 2015), excluding non-cash asset impairments and certain other items, as defined in the credit facility agreement. Other covenants consist of additional lien limitations, transaction restrictions, and change in control provisions. The revolver contains two one-year extensions and may be increased to $2.5 billion upon lender consent.
Maturities on outstanding debt over the next five years are manageable. The 7.15% notes have annual payments of $1.2 million through 2017 with the remaining principal balance of $23.4 million due in 2018. An additional $40 million (7.35% and 7.125% notes), $950 million (7.5% and 3.3% notes), and $850 million (4.05% notes) mature in 2017, 2018, and 2020, respectively.
MANAGEABLE OTHER LIABILITIES
The company's pension obligations were underfunded by approximately $26 million as of Dec. 31, 2014, which Fitch considers to be manageable when scaled to funds from operations. Southwestern's asset retirement obligation (ARO) was about $207 million as of Dec. 31, 2014, which is up $73 million year-over-year mainly due to $42 million in additional obligations incurred related to the Southwestern Appalachia acquisition. Other obligations totalled approximately $6.1 billion on a multi-year, undiscounted basis as of Dec. 31, 2014. The obligations include: $5.3 billion in pipeline demand transportation charges, $272 million in operating leases for equipment, office space, etc., and $102 million in compression services.
FULL LIST OF RATING ACTIONS
Fitch currently rates Southwestern Energy Company as follows:
--Long-term Issuer Default Rating (IDR) 'BBB-';
--Senior unsecured notes 'BBB-';
--Bank revolver 'BBB-';
--Short-term IDR at 'F3';
--Commercial paper program at 'F3'.
Fitch has assigned the following rating:
--Term loan at 'BBB-'.
The Rating Outlook is Stable.
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