Q&A: US indies face spring borrowing base review

OREANDA-NEWS. March 14, 2016. Banks are beginning to review US independent producers' oil and gas reserves as part of the twice-a-year borrowing-base redetermination exercise. The spring review may see the value of reserves revised 20-30pc lower, company executives, banks and credit ratings agencies say, a troubling development for companies in a distressed energy market. Argus talked to John Thieroff, vice president and senior analyst at the corporate finance group of Moody's Investors Service, on the review and the impact it may have on bankruptcies and output. The interview has been edited for brevity and clarity.

Argus: How severe will the spring asset base redetermination be?

Thieroff: We are supposing as well a 20-30pc cut this time around.

The severity and intensity of the fall in prices has caught everybody by surprise. Everybody is coming around to the view that this is a ‘lower-for-longer' market. It is not just a 2015 event or a 2016 event. The thesis is very different from what we saw in 2008-09. This is a recalibration we are seeing in the market right now.

In the fall, or even during spring last year, banks for the most part chose to take a longer term view and cuts were light because no one expected the market weakness to last that long.

Argus: Will bankruptcy restructuring lead to lower output?

Thieroff: Bankruptcy restructuring will not necessarily lead to a decline in output. Companies will carry on producing even when they go through the restructuring process.

But many companies are halting drilling activities as they cut down spending and that will hurt production going forward because shale wells have a very steep decline rate. In some cases, there is a 60pc decline in output within the first year. So far, we haven't seen a sharp slowdown in output because through last year companies were still continuing to drill and reaping increased efficiencies.

Argus: Where will we see the decline in US coming from?

Thieroff: A lot of stripper wells are going to get shut in at current prices. As much as 1mn b/d of shale oil is produced from these stripper wells, whose output is very small, about 8-10 b/d. There are about 400,000 wells in the US with an output of less than 15 barrels a day. Once these wells shut down, we will see overall production fall further because companies are not likely to bother bringing those wells online again. It wouldn't make economic sense to revive them.

Argus: With the sharp cut in capex, do you think the independents will still be able to meet their output guidance?

Thieroff: Companies are largely keeping their production guidance flat for 2016 even though they have announced steep cuts to their capex. Flat production seems highly unlikely, especially as capex is being cut for the second year in a row. A majority of the companies are holding their output guidance flat because they are really just budgeting quarter-to-quarter or month-to-month.

They seem to be baking in expectations that prices will recover through the year, say to around \\$40-\\$50/bl, and that will allow them to bring online some of their inventory of drilled but uncompleted wells, which will largely help them sustain their output.