The latest cyclical downturn in the oil and gas industry, triggered by the global Covid-19 pandemic in March, has once again prompted close scrutiny of the US shale industry. At some point, before the turn of events, shale was seen to give American hydrocarbon production a position of superiority in the market.
In many ways, that’s still the case, especially if the volume of barrels produced is all that matters. Despite an expected post-Covid production decline in the range of 1.5 to 1.75 million barrels per day (bpd), overall U.S. production would still remain comfortably above 11 million bpdthe highest in the world.
But barely a week has passed since April’s market chaos in which there was no US shale bust. The biggest scalp of a disastrous second quarter of 2020 was that of shale pioneer Chesapeake Energy, which filed for Chapter 11 bankruptcy on June 29. Others are sure to follow, the most recent being that of Rosehill Resources.
Of the companies that have filed for bankruptcy, nearly 30 carry liabilities of at least $50 million or more, according to Deloitte. Rosehill, for example, owes $100 million principally to senior bondholders only.
High production numbers often masked rising debt levels and dismal break-even points. Since 2010, the frackers have spent 300 billion dollars. Although they have brought millions of barrels of US crude oil to market, only a third of them can barely break even at $35 a barrel.
Overall, between the last industry downturn (2015-2016) and the current market upheaval, more than 230 North American oil and gas producers, largely American, have filed for bankruptcy due to ‘at least 152 billion dollars, says law firm Hayes & Boone. The debt liabilities of those who filed in the second quarter of 2020 alone stood at $30 billion.
Covid-19 upheaval or not, there’s no denying that it’s not a pretty picture. But what is problematic here is how those predicting the demise of the US shale industry are once again talking about Chapter 11 bankruptcy filings as a distress benchmark. This turned out to be a mistake in 2015-2016, when US crude production volume not only rebounded, but exceeded pre-crisis levels.
Whether or not the same could happen again remains to be seen, but talking about Chapter 11 numbers and disparaging the agility of shale players often comes down to a profound lack of understanding of US bankruptcy standards. Indeed, the country’s existing framework for Chapter 11 filings often allows companies at risk of bankruptcy to resurface in a new, restructured form in the same space they previously occupied.
All in all, a Chapter 11 bankruptcy filing involves a reorganization of a company’s business affairs, debts, and assets, named after the United States Bankruptcy Code 11. The world of accounting and l The audit calls it “reorganization” bankruptcy because it gives corporations time to arrest a decline rather than crumble into oblivion.
Businesses on all sides are using it as a fresh start subject to meeting their debt obligations under a proposed reorganization plan that is largely in the best interests of creditors. If the company cannot offer such a plan, creditors can offer one instead.
“In most cases, the business will remain open and operate as a corporation. The court in which Chapter 11 was filed will assist the business in restructuring its debts and obligations. Despite the seriousness of the situation, this will not is not the end of business and many players in the U.S. oil industry have effectively deployed it to redefine their business, while others have used it to survive,” said Deborah Byers, industry and solutions manager for Americas, and Head of US Oil & Gas at EY.
Not to mention small-cap shale producers, even companies as large as United Airlines and General Motors have used Chapter 11 filings to reshape their business. It is therefore incorrect to equate a Chapter 11 bankruptcy filing with the direct demise of a business.
Then there is also the correlation between the price of oil and how it prevents what does or does not constitute technical insolvency in the minds of investors and companies at various points in the trading or hedging cycle, says the mayor of Regina, global head of energy. and natural resources at KPMG.
A technical insolvency is said to occur when the value of a company’s liabilities increases at a faster rate than its assets due to operating, debt or borrowing issues.
“Hypothetically, if a shale explorer goes into technical insolvency below an oil price of $35 a barrel and the price stays above that level for one quarter of operations; Unless there is an accounting insolvency – such as an actual breach of covenants – concerns about operators’ viability, while valid, do not spell their end as a going concern.
The mayor says the focus on Chapter 11 statistics and so-called U.S. technical insolvencies during the previous downturn led many to predict an untimely end to the U.S. shale industry. At the time of the last glut, even OPEC may have looked too closely at this data.
“Yet the end never came. After a period of distress, American industry has rebounded. Depending on how oil demand and credit markets evolve, and the extent of the current downturn, the market can expect a gradual recovery in US shale.
This recovery would come from those who won it, says Jim Johnson, CEO of services and products provider FTSE 250 Hunting Plc (LON:HTG). “While those who paid silly money for acreage will suffer, viable parts of the Permian Basin of West Texas and New Mexico, and Eagle Ford could remain competitive at $30 a barrel at a time thanks to efficiencies and cost reductions.
“There is going to be a lot of pain as we have already noticed but it will not be a fatal blow. We expect the market to pick up again in early 2021.”
And if smaller, nimble players lead this recovery and seek to reorganize through the Chapter 11 process, they may be better positioned to deal with the current downturn than they ever were in the last one thanks to the US the 2019 Small Business Reorganization, which has come into effect. effective February 19, 2020.
The law added a new subchapter to Chapter 11 designed to make it easier to protect small businesses from bankruptcy, defined as “entities with less than approximately $2.7 million in debt,” although certain other department criteria American Justice must be met in order to qualify. .
The new law “imposes shorter time frames for completing the bankruptcy process, allows greater flexibility in negotiating restructuring plans with creditors, and provides for a private trustee who will work with the small business debtor and its creditors to facilitate the development of a consensual restructuring plan. reorganization.”
Ultimately it will come down to the survival of the fittest in the shale zone and not the number of chapter 11 deposits that seem to be building up in the early stages of recession. Cyclical downturns or market corrections always eliminate the weak, and 2020-21 will be no different.