|As of 5/22/2017||Current Price||Future Price
On June 20, 2014, the price for a barrel of crude oil on the NYMEX reached $107. Few, if any, expected oil prices to fall, and then, keep falling to a dip below $30. Even with hedges in place, this unexpected, sustained price drop crippled oil revenues. Many investments in oil and gas that were once projected to generate strong positive cash flows and profits could no longer generate enough cash to support the debts used to fund the project. Thus, as prices remained low, more and more companies ran out of cash to support once manageable debts. Since the start of the oil downturn, more than 120 upstream and oilfield service companies declared bankruptcy.
However, as we described in a previous post, for these E&P and services companies, the decision to file for bankruptcy did not always signal the demise of the business. Despite the sense of doom often associated with the word “bankruptcy,” if executed properly Chapter 11 reorganization afforded these financially distressed or insolvent companies an opportunity to restructure their liabilities and emerge as sustainable going concerns.
Many E&P companies who reorganized are “emerging from bankruptcy, looking to grow.” The Financial Times reported that 80% of oil and gas companies who filed for Chapter 11 have emerged from bankruptcy and are still operating. They even claim that this wave of bankruptcies made the industry stronger as companies were able to shed billions of dollars of debt and were forced to increase drilling efficiency in order to survive. In the low oil price environment, companies worked to lower breakeven costs by using new technology to get more oil out of already developed wells. Additionally, many companies sold off assets they could not afford to develop to those who had the ability to finance the necessary capital expenditures to bring new wells online.
Thus, as OPEC and partners cut production at the end of 2016, U.S. shale drillers continued to increase production, which kept oil prices comparatively low. Now, almost a year after the peak in bankruptcy activity, oil prices have stabilized around $50 per barrel, and U.S. shale drillers are well positioned to ramp up drilling activity. The U.S. is estimated to have more recoverable oil than any other country, including Saudi Arabia and Russia. Additionally, President Trump’s administration is expected to be a proponent of fracking.
For the past two years, OPEC tried to squeeze U.S. shale drillers out of the market by increasing production to flood the market and lower prices, but it looks like domestic shale producers came out as the winners in this competition. Earlier this year, Vauhini Vara, wrote in The Atlantic, “It has become clear that the shale-oil business is going to survive, at least for now.” Over the first four months of 2017, only nine producers filed for bankruptcy, compared to 29 companies that went bankrupt in the first four months of 2016. Although there may still be more bankruptcies to come, the trend of bankruptcies caused by the crash in oil prices has slowed, and companies are prepared to grow with leaner balance sheets than before.
Mercer Capital has significant experience valuing assets and companies in the energy industry. To learn more about Mercer Capital’s experience in oil and gas and bankruptcy valuations contact a Mercer Capital professional today.