30% of shale oil companies could go belly up if crude stays this cheap

And now muted crude prices, massive piles of debt and capital flight away from fossil fuels threaten to set off a tidal wave of bankruptcies and fire sales to larger players.

About 30% of US shale operators are technically insolvent at $35-a-barrel oil prices, in accordance with a study released Monday by Deloitte. That means the discounted future value of these frackers is lower than their total debt.

By that same metric, about 50 % of the usa shale industry is technically insolvent at $20 per barrel. Crude breached that extremely low threshold in April, when US oil briefly crashed below zero to negative $40 a barrel. Oil has since rebounded to around $40 a barrel.

“Beneath this phenomenal growth, the reality is that the shale boom peaked without making money for the industry,” the report said.

Outside of the companies which can be technically insolvent, 20% of US shale oil operators are financially “stressed” at $35 oil, Deloitte found.

Frackers have burned through $300 billion

Aided by historically-low interest rates, US shale oil companies long enjoyed comfortable access to capital from investors captivated by their growth potential. These investments enabled technological innovations that sent production skyrocketing and made frackers more efficient.

Yet earnings and free cashflow proved elusive. The US shale industry burned through $300 billion since 2010, according to Deloitte.

The current recession and subdued energy prices are now forcing large and small oil companies to slash the worth of their once-lucrative portfolios.

Last week, BP (BP) warned it’ll write down the worth of its assets, including untapped oil and gas reserves, by up to $17.5 billion. That is about 6% of the business’s assets.
ExxonMobil (XOM) took a $2.9 billion charge connected to writedowns throughout the first quarter, causing the company’s first quarterly loss since at least 1999.

Those writedowns from Big Oil could you need to be the beginning. Deloitte says that the shale industry will be forced to take note of the value of their assets by around $300 billion, according to Deloitte.

And while these asset impairments do not directly impact a company’s cash levels, they do worsen already-precarious leverage metrics. That’s because writedowns do not wipe out your debt accumulated to build up drilling projects.

Fracking trailblazer could go bankrupt next

With the coming wave of writedowns, the usa shale industry’s leverage ratio could spike to 54% from 40%, according Deloitte, potentially triggering “many negative sequences of events, including bankruptcy.”

Already this year, 18 oil-and-gas companies have defaulted on the debt, in comparison to 20 for many of a year ago, according to S&P Global Ratings.

A dozen of those energy defaults were by companies based in the United States, including former shale star Whiting Petroleum (WLL) and offshore drilling company Diamond Offshore (DO).
Chesapeake Energy (CHK), a pioneer of the fracking industry, could well be next.
The oil-and-gas company has been doing financial trouble for years, however the pandemic may possibly tip it over the edge. Last week, Chesapeake skipped interest payments of $13.5 million, according SEC filings. The company features a 30-day grace period before it is thought to have defaulted.
“Imminent” bankruptcies from Chesapeake Energy along with California Resources (CRC) will lift the power sector’s high-yield default rate to 14%, according to Fitch Ratings. The sector’s junk bond default rate is expected to finish 2020 at 17%, Fitch said. That’s just shy of the record of 19.7% set in January 2017.

Buyer beware

The financial stress could set off a string of last-minute mergers by oil companies unable to pay or refinance their debt.

Chevron (CVX) and ExxonMobil, the two largest US oil companies, have the savings to scoop up distressed shale companies. But there may not be much to rescue.

Deloitte warns that just 27% of major exploration & production companies are undoubtedly “attractive” acquisition targets. “Being ‘adventurous’ in today’s uncertain environment could be fatal,” the report said, adding that half of the drilling companies are risky bets.

“The key question is what to buy and, more importantly, what not to buy,” Deloitte wrote.

Last year, Occidental Petroleum (OXY) won a bidding war against Chevron to acquire shale driller Anadarko Petroleum. But now Occidental, which is backed by Warren Buffett and Carl Icahn, is struggling to pay down the debt it piled on to accomplish the deal.
Occidental has slashed its dividend from 79 cents a share to just a penny, drastically cut spending and is selling off assets to improve cash.

Fossil fuels starving for cash

It won’t get any easier for the usa shale industry to attract capital.

Not only are investors leery of plowing more money in to an industry with a history of burning through cash, but climate change concerns are sending cash to cleaner alternatives like solar, wind and electric vehicles.
New York, London and other cities and public institutions have promised to unload their fossil fuel investments. So have dozens of universities around the world.
Even the Vatican is calling on Catholics and the private sector to divest from fossil fuel companies and others that fuel climate change.

At the same time, there remains great uncertainty about how precisely quickly the entire world economy will bounce straight back from the deep recession.

Given the rise of remote working and drop in airline travel, it could take time and effort for oil demand to come back to pre-crisis levels — if it ever does.

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