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Credit crunch looms over battered energy sector

July 27, 2020   Don Horne

Deadlines are looming again in the energy patch amid growing fears of an imminent credit crunch after a number of companies managed to postpone key negotiations with their lenders until July – in other words, now.

“So that’s the next thing to come out,” Dan Tsubouchi, chief market strategist at Stream Asset Financial Management, told Bloomberg News. “We saw all of these companies that came out in June, saying our banks have extended our credit redetermination until July.”

For many energy companies, their borrowing base redeterminations are now taking place twice a year – once in the spring and again in the fall instead of just annually. They’re even taking place more frequently for some companies considered more at risk. This is when banks determine a company’s current value and decide how much debt it will be allowed to take on. The process has taken on increasing significance over the last few years as banks look to cut their exposure to the oil and gas sector.

But this year, the spring redeterminations coincided with historically low oil prices thanks to a short-lived price war and a massive drop in oil demand due to COVID-19. As a result, many lenders agreed to extensions in the hope that the operating environment would improve.

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“I think one thing that a lot of these companies, along with the banks that they’re negotiating with, are looking at is what, if any, assistance they can get from the Business Development Bank of Canada and Export Development Bank,” Tom Pavic, president of Sayer Energy Advisors, a broker specializing in financing, mergers and acquisitions in the Canadian oil and gas industry, told Bloomberg News. “I believe that’s one of the reasons why they’re agreeing to these short-term extensions.”

Take the pressure Bonterra Energy Corp. is under, for example. Its annual borrowing base redetermination had only been extended from May 29 until June 30. Then it was extended again, but just briefly, until July 15. In a press release on June 30, the company said the additional time would allow it and its lending syndicate “to assess the impact of developments in current market dynamics, including the proposed programs initiated by the Federal Government through Export Development Canada (EDC) and Business Development Bank of Canada (BDC), and to establish a credit facility renewal that underpins Bonterra’s ongoing financial flexibility.”

While oil prices have stabilized somewhat, albeit around US$40 per barrel for West Texas Intermediate, help from the federal government has yet to materialize. Back on April 17, Ottawa announced BDC and EDC would make “higher risk financing” available to companies in Canada’s oil and gas sector. Firms can apply for loans of between $15 million and $60 million to help fund operational cash flow issues for a 12-month period and “ensure a degree of continuity of operations during this period of uncertainty.”

“That’s going to be the next shoe to drop, ahead of the second-quarter results,” said Tsubouchi. “What happens if we still haven’t seen anything from BDC? And for those guys who extended one month and they are thinking OPEC is doing better, the problem now with the COVID-19 [case] increases is that people are worried about demand not picking up as quickly and I think that’s the next shoe to drop.”

“The banks have been playing nice in the first part of the pandemic, but I think now they’ve started to realize they need to make some adjustments,” Patrick Maguire, vice-chair and Calgary managing partner at Bennett Jones LLP, told Bloomberg News.

Maguire says so far, banks have been bringing in tougher covenant packages, in which they put stricter conditions on how the borrowed money can be spent, however he believes more borrowing base redeterminations are on the way as lenders look to adjust their exposure.

“I think there was enough volatility in the commodity prices that they were careful not to overreact,” he said. “I suspect everyone will be watching a little more closely when the redeterminations come up in the fall.”

(Bloomberg News)


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