Debt funded the fracking boom. Now oil and gas prices have collapsed, and so has the ability to service that debt. The oil bust of the 1980s took down 700 banks, including 9 of the 10 largest in Texas. But this time, it’s different. This time, bondholders are on the hook.
And these bonds – they’re called “junk bonds” for a reason – are already cracking. Busts start with small companies and proceed to larger ones. “Bankruptcy” and “restructuring” are the terms that wipe out stockholders and leave bondholders and other creditors to tussle over the scraps.
Early January, WBH Energy, a fracking outfit in Texas, kicked off the series by filing for bankruptcy protection. It listed assets and liabilities of $10 million to $50 million. Small fry.
A week later, GASFRAC filed for bankruptcy in Alberta, where it’s based, and in Texas – under Chapter 15 for cross-border bankruptcies. Not long ago, it was a highly touted IPO, whose “waterless fracking” technology would change a parched world. Instead of water, the system pumps liquid propane gel (similar to Napalm) into the ground; much of it can be recaptured, in theory.
Ironically, it went bankrupt for other reasons: operating losses, “reduced industry activity,” the inability to find a buyer that would have paid enough to bail out its creditors, and “limited access to capital markets.” The endless source of money without which fracking doesn’t work had dried up.
On February 17, Quicksilver Resources announced that it would not make a $13.6 million interest payment on its senior notes due in 2019. It invoked the possibility of filing for Chapter 11 bankruptcy to “restructure its capital structure.” Stockholders don’t have much to lose; the stock is already worthless. The question is what the creditors will get.
It has hired Houlihan Lokey Capital, Deloitte Transactions and Business Analytics, “and other advisors.” During its 30-day grace period before this turns into an outright default, it will haggle with its creditors over the “company’s options.”
On February 27, Hercules Offshore had its share-price target slashed to zero, from $4 a share, at Deutsche Bank, which finally downgraded the stock to “sell.” If you wait till Deutsche Bank tells you to sell, you’re ruined!
When I wrote about Hercules on October 15, HERO was trading at $1.47 a share, down 81% since July. Those who followed the hype to “buy the most hated stocks” that day lost another 44% by the time I wrote about it on January 16, when HERO was at $0.82 a share. Wednesday, shares closed at $0.60.
Deutsche Bank was right, if late. HERO is headed for zero (what a trip to have a stock symbol that rhymes with zero). It’s going to restructure its junk debt. Stockholders will end up holding the bag.
On Monday, due to “chronically low natural gas prices exacerbated by suddenly weaker crude oil prices,” Moody’s downgraded gas-driller Samson Resources, to Caa3, invoking “a high risk of default.”
It was the second time in three months that Moody’s downgraded the company. The tempo is picking up. Moody’s:
The company’s stressed liquidity position, delays in reaching agreements on potential asset sales and its retention of restructuring advisors increases the possibility that the company may pursue a debt restructuring that Moody’s would view as a default.
Moody’s was late to the party. On February 26, it was leaked that Samson had hired restructuring advisors Kirkland & Ellis and Blackstone’s restructuring group to figure out how to deal with its $3.75 billion in debt. A group of private equity firms, led by KKR, had acquired Samson in 2011 for $7.2 billion. Since then, Samson has lost $3 billion. KKR has written down its equity investment to 5 cents on the dollar.
This is no longer small fry.
Also on Monday, oil-and-gas exploration and production company BPZ Resources announced that it would not pay $62 million in principal and interest on convertible notes that were due on March 1. It will use its grace period of 10 days on the principal and of 30 days on the interest to figure out how to approach the rest of its existence. It invoked Chapter 11 bankruptcy as one of the options.
If it fails to make the payments within the grace period, it would also automatically be in default of its 2017 convertible bonds, which would push the default to $229 million.
BPZ tried to refinance the 2015 convertible notes in October and get some extra cash. Fracking devours prodigious amounts of cash. But there’d been no takers for the $150 million offering. Even bond fund managers, driven to sheer madness by the Fed’s policies, had lost their appetite. And its stock is worthless.
Also on Monday – it was “default Monday” or something – American Eagle Energy announced that it would not make a $9.8 million interest payment on $175 million in bonds due that day. It will use its 30-day grace period to hash out its future with its creditors. And it hired two additional advisory firms.
One thing we know already: after years in the desert, restructuring advisors are licking their chops.
The company has $13.6 million in negative working capital, only $25.9 million in cash, and its $60 million revolving credit line has been maxed out.
But here is the thing: the company sold these bonds last August! And this was supposed to be its first interest payment.
That’s what a real credit bubble looks like. In the Fed’s environment of near-zero yield on reasonable investments, bond fund managers are roving the land chasing whatever yield they can discern. And they’re holding their nose while they pick up this stuff to jam it into bond funds that other folks have in their retirement portfolio.
Not even a single interest payment!
Borrowed money fueled the fracking boom. The old money has been drilled into the ground. The new money is starting to dry up. Fracked wells, due to their horrendous decline rates, produce most of their oil and gas over the first two years. And if prices are low during that time, producers will never recuperate their investment in those wells, even if prices shoot up afterwards. And they’ll never be able to pay off the debt from the cash flow of those wells. A chilling scenario that creditors were blind to before, but are now increasingly forced to contemplate.
When the heck will the bloodletting stop? Read… The Fracking Bust Exacts its Pound of Flesh
Enjoy reading WOLF STREET and want to support it? You can donate. I appreciate it immensely. Click on the beer and iced-tea mug to find out how:
Would you like to be notified via email when WOLF STREET publishes a new article? Sign up here.
I find it interesting that in the early going of the oil bust, the financial media tried to blame the Arabs! (I’m still laughing!)
On the financial media or the financial industry in general:
“There’s a lot less there than meets the eye.” — Winston Churchill
More oil price reductions are on the way… the US is set to start drilling off the continental shelf and Mexico’s PEMEX is coming back online. Can you say $1/gallon gasoline?
So now what is just about the only segment of the economy that boomed over the last 5 years is going to take the dirt nap. Let’s see how this one gets patched over to make the numbers look good. Don’t hold your breath! We’re going to have negative GDP and an actual, officially recognized recession instead of the uninterrupted, officially un-recognized one that we’ve been in the middle of for nearly a decade. All the QEs were nothing more than a high price to pay for the luxury of being in total denial.
Quicksilver Resources bought a defunct and shut-down/bankrupt pulp mill in a nearby city to where I live. They put up a huge sign announcing it would be an export focused LNG plant. People talked and buzzed about how what a wonderful thing it would be for the city. I would tell them it was simply for stock hype, and that Quicksilver could not even afford the clean-up costs. They looked at me like I was crazy.
I just sent the Quicksilver excerpt to our local papers and suggested the city get its financial house in order and not count on other people’s money to build upon.
In this instance, all it took was an 8’X12′ sign announcing the site was going to be a ‘future LNG Plant’, and a city of 35,000 bought into the tale going full speed ahead. People seem to believe what they only want to be true…that somebody else’s efforts will make them fortunes.
Companies promising to open new facilities is an industry itself in Florida. The companies have learned overtime, that the local and state govts will inject large amounts of tax and development money on just the promise of jobs. I have forgotten the number of times that the local and state govts have been burned by this and continue to do it. The deals are always in the 100’s of millions in direct subsidies and the companies always burn thru the cash and walk away.
Regardless of who or what caused the drastic reduction in oil prices, the US oil and gas industry seems to be the #1 victim.
The Russian oil and gas industry, with the unwavering support of China, has emerged practically unscathed.
For Chinese policymakers it looks like energy is viewed as too important of a strategic asset to leave up to the caprices of highly irrational (and manipulabe) market forces.
Could it be that the US has become the victim of its own quasi-religious belief in market fundamentalism?
The Russian oil and gas industry is in DEEP trouble. It’s essentially begging the Chinese for money and giving away the farm in return. It has dragged down the entire Russian economy that is experiencing the worst problems since the financial crisis. There is CHILLING econ data coming out of Russia right now.
And China’s numbers are looking worse by the day. Who’s left to bail everybody out.
My low gas price “tax cut” lasted all of 2 weeks here in central CA. Gas is already back over $3/gal. I guess we’ll just have to live without that consumer spending bump, but at least we can still blame the weather, right?
“A chilling scenario that creditors were blind to before”. Sorry, not buying it. They just ran out of greater fools (itself an eminently forseeable event), and penciled in, err, inked in, a bailout of some sort or another.
There is an ocean of anti-Russian propaganda in the US right now … most of it about as accurate as WMD in Iraq (got to keep the brass in NATO and the weapons builders happy), along with a lot of wishful ‘the Russians are collapsing’ stories. Isn’t going to happen. They are still making money at these prices (unlike the frackers) just less.
Here is an example of things Russia is doing that are not related to oil/gas. Places where Russia is building nuclear plants (China, India), has a firm contract or is in discussions. It’s a long-term investment for them, but could pay off well.
China, India, Belarus, Armenia, Kazakhstan, Turkey, Vietnam, Bangladesh, Jordan, Finland, Hungary, Slovakia, Egypt, Iran, Venezuela, S. Africa, Algeria, Argentina, and Brazil.
The nature of the oil & gas industry (as well as other energy-related industries) does not really suit the mechanism of free-market capitalism. Has a lot to do with geology, geography, politics, strategy, very long-term planning and investment etc…
The free market works well with family firms or car manufacturing, or electronics (even then, you need the necessary infrastructure from the government etc) but definitely not in the sphere of energy or natural monopolies etc.
The western oil majors, have been quasi-monopolistic, state-led and cartel-like. Free market does not always work.
@ Stavros H
There was a time in America when we had learned that lesson, but it now seems to have been forgotten.
We have come full circle back to the late 19th-century and early 20th-century style of ‘law-of-the-jungle’ capitalism favored by the titans of U.S. business of that day, along with the “scientific” theories (i.e., the social Darwinism of those like Herbert Spencer and William Graham Sumner) which lent predatory capitalism such authority and legitimacy.
For an outstanding discussion of this, and how it is related to the oil industry, I highly recommend Nicholas George Malavis’s “Bless the Pure & Humble.”
US shale companies like Continental still haven’t downgraded their assets, according to $50 oil. Last I checked, they were using $95 per barrel still. We’ve barely begun to see this thing unravel. I’ve been surprised at how slow it’s going, must be alot of fancy footwork going on behind the scenes, but we’re at the stage now where the dancing won’t be enough.
I expect to see two things going forward, more defaults and higher production.
I’ll beat you to it. Oil rig count in US down another 64 to 922.
Don’t forget to look at my charts when I’m finally done with them :-)
But the thing to watch now is natural gas. NG drillers have been bleeding for years, and largely covered it up. Now some of them, like Samson, are cratering … and when the $$ run out, they WILL cut their production. There are other things going on in NG that make me think that we could see a drop in production a lot sooner than in oil. And inventories are below the 5-year average (unlike oil). So there isn’t all that much room to play with. Stay tuned.