For more in depth analysis on Pinsent Masons' research on oil and gas services, see our Ahead Of The Curve special reports.
In an environment where unprecedented volatility continues and a sustained low oil price persists, the risk is increased, said insolvency expert Michael Thomson of Pinsent Masons, the law firm behind Out-Law.com.
"The fall in oil price in 2015 caused cash flow and loan covenant issues. Oil companies reacted by slashing spending on assets, cutting day-to-day operating costs and re-negotiating lending terms so as to avoid defaulting on their loans. Upstream, midstream, and downstream companies began taking steps to restructure, either pre-emptively, or necessarily, if they were already in distress. Service companies and rig operators experienced a drop in demand and were asked to accept lower prices for their services and/or extended payment terms. If these difficult conditions continue, it's possible to imagine that a number of parties will experience increased difficulty in carrying on business and avoiding insolvency," Thomson said.
Upstream finance expert Gillian Frew, also of Pinsent Masons, said: "The structures employed in upstream oil and gas financings are generally robust which, combined with hedging strategies, means insolvencies of upstream companies have been limited. However, given the recent further drop in oil prices, some companies are increasingly vulnerable. Companies with near term liquidity issues, particularly those with large development commitments, are now seeing a more proactive approach from the banks."
Pinsent Masons' research found that six of the 10 most prominent banks lending in the sector saw a price environment of under $50-60 as a risky lending environment. At $30 oil, there has been a further shift towards a more aggressive approach from the banks, Frew said.
With that in mind, Frew says that discussions with banks will become increasingly challenging as credit committees are viewing the oil and gas sector in a different light.
In scenarios where lenders or investors are no longer willing to provide support and parties are left trying to sell their business in order to avoid enforcement, reaching agreement on price is a challenge that sellers are experiencing when they approach the negotiating table, says Thomson.
"Some purchasers are in a strong position at the moment, and looking to pick up assets at a good price. But agreeing a deal can be blocked by the differential between what the seller thinks something is worth and what they can achieve in this market," he said.
"It's foreseeable that sellers may have to accept that, in the event that a sale can be agreed, the price they can achieve in this market might repay the bank but might not generate a significant surplus," Thomson said.
None of the 200 executives interviewed for Ahead of the Curve based their medium term strategy on a price persistently under $50, which suggests that the market has faith that prices are unrealistically subdued. Many will be able to survive and thrive in a $50-60 environment, but if the lows of early 2016 persist, the pain may come quicker and be more severe than many are hoping, he said.
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