US oil exploration firms to struggle in a low-price environment

The number of highly leveraged companies in the American oil market 'will shrink amid waning support' from banks and investors, Moody's says

Oil pumping jacks, also known as "nodding donkeys", operate in an oilfield near Almetyevsk, Russia. Refiners’ margins are expected to revive in 2021 but will remain below mid-cycle levels, Moody’s said. BloombergShow less

The decline in demand for oil experienced so far this year is highlighting the differences between stronger and weaker exploration companies, particularly in the US, according to Moody's Investors Service.

Changes in the market could also alter long term energy consumption patterns for good, which could increase volatility in oil and gas pricing, the ratings agency said.

"The coronavirus pandemic has extended the slump in oil prices and, in turn, amplified disparities between stronger and weaker exploration and production companies," said Steven Wood, a managing director with Moody's Corporate Finance Group.

"Well-capitalised E&P firms and oil majors will consolidate their US shale assets, while the number of highly leveraged companies will shrink amid waning support from banks and investors.”

The Covid-19 pandemic has tipped the global economy into its steepest recession since the Great Depression, with the World Bank forecasting a 5.2 per cent decline in global gross domestic product this year.

The widespread movement restrictions put in place to stop its spread led to a steep drop in demand for oil that coincided with a supply glut, leading to prices of US benchmark West Texas Intermediate briefly falling below -$40 in April for May delivery contracts as storage space filled. Crude’s slump ate into the profitability of energy majors and forced smaller companies in the market to file for bankruptcy.

The pandemic has also increased pressure on large, integrated oil and gas companies to adjust their product mixes and reduce their carbon footprints, Mr Wood added.

Anglo-Dutch major Shell said in July that it was slashing the value of its hydrocarbon assets by up to $22 billion (Dh80.9bn) after reassessing long term price forecasts. BP also wrote off its fossil fuel assets by $17.5bn and sold its petrochemicals business to UK billionaire Jim Ratcliffe for $5bn. The oil major also cut its dividend for the first time in a decade after posting a $6.7bn quarterly loss earlier this month.

National oil companies' earnings will recover over the next two-to-three years, though the extent and speed of recovery will depend on how soon economic activity returns to normal, and on the post-Covid policy actions taken by their government sponsors, Moody’s said.

State-owned companies such as Saudi Aramco have also suffered from declining earnings as oil prices fell and refining margins came under pressure. The world’s largest oil exporter registered a 73.4 per cent decline in net profit for the second quarter, but maintained its pledge to pay $75bn in dividend this year. Net profit for the second quarter fell to 24.62bn Saudi riyals (Dh24bn) from the year-earlier period.

Refiners’ margins are expected to pick up in 2021 but will remain below mid-cycle levels, Moody’s said.

Oilfield services and drilling companies have also faced plummeting demand and cash flow deterioration in the first half of 2020, Moody's said, as exploration and production companies rein in capital expenditure.

"The handful of investment-grade OFS (oilfield services) majors should be able to weather some prolonged industry stress, but most speculative-grade OFS firms will face an extreme liquidity crunch," the agency forecast.

Earlier this month, Norway's Rystad Energy said bankruptcies among US oil and gas producers had hit a four-year high, with producers such as Chesapeake Energy (with $9.2bn of debt), Ultra Petroleum ($5.5bn), Whiting Petroleum ($3.6bn) and Denbury Resources ($2.1bn) all filing for bankruptcy protection.

Oil prices rose on Monday as tropical storms threatened to shut in production from the US Gulf Coast.

International benchmark Brent, rose 0.56 per cent to $44.6 per barrel at 5.32pm UAE time, while WTI was up 0.14 per cent at $42.40 per barrel.

"Over 1 million barrels per day of oil and 1.2 billion cubic feet per day of gas supply from the Gulf of Mexico have been shut in as hurricane Marco is expected to make landfall later today on the central US Gulf Coast,” JBC Energy said in a note.

Another tropical storm, Laura, which is expected to turn into a Category 1 hurricane, is also likely to land on the Gulf Coast after moving through Cuba and is expected to hit shipping and refinery operations in the area.