Bankruptcies to spike in the US Oil and Gas E&P Industry!! Another victim of Covid-19

• WTI Crude records huge fluctuations in prices in past few months
• Financial performance of companies deteriorates in Q1 20, further drop seen in coming quarters
• Increasing number of companies file for Chapter 11 bankruptcy protection

Crude oil prices have been on a tear over the past few months, recording highly mercurial movements wherein the major US benchmark, WTI moved to as low as minus ~$40 per barrel (during mid-April), for the first time in history to recording one of its best monthly performances ever in the month in May. Most active futures contract for WTI closed near ~35.50 per barrel at the end of May month, marking a ~100% rise during the month and recording its best gains in a month since the start of the WTI contract in 1983. Despite the blockbuster performance in the past month, prices continue to be lower by 45% as compared to the levels seen during the start of the year and trade significantly lower than the marginal cost of production of most companies and oil producing regions in the US.

The issues pertaining to weak demand amidst the health and economic fallout due to the Covid-19 pandemic along with disagreements between the OPEC members during the past few months have been the reasons for such wide fluctuations in the price of the commodity lately. Persistent subdued prices have hit the revenue generation and profitability of almost all players in the oil and gas exploration and production industry while leading to significant distress for companies in the US and across the globe. If we look at the financial performance of major listed players in the US during the first quarter of 2020, there is a fall of 13.5% in terms of revenue of the 67 major listed players (Source: Televisory, Industry monitor, EQUiBase module) to $40.7 Bln while EBITDA margins have dropped to 30.5%, recording a cut of around 1500 bps as compared to performance in the sequential quarter. Companies have done even weaker at Net income level, wherein the Net profit margins have slipped to minus 100% levels, a reflection of lower price realization on sales, lesser cut in terms of operational costs, continued expenditure on non-operating and majorly financial expenses as well as steep cut in profitability due to the adjustments over impairment losses amidst the fall in the price of the commodity in the last quarter.

                                   Revenue, EBITDA and Net Profit Trend (USD Bln)                EBITDA and Net Profit Margin Trend (%)

                                Source: Televisory Platform, Industry monitor (EQUiBase module)

Performance is expected to show extended deterioration in the current quarter as demand continues to be weak across sectors and economies, and companies might come to a level wherein it could put increasing pressure on them to cover their financial and debt obligations. If we look at the report from Haynes and Boone, LLP, 7 companies have filed for bankruptcy protection in the US during the first quarter while another news agency reported, total number of companies which have filed for chapter 11 bankruptcy protection in the sector stood around 17 till the end of May 2020. As per a separate study from Rystad Energy, nearly 73 Exploration and Production players in the US are likely to file for bankruptcy protection by the end of 2020, with around 170 more following in the next year. The number of bankruptcies may move even higher if crude oil prices trade lower in a consistent manner (Rystad Energy’s forecasts and expectations are based on an WTI average of $30 per barrel). Though prices hover above that area for now, they continue to be lower than the average $40-$60 (as stated above) anticipated by most players on a minimum to sustain their business.

As the pandemic has only intensified in major emerging and developed economies, during the past few months, struggle for governments, industry and people is likely to continue over the medium-term, to find out the optimum trade-off and way-out between continuing the lockdown to restarting the economy without putting much pressure on the health as well as the fiscal situation. Almost all major governments along with pharmaceutical companies are burning their mid-night oil to get the right vaccine for the coronavirus, however, it is still time before we see any constructive breakthrough. The issues, at a macro level are likely to weigh against a very strong and sustainable recovery in the oil prices in the short to medium term and hence expected to drag the company’s financial health during the period. We can only hope that a solution to the problem becomes available, as early as possible, trimming down the loss to the industry and companies within.