January 25, 2016 by Canadian Underwriter
The ratings outlook for 120 oil & gas and 55 mining companies is being reconsidered, with Moody’s Investors Service announcing Friday that it has placed the ratings on review for downgrade.
The reviews “reflect a mix of declining prices that are near multi-year lows, weakening demand and a prolonged period of oversupply that will continue to significantly stress the credit profiles of companies in these sectors,” notes a statement from Moody’s.
In addition, the actions “reflect Moody’s effort to recalibrate the ratings in the oil & gas and mining & metals portfolios to align with the fundamental shifts in the credit conditions of these sectors,” the press release adds.
The announcement comes on the heels of several recent rating-related statements issued by Moody’s for the energy sector, including in Canada, the United States and Latin America.
Last Thursday, Moody’s placed the ratings of 19 exploration and production (E&P), and oilfield services companies in Canada on review for downgrade.
The range of possible outcomes upon conclusion of the review for given issuers varies from possible confirmation of ratings to multi-notch downgrades.
“Oil prices have deteriorated substantially in the past few weeks and have reached nominal price lows not seen in more than a decade,” Moody’s notes in its ratings rationale.
“We see a substantial risk that prices may recover much more slowly over the medium term than many companies expect, as well as a risk that prices might fall further. Even under a scenario with a modest recovery from current prices, producing companies and the drillers and service companies that support them will experience rising financial stress with much lower cash flows,” it continues.
Moody’s points out that while the review for downgrade considers focuses on companies rated in the range from A1 to B3, the firm is also re-evaluating higher and lower rated companies in the context of industry conditions.
“The higher rated companies on average are somewhat more resilient to low oil prices and Moody’s has recently downgraded many of the lower-rated companies,” the statement explains.
Moody’s reports that production now exceeds demand by about 2 million barrels per day, thereby adding to already high global oil stocks.
“Lower oil prices will further weaken cash flows for E&P companies and the upstream portion of integrated oil and gas companies,” the statement explains.
“This will cause further deterioration in financial ratios, including deeper negative free cash flow. Most companies are unable to internally fund sustaining levels of capital spending at current market prices,” Moody’s adds.
In addition, “while integrated oil and gas companies benefit from the profitability of their downstream operations, the upstream operations represent a much larger part of the capital employed and cash flow for most of these companies.”
With regard to the drilling and oilfield services (OFS) sector, Moody’s notes that it expects OFS sector EBITDA (earnings before interest, taxes, depreciation and amortization) to drop by another 25% to 30% in 2016, “testing the viability of the capital structures of many of these businesses.” Credit quality is expected to deteriorate for all OFS players in 2016.
“Drillers with significant contract expirations will also suffer material credit degradation as contracts are either not renewed or are renewed at rates that produce far less revenue,” Moody’s expects.
“Multi-notch downgrades are particularly likely among issuers whose activities are centered in North America, where natural gas prices have declined dramatically along with oil prices. Moody’s expects to conclude a majority of the reviews by the end of the first quarter,” the statement adds.