The finances of the oil and gas industry are so dismal that the major banks that have funded the money-losing fracking boom are now exploring taking the unusual step of taking over the oil companies that cannot afford to pay back the banks' loans.
Reuters reported that banks are exploring the option of seizing oil company assets because the more traditional route of bankruptcy will result in huge losses for the banks — while seizing assets and holding them until oil prices increase would likely minimize those losses.
Buddy Clark of law firm Haynes and Boone explained to Reuters that, “Banks can now believably wield the threat that they will foreclose on the company and its properties if they don’t pay their loan back.”
While banks seizing assets from borrowers who can’t repay loans is common for industries like real estate — especially residential real estate — it is an unusual move for the oil and gas industry. Reuters reported that the last time it happened was during the oil price crash of the late 1980s. In the most recent oil price crash, when oil dropped from prices over $100 a barrel to $40 a barrel, there was a rash of bankruptcies, but the banks did not seize assets.
One difference now is that shale oil companies have continued to increase debt — thanks to loans from the banks — to the point where most of these companies are not viable with low oil prices. As one industry observer recently noted in The New York Times, “This is late ’80s bad.”
One new angle that didn’t exist in the 1980s is a dramatic change in sentiment from parts of the investment community about the viability of the oil industry as an investment. Television investment advisor Jim Cramer of CNBC was saying oil stocks were in the “death knell phase” in January, before oil prices crashed to the current lows and the coronavirus had crushed global oil demand.
More recently, in a remarkable opinion piece for Seeking Alpha, Kirk Spano advised investors to get out of the industry now with a unique twist on why this was urgent:
“We are about to see a massive wave of shale oil bankruptcies by thieving executives who have borrowed against assets and paid themselves bonuses for years without regard to shareholder value.”
While DeSmog has commented on issues of potential industry fraud and executives paying themselves while the companies they ran lost money, it is a decided shift in sentiment when sites like SeekingAlpha are calling for investors to get out and then “sue the dirt out of the executives who have almost all broken fiduciary duties.”
Which is why banks are now considering seizing the assets of the failed oil companies — it is a bad option for the banks but it is the best one left.
According to Moody's, in the third quarter of 2019, 91 percent of defaulted U.S. corporate debt was due to oil and gas companies.— Clark Williams-Derry (@ClarkWDerry) April 10, 2020
Remember, this was BEFORE the coronavirus & price war. The oil industry was already in crisis before today's crisis started.https://t.co/R9l04dzdIG
Financing for Oil Asset Sales Not Available
Understandably, these same banks that have financed the industry and the shale oil boom are not interested in making new loans for companies to acquire assets. This is causing another major problem for even the largest oil companies that had planned to fund current money-losing operations by selling assets.
BP had planned to sell its Alaskan assets to the company Hilcorp for $5.6 billion dollars, but now it appears the large banks are not willing to loan Hilcorp that money — which according to the Wall Street Journal means the deal is likely dead.
This is an example of how the oil industry’s reliance on debt is finally causing serious problems. As we have highlighted, the companies fracking shale for oil have always relied on debt but until recently that wasn’t an issue for major oil companies like BP.
The Wall Street Journal reports the reason BP wanted to sell these assets is that the company also is highly leveraged, and planned to use this asset sale to pay down some of its debt.
This doesn’t bode well for Exxon’s plans to fund its ongoing operations by selling assets. Exxon had announced plans to raise $15 billion this year from asset sales, but it doesn’t appear there are any lenders who are willing to loan that sort of money to companies wanting to buy oil and gas assets.
“Exxon & Total haven't generated enough cash…to cover …expenses & dividends…BP was able to cover its dividend, but…debt levels rose. Shell needed asset sales to help cover dividends & buybacks.”https://t.co/5gVPdUVntv#OOTT #oilandgas #oil #WTI #CrudeOil #fintwit #OPEC— Art Berman (@aeberman12) November 2, 2019
Fracking Existed Because of Debt, Without New Loans It Can’t Exist
As we have documented on DeSmog, for the past two years the U.S fracking industry has borrowed approximately $250 billion more dollars than it has made selling fracked oil and gas. This has made a lot of fracking CEOs very wealthy and much of that money has also gone to Wall Street bankers — and they won’t be giving it back.
Without the option to borrow more money, the industry will be decimated. In a New York Times op-ed last week journalist Bethany McLean highlighted this reality.
McLean’s book Saudi America highlighted the fatal flaws in the finances of the fracking industry and her current piece sums up the reality of the delusional finances of the fracking industry.
“In reality, the dream was always an illusion, and its collapse was already underway. That’s because oil fracking has never been financially viable,” writes McLean.
Things that are unsustainable usually do come to an end. One day. https://t.co/PRdYNrDC0s— Bethany McLean (@bethanymac12) April 11, 2020
The banks know this, which is why they are no longer making loans to shale companies and are taking the last desperate step of seizing oil company assets.
But the banks know one other thing. Banks are first in line for bailouts and there will be plenty of money for them to navigate this issue. The big banks caused the housing crisis by making bad loans — and were bailed out.
The big banks funded the money-losing fracking industry for the past decade just like they funded the housing crisis — but the reality is, just like in the housing crisis, the coming bailouts will protect the banks.
What is different about this crisis is the housing market rebounded and continues on as a large part of the U.S. economy. If people like Jim Cramer are correct and the oil industry is in its “death knell phase” — future funding of the oil industry by these banks may not continue with the reckless abandon that fueled the great American fracking disaster.
Main image: Oil industry operations in the Permian Basin of Texas. Credit: Justin Hamel © 2020