Investors who backed producers before the oil price began to drop – or at almost any point during its decline – could well be looking at a paper loss. Lenders face a similar conundrum: they can either call in covenant-stretched loans and risk a messy insolvency and restructuring, or hope things improve and risk recovering less interest than expected.
It’s a situation which Premier Oil’s (PMO) investors and bankers know all too well. The inflection in the oil price cycle – and its delayed effects – has crashed several independent oil companies, and brought numerous others to the precipice. In February, with crude at $27 a barrel, Premier’s chief executive Tony Durrant wondered if his firm might be next.
Warning shot
In 2015 results published at the end of that month, Mr Durrant was forced to warn that persistently low oil prices could result in “a further relaxation of our main financial covenants”. Breaching covenants is a two-fold risk, as it not only increases the chance of one loan's default, but could trigger other covenant breaches in separate loans. And loans are something Premier Oil possesses in spades. As of this month, the £400m market cap company's net debt stood at $2.2bn (£1.5bn).
The company, along with its lenders, is deep into a mid-year review of those covenants. When we met with Mr Durrant last week, he said the talks had been productive and “at $45 a barrel, we may not need an amendment”, but admitted Premier is “on the cusp” and the situation is “too close for comfort”. One possible outcome might involve a partial repurchase of bonds, though this would need to be sanctioned by Premier’s banks. It also would place a greater strain on cash.
Cash is king
Cash is central to the lenders’ judgement, which has to factor in several moving parts. First is the ramp-up in the Solan gas field, west of the Shetlands, which achieved first oil on 12 April. Mr Durrant has set an internal target for his engineers of 20,000 barrels of oil equivalent per day by the end of June, once the second producing well is on stream. Providing there are no hiccups – and with operating costs of around $15 a barrel – this should prove a vital source of cash flow.
Another source of cash has been secured through January’s $120m purchase of E.ON's (Ger: EOAN) North Sea assets. The deal has given Premier significant reserves, and 15,000 new barrels of hedged oil a day and operating costs of just $20 a barrel. It has also been cited by several analysts as an implicit signal that lenders will support Premier in covenant talks, as the acquisition required their sign-off.
The third - and most important - factor in the negotiations is the oil price, which has recently shown signs of recovery. On Monday, Brent crude hit a six-month high of $49.47 amid worries of supply outages in Venezuela and Nigeria, falling storage figures and the closure of oil fields affected by the wildfires in Alberta, Canada. Naturally, further cuts to global supply will be good for the debt discussions and Premier's shares, which are in effect a highly-geared play on the oil price.
Finally, lenders and management will be looking to see if further cost savings can be made. As well as a cull of some rig crews’ slightly suspect helicopter booking practices, further capital expenditure cuts could be made to the Catcher project, while general and administrative costs are anticipated to fall further.
Uphill battle
All this still leaves a number of upcoming debt maturities: $307m in 2017, $362m in 2018, and $1.47bn in 2019, and almost $600m between 2020 and 2024. Under normal circumstances, according to Mr Durrant, re-financings would occur a year ahead of maturity dates, meaning a placing later this year is possible. Prior to that, Premier will need to broker a truce with its lenders, an event which FirstEnergy Capital analyst Stephane Foucaud believes “will be resolved at a cost of a few million dollars penalty”.
