← Go back to All Blogs
Sign in to follow this  
Followers 0
  • entries
    5
  • comments
    6
  • views
    1,344

About this blog

Capital for small independents has been an issue since the downturn and doesn't appear to be abating even with $65-70 oil.  Banks have been less interested in providing much needed capital to these smaller entities.

When the oil market crashed in 2014, there were 177 bankruptcies as a result.  Why did they occur?  Simple... the banks lent the oil companies money based on their reserves, valued at $80-100 per barrel.  When the market crashed to $27 a barrel, the banks called the loans but the money was in the ground and everyone was upside down.

Needless to say, it was a bad decision all around; relying on a fractious commodity price to service a hard asset with a terminable interest rate that needed to be paid back come hell or bankruptcy. The result is the small to medium operator has no source of capital.  They're too small for the larger banks or private equity firms to be interested.  

Volumetric Production Payments, (VPPs), have been used prior to even the oil and gas industry drilling its first well... in the gold rush days to be exact.  It provides financing by using existing production to forward finance re-works, re-completions, PUD drilling etc.

The production is bought at a discount to the market and a strict delivery schedule is offered to the financial source and hedged.  Typical terms are 3-4 years at the end of the term, the producer gets his total production back.  Normal terms are for the producer to retain 40-70% of his existing production during the term.

There are about 9,000 independent oil and gas producers in the U.S and employ an average of just 12 people...this is a market niche that desperately need to be served.

Entries in this blog

 

Achieving High IRR's Financing Oil Deals

TODAY'S INVESTMENT GOAL:   How to achieve high Internal Rates of Return, (IRR), with a properly structured transaction based on existing oil and gas production … without the market risk of most oil and gas investments.  Can this be done?   Requirements to achieve the strategy and returns for discussion: Buy production at a reasonable discount Evaluate the production as to the operator’s capability to deliver what is purchased Hedge the acquired oil/gas to eliminate market risk   Requirement #1   Acquire production at a discount   The niche is the small to medium sized producer that has found development capital difficult to raise due to banking reserve requirements after the oil/gas price crash of 2014-2018.  Deal with producers that have existing PDP production that can be leveraged and provide the capital to improve it.   The oil is ‘rented’ for a term under a delivery schedule obviating the risks of onerous working interest structures, joint venture follies, drilling and equipment issues and any assortment of the usual risks.  The investor is not an oil company…   Oil Company Benefits:  Not an interest bearing loan, a footnote to the balance sheet Non-recourse Zero equity take-out, the company parts with none to the investor   Requirement #2                          Evaluate the operator’s capability to deliver The existing production is evaluated by a major engineering firm.  They deliver a comprehensive report regarding the ability of the oil company to meet their delivery obligations for the length of the term. The amount of oil purchased varies based on the capital needs of the company.  Oil/Gas is delivered on a stated monthly schedule, that matches the decline curve of the production.  The investor becomes part of the division order to secure repatriation of the invested amount, satisfying the delivery contract. Requirement #3 Hedge the acquisition to avoid market risk The desire is to avoid all market risk… a put is purchased on every barrel of oil bought, matching exactly with the delivery schedule.    What are the risks?       1. Market: Risk Factor – NONE Eliminated due to hedging      2. Counter party on the hedge: Risk Factor – MINIMAL  Reduced by using top credit firms.      3.  Delivery: Risk Factor – MINIMAL Reduced by quality engineering during due diligence.     4.  Environmental and Title: Risk Factor – NONE One of the top oil and gas law practices in the country prepares the review of title and environmental risks.     5.  Character: Risk Factor – MINIMAL Extensive background and credit record of the operator and producer is performed and evaluated.  In Conclusion: Investor Benefits:   The capability to have a high IRR, (much higher than most oil companies make historically). The investor has no downside market risk and can structure the transaction so they have upside profit potential. The investor has no operating expense, is not subject to being over-operated, has no equipment, will never get a cash call. The returns available via this structure are generous as to IRR’s, much higher than other investments with similar risk profiles.  

What if the Oil Business did this?...

What if the oil and gas industry could find capital without giving up large chunks of equity, dancing to a banker's tune or having to go out and raise capital in non-conventional methods? What if the price of oil didn't play havoc with every financing decision made?  Who can call the floor on prices?  Oil executives are handcuffing themselves to believe that higher prices are coming, try to second guess the market and are hamstrung by the proverbial 'paralysis by analysis.' What if we didn't see the decline in prices impacted by computer-driven models?  What if the true value of oil and gas were represented by real time trading and fundamental factors versus declines that were more technical in nature? What if producers that have capital needs could have their production bought over a three to four year time frame and have that oil or gas paid for up front to generate the much needed capital they seek? What if there would be someone out there to absorb this 'time-risk' for a term and get the producer the money they need for re-works, PUD drilling, debt pay-down etc.? What if the producer had the capability of getting this capital off balance sheet, non-recourse, no debt and no equity relinquishment?  What if there were tax benefits thrown in as well? What if the producer maintains total control and participates in 100% of the upside by using this capital? What if the biggest risk in the transaction was delivery risk? What if the capital was easy to access and could close the transactions in 45 days or less? What if we talk about this?  
 

Capital Markets... Dive in Now?

The recent market volatility has left investors and capital seekers seeking he same consensus: where does it end and what's the upside?  The age old question continues to perplex both parties.  I'm taking the position from both sides.. first as a former exploration company President who had sought capital from the banks, from P/E firms, mezzanine debt and from the public markets and secondly as a capital provider.  We currently manage substantial amounts of capital that are looking to deploy into the energy sector, so being on both sides in a past and current life, I speak from experience. Oil and gas companies that seek us out for capital come in a number of flavors and sizes.  Typically, they are smaller entities, or juniors.  This is our financing niche.  Their needs are the usual: drill PUDs, re-work, acquire non-cores, get a leg up on OPEX and generally seek growth in fractious times.  In nearly every case, the banks are exhausted as much as the juniors are.  These companies are far too small for the P/E firms to get involved and the old 'Third for a quarter' deal won't cut it.  What to do? As a capital provider, we seek to obviously entreat the best companies we can to provide this dearly needed money.  Some have said that the smaller deals that come in to any facility seeking capital are the deals no one else will touch.  We disagree.  The old saying, "Oil and gas doesn't care who owns it,' serves a point.  Economies of scale are persistent relative to size.  Nearly all the companies we review are sitting on oil, and what better place to produce from than an existing field?  Have the production and a good development plan?  Are these good oil people with a solid history of exploration and exploitation?  We take these into account, among other things as we review and allocate due diligence resources to determine if the underpinnings are there and there's sufficient existing PDPs to support the capital raise over a term. A word about the raise.. it's non-recourse, not a loan, off balance sheet, no equity take out and there's no back-in after payout. Oil companies seek a better, more efficient way to utilize and pay back capital and there is a better way than the old tried and perhaps not so true way... In these times, we feel a floor has been reached and tested market wise.  Wise firms can access wise money now, versus looking for it when the recent 30% drop has been recovered and capital costs and service costs will likely erode portions of this gain. Companies can't afford to hand wring now... it's time to set up for the future and plan capex budgets now.         

Omnipresent Big Need for Capital... Alternatives?

Smaller producers who are finding it more difficult to secure bank credit, with many loans still under pressure, are seeking new ways to capture funding.  As prices are making it a bit easier to add to the balance sheet, versus $26 per barrel in recent times, new avenues for capital have opened up. We see the increased ability of 'non-bank' capital sources to serve these operators that have a large need for capital.  Reserve Based Lending, (RBLs), are certainly in transition and many smaller operators are simply too small to attract this capital.  Mezzanine debt and some credit funds have typically been the next horizon for capital, but other alternative methods are needed to fulfill this capital need that make sense to these sized operators. Backstory: the Comptroller of the Currency's revised lending guidelines have become stricter and banks are being squeezed.  More than $208 billion in upstream debt existed at the end of 2017, with nearly $75 billion not in compliance with the new banking strictures... So, what does this mean for the producer?  As these mature, some may be renewed, many will not and where there's a gap and if companies can't renew their RBL, they'll need other methods to fund themselves.  Solution for some, not for all: Volumetric Production Payments, (VPPs) on existing production.  Not bank debt, non-recourse and there's no equity relinquished to the private equity bunch.  We love to see PDP assets and can leverage them to grant the capital these firms need effectively and efficiently, usually within 30-45 days, versus the slog through banking procedures. It makes sense that as the traditional methods of funding are under pressure, that direct capital can be accessed through ways that make sense to the operator... he keeps the upside, typically at least 70% with facilities up to $20 million. Always open for discussion!

KH

BlackLine Resources

 

Capital for Independents Take on a New Look

Capital for small independents has been an issue since the downturn and doesn't appear to be abating even with $65-70 oil.  Banks have been less interested in providing much needed capital to these smaller entities. When the oil market crashed in 2014, there were 177 bankruptcies as a result.  Why did they occur?  Simple... the banks lent the oil companies money based on their reserves, valued at $80-100 per barrel.  When the market crashed to $27 a barrel, the banks called the loans but the money was in the ground and everyone was upside down. Needless to say, it was a bad decision all around; relying on a fractious commodity price to service a hard asset with a terminable interest rate that needed to be paid back come hell or bankruptcy. The result is the small to medium operator has no source of capital.  They're too small for the larger banks or private equity firms to be interested.   Volumetric Production Payments, (VPPs), have been used prior to even the oil and gas industry drilling its first well... in the gold rush days to be exact.  It provides financing by using existing production to forward finance re-works, re-completions, PUD drilling etc. The production is bought at a discount to the market and a strict delivery schedule is offered to the financial source and hedged.  Typical terms are 3-4 years at the end of the term, the producer gets his total production back.  Normal terms are for the producer to retain 40-70% of his existing production during the term. There are about 9,000 independent oil and gas producers in the U.S and employ an average of just 12 people...this is a market niche that desperately need to be served.
Sign in to follow this  
Followers 0