Bondholder control bodes ill for future production growth

If you owe a lender $100, you’ve got a problem. If you owe $1mn, the lender has a problem. Oil companies exist at both ends of this old adage, and it all bodes ill for future production.

Lower for longer has led to a cash flow crisis in an industry that relies on up-front funding for returns that could be years down the line. Exploration spend is being pared to the bone, in favour of targeting cash to wring maximum value out of assets that already produce.

At the top of the pile, a company like Statoil can wipe 10pc off its budget for exploration.

Further down the food chain and the problem is amplified. Bigger companies take on big debt to cover the cost of living (and dividends), because they can. Got net debt gearing at 28pc, like Shell?

That’s the lender’s problem. But for independents Gulf Keystone, Xcite Energy and Circle Oil, what they owe is their problem.

None of them can pay back what is due to bondholders, who may end up taking control. Firms like these are a crucial component of future non-Opec production growth. They rely on that early influx of investment to fund frontier exploration.

Gulf Keystone listed on London’s AIM market in 2004, raising $60mn to fund drilling and infrastructure at an Algerian block. Xcite had a similar birth, raising $13mn on AIM in November 2007, and raised additional money through a placing in 2009 and 2010.

These initial funding steps have launched the likes of Det Norske and Lundin. The former is now a major independent player in the North Sea, but when it was known as Pertra, it raised capital in 2005-06.

Likewise Lundin, which struck oil at the giant Johan Sverdrup field in the Norwegian North Sea in 2010. Its path to the last of the massive continental shelf discoveries began with a listing in Sweden in 2001.

Tullow Oil is the prime example of how asset development can be a long slog. It listed in London and Dublin in 1989, and the expansion that funded is about to bear fruit offshore Ghana and, it hopes, onshore Uganda.

But with the market rebalancing — and therefore higher crude prices — taking longer than anticipated or hoped, companies can find themselves burning through cash. Xcite’s Bentley field development plan was submitted in May 2011, but it has no production, and therefore no revenues.

The sight of stakeholders getting wiped out may be enough to deter investors from the crucial first funding step for companies that find the oil of tomorrow.

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