Wednesday, January 27, 2016

Banks Much Deeper in the Hole on Oil & Gas Collateral than they Pretend

Wolf Richter,

“All of it is in the gutter.”

An asset is ultimately worth what a buyer is willing and able to pay for it. That price turns out to be terribly low for oil and gas assets. This is a big problem for banks, which used these assets as collateral for energy loans they extended during boom years — a much bigger problem than suggested by the current spate of puny additions to loan loss reserves.
Natural gas driller Quicksilver Resources, which filed for Chapter 11 in March last year, sent an email to its remaining employees Friday night at 11 p.m. to announce the sale of all of its US oil & gas assets, the Fort Worth Star Telegram? reported. Saturday morning, it filed the documents in bankruptcy court in Delaware. The judge has to approve the deal.
The price it got for its US assets is an eye-opener.
The company, which is based in Fort Worth, TX, also owns some assets in Canada which it will try to sell separately. But they’re not included in the bankruptcy. When it filed for bankruptcy, it listed $2.35 billion in debts and only $1.21 billion in assets. “The rest was drilled into the ground to never be seen again,” I wrote at the time.
Only it’s a lot worse. All it got for its US assets was a paltry $245 million.
The proceeds from those sales — what’s left after lawyers and restructuring advisors get their cut — are going to be handed to the creditors. Tiny scraps to cover $2.35 billion in debts.
“This sale maximizes value for the benefit of our creditors in the face of difficult market conditions,” explained Quicksilver CEO Glenn Darden in astatement released Saturday.
The auction, originally scheduled for December but postponed due to the chaos in the oil and gas markets, was held last Wednesday. The buyer was BlueStone Natural Resources II, based in Tulsa, OK. It was formed in 2012 backed by Natural Gas Partners, a PE firm in Irving, TX. BlueStone has completed over 30 acquisitions of oil and gas assets in Texas with over 800 wells.
“The acreage is good, but under the current commodity price nobody can make any money,” Ross Craft, CEO of Fort Worth based Approach Resources, told the Star Telegram. His company had been approached last year about acquiring Quicksilver. “All of it is in the gutter,” he said.
Due to the “disequilibrium in the market,” it’s difficult to find a price buyers were willing to pay and creditors were willing to accept, the Star Telegram reported, citing “industry observers.”
Adam Dunayer, managing director at Houlihan Lokey, the investment bank and restructuring advisor involved in marketing the assets, explained it this way: “They were the highest and best bidder that participated in the process. We went out to hundreds of buyers, and they were the last one standing.”
Among Quicksilver’s $2.35 billion in debts, are $1.098 billion in secured debts, composed of a first-lien revolving credit line of about $273 million, a second-lien $625 million term loan, and second-lien notes of about $200 million. The rest is unsecured. So Quicksilver’s collateral to secure about $1.1 billion in debt is now worth $245 million.
And this is where it gets tricky for banks. Quicksilver is just one in many over-indebted companies in the oil and gas sector that have been waylaid by the collapse in the prices of oil and natural gas.
While bond holders have been bloodied for over a year, banks have just now started to officially grapple with this on their financial statements. For the first time since Q4 2009, the big four banks – JP Morgen, Citigroup, Bank of America, and Wells Fargo – have added to their loan-loss reserves when they reported Q4 earnings. The biggest one, JP Morgan added only $124 million to its loan-loss reserves to cover expected future losses on its oil and gas loans. A minuscule amount, given the size of JP Morgan’s energy loan book [read…Chilling Thing Jamie Dimon just Said about the Economy].
During the earnings call, CEO Jamie Dimon came under attack over that $124 million: wasn’t it way too small to cover potential losses? But he remained sanguine and raved about how the cost “to get the oil out of the ground has also dropped dramatically.” And then he said this:
“We’re not worried about the big oil companies. These are mostly the smaller ones that you’re talking about.”
“These are asset backed loans. A bankruptcy doesn’t necessarily mean your loan is bad; you have to be a little bit careful.”
Quicksilver’s loans are asset-backed too. But the value of those assets, when an actual buyer had to be found, shrank to a small fraction of the amount of the loans. And yet Dimon soldiered on:
“There is also a philosophical thing. A bank is supposed to be there for clients in good times and bad times…. So then, if we can responsibly support clients we are going to. And if we lose a little bit more money, so be it. We’ve done that around the world. We did it in 2007, 2008 and 2009. We tried to do responsibly. If banks just completely pull out of markets every time something gets volatile and scary, you’ll be sinking companies left and right.”
And he’s right: banks need to be there for their clients when things get tough. But in 2008 and 2009, the years he mentioned, the banks were bailed out by the Fed and the Treasury in the US and by other entities in other countries.
Quicksilver’s secured creditors are now finding out what it means to lose “a little bit of money” on their asset-backed loans. But JP Morgan doesn’t want investors to find out what that “little bit of money” could mean for its own oil & gas loan book and earnings. So it will do what it can to delay the moment of truth.
“Extend and pretend,” as it’s called, still rules the day. The fact that it took a year-and-a-half of this terrible oil bust before big banks made the first additions to energy loan loss reserves shows how parsimonious big banks are in serving up a sense of reality.
Turns out, according to Moody’s, “Some very critical things are hidden.” Read…  This is Why Junk Bonds Will Sink Stocks: Moody’s

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