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BABC Member Wood Mackenzie




We took a stab at assessing the impact of October borrowing base redeterminations on a set of high yield borrowers on which we get the most questions.  Reading accounts in the press you might believe that upstream operators are buckling under crippling debt loads. We beg to differ. Most of the high yield borrowers in the upstream space are reasonably well positioned to continue drilling even at current oil and gas prices.  Our analysis suggests just a handful of these upstream companies will have to make asset sales, renegotiate lending terms or curtail drilling activity further. And we certainly don’t expect the October borrowing base redeterminations to have meaningful influence on oil supply.

Reserve-based lending (RBL) is a form of revolving credit extended by banks to operators on the basis of their oil and gas reserves in the ground .  Twice a year, in April and October, banks re-assess the value of those reserves and adjust the credit lines. With the steep decline in oil prices, there has been much attention this time around on the October redetermination. The “hit” based on oil price assumptions this October versus this past May should be around 20%. However, most companies have the capacity to absorb this, either because they have that unused capacity on their credit lines and/or cash on the balance sheet.

Credit lines are determined nearly entirely on the value of the cash flow streams from producing wells. While cash is generally being consumed at the corporate level, what some stories miss is that adding producing wells extends companies’ ability to borrow. With the focus on the cash burn, many forget to take into account the resulting additions to the borrowing base, which partially offset that cash burn. It is this piece of the puzzle that can allow upstream companies to drill at the current pace for longer than many imagine. When we layered this additional production into our analysis, what was already a manageable liquidity situation for most became even more so.