Wall Street’s Looking for More Ways to Rein in Energy Borrowersby
Lenders get increasingly fearful as more energy companies fail
“They don’t want to keep throwing good money after bad.”
Banks that have cut billions of dollars from U.S. oil and gas drillers’ credit lines are trying to make it even harder for the beleaguered companies to borrow.
At least three law firms have been hired by banks to look for ways to add stricter lender protections to credit agreements, and to prevent some of the riskiest borrowers from drawing down on their lines, according to people with knowledge of the matter who asked not to be identified because the mandates are private.
Banks can usually cut the lines twice a year, when they review the value of the oil and gas reserves that are collateral for the credit. But banks are going beyond those reviews to find other ways to limit their risk.
“Lenders are looking for ways within the four corners of their credit agreements to stop borrowers from borrowing more” said David Feldman, a restructuring attorney at Gibson, Dunn & Crutcher. “They don’t want to keep throwing good money after bad.”
Banks are suffering now for loans they made when times were better. Oil that traded at more than $100 a barrel in the middle of 2014 now it trades at closer to $48. Even after a recent rally, that level is still below the price needed to bail out many of the troubled companies. At least five energy companies have filed for bankruptcy this month. More than 130 North American energy companies, including producers and services companies, have filed since the beginning of 2015, according to law firm Haynes and Boone.
Lines of credit to energy companies could be unusually troublesome for banks in the coming months. In previous credit cycles, revolvers were backed by enough collateral to ensure that lenders would be covered if the borrower failed. That may not be the case in this downturn, Citigroup Inc. analysts led by Marisa Moss wrote in a report in March, based on a conference call the bank hosted with lawyers from Davis Polk & Wardwell.
Often, banks have no choice but to hand over cash when borrowers want to draw down on their credit lines, which explains why so many lenders are setting aside more money to cover bad loans.
“When you’re a lender, you make a commitment that if the borrower makes a drawdown request, you honor it,” said John Castellano, a turnaround specialist at consulting firm AlixPartners.
Banks have the most negotiating power when a company has violated the terms of its debt agreements, and lenders can either put the borrower into bankruptcy or force it to accept more restrictive terms, often as part of a broader debt restructuring effort.
In February, for example, Foresight Energy LP missed a $23.6 million interest payment on a bond. That could have set in motion events that put the company into default on all its debt.
In April, lenders including Citigroup agreed not to demand immediate repayment, but they extracted concessions from the company. In addition to cutting its credit facility by $75 million, they added a clause to its lending agreements preventing the company from drawing down on its credit lines when its cash exceeds $35 million, a restriction known as an “anti-hoarding provision.” The new terms are contingent on the company successfully restructuring other debt. Robert Julavits, a spokesman for Citigroup, declined to comment.
Anti-hoarding provisions were popular before 2005, but became less common in recent years as lenders desperate for yield have loosened their demands on borrowers, said Lewis Grimm, a lawyer who specializes in risky companies’ debt at Jones Day.
Banks similarly tightened terms for oil and gas company Penn Virginia Corp. when its annual financial statements included a statement from its auditors raising doubts about its ability to continue operating. That “going concern” language could have started a series of events that would have left the company in default on its revolving credit line.
A group led by Royal Bank of Canada and Wells Fargo & Co. gave Penn Virginia until as late as May 10 before they would declare an event of default. In exchange, they demanded that the company close out some of its hedges and use the proceeds to pay down their loans, pay higher interest, and accept a series of other restrictions. The company filed for bankruptcy last week.
Jessica Ong, a spokeswoman for Wells Fargo, declined to comment. Sanam Heidary, a spokeswoman for RBC, did not respond to requests seeking comment.
Many lenders recognize that at this stage of the energy cycle, they have few options.
"There is little protection for lenders once you agree to the terms," said Sam Xu, an energy banker at CohnReznic Capital Markets. "You agreed to a certain amount, you have to grant it."