According to a recent report by EY, more creative financing techniques and new sources of finance in oil and gas will help to ensure that sufficient and efficient funding is available to finance projects in the future.
In response to heightened political and economic uncertainty, companies have begun to diversify their sources of funding. This has involved a shift from bank-led financing to non-bank and capital markets-based funding.
Most companies have in place a corporate revolving credit facility (often syndicated across a number of banks) that gives them financial flexibility for their day-to-day operations. Amid the current negative stock market sentiment towards the industry, EY holds that companies may benefit from yet more diverse sources of funding.
EY explains that equity capital market conditions for most small exploration companies remain difficult, following the financial crisis. There continues to be divergence in the availability of capital within the sector. Companies without cashflow from operations, lacking in scale or with risk concentrated in a single project or country are likely to face a more challenging funding outlook. In contrast, companies that are able to deliver, and also communicate, exploration and commercial success will face fewer challenges in raising capital.
Equity issuance is often the fist or only option for pure-play exploration companies, according to EY. These companies generally have low debt capacity due to lack of proved reserves and cash flow. Investors took flight from perceived riskier stocks in the aftermath of the financial crisis and confidence, in exploration companies in particular, has yet to fully return.
Companies experiencing capital constraints are forced to be more innovative as they assess all the funding options available to them. In addition to conventional finance, companies are engaging in higher volumes of farm-out transactions, mergers and loan arrangements with service providers.
Independent oil and gas companies are the largest users of reserve-based lending (RBL) facilities. The players typically use RBL structures for development financing and general corporate purposes. However, the covenant light nature of alternative funding sources is attracting companies towards non-traditional sources of finance and away from bank markets.
Bond markets are increasingly being accessed to finance new development opportunities within the mid-cap E&P sector. Bonds provide capital with fewer continuing obligations than bank loans.
International oil companies
For the international oil companies (IOCs), maintenance of an investment grade rating has traditionally been a central pillar of their financing strategy. Typically these companies target a gearing ratio of less than 30%. While hydrocarbon prices remained buoyant, the primary funding source for IOCs has been the massive operating cash flows that they have generated. However, cash flow is not easy to forecast and can be impacted by factors largely outside of a company’s control, such as movements in commodity prices.
In a flatter price environment and with consistent capital project inflation, operating cash flows are unlikely to fully finance the level of earnings required to cover the planned capital expenditure. In order to bridge the gap, IOCs are both divesting non-core assets to release capital that can be recycled into higher return areas of the business and seeking to de-capitalise parts of the business that struggle to compete for internal capital allocations.
National oil companies
The national oil companies (NOCs) now often have larger capital budgets than their IOC counterparts. They are now more actively seeking cost effective ways of funding their domestic resource development plans or financing the acquisition of international assets. The scale of their spending obligations means that many NOCs are looking to diversify their funding sources. In the last couple of years, NOCs have been active in local and international debt markets.
Partially privatised NOCs are now competing with IOCs on global capital markets. NOC ownership models have changed, and the likes of Petrobras and Gazprom have reduced the level of government ownership, and to some extent state control over their operations by listing on capital markets. This has opened up access to new sources of financing for domestic and international expansion plans.
Prepayment transactions are increasingly employed as a cost effective way for NOCs to obtain immediate funding in exchange for future oil supply from a portfolio of producing assets. NOCs have also sought opportunities to join joint ventures with larger, better capitalised oil companies in international exploration projects.
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