Accommodative policies spurred by global central bank monetary intervention have artificially inflated commodity prices, which had previously delinked from sluggish economic fundamentals.

1. Credit, slower output, spending
to hit E&Ps in 2016
Analysts Vincent G Piazza, Spencer Cutter, and Michael Kay
Bloomberg Intelligence

2. E&P activity to shift again as credit may cast pall in 2016

3. Accommodative policies spurred by global central bank monetary
intervention have artificially inflated commodity prices, which
had previously delinked from sluggish economic fundamentals.
Imbalances have widened, manifested by weaker demand against
resilient supply.

4. Prospects of higher borrowing rates and appreciating U.S.
currency continue to pressure dollar-linked energy commodities
and will influence lending arrangements in 2016 for high-yield
E&Ps whose output growth was underpinned by cheap and easy
credit.

5. Weaker global growth, looser oil balances to hurt prices, E&Ps

6. Oil supply-demand balances probably loosened in 2015 as the
transitory demand boost from restocking collided with persistently
higher output from OPEC and the U.S. Expectations for a slight
acceleration in global demand in 2016 may be inflated given
existing economic sluggishness.

7. Yet U.S. volume growth, a main driver of global marginal supply,
will be more measured should tighter credit underwriting
standards suppress E&P liquidity, depressing drilling and hurting
cash flow and earnings.

8. Oil consensus may be too high,
available credit might be pinched

9. Consensus oil price estimates for the reminder of 2015 and
2016 may be elevated, given wide supply-demand imbalances,
which may result in further revisions to benchmarks. Lower crude
oil prices will challenge E&P volume targets and weaker price
realizations will hurt profitability and cash flow.

10. Yet lower cost structures may partially arrest deteriorating E&P
netbacks. Weak fundamentals may constrain E&P liquidity as
underwriters move to reassess credit availability by cutting price
decks and reevaluate reserves.

11. Production and capex to fall further hitting more levered E&Ps

12. Output for the BI E&P peer group may rise 6% in 2015, with
growth in 2016 likely below the 4% estimated by consensus. This
contrasts with expectations of cash flow declining 34% this year
due to depressed benchmark oil prices. Continued pressure on oil
prices in 2016 will further depress cash flow.

14. Cheap credit funded the industry’s revival to its 9.6 million peak in
July from 5 million barrels a day in 2008. Capex and volume will
be cut further in 2016 as credit standards tighten, limiting financial
flexibility.
2008
5 million
barrels a day
2015
9.6 million
barrels a day

15. Dash for cash flow neutrality on weak prices
hits E&Ps in wallet

16. Lower domestic oil and subdued gas commodity prices in 2016
will likely force E&Ps to further cut capital spending from an
estimated $89 billion next year.

17. While BI E&P peers have used about 30% of their credit
availability, access may be reduced when borrowing bases are
redetermined for some producers in 4Q. Production growth
forecasts of about 4% for the group and expectations of improving
cash flow in 2016 are likely elevated. Operators will seek cash flow
neutrality amid lower prices and credit constraints.

18. PUDs make up 39% of oil & gas reserves,
revisions ahead in 2015

19. Proved undeveloped reserves (PUDs) not developed within the
five-year window permitted by the SEC are subject to revisions,
lowering their value and likely decreasing the collateral available
for lending arrangements.
PUDs comprised about 39% (22.1 billion barrels) of oil and gas
reserves in the BI E&P peer group in 2014, yet are not ascribed
similar value as other reserves, given they are undeveloped.
39%

20. E&Ps could see lower credit availability with cuts to reserves likely
at year-end given lower average oil prices.

21. More permanent E&P capital may be needed
after redetermination

22. Cuts to short-term E&P borrowing bases would require more
permanent capital infusions in the form of higher-cost equity or
debt. Almost $13 billion of equity and $16 billion of high-yield E&P
capital was raised in 2015 to fund purchases and repay borrowing-
base credit lines. Yet surging yields and plunging equity prices
have raised the cost of capital and may limit funding options.
Asset sales are another channel to raise funding, though interest is
subdued due to the price disconnect between buyers and sellers.
$13 billion
of equity
$16 billion
high-yield E&P capital

23. Tighter credit standards in 2016 might not hinder all E&Ps

24. Credit will likely tighten and borrowing bases will be further
constrained for the more-levered E&Ps, limiting their funding
options and curtailing their pace of drilling in 2016.

26. Output from E&Ps with the highest use of their borrowing bases
represented just 4% of U.S. output, so industry volume may still
be more resilient than expected. Spending will be more closely
balanced with cash flow generated for the majority of U.S.-based
E&Ps with scale, lower cost and prime acreage, yet output will
likely grow.
4%
E&Ps
U.S. output

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