Debt markets sour on oil patch amid plunge in energy prices

A hefty jump in financing costs for Suncor Energy Inc. – which enjoys one of its industry’s best credit ratings – shows how debt markets have become wary of the Canadian oil patch as it struggles with the collapse of crude prices.

Suncor said late Tuesday it raised $1.25-billion in an offering of 10-year notes to repay other debt, at an interest rate that is nearly two percentage points higher than its last debt offering nearly a year ago.

As debt costs for Canada’s largest oil producer and refiner rise, small and mid-size oil and gas companies face shrunken lines of credit. This has added urgency for an expected multibillion-dollar federal aid package, which may give banks added security to keep lending to the industry in one of its darkest times. Details of the package have yet to be announced and the process has taken longer than the government had previously suggested.

Oil prices are down 60 per cent in the past three months, as global demand plummeted because of the COVID-19 pandemic. Meanwhile, Saudi Arabia and Russia opened the taps in a battle for market share. West Texas Intermediate crude rose US$1.46 to US$25.09 a barrel on Wednesday, on hopes that oil producers inside and outside the Organization of Petroleum Exporting Countries will agree to reduce output this week.

The Canadian industry’s cash flows have dwindled, and companies are expected to shut off more than a million barrels a day of production as storage facilities fill up. The pressures put access to credit into sharp focus.

“When you see Suncor’s cost of borrowing go up that much, what does that tell you about all these other smaller companies?” said Jeremy McCrea, analyst at Raymond James. “It’s come to the point where they wouldn’t be able to borrow here. That’s situation we are in now, where the government has to come in and provide some kind of mechanism to continue liquidity.”

Suncor said it had increased its liquidity by $3.75-billion in recent weeks, with the issue of unsecured notes and a $2.5-billion increase to its credit line. “This increased financial flexibility ensures the company will have access to adequate financial resources should it be required,” it said.

The company is in a rare group within the oil sector able to issue debt in this environment, but it has not been cheap. The yield to maturity on the notes is 5.04 per cent, compared with 3.13 per cent on 10-year notes it issued last May, when the Bank of Canada overnight rate was 150 basis points higher

Other companies are not so fortunate. Many smaller producers have credit backed by the value of their oil and gas reserves, and that capacity is currently being evaluated by lending syndicates based on expectations for sharply lower oil prices.

Despite the rapid price collapse and reduction in cash flows, it is unlikely that banks will want to pull lines of credit, Mr. McCrea said. However, borrowing capacity in many cases will be reduced to the levels that have already been drawn, he said. This is especially true for companies that have other debt on their books that is set to mature in the coming year.

Industry groups, including the Canadian Association of Petroleum Producers, have said maintaining access to capital is key to a federal support package. Sharply reduced lines of credit could leave some companies hamstrung if the market recovers and they cannot access funding to resume boosting production and recover, Mr. McCrea said.

Dave McKay, chief executive officer of Royal Bank of Canada, said the situation is similar to the oil-price fall that hit the industry in 2015, which raised fears of debt defaults. The borrowing-base calculations will last through the next seven weeks, and lenders will have a better view of what is in store for energy markets then.

“It’s a company-by-company decision, whether it can raise more equity, whether it can bridge," Mr. McKay told reporters after RBC’s annual meeting. "And again, those decisions will be made in the context of, what information do we have in May that’s different than we have today, and how long this pandemic will last.”

Finance Minister Bill Morneau has said the government is considering ways to backstop lenders, and two weeks ago said details of an aid package would be announced in “hours, potentially days.” Mr. McKay said he has seen no details.

“You have to expect that not all entities will survive through this process. Some of the weaker entities with higher cost of production may not see enough support to get through," he said. "There will be consolidation, I think, on both sides of the border. But you still want to protect the core of your sector, and I think the programs could take a number of shapes or forms.”

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