The Examiners: Like Others, This Cycle Likely a Double-V

How much stress can we expect to see for oil and gas producers and related companies as a result of the current low prices? And what special issues does this industry face when it’s time to restructure or file for bankruptcy?

It depends, not surprisingly, on where the price of oil is headed. Most forecasters don’t seem to agree. Some experts predict that the price of oil will fall to $20 to $30 a barrel, while others think it will rise to $70 a barrel by the end of the year and to $90 a barrel by next March. That uncertainty will tend to delay restructuring efforts.

If you look at the industry historically, the oil and gas cycle tends to work off of a double-V curve. It bottoms out and curves back up slightly, bottoms out again and then rises quickly and steeply. That was the pattern in the last two major downturns. There is no reason to believe that this cycle will be different.

Assuming that is the case, companies should fall into one of two categories. The first category consists of producers whose balance sheets are either very strong or who have hedged their exposure sufficiently to make it through the next 12 to 24 months. These companies should be fine and may even be natural acquirers of the more distressed companies.

The second category encompasses producers whose balance sheets are tighter and who haven’t hedged their exposure sufficiently. To the extent that these companies have liquidity or default issues, they will have a need to engage in refinancing or restructuring options.

In the second category, some should be able to fix their balance sheets by raising capital or extending maturities through exchange offers or prepackaged bankruptcies. Those that cannot accomplish that may need to convert debt to equity. Again, this can be realized through out-of-court exchange offers or prepacks.

Finally, there may be a group of companies in which current equity holders don’t believe a debt-for-equity conversion is necessary, but creditors (that might include distressed investors) desire a debt-for-equity conversion. For those companies, a traditional chapter 11 case might provide a long enough runway to allow the price of oil to return to higher levels, thereby allowing equity to remain intact.

The bottom line is that the length of the downturn will dictate whether companies need to consider restructuring options, but the facts of each case, and the strategies attendant thereto, should be sui generis.

Jay Goffman is the global leader of Skadden, Arps, Slate, Meagher & Flom’s corporate restructuring practice. He is based in New York.