FRP’s Chad Griffin warns rising oil service company insolvencies likely in 2021
Chad Griffin, restructuring specialist at FRP Advisory, discusses how the current downturn in the North Sea is likely to see a far deeper level of oil and gas restructurings and a higher level of insolvencies than in 2015, the last comparable period when there was a much stronger base position than currently.
The primary casualties of this cycle are likely to be oil service companies and second or third tier businesses lacking the capital and scale to withstand the growing financial pressures set to impact the sector during 2021.
The key drivers of this cycle will be Cash, Costs, Pricing and Consolidation. Businesses are facing huge pressure to win work and generate cash whilst simultaneously drive down costs. There is also the added burden of severe pressure on pricing and potentially a lower tolerance from lenders to extend debt terms. All these factors are being amplified by the biggest oil price correction in decades and are pointing towards a wave of consolidation and reduction of capacity.
We are seeing a growing number of businesses operating in crisis mode by cutting costs, deferring capital expenditure and trying to preserve cash. For some E&P (exploration and production) businesses, the hedging of oil prices during 2020 has helped maintain revenue, but these benefits are receding and will offer little benefit in 2021. The same is true for oil service companies where 2020 backlog has provided short term respite. In addition, COVID-19 is weighing heavily on sector confidence and long-term oil demand, which in turn is likely to affect investor appetite for risk.
According to FRP Advisory during the last oil price correction in 2015 there were very few UK insolvencies in the E&P or oil service sectors. Owners and lenders have tended to be prepared to ride the cycle until oil prices rebounded. As a result, financial restructurings from the last downturn were typically ‘Amend and Extend’, where debt would remain in place, but maturities would be deferred.
Looking ahead, this next cycle may be quite different with the Corporate Insolvency and Governance Bill 2020 influencing the landscape The legislation allows for a Restructuring Plan which provides far greater scope cut debt more deeply with lenders seeking more sustainable capital structures, either through equity injections or the deleveraging of financial restructurings. We may also see the use of ‘Light Touch’ administrations where administrators delegate operational responsibilities back to directors to achieve a more effective and lower cost insolvency process”.
In the service sector over-capacity is at the root of the problem but stronger businesses with newer technology, better quality assets and well-regarded management teams are likely to fare better.
The next year is going to be tough and we would urge businesses to focus on conserving cash, reducing costs and be highly competitive on price. It is better to keep trading and working the assets than cover the ongoing costs of mothballing those assets. Businesses still trading will then be in a position to tender for work and capitalise on new opportunities that arise.