US drillers stuck with negative cash flow and lots of debt
U.S. drillers have mostly weathered OPEC's year-old policy of nonstop pumping in an oversupplied market. But it's left balance sheets battered.
In the last year, publicly traded independent oil and gas companies have seen free cash flow plummet and debt levels rise, necessitating deep cuts to capital spending.
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For years, U.S. drillers have spent more than they've earned from operations, leaving them reliant on external financing such as debt and equity offerings and asset sales. As recently as last year, some saw that situation beginning to reverse for top producers.
But as the chart below shows, that scenario has not played out.
Cash flow has mostly remained negative for 44 publicly traded independent U.S. producers, meaning they must continue to tap outside sources for funding, or have to reduce investment until they spend no more than they earn.
Meanwhile, falling oil prices have whittled away at earnings, while debt levels have remained constant or grown, leaving many drillers more in debt than investors would prefer. This imbalance is expressed as the debt-to-EBITDA (earnings before interest, taxes, depreciation and amortization) ratio.
A look at aggregated company trends reveals how the upstream industry has coped as a whole.
As oil prices hit a trough in the first quarter of 2015, the amount of cash companies generated from producing crude shrank. To offset those losses, shale producers slashed spending on expensive drilling operations. Not only did they need to conserve cash, but there was little incentive to fund new production with oil fetching such paltry prices.
That gradual capital expenditure adjustment led to marginal improvement in free cash flow, or cash flow from operations minus capital spending. That's the cash drillers have on hand to pay off debt, issue dividends and acquire new acreage.
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Free cash flow improved after the first quarter of 2015 for the 44 companies as capital expenditures fell roughly 50 percent.
However, it also shows debt-to-EBITDA levels steadily rising.
Those trends largely hold on a yearly basis, though it's clear the free cash flow situation has improved slightly since 2014. Total stock market capitalization for the 44 companies now stands at the lowest levels since 2010.
When oil prices are high, investors are typically willing to help companies fund free cash flow deficits through debt or equity, Michael Rowe, vice president of exploration and production research at energy investment bank Tudor, Pickering, Holt & Co. told CNBC.
But when prices are low, investors want drillers to protect their balance sheet, maintain liquidity and live within their means as best they can. With that in mind, debt and equity markets were wide open to drillers earlier this year, but issuance of these securities has fallen off considerably.
The availability of debt and equity financing earlier this year forestalled asset sales, but dealmaking has also been subdued because the gap between what buyers want to pay and what sellers are willing to accept remains wide.
Tudor, Pickering, Holt remains focused on identifying companies that can sustain their business while spending within their cash flow, Rowe said. As such, the firm will be keeping a close eye on 2016 capital budgets and how oil production responds to spending levels.