Rising Industry Debt Levels Threaten Canadian Oil Producers

Canada's top oil producers are facing increased financial strain due to high debt levels, which may lead to further budget cuts and decreased production forecasts. According to analysts, average oil industry debt in Canada has reached levels not seen in many years, with year-end debt-to-equity ratios averaging 41% at the close of 1997. This high leverage will make it difficult for producers to fund drilling activity as cash flows diminish with the collapse of oil prices. Analysts predict that the capital markets will become increasingly tighter, making it hard for producers to access capital, especially for those with higher debt levels.

Key Takeaways:

Average oil industry debt in Canada has reached levels not seen in many years, with year-end debt-to-equity ratios averaging 41% at the close of 1997.
Producers carrying high debt levels will face significant challenges in funding drilling activity as cash flows diminish with the collapse of oil prices.
Industry balance sheets have become more leveraged due to lower cash flows this year, following a 45% increase in capital spending last year.
Canada's top producers were looking to spend big this year, but developed their budgets based on US$18-$19/bbl prices for benchmark West Texas Intermediate crude, which is far below the current prices.
The average debt-to-cash flow multiple is now 2.5 times for Canada's top producers, compared to a historical level that rarely exceeded 2.0.
Producers in Canada have not had the same ability to get access to capital markets as in previous years, and low stock prices have depressed equity offerings.
Bond offerings and private placements are becoming more popular, but analysts say that these capital markets are getting tighter.
Canadian banks are more difficult to borrow from in periods of low oil prices because Canadian wellhead prices are lower.
U.S. producers typically carry a lower debt-to-equity level due to U.S. banks being more comfortable lending to highly leveraged companies.

Statistics:

Average oil industry debt in Canada averaged 41% at the close of 1997.
Industry spending last year amounted to more than $20.1 billion.
The average debt-to-cash flow multiple is now 2.5 times for Canada's top producers.
Less than $500 million of new common equity was raised by the oil and gas sector in the first quarter of this year, compared to about $825 million in the same period last year.

Sources:

Analyst Martin Molyneaux of First Energy Capital in Calgary
Analyst Robert Hinckley of Merrill Lynch
Bunting Warburg Inc.
US$18-$19/bbl prices for benchmark West Texas Intermediate crude