Firms & Funds

Debt downgrades, defaults mount in energy patch

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Dead sunflowers stand in a field near dormant oil drilling rigs which have been stacked in Dickinson, North Dakota January 21, 2016. Over the last year, continually decreasing oil prices have forced a decrease in drilling and fracking new wells in North Dakota's Bakken shale play. The collapse of U.S. oil and gas investment could have further to fall and Americans are showing signs they spend less of their windfall from lower gasoline prices than in the past, darkening the outlook for the U.S. economy. REUTERS/Andrew Cullen - RTX23LA4
  • Five PE backed companies file for Chapter 11
  • Fitch sees higher default rate for U.S. high yield debt
  • Ample dry powder for debt investments

U.S. sponsors are contributing to greater debt distress, with downgrades and defaults reach levels not seen for years.

On the other hand, GPs and LPs have stockpiled cash for opportunistic credit investments. This dry powder in distressed-debt funds exceeded $56 billion in March 2016, as a result of years of active fundraising and below-average defaults in 2011-2014, according to estimates from Fitch Ratings.

Most of the spring 2016 surge of distressed ratings is tied to depressed oil-and-gas prices. As an oversupplied energy market and low crude prices drag on, companies with leaner cash flows have been falling on harder times.

Another issue looming in the energy patch this year is lower valuations of reserves, which reflect price action for the prior 12 months, industry participants say. If those numbers fall for a borrower, it could limit their ability to issue more debt to repay the old.

For these and other reasons, May was an active month for Chapter 11 filings among sponsor-backed energy companies.

From May 6 to 19 at least five private-equity portfolio companies headed into debt reorganization: CCMP Capital Advisors-backed Chaparral Energy Inc; Quantum Energy Partners-backed Linn Energy LLC; EIG Global Energy Partners-backed Breitburn Energy Partners, Carlyle Group-backed SandRidge Energy Inc and Protostar Partners-backed Constellation Enterprises.

Of 23 total combined rating actions by Standard & Poor’s and Moody’s Investors Service, 15 came in as downgrades. Most of those downgrades came in the energy sector.

More defaults expected

Fitch projects a 6 percent U.S. high-yield default rate in 2016, which would be the highest since 2009. In 2015, the default on high-yield debt was 3.4 percent. Fitch is also forecasting bond-default volume of $90 billion, nearly double the $48 billion of 2015.

Energy and metals/mining accounted for 84 percent of U.S. high-yield default volumes in the 12 months through May 16, Fitch said in a recent note.

Action Item: Chart of crude oil prices, http://bit.ly/1GlLBDx

Dead sunflowers in a field near dormant oil rigs in Dickinson, North Dakota, on January 21, 2016. Over the past year, continually decreasing oil prices have forced cuts in drilling and fracking new wells in North Dakota’s Bakken shale play. Courtesy Reuters/Andrew Cullen