Bankruptcies in the American shale sector are on the rise

Shale sector

While there is a boom going on in the Permian Basin with energy companies around the world rushing to expand in this area, another crucial part of the U.S. energy industry has been struggling. Bankruptcies have been surging among shale companies in what has become a worrying trend for the industry.

A story covered by The Wall Street Journal goes on to report that 26 oil-and-gas producers in the U.S., including prominent names like Halcon Resources and Sanchez Energy, have filed for bankruptcy so far in 2019.

This is alarming in the sense that it has almost surpassed the 28 oil producer bankruptcies of the entire 2018 year and 2019 is still not over yet. With many more companies facing mounting debts, this figure is expected to grow even further before the year is over.

It is worth mentioning that there are a number of energy companies with junk-rated bonds, with the percentage of these companies defaulting in August reaching as high as 5.7 percent. While the idea of junk-rated energy companies defaulting isn’t that much of a distressing concept, this figure has grown to the highest level seen since 2017 and is a sign that the industry as a whole is sliding into financial distress, with a greater number of companies sinking to this junk-status as the years go by.

The main problem comes from the fact that these companies are struggling to pay off existing debt and secure funding as investors have become increasingly skeptical about the shale business model. Years ago, many producers financed their growth through rapid expansions that put them into debt, betting that strong oil prices would help them pay off these loans. However, years of meager returns have led to investors looking to other energy business models.

“A lot of companies are highly levered and facing maturities on their debt that I like to call a murderer’s row, maturities are coming year after year,” said Paul Harvey, a credit analyst at S&P. “They were able to hang in there for a while, but now their debt levels are just too high and they’re going to have to take their medicine,” added Patrick Hughes, a partner at Haynes & Boone.

While it is true that mainly smaller and private companies that have been hit hardest so far, these producers collectively generate a significant portion of all U.S. oil, and would lead to a major reduction in American output if they went bankrupt as a whole. Other shale drillers have been missing key debt payments as well, with Wall Street expecting a number of more bankruptcies to come in the following months.

It’s also worth mentioning that this current round of bankruptcies isn’t due to collapsing crude prices. Back in 2016, prices of crude had reached as low as $30 per barrel, and while $60 isn’t as high as some would have liked oil to reach, it’s still a respectively level with a decent profit margin for some companies.

Instead, these bankruptcies come from the debt that many of these producers took in 2016 when oil was so low. Some debt obligations taken in 2016 would mature by 2019, but the majority would be due between 2020 and 2021. This could suggest that the following years would be even worse for oil bankruptcies.