Just five months ago, Fieldwood Energy investors agreed on a comprehensive recapitalization deal that helped preserve the company’s dwindling liquidity position. Fieldwood’s second lien holders provided new money and took part in a debt exchange that was designed to give the oil and gas producer a chance to weather the unprecedented downturn in oil prices. But that effort could be all for naught if new regulations force the company to cover USD 1bn in plugging and abandonment costs related to its Gulf of Mexico wells, said three sources familiar with the situation.

P&A costs aren’t new to offshore operators but the way in which producers will be held accountable is changing. New regulations that went into effect last week now require the operators to provide financial assurance, or surety bonding, for the entirety of their obligations.

After two decades of ballooning offshore drilling activity in the Gulf, thousands of subsea structures were left sitting on the ocean floor. The Bureau of Ocean Energy Management (BOEM) – the government arm that oversees leasing of drilling rights in the Gulf – now aims to ensure that when a well reaches the end of its productive life, the owner is held responsible for the P&A costs and also capitalized well enough to pay for them.

Houston-based Fieldwood, which claims to be one of the largest private E&P companies in North America and the largest operator in the Gulf, was on the brink of running out of liquidity at the time of its May recapitalization. That deal postponed the date that its credit facility borrowing base was set to be redetermined, after lenders agreed to refinancing the loan and put in new money alongside the sponsor. But the resulting liquidity amount was a drop in the bucket compared with the P&A liability.

With depleted coffers and an earnings trajectory that points to continued cash burn, Fieldwood has few resources to satisfy the USD 1bn it owes, USD 220m of which was listed as current at 30 June, according to two of the sources who reviewed the company’s financials.

The E&P company had just USD 27m of cash and no ability to use its new USD 150m reserve-based loan (RBL) to draw cash as of 30 June. The RBL can only be used to support letters of credit, and total availability under the facility drops down to USD 100m on 1 October.

Companies like Fieldwood will likely test BOEM’s capacity to even enforce the latest protocols, given how far out of compliance they are with the new requirements. The agency has set a total of nine benchmarks to determine an operator’s financial capacity, based on industry data for 154 E&P companies averaged out over five years. If a given company passes five of the test, it may be eligible for self-insurance, up to a maximum of 10% of its tangible net worth. 

A review of Fieldwood’s financials by Debtwire’s analyst team concludes that the company would likely be unable to meet BOEM’s self-insurance requirements. Fieldwood did not meet at least four of the requirements, including having a total debt-to-EBITDA ratio for full-year 2015 of 4.23x, well above the maximum 2.2x.

Trading prices in Fieldwood’s debt imply that investors are uncertain about the ultimate impact BOEM rules will have on the valuation of the company’s debt, two of the sources said.

Fieldwood’s USD 1.1bn in first lien term loans are quoted in the mid-80s, according to Markit. Its USD 1.6bn second lien term loan is much more depressed, with quotes at 36.5/38.5.

But depending on how committed BOEM is to standing behind its new policies, the combination of secular decline and the new regulations could be “a perfect storm,” for all of the independent operators in the region, according to Randall Luthi of the National Ocean Industries Association.

“You’re going to be asking companies to give up significant capital, tie it up for decades, and so therefore they have less room to operate on,” said the trade group’s president, adding that the diversion of funds for surety bonding would curtail companies’ capacity to conduct revenue-generating drilling activities. 

Furthermore, strict enforcement of the rules could create a lose-lose scenario for BOEM if lack of capital or access to the surety market forces operators to close up shop and leave decommissioning obligations left outstanding, Luthi said.

The agency now estimates that there is a USD 37bn deficit between what it will collectively cost to decommission all the existing wells in the Gulf and what the responsible companies have set aside to pay. In the past, regulators were more lenient in assessing a company’s wherewithal to adequately fund the cost to dismantle their platforms.

For supermajors like ExxonMobil and Chevron, shouldering the additional financial burden is of little concern.

However, many of the independents already hit hard by the market downturn have few options for shelter from the BOEM-related storm clouds.

Unless BOEM grants a reprieve in the form of a tailored plan that would drastically reduce the amount owed, the companies are unable to qualify for self-insurance.

That leaves the surety bond market as the only alternative, albeit an unlikely one given the company’s cash position and inherent underwriting risk, said an advisory source and an analyst. 

“These are sick companies, dead men walking, so this is just another factor that could end up taking that piece out of the Jenga tower,” said a lawyer tracking the situation. Fieldwood’s owner, Riverstone Holdings, and a company spokesperson declined to comment on its financials.

“We are working diligently with BOEM on a tailored plan that includes additional available surety bond capacity and we are confident that we will reach an agreement in the near future that will not result in any undue burden on the company,” the spokesperson said.

Numbers Game

Fieldwood was formed in 2012 with USD 600m from private equity firm Riverstone Holdings. The company grew quickly through multi-billion dollar acquisitions of assets from Apache Corporation and SandRidge Energy.

Debt-fueled purchases left Fieldwood with roughly USD 4bn of leveraged loans, USD 3.2bn of which are still outstanding. The financing was arranged by a syndicate of bulge-bracket banks including, Citibank, JPMorgan, Goldman Sachs, Bank of America Merrill Lynch, and Deutsche Bank.

Fieldwood now has an interest in roughly 500 leases covering roughly two million gross acres with about 1,000 wells, mostly concentrated in the shallow Gulf of Mexico Shelf off the Texas and Louisiana coasts. But the company’s earnings declined precipitously following the onset of the market rout in late 2014.

After booking nearly USD 1.5bn of EBITDA in 2014, that figure plunged to USD 520m for the twelve month period ended 30 June.

Fieldwood’s own projections call for EBITDA to amount to USD 512m for full-year 2016, before dropping to USD 425m in 2017, according to two of the sources who reviewed the financials.

Increasing balance sheet troubles have already led to Fieldwood spending less on decommissioning, said one industry analyst following the situation. The company spent USD 274m on asset retirement obligations in 2015, down 36.6% from 2014, USD 87m in the first six months of 2016.

“Its back is against the wall,” one of the sources concluded.

Click here for a podcast with Randall Luthi, President of the National Ocean Industries Association.

By Alexander Gladstone, Reporter, Debtwire North America