By Karolin Schaps
LONDON, Sept 1 (Reuters) - Europe's small and medium-sized
oil companies have forward-sold more crude than in previous
years, ramping up their defences against a scenario in which
prices stay weak for longer than expected.
Hedging future oil output against market volatility is a
well-rehearsed practice among smaller producers but as prices
remain historically low, they have shielded themselves more
heavily than usual from a further downturn.
Second-quarter results figures showed that oil companies,
including North Sea operators Ithaca IAE.TO and Premier Oil
PMO.L , have increased their hedging positions compared with
the previous year.
Ithaca, a small player producing around 12,000 barrels per
day, has gone as far as hedging out to mid-2017 and ramped up
its 2017 forward sales by more than half over the past year.
Premier Oil had forward-sold 60 percent of its 2015
production at the half-year mark, compared with 53 percent the
same time last year. A similar trend is visible among other
producers.
"There are two reasons why companies have hedging
programmes: one is to cover major capital projects that they
have committed to and the second thing is to act as a buffer to
allow them to reset the business in case of a change in oil
prices," Aidan Heavey, chief executive of Tullow Oil (LONDON:TLW), Africa's
largest independent producer, told Reuters.
Tullow, Ithaca and Premier Oil have so far this year reaped
the benefits of forward sales, with the latter selling some of
its production in the first half at a hedged price of $106 a
barrel, compared with an average Brent market price of around
$59.
However, the recent accelerated slump in crude prices has
meant companies are a little more reluctant to top up their
hedging positions in fear of locking in production at the bottom
of the market.
"We're not actively selling any more at this point but I
would still expect us to move that (hedging) percentage up over
the course of the year," Premier Oil Chief Executive Tony
Durrant told Reuters.
As at June 30, Premier Oil had hedged 25 percent of its 2016
production at $69 a barrel. He said the percentage could rise to
as high as 60 percent.
Many small and medium-sized oil producers sign
reserves-based lending deals with banks, meaning the institution
lends money to finance a specific project which is then repaid
using proceeds from production.
Ithaca, which renegotiated its debt financing with lenders
including Deutsche Bank (XETRA:DBKGn), RBS (LONDON:RBS) and Societe Generale (PARIS:SOGN) earlier this
year, has hedged its production out to June 2017 at $69 a
barrel.
Major Wall Street banks, including Goldman Sachs (NYSE:GS) and Morgan
Stanley, facilitate oil producers' hedging positions, giving an
idea about the banks' outlook for the oil market.
Tullow Oil has hedged some of its 2016 production at an
average floor price of $79.29 a barrel, falling to $76.68 in
2017 and $68.04 in 2018. EnQuest has hedged at $68 a barrel for
2016.
WINNING STRATEGIES?
If prices remain low for the next two years, those hedges
would go down in history as some of the biggest winning
strategies.
However, if non-OPEC production starts falling steeply, as
predicted by some executives including former BP (LONDON:BP) boss Tony
Hayward, and prices rise on the back of a supply shortfall, the
companies are set to lose a lot of money.
The recent drop in Brent prices to below $50 a barrel has
created concerns among lenders about loan repayments, prompting
them to encourage strong hedging positions. Premier Oil's
Durrant said his company's creditors had asked for a further
increase in forward sales.
"We insisted that we weren't going to do that," Durrant
said.
The oil producer agreed in August to increase the level of
debt repayments covered by earnings, giving the company more
headroom to deal with weak oil prices. In return, it is paying
higher interest rates and an up-front fee.
EnQuest and Ithaca said they themselves determined their
hedging strategies, not the banks.
"The banks have been very appreciative of the way we've run
the hedging programme," said EnQuest Chief Financial Officer
Jonathan Swinney.
In July, credit ratings agency Standard & Poor's lowered its
rating for Ithaca to negative but said the company's hedging
strategy was one of the positive elements for liquidity.
(Editing by Dale Hudson)