Oilfield service companies experienced rapidly escalating operating and equipment expenses during the latest oil boom as rising oil prices and escalating profits led them to focus on top line growth. Rapidly increasing SG&A expenses were ignored. Now, E&P companies are demanding lower costs from oilfield service companies and the manufacturers who provide services and products to them in order to bring their own expenses in line and be profitable again with crude oil at $60 to $70 per barrel.

A Survival Guide

Oilfield service companies need to work with their customers to identify which will continue to be active and what their future activity levels will be. They then need to readjust their expenses and capital structure for any projected activity decline. They also can use this time to position themselves for a market resurgence down the road. However, when growth does return it will be more controlled. Mature capital will first flow back to the companies which manage their balance sheet as tightly as they manage the expenses on the income statement. Companies need to reassess their required headcount and equipment needs going forward and make hard decisions that are critical to the long term viability of the business.

For some businesses, this will mark a return to core businesses and disposing of non-core, non-performing and under-performing assets or business units through sales or liquidations. Equipment values have plummeted with falling day rates and lower demand, resulting in a glut of idle rigs. The overall oil rig count, which includes horizontal as well as vertical and offshore rigs, is down roughly 60% from its peak, according to oilfield-services giant Baker Hughes. But U.S. oil output has held steady, according to the EIA, as producers have become more efficient. Business owners should consider new ownership models, where businesses own fewer non-core assets and partner with third parties for whom the assets are core to their business.

To guide them through this new playing field, companies should engage financial advisors and investment bankers who have a deep understanding of industry issues and dynamics, and who have relationships with industry players that allow them to effectively market client transactions. These professionals know the strategic and financial buyers who will be looking at opportunistic purchases of performing and distressed assets in the second half of 2015. They know how to assess market pricing, even with falling values, and help companies execute plans to divest or acquire assets during the downturn. These professionals provide a full range of services including turnaround and crisis management, mergers and acquisitions, restructurings, private placements/capital raises, valuations and other board advisory services to industry participants and their investors.

The Importance of Steady and Reliable Capital

There is never a more important time for companies to have access to steady and reliable capital than during an economic or industry downturn. Many oilfield service and manufacturing companies, even highly levered ones, have been able to get waivers and amendments with their banks following the recent plunge in oil prices. Banks have been willing to work with borrowers who have enough asset coverage relative to their bank debt. However, there are some smaller or financially challenged companies which are burning through cash reserves and are working capital constrained. In addition, there are some lenders who do not have a long history lending to oil and gas companies and may not be willing or able to ride out this cycle with borrowers.

According to the April 2015 Federal Reserve survey, lenders to the oil and gas industry “indicated they were taking a variety of actions to mitigate loan losses, including restructuring outstanding loans, reducing the size of existing credit lines, requiring additional collateral, tightening underwriting policies on new loans or lines of credit, and enforcing material adverse change clauses or other covenants.”

During periods of volatility frequent communication between companies and their lenders is crucial. Lenders want to know that business managers have a plan in place to address changing industry and business dynamics and are not just taking a wait and see approach. They want borrowers who are getting their business in order to operate above a cash breakeven point. Companies which need additional capital must make it a priority to work with financial advisors who can provide introductions to alternative lending and capital providers to facilitate a restructured balance sheet before they run out of cash or borrowing base availability. It is possible to survive this period of industry instability, but it will require an expert, strategic approach.