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A Debt Restructuring May Be Imminent
In its press release, Ultra Petroleum (NYSE:UPL) disclosed that it has drawn the entire available amount under its credit facility - $266 million - and engaged Kirkland & Ellis LLP as legal advisor and Rothschild and Petrie Partners as financial advisors.
The development validates the scenario I have outlined in my previous posts.
Ultra is another high-profile U.S. E&P Independent preparing for a debt restructuring. Earlier this month, LINN Energy (NASDAQ:LINE) announced that it had fully drawn its credit lines and hired Kirkland & Ellis as legal advisor and an investment bank as financial advisor to maximize the value of the business.
Ultra Petroleum stated in the press release:
The level of our indebtedness and the current commodity price environment has presented significant challenges as they relate to, among other things, our ability to comply with the financial and non-financial covenants in the agreements governing our indebtedness, our ability to amend, replace or refinance any or all of the agreements governing our indebtedness and otherwise raise significant additional capital, which may materially impact the operation of our business. In light of the company's near term maturities and covenant requirements, the company is evaluating a variety of strategic alternatives related to its capital structure.
Ultra Came Very Close To Exceeding Limits Under Its Covenants
Under its senior unsecured credit facility agreement and under its senior notes indenture, Ultra Resources, the operating subsidiary of Ultra Petroleum, is required to maintain a consolidated debt to trailing twelve month EBITDA ratio below 3.5x.
At December 31, 2015, Ultra's consolidated leverage ratio was 3.4x, based on the company's year-end 2015 outstanding debt of $3.39 billion.
Given the continued weakness in commodity prices in the first quarter and hedges rolling over, Ultra is almost certain to be in violation of this covenant at the end of the first quarter 2016. Given that the covenant under the notes indenture cannot be easily waived or negotiated, Ultra does not have many option available to it at this point. It appears that pursuing a more radical restructuring solution is inevitable.
Ultra Petroleum Corp. is also subject to an interest coverage ratio of a minimum of 2.25x. At the end of the fourth quarter, the interest coverage ratio was 3.3x, providing more significant headroom.
It is worth noting that Ultra entered into additional commodity hedges in 2015 and accelerated its drilling program in the second half of 2015. These steps clearly helped the company to maintain EBITDA at a higher level.
After drawing the remaining available $266.0 million under its credit agreement post year-end, Ultra had a total of $3.76 billion of principal debt amounts outstanding as of February 18, 2016:
- $450 million of unsecured senior notes due 2018 issued by Ultra Petroleum Corp.;
- $850 million of unsecured senior notes due 2024 issued by Ultra Petroleum Corp.;
- $999 million under the senior unsecured Ultra Resources Credit Agreement; and
- $1,460 million in unsecured senior notes issued by Ultra Resources, Inc.
By drawing its credit lines, Ultra secured near-term liquidity which allows the company to avoid liquidity events and pay its legal and financial advisors during the restructuring process.
For reference, I have included a description of Ultra's debt structure in the Appendix.
Assets Have Significant Value
Among financially distressed companies in the E&P sector, Ultra stands out by being forced into a restructuring due to its poorly configured covenant structure that does not allow layering in a second lien debt tranche. By contrast, many of Ultra's over-leveraged peers have been able to use junior-lien financings to accomplish at least some steps in out-of-court debt restructuring.
I should note that despite the extremely low commodity prices, Ultra continues to generate meaningful cash flow. In the fourth quarter, the company's discretionary cash flow (defined as net cash provided by operating activities before changes in operating assets and liabilities and other non-cash items) was $78.4 million. This amount includes $19.5 million of realized gains on commodity hedges.
On a before-hedge basis, Ultra's discretionary cash flow during the quarter was $58.9 million, or ~$236 million on an annualized basis.
As a reminder, the fourth quarter was characterized by the following commodity prices:
- ~$2.17 per MMBtu for natural gas;
- ~$42 per barrel for WTI.
For the year-ended December 31, 2015, the company's proved developed reserves totaled 2.5 trillion cubic feet of natural gas equivalent with an estimated pre-tax PV-10% value of $1.9 billion. Natural gas represented 92% of the company's proved reserves, of which 95% were in Wyoming. Please note that due to uncertainty around financing the development of the company's proved undeveloped reserves (PUDs) over a five year period, all PUDs have be transferred and booked in the probable category as of December 31, 2015.
Please note that under SEC guidelines, E&P companies use the following commodity price benchmarks to estimate their year-end proved reserves and associated PV-10 metrics:
- $2.58 per MMBtu for natural gas;
- ~$50 per barrel for crude oil.
A case can be made that Ultra's current cash flow and asset value can support debt at the subsidiary level, in anticipation of a cyclical recovery in commodities. Debt at parent company level needs to be restructured.
In this context, one can envision a relatively simple form of reorganization in a pre-packaged format.
The continued weakness in commodity prices, aggressive debt levels accumulated as a result of three major acquisitions (Marcellus, Uinta and Pinedale) and poorly configured covenant structure have left Ultra without options at this point.
A restructuring announcement is likely within less than two months.
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APPENDIX: Ultra Petroleum Debt Structure
Ultra had a total of ~$3.4 billion of debt outstanding, including borrowings at the operating subsidiary and holding company levels.
At the operating subsidiary, Ultra Resources, Inc., the company has a total of ~$2.1 billion of debt, consisting of:
- $648 million borrowed under a senior revolving credit facility. The facility has $1.0 billion availability and is unsecured.
- $1.46 billion of senior unsecured notes.
The Credit Agreement that governs the credit facility requires that Ultra Resources, among other things, maintains a consolidated leverage ratio of no greater than 3.5x.
In addition, as long as Ultra Petroleum's debt rating is below investment-grade, it must maintain an annual ratio of the net present value of the company's oil & gas properties to total funded debt of no less than 1.5x.
The facility matures in October 2016 (can be extended with a simple majority of lender consent for up to two successive one-year periods, at Ultra's request).
Ultra Resources' $1.46 billion senior notes rank pari passu with the credit facility. Payment of the Senior Notes is guaranteed by Ultra Petroleum Corp. and UP Energy Corporation. The senior notes are subject to representations, warranties, covenants and events of default similar to those in the credit facility, including a consolidated leverage ratio of no greater than 3.5x.
At the holding company, Ultra Petroleum, Ultra has $1.3 billion senior notes outstanding that are structurally subordinated to the indebtedness and other obligations of the company's subsidiaries, including Ultra Resources:
- $850 million of 6.125% Senior Notes due 2024
- $450 million of 5.75% Senior Notes due 2018
The 2024 Notes and 2018 Notes are general, unsecured senior obligations of the company, and effectively rank junior to all future secured indebtedness (to the extent of the value of the collateral securing such indebtedness). The Notes are not guaranteed by the company's subsidiaries, and so, are structurally subordinated to the indebtedness and other obligations of the subsidiaries.
In summary, the most stringent element of the company's current debt structure is maintenance covenants for the $2.1 billion of outstanding debt at the subsidiary level, consisting of the senior credit facility and senior notes, which include a debt-to-trailing-twelve-month EBITDA ratio that is not to exceed 3.5x.
At the holding company, debt is subject to an interest coverage ratio of a minimum of 2.25x. It appears that Ultra will have sufficient headroom under this maintenance covenant.
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