DBRS Comments on Athabasca Oil Corporation’s Transaction

DBRS Limited (DBRS) today notes that on January 27, 2016, Athabasca Oil Corporation (Athabasca or the Company; rated B (low) with a Negative trend) announced a joint venture (the Transaction) with Murphy Oil Company Ltd. (Murphy) for its Duvernay and Montney assets in the Kaybob area. The transaction is expected to close late Q1 2016, subject to certain conditions and regulatory approvals.

As part of the transaction, Athabasca is selling (1) a 70% working interest in the production, acreage and infrastructure within the Greater Kaybob area (the Duvernay assets), where Murphy will then assume operatorship under a Joint Development Agreement (JDA), and (2) a 30% working interest in the production, acreage and infrastructure within the Greater Placid area (the Montney assets), where Athabasca will remain the operator under a JDA. Murphy will pay Athabasca approximately $250 million in cash upon closing, with an additional $225 million to be realized in the form of a capital carry on the Company’s Duvernay assets. The capital carry will fund 75% of Athabasca’s 30% share of development capital in the Duvernay for up to a maximum of five years.

On October 26, 2015, DBRS downgraded the ratings of Athabasca and changed the trends to Negative (see DBRS press release dated October 26, 2015). The ratings downgrade reflected Athabasca’s key challenges under a prolonged low commodity pricing environment, including (1) a declining liquidity position that no longer supported the previous B rating; (2) no material improvement expected over the next two years in the Company’s financial profile because of its high leverage and low potential cash flow growth, despite the expected production ramp-up; and (3) heightened refinancing risk in 2017. The trend change reflected DBRS’s concern of continued deterioration in liquidity should commodity prices remain weak on a sustained basis and/or if there are any significant delays in Athabasca’s production ramp-up.

DBRS notes that the announced transaction improves Athabasca’s liquidity position moderately in the near term and reduces some capex commitments that alleviates additional pressure on its liquidity. Pro forma, with $250 million in cash from the Transaction, $134 million in promissory notes maturing in August 2016 and existing cash on hand, Athabasca is expected to have approximately $900 million of liquidity upon closing of the Transaction. The Company is expected to use a portion of its available liquidity to reduce debt levels in 2016. The Company has USD 225 million of senior secured first lien term loans (maturing in May 2019, subject to a springing maturity in May 2017 if the Notes have not been refinanced) and $550 million of senior secured second lien notes (the Notes, maturing in November 2017) outstanding. Although the potential partial reduction in debt levels is viewed as a positive, the key challenges reflected in DBRS’s Negative trend remain.

The Transaction is expected to result in reduced production guidance (~13 to 14.5 mboe/d estimated for 2016 on a pro forma basis). Combined with a weaker price environment, DBRS believes Athabasca’s ability to generate positive cash flow over the near term will be challenging. Although the production ramp-up at Hangingstone (design capacity of 12,000 bbl/d) is on track (~7,400 bbl/d in December 2015), positive free cash flow generation from the project is unlikely in the near term under DBRS’s current pricing outlook. Hangingstone needs a $40 to $45/bbl WTI oil price break-even on an operating cost basis versus DBRS’s pricing outlook of sub-$40 WTI (see DBRS press release dated January 29, 2016). As a result, the Company is expected to generate negative free cash flow (net of capex) in 2016. DBRS believes that a material improvement in the Company’s key credit metrics over the near term is unlikely in today’s commodity price environment. Moreover, significant refinancing risk still exists, particularly with regards to the Company’s $550 million Notes maturing in November 2017.

As noted in the DBRS Oil & Gas Portfolio review press release dated January 29, 2016, DBRS reviewed its issuers in light of the recent crude oil price declines and the outlook for a continued weak pricing environment. Although near-term liquidity is expected to improve, DBRS notes that should (1) Athabasca’s refinancing risk rise further as the maturity date on the Notes gets closer, (2) cash flow generation plus the liquidity position weakens due to delays in the planned production ramp-up and/or (3) the commodity price environment remains weak for an extended period of time, negative rating actions could be taken. DBRS will continue to monitor Athabasca as it addresses these challenges.

Notes:
All figures are in Canadian dollars unless otherwise noted.

The applicable methodologies are Rating Companies in the Oil and Gas Industry (September 2015) and DBRS Recovery Ratings for Non-Investment Grade Corporate issuers (February 2015), which can be found on our website under Methodologies.

This rating is endorsed by DBRS Ratings Limited for use in the European Union.

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