CHICAGO--()--Fitch Ratings has upgraded Energy XXI (NYSE: EXXI)'s Issuer Default Rating (IDR) and senior unsecured ratings to 'B+' from 'B. The company's Ratings Outlook is Stable. Energy XXI's ratings are as follows:
Energy XXI (Bermuda)
--Issuer Default Rating (IDR) to 'B+' from 'B';
--Convertible perpetual preferred to 'B-'/RR6 from 'CCC'/RR6.
Energy XXI Gulf Coast (Delaware)
--IDR to 'B+' from 'B';
--Senior secured revolver to 'BB+'/RR1 from 'BB'/RR1;
--Senior unsecured notes to 'B+/RR4 from 'B'/RR4
Approximately $1.04 billion in balance sheet debt is affected by this rating. All rated debt is issued at the Energy XXI Gulf Coast subsidiary level, with the exception of the convertible perpetual preferreds, which are issued by Energy XXI Bermuda.
Energy XXI's ratings are supported by the trend of recent deleveraging; increased size and scale following the Exxon property acquisition; EXXI's high exposure to liquids (69% of production, 71% of reserves, mostly crude oil which is linked to higher-priced waterborne grades); good operational metrics; balanced acquisition funding; operator status on a majority of its properties; and the short-term cash flow protections of its hedging position. Ratings issues for bondholders include the company's small size; high leverage; lack of basin diversification; vulnerability to hurricane risks; higher risk ultra-deep shelf exploration program; and ongoing acquisition risk.
Improving Debt Metrics
EXXI's recent operational metrics are good. As calculated by Fitch, total debt with equity credit declined from a post-acquisition high of $1.47 billion at YE 2010 to $1.14 billion at June 30, 2012, resulting in debt/boe 1p reserves of $9.54/boe, debt/boe proven developed reserves of $13.97/boe, and debt/flowing barrel of production of less than $26,000 on a 6:1 basis. Looking forward, Fitch anticipates that additional near-term improvements in credit ratios are likely to come through EBITDA growth and reserve additions.
EXXI's latest operational metrics were good. For the fiscal year ending June 30 2012, EXXI reported total proved reserves of 119.6 million boe. One year organic reserve replacement was 119% (249% on an all-in 3-year basis). One year finding, development, and acquisition (FD&A) costs rose to $29.90 ($20.71/boe on a three-year basis). Fiscal year production increased by 27% from 34,600 boepd to 44,100 boepd, and the company's reserve life declined from 9.2 years to 7.4 years. It is important to note that the company's 2012 reserve and production figures exclude the impacts of the ultra-deep shelf program, which Fitch anticipates should begin to accelerate in 2013 despite recent delays experienced at the Davy Jones #1 well. Investments in ultra-deep shelf wells at June 30, 2012 include Davy Jones #1 and #2 ($111 million), Blackbeard East ($50 million), Lafitte ($40 million), Blackbeard West #1 and #2 ($43 million), and Lineham Creek ($8 million).
EXXI's cash generation continues to be robust. As calculated by Fitch, full-cycle netbacks (defined as price realizations minus cash costs minus three-year FD&A costs) were $25.63/boe, significantly higher than its small group peers. The company generated record EBITDA of $890.7 billion at June 30, 2012, driven by higher production and robust oil prices. Given recent debt repayments, debt/EBITDA leverage declined to just 1.28x (versus 2.4x the year prior), while EBITDA/gross interest coverage rose to 8.2x from 5.0x the year prior. LTM free cash flow rose to approximately $190 million, comprised of cash flow from operations of $766.4 million minus capex of $570.7 million and dividends of $5.7 million. 2013 capex has been set at $700 million and Fitch believes the company has reasonable capex flexibility within that number. Only $94 million (13.4%) of the 2013 budget is earmarked for the ultra-deep shelf. Fitch expects the company will be FCF neutral to modestly FCF positive over the next two years.
EXXI gulf coast's liquidity was good at June 30, 2012, and included cash and equivalents of $117.1 million, and availability on its main revolver of approximately $525 million after letters of credit (LoC) usage. The revolver, which expires in December 2014, is secured by a borrowing base linked to at least 85% of the company's proven properties. Similar to other borrowing-based revolvers, the base periodically resizes in line with the underlying value of the collateral and was recently reaffirmed. Its current size is $750 million.
Key revolver covenants include maximum leverage of 3.5x; minimum interest coverage of 3.0x; and a minimum current ratio of 1.0x, as well as change of control provisions and restricted payments. The company had ample headroom on all covenants at June 30, 2012. Restrictions on dividends from EXXI gulf coast to its Bermuda parent were recently loosened to include $150 million to allow the parent to fund jv investments. EXXI's other maturities are light, with the no major bonds maturities due over the next three years.
Fitch's Recovery Rating (RR) of '1' on EXXI's secured revolving credit facility indicates outstanding recovery prospects (91%-100%) for holders of this debt. The revolver is secured by at least 85% of the total value of proven reserves of the company and its subsidiaries. The RR for EXXI's senior unsecured notes of '4' indicates average recovery prospects (31% - 50%) for holders of these issues.
WHAT COULD TRIGGER A RATING ACTION
Positive: Future developments that may lead to positive rating actions include:
--Increased size, scale and portfolio diversification, accompanied by a trend of continued improvement in debt/boe metrics and a managerial commitment to lower debt levels.
Negative: Future developments that could lead to negative rating action include:
--A major operational issue such as a well blowout or extensive facility damage not covered by existing insurance
--A change in philosophy on use of balance sheet, which could include debt funded financing of a large acquisition, capex or share buybacks; or a sustained collapse in oil prices without other adjustments to capex
Additional information is available at 'www.fitchratings.com'. The ratings above were solicited by, or on behalf of, the issuer, and therefore, Fitch has been compensated for the provision of the ratings.
Applicable Criteria and Relevant Research:
--'Corporate Rating Methodology' (Aug. 8, 2012);
--'Parent and Subsidiary Rating Linkage' (Aug. 08, 2012)
--'Treatment and Notching of Hybrids in Nonfinancial Corporate and REIT Credit Analysis' (December 15, 2011);
---'Updating Fitch's Oil & Gas Price Deck' (Aug 15, 2012)
---'Statistical Review of U.S. E&P Companies' (May 10, 2012)
Applicable Criteria and Related Research:
Corporate Rating Methodology
Parent and Subsidiary Rating Linkage
Treatment and Notching of Hybrids in Nonfinancial Corporate and REIT Credit Analysis
Statistical Review of U.S. E&P Companies