Fitch: Driller MLPs May Heighten Asset and Cash Flow Risks

CHICAGO--()--Oil and gas driller master limited partnerships (MLPs) have the potential to provide corporate parents with financial flexibility, but may also introduce asset quality and cash flow risks at the parent level, according to Fitch Ratings. However, Fitch recognizes that the ultimate impact on the parent's credit quality will be determined on a case-by-case basis.

The adoption of the oil and gas MLPs is relatively new. Traditionally, MLPs have focused on lower volatility, ratable energy assets like pipelines and midstream assets given their cash flow stability and minimal capex requirements. In recent years, this definition has been stretched as less traditional assets have made their way into the MLP structure. The placement of oil and gas drilling assets into MLPs is part of this trend, as evidenced by the formation of Seadrill Partners LLC, an MLP-like-vehicle, by Seadrill Ltd. in late 2012.

The establishment of an MLP by a driller provides it with financial flexibility by introducing a willing and privileged affiliate purchaser that the driller can use to monetize assets at tax-advantaged multiples. The affiliate MLP structure provides drillers with a potential opportunity to improve liquidity and pay down debt at the corporate parent; it can also provide significant distributions up to the corporate parent insofar as the MLP holds LP and/or GP units. However, an MLP has the potential to negatively influence the corporate parent's long-term asset quality and weaken cash flow prospects if asset profiles and capital structures are not co-managed properly.

Fitch recognizes that the most suitable drilling-fleet MLP candidates are often newer contracted rigs that provide unit holders with high levels of cash flow stability and favorable contract renewal prospects. The dropdown of these assets could dilute their quality and weaken the cash flow profile of the corporate parent if offsetting adjustments are not made to the parent's balance sheet. Additionally, the generally higher leverage employed by MLPs, relative to corporate drillers, might reduce the distribution prospects for the corporate parent during a cyclical downturn.

The above article originally appeared as a post on the Fitch Wire credit market commentary page. The original article can be accessed at www.fitchratings.com. All opinions expressed are those of Fitch Ratings.

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Contacts

Fitch Ratings
Dino Kritikos, +1-312-368-3150
Director
Corporate Finance, Energy
70 W. Madison St.
Chicago, IL
or
Mark Sadeghian, +1-312-368-2090
Senior Director
Corporate Finance, Energy
or
Kellie Geressy-Nilsen, +1-212-908-9123
Senior Director
Fitch Wire
Fitch Ratings Inc.
One State Street Plaza
New York, NY
or
Media Relations:
Brian Bertsch, +1-212-908-0549
brian.bertsch@fitchratings.com

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Contacts

Fitch Ratings
Dino Kritikos, +1-312-368-3150
Director
Corporate Finance, Energy
70 W. Madison St.
Chicago, IL
or
Mark Sadeghian, +1-312-368-2090
Senior Director
Corporate Finance, Energy
or
Kellie Geressy-Nilsen, +1-212-908-9123
Senior Director
Fitch Wire
Fitch Ratings Inc.
One State Street Plaza
New York, NY
or
Media Relations:
Brian Bertsch, +1-212-908-0549
brian.bertsch@fitchratings.com