CHICAGO--(BUSINESS WIRE)--Fitch Ratings has affirmed Southwestern Energy Company's (Southwestern; NYSE: SWN) long-term Issuer Default Rating (IDR) at 'BBB-'. The Rating Outlook has been revised to Negative from Stable.
The Negative Outlook considers the effect that persistently low oil & gas prices will have on the forecasted leverage profile following the December 2014 leveraged acquisition of the Southwestern Appalachia assets. Fitch's previous base case scenario assumed a more supportive pricing environment that helped to fund initial development spending of the earlier stage Southwestern Appalachia assets, resulting in production and cash flow growth over a three-year period. Since capital available for development and production is expected to be curtailed, Southwestern's leverage profile may remain above our through-the-cycle levels for a 'BBB-' credit over the rating horizon without supportive signals for a price recovery and/or credit-friendly transactions that reduce gross debt in the next 12-18 months.
Approximately $4.7 billion in debt is affected by today's rating action. A full list of ratings actions follows at the end of this release.
KEY RATING DRIVERS
Southwestern's ratings are supported by its credit-conscious financial policy and strong operating history that has resulted in the achievement of drilling efficiencies and competitive production and finding and development (F&D) cost profiles. Offsetting factors include the company's nearly exclusive natural-gas focus that results in lower netbacks per barrel of oil equivalent (boe) relative to liquid peers and limited geographic diversity.
The company reported net proved (1p) reserves of 10.7 trillion cubic feet equivalent (Tcfe; approximately 91% natural gas), or 1,791 million boe (mmboe), for the year ended 2014. Following the approximately 40% drop in Henry Hub prices, Southwestern's 1p reserves are likely to experience downward price revisions that generally mirror prices with some offset by net additions from extensions and discoveries. This estimation is based on the 2012 price-driven reserve revision of approximately 35% due to the over 30% year-over-year drop in Henry Hub prices. Fitch recognizes, however, that 1p reserves exceeded pre-revision levels in 2013 due to a combination of a Henry Hub price rebound and operational and cost profile improvements.
Production has grown considerably through the first nine months of 2015 to nearly 2.7 billion cubic feet equivalent per day (Bcf/d), or approximately 444 thousand boe per day (mboepd), from over 2.1 Bcf/d, or approximately 351 mboepd, for the year ended 2014. This increase is attributable to the integration of nearly 0.4 Bcf/d, or approximately 61 mboepd, of the acquired Southwestern Appalachia production and about an equal amount of organic growth within the Northeastern and Southwestern Appalachia properties offset by production declines in the Fayetteville and other properties.
Lower benchmark Henry Hub and realized prices have contributed to negative unhedged full-cycle netback of $1.30/thousand cubic feet (mcf) for third quarter 2015 (3Q15) compared to a positive $0.61/mcf for the year ended Dec. 31, 2014. Weaker Henry Hub differentials of $0.98/ mcf in 3Q15 are expected to improve as additional takeaway capacity becomes available over the medium term. Cash netbacks remained positive at $0.27/mcf in 3Q15 benefiting from a $0.16/mcf improvement in production expenses, or an 11% reduction, since year-end 2014 mainly due to better Marcellus unit costs.
FORECAST CASH FLOW METRICS WIDEN, UPSTREAM METRICS REMAIN SOLID
Fitch forecasts Southwestern will be approximately $400 million free cash flow (FCF) negative for 2015. Debt/EBITDA is estimated to be under 3.3x in 2015 mainly due to the weaker oil & gas market pricing environment. Debt/1p reserves and debt per flowing barrel metrics are forecast to remain solid at over $2.50/boe, subject to any year-end price revisions, and approximately $10,725, respectively. Fitch estimates that a price-driven reserve revision consistent with the drop in Henry Hub prices would result in debt/1p reserves of approximately $4.15/boe.
Fitch's rating case, assuming a West Texas Intermediate (WTI) and Henry Hub price of $45 and $2.50, respectively, projects that Southwestern will be FCF neutral in 2016. This assumes that the company will spend within operating cash flow, consistent with guidance from management. Fitch believes that capital is likely to be weighted toward its highest-return Northeastern Appalachian acreage followed by Southwestern Appalachia and, to a lesser extent, Fayetteville.
The Fitch rating case results in debt/EBITDA of over 4.1x in 2016 mainly due to the weaker oil & gas market pricing environment. Fitch estimates that a $0.25/mcf increase/decrease in the assumed natural gas price results in a 0.75x-1.0x change in debt/EBITDA metrics. The rating case considers the production profile benefits from capital allocation and efficiency gains and incorporates the potential for asset sales. Fitch assumes potential asset sales of $750 million in its rating case consistent with the size of the recently issued term loan. This is an increase in Fitch's previously assumed $500 million in asset sales given the weaker pricing environment.
Debt/1p reserves and debt per flowing barrel metrics in 2016 are forecast to remain solid at over $2.15/boe, subject to any year-end price revisions, and under $9,600, respectively. Fitch estimates that a price-driven reserve revision consistent with the drop in 2015 Henry Hub prices would result in 2016 debt/1p reserves of approximately $3.60/boe.
Management had fixed-price hedges with an average price of $4.40/mcf equivalent to 27% (240 Bcf) of planned production for 2015 that helped mitigate the near-term impact of market prices on cash flow and support production. As of Sept. 30, 2015, the company did not have any hedge positions for 2016.
KEY ASSUMPTIONS
Fitch's key assumptions within the rating case for Southwestern include:
--WTI oil price that trends up from $45/barrel in 2016 to $60/barrel in 2018;
--Henry Hub gas that trends up from $2.50/mcf in 2016 to $3.00/mcf in 2018;
--Production growth of about 27% in 2015, generally consistent with guidance, followed by 6% decline in 2016 with a moderate positive growth profile as oil & gas prices improve;
--Liquids mix, principally natural gas liquids, increases to over 7% in 2015 with incremental improvements thereafter as the Southwestern Appalachia acreage continues to develop;
--Capital spending is forecast to be $1.875 billion in 2015, consistent with guidance, followed by a balanced capital spending profile until prices support a measured level of outspending;
--Asset divestitures of approximately $700 million in 2015 followed by an assumed $750 million in potential sales in 2016;
--Asset sale proceeds are used to repay debt.
RATING SENSITIVITIES
Positive: No positive ratings are currently contemplated over the near term given the weak oil & gas price outlook and Fitch's forecasted leverage profile that exceeds the positive rating sensitivities. Future developments that may, individually or collectively, lead to a positive rating action include:
For an upgrade to 'BBB':
--Increased size, scale, and diversification of the company's reserve base that yields favorable netbacks; and
--Mid-cycle debt/EBITDA below 1.5x on a sustained basis;
--Mid-cycle debt/1p reserves below $2.00/boe and/or debt/flowing barrel under $8,000.
To remove the Negative Outlook at 'BBB-':
--Improved gas price outlook supported by production declines or inventory drawdowns;
--Reduction in gross debt that results in a mid-cycle debt/EBITDA of less than 2x over the rating horizon.
Negative: Future developments that may, individually or collectively, lead to a negative rating action include:
--Failure to execute credit-friendly transactions that help reduce gross debt over the next 12-18 months. However, if gas prices remain severely depressed, our timeline for a negative rating action is likely to come in at the shorter end of this range;
--Capital spending in excess of cash flow from operations that meaningfully lessens the proceeds available for gross debt reduction from potential asset sales and/or other credit-friendly transactions;
--Mid-cycle debt/EBITDA above 2x on a sustained basis;
--Mid-cycle debt/1p reserves nearing $4.00/boe and/or debt/flowing barrel around $15,000.
Fitch recognizes that Southwestern's increased size and improving unit economics provide considerable financial flexibility that allows the company to better manage cyclical changes to its leverage profile. However, current natural gas prices curtail cash flows available for Southwestern Appalachia development and result in elevated leverage metrics over the rating horizon. Fitch could downgrade the credit to the 'BB+' level absent gross debt reductions and/or evidence of meaningful production declines or inventory drawdowns that support a price recovery within 12-18 months.
LIQUIDITY AND MATURITY PROFILE
Southwestern has historically maintained a nominal cash balance and had approximately $15 million as of Sept. 30, 2015. The company's primary source of liquidity is its $2 billion unsecured credit facility (Fitch estimates pro forma available capacity to be $1.95 billion) maturing in December 2018 and recently established commercial paper (CP) program sized to the revolving credit facility. The main financial covenant is a maximum debt-to-capital ratio of 60% (management estimate of 36% as of Sept. 30, 2015), excluding non-cash asset impairments and certain other items, as defined in the credit facility agreement. Other covenants consist of additional lien limitations, transaction restrictions, and change in control provisions. The revolver contains two one-year extensions and may be increased to $2.5 billion upon lender consent.
Maturities on outstanding debt over the next five years are manageable. The 7.15% notes have annual payments of $1.2 million through 2017 with the remaining principal balance of $24.6 million due in 2018. An additional $40 million (7.35% and 7.125% notes), $950 million (7.5% and 3.3% notes), and $850 million (4.05% notes) mature in 2017, 2018, and 2020, respectively. Southwestern also recently issued a three-year, $750 million term loan to refinance nearly all outstanding credit facility/CP borrowings.
MANAGEABLE OTHER LIABILITIES
The company's pension obligations were underfunded by approximately $26 million as of Dec. 31, 2014, which Fitch considers to be manageable when scaled to funds from operations. Southwestern's asset retirement obligation (ARO) was about $207 million as of Dec. 31, 2014, which is up $73 million year-over-year mainly due to $42 million in additional obligations incurred related to the Southwestern Appalachia acquisition.
Other obligations totalled approximately $6.1 billion on a multi-year, undiscounted basis as of Dec. 31, 2014. The obligations include: $5.3 billion in pipeline demand transportation charges, $272 million in operating leases for equipment, office space, etc., and $102 million in compression services. The company updated its contractual obligations for firm transportation and gathering agreements to approximately $8.8 billion, as of Sept. 30, 2015. This includes nearly $3.2 billion of obligations that still require regulatory approvals and additional construction efforts. The updated net figure of around $5.6 billion is generally consistent with the year-end 2014 obligations.
FULL LIST OF RATING ACTIONS
Fitch has affirmed the following ratings:
Southwestern Energy Company
--Long-term IDR at 'BBB-';
--Senior unsecured notes at 'BBB-';
--Bank revolver at 'BBB-';
--Term loan at 'BBB-';
--Short-term IDR at 'F3'
--Commercial paper program at 'F3'.
The Rating Outlook has been revised to Negative from Stable.
Additional information is available on www.fitchratings.com
Applicable Criteria
Corporate Rating Methodology - Including Short-Term Ratings and Parent and Subsidiary Linkage (pub. 17 Aug 2015)
https://www.fitchratings.com/creditdesk/reports/report_frame.cfm?rpt_id=869362
Short-Term Ratings Criteria for Non-Financial Corporates (pub. 13 Aug 2015)
https://www.fitchratings.com/creditdesk/reports/report_frame.cfm?rpt_id=869259
Additional Disclosures
Dodd-Frank Rating Information Disclosure Form
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Solicitation Status
https://www.fitchratings.com/gws/en/disclosure/solicitation?pr_id=998115
Endorsement Policy
https://www.fitchratings.com/jsp/creditdesk/PolicyRegulation.faces?context=2&detail=31
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