Will $45 oil sink debt laden Premier Oil plc and Tullow Oil plc?

Investors need to think carefully about the future of the oil price following the recent collapse back to around $45. The optimists who saw crude climbing higher have been confounded once again as it struggles to make any headway above $50.

All pain, no gain

Today’s price is now starting to look like the new normal, rather than an aberration. Saudi Arabia’s aggressive plan to flush out higher-cost rivals appears to have backfired, as global demand has refused to pick up, and global supply refused to crash. US shale drillers have proved surprisingly resilient and flexible, and some have even taken the opportunity to lock into hedging contracts once oil crept above $50.

Last time I wrote about oil and gas explorers Premier Oil (LSE: PMO) and Tullow Oil (LSE: TLW) in late September, the oil price was creeping up on expectations that OPEC was about to deliver a production freeze. Even so, I was cautious, pointing out that both companies remain at the mercy of oil price movements they’re in no position to control and needed a sustained period of higher prices to start eroding their debt piles, which stood at $2.63bn and $4.7bn respectively. 

Crude facts

Today, salvation looks as far away as ever. Even a bullish OPEC report, which claims that oil demand will keep rising for the next quarter of a century (in defiance of climate treaties and technological advances), admitted that crude won’t hit $65 until 2021.

With rumours flying that even Saudi is going to defy the overproduction freeze and start pumping, oil could resume plunging towards $40. US crude oil stockpiles leapt by more than 14m barrels last week, the biggest jump since the Energy Department started keeping records in 1982, which leaves Premier and Tullow pumping into a continued market glut.

Premier low

Premier looks particularly exposed, its share price down 20% in the last month following a Reuters report that lenders are exiting the oil company’s syndicated loans as it struggles to refinance loan covenants and extend maturities beyond late 2017. Today, Premier tried to soothe investor nerves by saying it has received assurances that none of its senior lenders, including Lloyds Bank, are proposing to exit their loan position.

At today’s share price of 52p, Premier Oil’s market cap of £266m ($329m) is a fraction of its $2.63bn debt pile. Management has previously said it can generate free cash flow with oil above $45 a barrel, but it could soon slip below that level. 

Power of TEN

Tullow has had a better time of it, its share price dipping just 2% in the last month. In late October it cheered investors by announcing that it had received a $345m loan to cover April’s scheduled amortisation and help refinance next year’s bank facilities. Capital commitments have reduced substantially following the completion of the TEN Project and it will start generating free cash flow in Q4 and can start paying down its debt. 

Chief financial officer Ian Springett struck an optimistic note, pointing out that capital expenditure is also now “substantially reduced,” giving the company a solid platform for 2017. However, if the oil price slips, any respite may only be temporary and Tullow could face an anxious 2017. Both stocks are for speculators only.

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Harvey Jones has no position in any shares mentioned. The Motley Fool UK has no position in any of the shares mentioned. We Fools don't all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors.