Fitch: Natural resources default rate headed ‘into double digits’

By Kali Hays

New York, July 17 – The default rate for metals and mining credits is set to rise “into double digits,” more than double the current level, according to analysts at Fitch Ratings.

Recent bankruptcy filings by Walter Energy, Inc. and Sabine Oil & Gas Corp. have brought the trailing 12-month default rate for the sector to 7% from 5.1% for the 12 months ending in June.

Additional prospective defaults are likely to push the figure over the 10% threshold.

A total of 35 issuers defaulted in the first-half 2015, with energy and metals/mining accounting for 57% of the issuer defaults, according to a Thursday release from Fitch.

Eric Rosenthal, Fitch’s senior director of leveraged finance said the increase “is really a tale of two markets driving all of the defaults” and that the all-sector high yield default rate is currently at 2.3%, below the historical average.

First among the prospects for a Chapter 11 filing is Hercules Offshore Inc., which began soliciting noteholder votes on a prepackaged plan of reorganization last week.

As previously reported, the company entered into a restructuring support agreement on June 17 with noteholders holding about 67% of the total outstanding principal amount of the company’s notes.

Under the agreement, about $1.2 billion of notes will be converted to 96.9% of new common equity, and $450 million in new backstop debt financing will be provided.

Chinese coal and coke company Hidili Industry International Development Ltd. is also being monitored by Fitch, even though the company completed a tender offer for $228 million of its outstanding $400 million 8 5/8% senior notes due 2015 last October.

Rosenthal said he’s unsure if Hidili’s situation “has really improved” especially when you look at a company like Alpha Natural Resources, Inc. which carried out a distressed exchange in April and “now looks to file in August.”

Hidili is currently trading under 70 cents, according to Rosenthal.

As reported, Alpha is reportedly in talks with loan holders and senior bondholders to line up $300 million to $400 million in debtor-in-possession financing.

Sharon Bonelli, a managing director of leveraged finance at Fitch, said that companies dealing with the most market pressure are in the upstream part of the natural resources sector, though Boomerang Tube LLC is a notable exception.

“Companies facing challenges over low oil prices had leveraged up with high-yield bonds when the price of oil was higher in 2011, expecting those prices to continue,” Bonelli said. “In December 2014 [oil prices] went from around $100 to the low $50’s. That range created a serious mismatch between cash flow and leverage.”

Compounding the immediate effects of low oil prices are the Asset Based Loan facilities many of these companies are operating with, as their central assets are oil reserves, according to Bonelli.

In addition to being overleveraged with dwindling assets, Bonelli said that several companies eyed expansion a few years ago and made acquisitions in 2011 which proved to be ill-timed.

One such example is Arch Coal Inc. which completed an acquisition of International Coal Group, Inc. (ICG) in June 2011, expecting to increase its metallurgical coal output to nearly 15 million tons by 2015.

In its first quarter 2015 company outlook released in April, Arch only expected to ship between 6 million and 6.8 million tons of metallurgical coal.

The aggregate value of the ICG acquisition totaled $3.4 billion, excluding costs associated with the redemption of ICG's outstanding debt and fees related to the transaction, according to a company news release.

Recently, Arch secured majority consents in a private exchange offer for new 6¼% trust certificates due 2021 and a cash payment in exchange for any and all of its $500 million outstanding 7¼% senior notes due 2020.

As reported, Arch is soliciting consents to amend the notes indenture to modify restrictive covenants to conform to Arch’s other indentures, including for the issue of additional secured debt.

The company said the private offer “is being made as part of Arch’s efforts, in light of challenging market conditions, to deleverage its balance sheet and improve its liquidity profile. These efforts may include additional private offers or repurchases of Arch’s other outstanding debt securities,” according to a July 17 news release.

Rosenthal said that these sort of distressed exchanges are simply an attempt “to stem the tide” of the falling oil market and an April case study by Fitch plainly said that “energy production and oil services companies more often cease operating entirely and are liquidated” when faced with bankruptcy.

Though Bonelli said prices in the oil market will “eventually” recover, “the real question is how well and for how long and do these companies have the financing to make it through?”

Walter Energy is metallurgical coal producer based in Birmingham, Ala. that filed for bankruptcy on July 15 The Chapter 11 case number is 15-02741.

Formerly Forest Oil Corp., Sabine is an oil and gas company based in Houston that filed for bankruptcy on July 15. The Chapter 11 case number is 15-11835.

Hercules is a Houston-based provider of offshore drilling equipment and services.

Hidili is a coal and coke company is based in Panzhihua, China.

Alpha is a Bristol, Va., coal mining company.

Boomerang Tube is a St. Louis-based producer of oil country tubular goods and line pipe that filed for bankruptcy on June 9. The Chapter 11 case number is 15-11247.

Arch Coal is a St. Louis-based coal producer.

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