The upstream E&P industry is in the throes of borrowing base season. Borrowing base redeterminations allow lenders that provide reserve-based credit facilities to upstream E&P companies to review their credit documentation and ensure that, from a collateral standpoint, they are adequately protected in this tumultuous commodities market. In this post I will take a closer look at anti-hoarding provisions, controlled account provisions, and provisions requiring upstream E&P companies to grant mortgages on non-proven oil and gas reserves, which are three of the common amendments we are seeing incorporated into reserve-based loans for upstream E&P companies as borrowing bases are being redetermined. For purposes of this post, I will refer to upstream E&P companies as “the borrower” or “borrowers.”
Bank groups want to prevent defensive draws, where a borrower draws down its line of credit and stockpiles that cash to create negotiating leverage with the bank group or with an eye towards filing for bankruptcy protection. Anti-hoarding provisions are meant to prevent this behavior and are typically incorporated into the mandatory prepayment section and the conditions precedent section of the credit agreement:
- Mandatory Prepayments - If a borrower holds cash and cash equivalents in excess of a specified dollar amount in its bank accounts, it is required to prepay its line of credit by the amount of such excess.Bank groups typically require the borrower to monitor the balance of its bank accounts and make the corresponding debt prepayment on a daily, weekly, or monthly basis.
- Conditions Precedent – If a requested borrowing would cause the borrower to hold cash and cash equivalents in excess of a specified dollar amount in its bank accounts, the lenders are not required to fund such borrowing.
Historically (or at least since 2009 when I started practicing law), bank groups in the upstream E&P space have often not looked to tie up a borrower’s bank accounts as collateral. Rather, the lenders have focused on encumbering a high percentage of the borrower’s proven oil and gas reserves.
To give themselves more direct access to borrowers’ cash, bank groups are now often requiring borrowers to maintain all of their bank accounts with financial institutions that are part of the bank group, deposit all of the proceeds generated from their operations into those accounts, grant the bank group a lien on those accounts and the proceeds thereof, and enter into deposit account control agreements to perfect the lenders’ lien on the cash.
Mortgages on non-proven reserves.
Under a typical upstream E&P credit facility, only a borrower’s proven oil and gas reserves are given value in the borrowing base. Accordingly, non-proven reserves have typically not been mortgaged (unless associated with proven reserves that are mortgaged). Recently, however, we have seen bank groups require borrowers to provide mortgages covering non-proven oil and gas reserves in plays where the future value of such reserves is high (e.g., the Stack play in Oklahoma). In the event that a borrower defaults under its loan or files for bankruptcy protection, having a perfected mortgage lien on valuable non-proven oil and gas reserves can help lenders recover more of their investment.