A wave of bankruptcies grew in 2020 in the Oil & Gas sector driven by the difficulties posed last year on oil price and demand. And although the industry has experienced crises in the past, the full impact of the current unmatched crisis are yet to be seen. Given this context, some thoughts are shared for CPAs serving companies in this industry since they will likely be consulted for advice.
Unprecedented Demand Downfall
The Oil and Gas sector has gone through price volatility in the past. Just for reference, between mid-2014 and early 2016, there was a historical oil price decline, among the largest in modern history. The drivers for the crises can be found mainly in the oversupply of shale oil (thanks to “fracking” technology), geopolitical rivalries amongst oil-producing nations (OPEC targeting at lower prices to reduce shale oil production profitability), falling demand (Chinese economy deceleration), and potential limitation of future demand based on environmental policies (2016 Paris Climate Accords). As a result, prices crashed from above $114 per barrel in 2014 to about $27 in 2016.
Nevertheless, recent events makes the price decline unparalleled. In March 2020, an oil price war triggered by geopolitical rivalries paired with a historical demand downfall originated by the Covid-19 worldwide impact and its drastic change in consumer behavior, drove the world into an unprecedented situation. As shown in the chart, the West Texas Intermediate price dipped below zero in April for the first time in history.
A depressed economy with a deeply affected oil industry has critically affected Oil & Gas Companies.
Difficult Times for Companies in the Oil Industry
The International Energy Agency (IEA) described back in April that the global oil industry is experiencing a shock like no other in the past. A major US law firm has released in Sep 30, 2020 the statistics of producers who have filed for bankruptcy. They indicate that for Exploration and Production (E&P) companies, in the third quarter of 2020, 17 producers filed for bankruptcy. This number, combined with the rest of the filings earlier this year, represents a 21% increase versus prior year. In the aforementioned report, combining the E&P, midstream and oilfield services companies since 2015 to 2020 the total of bankruptcy filings in Texas has been so far 269.
CPAs Sought for Advice
A recovery in the Oil and Gas industry does not seem to be appearing on the horizon any time soon. The final outcome and its timing is dependent upon the world’s energy demand, clearly tied to the pandemic present situation and future evolution. Therefore, in the upcoming months, companies and individuals whose activities are tied to the oil and gas industry might confront stressful situations and CPAs working with them will likely be consulted for guidance.
The Journal of Accountancy recently published key aspects for CPAs to consider to better deal with companies facing bankruptcy. Among the main things to consider are:
- Steps if a customer may be bankrupt: if there is no blanket purchase or contract order, can switch to cash on delivery, cash before shipment or cash in advance; request a signed financial statement regarding the customer’s finances which if false can allow claims of fraud; if a debtor receives goods before filing for bankruptcy, the debt owed for them may be eligible for priority (does not ensure actual or timely payment)
- Will a business liquidating its assets file for bankruptcy? A business ceasing operations and liquidating its assets will likely address its secured creditors outside of the bankruptcy process (which has high filing costs); inability to pay creditors does not necessarily require to file a bankruptcy petition
- Can a financially stressed company continue payments to suppliers while not paying sales tax or payroll taxes? Nonpayment can lead to personal civil or criminal liability due to failure to remit withheld taxes to the government; CPAs making payment decisions while managing a tight cash flow are candidates for penalties.
- CPAs are asked for advice on prioritizing obligations: great care must be taken when deciding whom to pay; some considerations: (a) timing, since payments made on old debt too close to a bankruptcy filing may be overturned as a preference and (b) types of debt, like non-dischargeable (will survive a bankruptcy proceeding)
In addition, recent changes to the bankruptcy process need to be considered like the Small Business Reorganization Act of 2019 which introduced the new option called Subchapter V for Chapter 11 bankruptcies. Also, the CARES Act brought several changes to Chapter 11 reorganizations of small business debtors and updates to Chapter 7 and Chapter 13 of the Bankruptcy Code.
To help clients who are considering bankruptcy it is critical to analyze all viable alternatives. Good advice would be to suggest creating a plan since filing for bankruptcy without a developed plan and hoping problems will go away would actually be counterproductive due to potential unintentional effects that can be triggered by the filing. Furthermore, key guidance would be to advocate for getting help from knowledgeable, responsible professionals to make the right decisions.
Although specialized CPAs and professionals focused on reorganizations or asset liquidation working with legal counsel may conduct and lead this difficult situation, the relationship that CPAs currently have with their clients can prove valuable through explaining the basic concepts of bankruptcy.
Originally published in the TXCPA Houston's Online Magazine called the Forum. Read the full magazine here.
Pablo M. Lutenberg has over seventeen years of experience in financial accounting and reporting mainly in the Oil & Gas industry. He is a Certified Public Accountant from Buenos Aires University and earned a Master’s degree in International Business and Management from the University of Manchester, UK. You may contact him at firstname.lastname@example.org.