TEXT - S&P revises Denbury Resources outlook to stable

Tue Jan 22, 2013 3:19pm EST

Related Topics

Overview
     -- U.S. oil and gas exploration and production company Denbury Resources 
Inc. is acquiring properties in Montana's Cedar Creek Anticline from 
ConocoPhillips for $1.05 billion in cash.
     -- We are revising our outlook to stable and are affirming all our 
ratings, including the 'BB' corporate credit rating.
     -- We are assigning a 'BB' rating to Denbury's proposed $1 billion senior 
subordinated notes offering due 2023. 
     -- The stable outlook incorporates our expectation that under our current 
operating assumptions leverage will not exceed 3.5x.

Rating Action
On Jan. 22, 2013, Standard & Poor's Ratings Services revised its outlook on 
Plano, Texas-based Denbury Resources Inc. (Denbury) to stable from positive 
and affirmed its ratings, including the 'BB' corporate credit rating, on the 
company. 

We also assigned a 'BB' issue rating (the same as the corporate credit rating) 
to Denbury's proposed $1 billion senior subordinated notes issue due 2023. Our 
recovery rating on Denbury's senior subordinated notes remains '3', indicating 
our expectation of meaningful recovery in the event of a payment default. 
Denbury is using proceeds from this offering to refinance existing debt.

Rationale
We are revising the outlook to stable from positive to reflect Denbury's 
higher debt balance following the company's $1.05 billion acquisition of Cedar 
Creek Anticline reserves from ConocoPhillips. Denbury is funding the Cedar 
Creek acquisition with proceeds from the recent sale of its holdings in the 
Bakken basin. 

Our previous expectation was that Denbury would use a portion of its $1.3 
billion cash proceeds from the Bakken sale to help fund its very aggressive 
spending program over the next several years. At the same time, tertiary 
recovery infrastructure to transport carbon dioxide to Cedar Creek is capital 
intensive and will require several years to build. This means that Denbury's 
outspending of internal cash flows is likely to be larger than our previous 
assumptions. We think that Denbury will use its credit facility to fund this 
outspending, adding to projected leverage. Under our current operating 
assumption, we expect Denbury to post leverage, as measured by debt-to-EBITDA, 
in the low-to mid-3x area, which is aggressive. 

Our ratings on Denbury, an independent E&P company, reflect the 
capital-intensive and high operating costs of its tertiary oil operations, its 
aggressive capital spending program, and negative free cash flow expectations 
for the next several years. The ratings incorporate our "aggressive" financial 
risk, "fair" business risk, and "adequate" liquidity assessments. The ratings 
also reflect the company's significant production of high-priced oil and its 
relatively low-risk exploitation strategy. 

Denbury's "aggressive" financial risk profile reflects its Sept. 30, 2012, 
debt balance of approximately $3.3 billion, including operating leases and 
asset retirement obligations (AROs), pro forma for the proposed $1 billion 
note issue and pay down of approximately $650 million of its 2016 notes. We 
forecast that EBITDA will total slightly more than $1 billion in 2013 and 
nearly $1.2 billion in 2014. We project that funds from operations (FFO) will 
be approximately $725 million this year and more than $800 million in 2014. We 
also project that the company will outspend internally generated cash flow by 
more than $300 million in 2013 and nearly $500 million in 2014 based on 
capital spending levels of $1.1 billion this year and our forecast for $1.3 
billion next year. However, in a lower hydrocarbon pricing environment, we 
think that Denbury has flexibility to cut its capital spending program and 
that due to the tertiary nature of operations it would have little impact to 
our production forecasts. Under our current operating assumptions, we would 
expect Denbury to fund its free cash flow deficit through its revolving credit 
facility. 

We based our projections on the following expectations and assumptions:
     -- Pro forma for Cedar Creek production beginning in second-quarter 2013, 
we project that production will be approximately 70 thousand barrels of oil 
equivalent per day (MBoe/d) this year and about 80MBoe/d in 2014. 
     -- Standard & Poor's currently uses a price assumption for West Texas 
Intermediate oil (WTI) of $80/bbl in 2013 and $75/bbl thereafter. We have 
assumed a $5/bbl positive differential for oil this year and next year, given 
the company's exposure to Louisiana Light Sweet (LLS) prices in the Gulf 
Coast. Our assumption for Henry Hub natural gas is $3/Mcf in 2013 and 
$3.50/Mcf thereafter. 
     -- We project that oil, which has healthy price realizations, will 
constitute more than 90% of production. The company has hedged about 80% of 
our forecasted daily production in 2013 and about two-thirds of forecasted 
daily production in 2014 (no hedges on gas production) at a floor price of 
$80/bbl. 
 
We consider Denbury's business risk profile to be "fair". Its midsize proved 
reserve base is in line with other exploration and production companies in the 
'BB' rating category, totaling more than 400 million barrels of oil equivalent 
(MMBoe) at year-end 2011, pro forma for its Bakken asset sale and acquisitions 
of Cedar Creek Anticline, Webster, and Hartzog Draw fields. Benefiting the 
business profile, the reserve base consists of approximately 75% oil, which is 
currently enjoying healthy realizations, which we believe has relatively 
favorable pricing prospects compared with  North American natural gas. 
Following its Cedar Creek acquisition, we expect the company's daily 
production to represent approximately 70MBoe/d this year, which we believe is 
in-line with its 'BB' rated peer group. 

The company's core exploitation strategy focuses on tertiary oil recovery (a 
strategy that uses carbon dioxide to flood mature wells), which reduces 
exploration risk but carries higher operating costs and investment 
requirements, resulting in a higher break-even threshold.  Due to the 
company's tertiary recovery, cash costs (sum of lease operating costs, taxes, 
and cash general and administration expenses) are well above similarly rated 
peers (about $30/Boe in third-quarter 2012 compared with less than $20/Boe). 
Approximately $20/Boe of Denbury's costs relate to lease operating expense 
(LOE), which incorporates the use of carbon dioxide in tertiary recovery. 
Carbon dioxide and oil prices are highly correlated, so LOE movements will 
closely track those of oil. Profitability measures could lag more oil-weighted 
peers given the long lead time of its tertiary operations, especially if the 
Gulf Coast's positive crude oil differential weakens, but should still 
significantly outperform companies with greater exposure to natural gas and 
NGLs.

Liquidity
We consider Denbury's liquidity profile to be adequate. Our assessment of the 
liquidity profile incorporates the following expectations and assumptions:
     -- As of Sept. 30, 2012, the company had approximately $24 million of 
cash on the balance sheet and nearly $1 billion of availability on its $1.6 
billion borrowing base maturing in 2016. We assume that Denbury will use about 
$300 million of proceeds from its proposed $1 billion note issue to pay down 
borrowings on its revolver, taking pro forma availability to about $1.3 
billion.
     -- We forecast that sources of liquidity (including undrawn commitments 
on its credit facility, FFO, and cash on hand) will exceed uses (including 
capital spending, share repurchases, and debt maturities) by more than 1.2x 
over the next 12 months and that sources would be greater than uses even if 
EBITDA falls by more than 15%.
     -- We have assumed no further acquisitions or divestitures over the next 
12 months in our liquidity assessment.
     -- Benefiting the liquidity assessment, we think that Denbury could cut 
its capital spending in a lower hydrocarbon environment with little impact to 
production.


Outlook
The outlook is stable to reflect the expectation under our current operating 
assumptions that we are unlikely to raise or lower the corporate credit rating 
over the next 12 months. However, we could still lower the rating if Denbury 
posts weaker production or profitability than current expectations. We could 
also lower the rating if its spending program results in more aggressive 
leverage measures than we currently contemplate. We consider leverage below 
3.5x to be necessary to maintain a 'BB' rating.

We consider an upgrade to be unlikely, given our expectation that Denbury will 
continue to rely on debt to fund its aggressive growth plans.
Related Criteria And Research
     -- Standard & Poor's Raises Its U.S. Natural Gas Price Assumptions; Oil 
Price Assumptions Are Unchanged, July 24, 2012
     -- 2008 Corporate Criteria: Analytical Methodology, April 15, 2008
Ratings List

Ratings Affirmed; CreditWatch/Outlook Action
                                        To                 From
Denbury Resources Inc.
 Corporate Credit Rating                BB/Stable/--       BB/Positive/--

New Rating

Denbury Resources Inc.
 Subordinated
  US$1 bil sr sub nts due 2023          BB                 
   Recovery Rating                      3                  

Ratings Affirmed

Denbury Resources Inc.
 Subordinated
  US$400 mil 6.375% sr nts due          BB                 
  08/15/2021                            
   Recovery Rating                      3                  
  US$1 bil 8.25% sr sub nts due         BB                 
  02/15/2020                            
   Recovery Rating                      3                  
  US$225 mil  7.50% sr sub nts due      BB                 
  04/01/2014                            
   Recovery Rating                      3                  
  US$420 mil 9.75% sr sub nts due       BB                 
  03/01/2016                            
   Recovery Rating                      3                  

Encore Acquisition Co.
 Subordinated
  Local Currency                        BB                 
  Recovery Rating                       3                  3
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