“Oil and gas lending” refers to loans secured by interests in oil, gas and other minerals in the ground or produced and saved, leasing rights, and rights to share in production and royalties. This Chapter reviews oil & gas terminology, basic lending structures and documentation.
Oil and Gas are commodities. Commodity prices are volatile. They depend on supply and demand which in turn can be affected by weather and manufacturing levels. A Borrower’s profitability and liquidity can change quickly. Oil is a global commodity because it is more easily transported (truck, pipeline, ship). Gas has historically been more regional.
The process of liquefying natural gas, LNG (Liquefied Natural Gas), is still expensive. Low oil and gas prices can lead to financial distress in the exploration and production sector. There is a domino effect as the demand for oilfield services declines. It also affects the midstream and downstream sectors as the need to transport, refine and market decreases.
Lending in the oil and gas sector can be risky. Risks include:
•Credit Risk (based on market volatility, governmental policies and legal risks, and limited purpose collateral)
•Interest Rate Risk
•Liquidity Risk
•Operational Risk
•Compliance Risk
•Strategic Risk
•Reputational Risk
Perfecting a lien on a debtor’s oil and gas interest typically involves both UCC and real estate loan documentation. Oil and gas leases and other similar interests are real estate and are not subject to the UCC. The well and operational, transportation, transmission and storage equipment are either “equipment” or “fixtures.” A borrower’s rights under certain contracts relating to oil and gas properties are “general intangibles.” Thus the Texas Secured Lending Guide should also be consulted.
Interests in oil and gas when produced and extracted from the ground are covered by the UCC but have special filing rules. Although oil and gas extracted from the ground is technically “inventory,” and when that inventory is sold, an “account” arises, security interests in these items are not filed in the Secretary of State’s Office as they would be for inventory and accounts.