The big issue facing common unit holders of Linn Energy is
the over-extended financial structure of the business, i.e. financial
leverage. While Linn Energy is well
hedged with favorable $90 oil derivative contracts for the next several years
of production, the reassessment of the value of its proven reserves is expected
to severely stress its financing capacity in the very near future. In addition, even with the hedge program, the
drop in oil price will still place a burden on cash flow to pay distributions while
continuing to maintain a steady capital expansion program. If drilling is constrained for any period of
time at Linn Energy, the current high oil production rate will decline rapidly given
the characteristics of the proven undeveloped reserves that Linn Energy owns (light
oil, high concentration of NGL and Natural Gas). The cost structure of the company makes the
oil production “cliff” a particularly onerous problem. Based on an assessment of the financial
position of the company contained in this article, investors should expect a
radical down-sizing, or even complete elimination of the $.24 monthly distribution
level which is currently a 28.76% yield.
Thursday, December 18, 2014
Linn Energy: A Shale Play Challenged at $55 Oil
Linn Energy (LINE) (LNCO) traded closed below $10 a unit on
December 15, 2014, marking both a 52 week low, and lows not experienced since
the December 2008 financial crisis.
During the 2008 crisis, oil reached a bottom in the $35 range, whereas
currently we are just reaching the $55 per barrel range. Why is the panic so much more acute today
than the time period politically labeled as the “Greatest Recession since the
Great Depression?” Are we entering an
even bigger Depression? That question I
may have an opinion, but will not attempt to answer in this article. What I will provide readers is a clear nuts
and bolts view of why there is a run on the Linn Energy units, and why as the
market approaches $55 oil per barrel on the front-end of the curve, the investor
sentiment is warranted.
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