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29 Mar 2004
MOODY'S AFFIRMS DEBT RATINGS OF KERR-McGEE CORPORATION (Sr. Unsecured at Baa3); CHANGES RATINGS OUTLOOK TO NEGATIVE
Approximately $3.5 billion of debt securities affected.
New York, March 29, 2004 -- Moody's Investors Service affirmed the debt ratings of Kerr-McGee
Corporation (Baa3 senior unsecured) and changed the ratings outlook to
negative from stable. The change in outlook was prompted by certain
operating and financial results in 2003 that did not meet Moody's stated
expectations which were derived directly from management's projections.
Our action also considers the company's strategy and near term opportunities
to address several of the issues contributing to the outlook change.
Moody's outlined several key ratings drivers in its previous press release
on May 6, 2003 that would be necessary to maintain a stable outlook,
many of which were not achieved during 2003. These included;
(i) reducing the company's adjusted debt relative to its proved developed
reserve base, (ii) improving cash operating costs (LOE, transportation
and SG&A), (iii) improving finding and development costs,
and (iv) maintaining a flat production profile in 2003 with a modest increase
in 2004. While these metrics did not meet expectations, Moody's
notes the company did slightly improve its proved developed reserve life
(from 5.2 years to 5.3 years) and the chemicals business
continues to be a source of modest free cash flow ($100 million
- $200 million) despite relatively weak fundamentals.
In 2003, Kerr-McGee (KMG) reduced debt by approximately $250
million but proved developed reserves also fell by approximately 70 MMBOE,
due to a combination of asset sales and the migration of only 27MMBOE
of proved undeveloped reserves to proved developed. This resulted
in an increase in adjusted debt relative to proved developed reserves
to approximately $7.60/BOE - before any allocation
to the chemicals business - compared to approximately $7.00/BOE
at the end of 2002. Moody's also considered the leverage on KMG's
total proved reserve base, after including future development and
abandonment costs, which yielded $6.75/BOE vs.
$6.30/BOE in 2002. Moody's notes the company has
a very high percentage of proved undeveloped reserves, approximately
50%, however a portion of them appear to be relatively low
cost given the difference between the debt per proved developed BOE and
the debt plus future development costs per total proved BOE.
Moody's continues to consider KMG's leverage high for an investment
grade E&P company and expects improvement in 2004. The company
has approximately 85% of 2004's projected oil production hedged
and approximately 75% of projected natural gas production hedged,
both at fairly high price levels, thereby reducing exposure to lower
commodity prices (but also limiting the upside if very strong commodity
prices persist for the balance of the year). The company has targeted
debt reduction of $550 million in 2004, which includes $330
million of DECS that Moody's has already removed from its leverage calculation
since KMG can satisfy the obligation with 8.4 million shares of
Devon common stock it already owns. Therefore, debt reduction
will likely be modest, about $220 million, and leverage
relative to the proved developed reserve base will be a function of KMG's
success in converting proved undeveloped reserves to proved developed.
Nevertheless, KMG's leverage continues to put negative pressure
on the rating. Moody's believes this is particularly important
given the company's strategic focus, namely large deepwater exploration
and development success. KMG needs a larger, stable base
of production to provide adequate financial flexibility to fund this type
of activity through commodity price cycles.
Moody's also cited the company's cost structure in its outlook change.
Total cash operating costs, including LOE, transportation,
and SG&A increased slightly in 2003. While production costs
decreased, from $5.15/BOE to $4.45/BOE,
SG&A (including transportation costs) increased from $2.06/BOE
to $2.91/BOE. As a result, total cash operating
costs increased modestly from $7.21/BOE in 2002 to $7.36/BOE
in 2003. Moody's notes the increase in SG&A was primarily driven
by a combination of workforce reduction/severance charges and environmental
charges. The restructuring charges are not expected to be recurring
and environmental costs have been trending down, which is expected
to continue. Therefore, Moody's expects KMG's cash operating
costs to improve in 2004.
The outlook change further considers KMG's 2003 finding and development
costs as well as expectations for 2004. KMG's all sources F&D
costs did improve last year compared to the extremely poor results posted
in 2002 and were also towards the lower end of the range management gave
as guidance, however, it's important to consider the components
that generated these results. KMG's production for the year was
approximately 99MMBOE and reserves added through extensions and discoveries
totaled 102MMBOE, yielding a drill-bit only reserve replacement
ratio of 103%. Of the 102MMBOE added, 94MMBOE were
proved undeveloped, of which 67MMBOE were attributable to one deepwater
GOM discovery - Constitution - expected to commence production
in mid-2006. The net result was a one-year all sources
F&D cost of $9.17/BOE, which is high relative
to most investment grade independent E&P companies. More importantly,
given the high proportion of proved undeveloped reserves already booked
(including Constitution), Moody's expects a significant portion
of KMG's 2004 upstream capital spending budget of approximately $900
million to be spent on proved undeveloped reserves, which will not
result in additional BOE's being booked. Therefore, the company
is particularly dependent upon material exploration success during 2004
in order to generate F&D costs comparable with its investment grade
KMG did meet its production forecast in 2003, averaging 271MBOE/D
for the year. While this was consistent with Moody's expectations
for a stable outlook, the revised guidance for 2004 is not.
The company's production trend was expected to be up modestly in 2004,
and after considering asset sales and small acquisitions the revised target
of 260MBOE/D is about 4-5% lower than management's previous
estimates. Moody's notes, however, there does appear
to be reasonably good visibility supporting the current production forecast.
KMG exited 2003 producing 254MBOE/D and production levels in January and
February were above the average expected for the full year. While
production levels are expected to vary somewhat during the course of 2004,
the continued ramp-up of production at Gunnison and the commencing
of production at Red Hawk (expected in mid-2004) and Bohai Bay
(end of 2004) are projected to account for the majority of incremental
production needed to offset natural field decline rates during the year
and provide modest production growth in 2005.
Finally, KMG has good near-term liquidity. Debt maturities
of $245 million in 2004 ($100 million in June and $145
million in July) are targeted for repayment. Given the current
commodity price environment, KMG's hedge position, and the
$142 million of cash the company had on the balance sheet at year-end
KMG will be well positioned to repay this debt and build cash to repay
a portion of the $460 million in debt maturities coming due in
2005. In addition, the company has an undrawn committed bank
credit facilities totaling $1.35 billion consisting of a
$700 million 364-day revolver that matures in November 2004
and a $650 million 5-year revolver due in January 2006.
Over the near term, Moody's will continue to assess KMG's progress
in achieving the following: (i) reducing total adjusted debt relative
to proved developed reserves, (ii) lowering total cash operating
costs, (iii) improving F&D costs and total full-cycle
costs, (iv) meeting or exceeding 2004 production targets,
and (v) continued improvement in the proved developed reserve life.
In addition, Moody's expects a continued downward trend in environmental
costs with no material change in the company's contingent liabilities
and also expects KMG's chemicals business to continue to generate
positive free cash flow of $100 million to $200 million
per year with an improving near to medium term trend. If KMG is
unsuccessful in achieving these objectives or Moody's deems positive trends
to be unsustainable, we will review the company's ratings for a
possible downgrade. Conversely, successfully achieving these
objectives with sustainable trends will likely result in a change in outlook
Ratings affirmed include: Kerr-McGee Corporation's senior
unsecured notes, medium-term notes, and debentures
at Baa3; its convertible subordinated debentures at Ba1; its
bank debt at Baa3; its shelf registration for senior unsecured securities
at (P)Baa3; its subordinated shelf at (P)Ba1, and its preferred
stock shelf at (P)Ba2. Kerr-McGee Credit LLC's commercial
paper rating, guaranteed by Kerr-McGee Corporation,
Kerr-McGee Corporation is a global energy and chemicals producer.
Its principal businesses are oil and gas exploration and production,
and the production of titanium dioxide pigment, which is principally
used in coatings and plastics. The company's headquarters are in
Oklahoma City, OK.
Corporate Finance Group
Moody's Investors Service
John C. Cassidy
VP - Senior Credit Officer
Corporate Finance Group
No Related Data.
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