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Rating Action:

MOODY'S ASSIGNS Ba2 TO FOREST OIL'S SR. SECURED BANK FACILITY; CONFIRMS B2 SR. SUB. RATINGS; POSITIVE OUTLOOK

08 Aug 2000
MOODY'S ASSIGNS Ba2 TO FOREST OIL'S SR. SECURED BANK FACILITY; CONFIRMS B2 SR. SUB. RATINGS; POSITIVE OUTLOOK

Approximately $900 Million of Bank Facilities and Debt Securities Affected

New York, August 08, 2000 -- Moody's Investors Service assigned a Ba2 rating to Forest Oil's (FST) pending five year $600 million senior secured bank revolver. Moody's confirmed its B2 senior subordinated ratings for FST's $100 million of 10.5% notes due 2006 and CFOIL's $200 million of 8.75% notes due 2007. FST guarantees CFOIL debt; for Canadian tax reasons, CFOIL does not guarantee FST debt. The senior implied rating is Ba3 and the senior unsecured issuer rating is B1. The secured borrowing base, subordinated debt cushion, and bank covenant package warrant the notching of the Ba2 bank rating over the senior implied rating.

The ratings outlook will be positive upon the closing of FST's acquisition of Forcenergy, reflecting larger scale, greater production risk diversification in FST's vital Gulf of Mexico (GOM) operating area, modestly reduced leverage, potential G&A and production cost savings of $0.50/boe of production, a more diversified prospect inventory that may improve FST's drillbit record, about $100 million of near-term asset rationalizations, and enhanced funding efficiency due to greater reserve scale and diversification and liquidity in FST common shares. The stock-for-stock purchase of moderately leveraged Forcenergy doubles FST's size. Forcenergy declared bankruptcy in March 1999 and emerged from bankruptcy in February 2000 after conversion of $390 million out of about $700 million of total debt into common equity.

The larger mass of proven developed (PD) and proven developed producing (PDP) reserves will generate higher levels of more diversified internal risk capital with which to fund pro-forma FST's long-lead time higher-risk Canadian, Alaskan, and international projects. Though Forcenergy intensifies FST's reliance on short-lived GOM production, it does reduce "old FST's" currently high concentration of GOM production in a handful of key properties and capitalizes on FST's GOM strengths and infrastructure. The ratings also benefit to a degree by the presence of FST's key shareholder, Phillip Anschutz, who is committed to growth backed by sound funding strategy. Anschutz Corp. will have a 32.8% stake in New Forest Oil.

Still, due to the credit implications of a relatively short PD reserve life and very short PDP reserve life, recent production trends, and relatively high reserve replacement cost history, an upgrade in the next 12 to 24 months hinges on sustained improved quarterly production trends, lower unit drillbit and all-sources reserve replacement costs relative to unit cash flow margins, further leverage reduction (total debt divided by PD reserves), and continued prudent funding strategies. Relative to the current bond rating and short PDP reserve lives, FST is amply exposed to the front-end spending, drillbit, and delay risks of multiple long-lead time exploration and development projects. In addition, Forcenergy's GOM reserves were estimated internally by Forcenergy and audited by a third party engineer, rather than receiving a full third party engineering review.

Thus, the ratings remain restrained by significant leverage on proven developed reserves; high capex demands on cash flow to replace short-lived reserves; high capex needed to bring existing proven undeveloped (PUD) and proven developed non-producing (PDNP) reserves to production; a series of long-lead time exploration and development projects; and high unit reserve replacement costs, both on an absolute basis and in relation to unit cash flow coverage.

FST's capacity to mount internally sustained production growth is inherently influenced by its short PDP reserve lives. The pro-forma reserve life profile is 8 years on total proven reserves, 6.1 years on PD reserves, and 3.8 years on PDP reserves. Though FST has maintained such a profile for many years, it nevertheless inherently reduces FST's capacity to absorb sustained drillbit disappointments, development delays, and cost and price pressures without affecting production trends.

Furthermore, a high degree of total production is concentrated in very short-lived reserves. About 50% of pro-forma total production, and higher percentages of total cash flow and reserve value, are generated by GOM reserves having only a 4.6 year total reserve life, a 3.7 year PD reserve life, and a 1.8 year PDP reserve life. The high level of reliance on such a high component of short-lived production increases the pressure to (1) generate sustained drilling successes that bring equally flush new wellbores on line and (2) minimize development delays. Still, "new FST" will also have a larger drilling inventory spread across its GOM, Gulf Coast, Rocky Mountain, Alaskan, and Canadian properties. And its long GOM involvement and relatively large GOM leasehold, prospect inventory, and production infrastructure expose it to sustained reserve replacement potential across a range of shallow and deep horizons from installed production infrastructure.

Benefiting from $300 million of subordinated debt, pro-forma senior debt to total reserves is a moderate $1.85/boe. However, total debt on PD reserves is a substantial $3.52/boe and on total reserves is $2.68/boe. Importantly, total debt plus capex needed to bring PUD and PDNP reserves to production is a high $4.50/boe of total reserves. On the other hand, pro-forma 3/31/00 debt to total capital is 51.3%.

After deducting capitalized G&A from EBITDAX, pro-forma EBITDAX/Interest in the first quarter of 2000 was 5.8x, though this benefited considerably from peak oil and gas prices. Additionally, owing to high average historic reserve replacement costs, EBITDAX minus maintenance capex divided by interest expense was barely over 1x.

At about $18/boe in total unit costs, the pro-forma unit cost structure is high due mainly to $10/boe of pro-forma three-year average all-sources reserve replacement costs. At peak 1Q2000 oil and gas prices, unit cash flow after interest expense covered three-year average unit reserve replacement costs only 1x, held back primarily due to high three-year average reserve replacement costs. Total pro-forma unit full-cycle costs of $18/boe include $4.28/boe of production costs, $1.64/boe of cash G&A costs, $2.12/boe of cash interest expense, and $10/boe of pro-forma three-year average all-sources reserve replacement costs.

Moody's does envision material improvement in reserve replacement costs but cannot recognize this in the bond rating until delivered, and material improvement is needed to gain an upgrade. Old FST's three-year average reserve replacement costs were $8.63/boe and old Forcenergy's were $11.61/boe. Each posted even higher reserve replacement costs through the drillbit. In keeping with the nature of GOM reserve replacement costs and GOM production margins, sustainable all-sources reserve replacement costs in the range of $7/boe to $8/boe may gain an upgrade if other trends are also favorable.

Thus, after a series of important acquisitions and related equity issues, Forest is strengthened by: a larger more diversified reserve base; an expanded inventory of recompletion, workover, and low and high risk drilling prospects across a wide range of basins and geologic complexity; and four core areas of operation. Forest has a valuable portfolio of GOM leases, production platforms, gathering/processing infrastructure, and 40 years of geologic and operating experience in the offshore and onshore GOM. The ratings accommodate the high finding and development costs or longer lead times associated with Forest's GOM, Gulf Coast, Alaskan, and Canadian Northwest Territories prospects.

Though the Northwest Territories properties in the Fort Laird area are promising and P-66 production recently commenced, the reserve volume, value, and production impact of these properties is currently small and the area will continue to be cash consuming for several years as FST continues to drill and develop the region. Similarly, even if a decision is made to pursue full development of the promising South African offshore properties, these properties face several years of cash consumption before contributing cash flow and positive net present value to FST.

The $600 million revolver consists of a US$500 million facility for the parent and a US$100 million-equivalent facility for Canadian Forest Oil (CFOIL). Borrowings are capped by U.S. and Canadian borrowing bases. The perfected collateral package is reduced if the loan facility is upgraded. CFOIL bank debt is secured by CFOIL reserves and parent bank debt is secured by parent reserves. CFOIL and parent reserves cross-collateralize each facility and the parent provides a senior guarantee on CFOIL bank debt and senior subordinated guarantee of the notes. The FST notes are structurally subordinated to debt on CFOIL assets. CFOIL does not guarantee FST debt.

Forest Oil is headquartered in Denver, Colorado.

New York
Tom Marshella
Managing Director
Corporate Finance
Moody's Investors Service
JOURNALISTS: (212) 553-0376
SUBSCRIBERS: (212) 553-1653

New York
Andrew Oram
Vice Pres. - Sr. Credit Officer
Corporate Finance
Moody's Investors Service
JOURNALISTS: (212) 553-0376
SUBSCRIBERS: (212) 553-1653

No Related Data.
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