Long-term prepayments from trading houses and other large buyers are likely to become an increasingly common form of funding for oil and gas companies, Fitch Ratings says. These deals are generally accounted for as standard sale contracts, but we will usually consider them part of a company's debt burden in our adjusted debt-related ratios.
The rise of prepayment deals has been pioneered by Russian companies. The leader is Rosneft, which, based on its financial statements, has already received total prepayments of USD27bn, a third of its overall debt portfolio, from oil traders such as Glencore and Vitol and big consumers such as China National Petroleum Corporation. But we expect these transactions to become more popular globally because they enable buyers to secure stable supplies while allowing producers to diversify their sources of finance. The potential for wider use was highlighted earlier this year by Glencore's provision of a USD1.4bn prepayment loan to Chad's national oil company.
Continued European and US sanctions against Russia could also drive appetite for prepayment deals as an alternative to bank funding or debt issuance for blacklisted oil companies. But this is likely to be restricted to transactions with buyers outside the EU and US, and with good access to local funding, such as CNPC. Trading houses would need to arrange bank funding to finance their own prepayment deals, which they may be unable to do while sanctions remain.
Oil and gas companies usually do not include these prepayments in their reported financial debt. This treatment is in line with international financial reporting standards, but we will usually include any outstanding prepayment balance in our key debt metrics because they have many debt-like characteristics. Prepayments usually bear an interest rate and non-payment may trigger an event of default. They also reduce cash flows available to other creditors. The overall impact on creditors from increased use of prepayments compared with other debt will also depend on how these prepayments rank in terms of seniority. This will depend on the terms of the individual transaction and whether the prepayments can be viewed as secured against oil reserves.
Nevertheless, having prepayments in a debt portfolio may be beneficial for the financial profile of an oil company due to their relatively long maturities, competitive pricing and from a funding diversification standpoint. Such deals also could be beneficial for originators as they give access to stable oil supplies at market prices. This is an important advantage amid the Middle East and North African production concerns.