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Issues » Fact Sheets
Tax/Capital Fact Sheets
Federal Financial Instruments
During periods of low oil prices, independent producers and support companies – particularly smaller ones – need flexible financial instruments to carry them through the price downturn. Currently, the primary source of external financing is bank loans. These loans must comport with banking regulations and, when prices are low as they were in 1998 and early 1999, harsh choices have to be made that put many producers and support companies out of business. This recent price crisis has resulted in new options being developed.
DOE and SBA Program – The Department of Energy and the Small Business Administration have negotiated a memorandum of understanding to facilitate the use of financing options available under the agency's small business assistance programs. This is an important recognition of the need to develop federal financial instruments to help small producers. Nevertheless, this option is limited due to a number of factors including small producers’ unfamiliarity with the programs, the relatively small value of the loans (usually less than $1 million), the reluctance of most banks to make loans to businesses engaged in natural resource extraction (even with 75 percent guarantees), and the fees, red tape, and other paperwork involved in securing SBA loan guarantees. Additionally, the Department of Energy and the Small Business Administration created a workgroup to serve as a liaison among domestic crude oil producers, banks and financial institutions, and federal small business assistance agencies. It will provide administrative and technical support to banks and financial institutions assisting domestic crude oil producers and it will identify regulatory and legislative initiatives to make SBA loan guarantee programs more useful to small businesses in the domestic crude oil production industry.
Emergency Oil and Gas Loan Guarantee Program – Congress has created a $500 million loan guarantee program for independent producers and small business service companies. The program will provide qualified producers and service industries companies access to a guarantee fund to back loans through the private market. The two-year program calls for a special loan guarantee board, comprised of the Federal Reserve chairman, the Commerce secretary and the Securities and Exchange Commission chairman, to oversee the program. The board would have the flexibility in terms of setting the level of the federal guarantee (up to 85 percent), the appropriate collateral and the loan amounts and interest rates. Small producers and service companies will be able to borrow up to $10 million at a rate determined to be reasonable taking into account the current average yield on outstanding obligations of the United States with remaining periods of maturity comparable to the maturity of the loan. The federal government would not actually provide the loans, but instead guarantee lenders that the government would repay loans if the borrowers defaulted. Regulations implementing the program were released on October 18, 1999. The first loan guarantee applications were submitted, but the regulatory burden of the process and poorly structured criteria have resulted in a low number of initial applications. The Board is now processing these applications.
If this program is going to meet its objectives and respond to the needs of small producers and small business service companies, it needs to be revamped administratively or legislatively. Without changes it will not attract lending industry participation and it will discourage the companies that could benefit from its use.
PADDIE MAC – Another option for Congressional consideration is the PADDIE MAC approach. It would create a government-sponsored enterprise (GSE) along the lines of Freddie Mac and Fannie Mae that would provide low cost capital to support oil and natural gas exploration and production by smaller domestic producers. The nation must face the reality that the 60 percent of domestic oil production that comes from the onshore lower 48 states is rapidly becoming the domain of independents. In 1997, over 60 percent of this production came from non-major oil companies. These companies need reliable financing and the current banking system does not encourage lending to such entities particularly during and after price crises. PADDIE MAC would provide encouragement to develop financing and allow the risk of the financing to be spread among many lending institutions. And, like other successful GSEs, it would create a secondary market that would allow the initial capital to recycle back to fund additional production.
January 2000
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