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Ultra's bankruptcy highlights perils for private equity's upstream investments

Ultra Petroleum Corp. has entered Chapter 11 bankruptcy for the second time in four years as low commodity prices decimated its first effort to get back on its feet. Ultra's struggles also highlight the bind that private equity firms find themselves in after investing in a sector with no interested suitors to bail them out.

Ultra said in a May 14 bankruptcy filing in the Southern District of Texas that it had approximately $2.56 billion in debt and $1.45 billion in assets, whose value had diminished due to crashing oil prices over the past two months. Ultra's woes went back well before that; the company said during its third-quarter 2019 earnings call that it had suspended drilling operations for the remainder of 2019 and into 2020. While decreasing oil prices at that time were hindering the company's operation, CEO Bradley Johnson said low natural gas prices were the primary culprit.

"Given the backdrop of the pricing environment, we simply were not in a position to invest capital at the rates of return needed to organically generate net free cash flow, and we determined that it made more sense for the business as a whole to focus on free cash flow generation and the use of this cash to repay debt," Johnson said Nov. 7, 2019. But the company was unable to pay down enough debt to settle its obligations, leading to a prepackaged bankruptcy filing a little more than six months later.

"Through the Chapter 11 restructuring, the company will eliminate approximately $2.0 billion in debt from its balance sheet, substantially deleverage its capital structure and strategically position the company for long-term success," the company said May 14. "Ultra aims to complete an efficient Chapter 11 bankruptcy with a goal of finalizing within the next three months."

Ultra's bankruptcy filing was made with the support of major stakeholders Fir Tree Capital Management LP and Disciplined Growth Investors Inc., which hold a combined 22.65% of the company's equity. The creditor with the largest claims against Ultra is Wilmington Trust, which holds more than $390.7 million in senior notes.

Ultra said lenders under its first-lien, reserve-based lending credit facility will provide exit financing through a revolving credit facility that has a $100 million initial borrowing base and $60 million of total commitments. But the situation highlights the struggles of private equity in the current market as they invest in energy companies and then cannot find a way out.

"The investment model for private equity was to find the right people, invest money, have them drill one or two wells and then flip it," Haynes and Boone LLP partner Buddy Clark said in January. "The question is, will that model ever come back?"

Even before oil prices collapsed into the negatives, industry observers were noting that private equity firms were having difficulty selling off their holdings in oil and gas producers. Clark, co-chair of the corporate law firm's Energy Practice Group, said private equity investors will have to learn to ride out severe downturns and become long-term stakeholders since options for a quick exit have evaporated.

"That's the new model; hold on to [their position] for a while. Make it a real company … get a team that can develop it," Clark said. "It would be healthy long-term if it flipped from a nine- to 18-month investment to 'Where will we be in 10 years or 20 years?'"