The 50% fall in the price of crude oil since last summer is flushing out oil producers with dangerously high levels of debt.
Shares in both firms are falling today in this article Ill look at why this might be, plus whether either stock is a buy.
Oil recovery stalled
Earlier this month, crude prices rose by 20% from their January lows. Brent crude for April delivery rose from $48 to more than $60, and oil stocks surged accordingly.
However, this rally appears to be fading away perhaps because the market is still oversupplied and Brent has now fallen back from recent highs to around $57 per barrel.
For producers like Afren and Gulf, where every dollar of cash flow is essential, this isnt good news.
The biggest risk weighing on Afren shares is that the company will be forced into administration, rendering its stock worthless.
Investors are hoping that fellow Nigerian operator Seplat will make an offer for Afren stock, but time is running out the deadline is 5pm on 13 February and I think an offer is unlikely.
Afren has already delayed $65m of interest payments until the end of February. After this time, the firm is likely to be in default on its debt, and may be forced into administration. If Seplat wants to buy Afren, all it has to do is make an offer to buy the firms debt, not its shares.
What about Gulf Keystone?
Gulf Keystone Petroleum bonds now offer a yield somewhere in the region of 30% only slightly below those of Afren. This suggests that bond investors believe Gulfs bonds wont be repaid in full.
Although none of these bonds are due to be repaid until 2016 at the earliest, the firm does have $52m of interest payments due by the end of June, according to its latest accounts.
Gulf had $177m in cash at the end of August last year, but we dont know how far this has fallen. My suspicion is that Gulfs cash situation may be worse than expected, but we probably wont know more until late March, when the firms results are due.
Is either firm a buy?
The debt problems being experienced by Afren and Gulf mean that an investment in either firm is almost pure speculation, in my view, with a high likelihood of a near-total loss.
In my view, there are many better buys available, even amongst oil stocks.
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