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By Bloomberg

Creditors who were willing to lend to energy companies with few strings attached are finding out how precarious their holdings can be.

Faced with the prospect of shrinking credit lines from banks after the price of oil plunged, companies from Energy XXI Ltd. to SandRidge Energy Inc. and Comstock Resources Inc. are seeking to boost their cash cushions by issuing new bonds secured by collateral. That’s pushing unsecured bondholders lower in the order of repayment in the event of a restructuring, and it’s renewing a selloff in the bonds.

Junk-rated energy companies benefited in recent years from investors eager to purchase high-yielding securities in a low- rate environment fostered by central banks’ easy-money policies. With global growth still weak and commodity prices sharply lower, energy companies are feverishly tapping debt markets for cash, punishing many existing bondholders.

“Now all of those unsecured holders are going to get hurt as more debt is layered,” Brian Gibbons, an analyst with debt- research firm CreditSights Inc., said in a telephone interview. “These companies are looking to lock in their liquidity and I expect a significant amount of such deals to occur in the next few quarters.”

The accelerated issuance comes as many companies face a drop in the amount they can draw from credit lines. Banks typically gauge a company’s borrowing base by revaluing its assets twice a year. A drop of more than 50 percent in oil prices since June means these credit limits could be cut by as much as 30 percent in some cases, Kevin Smith, an energy analyst at Raymond James & Associates Inc., said in an interview.

Falling Prices

Oil producer Energy XXI Ltd. last week sold $1.45 billion of second-lien bonds to repay borrowings on its line of credit. Its longest-dated unsecured bonds tumbled to 41 cents on the dollar from 53 cents the day before the new debt sale was announced, according to Trace, the bond-price reporting system of the Financial Industry Regulatory Authority. The company’s $1.5 billion credit line will be reduced by 67 percent once the bond sale is finished, according to a March 4 Fitch Ratings report.

Oil and natural gas explorer SandRidge Energy Inc. amended its credit agreement to let it issue as much as $500 million of junior debt, according to a Feb. 27 filing. The company was able to maintain its borrowing base at $900 million, Chief Executive Officer James Bennett said in an earnings call last month. Its $1.2 billion of 7.5 percent notes maturing in 2021 have slid to 63 cents on the dollar from 75.5 cents in February, Trace data show.

’Grabbing Yield’

“When times are good, people were just focusing on grabbing yield,” Spencer Cutter, a Bloomberg Intelligence analyst, said in a telephone interview. “Eventually something happens, and all of a sudden the risks are staring them in the face.”

Comstock Resources and Goodrich Petroleum Corp. are among other companies issuing secured debt in the recent weeks, according to data compiled by Bloomberg.

Companies whose fortunes are linked to other commodities are also at risk. Peabody Energy Corp., the most debt-laden coal producer, earlier this year amended its pact with lenders and last week sold $1 billion of secured bonds. Its 2021 unsecured notes have tumbled to 71 cents on the dollar from 84 cents in February. It can issue another $500 million of secured notes, per the agreement.

Subordination Risk

Including investment-grade debt, energy companies borrowed a record $14.5 billion last week, after being all but frozen out of the market earlier this year. Bondholders selling unsecured high-yield energy debt are still finding hardly any buyers, according to Tim Gramatovich, chief investment officer at Santa Barbara, California-based Peritus Asset Management LLC.

“If you do get a spike in energy, my advice is, get rid of it at the first possible moment of liquidity,” he said in a telephone interview. “As long as people are fooled on the next spike up, that’s what you’re going to have to wait for.”

The flexible structure of many unsecured bonds adds to the risk of subordination, Alexander Dill, head of covenant research at Moody’s Investors Service, said in an interview. Oil and gas companies that raise debt will most likely sell second-lien bonds that rank senior to unsecured bondholders, Dill wrote in a January report.

Getting buried under new debt beats watching a company you’ve invested in run out of cash, according to Margie Patel, a money manager for Wells Capital Management in Boston, which manages $1.4 billion. “It may not feel good, but it’s better than the alternative,” she said in a telephone interview.