Fitch Expects to Rate Occidental's Senior Unsecured Notes 'A'; Outlook Remains Stable

CHICAGO--(BUSINESS WIRE)--

Fitch Ratings expects to assign an 'A(EXP)' rating to Occidental Petroleum Corporation's OXY pending issuance of senior unsecured 10- and 30-year notes. OXY intends to use the notes for general corporate purposes.

OXY's Rating Outlook is Stable.

OXY's ratings reflect the company's size, diverse resource base, strong operational track record, significant exposure to liquids (approximately 76% of 2015 production and 74% of reserves), and conservatively managed balance sheet. The company also enjoys modest integration benefits from its chemicals and midstream segments, and lower geological risk, stemming from its enhanced oil recovery (EOR) business which extracts hydrocarbons from mature fields. Production sharing contracts (PSCs) in its portfolio also help stabilize cash flows.

Credit Concerns

Credit concerns center on the potential effects that a prolonged period of low oil prices may have on the company's free cash flow and balance sheet, especially given the company's large dividend payout, which represents a significant use of cash. Other credit concerns center on the need for periodic property acquisitions associated with the company's EOR business model.

KEY RATING DRIVERS

Restructuring Largely Complete

OXY's sizable asset restructuring program is now for the most part complete. Actions taken include the spin-off of California Resources Corporation (CRC) at the end of 2014, as well as multiple asset sales, including: the Hugoton basin E&P assets ($1.3 billion), Plains Pipeline ($1.7 billion), the BridgeTex Pipeline ($1.1 billion), North Dakota acreage ($590 million), the Piceance basin, along with a small specialty chemicals operation and office tower ($238 million). The goal of the restructuring was to exit areas that could not compete for capital with core holdings such as the Permian and Permian EOR, and to shed assets in which the company could not otherwise create a long-term competitive advantage.

Reduced Exposure to MENA

As part of its restructuring, OXY has stepped down its exposure to the Middle East North Africa (MENA) region. While the company had previously expressed interest in selling off parts of its MENA portfolio, a sale has proved challenging given the limited pool of buyers, the difficulty of selling cross-border assets, and the difficulty of replacing OXY's expertise in EOR techniques. Under current plans, the company will focus on core MENA investments in Qatar, Abu Dhabi, and Oman, while exiting non-core countries. As of Q3, OXY had exited Bahrain and Iraq, and the total amount of production in run-off mode (including sold assets) had declined to approximately 44,000 boepd.

Size and Scale

Even after the restructuring, OXY retains considerable size and scale. Core E&P areas include the Permian, Colombia, and in MENA, Qatar, Abu Dhabi, and Oman. Guidance for core 2016 production is 600,000-605,000 boepd, driven by strong contributions from Al Hosn, Oman, and the Permian, which more than offset declines in the MidContinent and other MENA.

Future production growth in OXY's portfolio will be anchored by the Permian, and OXY remains the single largest oil producer in the basin at 269,000 boepd in the third quarter 2016. OXY's Permian business has significant economic drilling inventories at around $50/bbl, and includes Permian Resources and Permian EOR. Permian Resources remains the company's key future growth plank, given the opportunities for efficiency gains at this relatively early stage in the shale play's life.

OXY's recent $2.0 billion acquisition in the Permian basin (35,000 net acres, 7,000 boepd of production) is expected to further drive synergies in the Permian by enhancing its ability to drill longer laterals, raise total recoveries, and amortize existing infrastructure costs over a larger production base.

Financial Performance Reasonable

OXY's latest-12-months (LTM) financial performance was reasonable given sharply lower oil prices and lost volumes associated with asset sales. As calculated by Fitch, for the period ending June 30, 2016, OXY had gross debt of approximately $8.3 billion, and EBITDA of approximately $3.8 billion, resulting in debt/EBITDA leverage of 2.2x, EBITDA/gross interest coverage of 13.0x, and FFO-interest coverage of 10.5x. Total debt at June 30 included the repayment of $700 million in 2.5% notes, the company's April $2.75 billion issuance and subsequent refinancing of its $750 million 4.125% notes and $1.25 billion 1.75% notes.

Large Dividend Payout

One key credit concern is OXY's relatively large dividend payout (approximately $2.3 billion), which is a significant use of cash in the current low oil price environment. As calculated by Fitch, LTM free cash flow at June 30, 2016 was approximately -$2 billion, comprised of cash flow from operations (including discontinued ops) of $8.8 billion, minus capex of $3.5 billion, and common dividends of $2.3 billion. Capex declined significantly on a quarterly basis over this period, resulting in a trend of improvement in negative FCF, with quarterly FCF in Q1 2015 of -$1.7 billion but improving to -$47 million in Q2 of 2016.

OXY has the financial flexibility and ratings headroom to accommodate negative FCF for the near to medium term under Fitch's base case scenario of gradually rising prices (WTI oil price of $42/barrel in 2016, $45 in 2017, $55 in 2018, and $65 in 2019). However in a sustained lower oil price environment, the company would likely need to address the issue to avoid impacting credit quality.

KEY ASSUMPTIONS

Fitch's key assumptions within our rating case for the issuer include:

--Base case WTI oil prices of $42/bbl in 2016 rising to $65/bbl in 2019;

--Base case natural gas price of $2.35/mcf in 2016, rising to $3.25/mcf in 2019;

--Cumulative production growth of just under 10% from 2016 to 2019;

--2016 capex of $2.9 billion, rising to just under $3.5 billion by 2019;

--Minimal dividend growth across the forecast period;

--Sale of 50% stake in Plains in 2017.

RATING SENSITIVITIES

Positive: Future developments that may individually or collectively lead to positive rating action include:

--Increased size, scale and diversification accompanied by sustained debt/flowing barrel < $9,000 and sustained debt/boe proven developed reserves of <$2.2.

Negative: Future developments that may individually or collectively lead to a negative rating action include:

--Material decline in size and scale, sustained debt/flowing barrel >$15,000, sustained debt/EBITDA >1.8x

--A prolonged period of low oil prices leading to debt funded dividend payouts; or a large leveraging buyback program or acquisition.

LIQUIDITY AND DEBT STRUCTURE

OXY's liquidity is robust. Cash on hand at Sept. 30, 2016 was approximately $3.2 billion, and the company's $2 billion credit facility (maturing 2019) remained undrawn, for total liquidity of approximately $5.2 billion. The company used up the last of the restricted cash associated with the distribution it received from the California Resources Corp spin-off to pay down the previously mentioned $700 million notes in February, and for dividend payments.

Near-term maturities are light following the company's issuance and refinancings earlier this year and include nothing due in 2016 or 2017, $500 million due 2018, and $116 million due 2019. OXY's debt contains no financial covenants but include a maximum consolidated debt to adjusted tangible net worth covenant of 2.6x (revolver only); limitations on secured debt (with a carve-out for up to 15% of consolidated net assets), restrictions on sales-leasebacks, and cross-default provisions. The main revolver does not have MAC clauses or ratings triggers but does have change of control language (defined as ownership of 50% or more of voting securities). The revolver also has a $1 billion sub limit for Letters of Credit.

Other Liabilities

OXY's other obligations are manageable. The company's 2015 Asset Retirement Obligation (ARO), linked to well site remediation, rose by approximately $33 million y-o-y to $1.1 billion in 2015, with the increase mostly due to revisions in estimated costs. Rental expense in 2015 was $197 million, and was primarily linked to leases for transportation equipment, power plants, machinery, terminals, tankage, land, and office space. Environmental reserves rose to $386 million and covered probable remediation costs at 149 sites. OXY's pension obligations (FV plan assets minus pension benefit obligation) were underfunded by $27 million at YE 2015, versus an underfunding of $17 million the year prior. The size of the deficit is immaterial when scaled to OXY's underlying cash flows.

OXY's current ratings are as follows:

--Long-Term Issuer Default Rating (IDR) 'A';

--Senior Unsecured Revolver 'A';

--Senior Unsecured Notes 'A';

--Commercial Paper 'F1';

--Short-Term IDR 'F1'.

Fitch expects to rate:

--Senior Unsecured Notes 'A(EXP)'.

The Rating Outlook is Stable.

Date of Relevant Rating Committee: Aug. 5, 2016

SUMMARY OF FINANCIAL STATEMENT ADJUSTMENTS

Fitch has made no material adjustments that are not disclosed within the company's public filings.

Additional information is available at 'www.fitchratings.com'.

Applicable Criteria

Corporate Rating Methodology - Including Short-Term Ratings and Parent and Subsidiary Linkage - Effective from 17 August 2015 to 27 September 2016 (pub. 17 Aug 2015)

https://www.fitchratings.com/site/re/869362

Short-Term Ratings Criteria for Non-Financial Corporates -- Effective Aug. 13, 2015 to Sept. 27, 2016 (pub. 13 Aug 2015)

https://www.fitchratings.com/site/re/869259

Additional Disclosures

Solicitation Status

https://www.fitchratings.com/gws/en/disclosure/solicitation?pr_id=1014207

Endorsement Policy

https://www.fitchratings.com/regulatory

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