NOTES TO CONDENSED FINANCIAL STATEMENTS
MARCH 31, 2022
(UNAUDITED)
NOTE 1 ORGANIZATION AND NATURE OF BUSINESS
Northern Oil and Gas, Inc. (the “Company,” “Northern,” “our” and words of similar import), a Delaware corporation, is an independent energy company engaged in the acquisition, exploration, exploitation, development and production of crude oil and natural gas properties. The Company’s common stock trades on the New York Stock Exchange under the symbol “NOG”.
Northern’s principal business is crude oil and natural gas exploration, development, and production with operations in the United States. The Company’s primary strategy is investing in non-operated minority working and mineral interests in oil and gas properties in the United States.
NOTE 2 BASIS OF PRESENTATION AND SIGNIFICANT ACCOUNTING POLICIES
Basis of Presentation
The financial information included herein is unaudited. The balance sheet as of December 31, 2021 has been derived from the Company’s audited financial statements for the year ended December 31, 2021. However, such information includes all adjustments (consisting of normal recurring adjustments) that are, in the opinion of management, necessary for a fair presentation of financial position, results of operations and cash flows for the interim periods. The results of operations for interim periods are not necessarily indicative of the results to be expected for an entire year.
Certain information, accounting policies, and footnote disclosures normally included in the financial statements prepared in accordance with accounting principles generally accepted in the United States of America (“GAAP”) have been condensed or omitted in this Form 10-Q pursuant to certain rules and regulations of the Securities and Exchange Commission (“SEC”). The condensed financial statements should be read in conjunction with the audited financial statements for the year ended December 31, 2021, which were included in the Company’s 2021 Annual Report on Form 10-K for the fiscal year ended December 31, 2021.
Use of Estimates
The preparation of financial statements under GAAP requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period.
The most significant estimates relate to proved crude oil and natural gas reserves, which includes limited control over future development plans as a non-operator, estimates relating to certain crude oil and natural gas revenues and expenses, fair value of derivative instruments, fair value of contingent consideration, acquisition date fair values of assets acquired and liabilities assumed, impairment of crude oil and natural gas properties, asset retirement obligations and deferred income taxes. Actual results may differ from those estimates.
The Company considered the impact of the novel coronavirus 2019 (“COVID-19”) pandemic on the assumptions and estimates used by management in the unaudited condensed financial statements for the reporting periods presented. Management’s estimates and assumptions were based on historical data and consideration of future market conditions. Given the uncertainty inherent in any projection, which is heightened by the possibility of unforeseen additional impacts from the COVID-19 pandemic, actual results may differ from the estimates and assumptions used, and conditions may change, which could materially affect amounts reported in the unaudited condensed financial statements in the near term.
Adopted and Recently Issued Accounting Pronouncements
In March 2020, the Financial Accounting Standards Board (“FASB”) issued ASU No. 2020-04, Reference Rate Reform (Topic 848): Facilitation of the Effects of Reference Rate Reform on Financial Reporting (“ASU 2020-04”) followed by ASU No. 2021-01, Reference Rate Reform (Topic 848): Scope (“ASU 2021-01”), issued in January 2021 to provide clarifying guidance regarding the scope of Topic 848. ASU 2020-04 was issued to provide optional guidance for a limited period of time to ease the potential burden in accounting for (or recognizing the effects of) reference rate reform on financial reporting. Generally, the guidance is to be applied as of any date from the beginning of an interim period that includes or is subsequent to March 12,
2020, or prospectively from a date within an interim period that includes or is subsequent to March 12, 2020, up to the date that the financial statements are available to be issued. ASU 2020-04 and ASU 2021-01 are effective for all entities through December 31, 2022. The Company has not elected to use the optional guidance and continues to evaluate the options provided by ASU 2020-04 and ASU 2021-01 and the impact the new standard will have on its financial statements and related disclosure.
Revenue Recognition
The Company’s revenues are primarily derived from its interests in the sale of oil and natural gas production. The Company recognizes revenue from its interests in the sales of crude oil and natural gas in the period that its performance obligations are satisfied. Performance obligations are satisfied when the customer obtains control of the product, when the Company has no further obligations to perform related to the sale, when the transaction price has been determined and when collectability is probable. The sales of oil and natural gas are made under contracts which the third-party operators of the wells have negotiated with customers, which typically include variable consideration that is based on pricing tied to local indices and volumes delivered in the current month. The Company receives payment from the sale of oil and natural gas production from one to three months after delivery. At the end of each month when the performance obligation is satisfied, the variable consideration can be reasonably estimated and amounts due from customers are accrued in trade receivables, net in the balance sheets. Variances between the Company’s estimated revenue and actual payments are recorded in the month the payment is received, however, differences have been and are insignificant. Accordingly, the variable consideration is not constrained.
The Company does not disclose the value of unsatisfied performance obligations under its contracts with customers as it applies the practical exemption in accordance with FASB ASC Topic 606, Revenue from Contracts with Customers (“ASC 606”). The exemption, as described in ASC 606-10-50-14(a), applies to variable consideration that is recognized as control of the product is transferred to the customer. Since each unit of product represents a separate performance obligation, future volumes are wholly unsatisfied, and disclosure of the transaction price allocated to remaining performance obligations is not required.
The Company’s oil is typically sold at delivery points under contracts terms that are common in our industry. The Company’s natural gas produced is delivered by the well operators to various purchasers at agreed upon delivery points under a limited number of contract types that are also common in our industry. Regardless of the contract type, the terms of these contracts compensate the well operators for the value of the oil and natural gas at specified prices, and then the well operators will remit payment to the Company for its share in the value of the oil and natural gas sold.
A wellhead imbalance liability equal to the Company’s share is recorded to the extent that the Company’s well operators have sold volumes in excess of its share of remaining reserves in an underlying property. However, for the three months ended March 31, 2022 and 2021, the Company’s natural gas production was in balance, meaning its cumulative portion of natural gas production taken and sold from wells in which it has an interest equaled its entitled interest in natural gas production from those wells.
The Company’s disaggregated revenue has two primary sources: oil sales, and natural gas and NGL sales. Substantially all of the Company’s oil and natural gas sales come from three geographic areas in the United States: the Williston Basin (North Dakota and Montana), the Appalachian Basin (Pennsylvania), and the Permian Basin (New Mexico and Texas). The following tables present the disaggregation of the Company’s oil revenues and natural gas and NGL revenues by basin for the three months ended March 31, 2022 and 2021.
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| | Three Months Ended
March 31, 2022 | | Three Months Ended
March 31, 2021 |
| (In thousands) | Williston | | Permian | | Appalachian | | Total | | Williston | | Permian | | Appalachian | | Total |
| Oil Revenues | $ | 268,010 | | | $ | 80,816 | | | $ | — | | | $ | 348,826 | | | $ | 133,840 | | | $ | 1,807 | | | $ | — | | | $ | 135,647 | |
| Natural Gas and NGL Revenues | 62,620 | | | 18,214 | | | 26,797 | | | 107,632 | | | 21,569 | | | 116 | | | — | | | 21,685 | |
| Total | $ | 330,631 | | | $ | 99,030 | | | $ | 26,797 | | | $ | 456,458 | | | $ | 155,410 | | | $ | 1,922 | | | $ | — | | | $ | 157,332 | |
Concentrations of Market, Credit Risk and Other Risks
The future results of the Company’s crude oil and natural gas operations will be affected by the market prices of crude oil and natural gas. The availability of a ready market for crude oil and natural gas products in the future will depend on numerous factors beyond the control of the Company, including weather, imports, marketing of competitive fuels, proximity and capacity of crude oil and natural gas pipelines and other transportation facilities, any oversupply or undersupply of crude oil, natural gas and liquid products, economic disruptions resulting from the COVID-19 pandemic, the regulatory environment, the economic environment, and other regional and political events, none of which can be predicted with certainty.
The Company operates in the exploration, development and production sector of the crude oil and natural gas industry. The Company’s receivables include amounts due, indirectly via the third-party operators of the wells, from purchasers of its crude oil and natural gas production. While certain of these customers, as well as third-party operators of the wells, are affected by periodic downturns in the economy in general or in their specific segment of the crude oil or natural gas industry, the Company believes that its level of credit-related losses due to such economic fluctuations have been immaterial.
As a non-operator, 100% of the Company’s wells are operated by third-party operating partners. As a result, the Company is highly dependent on the success of these third-party operators. If they are not successful in the development, exploitation, production and exploration activities relating to the Company’s leasehold interests, or are unable or unwilling to perform, the Company’s financial condition and results of operation could be adversely affected. These risks are heightened in a low commodity price environment, which may present significant challenges to these third-party operators. The Company’s third-party operators will make decisions in connection with their operations that may not be in the Company’s best interests, and the Company may have little or no ability to exercise influence over the operational decisions of its third-party operators. For the three months ended March 31, 2022, the Company’s top four operators made up 43% of total oil and natural gas sales, compared to 55% for the three months ended March 31, 2021.
The Company faces concentration risk due to the fact that a substantial majority of its oil and natural gas revenue is sourced from North Dakota. Recent acquisitions have diversified the Company’s portfolio to include New Mexico, Pennsylvania and Texas. But the Company remains disproportionately exposed to risks affecting a limited number of geographic areas of operations.
The Company manages and controls market and counterparty credit risk. In the normal course of business, collateral is not required for financial instruments with credit risk. Financial instruments which potentially subject the Company to credit risk consist principally of temporary cash balances and derivative financial instruments. The Company maintains cash and cash equivalents in bank deposit accounts which, at times, may exceed the federally insured limits. The Company has not experienced any significant losses from such investments. The Company attempts to limit the amount of credit exposure to any one financial institution or company. The Company believes the credit quality of its counterparties is generally high. In the normal course of business, letters of credit or parent guarantees may be required for counterparties which management perceives to have a higher credit risk.
Net Income (Loss) Per Common Share
Basic earnings per share (“EPS”) are computed by dividing net income (loss) attributable to common stockholders (the numerator) by the weighted average number of common shares outstanding for the period (the denominator). Diluted EPS is computed by dividing net income (loss) attributable to common stockholders by the weighted average number of common shares and potential common shares outstanding (if dilutive) during each period. Potential common shares include shares issuable upon exercise of stock options or warrants and vesting of restricted stock awards, and shares issuable upon conversion of the Series A Preferred Stock (see Note 5). The number of potential common shares outstanding are calculated using the treasury stock or if-converted method. For the three months ended March 31, 2022 the Company repurchased certain preferred stock at a premium over the carrying value, which increased the net loss attributable to common shareholders.
The reconciliation of the denominators used to calculate basic EPS and diluted EPS for the three months ended March 31, 2022 and 2021 are as follows:
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| | Three Months Ended
March 31, | | |
| (In thousands, except share and per share data) | 2022 | | 2021 | | | | |
| Net Loss | $ | (206,560) | | | $ | (90,357) | | | | | |
| Less: Cumulative Dividends on Preferred Stock | (3,016) | | | (3,830) | | | | | |
| Less: Premium on Repurchase of Preferred Stock | (14,957) | | | — | | | | | |
| Net Loss Attributable to Common Stockholders | (224,533) | | | $ | (94,188) | | | | | |
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| Weighted Average Common Shares Outstanding: | | | | | | | |
| Weighted Average Common Shares Outstanding – Basic | 76,922,543 | | | 54,538,099 | | | | | |
| Plus: Dilutive Effect of Stock Options, Restricted Stock and Preferred Shares | — | | | — | | | | | |
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| Weighted Average Common Shares Outstanding – Diluted | 76,922,543 | | | 54,538,099 | | | | | |
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| Net Income (Loss) per Common Share: | | | | | | | |
| Basic | $ | (2.92) | | | $ | (1.73) | | | | | |
| Diluted | $ | (2.92) | | | $ | (1.73) | | | | | |
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| Shares Excluded from EPS Due to Anti-Dilutive Effect: | | | | | | | |
| Restricted Stock | 239,033 | | | 120,039 | | | | | |
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Supplemental Cash Flow Information
The following reflects the Company’s supplemental cash flow information:
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| Three Months Ended
March 31, |
| (In thousands) | 2022 | | 2021 |
| Supplemental Cash Items: | | | |
| Cash Paid During the Period for Interest, Net of Amount Capitalized | $ | 29,147 | | | $ | 12,525 | |
| Cash Paid During the Period for Income Taxes | 65 | | | — | |
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| Non-cash Investing Activities: | | | |
| Oil and Natural Gas Properties Included in Accounts Payable and Accrued Liabilities | 139,799 | | | 91,072 | |
| Capitalized Asset Retirement Obligations | 1,586 | | | 205 | |
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| Compensation Capitalized on Oil and Gas Properties | 53 | | | 147 | |
| Acquisition of Property Financed in Part by Issuance of Warrants | 17,870 | | | — | |
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| Non-cash Financing Activities: | | | |
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| Issuance of Common Stock Warrants - Acquisitions of Oil and Natural Gas Properties | 17,870 | | | — | |
| Common Stock Dividends Declared | 10,815 | | | — | |
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NOTE 3 CRUDE OIL AND NATURAL GAS PROPERTIES
The Company follows the full cost method of accounting for crude oil and natural gas operations whereby all costs related to the exploration and development of crude oil and natural gas properties are capitalized into a single cost center (“full cost pool”). Such costs include land acquisition costs, geological and geophysical expenses, carrying charges on non-producing properties, costs of drilling directly related to acquisition, and exploration activities. Internal costs that are capitalized are directly attributable to acquisition, exploration and development activities and do not include costs related to production,
general corporate overhead or similar activities. Costs associated with production and general corporate activities are expensed in the period incurred.
Under the full cost method of accounting, the Company is required to perform a ceiling test each quarter. The test determines a limit, or ceiling, on the book value of the proved oil and gas properties. Net capitalized costs are limited to the lower of unamortized cost net of deferred income taxes, or the cost center ceiling. The Company did not have any impairment of its proved oil and gas properties for the three months ended March 31, 2022 and 2021, respectively.
The book value of the Company’s crude oil and natural gas properties consists of all acquisition costs (including cash expenditures and the value of stock consideration), drilling costs and other associated capitalized costs. Acquisitions are accounted for as purchases and, accordingly, the results of operations are included in the accompanying condensed statements of operations from the closing date of the acquisition. Acquired assets and liabilities assumed are recorded based on their estimated fair value at the time of the acquisition.
2022 Acquisitions
In addition to the closing of the Veritas Acquisition (defined below), the Company acquired oil and natural gas properties, through a number of independent transactions, for a total of $11.6 million during the three months ended March 31, 2022.
Veritas Acquisition
On January 27, 2022, the Company completed the acquisition of certain non-operated oil and gas properties, interests and related assets in the Permian Basin from Veritas TM Resources, LLC, Veritas Permian Resources, LLC, Veritas Lone Star Resources, LLC, and Veritas MOC Resources, LLC, effective as of October 1, 2021 (the “Veritas Acquisition”).
The total estimated consideration included $390.9 million in cash (which includes a $40.7 million cash deposit previously paid by the Company upon the execution of the purchase agreement and customary purchase price adjustments) and warrants to purchase 1,939,998 shares of the Company’s common stock, par value $0.001 per share, at an exercise price equal to $28.30 per share. The warrants had a total estimated fair value of $17.9 million. The Veritas Acquisition was accounted for using the acquisition method under ASC Topic 805, Business Combinations, which requires all assets acquired and liabilities assumed to be recorded at fair value at the acquisition date.
The results of operations from the acquisition from the January 27, 2022 closing date through March 31, 2022, represented approximately $45.4 million of revenue and $31.7 million of income from operations. The Company incurred $6.8 million of transaction costs in connection with the acquisition, which are included in general and administrative expense in the condensed statement of operations. The following table reflects the fair values of the net assets and liabilities as of the date of acquisition:
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| | (In thousands) |
| Fair value of net assets: | | |
| Proved oil and natural gas properties | | $ | 382,536 | |
| Unproved oil and natural gas properties | | 26,262 | |
| Asset retirement cost | | 1,219 | |
| Total assets acquired | | 410,017 | |
| Asset retirement obligations | | (1,219) | |
| Net assets acquired | | $ | 408,798 | |
| | |
| Fair value of consideration paid for net assets: | | |
| Cash consideration | | $ | 390,928 | |
Issuance of Common Stock Warrants (1.9 million shares at $28.30 per share) | | 17,870 | |
| Total fair value of consideration transferred | | $ | 408,798 | |
2021 Acquisitions
CM Resources Acquisition
On August 2, 2021, the Company completed the acquisition of certain non-operated oil and gas properties from CM Resources, LLC, effective as of April 1, 2021 (the “CM Resources Acquisition”), for total estimated consideration of $101.7 million in cash. At closing, the acquired assets included approximately 6.5 net producing wells and 3.0 net wells in progress, as well as approximately 2,285 net acres in the Permian Basin. The CM Resources Acquisition was accounted for using the acquisition method under ASC Topic 805, Business Combinations, which requires all assets acquired and liabilities assumed to be recorded at fair value at the acquisition date.
The following table reflects the fair values of the net assets and liabilities as of the date of acquisition:
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| | (In thousands) |
| Fair value of net assets: | | |
| Proved oil and natural gas properties | | $ | 101,858 | |
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| Total assets acquired | | 101,858 | |
| Asset retirement obligations | | (179) | |
| Net assets acquired | | $ | 101,679 | |
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| Fair value of consideration paid for net assets: | | |
| Cash consideration | | $ | 101,679 | |
| Total fair value of consideration transferred | | $ | 101,679 | |
Reliance Acquisition
On April 1, 2021, the Company completed the acquisition of certain oil and gas properties, interests and related net assets from Reliance Marcellus, LLC (the “Reliance Acquisition”), effective July 1, 2020. At closing, the acquired assets included approximately 95.3 net producing wells and 24.9 net wells in progress, as well as approximately 61,712 net acres in the Appalachian Basin in Pennsylvania. In addition, the Company assumed minimum volume commitment contracts. The Reliance Acquisition was completed pursuant to the purchase and sale agreement between the Company and Reliance Marcellus, LLC (“Reliance”), dated February 3, 2021.
The total consideration paid by the Company was $140.6 million, consisting of (i) warrants to purchase 3,250,000 shares of the Company’s common stock with an exercise price equal to $14.00 per share and a total estimated fair value of $30.5 million and (ii) cash purchase consideration of $110.1 million. The Reliance Acquisition was accounted for using the acquisition method under ASC Topic 805, Business Combinations, which requires all assets acquired and liabilities assumed to be recorded at fair value at the acquisition date.
The following table reflects the fair values of the net assets and liabilities as of the date of acquisition:
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| | (In thousands) |
| Fair value of net assets: | | |
| Proved oil and natural gas properties | | $ | 139,644 | |
| Unproved oil and natural gas properties | | 10,912 | |
| Total assets acquired | | 150,556 | |
| Asset retirement obligations | | (6,549) | |
| Minimum volume commitment liability | | (3,443) | |
| Net assets acquired | | $ | 140,564 | |
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| Fair value of consideration paid for net assets: | | |
| Cash consideration | | $ | 110,052 | |
Issuance of Common Stock Warrants (3.2 million shares at $14.00 per share) | | 30,512 | |
| Total fair value of consideration transferred | | $ | 140,564 | |
Pro Forma Information
The following summarized unaudited pro forma condensed statement of operations information for the three months ended March 31, 2022 and 2021 assumes that each of the Veritas Acquisition, CM Resources Acquisition and Reliance Acquisition occurred as of January 1, 2021. The Company prepared the following summarized unaudited pro forma financial results for comparative purposes only. The summarized unaudited pro forma information may not be indicative of the results that would have occurred had the Company completed the acquisitions as of January 1, 2021, or that would be attained in the future.
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| | Three Months Ended | | Three Months Ended | | | | |
| (In thousands) | | March 31, 2022 | | March 31, 2021 | | | | |
| Total Revenues | | $ | (13,101) | | | $ | 53,086 | | | | | |
| Net Income (Loss) | | (193,227) | | | (105,212) | | | | | |
Comstock Acquisition
On November 16, 2021, the Company completed the acquisition of certain oil and gas properties, interests and related assets from Comstock Oil & Gas, LLC (“Comstock”), effective as of October 1, 2021 (the “Comstock Acquisition”), for total estimated consideration of $150.5 million in cash. The acquisition was accounted for as an asset acquisition under ASC Topic 805, Business Combinations, and the acquired assets consisted of approximately 65.9 net producing wells located primarily in Williams, McKenzie, Mountrail and Dunn Counties, North Dakota. Of the purchase price, 100% was allocated to proved properties and the Company recognized approximately $1.7 million of asset retirement obligations. The Comstock Acquisition was completed pursuant to the purchase and sale agreement between the Company and Comstock, dated October 6, 2021.
Unproved Properties
All properties that are not classified as proved properties are considered unproved properties and, thus, the costs associated with such properties are not subject to depletion. Once a property is classified as proved, all associated acreage and drilling costs are subject to depletion.
The Company historically has acquired unproved properties by purchasing individual or small groups of leases directly from mineral owners, landmen, or lease brokers, which leases historically have not been subject to specified drilling projects, and by purchasing lease packages in identified project areas controlled by specific operators. The Company generally participates in drilling activities on a heads up basis by electing whether to participate in each well on a well-by-well basis at the time wells are proposed for drilling.
The Company believes that the majority of its unproved costs will become subject to depletion within the next five years by proving up reserves relating to the acreage through exploration and development activities, by impairing the acreage that will expire before the Company can explore or develop it further or by determining that further exploration and development
activity will not occur. The timing by which all other properties will become subject to depletion will be dependent upon the timing of future drilling activities and delineation of its reserves.
Capitalized costs associated with impaired unproved properties, which includes leases that have expired or have been deemed uneconomic, and capitalized costs related to properties having proved reserves, plus the estimated future development costs and asset retirement costs, are depleted and amortized on the unit-of-production method. Under this method, depletion is calculated at the end of each period by multiplying total production for the period by a depletion rate. The depletion rate is determined by dividing the total unamortized cost base plus future development costs by net equivalent proved reserves at the beginning of the period. The costs of unproved properties are withheld from the depletion base until such time as they are either developed or abandoned. When proved reserves are assigned or the property is considered to be impaired, the cost of the property or the amount of the impairment is added to costs subject to depletion and full cost ceiling calculations. For the three months ended March 31, 2022 and 2021, unproved properties of $1.3 million and $0.2 million, respectively, were impaired.
NOTE 4 LONG-TERM DEBT
The Company’s long-term debt consists of the following:
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| (In thousands) | | March 31, 2022 | | December 31, 2021 |
| Revolving Credit Facility | | $ | 371,000 | | | $ | 55,000 | |
| Unsecured Notes due 2028 | | 750,000 | | | 750,000 | |
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| Total principal | | 1,121,000 | | | 805,000 | |
| Unamortized debt premiums | | 12,686 | | | 13,217 | |
Unamortized debt issuance costs(1) | | (14,186) | | | (14,780) | |
| Total debt | | $ | 1,119,500 | | | $ | 803,437 | |
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(1)Debt issuance costs related to the Company’s revolving credit facility of $5.2 million and $5.7 million as of March 31, 2022 and December 31, 2021, respectively, are recorded in “Other Noncurrent Assets, Net” on the balance sheets.
Revolving Credit Facility
On November 22, 2019, the Company entered into a Second Amended and Restated Credit Agreement (the “Revolving Credit Facility”) with Wells Fargo Bank, National Association, as administrative agent (“Agent”), and the lenders from time to time party thereto, which amended and restated the Company’s prior revolving credit facility that was entered into on October 5, 2018. The Revolving Credit Facility is scheduled to mature on November 22, 2024.
The Revolving Credit Facility is subject to a borrowing base with maximum loan value to be assigned to the proved reserves attributable to the Company and its subsidiaries’ (if any) oil and gas properties. As of March 31, 2022, the borrowing base was $850.0 million and the aggregate elected commitment amount was $750.0 million. In order to borrow in excess of the elected commitment amount, the Company would need to find new or existing lenders willing to provide the additional commitments. The borrowing base will be redetermined semiannually on or around April 1st and October 1st, with one interim “wildcard” redetermination available between scheduled redeterminations. The first scheduled redetermination each year is based on a January 1st engineering report audited by a third party (reasonably acceptable by the Agent). The aggregate elected commitment amount may be increased semi-annually upon each scheduled borrowing base redetermination, and up to two times between each scheduled redetermination.
At the Company’s option, borrowings under the Revolving Credit Facility shall bear interest at the base rate or LIBOR plus an applicable margin. Base rate loans bear interest at a rate per annum equal to the greatest of: (i) the Agents’s prime rate; (ii) the federal funds effective rate plus 50 basis points; and (iii) the adjusted LIBOR rate for a one-month interest period plus 100 basis points. The applicable margin for base rate loans ranges from 100 to 200 basis points, and the applicable margin for LIBOR loans ranges from 200 to 300 basis points, in each case depending on the percentage of the borrowing base utilized.
The Revolving Credit Facility contains negative covenants that limit the Company’s ability, among other things, to pay dividends, incur additional indebtedness, maintain excess cash liquidity, sell assets, enter into certain derivatives contracts, change the nature of its business or operations, merge, consolidate, or make certain types of investments. In addition, the Revolving Credit Facility requires that the Company comply with the following financial covenants: (i) as of the date of
determination, the ratio of total net debt to EBITDAX (as defined in the Revolving Credit Facility) shall be no more than 3.50 to 1.00, measured on a pro forma rolling four quarter basis, and (ii) the current ratio (defined as consolidated current assets including unused amounts of the total commitments, but excluding non-cash assets under FASB ASC Topic 815, Derivatives and Hedging (“ASC 815”), divided by consolidated current liabilities excluding current non-cash obligations under ASC 815 and current maturities under the Revolving Credit Facility) shall not be less than 1.00 to 1.00. The Company is in compliance with these financial covenants as of March 31, 2022.
The Company’s obligations under the Revolving Credit Facility may be accelerated, subject to customary grace and cure periods, upon the occurrence of certain Events of Default (as defined in the Revolving Credit Facility). Such Events of Default include customary events for a financing agreement of this type, including, without limitation, payment defaults, the inaccuracy of representations and warranties, defaults in the performance of affirmative or negative covenants, defaults on other indebtedness of us or the Company’s subsidiaries, defaults related to judgments and the occurrence of a Change in Control (as defined in the Revolving Credit Facility).
The Company’s obligations under the Revolving Credit Facility are secured by mortgages on not less than 90% of the value of proved reserves associated with the oil and gas properties included in the determination of the borrowing base. Additionally, the Company entered into a Guaranty and Collateral Agreement in favor of the Agent for the secured parties, pursuant to which the Company’s obligations under the Revolving Credit Facility are secured by a first priority security interest in substantially all of the Company’s assets.
Unsecured Notes due 2028
On February 18, 2021, the Company and Wilmington Trust, National Association, as trustee, entered into an indenture (the “2028 Notes Indenture”), pursuant to which the Company issued $550.0 million in aggregate principal amount of 8.125% senior unsecured notes due 2028 (the “Original 2028 Notes”). On November 15, 2021, the Company issued an additional $200.0 million aggregate principal amount of 8.125% senior notes due 2028 (the “Additional 2028 Notes” and, together with the Original 2028 Notes, the “2028 Notes”). The proceeds of the 2028 Notes were used primarily to refinance existing indebtedness, and for general corporate purposes. The 2028 Notes will mature on March 1, 2028. Interest on the 2028 Notes is payable semi-annually in arrears on each March 1 and September 1, commencing September 1, 2021, to holders of record on the February 15 and August 15 immediately preceding the related interest payment date, at a rate of 8.125% per annum.
Prior to March 1, 2024, the Company may redeem all or a part of the 2028 Notes at a redemption price equal to 100% of the principal amount of the 2028 Notes redeemed, plus an applicable make-whole premium and accrued and unpaid interest to the redemption date. On or after March 1, 2024, the Company may redeem all or a part of the 2028 Notes at redemption prices (expressed as percentages of principal amount) equal to 104.063% for the twelve-month period beginning on March 1, 2024, 102.031% for the twelve-month period beginning on March 1, 2025, and 100% beginning on March 1, 2026, plus accrued and unpaid interest to the redemption date.
The 2028 Notes Indenture contains covenants that, among other things, limit the Company’s ability and the ability of its restricted subsidiaries, if any, to: (i) incur or guarantee additional indebtedness or issue certain types of preferred stock; (ii) pay dividends or distributions in respect of equity interests or redeem, repurchase or retire equity securities or subordinated indebtedness; (iii) transfer or sell certain assets; (iv) make investments; (v) create liens to secure indebtedness; (vi) enter into agreements that restrict dividends or other payments from any non-guarantor subsidiary to the Company; (vii) consolidate with or merge with or into, or sell substantially all of the Company’s assets to, another person; (viii) enter into transactions with affiliates; and (ix) create unrestricted subsidiaries. These covenants are subject to a number of important exceptions and qualifications, and many of these covenants will be terminated if the 2028 Notes achieve an investment grade rating from either Moody’s Investors Services, Inc. or S&P Global Ratings.
The 2028 Notes Indenture contains customary events of default, including, but not limited to: (i) default for 30 days in the payment when due of interest on the 2028 Notes; (ii) default in payment when due of the principal of, or premium, if any, on the 2028 Notes; (iii) failure by the Company or certain of its subsidiaries, if any, to comply with certain of their respective obligations, covenants or agreements contained in the 2028 Notes or the 2028 Notes Indenture, subject to certain notice and grace periods; (iv) failure by the Company or any of its restricted subsidiaries to pay indebtedness within any applicable grace period or the acceleration of any such indebtedness if the total amount of such indebtedness exceeds $35.0 million; (v) failure by the Company or any of its restricted subsidiaries that is a Significant Subsidiary (as defined in the 2028 Notes Indenture) to pay final non-appealable judgments aggregating in excess of $35.0 million, which judgments are not paid, discharged or stayed for a period of 60 days; (vi) except as permitted by the 2028 Notes Indenture, any guarantee of the 2028 Notes is held in any judicial proceeding to be unenforceable or invalid, or ceases for any reason to be in full force and effect, or is denied or disaffirmed by a Guarantor (as defined in the 2028 Notes Indenture); and (vii) certain events of bankruptcy or insolvency
described in the 2028 Notes Indenture with respect to the Company and its restricted subsidiaries that are Significant Subsidiaries.
NOTE 5 COMMON AND PREFERRED STOCK
Common Stock
The Company is authorized to issue up to 135,000,000 shares of common stock, par value $0.001 per share. As of March 31, 2022, the Company had 77,266,137 shares of common stock issued and outstanding.
In January 2022, the Company’s Board of Directors declared a cash dividend on the Company’s common stock in the amount of $0.14 per share. The dividend was paid on April 29, 2022 to stockholders of record as of the close of business on March 30, 2022.
Preferred Stock
The Company is authorized to issue up to 5,000,000 shares of preferred stock, par value $0.001 per share, with such designations, voting and other rights and preferences as may be determined from time to time by the Board of Directors. As of March 31, 2022, the Company had 1,856,061 shares of preferred stock issued and outstanding, all of which were shares of 6.500% Series A Perpetual Cumulative Convertible Preferred Stock (the “Series A Preferred Stock”).
The terms of the Series A Preferred Stock are set forth in the Certificate of Designations for the Series A Preferred Stock (the “Certificate of Designations”), as originally filed with the Delaware Secretary of State on November 22, 2019, and as amended thereafter. The Series A Preferred Stock ranks senior to the Company’s common stock with respect to the payment of dividends and distribution of assets upon liquidation, dissolution or winding-up. Holders of the Series A Preferred Stock are entitled to receive, when, as and if declared by the board of directors of the Company, cumulative dividends in cash, at a rate of 6.500% per annum on the sum of (i) the $100 liquidation preference per share of Series A Preferred Stock (the “Liquidation Preference”) and (ii) all accumulated and unpaid dividends (if any), payable semi-annually in arrears on May 15 and November 15 of each year, commencing on May 15, 2020. As of March 31, 2022, the Company was current in the payment of dividends with $4.6 million of undeclared accumulated dividends remaining on the Series A Preferred Stock.
The Series A Preferred Stock is convertible at the holders’ option (an “Optional Conversion”) into common stock at a conversion rate set forth in the Certificate of Designations, subject to customary adjustments as provided for therein. As of March 31, 2022, the conversion rate was 4.4214 shares of common stock for each share of Series A Preferred Stock (which is equivalent to a conversion price of $22.6173. Holders may be entitled to additional shares of common stock or cash in connection with a conversion that occurs in connection with a Fundamental Change (as defined in the Certificate of Designations). The Series A Preferred Stock is convertible at the Company’s option (a “Mandatory Conversion”) if the closing sale price of the Company’s common stock equals or exceeds 145% of the conversion price for at least 20 trading days (whether or not consecutive) in a period of 30 consecutive trading days. A Mandatory Conversion would also entitle the holder to a cash payment equal to eight semi-annual dividend payments, less an amount equal to all cash dividend payments made in respect of such holder’s shares of Series A Preferred Stock prior to such Mandatory Conversion. The occurrence of any Optional Conversion or Mandatory Conversion is subject to various terms and limitations set forth in the Certificate of Designations. The Certificate of Designations also sets forth additional information relating to the payment of dividends, voting, conversion rights, consent rights, liquidation rights, the ranking of the Series A Preferred Stock in comparison with the Company’s other securities, and other matters.
2022 Activity
Common Stock
During the three months ended March 31, 2022, 89,620 shares of common stock were surrendered by certain employees of the Company to cover tax obligations in connection with their restricted stock awards. The total value of these shares was approximately $2.2 million, which is based on the market prices on the dates the shares were surrendered.
Preferred Stock
During the three months ended March 31, 2022, the Company repurchased 362,671 shares of Series A Preferred Stock in a number of independent transactions for an aggregate of $50.2 million in cash.
Stock Repurchase Program
In May 2011, the Company’s board of directors approved a stock repurchase program to acquire up to $150.0 million of the Company’s outstanding common stock. The stock repurchase program allows the Company to repurchase its shares from time to time in the open market, block transactions and in negotiated transactions.
During the three months ended March 31, 2022 and March 31, 2021, respectively, the Company did not repurchase shares of its common stock under the stock repurchase program. The Company’s accounting policy upon the repurchase of shares is to deduct its par value from common stock and to reflect any excess of cost over par value as a deduction from Additional Paid-in Capital. All repurchased shares are now included in the Company’s pool of authorized but unissued shares.
NOTE 6 STOCK-BASED COMPENSATION AND WARRANTS
The Company maintains its 2018 Equity Incentive Plan (the “2018 Plan”), which replaced the Company’s prior 2013 Incentive Plan (the “2013 Plan”), for making equity-based awards to employees, directors and other eligible persons. No future awards will be made under the 2013 Plan. The 2013 Plan continues to govern awards that were made thereunder, which remain in effect pursuant to their terms. As of March 31, 2022, there were 568,918 shares available for future awards under the 2018 Plan.
The Company recognizes the fair value of stock-based compensation awards expected to vest over the requisite service period as a charge against earnings, net of amounts capitalized. The Company’s stock-based compensation awards are accounted for as equity instruments and are included in the “General and administrative expenses” line item in the unaudited statements of operations. The Company capitalizes a portion of stock-based compensation for employees who are directly involved in the acquisition of oil and natural gas properties into the full cost pool. Capitalized stock-based compensation is included in the “Oil and natural gas properties” line item in the unaudited balance sheets.
The 2018 Plan and 2013 Plan award types are summarized as follows:
Restricted Stock Awards
The Company issues restricted stock awards (“RSAs”) subject to various vesting conditions as compensation to executive officers, employees and directors of the Company. RSAs issued to employees and executive officers generally vest over three years, provided that any performance and/or market conditions are also met. RSAs issued to directors generally vest over one year, provided that any performance and/or market conditions are also met. For RSAs subject to service and/or performance vesting conditions, the grant-date fair value is established based on the closing price of the Company’s common stock on such date. Stock-based compensation expense for awards subject to only service conditions is recognized on a straight-line basis over the service period. Stock-based compensation expense for awards with both service and performance conditions is recognized on a graded basis only if it is probable that the performance condition will be achieved. The Company accounts for forfeitures of awards granted under these plans as they occur in determining stock-based compensation expense.
For awards subject to a market condition, the grant-date fair value is estimated using a Monte Carlo valuation model. The Company recognizes stock-based compensation expense for awards subject to market-based vesting conditions regardless of whether it becomes probable that these conditions will be achieved or not, and stock-based compensation expense for any such awards is not reversed if vesting does not actually occur. The Monte Carlo model is based on random projections of stock price paths and must be repeated numerous times to achieve a probabilistic assessment. Expected volatility is calculated based on the historical volatility and implied volatility of the Company’s common stock, and the risk-free interest rate is based on U.S. Treasury yield curve rates with maturities consistent with the three-year vesting period.
The following table reflects the outstanding RSAs and activity related thereto for the three months ended March 31, 2022:
| | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | |
| Service-based Awards | | | | | | Service, Performance, and Market-based Awards |
| Number of Shares | | Weighted-average Grant Date Fair Value | | | | | | | | | | Number of Shares | | Weighted-average Grant Date Fair Value |
| Outstanding at December 31, 2021 | 420,122 | | | $ | 13.68 | | | | | | | | | | | 18,600 | | | $ | 9.80 | |
| Shares granted | 15,651 | | | 28.19 | | | | | | | | | | | — | | | — | |
| Shares forfeited | (1,815) | | | 11.64 | | | | | | | | | | | — | | | — | |
| Shares vested | (184,403) | | | 14.38 | | | | | | | | | | | (18,600) | | | 9.80 | |
| Outstanding at March 31, 2022 | 249,555 | | | $ | 14.08 | | | | | | | | | | | — | | | $ | — | |
At March 31, 2022, there was $3.4 million of total unrecognized compensation expense related to unvested RSAs. That cost is expected to be recognized over a weighted average period of 0.89 years. For the three months ended March 31, 2022 and 2021, the total fair value of the Company’s restricted stock awards vested was $4.6 million and $1.8 million, respectively.
Warrants
In April 2021, the Company issued common stock warrants as a part of the Reliance Acquisition as purchase consideration. The common stock warrants issued grant holders the right to purchase 3,250,000 shares of the Company’s common stock at an exercise price equal to $14.00 per share (subject to certain anti-dilution adjustments), have a total fair value of $30.5 million, and are generally exercisable from June 30, 2021 until April 1, 2028. The fair value of the common stock warrants consideration was determined by utilizing an Option Pricing Model, which used the market value of the Company’s common stock based on the issue date, an exercise price of $14.00, an implied volatility of 80% and a risk-free rate of 1.34%.
In January 2022, the Company issued common stock warrants as a part of the Veritas Acquisition as purchase consideration. The common stock warrants issued grant holders the right to purchase 1,939,998 shares of the Company’s common stock at an exercise price equal to $28.30 per share (subject to certain anti-dilution adjustments), have a total fair value of $17.9 million, and are generally exercisable from April 27, 2022 until January 27, 2029. The fair value of the common stock warrants consideration was determined by utilizing an Option Pricing Model, which used the market value of the Company’s common stock based on the issue date, an exercise price of $28.30, an implied volatility of 60%, a risk-free rate of 2.14% and an implied dividend yield of 3.00%.
The following table reflects the outstanding warrants and activity related thereto for the three months ended March 31, 2022:
| | | | | | | | | | | | | | | | | | | | | | | |
| Reliance | | Veritas |
| Warrants | | Weighted-average Exercise Price | | Warrants | | Weighted-average Exercise Price |
| Outstanding at December 31, 2021 | 3,276,582 | | | $ | 13.89 | | | — | | | $ | — | |
| Issued | — | | | — | | | 1,939,998 | | | 28.30 | |
| Anti-Dilution Adjustments for Common Stock Dividends | 17,510 | | | 13.81 | | | 10,367 | | | 28.15 | |
| Exercised | — | | | — | | | — | | | — | |
| Expired | — | | | — | | | — | | | — | |
| Outstanding at March 31, 2022 | 3,294,092 | | | $ | 13.81 | | | 1,950,365 | | | $ | 28.15 | |
NOTE 7 RELATED PARTY TRANSACTIONS
Preferred Stock Repurchase
During February 2022, we entered into and closed three separate stock repurchase agreements pursuant to which we repurchased an aggregate of 71,894 shares of the Company’s 6.500% Series A Perpetual Cumulative Convertible Preferred Stock, par value $0.001 per share (“Preferred Stock”), on identical financial terms from each party for an aggregate purchase price of approximately $9.5 million in cash. Of the total amount, 21,894 shares were repurchased from affiliates of TRT Holdings, Inc. (the “TRT Parties”) for $2.9 million in cash. Two of our directors, Mr. Frantz and Mr. Popejoy, are employed by TRT Holdings, Inc., which together with its affiliates beneficially owned more than 10% of our outstanding common stock at the time of the transactions described in this paragraph.
The Company’s Audit Committee is responsible for approving all transactions involving related parties.
NOTE 8 COMMITMENTS & CONTINGENCIES
Litigation
The Company is engaged in various proceedings incidental to the normal course of business. Due to their nature, such legal proceedings involve inherent uncertainties, including but not limited to court rulings, negotiations between affected parties and governmental intervention. Based upon the information available to the Company and discussions with legal counsel, it is the Company’s opinion that the outcome of the various legal actions and claims that are incidental to its business will not have a material impact on the Company’s financial position, results of operations or cash flows. Such matters, however, are subject to many uncertainties, and the outcome of any matter is not predictable with assurance.
NOTE 9 INCOME TAXES
Income tax expense during interim periods is based on applying an estimated annual effective income tax rate to year-to-date income, plus any significant unusual or infrequently occurring items which are recorded in the interim period. The provision for income taxes for the three months ended March 31, 2022 and 2021 differs from the amount that would be provided by applying the statutory U.S. federal income tax rate of 21% to pre-tax income primarily due to the recognition of a full valuation allowance during both the three months ended March 31, 2022 and 2021, respectively.
In assessing the realizability of deferred tax assets (“DTAs”), management considers whether it is more likely than not that some portion, or all, of the Company’s DTAs will not be realized. In making such determination, the Company considers all available positive and negative evidence, including (i) its earnings history, (ii) its ability to recover net operating loss carry-forwards, (iii) the projected future income and results of operations, and (iv) its ability to use tax planning strategies. If the Company concludes that it is more likely than not that some portion, or all, of its DTAs will not be realized, the tax asset is reduced by a valuation allowance. The Company assesses the appropriateness of its valuation allowance on a quarterly basis. At March 31, 2022 and December 31, 2021, the Company maintains a full valuation allowance on its net DTAs.
NOTE 10 FAIR VALUE
Fair value is defined as the exchange price that would be received for an asset or paid to transfer a liability (an exit price) in the principal or most advantageous market for the asset or liability in an orderly transaction between market participants on the measurement date. Valuation techniques used to measure fair value must maximize the use of observable inputs and minimize the use of unobservable inputs. The Company uses a fair value hierarchy based on three levels of inputs, of which the first two are considered observable and the last unobservable, that may be used to measure fair value which are the following:
Level 1 - Quoted prices in active markets for identical assets or liabilities.
Level 2 - Inputs other than Level 1 that are observable, either directly or indirectly, such as quoted prices for similar assets or liabilities; quoted prices in markets that are not active; or other inputs that are observable or can be corroborated by observable market data for substantially the full term of the assets or liabilities.
Level 3 - Unobservable inputs that are supported by little or no market activity and that are significant to the fair value of the assets or liabilities.
Financial Assets and Liabilities
As required, financial assets and liabilities are classified in their entirety based on the lowest level of input that is significant to the fair value measurement. The Company’s assessment of the significance of a particular input requires judgment and may affect the valuation of fair value assets and liabilities and their placement within the fair value hierarchy levels. The following tables set forth by level within the fair value hierarchy the Company’s financial assets and liabilities that were accounted for at fair value on a recurring basis as of March 31, 2022 and December 31, 2021:
| | | | | | | | | | | | | | | | | |
| | Fair Value Measurements at March 31, 2022 Using |
| (In thousands) | Quoted Prices In Active Markets for Identical Assets (Liabilities)
(Level 1) | | Significant Other Observable Inputs
(Level 2) | | Significant Unobservable Inputs
(Level 3) |
| Commodity Derivatives – Current Assets | $ | — | | | $ | 406 | | | $ | — | |
| Commodity Derivatives – Noncurrent Assets | — | | | 483 | | | — | |
| Commodity Derivatives – Current Liabilities | — | | | (378,180) | | | — | |
| Commodity Derivatives – Noncurrent Liabilities | — | | | (284,623) | | | — | |
| Interest Rate Derivatives – Current Assets | — | | | 1,314 | | | — | |
| | | | | |
| | | | | |
| | | | | |
| | | | | |
| Total | $ | — | | | $ | (660,601) | | | $ | — | |
| | | | | | | | | | | | | | | | | |
| | Fair Value Measurements at December 31, 2021 Using |
| (In thousands) | Quoted Prices In Active Markets for Identical Assets (Liabilities)
(Level 1) | | Significant Other Observable Inputs
(Level 2) | | Significant Unobservable Inputs
(Level 3) |
| Commodity Derivatives – Current Assets | $ | — | | | $ | 2,519 | | | $ | — | |
| Commodity Derivatives – Noncurrent Assets | — | | | 1,740 | | | — | |
| Commodity Derivatives – Current Liabilities | — | | | (134,183) | | | — | |
| Commodity Derivatives – Noncurrent Liabilities | — | | | (147,762) | | | — | |
| | | | | |
| Interest Rate Derivatives - Noncurrent Assets | — | | | 123 | | | |
| Interest Rate Derivatives – Current Liabilities | — | | | (100) | | | — | |
| | | | | |
| | | | | |
| | | | | |
| Total | $ | — | | | $ | (277,664) | | | $ | — | |
Commodity Derivatives. The Level 2 instruments presented in the tables above consist of commodity derivative instruments (see Note 11). The fair value of the Company’s commodity derivative instruments is determined based upon future prices, volatility and time to maturity, among other things. Counterparty statements are utilized to determine the value of the commodity derivative instruments and are reviewed and corroborated using various methodologies and significant observable inputs. The Company’s and the counterparties’ nonperformance risk is evaluated. The fair value of commodity derivative contracts is reflected in the condensed balance sheet. The current derivative asset and liability amounts represent the fair values expected to be settled in the subsequent twelve months.
Interest Rate Derivatives. The Level 2 instruments presented in the tables above consist of interest rate derivative instruments (see Note 11). The fair value of the Company’s interest rate derivative instruments is determined based upon contracted notional amounts, active market-quoted LIBOR yield curves, and time to maturity, among other things. Counterparty statements are utilized to determine the value of the interest rate derivative instruments and are reviewed and corroborated using various methodologies and significant observable inputs. The Company’s and the counterparties’ nonperformance risk is evaluated. The fair value of interest rate derivative contracts is reflected in the condensed balance sheet. The current derivative asset and liability amounts represent the fair values expected to be settled in the subsequent twelve months.
Fair Value of Other Financial Instruments
The carrying amounts of cash equivalents, receivables and payables approximate fair value due to the highly liquid or short-term nature of these instruments.
Long-term debt is not presented at fair value in the balance sheets, as it is recorded at carrying value, net of unamortized debt issuance costs and unamortized premium (see Note 4). The fair value of the Company’s 2028 Notes was $781.9 million at March 31, 2022. The fair value of the Company’s 2028 Notes are based on market quotes, that represent Level 2 inputs.
There is no active market for the Revolving Credit Facility. The recorded value of the Revolving Credit Facility approximates its fair value because of its floating rate structure based on the LIBOR spread, secured interest, and the Company’s borrowing base utilization. The fair value measurement for the Revolving Credit Facility represents Level 2 inputs.
Non-Financial Assets and Liabilities
The Company estimates asset retirement obligations pursuant to the provisions of ASC Topic 410, Asset Retirement and Environmental Obligations. The initial measurement of asset retirement obligations at fair value is calculated using discounted cash flow techniques and based on internal estimates of future retirement costs associated with oil and natural gas properties. Given the unobservable nature of the inputs, including plugging costs and reserve lives, the initial measurement of the asset retirement obligations liability is deemed to use Level 3 inputs. Asset retirement obligations incurred and acquired during the three months ended March 31, 2022 were approximately $0.3 million.
The Company issued common stock warrants as a part of the Veritas Acquisition as purchase consideration. The common stock warrants issued grant holders the right to purchase 1,939,998 shares of the Company’s common stock at an exercise price equal to $28.30 per share (subject to certain adjustments), which are generally exercisable from April 27, 2022 until January 27, 2029. The fair value of the common stock warrants consideration was determined by utilizing an Option Pricing Model. These non-recurring fair value measurements are primarily determined using inputs that are observable or can be corroborated by observable market data (Level 2 inputs).
The Company issued common stock warrants as a part of the Reliance Acquisition as purchase consideration. The common stock warrants issued grant holders the right to purchase 3,250,000 shares of the Company’s common stock at an exercise price equal to $14.00 per share (subject to certain adjustments), which are generally exercisable from June 30, 2021 until April 1, 2028. The fair value of the common stock warrants consideration was determined by utilizing an Option Pricing Model. These non-recurring fair value measurements are primarily determined using inputs that are observable or can be corroborated by observable market data (Level 2 inputs).
The Company accounts for acquisitions of oil and natural gas properties under the acquisition method of accounting. Accordingly, the Company conducts assessments of net assets acquired and recognizes amounts for identifiable assets acquired and liabilities assumed at the estimated acquisition date fair values, while transaction costs associated with the acquisitions are expensed as incurred. The Company makes various assumptions in estimating the fair values of assets acquired and liabilities assumed. The most significant assumptions relate to the estimated fair value of oil and natural gas properties. The fair value of these properties is measured using a discounted cash flow model that converts future cash flows to a single discounted amount. These assumptions represent Level 3 inputs under the fair value hierarchy. See Note 3 for additional discussion of the Company’s acquisitions of oil and natural gas properties during the three months ended March 31, 2022 and discussion of the significant inputs to the valuations.
Though the Company believes the methods used to estimate fair value are consistent with those used by other market participants, the use of other methods or assumptions could result in a different estimate of fair value. There were no transfers of financial assets or liabilities between Level 1, Level 2 or Level 3 inputs for the three months ended March 31, 2022.
NOTE 11 DERIVATIVE INSTRUMENTS AND PRICE RISK MANAGEMENT
The Company utilizes various commodity price derivative instruments to (i) reduce the effects of volatility in price changes on the crude oil and natural gas commodities it produces and sells, (ii) reduce commodity price risk and (iii) provide a base level of cash flow in order to assure it can execute at least a portion of its capital spending. In addition, from time to time the Company utilizes interest rate swaps to mitigate exposure to changes in interest rates on the Company’s variable-rate indebtedness.
All derivative instruments are recorded in the Company’s balance sheet as either assets or liabilities measured at their fair value (see Note 10). The Company has not designated any derivative instruments as hedges for accounting purposes and does not enter into such instruments for speculative trading purposes. If a derivative does not qualify as a hedge or is not designated as a hedge, the changes in the fair value are recognized in the Company’s condensed statements of operations as a gain or loss on derivative instruments. Mark-to-market gains and losses represent changes in fair values of derivatives that have not been settled. The Company’s cash flow is only impacted when the actual settlements under the derivative contracts result in making
or receiving a payment to or from the counterparty. These cash settlements represent the cumulative gains and losses on the Company’s derivative instruments for the periods presented and do not include a recovery of costs that were paid to acquire or modify the derivative instruments that were settled.
The Company has master netting agreements on individual derivative instruments with certain counterparties and therefore the current asset and liability are netted in the balance sheet and the non-current asset and liability are netted in the balance sheet for contracts with these counterparties.
Commodity Derivative Instruments
The following table presents settlements on commodity derivative instruments and unsettled gains and losses on open commodity derivative instruments for the periods presented which is recorded in the revenue section of our condensed financial statements:
| | | | | | | | | | | | | | | |
| | Three Months Ended
March 31, | | |
| (In thousands) | 2022 | | 2021 | | | | |
| Cash Received (Paid) on Settled Derivatives | $ | (105,161) | | | $ | (7,297) | | | | | |
| Non-Cash Mark-to-Market Gain (Loss) on Derivatives | (384,227) | | | (128,638) | | | | | |
| Gain (Loss) on Commodity Derivatives, Net | $ | (489,388) | | | $ | (135,935) | | | | | |
The following table summarizes open commodity derivative positions as of March 31, 2022, for commodity derivatives that were entered into through March 31, 2022, for the settlement period presented:
| | | | | | | | | | | | | | | | | | | | | | | | | |
| 2022 | | 2023 | | 2024 | | 2025 | | |
| Oil: | | | | | | | | | |
| WTI NYMEX - Swaps: | | | | | | | | | |
| Volume (Bbl) | 7,389,900 | | | 3,621,750 | | | 569,525 | | | — | | | |
| Weighted-Average Price ($/Bbl) | $ | 60.86 | | | $ | 67.34 | | | $ | 64.26 | | | $ | — | | | |
| Brent ICE - Swaps: | | | | | | | | | |
| Volume (Bbl) | 275,000 | | | — | | | — | | | — | | | |
| Weighted-Average Price ($/Bbl) | $ | 55.00 | | | $ | — | | | $ | — | | | $ | — | | | |
WTI NYMEX - Swaptions(1): | | | | | | | | | |
| Volume (Bbl) | — | | | 2,128,925 | | | 1,692,750 | | | — | | | |
| Weighted-Average Price ($/Bbl) | $ | — | | | $ | 56.90 | | | $ | 62.25 | | | $ | — | | | |
| | | | | | | | | |
| | | | | | | | | |
| | | | | | | | | |
WTI NYMEX - Call Options(1): | | | | | | | | | |
| Volume (Bbl) | — | | | 730,000 | | | 4,362,210 | | | 2,647,345 | | | |
| Weighted-Average Price ($/Bbl) | $ | — | | | $ | 63.48 | | | $ | 62.71 | | | $ | 71.54 | | | |
| | | | | | | | | |
| Natural Gas: | | | | | | | | | |
| Henry Hub NYMEX - Swaps: | | | | | | | | | |
| Volume (MMBtu) | 20,980,000 | | | 8,650,000 | | | 2,562,000 | | | — | | | |
| Weighted-Average Price ($/MMBtu) | $ | 3.26 | | | $ | 3.62 | | | $ | 3.22 | | | $ | — | | | |
| Waha Swaps: | | | | | | | | | |
| Volume (MMBtu) | 5,965,000 | | | 2,250,000 | | | — | | | — | | | |
| Weighted-Average Price ($/MMBtu) | $ | 3.17 | | | $ | 3.69 | | | $ | — | | | $ | — | | | |
| Waha Inside FERC to Henry Hub - Basis Swaps: | | | | | | | | | |
| Volume (MMBtu) | 275,000 | | | — | | | — | | | — | | | |
| Weighted-Average Differential ($/MMBtu) | $ | (0.26) | | | $ | — | | | $ | — | | | $ | — | | | |
| Henry Hub NYMEX - Collars: | | | | | | | | | |
| Volume (MMBtu) | 3,660,000 | | | 4,550,000 | | | — | | | — | | | |
| Weighted-average floor price ($/MMBtu) | $ | 3.56 | | | $ | 3.50 | | | $ | — | | | $ | — | | | |
| Weighted-average ceiling price ($/MMBtu) | $ | 7.21 | | | $ | 5.09 | | | $ | — | | | $ | — | | | |
| | | | | | | | | |
| | | | | | | | | |
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| NE - TETCO M2 - Basis Swaps: | | | | | | | | | |
| Volume (MMBtu) | 8,865,000 | | | 9,550,000 | | | — | | | — | | | |
| Weighted-Average Differential ($/MMBtu) | $ | (0.88) | | | $ | (0.94) | | | $ | — | | | $ | — | | | |
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(1)Swaptions are crude oil derivative contracts that give counterparties the option to extend certain derivative contracts for additional periods. Call Options are crude oil derivative contracts sold by the Company that give counterparties the option to exercise certain derivative contracts. The volumes and prices reflected as Swaptions and Call Options in this table will only be effective if the options are exercised by the applicable counterparties.
Interest Rate Derivative Instruments
The Company uses interest rate swaps to effectively convert a portion of its variable rate indebtedness to fixed rate indebtedness. As of March 31, 2022, the Company had interest rate swaps with a total notional amount of $100.0 million. The settlement of these derivative instruments is recognized as a component of interest expense in the condensed statements of operations. The mark-to-market component of these derivative instruments is recognized in gain (loss) on unsettled interest rate derivatives, net in the condensed statements of operations.
Other Information Regarding Derivative Instruments
The following table sets forth the amounts, on a gross basis, and classification of the Company’s outstanding derivative financial instruments at March 31, 2022 and December 31, 2021, respectively. Certain amounts may be presented on a net basis on the condensed financial statements when such amounts are with the same counterparty and subject to a master netting arrangement.
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| (In thousands) | | | | | | |
| Type of Commodity | | Balance Sheet Location | | March 31, 2022 Estimated Fair Value | | December 31, 2021 Estimated Fair Value |
| Derivative Assets: | | | | |
| Commodity Price Swap Contracts | | Current Assets | | $ | 204 | | | $ | 4,272 | |
| Commodity Basis Swap Contracts | | Current Assets | | 1,608 | | | 1,916 | |
| Commodity Price Swaptions Contracts | | Current Assets | | 60 | | | 3,020 | |
| Commodity Price Collar Contracts | | Current Assets | | 435 | | | 1,963 | |
| Interest Rate Swap Contracts | | Current Assets | | 1,317 | | | 89 | |
| Commodity Price Swap Contracts | | Noncurrent Assets | | 321 | | | 3,619 | |
| Commodity Basis Swap Contracts | | Noncurrent Assets | | 1,052 | | | 309 | |
| Commodity Price Swaptions Contracts | | Noncurrent Assets | | 183 | | | — | |
| Commodity Price Collar Contracts | | Noncurrent Assets | | 955 | | | 407 | |
| Interest Rate Swap Contracts | | Noncurrent Assets | | — | | | 123 | |
| Total Derivative Assets | | | | $ | 6,136 | | | $ | 15,719 | |
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| Derivative Liabilities: | | | | | | |
| Commodity Price Swap Contracts | | Current Liabilities | | $ | (320,535) | | | $ | (138,389) | |
| Commodity Basis Swap Contracts | | Current Liabilities | | (26,796) | | | (1,309) | |
| Commodity Price Swaptions Contracts | | Current Liabilities | | (24,140) | | | (3,020) | |
| Interest Rate Swap Contracts | | Current Liabilities | | (3) | | | (189) | |
| Commodity Price Collar Contracts | | Current Liabilities | | (3,449) | | | (119) | |
| Commodity Price Call Option Contracts | | Current Liabilities | | (5,161) | | | — | |
| Commodity Price Swap Contracts | | Noncurrent Liabilities | | (45,791) | | | (8,465) | |
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| Commodity Basis Swap Contracts | | Noncurrent Liabilities | | (112) | | | (823) | |
| Commodity Price Collar Contracts | | Noncurrent Liabilities | | (1,249) | | | (275) | |
| Commodity Price Call Option Contracts | | Noncurrent Liabilities | | (157,726) | | | (71,815) | |
| Commodity Price Swaptions Contracts | | Noncurrent Liabilities | | (81,773) | | | (68,980) | |
| Total Derivative Liabilities | | | | $ | (666,737) | | | $ | (293,383) | |
The use of derivative transactions involves the risk that the counterparties will be unable to meet the financial terms of such transactions. When the Company has netting arrangements with its counterparties that provide for offsetting payables against receivables from separate derivative instruments these assets and liabilities are netted in the balance sheet. The tables presented below provide reconciliation between the gross assets and liabilities and the amounts reflected in the balance sheet. The amounts presented exclude derivative settlement receivables and payables as of the balance sheet dates.
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| | Estimated Fair Value at March 31, 2022 |
| (In thousands) | Gross Amounts of
Recognized Assets (Liabilities) | | Gross Amounts Offset
on the Balance Sheet | | Net Amounts of Assets (Liabilities) Presented on the Balance Sheet |
| Offsetting of Derivative Assets: | | |
| Current Assets | $ | 3,625 | | | $ | (1,905) | | | $ | 1,720 | |
| Non-Current Assets | 2,511 | | | (2,028) | | | 483 | |
| Total Derivative Assets | $ | 6,136 | | | $ | (3,933) | | | $ | 2,203 | |
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| Offsetting of Derivative Liabilities: | | |
| Current Liabilities | $ | (380,085) | | | $ | 1,905 | | | $ | (378,180) | |
| Non-Current Liabilities | (286,651) | | | 2,028 | | | (284,623) | |
| Total Derivative Liabilities | $ | (666,737) | | | $ | 3,933 | | | $ | (662,803) | |
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| | Estimated Fair Value at December 31, 2021 |
| (In thousands) | Gross Amounts of
Recognized Assets (Liabilities) | | Gross Amounts Offset
on the Balance Sheet | | Net Amounts of Assets (Liabilities) Presented on the Balance Sheet |
| Offsetting of Derivative Assets: | | |
| Current Assets | $ | 11,261 | | | $ | (8,742) | | | $ | 2,519 | |
| Non-Current Assets | 4,458 | | | $ | (2,595) | | | 1,863 | |
| Total Derivative Assets | $ | 15,719 | | | $ | (11,337) | | | $ | 4,382 | |
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| Offsetting of Derivative Liabilities: | | |
| Current Liabilities | $ | (143,025) | | | $ | 8,742 | | | $ | (134,283) | |
| Non-Current Liabilities | (150,357) | | | 2,595 | | | (147,762) | |
| Total Derivative Liabilities | $ | (293,383) | | | $ | 11,337 | | | $ | (282,045) | |
All of the Company’s outstanding derivative instruments are covered by International Swap Dealers Association Master Agreements (“ISDAs”) entered into with parties that are also lenders under the Company’s Revolving Credit Facility. The Company’s obligations under the derivative instruments are secured pursuant to the Revolving Credit Facility, and no additional collateral had been posted by the Company as of March 31, 2022. The ISDAs may provide that as a result of certain circumstances, such as cross-defaults, a counterparty may require all outstanding derivative instruments under an ISDA to be settled immediately. See Note 10 for the aggregate fair value of all derivative instruments that were in a net liability position at March 31, 2022 and December 31, 2021.