NOTES TO THE CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)
NOTE 1 - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Description of Operations
When we use the terms “Civitas,” the “Company,” “we,” “us,” or “our,” we are referring to Civitas Resources, Inc. and its consolidated subsidiaries unless the context otherwise requires. Effective November 1, 2021, Bonanza Creek Energy, Inc. changed its name to Civitas Resources, Inc. Civitas is an independent Denver-based exploration and production company focused on the acquisition, development, and production of oil and associated liquids-rich natural gas in the Rocky Mountain region, primarily in the Wattenberg Field of the Denver-Julesburg Basin (“DJ Basin”).
Basis of Presentation
The accompanying unaudited condensed consolidated financial statements include the accounts of the Company and have been prepared in accordance with accounting principles generally accepted in the United States (“GAAP”) for interim financial information, the instructions to Quarterly Report on Form 10-Q, and Regulation S-X. Accordingly, pursuant to such rules and regulations, certain notes and other financial information included in audited financial statements have been condensed or omitted. In the opinion of management, all adjustments, consisting of normal recurring adjustments considered necessary for a fair presentation of interim financial information, have been included. All significant intercompany balances and transactions have been eliminated in consolidation.
The December 31, 2021 unaudited condensed consolidated balance sheet data has been derived from the audited consolidated financial statements contained in our Annual Report on Form 10-K for the year ended December 31, 2021 (“2021 Form 10-K”), but does not include all disclosures, including notes required by GAAP. As such, this quarterly report should be read in conjunction with the audited consolidated financial statements and related notes included in our 2021 Form 10-K. In connection with the preparation of the unaudited condensed consolidated financial statements, the Company evaluated subsequent events after the balance sheet date of June 30, 2022, through the filing date of this report. The results of operations for the three and six months ended June 30, 2022 are not necessarily indicative of the results that may be expected for the full year or any other future period. Significant Accounting Policies
The significant accounting policies followed by the Company are set forth in Note 1 - Summary of Significant Accounting Policies in the 2021 Form 10-K and are supplemented by the notes to the unaudited condensed consolidated financial statements included in this report. Recently Issued and Adopted Accounting Standards
In March 2020, the FASB issued Update No. 2020-04, Reference Rate Reform (Topic 848), which provides temporary optional guidance to companies impacted by the transition away from the LIBOR. The amendment provides certain expedients and exceptions to applying GAAP in order to lessen the potential accounting burden when contracts, hedging relationships, and other transactions that reference LIBOR as a benchmark rate are modified. Further, in January 2021, the FASB issued Update No. 2021-01, Reference Rate Reform (Topic 848), which clarifies the scope of Topic 848 so that derivatives affected by the discounting transition are explicitly eligible for certain optional expedients and exceptions in Topic 848. These amendments are effective upon issuance and expire on December 31, 2022. We do not anticipate a material impact on the Company’s consolidated financial statements or related disclosures.
There are no other accounting standards applicable to the Company that would have a material effect on the Company’s financial statements and disclosures that have been issued but not yet adopted by the Company as of June 30, 2022, and through the filing date of this report.
NOTE 2 - ACQUISITIONS AND DIVESTITURES
All mergers and acquisitions disclosed were accounted for under the acquisition method of accounting for business combinations. Accordingly, we conducted assessments of the net assets acquired and recognized amounts for identifiable assets acquired and liabilities assumed at their estimated acquisition date fair values, while transaction and integration costs associated with the acquisition were expensed as incurred. The fair value measurements of assets acquired and liabilities assumed were based on inputs that are not observable in the market, and therefore represent Level 3 inputs. The fair values of crude oil and natural gas properties and asset retirement obligations were measured using valuation techniques that convert future cash flows to a single discounted amount. Significant inputs to the valuation of proved oil properties include estimates of reserves, future operating and development costs, future commodity prices, estimated future cash flows, and a market-based weighted-average cost of capital. These inputs required significant judgments and estimates by management at the time of the valuation.
HighPoint Merger
On April 1, 2021, Civitas acquired HighPoint Resources Corporation (“HighPoint”), pursuant to the terms of HighPoint’s prepackaged plan of reorganization under Chapter 11 of the United States Bankruptcy Code (the “Prepackaged Plan”), which was confirmed by the U.S. Bankruptcy Court for the District of Delaware (the “HighPoint Merger”). Each eligible share of common stock of HighPoint issued and outstanding was automatically converted into the right to receive 0.11464 shares of common stock of Civitas (“Civitas Common Stock”). As a result, Civitas issued 487,952 shares of Civitas Common Stock to former HighPoint stockholders.
Concurrently with the HighPoint Merger and pursuant to the Prepackaged Plan, in exchange for the aggregate principal amount outstanding of HighPoint Operating Corporation's senior notes, Civitas issued an aggregate of (i) 9,314,214 shares of Civitas Common Stock and (ii) $100.0 million aggregate principal amount of 7.5% Senior Notes due 2026 (“7.5% Senior Notes”). Please refer to Note 5 - Long-Term Debt for further discussion of the 7.5% Senior Notes.
Total merger consideration transferred under the HighPoint Merger was $474.9 million.
Extraction Merger
On November 1, 2021, Civitas completed its merger with Extraction Oil & Gas, Inc. (“Extraction”), pursuant to the terms of the related Agreement and Plan of Merger (the “Extraction Merger Agreement”) (the “Extraction Merger”). Pursuant to the Extraction Merger Agreement, each share of common stock of Extraction (the “Extraction Common Stock”) issued and outstanding was converted into the right to receive 1.1711 shares of Civitas Common Stock for each share of Extraction Common Stock (the “Extraction Exchange Ratio”).
Additionally, each unvested award of restricted stock units issued pursuant to Extraction’s 2021 Long Term Incentive Plan (the “Extraction Equity Plan”) was assumed by Civitas and converted into a number of restricted stock units with respect to shares of Civitas Common Stock (such restricted stock unit, a “Converted RSU”) using the Extraction Exchange Ratio. Each Converted RSU continued to be governed by the same terms and conditions that were applicable immediately prior to the Extraction Merger closing date. In addition, Converted RSUs subject to performance-based vesting conditions held by certain Extraction executives provided certain accelerated vesting clauses in the event that such individual’s employment is terminated on or within twelve months following November 1, 2021.
Further, Civitas executed warrant agreements to replace the warrants previously issued by Extraction consisting of (i) 3.4 million Tranche A warrants to purchase Civitas Common Stock at an exercise price of $91.91 in whole or in part, at any time or from time to time on or before January 20, 2025, issued pursuant to a warrant agreement by and between Civitas and Broadridge Corporate Issuer Solutions, Inc., as warrant agent (“Broadridge”), dated as of November 1, 2021 (the “Tranche A Warrants”), and (ii) 1.7 million Tranche B warrants to purchase Civitas Common Stock at an exercise price of $104.45 in whole or in part, at any time or from time to time on or before (i) January 20, 2026, issued pursuant to a warrant agreement by and between Civitas and Broadridge, as warrant agent, dated as of November 1, 2021 (the “Tranche B Warrants,” and, together with the Tranche A Warrants, the “Warrants”)). A holder of a warrant, in its capacity as such, is not entitled to any rights whatsoever as a stockholder of Civitas, except to the extent expressly provided in the applicable warrant agreement. Please refer to Note 8 - Fair Value Measurements for further discussion.
Total merger consideration transferred under the Extraction Merger was $1.8 billion. The following table presents the preliminary purchase price allocation of the assets acquired and the liabilities assumed in the Extraction Merger: | | | | | | | | |
| Preliminary Purchase Price Allocation (in thousands) | | |
| Assets Acquired | | |
| Cash and cash equivalents | | $ | 106,360 | |
| Accounts receivable - oil and natural gas sales | | 119,585 | |
| Accounts receivable - joint interest and other | | 33,054 | |
| Prepaid expenses and other | | 3,044 | |
| Inventory of oilfield equipment | | 9,291 | |
| Derivative assets | | 5,834 | |
| Proved properties | | 1,876,014 | |
| Unproved properties | | 193,400 | |
| Other property and equipment, net of accumulated depreciation | | 40,068 | |
| Right-of-use assets | | 6,883 | |
| Deferred income tax assets | | 49,194 | |
| Other noncurrent assets | | 4,248 | |
| Total assets acquired | | $ | 2,446,975 | |
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| Liabilities Assumed | | |
| Accounts payable and accrued expenses | | $ | 90,353 | |
| Production taxes payable | | 63,572 | |
| Oil and natural gas revenue distribution payable | | 170,002 | |
| Income tax payable | | 14,000 | |
| Lease liability | | 6,883 | |
| Derivative liability | | 100,474 | |
| Ad valorem taxes | | 87,071 | |
| Asset retirement obligations | | 68,741 | |
| Other noncurrent liabilities | | 1,750 | |
| Total liabilities assumed | | 602,846 | |
| Net assets acquired | | $ | 1,844,129 | |
The valuation of proved properties for the Extraction Merger applied a market-based weighted-average cost of capital rate of approximately 10%. The purchase price allocation is preliminary, and Civitas is continuing to assess the fair values of certain of the assets acquired and liabilities assumed in the Extraction Merger as adjustments may be made to these measurements in subsequent periods (up to one year from the acquisition date). In particular, assets and liabilities subject to potential adjustment, in amounts that could be material to the pro forma financial statements, include, but are not limited to, proved properties, unproved properties, and accounts payable and accrued expenses related to our continued assessment over the application of lease contracts and related deductions. We cannot reasonably estimate the impact of such conclusions as there is still a high level of uncertainty regarding the potential outcomes of the assessment.
Crestone Peak Merger
On November 1, 2021, Civitas completed its merger with CPPIB Crestone Peak Resources America Inc. (“Crestone Peak”), pursuant to the terms of the related Agreement and Plan of Merger (the “Crestone Merger Agreement”) (the “Crestone Peak Merger”). Pursuant to the Crestone Merger Agreement, the shares of Crestone Peak common stock were converted into the right to collectively receive 22.5 million shares of Civitas Common Stock, representing total merger consideration of $1.3 billion.
The following table presents the preliminary purchase price allocation of the assets acquired and the liabilities assumed in the Crestone Peak Merger: | | | | | | | | |
| Preliminary Purchase Price Allocation (in thousands) | | |
| Assets Acquired | | |
| Cash and cash equivalents | | $ | 67,505 | |
| Accounts receivable - oil and natural gas sales | | 81,340 | |
| Accounts receivable - joint interest and other | | 9,917 | |
| Prepaid expenses and other | | 2,929 | |
| Inventory of oilfield equipment | | 11,951 | |
| Proved properties | | 1,797,814 | |
| Unproved properties | | 453,321 | |
| Other property and equipment, net of accumulated depreciation | | 7,980 | |
| Right-of-use assets | | 7,934 | |
| Total assets acquired | | $ | 2,440,691 | |
| | |
| Liabilities Assumed | | |
| Accounts payable and accrued expenses | | $ | 134,791 | |
| Production taxes payable | | 52,435 | |
| Oil and natural gas revenue distribution payable | | 83,950 | |
| Lease liability | | 7,934 | |
| Derivative liability | | 338,383 | |
| Credit facility | | 280,000 | |
| Ad valorem taxes | | 66,913 | |
| Deferred income tax liabilities | | 125,086 | |
| Asset retirement obligations | | 88,949 | |
| Total liabilities assumed | | 1,178,441 | |
| Net assets acquired | | $ | 1,262,250 | |
The valuation of proved properties for the Crestone Peak Merger applied a market-based weighted-average cost of capital rate of approximately 10%. The purchase price allocation is preliminary, and Civitas is continuing to assess the fair values of certain of the assets acquired and liabilities assumed in the Crestone Peak Merger as adjustments may be made to these measurements in subsequent periods (up to one year from the acquisition date). In particular, assets and liabilities subject to potential adjustment, in amounts that could be material to the pro forma financial statements, include, but are not limited to, proved properties, unproved properties, and accounts payable and accrued expenses related to our continued assessment over the application of lease contracts and related deductions. We cannot reasonably estimate the impact of such conclusions as there is still a high level of uncertainty regarding the potential outcomes of the assessment.
Revenue and earnings of the acquiree
The amount of revenue of HighPoint included in our statement of operations during the three and six months ended June 30, 2021 was $74.7 million for both periods as the HighPoint Merger was completed on April 1, 2021. There was no revenue included in our statement of operations during the three and six months ended June 30, 2021 related to the Extraction and Crestone Peak mergers as both mergers were completed after June 30, 2021. We determined that disclosing the amount of HighPoint, Extraction, and Crestone Peak related earnings included in the unaudited condensed consolidated statements of operations and comprehensive income (“statements of operations”) is impracticable, as the operations from these mergers were integrated into the operations of the Company from the dates of each acquisition.
Supplemental pro forma financial information
The following unaudited pro forma financial information (in thousands, except per share amounts) represents a summary of the condensed consolidated results of operations for the three and six months ended June 30, 2021, assuming the HighPoint, Extraction, and Crestone Peak mergers had been completed as of January 1, 2020. The pro forma financial information is not necessarily indicative of the results of operations that would have been achieved if the mergers had been effective as of this date, or of future results, and includes certain non-recurring pro forma adjustments that were directly attributable to the business combinations (in thousands, except per share amounts).
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| | | | | | | | | Three Months Ended June 30, 2021 | | | | | | | | | | Six Months Ended June 30, 2021 |
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| Total revenue | | | | | | | | | | $ | 527,794 | | | | | | | | | | | $ | 1,093,110 | |
| Net income (loss) | | | | | | | | | | (101,825) | | | | | | | | | | | 756,271 | |
| Net income (loss) per common share - basic | | | | | | | | | | $ | (1.21) | | | | | | | | | | | $ | 8.98 | |
| Net income (loss) per common share - diluted | | | | | | | | | | $ | (1.21) | | | | | | | | | | | $ | 8.94 | |
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Bison Acquisition
On March 1, 2022, the Company completed the acquisition of privately held DJ Basin operator Bison Oil & Gas II, LLC (“Bison”) for merger consideration of approximately $279.7 million (the “Bison Acquisition”). Net assets acquired under the preliminary purchase price allocation were $294.2 million and consequently resulted in a bargain purchase gain of $14.5 million. Because of the immateriality of the Bison Acquisition, the related revenue and earnings, supplemental pro forma financial information, and detailed purchase price allocation are not disclosed.
Merger transaction costs
Merger transaction costs related to the aforementioned mergers and acquisitions are accounted for separately from the assets acquired and liabilities assumed and are included in merger transaction costs in the statements of operations. The Company incurred merger transaction costs of $1.4 million and $18.2 million during the three months ended June 30, 2022 and 2021, respectively, and $22.0 million and $21.5 million during the six months ended June 30, 2022 and 2021, respectively. Merger transaction costs include zero and $1.1 million of severance payments for the three months ended June 30, 2022 and 2021, respectively, and $7.6 million and $1.1 million of severance payments for the six months ended June 30, 2022 and 2021, respectively.
NOTE 3 - REVENUE RECOGNITION
Oil, natural gas, and natural gas liquid (“NGL”) sales revenue presented within the accompanying statements of operations is reflective of the revenue generated from contracts with customers. Revenue attributable to each identified revenue stream is disaggregated below (in thousands): | | | | | | | | | | | | | | | | | | | | | | | |
| Three Months Ended June 30, | | Six Months Ended June 30, |
| 2022 | | 2021 | | 2022 | | 2021 |
| Operating net revenues: | | | | | | | |
| Oil sales | $ | 778,258 | | | $ | 116,091 | | | $ | 1,327,760 | | | $ | 166,155 | |
| Natural gas sales | 205,840 | | | 15,168 | | | 319,001 | | | 28,300 | |
| NGL sales | 167,266 | | | 24,776 | | | 322,413 | | | 35,739 | |
| Oil, natural gas, and NGL sales | $ | 1,151,364 | | | $ | 156,035 | | | $ | 1,969,174 | | | $ | 230,194 | |
The Company recognizes revenue from the sale of produced oil, natural gas, and NGL at the point in time when control of produced oil, natural gas, or NGL volumes transfer to the purchaser, which may differ depending on the applicable contractual terms. The Company considers the transfer of control to have occurred when the purchaser has the ability to direct the use of, and obtain substantially all of the remaining benefits from, the oil, natural gas, or NGL production. Transfer of control dictates the presentation of gathering, transportation, and processing expenses within the accompanying statements of operations. Gathering, transportation, and processing expenses incurred by the Company prior to the transfer of control are recorded gross within the gathering, transportation, and processing line item on the accompanying statements of operations. Conversely, gathering, transportation, and processing expenses incurred by the Company subsequent to the transfer of control are recorded net within the oil, natural gas, and NGL sales line item on the accompanying statements of operations. Please refer to Note 1 - Summary of Significant Accounting Policies in the 2021 Form 10-K for more information regarding the types of contracts under which oil, gas, and NGL sales revenue is generated. The Company records revenue in the month production is delivered and control is transferred to the purchaser. However, settlement statements and payment may not be received for 30 to 60 days after the date production is delivered and control is transferred. Until such time settlement statements and payment are received, the Company records a revenue accrual based on, amongst other factors, an estimate of the volumes delivered at estimated prices as determined by the applicable contractual terms. The Company records the differences between its estimates and the actual amounts received for product sales in the month in which payment is received from the purchaser. For the three and six months ended June 30, 2022 and 2021, revenue recognized in the reporting period related to performance obligations satisfied in prior reporting periods was insignificant. At June 30, 2022 and December 31, 2021, the Company's receivables from contracts with customers were $432.7 million and $362.3 million, respectively.
NOTE 4 - ACCOUNTS PAYABLE AND ACCRUED EXPENSES
Accounts payable and accrued expenses contain the following as of the dates indicated (in thousands): | | | | | | | | | | | |
| | June 30, 2022 | | December 31, 2021 |
| Accounts payable trade | $ | 12,166 | | | $ | 19,623 | |
| Accrued drilling and completion costs | 132,096 | | | 129,430 | |
| Accrued lease operating expense and gathering, transportation, and processing | 80,834 | | | 19,077 | |
| Accrued general and administrative expense | 13,973 | | | 21,163 | |
| Accrued merger transaction costs | 2,199 | | | 1,475 | |
| Accrued oil and NGL hedging | 44,730 | | | 26,601 | |
| Accrued interest expense | 5,484 | | | 6,303 | |
| Accrued settlement | 10,291 | | | 20,791 | |
| Other accrued expenses | 4,497 | | | 1,725 | |
| Total accounts payable and accrued expenses | $ | 306,270 | | | $ | 246,188 | |
NOTE 5 - LONG-TERM DEBT
5.0% Senior Notes
On October 13, 2021, the Company issued $400.0 million aggregate principal amount of 5.0% Senior Notes due 2026 (the “5.0% Senior Notes”) pursuant to an indenture (the “5.0% Indenture”), among Civitas Resources, Wells Fargo Bank, National Association, as trustee, and the guarantors party thereto. The Company used the net proceeds and cash on hand to repay all borrowings under the Credit Facility (as defined below), all borrowings outstanding under the Crestone Peak credit facility, and for general corporate purposes. Interest accrues at the rate of 5.0% per annum and is payable semiannually in arrears on April 15 and October 15 of each year. Payments commenced on April 15, 2022.
The 5.0% Indenture contains covenants that limit, among other things, the Company’s ability to: (i) incur or guarantee additional indebtedness; (ii) create liens securing indebtedness; (iii) pay dividends on or redeem or repurchase stock or subordinated debt; (iv) make specified types of investments and acquisitions; (v) enter into or permit to exist contractual limits on the ability of the Company’s subsidiaries to pay dividends to Civitas Resources; (vi) enter into transactions with affiliates; and (vii) sell assets or merge with other companies. These covenants are subject to a number of important limitations and exceptions. The Company was in compliance with all covenants under the 5.0% Indenture as of June 30, 2022, and through the filing of this report. In addition, certain of these covenants will be terminated before the 5.0% Senior Notes mature if at any time no default or event of default exists under the 5.0% Indenture and the 5.0% Senior Notes receive an investment-grade rating from at least two ratings agencies. The 5.0% Indenture also contains customary events of default.
At any time prior to October 15, 2023, the Company may redeem the 5.0% Senior Notes, in whole or in part, at a redemption price equal to the sum of (i) the principal amount thereof, plus (ii) the “make-whole” premium at the redemption date, plus (iii) accrued and unpaid interest, if any. On or after October 15, 2023, the Company may redeem all or part of the 5.0% Senior Notes at redemption prices (expressed as percentages of the principal amount redeemed) equal to (i) 102.5% for the twelve-month period beginning on October 15, 2023; (ii) 101.25% for the twelve-month period beginning on October 15, 2024; and (iii) 100.0% for the twelve-month period beginning October 15, 2025 and at any time thereafter, plus accrued and unpaid interest, if any.
The Company may redeem up to 35% of the aggregate principal amount of the 5.0% Senior Notes at any time prior to October 15, 2023 with an amount not to exceed the net cash proceeds from certain equity offerings at a redemption price equal to 105.0% of the principal amount of the 5.0% Senior Notes redeemed, plus accrued and unpaid interest, if any, provided, however, that (i) at least 65.0% of the aggregate principal amount of the 5.0% Senior Notes originally issued on the issue date (but excluding 5.0% Senior Notes held by the Company) remains outstanding immediately after the occurrence of such redemption (unless all such 5.0% Senior Notes are redeemed substantially concurrently) and (ii) the redemption occurs within 180 days after the date of the closing of such equity offering.
The 5.0% Senior Notes are fully and unconditionally guaranteed on a senior unsecured basis by all of Civitas' existing subsidiaries.
7.5% Senior Notes
In conjunction with the HighPoint Merger, the Company issued $100.0 million aggregate principal amount of 7.5% Senior Notes due 2026 (the “7.5% Senior Notes”) pursuant to an indenture, dated April 1, 2021 , by and among Civitas Resources, U.S. Bank National Association, as trustee, and the guarantors party thereto. Interest accrued at the rate of 7.5% per annum and was payable semiannually in arrears on April 30 and October 31 of each year.
On May 1, 2022, the Company redeemed all of the issued and outstanding 7.5% Senior Notes at 100.0% of their aggregate principal amount, plus accrued and unpaid interest thereon to the redemption date.
The 7.5% Senior Notes and 5.0% Senior Notes are recorded net of unamortized deferred financing costs within the Senior notes line item on the accompanying balance sheets. There were no discounts or premiums associated with either issuance. The tables below present the related carrying values as of June 30, 2022 and December 31, 2021 (in thousands):
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| As of June 30, 2022 |
| Principal Amount | | Unamortized Deferred Financing Costs | | Net Amount |
| | | | | |
5.0% Senior Notes | $ | 400,000 | | | $ | 7,492 | | | $ | 392,508 | |
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| As of December 31, 2021 |
| Principal Amount | | Unamortized Deferred Financing Costs | | Net Amount |
7.5% Senior Notes | $ | 100,000 | | | $ | — | | | $ | 100,000 | |
5.0% Senior Notes | $ | 400,000 | | | $ | 8,290 | | | $ | 391,710 | |
Credit Facility
The Company is party to a reserve-based revolving facility, as the borrower, with JPMorgan Chase Bank, N.A. (“JPMorgan”), as the administrative agent, and a syndicate of financial institutions (the “Lender Syndicate”), as lenders, that mature on November 1, 2025 (with all subsequent amendments as defined below, the “Credit Facility”).
The Credit Facility contains customary representations and affirmative covenants. The Credit Facility also contains customary negative covenants, which, among other things, and subject to certain exceptions, include restrictions on (i) liens, (ii) indebtedness, guarantees and other obligations, (iii) restrictions in agreements on liens and distributions, (iv) mergers or consolidations, (v) asset sales, (vi) restricted payments, (vii) investments, (viii) affiliate transactions, (ix) change of business, (x) foreign operations or subsidiaries, (xi) name changes, (xii) use of proceeds, letters of credit, (xiii) gas imbalances, (xiv) hedging transactions, (xv) additional subsidiaries, (xvi) changes in fiscal year or fiscal quarter, (xvii) operating leases, (xviii) prepayments of certain debt and other obligations, (xix) sales or discounts of receivables, (xx) dividend payment thresholds, and (xi) cash balances.
In addition, the Company is subject to certain financial covenants under the Credit Facility, as tested on the last day of each fiscal quarter, including, without limitation, (a) a maximum ratio of the Company's consolidated indebtedness (subject to certain exclusions) to earnings before interest, income taxes, depreciation, depletion, and amortization, exploration expense, and other non-cash charges (“permitted net leverage ratio”) of 3.00 to 1 and (b) a current ratio, as defined in the agreement, inclusive of the unused commitments then available to be borrowed, to not be less than 1.00 to 1. The Company was in compliance with all covenants under the Credit Facility as of June 30, 2022, and through the filing of this report.
On November 1, 2021, the Company, JPMorgan, and the Lender Syndicate entered into an Amended and Restated Credit Agreement (the “A&R Credit Agreement”), having an aggregate maximum commitment amount of $2.0 billion. The A&R Credit Agreement, among other things, amended the borrowing base adjustment provisions such that, between borrowing base determinations, downward adjustments related to the incurrence of certain permitted indebtedness will only occur if either (A) such indebtedness exceeds $500.0 million and the Company’s pro-forma leverage ratio is less than or equal to 1.50 to 1, or (B) the Company's pro-forma leverage ratio is greater than 1.50 to 1.
Under the A&R Credit Agreement, the Credit Facility is guaranteed by all restricted domestic subsidiaries of the Company, and is secured by first priority security interests on substantially all assets, including a mortgage on at least 90% of the total value of the proved properties evaluated in the most recently delivered reserve reports prior to the amendment effective date, including any engineering reports relating to the oil and natural gas properties of the restricted domestic subsidiaries of the Company, subject to customary exceptions.
On December 21, 2021, the Company entered into a First Amendment to the A&R Credit Agreement that stipulates that the minimum hedging covenant with respect to projected oil and gas production will not apply if the Company’s leverage ratio is less than 1.00 to 1 as of the applicable quarterly test date, until the next such test date.
On April 20, 2022, and as part of the regularly scheduled, semi-annual borrowing base redetermination, the Company entered into a Second Amendment to the A&R Credit Agreement that increased the Company's borrowing base from $1.0 billion to $1.7 billion and increased the aggregate elected commitments from $800.0 million to $1.0 billion. These increases were primarily driven by the increased value of the Company’s estimated proved reserves at December 31, 2021. The next scheduled borrowing base redetermination date is set to occur in October 2022.
In addition, the Second Amendment to the A&R Credit Agreement resulted in the removal and replacement of LIBOR with the Secured Overnight Financing Rate (“SOFR”) as a mechanism to determine interest for borrowings made under the Credit Facility using a term-specific SOFR. As a result, borrowings under the Credit Facility bear interest at a per annum rate equal to, at the option of the Company, either (i) the Alternate Base Rate (“ABR”, for ABR Revolving Credit Loans) plus the applicable margin, or (ii) the term-specific SOFR plus the applicable margin. ABR is established as a rate per annum equal to the greatest of (a) the rate of interest publicly announced by JPMorgan as its prime rate, (b) the applicable rate of interest published by the Federal Reserve Bank of New York (“NYFRB”) plus 0.5%, or (c) the term-specific SOFR plus 1.0%, subject to a 1.50% floor plus the applicable margin of 1.00% to 2.00%, based on the utilization of the Credit Facility. Term-specific SOFR is based on one-, three-, or six-month terms as selected by the Company and is subject to a 0.50% floor plus the applicable margin of 2.00% to 3.00%, based on the utilization of the Credit Facility. Interest on borrowings that bear interest at the SOFR shall be payable on the last day of the applicable interest period selected by the Company, and interest on borrowings that bear interest at the ABR shall be payable quarterly in arrears.
The following table presents the outstanding balance, total amount of letters of credit outstanding, and available borrowing capacity under the Credit Facility as of the dates indicated (in thousands):
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| August 3, 2022 | | June 30, 2022 | | December 31, 2021 |
Revolving credit facility | $ | — | | | $ | — | | | $ | — | |
| Letters of credit | 12,393 | | | 12,393 | | | 21,656 | |
| Available borrowing capacity | 987,607 | | | 987,607 | | | 778,344 | |
Total aggregate elected commitments | $ | 1,000,000 | | | $ | 1,000,000 | | | $ | 800,000 | |
In connection with the amendments to the Credit Facility, the Company capitalized a total of approximately $11.9 million in deferred financing costs. Of the total post-amortization net capitalized amounts, (i) $7.0 million and $7.5 million are presented within the other noncurrent assets line item on the accompanying balance sheets as of June 30, 2022 and December 31, 2021, respectively, and (ii) $3.0 million and $2.7 million is presented within the prepaid expenses and other line item on the accompanying balance sheets as of June 30, 2022 and December 31, 2021, respectively.
Interest Expense
For the three months ended June 30, 2022 and 2021, the Company incurred interest expense of $8.1 million and $3.8 million and capitalized zero and $0.6 million, respectively.
For the six months ended June 30, 2022 and 2021, the Company incurred interest expense of $17.2 million and $4.3 million and capitalized zero and $0.6 million, respectively.
NOTE 6 - COMMITMENTS AND CONTINGENCIES
Legal Proceedings
From time to time, the Company is involved in various commercial and regulatory claims, litigation, and other legal proceedings that arise in the ordinary course of its business. The Company assesses these claims in an effort to determine the degree of probability and range of possible loss for potential accrual in its consolidated financial statements. In accordance with authoritative accounting guidance, an accrual is recorded for a loss contingency when its occurrence is probable and damages can be reasonably estimated based on the most likely anticipated outcome or the minimum amount within a range of possible outcomes. Because legal proceedings are inherently unpredictable and unfavorable resolutions could occur, assessing contingencies is highly subjective and requires judgments about uncertain future events. When evaluating contingencies, the Company may be unable to provide a meaningful estimate due to a number of factors, including the procedural status of the matter in question, the presence of complex or novel legal theories, and/or the ongoing discovery and development of information important to the matters. The Company regularly reviews contingencies to determine the adequacy of its accruals and related disclosures. No claims have been made, nor is the Company aware of any material uninsured liability which the Company may have, as it relates to any environmental cleanup, restoration, or the violation of any rules or regulations.
Upon closing of the HighPoint, Extraction, and Crestone Peak mergers and Bison Acquisition, the Company assumed all obligations, whether asserted or unasserted, of HighPoint, Extraction, Crestone Peak, and Bison. As of the filing date of this report, there were no probable, material pending, or overtly threatened legal actions against the Company of which it was aware, other than the following:
Boulder County. In prior periods, there was ongoing litigation between Boulder County and Extraction which has been previously disclosed as having the potential to prevent oil and gas operations for the development of minerals contained within Boulder County, Colorado. Boulder County had initiated suit in District Court for Boulder County that was primarily a contract case, where the relevant contracts were the conservation easement over the Blue Paintbrush location, Extraction’s Surface Use Agreement for the Blue Paintbrush location, and the leases that Boulder owns within the Blue Paintbrush drilling and spacing unit. Boulder sought invalidation of these leases in the litigation. This litigation has been resolved as to all substantive issues, and the Company is awaiting final dismissal of the matter by the trial court.
In May, 2022, the Company became aware that Boulder County is alleging new legal theories and requesting termination of the leases previously at issue in the Blue Paintbrush litigation. No formal action has been initiated, but the Company intends to vigorously defend against all claims alleged by Boulder County. If an action is brought by Boulder County, an adverse outcome in any such litigation could result in the Company failing to meet its development objectives in Blue Paintbrush.
Enforcement. Disclosure of certain environmental matters is required when a governmental authority is a party to the proceedings and the proceedings involve potential monetary sanctions that the Company believes could exceed $0.3 million. The Company has received Notices of Alleged Violations (“NOAV”) from the COGCC alleging violations of various Colorado statutes and COGCC regulations governing oil and gas operations. The Company has further received notices from the Colorado Air Pollution Control Division. The Company continues to engage in discussions regarding resolution of the alleged violations. As of June 30, 2022 and December 31, 2021, the Company has accrued approximately $1.0 million associated with the NOAVs and Colorado Air Pollution Control Division notices, as they are probable and reasonably estimable.
Commitments
Firm Transportation Agreements. The Company is party to one firm pipeline transportation contract to provide a guaranteed outlet for production on an oil pipeline system. The contract requires the Company to pay minimum volume transportation charges on 12,500 barrels (“Bbl”) per day through April 2025, regardless of the amount of pipeline capacity utilized by the Company. The aggregate financial commitment fee over the remaining term was $41.4 million as of June 30, 2022. The Company expects to utilize most, if not all, of the firm capacity on the oil pipeline system.
Minimum Volume Agreement - Oil. The Company is party to a purchase agreement to deliver fixed and determinable quantities of crude oil. Under the terms of the agreement, the Company is required to make periodic deficiency payments for any shortfalls in delivering the minimum gross volume commitment of 16,000 Bbls per day over a term ending in 2023. The aggregate financial commitment fee over the remaining term is $20.0 million as of June 30, 2022. Upon notifying the purchaser at least twelve months prior to the expiration date of the agreement, the Company may elect to extend the term of the agreement for up to three additional years. The Company has not, and does not, expect to incur any deficiency payments.
Minimum Volume Agreement - Gas and Other. The Company is party to a long-term gas gathering and processing agreement (the “Gathering Agreement”) with a third-party midstream provider over a term ending in 2029 with an annual minimum volume commitment of 13.0 billion cubic feet of natural gas. The Gathering Agreement also includes a commitment to sell take-in-kind NGLs from other processing agreements of 7,500 Bbls a day through 2026 with the ability to roll forward up to a 10% shortfall in a given month to the subsequent month. The aggregate financial commitment over the remaining term is $160.2 million as of June 30, 2022, which fluctuates with commodity prices as this is a value-based percentage of proceeds sales contract. Based on current projections, the Company may incur approximately $73.8 million of shortfall payments under the Gathering Agreement during the remaining term of approximately seven years; however, the Company is actively engaging alternative strategies to reduce any potential contract deficiencies incurred in future periods.
Additionally, the Company is also party to a gas gathering and processing agreement with several third-party producers and a third-party midstream provider to deliver to two different plants over terms that end in August 2025 and July 2026. The Company’s share of these commitments requires an incremental 51.5 and 20.6 million cubic feet of natural gas (“MMcf”) per day, respectively, over a baseline volume of 65 MMcf per day for a period of seven years following the in-service dates of the plants. The Company may be required to pay a shortfall fee for any incremental volume deficiencies under these commitments. These contractual obligations can be reduced by the Company’s proportionate share of the collective volumes delivered to the plants by other incremental third-party volumes available to the midstream provider that are in excess of the total commitments. Because of the third-party producer reduction provision, we believe that the aggregate financial commitment fee over the remaining term is zero as of June 30, 2022. The Company has not, and does not, expect to incur any deficiency payments.
The Company is also party to additional individually immaterial agreements that require the Company to pay a fee associated with the minimum volumes regardless of the amount delivered. The aggregate financial commitment fee over the remaining term for these contracts was $11.7 million as of June 30, 2022.
The minimum annual payments under the these agreements for the next five years as of June 30, 2022 are presented below (in thousands): | | | | | | | | | | | | | | |
| | Firm Transportation | | Minimum Volume(1) |
Remainder of 2022 | | $ | 7,360 | | | $ | 30,785 | |
| 2023 | | 14,600 | | | 34,533 | |
| 2024 | | 14,640 | | | 25,818 | |
| 2025 | | 4,800 | | | 22,610 | |
| 2026 | | — | | | 20,987 | |
| 2027 and thereafter | | — | | | 57,200 | |
| Total | | $ | 41,400 | | | $ | 191,933 | |
___________________________
(1)The above calculation is based on the minimum volume commitment schedule (as defined in the relevant agreement) and applicable differential fees.
Other commitments. The Company is party to a drilling commitment agreement with a third-party midstream provider such that the Company is required to drill a total of 106 horizontal wells, whereby a minimum number of wells out of the total must be drilled by a deadline occurring every two years over a period ending December 31, 2026. The drilling commitment agreement provides for, among other things, a number of specifications such as minimum consecutive days of production, well performance, and lateral length. Wells operated by others can satisfy this commitment, subject to limitations. If the Company were to fail to complete the wells by the applicable deadline, it would be in breach of the agreement and the third-party midstream provider could attempt to assert damages against Civitas and its affiliates. As of the date of filing, the Company cannot reasonably estimate how much, if any, damages will be paid.
Refer to Note 13 - Leases for lease commitments.
NOTE 7 - STOCK-BASED COMPENSATION
Long Term Incentive Plans
In April 2017, the Company adopted the 2017 Long Term Incentive Plan (“2017 LTIP”), which provides for the issuance of restricted stock units, performance stock units, and stock options, and reserved 2,467,430 shares of common stock. In June 2021, the Company adopted the 2021 Long Term Incentive Plan (“2021 LTIP”), which reserved an incremental 700,000 shares of common stock to those previously reserved under the 2017 LTIP. Finally, pursuant to the Extraction Merger Agreement, Civitas assumed the Extraction Equity Plan, which reserved 3,305,080 shares of common stock now issuable by Civitas. The 2017 LTIP, 2021 LTIP, and Extraction Equity Plan are collectively referred to herein as the “LTIP”.
In November 2021, the Company adopted a non-employee director compensation program (the “Director Compensation Program”), which provides that non-employee directors will receive grants of deferred stock units (“DSUs”). In connection with the adoption of the Director Compensation Program, the Company adopted a First Amendment to the 2021 LTIP that, among other things, allows the Company to determine whether dividend rights granted pursuant to the LTIP should be reinvested, paid currently or paid in accordance with the terms of an associated award.
The Company records compensation expense associated with the issuance of awards under the LTIP based on the fair value of the awards as of the date of grant within general and administrative expense. The following table outlines the compensation expense recorded by type of award (in thousands): | | | | | | | | | | | | | | | | | | | | | | | |
| Three Months Ended June 30, | | Six Months Ended June 30, |
| 2022 | | 2021 | | 2022 | | 2021 |
| Restricted and deferred stock units | $ | 3,917 | | | $ | 1,746 | | | $ | 9,182 | | | $ | 3,067 | |
| Performance stock units | 2,218 | | | 449 | | | 5,043 | | | 740 | |
| | | | | | | |
| Total stock-based compensation | $ | 6,135 | | | $ | 2,195 | | | $ | 14,225 | | | $ | 3,807 | |
As of June 30, 2022, unrecognized compensation expense related to the awards granted under the LTIP will be amortized through the relevant periods as follows (in thousands): | | | | | | | | | | | |
| Unrecognized Compensation Expense | | Final Year of Recognition |
| Restricted and deferred stock units | $ | 23,595 | | | 2025 |
| Performance stock units | 18,951 | | | 2024 |
| Total unrecognized stock-based compensation | $ | 42,546 | | | |
Restricted Stock Units (“RSUs”) and Deferred Stock Units
The Company typically grants RSUs to officers, directors, and employees and DSUs to directors as part of its LTIP. Each RSU and DSU represents a right to receive one share of the Company's common stock upon settlement of the award at the end of the specified vesting period.
RSUs generally vest and settle either over a (i) one-year vesting period, with the entire grant vesting and settling on the anniversary date or (ii) three-year vesting period, with one-third of the total grant vesting and settling on each anniversary date. DSUs generally vest in quarterly installments over a one-year period following the grant date. DSUs are settled in shares of the Company's common stock upon the director’s separation of service from the Board. The Company records compensation expense associated with the issuance of RSUs and DSUs on a straight-line basis over the vesting period based on the fair value of the awards as of the date of grant within general and administrative expense. The fair value of RSUs and DSUs is equal to the closing price of the Company’s common stock on the date of the grant.
A summary of the status and activity of non-vested RSUs and DSUs for the six months ended June 30, 2022 is presented below: | | | | | | | | | | | |
| | RSUs and DSUs | | Weighted-Average Grant-Date Fair Value |
| Non-vested, beginning of year | 815,062 | | | $ | 42.18 | |
| Granted | 492,002 | | | 50.24 | |
| Vested | (574,865) | | | 42.80 | |
| Forfeited | (30,399) | | | 41.15 | |
| Non-vested, end of year | 701,800 | | | $ | 47.36 | |
The fair value of the RSUs and DSUs granted under the LTIP during the six months ended June 30, 2022 was $24.7 million.
Performance Stock Units (“PSUs”)
The Company grants PSUs to officers as part of its LTIP. The number of shares of the Company’s common stock issued to settle PSUs ranges from zero to two times the number of PSUs granted and is determined based on performance achievement against certain criteria over a three-year performance period. PSUs generally vest and settle on the third anniversary of the date of the grant.
Performance achievement is determined based on one to two criteria. The first criterion is based on either, or a combination of, the Company’s absolute and relative total shareholder return (“TSR”) over the performance period. Absolute TSR is determined based upon the performance of the Company's common stock over the performance period relative to the price of the Company's common stock at the grant date. For awards with a relative TSR component, the Company's absolute TSR is compared with the absolute TSRs of a group of peer companies over the performance period. The absolute TSR for the Company and each of the peer companies is determined by dividing (A) (i) the volume-weighted average share price for the last 30 trading days of the performance period, minus (ii) the volume-weighted average share price for the 30 trading days preceding the beginning of the performance period, plus (iii) dividends paid by (B) the volume-weighted average share price for the 30 trading days preceding the beginning of the performance period. The second criterion, if applicable, is based on the Company's annual return on average capital employed (“ROCE”) for each year during the three-year performance period.
The total number of PSUs granted under the LTIP was split as follows for the relevant grant years: | | | | | | | | | | | | | | | | | |
| 2022 | | 2021 | | 2020 |
| TSR | 100 | % | | 100 | % | | 67 | % |
| ROCE | — | % | | — | % | | 33 | % |
As the 2020 PSUs depend on a performance-based settlement criterion, compensation expense may be adjusted in future periods as the number of units expected to vest increases or decreases based on the Company’s expected ROCE performance.
Of the grant-date fair value, the portion of the PSUs tied to TSR performance required a stochastic process method using a Brownian Motion simulation. A stochastic process is a mathematically defined equation that can create a series of outcomes over time. These outcomes are not deterministic in nature, which means that by iterating the equations multiple times, different results will be obtained for those iterations. In the case of the PSUs tied to TSR performance, the Company could not predict with certainty the path its stock price or the stock prices of its peers would take over the performance period. By using a stochastic simulation, the Company created multiple prospective stock pathways, statistically analyzed these simulations, and ultimately made inferences regarding the most likely path the stock price would take. As such, because future stock prices are stochastic, or probabilistic with some direction in nature, the stochastic method, specifically the Brownian Motion Model, was deemed an appropriate method by which to determine the fair value of the portion of the PSUs tied to TSR performance. Significant assumptions used in this simulation include the Company’s expected volatility, risk-free interest rate based on U.S. Treasury yield curve rates with maturities consistent with the performance period, as well as the volatilities for each of the Company’s peers.
A summary of the status and activity of non-vested PSUs for the six months ended June 30, 2022 is presented below: | | | | | | | | | | | |
| | PSUs (1) | | Weighted-Average Grant-Date Fair Value |
| Non-vested, beginning of year | 319,367 | | | $ | 57.58 | |
| Granted | 199,317 | | | 64.23 | |
| Vested | (91,523) | | | 32.49 | |
| | | |
| Expired | (41,955) | | | 22.77 | |
| Non-vested, end of year | 385,206 | | | $ | 70.77 | |
___________________________
(1)The number of awards assumes that the associated performance condition is met at the target amount (multiplier of one). The final number of shares of the Company’s common stock issued may vary depending on the performance multiplier, which ranges from zero to two, depending on the level of satisfaction of the performance condition.
The fair value of the PSUs granted under the LTIP during the six months ended June 30, 2022 was $12.8 million.
The PSUs tied to TSR performance granted in 2019 vested as of December 31, 2021 and were released during the three months ended March 31, 2022 with a 200% distribution of shares to the recipients. The PSUs tied to ROCE performance granted in 2019 expired, with zero distribution of shares to the recipients.
Stock Options
The LTIP allows for the issuance of stock options to the Company's employees at the sole discretion of the Board. Options expire ten years from the grant date unless otherwise determined by the Board. Compensation expense on the stock options is recognized as general and administrative expense over the vesting period of the award.
Stock options are valued using a Black-Scholes Model where expected volatility is based on an average historical volatility of a peer group selected by management over a period consistent with the expected life assumption on the grant date, the risk-free rate of return is based on the U.S. Treasury constant maturity yield on the grant date with a remaining term equal to the expected term of the awards, and the Company’s expected life of stock option awards is derived from the midpoint of the average vesting time and contractual term of the awards.
A summary of the status and activity of non-vested stock options for the six months ended June 30, 2022 is presented below: | | | | | | | | | | | | | | | | | | | | | | | |
| | Stock Options | | Weighted-
Average
Exercise Price | | Weighted-Average Remaining Contractual Term (in years) | | Aggregate Intrinsic Value (in thousands) |
| Outstanding, beginning of year | 25,549 | | | $ | 34.36 | | | | | |
| | | | | | | |
| Exercised | (6,036) | | | 34.36 | | | | | |
| Forfeited | (111) | | | 34.36 | | | | | |
| Outstanding, end of year | 19,402 | | | $ | 34.36 | | | 4.5 | | $ | 348 | |
| Options outstanding and exercisable | 19,402 | | | $ | 34.36 | | | 4.5 | | $ | 348 | |
The aggregate intrinsic value of options exercised during the six months ended June 30, 2022 was $0.1 million.
NOTE 8 - FAIR VALUE MEASUREMENTS
The Company follows authoritative accounting guidance for measuring the fair value of assets and liabilities in its financial statements. This guidance defines fair value as the price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement date. Further, this guidance establishes a hierarchy for inputs used in measuring fair value that maximizes the use of observable inputs and minimizes the use of unobservable inputs by requiring that the most observable inputs be used when available.
The fair value hierarchy is broken down into three levels based on the reliability of the inputs as follows:
Level 1: Quoted prices in active markets for identical assets or liabilities
Level 2: Quoted prices in active markets for similar assets and liabilities, quoted prices for identical or similar instruments in markets that are not active, and model-derived valuations whose inputs are observable or whose significant value drivers are observable
Level 3: Significant inputs to the valuation model are unobservable
Financial and non-financial assets and liabilities are classified 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 to the fair value measurement requires judgment and may affect the valuation of the fair value of assets and liabilities and their placement within the fair value hierarchy.
Derivatives
The Company uses Level 2 inputs to measure the fair value of oil, gas, and NGL commodity price derivatives. The fair value of the Company's commodity price derivatives is estimated using industry-standard models that contemplate various inputs including, but not limited to, the contractual price of the underlying position, current market prices, forward commodity price curves, volatility factors, time value of money, and the credit risk of both the Company and its counterparties. We validate our fair value estimate by corroborating the original source of inputs, monitoring changes in valuation methods and assumptions, and reviewing counterparty mark-to-market statements and other supporting documentation. Refer to Note 9 - Derivatives for more information regarding the Company’s derivative instruments.
The following tables present the Company’s financial assets and liabilities that were accounted for at fair value on a recurring basis as of June 30, 2022 and December 31, 2021 and their classification within the fair value hierarchy (in thousands): | | | | | | | | | | | | | | | | | |
| | As of June 30, 2022 |
| Level 1 | | Level 2 | | Level 3 |
| Derivative assets | $ | — | | | $ | — | | | $ | — | |
| Derivative liabilities | $ | — | | | $ | 321,825 | | | $ | — | |
| | | | | | | | | | | | | | | | | |
| | As of December 31, 2021 |
| | Level 1 | | Level 2 | | Level 3 |
| Derivative assets | $ | — | | | $ | 3,393 | | | $ | — | |
| Derivative liabilities | $ | — | | | $ | 239,763 | | | $ | — | |
Long-Term Debt
The 5.0% Senior Notes are recorded at cost, net of any unamortized deferred financing costs. As of June 30, 2022, the fair value of the 5.0% Senior Notes was $358.4 million. This fair value is based on quoted market prices, and as such, is designated as Level 1 within the fair value hierarchy. The recorded value of the Credit Facility approximates its fair value as it bears interest at a floating rate that approximates a current market rate. Please refer to Note 5 - Long-Term Debt for additional information.
Warrants
As discussed in Note 2 - Acquisitions and Divestitures, the Company issued warrants in connection with the Extraction Merger. The warrants issued are indexed to the Company’s common stock and are required to be net share settled via a cashless exercise. The Company evaluated the warrants under authoritative accounting guidance and determined that they should be classified as equity instruments. The Company's share price traded below the exercise price of the warrants and therefore were not exercisable during the three and six months ended June 30, 2022.
The fair value of the warrants on the issuance date was determined using Level 3 inputs including, but not limited to, volatility, risk-free rate, and dividend yield under the Cox-Ross-Rubinstein binomial option pricing model. The warrants were included as a component of merger consideration and are recorded within additional paid-in capital on the accompanying balance sheets at a fair value of $77.5 million, with no recurring fair value measurement required. There have been no changes to the initial carrying amount of the warrants since issuance.
Acquisitions and Impairments of Proved Properties
We utilize the acquisition method to account for acquisitions of businesses. Pursuant to this method, we allocate the cost of the acquisition, or purchase price, to assets acquired and liabilities assumed based on fair values as of the acquisition date. Proved and unproved properties are valued based on a discounted cash flow approach utilizing Level 3 inputs, including, amongst other things, reserve quantities and classification, pace of drilling plans, future commodity prices, future development and lease operating costs, and discount rates using a market-based weighted average cost of capital determined at the time of the acquisition. When estimating the fair value of unproved properties, additional risk-weighting adjustments are applied to probable and possible reserves. Net derivative liabilities assumed are valued based on Level 2 inputs similar to the Company's other commodity price derivatives.
Whenever events or circumstances indicate that the carrying value of proved properties may not be recoverable, the Company uses Level 3 inputs to measure and record impairment at fair value. There were no proved property impairments during the three and six months ended June 30, 2022 and 2021.
Impairments of Unproved Properties
Unproved properties are routinely evaluated for continued capitalization or impairment. On a quarterly basis, management assesses undeveloped leasehold costs for impairment by considering, among other things, remaining lease terms, future drilling plans and capital availability to execute such plans, commodity price outlooks, recent operational results, reservoir performance and geology, and estimated acreage value based on prices received for similar, recent acreage transactions by the Company or other market participants. During the three months ended June 30, 2022 and 2021, the Company incurred abandonment and impairment of unproved properties expense of zero and $2.2 million, respectively. During the six months ended June 30, 2022 and 2021, the Company incurred abandonment and impairment of unproved properties expense of $18.0 million and $2.2 million, respectively.
NOTE 9 - DERIVATIVES
The Company periodically enters into commodity derivative contracts to mitigate a portion of its exposure to potentially adverse market changes in commodity prices for its expected future oil, natural gas, and NGL production and the associated impact on cash flows. The Company's commodity derivative contracts consist of swap and collar arrangements as well as roll differential swaps. As of June 30, 2022, all derivative counterparties were members of the Credit Facility lender group and all commodity derivative contracts are entered into for other-than-trading purposes. The Company does not designate its commodity derivative contracts as hedging instruments.
In a typical swap arrangement, if the agreed upon published third-party index price (“index price”) is lower than the fixed contract price at the time of settlement, the Company receives the difference between the index price and the fixed contract price. If the index price is higher than the fixed contact price at the time of settlement, the Company pays the difference between the index price and the fixed contract price.
A typical collar arrangement effectively establishes a floor and ceiling price on contracted volumes through the use of a short call and a long put (“two-way collar”). When the index price is above the ceiling price at the time of settlement, the Company pays the difference between the index price and the ceiling price. When the index price is below the floor price at the time of settlement, the Company receives the difference between the index price and floor price. When the index price is between the floor price and ceiling price, no payment or receipt occurs. A minority of our collar arrangements combine a two-way collar with a short put that holds an exercise price below the floor price (“three-way collar”). In these arrangements, when the index price is below the floor price at the time of settlement, the Company receives the difference between the index price and the floor price, capped at the difference between the floor price and the exercise price of the short put.
The Company has also entered into crude oil swap contracts to fix the differential in pricing between the NYMEX calendar month average and the physical crude oil delivery month (“Roll Differential”) in which the Company pays the periodic variable Roll Differential and receives a weighted-average fixed price differential. The weighted-average differential represents the amount of reduction to NYMEX West Texas Intermediate (“WTI”) prices for the notional volumes covered by the swap contracts.
As of June 30, 2022, the Company had entered into the following commodity price derivative contracts:
| | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | |
| | Contract Period |
| | Q3 2022 | | Q4 2022 | | Q1 2023 | | Q2 2023 | | Q3 - Q4 2023 | | 2024 |
Oil Derivatives (volumes in Bbl/day and prices in $/Bbls) | | | | | | | | | | | | |
| Swaps | | | | | | | | | | | | |
| NYMEX WTI Volumes | | 10,507 | | 9,538 | | 457 | | 448 | | 364 | | 479 |
| Weighted-Average Contract Price | | $ | 47.00 | | | $ | 46.84 | | | $ | 45.42 | | | $ | 46.29 | | | $ | 46.77 | | | $ | 53.96 | |
| Two-Way Collars | | | | | | | | | | | | |
| NYMEX WTI Volumes | | 8,296 | | 7,393 | | 1,054 | | — | | — | | — |
| Weighted-Average Ceiling Price | | $ | 68.43 | | | $ | 69.63 | | | $ | 72.70 | | | $ | — | | | $ | — | | | $ | — | |
| Weighted-Average Floor Price | | $ | 40.66 | | | $ | 40.97 | | | $ | 40.00 | | | $ | — | | | $ | — | | | $ | — | |
| Three-Way Collars | | | | | | | | | | | | |
| NYMEX WTI Volumes | | 2,241 | | 1,738 | | 1,721 | | 1,436 | | 1,237 | | 143 |
| Weighted-Average Ceiling Price | | $ | 58.03 | | | $ | 57.78 | | | $ | 58.75 | | | $ | 57.69 | | | $ | 57.01 | | | $ | 56.25 | |
| Weighted-Average Floor Price | | $ | 48.59 | | | $ | 48.42 | | | $ | 49.31 | | | $ | 48.10 | | | $ | 48.45 | | | $ | 45.00 | |
| Weighted-Average Sold Put Price | | $ | 38.59 | | | $ | 38.42 | | | $ | 39.25 | | | $ | 37.70 | | | $ | 38.18 | | | $ | 35.00 | |
Roll Differential Swaps (1) | | | | | | | | | | | | |
| NYMEX WTI Volumes | | 2,000 | | 2,000 | | — | | — | | — | | — |
| Weighted-Average Contract Price | | $ | 0.22 | | | $ | 0.22 | | | $ | — | | | $ | — | | | $ | — | | | $ | — | |
Natural Gas Derivatives (volumes in MMBtu/day and prices in $/million British thermal units (“MMBtu”)) | | | | | | | | | | | | |
| Swaps | | | | | | | | | | | | |
| NYMEX HH Volumes | | 54,952 | | 54,783 | | 44,641 | | 43,911 | | 43,868 | | 22,309 |
| Weighted-Average Contract Price | | $ | 2.76 | | | $ | 2.76 | | | $ | 2.51 | | | $ | 2.51 | | | $ | 2.51 | | | $ | 2.57 | |
| CIG Volumes | | 10,000 | | 10,000 | | — | | — | | — | | — |
| Weighted-Average Contract Price | | $ | 2.13 | | | $ | 2.13 | | | $ | — | | | $ | — | | | $ | — | | | $ | — | |
| Two-Way Collars | | | | | | | | | | | | |
| NYMEX HH Volumes | | 81,018 | | 79,148 | | 9,558 | | 1,563 | | 1,822 | | 1,033 |
| Weighted-Average Ceiling Price | | $ | 3.68 | | | $ | 3.69 | | | $ | 3.23 | | | $ | 2.78 | | | $ | 2.96 | | | $ | 3.05 | |
| Weighted-Average Floor Price | | $ | 2.59 | | | $ | 2.60 | | | $ | 2.03 | | | $ | 2.21 | | | $ | 2.36 | | | $ | 2.38 | |
| | | | | | | | | | | | |
| | | | | | | | | | | | |
| | | | | | | | | | | | |
| Three-Way Collars | | | | | | | | | | | | |
| NYMEX HH Volumes | | 136 | | 127 | | 899 | | 505 | | — | | 303 |
| Weighted-Average Ceiling Price | | $ | 2.74 | | | $ | 2.74 | | | $ | 3.19 | | | $ | 3.33 | | | $ | — | | | $ | 3.49 | |
| Weighted-Average Floor Price | | $ | 2.50 | | | $ | 2.50 | | | $ | 2.50 | | | $ | 2.50 | | | $ | — | | | $ | 2.50 | |
| Weighted-Average Sold Put Price | | $ | 2.00 | | | $ | 2.00 | | | $ | 2.00 | | | $ | 2.00 | | | $ | — | | | $ | 2.00 | |
| NGL Derivatives (volumes in Bbls/day and prices in $/Bbl) | | | | | | | | | | | | |
| Swaps | | | | | | | | | | | | |
| OPIS Basket Volumes | | 4,000 | | 4,000 | | — | | — | | — | | — |
| Weighted-Average Contract Price | | $ | 20.22 | | | $ | 20.22 | | | $ | — | | | $ | — | | | $ | — | | | $ | — | |
______________________________(1) The weighted-average differential represents the amount of reduction to NYMEX WTI prices for the notional volumes covered by the swap contracts.
Derivative Assets and Liabilities Fair Value
The Company’s commodity price derivatives are measured at fair value and are included in the accompanying balance sheets as derivative assets and liabilities. The following table contains a summary of all the Company’s derivative positions reported on the accompanying balance sheets as well as a reconciliation between the gross assets and liabilities and the potential effects of master netting arrangements on the fair value of the Company’s commodity derivative contracts as of June 30, 2022 and December 31, 2021 (in thousands):
| | | | | | | | | | | | | | |
| | June 30, 2022 | | December 31, 2021 |
| Derivative Assets: | | | | |
| Commodity contracts - current | | $ | — | | | $ | 3,393 | |
| Commodity contracts - noncurrent | | — | | | — | |
| Total derivative assets | | — | | | 3,393 | |
| Amounts not offset in the accompanying balance sheets | | — | | | (3,393) | |
| Total derivative assets, net | | $ | — | | | $ | — | |
| | | | |
| Derivative Liabilities: | | | | |
| Commodity contracts - current | | $ | (278,600) | | | $ | (219,804) | |
| Commodity contracts - long-term | | (43,225) | | | (19,959) | |
| Total derivative liabilities | | (321,825) | | | (239,763) | |
| Amounts not offset in the accompanying balance sheets | | — | | | 3,393 | |
| Total derivative liabilities, net | | $ | (321,825) | | | $ | (236,370) | |
The following table summarizes the components of the derivative loss presented on the accompanying statements of operations for the periods below (in thousands): | | | | | | | | | | | | | | | | | | | | | | | |
| | Three Months Ended June 30, | | Six Months Ended June 30, |
| 2022 | | 2021 | | 2022 | | 2021 |
| Derivative cash settlement loss: | | | | | | | |
| Oil contracts | $ | (114,778) | | | $ | (18,794) | | | $ | (239,940) | | | $ | (21,616) | |
| Gas contracts | (54,091) | | | (1,405) | | | (82,875) | | | (2,374) | |
| NGL contracts | (12,762) | | | — | | | (25,394) | | | — | |
| Total derivative cash settlement loss | (181,631) | | | (20,199) | | | (348,209) | | | (23,990) | |
| Change in fair value gain (loss) | 108,981 | | | (53,771) | | | (19,934) | | | (73,399) | |
| Total derivative loss | $ | (72,650) | | | $ | (73,970) | | | $ | (368,143) | | | $ | (97,389) | |
NOTE 10 - ASSET RETIREMENT OBLIGATIONS
The Company recognizes an estimated liability for future costs associated with the abandonment of its oil and gas properties, including facilities requiring decommissioning. A liability for the fair value of an asset retirement obligation and corresponding increase to the carrying value of the related long-lived asset are recorded at the time a well is drilled or acquired, or a facility is constructed. The increase in carrying value is included in the proved properties line item in the accompanying balance sheets. The Company depletes the amount added to proved properties and recognizes expense in connection with the accretion of the discounted liability over the remaining estimated economic lives of the respective long-lived assets. Cash paid to settle asset retirement obligations is included in the cash flows from operating activities section of the accompanying statements of cash flows.
The Company’s estimated asset retirement obligation liability is based on historical experience plugging and abandoning wells, estimated economic lives, estimated plugging and abandonment cost, and regulatory requirements. The liability is discounted using the credit-adjusted risk-free rate estimated at the time the liability is incurred or revised.
A roll-forward of the Company's asset retirement obligation is as follows (in thousands): | | | | | |
| Amount |
Balance as of December 31, 2021 | $ | 225,315 | |
| Additional liabilities incurred | 2,072 | |
| Accretion expense | 8,102 | |
| Liabilities settled | (8,385) | |
| |
| |
Balance as of June 30, 2022 | $ | 227,104 | |
| Current portion | 24,000 | |
| Long-term portion | $ | 203,104 | |
NOTE 11 - EARNINGS PER SHARE
Earnings per basic and diluted share are calculated under the treasury stock method. Basic net income (loss) per common share is calculated by dividing net income (loss) by the basic weighted-average common shares outstanding for the respective period. Diluted net income (loss) per common share is calculated by dividing net income (loss) by the diluted weighted-average common shares outstanding, which includes the effect of potentially dilutive securities. Potentially dilutive securities consist of unvested RSUs, DSUs, PSUs as well as outstanding in-the-money stock options and warrants. When the Company recognizes a loss from continuing operations, all potentially dilutive shares are anti-dilutive and are consequently excluded from the calculation of diluted earnings per share.
The Company issues RSUs and DSUs, which represent the right to receive, upon vesting, one share of the Company's common stock. The number of potentially dilutive shares related to unvested RSUs and DSUs is based on the number of shares, if any, that would be issuable at the end of the respective reporting period, assuming that date was the end of the vesting period. The Company issues PSUs, which represent the right to receive, upon settlement of the PSUs, a number of shares of the Company's common stock that ranges from zero to two times the number of PSUs granted on the award date. The number of potentially dilutive shares related to PSUs is based on the number of shares, if any, that would be issuable at the end of the respective reporting period, assuming that date was the end of the performance period applicable to such PSUs. The Company has also issued stock options and warrants, which both represent the right to purchase the Company's common stock at a specified exercise price. The number of potentially dilutive shares related to the stock options and warrants is based on the number of shares, if any, that would be exercisable at the end of the respective reporting period, assuming the date was the end of such stock options' or warrants' term. Stock options and warrants are only dilutive when the average price of the common stock during the period exceeds the exercise price. Please refer to Note 7 - Stock-Based Compensation for additional discussion.
The following table sets forth the calculations of basic and diluted net income (loss) per common share (in thousands, except per share amounts): | | | | | | | | | | | | | | | | | | | | | | | |
| Three Months Ended June 30, | | Six Months Ended June 30, |
| 2022 | | 2021 | | 2022 | | 2021 |
| Net income (loss) | $ | 468,821 | | | $ | (25,319) | | | $ | 560,460 | | | $ | (25,438) | |
| | | | | | | |
| Basic net income (loss) per common share | $ | 5.52 | | | $ | (0.83) | | | $ | 6.60 | | | $ | (0.99) | |
| Diluted net income (loss) per common share | $ | 5.48 | | | $ | (0.83) | | | $ | 6.56 | | | $ | (0.99) | |
| | | | | | | |
| Weighted-average shares outstanding - basic | 84,993 | | | 30,655 | | | 84,917 | | | 25,774 | |
| Add: dilutive effect of contingent stock awards | 561 | | | — | | | 536 | | | — | |
| Weighted-average shares outstanding - diluted | 85,554 | | | 30,655 | | | 85,453 | | | 25,774 | |
There were 59,161 and 747,678 shares that were anti-dilutive for the three months ended June 30, 2022 and 2021, respectively. There were 30,822 and 777,564 shares that were anti-dilutive for the six months ended June 30, 2022 and 2021, respectively.
The exercise price of the Company's warrants was in excess of the Company's stock price during the three and six months ended June 30, 2022; therefore, they were excluded from the earnings per share calculation.
NOTE 12 - INCOME TAXES
Deferred tax assets and liabilities are measured by applying the provisions of enacted tax laws to determine the amount of taxes payable or refundable currently or in future years related to cumulative temporary differences between the tax basis of assets and liabilities and amounts reported in the accompanying balance sheets. The tax effect of the net change in the cumulative temporary differences during each period in the deferred tax assets and liabilities determines the periodic provision for deferred taxes.
The following table outlines the Federal net operating loss (“NOL”) carryforwards acquired and deferred tax assets and liabilities recorded as a result of the mergers that closed in 2021 (in millions): | | | | | | | | | | | | | | | | | |
| HighPoint Merger | | Extraction Merger | | Crestone Peak Merger |
| Federal NOL carryforwards | $ | 219.0 | | | $ | 479.9 | | | $ | 555.7 | |
| | | | | |
| Deferred tax asset (liability) | $ | 110.5 | | | $ | 49.2 | | | $ | (125.1) | |
| Valuation allowance | (48.1) | | | — | | | — | |
| Net | $ | 62.4 | | | $ | 49.2 | | | $ | (125.1) | |
| | | | | |
| | | | | |
The Company assesses the recoverability of its deferred tax assets each period by considering whether it is more likely than not that all or a portion of the deferred tax assets will be realized. In making such determination, the Company considers all available (both positive and negative) evidence, including future reversals of temporary differences, tax-planning strategies, projected future taxable income, and results of operations. As a result of the HighPoint Merger, the Company recorded a valuation allowance of $48.1 million during 2021 against certain acquired net operating losses and other tax attributes due to the limitation on realizability caused by the change of ownership provisions of Section 382 of the Code. The net deferred tax liability as of June 30, 2022 was $107.9 million, and the net deferred tax asset as of December 31, 2021 was $22.3 million. Additionally, income tax payable under current liabilities as of June 30, 2022 was $50.4 million. The Company will continue to monitor facts and circumstances in the reassessment of the likelihood that the deferred tax assets will be realized.
Federal income tax expense differs from the amount that would be provided by applying the statutory United States federal income tax rate of 21% to income before income taxes primarily due to the effect of state income taxes, equity-based compensation, and other permanent differences including bargain purchase gain. During the three months ended June 30, 2022 and 2021, the Company recorded income tax expense of $152.5 million and income tax benefit of $10.4 million, respectively. During the six months ended June 30, 2022 and 2021, the Company recorded income tax expense of $175.8 million and income tax benefit of $10.4 million, respectively.
The Company had no unrecognized tax benefits as of June 30, 2022 and December 31, 2021. The Company's management does not believe that there are any new items or changes in facts or judgments that would impact the Company's tax position taken thus far in 2022.
NOTE 13 - LEASES
The Company’s right-of-use assets and lease liabilities are recognized on the accompanying balance sheets based on the present value of the expected lease payments over the lease term. The following table summarizes the asset classes of the Company's operating leases (in thousands):
| | | | | | | | | | | | | | |
| | June 30, 2022 | | December 31, 2021 |
| Operating Leases | | | | |
Field equipment(1) | | $ | 22,608 | | | $ | 29,312 | |
| Corporate leases | | 8,024 | | | 9,484 | |
| Vehicles | | 855 | | | 1,089 | |
| Total right-of-use asset | | $ | 31,487 | | | $ | 39,885 | |
| | | | |
Field equipment(1) | | $ | 22,608 | | | $ | 29,312 | |
| Corporate leases | | 8,565 | | | 9,870 | |
| Vehicles | | 855 | | | 1,089 | |
| Total lease liability | | $ | 32,028 | | | $ | 40,271 | |
| | | | |
| | | | |
| | | | |
| | | | |
____________________________
(1) Includes compressors, certain natural gas processing equipment, and other field equipment.
The Company incurred gross short-term lease costs of $11.3 million and $0.2 million for the three months ended June 30, 2022 and 2021, respectively. The Company incurred gross short-term lease costs of $20.4 million and $0.2 million for the six months ended June 30, 2022 and 2021, respectively. A portion of these costs may have been or will be billed to other working interest owners, and the Company's net share of these costs, once paid, are capitalized to property and equipment or recognized as expense.
Future commitments by year for the Company's leases with a lease term of one year or more as of June 30, 2022 are presented in the table below. Such commitments are reflected at undiscounted values and are reconciled to the discounted present value recognized on the accompanying balance sheets as follows (in thousands): | | | | | | | | |
| | Operating Leases |
| Remainder of 2022 | | $ | 10,210 | |
| 2023 | | 13,523 | |
| 2024 | | 5,414 | |
| 2025 | | 1,742 | |
| 2026 | | 1,207 | |
| Thereafter | | 1,587 | |
| Total lease payments | | 33,683 | |
| Less: imputed interest | | (1,655) | |
| Total lease liability | | $ | 32,028 | |
NOTE 14 - SUBSEQUENT EVENTS
On July 5, 2022, the Company entered into and closed on Purchase and Sale Agreements to acquire non-operating interests in certain of the Company's operated wells for cash consideration of $81.6 million, subject to customary purchase price adjustments.