Execution Version
REGISTRATION RIGHTS AGREEMENT
This REGISTRATION RIGHTS AGREEMENT (this “Agreement”) is made and entered into as of July 3, 2023, by and between Callon Petroleum Company, a Delaware corporation (the “Company”), and Percussion Petroleum Management II, LLC, a Delaware limited liability company (the “Initial Holder”).
WHEREAS, the Company entered into a Membership Interest Purchase Agreement, dated as of May 3, 2023, by and among the Initial Holder, Percussion Petroleum Operating II, LLC, a Delaware limited liability company, Callon Petroleum Operating Company, a Delaware corporation, and the Company (the “Purchase Agreement”);
WHEREAS, under the Purchase Agreement, the Initial Holder is entitled to receive shares of Common Stock;
WHEREAS, the Company has agreed to provide the registration and other rights set forth in this Agreement for the benefit of the Holders pursuant to the Purchase Agreement; and
WHEREAS, it is a condition to the obligations of the Initial Holder and the Company under the Purchase Agreement that this Agreement be executed and delivered.
NOW THEREFORE, in consideration of the premises, mutual covenants and agreements set forth herein and for good and valuable consideration, the receipt and sufficiency of which are hereby acknowledged by each party hereto, the parties hereby agree as follows:
ARTICLE I
DEFINITIONS
Section 1.01 Definitions. The terms set forth below are used herein as so defined:
“Adoption Agreement” means an Adoption Agreement substantially in the form attached hereto as Exhibit A.
“Affiliate” shall have the meaning ascribed to it, on the date hereof, in Rule 405 under the Securities Act.
“Agreement” has the meaning specified therefor in the introductory paragraph of this Agreement.
“Block Trade” has the meaning specified therefor in Section 2.04(a) of this Agreement.
“Board” means the Board of Directors of the Company.
“Business Day” means any day other than a Saturday, Sunday, any federal legal holiday or day on which banking institutions in the State of New York or State of Texas are authorized or required by law or other governmental action to close.
“Closing Date” means the date of consummation of the transactions contemplated by the Purchase Agreement.
“Common Stock” means the shares of common stock, par value $0.01 per share, of the Company.
“Company” has the meaning specified therefor in the introductory paragraph of this Agreement.
“Demand Registration Request” has the meaning specified therefor in Section 2.03(a) of this Agreement.
“EDGAR” has the meaning specified therefor in Section 2.05(i) of this Agreement.
“Effective Date” means, with respect to a particular Shelf Registration Statement, the date of effectiveness of such Shelf Registration Statement.
“Effectiveness Period” means the period beginning on the Effective Date for the Registration Statement and ending at the time all Registrable Securities covered by such Registration Statement have ceased to be Registrable Securities.
“Eligible Holder” means the Initial Holder if, as of the date of determination, it holds Registrable Securities representing greater than 3% of the Company’s total outstanding shares of Common Stock.
“Exchange Act” means the Securities Exchange Act of 1934, as amended and the rules and regulations of the SEC promulgated thereunder.
“Freely Tradable” means, with respect to any security, that such security, when held by the holder thereof, may legally be distributed to the public under Rule 144 under the Securities Act and is no longer subject to the restrictions on trading under the provisions of Rule 144 under the Securities Act (or any successor rule or regulation to Rule 144 then in force), including volume and manner of sale restrictions, and the current public information requirement of Rule 144(e) (or any successor rule or regulation to Rule 144 then in force) no longer applies.
“Governmental Authority” means any federal, state, local or foreign government, or other governmental, regulatory or administrative authority, agency or commission or any court, tribunal, or judicial or arbitral body.
“Holder” means the holder of any Registrable Securities.
“Included Registrable Securities” has the meaning specified therefor in Section 2.02(a) of this Agreement.
“Initial Holder” has the meaning specified therefor in the introductory paragraph of this Agreement.
“Initiating Holder” has the meaning specified therefor in Section 2.03(b) of this Agreement.
“Law” means any statute, law, ordinance, regulation, rule, order, code, governmental restriction, decree, injunction or other requirement of law, or any judicial or administrative interpretation thereof, of any Governmental Authority.
“Losses” has the meaning specified therefor in Section 2.09(a) of this Agreement.
“Managing Underwriter” means, with respect to any Underwritten Offering, the book-running lead manager of such Underwritten Offering.
“NYSE” means The New York Stock Exchange, Inc.
“Opt-Out Notice” has the meaning specified therefor in Section 2.02(a) of this Agreement.
“Other Coordinated Offering” has the meaning specified therefor in Section 2.04(a) of this Agreement.
“Permitted Transferee” means (a) with respect to the Initial Holder or any other Person described in this clause (a) that becomes a Holder, (i) any of the direct or indirect partners, stockholders or members of such Holder or (ii) any trust, family partnership or family limited liability company, the sole beneficiaries, partners or members of which are a Person described in the foregoing clause (i) or Relatives of such a Person, and (b) with respect to any Holder, any Affiliate of such Holder.
“Person” means an individual or a corporation, limited liability company, joint venture, trust, unincorporated organization, association, government agency or political subdivision thereof or other entity.
“Purchase Agreement” has the meaning specified therefor in the recitals of this Agreement.
“Registrable Securities” means, subject to Section 1.02, the Common Stock to be issued to the Initial Holder pursuant to the Purchase Agreement, including any shares of Common Stock which may be issued or distributed in respect of such shares of Common Stock by way of conversion, concession, stock dividend or stock split or other distribution, recapitalization or reclassification or similar transaction.
“Registration Expenses” has the meaning specified therefor in Section 2.08(b) of this Agreement.
“Registration Statement” has the meaning specified therefor in Section 2.01 of this Agreement.
“Relative” means, with respect to any individual: (a) such individual’s spouse, (b) any lineal descendant, parent, grandparent, great grandparent or sibling of such individual or any lineal descendant of any such sibling (in each case whether by blood or legal adoption), and (c) the spouse of an individual person described in clause (b) of this definition.
“Requesting Holder” has the meaning specified therefor in Section 2.03(a) of this Agreement.
“Required Holders” means the Holder or collective Holders of greater than 50% of the Registrable Securities.
“Restricted Shares” means one-half of the shares of Common Stock to be issued to the Initial Holder pursuant to the Purchase Agreement on the Closing Date; provided, that, for the avoidance of doubt, the Restricted Shares shall be comprised, in part, by 100% of the Indemnity Holdback Shares (as defined in the Purchase Agreement) with the remainder of the Restricted Shares being comprised of Common Stock issued to the Initial Holder pursuant to the Purchase
Agreement on the Closing Date other than the Indemnity Holdback Shares (as defined in the Purchase Agreement).
“Rule 405” means Rule 405 under the Securities Act (or any successor or similar provision adopted by the SEC then in effect).
“SEC” means the U.S. Securities and Exchange Commission.
“Securities Act” means the Securities Act of 1933, as amended, and the rules and regulations of the SEC promulgated thereunder.
“Selling Expenses” has the meaning specified therefor in Section 2.08(b) of this Agreement.
“Selling Holder” means a Holder who is selling Registrable Securities under a Registration Statement pursuant to the terms of this Agreement.
“Selling Holder Indemnified Persons” has the meaning specified therefor in Section 2.09(a) of this Agreement.
“Shelf Registration Statement” means a registration statement under the Securities Act to permit the public resale of the Registrable Securities from time to time as permitted by Rule 415 under the Securities Act (or any successor or similar provision adopted by the SEC then in effect).
“Underwritten Offering” means an offering (including an offering pursuant to a Shelf Registration Statement) in which Registrable Securities are sold to one or more underwriters on a firm commitment basis for reoffering to the public or an offering that is a “bought deal” with one or more investment banks.
“WKSI” means a “well known seasoned issuer” as defined under Rule 405.
Section 1.02 Registrable Securities. Any Registrable Security shall cease to be a Registrable Security at the earliest of the following: (a) when a registration statement covering such Registrable Security becomes or has been declared effective by the SEC and such Registrable Security has been sold or disposed of pursuant to such effective registration statement; (b) when such Registrable Security has been sold or disposed of (excluding transfers or assignments by a Holder to an Affiliate) pursuant to Rule 144 under the Securities Act (or any successor or similar provision adopted by the SEC then in effect) under circumstances in which all of the applicable conditions of Rule 144 (as then in effect) are met; (c) when such Registrable Security is held by the Company; or (d) when such Registrable Security has been sold or disposed of in a private transaction in which the transferor’s rights under this Agreement are not assigned to the transferee of such securities pursuant to Section 2.11 hereof. In addition, any Registrable Security will cease to be a Registrable Security upon the date that such security is Freely Tradable.
ARTICLE II
REGISTRATION RIGHTS
Section 2.01 Shelf Registration.
(a) Shelf Registration. As soon as practicable after the Closing Date, and in any event on or prior to the third Business Day after the Closing Date, the Company shall prepare
and file a Shelf Registration Statement with the SEC to permit the public resale of all Registrable Securities on the terms and conditions specified in this Section 2.01 (a “Registration Statement”). The Registration Statement filed with the SEC pursuant to this Section 2.01 shall be on Form S-3 and, if the Company is a WKSI as of the filing date thereof, shall be an Automatic Shelf Registration Statement, or, if Form S-3 is not then available to the Company, on Form S-1 or such other form of registration statement as is then available to effect a registration for resale of the Registrable Securities, covering the Registrable Securities, and shall contain a prospectus in such form as to permit any Selling Holder covered by such Registration Statement to sell such Registrable Securities pursuant to Rule 415 under the Securities Act (or any successor or similar provision adopted by the SEC then in effect) at any time beginning on the Effective Date for such Registration Statement. The Company shall use its reasonable best efforts to cause the Registration Statement filed pursuant to this Section 2.01 to be declared effective as soon as reasonably practicable thereafter. During the Effectiveness Period, the Company shall use its reasonable best efforts to cause the Registration Statement filed pursuant to this Section 2.01 to remain continuously effective, and to be supplemented and amended to the extent necessary to ensure that such Registration Statement is available or, if not available, that another registration statement is available for the resale of the Registrable Securities until all Registrable Securities have ceased to be Registrable Securities. The Company shall prepare and file a supplemental listing application with the NYSE (or such other national securities exchange on which the Registrable Securities are then listed and traded) to list the Registrable Securities covered by a Registration Statement and shall use its reasonable best efforts to have such Registrable Securities approved for listing on the NYSE (or such other national securities exchange on which the Registrable Securities are then listed and traded) by the Effective Date of such Registration Statement, subject only to official notice of issuance. As soon as practicable following the Effective Date of a Registration Statement, but in any event within three Business Days of such date, the Company shall notify the Required Holders of the effectiveness of such Registration Statement. When effective, a Registration Statement (including the documents incorporated therein by reference) will comply as to form in all material respects with all applicable requirements of the Securities Act and the Exchange Act and will not contain an untrue statement of a material fact or omit to state a material fact required to be stated therein or necessary to make the statements therein not misleading (in the case of any prospectus contained in such Registration Statement, in the light of the circumstances under which a statement is made).
(b) Delay Rights. Notwithstanding anything to the contrary contained herein, the Company may, upon written notice to (i) the Holders, delay the filing of the Registration Statement required under Section 2.01, or (ii) any Selling Holder whose Registrable Securities are included in a Registration Statement or other registration statement contemplated by this Agreement, suspend such Selling Holder’s use of any prospectus that is a part of such Registration Statement or other registration statement (in which event the Selling Holder shall discontinue sales of the Registrable Securities pursuant to such Registration Statement or other registration statement contemplated by this Agreement but may settle any previously made sales of Registrable Securities) if the Company (x) is pursuing an acquisition, merger, tender offer, reorganization, disposition or other similar transaction and the Board determines reasonably and in good faith that (A) the Company’s ability to pursue or consummate such a transaction would be materially adversely affected by any required disclosure of such transaction in such Registration Statement or other registration statement or (B) such transaction renders the Company unable to comply with SEC requirements, in each case under circumstances that would make it impractical or inadvisable to cause the Registration Statement (or such filings) to become effective or to promptly amend or supplement the Registration Statement or other registration statement contemplated by this Agreement on a post effective basis, as applicable, or (y) has experienced some other material non-public event the disclosure of which at such time, in the reasonable and good faith judgment of the Board, would materially adversely affect the Company; provided, however, that in no event shall the Selling Holders be suspended from selling Registrable Securities pursuant to such Registration Statement for a period that exceeds
an aggregate of 60 days in any 180-day period or 105 days in any 365-day period. Upon disclosure of such information or the termination of the condition described above, the Company shall provide prompt notice, but in any event within one Business Day of such disclosure or termination, to the Selling Holders whose Registrable Securities are included in such Registration Statement and shall promptly terminate any suspension of sales it has put into effect and shall take such other reasonable actions to permit registered sales of Registrable Securities as contemplated in this Agreement.
Section 2.02 Piggyback Rights.
(a) Participation. So long as there is an Eligible Holder, if the Company proposes to file (i) a shelf registration statement other than a Registration Statement contemplated by Section 2.01 and other than a registration statement on Forms S-4 or S-8 and any successor forms, (ii) a prospectus supplement to an effective shelf registration statement relating to the sale of equity securities of the Company, other than a Registration Statement contemplated by Section 2.01 and the Eligible Holder may be included without the filing of a post-effective amendment thereto, or (iii) a registration statement, other than a shelf registration statement, and other than a registration statement on Forms S-4 or S-8 and any successor forms, in each case, for the sale of Common Stock in an Underwritten Offering for its own account or that of another Person, or both, then the Company shall give prompt written notice of its intention to effect such registration at least five Business Days before the proposed date of filing of the applicable Registration Statement or prospectus supplement, or at least two Business Days in connection with any overnight or bought Underwritten Offering, to the Eligible Holder and such notice shall (A) describe the intended method(s) of distribution, and the name of the proposed Managing Underwriter, if any, in such offering and (B) offer the Eligible Holder the opportunity to include in such registration statement, prospectus supplement or Underwritten Offering, as the case may be, such number of Registrable Securities (the “Included Registrable Securities”) as the Eligible Holder may request in writing; provided, however, that if the Company has been advised by the Managing Underwriter of any such Underwritten Offering that the inclusion of all Registrable Securities that the Selling Holders intend to include in such offering exceeds the number that can be sold in such offering without being likely to have an adverse effect on the price, timing or distribution of the Common Stock in the Underwritten Offering, then (x) if no Registrable Securities can be included in the Underwritten Offering in the opinion of the Managing Underwriter without having such adverse effect, the Company shall not be required to offer such opportunity to the Eligible Holder or (y) if any Registrable Securities can be included in the Underwritten Offering in the opinion of the Managing Underwriter without having such adverse effect, then the amount of Registrable Securities to be offered for the account of the Eligible Holder shall be determined based on the provisions of Section 2.02(b) or in such other manner as such Selling Holders may agree. Any notice required to be provided in this Section 2.02(a) to the Eligible Holder shall be provided on a Business Day and receipt of such notice shall be confirmed by the Eligible Holder. The Eligible Holder shall then have two Business Days (or one Business Day in connection with any overnight or bought Underwritten Offering) after notice has been delivered to request in writing the inclusion of Registrable Securities held by the Eligible Holder in the Underwritten Offering. If no written request for inclusion from the Eligible Holder is received within the specified time, the Eligible Holder shall have no further right to participate in such Underwritten Offering. If, at any time after giving written notice of its intention to undertake an Underwritten Offering and prior to the closing of such Underwritten Offering, the Company shall determine for any reason not to undertake or to delay such Underwritten Offering, the Company may, at its election, give written notice of such determination to the Selling Holders and, (1) in the case of a determination not to undertake such Underwritten Offering, shall be relieved of its obligation to sell any Included Registrable Securities in connection with such terminated Underwritten Offering, and (2) in the case of a determination to delay such Underwritten Offering, shall be permitted to delay offering any Included Registrable Securities as part of such Underwritten Offering for the same period as the
delay in the Underwritten Offering. Any Selling Holder shall have the right to withdraw such Selling Holder’s request for inclusion of such Selling Holder’s Registrable Securities in such Underwritten Offering by giving written notice to the Company of such withdrawal at least one Business Day before the time of pricing of such Underwritten Offering. The Eligible Holder may deliver a written notice (an “Opt-Out Notice”) to the Company requesting that the Eligible Holder not receive notice from the Company of any proposed Underwritten Offering; provided, however, that the Eligible Holder may later revoke any such Opt-Out Notice in writing prior to five Business Days before the time of pricing of such Underwritten Offering. Following receipt of an Opt-Out Notice from the Eligible Holder (unless subsequently revoked), the Company shall not be required to deliver any notice to the Eligible Holder pursuant to this Section 2.02(a) and the Eligible Holder (unless the Eligible Holder’s Opt-Out Notice is subsequently revoked) shall no longer be entitled to participate in Underwritten Offerings by the Company pursuant to this Section 2.02(a).
(b) Priority. If the Managing Underwriter of any proposed Underwritten Offering of Common Stock involving Included Registrable Securities pursuant to this Section 2.02 advises the Company that the total amount of Common Stock that the Selling Holders and any other Persons intend to include in such offering exceeds the number of shares of Common Stock that can be sold in such offering without being likely to have an adverse effect on the price, timing or distribution of the Common Stock offered or the market for the Common Stock, then the Common Stock to be included in such Underwritten Offering shall include the number of Registrable Securities that such Managing Underwriter advises the Company can be sold without having such adverse effect, with such number to be allocated (i) if in a Company initiated registration, (A) first, to the Company and (B) second, to the Selling Holders who have requested participation in such Underwritten Offering and the other holders of Common Stock (other than the Eligible Holder and as otherwise already allocated in this section) with registration rights entitling them to participate in such Underwritten Offering, allocated among such holders pro rata on the basis of the number of shares of Common Stock elected to be included in such offering or in such manner as they may agree and (ii) if in a registration initiated by another holder(s) with registration rights other than pursuant to this Agreement, (A) first to such other holder(s), if required pursuant to such agreement governing the registration rights for such other holder(s) and (B) second, to the Company, the Selling Holders who have requested participation in such Underwritten Offering and the other holders of Common Stock (other than the Eligible Holder and as otherwise already allocated in this section) with registration rights entitling them to participate in such Underwritten Offering, allocated among such holders pro rata on the basis of the number of shares of Common Stock elected to be included in such offering or in such manner as they may agree. For the avoidance of doubt, the priority set forth in this Section 2.02(b) shall not apply and shall have no effect in the event that a Holder exercises its rights pursuant to Section 2.03, which shall be governed exclusively by the provisions of Section 2.03.
Section 2.03 Underwritten Offerings.
(a) Demand Offering. In the event that any Holder elects to dispose of Registrable Securities under a Registration Statement pursuant to an Underwritten Offering and reasonably expects gross proceeds of at least $25 million from such Underwritten Offering (together with any Registrable Securities to be disposed of by a Selling Holder who has elected to participate in such Underwritten Offering pursuant to this Section 2.03), the Company shall, at the written request of such Selling Holder(s) (each such Selling Holder, in such capacity, a “Requesting Holder” and, such request, a “Demand Registration Request”), enter into an underwriting agreement in a form as is customary in Underwritten Offerings of securities by the Company with the Managing Underwriter selected by the Company (subject to the written consent of the Initiating Holder of such Underwritten Offering, which consent shall not be unreasonably withheld), which shall include, among other provisions, indemnities to the effect and to the extent provided in Section 2.09, and shall take all such other reasonable actions as are requested
by the Managing Underwriter in order to expedite or facilitate the disposition of such Registrable Securities; provided, however, that the Company shall have no obligation to facilitate or participate in, including entering into any underwriting agreement, more than two Underwritten Offerings, Block Trades or Other Coordinated Offerings at the request of the Holders in the aggregate (and no more than one Underwritten Offering, Block Trade or Other Coordinated Offering in any 90-day period); provided, further, that if the Company is conducting or actively pursuing a securities offering of Common Stock (other than in connection with any at-the-market offering or similar continuous offering program), then the Company may suspend such Selling Holders’ rights to require the Company to conduct an Underwritten Offering pursuant to this Section 2.03 (for the avoidance of doubt, this proviso shall only apply to primary offerings by the Company of its Common Stock and not to any offerings requested by other stockholders of the Company); provided, however, that the Company may only suspend such Selling Holders’ rights to require the Company to conduct an Underwritten Offering pursuant to this Section 2.03 once in any six-month period and in no event for a period that exceeds an aggregate of 60 days in any 180-day period or 105 days in any 365-day period. For the avoidance of doubt, the Holders’ rights to elect to participate in an Underwritten Offering pursuant to this Section 2.03(a) shall not be limited in any way by the rights of other holders of Common Stock with registration rights to make similar elections to participate in underwritten offerings of Common Stock, except as expressly provided in this Agreement or the applicable agreement with such other holders of Common Stock.
(b) General Procedures. In connection with any Underwritten Offering contemplated by Section 2.03(a), the underwriting agreement into which each Selling Holder and the Company shall enter shall contain such representations, covenants, indemnities (subject to Section 2.09) and other rights and obligations as are customary in Underwritten Offerings of securities by the Company. No Selling Holder shall be required to make any representations or warranties to, or agreements with, the Company or the Underwriters other than representations, warranties or agreements regarding (i) such Holder’s ownership of its Registrable Securities to be sold or transferred, (ii) such Selling Holder’s authority to enter into such underwriting agreement and to sell or transfer such securities, (iii) its intended method of distribution and (iv) any other such matters or representations pertaining to compliance with securities laws as may be reasonably requested. If any Selling Holder (which, for the avoidance of doubt, shall include the Initiating Holder) disapproves of the terms of an Underwritten Offering contemplated by this Section 2.03, such Selling Holder may elect to withdraw therefrom by notice to the Company and the Managing Underwriter; provided, however, that such withdrawal must be made prior to the time of pricing of such Underwritten Offering to be effective. If, pursuant to the preceding sentence, the entire Demand Registration Request is revoked, then, at the option of the Holder or Holders who revoke such request, Holder or Holders shall reimburse the Company for all of its reasonable and documented incremental out-of-pocket expenses incurred in the preparation, filing and processing of the Registration Statement or prospectus supplement with respect to such requested Underwritten Offering, which incremental out-of-pocket expenses, for the avoidance of doubt, shall not include overhead expenses and which requested Underwritten Offering, whether or not completed, will not decrease the number of Underwritten Offerings the Holders shall have the right and option to request under this Section 2.03.
(c) Priority. If the Managing Underwriter of any proposed Underwritten Offering of Registrable Securities pursuant to this Section 2.03 advises the Company that the total amount of Common Stock that the Selling Holders and any other Persons intend to include in such offering exceeds the number of shares of Common Stock that can be sold in such offering without being likely to have an adverse effect on the price, timing or distribution of the Common Stock offered or the market for the Common Stock, then the Common Stock to be included in such Underwritten Offering shall include the number of Registrable Securities that such Managing Underwriter advises the Company can be sold without having such adverse effect, with such number to be allocated (i) first, to the Selling Holder who requested such Underwritten Offering,
(ii) second, to any other Holders of Registrable Securities who have elected to participate in such Underwritten Offering, allocated among such other Selling Holders pro rata on the basis of the number of Registrable Securities held by each such Selling Holder or in such other manner as such Selling Holders may agree, and (iii) third, to the Company.
Section 2.04 Block Trades; Other Coordinated Offerings.
(a) Notwithstanding any other provision of this Agreement, at any time from and after the Effective Date of the Registration Statement, if one or more Holders wishes to engage in (i) an Underwritten Offering with the assistance of the Company not involving a “roadshow,” an offer commonly known as a “block trade” (a “Block Trade”), or (ii) an “at the market” or similar registered offering with assistance of the Company through a broker, sales agent, distribution agent or placement agent, whether as agent or principal (an “Other Coordinated Offering”), in each case, with a total offering price reasonably expected to exceed $25 million in the aggregate, then such Requesting Holder only needs to notify the Company of the Block Trade or Other Coordinated Offering at least five Business Days prior to the day such offering is to commence and the Company shall use its commercially reasonable efforts to facilitate such Block Trade or Other Coordinated Offering; provided, that the Holders representing a majority of the Registrable Securities wishing to engage in the Block Trade or Other Coordinated Offering shall use commercially reasonable efforts to coordinate with the Company and any underwriters, brokers, sales agents, distribution agents or placement agents prior to making such request in order to facilitate preparation of the prospectus and other offering documentation related to the Block Trade or Other Coordinated Offering.
(b) Prior to the filing of any applicable “red herring” prospectus or prospectus supplement used in connection with a Block Trade or Other Coordinated Offering, a majority-in-interest of the Requesting Holders initiating such Block Trade or Other Coordinated Offering shall have the right to withdraw upon written notification to the Company, the underwriter or underwriters (if any) and any brokers, sales agents, distribution agents or placement agents (if any) of their intention to withdraw from such Block Trade or Other Coordinated Offering.
(c) Notwithstanding anything to the contrary in this Agreement, Section 2.02 shall not apply to a Block Trade or Other Coordinated Offering initiated by a Requesting Holder pursuant to this Agreement.
(d) The Company shall not notify any other holder of Common Stock of any proposed Block Trade or Other Coordinated Offering under this Section 2.04 and will not give them the opportunity to participate in any such Block Trade or Other Coordinated Offering.
(e) The Requesting Holder in a Block Trade or Other Coordinated Offering shall have the right to select the Managing Underwriter and any brokers, sales agents or placement agents for such Block Trade or Other Coordinated Offering (in each case, which shall consist of one or more reputable nationally recognized investment banks).
(f) A Requesting Holder in the aggregate may demand no more than two Underwritten Offerings, Block Trades or Other Coordinated Offerings pursuant to Section 2.03(a) or this Section 2.04 (and no more than one Underwritten Offering, Block Trade or Other Coordinated Offering in any 90-day period).
Section 2.05 Sale Procedures.
In connection with its obligations under this Article II, the Company shall, as expeditiously as possible, subject to confidentiality obligations and agreements:
(a) use its reasonable best efforts to prepare and file with the SEC such amendments and supplements to a Registration Statement and the prospectus used in connection therewith as may be necessary to keep such Registration Statement effective for the Effectiveness Period and as may be necessary to comply with the provisions of the Securities Act with respect to the disposition of all Registrable Securities covered by such Registration Statement;
(b) if a prospectus supplement will be used in connection with the marketing of an Underwritten Offering from a Registration Statement and the Managing Underwriter at any time shall notify the Company in writing that, in the sole judgment of such Managing Underwriter, inclusion of detailed information to be used in such prospectus supplement is of material importance to the success of the Underwritten Offering of such Registrable Securities, the Company shall use its reasonable best efforts to include such information in such prospectus supplement;
(c) furnish to each Holder (i) as far in advance as reasonably practicable before filing the Registration Statement or any other registration statement contemplated by this Agreement or any supplement or amendment thereto, upon request, copies of reasonably complete drafts of all such documents proposed to be filed (including exhibits and each document incorporated by reference therein to the extent then required by the rules and regulations of the SEC other than annual or quarterly reports on Form 10-K or 10-Q, respectively, current reports on Form 8-K or proxy statements; provided, however, that such reports or proxy statements shall be provided at least two Business Days prior to filing in connection with any Underwritten Offering); and provide each such Holder the opportunity to object to any information pertaining to such Holder and its plan of distribution that is contained therein and make the corrections reasonably requested by such Holder with respect to such information prior to filing the Registration Statement or such other registration statement or supplement or amendment thereto, and (ii) such number of copies of such Registration Statement or such other registration statement and the prospectus included therein and any supplements and amendments thereto as such Holder may reasonably request in order to facilitate the public sale or other disposition of the Registrable Securities covered by such Registration Statement or other registration statement;
(d) if applicable, use its reasonable best efforts to register or qualify the Registrable Securities covered by a Registration Statement or any other registration statement contemplated by this Agreement under the securities or blue sky laws of such jurisdictions as the Holders or, in the case of an Underwritten Offering, the Managing Underwriter, shall reasonably request; provided, however, that the Company shall not be required to qualify generally to transact business in any jurisdiction where it is not then required to so qualify or to take any action that would subject it to general service of process in any such jurisdiction where it is not then so subject;
(e) promptly notify each Holder, at any time when a prospectus relating thereto is required to be delivered by any of them under the Securities Act, of (i) the filing of the Registration Statement or any other registration statement contemplated by this Agreement or any prospectus or prospectus supplement to be used in connection therewith, or any amendment or supplement thereto, and, with respect to such Registration Statement or any other registration statement or any post-effective amendment thereto, when the same has become effective; and (ii) the receipt of any written comments from the SEC with respect to any filing referred to in clause (i) and any written request by the SEC for amendments or supplements to such Registration Statement or any other registration statement or any prospectus or prospectus supplement thereto;
(f) promptly notify each Holder, at any time when a prospectus relating thereto is required to be delivered under the Securities Act, of (i) the happening of any event as a result of which the prospectus or prospectus supplement contained in the Registration Statement or any
other registration statement contemplated by this Agreement, as then in effect, includes an untrue statement of a material fact or omits to state any material fact required to be stated therein or necessary to make the statements therein not misleading (in the case of any prospectus contained therein, in the light of the circumstances under which a statement is made); (ii) the issuance or express threat of issuance by the SEC of any stop order suspending the effectiveness of such Registration Statement or any other registration statement contemplated by this Agreement, or the initiation of any proceedings for that purpose; or (iii) the receipt by the Company of any notification with respect to the suspension of the qualification of any Registrable Securities for sale under the applicable securities or blue sky laws of any jurisdiction. Following the provision of such notice, the Company agrees to as promptly as practicable amend or supplement the prospectus or prospectus supplement or take other appropriate action so that the prospectus or prospectus supplement does not include an untrue statement of a material fact or omit to state a material fact required to be stated therein or necessary to make the statements therein not misleading in the light of the circumstances then existing and to take such other commercially reasonable action as is necessary to remove a stop order, suspension, threat thereof or proceedings related thereto;
(g) upon request, furnish to each Holder copies of any and all transmittal letters or other correspondence with the SEC or any other governmental agency or self-regulatory body or other body having jurisdiction (including any domestic or foreign securities exchange) relating to such offering of Registrable Securities;
(h) in the case of an Underwritten Offering, use its reasonable best efforts to furnish to the underwriters upon request, (i) an opinion of counsel for the Company dated the date of the closing under the underwriting agreement and (ii) a “cold comfort” letter, dated the pricing date of such Underwritten Offering and a letter of like kind dated the date of the closing under the underwriting agreement, in each case, signed by the independent public accountants who have certified the Company’s financial statements included or incorporated by reference into the applicable registration statement, and each of the opinion and the “cold comfort” letter shall be in customary form and covering substantially the same matters with respect to such registration statement (and the prospectus and any prospectus supplement included therein) as have been customarily covered in opinions of issuer’s counsel and in accountants’ letters delivered to the underwriters in Underwritten Offerings of securities by the Company and such other matters as such underwriters and Selling Holders may reasonably request;
(i) otherwise use its reasonable best efforts to comply with all applicable rules and regulations of the SEC, and make available to its security holders (which may be satisfied by making such information available on the SEC’s Electronic Data Gathering, Analysis and Retrieval system or any successor system known as “EDGAR”), as soon as reasonably practicable, an earnings statement, covering a period of twelve months beginning within three months after the Effective Date of such Registration Statement, which earnings statement shall satisfy the provisions of Section 11(a) of the Securities Act and Rule 158 promulgated thereunder;
(j) make available to the appropriate representatives of the Managing Underwriter and Selling Holders access to such information and Company personnel as is reasonable and customary to enable such parties to establish a due diligence defense under the Securities Act; provided, that the Company need not disclose any non-public information to any such representative unless and until such representative has entered into a confidentiality agreement with the Company;
(k) use its reasonable best efforts to cause all such Registrable Securities registered pursuant to this Agreement to be listed on each securities exchange or nationally recognized quotation system on which the Common Stock are then listed or quoted;
(l) use its reasonable best efforts to cause the Registrable Securities to be registered with or approved by such other governmental agencies or authorities as may be necessary by virtue of the business and operations of the Company to enable the Holders to consummate the disposition of such Registrable Securities;
(m) provide a transfer agent and registrar for all Registrable Securities covered by such registration statement not later than the Effective Date of such registration statement;
(n) enter into customary agreements and take such other actions as are reasonably requested by the Holders or the underwriters, if any, in order to expedite or facilitate the disposition of such Registrable Securities; provided, however, that the officers of the Company shall not be required to dedicate an unreasonably burdensome amount of time in connection with activities for any Underwritten Offering;
(o) if requested by a Holder, (i) as soon as practicable incorporate in a prospectus supplement or post-effective amendment such information as such Holder reasonably requests to be included therein relating to the sale and distribution of Registrable Securities, including information with respect to the number of Registrable Securities being offered or sold, the purchase price being paid therefor and any other terms of the offering of the Registrable Securities to be sold in such offering, and (ii) as soon as practicable make all required filings of such prospectus supplement or post-effective amendment after being notified of the matters to be incorporated in such prospectus supplement or post-effective amendment; and
(p) if reasonably required by the Company’s transfer agent, use commercially reasonably efforts to promptly deliver any authorizations, certificates and directions required by the transfer agent which authorize and direct the transfer agent to transfer such Registrable Securities without legend, in accordance with applicable law, upon sale by the Holder of such Registrable Securities under the Registration Statement.
Notwithstanding anything to the contrary in this Section 2.05, the Company shall not name a Holder as an underwriter (as defined in Section 2(a)(11) of the Securities Act) in any Registration Statement without such Holder’s consent, except as required by law or request of the staff of the Commission.
Each Holder, upon receipt of notice from the Company of the happening of any event of the kind described in Section 2.05(f), shall forthwith discontinue offers and sales of the Registrable Securities by means of a prospectus or prospectus supplement until such Holder’s receipt of the copies of the supplemented or amended prospectus contemplated by Section 2.05(f) or until it is advised in writing by the Company that the use of the prospectus may be resumed and has received copies of any additional or supplemental filings incorporated by reference in the prospectus, and, if so directed by the Company, such Selling Holder shall, or shall request the Managing Underwriter, if any, to deliver to the Company (at the Company’s expense) all copies in their possession or control, other than permanent file copies then in such Selling Holder’s possession, of the prospectus covering such Registrable Securities current at the time of receipt of such notice.
Section 2.06 Cooperation by Holders.
The Company shall have no obligation to include Registrable Securities of a Holder in a Registration Statement, an Underwritten Offering pursuant to Section 2.03(a), a Block Trade or an Other Coordinated Offering who has failed to timely furnish after receipt of a written request from the Company such information that the Company determines, after consultation with its counsel, is reasonably required in order for the registration statement or prospectus supplement, as applicable, to comply with the Securities Act.
Section 2.07 Restrictions on Public Sale by Holders of Registrable Securities.
To the extent requested by the Managing Underwriter, each Holder of Registrable Securities that participates in an Underwritten Offering will enter into a customary letter agreement with underwriters providing such Holder will not effect any public sale or distribution of Registrable Securities during the 60 calendar-day period beginning on the date of a prospectus or prospectus supplement filed with the SEC with respect to the pricing of such Underwritten Offering, provided that, notwithstanding the foregoing, (a) the duration of the foregoing restrictions shall be no longer than the duration of the shortest restriction imposed by the Underwriters on the Company or the officers, directors or any other Affiliate of the Company on whom a restriction is imposed and (b) that the restrictions set forth in this Section 2.07 shall not apply to any Registrable Securities that are included in such Underwritten Offering by such Holder. In addition, this Section 2.07 shall not apply to any Holder that is not entitled to participate in such Underwritten Offering because the Registrable Securities held by such Holder may be disposed of without restriction pursuant to Rule 144 under the Securities Act (or any successor or similar provision adopted by the SEC then in effect).
Section 2.08 Expenses.
(a) Expenses. The Company shall pay all reasonable Registration Expenses as determined reasonably and in good faith by the Board, including, in the case of an Underwritten Offering, the Registration Expenses of an Underwritten Offering, regardless of whether any sale is made pursuant to such Underwritten Offering. Each Selling Holder shall pay its pro rata share of any Selling Expenses in connection with any sale of its Registrable Securities hereunder. For the avoidance of doubt, each Selling Holder’s pro rata allocation of Selling Expenses shall be the percentage derived by dividing (i) the number of Registrable Securities sold by such Selling Holder in connection with such sale by (ii) the aggregate number of Registrable Securities sold by all Selling Holders in connection with such sale. In addition, except as otherwise provided in this Section 2.08 and Section 2.09 hereof, the Company shall not be responsible for legal fees incurred by Holders in connection with the exercise of such Holders’ rights hereunder.
(b) Certain Definitions. “Registration Expenses” means all expenses incident to the Company’s performance under or compliance with this Agreement to effect the registration of Registrable Securities on a Registration Statement pursuant to Section 2.01 or Section 2.02, an Underwritten Offering, a Block Trade or an Other Coordinated Offering covered under this Agreement, and the disposition of such Registrable Securities, including all registration, filing, securities exchange listing and NYSE fees, all registration, filing, qualification and other fees and expenses of complying with securities or blue sky laws, fees of the Financial Industry Regulatory Authority, Inc., fees of transfer agents and registrars, all word processing, duplicating and printing expenses, any transfer taxes, and the fees and disbursements of counsel and independent public accountants for the Company, including the expenses of any special audits or “cold comfort” letters required by or incident to such performance and compliance. “Selling Expenses” means all underwriting discounts and selling commissions or similar fees or arrangements allocable to the sale of the Registrable Securities, transfer taxes and fees and disbursements of counsel to the Selling Holders, except for the reasonable fees and disbursements of counsel for the Selling Holders required to be paid by the Company pursuant to this Section 2.08 and Section 2.09.
Section 2.09 Indemnification.
(a) By the Company. In the event of a registration of any Registrable Securities under the Securities Act pursuant to this Agreement, to the extent permitted by applicable law, the Company shall indemnify and hold harmless each Selling Holder thereunder, its directors, officers, managers, members, partners, employees, agents and Affiliates and each Person, if any,
who controls such Selling Holder or its Affiliates within the meaning of the Securities Act and the Exchange Act, and its directors, officers, members, partners, employees or agents (collectively, the “Selling Holder Indemnified Persons”), against any losses, claims, damages, third party expenses incurred by or on such Holder’s behalf or liabilities (including reasonable attorneys’ fees and third party expenses incurred by or on such Holder’s behalf) (collectively, “Losses”), joint or several, to which such Selling Holder Indemnified Person may become subject under the Securities Act, the Exchange Act or otherwise, insofar as such Losses (or actions or proceedings, whether commenced or threatened, in respect thereof) arise out of or are based upon any untrue statement or alleged untrue statement of any material fact (in the case of any prospectus, in light of the circumstances under which such statement is made) contained in (which, for the avoidance of doubt, includes documents incorporated by reference in) such Registration Statement or any other registration statement contemplated by this Agreement, any preliminary prospectus, prospectus supplement or final prospectus contained therein, or any amendment or supplement thereof, or any free writing prospectus relating thereto or arise out of or are based upon the omission or alleged omission to state therein a material fact required to be stated therein or necessary to make the statements therein (in the case of a prospectus, in light of the circumstances under which they were made) not misleading, and shall reimburse each such Selling Holder Indemnified Person for any legal or other third party expenses reasonably incurred by or on such Holder’s behalf in connection with investigating, defending or resolving any such Loss or actions or proceedings; provided, however, that the Company shall not be liable in any such case if and to the extent that any such Loss arises out of or is based upon an untrue statement or alleged untrue statement or omission or alleged omission so made in conformity with information furnished by such Selling Holder Indemnified Person in writing specifically for use in such Registration Statement or such other registration statement, or prospectus supplement, as applicable. Such indemnity shall remain in full force and effect regardless of any investigation made by or on behalf of such Selling Holder Indemnified Person, and shall survive the transfer of such securities by such Selling Holder.
(b) By Each Selling Holder. Each Selling Holder agrees severally and not jointly to indemnify and hold harmless the Company, its directors, officers, employees and agents and each Person, if any, who controls the Company within the meaning of the Securities Act or of the Exchange Act, and its directors, officers, employees and agents, to the same extent as the foregoing indemnity from the Company to the Selling Holders, but only with respect to information regarding such Selling Holder furnished in writing by or on behalf of such Selling Holder expressly for inclusion in such Registration Statement or any other registration statement contemplated by this Agreement, any preliminary prospectus, prospectus supplement or final prospectus contained therein, or any amendment or supplement thereof, or any free writing prospectus relating thereto; provided, however, that the liability of each Selling Holder shall not be greater in amount than the dollar amount of the proceeds (net of any Selling Expenses) received by such Selling Holder from the sale of the Registrable Securities giving rise to such indemnification.
(c) Notice. Promptly after receipt by an indemnified party hereunder of notice of the commencement of any action, such indemnified party shall, if a claim in respect thereof is to be made against the indemnifying party hereunder, notify the indemnifying party in writing thereof, but the omission to so notify the indemnifying party shall not relieve it from any liability that it may have to any indemnified party other than under this Section 2.09. In any action brought against any indemnified party, it shall notify the indemnifying party of the commencement thereof. The indemnifying party shall be entitled to participate in and, to the extent it shall wish, to assume and undertake the defense thereof with counsel reasonably satisfactory to such indemnified party and, after notice from the indemnifying party to such indemnified party of its election so to assume and undertake the defense thereof, the indemnifying party shall not be liable to such indemnified party under this Section 2.09 for any legal or other expenses subsequently incurred by such indemnified party in connection with the defense thereof other
than reasonable costs of investigation and of liaison with counsel so selected; provided, however, that, (i) if the indemnifying party has failed to assume the defense or employ counsel reasonably acceptable to the indemnified party or (ii) if the defendants in any such action include both the indemnified party and the indemnifying party and counsel to the indemnified party shall have concluded that there may be reasonable defenses available to the indemnified party that are different from or additional to those available to the indemnifying party, or if the interests of the indemnified party reasonably may be deemed to conflict with the interests of the indemnifying party, then the indemnified party shall have the right to select a separate counsel and to assume such legal defense and otherwise to participate in the defense of such action, with the reasonable expenses and fees of such separate counsel and other reasonable expenses related to such participation to be reimbursed by the indemnifying party as incurred. Notwithstanding any other provision of this Agreement, no indemnifying party shall settle any action brought against any indemnified party with respect to which such indemnified party is or may be entitled to indemnification hereunder without the consent of the indemnified party, unless the settlement thereof imposes no liability or obligation on, and includes a complete and unconditional release from all liability of, and does not contain any admission of wrongdoing by, the indemnified party.
(d) Contribution. If the indemnification provided for in this Section 2.09 is held by a court or government agency of competent jurisdiction to be unavailable to any indemnified party or is insufficient to hold them harmless in respect of any Losses, then each such indemnifying party, in lieu of indemnifying such indemnified party, shall contribute to the amount paid or payable by such indemnified party as a result of such Loss in such proportion as is appropriate to reflect the relative fault of the indemnifying party on the one hand and of such indemnified party on the other in connection with the statements or omissions that resulted in such Losses, as well as any other relevant equitable considerations; provided, however, that in no event shall such Selling Holder be required to contribute an aggregate amount in excess of the dollar amount of proceeds (net of Selling Expenses) received by such Selling Holder from the sale of Registrable Securities giving rise to such indemnification. The relative fault of the indemnifying party on the one hand and the indemnified party on the other shall be determined by reference to, among other things, whether the untrue or alleged untrue statement of a material fact or the omission or alleged omission to state a material fact has been made by, or relates to, information supplied by such party, and the parties’ relative intent, knowledge, access to information and opportunity to correct or prevent such statement or omission. The parties hereto agree that it would not be just and equitable if contributions pursuant to this paragraph were to be determined by pro rata allocation or by any other method of allocation that does not take account of the equitable considerations referred to herein. The amount paid by an indemnified party as a result of the Losses referred to in the first sentence of this paragraph shall be deemed to include any legal or other expenses reasonably incurred by such indemnified party in connection with investigating, defending or resolving any Loss that is the subject of this paragraph. No person guilty of fraudulent misrepresentation (within the meaning of Section 11(f) of the Securities Act) shall be entitled to contribution from any Person who is not guilty of such fraudulent misrepresentation.
(e) Other Indemnification. The provisions of this Section 2.09 shall be in addition to any other rights to indemnification or contribution that an indemnified party may have pursuant to law, equity, contract or otherwise. To the extent that any of the Holders is, or would be expected to be, deemed to be an underwriter of Registrable Securities pursuant to any SEC comments or policies or any court of law or otherwise, the Company agrees that (i) the indemnification and contribution provisions contained in this Section 2.09 shall be applicable to the benefit of such Holder in its role as deemed underwriter in addition to its capacity as a Holder (so long as the amount for which any other Holder is or becomes responsible does not exceed the amount for which such Holder would be responsible if the Holder were not deemed to be an underwriter of Registrable Securities) and (ii) such Holder and its representatives shall be entitled to conduct the due diligence which would normally be conducted in connection with an
offering of securities registered under the Securities Act, including receipt of customary opinions and comfort letters.
Section 2.10 Rule 144 Reporting.
With a view to making available the benefits of certain rules and regulations of the SEC that may permit the sale of the Registrable Securities to the public without registration, the Company agrees to use its reasonable best efforts to:
(a) make and keep public information regarding the Company available, as those terms are understood and defined in Rule 144 under the Securities Act (or any successor or similar provision adopted by the SEC then in effect), at all times from and after the date hereof (which may be satisfied by making such information available on EDGAR);
(b) file with the SEC in a timely manner all reports and other documents required of the Company under the Securities Act and the Exchange Act at all times from and after the date hereof; and
(c) so long as a Holder owns any Registrable Securities, furnish, (i) to the extent accurate, forthwith upon request, a written statement of the Company that it has complied with the reporting requirements of Rule 144 under the Securities Act (or any similar provision then in effect) and (ii) unless otherwise available electronically at no additional charge via EDGAR, to such Holder forthwith upon request a copy of the most recent annual or quarterly report of the Company, and such other reports and documents as such Holder may reasonably request in availing itself of any rule or regulation of the SEC allowing such Holder to sell any such securities without registration.
Section 2.11 Transfer or Assignment of Registration Rights. The rights to cause the Company to register Registrable Securities under this Agreement may not be transferred or assigned by any Holder unless (a) such transferee is a Permitted Transferee of such Holder, (b) the Registerable Securities transferred to such transferee amount to at least 2% of the Company’s total outstanding shares of Common Stock, and (c) such transferee has delivered to the Company a duly executed Adoption Agreement.
Section 2.12 Termination of Registration Rights.
The rights to cause the Company to register Registrable Securities granted to the Holders by the Company under this Article II shall terminate upon the date on which all Registrable Securities no longer constitute Registrable Securities in accordance with Section 1.02.
ARTICLE III
MISCELLANEOUS
Section 3.01 Lock-up.
(a) Subject to Section 3.01(b) and Section 3.01(c), no Holder shall, (i) offer, pledge, gift, donate, sell, contract to sell, sell any option or contract to purchase, purchase any option or contract to sell, grant any option, right or warrant to purchase, lend, or otherwise transfer or dispose of, directly or indirectly, any of the Restricted Shares, or (ii) enter into any swap, option (including, without limitation, put or call options), short sale, future, forward or other arrangement that transfers to another, in whole or in part, any of the economic consequences of ownership of the Restricted Shares, except as permitted by Section 3.01(b). Each Holder hereby authorizes the Company to cause any transfer agent for the Common Stock comprising the
Restricted Shares to decline to transfer, and to note stop transfer restrictions on the stock register and other records relating to the Restricted Shares at such time if such transfer would constitute a violation or breach of this Agreement. At such time as the Restricted Shares shall cease to be Restricted Shares pursuant to Section 3.01(c), the Company shall use commercially reasonable efforts to cause the transfer agent for the Common Stock comprising the Restricted Shares to promptly remove the restrictive legends or other stop transfer restrictions on such shares of Common Stock.
(b) Notwithstanding anything to the contrary, the restrictions set forth in Section 3.01(a) shall not apply to any transfer of Restricted Shares by a Holder to a Permitted Transferee; provided that such Permitted Transferee has delivered to the Company a duly executed Adoption Agreement.
(c) The Restricted Shares shall cease to be “Restricted Shares” and shall be released from the restrictions set forth in Section 3.01(a) on the date that is six months following the Closing Date.
Section 3.02 Communications.
All notices and other communications provided for or permitted hereunder shall be made in writing by electronic mail, courier service or personal delivery:
(a) if to the Initial Holder, to its address set forth on the signature pages hereto;
With a copy to (which shall not constitute notice):
Vinson & Elkins L.L.P.
845 Texas Avenue
Suite 4700
Houston, TX 77002
Attention: W. Matthew Strock
Email: mstrock@velaw.com
(b) if to any other Holders, to their respective addresses set forth on the applicable Adoption Agreement; and
(c) if to the Company:
Callon Petroleum Company
2000 W. Sam Houston Parkway S., Suite 2000
Houston, TX 77042
Attention: Michol L. Ecklund, Senior Vice President, General Counsel and Corporate Secretary
Email: mecklund@callon.com
legal@callon.com
With a copy to (which shall not constitute notice):
c/o Kirkland & Ellis LLP
609 Main Street
Houston, Texas 77002
Attention: Sean Wheeler, P.C.; Michael W. Rigdon, P.C.
Email: sean.wheeler@kirkland.com
michael.rigdon@kirkland.com
All such notices and communications shall be deemed to have been received at the time delivered by hand, if personally delivered; when receipt acknowledged, if sent via electronic mail; and when actually received, if sent by courier service or any other means.
Section 3.03 Successor and Assigns.
This Agreement shall inure to the benefit of and be binding upon the successors and permitted assigns of each of the parties, including subsequent Holders of Registrable Securities to the extent permitted herein.
Section 3.04 Assignment of Rights.
The rights, interests or obligations of the Holders hereunder may not be transferred or assigned, by operation of law or otherwise, in whole or in part, by the Holders without the prior written consent of the Company, except in accordance with Section 2.11 hereof.
Section 3.05 Recapitalization, Exchanges, Etc. Affecting the Common Stock.
The provisions of this Agreement shall apply to the full extent set forth herein with respect to any and all equity interests of the Company or any successor or assign of the Company (whether by merger, acquisition, consolidation, reorganization, sale of assets or otherwise) that may be issued in respect of, in exchange for or in substitution of, the Registrable Securities, and shall be appropriately adjusted for combinations, share splits, recapitalizations, pro rata distributions of shares and the like occurring after the date of this Agreement.
Section 3.06 Aggregation of Registrable Securities.
All Registrable Securities held or acquired by Persons who are Affiliates of one another shall be aggregated together for the purpose of determining the availability of any rights under this Agreement.
Section 3.07 Specific Performance.
Damages in the event of breach of this Agreement by a party hereto may be difficult, if not impossible, to ascertain, and it is therefore agreed that each such Person, in addition to and without limiting any other remedy or right it may have, shall have the right to an injunction or other equitable relief in any court of competent jurisdiction, enjoining any such breach, and enforcing specifically the terms and provisions hereof, and each of the parties hereto hereby waives any and all defenses it may have on the ground of lack of jurisdiction or competence of the court to grant such an injunction or other equitable relief. The existence of this right shall not preclude any such Person from pursuing any other rights and remedies at law or in equity that such Person may have.
Section 3.08 Counterparts.
This Agreement may be executed in any number of counterparts and by different parties hereto in separate counterparts, including facsimile or .pdf counterparts, each of which counterparts, when so executed and delivered, shall be deemed to be an original and all of which counterparts, taken together, shall constitute but one and the same Agreement.
Section 3.09 Headings.
The headings in this Agreement are for convenience of reference only and shall not limit or otherwise affect the meaning hereof.
Section 3.10 Governing Law.
This Agreement, including all issues and questions concerning its application, construction, validity, interpretation and enforcement, shall be construed in accordance with, and governed by, the laws of the State of New York without regard to the choice of law or conflicts of law.
Section 3.11 Waiver of Jury Trial. THE PARTIES TO THIS AGREEMENT EACH HEREBY WAIVE, AND AGREE TO CAUSE THEIR AFFILIATES TO WAIVE, TO THE FULLEST EXTENT PERMITTED BY LAW, ANY RIGHT TO TRIAL BY JURY OF ANY CLAIM, DEMAND, ACTION OR CAUSE OF ACTION (A) ARISING UNDER THIS AGREEMENT OR (B) IN ANY WAY CONNECTED WITH OR RELATED OR INCIDENTAL TO THE DEALINGS OF THE PARTIES HERETO IN RESPECT OF THIS AGREEMENT OR ANY OF THE TRANSACTIONS RELATED HERETO, IN EACH CASE WHETHER NOW EXISTING OR HEREAFTER ARISING, AND WHETHER IN CONTRACT, TORT, EQUITY OR OTHERWISE. THE PARTIES TO THIS AGREEMENT EACH HEREBY AGREE AND CONSENT THAT ANY SUCH CLAIM, DEMAND, ACTION OR CAUSE OF ACTION SHALL BE DECIDED BY COURT TRIAL WITHOUT A JURY AND THAT THE PARTIES TO THIS AGREEMENT MAY FILE AN ORIGINAL COUNTERPART OF A COPY OF THIS AGREEMENT WITH ANY COURT AS WRITTEN EVIDENCE OF THE CONSENT OF THE PARTIES HERETO TO THE WAIVER OF THEIR RIGHT TO TRIAL BY JURY.
Section 3.12 Severability of Provisions.
Any provision of this Agreement that is prohibited or unenforceable in any jurisdiction shall, as to such jurisdiction, be ineffective to the extent of such prohibition or unenforceability without invalidating the remaining provisions hereof or affecting or impairing the validity or enforceability of such provision in any other jurisdiction.
Section 3.13 Entire Agreement.
This Agreement and the Purchase Agreement are intended by the parties as a final expression of their agreement and intended to be a complete and exclusive statement of the agreement and understanding of the parties hereto in respect of the subject matter contained herein and therein. There are no restrictions, promises, warranties or undertakings, other than those set forth or referred to herein or in the Purchase Agreement with respect to the rights granted by the Company set forth herein. This Agreement and the Purchase Agreement supersede all prior agreements and understandings between the parties with respect to such subject matter.
Section 3.14 Amendment.
This Agreement may be amended only by means of a written amendment signed by the Company and the Required Holders; provided, however, that no such amendment shall materially and adversely affect the rights of any Holder hereunder without prior written consent of such Holder.
Section 3.15 No Presumption.
If any claim is made by a party relating to any conflict, omission or ambiguity in this Agreement, no presumption or burden of proof or persuasion shall be implied by virtue of the fact that this Agreement was prepared by or at the request of a particular party or its counsel.
Section 3.16 Obligations Limited to Parties to Agreement.
Each of the parties hereto covenants, agrees and acknowledges that no Person other than the Holders (and their respective Permitted Transferees and assignees) and the Company shall have any obligation hereunder. No recourse under this Agreement or under any documents or instruments delivered in connection herewith or therewith shall be had against any former, current or future director, officer, employee, agent, general or limited partner, manager, member, stockholder or Affiliate of the Holders or any former, current or future director, officer, employee, agent, general or limited partner, manager, member, stockholder or Affiliate thereof, whether by the enforcement of any assessment or by any legal or equitable proceeding, or by virtue of any applicable Law, it being expressly agreed and acknowledged that no personal liability whatsoever shall attach to, be imposed on or otherwise be incurred by any former, current or future director, officer, employee, agent, general or limited partner, manager, member, stockholder or Affiliate of the Holders or any former, current or future director, officer, employee, agent, general or limited partner, manager, member, stockholder or Affiliate thereof, as such, for any obligations of the Holders under this Agreement or any documents or instruments delivered in connection herewith or therewith or for any claim based on, in respect of or by reason of such obligation or its creation, except in each case for any transferee or assignee of a Holder hereunder.
Section 3.17 Interpretation.
Article and Section references are to this Agreement, unless otherwise specified. All references to instruments, documents, contracts and agreements are references to such instruments, documents, contracts and agreements as the same may be amended, supplemented and otherwise modified from time to time, unless otherwise specified. The words “include,” “includes” and “including” or words of similar import shall be deemed to be followed by the words “without limitation.” A term has the meaning assigned to it. Words in the singular include the plural, and words in the plural include the singular. The word “or” is not exclusive. The words “herein,” “hereof” and other words of similar import refer to this Agreement as a whole and not to any particular Article, Section or other subdivision. References to agreements or instruments, or to statutes or regulations, are to such agreements or instruments, or statutes or regulations, as amended from time to time (or to successor statutes and regulations). Whenever any determination, consent or approval is to be made or given by the Required Holders (and its transferees or assignees) under this Agreement, such action shall be in the Required Holder’s (and its transferees or assignees) sole discretion unless otherwise specified. Unless expressly set forth or qualified otherwise (e.g., by “Business” or “trading”), all references herein to a “day” are deemed to be a reference to a calendar day.
(Signature pages follow)
IN WITNESS WHEREOF, the parties hereto execute this Agreement, effective as of the date first above written.
CALLON PETROLEUM COMPANY
By: /s/ Joseph C. Gatto, Jr.
Name: Joseph C. Gatto, Jr.
Title: President and Chief Executive Officer
Signature Page to Registration Rights Agreement
PERCUSSION PETROLEUM MANAGEMENT II, LLC
By: /s/ John Campbell III
Name: John Campbell III
Title: Co-Chief Executive Officer
Address:
Percussion Petroleum Management II, LLC
1001 Fannin Street, Suite 2200
Houston, Texas 77002
Signature Page to Registration Rights Agreement
EXHIBIT A
ADOPTION AGREEMENT
This Adoption Agreement (“Adoption Agreement”) is executed by the undersigned transferee (“Transferee”) pursuant to the terms of that certain Registration Rights Agreement, dated as of July 3, 2023, by and among Callon Petroleum Company, a Delaware corporation (the “Company”), Percussion Petroleum Management II, LLC, a Delaware limited liability company, and the Holders from time to time party thereto (as amended, supplemented, or otherwise modified from time to time, the “Registration Rights Agreement”). Terms used and not otherwise defined in this Adoption Agreement have the meanings set forth in the Registration Rights Agreement.
By the execution of this Adoption Agreement, the Transferee agrees as follows:
1. Acknowledgement. Transferee acknowledges that Transferee is acquiring certain shares of Common Stock of the Company, subject to the terms and conditions of Registration Rights Agreement, among the Company and the Holders party thereto.
2. Agreement. Transferee (i) agrees that the shares of Common Stock of the Company acquired by Transferee shall be bound by and subject to the terms of the Registration Rights Agreement, pursuant to the terms thereof, and (ii) hereby adopts the Registration Rights Agreement with the same force and effect as if he, she, or it were originally a party thereto.
3. Notice. Any notice required as permitted by the Registration Rights Agreement shall be given to Transferee at the address listed beside Transferee’s signature below.
4. Joinder. The spouse of the undersigned Transferee, if applicable, executes this Adoption Agreement to acknowledge its fairness and that it is in such spouse’s best interest, and to bind such spouse’s community interest, if any, in the shares of Common Stock and other securities referred to above and in the Registration Rights Agreement, to the terms of the Registration Rights Agreement.
Signature:
Address:
Contact Person:
Telephone No:
Email:
Percussion Petroleum II, LLC
Consolidated Financial Report
Years ended December 31, 2022 and 2021
CONTENTS
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| Independent Auditor’s Report | |
| Consolidated Financial Statements | |
| Consolidated Balance Sheets | |
| Consolidated Statements of Operations | |
| Consolidated Statements of Changes in Members’ Equity | |
| Consolidated Statements of Cash Flows | |
| Notes to the Consolidated Financial Statements | |
Independent Auditor’s Report
To the Members of
Percussion Petroleum II, LLC
Report on the Audit of the Consolidated Financial Statements
Opinion
We have audited the consolidated financial statements of Percussion Petroleum II, LLC and its subsidiaries, which comprise the consolidated balance sheets as of December 31, 2022 and 2021, and the related consolidated statements of operations, changes in members’ equity, and cash flows for the years ended December 31, 2022 and 2021, and the related notes to the consolidated financial statements.
In our opinion, the accompanying consolidated financial statements present fairly, in all material respects, the financial position of Percussion Petroleum II, LLC and its subsidiaries as of December 31, 2022 and 2021, and the results of their operations and their cash flows for the years ended December 31, 2022 and 2021 in accordance with accounting principles generally accepted in the United States of America.
Basis for Opinion
We conducted our audits in accordance with auditing standards generally accepted in the United States of America (GAAS). Our responsibilities under those standards are further described in the Auditor’s Responsibilities for the Audit of the Consolidated Financial Statements section of our report. We are required to be independent of Percussion Petroleum II, LLC, and to meet our other ethical responsibilities, in accordance with the relevant ethical requirements relating to our audits. We believe that the audit evidence we have obtained is sufficient and appropriate to provide a basis for our audit opinion.
Responsibilities of Management for the Consolidated Financial Statements
Management is responsible for the preparation and fair presentation of the consolidated financial statements in accordance with accounting principles generally accepted in the United States of America, and for the design, implementation, and maintenance of internal control relevant to the preparation and fair presentation of consolidated financial statements that are free from material misstatement, whether due to fraud or error.
In preparing the consolidated financial statements, management is required to evaluate whether there are conditions or events, considered in the aggregate, that raise substantial doubt about Percussion Petroleum II, LLC’s ability to continue as a going concern for one year after the date that the consolidated financial statements are issued (or when applicable, one year after the date that the consolidated financial statements are available to be issued).
The Members of
Percussion Petroleum II, LLC
Auditor’s Responsibilities for the Audit of the Consolidated Financial Statements
Our objectives are to obtain reasonable assurance about whether the consolidated financial statements as a whole are free from material misstatement, whether due to fraud or error, and to issue an auditor’s report that includes our opinion. Reasonable assurance is a high level of assurance but is not absolute assurance and therefore is not a guarantee that an audit conducted in accordance with GAAS will always detect a material misstatement when it exists. The risk of not detecting a material misstatement resulting from fraud is higher than for one resulting from error, as fraud may involve collusion, forgery, intentional omissions, misrepresentations, or the override of internal control. Misstatements are considered material if there is a substantial likelihood that, individually or in the aggregate, they would influence the judgment made by a reasonable user based on the consolidated financial statements.
In performing an audit in accordance with GAAS, we:
•Exercise professional judgment and maintain professional skepticism throughout the audit.
•Identify and assess the risks of material misstatement of the consolidated financial statements, whether due to fraud or error, and design and perform audit procedures responsive to those risks. Such procedures include examining, on a test basis, evidence regarding the amounts and disclosures in the consolidated financial statements.
•Obtain an understanding of internal control relevant to the audit in order to design audit procedures that are appropriate in the circumstances, but not for the purpose of expressing an opinion on the effectiveness of Percussion Petroleum II, LLC’s internal control. Accordingly, no such opinion is expressed.
•Evaluate the appropriateness of accounting policies used and the reasonableness of significant accounting estimates made by management, as well as evaluate the overall presentation of the consolidated financial statements.
•Conclude whether, in our judgment, there are conditions or events, considered in the aggregate, that raise substantial doubt about Percussion Petroleum II, LLC’s ability to continue as a going concern for a reasonable period of time.
We are required to communicate with those charged with governance regarding, among other matters, the planned scope and timing of the audit, significant audit findings, and certain internal control–related matters that we identified during the audit.
Supplementary Information
Our audit was conducted for the purpose of forming an opinion on the consolidated financial statements as a whole. The unaudited supplemental disclosures in Note 12 are presented for purposes of additional analysis and is not a required part of the consolidated financial statements. Such information is the responsibility of management and was derived from and relates directly to the underlying accounting and other records used to prepare the consolidated financial statements. The information has been subjected to the auditing procedures applied in the audit of the consolidated financial statements and certain additional procedures, including comparing and reconciling such information directly to the underlying accounting and other records used to prepare the consolidated financial statements or to the consolidated financial statements themselves, and other additional procedures in accordance with auditing standards generally accepted in the United States of America. In our opinion, the information is fairly stated in all material respects in relation to the consolidated financial statements as a whole.
/s/ Weaver and Tidwell, L.L.P.
WEAVER AND TIDWELL, L.L.P.
Houston, Texas
April 28, 2023, except for unaudited supplemental information described in Note 12, as to which the date is June 30, 2023
Percussion Petroleum II, LLC
Consolidated Balance Sheets
December 31, 2022 and 2021
| | | | | | | | | | | | | | |
| | 2022 | | 2021 |
| ASSETS | | | | |
| CURRENT ASSETS | | | | |
| Cash and cash equivalents | | $52,828,210 | | | $44,389,962 | |
| Accounts receivable - oil and gas sales | | 32,652,426 | | | 33,346,039 | |
| Accounts receivable - other | | 5,063,936 | | | 6,039,727 | |
| Prepaid expenses & other | | 734,714 | | | 501,494 | |
| Inventory | | 13,456,868 | | | 152,760 | |
| Total current assets | | 104,736,154 | | | 84,429,982 | |
| | | | |
| OIL AND GAS PROPERTIES, full cost | | | | |
| Proved and unproved properties | | 621,942,573 | | | 430,200,640 | |
| Other property & equipment | | 3,325,826 | | | 2,385,699 | |
| Accumulated depreciation, depletion and amortization | | (101,440,354) | | | (24,169,391) | |
| Total oil and gas properties, net | | 523,828,045 | | | 408,416,948 | |
| | | | |
| OTHER ASSETS | | | | |
| Debt issuance costs, net | | 2,985,013 | | | 2,702,734 | |
| Operating lease - right-of-use asset | | 2,482,471 | | | — | |
| Total other assets | | 5,467,484 | | | 2,702,734 | |
| | | | |
| TOTAL ASSETS | | $634,031,683 | | | $495,549,664 | |
| | | | |
| LIABILITIES AND MEMBERS’ EQUITY | | | | |
| CURRENT LIABILITIES | | | | |
| Accounts payable and accrued liabilities | | $77,509,820 | | | $42,029,709 | |
| Revenue and taxes payable | | 25,007,550 | | | 33,030,928 | |
| Current portion of derivative liabilities, net | | 47,917,115 | | | 38,453,943 | |
| S/T operating lease - right-of-use liability | | 553,408 | | | — | |
| Total current liabilities | | 150,987,893 | | | 113,514,580 | |
| | | | |
| NON-CURRENT LIABILITIES | | | | |
| Asset retirement obligations | | 2,968,630 | | | 2,933,898 | |
| Long-term debt | | 220,000,000 | | | 145,000,000 | |
| Long-term portion of derivative liabilities | | 41,281,685 | | | 40,254,245 | |
| Other non-current liabilities | | — | | | 103,977 | |
| L/T operating lease - right-of-use liability | | 2,076,610 | | | — | |
| Total non-current liabilities | | 266,326,925 | | | 188,292,120 | |
| | | | |
| Total liabilities | | 417,314,818 | | | 301,806,700 | |
| | | | |
| MEMBERS’ EQUITY | | 216,716,865 | | | 193,742,964 | |
| | | | |
| TOTAL LIABILITIES AND MEMBERS’ EQUITY | | $634,031,683 | | | $495,549,664 | |
The Notes to the Consolidated Financial Statements are an integral part of these statements.
Percussion Petroleum II, LLC
Consolidated Statements of Operations
Years ended December 31, 2022 and 2021
| | | | | | | | | | | | | | |
| | 2022 | | 2021 |
| REVENUES | | | | |
| Oil and gas revenue | | $372,305,896 | | | $121,988,251 | |
| Realized loss on oil and gas derivatives | | (158,824,698) | | | (14,476,038) | |
| Total revenues | | 213,481,198 | | | 107,512,213 | |
| | | | |
| OPERATING EXPENSES | | | | |
| Lease operating expense | | 51,244,719 | | | 12,999,230 | |
| Production and ad valorem taxes, net | | 23,585,010 | | | 7,408,083 | |
| Marketing, transportation, and gathering expenses | | 7,563,674 | | | 4,730,754 | |
| Minimum volume commitment deficiency fees | | 3,837,319 | | | 2,010,132 | |
| General and administrative expenses | | 6,569,599 | | | 4,564,334 | |
| Transaction cost | | 700,106 | | | — | |
| Depreciation, depletion, amortization, and accretion | | 77,626,266 | | | 24,333,286 | |
| Total operating expenses | | 171,126,693 | | | 56,045,819 | |
| | | | |
| Income from operations | | 42,354,505 | | | 51,466,394 | |
| | | | |
| OTHER INCOME (EXPENSE) | | | | |
| Interest expense, net | | (13,206,864) | | | (3,690,255) | |
| Other income | | 4,084,720 | | | 648,092 | |
| Net unrealized loss on oil and gas derivatives | | (11,136,460) | | | (76,986,541) | |
| Total other expense | | (20,258,604) | | | (80,028,704) | |
| | | | |
| NET INCOME/(LOSS) | | $22,095,901 | | | ($28,562,310) | |
The Notes to the Consolidated Financial Statements are an integral part of these statements.
Percussion Petroleum II, LLC
Consolidated Statements of Changes in Members’ Equity
Years ended December 31, 2022 and 2021
| | | | | | | | |
| | Members’ Equity |
| | |
| Balance, January 1, 2021 | | $405,273 | |
| | |
| Contributions | | 221,900,001 | |
| | |
| Net (Loss) | | (28,562,310) | |
| | |
| Balance, December 31, 2021 | | 193,742,964 | |
| | |
| Contributions | | 878,000 | |
| | |
| Net income | | 22,095,901 | |
| | |
| Balance, December 31, 2022 | | $216,716,865 | |
The Notes to the Consolidated Financial Statements are an integral part of these statements.
Percussion Petroleum II, LLC
Consolidated Statements of Cash Flows
Years ended December 31, 2022 and 2021
| | | | | | | | | | | | | | |
| CASH FLOWS FROM OPERATING ACTIVITIES | | 2022 | | 2021 |
| Net income/(loss) | | $22,095,901 | | | ($28,562,310) | |
| Adjustments to reconcile net income/(loss) to cash provided by operating activities | | | | |
| Depreciation, depletion, amortization, and accretion | | 77,626,266 | | | 24,333,286 | |
| Amortization of debt issuance costs | | 1,024,313 | | | 339,699 | |
| Change in fair value of oil and gas derivatives | | 11,136,460 | | | 76,986,541 | |
| ASC 842 - non-cash lease expense | | 97,577 | | | — | |
| Changes in operating assets and liabilities: | | | | |
| Accounts receivable - oil and gas sales | | 1,669,404 | | | (39,385,766) | |
| Inventory | | (13,304,108) | | | (152,760) | |
| Prepaid expenses | | (287,227) | | | (445,022) | |
| Accounts payable and accrued liabilities | | (18,718,286) | | | 59,180,951 | |
| Settlement of ARO | | (173,491) | | | — | |
| Net cash provided by operating activities | | 81,166,809 | | | 92,294,619 | |
| | | | |
| CASH FLOWS FROM INVESTING ACTIVITIES | | | | |
| Acquisitions of oil and gas properties | | (10,003,224) | | | (356,910,245) | |
| Capital expenditures | | (360,197,133) | | | (52,834,392) | |
| Proceeds from sale of assets | | 223,840,515 | | | — | |
| Additions to other property and equipment | | (940,127) | | | (2,349,678) | |
| Net cash used in investing activities | | (147,299,969) | | | (412,094,315) | |
| | | | |
| CASH FLOWS FROM FINANCING ACTIVITIES | | | | |
| Contributions | | 878,000 | | | 221,900,001 | |
| Net proceeds from credit agreement | | 145,000,000 | | | 145,000,000 | |
| Repayment of debt | | (70,000,000) | | | — | |
| Deferred financing costs | | (1,306,592) | | | (3,042,433) | |
| Net cash provided by financing activities | | 74,571,408 | | | 363,857,568 | |
| | | | |
| Net increase in cash and cash equivalents | | 8,438,248 | | | 44,057,872 | |
| | | | |
| CASH AND CASH EQUIVALENTS, beginning of year | | 44,389,962 | | | 332,090 | |
| | | | |
| CASH AND CASH EQUIVALENTS, end of year | | $52,828,210 | | | $44,389,962 | |
| | | | |
| SUPPLEMENTAL SCHEDULE OF NON-CASH INVESTING AND FINANCING ACTIVITIES | | | | |
| Change in proved properties for asset retirement obligation activity: | | | | |
| Liabilities incurred upon acquisition and development | | $231,650 | | | $2,761,751 | |
| Capital expenditures accrued in accounts payable | | $48,397,998 | | | $17,694,252 | |
| OTHER SUPPLEMENTAL CASH FLOW INFORMATION | | | | |
| Interest paid | | $12,900,251 | | | $1,600,695 | |
| Cash paid for operating leases | | $596,577 | | | $— | |
The Notes to the Consolidated Financial Statements are an integral part of these statements.
Percussion Petroleum II, LLC
Notes to Consolidated Financial Statements
Note 1. Organization and Principles of Consolidation
Organization
Percussion Petroleum II, LLC and subsidiaries (collectively, the Company) is a Delaware limited liability company formed February 27, 2020. The Company is engaged in the acquisition, development, and operation of oil & gas properties located primarily in the state of Texas.
The following entities have been included in the consolidated financial statements:
Percussion Petroleum Management II, LLC (Percussion Management II) is a wholly owned subsidiary of the Company and acts as management of the Company. Percussion Petroleum Operating II, LLC (Percussion Operating II) is a wholly owned subsidiary of the Company and acts as operators of the properties owned by the Company. Percussion Petroleum Intermediate II, LLC (Percussion Intermediate II) is a wholly owned subsidiary of the Company.
Principles of Consolidation
The consolidated financial statements include the accounts of entities the Company controls. All intercompany transactions and balances have been eliminated.
Note 2. Summary of Significant Accounting Policies
Basis of Accounting
The Company prepares its consolidated financial statements in accordance with United States generally accepted accounting principles (U.S. GAAP). Accounting principles and the methods of applying these principles that materially affect the determination of financial position, results of operations, and cash flows are summarized below.
Reclassification
Certain reclassifications have been made to prior year reported numbers to conform with current year presentation for comparability purposes. No changes to net income or retained earnings were made.
Estimates and Uncertainties
The preparation of the consolidated financial statements in conformity with accounting principles generally accepted in the United States of America requires the Company’s management to make estimates and assumptions that affect the amounts reported in the consolidated financial statements and accompanying notes. Actual results could differ from those estimates.
Significant assumptions are required in the valuation of proved oil and gas reserves which may affect the amount at which oil and gas properties are recorded, provisions for depletion and impairment of oil and gas properties. Estimation of asset retirement obligations is based on estimates regarding the timing and cost of future asset abandonments. Estimation of production volumes near period end is required in order to determine the amount of oil and gas revenue receivable at period end. Estimates of the fair value and settlement value of derivative instruments are inherently imprecise. It is possible these estimates could be revised in the near term and these revisions could be material.
Percussion Petroleum II, LLC
Notes to Consolidated Financial Statements
Cash and Cash Equivalents
Cash and cash equivalents include cash in bank accounts with initial maturities of less than three months.
Credit Risk
The Company maintains its cash in bank deposit accounts which, at times, may exceed federally insured limits. The Company has not experienced any losses in such accounts and believes it is not exposed to any significant credit risk on cash.
Accounts Receivable - Oil and Gas Sales
Accounts receivable – oil and gas sales include amounts due from oil and gas purchasers. Accounts receivable include accrued revenues due under normal trade terms, generally requiring payment within 30 days of production. No interest was charged in 2022 or 2021 on past due balances. The Company’s allowance for doubtful accounts is determined based upon reviews of individual accounts, historical losses, existing economic conditions and other pertinent factors. No allowance was recorded as of December 31, 2022 or 2021, respectively.
Inventory
Inventory is added to the books upon the purchase of supplies (inclusive of freight and sales tax costs) to use on well sites, and inventory is reduced by material transfers for inventory usage based on the initial invoiced value. The Company reports inventory balances at the lower of cost or market value and excludes inventory balances from depletion calculations. During 2022, the Company purchased materials and supplies inventories in bulk to lock in prices with certain vendors.
Commodity Derivative Financial Instruments
The Company uses derivative instruments to manage market risks resulting from fluctuations in the prices of crude oil, natural gas and NGLs. The Company enters into derivative contracts, including price swaps, basis swaps and collars, which require payments to (or receipts from) counterparties based on the differential between a fixed price and a variable price for a fixed quantity of crude oil, natural gas and NGLs without the exchange of underlying volumes. The notional amounts of these financial instruments are based on expected production from existing wells. The Company may also use exchange traded futures contracts and option contracts to hedge the delivery price of crude oil at a future date.
The Company follows the provisions of FASB ASC 815, Derivatives and Hedging, as amended. It requires that all derivative instruments be recognized as assets or liabilities in the balance sheet, measured at fair value and marked-to-market at the end of each period. Any realized gains and losses on settled derivatives, as well as mark-to-market gains or losses, are aggregated and recorded to gain (loss) on derivative instruments, net on the statement of operations. See Note 5 for a description of the derivative contracts into which the Company has entered.
The Company utilizes commodity price swaps, basis swaps, and collars (purchased put options and written call options) 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.
Percussion Petroleum II, LLC
Notes to Consolidated Financial Statements
All derivative instruments are recorded in the Company’s balance sheet as either assets or liabilities measured at their fair value (see Note 4). 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 statement 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, as applicable.
The Company has master netting agreements on individual derivative instruments with certain counterparties and therefore the current assets and liabilities are netted in the consolidated balance sheets and the non-current assets and liabilities are netted in the consolidated balance sheets for contracts with these counterparties.
Other Property and Equipment
Other property and equipment is stated at cost. Repairs and maintenance are charged to expense as incurred, with additions and improvements being capitalized. Upon sale or other retirement of depreciable property, the cost and accumulated depreciation are removed from the related accounts and any gain or loss is reflected in the consolidated statements of operations.
Depreciation is provided based on the straight-line method based on the estimated useful lives of the depreciable assets as follows:
| | | | | |
| Computers and software | 3-10 years |
| Vehicles | 5 years |
| Leasehold improvements | Lease term |
| Furniture and fixtures | 10 years |
| Machinery and equipment | 5-10 years |
Depreciation expense on other property and equipment was $2,613,421 and $90,805 for the years ended December 31, 2022 and 2021, respectively, and is included in depreciation, depletion, amortization and accretion in the consolidated statements of operations.
Proved 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 initially capitalized into a single cost pool (full cost pool). Capitalized 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 the production, general corporate overhead or similar activities. Costs associated with production and general corporate activities are expensed in the period incurred. As of December 31, 2022 and 2021, the Company held leasehold interests on acreage in various counties in Texas. The
Percussion Petroleum II, LLC
Notes to Consolidated Financial Statements
Company capitalized $408,033,330 and $70,528,644 of costs to the full cost pool for the years ended December 31, 2022 and 2021, respectively for capital expenditures to develop their reserve base.
Proceeds from property sales will generally be credited to the full cost pool, with no gain or loss recognized, unless such a sale significantly alters the relationship between capitalized costs and the proved reserves attributable to these costs. A significant alteration would typically involve a sale of 25% or more of the proved reserves related to a single full cost pool.
Capitalized costs associated with impaired properties and capitalized cost 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 based on the estimated gross proved reserves as determined by petroleum engineers on at least an annual basis. 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. Depletion expense on proved property was $74,657,542 and $24,070,334 for the years ended December 31, 2022 and 2021, respectively, and is included in depreciation, depletion, amortization and accretion in the consolidated statement of operations.
The Company evaluates capitalized costs annually for impairment using the full cost ceiling test method of accounting. Capitalized costs of crude oil and natural gas properties may not exceed an amount equal to the present value, discounted at 10% per annum, of the estimated future net cash flows from proved crude oil and natural gas reserves plus the cost of unproved properties. Should capitalized costs exceed this ceiling, impairment is recognized. The present value of estimated future net cash flows is computed by applying the 12-month average price of crude oil and natural gas to estimated future production of proved crude oil and natural gas reserves as of year-end, less estimated future expenditures to be incurred in developing and producing the proved reserves and assuming continuation of existing economic conditions. Such present value of proved reserves' future net cash flows excludes future cash outflows associated with settling asset retirement obligations that have been accrued on the balance sheets. Should this comparison indicate an excess carrying value, the excess is charged to earnings as an impairment expense. Each part of this calculation is subject to a large degree of judgment, including the determination of the depletable fields’ estimated reserves, future net cash flows and fair value. For the years ended December 31, 2022 and 2021, the Company did not realize an impairment of its proved properties.
Debt Issuance Costs
Debt issuance costs consist of costs directly attributable to the acquisition of debt financing. These costs are capitalized as non-current other asset charges and amortized over the life of the credit instrument obtained. During the years ended December 31, 2022 and 2021, the Company capitalized $1,306,592 and $3,042,433 of debt issuance costs and for the years then ended recognized $1,024,313 and $339,699 of amortization related to debt issuance costs, respectively, which is included in interest expense on the consolidated statements of operations. As of the years ended December 31, 2022 and 2021, the Company had net debt issuance costs of $2,985,013 and $2,702,734, respectively.
Accounts Payable, Accrued Liabilities and Revenue and Taxes Payable
Accounts payable and accrued liabilities consist primarily of vendor obligations under normal trade terms for services rendered or products received. Accrued liabilities include revenue collected on
Percussion Petroleum II, LLC
Notes to Consolidated Financial Statements
behalf of mineral interest owners to be disbursed subsequent to year-end and prepayments from working interest owners for future expenses and accrued capital expenditures.
Asset Retirement Obligations
The Company accounts for its asset retirement obligations in accordance with FASB ASC Topic 410, Asset Retirement and Environmental Obligations. Asset retirement obligations consist of estimated costs of dismantlement, removal, site reclamation and similar activities associated with oil and gas properties. A liability is recorded when the fair value of the asset retirement obligation can be reasonably estimated and recognized in the period a legal obligation is incurred. A liability is incurred when a well is drilled and completed. The liability amounts are based on future retirement cost estimates and incorporate many assumptions, such as expected economic recoveries of oil and gas, time to abandonment, future inflation rates and the adjusted risk-free rate of interest.
The retirement obligation is recorded at its estimated present value at the asset's inception with an offsetting increase to proved properties in the consolidated balance sheets. This addition to proved properties represents a non-cash investing activity for purposes of the consolidated statements of cash flows. After initially recording the liability, it accretes for the passage of time and the related cost of capital, with the increase reflected as accretion expense in the consolidated statements of operations.
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 oil and natural gas in the period that its performance obligations are satisfied. Performance obligations are satisfied at a point in time when the customer obtains control of 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 have been negotiated with purchasers, 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 accounts receivable, on the consolidated balance sheet. 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 expedient in accordance with ASC 606. The expedient, 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 the energy industry. The Company’s natural gas produced is delivered to various purchasers at agreed upon delivery points under a limited number of contract types that are also common in the energy industry. Regardless of the contract type, the terms of these contracts compensate the well operators for
Percussion Petroleum II, LLC
Notes to Consolidated Financial Statements
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.
Concentrations
Substantially all of the Company’s accounts receivable are due from participants in the oil and natural gas exploration and production industry and represent oil and natural gas production proceeds receivable.
Trade accounts receivable are generally unsecured. An allowance for doubtful accounts is determined based on a review of accounts and past history. At December 31, 2022 and 2021, it was determined that no allowance was needed.
Environmental Regulation
Exploration and development and the production and sale of oil and gas are subject to extensive federal, state, provincial, tribal, and local regulations. Management believes it is in substantial compliance with currently applicable laws and regulations and that continued substantial compliance with existing requirements will not have a material adverse effect on our financial position, cash flows or results of operations. However, current regulatory requirements may change, currently unforeseen resource or environmental incidents may occur or past non-compliance with environmental laws or regulations may be discovered. Environmental compliance costs, including ongoing maintenance and monitoring, are expensed as incurred.
Equity-Based Compensation
The Company accounts for the Incentive Units in accordance with the provisions of FASB ASC Topic 710, Compensation – Generally due to the payouts being consistent with profit sharing of the Company based on substantive terms of the instruments. Due to the nature of the Incentive Units, no value is attributed and no expense recognized at the date of issuance, and amounts earned by holders of the Incentive Units will be charged to compensation expense in the period in which they are earned and can be reasonably estimated and deemed probable.
Income Taxes
The Company is organized as a limited liability company and is considered a pass through entity for federal income tax purposes. As a result, income or losses are taxable or deductible to the members rather than at the Company level; accordingly, no provision has been made for federal income taxes in the accompanying consolidated financial statements. In certain instances, the Company is subject to state taxes on income arising in or derived from the state tax jurisdictions in which it operates.
State income tax positions are evaluated in a two-step process. The Company first determines whether it is more likely than not that a tax position will be sustained upon examination. If a tax position meets the more likely than not threshold, it is then measured to determine the amount of expense to record in the consolidated financial statements. The tax expense recorded would equal the largest amount of expense related to the outcome that is 50% or greater likely to occur. The Company classifies any potential accrued interest recognized on an underpayment of income taxes as interest expense and classifies any statutory penalties recognized on a tax position taken as operating expense. Management of the Company has not taken a tax position that, if challenged, would be expected to have a material effect on the consolidated financial statements as of December 31, 2022 and 2021, respectively.
Percussion Petroleum II, LLC
Notes to Consolidated Financial Statements
The Company did not incur any penalties or interest related to its state tax returns during the years ended December 31, 2022 and 2021.
Under the new centralized partnership audit rules effective for tax years beginning after 2017, the Internal Revenue Service (IRS) assesses and collects underpayments of tax from the partnership instead of from each partner. The partnership may be able to pass the adjustments through to its partners by making a push-out election or, if eligible, by electing out of the centralized partnership audit rules.
The collection of tax from the partnership is only an administrative convenience for the IRS to collect any underpayment of income taxes including interest and penalties. Income taxes on partnership income, regardless of who pays the tax or when the tax is paid, are attributed to the partners. Any payment made by the partnership as a result of an IRS examination will be treated as a distribution from the partnership to the partners in the consolidated financial statements.
Significant Accounting Policy for Leases
In February 2016, the FASB issued ASU 2016-02 Leases (Topic 842). The objective of this standard was to increase the transparency and comparability among organizations by recognizing lease assets and lease liabilities on the balance sheet and disclosing key information about leasing arrangements. Classification of leases as either a finance or operating lease will determine the recognition, measurement, and presentation of expenses. This standard does not apply to leases to explore for or use minerals, oil or natural gas resources, including the right to explore for those natural resources and rights to use the land in which those natural resources are contained.
The Company completed an assessment of existing contracts, as well as future potential contracts, to determine the impact of the new accounting guidance on its Consolidated Financial Statements and related disclosures. The evaluation process included review of contracts for drilling rigs, office facilities, compression services, field vehicles and equipment, general corporate leased equipment, and other existing arrangements to support its operations that may contain a lease component. The Company’s evaluation process did not include review of its mineral leases as they are outside the scope of ASC Topic 842.
The Company adopted this guidance on January 1, 2022, the transition date, using the simplified transition method described in ASU 2018-11 which allows entities to continue to apply historical accounting guidance in the comparative periods presented in the year of adoption. Accordingly, prior period amounts in the Company’s financial statements are not adjusted and continue to be reported in accordance with historical accounting guidance.
The Company elected the package of practical expedients within ASU 2016-02 that allows an entity to not reassess, prior to the effective date, (i) whether any expired or existing contracts are or contain leases, (ii) the lease classification for any expired or existing leases or (iii) initial direct costs for any existing leases. Additionally, the Company elected the practical expedient under ASU 2018-01 to not evaluate existing or expired land easements not previously accounted for as leases prior to the effective date. The Company made an accounting policy election not to apply the lease recognition requirements to short-term leases. See Note 11. Leases for further information.
Percussion Petroleum II, LLC
Notes to Consolidated Financial Statements
Subsequent Events
The Company has evaluated subsequent events from December 31, 2022, the date of the consolidated balance sheets, through April 28, 2023, the date these consolidated financial statements were available for issuance.
Note 3. Acquisition/Disposition of Oil and Gas Property
During the year ended December 31, 2022, the Company divested certain non-core acreage in the Delaware Basin to several unrelated third-party buyers for approximately $223.8 million in net proceeds. The Company used the net proceeds from the transactions to reduce debt and fund working capital. The aggregate net proceeds were recognized as a reduction of oil and gas properties with no gain or loss recognized as they did not significantly alter the relationship between capitalized costs and estimated proved reserves. Transaction costs as incurred during 2022 were $700,106 and are reported on the consolidated statements of operations for the year then ended.
During the year ended December 31, 2021, the Company entered into a purchase agreement to acquire certain producing oil and natural gas properties for a purchase price of approximately $356 million in cash. As part of the acquisition, the purchase price included up to three earn-out payments of $25.0 million per year for each of 2023, 2024 and 2025 if the average daily settlement price of NYMEX West Texas Intermediate (“NYMEX WTI”) crude oil exceeds $60 per barrel for such year. As the transaction was deemed to be an asset acquisition, the contingent consideration related to the earn-out payments will be recognized when the payments become probable and reasonably estimable in accordance with ASC 450.
Note 4. Fair Value Measurements
Fair value is defined 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. Where available, fair value is based on observable market prices or parameters or derived from such prices or parameters. Where observable prices or inputs are not available, valuation models are applied. These valuation techniques involve some level of management estimation and judgment, the degree of which is dependent on the price transparency for the instruments or market and the instruments’ complexity.
Current accounting guidance provides a framework for measuring fair value and establishes a fair value hierarchy that prioritizes the inputs used to measure fair value, giving the highest priority to unadjusted quoted prices in active markets for identical assets or liabilities and the lowest priority to unobservable inputs. The three levels are as follows:
Level 1: Inputs are unadjusted quoted prices in active markets for identical assets or liabilities that the Company has the ability to access at the measurement date.
Level 2: Inputs include quoted prices for similar assets and liabilities in active markets, quoted prices for identical or similar assets or liabilities in markets that are not active, inputs other than quoted prices that are observable for the asset or liability (i.e., interest rates, yield curves, etc.), and inputs that are derived principally from or corroborated by observable market data by correlation or other means (market corroborated inputs).
Level 3: Significant inputs are unobservable and reflect the Company's assumptions about the assumptions that market participants would use in pricing an asset or liability, based on the best information available.
Percussion Petroleum II, LLC
Notes to Consolidated Financial Statements
The Company attempts to use valuation techniques that maximize the use of observable inputs and minimize the use of unobservable inputs. In measuring the fair value of its assets and liabilities, the Company uses market data or assumptions that it believes market participants would use in pricing an asset or liability, including assumptions about risk when appropriate. A financial instrument’s level within the fair value hierarchy is based on the lowest level of any input that is significant to the fair value measurement.
The fair value of production derivative assets and liabilities are valued using an option pricing model with primarily level 1 inputs, including underlying commodity price, strike price and volatility of similar instruments in observable markets. This is categorized as level 2, using the market approach.
The following tables present the classification of assets (liabilities) measured at fair value on a recurring basis by level at December 31, 2022 and 2021, respectively:
2022
| | | | | | | | | | | | | | | | | | | | | | | | | | |
| | Level 1 | | Level 2 | | Level 3 | | Total |
| Liability - current | | | | | | | | |
| Commodity derivative instruments | | $— | | | $47,917,115 | | | $— | | | $47,917,115 | |
| | | | | | | | |
| Liability - non-current | | | | | | | | |
| Commodity derivative instruments price swap contracts | | — | | | 41,281,685 | | | — | | | 41,281,685 | |
| | | | | | | | |
| Total financial liability | | — | | | 89,198,800 | | | — | | | 89,198,800 | |
| | | | | | | | |
| Net financial liability | | $— | | | $89,198,800 | | | $— | | | $89,198,800 | |
2021
| | | | | | | | | | | | | | | | | | | | | | | | | | |
| | Level 1 | | Level 2 | | Level 3 | | Total |
| Liability - current | | | | | | | | |
| Commodity derivative instruments | | $— | | | $38,453,943 | | | $— | | | $38,453,943 | |
| | | | | | | | |
| Liability - non-current | | | | | | | | |
| Commodity derivative instruments price swap contracts | | — | | | 40,254,245 | | | — | | | 40,254,245 | |
| | | | | | | | |
| Total financial liability | | — | | | 78,708,188 | | | — | | | 78,708,188 | |
| | | | | | | | |
| Net financial liability | | $— | | | $78,708,188 | | | $— | | | $78,708,188 | |
Note 5. Commodity Derivative Financial Instruments
Commodity derivative instruments may take the form of collars, swaps or other derivatives indexed to WTI, NYMEX or other commodity price indexes.
Such derivative instruments will not exceed anticipated production volumes, are expected to have a reasonable correlation between price movements in the futures market and the spot markets where the Company’s production is sold, and are authorized by the Board of Managers. Derivatives are expected to be realized as related production occurs, but may be terminated earlier if anticipated downward price
Percussion Petroleum II, LLC
Notes to Consolidated Financial Statements
movement occurs or if the Company believes the potential for such movement has abated. The Company’s crude oil and natural gas derivative positions consist of swaps and collars. Swaps and collars are designed so that the Company receives or makes payments based on a differential between fixed and variable prices for crude oil and natural gas. The Company utilizes WTI Roll Swaps to mitigate the financial risk associated with the Argus CMA Roll component of the Company’s realized price for physical oil sales.
The periods covered, notional amounts, fixed price and related commodity pricing index of the Company’s outstanding crude oil and natural gas derivative contracts as of December 31, 2022 are set forth in the table below:
| | | | | | | | | | | | | | | | | | | | |
| Oil Contracts | | 2023 | | 2024 | | 2025 |
| | | | | | |
| Collar Contracts (WTI) | | | | | | |
| Total Volumes | | 848,861 | | | 367,000 | | | — | |
| Weighted Average price per barrel | | | | | | |
| Floor | | $60.00 | | | $60.00 | | | $— | |
| Ceiling | | $72.40 | | | $67.25 | | | $— | |
| | | | | | |
| Three-Way Collar Contracts (WTI) | | | | | | |
| Total Volumes | | 2,809,807 | | | 3,963,023 | | | — | |
| Weighted Average price per barrel | | | | | | |
| Sub-floor | | $46.84 | | | $48.16 | | | $— | |
| Floor | | $56.84 | | | $58.16 | | | $— | |
| Ceiling | | $75.14 | | | $78.86 | | | $— | |
| | | | | | |
| Roll Swaps (WTI vs. CMA) | | | | | | |
| Total Volumes | | 4,253,383 | | | — | | | — | |
| Weighted Average price per barrel | | $0.33 | | | $— | | | $— | |
| | | | | | | | | | | | | | | | | | | | |
| Natural Gas Contracts | | 2023 | | 2024 | | 2025 |
| | | | | | |
| HHub Swaps | | | | | | |
| Total Volumes | | 2,152,200 | | | — | | | — | |
| Total Weighted Average Swap | | $2.92 | | | $— | | | $— | |
| | | | | | |
| HHub Collars | | | | | | |
| Total Volumes | | 3,606,321 | | | 6,778,555 | | | — | |
| Total Weighted Average Floor | | $2.80 | | | $3.00 | | | $— | |
| Total Weighted Average Ceiling | | $3.59 | | | $3.33 | | | $— | |
| | | | | | |
| Waha Swaps | | | | | | |
| Total Volumes | | 3,650,000 | | | 3,660,000 | | | — | |
| Total Weighted Average Swap | | ($1.94) | | | ($1.06) | | | $— | |
Percussion Petroleum II, LLC
Notes to Consolidated Financial Statements
| | | | | | | | | | | | | | | | | | | | |
| NGL Contracts | | 2023 | | 2024 | | 2025 |
| | | | | | |
| Ethane Swaps | | | | | | |
| Total Volumes | | 15,693,365 | | | — | | | — | |
| Total Weighted Average Swap | | $0.24 | | | $— | | | $— | |
| | | | | | |
| Propane Swaps | | | | | | |
| Total Volumes | | 12,453,188 | | | — | | | — | |
| Total Weighted Average Swap | | $0.77 | | | $— | | | $— | |
| | | | | | |
| iButane Swaps | | | | | | |
| Total Volumes | | 1,704,045 | | | 985,388 | | | — | |
| Total Weighted Average Swap | | $0.84 | | | $0.79 | | | $— | |
| | | | | | |
| nButane Swaps | | | | | | |
| Total Volumes | | 5,222,830 | | | 3,028,411 | | | — | |
| Total Weighted Average Swap | | $0.84 | | | $0.79 | | | $— | |
| | | | | | |
| Gasoline Swaps | | | | | | |
| Total Volumes | | 6,814,687 | | | — | | | — | |
| Total Weighted Average Swap | | $1.34 | | | $— | | | $— | |
At December 31, 2022 and 2021, respectively, the fair value of derivative instruments is recorded on the consolidated balance sheets as follows:
| | | | | | | | | | | | | | |
| | 2022 | | 2021 |
| Derivative liabilities - current | | | | |
| Gross amounts without effects of netting | | $60,154,112 | | | $52,916,279 | |
| Effects of netting | | (12,236,997) | | | (14,462,336) | |
| | | | |
| Current portion of derivative liabilities, net | | $47,917,115 | | | $38,453,943 | |
| | | | |
| Derivative liabilities - non-current | | | | |
| Gross amounts without effects of netting | | $74,475,762 | | | $111,103,293 | |
| Effects of netting | | (33,194,077) | | | (70,849,048) | |
| | | | |
| Long-term portion of derivative liabilities, net | | $41,281,685 | | | $40,254,245 | |
Percussion Petroleum II, LLC
Notes to Consolidated Financial Statements
Note 6. Credit Facility
The Company entered into a bank credit facility (the Credit Facility) on June 29, 2021. Pursuant to the credit agreement, from time to time the Company may borrow up to the lesser of: the available borrowing base, as determined by the credit agreement, or $500,000,000, which is the maximum borrowing capacity of the facility. The borrowing base is re-determined semi-annually each May 1 and November 1. At December 31, 2022, the Company had a maximum borrowing base of $235,000,000 and a remaining borrowing capacity of $10,000,000. The outstanding principal balance was $220,000,000 and outstanding issued letters of credit was $5,000,000 as of December 31, 2022.
During 2022, The Credit Facility was modified and allows for Secured Overnight Financing Rate (“SOFR”) loans and Base Rate Loans (as respectively defined in the Credit Facility). The interest rate on each SOFR Loan will be the adjusted SOFR (subject to a Floor of 0.5%) for the applicable interest period plus a margin between 3.0% and 4.0% (depending on the then-current level of Borrowing Base usage) plus a margin between 0.10% and 0.25% depending on the applicable term. The annual interest rate on each Base Rate Loan is the Federal Funds Rate (as defined in the Credit Facility) plus 0.5% per annum plus a margin between 2.0% and 3.0% (depending on the then-current level of Borrowing Base usage) plus a margin of 0.10%. In addition to interest, the Company must pay a commitment fee of 0.50% on the undrawn portion of the borrowing base.
The Company’s revolving line of credit is secured by all property of the Company and its subsidiaries. It contains various nonfinancial and financial covenants, including a minimum current ratio and maximum net debt to EBITDAX ratio. No amounts were drawn on the letters of credit for the years ended December 31, 2022 and 2021, respectively.
Note 7. Asset Retirement Obligation
A reconciliation of the changes in the estimated asset retirement obligation for years ended December 31, 2022 and 2021 is as follows:
| | | | | | | | | | | | | | |
| | 2022 | | 2021 |
| | | | |
| Balance, beginning January 1, | | $2,933,898 | | | $— | |
| Liability incurred upon acquiring and drilling wells | | 231,650 | | | 2,761,751 | |
| Accretion expense | | 355,303 | | | 172,147 | |
| Settlement of liabilities | | (173,491) | | | — | |
| Liabilities released upon divestiture | | (378,730) | | | — | |
| | | | |
| Balance, ending December 31, | | $2,968,630 | | | $2,933,898 | |
| | | | |
| Less current portion | | — | | | — | |
| | | | |
| Non-current portion | | $2,968,630 | | | $2,933,898 | |
At December 31, 2022 and 2021, all retirement obligations were classified as non-current based on the estimated lives of the Company’s oil and gas properties.
Note 8. Governance, Members’ Equity, and Incentive Units
Capital contributions are based on capital calls, determined by the board of managers. Contribution requests to the Members are based on their commitment and any items in nature of income or gain will
Percussion Petroleum II, LLC
Notes to Consolidated Financial Statements
be applied to the Members' capital accounts in accordance with their earnings interest, as defined by the Membership Agreement. The Company has three classes of members' equity, Classes A, B, and C Units. The rights, privileges, preferences and obligations are provided for in the Company’s Membership Agreement.
All distributions by the Company shall be made to unitholders in accordance with their respective class sharing percentage set forth in the Company’s Membership Agreement. Additionally, net income (loss) is allocated to the unitholders in accordance with their respective partnership percentages.
Incentive Units
Pursuant to the Percussion Petroleum II, LLC Amended Company Agreement (Company Agreement), the Board has authorized issuance of Incentive Units. The Incentive Units do not have an exercise price and do not expire until the Company is dissolved. The incentive units entitle the holder to participate in distributable cash flow generated by the Company in the event that certain payouts are achieved in accordance with the distribution provisions of the Company Agreement. The Incentive Units are accounted for consistent with requirements of ASC Topic 710 due to the payouts being consistent with profit sharing of the Company based on substantive terms of the instruments. Accordingly, no value was attributed to the Incentive Units and no expense recognized at the date of issuance.
Note 9. Related Party Transactions
Transactions between related parties are considered to be related party transactions even though they may not be given accounting recognition. FASB ASC Topic 850, Related Party Disclosures (ASC Topic 850), requires that transactions with related parties that would make a difference in decision making be disclosed so that users of the consolidated financial statements can evaluate their significance.
Carnelian Energy Capital, Catena Resources Operating and Catena Resources Management are considered related parties under ASC Topic 850. The Company provides all services that are generally required for the day-to-day operation of business to Catena Resources, LLC under a Services Agreement. For the year ended December 31, 2021, the Company invoiced Catena $688,863 relating to these services and as of December, 31, 2021, $166,489 of this amount was due from Catena. For the year ended December 31, 2022, the Company invoiced Catena $3,034,378 relating to these services and as of December, 31, 2022, $140,845 of this amount was due from Catena.
Note 10. Commitments and Contingencies
The Company is engaged in oil and gas exploration and production and may become subject to certain liabilities as they relate to environmental cleanup of well sites or other environmental restoration procedures as they relate to the drilling of oil and gas wells and the operation thereof. In the Company’s acquisition of existing or previously drilled wellbores, the Company may not be aware of what environmental safeguards were taken at the time such wells were drilled or during such time the wells were operated. Should it be determined that a liability exists with respect to any environmental clean-up or restoration, the liability to cure such a violation could fall upon the Company.
The Company is subject to legal proceedings and claims that arise in the ordinary course of its business. In the opinion of management, the amount of ultimate liability with respect to these actions will not materially affect the financial position of the Company and an estimate of such liability cannot be reasonably made.
Percussion Petroleum II, LLC
Notes to Consolidated Financial Statements
In 2021, the Company entered into a lease arrangement for its corporate office in Houston, Texas that expires in 2027. For the year ended December 31, 2021 the Company’s office rent was $294,679. For the year ended December 31, 2022 the Company’s office rent was $678,250. Office rent expense is included in general and administrative expenses in the accompanying consolidated statements of operations.
As of December 31, 2022, future commitments are approximately as follows:
| | | | | | | | | | | | | | | | | | | | |
| | Operating Leases (1) | | Delivery Commitments (2) | | Total |
| 2023 | | $658,494 | | | $3,912,462 | | | $4,570,956 | |
| 2024 | | 672,378 | | | 9,824,495 | | | 10,496,873 | |
| 2025 | | 686,262 | | | 4,070,525 | | | 4,756,787 | |
| 2026 | | 700,145 | | | 4,151,936 | | | 4,852,081 | |
| 2027 | | 175,904 | | | 1,033,817 | | | 1,209,721 | |
| Thereafter | | — | | | — | | | — | |
| Total | | $2,893,183 | | | $22,993,235 | | | $25,886,418 | |
(1) Operating lease consists of contracts for office space.
(2) Delivery commitments represent contractual obligations the Company has entered into for certain gathering, processing and transportation service agreements which require minimum volumes of oil or natural gas to be delivered. The amounts in the table above represent the aggregate undiscounted deficiency fees assuming no delivery of any oil or natural gas.
Note 11. Leases
At contract inception, the Company typically determines whether or not an arrangement contains a lease. However, in connection with the implementation of ASC Topic 842, Leases, this assessment was made as of the adoption date of ASC 842. Upon determination of a lease, a lease right-of-use ("ROU”) asset and related liability are recorded based on the present value of the future lease payments over the lease term. ROU assets represent the Company’s right to use an underlying asset for the lease term, and lease liabilities represent the obligation to make future lease payments arising from the lease.
The Company’s operating lease activities consist of a lease for office space. The Company did not recognize any finance leases. Leases with an initial term of 12 months or less are not recorded on the consolidated balance sheets. Most leases include one or more options to renew, with renewal terms generally ranging from one to three years. The exercise of lease renewal options is at the Company’s sole discretion. Certain leases also include options to purchase the leased property. The depreciable life of assets and leasehold improvements is limited by the expected lease term, unless there is a transfer of title or purchase option reasonably certain of exercise. None of the lease agreements include variable lease payments. The lease agreements do not contain any material residual value guarantees or material restrictive covenants.
Percussion Petroleum II, LLC
Notes to Consolidated Financial Statements
Expenses related to short-term leases are recognized on a straight-line basis over the lease term as either expenses to the consolidated statements of operations or capitalized within the consolidated balance sheets. The amounts paid during 2022 for short-term leases less than 12 months are as follows:
| | | | | | | | |
| | 2022 |
| Operating lease cost | | $201,553 | |
| Short-term lease cost | | 1,895,367 | |
| Total lease cost | | $2,096,920 | |
The following table shows the classification and location of the Company’s leases on the consolidated balance sheets:
| | | | | | | | | | | | | | |
| Type | | Balance Sheet Location | | 2022 |
| Assets: | | | | |
| Operating lease right-of-use asset | | Other assets | | $2,482,471 | |
| Liabilities: | | | | |
| Operating lease liability, current | | Current other liabilities | | $553,408 | |
| Operating lease liability, noncurrent | | Noncurrent other liabilities | | $2,076,610 | |
Minimum contractual obligations for the Company’s leases (undiscounted) as of December 31, 2022 were as follows:
| | | | | | | | |
| | Operating |
| Total lease payments | | $2,893,183 | |
| Less: present value discount | | (263,165) | |
| Present value of lease liabilities | | $2,630,018 | |
The discount rate used for operating leases is based on the Company’s risk-free rate at lease commencement and may be adjusted if modifications to lease terms or lease reassessments occur.
| | | | | | | | |
| | 2022 |
| Weighted average remaining life - operating leases | | 4.33 |
| Weighted average discount rate - operating leases | | 3.68 | % |
Note 12. Supplemental Information About Oil & Gas Production Activities (Unaudited)
Estimated Quantities of Proved Oil and Gas Reserves
The reserve estimates presented below are prepared in accordance with SEC regulations. The Company’s independent reserve engineers, Netherland, Sewell & Associates, Inc. (NSAI), prepared the estimates of the Company’s proved reserves as of December 31, 2022 and the related pre-tax future net cash flows. The individuals performing reserves estimates possess professional qualifications and demonstrate competency in reserves estimation and evaluations. The estimates of proved reserves are inherently imprecise and are continually subject to revision based on production history, results of additional exploration and development, price changes and other factors. The following reserve data represents estimates only and should not be deemed exact.
Reserve estimates are based on an unweighted arithmetic average of commodity prices during the 12-month period, using closing prices on the first day of each month, as defined by the SEC. The
Percussion Petroleum II, LLC
Notes to Consolidated Financial Statements
following table discloses changes in the estimated quantities of proved reserves, all of which are in the state of Texas:
| | | | | | | | | | | | | | | | | | | | | | | | | | |
| | Crude Oil
(Bbls) | | Natural Gas
(Mcf) | | Natural Gas
Liquids
(Bbls) | | (Boe) |
| Proved reserves | | | | | | | | |
| Beginning of period - January 1, 2022 | | 131,160,000 | | | 158,092,000 | | | 34,128,000 | | | 191,636,667 | |
| Revisions of previous estimates | | (45,132,125) | | | (62,362,878) | | | (10,929,202) | | | (66,455,140) | |
| Extensions | | 2,878,720 | | | 3,597,770 | | | 893,446 | | | 4,371,794 | |
| Divestiture of reserves | | (30,227,710) | | | (38,454,213) | | | (8,288,425) | | | (44,925,171) | |
| Production | | (3,401,885) | | | (3,305,179) | | | (907,319) | | | (4,860,067) | |
| End of period - December 31, 2022 | | 55,277,000 | | | 57,567,500 | | | 14,896,500 | | | 79,768,083 | |
For the year ended December 31, 2022, the Company’s negative revisions of 66,455,140 Boe of previously estimated quantities consisted of performance revisions of proved developed producing wells and revisions of the Company’s 5-year future development plan of proved undeveloped locations. Additionally, the Company divested certain properties which reduced previously estimated quantities by 44,925,171 Boe.
Capitalized Costs
Capitalized costs related to oil and natural gas production activities with applicable accumulated depreciation, depletion, amortization and impairment for the year ended December 31, 2022 are as follows:
| | | | | | | | |
| | 2022 |
| Oil and gas properties, full cost | | |
| Proved and unproved properties | | $621,942,573 | |
| Other property & equipment | | 3,325,826 | |
| Accumulated depreciation, depletion and amortization | | (101,440,354) | |
| Total oil and gas properties, net | | $523,828,045 | |
Costs Incurred
Costs incurred in oil and natural gas property acquisitions, exploration and development activities for the year ended December 31, 2022 are as follows:
| | | | | | | | |
| | 2022 |
| Acquisition costs | | $10,003,224 | |
| Development costs | | 408,033,330 | |
| Exploration costs | | 130,000 | |
| Total costs incurred | | $418,166,554 | |
Standardized Measure of Discounted Future Net Cash Flows
The following tables present the standardized measure of future net cash flows related to estimated proved oil and natural gas reserves together with changes therein. It should not be assumed that the
Percussion Petroleum II, LLC
Notes to Consolidated Financial Statements
future net cash flows or the discounted future net cash flows, referred to in the tables below, represent the fair value of the Company’s estimated oil and natural gas reserves.
The estimates of future cash flows and future production and development costs as of December 31, 2022, are based on the realized prices which reflect adjustments to the benchmark prices for quality, transportation fees, geographical differentials, marketing or deductions and other factors affecting the price received at the delivery point. All realized prices are held constant over the forecast period for all reserve categories in calculating the discounted future net cash flows. In accordance with SEC regulations, the proved reserves were anticipated to be economically producible from the “as of date” forward based on existing economic conditions, including prices and costs at which economic producibility from a reservoir was determined. These costs, held flat over the forecast period, include development costs, operating costs, ad valorem and production taxes and abandonment costs after salvage. Future income tax expenses are computed using the appropriate year-end statutory tax rates applied to the future pretax net cash flows from proved oil, NGL and natural gas reserves, less the tax basis of the Company's oil and natural gas properties. The estimated future net cash flows are then discounted at a rate of 10%.
The following average realized prices were used in the calculation of proved reserves and the standardized measure of discounted future net cash flows for the year ended December 31, 2022:
| | | | | | | | |
| | 2022 |
| Oil ($/Bbl) | | $95.14 | |
| Natural gas ($/Mcf) | | $5.00 | |
| NGLs ($/Bbl) | | $40.02 | |
The following table presents the standardized measure of future net cash flows related to estimated proved oil and natural gas reserves together with changes therein:
| | | | | | | | |
| | 2022 |
| | (in thousands) |
| | |
| Future cash inflows | | $6,143,028 | |
| Future costs | | |
| Production | | (1,767,016) | |
| Development and net abandonment | | (682,836) | |
| Future net inflows before income taxes | | 3,693,176 | |
| Future taxes | | (32,252) | |
| Future net cash flows | | 3,660,924 | |
| 10% discount factor | | (2,046,105) | |
| Standardized measure of discounted future net cash flows | | $1,614,819 | |
Percussion Petroleum II, LLC
Notes to Consolidated Financial Statements
The following table presents the changes in the standardized measure of discounted future net cash flows related to the proved oil and gas reserves of the Company for the year ended December 31, 2022:
| | | | | | | | |
| | 2022 |
| | (in thousands) |
| | |
| Standardized measure at the beginning of the period | | $2,297,123 | |
| Net change in prices and production costs | | 791,366 | |
| Net change in future development costs | | 46,290 | |
| Oil & Gas net revenue | | (289,891) | |
| Extensions | | 72,068 | |
| Divestiture of reserves | | (534,400) | |
| Revisions of previous quantity estimates | | (788,638) | |
| Previously estimated development costs incurred | | 197,485 | |
| Net change in taxes | | 13,279 | |
| Accretion of discount | | 232,517 | |
Changes in timing and other (1) | | (422,380) | |
| Standardized measure at the end of period | | $1,614,819 | |
(1) The changes in timing and other are related to revisions in the Company’s estimated timing of production and development. As of December 31, 2022, Management had revised the Company’s future development plan and reduced the pace of drilling from a three-rig program to a one-rig program. As a result, the above line for “Changes in timing and other” includes a charge of $516,829,190.
Percussion Petroleum II, LLC
Consolidated Financial Report
As of and for the Three Months ended March 31, 2023
(Unaudited)
CONTENTS
| | | | | |
| Page |
| |
| Independent Auditor’s Report | |
| Consolidated Financial Statements | |
| Consolidated Balance Sheet | |
| Consolidated Statement of Operations | |
| Consolidated Statement of Changes in Members’ Equity | |
| Consolidated Statement of Cash Flows | |
| Notes to the Consolidated Financial Statements | |
Independent Auditor’s Review Report
To the Members of
Percussion Petroleum II, LLC
Results of Review of Interim Financial Information
We have reviewed the accompanying financial information of Percussion Petroleum II, LLC (the Company), which comprise the balance sheet as of March 31, 2023, and the related statements of operations, members’ equity, and cash flows for the three months ended March 31, 2023, and the related notes to the financial statements (collectively referred to as the interim financial information).
Based on our review, we are not aware of any material modifications that should be made to the accompanying interim financial information for it to be in accordance with accounting principles generally accepted in the United States of America.
Basis for Review Results
We conducted our review in accordance with auditing standards generally accepted in the United States of America (GAAS) applicable to reviews of interim financial information. A review of interim financial information consists principally of applying analytical procedures and making inquiries of persons responsible for financial and accounting matters. A review of interim financial information is substantially less in scope than an audit conducted in accordance with GAAS, the objective of which is an expression of an opinion regarding the financial information as a whole, and accordingly, we do not express such an opinion. We are required to be independent of the Company and to meet our other ethical responsibilities in accordance with the relevant ethical requirements relating to our review. We believe that the results of the review procedures provide a reasonable basis for our conclusion.
Responsibilities of Management for the Interim Financial Information
Management is responsible for the preparation and fair presentation of the interim financial information in accordance with accounting principles generally accepted in the United States of America and for the design, implementation, and maintenance of internal control relevant to the preparation and fair presentation of interim financial information that is free from material misstatement, whether due to fraud or error.
/s/ Weaver and Tidwell, L.L.P.
WEAVER AND TIDWELL, L.L.P.
Houston, Texas
June 9, 2023
Percussion Petroleum II, LLC
Consolidated Balance Sheet
March 31, 2023
| | | | | | | | |
| | March 31, 2023 |
| ASSETS | | |
| | |
| CURRENT ASSETS | | |
| Cash and cash equivalents | | $20,449,217 | |
| Accounts receivable - oil and gas sales | | 31,508,559 | |
| Accounts receivable - other | | 5,769,043 | |
| Prepaid expenses & other | | 374,070 | |
| Inventory | | 12,766,013 | |
| Total current assets | | 70,866,902 | |
| | |
| OIL AND GAS PROPERTIES, full cost | | |
| Proved and unproved properties | | 676,779,012 | |
| Other property & equipment | | 3,396,188 | |
| Accumulated depreciation, depletion and amortization | | (117,631,712) | |
| Total oil and gas properties, net | | 562,543,488 | |
| | |
| OTHER ASSETS | | |
| Debt issuance costs, net | | 2,696,771 | |
| Operating lease - right-of-use asset | | 2,352,614 | |
| Total other assets | | 5,049,385 | |
| | |
| TOTAL ASSETS | | $638,459,775 | |
| | |
| LIABILITIES AND MEMBERS’ EQUITY | | |
| | |
| CURRENT LIABILITIES | | |
| Accounts payable and accrued liabilities | | $63,324,957 | |
| Revenue and taxes payable | | 26,308,841 | |
| Current portion of derivative liabilities, net | | 25,335,599 | |
| Current portion of operating lease liabilities | | 563,023 | |
| Total current liabilities | | 115,532,420 | |
| | |
| NON-CURRENT LIABILITIES | | |
| Long-term debt | | 220,000,000 | |
| Asset retirement obligations | | 3,010,295 | |
| Long-term portion of derivative liabilities | | 15,972,238 | |
| Operating lease liabilities, net of current portion | | 1,933,519 | |
| Total non-current liabilities | | 240,916,052 | |
| | |
| Total liabilities | | 356,448,472 | |
| | |
| MEMBERS’ EQUITY | | 282,011,303 | |
| | |
| TOTAL LIABILITIES AND MEMBERS’ EQUITY | | $638,459,775 | |
The Notes to the Consolidated Financial Statements are an integral part of this statement.
Percussion Petroleum II, LLC
Consolidated Statement of Operations
Three Months Ended March 31, 2023
| | | | | | | | | | |
| | March 31, 2023 | | |
| REVENUES | | | | |
| Oil and gas revenue | | $68,978,478 | | | |
| Realized loss on oil and gas derivatives | | (7,992,687) | | | |
| Total revenues | | 60,985,791 | | | |
| | | | |
| OPERATING EXPENSES | | | | |
| Lease operating expense | | 12,037,035 | | | |
| Production and ad valorem taxes, net | | 4,588,713 | | | |
| Marketing, transportation, and gathering expenses | | 2,077,512 | | | |
| Minimum volume commitment deficiency fees | | 955,080 | | | |
| General and administrative expenses | | 1,500,851 | | | |
| Transaction cost | | 913,363 | | | |
| Depreciation, depletion, amortization, and accretion | | 16,279,522 | | | |
| Total operating expenses | | 38,352,076 | | | |
| | | | |
| Income from operations | | 22,633,715 | | | |
| | | | |
| OTHER INCOME (EXPENSE) | | | | |
| Interest expense, net | | (5,168,643) | | | |
| Other income | | 142,855 | | | |
| Net unrealized gain on oil and gas derivatives | | 47,686,511 | | | |
| Total other expense | | 42,660,723 | | | |
| | | | |
| NET INCOME | | $65,294,438 | | | |
The Notes to the Consolidated Financial Statements are an integral part of this statement.
Percussion Petroleum II, LLC
Consolidated Statement of Changes in Members’ Equity
Three Months Ended March 31, 2023
| | | | | | | | |
| | Members’ Equity |
| | |
| Balance, December 31, 2022 | | $216,716,865 | |
| | |
| Net Income | | 65,294,438 | |
| | |
| Balance, March 31, 2023 | | $282,011,303 | |
The Notes to the Consolidated Financial Statements are an integral part of this statement.
Percussion Petroleum II, LLC
Consolidated Statement of Cash Flows
Three Months Ended March 31, 2023
| | | | | | | | | | |
| CASH FLOWS FROM OPERATING ACTIVITIES | | March 31, 2023 | | |
| Net income | | $65,294,438 | | | |
| Adjustments to reconcile net income to net cash provided by operating activities | | | | |
| Depreciation, depletion, amortization, and accretion | | 16,279,522 | | | |
| Amortization of debt issuance costs | | 301,790 | | | |
| Change in fair value of oil and gas derivatives | | (47,686,511) | | | |
| Inventory write down | | 100,655 | | | |
| ASC 842 - non-cash lease expense | | (3,619) | | | |
| Changes in operating assets and liabilities | | | | |
| Accounts receivable - oil and gas sales | | 438,760 | | | |
| Inventory | | (1,311,196) | | | |
| Prepaid expenses and other current assets | | 122,260 | | | |
| Accounts payable and accrued liabilities | | (21,343,381) | | | |
| Settlement of ARO | | (57,477) | | | |
| Net cash provided by operating activities | | 12,135,241 | | | |
| | | | |
| CASH FLOWS FROM INVESTING ACTIVITIES | | | | |
| Capital expenditures | | (43,810,025) | | | |
| Divestment of oil and gas properties | | (620,299) | | | |
| Additions to other property and equipment | | (70,362) | | | |
| Net cash used in investing activities | | (44,500,686) | | | |
| | | | |
| CASH FLOWS FROM FINANCING ACTIVITIES | | | | |
| Deferred financing costs | | (13,548) | | | |
| Net cash used in financing activities | | (13,548) | | | |
| | | | |
| Net decrease in cash and cash equivalents | | (32,378,993) | | | |
| | | | |
| CASH AND CASH EQUIVALENTS, beginning of year | | 52,828,210 | | | |
| | | | |
| CASH AND CASH EQUIVALENTS, end of year | | $20,449,217 | | | |
| | | | |
| SUPPLEMENTAL SCHEDULE OF NON-CASH INVESTING AND FINANCING ACTIVITIES | | | | |
| Change in capital expenditures accrued in accounts payable | | $8,763,879 | | | |
| OTHER SUPPLEMENTAL CASH FLOW INFORMATION | | | | |
| Interest paid | | $3,729,959 | | | |
| Cash paid for operating leases | | $108,014 | | | |
The Notes to the Consolidated Financial Statements are an integral part of this statement.
Percussion Petroleum II, LLC
Notes to Consolidated Financial Statements
Note 1. Organization and Principles of Consolidation
Organization
Percussion Petroleum II, LLC and subsidiaries (collectively, the Company) is a Delaware limited liability company formed on February 27, 2020. The Company is engaged in the acquisition, development, and operation of oil & gas properties located primarily in the state of Texas.
The following entities have been included in the consolidated financial statements:
Percussion Petroleum Management II, LLC (Percussion Management II) is a wholly owned subsidiary of the Company and acts as management of the Company. Percussion Petroleum Operating II, LLC (Percussion Operating II) is a wholly owned subsidiary of the Company and acts as operators of the properties owned by the Company. Percussion Petroleum Intermediate II, LLC (Percussion Intermediate II) is a wholly owned subsidiary of the Company.
Principles of Consolidation
The consolidated financial statements include the accounts of entities the Company controls. All intercompany transactions and balances have been eliminated.
Note 2. Summary of Significant Accounting Policies
Basis of Accounting
The Company prepares its consolidated financial statements in accordance with United States generally accepted accounting principles (U.S. GAAP). Accounting principles and the methods of applying these principles that materially affect the determination of financial position, results of operations, and cash flows are summarized below.
These unaudited condensed consolidated financial statements (the “consolidated financial statements”) should be read in conjunction with the audited financial statements and the notes thereto for the year ended December 31, 2022. In the opinion of management, the unaudited condensed consolidated financial statements for the interim period presented include all adjustments necessary to present a fair statement of the results for such interim period.
Estimates and Uncertainties
The preparation of the consolidated financial statements in conformity with accounting principles generally accepted in the United States of America requires the Company’s management to make estimates and assumptions that affect the amounts reported in the consolidated financial statements and accompanying notes. Actual results could differ from those estimates.
Significant assumptions are required in the valuation of proved oil and gas reserves which may affect the amount at which oil and gas properties are recorded, provisions for depletion and impairment of oil and gas properties. Estimation of asset retirement obligations is based on estimates regarding the timing and cost of future asset abandonments. Estimation of production volumes near period end is required in order to determine the amount of oil and gas revenue receivable at period end. Estimates of the fair value and settlement value of derivative instruments are inherently imprecise. It is possible these estimates could be revised in the near term and these revisions could be material.
Percussion Petroleum II, LLC
Notes to Consolidated Financial Statements
Cash and Cash Equivalents
Cash and cash equivalents include cash in bank accounts with initial maturities of less than three months.
Credit Risk
The Company maintains its cash in bank deposit accounts which, at times, may exceed federally insured limits. The Company has not experienced any losses in such accounts and believes it is not exposed to any significant credit risk on cash.
Accounts Receivable - Oil and Gas Sales
Accounts receivable – oil and gas sales include amounts due from oil and gas purchasers. Accounts receivable include accrued revenues due under normal trade terms, generally requiring payment within 30 days of production. No interest was charged in 2023 on past due balances. The Company’s allowance for doubtful accounts is determined based upon reviews of individual accounts, historical losses, existing economic conditions and other pertinent factors. No allowance was recorded as of March 31, 2023.
Inventory
Inventory is added to the books upon the purchase of supplies (inclusive of freight and sales tax costs) to use on well sites, and inventory is reduced by material transfers for inventory usage based on the initial invoiced value. The Company reports inventory balances at the lower of cost or market value and excludes inventory balances from depletion calculations.
Commodity Derivative Financial Instruments
The Company uses derivative instruments to manage market risks resulting from fluctuations in the prices of crude oil, natural gas and NGLs. The Company enters into derivative contracts, including price swaps, basis swaps and collars, which require payments to (or receipts from) counterparties based on the differential between a fixed price and a variable price for a fixed quantity of crude oil, natural gas and NGLs without the exchange of underlying volumes. The notional amounts of these financial instruments are based on expected production from existing wells. The Company may also use exchange traded futures contracts and option contracts to hedge the delivery price of crude oil at a future date.
The Company follows the provisions of FASB ASC 815, Derivatives and Hedging, as amended. It requires that all derivative instruments be recognized as assets or liabilities in the balance sheet, measured at fair value and marked-to-market at the end of each period. Any realized gains and losses on settled derivatives, as well as mark-to-market gains or losses, are aggregated and recorded to gain (loss) on derivative instruments, net on the statement of operations. See Note 4 for a description of the derivative contracts into which the Company has entered.
The Company utilizes commodity price swaps, basis swaps, and collars (purchased put options and written call options) 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.
All derivative instruments are recorded in the Company’s balance sheet as either assets or liabilities measured at their fair value (see Note 3). The Company has not designated any derivative instruments
Percussion Petroleum II, LLC
Notes to Consolidated Financial Statements
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 statement 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, as applicable.
The Company has master netting agreements on individual derivative instruments with certain counterparties and therefore the current assets and liabilities are netted in the consolidated balance sheet and the non-current assets and liabilities are netted in the consolidated balance sheet for contracts with these counterparties.
Other Property and Equipment
Other property and equipment is stated at cost. Repairs and maintenance are charged to expense as incurred, with additions and improvements being capitalized. Upon sale or other retirement of depreciable property, the cost and accumulated depreciation are removed from the related accounts and any gain or loss is reflected in the consolidated statements of operations.
Depreciation is provided based on the straight-line method based on the estimated useful lives of the depreciable assets as follows:
| | | | | |
| Computers and software | 3-10 years |
| Vehicles | 5 years |
| Leasehold improvements | Lease term |
| Furniture and fixtures | 10 years |
| Machinery and equipment | 5-10 years |
Depreciation expense on other property and equipment was $104,665 for the three months ended March 31, 2023, and is included in depreciation, depletion, amortization and accretion in the consolidated statement of operations.
Proved 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 initially capitalized into a single cost pool (full cost pool). Capitalized 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 the production, general corporate overhead or similar activities. Costs associated with production and general corporate activities are expensed in the period incurred. As of March 31, 2023, the Company held leasehold interests on acreage in various counties in Texas. The Company capitalized $54,836,439 of costs to the full cost pool for the three months ended March 31, 2023 for capital expenditures to develop their reserve base.
Percussion Petroleum II, LLC
Notes to Consolidated Financial Statements
Proceeds from property sales will generally be credited to the full cost pool, with no gain or loss recognized, unless such a sale significantly alters the relationship between capitalized costs and the proved reserves attributable to these costs. A significant alteration would typically involve a sale of 25% or more of the proved reserves related to a single full cost pool.
Capitalized costs associated with impaired properties and capitalized cost 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 based on the estimated gross proved reserves as determined by petroleum engineers on at least an annual basis. 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. Depletion expense on proved property was $16,086,693 for the three months ended March 31, 2023, and is included in depreciation, depletion, amortization and accretion in the consolidated statement of operations.
The Company evaluates capitalized costs annually for impairment using the full cost ceiling test method of accounting. Capitalized costs of crude oil and natural gas properties may not exceed an amount equal to the present value, discounted at 10% per annum, of the estimated future net cash flows from proved crude oil and natural gas reserves plus the cost of unproved properties. Should capitalized costs exceed this ceiling, impairment is recognized. The present value of estimated future net cash flows is computed by applying the 12-month average price of crude oil and natural gas to estimated future production of proved crude oil and natural gas reserves as of year-end, less estimated future expenditures to be incurred in developing and producing the proved reserves and assuming continuation of existing economic conditions. Such present value of proved reserves' future net cash flows excludes future cash outflows associated with settling asset retirement obligations that have been accrued on the balance sheets. Should this comparison indicate an excess carrying value, the excess is charged to earnings as an impairment expense. Each part of this calculation is subject to a large degree of judgment, including the determination of the depletable fields’ estimated reserves, future net cash flows and fair value. For the three months ended March 31, 2023, the Company did not realize an impairment of its proved properties.
Debt Issuance Costs
Debt issuance costs consist of costs directly attributable to the acquisition of debt financing. These costs are capitalized as non-current other asset charges and amortized over the life of the credit instrument obtained. During the three months ended March 31, 2023, the Company capitalized $0 of debt issuance costs and for the three months then ended recognized $301,790 of amortization related to debt issuance costs, which is included in interest expense on the consolidated statement of operations. As of the three months ended March 31, 2023, the Company had net debt issuance costs of $2,696,771.
Accounts Payable, Accrued Liabilities and Revenue and Taxes Payable
Accounts payable and accrued liabilities consist primarily of vendor obligations under normal trade terms for services rendered or products received. Accrued liabilities include revenue collected on behalf of mineral interest owners to be disbursed subsequent to year-end and prepayments from working interest owners for future expenses and accrued capital expenditures.
Percussion Petroleum II, LLC
Notes to Consolidated Financial Statements
Asset Retirement Obligations
The Company accounts for its asset retirement obligations in accordance with FASB ASC Topic 410, Asset Retirement and Environmental Obligations. Asset retirement obligations consist of estimated costs of dismantlement, removal, site reclamation and similar activities associated with oil and gas properties. A liability is recorded when the fair value of the asset retirement obligation can be reasonably estimated and recognized in the period a legal obligation is incurred. A liability is incurred when a well is drilled and completed. The liability amounts are based on future retirement cost estimates and incorporate many assumptions, such as expected economic recoveries of oil and gas, time to abandonment, future inflation rates and the adjusted risk-free rate of interest.
The retirement obligation is recorded at its estimated present value at the asset's inception with an offsetting increase to proved properties in the consolidated balance sheet. This addition to proved properties represents a non-cash investing activity for purposes of the consolidated statement of cash flows. After initially recording the liability, it accretes for the passage of time and the related cost of capital, with the increase reflected as accretion expense in the consolidated statement of operations.
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 oil and natural gas in the period that its performance obligations are satisfied. Performance obligations are satisfied at a point in time when the customer obtains control of 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 have been negotiated with purchasers, 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 accounts receivable, on the consolidated balance sheet. 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 expedient in accordance with ASC 606. The expedient, 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 the energy industry. The Company’s natural gas produced is delivered to various purchasers at agreed upon delivery points under a limited number of contract types that are also common in the energy 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.
Percussion Petroleum II, LLC
Notes to Consolidated Financial Statements
Concentrations
Substantially all of the Company’s accounts receivable are due from participants in the oil and natural gas exploration and production industry and represent oil and natural gas production proceeds receivable.
Trade accounts receivable are generally unsecured. An allowance for doubtful accounts is determined based on a review of accounts and past history. At March 31, 2023, it was determined that no allowance was needed.
Environmental Regulation
Exploration and development and the production and sale of oil and gas are subject to extensive federal, state, provincial, tribal, and local regulations. Management believes it is in substantial compliance with currently applicable laws and regulations and that continued substantial compliance with existing requirements will not have a material adverse effect on our financial position, cash flows or results of operations. However, current regulatory requirements may change, currently unforeseen resource or environmental incidents may occur or past non-compliance with environmental laws or regulations may be discovered. Environmental compliance costs, including ongoing maintenance and monitoring, are expensed as incurred.
Equity-Based Compensation
The Company accounts for the Incentive Units in accordance with the provisions of FASB ASC Topic 710, Compensation – Generally due to the payouts being consistent with profit sharing of the Company based on substantive terms of the instruments. Due to the nature of the Incentive Units, no value is attributed and no expense recognized at the date of issuance, and amounts earned by holders of the Incentive Units will be charged to compensation expense in the period in which they are earned and can be reasonably estimated and deemed probable.
Income Taxes
The Company is organized as a limited liability company and is considered a pass through entity for federal income tax purposes. As a result, income or losses are taxable or deductible to the members rather than at the Company level; accordingly, no provision has been made for federal income taxes in the accompanying consolidated financial statements. In certain instances, the Company is subject to state taxes on income arising in or derived from the state tax jurisdictions in which it operates.
State income tax positions are evaluated in a two-step process. The Company first determines whether it is more likely than not that a tax position will be sustained upon examination. If a tax position meets the more likely than not threshold, it is then measured to determine the amount of expense to record in the consolidated financial statements. The tax expense recorded would equal the largest amount of expense related to the outcome that is 50% or greater likely to occur. The Company classifies any potential accrued interest recognized on an underpayment of income taxes as interest expense and classifies any statutory penalties recognized on a tax position taken as operating expense. Management of the Company has not taken a tax position that, if challenged, would be expected to have a material effect on the consolidated financial statements as of March 31, 2023.
The Company did not incur any penalties or interest related to its state tax returns during the three months ended March 31, 2023.
Percussion Petroleum II, LLC
Notes to Consolidated Financial Statements
Under the new centralized partnership audit rules effective for tax years beginning after 2017, the Internal Revenue Service (IRS) assesses and collects underpayments of tax from the partnership instead of from each partner. The partnership may be able to pass the adjustments through to its partners by making a push-out election or, if eligible, by electing out of the centralized partnership audit rules.
The collection of tax from the partnership is only an administrative convenience for the IRS to collect any underpayment of income taxes including interest and penalties. Income taxes on partnership income, regardless of who pays the tax or when the tax is paid, are attributed to the partners. Any payment made by the partnership as a result of an IRS examination will be treated as a distribution from the partnership to the partners in the consolidated financial statements.
Note 3. Fair Value Measurements
Fair value is defined 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. Where available, fair value is based on observable market prices or parameters or derived from such prices or parameters. Where observable prices or inputs are not available, valuation models are applied. These valuation techniques involve some level of management estimation and judgment, the degree of which is dependent on the price transparency for the instruments or market and the instruments’ complexity.
Current accounting guidance provides a framework for measuring fair value and establishes a fair value hierarchy that prioritizes the inputs used to measure fair value, giving the highest priority to unadjusted quoted prices in active markets for identical assets or liabilities and the lowest priority to unobservable inputs. The three levels are as follows:
Level 1: Inputs are unadjusted quoted prices in active markets for identical assets or liabilities that the Company has the ability to access at the measurement date.
Level 2: Inputs include quoted prices for similar assets and liabilities in active markets, quoted prices for identical or similar assets or liabilities in markets that are not active, inputs other than quoted prices that are observable for the asset or liability (i.e., interest rates, yield curves, etc.), and inputs that are derived principally from or corroborated by observable market data by correlation or other means (market corroborated inputs).
Level 3: Significant inputs are unobservable and reflect the Company's assumptions about the assumptions that market participants would use in pricing an asset or liability, based on the best information available.
The Company attempts to use valuation techniques that maximize the use of observable inputs and minimize the use of unobservable inputs. In measuring the fair value of its assets and liabilities, the Company uses market data or assumptions that it believes market participants would use in pricing an asset or liability, including assumptions about risk when appropriate. A financial instrument’s level within the fair value hierarchy is based on the lowest level of any input that is significant to the fair value measurement.
The fair value of derivative assets and liabilities are valued using an option pricing model with primarily level 1 inputs, including underlying commodity price, strike price and volatility of similar instruments in observable markets. This is categorized as level 2, using the market approach.
Percussion Petroleum II, LLC
Notes to Consolidated Financial Statements
The following tables present the classification of assets (liabilities) measured at fair value on a recurring basis by level at March 31, 2023:
March 31, 2023
| | | | | | | | | | | | | | | | | | | | | | | | | | |
| | Level 1 | | Level 2 | | Level 3 | | Total |
| Liability - current | | | | | | | | |
| Commodity derivative instruments | | $— | | | $25,335,599 | | | $— | | | $25,335,599 | |
| | | | | | | | |
| Liability - non-current | | | | | | | | |
| Commodity derivative instruments price swap contracts | | — | | | 15,972,238 | | | — | | | 15,972,238 | |
| | | | | | | | |
| Total financial liability | | — | | | 41,307,837 | | | — | | | 41,307,837 | |
| | | | | | | | |
| Net financial liability | | $— | | | $41,307,837 | | | $— | | | $41,307,837 | |
Note 4. Commodity Derivative Financial Instruments
Commodity derivative instruments may take the form of collars, swaps or other derivatives indexed to WTI, NYMEX or other commodity price indexes.
Such derivative instruments will not exceed anticipated production volumes, are expected to have a reasonable correlation between price movements in the futures market and the spot markets where the Company’s production is sold, and are authorized by the Board of Managers. Derivatives are expected to be realized as related production occurs, but may be terminated earlier if anticipated downward price movement occurs or if the Company believes the potential for such movement has abated. The Company’s crude oil and natural gas derivative positions consist of swaps and collars. Swaps and collars are designed so that the Company receives or makes payments based on a differential between fixed and variable prices for crude oil and natural gas. The Company utilizes WTI Roll Swaps to mitigate the financial risk associated with the Argus CMA Roll component of the Company’s realized price for physical oil sales.
Percussion Petroleum II, LLC
Notes to Consolidated Financial Statements
The periods covered, notional amounts, fixed price and related commodity pricing index of the Company’s outstanding crude oil and natural gas derivative contracts as of March 31, 2023 are set forth in the table below:
| | | | | | | | | | | | | | |
| Oil Contracts | | For the Remainder
2023 | | For the Full Year
2024 |
| | | | |
| Swap Contracts (WTI) | | | | |
| Total Volumes | | — | | | — | |
| Weighted Average price per barrel | | $— | | | $— | |
| | | | |
| Collar Contracts (WTI) | | | | |
| Total Volumes | | 604,955 | | | — | |
| Weighted Average price per barrel | | | | |
| Floor | | $60.00 | | | $— | |
| Ceiling | | $72.40 | | | $— | |
| | | | |
| Three-Way Collar Contracts (WTI) | | | | |
| Total Volumes | | 1,431,444 | | | 3,963,023 | |
| Weighted Average price per barrel | | | | |
| Sub-floor | | $45.00 | | | $48.16 | |
| Floor | | $55.00 | | | $58.16 | |
| Ceiling | | $69.77 | | | $78.86 | |
| | | | |
| Roll Swaps (WTI vs. CMA) | | | | |
| Total Volumes | | 1,512,363 | | | — | |
| Weighted Average price per barrel | | $0.30 | | | $— | |
| | | | | | | | | | | | | | |
| Natural Gas Contracts | | For the Remainder
2023 | | For the Full Year
2024 |
| | | | |
| HHub Swaps | | | | |
| Total Volumes | | — | | | — | |
| Total Weighted Average Swap | | $— | | | $— | |
| | | | |
| HHub Collars | | | | |
| Total Volumes | | 616,675 | | | 6,778,555 | |
| Total Weighted Average Floor | | $2.82 | | | $3.00 | |
| Total Weighted Average Ceiling | | $3.63 | | | $3.33 | |
| | | | |
| Waha Swaps | | | | |
| Total Volumes | | 2,750,000 | | | 3,660,000 | |
| Total Weighted Average Swap | | ($1.94) | | | ($1.06) | |
Percussion Petroleum II, LLC
Notes to Consolidated Financial Statements
| | | | | | | | | | | | | | |
| NGL Contracts | | For the Remainder
2023 | | For the Full Year
2024 |
| | | | |
| Ethane Swaps | | | | |
| Total Volumes | | 4,448,226 | | | — | |
| Total Weighted Average Swap | | $0.23 | | | $— | |
| | | | |
| Propane Swaps | | | | |
| Total Volumes | | 4,537,761 | | | — | |
| Total Weighted Average Swap | | $0.74 | | | $— | |
| | | | |
| iButane Swaps | | | | |
| Total Volumes | | 1,318,051 | | | 985,388 | |
| Total Weighted Average Swap | | $0.84 | | | $0.79 | |
| | | | |
| nButane Swaps | | | | |
| Total Volumes | | 4,036,978 | | | 3,028,411 | |
| Total Weighted Average Swap | | $0.85 | | | $0.79 | |
| | | | |
| Gasoline Swaps | | | | |
| Total Volumes | | 5,254,122 | | | — | |
| Total Weighted Average Swap | | $1.34 | | | $— | |
At March 31, 2023, the fair value of derivative instruments is recorded on the consolidated balance sheet as follows:
| | | | | | | | |
| | March 31, 2023 |
| Derivative liabilities - current | | |
| Gross amounts without effects of netting | | $34,583,592 | |
| Effects of netting | | (9,247,993) | |
| | |
| Current portion of derivative liabilities, net | | $25,335,599 | |
| | |
| Derivative liabilities - non-current | | |
| Gross amounts without effects of netting | | $35,740,510 | |
| Effects of netting | | (19,768,272) | |
| | |
| Long-term portion of derivative liabilities, net | | $15,972,238 | |
Percussion Petroleum II, LLC
Notes to Consolidated Financial Statements
Note 5. Credit Facility
The Company entered into a bank credit facility (the Credit Facility) on June 29, 2021. Pursuant to the credit agreement, from time to time the Company may borrow up to the lesser of: the available borrowing base, as determined by the credit agreement, or $500,000,000, which is the maximum borrowing capacity of the facility. The borrowing base is re-determined semi-annually each May 1 and November 1. At March 31, 2023, the Company had a maximum borrowing base of $235,000,000 and a remaining borrowing capacity of $10,000,000. The outstanding principal balance was $220,000,000 and outstanding issued letters of credit was $5,000,000 as of March 31, 2023.
During 2022, The Credit Facility was modified and allows for Secured Overnight Financing Rate (“SOFR”) loans and Base Rate Loans (as respectively defined in the Credit Facility). The interest rate on each SOFR Loan will be the adjusted SOFR (subject to a Floor of 0.5%) for the applicable interest period plus a margin between 3.0% and 4.0% (depending on the then-current level of Borrowing Base usage) plus a margin between 0.10% and 0.25% depending on the applicable term. The annual interest rate on each Base Rate Loan is the Federal Funds Rate (as defined in the Credit Facility) plus 0.5% per annum plus a margin between 2.0% and 3.0% (depending on the then-current level of Borrowing Base usage) plus a margin of 0.10%. In addition to interest, the Company must pay a commitment fee of 0.50% on the undrawn portion of the borrowing base. For the period ending March 31, 2023, interest expense recognized was approximately $4,866,852.
The Company’s revolving line of credit is secured by all property of the Company and its subsidiaries. It contains various nonfinancial and financial covenants, including a minimum current ratio and maximum net debt to EBITDAX ratio. No amounts were drawn on the letters of credit for the three months ended March 31, 2023.
Note 6. Asset Retirement Obligation
A reconciliation of the changes in the estimated asset retirement obligation for the three months ended March 31, 2023 is as follows:
| | | | | | | | |
| | March 31, 2023 |
| | |
| Balance, beginning January 1, | | $2,968,630 | |
| Additions | | 10,979 | |
| Accretion expense | | 88,163 | |
| Settlement of liabilities | | (57,477) | |
| | |
| Balance, ending March 31, | | $3,010,295 | |
| | |
| | |
| | |
| Non-current portion | | $3,010,295 | |
At March 31, 2023, all retirement obligations were classified as non-current based on the estimated lives of the Company’s oil and gas properties.
Note 7. Governance, Members’ Equity, and Incentive Units
Capital contributions are based on capital calls, determined by the board of managers. Contribution requests to the Members are based on their commitment and any items in nature of income or gain will be applied to the Members' capital accounts in accordance with their earnings interest, as defined by the Membership Agreement. The Company has three classes of members' equity, Classes A, B, and C
Percussion Petroleum II, LLC
Notes to Consolidated Financial Statements
Units. The rights, privileges, preferences and obligations are provided for in the Company’s Membership Agreement.
All distributions by the Company shall be made to unitholders in accordance with their respective class sharing percentage set forth in the Company’s Membership Agreement. Additionally, net income (loss) is allocated to the unitholders in accordance with their respective partnership percentages.
Incentive Units
Pursuant to the Percussion Petroleum II, LLC Amended Company Agreement (Company Agreement), the Board has authorized issuance of Incentive Units. The Incentive Units do not have an exercise price and do not expire until the Company is dissolved. The incentive units entitle the holder to participate in distributable cash flow generated by the Company in the event that certain payouts are achieved in accordance with the distribution provisions of the Company Agreement. The Incentive Units are accounted for consistent with requirements of ASC Topic 710 due to the payouts being consistent with profit sharing of the Company based on substantive terms of the instruments. Accordingly, no value was attributed to the Incentive Units and no expense recognized at the date of issuance.
Note 8. Related Party Transactions
Transactions between related parties are considered to be related party transactions even though they may not be given accounting recognition. FASB ASC Topic 850, Related Party Disclosures (ASC Topic 850), requires that transactions with related parties that would make a difference in decision making be disclosed so that users of the consolidated financial statements can evaluate their significance.
Carnelian Energy Capital, Catena Resources Operating and Catena Resources Management are considered related parties under ASC Topic 850. The Company provides all services that are generally required for the day-to-day operation of business to Catena Resources, LLC under a Services Agreement. For the three months ended March 31, 2023, the Company invoiced Catena $253,208 relating to these services and as of March 31, 2023, $225,358 of this amount was due from Catena.
Note 9. Commitments and Contingencies
Environmental
The Company is engaged in oil and gas exploration and production and may become subject to certain liabilities as they relate to environmental cleanup of well sites or other environmental restoration procedures as they relate to the drilling of oil and gas wells and the operation thereof. In the Company’s acquisition of existing or previously drilled wellbores, the Company may not be aware of what environmental safeguards were taken at the time such wells were drilled or during such time the wells were operated. Should it be determined that a liability exists with respect to any environmental clean-up or restoration, the liability to cure such a violation could fall upon the Company.
Litigation
The Company is subject to legal proceedings and certain claims have arisen in the ordinary course of its business. In the opinion of management, any possible contingencies with respect to these actions will not materially affect the financial position of the Company and are not considered by management to be probable as of the date of this report was available to be issued.
Percussion Petroleum II, LLC
Notes to Consolidated Financial Statements
Delivery Commitments
The Company has entered into certain gathering, processing, and transportation service agreements which require minimum volumes of oil or natural gas to be delivered.
Note 10. Leases
In 2021, the Company entered into a lease arrangement for its corporate office in Houston, Texas that expires in 2027. For the three months ended March 31, 2023, the Company’s office rent was $143,692. Office rent expense is included in general and administrative expenses in the accompanying consolidated statement of operations.
Note 11. Subsequent Events
On May 3, 2023, the Company entered into an agreement with Callon Petroleum Company (“Callon”, “CPE”) for the sale of its oil and gas properties in the Delaware Basin for cash consideration of $265.0 million and $210.0 million of shares of CPE common stock. Additionally, Callon could have to pay up to $62.5 million of contingent consideration if the WTI price of oil exceeds certain thresholds in 2023, 2024, and 2025. Upon signing, Callon paid $36.0 million as a deposit into third-party escrow accounts. The transaction is structured as the acquisition by Callon Petroleum Operating Company of 100% of the interest in Percussion Petroleum Operating II, LLC. Closing of the transaction is expected to occur early in July 2023, subject to completion of various customary conditions.
The Company has evaluated subsequent events from March 31, 2023, the date of the consolidated balance sheet, through June 9, 2023, the date these consolidated financial statements were available for issuance and there were no other items to disclose.
June 22, 2023
Mr. Brian Zwart
Percussion Petroleum Operating II, LLC
1001 Fannin Street, Suite 2200
Houston, Texas 77002
Dear Mr. Zwart:
In accordance with your request, we have estimated the proved reserves and future revenue, as of December 31, 2022, to the Percussion Petroleum Operating II, LLC (Percussion) interest in certain oil and gas properties located in Loving, Ward, and Winkler Counties, Texas. We completed our evaluation on or about May 12, 2023. It is our understanding that the proved reserves estimated in this report constitute all of the proved reserves owned by Percussion. The estimates in this report have been prepared in accordance with the definitions and regulations of the U.S. Securities and Exchange Commission (SEC) and conform to the FASB Accounting Standards Codification Topic 932, Extractive Activities—Oil and Gas, except that future income taxes are excluded for all properties and, as requested, per-well overhead expenses are excluded for the operated properties. Definitions are presented immediately following this letter. This report has been prepared for Percussion's use in filing with the SEC; in our opinion the assumptions, data, methods, and procedures used in the preparation of this report are appropriate for such purpose.
We estimate the net reserves and future net revenue to the Percussion interest in these properties, as of December 31, 2022, to be:
| | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | |
| | Net Reserves | | Future Net Revenue (M$) |
| | Oil | | NGL | | Gas | | | | Present Worth |
| Category | | (MBBL) | | (MBBL) | | (MMCF) | | Total | | at 10% |
| | | | | | | | | | |
| Proved Developed Producing | | 20,945.8 | | 5,235.0 | | 20,898.9 | | 1,529,007.5 | | 824,041.1 |
| Proved Developed Non-Producing | | 1,535.4 | | 493.6 | | 1,819.1 | | 125,962.5 | | 77,230.5 |
| Proved Undeveloped | | 32,795.8 | | 9,167.9 | | 34,849.5 | | 2,038,205.3 | | 728,313.5 |
| | | | | | | | | | |
| Total Proved | | 55,277.0 | | 14,896.5 | | 57,567.5 | | 3,693,176.3 | | 1,629,585.3 |
Totals may not add because of rounding.
The oil volumes shown include crude oil and condensate. Oil and natural gas liquids (NGL) volumes are expressed in thousands of barrels (MBBL); a barrel is equivalent to 42 United States gallons. Gas volumes are expressed in millions of cubic feet (MMCF) at standard temperature and pressure bases.
Reserves categorization conveys the relative degree of certainty; reserves subcategorization is based on development and production status. As requested, probable reserves that exist for these properties have not been included. No study was made to determine whether possible reserves might be established for these properties. The estimates of reserves and future revenue included herein have not been adjusted for risk. This report does not include any value that could be attributed to interests in undeveloped acreage beyond those tracts for which undeveloped reserves have been estimated.
Gross revenue is Percussion's share of the gross (100 percent) revenue from the properties prior to any deductions. Future net revenue is after deductions for Percussion's share of production taxes, ad valorem taxes, capital costs, abandonment costs, and operating expenses but before consideration of any income taxes. The future net revenue has been discounted at an annual rate of 10 percent to determine its present worth, which is shown to indicate the effect of time on the value of money. Future net revenue presented in this report, whether discounted or undiscounted, should not be construed as being the fair market value of the properties.
Prices used in this report are based on the 12-month unweighted arithmetic average of the first-day-of-the-month price for each month in the period January through December 2022. For oil and NGL volumes, the average West Texas Intermediate spot price of $94.14 per barrel is adjusted for quality, transportation fees, and market differentials; these transportation fees are inclusive of oil gathering fees that have been adjusted for existing contractual agreements. For gas volumes, the average Henry Hub spot price of $6.357 per MMBTU is adjusted for energy content, transportation fees, and market differentials. All prices are held constant throughout the lives of the properties. The average adjusted product prices weighted by production over the remaining lives of the properties are $95.14 per barrel of oil, $40.02 per barrel of NGL, and $4.996 per MCF of gas.
Operating costs used in this report are based on operating expense records of Percussion. For the nonoperated properties, these costs include the per-well overhead expenses allowed under joint operating agreements along with estimates of costs to be incurred at and below the district and field levels. As requested, operating costs for the operated properties include only direct lease- and field-level costs. Operating costs have been divided into per-well costs and per-unit-of-production costs. For all properties, headquarters general and administrative overhead expenses of Percussion are not included. Operating costs are not escalated for inflation.
Capital costs used in this report were provided by Percussion and are based on authorizations for expenditure and actual costs from recent activity. Capital costs are included as required for artificial lift installations, new development wells, and production equipment. Based on our understanding of future development plans, a review of the records provided to us, and our knowledge of similar properties, we regard these estimated capital costs to be reasonable. Abandonment costs used in this report are Percussion's estimates of the costs to abandon the wells and production facilities, net of any salvage value. Capital costs and abandonment costs are not escalated for inflation.
For the purposes of this report, we did not perform any field inspection of the properties, nor did we examine the mechanical operation or condition of the wells and facilities. We have not investigated possible environmental liability related to the properties; therefore, our estimates do not include any costs due to such possible liability.
We have made no investigation of potential volume and value imbalances resulting from overdelivery or underdelivery to the Percussion interest. Therefore, our estimates of reserves and future revenue do not include adjustments for the settlement of any such imbalances; our projections are based on Percussion receiving its net revenue interest share of estimated future gross production. Additionally, we have made no specific investigation of any firm transportation contracts that may be in place for these properties; our estimates of future revenue include the effects of such contracts only to the extent that the associated fees are accounted for in the historical field- and lease-level accounting statements.
The reserves shown in this report are estimates only and should not be construed as exact quantities. Proved reserves are those quantities of oil and gas which, by analysis of engineering and geoscience data, can be estimated with reasonable certainty to be economically producible; probable and possible reserves are those additional reserves which are sequentially less certain to be recovered than proved reserves. Estimates of reserves may increase or decrease as a result of market conditions, future operations, changes in regulations, or actual reservoir performance. In addition to the primary economic assumptions discussed herein, our estimates are based on certain assumptions including, but not limited to, that the properties will be developed consistent with current development plans as provided to us by Percussion, that the properties will be operated in a prudent manner, that no governmental regulations or controls will be put in place that would impact the ability of the interest owner to recover the reserves, and that our projections of future production will prove consistent with actual performance. If the reserves are recovered, the revenues therefrom and the costs related thereto could be more or less than the estimated amounts. Because of governmental policies and uncertainties of supply and demand, the sales rates, prices received for the reserves, and costs incurred in recovering such reserves may vary from assumptions made while preparing this report.
For the purposes of this report, we used technical and economic data including, but not limited to, geologic maps, well test data, production data, historical price and cost information, and property ownership interests. The reserves in this report have been estimated using deterministic methods; these estimates have been prepared in accordance with the Standards Pertaining to the Estimating and Auditing of Oil and Gas Reserves Information promulgated by the Society of Petroleum Engineers (SPE Standards). We used standard engineering and geoscience methods, or a combination of methods, including performance analysis and analogy, that we considered to be appropriate and necessary to categorize and estimate reserves in accordance with SEC definitions and regulations. A substantial portion of these reserves are for undeveloped locations; such reserves are based on analogy to properties with similar geologic and reservoir characteristics. As in all aspects of oil and gas evaluation, there are uncertainties inherent in the interpretation of engineering and geoscience data; therefore, our conclusions necessarily represent only informed professional judgment.
The data used in our estimates were obtained from Percussion, public data sources, and the nonconfidential files of Netherland, Sewell & Associates, Inc. (NSAI) and were accepted as accurate. Supporting work data are on file in our office. We have not examined the titles to the properties or independently confirmed the actual degree or type of interest owned. The technical person primarily responsible for preparing the estimates presented herein meets the requirements regarding qualifications, independence, objectivity, and confidentiality set forth in the SPE Standards. Connor B. Riseden, a Licensed Professional Engineer in the State of Texas, has been practicing consulting petroleum engineering at NSAI since 2006 and has over 4 years of prior industry experience. We are independent petroleum engineers, geologists, geophysicists, and petrophysicists; we do not own an interest in these properties nor are we employed on a contingent basis.
Sincerely,
NETHERLAND, SEWELL & ASSOCIATES, INC.
Texas Registered Engineering Firm F-2699
/s/ C.H. (Scott) Rees III
By:
C.H. (Scott) Rees III, P.E.
Executive Chairman
/s/ Connor B. Riseden
By:
Connor B. Riseden, P.E. 100566
Vice President
Date Signed: June 22, 2023
CBR:DSC
DEFINITIONS OF OIL AND GAS RESERVES
Adapted from U.S. Securities and Exchange Commission Regulation S-X Section 210.4-10(a)
The following definitions are set forth in U.S. Securities and Exchange Commission (SEC) Regulation S-X Section 210.4-10(a). Also included is supplemental information from (1) the 2018 Petroleum Resources Management System approved by the Society of Petroleum Engineers, (2) the FASB Accounting Standards Codification Topic 932, Extractive Activities—Oil and Gas, and (3) the SEC's Compliance and Disclosure Interpretations.
(1) Acquisition of properties. Costs incurred to purchase, lease or otherwise acquire a property, including costs of lease bonuses and options to purchase or lease properties, the portion of costs applicable to minerals when land including mineral rights is purchased in fee, brokers' fees, recording fees, legal costs, and other costs incurred in acquiring properties.
(2) Analogous reservoir. Analogous reservoirs, as used in resources assessments, have similar rock and fluid properties, reservoir conditions (depth, temperature, and pressure) and drive mechanisms, but are typically at a more advanced stage of development than the reservoir of interest and thus may provide concepts to assist in the interpretation of more limited data and estimation of recovery. When used to support proved reserves, an "analogous reservoir" refers to a reservoir that shares the following characteristics with the reservoir of interest:
(i) Same geological formation (but not necessarily in pressure communication with the reservoir of interest);
(ii) Same environment of deposition;
(iii) Similar geological structure; and
(iv) Same drive mechanism.
Instruction to paragraph (a)(2): Reservoir properties must, in the aggregate, be no more favorable in the analog than in the reservoir of interest.
(3) Bitumen. Bitumen, sometimes referred to as natural bitumen, is petroleum in a solid or semi-solid state in natural deposits with a viscosity greater than 10,000 centipoise measured at original temperature in the deposit and atmospheric pressure, on a gas free basis. In its natural state it usually contains sulfur, metals, and other non-hydrocarbons.
(4) Condensate. Condensate is a mixture of hydrocarbons that exists in the gaseous phase at original reservoir temperature and pressure, but that, when produced, is in the liquid phase at surface pressure and temperature.
(5) Deterministic estimate. The method of estimating reserves or resources is called deterministic when a single value for each parameter (from the geoscience, engineering, or economic data) in the reserves calculation is used in the reserves estimation procedure.
(6) Developed oil and gas reserves. Developed oil and gas reserves are reserves of any category that can be expected to be recovered:
(i) Through existing wells with existing equipment and operating methods or in which the cost of the required equipment is relatively minor compared to the cost of a new well; and
(ii) Through installed extraction equipment and infrastructure operational at the time of the reserves estimate if the extraction is by means not involving a well.
| | |
Supplemental definitions from the 2018 Petroleum Resources Management System: Developed Producing Reserves – Expected quantities to be recovered from completion intervals that are open and producing at the effective date of the estimate. Improved recovery Reserves are considered producing only after the improved recovery project is in operation. Developed Non-Producing Reserves – Shut-in and behind-pipe Reserves. Shut-in Reserves are expected to be recovered from (1) completion intervals that are open at the time of the estimate but which have not yet started producing, (2) wells which were shut-in for market conditions or pipeline connections, or (3) wells not capable of production for mechanical reasons. Behind-pipe Reserves are expected to be recovered from zones in existing wells that will require additional completion work or future re-completion before start of production with minor cost to access these reserves. In all cases, production can be initiated or restored with relatively low expenditure compared to the cost of drilling a new well. |
(7) Development costs. Costs incurred to obtain access to proved reserves and to provide facilities for extracting, treating, gathering and storing the oil and gas. More specifically, development costs, including depreciation and applicable operating costs of support equipment and facilities and other costs of development activities, are costs incurred to:
(i) Gain access to and prepare well locations for drilling, including surveying well locations for the purpose of determining specific development drilling sites, clearing ground, draining, road building, and relocating public roads, gas lines, and power lines, to the extent necessary in developing the proved reserves.
(ii) Drill and equip development wells, development-type stratigraphic test wells, and service wells, including the costs of platforms and of well equipment such as casing, tubing, pumping equipment, and the wellhead assembly.
(iii) Acquire, construct, and install production facilities such as lease flow lines, separators, treaters, heaters, manifolds, measuring devices, and production storage tanks, natural gas cycling and processing plants, and central utility and waste disposal systems.
(iv) Provide improved recovery systems.
(8) Development project. A development project is the means by which petroleum resources are brought to the status of economically producible. As examples, the development of a single reservoir or field, an incremental development in a producing field, or the integrated development of a group of several fields and associated facilities with a common ownership may constitute a development project.
Definitions - Page 1 of 6
DEFINITIONS OF OIL AND GAS RESERVES
Adapted from U.S. Securities and Exchange Commission Regulation S-X Section 210.4-10(a)
(9) Development well. A well drilled within the proved area of an oil or gas reservoir to the depth of a stratigraphic horizon known to be productive.
(10) Economically producible. The term economically producible, as it relates to a resource, means a resource which generates revenue that exceeds, or is reasonably expected to exceed, the costs of the operation. The value of the products that generate revenue shall be determined at the terminal point of oil and gas producing activities as defined in paragraph (a)(16) of this section.
(11) Estimated ultimate recovery (EUR). Estimated ultimate recovery is the sum of reserves remaining as of a given date and cumulative production as of that date.
(12) Exploration costs. Costs incurred in identifying areas that may warrant examination and in examining specific areas that are considered to have prospects of containing oil and gas reserves, including costs of drilling exploratory wells and exploratory-type stratigraphic test wells. Exploration costs may be incurred both before acquiring the related property (sometimes referred to in part as prospecting costs) and after acquiring the property. Principal types of exploration costs, which include depreciation and applicable operating costs of support equipment and facilities and other costs of exploration activities, are:
(i) Costs of topographical, geographical and geophysical studies, rights of access to properties to conduct those studies, and salaries and other expenses of geologists, geophysical crews, and others conducting those studies. Collectively, these are sometimes referred to as geological and geophysical or "G&G" costs.
(ii) Costs of carrying and retaining undeveloped properties, such as delay rentals, ad valorem taxes on properties, legal costs for title defense, and the maintenance of land and lease records.
(iii) Dry hole contributions and bottom hole contributions.
(iv) Costs of drilling and equipping exploratory wells.
(v) Costs of drilling exploratory-type stratigraphic test wells.
(13) Exploratory well. An exploratory well is a well drilled to find a new field or to find a new reservoir in a field previously found to be productive of oil or gas in another reservoir. Generally, an exploratory well is any well that is not a development well, an extension well, a service well, or a stratigraphic test well as those items are defined in this section.
(14) Extension well. An extension well is a well drilled to extend the limits of a known reservoir.
(15) Field. An area consisting of a single reservoir or multiple reservoirs all grouped on or related to the same individual geological structural feature and/or stratigraphic condition. There may be two or more reservoirs in a field which are separated vertically by intervening impervious strata, or laterally by local geologic barriers, or by both. Reservoirs that are associated by being in overlapping or adjacent fields may be treated as a single or common operational field. The geological terms "structural feature" and "stratigraphic condition" are intended to identify localized geological features as opposed to the broader terms of basins, trends, provinces, plays, areas-of-interest, etc.
(16) Oil and gas producing activities.
(i) Oil and gas producing activities include:
(A) The search for crude oil, including condensate and natural gas liquids, or natural gas ("oil and gas") in their natural states and original locations;
(B) The acquisition of property rights or properties for the purpose of further exploration or for the purpose of removing the oil or gas from such properties;
(C) The construction, drilling, and production activities necessary to retrieve oil and gas from their natural reservoirs, including the acquisition, construction, installation, and maintenance of field gathering and storage systems, such as:
(1) Lifting the oil and gas to the surface; and
(2) Gathering, treating, and field processing (as in the case of processing gas to extract liquid hydrocarbons); and
(D) Extraction of saleable hydrocarbons, in the solid, liquid, or gaseous state, from oil sands, shale, coalbeds, or other nonrenewable natural resources which are intended to be upgraded into synthetic oil or gas, and activities undertaken with a view to such extraction.
Instruction 1 to paragraph (a)(16)(i): The oil and gas production function shall be regarded as ending at a "terminal point", which is the outlet valve on the lease or field storage tank. If unusual physical or operational circumstances exist, it may be appropriate to regard the terminal point for the production function as:
a. The first point at which oil, gas, or gas liquids, natural or synthetic, are delivered to a main pipeline, a common carrier, a refinery, or a marine terminal; and
b. In the case of natural resources that are intended to be upgraded into synthetic oil or gas, if those natural resources are delivered to a purchaser prior to upgrading, the first point at which the natural resources are delivered to a main pipeline, a common carrier, a refinery, a marine terminal, or a facility which upgrades such natural resources into synthetic oil or gas.
Instruction 2 to paragraph (a)(16)(i): For purposes of this paragraph (a)(16), the term saleable hydrocarbons means hydrocarbons that are saleable in the state in which the hydrocarbons are delivered.
(ii) Oil and gas producing activities do not include:
(A) Transporting, refining, or marketing oil and gas;
Definitions - Page 2 of 6
DEFINITIONS OF OIL AND GAS RESERVES
Adapted from U.S. Securities and Exchange Commission Regulation S-X Section 210.4-10(a)
(B) Processing of produced oil, gas, or natural resources that can be upgraded into synthetic oil or gas by a registrant that does not have the legal right to produce or a revenue interest in such production;
(C) Activities relating to the production of natural resources other than oil, gas, or natural resources from which synthetic oil and gas can be extracted; or
(D) Production of geothermal steam.
(17) Possible reserves. Possible reserves are those additional reserves that are less certain to be recovered than probable reserves.
(i) When deterministic methods are used, the total quantities ultimately recovered from a project have a low probability of exceeding proved plus probable plus possible reserves. When probabilistic methods are used, there should be at least a 10% probability that the total quantities ultimately recovered will equal or exceed the proved plus probable plus possible reserves estimates.
(ii) Possible reserves may be assigned to areas of a reservoir adjacent to probable reserves where data control and interpretations of available data are progressively less certain. Frequently, this will be in areas where geoscience and engineering data are unable to define clearly the area and vertical limits of commercial production from the reservoir by a defined project.
(iii) Possible reserves also include incremental quantities associated with a greater percentage recovery of the hydrocarbons in place than the recovery quantities assumed for probable reserves.
(iv) The proved plus probable and proved plus probable plus possible reserves estimates must be based on reasonable alternative technical and commercial interpretations within the reservoir or subject project that are clearly documented, including comparisons to results in successful similar projects.
(v) Possible reserves may be assigned where geoscience and engineering data identify directly adjacent portions of a reservoir within the same accumulation that may be separated from proved areas by faults with displacement less than formation thickness or other geological discontinuities and that have not been penetrated by a wellbore, and the registrant believes that such adjacent portions are in communication with the known (proved) reservoir. Possible reserves may be assigned to areas that are structurally higher or lower than the proved area if these areas are in communication with the proved reservoir.
(vi) Pursuant to paragraph (a)(22)(iii) of this section, where direct observation has defined a highest known oil (HKO) elevation and the potential exists for an associated gas cap, proved oil reserves should be assigned in the structurally higher portions of the reservoir above the HKO only if the higher contact can be established with reasonable certainty through reliable technology. Portions of the reservoir that do not meet this reasonable certainty criterion may be assigned as probable and possible oil or gas based on reservoir fluid properties and pressure gradient interpretations.
(18) Probable reserves. Probable reserves are those additional reserves that are less certain to be recovered than proved reserves but which, together with proved reserves, are as likely as not to be recovered.
(i) When deterministic methods are used, it is as likely as not that actual remaining quantities recovered will exceed the sum of estimated proved plus probable reserves. When probabilistic methods are used, there should be at least a 50% probability that the actual quantities recovered will equal or exceed the proved plus probable reserves estimates.
(ii) Probable reserves may be assigned to areas of a reservoir adjacent to proved reserves where data control or interpretations of available data are less certain, even if the interpreted reservoir continuity of structure or productivity does not meet the reasonable certainty criterion. Probable reserves may be assigned to areas that are structurally higher than the proved area if these areas are in communication with the proved reservoir.
(iii) Probable reserves estimates also include potential incremental quantities associated with a greater percentage recovery of the hydrocarbons in place than assumed for proved reserves.
(iv) See also guidelines in paragraphs (a)(17)(iv) and (a)(17)(vi) of this section.
(19) Probabilistic estimate. The method of estimation of reserves or resources is called probabilistic when the full range of values that could reasonably occur for each unknown parameter (from the geoscience and engineering data) is used to generate a full range of possible outcomes and their associated probabilities of occurrence.
(20) Production costs.
(i) Costs incurred to operate and maintain wells and related equipment and facilities, including depreciation and applicable operating costs of support equipment and facilities and other costs of operating and maintaining those wells and related equipment and facilities. They become part of the cost of oil and gas produced. Examples of production costs (sometimes called lifting costs) are:
(A) Costs of labor to operate the wells and related equipment and facilities.
(B) Repairs and maintenance.
(C) Materials, supplies, and fuel consumed and supplies utilized in operating the wells and related equipment and facilities.
(D) Property taxes and insurance applicable to proved properties and wells and related equipment and facilities.
(E) Severance taxes.
(ii) Some support equipment or facilities may serve two or more oil and gas producing activities and may also serve transportation, refining, and marketing activities. To the extent that the support equipment and facilities are used in oil and gas producing activities, their depreciation and applicable operating costs become exploration, development or production costs, as appropriate. Depreciation, depletion, and amortization of capitalized
Definitions - Page 3 of 6
DEFINITIONS OF OIL AND GAS RESERVES
Adapted from U.S. Securities and Exchange Commission Regulation S-X Section 210.4-10(a)
acquisition, exploration, and development costs are not production costs but also become part of the cost of oil and gas produced along with production (lifting) costs identified above.
(21) Proved area. The part of a property to which proved reserves have been specifically attributed.
(22) Proved oil and gas reserves. Proved oil and gas reserves are those quantities of oil and gas, which, by analysis of geoscience and engineering data, can be estimated with reasonable certainty to be economically producible—from a given date forward, from known reservoirs, and under existing economic conditions, operating methods, and government regulations—prior to the time at which contracts providing the right to operate expire, unless evidence indicates that renewal is reasonably certain, regardless of whether deterministic or probabilistic methods are used for the estimation. The project to extract the hydrocarbons must have commenced or the operator must be reasonably certain that it will commence the project within a reasonable time.
(i) The area of the reservoir considered as proved includes:
(A) The area identified by drilling and limited by fluid contacts, if any, and
(B) Adjacent undrilled portions of the reservoir that can, with reasonable certainty, be judged to be continuous with it and to contain economically producible oil or gas on the basis of available geoscience and engineering data.
(ii) In the absence of data on fluid contacts, proved quantities in a reservoir are limited by the lowest known hydrocarbons (LKH) as seen in a well penetration unless geoscience, engineering, or performance data and reliable technology establishes a lower contact with reasonable certainty.
(iii) Where direct observation from well penetrations has defined a highest known oil (HKO) elevation and the potential exists for an associated gas cap, proved oil reserves may be assigned in the structurally higher portions of the reservoir only if geoscience, engineering, or performance data and reliable technology establish the higher contact with reasonable certainty.
(iv) Reserves which can be produced economically through application of improved recovery techniques (including, but not limited to, fluid injection) are included in the proved classification when:
(A) Successful testing by a pilot project in an area of the reservoir with properties no more favorable than in the reservoir as a whole, the operation of an installed program in the reservoir or an analogous reservoir, or other evidence using reliable technology establishes the reasonable certainty of the engineering analysis on which the project or program was based; and
(B) The project has been approved for development by all necessary parties and entities, including governmental entities.
(v) Existing economic conditions include prices and costs at which economic producibility from a reservoir is to be determined. The price shall be the average price during the 12-month period prior to the ending date of the period covered by the report, determined as an unweighted arithmetic average of the first-day-of-the-month price for each month within such period, unless prices are defined by contractual arrangements, excluding escalations based upon future conditions.
(23) Proved properties. Properties with proved reserves.
(24) Reasonable certainty. If deterministic methods are used, reasonable certainty means a high degree of confidence that the quantities will be recovered. If probabilistic methods are used, there should be at least a 90% probability that the quantities actually recovered will equal or exceed the estimate. A high degree of confidence exists if the quantity is much more likely to be achieved than not, and, as changes due to increased availability of geoscience (geological, geophysical, and geochemical), engineering, and economic data are made to estimated ultimate recovery (EUR) with time, reasonably certain EUR is much more likely to increase or remain constant than to decrease.
(25) Reliable technology. Reliable technology is a grouping of one or more technologies (including computational methods) that has been field tested and has been demonstrated to provide reasonably certain results with consistency and repeatability in the formation being evaluated or in an analogous formation.
(26) Reserves. Reserves are estimated remaining quantities of oil and gas and related substances anticipated to be economically producible, as of a given date, by application of development projects to known accumulations. In addition, there must exist, or there must be a reasonable expectation that there will exist, the legal right to produce or a revenue interest in the production, installed means of delivering oil and gas or related substances to market, and all permits and financing required to implement the project.
Note to paragraph (a)(26): Reserves should not be assigned to adjacent reservoirs isolated by major, potentially sealing, faults until those reservoirs are penetrated and evaluated as economically producible. Reserves should not be assigned to areas that are clearly separated from a known accumulation by a non-productive reservoir (i.e., absence of reservoir, structurally low reservoir, or negative test results). Such areas may contain prospective resources (i.e., potentially recoverable resources from undiscovered accumulations).
Definitions - Page 4 of 6
DEFINITIONS OF OIL AND GAS RESERVES
Adapted from U.S. Securities and Exchange Commission Regulation S-X Section 210.4-10(a)
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Excerpted from the FASB Accounting Standards Codification Topic 932, Extractive Activities—Oil and Gas: 932-235-50-30 A standardized measure of discounted future net cash flows relating to an entity's interests in both of the following shall be disclosed as of the end of the year:
a. Proved oil and gas reserves (see paragraphs 932-235-50-3 through 50-11B) b. Oil and gas subject to purchase under long-term supply, purchase, or similar agreements and contracts in which the entity participates in the operation of the properties on which the oil or gas is located or otherwise serves as the producer of those reserves (see paragraph 932-235-50-7). The standardized measure of discounted future net cash flows relating to those two types of interests in reserves may be combined for reporting purposes. 932-235-50-31 All of the following information shall be disclosed in the aggregate and for each geographic area for which reserve quantities are disclosed in accordance with paragraphs 932-235-50-3 through 50-11B: a. Future cash inflows. These shall be computed by applying prices used in estimating the entity's proved oil and gas reserves to the year-end quantities of those reserves. Future price changes shall be considered only to the extent provided by contractual arrangements in existence at year-end. b. Future development and production costs. These costs shall be computed by estimating the expenditures to be incurred in developing and producing the proved oil and gas reserves at the end of the year, based on year-end costs and assuming continuation of existing economic conditions. If estimated development expenditures are significant, they shall be presented separately from estimated production costs. c. Future income tax expenses. These expenses shall be computed by applying the appropriate year-end statutory tax rates, with consideration of future tax rates already legislated, to the future pretax net cash flows relating to the entity's proved oil and gas reserves, less the tax basis of the properties involved. The future income tax expenses shall give effect to tax deductions and tax credits and allowances relating to the entity's proved oil and gas reserves. d. Future net cash flows. These amounts are the result of subtracting future development and production costs and future income tax expenses from future cash inflows. e. Discount. This amount shall be derived from using a discount rate of 10 percent a year to reflect the timing of the future net cash flows relating to proved oil and gas reserves. f. Standardized measure of discounted future net cash flows. This amount is the future net cash flows less the computed discount. |
(27) Reservoir. A porous and permeable underground formation containing a natural accumulation of producible oil and/or gas that is confined by impermeable rock or water barriers and is individual and separate from other reservoirs.
(28) Resources. Resources are quantities of oil and gas estimated to exist in naturally occurring accumulations. A portion of the resources may be estimated to be recoverable, and another portion may be considered to be unrecoverable. Resources include both discovered and undiscovered accumulations.
(29) Service well. A well drilled or completed for the purpose of supporting production in an existing field. Specific purposes of service wells include gas injection, water injection, steam injection, air injection, salt-water disposal, water supply for injection, observation, or injection for in-situ combustion.
(30) Stratigraphic test well. A stratigraphic test well is a drilling effort, geologically directed, to obtain information pertaining to a specific geologic condition. Such wells customarily are drilled without the intent of being completed for hydrocarbon production. The classification also includes tests identified as core tests and all types of expendable holes related to hydrocarbon exploration. Stratigraphic tests are classified as "exploratory type" if not drilled in a known area or "development type" if drilled in a known area.
(31) Undeveloped oil and gas reserves. Undeveloped oil and gas reserves are reserves of any category that are expected to be recovered from new wells on undrilled acreage, or from existing wells where a relatively major expenditure is required for recompletion.
(i) Reserves on undrilled acreage shall be limited to those directly offsetting development spacing areas that are reasonably certain of production when drilled, unless evidence using reliable technology exists that establishes reasonable certainty of economic producibility at greater distances.
(ii) Undrilled locations can be classified as having undeveloped reserves only if a development plan has been adopted indicating that they are scheduled to be drilled within five years, unless the specific circumstances, justify a longer time.
Definitions - Page 5 of 6
DEFINITIONS OF OIL AND GAS RESERVES
Adapted from U.S. Securities and Exchange Commission Regulation S-X Section 210.4-10(a)
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From the SEC's Compliance and Disclosure Interpretations (October 26, 2009): Although several types of projects — such as constructing offshore platforms and development in urban areas, remote locations or environmentally sensitive locations — by their nature customarily take a longer time to develop and therefore often do justify longer time periods, this determination must always take into consideration all of the facts and circumstances. No particular type of project per se justifies a longer time period, and any extension beyond five years should be the exception, and not the rule. Factors that a company should consider in determining whether or not circumstances justify recognizing reserves even though development may extend past five years include, but are not limited to, the following:
The company's level of ongoing significant development activities in the area to be developed (for example, drilling only the minimum number of wells necessary to maintain the lease generally would not constitute significant development activities); The company's historical record at completing development of comparable long-term projects; The amount of time in which the company has maintained the leases, or booked the reserves, without significant development activities; The extent to which the company has followed a previously adopted development plan (for example, if a company has changed its development plan several times without taking significant steps to implement any of those plans, recognizing proved undeveloped reserves typically would not be appropriate); and The extent to which delays in development are caused by external factors related to the physical operating environment (for example, restrictions on development on Federal lands, but not obtaining government permits), rather than by internal factors (for example, shifting resources to develop properties with higher priority). |
(iii) Under no circumstances shall estimates for undeveloped reserves be attributable to any acreage for which an application of fluid injection or other improved recovery technique is contemplated, unless such techniques have been proved effective by actual projects in the same reservoir or an analogous reservoir, as defined in paragraph (a)(2) of this section, or by other evidence using reliable technology establishing reasonable certainty.
(32) Unproved properties. Properties with no proved reserves.
Definitions - Page 6 of 6
