UNITED STATES SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, DC 20549
FORM 10-K
| (Mark One) | |||||
| ☒ | ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 | ||||
For the fiscal year ended December 31, 2021
Or
| ☐ | TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 | ||||
| For the transition period from ________ to ________ | |||||
Commission File Number 001-33999
NORTHERN OIL AND GAS, INC.
(Exact Name of Registrant as Specified in Its Charter)
| Delaware | 95-3848122 | ||||
(State or Other Jurisdiction of Incorporation or Organization) | (I.R.S. Employer Identification No.) | ||||
4350 Baker Road – Suite 400, Minnetonka, Minnesota 55343
(Address of Principal Executive Offices) (Zip Code)
952-476-9800
(Registrant’s Telephone Number, Including Area Code)
Securities registered pursuant to Section 12(b) of the Act:
| Title of Each Class | Trading Symbol(s) | Name of Each Exchange On Which Registered | ||||||||||||
| Common Stock, $0.001 par value | NOG | New York Stock Exchange | ||||||||||||
Securities registered pursuant to Section 12(g) of the Act: None
Indicate by check mark if the registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act Yes ý No ☐
Indicate by check mark if the registrant is not required to file reports pursuant to Section 13 or 15(d) of the Act. Yes ☐ No ý
Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes ý No ☐
Indicate by check mark whether the registrant has submitted electronically every Interactive Data File required to be submitted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit such files). Yes ý No ☐
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, a smaller reporting company or an emerging growth company. See the definitions of “large accelerated filer,” “accelerated filer,” “smaller reporting company,” and “emerging growth company” in Rule 12b-2 of the Exchange Act:
Large Accelerated Filer ☒ Accelerated Filer ☐ Non-Accelerated Filer ☐ | ||
Smaller Reporting Company ☐ Emerging Growth Company ☐ | ||
If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act. ¨
Indicate by check mark whether the registrant has filed a report on and attestation to its management’s assessment of the effectiveness of its internal control over financial reporting under Section 404(b) of the Sarbanes-Oxley Act (15 U.S.C. 7262(b)) by the registered public accounting firm that prepared or issued its audit report. ☒
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes ☐ No ý
The aggregate market value of the registrant’s voting and non-voting common equity held by non-affiliates of the registrant on the last business day of the registrant’s most recently completed second fiscal quarter (based on the closing sale price on such date) was approximately $1.1 billion.
As of February 21, 2022, the registrant had 77,341,129 shares of common stock issued and outstanding.
DOCUMENTS INCORPORATED BY REFERENCE
Portions of the definitive proxy statement related to the registrant’s 2022 Annual Meeting of Stockholders are incorporated by reference into Part III of this report for the year ended December 31, 2021.
CAUTIONARY STATEMENT REGARDING FORWARD-LOOKING STATEMENTS
We are including the following discussion to inform our existing and potential security holders generally of some of the risks and uncertainties that can affect our company and to take advantage of the “safe harbor” protection for forward-looking statements that applicable federal securities law affords.
From time to time, our management or persons acting on our behalf may make forward-looking statements to inform existing and potential security holders about our company. All statements other than statements of historical facts included in this report regarding our financial position, business strategy, plans and objectives of management for future operations, industry conditions, indebtedness covenant compliance, capital expenditures, production, cash flow, borrowing base under our revolving credit facility (the “Revolving Credit Facility”), our intention or ability to pay or increase dividends on our capital stock, and impairment are forward-looking statements. When used in this report, forward-looking statements are generally accompanied by terms or phrases such as “estimate,” “project,” “predict,” “believe,” “expect,” “continue,” “anticipate,” “target,” “could,” “plan,” “intend,” “seek,” “goal,” “will,” “should,” “may” or other words and similar expressions that convey the uncertainty of future events or outcomes. Items contemplating or making assumptions about actual or potential future production, sales, market size, collaborations, cash flows, and trends or operating results also constitute such forward-looking statements.
Forward-looking statements involve inherent risks and uncertainties, and important factors (many of which are beyond our company’s control) that could cause actual results to differ materially from those set forth in the forward-looking statements, including the following: changes in crude oil and natural gas prices, the pace of drilling and completions activity on our current properties and properties pending acquisition, the effects of the COVID-19 pandemic and related economic slowdown, infrastructure constraints and related factors affecting our properties, cost inflation or supply chain disruptions, ongoing legal disputes over and potential shutdown of the Dakota Access Pipeline, our ability to acquire additional development opportunities, potential or pending acquisition transactions, the projected capital efficiency savings and other operating efficiencies and synergies resulting from our acquisition transactions, integration and benefits of property acquisitions, or the effects of such acquisitions on our company’s cash position and levels of indebtedness, changes in our reserves estimates or the value thereof, disruptions to our company’s business due to acquisitions and other significant transactions, general economic or industry conditions, nationally and/or in the communities in which our company conducts business, changes in the interest rate environment, legislation or regulatory requirements, conditions of the securities markets, our ability to consummate any pending acquisition transactions, other risks and uncertainties related to the closing of pending acquisition transactions, our ability to raise or access capital, cyber-related risks, changes in accounting principles, policies or guidelines, financial or political instability, health-related epidemics, acts of war or terrorism, and other economic, competitive, governmental, regulatory and technical factors affecting our company’s operations, products and prices.
We have based any forward-looking statements on our current expectations and assumptions about future events. While our management considers these expectations and assumptions to be reasonable, they are inherently subject to significant business, economic, competitive, regulatory and other risks, contingencies and uncertainties, most of which are difficult to predict and many of which are beyond our control. Accordingly, results actually achieved may differ materially from expected results described in these statements. Forward-looking statements speak only as of the date they are made. You should consider carefully the statements in “Item 1A. Risk Factors” and other sections of this report, which describe factors that could cause our actual results to differ from those set forth in the forward-looking statements. Our company does not undertake, and specifically disclaims, any obligation to update any forward-looking statements to reflect events or circumstances occurring after the date of such statements.
Readers are urged not to place undue reliance on these forward-looking statements, which speak only as of the date of this report. We assume no obligation to update any forward-looking statements in order to reflect any event or circumstance that may arise after the date of this report, other than as may be required by applicable law or regulation. Readers are urged to carefully review and consider the various disclosures made by us in our reports filed with the United States Securities and Exchange Commission (the “SEC”) which attempt to advise interested parties of the risks and factors that may affect our business, financial condition, results of operation and cash flows. If one or more of these risks or uncertainties materialize, or if the underlying assumptions prove incorrect, our actual results may vary materially from those expected or projected.
GLOSSARY OF TERMS
Unless otherwise indicated in this report, natural gas volumes are stated at the legal pressure base of the state or geographic area in which the reserves are located at 60 degrees Fahrenheit. Crude oil and natural gas equivalents are determined using the ratio of six Mcf of natural gas to one barrel of crude oil, condensate or natural gas liquids.
The following definitions shall apply to the technical terms used in this report.
Terms used to describe quantities of crude oil and natural gas:
“Bbl.” One stock tank barrel, of 42 U.S. gallons liquid volume, used herein in reference to crude oil, condensate or NGLs.
“Boe.” A barrel of oil equivalent and is a standard convention used to express crude oil, NGL and natural gas volumes on a comparable crude oil equivalent basis. Gas equivalents are determined under the relative energy content method by using the ratio of 6.0 Mcf of natural gas to 1.0 Bbl of crude oil or NGL.
“Boepd.” Boe per day.
“Btu or British Thermal Unit.” The quantity of heat required to raise the temperature of one pound of water by one degree Fahrenheit.
“MBbl.” One thousand barrels of crude oil, condensate or NGLs.
“MBoe.” One thousand Boe.
“Mcf.” One thousand cubic feet of natural gas.
“MMBbl.” One million barrels of crude oil, condensate or NGLs.
“MMBoe.” One million Boe.
“MMBtu.” One million British Thermal Units.
“MMcf.” One million cubic feet of natural gas.
“NGLs.” Natural gas liquids. Hydrocarbons found in natural gas that may be extracted as liquefied petroleum gas and natural gasoline.
Terms used to describe our interests in wells and acreage:
“Basin.” A large natural depression on the earth’s surface in which sediments generally brought by water accumulate.
“Completion.” The process of treating a drilled well followed by the installation of permanent equipment for the production of crude oil, NGLs, and/or natural gas.
“Conventional play.” An area that is believed to be capable of producing crude oil, NGLs, and natural gas occurring in discrete accumulations in structural and stratigraphic traps.
“Developed acreage.” Acreage consisting of leased acres spaced or assignable to productive wells. Acreage included in spacing units of infill wells is classified as developed acreage at the time production commences from the initial well in the spacing unit. As such, the addition of an infill well does not have any impact on a company’s amount of developed acreage.
“Development well.” A well drilled within the proved area of a crude oil, NGL, or natural gas reservoir to the depth of a stratigraphic horizon (rock layer or formation) known to be productive for the purpose of extracting proved crude oil, NGL, or natural gas reserves.
“Differential.” The difference between a benchmark price of crude oil and natural gas, such as the NYMEX crude oil spot price, and the wellhead price received.
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“Dry hole.” A well found to be incapable of producing hydrocarbons in sufficient quantities such that proceeds from the sale of such production exceed production expenses and taxes.
“Exploratory well.” A well drilled to find and produce crude oil, NGLs, or natural gas in an unproved area, to find a new reservoir in a field previously found to be producing crude oil, NGLs, or natural gas in another reservoir, or to extend a known reservoir.
“Field.” An area consisting of a single reservoir or multiple reservoirs all grouped on, or related to, the same individual geological structural feature or stratigraphic condition. The field name refers to the surface area, although it may refer to both the surface and the underground productive formations.
“Formation.” A layer of rock which has distinct characteristics that differs from nearby rock.
“Gross acres or Gross wells.” The total acres or wells, as the case may be, in which a working interest is owned.
“Held by operations.” A provision in an oil and gas lease that extends the stated term of the lease as long as drilling operations are ongoing on the property.
“Held by production.” A provision in an oil and gas lease that extends the stated term of the lease as long as the property produces a minimum quantity of crude oil, NGLs, and natural gas.
“Hydraulic fracturing.” The technique of improving a well’s production by pumping a mixture of fluids into the formation and rupturing the rock, creating an artificial channel. As part of this technique, sand or other material may also be injected into the formation to keep the channel open, so that fluids or natural gases may more easily flow through the formation.
“Infill well.” A subsequent well drilled in an established spacing unit of an already established productive well in the spacing unit. Acreage on which infill wells are drilled is considered developed commencing with the initial productive well established in the spacing unit. As such, the addition of an infill well does not have any impact on a company’s amount of developed acreage.
“Net acres.” The percentage ownership of gross acres. Net acres are deemed to exist when the sum of fractional ownership working interests in gross acres equals one (e.g., a 10% working interest in a lease covering 640 gross acres is equivalent to 64 net acres).
“Net well.” A well that is deemed to exist when the sum of fractional ownership working interests in gross wells equals one.
“NYMEX.” The New York Mercantile Exchange.
“OPEC.” The Organization of Petroleum Exporting Countries.
“Productive well.” A well that is found to be capable of producing hydrocarbons in sufficient quantities such that proceeds from the sale of the production exceed production expenses and taxes.
“Recompletion.” The process of treating a drilled well followed by the installation of permanent equipment for the production of crude oil, NGLs or natural gas or, in the case of a dry hole, the reporting of abandonment to the appropriate agency.
“Reservoir.” A porous and permeable underground formation containing a natural accumulation of producible crude oil, NGLs and/or natural gas that is confined by impermeable rock or water barriers and is separate from other reservoirs.
“Spacing.” The distance between wells producing from the same reservoir. Spacing is often expressed in terms of acres, e.g., 40-acre spacing, and is often established by regulatory agencies.
“Unconventional play.” An area believed to be capable of producing crude oil, NGLs, and/or natural gas occurring in cumulations that are regionally extensive but require recently developed technologies to achieve profitability. These areas tend to have low permeability and may be closely associated with source rock as this is the case with crude oil and natural gas shale, tight crude oil and natural gas sands and coal bed methane.
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“Undeveloped acreage.” Leased acreage on which wells have not been drilled or completed to a point that would permit the production of economic quantities of crude oil, NGLs, and natural gas, regardless of whether such acreage contains proved reserves. Undeveloped acreage includes net acres held by operations until a productive well is established in the spacing unit.
“Unit.” The joining of all or substantially all interests in a reservoir or field, rather than a single tract, to provide for development and operation without regard to separate property interests. Also, the area covered by a unitization agreement.
“Wellbore.” The hole drilled by the bit that is equipped for natural gas production on a completed well. Also called well or borehole.
“West Texas Intermediate or WTI.” A light, sweet blend of oil produced from the fields in West Texas.
“Working interest.” The right granted to the lessee of a property to explore for and to produce and own crude oil, NGLs, natural gas or other minerals. The working interest owners bear the exploration, development, and operating costs on either a cash, penalty, or carried basis.
“Workover.” Operations on a producing well to restore or increase production.
Terms used to assign a present value to or to classify our reserves:
“Possible reserves.” The additional reserves which analysis of geoscience and engineering data suggest are less likely to be recoverable than probable reserves.
“Pre-tax PV-10% or PV-10.” The estimated future net revenue, discounted at a rate of 10% per annum, before income taxes and with no price or cost escalation or de-escalation in accordance with guidelines promulgated by the SEC.
“Probable reserves.” The additional reserves which analysis of geoscience and engineering data indicate are less likely to be recovered than proved reserves but which together with proved reserves, are as likely as not to be recovered.
“Proved developed producing reserves (PDPs).” Reserves that can be expected to be recovered through existing wells with existing equipment and operating methods. Additional crude oil, NGLs, and natural gas expected to be obtained through the application of fluid injection or other improved recovery techniques for supplementing the natural forces and mechanisms of primary recovery are included in “proved developed reserves” only after testing by a pilot project or after the operation of an installed program has confirmed through production response that increased recovery will be achieved.
“Proved developed non-producing reserves (PDNPs).” Proved crude oil, NGLs, and natural gas reserves that are developed behind pipe, shut-in or that can be recovered through improved recovery only after the necessary equipment has been installed, or when the costs to do so are relatively minor. Shut-in reserves are expected to be recovered from (1) completion intervals which are open at the time of the estimate but which have not started producing, (2) wells that 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 recompletion prior to the start of production.
“Proved reserves.” The quantities of crude oil, NGLs and natural gas, which, by analysis of geosciences 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.
“Proved undeveloped drilling location.” A site on which a development well can be drilled consistent with spacing rules for purposes of recovering proved undeveloped reserves.
“Proved undeveloped reserves” or “PUDs.” Reserves that are expected to be recovered from new wells on undrilled acreage, or from existing wells where a relatively major expenditure is required for development. Reserves on undrilled acreage are limited to those drilling units offsetting productive units that are reasonably certain of production when drilled. Proved reserves for other undrilled units are claimed only where it can be demonstrated with reasonable certainty that there is continuity of production from the existing productive formation. Estimates for proved undeveloped reserves will not be
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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 tests in the area and in the same reservoir or an analogous reservoir.
(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 crude oil, NGLs or natural 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 during the twelve-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 on future conditions.
“Standardized measure.” Discounted future net cash flows estimated by applying year-end prices to the estimated future production of year-end proved reserves. Future cash inflows are reduced by estimated future production and development costs based on period end costs to determine pre-tax cash inflows. Future income taxes, if applicable, are computed by applying the statutory tax rate to the excess of pre-tax cash inflows over our tax basis in the oil and natural gas properties. Future net cash inflows after income taxes are discounted using a 10% annual discount rate.
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NORTHERN OIL AND GAS, INC.
TABLE OF CONTENTS
| Page | ||||||||
| Part I | ||||||||
| Business | ||||||||
| Risk Factors | ||||||||
| Unresolved Staff Comments | ||||||||
| Properties | ||||||||
| Legal Proceedings | ||||||||
| Mine Safety Disclosures | ||||||||
| Part II | ||||||||
| Market for Registrant’s Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities | ||||||||
| [RESERVED] | ||||||||
| Management’s Discussion and Analysis of Financial Condition and Results of Operations | ||||||||
| Quantitative and Qualitative Disclosures About Market Risk | ||||||||
| Financial Statements and Supplementary Data | ||||||||
| Changes in and Disagreements With Accountants on Accounting and Financial Disclosure | ||||||||
| Controls and Procedures | ||||||||
| Other Information | ||||||||
| Disclosure Regarding Foreign Jurisdictions that Prevent Inspections | ||||||||
| Part III | ||||||||
| Directors, Executive Officers and Corporate Governance | ||||||||
| Executive Compensation | ||||||||
| Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters | ||||||||
| Certain Relationships and Related Transactions, and Director Independence | ||||||||
| Principal Accountant Fees and Services | ||||||||
| Part IV | ||||||||
| Exhibits and Financial Statement Schedules | ||||||||
| Form 10-K Summary | ||||||||
Index to Financial Statements | F-1 | |||||||
1
NORTHERN OIL AND GAS, INC.
ANNUAL REPORT ON FORM 10-K
FOR FISCAL YEAR ENDED DECEMBER 31, 2021
PART I
Item 1. Business
Overview
We are an independent energy company engaged in the acquisition, exploration, development and production of oil and natural gas properties in the United States, primarily in the Williston Basin, the Appalachian Basin and the Permian Basin. We believe the location, size and concentration of our acreage positions in some of North America’s leading unconventional oil and gas resource plays provide us with drilling and development opportunities that will result in significant long term value. We currently report a single reportable segment. See “Financial Statements” and the notes to our consolidated financial statements for financial information about this reportable segment.
Our primary focus is investing in non-operated minority working and mineral interests in oil and gas properties, with a core area of focus in three premier basins within the United States. As a non-operator, we are able to diversify our investment exposure by participating in a large number of gross wells, as well as entering into additional project areas by partnering with numerous experienced operating partners or pursuing value enhancing acquisitions. In addition, because we can generally elect to participate on a well by well basis, we believe we have increased flexibility in the timing and amount of our capital expenditures because we are not burdened with various contractual arrangements with respect to minimum drilling obligations. Further, we are able to avoid exploratory and infrastructure costs incurred by many oil and gas producers.
We seek to create value through strategic acquisitions and partnering with operators who have significant experience in developing and producing hydrocarbons in our core areas. We have more than 50 experienced operating partners that provide technical insights and opportunities for acquisitions. Across these operators, no single operator represented more than 20% of our fourth quarter 2021 oil and natural gas sales.
Prior to 2020, we focused our operations exclusively on oil-weighted properties in the Williston Basin. We first expanded beyond the Williston Basin in 2020, with several small acquisitions in the Permian Basin. Since then, we have accelerated our diversification outside the Williston Basin via several larger acquisitions, including our April 2021 acquisition of natural gas properties in the Appalachian Basin (the “Reliance Acquisition”), our August 2021 acquisition of oil and gas properties in the Permian Basin (the “CM Resources Acquisition”), and our January 2022 acquisition of oil and gas properties in the Permian Basin (the “Veritas Acquisition”). We have also added to our legacy position, with our November 2021 acquisition of oil and gas properties in the Williston Basin (the “Comstock Acquisition”). See Notes 3 and 14 to our financial statements for further details regarding these acquisitions. Our acquisition activity was a significant driver of our production growth from 35,738 Boe per day in the fourth quarter of 2020 to 64,155 Boe per day in the fourth quarter of 2021.
The following table provides a summary of certain information regarding our assets as of December 31, 2021, including reserves information as estimated by our third-party independent reserve engineers, Cawley, Gillespie & Associates, Inc. This table does not include any contribution from the Veritas Acquisition, which closed in January 2022.
| As of December 31, 2021 | |||||||||||||||||||||||||||||||||||||||||
| Net Acres | Productive Wells | Average Daily Production(1) (Boe per day) | Proved Reserves (MBoe) | % Oil | % Proved Developed | ||||||||||||||||||||||||||||||||||||
| Gross | Net | ||||||||||||||||||||||||||||||||||||||||
| Williston Basin | 180,383 | 6,996 | 571.7 | 46,017 | 170,631 | 73 | % | 68 | % | ||||||||||||||||||||||||||||||||
| Permian Basin | 3,462 | 83 | 11.6 | 5,174 | 12,974 | 58 | 44 | ||||||||||||||||||||||||||||||||||
| Appalachian Basin | 61,586 | 357 | 97.5 | 12,964 | 104,077 | — | 46 | ||||||||||||||||||||||||||||||||||
| Total | 245,431 | 7,436 | 680.8 | 64,155 | 287,682 | 46 | % | 59 | % | ||||||||||||||||||||||||||||||||
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(1)Represents the average daily production over the three months ended December 31, 2021.
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Business Strategy
Our business strategy is focused on growing our reserves, production and free cash flow to create long-term value for our stakeholders while maintaining a strong balance sheet. The key elements of our business strategy include the following:
•Diversify Our Risk Through Non-Operated Participation in a Large Number of Wells and Multiple Basins. As a non-operator, we seek to diversify our investment and operational risk through participation in a large number of oil and gas wells and with multiple operators across multiple basins. As of December 31, 2021, we have participated in 7,436 gross (680.8 net) producing wells with an average working interest of 9.2% in each gross well, with more than 50 experienced operating partners. We also believe that we can further diversify our risk with acquisitions in multiple basins, focusing on accretive acquisitions of top tier assets with top tier operators in the premier basins in the United States. For the three months ended December 31, 2021, our production consisted of approximately 46,017 Boe per day in the Williston Basin, 12,964 Boe per day in the Appalachian Basin and 5,174 Boe per day in the Permian Basin (which does not include any contribution from the Veritas Acquisition, which closed in January 2022).
•Accelerate Growth by Pursuing Value-Enhancing Acquisitions. We strive to be the natural consolidator and clearing house of non-operated working interests in various leading oil and gas shale plays in the United States. Our “ground game” acquisition strategy is to build a strong presence in our core basins and seek to acquire smaller additional lease positions at a significant discount to the contiguous acreage positions typically sought by larger producers and operators of oil and gas wells, focusing on near term drilling opportunities. Such acquisitions have been a significant driver of our net well additions and additions to production. We intend to continue these activities, while at the same time evaluating and pursuing larger non-operated asset packages that we believe can responsibly add significant production, cash flow and scale to existing operations.
•Build and Maintain a Strong Balance Sheet and Proactively Manage to Limit Downside. We strive for financial strength and flexibility through the prudent management of our balance sheet. We intend to use a significant portion of our expected free cash flow in 2022 to further reduce our borrowings under our Revolving Credit Facility with the objective to bring our leverage closer to our target of 1.0x Debt / Adjusted EBITDA.
•Systematic Hedging Strategy. Given the volatility of the commodity price environment, we employ an active commodity price risk management program to better enable us to execute our business plan over the entire commodity price cycle. We have a rolling target of hedging 65% or more of our anticipated next 18-month production.
•Shareholder Returns. The foregoing strategies are collectively aimed at building a diversified, low-leverage, cash generating business that can deliver meaningful returns to our investors. We instituted a common stock dividend program in 2021 and intend to continue to grow shareholder returns over time.
Industry Operating Environment
The oil and natural gas industry is a global market impacted by many factors, such as government regulations, particularly in the areas of taxation, energy, climate change and the environment, political and social developments in the Middle East, demand in Asian and European markets, and the extent to which members of OPEC and other oil exporting nations manage oil supply through export quotas. Natural gas prices are generally determined by North American supply and demand and are also affected by imports and exports of liquefied natural gas. Weather also has a significant impact on demand for natural gas since it is a primary heating source.
Oil and natural gas prices have been, and we expect may continue to be, volatile. Lower oil and gas prices not only decrease our revenues, but an extended decline in oil or gas prices may affect planned capital expenditures and the oil and natural gas reserves that we can economically produce. Lower oil and gas prices may also reduce the amount of our borrowing base under our Revolving Credit Facility, which is determined at the discretion of the lenders based on various factors including the collateral value of our proved reserves. While lower commodity prices may reduce our future net cash flow from operations, we expect to have sufficient liquidity to continue development of our oil and gas properties. In addition, we undertake an active commodity hedging program that is designed to help stabilize the volatile commodity pricing environment and protect cash flows in a potential downturn.
Development
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We primarily engage in oil and natural gas exploration and production by participating on a proportionate basis alongside third-party interests in wells drilled and completed in spacing units that include our acreage. In addition, we acquire wellbore-only working interests in wells in which we do not hold the underlying leasehold interests from third parties unable or unwilling to participate in particular well proposals. We typically depend on drilling partners to propose, permit and initiate the drilling of wells. Prior to commencing drilling, our partners are required to provide all owners of oil, natural gas and mineral interests within the designated spacing unit the opportunity to participate in the drilling costs and revenues of the well to the extent of their pro-rata share of such interest within the spacing unit. We assess each drilling opportunity on a case-by-case basis and participate in wells that we expect to meet our return thresholds based upon our estimates of ultimate recoverable oil and natural gas, expected oil and gas prices, expertise of the operator, and completed well cost from each project, as well as other factors. Historically, we have participated pursuant to our working interest in a vast majority of the wells proposed to us. However, declines in oil prices typically reduce both the number of well proposals we receive and the proportion of well proposals in which we elect to participate. Our land and engineering team uses our extensive database to make these economic decisions. Given our large acreage footprint and substantial number of well participations, we believe we can make accurate economic drilling decisions.
Historically, we have not managed our commodities marketing activities internally. Instead, our operating partners generally market and sell oil and natural gas produced from wells in which we have an interest. Our operating partners coordinate the transportation of our oil and gas production from our wells to appropriate pipelines or rail transport facilities pursuant to arrangements that they negotiate and maintain with various parties purchasing the production. We understand that our partners generally sell our production to a variety of purchasers at prevailing market prices under separately negotiated short-term contracts. Although we have historically relied on our operating partners for these activities, we may in the future seek to take a portion of our production in kind and internally manage the marketing activities for such production. The price at which our production is sold is generally tied to the spot market for oil or natural gas. The price at which our oil production is sold typically reflects a discount to the NYMEX benchmark price. This differential primarily represents the transportation costs in moving the oil from wellhead to refinery and will fluctuate based on availability of pipeline, rail and other transportation methods. The price at which our natural gas production is sold may reflect either a discount or premium to the NYMEX benchmark price. Using our commodity hedging program, we may, from time to time, enter into financial hedging contracts to help mitigate pricing risk and volatility with respect to differentials.
Competition
The oil and natural gas industry is intensely competitive and we compete with numerous other oil and natural gas exploration and production companies, many of which have substantially greater resources than we have and may be able to pay more for exploratory prospects and productive oil and natural gas properties. Our larger or integrated competitors may be better able to absorb the burden of existing, and any changes to federal, state, and local laws and regulations than we can, which would adversely affect our competitive position. Our ability to discover reserves and acquire additional properties in the future is dependent upon our ability and resources to evaluate and select suitable properties and to consummate transactions in this highly competitive environment.
Marketing and Customers
The market for oil and natural gas that will be produced from our properties depends on many factors, including the extent of domestic production and imports of oil and natural gas, the proximity and capacity of pipelines and other transportation and storage facilities, demand for oil and natural gas, the marketing of competitive fuels and the effects of state and federal regulation. The oil and natural gas industry also competes with other industries in supplying the energy and fuel requirements of industrial, commercial and individual consumers.
Our oil production is expected to be sold at prices tied to the spot oil markets. Our natural gas production is expected to be sold under short-term contracts and priced based on first of the month index prices or on daily spot market prices. We rely on our operating partners to market and sell our production. Our operating partners include a variety of exploration and production companies, from large publicly-traded companies to small, privately-owned companies. We do not believe the loss of any single operator would have a material adverse effect on our company as a whole.
Title to Properties
Our oil and natural gas properties are subject to customary royalty and other interests, liens under indebtedness, liens incident to operating agreements, liens for current taxes and other burdens, including other mineral encumbrances and restrictions. Our indebtedness under our Revolving Credit Facility is also secured by liens on substantially all of our assets. We do not believe that any of these burdens materially interfere with the use of our properties or the operation of our business.
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We believe that we have satisfactory title to or rights in our producing properties. As is customary in the oil and gas industry, minimal investigation of title is made at the time of acquisition of undeveloped properties. In most cases, we investigate title only when we acquire producing properties or before commencement of drilling operations.
Seasonality
Winter weather conditions and lease stipulations can limit or temporarily halt the drilling and producing activities of our operating partners and other oil and natural gas operations. These constraints and the resulting shortages or high costs could delay or temporarily halt the operations of our operating partners and materially increase our operating and capital costs. Such seasonal anomalies can also pose challenges for meeting well drilling objectives and may increase competition for equipment, supplies and personnel during the spring and summer months, which could lead to shortages and increase costs or delay or temporarily halt our operating partners’ operations.
Principal Agreements Affecting Our Ordinary Business
We generally do not own physical real estate, but, instead, our acreage is primarily comprised of leasehold interests subject to the terms and provisions of lease agreements that provide our company the right to participate in drilling and maintenance of wells in specific geographic areas. Lease arrangements that comprise our acreage positions are generally established using industry-standard terms that have been established and used in the oil and natural gas industry for many years. Many of our leases are or were acquired from other parties that obtained the original leasehold interest prior to our acquisition of the leasehold interest.
In general, our lease agreements stipulate three-to-five year terms. Bonuses and royalty rates are negotiated on a case-by-case basis consistent with industry standard pricing. Once a well is drilled and production established, the leased acreage in the applicable spacing unit is considered developed acreage and is held by production. Other locations within the drilling unit created for a well may also be drilled at any time with no time limit as long as the lease is held by production. Given the current pace of drilling in the areas of our operations, we do not believe lease expiration issues will materially affect our acreage position.
Governmental Regulation and Environmental Matters
Our operations are subject to various rules, regulations and limitations impacting the oil and natural gas exploration and production industry as whole.
Regulation of Oil and Natural Gas Production
Our oil and natural gas exploration, production and related operations are subject to extensive rules and regulations promulgated by federal, state, tribal and local authorities and agencies. For example, North Dakota and Montana require permits for drilling operations, drilling bonds and reports concerning operations and impose other requirements relating to the exploration and production of oil and natural gas. Such states may also have statutes or regulations addressing conservation matters, including provisions for the unitization or pooling of oil and natural gas properties, the location of wells, the method of drilling and casing wells, the surface use and restoration of properties upon which wells are drilled, the sourcing and disposal of water used in the process of drilling, completion and abandonment, the establishment of maximum rates of production from wells, and the regulation of spacing, plugging and abandonment of such wells. Moreover, the current administration has indicated that it expects to impose additional federal regulations limiting access to and production from federal lands. The effect of these regulations is to limit the amount of oil and natural gas that we can produce from our wells and to limit the number of wells or the locations at which we can drill. Moreover, many states impose a production or severance tax with respect to the production and sale of oil, natural gas and natural gas liquids within their jurisdictions. Failure to comply with any such rules and regulations can result in substantial penalties. The regulatory burden on the oil and natural gas industry will most likely increase our cost of doing business and may affect our profitability. Because such rules and regulations are frequently amended or reinterpreted, we are unable to predict the future cost or impact of complying with such laws. Significant expenditures may be required to comply with governmental laws and regulations and may have a material adverse effect on our financial condition and results of operations. Additionally, currently unforeseen environmental incidents may occur or past non-compliance with environmental laws or regulations may be discovered. Therefore, we are unable to predict the future costs or impact of compliance. Additional proposals and proceedings that affect the oil and natural gas industry are regularly considered by Congress, the states, the Federal Energy Regulatory Commission (“FERC”) and the courts. We cannot predict when or whether any such proposals may become effective.
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Regulation of Transportation of Oil
Sales of crude oil, condensate and natural gas liquids are not currently regulated and are made at negotiated prices. Nevertheless, Congress could reenact price controls in the future. Our sales of crude oil are affected by the availability, terms and cost of transportation. The transportation of oil by common carrier pipelines is also subject to rate and access regulation. The FERC regulates interstate oil pipeline transportation rates under the Interstate Commerce Act. In general, interstate oil pipeline rates must be cost-based, although settlement rates agreed to by all shippers are permitted and market-based rates may be permitted in certain circumstances. Effective January 1, 1995, the FERC implemented regulations establishing an indexing system (based on inflation) for transportation rates for oil pipelines that allows a pipeline to increase its rates annually up to a prescribed ceiling, without making a cost of service filing. Every five years, the FERC reviews the appropriateness of the index level in relation to changes in industry costs. On January 20, 2022, the FERC established a new price index for the five-year period which commenced on July 1, 2021.
Intrastate oil pipeline transportation rates are subject to regulation by state regulatory commissions. The basis for intrastate oil pipeline regulation, and the degree of regulatory oversight and scrutiny given to intrastate oil pipeline rates varies from state to state. Insofar as effective interstate and intrastate rates are equally applicable to all comparable shippers, we believe that the regulation of oil transportation rates will not affect our operations in any way that is of material difference from those of our competitors who are similarly situated.
Further, interstate and intrastate common carrier oil pipelines must provide service on a non-discriminatory basis. Under this open access standard, common carriers must offer service to all similarly situated shippers requesting service on the same terms and under the same rates. When oil pipelines operate at full capacity, access is generally governed by pro-rationing provisions set forth in the pipelines’ published tariffs. Accordingly, we believe that access to oil pipeline transportation services generally will be available to us to the same extent as to our similarly situated competitors.
Regulation of Transportation and Sales of Natural Gas
Historically, the transportation and sale for resale of natural gas in interstate commerce has been regulated by the FERC under the Natural Gas Act of 1938 (“NGA”), the Natural Gas Policy Act of 1978 (“NGPA”) and regulations issued under those statutes. In the past, the federal government has regulated the prices at which natural gas could be sold. While sales by producers of natural gas can currently be made at market prices, Congress could reenact price controls in the future.
Onshore gathering services, which occur upstream of FERC jurisdictional transmission services, are regulated by the states. Although the FERC has set forth a general test for determining whether facilities perform a non-jurisdictional gathering function or a jurisdictional transmission function, the FERC’s determinations as to the classification of facilities is done on a case-by-case basis. State regulation of natural gas gathering facilities generally includes various safety, environmental and, in some circumstances, nondiscriminatory take requirements. Although such regulation has not generally been affirmatively applied by state agencies, natural gas gathering may receive greater regulatory scrutiny in the future.
Intrastate natural gas transportation and facilities are also subject to regulation by state regulatory agencies, and certain transportation services provided by intrastate pipelines are also regulated by FERC. The basis for intrastate regulation of natural gas transportation and the degree of regulatory oversight and scrutiny given to intrastate natural gas pipeline rates and services varies from state to state. Insofar as such regulation within a particular state will generally affect all intrastate natural gas shippers within the state on a comparable basis, we believe that the regulation of similarly situated intrastate natural gas transportation in any states in which we operate and ship natural gas on an intrastate basis will not affect our operations in any way that is of material difference from those of our competitors. Like the regulation of interstate transportation rates, the regulation of intrastate transportation rates affects the marketing of natural gas that we produce, as well as the revenues we receive for sales of our natural gas.
Environmental Matters
Our operations and properties are subject to extensive and changing federal, state and local laws and regulations relating to environmental protection, including the generation, storage, handling, emission, transportation and discharge of materials into the environment, and relating to safety and health. The recent trend in environmental legislation and regulation generally is toward stricter standards, and this trend will likely continue. These laws and regulations may:
•require the acquisition of a permit or other authorization before construction or drilling commences and for certain other activities;
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•limit or prohibit construction, drilling and other activities on certain lands lying within wilderness and other protected areas; and
•impose substantial liabilities for pollution resulting from our operations.
The permits required for our operations may be subject to revocation, modification and renewal by issuing authorities. Governmental authorities have the power to enforce their regulations, and violations are subject to fines or injunctions, or both. In the opinion of management, we are in substantial compliance with current applicable environmental laws and regulations, and have no material commitments for capital expenditures to comply with existing environmental requirements. Nevertheless, changes in existing environmental laws and regulations or in interpretations thereof could have a significant impact on our company, as well as the oil and natural gas industry in general.
The Comprehensive Environmental, Response, Compensation, and Liability Act (“CERCLA”) and comparable state statutes impose strict, joint and several liability on owners and operators of sites and on persons who disposed of or arranged for the disposal of “hazardous substances” found at such sites. It is not uncommon for the neighboring landowners and other third parties to file claims for personal injury and property damage allegedly caused by the hazardous substances released into the environment. The Federal Resource Conservation and Recovery Act (“RCRA”) and comparable state statutes govern the disposal of “solid waste” and “hazardous waste” and authorize the imposition of substantial fines and penalties for noncompliance. Although CERCLA currently excludes petroleum from its definition of “hazardous substance,” state laws affecting our operations may impose clean-up liability relating to petroleum and petroleum related products. In addition, although RCRA classifies certain oil field wastes as “non-hazardous,” such exploration and production wastes could be reclassified as hazardous wastes thereby making such wastes subject to more stringent handling and disposal requirements. Recent regulation and litigation that has been brought against others in the industry under RCRA concern liability for earthquakes that were allegedly caused by injection of oil field wastes.
The Endangered Species Act (“ESA”) seeks to ensure that activities do not jeopardize endangered or threatened animal, fish and plant species, nor destroy or modify the critical habitat of such species. Under ESA, exploration and production operations, as well as actions by federal agencies, may not significantly impair or jeopardize the species or its habitat. ESA provides for criminal penalties for willful violations of ESA. Other statutes that provide protection to animal and plant species and that may apply to our operations include, but are not necessarily limited to, the Fish and Wildlife Coordination Act, the Fishery Conservation and Management Act, the Migratory Bird Treaty Act and the National Historic Preservation Act. Although we believe that our operations are in substantial compliance with such statutes, any change in these statutes or any reclassification of a species as endangered could subject our company (directly or indirectly through our operating partners) to significant expenses to modify our operations or could force discontinuation of certain operations altogether.
The Clean Air Act (“CAA”) controls air emissions from oil and natural gas production and natural gas processing operations, among other sources. CAA regulations include New Source Performance Standards (“NSPS”) for the oil and natural gas source category to address emissions of sulfur dioxide and volatile organic compounds (“VOCs”) and a separate set of emission standards to address hazardous air pollutants frequently associated with oil and natural gas production and processing activities.
On November 2, 2021, the Environmental Protection Agency (“EPA”) proposed to revise and add to the NSPS program rules. These rules, if adopted, could have a significant impact on the upstream and midstream oil and gas sectors. The proposed rule would formally reinstate methane emission limitations for existing and modified facilities in the oil and gas sector. Methane is a greenhouse gas. The proposed rules also would regulate, for the first time under the NSPS program, existing oil and gas facilities. Specifically, EPA’s proposed new rule would require states to implement plans that meet or exceed emission federally established emission reduction guidelines for oil and natural gas facilities. Additionally, various states and groups of states have adopted or are considering adopting legislation, regulations or other regulatory initiatives that are focused on such areas as greenhouse gas cap and trade programs, carbon taxes, reporting and tracking programs, and restriction of emissions. At the international level, there exists the United Nations-sponsored Paris Agreement, which is a non-binding agreement for nations to limit their greenhouse gas emissions through individually-determined reduction goals every five years after 2020. While the United States withdrew from the Paris Agreement effective November 4, 2020, President Biden recommitted the United States to the Paris Agreement on January 20, 2021.
These regulations and proposals and any other new regulations requiring the installation of more sophisticated pollution control equipment could have a material adverse impact on our business, results of operations and financial condition.
The Federal Water Pollution Control Act of 1972, or the Clean Water Act (the “CWA”), imposes restrictions and controls on the discharge of produced waters and other pollutants into waters of the United States (“WOTUS”). Permits must be obtained to discharge pollutants into state and federal waters and to conduct construction activities in waters and wetlands.
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The CWA and certain state regulations prohibit the discharge of produced water, sand, drilling fluids, drill cuttings, sediment and certain other substances related to the oil and gas industry into certain coastal and offshore waters without an individual or general National Pollutant Discharge Elimination System discharge permit. In addition, the CWA and analogous state laws require individual permits or coverage under general permits for discharges of storm water runoff from certain types of facilities. CWA jurisdiction depends on the definition of WOTUS. On December 7, 2021, EPA and the Corps of Engineers proposed a rule to revise the definition of WOTUS, that would potentially expand CWA jurisdiction to include more features in areas where oil and gas operations are conducted. Some states also maintain groundwater protection programs that require permits for discharges or operations that may impact groundwater conditions. In 2021, the United States Supreme Court held that the CWA requires a discharge permit if the addition of pollutants through groundwater is the functional equivalent of a direct discharge from the point source into navigable waters. Costs may be associated with the treatment of wastewater and/or developing and implementing storm water pollution prevention plans.
The CAA, CWA and comparable state statutes provide for civil, criminal and administrative penalties for unauthorized discharges of oil and other pollutants and impose liability on parties responsible for those discharges, for the costs of cleaning up any environmental damage caused by the release and for natural resource damages resulting from the release.
The underground injection of oil and natural gas wastes are regulated by the Underground Injection Control program authorized by the Safe Drinking Water Act. The primary objective of injection well operating requirements is to ensure the mechanical integrity of the injection apparatus and to prevent migration of fluids from the injection zone into underground sources of drinking water. Substantially all of the oil and natural gas production in which we have interest is developed from unconventional sources that require hydraulic fracturing as part of the completion process. Hydraulic fracturing involves the injection of water, sand and chemicals under pressure into the formation to stimulate gas production. Legislation to amend the Safe Drinking Water Act to repeal the exemption for hydraulic fracturing from the definition of “underground injection” and require federal permitting and regulatory control of hydraulic fracturing, as well as legislative proposals to require disclosure of the chemical constituents of the fluids used in the fracturing process, were proposed in recent sessions of Congress. The U.S. Congress continues to consider legislation to amend the Safe Drinking Water Act to address hydraulic fracturing operations.
Scrutiny of hydraulic fracturing activities continues in other ways. The federal government is currently undertaking several studies of hydraulic fracturing’s potential impacts. Several states, including Montana and North Dakota where our properties are located, have also proposed or adopted legislative or regulatory restrictions on hydraulic fracturing. A number of municipalities in other states, including Colorado and Texas, have enacted bans on hydraulic fracturing. New York State’s ban on hydraulic fracturing was recently upheld by the Courts. In Colorado, the Colorado Supreme Court has ruled the municipal bans were preempted by state law. However, the Colorado legislature subsequently enacted “SB 101” that gave significant local control over oil and gas well head operations. Municipalities in Colorado have enacted local rules restricting oil and gas operations based on SB 101. We cannot predict whether any other legislation will ever be enacted and if so, what its provisions would be. If additional levels of regulation and permits were required through the adoption of new laws and regulations at the federal or state level, it could lead to delays, increased operating costs and process prohibitions that would materially adversely affect our revenue and results of operations.
The National Environmental Policy Act (“NEPA”) establishes a national environmental policy and goals for the protection, maintenance and enhancement of the environment and provides a process for implementing these goals within federal agencies. A major federal agency action having the potential to significantly impact the environment requires review under NEPA. Many of the activities of our third-party operating partners are covered under NEPA. Some activities are subject to robust NEPA review which could lead to delays and increased costs that could materially adversely affect our revenues and results of operations. Other activities are covered under categorical exclusions which results in a shorter NEPA review process. In 2021, the Biden Administration proposed a rule to undue changes to NEPA enacted under the Trump Administration that had streamlined NEPA review. The proposed changes would emphasize the need to review federal actions for climate change and environmental justice impacts, among other factors. These proposed changes, if enacted, would affect the assessment of projects ranging from oil and gas leasing to development on public and Indian lands.
Climate Change
Significant studies and research have been devoted to climate change, and climate change has developed into a major political issue in the United States and globally. Certain research suggests that greenhouse gas emissions contribute to climate change and pose a threat to the environment. Recent scientific research and political debate has focused in part on carbon dioxide and methane incidental to oil and natural gas exploration and production.
In the United States, no comprehensive federal climate change legislation has been implemented to date but the current administration has indicated willingness to pursue new climate change legislation, executive actions or other regulatory
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initiatives to limit greenhouse gas (“GHG”) emissions. These include rejoining the Paris Agreement treaty on climate change, several executive orders to address climate change, the U.S. Methane Emissions Reduction Action Plan, and a commitment to cut greenhouse gas emissions 50-52 percent of 2005 levels by 2030. Further, legislative and regulatory initiatives are underway to that purpose. The U.S. Congress has considered legislation that would control GHG emissions through a “cap and trade” program and several states have already implemented programs to reduce GHG emissions. The U.S. Supreme Court determined that GHG emissions fall within the CAA definition of an “air pollutant.” Recent litigation has held that if a source was subject to Prevention of Significant Deterioration (“PSD”) or Title V based on emissions of conventional pollutants like sulfur dioxide, particulates, nitrogen dioxide, carbon monoxide, ozone or lead, then the EPA could also require the source to control GHG emissions and the source would have to install Best Available Control Technology to do so. As a result, a source may still have to control GHG emissions if it is an otherwise regulated source.
In 2014, Colorado was the first state in the nation to adopt rules to control methane emissions from oil and gas facilities. In 2016, the EPA revised and expanded NSPS to include final rules to curb emissions of methane, a greenhouse gas, from new, reconstructed and modified oil and gas sources. Previously, already existing NSPS regulated VOCs, and controlling VOCs also had the effect of controlling methane, because natural gas leaks emit both compounds. However, by explicitly regulating methane as a separate air pollutant, the 2016 regulations were a statutory predicate to propose regulating emissions from existing oil and gas facilities. In September 2020, EPA made technical and policy changes to the methane rules that limited the scope of the rules. In 2021, President Biden issued Executive Order 13990, Protecting Public Health and the Environment and Restoring Science to Tackle the Climate Crisis. In furtherance of this EO, EPA on November 2, 2021 proposed rules to regulate methane emissions from the oil and natural gas industry, including, for the first time, reductions from certain upstream and midstream existing oil and gas sources. These regulations also expanded controls to reduce methane emissions, such as enhancement of leak detection and repair provisions. The Pipeline and Hazardous Materials Safety Administration (“PHMSA”) and the Department of Interior continue to focus on regulatory initiatives to control methane emissions from upstream and midstream equipment. To the extent that these regulations or initiatives remain in place and to the extent that our third-party operating partners are required to further control methane emissions, such controls could impact our business.
In addition, our third-party operating partners are required to report their GHG emissions under CAA rules. Because regulation of GHG emissions continues to evolve, further regulatory, legislative and judicial developments are likely to occur. Such developments may affect how these GHG initiatives will impact us. Moreover, while the U.S. Supreme Court held in its 2011 decision American Electric Power Co. v. Connecticut that, with respect to claims concerning GHG emissions, the federal common law of nuisance was displaced by the CAA, the Court left open the question of whether tort claims against sources of GHG emissions alleging property damage may proceed under state common law. There thus remains some litigation risk for such claims. Due to the uncertainties surrounding the regulation of and other risks associated with GHG emissions, we cannot predict the financial impact of related developments on us.
Legislation or regulations that may be adopted to address climate change could also affect the markets for our products by making our products more or less desirable than competing sources of energy. To the extent that our products are competing with higher GHG emitting energy sources, our products would become more desirable in the market with more stringent limitations on GHG emissions. To the extent that our products are competing with lower GHG emitting energy sources such as solar and wind, our products would become less desirable in the market with more stringent limitations on GHG emissions. We cannot predict with any certainty at this time how these possibilities may affect our operations.
The majority of scientific studies on climate change suggest that extreme weather conditions and other risks may occur in the future in the areas where we operate, although the scientific studies are not unanimous. Although operators may take steps to mitigate any such risks, no assurance can be given that they will not have a material adverse effect on our business.
Human Capital Resources
As of December 31, 2021, we had 25 full time employees. We may hire additional personnel as appropriate. We also may use the services of independent consultants and contractors to perform various professional services.
Office Locations
In November 2021, we relocated our executive offices to 4350 Baker Road, Suite 400, Minnetonka, Minnesota 55343. Our office space consists of 15,751 square feet of leased space. We believe our current office space is sufficient to meet our needs and that additional office space can be obtained if necessary.
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Organizational Background
On May 9, 2018, we filed articles of conversion with the Secretary of State of the State of Minnesota and filed a certificate of conversion with the Secretary of State of the State of Delaware changing our jurisdiction of incorporation from Minnesota to Delaware (the “Reincorporation”). The Reincorporation was approved by our stockholders at a special meeting held on May 8, 2018. Upon the Reincorporation, each outstanding certificate representing shares of the Minnesota corporation’s common stock was deemed, without any action by the holders thereof, to represent the same number and class of shares of our company’s common stock. As of May 9, 2018, the rights of our stockholders began to be governed by Delaware General Corporation Law and our Delaware certificate of incorporation and bylaws.
Available Information – Reports to Security Holders
Our website address is www.northernoil.com. We make available on this website, free of charge, our annual reports on Form 10-K, quarterly reports on Form 10-Q, current reports on Form 8-K, proxy statements and amendments to those reports as soon as reasonably practicable after we electronically file those materials with, or furnish those materials to, the SEC. Electronic filings with the SEC are also available on the SEC internet website at www.sec.gov.
We have also posted to our website our Audit Committee Charter, Compensation Committee Charter, Nominating Committee Charter, Corporate Governance Guidelines and Code of Business Conduct and Ethics, in addition to all pertinent company contact information.
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Item 1A. Risk Factors
In addition to the other information contained in this Annual Report on Form 10-K, the following risk factors should be considered in evaluating our business and future prospects. Note that additional risks not presently known to us or that are currently considered immaterial may also have a negative impact on our business and operations. If any of the events or circumstances described below actually occurs, our business, financial condition or results of operations could suffer and the trading price of our common stock could decline.
Summary of Risk Factors
We believe that the risks associated with our business, and consequently the risks associated with an investment in our equity or debt securities, fall within the following categories:
•Risks Related to Our Business and the Oil, Natural Gas and NGL Industry
◦As a producer of oil and natural gas, there are many risks inherent in our primary business operations. These risks are not necessarily unique to us. Rather, these are risks that most participants in our industry have at least some exposure to, and relate to matters such as: drilling and completion operations; reserves estimates; gathering, processing, marketing and transportation; weather and seasonality; hedging and commodity price derivatives; and information technology and cybersecurity.
◦Given that our primary source of revenue is the sale of oil, natural gas and NGLs, one of our most material risks is the commodity market and the prices of oil, natural gas and NGLs, which are often volatile.
◦The COVID-19 pandemic had a severe negative impact on worldwide economic activity in general, and on our industry specifically, and future effects remains uncertain.
◦As a non-operator, we have only participated in wells operated by third parties, and thus rely extensively on third parties for the success of our business.
◦Our acquisition strategy subjects us to risks relating to evaluation, integration and growth in connection with past and potential future acquisitions.
•Risks Related to Our Financing and Indebtedness
◦Our operations are capital intensive. Pressures on the market as a whole, or our specific financial position – whether due to depressed commodity prices, our leverage, our credit ratings or otherwise – could make it difficult for us to obtain the funding necessary to conduct our operations.
◦Our existing and future debt obligations carry risks related to liquidity, operating and financial restrictions, debt service obligations, and related matters.
•Risks Related to Legal, Regulatory and Environmental Matters
◦There are many environmental, energy, financial, real property and other regulations that we are required to comply with in the context of conducting our operations, otherwise, we may be exposed to fines, penalties, investigations, litigation or other legal proceedings.
◦Negative public perception of the oil and natural gas industry, future climate change legislation or regulation, or increasing consumer demand for alternatives to oil and natural gas, could adversely impact our earnings, cash flows and financial position.
•Risks Related to Our Common Stock
◦Our capital structure, as well as our certificate of incorporation, bylaws, and Delaware state law, subject our shareholders to risk of ownership dilution, loss of market value, and other risks.
◦Any payment of future dividends will be at the discretion of our board of directors and will depend on, among other things, our earnings, financial condition, capital requirements, level of indebtedness, statutory and contractual restrictions applying to the payment of dividends and other considerations. Investors may be forced to rely on sales of their common stock after price appreciation, which may never occur, as the only way to realize a return on their investment.
We describe these and other risks in much greater detail below.
Risks Related to Our Business and the Oil, Natural Gas and NGL Industry
The COVID-19 pandemic has had, and may continue to have, a material adverse effect on our financial condition and results of operations.
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We face risks related to public health crises, including the COVID-19 pandemic. The effects of the COVID-19 pandemic, including travel bans, prohibitions on group events and gatherings, shutdowns of certain businesses, curfews, shelter-in-place orders and recommendations to practice social distancing in addition to other actions taken by both businesses and governments, resulted in a significant and swift reduction in international and U.S. economic activity. The collapse in the demand for oil caused by this unprecedented global health and economic crisis contributed to the significant decrease in crude oil prices in 2020 and had and could in the future continue to have a material adverse impact on our financial condition and results of operations.
Since the beginning of 2021, the distribution of COVID-19 vaccines progressed and many government-imposed restrictions were relaxed or rescinded. However, we continue to monitor the effects of the pandemic on our operations. As a result of the ongoing COVID-19 pandemic, our operations, and those of our operating partners, have and may continue to experience delays or disruptions and temporary suspensions of operations. In addition, our results of operations and financial condition have been and may continue to be adversely affected by the ongoing COVID-19 pandemic.
The extent to which our operating and financial results are affected by COVID-19 will depend on various factors and consequences beyond our control, such as the emergence of more contagious and harmful variants of the COVID-19 virus, the duration and scope of the pandemic, additional actions by businesses and governments in response to the pandemic, and the speed and effectiveness of responses to combat the virus. COVID-19, and the volatile regional and global economic conditions stemming from the pandemic, could also aggravate the other risk factors that we identify herein. While the effects of the COVID-19 pandemic have lessened recently in the United States, we cannot predict the duration or future effects of the pandemic, or more contagious and harmful variants of the COVID-19 virus, and such effects may materially adversely affect our results of operations and financial condition in a manner that is not currently known to us or that we do not currently consider to present significant risks to our operations.
Oil and natural gas prices are volatile. Extended declines in oil and natural gas prices have adversely affected, and could in the future adversely affect, our business, financial position, results of operations and cash flow.
The oil and natural gas markets are very volatile, and we cannot predict future oil and natural gas prices. Oil and natural gas prices have fluctuated significantly, including periods of rapid and material decline, in recent years. The prices we receive for our oil and natural gas production heavily influence our production, revenue, cash flows, profitability, reserve bookings and access to capital. Although we seek to mitigate volatility and potential declines in commodity prices through derivative arrangements that hedge a portion of our expected production, this merely seeks to mitigate (not eliminate) these risks, and such activities come with their own risks.
The prices we receive for our production and the levels of our production depend on numerous factors beyond our control. These factors include, but are not limited to, the following:
•changes in global supply and demand for oil and natural gas;
•the actions of OPEC and other major oil producing countries;
•worldwide and regional economic, political and social conditions impacting the global supply and demand for oil and natural gas, which may be driven by various risks including war, terrorism, political unrest, or health epidemics (such as the global COVID-19 coronavirus outbreak);
•the price and quantity of imports of foreign oil and natural gas;
•political and economic conditions, including embargoes, in oil-producing countries or affecting other oil-producing activity;
•the outbreak of military hostilities, including escalating tensions between Russia and Ukraine and the potential destabilizing effect such conflict may pose for the European continent or the global oil and natural gas markets;
•the level of global oil and natural gas exploration, production activity and inventories;
•changes in U.S. energy policy;
•weather conditions and outbreak of disease;
•technological advances affecting energy consumption;
•domestic and foreign governmental taxes, tariffs and/or regulations;
•proximity and capacity of oil and natural gas pipelines and other transportation facilities;
•the price and availability of competitors’ supplies of oil and natural gas in captive market areas; and
•the price and availability of alternative fuels.
These factors and the volatility of the energy markets make it extremely difficult to predict oil and natural gas prices. A substantial or extended decline in oil or natural gas prices, such as the significant and rapid decline that occurred in 2020, has resulted in and could result in future impairments of our proved oil and natural gas properties and may materially and adversely
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affect our future business, financial condition, results of operations, liquidity or ability to finance planned capital expenditures. To the extent commodity prices received from production are insufficient to fund planned capital expenditures, we may be required to reduce spending or borrow or issue additional equity to cover any such shortfall. Lower oil and natural gas prices may limit our ability to comply with the covenants under our Revolving Credit Facility (or other debt instruments) and/or limit our ability to access borrowing availability thereunder, which is dependent on many factors including the value of our proved reserves.
Drilling for and producing oil, natural gas and NGLs are high risk activities with many uncertainties that could adversely affect our financial condition or results of operations.
Our operators’ drilling activities are subject to many risks, including the risk that they will not discover commercially productive reservoirs. Drilling for oil or natural gas can be uneconomical, not only from dry holes, but also from productive wells that do not produce sufficient revenues to be commercially viable. In addition, drilling and producing operations on our acreage may be curtailed, delayed or canceled by our operators as a result of other factors, including:
•declines in oil or natural gas prices, as occurred in 2020 in connection with the COVID-19 pandemic;
•infrastructure limitations, such as the gas gathering and processing constraints experienced in the Williston Basin in 2019;
•the high cost, shortages or delays of equipment, materials and services;
•unexpected operational events, pipeline ruptures or spills, adverse weather conditions, facility malfunctions or title problems;
•compliance with environmental and other governmental requirements;
•regulations, restrictions, moratoria and bans on hydraulic fracturing;
•unusual or unexpected geological formations;
•environmental hazards, such as oil, natural gas or well fluids spills or releases, pipeline or tank ruptures and discharges of toxic gas;
•fires, blowouts, craterings and explosions;
•uncontrollable flows of oil, natural gas or well fluids; and
•pipeline capacity curtailments.
In addition to causing curtailments, delays and cancellations of drilling and producing operations, many of these events can cause substantial losses, including personal injury or loss of life, damage to or destruction of property, natural resources and equipment, pollution, environmental contamination, loss of wells and regulatory penalties. We ordinarily maintain insurance against various losses and liabilities arising from our operations; however, insurance against all operational risks is not available to us. Additionally, we may elect not to obtain insurance if we believe that the cost of available insurance is excessive relative to the perceived risks presented. Losses could therefore occur for uninsurable or uninsured risks or in amounts in excess of existing insurance coverage. The occurrence of an event that is not fully covered by insurance could have a material adverse impact on our business activities, financial condition and results of operations.
Due to previous declines in oil and natural gas prices, we have in the past taken significant writedowns of our oil and natural gas properties. We may be required to record further writedowns of our oil and natural gas properties in the future.
In 2020, we were required to write down the carrying value of certain of our oil and natural gas properties, and further writedowns could be required in the future. Under the full cost method of accounting, capitalized oil and gas property costs less accumulated depletion and net of deferred income taxes may not exceed an amount equal to the present value, discounted at 10%, of estimated future net revenues from proved oil and gas reserves plus the cost of unproved properties not subject to amortization (without regard to estimates of fair value), or estimated fair value, if lower, of unproved properties that are subject to amortization. Should capitalized costs exceed this ceiling, an impairment would be recognized. Depending on future commodity price levels, the trailing twelve-month average price used in the ceiling calculation may decline, which could cause additional future write downs of our oil and natural gas properties. In addition to commodity prices, our production rates, levels of proved reserves, future development costs, transfers of unevaluated properties and other factors will determine our actual ceiling test calculation and impairment analysis in future periods.
Our estimated reserves are based on many assumptions that may prove to be inaccurate. Any material inaccuracies in these reserve estimates or underlying assumptions will materially affect the quantities and present value of our reserves.
Determining the amount of oil and natural gas recoverable from various formations involves significant complexity and uncertainty. No one can measure underground accumulations of oil or natural gas in an exact way. Oil and natural gas reserve engineering requires subjective estimates of underground accumulations of oil and/or natural gas and assumptions concerning future oil and natural gas prices, production levels, and operating, exploration and development costs. Some of our
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reserve estimates are made without the benefit of a lengthy production history and are less reliable than estimates based on a lengthy production history. As a result, estimated quantities of proved reserves and projections of future production rates and the timing of development expenditures may prove to be inaccurate.
We routinely make estimates of oil and natural gas reserves in connection with managing our business and preparing reports to our lenders and investors, including in some cases estimates prepared by our internal reserve engineers and professionals that are not reviewed or audited by an independent reserve engineering firm. We make these reserve estimates using various assumptions, including assumptions as to oil and natural gas prices, development schedules, drilling and operating expenses, capital expenditures, taxes and availability of funds. Some of these assumptions are inherently subjective, and the accuracy of our reserve estimates relies in part on the ability of our management team, reserve engineers and other advisors to make accurate assumptions. Any significant variance from these assumptions by actual figures could greatly affect our estimates of reserves, the economically recoverable quantities of oil, natural gas and NGLs attributable to any particular group of properties, the classifications of reserves based on risk of recovery, and estimates of the future net cash flows. Numerous changes over time to the assumptions on which our reserve estimates are based result in the actual quantities of oil, natural gas and NGLs we ultimately recover being different from our reserve estimates. Any significant variance could materially affect the estimated quantities and present value of reserves shown in this Annual Report on Form 10-K, subsequent reports we file with the SEC or other company materials.
Our future success depends on our ability to replace reserves that our operators produce.
Because the rate of production from oil and natural gas properties generally declines as reserves are depleted, our future success depends upon our ability to economically find or acquire and produce additional oil and natural gas reserves. Except to the extent that we acquire additional properties containing proved reserves, conduct successful exploration and development activities or, through engineering studies, identify additional behind-pipe zones or secondary recovery reserves, our proved reserves will decline as our reserves are produced. We have added significant net wells and production from wellbore-only acquisitions, where we don’t hold the underlying leasehold interest that would entitle us to participate in future wells. Future oil and natural gas production, therefore, is highly dependent upon our level of success in acquiring or finding additional reserves that are economically recoverable. We cannot assure you that we will be able to find or acquire and develop additional reserves at an acceptable cost.
We may acquire significant amounts of unproved property to further our development efforts. Development and exploratory drilling and production activities are subject to many risks, including the risk that no commercially productive reservoirs will be discovered. We seek to acquire both proved and producing properties as well as undeveloped acreage that we believe will enhance growth potential and increase our earnings over time. However, we cannot assure you that all of these properties will contain economically viable reserves or that we will not abandon our initial investments. Additionally, we cannot assure you that unproved reserves or undeveloped acreage that we acquire will be profitably developed, that new wells drilled on our properties will be productive or that we will recover all or any portion of our investments in our properties and reserves.
The present value of future net cash flows from our proved reserves is not necessarily the same as the current market value of our estimated proved reserves.
We base the estimated discounted future net cash flows from our proved reserves using specified pricing and cost assumptions. However, actual future net cash flows from our oil and natural gas properties will be affected by factors such as the volume, pricing and duration of our oil and natural gas hedging contracts; actual prices we receive for oil, natural gas and NGLs; our actual operating costs in producing oil, natural gas and NGLs; the amount and timing of our capital expenditures; the amount and timing of actual production; and changes in governmental regulations or taxation. In addition, the 10% discount factor we use when calculating discounted future net cash flows may not be the most appropriate discount factor based on interest rates in effect from time to time and risks associated with us or the oil and natural gas industry in general. Any material inaccuracies in these reserve estimates or underlying assumptions will materially affect the quantities and present value of our reserves, which could adversely affect our business, results of operations and financial condition.
Our business depends on third-party transportation and processing facilities and other assets that are owned by third parties.
The marketability of our oil and natural gas depends in part on the availability, proximity and capacity of pipeline systems, processing facilities, oil trucking fleets and rail transportation assets owned by third parties. The lack of available capacity on these systems and facilities, whether as a result of proration, growth in demand outpacing growth in capacity, physical damage, scheduled maintenance, legal or other reasons such as suspension of service due to legal challenges (see below regarding the Dakota Access Pipeline), could result in a substantial increase in costs, declines in realized commodity
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prices, the shut-in of producing wells or the delay or discontinuance of development plans for our properties. In recent periods, we experienced significant delays and production curtailments, and declines in realized natural gas prices, that we believe were due in part to gas gathering and processing constraints in the Williston Basin. The negative effects arising from these and similar circumstances may last for an extended period of time. In many cases, operators are provided only with limited, if any, notice as to when these circumstances will arise and their duration. In addition, our wells may be drilled in locations that are serviced to a limited extent, if at all, by gathering and transportation pipelines, which may or may not have sufficient capacity to transport production from all of the wells in the area. As a result, we rely on third-party oil trucking to transport a significant portion of our production to third-party transportation pipelines, rail loading facilities and other market access points. In addition, concerns about the safety and security of oil and gas transportation by pipeline may result in public opposition to pipeline development and increased regulation of pipelines by PHMSA, and therefore less capacity to transport our products by pipeline.
The Dakota Access Pipeline (“DAPL”), a major pipeline transporting crude oil from the Williston Basin, is subject to ongoing litigation (the “DAPL Litigation”) that could threaten its continued operation. In July 2020, a federal district court ordered DAPL to be shut down pending the completion of an environmental impact statement (“EIS”) to determine whether the DAPL poses a threat to the Missouri River and drinking water supply of the Standing Rock Sioux Reservation. DAPL currently remains in operation while the U.S. Army Corps of Engineers (“USACE”) conducts the review, which is currently anticipated to be completed in the fall of 2022. In addition, on September 20, 2021, the owner of DAPL filed a petition with the U.S. Supreme Court seeking review of the lower courts’ decisions requiring a new EIS and permit. The U.S. Supreme Court has not yet decided whether to accept the case for review. Following completion of the EIS, the USACE will determine whether to grant DAPL an easement to cross the Missouri River or to shut down the pipeline, unless the U.S. Supreme Court overturns the lower courts’ order to conduct the EIS. Moreover, the EIS and/or the USACE’s easement decision may subsequently be challenged in court. As a result, a shut-down remains possible, and there is no guarantee that DAPL will be permitted to continue operations following the completion of the EIS and/or the DAPL Litigation. Any significant curtailment in gathering system or pipeline capacity, or the unavailability of sufficient third-party trucking or rail capacity, could adversely affect our business, results of operations and financial condition.
Certain of our undeveloped leasehold acreage is subject to leases that will expire over the next several years unless production is established or operations are commenced on units containing the acreage or the leases are extended.
A significant portion of our acreage is not currently held by production or held by operations. Unless production in paying quantities is established or operations are commenced on units containing these leases during their terms, the leases will expire. If our leases expire and we are unable to renew the leases, we will lose our right to participate in the development of the related properties. Drilling plans for these areas are generally in the discretion of third-party operators and are subject to change based on various factors that are beyond our control, such as: the availability and cost of capital, equipment, services and personnel; seasonal conditions; regulatory and third-party approvals; oil, NGL and natural gas prices; results of title work; gathering system and other transportation constraints; drilling costs and results; and production costs. As of December 31, 2021, we estimate that we had leases that were not developed that represented 7,421 net acres potentially expiring in 2022, 5,746 net acres potentially expiring in 2023, 6,614 net acres potentially expiring in 2024, 4,555 net acres potentially expiring in 2025, and 4,437 net acres potentially expiring in 2026 and beyond.
Seasonal weather conditions adversely affect operators’ ability to conduct drilling activities in some of the areas where our properties are located.
Seasonal weather conditions can limit drilling and producing activities and other operations in some of our operating areas and as a result, a significant portion of the drilling on our properties is generally performed during the summer and fall months. These seasonal constraints can pose challenges for meeting well drilling objectives and increase competition for equipment, supplies and personnel during the summer and fall months, which could lead to shortages and increase costs or delay operations. Additionally, many municipalities impose weight restrictions on the paved roads that lead to jobsites due to the muddy conditions caused by spring thaws. This could limit access to jobsites and operators’ ability to service wells in these areas.
As a non-operator, our development of successful operations relies extensively on third parties, which could have a material adverse effect on our results of operation.
We have only participated in wells operated by third parties. The success of our business operations depends on the timing of drilling activities and success of our third-party operators. If our operators are not successful in the development, exploitation, production and exploration activities relating to our leasehold interests, or are unable or unwilling to perform, our financial condition and results of operation would be materially adversely affected.
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These risks are heightened in a low commodity price environment, which may present significant challenges to our operators. The challenges and risks faced by our operators may be similar to or greater than our own, including with respect to their ability to service their debt, remain in compliance with their debt instruments and, if necessary, access additional capital. Commodity prices and/or other conditions have in the past and may in the future cause oil and gas operators to file for bankruptcy. The insolvency of an operator of any of our properties, the failure of an operator of any of our properties to adequately perform operations or an operator’s breach of applicable agreements could reduce our production and revenue and result in our liability to governmental authorities for compliance with environmental, safety and other regulatory requirements, to the operator’s suppliers and vendors and to royalty owners under oil and gas leases jointly owned with the operator or another insolvent owner. Finally, an operator of our properties may have the right, if another non-operator fails to pay its share of costs because of its insolvency or otherwise, to require us to pay our proportionate share of the defaulting party’s share of costs.
Our operators will make decisions in connection with their operations (subject to their contractual and legal obligations to other owners of working interests), which may not be in our best interests. We may have no ability to exercise influence over the operational decisions of our operators, including the setting of capital expenditure budgets and drilling locations and schedules. Dependence on our operators could prevent us from realizing our target returns for those locations. The success and timing of development activities by our operators will depend on a number of factors that will largely be outside of our control, including oil and natural gas prices and other factors generally affecting industry operating environment; the timing and amount of capital expenditures; their expertise and financial resources; approval of other participants in drilling wells; selection of technology; and the rate of production of reserves, if any.
The inability of one or more of our operating partners to meet their obligations to us may adversely affect our financial results.
Our principal exposures to credit risk are through receivables resulting from the sale of our oil and natural gas production, which operating partners market on our behalf to energy marketing companies, refineries and their affiliates. We are subject to credit risk due to the concentration of our oil and natural gas receivables with a limited number of operating partners. This concentration may impact our overall credit risk since these entities may be similarly affected by changes in economic and other conditions. A low commodity price environment may strain our operating partners, which could heighten this risk. The inability or failure of our operating partners to meet their obligations to us or their insolvency or liquidation may adversely affect our financial results.
We could experience periods of higher costs as activity levels fluctuate or if commodity prices rise. These increases could reduce our profitability, cash flow, and ability to complete development activities as planned.
An increase in commodity prices or other factors could result in increased development activity and investment in our areas of operations, which may increase competition for and cost of equipment, labor and supplies. Shortages of, or increasing costs for, experienced drilling crews and equipment, labor or supplies could restrict our operating partners’ ability to conduct desired or expected operations. In addition, capital and operating costs in the oil and natural gas industry have generally risen during periods of increasing commodity prices as producers seek to increase production in order to capitalize on higher commodity prices. In situations where cost inflation exceeds commodity price inflation, our profitability and cash flow, and our operators’ ability to complete development activities as scheduled and on budget, may be negatively impacted. Any delay in the drilling of new wells or significant increase in drilling costs could reduce our revenues and cash flows.
The development of our proved undeveloped reserves may take longer and may require higher levels of capital expenditures than we currently anticipate. Therefore, our undeveloped reserves may not be ultimately developed or produced.
Approximately 41% of our estimated net proved reserves volumes were classified as proved undeveloped as of December 31, 2021. Development of these reserves may take longer and require higher levels of capital expenditures than we currently anticipate. Delays in the development of our reserves or increases in costs to drill and develop such reserves will reduce the PV-10 value of our estimated proved undeveloped reserves and future net revenues estimated for such reserves and may result in some projects becoming uneconomic. In addition, delays in the development of reserves could cause us to have to reclassify our proved reserves as unproved reserves.
Our acquisition strategy will subject us to certain risks associated with the inherent uncertainty in evaluating properties for which we have limited information.
We intend to continue to expand our operations in part through acquisitions. Our decision to acquire a property will depend in part on the evaluation of data obtained from production reports and engineering studies, geophysical and geological
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analyses and seismic and other information, the results of which are often inconclusive and subject to various interpretations. Also, our reviews of acquired properties are inherently incomplete because it generally is not economically feasible to perform an in-depth review of the individual properties involved in each acquisition. Even a detailed review of records and properties may not necessarily reveal existing or potential problems, nor will it permit us to become sufficiently familiar with the properties to assess fully their deficiencies and potential. Inspections are often not performed on properties being acquired, and environmental matters, such as subsurface contamination, are not necessarily observable even when an inspection is undertaken. Any acquisition involves other potential risks, including, among other things:
•the validity of our assumptions about reserves, future production, revenues and costs;
•a decrease in our liquidity by using a significant portion of our cash from operations or borrowing capacity to finance acquisitions;
•a significant increase in our interest expense or financial leverage if we incur additional debt to finance acquisitions;
•the ultimate value of any contingent consideration agreed to be paid in an acquisition;
•dilution to shareholders if we use equity as consideration for, or to finance, acquisitions;
•the assumption of unknown liabilities, losses or costs for which we are not indemnified or for which our indemnity is inadequate;
•an inability to hire, train or retain qualified personnel to manage and operate our growing business and assets; and
•an increase in our costs or a decrease in our revenues associated with any potential royalty owner or landowner claims or disputes, or other litigation encountered in connection with an acquisition.
We may be unable to successfully integrate recently acquired assets or any assets we may acquire in the future into our business or achieve the anticipated benefits of such acquisitions.
Our ability to achieve the anticipated benefits of our recent or any future acquisitions will depend in part upon whether we can integrate the acquired assets into our existing business in an efficient and effective manner. We may not be able to accomplish this integration process successfully. The successful acquisition of producing properties requires an assessment of several factors, including:
•recoverable reserves;
•future oil and natural gas prices and their appropriate differentials;
•availability and cost of transportation of production to markets;
•availability and cost of drilling equipment and of skilled personnel;
•development and operating costs including access to water and potential environmental and other liabilities; and
•regulatory, permitting and similar matters.
The accuracy of these assessments is inherently uncertain. In connection with these assessments, we have performed reviews of the subject properties that we believe to be generally consistent with industry practices. The reviews are based on our analysis of historical production data, assumptions regarding capital expenditures and anticipated production declines without review by an independent petroleum engineering firm. Data used in such reviews are typically furnished by the seller or obtained from publicly available sources. Our review may not reveal all existing or potential problems or permit us to fully assess the deficiencies and potential recoverable reserves for all of the acquired properties, and the reserves and production related to the acquired properties may differ materially after such data is reviewed by an independent petroleum engineering firm or further by us. Inspections will not always be performed on every well, and environmental problems are not necessarily observable even when an inspection is undertaken. Even when problems are identified, the seller may be unwilling or unable to provide effective contractual protection against all or a portion of the underlying deficiencies. We are often not entitled to contractual indemnification for environmental liabilities and acquire properties on an “as is” basis, and, as is the case with certain liabilities associated with the assets acquired in our recent acquisitions, we are entitled to indemnification for only certain environmental liabilities. The integration process may be subject to delays or changed circumstances, and we can give no assurance that our recently acquired assets will perform in accordance with our expectations or that our expectations with respect to integration or cost savings as a result of such acquisitions will materialize.
Our future results will suffer if we do not effectively manage our expanded operations.
As a result of our recent acquisitions, the size and geographic footprint of our business has increased. Our future success will depend, in part, upon our ability to manage this expanded business, which may pose substantial challenges for management, including challenges related to the management and monitoring of new operations and basins and associated increased costs and complexity. We may also face increased scrutiny from governmental authorities as a result of the increase in the size of our business. There can be no assurances that we will be successful or that we will realize the expected benefits currently anticipated from our recent acquisitions.
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The loss of any member of our management team, upon whose knowledge, relationships with industry participants, leadership and technical expertise we rely could diminish our ability to conduct our operations and harm our ability to execute our business plan.
Our success depends heavily upon the continued contributions of those members of our management team whose knowledge, relationships with industry participants, leadership and technical expertise would be difficult to replace. In particular, our ability to successfully acquire additional properties, to increase our reserves, to participate in drilling opportunities and to identify and enter into commercial arrangements depends on developing and maintaining close working relationships with industry participants. In addition, our ability to select and evaluate suitable properties and to consummate transactions in a highly competitive environment is dependent on our management team’s knowledge and expertise in the industry. To continue to develop our business, we rely on our management team’s knowledge and expertise in the industry and will use our management team’s relationships with industry participants to enter into strategic relationships. The members of our management team may terminate their employment with our company at any time. If we were to lose members of our management team, we may not be able to replace the knowledge or relationships that they possess and our ability to execute our business plan could be materially harmed.
Deficiencies of title to our leased interests could significantly affect our financial condition.
We typically do not incur the expense of a title examination prior to acquiring oil and natural gas leases or undivided interests in oil and natural gas leases or other developed rights. If an examination of the title history of a property reveals that an oil or natural gas lease or other developed rights have been purchased in error from a person who is not the owner of the mineral interest desired, our interest would substantially decline in value or be eliminated. In such cases, the amount paid for such oil or natural gas lease or leases or other developed rights may be lost. It is generally our practice not to incur the expense of retaining lawyers to examine the title to the mineral interest to be acquired. Rather, we typically rely upon the judgment of oil and natural gas lease brokers or landmen who perform the fieldwork in examining records in the appropriate governmental or county clerk’s office before attempting to acquire a lease or other developed rights in a specific mineral interest.
Prior to drilling an oil or natural gas well, however, it is the normal practice in the oil and natural gas industry for the person or company acting as the operator of the well to obtain a preliminary title review of the spacing unit within which the proposed oil or natural gas well is to be drilled to ensure there are no obvious deficiencies in title to the well. Frequently, as a result of such examinations, certain curative work must be done to correct deficiencies in the marketability of the title, such as obtaining affidavits of heirship or causing an estate to be administered. Such curative work entails expense, and the operator may elect to proceed with a well despite defects to the title identified in the preliminary title opinion. Furthermore, title issues may arise at a later date that were not initially detected in any title review or examination. Any one or more of the foregoing could require us to reverse revenues previously recognized and potentially negatively affect our cash flows and results of operations. Our failure to obtain perfect title to our leaseholds may adversely affect our current production and reserves and our ability in the future to increase production and reserves.
We conduct business in a highly competitive industry.
The oil and natural gas industry is highly competitive. The key areas in respect of which we face competition include: acquisition of assets offered for sale by other companies; access to capital (debt and equity) for financing and operational purposes; purchasing, leasing, hiring, chartering or other procuring of equipment by our operators that may be scarce; and employment of qualified and experienced skilled management and oil and natural gas professionals.
Competition in our markets is intense and depends, among other things, on the number of competitors in the market, their financial resources, their degree of geological, geophysical, engineering and management expertise and capabilities, their pricing policies, their ability to develop properties on time and on budget, their ability to select, acquire and develop reserves and their ability to foster and maintain relationships with the relevant authorities.
Our competitors also include those entities with greater technical, physical and financial resources. Finally, companies and certain private equity firms not previously investing in oil and natural gas may choose to acquire reserves to establish a firm supply or simply as an investment. Any such companies will also increase market competition which may directly affect us. If we are unsuccessful in competing against other companies, our business, results of operations, financial condition or prospects could be materially adversely affected.
Our derivatives activities could adversely affect our cash flow, results of operations and financial condition.
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To achieve more predictable cash flows and reduce our exposure to adverse fluctuations in the price of oil and natural gas, we enter into derivative instrument contracts for a portion of our expected production, which may include swaps, collars, puts and other structures. In accordance with applicable accounting principles, we are required to record our derivatives at fair market value, and they are included on our balance sheet as assets or liabilities and in our statements of income as gain (loss) on derivatives, net. Accordingly, our earnings may fluctuate significantly as a result of changes in the fair market value of our derivative instruments. In addition, while intended to mitigate the effects of volatile oil and natural gas prices, our derivatives transactions may limit our potential gains and increase our potential losses if oil and natural gas prices were to rise substantially over the price established by the hedge.
Our actual future production may be significantly higher or lower than we estimate at the time we enter into derivative contracts for such period. If the actual amount of production is higher than we estimate, we will have greater commodity price exposure than we intended. If the actual amount of production is lower than the notional amount that is subject to our derivative financial instruments, we might be forced to satisfy all or a portion of our derivative transactions without the benefit of the cash flow from our sale of the underlying physical commodity, resulting in a substantial diminution of our liquidity. As a result of these factors, our hedging activities may not be as effective as we intend in reducing the volatility of our cash flows, and in certain circumstances may actually increase the volatility of our cash flows. In addition, such transactions may expose us to the risk of loss in certain circumstances, including instances in which a counterparty to our derivative contracts is unable to satisfy its obligations under the contracts; our production is less than expected; or there is a widening of price differentials between delivery points for our production and the delivery point assumed in the derivative arrangement.
Decommissioning costs are unknown and may be substantial. Unplanned costs could divert resources from other projects.
We may become responsible for costs associated with plugging, abandoning and reclaiming wells, pipelines and other facilities that we use for production of oil and natural gas reserves. Abandonment and reclamation of these facilities and the costs associated therewith is often referred to as “decommissioning.” We accrue a liability for decommissioning costs associated with our wells, but have not established any cash reserve account for these potential costs in respect of any of our properties. If decommissioning is required before economic depletion of our properties or if our estimates of the costs of decommissioning exceed the value of the reserves remaining at any particular time to cover such decommissioning costs, we may have to draw on funds from other sources to satisfy such costs. The use of other funds to satisfy such decommissioning costs could impair our ability to focus capital investment in other areas of our business.
We depend on computer and telecommunications systems, and failures in our systems or cyber security attacks could significantly disrupt our business operations.
We have entered into agreements with third parties for hardware, software, telecommunications and other information technology services in connection with our business. In addition, we have developed or may develop proprietary software systems, management techniques and other information technologies incorporating software licensed from third parties. It is possible that we, or these third parties, could incur interruptions from cyber security attacks, computer viruses or malware, or that third-party service providers could cause a breach of our data. We believe that we have positive relations with our related vendors and maintain adequate anti-virus and malware software and controls; however, any interruptions to our arrangements with third parties for our computing and communications infrastructure or any other interruptions to, or breaches of, our information systems could lead to data corruption, communication interruption, loss of sensitive or confidential information or otherwise significantly disrupt our business operations. Although we utilize various procedures and controls to monitor these threats and mitigate our exposure to such threats, there can be no assurance that these procedures and controls will be sufficient in preventing security threats from materializing. Furthermore, various third-party resources that we rely on, directly or indirectly, in the operation of our business (such as pipelines and other infrastructure) could suffer interruptions or breaches from cyber-attacks or similar events that are entirely outside our control, and any such events could significantly disrupt our business operations and/or have a material adverse effect on our results of operations. To our knowledge we have not experienced any material losses relating to cyber-attacks; however, there can be no assurance that we will not suffer material losses in the future.
Fuel conservation measures, technological advances and negative shift in market perception towards the oil and natural gas industry could reduce demand for oil and natural gas.
Fuel conservation measures, alternative fuel requirements, increasing consumer demand for alternatives to oil and natural gas, technological advances in fuel economy and energy generation devices, and the increased competitiveness of alternative energy sources could reduce demand for oil and natural gas. Additionally, the increased competitiveness of alternative energy sources (such as electric vehicles, wind, solar, geothermal, tidal, fuel cells and biofuels) could reduce demand for oil and natural gas and, therefore, our revenues.
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Additionally, certain segments of the investor community have recently expressed negative sentiment towards investing in the oil and natural gas industry. Recent equity returns in the sector versus other industry sectors have led to lower oil and natural gas representation in certain key equity market indices. Some investors, including certain pension funds, university endowments and family foundations, have stated policies to reduce or eliminate their investments in the oil and natural gas sector based on social and environmental considerations. Furthermore, certain other stakeholders have pressured commercial and investment banks to stop funding oil and gas projects. With the continued volatility in oil and natural gas prices, and the possibility that interest rates will rise in the near term, increasing the cost of borrowing, certain investors have emphasized capital efficiency and free cash flow from earnings as key drivers for energy companies, especially shale producers. This may also result in a reduction of available capital funding for potential development projects, further impacting our future financial results.
The impact of the changing demand for oil and natural gas services and products, together with a change in investor sentiment, may have a material adverse effect on our business, financial condition, results of operations and cash flows. Furthermore, if we are unable to achieve the desired level of capital efficiency or free cash flow within the timeframe expected by the market, our stock price may be adversely affected.
Increased attention to environmental, social and governance (“ESG”) matters may impact our business.
Increasing attention to climate change, increasing societal expectations on companies to address climate change, increasing investor and societal expectations regarding voluntary ESG disclosures, and potential increasing consumer demand for alternative forms of energy may result in increased costs, reduced demand for our products, reduced profits, increased investigations and litigation, and negative impacts on our access to capital markets. Increasing attention to climate change, for example, may result in demand shifts for natural gas and oil products and additional governmental investigations and private litigation against us. To the extent that societal pressures or political or other factors are involved, it is possible that such liability could be imposed without regard to our causation of or contribution to the asserted damage, or to other mitigating factors.
In addition, organizations that provide information to investors on corporate governance and related matters have developed ratings processes for evaluating companies on their approach to ESG matters. Such ratings are used by some investors to inform their investment and voting decisions. Unfavorable ESG ratings and recent activism directed at shifting funding away from companies with energy-related assets could lead to increased negative investor sentiment toward us and our industry and to the diversion of investment to other industries, which could have a negative impact on our stock price and our access to and costs of capital. Also, institutional lenders may, of their own accord, elect not to provide funding for fossil fuel energy companies based on climate change related concerns, which could affect our access to capital for potential growth projects.
Risks Related to Our Financing and Indebtedness
Any significant reduction in our borrowing base under our Revolving Credit Facility will negatively impact our liquidity and could adversely affect our business and financial results.
Availability under our Revolving Credit Facility is subject to a borrowing base, with scheduled semiannual (April 1 and October 1) and other elective borrowing base redeterminations based upon, among other things, projected revenues from, and asset values of, the oil and natural gas properties securing the Revolving Credit Facility. The lenders under the Revolving Credit Facility can unilaterally adjust the borrowing base and the borrowings permitted to be outstanding under our Revolving Credit Facility. Reductions in estimates of our producing oil, NGL and natural gas reserves could result in a reduction of our borrowing base thereunder. The same could also arise from other factors, including but not limited to lower commodity prices or production; inability to drill or unfavorable drilling results; changes in crude oil, NGL and natural gas reserve engineering; increased operating and/or capital costs; or other factors affecting our lenders’ ability or willingness to lend (including factors that may be unrelated to our company). Any significant reduction in our borrowing base could result in a default under current and/or future debt instruments, negatively impact our liquidity and our ability to fund our operations and, as a result, could have a material adverse effect on our financial position, results of operation and cash flow. Further, if the outstanding borrowings under our Revolving Credit Facility were to exceed the borrowing base as a result of any such redetermination, we could be required to repay the excess. If we do not have sufficient funds and we are otherwise unable to arrange new financing, we may have to sell significant assets or take other actions to address. Any such sale or other actions could have a material adverse effect on our business and financial results.
Our Revolving Credit Facility and other agreements governing indebtedness contain operating and financial restrictions that may restrict our business and financing activities.
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Our Revolving Credit Facility, the indenture governing our senior indebtedness, and any future indebtedness we incur may contain a number of restrictive covenants that will impose significant operating and financial restrictions on us, including restrictions on our ability to, among other things: declare or pay any dividend or make any other distributions on, purchase or redeem our equity interests or purchase or redeem certain debt; make loans or certain investments; make certain acquisitions and investments; incur or guarantee additional indebtedness or issue certain types of equity securities; incur liens; transfer or sell assets; create subsidiaries; consolidate, merge or transfer all or substantially all of our assets; and engage in transactions with our affiliates. In addition, the Revolving Credit Facility requires us to maintain compliance with certain financial covenants and other covenants. As a result of these covenants, we could be limited in the manner in which we conduct our business, and we may be unable to engage in favorable business activities or finance future operations or capital needs.
Our ability to comply with some of the covenants and restrictions may be affected by events beyond our control. If market or other economic conditions deteriorate, our ability to comply with these covenants may be impaired. A failure to comply with the covenants, ratios or tests in our Revolving Credit Facility or any other indebtedness could result in an event of default under our Revolving Credit Facility or our other indebtedness, which, if not cured or waived, could have a material adverse effect on our business, financial condition and results of operations. If an event of default under our Revolving Credit Facility occurs and remains uncured, the lenders thereunder would not be required to lend any additional amounts to us; could elect to declare all borrowings outstanding, together with accrued and unpaid interest and fees, to be due and payable; may have the ability to require us to apply all of our available cash to repay these borrowings; and may prevent us from making debt service payments under our other agreements.
An event of default or an acceleration under our Revolving Credit Facility could result in an event of default and an acceleration under other existing or future indebtedness. Conversely, an event of default or an acceleration under any other existing or future indebtedness could result in an event of default and an acceleration under our Revolving Credit Facility. In addition, our obligations under the Revolving Credit Facility are collateralized by perfected liens and security interests on substantially all of our assets and if we default thereunder the lenders could seek to foreclose on our assets.
We may not be able to generate enough cash flow to meet our debt obligations or our obligations related to our preferred stock.
We expect our earnings and cash flow to vary significantly from year to year due to the cyclical nature of our industry. As a result, the amount of debt that we can service in some periods may not be appropriate for us in other periods. Additionally, our future cash flow may be insufficient to meet our debt obligations and commitments, or to permit us to pay dividends on our preferred stock. Any insufficiency could negatively impact our business. A range of economic, competitive, business and industry factors will affect our future financial performance, and, as a result, our ability to generate cash flow from operations and to pay our debt or dividends on our preferred stock. Many of these factors, such as oil and natural gas prices, economic and financial conditions in our industry and the global economy or competitive initiatives of our competitors, are beyond our control.
If we do not generate enough cash flow from operations to satisfy our debt obligations, we may have to undertake alternative financing plans, such as refinancing or restructuring our debt; selling assets; reducing or delaying capital investments; or seeking to raise additional capital. However, we cannot assure you that undertaking alternative financing plans, if necessary, would allow us to meet our debt obligations or pay dividends on our preferred stock. Our inability to generate sufficient cash flow to satisfy our debt obligations or pay dividends on our preferred stock, or to obtain alternative financing, could materially and adversely affect our business, financial condition, results of operations and prospects.
Our ability to pay dividends to our stockholders is restricted by applicable laws and regulations and requirements under certain of our securities and debt agreements, including the Series A Preferred Stock, our Revolving Credit Facility and the 2028 Notes (as collectively defined below).
Holders of our common stock are only entitled to receive such cash dividends as our board of directors, in its sole discretion, may declare out of funds legally available for such payments. On May 6, 2021, our board of directors declared our first cash dividend on our common stock in the amount of $0.03 per share. The dividend was paid on July 30, 2021 to stockholders of record as of the close of business on June 30, 2021. Our board of directors declared increased quarterly cash dividends on our common stock for each of the following completed fiscal quarters, and our management intends to recommend to our board of directors a further increase in our quarterly cash dividends on our common stock going forward. Any such increase would be conditioned upon, among other things, the approval of such increase by our board of directors and the absence of any material adverse developments or potentially attractive opportunities that would make such an increase inadvisable. We cannot assure you, however, that we will pay dividends in the future in the current amounts or at all. Our board of directors may change the timing and amount of any future dividend payments or eliminate the payment of future dividends to
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our common stockholders at its discretion, without notice to our stockholders. Any future determination relating to our dividend policy will be dependent on a variety of factors, including our financial condition, earnings, legal requirements, our general liquidity needs, and other factors that our board of directors deems relevant. Our ability to declare and pay dividends to our stockholders is subject to certain laws, regulations, and policies, including minimum capital requirements and, as a Delaware corporation, we are subject to certain restrictions on dividends under the Delaware General Corporation Law (the “DGCL”). Under the DGCL, our board of directors may not authorize payment of a dividend unless it is either paid out of our surplus, as calculated in accordance with the DGCL, or if we do not have a surplus, it is paid out of our net profits for the fiscal year in which the dividend is declared and/or the preceding fiscal year. In addition, so long as any shares of our Series A Preferred Stock remain outstanding, no dividend or distribution may be declared or paid on our common stock unless all accumulated and unpaid dividends on the Series A Preferred Stock for all preceding dividend periods have been or contemporaneously are declared and paid in full. Finally, our ability to pay dividends to our stockholders may be limited by covenants in any debt agreements that we are currently a party to, including our Revolving Credit Facility and the indenture governing our 2028 Notes, or may enter into in the future. As a consequence of these various limitations and restrictions, we may not be able to make, or may have to reduce or eliminate at any time, the payment of dividends on our common stock. If as a result, we are unable to pay dividends, investors may be forced to rely on sales of their common stock after price appreciation, which may never occur, as the only way to realize a return on their investment. Any change in the level of our dividends or the suspension of the payment thereof could have a material adverse effect on the market price of our common stock.
Our variable rate indebtedness subjects us to interest rate risk, which could cause our debt service obligations to increase significantly.
Borrowings under our Revolving Credit Facility bear interest at variable rates and expose us to interest rate risk. If interest rates increase and we are unable to effectively hedge our interest rate risk, our debt service obligations on the variable rate indebtedness would increase even if the amount borrowed remained the same, and our net income and cash available for servicing our indebtedness would decrease.
Changes in the method of determining LIBOR, or the replacement of LIBOR with an alternative reference rate, may adversely affect interest rates under our revolving credit agreement.
LIBOR is a basic rate of interest widely used as a global reference for setting interest rates on loans and payment rates on other financial instruments. Our revolving credit agreement uses LIBOR as the reference rate for Eurodollar denominated borrowings. As of January 1, 2022, regulated banks are required to cease “new” US dollar LIBOR issuances (including new commitments, renewals and extensions) and all existing US dollar LIBOR loans must transition to an alternative rate by June 30, 2023. Until that time, it is unclear how different reference rates will develop. It is impossible to predict the effect these developments, the discontinuance, modification or other reforms to LIBOR or the establishment of alternative reference rates may have on LIBOR, other benchmark rates or floating rate debt instruments. Although our revolving credit agreement contains LIBOR alternative provisions which provide for the replacement of LIBOR, upon certain triggering events, with a rate based on the secured overnight financing rate published by the Federal Reserve Bank of New York, new methods of calculating reference rates or other reforms could cause the interest rates under our revolving credit agreement to be materially different than expected, which could have an adverse effect on our business, financial position and results of operations, and our ability to pay dividends on our common stock.
We may be able to incur substantially more debt. This could further exacerbate the risks associated with our substantial indebtedness.
We may be able to incur substantial additional indebtedness in the future, subject to certain limitations, including under our Revolving Credit Facility, our senior notes and under any future debt agreements. If new debt is added to our current debt levels, the related risks that we now face could increase. Our level of indebtedness could, for instance, prevent us from engaging in transactions that might otherwise be beneficial to us or from making desirable capital expenditures. This could put us at a competitive disadvantage relative to other less leveraged competitors that have more cash flow to devote to their operations. In addition, the incurrence of additional indebtedness could make it more difficult to satisfy our existing financial obligations.
Our business plan requires significant capital expenditures, which we may be unable to obtain on favorable terms or at all.
Our exploration, development and acquisition activities require substantial capital expenditures. Historically, we have funded our capital expenditures through a combination of cash flow from operations, borrowings under our credit facilities, debt issuances, and equity issuances. Cash reserves, cash from operations and borrowings under our Revolving Credit Facility may not be sufficient to fund our continuing operations and business plan and goals. We may require additional capital and we
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may be unable to obtain such capital if and when required. If our access to capital were limited due to numerous factors, which could include a decrease in operating cash flow due to lower oil and natural gas prices or decreased production or deterioration of the credit and capital markets, we would have a reduced ability to develop our properties, replace our reserves and pursue our business plan and goals. We may not be able to incur additional debt under our Revolving Credit Facility, issue debt or equity, engage in asset sales or access other methods of financing on acceptable terms or at all. If the amount of capital we are able to raise from financing activities, together with our cash from operations, is not sufficient to satisfy our capital requirements, we may not be able to implement our business plan and may be required to scale back our operations, sell assets at unattractive prices or obtain financing on unattractive terms, any of which could adversely affect our business, results of operations and financial condition.
Risks Related to Legal and Regulatory Matters
The current presidential administration, acting through the executive branch and/or in coordination with Congress, already has ordered or proposed, and could enact additional rules and regulations that restrict our ability to acquire federal leases in the future and/or impose more onerous permitting and other costly environmental, health and safety requirements.
We are affected by the adoption of laws, regulations and policy directives that, for economic, environmental protection or other policy reasons, could curtail exploration and development drilling for oil and gas. For example, in January 2021, President Biden signed an Executive Order directing the U.S. Department of the Interior (“DOI”) to temporarily pause new oil and gas leases on federal lands and waters pending completion of a comprehensive review of the federal government’s existing oil and gas leasing and permitting program. In June 2021, a federal district court enjoined the DOI from implementing the pause and leasing resumed, although litigation over the leasing pause remains ongoing. As a result, it is difficult to predict if and when such areas may be made available for future exploration activities. In addition, in November 2021, the U.S. Environmental Protection Agency (“EPA”) proposed a new rule that would impose more stringent methane emissions standards for new and modified sources in the oil and gas industry, and to regulate existing sources in the oil and gas industry for the first time. A supplemental proposed rule, which may expand or modify the current proposed rule, and final rule are expected by the end of 2022. The current proposed rule authorizes each state to incorporate the emission guidelines proposed by the EPA or to adopt their own standards that achieve the same degree of emissions limitations. Further, in September 2021, President Biden publicly announced the Global Methane Pledge, an international pact that aims to reduce global methane emissions to at least 30% below 2020 levels by 2030. These efforts, among others, are intended to support the current administration’s stated goal of addressing climate change. Potential actions of a Democratic-controlled Congress include imposing more restrictive laws and regulations pertaining to permitting, limitations on GHG emissions, increased requirements for financial assurance and bonding for decommissioning liabilities, and carbon taxes. Any of these administrative or Congressional actions could adversely affect our financial condition and results of operations by restricting the lands available for development and/or access to permits required for such development, or by imposing additional and costly environmental, health and safety requirements.
Our ability to use net operating loss carryforwards to offset future taxable income may be subject to certain limitations.
We have net operating loss (“NOL”) carryforwards that we may use to offset against taxable income for U.S. federal income tax purposes. At December 31, 2021, we had an estimated NOL carryforward of approximately $592.9 million for U.S. federal income tax purposes. In general, under Section 382 of the Internal Revenue Code of 1986, as amended (the “IRC”), a corporation that undergoes an “ownership change” can be subject to limitations on the use of its NOLs to offset future taxable income. We underwent an “ownership change” during 2018 and, as a result, the use of our existing NOL carryforwards are subject to limitations under Section 382, which are generally determined by multiplying the value of our stock at the time of the ownership change by the applicable long term tax exempt rate as defined in Section 382. See Note 10 to our financial statements. Future changes in our stock ownership, some of which are outside of our control, could result in an additional ownership change under Section 382 of the IRC.
Certain U.S. federal income tax deductions currently available with respect to natural gas and oil exploration and development may be eliminated as a result of future legislation.
From time to time, legislation has been proposed that would, if enacted into law, make significant changes to U.S. tax laws, including certain key U.S. federal income tax provisions currently available to oil and gas companies. Such legislative changes have included, but not been limited to, (i) the repeal of the percentage depletion allowance for natural gas and oil properties, (ii) the elimination of current deductions for intangible drilling and development costs, and (iii) an extension of the amortization period for certain geological and geophysical expenditures. Although these provisions were largely unchanged in the most recent federal tax legislation, certain of these changes were considered for inclusion in the proposed “Build Back Better Act” and Congress could consider, and could include, some or all of these proposals as part of future tax reform
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legislation. Moreover, other more general features of any additional tax reform legislation, including changes to cost recovery rules, may be developed that also would change the taxation of oil and gas companies. It is unclear whether these or similar changes will be enacted in future legislation and, if enacted, how soon any such changes could take effect. The passage of any legislation as a result of these proposals or any similar changes in U.S. federal income tax laws could eliminate or postpone certain tax deductions that currently are available with respect to oil and gas development or increase costs, and any such changes could have an adverse effect on our financial position, results of operations and cash flows.
The enactment of new or increased severance taxes and impact fees on natural gas production could negatively impact our assets in the Marcellus Shale formation.
The tax laws, rules and regulations that affect the operation of our assets in the Marcellus Shale formation are subject to change. For example, Pennsylvania’s governor has in past legislative sessions proposed legislation to impose a state severance tax on the extraction of natural resources, including natural gas produced from the Marcellus Shale formation, either in replacement of or in addition to the existing state impact fee. Pennsylvania’s legislature has not thus far advanced any of the governor’s severance tax proposals; however, severance tax legislation may continue to be proposed in future legislative sessions. Any such tax increase or change could adversely impact our earnings, cash flows and financial position as it relates to these assets.
Our business involves the selling and shipping by rail of crude oil, which involves risks of derailment, accidents and liabilities associated with cleanup and damages, as well as potential regulatory changes that may adversely impact our business, financial condition or results of operations.
A portion of our crude oil production is transported to market centers by rail. Derailments in North America of trains transporting crude oil have caused various regulatory agencies and industry organizations, as well as federal, state and municipal governments, to focus attention on transportation by rail of flammable liquids. Any changes to existing laws and regulations, or promulgation of new laws and regulations, including any voluntary measures by the rail industry, that result in new requirements for the design, construction or operation of tank cars used to transport crude oil could increase our costs of doing business and limit our ability to transport and sell our crude oil at favorable prices at market centers throughout the United States, the consequences of which could have a material adverse effect on our financial condition, results of operations and cash flows. In addition, any derailment of crude oil involving crude oil that we have sold or are shipping may result in claims being brought against us that may involve significant liabilities.
Our derivative activities expose us to potential regulatory risks.
The Federal Trade Commission (“FTC”), Federal Regulatory Commission (“FERC”) and the Commodities Futures Trading Commission (“CFTC”) have statutory authority to monitor certain segments of the physical and futures energy commodities markets. These agencies have imposed broad regulations prohibiting fraud and manipulation of such markets. With regard to derivative activities that we undertake with respect to oil, natural gas, NGLs, or other energy commodities, we are required to observe the market-related regulations enforced by these agencies. Failure to comply with such regulations, as interpreted and enforced, could have a material adverse effect on our business, results of operations and financial condition.
Legislative and regulatory developments could have an adverse effect on our ability to use derivative instruments to reduce the effect of commodity price, interest rate and other risks associated with our business.
The Dodd-Frank Wall Street Reform and Consumer Protection Act (“Dodd-Frank Act”) contains measures aimed at increasing the transparency and stability of the over-the-counter (“OTC”) derivatives market and preventing excessive speculation. On January 14, 2021, the CFTC published a final rule imposing position limits for certain futures and options contracts in various commodities (including oil and gas) and for swaps that are their economic equivalents, though certain types of derivative transactions are exempt from these limits, provided that such derivative transactions satisfy the CFTC’s requirements for certain enumerated “bona fide” derivative transactions. The CFTC has also adopted final rules regarding aggregation of positions, under which a party that controls the trading of, or owns ten percent or more of the equity interests in, another party will have to aggregate the positions of the controlled or owned party with its own positions for purposes of determining compliance with position limits unless an exemption applies. The CFTC’s aggregation rules are now in effect, although CFTC staff has granted relief until August 12, 2022 from various conditions and requirements in the final aggregation rules. These rules may affect both the size of the positions that we may hold and the ability or willingness of counterparties to trade with us, potentially increasing the costs of transactions. Moreover, such changes could materially reduce our access to derivative opportunities, which could adversely affect revenues or cash flow during periods of low commodity prices.
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The CFTC also has designated certain interest rate swaps and credit default swaps for mandatory clearing and the associated rules also will require us, in connection with covered derivative activities, to comply with clearing and trade-execution requirements or to take steps to qualify for an exemption to such requirements. Although we believe we qualify for the end-user exception from the mandatory clearing requirements for swaps entered to mitigate its commercial risks, the application of the mandatory clearing and trade execution requirements to other market participants, such as swap dealers, may change the cost and availability of the swaps that we use. If our swaps do not qualify for the commercial end-user exception, or if the cost of entering into uncleared swaps becomes prohibitive, we may be required to clear such transactions. The ultimate effect of these rules and any additional regulations on our business is uncertain.
The full impact of the Dodd-Frank Act and related regulatory requirements on our business will not be known until the regulations are fully implemented and the market for derivatives contracts has adjusted. In addition, it is possible that the current administration could expand regulation of the over-the-counter derivatives market and the entities that participate in that market through either the Dodd-Frank Act or the enactment of new legislation. Regulations issued under the Dodd-Frank Act (including any further regulations implemented thereunder) and any new legislation also may require certain counterparties to our derivative instruments to spin off some of their derivative activities to a separate entity, which may not be as creditworthy as the current counterparty. Such legislation and regulations could significantly increase the cost of derivative contracts (including from swap recordkeeping and reporting requirements and through requirements to post collateral which could adversely affect our available liquidity), materially alter the terms of derivative contracts, reduce the availability of derivatives to protect against risks we encounter, reduce our ability to monetize or restructure our existing derivative contracts, and increase our exposure to less creditworthy counterparties. We maintain an active hedging program related to commodity price risks. Such legislation and regulations could reduce trading positions and the market-making activities of our counterparties. If we reduce our use of derivatives as a result of legislation and regulations or any resulting changes in the derivatives markets, our results of operations may become more volatile and our cash flows may be less predictable, which could adversely affect our ability to plan for and fund capital expenditures or to make payments on our debt obligations. Finally, the Dodd-Frank Act was intended, in part, to reduce the volatility of oil and natural gas prices, which some legislators attributed to speculative trading in derivatives and commodity instruments related to oil and natural gas. Our revenues could therefore be adversely affected if a consequence of the legislation and regulations is to lower commodity prices. Any of these consequences could have a material adverse effect on our business, our financial condition, and our results of operations.
Our business is subject to complex federal, state, local and other laws and regulations that could adversely affect the cost, manner or feasibility of doing business.
Our operational interests, as operated by our third-party operating partners, are regulated extensively at the federal, state, tribal and local levels. Environmental and other governmental laws and regulations have increased the costs to plan, design, drill, install, operate and abandon oil and natural gas wells. Under these laws and regulations, our company (either directly or indirectly through our operating partners) could also be liable for personal injuries, property and natural resource damage and other damages. Failure to comply with these laws and regulations may result in the suspension or termination of our business and subject us to administrative, civil and criminal penalties. Moreover, public interest in environmental protection has increased in recent years, and environmental organizations have opposed, with some success, certain drilling projects.
Part of the regulatory environment in which we do business includes, in some cases, legal requirements for obtaining environmental assessments, environmental impact studies and/or plans of development before commencing drilling and production activities. In addition, our activities are subject to the regulations regarding conservation practices and protection of correlative rights. These regulations affect our business and limit the quantity of natural gas we may produce and sell. A major risk inherent in the drilling plans in which we participate is the need for our operators to obtain drilling permits from state and local authorities. Delays in obtaining regulatory approvals or drilling permits, the failure to obtain a drilling permit for a well or the receipt of a permit with unreasonable conditions or costs could have a material adverse effect on the development of our properties. Additionally, the oil and natural gas regulatory environment could change in ways that might substantially increase the financial and managerial costs of compliance with these laws and regulations and, consequently, adversely affect our profitability. At this time, we cannot predict the effect of this increase on our results of operations. Furthermore, we may be put at a competitive disadvantage to larger companies in our industry that can spread these additional costs over a greater number of wells and larger operating staff.
Failure to comply with federal, state and local environmental laws and regulations could result in substantial penalties and adversely affect our business.
All phases of the oil and natural gas business can present environmental risks and hazards and are subject to a variety of federal, state and municipal laws and regulations. Environmental laws and regulations, among other things, restrict and prohibit spills, releases or emissions of various substances produced in association with oil and natural gas operations, and
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require that wells and facility sites be operated, maintained, abandoned and reclaimed to the satisfaction of applicable regulatory authorities. There is risk of incurring significant environmental costs and liabilities as a result of the handling of petroleum hydrocarbons and wastes, air emissions and wastewater discharges related to our business, and historical operations and waste disposal practices. Failure to comply with these laws and regulations may result in the assessment of administrative, civil and criminal penalties, loss of our leases, incurrence of investigatory or remedial obligations and the imposition of injunctive relief.
Environmental legislation is evolving in a manner we expect may result in stricter standards and enforcement, larger fines and liability and potentially increased capital expenditures and operating costs. The discharge of oil, natural gas or other pollutants into the air, soil or water may give rise to liabilities to governments and third parties and may require us to incur costs to remedy such discharge, regardless of whether we were responsible for the release or contamination and regardless of whether our operating partners met previous standards in the industry at the time they were conducted. In addition, claims for damages to persons, property or natural resources may result from environmental and other impacts of operations on our properties. The application of new or more stringent environmental laws and regulations to our business may cause us to curtail production or increase the costs of our production, development or exploration activities.
Federal and state legislative and regulatory initiatives relating to hydraulic fracturing could result in increased costs and additional operating restrictions or delays.
Hydraulic fracturing involves the injection of water, sand and chemicals under pressure into formations to fracture the surrounding rock and stimulate production. Hydraulic fracturing is used extensively by our third-party operating partners. The hydraulic fracturing process is typically regulated by state oil and natural gas commissions. Any federal or state legislative or regulatory changes with respect to hydraulic fracturing could cause us to incur substantial compliance costs or result in operational delays, and the consequences of any failure to comply by us or our third-party operating partners could have a material adverse effect on our financial condition and results of operations.
In addition, in response to concerns relating to recent seismic events near underground disposal wells used for the disposal by injection of flowback and produced water or certain other oilfield fluids resulting from oil and natural gas activities (so-called “induced seismicity”), regulators in some states have imposed, or are considering imposing, additional requirements in the permitting of produced water disposal wells or otherwise to assess any relationship between seismicity and the use of such wells. States may, from time to time, develop and implement plans directing certain wells where seismic incidents have occurred to restrict or suspend disposal well operations. These developments could result in additional regulation and restrictions on the use of injection wells by our operators to dispose of flowback and produced water and certain other oilfield fluids. Increased regulation and attention given to induced seismicity also could lead to greater opposition to, and litigation concerning, oil and natural gas activities utilizing injection wells for waste disposal. Until such pending or threatened legislation or regulations are finalized and implemented, it is not possible to estimate their impact on our business.
Any of the above risks could impair our ability to manage our business and have a material adverse effect on our operations, cash flows and financial position.
The adoption of climate change legislation or regulations restricting emissions of greenhouse gases could result in increased operating costs and reduced demand for the o oil and natural gas we produce.
Restrictions on GHG emissions that may be imposed could adversely affect the oil and gas industry. The adoption of legislation or regulatory programs to reduce GHG emissions could require us to incur increased operating costs, such as costs to purchase and operate emissions control systems, to acquire emissions allowances or to comply with new regulatory requirements. Any GHG emissions legislation or regulatory programs applicable to power plants or refineries could also increase the cost of consuming, and potentially reduce demand for, the oil and natural gas we produce. Consequently, legislation and regulatory programs to reduce GHG emissions could have an adverse effect on our business, financial condition and results of operations. Moreover, climate change may be associated with increased volatility in seasonal temperatures, as well as extreme weather conditions such as more intense hurricanes, thunderstorms, tornadoes and snow or ice storms, as well as rising sea levels. Extreme weather conditions can interfere with our production and increase our costs, and damage resulting from extreme weather may not be fully insured. See “Item 1. Business—Governmental Regulation and Environmental Matters” and “—Climate Change” for a further discussion of the laws and regulations related to GHGs and of climate change.
Risks Related to Our Common Stock
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There may be future sales or issuances of our common stock, including issuances in connection with our incentive plans, acquisitions or otherwise, which will dilute the ownership interests of stockholders and may adversely affect the market price of our common stock.
Our certificate of incorporation authorizes us to issue 135,000,000 shares of common stock, of which 77,341,921 shares were issued and outstanding as of December 31, 2021. Any shares of common stock that we may issue in the future, including securities that are convertible into or exchangeable for, or that represent the right to receive, common stock or substantially similar securities, may dilute the ownership interests of our stockholders. In addition, future issuances of common stock under our 2018 Equity Incentive Plan or other equity incentive plans that we may adopt in the future, or in connection with an acquisition or otherwise, would also dilute the percentage ownership held by the investors who purchase shares of common stock in this offering. The market price of our common stock could decline as a result of sales or issuances of a large number of shares of our common stock or similar securities in the market after this offering or the perception that such sales or issuances could occur.
Our certificate of incorporation, bylaws, and Delaware state law contain provisions that may have the effect of delaying or preventing a change in control and may adversely affect the market price of our capital stock.
Our certificate of incorporation authorizes our board of directors to issue preferred stock without any further vote or action by our shareholders. The rights of the holders of our common stock will be subject to the rights of the holders of any preferred stock that may be issued in the future. The issuance of preferred stock could delay, deter or prevent a change in control and could adversely affect the voting power or economic value of our shares. In addition, some provisions of our certificate of incorporation and bylaws could make it more difficult for a third-party to acquire control of us, even if the change of control would be beneficial to our shareholders, including, among others, limitations on the ability of our stockholders to call special meetings, limitations on the ability of our shareholders to act by written consent, and advance notice provisions for shareholders proposals and nominations for elections to the board of directors to be acted upon at meetings of shareholders. Delaware law generally prohibits us from engaging in any business combination with any “interested shareholder,” meaning generally that a shareholder who owns 15% or more of our stock cannot acquire us for a period of three years from the date such shareholder became an interested shareholder, unless various conditions are met.
The availability of shares for sale or other issuance in the future could reduce the market price of our common stock.
Our board of directors has the authority, without action or vote of our stockholders, to issue all or any part of our authorized but unissued shares of common stock, or issue additional shares of preferred stock, which may be convertible into shares of common stock. In the future, we may issue securities to raise cash for acquisitions, as consideration in acquisitions, to pay down debt, to fund capital expenditures or general corporate expenses, in connection with the exercise of stock options or to satisfy our obligations under our incentive plans. We may also acquire interests in other companies by using a combination of cash, our preferred stock and our common stock or just our common stock. We may also issue securities, including our preferred stock, that are convertible into, exchangeable for, or that represent the right to receive, our common stock. The occurrence of any of these events or any issuance of common stock upon conversion of our currently outstanding Series A Preferred Stock or upon exercise of our outstanding warrants may dilute your ownership interest in our company, reduce our earnings per share and have an adverse impact on the price of our common stock.
Investors in our common stock may be required to look solely to stock appreciation for a return on their investment in us.
Any payment of future dividends will be at the discretion of our board of directors and will depend on, among other things, our earnings, financial condition, capital requirements, level of indebtedness, statutory and contractual restrictions applying to the payment of dividends and other considerations that our board of directors deems relevant. Covenants contained in the instruments governing our indebtedness and the Certificate of Designations for our preferred stock restrict the payment of dividends. Investors may be forced to rely on sales of their common stock after price appreciation, which may never occur, as the only way to realize a return on their investment.
Item 1B. Unresolved Staff Comments
None.
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Item 2. Properties
Estimated Net Proved Reserves
The table below summarizes our estimated net proved reserves at December 31, 2021 and 2020 based on reports prepared by Cawley, Gillespie & Associates, Inc. (“Cawley”), our third-party independent reserve engineers for the years ending December 31, 2021 and 2020. In preparing its reports, Cawley evaluated properties representing all of our proved reserves at December 31, 2021 and 2020 in accordance with the rules and regulations of the SEC applicable to companies involved in oil and natural gas producing activities. Our estimated net proved reserves in the table below do not include probable or possible reserves and do not in any way include or reflect our commodity derivatives.
| December 31, 2021 | December 31, 2020 | ||||||||||||||||||||||
| Proved Reserves (MBoe)(1) | % of Total | Proved Reserves (MBoe)(2) | % of Total | ||||||||||||||||||||
| SEC Proved Reserves: | |||||||||||||||||||||||
| Developed | 170,598 | 59 | % | 84,145 | 69 | % | |||||||||||||||||
| Undeveloped | 117,084 | 41 | 38,487 | 31 | |||||||||||||||||||
| Total Proved Properties | 287,682 | 100 | % | 122,632 | 100 | % | |||||||||||||||||
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(1)The table above values oil and natural gas reserve quantities as of December 31, 2021 assuming constant realized prices of $62.25 per barrel of oil and $3.37 per Mcf of natural gas. Under SEC guidelines, these prices represent the average prices per barrel of oil and per Mcf of natural gas at the beginning of each month in the 12-month period prior to the end of the reporting period, after adjustment to reflect applicable transportation and quality differentials.
(2)The table above values oil and natural gas reserve quantities as of December 31, 2020 assuming constant realized prices of $32.69 per barrel of oil and $1.61 per Mcf of natural gas. Under SEC guidelines, these prices represent the average prices per barrel of oil and per Mcf of natural gas at the beginning of each month in the 12-month period prior to the end of the reporting period, after adjustment to reflect applicable transportation and quality differentials.
Estimated net proved reserves at December 31, 2021 were 287,682 MBoe, a 135% increase from estimated net proved reserves of 122,632 MBoe at December 31, 2020. The increase was primarily due to the impact of our 2021 acquisitions, as well as higher activity levels in 2021 as compared to 2020. Increased development activity in 2021 led to an increase in our capital spending as well as an increase in the number of undeveloped drilling locations reflected in our 2021 proved reserve estimates. As a result of the higher activity levels and our 2021 acquisitions, the number of proved undeveloped wells included in the reserves was increased from 58.8 net wells in 2020 to 126.5 net wells in 2021.
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The following table sets forth summary information by reserve category with respect to estimated proved reserves at December 31, 2021:
_____ ___________
(1)The SEC Pricing Proved Reserves table above values oil and natural gas reserve quantities and related discounted future net cash flows as of December 31, 2021 based on average prices of $66.56 per barrel of oil and $3.60 per MMbtu of natural gas. Under SEC guidelines, these prices represent the average prices per barrel of oil and per MMbtu of natural gas at the beginning of each month in the 12-month period prior to the end of the reporting period. The average resulting price used as of December 31, 2021, after adjustment to reflect applicable transportation and quality differentials, was $62.25 per barrel of oil and $3.37 per Mcf of natural gas.
(2)Boe are computed based on a conversion ratio of one Boe for each barrel of oil and one Boe for every 6,000 cubic feet (i.e., 6 Mcf) of natural gas.
(3)Pre-tax PV10%, or “PV-10,” may be considered a non-GAAP financial measure as defined by the SEC and is derived from the standardized measure of discounted future net cash flows, which is the most directly comparable GAAP measure. See “Reconciliation of PV-10 to Standardized Measure” below.
The table above assumes prices and costs discounted using an annual discount rate of 10% without future escalation, without giving effect to non-property related expenses such as general and administrative expenses, debt service and depreciation, depletion and amortization, or federal income taxes. The information in the table above does not give any effect to or reflect our commodity derivatives.
Reconciliation of PV-10 to Standardized Measure
PV-10 is derived from the Standardized Measure of discounted future net cash flows, which is the most directly comparable GAAP financial measure for proved reserves calculated using SEC pricing. PV-10 is a computation of the Standardized Measure of discounted future net cash flows on a pre-tax basis. PV-10 is equal to the Standardized Measure of discounted future net cash flows at the applicable date, before deducting future income taxes, discounted at 10 percent. We believe that the presentation of PV-10 is relevant and useful to investors because it presents the discounted future net cash flows attributable to our estimated net proved reserves prior to taking into account future corporate income taxes, and it is a useful measure for evaluating the relative monetary significance of our oil and natural gas properties. Further, investors may utilize the measure as a basis for comparison of the relative size and value of our reserves to other companies. Moreover, GAAP does not provide a measure of estimated future net cash flows for reserves other than proved reserves or for reserves calculated using prices other than SEC prices. We use this measure when assessing the potential return on investment related to our oil and natural gas properties. PV-10, however, is not a substitute for the Standardized Measure of discounted future net cash flows. Our PV-10 measure and the Standardized Measure of discounted future net cash flows do not purport to represent the fair value of our oil and natural gas reserves.
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The following table reconciles the pre-tax PV10% value of our SEC Pricing Proved Reserves as of December 31, 2021 to the Standardized Measure of discounted future net cash flows.
SEC Pricing Proved Reserves (In thousands) | |||||
| Standardized Measure Reconciliation | |||||
| Pre-Tax Present Value of Estimated Future Net Revenues (Pre-Tax PV10%) | $ | 3,341,089 | |||
Future Income Taxes, Discounted at 10%(1) | (450,980) | ||||
| Standardized Measure of Discounted Future Net Cash Flows | $ | 2,890,109 | |||
____________
(1)The expected tax benefits to be realized from utilization of the net operating loss and tax credit carryforwards are used in the computation of future income tax cash flows. As a result of available net operating loss carryforwards and the remaining tax basis of our assets at December 31, 2021, our future income taxes were significantly reduced.
Uncertainties are inherent in estimating quantities of proved reserves, including many risk factors beyond our control. Reserve engineering is a subjective process of estimating subsurface accumulations of oil and natural gas that cannot be measured in an exact manner. As a result, estimates of proved reserves may vary depending upon the engineer estimating the reserves. Further, our actual realized price for our oil and natural gas is not likely to average the pricing parameters used to calculate our proved reserves. As such, the oil and natural gas quantities and the value of those commodities ultimately recovered from our properties will vary from reserve estimates.
Additional discussion of our proved reserves is set forth under the heading “Supplemental Oil and Gas Information - Unaudited” to our financial statements included later in this report.
Proved Undeveloped Reserves
At December 31, 2021, we had approximately 117.1 MMBoe of proved undeveloped reserves as compared to 38.5 MMBoe at December 31, 2020. A reconciliation of the change in proved undeveloped reserves during 2021 is as follows:
| MMBoe | |||||
| Estimated Proved Undeveloped Reserves at 12/31/2020 | 38.5 | ||||
| Converted to Proved Developed Through Drilling | (8.7) | ||||
| Added from Extensions and Discoveries | 13.3 | ||||
| Purchases of Minerals in Place | 60.7 | ||||
| Removed for 5-Year Rule | (6.2) | ||||
| Revisions | 19.5 | ||||
| Estimated Proved Undeveloped Reserves at 12/31/2021 | 117.1 | ||||
Our future development drilling program includes the drilling of approximately 126.5 proved undeveloped net wells before the end of 2026 at an estimated cost of $833.2 million. Our development plan for drilling proved undeveloped wells calls for the drilling of 62.5 net wells during 2022 (includes 32.0 net wells drilled at December 31, 2021, but classified as proved undeveloped due to Cawley’s internal guidelines which require greater than 50% of total costs to be incurred to be classified as developed), 25.0 net wells during 2023, 25.4 net wells during 2024, 10.7 net wells during 2025, and 2.9 net wells during 2026 for a total of 126.5 net wells. Our proved undeveloped locations were increased from 58.8 net wells at December 31, 2020 to 126.5 net wells at December 31, 2021 due to our 2021 acquisitions, higher commodity prices, and increased development activity. We expect that our proved undeveloped reserves will continue to be converted to proved developed producing reserves as additional wells are drilled including our acreage. All locations comprising our remaining proved undeveloped reserves are forecast to be drilled within five years from initially being recorded in accordance with our development plan.
At December 31, 2021, the PV-10 value of our proved undeveloped reserves amounted to 28% of the PV-10 value of our total proved reserves. Although our 2021 producing property additions exceeded our 5-year average development plan, there are numerous uncertainties. The development of these reserves is dependent upon a number of factors which include, but are not limited to: financial targets such as drilling within cash flow or reducing debt, drilling of obligatory wells, satisfactory
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rates of return on proposed drilling projects, and the levels of drilling activities by operators in areas where we hold leasehold interests. During 2021, we increased our development capital spending by 12% compared to 2020. With 70% of the PV-10 value of our total proved reserves supported by producing wells, we believe we will have sufficient cash flows and adequate liquidity to execute our development plan.
At December 31, 2021, we had spent a total of $61.3 million related to the development of proved undeveloped reserves, which resulted in the conversion of 8.7 MMBoe of proved undeveloped reserves as of December 31, 2020 to proved developed reserves as of December 31, 2021. Proved developed property additions in 2021 also included 4.5 MMBoe from the conversion of previously undeveloped locations that were not booked in our December 31, 2020 proved undeveloped reserves (the related development costs incurred at December 31, 2021 were $47.5 million). Additionally, our proved undeveloped reserves at December 31, 2021 included 62.6 MMBoe for net wells that had commenced drilling activities but remained classified as undeveloped reserves due to Cawley’s internal guidelines which require greater than 50% of the total costs to have been incurred in order to be classified as proved developed (the related development costs incurred at December 31, 2021 were $19.5 million).
In 2021, we also added 13.3 MMBoe of proved undeveloped reserves as a result of our acquisition and development activity. The SEC-prescribed commodity prices (after adjustment for transportation, quality and basis differentials) were $29.56 higher per barrel of oil and $1.76 higher per Mcf of natural gas at year-end 2021 as compared to year-end 2020. Additionally, we had positive revisions of 19.5 MMBoe primarily due to the aforementioned higher pricing. We also removed 6.2 MMBoe of proved undeveloped reserves due to the SEC-prescribed 5-year rule.
Proved Reserves Sensitivity by Price Scenario
The SEC disclosure rules allow for optional reserves sensitivity analysis, such as the sensitivity that oil and natural gas reserves have to price fluctuations. We have chosen to compare our proved reserves from the 2021 SEC case to one alternate pricing case, which uses a flat pricing deck of $50.00 per Bbl for oil and $3.00 per MMbtu for natural gas (the “$50 Flat Case”). The sensitivity scenario was not audited by a third-party. In this sensitivity scenario, all operating cost assumptions and other factors, other than the commodity price assumptions, have been held constant with the SEC case. However, the lower pricing in the sensitivity scenario did result in fewer future drilling locations that were economic at the $50 Flat Case compared to the 2021 SEC case. As a result, the $50 Flat Case included 16.6 fewer proved undeveloped net wells compared to the 126.5 proved undeveloped net wells included in the 2021 SEC case. This sensitivity is only meant to demonstrate the impact that changing commodity prices may have on estimated proved reserves and PV-10 and there is no assurance this outcome will be realized. The table below shows our proved reserves utilizing the 2021 SEC case compared with the $50 Flat Case.
| Price Cases | |||||||||||
SEC Case(1) | $50 Flat Case(2) | ||||||||||
| Net Proved Reserves (December 31, 2021) | |||||||||||
| Oil (MBbl) | |||||||||||
| Developed | 87,505 | 80,920 | |||||||||
| Undeveloped | 43,890 | 37,916 | |||||||||
| Total | 131,395 | 118,835 | |||||||||
| Natural Gas (MMcf) | |||||||||||
| Developed | 498,558 | 474,877 | |||||||||
| Undeveloped | 439,165 | 428,019 | |||||||||
| Total | 937,723 | 902,896 | |||||||||
| Total Proved Reserves (MBOE) | 287,682 | 269,318 | |||||||||
Pre-tax PV10% (in thousands)(3) | $ | 3,341,089 | $ | 2,046,465 | |||||||
_________________
(1)Represents reserves based on pricing prescribed by the SEC. The unescalated twelve month arithmetic average of the first day of the month posted prices were adjusted for transportation and quality differentials to arrive at prices of $62.25 per Bbl for oil and $3.37 per Mcf for natural gas. Production costs were held constant for the life of the wells.
(2)Prices based on $50.00 per Bbl for oil and $3.00 per MMbtu for natural gas, which were then adjusted for transportation and quality differentials to arrive at prices of $45.75 per Bbl for oil and $2.74 per Mcf for natural gas.
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(3)Pre-tax PV10%, or PV-10, may be considered a non-GAAP financial measure. See “Reconciliation of PV-10 to Standardized Measure” above for a reconciliation of the PV-10 of our SEC Case proved reserves to the Standardized Measure. GAAP does not prescribe a corresponding measure for PV-10 of proved reserves based on other than SEC prices. As a result, it is not practicable for us to reconcile the PV-10 of our proved reserves based on the alternate pricing scenarios.
Independent Petroleum Engineers
We have utilized Cawley, an independent reserve engineering firm, as our third-party engineering firm. The selection of Cawley was approved by our Audit Committee. Cawley is a reservoir-evaluation consulting firm who evaluates oil and natural gas properties and independently certifies petroleum reserves quantities for various clients throughout the United States. Cawley has substantial experience calculating the reserves of various other companies with operations targeting the Bakken and Three Forks formations and, as such, we believe Cawley has sufficient experience to appropriately determine our reserves. Cawley utilizes proprietary technology, systems and data to calculate our reserves commensurate with this experience. The reports of our estimated proved reserves in their entirety are based on the information we provide to them. Cawley is a Texas Registered Engineering Firm (F-693). Our primary contact at Cawley is Todd Brooker, President. Mr. Brooker is a State of Texas Licensed Professional Engineer (License #83462). He is also a member of the Society of Petroleum Engineers.
In accordance with applicable requirements of the SEC, estimates of our net proved reserves and future net revenues are made using average prices at the beginning of each month in the 12-month period prior to the date of such reserve estimates and are held constant throughout the life of the properties (except to the extent a contract specifically provides for escalation).
The reserves set forth in the Cawley report for the properties are estimated by performance methods or analogy. In general, reserves attributable to producing wells and/or reservoirs are estimated by performance methods such as decline curve analysis which utilizes extrapolations of historical production data. Reserves attributable to non-producing and undeveloped reserves included in our report are estimated by analogy. The estimates of the reserves, future production, and income attributable to properties are prepared using the economic software package Aries for Windows, a copyrighted program of Halliburton.
To estimate economically recoverable oil and natural gas reserves and related future net cash flows, we consider many factors and assumptions including, but not limited to, the use of reservoir parameters derived from geological, geophysical and engineering data which cannot be measured directly, economic criteria based on current costs and SEC pricing requirements, and forecasts of future production rates. Under the SEC regulations 210.4-10(a)(22)(v) and (26), proved reserves must be demonstrated to be economically producible based on existing economic conditions including the prices and costs at which economic productivity from a reservoir is to be determined as of the effective date of the report. With respect to the property interests we own, production and well tests from examined wells, normal direct costs of operating the wells or leases, other costs such as transportation and/or processing fees, production taxes, recompletion and development costs and product prices are based on the SEC regulations, geological maps, well logs, core analyses, and pressure measurements.
The reserve data set forth in the Cawley report represents only estimates, and should not be construed as being exact quantities. They may or may not be actually recovered, and if recovered, the actual revenues and costs could be more or less than the estimated amounts. Moreover, estimates of reserves may increase or decrease as a result of future operations.
Reservoir engineering is a subjective process of estimating underground accumulations of oil and natural gas that cannot be measured in an exact manner. There are numerous uncertainties inherent in estimating oil and natural gas reserves and their estimated values, including many factors beyond our control. The accuracy of any reserve estimate is a function of the quality of available data and of engineering and geologic interpretation and judgment. As a result, estimates of different engineers, including those used by us, may vary. In addition, estimates of reserves are subject to revision based upon actual production, results of future development and exploration activities, prevailing oil and natural gas prices, operating costs and other factors. The revisions may be material. Accordingly, reserve estimates are often different from the quantities of oil and natural gas that are ultimately recovered and are highly dependent upon the accuracy of the assumptions upon which they are based. Our estimated net proved reserves, included in our SEC filings, have not been filed with or included in reports to any other federal agency. See “Item 1A. Risk Factors – Our estimated reserves are based on many assumptions that may prove to be inaccurate. Any material inaccuracies in these reserve estimates or underlying assumptions will materially affect the quantities and present value of our reserves.”
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Internal Controls Over Reserves Estimation Process
We utilize a third-party reservoir engineering firm, as our independent reserves evaluator for 100% of our reserves base. In addition, we employ an internal reserve engineering department which is led by our Executive Vice President and Chief Engineer, who is responsible for overseeing the preparation of our reserves estimates. Our executive internal reserve engineer has a B.S. in petroleum engineering from Montana Tech, has over fifteen years of oil and gas experience on the reservoir side, and has experience working for large independents and financial firms on projects and acquisitions.
Our technical team meets with our independent third-party engineering firm to review properties and discuss evaluation methods and assumptions used in the proved reserves estimates, in accordance with our prescribed internal control procedures. Our internal controls over the reserves estimation process include verification of input data into our reserves evaluation software as well as management review, such as, but not limited to the following:
•Comparison of historical expenses from the lease operating statements and workover authorizations for expenditure to the operating costs input in our reserves database;
•Review of working interests and net revenue interests in our reserves database against our well ownership system;
•Review of historical realized prices and differentials from index prices as compared to the differentials used in our reserves database;
•Review of updated capital costs prepared by our operations team;
•Review of internal reserve estimates by well and by area by our internal reservoir engineer;
•Discussion of material reserve variances among our internal reservoir engineer and our executive management; and
•Review of a preliminary copy of the reserve report by executive management.
Production, Price and Production Expense History
The price that we receive for the oil and natural gas we produce is largely a function of market supply and demand. Demand is impacted by general economic conditions, weather and other seasonal conditions, including hurricanes and tropical storms. Over or under supply of oil or natural gas can result in substantial price volatility. Oil supply in the United States has grown dramatically over the past few years, and the supply of oil could impact oil prices in the United States if the supply outstrips domestic demand. Historically, commodity prices have been volatile, and we expect that volatility to continue in the future. A substantial or extended decline in oil or natural gas prices or poor drilling results could have a material adverse effect on our financial position, results of operations, cash flows, quantities of oil and natural gas reserves that may be economically produced and our ability to access capital markets.
The following table sets forth information regarding our oil and natural gas production, realized prices and production costs for the periods indicated. For additional information on price calculations, please see information set forth in “Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations.”
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| Years Ended December 31, | |||||||||||||||||
| 2021 | 2020 | 2019 | |||||||||||||||
| Net Production: | |||||||||||||||||
| Oil (Bbl) | 12,288,358 | 9,361,138 | 11,325,418 | ||||||||||||||
| Natural Gas and NGLs (Mcf) | 44,073,941 | 16,473,287 | 16,590,774 | ||||||||||||||
| Total (Boe) | 19,634,015 | 12,106,686 | 14,090,547 | ||||||||||||||
| Oil (Bbl) per day | 33,667 | 25,577 | 31,029 | ||||||||||||||
| Mcf per day | 120,751 | 45,009 | 45,454 | ||||||||||||||
| Total (Boe) per day | 53,792 | 33,078 | 38,604 | ||||||||||||||
| Average Sales Prices: | |||||||||||||||||
| Oil (per Bbl) | $ | 62.94 | $ | 32.61 | $ | 50.74 | |||||||||||
| Effect of Gain (Loss) on Settled Oil Derivatives on Average Price (per Bbl) | (10.17) | 20.08 | 3.92 | ||||||||||||||
| Oil Net of Settled Oil Derivatives (per Bbl) | 52.77 | 52.69 | 54.66 | ||||||||||||||
| Natural Gas and NGLs (per Mcf) | 4.57 | 1.14 | 1.60 | ||||||||||||||
| Effect of Gain (Loss) on Settled Natural Gas Derivatives on Average Price (per Mcf) | (0.92) | 0.02 | — | ||||||||||||||
| Natural Gas and NGLs Net of Settled Natural Gas Derivatives (per Mcf) | 3.65 | 1.16 | 1.60 | ||||||||||||||
| Realized Price on a Boe Basis Excluding Settled Commodity Derivatives | 49.66 | 26.77 | 42.67 | ||||||||||||||
| Effect of Gain (Loss) on Settled Commodity Derivatives on Average Price (per Boe) | (8.45) | 15.55 | 3.15 | ||||||||||||||
| Realized Price on a Boe Basis Including Settled Commodity Derivatives | 41.21 | 42.32 | 45.82 | ||||||||||||||
| Average Costs: | |||||||||||||||||
| Production Expenses (per Boe) | $ | 8.70 | $ | 9.61 | $ | 8.44 | |||||||||||
Drilling and Development Activity
The following table sets forth the number of gross and net productive and non-productive wells drilled in the years ended December 31, 2021, 2020 and 2019. The number of wells drilled refers to the number of wells completed at any time during the fiscal year, regardless of when drilling was initiated.
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| December 31, | |||||||||||||||||||||||||||||||||||
| 2021 | 2020 | 2019 | |||||||||||||||||||||||||||||||||
| Gross | Net(1) | Gross | Net(1) | Gross | Net(1) | ||||||||||||||||||||||||||||||
| Exploratory Wells: | |||||||||||||||||||||||||||||||||||
| Oil | — | — | — | — | — | — | |||||||||||||||||||||||||||||
| Natural Gas | — | — | — | — | — | — | |||||||||||||||||||||||||||||
| Non-Productive | — | — | — | — | — | — | |||||||||||||||||||||||||||||
| Development Wells: | |||||||||||||||||||||||||||||||||||
| Oil | 354 | 33.6 | 285 | 17.8 | 615 | 43.0 | |||||||||||||||||||||||||||||
| Natural Gas | 8 | 2.2 | — | — | — | — | |||||||||||||||||||||||||||||
| Non-Productive | — | — | — | — | — | — | |||||||||||||||||||||||||||||
| Total Productive Exploratory and Development Wells | 362 | 35.8 | 285 | 17.8 | 615 | 43.0 | |||||||||||||||||||||||||||||
______________
(1)Net Well totals in 2021, 2020 and 2019 do not include an additional 169.4, 1.0 and 90.1 net wells, respectively, from acquisitions which were already producing when acquired.
The following table summarizes our cumulative gross and net productive oil and natural gas wells by geographic area within the United States at each of December 31, 2021, 2020 and 2019. Wells are classified as oil or natural gas wells according to the predominant production stream. All of our wells in the Williston and Permian Basins are classified as oil wells, although they also produce natural gas and condensate. All of our wells in the Appalachian Basin are classified as natural gas wells.
| December 31, | |||||||||||||||||||||||||||||||||||
| 2021 | 2020 | 2019 | |||||||||||||||||||||||||||||||||
| Gross | Net | Gross | Net | Gross | Net | ||||||||||||||||||||||||||||||
| Williston Basin | 6,996 | 571.7 | 6,633 | 474.5 | 6,156 | 458.7 | |||||||||||||||||||||||||||||
| Permian Basin | 83 | 11.6 | 7 | 0.6 | — | — | |||||||||||||||||||||||||||||
| Appalachian Basin | 357 | 97.5 | — | — | — | — | |||||||||||||||||||||||||||||
| Total | 7,436 | 680.8 | 6,640 | 475.1 | 6,156 | 458.7 | |||||||||||||||||||||||||||||
As of December 31, 2021, we had an additional 360 gross (42.5 net) wells in process, meaning wells that have been spud and are in the process of drilling, completing or waiting on completion.
Leasehold Properties
As of December 31, 2021, our principal assets included approximately 245,431 net acres located in the United States. The following table summarizes our estimated gross and net developed and undeveloped acreage by geographic area at December 31, 2021.
| Developed Acreage | Undeveloped Acreage | Total Acreage | |||||||||||||||||||||||||||||||||
| Gross | Net | Gross | Net | Gross | Net | ||||||||||||||||||||||||||||||
| Williston Basin | 594,668 | 163,431 | 32,424 | 16,952 | 627,092 | 180,383 | |||||||||||||||||||||||||||||
| Permian Basin | 9,194 | 2,927 | 1,438 | 536 | 10,632 | 3,463 | |||||||||||||||||||||||||||||
| Appalachian Basin | 202,888 | 47,388 | 93,390 | 14,197 | 296,278 | 61,585 | |||||||||||||||||||||||||||||
| Total: | 806,750 | 213,746 | 127,252 | 31,685 | 934,002 | 245,431 | |||||||||||||||||||||||||||||
As of December 31, 2021, approximately 87% of our total acreage was developed. All of our proved reserves are located in the United States.
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Recent Acquisitions
We generally assess acreage subject to near-term drilling activities on a lease-by-lease basis because we believe each lease’s contribution to a subject spacing unit is best assessed on that basis if development timing is sufficiently clear. Consistent with that approach, a significant portion of our acreage acquisitions involve properties that are selected by us on a lease-by-lease basis for their participation in a well expected to be spud in the near future, and the subject leases are then aggregated to complete one single closing with the transferor. As such, we generally view each acreage assignment from brokers, landmen and other parties as involving several separate acquisitions combined into one closing with the common transferor for convenience. However, in certain instances an acquisition may involve a larger number of leases presented by the transferors as a single package without negotiation on a lease-by-lease basis. In those instances, we still review each lease on a lease-by-lease basis to ensure that the package as a whole meets our acquisition criteria and drilling expectations. See Note 3 and Note 14 to our financial statements regarding our recent acquisition activity.
Acreage Expirations
As a non-operator, we are subject to lease expirations if an operator does not commence the development of operations within the agreed terms of our leases. All of our leases for undeveloped acreage summarized in the table below will expire at the end of their respective primary terms, unless we renew the existing leases, establish commercial production from the acreage or some other “savings clause” is exercised. In addition, our leases typically provide that the lease does not expire at the end of the primary term if drilling operations have been commenced. While we generally expect to establish production from most of our acreage prior to expiration of the applicable lease terms, there can be no guarantee we can do so. The approximate expiration of our net acres which are subject to expire between 2022 and 2026 and thereafter, are set forth below:
| Acreage Subject to Expiration | ||||||||||||||
| Year Ended | Gross | Net | ||||||||||||
| December 31, 2022 | 37,618 | 7,421 | ||||||||||||
| December 31, 2023 | 31,300 | 5,746 | ||||||||||||
| December 31, 2024 | 26,931 | 6,614 | ||||||||||||
| December 31, 2025 | 13,047 | 4,555 | ||||||||||||
| December 31, 2026 and thereafter | 14,470 | 4,437 | ||||||||||||
| Total | 123,366 | 28,773 | ||||||||||||
During 2021, we had leases expire covering approximately 4,177 net acres. The 2021 lease expirations carried a cost of $3.0 million. We believe that the expired acreage was not material to our capital deployed.
Unproved Properties
All properties that are not classified as proved properties are considered unproved properties and, thus, the costs associated with such properties are not subject to depletion. Once a property is classified as proved, all associated acreage and drilling costs are subject to depletion.
We assess all items classified as unproved property on an annual basis, or if certain circumstances exist, more frequently, for possible impairment or reduction in value. The assessment includes consideration of the following factors, among others: intent to drill, remaining lease term, geological and geophysical evaluations, drilling results and activity, the assignment of proved reserves, and the economic viability of development if proved reserves are assigned. During any period in which these factors indicate an impairment, the cumulative drilling costs incurred to date for such property and all or a portion of the associated leasehold costs are transferred to the full cost pool and are then subject to depletion and amortization.
We historically have acquired our unproved properties by purchasing individual or small groups of leases directly from mineral owners, landmen, or lease brokers, which leases historically have not been subject to specified drilling projects, and by purchasing lease packages in identified project areas controlled by specific operators. We generally participate in drilling activities on a heads up basis by electing whether to participate in each well on a well-by-well basis at the time wells are proposed for drilling.
We believe that the majority of our unproved costs will become subject to depletion within the next five years by proving up reserves relating to our acreage through exploration and development activities, by impairing the acreage that will
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expire before we can explore or develop it further or by determining that further exploration and development activity will not occur. The timing by which all other properties will become subject to depletion will be dependent upon the timing of future drilling activities and delineation of our reserves.
Depletion of Oil and Natural Gas Properties
Our depletion expense is driven by many factors including certain exploration costs involved in the development of producing reserves, production levels and estimates of proved reserve quantities and future developmental costs. The following table presents our depletion expenses during 2021, 2020 and 2019.
| Years Ended December 31, | |||||||||||||||||
| (In thousands, except per Boe data) | 2021 | 2020 | 2019 | ||||||||||||||
| Depletion of Oil and Natural Gas Properties | $ | 138,759 | $ | 160,643 | $ | 209,050 | |||||||||||
| Depletion Expense (per Boe) | 7.07 | 13.27 | 14.84 | ||||||||||||||
Research and Development
We do not anticipate performing any significant research and development under our plan of operation.
Delivery Commitments
For our properties in the Appalachian Basin, we have contractually agreed to deliver firm quantities of natural gas to certain third parties, which we seek to fulfill with production from existing reserves. In the event we are not able to meet these firm commitments, we are subject to deficiency payments. As a non-operator, we have limited control over the drilling of new wells and primarily rely on our third-party operating partners in this regard. The following table summarizes our total net commitments as of December 31, 2021.
| (in Bcf) | Commitment Volumes | ||||
| 2022 | 19.0 | ||||
| 2023 | 19.0 | ||||
| 2024 | 18.4 | ||||
| 2025 | 3.2 | ||||
| Total | 59.6 | ||||
Item 3. Legal Proceedings
Our company is subject from time to time to litigation claims and governmental and regulatory proceedings arising in the ordinary course of business.
Item 4. Mine Safety Disclosures
None.
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PART II
Item 5. Market for Registrant’s Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities
Market Information
Our common stock trades on the New York Stock Exchange under the symbol “NOG.” The closing price for our common stock on February 24, 2022 was $23.26 per share.
Comparison Chart
The following information in this Item 5 of this Annual Report on Form 10-K is not deemed to be “soliciting material” or to be “filed” with the SEC or subject to Regulation 14A or 14C under the Securities Exchange Act of 1934 or to the liabilities of Section 18 of the Securities Exchange Act of 1934, and will not be deemed to be incorporated by reference into any filing under the Securities Act of 1933 or the Securities Exchange Act of 1934, except to the extent we specifically incorporate it by reference into such a filing.
The following graph compares the 60-month cumulative total shareholder return on our common stock since December 31, 2016, and the cumulative total returns of Standard & Poor’s Composite 500 Index and the NYSE Arca Oil Index (formerly the AMEX Oil Index) for the same period. This graph tracks the performance of a $100 investment in our common stock and in each index (with the reinvestment of all dividends) from December 31, 2016 to December 31, 2021.
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* The following table sets forth the total returns utilized to generate the foregoing graph.
| 12/31/2016 | 12/31/2017 | 12/31/2018 | 12/31/2019 | 12/31/2020 | 12/31/2021 | ||||||||||||||||||||||||||||||
| Northern Oil & Gas, Inc. | 100.00 | 74.55 | 82.18 | 85.09 | 31.85 | 75.40 | |||||||||||||||||||||||||||||
| S&P 500 | 100.00 | 121.83 | 116.49 | 153.17 | 181.35 | 233.41 | |||||||||||||||||||||||||||||
| NYSE Arca Oil Index | 100.00 | 114.61 | 105.34 | 114.58 | 75.70 | 109.17 | |||||||||||||||||||||||||||||
The stock price performance included in this graph is not necessarily indicative of future stock price performance.
Holders
As of February 21, 2022, we had 77,341,129 shares of our common stock outstanding, held by approximately 202 stockholders of record. The number of record holders does not necessarily bear any relationship to the number of beneficial owners of our common stock.
Recent Sales of Unregistered Securities
None, except to the extent previously included by the Company in a Quarterly Report on Form 10-Q or Current Report on Form 8-K.
Issuer Purchases of Equity Securities
The table below sets forth the information with respect to purchases made by or on behalf of the Company, or any “affiliated purchaser” (as defined in Rule 10b-18(a)(3) under the Securities Exchange Act of 1934), of our common stock during the quarter ended December 31, 2021.
| Period | Total Number of Shares Purchased(1) | Average Price Paid Per Share | Total Number of Shares Purchased as Part of Publicly Announced Plans or Programs | Approximate Dollar Value of Shares that May Yet be Purchased Under the Plans or Programs(2) | ||||||||||||||||||||||
| Month #1 | ||||||||||||||||||||||||||
| October 1, 2021 to October 31, 2021 | — | $ | — | — | $ 68.1 million | |||||||||||||||||||||
| Month #2 | ||||||||||||||||||||||||||
| November 1, 2021 to November 30, 2021 | — | — | — | 68.1 million | ||||||||||||||||||||||
| Month #3 | ||||||||||||||||||||||||||
| December 1, 2021 to December 31, 2021 | — | — | — | 68.1 million | ||||||||||||||||||||||
| Total | — | $ | — | — | $ 68.1 million | |||||||||||||||||||||
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(1)Any shares purchased outside of publicly announced plans or programs represent shares surrendered in satisfaction of tax withholding obligations in connection with the vesting of restricted stock awards.
(2)In May 2011, our board of directors approved a stock repurchase program to acquire up to $150 million worth of shares of our Company’s outstanding common stock.
Item 6. [RESERVED]
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Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations
The following discussion should be read in conjunction with our financial statements and accompanying notes to financial statements appearing elsewhere in this report. See Item 7., “Management’s Discussion and Analysis of Financial Condition and Results of Operations” included in our Annual Report on Form 10-K for the year ended December 31, 2020, which is incorporated herein by reference, for discussion and analysis of results of operations for the year ended December 31, 2019.
Executive Overview
Our primary strategy is to invest in non-operated minority working and mineral interests in oil and gas properties, with a core area of focus in the premier basins within the United States. Using this strategy, we had participated in 7,436 gross (680.8 net) producing wells as of December 31, 2021. As of December 31, 2021, we had leased approximately 245,431 net acres, of which approximately 87% were developed and all were located in the United States.
Our average daily production for full year 2021 was 53,792 Boe per day, and in the fourth quarter of 2021 was 64,155 Boe per day (approximately 59% oil). This represented significant growth from 2020, which was driven in large part by three substantial acquisitions that we completed during 2021: the Reliance Acquisition, the CM Resources Acquisition and the Comstock Acquisition, each as defined and described in Note 3 to our financial statements (collectively, the “2021 Acquisitions”).
During 2021, we added 35.8 new net wells to production, plus an additional 169.4 net wells added from acquisitions which were already producing when acquired. We ended 2021 with 42.5 net wells in process.
Our financial and operating performance for the year ended December 31, 2021 included the following:
•Oil and natural gas sales of $975.1 million in 2021
•Cash flows from operations of $396.5 million in 2021
•Proved reserves of 287.7 MMBoe at December 31, 2021, as estimated by our third-party reserve engineers under SEC guidelines
•Grew and diversified the business through over $400 million in substantial bolt-on acquisitions in multiple basins, conservatively financed through a combination of debt and equity
•Initiated a shareholder return program in the form of quarterly cash dividends on our common stock, which started at $0.03 per share for the second quarter of 2021 and grew to $0.08 per share for the fourth quarter of 2021
•Reduced outstanding indebtedness from $949.8 million at December 31, 2020 to $805.0 million at December 31, 2021
•Issued $750.0 million in aggregate principal amount of senior unsecured notes due 2028 and $438.1 million in common stock (net of offering expenses), the proceeds of which were used (i) to fund our 2021 Acquisitions and in preparation for the Veritas Acquisition, (ii) to retire $417.8 million of term debt with near-term maturities, (iii) to repay revolving credit facility borrowings, allowing us to exit 2021 with $704.5 million in liquidity, and (iv) for general corporate purposes
Impacts of COVID-19 Pandemic and Economic Environment
The novel coronavirus disease (COVID-19) and efforts to mitigate the spread of the disease have created unprecedented challenges for our industry, including a drastic decline in demand for crude oil. This, combined with OPEC actions in early 2020, led to spot and future prices of crude oil falling to historic lows during the second quarter of 2020 and remaining depressed through much of 2020. Operators in the Williston Basin responded by significantly decreasing drilling and completion activity, and by shutting in or curtailing production from a significant number of producing wells. Conditions have significantly improved with the recovery and rally of commodity prices from late 2020 through the end of 2021, but operators’ decisions on these matters are evolving rapidly, and it remains difficult to predict the future effects on our company
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and its business. However, we expect that our cash flow from operations and borrowing availability under our Revolving Credit Facility will allow us to meet our liquidity needs for at least the next twelve 12 months.
Source of Our Revenues
We derive our revenues from the sale of oil, natural gas and NGLs produced from our properties. Revenues are a function of the volume produced, the prevailing market price at the time of sale, oil quality, Btu content and transportation costs to market. We use derivative instruments to hedge future sales prices on a substantial, but varying, portion of our oil and natural gas production. We expect our derivative activities will help us achieve more predictable cash flows and reduce our exposure to downward price fluctuations. The use of derivative instruments has in the past, and may in the future, prevent us from realizing the full benefit of upward price movements but also mitigates the effects of declining price movements.
Principal Components of Our Cost Structure
•Commodity price differentials. The price differential between our well head price for oil and the NYMEX WTI benchmark price is primarily driven by the cost to transport oil via train, pipeline or truck to refineries. The price differential between our well head price for natural gas and NGLs and the NYMEX Henry Hub benchmark price is primarily driven by gathering and transportation costs.
•Gain (loss) on commodity derivatives, net. We utilize commodity derivative financial instruments to reduce our exposure to fluctuations in the prices of oil and gas. Gain (loss) on commodity derivatives, net is comprised of (i) cash gains and losses we recognize on settled commodity derivatives during the period, and (ii) non-cash mark-to-market gains and losses we incur on commodity derivative instruments outstanding at period-end.
•Production expenses. Production expenses are daily costs incurred to bring oil and natural gas out of the ground and to the market, together with the daily costs incurred to maintain our producing properties. Such costs also include field personnel compensation, salt water disposal, utilities, maintenance, repairs and servicing expenses related to our oil and natural gas properties.
•Production taxes. Production taxes are paid on produced oil and natural gas based on a percentage of revenues from products sold at market prices (not hedged prices) or at fixed rates established by federal, state or local taxing authorities. We seek to take full advantage of all credits and exemptions in our various taxing jurisdictions. In general, the production taxes we pay correlate to the changes in oil and natural gas revenues.
•Depreciation, depletion, amortization and accretion. Depreciation, depletion, amortization and accretion includes the systematic expensing of the capitalized costs incurred to acquire, explore and develop oil and natural gas properties. As a full cost company, we capitalize all costs associated with our development and acquisition efforts and allocate these costs to each unit of production using the units-of-production method. Accretion expense relates to the passage of time of our asset retirement obligations.
•General and administrative expenses. General and administrative expenses include overhead, including payroll and benefits for our corporate staff, costs of maintaining our headquarters, costs of managing our acquisition and development operations, franchise taxes, audit and other professional fees and legal compliance.
•Interest expense. We finance a portion of our working capital requirements, capital expenditures and acquisitions with borrowings. As a result, we incur interest expense that is affected by both fluctuations in interest rates and our financing decisions. We capitalize a portion of the interest paid on applicable borrowings into our unproven cost pool. We include interest expense that is not capitalized into the full cost pool, the amortization of deferred financing costs and bond premiums (including origination and amendment fees), commitment fees and annual agency fees as interest expense.
•Impairment expense. Under the full cost method of accounting, the Company is required to perform a ceiling test each quarter. The test determines a limit, or ceiling, on the book value of the proved oil and gas properties. If the net book value, including related deferred taxes, exceeds the ceiling, a non-cash impairment expense is required.
•Income tax expense. Our provision for taxes includes both federal and state taxes. We record our federal income taxes in accordance with accounting for income taxes under GAAP which results in the recognition of deferred tax assets and liabilities for the expected future tax consequences of temporary differences between the book carrying amounts and the tax basis of assets and liabilities. Deferred tax assets and liabilities are measured using enacted tax
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rates expected to apply to taxable income in the years in which those temporary differences and carryforwards are expected to be recovered or settled. The effect on deferred tax assets and liabilities of a change in tax rates is recognized in income in the period that includes the enactment date. A valuation allowance is established to reduce deferred tax assets if it is more likely than not that the related tax benefits will not be realized.
Selected Factors That Affect Our Operating Results
Our revenues, cash flows from operations and future growth depend substantially upon:
•the timing and success of drilling and production activities by our operating partners;
•the prices and the supply and demand for oil, natural gas and NGLs;
•the quantity of oil and natural gas production from the wells in which we participate;
•changes in the fair value of the derivative instruments we use to reduce our exposure to fluctuations in the price of oil;
•our ability to continue to identify and acquire high-quality acreage and drilling opportunities; and
•the level of our operating expenses.
In addition to the factors that affect companies in our industry generally, the location of substantially all of our acreage and wells in the Williston, Appalachian and Permian Basins subjects our operating results to factors specific to these regions. These factors include the potential adverse impact of weather on drilling, production and transportation activities, particularly during the winter and spring months, as well as infrastructure limitations, transportation capacity, regulatory matters and other factors that may specifically affect one or more of these regions.
The price of oil can vary depending on the market in which it is sold and the means of transportation used to transport the oil to market, particularly in the Williston Basin where a substantial majority of our revenues are derived. Additional pipeline infrastructure has increased takeaway capacity in the Williston Basin which has improved wellhead values in the region.
The price at which our oil production is sold typically reflects a discount to the NYMEX benchmark price. The price at which our natural gas production is sold may reflect either a discount or premium to the NYMEX benchmark price. Thus, our operating results are also affected by changes in the oil price differentials between the applicable benchmark and the sales prices we receive for our oil production. Our oil price differential to the NYMEX benchmark price during 2021 was $5.15 per barrel, as compared to $6.63 per barrel in 2020. Our net realized gas price during 2021 was $4.57 per Mcf, representing 100% realization relative to average Henry Hub pricing, compared to a net realized gas price of $1.14 per Mcf during 2020. Fluctuations in our price differentials and realizations are due to several factors such as gathering and transportation costs, takeaway capacity relative to production levels, regional storage capacity, and seasonal refinery maintenance temporarily depressing demand.
Another significant factor affecting our operating results is drilling costs. The cost of drilling wells can vary significantly, driven in part by volatility in commodity prices that can substantially impact the level of drilling activity. Generally, higher oil prices have led to increased drilling activity, with the increased demand for drilling and completion services driving these costs higher. Lower oil prices have generally had the opposite effect. In addition, individual components of the cost can vary depending on numerous factors such as the length of the horizontal lateral, the number of fracture stimulation stages, and the type and amount of proppant. During 2021, the weighted average authorization for expenditure (or AFE) cost for wells we elected to participate in was $6.9 million, compared to $7.5 million for the wells we elected to participate in during 2020.
Market Conditions
The price that we receive for the oil and natural gas we produce is largely a function of market supply and demand. Because our oil and gas revenues are heavily weighted toward oil, we are more significantly impacted by changes in oil prices than by changes in the price of natural gas. World-wide supply in terms of output, especially production from properties within the United States, the production quota set by OPEC, and the strength of the U.S. dollar can adversely impact oil prices.
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Historically, commodity prices have been volatile and we expect the volatility to continue in the future. Factors impacting the future oil supply balance are world-wide demand for oil, as well as the growth in domestic oil production.
Prices for various quantities of natural gas, NGLs and oil that we produce significantly impact our revenues and cash flows. The following table lists average NYMEX prices for oil and natural gas for the years ended December 31, 2021 and 2020.
| December 31, | |||||||||||
| 2021 | 2020 | ||||||||||
Average NYMEX Prices(1) | |||||||||||
| Oil (per Bbl) | $ | 68.09 | $ | 39.24 | |||||||
| Natural Gas (per Mcf) | 3.84 | 2.01 | |||||||||
________________________
(1)Based on average NYMEX closing prices.
The average 2021 NYMEX oil pricing was $68.09 per barrel of oil or 74% higher than the average NYMEX price per barrel in 2020. Our settled derivatives decreased our realized oil price per barrel by $10.17 in 2021 and increased our realized oil price per barrel by $20.08 in 2020. Our average 2021 realized oil price per barrel after reflecting settled derivatives was $52.77 compared to $52.69 in 2020. The average 2021 NYMEX natural gas pricing was $3.84 per Mcf, or 91% higher than the average NYMEX price per Mcf in 2020. Our settled derivatives decreased our realized natural gas price per Mcf by $0.92 in 2021 and increased our realized natural gas price per Mcf by $0.02 in 2020. Our 2021 realized gas price per Mcf was $3.65 compared to $1.16 in 2020, which was primarily driven by higher NYMEX pricing for natural gas and gas realizations, which was partially offset by decrease in settled derivatives.
We employ a hedging program that mitigates the risk associated with fluctuations in commodity prices. For detailed information on our commodity hedging program, see Item 7A Quantitative and Qualitative Disclosures about Market Risk and Note 12 to our financial statements.
Results of Operations for 2021 and 2020
The following table sets forth selected operating data for the periods indicated. Production volumes and average sales prices are derived from accrued accounting data for the relevant period indicated.
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| Years Ended December 31, | |||||||||||
| 2021 | 2020 | ||||||||||
| Net Production: | |||||||||||
| Oil (Bbl) | 12,288,358 | 9,361,138 | |||||||||
| Natural Gas and NGLs (Mcf) | 44,073,941 | 16,473,287 | |||||||||
| Total (Boe) | 19,634,015 | 12,106,686 | |||||||||
| Net Sales (in thousands): | |||||||||||
| Oil Sales | $ | 773,470 | $ | 305,249 | |||||||
| Natural Gas and NGL Sales | 201,619 | 18,802 | |||||||||
| Gain (Loss) on Settled Commodity Derivatives | (165,823) | 188,264 | |||||||||
| Gain (Loss) on Unsettled Commodity Derivatives | (312,370) | 39,878 | |||||||||
| Other Revenue | 3 | 17 | |||||||||
| Total Revenues | 496,899 | 552,210 | |||||||||
| Average Sales Prices: | |||||||||||
| Oil (per Bbl) | $ | 62.94 | $ | 32.61 | |||||||
| Effect of Gain (Loss) on Settled Oil Derivatives on Average Price (per Bbl) | (10.17) | 20.08 | |||||||||
| Oil Net of Settled Oil Derivatives (per Bbl) | 52.77 | 52.69 | |||||||||
| Natural Gas and NGLs (per Mcf) | 4.57 | 1.14 | |||||||||
| Effect of Gain (Loss) on Settled Natural Gas Derivatives on Average Price (per Mcf) | (0.92) | 0.02 | |||||||||
| Natural Gas and NGLs Net of Settled Natural Gas Derivatives (per Mcf) | 3.65 | 1.16 | |||||||||
| Realized Price on a Boe Basis Excluding Settled Commodity Derivatives | 49.66 | 26.77 | |||||||||
| Effect of Gain (Loss) on Settled Commodity Derivatives on Average Price (per Boe) | (8.45) | 15.55 | |||||||||
| Realized Price on a Boe Basis Including Settled Commodity Derivatives | 41.21 | 42.32 | |||||||||
| Operating Expenses (in thousands): | |||||||||||
| Production Expenses | $ | 170,817 | $ | 116,336 | |||||||
| Production Taxes | 76,954 | 29,783 | |||||||||
| General and Administrative Expenses | 30,341 | 18,546 | |||||||||
| Depletion, Depreciation, Amortization and Accretion | 140,828 | 162,120 | |||||||||
| Costs and Expenses (per Boe): | |||||||||||
| Production Expenses | $ | 8.70 | $ | 9.61 | |||||||
| Production Taxes | 3.92 | 2.46 | |||||||||
| General and Administrative Expenses | 1.55 | 1.53 | |||||||||
| Depletion, Depreciation, Amortization and Accretion | 7.17 | 13.39 | |||||||||
| Net Producing Wells at Period-End | 680.8 | 475.1 | |||||||||
Oil and Natural Gas Sales
Our revenues vary from year to year primarily as a result of changes in realized commodity prices and production volumes. In 2021, our oil, natural gas and NGL sales, excluding the effect of settled commodity derivatives, increased 201%
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from 2020, driven by a 62% increase in production volumes and an 86% increase in realized prices, excluding the effect of settled commodity derivatives. The higher average realized price in 2021 as compared to 2020 was driven by higher average NYMEX oil and natural gas prices, a lower average oil price differential, and higher average gas realizations in 2021 as compared to 2020. Oil price differential during 2021 averaged $5.15 per barrel, as compared to $6.63 per barrel in 2020.
We add production through drilling success as we place new wells into production and through additions from acquisitions, which is offset by the natural decline of our oil and natural gas production from existing wells. Our acquisition program is a significant driver of our net well additions in certain years. In 2021, our substantial acquisition activities (see Note 3 to our financial statements) combined with increased development activity helped drive an increase in production levels as compared to 2020. In 2021, the number of net wells we added to production (excluding acquisitions) increased by 101% as compared to 2020. The 2021 Acquisitions and increased new well additions drove the 62% increase in production in 2021 as compared to 2020.
Our production for the last two years is set forth in the following table:
| Year Ended December 31, | |||||||||||
| 2021 | 2020 | ||||||||||
| Production: | |||||||||||
| Oil (Bbl) | 12,288,358 | 9,361,138 | |||||||||
| Natural Gas and NGL (Mcf) | 44,073,941 | 16,473,287 | |||||||||
Total (Boe)(1) | 19,634,015 | 12,106,686 | |||||||||
| Average Daily Production: | |||||||||||
| Oil (Bbl) | 33,667 | 25,577 | |||||||||
| Natural Gas and NGL (Mcf) | 120,751 | 45,009 | |||||||||
Total (Boe)(1) | 53,792 | 33,078 | |||||||||
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(1)Natural gas and NGLs are converted to Boe at the rate of one barrel equals six Mcf based upon the approximate relative energy content of oil and natural gas, which is not necessarily indicative of the relationship of oil and natural gas prices.
Commodity Derivative Instruments
We enter into commodity derivative instruments to manage the price risk attributable to future oil and natural gas production. Our gain (loss) on commodity derivatives, net was a loss of $478.2 million in 2021, compared to a gain of $228.1 million in 2020. Gain (loss) on commodity derivatives, net is comprised of (i) cash gains and losses we recognize on settled commodity derivative instruments during the period, and (ii) unsettled gains and losses we incur on commodity derivative instruments outstanding at period-end.
For 2021, we realized a loss on settled commodity derivatives of $165.8 million, compared to a $188.3 million gain in 2020. The percentage of oil production hedged under our derivative contracts was 73% and 104% in 2021 and 2020, respectively. The weighted average oil price on our settled commodity derivative contracts in 2021 and 2020 was $55.56 and $58.04, respectively. Our average realized price (including all commodity derivative cash settlements) in 2021 was $41.21 per Boe compared to $42.32 per Boe in 2020. The gain (loss) on settled commodity derivatives decreased our average realized price per Boe by $8.45 in 2021, and increased our average realized price per Boe by $15.55 in 2020.
Unsettled commodity derivative gains and losses was a loss of $312.4 million in 2021 compared to a gain of $39.9 million in 2020. Our derivatives are not designated for hedge accounting and are accounted for using the mark-to-market accounting method whereby gains and losses from changes in the fair value of derivative instruments are recognized immediately into earnings. Mark-to-market accounting treatment creates volatility in our revenues as gains and losses from unsettled derivatives are included in total revenues and are not included in accumulated other comprehensive income in the accompanying balance sheets. As commodity prices increase or decrease, such changes will have an opposite effect on the mark-to-market value of our commodity derivatives. Any gains on our unsettled commodity derivatives are expected to be offset by lower wellhead revenues in the future, while any losses are expected to be offset by higher future wellhead revenues based on the value at the settlement date. At December 31, 2021, all of our derivative contracts are recorded at their fair value, which was a net liability of $277.7 million, a change of $311.3 million from the $33.7 million net asset recorded as of December 31, 2020. The increase in the net liability at December 31, 2021 as compared to December 31, 2020 was primarily
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due to changes in forward commodity prices relative to prices on our open commodity derivative contracts since December 31, 2020. Our open commodity derivative contracts are summarized in “Item 7A. Quantitative and Qualitative Disclosures about Market Risk—Commodity Price Risk.”
Production Expenses
Production expenses were $170.8 million in 2021 compared to $116.3 million in 2020. On a per unit basis, production expenses decreased 9% from $9.61 per Boe in 2020 to $8.70 per Boe in 2021 due primarily to higher production volumes over which fixed costs can be spread and the mix of production expense by basin as we added production from the Permian and Appalachian Basins, which was partially offset by higher processing and saltwater disposal charges. On an absolute dollar basis, the 47% increase in our production expenses in 2021 compared to 2020 was primarily due to a 62% increase in production, offset by a 9% decrease in per unit costs.
Production Taxes
We pay production taxes based on realized oil and natural gas sales. Production taxes were $77.0 million in 2021 compared to $29.8 million in 2020. As a percentage of oil and natural gas sales, our production taxes were 7.9% and 9.2% in 2021 and 2020, respectively. The fluctuation in our average production tax rate from year to year is primarily due to changes in our oil sales as a percentage of our total oil and natural gas sales and the mix of our production volumes by basin. Oil sales are taxed at a higher rate than gas sales for the Williston and Permian Basins and we do not pay production taxes in the Appalachian Basin.
General and Administrative Expenses
General and administrative expenses were $30.3 million for 2021 compared to $18.5 million for 2020. The increase in 2021 compared to 2020 was primarily due to an $8.1 million increase in acquisition costs due to our 2021 Acquisitions, a $2.3 million increase in compensation costs and a $0.6 million increase in professional fees.
Depletion, Depreciation, Amortization and Accretion
Depletion, depreciation, amortization and accretion (“DD&A”) was $140.8 million in 2021 compared to $162.1 million in 2020. Depletion expense, the largest component of DD&A, was $7.07 per Boe in 2021 compared to $13.27 per Boe in 2020. The aggregate decrease in depletion expense for 2021 compared to 2020 was driven by a 47% decrease in the depletion rate per Boe partially offset by a 62% increase in production levels. The 2021 depletion rate per Boe was lower due to the impact of impairments in 2020. The following table summarizes DD&A expense per Boe for 2021 and 2020 :
| Year Ended December 31, | |||||||||||||||||||||||
| 2021 | 2020 | Change | Change | ||||||||||||||||||||
| Depletion | $ | 7.07 | $ | 13.27 | $ | (6.20) | (47) | % | |||||||||||||||
| Depreciation, Amortization, and Accretion | 0.11 | 0.12 | (0.01) | (8) | % | ||||||||||||||||||
| Total DD&A expense | $ | 7.18 | $ | 13.39 | $ | (6.21) | (46) | % | |||||||||||||||
Impairment of Oil and Natural Gas Properties
We did not record any impairment of our proved oil and gas properties in 2021. In 2020, as a result of low commodity prices and their effect on the proved reserve values of our properties, we recorded a non-cash ceiling test impairment of $1.1 billion. The impairment charge affected our reported net income in 2020 but did not reduce our cash flow.
Depending on future commodity price levels, the trailing twelve-month average price used in the ceiling calculation may decline, which could cause additional future write downs of our oil and natural gas properties. In addition to commodity prices, our production rates, levels of proved reserves, future development costs, transfers of unevaluated properties and other factors will determine our actual ceiling test calculation and impairment analysis in future periods.
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Interest Expense
Interest expense, net of capitalized interest, was $59.0 million in 2021 compared to $58.5 million in 2020. The increase in interest expense for 2021 as compared to 2020 was primarily due to the issuance of our Senior Notes due 2028 which was partially offset by a reduction in our outstanding borrowings on our Revolving Credit Facility in 2021.
Loss on the Extinguishment of Debt
As a result of refinancing transactions during 2021 (see Note 4 to our financial statements), we recorded a loss on the extinguishment of debt of $13.1 million for the year ended December 31, 2021, based on the differences between the reacquisition costs of retiring our Second Lien Notes and the net carrying values thereof. During 2020, we recorded a loss on extinguishment of debt of $3.7 million as a result of a series of exchange transactions of our Second Lien Notes, based on the differences between the reacquisition costs of retiring the applicable debt and the net carrying values thereof.
Contingent Consideration Gain (Loss)
We have incurred contingent consideration liabilities in connection with certain acquisitions of oil and gas properties. During the years ended December 31, 2021 and 2020, we recorded contingent consideration losses of $0.3 million and $0.2 million, respectively, due to the change in the fair value of these liabilities. As of December 31, 2021, there were no remaining outstanding contingent consideration liabilities.
Income Tax Expense (Benefit)
We recognized income tax expense (benefit) of $0.2 million and $(0.2) million in 2021 and 2020, respectively. In 2021, we recorded income tax expense as a result of state income tax requirements related to our Permian and Appalachian Basin properties. In 2020, the tax benefits recognized related to the utilization of our alternative minimum tax credit as a result of favorable tax incentives. We have recorded a valuation allowance against effectively all of our net deferred tax assets due to uncertainty regarding their realization.
We intend to continue maintaining a full valuation allowance on our deferred tax assets until there is sufficient evidence to support the reversal of all or some portion of these allowances. Release of any portion of the valuation allowance would result in the recognition of certain deferred tax assets and a decrease to income tax expense for the period the release is recorded. However, the exact timing and amount of the valuation allowance release are subject to change on the basis of the level of profitability that we are able to actually achieve. For further discussion of our valuation allowance, see Note 10 to our financial statements.
Liquidity and Capital Resources
Overview
Our main sources of liquidity and capital resources as of the date of this report have been internally generated cash flow from operations, proceeds from equity and debt financings, credit facility borrowings, and cash settlements of commodity derivative instruments. Our primary uses of capital have been for the acquisition and development of our oil and natural gas properties. We continually monitor potential capital sources for opportunities to enhance liquidity or otherwise improve our financial position.
As of December 31, 2021, we had outstanding debt consisting of $55.0 million of borrowings under our Revolving Credit Facility, and $750.0 million aggregate principal amount of senior unsecured notes due 2028 (the “2028 Notes”). We had $704.5 million in liquidity as of December 31, 2021, consisting of $695.0 million of committed borrowing availability under the Revolving Credit Facility and $9.5 million of cash on hand.
We completed three substantial acquisitions during 2021: the Reliance Acquisition, the CM Resources Acquisition and the Comstock Acquisition (collectively, the “2021 Acquisitions”) (see Note 3 to our financial statements). In addition, in January 2022 we completed the Veritas Acquisition pursuant to a purchase and sale agreement that we entered into and announced in November 2021 (see Note 14 to our financial statements).
During 2021 we completed a number of significant financing transactions, many of which were related to these acquisitions, including:
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•a common stock offering in February 2021 with net proceeds of $132.9 million, which was primarily intended to finance the cash purchase price for the Reliance Acquisition that closed on April 1, 2021;
•a common stock offering in June 2021 with net proceeds of $95.3 million, which was primarily intended to finance the cash purchase price for the CM Resources Acquisition that closed in the third quarter of 2021;
•a common stock offering in November 2021 with net proceeds of $209.9 million, which was primarily intended to finance the cash purchase price for the Veritas Acquisition that closed in the first quarter of 2022, and in the interim was used to pay down outstanding borrowings under our Revolving Credit Facility;
•the issuance of $750.0 million in aggregate principal amount of new 8.125% senior unsecured notes due 2028 (the “2028 Notes”), of which $550.0 million was issued in February 2021 and an additional $200.0 million was issued in November 2021;
•the full repayment and retirement of all $130.0 million in principal amount of our 6.0% senior unsecured promissory note due 2022 (the “Unsecured VEN Bakken Note”);
•the full redemption and retirement of all $287.8 million in principal amount of our 8.500% senior secured second lien notes due 2023 (the “Second Lien Notes”); and
•the reduction of amount of borrowings outstanding under our Revolving Credit Facility from $532.0 million as of December 31, 2020 to $55.0 million as of December 31, 2021.
One of the primary sources of variability in our cash flows from operating activities is commodity price volatility. Oil accounted for 63% and 77% of our total production volumes in 2021 and 2020, respectively. As a result, our operating cash flows are more sensitive to fluctuations in oil prices than they are to fluctuations in natural gas and NGL prices. We seek to maintain a robust hedging program to mitigate volatility in commodity prices with respect to a portion of our expected production. For the years ended 2021 and 2020, we hedged approximately 73% and 104% of our crude oil production, respectively. For a summary as of December 31, 2021, of our open commodity swap contracts for future periods, see “Item 7A. Quantitative and Qualitative Disclosures about Market Risk” below.
With our cash on hand, cash flow from operations, and borrowing capacity under our Revolving Credit Facility, we believe that we will have sufficient cash flow and liquidity to fund our budgeted capital expenditures and operating expenses for at least the next twelve months. However, we may seek additional access to capital and liquidity. We cannot assure you, however, that any additional capital will be available to us on favorable terms or at all.
Our recent capital commitments have been to fund acquisitions and development of oil and natural gas properties. We expect to fund our near-term capital requirements and working capital needs with cash flows from operations and available borrowing capacity under our Revolving Credit Facility. Our capital expenditures could be curtailed if our cash flows decline from expected levels. Because production from existing oil and natural gas wells declines over time, reductions of capital expenditures used to drill and complete new oil and natural gas wells would likely result in lower levels of oil and natural gas production in the future.
Working Capital
Our working capital balance fluctuates as a result of changes in commodity pricing and production volumes, collection of receivables, expenditures related to our development and production operations and the impact of our outstanding derivative instruments.
At December 31, 2021, we had a working capital deficit of $112.2 million, compared to a deficit of $56.8 million at December 31, 2020. Current assets increased by $89.7 million and current liabilities increased by $145.1 million at December 31, 2021, compared to December 31, 2020. The increase in current assets in 2021 as compared to 2020 is primarily due to an increase of $122.5 million in accounts receivable primarily due to our higher production levels and higher commodity prices and an increased cash balance, which was partially offset by a decrease of $48.8 million in our derivative instruments, due to the change in fair value as a result of commodity price projections. The change in current liabilities in 2021 as compared to 2020 is primarily due to an increase of $66.6 million in accounts payable and accrued expenses primarily as a result of increased development activity and an increase of $131.2 million in derivative instruments as a result of forward commodity price changes, which was partially offset by the current maturity of our first Unsecured VEN Bakken Note payment of $65.0 million that was paid on January 4, 2021. Additionally, our accrued interest increased by $12.2 million as a result of the timing
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of interest payments on our newly issued 2028 Notes compared to the timing of interest payments on our prior debt instruments outstanding during 2020.
Cash Flows
Cash flows from operations are primarily affected by production volumes and commodity prices, net of the effects of settlements of our derivative contracts, and by changes in working capital. Any interim cash needs are funded by cash on hand, cash flows from operations or borrowings under our Revolving Credit Facility. The Company typically enters into commodity derivative transactions covering a substantial, but varying, portion of its anticipated future oil and gas production for the next 12 to 24 months. See “Item 7A. Quantitative and Qualitative Disclosures about Market Risk.”
Our cash flows for the years ended December 31, 2021 and 2020 are presented below:
| Year Ended December 31, | |||||||||||
| (In thousands) | 2021 | 2020 | |||||||||
| Net Cash Provided by Operating Activities | $ | 396,467 | $ | 331,685 | |||||||
| Net Cash Used for Investing Activities | (634,434) | (283,926) | |||||||||
| Net Cash Provided by (Used for) Financing Activities | 246,059 | (62,399) | |||||||||
| Net Change in Cash | $ | 8,092 | $ | (14,640) | |||||||
Cash Flows from Operating Activities
Net cash provided by operating activities in 2021 was $396.5 million, compared to $331.7 million in 2020. This increase was driven by a 62% year-over-year increase in production levels, which was partially offset by a 3% decrease in realized prices (including the effect of settled derivatives). Net cash provided by operating activities is also affected by working capital changes or the timing of cash receipts and disbursements. Changes in working capital and other items (as reflected in our statements of cash flows) in the year ended December 31, 2021 was a decrease of $85.8 million compared to an increase of $34.1 million in 2020.
Cash Flows from Investing Activities
We had cash flows used in investing activities of $634.4 million and $283.9 million during the years ended December 31, 2021 and 2020, respectively, primarily as a result of our capital expenditures for drilling, development and acquisition costs. The year-over-year increase in cash used in investing activities in 2021 was attributable to our 2021 Acquisitions and higher development spending as a result of the higher commodity price environment from the rebound of the COVID-19 pandemic. In addition, cash flows used in investing activities included a $40.7 million acquisition deposit for our Veritas Acquisition that was pending at year-end 2021. During 2021 and 2020 we added 35.8 and 17.8 net wells to production, respectively, in each case excluding already producing wells from acquisitions.
Our cash flows used in investing activities reflects actual cash spending, which can lag several months from when the related costs were incurred. As a result, our actual cash spending is not always reflective of current levels of development activity. For instance, during the year ended December 31, 2021, our capitalized costs incurred, excluding non-cash consideration, for oil and natural gas properties (e.g. drilling and completion costs, acquisitions, and other capital expenditures) amounted to $656.2 million, while the actual cash spend in this regard amounted to $593.2 million.
Development and acquisition activities are discretionary. We monitor our capital expenditures on a regular basis, adjusting the amount up or down, and between projects, depending on projected commodity prices, cash flows and returns. Our cash spend for development and acquisition activities for the years ended December 31, 2021 and 2020 are summarized in the following table:
| Year Ended December 31, | |||||||||||
| (In millions) | 2021 | 2020 | |||||||||
| Drilling and Development Capital Expenditures | $ | 180.8 | $ | 235.4 | |||||||
| Acquisition of Oil and Natural Gas Properties | $ | 410.4 | 47.0 | ||||||||
| Other Capital Expenditures | $ | 2.0 | 1.2 | ||||||||
| Total | $ | 593.2 | $ | 283.6 | |||||||
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Cash Flows from Financing Activities
Net cash (used for) provided by financing activities was $246.1 million and $(62.4) million for the years ended December 31, 2021 and 2020, respectively. The cash provided by financing activities in 2021 was primarily related to $763.5 million of net proceeds from our offering of 2028 Notes and $438.1 million of net proceeds from our offerings of common stock, which was partially offset by $295.9 million in repurchases of Second Lien Notes, retirement of our Unsecured VEN Bakken Note of $130.0 million and net repayments under our Revolving Credit Facility of $477.0 million. Additionally, we paid common and preferred stock dividends of $4.9 million and $29.2 million, respectively, and spent $17.6 million in fees in connection with debt financing transactions in 2021.
The cash used for financing activities in 2020 was primarily related to a net decrease in borrowings of $48.0 million on our Revolving Credit Facility and repurchases of $13.5 million aggregate principal amount of our Second Lien Notes.
Revolving Credit Facility
In November 2019, we entered into a revolving credit facility with Wells Fargo Bank, as administrative agent, and the lenders from time to time party thereto (the “Revolving Credit Facility”), which amended and restated our existing revolving credit facility that was entered into on October 5, 2018. The Revolving Credit Facility is subject to a borrowing base with maximum loan value to be assigned to the proved reserves attributable to our oil and gas properties. As of December 31, 2021, the Revolving Credit Facility had a borrowing base of $850.0 million and an elected commitment amount of $750.0 million, and we had $55.0 million in borrowings outstanding under the facility, leaving $695.0 million in available committed borrowing capacity. See Note 4 to our financial statements for further details regarding the Revolving Credit Facility.
Unsecured Notes due 2028
As of December 31, 2021, we had outstanding $750.0 million aggregate principal amount of our 2028 Notes. See Note 4 to our financial statements for further details regarding the 2028 Notes.
Series A Preferred Stock
As of December 31, 2021, we had 2,218,732 outstanding shares of 6.500% Series A Perpetual Cumulative Convertible Preferred Stock (the “Series A Preferred Stock”), having an aggregate liquidation preference of $221.9 million (excluding accumulated dividends). See Note 5 to our financial statements for further details regarding the Series A Preferred Stock.
Known Contractual and Other Obligations; Planned Capital Expenditures
Contractual and Other Obligations. We have contractual commitments under our debt agreements, including interest payments and principal repayments. See Note 4 to our financial statements. We have contractual commitments that may require us to make payments upon future settlement of our commodity derivative contracts. See Note 12 to our financial statements. We have firm commitments on certain assets that we assumed in the Reliance Acquisition. See “Item 2—Properties—Delivery Commitments” above. We have future obligations related to the abandonment of our oil and natural gas properties. See Note 9 to our financial statements. With respect to all of these items, except for our commitments under our debt agreements, we cannot determine with accuracy the amount and/or timing of such payments.
Planned Capital Expenditures. For 2022, we are budgeting approximately $350 to $415 million in total planned capital expenditures, including development expenditures and our smaller day-to-day acquisition activity, which we refer to as our “ground game” acquisition activity. As of December 31, 2021, we had incurred $111.9 million in capital expenditures that were included in accounts payable, and we estimate that we were committed to an additional approximately $316.6 million in development capital expenditures not yet incurred for wells we had elected to participate in. We expect to fund planned capital expenditures with cash generated from operations and, if required, borrowings under our Revolving Credit Facility. The foregoing excludes larger acquisitions, which are typically not included in our annual capital expenditure budget. For example, our unbudgeted Veritas Acquisition was pending as of December 31, 2021, and subsequently closed on January 27, 2022 (see Note 14 to our financial statements). See also “Capital Requirements” below.
The amount, timing and allocation of capital expenditures are largely discretionary and subject to change based on a variety of factors. If oil, NGL and natural gas prices decline below our acceptable levels, or costs increase above our acceptable levels, we may choose to defer a portion of our budgeted capital expenditures until later periods to achieve the desired balance between sources and uses of liquidity and prioritize capital projects that we believe have the highest expected returns and
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potential to generate near-term cash flow. We may also increase our capital expenditures significantly to take advantage of opportunities we consider to be attractive. We will carefully monitor and may adjust our projected capital expenditures in response to success or lack of success in drilling activities, changes in prices, availability of financing and joint venture opportunities, drilling and acquisition costs, industry conditions, the timing of regulatory approvals, the availability of rigs, reduction of service costs, contractual obligations, internally generated cash flow and other factors both within and outside our control. For additional information on the impact of changing prices and market conditions on our financial position, see “Item 7A. Quantitative and Qualitative Disclosures About Market Risk.”
Capital Requirements
Development and acquisition activities are discretionary, and, for the near term, we expect such activities to be maintained at levels we can fund through cash on hand, internal cash flow and borrowings under our Revolving Credit Facility. To the extent capital requirements exceed internal cash flow and borrowing capacity under our Revolving Credit Facility, additional financings from the capital markets may be pursued to fund these requirements. We monitor our capital expenditures on a regular basis, adjusting the amount up or down and also between our projects, depending on commodity prices, cash flow and projected returns. Also, our obligations may change due to acquisitions, divestitures and continued growth. Our future success in growing proved reserves and production may be dependent on our ability to access outside sources of capital. If internally generated cash flow and borrowing capacity is not available under our Revolving Credit Facility, we may issue additional equity or debt to fund capital expenditures, acquisitions, extend maturities or to repay debt.
Satisfaction of Our Cash Obligations for the Next Twelve Months
With our revolving credit agreement and our cash flows from operations, we believe we will have sufficient capital to meet our drilling commitments, expected general and administrative expenses and other cash needs for the next twelve months. Nonetheless, any strategic acquisition of assets or increase in drilling activity may lead us to seek additional capital. We may also choose to seek additional capital rather than utilize our credit facility or other debt instruments to fund accelerated or continued drilling at the discretion of management and depending on prevailing market conditions. We will evaluate any potential opportunities for acquisitions as they arise. However, there can be no assurance that any additional capital will be available to us on favorable terms or at all.
Effects of Inflation and Pricing
The oil and natural gas industry is very cyclical and the demand for goods and services of oil field companies, suppliers and others associated with the industry put extreme pressure on the economic stability and pricing structure within the industry. Typically, as prices for oil and natural gas increase, so do all associated costs. Conversely, in a period of declining prices, associated cost declines are likely to lag and may not adjust downward in proportion. Material changes in prices also impact our current revenue stream, estimates of future reserves, borrowing base calculations of bank loans, impairment assessments of oil and natural gas properties, and values of properties in purchase and sale transactions. Material changes in prices can impact the value of oil and natural gas companies and their ability to raise capital, borrow money and retain personnel. Higher prices for oil and natural gas could result in increases in the costs of materials, services and personnel, which we expect to occur in 2022 compared to 2021.
Critical Accounting Estimates
The establishment and consistent application of accounting policies is a vital component of accurately and fairly presenting our financial statements in accordance with generally accepted accounting principles in the United States (GAAP), as well as ensuring compliance with applicable laws and regulations governing financial reporting. While there are rarely alternative methods or rules from which to select in establishing accounting and financial reporting policies, proper application often involves significant judgment regarding a given set of facts and circumstances and a complex series of decisions.
Use of Estimates
The preparation of financial statements under GAAP requires management to make estimates and assumptions that affect our reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. Our estimates of our proved oil and natural gas reserves, future development costs, estimates relating to certain oil and natural gas revenues and expenses, and fair value of derivative instruments are the most critical to our financial statements.
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Oil and Natural Gas Reserves
The determination of depreciation, depletion and amortization expense as well as impairments that are recognized on our oil and natural gas properties are highly dependent on the estimates of the proved oil and natural gas reserves attributable to our properties. Our estimate of proved reserves is based on the quantities of oil and natural gas which geological and engineering data demonstrate, with reasonable certainty, to be recoverable in the future years from known reservoirs under existing economic and operating conditions. The accuracy of any reserve estimate is a function of the quality of available data, engineering and geological interpretation, and judgment. For example, we must estimate the amount and timing of future operating costs, production taxes and development costs, all of which may in fact vary considerably from actual results. In addition, as the prices of oil and natural gas and cost levels change from year to year, the economics of producing our reserves may change and therefore the estimate of proved reserves may also change. Approximately 41% of our proved oil and gas reserve volumes are categorized as proved undeveloped reserves. Any significant variance in these assumptions could materially affect the estimated quantity and value of our reserve, future cash flows from our reserves, and future development of our proved undeveloped reserves.
The information regarding present value of the future net cash flows attributable to our proved oil and natural gas reserves are estimates only and should not be construed as the current market value of the estimated oil and natural gas reserves attributable to our properties. Such information includes revisions of certain reserve estimates attributable to our properties included in the prior year’s estimates. These revisions reflect additional information from subsequent activities, production history of the properties involved and any adjustments in the projected economic life of such properties resulting from changes in oil and natural gas prices.
External petroleum engineers independently estimated all of the proved reserve quantities included in our financial statements, and were prepared in accordance with the rules promulgated by the SEC. In connection with our external petroleum engineers performing their independent reserve estimations, we furnish them with the following information that they review: (1) technical support data, (2) technical analysis of geologic and engineering support information, (3) economic and production data and (4) our well ownership interests. The third-party independent reserve engineers, Cawley, Gillespie & Associates, Inc., evaluated 100% of our estimated proved reserve quantities and their related pre-tax future net cash flows as of December 31, 2021.
Oil and Natural Gas Properties
The method of accounting we use to account for our oil and natural gas investments determines what costs are capitalized and how these costs are ultimately matched with revenues and expensed.
We utilize the full cost method of accounting to account for our oil and natural gas investments instead of the successful efforts method because we believe it more accurately reflects the underlying economics of our programs to explore and develop oil and natural gas reserves. The full cost method embraces the concept that dry holes and other expenditures that fail to add reserves are intrinsic to the oil and natural gas exploration business. Thus, under the full cost method, all costs incurred in connection with the acquisition, development and exploration of oil and natural gas reserves are capitalized. These capitalized amounts include the costs of unproved properties, internal costs directly related to acquisitions, development and exploration activities, asset retirement costs, geological and geophysical costs that are directly attributable to the properties and capitalized interest. Although some of these costs will ultimately result in no additional reserves, they are part of a program from which we expect the benefits of successful wells to more than offset the costs of any unsuccessful ones. The full cost method differs from the successful efforts method of accounting for oil and natural gas investments. The primary difference between these two methods is the treatment of exploratory dry hole costs. These costs are generally expensed under the successful efforts method when it is determined that measurable reserves do not exist. Geological and geophysical costs are also expensed under the successful efforts method. Under the full cost method, both dry hole costs and geological and geophysical costs are initially capitalized and classified as unproved properties pending determination of proved reserves. If no proved reserves are discovered, these costs are then amortized with all the costs in the full cost pool.
Capitalized amounts except unproved costs are depleted using the units of production method. The depletion expense per unit of production is the ratio of the sum of our unamortized historical costs and estimated future development costs to our proved reserve volumes. Estimation of hydrocarbon reserves relies on professional judgment and use of factors that cannot be precisely determined. Subsequent reserve estimates materially different from those reported would change the depletion expense recognized during the future reporting periods. For the year ended December 31, 2021, our average depletion expense per unit of production was $7.07 per Boe.
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To the extent the capitalized costs in our full cost pool (net of depreciation, depletion and amortization and related deferred taxes) exceed the sum of the present value (using a 10% discount rate and based on 12-month/SEC oil and natural gas prices) of the estimated future net cash flows from our proved oil and natural gas reserves and the capitalized cost associated with our unproved properties, we would have a capitalized ceiling impairment. Such costs would be charged to operations as a reduction of the carrying value of oil and natural gas properties. The risk that we will be required to write down the carrying value of our oil and natural gas properties increases when oil and natural gas prices are depressed, even if the low prices are temporary. In addition, capitalized ceiling impairment charges may occur if we experience poor drilling results or if estimations of our proved reserves are substantially reduced. A capitalized ceiling impairment is a reduction in earnings that does not impact cash flows, but does impact operating income and stockholders’ equity. Once recognized, a capitalized ceiling impairment charge to oil and natural gas properties cannot be reversed at a later date. The risk that we will experience a ceiling test writedown increases when oil and natural gas prices are depressed or if we have substantial downward revisions in our estimated proved reserves.
At December 31, 2021, we performed an impairment review using prices that reflect an average of 2021’s monthly prices as prescribed pursuant to the SEC’s guidelines. For the year ended 2021, we did not record any full cost impairment expense. For the year ended 2020, we recorded a $1,066.7 million full cost impairment expense. For the year ended 2019, we did not record any full cost impairment expense. If a low price environment reoccurs, we might be required to further write down the value of our oil and gas properties. In addition, capitalized ceiling impairment charges may occur if estimates of proved reserves are substantially reduced or estimates of future development costs increase significantly. See “Item 2. Properties” for a discussion of our reserve estimation assumptions.
Derivative Instrument Activities
We use derivative instruments from time to time to manage market risks resulting primarily from fluctuations in the prices of oil and natural gas. We may periodically enter into derivative contracts, including price swaps, caps and floors, 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 oil or natural gas without the exchange of underlying volumes. The notional amounts of these financial instruments are based on expected production from existing wells. We may also use exchange traded futures contracts and option contracts to hedge the delivery price of oil at a future date.
All derivative positions are carried at their fair value in the balance sheet and are 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 statements of operations rather than as a component of accumulated other comprehensive income or other income (expense). The resulting cash flows from derivatives are reported as cash flows from operating activities. See Note 12 to our financial statements for a description of the derivative contracts.
Recently Issued or Adopted Accounting Pronouncements
For discussion of recently issued or adopted accounting pronouncements, see Notes to Financial Statements—Note 2. Significant Accounting Policies.
Off-Balance Sheet Arrangements
We currently do not have any off-balance sheet arrangements that have or are reasonably likely to have a current or future effect on our financial condition, changes in financial condition, revenues or expenses, results of operations, liquidity, capital expenditures or capital resources that is material to investors.
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Item 7A. Quantitative and Qualitative Disclosures about Market Risk
Commodity Price Risk
The price we receive for our oil and natural gas production heavily influences our revenue, profitability, access to capital and future rate of growth. Oil and natural gas are commodities and, therefore, their prices are subject to wide fluctuations in response to relatively minor changes in supply and demand and other factors. Historically, the markets for oil and natural gas have been volatile, and we believe these markets will likely continue to be volatile in the future. The prices we receive for our production depend on numerous factors beyond our control. Our revenue generally would have increased or decreased along with any increases or decreases in oil or natural gas prices, but the exact impact on our income is indeterminable given the variety of expenses associated with producing and selling oil that also increase and decrease along with oil prices.
We enter into derivative contracts to achieve a more predictable cash flow by reducing our exposure to commodity price volatility. All derivative positions are carried at their fair value on the balance sheet and are 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 statements of operations rather than as a component of other comprehensive income or other income (expense).
We generally use derivatives to economically hedge a significant, but varying portion of our anticipated future production. Any payments due to counterparties under our derivative contracts are funded by proceeds received from the sale of our production. Production receipts, however, lag payments to the counterparties. Any interim cash needs are funded by cash from operations or borrowings under our Revolving Credit Facility.
The following table summarizes our open crude oil swap contracts as of December 31, 2021, by fiscal quarter.
| Settlement Period | Oil (Barrels) | Weighted Average Price ($) | ||||||||||||
Swaps-Crude Oil(1) | ||||||||||||||
| 2022: | ||||||||||||||
| Q1 | 2,677,480 | $ | 60.62 | |||||||||||
| Q2 | 2,593,500 | 60.77 | ||||||||||||
| Q3 | 2,559,900 | 60.02 | ||||||||||||
| Q4 | 2,398,900 | 59.54 | ||||||||||||
| 2023: | ||||||||||||||
| Q1 | 974,250 | $ | 62.65 | |||||||||||
| Q2 | 775,775 | 64.32 | ||||||||||||
| Q3 | 455,400 | 66.47 | ||||||||||||
| Q4 | 446,200 | 66.25 | ||||||||||||
| 2024: | ||||||||||||||
| Q1 | 136,500 | $ | 64.65 | |||||||||||
| Q2 | 136,500 | 64.19 | ||||||||||||
| Q3 | 138,000 | 63.51 | ||||||||||||
| Q4 | 138,000 | 62.96 | ||||||||||||
_____________
(1)This table does not include volumes subject to swaptions and call options, which are crude oil derivative contracts we have entered into which may increase our swapped volumes at the option of our counterparties. See Note 12 to our financial statements for further details regarding our commodity derivatives, including the swaptions and call options that are not included in the foregoing table.
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The following table summarizes our open natural gas swap contracts as of December 31, 2021, by fiscal quarter.
| Contract Period | Gas (MMBTU) | Weighted Average Price ($) | ||||||||||||
Swaps-Natural Gas(1) | ||||||||||||||
| 2022: | ||||||||||||||
| Q1 | 7,157,291 | $ | 3.32 | |||||||||||
| Q2 | 7,735,000 | 3.14 | ||||||||||||
| Q3 | 7,360,000 | 3.17 | ||||||||||||
| Q4 | 9,360,000 | 3.39 | ||||||||||||
| 2023: | ||||||||||||||
| Q1 | 4,050,000 | $ | 3.89 | |||||||||||
| Q2 | 910,000 | 3.22 | ||||||||||||
| Q3 | 920,000 | 3.27 | ||||||||||||
| Q4 | 920,000 | 3.47 | ||||||||||||
| 2024: | ||||||||||||||
| Q1 | 637,000 | $ | 3.22 | |||||||||||
| Q2 | 637,000 | 3.22 | ||||||||||||
| Q3 | 644,000 | 3.22 | ||||||||||||
| Q4 | 644,000 | 3.22 | ||||||||||||
_____________
(1)This table does not include volumes subject to collars. See Note 12 to our financial statements for further details regarding our commodity derivatives, including the collars that are not included in the foregoing table.
See Note 12 to our financial statements for further details regarding our commodity derivatives, including basis swap contracts for both crude oil and natural gas, which are not included in the foregoing tables.
Interest Rate Risk
Our long-term debt as of December 31, 2021 is comprised of borrowings that contain fixed and floating interest rates. Our 2028 Notes bear cash interest at fixed rates. Our Revolving Credit Facility interest rate is a floating rate option that is designated by us within the parameters established by the underlying agreement. At our option, borrowings under the Revolving Credit Facility bear interest at the base rate or LIBOR, plus an applicable margin. The base rate is a rate per annum equal to the greatest of: (i) the agent bank’s prime rate; (ii) the federal funds effective rate plus 50 basis points; and (iii) the adjusted LIBOR rate for a one-month interest period plus 100 basis points. The applicable margin for base rate loans ranges from 100 to 200 basis points, and the applicable margin for LIBOR loans ranges from 200 to 300 basis points, in each case depending on the percentage of the borrowing base utilized. Interest payments are due under the Revolving Credit Facility in arrears, in the case of a loan based on LIBOR on the last day of the specified interest period and in the case of all other loans on the last day of each March, June, September and December. All outstanding principal is due and payable upon termination of the Revolving Credit Facility.
The Company uses interest rate swaps to effectively convert a portion of its variable rate indebtedness to fixed rate indebtedness. As of December 31, 2021, we had interest rate swaps with a total notional amount of $200.0 million, which exceeded our amount of outstanding variable rate indebtedness as of December 31, 2021. Changes in interest rates can impact results of operations and cash flows. However, because the notional amount of our interest rate swaps as of December 31, 2021 was greater than our amount of outstanding variable rate indebtedness as of such date, a 1% increase in short-term interest rates on our floating-rate debt outstanding at December 31, 2021 would not result in any increased additional annual interest expense.
Item 8. Financial Statements and Supplementary Data
The financial statements and supplementary financial information required by this item are included on the pages immediately following the Index to Financial Statements appearing on page F-1.
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Item 9. Changes In and Disagreements with Accountants on Accounting and Financial Disclosure
None.
Item 9A. Controls and Procedures
Evaluation of Disclosure Controls and Procedures
We maintain a system of disclosure controls and procedures that is designed to ensure that information required to be disclosed in our Exchange Act reports is recorded, processed, summarized and reported within the time periods specified in the rules and forms of the SEC, and that such information is accumulated and communicated to our management, including our principal executive officer and principal financial officer, as appropriate, to allow timely decisions regarding required disclosures.
As of December 31, 2021, our management, including our principal executive officer and principal financial officer, had evaluated the effectiveness of the design and operation of our disclosure controls and procedures (as defined in Exchange Act Rules 13a-15(e) and 15d-15(e)) pursuant to Rule 13a-15(b) under the Exchange Act. Based upon and as of the date of the evaluation, our principal executive officer and principal financial officer concluded that information required to be disclosed is recorded, processed, summarized and reported within the specified periods and is accumulated and communicated to management, including our principal executive officer and principal financial officer, to allow for timely decisions regarding required disclosure of material information required to be included in our periodic SEC reports. Based on the foregoing, our management determined that our disclosure controls and procedures were effective as of December 31, 2021.
Changes in Internal Control over Financial Reporting
No change in our Company’s internal control over financial reporting (as defined in Rules 13a-15(f) and 15d-15(f) under the Exchange Act) occurred during the quarter ended December 31, 2021, that has materially affected, or is reasonably likely to materially affect, our internal control over financial reporting.
Management’s Annual Report on Internal Control over Financial Reporting
The management of Northern Oil and Gas, Inc. is responsible for establishing and maintaining adequate internal control over financial reporting as defined in Rules 13a-15(f) and 15d-15(f) under the Securities Exchange Act of 1934. The Company’s internal control system is designed to provide reasonable assurance regarding the reliability of financial reporting and the preparation of our Company’s financial statements for external purposes in accordance with generally accepted accounting principles in the United States of America.
All internal control systems, no matter how well designed, have inherent limitations. Therefore, even those systems determined to be effective can provide only reasonable assurance with respect to financial statement preparation and presentation. Because of its inherent limitations, internal control over financial reporting may not prevent or detect misstatements. Also, projections of any evaluation of effectiveness to future periods are subject to the risk that controls may become inadequate because of changes in conditions, or that the degree of compliance with the policies or procedures may deteriorate.
Management assessed the effectiveness of the Company’s internal control over financial reporting as of December 31, 2021. In making this assessment, management used the criteria set forth by the Committee of Sponsoring Organizations of the Treadway Commission (COSO) in Internal Control-Integrated Framework (2013).
Based on our evaluation under the framework in Internal Control-Integrated Framework, management concluded that the Company’s internal control over financial reporting was effective as of December 31, 2021.
The effectiveness of our Company’s internal control over financial reporting as of December 31, 2021, has been audited by Deloitte & Touche LLP, an independent registered public accounting firm, as stated in their report.
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REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
To the stockholders and the Board of Directors of Northern Oil and Gas, Inc.
Opinion on Internal Control over Financial Reporting
We have audited the internal control over financial reporting of Northern Oil and Gas, Inc. (the “Company”) as of December 31, 2021, based on criteria established in Internal Control — Integrated Framework (2013) issued by the Committee of Sponsoring Organizations of the Treadway Commission (COSO). In our opinion, the Company maintained, in all material respects, effective internal control over financial reporting as of December 31, 2021, based on criteria established in Internal Control — Integrated Framework (2013) issued by COSO.
We have also audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States) (PCAOB), the financial statements as of and for the year ended December 31, 2021, of the Company and our report dated February 25, 2022, expressed an unqualified opinion on those financial statements.
Basis for Opinion
The Company’s management is responsible for maintaining effective internal control over financial reporting and for its assessment of the effectiveness of internal control over financial reporting, included in the accompanying Management’s Annual Report on Internal Control over Financial Reporting. Our responsibility is to express an opinion on the Company’s internal control over financial reporting based on our audit. We are a public accounting firm registered with the PCAOB and are required to be independent with respect to the Company in accordance with the U.S. federal securities laws and the applicable rules and regulations of the Securities and Exchange Commission and the PCAOB.
We conducted our audit in accordance with the standards of the PCAOB. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether effective internal control over financial reporting was maintained in all material respects. Our audit included obtaining an understanding of internal control over financial reporting, assessing the risk that a material weakness exists, testing and evaluating the design and operating effectiveness of internal control based on the assessed risk, and performing such other procedures as we considered necessary in the circumstances. We believe that our audit provides a reasonable basis for our opinion.
Definition and Limitations of Internal Control over Financial Reporting
A company’s internal control over financial reporting is a process designed to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles. A company’s internal control over financial reporting includes those policies and procedures that (1) pertain to the maintenance of records that, in reasonable detail, accurately and fairly reflect the transactions and dispositions of the assets of the company; (2) provide reasonable assurance that transactions are recorded as necessary to permit preparation of financial statements in accordance with generally accepted accounting principles, and that receipts and expenditures of the company are being made only in accordance with authorizations of management and directors of the company; and (3) provide reasonable assurance regarding prevention or timely detection of unauthorized acquisition, use, or disposition of the company’s assets that could have a material effect on the financial statements.
Because of its inherent limitations, internal control over financial reporting may not prevent or detect misstatements. Also, projections of any evaluation of effectiveness to future periods are subject to the risk that controls may become inadequate because of changes in conditions, or that the degree of compliance with the policies or procedures may deteriorate.
/s/ Deloitte & Touche LLP
Minneapolis, Minnesota
February 25, 2022
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Item 9B. Other Information
None.
Item 9C. Disclosure Regarding Foreign Jurisdictions that Prevent Inspections
Not applicable.
PART III
Certain information required by this Part III is incorporated by reference from our definitive Proxy Statement for the Annual Meeting of Stockholders to be held in 2022 (the “Proxy Statement”), which we intend to file with the SEC pursuant to Regulation 14A within 120 days after December 31, 2021. Except for those portions specifically incorporated into this Annual Report on Form 10-K by reference to the Proxy Statement, no other portions of the Proxy Statement are deemed to be filed as part of this Annual Report on Form 10-K.
Item 10. Directors, Executive Officers and Corporate Governance
The information appearing under the headings “Proposal 1: Election of Directors,” “Corporate Governance” and “Delinquent Section 16(a) Reports” in the Proxy Statement is incorporated herein by reference.
We have adopted a Code of Business Conduct and Ethics that applies to our chief executive officer, chief financial officer and persons performing similar functions. A copy is available on our website at www.northernoil.com. We intend to post on our website any amendments to, or waivers from, our Code of Business Conduct and Ethics pursuant to the rules of the SEC and New York Stock Exchange.
Information About Our Executive Officers
Our executive officers, their ages and offices held are as follows:
| Name | Age | Positions | ||||||||||||
| Nicholas O’Grady | 43 | Chief Executive Officer | ||||||||||||
| Chad Allen | 40 | Chief Financial Officer | ||||||||||||
| Adam Dirlam | 38 | President | ||||||||||||
| Michael Kelly | 40 | Chief Strategy Officer | ||||||||||||
| Erik Romslo | 44 | Chief Legal Officer & Secretary | ||||||||||||
| James Evans | 38 | Executive Vice President and Chief Engineer | ||||||||||||
Nicholas O’Grady has served as our Chief Executive Officer since January 2020. Prior to that, he served as our Chief Financial Officer from June 2018 to September 2019, and as our Chief Financial Officer & President from September 2019 to December 2019. Mr. O’Grady has nearly two decades of finance experience, both as an investment banker and as a principal investor. Mr. O’Grady began his career in the Natural Resources investment banking group at Bank of America. Later moving to the hedge fund industry, he worked at firms such as Highbridge Capital Management. Prior to joining our company, he worked as a senior credit analyst and portfolio manager at Hudson Bay Capital Management from September 2014 to May 2018, where he focused on energy-related equities, public credit, private and direct investments. Previously, he worked as a portfolio manager at Bluecrest Capital Management from November 2013 to June 2014, and at Sigma Capital Management from April 2012 to October 2013. Mr. O’Grady holds a bachelor’s degree in both history and economics from Bowdoin College in Brunswick, Maine.
Chad Allen has served as our as our Chief Financial Officer since January 2020. Prior to that, he served as our Chief Accounting Officer from August 2016 to December 2019, prior to which he served as the company’s Corporate Controller since joining Northern in August of 2013. Mr. Allen served as the company’s Interim Chief Financial Officer from January-May 2018. Prior to joining our company, Mr. Allen was in the audit practice with Grant Thornton LLP from 2010 to 2013, and in the audit practice at RSM US LLP (formerly McGladrey & Pullen, LLP) from 2004 to 2010. Mr. Allen holds a bachelor’s degree in accounting from Minnesota State University, Mankato and is a Certified Public Accountant.
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Adam Dirlam has served as our President since December 2021 prior to which he served as our Chief Operating Officer since January 2020. Prior to that, he served as our Executive Vice President – Land & Operations since June 2018, prior to which he served as the company’s Senior Vice President of Land & Operations since 2013 and other various roles with the company since 2009. Prior to joining our company, Mr. Dirlam served in various finance and accounting roles for Honeywell International. Mr. Dirlam holds a bachelor’s degree from the University of St. Thomas and a master’s degree from the University of Minnesota - Carlson School of Management.
Michael Kelly has served as our Chief Strategy Officer since February 2021. Prior to that, he served as our Executive Vice President of Finance since January 2020. Prior to joining our company, Mr. Kelly was a Partner at Seaport Global Securities, where he had worked since 2011. Most recently, Mr. Kelly was the Head of E&P Research at Seaport, covering over 30 companies in the exploration and production sector. Prior to Seaport, Mr. Kelly spent over five years working as an energy analyst for Kennedy Capital Management in St. Louis. Mr. Kelly earned his MBA at Washington University’s Olin School of Business and his undergraduate degree from Trinity University in San Antonio and is a CFA charterholder.
Erik Romslo has served as our Chief Legal Counsel and Secretary since January 2020. Prior to that, he served as our General Counsel and Secretary from October 2011 to December 2019 and as an Executive Vice President from January 2013 to December 2019. Prior to joining our company, Mr. Romslo practiced law in the Minneapolis office of our outside counsel, Faegre Drinker Biddle & Reath LLP (formerly Faegre & Benson LLP), from 2005 until 2011, where he was a member of the Corporate group. Prior to joining Faegre, Mr. Romslo practiced law in the New York City office of Fried, Frank, Harris, Shriver & Jacobson LLP. Mr. Romslo holds a bachelor’s degree from St. Olaf College and a law degree from the New York University School of Law.
James Evans has served as our Executive Vice President and Chief Engineer since February 2021. Prior to that, he served as our Senior Vice President of Engineering since January 2020 and as Vice President of Engineering since June 2018, prior to which he had served as the Company’s Reservoir Engineering Manager since 2015. Mr. Evans began his career as a Reservoir Engineer with Cabot Oil & Gas. Between 2009 and 2012 he worked for Cornerstone Natural Resources. More recently Mr. Evans worked for Fidelity Exploration. Mr. Evans holds a BS degree in Petroleum Engineering from Montana Tech.
Item 11. Executive Compensation
The information appearing under the headings “Executive Compensation” and “Compensation Committee Report,” and the information regarding compensation committee interlocks and insider participation under the heading “Corporate Governance,” in the Proxy Statement is incorporated herein by reference.
Item 12. Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters
Securities Authorized for Issuance under Equity Compensation Plans
The following table provides information with respect to our common shares issuable under our equity compensation plans as of December 31, 2021:
| Plan Category | Number of securities to be issued upon exercise of outstanding options, warrants and rights | Weighted-average exercise price of outstanding options, warrants and rights | Number of securities remaining available for future issuance under equity compensation plans | |||||||||||||||||
| Equity compensation plans approved by security holders | ||||||||||||||||||||
| 2018 Equity Incentive Plan | — | — | 582,754 | |||||||||||||||||
| Equity compensation plans not approved by security holders | — | — | — | |||||||||||||||||
| Total | — | $ | — | 582,754 | ||||||||||||||||
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The information appearing under the heading “Security Ownership of Certain Beneficial Owners and Management” in the Proxy Statement is incorporated herein by reference.
Item 13. Certain Relationships and Related Transactions, and Director Independence
The information appearing under the headings “Certain Relationships and Related Transactions” and “Corporate Governance” in the Proxy Statement is incorporated herein by reference.
Item 14. Principal Accountant Fees and Services
The information appearing under the headings “Registered Public Accountant Fees” and “Pre-Approval Policies and Procedures of Audit Committee” in the Proxy Statement is incorporated herein by reference.
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PART IV
Item 15. Exhibits and Financial Statement Schedules
(a) Documents filed as part of this Report:
| 1 | Financial Statements See Index to Financial Statements on page F-1. | ||||
| 2 | Financial Statement Schedules All schedules have been omitted because they are either not applicable, not required or the information called for therein appears in the consolidated financial statements or notes thereto. | ||||
(b) Exhibits:
| Exhibit No. | Description | Reference | ||||||||||||
| Purchase and Sale Agreement, dated February 3, 2021, between Northern Oil and Gas, Inc. and Reliance Marcellus, LLC | Incorporated by reference to Exhibit 2.1 to the Registrant’s Current Report on Form 8-K filed with the SEC on February 3, 2021 | |||||||||||||
| Asset Purchase Agreement between Northern Oil and Gas, Inc. and Comstock Oil & Gas, LLC, dated October 6, 2021 | Incorporated by reference to Exhibit 2.1 to the Registrant’s Current Report on Form 8-K filed with the SEC on October 8, 2021 | |||||||||||||
| Purchase and Sale Agreement between Northern Oil and Gas, Inc., Veritas TM Resources, LLC, Veritas Permian Resources, LLC, Veritas Lone Star Resources, LLC, and Veritas MOC Resources, LLC, dated November 16, 2021 | Incorporated by reference to Exhibit 2.1 to the Registrant’s Current Report on Form 8-K filed with the SEC on November 16, 2021 | |||||||||||||
| Restated Certificate of Incorporation of Northern Oil and Gas, Inc. dated August 24, 2018 | Incorporated by reference to Exhibit 3.1 to the Registrant’s Current Report on Form 8-K filed with the SEC on August 27, 2018 | |||||||||||||
| Certificate of Amendment to the Restated Certificate of Incorporation of Northern Oil and Gas, Inc. dated September 18, 2020 | Incorporated by reference to Exhibit 3.1 to the Registrant’s Current Report on Form 8-K filed with the SEC on September 24, 2020 | |||||||||||||
| By-Laws of Northern Oil and Gas, Inc. | Incorporated by reference to Exhibit 3.2 to the Registrant’s Current Report on Form 8-K filed with the SEC on May 15, 2018 | |||||||||||||
| Certificate of Designations of 6.500% Series A Perpetual Cumulative Convertible Preferred Stock of Northern Oil and Gas, Inc., dated November 22, 2019 | Incorporated by reference to Exhibit 3.1 to the Registrant’s Current Report on Form 8-K filed with the SEC on November 26, 2019 | |||||||||||||
| Certificate of Amendment to the Certificate of Designations of 6.500% Series A Perpetual Cumulative Convertible Preferred Stock of Northern Oil and Gas, Inc., dated January 2, 2020 | Incorporated by reference to Exhibit 3.1 to the Registrant’s Current Report on Form 8-K filed with the SEC on January 6, 2020 | |||||||||||||
| Certificate of Amendment to the Certificate of Designations of 6.500% Series A Perpetual Cumulative Convertible Preferred Stock of Northern Oil and Gas, Inc., dated January 17, 2020 | Incorporated by reference to Exhibit 3.1 to the Registrant’s Current Report on Form 8-K filed with the SEC on January 22, 2020 | |||||||||||||
| Description of Northern Oil and Gas, Inc. Capital Stock | Filed herewith | |||||||||||||
| Form of certificate for the 6.500% Series A Perpetual Cumulative Convertible Preferred Stock | Incorporated by reference to Exhibit 3.1 to the Registrant’s Current Report on Form 8-K filed with the SEC on November 26, 2019 | |||||||||||||
| Indenture, dated May 15, 2018, between Northern Oil and Gas, Inc. and Wilmington Trust, National Association, as trustee (including Form of 8.50% Senior Secured Second Lien Notes due 2023) | Incorporated by reference to Exhibit 4.1 to the Registrant’s Current Report on Form 8-K filed with the SEC on May 18, 2018 | |||||||||||||
| First Supplemental Indenture, dated September 18, 2018, between Northern Oil and Gas, Inc. and Wilmington Trust, National Association, as trustee | Incorporated by reference to Exhibit 4.1 to the Registrant’s Current Report on Form 8-K filed with the SEC on September 18, 2018 | |||||||||||||
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| Second Supplemental Indenture, dated October 5, 2018, between Northern Oil and Gas, Inc. and Wilmington Trust, National Association, as trustee | Incorporated by reference to Exhibit 4.1 to the Registrant’s Current Report on Form 8-K filed with the SEC on October 9, 2018 | |||||||||||||
| Third Supplemental Indenture, dated November 22, 2019, between Northern Oil and Gas, Inc. and Wilmington Trust, National Association, as trustee | Incorporated by reference to Exhibit 4.1 to the Registrant’s Current Report on Form 8-K filed with the SEC on November 26, 2019 | |||||||||||||
| Fourth Supplemental Indenture, dated February 18, 2021, among Northern Oil and Gas, Inc. and Wilmington Trust, National Association, as trustee and collateral agent | Incorporated by reference to Exhibit 4.2 to the Registrant’s Current Report on Form 8-K filed with the SEC on February 23, 2021 | |||||||||||||
| Indenture, dated February 18, 2021, between Northern Oil and Gas, Inc. and Wilmington Trust, National Association, as trustee (including Form of 8.125% Senior Note due 2028) | Incorporated by reference to Exhibit 4.1 to the Registrant’s Current Report on Form 8-K filed with the SEC on February 23, 2021 | |||||||||||||
| First Supplemental Indenture, dated November 15, 2021, between Northern Oil and Gas, Inc. and Wilmington Trust, National Association, as trustee | Incorporated by reference to Exhibit 4.2 to the Registrant’s Current Report on Form 8-K filed with the SEC on November 15, 2021 | |||||||||||||
| Warrant to Purchase Common Shares, dated April 1, 2021, by and between Northern Oil and Gas, Inc. and Reliance Marcellus, LLC | Incorporated by reference to Exhibit 4.1 to the Registrant’s Current Report on Form 8-K filed with the SEC on April 6, 2021 | |||||||||||||
| Form of Warrant to Purchase Common Shares, dated January 27, 2022 | Incorporated by reference to Exhibit 4.1 to the Registrant’s Current Report on Form 8-K filed with the SEC on January31, 2022 | |||||||||||||
| Letter Agreement, dated January 2, 2015 by and among Robert B. Rowling, Cresta Investments, LLC, Cresta Greenwood, LLC, TRT Holdings, Inc. and Northern Oil and Gas, Inc. | Incorporated by reference to Exhibit 10.1 to the Registrant’s Current Report on Form 8-K filed with the SEC on January 5, 2015 | |||||||||||||
| Letter Agreement, dated January 25, 2017 by and among TRT Holdings, Inc., Cresta Investments, LLC, Cresta Greenwood, LLC, Robert Rowling, Michael Popejoy, Michael Frantz and Northern Oil and Gas, Inc. | Incorporated by reference to Exhibit 10.1 to the Registrant’s Current Report on Form 8-K filed with the SEC on January 27, 2017 | |||||||||||||
| Amended and Restated Letter Agreement, dated as of May 15, 2018, by and among Robert B. Rowling, Cresta Investments, LLC, Cresta Greenwood, LLC, TRT Holdings, Inc., Bahram Akradi and Northern Oil and Gas, Inc. | Incorporated by reference to Exhibit 10.1 to the Registrant’s Current Report on Form 8-K filed with the SEC on May 18, 2018 | |||||||||||||
| Letter Agreement, dated July 21, 2017, by and between Northern Oil and Gas, Inc. and Bahram Akradi | Incorporated by reference to Exhibit 10.1 to the Registrant’s Current Report on Form 8-K filed with the SEC on July 24, 2017 | |||||||||||||
| Registration Rights Agreement, dated as of May 15, 2018, among Northern Oil and Gas, Inc. and the holders party thereto | Incorporated by reference to Exhibit 10.2 to the Registrant’s Current Report on Form 8-K filed with the SEC on May 18, 2018 | |||||||||||||
| Registration Rights Agreement, dated as of May 15, 2018, among Northern Oil and Gas, Inc. and TRT Holdings, Inc., Cresta Investments, LLC and Cresta Greenwood, LLC | Incorporated by reference to Exhibit 10.3 to the Registrant’s Current Report on Form 8-K filed with the SEC on May 18, 2018 | |||||||||||||
| Registration Rights Agreement, dated as of May 15, 2018, among Northern Oil and Gas, Inc. and TPG Specialty Lending, Inc., TOP III Finance 1, LLC and TAO Finance 1, LLC | Incorporated by reference to Exhibit 10.4 to the Registrant’s Current Report on Form 8-K filed with the SEC on May 18, 2018 | |||||||||||||
| Registration Right Agreement, dated October 5, 2018, between Northern Oil and Gas, Inc. and RBC Capital, LLC, as representative of the Initial Purchasers | Incorporated by reference to Exhibit 4.2 to the Registrant’s Current Report on Form 8-K filed with the SEC on October 9, 2018 | |||||||||||||
| Registration Rights Agreement, dated September 17, 2018, between Pivotal Williston Basin, LP, Pivotal Williston Basin II, LP, and Northern Oil and Gas, Inc. | Incorporated by reference to Exhibit 10.1 to the Registrant’s Current Report on Form 8-K filed with the SEC on September 18, 2018 | |||||||||||||
| Registration Rights Agreement, dated October 1, 2018, by and between WR Operating LLC and Northern Oil and Gas, Inc. | Incorporated by reference to Exhibit 10.2 to the Registrant’s Current Report on Form 8-K filed with the SEC on October 1, 2018 | |||||||||||||
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| Employment Agreement, dated May 24, 2018, between Northern Oil and Gas, Inc. and Nicholas O’Grady | Incorporated by reference to Exhibit 10.2 to the Registrant’s Current Report on Form 8-K filed with the SEC on May 31, 2018 | |||||||||||||
| Amended and Restated Employment Agreement, dated June 1, 2018, between Northern Oil and Gas, Inc. and Erik Romslo | Incorporated by reference to Exhibit 10.1 to the Registrant’s Current Report on Form 8-K filed with the SEC on June 7, 2018 | |||||||||||||
| Amended and Restated Employment Agreement, dated June 1, 2018, between Northern Oil and Gas, Inc. and Chad Allen | Incorporated by reference to Exhibit 10.13 to the Registrant’s Quarterly Report on Form 10-Q filed with the SEC on August 9, 2018 | |||||||||||||
| Amended and Restated Employment Agreement, dated June 1, 2018, between Northern Oil and Gas, Inc. and Adam Dirlam | Incorporated by reference to Exhibit 10.14 to the Registrant’s Quarterly Report on Form 10-Q filed with the SEC on August 9, 2018 | |||||||||||||
| Employment Agreement, dated December 17, 2019, between Northern Oil and Gas, Inc. and Mike Kelly | Incorporated by reference to Exhibit 10.1 to the Registrant’s Quarterly Report on Form 10-Q filed with the SEC on May 11, 2020 | |||||||||||||
| Amended and Restated Employment Agreement, dated January 27, 2020, between Northern Oil and Gas, Inc. and James Evans | Incorporated by reference to Exhibit 10.16 to the Registrant’s Annual Report on Form 10-K filed with the SEC on March 12, 2021 | |||||||||||||
Northern Oil and Gas, Inc. 2013 Incentive Plan (as amended May 26, 2016) | Incorporated by reference to Appendix B to the Registrant’s Definitive Proxy Statement filed with the SEC on April 22, 2016 | |||||||||||||
| Form of Restricted Stock Award Agreement (Double Trigger) under the Northern Oil and Gas, Inc. 2013 Incentive Plan | Incorporated by reference to Exhibit 10.3 to the Registrant’s Quarterly Report on Form 10-Q filed with the SEC on August 9, 2013 | |||||||||||||
| Form of Restricted Stock Award Agreement (Performance Based) under the Northern Oil and Gas, Inc. 2013 Incentive Plan | Incorporated by reference to Exhibit 10.15 to the Registrant’s Quarterly Report on Form 10-Q filed with the SEC on August 9, 2018 | |||||||||||||
| Northern Oil and Gas, Inc. 2018 Equity Incentive Plan | Incorporated by reference to Exhibit 99.1 to the Registrant’s Current Report on Form 8-K filed with the SEC on August 27, 2018 | |||||||||||||
| Form of Restricted Stock Award Agreement (Time-Based Single Trigger) under the Northern Oil and Gas, Inc. 2018 Equity Incentive Plan | Incorporated by reference to Exhibit 10.34 to the Registrant’s Annual Report on Form 10-K filed with the SEC on March 18, 2019 | |||||||||||||
Form of Restricted Stock Award Agreement (Time-Based Double Trigger) under the Northern Oil and Gas, Inc. 2018 Equity Incentive Plan | Incorporated by reference to Exhibit 10.35 to the Registrant’s Annual Report on Form 10-K filed with the SEC on March 18, 2019 | |||||||||||||
Form of Restricted Stock Award Agreement (Performance-Based Employees) under the Northern Oil and Gas, Inc. 2018 Equity Incentive Plan | Incorporated by reference to Exhibit 10.36 to the Registrant’s Annual Report on Form 10-K filed with the SEC on March 18, 2019 | |||||||||||||
Form of Restricted Stock Award Agreement (Performance-Based Directors) under the Northern Oil and Gas, Inc. 2018 Equity Incentive Plan | Incorporated by reference to Exhibit 10.37 to the Registrant’s Annual Report on Form 10-K filed with the SEC on March 18, 2019 | |||||||||||||
| Senior Unsecured Promissory Note, dated July 1, 2019, by and among Northern Oil and Gas, Inc. and VEN Bakken, LLC | Incorporated by reference to Exhibit 10.1 to the Registrant’s Current Report on Form 8-K filed with the SEC on July 2, 2019 | |||||||||||||
| Second Amended and Restated Credit Agreement, dated November 22, 2019, by and among Northern Oil and Gas, Inc., Wells Fargo Bank, National Association, as administrative agent, and the Lenders party thereto | Incorporated by reference to Exhibit 10.2 to the Registrant’s Current Report on Form 8-K filed with the SEC on November 26, 2019 | |||||||||||||
| First Amendment to the Second Amended and Restated Credit Agreement, dated July 8, 2020, by and among Northern Oil and Gas, Inc., Wells Fargo Bank, National Association and the Lenders party thereto | Incorporated by reference to Exhibit 10.1 to the Registrant’s Current Report on Form 8-K filed with the SEC on July 13, 2020 | |||||||||||||
| Second Amendment to the Second Amended and Restated Credit Agreement, dated February 3, 2021, by and among Northern Oil and Gas, Inc. and Wells Fargo Bank, National Association and the Lenders party thereto | Incorporated by reference to Exhibit 10.1 to the Registrant’s Current Report on Form 8-K filed with the SEC on February 3, 2021 | |||||||||||||
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| Purchase Agreement, dated February 8, 2021, between Northern Oil and Gas, Inc. and BofA Securities, Inc., as representative of the several initial purchasers listed in Schedule I thereto | Incorporated by reference to Exhibit 10.1 to the Registrant’s Current Report on Form 8-K filed with the SEC on February 11, 2021 | |||||||||||||
| Exchange Agreement, dated as of February 20, 2020 among Northern Oil and Gas, Inc., TRT Holdings, Inc. and the other signatories thereto | Incorporated by reference to Exhibit 10.1 to the Registrant’s Current Report on Form 8-K filed with the SEC on February 21, 2021 | |||||||||||||
| Registration Rights Agreement, dated April 1, 2021, by and between Northern Oil and Gas, Inc. and Reliance Marcellus, LLC | Incorporated by reference to Exhibit 10.1 to the Registrant’s Current Report on Form 8-K filed with the SEC on April 6, 2021 | |||||||||||||
| Third Amendment to the Second Amended and Restated Credit Agreement, dated May 27, 2021, by and among Northern Oil and Gas, Inc. and Wells Fargo Bank, National Association and the Lenders party thereto | Incorporated by reference to Exhibit 10.1 to the Registrant’s Current Report on Form 8-K filed with the SEC on June 2, 2021 | |||||||||||||
| Purchase Agreement, dated November 9, 2021, between Northern Oil and Gas, Inc. and RBC Capital Markets, LLC, as representative of the several initial purchasers listed in Schedule 1 thereto. | Incorporated by reference to Exhibit 10.1 to the Registrant’s Current Report on Form 8-K filed with the SEC on November 10, 2021 | |||||||||||||
| Fourth Amendment to the Second Amended and Restated Credit Agreement, dated November 3, 2021, by and among Northern Oil and Gas, Inc. and Wells Fargo Bank, National Association and the Lenders party thereto | Incorporated by reference to Exhibit 10.1 to the Registrant’s Current Report on Form 8-K filed with the SEC on November 3, 2021 | |||||||||||||
| Fifth Amendment to the Second Amended and Restated Credit Agreement, dated November 8, 2021, by and among Northern Oil and Gas, Inc. and Wells Fargo Bank, National Association and the Lenders party thereto | Incorporated by reference to Exhibit 10.1 to the Registrant’s Current Report on Form 8-K filed with the SEC on November 8, 2021 | |||||||||||||
| Registration Rights Agreement, dated January 27, 2022, by and between Northern Oil and Gas, Inc. and Veritas Permian II, LLC and Veritas MOC Holdings, LLC | Incorporated by reference to Exhibit 10.1 to the Registrant’s Current Report on Form 8-K filed with the SEC on January31, 2022 | |||||||||||||
| Consent of Independent Registered Public Accounting Firm Deloitte & Touche LLP | Filed herewith | |||||||||||||
| Consent of Cawley, Gillespie & Associates, Inc. | Filed herewith | |||||||||||||
| Powers of Attorney | Filed herewith | |||||||||||||
| Certification of the Principal Executive Officer pursuant to Rule 13a-14(a) or 15d-14(a) under the Securities Exchange Act of 1934, as adopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2002 | Filed herewith | |||||||||||||
| Certification of the Principal Financial Officer pursuant to Rule 13a-14(a) or 15d-14(a) under the Securities Exchange Act of 1934, as adopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2002 | Filed herewith | |||||||||||||
| Certification of the Principal Executive Officer and Principal Financial Officer pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 | Filed herewith | |||||||||||||
| Report of Cawley, Gillespie & Associates | Filed herewith | |||||||||||||
| 101.INS | XBRL Instance Document | Filed herewith | ||||||||||||
| 101.SCH | XBRL Taxonomy Extension Schema Document | Filed herewith | ||||||||||||
| 101.CAL | XBRL Taxonomy Extension Calculation Linkbase Document | Filed herewith | ||||||||||||
| 101.DEF | XBRL Taxonomy Extension Definition Linkbase Document | Filed herewith | ||||||||||||
| 101.LAB | XBRL Taxonomy Extension Label Linkbase Document | Filed herewith | ||||||||||||
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| 101.PRE | XBRL Taxonomy Extension Presentation Linkbase Document | Filed herewith | ||||||||||||
| 104 | The cover page from Northern Oil and Gas, Inc. Annual Report on Form 10-K for the year ended December 31, 2021, formatted in Inline XBRL | Filed herewith | ||||||||||||
* Management contract or compensatory plan or arrangement required to be filed as an exhibit to this report.
Item 16. Form 10-K Summary
None.
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SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized.
NORTHERN OIL AND GAS, INC.
| Date: | February 25, 2022 | By: | /s/ Nicholas O’Grady | |||||||||||
| Nicholas O’Grady, Chief Executive Officer; Principal Executive Officer | ||||||||||||||
Pursuant to the requirements of the Securities Exchange Act of 1934, this report has been signed below by the following persons on behalf of the registrant and in the capacity and on the dates indicated:
By /s/ Nicholas O’Grady Nicholas O’Grady Attorney-in-fact | |||||
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NORTHERN OIL AND GAS, INC.
INDEX TO FINANCIAL STATEMENTS
| Page | ||||||||
Report of Deloitte & Touche LLP, Independent Registered Public Accounting Firm (PCAOB ID No. 34) | F- | |||||||
| Balance Sheets as of December 31, 2021 and 2020 | F- | |||||||
| Statements of Operations for the Years Ended December 31, 2021, 2020 and 2019 | F- | |||||||
| Statements of Cash Flows for the Years Ended December 31, 2021, 2020 and 2019 | F- | |||||||
| Statements of Stockholders’ Equity (Deficit) for the Years Ended December 31, 2021, 2020 and 2019 | F- | |||||||
| Notes to the Financial Statements | F- | |||||||
F-1
REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
To the stockholders and the Board of Directors of Northern Oil and Gas, Inc.
Opinion on the Financial Statements
We have audited the accompanying balance sheets of Northern Oil and Gas, Inc. (the "Company") as of December 31, 2021 and 2020, the related statements of operations, stockholders’ equity (deficit), and cash flows, for each of the three years in the period ended December 31, 2021, and the related notes (collectively referred to as the "financial statements"). In our opinion, the financial statements present fairly, in all material respects, the financial position of the Company as of December 31, 2021 and 2020, and the results of its operations and its cash flows for each of the three years in the period ended December 31, 2021, in conformity with accounting principles generally accepted in the United States of America.
We have also audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States) (PCAOB), the Company's internal control over financial reporting as of December 31, 2021, based on criteria established in Internal Control — Integrated Framework (2013) issued by the Committee of Sponsoring Organizations of the Treadway Commission and our report dated February 25, 2022, expressed an unqualified opinion on the Company’s internal control over financial reporting.
Basis for Opinion
These financial statements are the responsibility of the Company's management. Our responsibility is to express an opinion on the Company's financial statements based on our audits. We are a public accounting firm registered with the PCAOB and are required to be independent with respect to the Company in accordance with the U.S. federal securities laws and the applicable rules and regulations of the Securities and Exchange Commission and the PCAOB.
We conducted our audits in accordance with the standards of the PCAOB. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement, whether due to error or fraud. Our audits included performing procedures to assess the risks of material misstatement of the financial statements, whether due to error or fraud, and performing procedures that respond to those risks. Such procedures included examining, on a test basis, evidence regarding the amounts and disclosures in the financial statements. Our audits also included evaluating the accounting principles used and significant estimates made by management, as well as evaluating the overall presentation of the financial statements. We believe that our audits provide a reasonable basis for our opinion.
Critical Audit Matters
The critical audit matter communicated below is a matter arising from the current-period audit of the financial statements that was communicated or required to be communicated to the audit committee and that (1) relates to accounts or disclosures that are material to the financial statements and (2) involved our especially challenging, subjective, or complex judgments. The communication of the critical audit matter does not alter in any way our opinion on the financial statements, taken as a whole, and we are not, by communicating the critical audit matter below, providing a separate opinion on the critical audit matter or on the accounts or disclosures to which it relates.
Proved Oil and Natural Gas Properties – Oil and Natural Gas Reserves – Refer to Note 2 to the financial statements
Critical Audit Matter Description
The Company follows the full cost method of accounting for crude oil and natural gas operations. Therefore, the Company’s proved oil and natural gas properties are depleted using the units-of-production method based upon production and estimates of proved reserves quantities and are evaluated for impairment by performing a ceiling test each quarter. The ceiling test involves a comparison of net capitalized costs to the sum of the present value of the estimated future net cash flows from the Company’s oil and natural gas reserves. The estimation of the Company’s oil and natural gas reserves quantities and the related future net cash flows requires management to make significant estimates and assumptions since, as a non-operator, the Company has limited visibility into the timing of future production quantities associated with the five-year development plan. The Company engages a third-party independent reserve engineering firm to fully engineer management’s oil and natural gas reserve quantities using these estimates and assumptions and engineering data. Changes in these estimates, assumptions, or engineering data involve judgments which could have significant impact on the depletion calculation and proved oil and natural gas properties impairment evaluation. The proved oil and natural gas properties, net balance was $1,226.4 million as of December
F-2
31, 2021. Depletion, depreciation, amortization, and accretion expense was $140.8 million for the year ended December 31, 2021.
Given the significant judgments made by management, particularly relating to the estimates and assumptions required due to limited visibility as a non-operator regarding future production quantities associated with the five-year development plan, performing audit procedures to evaluate the Company’s oil and natural gas reserve quantities and the related future net cash flows required a high degree of auditor judgment and an increased extent of effort.
How the Critical Audit Matter Was Addressed in the Audit
Our audit procedures related to management’s significant judgments and assumptions regarding oil and natural gas reserve quantities and the related future net cash flows included the following, among others:
•We tested the operating effectiveness of controls related to the Company’s estimation of oil and natural gas reserve quantities and the related future net cash flows, including controls associated with the five-year development plan.
•We evaluated the reasonableness of the future production quantities associated with management’s five-year development plan by comparing to:
–Historical conversions of proved undeveloped oil and natural gas reserves into proved developed oil and natural gas reserves.
–Internal communications to management and the Board of Directors.
–Authorization and approval for expenditures.
–External information regarding the ability of the operators of the oil and natural gas properties to develop proved undeveloped reserves considering current and forecasted liquidity of the operators obtained from publicly available information, level of drilling activity by operators in areas where the Company holds leasehold interests, and length of time required to drill and complete groups of wells.
•We evaluated the Company’s estimates of future production volumes by completing a retrospective comparison to historical production.
•We evaluated the experience, qualifications, and objectivity of management’s expert, a third-party independent reserve engineering firm engaged to fully engineer management’s oil and natural gas reserve quantities.
/s/ Deloitte & Touche LLP
Minneapolis, Minnesota
February 25, 2022
We have served as the Company’s auditor since 2018.
F-3
NORTHERN OIL AND GAS, INC.
BALANCE SHEETS
| (In thousands, except par value and share data) | December 31, 2021 | December 31, 2020 | |||||||||
| Assets | |||||||||||
| Current Assets: | |||||||||||
| Cash and Cash Equivalents | $ | 9,519 | $ | 1,428 | |||||||
| Accounts Receivable, Net | 193,554 | 71,015 | |||||||||
| Advances to Operators | 6,319 | 476 | |||||||||
| Prepaid Expenses and Other | 3,417 | 1,420 | |||||||||
| Derivative Instruments | 2,519 | 51,290 | |||||||||
| Total Current Assets | 215,328 | 125,629 | |||||||||
| Property and Equipment: | |||||||||||
| Oil and Natural Gas Properties, Full Cost Method of Accounting | |||||||||||
| Proved | 5,034,769 | 4,393,533 | |||||||||
| Unproved | 24,998 | 10,031 | |||||||||
| Other Property and Equipment | 2,616 | 2,451 | |||||||||
| Total Property and Equipment | 5,062,383 | 4,406,015 | |||||||||
| Less – Accumulated Depreciation, Depletion and Impairment | (3,809,041) | (3,670,811) | |||||||||
| Total Property and Equipment, Net | 1,253,342 | 735,204 | |||||||||
| Derivative Instruments | 1,863 | 111 | |||||||||
| Acquisition Deposit | 40,650 | — | |||||||||
| Other Noncurrent Assets, Net | 11,683 | 11,145 | |||||||||
| Total Assets | $ | 1,522,866 | $ | 872,089 | |||||||
| Liabilities and Stockholders' Equity | |||||||||||
| Current Liabilities: | |||||||||||
| Accounts Payable | $ | 65,464 | $ | 35,803 | |||||||
| Accrued Liabilities | 105,590 | 68,673 | |||||||||
| Accrued Interest | 20,498 | 8,341 | |||||||||
| Derivative Instruments | 134,283 | 3,078 | |||||||||
| Contingent Consideration | — | 493 | |||||||||
| Other Current Liabilities | 1,722 | 1,087 | |||||||||
| Current Portion of Long-term Debt | — | 65,000 | |||||||||
| Total Current Liabilities | 327,557 | 182,475 | |||||||||
| Long-term Debt, Net | 803,437 | 879,843 | |||||||||
| Derivative Instruments | 147,762 | 14,659 | |||||||||
| Asset Retirement Obligations | 25,865 | 18,366 | |||||||||
| Other Noncurrent Liabilities | 3,110 | 50 | |||||||||
| Total Liabilities | $ | 1,307,731 | $ | 1,095,393 | |||||||
| Commitments and Contingencies | |||||||||||
| Stockholders' Equity (Deficit) | |||||||||||
Preferred Stock, Par Value $0.001; 5,000,000 Authorized 2,218,732 Shares Outstanding at 12/31/2021 2,218,732 Shares Outstanding at 12/31/2020 | 2 | 2 | |||||||||
Common Stock, Par Value $0.001; 135,000,000 Authorized; 77,341,921 Shares Outstanding at 12/31/2021 45,908,779 Shares Outstanding at 12/31/2020 | 479 | 448 | |||||||||
| Additional Paid-In Capital | 1,988,649 | 1,556,602 | |||||||||
| Retained Deficit | (1,773,996) | (1,780,356) | |||||||||
| Total Stockholders’ Equity (Deficit) | 215,135 | (223,304) | |||||||||
| Total Liabilities and Stockholders' Equity (Deficit) | $ | 1,522,866 | $ | 872,089 | |||||||
___________
The accompanying notes are an integral part of these financial statements.
F-4
NORTHERN OIL AND GAS, INC.
STATEMENTS OF OPERATIONS
FOR THE YEARS ENDED DECEMBER 31, 2021, 2020, AND 2019
| December 31, | |||||||||||||||||
| (In thousands, except share and per share data) | 2021 | 2020 | 2019 | ||||||||||||||
| Revenues | |||||||||||||||||
| Oil and Natural Gas Sales | $ | 975,089 | $ | 324,052 | $ | 601,218 | |||||||||||
| Gain (Loss) on Derivative Instruments, Net | (478,193) | 228,141 | (128,837) | ||||||||||||||
| Other Revenue | 3 | 17 | 21 | ||||||||||||||
| Total Revenues | 496,899 | 552,210 | 472,402 | ||||||||||||||
| Operating Expenses | |||||||||||||||||
| Production Expenses | 170,817 | 116,336 | 118,899 | ||||||||||||||
| Production Taxes | 76,954 | 29,783 | 57,771 | ||||||||||||||
| General and Administrative Expenses | 30,341 | 18,546 | 23,624 | ||||||||||||||
| Depletion, Depreciation, Amortization and Accretion | 140,828 | 162,120 | 210,201 | ||||||||||||||
| Impairment of Other Current Assets | — | — | 6,398 | ||||||||||||||
| Impairment Expense | — | 1,066,668 | — | ||||||||||||||
| Total Operating Expenses | 418,940 | 1,393,453 | 416,893 | ||||||||||||||
| Income (Loss) From Operations | 77,959 | (841,243) | 55,509 | ||||||||||||||
| Other Income (Expense) | |||||||||||||||||
| Interest Expense, Net of Capitalization | (59,020) | (58,503) | (79,229) | ||||||||||||||
| Write-off of Debt Issuance Costs | — | (1,543) | — | ||||||||||||||
| Gain (Loss) on Unsettled Interest Rate Derivatives | 1,043 | (1,019) | — | ||||||||||||||
| Loss on the Extinguishment of Debt | (13,087) | (3,718) | (23,187) | ||||||||||||||
| Debt Exchange Derivative Gain (Loss) | — | — | 1,390 | ||||||||||||||
| Contingent Consideration Loss | (292) | (169) | (29,512) | ||||||||||||||
| Financing Expense | — | — | (1,447) | ||||||||||||||
| Other Income (Expense) | (9) | (12) | 158 | ||||||||||||||
| Total Other Income (Expense) | (71,365) | (64,964) | (131,827) | ||||||||||||||
| Income (Loss) Before Income Taxes | 6,594 | (906,207) | (76,318) | ||||||||||||||
| Income Tax Expense (Benefit) | 233 | (166) | — | ||||||||||||||
| Net Income (Loss) | $ | 6,361 | $ | (906,041) | $ | (76,318) | |||||||||||
| Cumulative Preferred Stock Dividend | (14,761) | (15,266) | (1,029) | ||||||||||||||
| Net Loss Attributable to Common Shareholders | $ | (8,400) | $ | (921,307) | $ | (77,347) | |||||||||||
| Net Loss Per Common Share – Basic | $ | (0.13) | $ | (21.55) | $ | (2.00) | |||||||||||
| Net Loss Per Common Share – Diluted | $ | (0.13) | $ | (21.55) | $ | (2.00) | |||||||||||
| Weighted Average Shares Outstanding – Basic | 62,989,543 | 42,744,639 | 38,708,460 | ||||||||||||||
| Weighted Average Shares Outstanding – Diluted | 62,989,543 | 42,744,639 | 38,708,460 | ||||||||||||||
_________
The accompanying notes are an integral part of these financial statements.
F-5
NORTHERN OIL AND GAS, INC.
STATEMENTS OF CASH FLOWS
FOR THE YEARS ENDED DECEMBER 31, 2021, 2020, AND 2019
| December 31, | |||||||||||||||||
| (In thousands) | 2021 | 2020 | 2019 | ||||||||||||||
| Cash Flows From Operating Activities | |||||||||||||||||
| Net Income (Loss) | $ | 6,361 | $ | (906,041) | $ | (76,318) | |||||||||||
| Adjustments to Reconcile Net Income (Loss) to Net Cash Provided by Operating Activities: | |||||||||||||||||
| Depletion, Depreciation, Amortization and Accretion | 140,828 | 162,120 | 210,201 | ||||||||||||||
| Amortization of Debt Issuance Costs | 3,764 | 5,172 | 5,307 | ||||||||||||||
| Write-off of Debt Issuance Costs | — | 1,543 | — | ||||||||||||||
| Loss on Extinguishment of Debt | 13,087 | 3,718 | 23,187 | ||||||||||||||
| Amortization of Bond (Premium) Discount on Long-term Debt | (413) | (1,037) | (2,705) | ||||||||||||||
| Loss on the Sale of Other Property & Equipment | 17 | — | — | ||||||||||||||
| Deferred Income Taxes | 233 | 210 | 210 | ||||||||||||||
| Unrealized (Gain) Loss on Derivative Instruments | 311,328 | (38,858) | 173,214 | ||||||||||||||
| Gain on Debt Exchange Derivative | — | — | (1,390) | ||||||||||||||
| Loss on Contingent Consideration | 292 | 169 | 29,512 | ||||||||||||||
| PIK Interest on Second Lien Notes | — | — | 1,742 | ||||||||||||||
| Share-Based Compensation Expense | 3,621 | 4,119 | 7,955 | ||||||||||||||
| Impairment of Other Current Assets | — | — | 6,398 | ||||||||||||||
| Impairment Expense | — | 1,066,668 | — | ||||||||||||||
| Other | 3,162 | (234) | (41) | ||||||||||||||
| Changes in Working Capital and Other Items: | |||||||||||||||||
| Accounts Receivable, Net | (122,160) | 37,637 | (11,542) | ||||||||||||||
| Prepaid and Other Expenses | (1,999) | 546 | 3,997 | ||||||||||||||
| Accounts Payable | 14,091 | (1,089) | (16,928) | ||||||||||||||
| Accrued Liabilities | 12,318 | 342 | 27,166 | ||||||||||||||
| Accrued Interest | 11,937 | (3,300) | (3,084) | ||||||||||||||
| Payment of Contingent Consideration | — | — | (37,131) | ||||||||||||||
| Net Cash Provided By Operating Activities | 396,467 | 331,685 | 339,750 | ||||||||||||||
| Cash Flows From Investing Activities | |||||||||||||||||
| Drilling and Development Capital Expenditures | (182,798) | (236,691) | (338,788) | ||||||||||||||
| Acquisition of Oil and Natural Gas Properties | (410,430) | (46,940) | (229,182) | ||||||||||||||
| Acquisition Deposit | (40,650) | — | — | ||||||||||||||
| Purchases of Other Property and Equipment | (556) | (295) | (1,158) | ||||||||||||||
| Net Cash Used For Investing Activities | (634,434) | (283,926) | (569,128) | ||||||||||||||
| Cash Flows From Financing Activities | |||||||||||||||||
| Advances on Revolving Credit Facility | 554,000 | 78,000 | 953,000 | ||||||||||||||
| Repayments on Revolving Credit Facility | (1,031,000) | (126,000) | (513,000) | ||||||||||||||
| Repayments of Second Lien Notes | (295,918) | (13,514) | (227,470) | ||||||||||||||
| Repayments of Senior Unsecured Notes | (130,000) | — | — | ||||||||||||||
| Issuance of Unsecured Notes due 2028 | 763,500 | — | — | ||||||||||||||
| Debt Issuance Costs Paid | (17,611) | (446) | (12,219) | ||||||||||||||
| Debt Derivative Exchange Settlements | — | — | (1,044) | ||||||||||||||
| Contingent Consideration Settlements | — | — | (11,278) | ||||||||||||||
| Issuance of Common Stock | 438,077 | — | — | ||||||||||||||
| Common Stock Dividends Paid | (4,938) | — | — | ||||||||||||||
| Repurchases of Common Stock | — | — | (15,108) | ||||||||||||||
| Issuance of Preferred Stock | — | — | 70,868 | ||||||||||||||
| Preferred Stock Dividends Paid | (29,212) | — | — | ||||||||||||||
| Restricted Stock Surrenders - Tax Obligations | (839) | (439) | (660) | ||||||||||||||
| Net Cash Provided (Used) By Financing Activities | 246,059 | (62,399) | 243,088 | ||||||||||||||
| Net Increase (Decrease) in Cash and Cash Equivalents | 8,092 | (14,640) | 13,710 | ||||||||||||||
| Cash and Cash Equivalents – Beginning of Period | 1,428 | 16,068 | 2,358 | ||||||||||||||
| Cash and Cash Equivalents – End of Period | $ | 9,519 | $ | 1,428 | $ | 16,068 | |||||||||||
______________
The accompanying notes are an integral part of these financial statements.
F-6
NORTHERN OIL AND GAS, INC.
STATEMENTS OF STOCKHOLDERS’ EQUITY (DEFICIT)
FOR THE YEARS ENDED DECEMBER 31, 2021, 2020, AND 2019
| (In thousands, except share data) | Common Stock | Preferred Stock | Additional Paid-In | Retained Earnings | Total Stockholders' Equity | ||||||||||||||||||||||||||||||||||||
| Shares | Amount | Shares | Amount | Capital | (Deficit) | (Deficit) | |||||||||||||||||||||||||||||||||||
| December 31, 2018 | 37,833,307 | 378 | — | — | 1,226,371 | (796,884) | 429,865 | ||||||||||||||||||||||||||||||||||
| Issuance of Common Stock | 406,920 | 4 | — | — | — | — | 4 | ||||||||||||||||||||||||||||||||||
| Restricted Stock Forfeitures | (101,314) | (1) | — | — | — | — | (1) | ||||||||||||||||||||||||||||||||||
| Share Based Compensation | — | — | — | — | 8,364 | — | 8,364 | ||||||||||||||||||||||||||||||||||
| Restricted Stock Surrenders - Tax Obligations | (27,185) | — | — | — | (660) | — | (660) | ||||||||||||||||||||||||||||||||||
| Issuance of Preferred Stock, Net of Issuance Costs | — | — | 1,500,000 | 2 | 145,867 | — | 145,868 | ||||||||||||||||||||||||||||||||||
| Debt Exchange Agreements | 724,238 | 7 | — | — | 15,742 | — | 15,749 | ||||||||||||||||||||||||||||||||||
| Acquisition of Oil and Natural Gas Properties | 560,215 | 6 | — | — | 11,703 | — | 11,708 | ||||||||||||||||||||||||||||||||||
| Contingent Consideration Settlements | 1,775,837 | 18 | — | — | 39,154 | — | 39,171 | ||||||||||||||||||||||||||||||||||
| Repurchases of Common Stock | (563,500) | (6) | — | — | (15,102) | — | (15,108) | ||||||||||||||||||||||||||||||||||
| Net Loss | — | — | — | — | — | (76,318) | (76,318) | ||||||||||||||||||||||||||||||||||
| December 31, 2019 | 40,608,518 | $ | 406 | 1,500,000 | $ | 2 | $ | 1,431,438 | $ | (873,203) | $ | 558,643 | |||||||||||||||||||||||||||||
| Issuance of Common Stock | 460,382 | 2 | — | — | — | — | 2 | ||||||||||||||||||||||||||||||||||
| Restricted Stock Forfeitures | (107,071) | — | — | — | — | — | — | ||||||||||||||||||||||||||||||||||
| Share Based Compensation | — | — | — | — | 4,612 | — | 4,612 | ||||||||||||||||||||||||||||||||||
| Restricted Stock Surrenders - Tax Obligations | (39,686) | — | — | — | (438) | — | (439) | ||||||||||||||||||||||||||||||||||
| Issuance of Preferred Stock, Net of Issuance Costs | — | — | 794,702 | 1 | 81,211 | — | 81,212 | ||||||||||||||||||||||||||||||||||
| Debt Exchange Agreements | 4,164,941 | 34 | — | — | 37,135 | — | 37,169 | ||||||||||||||||||||||||||||||||||
| Series A Preferred Exchange | 526,695 | 5 | (75,970) | — | 1,108 | (1,113) | — | ||||||||||||||||||||||||||||||||||
| Acquisition of Oil and Natural Gas Properties | 295,000 | — | — | — | 1,537 | — | 1,537 | ||||||||||||||||||||||||||||||||||
| Net Loss | — | — | — | — | — | (906,041) | (906,041) | ||||||||||||||||||||||||||||||||||
| December 31, 2020 | 45,908,779 | $ | 448 | 2,218,732 | $ | 2 | $ | 1,556,602 | $ | (1,780,357) | $ | (223,304) | |||||||||||||||||||||||||||||
| Issuance of Common Stock | 339,653 | — | — | — | — | — | — | ||||||||||||||||||||||||||||||||||
| Restricted Stock Forfeitures | (14,355) | — | — | — | 1 | — | 1 | ||||||||||||||||||||||||||||||||||
| Share Based Compensation | — | — | — | — | 3,903 | — | 3,903 | ||||||||||||||||||||||||||||||||||
| Restricted Stock Surrenders - Tax Obligations | (60,611) | — | — | — | (839) | — | (839) | ||||||||||||||||||||||||||||||||||
| Equity Offerings, Net of Issuance Costs | 31,125,000 | 31 | — | — | 438,045 | — | 438,077 | ||||||||||||||||||||||||||||||||||
| Issuance of Common Stock Warrants | — | — | — | — | 30,512 | — | 30,512 | ||||||||||||||||||||||||||||||||||
| Contingent Consideration Settlements | 43,455 | — | — | — | 785 | — | 785 | ||||||||||||||||||||||||||||||||||
| Preferred Stock Dividends | — | — | — | — | (29,212) | — | (29,212) | ||||||||||||||||||||||||||||||||||
| Common Stock Dividends Declared | — | — | — | — | (11,149) | — | (11,149) | ||||||||||||||||||||||||||||||||||
| Net Income | — | — | — | — | — | 6,361 | 6,361 | ||||||||||||||||||||||||||||||||||
| December 31, 2021 | 77,341,921 | 479 | 2,218,732 | 2 | $ | 1,988,649 | $ | (1,773,996) | $ | 215,135 | |||||||||||||||||||||||||||||||
___________
The accompanying notes are an integral part of these financial statements.
F-7
NOTES TO FINANCIAL STATEMENTS
DECEMBER 31, 2021
NOTE 1 ORGANIZATION AND NATURE OF BUSINESS
Northern Oil and Gas, Inc. (the “Company,” “Northern,” “our” and words of similar import), a Delaware corporation, is an independent energy company engaged in the acquisition, exploration, exploitation, development and production of crude oil and natural gas properties. The Company’s common stock trades on the New York Stock Exchange under the symbol “NOG”.
Northern’s principal business is crude oil and natural gas exploration, development, and production with operations in the United States. The Company’s primary strategy is investing in non-operated minority working and mineral interests in oil and gas properties in the United States.
NOTE 2 SIGNIFICANT ACCOUNTING POLICIES
These financial statements have been prepared in accordance with accounting principles generally accepted in the United States of America (“GAAP”). In connection with preparing the financial statements for the year ended December 31, 2021, the Company has evaluated subsequent events for potential recognition and disclosure through the date of this filing and determined that there were no subsequent events which required recognition or disclosure in the financial statements through the date of this filing.
Use of Estimates
The preparation of financial statements under GAAP requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period.
The most significant estimates relate to proved crude oil and natural gas reserves, which includes limited control over future development plans as a non-operator, estimates relating to certain crude oil and natural gas revenues and expenses, fair value of derivative instruments, fair value of contingent consideration, acquisition date fair values of assets acquired and liabilities assumed, impairment of crude oil and natural gas properties, asset retirement obligations and deferred income taxes. Actual results may differ from those estimates.
The Company considered the impact of the novel coronavirus 2019 (“COVID-19”) pandemic on the assumptions and estimates used by management in the financial statements for the reporting periods presented. Management’s estimates and assumptions were based on historical data and consideration of future market conditions. Given the uncertainty inherent in any projection, which is heightened by the possibility of unforeseen additional impacts from the COVID-19 pandemic, actual results may differ from the estimates and assumptions used, and conditions may change, which could materially affect amounts reported in the financial statements in the near term.
Cash and Cash Equivalents
Northern considers highly liquid investments with insignificant interest rate risk and original maturities to the Company of three months or less to be cash equivalents. Cash equivalents consist primarily of interest-bearing bank accounts. The Company’s cash positions represent assets held in checking and money market accounts. Cash and cash equivalents are generally available on a daily or weekly basis and are highly liquid in nature. Due to the balances being greater than $250,000, the Company does not have FDIC coverage on the entire amount of bank deposits. The Company believes this risk is minimal. In addition, the Company is subject to Security Investor Protection Corporation (“SIPC”) protection on a vast majority of its financial assets.
Accounts Receivable
Accounts receivable are carried on a gross basis, with no discounting. The Company regularly reviews all aged accounts receivable for collectability and establishes an allowance as necessary for individual balances. Accounts receivable not expected to be collected within the next twelve months are included within Other Noncurrent Assets, Net in the balance sheets.
As of December 31, 2021 and 2020, the allowance for doubtful accounts was $3.9 million in both years. The amount charged to operations for doubtful accounts was $0.3 million, $0.3 million and zero for the years ended December 31, 2021, 2020 and
F-8
2019, respectively. As of December 31, 2021 and 2020, the amount charged against the allowance for doubtful accounts was $0.3 million and $1.0 million, respectively.
As of December 31, 2021 and 2020, the Company included accounts receivable of $4.0 million and $4.4 million, respectively, in Other Noncurrent Assets, Net due to their long-term nature.
Advances to Operators
The Company participates in the drilling of crude oil and natural gas wells with other working interest partners. Due to the capital intensive nature of crude oil and natural gas drilling activities, the working interest partner responsible for conducting the drilling operations may request advance payments from other working interest partners for their share of the costs. The Company expects such advances to be applied by working interest partners against joint interest billings for its share of drilling operations within 90 days from when the advance is paid.
Other Property and Equipment
Property and equipment that are not crude oil and natural gas properties are recorded at cost and depreciated using the straight-line method over their estimated useful lives of to seven years. Expenditures for replacements, renewals, and betterments are capitalized. Maintenance and repairs are charged to operations as incurred. Long-lived assets, other than crude oil and natural gas properties, are evaluated for impairment to determine if current circumstances and market conditions indicate the carrying amount may not be recoverable. The Company has not recognized any impairment losses on non-crude oil and natural gas long-lived assets.
Oil and Gas Properties
The Company follows the full cost method of accounting for crude oil and natural gas operations whereby all costs related to the exploration and development of crude oil and natural gas properties are capitalized into a single cost center (“full cost pool”). Such costs include land acquisition costs, geological and geophysical expenses, carrying charges on non-producing properties, costs of drilling directly related to acquisition, and exploration activities. Internal costs that are capitalized are directly attributable to acquisition, exploration and development activities and do not include costs related to production, general corporate overhead or similar activities. Costs associated with production and general corporate activities are expensed in the period incurred. Capitalized costs are summarized as follows for the years ended December 31, 2021, 2020 and 2019, respectively:
| December 31, | |||||||||||||||||
| (In thousands) | 2021 | 2020 | 2019 | ||||||||||||||
| Capitalized Certain Payroll and Other Internal Costs | $ | 1,353 | $ | 1,159 | $ | 995 | |||||||||||
| Capitalized Interest Costs | 1,103 | 556 | 644 | ||||||||||||||
| Total | $ | 2,456 | $ | 1,716 | $ | 1,638 | |||||||||||
As of December 31, 2021, the Company held leasehold and other oil and gas interests in the United States in the Williston Basin, Permian Basin and Appalachian Basin.
Proceeds from property sales will generally be credited to the full cost pool, with no gain or loss recognized, unless such a sale would significantly alter 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. In the years ended December 31, 2021, 2020 and 2019, there were no property sales that resulted in a significant alteration.
Under the full cost method of accounting, the Company is required to perform a ceiling test each quarter. The test determines a limit, or ceiling, on the net book value of the proved oil and gas properties. Net capitalized costs are limited to the lower of unamortized cost net of deferred income taxes, or the cost center ceiling. The proved oil and natural gas properties, net balance was $1,226.4 million as of December 31, 2021. The cost center ceiling is defined as the sum of (a) estimated future net revenues, discounted at 10% per annum, from proved reserves, based on the trailing twelve-month unweighted average of the first-day-of-the-month price, adjusted for any contract provisions or financial derivatives designated as hedges for accounting purposes, if any, that hedge the Company’s oil and natural gas revenue, and excluding the estimated abandonment costs for properties with asset retirement obligations recorded in the balance sheet, (b) the cost of properties not being amortized, if any, and (c) the lower of cost or market value of unproved properties included in the cost being amortized, including related deferred taxes for differences between the book and tax basis of the oil and natural gas properties. If the net book value, including related deferred taxes, exceeds the ceiling, an impairment or non-cash writedown is required.
F-9
The Company did not have any ceiling test impairment for the year ended December 31, 2021. The Company recorded a ceiling test impairment of $1,066.7 million for the year ended December 31, 2020. The Company did not have any ceiling test impairment for the year ended December 31, 2019. Impairment charges affect the Company’s reported net income but do not reduce the Company’s cash flow.
The Company computes the provision for depletion of oil and natural gas properties using the unit-of-production method based upon production and estimates of proved reserve quantities. Unproved costs and related carrying costs are excluded from the depletion base until the properties associated with these costs are considered proved or impaired. The following table presents depletion and depletion per BOE sold of the Company’s proved oil and natural gas properties for the periods presented:
| Year Ended December 31, | |||||||||||||||||
| (In thousands) | 2021 | 2020 | 2019 | ||||||||||||||
| Depletion of Proved Oil and Natural Gas Properties | $ | 138,759 | $ | 160,643 | $ | 209,050 | |||||||||||
| Depletion per BOE Sold | $ | 7.07 | $ | 13.27 | $ | 14.84 | |||||||||||
The Company believes that the majority of its unproved costs will become subject to depletion within the next five years by proving up reserves relating to the acreage through exploration and development activities, by impairing the acreage that will expire before the Company can explore or develop it further or by determining that further exploration and development activity will not occur. The timing by which all other properties will become subject to depletion will be dependent upon the timing of future drilling activities and delineation of its reserves.
Capitalized costs associated with impaired unproved properties, which includes leases that have expired or have been deemed uneconomic, and capitalized costs related to properties having proved reserves, plus the estimated future development costs and asset retirement costs, are depleted and amortized on the unit-of-production method. Under this method, depletion is calculated at the end of each period by multiplying total production for the period by a depletion rate. The depletion rate is determined by dividing the total unamortized cost base plus future development costs by net equivalent proved reserves at the beginning of the period. The costs of unproved properties are withheld from the depletion base until such time as they are either developed or abandoned. When proved reserves are assigned or the property is considered to be impaired, the cost of the property or the amount of the impairment is added to costs subject to depletion and full cost ceiling calculations. For the years ended December 31, 2021, 2020 and 2019, unproved properties of $3.0 million, $2.9 million, and $3.6 million, respectively, were impaired.
Asset Retirement Obligations
The Company accounts for its abandonment and restoration liabilities under Financial Accounting Standards Board (“FASB”) ASC Topic 410, “Asset Retirement and Environmental Obligations” (“FASB ASC 410”), which requires the Company to record a liability equal to the fair value of the estimated cost to retire an asset upon initial recognition. The asset retirement liability is recorded in the period in which the obligation meets the definition of a liability, which is generally when the asset is placed into service. When the liability is initially recorded, the Company increases the carrying amount of oil and natural gas properties by an amount equal to the original liability. The liability is accreted to its present value each period, and the capitalized cost is depreciated consistent with depletion of reserves. Upon settlement of the liability or the sale of the well, the liability is relieved. These liability amounts may change because of changes in asset lives, estimated costs of abandonment or legal or statutory remediation requirements.
Business Combinations
The Company accounts for its acquisitions that qualify as a business using the acquisition method under FASB ASC Topic 805, “Business Combinations.” Under the acquisition method, assets acquired and liabilities assumed are recognized and measured at their fair values. The use of fair value accounting requires the use of significant judgment since some transaction components do not have fair values that are readily determinable. The excess, if any, of the purchase price over the net fair value amounts assigned to assets acquired and liabilities assumed is recognized as goodwill. Conversely, if the fair value of assets acquired exceeds the purchase price, including liabilities assumed, the excess is immediately recognized in earnings as a bargain purchase gain.
F-10
Financial Instruments
The Company’s financial instruments consist of cash and cash equivalents, receivables, payables, commodity derivative assets and liabilities, contingent consideration, debt exchange derivative liability, and long-term debt. The carrying amounts of cash equivalents, receivables and payables approximate fair value due to the highly liquid or short-term nature of these instruments. The fair values of the Company’s derivative instruments assets and liabilities are based on a third-party industry-standard pricing model using contract terms and prices and assumptions and inputs that are substantially observable in active markets throughout the full term of the instruments, including forward oil price curves, discount rates, volatility factors and credit risk adjustments. The fair values of the Company’s contingent consideration and debt exchange derivative liabilities are determined by a third-party valuation specialist using Monte Carlo simulations including significant inputs such as (i) the Company’s common stock price, (ii) risk-free rates based on U.S. Treasury rates, (iii) volatility of the Company’s common stock, and (iv) expected average daily trading volumes.
The carrying amount of long-term debt associated with borrowings outstanding under the Company’s Revolving Credit Facility approximates fair value as borrowings bear interest at variable rates. The carrying amounts of the Company’s Unsecured Notes due 2028 (see Note 4 below) may not approximate fair value because carrying amounts are net of unamortized premiums and debt issuance costs, and the Unsecured Notes due 2028 bear interest at fixed rates. See Note 11 for additional discussion.
Debt Issuance Costs
Debt issuance costs related to our Unsecured Notes due 2028 are included as a deduction from the carrying amount of long-term debt in the balance sheets and are amortized to interest expense using the effective interest method over the term of the related debt. Debt issuance costs related to the Revolving Credit Facility are included in other noncurrent assets and are amortized to interest expense on a straight-line basis over the term of the agreement.
Debt Premiums
Debt premiums related to the Company’s Unsecured Notes due 2028 are included as an addition to the carrying amount of the long-term debt in the balance sheets and are amortized to interest expense using the effective interest method over the term of the related notes.
Revenue Recognition
The Company’s revenues are primarily derived from its interests in the sale of oil and natural gas production. The Company recognizes revenue from its interests in the sales of crude oil and natural gas in the period that its performance obligations are satisfied. Performance obligations are satisfied when the customer obtains control of product, when the Company has no further obligations to perform related to the sale, when the transaction price has been determined and when collectability is probable. The sales of oil and natural gas are made under contracts which the third-party operators of the wells have negotiated with customers, which typically include variable consideration that is based on pricing tied to local indices and volumes delivered in the current month. The Company receives payment from the sale of oil and natural gas production from one to three months after delivery. At the end of each month when the performance obligation is satisfied, the variable consideration can be reasonably estimated and amounts due from customers are accrued in trade receivables, net in the balance sheets. Variances between the Company’s estimated revenue and actual payments are recorded in the month the payment is received, however, differences have been and are insignificant. Accordingly, the variable consideration is not constrained.
The Company does not disclose the value of unsatisfied performance obligations under its contracts with customers as it applies the practical exemption in accordance with FASB ASC Topic 606. The exemption, as described in ASC 606-10-50-14(a), applies to variable consideration that is recognized as control of the product is transferred to the customer. Since each unit of product represents a separate performance obligation, future volumes are wholly unsatisfied, and disclosure of the transaction price allocated to remaining performance obligations is not required.
The Company’s oil is typically sold at delivery points under contracts terms that are common in our industry. The Company’s natural gas produced is delivered by the well operators to various purchasers at agreed upon delivery points under a limited number of contract types that are also common in our industry. Regardless of the contract type, the terms of these contracts compensate the well operators for the value of the oil and natural gas at specified prices, and then the well operators will remit payment to the Company for its share in the value of the oil and natural gas sold.
A wellhead imbalance liability equal to the Company’s share is recorded to the extent that the Company’s well operators have sold volumes in excess of its share of remaining reserves in an underlying property. However, for the years ended
F-11
December 31, 2021, 2020 and 2019, the Company’s natural gas production was in balance, meaning its cumulative portion of natural gas production taken and sold from wells in which it has an interest equaled its entitled interest in natural gas production from those wells.
The Company’s disaggregated revenue has two primary sources: oil sales and natural gas and NGL sales. Substantially all of the Company’s oil and natural gas sales come from three geographic areas in the United States: the Williston Basin (North Dakota and Montana), the Appalachian Basin (Pennsylvania), and the Permian Basin (New Mexico and Texas). The following tables present the disaggregation of the Company’s oil revenues and natural gas and NGL revenues by basin for the years ended December 31, 2021, 2020 and 2019.
| Twelve Months Ended December 31, 2021 | |||||||||||||||||||||||
| (In thousands) | Williston | Permian | Appalachian | Total | |||||||||||||||||||
| Oil Revenues | $ | 730,982 | $ | 42,488 | $ | — | $ | 773,470 | |||||||||||||||
| Natural Gas and NGL Revenues | 141,425 | 7,386 | 52,808 | 201,619 | |||||||||||||||||||
| Total | $ | 872,407 | $ | 49,874 | $ | 52,808 | $ | 975,089 | |||||||||||||||
| Twelve Months Ended December 31, 2020 | |||||||||||||||||||||||
| (In thousands) | Williston | Permian | Appalachian | Total | |||||||||||||||||||
| Oil Revenues | $ | 304,754 | $ | 495 | $ | — | $ | 305,249 | |||||||||||||||
| Natural Gas and NGL Revenues | 18,773 | 30 | — | 18,802 | |||||||||||||||||||
| Total | $ | 323,527 | $ | 525 | $ | — | $ | 324,052 | |||||||||||||||
| Twelve Months Ended December 31, 2019 | |||||||||||||||||||||||
| (In thousands) | Williston | Permian | Appalachian | Total | |||||||||||||||||||
| Oil Revenues | $ | 574,616 | $ | — | $ | — | $ | 574,616 | |||||||||||||||
| Natural Gas and NGL Revenues | 26,601 | — | 26,601 | ||||||||||||||||||||
| Total | $ | 601,218 | $ | — | $ | — | $ | 601,218 | |||||||||||||||
Concentrations of Market, Credit Risk and Other Risks
The future results of the Company’s crude oil and natural gas operations will be affected by the market prices of crude oil and natural gas. The availability of a ready market for crude oil and natural gas products in the future will depend on numerous factors beyond the control of the Company, including weather, imports, marketing of competitive fuels, proximity and capacity of crude oil and natural gas pipelines and other transportation facilities, any oversupply or undersupply of crude oil, natural gas and liquid products, economic disruptions resulting from the COVID-19 pandemic, the regulatory environment, the economic environment, and other regional and political events, none of which can be predicted with certainty.
The Company operates in the exploration, development and production sector of the crude oil and natural gas industry. The Company’s receivables include amounts due, indirectly via the third-party operators of the wells, from purchasers of its crude oil and natural gas production. While certain of these customers, as well as third-party operators of the wells, are affected by periodic downturns in the economy in general or in their specific segment of the crude oil or natural gas industry, the Company believes that its level of credit-related losses due to such economic fluctuations have been immaterial.
As a non-operator, 100% of the Company’s wells are operated by third-party operating partners. As a result, the Company is highly dependent on the success of these third-party operators. If they are not successful in the development, exploitation, production and exploration activities relating to the Company’s leasehold interests, or are unable or unwilling to perform, the Company’s financial condition and results of operation could be adversely affected. These risks are heightened in a low commodity price environment, which may present significant challenges to these third-party operators. The Company’s third-party operators will make decisions in connection with their operations that may not be in the Company’s best interests, and the Company may have little or no ability to exercise influence over the operational decisions of its third-party operators. For the years ended December 31, 2021, 2020 and 2019, the Company’s top four operators made up 50%, 49% and 51%, respectively, of total oil and natural gas sales.
F-12
The Company faces concentration risk due to the fact that a substantial majority of its oil and natural gas revenue is sourced from North Dakota. Recent acquisitions have diversified the Company’s portfolio to include Pennsylvania, New Mexico and Texas. But the Company remains disproportionately exposed to risks affecting a limited number of geographic areas of operations.
The Company manages and controls market and counterparty credit risk. In the normal course of business, collateral is not required for financial instruments with credit risk. Financial instruments which potentially subject the Company to credit risk consist principally of temporary cash balances and derivative financial instruments. The Company maintains cash and cash equivalents in bank deposit accounts which, at times, may exceed the federally insured limits. The Company has not experienced any significant losses from such investments. The Company attempts to limit the amount of credit exposure to any one financial institution or company. The Company believes the credit quality of its counterparties is generally high. In the normal course of business, letters of credit or parent guarantees may be required for counterparties which management perceives to have a higher credit risk.
Stock-Based Compensation
The Company records expense associated with the fair value of stock-based compensation. For fully vested stock and restricted stock grants, the Company calculates the stock-based compensation expense based upon estimated fair value on the date of grant. In determining the fair value of performance-based share awards subject to market conditions, the Company utilizes a Monte Carlo simulation prepared by an independent third-party. For stock options, the Company uses the Black-Scholes option valuation model to calculate stock-based compensation at the date of grant. Option pricing models require the input of highly subjective assumptions, including the expected price volatility. Changes in these assumptions can materially affect the fair value estimate.
Treasury Stock
Treasury stock is recorded at cost, which includes incremental direct transaction costs, and is retired upon acquisition as a result of share repurchases under the share repurchase program or from the withholding of shares of stock to satisfy employee tax withholding obligations that arise upon the lapse of restrictions on their stock-based awards at the employees’ election.
Income Taxes
The Company’s income tax expense, deferred tax assets and deferred tax liabilities reflect management’s best assessment of estimated current and future taxes to be paid. The Company estimates for each interim reporting period the effective tax rate expected for the full fiscal year and uses that estimated rate in providing for income taxes on a current year-to-date basis. The Company’s only taxing jurisdictions are the United States and the US states in which we operate.
Deferred income taxes arise from temporary differences between the tax basis of assets and liabilities and their reported amounts in the financial statements, which will result in taxable or deductible amounts in the future. In evaluating the Company’s ability to recover its deferred tax assets, the Company considers all available positive and negative evidence, including scheduled reversals of deferred tax liabilities, projected future taxable income, tax-planning strategies, and results of recent operations. In projecting future taxable income, the Company begins with historical results and incorporates assumptions about the amount of future state and federal pretax operating income adjusted for items that do not have tax consequences. The assumptions about future taxable income require significant judgment and are consistent with the plans and estimates the Company is using to manage the underlying businesses.
Accounting standards require the consideration of a valuation allowance for deferred tax assets if it is “more likely than not” that some component or all of the benefits of deferred tax assets will not be realized. In assessing the need for a valuation allowance for the Company’s deferred tax assets, a significant item of negative evidence considered was the cumulative book losses in recent years, driven primarily by the full cost ceiling impairments over that period. Additionally, the Company’s revenue, profitability and future growth are substantially dependent upon prevailing and future prices for oil and natural gas. The markets for these commodities continue to be volatile. Changes in oil and natural gas prices have a significant impact on the value of the Company’s reserves and on its cash flows. Due to these factors, management has placed a lower weight on the prospect of future earnings in its overall analysis of the valuation allowance. Accordingly, the valuation allowance against the Company’s deferred tax asset at December 31, 2021 and 2020 was $341.3 million and $337.5 million, respectively.
F-13
Derivative Instruments and Price Risk Management
The Company uses derivative instruments to manage market risks resulting from fluctuations in the prices of crude oil. The Company enters into derivative contracts, including price swaps, caps and floors, 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 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 Topic 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 statements of operations. See Note 12 for a description of the derivative contracts into which the Company has entered.
Employee Benefit Plans
The Company sponsors a 401(k) defined contribution plan for the benefit of substantially all employees at the date of hire. The plan allows eligible employees to make pre-tax contributions up to 100% of their annual compensation, not to exceed annual limits established by the federal government. Employees are 100% vested in the employer contributions upon receipt.
Net Income (Loss) Per Common Share
Basic earnings per share (“EPS”) are computed by dividing net income (loss) attributable to common stockholders (the numerator) by the weighted average number of common shares outstanding for the period (the denominator). Diluted EPS is computed by dividing net income (loss) attributable to common stockholders by the weighted average number of common shares and potential common shares outstanding (if dilutive) during each period. Potential common shares include shares issuable upon exercise of stock options or warrants and vesting of restricted stock awards, and shares issuable upon conversion of the Series A Preferred Stock (see Note 5). The number of potential common shares outstanding are calculated using the treasury stock or if-converted method.
In those reporting periods in which the Company has reported net income available to common stockholders, anti-dilutive shares generally are comprised of the restricted stock that has average unrecognized stock compensation expense greater than the average stock price. In those reporting periods in which the Company has a net loss, anti-dilutive shares are comprised of the impact of those number of shares that would have been dilutive had the Company had net income plus the number of common stock equivalents that would be anti-dilutive had the company had net income.
Restricted stock awards are excluded from the calculation of basic weighted average common shares outstanding until they vest. For restricted stock awards that vest based on achievement of performance and/or market conditions, the number of contingently issuable common shares included in diluted weighted-average common shares outstanding is based on the number of common shares, if any, that would be issuable under the terms of the arrangement if the end of the reporting period were the end of the contingency period, assuming the result would be dilutive.
F-14
Supplemental Cash Flow Information
The following reflects the Company’s supplemental cash flow information for the years ended December 31, 2021, 2020 and 2019 :
| December 31, | |||||||||||||||||
| (In thousands) | 2021 | 2020 | 2019 | ||||||||||||||
| Supplemental Cash Items: | |||||||||||||||||
| Cash Paid During the Period for Interest, Net of Amount Capitalized | $ | 46,951 | $ | 55,109 | $ | 78,596 | |||||||||||
| Non-cash Operating Activities: | |||||||||||||||||
| Contingent Consideration Settlements in Excess of Acquisition-date Liabilities | — | — | 21,349 | ||||||||||||||
| Non-cash Investing Activities: | |||||||||||||||||
| Oil and Natural Gas Properties Included in Accounts Payable and Accrued Liabilities | 111,897 | 88,564 | 161,743 | ||||||||||||||
| Capitalized Asset Retirement Obligations | 6,950 | 710 | 4,042 | ||||||||||||||
| Contingent Consideration | 785 | 324 | — | ||||||||||||||
| Compensation Capitalized on Oil and Gas Properties | 282 | 495 | 412 | ||||||||||||||
| Issuance of Common Stock Warrants - Acquisitions of Oil and Natural Gas Properties | 30,512 | — | — | ||||||||||||||
| Issuance of Common Stock - Acquisitions of Oil and Natural Gas Properties | — | 1,537 | 11,708 | ||||||||||||||
| Other Property and Equipment Included in Accounts Payable | 578 | — | — | ||||||||||||||
| Issuance of Unsecured VEN Bakken Note | — | — | 128,660 | ||||||||||||||
| Non-cash Financing Activities: | |||||||||||||||||
| Common Stock Dividends Declared | 6,210 | — | — | ||||||||||||||
Issuance of Preferred Stock in Exchange for 8.5% Second Lien Notes due 2023 | — | 81,212 | 75,000 | ||||||||||||||
Issuance of 8.50% Second Lien Notes due 2023 - PIK Interest | — | — | 3,480 | ||||||||||||||
| Issuance of Common Stock for 2L Notes Repurchase | — | 37,169 | — | ||||||||||||||
| Issuance of Common Stock for Preferred Stock Exchange | — | 1,113 | — | ||||||||||||||
| Debt Exchange Derivative Liability Settlements | — | — | 15,749 | ||||||||||||||
| Contingent Consideration Settlements | — | — | 17,822 | ||||||||||||||
New Accounting Pronouncements
From time to time, new accounting pronouncements are issued by the FASB that are adopted by the Company as of the specified effective date. If not discussed, management believes that the impact of recently issued standards, which are not yet effective, will not have a material impact on the Company’s financial statements upon adoption.
In March 2020, the FASB issued ASU No. 2020-04, Reference Rate Reform (Topic 848): Facilitation of the Effects of Reference Rate Reform on Financial Reporting (“ASU 2020-04”) followed by ASU No. 2021-01, Reference Rate Reform (Topic 848): Scope (“ASU 2021-01”), issued in January 2021 to provide clarifying guidance regarding the scope of Topic 848. ASU 2020-04 was issued to provide optional guidance for a limited period of time to ease the potential burden in accounting for (or recognizing the effects of) reference rate reform on financial reporting. Generally, the guidance is to be applied as of any date from the beginning of an interim period that includes or is subsequent to March 12, 2020, or prospectively from a date within an interim period that includes or is subsequent to March 12, 2020, up to the date that the financial statements are available to be issued. ASU 2020-04 and ASU 2021-01 are effective for all entities through December 31, 2022. The Company
F-15
has not elected to use the optional guidance and continues to evaluate the options provided by ASU 2020-04 and ASU 2021-01 and the impact the new standard will have on its financial statements and related disclosure.
NOTE 3 CRUDE OIL AND NATURAL GAS PROPERTIES
The book value of the Company’s crude oil and natural gas properties consists of all acquisition costs (including cash expenditures and the value of stock consideration), drilling costs and other associated capitalized costs. Acquisitions are accounted for as purchases and, accordingly, the results of operations are included in the accompanying statements of operations from the closing date of the acquisition. Acquired assets and liabilities assumed are recorded based on their estimated fair value at the time of the acquisition. Development capital expenditures and purchases of properties that were in accounts payable and not yet paid in cash at December 31, 2021 and 2020 were approximately $111.9 million and $88.6 million, respectively.
2021 Acquisitions
During 2021, in addition to the Reliance Acquisition (defined below), CM Resources Acquisition (defined below) and the Comstock Acquisition (defined below), the Company acquired oil and natural gas properties, through a number of independent transactions, for a total of $37.9 million, excluding the associated development costs.
Reliance Acquisition
On April 1, 2021, the Company completed the acquisition of certain oil and gas properties, interests and related net assets from Reliance Marcellus, LLC (the “Reliance Acquisition”), effective July 1, 2020. At closing, the acquired assets included approximately 95.3 net producing wells and 24.9 net wells in progress, as well as approximately 61,712 net acres in the Appalachian Basin in Pennsylvania. In addition, the Company assumed minimum volume commitment contracts. The Reliance Acquisition was completed pursuant to the purchase and sale agreement between the Company and Reliance Marcellus, LLC (“Reliance”), dated February 3, 2021.
The total consideration paid by the Company was $140.6 million, consisting of (i) warrants to purchase 3,250,000 shares of the Company’s common stock with an exercise price equal to $14.00 per share and a total estimated fair value of $30.5 million and (ii) cash purchase consideration of $110.1 million. The Reliance Acquisition was accounted for using the acquisition method under ASC Topic 805, Business Combinations, which requires all assets acquired and liabilities assumed to be recorded at fair value at the acquisition date.
The results of operations from the acquisition from the April 1, 2021 closing date through December 31, 2021, represented approximately $52.8 million of revenue and $25.0 million of income from operations. The Company incurred $6.2 million of transaction costs in connection with the acquisition, which are included in general and administrative expense in the statement of operations. The following table reflects the fair values of the net assets and liabilities as of the date of acquisition:
| (In thousands) | ||||||||
| Fair value of net assets: | ||||||||
| Proved oil and natural gas properties | $ | 139,644 | ||||||
| Unproved oil and natural gas properties | 10,912 | |||||||
| Total assets acquired | $ | 150,556 | ||||||
| Asset retirement obligations | (6,549) | |||||||
| Minimum volume commitment liability | (3,443) | |||||||
| Net assets acquired | $ | 140,564 | ||||||
| Fair value of consideration paid for net assets: | ||||||||
| Cash consideration | $ | 110,052 | ||||||
Issuance of Warrants (3.2 million shares at $14.00 per share) | 30,512 | |||||||
| Total fair value of consideration transferred | $ | 140,564 | ||||||
F-16
CM Resources Acquisition
On August 2, 2021, the Company completed the acquisition of certain non-operated oil and gas properties from CM Resources, LLC, effective as of April 1, 2021 (the “CM Resources Acquisition”), for total estimated consideration of $101.7 million in cash. At closing, the acquired assets included approximately 6.5 net producing wells and 3.0 net wells in progress, as well as approximately 2,285 net acres in the Permian Basin. The CM Resources Acquisition was accounted for using the acquisition method under ASC Topic 805, Business Combinations, which requires all assets acquired and liabilities assumed to be recorded at fair value at the acquisition date. The results of operations from the acquisition from the August 2, 2021 closing date through December 31, 2021, represented approximately $32.5 million of revenue and $22.1 million of income from operations.
The following table reflects the fair values of the net assets and liabilities as of the date of acquisition:
| (In thousands) | ||||||||
| Fair value of net assets: | ||||||||
| Proved oil and natural gas properties | $ | 101,869 | ||||||
| Unproved oil and natural gas properties | — | |||||||
| Total assets acquired | $ | 101,869 | ||||||
| Asset retirement obligations | (179) | |||||||
| Net assets acquired | $ | 101,691 | ||||||
| Fair value of consideration paid for net assets: | ||||||||
| Cash consideration | $ | 101,691 | ||||||
| Total fair value of consideration transferred | $ | 101,691 | ||||||
Pro Forma Information
The following summarized unaudited pro forma statement of operations information for the years ended December 31, 2021 and December 31, 2020 assumes that the Reliance and CM Resources Acquisitions occurred as of January 1, 2020. The Company prepared the following summarized unaudited pro forma financial results for comparative purposes only. The summarized unaudited pro forma information may not be indicative of the results that would have occurred had the Company completed the acquisitions as of January 1, 2020, or that would be attained in the future.
| Year Ended December 31, | Year Ended December 31, | |||||||||||||
| (In thousands) | 2021 | 2020 | ||||||||||||
| Total Revenues | $ | 526,456 | $ | 602,951 | ||||||||||
| Net Income (Loss) | $ | 17,281 | $ | (904,857) | ||||||||||
Comstock Acquisition
On November 16, 2021, the Company completed the acquisition of certain oil and gas properties, interests and related assets from Comstock Oil & Gas, LLC (“Comstock”), effective as of October 1, 2021 (the “Comstock Acquisition”), for total estimated consideration of $150.5 million in cash. The acquisition was accounted for as an asset acquisition under ASC Topic 805 and the acquired assets consisted of approximately 65.9 net producing wells located primarily in Williams, McKenzie, Mountrail and Dunn Counties, North Dakota. Of the purchase price, 100% was allocated to proved properties and the Company recognized approximately $1.7 million of asset retirement obligations. The Comstock Acquisition was completed pursuant to the purchase and sale agreement between the Company and Comstock, dated October 6, 2021.
2020 Acquisitions
During 2020, the Company acquired oil and natural gas properties, through a number of independent transactions, for a total of $21.6 million, excluding the associated development costs.
F-17
Divestitures
From time-to-time the Company may divest assets. In addition, the Company may trade leasehold interests with operators to balance working interests in spacing units to facilitate and encourage a more expedited development of the Company’s acreage.
Unproved Properties
Unproved properties not being amortized comprise approximately 29,835 net acres and 16,464 net acres of undeveloped leasehold interests at December 31, 2021 and 2020, respectively. The Company believes that the majority of its unproved costs will become subject to depletion within the next five years by proving up reserves relating to the acreage through exploration and development activities, by impairing the acreage that will expire before the Company can explore or develop it further or by determining that further exploration and development activity will not occur. The timing by which all other properties will become subject to depletion will be dependent upon the timing of future drilling activities and delineation of its reserves.
Excluded costs for unproved properties are accumulated by year. Costs are reflected in the full cost pool as the drilling costs are incurred or as costs are evaluated and deemed impaired. The Company anticipates these excluded costs will be included in the depletion computation over the next five years. The Company is unable to predict the future impact on depletion rates. The following is a summary of capitalized costs excluded from depletion at December 31, 2021 by year incurred.
| December 31, | |||||||||||||||||||||||
| (In thousands) | 2021 | 2020 | 2019 | Prior Years | |||||||||||||||||||
| Property Acquisition | $ | 15,991 | $ | 240 | $ | 4,664 | $ | 4,102 | |||||||||||||||
| Development | — | — | — | — | |||||||||||||||||||
| Total | $ | 15,991 | $ | 240 | $ | 4,664 | $ | 4,102 | |||||||||||||||
The Company historically has acquired unproved properties by purchasing individual or small groups of leases directly from mineral owners, landmen or lease brokers, which leases historically have not been subject to specified drilling projects, and by purchasing lease packages in identified project areas controlled by specific operators. The Company generally participates in drilling activities on a heads up basis by electing whether to participate in each well on a well-by-well basis at the time wells are proposed for drilling.
The Company assesses all items classified as unproved property on an annual basis, or if certain circumstances exist, more frequently, for possible impairment or reduction in value. The assessment includes consideration of the following factors, among others: intent to drill, remaining lease term, geological and geophysical evaluations, drilling results and activity, the assignment of proved reserves, and the economic viability of development if proved reserves are assigned. During any period in which these factors indicate an impairment, the cumulative costs incurred to date for such property and all or a portion of the associated leasehold costs are transferred to the full cost pool and are then subject to depletion and amortization.
NOTE 4 LONG-TERM DEBT
The Company’s long-term debt consists of the following:
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| (In thousands) | December 31, 2021 | December 31, 2020 | ||||||||||||
| Revolving Credit Facility | $ | 55,000 | $ | 532,000 | ||||||||||
| Unsecured Notes due 2028 | 750,000 | — | ||||||||||||
| Second Lien Notes due 2023 | — | 287,755 | ||||||||||||
| Unsecured VEN Bakken Note | — | 130,000 | ||||||||||||
| Total principal | 805,000 | 949,755 | ||||||||||||
| Unamortized debt discounts and premiums | 13,217 | 2,041 | ||||||||||||
| Unamortized debt issuance costs (1) | (14,780) | (6,953) | ||||||||||||
| Total debt | 803,437 | 944,843 | ||||||||||||
| Less current portion of long-term debt | — | (65,000) | ||||||||||||
| Total long-term debt | $ | 803,437 | $ | 879,843 | ||||||||||
_____________________
(1)Debt issuance costs related to the Company’s Revolving Credit Facility of $5.7 million and $6.5 million as of December 31, 2021 and 2020, are recorded in “Other Noncurrent Assets, Net” in the balance sheets. During the years ended December 31, 2021 and 2020, the Company recorded a zero and $1.5 million write-off of debt issuance costs as a result of the reduction in the borrowing base under the Revolving Credit Facility.
Revolving Credit Facility
On November 22, 2019, the Company entered into a Second Amended and Restated Credit Agreement (the “Revolving Credit Facility”) with Wells Fargo Bank, National Association, as administrative agent (“Agent”), and the lenders from time to time party thereto, which amended and restated the Company’s prior revolving credit facility that was entered into on October 5, 2018. The Revolving Credit Facility is scheduled to mature on November 22, 2024.
The Revolving Credit Facility is subject to a borrowing base with maximum loan value to be assigned to the proved reserves attributable to the Company and its subsidiaries’ (if any) oil and gas properties. As of December 31, 2021, the borrowing base was $850.0 million and the aggregate elected commitment amount was $750.0 million. In order to borrow in excess of the elected commitment amount, the Company would need to find new or existing lenders willing to provide the additional commitments. The borrowing base will be redetermined semiannually on or around April 1st and October 1st, with one interim “wildcard” redetermination available between scheduled redeterminations. The April 1st scheduled redetermination shall be based on a January 1st engineering report audited by a third-party (reasonably acceptable by the Agent). The aggregate elected commitment amount may be increased semi-annually upon each scheduled borrowing base redetermination, and up to two times between each scheduled redetermination.
At the Company’s option, borrowings under the Revolving Credit Facility shall bear interest at the base rate or LIBOR plus an applicable margin. Base rate loans bear interest at a rate per annum equal to the greatest of: (i) the Agents’s prime rate; (ii) the federal funds effective rate plus 50 basis points; and (iii) the adjusted LIBOR rate for a one-month interest period plus 100 basis points. The applicable margin for base rate loans ranges from 100 to 200 basis points, and the applicable margin for LIBOR loans ranges from 200 to 300 basis points, in each case depending on the percentage of the borrowing base utilized.
The Revolving Credit Facility contains negative covenants that limit the Company’s ability, among other things, to pay dividends, incur additional indebtedness, maintain excess cash liquidity, sell assets, enter into certain derivatives contracts, change the nature of its business or operations, merge, consolidate, or make certain types of investments. In addition, the Revolving Credit Facility requires that the Company comply with the following financial covenants: (i) as of the date of determination, the ratio of total net debt to EBITDAX (as defined in the Revolving Credit Facility) shall be no more than 3.50 to 1.00, measured on a pro forma rolling four quarter basis, and (ii) the current ratio (defined as consolidated current assets including unused amounts of the total commitments, but excluding non-cash assets under FASB ASC 815, divided by consolidated current liabilities excluding current non-cash obligations under FASB ASC 815 and current maturities under the Revolving Credit Facility) shall not be less than 1.00 to 1.00. The Company is in compliance with these financial covenants as of December 31, 2021.
The Company’s obligations under the Revolving Credit Facility may be accelerated, subject to customary grace and cure periods, upon the occurrence of certain Events of Default (as defined in the Revolving Credit Facility). Such Events of Default include customary events for a financing agreement of this type, including, without limitation, payment defaults, the inaccuracy of representations and warranties, defaults in the performance of affirmative or negative covenants, defaults on other
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indebtedness of us or the Company’s subsidiaries, defaults related to judgments and the occurrence of a Change in Control (as defined in the Revolving Credit Facility).
The Company’s obligations under the Revolving Credit Facility are secured by mortgages on not less than 90% of the value of proved reserves associated with the oil and gas properties included in the determination of the borrowing base. Additionally, the Company entered into a Guaranty and Collateral Agreement in favor of the Agent for the secured parties, pursuant to which the Company’s obligations under the Revolving Credit Facility are secured by a first priority security interest in substantially all of the Company’s assets.
Unsecured Notes due 2028
On February 18, 2021, the Company and Wilmington Trust, National Association, as trustee, entered into an indenture (the “2028 Notes Indenture”), pursuant to which the Company issued $550.0 million in aggregate principal amount of 8.125% senior unsecured notes due 2028 (the “Original 2028 Notes”). On November 15, 2021, the Company issued an additional $200.0 million aggregate principal amount of 8.125% senior notes due 2028 (the “Additional 2028 Notes” and, together with the Original 2028 Notes, the “2028 Notes”). The proceeds of the 2028 Notes were used primarily to refinance existing indebtedness, and for general corporate purposes. The 2028 Notes will mature on March 1, 2028. Interest on the 2028 Notes is payable semi-annually in arrears on each March 1 and September 1, commencing September 1, 2021, to holders of record on the February 15 and August 15 immediately preceding the related interest payment date, at a rate of 8.125% per annum.
Prior to March 1, 2024, the Company may redeem all or a part of the 2028 Notes at a redemption price equal to 100% of the principal amount of the 2028 Notes redeemed, plus an applicable make-whole premium and accrued and unpaid interest to the redemption date. On or after March 1, 2024, the Company may redeem all or a part of the 2028 Notes at redemption prices (expressed as percentages of principal amount) equal to 104.063% for the twelve-month period beginning on March 1, 2024, 102.031% for the twelve-month period beginning on March 1, 2025, and 100% beginning on March 1, 2026, plus accrued and unpaid interest to the redemption date.
The 2028 Notes Indenture contains covenants that, among other things, limit the Company’s ability and the ability of its restricted subsidiaries, if any, to: (i) incur or guarantee additional indebtedness or issue certain types of preferred stock; (ii) pay dividends or distributions in respect of equity interests or redeem, repurchase or retire equity securities or subordinated indebtedness; (iii) transfer or sell certain assets; (iv) make investments; (v) create liens to secure indebtedness; (vi) enter into agreements that restrict dividends or other payments from any non-guarantor subsidiary to the Company; (vii) consolidate with or merge with or into, or sell substantially all of the Company’s assets to, another person; (viii) enter into transactions with affiliates; and (ix) create unrestricted subsidiaries. These covenants are subject to a number of important exceptions and qualifications, and many of these covenants will be terminated if the 2028 Notes achieve an investment grade rating from either Moody’s Investors Services, Inc. or S&P Global Ratings.
The 2028 Notes Indenture contains customary events of default, including, but not limited to: (i) default for 30 days in the payment when due of interest on the 2028 Notes; (ii) default in payment when due of the principal of, or premium, if any, on the 2028 Notes; (iii) failure by the Company or certain of its subsidiaries, if any, to comply with certain of their respective obligations, covenants or agreements contained in the 2028 Notes or the 2028 Notes Indenture, subject to certain notice and grace periods; (iv) failure by the Company or any of its restricted subsidiaries to pay indebtedness within any applicable grace period or the acceleration of any such indebtedness if the total amount of such indebtedness exceeds $35.0 million; (v) failure by the Company or any of its restricted subsidiaries that is a Significant Subsidiary (as defined in the 2028 Notes Indenture) to pay final non-appealable judgments aggregating in excess of $35.0 million, which judgments are not paid, discharged or stayed for a period of 60 days; (vi) except as permitted by the 2028 Notes Indenture, any guarantee of the 2028 Notes is held in any judicial proceeding to be unenforceable or invalid, or ceases for any reason to be in full force and effect, or is denied or disaffirmed by a Guarantor (as defined in the 2028 Notes Indenture); and (vii) certain events of bankruptcy or insolvency described in the 2028 Notes Indenture with respect to the Company and its restricted subsidiaries that are Significant Subsidiaries.
Second Lien Notes due 2023
During February 2021, the Company completed a cash tender offer pursuant to which it redeemed and retired $272.1 million in aggregate principal amount of the Company’s 8.500% senior secured second lien notes due 2023 (the “Second Lien Notes”). Immediately thereafter, there was $15.7 million in aggregate principal amount of Second Lien Notes remaining outstanding. In May 2021, the Company redeemed and retired the remaining $15.7 million in aggregate principal amount of the Second Lien Notes, and as a result the Second Lien Notes have been retired in full.
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Unsecured VEN Bakken Note due 2022
In January 2021, the Company repaid $65.0 million in aggregate principal amount under the Company’s 6.0% senior unsecured promissory note due 2022 (the “Unsecured VEN Bakken Note”), which was a scheduled repayment thereunder. In February 2021, the Company used a portion of the proceeds from the 2028 Notes to repay the remaining $65.0 million in aggregate principal amount outstanding under the Unsecured VEN Bakken Note, and as a result the note has been retired in full.
NOTE 5 COMMON AND PREFERRED STOCK
Common Stock
The company is authorized to issue up to 135,000,000 shares of common stock, par value $0.001 per share. As of December 31, 2021 and 2020, the Company had 77,341,921 and 45,908,779 shares of common stock issued and outstanding, respectively.
In May 2021, the Company’s Board of Directors declared a cash dividend on the Company’s common stock in the amount of $0.03 per share. The dividend was paid on July 30, 2021 to stockholders of record as of the close of business on June 30, 2021.
In August 2021, the Company’s Board of Directors declared a cash dividend on the Company’s common stock in the amount of $0.045 per share. The dividend was paid on October 29, 2021 to stockholders of record as of the close of business on September 30, 2021.
In November 2021, the Company’s Board of Directors declared a cash dividend on the Company’s common stock in the amount of $0.08 per share. The dividend was paid on January 31, 2022 to stockholders of record as of the close of business on December 30, 2021.
In January 2022, the Company’s Board of Directors declared a cash dividend on the Company’s common stock in the amount of $0.14 per share. The dividend is payable on April 29, 2022 to stockholders of record as of the close of business on March 30, 2022.
In April 2021, in connection with the Reliance Acquisition, the Company issued warrants to purchase 3,250,000 shares of the Company’s common stock at an exercise price equal to $14.00 per share (subject to certain adjustments), which are generally exercisable from June 30, 2021 until April 1, 2028. The grant-date value of the common stock warrants consideration was determined by utilizing an Option Pricing Model. The common stock warrants are classified as equity on the consolidated balance sheet and therefore are not subject to recurring fair-value adjustments. The key inputs in applying the Option Pricing Model are as follows: the market value of the underlying stock which was determined based on the closing market price of the Company’s common shares on the acquisition date, the exercise price of $14.00 per share, volatility of 80% and a risk-free rate of 1.34%. As of December 31, 2021, anti-dilution adjustments under the warrants triggered by the Company’s common stock dividends had caused the number of common shares underlying the warrants to increase to 3,276,582 shares and the exercise price to decrease to $13.8864 per share.
Preferred Stock
The Company is authorized to issue up to 5,000,000 shares of preferred stock, par value $0.001 per share, with such designations, voting and other rights and preferences as may be determined from time to time by the Board of Directors. As of December 31, 2021 and 2020, the Company had 2,218,732 shares of preferred stock issued and outstanding, respectively, all of which were shares of 6.500% Series A Perpetual Cumulative Convertible Preferred Stock (the “Series A Preferred Stock”).
The terms of the Series A Preferred Stock are set forth in the Certificate of Designations for the Series A Preferred Stock (the “Certificate of Designations”), as originally filed with the Delaware Secretary of State on November 22, 2019, and as amended thereafter. The Series A Preferred Stock ranks senior to the Company’s common stock with respect to the payment of dividends and distribution of assets upon liquidation, dissolution or winding-up. Holders of the Series A Preferred Stock are entitled to receive, when, as and if declared by the board of directors of the Company, cumulative dividends in cash, at a rate of 6.500% per annum on the sum of (i) the $100 liquidation preference per share of Series A Preferred Stock (the “Liquidation Preference”) and (ii) all accumulated and unpaid dividends (if any), payable semi-annually in arrears on May 15 and November 15 of each year, commencing on May 15, 2020.
On May 15, 2021, the Company paid a dividend in the amount of $9.9163 per share to the holders of record of the Series A Preferred Stock as of May 1, 2021. This dividend, which totaled $22.0 million in the aggregate, was inclusive of all accrued and
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unpaid dividends from the original issue date of the Series A Preferred Stock. On November 15, 2021, the Company paid a dividend in the amount of $3.25 per share to the holders of record of the Series A Preferred Stock as of November 1, 2021. This dividend, which totaled $7.2 million in the aggregate, was inclusive of all accrued and unpaid dividends on the Series A Preferred Stock. As of December 31, 2021, the Company was current in the payment of dividends and there were $1.8 million of undeclared accumulated dividends on the Series A Preferred Stock.
The Series A Preferred Stock is convertible at the holders’ option (an “Optional Conversion”) into common stock at a conversion rate set forth in the Certificate of Designations, subject to customary adjustments (including anti-dilution) as provided for therein. As of December 31, 2021, the conversion rate was 4.3984 shares of common stock for each share of Series A Preferred Stock (which is equivalent to a conversion price of $22.7355. Holders may be entitled to additional shares of common stock or cash in connection with a conversion that occurs in connection with a Fundamental Change (as defined in the Certificate of Designations). The Series A Preferred Stock is convertible at the Company’s option (a “Mandatory Conversion”) if the closing sale price of the Company’s common stock equals or exceeds 145% of the conversion price for at least 20 trading days (whether or not consecutive) in a period of 30 consecutive trading days. A Mandatory Conversion would also entitle the holder to a cash payment equal to eight semi-annual dividend payments, less an amount equal to all cash dividend payments made in respect of such holder’s shares of Series A Preferred Stock prior to such Mandatory Conversion. The occurrence of any Optional Conversion or Mandatory Conversion is subject to various terms and limitations set forth in the Certificate of Designations.
The Certificate of Designations also sets forth additional information relating to the payment of dividends, voting, conversion rights, consent rights, liquidation rights, the ranking of the Series A Preferred Stock in comparison with the Company’s other securities, and other matters.
2021 Activity
Common Stock
On February 9, 2021, the Company closed an underwritten public offering of 14,375,000 shares of its common stock at a price to the public of $9.75 per share. This offering resulted in net proceeds of approximately $132.9 million, after deducting underwriting discounts and commissions and estimated offering expenses.
On June 21, 2021, the Company closed an underwritten public offering of 5,750,000 shares of its common stock at a price to the public of $17.50 per share. This offering resulted in net proceeds of approximately $95.3 million, after deducting underwriting discounts and commissions and estimated offering expenses.
On November 22, 2021, the Company closed an underwritten public offering of 11,000,000 shares of its common stock at a price to the public of $20.00 per share. This offering resulted in net proceeds of approximately $209.9 million, after deducting underwriting discounts and commissions and estimated offering expenses.
Stock Repurchase Program
In May 2011, the Company’s board of directors approved a stock repurchase program to acquire up to $150.0 million of the Company’s outstanding common stock. The stock repurchase program allows the Company to repurchase its shares from time to time in the open market, block transactions and in negotiated transactions.
During the years ended December 31, 2021 and 2020, respectively, the Company did not repurchase shares of its common stock under the stock repurchase program. In 2019, the Company repurchased 0.6 million shares of its common stock under the stock repurchase program at a total cost of $16.3 million. Of the shares repurchased in 2019, $1.2 million was recorded as a settlement of contingent consideration liabilities in connection with a prior acquisition.
The Company’s accounting policy upon the repurchase of shares is to deduct its par value from common stock and to reflect any excess of cost over par value as a deduction from Additional Paid-in Capital. All repurchased shares are now included in the Company’s pool of authorized but unissued shares.
NOTE 6 STOCK-BASED COMPENSATION
The Company maintains its 2018 Equity Incentive Plan (the “2018 Plan”), which replaced the Company’s prior 2013 Incentive Plan (the “2013 Plan”), for making equity-based awards to employees, directors and other eligible persons. No future awards
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will be made under the 2013 Plan. The 2013 Plan continues to govern awards that were made thereunder, which remain in effect pursuant to their terms. As of December 31, 2021, there were 582,754 shares available for future awards under the 2018 Plan.
The Company recognizes the fair value of stock-based compensation awards expected to vest over the requisite service period as a charge against earnings, net of amounts capitalized. The Company’s stock-based compensation awards are accounted for as equity instruments and are included in the “General and administrative expenses” line item in the statements of operations. The Company capitalizes a portion of stock-based compensation for employees who are directly involved in the acquisition of oil and natural gas properties into the full cost pool. Capitalized stock-based compensation is included in the “Oil and natural gas properties” line item in the balance sheets.
The 2018 Plan and 2013 Plan award types are summarized as follows:
Restricted Stock Awards
The Company issues restricted stock awards (“RSAs”) subject to various vesting conditions as compensation to executive officers, employees and directors of the Company. RSAs issued to employees and executive officers generally vest over three years, provided that any performance and/or market conditions are also met. RSAs issued to directors generally vest over one year, provided that any performance and/or market conditions are also met. For RSAs subject to service and/or performance vesting conditions, the grant-date fair value is established based on the closing price of the Company’s common stock on such date. Stock-based compensation expense for awards subject to only service conditions is recognized on a straight-line basis over the service period. Stock-based compensation expense for awards with both service and performance conditions is recognized on a graded basis only if it is probable that the performance condition will be achieved. The Company accounts for forfeitures of awards granted under these plans as they occur in determining stock-based compensation expense.
For awards subject to a market condition, the grant-date fair value is estimated using a Monte Carlo valuation model. The Company recognizes stock-based compensation expense for awards subject to market-based vesting conditions regardless of whether it becomes probable that these conditions will be achieved or not, and stock-based compensation expense for any such awards is not reversed if vesting does not actually occur. The Monte Carlo model is based on random projections of stock price paths and must be repeated numerous times to achieve a probabilistic assessment. Expected volatility is calculated based on the historical volatility and implied volatility of the Company’s common stock, and the risk-free interest rate is based on U.S. Treasury yield curve rates with maturities consistent with the -year vesting period. The key assumptions used in valuing these market-based awards were as follows:
| 2019 | ||||||||
| Risk-free interest rate | 2.57 | % | ||||||
| Dividend yield | — | % | ||||||
| Expected volatility | 85.00 | % | ||||||
During 2021, 2020 and 2019, 339,653, 460,382 and 174,720 shares, respectively, of service-based RSAs were granted to executive officers, employees and directors under the 2013 and 2018 Equity Plans. The weighted average grant date fair value of service-based RSAs was $16.45 per share, $9.15 per share and $21.40 per share for the years ended December 31, 2021, 2020, and 2019, respectively.
During 2019, RSAs subject to service, market, and performance-based vesting conditions were granted to employees and executive officers under the 2018 Plan. Vesting of these awards is contingent on the Company’s debt-adjusted cash flow per share as compared to specified targets (“2019 Performance Award I”). The weighted average grant date fair value of these service, performance, and market-based RSAs was $9.80 per share. Also during 2019, RSAs subject to service and market-based vesting conditions were granted to employees, executive officers, and directors under the 2018 Plan. Vesting of these awards is contingent on the Company’s stock price performance relative to specified targets (“2019 Performance Award II”). The weighted average grant date fair value of these service and market-based RSAs was $18.20 per share.
The following table reflects the outstanding RSAs and activity related thereto for the year ended December 31, 2021:
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| Service-based Awards | Service and Performance-based Awards | Service and Market-based Awards | Service, Performance, and Market-based Awards | ||||||||||||||||||||||||||||||||||||||||||||
| Number of Shares | Weighted-average Grant Date Fair Value | Number of Shares | Weighted-average Grant Date Fair Value | Number of Shares | Weighted-average Grant Date Fair Value | Number of Shares | Weighted-average Grant Date Fair Value | ||||||||||||||||||||||||||||||||||||||||
| Outstanding at December 31, 2020 | 268,602 | $ | 10.44 | 16,250 | $ | 27.00 | 5,245 | $ | 16.70 | 39,200 | $ | 9.80 | |||||||||||||||||||||||||||||||||||
| Shares granted | 339,653 | 16.45 | — | — | — | — | — | — | |||||||||||||||||||||||||||||||||||||||
| Shares forfeited | (13,355) | 11.62 | — | — | — | — | (1,000) | 9.80 | |||||||||||||||||||||||||||||||||||||||
| Shares vested | (174,778) | 14.23 | (16,250) | 27.00 | (5,245) | 16.70 | (19,600) | 9.80 | |||||||||||||||||||||||||||||||||||||||
| Outstanding at December 31, 2021 | 420,122 | $ | 13.68 | — | $ | — | — | $ | — | 18,600 | $ | 9.80 | |||||||||||||||||||||||||||||||||||
At December 31, 2021, there was $4.5 million of total unrecognized compensation expense related to unvested RSAs. That cost is expected to be recognized over a weighted average period of 0.91 years. For the years ended December 31, 2021, 2020 and 2019, the total fair value of the Company’s restricted stock awards vested was $1.8 million, $2.7 million and $6.6 million, respectively.
NOTE 7 RELATED PARTY TRANSACTIONS
The Company’s Audit Committee is responsible for approving all transactions involving related parties.
NOTE 8 COMMITMENTS & CONTINGENCIES
Litigation
The Company is engaged in various proceedings incidental to the normal course of business. Due to their nature, such legal proceedings involve inherent uncertainties, including but not limited to, court rulings, negotiations between affected parties and governmental intervention. Based upon the information available to the Company and discussions with legal counsel, it is the Company’s opinion that the outcome of the various legal actions and claims that are incidental to its business will not have a material impact on the Company’s financial position, results of operations or cash flows. Such matters, however, are subject to many uncertainties, and the outcome of any matter is not predictable with assurance.
The Company’s interests in certain crude oil and natural gas leases from the State of North Dakota are subject to an ongoing dispute over the ownership of minerals underlying the bed of the Missouri River within the boundaries of the Fort Berthold Reservation. The ongoing dispute is between the State of North Dakota and three affiliated tribes, both of whom have purported to lease mineral rights in tracts of riverbed within the reservation boundaries. In the event the ongoing dispute results in a final judgment that is adverse to the Company’s interests, the Company would be required to reverse approximately $4.0 million in revenue (net of accrued taxes) that has been accrued since the first quarter of 2013 based on the Company’s purported interest in the crude oil and natural gas leases at issue. Due to the long-term nature of this title dispute, the $4.0 million in accounts receivable is included in “Other Noncurrent Assets, Net” in the balance sheets. The Company fully maintains the validity of its interests in the crude oil and natural gas leases.
Delivery Commitments
As of December 31, 2021, the Company had certain agreements associated with the Company’s Appalachian basin properties which require the Company to deliver firm quantities of natural gas to certain third parties, which we seek to fulfill with products from existing reserves. In the event we are not able to meet these firm commitments, we are subject to deficiency payments.
The estimable future commitments under these volume commitment agreements as of December 31, 2021 are as follows:
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| (in Bcf) | Commitment Volumes | ||||
| 2022 | 19.0 | ||||
| 2023 | 19.0 | ||||
| 2024 | 18.4 | ||||
| 2025 | 3.2 | ||||
| Total | 59.6 | ||||
The Company recognizes any deficiency payments in the period in which the underdelivery takes place pursuant to the agreements and the related liability has been incurred. These amounts are recognized in operating expenses in the Company’s Statement of Operations. The amount and timing of any such deficiency payments that may be incurred in the future can not be accurately estimated.
NOTE 9 ASSET RETIREMENT OBLIGATIONS
The Company has asset retirement obligations associated with the future plugging and abandonment of proved properties and related facilities. Initially, the fair value of a liability for an asset retirement obligation (“ARO”) is recorded in the period in which it is incurred and a corresponding increase in the carrying amount of the related long-lived asset. The liability is accreted to its present value each period, and the capitalized cost is depreciated over the useful life of the related asset. If the liability is settled for an amount other than the recorded amount, an adjustment to the full cost pool is recognized. The Company has no assets that are legally restricted for purposes of settling asset retirement obligations.
Inherent in the fair value calculation are numerous assumptions and judgments including the ultimate retirement costs, inflation factors, credit-adjusted risk-free discount rates, timing of retirement, and changes in the legal, regulatory, environmental and political environments. To the extent future revisions to these assumptions impact the present value of the existing ARO, a corresponding adjustment is made to the oil and gas property balance. For example, as the Company analyzes actual plugging and abandonment information, the Company may revise its estimate of current costs, the assumed annual inflation of the costs and/or the assumed productive lives of its wells. During 2021, the Company adjusted the assumed productive lives of certain of its wells. During 2020, there were no adjustments to the aforementioned assumptions requiring revisions of previous estimates.
The following table summarizes the Company’s asset retirement obligation transactions recorded during the years ended December 31, 2021 and 2020.
| December 31, | |||||||||||
| (in thousands) | 2021 | 2020 | |||||||||
| Beginning Asset Retirement Obligations | $ | 19,181 | $ | 17,299 | |||||||
| Liabilities Acquired During the Period | 8,419 | — | |||||||||
| Liabilities Incurred During the Period | 3,075 | 688 | |||||||||
| Revision of Estimates | (4,084) | 21 | |||||||||
| Accretion of Discount on Asset Retirement Obligations | 1,654 | 1,192 | |||||||||
| Liabilities Settled During the Period | (233) | (20) | |||||||||
| Ending Asset Retirement Obligations | $ | 28,012 | $ | 19,181 | |||||||
NOTE 10 INCOME TAXES
Income taxes are accounted for under the asset and liability method. Deferred tax assets and liabilities are recognized for the future tax consequences attributable to differences between the financial statement carrying amounts of existing assets and liabilities and their respective tax bases and operating losses and tax credit carry-forwards. Under this method, deferred tax assets and liabilities are measured using enacted tax rates expected to apply to taxable income in the years in which those temporary differences are expected to be recovered or settled. The effect on deferred tax assets and liabilities of a change in tax rates is recognized in income (loss) in the period that includes the enactment date.
The income tax provision (benefit) for the years ended December 31, 2021, 2020, and 2019 consists of the following:
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| (In thousands) | 2021 | 2020 | 2019 | ||||||||||||||
| Current | |||||||||||||||||
| Federal | $ | — | $ | (376) | $ | (210) | |||||||||||
| State | 233 | — | — | ||||||||||||||
| Deferred | |||||||||||||||||
| Federal | 130 | (175,309) | (16,676) | ||||||||||||||
| State | (3,984) | (17,778) | (3,578) | ||||||||||||||
| Valuation Allowance | 3,854 | 193,297 | 20,464 | ||||||||||||||
| Total Tax Benefit | $ | 233 | $ | (166) | $ | — | |||||||||||
The following is a reconciliation of the reported amount of income tax benefit for the years ended December 31, 2021, 2020, and 2019 to the amount of income tax expenses that would result from applying the statutory rate to pretax income (loss).
| (In thousands) | 2021 | 2020 | 2019 | ||||||||||||||
| Income (Loss) Before Taxes and NOL | $ | 6,594 | $ | (906,207) | $ | (76,318) | |||||||||||
| Federal Statutory Rate | 21.00 | % | 21.00 | % | 21.00 | % | |||||||||||
| Taxes Computed at Federal Statutory Rates | 1,385 | (190,303) | (16,027) | ||||||||||||||
| State Tax (Benefit), Net of Federal Taxes | (3,752) | (20,881) | (2,630) | ||||||||||||||
| Deferred Tax Adjustment | (1,488) | 3,686 | (1,891) | ||||||||||||||
| Share Based Compensation Tax Deficiency | — | — | 33 | ||||||||||||||
| Net Operating Loss Adjustment | — | 12,494 | — | ||||||||||||||
| Other | 234 | 1,541 | 51 | ||||||||||||||
| Valuation Allowance | 3,854 | 193,297 | 20,464 | ||||||||||||||
| Reported Tax Expense (Benefit) | $ | 233 | $ | (166) | $ | — | |||||||||||
In 2020, the Company reduced its net operating loss deferred tax asset and related valuation allowance by $12.5 million due to changes from the Coronavirus Aid, Relief, and Economic Security Act (“CARES Act”) and the finalized IRC regulations, that increased the limitation on the amount of deductible interest expense.
A valuation allowance is established to reduce deferred tax assets if it is determined that it is more likely than not that the related tax benefit will not be realized. On a quarterly basis, management evaluates the need for and adequacy of valuation allowances based on the expected realizability of the deferred tax assets and adjusts the amount of such allowances, if necessary. During 2021, in evaluating whether it was more likely than not that the Company’s net deferred tax assets were realized through future net income, management considered all available positive and negative evidence, including (i) its earnings history, (ii) its ability to recover net operating loss carry-forwards, (iii) the projected future income and results of operations, and (iv) its ability to use tax planning strategies. Based on all the evidence available, management determined it was more likely than not that the net deferred tax assets, other than the deferred tax asset related to the Company’s alternative minimum tax credit, were not realizable. The Company’s valuation allowance at December 31, 2021 was $341.3 million.
At December 31, 2021, the Company had a net operating loss carryforward for federal income tax purposes of $592.9 million, which is net of the IRC Section 382 limitation, and state NOL carryforwards of $728.1 million. The determination of the state NOL carryforwards is dependent upon apportionment percentages and state laws that can change from year to year and that can thereby impact the amount of such carryforwards. If unutilized, all of the federal net operating losses will expire from 2031 to 2037, except for $280.1 million of federal net operating losses that have an indefinite life. If unutilized, all of the state net operating losses will expire from 2022 to 2037, except for $179.7 million of state net operating losses that have an indefinite life.
The significant components of the Company’s deferred tax assets (liabilities) were as follows:
F-26
| Year Ended December 31, | |||||||||||
| (in thousands) | 2021 | 2020 | |||||||||
| Net Operating Loss (NOLs) and Tax Credit Carryforwards | $ | 150,736 | $ | 123,121 | |||||||
| Share Based Compensation | 570 | 93 | |||||||||
| Accrued Interest | 1,031 | 1,012 | |||||||||
| Allowance for Doubtful Accounts | 919 | 902 | |||||||||
| Crude Oil and Natural Gas Properties and Other Properties | 124,531 | 222,668 | |||||||||
| Derivative Instruments | 63,739 | (10,104) | |||||||||
| Other | (178) | (198) | |||||||||
| Total Net Deferred Tax Assets (Liabilities) Before Valuation Allowance | 341,348 | 337,494 | |||||||||
| Valuation Allowance | (341,348) | (337,494) | |||||||||
| Total Net Deferred Tax Assets | $ | — | $ | — | |||||||
Tax benefits are recognized only for tax positions that are more likely than not to be sustained upon examination by tax authorities. The amount recognized is measured as the largest amount of benefit that is greater than 50% likely to be realized upon ultimate settlement. Unrecognized tax benefits are tax benefits claimed in the Company’s tax returns that do not meet these recognition and measurement standards. The Company has no liabilities for unrecognized tax benefits.
The Company’s policy is to recognize potential interest and penalties accrued related to unrecognized tax benefits within income tax expense. For the years ended December 31, 2021, 2020 and 2019, the Company did not recognize any interest or penalties in its statements of operations, nor did it have any interest or penalties accrued in its balance sheet at December 31, 2021 and 2020 relating to unrecognized benefits.
The tax years 2021, 2020, 2019, and 2018 remain open to examination for federal income tax purposes and by the other major taxing jurisdictions to which the Company is subject. Additionally, NOLs from 2011-2017 could be adjusted in the future when such NOLs are utilized.
NOTE 11 FAIR VALUE
Fair value is defined as the exchange price that would be received for an asset or paid to transfer a liability (an exit price) in the principal or most advantageous market for the asset or liability in an orderly transaction between market participants on the measurement date. Valuation techniques used to measure fair value must maximize the use of observable inputs and minimize the use of unobservable inputs. The Company uses a fair value hierarchy based on three levels of inputs, of which the first two are considered observable and the last unobservable, that may be used to measure fair value which are the following:
Level 1 - Quoted prices in active markets for identical assets or liabilities.
Level 2 - Inputs other than Level 1 that are observable, either directly or indirectly, such as quoted prices for similar assets or liabilities; quoted prices in markets that are not active; or other inputs that are observable or can be corroborated by observable market data for substantially the full term of the assets or liabilities.
Level 3 - Unobservable inputs that are supported by little or no market activity and that are significant to the fair value of the assets or liabilities.
Financial Assets and Liabilities
As required, financial assets and liabilities are classified in their entirety based on the lowest level of input that is significant to the fair value measurement. The Company’s assessment of the significance of a particular input requires judgment and may affect the valuation of fair value assets and liabilities and their placement within the fair value hierarchy levels. The following tables set forth by level within the fair value hierarchy the Company’s financial assets and liabilities that were accounted for at fair value on a recurring basis as of December 31, 2021 and 2020.
F-27
| Fair Value Measurements at | |||||||||||||||||
| December 31, 2021 Using | |||||||||||||||||
| (In thousands) | Quoted Prices In Active Markets for Identical Assets (Liabilities) (Level 1) | Significant Other Observable Inputs (Level 2) | Significant Unobservable Inputs (Level 3) | ||||||||||||||
| Commodity Derivatives – Current Assets | $ | — | $ | 2,519 | $ | — | |||||||||||
| Commodity Derivatives – Noncurrent Assets | — | $ | 1,740 | — | |||||||||||||
| Commodity Derivatives – Current Liabilities | — | (134,183) | — | ||||||||||||||
| Commodity Derivatives – Noncurrent Liabilities | — | (147,762) | — | ||||||||||||||
| Interest Rate Derivatives – Noncurrent Assets | — | 123 | — | ||||||||||||||
| Interest Rate Derivatives – Current Liabilities | — | (100) | — | ||||||||||||||
| Total | $ | — | $ | (277,664) | $ | — | |||||||||||
| Fair Value Measurements at | |||||||||||||||||
| December 31, 2020 Using | |||||||||||||||||
(In thousands) | Quoted Prices In Active Markets for Identical Assets (Liabilities) (Level 1) | Significant Other Observable Inputs (Level 2) | Significant Unobservable Inputs (Level 3) | ||||||||||||||
| Commodity Derivatives – Current Assets | $ | — | $ | 51,290 | $ | — | |||||||||||
| Commodity Derivatives – Noncurrent Assets | — | 111 | — | ||||||||||||||
| Commodity Derivatives – Current Liabilities | — | (2,504) | — | ||||||||||||||
| Commodity Derivatives – Noncurrent Liabilities | — | (14,214) | — | ||||||||||||||
| Interest Rate Derivatives – Current Liabilities | — | (574) | — | ||||||||||||||
| Interest Rate Derivatives – Noncurrent Liabilities | — | (445) | — | ||||||||||||||
| Total | $ | — | $ | 33,664 | $ | — | |||||||||||
Commodity Derivatives. The Level 2 instruments presented in the tables above consist of commodity derivative instruments (see Note 12). The fair value of the Company’s commodity derivative instruments is determined based upon future prices, volatility and time to maturity, among other things. Counterparty statements are utilized to determine the value of the commodity derivative instruments and are reviewed and corroborated using various methodologies and significant observable inputs. The Company’s and the counterparties’ nonperformance risk is evaluated. The fair value of commodity derivative contracts is reflected in the balance sheet. The current derivative asset and liability amounts represent the fair values expected to be settled in the subsequent twelve months.
Interest Rate Derivatives. The Level 2 instruments presented in the tables above consist of interest rate derivative instruments (see Note 11). The fair value of the Company’s interest rate derivative instruments is determined based upon contracted notional amounts, active market-quoted LIBOR yield curves, and time to maturity, among other things. Counterparty statements are utilized to determine the value of the interest rate derivative instruments and are reviewed and corroborated using various methodologies and significant observable inputs. The Company’s and the counterparties’ nonperformance risk is evaluated. The fair value of interest rate derivative contracts is reflected in the balance sheets. The current derivative asset and liability amounts represent the fair values expected to be settled in the subsequent twelve months.
Fair Value of Other Financial Instruments
The carrying amounts of cash equivalents, receivables and payables approximate fair value due to the highly liquid or short-term nature of these instruments.
F-28
Long-term debt is not presented at fair value in the balance sheets, as it is recorded at carrying value, net of unamortized debt issuance costs and unamortized premium (see Note 4). The fair value of the Company’s 2028 Notes was $796.9 million at December 31, 2021. The fair value of the Company’s 2028 Notes are based on market quotes that represent Level 2 inputs.
There is no active market for the Revolving Credit Facility. The recorded value of the Revolving Credit Facility approximates its fair value because of its floating rate structure based on the LIBOR spread, secured interest, and the Company’s borrowing base utilization. The fair value measurement for the Revolving Credit Facility represents Level 2 inputs.
Non-Financial Assets and Liabilities
The Company estimates AROs pursuant to the provisions of ASC 410. The initial measurement of AROs at fair value is calculated using discounted cash flow techniques and based on internal estimates of future retirement costs associated with oil and natural gas properties. Given the unobservable nature of the inputs, including plugging costs and reserve lives, the initial measurement of the AROs liability is deemed to use Level 3 inputs. AROs incurred and acquired during the year ended December 31, 2021 were approximately $11.5 million.
The Company issued common stock warrants in the Company as a part of the Reliance Acquisition as purchase consideration. The common stock warrants issued were to purchase 3,250,000 shares of the Company’s common stock at an exercise price equal to $14.00 per share (subject to certain adjustments), which are generally exercisable from June 30, 2021 until April 1, 2028. The fair value of the common stock warrants consideration was determined by utilizing an Option Pricing Model. These non-recurring fair value measurements are primarily determined using inputs observable or can be corroborated by observable market data (Level 2 inputs).
The Company accounts for acquisitions of oil and natural gas properties under the acquisition method of accounting. Accordingly, the Company conducts assessments of net assets acquired and recognizes amounts for identifiable assets acquired and liabilities assumed at the estimated acquisition date fair values, while transaction costs associated with the acquisitions are expensed as incurred. The Company makes various assumptions in estimating the fair values of assets acquired and liabilities assumed. The most significant assumptions relate to the estimated fair value of oil and natural gas properties. The fair value of these properties is measured using a discounted cash flow model that converts future cash flows to a single discounted amount. These assumptions represent Level 3 inputs under the fair value hierarchy. See Note 3 for additional discussion of the Company’s acquisitions of oil and natural gas properties during the year ended December 31, 2021 and discussion of the significant inputs to the valuations.
Though the Company believes the methods used to estimate fair value are consistent with those used by other market participants, the use of other methods or assumptions could result in a different estimate of fair value. There were no transfers of financial assets or liabilities between Level 1, Level 2 or Level 3 inputs for the years ended December 31, 2021 and 2020.
NOTE 12 DERIVATIVE INSTRUMENTS AND PRICE RISK MANAGEMENT
The Company utilizes various commodity price derivative instruments to (i) reduce the effects of volatility in price changes on the crude oil and natural gas commodities it produces and sells, (ii) reduce commodity price risk and (iii) provide a base level of cash flow in order to assure it can execute at least a portion of its capital spending. In addition, from time to time the Company utilizes interest rate swaps to mitigate exposure to changes in interest rates on the Company’s variable-rate indebtedness.
All derivative instruments are recorded in the Company’s balance sheet as either assets or liabilities measured at their fair value (see Note 11). 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 statements of operations as a gain or loss on derivative instruments. Mark-to-market gains and losses represent changes in fair values of derivatives that have not been settled. The Company’s cash flow is only impacted when the actual settlements under the derivative contracts result in making or receiving a payment to or from the counterparty. These cash settlements represent the cumulative gains and losses on the Company’s derivative instruments for the periods presented and do not include a recovery of costs that were paid to acquire or modify the derivative instruments that were settled.
The Company has master netting agreements on individual derivative instruments with certain counterparties and therefore the current asset and liability are netted in the balance sheet and the non-current asset and liability are netted in the balance sheet for contracts with these counterparties.
Commodity Derivative Instruments
F-29
The following table presents settlements on commodity derivative instruments and unsettled gains and losses on open commodity derivative instruments for the periods presented which is recorded in the revenue section of our financial statements:
| Year ended December 31, | ||||||||||||||||||||
| (In thousands) | 2021 | 2020 | 2019 | |||||||||||||||||
| Cash Received (Paid) on Settled Derivatives | $ | (165,823) | $ | 188,264 | $ | 44,377 | ||||||||||||||
| Non-Cash Mark-to-Market Gain (Loss) on Derivatives | (312,370) | 39,878 | (173,214) | |||||||||||||||||
| Gain (Loss) on Commodity Derivatives, Net | $ | (478,193) | $ | 228,141 | $ | (128,837) | ||||||||||||||
The following table summarizes open commodity derivative positions as of December 31, 2021, for commodity derivatives that were entered into through December 31, 2021, for the settlement period presented:
F-30
| 2022 | 2023 | 2024 | 2025 | ||||||||||||||||||||
| Oil: | |||||||||||||||||||||||
| WTI NYMEX - Swaps: | |||||||||||||||||||||||
| Volume (Bbl) | 9,864,780 | 2,651,625 | 549,000 | — | |||||||||||||||||||
| Weighted-Average Price ($/Bbl) | $ | 60.58 | $ | 64.40 | $ | 63.82 | $ | — | |||||||||||||||
| Brent ICE - Swaps: | |||||||||||||||||||||||
| Volume (Bbl) | 365,000 | — | — | — | |||||||||||||||||||
| Weighted-Average Price ($/Bbl) | $ | 55.00 | $ | — | $ | — | $ | — | |||||||||||||||
| WTI NYMEX - Swaptions: | |||||||||||||||||||||||
| Volume (Bbl) | — | 2,869,750 | 1,692,750 | — | |||||||||||||||||||
| Weighted-Average Price ($/Bbl) | $ | — | $ | 54.94 | $ | 62.25 | $ | — | |||||||||||||||
| WTI NYMEX - Call Options: | |||||||||||||||||||||||
| Volume (Bbl) | $ | — | 730,000 | 3,264,210 | 730,000 | ||||||||||||||||||
| Weighted-Average Price ($/Bbl) | — | $ | 63.48 | $ | 57.22 | $ | 49.95 | ||||||||||||||||
| Natural Gas: | |||||||||||||||||||||||
| Henry Hub NYMEX - Swaps: | |||||||||||||||||||||||
| Volume (MMBtu) | 30,237,291 | 5,900,000 | 2,562,000 | — | |||||||||||||||||||
| Weighted-Average Price ($/MMBtu) | $ | 3.27 | $ | 3.67 | $ | 3.22 | $ | — | |||||||||||||||
| Waha Swaps: | |||||||||||||||||||||||
| Volume (MMBtu) | 1,375,000 | 900,000 | — | — | |||||||||||||||||||
| Weighted-Average Price ($/MMBtu) | $ | 3.18 | $ | 3.62 | $ | — | $ | — | |||||||||||||||
| Waha Inside FERC to Henry Hub - Basis Swaps: | |||||||||||||||||||||||
| Volume (MMBtu) | 365,000 | — | — | — | |||||||||||||||||||
| Weighted-Average Differential ($/MMBtu) | $ | (0.26) | $ | — | $ | — | $ | — | |||||||||||||||
| Henry Hub NYMEX - Collars: | |||||||||||||||||||||||
| Volume (MMBtu) | 6,360,000 | 900,000 | — | — | |||||||||||||||||||
| Weighted-average floor price ($/MMBtu) | $ | 3.64 | $ | 3.50 | $ | — | $ | — | |||||||||||||||
| Weighted-average ceiling price ($/MMBtu) | $ | 7.21 | $ | 7.50 | $ | — | $ | — | |||||||||||||||
| Columbia/TCO-POOL - Basis Swaps: | |||||||||||||||||||||||
| Volume (MMBtu) | — | — | — | — | |||||||||||||||||||
| Weighted-Average Differential ($/MMBtu) | $ | — | $ | — | $ | — | $ | — | |||||||||||||||
| Dominion - App - Basis Swaps: | |||||||||||||||||||||||
| Volume (MMBtu) | 355,729 | — | — | — | |||||||||||||||||||
| Weighted-Average Differential ($/MMBtu) | $ | (0.64) | $ | — | $ | — | $ | — | |||||||||||||||
| NE - TETCO M2 - Basis Swaps: | |||||||||||||||||||||||
| Volume (MMBtu) | 12,496,561 | 1,350,000 | — | — | |||||||||||||||||||
| Weighted-Average Differential ($/MMBtu) | $ | (0.83) | $ | (0.83) | $ | — | $ | — | |||||||||||||||
______________
(1)Swaptions are crude oil derivative contracts that give counterparties the option to extend certain derivative contracts for additional periods. Call Options are crude oil derivative contracts sold by the Company that give counterparties the option to exercise certain derivative contracts. The volumes and prices reflected as Swaptions and Call Options in this table will only be effective if the options are exercised by the applicable counterparties.
Interest Rate Derivative Instruments
The Company uses interest rate swaps to effectively convert a portion of its variable rate indebtedness to fixed rate indebtedness. As of December 31, 2021, the Company had interest rate swaps with a total notional amount of $200.0 million. The settlement of these derivative instruments is recognized as a component of interest expense in the statements of operations.
F-31
The mark-to-market component of these derivative instruments is recognized in gain (loss) on unsettled interest rate derivatives, net in the statements of operations.
Other Information Regarding Derivative Instruments
The following table sets forth the amounts, on a gross basis, and classification of the Company’s outstanding derivative financial instruments at December 31, 2021 and 2020, respectively. Certain amounts may be presented on a net basis on the financial statements when such amounts are with the same counterparty and subject to a master netting arrangement:
| (In thousands) | December 31, Estimated Fair Value | |||||||||||||||||||
| Type of Commodity | Balance Sheet Location | 2021 | 2020 | |||||||||||||||||
| Derivative Assets: | ||||||||||||||||||||
| Commodity Price Swap Contracts | Current Assets | $ | 4,272 | $ | 52,702 | |||||||||||||||
| Commodity Basis Swap Contracts | Current Assets | 1,916 | 37 | |||||||||||||||||
| Interest Rate Swap Contracts | Current Assets | 89 | — | |||||||||||||||||
| Commodity Price Swaptions Contracts | Current Assets | 3,020 | — | |||||||||||||||||
| Commodity Price Collar Contracts | Current Assets | 1,963 | — | |||||||||||||||||
| Commodity Price Swap Contracts | Noncurrent Assets | 3,619 | 3,479 | |||||||||||||||||
| Commodity Basis Swap Contracts | Noncurrent Assets | 309 | — | |||||||||||||||||
| Commodity Price Collar Contracts | Noncurrent Assets | 407 | — | |||||||||||||||||
| Interest Rate Swap Contracts | Noncurrent Assets | 123 | — | |||||||||||||||||
| Total Derivative Assets | $ | 15,719 | $ | 56,218 | ||||||||||||||||
| Derivative Liabilities: | ||||||||||||||||||||
| Commodity Price Swap Contracts | Current Liabilities | $ | (138,389) | $ | (3,434) | |||||||||||||||
| Commodity Basis Swap Contracts | Current Liabilities | (1,309) | (519) | |||||||||||||||||
| Commodity Price Swaptions Contracts | Current Liabilities | (3,020) | — | |||||||||||||||||
| Interest Rate Swap Contracts | Current Liabilities | (189) | (574) | |||||||||||||||||
| Commodity Price Collar Contracts | Current Liabilities | (119) | — | |||||||||||||||||
| Commodity Price Swap Contracts | Noncurrent Liabilities | (8,465) | (399) | |||||||||||||||||
| Commodity Basis Swap Contracts | Noncurrent Liabilities | (823) | — | |||||||||||||||||
| Commodity Price Collar Contracts | Noncurrent Liabilities | (275) | — | |||||||||||||||||
| Interest Rate Swap Contracts | Noncurrent Liabilities | — | (445) | |||||||||||||||||
| Commodity Price Call Option Contracts | Noncurrent Liabilities | (71,815) | — | |||||||||||||||||
| Commodity Price Swaptions Contracts | Noncurrent Liabilities | (68,980) | (17,184) | |||||||||||||||||
| Total Derivative Liabilities | $ | (293,383) | $ | (22,554) | ||||||||||||||||
The use of derivative transactions involves the risk that the counterparties will be unable to meet the financial terms of such transactions. When the Company has netting arrangements with its counterparties that provide for offsetting payables against receivables from separate derivative instruments these assets and liabilities are netted in the balance sheet. The tables presented below provide reconciliation between the gross assets and liabilities and the amounts reflected in the balance sheet. The amounts presented exclude derivative settlement receivables and payables as of the balance sheet dates.
F-32
| Estimated Fair Value at December 31, 2021 | |||||||||||||||||
| (In thousands) | Gross Amounts of Recognized Assets (Liabilities) | Gross Amounts Offset on the Balance Sheet | Net Amounts of Assets (Liabilities) Presented on the Balance Sheet | ||||||||||||||
| Offsetting of Derivative Assets: | |||||||||||||||||
| Current Assets | $ | 11,261 | $ | (8,742) | $ | 2,519 | |||||||||||
| Non-Current Assets | 4,458 | (2,595) | 1,863 | ||||||||||||||
| Total Derivative Assets | $ | 15,719 | $ | (11,337) | $ | 4,382 | |||||||||||
| Offsetting of Derivative Liabilities: | |||||||||||||||||
| Current Liabilities | $ | (143,025) | $ | 8,742 | $ | (134,283) | |||||||||||
| Non-Current Liabilities | (150,357) | 2,595 | (147,762) | ||||||||||||||
| Total Derivative Liabilities | $ | (293,383) | $ | 11,337 | $ | (282,045) | |||||||||||
| Estimated Fair Value at December 31, 2020 | |||||||||||||||||
| (In thousands) | Gross Amounts of Recognized Assets (Liabilities) | Gross Amounts Offset on the Balance Sheet | Net Amounts of Assets (Liabilities) Presented on the Balance Sheet | ||||||||||||||
| Offsetting of Derivative Assets: | |||||||||||||||||
| Current Assets | $ | 52,739 | $ | (1,449) | $ | 51,290 | |||||||||||
| Non-Current Assets | 3,479 | (3,369) | 111 | ||||||||||||||
| Total Derivative Assets | $ | 56,218 | $ | (4,817) | $ | 51,401 | |||||||||||
| Offsetting of Derivative Liabilities: | |||||||||||||||||
| Current Liabilities | $ | (4,527) | $ | 1,449 | $ | (3,078) | |||||||||||
| Non-Current Liabilities | (18,028) | 3,369 | (14,659) | ||||||||||||||
| Total Derivative Liabilities | $ | (22,554) | $ | 4,817 | $ | (17,737) | |||||||||||
All of the Company’s outstanding derivative instruments are covered by International Swap Dealers Association Master Agreements (“ISDAs”) entered into with parties that are also lenders under the Company’s Revolving Credit Facility. The Company’s obligations under the derivative instruments are secured pursuant to the Revolving Credit Facility, and no additional collateral had been posted by the Company as of December 31, 2021. The ISDAs may provide that as a result of certain circumstances, such as cross-defaults, a counterparty may require all outstanding derivative instruments under an ISDA to be settled immediately. See Note 11 for the aggregate fair value of all derivative instruments that were in a net liability position at December 31, 2021 and 2020.
NOTE 13 EARNINGS PER SHARE
The reconciliation of the numerators and denominators used to calculate basic EPS and diluted EPS for the years ended December 31, 2021, 2020 and 2019 are as follows:
F-33
| December 31, | |||||||||||||||||
| (In thousands, except share and per share data) | 2021 | 2020 | 2019 | ||||||||||||||
| Net Income (Loss) | $ | 6,361 | $ | (906,041) | $ | (76,318) | |||||||||||
Less: Cumulative Dividends on Preferred Stock | 14,761 | 15,266 | 1,029 | ||||||||||||||
| Net Loss Attributable to Common Stock | $ | (8,400) | $ | (921,307) | $ | (77,347) | |||||||||||
| Weighted Average Common Shares Outstanding: | |||||||||||||||||
| Weighted Average Common Shares Outstanding – Basic | 62,989,543 | 42,744,639 | 38,708,460 | ||||||||||||||
Plus: Dilutive Effect of Stock Options, Restricted Stock and Preferred Shares | — | — | — | ||||||||||||||
| Weighted Average Common Shares Outstanding – Diluted | 62,989,543 | 42,744,639 | 38,708,460 | ||||||||||||||
| Net Loss per Common Share: | |||||||||||||||||
| Basic | $ | (0.13) | $ | (21.55) | $ | (2.00) | |||||||||||
| Diluted | $ | (0.13) | $ | (21.55) | $ | (2.00) | |||||||||||
For the years ended December 31, 2021, 2020, and 2019, the Company’s potentially dilutive securities, which include stock options, restricted stock and convertible preferred shares, have been excluded from the computation of diluted net loss per share as the effect would be to reduce the net loss per share. Therefore, the weighted average number of common shares outstanding used to calculate both basic and diluted net loss per share attributable to common shareholders is the same.
The following securities have been excluded from the calculation of diluted weighted average common shares outstanding as the inclusion of these securities would have an anti-dilutive effect:
| December 31, | |||||||||||||||||
| 2021 | 2020 | 2019 | |||||||||||||||
| Restricted Stock Awards | 150,011 | 98,595 | 67,304 | ||||||||||||||
| Series A Preferred Stock (if converted) | 9,758,871 | 9,899,376 | 7,079,907 | ||||||||||||||
| Warrants | 468,325 | — | — | ||||||||||||||
| Total | 10,377,207 | 9,997,971 | 7,147,211 | ||||||||||||||
NOTE 14 SUBSEQUENT EVENTS
Veritas Acquisition
On November 16, 2021, the Company entered into a purchase and sale agreement (the “PSA”) with Veritas TM Resources, LLC, Veritas Permian Resources, LLC, Veritas Lone Star Resources, LLC, and Veritas MOC Resources, LLC (collectively, “Veritas”) pursuant to which the Company agreed to acquire (the “Veritas Acquisition”) certain oil and gas properties, interests and related assets. The Company completed the closing of the Veritas Acquisition pursuant to the PSA on January 27, 2022, with an effective date of October 1, 2021. In accordance with the PSA, the Company paid closing consideration to Veritas in respect of the acquired assets consisting of $419.4 million in cash (which includes a $40.7 million cash deposit previously paid by the Company upon the execution of the PSA and held in escrow in accordance with the terms of the PSA) and warrants to purchase 1,939,998 shares of the Company’s common stock, par value $0.001 per share, at an exercise price equal to $28.30 per share. The warrants will be exercisable in whole or in part for the Company’s common stock by Veritas at any time beginning 90 days following the date of issuance and ending seven years from the date of issuance. The cash portion of the consideration is net of preliminary and customary purchase price adjustments and remains subject to final post-closing settlement between the Company and Veritas.
F-34
SUPPLEMENTAL OIL AND GAS INFORMATION
(UNAUDITED)
Oil and Natural Gas Exploration and Production Activities
Oil and natural gas sales reflect the market prices of net production sold or transferred with appropriate adjustments for royalties, net profits interest, and other contractual provisions. Production expenses include lifting costs incurred to operate and maintain productive wells and related equipment including such costs as operating labor, repairs and maintenance, materials, supplies and fuel consumed. Production taxes include production and severance taxes. Depletion of crude oil and natural gas properties relates to capitalized costs incurred in acquisition, exploration, and development activities. Results of operations do not include interest expense and general corporate amounts. The results of operations for the Company’s crude oil and natural gas production activities are provided in the Company’s related statements of income.
Costs Incurred and Capitalized Costs
The costs incurred in crude oil and natural gas acquisition, exploration and development activities are highlighted in the table below.
| December 31, | |||||||||||||||||
| (In thousands) | 2021 | 2020 | 2019 | ||||||||||||||
| Costs Incurred for the Year: | |||||||||||||||||
| Proved Property Acquisition and Other | $ | 434,519 | $ | 50,345 | $ | 375,145 | |||||||||||
| Unproved Property Acquisition | 19,358 | 770 | 9,540 | ||||||||||||||
| Development | 202,325 | 162,797 | 369,233 | ||||||||||||||
| Total | $ | 656,202 | $ | 213,912 | $ | 753,918 | |||||||||||
Excluded costs for unproved properties are accumulated by year. Costs are reflected in the full cost pool as the drilling costs are incurred or as costs are evaluated and deemed impaired. The Company anticipates these excluded costs will be included in the depletion computation over the next five years. The Company is unable to predict the future impact on depletion rates. The following is a summary of capitalized costs excluded from depletion at December 31, 2021 by year incurred.
| December 31, | |||||||||||||||||||||||
| (In thousands) | 2021 | 2020 | 2019 | Prior Years | |||||||||||||||||||
| Property Acquisition | $ | 15,991 | $ | 240 | $ | 4,664 | $ | 4,102 | |||||||||||||||
| Development | — | — | — | — | |||||||||||||||||||
| Total | $ | 15,991 | $ | 240 | $ | 4,664 | $ | 4,102 | |||||||||||||||
Oil and Natural Gas Reserves and Related Financial Data
Information with respect to the Company’s crude oil and natural gas producing activities is presented in the following tables. Reserve quantities, as well as certain information regarding future production and discounted cash flows, were determined by Cawley, Gillespie & Associates, Inc., our third-party independent reserve engineers, based on information provided by the Company.
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Oil and Natural Gas Reserve Data
The following tables present the Company’s third-party independent reserve engineers estimates of its proved crude oil and natural gas reserves. The Company emphasizes that reserves are approximations and are expected to change as additional information becomes available. Reservoir engineering is a subjective process of estimating underground accumulations of crude oil and natural gas that cannot be measured in an exact way, and the accuracy of any reserve estimate is a function of the quality of available data and of engineering and geological interpretation and judgment.
| (In thousands) | Natural Gas (MCF) | Oil (BBLS) | BOE | ||||||||||||||
| Proved Developed and Undeveloped Reserves at December 31, 2018 | 135,066 | 112,973 | 135,484 | ||||||||||||||
| Revisions of Previous Estimates | (5,146) | (15,497) | (16,355) | ||||||||||||||
| Extensions, Discoveries and Other Additions | 22,019 | 19,992 | 23,662 | ||||||||||||||
| Purchases of Minerals in Place | 53,969 | 25,611 | 34,606 | ||||||||||||||
| Production | (16,591) | (11,325) | (14,091) | ||||||||||||||
| Proved Developed and Undeveloped Reserves at December 31, 2019 | 189,318 | 131,754 | 163,307 | ||||||||||||||
| Revisions of Previous Estimates | (21,512) | (33,289) | (36,874) | ||||||||||||||
| Extensions, Discoveries and Other Additions | 8,308 | 6,921 | 8,306 | ||||||||||||||
| Production | (16,473) | (9,361) | (12,107) | ||||||||||||||
| Proved Developed and Undeveloped Reserves at December 31, 2020 | 159,641 | 96,025 | 122,632 | ||||||||||||||
| Revisions of Previous Estimates | 89,115 | 19,914 | 34,766 | ||||||||||||||
| Extensions, Discoveries and Other Additions | 32,432 | 12,759 | 18,164 | ||||||||||||||
| Purchases of Minerals in Place | 700,610 | 14,985 | 131,753 | ||||||||||||||
| Production | (44,074) | (12,288) | (19,634) | ||||||||||||||
| Proved Developed and Undeveloped Reserves at December 31, 2021 | 937,724 | 131,395 | 287,682 | ||||||||||||||
| Proved Developed Reserves: | |||||||||||||||||
| December 31, 2018 | 82,315 | 62,497 | 76,216 | ||||||||||||||
| December 31, 2019 | 116,846 | 77,160 | 96,634 | ||||||||||||||
| December 31, 2020 | 114,060 | 65,135 | 84,145 | ||||||||||||||
| December 31, 2021 | 498,558 | 87,505 | 170,598 | ||||||||||||||
| Proved Undeveloped Reserves: | |||||||||||||||||
| December 31, 2018 | 52,752 | 50,476 | 59,268 | ||||||||||||||
| December 31, 2019 | 72,473 | 54,594 | 66,673 | ||||||||||||||
| December 31, 2020 | 45,581 | 30,890 | 38,487 | ||||||||||||||
| December 31, 2021 | 439,165 | 43,890 | 117,084 | ||||||||||||||
Proved reserves are estimated quantities of crude oil and natural gas, which geological and engineering data indicate with reasonable certainty to be recoverable in future years from known reservoirs under existing economic and operating conditions. Proved developed reserves are proved reserves that can be expected to be recovered through existing wells with existing equipment and operating methods. Proved undeveloped reserves are included for reserves for which there is a high degree of confidence in their recoverability and they are scheduled to be drilled within the next five years.
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Notable changes in proved reserves for the year ended December 31, 2021 included the following:
•Extensions and discoveries. In 2021, total extensions and discoveries of 18.2 MMBoe were primarily attributable to successful drilling in the Williston Basin as well as the addition of proved undeveloped locations. Included in these extensions and discoveries were 4.9 MMBoe as a result of successful drilling in the Williston Basin and 13.3 MMBoe as a result of additional proved undeveloped locations.
•Purchases of minerals in place. In 2021, total purchases of minerals in place of 131.8 MMBoe were primarily attributable to acquisitions of oil and natural gas properties (see Note 3).
•Revisions to previous estimates. In 2021, revisions to previous estimates increased proved developed and undeveloped reserves by a net amount of 34.8 MMBoe. Included in these revisions were 50.2 MMBoe of upward adjustments caused by higher crude oil and natural gas prices, a 1.1 MMBoe downward adjustment attributable to well performance when comparing the Company’s reserve estimates at December 31, 2021 to December 31, 2020 and 14.2 MMBoe of downward adjustments related to the removal of undeveloped drilling locations related to the 5-year rule and other adjustments.
Notable changes in proved reserves for the year ended December 31, 2020 included the following:
•Extensions and discoveries. In 2020, total extensions and discoveries of 8.3 MMBoe were primarily attributable to successful drilling in the Williston Basin as well as the addition of proved undeveloped locations. Included in these extensions and discoveries were 3.1 MMBoe as a result of successful drilling in the Williston Basin and 5.2 MMBoe as a result of additional proved undeveloped locations.
•Revisions to previous estimates. In 2020, revisions to previous estimates decreased proved developed and undeveloped reserves by a net amount of 36.9 MMBoe. Included in these revisions were 33.8 MMBoe of downward adjustments caused by lower crude oil and natural gas prices, a 0.7 MMBoe downward adjustment attributable to well performance when comparing the Company’s reserve estimates at December 31, 2020 to December 31, 2019 and 2.3 MMBoe of downward adjustments related to the removal of undeveloped drilling locations related to the 5-year rule.
Notable changes in proved reserves for the year ended December 31, 2019 included the following:
•Extensions and discoveries. In 2019, total extensions and discoveries of 23.7 MMBoe were primarily attributable to successful drilling in the Williston Basin as well as the addition of proved undeveloped locations. Included in these extensions and discoveries were 11.3 MMBoe as a result of successful drilling in the Williston Basin and 12.3 MMBoe as a result of additional proved undeveloped locations.
•Purchases of minerals in place. In 2019, total purchases of minerals in place of 34.6 MMBoe were primarily attributable to acquisitions of oil and natural gas properties (see Note 3).
•Revisions to previous estimates. In 2019, revisions to previous estimates decreased proved developed and undeveloped reserves by a net amount of 16.4 MMBoe. Included in these revisions were 9.8 MMBoe of downward adjustments caused by lower crude oil and natural gas prices, a 2.0 MMBoe downward adjustment attributable to well performance when comparing the Company’s reserve estimates at December 31, 2019 to December 31, 2018 and 4.6 MMBoe of downward adjustments related to the removal of undeveloped drilling locations related to the 5-year rule.
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Standardized Measure of Discounted Future Net Cash Inflows and Changes Therein
The following table presents a standardized measure of discounted future net cash flows relating to proved crude oil and natural gas reserves, and the changes in standardized measure of discounted future net cash flows relating to proved crude oil and natural gas were prepared in accordance with the provisions of ASC 932 Extractive Activities - Oil and Gas. Future cash inflows were computed by applying average prices of crude oil and natural gas for the last 12 months to estimated future production. Future production and development costs were computed by estimating the expenditures to be incurred in developing and producing the proved crude oil and natural gas reserves at the end of the year, based on year-end costs and assuming continuation of existing economic conditions. Future income tax expenses were calculated by applying appropriate year-end tax rates to future pretax cash flows relating to proved crude oil and natural gas reserves, less the tax basis of properties involved and tax credits and loss carry forwards relating to crude oil and natural gas producing activities. Future net cash flows are discounted at the rate of 10% annually to derive the standardized measure of discounted future cash flows. Actual future cash inflows may vary considerably, and the standardized measure does not necessarily represent the fair value of the Company’s crude oil and natural gas reserves.
| December 31, | |||||||||||||||||
| (In thousands) | 2021 | 2020 | 2019 | ||||||||||||||
| Future Cash Inflows | $ | 11,339,861 | $ | 3,395,670 | $ | 7,059,586 | |||||||||||
| Future Production Costs | (4,213,186) | (1,747,325) | (2,868,762) | ||||||||||||||
| Future Development Costs | (932,480) | (416,507) | (855,041) | ||||||||||||||
| Future Income Tax Expense | (947,303) | (3,273) | (320,528) | ||||||||||||||
| Future Net Cash Inflows | $ | 5,246,892 | $ | 1,228,565 | $ | 3,015,255 | |||||||||||
| 10% Annual Discount for Estimated Timing of Cash Flows | (2,356,783) | (516,554) | (1,337,194) | ||||||||||||||
| Standardized Measure of Discounted Future Net Cash Flows | $ | 2,890,109 | $ | 712,011 | $ | 1,678,061 | |||||||||||
The twelve-month average prices were adjusted to reflect applicable transportation and quality differentials on a well-by-well basis to arrive at realized sales prices used to estimate the Company’s reserves. The price of other liquids is included in natural gas. The prices for the Company’s reserve estimates were as follows:
Natural Gas MCF | Oil Bbl | ||||||||||
| December 31, 2021 | $ | 3.37 | $ | 62.25 | |||||||
| December 31, 2020 | $ | 1.61 | $ | 32.69 | |||||||
| December 31, 2019 | $ | 2.12 | $ | 50.53 | |||||||
The expected tax benefits to be realized from utilization of the net operating loss and tax credit carryforwards are used in the computation of future income tax cash flows. As a result of available net operating loss carryforwards and the remaining tax basis of its assets at December 31, 2021, the Company’s future income taxes were significantly reduced.
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Changes in the Standardized Measure of Discounted Future Net Cash Flows at 10% per annum follow:
| December 31, | |||||||||||||||||
| (In thousands) | 2021 | 2020 | 2019 | ||||||||||||||
| Beginning of Period | $ | 712,011 | $ | 1,678,061 | $ | 1,879,643 | |||||||||||
| Sales of Oil and Natural Gas Produced, Net of Production Costs | (727,317) | (177,932) | (424,548) | ||||||||||||||
| Extensions and Discoveries | 258,399 | 52,232 | 282,528 | ||||||||||||||
Previously Estimated Development Cost Incurred During the Period | 85,526 | 78,633 | 100,987 | ||||||||||||||
| Net Change of Prices and Production Costs | 1,366,197 | (815,278) | (680,119) | ||||||||||||||
| Change in Future Development Costs | (103,806) | (150,991) | (174,729) | ||||||||||||||
| Revisions of Quantity and Timing Estimates | 607,774 | (280,481) | (226,721) | ||||||||||||||
| Accretion of Discount | 71,254 | 182,202 | 218,023 | ||||||||||||||
| Change in Income Taxes | (450,455) | 143,438 | 156,621 | ||||||||||||||
| Purchases of Minerals in Place | 940,910 | — | 338,289 | ||||||||||||||
| Other | 129,615 | 2,127 | 19,902 | ||||||||||||||
| End of Period | $ | 2,890,109 | $ | 712,011 | $ | 1,678,061 | |||||||||||
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