W&T Offshore, Inc. — 2011 Second-Quarter Form 10-Q
Business context and reporting period
W&T is an independent oil and natural gas producer focused primarily on the Gulf of Mexico, with expanding operations in the West Texas Permian Basin. This unaudited Form 10-Q covers the three and six months ended June 30, 2011, compared with the corresponding 2010 periods.
- Production mix for the first six months was approximately 47% oil, condensate and NGLs and 53% natural gas.
- Total production increased 11.0% year over year on an Mcfe basis for the first six months.
- In May 2011, W&T acquired approximately 21,500 net acres in the Permian Basin for a purchase price of approximately $399.5 million, including adjustments through June 30.
Financial performance and key metrics
| Metric | Three months ended June 30, 2011 | Three months ended June 30, 2010 | Six months ended June 30, 2011 | Six months ended June 30, 2010 |
|---|---|---|---|---|
| Revenue | $252.9 million | $179.7 million | $463.8 million | $349.3 million |
| Operating income | $115.6 million | $40.2 million | $153.2 million | $95.9 million |
| Net income | $55.2 million | $27.9 million | $73.8 million | $70.2 million |
| Diluted EPS | $0.73 | $0.37 | $0.98 | $0.94 |
| Operating margin | 45.7% | 22.4% | 33.0% | 27.5% |
| Net margin | 21.8% | 15.5% | 15.9% | 20.1% |
- Second-quarter revenue increased 40.8%, driven primarily by a 40.5% increase in realized oil and NGL prices to $99.72 per barrel and an 11.8% increase in oil and NGL sales volumes.
- Six-month revenue increased 32.8%; oil and NGL revenue rose 47.1%, while natural gas revenue increased only 0.7% because higher volumes offset a 10.5% decline in realized natural gas prices.
- Six-month operating income increased 59.8%. Second-quarter operating income increased 187.8%, aided by higher prices, higher volumes and a $17.3 million derivative gain.
- Six-month net income increased only 5.2%, partly because the prior-year period benefited from a substantially lower effective tax rate and 2011 included a $20.7 million loss on extinguishment of debt.
- Net cash provided by operating activities was $229.8 million, compared with $244.3 million in the prior-year period.
- Net cash used in investing activities was $483.0 million, including $397.0 million for the Permian acquisition and $85.8 million for oil and gas property and equipment.
- Cash and cash equivalents declined to $8.7 million from $28.7 million at December 31, 2010.
Balance sheet, debt and liquidity
- Total assets were $1.77 billion and shareholders’ equity was $493.3 million at June 30, 2011.
- Debt consisted of $600.0 million of 8.5% Senior Notes due 2019, $43.9 million of remaining 8.25% Senior Notes classified as current, and $75.0 million drawn under the revolving credit facility.
- The new revolving facility had a $487.5 million borrowing base at June 30, with approximately $412.0 million of undrawn capacity and $0.5 million of letters of credit outstanding.
- Management stated that operating cash flow, available revolver capacity and external financing sources should be sufficient for ongoing requirements. The company was in compliance with applicable credit-facility covenants at June 30.
- On July 18, 2011, the company redeemed the remaining $43.9 million of 8.25% Senior Notes. A $2.0 million redemption premium and remaining debt issuance costs were expected to be recorded in third-quarter 2011.
Material changes versus the prior comparable period
- The Permian Basin acquisition expanded W&T’s operations beyond the Gulf of Mexico and added estimated proved reserves of approximately 30 million Boe, approximately 91% of which consisted of oil and NGLs; approximately 78% were proved undeveloped.
- Production increased, but realized natural gas prices declined while oil and NGL prices rose materially.
- Six-month lease operating expense increased 15.0% to $101.0 million, while second-quarter lease operating expense decreased 7.4% to $48.6 million.
- General and administrative expense increased 46.0% for the first six months, primarily due to higher incentive compensation, salaries, surety premiums and fees associated with acquired properties.
- The company refinanced a substantial portion of its debt by issuing $600.0 million of 8.5% Senior Notes and repurchasing $406.2 million of 8.25% Senior Notes.
- The effective tax rate rose to approximately 35.2% for the first six months from 9.2% in 2010, when the company benefited from a reduction in its valuation allowance.
Guidance, outlook, risks and unusual items
- Management maintained a 2011 capital expenditure estimate of approximately $310 million, excluding acquisitions. Permian development expenditures from May 11 through December 31, 2011 were estimated at $40 million to $50 million and were included in that budget.
- Management intended to continue evaluating acquisitions and joint ventures and expected to fund capital spending and acquisitions with operating cash flow, cash on hand, revolver borrowings, senior-note proceeds and additional debt as needed.
- Management expected substantially all 2011 income tax to be deferred, with only minimal cash payments expected, primarily related to alternative minimum tax.
- Commodity prices remain the principal earnings and liquidity sensitivity. Lower oil or natural gas prices could reduce revenue, cash flow and borrowing-base availability and could result in ceiling-test impairment or covenant pressure.
- Oil hedges covered approximately 0.6 million barrels for the balance of 2011 and 1.1 million barrels for 2012. These contracts limit downside exposure but may limit gains from higher oil prices; there were no natural gas commodity hedges.
- Hurricane Ike remediation remained a material contingency. The company recorded $65.5 million in estimated additional asset retirement costs, expected to be incurred through the end of 2012, and held $6.9 million of insurance receivables. The amount of future reimbursement was not clear from the filing.
- Deepwater permitting remained slower and more costly following the Deepwater Horizon incident. The filing stated that the future cost and impact of evolving regulations could not be estimated.
- Potential federal and state regulation of hydraulic fracturing, including Texas disclosure requirements, could increase costs, delay operations or reduce recoverable production from Permian assets.
- Proposed EPA air-emissions rules could require new equipment and increase capital and operating costs if finalized.
- The second quarter included a Matterhorn field shutdown of approximately one month for repairs, while production from Main Pass fields improved after a third-party pipeline returned to service.
Investor verification points
- Verify the final purchase-price settlement and operating performance of the Permian Basin acquisition, including development spending and reserve conversion.
- Monitor the borrowing base, revolver availability, leverage and current-ratio compliance after the acquisition and debt refinancing.
- Assess sensitivity to oil and natural gas prices, including the effect of oil collars and declining natural gas prices.
- Track Hurricane Ike remediation spending, insurance collections and the adequacy of the recorded asset retirement obligation.
- Review the third-quarter debt-extinguishment charge from redemption of the remaining 8.25% Senior Notes.
- Evaluate the effect of Gulf of Mexico permitting, offshore safety rules, hydraulic-fracturing regulation and proposed EPA emissions rules on costs and production timing.