Business context and reporting period
SM Energy Company is an independent oil and gas producer focused on the Midland Basin and South Texas. This unaudited Form 10-Q covers the quarter and six months ended June 30, 2020; comparisons are with the corresponding 2019 periods unless noted. The filing attributes sharply weaker market conditions to COVID-19 and the oil supply-demand imbalance.
Financial and operating results
| Metric | Q2 2020 | Six months 2020 |
|---|---|---|
| Oil, gas and NGL production revenue | $169.8 million, down 58% | $524.0 million, down 30% |
| Net income (loss) | $(89.3) million; $(0.79) per diluted share | $(501.1) million; $(4.43) per diluted share |
| Operating cash flow | $114.3 million | $332.5 million, versus $378.4 million |
| Capital expenditures | Not separately stated in the cited quarterly discussion | $310.2 million, versus $576.1 million |
| Adjusted EBITDAX (non-GAAP) | $201.5 million, versus $263.0 million | $487.5 million, versus $449.5 million |
Q2 average daily production was 122.9 MBOE, down 10%; first-half production was 129.4 MBOE per day, up 1%. Q2 production costs declined 27% to $7.20 per BOE. Realized prices before derivative settlements fell 60% for oil, 42% for gas and 36% for NGLs in Q2. Oil derivative settlements added $25.81 per barrel in Q2; the reported net derivative result was a $167.2 million loss, reflecting noncash mark-to-market movements as well as settlements.
For the six months, the company recorded $998.5 million of impairment expense, including $956.7 million on South Texas proved properties and related facilities, following lower commodity price forecasts. Q2 operating loss was $312.7 million. Interest expense was $40.4 million in Q2 and $81.9 million for the half year. A $227.3 million Q2 gain on debt extinguishment materially offset the quarterly loss; the half-year gain was $239.5 million.
Debt and liquidity
At June 30, cash was only $10,000. Current assets were $355.5 million and current liabilities $307.9 million. The company had $193.0 million outstanding on its revolving facility, $865.0 million of available borrowing capacity after letters of credit, and a $1.1 billion borrowing base and lender commitment, reduced from $1.2 billion at year-end 2019.
In June, SM Energy exchanged $718.9 million principal of existing notes for $446.7 million of 10.0% second-lien secured notes due 2025, paid $53.5 million cash in a private exchange and issued warrants covering up to approximately 5.9 million shares. Management reported a $218.7 million reduction in outstanding debt from the exchange transactions. Senior Notes, net, totaled $2.263 billion at quarter-end; revolving borrowings brought total reported debt to approximately $2.456 billion. The company was in compliance with debt covenants at June 30 and through the filing date.
Changes, outlook and risks
- Management cut the 2020 capital program by approximately 25% from its initial $825–$850 million budget. It expected the program to be funded with operating cash flow, with revolver borrowings available for remaining needs.
- Management expected full-year 2020 production to decline versus 2019, lower LOE per BOE and lower total G&A. It estimated average cost per well for the remainder of 2020 would be approximately 25% below year-end 2019 estimates. The filing does not provide a clear revised full-year capital budget amount or a numerical production target.
- A majority of expected second-half 2020 oil production was hedged at NYMEX-equivalent prices of at least $55 per barrel. Management cautioned that the pandemic, future outbreaks, commodity prices and market recovery remained highly uncertain and could require further activity reductions or production curtailments.
- Other material exposures include further property impairments, reduced borrowing capacity or more expensive financing following credit-rating downgrades, counterparty and infrastructure risks, and covenant or refinancing pressure. The NYSE minimum-price risk could also matter: a delisting could trigger a put right on $65.5 million of 2021 secured convertible notes.
- Commitments included up to $9.0 million in drilling-rig early termination fees and potential liquidated damages of up to $39.5 million and $11.5 million under drilling/completion agreements; management expected to meet the activity requirements. A pending lawsuit’s trial was expected in Q4 2020, postponed because of the pandemic; management did not expect pending claims to have a material financial effect.
Investor verification points
- Confirm the updated capital budget, production outlook and cash-flow assumptions as commodity markets evolve.
- Track liquidity, borrowing-base redeterminations, covenant headroom, debt maturities and the cost of the 10.0% secured notes.
- Separate derivative cash settlements from mark-to-market earnings effects, and assess hedge coverage, counterparties and future exposure.
- Review the assumptions behind the South Texas impairment and whether additional impairments or lease-related charges arise.
- Monitor common-stock listing compliance and the warrant terms, potential dilution and convertible-note put provisions.