Talos Energy Inc. — 2023 Q2 Form 10-Q Summary
Business context and reporting period
Talos Energy is an independent offshore oil and gas exploration and production company operating primarily in the U.S. Gulf of Mexico and offshore Mexico, with an emerging carbon capture and sequestration (CCS) business. The report covers the quarter and six months ended June 30, 2023. Upstream is the only reportable segment; CCS remains in the start-up phase and generated no revenue.
The February 13, 2023 acquisition of EnVen Energy materially expanded Talos’s Deepwater Gulf of Mexico operations and affected period-to-period comparability. Consideration included $207.3 million of cash, 43.8 million Talos shares valued at $832.2 million, and settlement of an $8.4 million receivable.
Key financial metrics
| Metric | Q2 2023 | Q2 2022 | Six months 2023 | Six months 2022 |
|---|---|---|---|---|
| Total revenue | $367.2 million | $519.1 million | $689.8 million | $932.7 million |
| Operating income | $40.4 million | $276.0 million | $48.3 million | $493.5 million |
| Net income | $13.7 million | $195.1 million | $103.5 million | $128.7 million |
| Adjusted EBITDA | $249.7 million | $250.8 million | $452.8 million | $459.0 million |
| Operating margin | 11.0% | 53.2% | 7.0% | 52.9% |
| Net margin | 3.7% | 37.6% | 15.0% | 13.8% |
| Diluted earnings per share | $0.11 | $2.33 | $0.89 | $1.55 |
| Total production | 70.3 MBoepd | 65.4 MBoepd | 66.9 MBoepd | 64.3 MBoepd |
Revenue declined primarily because lower commodity prices more than offset higher production. Q2 average realized prices were $71.44 per oil barrel, $2.46 per Mcf of natural gas and $16.25 per NGL barrel, compared with $108.03, $8.00 and $37.79, respectively, in the prior-year quarter. Realized price including commodity derivatives was $58.72 per Boe versus $60.28.
- Q2 oil production increased 21% to 52.8 MBbls per day, largely from EnVen, while natural gas production fell 25% to 72.9 MMcf per day.
- Lease operating expense increased 16% year over year to $101.2 million; cost per Boe rose to $15.82 from $14.71.
- Depreciation, depletion and amortization increased 62% to $169.8 million, reflecting the larger proved property base and the HP-I lease extension.
- Q2 interest expense rose to $45.6 million from $30.8 million following the EnVen debt assumption and higher borrowings.
- Adjusted EBITDA was broadly stable in Q2 despite lower prices, but included significant adjustments for derivatives, transaction costs, decommissioning obligations and equity compensation.
Cash flow, liquidity and debt
- Six-month operating cash flow was $277.1 million, down from $354.4 million in 2022.
- Investing cash use was $312.6 million, including $298.7 million of exploration, development and other capital expenditures.
- Financing cash flow was $109.9 million, reflecting $200.0 million of net Bank Credit Facility borrowings, partially offset by debt redemptions, financing costs and $47.5 million of share repurchases.
- Cash and cash equivalents were $17.5 million at June 30, 2023; restricted cash was $101.0 million, producing total cash, cash equivalents and restricted cash of $118.5 million.
- Total debt before discounts and financing costs was $1.081 billion, consisting principally of $638.5 million of 12.00% senior secured notes, $242.5 million of assumed 11.75% notes and $200.0 million drawn under the Bank Credit Facility.
- Available liquidity was $771.8 million. The Bank Credit Facility borrowing base was reduced from $1.5 billion to $1.1 billion, with $965.0 million of commitments reaffirmed. Talos reported compliance with debt covenants.
- Asset retirement obligations were $799.1 million, including $101.0 million of restricted cash and $15.4 million of related notes receivable available for future plugging and abandonment obligations.
Material changes versus the prior comparable period
- EnVen added approximately 20.4 MBoepd of Q2 production and 15.9 MBoepd of first-half production, but also increased operating costs, depletion, interest expense, asset retirement obligations and transaction-related costs.
- Six-month revenue decreased 26% and operating income decreased 90%, primarily because commodity prices fell substantially and operating expenses increased.
- Six-month net income decreased 20%, although the decline was moderated by an $85.1 million derivative gain and a $39.7 million income tax benefit.
- The six-month tax benefit included a $54.9 million non-cash benefit from partially releasing a valuation allowance on federal deferred tax assets due to deferred tax liabilities acquired with EnVen.
- Talos repurchased 3.4 million shares for $47.5 million during the first six months, with $52.5 million remaining under the $100 million authorization at June 30.
- Talos entered into an agreement to sell a 49.9% interest in Talos Mexico for approximately $74.9 million in cash, plus a contingent $49.9 million payment upon first oil from Zama. Closing was expected in the third quarter, subject to Mexican regulatory approval.
Guidance, outlook, commentary and risks
- Management expects cash flow and Bank Credit Facility availability to fund the board-approved 2023 Upstream capital program of $650 million to $675 million, plugging and abandonment and decommissioning obligations of $75 million to $85 million, and CCS investments of $70 million to $90 million.
- Talos stated it is exploring a capital raise to finance accelerated CCS growth. The CCS business currently has no revenue and remains dependent on development, permitting, financing and customer execution.
- Commodity derivatives covered future production through March 2025. At June 30, the company reported a net derivative asset of $44.5 million; derivative fair-value changes are expected to continue affecting earnings.
- The next HP-I dry-dock is scheduled for the second quarter of 2024, with an estimated production shut-in of approximately 55 days.
- Key risks include oil, natural gas and NGL price volatility; production declines and operational downtime; hurricanes and other Gulf of Mexico weather; inflation and higher interest rates; Deepwater operational and environmental liabilities; regulatory and permitting changes; cybersecurity; and access to capital.
- Proposed BOEM supplemental financial-assurance requirements could increase bonding and liquidity needs. Talos had $1.5 billion of performance bonds and $10.8 million of letters of credit outstanding at June 30.
- EnVen purchase-price allocations remained preliminary, with final fair values expected by December 31, 2023. Future depletion, taxes and asset retirement obligations could change as estimates are finalized.
- Talos recorded a $13.9 million liability for litigation involving former EnVen executive David Dunwoody and stated that additional liabilities or expenses may arise from related Delaware litigation.
Investor verification checklist
- Reconcile reported revenue and earnings trends with realized commodity prices, derivative settlements and unrealized derivative gains.
- Assess EnVen integration results, including production retention, operating costs, depletion rates, transaction costs and final purchase-price accounting.
- Verify the borrowing-base capacity, covenant compliance, debt maturities and the required $15 million semiannual redemption of the 11.75% notes.
- Evaluate liquidity after planned capital spending, CCS investment, plugging and abandonment costs, debt service and any further share repurchases.
- Monitor the Mexico divestiture, Zama development and the contingent consideration tied to first oil.
- Review BOEM and BSEE bonding developments and potential changes to Talos’s decommissioning financial-assurance requirements.
- Consider the effect of the planned 2024 HP-I dry-dock and other Gulf of Mexico downtime on production and cash flow.