SM Energy Company — Q3 2017 Form 10-Q
Business context and reporting period
Independent onshore oil, gas, and NGL producer. This unaudited filing covers the three and nine months ended September 30, 2017, compared with the corresponding 2016 periods. The company was concentrating investment in its Midland Basin and operated Eagle Ford assets while divesting non-core properties.
Key financial and operating metrics
| Metric | Q3 2017 | Q3 2016 | Nine months 2017 | Nine months 2016 |
|---|---|---|---|---|
| Oil, gas, and NGL production revenue | $294.5 million | $329.2 million | $912.6 million | $832.1 million |
| Net loss | $89.1 million | $40.9 million | $134.6 million | $556.8 million |
| Net loss per diluted share | $0.80 | $0.52 | $1.21 | $7.78 |
| Cash from operating activities | $128.5 million | $158.1 million | $370.6 million | $415.0 million |
| Adjusted EBITDAX, non-GAAP | $164.5 million | $205.1 million | $490.7 million | $604.6 million |
- Q3 equivalent production was 10.7 million BOE, or 116.0 MBOE/day, down 25% year over year; nine-month production was 34.1 million BOE, down 19%. Management attributed the decline mainly to asset sales. Production from retained assets increased approximately 7% in Q3 and 11% year to date.
- Realized prices before derivative settlements rose year over year: Q3 oil $45.20/bbl, gas $2.96/Mcf, and NGLs $22.40/bbl. Q3 production expense was $122.7 million; DD&A and asset-retirement accretion was $134.6 million.
- Nine-month cash capital expenditures were $625.0 million; cash acquisitions of oil and gas properties were $87.4 million. Net cash from investing activities was $69.0 million, including $778.4 million of property-sale proceeds.
- At September 30, cash was $441.4 million and available credit capacity was $924.8 million, for reported liquidity of approximately $1.4 billion. The revolving facility had no balance; the company reported covenant compliance.
- Senior Notes and Senior Convertible Notes had approximately $2.9 billion of combined carrying value (about $3.0 billion principal). Nine-month interest expense was $135.6 million. Current liabilities were $436.7 million.
- Declared dividends were $0.05 per share for Q3 and $0.10 per share for the nine months.
Material changes versus prior periods
- Q3 production revenue declined 11%, as a 25% production-volume reduction outweighed a 19% increase in realized price per BOE. Nine-month production revenue rose 10%, as higher prices more than offset lower volumes.
- Net loss widened in Q3, while the nine-month loss improved substantially from 2016, when the company recorded $277.8 million of proved-property impairments. Q3 2017 included an $80.6 million derivative loss, compared with a $28.0 million derivative gain in Q3 2016.
- Nine-month 2017 results included a $526.5 million write-down of retained Divide County, North Dakota assets previously held for sale and a $396.8 million gain on the Eagle Ford asset sale, producing a net $131.6 million loss on divestiture activity.
- Cash from operations declined 11% year over year, partly reflecting lower production cash receipts and $36.3 million more interest paid. Investing cash flow improved largely because of increased divestiture proceeds.
- Weighted-average shares increased to 111.4 million for the nine months from 71.6 million, primarily due to 2016 equity offerings.
Outlook, risks, and unusual items
- Management expected 2017 capital spending, excluding acquisitions, of approximately $875 million, with about 80% allocated to the Midland Basin and 20% to the Eagle Ford. It expected full-year production to be lower than 2016, but did not provide a clear production target in the supplied filing text.
- The company said operating cash flow and Eagle Ford divestiture proceeds were expected to fund the 2017 program and that it had sufficient liquidity for the foreseeable future. The second 2017 borrowing-base redetermination was still in progress and expected before year-end; the $925 million borrowing base could be affected by commodity prices, reserve values, or divestitures.
- Commodity prices remain volatile. Management described near-term oil, gas, and NGL price uncertainty and reported that derivatives partially reduced exposure. Q3 derivative losses were substantially driven by a decline in fair value of contracts settling after quarter-end.
- The company retained its Divide County assets after sale valuations fell short of expectations. It recorded the $526.5 million write-down and said, using October 26 price assumptions, it did not expect material proved-property impairments in Q4.
- Remaining delivery and purchase commitments could entail approximately $445 million of undiscounted deficiency payments if unmet; management did not expect material shortfalls. Drilling-rig commitments were $30.4 million, with $17.5 million of penalties for immediate termination.
- A collective-action lawsuit alleges unpaid overtime under the Fair Labor Standards Act. Proceedings were at an early stage, and the company could not estimate the potential impact.
- Management cited potential risks from commodity-price declines, reserve replacement and development results, access to capital, debt and covenant restrictions, derivative outcomes, operating and environmental hazards, and third-party infrastructure and counterparties.
Most important facts for investors to verify
- Whether Midland Basin production growth and planned capital spending deliver the expected returns while total company production is declining.
- The outcome of the borrowing-base redetermination and continued covenant compliance, given approximately $3.0 billion of debt principal.
- Cash generation and funding needs after the large asset-sale proceeds are deployed, including the pace and effectiveness of capital spending.
- Commodity-price exposure and the effect of derivative mark-to-market volatility, settlement gains or losses, and hedge limits on realized cash flows.
- The assumptions and valuation underlying the Divide County write-down, as well as any further asset sales, impairments, or changes in asset values.
- Potential exposure from throughput commitments, drilling-rig termination penalties, and the overtime litigation.