SM Energy Company — Q3 2022 Form 10-Q
Reporting period: Quarter and nine months ended September 30, 2022. SM Energy is an independent oil and gas producer operating in Texas, principally in the Midland Basin and South Texas. Amounts below are in U.S. dollars.
Financial and operating results
- Q3 revenue and earnings: Oil, gas and NGL production revenue was $827.6 million, up 9% from $759.8 million in Q3 2021. Total operating revenue and other income was $835.5 million. Net income was $481.2 million, or $3.87 per diluted share, versus $85.6 million, or $0.69, a year earlier.
- Nine-month results: Production revenue rose 53% to $2.677 billion from $1.746 billion. Net income was $853.5 million, compared with a $388.7 million net loss in the prior-year period; diluted EPS was $6.87 versus a loss of $3.29.
- Cash flow and investment: Operating cash flow for the first nine months was $1.398 billion, versus $730.1 million in 2021. Capital expenditures were $591.8 million and net cash used in investing activities was $592.4 million. Q3 operating cash flow was $513.4 million.
- Production and costs: Q3 average net production was 137.8 MBOE/day, down 6% sequentially but up 2% from Q3 2021. Nine-month production averaged 145.8 MBOE/day, up 8% year over year. Q3 realized price before derivative settlements was $65.27/BOE; production expense was $12.62/BOE, up 2% sequentially.
- Derivative effects: Q3 included a $137.6 million net derivative gain, compared with a $209.1 million loss in Q3 2021. For the first nine months, the net derivative loss was $385.2 million, down from $924.2 million. Q3 derivative settlements were a $186.3 million cash loss; fair-value gains and losses can therefore materially affect reported earnings.
- Debt and liquidity: At September 30, cash was $498.4 million and senior notes, net, were $1.571 billion; no revolving credit facility borrowings were outstanding. Available revolver capacity was $1.244 billion, after $6.0 million of letters of credit. The company reported $1.585 billion of senior-note principal. It was compliant with debt covenants.
- Shareholder returns: The company authorized up to $500 million of share repurchases through December 31, 2024, and repurchased 452,734 shares for $20.2 million in Q3. It raised its fixed dividend to $0.60 per share annually, payable quarterly at $0.15 per share.
Material changes versus comparable periods
- Higher commodity prices and greater South Texas production drove nine-month production revenue up 53%; nine-month average production rose 8%, including a 46% increase in South Texas, partly offset by a 10% Midland Basin decline.
- Q3 production revenue fell 16% sequentially as average production declined 6% and realized price per BOE fell 12%. Management attributed lower production in part to delayed completions related largely to supply-chain issues and impacts from offset activity.
- Nine-month production expense increased 30% to $470.2 million. Lease operating expense and production taxes rose, reflecting higher service costs, activity and commodity prices.
- Debt carrying value declined from $2.081 billion at year-end 2021 to $1.571 billion. The company redeemed $104.8 million of 2024 notes and $446.7 million of 2025 secured notes during 2022. The latter redemption produced a $67.2 million loss on extinguishment; total nine-month debt-extinguishment loss was $67.6 million.
Outlook, risks and unusual items
- Capital and activity: Management expected 2022 capital spending of $870–$900 million, funded primarily by operating cash flow, and said it would adjust activity as warranted. For the remainder of 2022, it expected three Midland Basin rigs and one completion crew, and two South Texas rigs and one completion crew. No specific production-volume guidance is provided in the filing text.
- Costs and earnings outlook: Management expected full-year 2022 LOE per BOE to increase versus 2021, while DD&A and G&A were expected to decrease. It expected interest expense to decline following debt redemptions. It did not expect material oil and gas property impairments in Q4 based on commodity-price assumptions as of October 27, 2022.
- Commodity and macro risks: Oil, gas and NGL prices remain exposed to volatility from supply and demand, Russia’s war in Ukraine, sanctions, OPEC+ production, inflation, interest rates and supply-chain disruption. Derivatives reduce some near-term exposure but may limit gains when prices rise. Management estimated that a 10% decrease in realized prices, based on nine-month production, would have reduced revenue by approximately $267.6 million before derivative offsets; settlements would have offset about $128.2 million.
- Commitments: Drilling-rig contracts totaled $32.8 million, with terms extending through Q3 2023; termination at the filing date would have triggered $19.6 million in early-termination fees. A drilling and completion agreement carried potential liquidated damages of up to $74.5 million if minimum footage requirements were not met by March 31, 2024; management expected to meet the requirements.
- Other notable items: The effective tax rate was 20.4% for the first nine months. Management anticipated reversal at year-end 2022 of a valuation allowance on a derivative deferred tax asset. The filing reported no pending litigation expected to have a material adverse effect and no other material changes to previously disclosed risk factors.
Most important facts for investors to verify
- Whether production stabilizes after Q3’s sequential decline and delayed completions, and whether the planned capital program delivers expected volumes.
- How much reported earnings and cash flow reflect realized operations versus derivative fair-value movements and cash settlements.
- Execution of the $870–$900 million capital program alongside dividends, repurchases, and continued debt reduction; the repurchase authorization does not require the company to buy shares.
- Commodity-price, service-cost and tax assumptions underlying management’s outlook, including the expected deferred-tax valuation-allowance reversal.
- Progress toward drilling and completion commitments and the related potential early-termination or liquidated-damages exposure.