Notes to Condensed
Consolidated Financial Statements
(Unaudited)
NOTE 1 – ORGANIZATION
Carbon Energy Corporation is an independent
oil and natural gas company engaged in the acquisition, exploration, development and production of oil, natural gas and natural
gas liquids properties located in the United States. The terms “we”, “us”, “our”, the “Company”
or “Carbon” refer to Carbon Energy Corporation and our consolidated subsidiaries (described below). The following
is an organization chart of the key subsidiaries discussed in this report as of March 31, 2020:
Appalachian and Illinois Basin Operations
In the Appalachian and Illinois Basins,
operations are conducted by Nytis Exploration Company, LLC (“Nytis LLC”). The following organizational
chart illustrates this relationship as of March 31, 2020:
We hold all of the Class A Units of Carbon
Appalachian Company, LLC, a Delaware limited liability company (“Carbon Appalachia”), along with its
direct and indirect subsidiaries (Carbon Appalachia Group, LLC, Carbon Tennessee Mining Company, LLC, Carbon Appalachia Enterprises,
LLC, Carbon West Virginia Company, LLC, Cranberry Pipeline Corporation, Knox Energy, LLC, Coalfield Pipeline Company and Appalachia
Gas Services Company, LLC).
Ventura Basin Operations
In California, Carbon California Operating
Company, LLC conducts operations on behalf of Carbon California Company, LLC, a Delaware limited liability company (“Carbon
California”). We own 53.92% of the voting and profits interests and Prudential Legacy Insurance Company of New Jersey
and Prudential Insurance Company of America or its affiliates (collectively, “Prudential”) owns 46.08%
of the voting and profits interest in Carbon California. The following organizational chart illustrates this relationship
as of March 31, 2020:
NOTE 2 – SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Basis of Presentation
The accompanying unaudited condensed consolidated
financial statements have been prepared in accordance with the rules and regulations of the Securities and Exchange Commission
(“SEC”) and in accordance with U.S. generally accepted accounting principles (“GAAP”)
applicable to interim financial statements. These unaudited condensed consolidated financial statements reflect all normal recurring
adjustments that are, in the opinion of management, necessary for a fair presentation of the results of the interim period. Operating
results for the interim periods presented require management to make estimates and assumptions that affect the amounts reported
in the financial statements and accompanying notes and are not necessarily indicative of the results that may be expected for
the full year. The condensed consolidated balance sheet data as of December 31, 2019 was derived from audited financial statements
but does not include all disclosures required by GAAP. These unaudited condensed consolidated financial statements should be read
in conjunction with our consolidated financial statements and related notes included in our Annual Report on Form 10-K for the
year ended December 31, 2019. The Company follows the same accounting policies for preparing quarterly and annual reports.
Principles of Consolidation
The unaudited condensed consolidated financial
statements include the accounts of the Company and its consolidated subsidiaries. Partnerships and subsidiaries in which we have
a controlling interest are consolidated. We are currently consolidating 46 partnerships, Carbon Appalachia, and Carbon California,
and we reflect the non-controlling ownership interest in partnerships and subsidiaries as non-controlling interests on our unaudited
condensed consolidated statements of operations and also reflect the non-controlling ownership interest in the net assets of the
partnerships as non-controlling interests within stockholders’ equity on our unaudited condensed consolidated balance sheets.
All significant intercompany accounts and transactions have been eliminated.
In accordance with established practice
in the oil and gas industry, our unaudited condensed consolidated financial statements also include our pro-rata share of assets,
liabilities, income, lease operating costs and general and administrative expenses of the oil and gas partnerships in which we
have a non-controlling interest.
Non-majority owned investments that do
not meet the criteria for pro-rata consolidation are accounted for using the equity method when we have the ability to significantly
influence the operating decisions of the investee. When we do not have the ability to significantly influence the operating decisions
of an investee, the cost method is used. All transactions, if any, with investees have been eliminated in the accompanying unaudited
condensed consolidated financial statements.
Recently Issued Accounting Pronouncements
In March 2020, the Financial Accounting
Standards Board issued ASU 2020-04 as an update to provide optional guidance to ease the potential burden in accounting for (or
recognizing the effects of) reference rate reform (ASC Topic 848) on financial reporting. The amendments in ASU 2020-04 are elective
and apply to all entities, subject to meeting certain criteria, that have contracts, hedging relationships, and other transactions
that reference the London interbank offered rate (“LIBOR”) or another reference rate expected to be
discontinued because of reference rate reform. ASU 2020-04 provides optional expedients and exceptions for applying GAAP to contracts,
hedging relationships, and other transactions affected by reference rate reform if certain criteria are met. This guidance is
effective beginning on March 12, 2020, and the Company may elect to apply the amendments prospectively through December 31, 2022.
The Company is currently evaluating the impact this guidance may have on its consolidated financial statements and related disclosures.
NOTE 3 – PROPERTY AND EQUIPMENT
Property and equipment, net consists of the following:
(in thousands)
|
|
March 31, 2020
|
|
|
December 31, 2019
|
|
|
|
|
|
|
|
|
Oil and gas properties:
|
|
|
|
|
|
|
Proved oil and gas properties
|
|
$352,561
|
|
|
$351,488
|
|
Unproved properties
|
|
|
4,906
|
|
|
|
4,872
|
|
Accumulated depreciation, depletion, amortization
and impairment
|
|
|
(112,719
|
)
|
|
|
(109,344
|
)
|
Oil and gas properties, net
|
|
|
244,748
|
|
|
|
247,016
|
|
|
|
|
|
|
|
|
|
|
Pipeline facilities and equipment
|
|
|
12,820
|
|
|
|
12,814
|
|
Base gas
|
|
|
1,937
|
|
|
|
1,937
|
|
Furniture and fixtures, computer hardware and software, and other equipment
|
|
|
6,967
|
|
|
|
6,762
|
|
Accumulated depreciation and amortization
|
|
|
(5,956
|
)
|
|
|
(5,529
|
)
|
Other property and equipment, net
|
|
|
15,768
|
|
|
|
15,984
|
|
|
|
|
|
|
|
|
|
|
Total property and equipment, net
|
|
$
|
260,516
|
|
|
$
|
263,000
|
|
Unproved oil and gas properties not subject
to depletion are excluded from the full cost pool until it is determined if reserves can be assigned to the related properties.
Subject to industry conditions, evaluation of most of these properties and the inclusion of their costs in the full cost pool
is expected to be completed within five years. Unproved properties are assessed for impairment at least annually. During the three
months ended March 31, 2020 and 2019, there were no expiring or impaired leasehold costs that were reclassified into proved property.
We capitalized overhead applicable to
acquisition, development and exploration activities of approximately $238,000 and $68,000 for the three months ended March 31,
2020 and 2019, respectively.
Depletion expense related to oil and gas
properties for the three months ended March 31, 2020 and 2019 was approximately $3.4 million and $3.5 million, respectively.
For the three months ended March 31, 2020
and 2019, we did not recognize any ceiling test impairments as our full cost pool did not exceed the ceiling limitations. Future
declines in oil and natural gas prices, increases in future operating expenses and future development costs could result in impairments
of our oil and gas properties in future periods. Impairment changes are a non-cash charge and accordingly would not affect cash
flows but would adversely affect our net income and stockholders’ equity.
NOTE 4 – ACCOUNTS PAYABLE
AND ACCRUED LIABILITIES
Accounts payable and accrued liabilities
consist of the following:
(in thousands)
|
|
March 31, 2020
|
|
|
December 31, 2019
|
|
|
|
|
|
|
|
|
Accounts payable
|
|
$
|
4,631
|
|
|
$
|
9,875
|
|
Oil and gas revenue suspense
|
|
|
3,517
|
|
|
|
3,620
|
|
Gathering and transportation payables
|
|
|
2,014
|
|
|
|
1,877
|
|
Production taxes payable
|
|
|
2,768
|
|
|
|
3,212
|
|
Accrued lease operating costs
|
|
|
734
|
|
|
|
664
|
|
Accrued ad valorem taxes-current
|
|
|
4,114
|
|
|
|
4,407
|
|
Accrued general and administrative expenses
|
|
|
3,186
|
|
|
|
3,260
|
|
Asset retirement obligations-current
|
|
|
5,564
|
|
|
|
5,021
|
|
Accrued interest
|
|
|
1,180
|
|
|
|
1,335
|
|
Accrued gas purchases
|
|
|
1,220
|
|
|
|
1,392
|
|
Other liabilities
|
|
|
1,352
|
|
|
|
494
|
|
|
|
|
|
|
|
|
|
|
Total accounts payable and accrued liabilities
|
|
$
|
30,280
|
|
|
$
|
35,157
|
|
NOTE 5 – ASSET RETIREMENT
OBLIGATIONS
The Company’s asset retirement obligations
(“ARO”) relate to future costs associated with the plugging and abandonment of oil and gas wells, removal
of equipment and facilities from leased acreage and returning such land to its original condition. The fair value of a liability
for an ARO is recorded in the period in which it is incurred, and the cost of such liability is recorded as an increase in the
carrying amount of the related long-lived asset by the same amount. The liability is accreted each period and the capitalized
cost is depleted on a units-of-production basis as part of the full cost pool. Revisions to the estimated ARO liability result
in adjustments to the related capitalized asset and corresponding liability.
The ARO liability is based on estimated
economic lives, estimates of the cost to abandon the wells in the future, and federal and state regulatory requirements. The liability
is discounted using a credit-adjusted risk-free rate estimated at the time the liability is incurred or adjusted as a result of
a reassessment of expected cash flows and assumptions inherent in the estimation of the liability. Revisions to the liability
could occur due to changes in estimated abandonment costs or well economic lives, or if federal or state regulators enact new
requirements regarding the abandonment of wells.
The following table is a reconciliation
of ARO:
|
|
Three Months Ended
March 31,
|
|
(in thousands)
|
|
2020
|
|
|
2019
|
|
Balance at beginning of period
|
|
$
|
22,535
|
|
|
$
|
22,310
|
|
Accretion expense
|
|
|
478
|
|
|
|
394
|
|
Additions
|
|
|
7
|
|
|
|
-
|
|
Balance at end of period
|
|
$
|
23,020
|
|
|
$
|
22,704
|
|
Less: Current portion
|
|
|
(5,564
|
)
|
|
|
(3,392
|
)
|
Non-current portion
|
|
$
|
17,456
|
|
|
$
|
19,312
|
|
NOTE 6 – CREDIT FACILITIES
AND NOTES PAYABLE
The table below summarizes the outstanding
credit facilities and notes payable:
(in thousands)
|
|
March 31, 2020
|
|
|
December 31,
2019
|
|
2018 Credit Facility – revolver
|
|
$
|
70,150
|
|
|
$
|
69,150
|
|
2018 Credit Facility – term note
|
|
|
3,333
|
|
|
|
5,833
|
|
Old Ironsides Notes
|
|
|
26,336
|
|
|
|
25,675
|
|
Other debt
|
|
|
34
|
|
|
|
45
|
|
Total debt
|
|
|
99,853
|
|
|
|
100,703
|
|
Less: unamortized debt discount
|
|
|
(22
|
)
|
|
|
(45
|
)
|
Total credit facilities and notes payable
|
|
|
99,831
|
|
|
|
100,658
|
|
Current portion of credit facilities and notes payable
|
|
|
(3,311
|
)
|
|
|
(5,788
|
)
|
Non-current debt, net of current portion and unamortized
debt discount
|
|
$
|
96,520
|
|
|
$
|
94,870
|
|
Carbon Appalachia
2018 Credit Facility
In 2018, the Company and its subsidiaries
amended and restated its prior credit facilities and entered into a $500.0 million senior secured asset-based revolving credit
facility maturing December 31, 2022 and a $15.0 million term loan maturing in 2020 (the “2018 Credit Facility”).
The 2018 Credit Facility includes a sublimit of $1.5 million for letters of credit. The borrowers under the 2018 Credit Facility
are Carbon Appalachia Enterprises, LLC (“CAE”) and various other subsidiaries of the Company (including
Nytis Exploration (USA) Inc., a direct wholly owned subsidiary of the Company (“Nytis USA”), together
with CAE, the “Borrowers”). Under the 2018 Credit Facility, the Company is neither a borrower nor a
guarantor. The initial borrowing base under the 2018 Credit Facility was $75.0 million and was $71.0 million as of March 31, 2020.
The 2018 Credit Facility is guaranteed
by each existing and future direct or indirect subsidiary of the Borrowers and certain other subsidiaries of the Company (subject
to various exceptions) and the obligations under the 2018 Credit Facility are secured by essentially all tangible, intangible
and real property (subject to certain exclusions).
Interest accrues on borrowings under the
2018 Credit Facility at a rate per annum equal to either (i) the base rate plus a margin equal to 0.25% - 0.75% depending on the
utilization percentage or (ii) the Adjusted LIBOR plus a margin equal to 2.75% - 3.75% depending on the utilization percentage,
at the Borrowers’ option. The Borrowers are obligated to pay certain fees and expenses in connection with the 2018 Credit
Facility, including a commitment fee for any unused amounts of 0.50% and an origination fee of 0.50%. Loans under the 2018 Credit
Facility may be prepaid without premium or penalty.
The 2018 Credit Facility also provides
for a $15.0 million term loan which bears interest at a rate of 6.25% and is payable in 18 equal monthly installments beginning
February 1, 2019 with the last payment due on July 1, 2020.
The 2018 Credit Facility contains certain
affirmative and negative covenants that, among other things, limit the Borrowers’ ability to (i) incur additional debt;
(ii) incur additional liens; (iii) sell, transfer or dispose of assets; (iv) merge or consolidate, wind-up, dissolve or liquidate;
(v) make dividends and distribution on, or repurchase of, equity; (vi) make certain investments; (vii) enter into certain transactions
with their affiliates; (viii) enter in sale-leaseback transactions; (ix) make optional or voluntary payment of debt other than
obligations under the 2018 Credit Facility; (x) change the nature of their business; (xi) change their fiscal year or make changes
to the accounting treatment or reporting practices; (xii) amend their constituent documents; and (xiii) enter into certain hedging
transactions.
The affirmative and negative covenants
are subject to various exceptions, including certain basket amounts and acceptable transaction levels. In addition, the 2018 Credit
Facility requires the Borrowers’ compliance, on a consolidated basis, with a maximum Net Debt (all debt of the Borrowing
Parties minus all unencumbered cash and cash equivalents of the Borrowers not to exceed $3.0 million) / EBITDAX (as defined) ratio
of 3.50 to 1.00 and a current ratio, as defined, minimum of 1.00 to 1.00, tested quarterly.
In August 2019, we amended the 2018 Credit
Facility, effective October 1, 2019, to restrict the aging of our accounts payable to 90 days or less, maintain minimum liquidity
of $3.0 million and require the sale of certain non-core assets by December 31, 2019.
In February 2020, we amended the 2018
Credit Facility to eliminate the minimum liquidity requirement and reduce the borrowing base from $75.0 million to $73.0 million,
with subsequent borrowing base reductions totaling $6.0 million scheduled through May 1, 2020. Also, pursuant to this amendment,
the lenders agreed to provide a limited waiver of non-compliance with the asset sale covenant included in the amendment from August
2019.
In April 2020, we amended the 2018 Credit
Facility to extend the remaining borrowing base reductions totaling $4.0 million through June 1, 2020.
As of March 31, 2020, there was approximately
$70.2 million in outstanding borrowings and no borrowing capacity available under the 2018 Credit Facility, after considering
letters of credit outstanding. As of March 31, 2020, we were not in compliance with our current ratio financial covenant. However,
we anticipate a full payoff of the 2018 Credit Facility as a result of Contemplated Transactions described in Note 15 prior to
any potential event of default. The Company believes given these circumstances it is appropriate to classify the outstanding borrowings
associated with the 2018 Credit Facility as non-current.
The terms of the 2018 Credit Facility
require us to enter into derivative contracts at fixed pricing for a certain percentage of our production. We are party to International
Swaps and Derivatives Association Master Agreements (“ISDA Master Agreements”) that establish standard
terms for the derivative contracts and inter-creditor agreements with the lenders whereby any credit exposure related to the derivative
contracts entered into by us is secured by the collateral and backed by the guarantees supporting the 2018 Credit Facility.
Fees paid in connection with the 2018
Credit Facility totaled approximately $824,000, of which $134,000 was associated with the term loan. The current portion of unamortized
fees associated with the credit facility is included in prepaid expenses, deposits and other current assets and the non-current
portion is included in other non-current assets. The unamortized portion associated with the term loan was $22,000 as of March
31, 2020 and is directly offset against the loan in current liabilities. As of March 31, 2020, we had unamortized deferred issuance
costs of approximately $476,000 associated with the credit facility. During the three months ended March 31, 2020 and 2019, we
amortized approximately $66,000 and $63,000, respectively, as interest expense associated with the 2018 Credit Facility.
Old Ironsides Notes
On December 31, 2018, in connection with
our acquisition (the “OIE Membership Acquisition”) of all of the Class A Units of Carbon Appalachia
from Old Ironside Fund II-A Portfolio Holding Company, LLC, a Delaware limited liability company, and Old Ironside Fund II-B Portfolio
Holding Company, LLC, a Delaware limited liability company (collectively, “Old Ironsides”), we delivered
unsecured, promissory notes in the aggregate original principal amount of approximately $25.1 million to Old Ironsides (the “Old
Ironsides Notes”). The Old Ironsides Notes bear interest at 10.0% per annum and have a term of five years, the first
three of which require interest-only payments at the end of each calendar quarter beginning with the quarter ending March 31,
2019. At the end of the three-year interest-only period, the then current outstanding principal balance and interest is to be
paid in 24 equal monthly payments. The Old Ironsides Notes also require mandatory prepayments upon the occurrence of certain subsequent
liquidity events. A mandatory, one-time principal reduction payment in the aggregate amount of $2.0 million was made to Old Ironsides
on February 1, 2019.
The interest payable under the Old Ironsides
Notes can be paid-in-kind at the election of the Company. This provision allows the Company to increase the principal balance
associated with the Old Ironsides Notes. This election creates a second tranche of principal, which bears interest at 12.0% per
annum. For the three months ended March 31, 2020, the Company elected payment-in-kind interest of approximately $662,000.
Carbon California
The table below summarizes the outstanding
notes payable – related party:
(in thousands)
|
|
March 31, 2020
|
|
|
December 31,
2019
|
|
Senior Revolving Notes, related party, due February 15, 2022
|
|
$
|
34,700
|
|
|
$
|
33,000
|
|
Subordinated Notes, related party, due February 15, 2024
|
|
|
13,000
|
|
|
|
13,000
|
|
Total principal
|
|
|
47,700
|
|
|
|
46,000
|
|
Less: Deferred notes costs
|
|
|
(164
|
)
|
|
|
(175
|
)
|
Less: unamortized debt discount
|
|
|
(1,019
|
)
|
|
|
(1,084
|
)
|
Total notes payable – related party
|
|
$
|
46,517
|
|
|
$
|
44,741
|
|
Senior Revolving Notes, Related Party
On February 15, 2017, Carbon California
entered into a Note Purchase Agreement (the “Note Purchase Agreement”) for the issuance and sale
of Senior Secured Revolving Notes to Prudential with an initial revolving borrowing capacity of $25.0 million which mature on
February 15, 2022 (the “Senior Revolving Notes”). The Company is not a guarantor of the Senior Revolving
Notes. The closing of the Note Purchase Agreement on February 15, 2017 resulted in the sale and issuance by Carbon California
of Senior Revolving Notes in the principal amount of $10.0 million. The maximum principal amount available under the Senior Revolving
Notes is based upon the borrowing base attributable to Carbon California’s proved oil and gas reserves which is to be determined
at least semi-annually. As of March 31, 2020, the borrowing base was $45.0 million, of which $34.7 million was outstanding. On
April 1, 2020, the borrowing base was redetermined and reduced to $40.0 million.
Carbon California may elect to incur interest
at either (i) 5.50% plus LIBOR or (ii) 4.50% plus the Prime Rate (which is defined as the interest rate published daily by JPMorgan
Chase Bank, N.A.). As of December 31, 2019, the effective borrowing rate for the Senior Revolving Notes was 7.10%. In addition,
the Senior Revolving Notes include a commitment fee for any unused amounts at 0.50% as well as an annual administrative fee of
$75,000, payable on February 15 each year.
The Senior Revolving Notes are secured
by all the assets of Carbon California. The Senior Revolving Notes require Carbon California, as of January 1 and July 1 of each
year, to hedge its anticipated proved developed production at such time for year one, two and three at a rate of 75%, 65% and
50%, respectively. Carbon California may make principal payments in minimum installments of $500,000. Distributions to equity
members are generally restricted.
Carbon California incurred fees directly
associated with the issuance of the Senior Revolving Notes and amortizes these fees over the life of the Senior Revolving Notes.
The current portion of these fees are included in prepaid expenses and deposits and the long-term portion is included in other
non-current assets for a combined value of approximately $528,000. For the three months ended March 31, 2020 and 2019, Carbon
California amortized fees of $70,000 and $74,000, respectively.
Carbon California may at any time repay
the Senior Revolving Notes, in whole or in part, without penalty. Carbon California must pay down Senior Revolving Notes or provide
mortgages of additional oil and natural gas properties to the extent that outstanding loans and letters of credit exceed the borrowing
base.
Subordinated Notes, Related Party
On February 15, 2017, Carbon California
entered into a Securities Purchase Agreement (the “Securities Purchase Agreement”) with Prudential Capital
Energy Partners, L.P. for the issuance and sale of Subordinated Notes due February 15, 2024, bearing interest of 12.0% per annum
(the “Subordinated Notes”). The Company is not a guarantor of the Subordinated Notes. The closing of
the Securities Purchase Agreement on February 15, 2017 resulted in the sale and issuance by Carbon California of Subordinated
Notes in the original principal amount of $10.0 million, all of which remains outstanding as of March 31, 2020.
Prudential received an additional 1,425
Class A Units, representing 5.0% of the total sharing percentage, for the issuance of the Subordinated Notes. Carbon California
valued this unit issuance based on the relative fair value by valuing the units at $1,000 per unit and aggregating the amount
with the outstanding Subordinated Notes of $10.0 million. The Company then allocated the non-cash value of the units of approximately
$1.3 million, which was recorded as a discount to the Subordinated Notes. As of March 31, 2020, Carbon California had an outstanding
discount of approximately $691,000, which is presented net of the Subordinated Notes within Notes payable-related party on the
unaudited condensed consolidated balance sheets. During the three months ended March 31, 2020, Carbon California amortized $45,000
and $45,000, respectively, associated with the Subordinated Notes.
The Subordinated Notes require Carbon
California, as of January 1 and July 1 of each year, to hedge its anticipated production at such time for year one, two and three
at a rate of 67.5%, 58.5% and 45.0%, respectively.
Prepayment of the Subordinated Notes is
allowed at 100%, subject to a 3.0% fee of outstanding principal. Prepayment is not subject to a prepayment fee after February
17, 2020. Distributions to equity members are generally restricted.
2018 Subordinated Notes, Related Party
On May 1, 2018, Carbon California entered
into an agreement with Prudential for the issuance and sale of $3.0 million in subordinated notes due February 15, 2024, bearing
interest of 12.0% per annum (the “2018 Subordinated Notes”), of which $3.0 million remains outstanding
as of March 31, 2020.
Prudential received 585 Class A Units,
representing an approximate 2.0% additional sharing percentage, for the issuance of the 2018 Subordinated Notes. Carbon California
valued this unit issuance based on the relative fair value by valuing the units at $1,000 per unit and aggregating the amount
with the outstanding 2018 Subordinated Notes of $3.0 million. The Company then allocated the non-cash value of the units of approximately
$490,000, which was recorded as a discount to the 2018 Subordinated Notes. As of March 31, 2020, Carbon California had an outstanding
discount of $328,000 associated with these notes, which is presented net of the 2018 Subordinated Notes within Notes payable -
related party on the unaudited condensed consolidated balance sheets. During the three months ended March 31, 2020 and 2019, Carbon
California amortized $21,000 and $21,000, respectively, associated with the 2018 Subordinated Notes.
The 2018 Subordinated Notes require Carbon
California, as of January 1 and July 1 of each year, to hedge its anticipated production at such time for year one, two and three
at a rate of 67.5%, 58.5% and 45.0%, respectively.
Prepayment of the 2018 Subordinated Notes
is allowed at 100%, subject to a 3.0% fee of outstanding principal. Prepayment is not subject to a prepayment fee after February
17, 2020. Distributions to equity members are generally restricted.
Restrictions and Covenants
The Senior Revolving Notes, Subordinated
Notes and 2018 Subordinated Notes contain affirmative and negative covenants that, among other things, limit Carbon California’s
ability to (i) incur additional debt; (ii) incur additional liens; (iii) sell, transfer or dispose of assets; (iv) merge or consolidate,
wind-up, dissolve or liquidate; (v) make dividends and distributions on, or repurchases of, equity; (vi) make certain investments;
(vii) enter into certain transactions with our affiliates; (viii) enter into sales-leaseback transactions; (ix) make optional
or voluntary payments of debt; (x) change the nature of our business; (xi) change our fiscal year to make changes to the accounting
treatment or reporting practices; (xii) amend constituent documents; and (xiii) enter into certain hedging transactions.
In December 2019, Carbon California amended
the Senior Revolving Notes, the Subordinated Notes and the 2018 Subordinated Notes to amend the total leverage ratio and senior
leverage ratio, effective September 30, 2019. The Senior Revolving Notes were also amended to provide a mechanism to determine
a successor reference rate to LIBOR.
The affirmative and negative covenants
are subject to various exceptions, including basket amounts and acceptable transaction levels. In addition, (i) the Senior Revolving
Notes require at December 31, 2019 Carbon California’s compliance with (A) a maximum Debt/EBITDA ratio of 4.5 to 1.0 (B)
a maximum Senior Revolving Notes/EBITDA ratio of 3.5 to 1.0 and (C) a minimum interest coverage ratio of 2.0 to 1 and (ii) the
Subordinated Notes require at December 31, 2019 Carbon California’s compliance with (A) a maximum Debt/EBITDA ratio of 5.18
to 1.0, (B) a maximum Senior Revolving Notes/EBITDA ratio of 4.03 to 1.0, (C) a minimum interest coverage ratio of 1.6 to 1.0,
(D) an asset coverage test whereby indebtedness may not exceed the product of 0.65 times Adjusted PV-10 of proved developed reserves
set forth in the most recent reserve report, (E) maintenance of a minimum borrowing base of $30.0 million under the Senior Revolving
Notes and (F) a minimum current ratio of 0.85 to 1.00.
As of March 31, 2020, Carbon California
was not in compliance with its Senior Revolving Notes/EBITDA ratio. We are currently negotiating an amendment to the covenant
requirements with Prudential and are confident we will be successful in amending the covenants. While we have historically been
successful in renegotiating covenant requirements with our lenders, there can be no assurance that we will be able to do so successfully
in the future.
NOTE 7 – REVENUE
The following tables present our disaggregated
revenue by primary region within the United States and major product line for the three months ended March 31, 2020 and 2019 (in
thousands):
|
|
Appalachian and Illinois Basins
|
|
|
Ventura Basin
|
|
|
Total
|
|
|
|
Three Months Ended
March 31,
|
|
|
Three Months Ended
March 31,
|
|
|
Three Months Ended
March 31,
|
|
|
|
2020
|
|
|
2019
|
|
|
2020
|
|
|
2019
|
|
|
2020
|
|
|
2019
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Natural gas sales
|
|
$
|
8,019
|
|
|
$
|
18,792
|
|
|
$
|
415
|
|
|
$
|
524
|
|
|
$
|
8,434
|
|
|
$
|
19,316
|
|
Natural gas liquids sales
|
|
|
-
|
|
|
|
-
|
|
|
|
152
|
|
|
|
247
|
|
|
|
152
|
|
|
|
247
|
|
Oil sales
|
|
|
1,147
|
|
|
|
1,537
|
|
|
|
6,069
|
|
|
|
7,452
|
|
|
|
7,216
|
|
|
|
8,989
|
|
Transportation and handling
|
|
|
633
|
|
|
|
734
|
|
|
|
-
|
|
|
|
-
|
|
|
|
633
|
|
|
|
734
|
|
Marketing gas sales
|
|
|
6,318
|
|
|
|
4,944
|
|
|
|
-
|
|
|
|
-
|
|
|
|
6,318
|
|
|
|
4,944
|
|
Total
|
|
$
|
16,117
|
|
|
$
|
26,007
|
|
|
$
|
6,636
|
|
|
$
|
8,223
|
|
|
$
|
22,753
|
|
|
$
|
34,230
|
|
We record revenue in the month production
is delivered to the purchaser, but settlement statements may not be received until 30 to 90 days after the month of production.
As such, we estimate the production delivered and the related pricing. The estimated revenue is recorded within Accounts receivable
– Revenue on the consolidated balance sheets. Any differences between our initial estimates and actuals are recorded in
the month payment is received from the customer. These differences have not historically been material.
NOTE 8 – STOCK-BASED COMPENSATION
PLANS
We have three stock plans, the Carbon
2011 Stock Incentive Plan, the Carbon 2015 Stock Incentive Plan and the Carbon 2019 Long Term Incentive Plan (collectively the
“Carbon Plans”). The Carbon 2019 Long Term Incentive Plan was approved by the Company’s stockholders
in May 2019. The Carbon Plans provide for the issuance of approximately 1.6 million shares of common stock to our officers, directors,
employees or consultants eligible to receive the awards under the Carbon Plans.
The Carbon Plans provide for the granting
of incentive stock options, non-qualified stock options, restricted stock awards, performance awards and phantom stock awards,
or a combination of the foregoing, to employees, officers, directors or consultants, provided that only employees may be granted
incentive stock options and directors may only be granted restricted stock awards and phantom stock awards.
Restricted Stock
As of March 31, 2020, approximately 748,000
shares of restricted stock have been granted under the terms of the Carbon Plans. Restricted stock awards for employees vest ratably
over a three-year service period or cliff vest at the end of a three-year service period. For non-employee directors, the awards
vest upon the earlier of a change in control of us or the date their membership on the Board of Directors is terminated other
than for cause as defined in the agreement. During the three months ended March 31, 2020, approximately 20,000 restricted stock
units vested.
Compensation costs recognized for restricted
stock grants were approximately $204,000 and $179,000 for the three months ended March 31, 2020 and 2019, respectively. As of March
31, 2020, there was approximately $1.3 million unrecognized compensation costs related to these restricted stock grants which we
expect to be recognized over the next 6.0 years.
Restricted Performance Units
As of March 31, 2020, approximately 699,000
shares of performance units have been granted under the terms of the Carbon Plans. Performance units represent a contractual right
to receive one share of our common stock subject to the terms and conditions of the agreements, including the achievement of certain
performance measures relative to a defined peer group or the growth of certain performance measures over a defined period of time
as well as, in some cases, continued service requirements. During the three months ended March 31, 2020, approximately 83,000 performance
units vested.
We account for the performance units granted
during 2018 and 2019 at their fair value determined at the date of grant, which were $9.80 and $10.00 per share, respectively.
The final measurement of compensation cost will be based on the number of performance units that ultimately vest. At March 31,
2020, we estimated that none of the performance units granted in 2019 and 2018 would vest, and, accordingly, no compensation cost
has been recorded for these performance units. As of March 31, 2020, if a change in control and other performance provisions pursuant
to the terms and conditions of these award agreements as defined in the agreement were met in full, the estimated unrecognized
compensation cost related to unvested performance units would be approximately $3.2 million.
NOTE 9 – EARNINGS (LOSS) PER
COMMON SHARE
Basic earnings (loss) per common share
is computed by dividing the net income (loss) attributable to common stockholders for the period by the basic weighted average
number of common shares outstanding during the period. Diluted earnings (loss) per common share includes potentially issuable
shares consisting primarily of non-vested restricted stock and contingent restricted performance units, using the treasury stock
method. In periods when we report a net loss, all common stock equivalents are excluded from the calculation of diluted weighted
average shares outstanding because they would have an anti-dilutive effect, meaning the loss per share would be reduced.
For the three months ended March 31, 2019,
approximately 269,000 shares of restricted stock, respectively, were considered anti-dilutive and were excluded from the computation
of diluted earnings per share. For the three months ended March 31, 2020 and 2019, approximately 193,000 and 200,000 shares of
restricted performance units, respectively, subject to future contingencies were excluded from the computation of basic and diluted
earnings per share.
The following table sets forth the calculation
of basic and diluted income (loss) per share:
|
|
Three Months Ended
March 31,
|
|
(in thousands, except per share amounts)
|
|
2020
|
|
|
2019
|
|
Net income (loss) attributable to common stockholders, basic and diluted
|
|
|
9,724
|
|
|
|
(4,175
|
)
|
|
|
|
|
|
|
|
|
|
Weighted-average number of common shares outstanding, basic
|
|
|
7,809
|
|
|
|
7,663
|
|
|
|
|
|
|
|
|
|
|
Add dilutive effects of non-vested shares of restricted
stock and restricted performance units
|
|
|
281
|
|
|
|
-
|
|
|
|
|
|
|
|
|
|
|
Weighted-average number of common
shares outstanding, diluted
|
|
|
8,090
|
|
|
|
7,663
|
|
|
|
|
|
|
|
|
|
|
Net income (loss) per common share, basic
|
|
$
|
1.25
|
|
|
$
|
(0.54
|
)
|
Net income (loss) per common share, diluted
|
|
$
|
1.20
|
|
|
$
|
(0.54
|
)
|
Series B Convertible Preferred Stock
- Related Party
In May 2018, we raised $5.0 million through
the issuance of 50,000 shares of Series B Convertible Preferred Stock, par value $0.01 per share (“Preferred Stock”)
to Yorktown. The Preferred Stock converts into common stock at the election of the holder or will automatically convert into shares
of our common stock upon completion of a qualifying equity financing event. The number of shares of common stock issuable upon
conversion is dependent upon the price per share of common stock issued in connection with any such qualifying equity financing
but has a floor conversion price equal to $8.00 per share. The conversion ratio at which the Preferred Stock will convert into
common stock is equal to an amount per share of $100 plus all accrued but unpaid dividends payable in respect thereof divided
by the greater of (i) $8.00 per share or (ii) the price that is 15.0% less than the lowest price per share of shares sold to the
public in the next equity financing. Using the floor of $8.00 per share would yield 12.5 shares of common stock for every unit
of Preferred Stock. The conversion price will be proportionately increased or decreased to reflect changes to the outstanding
shares of common stock, such as the result of a combination, reclassification, subdivision, stock split, stock dividend or other
similar transaction involving the common stock. Additionally, after the third anniversary of the issuance of the Preferred Stock,
we have the option to redeem the shares for cash.
The Preferred Stock accrues cash dividends
at a rate of 6.0% of the initial issue price of $100 per share per annum. The holders of the Preferred Stock are entitled to the
same number of votes of common stock that such share of Preferred Stock would represent on an as converted basis. The holders
of the Preferred Stock receive liquidation preference based on the initial issue price of $100 per share plus a preferred return
over common stockholders and the holders of any junior ranking stock. The preferred return was approximately $599,000 as of March
31, 2020 and increased by $75,000 during the three months ended March 31, 2020.
NOTE 10 – INCOME TAXES
We recognize deferred income tax assets
and liabilities for the estimated future tax consequences attributable to temporary differences between the financial statement
carrying amounts of existing assets and liabilities and their respective tax bases. We have net operating loss carryforwards available
in certain jurisdictions to reduce future taxable income. Future tax benefits from net operating loss carryforwards are recognized
to the extent that realization of these benefits is considered more likely than not. To the extent that available evidence raises
doubt about the realization of a deferred income tax asset, a valuation allowance is established.
At March 31, 2020, the Company has established
a full valuation allowance against the balance of net deferred tax assets.
NOTE 11 – FAIR VALUE MEASUREMENTS
The following table presents our financial
assets and liabilities that were accounted for at fair value on a recurring basis by level:
(in thousands)
|
|
Fair Value Measurements Using
|
|
|
|
Level 1
|
|
|
Level 2
|
|
|
Level 3
|
|
|
Total
|
|
March 31, 2020
|
|
|
|
|
|
|
|
|
|
|
|
|
Assets:
|
|
|
|
|
|
|
|
|
|
|
|
|
Commodity derivatives
|
|
$
|
-
|
|
|
$
|
23,185
|
|
|
$
|
-
|
|
|
$
|
23,185
|
|
Liabilities:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Commodity derivatives
|
|
$
|
-
|
|
|
$
|
25
|
|
|
$
|
-
|
|
|
$
|
25
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
December 31, 2019
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Assets:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Commodity derivatives
|
|
$
|
-
|
|
|
$
|
7,079
|
|
|
$
|
-
|
|
|
$
|
7,079
|
|
Liabilities:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Commodity derivatives
|
|
$
|
-
|
|
|
$
|
556
|
|
|
$
|
-
|
|
|
$
|
556
|
|
Commodity Derivative
As of March 31, 2020, our commodity derivative
financial instruments are comprised of natural gas and oil swaps and costless collars. The fair values of these agreements are
determined under an income valuation technique. The valuation model requires a variety of inputs, including contractual terms,
published forward prices, volatilities for options and discount rates, as appropriate. Our estimates of fair value of derivatives
include consideration of the counterparty’s credit worthiness, our credit worthiness and the time value of money. The consideration
of these factors results in an estimated exit-price for each derivative asset or liability under a marketplace participant’s
view. All significant inputs are observable, either directly or indirectly; therefore, our derivative instruments are included
within the Level 2 fair value hierarchy.
Assets and Liabilities Measured
and Recorded at Fair Value on a Non-Recurring Basis
Certain assets and liabilities are measured
at fair value on a non-recurring basis. These assets and liabilities are not measured at fair value on an ongoing basis; however,
they are subject to fair value adjustments in certain circumstances. The fair value of the following assets and liabilities are
based on unobservable pricing inputs and therefore, are included within the Level 3 fair value hierarchy.
Firm transportation contracts.
We assume, at times, certain firm transportation contracts as part of our acquisitions of oil and natural gas properties. The
fair value of the firm transportation contract obligations was determined based upon the contractual obligations assumed by us
and discounted based upon our effective borrowing rate.
Debt Discount. The fair value of
the debt discount from the 1,425 and 585 additional Class A Units issued in connection with the Subordinated Notes and 2018 Subordinated
Notes was $1.3 million and $490,000, respectively. The debt discount was based on the relative fair value of Class A Units. Class
A Units were issued contemporaneously at $1,000 per Class A Unit.
Asset Retirement Obligations. The
fair value of our asset retirement obligation liability is recorded in the period in which it is incurred or assumed by taking
into account the cost of abandoning oil and gas wells ranging from $20,000 to $45,000, which is based on our historical experience
and industry expectations for similar work; the estimated timing of reclamation ranging from one to 75 years based on estimates
from reserve engineers; an inflation rate between 1.52% to 2.79%; and a credit adjusted risk-free rate between 3.28% to 8.27%,
which takes into account our credit risk and the time value of money.
NOTE 12 – COMMODITY DERIVATIVES
We historically use commodity-based derivative
contracts to manage exposures to commodity price on a portion of our oil and natural gas production. We do not hold or issue derivative
financial instruments for speculative or trading purposes. We also have entered into, on occasion, oil and natural gas physical
delivery contracts to effectively provide commodity price hedges. Because these contracts are not expected to be net cash settled,
they are considered to be normal sales contracts and not derivatives. These contracts are not recorded at fair value in the unaudited
condensed consolidated financial statements.
We have entered into swap and costless
collar derivative agreements to hedge a portion of our oil and natural gas production through December 2022. As of March 31, 2020,
these derivative agreements consisted of the following:
|
|
Natural
Gas Swaps
|
|
|
Natural
Gas Collars
|
|
|
|
|
|
|
Weighted
Average
|
|
|
|
|
|
Weighted
Average Price
|
|
Year
|
|
MMBtu
|
|
|
Price
(a)
|
|
|
MMBtu
|
|
|
Range
(a)
|
|
2020
|
|
|
9,262,000
|
|
|
$
|
2.70
|
|
|
|
2,541,000
|
|
|
$
|
2.10 –
$2.75
|
|
2021
|
|
|
6,448,000
|
|
|
$
|
2.58
|
|
|
|
6,395,000
|
|
|
$
|
2.00 – $2.75
|
|
|
|
Oil
Swaps*
|
|
|
Oil
Collars*
|
|
Year
|
|
WTI
Bbl
|
|
|
Weighted
Average Price (b)
|
|
|
Brent
Bbl
|
|
|
Weighted
Average Price (c)
|
|
|
WTI
Bbl
|
|
|
Weighted
Average Price (b)
|
|
|
Brent
Bbl
|
|
|
Weighted
Average Price (c)
|
|
2020
|
|
|
98,844
|
|
|
$
|
55.37
|
|
|
|
172,403
|
|
|
$
|
64.58
|
|
|
|
20,600
|
|
|
$
|
47.00 - $60.15
|
|
|
|
46,700
|
|
|
$
|
47.00
- $75.00
|
|
2021
|
|
|
-
|
|
|
$
|
-
|
|
|
|
86,341
|
|
|
$
|
67.12
|
|
|
|
66,200
|
|
|
$
|
47.00 - $60.15
|
|
|
|
190,000
|
|
|
$
|
47.00 - $75.00
|
|
2022
|
|
|
-
|
|
|
$
|
-
|
|
|
|
-
|
|
|
$
|
-
|
|
|
|
-
|
|
|
$
|
-
|
|
|
|
199,900
|
|
|
$
|
50.00 - $61.00
|
|
*
|
Includes 100% of
Carbon California’s outstanding derivative hedges at March 31, 2020, and not our proportionate share.
|
(a)
|
NYMEX Henry Hub
Natural Gas futures contracts for the respective period.
|
(b)
|
NYMEX Light Sweet
Crude West Texas Intermediate futures contracts for the respective period.
|
(c)
|
Brent future contracts
for the respective period.
|
For our swap instruments, we receive a
fixed price for the hedged commodity and pay a floating price to the counterparty. The fixed-price payment and the floating-price
payment are netted, resulting in a net amount due to or from the counterparty. Costless collars are designed to establish floor
and ceiling prices on anticipated future oil and gas production. The ceiling establishes a maximum price that the Company will
receive for the volumes under contract, while the floor establishes a minimum price.
The following table summarizes the fair
value of the derivatives recorded in the unaudited condensed consolidated balance sheets. These derivative instruments are not
designated as cash flow hedging instruments for accounting purposes:
(in thousands)
|
|
March 31, 2020
|
|
|
December 31,
2019
|
|
Commodity derivative contracts:
|
|
|
|
|
|
|
Commodity derivative asset
|
|
$
|
18,078
|
|
|
$
|
5,915
|
|
Commodity derivative asset – non-current
|
|
$
|
5,107
|
|
|
$
|
1,164
|
|
Commodity derivative liability
|
|
$
|
-
|
|
|
$
|
469
|
|
Commodity derivative liability – non-current
|
|
$
|
25
|
|
|
$
|
87
|
|
The table below summarizes the commodity
settlements and unrealized gains and losses related to the Company’s derivative instruments for the three months ended March
31, 2020 and 2019. Changes in the fair value of commodity derivative contracts are recognized in revenues in the unaudited condensed
consolidated statements of operations and gains and losses are included within the cash flows from operating activities in the
unaudited condensed consolidated statements of cash flows.
|
|
Three Months Ended
March 31,
|
|
(in thousands)
|
|
2020
|
|
|
2019
|
|
|
|
|
|
|
|
|
Commodity derivative contracts:
|
|
|
|
|
|
|
Settlement gain (loss)
|
|
$
|
3,078
|
|
|
$
|
(456
|
)
|
Unrealized gain (loss)
|
|
|
16,636
|
|
|
|
(8,850
|
)
|
|
|
|
|
|
|
|
|
|
Total commodity derivative gain (loss)
|
|
$
|
19,714
|
|
|
$
|
(9,306
|
)
|
Commodity derivative settlement gains
and losses are included within the cash flows from operating activities in the unaudited condensed consolidated statements of
cash flows.
We net our derivative instrument fair
value amounts pursuant to ISDA Master Agreements, which provide for the net settlement over the term of the contracts and in the
event of default or termination of the contracts. The following table summarizes the effect of netting arrangements for recognized
derivative assets and liabilities that are subject to master netting arrangements or similar arrangements in the unaudited condensed
consolidated balance sheet as of March 31, 2020:
|
|
|
|
|
|
|
|
Net
|
|
|
|
Gross
|
|
|
|
|
|
Recognized
|
|
|
|
Recognized
|
|
|
Gross
|
|
|
Fair Value
|
|
|
|
Assets/
|
|
|
Amounts
|
|
|
Assets/
|
|
Balance Sheet Classification (in thousands)
|
|
Liabilities
|
|
|
Offset
|
|
|
Liabilities
|
|
|
|
|
|
|
|
|
|
|
|
Commodity derivative assets:
|
|
|
|
|
|
|
|
|
|
Commodity derivative asset
|
|
$
|
18,441
|
|
|
$
|
(363
|
)
|
|
$
|
18,078
|
|
Commodity derivative asset – non-current
|
|
|
7,144
|
|
|
|
(2,037
|
)
|
|
|
5,107
|
|
Total derivative assets
|
|
$
|
25,585
|
|
|
$
|
(2,400
|
)
|
|
$
|
23,185
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Commodity derivative liabilities:
|
|
|
|
|
|
|
|
|
|
|
|
|
Commodity derivative liability
|
|
$
|
(363
|
)
|
|
$
|
363
|
|
|
$
|
-
|
|
Commodity derivative liability – non-current
|
|
|
(2,062
|
)
|
|
|
2,037
|
|
|
|
(25
|
)
|
Total derivative liabilities
|
|
$
|
(2,425
|
)
|
|
$
|
24,00
|
|
|
$
|
(25
|
)
|
Due to the volatility of oil and natural
gas prices, the estimated fair value of our derivatives is subject to fluctuations from period to period.
NOTE 13 – COMMITMENTS AND CONTINGENCIES
Delivery Commitments
We have entered into firm transportation
contracts to ensure the transport for certain of our gas production to purchasers. Firm transportation volumes and the related
demand charges for the remaining term of these contracts as of March 31, 2020 are summarized in the table below.
Period
|
|
Dekatherms
per day
|
|
|
Demand
Charges
|
|
Apr 2020 – May 2020
|
|
|
57,791
|
|
|
$
|
0.20 - 0.56
|
|
Jun 2020 – Oct 2020
|
|
|
56,641
|
|
|
$
|
0.20 - 0.56
|
|
Nov 2020 – Aug 2022
|
|
|
50,341
|
|
|
$
|
0.20 - 0.56
|
|
Sep 2022 – May 2027
|
|
|
30,990
|
|
|
$
|
0.20 - 0.21
|
|
Jun 2027 – May 2036
|
|
|
1,000
|
|
|
$
|
0.20
|
|
As of March 31, 2020, the remaining commitment
related to the firm transportation contracts assumed in the EXCO Acquisition in October 2016 and the OIE Membership Acquisition
in December 2018 is $13.6 million and reflected in the Company’s unaudited condensed consolidated balance sheet. These contractual
obligations are reduced monthly as the Company pays these firm transportation obligations.
Natural gas processing agreement
We have entered into an initial five-year
gas processing agreement expiring in 2022. We have an option to extend the term of the agreement by another five years. The related
demand charges for volume commitments over the remaining term of the agreement are approximately $1.8 million per year. We will
pay a processing fee of $2.50 per Mcf for the term of the agreement, with a minimum annual volume commitment of 720,000 Mcf.
Capital Commitments
As of March 31, 2020, we had no capital
commitments.
Litigation
The Company is subject to litigation and
claims arising in the ordinary course of business. The Company accrues for such items when a liability is both probable and the
amount can be reasonably estimated. In the opinion of management, the anticipated results of any pending litigation and claims
are not expected to have a material effect on the results of operations, the financial position, or the cash flows of the Company.
NOTE 14 – SUPPLEMENTAL CASH FLOW DISCLOSURE
Supplemental cash flow disclosures for
the three months ended March 31, 2020 and 2019 are presented below:
|
|
Three Months Ended
March 31,
|
|
(in thousands)
|
|
2020
|
|
|
2019
|
|
|
|
|
|
|
|
|
Cash paid for interest
|
|
$
|
1,794
|
|
|
$
|
1,875
|
|
Non-cash transactions:
|
|
|
|
|
|
|
|
|
Capital expenditures included in accounts payable and accrued liabilities
|
|
$
|
(564
|
)
|
|
$
|
(82
|
)
|
Increase in asset retirement obligations
|
|
$
|
7
|
|
|
$
|
-
|
|
NOTE 15 – SUBSEQUENT EVENTS
Contemplated Transactions
On April 7, 2020, Carbon Energy
Corporation, together with Nytis USA (the “Sellers”), and certain of the Company’s other
direct and indirect wholly owned subsidiaries, entered into a Membership Interest Purchase Agreement
(“MIPA”) to sell all of the issued and outstanding membership interests of Carbon Appalachia and
Nytis LLC to Diversified Gas & Oil Corporation for $110.0 million, subject to customary purchase price adjustments, and a
contingent payment of up to $15.0 million (“Contemplated Transactions”). The assets contained in
the Contemplated Transactions comprise all of the Company’s assets in the Appalachian and Illinois basin. If the
Sellers terminate the MIPA under certain circumstances, the Sellers may be required to pay a termination fee of $3.8 million.
The transaction is expected to close during the second quarter of 2020.
Upon closing of the Contemplated Transactions,
the Company’s remaining assets will be located solely in the Ventura Basin of California. Proceeds from the Contemplated
Transactions will be used to settle all outstanding amounts associated with the 2018 Credit Facility and a portion of the Old Ironsides
Notes.
COVID-19
Like other oil and gas companies, our
business is being adversely affected by the COVID-19 pandemic and measures being taken to mitigate its impact. The pandemic
has resulted in widespread adverse impacts on the global economy and on our employees, customers, suppliers and other parties
with whom we have business relations. As the coronavirus pandemic and government responses are rapidly evolving, the extent of
the impact on domestic exploration and production companies remains unknown. Further, the impact of the pandemic, including the
resulting significant reduction in global demand for oil and gas, coupled with the sharp decline in oil prices following the announcement
of price reductions and production increases in March 2020 by members of the Organization of the Petroleum Exporting Countries
(“OPEC”) and other foreign, oil-exporting countries is expected to lead to significant global economic
contraction generally and in our industry in particular. We anticipate that our business, financial condition and results of operations
may be materially and adversely impacted as a result of these developments.
We cannot predict the full impact that
COVID-19 or the significant disruption and volatility currently being experienced in the oil and natural gas markets will
have on our business, cash flows, liquidity, financial condition and results of operations at this time, due to numerous uncertainties.
The ultimate impacts will depend on future developments, including, among others, the ultimate geographic spread of the virus,
the consequences of governmental and other measures designed to prevent the spread of the virus, the development of effective
treatments, the duration of the outbreak, actions taken by governmental authorities, customers, suppliers and other third parties,
workforce availability, and the timing and extent to which normal economic and operating conditions resume.
Oil Pricing Environment
In the midst of the ongoing COVID-19 pandemic,
oil prices declined significantly due to potential increases in supply emanating from the disagreement on production cuts among
members of OPEC and certain non-OPEC, oil-producing countries. The resulting supply and demand imbalance is having disruptive
impacts on the oil and natural gas exploration and production industry and on other industries that serve exploration and production
companies. These industry conditions, coupled with those resulting from the COVID-19 pandemic, could lead to significant global
economic contraction generally and in our industry in particular. Although OPEC agreed in April to cut production, the responses
of oil and gas producers to the lower demand for, and price of, oil, natural gas and NGLs are constantly evolving and remain uncertain.
In addition, the dramatic decrease in oil and gas prices could have substantial negative implications for our revenue sources
that are related to or underpinned by commodity prices. As a result, these factors could have a material adverse effect on our
business, future results of operations, financial position or cash flows.