Note 1. Organization and Nature of Operations
Nature of Operations
Mid-Con Energy Partners, LP ("we," "our," "us," the "Partnership," or the "Company") is a publicly held Delaware limited partnership formed in July 2011 that engages in the ownership, acquisition, exploitation and development of producing oil and natural gas properties in North America, with a focus on enhanced oil recovery ("EOR"). Our common units representing limited partner interests in us ("common units") are listed on the National Association of Securities Dealers Automated Quotation System Global Select Market ("NASDAQ") under the symbol "MCEP." Our general partner is Mid-Con Energy GP, LLC, a Delaware limited liability company.
Basis of Presentation
Our unaudited condensed consolidated financial statements are prepared pursuant to the rules and regulations of the SEC. These financial statements have not been audited by our independent registered public accounting firm, except that the condensed consolidated balance sheet at
December 31, 2016
, is derived from the audited financial statements. Accordingly, certain information and footnote disclosures normally included in the financial statements prepared in accordance with accounting principles generally accepted in the United States of America ("GAAP") have been condensed or omitted in this Form 10-Q. We believe that the presentations and disclosures made are adequate to make the information not misleading.
The unaudited condensed consolidated financial statements include all adjustments (consisting of normal recurring adjustments) necessary for a fair presentation of the interim periods. The results of operations for the interim periods are not necessarily indicative of the results of operations to be expected for the full year. These interim financial statements should be read in conjunction with our Annual Report on Form 10-K for the year ended
December 31, 2016
.
All intercompany transactions and account balances have been eliminated.
Reclassifications
Certain amounts in the financial statements for the prior years have been reclassified to conform to the 2017 presentation. These reclassifications have no impact on previously reported total assets, total liabilities, net income (loss) or total operating cash flows.
Non-cash Investing, Financing and Supplemental Cash Flow Information
The following presents the non-cash investing, financing and supplemental cash flow information for the periods presented:
|
|
|
|
|
|
|
|
|
|
Three Months Ended
March 31,
|
|
2017
|
|
2016
|
|
(in thousands)
|
Non-cash investing and financing information:
|
|
|
|
Change in oil and natural gas properties - accrued capital expenditures
|
$
|
89
|
|
|
$
|
127
|
|
Supplemental cash flow information:
|
|
|
|
Cash paid for interest
|
$
|
1,118
|
|
|
$
|
1,936
|
|
Note 2. Acquisitions and Divestitures
Permian Bolt-On Acquisition
In August 2016, we acquired multiple oil and natural gas properties located in Nolan County, Texas (the "Permian Bolt-On") for cash consideration of approximately
$18.7 million
, after post-closing purchase price adjustments. The Permian Bolt-On acquisition was accounted for under the acquisition method of accounting. The assets acquired and liabilities assumed in the acquisition were recorded in our consolidated balance sheets at their estimated fair values as of the acquisition date using assumptions that represent Level 3 fair value measurement inputs. See Note 5 in this section for additional discussion of our fair value measurements. The transaction was funded by a private offering of
$25.0 million
Class A Convertible Preferred Units
("Preferred Units"). See Note 9 in this section for additional information regarding the issuance of Preferred Units. The recognized fair values of the assets acquired and liabilities assumed are as follows (in thousands):
|
|
|
|
|
|
Fair value of net assets acquired:
|
|
|
Oil and natural gas properties
|
|
$
|
19,323
|
|
Total assets acquired
|
|
19,323
|
|
Fair value of net liabilities assumed:
|
|
|
Asset retirement obligation
|
|
622
|
|
Net assets acquired
|
|
$
|
18,701
|
|
Hugoton Core Area Divestiture
In July 2016, we sold the properties located in our Hugoton core area for cash proceeds of approximately
$17.6 million
, including post-closing purchase price adjustments and recognized a loss of approximately
$0.6 million
. Additionally, we recorded impairment of proved oil and natural gas properties of approximately
$3.6 million
when these properties were originally reported as held for sale. For the three months ended March 31, 2016, our unaudited condensed consolidated statements of operations included revenues of approximately
$1.2 million
and expenses of approximately
$1.8 million
related to the oil and natural gas properties sold. Effective at closing, the operations and cash flows of these properties were eliminated from the ongoing operations of the Partnership and the Partnership has no continuing involvement in these properties. This divestiture did not represent a strategic shift and will not have a major effect on the Partnership's operations or financial results.
Note 3. Equity Awards
We have a long-term incentive program (the "Long-Term Incentive Program") for employees, officers, consultants and directors of our general partner and its affiliates, including Mid-Con Energy Operating, LLC ("Mid-Con Energy Operating") and ME3 Oilfield Service, LLC ("ME3 Oilfield Service"), who perform services for us. The Long-Term Incentive Program allows for the award of unit options, unit appreciation rights, unrestricted units, restricted units, phantom units, distribution equivalent rights granted with phantom units and other types of awards. The Long-Term Incentive Program is administered by Charles R. Olmstead, Executive Chairman of the Board, and Jeffrey R. Olmstead, Chief Executive Officer, and approved by the Board of Directors of the general partner ("the Board"). If an employee terminates employment prior to the restriction lapse date, the awarded units are forfeited and canceled and are no longer considered issued and outstanding.
On January 1, 2017, we adopted ASU 2016-09
Compensation - Stock Compensation
(Topic 718)
: Improvements to Employee Share-Based Payment Accounting
("ASU 2016-09") and elected to recognize forfeitures of equity awards as they occur. The cumulative effect of adopting ASU 2016-09 was determined to be immaterial and no adjustment to retained earnings was made.
The following table shows the number of existing awards and awards available under the Long-Term Incentive Program at
March 31, 2017
:
|
|
|
|
|
Number of Common Units
|
Approved and authorized awards
|
3,514,000
|
|
Unrestricted units granted
|
(1,212,706
|
)
|
Restricted units granted, net of forfeitures
|
(400,424
|
)
|
Equity-settled phantom units granted, net of forfeitures
|
(456,500
|
)
|
Awards available for future grant
|
1,444,370
|
|
We recognized approximately
$0.2 million
and
$0.4 million
of total equity-based compensation expense for the three months ended March 31, 2017, and 2016, respectively. These costs are reported as a component of general and administrative expenses ("G&A") in our unaudited condensed consolidated statements of operations.
Unrestricted unit awards
We account for unrestricted unit awards as equity awards since they are settled by issuing common units. During the three months ended March 31, 2017, we granted
25,400
unrestricted units with an average grant date fair value of
$2.65
per unit.
During the three months ended March 31, 2016, we granted
70,000
unrestricted units with an average grant date fair value of
$1.16
per unit.
Restricted unit awards
We account for restricted unit awards as equity awards since they will be settled by issuing common units. These units vest over a
two
- or
three
-year period. As of
March 31, 2017
, there were approximately
$0.1
million of unrecognized compensation costs related to non-vested restricted units. These costs are expected to be recognized over a weighted average period of approximately
six months
.
A summary of our restricted unit awards for the three months ended
March 31, 2017
, is presented below:
|
|
|
|
|
|
|
|
|
Number of Restricted Units
|
|
Average Grant Date Fair Value per Unit
|
Outstanding at December 31, 2016
|
76,922
|
|
|
$
|
5.67
|
|
Units granted
|
—
|
|
|
—
|
|
Units vested
|
(66,030
|
)
|
|
4.96
|
|
Units forfeited
|
—
|
|
|
—
|
|
Outstanding at March 31, 2017
|
10,892
|
|
|
$
|
9.99
|
|
|
|
|
|
Equity-settled phantom unit awards
We account for equity-settled phantom unit awards as equity awards since they will be settled by issuing common units. These units vest over a
two
- or
three
-year period and do not have any rights or privileges of a common unitholder, including right to distributions, until vesting and the resulting conversion into common units. During the three months ended March 31, 2017, we granted
9,000
equity-settled phantom units with a
three
-year vesting period. During the three months ended March 31, 2016, we granted
24,500
equity-settled phantom units with
one-third
vesting immediately and the other
two-thirds
vesting over two years. As of
March 31, 2017
, there were approximately
$0.3
million of unrecognized compensation costs related to non-vested equity-settled phantom units. These costs are expected to be recognized over a weighted average period of approximately
one year, five months
.
A summary of our equity-settled phantom unit awards for the three months ended
March 31, 2017
, is presented below:
|
|
|
|
|
|
|
|
|
Number of Equity-Settled Phantom Units
|
|
Average Grant Date Fair Value per Unit
|
Outstanding at December 31, 2016
|
287,659
|
|
|
$
|
1.64
|
|
Units granted
|
9,000
|
|
|
2.65
|
|
Units vested
|
(7,166
|
)
|
|
1.16
|
|
Units forfeited
|
(10,000
|
)
|
|
2.94
|
|
Outstanding at March 31, 2017
|
279,493
|
|
|
$
|
1.64
|
|
Note 4. Derivative Financial Instruments
Our risk management program is intended to reduce our exposure to commodity price volatility and to assist with stabilizing cash flows. Accordingly, we utilize commodity derivative contracts (swaps, calls, puts and collars) to manage a portion of our exposure to commodity prices and specific delivery points. We enter into commodity derivative contracts or modify our portfolio of existing commodity derivative contracts when we believe market conditions or other circumstances suggest that it is prudent to do so, or as required by our lenders. These contracts are presented as derivative financial instruments on our unaudited condensed consolidated financial statements. We account for our commodity derivative contracts at fair value. See Note 5 in this section for a description of our fair value measurements.
We do not designate derivatives as hedges for accounting purposes; therefore, the mark-to-market adjustment reflecting the change in the fair value of our commodity derivative contracts is recorded in current period earnings. When prices for oil are volatile, a significant portion of the effect of our hedging activities consists of non-cash gains or losses due to changes in
the fair value of our commodity derivative contracts. In addition to mark-to-market adjustments, gains or losses arise from net payments made or received on monthly settlements, proceeds from or payments for termination of contracts prior to their expiration and premiums paid or received for new contracts. Any deferred premiums are recorded as a liability and recognized in earnings as the related contracts mature. Gains and losses on derivatives are included in cash flows from operating activities. Pursuant to the accounting standard that permits netting of assets and liabilities where the right of offset exists, we present the fair value of commodity derivative contracts on a net basis.
At March 31, 2017, and December 31, 2016, our commodity derivative contracts were in a net liability position with a fair value of approximately
$3.2 million
and
$7.8 million
, respectively. All of our commodity derivative contracts are with major financial institutions that are also lenders under our revolving credit facility. Should one of these financial counterparties not perform, we may not realize the benefit of some of our commodity derivative contracts under lower commodity prices and we could incur a loss. As of March 31, 2017, all of our counterparties have performed pursuant to their commodity derivative contracts.
The following tables summarize the gross fair value by the appropriate balance sheet classification, even when the derivative financial instruments are subject to netting arrangements and qualify for net presentation in our unaudited condensed consolidated balance sheets at
March 31, 2017
, and December 31, 2016:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Gross
Amounts
Recognized
|
|
Gross Amounts
Offset in the
Unaudited
Condensed
Consolidated
Balance Sheets
|
|
Net Amounts
Presented in the
Unaudited
Condensed
Consolidated
Balance Sheets
|
|
(in thousands)
|
March 31, 2017:
|
|
|
|
|
|
Assets
|
|
|
|
|
|
Derivative financial instruments - current asset
|
$
|
1,595
|
|
|
$
|
(1,582
|
)
|
|
$
|
13
|
|
Derivative financial instruments - long-term asset
|
863
|
|
|
(835
|
)
|
|
28
|
|
Total
|
2,458
|
|
|
(2,417
|
)
|
|
41
|
|
|
|
|
|
|
|
Liabilities
|
|
|
|
|
|
Derivative financial instruments - current liability
|
(782
|
)
|
|
(2,192
|
)
|
|
(2,974
|
)
|
Derivative deferred premium - current liability
|
(3,774
|
)
|
|
3,774
|
|
|
—
|
|
Derivative financial instruments - long-term liability
|
(748
|
)
|
|
434
|
|
|
(314
|
)
|
Derivative deferred premium - long-term liability
|
(401
|
)
|
|
401
|
|
|
—
|
|
Total
|
(5,705
|
)
|
|
2,417
|
|
|
(3,288
|
)
|
Net Liability
|
$
|
(3,247
|
)
|
|
$
|
—
|
|
|
$
|
(3,247
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Gross
Amounts
Recognized
|
|
Gross Amounts
Offset in the
Unaudited Condensed Consolidated
Balance Sheets
|
|
Net Amounts
Presented in the
Unaudited Condensed
Consolidated Balance Sheets
|
|
(in thousands)
|
December 31, 2016:
|
|
|
|
|
|
Assets
|
|
|
|
|
|
Derivative financial instruments - current asset
|
$
|
1,570
|
|
|
$
|
(1,570
|
)
|
|
$
|
—
|
|
Derivative financial instruments - long-term asset
|
406
|
|
|
(406
|
)
|
|
—
|
|
Total
|
1,976
|
|
|
(1,976
|
)
|
|
—
|
|
|
|
|
|
|
|
Liabilities
|
|
|
|
|
|
Derivative financial instruments - current liability
|
(1,836
|
)
|
|
(3,478
|
)
|
|
(5,314
|
)
|
Derivative deferred premium - current liability
|
(5,048
|
)
|
|
5,048
|
|
|
—
|
|
Derivative financial instruments - long-term liability
|
(2,500
|
)
|
|
5
|
|
|
(2,495
|
)
|
Derivative deferred premium - long-term liability
|
(401
|
)
|
|
401
|
|
|
—
|
|
Total
|
(9,785
|
)
|
|
1,976
|
|
|
(7,809
|
)
|
Net Liability
|
$
|
(7,809
|
)
|
|
$
|
—
|
|
|
$
|
(7,809
|
)
|
The following table presents the impact of derivative financial instruments and their location within the unaudited condensed consolidated statements of operations:
|
|
|
|
|
|
|
|
|
|
Three Months Ended
March 31,
|
|
2017
|
|
2016
|
|
(in thousands)
|
Net settlements on matured derivatives
(1)
|
$
|
(156
|
)
|
|
$
|
11,094
|
|
Net change in fair value of derivatives
|
3,288
|
|
|
(8,526
|
)
|
Total gain on derivatives, net
|
$
|
3,132
|
|
|
$
|
2,568
|
|
(1)
The settlement amount does not include premiums paid attributable to contracts that matured during the respective period.
At March 31, 2017, and December 31, 2016, our commodity derivative contracts had maturities at various dates through December 2019 and were comprised of commodity price call, put and collar contracts. At
March 31, 2017
, we had the following oil derivatives net positions:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Period Covered
|
Weighted Average Floor Price
|
|
Weighted Average Ceiling Price
|
|
Total Bbls
Hedged/day
|
|
NYMEX Index
|
Collars - 2017
|
$
|
45.00
|
|
|
$
|
51.24
|
|
|
655
|
|
|
WTI
|
Puts - 2017
|
$
|
50.00
|
|
|
$
|
—
|
|
|
1,909
|
|
|
WTI
|
Collars - 2018
|
$
|
44.38
|
|
|
$
|
55.52
|
|
|
1,315
|
|
|
WTI
|
Puts - 2018
|
$
|
45.00
|
|
|
$
|
—
|
|
|
164
|
|
|
WTI
|
Collars - 2019
|
$
|
50.00
|
|
|
$
|
60.52
|
|
|
427
|
|
|
WTI
|
At December 31, 2016, we had the following oil derivatives net positions:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Period Covered
|
Weighted Average Floor Price
|
|
Weighted Average Ceiling Price
|
|
Total Bbls
Hedged/day
|
|
NYMEX Index
|
Collars - 2017
|
$
|
43.75
|
|
|
$
|
50.68
|
|
|
658
|
|
|
WTI
|
Puts - 2017
|
$
|
50.00
|
|
|
$
|
—
|
|
|
1,932
|
|
|
WTI
|
Collars - 2018
|
$
|
44.38
|
|
|
$
|
55.52
|
|
|
1,315
|
|
|
WTI
|
Puts - 2018
|
$
|
45.00
|
|
|
$
|
—
|
|
|
164
|
|
|
WTI
|
Collars - 2019
|
$
|
50.00
|
|
|
$
|
60.52
|
|
|
427
|
|
|
WTI
|
Note 5. Fair Value Disclosures
Fair Value of Financial Instruments
The carrying amounts reported in our unaudited condensed consolidated balance sheets for cash, accounts receivable and accounts payable approximate their fair values. The carrying amount of debt under our revolving credit facility approximates fair value because the revolving credit facility’s variable interest rate resets frequently and approximates current market rates available to us. We account for our commodity derivative contracts at fair value as discussed in "Assets and Liabilities Measured at Fair Value on a Recurring Basis" below.
Fair Value Measurements
Fair value is the price that would be received upon the sale of an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement date. GAAP establishes a three-tier fair value hierarchy that is intended to increase consistency and comparability in fair value measurements and related disclosures. The hierarchy gives the highest priority to quoted prices in active markets for identical assets or liabilities (Level 1) and the lowest priority to unobservable inputs (Level 3). Assets and liabilities recorded in the balance sheet are categorized based on the inputs to the valuation technique as follows:
Level 1
—Financial assets and liabilities for which values are based on unadjusted quoted prices for identical assets or liabilities in an active market that management has the ability to access. We consider active markets to be those in which transactions for the assets or liabilities occur in sufficient frequency and volume to provide pricing information on an on-going basis.
Level 2
—Financial assets and liabilities for which values are based on quoted prices in markets that are not active or model inputs that are observable either directly or indirectly for substantially the full term of the asset or liability. Level 2 instruments primarily include swap, call, put and collar contracts.
Level 3
—Financial assets and liabilities for which values are based on prices or valuation approaches that require inputs that are both unobservable and significant to the overall fair value measurement. These inputs reflect management’s own assumptions about the assumptions a market participant would use in pricing the asset or liability.
When the inputs used to measure fair value fall within different levels of the hierarchy in a liquid environment, the level within which the fair value measurement is categorized is based on the lowest level input that is significant to the fair value measurement in its entirety. Changes in the observability of valuation inputs may result in a reclassification for certain financial assets or liabilities. We had no transfers in or out of Levels 1, 2 or 3 at March 31, 2017, and December 31, 2016.
Our estimates of fair value have been determined at discrete points in time based on relevant market data. These estimates involve uncertainty and cannot be determined with precision. There were no material changes in valuation approach or related inputs for the three months ended March 31, 2017, and for the year ended December 31, 2016.
Assets and Liabilities Measured at Fair Value on a Recurring Basis
We account for commodity derivative contracts and their corresponding deferred premiums at fair value on a recurring basis utilizing certain pricing models. Inputs to the pricing models include publicly available prices from a compilation of data gathered from third parties and brokers. We validate the data provided by third parties by understanding the pricing models used, obtaining market values from other pricing sources, analyzing pricing data in certain situations and confirming that those
securities trade in active markets. The Partnership's deferred premiums associated with its commodity derivative contracts are categorized as Level 3, as the Partnership utilizes a net present value calculation to determine the valuation. See Note 4 in this section for a summary of our derivative financial instruments.
Assets and Liabilities Measured at Fair Value on a Non-recurring Basis
Asset Retirement Obligations
We estimate the fair value of our Asset Retirement Obligations ("ARO") based on discounted cash flow projections using numerous estimates, assumptions and judgments regarding such factors as the existence of a legal obligation for ARO, amounts and timing of settlements, the credit-adjusted risk-free rate to be used and inflation rates. See Note 6 in this section for a summary of changes in ARO.
Acquisitions
The estimated fair values of proved oil and natural gas properties acquired in business combinations are based on a discounted cash flow model and market assumptions as to future commodity prices, projections of estimated quantities of oil and natural gas reserves, expectations for timing and amount of future development and operating costs, projections of future rates of production, expected recovery rates and risk-adjusted discount rates. Based on the unobservable nature of certain of the inputs, the estimated fair value of the oil and natural gas properties acquired is deemed to use Level 3 inputs. See Note 2 in this section for further discussion of the Partnership's acquisitions.
Reserves
We calculate the estimated fair values of reserves and properties using valuation techniques consistent with the income approach, converting future cash flows to a single discounted amount. Significant inputs used to determine the fair values of proved properties include estimates of reserves, future operating and developmental costs, future commodity prices, a market-based weighted average cost of capital rate and the rate at which future cash flows are discounted to estimate present value. We discount future values by a per annum rate of
10%
because we believe this amount approximates our long-term cost of capital and accordingly, is well aligned with our internal business decisions. The underlying commodity prices embedded in our estimated cash flows are the product of a process that begins with Level 1 NYMEX-WTI forward curve pricing, as well as Level 3 assumptions including: pricing adjustments for estimated location and quality differentials, production costs, capital expenditures, production volumes, decline rates and estimated reserves.
Impairment
The need to test an asset for impairment may result from significant declines in sales prices or downward revisions in estimated quantities of oil and natural gas reserves. If the carrying value of the long-lived assets exceeds the sum of estimated undiscounted future net cash flows, an impairment loss is recognized for the difference between the estimated fair value and the carrying value of the assets. There were
no
impairment charges for the three months ended March 31, 2017, and 2016.
The following sets forth, by level within the hierarchy, the fair value of our assets and liabilities measured at fair value on a recurring basis as of
March 31, 2017
, and
December 31, 2016
:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Level 1
|
|
Level 2
|
|
Level 3
|
|
Fair Value
|
|
(in thousands)
|
March 31, 2017
|
|
|
|
|
|
|
|
Assets and Liabilities Measured at Fair Value on a Recurring Basis
|
|
|
|
|
|
|
|
Derivative financial instruments - asset
|
$
|
—
|
|
|
$
|
2,458
|
|
|
$
|
—
|
|
|
$
|
2,458
|
|
Derivative financial instruments - liability
|
$
|
—
|
|
|
$
|
1,530
|
|
|
$
|
—
|
|
|
$
|
1,530
|
|
Derivative deferred premiums - liability
|
$
|
—
|
|
|
$
|
—
|
|
|
$
|
4,175
|
|
|
$
|
4,175
|
|
|
|
|
|
|
|
|
|
December 31, 2016
|
|
|
|
|
|
|
Assets and Liabilities Measured at Fair Value on a Recurring Basis
|
|
|
|
|
|
|
|
Derivative financial instruments - asset
|
$
|
—
|
|
|
$
|
1,976
|
|
|
$
|
—
|
|
|
$
|
1,976
|
|
Derivative financial instruments - liability
|
$
|
—
|
|
|
$
|
4,336
|
|
|
$
|
—
|
|
|
$
|
4,336
|
|
Derivative deferred premiums - liability
|
$
|
—
|
|
|
$
|
—
|
|
|
$
|
5,449
|
|
|
$
|
5,449
|
|
A summary of the changes in Level 3 fair value measurements for the periods presented are as follows:
|
|
|
|
|
|
|
|
|
|
Three Months Ended
March 31, 2017
|
|
Year Ended
December 31, 2016
|
|
(in thousands)
|
Balance of Level 3 at beginning of period
|
$
|
(5,449
|
)
|
|
$
|
(9,973
|
)
|
Derivative deferred premiums - purchases
|
—
|
|
|
(516
|
)
|
Derivative deferred premiums - settlements
|
1,274
|
|
|
5,040
|
|
Balance of Level 3 at end of period
|
$
|
(4,175
|
)
|
|
$
|
(5,449
|
)
|
Note 6. Asset Retirement Obligations
We have obligations under our lease agreements and federal regulations to remove equipment and restore land at the end of oil and natural gas operations. These ARO are primarily associated with plugging and abandoning wells. We typically incur this liability upon acquiring or drilling a well and determine our ARO by calculating the present value of estimated cash flow related to the estimated future liability. Determining the removal and future restoration obligation requires management to make estimates and judgments, including the ultimate settlement amounts, inflation factors, credit adjusted risk-free rates, timing of settlement and changes in the legal, regulatory, environmental and political environments. We are required to record the fair value of a liability for the ARO in the period in which it is incurred with a corresponding increase in the carrying amount of the related long-lived asset. We review our assumptions and estimates of future ARO on an annual basis, or more frequently, if an event or circumstances occur that would impact our assumptions. To the extent future revisions to these assumptions impact the present value of the abandonment liability, management will make corresponding adjustments to both the ARO and the related oil and natural gas property asset balance. Over time, the liability is accreted each period toward its future value and is recorded in our unaudited condensed consolidated statements of operations. The discounted capitalized cost is amortized to expense through the depreciation calculation over the life of the assets based on proved developed reserves. Upon settlement of the liability, a gain or loss is recognized to the extent the actual costs differ from the recorded liability.
As of
March 31, 2017
, and
December 31, 2016
, our ARO were reported as "Asset retirement obligations" in our unaudited condensed consolidated balance sheets. Changes in our ARO for the periods indicated are presented in the following table:
|
|
|
|
|
|
|
|
|
|
Three Months Ended
March 31, 2017
|
|
Year Ended
December 31, 2016
|
|
(in thousands)
|
Asset retirement obligations - beginning of period
|
$
|
11,331
|
|
|
$
|
12,679
|
|
Liabilities incurred for new wells and interest
|
49
|
|
|
747
|
|
Liabilities settled upon plugging and abandoning wells
|
(12
|
)
|
|
—
|
|
Liabilities removed upon sale of wells
|
—
|
|
|
(2,827
|
)
|
Revision of estimates
|
(5
|
)
|
|
155
|
|
Accretion expense
|
108
|
|
|
577
|
|
Asset retirement obligations - end of period
|
$
|
11,471
|
|
|
$
|
11,331
|
|
Note 7. Debt
We had outstanding borrowings under our revolving credit facility of
$120.5 million
and
$122.0 million
at March 31, 2017, and December 31, 2016, respectively. Our revolving credit facility matures in November 2018.
The borrowing base of our revolving credit facility is collectively determined by our lenders based on the value of our proved oil and natural gas reserves using assumptions regarding future prices, costs and other matters that may vary. The borrowing base is subject to scheduled redeterminations in the spring and fall of each year with an additional redetermination, either at our request or at the request of the lenders, during the period between each scheduled borrowing base redetermination. An additional borrowing base redetermination may be made at the request of the lenders in connection with a material disposition of our properties or a material liquidation of a hedge contract.
Borrowings under the revolving credit facility bear interest at a floating rate based on, at our election, the greater of the prime rate of Wells Fargo Bank, National Association, the federal funds effective rate plus
0.50%
and the one month adjusted London Interbank Offered Rate ("LIBOR") plus
1.0%
, all of which are subject to a margin that varies from
1.00%
to
2.75%
per annum according to the borrowing base usage (which is the ratio of outstanding borrowings and letters of credit to the borrowing base then in effect), or the applicable LIBOR plus a margin that varies from
2.00%
to
3.75%
per annum according to the borrowing base usage. For the three months ended March 31, 2017, the average effective rate was approximately
3.56%
. Any unused portion of the borrowing base will be subject to a commitment fee that varies from
0.375%
to
0.50%
per annum according to the borrowing base usage.
We may use borrowings under the facility for acquiring and developing oil and natural gas properties, for working capital purposes, for general partnership purposes and for funding distributions to our unitholders. The revolving credit facility includes customary affirmative and negative covenants, such as limitations on the creation of new indebtedness and on certain liens, restrictions on certain transactions and payments, including distributions. If we fail to perform our obligations under these and other covenants, the revolving credit commitments may be terminated and any outstanding indebtedness under the credit agreement, together with accrued interest, could be declared immediately due and payable. We were in compliance with these covenants as of and during the three months ended March 31, 2017.
During the spring 2016 semi-annual redetermination and amendment to the credit agreement completed in May 2016, the effective borrowing base as of June 1, 2016, was reduced to
$163.0 million
and was comprised of a
$110.0 million
conforming tranche and a permitted overadvance of
$53.0 million
. The permitted overadvance was scheduled to mature on November 1, 2016.
During August 2016, we completed a non-scheduled redetermination and amendment to the credit agreement in conjunction with our Permian Bolt-On acquisition. Among other changes, this amendment to the credit agreement increased the conforming borrowing base of the Partnership’s revolving credit facility to
$140.0 million
as of August 11, 2016, modified the definition of “Indebtedness” to exclude the Preferred Units and modified the limitations on restricted payments to specifically provide for the payment of cash distributions on the Preferred Units. The amendment also required that by August 18, 2016, we enter into commodity derivative contracts of not less than
75%
of our 2017 projected monthly production and not less than
50%
of our 2018 projected monthly production, calculated based on proved developed producing reserves at the time of the agreement. These requirements were satisfied with the execution of additional commodity derivative contracts maturing in 2018. The amendment also required that within
30
days we extend our collateral coverage to include the reserves acquired in the Permian Bolt-On acquisition.
During the fall 2016 semi-annual borrowing base redetermination of our revolving credit facility completed in October 2016, the lender group reaffirmed the existing conforming borrowing base of
$140.0 million
effective October 28, 2016. There were no changes to the terms or conditions of the credit agreement.
Note 8. Commitments and Contingencies
Leases
We lease corporate office space in Tulsa, Oklahoma and Abilene, Texas. We were also allocated office rent from Mid-Con Energy Operating through August 2016 for office space in Dallas, Texas. Total lease expenses were approximately
$0.1 million
each for the three months ended March 31, 2017, and 2016. These expenses are included in G&A in our unaudited condensed consolidated statements of operations.
Future minimum lease payments under the non-cancellable operating leases are presented in the following table (in thousands):
|
|
|
|
|
Remaining 2017
|
367
|
|
2018
|
490
|
|
2019
|
413
|
|
2020
|
418
|
|
2021
|
423
|
|
Total
|
$
|
2,111
|
|
Services Agreement
We are party to a services agreement with Mid-Con Energy Operating pursuant to which Mid-Con Energy Operating provides certain services to us including management, administrative and operational services. Under the services agreement,
we reimburse Mid-Con Energy Operating, on a monthly basis, for the allocable expenses it incurs in its performance under the services agreement. See Note 10 in this section for additional information.
Employment Agreements
Our general partner has entered into employment agreements with Charles R. Olmstead, Executive Chairman of the Board and Jeffrey R. Olmstead, President and Chief Executive Officer. The employment agreements automatically renew for one-year terms on August 1st of each year unless either we or the employee gives written notice of termination by at least the preceding February. Pursuant to the employment agreements, each employee will serve in his respective position with our general partner, as set forth above, and has duties, responsibilities and authority as the Board may specify from time to time, in roles consistent with such positions that are assigned to them. The agreement stipulates that if there is a change of control, termination of employment, with cause or without cause, or death of the executive certain payments will be made to the executive officer. These payments, depending on the reason for termination, currently range from
$0.4
million to
$0.8
million, including the value of vesting of any outstanding units.
Legal
We are party to various claims, legal actions and complaints arising in the ordinary course of business. In the opinion of management and our General Counsel, the ultimate resolution of all claims, legal actions and complaints after consideration of amounts accrued, insurance coverage or other indemnification arrangements will not have a material adverse effect on our financial position, results of operations or cash flows.
Note 9. Equity
Common Units
At
March 31, 2017
, and
December 31, 2016
, the Partnership’s equity consisted of
29,944,796
and
29,912,230
common units, respectively, representing approximately a
98.8%
limited partnership interest in us.
On May 5, 2015, we entered into an Equity Distribution Agreement to sell, from time to time through or to the Managers (as defined in the agreement), up to
$50.0
million in common units representing limited partner interests. In connection with the Preferred Units purchase agreement described below, the Partnership suspended sales of common units pursuant to the Equity Distribution Agreement effective as of the closing date of the issuance of the Preferred Units until the fifth anniversary thereof, unless the Partnership obtains the consent of a majority of the holders of the outstanding Preferred Units.
Preferred Units
On August 11, 2016, we completed a private placement of
11,627,906
Preferred Units for an aggregate offering price of
$25.0 million
. The Preferred Units were issued at a price of
$2.15
per Preferred Unit (the "Unit Purchase Price"). Proceeds from this issuance were used to fund the Permian Bolt-On acquisition and for general partnership purposes, including the reduction of borrowings under our revolving credit facility. We received net proceeds of approximately
$24.6 million
(net of issuance costs of approximately
$0.4 million
) in connection with the issuance of Preferred Units. We allocated these net proceeds, on a relative fair value basis, to the Preferred Units (approximately
$18.6 million
) and the beneficial conversion feature (approximately
$6.0 million
). A beneficial conversion feature is defined as a non-detachable conversion feature that is in the money at the commitment date. Per accounting guidance, we are required to allocate a portion of the proceeds from the Preferred Units to the beneficial conversion feature based on the intrinsic value of the beneficial conversion feature. The intrinsic value is calculated at the commitment date based on the difference between the fair value of the common units at the issuance date (number of common units issuable at conversion multiplied by the per-share value of our common units at the issuance date) and the proceeds attributed to the Preferred Units. We record the accretion attributed to the beneficial conversion feature as a deemed distribution using the straight line method over the five year period prior to the effective date of the holders conversion right. Accretion of the beneficial conversion feature was approximately
$0.3 million
for the three months ended March 31, 2017.
We pay holders of the Preferred Units a cumulative, quarterly cash distribution on all Preferred Units then outstanding at an annual rate of
8.0%
, or in the event that the Partnership's existing secured indebtedness prevents the payment of a cash distribution to all holders of the Preferred Units, in kind (additional Preferred Units), at an annual rate of
10.0%
. Such distributions will be paid for each such quarter within
45 days
after such quarter end.
At any time after the six-month anniversary and prior to the
five
year anniversary of the closing date, each holder of the Preferred Units has the right, subject to certain conditions, to convert all or a portion of their Preferred Units into common units representing limited partner interests in the Partnership on a one-for-one basis, subject to adjustment for splits, subdivisions,
combinations and reclassifications of the common units. Upon conversion of Preferred Units, the Partnership will pay any distributions (to the extent accrued and unpaid as of the then most recent Preferred Units distribution date) on the converted units in cash.
Under the registration rights agreements, we were required to use reasonable best efforts to file, within
90 days
of the closing date, a registration statement registering resales of common units issued or to be issued upon conversion of the Preferred Units and have the registration statement declared effective within
180 days
after the closing date. As of March 31, 2017, the common units to be issued were pending effectiveness of registration under a previously filed shelf registration statement on Form S-3.
Our Distributions
Our partnership agreement requires us to distribute all of our available cash on a quarterly basis. Our available cash is our cash on hand at the end of a quarter after the payment of our expenses and the establishment of reserves for future capital expenditures and operational needs, including cash from working capital borrowings. There is no assurance as to the future cash distributions since they are dependent upon our projections for future earnings, cash flows, capital requirements, financial conditions and other factors.
As of March 31, 2017, cash distributions to our common units continue to be indefinitely suspended. Our credit agreement stipulates written consent from our lenders is required in order to reinstate common unit distributions and also prohibits us from making common unit cash distributions if any potential default or event of default, as defined in the credit agreement, occurs or would result from the cash distribution. Management and the Board will continue to evaluate, on a quarterly basis, the appropriate level of cash reserves in determining future distributions. The suspension of common unit cash distributions is designed to preserve liquidity and reallocate excess cash flow towards capital expenditure projects and debt reduction to maximize long-term value for our unitholders.
The holders of our Preferred Units are entitled to certain rights that are senior to the rights of holders of common units, such as rights to distributions and rights upon liquidation of the Partnership. Preferred unitholders receive quarterly distributions in cash at an annual rate of
8.0%
or, under certain circumstances, in additional Preferred Units, rather than cash, at an annual rate of
10.0%
. As of March 31, 2017, all Preferred Unit distributions have been paid in cash. No payment or distribution on common units for any quarter is permitted prior to the payment in full of the Preferred Units distribution (including any outstanding arrearages). At March 31, 2017, the Partnership had accrued approximately
$0.5 million
for the first quarter 2017 dividends that are to be paid in May 2017. The following table summarizes cash distributions paid on our Preferred Units during the three months ended March 31, 2017:
|
|
|
|
|
|
|
|
|
|
|
|
Date Paid
|
|
Period Covered
|
|
Distribution per Unit
|
|
Total Distributions (in thousands)
|
February 14, 2017
|
|
October 1, 2016 - December 31, 2016
|
|
$
|
0.043
|
|
|
$
|
500
|
|
Allocation of Net Income (Loss)
Net income (loss), net of distributions on the Preferred Units and amortization of the Preferred Unit's beneficial conversion feature (see Preferred Units section), is allocated between our general partner and the limited partner unitholders in proportion to their pro rata ownership (exclusive of the Preferred Units limited partnership interest) during the period. The allocation of net income (loss) is presented in our unaudited condensed consolidated statements of operations. Diluted net income (loss) per partner unit reflects the potential dilution of non-vested restricted stock awards and the conversion of Preferred Units.
Note 10. Related Party Transactions
Agreements with Affiliates
The following agreements were negotiated among affiliated parties and, consequently, are not the result of arm’s length negotiations. The following is a description of those agreements that have been entered into with the affiliates of our general partner and with our general partner.
Services Agreement
We are party to a services agreement with our affiliate, Mid-Con Energy Operating, pursuant to which Mid-Con Energy Operating provides certain services to us, including management, administrative and operational services. The operational services include marketing, geological and engineering services. Under the services agreement, we reimburse Mid-Con Energy
Operating, on a monthly basis, for the allocable expenses it incurs in its performance under the services agreement. These expenses include, among other things, salary, bonus, incentive compensation and other amounts paid to persons who perform services for us or on our behalf and other expenses allocated by Mid-Con Energy Operating to us. These expenses are included in G&A in our unaudited condensed consolidated statements of operations.
Operating Agreements
We, various third parties with an ownership interest in the same property and our affiliate, Mid-Con Energy Operating, are parties to standard oil and natural gas joint operating agreements, pursuant to which we and those third parties pay Mid-Con Energy Operating overhead associated with operating our properties. We and those third parties also pay Mid-Con Energy Operating for its direct and indirect expenses that are chargeable to the wells under their respective operating agreements. The majority of these expenses are included in lease operating expenses ("LOE") in our unaudited condensed consolidated statements of operations.
Oilfield Services
We are party to operating agreements, pursuant to which our affiliate, Mid-Con Energy Operating, bills us for oilfield services performed by our affiliate, ME3 Oilfield Service. These amounts are either included in LOE in our unaudited condensed consolidated statements of operations or are capitalized as part of oil and natural gas properties in our unaudited condensed consolidated balance sheets.
The following table summarizes the affiliates' transactions for the periods indicated:
|
|
|
|
|
|
|
|
|
|
Three Months Ended
March 31,
|
|
2017
|
|
2016
|
Amounts paid for:
|
(in thousands)
|
Services agreement
|
$
|
641
|
|
|
$
|
820
|
|
Operating agreements
|
1,403
|
|
|
1,665
|
|
Oilfield services
|
810
|
|
|
671
|
|
|
$
|
2,854
|
|
|
$
|
3,156
|
|
At
March 31, 2017
, we had a payable to our affiliate, Mid-Con Energy Operating, of approximately
$1.6 million
, comprised of a joint interest billing payable of approximately
$1.4 million
and a payable for operating services of approximately
$0.2 million
. At December 31, 2016, we had a payable to our affiliate, Mid-Con Energy Operating, of approximately
$3.4 million
, comprised of a joint interest billing payable of approximately
$2.8 million
and a payable for operating services of approximately
$0.6 million
. These amounts were included in accounts payable-related parties in our unaudited condensed consolidated balance sheets.
Note 11. New Accounting Standards
In May 2014, the Financial Accounting Standards Board ("FASB") issued a comprehensive new revenue recognition standard that supersedes the revenue recognition requirements in Topic 605,
Revenue Recognition,
and industry-specific guidance in Subtopic 932-605,
Extractive Activities-Oil and Gas-Revenue Recognition
. The core principle of the new guidance is that a company should recognize revenue to depict the transfer of promised goods or services to customers in an amount that reflects the consideration to which the company expects to be entitled in exchange for transferring those goods or services. The new standard also requires significantly expanded disclosure regarding the qualitative and quantitative information of an entity's nature, amount, timing and uncertainty of revenue and cash flows arising from contracts with customers. The standard creates a five-step model that requires companies to exercise judgment when considering the terms of a contract and all relevant facts and circumstances. The standard allows for several transition methods: (a) a full retrospective adoption in which the standard is applied to all of the periods presented, or (b) a modified retrospective adoption in which the standard is applied only to the most current period presented in the financial statements, including additional disclosures of the standard's application impact to individual financial statement line items. This standard is effective for annual reporting periods beginning after December 15, 2017, including interim periods within that reporting period. We plan to adopt ASU 2014-09 effective January 1, 2018, using the modified retrospective approach whereby we will record the cumulative effect of applying the new standard to all outstanding contracts as of January 1, 2018, as an adjustment to opening retained earnings. We do not expect our revenue recognition under the new guidance to materially differ from our current revenue recognition practice. We do not expect the cumulative effect adjustment to opening retained earnings to be significant.
In February 2016, the FASB issued ASU No. 2016-02, "
Leases
(Topic 842)," which supersedes current lease guidance. The new lease standard requires all leases with a term greater than one year to be recognized on the balance sheet while maintaining substantially similar classifications for finance and operating leases. Lease expense recognition on the income statement will be effectively unchanged. This guidance is effective for reporting periods beginning after December 15, 2018, and early adoption is permitted. As of March 31, 2017, the Partnership has not elected early adoption. We believe the primary impact of adopting this standard will be the recognition of assets and liabilities on our balance sheet for current operating leases. We are still evaluating the impact of this standard.
In August, 2016, the FASB issued Accounting Standards Update No. 2016-15,
Classification of Certain Cash Receipts and Cash Payments
(a consensus of the Emerging Issues Task Force). The amendments in ASU 2016-15 address eight specific cash flow issues and apply to all entities that are required to present a statement of cash flows under FASB Accounting Standards Codification (FASB ASC) 230, Statement of Cash Flows. The amendments in ASU 2016-15 are effective for public business entities for fiscal years beginning after December 15, 2017, and interim periods within those fiscal years. Early adoption is permitted, including adoption during an interim period. As of March 31, 2017, the Partnership has not elected early adoption. Based on our initial evaluation, we do not anticipate a material impact to our consolidated financial statements upon adoption of this standard.
Note 12. Subsequent Events
Distributions
The Board declared a Preferred Unit cash distribution for the first quarter of 2017, according to terms outlined in the Partnership Agreement. A cash distribution of
$0.043
per Preferred Unit, or approximately
$0.5 million
in aggregate, will be paid on May 15, 2017, to holders of record as of the close of business on May 8, 2017.
Borrowing Base Redetermination
Our spring 2017 semi-annual borrowing base redetermination process is underway, with the Partnership having delivered our most recent internal reserve estimates to our lenders for their review and evaluation. We anticipate this process will conclude during the second quarter 2017.
Appointment of Director
Mr. John W. ("J.W.") Brown was appointed as a member of the Board and the audit committee effective April 25, 2017.