Derivative Instruments and Hedging Activities |
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Derivative Instruments and Hedging Activities Disclosure [Abstract] | |||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||
Derivative Instruments and Hedging Activities | Derivative Instruments and Hedging Activities Objectives and strategies for using derivative instruments
The Company is exposed to fluctuations in oil, natural gas and NGL prices received for its production. Consequently, the Company believes it is prudent to manage the variability in cash flows on a portion of its oil, natural gas and NGL production. The Company utilizes a mix of collars, swaps, and put and call options to manage fluctuations in cash flows resulting from changes in commodity prices. The Company does not use these instruments for speculative or trading purposes.
Counterparty risk and offsetting
The Company typically has numerous commodity derivative instruments outstanding with a counterparty that were executed at various dates, for various contract types, commodities and time periods. This often results in both commodity derivative asset and liability positions with that counterparty. The Company nets its commodity derivative instrument fair values executed with the same counterparty to a single asset or liability pursuant to International Swap Dealers Association Master Agreements (“ISDA Agreements”), which provide for net settlement over the term of the contract and in the event of default or termination of the contract. In general, if a party to a derivative transaction incurs an event of default, as defined in the applicable agreement, the other party will have the right to demand the posting of collateral, demand a cash payment transfer or terminate the arrangement.
As of December 31, 2020, the Company has outstanding commodity derivative instruments with sixteen counterparties to minimize its credit exposure to any individual counterparty. All of the counterparties to the Company’s commodity derivative instruments are also lenders under the Company’s credit agreement. Therefore, each of the Company’s counterparties allow the Company to satisfy any
need for margin obligations associated with commodity derivative instruments where the Company is in a net liability position with the collateral securing the credit agreement, thus eliminating the need for independent collateral posting.
Because each of the Company’s counterparties has an investment grade credit rating, the Company believes it does not have significant credit risk and accordingly does not currently require its counterparties to post collateral to support the net asset positions of its commodity derivative instruments. Although the Company does not currently anticipate nonperformance from its counterparties, it continually monitors the credit ratings of each counterparty.
While the Company monitors counterparty creditworthiness on an ongoing basis, it cannot predict sudden changes in counterparties’ creditworthiness. In addition, even if such changes are not sudden, the Company may be limited in its ability to mitigate an increase in counterparty credit risk. Should one of these counterparties not perform, the Company may not realize the benefit of some of its derivative instruments under lower commodity prices while continuing to be obligated under higher commodity price contracts subject to any right of offset under the agreements. Counterparty credit risk is considered when determining the fair value of a derivative instrument. See “Note 9 - Fair Value Measurements” for further discussion.
Financial statement presentation and settlements
Settlements of the Company’s commodity derivative instruments are based on the difference between the contract price or prices specified in the derivative instrument and a benchmark price, such as the NYMEX price. To determine the fair value of the Company’s derivative instruments, the Company utilizes present value methods that include assumptions about commodity prices based on those observed in underlying markets. See “Note 9 - Fair Value Measurements” for additional information regarding fair value.
Contingent consideration arrangements
Ranger Divestiture. The Company’s Ranger Divestiture provides for potential contingent consideration to be received by the Company if commodity prices exceed specified thresholds for the next year. See “Note 4 - Acquisitions and Divestitures” and “Note 9 - Fair Value Measurements” for further discussion. This contingent consideration arrangement is summarized in the table below (in thousands except for per Bbl amounts):
(1) The price used to determine whether the specified thresholds have been met is the average of the final monthly settlements for each month during each annual period end for NYMEX Light Sweet Crude Oil Futures, as reported by the CME Group Inc.
(2) Cash received for settlements of contingent consideration arrangements are classified as cash flows from financing activities up to the divestiture date fair value with any excess classified as cash flows from operating activities. Therefore, if the commodity price threshold is reached, $8.5 million of the next contingent receipt will be presented in cash flows from financing activities with the remainder presented in cash flows from operating activities.
(3) The specified pricing threshold for both 2019 and 2020 was not met. As such, approximately $20.8 million remains for potential settlements in future years.
As a result of the Carrizo Acquisition, the Company assumed all contingent consideration arrangements previously entered into by Carrizo. These contingent consideration arrangements are summarized below:
Contingent ExL Consideration
(1) The price used to determine whether the specified threshold for each year has been met is the average daily closing spot price per barrel of WTI crude oil as measured by the U.S. Energy Information Administration (“U.S. EIA”).
(2) Cash paid for settlements of contingent consideration arrangements are classified as cash flows from investing activities up to the acquisition date fair value with any excess classified as cash flows from operating activities. In January 2020, the Company paid $50.0 million as the specified pricing threshold for 2019 was met. Therefore, if the commodity price threshold is reached in 2021, $19.2 million of the next contingent payment will be presented in cash flows from investing activities with the remainder presented in cash flows from operating activities.
(3) The specified pricing threshold for 2020 was not met. Only $25.0 million remains for potential settlements in future years.
Additionally, as part of the Carrizo Acquisition, the Company acquired other contingent consideration arrangements where the Company could receive payments if certain pricing thresholds were met in 2019 and 2020, which ranged between $53.00 - $60.00 per barrel of oil or $3.18 - $3.30 per MMBtu of natural gas. The specified pricing thresholds for each of these other contingent consideration arrangements for 2020 were not met, therefore there were no payments from the contingent consideration arrangements acquired in the Carrizo Acquisition in January 2021. In January 2020, the Company received $10.0 million as the specified pricing thresholds for 2019 were met for certain of the contingent consideration arrangements. These cash receipts are classified as cash flows from investing activities in the consolidated statements of cash flows. Each of these other contingent consideration arrangements acquired in the Carrizo Acquisition expired at the end of the 2020.
Warrants
The Company determined that the September 2020 Warrants issued with the September 2020 Second Lien Notes are required to be accounted for as a derivative instrument. The September 2020 Warrants are exercisable only on a net share settlement basis. The Company records the September 2020 Warrants as a liability on its consolidated balance sheet measured at fair value as a component of “Fair value of derivatives” with gains and losses as a result of changes in the fair value of the September 2020 Warrants recorded as “(Gain) loss on derivative contracts” in the consolidated statements of operations in the period in which the changes occur. Upon issuance, the Company recorded a liability for the September 2020 Warrants of $23.9 million and as of December 31, 2020, the liability for the September 2020 Warrants was $79.4 million. See “Note 18 - Subsequent Events” for further discussion.
Derivatives not designated as hedging instruments
The Company records its derivative instruments at fair value in the consolidated balance sheets and records changes in fair value as “(Gain) loss on derivative contracts” in the consolidated statements of operations. Settlements are also recorded as a gain or loss on derivative contracts in the consolidated statements of operations. As previously discussed, the Company’s commodity derivative contracts are subject to master netting arrangements. The Company’s policy is to present the fair value of derivative contracts on a net basis in the consolidated balance sheet. The following presents the impact of this presentation to the Company’s recognized assets and liabilities for the periods indicated:
The components of “(Gain) loss on derivative contracts” are as follows for the respective periods:
The components of “Cash (paid) received for commodity derivative settlements” and “Cash paid for settlements of contingent consideration arrangements, net” are as follows for the respective periods:
Derivative positions
Listed in the tables below are the outstanding oil, natural gas and NGL derivative contracts as of December 31, 2020:
(1) Premiums from the sale of call options were used to increase the fixed price of certain simultaneously executed price swaps and three-way collars.
(2) The short call swaption contracts have exercise expiration dates as follows: 455,000 Bbls expire on March 31, 2021, 460,000 Bbls expire on June 30, 2021 and 460,000 Bbls expire on September 30, 2021.
(1) Premiums from the sale of call options were used to increase the fixed price of certain simultaneously executed price swaps and three-way collars.
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