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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
--------------------------------
FORM 10-Q
(Mark One)
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15 (d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For The Quarterly Period Ended June 30, 2004
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15 (d) OF THE SECURITIES
EXCHANGE ACT OF 1934
Commission file number 001-16179
--------------------------------
ENERGY PARTNERS, LTD.
(Exact name of registrant as specified in its charter)
Delaware 72-1409562
(State or other jurisdiction (I.R.S. employer
of incorporation or organization) identification number)
201 St. Charles Avenue, Suite 3400
New Orleans, Louisiana 70170
(Address of principal executive offices) (Zip code)
Registrant's telephone number, including area code: (504) 569-1875
--------------------------------
Indicate by check mark whether the Registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days.
Yes [X] No [ ]
Indicate by check mark whether the registrant is an accelerated filer (as
defined by Rule 12b-2 of the Exchange Act). Yes [X] No [ ]
As of July 26, 2004, there were 32,971,488 shares of the Registrant's
Common Stock, par value $0.01 per share, outstanding.
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-1-
TABLE OF CONTENTS
Page
----
PART I FINANCIAL STATEMENTS
Item 1. Financial Statements:
Consolidated Balance Sheets as of June 30, 2004 and
December 31, 2003..................................................... 3
Consolidated Statements of Operations for the three and six months ended
June 30, 2004 and 2003................................................ 4
Consolidated Statements of Cash Flows for the six months ended
June 30, 2004 and 2003................................................ 5
Notes to Consolidated Financial Statements................................. 6
Item 2. Management's Discussion and Analysis of Financial Condition and
Results of Operations.............................................. 16
Item 3. Quantitative and Qualitative Disclosures about Market Risk.............. 22
Item 4. Controls and Procedures................................................. 23
PART II OTHER INFORMATION
Item 4. Submission of Matters to the Vote of Security Holders................... 24
Item 6. Exhibits and Reports on Form 8-K........................................ 24
-2-
ITEM 1. FINANCIAL STATEMENTS
ENERGY PARTNERS, LTD. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
(In thousands, except share data)
June 30, December 31,
2004 2003
----------- ---------
(Unaudited)
ASSETS
Current assets:
Cash and cash equivalents ................................................ $ 94,624 $ 104,392
Trade accounts receivable ................................................ 54,921 35,315
Deferred tax assets ...................................................... 2,460 2,939
Prepaid expenses ......................................................... 5,529 2,106
--------- ---------
Total current assets .............................................. 157,534 144,752
Property and equipment, at cost under the successful efforts
method of accounting for oil and natural gas properties .................. 687,072 598,101
Less accumulated depreciation, depletion and amortization .................. (256,100) (210,013)
--------- ---------
Net property and equipment ........................................ 430,972 388,088
Other assets ............................................................... 7,064 6,575
Deferred financing costs -- net of accumulated amortization
of $3,724 in 2004 and $3,267 in 2003 ..................................... 4,315 4,766
--------- ---------
$ 599,885 $ 544,181
========= =========
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities:
Accounts payable ......................................................... $ 17,929 $ 14,650
Accrued expenses ......................................................... 57,605 42,487
Fair value of commodity derivative instruments ........................... 5,081 3,814
Current maturities of long-term debt ..................................... 104 99
--------- ---------
Total current liabilities ......................................... 80,719 61,050
Long-term debt ............................................................. 150,164 150,317
Deferred tax liabilities ................................................... 39,812 29,584
Asset retirement obligation ................................................ 40,610 40,577
Other ...................................................................... 1,501 1,168
--------- ---------
312,806 282,696
Stockholders' equity:
Preferred stock, $1 par value. Authorized 1,700,000 shares;
issued and outstanding: 2004 - 346,443 shares; 2003 - 368,076
shares. Aggregate liquidation value: 2004 - $34,644; 2003 - $36,808... 33,268 34,894
Common stock, par value $0.01 per share. Authorized 50,000,000
shares; issued and outstanding: 2004 - 32,958,921 shares;
2003 - 32,241,981 shares ............................................. 330 323
Additional paid-in capital ............................................... 236,183 228,511
Accumulated other comprehensive loss -- net of deferred taxes of
$1,829 in 2004 and $1,373 in 2003 .................................... (3,252) (2,441)
Retained earnings ........................................................ 20,550 198
--------- ---------
Total stockholders' equity ........................................ 287,079 261,485
Commitments and contingencies ............................................
--------- ---------
$ 599,885 $ 544,181
========= =========
See accompanying notes to consolidated financial statements.
-3-
ENERGY PARTNERS, LTD. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS
(Unaudited)
(In thousands, except per share data)
Three Months Ended Six Months Ended
June 30, June 30,
------------------------ ------------------------
2004 2003 2004 2003
--------- --------- --------- ---------
Revenue:
Oil and natural gas ............................................ $ 74,977 $ 54,146 $ 138,396 $ 111,100
Other .......................................................... 90 73 143 356
--------- --------- --------- ---------
75,067 54,219 138,539 111,456
--------- --------- --------- ---------
Costs and expenses:
Lease operating ................................................ 9,802 9,427 19,576 17,444
Taxes, other than on earnings .................................. 2,078 1,780 4,320 4,151
Exploration expenditures and dry hole costs .................... 7,467 3,929 16,932 5,236
Depreciation, depletion and amortization ....................... 22,215 19,532 40,952 37,104
General and administrative:
Stock-based compensation ................................... 662 353 1,519 479
Other general and administrative ........................... 6,434 5,551 13,750 12,990
--------- --------- --------- ---------
Total costs and expenses ................................ 48,658 40,572 97,049 77,404
--------- --------- --------- ---------
Income from operations ........................................... 26,409 13,647 41,490 34,052
--------- --------- --------- ---------
Other income (expense):
Interest income ................................................ 221 25 463 46
Interest expense ............................................... (3,586) (1,608) (7,160) (3,429)
--------- --------- --------- ---------
(3,365) (1,583) (6,697) (3,383)
--------- --------- --------- ---------
Income before income taxes and cumulative effect
of change in accounting principle .................... 23,044 12,064 34,793 30,669
Income taxes ..................................................... (8,388) (4,500) (12,691) (11,191)
--------- --------- --------- ---------
Income before cumulative effect of change in
accounting principle ................................. 14,656 7,564 22,102 19,478
Cumulative effect of change in accounting principle,
net of income taxes of $1,276 .................................. - - - 2,268
--------- --------- --------- ---------
Net income .............................................. 14,656 7,564 22,102 21,746
Less dividends earned on preferred stock and accretion of
discount and issuance costs .................................... (821) (953) (1,750) (1,808)
--------- --------- --------- ---------
Net income available to common stockholders ............. $ 13,835 $ 6,611 $ 20,352 $ 19,938
========= ========= ========= =========
Earnings per share:
Basic:
Before cumulative effect of change in accounting principle ..... $ 0.42 $ 0.21 $ 0.62 $ 0.60
Cumulative effect of change in accounting principle ............ $ - $ - $ - $ 0.08
--------- --------- --------- ---------
Basic earnings per share ....................................... $ 0.42 $ 0.21 $ 0.62 $ 0.68
========= ========= ========= =========
Diluted:
Before cumulative effect of change in accounting principle ..... $ 0.38 $ 0.21 $ 0.58 $ 0.57
Cumulative effect of change in accounting principle ............ $ - $ - $ - $ 0.06
--------- --------- --------- ---------
Diluted earnings per share ..................................... $ 0.38 $ 0.21 $ 0.58 $ 0.63
========= ========= ========= =========
Weighted average common shares used in Computing income per share:
Basic .......................................................... 32,913 31,291 32,667 29,481
Incremental common shares ...................................... 5,437 4,838 5,461 4,837
--------- --------- --------- ---------
Diluted ........................................................ 38,350 36,129 38,128 34,318
========= ========= ========= =========
See accompanying notes to consolidated financial statements.
-4-
ENERGY PARTNERS, LTD. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
(Unaudited)
(In thousands)
Six Months Ended
June 30,
------------------------
2004 2003
--------- ---------
Cash flows from operating activities:
Net income ............................................................. $ 22,102 $ 21,746
Adjustments to reconcile net income to net cash
provided by operating activities:
Cumulative effect of change in accounting principle, net of tax.. - (2,268)
Depreciation, depletion and amortization ........................ 40,952 37,104
Gain on sale of oil and natural gas assets ...................... - (207)
Stock-based compensation ........................................ 1,568 479
Deferred income taxes ........................................... 12,688 11,192
Exploration expenditures ........................................ 13,272 3,008
Amortization of deferred financing costs ........................ 457 205
Other ........................................................... 104 189
Changes in operating assets and liabilities:
Trade accounts receivable .................................... (20,510) (8,850)
Prepaid expenses ............................................. (3,423) (638)
Other assets ................................................. (489) (1,354)
Accounts payable and accrued expenses ........................ 2,524 438
Other liabilities ............................................ (587) (118)
--------- ---------
Net cash provided by operating activities ................. 68,658 60,926
--------- ---------
Cash flows used in investing activities:
Acquisition of business ................................................ (2,166) (850)
Property acquisitions .................................................. (4,792) (4,081)
Exploration and development expenditures ............................... (72,376) (59,114)
Other property and equipment additions ................................. (353) (273)
Proceeds from sale of oil and natural gas assets ....................... - 579
--------- ---------
Net cash used in investing activities ..................... (79,687) (63,739)
--------- ---------
Cash flows provided by financing activities:
Repayments of long-term debt ........................................... (148) (40,045)
Deferred financing costs ............................................... (7) -
Equity offering costs .................................................. - (422)
Proceeds from public offering, net of commissions ...................... - 38,000
Proceeds from long-term debt ........................................... - 15,000
Dividends paid ......................................................... (1,212) (1,304)
Exercise of stock options and warrants ................................. 2,628 264
--------- ---------
Net cash provided by financing activities ................. 1,261 11,493
--------- ---------
Net increase (decrease) in cash and cash equivalents ...... (9,768) 8,680
Cash and cash equivalents at beginning of period .......................... 104,392 116
--------- ---------
Cash and cash equivalents at end of period ................................ $ 94,624 $ 8,796
========= =========
See accompanying notes to consolidated financial statements.
-5-
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
(1) BASIS OF PRESENTATION
Certain information and footnote disclosures normally in financial
statements prepared in accordance with generally accepted accounting principles
have been condensed or omitted pursuant to rules and regulations of the
Securities and Exchange Commission; however, management believes the disclosures
which are made are adequate to make the information presented not misleading.
These financial statements and footnotes should be read in conjunction with the
financial statements and notes thereto included in Energy Partners, Ltd.'s (the
Company) Annual Report on Form 10-K for the year ended December 31, 2003 and
Management's Discussion and Analysis of Financial Condition and Results of
Operations. The Company maintains a website at www.eplweb.com which contains
information about the Company including links to the Company's Annual Report on
Form 10-K, quarterly reports on Form 10-Q, current reports on Form 8-K and all
related amendments. The Company's website and the information contained in it
and connected to it shall not be deemed incorporated by reference into this
report on Form 10-Q.
The financial information as of June 30, 2004 and for the three and six
month periods ended June 30, 2004 and 2003 has not been audited. However, in the
opinion of management, all adjustments (which include only normal recurring
adjustments) necessary to present fairly the results of operations for the
periods presented have been included therein. The results of operations for the
first six months of the year are not necessarily indicative of the results of
operations which might be expected for the entire year.
(2) STOCK-BASED COMPENSATION
The Company has two stock award plans, the Amended and Restated 2000 Long
Term Stock Incentive Plan and the 2000 Stock Option Plan for Non-Employee
Directors (the Plans). The Company accounts for its stock-based compensation in
accordance with Accounting Principles Board's Opinion No. 25, "Accounting For
Stock Issued to Employees" (Opinion No. 25). Statement of Financial Accounting
Standards No. 123 (Statement 123), "Accounting For Stock-Based Compensation" and
Statement of Financial Accounting Standards No. 148, "Accounting For Stock-Based
Compensation - Transition and Disclosure," (Statement 148) permit the continued
use of the intrinsic value-based method prescribed by Opinion No. 25, but
require additional disclosures, including pro-forma calculations of earnings and
net earnings per share as if the fair value method of accounting prescribed by
Statement 123 had been applied. If compensation expense for the Plans had been
determined using the fair-value method in Statement 123, the Company's net
income and earnings per share would have been as shown in the pro forma amounts
below (in thousands, except per share amounts):
THREE MONTHS ENDED SIX MONTHS ENDED
JUNE 30, JUNE 30,
2004 2003 2004 2003
---------- ---------- ---------- ----------
Net income available to common stockholders:
As reported .................................... $ 13,835 $ 6,611 $ 20,352 $ 19,938
Pro forma ...................................... $ 13,484 $ 6,311 $ 19,983 $ 19,364
Basic earnings per share:
As reported .................................... $ 0.42 $ 0.21 $ 0.62 $ 0.68
Pro forma ...................................... $ 0.41 $ 0.20 $ 0.61 $ 0.66
Diluted earnings per share:
As reported .................................... $ 0.38 $ 0.21 $ 0.58 $ 0.63
Pro forma ...................................... $ 0.37 $ 0.20 $ 0.57 $ 0.62
Stock-option based employee compensation cost,
net of tax, included in net income as reported . $ -- $ -- $ 340 $ 28
-6-
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
(3) BUSINESS COMBINATION
In connection with a business combination in 2002, the Company issued
among other things, $38.4 million liquidation preference of newly authorized and
issued Series D Exchangeable Convertible Preferred Stock (the Series D Preferred
Stock), with an issue date fair value of $34.7 million discounted to give effect
to the increasing dividend rate and $38.4 million of 11% Senior Subordinated
Notes (the Notes) due 2009 (immediately callable at par). The Company also
issued warrants to purchase four million shares of the Company's common stock.
Of the warrants, one million had a strike price of $9.00 and three million had a
strike price of $11.00 per share. The warrants had a fair value of approximately
$3.0 million based on a third party valuation and became exercisable on January
15, 2003 and expire on January 15, 2007.
In addition, former preferred stockholders of the acquired company have the
right to receive contingent consideration based upon a percentage of the amount
by which the before tax net present value of proved reserves related, in
general, to exploratory prospect acreage held by the acquired company as of the
closing date of the acquisition (the Ring-Fenced Properties) exceeds the net
present value discounted at 30%. The potential consideration is determined
annually from March 3, 2003 until March 1, 2007. The cumulative percentage
remitted to the participants was 20% for the March 3, 2003 and 30% for the March
1, 2004 determination dates and is 35% for the March 1, 2005, 40% for the March
1, 2006 and 50% for the March 1, 2007 determination dates. The contingent
consideration, if any, may be paid in the Company's common stock or cash at the
Company's option (with a minimum of 20% in cash) and in no event will exceed a
value of $50 million. On March 15, 2004 and March 17, 2003, the Company,
capitalized, as additional purchase price, and paid additional consideration in
cash, of $2.2 million and $0.9 million related to the March 1, 2004 and the
March 3, 2003 contingent consideration determination dates, respectively. Due to
the uncertainty inherent in estimating the value of future contingent
consideration which includes annual revaluations based upon, among other things,
drilling results from the date of the prior revaluation, and development,
operating and abandonment costs and production revenues (actual historical and
future projected, as contractually defined, as of each revaluation date) for the
Ring-Fenced Properties, total final consideration will not be determined until
March 1, 2007. All additional contingent consideration will be capitalized as
additional purchase price.
(4) EARNINGS PER SHARE
Basic earnings per share are computed by dividing income available to
common stockholders by the weighted average number of common shares outstanding
during the period. Diluted earnings per share reflect the potential dilution
that could occur if the Company's convertible preferred stock, options,
warrants and restricted units were converted to common stock.
The following table reconciles the net earnings and common shares
outstanding used in the calculations of basic and diluted earnings per share for
the three and six month periods ended June 30, 2004 and 2003.
WEIGHTED
NET INCOME AVERAGE
AVAILABLE COMMON
TO COMMON SHARES EARNINGS
STOCKHOLDER OUTSTANDING PER SHARE
----------- ----------- ---------
(IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
Three months ended June 30, 2004:
Basic................................... $ 13,835 32,913 $ 0.42
Effect of dilutive securities:
Preferred stock..................... 821 4,057
Stock options....................... -- 503
Warrants............................ -- 868
Restricted units.................... -- 9
--------- ------
Diluted................................. $ 14,656 38,350 $ 0.38
--------- ------
-7-
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
WEIGHTED
NET INCOME AVERAGE
AVAILABLE COMMON
TO COMMON SHARES EARNINGS
STOCKHOLDERS OUTSTANDING PER SHARE
------------ ----------- ---------
(IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
Three months ended June 30, 2003:
Basic................................... $ 6,611 31,291 $ 0.21
Effect of dilutive securities:
Preferred stock...................... 953 4,364
Stock options........................ -- 317
Warrants............................. -- 157
--------- ------
Diluted................................. $ 7,564 36,129 $ 0.21
--------- ------
WEIGHTED
NET INCOME AVERAGE
AVAILABLE COMMON
TO COMMON SHARES EARNINGS
STOCKHOLDERS OUTSTANDING PER SHARE
------------ ----------- ---------
(IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
Six months ended June 30, 2004:
Basic..................................... $ 20,352 32,667 $ 0.62
Effect of dilutive securities:
Preferred stock..................... 1,750 4,057
Stock options....................... -- 541
Warrants............................ -- 855
Restricted units.................... -- 8
--------- ------
Diluted.................................. $ 22,102 38,128 $ 0.58
--------- ------
WEIGHTED
NET INCOME AVERAGE
AVAILABLE COMMON
TO COMMON SHARES EARNINGS
STOCKHOLDERS OUTSTANDING PER SHARE
------------ ----------- ---------
(IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
Six months ended June 30, 2003:
Basic..................................... $ 19,938 29,481 $ 0.68
Effect of dilutive securities:
Preferred stock..................... 1,808 4,364
Stock options....................... -- 318
Warrants............................ -- 155
--------- ------
Diluted.................................. $ 21,746 34,318 $ 0.63
--------- ------
(5) HEDGING ACTIVITIES
The Company enters into hedging transactions with major financial
institutions to reduce exposure to fluctuations in the price of oil and natural
gas. Any gains or losses resulting from these hedging transactions are recorded
in other revenue in the statements of operations. Crude oil hedges are settled
based on the average of the reported settlement prices for West Texas
Intermediate crude on the New York Mercantile Exchange (NYMEX) for each month.
Natural gas hedges are settled based on the average of the last three days of
trading of the NYMEX Henry Hub natural gas contract for each month. The Company
also uses financially-settled crude oil and natural gas swaps, zero-cost collars
and options that provide floor prices with varying upside price participation.
With a financially-settled swap, the counterparty is required to make a
payment to the Company if the settlement price for any settlement period is
below the hedged price for the transaction, and the Company is required to make
a payment to the counterparty if the settlement price for any settlement period
is
-8-
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
above the hedged price for the transaction. With a zero-cost collar, the
counterparty is required to make a payment to the Company if the settlement
price for any settlement period is below the floor price of the collar, and the
Company is required to make a payment to the counterparty if the settlement
price for any settlement period is above the cap price for the collar. In some
hedges, we may modify our collar to provide full upside participation after a
limited non-participation range.
The Company had the following hedging contracts as of June 30, 2004:
NATURAL GAS POSITIONS
- ------------------------------------------------------------------------------------------------
VOLUME (Mmbtu)
------------------
REMAINING CONTRACT TERM CONTRACT TYPE STRIKE PRICE ($/Mmbtu) DAILY TOTAL
- ------------------------------- ------------- ---------------------- ------ ---------
07/04 - 12/04.................. Collar $ 4.00/$6.50 10,000 1,840,000
07/04 - 12/04.................. Collar $ 3.50/$8.00 10,000 1,840,000
CRUDE OIL POSITIONS
- ------------------------------------------------------------------------------------------------
VOLUME (Bbls)
-----------------
REMAINING CONTRACT TERM CONTRACT TYPE STRIKE PRICE ($/Bbl) DAILY TOTAL
- ------------------------------- ------------- -------------------- ----- -------
07/04 - 12/04.................. Swap $ 26.47 1,500 276,000
07/04 - 09/04.................. Collar $24.00/$29.00 1,500 138,000
10/04 - 12/04.................. Collar $24.00/$28.75 1,500 138,000
Subsequent to June 30, 2004, the Company entered into the following contracts:
NATURAL GAS POSITIONS
- ------------------------------------------------------------------------------------------------
VOLUME (Mmbtu)
-------------------
REMAINING CONTRACT TERM CONTRACT TYPE STRIKE PRICE ($/Mmbtu) DAILY TOTAL
- ------------------------------- ------------- ---------------------- ------ ---------
01/05 - 12/05.................. Collar $ 4.50/$10.75 20,000 7,300,000
CRUDE OIL POSITIONS
- ------------------------------------------------------------------------------------------------
VOLUME (Bbls)
-----------------
REMAINING CONTRACT TERM CONTRACT TYPE STRIKE PRICE ($/Bbl) DAILY TOTAL
- ------------------------------- ------------- -------------------- ----- -------
01/05 - 12/05.................. Collar $31.00/$44.05 2,000 730,000
Hedging activities reduced natural gas and crude oil revenues by $2.7
million and $4.4 million in the three and six month periods ended June 30, 2004
and reduced natural gas and crude oil revenues by $1.3 million and $8.8 million
in the three and six month periods ended June 30, 2003.
The following table reconciles the change in accumulated other
comprehensive income for the six month periods ending June 30, 2004 and 2003.
SIX MONTHS ENDED
JUNE 30, 2004
----------------------
(IN THOUSANDS)
Accumulated other comprehensive loss as of December 31, 2003 $ (2,441)
Net income............................................................ $ 22,102
Other comprehensive loss - net of tax
Hedging activities
Reclassification adjustments for settled contracts........... 2,818
Changes in fair value of outstanding hedging positions....... (3,629)
----------
Total other comprehensive loss.......................... (811) (811)
---------- ----------
Comprehensive income.................................................. $ 21,291
==========
Accumulated other comprehensive loss as of June 30, 2004.............. $ (3,252)
==========
-9-
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
SIX MONTHS ENDED
JUNE 30, 2003
--------------------
(IN THOUSANDS)
Accumulated other comprehensive loss as of December 31, 2002 $(2,171)
Net income ........................................................ $ 21,746
Other comprehensive income - net of tax
Hedging activities
Reclassification adjustments for settled contracts ..... 5,577
Changes in fair value of outstanding hedging positions.. (6,126)
--------
Total other comprehensive income .............. (549) (549)
-------- -------
Comprehensive income .............................................. $ 21,197
========
Accumulated other comprehensive loss as of June 30, 2003 .......... $(2,720)
=======
Based upon current prices, the Company expects to transfer approximately
$5.1 million of net deferred losses in accumulated other comprehensive loss as
of June 30, 2004 to earnings during the next twelve months when the forecasted
transactions actually occur.
(6) ASSET RETIREMENT OBLIGATION
In 2001, the Financial Accounting Standards Board (FASB) issued Statement
of Financial Accounting Standards No. 143, "Accounting for Asset Retirement
Obligations" (Statement 143). Statement 143 requires entities to record the fair
value of a liability for an asset retirement obligation in the period in which
it is incurred and a corresponding increase in the carrying amount of the
related long-lived asset and is effective for fiscal years beginning after June
15, 2002. The Company adopted Statement 143 effective January 1, 2003, using the
cumulative effect approach to recognize transition amounts for asset retirement
obligations, asset retirement costs and accumulated depreciation. The Company
previously recorded estimated costs of dismantlement, removal, site restoration
and similar activities as part of its depreciation, depletion and amortization
for oil and natural gas properties and recorded a separate liability for such
amounts in other liabilities. The effect of adopting Statement 143 on the
Company's results of operations and financial condition included a net increase
in long-term liabilities of $14.2 million; an increase in net property, plant
and equipment of $17.8 million; and a cumulative effect of adoption income of
$2.3 million, net of deferred income taxes of $1.3 million.
The following table reconciles the beginning and ending aggregate recorded
amount of the asset retirement obligation for the six months ended June 30,
2004.
SIX MONTHS ENDED
JUNE 30, 2004
-------------
(IN THOUSANDS)
December 31, 2003.................. $ 40,577
Accretion expense............... 1,799
Liabilities incurred............ 44
Liabilities settled............. (502)
Revisions in estimated cash
flows......................... (1,308)
------------
June 30, 2004...................... $ 40,610
============
(7) NEW ACCOUNTING PRONOUNCEMENTS
In December 2003, the FASB issued FASB Interpretation 46R, "Consolidation
of Variable Interest Entities (revised December 2003) - an interpretation of ARB
No. 51," (FIN 46R) which addresses how a business enterprise should evaluate
whether it has a controlling financial interest in an entity through means other
than voting rights and accordingly should consolidate the entity. FIN 46R
replaces FASB
-10-
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
Interpretation 46, "Consolidation of Variable Interest Entities," which was
issued in January 2003. The Company was required to apply FIN 46R to variable
interests in variable interest entities (VIEs) by March 31, 2004. The Company
has adopted FIN 46R, which does not currently have an impact on the financial
position, results of operations or cash flows of the Company.
Statement of Financial Accounting Standards No. 141, "Business
Combinations," (Statement 141) and No. 142, "Goodwill and Intangible Assets,"
(Statement 142) became effective for the Company on July 1, 2001 and January 1,
2002, respectively. Statement 141 requires all business combinations initiated
after June 30, 2001, to be accounted for using the purchase method.
Additionally, Statement 141 requires companies to disaggregate and report
separately from goodwill and certain other intangible assets. Under Statement
142, goodwill and certain other intangible assets are not amortized, but rather
are reviewed annually for impairment. The appropriate application of Statement
141 and 142 to oil and natural gas mineral rights held under lease and other
contractual arrangements representing the right to extract such reserves is
unclear. Depending on how the accounting and disclosure literature is clarified,
these oil and natural gas mineral rights held under lease and other contractual
arrangements representing the right to extract such reserves for both
undeveloped and developed leaseholds may be classified separately from oil and
natural gas properties, as intangible assets on the Company's balance sheets.
Additionally, disclosures required by Statements 141 and 142 would be included
in the notes to financial statements. Historically, the Company, like many other
oil and natural gas companies, have included these oil and gas mineral rights
held under lease and other contractual arrangements representing the right to
extract such reserves as part of the oil and natural gas properties, even after
Statements 141 and 142 became effective.
This interpretation of Statements 141 and 142 would affect only the
Company's balance sheet classification of oil and natural gas leaseholds. The
results of operations and cash flows would not be affected, since these oil and
natural gas mineral rights held under lease and other contractual arrangements
representing the right to extract such reserves would continue to be amortized
in accordance with accounting rules for oil and natural gas companies provided
in Statement of Financial Accounting Standards No. 19 "Financial Accounting and
Reporting by Oil and Gas Producing Companies."
At June 30, 2004, the Company had unproved and proved leaseholds of
approximately $5 million and $100 million that would have been classified on the
balance sheet as unproved intangible oil and natural gas properties and
intangible acquired proved leaseholds, respectively, if the Company had applied
the interpretation currently being deliberated by the Emerging Issues Task Force
(EITF). The FASB has issued FASB Staff Position (FSP) 141-1 and 142-1 under
which the Company would not be required to classify its unproved and proved
leaseholds as intangible assets. These FSPs are expected to become final in
2004. The Company will continue to classify oil and natural gas leaseholds as
oil and natural gas properties until further guidance is provided.
(8) COMMON STOCK
On April 16, 2003, the Company completed the public offering of
approximately 6.8 million shares of its common stock (the Equity Offering),
which was priced at $9.50 per share. The Equity Offering included 4.2 million
shares offered by the Company, 1.7 million shares offered by the Company's then
principal stockholder, Evercore Capital Partners L.P. and certain of its
affiliates, and 0.9 million shares offered by Energy Income Fund, L.P. In
addition, the underwriters exercised their option to purchase 1.0 million
additional shares to cover over-allotments, the proceeds from which went to
selling shareholders and not to the Company. After payment of underwriting
discounts and commissions, the offering generated net proceeds to the Company of
approximately $38.0 million. After expenses of approximately $0.5 million, the
proceeds were used to repay a portion of outstanding borrowings under the
Company's bank credit facility.
(9) INDEBTEDNESS
On August 5, 2003, the Company issued $150 million of 8.75% Senior Notes
Due 2010 (the Senior Notes) in a Rule 144A private offering (the Debt Offering)
which allows unregistered transactions with
-11-
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
qualified institutional buyers. In October 2003, the Company consummated an
exchange offer pursuant to which it exchanged registered Senior Notes having
substantially identical terms as the Senior Notes for the privately placed
Senior Notes. After discounts and commissions and estimated offering expenses,
the Company received $145.3 million, which was used to redeem all of the
outstanding 11% Senior Subordinated Notes Due 2009, that had been issued in
connection with a business combination in 2002, and to repay substantially all
of the borrowings outstanding under the Company's bank credit facility. The
remainder of the net proceeds will be used for general corporate purposes,
including acquisitions.
The Senior Notes mature on August 1, 2010 with interest payable each
February 1 and August 1, commencing February 1, 2004. The indenture relating to
the Senior Notes contains certain restrictions on the Company's ability to incur
additional debt, pay dividends on its common stock, make investments, create
liens on its assets, engage in transactions with its affiliates, transfer or
sell assets and consolidate or merge substantially all of its assets. The Senior
Notes are not subject to any sinking fund requirements.
On July 28, 2003 the Company amended its bank credit facility in
connection with the Debt Offering. The amendment reduced the borrowing base
under the bank credit facility to $60 million upon consummation of the Debt
Offering. The borrowing base remains subject to redetermination based on the
proved reserves of the oil and natural gas properties.
(10) SUPPLEMENTAL CONDENSED CONSOLIDATING FINANCIAL INFORMATION
In connection with the Debt Offering discussed above, all of the Company's
current active subsidiaries (the Guarantor Subsidiaries) jointly, severally and
unconditionally guaranteed the payment obligations under the Debt Offering. The
following supplemental financial information sets forth, on a consolidating
basis, the balance sheet, statement of operations and cash flow information for
Energy Partners, Ltd. (Parent Company Only) and for the Guarantor Subsidiaries.
The Company has not presented separate financial statements and other
disclosures concerning the Guarantor Subsidiaries because management has
determined that such information is not material to investors.
The supplemental condensed consolidating financial information has been
prepared pursuant to the rules and regulations for condensed financial
information and does not include all disclosures included in annual financial
statements, although the Company believes that the disclosures made are adequate
to make the information presented not misleading. Certain reclassifications were
made to conform all of the financial information to the financial presentation
on a consolidated basis. The principal eliminating entries eliminate investments
in subsidiaries, intercompany balances and intercompany revenues and expenses.
-12-
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
SUPPLEMENTAL CONDENSED CONSOLIDATING BALANCE SHEET
AS OF JUNE 30, 2004
(IN THOUSANDS)
PARENT
COMPANY GUARANTOR
ONLY SUBSIDIARIES ELIMINATIONS CONSOLIDATED
---- ------------ ------------ ------------
ASSETS
Current assets:
Cash and cash equivalents ........................ $ 94,624 $ -- $ -- $ 94,624
Trade accounts receivable ........................ 50,941 3,980 -- 54,921
Other current assets ............................. 7,989 -- -- 7,989
--------- --------- --------- ---------
Total current assets ......................... 153,554 3,980 -- 157,534
Property and equipment .............................. 499,867 187,205 -- 687,072
Less accumulated depreciation, depletion
and amortization ................................. (182,272) (73,828) -- (256,100)
--------- --------- --------- ---------
Net property and equipment ................... 317,595 113,377 -- 430,972
Investment in affiliates ............................ 81,012 -- (81,012) --
Notes receivable, long-term ......................... -- 69,000 (69,000) --
Other assets ........................................ 11,428 (49) -- 11,379
--------- --------- --------- ---------
$ 563,589 $ 186,308 $(150,012) $ 599,885
========= ========= ========= ========
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities:
Accounts payable and accrued expenses............. $ 74,732 $ 802 $ -- $ 75,534
Fair value of commodity derivative
instruments ..................................... 5,081 -- -- 5,081
Current maturities of long-term debt.............. -- 104 -- 104
--------- --------- --------- ---------
Total current liabilities .................... 79,813 906 -- 80,719
Long-term debt ...................................... 150,000 69,164 (69,000) 150,164
Other liabilities ................................... 46,698 35,225 -- 81,923
--------- --------- --------- ---------
276,511 105,295 (69,000) 312,806
Stockholders' equity
Preferred stock .................................. 33,268 -- -- 33,268
Common stock ..................................... 330 -- -- 330
Additional paid-in capital ....................... 236,183 -- -- 236,183
Accumulated other comprehensive loss ............. (3,252) -- -- (3,252)
Retained earnings ................................ 20,550 81,012 (81,012) 20,550
--------- --------- --------- ---------
Total stockholders' equity ................... 287,079 81,012 (81,012) 287,079
--------- --------- --------- ---------
$ 563,590 $ 186,307 $(150,012) $ 599,885
========= ========= ========= =========
-13-
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
SUPPLEMENTAL CONDENSED CONSOLIDATING STATEMENT OF OPERATIONS
SIX MONTHS ENDED JUNE 30, 2004
(IN THOUSANDS)
PARENT
COMPANY GUARANTOR
ONLY SUBSIDIARIES ELIMINATIONS CONSOLIDATED
---- ------------ ------------ ------------
Revenue:
Oil and natural gas ...................... $ 104,641 $ 33,755 $ -- $ 138,396
Other .................................... 11,660 136 (11,653) 143
--------- -------- --------- ---------
116,301 33,891 (11,653) 138,539
Costs and expenses:
Lease operating expenses ................. 10,428 9,148 -- 19,576
Taxes, other than on earnings ............ 934 3,386 -- 4,320
Exploration expenditures ................. 15,768 1,164 -- 16,932
Depreciation, depletion and amortization . 32,696 8,256 -- 40,952
General and administrative ............... 14,997 7,772 (7,500) 15,269
--------- -------- --------- ---------
Total costs and expenses ............. 74,823 29,726 (7,500) 97,049
Income from operations ...................... 41,478 4,165 (4,153) 41,490
Interest expense, net ....................... (6,685) (12) -- (6,697)
Income before income taxes .................. 34,793 4,153 (4,153) 34,793
Income taxes ............................... (12,691) -- -- (12,691)
--------- -------- --------- ---------
Net income .................................. $ 22,102 $ 4,153 $ (4,153) $ 22,102
========= ======== ========= =========
-14-
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
SUPPLEMENTAL CONDENSED CONSOLIDATING STATEMENT OF CASH FLOWS
SIX MONTHS ENDED JUNE 30, 2004
(IN THOUSANDS)
PARENT
COMPANY GUARANTOR
ONLY SUBSIDIARIES ELIMINATIONS CONSOLIDATED
---- ------------ ------------ ------------
Net cash provided by operating activities ............ $ 59,838 $ 8,820 $ -- $ 68,658
Cash flows used in investing activities:
Acquisition of business, net of cash
acquired ......................................... (2,166) -- -- (2,166)
Property acquisitions ............................. (2,280) (2,512) -- (4,792)
Exploration and development expenditures .......... (66,116) (6,260) -- (72,376)
Other property and equipment additions ............ (353) -- -- (353)
--------- -------- ------- ---------
Net cash used in investing activities ................ (70,915) (8,772) -- (79,687)
Cash flows provided by financing activities:
Repayments of long-term debt ...................... (100) (48) -- (148)
Deferred financing costs .......................... (7) -- -- (7)
Dividends paid .................................... (1,212) -- -- (1,212)
Exercise of stock options and warrants ............ 2,628 -- -- 2,628
--------- -------- ------- ---------
Net cash provided by financing activities ............ 1,309 (48) -- 1,261
--------- -------- ------- ---------
Net decrease in cash and cash equivalents ............ (9,768) -- -- (9,768)
Cash and cash equivalents at the beginning
of the period ..................................... 104,392 -- -- 104,392
--------- -------- ------- ---------
Cash and cash equivalents at the end of the period ... $ 94,624 $ -- $ -- $ 94,624
========= ======== ======= =========
(11) SUBSEQUENT EVENTS
On July 16, 2004 the Company filed a universal shelf registration
statement which, when declared effective, will allow the Company to issue an
aggregate of $300 million in common stock, preferred stock, senior debt and
subordinated debt in one or more separate offerings with the size, price and
terms to be determined at the time of the sale. The Company has no immediate
plans to enter into any transactions under this registration statement, but
plans to use the proceeds for general corporate purposes, which may include the
reduction of outstanding indebtedness, working capital increases, capital
expenditures or acquisitions.
On August 3, 2004 the Company amended and extended to August 3, 2008 its
bank credit facility. Under the amendment the initial borrowing base remains $60
million. The borrowing base will remain subject to redetermination based on the
proved reserves of the oil and natural gas properties.
(12) CONTINGENCIES
In the ordinary course of business, the Company is a defendant in various
legal proceedings. The Company does not expect its exposure in these
proceedings, individually or in the aggregate, to have a material adverse effect
on the financial position, results of operations or liquidity of the Company.
(13) RECLASSIFICATIONS
Certain reclassifications have been made to the prior period financial
statements in order to conform to the classification adopted for reporting in
fiscal 2004.
-15-
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
OVERVIEW
We were incorporated in January 1998 and operate in a single segment as an
independent oil and natural gas exploration and production company. Our current
operations are concentrated in the shallow to moderate depth waters of the Gulf
of Mexico Shelf.
During the first half of 2004, we reported another period of growth and
progress in implementing our long-term growth strategy. Our strong cash flow
provided us the flexibility to make necessary and appropriate investments to
continue our strategy. Our long-term strategy is to increase our oil and natural
gas reserves and production while keeping our finding and development costs and
operating costs competitive with our industry peers. We will implement this
strategy through drilling exploratory and development wells from our inventory
of available prospects that we have evaluated for geologic and mechanical risk
and future reserve or resource potential and by making acquisitions with a focus
in our core area of operations. Our drilling program contains some higher risk,
higher reserve potential opportunities as well as some lower risk, lower reserve
potential opportunities, in order to achieve a balanced program of reserve and
production growth.
We use the successful efforts method of accounting for our investment in
oil and natural gas properties. Under this method, we capitalize lease
acquisition costs, costs to drill and complete exploration wells in which proven
reserves are discovered and costs to drill and complete development wells.
Seismic, geological and geophysical and delay rental expenditures are expensed
as they are incurred. We conduct many of our exploration and development
activities jointly with others and, accordingly, recorded amounts for our oil
and natural gas properties reflect only our proportionate interest in such
activities. Our annual report on Form 10-K for the fiscal year ended December
31, 2003, includes a discussion of our critical accounting policies, which have
not changed significantly since the end of the fiscal year.
On April 16, 2003, we completed the public offering of approximately 4.2
million shares of our common stock, priced at $9.50 per share. The equity
offering also included shares offered by our then principal stockholder,
Evercore Capital Partners, L.P. and certain of its affiliates ("Evercore") and
by Energy Income Fund, L.P. After payment of underwriting discounts and
commissions, the offering generated net proceeds to us of approximately $38.0
million. After expenses of approximately $0.5 million, the proceeds were used to
repay a portion of outstanding borrowings under our bank credit facility.
On August 5, 2003, we issued $150 million of 8.75% Senior Notes Due 2010
(the "Senior Notes") in a Rule 144A private offering (the "Debt Offering") which
allows unregistered transactions with qualified institutional buyers. In October
2003, we consummated an exchange offer pursuant to which we exchanged registered
Senior Notes having substantially identical terms as the Senior Notes for
privately placed Senior Notes. After discounts and commissions and estimated
offering expenses, we received $145.3 million, which was used to (i) redeem all
of our outstanding 11% Senior Subordinated Notes Due 2009 (the "Notes"), which
had been issued in connection with a business combination in 2002, and (ii)
repay substantially all of the borrowings outstanding under our bank credit
facility. The remainder of the net proceeds will be used for general corporate
purposes, including potential acquisitions.
On August 3, 2004, we amended and extended to August 3, 2008 our bank
credit facility. Under the amendment our initial borrowing base remains $60
million. The borrowing base will remain subject to redetermination based on our
proved reserves of the oil and natural gas properties.
During 2003, Evercore on two occasions exercised a contractual right to
request us to register with the SEC the possible public sale of its shares of
our common stock. Subsequent to each of these requests, Evercore priced two
public offerings to sell shares of our common stock. These offerings completed
the sale of its interest in our company. We did not sell any shares in either of
these two offerings and did not receive any proceeds from the shares offered by
Evercore.
-16-
On July 16, 2004, we filed a universal shelf registration statement which, when
declared effective, will allow us to issue an aggregate of $300 million in
common stock, preferred stock, senior debt and subordinated debt in one or more
separate offerings with the size, price and terms to be determined at the time
of the sale. We have no immediate plans to enter into any transactions under
this registration statement, but plan to use the proceeds of any future offering
under this registration statement for general corporate purposes, which may
include the reduction of outstanding indebtedness, working capital increases,
capital expenditures or acquisitions.
Our revenue, profitability and future growth rate depend substantially on
factors beyond our control, such as economic, political and regulatory
developments and competition from other sources of energy. Oil and natural gas
prices historically have been volatile and may fluctuate widely in the future.
Sustained periods of low prices for oil and natural gas could materially and
adversely affect our financial position, our results of operations, the
quantities of oil and natural gas reserves that we can economically produce and
our access to capital.
We currently have an extensive inventory of drillable prospects in-house,
we are generating more prospects internally and we are exploring new
opportunities through relationships with industry partners. Despite our expanded
budget in 2004, strong commodity prices together with growing production volumes
should enable us to adhere to our policy of funding our exploration and
development expenditures with internally generated cash flow. This strategy
allows us to preserve our strong balance sheet to finance acquisitions. We
believe this year will provide us a number of opportunities to acquire targeted
properties with a focus in our core area of operations and allow us to look for
opportunities to diversify our reserve and production base beyond the Gulf of
Mexico Shelf.
RESULTS OF OPERATIONS
The following table presents information about our oil and natural gas
operations.
THREE MONTHS ENDED SIX MONTHS ENDED
JUNE 30, JUNE 30,
------------------ ------------------
2004 2003 2004 2003
---- ---- ---- ----
Net production (per day):
Oil (Bbls) ......................................... 8,411 7,483 8,200 7,746
Natural gas (Mcf) .................................. 87,054 73,607 82,094 71,817
Total barrels of oil equivalent (Boe) ........... 22,920 19,751 21,882 19,716
Oil and natural gas revenues (in thousands):
Oil ................................................ $ 25,412 $ 18,274 $ 48,583 $ 40,077
Natural gas ....................................... 49,565 35,872 89,813 71,023
Total ........................................... 74,977 54,146 138,396 111,100
Average sales prices, net of hedging:
Oil (per Bbl) ..................................... $ 33.20 $ 26.84 $ 32.55 $ 28.59
Natural gas (per Mcf) .............................. 6.26 5.36 6.01 5.46
Total (per Boe) ................................. 35.95 30.13 34.75 31.13
Impact of hedging:
Oil (per Bbl) ..................................... $ (3.40) $ (0.73) $ (2.54) $ (1.61)
Natural gas (per Mcf) .............................. (0.01) (0.12) (0.04) (0.50)
Average costs (per Boe):
Lease operating expense ............................ $ 4.70 $ 5.24 $ 4.92 $ 4.89
Taxes, other than on earnings ...................... 1.00 0.99 1.08 1.16
Depreciation, depletion and amortization ........... 10.65 10.87 10.28 10.40
Increase in oil and natural gas revenues between periods
presented (net of hedging) due to:
Changes in prices of oil ........................... $ 4,333 $ 5,560
Changes in production volumes of oil ............... 2,805 2,946
Total increase in oil sales ..................... 7,138 8,506
Changes in prices of natural gas ................... $ 6,068 $ 7,137
Changes in production volumes of natural gas ....... 7,625 11,653
Total increase in natural gas sales ............. 13,693 18,790
-17-
REVENUES AND NET INCOME
Our oil and natural gas revenues increased to $75.0 million in the second
quarter of 2004 from $54.1 million in the second quarter of 2003. Our oil and
natural gas revenues increased to $138.4 million in the first half of 2004 from
$111.1 million in the first half of 2003. The increase for these periods is the
result of sharply increased natural gas and oil prices combined with an increase
in production from twelve new natural gas wells and five new oil wells brought
on production since the end of the second quarter of 2003. This production
increase was partially offset by natural reservoir declines.
We recognized net income of $14.7 million in the second quarter of 2004
compared to net income of $7.6 million in the second quarter of 2003. We
recognized net income of $22.1 million in the first half of 2004 compared to net
income of $21.7 million in the first half of 2003. The increase was primarily a
result of the increase in oil and natural gas revenues discussed above partially
offset by increased costs discussed below. In addition, the following item had a
significant impact on our net income in the first half of 2003 and affects the
comparability of the results of operations for the period:
- In January 2003, we adopted Statement 143, using the cumulative effect
approach to recognize transition amounts for asset retirement obligations,
asset retirement costs and accumulated depreciation. We previously
recorded estimated costs of dismantlement, removal, site restoration and
similar activities as part of our depreciation, depletion and amortization
for oil and natural gas properties and recorded a separate liability for
such amounts in other liabilities. The effect of adopting Statement 143 on
the results of operations for the six months ended June 30, 2003 included
a cumulative effect of adoption income of $2.3 million net of deferred
income taxes.
OPERATING EXPENSES
Operating expenses during the three and six month periods ended June 30, 2004
and 2003 were affected by the following:
- Lease operating expense increased to $9.8 million in the second quarter of
2004 from $9.4 million in the second quarter of 2003. Lease operating
expense increased to $19.6 million in the first half of 2004 from $17.4
million in the first half of 2003. The increase in both periods is a
result of the increase in production, which is primarily from newer fields
with lower fixed costs than our existing production. As a result we have
been able to maintain or reduce our costs on a barrel equivalent basis.
- Taxes, other than on earnings, increased to $2.1 million in the second
quarter of 2004 from $1.8 million in the second quarter of 2003. Taxes,
other than on earnings, increased to $4.3 million in the first half of
2004 from $4.2 million in the first half of 2003. The increase was due to
the increase in commodity prices. These taxes are expected to fluctuate
from period to period depending on our production volume from non-federal
leases and the commodity prices received.
- Exploration expenditures, including dry hole costs, increased to $7.5
million in the second quarter of 2004 from $3.9 million in the second
quarter of 2003. The expense in the second quarter of 2004 is comprised of
$5.5 million of costs for exploratory wells which were found to be not
commercially productive and $2.0 million of seismic expenditures and delay
rentals, whereas the expense in the second quarter of 2003 is comprised of
$2.7 million of costs for exploratory wells which were found to be not
commercially productive and $1.2 million of seismic expenditures and delay
rentals.
Exploration expenditures, including dry hole costs and property impairment
costs, increased to $16.9 million in the first half of 2004 from $5.2
million in the first half of 2003. The expense in 2004 is comprised of
$6.4 million of costs for exploratory wells which were found to be not
commercially productive, $6.9 million of proved property impairments at
our East Cameron 378 field and $3.7 million of seismic expenditures and
delay rentals, whereas the expense in the first half of 2003 is comprised
of $3.0 million of costs for exploratory wells which were found to be not
commercially productive and $2.2 million of seismic expenditures and delay
rentals.
Our exploration expenditures, including dry hole charges will vary
depending on the amount of our capital budget dedicated to exploration
activities and the level of success we achieve in exploratory drilling
activities.
-18-
- Depreciation, depletion and amortization increased to $22.2 million in the
second quarter of 2004 from $19.5 million in the second quarter of 2003.
The increase was due to higher production. However, due to a shift in the
production contribution from our various fields, our expense per Boe has
decreased from $10.87 in the second quarter of 2003 to $10.65 in the
second quarter of 2004. Some fields carry a higher depreciation burden
than others; therefore, changes in the location of our production will
directly impact this expense.
Depreciation, depletion and amortization increased to $41.0 million in the
first half of 2004 from $37.1 million in the first half of 2003. The
increase was due to higher production. However, consistent with the
quarter activity, a shift in the production contribution from our various
fields has decreased our expense per Boe from $10.40 in the first half of
2003 to $10.28 in the first half of 2004.
- Other general and administrative expenses increased to $6.4 million in the
second quarter of 2004 from $5.6 million in the second quarter of 2003.
The change was primarily due to increased personnel costs of $0.9 million.
Other general and administrative expenses increased to $13.8 million in
the first half of 2004 from $13.0 million in the first half of 2003. The
change was primarily due to increased personnel costs of $0.2 million and
consulting costs of $0.5 million.
- Non-cash stock-based compensation expense of $0.7 million was recognized
in the second quarter of 2004 compared to $0.4 million in the second
quarter of 2003. Non-cash stock-based compensation expense of $1.5 million
was recognized in the first half of 2004 compared to $0.5 million in the
first half of 2003. The increased expense relates to new restricted stock
and performance share awards made to employees.
OTHER INCOME AND EXPENSE
INTEREST. Interest expense increased to $3.6 million in the second quarter
of 2004 from $1.6 million in the second quarter of 2003. Interest expense
increased to $7.2 million in the first half of 2004 from $3.4 million in the
first half of 2003. The increase was a result of interest expense on the 8.75%
Senior Notes issued in August 2003 partially offset by the interest savings from
the redemption of the Notes and the repayment of the bank credit facility.
LIQUIDITY AND CAPITAL RESOURCES
The trend of increased revenues we have experienced from 2003 and into the
first half of 2004 has continued to provide strong cash flows from operations
which totaled $68.7 million in the first half of 2004. We intend to fund our
exploration and development expenditures from internally generated cash flow,
which we define as cash flow from operations before consideration of changes in
working capital plus total exploration expenditures. Our cash on hand at June
30, 2004 was $94.6 million. Our future internally generated cash flows will
depend on our ability to maintain and increase production through our
development and exploratory drilling program, as well as the prices we receive
for oil and natural gas. We may, from time to time, use the availability of our
bank credit facility to fund working capital needs.
Our bank credit facility as amended on August 3, 2004 consists of a
revolving line of credit with a group of banks available through August 3, 2008
(the "bank credit facility"). The bank credit facility currently has a borrowing
base of $60 million that is subject to redetermination based on the proved
reserves of the oil and natural gas properties that serve as collateral for the
bank credit facility as set out in the reserve report delivered to the banks
each April 1 and October 1. The bank credit facility permits London interbank
offered rate ("LIBOR") borrowings plus a floating spread. The spread will float
up or down based on our utilization of the bank credit facility. The spread can
range from 1.25% to 2.00% above LIBOR. The borrowing base under the bank credit
facility is secured by substantially all of our assets. At August 3, 2005, we
did not have an outstanding balance leaving $60.0 million of credit capacity
available under the bank credit facility. In addition, we pay an annual fee on
the unused portion of the bank credit facility ranging between 0.375% to 0.5%
based on utilization. The bank credit facility contains customary events of
default and various financial covenants, which require us to: (i) maintain a
minimum current ratio of 1.0, and (ii) maintain a minimum EBITDAX to interest
-19-
ratio of 3.5 times. We were in compliance with both the then existing and
amended bank credit facility covenants as of June 30, 2004.
On August 5, 2003, we issued, in a private placement, $150 million of
8.75% Senior Notes due 2010. In October 2003, we consummated an exchange offer
pursuant to which we exchanged registered Senior Notes having substantially
identical terms as the Senior Notes for the privately placed Senior Notes. The
Senior Notes bear interest at a rate of 8.75% per annum with interest payable
semi-annually on February 1 and August 1, beginning February 1, 2004. We may
redeem the notes at our option, in whole or in part, at any time on or after
August 1, 2007 at a price equal to 100% of the principal amount plus accrued and
unpaid interest, if any, plus a specified premium which decreases yearly from
4.375% in 2007 to 0% in 2009 and thereafter. In addition, at any time prior to
August 1, 2006, we may redeem up to a maximum of 35% of the aggregate principal
amount with the net proceeds of certain equity offerings at a price equal to
108.75% of the principal amount, plus accrued and unpaid interest. The notes are
unsecured obligations and rank equal in right of payment to all existing and
future senior debt, including the bank credit facility, and will rank senior or
equal in right of payment to all existing and future subordinated indebtedness.
The indenture relating to the Senior Notes contains certain restrictions on our
ability to incur additional debt, pay dividends on our common stock, make
investments, create liens on our assets, engage in transactions with our
affiliates, transfer or sell assets and consolidate or merge substantially all
of our assets. The Senior Notes are not subject to any sinking fund
requirements.
Upon closing on the Senior Notes on August 5, 2003, we called our $38.4
million 11% notes due 2009 for redemption. The redemption of the Notes in
aggregate principal and accrued interest was funded with a portion of the
proceeds received from the Senior Notes and was completed in August 2003. The
Notes were issued in 2002 as part of a business combination. In addition, $39.9
million of the proceeds from the Senior Notes were used to pay down
substantially all of the borrowings under our bank credit facility. As a result
of the issuance of the Senior Notes, our bank credit facility borrowing base was
reduced from $100 million to $60 million.
Net cash of $79.7 million used in investing activities in the first six
months of 2004 consisted primarily of oil and natural gas property capital and
exploration and development expenditures. Dry hole costs resulting from
exploration expenditures are excluded from operating cash flows and included in
investing activities. During the first half of 2004, we completed 15 drilling
projects, 12 of which were successful and 10 recompletion/workover projects,
eight of which were successful. During the first half of 2003, we completed nine
drilling projects, seven of which were successful and 19 recompletion/workover
projects, 17 of which were successful.
Our 2004 exploration and development budget is focused on exploration,
exploitation and development activities on our proved properties combined with
moderate risk and higher risk exploratory activities on undeveloped leases and
does not include acquisitions. We currently intend to allocate approximately 60%
of our budget on an annual basis to low risk development and exploitation
activities, approximately 25% to moderate risk exploration opportunities and
approximately 15% to higher risk, higher potential exploration opportunities.
Our exploration and development budget for 2004 is approximately $175 million.
During the first six months of 2004, capital and exploration expenditures were
approximately $97.9 million inclusive of $2.2 million contingent consideration
payment resulting from an acquisition during 2002. The level of our capital and
exploration expenditure budget is based on many factors, including results of
our drilling program, oil and natural gas prices, industry conditions,
participation by other working interest owners and the costs and availability of
drilling rigs and other oilfield goods and services. Should actual conditions
differ materially from expectations, some projects may be accelerated or
deferred and, consequently, may increase or decrease total 2004 capital
expenditures.
We have experienced and expect to continue to experience substantial
working capital requirements, primarily due to our active capital expenditure
program. We believe that internally generated cash flows will be sufficient to
meet our capital requirements for at least the next twelve months. Availability
under the bank credit facility may be used to balance short-term fluctuations in
working capital requirements. However, additional financing may be required in
the future to fund our growth.
Our annual report on Form 10-K for the year ended December 31, 2003
included a discussion of our contractual obligations. There have been no
material changes to that disclosure during the six months ended June 30, 2004.
In addition, we do not maintain any off balance sheet transactions,
arrangements, obligations or other relationships with unconsolidated entities or
others that are reasonably likely to have a material current or future effect on
our financial condition, changes in financial condition, revenues and expenses,
results of operations, liquidity, capital expenditures or capital resources.
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NEW ACCOUNTING PRONOUNCEMENTS
In December 2003, the FASB issued FASB Interpretation 46R, "Consolidation
of Variable Interest Entities (revised December 2003) - an interpretation of ARB
No. 51," ("FIN 46R") which addresses how a business enterprise should evaluate
whether it has a controlling financial interest in an entity through means other
than voting rights and accordingly should consolidate the entity. FIN 46R
replaces FASB Interpretation 46, "Consolidation of Variable Interest Entities,"
which was issued in January 2003. We were required to apply FIN 46R to variable
interests in variable interest entities ("VIEs") by March 31, 2004. We have
adopted FIN 46R, which does not currently have an impact on our financial
position, results of operations or cash flows.
Statement of Financial Accounting Standards No. 141, "Business
Combinations," ("Statement 141") and No. 142, "Goodwill and Intangible Assets,"
("Statement 142") became effective for us on July 1, 2001 and January 1, 2002,
respectively. Statement 141 requires all business combinations initiated after
June 30, 2001, to be accounted for using the purchase method. Additionally,
Statement 141 requires companies to disaggregate and report separately from
goodwill and certain other intangible assets. Under Statement 142, goodwill and
certain other intangible assets are not amortized, but rather are reviewed
annually for impairment. The appropriate application of Statement 141 and 142 to
oil and natural gas mineral rights held under lease and other contractual
arrangements representing the right to extract such reserves is unclear.
Depending on how the accounting and disclosure literature is clarified, these
oil and natural gas mineral rights held under lease and other contractual
arrangements representing the right to extract such reserves for both
undeveloped and developed leaseholds may be classified separately from oil and
natural gas properties, as intangible assets on our balance sheets.
Additionally, disclosures required by Statements 141 and 142 would be included
in the notes to financial statements. Historically, we, like many other oil and
natural gas companies, have included these oil and gas mineral rights held under
lease and other contractual arrangements representing the right to extract such
reserves as part of the oil and natural gas properties, even after Statements
141 and 142 became effective.
This interpretation of Statements 141 and 142 would affect only our
balance sheet classification of oil and natural gas leaseholds. The results of
operations and cash flows would not be affected, since these oil and natural gas
mineral rights held under lease and other contractual arrangements representing
the right to extract such reserves would continue to be amortized in accordance
with accounting rules for oil and natural gas companies provided in Statement of
Financial Accounting Standards No. 19 "Financial Accounting and Reporting by Oil
and Gas Producing Companies."
At June 30, 2004, we had unproved and proved leaseholds of approximately
$5 million and $100 million that would have been classified on the balance sheet
as unproved intangible oil and natural gas properties and intangible acquired
proved leaseholds, respectively, if we had applied the interpretation currently
being deliberated by the Emerging Issues Task Force ("EITF"). The FASB has
issued FASB Staff Position ("FSP") 141-1 and 142-1 under which we would not be
required to classify our unproved and proved leaseholds as intangible assets.
These FSPs are expected to become final in 2004. We will continue to classify
oil and natural gas leaseholds as oil and natural gas properties until further
guidance is provided.
FORWARD LOOKING INFORMATION
All statements other than statements of historical fact contained in this
Report on Form 10-Q ("Report") and other periodic reports filed by us under the
Securities Exchange Act of 1934 and other written or oral statements made by us
or on our behalf, are forward-looking statements. When used herein, the words
"anticipates", "expects", "believes", "goals", "intends", "plans", or "projects"
and similar expressions are intended to identify forward-looking statements. It
is important to note that forward-looking statements are based on a number of
assumptions about future events and are subject to various risks, uncertainties
and other factors that may cause our actual results to differ materially from
the views, beliefs and estimates expressed or implied in such forward-looking
statements. We refer you specifically to the section "Additional Factors
Affecting Business" in Items 1 and 2 of our Annual Report on Form 10-K for the
year ended December 31, 2003. Although we believe that the assumptions on which
any forward-looking statements in this Report and other periodic reports filed
by us are reasonable, no assurance can
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be given that such assumptions will prove correct. All forward-looking
statements in this document are expressly qualified in their entirety by the
cautionary statements in this paragraph.
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
INTEREST RATE RISK
We are exposed to changes in interest rates. Changes in interest rates
affect the interest earned on our cash and cash equivalents and the interest
rate paid on borrowings under our bank credit facility. Currently, we do not use
interest rate derivative instruments to manage exposure to interest rate
changes. At June 30, 2004, none of our long-term debt had variable interest
rates; therefore an increase in the variable interest rate would not have a
material impact on net income.
COMMODITY PRICE RISK
Our revenues, profitability and future growth depend substantially on
prevailing prices for oil and natural gas. Prices also affect the amount of cash
flow available for capital expenditures and our ability to borrow and raise
additional capital. The amount we can borrow under our bank credit facility is
subject to periodic redetermination based in part on changing expectations of
future prices. Lower prices may also reduce the amount of oil and natural gas
that we can economically produce. We currently sell all of our oil and natural
gas production under price sensitive or market price contracts.
We use derivative commodity instruments to manage commodity price risks
associated with future oil and natural gas production. As of June 30, 2004, we
had the following contracts in place:
NATURAL GAS POSITIONS
- ---------------------------------------------------------------------------------------------
VOLUME (Mmbtu)
------------------
REMAINING CONTRACT TERM CONTRACT TYPE STRIKE PRICE ($/Mmbtu) DAILY TOTAL
----------------------- ------------- ---------------------- ----- -----
07/04 - 12/04.................. Collar $ 4.00/$6.50 10,000 1,840,000
07/04 - 12/04.................. Collar $ 3.50/$8.00 10,000 1,840,000
CRUDE OIL POSITIONS
- ---------------------------------------------------------------------------------------------
VOLUME (Bbls)
------------------
REMAINING CONTRACT TERM CONTRACT TYPE STRIKE PRICE ($/Bbl) DAILY TOTAL
----------------------- ------------- -------------------- ----- -----
07/04 - 12/04.................. Swap $26.47 1,500 276,000
07/04 - 09/04.................. Collar $24.00/$29.00 1,500 138,000
10/04 - 12/04.................. Collar $24.00/$28.75 1,500 138,000
Subsequent to June 30, 2004, we entered into the following contracts:
NATURAL GAS POSITIONS
- ---------------------------------------------------------------------------------------------
VOLUME (Mmbtu)
-------------------
REMAINING CONTRACT TERM CONTRACT TYPE STRIKE PRICE ($/Mmbtu) DAILY TOTAL
----------------------- ------------- ---------------------- ----- -----
01/05 - 12/05.................. Collar $ 4.50/$10.75 20,000 7,300,000
CRUDE OIL POSITIONS
- ---------------------------------------------------------------------------------------------
VOLUME (Bbls)
----------------
REMAINING CONTRACT TERM CONTRACT TYPE STRIKE PRICE ($/Bbl) DAILY TOTAL
----------------------- ------------- -------------------- ----- -----
01/05 - 12/05.................. Collar $31.00/$44.05 2,000 730,000
Our hedged volume as of June 30, 2004 approximated 28% of our estimated
production from proved reserves for the balance of the terms of the contracts.
Had these contracts been terminated at June 30, 2004, we estimate the loss would
have been $5.1 million.
We use a sensitivity analysis technique to evaluate the hypothetical
effect that changes in the market value of crude oil and natural gas may have on
the fair value of our derivative instruments. At June 30, 2004, the potential
change in the fair value of commodity derivative instruments assuming a 10%
increase in the underlying commodity price was a $2.4 million increase in the
combined estimated loss.
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For purposes of calculating the hypothetical change in fair value, the
relevant variables are the type of commodity (crude oil or natural gas), the
commodities futures prices and volatility of commodity prices. The hypothetical
fair value is calculated by multiplying the difference between the hypothetical
price and the contractual price by the contractual volumes.
ITEM 4. CONTROLS AND PROCEDURES
Under the supervision and with the participation of certain members of our
management, including the Chief Executive Officer and Chief Financial Officer,
we completed an evaluation of the effectiveness of our disclosure controls and
procedures (as defined in Rules 13a-15(e) and 15d-15(e) to the Securities
Exchange Act of 1934, as amended). Based on this evaluation, our Chief Executive
Officer and Chief Financial Officer believe that the disclosure controls and
procedures were effective as of the end of the period covered by this Report
with respect to timely communication to them and other members of management
responsible for preparing periodic reports of all material information required
to be disclosed in this Report as it relates to our Company and its consolidated
subsidiaries. There was no change in our internal control over financial
reporting during the quarter ended June 30, 2004 that has materially affected,
or is reasonably likely to materially affect, our internal control over
financial reporting.
Our management, including the Chief Executive Officer and Chief Financial
Officer, does not expect that our disclosure controls and procedures or our
internal controls will prevent all errors and all fraud. A control system, no
matter how well conceived and operated, can provide only reasonable, not
absolute, assurance that the objectives of the control system are met. Further,
the design of a control system must reflect the fact that there are resource
constraints, and the benefits of controls must be considered relative to their
costs. Because of the inherent limitations in all control systems, no evaluation
of controls can provide absolute assurance that all control issues and instances
of fraud, if any, within the company have been detected. These inherent
limitations include the realities that judgments in decision-making can be
faulty, and that breakdowns can occur because of simple error or mistake.
Additionally, controls can be circumvented by the individual acts of some
persons or by collusion of two or more people. The design of any system of
controls also is based in part upon certain assumptions about the likelihood of
future events, and there can be no assurance that any design will succeed in
achieving its stated goals under all potential future conditions; over time,
controls may become inadequate because of changes in conditions, or the degree
of compliance with the policies or procedures may deteriorate. Because of the
inherent limitations in a cost-effective control system, misstatements due to
error or fraud may occur and not be detected. Accordingly, our disclosure
controls and procedures are designed to provide reasonable, not absolute,
assurance that the objectives of our disclosure control system are met and, as
set forth above, our Chief Executive Officer and Chief Financial Officer have
concluded, based on their evaluation as of the end of the period, that our
disclosure controls and procedures were sufficiently effective to provide
reasonable assurance that the objectives of our disclosure control system were
met.
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PART II. OTHER INFORMATION
ITEM 4. SUBMISSION OF MATTERS TO THE VOTE OF SECURITY HOLDERS
a) At the Annual Meeting of Stockholders of the Company held on May 13, 2004,
the stockholders elected nine directors to serve until the 2005 Annual
Meeting of Stockholders and ratified the appointment of KPMG as the Company's
independent public accountants for the year ended December 31, 2004.
The voting tabulation is as follows:
FOR WITHHELD
Election as a Director of the Company:
Richard A. Bachmann 29,482,339 1,488,566
John C. Bumgarner, Jr. 30,068,237 902,668
Jerry D. Carlisle 30,001,475 969,430
Harold D. Carter 30,000,725 970,180
Enoch L. Dawkins 30,001,625 969,280
Robert D. Gershen 30,035,662 935,243
William O. Hiltz 20,916,320 10,054,585
Dr. Eamon M. Kelly 29,914,306 1,056,599
John G. Phillips 29,948,054 1,022,851
FOR AGAINST ABSTAIN
Ratify appointment of KPMG LLP as the Company's
independent public accountants: 30,809,060 148,358 13,487
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
(a) Exhibits:
10.1 Fourth Amended and Restated Credit Agreement Dated as of August 3, 2004
Among Energy Partners, Ltd., as Borrower, JP Morgan Chase Bank, as
Administrative Agent, BNP Paribas, as Syndication Agent, Wachovia Bank,
National Association and Wells Fargo Bank, National Association, as
Co-Documentation Agents and the Lenders Party Hereto.
10.2 First Amendment to Energy Partners, Ltd. Amended and Restated 2000 Long
Term Stock Incentive Plan.
10.3 Form of Nonqualified Stock Option Grant under the Energy Partners, Ltd.
Amended and Restated 2000 Long Term Stock Incentive Plan.
10.4 Form of Restricted Share Unit Agreement under the Energy Partners, Ltd.
Amended and Restated 2000 Long Term Stock Incentive Plan.
10.5 Form of Stock Option Grant under the Energy Partners, Ltd. 2000 Stock
Option Plan for Non-employee Directors.
31.1 Rule 13a-14(a)/15d-14(a) Certification of Chairman, President, and Chief
Executive Officer of Energy Partners, Ltd.
31.2 Rule 13a-14(a)/15d-14(a) Certification of Executive Vice President and
Chief Financial Officer of Energy Partners, Ltd.
32.0 Section 1350 Certifications.
(b) Reports on Form 8-K:
NONE
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SIGNATURE
Pursuant to the requirements of the Securities Exchange Act of 1934, the
registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
ENERGY PARTNERS, LTD.
Date: August 5, 2004 By: /s/ Suzanne V. Baer
----------------------------------
Suzanne V. Baer
Executive Vice President and Chief Financial Officer
(Authorized Officer and Principal Financial Officer)
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EXHIBIT INDEX
Exhibit
Number Description of Exhibit
- ------ ----------------------
10.1 Fourth Amended and Restated Credit Agreement Dated as of August 3, 2004
Among Energy Partners, Ltd., as Borrower, JP Morgan Chase Bank, as
Administrative Agent, BNP Paribas, as Syndication Agent, Wachovia Bank,
National Association and Wells Fargo Bank, National Association, as
Co-Documentation Agents and the Lenders Party Hereto.
10.2 First Amendment to Energy Partners, Ltd. Amended and Restated 2000 Long
Term Stock Incentive Plan.
10.3 Form of Nonqualified Stock Option Grant under the Energy Partners, Ltd.
Amended and Restated 2000 Long Term Stock Incentive Plan.
10.4 Form of Restricted Share Unit Agreement under the Energy Partners, Ltd.
Amended and Restated 2000 Long Term Stock Incentive Plan.
10.5 Form of Stock Option Grant under the Energy Partners, Ltd. 2000 Stock
Option Plan for Non-employee Directors.
31.1 Rule 13a-14(a)/15d-14(a) Certification of Chairman, President, and
Chief Executive Officer of Energy Partners, Ltd.
31.2 Rule 13a-14(a)/15d-14(a) Certification of Executive Vice President and
Chief Financial Officer of Energy Partners, Ltd.
32.0 Section 1350 Certifications.
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