TENGASCO INC - 10-Q - MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
Results of Operations and Financial Condition
During the first three months of 2016, 35.4 MBbl gross of oil were sold from the Company's properties. Of the 35.4 MBbl, 27.8 MBbl were net to the Company after required payments to all of the royalty interests and drilling program participants. The Company's net sales from its properties during the first three months of 2016 of 27.8 MBbl of oil compares to net sales of 35.6 MBbl of oil during the first three months of 2015. The Company's net revenue from its oil and gas properties was $782,000 during the first three months of 2016 compared to $1.5 million during the first three months of 2015. This decrease in net revenue was primarily due to a $407,000 decrease related to a $14.63 per barrel decrease in the average oil price from $42.30 per barrel during the first three months of 2015 to $27.67 per barrel during the first three months of 2016, and a $328,000 decrease related to the 7.7 MBbl decrease in sales volumes. The 7.7 MBbl decrease was primarily due to decreased sales volumes from the Albers B, Coddington, Dick A, Heyl, Howard A, Kraus B, Liebenau, Mosher, Veverka B and D leases. MMC revenues during the first three months of 2016 and 2015 were $150,000 and $116,000, respectively.
Comparison of the Quarters Ended March 31, 2016 and 2015
The Company reported a net loss of $1.4 million or $0.23 per share of common stock during the first quarter of 2016 compared to a net loss of $515,000 or $0.08 per share of common stock during the first quarter of 2015. The $889,000 increase in net loss was primarily due to a $702,000 decrease in revenues, a ceiling test impairment of $641,000 recorded in the first quarter of 2016 as a result of the low oil prices experienced during 2015 and 2016, and a $331,000 decrease in the associated tax benefit, partially offset by a $396,000 decrease in DD&A, a $363,000 decrease in production cost and taxes, and a $54,000 decrease in general and administrative cost.
The Company recognized $932,000 in revenues during the first quarter of 2016 compared to $1.6 million during the first quarter of 2015. The revenue decrease from 2015 levels was primarily due to a $407,000 decrease related to a $14.63 per barrel decrease in the average oil price from an average price of $42.30 per barrel during first quarter of 2015 compared to an average price of $27.67 per
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Table of Contents barrel during the first quarter of 2016, and a $328,000 decrease related to a 7.7 MBbl decrease in sales volumes, primarily from the Albers B, Coddington, Dick A, Heyl, Howard A, Kraus B, Liebenau, Mosher, Veverka B and D leases. In addition, there was a $34,000 increase in methane facility revenues related to higher runtimes and increased efficiency.
Production cost and taxes decreased $363,000 from $1.2 million during the first quarter of 2015 to $839,000 during the first quarter of 2016. This decrease was primarily due to a $155,000 change in oil inventory quarterly adjustment, a $58,000 decrease in utility cost, a $56,000 decrease in methane facility cost, and a $43,000 decrease in chemical cost.
DD&A decreased $396,000 from $732,000 during the first quarter of 2015 to $336,000 during the first quarter of 2016. This decrease was primarily due to a $242,000 decrease related to a lower oil depletion rate as a result of impairments in 2015 and 2016, and a $151,000 decrease related to a 7.7 MBbl decrease in oil sales volumes.
General and administrative costs decreased $54,000 from $554,000 during the first quarter of 2015 to $500,000 during the first quarter of 2016. This decrease was primarily due to a $48,000 reduction in legal and accounting cost. Personnel reductions announced during the first quarter of 2016, resulted in savings of payroll and benefit costs of approximately $19,000. However, these savings were offset by one time severance payments made to the severed personnel. The Company realized only a small portion of these saving as the reductions occurred late in the first quarter. In future quarters, the Company anticipates savings of approximately $125,000 per quarter as a result of these personnel reductions. These anticipated savings may be reduced as a result of using contractors and consultants on an as needed basis.
Liquidity and Capital Resources
At March 31, 2016, the Company had a revolving credit facility with Prosperity Bank. Under the credit facility, loans and letters of credit are available to the Company on a revolving basis in an amount outstanding not to exceed the lesser of $40 million or the Company's borrowing base in effect from time to time. As of March 31, 2016, the Company's borrowing base was approximately $3.2 million, the interest rate of prime plus 0.50% per annum, and the maturity date was January 30, 2018. The Company's interest rate at March 31, 2016 was 4.00%. The borrowing base is subject to an existing periodic redetermination provision in the credit facility. The credit facility is secured by substantially all of the Company's producing and non-producing oil and gas properties and the Company's Manufactured Methane facilities. The credit facility includes certain covenants with which the Company is required to comply. For the quarter ended December 31, 2015, the Company was in default on compliance with the Leverage Ratio covenant. On March 28, 2016, the credit facility was amended to delete the Leverage Ratio covenant, add a Debt to Tangible Net Worth covenant, waived the default on the Interest Coverage ratio for the quarter ended December 31, 2015, waived the anticipated default for the quarter ended March 31, 2016, and waived compliance with the Interest Coverage ratio for all applicable periods through the maturity date. Although the Company was in default of the Leverage and Interest Coverage ratios for the quarter ended December 31, 2015, the Company was in compliance at March 28, 2016 as a result of the amendment and waivers. As of March 31, 2016, the Company was in compliance with all covenants. The next borrowing base review will take place in August 2016.
The total borrowing by the Company under the Prosperity Bank facility at March 31, 2016 and December 31, 2015 was approximately $2.2 million and $869,000, respectively.
Although the Company has not been required as of the date of this Report to make any payment of principal on the credit facility, the Company can make no assurance that in view of the conditions in the national and world economies, including the realistic possibility of low commodity prices being received for the Company's oil and gas production for extended periods, that Prosperity Bank may not in the future make a redetermination of the Company's borrowing base to a point below the level of current borrowings. In such event, Prosperity Bank may require installment or other payments in such amount in order to reduce the principal of the Company's outstanding borrowing to a level not in excess of the borrowing base as it may be redetermined. The Company can make no assurance that it can continue normal operations indefinitely or for any specific period of time in the event of extended periods of low commodity prices, or upon the occurrence of any significant downturn or losses in operations. In such event, the Company may be required to reduce costs of operations by various means, including not undertaking certain maintenance or reworking operations that may be necessary to keep some of the Company's properties in production or to seek additional working capital by additional means such as issuance of equity including preferred stock or such other means as may be considered and authorized by the Company's Board of Directors from time to time.
Net cash provided by operating activities decreased $1.4 million from $340,000 provided by operating activities during the first three months of 2015 to $1.1 million used in operating activities during the first three months of 2016. Cash flow used in working capital was $683,000 during the first three months of 2016 compared to $436,000 provided by working capital during the first three months of 2015. The $1.1 million reduction in cash flow provided by working capital was primarily due to a $602,000 decrease related to a decrease in accounts payable during the first three months of 2015 as compared to an increase in accounts payable during the first three months of 2015. In addition, $326,000 of the decrease related to an increase in accounts receivable during the first three months of 2016 as compared to a decrease in accounts receivable during the first three months of 2015. The $1.4 million decrease in cash flow provided by operating activities was primarily due to a $1.1 million decrease in cash flow provided by working capital, and a $702,000 million decrease in revenues, partially offset by a $363,000 decrease in production cost and taxes, and a $54,000 decrease in general
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Table of Contents and administrative cost. Net cash used in investing activities was $301,000 during the first three months of 2016 compared to $377,000 used in investing activities during the first three months of 2015. The $76,000 decrease in net cash used in investing activities was primarily a result of a $150,000 reduction in drilling, seismic, and leasehold cost during the first three months of 2016 as compared to the first three months of 2015. Cash flow provided by financing activities during the first three months of 2016 was $1.4 million as compared to $85,000 during the first three months of 2015. This change was primarily due to lower cash flow from operating activities during the first three months of 2016 as compared to the first three months of 2015.
Critical Accounting Policies
During the quarter ended March 31, 2016, there were no changes to the critical accounting policies included in the Company's Annual Report on Form 10-K for the year ended December 31, 2015.
Commitments and Contingencies
The Company as designated operator of the Hoactzin properties was administratively issued an "Incident of Non-Compliance" by BSEE during the quarter ended September 30, 2012 concerning one of Hoactzin's operated properties. This action calls for payment of a civil penalty of $386,000 for failure to provide, upon request, documentation to the BSEE evidencing that certain safety inspections and tests had been conducted in 2011. In the 4th quarter of 2012, the Company filed an administrative appeal with the Interior Board of Land Appeals ("IBLA") of this action in order to attempt to significantly reduce the civil penalty. This appeal required a fully collateralized appeal bond to postpone the payment obligation until the appeal was determined. The Company posted and collateralized this bond with RLI Insurance Company. If the bond was not posted, the appeal would have been administratively denied and the order to the Company as operator to pay the $386,000 penalty would have become final. On June 23, 2014, the IBLA affirmed the civil penalty without reduction. On September 22, 2014, the Company sought judicial review of the June 23, 2014 agency action in the federal district court in the Eastern District of Louisiana at New Orleans. On July 14, 2015, the court affirmed the determination by the IBLA without reduction. The Company determined that further appeal of the determination was not likely to reduce the penalty and the Company did not further appeal. In the third quarter of 2015, the Company paid the civil penalty affirmed on appeal and statutory interest thereon from funds borrowed under its credit facility. The Company has not advanced any funds to pay any obligations of Hoactzin and no borrowing capability of the Company has been used in connection with its obligations under the Management Agreement, except for those funds used to pay the civil penalty and interest thereon.
During the second quarter of 2015, the Company received from Hoactzin a copy of an internal analysis prepared by Hoactzin setting out certain issues that Hoactzin may consider to form the basis of operational and other claims against the Company primarily under the Management Agreement. This analysis raised issues other than the "Incident of Non-Compliance" discussed previously. The Company is discussing this analysis, as well as the civil penalty discussed previously, with Hoactzin in an effort to determine whether there is possibility of a reasonable resolution of some or all of these matters on a negotiated basis.
During the quarter ended March 31, 2015, the Company initiated cost reduction measures including compensation reductions for each employee as well as members of the Board of Directors. These compensation reductions will remain in place until such time, if any, that the market price of crude oil, calculated as a thirty day trailing average of WTI postings as published by the U.S. Energy Information Administration meets or exceeds $70 per barrel when compensation shall revert to the levels in place before the reductions became effective. At such time, if any, that the market price of crude oil, calculated as a thirty day trailing average of WTI postings as published by the U.S. Energy Information Administration meets or exceeds $85 per barrel, all previous reductions made will be reimbursed to each employee and members of the Board of Directors if he is still employed by the Company or still a member of the Board of Directors. As of March 31, 2016, the reductions were approximately $124,000. This amount was reduced from the $142,000 as of December 31, 2015 as a result of personnel reductions which took place during the first quarter of 2016. The Company has not accrued any liabilities associated with these compensation reductions.
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