QEP RESOURCES, INC. Management's Discussion and Analysis of Financial Condition and Results of Operations (MD&A) is intended to provide the reader of the financial statements with a narrative from the perspective of management on the financial condition, results of operations, liquidity and certain other factors that may affect the Company's operating results. MD&A should be read in conjunction with the Consolidated Financial Statements and related Notes included in Item 8 of Part II of this Annual Report on Form 10-K and also with "Risk Factors" in Item 1A of this report. The following information updates the discussion of QEP's financial condition provided in its 2019 Annual Report on Form 10-K filing, and analyzes the changes in the results of operations between the years endedDecember 31, 2020 and 2019. Refer to Item 7 of Part II of the 2019 Annual Report on Form 10-K filing for discussion and analysis of the changes in results of operations between the years endedDecember 31, 2019 and 2018.
OVERVIEW
QEP is an independent crude oil and natural gas exploration and production company with operations in two regions ofthe United States : theSouthern Region (primarily inTexas ) and theNorthern Region (primarily inNorth Dakota ). Unless otherwise specified or the context otherwise requires, all references to "QEP" or the "Company" are toQEP Resources, Inc. and its subsidiaries on a consolidated basis. QEP's corporate headquarters are located inDenver, Colorado and shares of QEP's common stock trade on theNew York Stock Exchange (NYSE) under the ticker symbol "QEP". As a result of the reduction of the Company's operational footprint in 2019, QEP reassessed its organizational needs and significantly reduced its general and administrative expense to ensure its cost structure is competitive with industry peers. As a part of the strategic initiatives and reduction in general and administrative expense, QEP incurred costs associated with contractual termination benefits, including severance, accelerated vesting of share-based compensation and other expenses. Refer to Note 3 - Acquisitions and Divestitures and Note 8 - Restructuring in Item 8 of Part II of this Annual Report on Form 10-K for more information. The Company continues to focus on reducing its operating costs, per well drilling costs, general and administrative costs and managing its liquidity. We believe our plan to generate Free Cash Flow (a non-GAAP financial measure defined and reconciled in Item 7 of Part II of this Annual Report on Form 10-K) on an annual basis will allow us to further strengthen our balance sheet and ultimately return capital to shareholders.
Merger
OnDecember 20, 2020 , the Company entered into an Agreement and Plan of Merger (Merger Agreement) with Diamondback Energy, Inc. (Diamondback) andBohemia Merger Sub, Inc. , a wholly owned subsidiary of Diamondback (Merger Sub), which provides that, among other things, and subject to the terms and conditions of the Merger Agreement, Merger Sub will be merged with and into QEP, with QEP surviving as a direct, wholly owned subsidiary of Diamondback (Merger). Pursuant to the Merger Agreement, at the effective time of the Merger, each outstanding share of common stock, par value$0.01 per share, of the Company (other than any Excluded Shares, any Converted Shares and Company Restricted Stock Awards (each as defined in the Merger Agreement)) will be converted into the right to receive 0.05 shares, par value$0.01 per share, of common stock of Diamondback (Merger Consideration). The Merger Agreement also addresses the treatment of QEP equity awards in the Merger. Diamondback's common stock is listed and traded on the NASDAQ Global Select Market under the symbol "FANG". The transaction was unanimously approved by the Boards of Directors of both companies. The Merger is expected to close late in the first quarter of 2021, and is subject to the approval of the Company's stockholders and other customary closing conditions. During the year endedDecember 31, 2020 , the Company incurred$4.5 million of merger costs recognized in "General and administrative" expense on the Consolidated Statements of Operations and$5.0 million of additional merger costs were recognized in "Prepaid expenses" on the Consolidated Balance Sheets as ofDecember 31, 2020 . For additional information regarding the Merger and QEP's Board's process and rationale for the Merger, please see the proxy statement and other documents filed with theSEC as they become available. 65 --------------------------------------------------------------------------------
Acquisitions and Divestitures
QEP's strategy is to generate Free Cash Flow, and it believes its inventory of identified drilling locations provides a solid base to achieve its strategy, but it will continue to evaluate and potentially acquire properties in its operating areas to add additional development opportunities and facilitate the drilling of long lateral wells. Acquisitions During the years endedDecember 31, 2020 and 2019, QEP acquired various oil and gas properties, which primarily included proved leasehold acreage in thePermian Basin , for an aggregate purchase price of$4.1 million and$3.5 million , respectively, subject to post-closing purchase price adjustments.
Divestitures
During the year endedDecember 31, 2020 , QEP received net cash proceeds of$13.8 million and recorded a pre-tax gain on sale of$1.2 million , primarily related to the divestiture of properties outside its main operating areas. InJanuary 2019 , QEP sold itsHaynesville/Cotton Valley assets (Haynesville Divestiture) and during the year endedDecember 31, 2019 , reached final settlement on asserted environmental and title defects and received aggregate net cash proceeds of$633.9 million . QEP recorded a total net pre-tax loss on sale, including restructuring costs, of$4.0 million . During the years endedDecember 31, 2019 and 2018, QEP recorded a pre-tax loss on sale, including restructuring costs, of$1.0 million and$3.0 million , respectively, which was recorded within "Net gain (loss) from asset sales, inclusive of restructuring costs" on the Consolidated Statements of Operations. Refer to Note 3 - Acquisitions and Divestitures in Item 8 of Part II of this Annual Report on Form 10-K for more information. In addition to the Haynesville Divestiture, during the year endedDecember 31, 2019 , QEP received net cash proceeds of$45.0 million and recorded a net pre-tax gain on sale of$4.9 million primarily related to the divestiture of properties outside our main operating areas. InNovember 2018 , the Company's wholly owned subsidiary,QEP Energy Company , entered into a purchase and sale agreement for its assets in theWilliston Basin for a purchase price of$1,725.0 million , subject to purchase price adjustments. The purchase price was comprised of$1,650.0 million in cash and contractual rights to receive$75.0 million of the buyer's common stock if certain conditions were met. The transaction was subject to certain conditions, including, but not limited to, approval by the buyer's shareholders and regulatory approvals. As a result of signing the purchase and sale agreement, the Company recorded impairments of proved and unproved properties of$1,560.9 million during the year endedDecember 31, 2018 . InFebruary 2019 , the Company agreed with the buyer to terminate the purchase and sale agreement (TerminatedWilliston Basin Divestiture). Refer to Note 3 - Acquisitions and Divestitures in Item 8 of Part II of this Annual Report on Form 10-K for more information. InSeptember 2018 , QEP sold its natural gas and oil producing properties, undeveloped acreage and related assets located in theUinta Basin for net cash proceeds of$153.0 million (Uinta Basin Divestiture). In addition, during the years endedDecember 31, 2019 and 2018, QEP recorded a pre-tax loss of$0.2 million and$12.6 million , respectively, which were recorded within "Net gain (loss) from asset sales, inclusive of restructuring costs" on the Consolidated Statements of Operations. In conjunction with the Uinta Basin Divestiture, QEP recorded$402.8 million of proved and unproved properties impairment during the year endedDecember 31, 2018 . Refer to Note 1 - Summary of Significant Accounting Policies and Note 3 - Acquisitions and Divestitures in Item 8 of Part II of this Annual Report on Form 10-K for more information. As a part of the strategic initiatives and the associated divestitures, QEP has incurred costs associated with contractual termination benefits, including severance, accelerated vesting of share-based compensation and other expenses. Refer to Note 8 - Restructuring in Item 8 of Part II of this Annual Report on Form 10-K for more information. 66 --------------------------------------------------------------------------------
Financial and Operating Highlights
During the year ended
•Generated net income of$3.2 million , or$0.01 per diluted share; •Reported$649.9 million of Adjusted EBITDA (a non-GAAP measure defined and reconciled in Item 7 of Part II of this Annual Report on Form 10-K), a 2% decrease from 2019; •Reported net cash provided by operating activities of$673.2 million ; •Reported Free Cash Flow (a non-GAAP measure defined and reconciled in Item 7 of Part II of this Annual Report on Form 10-K) of$225.4 million in 2020 compared to Free Cash Flow outspend of$9.8 million in 2019; •Reduced general and administrative expenses by 40% compared to 2019; •Received$170.7 million in AMT credits refunds due to changes enacted by the CARES Act, inclusive of$5.6 million in interest income; •Reduced principal amount of outstanding debt by$430.5 million ; •Recorded an additional income tax receivable of$61.6 million for AMT credit refunds related to NOL carrybacks due to changes enacted by the CARES Act; •Reported year-end total proved reserves of 363.4 MMboe, including proved crude oil and condensate reserves of 237.9 MMbbls; •Delivered oil and condensate production of 12.6 MMbbls in thePermian Basin ; •Delivered oil equivalent production of 30.3 MMboe; •Incurred capital expenditures (excluding property acquisitions) of$327.9 million , a 43% decrease from 2019; and •Entered into the Merger Agreement onDecember 20, 2020 , with Diamondback and Merger Sub, pursuant to which QEP will become a direct, wholly owned subsidiary of Diamondback. Outlook The novel Coronavirus disease (COVID-19) has created unprecedented challenges for our industry, customers and employees. Throughout the global pandemic, the Company has continued to take actions suggested by theCenters for Disease Control and Prevention as well as state and local governments in the areas in which the Company operates to protect the core of its business and to ensure the health and safety of its employees, business partners and communities. Starting inMarch 2020 , the Company instituted various measures, including remote working and business travel restrictions, and we remain engaged with our business and community partners on how we can assist them during this time. The Company continues to evaluate safeguards and has implemented procedures and policies to help protect the health and safety of the portion of the workforce whose jobs cannot be completed remotely, including those who run our field operations. We continue to monitor the guidelines and recommendations provided by the relevant authorities, and we will continue to ensure we are implementing the suggested protocols to help reduce the spread of the virus. In light of market conditions, during the year endedDecember 31, 2020 , the Company took significant steps to proactively manage its cash flow and preserve liquidity by suspending completion operations in thePermian Basin inMarch 2020 until the fourth quarter of 2020. In theWilliston Basin , operated completion activity was reduced and the refracturing program was suspended in the second quarter of 2020 through the end of 2020. While these decisions resulted in lower oil production during the year, the Company has started to see the market recover to pre-pandemic levels, and has added a second drilling rig to thePermian Basin to increase production in the area. The Company believes that it will be able to maintain positive cash flow and protect its balance sheet, with the ultimate goal of protecting shareholder returns over the long term. In the event future market conditions return to near historic lows, we are prepared to reduce activity further for an extended period and continue to reduce expenses and per well costs to the lowest and most efficient structure possible. Due to the Company's derivative positions and the continued initiative in reducing drilling and completion costs, the Company expects to generate Free Cash Flow in 2021. In addition to generating Free Cash Flow, changes enacted under the CARES Act have created significant income tax refunds for the Company. During the year endedDecember 31, 2020 , the Company received$170.7 million in AMT credit refunds, inclusive of$5.6 million in interest income, and as ofDecember 31, 2020 the Company has recorded an additional$61.6 million income tax receivable for AMT credit refunds, of which$30.7 million is expected to be received in the next 12 months. The Company expects that the generation of Free Cash Flow, cash on hand, the AMT credit refunds and, as needed, borrowings made under its revolving credit facility will be sufficient to meet its liquidity needs for the next 12 months.
The Company believes that the overall reduction of global spending on new
development projects, especially in the
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--------------------------------------------------------------------------------the actions taken, and continuing to be taken, and the expected stabilization of the global economy, the Company expects to emerge in a stronger position.
Based on current commodity prices, we expect to be able to fund our planned capital program for 2021 with cash on hand, cash flow from operating activities and, as needed, borrowings under our revolving credit facility. We continuously evaluate our level of drilling and completion activity in light of commodity prices, drilling results and changes in our operating and development costs and will adjust our capital investment program based on such evaluations. See "Cash Flow from Investing Activities" for further discussion of our capital expenditures.
Factors Affecting Results of Operations
Strategic Initiatives During the years endedDecember 31, 2020 and 2019, we continued to pursue several strategic initiatives to maximize shareholder value. Organizational modifications due to these strategic initiatives can alter risk and control environments; disrupt ongoing business; distract management and employees; increase expenses; result in additional liabilities, investigations and litigation; and impact corporate strategy - all of which could adversely affect our results of operations. For example, during 2019, we incurred significant general and administrative expense, including transaction costs, retention bonuses and severance payments, in connection with the strategic initiatives. Refer to Note 8 - Restructuring in Item 8 of Part II of this Annual Report on Form 10-K for more information. Supply, Demand, Market Risk and their Impact on Oil and Gas Prices Crude oil prices were negatively impacted by a variety of factors affecting current and expected supply and demand dynamics, including: the COVID-19 pandemic and related shut-down of various sectors of the global economy, which has resulted in a significant reduction in global demand for crude oil; resilientU.S. supply driven by advances in drilling and completion technologies; and the delay of an agreement in early 2020 among members of theOrganization of Petroleum Exporting Countries (OPEC) and other oil producing countries regarding production levels, resulting in an increased supply in the global market. Other factors impacting the supply and demand of our products include weather conditions, pipeline capacity constraints, inventory storage levels, basis differentials, export capacity, strength of theU.S. dollar and other factors, the majority of which are outside our control. WhileOPEC and other oil producing countries have reduced production levels, andU.S. production has declined, a significant crude oil price recovery is not expected until global supply matches current lower levels of demand caused by the factors mentioned above, including the COVID-19 pandemic. The Company cannot predict if or when commodity prices will stabilize or at what levels. Changes in the market prices for oil, gas and NGL directly impact many aspects of QEP's business, including its financial condition, revenues, results of operations, planned drilling and completion activity and related capital expenditures, our proved undeveloped (PUD) reserves conversion rate, liquidity, rate of growth, costs of goods and services required to drill, complete and operate wells, and the carrying value of its oil and gas properties. The decline in price of crude oil negatively impacted our oil revenue during the year endedDecember 31, 2020 , but the value of our realized oil derivatives portfolio increased significantly, helping to offset the negative impact. Additionally, the volatility in commodity prices has impacted the Company's stock price and the fair value of the Company's debt securities, all of which impact our financial and operating results. Due to the changes in our drilling plans, our 2020 PUD conversions were 30.1 MMboe, or 21% lower than originally anticipated. Our future drilling plans, including our level of expenditures for the development of our oil and condensate reserves, total PUD reserves, operations and financial condition may be materially and adversely affected by declines in future oil prices. QEP's producing properties are primarily located in the Permian andWilliston basins. As a result of our lack of diversification in asset type and limited geographic diversification, any delays or interruptions of production caused by factors such as governmental regulation, transportation capacity constraints, curtailment of production or interruption of transportation, price fluctuations, natural disasters or shutdowns of the pipelines connecting our production to refineries would have a significantly greater impact on our results of operations than if we possessed more diverse assets and locations. 68 -------------------------------------------------------------------------------- Global Geopolitical and Macroeconomic Factors QEP continues to monitor the global economy, including global economic issues impacted by COVID-19; political and civil unrest; oil producing countries' oil production and policies regarding production quotas; actions taken by theUnited States Congress and the President ofthe United States ; theU.S. federal budget deficit; changes in regulatory oversight policy; the impact of regulations and public and financial market sentiment regarding environmental, social and governance matters; commodity price volatility; tariffs on goods we use in our operations or on the products we sell; the impact of a potential increase in interest rates; volatility in various global currencies; and other factors. A dramatic decline in regional or global economic conditions, a major recession or depression, regional political instability, economic sanctions, war, or other factors beyond the control of QEP have had, and could have, a significant impact on short-term and long-term oil and condensate, gas and NGL supply, demand and prices and the Company's ability to continue its planned drilling programs and which could materially impact the Company's financial position, results of operations and cash flow from operations. Disruption to the global oil supply system, political and/or economic instability, fluctuations in currency values, and/or other factors could trigger additional volatility in oil prices. Due to continued global economic uncertainty and the corresponding volatility of commodity prices, QEP continues to focus on maintaining a sufficient liquidity position to ensure financial flexibility. QEP uses commodity derivatives to reduce the volatility of the prices QEP receives for a portion of its production and to partially protect cash flow and returns on invested capital from a drop in commodity prices. Generally, QEP intends to enter into commodity derivative contracts for approximately 50% to 75% of its forecasted annual production by the end of the first quarter of each fiscal year. Gains on settled derivatives offset a large portion of the impact of the recent decline in oil prices and our oil revenues. See Item 7A - "Quantitative and Qualitative Disclosures about Market Risk - Commodity Price Risk Management", of Part II of this Annual Report on Form 10-K for further details concerning QEP's commodity derivatives transactions. Potential for Future Asset Impairments The carrying values of the Company's properties are sensitive to declines in oil, gas and NGL prices as well as increases in various development and operating costs and expenses and, therefore, are at risk of impairment. When an indicator of impairment is identified the Company uses a cash flow model to assess its proved properties and operating lease right-of-use (ROU) assets for impairment. The cash flow model includes numerous assumptions, including estimates of future oil and condensate, gas and NGL production, estimates of future prices for production that are based on the price forecast that management uses to make investment decisions, including estimates of basis differentials, future operating costs, transportation expenses, production taxes, and development costs that management believes are consistent with its price forecast, and discount rates. Management also considers a number of other factors, including the forward curve for future oil and gas prices and developments in regional transportation infrastructure, as well as merger agreements and purchase and sale agreements, if applicable, when developing its estimate of future prices for production. All inputs for the cash flow model are evaluated at each date of estimate. We base our estimates on projected financial information that we believe to be reasonably likely to occur. An assessment of the sensitivity of our capitalized costs to changes in the assumptions in our cash flow calculations is not practicable, given the numerous assumptions (e.g., future oil, gas and NGL prices; production and reserves; pace and timing of development plans; timing of capital expenditures; operating costs; drilling and development costs; and inflation and discount rates) that can materially affect our estimates. Unfavorable adjustments to some of the above listed assumptions would likely be offset by favorable adjustments in other assumptions. For example, the impact of sustained reduced oil, gas and NGL prices on future undiscounted cash flows would likely be offset by lower drilling and development costs and lower operating costs. The signing of a merger or purchase and sale agreement could also cause the Company to recognize an impairment of proved properties. For assets subject to a merger or purchase and sale agreement, the evaluation of terms of the merger or purchase and sale agreement are used as an indicator of fair value. During the year endedDecember 31, 2020 , the Company recorded an unproved property impairment of$8.7 million related to anticipated leasehold expirations. During the year endedDecember 31, 2019 , impairments were$5.0 million related to an office building lease. During the year endedDecember 31, 2018 , impairments were$1,560.9 million primarily due to impairments of proved and unproved properties as a result of signing purchase and sale agreements for the Terminated Williston Basin Divestiture and the Uinta Basin Divestiture. For more information see Item 1A - Risk Factors in Part I and Note 1 - Summary of Significant Accounting Policies, in Item 8 of Part II of this Annual Report on Form 10-K. 69 -------------------------------------------------------------------------------- We could be at risk for proved and unproved property and operating lease ROU asset impairments if current market conditions persist for an extended period of time, we experience negative changes in estimated reserve quantities, or the forward oil and gas prices decline fromDecember 31, 2020 levels. The actual amount of impairment incurred, if any, for oil and gas properties will depend on a variety of factors including, but not limited to, subsequent forward price curve changes, the additional risk-adjusted value of probable and possible reserves associated with the properties, weighted-average cost of capital, operating cost estimates and future capital expenditure estimates. Income Tax The Tax Cuts and Jobs Act enacted inDecember 2017 changed several aspects of corporate taxation, including decreasing our federal corporate tax rate from 35% to 21%, limiting the amount of interest the Company could potentially deduct and eliminating the corporate AMT. The elimination of the corporate AMT allowed the Company to claim AMT refunds for AMT credits carried forward from prior tax years. The CARES Act enacted inMarch 2020 permitted the Company to carry back its NOL generated in 2018 and 2019, creating additional AMT credits, and accelerate all of its AMT refunds. The Company received$170.7 million of AMT credit refunds in 2020, inclusive of$5.6 million in interest income, during the year endedDecember 31, 2020 , and$73.9 million of AMT credit refunds during the year endedDecember 31, 2019 . As ofDecember 31, 2020 , the Company expects to receive an additional$61.6 million in AMT credit refunds due to additional NOL carrybacks relating to the 2018 and 2019 tax years. The NOL's that were generated are primarily due to the issuance of final regulations by theU.S. Department of Treasury inJuly 2020 that relate to the deductibility of interest expense. Of the$61.6 million in AMT credit refunds to be received,$30.7 million is shown in "Income tax receivable" and$30.9 million included in "Other noncurrent assets" on the Consolidated Balance Sheet as ofDecember 31, 2020 . Multi-Well Pad Drilling and Completion To reduce the costs of well location construction and rig mobilization and demobilization and to obtain other efficiencies, QEP utilizes multi-well pad drilling, where practical. For example, in thePermian Basin , QEP utilizes "tank-style" development, in which we simultaneously develop multiple subsurface targets by drilling and completing all wells in a given "tank" before any individual well is turned to production. We believe this approach maximizes the economic recovery of oil and condensate through the simultaneous development of multiple subsurface targets, while improving capital efficiency through shared surface facilities, which we believe will reduce per-unit operating costs and result in expanded operating margins and improve our returns on invested capital. Because wells drilled on a pad are not completed and brought into production until all wells on the pad are drilled and the drilling rig is moved from the location, multi-well pad drilling delays the completion of wells, the commencement of production from new wells, and may negatively affect production from existing offset wells. In addition, existing wells that offset new wells being completed by QEP or offset operators may need to be temporarily shut-in during the completion process. Such delays and well shut-ins have caused and may continue to cause volatility in QEP's quarterly operating results. In addition, delays in completion of wells may impact the timing of planned conversion of PUD reserves to proved developed reserves. Uncertainties Related to Claims QEP is currently subject to claims that could adversely impact QEP's liquidity, operating results and capital expenditures for a particular reporting period, including, but not limited to those described in Note 10 - Commitments and Contingencies, in Item 8 of Part II of this Annual Report on Form 10-K. Given the uncertainties involved in these matters, QEP is unable to predict the ultimate outcomes. RESULTS OF OPERATIONSNet Income QEP generated net income during the year endedDecember 31, 2020 of$3.2 million , or$0.01 per diluted share, compared to a net loss of$97.3 million , or$0.41 per diluted share, in 2019. The increase in net income for the year endedDecember 31, 2020 , compared to the year endedDecember 31, 2019 , was primarily due to a$79.1 million decrease in unrealized derivative losses and a$36.9 million increase in income tax benefit.
See below for additional discussion regarding the components of net income
(loss) for the years ended
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--------------------------------------------------------------------------------Adjusted EBITDA (Non-GAAP)
Management defines Adjusted EBITDA (a non-GAAP measure) as earnings before
interest, income taxes, depreciation, depletion and amortization (EBITDA),
adjusted to exclude changes in fair value of derivative contracts, exploration
expenses, gains and losses from asset sales, impairment, gains or losses from
early extinguishment of debt and certain other items. Management uses Adjusted
EBITDA to evaluate QEP's financial performance and trends, make operating
decisions and allocate resources. Management believes the measure is useful
supplemental information for investors because it eliminates the impact of
certain nonrecurring, non-cash and/or other items that management does not
consider as indicative of QEP's performance from period to period. QEP's
Adjusted EBITDA may be determined or calculated differently than similarly
titled measures of other companies in our industry, which could reduce the
usefulness of this non-GAAP financial measure when comparing our performance to
that of other companies.
Below is a reconciliation of net income (loss) (a GAAP measure) to Adjusted
EBITDA. This non-GAAP measure should be considered by the reader in addition to,
but not instead of, the financial statements prepared in accordance with GAAP.
Year Ended December 31,
2020 2019 2018
(in millions)
Net income (loss) $ 3.2 $ (97.3) $ (1,011.6)
Interest expense 113.7 128.1 149.4
Interest and other (income) expense (9.8) (4.7) 9.6
Income tax provision (benefit) (79.9) (43.0) (317.4)
Depreciation, depletion and amortization 574.0 540.0 857.1
Unrealized (gains) losses on derivative contracts 59.2 138.3 (248.5)
Exploration expenses 0.2 0.1 0.3
Net (gain) loss from asset sales, inclusive of
restructuring costs (1.2) (3.9) (25.0)
Impairment 8.7 5.0 1,560.9
(Gain) loss from early extinguishment of debt (18.2) 1.0 -
Adjusted EBITDA $ 649.9 $ 663.6 $ 974.8
Adjusted EBITDA decreased to $649.9 million during the year ended December 31,
2020 , compared to $663.6 million in 2019, primarily due to a $472.8 million
decrease in oil and condensate, gas and NGL sales due to a 33% decrease in
average field-level oil prices, and a 6% decrease in total oil equivalent
production volumes, partially offset by a $327.0 million increase in realized
derivative gains, a $62.8 million reduction in general and administrative
expenses, a $41.3 million reduction in lease operating expenses and a $38.0
million reduction in production and property taxes.
Free Cash Flow (Non-GAAP)
Management defines Free Cash Flow as Adjusted EBITDA plus certain non-cash items
that are included in Net Cash Provided by (Used in) Operating activities but
excluded from Adjusted EBITDA less interest expense, excluding amortization of
debt issuance costs and discounts, and accrued property, plant and equipment
capital expenditures. Management believes that this measure is useful to
management and investors for analysis of the Company's ability to repay debt,
fund acquisitions or repurchase stock.
Free Cash Flow is not a measurement of our liquidity under GAAP and should not
be considered as an alternative to Net Cash Provided by (Used in) Operating
Activities as a measure of QEP's liquidity. Free Cash Flow has limitations as an
analytical tool and you should not consider it in isolation or as a substitute
for analysis of QEP's results as reported under GAAP, but rather as supplemental
information to QEP's business results. Free Cash Flow may not be comparable to
similarly titled measures of other companies due to potential differences in
methods of calculation and items or events being adjusted. In addition, other
companies may use different measures to evaluate their performance, all of which
could reduce the usefulness of Free Cash Flow as a tool for comparison.
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--------------------------------------------------------------------------------Below is a reconciliation of Net Cash Provided by (Used in) Operating Activities (the most comparable GAAP measure) to Free Cash Flow. This non-GAAP measure should be considered by the reader in addition to, but not instead of, the financial statements prepared in accordance with GAAP.
Year Ended December 31,
2020 2019 2018
(in millions)
Net Cash Provided by (Used in) Operating
Activities $ 673.2 $ 566.9 $ 816.2
Exploration expense 0.2 0.1 0.3
Amortization of debt issuance costs and discounts (4.7) (5.4) (5.4)
Interest expense 113.7 128.1 149.4
Unrealized (gains) losses on marketable securities 3.2 3.9 (1.2)
Interest and other (income) expense (9.8) (4.7) 9.6
Deferred income (taxes) benefit (110.6) (4.3) 247.6
Income tax provision (benefit) (79.9) (43.0) (317.4)
Non-cash share-based compensation (12.4) (20.8) (30.9)
Changes in operating assets and liabilities 77.0 42.8 106.6
Adjusted EBITDA 649.9 663.6 974.8
Non-cash share-based compensation 12.4 20.8 30.9
Interest expense, excluding amortization of debt
issuance costs and discounts (109.0) (122.7) (144.0)
Accrued property, plant and equipment capital
expenditures (327.9) (571.5) (1,176.6)
Free Cash Flow $ 225.4 $ (9.8) $ (314.9)
QEP generated Free Cash Flow of $225.4 million during the year ended
December 31, 2020 , compared to an outspend of $9.8 million during 2019. The
increase in the Company's cash flow generation is primarily due to a $243.6
million decrease in accrued property, plant and equipment capital expenditures,
primarily driven by suspending completion activity in March 2020 until the
fourth quarter of 2020 and by peer leading drilling and completion costs in the
Permian Basin . See above for additional discussion regarding the components of
the change in Adjusted EBITDA in 2020 compared to 2019.
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--------------------------------------------------------------------------------Revenue
The following table presents our revenues disaggregated by revenue source.
Year Ended December 31, Change
2020 2019 2018 2020 vs 2019 2019 vs 2018
(in millions)
Oil and condensate, gas and NGL sales $ 714.6 $ 1,187.4 $ 1,871.3 $ (472.8) $ (683.9)
Transportation and processing costs in
revenue(1) 62.5 54.9 55.0 7.6 (0.1)
Oil and condensate, gas and NGL sales,
as adjusted(2) $ 777.1 $ 1,242.3 $ 1,926.3 $ (465.2) (684.0)
Oil and condensate sales $ 691.8 $ 1,132.6 $ 1,422.4 $ (440.8) $ (289.8)
Gas sales 39.6 52.4 393.0 (12.8) (340.6)
NGL sales 45.7 57.3 110.9 (11.6) (53.6)
Oil and condensate, gas and NGL sales,
as adjusted(2) $ 777.1 $ 1,242.3 $ 1,926.3 $ (465.2) (684.0)
____________________________
(1)Transportation and processing costs in the table above are not representative of total transportation and processing costs incurred for the years endedDecember 31, 2020 , 2019 and 2018. Refer to the Operating Expenses section below for a reconciliation of total transportation and processing costs. (2)Above is a reconciliation of Oil and condensate, gas and NGL sales (a GAAP measure) as presented on the Consolidated Statements of Operations to Oil and condensate, gas and NGL sales, as adjusted (a non-GAAP measure). Oil and condensate, gas and NGL sales, as adjusted excludes transportation and processing costs that are included as part of "Oil and condensate, gas and NGL sales" on the Consolidated Statements of Operations. Management removes these costs from "Oil and condensate, gas and NGL sales" included on the Consolidated Statements of Operations to reflect total revenue associated with its production prior to deducting any expenses. Management believes that this non-GAAP measure is useful supplemental information for investors as it is reflective of the total revenue generated from its wells for the period. This non-GAAP measure should be considered by the reader in addition to but not instead of, the financial measure prepared in accordance with GAAP. Refer to Note 2 - Revenue in Item 8 of Part II of this Annual Report on Form 10-K for more information.
Revenue, Volume and Price Variance Analysis
The following table shows volume and price related changes for each of QEP's adjusted production-related revenue categories for the year endedDecember 31, 2020 compared to the years endedDecember 31, 2019 and 2018: Oil and condensate Gas NGL Total Oil and condensate, gas and NGL sales, as adjusted (in millions) Year ended December 31, 2018$ 1,422.4 $ 393.0 $ 110.9 $ 1,926.3 Changes associated with volumes(1) (141.0) (300.3) 11.4 (429.9) Changes associated with prices(2) (148.8) (40.3) (65.0) (254.1) Year ended December 31, 2019$ 1,132.6 $ 52.4 $ 57.3 $ 1,242.3 Changes associated with volumes(1) (96.5) (1.1) 0.5 (97.1) Changes associated with prices(2) (344.3) (11.7) (12.1) (368.1) Year ended December 31, 2020$ 691.8 $ 39.6 $ 45.7 $ 777.1 ____________________________ (1)The revenue variance attributed to the change in volume is calculated by multiplying the change in volumes from the years endedDecember 31, 2020 and 2019, as compared to the years endedDecember 31, 2019 and 2018, by the average field-level price for the years endedDecember 31, 2019 and 2018, respectively. 73 -------------------------------------------------------------------------------- (2)The revenue variance attributed to the change in price is calculated by multiplying the change in field-level prices from the years endedDecember 31, 2020 and 2019, as compared to the years endedDecember 31, 2019 and 2018, by the respective volumes for the years endedDecember 31, 2020 and 2019, respectively. Pricing changes are driven by changes in commodity field-level prices, excluding the impact from commodity derivatives. A comparison of net realized average oil, gas and NGL prices, including the realized gains and losses on commodity derivative contracts, but excluding transportation and processing costs reflected as part of "Oil and condensate, gas and NGL sales" on the Consolidated Statements of Operations, is provided in the following table: Year Ended December 31, Change 2020 2019 2018 2020 vs 2019 2019 vs 2018 Oil (per bbl) Average field-level price$ 35.08 $ 52.54 $ 59.43 $ (17.46) $ (6.89) Commodity derivative impact 15.03 (1.50) (6.41) 16.53 4.91 Net realized price$ 50.11 $ 51.04 $ 53.02 $ (0.93) $ (1.98) Gas (per Mcf) Average field-level price$ 1.22 $ 1.58 $ 2.82 $ (0.36) $ (1.24) Commodity derivative impact (0.14) (0.08) (0.04) (0.06) (0.04) Net realized price$ 1.08 $ 1.50 $ 2.78 $ (0.42) $ (1.28) NGL (per bbl) Average field-level price$ 8.82 $ 11.15 $ 23.79 $ (2.33) $ (12.64) Commodity derivative impact - - - - - Net realized price$ 8.82 $ 11.15 $ 23.79 $ (2.33) $ (12.64) Average net equivalent price (per Boe) Average field-level price$ 25.63 $ 38.57 $
37.15
9.63 (1.09) (3.06) 10.72 1.97
Net realized price $ 35.26 $ 37.48 $ 34.09 $ (2.22) $ 3.39
Oil and condensate sales. Oil and condensate sales were $691.8 million for the
year ended December 31, 2020 , a decrease of $440.8 million , or 39%, compared to
2019. This decrease was a result of a 33% decrease in average field-level prices
and a 9% decrease in aggregate oil and condensate production volumes. The
decrease in average field-level oil prices was driven by a decrease in average
NYMEX WTI oil prices, partially offset by a $0.37 per bbl, or 8%, decrease in
the basis differential relative to the average NYMEX WTI oil price in 2020
compared to 2019. The net realized price for 2020 was $50.11 per barrel, which
included a $15.03 per barrel positive impact from our settled derivative
contracts. The net realized price was 2% lower than the $51.04 per barrel net
realized price in 2019 primarily due to the significant decline in the average
field-level price, partially offset by the impact from our settled derivative
contracts. The 9% decrease in oil and condensate production volumes was
primarily driven by a decrease in production in the Permian and Williston basins
due to reduced drilling and temporary suspension of completion activity in 2020
in response to market conditions.
Gas sales. Gas sales were $39.6 million for the year ended December 31, 2020 , a
decrease of $12.8 million , or 24%, compared to 2019 due to lower average
field-level prices and lower gas production volumes. Average field-level prices
decreased 23% compared to 2019, primarily driven by a decrease in average
NYMEX-HH gas spot prices, partially offset by a $0.17 per Mcf, or 17%, decrease
in regional basis differentials relative to the average NYMEX-HH gas price in
comparable periods. Production volumes decreased 2% compared to 2019 primarily
due to the reduction in completion activity in the Williston Basin in response
to market conditions and the Haynesville Divestiture. These production decreases
were partially offset by increased production in the Permian Basin .
NGL sales. NGL sales were $45.7 million for the year ended December 31, 2020 , a
decrease of $11.6 million , or 20%, compared to 2019, due to lower average
field-level prices, partially offset by higher NGL production volumes. The 21%
decrease in NGL prices in 2020 compared to 2019 was primarily driven by a
decrease in propane, ethane and other NGL component prices. The 1% increase in
NGL production volumes was primarily driven by increased production in the
Williston basin, partially offset by decreased NGL recoveries in the Permian
Basin .
74
--------------------------------------------------------------------------------Operating Expenses
The following table presents QEP's production costs on a unit of production
basis:
Year Ended December 31, Change
2020 2019 2018 2020 vs 2019 2019 vs 2018
(in millions)
Lease operating expense $ 141.6 $ 182.9
116.9 103.6 172.6 13.3 (69.0)
Production and property taxes 57.9 95.9 130.8 (38.0) (34.9)
Total production costs $ 316.4 $ 382.4 $ 566.5 $ (66.0) $ (184.1)
(per Boe)
Lease operating expense $ 4.67 $ 5.68
3.85 3.22 3.33 0.63 (0.11)
Production and property taxes 1.91 2.98 2.52 (1.07) 0.46
Total production costs $ 10.43 $ 11.88 $ 10.92 $ (1.45) $ 0.96 ____________________________
(1)Below are reconciliations of transportation and processing costs (a GAAP
measure) as presented on the Consolidated Statements of Operations and on a unit
of production basis to adjusted transportation and processing costs (a non-GAAP
measure). Adjusted transportation and processing costs includes transportation
and processing costs that are reflected as part of "Oil and condensate, gas and
NGL sales" on the Consolidated Statements of Operations. Management adds these
costs together with transportation and processing costs reflected on the
Consolidated Statements of Operations to reflect the total operating costs
associated with its production. Management believes that this non-GAAP measure
is useful supplemental information for investors as it is reflective of the
total production costs required to operate the wells for the period. This
non-GAAP measure should be considered by the reader in addition to, but not
instead of, the financial statements prepared in accordance with GAAP. Refer to
Note 2 - Revenue in Item 8 of Part II of this Annual Report on Form 10-K for
more information.
75
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Year Ended December 31, Change
2020 2019 2018 2020 vs 2019 2019 vs 2018
(in millions)
Transportation and processing costs, as
presented $ 54.4 $ 48.7 $ 117.6 $ 5.7 $ (68.9)
Transportation and processing costs
deducted from oil and condensate, gas and
NGL sales 62.5 54.9 55.0 7.6 (0.1)
Adjusted transportation and processing
costs $ 116.9 $ 103.6
(per Boe)
Transportation and processing costs, as
presented $ 1.79 $ 1.51 $ 2.27 $ 0.28 $ (0.76)
Transportation and processing costs
deducted from oil and condensate, gas and
NGL sales 2.06 1.70 1.06 0.36 0.64
Adjusted transportation and processing
costs $ 3.85 $ 3.21 $ 3.33 $ 0.64 $ (0.12)
Lease operating expense (LOE). QEP's LOE decreased $41.3 million during the year
ended December 31, 2020 compared to 2019. The decrease in expense was driven by
a decrease in workover activity in the Williston Basin and a decrease in
maintenance and repairs expenses, power and fuel expenses, water disposal costs
and chemical expenses in the Williston and Permian basins as a result of
continuing efforts to reduce operating expenses.
During the year ended
Adjusted transportation and processing costs. QEP's adjusted transportation and processing costs increased$13.3 million during the year endedDecember 31, 2020 compared to 2019. The increase in expense during 2020 was primarily attributable to increased gathering and processing rates in theWilliston and Permian basins, partially offset by the recognition of$7.7 million of firm transportation expense during the year endedDecember 31, 2019 related to future obligations in an area in which the Company no longer has production obligations, the Haynesville Divestiture and decreased production in theWilliston and Permian basins. During the year endedDecember 31, 2020 , adjusted transportation and processing costs increased$0.64 per Boe, or 20%, compared to the year endedDecember 31, 2019 . The increase was primarily due to increased gathering and processing rates in theWilliston and Permian basins, partially offset by the recognition of$7.7 million of firm transportation expense during the year endedDecember 31, 2019 related to future obligations in an area in which the Company no longer has production obligations. Production and property taxes. QEP pays production taxes based on a percentage of field-level revenue. Production and property taxes decreased$38.0 million during 2020, primarily due to decreased revenues and the related production taxes in the Permian andWilliston basins and decreased property tax expense in thePermian Basin . During the year endedDecember 31, 2020 , production and property taxes decreased$1.07 per Boe, or 36%, compared to the year endedDecember 31, 2019 , primarily due to a decrease in revenues and the associated production taxes in the Permian andWilliston basins and lower property tax expense in thePermian Basin . Depreciation, depletion and amortization (DD&A). DD&A expense increased$34.0 million during the year endedDecember 31, 2020 , compared to 2019, primarily due to higher DD&A rates in theWilliston and Permian basins, partially offset by a decrease in production in theWilliston and Permian basins. Impairment expense. During the year endedDecember 31, 2020 , QEP recorded unproved property impairment charges of$8.7 million related to anticipated leasehold expirations. During the year endedDecember 31, 2019 , QEP recorded impairment charges of$5.0 million which related to the impairment of an office building lease. 76 --------------------------------------------------------------------------------
General and administrative (G&A) expense.
The following table presents detail about QEP's share-based compensation and deferred compensation components of QEP's total general and administrative expense, including the cash and non-cash components, for the years endedDecember 31, 2020 and 2019: Year Ended December 31, 2020 2019 Change
(in millions) General and administrative (excluding merger costs and share-based and deferred compensation)
$ 72.7 $ 128.1 $ (55.4) General and administrative merger costs(1) 4.1 - 4.1
General and administrative (share-based and deferred compensation): Cash share-based compensation(2)
2.8 4.6 (1.8)
Non-cash share-based compensation(1) (2) 12.4 20.8 (8.4)
Deferred compensation mark-to-market adjustments(3) 1.0 2.3 (1.3)
Total General and administrative $ 93.0 (per Boe) General and administrative (excluding merger costs and share-based and deferred compensation)
$ 2.40 $ 3.98 $ (1.58) General and administrative merger costs(1) 0.14 - 0.14
General and administrative (share-based and deferred compensation): Cash share-based compensation(2)
0.09 0.14 (0.05)
Non-cash share-based compensation(1) (2) 0.41 0.65 (0.24)
Deferred compensation mark-to-market adjustments(3) 0.03 0.07 (0.04)
Total General and administrative $ 3.07 ____________________________
(1)Total merger costs recognized in "General and administrative" expense during the year endedDecember 31, 2020 were$4.5 million , of which$4.1 million is presented as "General and administrative merger costs" and$0.4 million is presented as "Non-cash share-based compensation" as these costs relate to restricted share awards in which vesting was accelerated in accordance with the Merger Agreement. (2)Cash share-based compensation represents restricted cash awards, performance share units and restricted share units recorded under the Company's Long-Term Incentive Plan (LTIP) and Cash Incentive Plan. Non-cash share-based compensation represents stock options and restricted share awards recorded under the Company's LTIP. Refer to Note 11 - Share-Based and Long-Term Compensation in Item 8 of Part II of this Annual Report on Form 10-K for more information on share-based compensation. (3)Deferred compensation mark-to-market adjustments represent mark-to-market adjustments of the Company's non-qualified, unfunded deferred compensation wrap plan (Wrap Plan). Refer to Note 12 - Employee Benefits in Item 8 of Part II of this Annual Report on Form 10-K for more information on the Wrap Plan. During 2020, G&A expense decreased$62.8 million , or 40%, compared to 2019. During the years endedDecember 31, 2020 and 2019, QEP incurred$2.0 million and$50.1 million , respectively, in costs associated with the implementation of our strategic initiatives, of which$1.9 million and$43.4 million , respectively, was related to restructuring costs. Refer to Note 8 - Restructuring in Item 8 of Part II of this Annual Report on Form 10-K for more information on restructuring costs. Excluding these costs, QEP G&A expense decreased by$14.7 million , or 14%, primarily due to$19.6 million lower labor, benefits and other associated costs as a result of the reduction in our workforce, partially offset by$4.5 million of merger related costs associated with legal, financial advisory and accelerated restricted share awards costs. 77 -------------------------------------------------------------------------------- Net gain (loss) from asset sales, inclusive of restructuring costs. During the year endedDecember 31, 2020 , QEP recognized a gain on sale of assets of$1.2 million , compared to a gain on sale of$3.9 million during the year endedDecember 31, 2019 . The gain on sale of assets recognized in 2020 was primarily related to a net pre-tax gain on sale of$1.2 million from the divestiture of properties outside our main operating areas. The gain on sale of assets recognized in 2019 was primarily related to a net pre-tax gain on sale of$7.6 million from the divestiture of properties outside our main operating areas, partially offset by a$2.7 million pre-tax loss on the sale of the corporate aircraft and a pre-tax loss on sale, including restructuring costs, of$1.0 million related to the Haynesville Divestiture. Refer to Note 8 - Restructuring in Item 8, Part II of this Annual Report on Form 10-K for more information.
Non-Operating Expenses
Realized and unrealized gains (losses) on derivative contracts. Gains and losses on derivative contracts are comprised of both realized and unrealized gains and losses on QEP's commodity derivative contracts, which are marked-to-market each period. During the year endedDecember 31, 2020 , gains on commodity derivative instruments were$232.7 million , of which$59.2 million were unrealized losses related to our production contracts and$291.9 million were realized gains. During 2019, losses on commodity derivative instruments were$173.4 million , of which$140.1 million were unrealized losses and$35.1 million were realized losses, partially offset by$1.8 million of unrealized gains related to the Haynesville Divestiture. Refer to Note 6 - Derivative Contracts in Item 8 of Part II of this Annual Report on Form 10-K for more information. Gain (loss) on early extinguishment of debt. Gain on early extinguishment of debt increased by$19.2 million during the year endedDecember 31, 2020 , compared to 2019. The increase during the year endedDecember 31, 2020 was primarily due to a$27.1 million gain as a result of senior note repurchases, partially offset by a$7.4 million loss from the redemption of the 2021 Senior Notes and a$1.5 million loss associated with the write-off of non-cash deferred financing costs as part of amending the credit facility inJune 2020 (Refer to Note 9 - Debt in Item 8 of Part II of this Annual Report on Form 10-K for more information). Interest and other income (expense). Interest and other income (expense) increased by$5.1 million , or 109%, during the year endedDecember 31, 2020 compared to the year endedDecember 31, 2019 . The increase in other income was primarily related to the receipt of$5.6 million of interest income associated with the receipt of the AMT credit refunds. Interest expense. Interest expense decreased$14.4 million , or 11%, during the year endedDecember 31, 2020 , compared to 2019. The decrease during the year endedDecember 31, 2020 was primarily related to decreased interest expense on senior notes due to debt repurchases and redemptions and decreased borrowings under the credit facility, partially offset by a reversal of accrued interest on the Company's uncertain tax position that expired in the fourth quarter of 2019. Income tax (provision) benefit. Income tax benefit increased$36.9 million during the year endedDecember 31, 2020 compared to year endedDecember 31, 2019 . The combined effective federal and state income tax rate was 104.2% during the year endedDecember 31, 2020 , compared to 30.6% for the year endedDecember 31, 2019 . The 2020 tax rate was driven higher than the statutory tax rate by the remeasurement of deferred taxes due to NOL carrybacks under the CARES Act to a year with a higher federal tax rate and a change in the Company's blended state rate. The 2019 tax rate was driven higher than the statutory tax rate by the re-measurement of QEP's deferred tax assets and liabilities at a lower blended state tax rate due to exiting the state ofLouisiana and reversal of our uncertain tax position, partially offset by permanent difference items recognized in 2019 and an increase in the valuation allowance.
LIQUIDITY AND CAPITAL RESOURCES
QEP strives to maintain sufficient liquidity to ensure financial flexibility, withstand commodity price volatility, fund its development projects, operations and capital expenditures and return capital to shareholders. The Company utilizes derivative contracts to reduce the financial impact of commodity price volatility and provide a level of certainty to the Company's cash flows. QEP generally funds its operations and planned capital expenditures with cash flow from its operating activities, cash on hand and borrowings under its revolving credit facility, as needed. QEP also periodically accesses debt and equity markets and sells properties to enhance its liquidity. The Company expects that the annual generation of Free Cash Flow, cash on hand, AMT credit refund and, as needed, borrowings under its revolving credit facility, will be sufficient to fund its operations, capital expenditures, interest expense, and debt maturities, during the next 12 months. To the extent that the Company sells additional assets, the Company plans to use the proceeds to fund on-going operations, reduce debt and for general corporate purposes. During the year endedDecember 31, 2020 , QEP generated$225.4 million in Free Cash Flow, received cash proceeds of$170.7 million from the AMT credit refunds and received$13.8 million from the disposition of assets related to the divestiture of 78 -------------------------------------------------------------------------------- assets outside our main operating areas. The Company used the proceeds, as well as cash on hand, to repay$430.5 million in principal amount of outstanding debt and for general corporate purposes. During the year endedDecember 31, 2020 , QEP's Board approved a cash dividend of$0.02 per share of common stock in the first quarter of 2020 and paid$4.8 million in cash dividends in 2020. In an effort to preserve our liquidity, inMarch 2020 , the Board subsequently suspended the payment of quarterly dividends indefinitely. During the year endedDecember 31, 2019 , QEP received cash proceeds from the disposition of assets of$678.9 million , of which$633.9 million related to the Haynesville Divestiture and$45.0 million related to the divestiture of other assets outside our main operating areas. The net cash proceeds were used to pay down long-term debt outstanding under QEP's revolving credit facility, redeem senior notes and for general corporate purposes. During the year endedDecember 31, 2019 , QEP's Board approved the reinstatement of a quarterly cash dividend of$0.02 per share of common stock and paid a total of$9.6 million in cash dividends in 2019. As ofDecember 31, 2020 , the Company had$60.4 million in cash and cash equivalents, no borrowings outstanding and$14.1 million in letters of credit outstanding under the credit facility. The Company estimates, that as ofDecember 31, 2020 , it could incur additional indebtedness of approximately$750.0 million and incur up to$500.0 million of junior guaranteed indebtedness and remain in compliance with its financial covenants (as defined in the credit agreement). To the extent actual operating results, realized commodity prices or uses of cash differ from the Company's assumptions, QEP's liquidity could be adversely affected. Further, we may from time to time seek to retire, amend or restructure some or all of our outstanding debt or debt agreements through the use of cash purchases, exchanges, open market purchases, privately negotiated transactions, tender offers or otherwise. Such transactions, if any, will depend on prevailing market conditions, our liquidity requirements, contractual restrictions and other factors. The amounts involved may be material. Credit Facility InJune 2020 , QEP entered into the Eighth Amendment to its credit agreement, which, among other things, reduced the aggregate principal amount of commitments to$850.0 million , requires the Company's material subsidiaries to guarantee the obligations under the credit agreement, including certain swap obligations and modified the leverage ratio and present value financial covenants, such that they only pertain to net priority guaranteed debt (primarily consisting of borrowings under the credit facility and letters of credit). The amended credit agreement also provides the ability to use up to$500.0 million of loan proceeds to repurchase outstanding senior notes, provides the ability to issue subsidiary guarantees of up to$500.0 million of unsecured debt, with such guarantees being subordinated to the obligations under the credit agreement, and may limit the Company's ability to make certain restricted payments, including dividends. The amended credit agreement, which matures onSeptember 1, 2022 , provides for borrowings at short-term interest rates and contains customary covenants and restrictions and contains financial covenants (that are defined in the credit agreement) that limit the amount of debt the Company can incur and may limit the amount available to be drawn under the credit facility including: (i) a minimum liquidity amount of at least$100.0 million (ii) a net priority guaranteed leverage ratio under which net priority guaranteed debt may not exceed 2.50 times consolidated EBITDAX (as defined in the credit agreement), and (iii) a present value coverage ratio under which the present value of the Company's proved reserves must exceed net priority guaranteed debt by at least 1.50 times. As ofDecember 31, 2020 and 2019, QEP was in compliance with the covenants under the credit agreement. During the year endedDecember 31, 2020 , the Company recorded a$1.5 million loss associated with the write-off of non-cash deferred financing costs as part of amending the credit facility and recorded the loss within "Gain (loss) from early extinguishment of debt" on the statements of operations. During the year endedDecember 31, 2020 , QEP's weighted-average interest rate on borrowings from its credit facility was 2.60%. As ofDecember 31, 2020 , QEP had no borrowings outstanding and$14.1 million in letters of credit outstanding under the credit facility. As ofDecember 31, 2019 , QEP had no borrowings outstanding and$2.9 million in letters of credit outstanding under the credit facility. As ofFebruary 17, 2021 , QEP had no borrowings outstanding and had$14.1 million of letters of credit outstanding under the credit facility. Senior Notes The Company's senior notes outstanding as ofDecember 31, 2020 , totaled$1,601.9 million principal amount and are comprised of three issuances as follows:
•$465.1 million 5.375% Senior Notes due
79
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During the year ended December 31, 2020 , QEP repurchased, at a discount, $107.1
million in principal amount of its 6.875% Senior Notes due March 1, 2021 , $34.9
million in principal amount of its 5.375% Senior Notes due October 1, 2022 , and
$13.2 million in principal amount of its 5.25% Senior Notes due May 1, 2023 ,
resulting in a $27.1 million gain from early extinguishment of debt. In
addition, QEP redeemed the remaining $275.3 million in principal amount of its
6.875% Senior Notes due March 1, 2021 , resulting in a loss on early
extinguishment of debt of $7.4 million . In total, during the year ended
December 31, 2020 , the Company recorded a $19.7 million gain in "Gain (loss)
from early extinguishment of debt" in the statements of operations related to
the redemption and repurchase of senior notes.
Cash Flow from Operating Activities
Cash flows from operating activities are primarily affected by oil and condensate, gas and NGL production volumes and commodity prices (including the effects of settlements of the Company's derivative contracts), cash related operating expenses and by changes in working capital. QEP typically enters into commodity derivative transactions covering a substantial, but varying, portion of its anticipated future oil and condensate and gas production for the next 12 to 24 months.
Net cash provided by (used in) operating activities is presented below:
Year Ended December 31, Change
2020 2019 2018 2020 vs 2019 2019 vs 2018
(in millions)
Net income (loss) $ 3.2 (97.3) $
(1,011.6)
747.0 707.0 1,934.4 40.0 (1,227.4)
Changes in operating assets and
liabilities (77.0) (42.8) (106.6) (34.2) 63.8
Net cash provided by (used in)
operating activities $ 673.2 $ 566.9 $ 816.2 $ 106.3 $ (249.3)
Net cash provided by operating activities during the year ended December 31,
2020 , increased $106.3 million compared to 2019, which was due to a $100.5
million increase in net income and a $40.0 million increase in non-cash
adjustments to net income, partially offset by a $34.2 million increase in cash
from operating assets and liabilities. During the year ended December 31, 2020 ,
non-cash adjustments to net income primarily included DD&A expense of $574.0
million , deferred income taxes of $110.6 million and unrealized losses on
derivative contracts of $59.2 million . The change in operating assets and
liabilities of $77.0 million was primarily due to a decrease in accounts payable
and accrued expenses of $42.4 million and an increase in other asset balances of
$27.9 million .
Net cash provided by operating activities during the year ended December 31,
2019 , decreased $249.3 million compared to 2018, which was due to a $1,227.4
million decrease in non-cash adjustments to the net loss, partially offset by a
$914.3 million decrease in the net loss and a $63.8 million increase in cash
from operating assets and liabilities. During the year ended December 31, 2019 ,
non-cash adjustments to the net loss primarily included DD&A expense of $540.0
million , unrealized losses on derivative contracts of $138.3 million ,
share-based compensation expense of $20.8 million and deferred income taxes of
$4.3 million . The change in operating assets and liabilities of $42.8 million
was primarily due to a decrease in long-term tax payables and post-retirement
benefit obligations of $45.2 million and a decrease in accounts payable and
accrued expenses of $40.4 million , partially offset by a decrease in accrued
income taxes receivable of $38.4 million .
Cash Flow from Investing Activities
A comparison of capital expenditures for the years ended
Year Ended December 31, Change
2020 2019 2018 2020 vs 2019 2019 vs 2018
(in millions)
Property acquisitions $ 4.1 $ 3.5 $
65.6 $ 0.6
327.9 571.5 1,176.6 (243.6) (605.1)
Total accrued capital expenditures 332.0 575.0 1,242.2 (243.0) (667.2)
Change in accruals and other non-cash
adjustments 25.6 (8.8) 57.5 34.4 (66.3)
Total cash capital expenditures
80
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During the year ended December 31, 2020 , on an accrual basis, the Company
invested $327.9 million on property, plant and equipment capital expenditures
(which excludes property acquisitions), a decrease of $243.6 million compared to
2019. In 2020, QEP's primary capital expenditures included $249.1 million in the
Permian Basin (including midstream infrastructure of $10.3 million , primarily
related to oil and gas gathering and water handling) and $71.5 million in the
Williston Basin . The 43% reduction in capital expenditures in 2020 compared to
2019 is primarily a result of the Company's decision to suspend completion
activity until the fourth quarter of 2020 in the Permian Basin in order to
proactively manage cash flow and preserve liquidity as a result of the COVID-19
pandemic and market conditions.
During the year ended December 31, 2019 , on an accrual basis, the Company
invested $571.5 million on property, plant and equipment expenditures, excluding
property acquisitions, a decrease of $605.1 million compared to 2018. In 2019,
QEP's primary capital expenditures included $477.1 million in the Permian Basin
(including midstream infrastructure of $41.8 million , primarily related to oil
and gas gathering and water handling), and $94.2 million in the Williston Basin .
The reduction in capital expenditures from 2019 to 2018 is a result of the
Company's focus on capital efficiency and its desire to generate Free Cash Flow,
causing a 45% reduction in Permian and Williston basin capital expenditures, and
the Haynesville and Uinta basin divestitures.
QEP intends to fund capital expenditures (excluding property acquisitions) with
cash on hand, cash flow from operating activities and, as needed, borrowings
under our revolving credit facility. The aggregate levels of capital
expenditures for 2021 and the allocation of those expenditures are dependent on
a variety of factors, including the continued impact on the market due to the
COVID-19 pandemic and OPEC actions, oil, gas and NGL prices, industry
conditions, changes in management's business assessments as to where QEP's
capital can be most profitably deployed, drilling results, the extent to which
properties or working interests are acquired or divested and the availability of
capital resources to fund the expenditures. Accordingly, the actual levels of
capital expenditures and the allocation of those expenditures may vary
materially from QEP's estimates.
Cash Flow from Financing Activities
During the year endedDecember 31, 2020 , net cash used in financing activities was$433.5 million compared to net cash used in financing activities of$511.3 million during the year endedDecember 31, 2019 . During the year endedDecember 31, 2020 , QEP used$410.3 million of cash to repurchase and redeem senior notes, which were due in 2021, 2022 and 2023, decreased checks outstanding in excess of cash by$16.1 million and paid$4.8 million in dividends. In addition, QEP had treasury stock repurchases of$1.7 million related to the settlement of employment tax and related benefit withholding obligations arising from the vesting of restricted share grants. As ofDecember 31, 2020 , long-term debt consisted of$1,591.3 million total debt, of which$1,601.9 million was senior notes and$10.6 million of net original issue discount and unamortized debt issuance costs. During the year endedDecember 31, 2019 , net cash used in financing activities was$511.3 million compared to net cash provided by financing activities of$244.6 million during the year endedDecember 31, 2018 . During the year endedDecember 31, 2019 , QEP made repayments under its credit facility of$486.0 million , repaid an aggregate$66.9 million of its senior notes, which were due in 2020 and 2021, and paid$9.6 million in dividends. These cash outflows were offset by borrowings under its credit facility of$56.1 million . In addition, QEP had treasury stock repurchases of$7.6 million related to the settlement of employment tax and related benefit withholding obligations arising from the vesting of restricted share grants. During 2019, QEP had a decrease in checks outstanding in excess of cash balances of$3.7 million . As ofDecember 31, 2019 , long-term debt consisted of$2,015.6 million total debt, of which$2,032.4 million was senior notes and$16.8 million of net original issue discount and unamortized debt issuance costs.
Off-Balance Sheet Arrangements
QEP may enter into off-balance sheet arrangements and transactions that can give rise to material off-balance sheet obligations. AtDecember 31, 2020 , the Company's material off-balance sheet arrangements included drilling, gathering, processing and firm transportation and undrawn letters of credit. The Company expects to enter into similar contractual arrangements in the future in order to support the Company's business plans. There are no other off-balance sheet arrangements that have or are reasonably likely to have a current or future material effect on QEP's financial condition, changes in financial condition, revenues or expenses, results of operations, liquidity, capital expenditures or capital resources. See "Contractual Obligations" below for more information regarding QEP's off-balance sheet arrangements. 81 --------------------------------------------------------------------------------
Contractual Obligations
In the course of ordinary business activities, QEP enters into a variety of contractual cash obligations and other commitments. The following table summarizes the significant contractual obligations and other commitments as ofDecember 31, 2020 : Payments Due by Year(1) Total 2021 2022 2023 2024 2025 After 2025 (in millions) Long-term debt$ 1,601.9 $ -$ 465.1 $ 636.8 $ - $ -$ 500.0 Interest on fixed-rate, long-term debt(2) 271.9 89.1 82.4 39.5 28.1 28.1 4.7 Drilling contracts 1.6 1.6 - - - - - Gathering, processing, firm transportation and other 74.9 26.4 22.4 12.2 6.9 4.9 2.1 Asset retirement obligations(3) 102.7 8.4 2.3 1.7 2.1 2.3 85.9 Building, compressor, generator and equipment operating leases 59.7 24.9 17.2 11.5 2.4 0.8 2.9 Total$ 2,112.7 $ 150.4 $ 589.4 $ 701.7 $ 39.5 $ 36.1 $ 595.6 ___________________________ (1) This table excludes the Company's benefit plan liabilities as future payment dates are unknown. Refer to Note 12 - Employee Benefits in Item 8 of Part II of this Annual Report on Form 10-K for more information. (2) Excludes variable rate debt interest payments and commitment fees related to the Company's revolving credit facility. (3) These future obligations are discounted estimates of future expenditures based on expected settlement dates. Refer to Note 4 - Asset Retirement Obligations in Item 8 of Part II in this Annual Report on Form 10-K for more information.
Impact of Inflation/Deflation and Pricing
All of QEP's transactions are denominated inU.S. dollars. Typically, as prices for oil and gas increase, associated costs rise. Conversely, as oil and gas prices decrease, costs decline. Cost declines tend to lag and may not adjust downward in proportion to declining commodity prices. Historically, field-level prices received for QEP's oil and gas production have been volatile. During the year endedDecember 31, 2020 , commodity prices decreased from the previous year and were negatively impacted by a variety of factors, including the COVID-19 pandemic and related shut-down of various sectors of the global economy, as well as the delay of an agreement in early 2020 on production levels by members of theOPEC and other oil producing countries. During the year endedDecember 31, 2019 , commodity prices decreased from the previous year. During the year endedDecember 31, 2018 , commodity prices increased from the previous year. Changes in commodity prices impact QEP's revenues, estimates of reserves, assessments of any impairment of oil and gas properties, as well as values of properties being acquired or sold. Price changes have the potential to affect QEP's ability to raise capital, borrow money, and retain personnel.
Critical Accounting Estimates
QEP's significant accounting policies are described in Note 1 - Summary of
Significant Accounting Policies, in Item 8 of Part II of this Annual Report on
Form 10-K. The Company's Consolidated Financial Statements are prepared in
accordance with GAAP. The preparation of consolidated financial statements
requires management to make assumptions and estimates that affect the reported
results of operations and financial position. The following is a discussion of
the accounting policies, estimates and judgments that management believes are
most significant in the application of GAAP used in the preparation of the
Company's consolidated financial statements. These accounting policies, among
others, may involve a high degree of complexity and judgment on the part of
management. Further, these estimates and other factors, including those outside
of the Company's control, such as the impact of sustained lower commodity
prices, could have significant adverse impact to the Company's financial
condition, results of operations and cash flows.
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Oil and condensate, gas and NGL Reserves
One of the most significant estimates the Company makes is the estimate of
proved oil and condensate, gas and NGL reserves. Oil and condensate, gas and NGL
reserve estimates require significant judgments in the evaluation of all
available geological, geophysical, engineering and economic data. The data for a
given field may change substantially over time as a result of numerous factors
including, but not limited to, timing to initiate production for proved
undeveloped reserves due to sequence of drilling, completing and/or recompleting
wells and constraints set by regulatory bodies. Additionally, data for a given
field could change substantially due to development activity, production
history, projected future production, changes in reservoir performance, pipeline
capacity and/or operating conditions, market demand, capital expenditures and
remediation costs. The subjective judgments and variances in data for various
fields make these estimates less precise than other estimates included in the
consolidated financial statements and related disclosures.
Estimates of proved oil and condensate, gas and NGL reserves significantly
affect the Company's DD&A expense. For example, if estimates of proved reserves
decline, the Company's DD&A rate will increase, resulting in a decrease in net
income. A decline in estimates of proved reserves could also cause QEP to
perform an impairment analysis to determine if the carrying value of our oil and
gas properties exceeds fair value, which could result in an impairment charge
that would reduce earnings. See "Impairment of Long-Lived Assets" below.
QEP engages independent reservoir engineering consultants to prepare estimates
of the proved oil and condensate, gas and NGL reserves. Reserve estimates are
based on a complex and highly interpretive process that is subject to continuous
revision as additional production and development drilling information becomes
available. Refer to Note 15 - Supplemental Oil and Gas Information (unaudited)
in Item 8 of Part II of this Annual Report on Form 10-K.
Successful Efforts Accounting for Oil and Gas Operations
The Company follows the successful efforts method of accounting for oil and gas
property acquisitions, exploration, development and production activities. Under
this method, the acquisition costs of proved and unproved properties, successful
exploratory wells and development wells are capitalized. Other exploration
costs, including geological and geophysical costs, delay rentals and
administrative costs associated with unproved property and unsuccessful
exploratory well costs are expensed. Costs to operate and maintain wells and
field equipment are expensed as incurred. A gain or loss is generally recognized
only when an entire field is sold or abandoned, or if the unit-of-production
DD&A rate would be significantly affected. Capitalized costs of unproved
properties are reclassified to proved property when related proved reserves are
determined or charged against the impairment allowance when abandoned.
Impairment of Long-Lived Assets
Proved oil and gas properties are evaluated on a field-by-field basis for
impairment. Other property, plant and equipment are evaluated on a specific
asset basis or in groups of similar assets, as applicable. When an indicator of
impairment, or a "triggering event," is identified, the Company uses a cash flow
model to assess its proved properties and operating lease ROU assets for
impairment. Triggering events could include, but are not limited to, a reduction
of oil and condensate, gas and NGL reserves caused by mechanical problems,
faster-than-expected decline of production, lease ownership issues, potential
disposition of assets, merger transactions and declines in oil, gas and NGL
prices. When a triggering event is identified, the undiscounted future net cash
flows of an evaluated asset are compared to the asset's carrying value. Cash
flow estimates require forecasts and significant estimates and assumptions for
many years into the future for a variety of factors, including estimates of
future production, future oil and gas prices, future operating costs, future
development costs and our five-year development plan. Cash flow estimates
relating to future cash flows from probable and possible reserves are reduced by
additional risk-weighting factors. If the asset's carrying value exceeds the
related undiscounted net cash flows, fair value of the evaluated asset is
estimated using a discounted cash flow approach. The signing of a merger or
purchase and sale agreement could cause the Company to evaluate for, or
recognize, an impairment of proved properties. For assets subject to a merger or
purchase and sale agreement, the evaluation of terms of the merger or purchase
and sale agreement are used as an indicator of fair value. If a range is
estimated for the amount of possible future cash flows, the fair value of
property is measured utilizing a probability-weighted approach whereas the
likelihood of possible outcomes is taken into consideration. As of March 31,
2020 , December 31, 2020 and December 31, 2019 , the Company performed an
assessment of recoverability and determined that the carrying value of proved
properties was less than the respective future undiscounted cash flows,
therefore recording no impairment. In our evaluation of recoverability as of
December 31, 2020 we considered the estimated future pricing used by management
in evaluating and entering into the Merger Agreement. During the year ended
December 31, 2018 , QEP recorded impairment expense of $1,524.6 million related
to proved properties, which was primarily the result of signing purchase and
sale agreements related to the Terminated Williston Basin Divestiture and the
Uinta Basin Divestiture.
During the year ended
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Unproved properties are evaluated on a specific asset basis or in groups of similar assets, as applicable. The Company performs periodic assessments of unproved oil and gas properties for impairment and recognizes a loss at the time of impairment. In determining whether an unproved property is impaired, the Company considers numerous factors including, but not limited to, current development and exploration drilling plans, favorable or unfavorable exploration activity on adjacent leaseholds, in-house geologists' evaluation of the lease, future reserve cash flows and the remaining lease term. During the year endedDecember 31, 2020 , QEP recorded unproved property impairment charges of$8.7 million related to anticipated leasehold expirations. During the year endedDecember 31, 2019 , the Company recorded no impairment of unproved properties. During the year endedDecember 31, 2018 , QEP recorded$36.3 million related to its unproved properties, which primarily resulted from unproved leasehold acreage in theWilliston and Uinta basins. Income Taxes The amount of income taxes recorded by QEP requires interpretations of complex rules and regulations of various tax jurisdictions throughoutthe United States . QEP has recognized deferred tax assets and liabilities for temporary differences, operating losses and tax credit carryforwards. QEP routinely assesses the realizability of its deferred tax assets and reduces such assets by a valuation allowance if it is more likely than not that some portion or all of the deferred tax assets will not be realized. QEP routinely assesses potential uncertain tax positions and, if required, establishes accruals for such amounts. The accruals for deferred tax assets and liabilities, including deferred state income tax assets and liabilities, are subject to significant judgment by management and are reviewed and adjusted routinely based on changes in facts and circumstances. Although management considers its tax accruals adequate, material changes in these accruals may occur in the future, based on the impact of tax audits, changes in legislation and resolution of pending or future tax matters. Refer to Note 13 - Income Taxes in Item 8 of Part II of this Annual Report on Form 10-K for more information.
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