10-Q 1 llex10q-20190630.htm 10-Q Document


UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
 
FORM 10-Q
 
ý
QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
 
 For the quarterly period ended June 30, 2019
 
¨
TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
 
Commission file number: 001-35330
 
Lilis Energy, Inc.
(Name of registrant as specified in its charter) 
Nevada
 
74-3231613
(State or other jurisdiction of
incorporation or organization)
 
(I.R.S. Employer
Identification No.)
 
1800 Bering Drive, Suite 510, Houston, Texas 77057
(Address of principal executive offices, including zip code)
 
(817) 585-9001
(Registrant's telephone number including area code)

Securities registered pursuant to Section 12(b) of the Act
Title of each Class
Trading Symbol(s)
Name of each exchange on which registered
Common Stock, $0.0001 par value
LLEX
NYSE American
 
Indicate by check mark if the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the past 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes ý    No ¨
  
Indicate by check mark whether the registrant has submitted electronically every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).  Yes ý    No ¨
 
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer or a smaller reporting company, or emerging growth company (as defined in Rule 12b-2 of the Act):
 
Large accelerated filer
¨
Accelerated filer
ý
Non-accelerated filer 
¨
Smaller reporting company  
ý
Emerging growth company 
¨
 
 
 
If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act. ¨
 
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes ¨    No ý

As of August 8, 2019, 91,873,385 shares of the registrant's common stock were issued and outstanding.

 




Lilis Energy, Inc.

INDEX
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 


2




Forward-Looking Statements
 
This Quarterly Report on Form 10-Q contains forward-looking statements within the meaning of Section 27A of the Securities Act of 1933, as amended, and Section 21E of the Securities Exchange Act of 1934, as amended. The statements contained in this report that are not historical facts are forward-looking statements that represent management's beliefs and assumptions based on currently available information. Forward-looking statements include information concerning our possible or assumed future results of operations, business strategies, financing needs, competitive position, and potential growth opportunities. Our forward-looking statements do not consider the effects of future legislation or regulations. Forward-looking statements include all statements that are not historical facts and can be identified by the use of forward-looking terminology such as the words "believes," "intends," "may," "should," "anticipates," "expects," "could," "plans," "estimates," "projects," "targets," or comparable terminology or by discussions of strategy or trends. Although we believe that the expectations reflected in such forward-looking statements are reasonable, we cannot give any assurances that these expectations will prove to be correct. Such statements by their nature involve risks and uncertainties that could significantly affect expected results, and actual future results could differ materially from those described in such forward-looking statements.
 
Among the factors that could cause actual future results to differ materially are the risks and uncertainties discussed in this report and in our Annual Report on Form 10-K for the year ended December 31, 2018. There may also be other risks and uncertainties that we are unable to predict at this time or that we do not now expect to have a material adverse impact on our business. Should our underlying assumptions prove incorrect or the consequences of the aforementioned risks worsen, actual results could differ materially from those expected. Forward-looking statements speak only as to the date hereof. All such forward-looking statements and any subsequent written or oral forward-looking statements attributable to us or any person acting on our behalf are expressly qualified in their entirety by the statements contained herein or referred to in this section and any other cautionary statements that may accompany such forward-looking statements. Except as otherwise required by applicable law, we disclaim any intention or obligation to update publicly or revise such statements whether as a result of new information, future events or otherwise.


3



PART I – FINANCIAL INFORMATION
Item 1. Financial Statements
Lilis Energy, Inc. and Subsidiaries
Condensed Consolidated Balance Sheets
(Unaudited)
(In thousands, except share and per share data)
 
June 30, 2019
 
December 31, 2018
ASSETS
 
 
 
Current assets:
 
 
 
Cash and cash equivalents
$
7,011

 
$
21,137

Accounts receivable, net of allowance of $19 and $25, respectively
20,834

 
20,546

Derivative instruments
793

 
2,551

Prepaid expenses and other current assets
2,824

 
1,851

Total current assets
31,462

 
46,085

Property and equipment:
 
 
 
Oil and natural gas properties, full cost method of accounting, net
450,583

 
430,379

Other property and equipment, net
472

 
524

Total property and equipment, net
451,055

 
430,903

Other assets
2,568

 
3,785

Total assets
$
485,085

 
$
480,773

LIABILITIES, MEZZANINE EQUITY AND STOCKHOLDERS’ EQUITY
 
 
 
Current liabilities:
 
 
 
Accounts payable
$
32,088

 
$
47,112

Accrued liabilities and other
15,611

 
14,794

Revenue payable
10,480

 
14,546

Derivative instruments - current
3,130

 
515

Total current liabilities
61,309

 
76,967

Asset retirement obligations
2,693

 
2,433

Long-term debt
123,000

 
157,804

Long-term derivative instruments and other non-current liabilities
1,547

 
4,699

Long-term deferred revenue liabilities
42,375

 
52,513

Total liabilities
230,924

 
294,416

Commitments and contingencies (Note 19)


 


Mezzanine equity:
 
 
 
10,000,000 shares of preferred stock authorized
 
 
 
Series C-1 9.75% Participating Preferred Stock, 100,000 shares issued and outstanding with a stated value of $1,032 and $1,093, per share, as of June 30, 2019 and December 31, 2018, respectively
74,476

 
106,774

Series C-2 9.75% Participating Preferred Stock, 25,000 shares issued and outstanding with a stated value of $1,032 and $1,024, per share, as of June 30, 2019 and December 31, 2018, respectively
17,508

 
25,522

Series D 8.25% Participating Preferred Stock, 39,254 shares issued and outstanding with a stated value of $1,027 and $1,021, per share, as of June 30, 2019 and December 31, 2018, respectively
27,318

 
40,729

Series E 8.25% Convertible Participating Preferred Stock, 60,000 shares issued and outstanding with a stated value of $1,027, per share, as of June 30, 2019
63,731

 

Series F 9.00% Participating Preferred Stock, 55,000 shares issued and outstanding with a stated value of $1,029, per share, as of June 30, 2019
48,299

 

Stockholders’ equity:
 
 
 

4



Common stock, $0.0001 par value per share; 150,000,000 shares authorized 91,451,836 and 71,182,016 issued and outstanding as of June 30, 2019 and December 31, 2018, respectively.
9

 
7

Additional paid-in capital
356,210

 
321,753

Treasury stock, 253,598 shares at cost
(997
)
 
(997
)
Accumulated deficit
(332,393
)
 
(307,431
)
Total stockholders’ equity
22,829

 
13,332

Total liabilities and stockholders’ equity
$
485,085

 
$
480,773


 
The accompanying notes are an integral part of these unaudited condensed consolidated financial statements.

5



Lilis Energy, Inc. and Subsidiaries
Condensed Consolidated Statements of Operations
(Unaudited)
(In thousands, except share and per share data)
 
Three Months Ended June 30,
 
Six Months Ended June 30,
 
2019
 
2018
 
2019
 
2018
Revenues:
 
 
 
 
 
 
 
Oil sales
$
19,982

 
$
14,254

 
$
34,683

 
$
26,843

Natural gas sales
350

 
1,144

 
1,876

 
2,034

Natural gas liquid sales
1,240

 
2,085

 
2,711

 
3,001

Total revenues
21,572

 
17,483

 
39,270

 
31,878

Operating expenses:
 
 
 
 
 
 
 
Production costs
3,859

 
2,984

 
8,623

 
6,247

Gathering, processing and transportation
1,235

 
872

 
2,413

 
1,334

Production taxes
1,119

 
821

 
2,025

 
1,671

General and administrative
9,383

 
7,380

 
19,062

 
17,844

Depreciation, depletion, amortization and accretion
9,188

 
5,759

 
17,342

 
10,400

Total operating expenses
24,784

 
17,816

 
49,465

 
37,496

Operating loss
(3,212
)
 
(333
)
 
(10,195
)
 
(5,618
)
Other income (expense):
 
 
 
 
 
 
 
Gain (loss) from commodity derivatives
2,901

 
(2,802
)
 
(7,676
)
 
(4,572
)
Change in fair value of financial instruments

 
(19,501
)
 
(335
)
 
8,887

Interest expense
(1,845
)
 
(8,572
)
 
(6,673
)
 
(17,660
)
Other income (expense)
(114
)
 

 
(83
)
 
1

Total other income (expense)
942

 
(30,875
)
 
(14,767
)
 
(13,344
)
Net loss before income taxes
(2,270
)
 
(31,208
)
 
(24,962
)
 
(18,962
)
Income tax expense

 

 

 

Net loss
(2,270
)
 
(31,208
)
 
(24,962
)
 
(18,962
)
Paid-in-kind dividends on preferred stock
(6,375
)
 
(2,465
)
 
(11,200
)
 
(4,117
)
Net loss attributable to common stockholders
$
(8,645
)

$
(33,673
)
 
$
(36,162
)
 
$
(23,079
)
 
 
 
 
 
 
 
 
Net loss per common share-basic and diluted: (Note 16)
 
 
 
 
 
 
 
Basic
$
(0.09
)
 
$
(0.53
)
 
$
(0.43
)
 
$
(0.40
)
Diluted
$
(0.09
)
 
$
(0.53
)
 
$
(0.43
)
 
$
(0.40
)
 
 
 
 
 
 
 
 
Weighted average common shares outstanding:
 
 
 
 
 
 
 
Basic
91,012,030

 
64,098,309

 
84,500,414

 
57,801,098

Diluted
91,012,030

 
64,098,309

 
84,500,414

 
57,801,098


 
The accompanying notes are an integral part of these unaudited condensed consolidated financial statements.


6



Lilis Energy, Inc. and Subsidiaries
Condensed Consolidated Statements of Changes in Stockholders’ Equity
(Unaudited)
(In thousands, except share data)

For the Three Months Ended June 30, 2019 and 2018:
 
Common Shares
 
Additional
Paid-In Capital
 
Treasury Shares
 
Accumulated Deficit
 
Total
 
Shares
 
Amount
 
 
Shares
 
Amount
 
 
Balance, March 31, 2019
91,037,902


$
9


$
360,319


(253,598
)

$
(997
)

$
(330,123
)

$
29,208

Stock-based compensation




2,356








2,356

Common stock for restricted stock
458,055













Common stock withheld for taxes on stock-based compensation
(44,121
)



(90
)







(90
)
Dividends on preferred stock




(6,375
)







(6,375
)
Net loss










(2,270
)

(2,270
)
Balance, June 30, 2019
91,451,836


$
9


$
356,210


(253,598
)

$
(997
)

$
(332,393
)

$
22,829

 
Common Shares
 
Additional
Paid-In Capital
 
Treasury Shares
 
Accumulated Deficit
 
Total
 
Shares
 
Amount
 
 
Shares
 
Amount
 
 
Balance, March 31, 2018
60,218,176

 
$
6

 
$
298,351

 
(68,798
)
 
$
(267
)
 
$
(291,042
)
 
$
7,048

Stock-based compensation

 

 
2,523

 

 

 

 
2,523

Common stock for restricted stock
460,000

 

 

 

 

 

 

Common stock withheld for taxes on stock-based compensation
(30,398
)
 

 
(131
)
 

 

 

 
(131
)
Exercise of warrants
2,848,440

 

 
1,051

 

 

 

 
1,051

Exercise of stock options
549,705

 

 
1,007

 

 

 

 
1,007

Purchase of treasury stock

 

 

 
(184,800
)
 
(730
)
 

 
(730
)
Dividends on Series C convertible preferred stock

 

 
(2,465
)
 

 

 

 
(2,465
)
Net income

 

 

 

 

 
(31,208
)
 
(31,208
)
Balance, June 30, 2018
64,045,923

 
$
6

 
$
300,336

 
(253,598
)
 
$
(997
)
 
$
(322,250
)
 
$
(22,905
)













7



For the Six Months Ended June 30, 2019 and 2018:
 
Common Shares
 
Additional
Paid-In Capital
 
Treasury Shares
 
Accumulated Deficit
 
Total
 
Shares
 
Amount
 
 
Shares
 
Amount
 
 
Balance, December 31, 2018
71,182,016

 
$
7

 
$
321,753

 
(253,598
)
 
$
(997
)
 
$
(307,431
)
 
$
13,332

Stock-based compensation

 

 
6,001

 

 

 

 
6,001

Common stock for restricted stock
2,837,486

 

 

 

 

 

 

Common stock withheld for taxes on stock-based compensation
(209,304
)
 

 
(410
)
 

 

 

 
(410
)
Common stock issued for extinguishment of debt
17,641,638

 
2

 
32,988

 

 

 

 
32,990

Gain on extinguishment of debt

 

 
7,078

 

 

 

 
7,078

Dividends on preferred stock

 

 
(11,200
)
 

 

 

 
(11,200
)
Net loss

 

 

 

 

 
(24,962
)
 
(24,962
)
Balance, June 30, 2019
91,451,836

 
$
9

 
$
356,210

 
(253,598
)
 
$
(997
)
 
$
(332,393
)
 
$
22,829


 
Common Shares
 
Additional
Paid-In Capital
 
Treasury Shares
 
Accumulated Deficit
 
Total
 
Shares
 
Amount
 
 
Shares
 
Amount
 
 
Balance, December 31, 2017
53,368,331

 
$
5

 
$
272,335

 

 
$

 
$
(303,288
)
 
$
(30,948
)
Stock-based compensation

 

 
5,554

 

 

 

 
5,554

Common stock for restricted stock
467,860

 

 

 

 

 

 

Common stock withheld for taxes on stock-based compensation
(134,235
)
 

 
(509
)
 

 

 

 
(509
)
Common stock for acquisition of oil and gas properties
6,940,722

 
1

 
24,777

 

 

 

 
24,778

Exercise of warrants
2,848,440

 

 
1,051

 

 

 

 
1,051

Exercise of stock options
554,805

 

 
1,022

 

 

 

 
1,022

Reclassification of warrant derivative liabilities

 

 
223

 

 

 

 
223

Purchase of treasury stock

 

 

 
(253,598
)
 
(997
)
 

 
(997
)
Dividends on Series C convertible preferred stock

 

 
(4,117
)
 

 

 

 
(4,117
)
Net income

 

 

 

 

 
(18,962
)
 
(18,962
)
Balance, June 30, 2018
64,045,923

 
$
6

 
$
300,336

 
(253,598
)
 
$
(997
)
 
$
(322,250
)
 
$
(22,905
)

 
The accompanying notes are an integral part of these unaudited condensed consolidated financial statements.


8



Lilis Energy, Inc. and Subsidiaries
Condensed Consolidated Statements of Cash Flows
(Unaudited)
(In thousands) 
 
Six Months Ended June 30,
 
2019
 
2018
Cash flows from operating activities:
 
 
 
Net income (loss)
$
(24,962
)
 
$
(18,962
)
Adjustments to reconcile net loss to net cash provided by (used in) operating activities:
 
 
 
Stock-based compensation
6,001

 
5,554

Bad debt recovery
(6
)
 
(14
)
Amortization of debt issuance cost and accretion of debt discount
1,936

 
8,685

Payable in-kind interest
1,590

 
6,437

Loss from commodity derivatives, net
7,676

 
4,572

Net settlements on commodity derivatives
(1,757
)
 
(1,710
)
Change in fair value of financial instruments
335

 
(8,887
)
Depreciation, depletion, amortization and accretion
17,342

 
10,400

Operating lease amortization
124

 

Changes in operating assets and liabilities:
 
 
 
Accounts receivable
(1,101
)
 
(10,521
)
Prepaid expenses and other assets
(835
)
 
(436
)
Accounts payable and accrued liabilities
(21,909
)
 
12,442

Proceeds from options associated with future midstream services
2,500

 
34,650

Net cash provided by (used in) operating activities
(13,066
)
 
42,210

Cash flows from investing activities:
 
 
 
Acquisition of oil and natural gas properties

 
(69,820
)
Proceeds from the sale of assets
336

 

Capital expenditures
(48,604
)
 
(76,160
)
Net cash used in investing activities
(48,268
)
 
(145,980
)
Cash flows from financing activities:
 
 
 
Proceeds from term loans, net of financing costs

 
44,960

Proceeds from revolving credit agreement, net of financing costs
47,618

 

Repayment of term loans and notes payable

 
(31,821
)
Proceeds from the issuance of Series C Preferred Stock

 
100,000

Repurchase of common stock

 
(997
)
Proceeds from exercise of warrants and stock options

 
2,073

Payment for tax withholding on stock-based compensation
(410
)
 
(509
)
Net cash provided by financing activities
47,208

 
113,706

Net increase (decrease) in cash and cash equivalents
(14,126
)
 
9,936

Cash and cash equivalents at beginning of period
21,137

 
17,462

Cash and cash equivalents at end of period
$
7,011

 
$
27,398

Supplemental disclosure:
 
 
 
Cash paid for interest
$
3,148

 
$
2,538


  
The accompanying notes are an integral part of these unaudited condensed consolidated financial statements.

9



Lilis Energy, Inc. and Subsidiaries
Notes to Unaudited Condensed Consolidated Financial Statements
 
NOTE 1 - ORGANIZATION
  
Lilis Energy, Inc. ("Lilis" or the "Company") is an independent oil and natural gas exploration and production company focused on the Delaware Basin in Winkler, Loving, and Reeves Counties, Texas and Lea County, New Mexico.
     
NOTE 2 - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES AND ESTIMATES
 
Principles of Consolidation and Presentation
 
The accompanying unaudited condensed consolidated financial statements include the accounts of the Company and its wholly owned subsidiaries, Brushy Resources, Inc., ImPetro Operating, LLC, ImPetro Resources, LLC, Lilis Operating Company, LLC, and Hurricane Resources LLC. All significant intercompany accounts and transactions have been eliminated in consolidation. The unaudited condensed consolidated financial statements included herein reflect all adjustments (consisting only of normal, recurring adjustments) which are, in our opinion, necessary for a fair presentation of the information as of and for the periods presented. These unaudited condensed consolidated interim financial statements have been prepared in accordance with generally accepted accounting principles in the United States of America ("GAAP") for interim financial information and the instructions to Quarterly Report on Form 10-Q and Article 8 of Regulation S-X. Accordingly, they do not include all disclosures required under GAAP for complete consolidated financial statements.

These unaudited condensed consolidated financial statements should be read in conjunction with our annual report on Form 10–K for the year ended December 31, 2018, as filed with the Securities and Exchange Commission (the "SEC") on March 7, 2019 (the "Annual Report").
   
Use of Estimates
 
The accompanying condensed consolidated financial statements are prepared in conformity with GAAP which requires the Company to make a number of estimates and assumptions relating to the reported amounts of assets and liabilities; disclosure of contingent assets and liabilities at the date of the financial statements; the reported amounts of revenues and expenses during the reporting period; and the quantities and values of proved oil, natural gas and natural gas liquid ("NGL") reserves used in calculating depletion and assessing impairment of its oil and natural gas properties. The most significant estimates pertain to the evaluation of unproved properties for impairment, proved oil and natural gas reserves and related cash flow estimates used in the depletion and impairment of oil and natural gas properties; the timing and amount of transfers of our unevaluated properties into our amortizable full cost pool; the fair value of embedded derivatives and commodity derivative contracts, accrued oil and natural gas revenues and expenses, valuation of options and warrants, and common stock; and the allocation of general administrative expenses. Actual results could differ significantly from these estimates.

Reclassifications

Certain reclassifications have been made to the prior year comparative financial statements to conform to the 2019 presentation. These reclassifications have no effect on the Company's previously reported results of operations, shareholders' equity or cash flows.

Recently Adopted Accounting Standards
 
In February 2016, the FASB issued Accounting Standards Update (ASU) No. 2016-02, Leases (Topic 842), a standard on lease accounting requiring a lessee to recognize assets and liabilities on the balance sheet for leases with lease terms greater than 12 months. This standard is effective for annual and interim periods beginning after December 15, 2018. We adopted this standard effective January 1, 2019, utilizing a modified retrospective transition approach. We chose to use the effective date as our date of initial application. Consequently, financial information was not updated and the disclosures required under the new standard were not provided for dates and periods before January 1, 2019.

The standard includes optional transition practical expedients intended to simplify its adoption. We elected to adopt the package of practical expedients, which allowed us to retain the historical lease classification, including treatment for land easements, determined under legacy GAAP as well as a relief from reviewing expired or existing contracts to determine if they contain leases. This standard does not apply to the Company's leases that provide the right to explore for minerals, oil, or natural gas resources.


10



Upon adoption, we recognized operating lease liabilities totaling approximately $7.5 million, with corresponding right of use assets totaling $7.4 million. The liabilities were calculated as the present value of the remaining minimum rental payments for existing operating leases. This standard did not materially impact our consolidated net earnings and had no impact on our cash flows (see Note 9 - Leases).

Accounting Standards Not Yet Adopted

In June 2016, the FASB issued ASU 2016-13, Financial Instruments-Credit Losses (Topic 326): Measurement of Credit Losses on Financial Instruments, which replaces the currently required incurred loss methodology with an expected loss methodology. This new methodology requires that a financial asset measured at amortized cost be presented at the net amount expected to be collected. The update is intended to provide financial statement users with more useful information about expected credit losses on financial instruments. The amended standard is effective for the Company on January 1, 2020, with early adoption permitted, and shall be applied using a modified retrospective approach resulting in a cumulative effect adjustment to retained earnings upon adoption. Historically, the Company's credit losses on oil and natural gas sales receivables and any joint interest receivables have not been significant, and the Company does not believe the adoption of ASU 2016-13 will have a material impact on its consolidated financial statements.

Accrued Liabilities and Other
 
At June 30, 2019 and December 31, 2018, the Company's accrued liabilities consisted of the following:
 
June 30, 2019
 
December 31, 2018
 
(In thousands)
Accrued bonus
$
1,150

 
$
2,300

Accrued drilling costs
3,885

 
2,849

Drilling advances
3,099

 
5,001

Accrued production expenses
3,847

 
2,926

Other accrued liabilities
3,508

 
1,718

Short-term operating lease liabilities
122

 

 
$
15,611

 
$
14,794

 
NOTE 3 - REVENUE
 
Revenue is recognized when control passes to the purchaser, which generally occurs when production is transferred to the purchaser. The Company measures revenue as the amount of consideration it expects to receive in exchange for the commodities transferred. All of the Company's revenues from contracts with customers represent products transferred at a point in time as control is transferred to the customer.
 
The Company records revenue based on consideration specified in its contracts with its customers. The amounts collected on behalf of third parties are recorded in revenue payable. The Company recognizes revenue in the amount that reflects the consideration it expects to receive in exchange for transferring control of those goods to the customer. The contract consideration in the Company's variable price contracts is typically allocated to specific performance obligations in the contract according to the price stated in the contract. Payment is generally received one or two months after the sale has occurred.

Crude Oil Revenues
 
Crude oil from our operated properties is produced and stored in field tanks. The Company recognizes crude oil revenue when control passes to the purchaser. Effective January 1, 2019 through February 28, 2019, the Company's crude oil was sold under a single short-term contract. The purchaser's commitment included all quantities of crude oil from the leases that were covered by the contract, with no quantity-based restrictions or variable terms. Pricing was based on posted indexes for crude oil of similar quality, less a negotiable fees deduction of $5.15 per barrel.

Effective March 1, 2019, the Company's crude oil is sold under a single long-term contract with a term that extends to at least December 31, 2024. The purchaser's commitment has a quantity-based limit set forth in the contract, measured in barrels per day, with the maximum quantity commitment increasing at periodic intervals over the life of the contract to coincide with the Company's expected growth in production. The Company is confident that the purchaser will be able to receive and purchase all

11



crude oil produced for sale during the contract period (See Note 11 - Long-Term Deferred Revenue Liabilities and Note 19 - Commitments and Contingencies).

Pursuant to the long-term contract, pricing is based on posted indexes for crude oil of similar quality, with a differential based on pipeline delivery to Houston, as opposed to the previous contract differential based on truck delivery to Midland-Cushing, along with a differential basis reduction of $9.25 per barrel that is effective from March 1, 2019 through June 30, 2019, which decreases to $6.50 per barrel for the period of July 1, 2019 through June 30, 2020, and then to $4.95 per barrel for the period from July 1, 2020 through December 31, 2024. The posted index prices and differentials change monthly based on the average of daily index price points for each sales month. The purchaser's affiliate shipper also charges a tariff fee of $0.75 as a deduction from the received price (see Note 11 - Long-Term Deferred Revenue Liabilities).

Natural Gas and NGL Revenues
 
Natural gas from our properties is produced and transported via pipelines to gas processing facilities. NGLs are extracted from the natural gas at the processing facilities and processed natural gas and NGLs are marketed and sold separately on the Company's behalf after processing. All of our operated natural gas production is sold under one of two natural gas contracts, both of which are long-term in nature; however, one of these natural gas contracts includes 30-day cancellation provisions, and the Company therefore classifies such contract as short-term. The processor's commitment to sell on the Company's behalf includes all quantities of natural gas and NGLs produced from specific wellbores or dedicated acreage as defined in the contract, with no quantity-based restrictions or variable terms. Pricing under the gas contracts is generally market-based pricing less adjustments for transportation and processing fees. A portion of natural gas delivered to the processing plants is used as fuel at the processing plant without reimbursement. The Company recognizes revenue for natural gas and NGLs when control passes at the tailgate of the processing plant.
 
Gathering, Processing and Transportation
 
Natural gas must be transported to a gas processing plant facility for treatment and to extract NGLs, then the final residue gas and liquid products are marketed for sale to end users at the tailgate of the plant. As a result of these activities, the Company incurs costs that are contractually passed to it from the gatherer per customary industry practice. Such costs include fees for gathering the gas and moving it from wellhead to plant inlet, plant electricity usage, inlet compression, carbon dioxide and hydrogen sulfide treatments, processing tax, fuel usage, and marketing at the tailgate. Gathering, processing and transportation costs are presented as operating expenses in the condensed consolidated statement of operations.
 
Imbalances
 
Natural gas imbalances occur when the Company sells more or less than its entitled ownership percentage of total natural gas production. Any amount received in excess of its share is treated as a liability. If the Company receives less than its entitled share, the under production is recorded as a receivable. The Company did not have any significant natural gas imbalance positions as of June 30, 2019 and December 31, 2018.
 
The following table disaggregates the Company's revenue by contract type (in thousands) for the three and six months ended June 30, 2019:
Three Months Ended June 30, 2019
Short-term contracts
 
Long-term contracts
 
Total
Crude oil
$
1,464

 
$
18,518

 
$
19,982

Natural gas
(11
)
 
361

 
350

NGLs
49

 
1,191

 
1,240


Six Months Ended June 30, 2019
Short-term contracts
 
Long-term contracts
 
Total
Crude oil
$
9,851

 
$
24,832

 
$
34,683

Natural gas
129

 
1,747

 
1,876

NGLs
122

 
2,589

 
2,711



12



Customer Credit Risk
 
Our principal exposure to credit risk is through receivables from the sale of our oil and natural gas production of approximately $8.8 million and $8.2 million at June 30, 2019 and December 31, 2018, respectively, and through actual and accrued receivables from our joint interest partners of approximately $11.9 million and $11.4 million at June 30, 2019 and December 31, 2018, respectively. We are subject to credit risk due to the concentration of our oil and natural gas receivables with our most significant customers. We do not require our customers to post collateral, and the inability of our significant customers to meet their obligations to us or their insolvency or liquidation may adversely affect our financial results.
 
Major Customers

During the three and six months ended June 30, 2019, the Company's major customers as a percentage of total revenue consisted of the following:
 
Three Months Ended June 30,
 
Six Months Ended June 30,
 
2019
 
2018
 
2019
 
2018
Texican Crude & Hydrocarbon, LLC
%
 
86
%
 
21
%
 
86
%
ARM Energy Management, LLC
93
%
 
%
 
69
%
 
%
Lucid Energy Delaware, LLC
7
%
 
12
%
 
10
%
 
10
%
ETC Field Services LLC
%
 
2
%
 
%
 
4
%
 
100
%
 
100
%
 
100
%
 
100
%
    
Due to availability of other purchasers, we do not believe the loss of any single oil or natural gas customer would have a material adverse effect on our results of operations.

NOTE 4 - OIL AND NATURAL GAS PROPERTIES

The Company uses the full cost method of accounting for oil and natural gas operations. Under this method, costs related to the exploration, non-production related development and acquisition of oil and natural gas reserves are capitalized. Such costs include land acquisition costs, geological and geophysical expenses, carrying charges on non-producing properties, costs of drilling, costs of developing and completing productive wells, and other costs directly related to acquisition and exploration activities. Proceeds from property sales are generally applied as a credit against our capitalized exploration and development costs, with no gain or loss recognized, unless such a sale would significantly alter the relationship between capitalized costs and the proved reserves attributable to these costs. A significant alteration would typically involve a sale of 25% or more of our proved reserves.

Depletion of exploration and development costs and depreciation of wells and tangible production assets are computed using the units-of-production method based upon estimated proved oil and natural gas reserves. Costs included in the depletion base to be amortized include (a) all proved capitalized costs, including capitalized asset retirement costs net of estimated salvage values, less accumulated depletion, and (b) estimated future development costs to be incurred in developing proved reserves that are not otherwise included in capitalized costs.

Under the full cost method of accounting, capitalized oil and natural gas property costs less accumulated depletion (net of deferred income taxes) may not exceed an amount equal to the sum of the present value, discounted at 10%, of estimated future net revenues from proved oil and natural gas reserves and the cost of unproved properties not subject to amortization (without regard to estimates of fair value), or estimated fair value, if lower, of unproved properties that are not subject to amortization. Should capitalized costs exceed this ceiling, an impairment expense is recognized. The present value of estimated future net cash flows was computed by applying a flat oil price to forecast revenues from estimated future production of proved oil and natural gas reserves as of period-end, less estimated future expenditures to be incurred in developing and producing the proved reserves (assuming the continuation of existing economic conditions), less any applicable future taxes. As of June 30, 2019, the ceiling value of the Company's reserves was calculated based upon SEC pricing of $61.39 per barrel for oil and $3.02 per MMBtu for natural gas.

The costs of unproved oil and gas properties are excluded from amortization until the properties are evaluated. Costs are transferred into the amortization base on an ongoing basis as the properties are evaluated and proved oil and natural gas reserves are established or if impairment is determined. Unproved oil and gas properties are assessed periodically (at least annually) to determine whether impairment has occurred. The assessment considers the following factors, among others: intent to drill, remaining lease term, geological and geophysical evaluations, drilling results and activity, the assignment of proved reserves, the

13



economic viability of development if proved reserves were assigned and other current market conditions. During any period in which these factors indicate an impairment, the cumulative drilling costs incurred to date for such property and all or a portion of the associated leasehold costs are transferred to the full cost pool and are then subject to amortization.

During the six months ended June 30, 2019, and 2018, impairments of $11.4 million and $11.1 million, respectively, were recorded on the Company's unproved oil and natural gas properties and transferred to the full cost pool due to title defects on certain leases. For the three months ended June 30, 2019 and 2018, depreciation, depletion, amortization and accretion expense related to proved properties were $9.2 million and $5.8 million, respectively. For the six months ended June 30, 2019 and 2018, depreciation, depletion, amortization and accretion expense related to proved properties were $17.3 million and $10.4 million, respectively.

The following table sets forth a summary of oil and natural gas property costs (net of divestitures) at June 30, 2019 and December 31, 2018:
 
June 30, 2019
 
December 31, 2018
 
(In thousands)
Oil and natural gas properties:
 
 
 
  Proved
$
409,850

 
$
358,858

  Unproved
156,105

 
169,863

Total oil and natural gas properties
565,955

 
528,721

Accumulated depletion, depreciation and amortization
(115,372
)
 
(98,342
)
Oil and natural gas properties, net
$
450,583

 
$
430,379


NOTE 5 - ACQUISITIONS AND DIVESTITURES

During the six months ended June 30, 2018, the Company acquired the following oil and natural gas properties:

Certain leasehold acreage in the Delaware Basin in Lea County, New Mexico from OneEnergy Partners Operating, LLC for $40.0 million in cash and 6,940,722 shares of the Company's common stock valued at approximately $24.9 million, for total consideration of approximately $64.9 million. Transaction costs associated with this acquisition were approximately $1.1 million. The transaction was recorded as an asset acquisition.

Certain leasehold interests and other oil and natural gas assets in Loving and Winkler Counties, Texas from VPD Texas, L.P. for total cash consideration of approximately $11.1 million, including approximately $0.5 million of related acquisition costs. The transaction was recorded as an asset acquisition.
 
Certain leasehold interests and other oil and natural gas assets in Loving and Winkler Counties, Texas from Anadarko for total cash consideration of $7.1 million. The transaction was recorded as an asset acquisition.

NOTE 6 - ASSET RETIREMENT OBLIGATIONS
 
The Company's asset retirement obligations ("ARO") represent the present value of the estimated cash flows expected to be incurred to plug, abandon and remediate producing properties, excluding salvage values, at the end of their productive lives in accordance with applicable laws. Revisions in estimated liabilities during the period relate primarily to changes in estimates of asset retirement costs. Revisions in estimated liabilities can also include, but are not limited to, revisions of estimated inflation rates, changes in property lives and expected timing of settlement.
 

14



The following table summarizes the changes in the Company's ARO for the six months ended June 30, 2019 and the year ended December 31, 2018
 
June 30, 2019
 
December 31, 2018
 
(In thousands)
ARO, beginning of period
$
2,444

 
$
952

Additional liabilities incurred
69

 
374

Accretion expense
217

 
85

Liabilities settled
(2
)
 
(87
)
Revision in estimates
(24
)
 
1,120

ARO, end of period
2,704

 
2,444

Less: current portion of ARO
(11
)
 
(11
)
ARO, non-current
$
2,693

 
$
2,433


NOTE 7 - FAIR VALUE OF FINANCIAL INSTRUMENTS
 
The Company measures the fair value of its financial assets on a three-tier value hierarchy, which prioritizes the inputs used in the valuation methodologies in measuring fair value:
 
Level 1 - Observable inputs that reflect quoted prices (unadjusted) for identical assets or liabilities in active markets.
 
Level 2 - Other inputs that are directly or indirectly observable in the marketplace.
 
Level 3 - Unobservable inputs which are supported by little or no market activity.
 
The fair value hierarchy also requires an entity to maximize the use of observable inputs and minimize the use of unobservable inputs when measuring fair value.

Determination of the fair values of our derivative contracts incorporates various factors, including not only the impact of our non-performance risk on our liabilities, but also the credit standing of the counterparties involved. The Company utilizes counterparty rate of default values to assess the impact of non-performance risk when evaluating both our liabilities to, and receivables from, counterparties.
 

15



Recurring Fair Value Measurements
 
Fair Value Measurement Classification
 
 
 
Quoted Prices in
Active Markets for
Identical Assets or
Liabilities
(Level 1)
 
Significant
Other
Observable
Inputs
(Level 2)
 
Significant
Unobservable
Inputs
(Level 3)
 
Total
 
(In thousands)
As of June 30, 2019
 

 
 

 
 

 
 

Oil and natural gas derivative instruments:
 
 
 
 
 
 
 
Oil and natural gas derivative swap contracts
$

 
$
(4,100
)
 
$

 
$
(4,100
)
Oil and natural gas derivative collar contracts

 
729

 

 
729

Total
$

 
$
(3,371
)
 
$

 
$
(3,371
)
As of December 31, 2018
 
 
 
 
 
 
 
Oil and natural gas derivative instruments:
 
 
 
 
 
 
 
Oil and natural gas derivative swap contracts
$

 
$
(2,923
)
 
$

 
$
(2,923
)
Oil and natural gas derivative collar contracts

 
4,047

 

 
4,047

Embedded derivative instruments:
 
 
 
 
 
 
 
Second Lien Term Loan conversion features

 

 
(1,965
)
 
(1,965
)
Total
$

 
$
1,124

 
$
(1,965
)
 
$
(841
)

Derivative assets and liabilities include unsettled amounts related to commodity derivative positions, including swaps and collars, as of June 30, 2019 and December 31, 2018. The fair value of the Company's derivatives is based on third-party pricing models which utilize inputs that are either readily in the public market or which can be corroborated from active markets of broker quotes. Swaps and collars generally have observable inputs and these instruments are measured using Level 2 inputs.

The Company's derivative liabilities as of December 31, 2018 also include embedded derivatives associated with the Second Lien Term Loan (as defined in Note 10 - Long-Term Debt). These instruments have fewer observable inputs from objective sources and are therefore measured using Level 3 inputs.
 
NOTE 8 - DERIVATIVES

The Company's derivative instruments as of June 30, 2019 and December 31, 2018, include the following:
 
June 30, 2019
 
December 31, 2018
 
(In thousands)
Derivative assets (liabilities):
 
 
 
Derivative assets - current
$
793

 
$
2,551

Derivative assets - non-current (1)
497

 
1,822

Derivative liabilities - current
(3,130
)
 
(515
)
Derivative liabilities - non-current (2)(3)
(1,531
)
 
(4,699
)
Total derivative liabilities, net
$
(3,371
)
 
$
(841
)

(1) The non-current derivative assets are included in other assets in the consolidated balance sheets.
(2) The non-current derivative liabilities are included in long-term derivative instruments and other non-current liabilities in the consolidation balance sheets.
(3)Includes $2.0 million of embedded derivatives associated with Second Lien Term Loan and $2.7 million associated with commodity derivatives as of December 31, 2018.


16



 Embedded Derivatives

As discussed in Note 10 - Long-Term Debt, the Second Lien Term Loan contained conversion features that were exercisable at the option of the lead lender thereunder or, in certain circumstances, the Company. The conversion features have been identified as embedded derivatives which (i) contain economic characteristics that are not clearly and closely related to the host contract, the Second Lien Term Loan, and (ii) are separate, stand-alone instruments with similar terms that would qualify as derivative instruments. As such, the conversion features were bifurcated and accounted for separately from the Second Lien Term Loan. The conversion features are recorded at fair value for each reporting period with changes in fair value included in the Company's condensed consolidated statement of operations for each reporting period.

As of December 31, 2018, the derivative liabilities associated with the Second Lien Term Loan were approximately $2.0 million. On March 5, 2019, the embedded derivative associated with the Second Lien Term Loan was written off against the gain on extinguishment of debt following the extinguishment of the Second Lien Term Loan on March 5, 2019, pursuant to the provisions of the 2019 Transaction Agreement (as defined in Note 10 - Long-Term Debt).

Commodity Derivatives

To reduce the impact of fluctuations in oil and natural gas prices on the Company's revenues and to protect the economics of property acquisitions, the Company periodically enters into derivative contracts with respect to a portion of its projected oil and natural gas production through various transactions that fix or modify the future prices to be realized. The derivative contracts may include fixed-for-floating price swaps (whereby, on the settlement date, the Company will receive or pay an amount based on the difference between a pre-determined fixed price and a variable market price for a notional quantity of production), put options (whereby the Company pays a cash premium in order to establish a fixed floor price for a notional quantity of production and, on the settlement date, receives the excess, if any, of the fixed floor price over a variable market price), and costless collars (whereby, on the settlement date, the Company receives the excess, if any, of a variable market price over a fixed floor price up to a fixed ceiling price for a notional quantity of production).
  
Our hedging activities are intended to support oil and natural gas prices at targeted levels and manage exposure to oil and natural gas price fluctuations, as well as to meet our obligations under our Revolving Credit Agreement (as defined in Note 10 - Long-Term Debt). It is our policy to enter into derivative contracts only with counterparties that are creditworthy and competitive market makers. All of our derivatives are designated as unsecured. Certain of our derivative counterparties may require the posting of cash collateral under certain conditions. The Company does not enter into derivative contracts for speculative trading purposes.
 
All of our derivatives are accounted for as mark-to-market activities. Under Accounting Standard Codification ("ASC") Topic 815, "Derivatives and Hedging," these instruments are recorded on the Company's condensed consolidated balance sheets at fair value as either short-term or long-term assets or liabilities based on their anticipated settlement date. The Company nets derivative assets and liabilities by commodity for counterparties where a legal right to such offset exists. Because the Company has elected not to designate its current derivative contracts as cash flow hedges for accounting purposes, changes in the fair values of the derivatives are recognized in current earnings. 


17



The following table presents the Company's derivative position for the production periods indicated as of June 30, 2019:
Description
 
 
 Notional Volume (Bbls/d)
 
Production Period
 
 Weighted Average Price ($/Bbl)
Oil Positions
 
 
 
 
 
 
 
Oil Swaps
 
 
173

 
 October 2019 - December 2019
 
$
58.80

Oil Swaps
 
 
1,028

 
 January 2020 - December 2020
 
$
56.28

Oil Swaps
 
 
148

 
 January 2021 - December 2021
 
$
54.40

 
 
 
 
 
 
 
 
Basis Swaps (1)
 
 
1,500

 
 July 2019 - December 2019
 
$
(5.62
)
Basis Swaps (1)
 
 
1,500

 
 January 2020 - December 2020
 
$
(5.62
)
 
 
 
 
 
 
 
 
3 Way Collar
Floor sold price (put)
 
1,500

 
 July 2019 - December 2019
 
$
45.00

3 Way Collar
Floor purchase price (put)
 
1,500

 
 July 2019 - December 2019
 
$
55.00

3 Way Collar
Ceiling sold price (call)
 
1,500

 
 July 2019 - December 2019
 
$
70.47

 
 
 
 
 
 
 
 
Oil Collar
Floor purchase price (put)
 
500

 
 July 2019 - December 2019
 
$
50.00

Oil Collar
Ceiling sold price (call)
 
500

 
 July 2019 - December 2019
 
$
58.00

Oil Collar
Floor purchase price (put)
 
410

 
 January 2020 - December 2020
 
$
50.00

Oil Collar
Ceiling sold price (call)
 
410

 
 January 2020 - December 2020
 
$
64.96

Oil Collar
Floor purchase price (put)
 
742

 
 January 2021 - December 2021
 
$
50.00

Oil Collar
Ceiling sold price (call)
 
742

 
 January 2021 - December 2021
 
$
59.70

 
 
 
 
 
 
 
 
Description
 
 
Notional Volume (MMBtus/d)
 
Production Period
 
Weighted Average Price ($/MMBtu)
Natural Gas Positions
 
 
 
 
 
 
Gas Swaps
 
 
6,771

 
 July 2019 - October 2019
 
$
2.75

Gas Swaps
 
 
5,417

 
 April 2020 - October 2020
 
$
2.58

Gas Swaps
 
 
4,184

 
 January 2021 - March 2021
 
$
2.77

 
 
 
 
 
 
 
 
Gas Collar
Floor purchase price (put)
 
6,921

 
 November 2019 - December 2019
 
$
2.80

Gas Collar
Ceiling sold price (call)
 
6,921

 
 November 2019 - December 2019
 
$
3.06

Gas Collar
Floor purchase price (put)
 
2,748

 
 January 2020 - December 2020
 
$
2.55

Gas Collar
Ceiling sold price (call)
 
2,748

 
 January 2020 - December 2020
 
$
3.07

Gas Collar
Floor purchase price (put)
 
4,464

 
 January 2021 - December 2021
 
$
2.20

Gas Collar
Ceiling sold price (call)
 
4,464

 
 January 2021 - December 2021
 
$
2.97


(1) 
The weighted average price under these basis swaps is the fixed price differential between the index prices of the Midland WTI and the Cushing WTI.

The table below summarizes the Company's net gain (loss) on commodity derivatives for the three and six months ended June 30, 2019 and 2018:
 
Three Months Ended June 30,
 
Six Months Ended June 30,
 
2019
 
2018
 
2019
 
2018
 
(in thousands)
 
(in thousands)
Unrealized gain (loss) on unsettled derivatives
$
4,481

 
$
(2,111
)
 
$
(4,495
)
 
$
(3,242
)
Net settlements paid on derivative contracts
(976
)
 
(956
)
 
(2,577
)
 
(1,595
)
Net settlements receivable (payable) on derivative contracts
(604
)
 
265

 
(604
)
 
265

Net gain (loss) on commodity derivatives
$
2,901

 
$
(2,802
)
 
$
(7,676
)
 
$
(4,572
)

18



      The following information summarizes the gross fair values of derivative instruments, presenting the impact of offsetting the derivative assets and liabilities on the Company's condensed consolidated balance sheets as of June 30, 2019 and as of December 31, 2018:
 
As of June 30, 2019
 
Gross Amount of Recognized Assets and Liabilities
 
Gross Amounts Offset in the Condensed Consolidated Balance Sheets
 
Net Amounts Presented in the Condensed Consolidated Balance Sheets
 
(In thousands)
Offsetting Derivative Assets:
 
 
 
 
 
Current assets
$
1,987

 
$
(1,194
)
 
$
793

Long-term assets
2,080

 
(1,583
)
 
497

Total assets
$
4,067

 
$
(2,777
)
 
$
1,290

Offsetting Derivative Liabilities:
 
 
 
 
 
Current liabilities
$
(4,324
)
 
$
1,194

 
$
(3,130
)
Long-term commodity derivative liabilities
(3,114
)
 
1,583

 
(1,531
)
Total liabilities
$
(7,438
)
 
$
2,777

 
$
(4,661
)

 
As of December 31, 2018
 
Gross Amount of Recognized Assets and Liabilities
 
Gross Amounts Offset in the Condensed Consolidated Balance Sheets
 
Net Amounts Presented in the Condensed Consolidated Balance Sheets
 
(In thousands)
Offsetting Derivative Assets:
 
 
 
 
 
Current assets
$
4,122

 
$
(1,571
)
 
$
2,551

Long-term assets
1,854

 
(32
)
 
1,822

Total assets
$
5,976

 
$
(1,603
)
 
$
4,373

Offsetting Derivative Liabilities:
 
 
 
 
 
Current liabilities
$
(2,086
)
 
$
1,571

 
$
(515
)
Long-term commodity derivative liabilities
(2,766
)
 
32

 
(2,734
)
Long-term embedded derivative liabilities
(1,965
)
 

 
(1,965
)
Total liabilities
$
(6,817
)
 
$
1,603

 
$
(5,214
)
 

19



NOTE 9 - LEASES

Lease Recognition

The Company has entered into contractual lease arrangements to rent office space, compressors, drilling rigs and other equipment from third-party lessors. Right-of-use ("ROU") assets represent the Company's right to use an underlying asset for the lease term and lease liabilities represent the Company's obligation to make future lease payments arising from the lease. Operating lease ROU assets and liabilities are recorded at commencement date based on the present value of lease payments over the lease term. Lease payments included in the measurement of the lease liability include fixed payments and termination penalties or extensions that are reasonably certain to be exercised. Variable lease costs associated with leases are recognized when incurred and generally represent maintenance services provided by the lessor, allocable real estate taxes and local sales and business taxes. Leases with an initial term of 12 months or less are not recorded on the balance sheet. The Company recognizes lease expense on a straight-line basis over the lease term. The Company does not account for lease components separately from the non-lease components. The Company uses the implicit interest rate when readily determinable; however, most of the Company's lease agreements do not provide an implicit interest rate. As such, for new or modified leases subsequent to January 1, 2019, the Company uses its incremental borrowing rate based on the information available at commencement date of the contract in determining the present value of future lease payments. The incremental borrowing rate is calculated using a risk-free interest rate adjusted for the Company's risk. Operating lease ROU assets also include any lease incentives received in the recognition of the present value of future lease payments. Certain of the Company's leases may also include escalation clauses or options to extend or terminate the lease. These options are included in the present value recorded for the leases when it is reasonably certain that the Company will exercise that option. Lease expense for lease payments is recognized on a straight-line basis over the lease term.

The Company determines if an arrangement is a lease at inception of the contract and records the resulting operating lease asset on the condensed consolidated balance sheets as an asset in other assets, with offsetting liabilities recorded as a current liability in accrued liabilities and other and long-term derivative liabilities and other. The Company recognizes a lease in the consolidated financial statements when the arrangement either explicitly or implicitly involves property or equipment, the contract terms are dependent on the use of the property or equipment, and the Company has the ability or right to operate the property or equipment or to direct others to operate the property or equipment and receives greater than 10% of the economic benefits of the assets. As of June 30, 2019, the Company does not have any financing leases.

The Company has adopted the modified retrospective method for the new lease recognition rule. Therefore, prior periods are not presented as prior period amounts have not been adjusted under the modified retrospective. Refer to Note 2 - Summary of Significant Accounting Policies and Estimates for additional information.


20



As of June 30, 2019, the Company's ROU assets and operating lease liabilities were included in the condensed consolidated balance sheets as follows (in thousands):
Right of use assets:
 
 
Right of use assets - long-term (1)
 
$
127

 
 
 
Lease liabilities:
 
 
Lease liabilities - current (2)
 
$
122

Lease liabilities - long-term (3)
 
16

     Total lease liabilities
 
$
138

(1) Right of use assets - long-term are included in other assets on the condensed consolidated balance sheets.
(2) Lease liabilities - current are included in accrued liabilities and other on the condensed consolidated balance sheets.
(3) Lease liabilities - long-term are included in long-term derivatives instruments and other on the condensed consolidated balance sheets.

During the second quarter of 2019, the Company canceled the long-term drilling rig lease, within the terms of the agreement, which resulted in the write-off of the related lease liability and ROU asset of $5.4 million, respectively.

Lease costs represent the straight line lease expense of ROU assets, short-term leases, and variable lease costs. For the three and six months ended June 30, 2019, the components of lease cost were classified as follows (in thousands):
 
Three Months Ended
June 30, 2019
 
Six Months Ended
June 30, 2019
Fixed lease costs
$
1,097

 
$
2,836

Short-term lease costs
152

 
209

Variable lease costs
72

 
118

Total lease costs
$
1,321

 
$
3,163


Lease Cost included in the Condensed Consolidated Financial Statements
Oil and natural gas properties, full cost method of accounting, net (1)
 
$
2,778

Total lease costs capitalized
 
2,778

 
 
 
Production costs
 
180

General and administrative
 
205

Total lease costs expensed
 
385

Total lease costs
 
$
3,163

(1) Represents short-term lease capital expenditures related to drilling rigs for the six months ended June 30, 2019.

During the six months ended June 30, 2019, the following cash activities were associated with the Company's leases as follows (in thousands):
Cash paid for amounts included in the measurement of operating lease liabilities:
 
 
Operating cash flows from operating leases
 
$
69

Investing cash flows from operating leases
 
$
2,769


As of June 30, 2019, the weighted average lease term and discount rate related to the Company's remaining leases were as follows:
Lease term and discount rate
Weighted-average remaining lease term (years)
 
1.02

Weighted-average discount rate
 
5.7
%


21



As of June 30, 2019, minimum future payments, including imputed interest, for long-term operating leases under the scope of ASC Topic 842, "Leases", are as follows (in thousands):
Year
 
Amount
2019
 
$
75

2020
 
66

2021
 

2022
 

2023
 

After 2023
 

Less: the effects of discounting
 
(4
)
Present value of lease liabilities
 
$
137


As of December 31, 2018, minimum future payments, including imputed interest, for long-term operating leases under the scope of ASC Topic 840, "Leases", are as follows (in thousands):
Year
 
Amount
2019
 
$
7,586

2020
 
66

2021
 

2022
 

2023
 

After 2023
 

Total lease commitment
 
$
7,652


NOTE 10 - LONG-TERM DEBT
 
 
June 30, 2019
 
December 31, 2018
 
 
(In thousands)
8.25% Second Lien Term Loan, due 2021, net of debt issuance costs and debt discount
 
$

 
$
82,804

Revolving Credit Agreement, due April 2021
 
123,000

 
75,000

Total long-term debt
 
$
123,000

 
$
157,804

 
Revolving Credit Agreement

On October 10, 2018, Lilis entered into a five-year, $500.0 million senior secured revolving credit agreement by and among the Company, as borrower, certain subsidiaries of the Company, as guarantors (the "Guarantors"), BMO Harris Bank, N.A., as administrative agent, and the lenders party thereto (the "Revolving Credit Agreement"). The Revolving Credit Agreement provides for a senior secured reserve based revolving credit facility with an initial borrowing base of $95.0 million. The borrowing base is subject to semiannual re-determinations in May and November of each year. In December 2018, the borrowing base was increased to $108.0 million in connection with our scheduled borrowing base re-determination. On March 5, 2019, the Company's borrowing base under the Revolving Credit Agreement was increased from $108.0 million to $125.0 million, as the result of an acceleration of the scheduled May 2019 borrowing base redetermination pursuant to the First Amendment (as defined below). As provided in the Third Amendment (as defined below) and as a result of the sale of certain working and overriding royalty interests the ("Asset Sales"), in July 2019, the borrowing base was decreased to $115.0 million. For further information on our subsequent events, see Note 20 - Subsequent Events. The redetermination of the borrowing base in the Third Amendment was the scheduled July redetermination, and the next scheduled redetermination will occur on or about November 1, 2019.

Borrowings under the Revolving Credit Agreement bear interest at a floating rate of either LIBOR or a specified base rate plus a margin determined based upon the usage of the borrowing base. The Company is required to pay a commitment fee of 0.5% per annum on any unused portion of the borrowing base. The Company's obligations under the Revolving Credit Agreement are secured by first priority liens on substantially all of the Company's and the Guarantors' assets and are unconditionally guaranteed by each of the Guarantors.

22




As of June 30, 2019, outstanding borrowings under the Revolving Credit Agreement were $123.0 million, leaving $2.0 million available for future borrowing. Following the Asset Sales and the Third Amendment, the Company had borrowings of $105.0 million under the Revolving Credit Agreement, leaving $10.0 million available for future borrowing under the $115.0 million borrowing base. Future borrowings may be used to fund working capital requirements, including for the acquisition, exploration and development of oil and gas properties, and for general corporate purposes. The Revolving Credit Agreement also provides for issuance of letters of credit in an aggregate amount up to $5.0 million.

The Company capitalizes certain direct costs associated with the debt issuance under the Revolving Credit Agreement and amortizes such costs over the term of the debt instrument. The deferred financing costs related to the Revolving Credit Agreement are classified in assets. For the three and six months ended June 30, 2019, the Company amortized debt issuance costs associated with the Revolving Credit Agreement of $0.1 million and $0.3 million, respectively. As of June 30, 2019, the Company had $0.6 million and $2.0 million of unamortized deferred financing costs in other current assets and non-current assets, respectively. The Company did not have a revolving credit agreement in place during the six months ended June 30, 2018.

The Revolving Credit Agreement matures on October 10, 2023, the fifth anniversary of the closing date. Borrowings under the Revolving Credit Agreement are subject to mandatory repayment in certain circumstances, including upon certain asset sales and debt incurrences or if a borrowing base deficiency occurs. The Company also may voluntarily repay borrowings from time to time and, subject to the borrowing base limitation and other customary conditions, may re-borrow amounts that are voluntarily repaid. Mandatory and voluntary repayments generally will be made without premium or penalty.

The Revolving Credit Agreement contains certain customary representations and warranties and affirmative and negative covenants, including covenants relating to: maintenance of books and records; financial reporting and notification; compliance with laws; maintenance of properties and insurance; and limitations on incurrence of indebtedness, liens, fundamental changes, international operations, asset sales, certain debt payments and amendments, restrictive agreements, investments, dividends and other restricted payments and hedging. It also requires the Company to maintain a ratio of Total Debt to EBITDAX of not more than 4.00 to 1.00 and a ratio of Current Assets to Current Liabilities of not less than 1.00 to 1.00 (as each ratio is set forth in the Revolving Credit Agreement). Pursuant to the Third Amendment (as defined below) the ratio of Current Assets to Current Liabilities that the Company is required to maintain as of September 30, 2019, is not less than 0.85 to 1.00. At December 31, 2019 and at the last day of each fiscal quarter thereafter, the Company will be required to maintain a ratio of Current Assets to Current Liabilities of 1.00 to 1.00. As of June 30, 2019, giving pro forma effect to the Asset Sales, and as permitted under the terms of the Third Amendment, the Company was in compliance with all debt covenants, as required by the Revolving Credit Agreement.

The Revolving Credit Agreement also provides for events of default, including failure to pay any principal, interest or other amounts when due, failure to perform or observe covenants, cross-default on certain outstanding debt obligations, inaccuracy of representations and warranties, certain ERISA events, change of control, the security documents or guaranty ceasing to be effective, and bankruptcy or insolvency events, subject to customary cure periods. Amounts owed by the Company under the Revolving Credit Agreement could be accelerated and become immediately due and payable following the occurrence of an event of default.

The Revolving Credit Agreement also provides for the Company to have and maintain Swap Agreements (as defined in the Revolving Credit Agreement) in respect of crude oil and natural gas, on not less than 50% of the projected production from the proved reserves classified as Developed Producing Reserves attributable to the oil and natural gas properties of the Company as reflected in the most recently delivered reserve report for a period through at least 24 months after the end of each applicable quarter. Pursuant to the Third Amendment, commencing with the fiscal quarter ending September 30, 2019, the Company will be required to maintain Swap Agreements on not less than 75% of the projected production from proved reserves classified as "Developed Producing Reserves" attributable to the oil and natural gas properties of the Company, as reflected in the most recently delivered reserve report, for a period through at least 24 months after the end of each applicable quarter. For further information on our hedges, see Note 8 - Derivatives.

First Amendment and Waiver to Revolving Credit Agreement

On March 1, 2019, the Company entered into a First Amendment and Waiver (the "First Amendment") to the Revolving Credit Agreement. Among other matters, the First Amendment provided for the acceleration of the scheduled May 2019 redetermination of the borrowing base described above, which became effective on March 5, 2019 upon closing of the transactions contemplated by the 2019 Transaction Agreement (as defined below), including the satisfaction in full, as described below, of the Second Lien Term Loan under the Second Lien Credit Agreement (as defined below). The First Amendment also provides for the July 2019 scheduled redetermination of the borrowing base described above.


23



In addition, the First Amendment provided for a limited waiver of compliance by the Company with the ratio of Total Debt to EBITDAX covenant in the Revolving Credit Agreement as of December 31, 2018. Further, in connection with the satisfaction in full of the Second Lien Term Loan and the termination of the Second Lien Credit Agreement, the First Amendment amended the maturity date provisions of the Revolving Credit Agreement to eliminate any springing maturity under the Revolving Credit Agreement tied to the maturity of the Second Lien Credit Agreement, resulting in a fixed maturity date under the Revolving Credit Agreement of October 10, 2023. The First Amendment also effected certain other ministerial and conforming amendments to the Revolving Credit Agreement related to the transactions contemplated by the 2019 Transaction Agreement and required payment by the Company to the lenders of customary fees.

Second Amendment and Waiver to Revolving Credit Agreement

On May 6, 2019, the Company entered into a Second Amendment and Waiver (the "Second Amendment") to the Revolving Credit Agreement, pursuant to which the requisite required lenders under the Revolving Credit Agreement waived compliance by the Company with the Current Ratio covenant (as defined in the Revolving Credit Agreement) as of March 31, 2019 in exchange for a customary consent fee. Additionally, the Second Amendment provided for a 25-basis point increase in the interest rate margin applicable to loans under the Revolving Credit Agreement if the Company's ratio of Total Debt to EBITDAX is equal to or greater than 3.00 to 1.00. The Second Amendment also provides that if the Company has available cash and cash equivalents (subject to certain carveouts) in excess of $10 million for a period of at least five consecutive business days, then it must prepay the loans under the Revolving Credit Agreement in the amount of such excess.

Third Amendment to Revolving Credit Agreement

On July 26, 2019, the Company entered into a Third Amendment (the "Third Amendment") to the Revolving Credit Agreement, pursuant to which the requisite required lenders under the Revolving Credit Agreement agreed to reduce the borrowing base to $115 million from $125 million as a part of the scheduled July 1, 2019 redetermination and as a result of the Asset Sales; to give pro forma effect to the Asset Sales for the calculation of EBITDAX, Total Debt, and Current Liabilities at June 30, 2019; and, subject to the consummation of the Asset Sales and the required use of the proceeds, to amend the Current Ratio to be not less than 0.85 to 1.00 on September 30, 2019, rather than the minimum Current Ratio of 1.00 to 1.00 required otherwise. Additionally, the Third Amendment provides for, among other things, an increase in the projected production from proved reserves classified as "Developed Producing Reserves" attributable to the oil and natural gas properties of the Company for which the Company will be required to maintain swap agreements to not less than 75%. The Third Amendment also effected certain other ministerial changes to the Revolving Credit Agreement and required payment by the Company to the lenders of customary fees.

Second Lien Credit Agreement

On April 26, 2017, the Company entered into a second lien credit agreement (the "Second Lien Credit Agreement"), by and among the Company, certain subsidiaries of the Company, as guarantors, Wilmington Trust, National Association, as administrative agent, and the lenders party thereto, consisting of certain private funds affiliated with Värde Partners, Inc. ("Värde"). The Second Lien Credit Agreement provided for convertible loans in an aggregate initial principal amount of up to $125 million in two tranches (together, the "Second Lien Term Loan"). The first tranche consisted of an $80 million term loan, which was fully drawn and funded on April 26, 2017. The second tranche consisted of up to $45 million in delayed-draw term loans, which was fully drawn and funded in October 2017. In November 2017, the Second Lien Credit Agreement was amended to increase the amount available for borrowing under the second tranche of the Second Lien Term Loan by $25 million, and the additional $25 million was fully drawn and funded in November 2017.

Prior to the satisfaction in full of the Second Lien Term Loan and the termination of the Second Lien Credit Agreement on March 5, 2019, as described below, the Second Lien Term Loan bore interest at a rate per annum of 8.25%, compounded quarterly in arrears and payable only in-kind by increasing the principal amount of the loan by the amount of the interest due on each interest payment date, and had a maturity date of April 26, 2021.

Each tranche of the Second Lien Term Loan was separately convertible at any time, in full and not in part, at the option of Värde, as lead lender, as follows: (i) 70% of the principal amount, together with accrued and unpaid interest and the make-whole premium on such principal amount, would convert into a number of shares of the Company's common stock determined by dividing the total of such principal amount, accrued and unpaid interest and make-whole premium by $5.50 (subject to certain customary adjustments, the "Conversion Price"); and (ii) 30% of the principal amount, together with accrued and unpaid interest and the make-whole premium on such principal amount, would convert on a dollar for dollar basis into a new term loan. Additionally, if the closing price of the Company's common stock on the principal exchange on which it was traded had been at least 150% of the Conversion Price then in effect for at least 20 of the 30 immediately preceding trading days, the Company had the option to

24



convert the Second Lien Term Loan, in whole or in part, into a number of shares of its common stock determined by dividing the principal amount to be converted, together with accrued and unpaid interest on such principal amount, by the Conversion Price.

On October 10, 2018, the Company entered into a transaction agreement (the "2018 Transaction Agreement") by and among the Company and certain private funds affiliated with Värde that were lenders under the Second Lien Credit Agreement (collectively, the "Värde Parties"), pursuant to which, among other matters, the Company issued to the Värde Parties (i) an aggregate of 5,952,763 shares of its common stock and (ii) 39,254 shares of a newly created series of preferred stock of the Company, designated as "Series D 8.25% Convertible Participating Preferred Stock", as consideration for the reduction by approximately $56.3 million of the outstanding principal amount of the Second Lien Term Loan under the Second Lien Credit Agreement, together with accrued and unpaid interest and the make-whole amount thereon totaling approximately $11.9 million.

On March 5, 2019, the Company entered into a transaction agreement (the "2019 Transaction Agreement") by and among the Company and the Värde Parties pursuant to which, among other matters, the Company issued to the Värde Parties shares of two new series of its preferred stock and shares of its common stock, as consideration for the termination of the Second Lien Credit Agreement and the satisfaction in full, in lieu of repayment in cash, of the Second Lien Term Loan. Specifically, in exchange for satisfaction of the outstanding principal amount of the Second Lien Term Loan, accrued and unpaid interest thereon and the make-whole amount totaling approximately $133.6 million (the "Second Lien Exchange Amount"), the Company issued to the Värde Parties:

an aggregate of 55,000 shares of a newly created series of preferred stock of the Company, designated as "Series F 9.00% Participating Preferred Stock" (the "Series F Preferred Stock"), corresponding to $55 million of the Second Lien Exchange Amount based on the aggregate initial Stated Value (as defined in Note 13 - Preferred Stock) of the shares of Series F Preferred Stock;

an aggregate of 60,000 shares of a newly created series of preferred stock of the Company, designated as "Series E 8.25% Convertible Participating Preferred Stock" (the "Series E Preferred Stock"), corresponding to $60 million of the Second Lien Exchange Amount based on the aggregate initial Stated Value (as defined in Note 13 - Preferred Stock) of the shares of Series E Preferred Stock; and

9,891,638 shares of common stock, corresponding to approximately $18.6 million of the Second Lien Exchange Amount, based on the closing price of the Company's common stock on the NYSE American on March 4, 2019 of $1.88.

Subsequent to this transaction, the Company's long-term debt consists solely of borrowings under the Revolving Credit Agreement.

As a result of the satisfaction in full of the Second Lien Term Loan pursuant to the 2019 Transaction Agreement, the Company recorded a gain on extinguishment of debt of $7.1 million, which was recorded as an increase in additional paid in capital due to the Värde Parties, being existing shareholders of the Company.

Interest Expense
 
The components of interest expense are as follows (in thousands) for the three and six months ended June 30, 2019 and 2018:
 
Three Months Ended June 30,
 
Six Months Ended June 30
 
2019
 
2018
 
2019
 
2018
Interest on debt
$
1,707

 
$
1,078

 
$
3,147

 
$
2,538

Paid-in-kind interest on term loans

 
3,269

 
1,590

 
6,437

Amortization of debt financing costs
138

 
262

 
279

 
881

Amortization of discount on term loans

 
3,963

 
1,657

 
7,804

Total
$
1,845

 
$
8,572

 
$
6,673

 
$
17,660

   

25



NOTE 11 - LONG-TERM DEFERRED REVENUE LIABILITIES

SCM Water LLC's Option to Exercise Purchase of Salt Water Disposal Assets

In July 2018, the Company entered into a water gathering and disposal agreement and a contract operating and right of first refusal agreement with SCM Water, LLC ("SCM Water"), a subsidiary of Salt Creek Midstream, LLC ("SCM"). The water gathering agreement complements the Company's existing water disposal infrastructure, and the Company has reserved the right to recycle its produced water. SCM Water will commence, upon receipt of regulatory approval, to build out new gathering and disposal infrastructure to all of the Company's current and future well locations in Lea County, New Mexico, and Winkler County, Texas. All future capital expenditures to construct, maintain and operate the water gathering system will be fully funded by SCM Water and will be designed to accommodate all water produced by the Company's operations. Pursuant to the contract operating agreement, the Company will act as contract operator of SCM Water's salt water disposal wells.

Additionally, the Company has sold to SCM Water an option to acquire the Company's existing water infrastructure, a system which is comprised of approximately 14 miles of pipeline and one SWD well, for cash consideration upon closing, with additional payments based on reaching certain milestones. The Company is actively working on permitting additional SWD well locations. The Company anticipates that the majority of its water will eventually be disposed of through the future SCM Water system at a competitive gathering rate under the agreement. Total cash consideration for the water gathering and disposal infrastructure is $20.0 million. On July 25, 2018, the Company received an upfront non-refundable payment of $10.0 million for the option to acquire its existing water infrastructure and $5.0 million for a prefunded drilling bonus. Additionally, the Company received $2.5 million on October 1, 2018 as a bonus for the grant of an area right-of-way/easement, and the water gathering agreement provided that the Company would receive an additional $2.5 million bonus upon hitting the target of 40,000 barrels per day of produced water.

On March 7, 2019, SCM Water exercised its option to purchase the Company's existing water infrastructure. The Company determined that approximately $11.7 million of the upfront payments were attributable to the sale of the water infrastructure and recorded the exercise of the option as a reduction of deferred liabilities and a reduction of oil and gas properties.

On March 11, 2019, the Company, SCM Water, and ARM Energy Management, LLC ("ARM"), a related company to SCM Water, agreed to amend the terms of the previously negotiated water gathering and disposal agreement and entered into a new crude oil sales contract (See Note 3 - Revenue and Note 19 - Commitments and Contingencies). Under the terms of such agreements, the Company agreed to an increase in salt water disposal rates in exchange for more favorable pricing differentials on the crude oil sales contract, modification on the minimum quantities of crude oil required under the crude oil sales contract, an upfront payment of $2.5 million and the elimination of the potential bonus for hitting a target of 40,000 barrels of produced water per day. The Company determined that the upfront $2.5 million payment was primarily attributable to the crude oil sales contract, and the Company recorded the $2.5 million payment as deferred revenues and will recognize it in income ratably as the crude oil is sold.

Crude Oil Gathering Agreement and Option Agreement

On May 21, 2018, the Company entered into a crude oil gathering agreement and option agreement with SCM. The crude oil gathering agreement (the "Gathering Agreement") enables SCM to (i) design, engineer, and construct a gathering system which will provide gathering services for the Company's crude oil under a tariff arrangement and (ii) gather the Company's crude oil on the gathering system in certain production areas located in Winkler and Loving Counties, Texas and Lea County, New Mexico. Construction of the gathering system has commenced and is expected to be completed during the third quarter of 2019. The Gathering Agreement has a term of 12 years that automatically renews on a year to year basis until terminated by either party.
SCM and the Company also entered into an option agreement (the "Option Agreement") whereby the Company granted an option to SCM to provide certain midstream services related to natural gas in Winkler and Loving Counties, Texas and Lea County, New Mexico, subject to the expiration and terms of the Company's existing gas agreement. The Option Agreement has a term commencing May 21, 2018 and terminating January 1, 2027, pursuant to its one-time option. As consideration for this option, the Company received a one-time payment of $35.0 million, which was recorded in long-term deferred revenue.

26



NOTE 12 - RELATED PARTY TRANSACTIONS
 
During the six months ended June 30, 2019 and 2018, the Company was engaged in the following transactions with certain related parties:  
 
 
 
 
Six Months Ended June 30,
Related Party
 
Transactions
 
2019
 
2018
 
 
 
 
(In thousands)
Directors and Officers:
 
 
 
 

 
 

Värde Partners, Inc. (1)
 
The Company acquired oil and natural gas interests from VPD, an affiliate of Värde
 
$

 
$
10,611

 
 
Receivable balance outstanding as of June 30, 2019 for operating costs associated with VPD's producing wells
 
158



 
 
Revenue payable balance due as of June 30, 2019 for revenue associated with VPD's producing wells
 
(553
)
 

 
 
Total:
 
$
(395
)
 
$
10,611


(1) Värde was the lead lender in the Company's Second Lien Term Loan (see Note 10 - Long-Term Debt), is a major stockholder of the Company, and also participated in various transactions in 2018 and during the six months ended June 30, 2019 (which such transactions included the issuance of preferred stock to Värde Parties) (see Note 13 - Preferred Stock).

Additionally, on March 5, 2019, pursuant to the 2019 Transaction Agreement and the related payoff letter, the Company agreed to issue to the Värde Parties shares of two new series of its preferred stock and shares of its common stock, as consideration for the termination of the Second Lien Credit Agreement with the Värde Parties and the satisfaction in full, in lieu of repayment in cash, of the Second Lien Term Loan under the Second Lien Credit Agreement. See Note 10 - Long-Term Debt and Note 13 - Preferred Stock for additional information.

On July 31, 2019, the Company entered into two agreements with affiliates of Värde for the sale of an overriding royalty interest and a non-operated working interest in undeveloped assets. See Note 20 - Subsequent Events for additional information.

NOTE 13 - PREFERRED STOCK
 
Preferred Stock Issuances
 
On January 30, 2018, the Company entered into a Securities Purchase Agreement by and among the Company and the Värde Parties, pursuant to which, on January 31, 2019, the Company issued and sold to the Värde Parties 100,000 shares of a newly created series of preferred stock of the Company, designated as "Series C 9.75% Convertible Participating Preferred Stock" for a purchase price of $1,000 per share, or an aggregate of $100.0 million. The Series C 9.75% Convertible Participating Preferred Stock was subsequently re-designated as "Series C-1 9.75% Convertible Participating Preferred Stock" in connection with the transactions contemplated by the 2018 Transaction Agreement (as defined in Note 10 - Long-Term Debt) and as "Series C-1 9.75% Participating Preferred Stock" in connection with the transactions contemplated by the 2019 Transaction Agreement (as defined in Note 10 - Long-Term Debt) (as re-designated, the "Series C-1 Preferred Stock").

Pursuant to the 2018 Transaction Agreement, on October 10, 2018, the Company issued and sold to the Värde Parties 25,000 shares of a newly created series of the Company's preferred stock designated as "Series C-2 9.75% Convertible Participating Preferred Stock" for a purchase price of $1,000 per share, or an aggregate of $25.0 million. The Series C-2 9.75% Convertible Participating Preferred Stock was subsequently re-designated as "Series C-2 9.75% Participating Preferred Stock" in connection with the transactions contemplated by the 2019 Transaction Agreement (as re-designated, the "Series C-2 Preferred Stock" and, together with the Series C-1 Preferred Stock, the "Series C Preferred Stock"). Also pursuant to the 2018 Transaction Agreement, on October 10, 2018, the Company issued to the Värde Parties 39,254 shares of its Series D 8.25% Convertible Participating Preferred Stock. The Series D 8.25% Convertible Participating Preferred Stock was subsequently re-designated as "Series D 8.25% Participating Preferred Stock" in connection with the transactions contemplated by the 2019 Transaction Agreement (as re-designated, the "Series D Preferred Stock").

Pursuant to the 2019 Transaction Agreement, on March 5, 2019, the Company issued to the Värde Parties (i) 60,000 shares of its Series E Preferred Stock and (ii) 55,000 shares of its Series F Preferred Stock.


27



Additionally, pursuant to the 2019 Transaction Agreement, on March 5, 2019, the Company issued to the Värde Parties an aggregate of 7,750,000 shares of its common stock, as consideration for the Värde Parties' consent to the amendment of the terms of the Series C Preferred Stock and the Series D Preferred Stock to, among other things, eliminate the convertibility and voting rights of the Series C Preferred Stock and the Series D Preferred Stock. As a result of the transactions effected under the 2019 Transaction Agreement, the potential dilution of the Company's common stockholders resulting from the conversion of convertible debt and convertible preferred stock was reduced from approximately 53.5 million shares of common stock (related to the Second Lien Term Loan, the Series C Preferred Stock and the Series D Preferred Stock) to approximately 24.0 million shares of common stock (related to the Series E Preferred Stock). Other than the Series E Preferred Stock, the Company has no convertible debt or convertible preferred stock outstanding following the closing of the transactions contemplated by the 2019 Transaction Agreement. The amendments to the terms of the Series C Preferred Stock also fixed the redemption price payable by the Company in connection with a redemption of the Series C Preferred Stock at price per share equal to (i) the Stated Value (as defined in the certificate of designation for the Series C Preferred Stock) multiplied by 125.0% plus (ii) accrued and unpaid dividends thereon and any other amounts payable by the Company in respect thereof. Prior to the amendments, the percentage specified in clause (i) above would have increased to 130.0% for a redemption of the Series C Preferred Stock effected after December 31, 2019.

As of June 30, 2019, the Company accounted for the Series C, D, E and F Preferred Stock at its initial fair value at closing of the 2019 Transaction Agreement, plus cumulative paid-in-kind dividends accrued subsequent to the closing of the transactions contemplated by the 2019 Transaction Agreement, under mezzanine equity in the consolidated balance sheet. The components of each series of preferred stock are summarized in the table below:
 
 
Series C Preferred Stock
 
Series D Preferred Stock
 
Series E Preferred Stock
 
Series F Preferred Stock
 
 
Number of Shares
 
Amount
 
Number of Shares
 
Amount
 
Number of Shares
 
Amount
 
Number of Shares
 
Amount
 
 
(In thousands, except shares)
Balance, January 1, 2019
 
125,000

 
$
132,296

 
39,254

 
$
40,729

 

 
$

 

 
$

Change in carrying value due to modification
 

 
(46,633
)
 

 
(15,057
)
 

 

 

 

Issuance of Preferred Stock in extinguishment of debt
 

 

 

 

 
60,000

 
62,115

 
55,000

 
46,682

Paid-in-kind dividends
 

 
6,321

 

 
1,646

 

 
1,616

 

 
1,617

Balance, June 30, 2019
 
125,000

 
$
91,984

 
39,254

 
$
27,318

 
60,000

 
$
63,731

 
55,000

 
$
48,299


Description of the Series E Preferred Stock and Series F Preferred Stock

Ranking. The Series F Preferred Stock ranks senior to all of the other series of preferred stock of the Company, and the Series E Preferred Stock ranks senior to the Series D Preferred Stock and the Series C Preferred Stock, in each case with respect to dividends and rights on the liquidation, dissolution or winding up of the Company.

Stated Value. The Series E Preferred Stock and the Series F Preferred Stock have an initial per share stated value of $1,000, subject to increase in connection with the payment of dividends in kind as described below (the "Stated Value").
Dividends. Holders of the Series E Preferred Stock and Series F Preferred Stock are entitled to receive cumulative preferential dividends, payable and compounded quarterly in arrears on January 1, April 1, July 1 and October 1 of each year, commencing April 1, 2019, at an annual rate of 8.25% of the Stated Value for the Series E Preferred Stock and at an annual rate of 9.00% of the Stated Value for the Series F Preferred Stock. However, if, on any dividend payment date occurring after April 26, 2021, dividends due on such dividend payment date on the Series E Preferred Stock or the Series F Preferred Stock are not paid in full in cash, the annual dividend rate for the dividends due on such dividend payment date (but not for any future dividend payment date on which dividends are paid in full in cash) will be 9.25% on the Series E Preferred Stock and 10.00% on the Series F Preferred Stock. Dividends are payable, at the Company's option, (i) in cash, (ii) in kind by increasing the Stated Value by the amount per share of the dividend or (iii) in a combination thereof.
  
In addition to these cumulative preferential dividends, holders of the Series E Preferred Stock and Series F Preferred Stock are entitled to participate in dividends paid on the Company's common stock. For holders of the Series E Preferred Stock, such participation will be based on the number of shares of common stock such holders would have owned if all shares of Series

28



E Preferred Stock had been converted to common stock at the Conversion Rate (as defined below) then in effect. For holders of the Series F Preferred Stock, such participation will be based on the dividends such holders would have received if, immediately prior to the applicable record date, each outstanding share of Series F Preferred Stock had been converted into a number of shares of common stock equal to the Series F Optional Redemption Price (as defined below) divided by $7.00, subject to proportionate adjustment in connection with stock splits and combinations, dividends paid in stock and similar events affecting the outstanding common stock (regardless of the fact that shares of the Series F Preferred Stock are not convertible into common stock).
 
Optional Redemption. Subject to the limitations described below and certain additional limitations on partial redemptions, the Company has the right to redeem the Series E Preferred Stock, in whole or in part, at a price per share equal to (i) the Stated Value then in effect multiplied by (A) 110% if the optional redemption date occurs on or prior to March 5, 2020, (B) 105% if the optional redemption date occurs after March 5, 2020 and on or prior to March 5, 2021 and (C) 100% if the optional redemption date occurs after March 5, 2021, plus (ii) accrued and unpaid dividends thereon and any other amounts payable by the Company in respect thereof (the "Series E Optional Redemption Price"). However, for any optional redemption effected in connection with or following a Change of Control (as defined in the Series E Certificate of Designation) or any mandatory redemption in connection with a Change of Control as described below, the Series E Optional Redemption Price will be calculated under clause (C) above, regardless of when the redemption or Change of Control occurs.
Except in the case of a Change of Control Redemption (as defined in the Series E Certificate of Designation), the Company may not effect an optional redemption of the Series E Preferred Stock unless:
either (i) as of the optional redemption date, there are no shares of the Series F Preferred Stock outstanding or (ii) all outstanding shares of the Series F Preferred Stock are redeemed on such optional redemption date concurrently with such optional redemption of the Series E Preferred Stock in accordance with the terms of the Series F Certificate of Designation;
the aggregate Series E Optional Redemption Price for all shares of the Series E Preferred Stock to be redeemed pursuant to such optional redemption shall not exceed the aggregate amount of net cash proceeds received by the Company from a contemporaneous issuance of common stock issued for the purpose of redeeming such shares of Series E Preferred Stock; and
if the optional redemption date occurs prior to March 5, 2022, then (i) the VWAP for at least 20 trading days during the 30 trading day period immediately preceding the notice of the optional redemption has been at least 150% of the Conversion Price (as defined below) then in effect, and (ii) such optional redemption shall be for all (but not less than all) then-outstanding shares of Series E Preferred Stock.

The Series E Preferred Stock is not redeemable at the option of the holders except in connection with a Change of Control as described below and is perpetual unless converted or redeemed in accordance with the Series E Certificate of Designation.
The Company has the right to redeem the Series F Preferred Stock, in whole or in part (subject to certain limitations on partial redemptions), at a price per share equal to (i) the Stated Value then in effect, multiplied by 115.0%, plus (ii) accrued and unpaid dividends thereon and any other amounts payable by the Company in respect thereof (the "Series F Optional Redemption Price").
The Series F Preferred Stock is not redeemable at the option of the holders except in connection with a Change of Control as described below and is perpetual unless converted or redeemed in accordance with the Series F Certificate of Designation.
Conversion. Each share of the Series E Preferred Stock is convertible at any time at the option of the holder into the number of shares of common stock equal to (i) the applicable Series E Optional Redemption Price that would have been received by the holder upon the redemption of the applicable shares of Series E Preferred Stock as of the Conversion Date (as defined in the Series E Certificate of Designation) divided by (ii) the Conversion Price (as defined below) (the "Conversion Rate"). However, for purposes of determining the Conversion Rate, the Series E Optional Redemption Price will be calculated on the basis applicable to an optional redemption occurring after March 5, 2021 (i.e., multiplying the Stated Value by 100.0%), regardless of the timing or circumstances of the conversion. The "Conversion Price" for the Series E Preferred Stock is $2.50, subject to adjustment as described below. The Conversion Price will be subject to proportionate adjustment in connection with stock splits and combinations, dividends paid in stock and similar events affecting the outstanding common stock. Additionally, the Conversion Price will be adjusted, based on a broad-based weighted average formula, if the Company issues, or is deemed to issue, additional shares of common stock for consideration per share that is less than the Conversion Price then in effect, subject to certain exceptions and to the Share Cap (as defined below).
To comply with the rules of the NYSE American, the Series E Certificate of Designation provides that the number of shares of common stock issuable on conversion of a share of Series E Preferred Stock may not exceed the Stated Value divided by $1.88 (which was the closing price of the common stock on the NYSE American on March 4, 2019) (the "Share Cap"), subject

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to proportionate adjustment in connection with stock splits and combinations, dividends paid in stock and similar events affecting the outstanding common stock (such price, as so adjusted, the "Initial Market Price"), prior to the receipt of stockholder approval of the issuance of shares of common stock in excess of the Share Cap upon conversion of shares of Series E Preferred Stock. The 2019 Transaction Agreement requires the Company to seek such shareholder approval at its next annual meeting of shareholders. Accordingly, the Company received shareholder approval at its 2019 annual meeting of shareholders held on May 20, 2019.
The Company does not have the right to force the conversion of shares of the Series E Preferred Stock based on the trading price of the common stock or otherwise.
The Series F Preferred Stock is not convertible into common stock.
Change of Control. Upon the occurrence of a Change of Control (as defined in the Series E Certificate of Designation and the Series F Certificate of Designation), each holder of shares of the Series E Preferred Stock and Series F Preferred Stock will have the option to: (i) cause the Company to redeem all of such holder's shares of Series E Preferred Stock or Series F Preferred Stock for cash in an amount per share equal to the applicable Optional Redemption Price; (ii) in the case of the Series E Preferred Stock, convert all of such holder's shares of Series E Preferred Stock into common stock at the Conversion Rate; or (iii) continue to hold such holder's shares of Series E Preferred Stock or Series F Preferred Stock, subject to the Company's or its successor's optional redemption rights described above and, in the case of the Series E Preferred Stock, subject to any adjustments to the Conversion Price or the number and kind of securities or other property issuable upon conversion resulting from the Change of Control.
Liquidation Preference. Upon any liquidation, dissolution or winding up of the Company, holders of shares of Series F Preferred Stock will be entitled to receive, prior to any distributions on the Series E Preferred Stock, the Series D Preferred Stock, the Series C Preferred Stock, the common stock or other capital stock of the Company ranking junior to the Series F Preferred Stock, an amount per share equal to the greater of (i) the Series F Optional Redemption Price then in effect and (ii) the proceeds the holders of Series F Preferred Stock would be entitled to receive if, immediately prior to the payment of such amount, each then-outstanding share of the Series F Preferred Stock had been converted into a number of shares of common stock equal to the Series F Optional Redemption Price divided by the Participation Price (as defined in the certificate of designation for the Series F Preferred Stock), regardless of the fact that shares of the Series F Preferred Stock are not convertible into common stock.
Upon any liquidation, dissolution or winding up of the Company, holders of shares of Series E Preferred Stock will be entitled to receive, after any distributions on the Series F Preferred Stock and prior to any distributions on the Series D Preferred Stock, the Series C Preferred Stock, the common stock or other capital stock of the Company ranking junior to the Series E Preferred Stock, an amount per share of Series E Preferred Stock equal to the greater of (i) the Series E Optional Redemption Price then in effect and (ii) the amount such holder would receive in respect of the number of shares of common stock into which such share of Series E Preferred Stock is then convertible.
Board Designation Rights. The Series E Certificate of Designation provides that holders of the Series E Preferred Stock have the right, voting separately as a class, to designate one member of the Board for as long as the shares of common stock issuable on conversion of the outstanding shares of Series E Preferred Stock represent at least 5% of the outstanding shares of common stock (giving effect to conversion of all outstanding shares of the Series E Preferred Stock).
The Series F Certificate of Designation provides that holders of the Series F Preferred Stock have the right, voting separately as a class, to designate one member of the Board for as long as the aggregate Stated Value of all outstanding shares of the Series F Preferred Stock is at least equal to $13.8 million.
Voting Rights. In addition to the Board designation rights described above, holders of Series E Preferred Stock are entitled to vote with the holders of the common stock, as a single class, on all matters submitted for a vote of holders of the common stock. When voting together with the common stock, each share of Series E Preferred Stock will entitle the holder to a number of votes equal to the applicable Stated Value as of the applicable record date or other determination date divided by the greater of (i) the then-applicable Conversion Price and (ii) the then-applicable Initial Market Price.
Holders of shares of Series F Preferred Stock are not entitled to vote with the holders of the common stock as a single class on any matter.
 
Negative Covenants. The Series E Certificate of Designation and Series F Certificate of Designation contain customary negative covenants.

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Transfer Restrictions. Shares of Series E Preferred Stock and Series F Preferred Stock and shares of common stock issued on conversion of shares of Series E Preferred Stock may not be transferred by the holder of such shares, other than to an affiliate of such holder, prior to September 5, 2019. After September 5, 2019, such shares will be freely transferable, subject to applicable securities laws.

NOTE 14 - STOCKHOLDERS' EQUITY

Issuance of Common Stock

On March 5, 2019, pursuant to the 2019 Transaction Agreement, as (i) partial consideration for the satisfaction in full of the Second Lien Term Loan as discussed in Note 10 - Long-Term Debt and (ii) consideration for the amendment of the terms of the Series C Preferred Stock and the Series D Preferred Stock as discussed in Note 13 - Preferred Stock, the Company issued an aggregate of 17,641,638 shares of the Company's common stock, par value $0.0001 per share.

Warrants
 
The following table provides a summary of the Company's warrant activity for the six months ended June 30, 2019:
 
Warrants
 
Weighted-
Average
Exercise Price
Outstanding at January 1, 2019
5,017,329

 
$
3.83

Forfeited or expired
(615,000
)
 
$
3.63

Outstanding at June 30, 2019
4,402,329

 
$
3.86

  

NOTE 15 - SHARE BASED AND OTHER COMPENSATION
 
For the six months ended June 30, 2019 and 2018, the Company's share-based compensation consisted of the following (dollars in thousands)
 
Six Months Ended June 30, 2019
 
Six Months Ended June 30, 2018
 
Stock  
Options
 
Restricted  Stock
 
Total
 
Stock  
Options
 
Restricted Stock
 
Total
Share based compensation expensed
$
349

 
$
5,652

 
$
6,001

 
$
1,238

 
$
4,316

 
$
5,554

Unrecognized share-based compensation costs
$
216

 
$
2,860

 
$
3,076

 
$
1,346

 
$
4,777

 
$
6,123

Weighted average amortization period remaining (in years)
1.29

 
1.19