10-Q/A

UNITED STATES SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

Form 10-Q/A

(Amendment No. 1)

xQUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the quarterly period ended March 31, 2012

OR

oTRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

Commission file number: 1-35372

Sanchez Energy Corporation

(Exact name of registrant as specified in its charter)

Delaware	45-3090102
(State or other jurisdiction of incorporation or organization)	(I.R.S. Employer Identification No.)
1111 Bagby Street, Suite 1600 Houston, Texas	77002
(Address of principal executive offices)	(Zip Code)

(713) 783-8000
(Registrant’s telephone number, including area code)

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.  Yes x No o

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S T (§ 232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).  Yes o No o

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See the definitions of “large accelerated filer”, “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act.

Large accelerated filer o	Accelerated filer o
Non-accelerated filer x	Smaller reporting company o
(Do not check if a smaller reporting company)

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).  Yes o No x

Number of shares of registrant’s common stock, par value $0.01 per share, outstanding as of May 10, 2012: 34,567,200.

Explanatory Note

The sole purpose of this Amendment No. 1 (this “Amendment”) to Sanchez Energy Corporation’s Quarterly Report on Form 10-Q for the period ended March 31, 2012 (the “Form 10-Q”), as filed with the Securities and Exchange Commission on May 14, 2012, is to furnish the interactive data files as Exhibit 101 to the Form 10-Q, as required by Rule 405 of Regulation S-T.

Users of this data are advised that pursuant to Rule 406T of Regulation S-T, these interactive data files on Exhibit 101 hereto are deemed not filed or part of a registration statement or prospectus for purposes of Sections 11 or 12 of the Securities Act of 1933, as amended, are deemed not filed for purposes of Section 18 of the Securities Exchange Act of 1934, as amended, and otherwise are not subject to liability under those sections.

No other changes have been made to the Form 10-Q for the period ended March 31, 2012, other than the furnishing of Exhibit 101. This Amendment does not reflect subsequent events occurring after the original filing date of the Form 10-Q or modify or update in any way disclosures made in the Form 10-Q.

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Item 6.  Exhibits

EXHIBIT INDEX

Each exhibit identified below is filed or furnished as part of this report.

10.1*	—	Form of Restricted Stock Agreement for employees (filed as Exhibit 10.1 to the Company’s registration statement on Form S-8 (File. No. 333-178920) on January 6, 2012, and incorporated herein by reference).
10.2*	—	Form of Restricted Stock Agreement for non-employee directors (filed as Exhibit 10.2 to the Company’s registration statement on Form S-8 (File. No. 333-178920) on January 6, 2012, and incorporated herein by reference).
10.3*	—	Form of Restricted Stock Agreement for Antonio R. Sanchez, III (filed as Exhibit 10.3 to the Company’s registration statement on Form S-8 (File. No. 333-178920) on January 6, 2012, and incorporated herein by reference).
10.4	—	Indemnification Agreement, dated as of March 9, 2012, between Sanchez Energy Corporation and Greg Colvin (filed as Exhibit 10.1 to the Company’s Current Report on Form 8-K on March 14, 2012, and incorporated herein by reference).
10.5	—	Indemnification Agreement, dated as of March 9, 2012, between Sanchez Energy Corporation and Kirsten A. Hink (filed as Exhibit 10.2 to the Company’s Current Report on Form 8-K on March 14, 2012, and incorporated herein by reference).
31.1(a)		Sarbanes-Oxley Section 302 certification of Principal Executive Officer.
31.2(a)		Sarbanes-Oxley Section 302 certification of Principal Financial Officer.
32.1(b)		Sarbanes-Oxley Section 906 certification of Principal Executive Officer.
32.2(b)		Sarbanes-Oxley Section 906 certification of Principal Financial Officer.
101.INS(c)		XBRL Instance Document.
101.SCH(c)		XBRL Taxonomy Extension Schema Document.
101.CAL(c)		XBRL Taxonomy Extension Calculation Linkbase Document.
101.DEF(c)		XBRL Taxonomy Extension Definition Linkbase Document.
101.LAB(c)		XBRL Taxonomy Extension Labels Linkbase Document.
101.PRE(c)		XBRL Taxonomy Extension Presentation Linkbase Document.

(a)	Filed previously as an exhibit to the Company’s Quarterly Report on Form 10-Q on May 14, 2012, and incorporated herein by reference.
(b)	Furnished previously as an exhibit to the Company’s Quarterly Report on Form 10-Q on May 14, 2012, and incorporated herein by reference.
(c)	Furnished herewith.
*	Management contract or compensatory plan or arrangement.

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SIGNATURES

Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized, on June 7, 2012.

SANCHEZ ENERGY CORPORATION
By:	/s/ Michael G. Long
Michael G. Long
Senior Vice President and Chief Financial Officer

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Summary of Significant Accounting Policies

3 Months Ended

Mar. 31, 2012

Summary of Significant Accounting Policies

Summary of Significant Accounting Policies

Note 2.   Summary of Significant Accounting Policies

The accompanying condensed consolidated financial statements are unaudited and were prepared from the Company’s records.  The condensed consolidated financial statements were prepared in accordance with accounting principles generally accepted in the United States of America (“GAAP” or “U.S. GAAP”) for interim financial information and with the instructions to Form 10-Q and Article 10 of Regulation S-X. The Company derived the condensed consolidated balance sheet as of December 31, 2011 from the audited financial statements filed in its Annual Report on Form 10-K for the fiscal year ended December 31, 2011 (the “2011 Annual Report”).  Because this is an interim period filing presented using a condensed format, it does not include all of the disclosures required by U.S. GAAP.  These condensed consolidated financial statements should be read in connection with the consolidated financial statements and notes thereto included in the 2011 Annual Report, which contains a summary of the Company’s significant accounting policies and other disclosures.  In the opinion of management, these financial statements include the adjustments and accruals, all of which are of a normal recurring nature, which are necessary for a fair presentation of the results for the interim periods. These interim results are not necessarily indicative of results to be expected for the full year.

As of March 31, 2012, the Company’s significant accounting policies are consistent with those discussed in Note 2 in the notes to the Company’s consolidated financial statements contained in its 2011 Annual Report.

Basis of Presentation

The acquisition of oil and natural gas properties from SEP I was a transaction among entities under common control and accordingly, the Company recorded the assets and liabilities acquired at their historical carrying values and has presented the historical accounts of the SEP I Assets on a retrospective basis for all prior periods presented in the consolidated financial statements.

For periods prior to December 19, 2011, the consolidated financial statements were prepared on a “carve-out” basis from SEP I’s accounts and reflect the historical accounts directly attributable to the SEP I Assets together with allocations of costs and expenses. The financial statements for periods prior to December 19, 2011 may not be indicative of future performance and may not reflect what their results of operations, financial position, and cash flows would have been had the SEP I Assets been operated as an independent company.

SOG is a private oil and gas company engaged in the exploration for and development of oil and natural gas. SOG has historically acted as the operator of a significant portion of SEP I’s oil and natural gas properties. SOG provided all employee, management, and administrative support to SEP I and, for periods prior to December 19, 2011, a proportionate share of SOG’s general and administrative costs were allocated to the SEP I Assets. The costs of these services associated with the SEP I Assets were allocated to the SEP I Assets primarily based on the ratio of capital expenditures between the entities to which SOG provides services and the SEP I Assets. However, other factors, such as time spent on general management services and producing property activities, were also considered in the allocation of these costs. Management believes such allocations were reasonable; however, they may not be indicative of the actual expense that would have been incurred had the SEP I Assets been operated as an independent company for the periods prior to December 19, 2011. On December 19, 2011, SOG began providing similar types of services to the Company under the services agreement as described below (Note 7).

Principles of Consolidation

The Company’s condensed consolidated financial statements include the accounts of the Company and its subsidiaries. All intercompany balances and transactions have been eliminated.

Use of Estimates

The condensed consolidated financial statements are prepared in conformity with U.S. GAAP, which requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. The most significant estimates pertain to proved oil and natural gas reserves and related cash flow estimates used in the depletion and impairment of oil and natural gas properties, the fair value of commodity derivative contracts and asset retirement obligations, accrued oil and natural gas revenues and expenses and the allocation of general and administrative expenses. Actual results could differ materially from those estimates.

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Organization

3 Months Ended

Mar. 31, 2012

Organization

Organization

Note 1.Organization

Sanchez Energy Corporation (together with its consolidated subsidiaries, the “Company,” “we,” “our,” “us” or similar terms) is an independent exploration and production company focused on the acquisition, exploration, and development of unconventional oil and natural gas resources primarily in the Eagle Ford Shale in South Texas. As of March 31, 2012, the Company had accumulated acreage in the Eagle Ford Shale in Gonzales, Zavala, Frio, Fayette, Lavaca, Atascosa, Webb and DeWitt Counties of South Texas.  In addition, the Company has properties located in the Haynesville Shale in north central Louisiana, which is primarily a natural gas play, and an undeveloped acreage position in Northern Montana, which the Company believes may be prospective for the Heath, Three Forks and Bakken Shales.  The principal markets for the Company’s products are the sale of such products at the wellhead or by transporting production to purchasers’ purchase points.

The Company was formed in August 2011 to acquire, explore and develop unconventional oil and natural gas assets.  On December 19, 2011, the Company completed its IPO of 10.0 million shares of common stock, par value $0.01 per share, at a price to the public of $22.00 per share and received net proceeds of approximately $203.3 million in cash (net of estimated expenses and underwriting discounts and commissions).

On December 19, 2011, the Company entered into a contribution, conveyance and assumption agreement whereby Sanchez Energy Partners I, LP (“SEP I”) contributed to the Company 100% of the limited liability company interests in SEP Holdings III, LLC (“SEP Holdings III”), which owns interests in unconventional oil and natural gas assets consisting of undeveloped leasehold, proved oil and natural gas reserves and related equipment and other assets (the “SEP I Assets”) in exchange for approximately 22.1 million shares of the Company’s common stock and $50.0 million in cash.  The acquisition of oil and natural gas properties from SEP I was a transaction among entities under common control and accordingly, the Company recorded the assets and liabilities acquired at their historical carrying values and has presented the historical operations of the SEP I Assets on a retrospective basis for all prior periods presented in its financial statements.  In addition, the $50.0 million payment was reflected as a distribution to SEP I in the financial statements. As a result of this transaction, SEP I became the Company’s largest stockholder.

The Company also entered into a contribution agreement whereby it acquired 100% of the limited liability company interests Marquis LLC, which owned unevaluated properties in Fayette, Lavaca, Atascosa, Webb and DeWitt Counties of South Texas (the “Marquis Assets”) in exchange for 909,091 shares of the Company’s common stock, valued at $20.0 million, and approximately $89.0 million in cash, subject to adjustment, from the proceeds of the IPO. The acquisition was accounted for as a purchase of assets and recorded at cost at the acquisition date.

On December 19, 2011, the Company entered into a services agreement and other related agreements with Sanchez Oil & Gas Corporation (“SOG”) pursuant to which SOG (directly or through its subsidiaries) agreed to provide the Company with the services and data that the Company believes are necessary to manage, operate and grow its business, and the Company agreed to reimburse SOG for all direct and indirect costs incurred on its behalf.

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Condensed Consolidated Balance Sheets (USD $) In Thousands, unless otherwise specified	Mar. 31, 2012	Dec. 31, 2011
Current assets:
Cash and cash equivalents	$ 62,498	$ 63,041
Oil and natural gas receivables	2,721	1,193
Fair value of derivative instruments	2,004	1,461
Other current assets	423	327
Total current assets	67,646	66,022
Oil and natural gas properties, at cost, using the full cost method:
Unproved oil and natural gas properties	132,531	126,201
Proved oil and natural gas properties	37,608	31,836
Total oil and natural gas properties	170,139	158,037
Less: Accumulated depreciation, depletion, amortization and impairment	(8,945)	(6,703)
Total oil and natural gas properties, net	161,194	151,334
Fair value of derivative instruments	1,560
Total assets	230,400	217,356
Current liabilities:
Accounts payable - related entities	5,295	1,606
Accrued liabilities	5,980	526
Derivative premium liabilities	2,952
Total current liabilities	14,227	2,132
Asset retirement obligation	106	83
Total liabilities	14,333	2,215
Commitments and contingencies (Note 12)
Stockholders' equity
Preferred stock ($0.01 par value, 15,000,000 shares authorized; none issued and outstanding)
Common stock ($0.01 par value, 150,000,000 shares authorized; 34,567,200 and 33,000,000 issued and outstanding as of March 31, 2012 and December 31, 2011, respectively)	346	330
Additional paid-in capital	219,069	215,115
Accumulated deficit	(3,348)	(304)
Total stockholders' equity	216,067	215,141
Total liabilities and stockholders' equity	$ 230,400	$ 217,356

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Condensed Consolidated Statement of Stockholders' Equity (USD $) In Thousands, except Share data, unless otherwise specified	Total	Common Stock	Additional Paid-in Capital	Accumulated Deficit
BALANCE at Dec. 31, 2011	$ 215,141	$ 330	$ 215,115	$ (304)
BALANCE (in shares) at Dec. 31, 2011	33,000,000	33,000,000
Increase (Decrease) in Stockholders' Equity Roll Forward
Restricted stock awards, net of forfeitures		16	(16)
Restricted stock awards, net of forfeitures (in shares)		1,567,000
Stock-based compensation costs	3,970		3,970
Net loss	(3,044)			(3,044)
BALANCE at Mar. 31, 2012	$ 216,067	$ 346	$ 219,069	$ (3,348)
BALANCE (in shares) at Mar. 31, 2012	34,567,200	34,567,000

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Condensed Consolidated Statements of Cash Flows (USD $) In Thousands, unless otherwise specified	3 Months Ended
	Mar. 31, 2012	Mar. 31, 2011
CASH FLOWS FROM OPERATING ACTIVITIES:
Net income (loss)	$ (3,044)	$ 567
Adjustments to reconcile net income (loss) to net cash provided by (used in) operating activities:
Depreciation, depletion and amortization	2,242	860
Accretion expense	2	1
Stock-based compensation	3,970	0
Unrealized loss on derivative instruments	588
Changes in operating assets and liabilities:
Accounts receivable	(1,528)	574
Other current assets	(96)
Price risk management activities, net	445
Accounts payable - related entities	3,689	(2,642)
Accrued liabilities	653
Net cash provided by (used in) operating activities	6,921	(640)
CASH FLOWS FROM INVESTING ACTIVITIES:
Additions to oil and natural gas properties	(7,280)	(3,390)
Proceeds from sale of oil and natural gas properties		1,598
Settlement on derivative contracts	(184)
Net cash used in investing activities	(7,464)	(1,792)
CASH FLOWS FROM FINANCING ACTIVITIES:
Net investment by parent		2,432
Net cash provided by financing activities		2,432
Decrease in cash and cash equivalents	(543)
Cash and cash equivalents, beginning of period	63,041	0
Cash and cash equivalents, end of period	62,498	0
NON-CASH INVESTING AND FINANCING ACTIVITIES:
Asset retirement obligation	22	3
Change in accrued capital expenditures	4,799	1,214
Derivative premium liabilities	$ 2,952	$ 1,941

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Condensed Consolidated Balance Sheets (Parenthetical) (USD $)	Mar. 31, 2012	Dec. 31, 2011
Condensed Consolidated Balance Sheets
Preferred stock, par value (in dollars per share)	$ 0.01	$ 0.01
Preferred stock, shares authorized	15,000,000	15,000,000
Preferred stock, shares issued	0	0
Preferred stock, shares outstanding	0	0
Common stock, par value (in dollars per share)	$ 0.01	$ 0.01
Common stock, shares authorized	150,000,000	150,000,000
Common stock, shares issued	34,567,200	33,000,000
Common stock, shares outstanding	34,567,200	33,000,000

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Stock-Based Compensation

3 Months Ended

Mar. 31, 2012

Stock-Based Compensation

Stock-Based Compensation

Note 10.   Stock-Based Compensation

On November 25, 2011, the Company’s board of directors approved the Sanchez Energy Corporation 2011 Long Term Incentive Plan (the “LTIP”).

The Company’s directors, officers and consultants as well as employees of the Sanchez Group are eligible to participate in the LTIP.  Awards to participants may be made in the form of restricted shares, phantom shares, share options, share appreciation rights and other stock-based awards.  The Company records stock-based compensation expense for awards granted to its directors (for their services as directors) in accordance with the provisions of ASC 718, “Compensation — Stock Compensation”.  Stock-based compensation expense for these awards is based on the grant-date fair value and recognized over the vesting period using the straight-line method. The fair value of restricted stock awards is based on the closing sales price of the Company’s common stock on the grant date.

Awards granted to employees of the Sanchez Group (including those employees of the Sanchez Group who also serve as the Company’s officers) and consultants in exchange for services are considered awards to non-employees and the Company records stock-based compensation expense for these awards at fair value in accordance with the provisions of ASC 505-50, “Equity-Based Payments to Non-Employees.”   For awards granted to non-employees, the Company records compensation expenses equal to the fair value of the stock-based award at the measurement date, which is determined to be the earlier of the performance commitment date or the service completion date.  Compensation expense for unvested awards to non-employees is revalued at each period end and is amortized over the vesting period of the stock-based award.  Stock-based payments are measured based on the fair value of goods or services received or the equity instruments granted, whichever is more determinable.

During the first quarter of 2012, the Company issued 8,600 shares of restricted common stock pursuant to the LTIP to a director of the Company that vest in one year.  Pursuant to ASC 718, stock based compensation expense for this award was based on its grant date fair value of $17.57 per share and is being amortized over the one year vesting period.  For the three months ended March 31, 2012, the Company recorded non-cash compensation in its condensed consolidated statements of operations of approximately $38,000 associated with this award.  As of March 31, 2012, there was approximately $113,000 of unrecognized compensation costs related to this grant of restricted shares.

The Company also issued approximately 1.6 million shares of restricted common stock pursuant to the LTIP to certain employees of SOG (including the Company’s officers), with whom the Company has a services agreement.  Approximately 1.1 million shares of restricted common stock vest equally over a two-year period and approximately 0.5 million shares of restricted common stock vest equally over a three-year period.  These awards had a weighted average grant date fair value of $17.58 per share.  However, pursuant to ASC 505-50, stock based compensation expense for these awards was based on the closing sales price of the Company’s common stock on March 31, 2012 of $22.45 per share.  For the three months ended March 31, 2012, the Company recorded non-cash compensation expense in its condensed consolidated statements of operations of approximately $3.9 million associated with these awards.  Compensation expense for these awards will be revalued at each period end until vested.  Based on the $22.45 per share closing price of the Company’s stock on March 31, 2012, there was approximately $31.1 million of unrecognized compensation costs related to these non-vested restricted shares.  The cost is expected to be recognized over an average period of approximately 2.3 years.

A summary of the status of the non-vested shares (in thousands) as of March 31, 2012 is presented below:

	Number of
	Non-Vested
	Shares
Non-vested common stock at December 31, 2011	—
Granted	1,570
Forfeited	(3	)
Non-vested common stock at March 31, 2012	1,567

As of March 31, 2012, approximately 2.4 million shares remain available for future issuance to participants.

Restricted stock awards are considered outstanding at the time of grant, as the stock award holders are entitled to dividends and voting rights. However, the unvested stock awards issued to the director of the Company and certain employees of SOG (including the Company’s officers) were not considered outstanding in the computation of basic earnings per share.

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Document and Entity Information	3 Months Ended
	Mar. 31, 2012	May 10, 2012
Document and Entity Information
Entity Registrant Name	Sanchez Energy Corp
Entity Central Index Key	0001528837
Document Type	10-Q
Document Period End Date	Mar. 31, 2012
Amendment Flag	false
Current Fiscal Year End Date	--12-31
Entity Current Reporting Status	Yes
Entity Filer Category	Non-accelerated Filer
Entity Common Stock, Shares Outstanding		34,567,200
Document Fiscal Year Focus	2012
Document Fiscal Period Focus	Q1

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Income Taxes

3 Months Ended

Mar. 31, 2012

Income Taxes

Income Taxes

Note 11. Income Taxes

The SEP I Assets contributed by SEP I were historically owned by a limited partnership that is not a taxable entity and does not directly pay federal income taxes.  Their taxable income or loss was allocated to the limited and general partners of SEP I.  With the transfer of the properties to the Company, the SEP I Assets’ operations are now subject to federal and state income taxes.

The Company’s estimated annual effective income tax rates are used to allocate expected annual income tax expense to interim periods. The rates are determined based on the ratio of estimated annual income tax expense to estimated annual income before income taxes by taxing jurisdiction, except for discrete items, which are significant, unusual or infrequent items for which income taxes are computed and recorded in the interim period in which the specific transaction occurs. The estimated annual effective income tax rates are applied to the year-to-date income before income taxes by taxing jurisdiction to determine the income tax expense allocated to the interim period. The Company updates its estimated annual effective income tax rate at the end of each quarterly period considering the geographic mix of income based on the tax jurisdictions in which the Company operates. Actual results that are different from the assumptions used in estimating the annual effective income tax rate will impact future income tax expense. The Company’s estimated annual effective income tax rate differs from the U.S. federal statutory corporate income tax rate of 35% due to the expectation that the Company will continue to provide a full valuation allowance against its deferred tax assets.

	Three Months
	Ended March 31,
	2012
Income tax expense at the federal statutory rate	$	(1,066	)
Valuation allowance	1,066
Net income tax provision	$	—

At March 31, 2012, the Company had net operating loss carryforwards of $9.2 million which begin to expire in 2031.

In recording deferred income tax assets, the Company considers whether it is more likely than not that some portion or all of the deferred income tax assets will be realized.  The ultimate realization of deferred income tax assets is dependent upon the generation of future taxable income during the periods in which those deferred income tax assets would be deductible.  The Company believes that after considering all the available objective evidence, both positive and negative, historical and prospective, with greater weight given to historical evidence, management is not able to determine that it is more likely than not that the deferred tax assets will be realized and therefore has established a full valuation allowance to reduce the net deferred tax asset to zero at March 31, 2012 and December 31, 2011.  The Company will continue to assess the valuation allowance against deferred tax assets considering all available information obtained in future reporting periods.

At March 31, 2012, the Company had no material uncertain tax positions.

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Condensed Consolidated Statements of Operations (USD $) In Thousands, except Per Share data, unless otherwise specified	3 Months Ended
	Mar. 31, 2012	Mar. 31, 2011
REVENUES:
Oil sales	$ 7,461	$ 3,144
Natural gas sales	187	140
Total revenues	7,648	3,284
Oil and natural gas production expenses	775	306
Production and ad valorem taxes	394	177
Depreciation, depletion and amortization	2,242	860
Accretion expense	2	1
General and administrative (inclusive of stock-based compensation expense of $3,970 and $0, for the three months ended March 31, 2012 and 2011, respectively)	6,254	1,373
Total operating costs and expenses	9,667	2,717
Operating income (loss)	(2,019)	567
Other income (expense):
Interest and other income	8
Realized and unrealized losses on derivative instruments	(1,033)
Net income (loss)	$ (3,044)	$ 567
Net income (loss) per share - basic and diluted (in dollars per share)	$ (0.09)	$ 0.03
Weighted average shares outstanding used in computing net income (loss) per share - basic and diluted (in shares)	33,000	22,091

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Fair Value of Financial Instruments

3 Months Ended

Mar. 31, 2012

Fair Value of Financial Instruments

Fair Value of Financial Instruments

Note 5.   Fair Value of Financial Instruments

Measurements of fair value of derivative instruments are classified according to the fair value hierarchy, which prioritizes the inputs to the valuation techniques used to measure fair value. Fair value is the price that would be received upon the sale of an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement date. Fair value measurements are classified and disclosed in one of the following categories:

Level 1: Measured based on unadjusted quoted prices in active markets that are accessible at the measurement date for identical, unrestricted assets or liabilities. Active markets are considered those in which transactions for the assets or liabilities occur in sufficient frequency and volume to provide pricing information on an ongoing basis.

Level 2: Measured based on quoted prices in markets that are not active, or inputs which are observable, either directly or indirectly, for substantially the full term of the asset or liability. This category includes those derivative instruments that can be valued using observable market data. Substantially all of these inputs are observable in the marketplace throughout the term of the derivative instrument, can be derived from observable data, or supported by observable levels at which transactions are executed in the marketplace.

Level 3: Measured based on prices or valuation models that require inputs that are both significant to the fair value measurement and less observable from objective sources (i.e. supported by little or no market activity). The valuation models used to value derivatives associated with the Company’s oil and natural gas production are primarily industry standard models that consider various inputs including: (a) quoted forward prices for commodities, (b) time value, and (c) current market and contractual prices for the underlying instruments, as well as other relevant economic measures. Although third party quotes are utilized to assess the reasonableness of the prices and valuation techniques, there is not sufficient corroborating evidence to support classifying these assets and liabilities as Level 2.

Financial assets and liabilities are classified based on the lowest level of input that is significant to the fair value measurement. Management’s assessment of the significance of a particular input to the fair value measurement requires judgment, and may affect the valuation of the fair value of assets and liabilities and their placement within the fair value hierarchy levels.

Fair Value on a Recurring Basis

The following table sets forth by level within the fair value hierarchy the Company’s financial assets and liabilities that were accounted for at fair value on a recurring basis as of March 31, 2012 (in thousands):

	March 31, 2012
	Active
	Market for
	Identical		Observable		Unobservable		Total
	Assets		Inputs		Inputs		Carrying
Description	(Level 1)		(Level 2)		(Level 3)		Value
LTIP (1)	$	—	$	3,970	$	—	$	3,970
Oil Put Spread Contracts	—		—		3,564		3,564
Total	$	—	$	3,970	$	3,564	$	7,534

(1) See Note 10 for further discussion on stock-based compensation expenses for certain grants accounted for under ASC 505-50.

The Company’s oil put spread contracts are accounted for at fair value on a recurring basis.  The net fair value at March 31, 2012 and December 31, 2011 of $3.6 million and $1.5 million, respectively, were classified as Level 3.  The fair values of derivative instruments are based on a third-party pricing model which utilizes inputs that include (a) quoted forward prices for oil and gas, (b) discount rates, (c) volatility factors and (d) current market and contractual prices, as well as other relevant economic measures. The estimates of fair value are compared to the values provided by the counterparty for reasonableness. Derivative instruments are subject to the risk that counterparties will be unable to meet their obligations. Such non-performance risk is considered in the valuation of the Company’s derivative instruments, but to date has not had a material impact on estimates of fair values. Significant changes in the quoted forward prices for commodities and changes in market volatility generally leads to corresponding changes in the fair value measurement of the Company’s oil put spread contracts.

The following table sets forth a reconciliation of changes in the fair value of the Company’s oil put spreads classified as Level 3 in the fair value hierarchy (in thousands):

	Significant Unobservable Inputs
	(Level 3)
	Three Months Ended March 31,
	2012			2011
Beginning balance	$	1,461		$	—
Realized and unrealized losses included in earnings	(1,033		)	—
Purchase of derivative premiums	2,952
Buy out of derivative contracts	184			—
Ending balance	$	3,564		$	—
Change in unrealized loss included in earnings related to derivatives still held as of March 31, 2012 and 2011	$	870		$	—

Fair Value on a Non-Recurring Basis

The Company follows the provisions of ASC 820-10 for nonfinancial assets and liabilities measured at fair value on a non-recurring basis.  As it relates to the Company, the statement applies to the initial recognition of asset retirement obligations for which fair value is used.

The asset retirement obligation estimates are derived from historical costs as well as management’s expectation of future cost environments.  As there is no corroborating market activity to support the assumptions, the Company has designated these liabilities as Level 3.  A reconciliation of the beginning and ending balances of the Company’s asset retirement obligations is presented in Note 6.

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Derivative Instruments

3 Months Ended

Mar. 31, 2012

Derivative Instruments

Derivative Instruments

Note 4.  Derivative Instruments

To reduce the impact of fluctuations in oil and natural gas prices on the Company’s revenues, or 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, through options, modify the future prices to be realized. These transactions may include price swaps whereby the Company will receive a fixed price for its production and pay a variable market price to the contract counterparty. Additionally, the Company may enter into collars, whereby it receives the excess, if any, of the fixed floor over the floating rate or pays the excess, if any, of the floating rate over the fixed ceiling price. In addition, the Company enters into option transactions, such as puts or put spreads, as a way to manage its exposure to fluctuating prices. These hedging activities are intended to support oil and natural gas prices at targeted levels and to manage exposure to oil and natural gas price fluctuations. It is never the Company’s intention to enter into derivative contracts for speculative trading purposes.

Under Accounting Standards Codification (“ASC”) Topic 815, “Derivatives and Hedging”, all derivative instruments are recorded on the 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 will net derivative assets and liabilities for counterparties where it has a legal right of offset.  Changes in the derivatives’ fair values are recognized currently in earnings unless specific hedge accounting criteria are met.  The Company has elected not to designate its current derivative contracts as hedges.  Therefore, changes in the fair value of these instruments are recognized in earnings and included as realized and unrealized gains (losses) on derivative instruments in the condensed consolidated statements of operations.

As of March 31, 2012, the Company had oil put spreads covering anticipated future production as follows:

		Put		Put
Contract Period	Barrels	Purchased		Sold
April 1, 2012 - June 30, 2012	91,000	$	90.00	$	70.00
July 1, 2012 - December 31, 2012 (1)	184,000	$	90.00	n/a
July 1, 2012 - December 31, 2012	230,000	$	100.00	$	80.00
January 1, 2013 - December 31, 2013	365,000	$	95.00	$	75.00

(1) In March 2012, the Company modified its existing put spread transaction by re-purchasing the $70 per barrel put for the period from July through December 2012.

The Company deferred the payment of premiums associated with certain of its oil and gas derivative instruments totaling approximately $1.1 million at March 31, 2012 and classified the $1.1 million as derivative premium liabilities. These premiums will be paid to the counterparty with each monthly settlement (August 2012 to January 2013).  In addition, derivative premium liabilities at March 31, 2012 included $1.9 million for premiums associated with certain of the Company’s oil and gas derivative instruments which were paid in April 2012.  Total derivative premium liabilities were approximately $3.0 million as of March 31, 2012.

Balance Sheet Presentation

The Company’s derivatives are presented on a net basis as “fair value of derivative instruments” on the condensed consolidated balance sheets.  The following information summarizes the fair value of derivative instruments as of March 31, 2012 and December 31, 2011 (in thousands):

	March 31,		December 31,
	2012		2011
Current asset	$	2,004	$	1,461
Long-term asset	1,560		—
Total fair value at period end	$	3,564	$	1,461

Gain (Loss) on Derivatives

Gains and losses on derivatives are reported on the condensed consolidated statements of operations as “Realized and unrealized losses on derivative instruments”.  Realized gains (losses) represent amounts related to the settlement of derivative instruments or the expiration of contracts.  Unrealized gains (losses) represent the change in fair value of the derivative instruments to be settled in the future and are non-cash items which fluctuate in value as commodity prices change.  The following summarizes the Company’s realized and unrealized losses on derivative instruments for the three months ended March 31, 2012 and 2011 (in thousands):

	Three Months Ended March 31,
	2012			2011
Realized losses on derivative instruments	$	(445	)	$	—
Unrealized losses on derivative instruments	(588		)	—
Total realized and unrealized losses on derivative instruments	$	(1,033	)	$	—

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Commitments and Contingencies

3 Months Ended

Mar. 31, 2012

Commitments and Contingencies

Commitments and Contingencies

Note 12. Commitments and Contingencies

From time to time, the Company may be involved in lawsuits that arise in the normal course of its business. It is the opinion of management and counsel that the outcome of any such lawsuits will not materially affect the financial position and operations of the Company.

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Accrued Liabilities

3 Months Ended

Mar. 31, 2012

Accrued Liabilities

Accrued Liabilities

Note 8.  Accrued Liabilities

The following information summarizes accrued liabilities as of March 31, 2012 and December 31, 2011 (in thousands):

	March 31,		December 31,
	2012		2011
Capital expenditures	$	5,049	$	249
General and administrative costs	539		170
Production taxes	125		55
Ad valorem taxes	41		5
Lease operating expenses	226		46
	$	5,980	$	525

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Asset Retirement Obligations

3 Months Ended

Mar. 31, 2012

Asset Retirement Obligations

Asset Retirement Obligations

Note 6.   Asset Retirement Obligations

Asset retirement obligations 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. The significant unobservable inputs to this fair value measurement include estimates of plugging, abandonment, remediation costs, and well life. The inputs are calculated based on historical data as well as current estimates. When the liability is initially recorded, the entity increases the carrying amount of the related long-lived asset. Over time, accretion of the liability is recognized each period, and the capitalized cost is amortized over the useful life of the related asset. Upon settlement of the liability, any gain or loss is treated as an adjustment to the full cost pool.

The changes in the asset retirement obligation for the three months ended March 31, 2012 and 2011 were as follows (in thousands):

	2012		2011
Abandonment liability as of January 1,	$	83	$	60
Liabilities incurred during period	22		3
Accretion expense	2		1
Revision of estimate	—		—
Abandonment liability as of March 31,	$	107	$	64

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Related Party Transactions

3 Months Ended

Mar. 31, 2012

Related Party Transactions

Related Party Transactions

Note 7.   Related Party Transactions

SOG, headquartered in Houston, Texas, is a private full service oil and natural gas company engaged in the exploration and development of oil and natural gas primarily in the South Texas and onshore Gulf Coast areas on behalf of its affiliates.  The Company refers to SOG, SEP I, and their affiliates (but excluding the Company) collectively as the “Sanchez Group.”  Members of the Sanchez Group control the majority of the voting power of the Company’s outstanding common stock.

Services and Other Agreements

The Company does not have any employees.  On December 19, 2011 it entered into a services agreement with SOG pursuant to which specified employees of SOG provide certain services with respect to the Company’s business under the direction, supervision and control of SOG. Pursuant to this arrangement, SOG performs centralized corporate functions for the Company, such as general and administrative services, geological, geophysical and reserve engineering, lease and land administration, marketing, accounting, operational services, information technology services, compliance, insurance maintenance and management of outside professionals. The Company compensates SOG for the provision of services at a price equal to SOG’s cost of providing such services, including all direct costs and indirect administrative and overhead costs (including the allocable portion of salary, bonus, incentive compensation and other amounts paid to persons that provide the services on SOG’s behalf) allocated in accordance with SOG’s regular and consistent accounting practices, including for any such costs arising from amounts paid directly by other members of the Sanchez Group on SOG’s behalf or borrowed by SOG from other members of the Sanchez Group, in each case in connection with the performance by SOG of services on the Company’s behalf. The Company also reimburses SOG for sales, use or other taxes, or other fees or assessments imposed by law in connection with the provision of services to the Company (other than income, franchise or margin taxes measured by SOG’s net income or margin and other than any gross receipts or other privilege taxes imposed on SOG) and for any costs and expenses arising from or related to the engagement or retention of third party service providers.

The initial term of the services agreement is five years. The term will automatically extend for additional 12-month periods unless either party provides 180 days written notice otherwise prior to the expiration of the applicable 12-month period. Either party may terminate the agreement at any time upon 180 days written notice.

In connection with the services agreement, SOG also entered into a licensing agreement with the Company pursuant to which it granted to the Company a license to the unrestricted proprietary seismic, geological and geophysical information related to the Company’s properties owned by SOG, and all such information related to the Company’s properties not otherwise licensed to the Company will be interpreted and used by SOG for the Company’s benefit under the services agreement. In addition, SOG entered into a contract operating agreement with the Company under which SOG agreed to develop, manage and operate the Company’s properties or engage a responsible unaffiliated industry operator and joint owner for such development, management and operation.  No costs, fees or other expenses are payable by the Company under these agreements. The licensing agreement and contract operating agreement will terminate concurrently with the termination or expiration of the services agreement.

Prior to entering into the services agreement, SOG incurred general and administrative expenses that were allocated to the Company primarily based on the ratio of capital expenditures between the entities to which SOG provided services and the SEP I Assets.  Other factors, such as time spent on general management services and producing property activities, were also considered in the allocation of these costs.  Beginning December 19, 2011, the costs were allocated to the Company according to the terms of the services agreement.  Salaries and associated benefit costs of SOG employees are allocated to the Company based on the actual time spent by the professional staffs on the properties and business activities of the Company. General and administrative costs, such as office rent, utilities, supplies, and other overhead costs, are allocated to the Company based on a fixed percentage that is reviewed quarterly and adjusted, if needed, based on the activity levels of services provided to the Company. General and administrative costs that are specifically incurred by or for the specific benefit of the Company are charged directly to the Company.    Expenses allocated to the Company for general and administrative expenses for the three months ended March 31, 2012 and 2011 (in thousands) are as follows:

	Three Months Ended March 31,
	2012		2011
Administrative fees	$	1,118	$	1,306
Third-party expenses	1,166		67
Total included in general and administrative expenses	$	2,284	$	1,373

As of March 31, 2012, the Company had a payable to SOG of $4.9 million and a payable to SEP I of $0.4 million which are reflected as “Accounts payable — related entities” in the accompanying condensed consolidated balance sheets. These amounts consist primarily of obligations for general and administrative costs and operating expenses for the Company’s oil and natural gas properties operated by SOG.

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Stockholders' Equity

3 Months Ended

Mar. 31, 2012

Stockholders' Equity

Stockholders' Equity

Note 9.   Stockholders’ Equity

Common Stock Offering- On December 19, 2011, the Company completed its IPO of 10.0 million shares of common stock, par value $0.01 per share, at a price to the public of $22.00 per share.  The Company received net proceeds of approximately $203.3 million from the sale of the shares of common stock (net of estimated expenses and underwriting discounts and commissions).

Earnings (Loss) Per Share - Shares issued to SEP I in exchange for the SEP I Assets have been retroactively reflected as outstanding for all periods presented. The shares of common stock issued in exchange for the Marquis Assets as well as the shares issued in the IPO were considered outstanding since the date of these transactions.

The Company’s restricted shares of common stock (see Note 10) are participating securities under ASC 260, “Earnings per Share,” because they may participate in undistributed earnings with common stock.  However, in accordance with ASC 260, securities are deemed to not be participating in losses if there is no obligation to fund such losses.  Since the Company reported a net loss for the three months ended March 31, 2012, the outstanding restricted stock awards were not deemed to be participating securities for this period.  Accordingly, basic loss per common share for the three months ended March 31, 2012 was determined by dividing net loss for this period by the weighted average number of common shares outstanding.  For purposes of this calculation, the weighted average number of common shares outstanding includes: (i) the 22,090,909 shares issued for the SEP I Assets, (ii) the 909,091 shares issued for the Marquis Assets and (iii) the 10,000,000 shares issued in the IPO.  Since the Company incurred a loss for the period ended March 31, 2012, restricted shares had no dilutive effect and, therefore, were not included in the weighted average number of common shares outstanding and had no impact on diluted loss per share.

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Condensed Consolidated Statements of Operations (Parenthetical) (USD $) In Thousands, unless otherwise specified	3 Months Ended
	Mar. 31, 2012	Mar. 31, 2011
Condensed Consolidated Statements of Operations
General and administrative, stock-based compensation expense (in dollars)	$ 3,970	$ 0

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Oil and Natural Gas Properties

3 Months Ended

Mar. 31, 2012

Oil and Natural Gas Properties

Oil and Natural Gas Properties

Note 3.  Oil and Natural Gas Properties

The Company’s oil and natural gas properties are accounted for using the full cost method of accounting.  All direct costs and certain indirect costs associated with the acquisition, exploration and development of oil and natural gas properties are capitalized. Once evaluated, these costs, as well as the estimated costs to retire the assets, are included in the amortization base and amortized to expense using the units-of-production method.  Amortization is calculated based on estimated proved oil and natural gas reserves.  Proceeds from the sale or disposition of oil and natural gas properties are applied to reduce net capitalized costs unless the sale or disposition causes a significant change in the relationship between capitalized costs and the estimated quantity of proved reserves.

Capitalized costs (net of accumulated depreciation, depletion and amortization and deferred income taxes) of proved oil and natural gas properties are subject to a full cost ceiling limitation.  The ceiling limits these costs to an amount equal to the present value, discounted at 10%, of estimated future net cash flows from estimated proved reserves less estimated future operating and development costs, abandonment costs (net of salvage value) and estimated related future income taxes.  In accordance with SEC rules, the oil and natural gas prices used to calculate the full cost ceiling are the 12-month average prices, calculated as the unweighted arithmetic average of the first-day-of-the-month price for each month within the 12-month period prior to the end of the reporting period, unless prices are defined by contractual arrangements. Prices are adjusted for “basis” or location differentials.  Price is held constant over the life of the reserves.  If unamortized costs capitalized within the cost pool exceed the ceiling, the excess is charged to expense and separately disclosed during the period in which the excess occurs. Amounts thus required to be written off are not reinstated for any subsequent increase in the cost center ceiling. No impairment expense was recorded for the three month periods ended March 31, 2012 or 2011.