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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
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FORM 10-Q
[x] Quarterly Report Pursuant to Section 13 or 15(d)
of the Securities Exchange Act of 1934
FOR THE QUARTERLY PERIOD ENDED MARCH 31, 1999
or
[ ] Transition Report Pursuant to Section 13 or 15(d)
of the Securities Exchange Act of 1934
For the transition period from _______ to _______
COMMISSION FILE NO. 0-21411
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COSTILLA ENERGY, INC.
(Exact name of registrant as specified in its charter)
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DELAWARE 75-2658940
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
400 WEST ILLINOIS, SUITE 1000
MIDLAND, TEXAS 79701
(Address of principal executive offices) (Zip code)
(915) 683-3092
(Registrant's telephone number, including area code)
Not applicable
(Former name, former address and former fiscal year, if changed
since last report)
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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 [ ]
NUMBER OF SHARES OF COMMON STOCK OUTSTANDING AS OF MAY 14, 1999 .....14,101,580
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COSTILLA ENERGY, INC.
FORM 10-Q
TABLE OF CONTENTS
Page
----
PART I - FINANCIAL INFORMATION
Item 1. Financial Statements
- -------
Consolidated Balance Sheets as of March 31, 1999 (unaudited) and
December 31, 1998........................................................ 3
Consolidated Statements of Operations for the three months
ended March 31, 1999 and 1998 (unaudited)................................ 4
Consolidated Statements of Cash Flows for the three months
ended March 31, 1999 and 1998 (unaudited)................................ 5
Notes to Consolidated Financial Statements (unaudited)..................... 6
Item 2. Management's Discussion and Analysis of Financial
- ------- Condition and Results of Operations...................................... 10
Item 3.
- ------- Quantitative and Qualitative Disclosures About Market Risk................. 16
PART II - OTHER INFORMATION
Item 6. Exhibits and Reports on Form 8-K........................................... 17
- -------
Signatures................................................................................... 18
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PART I - FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS
COSTILLA ENERGY, INC.
CONSOLIDATED BALANCE SHEETS
(IN THOUSANDS)
MARCH 31, DECEMBER 31,
1999 1998
--------- ------------
ASSETS (UNAUDITED)
CURRENT ASSETS:
Cash and cash equivalents $ 3,254 $ 5,251
Accounts receivable:
Trade, net of allowance of $158 and $180, respectively 2,859 4,547
Oil and gas sales 5,051 5,673
Prepaid and other current assets 1,764 1,821
--------- ---------
Total current assets 12,928 17,292
--------- ---------
PROPERTY, PLANT AND EQUIPMENT, AT COST:
Oil and gas properties, using the successful efforts
method of accounting:
Proved properties 210,978 275,972
Unproved properties 15,717 38,941
Accumulated depletion, depreciation and amortization (107,821) (133,612)
--------- ---------
118,874 181,301
Other property and equipment, net 4,003 4,252
--------- ---------
Total property, plant and equipment 122,877 185,553
--------- ---------
OTHER ASSETS:
Deferred charges 6,233 6,447
Other 1,641 1,662
--------- ---------
Total other assets 7,874 8,109
--------- ---------
$ 143,679 $ 210,954
========= =========
LIABILITIES AND STOCKHOLDERS' EQUITY (DEFICIT)
CURRENT LIABILITIES:
Current maturities of long-term debt $ 28,079 $ 40,101
Trade accounts payable 19,368 26,183
Undistributed revenue 2,860 3,419
Deferred revenue 2,880 --
Other current liabilities 10,151 5,923
--------- ---------
Total current liabilities 63,338 75,626
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LONG-TERM DEBT, LESS CURRENT MATURITIES 181,722 181,780
--------- ---------
STOCKHOLDERS' EQUITY (DEFICIT):
Preferred stock, $.10 par value (3,000,000 shares authorized;
50,000 shares outstanding at March 31, 1999 and December 31, 1998 5 5
Common stock, $.10 par value (100,000,000 shares authorized;
13,101,580 shares outstanding at March 31, 1999 and
12,751,930 shares outstanding at December 31, 1998) 1,310 1,275
Additional paid-in capital 93,680 92,715
Retained deficit (196,376) (140,447)
--------- ---------
Total stockholders' equity (deficit) (101,381) (46,452)
--------- ---------
COMMITMENTS AND CONTINGENCIES -- --
--------- ---------
$ 143,679 $ 210,954
========= =========
See accompanying notes to consolidated financial statements.
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COSTILLA ENERGY, INC.
CONSOLIDATED STATEMENTS OF OPERATIONS
(IN THOUSANDS, EXCEPT PER SHARE DATA)
(UNAUDITED)
THREE MONTHS ENDED
MARCH 31,
----------------------
1999 1998
-------- --------
REVENUES:
Oil and gas sales $ 12,764 $ 15,345
Interest and other 11 205
Gain (loss) on sale of assets (2) 337
-------- --------
12,773 15,887
-------- --------
EXPENSES:
Oil and gas production 6,005 6,785
General and administrative 2,920 2,493
Exploration and abandonments 1,119 3,151
Depreciation, depletion and amortization 5,182 6,059
Loss on termination of purchase option 47,488 --
Interest 4,987 4,739
-------- --------
67,701 23,227
-------- --------
Loss before extraordinary item (54,928) (7,340)
Extraordinary loss resulting from early extinguishment of debt -- (299)
-------- --------
NET LOSS $(54,928) $ (7,639)
======== ========
CUMULATIVE PREFERRED STOCK DIVIDEND $ 1,000 $ --
======== ========
LOSS BEFORE EXTRAORDINARY ITEM APPLICABLE TO COMMON EQUITY $(55,928) $ (7,340)
======== ========
NET LOSS APPLICABLE TO COMMON EQUITY $(55,928) $ (7,639)
======== ========
LOSS PER SHARE:
Loss before extraordinary item $ (4.36) $ (0.73)
Extraordinary loss resulting from early extinguishment of debt -- (0.03)
-------- --------
NET LOSS $ (4.36) $ (0.76)
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WEIGHTED AVERAGE SHARES OUTSTANDING 12,814 10,073
======== ========
See accompanying notes to consolidated financial statements.
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COSTILLA ENERGY, INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS
(IN THOUSANDS)
(UNAUDITED)
THREE MONTHS ENDED
MARCH 31,
----------------------
1999 1998
-------- --------
CASH FLOWS FROM OPERATING ACTIVITIES:
NET LOSS $(54,928) $ (7,639)
ADJUSTMENTS TO RECONCILE NET LOSS TO NET
CASH PROVIDED BY OPERATING ACTIVITIES:
Depreciation, depletion and amortization 5,182 6,059
Exploration and abandonments 202 194
Amortization of deferred charges 156 97
Loss on termination of purchase option 46,985 --
(Gain)/loss on sale of oil and gas properties 2 (337)
Extraordinary loss resulting from early extinguishment of debt -- 299
Gain on investment transactions -- (5)
-------- --------
(2,401) (1,332)
Changes in operating assets and liabilities:
Decrease (increase) in accounts receivable 1,230 (89)
Decrease (increase) in other assets 78 (410)
Increase (decrease) in accounts payable (6,837) (1,783)
Increase (decrease) in other liabilities 4,227 4,489
Increase (decrease) in deferred revenue 2,880 --
-------- --------
Net cash provided by (used in) operating activities (823) 875
-------- --------
CASH FLOWS FROM INVESTING ACTIVITIES:
Additions to oil and gas properties (3,618) (30,768)
Proceeds from sale of oil and gas properties 14,493 2,500
Additions to other property and equipment (27) (198)
-------- --------
Net cash provided by (used in) investing activities 10,848 (28,466)
-------- --------
CASH FLOWS FROM FINANCING ACTIVITIES:
Borrowings under long-term debt -- 95,000
Payments of long-term debt (12,022) (62,520)
Purchase of common stock -- (1,841)
Deferred loan and financing costs -- (3,190)
-------- --------
Net cash provided by (used in) financing activities (12,022) 27,449
-------- --------
NET INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS (1,997) (142)
CASH AND CASH EQUIVALENTS, BEGINNING OF PERIOD 5,251 3,615
-------- --------
CASH AND CASH EQUIVALENTS, END OF PERIOD $ 3,254 $ 3,473
======== ========
See accompanying notes to consolidated financial statements.
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COSTILLA ENERGY, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
MARCH 31, 1999
(UNAUDITED)
1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
The interim financial information as of March 31, 1999, and for the
three months ended March 31, 1999 and 1998, is unaudited. Certain information
and footnote disclosures normally included in financial statements prepared in
accordance with generally accepted accounting principles have been condensed or
omitted in this Form 10-Q pursuant to the rules and regulations of the
Securities and Exchange Commission. However, in the opinion of management, these
interim financial statements include all the necessary adjustments to fairly
present the results of the interim periods and all such adjustments are of a
normal recurring nature. The interim consolidated financial statements should be
read in conjunction with the audited financial statements for the year ended
December 31, 1998.
The Company is an oil and gas exploration and production concern with
properties located principally in the Gulf Coast region, the Rocky Mountain
region and the Permian Basin area of Texas and New Mexico.
2. DERIVATIVE FINANCIAL INSTRUMENTS
The Company utilizes derivative financial instruments to manage
well-defined commodity price and interest rate risks. The Company is exposed to
credit losses in the event of nonperformance by the counterparties to its
commodity hedges and its interest rate swap agreements. The Company only deals
with reputable financial institutions as counterparties and anticipates that
such counterparties will be able to fully satisfy their obligations under the
contracts. The Company does not obtain collateral or other security to support
financial instruments subject to credit risk but monitors the credit standing of
the counterparties.
Commodity Hedges. The Company utilizes swap agreements to hedge the
effect of price changes on future oil and gas production. The objective of its
hedging activities is to achieve more predictable revenues and cash flows. In a
typical swap arrangement, the Company receives the difference between a fixed
price per unit of production and a price based upon a higher agreed to third
party index. However, should the fixed price exceed the agreed third party
index, the Company has to pay the difference. In the past, the Company utilized
option contracts to hedge its production. In this case, if market prices of oil
and gas exceeded the strike price of put options, the options would expire
unexercised, therefore reducing the effective price received for oil and gas
sales by the cost of the related option. If the market prices of oil and gas
exceeded the strike price of call options, the Company would be obligated to pay
the contracting counterparty an amount equal to the contracted volumes times the
difference between the market price and the strike price, therefore reducing the
effective price received for oil and gas sales by the amount paid to the
counterparty.
The following table sets forth the future volumes hedged by year and
the strike prices of the option contracts at March 31, 1999:
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OIL GAS FIXED THRESHOLD
DAILY DAILY PRICE PRICE
VOLUME VOLUME PER PER
(BBLS) (MMBTU) BBL/MMBTU BBL/MMBTU(a)
------ ------- --------- -------------
Oil:
Apr. 99 5,000 -- $ 15.00 $ 12.00
May 99 - Dec. 99 (c) 2,000 -- $ 15.00 $ 13.50
Jan. 00 - Dec. 00 (c) 2,000 -- $ 16.50 $ 14.00
Gas:
April 99 - Dec. 99 (b) -- 20,000 $ 1.96 N/A
May 99 - Aug. 99 (d) -- 20,000 $ 2.10 N/A
Sept. 99 - Dec. 99 (d) -- 20,000 $ 2.30 N/A
Jan. 00 - Dec. 00 (b) -- 45,000 $ 2.20 N/A
Jan. 01 - Dec. 01 (e) -- 20,000 $ 2.30 N/A
(a) Any trading day when the NYMEX falls below the threshold price,
the contract provides for no hedge for that day. When the NYMEX is
above the threshold price but below the fixed price, the
Counterparty pays Costilla. If the NYMEX is above the fixed price,
Costilla pays the Counterparty.
(b) In February 1999, the three year fixed price swap contract was
amended for a new period of March 1999 through December 2000
covering 45,000 Mmbtu of gas per day at a fixed price of $2.20 per
Mmbtu. In March 1999 the contract for the period March 1999
through December 1999 was liquidated resulting in cash proceeds to
the Company of $3.2 million. In addition, a new contract was
entered into covering 20,000 Mmbtu of gas per day at a fixed price
of $1.96 per Mmbtu for the period March 1999 through December
1999.
(c) In April 1999, the 5,000 Bbls/day hedge was canceled and replaced
with a hedge for 2,000 Bbls/day.
(d) In April 1999, Costilla sold two calls for 20,000 Mmbtu/day.
(e) In April 1999, a hedge for the year 2001 was added. The purchaser
may elect to cancel and have Costilla cash settle on this option
on the last day of any month from June - September 1999.
Interest Rate Swap Agreements. The Company had an interest rate swap
agreement in place as of December 31, 1998, with a notional amount of $24
million and a fixed rate of 7.5%. The interest rate swap expired in January
1999.
3. LONG TERM DEBT
In August 1997, the Company entered into a credit agreement (the
"Revolving Credit Facility") with Bankers Trust Company, as agent, to refinance
its existing bank indebtedness and to finance a portion of the Ballard
Acquisition purchase price. The Revolving Credit Facility provides for a maximum
availability of $75.0 million, $28 million of which was borrowed at March 31,
1999 against an available borrowing base of $36 million at such date. Borrowings
under the Revolving Credit Facility bear interest, at the Company's option, at a
floating rate which is at or above the Lender's prime rate or above the
applicable Eurodollar rate, depending on the percentage of committed funds which
have been borrowed. Interest is payable quarterly as to base rate loans, and at
the end of the applicable interest period as to Eurodollar loans. The borrowing
base of the Revolving Credit Facility is automatically reduced by 5% each
quarter beginning in August 1999, and payments of principal are required in each
quarter in which the outstanding principal balance is greater than the reduced
borrowing base. The remaining balance is payable on August 28, 2002, the
maturity date of the Revolving Credit Facility. Under the Revolving Credit
Facility, the Company is obligated to pay certain fees to the lender, including
a commitment fee based on the unused portion of the commitment. The Revolving
Credit Facility contains customary restrictive covenants (including restrictions
on the payment of dividends and the incurrence of additional indebtedness) and
requires the Company to maintain (i) a limit on the amount that current
liabilities may exceed current assets and (ii) a ratio of
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EBITDA to interest expense. Borrowings under the Revolving Credit Facility are
secured by substantially all of the assets of the Company.
In October 1996, the Company issued $100 million aggregate principal
amount of 10.25% Senior Notes due October 1, 2006 (the "Notes"). The Notes were
sold at par and interest is payable April 1 and October 1, commencing April 1,
1997. The Notes may not be redeemed prior to October 1, 2001, and thereafter at
a premium reducing to par, plus interest, by maturity. There is no mandatory
redemption of the Notes required prior to maturity. The Notes are general
unsecured senior obligations of the Company and rank equally in right of payment
with all other senior indebtedness of the Company and senior in right of payment
of all existing future subordinated indebtedness of the Company. The Notes are
subject to an Indenture between the Company and a trustee. The Indenture
restricts, among other things, the Company's ability to incur additional
indebtedness, pay dividends or make certain other restricted payments, incur
liens, engage in any sale and leaseback transaction, sell stock of subsidiaries,
apply net proceeds from certain assets sales, merge or consolidate with any
other person, sell, assign, transfer, lease, convey or otherwise dispose of
substantially all of the assets of the company, or enter into certain
transactions with affiliates. Net proceeds from the sale of the Notes of
approximately $96.1 million were used to repay existing indebtedness.
In January 1998, the Company issued an additional $80 million aggregate
principal amount of 10.25% Senior Notes due October 1, 2006 (the " 1998 Notes").
The notes were sold at a premium (102.5%) and interest is payable April 1 and
October 1, commencing April 1, 1998. The 1998 Notes may not be redeemed prior to
October 1, 2001, and thereafter at a premium reducing to par, plus interest, by
maturity. The 1998 Notes are subject to the same terms and conditions as the
Notes. Net proceeds from the sale of the 1998 Notes of approximately $78.8
million were used to substantially repay the Revolving Credit Facility, repay an
additional credit facility and the remainder was used for general corporate
working capital needs.
4. CONVERTIBLE PREFERRED STOCK
On June 3, 1998, the Company closed a private placement of 50,000
shares of its 7% (8% Paid in Kind) Series A Cumulative Convertible Preferred
Stock (the "Preferred Stock") to Enron Capital & Trade Resources Corp. and Joint
Energy Development Investments II Limited Partnership for a purchase price of
$50.0 million (the "Convertible Preferred Stock Offering"). Dividends accrue and
are payable quarterly, commencing September 15, 1998, in cash, or in certain
instances in shares of the Company's Common Stock. The dividend rate is 7% for
dividends paid in cash and 8% for dividends paid in shares of Common Stock. The
holders of the Preferred Stock may, at any time, convert shares of Preferred
Stock into shares of the Company's Common Stock at a conversion price of $12.39
which, subject to certain adjustments, would result in the issuance of 4,035,513
shares of Common Stock upon conversion of the Preferred Stock. The Registrant
may, at its option, redeem the shares of Preferred Stock after June 15, 2001,
subject to certain limitations, for a premium reducing to par on June 15, 2004
and thereafter. Net proceeds from the Convertible Preferred Stock Offering were
$48.0 million, of which $29.0 million was used to repay all but $0.5 million of
the Revolving Credit Facility and the remainder was used for general corporate
purposes.
5. TERMINATION OF PIONEER ACQUISITION
In September 1998, Costilla entered into an agreement with Pioneer
Natural Resources USA, Inc. ("Pioneer") to acquire certain oil and gas
properties (the "Pioneer Acquisition Properties") for $410 million. The sale was
to be effective October 1, 1998 and close in December 1998. As part of this
agreement, Costilla made a $25 million forfeitable deposit plus an additional
$16 million would be paid if the transaction did not close in December 1998. In
December 1998, the previous agreement was terminated and replaced by a new
agreement. Pioneer retained the $25 million deposit and Costilla issued three
million shares of its common stock and relinquished its right to a property
interest. In return, Costilla executed a new agreement to purchase the Pioneer
Acquisition Properties for $294 million. Such new transaction had a closing date
of March 31, 1999, and an effective date of January 1, 1999. This agreement
terminated on March 31, 1999, and Costilla and Pioneer then entered into a new
agreement whereby Costilla would acquire certain of the Pioneer Acquisition
Properties for $250 million. In connection with the new agreement, the Company
issued to Pioneer one million shares of its common
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stock. Even with the new agreement, management believed the probability of
successful completion of the Pioneer acquisition, subsequent to March 31, 1999
was questionable. Therefore, the related costs, none of which are recoverable,
were expensed as of that date. The new agreement terminated by its terms on
April 15, 1999.
The loss on the termination of the Pioneer acquisition consists of the
following:
(in thousands)
--------------
Cash Deposit $25,000
4.0 million shares of Costilla common stock 13,700
Oil & gas property assigned to Pioneer 3,558
Interest capitalized for acquisition 1,012
Due diligence, legal, accounting and engineering 4,218
-------
Total loss on termination of acquisition $47,488
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COSTILLA ENERGY, INC.
SPECIAL NOTE REGARDING FORWARD-LOOKING STATEMENTS
Certain statements in this Form 10-Q constitute "forward-looking
statements" within the meaning of the Private Securities Litigation Reform Act
of 1995 (the "Reform Act"). Such forward-looking statements involve known and
unknown risks, uncertainties, and other factors which may cause the actual
results, performance, or achievements of Costilla to be materially different
from any future results, performance, or achievements expressed or implied by
such forward-looking statements. Such factors include, among others, the
following: the volatility of oil and gas prices, the Company's drilling results
and ability to replace oil and gas reserves, the availability of capital
resources, the reliance upon estimates of proved reserves, operating hazards and
uninsured risks, competition, government regulation, and the ability of the
Company to implement its business strategy, and other factors referenced in the
Company's public filings with the Securities and Exchange Commission.
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS
GENERAL
Costilla is an independent energy company engaged in the exploration,
acquisition and development of oil and gas properties. From January 1, 1993 to
September 30, 1998, the Company closed nine acquisitions for an aggregate
purchase price of approximately $149.0 million. Two of those transactions
involved acquisitions from Pioneer's predecessor in 1995 and 1996 for a total
purchase price of approximately $85.0 million.
The Company's strategy is to utilize its technical staff and
technological advances to increase its oil and gas reserves, production and cash
flow from operations through an active exploration program and the acquisition
and development of proved reserves. In addition, Costilla continues to evaluate
the acquisition of undeveloped acreage for its exploration efforts. Costilla has
in-house exploration expertise using 3-D seismic technology to identify new
drilling opportunities as well as for the development of acquired properties.
The Company has grown primarily through acquisitions which impacted its
reported financial results in a number of ways. Properties sold by others
frequently have not received focused attention prior to sale. After acquisition,
certain of these properties are in need of maintenance, workovers, recompletions
and other remedial activity not constituting capital expenditures, which
substantially increase lease operating expenses. The increased production and
revenue resulting from these expenditures is predominately realized in periods
subsequent to the period of expense.
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The following table sets forth certain operating data of Costilla for
the periods presented:
Three Months Ended
March 31,
-----------------------
1999 1998
--------- ---------
OIL AND GAS PRODUCTION:
Oil (Mbbls) 359 544
Gas (Mmcf) 4,783 3,432
MMCFE (1) 6,937 6,695
AVERAGE SALES PRICES (2):
Oil (per Bbbl) $ 10.38 $ 15.37
Gas (per Mcf) 1.89 2.03
COSTS PER MMCFE (1):
Production cost $ 0.87 $ 1.01
Depreciation, depletion and amortization 0.75 0.90
- ----------
(1) MCFE represents equivalent Mcf of gas. In reference to oil, natural gas
equivalents are determined using the ratio of one barrel of crude oil,
condensate or natural gas liquids to six MCF of natural gas. MMCFE
represents one thousand Mcf of gas equivalent.
(2) Before deduction of production taxes and including any hedging results.
Costilla uses the successful efforts method of accounting for its oil
and gas activities. Costs to acquire mineral interests in oil and gas
properties, to drill and equip exploratory wells that result in proved reserves,
and to drill and equip development wells are capitalized. Costs to drill
exploratory wells that do not result in proved reserves, geological, geophysical
and seismic costs, and costs of carrying and retaining unproved properties are
expensed. Capitalized costs of producing oil and gas properties, after
considering estimated dismantlement and abandonment costs and estimated salvage
values, are depreciated and depleted using the unit-of-production method.
Unproved oil and gas properties that are individually significant are
periodically reviewed for impairment of value, and a loss is recognized at the
time of impairment by providing an impairment allowance. Other unproved
properties are amortized based on the Company's experience of successful
drilling and average holding period.
The Company utilizes put option contracts, costless collars and swaps
to hedge the effect of price changes on a portion of its future oil and gas
production. Premiums paid and amounts receivable under the put option contracts
are amortized and accrued to oil and gas sales, respectively. If market prices
of oil and gas exceed the strike price of put options, the options will expire
unexercised, therefore, reducing the effective price received for oil and gas
sales by the cost of the related option. Conversely, if market prices of oil and
gas decline below the strike price of put options, the options will be
exercised, therefore, increasing the effective price received for oil and gas
sales by the proceeds received from the related option.
A costless collar establishes both a floor price and a ceiling for the
commodity through the simultaneous purchase of a put option contract and the
sale of a call option contract. Since the value of the put option and the call
option offset at the time of their purchase, the collar is costless, therefore
there are no premiums to amortize. If market prices of oil and gas decline below
the strike price of put options, the options will be exercised, therefore
increasing the effective price received for oil and gas sales by the proceeds
received from the related option. Conversely, if market prices of oil and gas
exceed the strike price of call options, the Company is obligated to pay the
counterparty the difference between the market price and the strike price for
the contact volumes, therefore, reducing the effective price received for oil
and gas sales by the amount paid to the counterparty.
Swaps establish a fixed price for the commodity. No premiums are paid
for these price swap contracts and therefore there are no premiums to amortize.
If market prices of oil and gas decline below the swap price, the counterparty
pays the Company the difference between the swap price and the market price for
the contract
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volumes, therefore, increasing the effective price received for oil and gas
sales by the proceeds received under the swaps. Conversely, if market prices of
oil and gas exceed the swap price, the Company is obligated to pay the
counterparty an amount equal to the difference between the market price and the
swap price for the contract volumes, therefore, reducing the effective price
received for oil and gas sales by the amount paid to the counterparty.
The net effect of the Company's commodity hedging activities increased
oil and gas revenues by $1,717,000 for the three month period ended March 31,
1999, and by $1,437,000 for the comparable period in 1998. In August 1998, the
Company entered into fixed price swap contracts for the remainder of 1998 and
for the calendar year 1999 covering 5,000 Bbls of oil per day. The contracts
provided for a price of $16.40 per Bbl from January 1, 1999 through December 31,
1999. The referenced prices were based upon the price at which WTI traded on the
NYMEX. These contracts did not provide a hedge for any trading days during the
period on which the NYMEX price for WTI closed at $13.50 or less per Bbl during
1999. In February 1999, the terms of the 1999 contract were amended to provide
for a fixed price of $15.00 per Bbl covering 5,000 Bbls of oil per day for
February 1999 through December 1999, with no hedge on any trading days during
the period when the NYMEX price for WTI closed at less than $12.00 per Bbl. In
April 1999, this swap was canceled and replaced with another contract for 2,000
Bbls per day which provided for a price of $15.00 per Bbl for the period May
1999 through December 1999 and $16.50 per Bbl for the period January 2000
through December 2000. No hedge will be provided on any days that the NYMEX
price for WTI closes at less than $13.50 during the 1999 period and $14.00
during 2000.
In November 1998, the Company entered into fixed price swap contracts
for a period of three years, beginning January 1, 1999, covering 25,000 Mmbtu of
gas at prices of $2.40 per Mmbtu. The referenced gas price was based upon the
price at which gas trades on the NYMEX. The counterparty had certain rights to
extend the contract for up to 25,000 Mmbtu per day for up to two years through
December 2003 at the above noted price. In February 1999 the three year fixed
price swap contract was amended for a new period of March 1999 through December
2000 covering 45,000 Mmbtu of gas per day at a fixed price of $2.20 per Mmbtu.
In March, 1999, the contract for the period March 1999 through December 1999,
was liquidated resulting in cash proceeds to the Company of $3.2 million. In
addition, a new contract was entered into covering 20,000 Mmbtu of gas per day
at a fixed price of $1.96 per Mmbtu for the period March 1999 through December
1999. The referenced gas prices were based upon the price at which gas trades on
the NYMEX. In April 1999, the Company sold calls for 20,000 Mmbtu per day for
the periods May 1999 through August 1999, at a price of $2.10 per Mmbtu and
September 1999 though December 1999, at a price of $2.30 per Mmbtu. Another swap
was entered into in April for the period January 2001 though December 2001 at a
price of $2.30 per Mmbtu. However, the counterparty may elect to have Costilla
cash settle on this option on the last day of any month from June through
September 1999.
The Company utilized interest rate swap agreements to reduce the
potential impact of increases in interest rates on floating-rate, long term
debt. If market rates of interest experienced during the applicable swap term
are below the rate of interest effectively fixed by the swap agreement, the rate
of interest incurred by the Company will exceed the rate that would have been
experienced under its then outstanding floating-rate indebtedness. The net
effect of the Company's interest rate hedging activities decreased interest
expense by $8,000 for the three months ended March 31, 1999, and increased
interest expense by $3,000 for the comparable period of 1998. The Company had an
interest rate swap agreement in place as of December 31, 1998, with a notional
amount of $24 million and a fixed rate of 7.5%, which expired in January 1999.
RESULTS OF OPERATIONS
Three Months Ended March 31, 1999 Compared to Three Months Ended March 31,
1998
The Company's oil and gas revenues for the three months ended March 31,
1999 were $12,764,000, representing a decrease of $2,581,000 (17%) from revenues
of $15,345,000 in 1998. Lower commodity prices accounted for a decrease in
revenues of $3,213,000, and reduced oil volumes decreased revenues by
$1,919,000. Increased gas production from wells drilled in south Texas partially
offset the decrease in revenues from reduced oil production and lower prices by
$2,551,000. The average oil price per barrel received in 1999 was $10.38
compared
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to $15.37 in 1998, a 32% decrease, and the average gas price received in 1999
was $1.89 compared to $2.03 in 1998, a 7% decrease.
Oil and gas production was 6,937 MMcfe in 1999 compared to 6,695 MMcfe
in 1998, a 4% increase. Actual oil production was down from 544,000 Bbls for the
three months ended March 31, 1998, to 359,000 Bbls for 1999. However, gas
production increased for the same period from 3,432 Mmcf to 4,783 Mmcf.
Oil and gas production costs for the three month period ended March 31,
1999 were $6,005,000 ($0.87 per Mcfe), compared to $6,785,000 in 1998 ($1.01 per
Mcfe), representing a decrease of $780,000 (11%), due principally to lower
production costs on newly completed wells and the sale of certain oil and gas
properties in 1998.
Loss on termination of purchase option relates to the termination of
the Pioneer acquisition. At March 31, 1999, management believed the probability
of successful completion of the acquisition was questionable. The costs, none of
which are recoverable, were expensed as of that date. The $47,488,000 loss
includes a cash payment of $25,000,000, the relinquishment of Costilla's right
to a property interest of $3,558,000, 4,000,000 shares of common stock valued at
$13,700,000 and capitalized interest, legal, accounting, engineering and due
diligence costs of $5,230,000.
General and administrative expenses for the three months ended March
31, 1999 were $2,920,000, representing an increase of $427,000 (17%) from 1998
of $2,493,000. The 1999 period included a one time bank fee of $720,000 which
reduces the normal general and administrative expenses for the period to
$2,200,000, a reduction of $293,000 (12%) from the 1998 period. The Company's
agreement with Ballard Petroleum to reimburse Ballard for certain general and
administrative expenses was terminated effective March 1, 1999 and is expected
to result in a savings of approximately $124,000 per month. Subsequent to March
31, 1999 the Company further reduced its staff and related expenses by
approximately $225,000 monthly, the effect of which will be realized beginning
approximately June 1, 1999.
Exploration and abandonment expense decreased to $1,119,000 for the
three months ended March 31, 1999 compared to $3,151,000 in 1998. Dry hole and
abandonment costs decreased to $373,000 in 1999 from $2,693,000 in 1998. The
Company incurred $500,000 of seismic costs for the three months ended March 31,
1999, compared to $290,000 in the comparable period in 1998. The Company
incurred $246,000 of other geological and geophysical costs during the three
month period ended March 31, 1999 compared to $168,000 for the same period in
1998. The decrease in exploration and abandonments expense was primarily related
to the Company's restricted exploratory drilling activities in 1999 compared to
1998.
Depreciation, depletion and amortization ("D D & A") expense for the
three month period ended March 31, 1999 was $5,182,000 compared to $6,059,000
for 1998, representing a decrease of $877,000 (14%). During the 1999 period, D D
& A on oil and gas production was provided at an average rate of $0.75 per Mcfe
compared to $0.90 per Mcfe for 1998. Of the total decrease, $1,004,000 was due
to the lower DD&A rate. This reduction in the DD&A rate was due to less
remaining basis in the oil and gas assets after the December 31, 1998,
impairment. The total decrease was reduced by DD&A on greater volumes of
$181,000 and higher depreciation and amortization on non oil and gas assets of
$54,000.
Interest expense was $4,987,000 for the three months ended March 31,
1999, compared to $4,739,000 for the comparable period in 1998. The $248,000
(5%) increase was attributable to a higher level of average outstanding
indebtedness. The average amounts of applicable interest-bearing debt in 1999
and 1998 were $217,200,000 and $181,461,000, respectively. The effective
annualized interest rate in 1999 was 9.18%, as compared to 10.45% in 1998.
Results of operations for the three months ended March 31, 1999 include
no extraordinary charges. Results for the comparable period ended March 31,
1998, included an extraordinary charge of $299,000. This extraordinary charge
related to the early extinguishment of a bank credit facility and consisted of
previously capitalized debt issuance costs.
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LIQUIDITY AND CAPITAL RESOURCES
Net Cash Provided By Operating Activities
For the three months ended March 31, 1999, net cash used by operating
activities was $0.8 million, decreasing from net cash provided by operating
activities of $0.9 million for the comparable period in 1998. Cash provided by
operations, before changes in operating assets and liabilities, decreased to a
negative $2.4 million from a negative $1.3 million for the comparable period in
1998 due primarily to lower oil and gas prices.
Net Cash Used in Investing Activities
Net cash provided by investing activities for the three months ended
March 31, 1999 was $10.8 million. Approximately $14.5 million was provided by
the sale of oil and gas properties. Cash used in investing activities was
approximately $3.6 million with most of that for exploration and development
activities. For the three months ended March 31, 1998, net cash used in
investing activities was $28.5 million. Approximately $11.8 million was used for
the acquisition of oil and gas properties, with $10.2 million going to Manti
Resources ("Manti Acquisition"), approximately $19.0 million was used for
exploration and development activities, $0.2 million was used for other property
and $2.5 million was provided by sales of oil and gas properties.
Financing Activities
For the three months ended March 31, 1999, the Company used
approximately $12.0 million to repay bank debt. For the three months ended March
31, 1998, the Company incurred $95.0 million of debt, of which approximately
$62.5 million was used to repay certain prior bank debt, $10.2 million was used
for the Manti Acquisition and the remainder was used in connection with its
exploration and development activities. In addition, the Company used
approximately $1.8 million for the purchase of 169,500 shares of its common
stock.
The Company entered into the Revolving Credit Facility in August 1997.
The Revolving Credit Facility provided for a maximum availability of $75.0
million, with a borrowing base at March 31, 1999 of $36.0 million, of which
$28.0 was borrowed at March 31, 1999. The Company borrowed the remaining $8.0
million on April 1, 1999 to partially fund the $9.2 million interest payment to
the Senior Note holders. Borrowings under the Revolving Credit Facility bear
interest, at the Company's option, at a floating rate which is at or above the
lender's prime rate or above the applicable Eurodollar rate, depending on the
percentage of committed funds which have been borrowed. Interest is payable
quarterly as to base rate loans, and at the end of the applicable interest
period as to Eurodollar rate loans. The borrowing base of the Revolving Credit
Facility is automatically reduced by 5% each quarter beginning in September
1999, and payments of principal are required in each such quarter in which the
outstanding principal balance is greater than the reduced borrowing base. The
remaining balance is payable on August 31, 2002, the maturity date of the
Revolving Credit Facility.
In January 1998 the Company issued $80 million of 10.25% Senior Notes
due 2006 (the "Supplemental Notes Offering"). The net proceeds of the
Supplemental Notes Offering were approximately $78.8 million. The Company used
$30.0 million to repay an additional Credit Facility and $32.5 million to repay
all but $0.5 million of the Revolving Credit Facility. In mid-January 1998
approximately $10.0 million of the remaining proceeds were used to fund the
Manti Acquisition.
On June 3, 1998 the Company closed a private placement of 50,000 shares
of its 7% (8% Paid in Kind) Series A Cumulative Convertible Preferred Stock (the
"Preferred Stock") to Enron Capital & Trade Resources Corp. and Joint Energy
Development Investments II Limited Partnership for a purchase price of $50.0
million (the "Convertible Preferred Stock Offering"). Dividends accrue and are
payable quarterly, commencing September 15, 1998, in cash, or in certain
instances in shares of the Company's Common Stock. The dividend rate is 7% for
dividends paid in cash and 8% for dividends paid in shares of Common Stock. The
holders of the Preferred Stock may, at any time, convert shares of Preferred
Stock into shares of the Company's Common Stock at a conversion price of $11.99,
subject to certain adjustments. The Registrant may, at its option, redeem the
shares of Preferred Stock after June 15, 2001, subject to certain limitations,
for a premium reducing to par on June 15, 2004 and
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thereafter. Net proceeds from the Convertible Preferred Stock Offering were
$48.0 million, of which $29.0 million was used to repay all but $0.5 million of
the Revolving Credit Facility and the remainder for general corporate purposes.
Capital Resources
The Company will have extremely limited capital resources available to
it during 1999. A recent amendment to the Credit Facility requires the Company
to reduce the amount outstanding by $15.0 million during 1999, with $10.2
million of the mandated reduction being due and payable on June 1, 1999.
Additionally, the outstanding balance under the Credit Facility at September
1999 will be payable in amortized quarterly principal payments beginning on
September 30, 1999. The Company will be able to comply with these requirements
only though asset dispositions and efforts to market certain of its oil and gas
properties are currently underway. However, no assurance can be given that the
Company will be successful in marketing oil and gas properties for amounts
sufficient to meet the required repayment schedule. In addition, the Company had
at March 31, 1999 and continues to have throughout the second quarter of 1999 a
substantial working capital deficit, which was $22.3 million at March 31, 1999,
excluding current maturities of long term debt. The Company will have to
substantially reduce its operations to deal with its working capital deficit.
The combination of required repayments under the Credit Facility, uncertainty
with respect to future asset sales and the working capital deficit has caused
the Company's independent accountants to add an explanatory paragraph to the
Auditors Report accompanying the Company's December 31, 1998 financial
statements. No assurance can be given that the Company's anticipated divestiture
program and operational reductions will provide sufficient funds for the Company
to meet its obligations as they become due.
With the loss of the $25 million performance deposit upon failure of
the Pioneer acquisition, the Company presently has no funds available under its
Revolving Credit Facility. In March 1999, the Company sold properties previously
acquired from Ballard Petroleum LLC to Ballard for $14.0 million. From these
proceeds, $12.0 million was applied to the Revolving Credit Facility and the
remainder was used for general purposes.
Capital Expenditures
Due to matters discussed under "Capital Resources" above, the Company
does not anticipate any significant amount of capital expenditures for 1999
until it has been successful in its divestiture strategy and has made or
provided for the required repayments under the Credit Agreement, or has
otherwise obtained an amendment to the Credit Agreement.
Recent Accounting Pronouncements
DERIVATIVE INSTRUMENTS AND HEDGING ACTIVITIES - In June 1998, the FASB
issued Statement of Financial Accounting Standards No. 133, "Accounting for
Derivative Instruments and Hedging Activities" (SFAS No. 133"). SFAS No. 133
establishes accounting and reporting standards requiring that every derivative
instrument (including certain derivative instruments embedded in other
contracts) be recorded in the balance sheet as either an asset or liability
measured at its fair value. SFAS No. 133 requires that changes in the
derivative's fair value be recognized currently in earnings unless specific
hedge accounting criteria are met. Special accounting for qualifying hedges
allows a derivative's gains and losses to offset related results on the hedged
item in the income statement. Companies must formally document, designate, and
assess the effectiveness of transactions that receive hedge accounting.
SFAS No. 133 is effective for fiscal years beginning after June 15,
1999; however, beginning June 16, 1998, companies may implement the statement as
of the beginning of any fiscal quarter. SFAS No. 133 cannot be applied
retroactively and must be applied to (a) derivative instruments and (b) certain
derivative instruments, embedded in hybrid contracts that were issued, acquired,
or substantively modified after December 31, 1997 (and, at the Company's
election, before January 1, 1998.) The Company has not yet quantified the impact
of adopting
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SFAS No. 133 on its financial statements and has not determined the timing of or
method of adoption of SFAS No. 133.
YEAR 2000 - The Year 2000 ("Y2K") issue is the result of computerized
systems being written to store and process the year portion of dates from and
after January 1, 2000 in a manner which may result in systems failures. Because
of the importance of occurrence dates in the oil and gas industry, the
consequences of not pursuing Y2K compliance could be significant to the
Company's ability to manage and report operating activities. During 1998, the
Company implemented a program to identify, evaluate and address Y2K risks to
ensure that the Company's Information Technology ("IT") Systems and Non-IT
Systems will be Y2K compliant. As a result, the third-party software vendor for
the Company's integrated oil and gas information system has modified the system
to accurately handle the Y2K Issue. All necessary programming modifications were
tested and updated by February 28, 1999. From a cost viewpoint, these
modifications were included in the routine updates the Company receives from its
third-party software vendor as part of the systems support contract already in
place. The Company has completed a preliminary assessment of all date-sensitive
components related to its Non-IT Systems, which primarily consist of systems
with embedded technology. Based upon this assessment, the Company has determined
that there will be minimal modification required to become Y2K compliant. The
Company will replace or modify all non-compliant Non-IT Systems as necessary.
In addition to its own informational systems, the Company may also be
effected by the Y2K compliance and readiness of third parties with whom the
Company has a material business relationship. The Company has requested that
such third parties, particularly its purchasers of production, advise the
Company concerning their Y2K compliance on or before June 30, 1999.
The Company has begun an analysis of the operational problems and costs
that would be likely to result from the failure by the Company or significant
third parties to complete efforts necessary to achieve Y2K compliance on a
timely basis. A contingency plan has not been developed for dealing with the
most likely worst case scenario, and such scenario has not yet been clearly
identified. However, included among the potential "worst case" problems the
Company could face would be the loss of electricity used to power well pumps and
compressors that would result in wells being shut-in, or the inability of a
third party gathering company or pipeline to accept oil or gas from wells or
gathering lines which could also result in wells being shut-in. A disruption in
production would result in the loss of income and delays of payments for oil and
gas sales. The risk should be minimized by the Company's efforts to communicate
with and evaluate third party compliance. The Company plans to complete such
analysis by June 30, 1999.
The Company presently does not expect to incur significant operational
problems due to the Y2K issue. However, if all Y2K issues are not properly and
timely identified, assessed, remediated and tested, both by the Company and
others, there can be no assurances that the Y2K issue will not materially impact
the Company's results of operations or adversely affect relationships with
customers, vendors, or others. Additionally, there can be no assurance that the
Y2K issues of other entities will not have a material adverse impact on the
Company's systems or results of operations.
SEGMENT REPORTING - In June 1997, the FASB issued Statement of
Accounting Standards No. 131 "Disclosures about Segments of an Enterprise and
Related Information" ("FAS 131") which establishes standards for public business
enterprises for reporting information about operating segments in annual
financial statements and requires that such enterprises report selected
information about operating segments in interim financial reports issued to
shareholders. This statement also established standards for related disclosures
about products and services, geographic areas, and major customers. FAS 131 is
effective for financial statements for years beginning after December 15, 1997.
The Company operates in the one product line of oil and gas production
in limited geographic areas. This information and information about major
customers historically has been disclosed in the Company's annual financial
statements.
Item 3. Quantitative and Qualitative Disclosures About Market Risk
The information included in "Quantitative and Qualitative Disclosures
About Market Risk" in Item 7A of Costilla's 1998 Annual Report on Form 10-K is
incorporated herein by reference. Such information includes a description of
Costilla's potential exposure to market risks, including commodity price risk,
interest rate risk and foreign currency risk. As of March 31, 1999, there have
been no material changes in Costilla's market risk exposure from that disclosed
in the 1998 Form 10-K.
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PART II - OTHER INFORMATION
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
EXHIBITS
Exhibit
Number Description of Exhibit
------- ----------------------
*10.1 Purchase and Sale Agreement dated April 1, 1999 by
and between Costilla Energy, Inc. and Pioneer
Natural Resources USA, Inc. and Pioneer Resources
Producing, L.P.
*10.2 Seventh Amendment to Amended and Restated Credit
Agreement dated as of March 9, 1999 between
Bankers Trust Company, as Agent, Union Bank of
California, N.A., as Co-Agent and Costilla Energy,
Inc.
*10.3 Eighth Amendment to Amended and Restated Credit
Agreement dated as of March 31, 1999 between
Bankers Trust Company, as Agent, Union Bank of
California, N.A., as Co-Agent and Costilla Energy,
Inc.
*10.4 Purchase and Sale Agreement dated February 2, 1999
between Costilla Energy, Inc. and Ballard
Petroleum LLC
*27.1 Financial Data Schedule
*Filed herewith
REPORTS ON FORM 8-K
None.
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S I G N A T U R E S
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.
COSTILLA ENERGY, INC.
Date: May 17, 1999 By: /s/ BOBBY W. PAGE
------------------------------
Bobby W. Page
Senior Vice President
and Chief Financial Officer
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INDEX TO EXHIBITS
Exhibit
Number Description of Exhibit
------- ----------------------
*10.1 Purchase and Sale Agreement dated April 1, 1999 by
and between Costilla Energy, Inc. and Pioneer
Natural Resources USA, Inc. and Pioneer Resources
Producing, L.P.
*10.2 Seventh Amendment to Amended and Restated Credit
Agreement dated as of March 9, 1999 between
Bankers Trust Company, as Agent, Union Bank of
California, N.A., as Co-Agent and Costilla Energy,
Inc.
*10.3 Eighth Amendment to Amended and Restated Credit
Agreement dated as of March 31, 1999 between
Bankers Trust Company, as Agent, Union Bank of
California, N.A., as Co-Agent and Costilla Energy,
Inc.
*10.4 Purchase and Sale Agreement dated February 2, 1999
between Costilla Energy, Inc. and Ballard
Petroleum LLC
*27.1 Financial Data Schedule
* Filed herewith