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MHR > SEC Filings for MHR > Form 10-Q on 15-Nov-2012All Recent SEC Filings

Show all filings for MAGNUM HUNTER RESOURCES CORP

Form 10-Q for MAGNUM HUNTER RESOURCES CORP


15-Nov-2012

Quarterly Report


Item 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS

The following discussion is intended to assist in understanding our results of operations and our financial condition. This section should be read in conjunction with management's discussion and analysis contained in our Annual Report on Form 10-K, as amended, for the year ended December 31, 2011, filed with the Securities and Exchange Commission ("SEC"). Our consolidated financial statements and the accompanying notes included elsewhere in this Quarterly Report on Form 10-Q contain additional information that should be referred to when reviewing this material. Certain statements in this discussion may be forward-looking. These forward-looking statements involve risks and uncertainties, which could cause actual results to differ from those expressed in this report. A glossary containing the meaning of the oil and gas industry terms used in this management's discussion and analysis follows the "Results of Operations" table in this Item 2.

Cautionary Statements Regarding Forward-looking Statements

Various statements in this report, including those that express a belief, expectation or intention, as well as those that are not statements of historical fact, are forward-looking statements. The forward-looking statements may include projections and estimates concerning the timing and success of specific projects and our future reserves, production, revenues, income and capital spending. When we use the words "will," "believe," "intend," "expect," "may," "should," "anticipate," "could," "estimate," "plan," "predict," "project" or their negatives, other similar expressions or the statements that include those words, it usually is a forward-looking statement.

The forward-looking statements contained in this report are largely based on our expectations, which reflect estimates and assumptions made by our management. These estimates and assumptions reflect our best judgment based on currently known market conditions and other factors. Although we believe such estimates and assumptions to be reasonable, they are inherently uncertain and involve a number of risks and uncertainties that are beyond our control. In addition, management's assumptions about future events may prove to be inaccurate. We caution all readers that the forward-looking statements contained in this report are not guarantees of future performance, and we cannot assure any reader that such statements will be realized or the forward-looking events and circumstances will occur. Actual results may differ materially from those anticipated or implied in the forward-looking statements due to the factors detailed below and discussed in our Annual Report on Form 10-K, as amended, for the year ended December 31, 2011, and subsequent filings. All forward-looking statements speak only as of the date of this report. We do not intend to publicly update or revise any forward-looking statements as a result of new information, future events or otherwise. These cautionary statements qualify all forward-looking statements attributable to us, or persons acting on our behalf. The risks, contingencies and uncertainties relate to, among other matters, the following:

global economic and financial market conditions,

our business strategy,

estimated quantities of oil and gas reserves,

uncertainty of commodity prices in oil and gas,

disruption of credit and capital markets,

our financial position,

our cash flow and liquidity,

replacing our oil and gas reserves,

our inability to retain and attract key personnel,

uncertainty regarding our future operating results,

uncertainties in exploring for and producing oil and gas,

high costs, shortages, delivery delays or unavailability of drilling rigs, equipment, labor or other services,


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disruptions to, capacity constraints in or other limitations on the pipeline systems which deliver our gas and other processing and transportation considerations,

our inability to obtain additional financing necessary to fund our operations and capital expenditures and to meet our other obligations,

competition in the oil and gas industry,

marketing of oil, gas and natural gas liquids,

exploitation of our current asset base or property acquisitions,

the effects of government regulation and permitting and other legal requirements,

plans, objectives, expectations and intentions contained in this report that are not historical, and

other factors discussed in our 2011 Annual Report on Form 10-K, as amended, for the year ended December 31, 2011, and subsequent filings, including this Quarterly Report on Form 10-Q.

General and Business Overview

We are an independent oil and gas company engaged in the exploration for and the exploitation, acquisition, development and production of crude oil, natural gas and natural gas liquids, primarily in the states of West Virginia, Ohio, Texas, Kentucky and North Dakota and in Saskatchewan, Canada. We are also engaged in midstream operations involving the gathering of natural gas through our ownership and operation of a gas gathering system in West Virginia and Ohio, referred to as our Eureka Hunter Pipeline System. We are presently active in three of the most prolific unconventional shale resource plays in North America, namely the Marcellus/Utica Shales in West Virginia and Ohio, the Eagle Ford Shale in south Texas and the Williston Basin/Bakken Shale in North Dakota and Saskatchewan, Canada.

Our business strategy is to exploit our inventory of lower risk drilling locations and acquire undeveloped leases and long-lived proved reserves with significant exploitation and development opportunities primarily located in unconventional resource plays. Over the past three years, we have substantially increased our assets and production base through a combination of acquisitions, joint ventures and ongoing development drilling efforts; our percentage of operated properties has increased significantly; our inventory of acreage and drilling locations in resource plays has grown dramatically; and our management team has been expanded. We are focused on the further development and exploitation of our core unconventional resource plays, the acquisition of additional operated properties in our core operating regions, and selective expansion of our midstream operations.

Recent Events

Fifth Amendment to Credit Agreement

On February 14, 2012, the Company entered into the Fifth Amendment to its Second Amended and Restated Credit Agreement. Pursuant to the Fifth Amendment, the Company's borrowing base was increased to $235.0 million from $200.0 million.


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Sixth and Seventh Amendments to Credit Agreement

On May 2, 2012, the Company entered into the Sixth Amendment to its Second Amended and Restated Credit Agreement. Pursuant to the Sixth Amendment, the borrowing base under our senior revolving credit facility was increased from $235.0 million to $275.0 million, then pursuant to the issuance of the $450.0 million of 9.75% Senior Notes, the borrowing base was decreased from $275.0 million to $187.5 million. Subsequent to the closing of the Baytex assets acquisition, the borrowing base was increased from $187.5 million to $212.5 million. The Seventh Amendment to the Second Amended and Restated Credit Agreement reduced the current ratio covenant for the June 30, 2012 reporting period, but such reduction did not become effective due to the issuance by the Company of its Senior Notes and the closing of the Baytex Energy USA assets acquisition.

Eighth Amendment to Credit Agreement

On May 10, 2012, the Company entered into the Eighth Amendment to its Second Amended and Restated Credit Agreement. Pursuant to the Eighth Amendment, the Company used a portion of the proceeds from the issuance of the Senior Notes to retire its term loan of $100.0 million, and the Company was required to have a minimum liquidity greater than $75.0 million after retiring the term loan in order to issue the Senior Notes.

Ninth Amendment to Credit Agreement

On August 8, 2012, the Company entered into the Ninth Amendment to its Second Amended and Restated Credit Agreement. Pursuant to the Ninth Amendment, debt under the Senior Notes is limited to $550.0 million, provided that the maturity date of the Senior Notes may not be earlier that one year after the maturity date of the senior revolving credit facility, and the Company shall not prepay any amounts owing under the Senior Notes at any time. The Ninth Amendment also raised the amount that the Company can pay as cash dividends on its Series C and Series D Preferred Stock to $25.0 million in any calendar year. The Ninth Amendment also raised the borrowing base to $260.0 million.

Tenth Amendment to Credit Agreement

On October 29, 2012, the Company entered into the Tenth Amendment to its Second Amended and Restated Credit Agreement. The Tenth Amendment permits the Company to issue a new Series E cumulative convertible preferred stock (the "Series E Stock"), of which 2774.85 shares were first issued in connection with the aquisition of Viking International Resources Co., Inc. by the Company's subsidiary, Triad Hunter, LLC. In addition, the Tenth Amendment adds the Series E Stock to the list of securities eligible to receive dividends subject to the annual preferred stock basket of $25.0 million and other restrictions.

Eleventh Amendment to Credit Agreement

On November 7, 2012 the Company entered into the Eleventh Amendment to its Second Amended and Restated Credit Agreement. The Eleventh Amendment amended the credit agreement to, among other things, increase the borrowing base, thereunder from $260 million to $375 million. Of the increased borrowing base amount, $50 million has a maximum term through June 30, 2013 and is subject to certain required reduction events including, without limitation, a mandatory reduction from any interim increase in the $325 million borrowing base tranche before June 30, 2013. With the startup of MarkWest's Mobley gas processing facility expected in the near future, Magnum Hunter will be able to increase its natural gas liquids proved developed reserves, which can be utilized to address any required payment of borrowings on June 30, 2013.

The Eleventh Amendment also increased the annual preferred stock dividend basket from $20.0 million to $40.0 million and amended the credit agreement to permit dividends for the Series E Stock on substantially the same terms as the existing Series C and Series D preferred stock of the Company.

In addition, the Eleventh Amendment amended the Total Debt to EBITDAX financial covenant in the credit agreement to require that such ratio not exceed (a) 4.5 to 1.0 for the fiscal quarter ended September 30, 2012 and the fiscal quarter ending December 31, 2012, (b) 4.25 to 1.0 for the fiscal quarter ending March 31, 2013 and (c) 4.0 to 1.0 for the fiscal quarter ending June 30, 2013 and for each fiscal quarter thereafter.

Amendment to Eureka Hunter Pipeline Second Lien Term Loan Agreement

On June 29, 2012, Eureka Hunter Pipeline entered into a Third Amendment to its Second Lien Term Loan Agreement. The Third Amendment amended the Second Lien Term Loan Agreement by reducing the minimum Interest Coverage Ratio (as such term is defined in the Second Lien Term Loan Agreement) to 0.85:1.00 for the fiscal quarters ending September 30, 2012 and December 31, 2012, and by increasing the maximum Total Leverage Ratio (as such term is defined in the Second Lien Term Loan Agreement) to 9.50:1.00 and 8.5:1.00 for the fiscal quarters ending September 30, 2012 and December 31, 2012, respectively. The lenders under the Second Lien Term Loan Agreement also agreed to waive any events of default occurring as a result of Eureka Hunter Pipeline's failure to comply with such ratios during the fiscal quarter ended June 30, 2012. Finally, the Third Amendment modified the interest rate provisions in the Second Lien Term Loan Agreement such that after June 29, 2012, all interest shall be payable in cash. The reduced minimum Interest Coverage Ratio shall increase back to 1.00:1.00, and the increased maximum Total Leverage Ratio shall decrease back to 6:50:1:00, if Eureka Hunter Pipeline receives funding prior to December 31, 2012 under its First Lien Credit Agreement,


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unless such First Lien Credit Agreement is amended in a manner satisfactory to the lenders under the Second Lien Term Loan Agreement. The Company paid consideration of $500,000 for the Third Amendment.

Utica Shale Acquisition

On February 17, 2012, Triad Hunter, LLC, a wholly owned subsidiary of the Company, closed on an acquisition of leasehold mineral interests located predominantly in Noble County, Ohio referred to as the Utica Acreage, for a total purchase price of $24.8 million in cash. The Utica Acreage consists of approximately 15,558 gross (12,186 net) acres predominantly located in Noble County, Ohio. The net price paid per acre for this acquisition was $2,037.

The Utica Acreage is in close proximity to Triad Hunter's existing acreage position in Washington and Noble Counties, Ohio, and increased Triad Hunter's acreage position to 18,187 gross (14,815 net) acres in in these two counties, and a total of 61,151 net acres that are presently prospective for the Utica Shale.

Sale of Hunter Disposal, LLC

On February 17, 2012, the Company, through its wholly owned subsidiary, Triad Hunter, LLC, closed on the sale of 100% of its equity ownership interest in Hunter Disposal, LLC. The sale was made to GreenHunter Water, LLC, a wholly-owned subsidiary of GreenHunter Energy, Inc., an entity for which Mr. Evans is an officer, director and major shareholder, for which Ronald Ormand, our Chief Financial Officer and a director, is also a director, and for which David Krueger, one of our Senior Vice Presidents and former Chief Accounting Officer, is Chief Financial Officer. The terms and conditions of the equity purchase agreement between the parties were approved by an independent special committee of the Company. The total sales price for this divestiture was approximately $9.9 million ($8.5 million after adjustments for working capital since the effective date of December 31, 2011). The consideration received included a combination of cash, GreenHunter Energy restricted common stock, GreenHunter Energy 10% cumulative preferred stock, and a convertible promissory note due to Triad Hunter. In connection with the sale Triad Hunter entered into agreements with Hunter Disposal, LLC and GreenHunter Water, LLC for wastewater hauling and disposal capacity in Kentucky, Ohio and West Virginia and a five-year tank rental agreement with GreenHunter Water, LLC.

Series A Convertible Preferred Unit Purchase Agreement

On March 21, 2012, Eureka Hunter Holdings entered into a Series A Convertible Preferred Unit Purchase Agreement (the "Unit Purchase Agreement") with the Company and Ridgeline Midstream Holdings, LLC ("Ridgeline"), an affiliate of ArcLight Capital Partners, LLC. Pursuant to this Unit Purchase Agreement, Ridgeline committed, subject to certain conditions, to purchase up to $200 million of Series A Convertible Preferred Units representing membership interests of Eureka Hunter Holdings (the "Series A Preferred Units"). Eureka Hunter Holdings is a majority owned subsidiary of Magnum Hunter and the holding company for Magnum Hunter's midstream operations, which include its existing pipeline operation in West Virginia and Ohio conducted through Eureka Hunter Pipeline and the below-described gas treating business and assets acquired (the "TransTex Acquisition") by the Company from TransTex Gas Services, LP ("TransTex") on April 2, 2012.

Contemporaneous with the execution of the Unit Purchase Agreement, Ridgeline purchased 3,000,000 Series A Preferred Units for the aggregate purchase price of $60 million, the net proceeds of which were used to fund a special one-time distribution by Eureka Hunter Holdings to Magnum Hunter to reimburse it for certain prior capital expenditures incurred by Magnum Hunter with respect to the assets of Eureka Hunter Pipeline and Eureka Hunter Land, LLC, a wholly owned subsidiary of Eureka Hunter Pipeline. Upon consummation of Ridgeline's $60.0 million initial investment, Eureka Hunter Holdings was owned 83.4% by Magnum Hunter, all in the form of Class A Common Units (the "Class A Common Units"), and 16.6% by Ridgeline, all in the form of Series A Preferred Units (on an as-converted basis). Further, Ridgeline purchased an additional 2,340,000 Series A Preferred Units for the aggregate purchase price of $46.8 million upon consummation of the TransTex Acquisition which closed on April 2, 2012. The net proceeds from this investment by Ridgeline were used to fund a distribution by Eureka Hunter Holdings to Magnum Hunter to reimburse it for certain capital expenditures with respect to the assets acquired for cash in the TransTex Acquisition. Ridgeline's remaining capital commitment, subject to Eureka Hunter Holdings requesting funds and the satisfaction of certain conditions, may be funded over the course of the two years following the closing of the Unit Purchase Agreement. The remaining capital commitment is required to be used for the development of Eureka Hunter Holdings' midstream operations. Upon Ridgeline's funding in connection with the TransTex Acquisition, its ownership position in Eureka Hunter Holdings represented, on an as-converted basis, approximately 25.4% of the ownership interest in Eureka Hunter Holdings with Magnum Hunter and TransTex owning 71.8% and 2.8% of Eureka Hunter Holdings, respectively, all in the form of Class A Common Units. Individual TransTex partners purchased 37,641 Class A Common Units, including 27,641 purchased by Gary Evans, the Chairman and CEO of the Company.


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On June 20, 2012, Ridgeline invested an additional $25.0 million in 1,250,000 Series A Preferred Units of Eureka Hunter Holdings.

On October 31, 2012, Ridgeline invested an additional $20.0 million in 1,000,000 Series A Preferred Units of Eureka Hunter Holdings. As of November 14, 2012, Ridgeline held an approximate 36.5% membership interest in Eureka Hunter Holdings, represented by Series A Preferred Units in Eureka Hunter Holdings.

Acquisition of Williston Basin Properties

On March 30, 2012, the Company, through its wholly owned subsidiary, Williston Hunter ND, a Delaware limited liability company, closed on the purchase of certain assets of Eagle Operating, Inc., effective April 1, 2011. Total consideration was $52.9 million consisting of $51.0 million in cash and 296,859 shares of Magnum Hunter restricted common stock valued at $1.9 million based on a price of $6.41 per share.

Baytex Assets Acquisition

On May 22, 2012, the Company, through its wholly-owned subsidiary, Bakken Hunter, LLC, closed on the acquisition of certain Bakken/Three Forks/Sanish properties located in the Williston Basin of North Dakota from Baytex Energy USA, Ltd., a subsidiary of Baytex Energy Corporation, for $312.0 million, as adjusted for certain customary adjustments.

The assets purchase agreement provides that the effective date of the purchase of the assets is March 1, 2012, and all proceeds and certain costs and expenses attributable to the assets acquired shall be apportioned between Baytex and Bakken Hunter according to such date. Property expenses relating to the assets acquired, including capital expenditures for new wells, paid by Baytex that are attributable to the period after the effective date, and Baytex's costs for assignments to it of properties pursuant to an election made by it after the effective date under the area of mutual interest provision in the operating agreement, which properties became part of the assets acquired, shall be apportioned to Bakken Hunter. Bakken Hunter assumed obligations accruing after the closing date under certain agreements relating to the assets, along with certain environmental liabilities.

Private Placement

On May 16, 2012, the Company successfully completed the issuance and sale of $450,000,000 aggregate principal amount of its 9.75% Senior Notes due 2020 (the "Senior Notes"). The Senior Notes are unsecured and are fully and unconditionally guaranteed (the "Guarantees"), jointly and severally, on a senior unsecured basis by certain of the Company's domestic subsidiaries, and may be guaranteed by certain future domestic subsidiaries of the Company. The Senior Notes and the Guarantees were offered and sold inside the United States to qualified institutional buyers in reliance on Rule 144A under the Securities Act of 1933, as amended (the ("Securities Act"), and outside the United States to non-U.S. persons in reliance on Regulation S under the Securities Act. The Company and the guarantor subsidiaries will use commercially reasonable efforts to register the Senior Notes under the Securities Act within 365 days after the date of issuance of the Senior Notes. The Company and the guarantor subsidiaries are required to pay additional interest if they fail to comply with their obligations to register the Senior Notes within the specified time period.

The Senior Notes were issued at a price of 98.646% of their face amount and provided net proceeds to the Company, after fees and expenses, of $432.2 million. The Company has used the net proceeds of this offering, together with other sources of liquidity, (i) to finance a portion of the $312.0 million acquisition of oil properties in the Williston Basin from Baytex Energy USA, Ltd., which closed on May 22, 2012, (ii) to pay off all amounts outstanding under the Company's term loan existing at that time, (iii) to repay outstanding debt under the Company's senior revolving credit facility, (iv) to increase the Company's 2012 upstream capital budget from $150.0 million to $325.0 million (92% of capital budget focused on Williston Basin and Eagle Ford) and (v) for general corporate purposes.

The Senior Notes were issued pursuant to an indenture entered into on May 16, 2012 among the Company, the guarantors, Wilmington Trust, National Association, as the trustee, and Citibank, N.A., as the paying agent, registrar and authenticating agent. The terms of the Senior Notes are governed by the indenture, which contains affirmative and negative covenants that, among other things, limit the Company's and the guarantors' ability to incur or guarantee additional indebtedness or issue certain preferred stock; pay dividends on capital stock or redeem, repurchase or retire capital stock or subordinated indebtedness or make certain other restricted payments; transfer or sell assets; make loans and other investments; create or permit to exist certain liens; enter into agreements that restrict dividends or other payments from restricted subsidiaries to the Company; consolidate, merge or transfer all or substantially all of their assets; engage in transactions with affiliates; and create unrestricted subsidiaries.

The Senior Notes mature on May 15, 2020, and interest on the Senior Notes will be paid semi-annually in arrears on May 15 and November 15 of each year, commencing on November 15, 2012.


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The indenture also contains customary events of default. Upon the occurrence of events of default arising from certain events of bankruptcy or insolvency, the Senior Notes shall become due and payable immediately without any declaration or other act of the trustee or the holders of the Senior Notes. Upon the occurrence of certain other events of default, the trustee or the holders of at least 25% in aggregate principal amount of the then outstanding Senior Notes may declare all outstanding Senior Notes to be due and payable immediately.

The Senior Notes are redeemable by the Company at any time on or after May 15, 2016, at the redemption prices set forth in the indenture. The Senior Notes are redeemable by the Company prior to May 15, 2016, at the redemption prices plus a "make-whole" premium set forth in the indenture. The Company is also entitled to redeem up to 35% of the aggregate principal amount of the Senior Notes before May 15, 2015 with net proceeds that the Company raises in equity offerings at a redemption price set forth in the indenture, so long as at least 65% of the aggregate principal amount of the Senior Notes issued under the indenture (excluding Senior Notes held by the Company) remains outstanding immediately after such redemption and the redemption occurs within 180 days of the closing date of such equity offering. If the Company experiences certain change of control events, each holder of Senior Notes may require the Company to repurchase all or a portion of the Senior Notes for cash at a price equal to 101% of the aggregate principal amount of such Senior Notes, plus any accrued and unpaid interest up to, but not including the date of repurchase.

Common Stock Offering

On May 16, 2012, the Company closed its underwritten public offering of 35,000,000 shares of its common stock at a price of $4.50 per share. The net proceeds of the offering, after deducting underwriting discounts and commissions and offering expenses, were approximately $148.0 million.

Equity Financings

We have raised substantial cash in the total amount of approximately $271.7 million in gross proceeds through equity transactions this fiscal year through November 13, 2012. Those transactions included:

$1.3 million in net proceeds from the exercise of warrants and common stock options for 2012 through November 13, 2012;

$122.4 million in net proceeds from the issuance of our Series D Preferred Stock for 2012 through November 13, 2012; and

$148.0 million in net proceeds from the sale of 7,590,000 Series A Preferred Units of Eureka Hunter Holdings through November 13, 2012.

We plan to continue raising both preferred and common equity in the future depending on our acquisition efforts and capital expenditures program and based on market conditions.

Results of Operations

The following table sets forth summary information regarding oil, natural gas, and NGLs, revenues, production, average product prices and average production costs and expenses for the three and nine months ended September 30, 2012, and 2011, respectively. See a glossary of terms used below the table.


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                                          Three Months Ended             Nine Months Ended
                                             September 30,                 September 30,
                                          2012           2011            2012           2011
Oil and gas revenue and production
Revenues (in thousands)
Oil - US                              $     41,487    $    13,907    $    103,246    $   40,686
Oil - Canada                                 9,147          2,726          25,442         3,592
Gas - US                                    10,325          6,555          33,411        17,690
. . .
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