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CWEI > SEC Filings for CWEI > Form 10-Q on 7-May-2013All Recent SEC Filings

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Form 10-Q for CLAYTON WILLIAMS ENERGY INC /DE


7-May-2013

Quarterly Report


Item 2 - Management's Discussion and Analysis of Financial Condition and Results of Operations

The following discussion is intended to provide information relevant to an understanding of our financial condition, changes in our financial condition and our results of operations and cash flows and should be read in conjunction with our consolidated financial statements and notes thereto included elsewhere in this Form 10-Q and in our Form 10-K for the year ended December 31, 2012. Unless the context otherwise requires, references to "CWEI" mean Clayton Williams Energy, Inc., the parent company, and references to the "Company", "we", "us" or "our" mean Clayton Williams Energy, Inc. and its consolidated subsidiaries.

Forward-Looking Statements

The information in this Form 10-Q includes "forward-looking statements" within the meaning of Section 27A of the Securities Act of 1933 and Section 21E of the Securities Exchange Act of 1934. All statements, other than statements of historical or current facts, that address activities, events, outcomes and other matters that we plan, expect, intend, assume, believe, budget, predict, forecast, project, estimate or anticipate (and other similar expressions) will, should, could or may occur in the future are forward-looking statements. These forward-looking statements are based on management's current expectations and belief, based on currently available information, as to the outcome and timing of future events and their effect on us. While management believes that these forward-looking statements are reasonable as and when made, there can be no assurance that future developments affecting us will be those that we anticipate. All statements concerning our expectations for future operating results are based on our forecasts for our existing operations and do not include the potential impact of any future acquisitions. Our forward-looking statements involve significant risks and uncertainties, many of which are beyond our control, and assumptions that could cause actual results to differ materially from our historical experience and our present expectations or projections. When considering forward-looking statements, you should keep in mind the risk factors and other cautionary statements in our Form 10-K for the year ended December 31, 2012 and in this Form 10-Q.

Forward-looking statements appear in a number of places and include statements with respect to, among other things:

estimates of our oil and gas reserves;

estimates of our future oil and gas production, including estimates of any increases or decreases in production;

planned capital expenditures and the availability of capital resources to fund those expenditures;

our outlook on oil and gas prices;

our outlook on domestic and worldwide economic conditions;

our access to capital and our anticipated liquidity;

our future business strategy and other plans and objectives for future operations;

the impact of political and regulatory developments;

our assessment of counterparty risks and the ability of our counterparties to perform their future obligations;

estimates of the impact of new accounting pronouncements on earnings in future periods; and

our future financial condition or results of operations and our future revenues and expenses.

We caution you that these forward-looking statements are subject to all of the risks and uncertainties, incident to the exploration for and development, production and marketing of oil and gas. These risks include, but are not limited to:

the possibility of unsuccessful exploration and development drilling activities;

our ability to replace and sustain production;

commodity price volatility;

domestic and worldwide economic conditions;


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the availability of capital on economic terms to fund our capital expenditures and acquisitions;

our level of indebtedness;

the impact of the past or future economic recessions on our business operations, financial condition and ability to raise capital;

declines in the value of our oil and gas properties resulting in a decrease in our borrowing base under our revolving credit facility and impairments;

the ability of financial counterparties to perform or fulfill their obligations under existing agreements;

the uncertainty inherent in estimating proved oil and gas reserves and in projecting future rates of production and timing of development expenditures;

drilling and other operating risks;

hurricanes and other weather conditions;

lack of availability of goods and services;

regulatory and environmental risks associated with drilling and production activities;

the adverse effects of changes in applicable tax, environmental and other regulatory legislation; and

the other risks described in our Form 10-K for the year ended December 31, 2012 and in this Form 10-Q.

Reserve engineering is a subjective process of estimating underground accumulations of oil and gas that cannot be measured in an exact way. The accuracy of any reserve estimate depends on the quality of available data and the interpretation of that data by geological engineers. In addition, the results of drilling, testing and production activities may justify revisions of estimates that were made previously. If significant, these revisions would change the schedule of any further production and development drilling. Accordingly, reserve estimates are generally different from the quantities of oil and gas that are ultimately recovered.

As previously discussed, should one or more of the risks or uncertainties described above or elsewhere in the Form 10-K for the year ended December 31, 2012 and in this Form 10-Q occur, or should underlying assumptions prove incorrect, our actual results and plans could differ materially from those expressed in any forward-looking statements. Readers are cautioned not to place undue reliance on forward-looking statements, which speak only as of the date hereof. We specifically disclaim all responsibility to publicly update or revise any information contained in a forward-looking statement or any forward-looking statement in its entirety after the date made, whether as a result of new information, future events or otherwise, except as required by law.

All forward-looking statements attributable to us are expressly qualified in their entirety by this cautionary statement.

Overview

We are engaged in developmental drilling in two primary oil-prone regions, the Permian Basin and Giddings Area, where we have a significant inventory of developmental drilling opportunities. One core area of the Permian Basin is our Bone Springs/Wolfcamp play ("Wolfbone") located in the Delaware Basin on the western edge of the Permian Basin. We are also continuing to exploit Eagle Ford Shale drilling opportunities on our extensive acreage position in the Giddings Area of East Central Texas. During the three months ended March 31, 2013, we spent $68.3 million on exploration and development activities.


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Key Factors to Consider

The following summarizes the key factors considered by management in the review of our financial condition and operating performance for the first quarter of 2013 and the outlook for the remainder of 2013.

Our oil and gas sales, excluding amortized deferred revenues, decreased $10.1 million, or 9%, from the first quarter 2012. Price variances accounted for an $11.7 million decrease, and production variances accounted for a $1.6 million increase. In addition, oil and gas sales includes $2.3 million of amortized deferred revenue attributable to the volumetric production payment ("VPP") we entered into in connection with the SWR mergers in March 2012.

Our oil production increased 1% compared to the first quarter 2012. Our NGL production increased 45% while gas production declined 19%. Prior to 2013, certain purchasers of our casinghead gas accounted for the value of extracted NGL in the price paid for gas production at the wellhead. During the quarter ended March 31, 2013, we began separating these products, when possible, resulting in a reduction in natural gas volumes and an increase in extracted NGL volumes. Periods for 2012 have not been adjusted to conform to the 2013 presentation. Our combined production for the first quarter of 2013 was relatively flat on a barrels of oil equivalent ("BOE") basis compared to the same period in 2012.

Production costs increased 8% or $2.4 million for the first quarter of 2013 compared to the first quarter of 2012 due primarily to a combination of an increase in the number of producing wells and higher costs of field services, including increased workover and maintenance activities.

We recorded an impairment of proved properties of $69.5 million in the first quarter of 2013 to write down the carrying value of our Andrews County Wolfberry assets to their estimated fair value. Impairment of a proved property group is recognized when the estimated undiscounted future net cash flows of the property group are less than its carrying value. The assessment of this non-cash charge was triggered by our commitment to monetize the properties in the April 2013 transaction.

We recorded a $6.5 million net loss on derivatives in the first quarter of 2013, consisting of a $6.1 million unrealized loss for changes in mark-to-market valuations and a $445,000 realized loss on settled contracts. For the same period in 2012, we recorded a $6.9 million net loss on derivatives, consisting of a $2.5 million unrealized loss for changes in mark-to-market valuations and a $4.4 million realized loss on settled contracts. Since we do not presently designate our derivatives as cash flow hedges under applicable accounting standards, we recognize the full effect of changing prices on mark-to-market valuations as a current charge or credit to our results of operations.

Depreciation, depletion and amortization ("DD&A") expense increased 25% to $39.1 million in the first quarter of 2013 versus $31.2 million in the first quarter of 2012 due primarily to a 20% increase in the average depletion rate per BOE of production. Most of the increase in depletion rate related to our Andrews County Wolfberry assets due to a decrease in proved reserves as a percentage of unamortized costs.

General and administrative ("G&A") expenses were $7.6 million in the first quarter of 2013 compared to $15 million in the first quarter of 2012. Non-cash employee compensation expense from incentive compensation plans accounted for $1.5 million expense in the first quarter of 2013 versus $6.3 million expense in the first quarter of 2012. G&A expenses, excluding non-cash employee compensation expense, decreased to $6.1 million in the first quarter of 2013 from $8.8 million in the first quarter of 2012. The 2012 period included $1.2 million of expense related to the SWR mergers and charitable contributions of $1 million.

Interest expense increased to $10.6 million in the first quarter of 2013 from $8.8 million in the first quarter of 2012 due primarily to the increase in the total aggregate principal amount of our revolving credit facility, which increased from an average daily principal balance of $234.8 million in the first quarter of 2012 to $487 million in the first quarter of 2013.

Recent Exploration and Development Activities

Overview

Since the second quarter of 2009, we have been primarily committed to drilling developmental oil wells in the Permian Basin and the Giddings Area. We currently plan to spend approximately $246.7 million on exploration and development activities during fiscal 2013, excluding expenditures for midstream facilities. Our actual expenditures during 2013 may vary significantly from these estimates since our plans for exploration and development activities may change during the remainder of the year.


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Factors such as drilling results, changes in operating margins, and the availability of capital resources and other factors, could increase or decrease our actual expenditures during the remainder of fiscal 2013.

Core Areas

Permian Basin

The Permian Basin is a sedimentary basin in West Texas and Southeastern New Mexico known for its large oil and gas deposits from the Permian geologic period. The Permian Basin covers an area approximately 250 miles wide and 350 miles long and contains commercial accumulations of oil and gas in multiple stratigraphic horizons at depths ranging from 1,000 feet to over 25,000 feet. The Permian Basin is characterized by an extensive production history, mature infrastructure, long reserve life, multiple producing horizons and enhanced recovery potential. Although many fields in the Permian Basin have been heavily exploited in the past, higher oil prices and improved technology (including deep horizontal drilling) continue to attract high levels of drilling and recompletion activities. We gained a significant position in the Permian Basin in 2004 when we acquired Southwest Royalties, Inc. This acquisition provided us with an inventory of potential drilling and recompletion activities.

We spent $34.8 million in the Permian Basin during the first three months of 2013 on drilling and completion activities and $4 million on leasing and seismic activities. We drilled and completed 8 gross (7.9 net) operated wells in the Permian Basin and conducted various remedial operations on other wells during the first three months of 2013. We currently plan to use two to three rigs in the Permian Basin and plan to spend approximately $125 million on drilling and leasing activities in this area during fiscal 2013. Following is a discussion of our principal assets in the Permian Basin.

Delaware Basin

We currently hold approximately 85,000 net acres in the active Wolfbone resource play in the Delaware Basin in Reeves, Loving, Ward and Winkler Counties, Texas and may earn up to 25,000 additional acres through future drilling commitments under an existing farm-in arrangement. A Wolfbone well is a well that commingles production from the Bone Springs and Wolfcamp formations which are typically encountered at depths of 8,000 to 13,000 feet. These Permian aged formations in the Delaware Basin are composed of limestone and sandstone. Geology in the Delaware Basin consists of multiple stacked pay zones with both over-pressured and normal-pressured intervals. To date, we have focused on the over-pressured intervals, having drilled 85 wells in the area: 70 vertical Wolfbone wells and 15 horizontal wells targeting multiple Bone Springs/Wolfcamp intervals.

A significant portion of our current and future holdings in this area are associated with a farm-in agreement we entered into in March 2011 with Chesapeake Exploration, L.L.C. ("Chesapeake") in southern Reeves County, Texas with a term of five years. Chesapeake's position in the agreement is now held by Shell Exploration and Production ("Shell"). For each well that we drill in the farm-in area that meets certain specified requirements (each, a "carried well"), Shell, or its successors to this agreement, will retain a 25% carried interest, bearing none of the costs to drill and complete a carried well, and we will earn an undivided 75% interest in 640 net acres within the farm-in area. Under the farm-in agreement, we are obligated to drill or commence drilling operations on at least 20 carried wells each year during the term of the agreement to a maximum of 100 carried wells. Excess wells drilled during any year may be applied towards our drilling obligations in the next year. To date, we have been credited for 42 carried wells under this agreement.

We have completed construction on the core sections of our oil, gas and water disposal pipelines in Reeves County, consisting of 71 miles of oil pipelines with a design capacity of 18,000 barrels of oil per day, 70 miles of gas pipelines with a design capacity of 25,000 Mcf of natural gas per day and 65 miles of salt water disposal pipelines with a design capacity of 20,000 barrels of produced water per day. These facilities may be expanded to accommodate new wells as we continue our development in the area. We spent $2.7 million during the first quarter of 2013 and expect to spend $4.2 million during 2013 on these systems.

We spent approximately $19.6 million on drilling and completion activities and $3 million for leasing activities in the Wolfbone play during the first quarter of 2013. We plan to spend approximately $87.1 million on drilling and completion activities and $8.2 million on leasing activities in the Wolfbone play during 2013. We are currently utilizing one rig in this area but may increase the rig count later in the year depending on availability of capital from asset sales and joint venture arrangements, as described under "Liquidity and Capital Resources."


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East Permian Basin

We have approximately 37,000 net acres in the emerging Cline Shale play in Glasscock and Sterling Counties. Originally leased as a Wolfberry prospect, to date we have drilled or participated in 22 vertical Wolfberry wells in this area. In 2012, we drilled a horizontal Cline Shale well. Although results from this well were disappointing, we believe that intervening operational factors may have contributed to the lower than anticipated production performance to date. We spent $2 million in the East Permian Basin during the first three months of 2013 on drilling and completion activities primarily on non-operated wells and $1 million on leasing activities, and we currently plan to spend approximately $5 million on similar drilling and leasing activities in this area during 2013.

Giddings Area

Prior to 1998, we concentrated our drilling activities in an oil-prone area we refer to as the Giddings Area. Most of our wells in the Giddings Area were drilled as horizontal wells, many with multiple laterals in different producing horizons, including the Austin Chalk, Buda and Georgetown formations in East Central Texas. Hydrocarbons are also encountered in the Giddings Area from other formations, including the Cotton Valley, Deep Bossier, Eagle Ford Shale, and Taylor formations. During the first three months of 2013, we spent approximately $18.4 million in the Giddings Area on drilling and completion activities and $5.3 million for leasing activities in the Giddings Area, and we currently plan to spend approximately $97 million on similar drilling activities in this area during 2013. Following is a discussion of our principal assets in the Giddings Area.

Austin Chalk

We have concentrated our recent drilling activities in the Giddings Area on the Austin Chalk formation, an upper Cretaceous geologic formation in the Gulf Coast region of the United States that stretches across numerous fields in Texas and Louisiana. The Austin Chalk formation is generally encountered at depths of 5,500 to 7,000 feet. Horizontal drilling is the primary technique used in the Austin Chalk formation to enhance productivity by intersecting multiple zones. Most of our wells in this area were drilled as horizontal wells, many with multiple laterals in different producing horizons, including the Austin Chalk, Buda and Georgetown formations in East Central Texas.

Eagle Ford Shale

The Eagle Ford Shale formation lies immediately beneath the Austin Chalk formation where we have approximately 177,000 net acres in production. We believe that more than 100,000 net acres in this area may also be prospective for economic Eagle Ford Shale production. Since July 2011, we have drilled eight horizontal Eagle Ford Shale wells. Each of these wells has been or will be completed by multi-stage hydraulic fracturing processes using about five million pounds of proppant and 100,000 barrels of water. We are encouraged by the production results achieved to date, but additional drilling and production data is needed to determine if an Eagle Ford Shale drilling program in this area could be economically viable. We are currently using one of our drilling rigs in the Giddings Area to drill horizontal wells in the Eagle Ford Shale formation and expect to continue the rig count at this activity level through 2013.

Other

We spent $5.7 million during the quarter ended March 31, 2013 on exploration and development activities in other regions, including South Louisiana, Oklahoma and California.
South Louisiana

During the current quarter, we completed the Christian #1, an exploratory well in Jefferson Parish. We currently plan to spend approximately $4.9 million on drilling and leasing activities in South Louisiana during 2013.

Oklahoma

We currently plan to begin drilling operations in 2013 on certain exploratory prospects in Oklahoma. These prospects were generated over the past two years using data obtained through proprietary 3D seismic shoots and target multiple conventional oil-prone formations encountered above a vertical depth of 6,000 feet. We currently plan to spend approximately $5.8 million on seismic, leasing and drilling activities in this area in 2013.


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California

We also plan to conduct limited drilling operations in 2013 on a 1,300 acre lease acquired in 2008 from the city of Whittier. Based on production history from more than 400 wells in the area, we are targeting multiple oil-bearing Miocene sands first encountered at depths above 1,500 feet which we plan to directionally drill in order to maximize exposure to each target sand. We own a 70% working interest in the lease and currently plan to spend approximately $11.5 million, net to our interest, to drill and complete three exploratory wells and construct production facilities on this lease in 2013.

Pipelines and Other Midstream Facilities

We own an interest in and operate oil, natural gas and water service facilities in the states of Texas and Louisiana. These midstream facilities consist of interests in approximately 314 miles of pipeline, four treating plants, one dehydration facility, and seven wellhead type treating and/or compression stations. Most of our operated gas gathering and treating activities facilitate the transportation and marketing of our operated oil and gas production.

Desta Drilling

Through our wholly owned subsidiary, Desta Drilling, L.P. ("Desta Drilling"), we operate 14 drilling rigs, 12 of which we own, and two of which we lease under long-term contracts. We believe that owning and operating our own rigs helps control our cost structure while providing us flexibility to take advantage of drilling opportunities on a timely basis. The Desta Drilling rigs are primarily reserved for our use, but are available to conduct contract drilling operations for third parties. As of April 24, 2013, we were using three of our rigs to drill wells in our developmental drilling programs, one rig was working for a third party and the remaining 10 rigs were idle. We currently plan to spend $1.8 million in 2013 to refurbish rigs and upgrade our drilling equipment.

Known Trends and Uncertainties

We have an extensive acreage position within the Permian Basin and Giddings Area with a large portion of that acreage currently held by production that will require significant capital to fully develop. Through asset sales and joint venture arrangements, we expect to achieve a sustainable balance between our future drilling commitments and our anticipated financial resources. We are unable to give assurance that our drilling results, or the term of any sale or joint venture arrangement would be acceptable to us or provide sufficient capital to meet future drilling commitments.

Our developmental drilling programs are very sensitive to oil prices and drilling costs. We attempt to control costs through drilling efficiencies by the use of our own rigs, purchasing casing and tubing at periods when we believe prices are suitable and working with service providers to receive acceptable unit costs. We plan to continue these programs as long as oil prices remain favorable. In order to continue drilling in these areas, we must be able to realize an acceptable margin between our expected cash flow from new production and our cost to drill and complete new wells. If any combination of falling oil prices and rising costs of drilling, completion and other field services occur in future periods, we may discontinue a program until margins return to acceptable levels.


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Supplemental Information

The following unaudited information is intended to supplement the consolidated
financial statements included in this Form 10-Q with data that is not readily
available from those statements.

                                             Three Months Ended March 31,
                                               2013                2012
Oil and Gas Production Data:
Oil (MBbls)                                        938                  929
Gas (MMcf)                                       1,626                2,013
Natural gas liquids (MBbls)                        145                  100
Total (MBOE)                                     1,354                1,365
Average Realized Prices (a) (b):
Oil ($/Bbl)                               $      91.26       $       100.76
Gas ($/Mcf)                               $       3.31       $         3.86
Natural gas liquids ($/Bbl)               $      32.77       $        45.87
Loss on Settled Derivative Contracts (b):
($ in thousands, except per unit)
Oil: Net realized loss                    $       (445 )     $       (4,416 )
  Per unit produced ($/Bbl)               $      (0.47 )     $        (4.75 )
Average Daily Production:
Oil (Bbls):
Permian Basin Area:
Delaware Basin                                   1,734                1,102
Other                                            5,084                5,699
Austin Chalk/Eagle Ford Shale                    3,364                2,995
Other                                              240                  413
Total                                           10,422               10,209
Gas (Mcf):
Permian Basin Area:
Delaware Basin                                   1,124                  649
Other (c)                                        9,668               12,234
Austin Chalk/Eagle Ford Shale                    2,098                2,147
Other                                            5,177                7,091
Total                                           18,067               22,121
Natural Gas Liquids (Bbls):
Permian Basin Area:
Delaware Basin                                     265                    -
Other (c)                                        1,121                  746
Austin Chalk/Eagle Ford Shale                      218                  267
Other                                                7                   86
Total                                            1,611                1,099
                                 (Continued)


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