COMSTOCK RESOURCES INC 10-Q

ITEM 2: MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS This report contains forward-looking statements that involve risks and uncertainties that are made pursuant to the safe harbor provisions of the Private Securities Litigation Reform Act of 1995. Actual results may differ materially from those anticipated in our forward-looking statements due to many factors. The following discussion should be read in conjunction with the consolidated financial statements and notes thereto included in this report and in our annual report filed on Form 10-K for the year ended December 31, 2022. Results of Operations Three Months Ended March 31, 2023 2022 Net Production Data: (In thousands except per unit amounts) Natural gas (MMcf) 127,067 114,906 Oil (MBbls) 27 21 Natural gas equivalent (MMcfe) 127,226 115,035 Revenues: Natural gas sales $ 378,032 $ 522,957 Oil sales 1,942 1,884 Total natural gas and oil sales $ 379,974 $ 524,841 Expenses: Production and ad valorem taxes $ 14,906 $ 13,820 Gathering and transportation $ 45,574 $ 32,093 Lease operating $ 34,830 $ 26,186 Exploration $ 1,775 $ 1,021 Average Sales Price: Natural gas (per Mcf) $ 2.98 $ 4.55 Oil (per Bbl) $ 71.93 $ 89.71 Average equivalent (Mcfe) $ 2.99 $ 4.56 Expenses ($ per Mcfe): Production and ad valorem taxes $ 0.12 $ 0.12 Gathering and transportation $ 0.36 $ 0.28 Lease operating $ 0.27 $ 0.23 Gas Services Gas services revenue $ 109,604 $ — Gas services expense $ 101,295 $ — Revenues – Natural gas and oil sales of $380.0 million for the first quarter of 2023 decreased by $144.9 million (28%) as compared to $524.8 million for the first quarter of 2022. The decrease was primarily due to lower natural gas prices. Our natural gas production for the first quarter of 2023 increased 11% to 127.1 billion cubic feet ("Bcf") (1.4 Bcf per day), and was sold at an average price of $2.98 per Mcf. Our natural gas production for the first quarter of 2022 was 114.9 Bcf (1.3 Bcf per day) and was sold at an average price of $4.55 per Mcf. 18 We utilize natural gas price derivative financial instruments to manage our exposure to changes in prices of natural gas and to protect returns on investment from our drilling activities. The following table presents our natural gas prices before and after the effect of cash settlements of our derivative financial instruments: Three Months Ended March 31, 2023 2022 Average Realized Natural Gas Price: Natural gas, per Mcf $ 2.98 $ 4.55 Cash settlements on derivative financial instruments, per Mcf 0.08 (1.02) Price per Mcf, including cash settlements on derivative financial instruments $ 3.06 $ 3.53 Gas service revenues of $109.6 million for the three months ended March 31, 2023 included sales of natural gas purchased from unaffiliated third parties for resale and fees received from unaffiliated third parties for natural gas transportation and treating services. These activities commenced in April 2022 with the acquisition of a pipeline and gas treating plant and the opportunity to utilize our excess transport capacity in North Louisiana. Costs and Expenses – Our production and ad valorem taxes increased $1.1 million (8%) to $14.9 million for the first quarter of 2023 from $13.8 million in the first quarter of 2022. The increase was primarily related to higher production tax rates enacted in Louisiana during the second half of 2022 and the 11% increase in production in the first quarter of 2023. Gathering and transportation costs for the first quarter of 2023 increased $13.5 million (42%) to $45.6 million as compared to $32.1 million in the first quarter of 2022. The increase is due to production growth in areas with higher average gathering and transportation rates. Our lease operating expense of $34.8 million ($0.27 per Mcfe) for the first quarter of 2023 increased $8.6 million (33%) from lease operating expense of $26.2 million ($0.23 per Mcfe) for the first quarter of 2022. The increase was due primarily to increased personnel and other production costs. Gas service expenses were $101.3 million for the three months ended March 31, 2023, which include the cost of unaffiliated third party natural gas purchased for resale and the operating expenses of the pipeline and natural gas treating plant acquired in April 2022. Depreciation, depletion and amortization ("DD&A") increased $27.3 million to $134.0 million in the first quarter of 2023 from $106.7 million in the first quarter of 2022. Our DD&A per equivalent Mcf produced was $1.05 per Mcfe for the quarter ended March 31, 2023 as compared to $0.93 for the quarter ended March 31, 2022. The increase in the DD&A rate was primarily due to higher drilling and completion costs incurred for wells turned to sales in the first quarter of 2023. General and administrative expenses, which are reported net of overhead reimbursements, increased to $12.4 million for the first quarter of 2023 as compared to $8.2 million in the first quarter of 2022. The increases were primarily related to higher personnel costs. We use derivative financial instruments as part of our price risk management program to protect our capital investments. During the quarter ended March 31, 2023, we had net gains related to our derivative financial instruments of $66.4 million, as compared to net losses on derivative financial instruments of $437.5 million during the quarter ended March 31, 2022. Realized net gains from our oil and natural gas price risk management program were $10.4 million for the quarter ended March 31, 2023 as compared to realized net losses of $117.2 million for the quarter ended March 31, 2022. Interest expense was $38.3 million and $46.5 million for the quarters ended March 31, 2023 and 2022, respectively. The decrease in interest expense is due primarily to the early retirements of senior notes in May and June 2022 and the repayment of outstanding borrowings under the bank credit facility in 2022. Income taxes for the quarter ended March 31, 2023 and 2022 were a provision of $39.7 million and a benefit of $31.6 million, respectively. Income tax expense for the three months ended March 31, 2023 reflects an effective tax rate of 22.9% and the income tax benefit for the three months ended March 31, 2022 reflects an effective tax rate of 22.1%. The difference between the federal statutory tax rate of 21% and our effective rate is primarily attributable to the impact of state income taxes and revisions to the estimated future utilization of federal and state net operating loss carryforwards. We reported net income available to common stockholders of $134.5 million or $0.49 per diluted share, for the quarter ended March 31, 2023 which included a $66.4 million net gain from derivative financial instruments. Income from operations for the first quarter of 2023 was $145.6 million. We reported net loss available to common stockholders of $115.7 million or $0.50 per share for the quarter ended March 31, 2022. 19 Cash Flows, Liquidity and Capital Resources Cash Flows The following table summarizes sources and uses of cash and cash equivalents: Three Months Ended March 31, 2023 2022 (In thousands) Sources of cash and cash equivalents: Operating activities $ 386,364 $ 285,618 Proceeds from asset sales 130 45 Total $ 386,494 $ 285,663 Uses of cash and cash equivalents: Capital expenditures $ 372,637 $ 214,856 Repayments of bank credit facility, net of borrowings — 85,000 Common stock dividends 34,688 — Preferred stock dividends — 4,315 Other 144 18 Total $ 407,469 $ 304,189 Cash flows from operating activities. Net cash provided by our operating activities increased $100.7 million (35%) to $386.4 million in the first three months of 2023 from $285.6 million in the same period in 2022. Capital expenditures. The increase in capital expenditures of $157.8 million is primarily due to our higher drilling and completion activity in the first quarter of 2023 and $40.7 million of unproved property acquisitions. Our capital expenditures are summarized in the following table: Three Months Ended March 31, 2023 2022 (In thousands) Acquisitions: Proved property $ — $ 274 Unproved property 40,695 3,631 Exploration and development: Development leasehold costs 8,743 4,632 Exploratory drilling and completion costs 29,690 11,557 Drilling and completion costs 280,176 189,048 Other development costs 6,097 18,612 Asset retirement obligations 30 381 Total exploration and development 365,431 228,135 Other property and equipment 4,543 22 Total capital expenditures $ 369,974 $ 228,157 Change in accrued capital expenditures 1,009 (14,499) Prepaid drilling costs 1,684 1,579 Change in asset retirement obligations (30) (381) Total cash capital expenditures $ 372,637 $ 214,856 20 We drilled 44 (16.3 net) wells and completed 29 (12.8 net) Haynesville and Bossier shale wells during the first three months of 2023. We currently expect to spend an additional $750 million to $850 million in the remaining nine months of 2023 on drilling, completion, infrastructure and other activity. Liquidity and Capital Resources As of March 31, 2023, we had $1.5 billion of liquidity, comprised of unused borrowing capacity under our bank credit facility and $33.7 million of cash and cash equivalents on hand. Our short and long-term capital requirements consist primarily of funding our development and exploration activities, acquisitions, payments of contractual obligations and debt service. We expect to fund our future development and exploration activities with future operating cash flow and borrowings under our bank credit facility. The timing of most of our future capital expenditures is discretionary because of the limited number of material long-term capital expenditure commitments. Consequently, we have a significant degree of flexibility to adjust the level of our capital expenditures as circumstances warrant. If our plans or assumptions change or our assumptions prove to be inaccurate, we may be required to seek additional capital, including debt or equity financing. We cannot provide any assurance that we will be able to obtain such capital, or if such capital is available, that we will be able to obtain it on acceptable terms. We do not have a specific acquisition budget for the remainder of 2023 because the timing and size of acquisitions are unpredictable. We intend to use our cash flows from operations, borrowings under our bank credit facility, or other debt or equity financings to the extent available, to finance such acquisitions. The availability and attractiveness of these sources of financing will depend upon a number of factors, some of which will relate to our financial condition and performance and some of which will be beyond our control, such as prevailing interest rates, natural gas and oil prices and other market conditions. Lack of access to the debt or equity markets due to general economic conditions could impede our ability to complete acquisitions. At March 31, 2023, we had no borrowings outstanding under our bank credit facility. Aggregate commitments under our bank credit facility are $1.5 billion, which matures on November 15, 2027. Borrowings under the bank credit facility are subject to a borrowing base, which was redetermined on April 20, 2023 and currently set at $2.0 billion. The borrowing base is re-determined on a semi-annual basis and upon the occurrence of certain other events. Borrowings under the bank credit facility are secured by substantially all of our assets and those of our subsidiaries and bear interest at our option, at either adjusted SOFR plus 1.75% to 2.75% or an alternate base rate plus 0.75% to 1.75%, in each case depending on the utilization of the borrowing base. We also pay a commitment fee of 0.375% to 0.50% on the unused portion of the borrowing base. The bank credit facility places certain restrictions upon our and our subsidiaries' ability to, among other things, incur additional indebtedness, pay cash dividends, repurchase common stock, make certain loans, investments and divestitures and redeem the senior notes. The only financial covenants are the maintenance of a leverage ratio of less than 3.5 to 1.0 and an adjusted current ratio of at least 1.0 to 1.0. We were in compliance with the covenants as of March 31, 2023. Income Taxes At March 31, 2023, we had $767.5 million in U.S. federal net operating loss ("NOL") carryforwards and $1.5 billion in certain state NOL carryforwards. As a result of the change of control in August 2018, our ability to use NOLs to reduce taxable income is generally limited to an annual amount based on the fair market value of our stock immediately prior to the ownership change multiplied by the long-term tax-exempt interest rate. Our NOLs are estimated to be limited to $3.3 million a year as a result of this limitation. In addition to this limitation, IRC Section 382 provides that a corporation with a net unrealized built-in gain immediately before an ownership change may increase its limitation by the amount of recognized built-in gain recognized during a recognition period, which is generally the five-year period immediately following an ownership change. Based on the fair market value of our common stock immediately prior to the ownership change, we believe that we have a net unrealized built-in gain which will increase the Section 382 limitation during the five-year recognition period from 2018 to 2023 by $147.7 million. NOLs that exceed the Section 382 limitation in any year continue to be allowed as carryforwards until they expire and can be used to offset taxable income for years within the carryover period subject to the limitation in each year. NOLs incurred prior to 2018 generally have a 20-year life until they expire. NOLs generated in 2018 and after would be carried forward indefinitely. Our use of new NOLs arising after the date of an ownership change would not be affected by the 382 limitation. If we do not generate a sufficient level of taxable income prior to the expiration of the pre-2018 NOL carryforward periods, then we will lose the ability to apply those NOLs as offsets to future taxable income. We estimate that $767.2 million of the U.S. federal NOL carryforwards and $1.2 billion of the estimated state NOL carryforwards will expire unused. 21