<PAGE>
UNITED STATES SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-QSB
(Mark One)
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 number 0-22695
SHERIDAN ENERGY, INC.
(Exact name of registrant as specified in its charter)
Delaware 76-0507664
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
1000 Louisiana, Suite 800
Houston, Texas 77002
(Address of principal executive offices) (Zip Code)
(713) 651-7899
(Registrant's telephone number, including area code)
Indicate by check mark whether the registrant (1) has filed all reports
required to be filed pursuant to Section 13 or 15(d) of the Securities Exchange
Act of 1934 during the preceding 12 months (or for 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
--- ---
As of May 12, 1999, there were 6,731,276 outstanding shares of Sheridan
Energy, Inc. Common Stock, $.01 par value.
<PAGE>
SHERIDAN ENERGY, INC.
Report on Form 10-QSB For The Quarter Ended March 31, 1999
Index
<TABLE>
<CAPTION>
Page
<S> <C>
Part I. Financial Information...................................... 2
Item 1. Financial Statements (Unaudited)................... 2
Consolidated Balance Sheets -
March 31, 1999 and December 31, 1998............... 3
Consolidated Statements of Operations -
Three Month Periods Ended March 31, 1999 and 1998.. 5
Consolidated Statements of Cash Flows -
Three Month Periods Ended March 31, 1999 and 1998.. 6
Notes to Consolidated Financial Statements......... 7
Item 2. Management's Discussion and Analysis or
Plan of Operation................................. 11
Part II. Other Information.......................................... 18
</TABLE>
Forward-Looking Statements
Stockholders are cautioned that all forward-looking statements involve
risks and uncertainties, including without limitation, statements about the
costs of exploring and developing new oil and natural gas reserves, the price
for which such reserves can be sold, the Company's attempts to reduce overhead
and eliminate non-core assets, environmental concerns affecting the drilling of
oil and natural gas wells, the effect of the Merger, pending litigation, the
attempts to acquire producing and non-producing oil and gas properties, the
ability of the Company to make projected capital expenditures and secure
required capital and to achieve projected quarterly results and compliance with
Year 2000 issues, and general market conditions, competition and pricing.
Although the Company believes that the assumptions underlying the forward-
looking statements contained herein are reasonable, any of the assumptions could
be inaccurate, and there can therefore be no assurance that the forward-looking
statements included in this Form 10-QSB will prove accurate. Because of the
significant uncertainties inherent in the forward-looking statements contained
in this Form 10-QSB, the inclusion of such information should not be regarded as
a representation by the Company or any other person that the objectives and
plans of the Company will be achieved.
<PAGE>
SHERIDAN ENERGY, INC.
Report on Form 10-QSB For the Quarter Ended March 31, 1999
Part 1. Financial Information
Item 1. Financial statements (Unaudited)
The accompanying unaudited consolidated financial statements of Sheridan
Energy, Inc. and its subsidiary, Sheridan California Energy, Inc. (SCEI),
(collectively the "Company") have been prepared in accordance with Rule 310 of
Regulation S-B, "Interim Financial Statements," and accordingly do not include
all information and notes required under generally accepted accounting
principles for complete financial statements. The financial statements have
been prepared in conformity with the accounting principles and practices as
disclosed in the Company's Annual Report on Form 10-KSB for the year ended
December 31, 1998. These interim financial statements reflect all adjustments
(which were normal recurring adjustments) which are, in the opinion of
management, necessary for a fair presentation, in all material respects, of the
Company's financial position as of March 31, 1999. Results of operations for
the three-month period ended March 31, 1999 are not necessarily indicative of
the results that may be expected for the year ending December 31, 1999. It is
recommended that these unaudited consolidated financial statements be read in
conjunction with the consolidated financial statements and notes thereto
included in the Company's Annual Report on Form 10-KSB for the year ended
December 31, 1998.
2
<PAGE>
SHERIDAN ENERGY, INC. AND SUBSIDIARY
CONSOLIDATED BALANCE SHEETS
<TABLE>
<CAPTION>
March 31, December 31,
1999 1998
-------------------- --------------------
(unaudited)
ASSETS (in thousands,
------ except for share data)
<S> <C> <C>
Current Assets:
Cash and cash equivalents.............................................. $ 674 $ 639
Accounts receivable, net of allowance for doubtful accounts for 1999... 4,097
and 1998 of $120...................................................... 5,336
Acquisition deposit.................................................... -- 5,800
Other current assets................................................... 234 563
-------- --------
Total current assets................................................. 6,244 11,099
-------- --------
Property and equipment:
Oil and natural gas properties......................................... 131,571 75,331
Other property and equipment........................................... 1,200 1,025
Accumulated depletion, depreciation and amortization................... (22,871) (20,398)
-------- --------
Property and equipment, net.......................................... 109,900 55,958
-------- --------
Investment in natural gas treating plant................................. 389 336
Deferred tax asset....................................................... 930 930
Other assets, net........................................................ 914 554
-------- --------
Total other assets................................................... 2,233 1,820
-------- --------
TOTAL ASSETS............................................................. $118,377 $ 68,877
======== ========
</TABLE>
3
<PAGE>
<TABLE>
<S> <C> <C>
LIABILITIES AND STOCKHOLDERS' EQUITY
------------------------------------
Current liabilities:
Accounts payable and accrued liabilities............................... $ 7,780 $ 10,318
Current portion of long-term debt...................................... 4,950 5,550
-------- --------
Total current liabilities............................................ 12,730 15,868
-------- --------
Long-term liabilities:
Long-term debt......................................................... 63,250 31,950
-------- --------
Other long-term liabilities............................................ 7,510 --
Total long-term liabilities.......................................... 70,760 31,950
-------- --------
Total liabilities.................................................... 83,490 47,818
-------- --------
Commitments and contingencies (Note 3)
Redeemable Preferred Stock:
Series A Preferred Stock, 1,067,500 shares
outstanding; redemption value $10,675................................. 10,675 10,675
Series N-A Preferred Stock, 1,300,000 shares
outstanding, redemption value $13,000................................. 13,000 --
-------- --------
Total redeemable preferred stock..................................... 23,675 10,675
-------- --------
Minority interest........................................................ 1,919 --
Stockholders' equity:
Common Stock, 6,731,276 shares outstanding............................ 67 67
Additional paid-in capital............................................ 29,005 29,005
Accumulated deficit................................................... (19,779) (18,688)
-------- --------
Total stockholders' equity.......................................... 9,293 10,384
-------- --------
TOTAL LIABILITIES AND STOCKHOLDERS' EQUITY.............................. $118,377 $ 68,877
======== ========
</TABLE>
See accompanying notes to unaudited consolidated financial statements.
4
<PAGE>
SHERIDAN ENERGY, INC. AND SUBSIDIARY
CONSOLIDATED STATEMENTS OF OPERATIONS
(UNAUDITED)
<TABLE>
<CAPTION>
Three Months Ended March 31,
-------------------------------------------
1999 1998
-------------------- --------------------
(in thousands, except for per
share data)
<S> <C> <C>
REVENUES:
Oil and natural gas sales............................................ $ 6,233 $ 4,452
Natural gas gathering................................................ 51 56
Net gains on property sales.......................................... -- 178
------- -------
6,284 4,686
------- -------
COST AND EXPENSES:
Operating expenses................................................... 1,571 1,487
Treating and transportation expenses................................. 199 192
Depletion, depreciation and amortization............................. 2,473 2,504
General and administrative expenses.................................. 1,075 1,144
Exploration costs.................................................... 298 29
------- -------
5,616 5,356
------- -------
OPERATING INCOME (LOSS)................................................ 668 (670)
Other income (expenses):
Equity earnings in natural gas treating plant........................ 152 156
Interest expense..................................................... (1,197) (674)
------- -------
(1,045) (518)
------- -------
LOSS BEFORE INCOME TAXES............................................... (377) (1,188)
Income tax expense..................................................... -- --
------- -------
NET LOSS............................................................... (377) (1,188)
Preferred stock dividends.............................................. (695) (359)
Minority interest...................................................... (19) --
------- -------
NET LOSS APPLICABLE TO COMMON STOCK.................................... $(1,091) $(1,547)
======= =======
LOSS PER SHARE:
Basic and diluted.................................................... $(0.16) $(0.23)
======= =======
WEIGHTED AVERAGE SHARES:
Basic and diluted.................................................... 6,731 6,731
======= =======
</TABLE>
See accompanying notes to unaudited consolidated financial statements.
5
<PAGE>
SHERIDAN ENERGY, INC. AND SUBSIDIARY
CONSOLIDATED STATEMENTS OF CASH FLOW
(UNAUDITED)
<TABLE>
<CAPTION>
Three Months Ended March 31,
---------------------------------------
1999 1998
------------------- -----------------
(in thousands)
<S>........................................................................ <C> <C>
Cash flow from operating activities:
Net loss.................................................................. $ (377) $(1,188)
Adjustments to reconcile net loss to cash provided by operating
activities:
Depletion, depreciation and amortization............................... 2,473 2,504
Cash paid to settle litigation matters................................. (258) --
Amortization of debt transaction costs and stock compensation.......... 64 57
Net gains on property sales............................................ -- (178)
Distribution in excess of (less than) equity earnings.................. (53) 69
Changes in current operating assets and liabilities:
Increase in accounts receivable...................................... (1,239) (2,354)
Decrease in acquisition deposit...................................... 5,800 --
Decrease in other current assets..................................... 329 6
Increase (decrease) in accounts payable and accrued liabilities...... (2,957) 3,039
-------- -------
Net cash provided by operating activities.............................. 3,782 1,955
-------- -------
Cash flow from investing activities:
Capital expenditures..................................................... (49,130) (2,149)
Proceeds from property sales............................................. 225 187
-------- -------
Net cash used in investing activities.................................... (48,905) (1,962)
-------- -------
Cash flow from financing activities:
Payments on revolving credit facility.................................... (7,000) (3,850)
Borrowings under revolving credit facility............................... 37,700 3,600
Proceeds from issuance of subsidiary Series N-A preferred stock.......... 13,000 --
Proceeds from issuance of subsidiary common shares....................... 1,900 --
Debt transaction costs and other......................................... (442) (17)
-------- -------
Net cash provided by (used in) financing activities...................... 45,158 (267)
-------- -------
Net increase (decrease) in cash and cash equivalents....................... 35 (274)
Cash and cash equivalents at beginning of period........................... 639 274
-------- -------
Cash and cash equivalents at end of period................................. $ 674 $ --
======== =======
Supplemental Disclosure of Non-Cash Investing and Financing Activities:
Accrued capital expenditures to be refinanced with long-term debt...... $ 7,510 $ --
</TABLE>
See accompanying notes to unaudited consolidated financial statements.
6
<PAGE>
SHERIDAN ENERGY, INC. AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
1. BUSINESS AND ACQUISITION AND EQUITY ISSUANCE
Business
Sheridan Energy, Inc. ("Sheridan") including its subsidiary, Sheridan
California Energy, Inc. ("SCEI") (collectively the "Company") is a domestic
independent energy company engaged in the production of oil and natural gas and
in intrastate natural gas gathering and treating. Sheridan is the surviving
entity resulting from the merger with its former parent company, TGX Corporation
("TGX").
Acquisition and Equity Issuance
On January 25, 1999, but effective as of November 1, 1998, the Company,
through SCEI, acquired approximately $58.0 million of oil and gas producing and
non-producing properties in the Sacramento Basin, California ("California
Properties") from Amerada Hess Corporation (the "Amerada Transaction"). In
order to finance a portion of the Amerada Transaction, SCEI received a borrowing
base facility from Bank One, Texas, N.A. in the amount of approximately $43.0
million. See "Note 2--Long-Term Debt and Notes Payable" and "Note 6--Other
Long-Term Liabilities." In addition, the Company entered into an agreement with
Calpine Corporation and CPN Production Company ("CPN"), each unaffiliated
parties, pursuant to which SCEI was created to acquire and own the California
Properties. CPN contributed $14.9 million in cash in exchange for $13.0 million
in seven-year redeemable non-voting Series N-A Preferred Stock of SCEI (the
"SCEI Preferred Stock") and 20%, valued at $1.9 million, of the outstanding
common stock of SCEI. In certain circumstances, Sheridan may be entitled to
acquire the common stock of SCEI held by CPN. Sheridan contributed $3.0 million
in cash and $4.6 million of seismic and oil and gas producing and non-producing
assets in California and received 80% of the outstanding common stock of SCEI.
For information about the SCEI Preferred Stock, see "Note 7--Redeemable
Preferred Stock."
Accounting for Derivative Instruments and Hedging Activities
In June 1998, the Financial Accounting Standards Board issued SFAS No.
133, "Accounting for Derivative Instruments and Hedging Activities," which
requires that companies recognize all derivatives as either assets or
liabilities in the balance sheet and measure those instruments at fair value.
SFAS No. 133 provides, if certain conditions are met, that a derivative may be
specifically designated as (1) a hedge of the exposure to changes in the fair
value of a recognized asset or liability or an unrecognized firm commitment
(fair value hedge) or (2) a hedge of the exposure to variable cash flows of a
forecasted transaction (cash flow hedge). Under SFAS No. 133, the accounting for
changes in fair value of a derivative depends on its intended use and
designation. For a fair value hedge, the gain or loss is recognized in earnings
in the period of change together with the offsetting loss or gain on the hedged
item. For a cash flow hedge, the effective portion of the derivative's gain or
loss is initially reported as a component of other comprehensive income and
subsequently reclassified into earnings when the forecasted transaction affects
earnings. For all other items not designated as hedging instruments, the gain or
loss is recognized in earnings in the period of change. The Company is required
to adopt this Statement by the first quarter of 2000 and is currently assessing
its effect on the consolidated financial statements.
Reclassifications
Certain amounts from prior year have been reclassified to conform to the
current year presentation.
1. LONG-TERM DEBT AND NOTES PAYABLE
As of March 31, 1999 and December 31, 1998 the components of long-term
debt were as follows:
<TABLE>
<CAPTION>
March 31, December 31,
1999 1998
--------------------- ---------------------
(in thousands)
<S> <C> <C>
Secured bank debt under revolving credit facility............. $68,200 $37,500
Less current maturities....................................... (4,950) (5,550)
------- -------
Long-term debt................................................ $63,250 $31,950
======= =======
</TABLE>
Prior to 1997, Sheridan entered into a borrowing base facility
("Facility") with Bank One, Texas, N.A. ("Bank One"). The Bank One Facility, as
of March 31, 1999, had total borrowings outstanding of $35.7 million and a
borrowing base of $36.9 million and is scheduled to mature on June 30, 2001. As
of March 31, 1999, Sheridan had letters of credit outstanding of $829,000 under
the Bank One Facility, which further reduced Sheridan's availability under the
Facility. Sheridan may elect to borrow at Bank One's stated rate (7.75% at
March 31, 1999) or LIBOR (4.94% at March 31, 1999) plus 2.5%. The Bank One
Facility is secured by substantially all of Sheridan's oil and gas properties
and is repayable through monthly borrowing base reductions of $550,000. The
borrowing base is redetermined every six months or at Bank One's discretion.
After consideration of the current borrowing base and monthly facility reduction
rate, current maturities of $5.0 million were reflected in the consolidated
balance sheet at March 31, 1999.
7
<PAGE>
The Bank One Facility requires the maintenance of certain ratios
relating to working capital, as adjusted pursuant to the Bank One Facility,
tangible net worth, cash flow to debt service of 1.1 to 1.0 and annual
limitations on general and administrative expenses and non-oil and gas capital
expenditures. In addition, the payment of dividends on Sheridan common stock
and Sheridan Series A Preferred Stock ("Sheridan Preferred Stock") is restricted
except that cash dividends may be paid on the Sheridan Preferred Stock if
Sheridan has a cash flow to debt service of at least 1.2 to 1. Sheridan was in
default on certain of these financial covenant ratios at March 31, 1999 but has
received waivers from Bank One regarding these covenants.
In January 1999, in conjunction with the Amerada Transaction, Bank One
extended a borrowing base facility (the "SCEI Facility") to SCEI, with an
initial borrowing base of $43.0 million. Under the SCEI Facility, SCEI may
elect to borrow at Bank One's stated rate (7.75% at March 31, 1999) or LIBOR
(4.94% at March 31, 1999) plus 2.5%. The SCEI Facility is secured by
substantially all of SCEI's oil and gas properties and is repayable through
monthly borrowing base reductions of $450,000. The borrowing base is
redetermined every six months or at Bank One's discretion. At March 31, 1999,
SCEI had borrowings outstanding of $32.5 million and a borrowing base of $42.1
million, and the SCEI Facility is scheduled to mature on December 31, 2001. The
SCEI Facility is repayable only by SCEI and is not an obligation of Sheridan.
The SCEI Facility requires the maintenance of certain financial ratios
including ratios relating to working capital, tangible net worth, cash flow to
debt service of 1.1 to 1.0 and annual limitations on general and administrative
expense and non-oil and gas capital expenditures of SCEI. In addition, the
payment of dividends on SCEI common stock and preferred stock is restricted
except that cash dividends may be paid on the SCEI Series N-A Preferred Stock if
SCEI has a cash flow to debt service ratio of at least 1.2 to 1.0. SCEI was in
compliance with all financial covenant ratios at March 31, 1999.
Cash paid by the Company for interest during first quarter 1999 and
1998 totaled approximately $1.1 million and $635,000, respectively.
Costs incurred regarding the establishment of the Bank One Facility
and SCEI Facility are included in other assets and are being amortized over the
term of the facility. As of March 31, 1999 and December 31, 1998, the remaining
unamortized costs totaled $642,000 and $264,000, respectively.
3. COMMITMENTS AND CONTINGENCIES
Litigation
(a) In July 1992, certain unleased mineral interest owners commenced a
legal action in the 19th Judicial District for East Baton Rouge, Parish,
Louisiana Case No. 383844, Division "A," against TGX, as operator of three
wells. The petition alleged that the unleased owners were entitled to a refund
of revenues paid to TGX and other working interest owners, since first
production, which were attributable to the unleased owners' proportionate unit
interests and were utilized to offset the plaintiffs' proportionate share of
cost associated with drilling the wells. The Company argued that any claim
which arose prior to the date of the entry of the order confirming the
Reorganization Plan had been discharged through bankruptcy. The Company filed a
lawsuit in the U.S. Bankruptcy Court for the Western District of Louisiana (Case
No. 96AP-1047) claiming such a defense. However, the Bankruptcy Court rejected
that defense. Further, the Company argued that its payout notice to the
unleased owners complied with statutes requirements. The Louisiana District
Court, in August 1998, entered a judgment against the Company for $2.4 million,
plus interest and plaintiff's court cost. In December 1998, the Company settled
with approximately 85% of the plaintiffs for a cash payment of $1.3 million.
The Company was required by statute to issue a letter of credit in the amount of
$476,000 to pursue its appeal for the remaining unsettled judgment. In April
1999, the remaining claimants settled this matter for $230,000. Upon
settlement, the letter of credit was canceled.
(b) In July 1995, certain royalty owners in the same wells commenced a
separate legal action alleging that Sheridan's predecessor, TGX, and other
working interest owners improperly profited under the terms of a Gas Gathering
and Transportation Agreement. In 1996, the court entered an order granting a
motion on behalf of TGX for
8
<PAGE>
a partial summary judgment, holding that all of the royalty owner's claims
preceding the filing of the suit by more than three years were time-barred. The
Company has asked the court to dismiss the remaining claims asserted by the
royalty owners. If not dismissed, the Company will vigorously defend against
this lawsuit.
(c) In May 1982, Samson Resources Company ("Samson") brought suit
against Sheridan's predecessor, TGX, in the United States District Court for the
Western District of Oklahoma alleging that the Company owed Samson for its
under-production on a well in Oklahoma. Sheridan argued that the claim which
arose prior to the date of the entry of the order confirming the Reorganization
Plan had been discharged through bankruptcy. The Oklahoma District Court, in
August 1998, entered a judgment against the Company for $205,000, plus interest
and plaintiff court costs. In February 1999, the Company agreed to settle this
lawsuit by paying $258,000 and receiving a full release regarding this matter.
As a result of management's assessment of the likelihood of losses
from the various litigation matters against the Company, based on advice of
legal counsel and review of the facts, circumstances, and developments
surrounding these litigation matters, the Company recorded provisions in late
1998 and 1997 of $2.4 million and $1.0 million, respectively, representing its
estimate of losses and/or related costs and expenses associated with such
litigation matters, including actual litigation settlements completed through
April 30, 1999.
From time to time, in the normal course of business, the Company is a
party to other litigation matters, the outcome of which, to the extent not
otherwise provided for, should not, in the opinion of management, have a
material adverse effect on the Company's financial position, cash flows or
results of operations.
4. ACCOUNTS RECEIVABLE
As of March 31, 1999 and December 31, 1998, the primary components of
accounts receivable were:
<TABLE>
<CAPTION>
March 31, December 31,
1999 1998
--------- ------------
(in thousands)
<S> <C> <C>
Accrued oil and gas sales................................... $4,368 $3,201
Joint interest billing and other............................ 1,088 1,016
Allowance for doubtful accounts............................. (120) (120)
------ ------
$5,336 $4,097
====== ======
</TABLE>
5. ACCOUNTS PAYABLE AND ACCRUED LIABILITIES
As of March 31, 1999 and December 31, 1998, the primary components of
accounts payable and accrued liabilities were:
<TABLE>
<CAPTION>
March 31, December 31,
1999 1998
--------- ------------
(in thousands)
<S> <C> <C>
Accounts payable.......................................... $2,491 $ 2,934
Undistributed net oil and natural gas revenues............ 2,227 2,782
Accrued operating and tax expenses........................ 1,363 1,172
Acquisition cost accruals................................. -- 1,881
Accrued preferred stock dividends payable................. 762 85
Provision for litigation expenses......................... 390 648
Interest payable.......................................... 82 218
Accrued professional fees................................. 107 142
Miscellaneous accruals.................................... 358 456
------ -------
$7,780 $10,318
====== =======
</TABLE>
9
<PAGE>
6. OTHER LONG-TERM LIABILITIES
As of March 31, 1999, the Company had accrued additional California
Property acquisition costs of $7.5 million. These accrued costs will be
financed through long-term debt borrowings.
7. REDEEMABLE PREFERRED STOCK
Series A Preferred Stock
In December 1997, Sheridan sold 1.0 million shares of Series A Preferred
Stock ("Sheridan Preferred Stock") to Enron Capital & Trade Resources, Inc. in
connection with the acquisition of certain oil and gas properties. The Sheridan
Preferred Stock provides for cash dividends in an amount equal to $0.60 per
share payable semi-annually (a 12% annual rate) or, at the discretion of the
Company, dividends may be paid by issuing additional fully paid shares of
Sheridan Preferred Stock in an amount equal to .0675 additional shares (a 13.5%
annual rate) for each share of Sheridan Preferred Stock then issued and
outstanding. The Sheridan Preferred Stock also provides for a liquidation
preference of $10 per share. The Sheridan Preferred Stock is redeemable from
time to time at the discretion of the Company at certain established redemption
prices, and must be redeemed on December 15, 2002, or upon the occurrence of
certain defined situations, including a change of control or a default as
defined in the Sheridan Preferred Stock designation.
Series N-A Preferred Stock
On January 25, 1999, SCEI issued 1.3 million shares of SCEI Preferred Stock
to CPN in connection with the Amerada Transaction. The SCEI Preferred Stock
provides for cash dividends in an amount equal to $0.70 per share payable semi-
annually or, at the discretion of SCEI, dividends may be paid by issuing
additional fully paid and non-assessable shares of SCEI Preferred Stock in an
amount equal to .07 additional shares (a 14% annual rate) for each share of SCEI
Preferred Stock then issued and outstanding. The SCEI Preferred Stock also
provides for a liquidation preference of $10 per share. The SCEI Preferred
Stock is redeemable from time to time at the discretion of SCEI, and must be
redeemed on January 25, 2006, or upon the occurrence of certain defined
situations, including a change of control or a default as defined in the SCEI
Preferred Stock designation.
10
<PAGE>
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OR PLAN OF OPERATION
The following discussion is intended to assist in an understanding of the
Company's financial position and results of operations and those presently known
events, trends or uncertainties that are reasonably likely to have a material
impact on the Company's future results of operations and conditions or that are
reasonably likely to cause the historical financial statements not to be
necessarily indicative of future operating results or condition. It should be
read in conjunction with the unaudited consolidated financial statements and
related notes appearing elsewhere herein and the Company's Annual Report on
Form 10-KSB for the year ended December 31, 1998.
Stockholders are cautioned that all forward-looking statements involve
risks and uncertainties, including without limitation, statements about the
costs of exploring and developing new oil and natural gas reserves, the price
for which such reserves can be sold, the Company's attempts to reduce overhead
and eliminate non-core assets, environmental concerns affecting the drilling of
oil and natural gas wells, the effect of the Merger, pending litigation, the
attempts to acquire producing and non-producing oil and gas properties, the
ability of the Company to make projected capital expenditures and secure
required capital and to achieve projected quarterly results and compliance with
Year 2000 issues, and general market conditions, competition and pricing.
Although the Company believes that the assumptions underlying the forward-
looking statements contained herein are reasonable, any of the assumptions could
be inaccurate, and there can therefore be no assurance that the forward-looking
statements included in this Form 10-QSB will prove accurate. Because of the
significant uncertainties inherent in the forward-looking statements contained
in this Form 10-QSB, the inclusion of such information should not be regarded as
a representation by the Company or any other person that the objectives and
plans of the Company will be achieved.
All statements, other than statements of historical facts, included or
incorporated by reference in this document that address activities, events or
developments that the Company expects or anticipates will or may incur in the
future, including such things as future capital expenditures and acquisitions,
business strategy and measures to implement such strategy, competitive
strengths, goals, expansion and growth of the Company's business and operations,
plans, references to future success as well as other statements which include
words such as "anticipate," "believe," "plan," "estimate," "expect," and
"intend," and other similar expressions constitute forward-looking statements.
Although the Company believes that the assumptions underlying the forward-
looking statements contained herein are reasonable, any of the assumptions could
be inaccurate, and therefore, there can be no assurance that the forward-looking
statements included in this document will prove to be accurate. In light of the
significant uncertainties inherent in the forward-looking statements included
herein, the inclusion of such information should not be regarded as a
representation by the Company or any other person that the objectives and plans
of the Company will be achieved.
RESULTS OF OPERATIONS
General
The following event affects the comparative results of operations and
financial condition for the three month periods ended March 31, 1999 and 1998
and may impact future operations and financial conditions.
1999 Acquisition. On January 25, 1999, but effective as of November 1,
1998, the Company, through SCEI, acquired approximately $58.0 million of
California Properties through the Amerada Transaction. In order to finance a
portion of the Amerada Transaction, SCEI received a borrowing base facility from
Bank One, Texas, N.A. in the amount of approximately $43.0 million. See Notes 2
and 6 of "Notes to Consolidated Financial Statements (Unaudited)." In addition,
the Company entered into an agreement with Calpine Corporation and CPN, each
unaffiliated parties, pursuant to which SCEI was created to acquire and own the
California Properties. CPN contributed $14.9 million in cash and received $13.0
million in seven-year redeemable non-voting SCEI Preferred Stock and 20% of the
outstanding common stock of SCEI valued at $1.9 million. In certain
circumstances, Sheridan may be entitled to acquire the common stock of SCEI held
by CPN. Sheridan contributed $3.0 million in cash and $4.6 million of seismic
and oil and gas producing and non-producing assets in California and received
80% of the outstanding common stock of SCEI. For information about the SCEI
Preferred Stock, see Note 7 of "Notes to Consolidated Financial
11
<PAGE>
Statements (Unaudited)." As a result of the Amerada Transaction being completed
in late January 1999, the statement of operations' results reflect only two
months of SCEI activity.
Oil and Gas Operations. The following table sets forth certain information
with respect to the oil and gas operations of the Company. Oil and condensate
and natural gas prices are shown on a per barrel and per Mcf basis,
respectively. Oil and condensate and natural gas volumes are shown in barrels
and million of cubic feet (MMcf), respectively. Total production is shown on an
equivalent Mcf basis ("Mcfe"), where one barrel of oil or condensate is equal to
six Mcf of natural gas.
<TABLE>
<CAPTION>
Three Months Ended March 31,
------------------------------------------------------
1999 1998 Change
----------------- ------------------ -------------
<S> <C> <C> <C>
Production:
Oil and condensate (Bbl)...................................... 44,432 55,608 (20)%
Natural gas (MMcf)............................................ 2,607 1,697 54 %
Total production (MMcfe)...................................... 2,873 2,020 42 %
Natural gas production as a percentage of total production.... 91% 83% 10 %
Oil, condensate and natural gas sales (in thousands, except
percentages):
Oil and condensate sales...................................... $ 441 $ 750 (41)%
Natural gas sales............................................. $ 5,792 $ 3,702 56 %
Total oil, condensate and natural gas sales................... $ 6,233 $ 4,452 40 %
Natural gas revenues as a percentage of oil and gas revenues.. 93% 83% 12 %
Average realized price:
Oil and condensate (per Bbl).................................. $ 9.94 $ 13.49 (26)%
Natural gas (per Mcf)......................................... $ 2.22 $ 2.18 2 %
Average cost (per Mcfe):
Operating expenses (excludes production taxes)................ $ 0.48 $ 0.59 (19)%
Depreciation, depletion and amortization...................... $ 0.86 $ 1.24 (31)%
General and administrative expenses........................... $ 0.37 $ 0.57 (35)%
</TABLE>
Three Months Ended March 31, 1999 ("1999") Compared to Three Months Ended March
31, 1998 ("1998")
Production
The natural gas sales volume increase for 1999 was primarily due to two
months of production from the California Properties.
Revenues
Revenues from the sale of oil, condensate and natural gas for 1999 were
approximately $6.2 million, an increase of $1.7 million, or 40%, over 1998
revenues of approximately $4.5 million. Of this increase, net sales volume
increases contributed $1.8 million of additional revenues which was partially
offset by an oil price decline. The average oil price per barrel for 1999 was
$9.94, a decrease of $3.55 per barrel or 26% as compared to the 1998 price of
$13.49. The oil price decline reduced current quarter revenues by approximately
$100,000. The average realized price per Mcf of natural gas for 1999, after
product price hedging, was $2.22, an increase of $0.04 per Mcf or 2% from $2.18
in 1998. Natural gas product price hedging during the first quarter of 1999
increased the average realized price per Mcf by $0.40 or natural gas revenues by
approximately $1.0 million.
12
<PAGE>
For 1998, the Company recorded gains on property sales of $178,000
primarily related to the sale of undeveloped acreage.
Costs and Expenses
Operating expenses. For 1999, total operating expenses, which includes
through wellhead production costs (lifting costs), severance taxes and workover
costs, increased approximately $84,000 or 6%, to approximately $1.6 million, as
compared to approximately $1.5 million for 1998. Production taxes for 1999 and
1998 totaled $187,000 and $291,000, respectively. Operating expense, excluding
production taxes, per Mcfe decreased 19%, from $0.59 in 1998 to $0.48 in 1999.
Workover costs, which are typically included as part of operating expenses, for
1999 and 1998 totaled $215,000 and $119,000, respectively, and primarily
represent discretionary remedial well activities that are implemented to enhance
or increase production from existing producing zones.
Treating and transportation expenses. Treating and transportation expense
in 1999 increased to $199,000, as compared to $192,000 in 1998. These costs
represent post-wellhead expenses incurred primarily to treat the Company's
Comite Field gas to comply with pipeline specifications or to transport the gas
to market.
Depletion, depreciation and amortization. Depletion, depreciation, and
amortization ("DD&A") expense for 1999 and 1998 was approximately $2.5 million.
DD&A per Mcfe for 1999 was $0.86, as compared to $1.24 for 1998. The decrease
in the per Mcfe rate reflects the lower cost basis as a result of the impairment
provision of $3.2 million taken in the fourth quarter of 1998 and the lower per
Mcfe DD&A rate of the California Properties. Also included in 1998 DD&A is a
provision for impairment loss on oil and gas properties of $300,000. This
impairment provision was due to mechanical problems on a well in Louisiana. The
cost anticipated to be incurred to repair the well exceeded anticipated future
recoverable reserves fair value, thus, the Company expensed the remaining
unamortized cost. Salvage value was estimated to approximate abandonment cost.
General and administrative expenses. General and administrative expense
remained the same for 1999 and 1998 at approximately $1.1 million while on a
units-of-production basis such costs declined significantly. For 1999, general
and administrative expenses per Mcfe were $0.37 as compared to $0.57 for 1998.
Interest expenses. Interest expense for 1999 increased to $1.2 million
from $674,000 in 1998, primarily due to an increase in long-term debt resulting
from the 1999 California Properties acquisition. Interest expense is
anticipated to increase as a result of the completion and funding of the Amerada
Transaction costs in May 1999.
Preferred Dividends
The 1999 preferred dividend expense increase is primarily the result of
issuance of the SCEI Preferred Stock. The dividend expense is based on the
anticipated payment-in-kind of the Sheridan Preferred Stock and SCEI Preferred
Stock through the issuance of additional fully paid and non-assessable shares.
FINANCIAL CONDITION
At March 31, 1999, the Company had a working capital deficit of
approximately $6.5 million which includes current maturities of long term debt
of $5.0 million. The increase in working capital deficit from December 31, 1998
of approximately $1.7 million is due primarily to Sheridan's investment of $3.0
million in SCEI in conjunction with the California Properties acquisition.
As of March 31, 1999, the Bank One Facility had total borrowings
outstanding of $35.7 million and a borrowing base of $36.9 million and is
scheduled to mature on June 30, 2001. In addition, Sheridan had letters of
credit outstanding of $829,000, which further reduced Sheridan's availability
under the Bank One Facility. The Bank One Facility is secured by substantially
all of Sheridan's oil and gas properties and is repayable through monthly
borrowing base reductions of $550,000. The borrowing base is redetermined every
six months or at Bank One's discretion. After consideration of the current
borrowing base and monthly facility reduction rate, current maturities of $5.0
million were
13
<PAGE>
reflected in the consolidated balance sheet at March 31, 1999. The Company
anticipates that the Bank One Facility borrowing base will be increased to
approximately $38.0 million, effective May 1, 1999, upon completion of the
scheduled redetermination.
The Bank One Facility requires the maintenance of certain ratios relating
to working capital, as adjusted pursuant to the Facility, tangible net worth,
cash flow to debt service of at least 1.1 to 1.0 and annual limitations on
general and administrative expenses and non-oil and gas capital expenditures.
In addition, the payment of dividends on Sheridan Common Stock and Sheridan
Preferred Stock is restricted except that cash dividends may be paid on the
Sheridan Preferred Stock if the Company has a cash flow to debt service of at
least 1.2 to 1. Sheridan was in default on certain of these financial covenant
ratios at March 31, 1999 but received waivers from Bank One regarding these
covenants.
At March 31, 1999, the SCEI Facility had borrowings outstanding of $32.5
million and a borrowing base of $42.1 million and a maturity of December 31,
2001. The SCEI Facility is secured by substantially all of SCEI's oil and gas
properties and is repayable through monthly borrowing base reductions of
$450,000. The borrowing base is redetermined every six months or at Bank One's
discretion with the next scheduled redetermination for June, 1999. The SCEI
Facility is repayable only by SCEI and is not an obligation of Sheridan.
The SCEI Facility requires the maintenance of certain financial ratios
including ratios relating to working capital, tangible net worth, cash flow to
debt service of at least 1.1 to 1.0 and annual limitations on general and
administrative expense and non-oil and gas capital expenditures of SCEI. In
addition, the payment of dividends on SCEI common stock and preferred stock is
restricted except that cash dividends may be paid on the SCEI Preferred Stock if
SCEI has a cash flow to debt service ratio of at least 1.2 to 1.0. SCEI was in
compliance with all financial covenant ratios at March 31, 1999.
There are certain dividend and redemption obligations related to the
Sheridan Preferred Stock and SCEI Preferred Stock. For financial reporting
purposes, the preferred stocks have both debt and equity characteristics and,
accordingly, are not classified as a component of stockholders' equity. At
March 31, 1999, the Sheridan and SCEI Preferred Stock redemption values were
$10.7 million and $13.0 million, respectively. There are no redemption
obligations on the Sheridan and SCEI Preferred Stock until December 15, 2002 and
January 15, 2006, respectively. At the respective redemption dates, the
Sheridan or SCEI Preferred Stock then outstanding must be redeemed.
LIQUIDITY AND CAPITAL RESOURCES
For 1999, cash provided by operating activities was approximately $3.8
million. Excluding working capital changes, cash provided by direct operating
activities was approximately $1.8 million.
As required by the Bank One credit agreements and the ECT Agreement, the
Company entered into swap agreements to reduce its exposure to price
fluctuations on a portion of its natural gas and oil sales to achieve a more
predictable cash flow. As of March 31, 1999, the Company had hedged
approximately 6.6 Bcf and 4.6 Bcf of 1999 and 2000 natural gas production, at a
weighted average sales price per Mcf of approximately $2.29 and $2.35,
respectively. In April 1999, the Company hedged 25,000 barrels of 1999 oil
production at a weighted average price of $17.00 per barrel. Based on projected
production, the Company has hedged approximately 25% of 1999 oil production
volume and 79% and 46% of 1999 and 2000, respectively, of gas production volume.
The Bank One Facility had a borrowing base of $36.9 million with
approximately $35.7 million of borrowings outstanding at March 31, 1999. The
Company also had letter of credit commitments totaling $829,000 outstanding
under the Bank One Facility, resulting in a quarter end Bank One Facility
availability of $371,000. The borrowing base is reduced monthly by $550,000,
and all amounts are due June 30, 2001. The Company anticipates that the Bank
One Facility borrowing base will be increased to approximately $38.0 million
effective May 1, 1999. Considering the Company's expected operating results and
anticipated increase in availability under the credit facility, capital
resources are deemed sufficient for current operating activities. The Company,
however, will be required to seek additional financing sources to effect any
sizeable acquisition or expand its capital drilling program.
14
<PAGE>
The SCEI Facility had a borrowing base of approximately $42.1 million with
approximately $32.5 million of borrowings outstanding at March 31, 1999. The
borrowing base is reduced monthly by $450,000.
At March 31, 1999 there was 1.0 and 1.3 million shares of Sheridan and SCEI
Preferred Stock, respectively, outstanding with a redemption value of $10 per
share. At the option of the Company, dividends on the Sheridan Preferred Stock
may be paid-in-kind, semi-annually, in an amount equal to 0.0675 shares for each
share then issued and outstanding (a 13.5% annual rate). The SCEI Preferred
Stock provides that, at the discretion of SCEI, dividends may be paid by issuing
additional fully paid and non-assessable shares of SCEI Preferred Stock in an
amount equal to .07 additional shares (a 14% annual rate) for each share then
issued and outstanding. The Company anticipates that all Sheridan and SCEI
preferred dividends for 1999 will be paid-in-kind.
The Company anticipates that continued development drilling and workovers
will maintain or increase current production volumes. The current projected
cash flows from existing properties and borrowing available under the Company's
lines of credit are considered adequate to fund current operating activities.
In addition, the Company is continually evaluating opportunities for acquisition
of producing properties and currently intends to pursue future production volume
and reserve base growth through acquisitions. Any sizeable acquisitions will
have to be financed through a combination of bank borrowings, mezzanine
financing, production payments and additional equity issuance. Effective
implementation of the Company's development and acquisition plans is expected to
meet the Company's long-term operation and liquidity requirements.
Inflation and Changes in Prices
The Company's revenues have been and will continue to be affected by
changes in oil and natural gas prices, which have been unstable. Although the
futures markets provide some indication of crude oil and natural gas prices for
the subsequent 12 to 18 months, prices in the future markets are subject to
substantial changes in relatively short periods of time. For management
purposes, the Company assumes that oil and natural gas prices will continue to
fluctuate but ultimately trend upward and that operating costs and expenses will
escalate at or above the current inflation per annum rate. The principal
effects of inflation on the Company relate to the costs required to drill,
complete and operate oil and natural gas properties. Drilling costs, which
until 1998 had been on a general upward trend, have recently been decreasing due
to an industry-wide decline in drilling activity. This decrease in drilling
costs is not anticipated to significantly impact the Company's current
operations due to its anticipated reduction in 1999 drilling activity.
Accounting for Derivative Instruments and Hedging Activities
In June 1998, the Financial Accounting Standards Board issued SFAS No. 133,
"Accounting for Derivative Instruments and Hedging Activities," which requires
that companies recognize all derivatives as either assets or liabilities in the
balance sheet and measure those instruments at fair value. SFAS No. 133
provides, if certain conditions are met, that a derivative may be specifically
designated as (1) a hedge of the exposure to changes in the fair value of a
recognized asset or liability or an unrecognized firm commitment (fair value
hedge) or (2) a hedge of the exposure to variable cash flows of a forecasted
transaction (cash flow hedge). Under SFAS No. 133, the accounting for changes
in fair value of a derivative depends on its intended use and designation. For
a fair value hedge, the gain or loss is recognized in earnings in the period of
change together with the offsetting loss or gain on the hedged item. For a cash
flow hedge, the effective portion of the derivative's gain or loss is initially
reported as a component of other comprehensive income and subsequently
reclassified into earnings when the forecasted transaction affects earnings.
For all other items not designated as hedging instruments, the gain or loss is
recognized in earnings in the period of change. The Company is required to
adopt this Statement by the first quarter of 2000 and is currently assessing its
effect on the consolidated financial statements.
15
<PAGE>
Year 2000
Historically, certain computer systems, as well as certain hardware
containing embedded chip technology, such as micro controllers and
microprocessors, were designed to utilize a two-digit date field and
consequently, they may not be able to properly recognize dates in the Year 2000.
This could result in significant system failures. The Company relies on its
computer-based management information systems, as well as embedded technology to
operate instruments and equipment in conducting its normal business activities.
Certain of these computer-based programs and embedded technology may not have
been designed to function properly with respect to the application of dating
systems relating to the Year 2000.
In response, the Company has developed a "Year 2000 Plan" and has
established an internal group to identify and assess potential areas of risk and
to make any required modifications to its computer systems and equipment used in
oil and gas exploration, production, gathering and gas processing activities.
The Year 2000 Plan is comprised of various phases, including assessment,
remediation, testing and contingency plan development. After the assessment
phase has been completed and evaluated, the remediation, testing and
certification phases will be implemented to ensure that the material facilities
and business activities will continue to operate safely and reliably, and
without interruption after 1999. Based upon the results of these activities
contingency plans will be developed to the extent deemed necessary.
The Company's inventory of computer hardware and primary business software
is substantially Year 2000 compliant. The Company is currently assessing its
engineering software systems for compliance. It is anticipated that these
software systems will be Year 2000 compliant. If any programming modifications
are required, such should be completed and tested by the second quarter of 1999
with implementation and conversion scheduled for the third quarter of 1999.
The Company has monitor and control equipment with embedded chip technology
which are utilized in production and gas processing operations. These various
systems are currently being reviewed in conjunction with the overall Year 2000
Plan and to date no major compliance issues have been discovered. Other systems
with embedded chip technology are relatively new and should be Year 2000
compliant according to the manufacturers.
The Company has also undertaken to monitor the compliance efforts of
suppliers, contractors and other third parties with whom it does business and
whose computer-based systems and/or embedded technology equipment interface with
those of the Company to ensure that operations will not be adversely affected by
the Year 2000 compliance problems of others. There can be no assurance that
there will not be an adverse effect on the Company if vendors, suppliers,
customers, state and federal governmental authorities and other third parties do
not convert their respective systems in a timely manner and in a way that is
compatible with the Company's information systems and embedded technology
equipment. However, management believes that ongoing communication with and
assessment of the compliance efforts and status of these third parties will
minimize these risks.
The Company believes that it can provide the resources necessary to ensure
Year 2000 compliance and expects to complete its Year 2000 Plan within a time
frame that will enable its computer-based programs and embedded
16
<PAGE>
technology equipment to function without significant disruption in the Year
2000. Through 1998, the Company has incurred less than $10,000 in third party
costs for software and equipment costs related to Year 2000 compliance matters
and estimates that the total future third party, software and equipment costs
related to Year 2000 compliance activities, based upon information developed to
date, will be less than $50,000 and will be expensed as incurred. These costs
have been and will continue to be funded through operating cash flows and are
not deemed to be material to the operations of the Company. The cost of the
remediation activities and the completion dates are based on management's best
estimates and may be updated as additional information becomes available. The
costs incurred to date and those estimated to be incurred in the future with
respect to Year 2000 issues do not include internal costs. The Company does not
separately track the internal costs incurred with respect to implementation of
the Year 2000 Plan. Such costs are principally internal payroll costs, including
senior management, and field operations personnel, involved in the compliance
program and related travel and other out-of-pocket expenses.
Although the Company anticipates minimal business disruption will occur as
a result of Year 2000 issues, in the event the computer-based programs and
embedded technology equipment of the Company, or that owned and operated by
third parties, should fail to function properly, possible consequences include
but are not limited to, loss of communications links, inability to produce and
process natural gas, loss of electric power, and inability to automatically
process commercial transactions, or engage in similar normal automated or
computerized business activities.
To date, the Company has not finalized its contingency plans for possible
Year 2000 issues. As noted above, in the event the Company, after completion of
the assessment, remediation and testing phases of the Year 2000 Plan and review
of the results of monitoring the compliance efforts and status of third parties,
determines that contingency plans are necessary, the Company will finalize such
contingency plans based on its assessment of outside risks. The Company
anticipates that final contingency plans, as necessary, will be in place by the
fourth quarter of 1999.
The discussion of the Company's efforts, and management's expectations,
relating to Year 2000 compliance contains forward-looking statements.
Presently, the Company does not anticipate that the Year 2000 issues will have a
material adverse effect on the operations or financial performance of the
Company. However, there can be no assurance that the Year 2000 will not
adversely affect the Company and its business.
17
<PAGE>
Part II. Other Information
ITEM 1. LEGAL PROCEEDINGS
Except as set forth in Note 3 of the "Notes to Consolidated Financial
Statements (Unaudited)" included in Part I hereof, since the filing date of the
Annual Report on Form 10-KSB, there have been no substantial developments
related to the legal proceedings described therein.
ITEM 2. ITEM DEFAULTS UPON SENIOR SECURITIES
None.
ITEM 3. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
None.
ITEM 4. EXHIBITS AND REPORTS ON FORM 8-K
a. Exhibits:
Exhibit 27 - Financial Data Schedule
b. Reports on Form 8-K:
Form 8-K/A filed on April 9, 1999 regarding the Agreement for Purchase
and Sale between Amerada Hess Corporation and the Company.
18
<PAGE>
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the
Registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
SHERIDAN ENERGY, INC.
(Registrant)
Date: May 14, 1999 By: /s/ Michael A. Gerlich
-------------------------
Michael A. Gerlich
Vice President and Chief Financial Officer
19
<TABLE> <S> <C>
<PAGE>
<ARTICLE> 5
<MULTIPLIER> 1,000
<S> <C>
<PERIOD-TYPE> 3-MOS
<FISCAL-YEAR-END> DEC-31-1999
<PERIOD-START> JAN-01-1999
<PERIOD-END> MAR-31-1999
<CASH> 674
<SECURITIES> 0
<RECEIVABLES> 5,456
<ALLOWANCES> 120
<INVENTORY> 0
<CURRENT-ASSETS> 6,244
<PP&E> 132,771
<DEPRECIATION> 22,871
<TOTAL-ASSETS> 118,377
<CURRENT-LIABILITIES> 12,730
<BONDS> 63,250
23,675
0
<COMMON> 67
<OTHER-SE> 9,226
<TOTAL-LIABILITY-AND-EQUITY> 118,377
<SALES> 6,233
<TOTAL-REVENUES> 6,284
<CGS> 1,770
<TOTAL-COSTS> 1,770
<OTHER-EXPENSES> 3,846
<LOSS-PROVISION> 0
<INTEREST-EXPENSE> 1,197
<INCOME-PRETAX> (377)
<INCOME-TAX> 0
<INCOME-CONTINUING> (377)
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> (1,091)
<EPS-PRIMARY> (0.16)
<EPS-DILUTED> (0.16)
</TABLE>
