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Executives

E. Joseph Grady - Chief Financial Officer, Senior Vice President, Chief Financial Officer of Crimson Exploration Operating Inc and Senior Vice President of Crimson Exploration Operating Inc

Allan D. Keel - Chief Executive Officer, President and Director

Carl Isaac - Senior Vice President of Operations

Analysts

Will Green - Stephens Inc., Research Division

Jeffrey Hayden

Michael A. Glick - Johnson Rice & Company, L.L.C., Research Division

Eric B. Anderson - Hartford Financial Management, Inc.

Crimson Exploration (CXPO) Q2 2012 Earnings Call August 9, 2012 9:30 AM ET

Operator

Good day, everyone. And welcome to the Crimson Exploration Second Quarter 2012 Financial Results Conference Call. As a reminder, today's conference is being recorded. At this time, I would like to turn the conference over to the Senior Vice President and Chief Financial Officer, Joe Grady; and the President and Chief Executive Officer, Allan Keel. Please go ahead.

E. Joseph Grady

Thank you. And welcome, everybody, this morning to the Crimson Exploration Second Quarter Conference Call. With us today, I have myself which you've already heard, Joe Grady, Chief Financial Officer; Allan Keel, our CEO. We also have Tommy Atkins, our Senior VP of Exploration; Steve Mengle, our Senior VP of Engineering; and Carl Isaac, our Senior VP of Operations. The agenda this morning, I'll out start out giving you a review of the financial results for the quarter and then turn it over to Allan to give you an overview of our operations and some updated information subsequent to the previous release you saw in our drilling. And then we we'll just open it up for a little question-and-answer period.

But before we get started, I want to remind everyone that the earnings press release and the discussion this morning may contain forward-looking statements as defined by the Securities and Exchange Commission that include comments and assumptions concerning Crimson's strategic plans, expectations and objectives for future operations. Such statements are based on assumptions we believe to be appropriate under circumstances. However, those statements are just estimates or not guarantees of future performance or results and, therefore, should be considered in that context. Additional details regarding this disclosure may be found on the earnings press release itself which is located on our website at www.crimsonexploration.com under the Investor Relations tab.

With that, I'll jump into the financial results. We had a net income for the quarter of $3.9 million compared to a net loss of $2.8 million in the prior year quarter. Special cash item impacting the quarter was a $4 million credit for a portion of our 2007 to 2011 severance taxes and then we filed for and received from the State of Texas for certain marketing cost reductions that we learned through a consultant that could be taken into account and pay them severance taxes for those periods as well as going forward. Excluding that credit and the impact of noncash, unrealized, mark-to-market hedging gains or losses and noncash impairment expense in the prior quarters, our net loss for the current quarter was about $100,000 compared to a net loss of $1.6 million for the 2011 quarter. And that also compares favorably to a consensus estimate -- estimated net loss of $900,000.

On cash flow, adjusted EBITDAX, as we defined it in our release, was $25.5 million for the quarter, above both consensus estimate of $20.4 million and the prior year quarter of $19.4 million. Free cash flow, which is our adjusted EBITDAX less interest expense, was $19.3 million or $0.43 per basic share, which was also above consensus estimates at $0.31 per basic share and $0.29 per share for the prior year quarter. Both measures for 2012 were positively impacted by the severance tax refund I just mentioned.

On a production side, production for the quarter averaged 40.4 million a day of equivalents, which is at the upper end of an analyst estimates of 39.3 million, but below the 48.7 million for the prior year quarter which as we've discussed before is a result of the decline -- period-over-period is result of -- that decline was the result of our re-focus on oil and liquids-rich drilling projects as opposed to the historical high rate and gas wells that we've drilled in the past.

Crude oil production did double quarter-over-quarter from 1,061 barrels of oil per day in the prior year quarter to 2,167 barrels of oil per day in the current quarter. Total crude and liquids production for the quarter increased to 46% of total production compared to 26% for the prior year quarter. So as you can see, we made significant progress in last year in transitioning from a natural gas way of production base to a more balanced production profile.

A guidance for the third quarter as you saw is a range of 37 million to 40 million a day with an estimate of about half of that coming from gas and 35% to 40% of that coming from crude oil and 10% to 15% coming from natural gas liquids. We anticipate production in third quarter to remain in line with the second quarter, again as production from new completions we've recently announced is expected to ramp up during the middle and latter parts of that -- of this coming third quarter.

On prices. Fuel prices for all commodities showed a decline in the quarter versus the prior year with a slight decrease in oil prices, a 26% decline in NGL prices and a 50% decline in natural gas prices. Our hedges mitigated those declines somewhat. However, our increase in oil and liquids production as a percentage of total production resulted in our weighted average equivalent price, after taking into account our hedge settlements, increasing to $8.35 per Mcfe in the current quarter compared to $6.69 per Mcfe in the prior year quarter.

For the third quarter of 2012, you noted we had approximately 1.5 Bcf of gas production hedged or 87% of our estimated third quarter production at an average floor of $4.15 per MMBtu, and approximately 45% of estimated third quarter oil production, including the heaviest portion of the NGL stream, hedged at an average floor of $97.57 per WTI equivalent barrel. We continue to utilize derivatives to mitigate our commodity price risk, and consistent with that, in June and July, we added additional costless collars for 2013 for 150,000 MMBtu per month of natural gas with an average floor of $3.13 per MMBtu and average ceiling of $4.13 per MMBtu.

Now on the cost side, our direct lease operating costs in the quarter were $3.6 million or $0.98 per Mcfe, compared to $4.7 million or $1.05 per Mcfe in the prior year quarters. That was on the low end of our guidance for the quarter but consistent with the consensus estimates as well. Cash G&A, which is inclusive of stock compensation expense, was $3.9 million for the quarter, similar to the prior year quarter and within our guidance. As you saw our guidance for the third quarter of this year is between $4 million and $4.5 million.

On CapEx, we spent $27.6 million in second quarter compared to $20.8 million in the prior year quarter. Of that total, $23 million of it was spent in the Woodbine and Madison and Grimes counties, Texas. And $4 million was spent in the Eagle Ford Shale in South Texas. Until natural gas prices recover, we'll remain focused on the drilling our multiple oil and liquids opportunities in these areas due to the high margins and repeatability. We invested approximately $60 million on our capital program through the second quarter which is approximately 80% of our currently forecasted capital program for the year. As we've stated in the past, we'll endeavor to limit our total CapEx for the year to estimated free cash flow generation so our program for the remainder of the year will be determined as we go forward with the goal of maintaining our financial flexibility. As of June 30, 2012, availability under our senior credit facility was approximately $42 million. That concludes the financial review and I will now turn it over to Allan for an operations update.

Allan D. Keel

Thanks, Joe. And again, good morning, everybody, and thanks for joining us today to review our second quarter financial and operating results. We had a pretty active quarter as we focus our capital investment program in our higher margin and -- higher marginal and liquids-rich projects. As Joe mentioned, we've increased our oil and liquids-rich production to approximately 50% of total production which is basically we've doubled our liquids production in about a year's time on our -- focusing on our liquids-rich and oil opportunities in the Eagle Ford and the Woodbine areas. Our crude oil production alone increased 1,100 barrels a day since the prior year quarter which is approximately 140% -- 104% increase, and we are -- sustained our crude oil and NGL production at approximately 3,000 barrels per day.

As -- in terms of operations, we are continuing to invest in those 2 areas, our Eagle Ford and our Woodbine areas. There are areas where we have gas assets in South Texas and in Southeast Texas. We were just really monitoring our operating expenses there, trying to knock those down as low as we can as we focus our activity levels in the liquids-rich plays.

In terms of updates and in terms of drilling results, we've actually had -- we had some recent releases talking about some of that but I''l give you an additional update, specifically in Liberty County, we previously announced that the -- our Catherine Henderson A-6 well, which is one of our biggest producers in that area, were shut in January due to mechanical problems. Again, this week, we completed a successfully sidetrack in the Upper Cook Mountain section in that area and just commenced flowback operations and we're very pleased so far with the initial flowback data, and we'll provide some additional information in detail once we get the well cleaned up and flowing. But we are pleased at this stage of what the results have been. Down to South Texas and the Eagle Ford Shale, specifically in the Zavala County where we have about 6,500 net acres, we recently finalized the completion of the KM Ranch #2H well. That well is right acute with 16 stages of stimulation. We drilled that well earlier and we had postponed completing that well till we -- as we watch other operators in the neighborhood to see how their wells were completed and what kind of success they had. And as a result of the success of offset operators, we decided to go ahead and complete that well. And so we want to optimize our completion strategy based on what others might have made and done in the area. But really, it really actually it wasn't much of a change of what we have been before down there. So flowback operations on that well will begin shortly as we'll have -- they will results here in the next few weeks at which time I will make an announcement on those results. We don't have any other rig commitments in that Zavala or Dimmit County area for the rest of 2012 but subject to results of this well and this completion, that could potentially change.

We -- as we -- as you know, we've also announced some other -- recent successes in the Woodbine formation over the Madison and Grimes County, Texas where we have approximately 18,500 net acres. We've talked before about what we believe is a potential over there. The number of locations that we have both in the Woodbine, the Eagle Ford, Buda, Georgetown, there's just a lot of formations, a lot of opportunities there for us. We're currently drilling, the Covington-Upchurch well, over in Grimes County with the completion operations on that well expected to begin in late August with the initial production expected in early September. After completion of the drilling, the -- of the Covington well, we will release our rig to a third-party, which was -- that rig was under previous commitment as a subcontract, but we expect to get that rig back later in the fourth quarter at which time, we will renew our drilling in that -- in the Woodbine area in late 2012, early 2013. During that time frame, where we don't have the rig, we're going to use that time to continue to refine our view and our expectations of each of our areas in Madison and Grimes County for putting together our capital investment program for 2012 and 2013. We did frontload our capital program for 2012 so most of the capital, as you can see in our financial results for the year, our budget of $74 million, a lot of that capital was spent on the front-end of the year. So our CapEx for the second half of the year for the -- especially for the fourth quarter will be reduced as we try to stay within the cash flow which was our original stated goal at the beginning of the year.

Again, Joe -- as Joe mentioned, the second quarter was another active quarter for us as we continue to -- our transition toward more oil and liquids-rich balance from a production and reserve standpoint and to do so in a financially prudent fashion. Near-term growth catalyst again will be our second well in Grimes County, the Covington-Upchurch well, which we think will de-risk the majority of our 7,600 net acres in that area. And then completion of the KM Ranch #2 well in Zavala County, which is targeted in the Eagle Ford Shale, so those are the primary catalyst in the near term and we will look forward to the next couple of months and update the market on the results of these wells as they come in.

So again, thanks for your time and that concludes our prepared remarks, and we'll now open it up for questions.

Question-and-Answer Session

Operator

[Operator Instructions] We'll hear first from Will Green with Stephens.

Will Green - Stephens Inc., Research Division

I wondered if we could start on the Woodbine and maybe just, now that you guys have few wells under your belt, talk about how the completion technique on all those wells has evolved? How much you're changing things up in that technique, and then are you finding anything you like or don't like? And how is that refinement process going?

Allan D. Keel

Well, I'll just speak a little bit then probably turn it over to Carl Isaac, our Senior VP of Operations, to talk specifically about our completion and how that process is being refined. But as we've said several times before, we believe that the longer laterals and the perfect plug completion technology is really the key out here in the 3 areas that we have Force the Iola-Grimes area and Chalktown, we're -- we've been attempting to de-risk each of those areas. Force -- the Force area, we feel it's completely de-risked . We feel that this Covington-Upchurch well, combined with our Yates well down in the Iola-Grimes area that, that area has been -- and will be de-risked after the completion of the Upchurch well. And then the Chalktown area, we had -- as we mentioned before in our big well, we intersected some -- what we think are some natural fractures in that well that may have been connected to other stratigraphic formations in there. We're still producing a very large amount of water from that well. We're 1,000 barrels a day. So from a mechanical standpoint, that was a little bit more difficult but we're very excited. And also, as a lot of people who have followed this play will know, that there was a recent announcement of a discovery just to the east of our big well and above the Eagle Ford and the Woodbine. So we feel like the area will continue to be de-risked. But in terms of our completions in the improvement or the evolution, I'll let Carl talk and speak to kind of how we're approaching that. Carl?

Carl Isaac

Thanks, Allan. I think the short answer to that question is that prior to even going out into Madison County or Grimes, we did a lot of homework on kind of the chronological or generational advancement and the completion practices in the area, specifically in the Woodbine, and kind of went to school on what others had done and adopted a lot of successful practices as Allan said from a perf-and-plug standpoint and really, what we've done to optimize things is we focused more on extending lateral links to 6,000 feet and targeting 20 to 26 stages depending on the well. In terms of perf strategies, sand volumes and other practices related to the frac, you'll see that what we've done is only slightly variant from the most successful practices we found in our studies. The one thing that I would say that we do a little differently is we have our midstream solutions figured out well in advance of production. And we plumb our wells as such that we can move the gas lift in a very smooth transition without having to pull the well and put it back together, and our operations and engineering team has done a very good job of seamlessly transitioning to keep our wells online and producing at full capacity. And what we've actually seen in the Force area is that by having the ability to move directly the gas lift when it's required is that for a short period of time, we actually have an incline on our production curve as opposed to a decline.

Will Green - Stephens Inc., Research Division

I appreciate all the color on that, guys. The other one I wanted to jump is maybe the Eagle Ford acreage over on Zavala. I know there's definitely been some guys talking about the Pearsall. You guys have any initial thoughts on the Pearsall in your acreage?

Allan D. Keel

We're just really -- well, we're just kind of monitoring and watching the operations down there, see if there's anything in our neighborhood. Really, our acreage, I think the -- one of the more interesting things in addition to the Eagle Ford is the Buda. There's a private operator down there that's had quite a bit of success and own some acreage that offsets us. And they've been very -- continues to be -- from reports I mean, since they're private, they don't have to report anything. But the rumors and reports that we've had, the results have been very encouraging. So we're watching that the pretty closely as well as the Pearsall. So we are monitoring that.

Operator

And the next question will come from Jeff Hayden with KLR Group.

Jeffrey Hayden

Just, Allan, I think I just missed it. When you talk about the Woodbine rig, when do you guys -- when did you say you get that one back?

Allan D. Keel

I think, Jeff, right now, it's going to go to another operator for a 2-well commitment and so we're kind of anticipating that we would get that subject to their timing and everything with their 2 wells, it could be very late in the fourth quarter.

Jeffrey Hayden

Okay. So I mean if we think about the activity that's scheduled right now for the remainder of the year. I mean, other than kind of getting the KM Ranch well completed, getting the Covington-Upchurch well completed, what else do you guys kind of have on tap right now?

Allan D. Keel

Well, that's pretty much the majority of our activity between now and the time that we get the rig back. We've got to complete the KM Ranch #2 well. I would say that subject to the results of that, we might -- I mean, it takes time to pull another rig into that area. We'd have to work on that. But really, between that and the completion of the Upchurch well, that's where our primary activity is going to be between now and then.

Jeffrey Hayden

Okay. And when you guys kind of look at your guidance for Q3, what kind of impact is that assuming for the Catherine Henderson?

E. Joseph Grady

It has very little impact on that, Jeff, primarily because we're halfway through the quarter right now and so we've not incorporated a whole lot in there for there.

Operator

And next in queue, we have Michael Glick with Johnson Rice.

Michael A. Glick - Johnson Rice & Company, L.L.C., Research Division

Just in the Force area, you guys have operated 3 wells and participated in another, just curious how those results have tracked with your type curve thus far?

Allan D. Keel

We're very pleased with the results we've seen. We think we're probably outperforming at this stage, our type curve. So we're very pleased with that. We feel like that entire area has been completely de-risked which I don't believe that's reflected in our share price but, nonetheless, we're very pleased with the results that we've seen so far.

Michael A. Glick - Johnson Rice & Company, L.L.C., Research Division

Are there any thoughts right now on spacing in that area?

Allan D. Keel

Well, we believe that the offset operators are testing that right now and I think there is a chance that they will try to downspace that -- or downspace, it's not really a fair description. Try to improve on the spacing and maybe downsize as low as 80-acre spacing so we'll see how that how that plays out.

Michael A. Glick - Johnson Rice & Company, L.L.C., Research Division

Okay. And how have well costs trended as you move through the program?

Allan D. Keel

Well, it's going down. I mean, definitely, we've seen improvement. This is a very difficult area to drill in. We're going through some depleted zones and some other issues associated with drilling in this area, but all in all, we have seen our well costs decline. And to get it -- to get the efficiencies that you really want to see, you need to be in the field continuously and have the rig and the crew working out there pretty much nonstop. So that's a challenge for us but we've done a very good job, I think, in terms of reducing our costs up there.

Michael A. Glick - Johnson Rice & Company, L.L.C., Research Division

Okay. And just in that Madison, Grimes-Iola area, I mean, it seems like there's been an explosion of an Eagle Ford-related activity recently. Any thoughts on the prospectivity of that across your acreage?

Allan D. Keel

What was -- say that again?

E. Joseph Grady

We'll Michael, what was your -- what's the question?

Michael A. Glick - Johnson Rice & Company, L.L.C., Research Division

Just there's been a lot of recent Eagle Ford activity in the area and I was just curious in terms of your thoughts on the prospectivity of the Eagle Ford across your area?

Allan D. Keel

Oh, yes, absolutely. We love it. I mean, we think there's a -- I mean, the formation is there. We've got in addition to what's been announced last week to the east of us, saying that was -- they had a discovery over there. Just to the west of us, there's been several Eagle Ford completions which have all been encouraging. Another offset operator just the south of us is supposedly in the process of completing an Eagle Ford well. So in addition to that, we have shows from all the old wells in the areas that we've looked at. So we think the Eagle Ford is very prospective and the economics associated with that are equally as good as the Woodbine. So we're very enthusiastic about that.

Operator

And next, we'll hear from Eric Anderson with Hartford Financial.

Eric B. Anderson - Hartford Financial Management, Inc.

Joe or Allan, following up on what you were just talking about in terms of offset activity, you have any recent well results from either Woodbine Acquisition Corp. or other operators nearby to your acreage and any of the 3 target areas you've got?

Allan D. Keel

Well, we've seen some results not really from I think Woodbine Acquisition Corp. I mean, they've announced a few of their results. We were in the -- we had a small working interest in that Pavelock well. And that well tested at an initial rate of 1,800 barrels a day. They've drilled a few more wells over there where we do not have a working interest. But they've had some success and they're also, I believe, from reports that we've heard that they're testing out the reduced spacing and then also joining into some of the other test docks in the other formations. Slightly west of there, there's been both Buda activity as well as Eagle Ford activity and then we've got -- there's a well just to north of us from -- in the Force area that's supposedly a Georgetown -- that's targeting the Georgetown formation, offsetting the Georgetown completion. So there's a lot of activity all around us. And so we're monitoring that as we go and there's still quite a few private operators in the neighborhood who are drilling as well. And that information is a little bit more difficult to obtain but it's -- there's quite a few rigs that are up there right now.

Eric B. Anderson - Hartford Financial Management, Inc.

Okay. And can I just jump over to Vick Trust well? You mentioned that it's making quite a lot of water. Do you guys have any way to determine if you have not hit that vein of water what the oil production might be?

Allan D. Keel

Not really. I mean, that's a difficult thing to try to ascertain, but we -- Carl and his team work pretty hard on trying to kind of isolate where the water was coming from and try to improve on our liquids production, our oil production and we just -- so far, it just hasn't worked out for us. But they're still working on it, still trying to figure out exactly where the water is coming from and we still think that area is extremely prospective for all the formations, the Woodbine, the Georgetown, the Eagle Ford and as I mentioned earlier, another operator just announced a discovery to the east of that well. So we think basically everything between the Force area through the Chalktown area is still very prospective and productive in a lot of different formations.

Eric B. Anderson - Hartford Financial Management, Inc.

You have an IP rate of the operator that you just alluded to that's to the east of you?

Allan D. Keel

No, I don't believe they have announced that yet.

Eric B. Anderson - Hartford Financial Management, Inc.

Okay. Now so do you think ultimately you will redrill that well or you'll just continue to produce the way it is?

Allan D. Keel

Well, there's not much we can do with that wellbore. But definitely, we plan on drilling more wells in that Chalktown area, definitely.

Eric B. Anderson - Hartford Financial Management, Inc.

Okay. And then lastly, I know you've been -- you guys have been watching the activity in the Niobrara, Colorado. And I'm just wondering with all the leasing activity that's taken place around your acreage, do you have anything to report on in terms of offset activity there?

Allan D. Keel

No, not really. We're just -- Anadarko is pretty active up there in our neighborhood. As we've stated lots of times before, that acreage is really not forward to us but we feel like it could be very prospective for the Niobrara. Also, the Codell there's a -- some of the operators out there are drilling vertical Codell wells and making -- it's a pretty nice well so we're watching that and we've have a lot of interest in that acreage, lots of phone calls, volume inquiries about purchasing that acreage. And everything is for sale for the right price but we haven't found any yet.

Eric B. Anderson - Hartford Financial Management, Inc.

Okay. Can I just sneak in one last one. I know you've talked about in prior quarters that you're monitoring the James Lime activity up in San Augustine. I just wondered if you could discuss sort of how these wells are sort of -- how they're producing 6 to 9 months into being brought online?

Allan D. Keel

Yes. There's -- Eric, there's not a lot of data available yet but based on the initial rates, the performance continues to -- looks like it continues to improve. We've done a little bit of work on that based on the data that we do have and there is a very strong progression showing an improvement in performance. And obviously, it's a newer play there in terms of the liquid -- on the liquid side because historically, that's been a dry gas producer or reservoir up in that area. But I think we're monitoring that. We think Devon is doing a great job up there and they continue to improve on their performance, and we're very excited about what the opportunity is there for us. And we've got to find a way to get up there and get active and just improve on our position.

Eric B. Anderson - Hartford Financial Management, Inc.

So economics so far are not as attractive as what you can find in the Woodbine or possibly the Georgetown in your Madison County area?

Allan D. Keel

Well, I would say up until the more recent results that might be true but given the recent results that we've seen and that have been announced, I would say that James Lime is -- the economics is such that are becoming more attractive. I mean, there is -- if they need to figure out or we need to figure out a processing solution up there across all the outlets up there are for dry gas. So I'm sure that not only us but Devon as well, we're trying to figure out exactly what that outtake solution might be. But in terms of the -- I think the economics of that play are continuing to improve. And as more drilling occurs and we learn more and more data is available, we feel like that could be just another growth area for Crimson.

Operator

And with no further questions, I'll turn the call back to Mr. Allan Keel for any additional or closing remarks.

Allan D. Keel

Well, no other closing remarks. We thank you for your time and I look forward to sharing our results that we've talked about here in the near future and we look forward to talking to you again on our next call. Thanks so much.

Operator

And, ladies and gentlemen, that will conclude today's conference. Thank you again for your participation. You may now disconnect.

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