Financial Instruments |
9 Months Ended |
|---|---|
Sep. 30, 2020 | |
| Derivative Instruments and Hedging Activities Disclosure [Abstract] | |
| Financial Instruments |
NOTE 6 — FINANCIAL INSTRUMENTS
As discussed in Note 9, Borrowings, as part of entering into the senior secured term loan credit agreement in 2018, we are required to enter into and maintain certain hedging transactions. As a result, we use derivative financial instruments, namely OTC commodity swap instruments (“commodity swaps”), to maintain compliance with this covenant. We do not hold or issue derivative financial instruments for trading purposes.
Commodity swap agreements involve payments to or receipts from counterparties based on the differential between two prices for the commodity, and include basis swaps to protect earnings from undue exposure to the risk of geographic disparities in commodity prices, as required by the negative covenant of the senior secured term loan credit agreement. The fair value of our commodity swaps is classified as Level 2 in the fair value hierarchy and is based on standard industry income approach models that use significant observable inputs, including but not limited to New York Mercantile Exchange (NYMEX) natural gas forward curves and basis forward curves, all of which are validated against external sources at least monthly.
The Company recognizes all derivative instruments as either assets or liabilities at fair value on a net basis as they are with a single counterparty and subject to a master netting arrangement. The Company can net settle its derivative instruments at any time. As of September 30, 2020, we had a current liability of $1.1 million, net, with respect to the fair value of the current portion of our commodity swaps. The current liability is classified within Accrued and other liabilities on the Condensed Consolidated Balance Sheets.
We do not apply hedge accounting for our commodity swaps; therefore, all changes in fair value of the Company’s derivative instruments are recognized within Other income, net, in the Condensed Consolidated Statements of Operations. For the three and nine months ended September 30, 2020, we recognized a realized gain of $1.0 million and $4.8 million, respectively, as well as an unrealized loss of $2.9 million and $4.6 million, respectively, related to the changes in fair value of the commodity swaps in our Condensed Consolidated Statements of Operations. Derivative contracts which result in physical delivery of a commodity expected to be used or sold by the Company in the normal course of business are designated as normal purchases and sales and are exempt from derivative accounting. OTC arrangements require settlement in cash. Settlements of commodity derivative instruments are reported as a component of cash flows from operations in the Condensed Consolidated Statements of Cash Flows.
With respect to the commodity swaps, the Company hedged 4.8 Bcf of its fixed price and basis exposure, which represents a portion of its expected sales of equity production as of September 30, 2020. The open positions at September 30, 2020 had maturities extending through September 2021. For additional details, refer to Note 9, Borrowings.
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