UNITED STATES SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549

 

 

 

 

Form 10-Q

 

 

 

 

 

Commission File Number: 001-33784

 

 

 

 

SANDRIDGE ENERGY, INC.

(Exact name of registrant as specified in its charter)

 

 

 

 

 

 

Registrant’s telephone number, including area code:

(405) 753-5500

 

 

Former name, former address and former fiscal year, if changed since last report: Not applicable

 

 

 

 

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15 (d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such 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 o     No þ

 

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer or a non-accelerated filer. See definition of “accelerated filer and large accelerated filer” in Rule 12b-2 of the Exchange Act.

 

Large accelerated filer o     Accelerated filer o     Non-accelerated filer þ

 

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).  Yes o     No þ

 

The number of shares outstanding of the registrant’s common stock, par value $0.001 per shares, as of the close of business on November 30, 2007, was 141,845,661.

 

 

SANDRIDGE ENERGY, INC.
FORM 10-Q
Quarter Ended September 30, 2007

 

INDEX

 

DISCLOSURES REGARDING FORWARD-LOOKING STATEMENTS

 

This quarterly report on Form 10-Q (“Quarterly Report”) includes “forward-looking statements” within the meaning of various provisions of the Securities Act of 1933, as amended and the Securities Exchange Act of 1934, as amended. Various statements contained in this Quarterly Report, including those that express a belief, expectation, or intention, as well as those that are not statements of historical fact, are forward-looking statements. The forward-looking statements may include projections and estimates concerning the timing and success of specific projects and our future production, revenues, income and capital spending. Our forward-looking statements are generally accompanied by words such as “estimate,” “project,” “predict,” “believe,” “expect,” “anticipate,” “potential,” “could,” “may,” “foresee,” “plan,” “goal” or other words that convey the uncertainty of future events or outcomes. We have based these forward-looking statements on our current expectations and assumptions about future events. These statements are based on certain assumptions and analyses made by us in light of our experience and our perception of historical trends, current conditions and expected future developments as well as other factors we believe are appropriate under the circumstances. However, whether actual results and developments will conform with our expectations and predictions is subject to a number of risks and uncertainties, including Risk Factors discussed in our Registration Statement on Form S-1 filed with the Securities and Exchange Commission on October 23, 2007 and Item 1A- Risk Factors contained herein, the opportunities that may be presented to and pursued by us, competitive actions by other companies, changes in laws or regulations, and other factors, many of which are beyond our control. Consequently, all of the forward-looking statements made in this document are qualified by these cautionary statements and there can be no assurance that the actual results or developments anticipated will be realized or, even if substantially realized, that they will have the expected consequences to or effects on our company or our business or operations. Such statements are not guarantees of future performance and actual results or developments may differ materially from those projected in the forward-looking statements. We undertake no obligation to publicly update or revise any forward-looking statements.

 

PART I. Financial Information

 

 

SandRidge Energy, Inc. and Subsidiaries

 

Condensed Consolidated Balance Sheets

 

 

The accompanying notes are an integral part of these condensed consolidated financial statements.

SandRidge Energy, Inc. and Subsidiaries

 

Condensed Consolidated Statements of Operations

 

 

The accompanying notes are an integral part of these condensed consolidated financial statements.

SandRidge Energy, Inc. and Subsidiaries

 

Condensed Consolidated Statement of Changes in Stockholders’ Equity

 

 

The accompanying notes are an integral part of these condensed consolidated financial statements.

SandRidge Energy, Inc. and Subsidiaries

 

Condensed Consolidated Statements of Cash Flows

 

 

The accompanying notes are an integral part of these condensed consolidated financial statements.

SandRidge Energy, Inc. and Subsidiaries

 

Notes to Condensed Consolidated Financial Statements

 

 

Nature of Business.  SandRidge Energy, Inc. and its subsidiaries (collectively, the “Company”, “SandRidge”, “we”, “us”, or “our”) is an oil and gas company with its principal focus on exploration, development and production related to oil and gas activities. SandRidge also owns and operates drilling rigs and provides related oil field services, midstream gas services operations, and CO₂ and tertiary oil recovery operations. SandRidge’s primary exploration, development and production areas are concentrated in West Texas. The Company also operates significant interests in the Cotton Valley Trend in East Texas and Gulf Coast area.

 

On November 21, 2006, the Company acquired all of the outstanding membership interests of NEG Oil & Gas LLC (“NEG”).

 

Interim Financial Statements.  The accompanying condensed consolidated balance sheet as of December 31, 2006 has been derived from our audited financial statements contained in the Company’s Registration Statement on Form S-1/A filed October 23, 2007 (the “Registration Statement”). The unaudited interim condensed consolidated financial statements of SandRidge and its subsidiaries have been prepared by the Company in accordance with the accounting policies stated in the audited consolidated financial statements contained in the Company’s S-1/A filed October 23, 2007 pursuant to the rules and regulations of the Securities and Exchange Commission (“SEC”). Certain information and footnote disclosures normally included in financial statements prepared in accordance with accounting principles generally accepted in the United States of America (“GAAP”) have been condensed or omitted, although we believe that the disclosures contained herein are adequate to make the information presented not misleading. In the opinion of management, all adjustments (consisting only of normal recurring adjustments) necessary for a fair presentation in accordance with GAAP have been included in these unaudited interim condensed consolidated financial statements. These condensed financial statements should be read in conjunction with the financial statements and notes thereto included in the Registration Statement.

 

 

For a description of the Company’s accounting policies, refer to Note 1 of the 2006 consolidated financial statements included in the Company’s Registration Statement, as well as Note 10 herein.

 

Reclassifications.  Certain reclassifications have been made in prior period financial statements to conform with current period presentation.

 

Change in Method of Accounting for Oil and Gas Operations.  In the fourth quarter of 2006, the Company changed from the successful efforts method to the full cost method of accounting for its oil and gas operations. Prior period financial statements presented herein have been restated to reflect the change.

 

SandRidge’s financial results have been retroactively restated to reflect the conversion to the full cost method. As prescribed by full cost accounting rules, all costs associated with property acquisition, exploration, and development activities are capitalized. Exploration and development costs include dry hole costs, geological and geophysical costs, direct overhead related to exploration and development activities and other costs incurred for the purpose of finding oil and gas reserves.

 

SandRidge Energy, Inc. and Subsidiaries

 

Notes to Condensed Consolidated Financial Statements — (Continued)

 

A comparison of the Company’s previously presented income tax expense, net income, and earnings per share under the successful efforts method of accounting to its results of operations disclosed herein are as follows (in thousands, except per share amounts):

 

 

Oil and Natural Gas Operations.  The Company uses the full cost method to account for its natural gas and oil properties. Under full cost accounting, all costs directly associated with the acquisition, exploration and development of natural gas and oil reserves are capitalized into a “full cost pool.” These capitalized costs include costs of all unproved properties, internal costs directly related to the Company’s acquisition, exploration and development activities and capitalized interest. These costs are amortized using a unit-of-production method. Under this method, the provision for depreciation, depletion and amortization is computed at the end of each quarter by multiplying total production for such quarter by a depletion rate. The depletion rate is determined by dividing the total unamortized cost base by net equivalent proved reserves at the beginning of the quarter.

 

Recent Accounting Pronouncements.  In September 2006, the FASB issued SFAS No. 157, “Fair Value Measurements,” which establishes a formal framework for measuring fair values of assets and liabilities in financial statements that are already required by GAAP to be measured at fair value. SFAS No. 157 clarifies guidance in FASB Concepts Statement (“CON”) No. 7 which discusses present value techniques in measuring fair value. Additional disclosures are also required for transactions measured at fair value. No new fair value measurements are prescribed, and SFAS No. 157 is intended to codify the several definitions of fair value included in various accounting standards. However, the application of this Statement may change current practices for certain companies. SFAS No. 157 is effective for fiscal years beginning after November 15, 2007. The Company is currently evaluating the impact of adopting SFAS No. 157 on the financial statements.

 

In February 2007, the FASB issued SFAS No. 159, “The Fair Value Option For Financial Assets and Financial Liabilities — Including an Amendment of FASB Statement No. 115”(“SFAS No. 159”), which permits an entity to choose to measure certain financial assets and liabilities at fair value. SFAS No. 159 also revises provisions of SFAS No. 115 that apply to available-for-sale and trading securities. This statement is effective for fiscal years beginning after November 15, 2007. The Company has not yet evaluated the potential impact of this standard.

 

 

On March 15, 2006, the Company acquired from an executive officer and director, an additional 12.5% interest in PetroSource Energy Company, a consolidated subsidiary. The acquisition consisted of the extinguishment of subordinated debt of approximately $1.0 million and a $4.5 million cash payment for the ownership interest acquired for a total acquisition price of approximately $5.5 million.

 

On May 1, 2006, the Company purchased certain leases in developed and undeveloped properties from an oil and gas company. The purchase price was approximately $40.9 million in cash. The cash consideration was paid in July 2006.

 

On May 26, 2006, the Company purchased several oil and natural gas properties from an oil and gas company. The purchase price was approximately $12.9 million, comprised of $8.2 million in cash, and 251,351 shares of

 

SandRidge Energy, Inc. and Subsidiaries

 

Notes to Condensed Consolidated Financial Statements — (Continued)

 

SandRidge Energy, Inc. common stock (valued at $4.7 million). The cash and equity consideration was paid in July 2006.

 

On June 7, 2006, the Company acquired the remaining 1% interest in PetroSource Energy Company, a consolidated subsidiary, from an oil and gas company. The purchase price was 27,749 shares of SandRidge Energy, Inc. common stock (valued at $0.5 million). As a result of this acquisition, the Company became a 100% owner of PetroSource Energy Company.

 

In July 2006, the Company sold leaseholds and lease and well equipment for $16.0 million. The book basis of the assets at the time of the sale transaction was $3.7 million resulting in a gain of $12.3 million. The sale was accounted for as an adjustment to the full cost pool, with no gain recognized.

 

 

Property, plant and equipment consists of the following (in thousands):

 

 

The amount of capitalized interest in the nine months ended September 30, 2007 and 2006 was approximately $1.5 million and $1.0 million, respectively, and is included in the above non oil and gas equipment balance.

 

On July 11, 2007, the Company purchased property to serve as its future corporate headquarters. The 3.51-acre site contains four buildings and is located in downtown Oklahoma City, Oklahoma. The purchase price of the property was approximately $25 million in cash plus the assumption of an obligation to indemnify the sellers in connection with pending litigation involving the property. Payment of the purchase price was funded through a draw on the Company’s senior credit facility. The related litigation was settled subsequent to September 30, 2007, resulting in an additional cost to the Company of $4.5 million which was treated as an adjustment to the purchase price of the property. For additional discussion of this settlement, refer to Note 17 herein.

 

SandRidge Energy, Inc. and Subsidiaries

 

Notes to Condensed Consolidated Financial Statements — (Continued)

 

 

The change in the carrying amount of goodwill from December 31, 2006 to September 30, 2007 was as follows (in thousands):

 

 

The adjustments made in the nine months ended September 30, 2007 related to the preliminary purchase allocation in connection with the NEG acquisition in November 2006. The Company has assigned all of the NEG goodwill to the Exploration and Production segment.

 

 

A reconciliation of the beginning and ending aggregate carrying amounts of the asset retirement obligations for the period of December 31, 2006 to September 30, 2007 is as follows (in thousands):

 

 

 

Long-term obligations consist of the following (in thousands):

 

 

Senior Credit Facility.  On November 21, 2006, the Company entered into a $750 million senior secured revolving credit facility (the “senior credit facility”). The senior credit facility matures on November 21, 2011.

 

The proceeds of the senior credit facility were used to (i) partially finance the NEG acquisition, (ii) refinance the existing senior secured revolving credit facility and NEG’s existing credit facility, and (iii) pay fees and expenses related to the NEG acquisition and the existing credit facility. Future borrowings under the senior credit

 

SandRidge Energy, Inc. and Subsidiaries

 

Notes to Condensed Consolidated Financial Statements — (Continued)

 

facility will be available for capital expenditures, working capital and general corporate purposes and to finance permitted acquisitions of oil and gas properties and other assets related to the exploration, production and development of oil and gas properties. The senior credit facility will be available to be drawn on and repaid without restriction so long as the Company is in compliance with its terms, including certain financial covenants.

 

The senior credit facility contains various covenants that limit the Company and certain of its subsidiaries’ ability to grant certain liens; make certain loans and investments; make distributions; redeem stock; redeem or prepay debt; merge or consolidate with or into a third party; or engage in certain asset dispositions, including a sale of all or substantially all of the Company’s assets. Additionally, the senior credit facility limits the Company and certain of its subsidiaries’ ability to incur additional indebtedness with certain exceptions, including under the senior unsecured bridge facility (as discussed below) which was repaid in full during March 2007.

 

The senior credit facility also contains financial covenants, including maintenance of agreed upon levels for the ratio of (i) total funded debt to EBITDAX (as defined in the senior credit facility), (ii) EBITDAX to interest expense plus current maturities of long-term debt, and (iii) current ratio. The Company was in compliance with these financial covenants as of September 30, 2007.

 

The obligations under the senior credit facility are secured by first priority liens on all shares of capital stock of each of the Company’s present and future subsidiaries; all intercompany debt of the Company and its subsidiaries; and substantially all of the Company assets and the assets of its guarantor subsidiaries, including proven oil and gas reserves representing at least 80% of the present discounted value (as defined in the senior credit facility) of proven oil and gas reserves reviewed in determining the borrowing base for the senior credit facility. Additionally, the obligations under the senior credit facility will be guaranteed by certain Company subsidiaries.

 

At the Company’s election, interest under the senior credit facility is determined by reference to (i) the British Bankers Association LIBOR rate, or LIBOR, plus an applicable margin between 1.25% and 2.00% per annum or (ii) the higher of the federal funds rate plus 0.5% or the prime rate plus, in either case, an applicable margin between 0.25% and 1.00% per annum. Interest will be payable quarterly for prime rate loans and at the applicable maturity date for LIBOR loans, except that if the interest period for a LIBOR loan is six months, interest will be paid at the end of each three-month period. The average interest rates paid on amounts outstanding under our senior credit facility for the three and nine month periods ended September 30, 2007 were 7.08% and 7.62%, respectively.

 

The borrowing base of proved reserves was initially set at $300.0 million. As of December 31, 2006, the Company had $140.0 million of outstanding indebtedness on the senior credit facility. Proceeds from the Company’s sale of common stock on March 20, 2007, as described in Note 14, were used to repay outstanding borrowings under the Company’s senior credit facility.

 

The borrowing base was increased to $400 million on May 2, 2007, and to $700 million on September 14, 2007. At September 30, 2007, the Company had $400 million in outstanding indebtedness under this facility. The Company repaid all amounts outstanding under this facility subsequent to September 30, 2007. See Note 17 for further discussion.

 

Senior Bridge Facility.  On November 21, 2006, the Company also entered into an $850.0 million senior unsecured bridge facility (the “senior bridge facility”), which was repaid in March 2007. The Company expensed remaining unamortized debt issuance costs related to the senior bridge facility of approximately $12.5 million to interest expense in March 2007.

 

Together with borrowings under the senior credit facility, the proceeds from the senior bridge facility were used to (i) partially finance the NEG acquisition, (ii) refinance existing senior secured revolving credit facility and NEG’s existing credit facility, and (iii) pay fees and expenses related to the NEG acquisition and the existing credit facility.

 

Senior Term Loans.  On March 22, 2007 the Company entered into $1.0 billion in senior unsecured term loans (the “senior term loans”). The closing of the senior term loans was generally contingent upon closing the private

 

SandRidge Energy, Inc. and Subsidiaries

 

Notes to Condensed Consolidated Financial Statements — (Continued)

 

placement of common equity as described in Note 14. The senior term loans include both floating rate term loans and fixed rate term loans. The Company issued $350.0 million at a variable rate with interest payable quarterly and principal due on April 1, 2014 (the “variable rate term loans”). The variable rate term loans bear interest, at the Company’s option, at the British Bankers Association LIBOR rate plus 3.625% or the higher of (i) the federal funds rate, as defined, plus 3.125% or (ii) a Bank’s prime rate plus 2.625%. After April 1, 2009 the variable rate term loans may be prepaid in whole or in part with certain prepayment penalties. The average interest rates paid on amounts outstanding under our variable term loans for the three and nine month periods ended September 30, 2007 were 8.99% and 8.98%, respectively.

 

The Company issued $650.0 million at a fixed rate of 8.625% with the principal due on April 1, 2015 (the “fixed rate term loans”). Under the terms of the fixed rate term loans, interest is payable quarterly and during the first four years interest may be paid, at the Company’s option, either entirely in cash or entirely with additional fixed rate term loans. If the Company elects to pay the interest due during any period in additional fixed rate term loans, the interest rate increases to 9.375% during such period. After April 1, 2011 the fixed rate term loans may be prepaid in whole or in part with certain prepayment penalties.

 

After March 22, 2008, the Company is required to offer to exchange the senior term loans for senior unsecured notes with registration rights and with identical terms and conditions as the term loans. If the Company is unable or does not offer to exchange the senior term loans for senior unsecured notes with registration rights by April 30, 2008, the interest rate on the senior term loans will increase by 0.25% every 90 days up to a maximum of 0.50%.

 

Debt covenants under the senior term loans include financial covenants similar to those of the senior credit facility and include limitations on the incurrence of indebtedness, payment of dividends, asset sales, certain asset purchases, transactions with related parties, and consolidation or merger agreements. The Company incurred $26.1 million of debt issuance costs in connection with the senior term loans. These costs are included in other assets and amortized over the term of the senior term loans. A portion of the proceeds from the senior term loans was used to repay the Company’s $850.0 million senior bridge facility.

 

For the nine months ended September 30, interest payments, net of amounts capitalized were approximately $59.5 million in 2007 and $4.6 million in 2006.

 

 

The Company has recorded a long-term obligation for amounts to be paid under a settlement agreement with Conoco, Inc. (“Conoco”). During January 2007, the Company agreed to pay approximately $25.0 million plus interest to Conoco to settle outstanding litigation. Under this agreement, payments are to be made in $5.0 million increments on April 1, 2007, July 1, 2008, July 1, 2009, July 1, 2010, and July 1, 2011. On March 30, 2007, the Company made the first $5.0 million settlement payment plus accrued interest. The $5.0 million payment to be made on July 1, 2008 has been included in accounts payable-trade in the accompanying condensed consolidated balance sheets as of September 30, 2007. Unpaid settlement amounts of approximately $15.0 million and $20.0 million have been included in other long-term obligations in the accompanying condensed consolidated balance sheets as of September 30, 2007 and December 31, 2006, respectively.

 

 

The Company has entered into various derivative contracts including collars, fixed price swaps, and basis swaps with counterparties. The contracts expire on various dates through December 31, 2009.

 

SandRidge Energy, Inc. and Subsidiaries

 

Notes to Condensed Consolidated Financial Statements — (Continued)

 

At September 30, 2007, the Company’s open commodity derivative contracts consisted of the following:

 

 

SandRidge Energy, Inc. and Subsidiaries

 

Notes to Condensed Consolidated Financial Statements — (Continued)

 

These derivatives have not been designated as hedges and the Company records all derivatives on the balance sheet at fair value. Changes in derivative fair values are recognized in earnings. Cash settlements and valuation gains and losses are included in gain on derivative contracts in the condensed consolidated statements of operations. The following summarizes the cash settlements and valuation gains and losses for the three and nine month periods ended September 30, 2007 and 2006 (in thousands):

 

 

 

In accordance with applicable generally accepted accounting principles, the Company estimates for each interim reporting period the effective tax rate expected for the full fiscal year and uses that estimated rate in providing income taxes on a current year-to-date basis.

 

On January 1, 2007, the Company adopted the provisions of FASB Interpretation No. 48 (“FIN 48”), “Accounting for Uncertainty in Income Taxes.” The Company has determined that no uncertain tax positions exist where the Company would be required to make additional tax payments. As a result, the Company has not recorded any additional liabilities for any unrecognized tax benefits as of September 30, 2007. The Company and its subsidiaries file income tax returns in the U.S. federal and various state jurisdictions. Tax years 1994 to present remain open for the majority of taxing authorities. The Company’s accounting policy is to recognize penalties and interest related to unrecognized tax benefits as income tax expense. The Company does not have an accrued liability for the payment of penalties and interest at September 30, 2007.

 

For the nine months ended September 30, income tax payments were approximately $2.7 million in 2007 and $1.9 million in 2006.

 

 

Basic earnings per share are computed using the weighted average number of common shares outstanding during the period. Diluted earnings per share are computed using the weighted average shares outstanding during the year, but also include the dilutive effect of awards of restricted stock. The following table summarizes the calculation of weighted average common shares outstanding used in the computation of diluted earnings per share, for the three and nine month periods ended September 30, 2007 and 2006 (in thousands):

 

 

In computing diluted earnings per share, the Company evaluated the if-converted method. Under this method, the Company assumes the conversion of the outstanding redeemable convertible preferred stock to common stock and determines if this is more dilutive than including the preferred stock dividends (paid and unpaid) in the computation of

 

SandRidge Energy, Inc. and Subsidiaries

 

Notes to Condensed Consolidated Financial Statements — (Continued)

 

income available to common stockholders. The Company determined the if-converted method is not more dilutive and has included preferred stock dividends in the determination of income available to common stockholders.

 

 

The Company is a defendant in certain lawsuits from time to time in the normal course of business. In management’s opinion, the Company is not currently involved in any legal proceedings other than those specifically identified below, which individually or in the aggregate, could have a material effect on the financial condition, operations and/or cash flows of the Company.

 

Roosevelt Litigation.  On May 18, 2004, the Company commenced a civil action seeking declaratory judgment against Elliot Roosevelt, Jr., E.R. Family Limited Partnership and Ceres Resource Partners, L.P. in the District Court of Dallas County, Texas, 101st Judicial District, SandRidge Energy, Inc. and Riata Energy Piceance, LLC v. Elliot Roosevelt, Jr. et al, Cause No. 92.717-C. This suit sought a declaratory judgment relating to the rights of the parties in and to certain leases in a defined area of mutual interest in the Piceance Basin pursuant to an acquisition agreement entered into in 1989, including the Company’s 41,454 gross (16,193 net) acreage position. The Company tried the case to a jury in July 2006. Before the case was submitted to the jury, the trial court granted Roosevelt a directed verdict stating that he owned a 25% deferred interest in the Company’s acreage after project payout. The directed verdict is not likely to affect the Company’s proved reserves of 11.7 Bcfe, because of the requirement that project payout be achieved before the deferred interest shares in revenue. Other issues of fact were submitted to the jury. The trial court recently entered a judgment favorable to Roosevelt. The Company has filed a motion to modify the judgment and for a new trial. Depending on the outcome of this motion, the Company expects to appeal, at a minimum, from the entry of the directed verdict. If the Company does not ultimately prevail, the deferred interest will reduce the Company’s economic returns from the project, if project payout is achieved.

 

The Company is subject to other claims in the ordinary course of business. However, the Company believes that the ultimate resolution of the above mentioned claims and other current legal proceedings will not have a material adverse effect on its results of operations, financial condition, or cash flows.

 

 

In November 2006, the Company sold 2,136,667 shares of redeemable convertible preferred stock as part of the NEG acquisition and received net proceeds from this sale of approximately $439.5 million after deducting offering expenses of approximately $9.3 million. Each holder of the redeemable convertible preferred stock is entitled to quarterly cash dividends at the annual rate of 7.75% of the accreted value of its redeemable convertible preferred stock. The accreted value is $210 per share as of September 30, 2007. Each share of convertible preferred stock is initially convertible into ten shares of common stock at the option of the holder, subject to certain anti-dilution adjustments.

 

On January 31, 2007, the Company’s Board of Directors declared a dividend on the outstanding shares of redeemable convertible preferred stock. The dividend of $3.21 per share was paid in cash on February 15, 2007. The dividend covered the time period from November 21, 2006, when the shares were issued, through February 1, 2007.

 

On March 30, 2007, certain holders of the Company’s common units (consisting of shares of common stock and a warrant to purchase redeemable convertible preferred stock upon the surrender of common stock) exercised warrants to purchase redeemable convertible preferred stock. The holders converted 526,316 shares of common stock into 47,619 shares of redeemable convertible preferred stock.

 

On May 8, 2007, the Company’s Board of Directors declared a dividend on the outstanding shares of redeemable convertible preferred stock. The dividend of $3.97 per share was paid in cash on May 15, 2007. The dividend covered the time period from February 2, 2007 through May 1, 2007.

 

SandRidge Energy, Inc. and Subsidiaries

 

Notes to Condensed Consolidated Financial Statements — (Continued)

 

On June 8, 2007, the Company’s Board of Directors declared a dividend on the outstanding shares of redeemable convertible preferred stock. The dividend of $4.10 per share was paid in cash on August 15, 2007. The dividend covered the time period from May 2, 2007 through August 1, 2007.

 

On September 24, 2007, the Company’s Board of Directors declared a dividend on the outstanding shares of redeemable convertible preferred stock. The dividend of $4.10 per share was paid in cash on November 15, 2007. The dividend covers the time period from August 2, 2007 to November 1, 2007.

 

Approximately $9.0 million and $29.5 million in paid and unpaid dividends have been included in the Company’s earnings per share calculations for the three and nine month periods ended September 30, 2007, respectively, as presented in the accompanying condensed consolidated statements of operations.

 

 

The following table presents information regarding SandRidge’s common stock (in thousands):

 

 

The Company is authorized to issue 50,000,000 shares of preferred stock, no par value, of which no shares were outstanding as of September 30, 2007 and December 31, 2006.

 

Common Stock Issuance.  In March 2007, the Company sold approximately 17.8 million shares of common stock for net proceeds of $318.7 million after deducting offering expenses of approximately $1.4 million. The stock was sold in private sales to various investors including Tom L. Ward, the Company’s Chairman of the Board of Directors and Chief Executive Officer, who invested $61.4 million in exchange for approximately 3.4 million shares of common stock.

 

Treasury Stock.  The Company makes required tax payments on behalf of employees as their stock awards vest and then withholds a number of vested shares having a value on the date of vesting equal to the tax obligation. As a result of such transactions, the Company withheld 41,095 shares at a total value of $0.7 million during the nine month period ended September 30, 2007. These shares were accounted for as treasury stock.

 

On June 28, 2007, the Company purchased 39,844 shares of its common stock into treasury through an open market repurchase program in order to fund a portion of its 401(K) matching obligation as described below. Cash consideration for these shares of approximately $0.8 million was paid in July 2007.

 

On June 29, 2007, the Company transferred 72,044 shares of its treasury stock to the Company’s 401k Plan brokerage account. The transfer was made in order to satisfy the Company’s $1.3 million accrued payable to match employee contributions made to the plan during 2006. Historical cost of the shares transferred totaled approximately $0.9 million, resulting in an increase to the Company’s additional paid-in capital of approximately $0.4 million.

 

Restricted Stock.  The Company issues restricted stock awards under incentive compensation plans which vest over specified periods of time. Awards issued prior to 2006 vest over periods of one, four, or seven years. All awards issued during and after 2006 have four year vesting periods. These shares of restricted common stock are subject to restriction on transfer and certain conditions to vesting.

 

For the three months ended September 30, the Company recognized stock-based compensation expense related to restricted stock of $2.7 million in 2007 and $3.7 million in 2006. For the nine months ended September 30, the Company recognized stock-based compensation expense related to restricted stock of approximately $5.0 million in 2007 and $8.2 million in 2006. Stock-based compensation expense is reflected in general and administrative expense in the condensed consolidated statements of operations.

 

SandRidge Energy, Inc. and Subsidiaries

 

Notes to Condensed Consolidated Financial Statements — (Continued)

 

 

During the ordinary course of business, the Company has transactions with certain shareholders and other related parties. These transactions primarily consist of purchases of drilling equipment and sales of oilfield service supplies. Following is a summary of significant transactions with such related parties for the three and nine month periods ended September 30, 2007 and 2006 (in thousands):

 

 

On June 1, 2006, the Company purchased certain producing well interest from an executive officer and director. The purchase price was approximately $9.0 million in cash. The cash consideration was paid in July 2006.

 

In August 2006, the Company sold various non-energy related assets to the Company’s former President and Chief Operating Officer, N. Malone Mitchell, 3^rd, for approximately $6.1 million in cash. The sale transaction resulted in a $0.8 million gain recognized in earnings by the Company in August 2006. The gain is included in gain on sale of assets in the condensed consolidated statements of operations.

 

In September 2006, the Company entered into a facilities lease with a member of its Board of Directors. The Company believes that the payments to be made under this lease are at fair market rates. Rent expense related to the lease totaled $1.7 million and $0.1 million for the nine month periods ended September 30, 2007 and 2006, respectively. The lease extends to August 2009.

 

On May 2, 2007, the Company purchased certain leasehold acreage from a partnership controlled by a director. The purchase price was approximately $8.3 million in cash.

 

On June 11, 2007, the Company purchased certain producing well interests from a director. The purchase price was approximately $3.5 million in cash.

 

Larclay, L.P.  Larclay is a joint venture between the Company and Clayton Williams Energy, Inc. (“CWEI”) and was formed to acquire drilling rigs and provide land drilling services. Larclay currently owns 12 rigs, one of which has not been assembled. The Company purchased its investment in 2006 and accounts for it under the equity method of accounting. The Company serves as the operations manager of the joint venture. CWEI is responsible for financing and purchasing of the rigs. The Company had sales to and cost reimbursements from Larclay for the three and nine months ended September 30, 2007 of $20.0 million and $48.9 million, respectively. The Company had sales to and cost reimbursements from Larclay for the three and nine months ended September 30, 2006 of $0.7 million and $0.8 million, respectively. As of September 30, 2007 and December 31, 2006, the Company had accounts receivable — related party due from Larclay of $16.0 million and $3.0 million, respectively. Additionally, the Company had purchases from Larclay for the three and nine months ended September 30, 2007 of $10.0 million and $25.6 million, respectively. As of September 30, 2007, the Company had accounts payable — related party due to Larclay of $2.2 million. The Company made no purchases from Larclay in 2006.

 

 

SandRidge has four business segments: Exploration and Production, Drilling and Oilfield Services, Midstream Gas Services, and Other representing its four main business units offering different products and services. The Exploration and Production segment is engaged in the development, acquisition and production of oil and natural gas properties. The Drilling and Oilfield Services segment is engaged in the land contract drilling of oil and natural gas wells. The Midstream Gas Services segment is engaged in the purchasing, gathering, processing and treating of

 

SandRidge Energy, Inc. and Subsidiaries

 

Notes to Condensed Consolidated Financial Statements — (Continued)

 

natural gas. The Other segment transports CO₂ to market for use by the Company and others in tertiary oil recovery operations and other miscellaneous operations.

 

Management evaluates the performance of SandRidge’s operating segments based on operating income, which is defined as operating revenues less operating expenses and depreciation, depletion and amortization. Summarized financial information concerning our segments is shown in the following table (in thousands):

 

 

 

SandRidge Energy, Inc. and Subsidiaries

 

Notes to Condensed Consolidated Financial Statements — (Continued)

 

 

 

 

 

Acquisitions.  On October 9, 2007, the Company purchased developed and undeveloped properties located in West Texas from an oil and gas company. The purchase price was approximately $74 million, comprised of $25 million in cash and a $49 million note payable. The $25 million cash consideration paid was funded through a draw on the Company’s senior credit facility. All principal and accrued interest (interest at 7% annually) due on the note payable were repaid on November 9, 2007 with proceeds from the Company’s initial public offering.

 

On November 28, 2007, the Company purchased a gas treatment plant and related gathering system located in Pecos County, Texas. The purchase price of approximately $10.0 million was paid in cash.

 

On November 29, 2007, the Company purchased leasehold acreage and producing well interests located predominately in the WTO from a group of entities. The purchase price of approximately $32.0 million was paid in cash.

 

Litigation Settlement.  On October 29, 2007, the Company entered into an agreement whereby it settled outstanding litigation related to certain property purchased by the Company during July 2007. Under the terms of the agreement, the Company paid $4.5 million to the counterparties on November 15, 2007 and the litigation was dismissed. The amount paid has been included in accounts payable and accrued expenses in the accompanying condensed consolidated balance sheet as of September 30, 2007.

 

Note Payable.  On November 15, 2007, the Company entered into a note payable in the amount of $20 million with a lending institution as a mortgage on the downtown Oklahoma City property purchased by the Company during July 2007 (see additional discussion in Note 4). This note is fully secured by one of the buildings and a parking garage located on the downtown property, bears interest at 6.08% annually, and matures November 15, 2022. Payments of principal and interest in the amount of approximately $0.5 million are due on a quarterly basis through the maturity date. During the next twelve months, the Company expects to make payments of principal and interest on this note totaling $1.0 million and $1.1 million, respectively.

 

Initial Public Offering.  On November 9, 2007, the Company completed an initial public offering (the “IPO”) of its common stock. The Company sold 28,700,000 shares of SandRidge common stock, including 4,170,000 shares sold directly to an entity controlled by Tom L. Ward. The shares were sold at a price of $26 per share. After deducting underwriting discounts of approximately $38.3 million and estimated offering expenses of approximately $2.5 million, the Company received net proceeds of approximately $705.4 million. This transaction priced after market close on November 5, 2007. In conjunction with the IPO, the underwriters were granted an option to purchase 3,679,500 additional shares of the Company’s common stock. The underwriters fully exercised this option and purchased the additional shares on November 6, 2007. After deducting underwriting discounts of approximately $5.7 million, the Company received net proceeds of approximately $89.9 million from

 

SandRidge Energy, Inc. and Subsidiaries

 

Notes to Condensed Consolidated Financial Statements — (Continued)

 

these additional shares. This offering generated total gross proceeds to the Company of $841.8 million and total net proceeds of approximately $795.3 million to us after deducting total underwriting discounts of approximately $44.0 million and other offering expenses estimated to be approximately $2.5 million. The aggregate net proceeds of approximately $795.3 million received by the Company at closing on November 9, 2007 were utilized as follows (in millions):

 

 

 

The following discussion and analysis is intended to assist you in understanding our business and the results of operations together with our present financial condition. This section should be read in conjunction with our condensed consolidated financial statements and the accompanying notes included in this Quarterly Report, as well as our historical consolidated financial statements, and the notes included in registration statement on Form S-1/A filed with the Securities and Exchange Commission on October 23, 2007. Our operating results for the periods discussed may not be indicative of future performance. Statements concerning future results are forward-looking statements. In the text below, financial statement numbers have been rounded; however, the percentage changes are based on amounts that have not been rounded.

 

The financial information with respect to the three and nine month periods ended September 30, 2007 and 2006 that is discussed below is unaudited. In the opinion of management, this information contains all adjustments, consisting only of normal recurring accruals, necessary for a fair presentation of the results for such periods. The results of operations for the interim periods are not necessarily indicative of the results of operations for the full fiscal year.

 

Overview of Our Company

 

We are a rapidly expanding independent natural gas and oil company concentrating on exploration, development and production activities. We are focused on continuing the exploration and exploitation of our significant holdings in the West Texas Overthrust, which we refer to as the WTO, a natural gas prone geological region where we have operated since 1986 that includes the Piñon Field and our South Sabino and Big Canyon Prospects. We also own and operate drilling rigs and conduct related oil field services, and we own and operate interests in gas gathering, marketing and processing facilities and CO₂ gathering and transportation facilities.

 

On November 21, 2006, we acquired all of the outstanding membership interests in NEG Oil & Gas, or NEG, for total consideration of approximately $1.5 billion, excluding cash acquired. With core assets in the Val Verde and Permian Basins of West Texas, including overlapping or contiguous interests in the WTO, the NEG acquisition has dramatically increased our exploration and production segment operations. The NEG acquisition, coupled with numerous acquisitions of additional working interests completed during 2007, 2006 and late 2005, have significantly increased our holdings in the WTO. We also operate significant interests in the Cotton Valley Trend in East Texas and the Gulf Coast region.

 

During November 2007, we completed an initial public offering of our common stock, a portion of the proceeds from which were used to repay indebtedness outstanding under our senior credit facility as well as a note payable outstanding related to a recent acquisition. See further discussion of these transactions in Note 17 to the condensed consolidated financial statements contained in Part I, Item I of this Quarterly Report.

Segment Overview

 

Operating income is computed as segment operating revenue less direct operating costs. These measurements provide important information to us about the activity and profitability of our lines of business. Set forth in the table below is financial information regarding each of our current segments.

 

 

 

 

 

We report the results of our operations in the following segments:

 

Exploration and Production Segment

 

We explore for, develop and produce natural gas and oil reserves, with a focus on our proved reserves and extensive undeveloped acreage positions in the WTO. We operate substantially all of our wells in our core areas and employ our drilling rigs and other drilling services in the exploration and development of our operated wells and, to a lesser extent, on our non-operated wells.

 

The primary factors affecting the financial results of our exploration and production segment are the prices we receive for our natural gas and oil production, the quantity of our natural gas and oil production and changes in the fair value of derivative instruments we use to reduce the volatility of the prices we receive for our natural gas and oil production. Because we are vertically integrated, our exploration and production activities affect the results of our oil field service and midstream segments. The NEG acquisition substantially increased our revenues and operating income in our exploration and production segment. However, because our working interest in the Piñon Field increased to approximately 85%, there are greater intercompany eliminations that affect the consolidated financial results of our drilling and oil field service and midstream gas services segments.

 

Exploration and Production Segment — Three months ended September 30, 2007 compared to the three months ended September 30, 2006

 

Exploration and production segment revenues increased to $113.1 million in the three months ended September 30, 2007 from $20.8 million in the three months ended September 30, 2006, an increase of 443.8%, as a result of a 477.9% increase in combined production volumes and a 9.7% increase in the combined average price we received for the natural gas and oil we produced. In the three month period ended September 30, 2007 we increased natural gas production by 10.2 Bcf, to 12.9 Bcf and increased crude oil production by 511 MBbls to 535 MBbls from the comparable period in 2006. The total combined 13.3 Bcfe increase in production was due primarily to acquisitions and successful drilling in the WTO.

 

The average price we received for our natural gas production for the three month period ended September 30, 2007 decreased 3.9%, or $0.24 per Mcf, to $5.99 per Mcf from $6.23 per Mcf in the comparable period in 2006. The average price received for our crude oil production, however, increased 13.1%, or $7.81 per barrel, to $67.57 per barrel during the three months ended September 30, 2007 from $59.76 per barrel during the same period in 2006. Including the impact of derivative contract settlements, the effective price received for natural gas for the three month period ended September 30, 2007 was $7.54 per Mcf as compared to $11.61 per Mcf during the same period in 2006. Our derivatives contracts had no impact on effective oil prices during the three months ended September 30, 2007 or the comparable period in 2006. During late 2006 and continuing into 2007 we entered into derivatives contracts to mitigate the impact of commodity price fluctuations on our 2007 and 2008 production. Our derivatives contracts are not designated as accounting hedges and, as a result, gains or losses on derivatives contracts are recorded as an operating expense. Internally, management views the settlement of such derivatives contracts as adjustments to the price received for natural gas and oil production to determine “effective prices.”

 

For the three months ended September 30, 2007, we had $61.8 million in operating income in our exploration and production segment, compared to $0.2 million operating income for the same period in 2006. Our $92.3 million increase in exploration and production revenues was offset by a $20.7 million increase in production expenses, and a $39.1 million increase in depreciation, depletion and amortization, or DD&A, due to the step up in basis on the NEG properties. The increase in production expenses was attributable to the additional properties acquired in the NEG acquisition and operating expenses on our new wells. During the three month period ended September 30, 2007, the exploration and production segment reported a $39.2 million net gain on our derivatives positions ($19.9 million realized gains and $19.3 million unrealized gains) compared to a $5.3 million gain ($13.9 million realized gains and $8.6 million unrealized losses) in the comparable period in 2006. During 2007, we selectively entered into natural gas swaps and basis swaps by capitalizing on what we perceived as spikes in the price of natural gas or favorable basis differences between the NYMEX price and natural gas prices at our principal West Texas

pricing point of Waha Hub. Unrealized gains or losses on derivative contracts represent the change in fair value of open derivative positions during the period. The change in fair value is principally measured based on period end prices as compared to the contract price. The unrealized gain recorded in the three month period ended September 30, 2007 was attributable to a decrease in average natural gas prices at September 30, 2007 as compared to the average natural gas prices at the various contract dates. Future volatility in natural gas and oil prices could have an adverse effect on the operating results of our exploration and production segment.

 

Exploration and Production Segment — Nine months ended September 30, 2007 compared to the nine months ended September 30, 2006

 

Exploration and production segment revenues increased to $320.4 million in the nine months ended September 30, 2007 from $50.4 million in the nine months ended September 30, 2006, an increase of 536.4%, as a result of a 502.0% increase in volumes and a 14.4% increase in the average price we received for the natural gas and oil we produced. In the nine month period ended September 30, 2007 we increased natural gas production by 28.3 Bcf, to 35.2 Bcf and increased crude oil production by 1,371 MBbls to 1,441 MBbls. The total combined 36.5 Bcfe increase in production was due primarily to acquisitions and successful drilling in the WTO.

 

The average price we received for our natural gas production for the nine month period ended September 30, 2007 increased 6.8%, or $0.42 per Mcf, to $6.56 per Mcf from $6.14 per Mcf in the comparable period in 2006. The average price received for our crude oil production decreased slightly, however, to $61.67 from $61.89 for the comparable period in 2006. Including the impact of derivative contract settlements, the effective price received for natural gas for the nine month period ended September 30, 2007 was $7.11 per Mcf as compared to $8.21 per Mcf during the comparable period in 2006. Our derivatives contracts had no impact on effective oil prices during the nine months ended September 30, 2007 or the comparable period in 2006.

 

For the nine months ended September 30, 2007, we had $138.3 million in operating income in our exploration and production segment, compared to $8.2 million operating income for the same period in 2006. Our $270.1 million increase in exploration and production revenues was offset by a $56.1 million increase in production expenses, and a $101.9 million increase in depreciation, depletion and amortization, or DD&A, due to the step up in basis on the NEG properties. The increase in production expenses was attributable to the additional properties acquired in the NEG acquisition and operating expenses on our new wells. During the nine month period ended September 30, 2007, the exploration and production segment reported a $55.2 million net gain on our derivatives positions ($19.2 million realized gains and $36.0 million in unrealized gains) compared to a $16.2 million gain ($14.2 realized gains and $2.0 unrealized gains) in the comparable period in 2006. During 2007, we selectively entered into natural gas swaps and basis swaps by capitalizing on what we perceived as spikes in the price of natural gas or favorable basis differences between the NYMEX price and natural gas prices at our principal West Texas pricing point of Waha Hub. Unrealized gains or losses on derivative contracts represent the change in fair value of open derivative positions during the period. The change in fair value is principally measured based on period end prices as compared to the contract price. The unrealized gain recorded in the nine month period ended September 30, 2007 was attributable to a decrease in average natural gas prices at September 30, 2007 as compared to the average natural gas prices at the various contract dates.

 

Drilling and Oil Field Services Segment

 

We drill for our own account primarily in the WTO through our drilling and oil field services subsidiary, Lariat Services. We also drill wells for other natural gas and oil companies, primarily located in the West Texas region. Our oil field services business conducts operations that complement our exploration and production operations. These services include providing pulling units, trucking, rental tools, location and road construction and roustabout services to ourselves and to third-parties. Additionally, we provide under-balanced drilling systems only for our own account.

 

In October 2005, we entered into a joint venture, Larclay, with CWEI, pursuant to which Larclay acquired twelve sets of rig components and other related equipment to assemble into completed land drilling rigs. The drilling rigs were to be used for drilling on CWEI’s prospects, our prospects, or for contracting to third-parties on daywork drilling contracts. All of these rigs have been delivered, although one rig has not been assembled. CWEI

was responsible for financing the purchase of the rigs by the terms of the joint venture and has financed 100% of the acquisition cost of the rigs. We operate the rigs owned by the joint venture. The joint venture and CWEI are responsible for all costs related to the initial construction and equipping of the drilling rigs. In the event of an operating shortfall within the joint venture, we along with CWEI are proportionately responsible to fund the shortfall through loans made to the joint venture. We have a 50% interest in Larclay, and we account for this joint venture as an equity investment.

 

The financial results of our drilling and oil field services segment depend on many factors, particularly the demand for and the price we can charge for our services. We provide drilling services for our own account and for others, generally on a daywork, footage or turnkey contract basis, although we record revenues and operating income only on wells drilled for or on behalf of third parties. The majority of our drilling contract revenues are derived from daywork drilling contracts. However, we generally assess the complexity and risk of operations, the on-site drilling conditions, the type of equipment to be used, the anticipated duration of the work to be performed and the prevailing market rates in determining the type of drilling contract into which we enter.

 

Daywork Contracts.  Under a daywork drilling contract, we provide a drilling rig with required personnel to our customer who supervises the drilling of the well. We are paid based on a negotiated fixed rate per day while the rig is used. Daywork drilling contracts specify the equipment to be used, the size of the hole and the depth of the well. Under a daywork drilling contract, the customer bears a large portion of the out-of-pocket drilling costs, and we generally bear no part of the usual risks associated with drilling, such as time delays and unanticipated costs. As of September 30, 2007, 26 of our rigs were operating under daywork contracts and 20 of these were working for our account. Also as of September 30, 2007, the 11 operational rigs owned by Larclay were operating under daywork contracts and seven of these were working for our account. The remaining four operational Larclay rigs were working for CWEI as of September 30, 2007.

 

Footage Contracts.  Under a footage contract, we are paid a fixed amount for each foot drilled, regardless of the time required or the problems encountered in drilling the well. As of September 30, 2007, none of our rigs were operating under footage contracts.

 

Turnkey Contracts.  Under a typical turnkey contract, a customer will pay us to drill a well to a specified depth and under specified conditions for a fixed price, regardless of the time required or the problems encountered in drilling the well. We provide most of the equipment and drilling supplies required to drill the well. We subcontract for related services such as the provision of casing crews, cementing and well logging. Generally we do not receive progress payments and are paid only after the well is drilled. We routinely enter into turnkey contracts in areas where our experience and expertise permit us to drill wells more profitably than under a daywork contract. As of September 30, 2007, one of our rigs was operating under turnkey contracts.

 

Drilling and Oil Field Services Segment — Three months ended September 30, 2007 compared to the three months ended September 30, 2006

 

Drilling and oil field services segment revenue decreased to $16.8 million in the three month period ended September 30, 2007 from $35.9 million in the three month period ended September 30, 2006. Operating income decreased to $5.4 million in the three month period ended September 30, 2007 from $10.2 million in the same period in 2006. The decline in revenues and operating income is primarily attributable to an increase in the number of rigs operating on our properties and an increase in our ownership interest in our natural gas and oil properties. Our drilling and oil field services segment records revenues and operating income only on wells drilled for or on behalf of third parties. The portion of drilling costs incurred by our drilling and oil field services segment relating to our ownership interest are capitalized as part of our full-cost pool. With the NEG acquisition and other WTO property acquisitions, our average working interest has increased to approximately 85% in the wells we operate in the WTO, and the third party interest has declined to less than 20%. During the three month period ended September 30, 2007, approximately 76% ($54.0 million) of the drilling and oil field service revenues were generated by work performed on our own account and eliminated in consolidation as compared to approximately 36% ($19.9 million) for the comparable period in 2006. The number of drilling rigs we owned increased 21.1% to an average of 27.0 rigs during the three month period ended September 30, 2007 from an average of 22.3 rigs in the comparable period in 2006. The average daily rate we received per rig of approximately $17,000, excluding revenues for related rental

equipment and before intercompany eliminations was essentially unchanged from the comparable period in 2006. Our rig utilization rate was 92.6%, representing 314 stacked rig days in 2007. The decline in operating income was principally attributable to the increase in the number and working interest ownership in wells drilled for our own account.

 

Drilling and Oil Field Services Segment — Nine months ended September 30, 2007 compared to the nine months ended September 30, 2006

 

Drilling and oil field services segment revenue decreased to $57.0 million in the nine month period ended September 30, 2007 from $106.3 million in the nine month period ended September 30, 2006. Operating income decreased to $14.3 million in the nine month period ended September 30, 2007 from $27.2 million in the same period in 2006. The decline in revenues and operating income is primarily attributable to an increase in the number of rigs operating on our properties and an increase in our ownership interest in our natural gas and oil properties. Our drilling and oil field services segment records revenues and operating income only on wells drilled for or on behalf of third parties. The portion of drilling costs incurred by our drilling and oil field services segment relating to our ownership interest are capitalized as part of our full-cost pool. With the NEG acquisition and other WTO property acquisitions, our average working interest has increased to approximately 85% in the wells we operate in the WTO, and the third party interest has declined to less than 20%. During the nine month period ended September 30, 2007, approximately 70% ($131.9 million) of the drilling and oil field service revenues were generated by work performed on our own account and eliminated in consolidation as compared to approximately 31% ($48.0 million) for the comparable period in 2006. The number of drilling rigs we owned increased 23.8% to an average of 26.0 rigs during the nine month period ended September 30, 2007 from an average of 21.0 rigs in the comparable period in 2006. The average daily rate we received per rig of approximately $17,000, excluding revenues for related rental equipment and before intercompany eliminations was essentially unchanged from the comparable period in 2006. Our rig utilization rate was 91.0%, representing 826 stacked rig days in 2007. The decline in operating income was principally attributable to the increase in the number and working interest ownership in wells drilled for our own account.

 

Midstream Gas Services Segment

 

We provide gathering, compression, processing and treating services of natural gas in West Texas and the Piceance Basin in northwestern Colorado, primarily through our wholly-owned subsidiary, ROC Gas. Through our gas marketing subsidiary, Integra Energy LLC (“Integra Energy”), we buy and sell natural gas produced from our operated wells as well as third-party operated wells located on or near our gathering systems. Gas marketing revenue is one of our largest revenue components; however, it is a very low margin business. Substantially all of our marketing fees are billed on a per unit basis. On a consolidated basis, gas purchases and other costs of sales includes the total value we receive from third-parties for the gas we sell and the amount we pay for gas, which are reported as midstream and marketing expense. The primary factors affecting our midstream gas services are the quantity of gas we gather, treat and market and the prices we pay and receive for natural gas.

 

Midstream gas services revenue for the three months ended September 30, 2007 was $19.0 million compared to $29.3 million in the comparable period of 2006. Midstream gas services revenue for the nine months ended September 30, 2007 was $71.1 million compared to $91.2 million in the comparable period in 2006. The quarterly and nine month decrease in midstream gas services revenues is attributable to the increase in our working interest in the WTO as a result of the NEG and other acquisitions.

 

Other Segment

 

Our other segment consists primarily of our CO₂ gathering and sales operations and other investments. We conduct our CO₂ gathering and sales operations through our wholly owned subsidiary, PetroSource. PetroSource gathers CO ₂ from natural gas treatment plants located in West Texas and transports and sells this CO₂ for use in our and third-parties’ tertiary oil recovery operations.

Results of Operations

 

Three months ended September 30, 2007 compared to the three months ended September 30, 2006

 

Revenue.  Total revenue increased 71.4% to $153.6 million for the three months ended September 30, 2007 from $89.7 million in the same period in 2006. This increase was due to a $95.0 million increase in natural gas and oil sales and was partially offset by lower revenues in our drilling and oil field services, midstream gas services and other segments.