Approach Resources Inc. – Following $115.5mn Asset Sale to Zarvona, Court Confirms Liquidation Plan of Former Unconventional E&P

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December 16, 2020 – The Court hearing the Approach Resources cases confirmed the Debtors’ Second Amended Plan of Liquidation [Docket No. 712].

On November 18, 2019, Approach Resources Inc. and six affiliated Debtors (NASDAQ Global Select: AREX, “Approach” or the “Debtors”) filed for Chapter 11 protection with the U.S. Bankruptcy Court in the Southern District of Texas, lead case number 19-36444. At filing, the Debtors, who engaged in the exploration, development, production and acquisition of unconventional oil and gas reserves in the Midland Basin of the greater Permian Basin in West Texas, noted estimated assets between $100.0mn and $500.0mn; and estimated liabilities between $100.0mn and $500.0mn. The Debtors’ 2018 10-K lists assets of almost $1.1bn, although this is almost entirely comprised of oil and gas properties and valued using the “successful efforts method of accounting,” and liabilities of $494.5mn, comprised principally of (i) the Debtors’ Senior Secured Facility due 2020 (the “Senior Secured Facility,” $300.5mn), (ii) the Debtors’ 7% Senior Notes due 2021 (the “Senior Notes,” $84.5mn) and (iii) deferred income tax obligations ($77.8mn). In a subsequently filed Schedule A/B, the lead Debtor noted $1.7bn of assets and $1.1bn of liabilities [Docket No. 119].

Plan Overview

The Debtors' memorandum of law in support of Plan confirmation [Docket No. 707], provides: "Throughout the Cases, the Debtors have successfully built consensus among their stakeholders and parties in interest to facilitate the sale of substantially all of the Debtors’ assets and maximize distributions to all creditors and parties in interest, which resulted in receiving overwhelming support for the Plan from the Voting Classes. At the outset of these Cases, the Debtors conducted a robust marketing and sale process, which, despite turbulent economic conditions, including a steep decline in commodity prices, the crumbling of the initial sale, and the onset of a global pandemic, culminated in a sale of substantially all of their assets for $115.5 million

Immediately following the closing of the sale, the Debtors made a $100 million adequate protection payment to their pre- and postpetition secured lenders, as authorized by this Court. Although the Prepetition Secured Claims were entitled to subsume all remaining assets of the Debtors’ Estates, the Debtors negotiated vigorously to provide a recover for unsecured creditors in the form of a ‘gift’ of up to $1.8 million (net of certain claims and administrative costs as provided in the Plan), thereby providing a distribution to such unsecured creditors when there otherwise would have been none. As such, the Debtors seek to confirm a chapter 11 Plan, wind down remaining operations, dissolve corporate forms, and make final distributions to creditors.

The Disclosure Statement provides [Docket No. 662]: “On September 30, 2020, the Debtors closed the sale of substantially all of their assets to the Purchaser pursuant to the Sale Order. The Plan, among other things, appoints a Plan Administrator to, among other things, wind down the Debtors’ limited remaining operations and distribute the remaining proceeds of the Debtors’ assets in the manner specified in the Plan. Under the Plan, a Plan Administrator will be appointed to oversee the Wind Down and to resolve and compromise Claims. The Plan provides that the Plan Administrator shall, subject to the Agent’s consent, complete the winding up of the Debtors as expeditiously as practicable under applicable law, and empowers and directs the Plan Administrator to take such actions as may be necessary to effect the dissolution of the Debtors.”

The following is an updated summary of classes, claims, voting rights and expected recoveries (defined terms are as defined in the Plan and/or Disclosure Statement):

  • Class 1 (“Priority Non-Tax Claims”) is unimpaired, deemed to accept and not entitled to vote on the Plan. The aggregate amount of claims is $0 and estimated recovery is 100%.
  • Class 2 (“Prepetition Secured Claims”) is impaired and entitled to vote on the Plan. The aggregate amount of claims is $307,418,000 (allowed amount $297,026,070) and estimated recovery is 27.5%. Treatment: The Prepetition Agent shall receive, on behalf of the Holders of the Prepetition Secured Claims: (a) on the Effective Date, from the Debtors, following payment of the DIP Facility Claims in full, all Available Cash, up to an amount necessary to satisfy the Prepetition Secured Claims in full, except for any portion of such Available Cash transferred by the Debtors to fund the Post-Effective Date Agent Professional Retainers and the Wind-Down Budget to fund (i) the Budgeted Claims Reserve, (ii) the Professional Fee Claims Reserve and (iii) the Gift Reserve; and (b) beginning on the first calendar quarter following the Effective Date, and continuing on at least a quarterly basis thereafter, the Plan Administrator shall pay all Available Cash in excess of the amounts in the Distribution Reserve Accounts then remaining to be paid in accordance with the Wind-Down Budget, up to an amount necessary to satisfy the Prepetition Secured Claims in full. All Assets vesting in the Post-Effective Date Debtors, other than Available Cash transferred to the Gift Reserve and the Professional Fee Claims Reserve, shall be subject to the Liens of the Prepetition Agent; provided, however, that such Liens shall be retained for defensive purposes only to entitle the Prepetition Agent to enforce the Distribution and other terms of the Plan; provided, further, however, that the Prepetition Agent shall not foreclose upon such retained Liens unless a Final Order is entered finding that (i) a Plan Default occurred (including if any collateral is sought to be used in a manner inconsistent with the Plan) and (ii) such default was not cured in accordance with the Plan.
  • Class 3 (“Miscellaneous Secured Claims”) is unimpaired, deemed to accept and not entitled to vote on the Plan. The aggregate amount of claims is $0 and estimated recover is 100%.
  • Class 4 (“Class 4 GUC Claims”) is impaired and entitled to vote on the Plan. The aggregate amount of claims is $92,471,000 (allowed amount $87,775,890) and estimated recovery is 1.84% – 1.95%. Treatment: Each Holder shall receive its Pro Rata share of (i) the Gift Reserve, following payment of all other Claims and other amounts entitled to receive payment from the Gift Reserve under the Plan, and, (ii) following the indefeasible payment in full of all Prepetition Secured Claims, all remaining Available Cash. “Gift Reserve” means the Distribution Reserve Account established for the Gifted Amount and “Gifted Amount” means $1,800,000 of Available Cash.
  • Class 5 (“Intercompany Claims”) is impaired, deemed to reject and not entitled to vote on the Plan. The aggregate amount of claims is N/A and estimated recovery is 0%.
  • Class 6 (“Interests”) is impaired, deemed to reject and not entitled to vote on the Plan. The aggregate amount of interests is N/A and estimated recovery is 0%.

Asset Sale

On September 15, 2020, the Court issued an order authorizing the Debtors to enter into a $115.5mn asset purchase agreement (“APA”) with Houston-based Zarvona III-A, L.P.’s (“Zarvona” or the “Buyer”) for the sale of substantially all of the their assets [Docket No. 605]. The Zarvona APA was attached to the order as Exhibit 1. The Zarvona transaction closed on September 30th.

In a firts failed sales effort, the Debtors were jilted at the Section 363 altar by Alpine Energy Acquisitions, LLC (an affiliate of Alpine Energy, "Alpine," $195.5mn offer) in March of 2020. For Alpine, a joint venture formed in September 2019 between Sam Zell’s Equity Group Investments (“EGI”) and Tom Barrack's (he of Trump confidante fame) Colony Capital, Inc. (NYSE: CLNY or “Colony”), the $115.5mn price tag probably reinforces their view that they made the right call, even after paying the Debtors a $22.0mn settlement in respect of the failed $195.5mn deal.

The Debtors' Zarvona sale motion states, “On March 4, 2020, when this Court approved the sale of the Assets to Alpine (the ‘Alpine Sale’), the Debtors were on track to close the sale and consummate a chapter 11 plan in accordance with the Milestones. On March 26, 2020, however, Alpine provided a notice to the Debtors purporting to terminate the Alpine Sale. The Debtors vigorously disputed Alpine’s alleged grounds for termination, and litigation ensued.

While the Debtors ultimately were able to settle the Alpine litigation in a manner which generated settlement proceeds greater than $22 million for their estates, the resolution of the Alpine litigation took more than three months and resulted in the termination of the Alpine Sale. As a result, months into their Chapter 11 cases, the Debtors were required to begin anew their search for a sale and/or reorganization alternative which would maximize value for all stakeholders. Due to the high costs of a chapter 11 process, and constraints on Debtors’ liquidity, the Debtors, in consultation with the Lenders, began to work on a dual-track process to provide the Debtors with the flexibility to either sell their assets to a third-party buyer (after a marketing process described in more detail below) or to effectuate a debt-for-equity restructuring using the equity in the reorganized Debtors as the currency for distribution to creditors under the Plan."

Prepetition Capital Structure

  • Senior Secured Credit Facility – The Debtors are party to a $325.0mn, May 2014 credit agreement (the “Prepetition Credit Agreement”), with JPMorgan Chase Bank, N.A., as an Issuing Bank and as Administrative Agent (the “Prepetition Agent”) and other lenders thereto. As of the Petition date, approximately $322.0mn is outstanding under this facility.
  • 7.00% Senior Notes – Debtor Approach is party to a senior indenture dated June 11, 2013 (Wilmington Trust, National Association, as trustee), further to which Approach issued $250.0mn aggregate principal amount of the Senior Notes in a public offering. The Senior Notes are fully and unconditionally guaranteed on a senior unsecured basis by each of Approach’s subsidiaries. Subsequent exchange transactions have reduced the amount of outstanding principal on the Senior Notes such that, as of the Petition date, approximately $85.2mn in principal amount remains outstanding. The Debtors estimate Wilks Brothers, LLC and its affiliates (collectively “Wilks”) holds approximately $62.3mn of those outstanding Senior Notes. 
  • Common Equity – As of the Petition Date, there were 93,630,390 shares of Common Stock issued and outstanding. The Common Stock currently trades on the OTC Pink marketplace. Previously, the Common Stock traded on the Nasdaq Global Select Market. Based on the most recent Schedule 13D/A filing of Wilks, as of the Petition Date, Wilks owns approximately 48% of the outstanding Common Stock, and senior management of the Company owns approximately 1% of the outstanding Common Stock.

DIP Financing

On December 13, 2019, the Court hearing the Approach Resources cases issued a final order authorizing the Debtors to access $41.25mn of debtor-in-possession (“DIP”) financing and (ii) use cash collateral [Docket No. 110]. The DIP financing consisted of (a) revolving DIP loans in an amount not to exceed $16.5mn (the “Revolving DIP Loans”) and (b) the roll-up of $24.75mn of the Debtors’ pre-petition $325.0mn senior secured facility (the “Roll-Up Loans”). On November 20th, the Court issued an interim DIP financing order which gave the go ahead on use of cash collateral [Docket No. 32], with the go ahead as to the Revolving DIP Loans and the Roll-Up Loans having to wait until the final DIP order.

Voting Results

The claims agent notified the Court of the Plan voting results [Docket No. 699], which were as follows:

  • Class 2 (“Prepetition Secured Claims”): 8 claim holders, representing $259,782,048.34 in amount and 100% in number, accepted the Plan.
  • Class 4 (“Class 4 GUC Claims”): 33 claim holders, representing $77,581,105.85 (or 99.51%) in amount and 84.62% in number, accepted the Plan. 6 claim holders, representing $383,001 (or 0.49%) in amount and 15.38% in number, rejected the Plan.

Events Leading to the Chapter 11 Filing

In a declaration in support of the Chapter 11 filing (the “Krylov Declaration”), Sergei Krylov, the Debtors' Chief Executive Officer, detailed the events leading to the Debtors’ Chapter 11 filings. The Debtors' "tale of woe" is now abundantly familiar: Lower commodity prices have resulted in lower revenues and lower levels of exploration that inevitably follows, the two feeding off of each other in a downward cycle and eventually resulting in breaches under existing credit agreements and an inability to make scheduled interest payments (much less principal). Perhaps the most striking comment in this particular iteration of the E&P narrative is the Debtors' frank admission that "prices for oil, gas and NGLs will remain volatile, and below previous highs, for the foreseeable future."

The Krylov Declaration states: "Primarily, the Debtors’ business has been impacted, along with many producers in the United States oil and gas industry, by the prolonged and continuing period of commodity price decline and subsequent volatility, which began in November 2014 and is continuing through the Petition Date. These macroeconomic factors, combined with the Company’s pre-existing debt levels and debt service costs, have resulted in decreased drilling activity and decreasing production, which in turn led to higher leverage metrics and the Company’s breach of certain financial covenants contained in its revolving credit facility. 

This track record of volatility appears to indicate that prices for oil, gas and NGLs will remain volatile, and below previous highs, for the foreseeable future. The magnitude of these price declines, as well as the slow pace and volatility of recovery, materially and adversely impacted the results of the Debtors’ operations and led to substantial reductions in the Debtors’ drilling program. 

Each year since 2016, the Debtors operated a significantly reduced drilling schedule in an attempt to more closely align capital expenditures with cash flows. This reduced drilling activity has led to a decline in production, as Approach has not drilled and completed enough wells to fully offset natural production decline. The decrease in the price of oil, natural gas and NGLs, along with the natural decline in production and limited new drilling activity, resulted in a significant reduction in the Debtors’ revenue and EBITDAX, which declined approximately 56% and 69%, respectively, from the twelve months ended December 31, 2014 to the twelve months ended December 31, 2018. 

Measured as of March 31, 2019 (and continuing through the Petition Date), Approach was not in compliance with the consolidated interest coverage ratio and consolidated total leverage ratio financial covenants under the Prepetition Credit Agreement, which represents an event of default under the Prepetition Credit Agreement.

Because of this default, the entire outstanding balance under the Prepetition Credit Agreement was classified as a current liability on the Company’s balance sheet as of June 30, 2019. 

On May 9, 2019, the Debtors entered into a Limited Forbearance Agreement (the ‘Forbearance Agreement’) with certain lenders named therein (the ‘Consenting Lenders’) and JPMorgan Chase Bank, N.A., as an Issuing Bank and as Administrative Agent, with respect to the Prepetition Credit Agreement. The Forbearance Agreement was amended 9 times to extend the termination date, but expired on October 28, 2019. 

On September 16, 2019, and September 30, 2019, to preserve liquidity, Approach did not make its scheduled interest payments under the Prepetition Credit Agreement. As of the Petition Date, the Debtors lacked sufficient liquidity to satisfy their ongoing payment obligations under their debt documents. Moreover, in the absence of access to capital, the Debtors will soon lack sufficient liquidity to fund ordinary course operations, to maintain the value of their assets and to pay ongoing costs related to their restructuring efforts."

Key Documents

The following documents were attached to the Disclosure Statement [Docket No. 662]:

  • Exhibit A: The Plan
  • Exhibit B: Liquidation Analysis
  • Exhibit C: Proposed Disclosure Statement Order
  • Exhibit D: Wind-Down Budget

The Debtors' Plan Supplement attached the following documents [Docket No. 689]:

  • Exhibit A: Identity and Proposed Compensation of the Plan Administrator
  • Exhibit B: Form of Plan Administrator Agreement
  • Exhibit C: List of Assumed Executory Contracts and Unexpired Leases and Proposed Cure Amounts
  • Exhibit D: Wind-Down Budget

Summary of Recoveries and Liquidation Analysis (see Exhibit B of Disclosure Statement [Docket No. 662] for notes)

About the Debtors

The Debtors, a Delaware corporation headquartered in Fort Worth, Texas, are an independent exploration and production company focused on the acquisition and development of U.S. onshore oil and natural gas resources. Approach Oil & Gas Inc., a Delaware corporation (“AOG”), and Approach Operating, LLC (“Approach Operating”), Approach Delaware, LLC (“Approach Delaware”), Approach Services, LLC (“Approach Services”) and Approach Midstream Holdings LLC (“Approach Midstream”), each a Delaware limited liability company, are wholly-owned subsidiaries of Approach. Approach Resources I, LP (“Approach LP”) is a Texas limited partnership with Approach Operating holding a 1% general partnership interest and Approach Delaware holding a 99% limited partnership interest.

The Debtors engage in the exploration, development, production and acquisition of unconventional oil and gas reserves in the Midland Basin of the greater Permian Basin in West Texas, where the Debtors leased approximately 113,000 net acres as of the Petition Date. Approach is a holding company with no independent assets or operations. All of the Debtors’ oil and gas leases are held by AOG and Approach LP. All of the Debtors’ employees are employed by Approach Operating, and the Debtors’ assets are operated by Approach Operating. Approach Operating manages substantially all of the Debtors’ receipts and disbursements. Approach Midstream, Approach Delaware and Approach Services currently perform no material services, and hold no material assets.

Prepetition Corporate Structure Chart

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