Leases

9 Months Ended

Sep. 30, 2019

Impact of ASC 842 adoption

Prior to January 1, 2019, the Company accounted for leases under ASC 840 and did not record any right-of-use assets or corresponding lease liabilities. Upon the adoption of ASC 842 on January 1, 2019, the Company recognized $22.1 million in operating lease right-of-use assets and $25.3 million in operating lease liabilities on the unaudited consolidated balance sheet for operating leases with a term greater than 12 months. The difference between the two balances of $3.2 million is mainly due to free rent and lease build-out incentives that were recorded as deferred lease liabilities under ASC 840. These deferred lease liabilities are subtracted from the right-of-use asset opening balance under ASC 842. The transition did not result in a material impact to the unaudited consolidated statements of operations nor was there a related impact to the unaudited consolidated statements of stockholders' equity.

The Company utilized the modified retrospective approach in adopting the new standard and applied the optional transition method as of the beginning of the period of adoption, along with the transition package of practical expedients, and implemented certain accounting policy decisions which include: (i) short-term lease recognition exemption, (ii) establishing a balance sheet recognition capitalization threshold, (iii) not evaluating existing or expired land easements that were not previously accounted for as leases under ASC 840 and (iv) accounting for certain asset classes at a portfolio level by not separating the lease and non-lease components and accounting for the agreement as a single lease component.

The Company determines whether a contract is or contains a lease at inception of the contract, based on answers to a series of questions that address whether an identified asset exists and whether the Company has the right to obtain substantially all of the benefit of the asset and to control its use over the full term of the agreement. When available, the Company uses the rate implicit in the lease to discount lease payments to present value; however, most of the Company's leases do not provide a readily determinable implicit rate. In such cases, the Company is required to use its incremental borrowing rate ("IBR"). The Company determines its IBR using both a "credit notching" approach and a "recovery method" approach. The results of these approaches are then weighted equally and averaged in order to determine the concluded IBR. This concluded IBR is utilized to discount the lease payments based on information available at lease commencement. There are no material residual value guarantees, nor any restrictions or covenants included in the Company's lease agreements.

Mineral leases, including oil and natural gas leases granting the right to explore for those natural resources and rights to use the land in which those natural resources are contained, are not included in the scope of ASC 842.

The Company has recognized operating lease right-of-use assets and operating lease liabilities on the unaudited consolidated balance sheet for leases of commercial real estate with lease terms extending into 2027 and drilling, completion, production and other equipment leases with lease terms extending through 2021. An additional drilling rig contract commenced subsequent to September 30, 2019, with a lease term extending into 2021. Accordingly, the Company will recognize an operating lease right-of-use asset and an operating lease liability on the unaudited consolidated balance sheet of $16.9 million on the drilling rig contract's commencement date. The Company has various other drilling, completion and production equipment leases on a short-term basis which are reflected in short-term lease costs.

The Company's lease costs include those that are recognized in net income (loss) during the period and capitalized as part of the cost of another asset in accordance with other GAAP.

The lease costs related to drilling, completion and production activities are reflected at the Company's net ownership, which is consistent with the principals of proportional consolidation, and lease commitments are reflected on a gross basis. As of September 30, 2019, the Company had an average working interest of 97% in Laredo-operated active productive wells in its core operating area.

Certain of the Company's leases include provisions for variable payments. These variable payments are typically determined based on a measure of throughput, actual days or another measure of usage. For our drilling rigs, the variable lease costs include the payments that depend on the performance or usage of the underlying asset, the costs to move and the costs to repair the drilling rigs. For certain of our commercial office buildings, utilities and common area, the variable lease costs are the variable maintenance charges. For our equipment leases, the variable lease costs are the amounts incurred under our contracts that are beyond the minimum rental fee, inclusive of maintenance.

The Company subleases certain office space to third parties but remains the primary obligor under the head lease. The lease terms on those subleases each contain renewal options that do not extend past the term of the head lease. The subleases do not contain residual value guarantees. Sublease income is recognized based on the contract terms and, upon the adoption of ASC 842, is included as a reduction of lease expense under the head lease.

Certain of the Company's operating lease right-of-use asset classes include options to renew on a month-to-month basis. The Company considers contract-based, asset-based, market-based, and entity-based factors to determine the term over which it is reasonably certain to extend the lease in determining its right-of-use assets and liabilities.

The Company's material leases do not include options to purchase the leased property.

The Company does not have any significant finance leases.

Lease costs

The following table presents components of total lease costs, net for the periods presented:



(in thousands)	Three months ended September 30, 2019			Nine months ended September 30, 2019
Operating lease costs⁽¹⁾	$	3,667		$	10,908
Short-term lease costs⁽²⁾	30,966			126,400
Variable lease costs⁽³⁾	604			2,376
Sublease income	(247		)	(741		)
Total lease costs, net	$	34,990		$	138,943

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(1)	Amounts represent straight-line costs associated with the Company's operating lease right-of-use assets.


(2)	Amounts include costs associated with the Company's short-term leases that are not included in the calculation of lease liabilities and right-of-use assets and, therefore, are not recorded on the unaudited consolidated balance sheets as such.


(3)	Amounts are primarily comprised of the non-lease service component of drilling rig commitments above the minimum required payments, and are not included in the calculation of lease liabilities and right-of-use assets. Both the minimum required payments and the non-lease service component of the drilling rig commitments are capitalized as additions to oil and natural gas properties.

Operating leases

Supplemental cash flow information

The following table presents cash paid for amounts included in the measurement of operating lease liabilities, which may not agree to operating lease costs due to timing of cash payments and costs incurred for the periods presented:



(in thousands)	Three months ended September 30, 2019		Nine months ended September 30, 2019
Operating cash flows from operating leases	$	1,467	$	4,291
Investing cash flows from operating leases⁽¹⁾	$	2,295	$	6,811

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(1)	Amounts associated with drilling operations are capitalized as additions to oil and natural gas properties.

Lease terms and discount rates

The following table presents the weighted-average remaining lease term and weighted-average discount rate for operating leases as of the date presented:



	September 30, 2019
Weighted-average remaining lease term	3.96 years
Weighted-average discount rate	8.33	%

Maturities

The following table reconciles the undiscounted cash flows for recognized operating lease liabilities for each of the first five years and the total remaining years to the operating lease liabilities recorded on the unaudited consolidated balance sheet as of the date presented:



(in thousands)	September 30, 2019
Remaining 2019	$	3,733
2020	6,808
2021	4,061
2022	2,580
2023	1,359
Thereafter	4,556
Total minimum lease payments	23,097
Less: lease liability expense	(3,682		)
Present value of future minimum lease payments	19,415
Less: current operating lease liabilities	(7,995		)
Noncurrent operating lease liabilities	$	11,420

Other information

See Note 11 for disclosure of supplemental non-cash adjustments information related to operating leases. See Note 15 for disclosure of related-party lease amounts.

Disclosure for the period prior to adoption of ASC 842

As of December 31, 2018, the Company leased office space under operating leases expiring on various dates through 2027. The following table presents future minimum rental payments required as of the date presented:



(in thousands)	December 31, 2018
2019	$	3,092
2020	3,179
2021	3,128
2022	2,560
2023	1,358
Thereafter	4,556
Total future minimum rental payments required	$	17,873

The Company has subleased certain office space with $5.9 million of total future minimum rentals to be received as of December 31, 2018. For the period prior to the adoption of ASC 842, rent income is included in "Other income, net" on the consolidated statements of operations.