Entity information:

• Entity registrant name: EARTHSTONE ENERGY INC
• CIK: 0000010254
• SEC filing page: http://www.sec.gov/Archives/edgar/data/10254/000156459018005824/0001564590-18-005824-index.htm
• XBRL Instance: http://www.sec.gov/Archives/edgar/data/10254/000156459018005824/este-20171231.xml
• XBRL Cloud Viewer: https://edgardashboard.xbrlcloud.com/flex/viewer/XBRLViewer.html#instance=http://www.sec.gov/Archives/edgar/data/10254/000156459018005824/este-20171231.xml
• EDGAR Dashboard: https://edgardashboard.xbrlcloud.com/edgar-dashboard/?cik=0000010254
• Generator: Donnelley Financial Solutions
• Total assets: 834,417,000
• Income tax expense (benefit): -16,373,000
• Found reconcilation from statutory to effective rates: True
• Found income tax policy: Coming soon!

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Note 16. Income Taxes

The following table shows the components of the Company’s income tax provision for the years ended December 31, 2017, 2016 and 2015 (in thousands):

 

Effective Tax Rate

Following the closing of the Bold Transaction, the Company continues to record an income tax provision consistent with its status as a corporation. The Company’s corporate structure requires the filing of two separate consolidated U.S. Federal income tax returns and one Canadian income tax return resulting from the Lynden Arrangement that includes Lynden US, Earthstone, and Lynden Corp. As such, taxable income of Earthstone cannot be offset by tax attributes, including net operating losses, of Lynden US, nor can taxable income of Lynden US be offset by tax attributes of Earthstone. Following the Bold Transaction, Earthstone and Lynden US record a tax provision, respectively, for their share of the book income or loss of EEH, net of the noncontrolling interest, as well as any standalone income or loss generated by each company. As EEH is treated as a partnership for U.S. Federal income tax purposes, it is not subject to income tax at the federal level and only recognizes the Texas Margin Tax.

A reconciliation of the effective tax rate to the statutory rate for the years ended December 31, 2017 and 2016 is as follows (in thousands, except percentages):

During the year ended December 31, 2017, the Company recorded a total income tax benefit of $16.4 million which was primarily driven by the change in valuation allowance associated with the Bold Transaction. For Lynden US, the Company recorded an income tax benefit of $8.6 million, of which $4.8 million related to the reduction of that amount in its deferred tax liability resulting from the federal corporate income tax rate reduction to 21% as described below. Additionally, the Company recorded an income tax benefit for Earthstone of $7.7 million which resulted from a change in assessment of the realization of its net deferred tax assets due to the deferred tax liability that was recorded with respect to its investment in EEH as part of the Bold Transaction as an adjustment to Additional paid-in capital within the Consolidated Balance Sheet. Additionally, Earthstone recorded income tax expense of $12.6 million related to the reduction of that amount in its deferred tax asset resulting from the federal corporate income tax rate reduction to 21% as described below, which was fully offset by the reduction in its valuation allowance for that amount because the future realization of such loss cannot be reasonably assured and is subject to a full valuation allowance.  

On December 22, 2017, the United States enacted tax reform legislation commonly known as the TCJA, resulting in significant modifications to existing law. Our consolidated financial statements for the year ended December 31, 2017, reflect certain effects of the TCJA, which includes the federal corporate income tax rate reduction to 21%. Consistent with Staff Accounting Bulletin No. 118 issued by the SEC, which provides for a measurement period of one year from the enactment date to finalize the accounting for effects of the TCJA, the Company provisionally recorded income tax expense of $7.8 million related to the TCJA. In accordance with SEC guidance, provisional amounts may be refined as a result of additional guidance from, and interpretations by, U.S. regulatory and standard-setting bodies, and changes in assumptions. In the subsequent period, provisional amounts will be adjusted for the effects, if any, of interpretative guidance issued after December 31, 2017, by the U.S. Department of the Treasury. The effects of the TCJA may be subject to changes for items that were previously reported as provisional amounts, as well as any element of the TCJA for which a provisional estimate could not be made, and such changes could be material.

The Company has made provisional computations of the impact of the TCJA as provided for under SAB 118, including transition tax on the mandatory deemed repatriation of foreign earnings and executive compensation limitations under Internal Revenue Code Section 162(m), among others. The Internal Revenue Service is expected to issue additional guidance clarifying provisions of the Act. As additional guidance is issued one or more of the provisional amounts may change.

The Company’s effective tax rate for the year ended December 31, 2016, was approximately (1.0)% which was less than the U.S. Federal statutory tax rate primarily due to both the recording of a $12.2 million valuation allowance as the realizability of the Company’s deferred tax assets is not more likely-than-not, and $6.0 million reduction of income tax benefit resulting from non-deductible impairment of goodwill.

A reconciliation of the effective tax rate to the statutory rate for the year ended December 31, 2015 is as follows (in thousands, except percentages):

 

The Company’s effective tax rate for the year ended December 31, 2015, was approximately 18.5% which was less than the U.S. Federal statutory tax rate primarily due to the increase in valuation allowance in 2015. The impairments recorded by the Company during 2015 reduced the book value of its properties below the tax basis; thereby, giving rise to a significant deferred tax asset associated with its oil and natural gas properties and putting the Company in an overall net deferred tax asset position prior to any realization assessment. The realizability of the Company’s deferred tax assets is not more likely-than-not, therefore the Company recorded a valuation allowance to reduce its overall net deferred tax asset portion to zero.

Deferred Tax Assets and Liabilities

The Company's deferred tax position reflects the net tax effects of the temporary differences between the carrying amounts of assets and liabilities for financial reporting purposes and the amounts used for income tax reporting.  Significant components of the deferred tax assets and liabilities at December 31, 2017 and 2016 are as follows (in thousands):  

 

As of December 31, 2017, the Company had a valuation allowance recorded against its deferred tax assets of $24.1 million which is in excess of its net deferred noncurrent tax assets of $13.6 million, as presented above. The Company’s corporate organizational structure requires the filing of two separate consolidated U.S. Federal corporate income tax returns, one separate U.S. Federal partnership income tax return and one Canadian income tax return. As a result, tax attributes of one group cannot be offset by the tax attributes of another. At December 31, 2017, the deferred tax assets and liabilities related to the two U.S. Federal corporate income tax returns and one Canadian income tax return are a $20.5 million deferred tax asset, an $8.5 million deferred tax liability and a $3.6 million deferred tax asset, respectively, before considering the valuation allowance of $24.1 million.

As of December 31, 2016, the Company had a valuation allowance recorded against its deferred tax assets of $39.6 million which is in excess of its Net deferred noncurrent tax assets of $23.8 million, as presented above. The Company’s corporate organizational structure requires the filing of two separate consolidated U.S. Federal income tax returns and one Canadian income tax return. As a result, tax attributes of one group cannot be offset by the tax attributes of another. At December 31, 2016, the deferred tax assets and liabilities related to the two U.S. Federal income tax returns and one Canadian income tax return are a $36.0 million deferred tax asset, a $15.8 million deferred tax liability and a $3.6 million deferred tax asset, respectively.

As of December 31, 2017, the Company had estimated U.S. net operating loss carryforwards of $49.1 million, the first expiring in 2034 and the last in 2037, and estimated Canadian net operating loss carryforwards of $10.0 million, the first expiring in 2024 and the last in 2036. The ability to utilize net operating losses and other tax attributes could be subject to a significant limitation if the Company were to undergo an ownership change for the purposes of Section 382 (“Sec 382”) of the Internal Revenue Code of 1986, as amended (the “Code”).  The Company has an additional estimated U.S. net operating loss carryforward of $28.0 million limited by Sec 382 resulting from the Lynden Arrangement. The Company continues to evaluate the impact, if any, of potential Sec 382 limitations.

Uncertain Tax Positions

FASB ASC Topic 740, Income Taxes (“ASC 740”) prescribes a recognition threshold and a measurement attribute for the financial statement recognition and measurement of income tax positions taken or expected to be taken in an income tax return. For those benefits to be recognized, an income tax position must be more-likely-than-not to be sustained upon examination by taxing authorities. As of December 31, 2017, the Company had no material uncertain tax positions. The Company’s uncertain tax positions may change in the next twelve months; however, the Company does not expect any possible change to have a significant impact on its results of operations or financial position.

The Company files two federal income tax returns, one Canadian income tax return and various combined and separate filings in several state and local jurisdictions. The Company’s practice is to recognize estimated interest and penalties, if any, related to potential underpayment of income taxes as a component of income tax expense in its Consolidated Statement of Operations. As of December 31, 2017, the Company did not have any accrued interest or penalties associated with any uncertain tax liabilities.