U.S. Energy Corp. (USEG) Q1 2023 Earnings Report, Transcript and Summary

Greetings. Welcome to U.S. Energy Corp. First Quarter 2023 Results Conference Call. [Operator Instructions] Please note, this conference is being recorded. I will now turn the conference over to Mason McGuire, Director of Corporate Development. Thank you. You may begin.

Thank you, operator, and good morning, everyone. Welcome to the U.S. Energy Corp.'s First Quarter 2023 Results Conference Call. Ryan Smith, our Chief Executive Officer, will provide an overview of our financial and operating results and discuss the company's strategic outlook. After the market closed yesterday, U.S. Energy issued a press release summarizing operating and financial results for the 3 months ended March 31, 2023. The press release, together with the accompanying presentation materials are available in the Investor Relations section of our website at www.usnrg.com. Today's discussion may contain forward-looking statements about future business and financial expectations. Actual results may differ significantly from those projected in today's forward-looking statements due to various risks and uncertainties, including risks described in our periodic reports filed with the Securities and Exchange Commission. Except as required by law, we undertake no obligation to update our forward-looking statements. Further, please note that non-GAAP financial measures may be disclosed during this call. A full reconciliation of GAAP to non-GAAP measurements are available in our latest quarterly earnings release and conference call presentation. With that, I would now like to turn the conference call over to Ryan Smith.

Thanks, Mason. Good morning, everyone, and thank you for your interest in U.S. Energy and for joining us today for our first quarter 2023 earnings call as the company has continued to carry forward into the first quarter, the strong operational momentum realized throughout 2022. During the first quarter, we sold approximately 91,300 barrels of oil and 384 million cubic feet of natural gas for a total of 155,000 barrels of oil equivalent or approximately an average of 1,726 BOE per day, a 29% increase over the first quarter of last year when we averaged 1,341 BOE per day. Specific to our regional focus areas, our Rockies production grew approximately 4% during the quarter. Our Mid-Con and East Texas assets grew approximately 14% and our West Texas and Gulf Coast assets grew approximately 8%. Unfortunately, our South Texas assets, specifically some of our highest margin properties in Karnes County experienced some significant downtime related to, I would say, normal, but unplanned well maintenance that was undertaken during the quarter, of which those wells have since come back online. Realized prices during the quarter before derivatives were approximately $77.70 per barrel of oil and $3.06 per Mcf of natural gas, or a blended cost of $53.25 per BOE, which was approximately 28% lower than our realized pricing in the prior period of $73.50 per BOE. This resulted in financial performance that was below that of the first quarter of last year despite significantly higher production volumes. Moving on to revenue. We recorded $8.3 million in the first quarter, down approximately 7% from the $8.9 million in the first quarter of last year, mostly driven by the previously mentioned pricing decline and 86% of our net sales came from oil. Turning now to more significant expense line items on the income statement. Our lease operating expense in the first quarter was approximately $4.5 million or $29.12 per BOE compared to $2.7 million or $22.66 per BOE in the prior year period. Our absolute LOE increased due to the acquisition of the additional producing properties in 2022, and our per unit cost increased primarily because of the unplanned maintenance on our South Texas properties which, of course, affected both production and the cost profile. Looking forward, we expect to recognize further operating cost efficiencies as we fully integrate all of the acquisitions that we made in 2022 into the portfolio, and we forecast LOE to average approximately $3.5 million per quarter or around the low $20 per BOE during 2023. Production taxes were about $0.5 million or $3.35 per BOE. Our tax rate as a percentage of revenue has held steady at approximately 6%. Our cash G&A, excluding share-based compensation, was approximately $2.0 million versus $1.4 million for the prior year period. The increased G&A expenses are due to the modest, but necessary additions to personnel that came with our acquisitions that were made throughout 2022. We expect G&A to average approximately $2 million per quarter in 2023 and management maintains focus on continuing to optimize that number moving forward. Looking at our adjusted EBITDA. U.S. Energy recorded $1.2 million in the first quarter compared to $4.1 million in the first quarter of 2022 as lower realized prices largely negated the 28% improvement in sales volumes. Quickly touch on our hedge book. We are approximately 50% hedged on our expected oil volumes in 2023, with the majority being collars, all with a weighted average floor of right around $60 per barrel. We did have some gas hedges that rolled off in the first quarter, so we are unhedged on gas moving forward. Where we sit now, we're comfortable with where our 2023 hedge program currently sits from a risk management perspective, and we will continue monitoring the Ford oil strip as we evaluate 2024. Under the assumption that we're in a pricing environment similar to the one that we are in today, the level of hedging we may do around any potential future acquisitions will likely be commensurate with the amount of debt capital used in that transaction. Touching briefly on our balance sheet. At quarter end, we had $12 million outstanding on our revolving credit facility and about $2.4 million of cash on hand. With an additional $8 million available under the revolver plus our cash, we had total liquidity of a little bit greater than $10 million. While we feel totally comfortable where our leverage profile stands today, we do continue to -- intend to continue paying down our outstanding balance with a portion of our free cash flow going forward. Now I would like to turn to our 2023 outlook, which is setting us the backdrop of macroeconomic uncertainty and the recent volatility in commodity prices. Since the start of the year, there's been a pullback in commodity prices with the 2023 and 2024 oil strips declining by 11% and 9%, respectively. All that to say that volatility is a fact of life in the energy business, and we have avoided the temptation to lever up chasing growth in the good times because we have all seen the other side of that. We're very cautious with our balance sheet, and that gives us a lot of assurance in the face of any potential recessionary environment that our capital-light, low-decline business model is the right one. With our health liquidity profile that we have, our low leverage balance sheet and our high-quality producing assets, we are positioned to capture significant value in an up-cycle environment, while remaining confident that we can successfully weather a downturn in commodity prices. While we do not put out official guidance, I would like to set some expectations as we head deeper into 2023. From an operation standpoint, we're very pleased with the performance of our producing assets. Given the conventional nature of these wells and their production history, our corporate decline rate is in the upper single-digit percentages. And what does that mean? It means our maintenance capital required to hold production flat is minimal, and it can easily be funded from a portion of the company's free cash flow at current and significantly lesser commodity prices than we're experiencing today. So based on our current assets, we expect capital expenditures of approximately $5 million during 2023, which reflects investments in various highly economic return-to-production opportunities that we have throughout the portfolio as well as infrastructure investments to optimize the daily operating cost structure of several existing assets. As I mentioned earlier, we do expect to see continued improvement in lease operating expenses, driving that line item continuously down to a steady run rate in the low $20 per BOE, generally flat production taxes and flat improving cash G&A throughout 2023. While running a bare-bones business would definitely lower our G&A run rate, I do think it should be noted that the company is expected to realize true cost synergies around future asset acquisitions with the current professionals we have that make up our workforce right now. And finally, let me spend a couple of minutes on the strategic outlook for our business. Our priorities are threefold. First, we operate our assets and allocate our investors' capital responsibly. This means we take environmental stewardship seriously and are proud of where and how that we work, and we acknowledge that every dollar invested must have a positive return. Second, we smartly allocate that capital to primarily grow the company through acquisitions, understanding that increased scale brings both production and cost efficiencies and ultimately, a more profitable business. We've already seen the rewards of the strategy in 2022 with significant increases to improve reserves value, cash flow and the company's operating margins. And third, we're committed to returning capital to shareholders both through a sustainable dividend and our recently announced $5 million share repurchase program. Two initiatives that I believe demonstrate the underlying strength in the business and the company's Board's determination to create long-term value for our shareholders. We believe that our strategy has resulted in a significant increase to the underlying value of the company. Thanks to strategic acquisitions and targeted development activities over the past 18 months on our existing acreage. We've increased proved developed producing reserves to 7.8 million BOE from just 1.4 million BOE and have seen the value of those reserves increase 13x to $173 million at year-end SEC pricing over the same time period, far above our current enterprise value. While the M&A market has been challenging and may continue to be given the economic uncertainties, I have great confidence in our ability to drive value no matter the environment. U.S. Energy has a motivated and disciplined team of professionals, an extensive network in the oil and gas community and a mandate to strategically grow the company. We offer our potential partners a strong balance sheet, the ability to evaluate and close quickly and a proven track record of value creation along with a post-deal history of quality asset stewardship. We fully believe that the continuous and efficient growth of the company is achievable, and we focus on that task every single day. I want to thank you all again for your interest and your support of U.S. Energy. We believe we offer a unique value proposition to those looking for exposure to the current energy cycle, of which we believe we're in the early innings. There's no other public oil and gas producer of our size who offers the balance sheet strength and the downside risk protection with the growth trajectory that we do. Management, along with the rest of our team, are highly incentivized to create, maintain and grow shareholder value, and that mandate remains at the forefront of every decision that is made at the company. With that, operator, I'll turn it over to Q&A.

[Operator Instructions] Our first question is from Charles Meade with Johnson Rice.

Ryan, I want to go back to what you said in your prepared comments about the downtime in Karnes County. I think you -- I think -- I like the way you framed it. It was normal, but not expected. Can you give a little bit more detail on what the nature of the work that was needed? And really what I'm aiming at is whether this is a kind of a onetime fix that we're not going to have to handle again or whether this is -- this could be the kind of thing that crops up again.

Yes. No, great question. So I would say it's more of the former. So our -- digressing just a little bit on the question. As you know, our asset base is highly conventional older wells that we've acquired, and we clean up and lower costs. To that point, right, like what is probably the #1 thing that we focus on right outside of cost, it's run time. We've done a great job keeping run time up. We're always going to have a percentage of wells go down. I would say this quarter has been -- this past quarter has been as good as any quarter that we've had. Unfortunately, the wells that went down were our highest producers in Karnes County and also Liberty County. So it was nothing that was unexpected in terms of like, oh, we have some tubing issues or, oh, we need to pull something out of the hole and check it out as much as it was like standard work, I could probably dive into likely LOE question on how we're seeing services in this comment as well. But -- so the expected -- they're expected to go down once every 18 months or so, hopefully. The unexpected is once you kind of cross that 12-month mark, you know it's coming. You just don't know exactly when it's coming. So we don't expect these higher interest wells to need maintenance for quite a while now. If our run rate stays the same in terms of run time on these wells, I would expect our production to increase naturally and then on a look-back basis on an annual, probably come out in the wash on what we were kind of originally looking at pre first quarter.

Got it. So I think you kind of anticipated my second question there, which is all -- should we expect a sequential increase in 2Q production? I mean, we think that -- I'm really interested to talk about just what happens in 2Q, but the -- what it indicates for the trajectory overall. But we should be looking for a small increment in 2Q?

I do. I do. Another way to put it would be -- the quarter-over-quarter decrease had nothing to do with like changing of type curves or underperformance. It was just well maintenances issues on high revenue properties. So once those -- they're all back online now. So I think that's a fair assumption.

Got it. Maybe 1 other and then I'll see if there's anyone else in the queue. But some other companies who are on the acquisition hunt right now have said that their opportunity set is as good as it's been in years. And I'm curious what it looks like -- what the opportunity set looks like from your seat?

Yes. No. So I definitely see where people are coming from with that comment, and I kind of agree. I mean, there's kind of a caveat, I'll hit the positive points first. I would say a lot of the deals that went off, of course, not all the deals, but I would say, especially related to U.S. Energy, a lot of the deals that have gone off, call it, in 2021 and maybe early '22 were guys that needed to sell, again, not all of them, but when you solve the 24 months, 30 months type of cash flow deals, those usually were people that in some form or fashion were kind of distressed and you can get stuff done. And then what we're seeing now is after a major slowdown over, call it, ballpark the last 6 months is a whole lot of deals that hit the market a year ago, I mean, literally, like decks with April 2022 dates on them, when we were first on the Russia-Ukraine spike and everybody ran to the market to try to monetize their assets, right? They weren't in distressed. They were just opportunistically selling. There was so much volatility during that time that most of those deals did not make. They pulled their assets back, which ran them -- cash flow them. And a lot of those guys, they're back in the market, right? They're not distressed sellers, but they're opportunistic sellers. There, we see it a lot with private companies like true privates, not kind of portfolio companies. And then again, we also see a lot of portfolio companies and what I'll call unnatural equity holders, i.e., debt funds that through the cycle of -- ended up owning equity. And these guys have a mandate to do something with these portfolio companies. So I think the opportunity set at least from U.S. Energy's perspective is definitely robust, and we see a lot of deals. Capital is still scarce. There's no doubt. I would say that would be the hindrance to most of these transactions. Of course, everybody knows rates have gone up, and that's complicated everything. We've seen very, very big public hiccup in the banking markets. The really big banks are kind of very, very tough to have relationships and access with. So that leaves the vast majority of the small cap world in the regional and smaller commercial banking environment. And while that's, I would say, very strong right now, and it's strong at the beginning of this year, as I've seen it in quite a while, there's a finite amount of that kind of debt capital, keep your balance sheet sub-1x levered type of groups out there. So the opportunity set is robust. The challenge, which I think we're very good at is sourcing the capital in a smart accretive way that doesn't blow up your balance sheet.

Our next question is from Ignacio Bernaldez with EF Hutton.

You mentioned on the call more infrastructure investments in 2023. If you could just kind of give us some more color on how we should be thinking about the impact of that and CapEx spend overall. That would be really helpful.

Yes. So I would -- I'll answer the second part first. I think that we've kind of told the market that we have about a $5 million expected CapEx spend this year. I believe we were a hair below that on our run rate for the first quarter, but very close to that. And I think we're confident on that number. What does that $5 million give us? That $5 million gives us our production staying flat, because of the low decline nature of the asset base, which I know wasn't your question. And secondly, it does allocate some capital to what we're calling infrastructure investments. On some of our gassier assets, there was probably some more work that we could have done, and I'll get into that a little bit, that the price drop really doesn't make sense right now. And then there's some stuff that make sense to matter of the price environment. And it kind of goes into like the cost inflation question and what are we seeing. In some costs, we're seeing flattening and even a pullback. It's -- a lot of it is geographic driven, but on certain pipe and certain -- just wellbore and other ancillary equipment, they don't really teach this in economics class, but the prices have stabilized. The availability is still a little bit rocky, but we're in a much better situation there than we were a while back, where we see the biggest, I'll call it, waste of money is in rental equipment. A good example would be like a compressor in East Texas. And I'm going to get ballpark and numbers for you, they're close enough to accurate size and performance and price of compressors can range the full spectrum. But if we're renting -- if we buy an asset and we're renting a compressor, the legacy person is renting a compressor for $100,000 a month. And we can buy the compressor for $1 million, right? Like, corporate finance will tell you, you should do that deal. But that's a big number, right? I don't want to part with the $1 million. There's other stuff we can do to -- with that money. But again, it will make sense. It lowers our LOE very significantly because that original rental cost gets buried into LOE. So that CapEx number kind of circling back that I mentioned at the beginning, I think we're still comfortable with that number, and that's a maintenance production to keep our production profile flat. And about, I would say, 20% of that number, maybe a little bit less is going to infrastructure investments that are really low-hanging fruit, simple type of projects from an engineering perspective, not pipeline, et cetera, type of things. Compressor either acquiring it or acquiring a new one and installing it, is stuff that the folks here can do pretty easily.

There are no more questions at this time. This will conclude today's conference. You may disconnect your lines at this time, and thank you for your participation.