Empire Petroleum: A high-risk way to bet on oil prices (NYSE:EP)
Great empires are not held together by timidity. ― Tacitus
Today, we take a look for the first time at a small-cap power producer that has experienced rapid production growth and recently been the subject of insider buying. An analysis follows below.
Empire Petroleum Corporation (NYSE: EP) is an oil, natural gas and natural gas liquids based in Tulsa, Oklahoma [NGLS] production company with properties in New Mexico, North Dakota, Texas, Louisiana and Montana. Through the acquisition, the company increased its number of operating wells from 9 in 2018 to ~1,100 in YE21 and now has ~8.4 million barrels of proven developed producing oil reserves. Empire was founded in 1983 as Chambers Energy, listed on the OTC Pink Sheets in 1992, changed its name to Americomm Resources in 1995 and focused on mining before merging and taking the name of Empire Petroleum in 2001. nearly two decades with almost no production until a new management team was installed in 2018. Its stock moved to the US NYSE stock exchange on March 8, 2022 with its first trade executed at $15.48 per share. Empire now trades at around $16.00 per share, which equates to a market capitalization of around $350 million.
After accomplishing little in its many decades of existence, Empire onboarded CEO Thomas Pritchard in November 2017. Under his leadership, the company borrowed $1.2 million and acquired three primarily oil-producing properties spanning approximately 3,000 acres in Louisiana in 2H18, ending the year with nine gross revenues. and 8.1 net producing wells.
In 2019, Empire purchased two fields in South Dakota and Montana comprising 20,700 acres for a total consideration of $5.6 million, financed primarily through debt. These transactions brought its number of producing wells to 145 (120 operated) in YE19. Production of barrels of oil equivalent [BOE] increased from 6,302 in FY18 to 119,756 in FY19.
In 2020, the company took advantage of the pandemic to acquire property on the cheap, adding approximately 35,000 acres to its portfolio, including 30,397 acres and 139 raw pits in Texas. Its production increased to BoE 188,104 as its debt level only increased from $7.8 million in YE19 to $9.0 million in YE20.
Empire’s transformative acquisition took place in May 2021, when it purchased 40,000 net acres owned by production from 730 wells with an average working interest of 72% from Exxon Mobil (XOM) in May 2021. This property included the Eunice Monument and Arrowhead Grayburg fields in the Permian Basin of New Mexico and cost $17.9 million. The transaction was initially financed with debt, but was repaid with production revenue and the issuance of shares. Production for the year increased by 187% to 539,796 BoE.
The company then completed a 1-for-4 reverse stock split and listed on the NYSE American Exchange in March 2022. The following month, Empire added 2,482 net acres in North Dakota for $1.4 million. .
The Company’s strategy is to mitigate the steep decline curves and geologic risks associated with exploration and development of new wells by acquiring mature assets with slow-declining, long-lived production profiles at two to four times the cash flow. Empire then improves its production through field management techniques, such as sonic hammering (high frequency vibration to eliminate damage to the wellbore) and water injection, among others. It is also bringing inactive wells back into production on its acquired properties. In terms of revenue, the company’s oil/natural gas/NGL split in 1H22 was 80/8/12. Empire is trying to increase its production so that its overhead per BoE goes down significantly. To this end, it reduced its operating costs from $63.45 per BoE in 1H21 to $52.27 per BoE in 1H22. The 19% decline is a function of improved G&A costs as a percentage of production, reduced by 44% from $26.86 per BoE to $14.97 per BoE over the same period. The company still has some way to go, as general and administrative expenses in the oil industry are generally between the mid and high figures.
Most of its output is unhedged, what little there is in the form of out-of-the-money put option contracts on the price of West Texas Intermediate [WTI] crude oil to satisfy its bank debt covenants. As such, Empire has benefited from robust oil and gas prices throughout 2021 and 2022.
2Q22 results and outlook
This momentum was visible when the company released its 2Q22 financial statements on August 16, 2022. In its first full quarter as a US NYSE-listed company, Empire posted earnings of $0.24 per share (GAAP). ) and Adj. EBITDA of $8.1 million on revenue of $16.5 million versus a loss of $0.35 per share (GAAP) and Adj. Positive EBITDA of $3.3 million on revenues of $4.7 million in 2Q21, reflecting the benefit of higher raw material prices and its acquisition in New Mexico. Although daily production was actually down slightly quarter over quarter from 2,163 BoE (1Q22) to 2,159 (2Q22), Empire achieved a 26% sequential increase in revenue, the average price oil sold on the market fell from an already high level of $91.17 per barrel to $108.62 per barrel while natural gas prices jumped from 4.61 Mcf to 6.95 Mcf. Due to these favorable market undercurrents, Empire generated more revenue in HY22 ($29.6m) than in all of FY21 ($27.9m).
The company also announced that it will invest $10 million in its Starbuck field in North Dakota with an endgame of increasing production by more than 500 BoE per day and doubling the number of reserves in the YE22 field. . Expenses for this project will come from cash and management anticipates that it will be repaid in approximately one year. Between Starbuck and its other businesses, Empire expects to emerge from FY22 producing about 4,000 BoE per day, for an annual operating rate of about 1.5 million BoE.
Review and insider activity:
These favorable market conditions have also allowed the company’s balance sheet to be in an excellent position, holding cash of $12.4 million against debt of $8.2 million as of June 30, 2022. It also has approximately $0.3 million of cash available under a revolving credit facility. Still in its growth spurt, Empire pays no dividends and, with only 21.7 million closely held shares outstanding, it is not repurchasing any shares.
Due to its relatively new listing and very small market capitalization, Empire has no sell-side coverage.
Board member Phil Mulacek, representing the interests of beneficial owner Petroleum Independent & Exploration (PIE), is bullish on Empire shares below $12, after buying 138,135 shares of EP at a price average of $11.83 on September 16 and 19.
With essentially no hedging and a high cost structure, Empire is a high-risk way to bet on oil prices. It is currently taking advantage of the rise in oil prices to increase its production and reduce its cost structure without taking on more debt. And management seems to have a disciplined approach and is executing on their vision. That said, the market is not offering any sort of discount for its current high cost structure, trading at one EV/TTM Adj. EBITDA ~12 – and that includes two quarters where it sold oil (on average) at ~$100 a barrel. With oil currently nearing $90 a barrel, the value proposition becomes a bit more confusing. It’s not a blow to the company or its approach, just the course of its action. We will keep it on the radar with the hope of becoming more constructive as EV/EBITDA versus its cost structure and if the price of oil moves back above $100.
The temples of empires crumble, the names of the mighty forgotten. Here is a parable: power never lasts. -Cliff James