EMPIRE PETROLEUM CORP annual report, FY2023

Empire Petroleum Corporation: FY2023 Form 10-K Summary

Business Context and Reporting Period

Empire Petroleum Corporation is a single-segment independent oil and natural gas company focused on optimizing developed assets, reducing operating costs, acquiring proved developed producing properties, and developing reserves in the United States. Operations are concentrated in New Mexico, North Dakota and Montana, Texas, and Louisiana.

This Form 10-K covers the fiscal year ended December 31, 2023, with comparative information for 2022. The filing is an annual report rather than a quarterly report, although the request references 2023 Q4.

Common stock: NYSE American, ticker EP.
Approximately 1,000 gross and 710 net producing and injection wells at year-end.
50 full-time employees at December 31, 2023.
The Starbuck Drilling Program began in North Dakota in the fourth quarter of 2023; five wells were producing as of the filing date.

Financial and Operating Metrics

Metric	2023	2022	Change
Total revenue	$40.1 million	$52.9 million	Down 24%
Product revenue	$40.1 million	$53.2 million	Down 25%
Operating income (loss)	$(11.6) million	$8.8 million	Down $20.4 million
Net income (loss)	$(12.5) million	$7.1 million	Down $19.6 million
Basic and diluted EPS	$(0.55)	$0.34 basic; $0.30 diluted	Declined to a loss
Operating cash flow	$(9.9) million	$18.1 million	Down $27.9 million
Investing cash flow	$(14.8) million	$(11.4) million	More investment
Financing cash flow	$20.5 million	$1.7 million	Up $18.8 million
Cash at year-end	$7.8 million	$11.9 million	Down $4.2 million

Approximate operating and net margins were negative 29% and negative 31%, respectively, based on total revenue. The filing does not present adjusted EBITDA or a comparable non-GAAP margin measure.

Net sales volume was 766,261 Boe, down from 789,568 Boe in 2022.
Oil volume increased to 487,869 barrels from 482,818 barrels. Natural gas volume declined to 854,274 Mcf from 875,647 Mcf, and NGL volume declined to 136,013 barrels from 160,809 barrels.
Average realized prices declined to $75.19 per oil barrel, $2.02 per Mcf of natural gas, and $12.21 per NGL barrel, compared with $93.16, $5.18, and $22.76, respectively, in 2022.
Total lease operating expense increased to $28.6 million from $23.6 million. Workover expense was approximately $12.0 million versus $7.9 million in 2022.
General and administrative expense, excluding stock-based compensation, increased to $12.0 million from $9.6 million; stock-based compensation was $3.1 million versus $2.7 million.
No impairment was recorded in 2023, compared with a $936,000 impairment charge in 2022.
Capital expenditures and acquisitions incurred were approximately $27.1 million, including $25.1 million of development spending and $2.1 million of acquisitions.

Liquidity, Debt, and Capital Structure

Working capital was negative $6.3 million at December 31, 2023, compared with positive $5.1 million in 2022, primarily because of payables related to the Starbuck Drilling Program.
Total debt was $5.7 million, consisting primarily of $4.5 million outstanding under the Equity Bank credit facility and $1.1 million owed under a related-party note.
The Equity Bank facility had a $10.0 million initial commitment, approximately $5.5 million of unused availability at year-end, and a final maturity date of December 29, 2026. Borrowings bear interest at prime plus 1.50%, subject to a minimum rate of 8.50%.
The company was not in compliance with the credit facility’s 1.0-to-1.0 current-ratio covenant at year-end, but obtained a lender waiver on March 27, 2024. Other stated covenants were in compliance at December 31, 2023.
Management stated that cash flows from operations were insufficient to cover near-term capital-spending-related payables and that additional financing was required.
In March 2024, the company commenced a rights offering, with gross proceeds expected to be up to approximately $20.66 million after reducing the subscription price to $5.00 per share. The two largest stockholders, collectively holding approximately 46% of common shares, indicated an intent to participate and exercise oversubscription rights.
On February 16, 2024, the company received a $5.0 million related-party note from Energy Evolution. The note bears interest at 7%, matures February 15, 2026, and is convertible at the holder’s option at $6.25 per share.
Management concluded that the planned financing actions alleviated substantial doubt about the company’s ability to continue as a going concern for at least 12 months from issuance of the financial statements.

Material Changes Versus 2022

Commodity price deterioration was the primary driver of the revenue decline, particularly for natural gas and NGLs.
Operating results shifted from $8.8 million of operating income and $7.1 million of net income in 2022 to an $11.6 million operating loss and $12.5 million net loss in 2023.
Operating cash flow changed from a $18.1 million inflow to a $9.9 million outflow.
Lease operating expense rose 21%, primarily due to increased workover activity and compliance-related work in New Mexico.
Oil and gas properties, net, increased to $70.5 million from $43.9 million as the company accelerated North Dakota development.
Proved developed reserves declined to 9.1 MMBoe from 13.2 MMBoe. Oil reserves declined to 6.9 MMBbls from 8.8 MMBbls, natural gas to 6.1 Bcf from 12.9 Bcf, and NGLs to 1.2 MMBbls from 2.3 MMBbls. The filing attributes the 2023 reserve revisions primarily to lower prices.
Asset retirement obligations increased to $28.2 million from $25.0 million, reflecting revisions to plugging and abandonment cost estimates, particularly in New Mexico.
Common shares outstanding increased to 25.5 million from 22.1 million, principally through related-party debt conversions, private issuances, warrant exercises, and stock-based compensation.
The previously disclosed material weakness in internal control over financial reporting was reported as fully remediated as of December 31, 2023. The company’s independent auditor was not required to provide an internal-control attestation because Empire is a smaller reporting company.

Outlook, Commentary, Risks, and Unusual Items

Management expects 2024 progress in the Starbuck Drilling Program. EOR development is anticipated to begin in the second quarter of 2024, with a targeted meaningful production increase beginning as early as the second half of 2024.
Future capital expenditures are expected to be funded through cash on hand, operating cash flow, debt, and/or equity issuances. The filing provides no formal production or earnings guidance.
Key risks include volatile oil, gas, and NGL prices; declining production and reserves; limited liquidity; credit covenant compliance; reliance on additional equity or related-party financing; variable-rate debt; and the ability to execute the rights offering.
Operations and reserves are geographically concentrated, and production depends on third-party gathering, processing, transportation, and purchasers. Three customers accounted for approximately 70% of 2023 oil, gas, and NGL revenue.
Environmental, methane, climate-related, permitting, plugging and abandonment, and other regulatory requirements could increase costs or restrict operations. The company also faces cyber, insurance, service-provider, weather, and non-operated-property risks.
Approximately $24.3 million of federal net operating losses were available at year-end, but $4.7 million were limited by prior ownership changes and the company recorded a full valuation allowance against net deferred tax assets. The rights offering could cause a further ownership change and additional limitations.
The company recorded approximately $505,000 of 2023 severance expense related to two executives. The former CEO received approximately $360,000 of severance, and the former COO is receiving $145,000 over six months.
The company has not paid dividends and does not expect to pay cash dividends in the foreseeable future.
Management reported no material litigation expected to affect consolidated financial position or results, and no off-balance-sheet arrangements.

Most Important Facts for Investors to Verify

Whether the rights offering closed successfully and generated the expected proceeds, including the extent of participation by the two largest stockholders.
Current compliance with the Equity Bank credit facility’s current-ratio and funded-debt-to-EBITDAX covenants, including borrowing-base changes and interest costs.
Actual 2024 production, costs, cash flow, and capital spending from the Starbuck Drilling Program and EOR development.
Whether proved reserve reductions continue and how reserve values respond to commodity prices and operating-cost assumptions.
The company’s ability to fund capital-spending-related payables and maintain liquidity without additional dilutive equity or related-party financing.
Potential dilution from the rights offering, convertible note, stock options, restricted stock units, and other equity-linked instruments.
The effect of customer concentration, third-party transportation capacity, environmental obligations, and the approximately $28.2 million asset retirement obligation on future cash requirements.