Empire Petroleum Corporation — Q3 2022 Form 10-Q Summary
Business Context and Reporting Period
Empire Petroleum is an independent oil and natural gas company focused on optimizing developed production and maximizing reserve recovery. Operations span the Rockies, New Mexico, Texas, and Louisiana. This unaudited Form 10-Q covers the three and nine months ended September 30, 2022, compared with the corresponding 2021 periods.
Key Financial Metrics
| Metric | Q3 2022 | Q3 2021 | 9M 2022 | 9M 2021 |
|---|---|---|---|---|
| Total revenue | $14.8 million | $10.1 million | $44.4 million | $16.9 million |
| Operating income (loss) | $1.4 million | $2.3 million | $11.0 million | $(0.6) million |
| Net income (loss) | $0.2 million | $(3.7) million | $9.4 million | $(10.0) million |
| Operating margin | 9.7% | 22.8% | 24.8% | (3.7)% |
| Net margin | 1.5% | (36.9)% | 21.1% | (59.1)% |
| Operating cash flow | Not separately provided | Not separately provided | $14.9 million | $0.6 million |
Q3 product sales were $14.7 million, consisting primarily of oil sales of $11.5 million, natural gas sales of $1.6 million, and natural gas liquids sales of $1.6 million. Nine-month production totaled 591,856 barrels of oil equivalent, including 361,226 barrels of oil, 653,829 Mcf of natural gas, and 5.1 million gallons of natural gas liquids.
- Realized oil price increased to approximately $92 per barrel in Q3 and $96.90 per barrel for the nine months, versus approximately $65 and $59.80, respectively, in the prior-year periods.
- Realized natural gas price increased to approximately $6.86 per Mcf in Q3 and $6.15 per Mcf for the nine months, versus $3.82 and $4.05, respectively.
- Q3 operating expenses increased substantially, particularly lease operating expense, production taxes, and general and administrative costs. The Q3 operating margin declined despite higher revenue.
- Cash and cash equivalents were $15.7 million at September 30, 2022, compared with $3.6 million at December 31, 2021. Working capital was $11.3 million, versus $1.1 million at year-end 2021.
- Total notes payable were $7.8 million, including $6.2 million under the senior revolver and $1.4 million owed under the related-party PIE term loan. Total lease liabilities were $0.9 million.
- The senior revolver had a $6.48 million commitment at period-end, of which approximately $0.3 million was available according to management. The facility matures March 27, 2024 and carried interest at 7.75% at September 30, 2022.
- The company reported compliance with its debt covenants at September 30, 2022.
Cash Flow and Capital Resources
- Nine-month operating cash flow was $14.9 million, an increase of $14.3 million from 2021, primarily reflecting higher commodity prices, increased production, and the New Mexico properties acquired in 2021.
- Investing cash outflow was $4.8 million, including $2.2 million for oil and gas property acquisitions, $1.5 million for property additions, and a $0.6 million sinking-fund deposit.
- Financing cash flow was $2.0 million, comprising $3.4 million from option and warrant exercises, partly offset by $1.4 million of debt principal payments.
- Management expects future acquisitions and capital expenditures to be funded through operating cash flow, additional debt, and/or equity issuances.
Material Changes Versus the Prior Comparable Period
- Nine-month revenue increased approximately 162%, driven by higher production volumes following the New Mexico acquisition and substantially higher realized oil, gas, and NGL prices.
- Nine-month oil production increased 63%, natural gas production increased 72%, and total production increased from 345,919 to 591,856 Boe.
- Nine-month operating income improved from a $0.6 million loss to $11.0 million of income, while net income improved from a $10.0 million loss to $9.4 million of income.
- Lease operating expense increased 143% for the nine months, reflecting the New Mexico acquisition, workovers, recompletions, sidetrack drilling, and efforts to restore production.
- Interest expense declined sharply because the prior-year period included approximately $7.0 million of non-cash interest and debt discount amortization related to convertible notes that had been converted by year-end 2021.
- Common shares outstanding increased from 19.8 million at December 31, 2021 to 21.9 million at September 30, 2022, primarily from option and warrant exercises. Six shares of Series A Voting Preferred Stock were issued and provide significant board-designation and governance rights.
Guidance, Outlook, Risks, and Unusual Items
- No formal production, revenue, earnings, or capital-spending guidance was provided. Management expects additional capital expenditures and continued use of operating cash flow, debt, and/or equity financing.
- Management cautions that sustained profitability is not assured and that additional financing may be required to sustain and expand operations.
- Commodity prices, production declines, future acquisitions or divestitures, operating costs, service availability, environmental regulation, competition, and access to financing could materially affect results.
- The company uses put options to reduce commodity-price volatility. Outstanding contracts covered portions of 2022 and 2023 production with floor prices generally ranging from $40 to $70 per barrel.
- The company recorded an approximately $1.3 million out-of-period adjustment in Q3 related to its Joint Development Agreement with PIE. The adjustment reduced Utility and Other Deposits and increased lease operating expense; approximately $0.8 million related to the prior year.
- A $1.4 million non-cash expense was recorded in Q3 in connection with the October 7, 2022 final settlement with XTO. The settlement replaced collateralized bonding arrangements with a bond that did not require invested collateral.
- The company accrued $650,000 for a Texas sales-tax audit. The maximum potential exposure was approximately $1.3 million, and the final amount may be higher or lower.
- Asset retirement obligations were $21.7 million at September 30, 2022, representing estimated future plugging, abandonment, and remediation costs.
- Management determined that disclosure controls and procedures were not effective at quarter-end because of continuing weaknesses in accounting and financial-reporting resources. Additional controls and an outside consultant review were being implemented.
- The filing states that no material legal or environmental liabilities were currently expected, but such matters remain subject to uncertainty.
Investor Verification Points
- Verify whether commodity prices and production volumes remain sufficient to offset the company’s materially higher lease operating and general and administrative costs.
- Confirm actual availability, borrowing-base conditions, interest costs, maturity schedule, and covenant compliance under the senior revolver.
- Assess the company’s ability to fund acquisitions, drilling, workovers, and other capital expenditures without additional dilutive equity or debt financing.
- Review the final outcome of the Texas sales-tax audit and any further accounting effects from the PIE Joint Development Agreement adjustment.
- Evaluate the $21.7 million asset retirement obligation and the company’s future plugging, abandonment, and remediation funding requirements.
- Monitor remediation of the material weakness in internal control over financial reporting and any effect on the reliability or timeliness of future filings.
- Review the governance and dilution implications of the Series A Voting Preferred Stock, outstanding options, warrants, and restricted stock units.