U.S. Energy Corp.

Good morning, ladies and gentlemen, and welcome to U.S. Energy Corps' second quarter 2023 results conference call. At this time, all lines are in a listen-only mode. Following the presentation, we will conduct a question and answer session. If at any time during this call you need assistance, please press star zero for the operator. This call is being recorded on Monday, August 14, 2023. I would now like to turn the conference over to Mason McGuire. Please go ahead.

Thank you, Operator, and good morning, everyone. Welcome to U.S. Energy Corp's second quarter 2023 results conference call. Brian Smith, our Chief Executive Officer, will provide an overview of our operating results and discuss the company's strategic outlook. Our Chief Financial Officer, Mark Zajac, will provide a more detailed review of our financial results. U.S. Energy issued a press release summarizing operating and financial results for the three months ended June 30, 2023. This 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 the 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 the 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 the latest quarterly earnings release and conference call presentation. With that, I would like to turn the call over to Ryan Smith.

Good morning, everyone, and thank you for joining us today. I'm pleased to share with you some of the strong highlights from this quarter, as well as to provide an update on our strategic outlook. Our second quarter results reflect the dedication, resiliency, and consistency of our team here at U.S. Energy. We achieved net daily production of just under 2,000 barrels of oil equivalent per day, marking a 10% increase over the same quarter in 2022. Notably, our oil production accounted for 64% of our total production. I'm particularly proud to highlight our substantial achievements in cost management. Our lease operating expenses came in at $3.9 million, or $21.75 per BOE, representing a significant 17% and 24% reduction, respectively, compared to the second quarter of 2022. This impressive reduction underscores our commitment to operational efficiency and was achieved against the continued backdrop of increased rates, which flows through to everything, including elevated service costs. We continue to believe that U.S. Energy Corp stands out from other oil and gas producing microcap companies in this backdrop of both improving industry dynamics and a stronger macro pricing outlook. Our current assets require minimal capital to maintain a steady production profile, leading to predictable cash flow and allowing us to effectively allocate dollars to maximize our returns on capital. Our approach also allows us to weather market fluctuations and capitalize on opportunities. making us well-prepared to navigate the evolving energy landscape. Our focus at U.S. Energy remains clear, operational efficiency, balance sheet discipline, and responsible resource management, all of which underscores our commitment to drive sustainable value creation. As we move forward, we remain dedicated to capitalizing on these favorable market conditions and leveraging our strengths to deliver continued growth and shareholder returns. In the further adoption of these initiatives, during the second quarter, we bolstered our shareholder returns program through the initiation of our $5 million share repurchase program. While we only began the repurchase program mid-quarter, we repurchased greater than one-half of 1% of our outstanding shares and are pleased with the share response that we witnessed in the market. Ultimately, our mandate is to allocate capital to our highest return projects that generate the most positive results, and our shareholder returns program is no different. To that end, I'm pleased to announce we plan to accelerate our share repurchase program by reallocating capital through the halting of the company's dividend to the acceleration of our repurchase program and continued debt repayment. The consistent and steady repurchase of the company's shares at current valuation levels is as high of a return opportunity as I see in the marketplace and something we will continue to pursue. In summary, the second quarter was exceptional in terms of production, cost control, and positive results of capital allocation decisions that were made earlier in the year. These achievements set the stage for our growth initiatives while positioning us to take advantage of increased commodity prices that will help generate steady high margin cash flow. Our capital allocation strategy emphasizes maintaining an attractive leverage profile, opportunistically repurchasing our common stock, and our continued commitment to utilizing our equity capital efficiently. Our goal remains to continue expanding our scale to the acquisition of assets that align with our core operating areas. By increasing our scale and bolstered by our shareholder return initiatives, we believe we can unlock greater equity returns for all of our shareholders. Now, I would like to introduce Mark Zajac, our new Chief Financial Officer, who will provide a detailed update on the financial results for the second quarter. Mark brings to our team many years of leadership experience in energy and finance, primarily as a partner at KPMG, and has been a wonderful addition to our team. With that, I'll turn it over to Mark.

Thank you, Ryan. Hello, everyone. Let's delve into the financial details for the second quarter of 2023. Total oil and gas sales for the quarter amounted to approximately $8 million, reflecting a decrease from $13.5 million in the same period last year. This decline was primarily attributed to a 46% reduction in realized prices. It's important to note that this quarter's realized pricing was the most significant event of the quarter relative to last year. Looking forward, we have seen improved prices in the third quarter, though we don't see the realized pricing environment we experienced in the third quarter of 2022. Sales from oil production contributed 88% of our total revenue for the quarter, demonstrating our continued focus on optimizing our oil assets. Our lease operating expense for the second quarter was approximately $3.9 million, equivalent to $21.75 per BOE, indicating an impressive 24% reduction in per unit costs compared to the second quarter of 2022. This reduction can be attributed to the successful integration of acquired assets and the completion of necessary work over programs. Severance and ad valorem taxes for the second quarter of 2023 totaled approximately a half a million dollars, reflecting a decline from $900,000 in the same period last year, As a percentage of total oil and natural gas sales revenue, these taxes accounted for approximately 7% during the quarter. Cash general administrative expenses reached approximately $2.8 million, or $15.48 per BOE, for the second quarter of 2023, compared to roughly $2 million, or $12.53 per BOE, in the prior period. This increase was primarily attributed to professional fees incurred in the early part of the second quarter related to the filing of a Form 10-K. Turning to our net financial performance, the company reported a loss of $2.5 million or a loss of 10 cents per diluted share in the second quarter of 2023. This contrasts with net income of $0.1 million or $100,000 or effectively breakeven or $0 per share reported in the second quarter of 2022. Our adjusted EBITDA, excluding the impact of hedges, stood at $800,000 in the second quarter of 2023 compared to $5.1 million in the same period last year, influenced most notably by the decline in commodity prices from the prior period. Let's briefly touch on our balance sheet. As of June 30, 2023, the company held outstanding debt of $12 million on the revolving credit facility with an available credit line of $8 million. Additionally, our cash position stood at $1.2 million. In conclusion, we're pleased with our operating performance given the pricing headwinds that, under normal circumstances, would have resulted in outstanding financial results. I'm leading the charge to ensure that the results each quarter are reported to a high standard of excellence and accuracy, and we feel confident in our ability to meet our interim and annual reporting timelines. We remain committed to our strategic goals and believe in our ability to navigate market conditions. Thank you for your participation this morning. We are now ready to take your questions.

Thank you. Ladies and gentlemen, we will now begin the question and answer session. Should you have a question, please press the star followed by the one on your touch-tone phone. you will hear a three-tone prompt acknowledging your request. If you are using a speakerphone, please lift the handset before pressing any keys. First question comes from Tim Moore at IF Hutton. Please go ahead.

Thank you. Good move on suspending the dividend and accelerating the share buyback for better ROI. I think that was quite brilliant. You can make a better impact there. Great decision. Can Mark, maybe just starting out, maybe can Mark share a little bit more of his insights so far learned? I know it's only been 10 weeks, but I'd love to hear maybe what you think he might enhance or focus a bit more on, given his KPMG background.

Yeah, thanks, Tim, for the question. Quite a bit has been undertaken in the last 10 weeks, looking at our people, assessing opportunity and M&A opportunities as well. improving processes and building relationships and forming really a tighter team across all of the functional silos, whether it be financial or operations or individuals in the field. It's been a great experience, great team working with Mason and with Ryan.

Look forward to the future. Lots of opportunities ahead of us. Great. That's helpful, Mark.

And just maybe a higher level question, how do you think about third quarter production? Obviously, the prices are up on WTI Oil, but do you think you could see a small sequential increase from the second quarter into the third quarter for production?

Hey, Tim. This is Ryan.

Third quarter, we're pretty close to halfway through now. I'm not going to guide like to an increase right now. I think we're pretty, we're pretty comfortable where we're at just, you know, the asset base, the runtime, et cetera, kind of leads to those. Unfortunately, sometimes like 5% ish, 3% ish decreases as well as increases. Like we saw this quarter it ends up, you know, run rating pretty consistently over the course of the year. So I would expect this to kind of, maintain the ballpark of where we've been. I wouldn't expect a significant step up.

Great. That makes sense. And that's even better than I think some of the peers, even if it's consistent. And, you know, maybe, you know, Ryan and Mark, how should we think about cash G&A expense? Do you think it'll be consistent, maybe $13.5 million going forward? I'm just trying to think. You could probably get some pretty darn good operating scale leverage off of that to drive, you know, better incremental growth. operating margins going forward, but, um, you know, is cash GNA pretty fairly locked in now?

Yeah. I mean, I think that number was an all in number, which, you know, I know all in is all in, but I think there was some stock in that number. So I, I think our, our cash GNA, it's been at the run rate that it's been pretty consistently since we did our, our larger transaction in January of 22. And, um, it's just been, you know, uh, uh, a bunch of one-time items that have continually popped up as we've five exercises the company, SEC filings, growth, et cetera. I think we've finally hit that point where most of the one-time items are behind us to where we can smooth out our operation and some of the unexpected spend and then not to answer for mark but i but i will on this one um he and his team are very good now uh you know as he mentioned focusing on specific silos and specific buckets and really getting those costs down where you see the most savings there professional services um smooth quarterly and annual q and k filings which we've kind of already experienced this past quarter so um I think there's a lot of room for improvement on our current cash run rate GNA, probably 20 plus percent that I expect us to be realizing relatively soon. A lot of the stuff we've kind of implemented during the third quarter, so it might not be a catch-all, but as we move forward absolutely on a whole quarter basis beginning in the fourth quarter, I expect those savings to show up on the income statement.

Great. That's very wonderful to hear, even if you get anywhere close to 20%. That'd be a nice flow-through for the operating profitability and the cash flow. So, Ryan, I'm kind of curious, just maybe shifting gears to your inorganic growth side with source deals. What do you see in the last few months in terms of asking prices valuations from targets? Have they come down a bit more reasonable? I mean, I know some of the private targets are getting valued on twice what your stock and the public guys are at the smaller end, but... How are you seeing that? Is the bottleneck more reasonable valuation, or is there something else that maybe would make you delay maybe doing an acquisition in the near term?

Yeah, so I guess first part of that question, and I apologize if I sound a little raspy. I'm a little under the weather. The first part of the question, what do we see, and where has the asking prices gone? We still see a lot of deal flow up and down the lines. five to ten million dollar transactions all the way to much, much, much larger than that. I think a lot of the weaker-handed sellers have sold in the last, and they've been out of the market, but call it between six and 18 months ago, a lot of those folks have left. I think the sellers now, what I see is the willingness to take equity has increased definitely dropped um i think there's good value deals to be had out there for um buyers that have access to that kind of capital you know and that goes to your next question where do i see any bottlenecks i really don't think it's on valuation um there is a very big discrepancy as uh you said, between the private guys marking their books and the public guys who are marking their equities daily, the biggest bottleneck I see is capital out there right now. The equity markets aren't open necessarily for energy companies, and as everybody knows, rates have gone up significantly. The borrowing credit facilities, depending on most people's size, within reason, ranges around, you know, 7% to 9%. And when that's your top line of capital source, you know, it gets pretty expensive. So I think, you know, creative structuring to get around that is kind of what we're focused on. And I don't think it's necessarily a bottleneck. It's just something you need to know going into it ahead of time to make sure you don't come out of this hypothetical M&A deal over levered. and just give away the farm for an incremental deal with a 12%, 13% cost of capital on the U.S. energy balance sheet. That's not something that I think you see us do.

Good. That's really helpful, Ryan. And just one last follow-up question. I'll turn it over to whoever's next. Just related to that leverage, it makes sense you don't want to overly lever, but can you maybe remind us of what your max debt leverage might be for comfort? Is it we're talking maybe 1.5, 1.6 net debt to EBITDA for an ideal acquisition, something like that?

Yeah. I mean, on the ideal pro forma, I guess, right? I'll hedge my bet, no pun intended, a little bit here on the asset profile, right? If we are buying something that is a little more of a mature profile or conventional wells, I think we probably have a little more flexibility to be exposed to the strip while hedging some stuff if we go and buy an unconventional package. I think you see us hedge that type of asset out.

Great. I really appreciate this, and that's it for my questions. I'll turn it back over to the operator.

Thank you.

Ladies and gentlemen, as a reminder, should you have any questions, please press star 1 now. There appear to be no further questions. You may proceed.

This is Ryan Smith, again, with U.S. Energy. If there's no further questions, I thank you for calling in and appreciate your continued interest in U.S. Energy. Thank you.

Ladies and gentlemen, this concludes the conference call for today. We thank you for participating, and we ask that you please disconnect your lines.