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EPM > SEC Filings for EPM > Form 10-Q on 8-Nov-2013All Recent SEC Filings

Show all filings for EVOLUTION PETROLEUM CORP

Form 10-Q for EVOLUTION PETROLEUM CORP


8-Nov-2013

Quarterly Report


Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations

The following discussion and analysis should be read in conjunction with our consolidated financial statements and notes thereto contained herein and in our Annual Report on Form 10-K for the year ended June 30, 2013 (the "Form 10-K"), along with Management's Discussion and Analysis of Financial Condition and Results of Operations contained in the Form 10-K. Any terms used but not defined herein have the same meaning given to them in the Form 10-K.

This Form 10-Q and the information referenced herein contain forward-looking statements within the meaning of the Private Securities Litigations Reform Act of 1995, Section 27A of the Securities Act of 1933 and Section 21E of the Securities Exchange Act of 1934. The words "plan," "expect," "project," "estimate," "assume," "believe," "anticipate," "intend," "budget," "forecast," "predict" and other similar expressions are intended to identify forward-looking statements. These statements appear in a number of places and include statements regarding our plans, beliefs or current expectations, including the plans, beliefs and expectations of our officers and directors. When considering any forward-looking statement, you should keep in mind the risk factors that could cause our actual results to differ materially from those contained in any forward-looking statement. Important factors that could cause actual results to differ materially from those in the forward-looking statements herein include the timing and extent of changes in commodity prices for oil and natural gas, operating risks and other risk factors as described in our 2013 Annual Report on Form 10-K for the year ended June 30, 2013 as filed with the Securities and Exchange Commission. Furthermore, the assumptions that support our forward-looking statements are based upon information that is currently available and is subject to change. We specifically disclaim all responsibility to publicly update any information contained in a forward-looking statement or any forward-looking statement in its entirety and therefore disclaim any resulting liability for potentially related damages. All forward-looking statements attributable to Evolution Petroleum Corporation are expressly qualified in their entirety by this cautionary statement.

We use the terms, "EPM," "Company," "we," "us" and "our" to refer to Evolution Petroleum Corporation.


Table of Contents

Executive Overview

General

We are a petroleum company engaged primarily in the acquisition, exploitation and development of properties for the production of crude oil and natural gas, onshore in the United States. We exploit these properties through the application of capital, sound engineering and modern technology to increase production, ultimate recoveries, or both.

We are focused on increasing underlying net asset values on a per share basis. In doing so, we depend on a conservative capital structure, allowing us to maintain financial control of our assets for the benefit of our shareholders, including approximately 19% beneficially owned by all of our directors and officers. By policy, every employee maintains a material beneficial ownership of common stock in the Company.

Our strategy is intended to generate scalable, low unit cost, development and re-development opportunities that minimize or eliminate exploration risks. These opportunities involve the application of modern technology, our own proprietary technology and our specific expertise in overlooked areas of the United States.

The assets we exploit currently fit into two types of project opportunities:

† Enhanced Oil Recovery (EOR), and

† Bypassed Primary Resources

We expect to fund our base fiscal 2014 development plan from working capital, with any increases to the base plan funded out of working capital, net cash flows from our properties and appropriate financing vehicles.

Highlights for our First Quarter Fiscal 2014 and Project Update

"Q1-14" & "current quarter" is the three months ended September 30, 2013, the company's 1st quarter of fiscal 2014.

"Q4-13" & "prior quarter" is the three months ended June 30, 2013, the company's 4th quarter of fiscal 2013.

"Q1-13" & "year-ago quarter" is the three months ended September 30, 2012, the company's 1st quarter of fiscal 2013.

Operations

† Q1-14 net income available to common shareholders increased 38% sequentially to $1.3 million compared to $0.9 million in the prior quarter, and increased 32% from $1.0 million in the year-ago quarter. Sequentially, reduced G&A expense, LOE and income tax were partially offset by lower revenues. Compared to the year ago quarter, an increase in revenues and decrease in income tax were partially offset by higher operating expense.

† Current quarter revenue decreased 14% sequentially to $4.6 million from $5.4 million in the prior quarter and increased 8% from $4.3 million in the year-ago quarter. Virtually all of the sequential decline was due to lower crude oil revenue, primarily from Delhi. The increase from the year-ago quarter is due to higher Delhi revenue, partially offset by decreases in revenues from other properties primarily due to the sale of properties during fiscal 2013.

† Black oil volume accounted for 96% of volumes and 99% of revenues during Q1-14 compared sequentially to 97% of volume and 99% of revenues in the prior quarter, while the year-ago quarter oil volume was 73% of volume and 93% of revenue. Delhi oil volumes decreased 16.8% from the prior quarter and increased 16.9% compared to the year-ago quarter. Current quarter Delhi production was impacted by the previously disclosed mid-June 2013 environmental event, the remediation of which continues to temporarily depress production.

† The blended oil, NGL and natural gas product price we received in Q1-14 increased 4% sequentially to $106.17 per BOE from $101.85 in the prior quarter and increased 32% from $80.30 in the year-ago quarter. Current quarter oil prices increased 5% sequentially to $109.80 and increased 7% compared to the year-ago quarter. Our average oil price reflects the large proportion of sales from Delhi that received favorable Louisiana Light Sweet pricing. NGL prices were flat sequentially and decreased 14% from the year-ago quarter to $30.30, while natural gas prices decreased 28% sequentially and increased 16% from the year-ago quarter to $2.94.

† Field margin increased to $89 per BOE compared to $86 in the prior quarter and $68 per BOE in the year-ago quarter. Field margin is product revenue less lifting costs, severance tax, DD&A and asset retirement cost accretion.


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Projects

Delhi EOR Project

† Production in our enhanced oil recovery project decreased 18% sequentially and increased 17% from the year-ago quarter to 438 BOPD net to our 7.4% royalty interest (5,912 gross BOPD). The sequential decline was due to the previously disclosed remediation of a fluids release in the field beginning in June 2013. The operator temporarily suspended CO2 injection in a portion of the field surrounding the discovered fluid release in order to re-enter the previously plugged wells believed to be the source of the fluid release. The reduction in CO2 injection that "drives" tertiary production temporarily reduced oil production in the area affected by the fluids release. The operator has disclosed that the remediation effort is nearly complete, the previously abandoned well believed to be the source of the release has been plugged, and injection is expected to resume in the affected area of the field during the quarter ending December 31, 2013. Oil production in the affected area is expected to respond to resumed injection and return to previous levels. Meanwhile, the temporary decline in production combined with the remediation expense, net of any insurance reimbursements, would be expected to delay the reversion of our 24% working interest to later in fiscal 2014. However, we believe the operator has indemnified us for such environmental costs, the effect of which would negate delays to payout. To date, the operator has not agreed, and we are reviewing our alternatives. Whether payout is later or earlier, our working interest reversion will more than triple our revenue interest from 7.4% to 26.5%, while our cost bearing interest will increase from 0% to 23.9%.

† Realized oil prices at Delhi increased 5% sequentially and 6% from the year-ago quarter to $109.98 per BO. Realized prices were $104.83 per BO in the previous quarter and $103.78 per BO in the year-ago quarter.

† Field development continued with $6 million of gross capital expenditures in the current quarter and $38 million of gross capital expenditures so far in calendar 2013, none of which is funded by us. Proved oil reserves net to our interest are 74% developed and probable reserves are 48% developed as of June 30, 2013, based on our independent engineer's report as filed in our 2013 Form 10-K.

Mississippi Lime

† The operator completed the recompletion of the Hendrickson well to the upper part of the Mississippian Lime in Kay County, OK with marginal results. The Sneath was recompleted to another reservoir with marginal results. At this time, we are evaluating a proposed new test of the Mississippian Lime within the joint venture leasehold.

GARP® (Gas Assisted Rod Pump)

† We completed the commercial installation of GARP® in the Appelt G #1H in Fayette County, Texas on a risk sharing basis with an operator in the Giddings Field. The well was restored from minimal production to a rate of approximately 2-13 BOPD and 1-10 MCFD of liquids rich natural gas that is being processed for NGL.

† We are working to finalize an agreement to install GARP® on a large group of wells within the Giddings Field.

† Our previous commercial installations of GARP® continue performing as expected.

Lopez Field (South Texas)

† We reached tentative agreement to divest our interests.

† We executed a settlement agreement to resolve outstanding litigation on one lease.

Liquidity and Capital Resources

At September 30, 2013, our working capital was $25.9 million, compared to working capital of $24.8 million at June 30, 2013. The $1.1 million increase in working capital since June 30, 2013 was due primarily to $0.7 million of increased cash together with $0.4 million of reduced accounts payable.

Cash Flows from Operating Activities

For the three months ended September 30, 2013, cash flows provided by operating activities were $1.6 million, reflecting $2.3 million provided by operations before $0.7 million was used in working capital. Of the $2.3 million provided before working capital changes, $1.5 million was due to net income and $0.8 million was due primarily to non-cash expenses.


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For the three months ended September 30, 2012, cash flows provided by operating activities were $1.6 million, reflecting $2.4 million provided by operations before $0.8 million was used in working capital. Of the $2.4 million provided before working capital changes, $1.2 million was due to net income and $1.2 million was due primarily to non-cash expenses.

Cash Flows from Investing Activities

Cash paid for oil and gas capital expenditures during the three ended September 30, 2013 was $0.6 million. Development activities were predominantly for GARP® installations in Giddings and additional testing in the Hendrickson well in the Mississippi Lime. We received approximately $67,000 of additional proceeds related to prior quarter asset sales.

Cash paid for oil and gas capital expenditures during the three months ended September 30, 2012 was $2.6 million. Development activities were predominantly in the Mississippi Lime, where one salt water disposal well and one producer well were completed and a second producer well spudded with completion in the subsequent fiscal quarter. In Giddings, expenditures were centered on installing GARP® on a fourth well.

Oil and gas capital expenditures incurred, but not yet paid, were $0.5 million and $2.1 million, respectively, for the three months ended September 30, 2013 and 2012. These amounts can be reconciled to cash capital expenditures on their respective cash flow statements by adjusting them for changes in accounts payable and amounts owed to joint venture partners for capital expenditures as represented in the supplemental information.

Cash Flows from Financing Activities

In the three months ended September 30, 2013, we paid preferred dividends of $0.2 million and purchased $0.1 million of treasury stock through the stock surrender of certain employees in satisfaction of payroll liabilities for contemporaneous restricted stock vesting as described at Note 5-"Stockholders' Equity."

In the three months ended September 30, 2012, we paid preferred dividends of $0.2 million.

Capital Budget

We expect to fund all of our remaining fiscal 2014 Capital Plan, totaling a projected $18 million, with our $25.9 million of working capital on hand at September 30, 2013 and internally generated funds from operations. Our capital budget includes up to $17 million of development expenditures at Delhi, subject to the actual reversion date of our working interest and the rate at which calendar 2014 capital is expended there. Our GARP® business is expected to require $1 to $3 million, depending upon expansion of the installation agreement currently being finalized and any other new agreement. No capital is currently allocated for further drilling in the Mississippian Lime assets.

We are evaluating returning cash to shareholders which may include the payment of dividend and/or stock buy-backs, the amount or timing of such is being evaluated by the Company.

Results of Operations

Three month period ended September 30, 2013 and 2012

The following table sets forth certain financial information with respect to our oil and natural gas operations:


Table of Contents

                                          Three Months Ended
                                            September 30,                           %
                                         2013           2012        Variance      Change

Sales Volumes, net to the Company:

Crude oil (Bbl)                            41,815         39,082        2,733         7.0 %

NGLs (Bbl)                                    797          3,381       (2,584 )     (76.4 )%

Natural gas (Mcf)                           6,187         65,869      (59,682 )     (90.6 )%
Crude oil, NGLs and natural gas
(BOE)                                      43,643         53,441       (9,798 )     (18.3 )%

Revenue data:

Crude oil                             $ 4,591,377    $ 4,005,422    $ 585,955        14.6 %

NGLs                                       24,146        119,611      (95,465 )     (79.8 )%

Natural gas                                18,176        166,513     (148,337 )     (89.1 )%
Total revenues                        $ 4,633,699    $ 4,291,546    $ 342,153         8.0 %

Average price:
Crude oil (per Bbl)                   $    109.80    $    102.49    $    7.31         7.1 %
NGLs (per Bbl)                              30.30          35.38        (5.08 )     (14.4 )%
Natural gas (per Mcf)                        2.94           2.53         0.41        16.2 %
Crude oil, NGLs and natural gas
(per BOE)                             $    106.17    $     80.30    $   25.87        32.2 %

Expenses (per BOE)
Lease operating expense               $      9.39    $      5.92    $    3.47        58.6 %
Production taxes                      $      0.19    $      0.40    $   (0.21 )     (52.5 )%
Depletion expense on oil and
natural gas properties (a)            $      6.91    $      5.33    $    1.58        29.6 %



(a) Excludes depreciation of office equipment, furniture and fixtures, and other assets of $7,921 and $12,249, for the three months ended September 30, 2013 and 2012, respectively.

Net Income Available to Common Shareholders. For the three months ended September 30, 2013, we generated net income of $1,303,876 or $0.04 per diluted share, (which includes $373,438 of non-cash stock-based compensation expense) on total oil and natural gas revenues of $4,633,699. This compares to a net income of $990,951, or $0.03 per diluted share, (which includes $353,790 of non-cash stock-based compensation expense) on total oil and natural gas revenues of $4,291,546 for the year-ago quarter. Increased revenue and lower income tax expenses were offset by higher operating expenses. Additional details of the components of net income are explained in greater detail below.

Sales Volumes. Crude oil, NGLs, and natural gas sales volumes, net to our interest, for the three months ended September 30, 2013 decreased 18% to 43,643 BOE's compared to 53,441 BOE's for the year-ago quarter. This 9,798 volume decrease primarily reflects the loss of production and sales volumes of properties sold in Fiscal 2013 subsequent to the year-ago quarter, partially offset by an increase in Delhi Field volumes. Our crude oil sales volumes for the current quarter include 40,279 from our interests in Delhi and 1,536 barrels from the Giddings and Lopez fields. Our crude oil sales volumes for the year-ago quarter included 34,453 barrels from our interests in Delhi and 4,629 barrels from our properties in the Giddings and Lopez fields. Our NGL volumes for the three months ended September 30, 2013 declined 76% to 797 barrels compared to 3,381 barrels in the year-ago-quarter. Current quarter natural gas volumes, virtually all produced at Giddings, decreased 91% to 6,187 mcf from 65,869 mcf in the year-ago quarter. At the end of the current quarter, virtually all of Giddings production was from our GARP® wells.

Petroleum Revenues. Crude oil, NGLs and natural gas revenues increased $0.3 million to $4.6 million for the current quarter, an 8% increase over the $4.3 million in the year-ago quarter due to a 32% higher price per BOE partially offset by an 18% volume decline, and due to the sale of our non-GARP® Giddings assets partially offset by increases in Delhi sales volumes. Prices per BOE were $106.17 and $80.30, respectively, for the current and year-ago quarters.

Lease Operating Expenses (including ad valorem and production severance taxes). Lease operating expenses and production taxes for the current quarter increased $93,678, or 30%, to $409,847 compared to the year-ago quarter. Expenses were $95,000 higher at the Lopez Field and $80,000 at our Oklahoma properties, but declined $81,000 in the Giddings Field due to divestitures of non-core properties during Fiscal 2013, partially offset by higher expenses at GARP® wells and the Lopez Field. Lease operating expense and production tax per barrel of oil equivalent increased 52% from $6.32 per BOE during year-ago quarter to $9.58 per BOE during current quarter.

General and Administrative Expenses ("G&A"). G&A expenses increased 13% to $1.9 million during the three months ended September 30, 2013 from $1.7 million in the year-ago quarter. The increase was due primarily to $143,000 in higher salaries and benefits, $30,000 in higher bonus expense and $29,000 increased investor relations activities. Stock-based compensation was $373,438 (19% of total G&A) for the current quarter compared to $353,790 (21% of total G&A) for the year-ago quarter. Non-cash stock-based compensation is an integral part of total staff compensation utilized to recruit quality staff from other, more established companies and retain staff and, as a result, likely will continue to be a significant component of our G&A costs. A component of our overall legal expense, litigation cost of approximately $79,000 was also a significant contributor to current quarter G&A compared to $92,000 in the previous quarter and $160,000 in the year-ago quarter.


Table of Contents

Depreciation, Depletion & Amortization Expense ("DD&A"). DD&A increased by 4.3% to $309,673 for the three months ended September 30, 2013, compared to $296,917 for the year-ago quarter. This change was principally due to a 30% increase in depletion rate from $5.33 per BOE in the year-ago quarter to $6.91 in the current quarter partially offset by an 18% decline in volume as described above. Much of the higher depletion rate is due to higher future capital expenditures at Delhi associated with increased reserves reflected in our June 30, 2013 reserves report.

Inflation. Although the general inflation rate in the United States, as measured by the Consumer Price Index and the Producer Price Index, has been relatively low in recent years, the oil and gas industry has experienced unusually volatile price movements in commodity prices, vendor goods and oilfield services. Prices for drilling and oilfield services, oilfield equipment, tubulars, labor, expertise and other services greatly impact our lease operating expenses and our capital expenditures. During fiscal 2013, we saw modest increases in certain oil field services and materials compared to the prior fiscal year. During Q1-14, these input costs were generally unchanged compared to fiscal 2013. Product prices, operating costs and development costs may not always move in tandem.

Known Trends and Uncertainties. General worldwide economic conditions continue to be uncertain and volatile. Concerns over uncertain future economic growth are affecting numerous industries, companies, as well as consumers, which impact demand for crude oil and natural gas. If demand decreases in the future, it may put downward pressure on crude oil and natural gas prices, thereby lowering our revenues and working capital going forward. In addition, our lease operating expenses and their percentage of our revenues are likely to increase as reversion of our back-interest at Delhi or other additions to our working interest production that would dilute extraordinary margins we have enjoyed from our mineral and overriding royalty interests at Delhi. See "Note 12 - Subsequent Event - Restructuring" within " Item I. Financial Information."

Seasonality. Our business is generally not directly seasonal, except for instances when weather conditions may adversely affect access to our properties or delivery of our petroleum products. Although we do not generally modify our production for changes in market demand, we do experience seasonality in the product prices we receive, driven by summer cooling and driving, winter heating, and extremes in seasonal weather including hurricanes that may substantially affect oil and natural gas production and imports.

Off Balance Sheet Arrangements

The Company has no off-balance sheet arrangements to report during the quarter ending September 30, 2013.

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