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U.S. Energy Corp. (NASDAQ:USEG)

Q4 2013 Earnings Conference Call

March 14, 2014 11:00 AM ET

Executives

Reggie Larsen - Director of IR

Keith Larsen - CEO

Steve Richmond - CFO

Analyst

Operator

Good morning. My name is Kate, and I will be your conference operator today. At this time, I would like to welcome everyone to the U.S. Energy Corp Year-end 2013 selected highlights, financial results and operations update conference call. All lines have been placed on mute to prevent any background noise. I would now like to turn the conference over to Mr. Reggie Larsen Director of Investor Relations at U.S. Energy Corp. Sir you may begin your conference.

Reggie Larsen

Thank you Kate. Good morning, ladies and gentlemen, and thank you for joining us today. With me this morning is Keith Larsen, Chief Executive Officer of the company; Steve Richmond, the company's Chief Financial Officer; as well as members of the company’s management team.

In terms of an agenda, Keith will provide you with an overview of our highlights, financial results and operating initiatives for the year ended December 31, 2013; as well as the period subsequent to quarter end, and we’ll finish the call with a question-and-answer session.

As a preliminary matter, I would like to note that during this call, we may make forward-looking statements which may be identified by the words will, anticipate, expect, and similar words that are based on the beliefs and assumptions of U.S. Energy's management. These and all statements other than statements of historical fact are forward-looking statements within the meaning of Section 21E of the Securities and Exchange Act of 1934 and Section 27A of the Securities Act of 1933.

The forward-looking statements are subject to numerous risks and uncertainties, including those described in the Form 10-K for the year ended December 31, 2013; which we filed on Wednesday, March 12, 2014, and our other filings with the SEC, all of which are incorporated herein by reference.

I'd now like to turn the call over to Keith.

Keith Larsen

Thank you Reggie; and good morning, ladies and gentlemen. To begin today's call, I'd first like to thank the audience for attending our conference call and for following the company's progress throughout 2013. The year 2013 was the transformative year for the company as we continued our drive to narrow our focus on the oil and gas sector. During the year we shed several non-core assets, realized very meaningful production and reserve gains as we exited the year. In 2013 we realized record oil and gas revenues and record reserves, and we look to improve those records in 2014.

During the 12 months ended December 31, 2013 we had an average daily production rate of 1164 net barrels of oil equivalents and the company realized a total annual production of approximately 425,000 barrels of oil equivalent during the year. This production comes from 113 gross, 16.2 net wells, primarily located in the Williston Basin of North Dakota, South Texas. We have relatively stable production of approximately 1,100 net barrels of oil equivalent per day during the first three quarters of 2013.

We began to see an increase in production from or to non-operated drilling programs in South Texas during the fourth quarter of 2013. We have now reached daily production rate during the fourth quarter of 2013 of approximately 1340 net barrels of oil equivalent per day, which represents to an approximate 22% increase in net daily production as compared to the average for the first three quarters of 2013. As a result of increase production the company recognized another company record, $9.3 million in revenue during the three months ended December 31, 2013 as compared to $8 million during the same period of the prior year, and $8.6 million during the prior quarter.

The $1.2 million increase in year-over-year comparative period revenue is primarily due to higher realized oil and gas prices and higher oil and gas sales volumes in the fourth quarter of 2013 when compared to same period of 2012. The increase in production is primarily from Buda formation wells in our Booth-Tortuga prospects in South Texas. During the fourth quarter of 2013, we recorded a net loss of $1.2 million or $0.04 per share. However, excluding the $2.2 million non-cash impairment taken on our investment in Standard Steam Trust, we recorded income of $940,000.

On an annualized basis the company recognized a company record of $33.6 million in revenue during 2013, compared to revenues of $32.5 million during the prior year. The $1.1 million increase in revenue is primarily due to higher average realized prices for oil and natural gas in 2013 when compared to the prior year. Looking forward, we remain in a good position to fund or forward drilling programs. At December 31, 2013, we had $5.9 million in cash and cash equivalents and an additional $16 million in borrowing capacity under our $25 million line of credit with Wells Fargo. Our working capital at year-end was $6.0 million.

During the year we received an average of $2.8 million per month from our producing wells with an average operating cost of $594,000 per month including work over costs and production taxes of $278,000, for average net cash flows of $1.9 million per month from oil and gas production before non-cash depletion expense.

In the financial and operational release that went out on Wednesday of this week, which is available on our website, we presented and EBITDAX table showing earnings before interest, income taxes, depreciation, depletion and amortization, accretion of discount on asset retirement obligations, non-cash impairments, unrealized derivative gains and losses and non-cash stock compensation expense which we refer to as modified EBITDAX, a reconciliation of modified EBITDAX to net income. Modified EBITDAX was $16.1 million for the year ending December 31, 2013, which is a 21% increase over modified EBITDAX of $13.3 million for 2012.

Our net loss for the year ended December 31, 2013 was $7.4 million or $0.27 per share. However, excluding the $5.8 million non-cash impairment taken on our oil and gas properties during the first quarter of 2013 and the $2.2 million non-cash impairment taken on our investment in Standard Steam Trust, during the fourth quarter of 2013 we recorded net income of $609,000 for the year.

Moving on to our oil and gas operations, our primary focus remains on our two active drilling program in South Texas targeting the development of the Buda Limestone formation in Zavala and Dimmit County. And our drilling programs with several operators in the Williston Basin. In South Texas, the company now participates with Contango and approximately 12,460 gross, 3,740 net acres in the Booth-Tortuga acreage block in Zavala and Dimmit Counties. The increased figures come through an AMI election of another 1,257 gross, 380 net acres in the Booth-Tortuga prospect yesterday which increased our total net acreage in Booth-Tortuga by 11%. The company has an approximate 30% working interest and an approximate 22.5% net revenue interest in this acreage.

First Buda target well in the program the Beeler number two well was drilled in April 2013 and began producing on May 10, 2013. The well had initial gross, initial production rate of 859 gross barrels of oil equivalent per day and had a 30-day average gross daily production rate of 797 barrels of oil equivalent per day. The initial success experienced in the Beeler number two well was seen as the first step in confirming the Buda formation potential in the Booth-Tortuga prospect. In August of 2013, we began drilling wells in the Booth-Tortuga acreage block at Succession. At year end December 2013; four gross 1.2 net wells were producing from the Buda formation. To-date we have now participated in the eight gross 2.4 net Buda formation wells with Contango.

It should be noted that the Beeler number five well which was spud in October 2013 encountered mechanical problems while drilling the service well and it has been temporarily abandoned. The Beeler number five well is now planned to be re-spud in late March, late this month. Contango is currently drilling the Dunlap well a well that is located outside of our AMI and which we have no participation. On the completion of the drilling of that well, the rig is scheduled to be back to the Beeler number five well location. Additionally, the Beeler number nine well which is located further to the west in the acreage block is also currently planned to be spud in mid to late March.

Contango has contracted a full time drilling rig for the balance of 2014 and anticipates adding another rig to drill the Beeler number nine and Beeler number 10 and Succession to meet at least drilling progress. Under our 2014 CapEx budget we’ve allocated approximately $10.8 million towards the drilling of nine gross 2.7 net wells during the year with Contango. In the meantime the Beeler number six, seven and eight are now producing with positive flow rates and we expect to release 30-day production rates in our next operational update.

Additionally, Contango has continued to optimize its Buda drilling and completion practices to reduce well cost and those costs are come down from an average of $3.9 million per well on the first three wells drilled for an average of less than $3 million per well on the last three wells while lateral lengths increased an average of 33%. Average days for spud to initial production have also decreased from 34 days to 25 days when comparing the same group of wells.

Now moving on to our Big Wells prospect which is continuous to the southwestern portion of the Booth-Tortuga acreage block. In August 2013, under an area of mutual interest collection the company acquired a 15% working interest, 11.25% net revenue interest in an additional 4,243 gross, 636 net acres from U.S. Intercorp, a private oil and gas company based in San Antonio, Texas. The initial Buda formation test well on this acreage the Willerson number 1H well was spud on August 26, 2013. The well began producing in October 2013 with an early initial flow rate of 1,039 barrels of oil equivalent per day on a 22-64 Pearsall (Ph) and had an initial 30-day average production rate of 605 gross barrels of oil equivalent per day.

Subsequent to year end, the Willerson number 2H well was spud on February 3, 2014 and began producing last week. Initial flow rates are positive and we are currently monitoring flow back. We expect to report initial production data in our next operational update. Under our 2014 CapEx budget for the Big Wells program, we have allocated approximately $1.8 million towards the drilling an three gross 0.45 net wells during the year. However, the operator has indicated that they may drill up to three additional gross wells which would be 0.45 wells net to us during calendar year 2014 if drilling results weren’t (Ph) accelerated development in the acreage.

In summary in South Texas, we now participate in approximately 21,665 gross 5,863 net acres in the Booth-Tortuga Big Wells and Leona River Prospects combined. And we have been increased by the initial performance of our Buda wells at both prospects. We want to remind our listeners that development of the Booth-Tortuga and Big Wells acreage is still in its early stages and that well results may vary significantly depending upon the well location and further step out results. The Buda formation is a naturally fractured formation and the extent that grows natural factures is yet to be determined. Additionally, down spacing and fracture stimulation of the Buda formation and other formation development in each prospect is yet to be determined.

Now I will move on to the Williston Basin of North Dakota. We participated in 651280 acres spacing units in the basin with numerous operators. At year-end 2013, we have 91 drills, 10.4 net producing wells and 10 drills point 3 net wells being drilled or waiting completion. During the 12 months and the December 31, 2013 we averaged approximately 862 net Boe per days from this segment of our business which accounted for approximately 74% of our net daily production during the year. As you can see from our release published in conjunction with our 10-K filing earlier this week, we continue to actively participate in the drilling and completion of numerous new wells in the basin in order to maintain our stabilized base production from this region. Under our 2014 CapEx budget for the Williston Basin, we have allocated approximately $9.6 million towards drilling of 23 drills, 1.1 net wells during the year.

At year-end 2013, the company have record estimated proved reserves of 3.85 million Boe and that’s 90% oil and 10% natural gas compared to 2.9 million Boe at year-end 2012 which represents a 32.3% increase year-over-year. The estimated proved reserves at December 31, 2013 reached a record standardized measure value of 104.9 million and a PV-10 of 115.1 million which represents a 48% and a 50% increase year-over-year respectively. The difference between the company’s PV-10 of 115 million and a standardized measure value of 104.9 as of December 31, 2012 is the effect of estimated income taxes. The company also reported a risk management strategy through its hedging program as directed by our Board of Directors. In our current hedging program, we have had 600 barrels of per day through 2014 using costless collars. Our weighted average core price for 2014 is $90 per barrel and our weighted average ceiling price is $97.01.

I will now turn to Mount Emmons molybdenum project located in Gunnison County, Colorado. During the third quarter, the company initiated scoping analysis of the Mine Plan of Operations with U.S. Forest Service and anticipates that such work will continue through the balance of 2014. At the same time, we are also pursuing various alternatives in addition to a joint venture or out-write sale that may lead to monetization of the project. These alternatives include a continued dialogue with the China and other parties on various reclamation and cost reduction strategies in order to minimize our project holding cost.

Before moving onto the question-and-answer portion of today’s call, I would also like to highlight a few additional points of progress which we made during 2013. In an ongoing effort by the management team to continue to reduce cost, work more profitability for the company’s shareholders, the company sold its corporate aircraft and related facilities for $2.7 million in January.

Additionally in September, 2013 the company sold its Remington Village apartment complex located in Gillette, Wyoming for $15 million, a $9.5 million commercial note downs on the property was paid in forward closing reducing our overall debt by approximately 50%. After the payment and commission and other closing cost, the net proceeds of the company were approximately $5 million. General and administrative expenses were also decreased by 1.1 million during 2013 as compared to G&A expenses for 2012. In summary, 2013 was a year of transition and refined focus for the company. We have monetized several non-core assets and in the process have also reduced our G&A significantly. We have also established a clear path for growth in the oil and gas sector by reaching record setting milestones in that sector. As we head further into 2014, company has a strong balance sheet and is poised for further growth fueled by our drilling programs and cash allocated for the acquisition of additional prospects.

That concludes our prepared remarks for today, Operator would you please begin the Q&A session?

Question-and-Answer Session

Operator

Yes sir. (Operator Instructions) Your first question comes from the line of Alan [indiscernible] with Sidoti & Company. Your line is open.

Unidentified Analyst

First, if you could just touch on the 5H well, how much is that one end up costing?

Keith Larsen

The total amount that we got into right now is probably about 4 million and they had some trouble right after they turn the corner on it and got stuck a couple of times and because of the other success that we have in area we decided to move on and get some cash flow moving before we move back to it. The real issue was there were some Austin Chalk wells in the area and they were trying to directionally avoid some of those wellbores and so they kind of corkscrewed the well if you will but my understanding now is we are going to come from the other direction and we don’t anticipate any more further trouble on that well.

Unidentified Analyst

Okay. So, do you have an expectation on how much the additional cost would be or?

Keith Larsen

I think it’s going to be come in under 3 million like the other three piece of wells that we have drilled.

Unidentified Analyst

Okay, great. And then if you could just touch on The Beeler 2H well, do you have a current daily rate on that?

Keith Larsen

Steve you get the, probably better to give you…

Unidentified Analyst

Just wonder what the decline rates have been, if you can kind of compare, contrast that with the other, I know that’s early but the other Beeler wells?

Keith Larsen

The February gross rates are about 5,300 barrels of oil and about 27,000 MCF.

Unidentified Analyst

And do you expect Contango to continue drilling on the areas you have AMI in for I guess through the rest of the year or do you not really have the clarity from them on that?

Keith Larsen

No I think they’re going to continue with at least one rig throughout rest of the year, what happened is outside of our AMI they had a lease obligation and they moved rig there. But I expect them to continue on our properties throughout the rest of the year.

Unidentified Analyst

And then in the filing I guess you mentioned 8 million you have allocated for acquisition CapEx. Just wondering if you target I guess high working interest kind of like what you have done in Booth-Tortuga and Big Well and if that’s not as important?

Keith Larsen

We’re targeting Buda formation in South Texas with high working interest.

Unidentified Analyst

So no change in strategy there, just allocating that for just additional?

Keith Larsen

That’s correct.

Unidentified Analyst

And then last question from me, do you have any expectation on cost for Mount Emmons this year?

Keith Larsen

No it’s been running about $2 million to run the water treatment plant but we’re working on ways to reduce that cost and one of them has threw a voluntary cleanup program down there in Colorado and we expect to get the acceptance of that for future and if it does than we hope to cut those cost at least in half.

Operator

Our next question comes from the line of Charles [indiscernible] a private investor. Your line is open.

Unidentified Analyst

Good morning assuming stable oil prices can you give us any revenue guidance for 2014?

Keith Larsen

Charles it’s still a little early for that, would like to see some more performance from these wells in Buda. So we’re going to withhold that at least until the next quarter.

Operator

(Operator Instructions) And I am showing we do have a question from Robert [indiscernible] a private investor. Your line is open.

Unidentified Analyst

You guys are doing a bang up job. I have a few questions, hopefully you can answer. Will these well bores be able to be used for the Eagle Ford after they’re depleted in the Buda line or partly depleted?

Keith Larsen

I don’t know the answer to that question. I know that they can go down and mellow up the casing in some instances. But we have not had great success today in the Eagle Ford area. We drilled three wells, two in the Leona River and one in the Booth-Tortuga and the wells did not perform. What we’re doing is we’re waiting on different operators around us to kind of bring the plate to us to develop new techniques and fracking and completing and possibly develop those in the future. And we have had some shows as have logged through the Eagle Ford that are encouraging. But today we’re not planning on any Eagle Ford development in the area.

Unidentified Analyst

Alright, well I would imagine that given that most of the drilling cost or at least the vertical part of the well is that you’d have stronger economics when you get the Buda line near to depletion and I anticipate you’ll do well but we’ll see. And then is there any hope for the Buda line on well I guess it’s a KM Ranch acreage?

Keith Larsen

There is, we do have the Buda formation there, I am glad you mentioned that because I forgot to in our prepared remarks. That is we’ve got several formations and that’s what we like about South Texas acreage, we got the Austin Chalk, we’ve got the Eagle Ford, we’ve got the Buda, we’ve got the Georgetown, we’ve got Pearsall. So there is multiple potentials in the area and again I think that after we developed more fully down the Buda down and the Booth-Tortuga that we will be looking at Leona River KM Ranch areas for possible exploration there as well.

Unidentified Analyst

Then another question about the Buda where you are at, has there been any successful wells to our West?

Keith Larsen

Not that I know of, no horizontal wells to our west, mainly it’s been to the east and that was then used and to our south. So the nine wells will be west the most western horizontal well on the Buda.

Unidentified Analyst

Alright, so we’re doing, it step out and or exploration as we go west on the acreage block?

Keith Larsen

That is correct.

Unidentified Analyst

Then, when I look at your acreage map and I look at your little pictures South Texas in your presentation. It looks to me like it might cross the real Grand River. The Mexican government is changing the rules in Mexico about participation in oil and gas down there.

And you guys may have started looking into it already or not, but I think that you should talk at least with Contango about looking for prospects that are on the other side of the river. I did not believe -- as I mentioned to you, you want to mention that onetime the straight line between Colorado and Kansas didn’t terminate production and neither or the Rio Grande river, I don’t think. And lastly, it looks me like the wells to south of this are getting gassier almost as if what you’re looking at is the solution gas driver reservoir, is the kind of your take at this stage or has anybody made an effort to understand whether or not this is just one large fractured reservoir behaving in certain ways?

Unidentified Company Representative

We have seen higher indication of gas production to the south, but I think it’s too early to tell Robert. We need to drill some more wells but really see what the performance is down there.

Unidentified Analyst

Okay. Well, I’ll grab but that’s true, but just to put a bug in your area. I think you guys are in real large solution gas driver as Warren. It’s looked to me like the acreage to the north is in the oil lake which is where Booth-Tortuga is, the other acreage not so much. And then lastly, on your maps I can see a structure contour and I’m assuming what I’m looking at is the nose of anticline, is that correct?

Unidentified Company Representative

Not sure. I’m not a geologist, but we do see some turns of the contours like you see on the map there. Robert, we appreciate your comments and your questions there you my friend.

Unidentified Analyst

Or I will listen you guys are doing a bang-up job and you’re on the right road. The last thing I’d say to you is the Bakken where I didn’t get any real value for now, the value of the Company the stock price today is the value of the Bakken. They’ve already given you nothing further Budas or nothing for the Bakken and I look for that to rectify itself shortly. Good look gentlemen.

Operator

And our next question [indiscernible] Private Investor. Your line is open.

Unidentified Analyst

Can you comment further on the possibility of the second rig in the Buda at least that was mentioned back in Contango on their call?

Keith Larsen

Yes, Charles our understand is that they’re bringing a second rig, so we’re going to start the five later this month and the ninth later this month and my understanding from Contango is that rig will be with us for two drills possibly more but they also have another area for that rigs. So we may only get two and we may get more than the two. And again that probably is going to read depend on results.

Operator

And there are no further questions at this time. You have any closing remarks?

Keith Larsen

Yes, I do. I would like to thank our audience for joining us today. As demonstrated throughout 2013, we have continued to manage our balance sheet and joint commitments. We have significantly reduced our overhead cost through the sale of noncore assets. We are focused on our development opportunities through acquisitions on the drill bit. And we continue to work to reduce our management holding cost by working diligently to monetize this legacy asset and further refine our focus on the oil and gas sector. We will continue to maintain our financial and operational flexibility but the ultimate goal of driving growth and profitability for the company’s shareholder. I want to thank everybody for joining us today.

Operator

This concludes today’s conference call. You may now disconnect.

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