EMPIRE PETROLEUM CORP 10-K

ITEM 1. BUSINESS. In this Form 10-K, references to “Empire”, the “Company”, “we”, and “our” refer to Empire Petroleum Corporation and its wholly-owned subsidiaries, unless context indicates otherwise. The Company uplisted from the OTCQB to the NYSE American effective March 8, 2022. Immediately prior to the listing, a reverse stock split of 1 for 4 occurred. All pricing and share amounts have been stated at post-reverse split amounts. On March 8, 2022, the Company’s common stock began trading on the New York Stock Exchange American (“NYSE American”) under the symbol “EP” and CUSIP 292034303. Prior to trading on the NYSE American, the Company’s common stock was accessible on the OTCQB. Overview Empire Petroleum Corporation is an independent energy company owner-operator engaged in optimizing developed production by employing field management methods to maximize reserve recovery while minimizing costs. Empire operates the following wholly-owned subsidiaries in its areas of operations: · Empire North Dakota LLC (“Empire North Dakota”) · Empire New Mexico LLC d/b/a Green Tree New Mexico (“Empire New Mexico”) · Empire Texas (“Empire Texas”), consisting of the following entities: o Empire Texas LLC o Empire Texas GP LLC o Pardus Oil & Gas Operating, LP (owned 1% by Empire Texas GP LLC and 99% by Empire Texas LLC) · Empire Louisiana LLC (“Empire Louisiana”) Empire was incorporated in the State of Utah in August 1983 and subsequently incorporated in the state of Delaware in 1985. The consolidated financial statements of Empire Petroleum Corporation and subsidiaries include the accounts of the Company and its wholly-owned subsidiaries. The Company’s mission is to increase shareholder value by building oil and natural gas reserves in strategic plays in the United States. To accomplish its mission, the Company plans on executing the following business strategies: · Target proved developed producing acquisitions in predictable, fields that have historically had low decline and long lives · Focus on high-quality assets that add scale and provide synergies to the Company’s existing portfolio and core areas of operation · Cost-effectively optimize well production by deploying rigorous field management programs · Reduce unit operating costs and improve margins by utilizing experienced field personnel The Company operates as a single segment as each of its operating areas has similar economic characteristics and each meet the criteria for aggregation as defied by accounting standards related to disclosures about segments of an enterprise. The Company has progressed through several leadership teams since its inception in 1983 and the most recent management team was installed in 2017 and its first PDP operating assets were purchased in 2018. Properties The Company is an independent operator in four geographic areas in the United States. As operator, the Company manages and influences production on operated properties. The Company uses a combination of experienced field personnel and third-party service providers to execute its mission. The Company’s properties have reasonably predictable production profiles and cash flows, subject to commodity price and cost fluctuations. As is common in the industry in which the Company operates, the Company selectively participates in drilling and developmental activities in non-operated properties. Decisions to participate in non-operated properties are dependent upon the technical and economic nature of the projects and the operating expertise and historical track record of the operators. Empire Louisiana Empire Louisiana acquired its assets in late 2018 and has 11 producing properties and three saltwater disposal wells in the following formations: · Miocene · Frio · Cockfield · Wilcox Empire Louisiana’s assets primarily produce oil from properties with average WI of 58% and NRI of average operated NRI of 47%. - 6 - Empire New Mexico Empire New Mexico was formed when the Company purchased producing assets from XTO in May 2021. These assets are located in Lea County, New Mexico and consist of a contiguous and consolidated acreage position consisting of 48,000 gross (40,000 net) acres held by production from approximately 730 wells with an average WI of 72% and average NRI of 61% and 14 RI wells with an average ORRI of 11% Empire New Mexico’s assets primarily produce oil with natural gas and NGLs accompanying oil production. Empire New Mexico’s properties are in the following formations: · Grayburg/San Andres (primary source of production) · Queen-Seven Rivers-Yates · Devonian · Abo · Blinebry · Tubb · Drinkard Empire North Dakota Empire North Dakota operates approximately 230 producing properties with an average WI of 89% and NRI of 61% in North Dakota and western Montana that were acquired in April 2019. These properties primarily produce oil with some related gas production. Assets are located in the following formations: · Madison (primary source of production) · Bakken · Duperow · Red River · Ratcliffe/Mission Canyon Presence in these formations allows the Company to execute its mission in areas with sustained impressive, near-flat production rates over the last five years and capitalize on operational improvements to allow more immediate recovery of reserves. Empire Texas In April 2020, Empire Texas acquired 139 gross wells and approximately 30,000 net acres with an average operated WI of 96% and an average operated NRI of 79% as well as 77 miles of gathering lines and pipelines with related facilities and equipment. Empire Texas owns concentrated acreage and stacked pay in the historically prolific East Texas Basin. Assets are concentrated in the Fort Trinidad Field in Houston and Madison Counties with high working interest and historical production from eight separate formations. In August 2020, Empire Texas entered into a joint development agreement with Petroleum & Independent Exploration, LLC and related entities (“PIE”). Under the terms of this agreement, PIE will perform recompletion or workover on specified mutually agreed upon wells (“Workover Wells”) owned by Empire Texas. To fund the work, PIE entered into a term loan agreement with the Company dated August 1, 2020, whereby PIE will loan up to $2,000,000, at an interest rate of 6% per annum, maturing August 7, 2024 unless terminated earlier by PIE. Proceeds of the loan will be used for recompletion or workover of the Workover Wells. Empire Texas will assign a combined 85% working and revenue interest in the Workover Wells to PIE when work commences on a property. Of the assigned interest, 70% working and revenue interest will be used to repay the obligations under the term loan agreement. Once the term loan is repaid, PIE will reassign a 35% working and revenue interest to Empire Texas in each of the Workover Wells and retain a 50% working and revenue interest. - 7 - Production and Operating Data The following table sets forth a summary of our production and operating data for the years ended December 31, 2021 and 2020. Because of normal production declines, increased or decreased production due to future acquisitions, divestitures, and development, fluctuations in commodity prices and the effects of acquisitions or divestitures, the historical information presented below should not be interpreted as being indicative of future results. Year ended December 31, 2021 Year ended December 31, 2020 Production and operating data: Net production volumes: Oil (Bbl) 333,158 164,869 Natural gas (Mcf) 622,474 139,412 Natural gas liquids (gal) 4,321,497 — Total (Boe) 539,796 188,104 Average price per unit: Oil (a) $ 64.52 $ 42.00 Natural gas (a) $ 3.90 $ 2.53 Natural gas liquids $ 0.79 $ — Total (Boe) $ 50.61 $ 38.68 Operating costs and expenses per Boe: Oil and natural gas production $ 26.11 $ 25.90 Production and ad valorem taxes $ 3.90 $ 1.84 Depreciation, depletion, amortization and accretion $ 6.89 $ 21.52 Impairment $ — $ 46.10 General & administrative $ 15.68 $ 39.20 (a) Includes the effect of net cash receipts (payments on) derivatives, as applicable contracts are in place. At December 31, 2021, the Company has approximately 1,100 operated wells. At December 31, 2020, the Company had 190 producing wells of which it operated 156. The Company has no operated wells in process as of December 31, 2021, or 2020 and had no drilling activity during the year with the exception of four non-operated wells. The Company has no delivery commitments for oil or natural gas. Oil and Natural Gas Reserves The Company engaged an independent petroleum engineering firm, CG&A, to prepare its annual reserve estimates and has relied on CG&A’s expertise to ensure that reserve estimates are prepared in accordance with SEC guidelines. The technical person primarily responsible for the preparation of the reserve report is Zane Meekins, Executive Vice President. Mr. Meekins has been with CG&A since 1989 and graduated from Texas A&M University in 1987 with a bachelor's degree in Petroleum Engineering. He is a registered professional engineer in Texas and has more than 30 years of experience in the estimation and evaluation of oil and natural gas reserves. He is also a member of the Society of Petroleum and The Society of Petroleum Evaluation Engineers. Brian Weatherl, Vice President of Engineering, is responsible for reservoir engineering, and is a qualified reserve estimator and is responsible for overseeing CG&A during the preparation of the annual reserve estimates. His professional qualifications meet or exceed the qualifications of reserve estimators set forth in the “Standards Pertaining to Estimation and Auditing of Oil and Natural Gas Reserve Information” promulgated by the Society of Petroleum Engineers. His qualifications include a Bachelor of Science degree in Petroleum Engineering from the University of Tulsa in 1984 and he is a member of the Society of Petroleum Engineers. Mr. Weatherl has been estimating and evaluating reserves for over 35 years. The Company maintains adequate and effective internal controls over the reserves estimation process as well as the underlying data upon which reserve estimates are based. The primary inputs to the reserve estimation process are technical information, financial data, ownership interest and production data. The relevant field and reservoir technical information, which is updated at least annually, is assessed for validity when CG&A has technical meetings with Company personnel. Current revenue and expense information is obtained from accounting records, which are subject to external quarterly reviews, annual audits, and internal controls over financial reporting. Internal controls over financial reporting are assessed for effectiveness annually using criteria set forth in “Internal Control – Integrated Framework” (2013 version) issued by the Committee of Sponsoring Organizations of the Treadway Commission. All current financial data such as commodity prices, lease operating expenses, production taxes and field level commodity price differentials are updated in the reserve database and then analyzed to ensure that they have been entered accurately and that all updates are complete. The Company’s ownership in mineral interests and well production data are subject to internal controls and are incorporated into the reserve database as well as verified internally by Company personnel to ensure accuracy and completeness. Once the reserve database has been updated with current information, and the relevant technical support material has been assembled, CG&A meets with technical personnel to review field performance and future development plans in order to verify the validity of estimates. Following these reviews, the reserve database is furnished to CG&A so that it can prepare its independent reserve estimate and final report. The reserve estimates prepared by CG&A are reviewed and compared to internal estimates by Mr. Weatherl. Material reserve estimation differences are reviewed between CG&A and Company personnel and additional data is provided to address any variances. If the supporting documentation does not justify additional changes, CG&A reserves are accepted. In the event that additional data supports a reserve estimation adjustment, CG&A will analyze the additional data and may make changes it solely deems necessary. Additional data is usually comprised of updated production information on new wells. Once the review is completed and all material differences are reconciled the reserve report is finalized and our reserve database is updated with the final estimates provided by CG&A. Net proved reserves were calculated using flat, twelve-month average commodity index prices for each month within the 12-month period for the year. All prices and costs associated with operating wells were held constant in accordance with SEC guidelines. Prices of $64.31 per barrel and $7.34 per Mcf were utilized at December 31, 2021. Natural gas pricing includes prices received for NGLs during the year. Due to the inherent uncertainty associated with estimating NGLs, no NGL volumes were included in the reserve report. - 8 - The following table represents the Company’s oil and natural gas reserves at December 31, 2021. Oil Natural Gas (Mbbl) (MMcf) Proved developed 8,448 11,205 The following table represents the Company’s oil and natural gas reserves at December 31, 2020. Pricing was in accordance with SEC guidelines and was $32.94 per barrel and $1.41 per Mcf. Oil Natural Gas (Mbbl) (MMcf) Proved developed 3,331 940 The Company’s primary mission is to optimize existing producing properties; as such, there are no reserves estimated for undeveloped properties, though the Company owns acreage that can be drilled in the future and is also a non-operator WI owner on acreage subject to future drilling activities. Reserve engineering is a subjective process of estimating underground accumulations of crude oil and natural gas that cannot be measured in an exact manner, and the accuracy of any reserve estimate is a function of the quality of available data and of engineering and geological interpretation and judgment. The quantities of oil and natural gas that are ultimately recovered, production and operating costs, and future oil and natural gas prices may differ from those assumed in these estimates. Our internal professionals work closely with the Company’s external engineers to ensure the integrity, accuracy, and timeliness of data that is furnished to them for their reserve estimation process. COVID-19 Despite recoveries in commodity prices, recent surges from COVID-19 variants continue to impact the global economy, disrupt global supply chains, and have the potential to create significant volatility and disruption of financial and commodity markets. The extent of the impact of the COVID-19 pandemic on the Company’s operational and financial performance, including its ability to execute business strategies and initiatives in the expected timeframes, is uncertain and depends on various factors, including how the pandemic and measures taken in response to its effects impact the demand for oil and natural gas, the availability of personnel, equipment, and services critical the Company’s ability to operate its properties and the impact of potential governmental restrictions. There is uncertainty regarding the extent and duration of any disruption. As a producer of oil, natural gas, and NGLs, the Company is recognized as an essential business under various federal, state, and local regulations related to the COVID-19 pandemic. The Company has continued to operate as permitted while working to protect the health and safety of employees. Marketing Arrangements We market our oil and natural gas in accordance with standard energy industry practices. This marketing effort endeavors to obtain the combined highest netback and most secure market available at that time. We sell oil production at the lease locations to third-party purchasers via truck transport or pipeline. We do not transport, refine or process the oil we produce. We sell our produced oil under contracts using market-based pricing, which is adjusted for differentials based upon oil quality. We sell our natural gas and natural gas liquids under purchase contracts using market-based pricing, which is sold at the lease location. Principal Customers We sell our oil, natural gas, and NGL production to marketers which is transported by truck or pipeline to storage facilities arranged by the marketers. Our marketing of oil and natural gas can be affected by factors beyond our control, the effects of which cannot be accurately predicted. For 2021, 63% revenues from oil, natural gas, and NGL sales were to four customers. For 2020, revenues from oil and natural gas sales to four customers accounted for 95% of our total operating revenues. While the loss of these purchasers may result in a temporary interruption in sales of, or a lower price for, our production, we believe that the loss of these purchasers would not have a material adverse effect on our operations, as there are alternative purchasers in our producing region. Competition The oil and natural gas industry in the areas in which we operate is highly competitive. We encounter strong competition from numerous parties, ranging generally from small independent producers to major integrated companies. We primarily encounter significant competition in acquiring properties. At higher commodity prices, we also face competition in contracting for rigs, pressure pumping and workover equipment and securing trained personnel. Many of these competitors have financial, technical and personnel resources substantially larger than ours. As a result, our competitors may be able to pay more for desirable properties, or to evaluate, bid for and purchase a greater number of properties or prospects than our financial or personnel resources will permit. - 9 - In addition to competition for drilling, pressure pumping and workover equipment, we are also affected by the availability of related equipment and materials. The oil and natural gas industry periodically experiences shortages of drilling and workover rigs, equipment, pipe, materials and personnel, which can delay workover and exploration activities and cause significant price increases. We are unable to predict the timing or duration of any such shortages. Seasonality of Business Weather conditions often affect the demand for, and prices of, natural gas and can also delay oil and natural gas production. Demand for natural gas is traditionally higher in the winter, resulting in higher natural gas prices during the first and fourth quarters. Due to these seasonal fluctuation, results of operations for individual quarterly periods may not be indicative of the results realized on an annual basis. Markets; Price Volatility The market price of oil and gas is volatile, subject to speculative movement and depends upon numerous factors beyond the control of the Company, including expectations regarding inflation, global and regional demand, political and economic conditions and production costs. Future profitability, if any, will depend substantially upon the prevailing prices for oil and gas. If the market price for oil and gas remains depressed in the future, it could have a material adverse effect on the Company's ability to raise additional capital necessary to finance operations. Lower oil and gas prices may also reduce the amount of oil and gas, if any, that can be produced economically from the Company's properties. The Company anticipates that the prices of oil and gas will fluctuate in the near future. Regulation The oil and gas industry is subject to extensive federal, state and local laws and regulations governing the production, transportation and sale of hydrocarbons as well as the taxation of income resulting therefrom. Legislation affecting the oil and gas industry is constantly changing. Numerous federal and state departments and agencies have issued rules and regulations applicable to the oil and gas industry. In general, these rules and regulations regulate, among other things, the extent to which acreage may be acquired or relinquished; spacing of wells; measures required for preventing waste of oil and gas resources; and, in some cases, rates of production. The heavy and increasing regulatory burdens on the oil and gas industry increase the Company's cost of doing business and, consequently, affect profitability. The oil and gas operations are also subject to numerous federal, state and local laws and regulations relating to environmental protection. These laws govern, among other things, the amounts and types of substances and materials that may be released into the environment, the issuance of permits in connection with exploration, drilling and production activities, the reclamation and abandonment of wells and facility sites and the remediation of contaminated sites. These laws and regulations may impose substantial liabilities if the Company fails to comply or if any contamination results from the Company's operations. Employees At December 31, 2021, the Company had thirty-one full-time employees, not including contract personnel and outsourced service providers. The Company’s team is broadly experienced in oil and natural gas operations and follows a strategy of outsourcing most accounting, human resources, and other non-core functions. Office Locations Our corporate headquarters are at 2200 South Utica Place, Suite 150, Tulsa, OK, with field offices in North Dakota, Texas, and New Mexico.