The accompanying notes are an integral part
of these unaudited condensed consolidated financial statements.
The accompanying notes are an integral part
of these unaudited condensed consolidated financial statements.
The accompanying notes are an integral part
of these unaudited condensed consolidated financial statements
The accompanying notes are an integral part
of these unaudited condensed consolidated financial statements
1.
ORGANIZATION, OPERATIONS
AND SIGNIFICANT ACCOUNTING POLICIES
Organization and Operations
U.S. Energy Corp. (collectively with its
subsidiaries referred to as the “Company” or “U.S. Energy”) was incorporated in the State of Wyoming on January 26, 1966.
The Company’s principal business activities are focused in the acquisition, exploration and development of oil and gas properties
in the United States.
Basis of Presentation.
The accompanying unaudited condensed consolidated
financial statements are presented in accordance with U.S. generally accepted accounting principles (“GAAP”) and have
been prepared by the Company pursuant to the rules and regulations of the Securities and Exchange Commission (the “SEC”)
regarding interim financial reporting. Accordingly, certain information and footnote disclosures required by GAAP for complete
financial statements have been condensed or omitted in accordance with such rules and regulations. In the opinion of management,
all adjustments (consisting of normal recurring adjustments) considered necessary for a fair presentation of the consolidated financial
statements have been included.
For further information, refer to the consolidated
financial statements and footnotes thereto included in our Annual Report on Form 10-K for the year ended December 31, 2015. Our
financial condition as of March 31, 2016, and operating results for the three months ended March 31, 2016 are not necessarily indicative
of the financial condition and results of operations that may be expected for any future interim period or for the year ending
December 31, 2016.
As discussed in Note 5, during the fourth
quarter of 2015 the Company began accounting for its mining operations as a Discontinued Operation. Accordingly, certain reclassifications
have been made to the prior period balances in order to conform to the current period presentation. These and other reclassifications
had no impact on working capital, net loss, shareholders’ equity or cash flows as previously reported.
Use of Estimates
The preparation of financial statements
in conformity with GAAP requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities,
disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and
expenses during the reporting period. Significant estimates include oil and gas reserves that are used in the calculation of depreciation,
depletion, amortization and impairment of the carrying value of evaluated oil and gas properties; production and commodity price
estimates used to record accrued oil and gas sales receivable; valuation of commodity derivative instruments; the impact of commodity
prices and other events affecting impairment of mining properties; and the cost of future asset retirement obligations. The Company
evaluates its estimates on an on-going basis and bases its estimates on historical experience and on various other assumptions
the Company believes to be reasonable. Due to inherent uncertainties, including the future prices of oil and gas, these estimates
could change in the near term and such changes could be material.
Principles of Consolidation
The accompanying financial statements include
the accounts of the Company and its wholly owned subsidiaries Energy One, LLC (“Energy One”), Highlands Ranch LLC (“Highlands
Ranch”) and Remington Village, LLC (“Remington Village”). All inter-company balances and transactions have been
eliminated in consolidation. Certain prior period amounts have been reclassified to conform to the current period presentation
of the accompanying financial statements.
Comprehensive Income (Loss)
Comprehensive income (loss) is used to
refer to net income (loss) plus other comprehensive income (loss). Other comprehensive income (loss) is comprised of revenues,
expenses, gains, and losses that under GAAP are reported as separate components of shareholders’ equity instead of net income
(loss). Net loss was the only component of comprehensive income (loss) for the three months ended March 31, 2016 and 2015.
U.S. ENERGY CORP. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS,
Continued
(Dollars in Thousands, Except Per Share
Amounts)
Recent Accounting Pronouncements
The following recently issued accounting standards are not yet
effective; the Company is assessing the impact these standards will have on its consolidated financial statements as well as the
period in which adoption is expected to occur:
In May 2014, the Financial Accounting Standards Board
(“FASB”) issued Accounting Standards Update (“ASU”) No. 2014-09,
“Revenue from Contracts with
Customers”
. This comprehensive guidance will replace all existing revenue recognition guidance and is effective for annual
reporting periods beginning after December 15, 2018, and interim periods therein.
In August 2014, the FASB issued ASU No. 2014-15,
“Disclosure of Uncertainties about an Entity’s Ability to Continue as a Going Concern”
that will require
management to evaluate whether there are conditions and events that raise substantial doubt about the Company’s ability to
continue as a going concern within one year after the financial statements are issued on both an interim and annual basis. Management
will be required to provide certain footnote disclosures if it concludes that substantial doubt exists or when its plans alleviate
substantial doubt about the Company’s ability to continue as a going concern. This ASU becomes effective for annual periods
beginning in 2016 and for interim reporting periods starting in the first quarter of 2017.
In January 2016, the FASB issued ASU 2016-01,
Financial
Instruments - Overall: Recognition and Measurement of Financial Assets and Financial Liabilities.
This ASU is intended
to improve the recognition and measurement of financial instruments. Among other things, this ASU requires certain equity investments
to be measured at fair value with changes in fair value recognized in net income. This guidance is effective for fiscal years beginning
after December 15, 2017, and interim periods therein.
In February 2016, the FASB issued ASU 2016-02,
Leases
,
which will supersede the existing guidance for lease accounting. This ASU will require lessees to recognize leases on their balance
sheets, and leaves lessor accounting largely unchanged. This guidance is effective for fiscal years beginning after December 15,
2018 and interim periods within those fiscal years, and early adoption is permitted.
In March 2016, the FASB issued ASU 2016-09,
Improvements to Employee Share-Based Payment Accounting.
The core change with ASU 2016-09 is the simplification of several aspects of the accounting for share-based payment transactions,
including the income tax consequences, classifications of awards as either equity or liabilities, and classification in the statement
of cash flows. This guidance is effective for fiscal years beginning after December 15, 2016 and interim periods within those
fiscal years, and early adoption is permitted.
The following recently issued accounting
standards were adopted effective January 1, 2016; the impact of adoption did not have a material impact on the Company’s
consolidated financial statements:
In November 2014, the FASB issued ASU 2014-16,
“Derivatives and Hedging: Determining Whether the Host Contract in a Hybrid Financial Instrument Issued in the Form of a
Share Is More Akin to Debt or to Equity
”. This ASU does not change the current criteria in GAAP for determining when
separation of certain embedded derivative features in a hybrid financial instrument is required, but clarifies how current GAAP
should be interpreted in the evaluation of the economic characteristics and risks of a host contract in a hybrid financial instrument
that is issued in the form of a share, reducing existing diversity in practice.
In January 2015, the FASB issued ASU 2015-01, “
Income
Statement—Extraordinary and Unusual Items”
, that simplifies income statement classification by removing the concept
of extraordinary items from GAAP. The separate disclosure of extraordinary items after income from continuing operations in the
income statement is no longer permitted.
In February 2015, the FASB issued ASU No. 2015-02,
“Consolidation: Amendments to the Consolidation Analysis”
. The new standard is intended to improve targeted areas
of consolidation guidance for legal entities such as limited partnerships, limited liability corporations, and securitization structures.
During 2015, the FASB issued ASUs No. 2015-03 and
No. 2015-15 titled
“Interest-Imputation of Interest”,
which generally requires the presentation of debt issuance
costs as a direct deduction from the carrying amount of the related debt liabilities. However, for debt issuance costs related
to line-of-credit arrangements, the Company is permitted to continue presenting debt issuance costs as an asset and subsequently
amortizing the deferred debt issuance costs ratably over the term of the line-of-credit arrangement. The Company elected to continue
to present its deferred line of credit fees as an asset in its consolidated balance sheets.
U.S. ENERGY CORP. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS,
Continued
(Dollars in Thousands, Except Per Share
Amounts)
2. LIQUIDITY
As
of March 31, 2016, the Company has a working capital deficit of $10,419 and an accumulated deficit of $120,307. Additionally, the
Company incurred a net loss of $10,602 for the three months ended March 31, 2016. As of March 31, 2016, the Company failed to remain
in compliance with financial covenants in its credit agreement and management does not expect the Company will regain compliance
through the second quarter of 2016. Accordingly, the entire balance of $6,000 is required to be classified as a current liability.
While no assurance can be provided,
management believes the lender will not demand repayment until an alternative lender
can be obtained.
During the period from September 2015 through
February 2016, the Company completed the following actions which are expected to improve the Company’s operating results
in 2016 and enable the Company to survive the current oil and gas industry price environment:
|
·
|
During the third quarter of 2015, the Company began to implement restructuring actions to reduce
corporate overhead through a reduction in the size of the Company’s workforce from 14 employees at the end of 2014 to one
employee by January 2016. Additionally, in December 2015 the Company completed a move of its corporate headquarters to Denver,
Colorado for better access to financial services and to improve access to oil and gas deal flow. Management expects its restructuring
and other cost-cutting actions will result in an overhead reduction of approximately $4,000 on an annualized basis. During the
first quarter of 2016, the Company began to realize the benefits of these actions as aggregate general and administrative expenses
were reduced by 48% compared to the first quarter of 2015.
|
|
·
|
As discussed in Note 5, in February 2016 the Company completed the disposition of its mining segment,
including the Keystone Mine, a related water treatment plant and other related properties. A significant objective for completing
the disposition was to improve future profitability through the elimination of the obligations to operate the water treatment plant
and mine holding costs, which are expected to result in estimated annual cash savings of $3,000. During the first quarter of 2016,
the Company began to realize the benefits of this disposition as aggregate operating expenses associated with the mining segment
were reduced by 58% compared to the first quarter of 2015. Management believes the disposition of the Company’s mining segment
is a major step in the transformation of U.S. Energy Corp. to solely focus on its existing oil and gas business.
|
Management believes approximately $7,000
of annualized overhead and mining expense reductions have poised the Company to survive the current low commodity price environment,
in combination with our attractive oil price risk derivative contracts for 87,050 barrels of oil which is 60% of expected production
for the last nine months of 2016.
As of March 31, 2016, the Company had cash
and equivalents of $1,921, management expects to maintain cash balances in this range for some time. Management also expects potential
investors and lenders will find the Company’s new singular industry focus, combined with attractive producing properties
and a low-cost overhead structure to be an attractive vehicle to partner with the Company during this industry downturn and low
commodity price environment.
3. OIL PRICE RISK DERIVATIVES
The Company’s wholly-owned subsidiary
Energy One has entered into crude oil derivative contracts (“economic hedges”) with Wells Fargo, the Company’s
lender as discussed further in Note 7. The derivative contracts are priced based on West Texas Intermediate (“WTI”)
quoted prices for crude oil. The Company is a guarantor of Energy One’s obligations under the economic hedges. The objective
of utilizing the economic hedges is to reduce the effect of price changes on a portion of the Company’s future oil production,
achieve more predictable cash flows in an environment of volatile oil and gas prices and to manage the Company’s exposure
to commodity price risk. The use of these derivative instruments limits the downside risk of adverse price movements. However,
there is a risk that such use may limit the Company’s ability to benefit from favorable price movements. Energy One may,
from time to time, add incremental derivatives to hedge additional production, restructure existing derivative contracts or enter
into new transactions to modify the terms of current contracts in order to realize the current value of its existing positions.
The Company does not engage in speculative derivative activities or derivative trading activities, nor does it use derivatives
with leveraged features. Presented below is a summary of outstanding “costless collars” with Wells Fargo as of March
31, 2016 (which total an aggregate of 87,050 barrels of oil production during the last nine months of 2016):
U.S. ENERGY CORP. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS,
Continued
(Dollars in Thousands, Except Per Share
Amounts)
Settlement Period
|
|
Quantity
|
|
|
Contract Price
|
|
Begin
|
|
End
|
|
(bbls/ day)
|
|
|
Put
|
|
|
Call
|
|
|
|
|
|
|
|
|
|
|
|
|
|
4/1/16
|
|
6/30/16
|
|
|
350
|
|
|
$
|
57.50
|
|
|
$
|
66.80
|
|
7/1/16
|
|
12/31/16
|
|
|
300
|
|
|
$
|
50.00
|
|
|
$
|
65.25
|
|
As of March 31, 2016, the aggregate fair
value of oil derivative put contracts was an asset of $1,079 and the aggregate fair value of oil derivative call contracts was
a liability of $18. Since these contracts are with the same counterparty, the Company recognizes the net asset of $1,061 in the
accompanying balance sheet as of March 31, 2016. Since all of the derivative contracts expire within nine months of the balance
sheet date, the entire amount is included in current assets. As of December 31, 2015, the aggregate fair value of oil derivative
put contracts was an asset of $1,674 and the aggregate fair value of oil derivative call contracts was a liability of $40, resulting
in a net asset of $1,634.
Unrealized gains and losses resulting from
derivatives are recorded at fair value on the consolidated balance sheet and changes in fair value are included in unrealized gain
(loss) on oil price risk derivatives in the consolidated statements of operations.
4. CEILING TEST FOR OIL AND GAS PROPERTIES
The reserves used in the Company’s
full cost ceiling test incorporate assumptions regarding pricing and discount rates over which management has no influence in the
determination of present value. In the calculation of the ceiling test as of March 31, 2016, the Company used a price of $46.26
per barrel for oil and $2.40 per MMbtu for natural gas (as further adjusted for property specific gravity, quality, local markets
and distance from markets) to compute the future cash flows of the Company’s producing properties. These prices compare to
$50.28 per barrel for oil and $2.59 per MMbtu for natural gas used in the calculation of the Ceiling Test as of December 31, 2015.
The discount factor used was 10%.
For the three months ended March 31, 2016
and 2015, ceiling test impairment charges for the Company’s oil and gas properties amounted to $6,957 and $19,240, respectively.
These impairment charges were primarily related to (i) a decline in the price of oil and reductions in the estimated quantities
that are economically recoverable at the current low oil price environment, and (ii) the transfer of approximately $1,000 of unevaluated
properties to the full cost pool due to impairment. Further ceiling test impairment charges are likely during the second quarter
of 2016.
5. DISCONTINUED OPERATIONS AND PREFERRED
STOCK ISSUANCE
Disposition of Mining Segment
In February 2006, the Company reacquired the Mt. Emmons molybdenum
mining properties (the “Property”). The Company has not conducted any extractive mining operations at the Property
since its reacquisition but the Company was obligated under existing permits to operate a water treatment plant (“WTP”)
and to incur holding costs associated with the retention of the mining properties, which resulted in aggregate annual expenses
of approximately $3,000 during each of the three years in the period ended December 31, 2015.
The market price for molybdenum oxide was approximately $11
per pound during 2013 and 2014 with a decrease to approximately $5 per pound by the fourth quarter of 2015. In light of the considerable
ongoing costs related to the Property and the deteriorating market for molybdenum, during 2015 the Company began to explore the
viability of alternative structures to the development of the Property that could result in a sharing or elimination of the ongoing
costs and liabilities.
In February 2016, the Company’s Board of Directors decided
to dispose of the Property rather than continuing the Company’s long-term development strategy whereby the Company entered
into the following agreements:
|
A.
|
The Company entered into an Acquisition Agreement (the “Acquisition Agreement”) with Mt. Emmons Mining Company,
a subsidiary of Freeport-McMoRan Inc. (“MEM”), whereby MEM acquired the Property which consists of the Mt. Emmons mine
site located in Gunnison County, Colorado, including the Keystone Mine, the WTP and other related properties. Under the Acquisition
Agreement, MEM replaced the Company as the permittee and operator of the WTP and will discharge the obligation of the Company to
operate the WTP from and after the closing in accordance with the applicable permits issued by the Colorado Department of Public
Health and Environment. The Company did not receive any cash consideration for the disposition; the sole consideration for the
transfer was that MEM assumed the Company’s obligations to operate the WTP and to pay the future mine holding costs for portions
of the Property that it desires to retain.
|
U.S. ENERGY CORP. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS,
Continued
(Dollars in Thousands, Except Per Share
Amounts)
As a result of the subsequent disposition of the
Property as described above, the Company determined that an impairment charge of $22,620 was required to be recorded in the fourth
quarter of 2015. The disposal of a segment is reported as discontinued operations in the Company’s financial statements.
Presented below are the assets and liabilities associated with the Company’s mining segment as of March 31, 2016 and December
31, 2015:
|
|
2016
|
|
|
2015
|
|
|
|
|
|
|
|
|
Assets retained by the Company:
|
|
|
|
|
|
|
|
|
Performance bonds and refundable deposits
|
|
$
|
135
|
|
|
$
|
114
|
|
|
|
|
|
|
|
|
|
|
Net assets conveyed to Purchaser:
|
|
|
|
|
|
|
|
|
Undeveloped mining claims
|
|
|
-
|
|
|
|
21,942
|
|
Mining equipment
|
|
|
-
|
|
|
|
1,774
|
|
Less accumulated depreciation of mining equipment
|
|
|
-
|
|
|
|
(892
|
)
|
Less write-down due to impairment
|
|
|
-
|
|
|
|
(22,620
|
)
|
|
|
|
|
|
|
|
|
|
Net book value of assets conveyed
|
|
|
-
|
|
|
|
204
|
|
|
|
|
|
|
|
|
|
|
Total assets of discontinued operations
|
|
$
|
135
|
|
|
$
|
318
|
|
|
|
|
|
|
|
|
|
|
Asset retirement obligations assumed by Purchaser
|
|
$
|
-
|
|
|
$
|
204
|
|
|
B.
|
Concurrent with entry into the Acquisition Agreement and as additional consideration for MEM to accept transfer of the
Property, the Company entered into a Series A Convertible Preferred Stock Purchase Agreement (the “Series A Purchase
Agreement”) with MEM, whereby the Company issued 50,000 shares of newly designated Series A Convertible Preferred
Stock (the “Preferred Stock”) in exchange for
(i) MEM accepting the transfer of the Property and replacing the
Company as the permittee and operator of the WTP, and (ii) the payment of approximately $1 to the Company. The Series A
Purchase Agreement contains customary representations and warranties on the part of the Company. As contemplated by the
Acquisition Agreement and the Series A Purchase Agreement and as approved by the Company’s Board of Directors, the
Company filed with the Secretary of State of the State of Wyoming Articles of Amendment containing a Certificate of
Designations with respect to the Preferred Stock (the “Certificate of Designations”). Pursuant to the
Certificate of Designations, the Company designated 50,000
shares of its authorized preferred stock as Series A Convertible Preferred
Stock. The Preferred Stock will accrue dividends at a rate of 12.25% per annum of the Adjusted Liquidation Preference (as
defined); such dividends are not payable in cash but are accrued and compounded quarterly in arrears. At issuance, the
aggregate fair value of the Preferred Stock was $2,000 based on the initial liquidation preference of $40 per share. The
“Adjusted Liquidation Preference” is initially
$40 per share of
Preferred Stock, with increases
each
quarter by the accrued quarterly dividend. The Preferred Stock is senior to other classes or series of shares of the Company
with respect to dividend rights and rights upon liquidation. No dividend or distribution will be declared or paid on junior
stock, including the Company’s common stock, (1) unless approved by the holders of Preferred Stock and (2) unless and
until a like dividend has been declared and paid on the Preferred Stock on an as-converted basis.
|
At the option of the holder, each share of
Preferred Stock may initially be converted into 80 shares of the Company’s $0.01 par value Common Stock (the
“Conversion Rate”) for an aggregate of 4,000,000 shares. The Conversion Rate is subject to anti-dilution
adjustments for stock splits, stock dividends, certain reorganization events, and to price-based anti-dilution protections
if the Company subsequently issues shares for less than 90% of fair value on the date of issuance. Each share of Preferred
Stock will be convertible into a number of shares of Common Stock equal to the ratio of the initial conversion value to the
conversion value as adjusted for accumulated dividends multiplied by the Conversion Rate. In no event will the aggregate
number of shares of Common Stock issued upon conversion be greater than 4,760,095 shares. The Preferred Stock will generally
not vote with the Company’s Common Stock on an as-converted basis on matters put before the
Company’s shareholders. The holders of the Preferred Stock have the right to approve specified matters as set forth in
the Certificate of Designations and have the right to require the Company to repurchase the Preferred Stock in connection
with a change of control. However, the Company’s Board of Directors has the ability to prevent any change of control
that could trigger a redemption obligation related to the Preferred Stock.
U.S. ENERGY CORP. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS,
Continued
(Dollars in Thousands, Except Per Share
Amounts)
During the first quarter of 2016, the Company recorded
the fair value of the Preferred Stock based on the initial liquidation preference of $2,000. Since the cash consideration paid
by MEM for the Preferred Stock was $1, the Company recorded a charge to discontinued operations of approximately $1,999 associated
with the issuance. This charge represents additional consideration to induce MEM to assume the Company’s previous obligations
to operate the WTP.
|
C.
|
Concurrent with entry into the Acquisition Agreement and the Series A Purchase Agreement, the Company and MEM entered
into an Investor Rights Agreement, which provides MEM rights to certain information and Board observer rights. MEM has agreed
that it, along with its affiliates, will not acquire more than 16.86% of the Company’s issued and outstanding shares of
Common Stock. In addition, MEM has the right to request registration of the shares of Common Stock issuable upon conversion
of the Preferred Stock under the Securities Act of 1933, as amended.
|
Results of Operations for Discontinued
Operations
The results of operations of the discontinued
mining operations are presented separately in the accompanying financial statements. Presented below are the components for the
three months ended March 31, 2016 and 2015:
|
|
2016
|
|
|
2015
|
|
|
|
|
|
|
|
|
Issuance of preferred stock to induce dispostion
|
|
$
|
(1,999
|
)
|
|
$
|
-
|
|
|
|
|
|
|
|
|
|
|
Operating expenses of mining segment:
|
|
|
|
|
|
|
|
|
Water treatment plant
|
|
|
(211
|
)
|
|
|
(458
|
)
|
Mine property holding costs
|
|
|
(117
|
)
|
|
|
(295
|
)
|
Depreciation of mine equipment
|
|
|
-
|
|
|
|
(31
|
)
|
|
|
|
|
|
|
|
|
|
Total results for discontinued operations
|
|
$
|
(2,327
|
)
|
|
$
|
(784
|
)
|
6. DEBT
Energy One, a wholly-owned subsidiary the
Company, has a credit facility with Wells Fargo Bank, National Association (“Wells Fargo”). As of March 31, 2016 and
December 31, 2015, outstanding borrowings under the credit facility amounted to $6,000, which is also the maximum amount of the
borrowing base. Borrowings under the credit facility are collateralized by Energy One’s oil and gas producing properties
and substantially all of the Company’s cash and equivalents. Each borrowing under the agreement has a term of six months,
but can be continued at the Company’s election through July 2017 if the Company is in compliance with the covenants under
the credit facility. The weighted average interest rate on this debt is 3.19% as of March 31, 2016.
Energy One is required to comply with customary
affirmative covenants and with certain negative covenants. The principal negative financial covenants do not permit (i) the interest
coverage ratio (EBITDAX to interest expense) to be less than 3.0 to 1; (ii) total debt to EBITDAX to be greater than 3.5 to 1;
and (iii) the current ratio to be less than 1.0 to 1.0. EBITDAX is defined in the Credit Agreement as consolidated net income,
plus non-cash charges. Additionally, the Credit Agreement prohibits or limits Energy One’s ability to incur additional debt,
pay cash dividends and other restricted payments, sell assets, enter into transactions with affiliates, and to merge or consolidate
with another company. The Company is a guarantor of Energy One’s obligations under the Credit Agreement.
In July 2015, the Company and Wells Fargo
Bank entered into a third amendment (the "Third Amendment") to the agreement governing the credit facility (as amended,
the "Senior Credit Agreement"). The Third Amendment provides for, among other things: (i) a limited waiver with respect
to the restricted payments covenant pursuant to which a transfer of $5,000 from Energy One to the Company was permitted in 2015;
(ii) a limited waiver of the current ratio covenant as it relates to the fiscal quarters ended June 30, 2015 and September 30,
2015; and (iii) a reduction in the borrowing base to $7,000, subject to further adjustment from time to time in accordance with
the Senior Credit Agreement. In December 2015, Wells Fargo made a further reduction in the borrowing base to $6,000. As of March
31, 2016, Energy One was not in compliance with any of the negative covenants.
U.S. ENERGY CORP. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS,
Continued
(Dollars in Thousands, Except Per Share
Amounts)
Because the Company projects that it is
unlikely that Energy One will regain compliance with the covenant within the next 12 months, outstanding borrowings of $6,000 are
presented as a current liability in the accompanying consolidated balance sheet as of March 31, 2016 and December 31, 2015. In
the event that Energy One is unable to obtain an amendment to or waiver under the Senior Credit Agreement to address the anticipated
future breaches of the Current Ratio covenant, and other actual or potential future breaches that may occur, Wells Fargo could
elect to declare some or all of the Company’s debt to be immediately due and payable and could elect to terminate its commitment
and cease making further loans.
7. EXECUTIVE RETIREMENT PLAN
In October 2005, the Board of Directors
adopted an Executive Retirement Policy (the “Retirement Plan”) for the benefit of certain executive officers of the
Company. To be eligible to participate in the Retirement Plan, the executive officer was required to serve as one of the designated
executive officers for at least 15 years, reached the age of 60, and been an employee of the Company on December 31, 2010. Upon
retirement, the executive was entitled to cash payments equaling 50% of the greater of (i) the amount of compensation earned as
base cash pay on the final regular pay check or (ii) the average annual pay, less all bonuses, received over the last five years
of employment with the Company. The Company periodically engaged the services of a third party actuary to determine the estimated
liability under the Retirement Plan. In December 2015, the Company and the Retirement Plan participants mutually agreed to terminate
the Retirement Plan. As of December 31, 2015, the liability for retirement plan benefits was $583 and this entire balance was paid
to participants during the three months ended March 31, 2016.
8.
COMMITMENTS AND CONTINGENCIES
From time to time, the Company is party
to certain legal actions and claims arising in the ordinary course of business. While the outcome of these events cannot be predicted
with certainty, management does not expect these matters to have a materially adverse effect on the Company’s financial position
or results of operations. Following is updated information related to currently pending legal matters:
Arbitration of Employment Claim.
A former employee has asserted a claim that a change of control occurred and he was involuntarily terminated without cause, thereby
entitling him to compensation under a purported Executive Severance and Non-Compete agreement (the “Agreement”). The
Company claims that the Agreement is invalid because it was never authorized by the Board of Directors or ratified by the Company’s
shareholders. The former employee has claimed that the Company owes up to $1,800 under the Agreement which requires that any disputes
be submitted to binding arbitration. A request for arbitration was submitted by the former employee in March 2016 and, on April
15, 2016, the Company filed a complaint in Denver District Court seeking a stay of the arbitration and/or preliminary injunction
against the employee from proceeding with the arbitration. As a result, administration of the arbitration proceeding has been suspended
until June 15, 2016, until the outcome of the Company’s complaint is resolved. On May 10, 2016, the Company filed a motion
for stay and/or preliminary injunction and the Court has scheduled a hearing on this matter on June 7, 2016.
Management does not believe there is any
merit to the claim of termination without cause or that a change of control occurred. The ultimate outcome of this matter cannot
presently be determined. Accordingly, adjustments, if any, that may result from the resolution of this matter have not been reflected
in the accompanying consolidated financial statements.
Contingent Ownership Interests.
As
of March 31, 2016 and December 31, 2015, the Company had recognized a contingent liability associated with uncertain ownership
interests of $4,011 and $3,108, respectively. This liability arises when the calculations of respective joint ownership interests
by operators differs from the Company’s calculations. These differences relate to a variety of matters, including allocation
of non-consent interests, complex payout calculations for individual wells and groups of wells, along with the timing of reversionary
interests. Accordingly, these matters are subject to legal interpretation and the related obligations are presented as a contingent
liability in the accompanying consolidated balance sheets. While the Company has classified these amounts as current liabilities,
most of these issues are expected to be resolved through arbitration, mediation or litigation; due to the complexity of the issues
involved, there can be no assurance that the outcome of these contingencies will be resolved in the next year.
U.S. ENERGY CORP. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS,
Continued
(Dollars in Thousands, Except Per Share
Amounts)
9. SHAREHOLDERS’ EQUITY
Stock Options
For the three months ended March 31, 2016
and 2015, total stock-based compensation expense related to stock options was $21 and $65, respectively. As of March 31, 2016,
there was $120 of unrecognized expense related to unvested stock options, which will be recognized as stock-based compensation
expense through January 2018. For the three months ended March 31, 2016, no stock options were granted, exercised, forfeited or
expired. Presented below is information about stock options outstanding and exercisable as of March 31, 2016 and December 31, 2015:
|
|
March 31, 2016
|
|
|
December 31, 2015
|
|
|
|
Shares
|
|
|
Price
(1)
|
|
|
Shares
|
|
|
Price
(1)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Stock options outstanding
|
|
|
2,343,022
|
|
|
$
|
3.44
|
|
|
|
2,343,022
|
|
|
$
|
3.44
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Stock options exercisable
|
|
|
2,227,355
|
|
|
$
|
3.50
|
|
|
|
2,194,022
|
|
|
$
|
3.53
|
|
|
(1)
|
Represents the weighted average price.
|
The following table summarizes information
for stock options outstanding and for stock options exercisable at March 31, 2016:
Options Outstanding
|
|
|
Options Exercisable
|
|
Number
|
|
|
Exercise Price
|
|
|
Remaining
|
|
|
Number
|
|
|
Weighted
|
|
of
|
|
|
Range
|
|
|
Weighted
|
|
|
Contractual
|
|
|
of
|
|
|
Average
|
|
Shares
|
|
|
Low
|
|
|
High
|
|
|
Average
|
|
|
Term (years)
|
|
|
Shares
|
|
|
Exercise Price
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
340,711
|
|
|
$
|
1.50
|
|
|
$
|
1.50
|
|
|
$
|
1.50
|
|
|
|
9.0
|
|
|
|
274,044
|
|
|
$
|
1.50
|
|
|
297,000
|
|
|
|
2.08
|
|
|
|
2.08
|
|
|
|
2.08
|
|
|
|
7.5
|
|
|
|
288,000
|
|
|
|
2.08
|
|
|
590,311
|
|
|
|
2.32
|
|
|
|
2.52
|
|
|
|
2.50
|
|
|
|
3.8
|
|
|
|
590,311
|
|
|
|
2.50
|
|
|
1,115,000
|
|
|
|
3.77
|
|
|
|
4.97
|
|
|
|
4.89
|
|
|
|
2.1
|
|
|
|
1,075,000
|
|
|
|
4.93
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
2,343,022
|
|
|
$
|
1.50
|
|
|
$
|
4.97
|
|
|
$
|
3.44
|
|
|
|
4.2
|
|
|
|
2,227,355
|
|
|
$
|
3.50
|
|
As of March 31, 2016, an aggregate of 2,108,578
shares are available for future grants under the Company’s stock option plans. Based upon the closing price for the Company’s
common stock of $0.35 per share on March 31, 2016, there was no intrinsic value related to stock options outstanding as of March
31, 2016.
Restricted Stock Grants
In January 2015, the Board of Directors
granted 340,711 shares of restricted stock under the 2012 Equity Plan to four officers of the Company. These shares originally
vested annually over a period of three years. However, during 2015 vesting was accelerated for three of the four officers in connection
with severance agreements for an aggregate of 240,711 shares. The remaining 100,000 shares vested for 33,333 shares in January
2016 and the remaining 66,667 shares will vest for 33,333 of the shares in January 2017 and 33,334 in January 2018. The fair market
value of the 340,711 shares on the date of grant was approximately $511. For the three months ended March 31, 2016 and 2015, total
stock-based compensation expense related to restricted stock grants was $13 and $42, respectively. As of March 31, 2016, there
was $88 of unrecognized expense related to unvested restricted stock grants, which will be recognized as stock-based compensation
expense through January 2018.
U.S. ENERGY CORP. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS,
Continued
(Dollars in Thousands, Except Per Share
Amounts)
Employee Stock Ownership Plan
The Board of Directors of the Company adopted
the U.S. Energy Corp. 1989 Employee Stock Ownership Plan ("ESOP") in 1989, for the benefit of all the Company’s
employees. Employees become eligible to participate in the ESOP after one year of service which must consist of at least 1,000
hours worked. Employees become 20% vested after three years of service and increase their vesting by 20% each year thereafter until
such time as they are fully vested after seven years of service.
An employee’s total compensation
paid, which is subject to federal income tax (up to an annual limit of $265 for the year ended December 31, 2015) is the basis
for computing how much of the total annual funding is contributed into each employee’s personal account. An employee’s
compensation divided by the total eligible compensation paid to all plan participants is the percentage that each participant receives
on an annual basis. All shares of the Company’s common stock contributed to the ESOP have been allocated to specific employees
and are vested. Total shares held by the ESOP at March 31, 2016 and December 31, 2015 were 340,726 and 789,110, respectively.
For the three months ended March
31, 2015, total stock-based compensation expense related to the ESOP was $23. No expense related to the ESOP has been
recorded for the three months ended March 31, 2016 since the Company’s Board of Directors has not determined if a
discretionary contribution will be made for 2016. For the
year ended December 31, 2015, the Company’s Board of Directors approved a mandatory contribution of $171 which is
either payable in cash or may be settled through the issuance of common stock at the election of the Company. Accordingly,
this amount is included in accrued compensation and benefits in the accompanying balance sheets as of March 31, 2016 and
December 31, 2015.
10. INCOME TAXES
For Federal income tax purposes, as
of December 31, 2015 the Company had net operating loss and percentage depletion carryovers of approximately $57,000
and $7,000, respectively. The net operating loss carryovers may be carried back two years and forward
twenty years from the year the net operating loss was generated. The net operating losses may be used to offset future
taxable income and expire in varying amounts through 2035. In addition, the Company has alternative minimum tax credit
carry-forwards of approximately $700 which are available to offset future federal income taxes over an indefinite period. The
Company has established a valuation allowance for all deferred tax assets including the net operating loss and alternative
minimum tax credit carryforwards discussed above since the “more likely than not” realization criterion was not
met as of March 31, 2016 and 2015. Accordingly, the Company did not recognize an income tax benefit for the
three months ended March 31, 2016 and 2015.
The Company recognizes, measures, and discloses
uncertain tax positions whereby tax positions must meet a “more-likely-than-not” threshold to be recognized. As of
March 31, 2016, gross unrecognized tax benefits are immaterial and there was no change in such benefits during the three months
ended March 31, 2016. The Company does not expect a significant increase or decrease to the uncertain tax positions within the
next twelve months.
11. EARNINGS (LOSS) PER SHARE
Basic earnings (loss) per share is computed
based on the weighted average number of common shares outstanding. For the three months ended March 31, 2016 and 2015, common stock
equivalents excluded from the calculation of weighted average shares because they were antidilutive are as follows:
|
|
2016
|
|
|
2015
|
|
|
|
|
|
|
|
|
|
|
Stock options
|
|
|
2,343,022
|
|
|
|
2,616,790
|
(1)
|
Unvested shares of restricted common stock
|
|
|
66,667
|
|
|
|
336,925
|
(1)
|
|
|
|
|
|
|
|
|
|
|
|
Total
|
|
|
2,409,689
|
|
|
|
2,953,715
|
|
|
|
(1)
|
Includes weighted average number of shares for options and shares of restricted stock issued during the period.
|
U.S. ENERGY CORP. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS,
Continued
(Dollars in Thousands, Except Per Share
Amounts)
12. SIGNIFICANT CONCENTRATIONS
The Company has exposure to credit risk
in the event of nonpayment by the joint interest operators of the Company’s oil and gas properties. Approximately 40% of
the Company’s proved developed oil and gas reserve quantities are associated with wells that are operated by a single operator
(the “Major Operator”). As of March 31, 2016 and December 31, 2015, the Company had a liability to the Major Operator
of $2,976 and $4,159, respectively, for accrued operating expenses and overpayments of net revenues when the Major Operator failed
to recognize that the Company’s ownership interest reverted after payout was achieved for certain wells during 2014 and 2015.
Beginning in the second quarter of 2015, the Major Operator began withholding the Company’s net revenues from all wells that
it operates for the Company and management expects the Major Operator will continue to withhold the Company’s net revenues
until this liability is paid in full. Based on the oil and gas prices and costs used in the Company’s reserve report as of
March 31, 2016, this liability is not expected to be fully settled until the first quarter of 2020, but under higher pricing scenarios
the Company expects the liability will be repaid from future production. Accordingly, the aggregate balances are presented as current
liabilities in the accompanying consolidated balance sheets.
13. FAIR VALUE MEASUREMENTS
Fair value is the price that would be received
to sell an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement date. In
determining fair value, the Company uses various methods including market, income and cost approaches. Based on these approaches,
the Company often utilizes certain assumptions that market participants would use in pricing the asset or liability, including
assumptions about risk and the risks inherent in the inputs to the valuation technique. These inputs can be readily observable,
market corroborated, or generally unobservable inputs. The Company utilizes valuation techniques that maximize the use
of observable inputs and minimize the use of unobservable inputs. Based on the observability of the inputs used in the
valuation techniques the Company is required to provide the following information according to the fair value hierarchy. The fair
value hierarchy ranks the quality and reliability of the information used to determine fair values. Financial assets and liabilities
carried at fair value will be classified and disclosed in one of the following three categories:
Level 1 - Quoted prices for identical assets
and liabilities traded in active exchange markets, such as the New York Stock Exchange.
Level 2 - Observable inputs other than
Level 1 including quoted prices for similar assets or liabilities, quoted prices in less active markets, or other observable inputs
that can be corroborated by observable market data. Level 2 also includes derivative contracts whose value is determined
using a pricing model with observable market inputs or can be derived principally from or corroborated by observable market data.
Level 3 - Unobservable inputs supported
by little or no market activity for financial instruments whose value is determined using pricing models, discounted cash flow
methodologies, or similar techniques, as well as instruments for which the determination of fair value requires significant management
judgment or estimation; also includes observable inputs for nonbinding single dealer quotes not corroborated by observable market
data.
The Company has processes and controls
in place to attempt to ensure that fair value is reasonably estimated. The Company performs due diligence procedures over third-party
pricing service providers in order to support their use in the valuation process. Where market information is not available to
support internal valuations, independent reviews of the valuations are performed and any material exposures are evaluated through
a management review process.
While the Company believes its valuation
methods are appropriate and consistent with other market participants, the use of different methodologies or assumptions to determine
the fair value of certain financial instruments could result in a different estimate of fair value at the reporting date. The following
is a description of the valuation methodologies used for complex financial instruments measured at fair value:
Oil Price Risk Derivative Valuation
Methodologies
The Company determines its estimate of
the fair value of derivative instruments using a market approach based on several factors, including quoted market prices in active
markets, quotes from third parties, the credit rating of the counterparty and the Company’s own credit rating. In consideration
of counterparty credit risk, the Company assessed the likelihood that the counterparty to the derivative would default by failing
to make any contractually required payments. Additionally, the Company considers that it is of substantial credit quality and has
the financial resources and willingness to meet its potential repayment obligations associated with the derivative transactions.
At March 31, 2016 and December 31, 2015, derivative instruments utilized by the Company consisted of crude oil costless collars.
The crude oil derivative markets are highly active. Although the Company’s derivative instruments are valued using indices,
the instruments themselves are traded with third-party counterparties and are not openly traded on an exchange. As such, the Company
has classified these instruments as Level 2.
U.S. ENERGY CORP. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS,
Continued
(Dollars in Thousands, Except Per Share
Amounts)
Marketable Equity Securities Valuation
Methodologies
The fair value of available for
sale securities is based on quoted market prices obtained from independent pricing services. However, due to limited
trading activity for both of the Company’s investments in marketable equity securities, the Company determined that
they should be classified in Level 2 and Level 3 depending on the specific circumstances.
Executive Retirement Liability Valuation
Methodologies
The executive retirement program is a standalone
liability for which there is no available market price, principal market, or market participants. The Company records the estimated
fair value of the long-term liability for estimated future payments under the executive retirement program based on the discounted
value of estimated future payments associated with each individual in the program. The inputs available for this estimate are unobservable
and are therefore classified as Level 3 inputs.
Other Financial Instruments
The carrying amount of cash and equivalents,
oil and gas sales receivable, other current assets, accounts payable and accrued expenses approximate fair value because of the
short-term nature of those instruments. The recorded amounts for the Senior Secured Revolving Credit Facility discussed in Note
6 approximates the fair market value due to the variable nature of the interest rates, and the fact that market interest rates
have remained substantially the same since the latest amendment to the credit facility.
Recurring Fair Value Measurements
Recurring measurements of the fair value
of assets and liabilities as of March 31, 2016 and December 31, 2015 are as follows:
|
|
March 31, 2016
|
|
|
December 31, 2015
|
|
|
|
Level 1
|
|
|
Level 2
|
|
|
Level 3
|
|
|
Total
|
|
|
Level 1
|
|
|
Level 2
|
|
|
Level 3
|
|
|
Total
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Marketable equity securitites:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Sutter Gold Mining Company
|
|
$
|
-
|
|
|
$
|
23
|
|
|
$
|
-
|
|
|
$
|
23
|
|
|
$
|
-
|
|
|
$
|
13
|
|
|
$
|
-
|
|
|
$
|
13
|
|
Anfield Resources, Inc.
(1)
|
|
|
-
|
|
|
|
-
|
|
|
|
238
|
|
|
|
238
|
|
|
|
-
|
|
|
|
-
|
|
|
|
238
|
|
|
|
238
|
|
Crude oil price risk derivatives
|
|
|
-
|
|
|
|
1,061
|
|
|
|
-
|
|
|
|
1,061
|
|
|
|
-
|
|
|
|
1,634
|
|
|
|
-
|
|
|
|
1,634
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total
|
|
$
|
-
|
|
|
$
|
1,084
|
|
|
$
|
238
|
|
|
$
|
1,322
|
|
|
$
|
-
|
|
|
$
|
1,647
|
|
|
$
|
238
|
|
|
$
|
1,885
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Executive retirement liability
|
|
$
|
-
|
|
|
$
|
-
|
|
|
$
|
-
|
|
|
$
|
-
|
|
|
$
|
-
|
|
|
$
|
-
|
|
|
$
|
584
|
|
|
$
|
584
|
|
|
(1)
|
Because of limited trading for this investment and considering the large block of common stock
held by the Company, management determined that the quoted marked price was not an accurate indicator of fair value. Accordingly,
the Company used alternative methods to determine fair value upon receipt of the shares in September 2015, which requires classification
under Level 3 of the fair value hierarchy.
|