NASDAQ:USEG
READ THE FULL USEG INITIATION REPORT
U.S. Energy (NASDAQ:USEG) is an independent energy company historically focused on the acquisition and development of oil and natural gas producing properties in the continental United States. In June 2024, the company acquired acreage in Montana with the goal of extracting and selling helium and other industrial gas products, which will be the primary business focus going forward.
Principal energy and industrial gas (including helium) properties and operations are located in the Rockies region (Montana and Wyoming), the Mid-Continent (Oklahoma, Kansas, and East Texas), and the Gulf Coast.
The company has historically explored for and produced oil and natural gas through a non-operator business model; however, in 2020, the company acquired operated properties in North Dakota, New Mexico, Wyoming, and the Texas Gulf Coast. In 2022, the company acquired certain oil and gas properties from three separate sellers, representing a diversified portfolio of primarily operated, producing, oil-weighted assets across the Rockies, West Texas, Eagle Ford, and Mid-Continent regions. During the 4th quarter of 2023, the company divested substantially all of its non-operated properties. In the 3rd quarter of 2024, the company divested the remainder of its South Texas assets and subsequently paid off all outstanding debt.
The company’s business strategy is to enhance the value of acquired, operated assets through the evaluation of selected properties with the goal of increasing production and reserves. The company plans to deploy capital conservatively and strategically and pursue value-enhancing transactions. The company also continuously evaluates strategic alternative opportunities that it believes will enhance stockholder value.
After the transformative June 2024 acquisition of 140,000 acres in Northwestern Montana with the goal of producing and marketing helium gas, the company will focus on producing industrial gases in the region and advancing its existing carbon sequestration opportunities. Third-party engineering studies show substantial helium and CO2 resources, while other operators and analogous fields confirm the presence and viability of helium as well. The use of helium is diverse and growing, and end markets include manufacturing, aerospace and defense, healthcare and life Sciences, and general industrial.
U.S. Energy will retain its oil and gas properties for the foreseeable future. These properties are capable of producing $2.0-$3.0 million in EBITDA annually, depending on prevailing commodity prices.
On October 31, 2024, the company announced it had completed the 1st helium well, and preliminary results showed positive results in Nitrogen-based formations. Independent lab results confirm high-quality, non-hydrocarbon-based helium with concentrations up to approximately 1.5%. This is at the high range of company expectations. The results validate the company’s expansion into industrial gases and the potential value of these Montana properties. In addition, additional helium was also discovered in CO2-based formations, which positions the company to leverage these assets into future carbon sequestration initiatives. This could eventually lead to this area evolving into a major regional carbon sequestration hub.
The company generated revenues of $32.3 million and adjusted EBITDA of $5.0 million in 2023. The company currently has cash and short-term investments totaling $2.0 million and total liquidity of $22.0 million. The current market capitalization is approximately $37 million.
Valuation
We utilize multiple valuation methodologies to arrive at our price target of $3.00 for USEG stock. These include Discounted Cash Flow (DCF) calculations, peer multiples, price to book value, price to asset value and others.
Our DCF calculation assumes monetization of helium extraction begins in late 2025. For calendar year 2026, we believe that helium revenues could total approximately $12.0 million, and EBITDA generation would be in the range of $7.0 to $8.0 million. We assume the oil and gas properties produce steady state revenues in the $17.0-$18.0 million range with EBITDA generation of approximately $2.0 million. Under this scenario, our DCF calculation is approximately $3.00 per share. This may prove to be conservative as we utilize a high discount rate of 12.5%. In addition, we do not incorporate any other industrial gas revenues or carbon sequestration related revenues into our model at this time.
We believe that USEG is also undervalued on an oil & gas standalone basis. The company’s 2024 SEC PV-10 proved reserves as of July 1, 2024 were $50.9 million. With a current market cap of $37 million, USEG is trading at 72.7% of proved reserves. If the company were to sell at the value of its proved oil & gas reserves, that would create a stock price of $1.81. In addition, we believe recent M&A transaction values based on proven reserves have been at multiples of the SEC PV-10 value.
On a forward-looking basis, assuming the helium extraction efforts are successful and create $8.0-$10.0 of annual industrial gas EBITDA, we can look at industrial gas peer valuations. Using a peer group including APD, LIN, and AIQUY, the average peer EV/EBITDA multiple is approximately 16x. Applying that multiple to the range of estimates for USEG’s industrial gas business would create a stock price in the $4.50- $5.70 range. We don’t incorporate that range into our target price at this time, but we are demonstrating the potential upside for USEG if the helium business is successful over time.
Summary
We believe U.S. Energy has the potential to generate substantial levels of free cash flow over a mid-to-long-term time frame as the company’s foray into industrial gases becomes successful. The company’s diversification across traditional oil & gas cash flow and industrial gas projects should help reduce the inherent cyclicality in the hydrocarbon markets.
With the successful results of its first helium well in the books and the completion of the processing plant in the summer of 2025, we believe the company could potentially generate helium revenues early in the 4th quarter of 2025, and calendar year 2026 could show full cycle helium revenue generation in the $12.0-$14.0 million range.
The company’s current stock price does not likely reflect that potential level of profitable growth going forward and does not reflect the value of proven reserves in the oil & gas business and potential industrial gas resources. We believe the stock to be undervalued at this time, particularly when compared to competitors.
We believe multiple valuation methods support our DCF valuation, which provides a target price of $3.00 per share.
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