Evolution Petroleum Corporation (EPM)
Discussion Materials
Marnie Georges
Qianyi (Cathy) Han
Jason Mudrock
Tuesday, April 1, 2014
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Table of Contents
Section 1 Executive Summary 3
Section 2 Industry Overview 4
Section 3 Company Overview and Positioning 8
Section 4 Valuation Analysis 13
Section 5 Questions 21
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Executive Summary
The Oil Drilling and Gas Extraction industry will benefit from strong
global demand and rising prices despite high exploration risks
Evolution Petroleum Corporation (EPM) possesses a solid asset base with
a unique strategy and innovations to pose a competitive advantage
We value the company at about $9.19 per share
We recommend placing Evolution Petroleum Corporation on the Watch
List so future analysts can evaluate its changing risks and growth
strategies
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Section 1
Industry Overview
4
Industry Overview
The oil and gas extraction industry benefits from rising oil and gas prices and strong global demand
Industry Trends Industry Composition
Oil and gas extraction is a mature, stable market in the The oil and gas drilling and extraction industry is worth
United States $319.5 billion in the United States
Trends include rising global demand from emerging Crude oil makes up 58.4% of the market while natural
economies, increased crude oil output from offshore gas represents 41.6%
drilling, increased natural gas production from new The United States sends 59% of its oil and gas exports
fields, and pressures from regulations and alternative to Canada and 19% to Mexico
energy growth Texas, Oklahoma, and Louisiana contain the largest
New technologies have allowed increased exploration amount of industry output and revenue in the
of previously unattainable resources continental United States
Price volatility and high capital costs continue to
threaten smaller industry players U.S. Oil & Gas Drilling and Extraction Market Segmentation
1.0% 0.7% Petroleum refining industry
Oil Demand Correlation with Real GDP Growth (1969 – 2008)
9.3% Natural gas distribution industry
11.1% Utilities
Industrial users
18.6% 59.3%
Oil exports
Gas exports
Sources:
1. Deutsche Bank Markets Research. “Oil & Gas for Beginners.” 25 January 2013. 5
2. Credit Suisse. Oil & Gas Primer. September 2011.
3. IBISWorld Industry Reports.
Industry Overview
The oil and gas drilling and extraction industry features regional dispersion and high revenue volatility
Competitive Landscape Dominant Players in Oil & Gas Drilling and Extraction
Low concentration due to high geographic dispersion
Top four competitors account for 28% of industry 8.2%
revenue
7.7%
Economies of scale resulting from large oil and gas ConocoPhillips
deposits help competitors spread high capital costs 6.1% Chevron Corporation
Largest players practice downstream vertical integration 5.8% Royal Dutch Shell PLC
to guarantee buyers BP PLC
Stringent regulations threaten large and small 72.2%
Other
competitors and increase capital requirements
U.S. Production of Crude Oil
Price Determinants
Prices remain volatile due to changes in supply and demand
Global economic recovery increases transportation and
industrial energy demands
Different grades of oil (heavy, light) typically attract
different prices with lighter oils earning a premium since
they are easier to refine
Impurities also affect the price of oil with sweet oils, or
those with a low sulfur content, commanding a premium
High barriers to entry result from security and regulation,
capital investments, and the high risks associated with
exploration
Sources:
1. Deutsche Bank Markets Research. “Oil & Gas for Beginners.” 25 January 2013. 6
2. EIA 2014 Report.
3. IBISWorld Industry Reports.
Porter’s Five Forces
The oil and gas drilling and extraction industry is attractive with the potential for long-term profitability
Bargaining Rivalry Among
Bargaining Entry of New Threat of
Power of Existing
Power of Buyers Competitors Substitutes
Suppliers Competitors
• Few available • Low • Economies of • Limited oil • Low use of
substitutes concentration scale fields and gas alternative
• Price volatility of industry • High capital reserves energies
can deter players requirements • Smaller firms • Oil and gas
buyers • Critical • Stringent may share serve separate
commodity regulations buyers markets
product • High risk and • Larger firms
volatility vertically
integrate
LOW MEDIUM LOW HIGH LOW
Sources:
1. Deutsche Bank Markets Research. “Oil & Gas for Beginners.” 25 January 2013. 7
2. EIA 2014 Report.
3. IBISWorld Industry Reports.
Section 2
Company Overview
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Evolution Petroleum Company (EPM) — Company Overview
The company has attractive investments and dedicated management that could sustain future growth
Firm Overview Primary Asset Locations
EPM is a petroleum company engaged primarily in
MS Lime
acquisition, exploitation and development of properties
for the production of crude oil and natural gas
Differentiates through innovative proprietary technology, Delhi Field
reliance on unconventional drilling techniques, and
exploration of previously uneconomical reserves
Giddings Field
Management and employees own 21% of shares
Market capitalization of $414 million in 2014
Customer Relations
EPM sells commodities so purchasers retain little buying Revenue Growth
power in the long term
Purchaser 2013
Plains Marketing L.P. 90.0%
Enterprise Crude Oil LLC 4.0%
Flint Hills 2.0%
DCP Midstream, LP 1.0%
Kinder Morgan 1.0%
Enervest, LLC 1.0%
Orion Exploration Partners, LLC 1.0%
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Evolution Petroleum Corporation (EPM) — Company Overview
EPM earns money through Enhanced Oil Recovery, Bypassed Primary Resources, and Unconventional Development.
Enhanced Oil Recovery Bypassed Primary Resources and Unconventional Development
Increase the production and recovery of oil and Focus on horizontal drilling
natural gas
Mississippi Lime, North Central Oklahoma
Enhanced Oil Recovery from the Holt Bryant Unit in
GARP Artificial Lift Technology
the Delhi Field in Louisiana
Purchased in 2003 for $2.8 million
Operated by Denbury Resources, Inc.
Owns 7.4% interest and 23.9% revisionary
interest
Carbon Dioxide Oil Recovery at Delhi Field
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SWOT Analysis
Evolution Petroleum Corporation’s reliance on innovative technology and alternative production and exploration
methods differentiate it from the competition and provide a foundation for future growth.
Strengths Weaknesses
Proprietary GARP Artificial Lift technology and patents Depends on a few large clients
Rich in assets and proved reserves Depends on crude oil for revenues
Generates scalable reserves potential at a low unit cost with long-term growth No presence in growing global markets
potential
Experienced, trained management team with deep experience in innovative oil Relies on third party operators, marketers, and
and gas exploration and production strategies technologies
Royalty and interest contracts reduce risk and increase revenues Light debt use may limit exploration opportunities
Opportunities Threats
Delhi Field previously produced millions of barrels of oil indicating future Exposure to commodity risk stemming from changing
success world prices of oil and gas
GARP technology provides licensing opportunities Cyclicality of end markets
Increased demand from transportation and industrial sectors Uncertainties inherent in reserve estimations
Cash reserves can help secure future investment opportunities Increased competition from large, vertically-integrated
peers
Increased push for domestic energy output could spur demand Price-elastic, highly competitive environment
Sources:
1. Company website.
2. EIA 2014 Outlook. 11
Recent Stock Performance
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Section 3
Valuation Analysis
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EPM WACC Calculation
Captial Structure
WACC Debt 18%
CAPM
Common Equity 70%
Risk Free Rate 3.50%
Beta 1.28 Perferred Equity 12%
MRP 5% 100%
CAPM 9.90%
Cost of Debt
Return on Equity
Cost of Debt 4.54% (online source)
2-Year Return 35.48%
Tax Rate 35.00%
Annualized 16.40%
After-Tax 2.95%
Div Yield 3.20%
ROE 19.60% Cost of Preferred Equity
Cost of Equity Cost of PE 8.50% (dividend yield)
Weight WACC
CAPM 9.9% 80% WACC 9.84%
ROE 19.60% 20% Premium 0.5%
Cost of Equity 11.84% Adj WACC 10.34%
Source: Capital IQ and Consensus Estimates as of 12/31/2011 14
EPM Discounted Cash Flow Analysis
Discounted Cash Flow Analysis
2014E 2015E 2016E 2017E 2018E
EBIT $ 12,504,025 $ 16,526,333 $ 21,778,393 $ 28,631,191 $ 37,567,162
Tax Expense $ (4,418,764) $ (5,839,278) $ (7,694,018) $ (10,113,972) $ (13,269,478)
Depreciation $ 1,264,843 $ 1,373,196 $ 1,490,995 $ 1,619,013 $ 1,758,103
$ 9,350,104 $ 12,060,251 $ 15,575,370 $ 20,136,232 $ 26,055,787
Change in NWC $ (322,071) $ (1,169,816) $ (3,268,762) $ (2,885,949) $ (1,979,261)
CapEx (3,320,192) (3,611,775) (3,926,620) (4,267,272) (4,636,332)
FCF $ 5,707,841 $ 7,278,660 $ 8,379,988 $ 12,983,011 $ 19,440,194
1 2 3 4 5
WACC 10.34% Terminal Growth 3.50%
Terminal Value 294,023,795.75
Discounted FCF $ 5,172,808 $ 5,978,061 $ 6,237,446 $ 8,757,765 $ 179,744,183
Valuation $ 205,890,264
Shares Outstanding 28,205,467
Implied Price $ 7.30
Source: Capital IQ and Consensus Estimates as of 12/31/2011 15
EPM Sensitivity Analysis
Senstivity Analysis
$ 7.30 2.500% 3.000% 3.500% 4.000% 4.50%
8.34% 9.08 9.88 10.85 12.04 13.54
9.34% 7.56 8.12 8.77 9.54 10.47
10.34% 6.44 6.84 7.30 7.84 8.47
11.34% 5.58 5.88 6.22 6.61 7.06
12.34% 4.90 5.13 5.39 5.69 6.02
Source: Capital IQ and Consensus Estimates as of 12/31/2011 16
EPM Comparables Analysis
Comparable Companies Analysis
MC/Proved
P/E Forward P/E EV/Revenue EV/EBITDA P/B reserves
VOC Energy Trust (NYSE:VOC) 8.59 7.18 8.4 8.56 2.2 0.04
ECA Marcellus Trust I (NYSE:ECT) 5.33 6.56 6.6 5.27 0.67 -
Cross Timbers Royalty Trust (NYSE:CRT) 13.5 - 13.0 13.38 15.9 0.08
Enduro Royalty Trust (NYSE:NDRO) 8.59 10.1 8.5 8.60 0.73 0.02
Hugoton Royalty Trust (NYSE:HGT) 9.34 8.23 8.5 8.83 3.21 0.09
Synergy Resources Corporation (AMEX:SYRG) 51.5 20.9 13.9 34.99 3.32 0.12
Evolution Petroleum Corp. (AMEX:EPM) 105.3 19.7 18.9 39.52 7.31 0.03
Average 16.14 10.59 9.8 13.27 4.34 0.06
Median 8.97 8.23 8.5 8.72 2.71 0.06
Source: Capital IQ and Consensus Estimates as of 12/31/2011 17
Recent Stock Performance
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EPM Comparables Analysis Cont.
Implied Price Weighted Price
Mean Median Weight Mean Median
P/E $ 3.39 $ 1.88 15% $ 0.51 $ 0.28
Forward P/E $ 6.78 $ 5.26 15% $ 1.02 $ 0.79
EV/Revenue $ 7.10 $ 6.16 15% $ 1.06 $ 0.92
EV/EBITA $ 4.58 $ 3.01 15% $ 0.69 $ 0.45
P/B $ 7.48 $ 4.66 15% $ 1.12 $ 0.70
MC/Proved reserves $ 26.45 $ 27.02 25% $ 6.61 $ 6.76
$ 11.01 $ 9.90
Implied Price $ 10.46
Source: Capital IQ and Consensus Estimates as of 12/31/2011 19
EPM Valuation/Recommendation
Implied Price Weight
DCF $ 7.30 40%
Comps $ 10.46 60%
Price $ 9.19
Recommendation: Watch List
Source: Capital IQ and Consensus Estimates as of 12/31/2011 20
Section 5
Questions?
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