________________________________________________________________________________
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-QSB
(Mark One)
X Quarterly report pursuant to Section 13 or 15(d) of the Securities
Exchange Act of 1934
FOR THE QUARTERLY PERIOD ENDED DECEMBER 31, 1998
OR
__ Transition report pursuant to Section 13 or 15(d) of the Securities
Exchange Act of 1934
Commission File Number: 0-28814
COTTON VALLEY RESOURCES CORPORATION
(Exact name of registrant as specified in its charter)
Yukon, Canada 98-0164357
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
6510 Abrams Road
Suite 300
Dallas, Texas 75231
(Address of principal executive offices)
Telephone Number (214) 221-6500
(Registrant's telephone number, including area code)
Indicate by check mark whether the registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports), and (2) has been subject to
such filing requirements for the past 90 days.
Yes X No __
As of December 31, 1998, there were 20,985,570 shares of the Registrant's
Common Stock outstanding.
________________________________________________________________________________
COTTON VALLEY RESOURCES CORPORATION
INDEX
PART I. FINANCIAL INFORMATION Page No.
Item 1. Condensed Consolidated Financial Statements:
Condensed Consolidated Balance Sheets as of
December 31, 1998 3
Condensed Consolidated Statements of
Operations for the six months and three months ended
December 31, 1998 and 1997 4
Condensed Consolidated Statements of Cash Flow
For the three months ended December 31, 1998 and 1997 6
Notes to Condensed Consolidated
Financial Statements 7
Item 2. Management's Discussion and Analysis of
Financial Condition and Results of Operations 8
PART 11. OTHER INFORMATION
Item 1. Legal Proceedings 10
Item 5. Other Information 10
Item 6. Exhibits and Reports on Form 8K 10
Signatures 11
-2-
PART I. FINANCIAL INFORMATION
ITEM 1. CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
COTTON VALLEY RESOURCES CORPORATION
CONDENSED CONSOLIDATED BALANCE SHEET
December 31, 1998
(Expressed in U.S. Dollars)
(Unaudited)
ASSETS
<TABLE>
<S> <C>
CURRENT ASSETS:
Cash $ 54,851
Accounts receivable 234,373
Materials and supplies inventory 532,770
Prepaid expenses 59,110
---------------
Total Current Assets 881,104
PROVED OIL and GAS PROPERTIES (full cost method)
Net of accumulated depletion of $502,244 25,218,105
OFFICE FURNITURE and EQUIPMENT
Net of accumulated depreciation of $28,719 120,249
FINANCING COSTS and OTHER ASSETS 880,905
---------------
Total Assets $ 27,100,363
===============
</TABLE>
LIABILITIES AND STOCKHOLDERS' EQUITY
<TABLE>
<S> <C>
CURRENT LIABILITIES:
Accounts payable $ 1,086,433
Accrued expenses 190,755
Accrued interest 47,570
Notes payable 921,135
--------------
Total Current Liabilities 2,245,893
LONG TERM DEBT 4,416,757
ADVANCES FROM RELATED PARTIES 119,710
DEFERRED INCOME TAXES 1,560,342
STOCKHOLDERS' EQUITY:
Preferred Stock, no par value, authorized-unlimited,
none issued -
Common Stock, no par value, authorized-unlimited,
Issued: 1998 - 20,985,570 issued 22,039,780
Warrants and beneficial conversion 823,695
Deficit accumulated in development stage (3,599,756)
Accumulated loss (506,058)
-------------
Total Stockholders' Equity 18,757,661
Total Liabilities and Stockholders' Equity $ 27,100,363
=============
</TABLE>
See accompanying notes to these financial statements
-3-
COTTON VALLEY RESOURCES CORPORATION
CONDENSED CONSOLIDATED STATEMENTS OF
OPERATIONS
(Expressed in U.S. Dollars)
(Unaudited)
<TABLE>
Period from Period from
July 1, 1998 to July 1, 1997 to
December 31, 1998 December 31, 1997
---------------- --------------
<S> <C> <C>
REVENUE:
Oil and gas sales $ 195,169 $ 551,836
Equipment sales 610,333 421,622
Other income 26,912 934
---------------- --------------
832,414 974,392
---------------- --------------
EXPENSES:
Oil and gas production 179,477 336,973
Equipment purchase and rework 247,697 256,145
Equipment operations 175,591 50,595
General and administrative 645,188 539,404
Depreciation and depletion 110,230 158,026
--------------- -------------
1,358,183 1,341,143
--------------- -------------
LOSS FROM OPERATIONS (525,769) (366,751)
OTHER INCOME (EXPENSES):
Interest and financing expense (265,106) (76,948)
Interest income 159 16,280
----------------- --------------
(264,947) (60,668)
----------------- --------------
LOSS BEFORE INCOME TAXES (790,716) (427,419)
INCOME TAX BENEFIT 284,658 153,871
----------------- --------------
NET LOSS $ (506,058) $ (273,548)
================= ==============
NET LOSS PER SHARE $ (0.02) $ (0.02)
================= ==============
WEIGHTED AVERAGE SHARES 18,376,111 15,457,000
================= ==============
</TABLE>
See accompanying notes to these financial statements
-4-
COTTON VALLEY RESOURCES CORPORATION
CONDENSED CONSOLIDATED STATEMENTS OF
OPERATIONS
(Expressed in U.S. Dollars)
(Unaudited)
<TABLE>
Period from Period from
October 1, 1998 to October 1, 1997 to
December 31, 1998 December 31, 1997
---------------- --------------
<S> <C> <C>
REVENUE:
Oil and gas sales $ 98,079 $ 252,667
Equipment sales 153,400 91,622
Other income 1,659 934
---------------- --------------
253,138 345,223
---------------- --------------
EXPENSES:
Oil and gas production 111,530 145,734
Equipment purchase and rework 10,037 72,955
Equipment operations 72,830 10,995
General and administrative 205,659 325,389
Depreciation and depletion 55,952 90,175
--------------- -------------
456,008 645,248
--------------- -------------
LOSS FROM OPERATIONS (202,870) (300,025)
OTHER INCOME (EXPENSES):
Interest and financing expense (100,053) (46,364)
Interest income 159 15,971
----------------- --------------
(99,894) (30,393)
----------------- --------------
LOSS BEFORE INCOME TAXES (302,764) (330,418)
INCOME TAX BENEFIT 108,995 118,950
----------------- --------------
NET LOSS $ (193,769) $ (211,468)
================= ==============
NET LOSS PER SHARE $ (0.01) $ (0.01)
================= ==============
WEIGHTED AVERAGE SHARES 19,374,945 16,620,000
================= ==============
</TABLE>
See accompanying notes to these financial statements
-5-
COTTON VALLEY RESOURCES CORPORATION
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOW
(Expressed in U.S. Dollars)
(Unaudited)
<TABLE>
Period from Period from
July 1, 1998 July 1, 1997
to December 31, 1998 to December 31, 1997
----------------- -----------------
<S> <C> <C>
CASH FLOWS FROM OPERATING ACTIVITIES:
Net loss $ (506,058) $ (273,548)
Adjustments to reconcile to net
cash used by operating activities:
Deferred income tax benefits (284,658) (153,871)
Depreciation and depletion 110,230 158,026
Amortization 74,426 20,000
Common stock issued for services 21,000 -
Change in accounts payable and accrued
liabilities 60,409 417,651
Change in materials and supplies
inventory 358,589 (457,536)
Change in accounts receivable 162,017 (236,097)
Change in prepaid expenses 160,009 -
Increase in deposits - (329,750)
Other 3,851 (27,527)
----------------- ----------------
Net Cash Used by Operating
Activities 159,815 (882,652)
CASH FLOWS FROM FINANCING ACTIVITIES:
Advances from related
parties 3,279 (20,000)
Sale of common stock and exercise of
warrants 261,097 3,306,044
Issuance of convertible debentures - 4,220,000
Issuance of notes payable 350,000 469,710
Conversion of trade payables to
long term debt 278,291 -
Conversion of debenture to common stock 100,000 -
Conversion of accounts payables to
common stock 94,090 -
Costs related to sale of stock and
notes (307,709) (400,000)
Repayment of notes payable - (504,750)
---------------- ---------------
Net Cash Used by Financing
Activities 779,048 7,071,004
CASH FLOWS FROM INVESTING ACTIVITIES:
Additions to oil and gas properties (937,942) (3,823,621)
Increase in restricted cash - (2,570,820)
Additions to office furniture and
fixtures (31,832) (31,093)
---------------- ----------------
Net Cash Used by Investing Activities (969,774) (6,425,534)
INCREASE (DECREASE) IN CASH (30,911) (237,182)
CASH - Beginning of period 85,762 642,612
CASH - End of period $ 54,851 $ 405,430
=============== ===============
SUPPLEMENTAL INFORMATION
Cash paid for interest $ 4,472 27,388
Conversion of debt to common stock 273,510 100,000
Debt incurred in acquisition of oil
and gas properties - 300,000
Oil and gas properties acquired with
common stock - 4,530,000
Beneficial conversion feature on
convertible debentures - 479,162
</TABLE>
See accompanying notes to these financial statements
-6-
NOTES TO CONDENSED FINANCIAL STATEMENTS
(Expressed in U.S. Dollars)
(Unaudited)
(1) NATURE OF BUSINESS AND BASIS OF PREPARATION AND PRESENTATION
Cotton Valley Resources Corporation (the "Company") has its primary
business focus in the acquisition of ownership interests in, and the
production of oil and gas from, existing oil and gas fields that indicate
a potential for increased production through rehabilitation. The Company
purchases, repairs, rehabilitates and sells used oilfield production
equipment.
The condensed consolidated financial statements of Cotton Valley Resources
Corporation and subsidiaries (collectively "Cotton Valley") included
herein have been prepared by Cotton Valley without audit. Certain
information and footnote disclosures normally included in financial
statements prepared in accordance with generally accepted accounting
principles have been condensed or omitted, since Cotton Valley believes
that the disclosures included are adequate to make the information
presented not misleading. In the opinion of management, the condensed
consolidated financial statements include all adjustments consisting of
normal recurring adjustments necessary to present fairly the financial
position, results of operations, and cash flows as of the dates and for
the periods presented. These condensed consolidated financial statements
should be read in conjunction with the consolidated financial statements
and the notes thereto included for the fiscal year ended June 30, 1998.
(2) COMMON STOCK
During the six months ended December 31, 1998, the Company issued 285,000
shares of common stock to three entities in a private placement for
$142,500, issued 606,197 shares of common stock in a private placement to
five entities for $132,606, issued 142,000 shares of common stock for
services valued at $32,000, issued 150,899 shares of common stock in
payment of $78,865 of trade payables, issued 205,000 shares of common
stock as employee compensation, and issued 1,994,840 shares of common
stock to the holders of its 7% convertible debentures in payment of
$296,221 in interest through December 31, 1998 and $198,334 of penalty and
waiver fees. In addition, a debenture of $100,000 plus accumulated
interest was converted to 421,400 shares of common stock at the conversion
price of $0.247917 per share.
(3) YUKON CONTINUANCE CONTINGENT LIABILITY
Potential Securities Act Violation
On March 16, 1998, the Company filed with the Commission a Registration
Statement on Form SB-2 (the "March 1998 Registration Statement") for the
purpose of registering up to 10,891,184 shares of the Company's Common
Stock for sale by certain shareholders of the Company, including
approximately 5.7 million shares to be issued upon exercise of outstanding
warrants and conversion of the Convertible Debentures. On May 1, 1998,
the Company received a letter of comments from the Staff of the Commission
(the "May 1998 Staff Comment Letter") relating to the March 1998
Registration Statement. In the May 1998 Staff Comment Letter, the Staff
advised the Company that it should have registered the Yukon Continuance
under the Securities Act. The Yukon Continuance was not registered under
the Securities Act.
The Company in its supplemental response on May 26, 1998 to the Staff's
May 1998 Comment Letter contended, with the concurrence of the Company's
U.S. securities counsel, that the Yukon Continuance was a transaction not
subject to the registration requirements of Section 5 of the Securities
Act. The Staff has advised the Company that is does not agree with the
Company and its U.S. securities counsel's conclusion regarding the Yukon
Continuance.
The Company, therefore, may have a contingent liability to certain of its
shareholders, who may sue the Company to recover the consideration paid,
if any, for shares of the Company's Common Stock, with interest thereon,
from the date of the Yukon Continuance to the date of repayment by the
Company less the amount of any income received thereon, upon tender of
such securities, or for damages if the shareholder no longer owns such
securities. The Company intends to vigorously defend any such shareholder
lawsuit and believes that it may have valid defenses, including the
running of applicable statutes of limitations, against claims by some or
all of its shareholders. However, to the extent that any of the Company's
shareholders obtain a judgment for damages against the Company, the
Company's net assets and net worth will be reduced, which in turn could
reduce the Company's ability to obtain financing for its exploration and
drilling operations and cause the Company to curtail operations. The
Company is unable to quantify the amount of such contingent liability.
-7-
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS
Results of Operations
FIRST SIX MONTHS FISCAL 1999 AND FIRST SIX MONTHS FISCAL 1998
During the six months ended December 31, 1998, Cotton Valley incurred a
net loss of $506,058, which compares to a loss of $273,548 during the first
six months of 1997. The decline results primarily from lower oil and gas
sales, higher general and administrative expenses and higher interest and
financing expense.
Oil and gas sales 65% from $551,836 for the six months ended December
31, 1997 to $195,169 for the six months ended December 31, 1998, reflecting
lower oil and gas prices and production declines. Oil and gas production
costs decreased 48% for the six months ended December 31, 1998, reflecting
lower production levels and curtailment of maintenance work on marginal wells
due to lower oil prices.
Used equipment sales for the first half of fiscal 1999 were $610,333 as
compared to sales of 421,622 for the comparable period of fiscal 1998. The
gross margins from the used equipment business were $187,045 and $114,882,
respectively, for the six months ended December 31, 1998 and 1997.
General and administrative costs were $645,188 in the first half of
fiscal 1999, an increase of $105,784 or 20% more than the $539,404 incurred
in the first half of fiscal 1998. Most of the increase was due to legal
expenses associated with the Yukon Continuance Problem and revisions of
agreements with the holders of the Company's 7% Convertible Debentures.
Interest expense and financing costs increased by approximately $200,000
during the first half of fiscal 1999 as compared with the first half of
fiscal 1998.
The Company has recognized an income tax benefit of $284,658 for the
first half of fiscal 1999 as compared to recognition of an income tax benefit
of $153,871 for the first half of fiscal 1998. This is directly related to
the size of the loss before income taxes.
SECOND THREE MONTHS FISCAL 1999 AND SECOND THREE MONTHS FISCAL 1998
During the three months ended December 31, 1998, Cotton Valley incurred
a net loss of $193,769 which compares to a loss of $211,468 during the second
three months of fiscal 1998. Lower oil and gas revenue and higher interest
and finance expense were offset by lower general and administrative costs and
higher gross margins from used equipment sales.
Oil and gas sales decreased 61% from $252,667 for the three months
ended December 31, 1998 to $97,090 for the three months ended December 31,
1998, reflecting lower oil prices and the shutting in of several wells which
became uneconomic to produce as a result of low oil prices. Oil and gas
production costs decreased 25% from $145,734 for the three months ended
December 31, 1997 to $111,530 for the three months ended December 31, 1998,
reflecting the lower production levels.
Used equipment sales for the second quarter of fiscal 1999 were
$153,400 as compared to $91,622 for the comparable quarter of fiscal 1998.
Cost of goods sold for the second quarter of fiscal 1999 was $82,867, as
compared with $83,950 for the second quarter of fiscal 1998. The gross
margin from used equipment sales increased from $7,672 for the second quarter
of fiscal 1998 to $70,533 for the second quarter of fiscal 1999.
General and administrative costs were $205,659 in the second quarter of
fiscal 1999, a decrease of 37% from the $325,389 incurred in the second
quarter of fiscal 1998. Most of the decrease is attributable to staff
reductions made during the second quarter of fiscal 1999. Net interest
expense was $68,501 higher in the second quarter of fiscal 1999 over fiscal
1998 primarily due to the costs of carrying the Company's 7% Convertible
Debentures.
-8-
The Company recognized an income tax benefit of $175,663 for the second
quarter of fiscal 1999 as compared to recognition of an income tax benefit of
$118,950 for the second quarter of fiscal 1998. This is directly related to
the size of the loss before income taxes.
Liquidity and Capital Resources
As of December 31, 1998, Cotton Valley has a working capital deficit of
$1,364,789 calculated by subtracting current liabilities of $2,245,893 from
current assets of $881,104. Approximately $860,000 of the current
liabilities is attributable to advances under the $10 million working capital
and development credit facility provided to the Company by Triassic Energy
Partners, L.P. ("Triassic"), under which the Company is in default of certain
principal and interest repayment obligations, and which is secured by the
Company's interest in its Means Field property, Andrews County, Texas. In
cooperation with Triassic, the Company is attempting to sell a portion of its
interest in the Means Field to third parties to satisfy its current
obligations to Triassic. The Company and Triassic continue to discuss other
ways in which the obligations may be satisfied and development activities
resumed at Means Field.
During December 1998, the Company entered into a letter of intent with
the holders (the "Holders") of the Company's 7% convertible debentures (the
"Debentures") to redeem their total outstanding amount of $4.2 million in
long-term debt in exchange for the transfer and assignment of the Holders'
collateral (well servicing equipment, horizontal drilling equipment and
certain oil and gas leases) plus an additional 40% working interest in the
Company's Cheneyboro leases in Navarro County, Texas. The formal agreements
and closing of this transaction, expected to occur during late February or
early March 1999, would eliminate the conversion rights of the Holders and
approximately $80,000 per month of interest and penalty charges. Over
the next few months, the Holders will seek buyers for the transferred assets,
and the Company will have the right of first refusal to repurchase any of the
major assets assigned to the Holders. The assets to be transferred have a
book value which exceeds the amount of the outstanding Debentures by
approximately $7 million. Upon completion of the transaction, the Company
expects to take a one-time charge of approximately $7 million relating to the
transaction. The Holders will refund to the Company any amount of sales
proceeds which exceeds: (i) $4.2 million plus interest from January 1, 1999
at 7% per annum; less (ii) 50% of the proceeds the Holders receive from sale
of the 2 million shares of common stock the Holders received in November 1998
in payment of interest and waiver and penalty fees. The market value of any
cash or assets returned will be recorded as a gain on sale of assets in the
period returned. Any deficiency which may arise from the sale of the assets
and shares will be borne by the Holders.
The Company, with the assistance of its Canadian securities counsel,
has developed a program for the orderly repayment of trade debt during
calendar 1999 through the issuance and sale in Canada of shares of common
stock. Although there can be no assurance, but based on number of trade
creditors who have agreed to join the program, the Company expects the
majority of its trade debt to be paid through this program.
The Company, upon completion of its exchange with the Holders and
initiation of the trade payables program, intends to seek merger and
acquisition opportunities as well as finance development activities with the
proceeds from private placements, exercise of warrants, traditional bank debt
and institutional mezzanine reserves based financing. No assurance can be
given that the Company will be successful in these efforts.
Year 2000 Issues
The "Year 2000 Problem" arose because many existing computer programs
use only the last two digits to refer to a year. Cotton Valley has purchased
all its computer programs and computers since January 1, 1995, all of which
have been certified as "Year 2000 Compliant." Most of Cotton Valley's
principal suppliers and customers have also certified to Cotton Valley that
their computer systems are "Year 2000 Compliant." Therefore, the Company has
determined that the "Year 2000 Problem" is not likely to have any material
effect on the Company.
-9-
PART II. OTHER INFORMATION
Item 1. Legal Proceedings
As of the date of this filing, there are several legal proceedings
pending against Cotton Valley relating to approximately $150,000 of trade
accounts payable, the principal amounts of which are included in liabilities
on the Company's balance sheet. Claims for interest and legal fees amounting
to approximately $20,000 have not been recorded.
Item 5. Other Information
Safe Harbor Statement under the Private Securities Litigation Reform Act of
1995:
Certain statements in this filing, and elsewhere (such as in other
filings by Cotton Valley with the Commission, press releases, presentations
by Cotton Valley or its management and oral statements) constitute "forward-
looking statements" within the meaning of the Private Securities Litigation
Reform Act of 1995. Such forward-looking statements involve known and
unknown risks, uncertainties and other factors which may cause the actual
results, performance or achievements of Cotton Valley to be materially
different from any future results, performance or achievements expressed or
implied by such forward-looking statements. Such factors include, among
other things, (i) significant variability in Cotton Valley's quarterly
revenues and results of operations as a result of variations in the Cotton
Valley's production in a particular quarter while a significant percentage of
its operating expenses are fixed in advance, (ii) changes in the prices of
oil and gas, (iii) Cotton Valley's ability to obtain capital, (iv) other
risk factors commonly faced by small oil and gas companies.
Item 6. Exhibits and Reports on Form 8K
During the quarter ended December 31, 1998, the Company made no filings
on Form 8K.
-10-
SIGNATURES
Pursuant to the requirement of the Securities Exchange Act of 1934,
the registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
Dated: February 19, 1998
COTTON VALLEY RESOURCES CORPORATION
(Registrant)
/s/ Eugene A. Soltero
Eugene A. Soltero
Chief Executive Officer
/s/ Malcolm Bennett
Malcolm Bennett
Controller
-11-
<PAGE>
EX-27
Financial Data Schedule
<TABLE> <S> <C>
<ARTICLE> 5
<LEGEND>
THIS SCHEDULE CONTAINS SUMMARY FINANCIAL INFORMATION EXTRACTED FROM CONDENSED
CONSOLIDATED STATEMENTS OF OPERATIONS AND THE CONDENSED CONSOLIDATED BALANCE
SHEET AND IS QUALIFIED IN ITS ENTIRETY BY REFERENCE TO SUCH SEPTEMBER 1998 10Q
</LEGEND>
<S> <C>
<PERIOD-TYPE> 3-MOS
<FISCAL-YEAR-END> JUN-30-1998
<PERIOD-START> JUL-01-1998
<PERIOD-END> DEC-31-1998
<CASH> 54,851
<SECURITIES> 0
<RECEIVABLES> 234,373
<ALLOWANCES> 0
<INVENTORY> 532,770
<CURRENT-ASSETS> 881,104
<PP&E> 25,720,349
<DEPRECIATION> 502,244
<TOTAL-ASSETS> 27,100,363
<CURRENT-LIABILITIES> 2,245,893
<BONDS> 4,416,757
0
0
<COMMON> 22,039,780
<OTHER-SE> (3,282,119)
<TOTAL-LIABILITY-AND-EQUITY> 27,100,363
<SALES> 805,502
<TOTAL-REVENUES> 532,414
<CGS> 602,765
<TOTAL-COSTS> 1,358,183
<OTHER-EXPENSES> 0
<LOSS-PROVISION> 0
<INTEREST-EXPENSE> 264,947
<INCOME-PRETAX> (790,716)
<INCOME-TAX> 284,658
<INCOME-CONTINUING> (506,058)
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> (312,089)
<EPS-PRIMARY> (.02)
<EPS-DILUTED> 0
