<PAGE>
SCHEDULE 14A INFORMATION
Proxy Statement Pursuant to Section 14(a) of the Securities Exchange Act of 1934
Filed by the Registrant [X]
Filed by a Party other than the Registrant [ ]
Check the appropriate box:
[ ] Preliminary Proxy Statement
[ ] Confidential, for use of the Commission Only (as permitted by Rule
14a-6(e)(2))
[X] Definitive Proxy Statement
[ ] Definitive Additional Materials
[ ] Soliciting Material Pursuant to (S)240.14a-11(c) or (S)240.14a-12
MILLER EXPLORATION COMPANY
--------------------------
(Name of Registrant as Specified in its Charter)
-----------------------------------------------------------------
(Name of Person(s) Filing Proxy Statement, if other than the Registrant)
Payment of Filing Fee (Check the appropriate box):
[X] No fee required.
[ ] Fee computed on table below per Exchange Act Rules 14a-6(i)(1) and 0-11
1) Title of each class of securities to which transaction applies:
2) Aggregate number of securities to which transaction applies:
3) Per unit price or other underlying value of transaction computed
pursuant to Exchange Act Rule 0-11 (Set forth amount on which the
filing fee is calculated and state how it was determined):
4) Proposed maximum aggregate value of transaction;
5) Total fee paid:
[ ] Fee paid previously with preliminary materials.
[ ] Check box if any part of the fee is offset as provided by Exchange Act
Rule 0-11(a)(2) and identify the filing for which the offsetting fee was
paid previously. Identify the previous filing by registration statement
number, or the Form or Schedule and the date of its filing.
1) Amount previously paid:
2) Form, Schedule or Registration Statement No.:
3) Filing Party:
4) Date Filed:
<PAGE>
To the Stockholders of Miller Exploration Company:
You are cordially invited to attend a special meeting of the stockholders of
Miller Exploration Company to be held on Thursday, December 7, 2000 at 10:00,
a.m., at our officers at 3104 Logan Valley Road, Traverse City, Michigan.
Enclosed are a notice to stockholders, a proxy statement describing the
business to be transacted at the special meeting, and a proxy card for use in
voting at the special meeting.
At the special meeting, you will be asked to:
. approve (a) the issuance to Guardian Energy Management Corp. of
3,703,704 shares of common stock upon the conversion of a $5 million
promissory note, and
(b) the issuance to Guardian of up to 13,062,500 shares of our common
stock upon the exercise by Guardian of warrants to purchase
1,562,500 shares of common stock for $1.35 per share, 2,500,000
shares of common stock for $2.50 per share, and 9,000,000 shares of
common stock for $3.00 per share;
. approve a transaction with Eagle Investments, Inc. whereby Eagle will
(a) pay Miller $500,000 in cash,
(b) assign to Miller a 50% interest in certain of the non-producing oil
and gas leasehold interests which Miller had previously conveyed to
Eagle, and
(c) grant Miller an exclusive right of first offer on the sale of
Eagle's producing and non-producing asset base in the Mississippi
Salt Basin,
in exchange for which Miller will
(i) issue to Eagle 1,851,851 shares of common stock, and
(ii) issue to Eagle warrants to purchase 781,250 shares of common stock
at $1.35 per share and 1,250,000 shares of common stock at $2.50 per
share, respectively, as well as the subsequent right to exercise
such warrants.
. to act on other business noticed and properly brought before the special
meeting or any adjournment thereof.
THE BOARD OF DIRECTORS OF THE COMPANY HAS DETERMINED THAT EACH OF THESE
TRANSACTIONS IS FAIR TO AND IN THE BEST INTERESTS OF THE COMPANY AND ITS
STOCKHOLDERS. THE BOARD OF DIRECTORS RECOMMENDS THAT YOU VOTE FOR THE APPROVAL
OF BOTH THE PROPOSALS.
We hope that you will be able to attend the special meeting, and we urge you
to read the enclosed proxy statement before you decide to vote. Even if you do
not plan to attend, please complete, date, sign, and promptly return the
enclosed proxy card. It is important that your shares be represented at the
meeting.
Sincerely,
Deanna L. Cannon
Vice President--Finance and
Secretary
<PAGE>
NOTICE TO STOCKHOLDERS OF SPECIAL MEETING
TO BE HELD ON
THURSDAY, DECEMBER 7, 2000
PLEASE TAKE NOTICE that a special meeting of the stockholders of Miller
Exploration Company, a Delaware corporation, will be held on Thursday,
December 7, 2000, at 10:00 a.m., at our offices at 3104 Logan Valley Road,
Traverse City, Michigan, to consider and vote on the following matters:
1. The issuance to Guardian Energy Management Corp. of
(a) 3,703,704 shares of our common stock, par value $0.01 per share,
upon the conversion of a $5 million promissory note, and
(b) up to 13,062,500 shares of our common stock upon the exercise by
Guardian of warrants to purchase 1,562,500 shares of common stock
for $1.35 per share, 2,500,000 shares of common stock for $2.50
per share, and 9,000,000 shares of common stock for $3.00 per
share.
2. A transaction with Eagle Investments, Inc. whereby Eagle will
(a) pay Miller $500,000 in cash.
(b) assign to Miller a 50% interest in certain of the non-producing
oil and gas leasehold interest which Miller had previously
conveyed to Eagle, and
(c) grant Miller an exclusive right of first offer on the sale of
Eagle's producing and non-producing asset base in the Mississippi
Salt Basin,
in exchange for which Miller will
(i) issue to Eagle 1,851,851 shares of common stock, and
(ii) issue to Eagle warrants to purchase 781,250 shares of common
stock at $1.35 per share and 1,250,000 shares of common stock at
$2.50 per share, respectively, as well as the subsequent right to
exercise such warrants.
3. To act on other business noticed and properly brought before the
special meeting or any adjournment thereof.
These matters are more fully discussed in the attached proxy statement.
The board of directors has fixed the close of business on Friday, November
3, 2000 as the record date for determining which stockholders are entitled to
notice of, and to vote at, the special meeting or any postponement or
adjournment thereof. If you held our stock as of this date, you are entitled
to vote. Complete lists of these stockholders will be available for
examination at our principal executive offices during normal business hours by
any holder of common stock, for any purpose relevant to the special meeting,
for a period of ten days prior to the special meeting. The favorable vote of a
majority of persons present, in person or by proxy, and entitled to vote at
the special meeting constitutes a quorum. The presence of a quorum at the
beginning of the meeting is necessary to transact any business at the special
meeting.
Even if you expect to be present at the special meeting, we request that you
sign, vote, and date the enclosed proxy and return it promptly in the enclosed
envelope. If you give a proxy, you have the power to revoke it at any time
prior to the special meeting. You may revoke your proxy at any time before the
vote occurs by filing with our company a written revocation or a subsequently-
dated proxy. If you are present at the special meeting, you may withdraw your
proxy and vote in person.
THE BOARD OF DIRECTORS RECOMMENDS THAT YOU VOTE IN FAVOR OF EACH OF THE
ABOVE PROPOSALS.
By Order of the Board of Directors,
Deanna L. Cannon
Vice President--Finance and
Secretary
November 10, 2000
<PAGE>
TABLE OF CONTENTS
<TABLE>
<S> <C>
QUESTIONS AND ANSWERS ABOUT THE SPECIAL MEETING........................... 1
SUMMARY................................................................... 2
RISK FACTORS.............................................................. 6
Risk Factors Relating to the Guardian Transaction....................... 6
Risk Factors Relating to the Eagle Transaction.......................... 7
INFORMATION CONCERNING SOLICITATION AND VOTING............................ 8
PROPOSAL ONE.............................................................. 9
Purpose and Background of the Guardian Transaction...................... 9
Terms of the Guardian Transaction....................................... 10
Accounting for the Guardian Transaction................................. 12
Use of Proceeds......................................................... 12
Recommendation of the Board of Directors................................ 13
Possible Effects of the Guardian Transaction on Stockholders............ 13
Reasons for Seeking Stockholder Approval................................ 14
PROPOSAL TWO.............................................................. 14
Purpose and Background of the Eagle Transaction......................... 14
Terms of the Eagle Transaction.......................................... 15
Use of Proceeds......................................................... 16
Recommendation of the Board of Directors................................ 16
Possible Effects of the Eagle Transaction on Stockholders............... 17
Reasons for Seeking Stockholder Approval................................ 17
RECENT DEVELOPMENTS....................................................... 17
Bank One Credit Facility................................................ 17
Veritas Indebtedness.................................................... 17
PRO FORMA FINANCIAL STATEMENTS............................................ 18
MANAGEMENT'S DISCUSSION AND ANALYSIS...................................... 24
Overview................................................................ 24
Results of Operations................................................... 25
Liquidity and Capital Resources......................................... 30
Risk Management Activities and Derivative Transactions.................. 33
Effects of Inflation and Changes in Price............................... 34
New Accounting Standard................................................. 34
INTEREST OF CERTAIN PERSONS IN THE TRANSACTION............................ 35
STOCKHOLDINGS OF PRINCIPAL STOCKHOLDERS, DIRECTORS AND MANAGEMENT......... 36
STOCKHOLDER PROPOSALS..................................................... 38
PROPOSALS FOR THE NEXT ANNUAL MEETING..................................... 38
SOLICITATION OF PROXIES................................................... 38
INDEPENDENT PUBLIC ACCOUNTANTS............................................ 38
CONSOLIDATED FINANCIAL STATEMENTS......................................... F-1
ANNEX A................................................................... A-1
ANNEX B-1................................................................. B-1-1
ANNEX B-2................................................................. B-2-1
ANNEX B-3................................................................. B-3-1
ANNEX C................................................................... C-1
</TABLE>
i
<PAGE>
QUESTIONS AND ANSWERS ABOUT
THE SPECIAL MEETING AND THE PROPOSALS
Q: How do I vote?
A: After reading this proxy statement, please fill out and sign your proxy
card. Then mail your signed proxy card in the enclosed return envelope as
soon as possible so that your shares will be represented at the special
meeting.
Q: What happens if I do not return a proxy card?
A: If you do not return your proxy card you may still vote in person at the
special meeting. If you do not return a proxy card or attend the special
meeting, your shares will not be represented in the vote.
Q: May I vote in person?
A: Yes. You may attend the special meeting and vote your shares in person,
rather than signing and mailing your proxy card.
Q: May I change my vote after I have mailed my signed proxy card?
A: Yes. You may change your vote at any time before your proxy is voted at
the special meeting by following the instructions on page 8. You then may
either change your vote by sending in a new proxy or by attending the
special meeting and voting in person.
Q: If my shares are held in "street name" by my broker, will my broker vote my
shares for me?
A: No. Your broker will not be able to vote your shares without instructions
from you. You should instruct your broker to vote your shares, following
the directions provided by your broker.
Q: What is a warrant?
A: A warrant gives the holder the right to purchase a share of stock at a
fixed price at a designated time in the future.
Q: How will the issuance of stock and warrants affect the outstanding shares
of the common stock?
A: We currently have 13,746,799 shares of common stock outstanding. Assuming
both proposals are approved and all of the warrants issued to Guardian and
Eagle are exercised, we will have 34,396,104 shares of common stock
outstanding. There can be no assurance that any of the warrants issued to
Guardian and Eagle will be exercised.
Q: Who can help answer my questions?
A: If you have additional questions about the two proposals, please call
Kelly Miller or Deanna Cannon at (231) 941-0004.
1
<PAGE>
SUMMARY
This summary, together with the preceding questions and answers section,
highlights selected information from this document and may not contain all of
the information that is important to you. To understand the two proposals
fully, and to obtain a more detailed description of the legal terms of the
proposals, you should carefully read this entire proxy statement.
The Guardian promissory note and warrants are included as Annexes A, B-1, B-
2, and B-3, respectively, to this document and the Eagle repurchase agreement
is included as Annex C. These are the legal documents that govern the two
proposals. We have included page references parenthetically to direct you to a
more complete description of the topics presented in this summary.
References in this proxy statement to the "Company" or "Miller" are to Miller
Exploration Company and its subsidiaries. References to "Guardian" are to
Guardian Energy Management Corp.
Summary of Proposals to be Considered at the Special meeting.
At the special meeting, our stockholders will consider and vote upon two
proposals. The first proposal, the Guardian transaction, is independent and may
be approved without consideration of the second proposal. The second proposal,
the Eagle transaction, is fully dependent on the approval of the Guardian
transaction. If the Guardian transaction is not approved, the Eagle transaction
shall automatically be withdrawn. A summary of the two proposals are as
follows:
(1) The Guardian Transaction. In July 2000, we issued a subordinated
convertible note to Guardian Energy Management Corp. in exchange for $5
million. Issuance of the note allowed us to enter into a new credit facility
under more favorable terms. If our stockholders approve conversion of the
Guardian note into shares of common stock, the note will not accrue interest.
If approved, the note will immediately be converted into the right to receive
3,703,704 shares of common stock. We also issued to Guardian warrants to
purchase 1,562,500 shares of common stock for $1.35 per share exercisable for
one year from the date of stockholder approval of the transaction, 2,500,000
shares of common stock for $2.50 per share exercisable for two years from the
date of stockholder approval of the transaction, and 9,000,000 shares of common
stock for $3.00 per share and exercisable for four years from the date of
stockholder approval of the transaction. Although there can be no assurance
that Guardian will exercise all of these warrants, if it did we would receive
an additional capital infusion of approximately $35 million.
If the Guardian transaction is not approved, the note will accrue interest at
the lower of the maximum legal rate permissable or:
. the prime rate plus 10% for the period from July 11, 2000 until July 10,
2001;
. the prime rate plus 12% for the period from July 11, 2001 until July 10,
2002; and
. the prime rate plus 15% thereafter.
This additional debt and interest burden would significantly reduce our
discretionary cash flow and substantially increase our leverage. Also if the
Guardian transaction is not approved, Guardian will have the option to exchange
any outstanding principal or interest under the note for an undivided interest
in either all of our current producing and non-producing properties or specific
properties as agreed to by Guardian and us. Failure to approve the conversion
of the note and exercise of warrants, however, will have no effect on the terms
of our new credit facility.
(2) The Eagle Transaction. Eagle Investments, Inc. is a corporation that is
controlled and owned by C.E. Miller, the Chairman and largest beneficial
stockholder of the Company. We wish to purchase from Eagle 50% of its interests
in certain non-producing oil and gas leasehold properties located in the
Mississippi Salt Basin in exchange for shares of our common stock. Along with
the properties, we will receive a $500,000
2
<PAGE>
cash equity infusion and an exclusive purchase option on the sale of any of
Eagle's remaining non-producing leasehold, as well as the producing properties,
that are located in counties in which we have operations. The right of first
offer expires December 31, 2000. In consideration of the $500,000 cash payment
and the assignment of these interests, we will issue to Eagle 1,851,851 shares
of common stock and warrants to purchase 781,250 shares of common stock for
$1.35 per share exercisable for one year from the date of stockholder approval
of the transaction and 1,250,000 shares of common stock for $2.50 per share
exercisable for two years from the date of stockholder approval of the
transaction. Although there can be no assurance that Eagle will exercise all of
these warrants, if it did we would receive an additional capital infusion of
approximately $4.2 million.
Reasons for the Guardian Transaction
(See page 13)
Our board of directors believes that the Guardian transaction and your
approval of the issuance of our common stock in the Guardian transaction are
desirable for a number of reasons, including the following:
. The issuance of the note to Guardian allowed us to enter into a new
credit facility, the terms of which increase our discretionary cash
flow.
. If the Guardian warrants are exercised we will receive up to
approximately $35 million of additional equity capital, although there
can be no assurance the warrants will be exercised.
. We will avoid substantial interest charges and penalties associated with
the Guardian note and avoid any obligation to transfer producing
properties to Guardian for the repayment of the note.
. The Guardian transaction allows us to complete the Eagle transaction.
. The Guardian transaction enhanced our ability to obtain better terms
under our indebtedness to Veritas DGC Land, Inc.
. The transaction is fair to and in the best interests of our company and
stockholders.
Reasons for the Eagle Transaction
(See pages 16 and 17)
Our board of directors believes that the Eagle transaction and your approval
of the issuance of shares of our common stock in the Eagle transaction are
desirable for a number of reasons, including the following:
. The repurchase will allow us to increase leasehold interests in the
Mississippi Salt Basin.
. We will receive a cash infusion of $500,000 of new equity capital, which
will be used for a principal payment under our indebtedness to Veritas
and entitle us to avoid substantial penalties.
. If the Eagle warrants are exercised we will receive up to approximately
$4 million of additional equity capital, although there can be no
assurance the warrants will be exercised.
. We will be able to repurchase the Eagle assets for approximately the
same price that we sold them to Eagle.
. The transaction is fair to and in the best interests of our company and
stockholders.
New Directors and Officers of Our Company
After the Guardian Transaction
(See page 12)
The terms of the Guardian transaction allowed Guardian to designate two
members of our board of directors. Guardian has designated Paul A. Halpern and
Robert M. Boeve to fill the board seats recently vacated by the resignations of
Dan A. Hughes, Jr. and Frank M. Burke. Messrs. Halpern and Boeve were appointed
to fill the vacancies by the remaining directors on July 13, 2000.
3
<PAGE>
Dissenter's Rights
(See page 8)
Neither Delaware law nor our certificate of incorporation provide for any
rights of dissent or appraisal regarding the Guardian transaction or the Eagle
transaction.
Risks Associated with the Guardian Transaction
(See page 6)
You should be aware of and carefully consider the risks relating to the
Guardian transaction described more fully under "Risk Factors." These risks
include:
. the issuance of common stock upon the conversion of the Guardian note
will result in Guardian owning approximately 19.2% of our outstanding
common stock (assuming the Eagle shares are issued and the Eagle
warrants exercised), and 48.7% upon exercise of all the warrants.
. the terms of the warrants will not be adjusted for changes in the market
value of our common stock;
. Guardian, as a large stockholder, may have interests that are different
from our existing stockholders. If Guardian exercises its warant, its
significant ownership will allow it to substantially control stockholder
votes; and
. if Guardian decides to sell a significant portion of its investment in
Miller it could adversely affect the market price for our common stock.
Risks Associated with the Eagle Transaction
(See page 7)
You should be aware of and carefully consider the risks relating to the Eagle
transaction described more fully under "Risk Factors." These risks include:
. the consideration for the purchase is fixed and will not be adjusted for
changes in the value of the leasehold interests or our common stock;
. C.E. Miller, the Chairman of our board of directors, and Kelly Miller,
his son and our Chief Executive Officer, had conflicts of interest in
evaluating the Eagle transaction;
. if Eagle decides to sell a significant portion of its investment in
Miller, it could adversely affect the market price for our common stock;
and
. the issuance of common stock will increase the percentage beneficially
owned by C. E. Miller to approximately 17.4% (assuming the Guardian
shares are issued and all of the Guardian warrants exercised), and 15.7%
upon exercise of all the warrants.
Interests of Officers and Directors in the Proposals
that Differ from Your Interests
(See page 7)
You should be aware that C.E. Miller, Chairman of our board of directors, is
also the President and beneficial owner of 100% of the stock of Eagle. Because
of his role in both companies, he has interests that are different than yours.
In addition, Kelly E. Miller, our President and Chief Executive Officer, is C.
E. Miller's son and thus has an indirect interest in the Eagle transaction. Our
board of directors was aware of these interests and considered them in
approving the Eagle transaction.
The Special Meeting
(See page 8)
The special meeting will be held at 10:00 a.m on Thursday, December 7, 2000,
at our offices. At the special meeting, you will be asked to approve the
Guardian transaction and approve the Eagle transaction.
4
<PAGE>
Record Date; Voting Power
(See page 8)
You may vote at the special meeting if you owned shares of our common stock
as of the close of business on Friday, November 3, 2000, the record date. You
may cast one vote per proposal for each share you own.
Stockholder Vote Required to Approve the Proposals
(See page 8)
Our board of directors unanimously voted in favor of both proposals and
recommends that you also vote for these proposals. The affirmative vote of a
majority of all the votes present and entitled to vote at the special meeting
is necessary for the approval of both the Guardian and Eagle transactions.
Approval of the Eagle transaction is not a condition of the Guardian
transaction; however, approval of the Guardian transaction is a condition to
the approval of the Eagle transaction. If the Guardian transaction is not
approved at the special meeting, the Eagle proposal will be automatically
withdrawn.
Our Recommendations to Stockholders
Our board of directors, including all of our independent, disinterested
directors, believes that the approval of both the Guardian transaction and the
Eagle transaction is fair to you, advisable, and in your best interests and
recommends that you vote "for" the approval of both proposals.
5
<PAGE>
RISK FACTORS
You should carefully consider the following risk factors in determining
whether to vote to approve the Guardian transaction and the Eagle transaction.
Risk Factors Relating to the Guardian Transaction
The issuance of common stock and warrants will place a large percentage of
ownership with a new single stockholder.
Assuming the Guardian transaction is approved, Guardian will be issued
3,703,704 shares of our common stock, representing approximately 19.2% of the
total outstanding shares, and warrants to purchase an additional 13,062,500
shares. If all of Guardian's warrants are exercised, and assuming exercise of
all of Eagle's warrants, Guardian will own approximately 48.7% of our
outstanding common stock and will be able to substantially control the outcome
of stockholder votes, including votes concerning the election of directors,
the adoption or amendment of provisions in our company's certificate of
incorporation or bylaws, and the approval of mergers and other significant
corporate transactions. Guardian, as a large stockholder, may have interests
that are different than the other stockholders. This concentration of
ownership may also delay or prevent a change of control of the Company, even
if beneficial to our stockholders.
The issuance of common stock on the conversion of the Guardian note will be
dilutive to our current stockholders.
Our net tangible book value at July 31, 2000 was $1.87 per share. Assuming
the net tangible book value is the same at the time the 3,703,704 shares are
issued to Guardian, the resulting tangible book value per share after issuance
will be $1.76 and our existing stockholders will suffer dilution of $.11 per
share.
If the first tranche of warrants for 1,562,500 shares is exercised at the
exercise price of $1.35 per share, the resulting tangible book value per share
after issuance will be $1.72 and our stockholders will suffer further dilution
of $.04 per share. The exercise of the second and third tranches of warrants
will not result in any further dilution to our stockholders based on the
current book value of our common stock.
The terms of the warrants are fixed and will not be adjusted for changes in
the value of our common stock.
Assuming the Guardian transaction is approved, Guardian will be able to
exercise the following warrants:
. warrants for 1,562,500 shares of common stock exercisable at a price of
$1.35 per share for one year from the date of stockholder approval of
the transaction,
. warrants for 2,500,000 shares of common stock exercisable at a price of
$2.50 per share for two years from the date of stockholder approval of
the transaction, and
. warrants for 9,000,000 shares of common stock exercisable at a price of
$3.00 per share for four years from the date of stockholder approval of
the transaction.
These terms are fixed and will not be adjusted for any upward or downward
changes in the market price of our common stock. These warrants may allow
Guardian, in the future, to purchase a large number of shares at prices
significantly below the then current market price.
The issuance of common stock and warrants may effect the market price of
existing shares of common stock.
Assuming the Guardian transaction is approved, we will have approximately
17,450,503 shares of common stock outstanding, together with warrants
exercisable for an additional 13,062,500 shares. Future sales of significant
amounts of common stock, or the perception that these sales could occur, may
adversely affect the market price of our common stock.
6
<PAGE>
Risk Factors Relating to the Eagle Transaction
The terms of the warrants are fixed and will not be adjusted for changes in
the value of our common stock.
Assuming the Eagle transaction is approved, Eagle will be issued:
. 781,250 warrants exercisable at a price of $1.35 per share of common
stock for one year from the date of stockholder approval of the
transaction, and
. 1,250,000 warrants exercisable at a price of $2.50 per share of common
stock for two years from the date of stockholder approval of the
transaction.
These terms will be fixed and will not be adjusted for any upward or
downward changes in the price of our common stock. These warrants may allow
Eagle, in the future, to purchase a large number of shares at prices
significantly below the then current market price.
The interest of the Chairman of the Board, C.E. Miller, may differ from your
interests because the approval of the Eagle transaction may result in his
direct or indirect economic gain.
C.E. Miller, the Chairman of our board of directors, is also the President
and beneficial owner of 100% of the stock of Eagle. Because of his dual role
in this transaction, his interests may vary from yours regarding the
transaction. Consequently, he has a conflicting interest because of the
possibility of receiving a personal benefit from the approval of the Eagle
transaction apart from his ownership of our common stock. Kelly E. Miller, our
President and Chief Executive Officer, is the son of C.E. Miller and thus also
has an indirect interest in the Eagle transaction.
The issuance of common stock and warrants will increase the ownership
percentage of C.E. Miller and his affiliate.
Currently, C.E. Miller beneficially owns 11.4% of our outstanding common
stock. Assuming both proposals are approved, C.E. Miller will beneficially own
approximately 17.4% of the outstanding shares and warrants exercisable for an
additional 2,031,250 shares. If both the Eagle and Guardian shares are issued
and all of their warrants are exercised, C.E. Miller will beneficially own
15.7% of the total shares outstanding. Approval of the transactions will cause
a substantial dilution in the voting power of the current stockholders. With
this ownership, C. E. Miller may be able to substantially influence the
outcome of stockholder votes including votes concerning the election of
directors, the adoption or amendment of provisions in our certificate of
incorporation or bylaws, and the approval of mergers and other significant
corporate transactions. This concentration of ownership may also delay or
prevent a change in control of the Company, even if beneficial to our
stockholders.
The issuance of common stock and warrants may affect the market price of
existing shares of common stock.
Assuming both the Guardian transaction and the Eagle transaction are
approved, our company will have approximately 19,302,355 shares of common
stock outstanding, together with warrants exercisable for an additional
15,093,750 shares. Future sales of significant amounts of common stock, or the
perception that these sales could occur, may adversely affect the market price
of our common stock.
7
<PAGE>
INFORMATION CONCERNING SOLICITATION AND VOTING
General
This proxy statement and the enclosed form of proxy are being sent to
stockholders of Miller Exploration Company, a Delaware corporation, in
connection with the solicitation of proxies by the board of directors for use
in connection with a special meeting of our stockholders to be held at our
offices at 3104 Logan Valley Road, Traverse City, Michigan, at 10:00 a.m., on
Thursday, December 7, 2000 and at any postponements or adjournments thereof.
Our principal executive offices are located at 3104 Logan Valley Road,
Traverse City, Michigan.
We have mailed this proxy statement and the accompanying form of proxy to
all stockholders entitled to notice of, and to vote at, the special meeting on
or about Monday, November 13, 2000.
Each properly executed proxy received in time for the meeting will be voted
as specified therein. If a stockholder executes and returns a proxy, but does
not specify otherwise, the shares represented by such stockholder's proxy will
be voted "for" the Guardian transaction and "for" the Eagle transaction.
Revocability of Proxies
Any stockholder giving a proxy pursuant to this solicitation has the power
to revoke that proxy at any time before the shares to which it relates are
voted either by:
. filing with us at our principal executive offices written notice of
revocation or a duly executed proxy bearing a later date or
. by attending the special meeting, withdrawing the proxy, and voting in
person.
Voting Rights and Outstanding Shares
Only stockholders of record at the close of business on Friday, November 3,
2000, the record date, are entitled to notice of, and to vote at, the special
meeting. At the close of business on the record date, there were issued,
outstanding, and entitled to vote 13,746,799 shares of our common stock. Each
outstanding share is entitled to one vote on each matter to be voted upon at
the special meeting.
The presence, in person or by proxy, of the holders of a majority of the
outstanding shares of common stock entitled to vote is necessary to constitute
a quorum at the special meeting. If a quorum is not present, either in person
or by proxy, the stockholders entitled to vote who are present, in person or
by proxy, have the power to adjourn the special meeting from time to time
without notice, other than an announcement at the special meeting, until a
quorum is present. At any adjourned special meeting at which a quorum is
present, in person or by proxy, any business may be transacted that might have
been transacted at the special meeting as originally noticed. Abstentions and
broker non-votes will be treated as shares that are present for purposes of
determining the presence of a quorum for the transaction of business.
Abstentions and broker non-votes are tabulated separately, with abstentions
counted as a "no" vote in tabulations of the votes cast on a proposal for
purposes of determining whether a proposal has been approved, while broker
non-votes relating to a proposal are not counted as voting power present with
respect to that proposal.
The Guardian transaction is an independent proposal and may be approved by a
majority of the votes present and entitled to vote thereon, without
consideration of the Eagle transaction. The Eagle transaction is fully
dependent on the approval of the Guardian transaction. If the Guardian
transaction is approved, a majority of the votes present and entitled to vote
thereon will be required to approve the Eagle transaction. If the Guardian
transaction is not approved, the Eagle transaction shall automatically be
withdrawn.
THE BOARD OF DIRECTORS OF THE COMPANY RECOMMENDS THAT THE STOCKHOLDERS VOTE
"FOR" THE APPROVAL OF THE GUARDIAN TRANSACTION AND "FOR" THE APPROVAL OF THE
EAGLE TRANSACTION.
Dissenters' Rights
Neither Delaware law nor our certificate of incorporation provide for any
rights of appraisal or dissent regarding the Guardian transaction or the Eagle
transaction.
8
<PAGE>
PROPOSAL ONE
THE GUARDIAN TRANSACTION
THE PRINCIPAL TERMS OF THE GUARDIAN TRANSACTION ARE SET FORTH IN THE
GUARDIAN NOTE, A COPY OF WHICH IS SET FORTH AS ANNEX A HERETO, AND THE
GUARDIAN WARRANTS WHICH ARE ATTACHED HERETO AS ANNEXES B-1, B-2 AND B-3 AND
MADE A PART OF THIS PROXY STATEMENT. THE FOLLOWING DISCUSSION SETS FORTH A
DESCRIPTION OF MATERIAL TERMS OF THE GUARDIAN TRANSACTION AND IS QUALIFIED BY
THE MORE COMPLETE INFORMATION SET FORTH THEREIN.
Purpose and Background of the Guardian Transaction
Since early 1999, we have been exploring opportunities to increase our
financial flexibility, including equity infusions and replacing or
restructuring our credit facility with the Bank of Montreal.
During 1999 and early in 2000, we had discussions with a variety of
potential investors and lenders. In March 1999, we engaged Raymond James &
Associates as financial advisors to assist us in considering a variety of
strategic financial transactions including potential mergers, acquisitions,
joint ventures and various debt and equity financing arrangements. Under this
engagement, Raymond James contacted approximately 90 separate entities. Of
these contacts, we had preliminary discussions with approximately 20. Due
diligence was performed on several of these companies with the assistance of
Raymond James. The total fees owed to Raymond James for its services are
$250,000 which represents 5% of the $5 million we have received in the
Guardian transaction. We have terminated Raymond Jones engagement and no
additional fees will be owed to Raymond James in the future as a result of the
Guardian transaction.
During this process, we received term sheets from three separate financial
institutions regarding alternative debt financing transactions. We also
received two written nonbinding private equity proposals and one letter
expressing interest in discussing a potential merger. These term sheets and
proposals were reviewed in detail with assistance from Raymond James and our
counsel. Our board of directors elected not to accept these proposals or
pursue these discussions for a variety of reasons. One of the primary reasons
that we did not pursue any of the equity proposals was that the prices being
offered for our stock were often lower than the then current trading price. We
are an exploration company and one of our more significant assets is our
inventory of undeveloped leases. The valuation of these assets is often very
subjective. Our board of directors believed that undeveloped assets were being
significantly undervalued by potential investors primarily as a result of the
historically low commodity prices, depressed state of the oil and gas industry
during 1998 and 1999 and the lack of capital available in the market at the
time to develop these assets. Several of these proposals also featured other
terms that were not acceptable, including rights to board seats, minimum
investment requirements and guaranteed return provisions. In addition, certain
private investment firms were only interested in a larger equity investment
($20 million minimum) at a discount to our then current market price. We also
had extended discussions with three potential merger partners which were not
pursued primarily as a result of our concerns regarding these companies'
potential off-balance sheet liabilities and the values they assigned to their
undeveloped oil and gas properties.
In March 2000, we decided to approach Guardian Energy Management Corp. about
making an equity investment in us. We were familiar with Guardian from their
past investments in various Michigan properties, which are currently operated
through Jordan Exploration Company, L.L.C., an oil and gas operator
headquartered in Traverse City, Michigan and controlled by Robert Boeve. We
had conducted business with Mr. Boeve in the past, and used this connection to
approach Guardian. Guardian expressed an interest in us, but indicated it
first would like to see us obtain a more favorable senior credit facility
while continuing to reduce our debt.
Guardian, a wholly-owned subsidiary of Guardian Industries Corp., is engaged
in the exploration, development and production of oil and gas in North
America. Its primary customers consist of utility and natural gas companies.
Guardian Industries is a privately-owned, multinational corporation based in
Auburn Hills, Michigan. Guardian Industries is a large manufacturer of float
glass and fabricated glass products in the commercial and residential
construction industry and a supplier of vehicle glass and exterior trim
systems to the automotive industry. Neither Guardian nor Jordan is affiliated
with us, Eagle, or to our knowledge, Veritas.
9
<PAGE>
Kelly Miller lead the discussions and negotiation process with the
principals of Guardian with the assistance of legal counsel and Raymond James.
The parties held approximately nine meetings, including teleconference
meetings. C.E. Miller, in his capacity as Chairman of the Board, attended only
one meeting early in the process to learn more about Guardian and to help
describe Miller's history and respond to questions about us. C.E. Miller was
not involved in the negotiation process for the Guardian transaction. On June
2, 2000, the significant terms of the Guardian transaction were substantially
agreed to by both parties. During that same time period, we approached C.E.
Miller with an offer to reacquire an interest in the nonproducing properties
Eagle previously acquired from us. The terms of the Eagle transaction were
finalized at about the same time as the terms for the Guardian transaction.
In April 2000, we began negotiating the terms of a new senior credit
facility with Bank One. Among the conditions imposed on us by Bank One were a
maximum borrowing base of $12.5 million, an extension of the maturity date of
our indebtedness to Veritas, and an equity investment of at least $5 million.
Stockholder approval of the Guardian transaction and the resulting
conversion of the Guardian note into shares of our common stock is a condition
precedent to the completion of the Eagle transaction. The approval of the
Guardian transaction was critical to us and Eagle because we expect the
elimination of the potential interest expense under the Guardian note to
provide the additional operating cash flow necessary to develop the acreage to
be reacquired from Eagle. We would not attempt to reacquire the acreage from
Eagle if we did not expect to have the financial capability to develop it. As
a result, if the Guardian transaction is not approved the Eagle transaction
will be immediately withdrawn.
The terms of the Guardian transaction, the Eagle transaction, our new senior
credit facility and our restructured indebtedness to Veritas are the result of
extensive negotiations among us and each of the parties involved. We believe
the increased flexibility, reduced interest expense and additional liquidity
provided by our new senior credit facility will be critical to the success of
our future operations.
Terms of the Guardian Transaction
The Securities Purchase Agreement. On July 11, 2000, we documented our
agreement with Guardian by executing a Securities Purchase Agreement. Under
the terms of this agreement we issued Guardian a convertible promissory note
and issued Guardian warrants exercisable for a total of 13,062,500 shares of
our common stock at a weighted average exercise price of $2.70 per share in
exchange for $5 million in cash. The Securities Purchase Agreement also
provides that we will
. hold a special meeting of our stockholders as promptly as practicable to
seek approval of the issuance of the shares of common stock upon the
conversion of the Guardian note and the exercise of the Guardian
warrants;
. until December 31, 2005, limit our board of directors to no more than
eight (8) directors; and
. grant Guardian a right of first offer with respect to private placements
of our common stock occurring on or before the fourth anniversary of the
date on which our stockholders approve the Guardian transaction. The
right of first offer only applies to private placements at prices below:
. $3.00 per share prior to the first anniversary of stockholder
approval,
. $3.50 per share prior to the second anniversary of stockholder
approval,
. $4.00 per share prior to the fourth anniversary of stockholder
approval.
Under the Securities Purchase Agreement, Guardian agreed to reimburse us for
up to $15,000 in expenses incurred in connection with the negotiation and
documentation of the Guardian transaction.
The terms of the Guardian transaction allow Guardian to designate two
members of our board of directors. On July 13, 2000, our board appointed two
designees of Guardian, Paul A. Halpern and Robert M. Boeve, to fill the
vacancies created by the recent resignations of Dan A. Hughes, Jr., and Frank
M. Burke.
The Guardian Note. If the Guardian Transaction is approved at the special
meeting, the Guardian note will automatically be converted into 3,703,704
shares of our common stock. The note issued to Guardian
10
<PAGE>
provides that if the conversion of the note is approved by January 11, 2001
and no default occurs, the note will not bear interest. In the Guardian note
we agree not to declare any dividends or distributions in cash or property
while the Guardian note remains outstanding. If the conversion of the Guardian
note is not approved, the Guardian note will accrue interest from July 11,
2000 until the Guardian note matures on September 1, 2003 at the lower of:
(1) the maximum legal rate or;
(2) . for the first 365 days after July 11, 2000, the prime rate plus 10%;
. for the next 365 days, the prime rate plus 12%; and
. thereafter the prime rate plus 15%.
If the Guardian note is not converted into common stock, principal and
interest payments under the note may be made in cash, by the issuance of
warrants exercisable for common stock (subject to a maximum of 2,157,767
shares) or in a combination of cash and warrants. Payments made in warrants
will be valued at the lower of (1) the weighted average of the closing prices
of common stock on the NASDAQ for the 30 consecutive trading days ending on
the trading day prior to the applicable warrant issue date or (2) $1.25 per
share. Additionally, if the conversion of the Guardian note into common stock
has not been approved by January 10, 2001, Guardian has the right to exchange
any outstanding principal or interest for an undivided interest in either all
of the Company's current producing and non-producing properties, or
alternatively , in certain properties as agreed to between Guardian and the
Company. The purchase price for these interests will be based upon their
reserve value using either the then current Bank One price deck discounted at
a rate of 15%, or the price at which production from the properties is being
hedged.
The Warrants. Under the terms of the Securities Purchase Agreement we issued
a series of warrants exercisable for our common stock to Guardian. The
principal economic terms of the three series of warrants are:
. 1,562,500 warrants exercisable at a price of $1.35 per share of common
stock for a period of one year from the date of stockholder approval;
. 2,500,000 warrants exercisable at a price of $2.50 per share of common
stock for a period of two years from the date of stockholder approval;
and
. 9,000,000 warrants exercisable at a price of $3.00 per share of common
stock for a period of four years from the date of stockholder approval.
The warrants are exercisable only for cash and provide for customary anti-
dilution protection in the event of recapitalizations, combinations or
subdivisions of the common stock, dividends or distributions on our common
stock and mergers or other extraordinary transactions. In addition, we agree
in the warrant agreements not to:
. issue shares of common stock or securities exercisable for or
convertible into common stock under any plan or plans for the benefit of
our employees or directors that in the aggregate exceed 15% of our
outstanding common stock as of the date thereof, and
. issue pursuant to our option plan more than 300,000 such shares or
securities at a price which is below the price quoted for our common
stock at the close of business on the day prior to issuance of plan
securities.
If all of the warrants are exercised, we will receive a total capital
infusion of approximately $35 million. However, there can be no assurance that
any warrants will ever be exercised.
Registration Rights Agreement. We have also entered into a registration
rights agreement with Guardian. If the Guardian transaction is approved, the
shares of common stock to be received by Guardian will be issued in private
placements that are exempt from the registration requirements of the
Securities Act of 1933, and as a result there will be restrictions on the
resale of the shares of common stock Guardian receives imposed under the
Securities Act. Because of these Securities Act restrictions, Guardian
required that we grant them certain registration rights and enter into the
registration rights agreement.
11
<PAGE>
Pursuant to the registration rights agreement, we have agreed to file and
cause to be declared effective within 180 days after receipt of Guardian's
request a "shelf" registration statement registering the resale of the common
stock to be issued to Guardian under the note and the warrants. Guardian also
will have additional "piggyback" registration rights under the registration
rights agreement to require that its shares of common stock be included in
registrations proposed by the Company, either for itself or for the benefit of
other stockholders.
The Company will bear all the expenses associated with the registration of
any common stock under the registration rights agreement, other than
underwriting discounts or commissions and any legal fees and expenses of
Guardian.
Voting Agreement. As a condition to Guardian's entering into the Securities
Purchase Agreement and lending the Company $5 million pursuant to the Guardian
note, C.E. Miller, our Chairman, Kelly Miller, our
Chief Executive Officer and President, and other members of the Miller family
entered into a voting agreement with Guardian. Under the terms of the voting
agreement, the members of the Miller family have agreed to vote the 5,260,124
shares, or approximately 39.7%, of our common stock that they beneficially own
in favor of the Guardian transaction.
New Directors. Mr. Halpern is Vice-President of Operations for Guardian and
Associate Tax Counsel for Guardian Industries. Mr. Halpern was formerly Tax
Director for McDermott International Inc. He currently is responsible for
Guardian's energy exploration and production activities and certain tax
functions. Mr. Halpern received his Bachelor of Business Administration degree
from Drexel University and received his law degree from Temple University.
Mr. Boeve is Manager and Chief Executive Officer of Jordan Exploration
Company, LLC, which currently operates approximately 360 wells with
exploration and/or operating interests in Texas, Oklahoma, Wyoming, North
Dakota, and Michigan. Mr. Boeve received his Master of Business Administration
degree in Finance from the University of Minnesota. Mr. Boeve is also managing
member of the newly created ECCO Investments, LLC, a private investment
company which recently purchased 370,370 shares of our common stock for an
aggregate purchase price of $500,000 ($1.35 per share).
Accounting for the Guardian Transaction
Under current accounting pronouncements, in determining the beneficial
conversion feature of the Guardian convertible note, we will be required to
assume that the fair value of the Guardian transaction is the closing price of
our common stock on the commitment date which was the date the agreements were
signed ($1.56 per share) versus the value agreed to by both parties of $1.35
per share using various valuation methodologies. The difference between these
values of $.21 per share will result in a non-cash charge to earnings of
$777,778 on the date of stockholder approval of the note conversion. Also we
will be required to use a value of $1.56 for our stock to allocate value to
the warrants proposed to be issued to Guardian. This will also result in a
non-cash charge to earnings of $552,175 upon stockholder approval of the
Guardian transaction. Discounts for large block stock trades and stock
transferability restrictions are not allowed under the accounting guidance in
determining the values used above. These charges to earnings are the result of
using a prescribed fair value for our stock in accounting for these
transactions which may not represent the actual value for the Guardian
transaction.
Use of Proceeds
The Company used the net proceeds from the Guardian note to repay a portion
of a loan with its then current senior lender, Bank of Montreal. On July 19,
2000, we repaid the outstanding balance under our senior credit agreement with
the Bank of Montreal and entered into a new senior credit facility with Bank
One. We have agreed to use any proceeds we receive from any other equity or,
subject to the terms of our credit facility, debt financings, including the
exercise of the warrants granted to Guardian, to repay our indebtedness to
Veritas, until the entire amount of approximately $4.2 million is repaid. We
expect that any additional proceeds we receive from the exercise of the
Guardian warrants will be used for capital expenditures associated with our
exploration and production activities and for general corporate purposes. If
the warrants are not exercised, debt payments and capital expenditures would
be limited to the amount of available cash flow from operations. We believe
that available operational cash flows should be adequate to fund scheduled
debt payments and budgeted capital expenditures.
12
<PAGE>
Recommendation of the Board of Directors
Our board of directors, including all independent disinterested directors,
has unanimously approved the Guardian transaction, has determined that the
transaction is in the best interests of the stockholders, and recommends that
the stockholders vote "for" the issuance of shares to Guardian pursuant to
conversion of the Notes and exercise of the warrants.
The Guardian transaction was approved on June 15, 2000. The new directors
did not participate in the deliberations or approval of the Guardian
transaction.
Prior to approving the Guardian transaction, our board of directors
considered various alternatives including continuing its original credit
agreement with the Bank of Montreal or obtaining financing from other
financial institutions. The various alternatives considered included an
exhaustive search for a strategic merger or acquisition candidate and/or debt
or equity financing partner. See "--Purpose and Background of the Guardian
Transaction."
In approving the Guardian transaction, the Board concluded that the terms of
the Guardian transaction presented the best course of action for the Company.
The material factors considered by the Board in making such recommendation
include the following:
. The Guardian transaction allowed us to enter into a new credit facility.
The terms of the new credit facility increase our discretionary cash
flow, which can be applied toward exploration opportunities and/or other
oil and gas asset acquisition and joint venture opportunities.
. If the Guardian warrants are exercised we will receive approximately $35
million in additional equity capital, although there can be no assurance
the warrants will ever be exercised.
. By approving the note conversion, we will avoid substantial interest
charges and penalties associated with the Guardian note and eliminate
unintended additional debt. Also, we will avoid any obligation to sell
Guardian an undivided interest in our current producing properties.
Conversely, if the note conversion is not approved, the resulting
additional interest will reduce our discretionary cash flow.
. The Guardian transaction allows us to complete the Eagle transaction,
which in turn will permit us to purchase additional strategic leasehold
interests in our core area of interest and receive a cash infusion that
we will use to pay down Veritas' indebtedness.
. The Guardian transaction enhanced our ability to obtain better terms
under the Veritas indebtedness through lower interest rates and extended
maturity.
. The Guardian transaction was an inducement for Eagle, Bank One, and
Veritas to enter into agreements that improve our debt and capital
structure.
. The weighted average exercise price of the warrants exceeded the current
per share book and market value of our common stock.
. The terms of the Guardian transaction are fair to and in the best
interests of our company and stockholders.
The negative factors considered by the Board in making its recommendation
include the dilutive effect of the transaction on our stockholders, the fact
that the prices at which Guardian may exercise its warrants are fixed, and the
potential effect of the transaction and subsequent sales of stock by Guardian
on our stock price. See "Risk Factors."
Possible Effects of the Guardian Transaction on Stockholders
Upon approval of the Guardian transaction, Guardian will own 3,703,704
shares of our common stock (approximately 19.2% of the outstanding common
stock, assuming the Eagle transaction is approved) and will hold warrants
exercisable for an additional 13,062,500 shares in the future. The issuance of
a large amount of common stock and warrants also may adversely affect the
market price of our common stock. The Guardian
13
<PAGE>
transaction will result in a large percentage of ownership being held by a
single new stockholder. After issuance of both the Guardian and Eagle shares
and exercise of all warrants under both transactions, Guardian will own
approximately 48.7% and C. E. Miller beneficially will own approximately 15.7%
of all of the outstanding common stock of the Company. The possible effects of
the transaction on stockholders are more fully discussed under "Risk Factors."
Reasons for Seeking Stockholder Approval
The rules of the NASDAQ Stock Market provide that stockholder approval is
required prior to the issuance of common stock by the Company when the number
of shares of common stock to be issued in a transaction or series of
transactions, other than a public offering, would equal at least 20% of the
number of shares of common stock outstanding before such issuance. The shares
of common stock to be issued to Guardian upon the conversion of the Guardian
note and the exercise of all of the Guardian warrants represent approximately
122.0% of the shares of common stock outstanding, based upon the number of
shares of common stock outstanding as of the record date.
PROPOSAL TWO
THE EAGLE TRANSACTION
THE PRINCIPAL TERMS OF THE EAGLE TRANSACTION ARE SET FORTH IN THE EAGLE
LETTER AGREEMENT, A COPY OF WHICH IS SET FORTH AS ANNEX C HERETO AND IS MADE A
PART OF THIS PROXY STATEMENT. THE FOLLOWING DISCUSSION SETS FORTH A
DESCRIPTION OF MATERIAL TERMS OF THE EAGLE AGREEMENT AND IS QUALIFIED BY THE
MORE COMPLETE INFORMATION SET FORTH IN THE AGREEMENT ITSELF.
Purpose and Background of the Eagle Transaction
In March and May, 1999, to raise additional capital to make required
payments under our senior credit facility with the Bank of Montreal, we
assigned to Eagle our interests in approximately 5,451 acres of undeveloped
properties in the Mississippi Salt Basin for approximately $3.9 million in
cash. These transactions were approved by each of our independent directors
and were previously disclosed. At the time of the March transaction, commodity
prices were approximately $1.70/mcf for gas and $17.00/bbl for oil. The
agreements we entered into with Eagle provided us with the option, but not the
obligation, to re-purchase not less than 100% of any then non-producing
leasehold acreage we sold to Eagle on or before December 31, 1999. The
agreements provided that the re-purchase price for these assets would be the
purchase price paid by Eagle plus interest at the prime rate announced from
time to time by the Bank of Montreal. Had are required all of the properties
prior to December 31st, the acquisition price inclusive of subsequent costs
incurred by Eagle would have been approximately $4.1 million, including
interest.
We have always been interested in increasing our ownership interest in the
non-producing properties we sold to Eagle in 1999. Those transactions,
including the right of repurchase, were entered into at a time when we had no
other reasonable alternative solutions to meet our required principal payments
under our senior credit facility. By June 2000, gas prices had increased
approximately 150% to $4.25/mcf and oil prices had increased approximately 76%
to $30.00/bbl from price levels in the Spring of 1999. On June 2, 2000, we
agreed in principal to repurchase an undivided 50% of Eagle's working interest
in the 4,593 net acres currently held by Eagle, or 2,297 net acres, with the
right to purchase the balance of the acreage on or before December 31, 2000.
This repurchase is an extension of, and is being made substantially pursuant
to the terms of, the agreement previously negotiated with Eagle. Since the
date of our original agreement with Eagle, we and Eagle each conveyed a
portion of our interests in four of these properties to Remington Oil and Gas
Corporation. The terms of our current agreement with Eagle reflect this change
and allow us to repurchase the remainder of Eagle's current interest in the
properties originally transferred and also permit us to repurchase acreage in
the domes where drilling had occurred. In addition, the revised terms provide
that the purchase price will be paid in shares of our common stock and make
the repurchase subject to prior approval of the Guardian transaction. Eagle is
retaining the proved reserves from the six producing wells on the subject
acreage and reserves attributable to the Sligo formation with respect to Kola
Dome. The acreage Eagle holds today is 958 acres less than the amount sold to
Eagle originally in 1999, primarily as a result of acreage leases that expired
or were not renewed by us or Eagle.
14
<PAGE>
We believe the acquisition of this acreage from Eagle is in our
stockholders' best interests due to the increase in commodity prices of gas
and oil, the fact that the acreage position has been managed to eliminate
leases that do not include the prospective drilling sites identified in our 3-
D seismic analysis, favorable drilling results in the areas where drillable
prospects have been identified, the prospects that have been identified on
this acreage, positive results from reprocessing 3-D seismic technology which
has improved the quality and interpretability of the data and the inclusion of
the option to purchase the balance of the properties that are located in our
core area of the Mississippi Salt Basin on or before December 31, 2000.
As part of the amended agreement with Veritas, all funds raised from equity
investments must go toward paying our obligation to Veritas. We will use the
cash equity infusion from Eagle to make a required principal payment on our
indebtedness to Veritas. In addition to the 1,851,851 shares of our common
stock, Eagle will also receive warrants to purchase 781,250 shares of common
stock at a price of $1.35 per share and 1,250,000 shares of common stock at a
price of $2.50 per share. These warrant issuances are on the same terms as the
warrants granted to Guardian as part of the Guardian transaction, except that
Eagle was not granted any warrants that are exercisable for four years at the
$3.00 exercise price.
Stockholder approval of the Guardian transaction and the resulting
conversion of Guardian note into shares of our common stock is a condition
precedent to the completion of the Eagle transaction. The approval of the
Guardian transaction was critical to us and Eagle because we expect the
elimination of the potential interest expense under the Guardian note to
provide the additional operating cash flow necessary to develop the acreage to
be reacquired from Eagle. We would not attempt to reacquire the Eagle acreage
if we did not expect to have the financial capability to develop it. As a
result, if the Guardian transaction is not approved the Eagle transaction will
be immediately withdrawn.
Terms of the Eagle Transaction
Eagle has agreed to assign to us an undivided 50% of its interest in the
non-producing properties listed below. Additionally Eagle will pay us $500,000
in cash. In consideration for the assignment of the properties and the cash
infusion, Eagle will receive 1,851,851 shares of common stock with a fair
value of $1.56 per share on July 11, 2000 (the date the Eagle agreement was
signed). As a result, approximately $2.4 million of the $2.9 million in
consideration will be assigned to the fair value of the properties.
EAGLE PROPERTIES TO BE ACQUIRED
<TABLE>
<CAPTION>
Net Acreage Net Acreage
Property Name Working Interest Acquired Owned by Eagle Assigned to Miller
------------- ------------------------- -------------- ------------------
<S> <C> <C> <C>
Arm Dome................ 0.08080 374 187
Centerville Dome........ 0.07325 164 82
Don't Dome.............. 0.05290 164 82
Dry Creek Dome.......... 0.07645 558 279
Eminence Dome........... 0.02115 107 54
Grange Dome............. 0.08080 513 257
N.E. Collins............ 0.10585 286 143
S.W. Kola............... 0.10585 202 101
Kola Dome............... 0.06380 302 151
Midway Dome............. 0.03960 689 345
Moselle Dome............ 0.15585 692 346
Richmond Dome........... 0.07120 542 271
</TABLE>
In addition to the 1,851,851 shares of common stock, Eagle will be issued
warrants exercisable for (a) 781,250 shares of common stock at an exercise
price of $1.35 per share exercisable for one year from the date of stockholder
approval and (b) 1,250,000 shares of common stock at an exercise price of
$2.50 per share exercisable for two years from the date of stockholder
approval.
15
<PAGE>
The terms of the reacquisition of the nonproducing properties from Eagle
were largely dictated by the terms of the original sale of the properties to
Eagle. The following are among the items considered in evaluating the
transaction:
. other property acquisitions in the market,
. substantially improved commodity prices since the original sale, and
. new development on surrounding acreage.
In order to ensure that the repurchase was entered into on terms that were
fair, our exploration department performed an internal valuation with respect
to the properties being repurchased. C.E. Miller participated in the
negotiations on behalf of Eagle. Negotiations on our behalf were conducted by
Kelly Miller, who advised our board of directors on our progress throughout
the process. The Eagle transaction finally was approved unanimously by our
board, including all of the independent disinterested directors, on July 13,
2000.
Registration Rights Agreement. We also will enter into a registration rights
agreement with Eagle. If the Eagle transaction is approved, the shares of
common stock to be received by Eagle will be issued in private placements that
are exempt from the registration requirements of the Securities Act of 1933,
and as a result there will be restrictions on the resale of the shares of
common stock Eagle receives imposed under the Securities Act. Because of these
Securities Act restrictions, Eagle has requested that we grant it certain
registration rights and enter into the registration rights agreement
substantially similar to that entered into with Guardian.
Use of Proceeds
The $500,000 equity infusion received from Eagle will be used to make a
required $500,000 payment toward the reduction of our indebtedness to Veritas.
In addition, we have agreed with Veritas to use any proceeds from any debt or
equity transactions, including the exercise of warrants granted to Eagle, to
repay our $4.2 million indebtedness to Veritas. We expect that any additional
proceeds we receive from the exercise of the Eagle warrants following such
repayment will be used for capital expenditures associated with our
exploration and production activities and for general corporate purposes. In
the event the Eagle transaction is not approved, we will have until December
31, 2000 to raise $500,000 in equity in order to make the required principal
payment to Veritas. However, our new credit agreement prohibits debt payments,
outside of normal trade payables, until the next redetermination date of
January 1, 2000. If the Eagle warrants are not exercised we expect that all
future capital expenditures will continue to be funded from cash flow from
operations.
Recommendation of the Board of Directors
The board of directors of the Company, including all of the independent,
disinterested directors, has approved the Eagle transaction, has determined
that the agreement is in the best interests of the stockholders, and
recommends that the stockholders vote "for" the approval of the transaction.
The Eagle transaction was approved on July 13, 2000, the same day as the
appointment of the new directors, and the Guardian designees did not
participate in the deliberations or approval of the Eagle transaction.
The material factors considered by the Board in making such recommendation
include the following:
. The repurchase will allow us to increase leasehold interests in
potentially valuable land with 3-D seismic in the Mississippi Salt
Basin, where the majority of our exploration and production already
takes place.
. If the Eagle warrants are exercised, we will receive up to approximately
$4 million of additional equity capital, although there can be no
assurance that these warrants will ever be exercised.
. We will be able to repurchase the Eagle assets for approximately the
same price that we sold them to Eagle, even though gas and oil prices
have increased approximately 140% and 76%, respectively, from the date
of our initial sale of these assets.
. Eagle will only retain the well bore for the producing properties, and
we will acquire all the leasehold property rights outside the producing
well bores, excepting only the reserves attributable to that well, and
excepting the producing zone in the Langston #1 well in the adjoining
640-acre units, which will give us the benefit of any future
opportunities that may exist within producing units.
16
<PAGE>
. The capital infusion of $500,000 we will receive from Eagle will be used
for a principal payment of $500,000 under our indebtedness to Veritas,
which will avoid a substantial penalty consisting of the issuance to
Veritas of a warrant exercisable for a number of shares of common stock
purchasable for $750,000 at the existing market price.
. The Eagle transaction was an inducement for Guardian, Bank One, and
Veritas to enter into agreements that improve our debt and capital
structure.
. The purchase price for the leasehold interests and various other rights
is fair, equitable, and in the best interests of our company and
stockholders.
. Exercise of all the warrants would be accretive to our stockholders,
based on the current book value of our stock.
The negative factors considered by the Board in making its decision include
C.E. Millers' conflict of interest, the fact that the prices at which Eagle
may exercise warrants are fixed, and the potential effect of the transaction
on the stock price. See "Risk Factors."
Possible Effects of the Eagle Transaction on Stockholders
Upon approval of the Eagle transaction, C. E. Miller will own beneficially
3,357,654 shares, or approximately 17.4% of our total outstanding shares of
common stock and will hold, through Eagle, warrants exercisable for an
additional 2,031,250 shares. The issuance of a large amount of common stock
and warrants may adversely affect the market price of our common stock. The
effects of the transaction on stockholders are more fully discussed on page 7
under "Risk Factors."
Reasons for Seeking Stockholder Approval
The rules of the NASDAQ Stock Market provide that stockholder approval is
required prior to the issuance of common stock by the Company when (a) the
number of shares of common stock to be issued in a transaction or series of
transactions, other than a public offering, would equal at least 20% of the
number of shares of Common stock outstanding before such issuance and (b) any
insider has a 5% or greater interest in assets to be acquired by a company and
the consideration to be paid for such assets could result in an increase in
the number of shares of outstanding common stock of 5% or more. The shares of
common stock to be issued upon the closing of the Eagle transaction and the
exercise of all of the Eagle warrants will constitute approximately 29.3% of
the shares of common stock outstanding, based upon the number of shares of
common stock outstanding at the record date.
RECENT DEVELOPMENTS
Bank One Credit Facility
On July 19, 2000, we entered into a new senior credit facility with Bank
One, Texas NA, which replaced our credit facility with Bank of Montreal. The
new credit facility has a 30-month term and a current borrowing base of $11.5
million. The interest rate under the new credit facility has been reduced from
prime plus 3 1/2% to either prime plus 2% or LIBOR plus 4% at the Company's
option. The new credit facility requires us to make monthly principal payments
of $500,000 until the next borrowing base re-determination which is scheduled
for January 1, 2001.
Veritas Indebtedness
On July 19, 2000, we also entered into an agreement to amend the terms of
our $4.7 million note, warrant and registration rights agreement with Veritas.
Under this agreement the term of the note has been extended 36 months and the
interest rate reduced significantly from 18% to 9 3/4%. In connection with the
extension and material reduction in the interest rate, we agreed to make $1
million in payments by December 31, 2000. We made a $500,000 payment of
principal in July 2000 and have agreed to pay another $500,000 by December 31,
2000, which will be paid from the proceeds of the Eagle transaction. If we do
not pay the $500,000 by December 31, 2000, Veritas DGC Land Inc. will be
issued $750,000 in warrants at the then current market price as a penalty.
Veritas is not affiliated in any way with us, Eagle, or to our knowledge,
Guardian. In addition, on November 1, 2000, Veritas exercised warrants for
496,923 shares of our common stock.
17
<PAGE>
MILLER EXPLORATION COMPANY
PRO FORMA FINANCIAL STATEMENTS
(unaudited)
In July 2000, we issued a subordinated convertible note to Guardian in
exchange for $5 million. If our stockholders approve the conversion, the note
will immediately be converted into the right to receive 3,703,704 shares of
common stock. We also issued to Guardian warrants to purchase 13,062,500
shares of common stock at three different exercise prices exercisable in
varying amounts over the four years following the date of approval. See
"Proposal One--The Guardian Transaction" on page 9.
Also in July 2000, we entered into an agreement with Eagle to purchase 50%
of its interest in certain non-producing oil and gas leasehold properties and
receive $500,000 in cash in exchange for 1,851,851 shares of common stock and
warrants. Under the agreement with Eagle we will also issue 2,031,250 warrants
at two different exercise prices exercisable over the two years following the
date of stockholder approval.See "Proposal Two--The Eagle Transaction" on page
14.
The following pro forma financial statements illustrate the following:
. the receipt of the cash and non-producing oil and gas properties in
exchange for common stock and warrants for both the Guardian and Eagle
transaction,
. the principal payments made to both our senior lender and Veritas from
the proceeds of these transactions,
. the reduction in interest expense resulting from the principal payments
and lower stated interest rates under the restructured debt with both
our new senior lender and Veritas and
. the improvement in both basic and diluted earnings per share.
The pro forma financial statements may not be indicative of what actual
results would have been, nor do they purport to represent what our results of
operations or financial position actually would have been had these
transactions and events occurred on the dates specified or to project our
results of operations or financial position for any future period or date.
The pro forma financial statements should be read in conjunction with our
historical financial statements and the notes to the pro forma financial
statements included herein.
18
<PAGE>
MILLER EXPLORATION COMPANY
PRO FORMA BALANCE SHEET
AS OF JUNE 30, 2000
(in thousands, except per share)
(unaudited)
<TABLE>
<CAPTION>
Miller Miller
Exploration Pro Forma Exploration
Historical Adjustments Notes Pro Forma
----------- ----------- ----- -----------
<S> <C> <C> <C> <C>
CURRENT ASSETS
Cash and cash equivalents.......... $ 388 $ 100 (A) $ 488
Accounts receivable................ 5,398 -- 5,398
Other current assets............... 834 -- 834
-------- ------- --------
6,620 100 6,720
-------- ------- --------
OIL AND GAS PROPERTIES, NET.......... 52,283 2,624 (B) 54,907
-------- ------- --------
OTHER ASSETS......................... 805 -- 805
-------- ------- --------
TOTAL ASSETS......................... $ 59,708 $ 2,724 $ 62,432
======== ======= ========
CURRENT LIABILITIES
Current portion of long-term debt.. $ 10,478 $(5,400) (A) $ 5,078
Accounts payable................... $ 1,869 $ 1,869
Accrued expense and other current
liabilities....................... 4,410 -- 4,410
-------- ------- --------
16,757 (5,400) 11,357
-------- ------- --------
NON-CURRENT LIABILITIES
Long-term debt..................... 13,169 -- 13,169
Deferred income taxes.............. 5,606 -- 5,606
Deferred revenue................... 37 -- 37
-------- ------- --------
18,812 -- 18,812
-------- ------- --------
EQUITY
Common stock warrants.............. 1,268 787 (C) 2,055
Common stock....................... 127 56 (D) 183
Additional paid in capital......... 66,771 8,611 (D) 75,382
Retained deficit................... (44,027) (1,330) (C,D) (45,357)
-------- ------- --------
24,139 8,124 32,263
-------- ------- --------
TOTAL LIABILITIES AND EQUITY......... $ 59,708 $ 2,724 $ 62,432
======== ======= ========
</TABLE>
See the accompanying Notes to the Pro Forma Balance Sheet
19
<PAGE>
MILLER EXPLORATION COMPANY
NOTES TO PRO FORMA
BALANCE SHEET
AS OF JUNE 30, 2000
(A) To reflect the $5.0 million in cash received from Guardian and the
$500,000 received from Eagle. Also reflects the $4.9 million principal
payment on bank debt from the Guardian proceeds and $500,000 principal
payment on the Veritas debt.
(B) To reflect the adjustment to oil and gas properties to record the
properties acquired from Eagle at their estimated fair value under the
purchase method of accounting. This amount was determined based on the
1,851,851 shares issued multiplied by $1.56 per share plus the value of
$234,688 assigned to the Eagle warrants minus the $500,000 received in
cash.
(C) To reflect the portion of the fair value of the proceeds from both
Guardian and Eagle allocable to the warrants issued. These amounts are
$552,175 and $234,688, respectively, for Guardian and Eagle and were
determined using Black-Scholes valuation models assuming a grant date fair
value of $1.56 per share. The offsetting debit is a non-cash charge to
earnings for the Guardian transaction. The offsetting debit for the Eagle
warrants is to oil and gas properties as described in (B) above.
(D) To reflect the 3,703,704 shares issued to Guardian and the 1,851,851
shares issued to Eagle, both at the present fair market value of our stock
on the commitment date of $1.56 per share. The difference between the fair
value of $1.56 per share and the issue price of $1.35 per share or $.21,
multiplied by the number of shares issued for cash to Guardian was
recorded as a non-cash charge to earnings.
Other Disclosure Information
The pro forma balance sheet information as of June 30, 2000 was presented
assuming the stockholders approved the conversion of the Guardian note and
Eagle transaction on that date. Therefore, no interest was accrued or recorded
on the Guardian note.
The charge to earnings under Items (C) and (D) are required under current
accounting pronouncements. Under item (D), the pronouncements require us to
assume that the fair value of the Guardian and Eagle transactions is the
closing price of our common stock on the commitment date, which was the date
the agreements were signed ($1.56 per share) versus the value agreed to by
both parties of $1.35 using various valuation methodologies. Under item (C),
the pronouncements require us to use a value of $1.56 for our stock to
allocate value to the warrants issued to both Guardian and Eagle. Furthermore,
discounts for large stock trades and stock transferability restrictions are
not allowed under the accounting guidance. These charges to earnings are the
result of using a prescribed fair value for our stock in accounting for these
transactions which may not represent the actual value for the Guardian and
Eagle transactions.
20
<PAGE>
MILLER EXPLORATION COMPANY
PRO FORMA STATEMENT OF OPERATIONS
FOR THE SIX MONTHS ENDED JUNE 30, 2000
(in thousands, except per share)
(unaudited)
<TABLE>
<CAPTION>
Miller Miller
Exploration Pro Forma Exploration
Historical Adjustments Notes Pro Forma
----------- ----------- ----- -----------
<S> <C> <C> <C> <C>
OPERATING REVENUES................... $12,021 $ -- $12,021
OPERATING EXPENSES
Lease operating expenses and
production taxes.................. 1,015 -- 1,015
Depreciation, depletion and
amortization...................... 8,786 -- 8,786
General and administrative......... 1,171 -- 1,171
------- ------ -------
10,972 -- 10,972
OPERATING INCOME..................... 1,049 -- 1,049
INTEREST EXPENSE..................... (1,667) 622 (A) (1,045)
------- ------ -------
INCOME (LOSS) BEFORE INCOME TAXES.... (618) 622 4
INCOME TAX PROVISION (CREDIT)........ (210) 211 1
------- ------ -------
NET INCOME (LOSS).................... $ (408) $ 411 $ 3
======= ====== =======
AVERAGE COMMON SHARES OUTSTANDING
BASIC.............................. 12,702 5,556 (B) 18,258
======= =======
DILUTED............................ 12,702 5,556 (B) 18,258
======= =======
EARNINGS PER SHARE--BASIC............ $ (0.03) $ 0.00
======= =======
EARNINGS PER SHARE--DILUTED.......... $ (0.03) $ 0.00
======= =======
</TABLE>
See the accompanying Notes to the Pro Forma Statements of Operations
21
<PAGE>
MILLER EXPLORATION COMPANY
PRO FORMA STATEMENT OF OPERATIONS
FOR THE YEAR ENDED DECEMBER 31, 1999
(in thousands, except per share)
(unaudited)
<TABLE>
<CAPTION>
Miller Miller
Exploration Pro Forma Exploration
Historical Adjustments Notes Pro Forma
----------- ----------- ----- -----------
<S> <C> <C> <C> <C>
OPERATING REVENUES................... $20,931 $ -- $20,931
OPERATING EXPENSES
Lease operating expenses and
production taxes.................. 1,704 -- 1,704
Depreciation, depletion and
amortization...................... 16,066 -- 16,066
General and administrative......... 2,776 -- 2,776
------- ----- -------
20,546 -- 20,546
OPERATING INCOME..................... 385 -- 385
INTEREST EXPENSE..................... (3,519) 837 (A) (2,682)
------- ----- -------
INCOME (LOSS) BEFORE INCOME TAXES.... (3,134) 837 (2,297)
INCOME TAX PROVISION (CREDIT)........ (1,152) 302 (850)
------- ----- -------
NET INCOME (LOSS).................... $(1,982) $ 535 $(1,447)
======= ===== =======
AVERAGE COMMON SHARES OUTSTANDING
BASIC.............................. 12,633 5,556 (B) 18,189
======= =======
DILUTED............................ 12,633 5,556 (B) 18,189
======= =======
EARNINGS PER SHARE--BASIC............ $ (0.16) $ (0.08)
======= =======
EARNINGS PER SHARE--DILUTED.......... $ (0.16) $ (0.08)
======= =======
</TABLE>
See the accompanying Notes to the Pro Forma Statements of Operations
22
<PAGE>
MILLER EXPLORATION COMPANY
NOTES TO PRO FORMA STATEMENTS OF OPERATIONS
FOR THE SIX MONTHS ENDED JUNE 30, 2000 AND THE YEAR ENDED DECEMBER 31, 1999
(A) To reflect the reduction in interest expense associated with applying the
proceeds from the Guardian and Eagle transactions to pay down both bank
and Veritas debt balances at January 1, 1999. Also reflects the reduction
in interest expense resulting from the lower interest rates stated in the
restructured bank credit facility and amended Veritas agreement.
(B) To reflect the shares issued upon conversion of the Guardian note and
under the Eagle transaction assuming stockholder approval as of January 1,
1999. It was assumed that warrants were not exercised during the periods
and the warrants were not included as outstanding in the diluted earnings
per share calculation for December 31, 1999, since doing so would be
antidilutive.
Other Disclosure Information
The pro forma adjustments do not reflect any potential additional cost
savings such as reduced professional fees and bank fees associated with having
a new credit facility and senior lender relationship. The pro forma
adjustments also do not reflect any potential costs or additional revenues
generated from development of the properties acquired.
The pro forma statements of operations were presented assuming the
stockholders approved the Guardian note conversion and Eagle transaction as of
January 1, 1999. This pro forma information only presents events that are
directly attributable to the Guardian and Eagle transactions and are expected
to have a continuing impact on us.
The charges that have not been included in the pro forma presentation above
because they represent "one-time charges" and are not expected to have a
continuing effect on operations are those charges resulting from 1) recording
the value ($777,778) of the beneficial conversion feature of the Guardian
convertible note, 2) allocating value ($552,175) to the warrants to be issued
to Guardian and 3) accruing interest on the Guardian convertible note for the
period from the effective date to the date of conversion. A description of the
methods used to determine these values is included in the Notes to the Pro
Forma Balance Sheet as of June 30, 2000.
The interest will be accrued in accordance with EITF 85-17, which requires
that during the period the convertible debt is outstanding interest is accrued
on the note until the date of conversion. The accrual of interest is required
even though no interest will be owed if the stockholders approve the
conversion of the note. The interest rate stated in the note for the first 365
days is the sum of Prime Rate plus 10% or currently 19.5%. If for example, the
conversion occurs on December 1, 2000, approximately $379,315 of interest
would accrue during the period from July 11, 2000 to December 1, 2000.
23
<PAGE>
MANAGEMENT'S DISCUSSION AND ANALYSIS
OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
The following discussion should be read in conjunction with our consolidated
financial statements beginning on page F-1. Certain information, including
information regarding our plans and strategy for business, are forward-looking
statements. These statements are based on certain assumptions and analyses
made by our management in light of its experiences and its perception of
historical trends, current conditions, expected future developments, and other
factors it believes are appropriate. Such statements are subject to a number
of risks and uncertainties regarding general economic and business conditions,
prices of crude oil and natural gas, business opportunities, changes in laws
or regulations, and other factors that may be beyond our control. Such
statements are not guarantees of future performance and actual results or
developments may differ materially from those projected in the forward-looking
statements.
Overview
We are an independent oil and gas exploration, development and production
company that has developed a base of producing properties and inventory of
prospects concentrated primarily in Mississippi.
We use the full cost method of accounting for our oil and natural gas
properties. Under this method, all acquisition, exploration and development
costs, including any general and administrative costs that are directly
attributable to our acquisition, exploration and development activities, are
capitalized in a "full cost pool" as incurred. We record depletion of our full
cost pool using the unit-of-production method. SEC Regulation S-X, Rule 4-10
requires companies reporting on a full cost basis to apply a ceiling test
wherein the capitalized costs within the full cost pool, net of deferred
income taxes, may not exceed the net present value of our proved oil and gas
reserves plus the lower of cost or market of unproved properties. Any such
excess costs should be charged against earnings. Using unescalated period-end
prices at December 31, 1999, of $2.38 per Mcfe, we would have recognized a
non-cash impairment of oil and gas properties in the amount of approximately
$1.2 million pre-tax. However, on the basis of the improvements in pricing
experienced subsequent to period-end, we determined that a writedown was not
required. At December 31, 1998, we recorded a non-cash cost ceiling writedown
of $35.1 million. The writedown was the combined result of a large downward
revision in oil and gas reserve quantities and depressed commodity prices.
Disappointing 2-D seismic-supported drilling results and drilling cost
overruns also contributed to the cost ceiling writedown. We based our ceiling
test determination on a price of $1.78 per Mcfe, which represented the March
1999 closing commodity prices. Had we used unescalated period-end prices at
December 31, 1998, of $1.92 per Mcfe, we would have recognized a cost ceiling
writedown of $31.1 million.
On July 11, 2000, we issued a subordinated convertible note, the conversion
of which is subject to stockholder approval, in exchange for $5.0 million.
Since the proceeds of this note were used to pay down existing debt, our long-
term debt balance did not increase. Additionally, until the stockholders
approve the conversion of the note, we will accrue interest at an amount equal
to the prime rate plus 10% per annum (currently 19.5%). The accrual of
interest is required under EITF 85-17 even though no interest will be owed if
the stockholders approve the conversion of the note. There will be no other
material effects from the issuance of this note on our financial position or
results of operations prior to the stockholder approval of the conversion. If
the Guardian transaction is approved, our liquidity and cash flow available
for capital expenditures in the future will be increased due to lower
principal and interest payments required under our new credit facility and the
elimination of our obligations under the Guardian note.
24
<PAGE>
Results of Operations
The following table summarizes production volumes, average sales prices and
average costs for the Company's oil and natural gas operations for the periods
presented (in thousands, except per unit amounts):
<TABLE>
<CAPTION>
For the Three Months For the Six Months
Ended June 30, Ended June 30,
--------------------- -------------------
2000 1999 2000 1999
---------- ---------- --------- ---------
<S> <C> <C> <C> <C>
Production Volumes:
Crude oil and condensate
(MBbls)......................... 57 63 104 134
Natural gas (MMcf)............... 1,506 1,876 3,148 3,931
Natural gas equivalent (MMcfe)... 1,848 2,254 3,773 4,771
Revenues:
Crude oil and condensate......... $ 1,422 $ 898 $ 2,515 $ 1,614
Natural gas...................... 4,924 3,912 9,341 8,031
Operating expenses:
Lease operating expenses and
production taxes................ $ 557 $ 448 $ 1,015 $ 1,051
Depletion, depreciation and
amortization.................... 4,415 3,530 8,786 6,922
General and administrative....... 580 814 1,171 1,585
Interest expense................... $ 818 $ 1,013 $ 1,667 $ 1,607
Net income (loss).................. $ 30 $ (954) $ (408) $ (1,441)
Average sales prices:
Crude oil and condensate ($ per
Bbl)............................ $ 24.95 $ 14.25 $ 24.18 $ 11.53
Natural gas ($ per Mcf).......... 3.27 2.09 2.97 2.04
Natural gas equivalent ($ per
Mcfe)........................... 3.43 2.13 3.14 2.02
Average Costs ($ per Mcfe):
Lease operating expenses and
production taxes................ $ 0.30 $ 0.20 $ 0.27 $ 0.22
Depletion, depreciation and
amortization.................... 2.39 1.57 2.33 1.45
General and administrative....... 0.31 0.36 0.31 0.33
</TABLE>
Three Months Ended June 30, 2000 compared to Three Months Ended June 30, 1999
Oil and natural gas revenues for the three months ended June 30, 2000
increased 32% to $6.3 million from $4.8 million for the same period in 1999.
The revenues for the three months ended June 30, 2000 and 1999 include $(0.4)
million and $(0.1) million of hedging losses, respectively. Total gas
production for the three months ended June 30, 2000 declined 20% to 1,506 MMcf
from 1,876 MMcf for the same period in 1999. The decrease in gas production
output is primarily attributable to a declining production curve for
Mississippi Salt Basin properties. The effect of the sale of Antrim Shale gas
producing properties in Michigan (June 1, 1999 effective date) were largely
offset by production gains from non-Antrim Shale properties in Michigan.
Average natural gas prices increased 56% to $3.27 per Mcf for the three months
ended June 30, 2000 from $2.09 per Mcf in the same period in 1999. Total oil
production volumes during the three months ended June 30, 2000 decreased 10%
to 57 Mbbls from 63 Mbbls for the same period in 1999. The drop in oil
production is attributable to a declining production curve for Mississippi
Salt Basin properties. In an effort to slow our oil and gas production decline
we decided to install compression equipment on all of our operated wells. This
project began in May 2000 and was completed in August 2000. Based on
production history, there are no reasons to expect that the decline rate for
the currently producing wells in Mississippi will change materially. We will
continue to monitor our wells and analyze additional methods to stimulate
production. Generally, there are no limits as to the number of times a well
can be re-worked as long as there is an economic benefit for doing so. Re-
perforations can be performed for as little as $10,000 and small stimulation
jobs for as little as $30,000. We expect that any future workovers, re-
perforations, or similar activities will be funded from operating cash flow.
Average oil prices increased 75% to $24.95 per barrel during the three months
ended June 30, 2000 from $14.25 per barrel in the same period in 1999. The
significant increases in natural gas and oil prices represents an example of
the volatility in commodity prices the industry has experienced over the past
couple years.
25
<PAGE>
Lease operating expenses and production taxes for the three months ended
June 30, 2000 increased 24% to $0.6 million from $0.4 million for the same
period in 1999. Lease operating expenses increased by approximately $0.04
million due primarily to the cost of installing compression equipment and the
related compressor rental on certain Mississippi salt basin wells during the
quarter ended June 30, 2000. The addition of compressors will
help maintain current production rates during the presently high commodity
price environment. Production taxes increased by approximately $0.07 million
due primarily to the phase out of the 7% State of Mississippi production tax
exemption. The exemption phases out as average natural gas and oil prices
exceed the statutory ceiling limitation.
Depreciation, depletion and amortization ("DD&A") expense for the three
months ended June 30, 2000 increased 25% to $4.4 million from $3.5 million for
the same period in 1999. The increased DD&A expense was the combined result of
an increase in the amount of capitalized costs subject to DD&A and an increase
in the depletion rate. The higher depletion rate was primarily the result of
decreased proved oil and gas reserves primarily attributable to the sale of
producing oil and gas properties in 1999.
General and administrative expense for the three months ended June 30, 2000
decreased 29% to $0.6 million from $0.8 million for the same period in 1999.
This decrease is primarily the result of the cost reduction plan implemented
in May 1999 and continued monitoring which had the combined effect of: (1)
reducing the number of employees from 36 at June 30, 1999 to 23 at June 30,
2000 with the resultant effect on salaries, wages and benefits; (2) a
significant decrease in legal and professional fees and; (3) reduced travel
related expenditures.
Interest expense for the three months ended June 30, 2000 decreased 19% to
$0.8 million from $1.0 million in the same period in 1999, as a result of debt
levels that decreased from an average outstanding balance of approximately $34
million for the quarter ended June 30, 1999 to approximately $17 million for
the quarter ended June 30, 2000.
Net income (loss) for the three months ended June 30, 2000 was $0.03 million
compared to net loss of $(1.0) million for the same period in 1999, as a
result of the factors described above.
Six Months Ended June 30, 2000 compared to Six Months Ended June 30, 1999
Oil and natural gas revenues for the six months ended June 30, 2000
increased 23% to $11.9 million from $9.6 million for the comparable period in
the prior year. The revenues for the six months ended June 30, 2000 and 1999
include approximately $(0.4) million and $0.4 million of hedging gains
(losses), respectively. In 1999, we sold substantially all of our producing
properties in Texas, Louisiana and the Antrim Shale properties in Michigan.
These property sales and a declining production curve for Mississippi salt
basin properties represent the primary reasons why production volumes for the
six months ended June 30, 2000 decreased 21% to 3,773 MMcfe from 4,771 MMcfe
for the comparable period of the prior year. In an effort to slow our oil and
gas production decline we decided to install compression equipment on all of
our operated wells. This project began in May 2000 and was completed in August
2000. We will continue to monitor our wells and analyze additional methods to
stimulate production. We expect that future workovers, re-perferations, and
similar activities will be funded from operating cash flow. Average realized
oil prices increased 110% to $24.18 per barrel from the significantly
depressed price of $11.53 per barrel experienced during the comparable period
of 1999. Realized natural gas prices for the six months ended June 30, 2000
increased 46% to $2.97 per Mcf from $2.04 per Mcf for the comparable period of
the prior year.
Lease operating expenses and production taxes for the six months ended June
30, 2000 decreased 3% to $1.0 million from $1.1 million for the comparable
period in the prior year. Lease operating expenses decreased by approximately
$0.1 million. This decrease was comprised of an approximate $0.4 million
reduction in expenses attributable to the properties in Texas, Louisiana and
Michigan that were sold in 1999. This reduction
26
<PAGE>
was partially offset by approximately $0.2 million of additional lease
operating expenses associated with the compression equipment installed at
certain Mississippi salt basin well sites in the later part of May 2000 and
June 2000 plus operating expenses related to new production in Michigan.
Production taxes increased by approximately $0.1 million due primarily to the
phase out of the 7% State of Mississippi production tax exemption and taxes on
new production in Michigan. The exemption will remain phased out until
commodity prices fall back below the statutory ceiling limitations.
Depreciation, depletion and amortization expense for the six months ended
June 30, 2000 increased 27% to $8.8 million from $6.9 million for the
comparable period in the prior year. The higher depletion expense was the
combined result of an increase in capitalized costs subject to depletion and
an increased depletion rate. The higher depletion rate was primarily the
result of decreased proved oil and gas reserves attributable to the sale of
producing oil and gas properties in 1999.
General and administrative expenses for the six months ended June 30, 2000
decreased 26% to $1.2 million from $1.6 million for the comparable period in
the prior year. This decrease is the result of the cost reduction plan
implemented in May 1999 and the continued monitoring which had the combined
effect of: (1) reducing the number of employees from 36 at June 30, 1999 to 23
at June 30, 2000 and the resultant effect on salaries, wages and benefits; (2)
a significant decrease in legal and professional fees and; (3) reduced travel
related expenditures.
Interest expense for the six months ended June 30, 2000 increased 4% to $1.7
million from $1.6 million for the comparable period in the prior year, as a
result of the prime plus 3.5% interest rate that became effective with the
Second Amendment to the Credit Facility dated April 14, 1999 and interest
expense associated with the Veritas Note Payable agreement dated April 14,
1999.
Net loss for the six months ended June 30, 2000 decreased to ($0.4) million
from ($1.4) million for the comparable period in the prior year, as a result
of the factors described above.
27
<PAGE>
Years Ended December 31, 1999, 1998 and 1997.
The following table summarizes production volumes, average sales prices and
average costs for our oil and natural gas operations for the years ended
December 31, 1999, 1998 and 1997 (in thousands, except per unit amounts):
<TABLE>
<CAPTION>
1999 1998 1997
------- -------- -------
<S> <C> <C> <C>
Production volumes:
Crude oil and condensate (Mbbls)................... 255.9 247.6 47.4
Natural gas (MMcf)................................. 7,593.8 8,953.3 2,241.2
Natural gas equivalent (MMcfe)..................... 9,129.2 10,438.7 2,525.9
Revenues:
Natural gas........................................ $17,266 $ 18,336 $ 5,819
Crude oil condensate............................... 3,465 2,646 964
Operating expenses:
Lease operating expenses and production taxes...... $ 1,704 $ 3,363 $ 1,478
Depletion, depreciation and amortization........... $16,066 $ 15,933 2,520
General and administrative......................... 2,776 2,815 1,952
Interest expense..................................... $ 3,519 $ 1,635 $ 1,200
Net income (loss).................................... $(1,982) $(41,800) $ 28
Average sales prices:
Crude oil and condensate ($ per Bbl)............... $ 13.54 $ 10.69 $ 20.33
Natural gas ($ per Mcf)............................ 2.27 2.05 2.60
Natural gas equivalent ($ per Mcfe)................ 2.27 2.01 2.69
Average costs ($ per Mcfe):
Lease operating expenses and Production taxes...... $ 0.19 $ 0.32 $ 0.58
Depletion, depreciation and Amortization........... 1.76 1.53 1.00
General and administrative......................... 0.30 0.27 0.77
</TABLE>
Year Ended December 31, 1999 compared to Year Ended December 31, 1998
Oil and natural gas revenues for the year ended December 31, 1999 decreased
1% to $20.7 million from $21.0 million for the year ended December 31, 1998.
Oil and natural gas revenues for the years ended December 31, 1999 and 1998
include approximately ($0.3) million and $0.8 million of hedging (losses)
gains, respectively (see "Risk Management Activities and Derivative
Transactions" below). Production volumes for natural gas during the year ended
December 31, 1999 decreased 15% to 7,594 MMcf from 8,953 MMcf for the year
ended December 31, 1998. This decrease is attributable to the sales of our
Antrim Shale gas properties in Michigan and certain non-strategic properties
in Texas and Louisiana that occurred earlier in 1999. The combined proceeds
from these property sales amounted to $7.6 million of which $7.1 million was
applied to our outstanding debt balance. The 23% decrease in natural gas
production volumes attributable to these sold properties was partially offset
by a 2% increase in natural gas produced from the Mississippi Salt Basin
properties for the year ended December 31, 1999 compared to the same period of
1998. Average natural gas prices increased 11% to $2.27 per Mcf for the year
ended December 31, 1999 from $2.05 per Mcf for the year ended December 31,
1998 due to improved natural gas commodity prices during the third and fourth
quarters of 1999. Despite an 11% increase in oil production volumes for the
Mississippi Salt Basin properties, total oil production for the year ended
December 31, 1999 increased only 3% to 256 MBbls from 248 MBbls for the year
ended December 31, 1998. Reduced oil production attributable to sold
properties in Texas and Louisiana mentioned above offset the production
increases from the Mississippi Salt Basin properties. Average oil prices
increased 27% to $13.54 per barrel during the year ended December 31, 1999
from $10.69 per barrel for the year ended December 31, 1998 as oil commodity
prices rebounded in the third and fourth quarters of 1999.
28
<PAGE>
Lease operating expenses and production taxes for the year ended December
31, 1999 decreased 49% to $1.7 million from $3.4 million for the year ended
December 31, 1998. This decrease was primarily comprised of an approximate
$1.0 million reduction in lease operating expenses attributable to properties
in Texas, Louisiana and Michigan that were sold in 1999. Savings of
approximately $0.5 million in 1999 compared to 1998 resulted from fewer well
workovers in 1999 compared to 1998 and more efficient use of our field
operations personnel and much less dependence on contract pumping services.
There was also an approximate $0.3 million decrease in production taxes
associated with the sale of producing properties in 1999 mentioned above
partially offset by a $0.1 million increase in taxes attributable to new wells
in Mississippi and Michigan that commenced initial production during 1999.
DD&A expense for the year ended December 31, 1999 increased 1% to $16.1
million from $16.0 million for the year ended December 31, 1998.
General and administrative expense for the year ended December 31, 1999 of
$2.8 million was unchanged from the same period in 1998. Although general and
administrative expense actually decreased by $0.4 million for 1999 compared to
1998 due to a cost reduction plan approved by our board of directors in March
1999, fees received as reimbursement of general and administrative expense
costs also decreased by $0.4 million, leaving reported general and
administrative expense for the year ended December 31, 1999 unchanged from the
level reported for the same period of the prior year.
Using unescalated period-end prices at December 31, 1999, of $2.38 per Mcfe,
we would have recognized a non-cash impairment of oil and gas properties in
the amount of approximately $1.2 million pre-tax. However, on the basis of the
improvement in pricing experienced subsequent to period-end, we determined
that a writedown was not required.
At December 31, 1998, we recorded a non-cash cost ceiling writedown of $35.1
million. The writedown was the combined result of a large downward revision in
oil and gas reserve quantities and depressed commodity prices. The large 8.2
Bcfe downward revision of our proved oil and gas reserves at December 31, 1998
was comprised of a 4.3 Bcfe reduction in proved undeveloped reserves as a
result of unsuccessful drilling activity and a 3.9 Bcfe reduction in proved
producing reserves. Proved producing reserves decreased as a result of
unanticipated pressure and production declines and by a reduction in the
economic lives of producing reserves caused by the lower commodity prices
being realized at December 31, 1998. Disappointing 2-D seismic-supported
drilling results during 1998 and drilling cost overruns on two non-operated
properties also contributed to the cost ceiling writedown. We based our
ceiling test determination on a price of $1.78 per Mcfe, which represented the
March 1999 closing commodity prices.
Interest expense for the year ended December 31, 1999 increased 115% to $3.5
million from $1.6 million for the year ended December 31, 1998. This
substantial interest expense increase is attributable to a higher average debt
level in 1999 compared to 1998, due to substantial 3-D seismic acquisition
costs, and exploration and development activity in the third and fourth
quarters of 1998 that increased the outstanding debt balance. Also
contributing to higher interest expense in 1999 was the interest expense
associated with the Veritas Note Payable, more fully discussed in "Liquidity
and Capital Resources" below and in Note 7 to the Consolidated Financial
Statements, and the prime plus 3.5% interest rate that became effective with
the Second Amendment to the Credit Facility Agreement dated April 14, 1999,
compared to the previous libor based rate effective during 1998.
Net loss for the year ended December 31, 1999 decreased by $39.8 million to
$(2.0 million) from $(41.8 million) for the year ended December 31, 1998, as a
result of the factors described above.
Year Ended December 31, 1998 compared to Year Ended December 31, 1997
Because of the significance of a series of related transactions entered into
concurrently with our Initial Public Offering (the "Combination Transaction")
which occurred on February 9, 1998, our operations for 1998 were significantly
expanded in comparison to 1997. For additional information regarding the
Combination Transaction, see Note 1 to our Consolidated Financial Statements
included in this Proxy Statement.
29
<PAGE>
Oil and natural gas revenues for the year ended December 31, 1998 increased
209% to $21.0 million from $6.8 million for the year ended December 31, 1997.
Oil and natural gas revenues for the year ended December 31, 1998 include
approximately $0.8 million of hedging gains (see "Risk Management Activities
and Derivative Transactions" below). Production volumes for natural gas during
the year ended December 31, 1998 increased 300% to 8,953 MMcf from 2,241 MMcf
for the year ended December 31, 1997. Average natural gas prices decreased 21%
to $2.05 per Mcf for the year ended December 31, 1998 from $2.60 per Mcf for
the year ended December 31, 1997. Production volumes for oil during the year
ended December 31, 1998 increased 422% to 248 MBbls from 47 MBbls for the year
ended December 31, 1997. Average oil prices decreased 47% to $10.69 per barrel
during the year ended December 31, 1998 from $20.33 per barrel in the year
ended December 31, 1997. The oil and gas industry suffered through a year of
historically low oil prices in 1998, caused by a global influx of crude oil
supply brought on by increased Middle-East exports combined with a weaker
demand from Asian markets that were experiencing an economic recession. The
natural gas market also was depressed as a result of abnormally mild winters
caused by a strong El Nino weather pattern that affected the United States
during the past two heating seasons. We would have experienced an even larger
decrease in revenue had it not been for the natural gas hedging gains of
approximately $0.8 million and the fact that only 12% of total operating
revenues for 1998 were attributable to oil production.
Lease operating expenses and production taxes for the year ended December
31, 1998 increased 128% to $3.4 million from $1.5 million for the year ended
December 31, 1997. Lease operating expenses and production taxes increased
primarily due to increased production as described above and to several
workover projects that were completed during the year in an attempt to enhance
production during a period of low commodity prices.
DD&A expense for the year ended December 31, 1998 increased 540% to $16.0
million from $2.5 million for the year ended December 31, 1997. This increase
was due to a 53% increase in the 1998 depletion rate to $1.53 per Mcfe from
$1.00 per Mcfe for the year ended December 31, 1997. The higher depletion rate
was the combined result of increased production, an increase in costs subject
to DD&A and a downward revision in estimated proved oil and gas reserves.
General and administrative expense for the year ended December 31, 1998
increased 44% to $2.8 million from $2.0 million for the same period in 1997.
The rise in general and administrative costs is primarily attributable to
added expenses associated with our initial year as a public company. These
incremental expenses include legal and professional fees paid to attorneys and
accountants, increased rents related to office facilities in Mississippi and
increased salaries and benefits due to additional financial, technical,
operational and administrative staff added during the year.
At December 31, 1998, we recorded a non-cash cost ceiling writedown of $35.1
million, while no writedown was required in 1997.
Interest expense for the year ended December 31, 1998 increased 36% to $1.6
million from $1.2 million for the year ended December 31, 1997, as a result of
increased debt levels in 1998 for substantial exploration and development
activities in the Mississippi Salt Basin area.
Net income (loss) for the year ended December 31, 1998 decreased by $41.8
million from $(41.8) to $28,000 for the year ended December 31, 1997, as a
result of the factors described above.
Liquidity and Capital Resources
Liquidity.
Our primary source of liquidity is cash generated from operations. Net cash
provided by operating activities was $12.9 million, $18.9 million and
$2.0 million in 1999, 1998 and 1997, respectively. The decrease in cash
provided in 1999 compared to 1998 was principally due to the reduced payables
in 1999 because of an effort by us to more effectively manage our cash flow
requirements, including processing our payables on a more timely
30
<PAGE>
basis. The increase in cash provided in 1998 compared to 1997 was principally
due to the increased income from operations in 1998, after the combination
transaction in February 1998, and the delayed payments of accounts payable in
1998 because of cash flow constraints at year-end 1998.
Net cash provided by (used in) investing activities was $4.0 million,
$(94.9) million and $(5.9) million in 1999, 1998 and 1997, respectively. The
decrease in cash used in 1999 compared to 1998 was principally due to an
increase in property sales of $13.2 million in 1999, a decrease in exploration
and development expenditures of $37.6 million in 1999 and a decrease in the
acquisition of properties of $51.0 million in 1999. The increase in cash used
in 1998 compared to 1997 was principally due to an increase in exploration and
development expenditures of $38.1 million in 1998 and an increase in the
acquisition of properties of $51.0 million.
Net cash provided by (used in) financing activities was $(13.2) million,
$75.9 million and $3.6 million in 1999, 1998 and 1997, respectively. The
decrease in cash provided in 1999 compared to 1998 was principally due to an
increase in principal payments on long-term debt of $10.6 million in 1999, a
decrease in borrowings on long-term debt of $33.0 million in 1999 and a
decrease in the proceeds from the offering of common stock of $45.6 million in
1999. The increase in cash provided in 1998 compared to 1997 was principally
due to an increase in borrowings on long-term debt of $32.0 million in 1998
and an increase in the proceeds from the offering of common stock of $45.6
million in 1998, offset by an increase in principal payments on long-term debt
of $4.6 million in 1998.
Capital Resources.
Historically, our primary sources of capital have been funds generated by
operations, and borrowings under our bank credit facility.
Concurrently with our Initial Public Offering, we entered into a credit
facility with Bank of Montreal, Houston Agency. The credit facility, as
amended, required principal reductions and included certain negative covenants
that imposed limitations on us and our subsidiary with respect to, among other
things, distributions with respect to our capital stock, limitations on
financial ratios, the creation or incurrence of liens, restrictions on
proceeds from sales of oil and gas properties, the incurrence of additional
indebtedness, making loans and investments and mergers and consolidations. Our
obligations under the credit facility were secured by a lien on all of our
real and personal property. Commencing April 1999, the interest rate under
this facility was increased to Bank of Montreal's prime plus 3.5%.
We made principal payments of approximately $15.0 million and $5.5 million
for the year ended December 31, 1999 and for the six months ended June 30,
2000, respectively, under the credit facility. At June 30, 2000, the
outstanding debt balance under our credit facility with Bank of Montreal was
$16.4 million. On July 11, 2000, a principal payment of $4.9 million was made
using the proceeds received in the Guardian transaction which reduced the
outstanding balance to $11.5 million.
On July 19, 2000, the Company entered into a new senior credit facility with
Bank One, Texas, NA, which replaced the existing credit facility with Bank of
Montreal. The new credit facility has a 30-month term and a current borrowing
base of $11.5 million. The interest rate under the new credit facility is
either Bank One prime plus 2% or LIBOR plus 4%, at the Company's option. The
new credit facility requires us to make monthly principal payments of $500,000
until the next borrowing base re-determination which is scheduled for
January 1, 2001. In contrast, during 1999 the monthly principal payments made
to Bank of Montreal averaged in excess of $1 million. We anticipate that these
reduced principal payments under the new facility will be funded entirely from
operating cash flow, even if the Guardian and Eagle Transactions are not
approved.
The new credit facility with Bank One includes certain negative covenants
that impose restrictions on us with respect to, among other things, incurrence
of additional indebtedness, limitations on financial ratios, making
investments and mergers and consolidation.
31
<PAGE>
On April 14, 1999, we issued a $4.7 million note payable to one our
suppliers, Veritas DGC Land, Inc. (the "Veritas Note Payable"), for the
outstanding balance due to Veritas for past services provided in 1998 and
1999. The balance due Veritas was $4.7 million at December 31, 1999, and has
been classified as long-term debt in the accompanying financial statements.
The principal obligation under the Veritas Note Payable was originally due on
April 15, 2001. On July 19, 2000, the note was amended as more fully described
below.
On April 14, 1999, we also entered into an agreement (the "Warrant
Agreement") to issue warrants to Veritas that entitle Veritas to purchase
shares of our common stock in lieu of receiving cash payments for the accrued
interest obligations under the Veritas Note Payable. The Warrant Agreement
required us to issue warrants to Veritas in conjunction with the signing of
the Warrant Agreement, as well as on the six and, at our option, 12 and 18
month anniversaries of the Warrant Agreement. The warrants issued equal 9% of
the then current outstanding principal balance of the Veritas Note Payable.
The number of shares issued upon exercise of the warrants issued on April 14,
1999, and on the six-month anniversary was determined based upon a five-day
weighted average closing price of our common stock at April 14, 1999. The
exercise price of each warrant is $0.01 per share. On April 14, 1999, warrants
exercisable for 322,752 shares of common stock were issued to Veritas in
connection with execution of the Veritas Note Payable. On October 14, 1999 and
April 14, 2000, warrants exercisable for 322,752 shares and 454,994 shares,
respectively, of our common stock were issued to Veritas. The Warrant
Agreement was also amended on July 19, 2000.
Under the terms of the amended note and warrant, the maturity of the note
was extended from April 15, 2001 to July 21, 2003 and the expiration date for
all warrants was extended until June 21, 2004. The annual interest rate has
been reduced from 18% to 9 3/4%, provided the entire Veritas note balance is
paid in full by December 31, 2001. If all principal and interest under the
Veritas note is not paid by December 31, 2001, the Veritas note will instead
bear interest at 13 3/4% until paid in full. Interest accrues from and after
October 15, 2000 and is payable commencing April 15, 2001 and continuing on
each October 15 and April 15 until all principal is paid in full. Interest
will be paid in warrants under the terms of the Warrant Agreement until such
time as the Company is in borrowing base compliance with its senior lender, as
defined in the senior credit facility, at which time interest will be paid in
cash only.
Under the amended note, a principal payment of $500,000 was made on July 19,
2000, the effective date of the amendment, and another $500,000 payment is
required from proceeds of the Eagle transaction within five days of
stockholder approval. If the Eagle transaction is not approved, the second
payment must be made on or before December 31, 2000. Nonpayment of this second
principal payment results in a penalty payment of $750,000 payable in warrants
at the then current market price of our common stock.
Any additional proceeds derived from exercise of warrants issued or from
other debt or equity transactions in the future must be used to pay interest
and principal on the amended Veritas note until paid in full.
In connection with the closing of the AHC acquisition on February 9, 1998,
we issued a non-interest bearing note payable to AHC (the "AHC Note Payable")
of $2.5 million (at December 31, 1999) which was payable on the annual
anniversary dates of the closing as follows: $1.0 million in 2000 and $1.5
million in 2001. We had obtained a six-month extension of the $1.0 million
payment from February 2000 to August 2000. This payment was made on August 3,
2000. Also, the $1.5 million payment due February 2001 has been divided into
three quarterly installments of $500,000 each, payable commencing February
2001. Terms of the extension agreement require monthly interest payments at an
annual interest rate of 12% for the periods February through August 2000 and
February through July 2001.
We have currently budgeted capital expenditures of approximately $7.4
million for 2000. Capital expenditures will be used to fund drilling and
development activities, the shooting of a new 3-D seismic survey and leasehold
acquisitions and extensions in our project areas. The actual amounts of
capital expenditures and number of wells drilled may differ significantly from
such estimates. Actual capital expenditures for the year ended December 31,
1999 were approximately $10.3 million. We intend to fund our 2000 budgeted
capital expenditures through operational cash flow.
32
<PAGE>
Our revenues, profitability, future growth and ability to borrow funds or
obtain additional capital, and the carrying value of its properties,
substantially are dependent on prevailing prices of oil and natural gas. We
cannot predict future oil and natural gas price movements with certainty. A
return to the significantly lower oil and gas prices experienced in 1998 and
early 1999, as compared to historical averages, would likely have an adverse
effect on our financial condition, liquidity, ability to finance capital
expenditures and results of operations. Lower oil and natural gas prices also
may reduce the amount of reserves that we can produce economically.
We have experienced and expect to continue to experience substantial working
capital requirements primarily due to our active exploration and development
program. At December 31, 1999 and 1998, we had a working capital deficit of
$0.7 million and $5.4 million (excluding the current portion of long-term
debt), respectively. At June 30, 2000, we had a working capital surplus of
$0.3 million (excluding the current portion of long-term debt). While we
believe that cash flow from operations and substantially increased commodity
prices should allow us to implement our present business strategy through
2000, additional debt or equity financing may be required during 2000 and in
the future to fund our growing exploration program. A significant decline in
commodity prices or the failure to obtain additional capital resources could
have a material adverse effect on the Company, including curtailment of our
exploration and development program and other activities.
Risk Management Activities and Derivative Transactions
We use a variety of derivative instruments ("derivatives") to manage
exposure to fluctuations in commodity prices and interest rates. To qualify
for hedge accounting, derivatives must meet the following criteria: (a) the
item to be hedged exposes us to price or interest rate risk; and (b) the
derivative reduces that exposure and is designated as a hedge.
Commodity Price Hedges
We periodically enter into certain derivatives (e.g., NYMEX futures
contracts) for a portion of our oil and natural gas production to achieve a
more predictable cash flow, as well as to reduce the exposure to price
fluctuations. Our hedging arrangements apply to only a portion of our
production, provide only partial price protection against declines in oil and
natural gas prices and limit potential gains from future increases in prices.
Such hedging arrangements may expose us to risk of financial loss in certain
circumstances, including instances where production is less than expected, our
customers fail to purchase contracted quantities of oil or natural gas or a
sudden unexpected event materially impacts oil or natural gas prices. For
financial reporting purposes, gains and losses related to hedging are
recognized as oil and natural gas revenues during the period the hedged
transactions occur. We expect that the amount of hedge contracts that we have
in place will vary from time to time.
Our hedging strategy is to maximize our return on investment through hedging
a portion of our activities relating to oil and natural gas price volatility.
While this strategy should help us reduce our exposure to price risks, it also
limits our potential gains from increases in market prices for natural gas. We
intend to continue to hedge up to 50% of our oil and natural gas production to
retain a portion of the potential for greater upside from increases in natural
gas prices, while limiting to some extent our exposure to declines in natural
gas prices. For the years ended December 31, 1999, 1998 and 1997 we had hedged
45%, 36% and 1% of our oil and natural gas production, and as of December 31,
1999, we had 0.9 Bcfe of open oil and natural gas contracts for the months of
January 2000 through March 2000. For the years ended December 31, 1999, 1998
and 1997, we had approximately $(0.3) million, $0.8 million and $0.03 million,
respectively, of hedging gains (losses) which are included in natural gas
revenues in the consolidated statements of operations. For the six months
ended June 30, 2000 and 1999, we had hedged 40% and 37%, respectively, of our
oil and natural gas production, and as of June 30, 2000 we had 2.4 Bcfe of
open oil and natural gas contracts for the months of July 2000 to March 2001.
The prices for those contracts ranged from $2.52 to $4.40 per mcf for gas and
$29.60 per barrel for oil.
Interest Rate Hedge
We entered into an interest rate swap agreement, effective November 2, 1998,
to exchange the variable rate interest payment obligation under the Credit
Facility without exchanging the underlying principal amount. This
33
<PAGE>
agreement converts the variable rate debt to fixed rate debt to reduce the
impact of interest rate fluctuations. The notional amount is used to measure
interest to be paid or received and does not represent the exposure to credit
loss. The notional amount of our interest rate swap was $25.0 million at
December 31, 1998, and had a fair value of approximately $0.2 million. During
March 1999, we terminated our interest rate swap agreement and received $0.3
million, which is being recognized in earnings ratably as the related
outstanding loan balance is amortized.
Market Risk Information
The market risk inherent in our derivatives is the potential loss arising
from adverse changes in commodity prices and interest rates. The prices of oil
and natural gas are subject to fluctuations resulting from changes in supply
and demand. To reduce price risk caused by the market fluctuations, our policy
is to hedge (through the use of derivatives) future production. Because
commodities covered by these derivatives are substantially the same
commodities that we sell in the physical market, no special correlation
studies other than monitoring the degree of convergence between the derivative
and cash markets are deemed necessary. The changes in market value of these
derivatives have a high correlation to the price changes of oil and natural
gas.
A sensitivity analysis model was used to calculate the fair values of our
derivatives in effect at December 31, 1999. The sensitivity analysis involved
increasing or decreasing the forward rates by a hypothetical 10% and
calculating the resulting unfavorable change in the fair values of the
derivatives. The results of this analysis, which may differ from actual
results, showed this type of change would not have a material impact on the
fair value of the derivatives.
Effects of Inflation and Changes in Price
Crude oil and natural gas commodity prices have been volatile and
unpredictable during 1998 and 1999, with crude oil prices falling below $10
per Bbl and rising close to $30 per Bbl, and natural gas prices dropping below
$1 per Mcf and then climbing up above $3 per Mcf during this two-year time
period. These wide fluctuations have had a significant impact on our results
of operations, cash flow and liquidity. Recent rates of inflation have had a
minimal effect on the Company.
New Accounting Standard
In 1998, the Financial Accounting Standards Board issued SFAS No. 133,
"Accounting for Derivative Instruments and Hedging Activities." SFAS No. 133
establishes accounting and reporting standards requiring that every derivative
instrument (including certain derivative instruments embedded in other
contracts) be recorded in the balance sheet as either an asset or liability
measured at its fair value. SFAS No. 133 requires that changes in the
derivative's fair value be recognized currently in earnings unless specific
hedge accounting criteria are met. Special accounting for qualifying hedges
allows a derivative's gains and losses to offset related results on the hedged
item in the income statement, and requires that a company must formally
document, designate and assess the effectiveness of transactions that receive
hedge accounting.
SFAS No. 133 is effective for fiscal years beginning after June 15, 2000. We
have not yet quantified the impacts of adopting SFAS No. 133 on our financial
statements and have not determined the timing of or method of our adoption of
SFAS No. 133. However, SFAS No. 133 could increase volatility in earnings and
other comprehensive income.
34
<PAGE>
INTEREST OF CERTAIN PERSONS IN THE TRANSACTION
Transactions with C.E. Miller and Affiliates
The following information describes agreements or transactions between
Miller Oil Corporation, or "MOC," our predecessor and C.E. Miller, Chairman of
the Board and a director of our company and MOC, or his affiliates, in
addition to the transaction described in Proposal 2:
Asset Purchase Agreement. During March and May 1999, Eagle, an affiliate of
our company, purchased certain undeveloped leasehold interests from us and
assumed any obligations under existing joint operating agreements,
participation agreements and any other agreements relating to the assets. The
proceeds from sale of these assets totaled $3.9 million and were used to meet
our May 31 scheduled payment obligation to our senior lender, the Bank of
Montreal.
All sales of assets were subject to the approval of our outside directors
and we had the absolute right to repurchase, on or before December 31, 1999,
all of the assets purchased by Eagle. The assets could not be repurchased
individually, and had to be repurchased in their entirety excepting those
assets where drilling operations had begun. No assets were repurchased by us
during 1999.
Service Agreement. MOC entered into an Amended Service Agreement dated
January 1, 1997, amending a prior service agreement, with Eagle, an oil and
gas exploratory company beneficially owned by C.E. Miller. Under the amended
agreement, MOC provides Eagle with administrative, technical, consulting and
other services required by Eagle to operate its business in the ordinary
course. These services include, among others, developing prospects,
coordinating, permitting, drilling and facility construction and operation,
maintaining joint venture relationships and providing accounting, financial,
tax and budget-preparation services. As compensation for its services, Eagle
agreed to pay MOC a fixed fee of $50,000 per calendar quarter, subject to
annual adjustments to be negotiated by MOC and Eagle, as well as additional
fees for specialized services as agreed by the parties. Eagle also agreed to
reimburse MOC its out-of-pocket expenses incurred in providing the services.
Either party may terminate the agreement at any time upon 60 days' prior
notice. Eagle paid MOC $66,667 under the service arrangement in 1999, which
the Company believes is adequate compensation for the services provided to
Eagle. On March 1, 1999, by mutual agreement, the parties terminated the
Service Agreement effective May 1, 1999.
Lease of Principal Offices. We are currently leasing our principal office
building from C.E. and Betty Miller under a five-year lease expiring in April
2003. The office is located at 3104 Logan Valley Road, Traverse City,
Michigan, and the lease has a 4% annual escalation clause. The current monthly
rent is $8,395 for approximately 10,000 sq. ft. We believe that the rental
rate is representative of the fair market rental rate for the premises.
35
<PAGE>
STOCKHOLDINGS OF PRINCIPAL STOCKHOLDERS,
DIRECTORS, AND MANAGEMENT
To our knowledge, set forth below is certain information, as of July 31,
2000, regarding ownership of common stock by:
. each person who beneficially owns more than 5% of our outstanding shares
of common stock,
. each director and executive officer of our Company, and
. all directors and executive officers of our Company as a group.
<TABLE>
<CAPTION>
Total
Beneficial Percent of
Name and Address of Beneficial Owner(1) Ownership(2)(3) Class
--------------------------------------- --------------- ----------
<S> <C> <C>
SFS, Inc. ........................................ 1,025,105 7.7%
186 Wood Avenue
South Iselin, New Jersey 08830
C.E. Miller(4).................................... 1,505,803 11.4%
Kelly E. Miller(5)................................ 1,369,666 10.2%
David A. Miller(6)................................ 754,879 5.7%
Daniel R. Miller(7)............................... 888,360 6.7%
Sue Ellen Bell(8)................................. 797,398 6.0%
Robert M. Boeve(9)................................ 372,370 2.8%
Paul Halpern(10).................................. -- *
William Casey McManemin........................... 69,495 1.0%
Lew P. Murray(11)................................. 52,325 *
Michael L. Calhoun................................ 15,250 *
Kenneth J. Foote (12)............................. 135,669 1.0%
Richard J. Burgess................................ 34,600 *
Deanna L. Cannon.................................. 8,000 *
Veritas DGC Land, Inc. (13)....................... 1,100,498 8.0%
3701 Kirby Drive, Suite 112
Houston, TX 77098
Executive Officers and Directors as a group (9
persons)......................................... 3,563,478 26.9%
</TABLE>
--------
* Less than 1%.
(1) The address of each reporting person, unless otherwise noted, is 3104
Logan Valley Road, Traverse City, Michigan 49685.
(2) The number of shares stated are based on information provided by each
person listed and include shares personally owned of record by the
person and shares which, under applicable regulations, are considered to
be otherwise beneficially owned by the person.
(3) Excludes the following shares that may be acquired through the exercise
of stock options granted under the "1997 Stock Plan" which currently are
exercisable:
<TABLE>
<CAPTION>
Name Number of Options
---- -----------------
<S> <C>
C. E. Miller.............................................. 4,600
Kelly E. Miller........................................... 198,000
William Casey McManemin................................... 4,600
Lew P. Murray............................................. 120,000
Michael L. Calhoun........................................ 15,000
Kenneth J. Foote.......................................... 4,600
Richard J. Burgess........................................ 2,000
Deanna L. Cannon.......................................... 21,000
</TABLE>
36
<PAGE>
(4) Includes 213,919 shares held by the Kelly E. Miller Retained Annuity
Trust #1, 213,919 shares held by the Daniel R. Miller Retained Annuity
Trust #1, 320,879 shares held by the David A. Miller Retained Annuity
Trust #1 and 213,919 shares held by the Sue Ellen Bell Retained Annuity
Trust #1, with respect to each of which C.E. Miller is the sole trustee.
Also includes 264,199 shares held by Eagle Investments, Inc. ("Eagle")
and 122,565 shares held by Eagle International, Inc. ("Eagle
International"), each of which is owned by a revocable trust of which
C.E. Miller is the sole trustee.
(5) Includes 84,024 shares held by Miller and Miller, Inc., which is owned
by a revocable trust of which Kelly E. Miller is the sole trustee and
97,717 shares held by the Company's 401(k) plan wherein Kelly E. Miller
has sole voting power as the sole trustee. Excludes 213,919 shares held
by the Kelly E. Miller Retained Annuity Trust #1, of which Kelly E.
Miller's father, C.E. Miller, is the sole trustee and of which Kelly E.
Miller is the Grantor with the Trust established for the benefit of his
minor children as beneficiaries.
(6) Includes 84,024 shares held by Oak Shores Investments, Inc., which is
owned by a revocable trust of which David A. Miller is the sole trustee.
Excludes 320,879 shares held by the David A. Miller Retained Annuity
Trust #1, of which David A. Miller's father, C.E. Miller, is the sole
trustee and of which David A. Miller is the Grantor with the Trust
established for the benefit of his minor children as beneficiaries.
(7) Includes 74,634 shares held by Double Diamond Enterprises, Inc., which
is owned by a revocable trust of which Daniel R. Miller is the sole
trustee. Excludes 213,919 shares held by the Daniel R. Miller Retained
Annuity Trust #1, of which Daniel R. Miller's father, C.E. Miller, is
the sole trustee and of which Daniel R. Miller is the Grantor with the
Trust established for the benefit of his minor children as
beneficiaries.
(8) Includes 84,024 shares held by Frontier Investments, Inc., which is
owned by a revocable trust of which Sue E. Bell is the sole trustee.
Excludes 213,919 shares held by the Sue Ellen Bell Retained Annuity
Trust #1, of which Sue E. Bell's father, C.E. Miller, is the sole
trustee and of which Sue E. Bell is the Grantor with the Trust
established for the benefit of her minor children as beneficiaries.
(9) Includes 370,370 shares held by ECCO Investments, LLC. Mr. Boeve owns
25% and is managing member of this entity. Mr. Boeve disclaims
beneficial ownership of these shares, except for those in which he has a
direct pecuniary interest.
(10) Excludes up to 2,157,767 shares currently acquirable without stockholder
approval upon exercise of warrants held by Guardian Energy Management
Corp., for which Mr. Halpern serves as Vice President, Operations.
(11) Includes 4,621 shares held as part of the Miller Oil Corporation 401(k)
Savings Plan for which Mr. Murray has sole dispositive power.
(12) Includes 1,500 shares held by Mr. Foote's spouse.
(13) Consists entirely of warrants currently exercisable for shares of common
stock.
37
<PAGE>
STOCKHOLDER PROPOSALS
The only business that may be conducted at a special meeting of stockholders
is business that was addressed before the meeting according to our bylaws
regarding notice of meetings. Under these requirements, the only business to
be conducted at the special meeting are the approvals of (a) the issuance of
shares of stock pursuant to the Guardian transaction and (b) the Eagle
transaction.
PROPOSALS FOR THE NEXT ANNUAL MEETING
Any proposals of holders of common stock intended to be presented at the
annual meeting of our stockholders to be held in 2001 must be received by us
at our principal executive offices, 3140 Logan Valley Road, Traverse City,
Michigan, Attention: Secretary, not later than January 15, 2001 in order to be
included in the proxy statement and form of proxy relating to such meeting.
Stockholder proposals submitted outside the processes of Rule 14a-8
promulgated under the Securities Exchange Act of 1934, as amended, will be
considered untimely if received by us after April 1, 2001.
SOLICITATION OF PROXIES
Solicitation of proxies will be made initially by mail. In addition,
directors, officers, and employees our company and its subsidiaries may
solicit proxies by telephone or facsimile or personally without additional
compensation. We will bear all costs of solicitation of proxies, including the
charges and expenses of brokerage firms, banks, trustees, or other nominees
for forwarding proxy materials to beneficial owners.
INDEPENDENT PUBLIC ACCOUNTANTS
We have not changed our independent certified public accountants and have
not had any disagreement with our independent certified public accountants on
accounting or financial disclosures required to be made under the rules of the
Securities and Exchange Commission. Representatives of Arthur Andersen LLP,
our independent certified public accountants, are not expected to be present
at the special meeting.
38
<PAGE>
INDEX TO FINANCIAL STATEMENTS
<TABLE>
<CAPTION>
Page
----
<S> <C>
Consolidated Financial Statements
Report of Independent Public Accountants................................. F-2
Consolidated Balance Sheets as of December 31, 1999 and 1998............. F-3
Consolidated Statements of Operations for the Years Ended December 31,
1999, 1998 and 1997..................................................... F-4
Consolidated Statements of Equity for the Years Ended December 31, 1999,
1998 and 1997........................................................... F-5
Consolidated Statements of Cash Flows for the Years Ended December 31,
1999, 1998 and 1997..................................................... F-6
Notes to Consolidated Financial Statements............................... F-7
Supplemental Quarterly Financial Data (unaudited)........................ F-25
Consolidated Balance Sheets as of June 30, 2000 (unaudited) and December
31, 1999................................................................ F-26
Consolidated Statements of Operations for the Three Months and Six Months
Ended June 30, 2000 and 1999 (unaudited)................................ F-27
Consolidated Statement of Equity for the Six Months Ended June 30, 2000
(unaudited)............................................................. F-28
Consolidated Statements of Cash Flows for the Six Months Ended June 30,
2000 and 1999 (unaudited)............................................... F-29
Notes to Consolidated Financial Statements............................... F-30
</TABLE>
F-1
<PAGE>
ARTHUR ANDERSEN LLP
REPORT OF INDEPENDENT PUBLIC ACCOUNTANTS
To the Board of Directors and Stockholders of Miller Exploration Company:
We have audited the accompanying consolidated balance sheets of MILLER
EXPLORATION COMPANY (a Delaware corporation) and subsidiaries as of December
31, 1999 and 1998, and the related consolidated statements of operations,
equity, and cash flows for each of the three years in the period ended
December 31, 1999. These financial statements are the responsibility of the
Company's management. Our responsibility is to express an opinion on these
financial statements based on our audits.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to
obtain reasonable assurance about whether the financial statements are free of
material misstatement. An audit includes examining, on a test basis, evidence
supporting the amounts and disclosures in the financial statements. An audit
also includes assessing the accounting principles used and significant
estimates made by management, as well as evaluating the overall financial
statement presentation. We believe that our audits provide a reasonable basis
for our opinion.
In our opinion, the financial statements referred to above present fairly,
in all material respects, the financial position of Miller Exploration Company
and subsidiaries as of December 31, 1999 and 1998, and the results of their
operations and their cash flows for each of the three years in the period
ended December 31, 1999, in conformity with generally accepted accounting
principles.
/s/ Arthur Andersen LLP
Detroit, Michigan
March 24, 2000
F-2
<PAGE>
MILLER EXPLORATION COMPANY
CONSOLIDATED BALANCE SHEETS
(In thousands, except share amounts)
<TABLE>
<CAPTION>
As of December
31,
------------------
1999 1998
-------- --------
(Note 1)
<S> <C> <C>
ASSETS
CURRENT ASSETS:
Cash and cash equivalents................................ $ 3,712 $ 22
Restricted cash (Note 3)................................. 4 --
Accounts receivable...................................... 4,580 3,959
Inventories, prepaids and advances to operators.......... 640 978
-------- --------
Total current assets................................... 8,936 4,959
-------- --------
OIL AND GAS PROPERTIES--at cost (full cost method):
Proved oil and gas properties............................ 115,040 103,272
Unproved oil and gas properties.......................... 22,678 39,995
Less-Accumulated depreciation, depletion and
amortization............................................ (78,881) (63,253)
-------- --------
Net oil and gas properties............................. 58,837 80,014
-------- --------
OTHER ASSETS (Note 2)...................................... 838 995
-------- --------
Total assets........................................... $ 68,611 $ 85,968
======== ========
LIABILITIES AND EQUITY
CURRENT LIABILITIES:
Current portion of long-term debt........................ $ 3,500 $ 10,500
Accounts payable......................................... 3,472 6,819
Accrued expenses and other current liabilities........... 6,164 3,565
-------- --------
Total current liabilities.............................. 13,136 20,884
-------- --------
LONG-TERM DEBT............................................. 25,610 31,837
DEFERRED INCOME TAXES...................................... 5,816 6,883
DEFERRED REVENUE........................................... 54 1,615
COMMITMENTS AND CONTINGENCIES (Note 10)
EQUITY:
Common stock warrants.................................... 845 --
Preferred stock, $0.01 par value; 2,000,000 shares
authorized; none outstanding............................ -- --
Common stock, $0.01 par value; 40,000,000 shares
authorized; 12,681,244 shares outstanding at December
31, 1999................................................ 127 126
Additional paid in capital............................... 66,690 67,136
Deferred compensation.................................... (48) (876)
Retained deficit......................................... (43,619) (41,637)
-------- --------
Total equity........................................... 23,995 24,749
-------- --------
Total liabilities and equity........................... $ 68,611 $ 85,968
======== ========
</TABLE>
The accompanying notes are an integral part of these Consolidated Financial
Statements.
F-3
<PAGE>
MILLER EXPLORATION COMPANY
CONSOLIDATED STATEMENTS OF OPERATIONS
(In thousands, except per share amounts)
<TABLE>
<CAPTION>
For the Year
Ended December 31,
--------------------------
1999 1998 1997
------- -------- -------
(Note 1) (Note 1)
<S> <C> <C> <C>
REVENUES:
Natural gas....................................... $17,266 $ 18,336 $ 5,819
Crude oil and condensate.......................... 3,465 2,646 964
Other operating revenues.......................... 200 169 395
------- -------- -------
Total operating revenues........................ 20,931 21,151 7,178
------- -------- -------
OPERATING EXPENSES:
Lease operating expenses and production taxes..... 1,704 3,363 1,478
Depreciation, depletion and amortization.......... 16,066 15,933 2,520
General and administrative........................ 2,776 2,815 1,952
Cost ceiling writedown............................ -- 35,085 --
------- -------- -------
Total operating expenses........................ 20,546 57,196 5,950
------- -------- -------
OPERATING INCOME (LOSS)............................. 385 (36,045) 1,228
------- -------- -------
INTEREST EXPENSE.................................... (3,519) (1,635) (1,200)
------- -------- -------
INCOME (LOSS) BEFORE INCOME TAXES................... (3,134) (37,680) 28
------- -------- -------
INCOME TAX PROVISION (CREDIT) (Note 4).............. (1,152) 4,120
------- --------
NET INCOME (LOSS)................................... $(1,982) $(41,800) $ 28
======= ======== =======
EARNINGS (LOSS) PER SHARE (Note 5)
Basic............................................. $ (0.16) $ (3.75)
======= ========
Diluted........................................... $ (0.16) $ (3.75)
======= ========
</TABLE>
The accompanying notes are an integral part of these Consolidated Financial
Statements.
F-4
<PAGE>
MILLER EXPLORATION COMPANY
CONSOLIDATED STATEMENTS OF EQUITY
(In thousands)
<TABLE>
<CAPTION>
Common Add'l Deferred
Stock Preferred Common Paid In Com- Combined Retained
Warrants Stock Stock Capital pensation Equity Deficit
-------- --------- ------ ------- --------- -------- --------
<S> <C> <C> <C> <C> <C> <C> <C>
BALANCE--December 31,
1996................... $ -- $ -- $-- $ -- $ -- $ 72 $ 7,697
Contributions and
return of capital,
net.................. -- -- -- -- -- 8,516 --
Net income............ -- -- -- -- -- -- 28
Dividends declared.... -- -- -- -- -- -- (200)
----- ----- ---- ------- ----- ------- --------
BALANCE--December 31,
1997................... -- -- -- -- -- 8,588 7,525
Net loss and capital
prior to
S Corporation
termination.......... -- -- -- -- -- 172 (163)
S Corporation
termination.......... -- -- -- 16,122 -- (8,760) (7,362)
Common stock
issuance............. -- -- 56 39,983 -- -- --
Combination
transaction.......... -- -- 69 10,156 -- -- --
Restricted stock
issuance............. -- -- 1 875 (876) -- --
Net loss after S
Corporation
Termination.......... -- -- -- -- -- -- (41,637)
----- ----- ---- ------- ----- ------- --------
BALANCE--December 31,
1998................... $ -- $ -- $126 $67,136 $(876) $ -- $(41,637)
Issuance of restricted
stock and benefit
plan shares.......... -- -- -- (500) 794 -- --
Issuance of non-
employee Directors'
shares............... -- -- 1 88 -- -- --
Common stock warrants
Issued............... $ 845 -- -- -- -- -- --
Forfeiture of
restricted shares.... -- -- -- (34) 34 -- --
Net loss.............. -- -- -- -- -- -- (1,982)
----- ----- ---- ------- ----- ------- --------
BALANCE--December 31,
1999................... $ 845 $ -- $127 $66,690 $ (48) $ -- $(43,619)
===== ===== ==== ======= ===== ======= ========
</TABLE>
The accompanying notes are an integral part of these Consolidated Financial
Statements.
F-5
<PAGE>
MILLER EXPLORATION COMPANY
CONSOLIDATED STATEMENTS OF CASH FLOWS
(In thousands)
<TABLE>
<CAPTION>
For the Year Ended
December 31,
---------------------------
1999 1998 1997
-------- -------- -------
(Note 1) (Note 1)
<S> <C> <C> <C>
CASH FLOWS FROM OPERATING ACTIVITIES:
Net income (loss)................................ $ (1,982) $(41,800) $ 28
Adjustments to reconcile net income (loss) to net
cash from operating activities--
Depreciation, depletion and amortization....... 16,066 15,933 2,520
Cost ceiling writedown......................... -- 35,085 --
Deferred income taxes.......................... (1,067) (1,052) --
Deferred revenue............................... (34) (49) (58)
Warrants and stock compensation................ 1,228 -- --
Changes in assets and liabilities--
Restricted cash.............................. (4) -- --
Accounts receivable.......................... (621) (1,850) 137
Other current assets......................... -- 2,952 (3,432)
Other assets................................. 48 (118) --
Accounts payable............................. (3,347) 6,786 2,761
Accrued expenses and other current
liabilities................................. 2,599 2,962 34
-------- -------- -------
Net cash flows provided by operating
activities................................ 12,886 18,849 1,990
-------- -------- -------
CASH FLOWS FROM INVESTING ACTIVITIES:
Exploration and development expenditures......... (10,265) (46,950) (8,822)
Acquisition of properties........................ -- (51,011) --
Proceeds from sale of oil and gas properties and
purchases of equipment, net..................... 14,296 3,065 2,955
-------- -------- -------
Net cash flows provided by (used in)
investing activities...................... 4,031 (94,896) (5,867)
-------- -------- -------
CASH FLOWS FROM FINANCING ACTIVITIES:
Payments of principal............................ (15,717) (5,178) (572)
Borrowing on long-term debt...................... 2,490 35,500 3,512
Contributions, return of capital and stock
proceeds, net................................... -- 45,601 873
Payments of dividends............................ -- -- (200)
-------- -------- -------
Net cash flows provided by (used in)
financing activities...................... (13,227) 75,923 3,613
-------- -------- -------
NET INCREASE (DECREASE) IN CASH AND CASH
EQUIVALENTS....................................... 3,690 (124) (264)
CASH AND CASH EQUIVALENTS AT BEGINNING OF THE
PERIOD............................................ 22 146 410
-------- -------- -------
CASH AND CASH EQUIVALENTS AT END OF THE PERIOD..... $ 3,712 $ 22 $ 146
======== ======== =======
SUPPLEMENTAL CASH FLOW INFORMATION:
Cash paid during the period for--
Interest.......................................... $ 3,033 $ 1,571 $ 1,373
======== ======== =======
</TABLE>
The accompanying notes are an integral part of these Consolidated Financial
Statements.
F-6
<PAGE>
MILLER EXPLORATION COMPANY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(1) Organization and Nature of Operations
The Combination Transaction
Miller Exploration Company ("Miller" or the "Company") was formed as a
Delaware corporation in November 1997 to serve as the surviving company upon
the completion of a series of combination transactions (the "Combination
Transaction"). The first part of the Combination Transaction included the
following activities: Miller acquired all of the outstanding capital stock of
Miller Oil Corporation ("MOC"), the Company's predecessor, and certain oil and
gas interests (collectively, the "Combined Assets") owned by Miller & Miller,
Inc., Double Diamond Enterprises, Inc., Frontier Investments, Inc., Oak Shores
Investments, Inc., Eagle Investments, Inc. (d/b/a Victory, Inc.) and Eagle
International, Inc. (the "affiliated entities," all Michigan corporations
owned by Miller family members who were beneficial owners of MOC) in exchange
for an aggregate consideration of approximately 5.3 million shares of Common
Stock of Miller. The operations of all of these entities had been managed
through the same management team, and had been owned by the same members of
the Miller family. Miller completed the Combination Transaction concurrently
with consummation of an initial public offering (the "Offering").
Initial Public Offering
On February 9, 1998, the Company completed the Offering of its Common Stock
and concurrently completed the Combination Transaction. On that date, the
Company sold 5.5 million shares of its Common Stock for an aggregate purchase
price of $44.0 million. On March 9, 1998, the Company sold an additional
62,500 shares of its Common Stock for an aggregate purchase price of $0.5
million, pursuant to the exercise of the underwriters' over-allotment option.
The consolidated financial statements as of and for the year ended December
31, 1998 include the accounts of the Company and its subsidiaries after taking
into effect the Offering and the Combination Transaction. The financial
statements for the period ending in 1997 include the accounts of the Company
and its affiliated entities (as defined above) before the Offering and the
Combination Transaction.
Other Transactions Completed Concurrently With the Initial Public Offering
In addition to the above combined activities of the Company, the second part
of the Combination Transaction that was consummated concurrently with the
Offering was the exchange by the Company of an aggregate of approximately 1.6
million shares of Common Stock for interests in certain other oil and gas
properties that were owned by non-affiliated parties. Because these interests
were acquired from individuals who were not under the common ownership and
management of the Company, these exchanges were accounted for under the
purchase method of accounting. Under that method, the properties were recorded
at their estimated fair value at the date on which the exchange was
consummated (February 9, 1998). The financial statements for the period ending
in 1997 do not include the activities of these non-affiliated interests.
In November 1997, the Company entered into a Purchase and Sale Agreement,
whereby the Company acquired interests in certain crude oil and natural gas
producing properties and undeveloped properties from Amerada Hess Corporation
("AHC") for $48.8 million, net of post-closing adjustments. This purchase was
consummated concurrently with the Offering. This acquisition was accounted for
under the purchase method of accounting and was financed with the use of
proceeds from the Offering and with new bank borrowings. The financial
statements for the period ending in 1997 do not include the activities of
these AHC interests.
In February 1998, MOC terminated its S corporation status which required the
Company to reclassify combined equity and retained earnings as additional
paid-in capital.
F-7
<PAGE>
MILLER EXPLORATION COMPANY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
Principles of Consolidation
The consolidated financial statements of the Company include the accounts of
the Company and its subsidiaries after elimination of all intercompany
accounts and transactions.
Principles of Combination
The accompanying financial statements for the period ending in 1997 include
the accounts of Miller, MOC and the other affiliated entities (as defined
above), all of which share common ownership and management. The Combination
Transaction was accounted for as a reorganization of entities under common
control in a manner similar to a pooling-of-interests, as prescribed by
Securities and Exchange Commission ("SEC") Staff Accounting Bulletin No. 47
because of the high degree of common ownership among, and the common control
of, the combined entities. Accordingly, the accompanying accounts for the
period ending in 1997 have been prepared using the historical costs and
results of operations of the affiliated entities. There were no differences in
accounting methods or their application among the combining entities. All
intercompany balances have been eliminated.
Nature of Operations
The Company is a domestic, independent energy company engaged in the
exploration, development and production of crude oil and natural gas. The
Company has established exploration efforts concentrated primarily in the
Mississippi Salt Basin of central Mississippi and the Blackfeet Indian
Reservation of the southern Alberta Basin in Montana.
(2) Summary of Significant Accounting Policies
Oil and Gas Properties
The Company follows the full cost method of accounting and capitalizes all
costs related to its exploration and development program, including the cost
of nonproductive drilling and surrendered acreage. Such capitalized costs
include lease acquisition, geological and geophysical work, delay rentals,
drilling, completing and equipping oil and gas wells, together with internal
costs directly attributable to property acquisition, exploration and
development activities. Under this method, the proceeds from the sale of oil
and gas properties are accounted for as reductions to capitalized costs, and
gains and losses are not recognized. The capitalized costs are amortized on an
overall unit-of-production method based on total estimated proved oil and gas
reserves. Additionally, certain costs associated with major development
projects and all costs of unevaluated leases are excluded from the depletion
base until reserves associated with the projects are proved or until
impairment occurs.
To the extent that capitalized costs within the full cost pool, net of
deferred income taxes, exceed the sum of discounted estimated future net cash
flows from proved oil and gas reserves (using unescalated prices and costs and
a 10% per annum discount rate) and the lower of cost or market value of
unproved properties, such excess costs are charged against earnings. Using
unescalated period-end prices at December 31, 1999, of $2.38 per Mcfe, the
Company would have recognized a non-cash impairment of oil and gas properties
in the amount of approximately $1.2 million pre-tax. However, on the basis of
the improvements in pricing experienced subsequent to period-end of $2.80 per
Mcfe, the Company has determined that a writedown is not required. At December
31, 1998, the Company recognized a non-cash cost ceiling writedown in the
amount of $35.1 million. The Company based its ceiling test determination on a
price of $1.78 per Mcfe, which represented the March 1999 closing commodity
prices. The Company did not have any such charges against earnings during the
year ended December 31, 1997. Had the Company used unescalated period-end
prices at December 31, 1998 of $1.92 per Mcfe, it would have recognized a cost
ceiling writedown of $31.1 million.
F-8
<PAGE>
MILLER EXPLORATION COMPANY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
Property and Equipment
Property and equipment is included in other assets in the accompanying
balance sheets. Depreciation and amortization are calculated using straight-
line and accelerated methods over the estimated useful lives of the related
assets. The estimated useful lives for each category of fixed assets are:
buildings and improvements (10-20 years); office furniture and equipment (7-10
years) and computer software and hardware (3-5 years).
Revenue Recognition
Crude oil and natural gas revenues are recognized as production takes place
and the sale is completed and the risk of loss transfers to a third party
purchaser.
Inventories
Inventories consist of oil field casing, tubing and related equipment for
wells. Inventories are valued at the lower of cost (first-in, first-out
method) or market.
Cash and Cash Equivalents
Cash and cash equivalents are comprised of cash and U.S. Government
securities with original maturities of three months or less.
Reclassifications
Certain reclassifications have been made to the prior year financial
statements to conform with the 1999 presentation.
Use of Estimates
The preparation of financial statements in conformity with generally
accepted accounting principles requires management to make estimates and
assumptions that affect the reported amounts of assets and liabilities and
disclosure of contingent assets and liabilities at the date of the financial
statements and the reported amounts of revenue and expense during the
reporting periods. Accordingly, actual results could differ from these
estimates. Significant estimates include depreciation, depletion and
amortization of proved oil and natural gas properties. Oil and natural gas
reserve estimates, which are the basis for unit-of-production depletion and
the cost ceiling test, are inherently imprecise and are expected to change as
future information becomes available.
Comprehensive Income
The Company did not have any other comprehensive income during 1999, 1998
and 1997.
Other
For significant accounting policies regarding income taxes, see Note 4; for
earnings per share, see Note 5; for financial instruments, see Note 8; for
risk management activities and derivative transactions, see Note 9; and for
stock-based compensation, see Note 11.
(3) Restricted Cash
In 1999, the Company entered into escrow agreements at the request of
certain joint interest partners regarding the drilling of certain wells
operated by the Company. Terms of the escrow agreements require the parties to
the agreements to deposit their proportionate share of the estimated costs of
drilling each subject well
F-9
<PAGE>
MILLER EXPLORATION COMPANY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
into a separate escrow account. The escrow account is controlled by an
independent third party agent and is restricted to the sole purpose of
processing payments to vendors and suppliers for charges and expenses
associated with the drilling of the wells covered by the escrow agreements.
The amounts recorded as restricted cash in the Consolidated Balance Sheets
represent the Company's share of funds on deposit in the escrow accounts. Once
the agreed upon drilling procedure has been completed, any remaining funds in
the escrow accounts will be promptly returned to the respective joint interest
partners in the same proportions as the original contributions into the escrow
accounts.
(4) Income Taxes
The Company accounts for income taxes under the provisions of Statement of
Financial Accounting Standards ("SFAS") No. 109, "Accounting for Income
Taxes." SFAS No. 109 requires the asset and liability approach for income
taxes. Under this approach, deferred tax assets and liabilities are recognized
based on anticipated future tax consequences attributable to differences
between financial statement carrying amounts of assets and liabilities and
their respective tax bases.
Before consummation of the Offering, the Company and the affiliated entities
either elected to be treated as S corporations under the Internal Revenue Code
or were otherwise not taxed as entities for federal income tax purposes. The
taxable income or loss has therefore been allocated to the equity owners of
the Company and the affiliated entities. Accordingly, no provision was made
for income taxes in the accompanying financial statements for the period
ending in 1997.
Due to the use of different methods for tax and financial reporting purposes
in accounting for various transactions, the Company has temporary differences
between its tax basis and financial reporting basis. Had the Company been a
taxpaying entity before consummation of the Offering, a deferred tax liability
of approximately $5.4 million would have been recorded for this difference,
with a corresponding reduction in retained earnings.
Included in the deferred income tax provision for the year ended December
31, 1998, is a one-time non-cash accounting charge of $5.4 million to record
net deferred tax liabilities, for the differences between tax basis and
financial reporting basis, upon consummation of the Offering and the
termination of MOC's S corporation status. The effective income tax rate for
the Company for the years ended December 31, 1999 and 1998, was different than
the statutory federal income tax rate for the following reasons (in
thousands):
<TABLE>
<CAPTION>
1999 1998
------- --------
<S> <C> <C>
Net loss................................................ $(1,982) $(41,800)
Add back:
Income tax provision (credit)......................... (1,152) 4,120
------- --------
Pre-tax loss............................................ (3,134) (37,680)
Income tax provision (credit) at the federal statutory
rate................................................... (1,066) (12,811)
Deferred tax liabilities recorded upon the Offering..... -- 5,392
Valuation allowance..................................... -- 11,700
All other, net.......................................... (86) (161)
------- --------
Income tax provision (credit)........................... $(1,152) $ 4,120
======= ========
</TABLE>
F-10
<PAGE>
MILLER EXPLORATION COMPANY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
The components of the provision of income taxes for the year ended December
31, 1999 and 1998 are as follows (in thousands):
<TABLE>
<CAPTION>
1999 1998
------- ------
<S> <C> <C>
Currently payable........................................... $ -- $ --
Deferred to future periods.................................. (1,152) 4,120
------- ------
Total income taxes........................................ $(1,152) $4,120
======= ======
</TABLE>
The principal components of the Company's deferred tax assets (liabilities)
recognized in the balance sheet as of December 31, 1999 and 1998 are as
follows (in thousands):
<TABLE>
<CAPTION>
1999 1998
-------- --------
<S> <C> <C>
Deferred tax liabilities:
Unsuccessful well and lease costs.................... $ (3,576) $ (3,655)
Intangible drilling costs............................ (4,540) (3,923)
Financial statement carrying value in excess of tax
basis of purchased assets........................... (1,474) (1,503)
Other................................................ (1,326) (807)
Deferred tax assets:
Ceiling test writedown............................... 11,700 11,700
Net operating loss................................... 5,100 3,005
-------- --------
Net deferred tax assets................................ 5,884 4,817
Less: Valuation allowance.............................. (11,700) (11,700)
-------- --------
Net deferred tax liability............................. $ (5,816) $ (6,883)
======== ========
</TABLE>
SFAS No. 109 requires that the Company record a valuation allowance when it
is more likely than not that some portion or all of the deferred tax assets
will not be realized. In the fourth quarter of 1998, the Company recorded a
$35.1 million cost ceiling writedown. The writedown and significant tax net
operating loss carryforwards resulted in a net deferred tax asset at December
31, 1998. The Company believes it is more likely than not that a portion of
the deferred tax assets will not be realized, therefore, the Company has
recorded a valuation allowance. At December 31, 1999, the Company had regular
tax net operating loss carryforwards of approximately $15.0 million. This loss
carryforward amount will expire during 2012. The Company also had a percentage
depletion carryforward of approximately $0.9 million at December 31, 1999,
which is available to offset future federal income taxes payable and has no
expiration date.
(5) Earnings Per Share
In accordance with the provisions of SFAS No. 128, "Earnings per Share,"
basic earnings per share is computed on the basis of the weighted-average
number of common shares outstanding during the periods. Diluted earnings per
share is computed based upon the weighted-average number of common shares plus
the assumed issuance of common shares for all potentially dilutive securities.
F-11
<PAGE>
MILLER EXPLORATION COMPANY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
Earnings per share has been omitted from the statement of operations for the
year ended December 31, 1997, since such information is not meaningful and the
historically combined Company (prior to the Combination Transaction) was not a
separate legal entity with a singular capital structure. The computation of
earnings per share for the year ended December 31, 1999 and 1998 is as follows
(in thousands, except per share data):
<TABLE>
<CAPTION>
1999 1998
------- ---------
<S> <C> <C>
Net loss attributable to basic and diluted EPS......... $(1,982) $ (41,800)
Average common shares outstanding applicable to basic
EPS................................................... 12,633 11,153
Add: options treasury shares and restricted stock...... -- --
------- ---------
Average common shares outstanding applicable to diluted
EPS................................................... 12,633 11,153
Earnings (loss) per share:
Basic................................................ $ (0.16) $ (3.75)
------- ---------
Diluted.............................................. $ (0.16) $ (3.75)
======= =========
</TABLE>
Options and restricted stock were not included in the computation of diluted
earnings per share for the years ended December 31, 1999 and 1998 because
their effect was antidilutive.
(6) Net Production Payments
During 1995, the Company transferred a limited-term working interest, based
on specified volumes, in certain natural gas producing properties to Miller
Shale Limited Partnership ("MSLP"), an affiliated entity. Under the terms of
the agreement, the Company received payments equal to 97% of the net profits
from MSLP, as defined in the agreement, arising from the production of those
properties.
The payments received by the Company were reflected on a gross basis in the
accompanying consolidated financial statements and the associated proved
reserves also were reflected in the accompanying supplemental oil and gas
disclosures to the consolidated financial statements.
During 1995 and 1996, the Company also received advance cash payments from
MSLP of approximately $1.6 million. These proceeds were recorded as deferred
revenue, and were recognized in income as the natural gas volumes under the
agreement are delivered.
In June 1999, the Company sold its interest in the Antrim Shale properties
located in Michigan, which includes the above-referenced net production
payment stream for $4.5 million of which $4.0 million was used to reduce the
Company's outstanding Credit Facility balance (see Note 7). The remaining
deferred revenue discussed above has been credited to the Company's
capitalized cost pool.
(7) Long-Term Debt
The Company has entered into a credit facility (the "Credit Facility") with
Bank of Montreal, Houston Agency ("BMO"). The Credit Facility includes certain
negative covenants that impose limitations on the Company and its subsidiary
with respect to, among other things, distributions with respect to its capital
stock, limitations on financial ratios, the creation or incurrence of liens,
the incurrence of additional indebtedness, making loans and investments and
mergers and consolidations. The obligations of the Company under the Credit
Facility are secured by a lien on all real and personal property of the
Company. At December 31, 1999, $21.9 million was outstanding under the Credit
Facility.
On April 14, 1999, the Company and BMO entered into the Second Amendment to
the Credit Facility. The Second Amendment stipulated, among other things, that
the Company would submit a revised reserve report to BMO by October 1, 1999
for a re-determination of the borrowing base and pay a $300,000 re-
determination fee.
F-12
<PAGE>
MILLER EXPLORATION COMPANY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
On October 29, 1999, the re-determination fee was paid, and the Company and
BMO entered into the Third Amendment to the Credit Facility which included:
(i) terms requiring the Company to make principal payments to BMO during the
period beginning with October 1999 through February 2000, (ii) terms requiring
that all outstanding borrowings bear interest at BMO's prime rate plus 3.5%;
(iii) revision or waiver of certain negative covenant provisions through
September 30, 2000; (iv) a requirement to submit a revised reserve report to
BMO by April 1, 2000 for a re-determination of the borrowing base; (v) a
requirement that all proceeds from the sales of proved or unproved oil and gas
properties, prior to the re-determination date, must be used to reduce the
principal amount outstanding under the Credit Facility; and (vi) a requirement
for an amendment fee payable to BMO in an amount equal to 2% of the
outstanding balance of the Credit Facility at the April re-determination date.
Final maturity of the Credit Facility was set at January 1, 2001. Total
principal payments of $5.1 million were made under the Third Amendment with
the remaining $1.9 million waived through letter agreements subsequent to
December 31, 1999.
On March 20, 2000, the Company entered into a Fourth Amendment with BMO
which continued all of the provisions of the Third Amendment with the
exception of the following changes: i) extension of the final maturity date of
the Credit Facility to April 1, 2001; and ii) requirement of a $1.0 million
principal payment by March 31, 2000. At the April re-determination date, the
Company may be required to make additional payments of principal to the extent
its outstanding borrowings exceed the borrowing base. To the extent that
additional payments are required, management believes these would be fulfilled
from available cash flows, and would not have a material adverse effect on the
Company's operating results, financial condition or liquidity.
On April 14, 1999, the Company issued a $4.7 million note payable to one its
suppliers, Veritas DGC Land, Inc. (the "Veritas Note Payable"), for the
outstanding balance due to Veritas for past services provided in 1998 and
1999. The balance due Veritas was $4.7 million at December 31, 1999, and has
been classified as long-term debt in the accompanying financial statements.
The principal obligation under the Veritas Note Payable is due on April 15,
2001. Management plans to fulfill the principal obligation under the Veritas
Note Payable from available cash flows, property sales and other financing
sources.
On April 14, 1999, the Company also entered into an agreement (the "Warrant
Agreement") to issue warrants to Veritas that entitle Veritas to purchase
shares of the Company's Common Stock in lieu of receiving cash payments for
the interest obligations under the Veritas Note Payable. The Warrant Agreement
requires the Company to issue warrants to Veritas in conjunction with the
signing of the Warrant Agreement, as well as on the six and, at the Company's
option, 12 and 18 month anniversaries of the Warrant Agreement. The Company is
required to prepay interest equivalent to 9% of the outstanding principal
balance at each of these dates. In accordance with the Warrant Agreement, the
Company used the five-day weighted average closing price of the Company's
stock at April 14, 1999, to determine the required number of warrants that
would be issued for this interest obligation on both April 14, 1999 and
October 14, 1999, respectively. The exercise price of each warrant is $0.01.
As a result of the requirement to prepay interest on the Veritas Note Payable,
the Company issued 322,752 warrants in lieu of paying cash, on both April 14,
1999 and October 14, 1999, respectively. The Company ratably recognizes the
prepaid interest into expense over the period that it relates. During 1999,
the Company recognized non-cash interest expense of approximately $600,000
related to the Veritas Note Payable.
The Company has the option, in lieu of issuing warrants, to make a cash
payment to Veritas at the 12 and 18 month anniversaries equivalent to 9% of
the then current principal balance of the Veritas Note Payable. The number of
shares to be issued on the 12 and 18 month anniversaries will be based upon
the five-day weighted average closing price of the Company's common stock at
April 14, 2000. Under the terms of the Warrant Agreement, all warrants issued
will expire on April 15, 2002. In addition, the Company also entered into an
agreement with Veritas that (i) requires the Company to file a registration
statement with the SEC to register shares of Common Stock that are issuable
upon exercise of the above warrants and (ii) grants certain piggy-back
registration rights in connection with the warrants.
F-13
<PAGE>
MILLER EXPLORATION COMPANY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
In connection with the closing of the AHC acquisition on February 9, 1998,
the Company has a non-interest bearing note payable to AHC (the "AHC Note
Payable") of $2.5 million (at December 31, 1999) which is payable on the
annual anniversary dates of the closing as follows: $1.0 million in 2000 and
$1.5 million in 2001. The Company has obtained a 60-day extension of the $1.0
million payment from February 2000 to April 2000.
The Company's long-term debt consisted of the following as of December 31,
1999 and 1998 (in thousands):
<TABLE>
<CAPTION>
1999 1998
-------- --------
<S> <C> <C>
BMO Credit Facility...................................... $ 21,914 $ 35,500
Veritas Note Payable..................................... 4,696 3,837
AHC Note Payable......................................... 2,500 3,000
-------- --------
Total.................................................. 29,110 42,337
Less current portion of long-term debt................... (3,500) (10,500)
-------- --------
$(25,610) $ 31,837
======== ========
</TABLE>
The Company's minimum principal requirements as of December 31, 1999 are as
follows (in thousands):
<TABLE>
<S> <C>
2000............................................................. $ 3,500
2001............................................................. 25,610
-------
$29,110
=======
</TABLE>
(8) Financial Instruments
The following methods and assumptions were used to estimate the fair value
of each significant class of financial instruments:
Cash, Restricted Cash, Temporary Cash Investments, Accounts Receivables,
Accounts Payable and Notes Payable
The carrying amount approximates fair value because of the short maturity of
those instruments, except for the non-interest bearing AHC Note Payable that
has a fair value of approximately $150,000 less than the carrying amount.
Long-Term Debt
The interest rate on the Credit Facility is reset as BMO's prime rate
changes to reflect current market rates. Consequently, the carrying value of
the Credit Facility approximates fair value.
Hedging Arrangements
Refer to Note 9 for a description of the Company's price hedging
arrangements and the fair values of the arrangements.
(9) Risk Management Activities and Derivative Transactions
The Company uses a variety of derivative instruments to manage exposure to
fluctuations in commodity prices and interest rates. To qualify for hedge
accounting, derivatives must meet the following criteria: (i) the item to be
hedged exposes the Company to price or interest rate risk; and (ii) the
derivative reduces that exposure and is designated as a hedge.
F-14
<PAGE>
MILLER EXPLORATION COMPANY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
Commodity Price Hedges
In 1997, the Company began using certain derivatives (e.g., NYMEX futures
contracts) for a portion of its oil and natural gas production to achieve a
more predictable cash flow, as well as to reduce the exposure to price
fluctuations. The Company's hedging arrangements apply to only a portion of
its production, provide only partial price protection against declines in oil
and natural gas prices and limit potential gains from future increases in
prices. Such hedging arrangements may expose the Company to risk of financial
loss in certain circumstances, including instances where production is less
than expected, the Company's customers fail to purchase contracted quantities
of oil or natural gas or a sudden unexpected event materially impacts oil or
natural gas prices. For financial reporting purposes, gains and losses related
to hedging are recognized as oil and natural gas revenues during the period
the hedged transactions occur. The Company expects that the amount of hedge
contracts that it has in place will vary from time to time. For the years
ended December 31, 1999, 1998 and 1997, the Company hedged 45%, 36% and 1% of
its oil and gas production, respectively, and as of December 31, 1999, the
Company had 0.9 Bcfe of open oil and natural gas contracts for the months of
January 2000 through March, 2000.
Interest Rate Hedge
The Company entered into an interest rate swap agreement, effective November
2, 1998, to exchange the variable rate interest payment obligation under the
Credit Facility without exchanging the underlying principal amount. This
agreement converts the variable rate debt to fixed rate debt to reduce the
impact of interest rate fluctuations. The notional amount is used to measure
interest to be paid or received and does not represent the exposure to credit
loss. The notional amount of the Company's interest rate swap was $25.0
million at December 31, 1998, and had a fair value of approximately $0.2
million. During March 1999, the Company terminated its interest rate swap
agreement and received $0.3 million, which is being recognized in earnings
ratably as the related outstanding loan balance is amortized.
(10) Commitments and Contingencies
Leasing Arrangements
The Company leases its office building in Traverse City, Michigan from a
related party. The lease term is for five years beginning in 1996 and contains
an annual 4% escalation clause. The Company also leases office space in
Houston, Texas; Jackson, Mississippi; and Columbia, Mississippi; as well as
warehouse space in Columbia, Mississippi. The lease agreements in Houston and
Jackson were signed by the Company in September 1997 and April 1998,
respectively. Each lease has a five year term. The lease for office and
warehouse space in Columbia was assumed through the purchase of certain oil
and gas properties from AHC in February 1998, as more fully discussed in Note
1. The Columbia lease term ends in June 2001.
Future minimum lease payments required of the Company for years ending
December 31, are as follows (in thousands):
<TABLE>
<S> <C>
2000................................................................ $259
2001................................................................ 213
2002................................................................ 147
2003................................................................ 32
2004................................................................ --
Thereafter.......................................................... --
----
$651
====
</TABLE>
Total net rent expense under these lease arrangements was $255,078, $198,547
and $103,464 for the years ended December 31, 1999, 1998 and 1997,
respectively.
F-15
<PAGE>
MILLER EXPLORATION COMPANY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
Employee Benefit Plan
The Company has a qualified 401(k) savings plan (the "Plan") covering
substantially all eligible employees. The Plan provides for discretionary
matching contributions by the Company. Commencing in July 1998, matching
contributions have been in the form of Company stock. Contributions charged
against operations totaled $189,421, $66,359, and $64,348 for the years ended
December 31, 1999, 1998 and 1997, respectively.
Tax Credit and Royalty Participation Programs
Various employees were eligible to participate in the Company's Tax Credit
and Royalty Participation Programs, which were designed to provide incentive
for certain key employees of the Company. Under the programs, the employees
were entitled to receive cash payments from the Company, based on overriding
royalty working interests, fees, reimbursements and other financial items.
These payments to the employees, which were charged against operations,
totaled $54,611 and $134,916 for the years ended December 31, 1998 and 1997,
respectively. These programs were terminated upon the consummation of the
Offering in February 1998.
Other
The Company has been named as a defendant in a lawsuit filed June 1, 1999 by
Energy Drilling Company ("Energy Drilling"), in the Parish of Catahoula,
Louisiana arising from a blowout of the Victor P. Vegas #1 well that was
drilled and operated by the Company. Energy Drilling, the drilling rig
contractor on the well, is claiming damages related to their destroyed
drilling rig and related costs amounting to approximately $1.2 million, plus
interest, attorneys' fees and costs.
The Company has been named in lawsuit brought by Victor P. Vegas, the
landowner of the surface location of the blowout well referenced above. The
suit was filed July 20, 1999 in the Parish of Orleans, Louisiana, claiming
unspecified damages related to environmental and other matters.
The Company has been named in a lawsuit brought by Charles Strictland,
employee of BJ Services, Inc., on September 30, 1999. The suit is claiming
damages of $1.0 million for personal injuries allegedly suffered at a well
site operated by the Company.
The Company has been named in a lawsuit brought by Eric Parkinson, husband
and personal representative of the Estate of Kelly Anne Parkinson (deceased).
The amended complaint was filed December 13, 1999, in the County of Hillsdale,
Michigan, claiming an unspecified amount plus interest and attorney fees for
suffering the loss of the deceased care, comfort, society and support. Kelly
Anne Parkinson was killed in an automobile accident on February 2, 1999, while
traveling on a county road located next to land wherein the Company is lessee
of underground mineral rights. The plaintiff alleges that the accident was the
result of mud dragged on the road from the leased property and alleges that
the Company was negligent in its duty to conduct its operations at the site
with reasonable care.
The Company believes it has meritorious defenses to the claims discussed
above and intends to vigorously defend these lawsuits. The Company does not
believe that the final outcome of these matters will have a material adverse
effect on the Company's operating results, financial condition or liquidity.
Due to the uncertainties inherent in litigation, however, no assurances can be
given regarding the final outcome of each action. The Company currently
believes any costs resulting from the lawsuits mentioned above would be
covered by the Company's insurance.
F-16
<PAGE>
MILLER EXPLORATION COMPANY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
(11) Stock-Based Compensation
During 1997, the Company adopted the Stock Option and Restricted Stock Plan
of 1997 (the "1997 Plan"). The Board of Directors contemplates that the 1997
Plan primarily will be used to grant stock options. However, the 1997 Plan
permits grants of restricted stock and tax benefit rights if determined to be
desirable to advance the purposes of the 1997 Plan. These stock options,
restricted stock and tax benefit rights are collectively referred to as
"Incentive Awards." Persons eligible to receive Incentive Awards under the
1997 Plan are directors, corporate officers and other full-time employees of
the Company and its subsidiaries. A maximum of 1.2 million shares of Common
Stock (subject to certain antidilution adjustments) are available for
Incentive Awards under the 1997 Plan. Upon consummation of the Offering in
February 1998, a total of 577,350 stock options were granted by the Company to
directors, corporate officers and other full-time employees of the Company,
and 109,500 shares of restricted stock were granted to certain employees. Also
in February 1998, the Company made a one-time grant of an aggregate of 272,500
stock options to certain officers pursuant to the terms of stock option
agreements entered into between the Company and the officers. During 1999 and
1998, incentive stock options of 25,000 and 54,600, respectively, were issued
to outside directors and new employees under the 1997 Plan.
Since the above stock options have been granted at market price, no
compensation cost has been recognized for stock options granted under the 1997
Plan. The restricted stock vests at cumulative increments of one-half of the
total number of restricted stock of Common Stock subject thereto, beginning on
the first anniversary of the date of grant. Because the shares of restricted
stock are subject to the risk of forfeiture during the vesting period,
compensation expense is recognized over the two-year vesting period as the
risk of forfeiture passes. In February 1999, 54,750 shares of restricted stock
vested, and the Company recognized compensation expense of approximately $0.2
million, accordingly.
On January 1, 2000, the Company granted 191,500 stock options to certain
employees with an exercise price of $0.01 per share. The right to exercise the
options shall vest and be exercisable when the normal trading average of the
stock on the market remains above the designated values for a period of five
consecutive trading days as follows:
<TABLE>
<CAPTION>
Five-Day Daily Average Target Percentage Vested
----------------------------- -----------------
<S> <C>
$2.00 40%
$2.75 30%
$3.50 30%
</TABLE>
When it is probable that the five-day stock price target price will be
attained (the "measurement date"), the Company will recognize compensation
expense for the difference between the quoted market price of the stock at
this measurement date less the $0.01 per share grant price times the number of
options that will vest. Management does not currently believe it is probable
that any of these targets will be attained so no compensation expense has been
recorded yet for these options.
The Company accounts for all stock options issued under the provisions and
related interpretations of Accounting Principles Board Opinion ("APB") No. 25,
"Accounting for Stock Issued to Employees." In accordance with SFAS No. 123,
"Accounting for Stock-Based Compensation," the Company intends to continue to
apply APB No. 25 for purposes of determining net income and to present the pro
forma disclosures required by SFAS No. 123.
F-17
<PAGE>
MILLER EXPLORATION COMPANY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
The status of the restricted stock and stock options granted under the Stock
Option and Restricted Stock Plan of 1997 is as follows:
<TABLE>
<CAPTION>
Restricted
Stock Options
---------- ----------------------
Number Number Average
of Shares of Shares Grant Price
---------- --------- -----------
<S> <C> <C> <C>
Outstanding at January 1, 1998............. -- -- --
Granted.................................. 109,500 904,950 $8.08
Exercised................................ -- -- --
Forfeited................................ -- (500) 8.00
Outstanding at December 31, 1998........... 109,500 904,450 $8.08
Granted.................................. -- 25,000 3.11
Exercised................................ (54,750) -- --
Forfeited................................ (11,250) (167,700) 8.19
------- -------- -----
Outstanding at December 31, 1999........... 43,500 761,750 $7.89
======= ======== =====
</TABLE>
The average fair value of shares granted during 1999 and 1998 was $1.68 and
$4.10, respectively. The fair value of each option grant is estimated using
the Black-Scholes option-pricing model with the following weighted-average
assumptions used for estimating fair value:
<TABLE>
<CAPTION>
Assumption 1999 1998
---------- -------- --------
<S> <C> <C>
Dividend Yield............................................. 0% 0%
Risk-free interest rate.................................... 6.5% 5.5%
Expected Life.............................................. 10 years 10 years
Expected volatility........................................ 25.5% 25.7%
</TABLE>
The following table summarizes certain information for the options
outstanding at December 31, 1999:
<TABLE>
<CAPTION>
Options
Options Outstanding Exercisable
-------------------------- ----------------
Weighted Weighted Weighted
Range of Average Average Average
Grant Prices Remaining Grant Grant
------------ Shares Life Price Shares Price
------- --------- -------- ------- --------
<S> <C> <C> <C> <C> <C>
$2.19 to $10.13................. 761,750 9 years $7.89 147,350 $8.05
</TABLE>
The Company's pro forma net loss and earnings (loss) per share of common
stock had compensation costs been recorded in accordance with SFAS No. 123,
are presented below (in thousands except per share data):
<TABLE>
<CAPTION>
As Reported Pro Forma
----------------- -----------------
1999 1998 1999 1998
------- -------- ------- --------
<S> <C> <C> <C> <C>
Net loss............................. $(1,982) $(41,800) $(2,384) $(42,229)
Earnings (loss) per share of Common
Stock
Basic.............................. $ (0.16) $ (3.75) $ (0.19) $ (3.79)
Diluted............................ $ (0.16) $ (3.75) $ (0.19) $ (3.79)
</TABLE>
F-18
<PAGE>
MILLER EXPLORATION COMPANY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
The effects of applying SFAS No. 123 in this pro forma disclosure should not
be interpreted as being indicative of future effects.
(12) Related Party Transactions
In July 1996, the Company sold the building it occupies to a related party
and subsequently leased a substantial portion of the building under the terms
of a five-year lease agreement (see Note 10). The Company realized a gain on
the sale of the property of approximately $160,000. This gain was deferred and
is being amortized in proportion to the gross rental charges under the
operating lease.
Until March 1999, the Company provided technical and administrative services
to a corporation controlled by a related party. In connection with this
arrangement, $66,667, $200,000 and $200,000 were recognized as management fee
income (see Note 15) for the years ended December 31, 1999, 1998 and 1997,
respectively.
A certain stockholder and director of the Company has controlling interest
in a corporation that is the operator of jointly owned properties. Payments to
this operator for the Company's proportionate share of leasehold, seismic,
drilling and operating expenses amounted to $794,319 (net of $1,126,321 in
control of well insurance reimbursements), $7,370,718, and $2,038,938 in 1999,
1998 and 1997, respectively. Payments received from the operator for the
Company's proportionate share of crude oil and natural gas revenues amounted
to $468,081, $4,420,665 and $2,046,354 in 1999, 1998 and 1997, respectively.
A certain stockholder and director of the Company is a principal in an
organization that provides consulting services to the Company. Consulting fees
paid to this organization amounted to $30,738 for 1997. There were no
consulting fees paid to this organization in 1999 or 1998.
At December 31, 1999, 1998 and 1997, the amounts due from related parties
were $552, $501,184 and $1,353,325, respectively. At December 31, 1999, 1998
and 1997, the amounts payable to related parties were $604,410, $1,088,900 and
$2,494,449, respectively. All of the related party transactions were in the
normal course of business, under comparable terms as those with third parties,
and all amounts due from and payable to these related parties were settled in
cash after each respective balance sheet date.
During 1999, an affiliated entity purchased a working interest in certain
unproved oil and gas properties from the Company for $3.9 million. Based on
the Company's extensive leasing experience, knowledge of recent acquisitions
of 2-D and 3-D seismic data in the Mississippi Salt Basin and dealings with
other industry partners, the Company believes that the purchase price was
representative of the fair market value of these interests and that the terms
were consistent with those available to unrelated parties.
(13) Concentrations of Risk
The Company extends credit to various companies in the oil and gas industry
in the normal course of business. Within this industry, certain concentrations
of credit risk exist. The Company, in its role as operator of co-owned
properties, assumes responsibility for payment to vendors for goods and
services related to joint operations and extends credit to co-owners of these
properties.
This concentration of credit risk may be similarly affected by changes in
economic or other conditions and may, accordingly, impact the Company's
overall credit risk. The Company periodically monitors its customers' and co-
owners' financial conditions.
The Company also has a significant concentration of properties in the
Mississippi Salt Basin, which are affected by changes in economic and other
conditions, including but not limited to crude oil and natural gas prices and
operating costs.
F-19
<PAGE>
MILLER EXPLORATION COMPANY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
(14) Non-Cash Activities
During 1999, the Company issued 38,479 shares of common stock as
compensation for 1998 director fees, as provided for under the Equity
Compensation Plan for Non-employee Directors; had 54,750 shares of its
restricted stock vest; reclassified approximately $1.5 from deferred revenue
to capitalized oil and gas properties as more fully discussed in Note 6; and
beginning from April 14, 1999, interest expense on the Veritas Note Payable
began to be provided for with warrants in lieu of cash. During 1998, the
Company recorded a one-time non-cash charge of approximately $5.4 million for
the termination of MOC's S corporation status, as discussed in Note 4;
acquired certain oil and gas properties owned by non-affiliated parties for
approximately $12.8 million of its Common Stock, as discussed in Note 1; and
converted an accounts payable balance to Veritas DGC Land, Inc. of $3.8
million into a note payable (plus $0.9 million incurred in 1999, for a total
Note Payable of $4.7 million), as discussed in Note 7. During 1997, the
stockholders contributed approximately $7.6 million of notes payable to MOC as
capital. These non-cash activities have been excluded from the consolidated
statements of cash flows.
(15) Significant Customers
Revenues from certain customers accounted for more than 10% of total crude
oil and natural gas sales as follows:
<TABLE>
<CAPTION>
For the Year Ended
December 31,
----------------------
1999 1998 1997
------ ------ ------
<S> <C> <C> <C>
Carthage Energy Services Inc......................... 73% 50% --%
EOTT................................................. 16% 9% --%
Muskegon Development Co.............................. 3% 7% 27%
Dan A. Hughes Company................................ 2% 21% 30%
Amerada Hess Corporation............................. 2% 12% 39%
</TABLE>
(16) Supplemental Financial Information on Oil and Gas Exploration,
Development and Production Activities (Unaudited)
The following information was prepared in accordance with the Supplemental
Disclosure Requirements of SFAS No. 69, "Disclosures About Oil and Gas
Producing Activities."
Users of this information should be aware that the process of estimating
quantities of "proved" and "proved developed" crude oil and natural gas
reserves is very complex, requiring significant subjective decisions in the
evaluation of all available geological, engineering and economic data for each
reservoir. The data for a given reservoir also may change substantially over
time as a result of numerous factors including, but not limited to, additional
development activity, evolving production history and continual reassessment
of the viability of production under varying economic conditions.
Consequently, material revisions to existing reserve estimates occur from time
to time. Although every reasonable effort is made to ensure that reserve
estimates reported represent the most accurate assessments possible, the
significance of the subjective decisions required and variances in available
data for various reservoirs make these estimates generally less precise than
other estimates presented in connection with financial statement disclosures.
F-20
<PAGE>
MILLER EXPLORATION COMPANY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
Proved reserves represent estimated quantities of natural gas and crude oil
that geological and engineering data demonstrate, with reasonable certainty,
to be recoverable in future years from known reservoirs under economic and
operating conditions existing at the time the estimates were made.
Proved developed reserves are proved reserves expected to be recovered,
through wells and equipment in place and under operating methods being
utilized at the time the estimates were made.
The following estimates of proved reserves and future net cash flows as of
December 31, 1999, 1998 and 1997 have been prepared by Miller and Lents, Ltd.
(as to non-Michigan Antrim Shale reserves) and as of December 31, 1998 and
1997 by S.A. Holditch and Associates (as to Michigan Antrim Shale reserves),
independent petroleum engineers. All of the Company's reserves are located in
the United States.
Estimated Quantities of Proved Oil and Gas Reserves
The following table sets forth the Company's net proved and proved developed
reserves at December 31 for each of the three years in the period ended
December 31, 1999, and the changes in the net proved reserves for each of the
three years in the period then ended as estimated by petroleum engineers for
the respective periods as described in the preceding paragraph:
<TABLE>
<CAPTION>
Total
---------------------
Oil (MBbl) Gas (Mmcf)
---------- ----------
<S> <C> <C>
Estimated Proved Reserves
December 31, 1995................................... 135.0 15,762.2
Extensions and discoveries......................... 514.9 553.7
Purchase of reserves............................... -- 1,016.1
Revisions and other changes........................ 40.3 2,054.0
Production......................................... (46.5) (2,030.0)
------ --------
December 31, 1996................................... 643.7 17,356.0
Extensions and discoveries......................... 10.6 3,629.8
Revisions and other changes........................ 161.6 (1,129.5)
Production......................................... (47.4) (2,241.2)
------ --------
December 31, 1997................................... 768.5 17,615.1
Extensions and discoveries......................... 130.1 5,863.7
Purchases of reserves.............................. 308.3 23,086.7
Revisions and other changes........................ 63.3 (8,586.1)
Production......................................... (247.6) (8,953.3)
Sales of reserves.................................. (30.9) (104.2)
------ --------
December 31, 1998................................... 991.7 28,921.9
------ --------
Extensions and discoveries......................... 60.4 880.3
Revisions and other changes........................ (175.1) 2,391.1
Production......................................... (255.9) (7,593.8)
Sales of reserves.................................. (132.7) (9,642.3)
------ --------
December 31, 1999................................... 488.4 14,957.2
====== ========
Estimated Proved Developed Reserves
December 31, 1996................................... 121.0 15,221.2
====== ========
December 31, 1997................................... 130.2 13,964.4
====== ========
December 31, 1998................................... 991.7 28,641.6
====== ========
December 31, 1999................................... 460.1 14,944.5
====== ========
</TABLE>
F-21
<PAGE>
MILLER EXPLORATION COMPANY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
Standardized Measure of Discounted Future Net Cash Flows Relating To Proved
Oil and Gas Reserves
The following information has been developed utilizing procedures prescribed
by SFAS No. 69 and based on crude oil and natural gas reserve and production
volumes estimated by the Company's petroleum engineers. It may be useful for
certain comparison purposes, but should not be solely relied upon in
evaluating the Company or its performance. Further, information contained in
the following table should not be considered as representative of realistic
assessments of future cash flows, nor should the Standardized Measure of
Discounted Future Net Cash Flows be viewed as representative of the current
value of the Company.
The future cash flows presented below are computed by applying year-end
prices to year-end quantities of proved crude oil and natural gas reserves.
Future production and development costs are computed by estimating the
expenditures to be incurred in developing and producing the Company's proved
reserves, based on year-end costs and assuming continuation of existing
economic conditions. It is expected that material revisions to some estimates
of crude oil and natural gas reserves may occur in the future, development and
production of the reserves may occur in periods other than those assumed and
actual prices realized and costs incurred may vary significantly from those
used.
Management does not rely upon the following information in making investment
and operating decisions. Such decisions are based upon a wide range of
factors, including estimates of probable as well as proved reserves, and
varying price and cost assumptions considered more representative of a range
of possible economic conditions that may be anticipated.
The following table sets forth the Standardized Measure of Discounted Future
Net Cash Flows from projected production of the Company's crude oil and
natural gas reserves at December 31, 1999, 1998 and 1997:
<TABLE>
<CAPTION>
1999 1998 1997
------- -------- --------
(In thousands)
<S> <C> <C> <C>
Future revenues (1)........................... $42,556 $ 66,975 $ 54,896
Future production costs (2)................... (7,237) (20,930) (19,091)
Future development costs (2).................. (402) (1,532) (5,300)
Future income taxes (3)....................... -- -- --
------- -------- --------
Future net cash flows......................... 34,917 44,513 30,505
Discount to present value at 10% annual rate.. (6,197) (8,088) (10,571)
------- -------- --------
Standardized measure of discounted future net
cash flows................................... $28,720 $ 36,425 $ 19,934
======= ======== ========
</TABLE>
--------
(1) Crude oil and natural gas revenues are based on year-end prices with
adjustments for changes reflected in existing contracts. There is no
consideration for future discoveries or risks associated with future
production of proved reserves.
(2) Based on economic conditions at year-end. Does not include administrative,
general or financing costs. Does not consider future changes in
development or production costs.
(3) The 1999 and 1998 balance is not reduced by income taxes due to the tax
basis of the properties and a net operating loss carryforward. Does not
include income taxes for 1997 as the Company was not subject to federal
income taxes until consummation of the Offering in February 1998.
F-22
<PAGE>
MILLER EXPLORATION COMPANY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
Changes in Standardized Measure of Discounted Future Net Cash Flows
The following table sets forth the changes in the Standardized Measure of
Discounted Future Net Cash Flows at December 31, 1999, 1998 and 1997:
<TABLE>
<CAPTION>
1999 1998 1997
-------- -------- --------
(In thousands)
<S> <C> <C> <C>
New discoveries............................... $ 3,213 $ 9,962 $ 4,059
Purchase of reserves.......................... -- 55,803 --
Sales of reserves in place.................... (7,003) (167) --
Revisions to reserves......................... 3,262 (18,635) 350
Sales, net of production costs................ (19,027) (17,619) (5,305)
Changes in prices............................. 16,571 (11,776) (22,280)
Accretion of discount......................... 3,643 1,993 3,006
Changes in timing of production and other..... (8,364) (3,070) 10,039
-------- -------- --------
Net change during the year.................... $ (7,705) $ 16,491 $(10,131)
======== ======== ========
</TABLE>
Capitalized Cost Related to Oil and Gas Producing Activities
The following table sets forth the capitalized costs relating to the
Company's natural gas and crude oil producing activities at December 31, 1999
and 1998:
<TABLE>
<CAPTION>
1999 1998
-------- --------
(In thousands)
<S> <C> <C>
Proved properties...................................... $115,040 $103,272
Unproved properties.................................... 22,678 39,995
-------- --------
137,718 143,267
Less--Accumulated depreciation, depletion and
amortization.......................................... (78,881) (63,253)
-------- --------
$ 58,837 $ 80,014
======== ========
</TABLE>
Cost Incurred In Oil and Gas Producing Activities
The acquisition, exploration and development costs disclosed in the
following tables are in accordance with definitions in SFAS No. 19, "Financial
Accounting and Reporting by Oil and Gas Producing Companies." Acquisition
costs include costs incurred to purchase, lease or otherwise acquire property.
Exploration costs include exploration expenses, additions to exploration wells
in progress and depreciation of support equipment used in exploration
activities. Development costs include additions to production facilities and
equipment, additions to development wells in progress and related facilities
and depreciation of support equipment and related facilities used in
development activities.
The following table sets forth costs incurred related to the Company's oil
and gas activities for the years ended December 31:
<TABLE>
<CAPTION>
1999 1998 1997
------- -------- ------
(In thousands)
<S> <C> <C> <C>
Property acquisition costs(1)....................... $ 1,818 $ 60,974 $4,577
Exploration costs................................... 2,572 32,142 2,226
Development costs................................... 5,875 17,615 2,019
------- -------- ------
Total(2).......................................... $10,265 $110,731 $8,822
======= ======== ======
</TABLE>
F-23
<PAGE>
MILLER EXPLORATION COMPANY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
--------
(1) Includes $19,556 in 1998 and $757 in 1996 for the acquisition of proved
producing properties.
(2) Includes $12,770 in 1998 of non-cash acquisitions of proved producing and
unproved properties in connection with the Combination Transaction as more
fully described in Note 1.
Results of Operations From Oil and Gas Producing Activities
The following table sets forth the Company's results of operations from oil
and gas producing activities for the years ended December 31, 1999, 1998 and
1997. The results of operations below do not include general and
administrative expenses, income taxes and interest expense.
<TABLE>
<CAPTION>
1999 1998 1997
------- -------- ------
(In thousands)
<S> <C> <C> <C>
Operating Revenues:
Natural gas.......................................... $17,266 $ 18,336 $5,819
Crude oil and condensate............................. 3,465 2,646 964
------- -------- ------
Total operating revenues........................... 20,731 20,982 6,783
------- -------- ------
Operating expenses:
Lease operating expenses and production taxes........ $ 1,704 $ 3,363 1,478
Depreciation, depletion and amortization............. 16,066 15,933 2,520
Cost ceiling writedown............................... -- 35,085 --
------- -------- ------
Total operating expenses........................... 17,770 54,381 3,998
------- -------- ------
Results of operations.................................. $ 2,961 $(33,399) $2,785
======= ======== ======
</TABLE>
F-24
<PAGE>
MILLER EXPLORATION COMPANY
SUPPLEMENTAL QUARTERLY FINANCIAL DATA
Unaudited Quarterly Financial Information
<TABLE>
<CAPTION>
Quarter Ended
------------------------------------
March 31 June 30 Sept. 30 Dec. 31
-------- ------- -------- --------
(In thousands, except per share
data)
<S> <C> <C> <C> <C>
1999
Total Operating Revenues................. $ 4,873 4,851 $5,492 $ 5,715
Operating Income......................... 108 59 171 47
Net Loss................................. (288) (576) (546) (572)
Earnings per share:
Basic.................................. (0.02) (0.05) (0.04) (0.05)
Diluted................................ (0.02) (0.05) (0.04) (0.05)
1998
Total Operating Revenues................. $ 4,118 $5,608 $5,649 $ 5,776
Operating Income (Loss).................. 39 1,066 592 (37,742)
Net Income (Loss)........................ (5,581) 601 100 (36,920)
Earnings per share:
Basic.................................. (0.79) 0.05 0.01 (3.02)
Diluted................................ (0.79) 0.05 0.01 (3.02)
1997
Total Operating Revenues................. $ 2,251 $1,481 $1,631 $ 1,815
Operating Income (Loss).................. 903 115 242 (32)
Net Income (Loss)........................ 721 (93) (290) (310)
</TABLE>
F-25
<PAGE>
MILLER EXPLORATION COMPANY
CONSOLIDATED BALANCE SHEETS
(In thousands, except share amounts)
<TABLE>
<CAPTION>
As of June 30, As of December 31,
2000 1999
-------------- ------------------
(Unaudited)
<S> <C> <C>
ASSETS
CURRENT ASSETS:
Cash and cash equivalents ................. $ 388 $ 3,712
Restricted cash (Note 2) .................. -- 4
Accounts receivable ....................... 5,398 4,580
Inventories, prepaids and advances to
operators ................................ 834 640
-------- --------
Total current assets .................... 6,620 8,936
-------- --------
OIL AND GAS PROPERTIES--at cost (full cost
method):
Proved oil and gas properties ............. 122,829 115,040
Unproved oil and gas properties ........... 16,872 22,678
Less--Accumulated depreciation, depletion
and amortization ......................... (87,418) (78,881)
-------- --------
Net oil and gas properties .............. 52,283 58,837
-------- --------
OTHER ASSETS ................................ 805 838
-------- --------
Total assets ............................ $ 59,708 $ 68,611
======== ========
LIABILITIES AND EQUITY
CURRENT LIABILITIES:
Current portion of long-term debt ......... $ 10,478 $ 3,500
Accounts payable .......................... 1,869 3,472
Accrued expenses and other current
liabilities .............................. 4,410 6,164
-------- --------
Total current liabilities ............... 16,757 13,136
-------- --------
LONG-TERM DEBT .............................. 13,169 25,610
DEFERRED INCOME TAXES ....................... 5,606 5,816
DEFERRED REVENUE ............................ 37 54
COMMITMENTS AND CONTINGENCIES (NOTE 6)
EQUITY:
Common stock warrants ..................... 1,268 845
Preferred stock, $0.01 par value; 2,000,000
shares authorized; none outstanding ...... -- --
Common stock, $0.01 par value; 40,000,000
shares authorized; 12,716,537 shares and
12,681,244 shares outstanding at June 30,
2000 and December 31, 1999, respectively
.......................................... 127 127
Additional paid in capital ................ 66,771 66,690
Deferred compensation ..................... -- (48)
Retained deficit .......................... (44,027) (43,619)
-------- --------
Total equity ............................ 24,139 23,995
-------- --------
Total liabilities and equity ............ $ 59,708 $ 68,611
======== ========
</TABLE>
The accompanying notes are an integral part of these consolidated financial
statements.
F-26
<PAGE>
MILLER EXPLORATION COMPANY
CONSOLIDATED STATEMENTS OF OPERATIONS
(In thousands, except per share amounts)
(Unaudited)
<TABLE>
<CAPTION>
For the Six
For the Three Months Months Ended
Ended June 30, June 30,
--------------------- ----------------
2000 1999 2000 1999
---------- ---------- ------- -------
<S> <C> <C> <C> <C>
REVENUES:
Natural gas ........................ $ 4,924 $ 3,912 $ 9,341 $ 8,031
Crude oil and condensate ........... 1,422 898 2,515 1,614
Other operating revenues ........... 70 41 165 79
--------- ---------- ------- -------
Total operating revenues ......... 6,416 4,851 12,021 9,724
--------- ---------- ------- -------
OPERATING EXPENSES:
Lease operating expenses and
production taxes................... 557 448 1,015 1,051
Depreciation, depletion and
amortization ...................... 4,415 3,530 8,786 6,922
General and administrative ......... 580 814 1,171 1,585
--------- ---------- ------- -------
Total operating expenses ......... 5,552 4,792 10,972 9,558
--------- ---------- ------- -------
OPERATING INCOME ..................... 864 59 1,049 166
--------- ---------- ------- -------
INTEREST EXPENSE ..................... (818) (1,013) (1,667) (1,607)
--------- ---------- ------- -------
INCOME (LOSS) BEFORE INCOME TAXES .... 46 (954) (618) (1,441)
--------- ---------- ------- -------
INCOME TAX PROVISION (CREDIT) ........ 16 (378) (210) (576)
--------- ---------- ------- -------
NET INCOME (LOSS) .................... $ 30 $ (576) $ (408) $ (865)
========= ========== ======= =======
EARNINGS (LOSS) PER SHARE (Note 3)
Basic .............................. $ 0.00 $ (0.05) $ (0.03) $ (0.07)
========= ========== ======= =======
Diluted ............................ $ 0.00 $ (0.05) $ (0.03) $ (0.07)
========= ========== ======= =======
</TABLE>
The accompanying notes are an integral part of these consolidated financial
statements.
F-27
<PAGE>
MILLER EXPLORATION COMPANY
CONSOLIDATED STATEMENT OF EQUITY
(In thousands)
(Unaudited)
<TABLE>
<CAPTION>
Common Additional
Stock Preferred Common Paid In Deferred Retained
Warrants Stock Stock Capital Compensation Deficit
-------- --------- ------ ---------- ------------ --------
<S> <C> <C> <C> <C> <C> <C>
BALANCE--December 31,
1999................... $ 845 $ -- $127 $66,690 $ (48) $(43,619)
Issuance of restricted
stock and benefit
plan shares.......... -- -- -- 81 48 --
Common stock warrants
issued............... 423 -- -- -- -- --
Net loss.............. -- -- -- -- -- (408)
------ ----- ---- ------- ----- --------
BALANCE--June 30, 2000.. $1,268 $ -- $127 $66,771 $ -- $(44,027)
====== ===== ==== ======= ===== ========
</TABLE>
The accompanying notes are an integral part of these consolidated financial
statements.
F-28
<PAGE>
MILLER EXPLORATION COMPANY
CONSOLIDATED STATEMENTS OF CASH FLOWS
(In thousands)
(Uunaudited)
<TABLE>
<CAPTION>
For the Six Months
Ended
June 30,
--------------------
2000 1999
--------- ---------
<S> <C> <C>
CASH FLOWS FROM OPERATING ACTIVITIES:
Net loss .............................................. $ (408) $ (865)
Adjustments to reconcile net loss to net cash from
operating activities--
Depreciation, depletion and amortization ............ 8,786 6,922
Deferred income taxes ............................... (210) (491)
Deferred revenue .................................... (17) (18)
Warrants and stock compensation ..................... 552 774
Changes in assets and liabilities--
Restricted cash ................................... 4 --
Accounts receivable ............................... (818) 675
Other assets ...................................... (410) 517
Accounts payable .................................. (1,603) (1,834)
Accrued expenses and other current liabilities .... (1,754) 492
--------- ---------
Net cash flows provided by operating activities.. 4,122 6,172
--------- ---------
CASH FLOWS FROM INVESTING ACTIVITIES:
Exploration and development expenditures .............. (2,930) (8,375)
Proceeds from sale of oil and gas properties and
purchases of equipment, net .......................... 947 8,201
--------- ---------
Net cash flows used in investing activities ..... (1,983) (174)
--------- ---------
CASH FLOWS FROM FINANCING ACTIVITIES:
Payments of principal ................................. (5,602) (7,576)
Borrowing on long-term debt ........................... 139 2,490
--------- ---------
Net cash flows used in financing activities ..... (5,463) (5,086)
--------- ---------
NET CHANGE IN CASH AND CASH EQUIVALENTS ................. (3,324) 912
CASH AND CASH EQUIVALENTS AT BEGINNING OF THE PERIOD .... 3,712 22
--------- ---------
CASH AND CASH EQUIVALENTS AT END OF THE PERIOD .......... $ 388 $ 934
========= =========
SUPPLEMENTAL CASH FLOW INFORMATION:
Cash paid during the period for--
Interest ............................................ $ 1,280 $ 1,543
========= =========
</TABLE>
The accompanying notes are an integral part of these consolidated financial
statements.
F-29
<PAGE>
MILLER EXPLORATION COMPANY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
(1) Organization and Nature of Operations
The consolidated financial statements of Miller Exploration Company (the
"Company") and subsidiary included herein have been prepared by management
without audit pursuant to the rules and regulations of the Securities and
Exchange Commission (the "SEC"). Accordingly, they reflect all adjustments
which are, in the opinion of management, necessary for a fair presentation of
the financial results for the interim periods. Certain information and notes
normally included in financial statements prepared in accordance with
generally accepted accounting principles have been condensed or omitted
pursuant to such rules and regulations. However, management believes that the
disclosures are adequate to make the information presented not misleading.
These consolidated financial statements should be read in conjunction with the
financial statements and the notes thereto included in the Company's Annual
Report on Form 10-K for the year ended December 31, 1999.
The preparation of financial statements in conformity with generally
accepted accounting principles requires management to make estimates and
assumptions that affect the reported amounts of assets and liabilities and
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. Actual results could differ from those estimates.
Principles of Consolidation
The consolidated financial statements of the Company include the accounts of
the Company and its subsidiary after elimination of all intercompany accounts
and transactions.
Nature of Operations
The Company is a domestic, independent energy company engaged in the
exploration, development and production of crude oil and natural gas. The
Company has established exploration efforts concentrated primarily in the
Mississippi Salt Basin of central Mississippi.
Oil and Gas Properties
SEC Regulation S-X, Rule 4-10 requires companies reporting on a full cost
basis to apply a ceiling test wherein the capitalized costs within the full
cost pool may not exceed the net present value of the Company's proven oil and
gas reserves plus the lower of the cost or market value of unproved properties
and deferred income taxes. Any such excess costs should be charged against
earnings.
Reclassifications
Certain reclassifications have been made to prior period statements to
conform with the June 30, 2000 presentation.
(2) Restricted Cash
In 1999, the Company entered into escrow agreements at the request of
certain joint venture partners regarding the drilling of certain wells
operated by the Company. Terms of the escrow agreements require the parties to
the agreements to deposit their proportionate share of the estimated costs of
drilling each subject well into a separate escrow account. The escrow account
is controlled by an independent third party agent and is restricted to the
sole purpose of processing payments to vendors covered by the escrow
agreements.
F-30
<PAGE>
MILLER EXPLORATION COMPANY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
(Unaudited)
(3) Earnings Per Share
The computation of earnings (loss) per share for the three-month and six-
month periods ended June 30, 2000 and 1999 are as follows (in thousands,
except per share data):
<TABLE>
<CAPTION>
Three Months Six Months
Ended June 30, Ended June 30,
--------------- ----------------
2000 1999 2000 1999
------- ------- ------- -------
<S> <C> <C> <C> <C>
Net earnings (loss) attributable to
basic and diluted EPS ................ $ 30 $ (576) $ (408) $ (865)
Average common shares outstanding
applicable to basic EPS .............. 12,704 12,619 12,702 12,586
Earnings (loss) per share:
Basic ............................... $ 0.00 $ (0.05) $ (0.03) $ (0.07)
Diluted ............................. $ 0.00 $ (0.05) $ (0.03) $ (0.07)
</TABLE>
Options and restricted stock were not included in the computation of diluted
earnings per share for the three-month period ended June 30, 1999 and the six-
month periods ended June 30, 2000 and 1999 because their effect was
antidilutive.
(4) Long-Term Debt
Bank Debt
Concurrently with the Company's Initial Public Offering, the Company entered
into a credit facility (the "Credit Facility") with Bank of Montreal, Houston
Agency ("Bank of Montreal"). The Credit Facility, as amended, required
principal reductions and included certain negative covenants that imposed
limitations on the Company and its subsidiary with respect to, among other
things, distributions with respect to capital stock, limitations on financial
ratios, the creation or incurrence of liens, restrictions on proceeds from
sales of oil and gas properties, the incurrence of additional indebtedness,
making loans and investments and mergers and consolidations. The obligations
under the Credit Facility were secured by a lien on all real and personal
property of the Company. Commencing April 1999, the interest rate under this
facility was increased to Bank of Montreal's prime rate plus 3.5%.
Principal payments of $20.6 million were made from April 1999 through June
2000, leaving an outstanding balance at June 30, 2000 of $16.4 million under
the Credit Facility.
On July 11, 2000, a principal payment of $4.9 million was made to pay down
the Credit Facility to $11.5 million. The pay down was made from the Guardian
transaction proceeds (as more fully described in Note 9).
On July 19, 2000, the Company entered into a new senior credit facility with
Bank One, Texas, N.A. ("Bank One") which replaced the existing credit facility
with Bank of Montreal. The new credit facility has a 30-month term and a
current borrowing base of $11.5 million. The interest rate under the new
credit facility is either the Bank One prime rate plus 2% or LIBOR plus 4% at
the Company's option. The new credit facility requires the Company to make
monthly payments of $500,000 until the next borrowing base re-determination
which is scheduled for January 1, 2001.
The new credit facility with Bank One includes certain covenants that impose
restrictions on the Company with respect to, among other things, incurrence of
additional indebtedness, limitations on financial ratios, making investments
and mergers and consolidation. The obligations under the new credit facility
are secured by a lien on all of the Company's real and personal property.
F-31
<PAGE>
MILLER EXPLORATION COMPANY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
(Unaudited)
Other
On April 14, 1999, the Company issued a $4.7 million note payable to one of
its suppliers, Veritas DGC Land, Inc. (the "Veritas Note"), for the
outstanding balance due to Veritas for past services provided in 1998 and
1999. The principal obligation under the Veritas Note was originally due on
April 15, 2001. On July 19, 2000, the note was amended as more fully described
below.
On April 14, 1999, the Company also entered into an agreement (the "Warrant
Agreement") to issue warrants to Veritas that entitle Veritas to purchase
shares of common stock in lieu of receiving cash payments for the accrued
interest obligations under the Veritas Note. The Warrant Agreement required
the Company to issue warrants to Veritas in conjunction with the signing of
the Warrant Agreement, as well as on the six and, at the Company's option, 12
and 18 month anniversaries of the Warrant Agreement. The warrants issued equal
9% of the then current outstanding principal balance of the Veritas Note. The
number of shares issued upon exercise of the warrants issued on April 14,
1999, and on the six-month anniversary was determined based upon a five-day
weighted average closing price of the Company's common stock at April 14,
1999. The exercise price of each warrant is $0.01 per share. On April 14,
1999, warrants exercisable for 322,752 shares of common stock were issued to
Veritas in connection with execution of the Veritas Note. On October 14, 1999
and April 14, 2000, warrants exercisable for another 322,752 and 454,994
shares, respectively, of common stock were issued to Veritas. The Warrant
Agreement was also amended on July 19, 2000. Through June 30, 2000, the
Company recognized non-cash interest expense of approximately $422,000 related
to the Veritas Note Payable.
Under the terms of the amended note and warrant, the maturity of the Veritas
Note was extended from April 15, 2001 to July 21, 2003 and the expiration date
for all warrants issued was extended until June 21, 2004. The annual interest
rate has been reduced from 18% to 9 3/4%, provided the entire note balance is
paid in full by December 31, 2001. If all principal and interest under the
Veritas Note is not paid by December 31, 2001, then the note bears interest at
13 3/4% until paid in full. Interest accrues at the reduced rate from and
after October 15, 2000 and is payable commencing April 15, 2001 and continuing
on each October 15 and April 15 until principal is paid in full. Interest will
be paid in warrants under the terms of the Warrant Agreement until such time
as the Company is in borrowing base compliance with its senior lender, Bank
One, at which time interest will only be paid in cash.
Under the amended Veritas Note, a principal payment of $500,000 was made on
July 19, 2000, the effective date of the amendment, and another $500,000
payment is required from proceeds of the Eagle Transaction (see Note 9) within
five days of stockholder approval if approved on or before October 31, 2000.
If the Eagle Transaction (as more fully described in Note 9) is not approved,
the second payment must be made on or before December 31, 2000. Nonpayment of
this second principal amount results in a penalty payment of $750,000 payable
in warrants at the then current market price of the stock. The balance due
Veritas was $4.7 million at June 30, 2000 with $3.7 million classified as
long-term and $1.0 million as current in the accompanying financial
statements.
Any additional proceeds derived from exercise of warrants issued or from
other debt or equity transactions must be used to pay interest and principal
on the amended Veritas Note until paid in full.
In connection with the closing of the Amerada Hess Corporation ("AHC")
property acquisition on February 9, 1998, the Company issued a non-interest
bearing note payable to AHC (the "AHC Note"). At June 30, 2000, the remaining
AHC Note of $2.5 million is payable on the annual anniversary dates of the
closing as follows: $1.0 million in 2000 and $1.5 million in 2001. The Company
had obtained a six-month extension of the $1.0 million payment from February
2000 to August 2000. This payment was made on August 3, 2000. Also, the $1.5
million payment due February 2001 has been divided into three quarterly
installments of $500,000 each, payable commencing February 2001. Terms of the
extension agreement require monthly interest payments at an annual interest
rate of 12% for the periods February through August 2000 and February through
July 2001.
F-32
<PAGE>
MILLER EXPLORATION COMPANY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
(Unaudited)
The Company's long-term debt consisted of the following as of June 30, 2000
(in thousands):
<TABLE>
<S> <C>
Bank of Montreal Credit Facility................................... $ 16,373
Veritas Note....................................................... 4,696
AHC Note........................................................... 2,500
Other.............................................................. 78
--------
Total............................................................ 23,647
Less current portion of long-term debt............................. (10,478)
--------
$ 13,169
========
</TABLE>
(5) Risk Management Activities and Derivative Transactions
The Company uses a variety of derivative instruments ("derivatives") to
manage exposure to fluctuations in commodity prices and interest rates. To
qualify for hedge accounting, derivatives must meet the following criteria:
(i) the item to be hedged exposes the Company to price or interest rate risk;
and (ii) the derivative reduces that exposure and is designated as a hedge.
Commodity Price Hedges
The Company periodically enters into certain derivatives (primarily NYMEX
futures contracts) for a portion of its oil and natural gas production to
achieve a more predictable cash flow, as well as to reduce the exposure to
price fluctuations. The Company's hedging arrangements apply only to a portion
of its production, provide only partial price protection against volatility in
oil and natural gas prices and limit potential gains from future increases in
prices. Such hedging arrangements may expose the Company to risk of financial
loss in certain circumstances, including instances where production is less
than expected, the Company's customers fail to purchase contracted quantities
of oil or natural gas or a sudden unexpected event materially impacts oil or
natural gas prices. For financial reporting purposes, gains and losses related
to hedging are recognized as income when the hedged transaction occurs. The
Company expects that the amount of hedge contracts that it has in place will
vary from time to time. For the six months ended June 30, 2000 and 1999, the
Company realized approximately $(0.4) million and $0.4 million, respectively,
of hedging gains (losses) which are included in oil and natural gas revenues
in the consolidated statements of operations. For the six months ended June
30, 2000 and 1999, the Company had hedged 40% and 37%, respectively, of its
oil and natural gas production, and as of June 30, 2000 the Company had 2.4
Bcfe of open oil and natural gas contracts for the months of July 2000 through
March 2001.
(6) Commitments and Contingencies
The Company has been named as a defendant in a lawsuit filed June 1, 1999 by
Energy Drilling Company ("Energy Drilling"), in the Parish of Catahoula,
Louisiana arising from a blowout of the Victor P. Vegas #1 well that was
drilled and operated by the Company. Energy Drilling, the drilling rig
contractor on the well, is claiming damages related to their destroyed
drilling rig and related costs amounting to approximately $1.2 million, plus
interest, attorneys' fees and costs.
The Company has been named in a lawsuit brought by Victor P. Vegas, the
landowner of the surface location of the blowout well referenced above. The
suit was filed July 20, 1999 in the Parish of Orleans, Louisiana, claiming
unspecified damages related to environmental and other matters.
F-33
<PAGE>
MILLER EXPLORATION COMPANY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
(Unaudited)
The Company has been named in a lawsuit brought by Charles Strickland,
employee of BJ Services, Inc., on September 30, 1999. The suit is claiming
damages of $1.0 million for personal injuries allegedly suffered at a well
site operated by the Company.
The Company has been named in a lawsuit brought by Eric Parkinson, husband
and personal representative of the Estate of Kelly Anne Parkinson (deceased).
The amended complaint was filed December 13, 1999, in the County of Hillsdale,
Michigan, claiming an unspecified amount plus interest and attorney fees for
suffering the loss of the deceased. Kelly Anne Parkinson was killed in an
automobile accident on February 2, 1999, while traveling on a county road
located next to land wherein the Company is lessee of underground mineral
rights. The plaintiff alleges that the accident was the result of mud dragged
on the road from the leased property and alleges that the Company was
negligent in its duty to conduct its operations at the site with reasonable
care.
The Company received notice on February 1, 2000 that AHC became a defendant
in a lawsuit as operator of certain Texas properties wherein Miller Oil
Corporation was a joint venture partner. The claimant alledges that he
contacted leukemia during his 17 year employment at Schlumberger while working
on various wells in Texas. Approximately 25 oil and gas companies have been
named as defendants in this suit. AHC has tendered defense and indemnity of
this lawsuit to Schlumberger and has agreed to pursue defense on behalf of all
working interest owners including the Company in this case. The case is in the
early stages of discovery.
The Company believes it has meritorious defenses to the claims discussed
above and intends to vigorously defend these lawsuits. The Company does not
believe that the final outcome of these matters will have a material adverse
effect on the Company's operating results, financial condition or liquidity.
Due to the uncertainties
inherent in litigation, however, no assurances can be given regarding the
final outcome of each action. The Company currently believes any costs
resulting from the lawsuits mentioned above would be covered by the Company's
insurance.
On May 1, 2000, the Company filed a lawsuit in the United States District
Court for the District of Montana against K2 America Corporation and K2 Energy
Corporation (hereinafter collectively referred to as "K2"). The Company's
lawsuit includes certain claims of relief and allegations by the Company
against K2, including breach of contract arising from failure by K2 to agree
to escrow, repudiation, and rescission; specific performance; declaratory
relief; partition of K2 lands that are subject to the K2/Blackfeet IMDA;
negligence; and tortuous interference with contract. The lawsuit is on file
with the United States District Court for the District of Montana, Great Falls
Division and is not subject to protective order.
On May 1, 2000, the Company gave notice to the Blackfeet Tribal Business
Council demanding arbitration of all disputes as provided for under the Indian
Mineral Development Act ("IMDA") agreement between the Company and the
Blackfeet (the "Miller/Blackfeet IMDA") dated February 19, 1999, and pursuant
to the IMDA agreement between K2 and the Blackfeet ("K2/Blackfeet IMDA") dated
May 30, 1997.
The disputes for which the Company demands arbitration include but are not
limited to the unreasonable withholding of a consent to a drilling extension
as provided in the Miller/Blackfeet IMDA, as well as a determination by the
Blackfeet dated March 16, 2000, that certain wells which the Company proposed
to drill "would not satisfy the mandatory drilling obligations" under the
K2/Blackfeet IMDA. The Company contends the K2/Blackfeet IMDA, gives it as
lessee, and not the Blackfeet, the exclusive right to select drill sites and
well depths.
F-34
<PAGE>
MILLER EXPLORATION COMPANY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
(Unaudited)
(7) Related Party Transactions
During 1999, an affiliated entity purchased a working interest in certain
unproved oil and gas properties from the Company for $3.9 million. The Company
believes that the purchase price was representative of the fair market value
of these interests and that the terms were consistent with those available to
unrelated parties.
(8) Non-Cash Activities
In February 2000 and 1999, 43,500 and 54,750 shares of restricted stock,
respectively, vested. In connection therewith, the Company recognized
compensation expenses of approximately $60,000 and $178,000 for the six months
ended June 30, 2000 and 1999, respectively. In February and June 2000, 37,210
and 12,329 shares of Company common stock, respectively, were issued to the
Company's 401(k) savings plan as an employer matching contribution. Beginning
from April 14, 1999, interest expense is being provided for under the Veritas
Note with warrants rather than through the payment of cash. These non-cash
activities have been excluded from the consolidated statements of cash flows.
(9) Subsequent Events
On July 11, 2000, the Company entered into a Securities Purchase Agreement
(the "Securities Purchase Agreement") with Guardian Energy Management
Corporation ("Guardian"). Pursuant to the Securities Purchase Agreement, the
Company issued to Guardian a convertible promissory note in the amount of $5.0
million, and three warrants exercisable, for 1,562,500, 2,500,000 and
9,000,000 shares of the Company's common stock respectively. Conversion of the
note and exercise of the warrants are subject to stockholder approval.
On July 12, 2000, the Company signed a letter agreement (the "Eagle
Transaction") to sell, in exchange for $2.0 million in undeveloped oil and gas
properties and $0.5 million in cash, a total of 1,851,851 shares of common
stock to Eagle Investments, Inc., ("Eagle") an affiliated entity controlled by
C. E. Miller, the Chairman of the Company. In addition, Eagle will be issued
warrants exercisable for a total of 2,031,250 shares of common stock.
Consummation of the transaction with Eagle is subject, among other things, to
stockholder approval.
Also on July 11, 2000, the Company entered into a Subscription Agreement
with ECCO Investments, LLC ("ECCO"), pursuant to which ECCO purchased 370,370
shares of the Company's common stock for an aggregate purchase price of $0.5
million or $1.35 per share.
F-35
<PAGE>
ANNEX A
THIS NOTE HAS NOT BEEN REGISTERED UNDER THE SECURITIES ACT OF 1933, AS
AMENDED, OR ANY STATE SECURITIES LAWS. THIS NOTE MAY NOT BE PLEDGED, SOLD,
OFFERED FOR SALE, TRANSFERRED, OR OTHERWISE DISPOSED OF UNTIL THE HOLDER
HEREOF PROVIDES INFORMATION SATISFACTORY TO THE ISSUER (WHICH, IN THE
DISCRETION OF THE ISSUER, MAY INCLUDE AN OPINION OF COUNSEL SATISFACTORY TO
THE ISSUER) THAT SUCH PLEDGE, SALE, OFFER, TRANSFER, OR OTHER DISPOSITION WILL
NOT VIOLATE APPLICABLE FEDERAL OR STATE LAWS.
PROMISSORY NOTE
U.S. $5,000,000 July 11, 2000
1. Promise to Pay; Interest Rate. On September 1, 2003 (the "Maturity
Date"), for value received, the undersigned, Miller Exploration Company, a
Delaware corporation (the "Company"), promises to pay to the order of Guardian
Energy Management Corp., a Michigan corporation or any of its assigns which
holds this Note ("Payee"), the principal sum of U.S. FIVE MILLION DOLLARS
($5,000,000), without interest (except as provided below). Upon the failure to
make any payment when due of principal, the failure of the stockholders of the
Company to approve the issuance of the Conversion Shares (as hereinafter
defined) at the meeting of stockholders of the Company contemplated by Section
9 hereof, or the occurrence and continuation of any Event of Default (as
hereinafter defined) under any instrument evidencing, relating to, or securing
payment of this Note, the principal balance of this Note and any accrued,
unpaid past-due interest shall bear interest from the date hereof until the
payment in full of all principal and interest outstanding from time to time
under this Note at a rate per annum which from day to day shall equal (i) the
Maximum Rate (as hereinafter defined), or (ii) (a) for a period of 365 days
from the date hereof, at the sum of the Prime Rate plus ten percent (10%) per
annum, (b) for the period of 365 days thereafter, at the sum of the Prime Rate
plus twelve percent (12%) per annum, and (c) thereafter at the sum of the
Prime Rate plus fifteen percent (15%) per annum, whichever is lower. "Prime
Rate" shall mean the annual rate of interest published daily in the Wall
Street Journal as the "Prime Rate." Subject to provisions set forth in
Sections 7 and 8 hereof, all payments of principal made by the Company
hereunder, shall be made in immediately available funds, in lawful money of
the United States of America at such location as is directed by Payee without
set-off, deduction or counterclaim, or at Payee's option and subject to the
provisions of the following paragraph, by the issuance of warrants ("Principal
Warrants") exercisable for the purchase of shares of the Company's common
stock, par value $.01 per share ("Common Stock"). Principal Warrants shall be
exercisable for a number of shares of Common Stock equal to the amount of the
principal payment divided by the lower of: (a) the weighted average of the
closing prices of the Common Stock on the NASDAQ National Market System or
other principal exchange or quotation system on which the Common Stock is then
traded or listed (in each case as reported by the Wall Street Journal) for the
thirty consecutive trading days ending on the trading day immediately prior to
the date on which such Principal Warrant is issued; or (b) one dollar and
twenty-five cents ($1.25) per share. Subject to the provisions of the
following paragraph and Sections 7 and 8 hereof, payments of interest
hereunder, if any, shall be paid by the Company, at the Company's option,
either in immediately available funds or by the issuance of warrants
("Interest Warrants," and together with the Principal Warrants, the "Payment
Warrants') exercisable for the purchase of shares of Common Stock. Interest
Warrants shall be exercisable for a number of shares of Common Stock equal to
the remainder of the subject amount of interest divided by the lower of: (a)
the weighted average of the closing prices of the Common Stock on the NASDAQ
National Market System or other principal exchange or quotation system on
which the Common Stock is then traded or listed (in each case as reported by
the Wall Street Journal) for the thirty consecutive trading days ending on the
trading day immediately prior to the date on which such Interest Warrant is
issued; or (b) one dollar and twenty-five cents ($1.25) per share. Interest
hereunder, if any, shall accrue and be payable on December and June of
each year following the date hereof. The per share exercise price for any
Principal Warrants or Interest Warrants issued hereunder shall be $.01 per
share.
A-1
<PAGE>
The provisions of the preceding paragraph notwithstanding, in no event shall
the Company issue Payment Warrants as payment of principal and/or interest on
the Note which are exercisable for more than two million one hundred fifty-
seven thousand seven hundred and sixty-seven (2,157,767) shares of Common
Stock.
The term "Maximum Rate" as used herein means the maximum rate of interest
permitted under applicable law. The term "applicable law," as used in this
Note, shall mean the applicable laws of the State of Delaware or applicable
laws of the United States, whichever laws allow the greater rate of interest,
as such laws now exist or may be changed or amended or come into effect in the
future.
2. Subordination. Payee agrees that all indebtedness and obligations of the
Company to Payee evidenced by this Note, including, without limitation, all
obligations for the payment of principal, interest, penalties, fees, costs,
expenses and indemnities (the "Subordinated Obligations"), shall be and hereby
are subordinated in right of payment and claim in favor of the indebtedness
and obligations of the Company, not to exceed fourteen million United Stated
dollars (US $14,000,000) in principal amount, under that certain credit
agreement dated as of February 9, 1998, as amended from time to time, by and
between the Company and Bank of Montreal, Houston Agency and any successor or
replacement credit facilities or borrowings of the Company that do not by
their terms provide that they are subordinate to or pari passu with this Note
(the "Senior Obligations"). Except pursuant to the provisions set forth in
Section 8, until the Senior Obligations have been paid in full and all
obligations of the Company with respect thereto have terminated, Payee agrees
that it will not request, demand, accept, or receive (by set-off or other
manner), and the Company agrees that it will not pay or deliver to Payee,
whether by payment, prepayment, set-off or otherwise, any payment amount,
credit, reduction of all or any part of the amounts owing under the
Subordinated Obligations; provided, however, that nothing in this Section 2
shall be interpreted to prohibit the Company or Payee from exercising their
respective rights to convert the amounts owing under this Note or the Payment
Warrants, if any, into shares of the Company's common stock, par value $0.01
per share (the "Common Stock") pursuant to the provisions of Section 7 hereof.
The Company covenants and agrees with Payer that it shall not extend maturity
of its Senior Obligations beyond September 1, 2003.
3. Events of Default. The entire unpaid principal balance of, and all
accrued interest on, this Note shall immediately be due and payable at the
option of Payee (or with respect to clause (c) automatically without notice of
any kind) upon the occurrence and continuation of any one or more events of
default ("Event of Default"). For purpose of this Note, the term "Event of
Default" shall mean: (a) a failure by the undersigned to pay when due any
installment of principal or interest under this Note or any other costs due
hereunder; (b) there shall have been any breach of a representation or
warranty or any material breach of any covenant or agreement set forth in this
Note or the other Transaction Documents on the part of the Company, which
breach shall not have been cured within twenty (20) days following receipt by
the Company of written notice of such breach; (c) the Company shall generally
fail to pay its debts as such debts become due, shall admit in writing its
inability to pay its debts generally, or shall make a general assignment for
the benefit of its creditors; or any proceeding shall be instituted by or
against the Company seeking to adjudicate it a bankrupt or insolvent, or
seeking liquidation, winding up, reorganization, arrangement, adjustment,
protection, relief, or composition of it or its debts under any law relating
to bankruptcy, insolvency, reorganization or relief of debtors, or seeking the
entry of an order for relief or the appointment of a receiver, trustee or
other similar official for it or for any substantial part of its property and,
in the case of any such proceeding instituted against it (but not instituted
by it), either such proceeding shall remain undismissed or unstayed for a
period of thirty (30) days or any of the actions sought in such proceeding
(including, without limitation, the entry of an order for relief against it or
the appointment of a receiver, trustee, custodian or other similar official
for it or for any substantial part of its property) shall occur, or the
Company shall take any action to authorize any of the actions set forth above
in this clause (c).
The term "Transaction Documents" as used herein means the collective
reference to the Securities Purchase Agreement dated as of the date hereof
(the "Securities Purchase Agreement") by and between the Company and Payee,
and each other agreement, document and instrument required to be executed in
accordance therewith, including, without limitation (as each such term is
defined in the Securities Purchase Agreement) (i) the Voting Agreement, (ii)
the Warrants, (iii) the Registration Rights Agreement and (iv)this Note.
A-2
<PAGE>
4. Application of Payments. Each payment received by the Payee shall be
applied first to the payment of any costs due hereunder, then to any accrued
interest due hereunder and then to the reduction of the unpaid principal
balance thereof.
5. Waivers. Except as may be otherwise provided herein, the makers, signers,
sureties and endorsers of this Note severally waive demand, presentment,
notice of dishonor, notice of intent to demand or accelerate payment hereof,
notice of acceleration, diligence in collecting, grace, notice and protest,
and agree to one or more extensions for any period or periods of time and
partial payments, before or after maturity, without prejudice to Payee; and if
this Note shall be collected by legal proceedings or through a probate or
bankruptcy court, or shall be placed in the hands of an attorney for
collection after default or maturity, the undersigned agrees to pay all costs
of collection, including reasonable attorneys' fees. No delay or omission on
the part of Payee in the exercise of any right or remedy will operate as a
waiver thereof, and no single or partial exercise by Payee of any right or
remedy will preclude other or further exercise thereof or the exercise of any
other right or remedy.
6. Usury Savings. All agreements between the undersigned and the Payee,
whether now existing or hereafter arising and whether written or oral, are
hereby limited so that in no contingency or event whatsoever, whether by
reason of demand or acceleration of the maturity hereof or otherwise, shall
the amount contracted for, charged, received, paid or agreed to be paid to the
holder hereof for the use, forbearance, or detention of the funds evidenced
hereby or otherwise, or for the performance or payment of any covenant or
obligation contained in any instrument securing the payment hereof, exceed the
maximum amount permissible under applicable law. If, from any circumstance
whatsoever, interest would otherwise be payable to the holder hereof in excess
of the maximum lawful amount, the interest payable to the holder hereof shall
be reduced to the maximum amount permitted under applicable law; and if from
any circumstance the holder hereof shall ever receive anything of value deemed
interest by applicable law in excess of the maximum lawful amount, an amount
equal to any excessive interest shall be applied to the reduction of the
principal hereof and not to the payment of interest, or if such excessive
interest exceeds the unpaid balance of principal hereof, such excess shall be
refunded to the undersigned. All interest paid or agreed to be paid to the
holder hereof shall, to the extent permitted by applicable law, be amortized,
prorated, allocated and spread throughout the full period of the loan
evidenced hereby until payment in full of the principal (including the period
of any renewal or extension hereof) so that the interest hereon for such full
period shall not exceed the maximum amount permitted by applicable law.
7. Conversion Right.
(a) General. Upon the approval of the issuance of the Conversion Shares at
the meeting of stockholders of the Company contemplated by Section 9 hereof by
a majority of the votes cast with respect to such matter, or by consent in
lieu of such meeting (the "Requisite Stockholder Approval"), all but not less
than all of the principal amount, interest and any other costs due hereunder
shall automatically be converted, without any further action on the part of
the Company or the Payee, into the right to receive a number of shares of
Common Stock equal to the amount so converted divided by $1.35 (the
"Conversion Price"). Upon receipt of the Requisite Stockholder Approval, the
Company shall deliver a duly signed and completed notice of such conversion
(the "Conversion Notice") to the offices of the Payee at the address set forth
on the signature page hereto, accompanied by a written request for immediate
delivery to the Company of the Note. As promptly as practicable after receipt
of the Note, the Company will execute and deliver to the Payee or, if
applicable, any designee of Payee a certificate or certificates representing
the number of full shares of Common Stock issuable upon conversion (which
certificate shall be issued in the name of Payee or any other person
designated by Payee in the applicable Conversion Notice and executed on behalf
of the Company by a duly authorized officer), together with payment in lieu of
any fraction of a share. Notwithstanding the foregoing, such conversion shall
be deemed to have been effected immediately prior to the close of business on
the date the Requisite Stockholder Approval is received. All shares of Common
Stock issued upon conversion of this Note (the "Conversion Shares") or upon
the exercise of the Interest Warrants will be validly issued, fully paid and
non-assessable and the issuance of such shares will not be subject to any
lien, security interest, claim, charge, right of another, defect in title and
encumbrance of any kind or character (other than as imposed by the Securities
Act of 1933, as amended) or preemptive right of any other holder of capital
stock of the Company. Holders of Conversion Shares will not be
A-3
<PAGE>
entitled to receive any dividends payable to holders of Common Stock as of any
record time or date before the close of business on the Conversion Date. No
fractional shares will be issued upon conversion of this Note, but, in lieu
thereof, an appropriate amount will be paid in cash by the Company based upon
the Conversion Price. The Payee will not be required to pay any taxes or
duties in respect of the issue or delivery of Common Stock on conversion, but
will be required to pay any tax or duty which may be payable in respect of any
transfer involved in the issue or delivery of the Common Stock in a name other
than that of the Payee.
(b) Reclassification, Consolidation, Merger or Sale of Assets. In the event
that the Company shall be a party to any transaction (including without
limitation (i) any recapitalization or reclassification of the Common Stock
(other than a change in par value, or from par value to no par value, or from
no par value to par value), (ii) any combination or subdivision of Common
Stock into a lesser or greater number of shares of Common Stock, (iii) any
consolidation of the Company with, or merger of the Company into, any other
person, (iv) any merger of another person into the Company (other than a
merger which does not result in a reclassification, conversion, exchange or
cancellation of outstanding shares of Common Stock of the Company), or (v) any
sale or transfer of all or substantially all of the assets of the Company or
any compulsory share exchange) pursuant to which the Common Stock is converted
into the right to receive other securities, cash or other property, then
lawful provision shall be made as part of the terms of such transaction
whereby Payee shall have the right thereafter to convert this Note only into
the kind and amount of securities, cash and other property receivable upon
such transaction by a holder of the number of shares of Common Stock into
which this Note could have been converted immediately prior to such
transaction. The entity formed by such consolidation or resulting from such
merger or which acquires such assets or which acquires the Company's shares,
as the case may be, shall make provision in its certificate or articles of
incorporation or other constituent document to establish such right. The above
provisions shall similarly apply to successive transactions of the foregoing
type.
(c) Common Stock Dilutions. In the event that prior to the issuance of the
Conversion Shares the Company issues or agrees to issue additional shares of
Common Stock pursuant to a stock split or stock dividend, or dividend or
distribution of rights to purchase stock, then the number of Conversion Shares
and the Conversion Price therefore shall be adjusted proportionately. For
purposes of this Note, all shares of the Company's stock that are reserved for
issuance (other than shares of stock that are to be issued to the Payee) as of
the date of this Note shall be deemed to have been issued for the purpose of
calculating the number of Conversion Shares and the applicable Conversion
Price. The Company hereby covenants and agrees with Payee that it will not
declare or pay or make any dividend or distribution in cash or property prior
to the issuance of the Conversion Shares.
(d) Reservation of Shares; Etc. The Company shall at all times reserve and
keep available, free from preemptive rights out of its authorized and unissued
stock, solely for the purpose of effecting the conversion of this Note, such
number of shares of its Common Stock as shall from time to time be sufficient
to effect the conversion of all amounts payable under this Note from time to
time. The Company shall from time to time, in accordance with the laws of the
State of Delaware, increase the authorized number of shares of Common Stock if
at any time the number of shares of authorized and unissued Common Stock shall
not be sufficient to permit the conversion of all the amounts payable under
this Note from time to time.
(e) Prior Notice of Certain Events. In the event:
(i) the Company establishes a record date to determine the holders of
Common Stock who are entitled to (A) receive any dividend or other
distribution (other than a dividend payable in shares of Common Stock), (B)
participate in a redemption or repurchase of the then-outstanding shares of
Common Stock, or (C) vote in connection with any of the transactions
identified in clauses (ii), (iii), (iv) or (v) below; or
(ii) the Company shall (A) declare any dividend (or any other
distribution) on its Common Stock, other than a dividend payable in shares
of Common Stock or (B) declare or authorize a redemption or repurchase of
the then-outstanding shares of Common Stock; or
(iii) the Company shall authorize the granting to all holders of Common
Stock of rights or warrants to subscribe for or purchase any shares of
stock of any class or series or of any other rights or warrants; or
A-4
<PAGE>
(iv) of any reclassification of Common Stock (other than a change in par
value, or from par value to no par value, or from no par value to par
value), or of any other capital reorganization or of any consolidation or
merger to which the Company is a party, or of the sale or transfer of all
or substantially all of the assets of the Company or of any compulsory
share exchange whereby the Common Stock is converted into other securities,
cash or other property; or
(v) of the voluntary or involuntary dissolution, liquidation or winding
up of the Company or such event is likely to occur; then the Company shall
cause to be mailed to the Payee, at its address as provided to the Company
from time to time by written notice of Payee, a notice stating (x) the date
on which a record (if any) is to be taken with respect to clause (i) above,
(y) the date on which any transaction or event contemplated in any of
clauses (i) through and including clause (v) above is expected to become
effective or the date of the anticipated closing of the public offering,
and (z) the time, if any is fixed, as to when the holders of record of
Common Stock shall be entitled to exchange their shares of Common Stock for
securities or other property deliverable upon any such reclassification,
reorganization, consolidation, merger, sale, transfer, share exchange,
dissolution, liquidation or winding up. Each notice of an event specified
in clause (i) above shall be sent at least five (5) days prior to the
record date specified therein and each notice of an event specified in
clauses (ii) through and including (v) above shall be delivered at least
twenty (20) days prior to the proposed closing of such transaction.
8. Purchase of Assets to Satisfy Note.
(a) Right to Purchase. Any provision in this Note to the contrary
notwithstanding, in the event the Company does not receive the Requisite
Stockholder Approval within six (6) months from the date hereof, then the
Company shall promptly notify Payee in writing of such (the "Company Notice")
and Payee shall have the right to purchase from the Company an undivided
interest in (i) all of the Company's current producing and non-producing
properties (the "Reserve Assets") as identified in the latest reserve report
provided by Miller and Lents, Ltd., or (ii) certain of the Company's producing
or non-producing properties mutually agreed upon by the Company and Payee (the
"Other Assets," and together with the Reserve Assets, the "Assets"). Payee
must exercise its right to purchase the Assets by giving written notice (the
"Payee Notice") to the Company within sixty (60) days after receipt of the
Company Notice.
(b) Determination of Purchase Price. Payee shall have the right to determine
the percentage of the undivided interest in the Assets purchased pursuant
hereto, provided that (i) subject to the provisions of clause (ii) of this
Section 8(b), the amount of Assets purchased hereunder shall be limited to an
amount sufficient to satisfy both the borrowing base assigned to such Assets
by the Company's senior lender and the Company's obligations under this Note,
and (ii) in the event Payee elects to purchase less than the undivided
percentage interest in the Assets provided for in clause (i), the purchase
price of the interest purchased shall be an amount equal to a minimum of
$500,000 or some multiple thereof. The price of the Assets purchased pursuant
to this Section 8 shall be the price reflected in a reserve report as of the
date of receipt of the Payee Notice, at a present value discount of 15% using
either (i) the price deck given such Assets by the lender on the Company's
senior credit facility, or (ii) to the extent applicable, the price at which
such Assets are hedged. The Company shall also provide a reserve report as of
the date of closing on the sale of the Assets hereunder.
(c) Allocation of Proceeds. The proceeds of any sale of Assets pursuant
hereto shall be applied first to any required principal reduction under the
Company's senior credit facility, next to the cancellation of accrued, unpaid
and past due interest under this Note, and finally to satisfaction of
principal outstanding under this Note.
(d) Terms and Conditions of Sale; Closing. The terms and conditions of any
sale of Assets hereunder will be as is customary for the sale of similar
assets or properties. The closing of any sale of Assets hereunder must occur
no later than 60 days from the receipt by the Company of the Payee Notice. The
Company hereby covenants and agrees that it will take all actions necessary to
validly transfer to Payee the undivided interest of any Assets purchased by
Payee pursuant to this Section 8.
A-5
<PAGE>
9. Stockholder Approval; Proxy Statement. The Company shall take all actions
necessary or desirable in accordance with its certificate of incorporation,
bylaws, the rules of the NASDAQ National Market and other applicable laws,
rules and regulations to call one or more meetings of its stockholders (the
"Stockholders' Meeting") to be held as promptly as practicable after the date
hereof for obtaining the approval of the stockholders to the Share Issuance
contemplated by the Securities Purchase Agreement. The Company and Payee shall
consult with each other in connection with the Stockholders' Meeting. The
Company shall use commercially reasonable efforts to cause its Board of
Directors (a) to recommend to the Company's stockholders approval of the
issuance of the Conversion Shares, (b) not to withdraw, modify or change such
recommendation, (c) to continue to recommend to the stockholders of the
Company the approval of such matters, and (d) to continue to solicit approval
from the stockholders of the Company.
10. Amendments, Waivers, Etc. No provision of this Note may be waived,
changed, modified or discharged without an agreement in writing signed by the
party against whom enforcement of such waiver, change, modification or
discharge is sought, and then such waiver, change, modification or discharge
shall be effective only in the specific instance and for the specific purpose
for which given.
11. Successors and Assigns. This Note and all provisions hereof shall be
binding upon the Company and all of its successors and assigns, except that
the Company shall not have the right to assign its rights or obligations
hereunder (other than by operation of law) without the prior written consent
of Payee. Payee may not, without the consent of or notice to the Company,
sell, transfer or otherwise assign (with or without recourse to Payee), at any
time, any or all of its rights and obligations under this Note.
12. Waiver of Jury Trial. TO THE FULLEST EXTENT PERMITTED BY LAW, EACH OF
THE PARTIES HERETO IRREVOCABLY WAIVES ALL RIGHT TO TRIAL BY JURY IN ANY
ACTION, PROCEEDING OR COUNTERCLAIM ARISING OUT OF OR IN CONNECTION WITH THIS
NOTE OR ANY OTHER MATTER ARISING IN CONNECTION HEREUNDER.
13. Notices. All notices and other communications provided to the Company or
the Payee shall be in writing or by facsimile and addressed or delivered to it
at its respective address set forth on the signature page hereto or at such
other address as may be designated by the Company or the Payee, as the case
may be, from time to time in a notice complying as to delivery with the terms
of this clause to the other parties. Any notice, if mailed and properly
addressed with postage prepaid, shall be deemed given when received (except
notices sent by express overnight mail via a reputable carrier shall be deemed
given when receipt is promised by such carrier); any notice, if transmitted by
facsimile, shall be deemed given when transmitted and receipt confirmed; and
any notice, if delivered personally, shall be deemed given when received.
14. Headings. Article, section and paragraph headings are for reference only
and do not affect the interpretation or meaning of any provisions of this
Note.
15. Severability. The Company intends and believes that each provision in
this Note comports with all applicable local, state and Federal laws and
judicial decisions. However, if any provision or provisions, or if any portion
of any provision or provisions, in this Note is found by a court of law to be
in violation of any applicable local, state or Federal ordinance, statute,
law, administrative or judicial decision, or public policy, and if such court
should declare such portion, provision or provisions of this Note to be
illegal, invalid, unlawful, void or unenforceable as written, then it is the
intent of all parties hereto that such portion, provision or provisions shall
be given force to the fullest possible extent that they are legal, valid and
enforceable, that the remainder of this Note shall be construed as if such
illegal, invalid, unlawful, void or unenforceable portion, provision or
provisions were not contained therein, and that the rights, obligations and
interests of the Company and the Payee under the remainder of this Note shall
continue to be in full force and effect.
16. Applicable Law. THIS NOTE SHALL BE CONSTRUED IN ACCORDANCE WITH THE LAW
OF THE STATE OF DELAWARE AND THE LAWS OF THE UNITED STATES OF AMERICA
APPLICABLE TO TRANSACTIONS IN THE STATE OF DELAWARE.
A-6
<PAGE>
Executed as of the date first set forth above.
Miller Exploration Company
/s/ Kelly E. Miller
By: _________________________________
Kelly E. Miller
President
NOTICE ADDRESSES
If to the Company, to
Miller Exploration Company
3104 Logan Valley Road
Traverse City, Michigan 49685
Facsimile: (231) 941-8312
Attention: Kelly E. Miller
with a copy to
Vinson & Elkins L.L.P.
2001 Ross Avenue
Suite 3700
Dallas, Texas 75201
Facsimile: (214) 220-7716
Attention: Mark Early
If to Payee, to
Guardian Energy Management Corp.
2300 Harmon Road
Auburn Hills, Michigan 48326-1714
Facsimile: (248) 340-2258
Attention: Vice President--
Operations
with a copy to
Guardian Energy Management Corp.
2300 Harmon Road
Auburn Hills, Michigan 48326-1714
Facsimile: (248) 340-2175
Attention: Secretary
A-7
<PAGE>
ANNEX B-1
THE SECURITIES REPRESENTED BY THIS WARRANT AND THE COMMON STOCK ISSUABLE
THEREBY HAVE NOT BEEN AND WILL NOT BE, EXCEPT AS PROVIDED IN THE REGISTRATION
RIGHTS AGREEMENT REFERRED TO BELOW, REGISTERED UNDER THE SECURITIES ACT OF
1933, AS AMENDED (THE "SECURITIES ACT"), OR ANY OTHER APPLICABLE SECURITIES
LAW AND, ACCORDINGLY, THE SECURITIES REPRESENTED BY THIS CERTIFICATE MAY NOT
BE RESOLD, PLEDGED, OR OTHERWISE TRANSFERRED, EXCEPT PURSUANT TO AN EFFECTIVE
REGISTRATION STATEMENT UNDER, OR IN A TRANSACTION EXEMPT FROM REGISTRATION
UNDER, THE SECURITIES ACT AND IN ACCORDANCE WITH ANY OTHER APPLICABLE
SECURITIES LAWS.
WARRANT
to Purchase 1,562,500 Shares of Common Stock of
MILLER EXPLORATION COMPANY
This Common Stock Purchase Warrant (the "Warrant") certifies that for value
received, Guardian Energy Management Corp., a Michigan corporation
("Guardian"), or its assigns, is entitled to subscribe for and purchase from
Miller Exploration Company, a Delaware corporation (the "Company"), in whole
or in part, 1,562,500 shares (the "Warrant Shares") of Common Stock, par value
$0.01 per share, of the Company ("Common Stock") at the Exercise Price (as
hereinafter defined), subject, however, to the provisions and upon the terms
and conditions hereinafter set forth This Warrant and all rights hereunder
shall expire at 5:00p.m., Traverse City, Michigan time, on the first
anniversary of the approval of the Conversion Shares by the stockholders of
the Company (the "Termination Date").
ARTICLE I
Exercise of Warrants
1.1 Term; Exercise Price. The Warrant represented hereby may be exercised by
the holder hereof, in whole or in part, at any time and from time to time
after the date hereof until 5:00p.m., Traverse City, Michigan time, on the
Termination Date (the "Term"). Subject to adjustment as provided in Article IV
hereof, the exercise price for shares of Common Stock under this Warrant shall
be $1.35 per share of Common Stock (the "Exercise Price").
1.2 Method of Exercise. To exercise this Warrant, the holder hereof shall
deliver to the Company, at the Warrant Office designated in Section 2.1
hereof, (i) a written notice in the form of the Subscription Notice attached
as Exhibit A hereto, stating therein the election of such holder to exercise
the Warrants in the manner provided in the Subscription Notice; and (ii)
payment in full of the Exercise Price in cash or by wire transfer or check for
all Warrant Shares purchased hereunder. This Warrant shall be deemed to be
exercised on the date of receipt by the Company of the Subscription Notice,
accompanied by payment for the Warrant Shares and surrender of this Warrant,
as aforesaid, and such date is referred to herein as the "Exercise Date". Upon
such exercise, the Company shall, as promptly as practicable and in any event
within five business days, issue and deliver to such holder a certificate or
certificates for the full number of the Warrant Shares purchased by such
holder hereunder. As permitted by applicable law, the person in whose name the
certificates for Common Stock are to be issued shall be deemed to have become
a holder of record of such Common Stock on the Exercise Date and shall be
entitled to all of the benefits of such holder on the Exercise Date, including
without limitation the right to receive dividends and other distributions for
which the record date falls on or after the Exercise Date and to exercise
voting rights.
1.3 Expense and Taxes. The Company shall pay all expenses and taxes
(including, without limitation, all documentary, stamp, transfer or other
transactional taxes) attributable to the preparation, issuance or delivery of
the Warrant and of the shares of Common Stock issuable upon exercise of the
Warrant.
B-1-1
<PAGE>
1.4 Reservation of Shares. The Company shall reserve at all times so long as
the Warrant remain outstanding, free from preemptive rights, out of its
treasury Common Stock or its authorized but unissued shares of Common Stock,
or both, solely for the purpose of effecting the exercise of the Warrant, a
sufficient number of shares of Company Stock to provide for the exercise of
the Warrant.
1.5 Valid Issuance. All shares of Common Stock that may be issued upon
exercise of the Warrant will, upon issuance by the Company, be duly and
validly issued, fully paid and nonassessable and free from all taxes, liens
and charges with respect to the issuance thereof and, without limiting the
generality of the foregoing, the Company shall take no action or fail to take
any action which will cause a contrary result.
1.6 No Fractional Share. The Company shall not be required to issue
fractional shares of Common Stock on the exercise of this Warrant. If more
than one Warrant shall be presented for exercise at the same time by the same
holder, the number of full shares of Common Stock which shall be issuable upon
such exercise shall be computed on the basis of the aggregate number of whole
shares of Common Stock purchasable on exercise of the Warrant so presented. If
any fraction of a share of Common Stock would, except for the provisions of
this Section 1.6, be issuable on the exercise of this Warrant, the Company
shall pay an amount in cash calculated by it to be equal to the price of one
share of Common Stock as quoted on the NASDAQ National Market System at the
close of business on the date of such exercise multiplied by such fraction
computed to the nearest whole cent.
ARTICLE II
Transfer
2.1 Warrant Office. The Company shall maintain an office for certain
purposes specified herein (the "Warrant Office"), which office shall initially
be the Company's offices at 3104 Logan Valley Road, P.O. Box 348, Traverse
City, Michigan 49685-0348, and may subsequently be such other office of the
Company or of any transfer agent of the Common Stock in the continental United
States as to which written notice has previously been given to the holder
hereof. The Company shall maintain, at the Warrant Office, a register for the
Warrants in which the Company shall record the name and address of the person
in whose name this Warrant has been issued, as well as the name and address of
each permitted assignee of the rights of the registered owner hereof.
2.2 Limited Right of Transfer. This Warrant may not be directly or
indirectly sold, assigned, pledged, hypothecated, encumbered, transferred or
otherwise disposed of without the prior written consent of the Company;
provided, however, that Guardian may assign its interest in this Warrant to
one or more of the entities or individuals listed on Schedule 2.2 hereto upon
receipt by the Company of (a) evidence, in form and substance satisfactory to
the Company, that each such assignee is an "Accredited Investor" as defined
under Rule 501 of the Securities Act, or (b) an opinion of the Company's
counsel that such assignment can be made without registration under the
Securities Act.
2.3 Transfer of Warrant. The Company agrees to maintain at the Warrant
Office books for the registration and transfer of the Warrant. Subject to the
provisions of Section 2.2, the Company, from time to time, shall register the
transfer of the Warrant in such books upon surrender of this Warrant at the
Warrant Office properly endorsed or accompanied by appropriate instruments of
transfer and written instructions for transfer satisfactory to the Company.
Upon any such transfer and upon payment by the holder or its transferee of any
applicable transfer taxes, new Warrants shall be issued to the transferee and
the transferor (as their respective interests may appear) and the surrendered
Warrant shall be canceled by the Company. The Company shall pay all taxes
(other than securities transfer taxes) and all other expenses and charges
payable in connection with the transfer of the Warrant hereunder.
B-1-2
<PAGE>
ARTICLE III
Anti-Dilution
3.1 Reclassification, Consolidation, Merger or Sale of Assets. In the event
that the Company shall be a party to any transaction (including without
limitation (i) any recapitalization or reclassification of the Common Stock
(other than a change in par value, or from par value to no par value, or from
no par value to par value), (ii) any combination or subdivision of the Common
Stock into a lesser or greater number of shares of Common Stock, (iii) any
consolidation of the Company with, or merger of the Company into, any other
person, (iv) any merger of another person into the Company (other than a
merger which does not result in a reclassification, conversion, exchange or
cancellation of outstanding shares of Common Stock of the Company), or (v) any
sale or transfer of all or a material amount of all of the assets of the
Company or any compulsory share exchange) pursuant to which the Common Stock
is converted into the right to receive other securities, cash or other
property, then lawful provision shall be made as part of the terms of such
transaction whereby the holder of this Warrant shall receive upon the exercise
hereof the kind and amount of securities, cash and other property receivable
upon such transaction by a holder of the number of shares of Common Stock for
which the Warrant was exercisable immediately prior to such transaction. The
entity formed by such consolidation or resulting from such merger or which
acquires such assets or which acquires the Company's shares, as the case may
be, shall make provision in its certificate or articles of incorporation or
other constituent document to establish such right. The above provisions shall
similarly apply to successive transactions of the foregoing type.
3.2 Common Stock Dilutions. In the event that prior to exercise of this
Warrant the Company issues or agrees to issue additional shares of Common
Stock pursuant to a stock split or stock dividend, or dividend or distribution
of rights to purchase stock, then the number of shares to be issued pursuant
to the exercise of this Warrant and the Exercise Price therefore shall be
adjusted proportionately. In the event that prior to the exercise of this
Warrant the Company issues or agrees to issue cash or property pursuant to a
dividend or distribution, this Warrant shall represent the right to acquire,
in addition to the number of shares of Common Stock receivable upon exercise
of this Warrant, and without payment of any additional consideration therefor,
the amount of such cash or property which the holder hereof would have been
entitled to receive pursuant to such dividend or distribution had it been the
holder of record of the Common Stock receivable upon exercise of this Warrant
on the record date therefor. The Company agrees and covenants that it will
not, prior to the exercise of this Warrant, in connection with any plan for
the benefit of employees or directors (i) issue a number of shares of Common
Stock, securities exercisable for Common Stock or other Common Stock
equivalents (the "Plan Securities") which in the aggregate exceeds fifteen
percent (15%) of the total shares of Common Stock outstanding as of the date
thereof, and (ii) of the Plan Securities issued pursuant to clause (i) of this
Section 3.2, issue Plan Securities which in the aggregate are equal to,
convertible into or exercisable for more than 300,000 shares of Common Stock
for consideration, including any applicable exercise or conversion price,
which is below the price quoted for the Common Stock at the close of business
on the day prior to issuance of such Plan Securities.
3.3 Prior Notice of Certain Events. In the event:
(i) the Company establishes a record date to determine the holders of Common
Stock who are entitled to (A) receive any dividend or other distribution
(other than a dividend payable in shares of Common Stock), (B) participate in
a redemption or repurchase of the then-outstanding shares of Common Stock, or
(C) vote in connection with any of the transactions identified in clauses
(ii), (iii), (iv) or (v) below; or
(ii) the Company shall (A) declare any dividend (or any other distribution)
on its Common Stock, other than a dividend payable in shares of Common Stock
or (B) declare or authorize a redemption or repurchase of the then-outstanding
shares of Common Stock; or
(iii) the Company shall authorize the granting to all holders of Common
Stock of rights or warrants to subscribe for or purchase any shares of stock
of any class or series or of any other rights or warrants; or
B-1-3
<PAGE>
(iv) of any reclassification of Common Stock (other than a change in par
value, or from par value to no par value, or from no par value to par value),
or of any other capital reorganization or of any consolidation or merger to
which the Company is a party, or of the sale or transfer of all or
substantially all of the assets of the Company or of any compulsory share
exchange whereby the Common Stock is converted into other securities, cash or
other property; or
(v) of the voluntary or involuntary dissolution, liquidation or winding up
of the Company or such event is likely to occur.
Then the Company shall cause to be mailed to the holder of this Warrant, at
its address as reflected in the Warrant Office transfer records, a notice
stating (A) the date on which a record (if any) is to be taken with respect to
clause (i) above, (B) the date on which any transaction or event contemplated
in any of clauses (i) through and including clause (v) above is expected to
become effective or the date of the anticipated closing of the public
offering, and (C) the time, if any is fixed, as to when the holders of record
of Common Stock shall be entitled to exchange their shares of Common Stock for
securities or other property deliverable upon any such reclassification,
reorganization, consolidation, merger, sale, transfer, share exchange,
dissolution, liquidation or winding up. Each notice of an event specified in
clause(i) above shall be sent at least five (5) days prior to the record date
specified therein and each notice of an event specified in clauses (ii)
through and including (v) above shall be delivered at least fifteen (15) days
prior to the proposed closing of such transaction.
ARTICLE IV
Miscellaneous
4.1 Entire Agreement. This Warrant, together with that certain registration
rights agreement of even date herewith by and between the Company and Guardian
(the "Registration Rights Agreement"), contain the entire agreement between
the holder hereof and the Company with respect to the Warrant Shares
purchasable upon exercise hereof and the related transactions and supersedes
all prior arrangements or understandings with respect thereto.
4.2 Governing Law; Venue. THIS WARRANT SHALL BE GOVERNED BY AND CONSTRUED IN
ACCORDANCE WITH THE APPLICABLE LAWS OF THE STATE OF DELAWARE AND THE UNITED
STATES OF AMERICA FROM TIME TO TIME IN EFFECT.
4.3 Waiver and Amendment. Any term or provision of this Warrant may be
waived at any time by the party which is entitled to the benefits thereof and
any term or provision of this Warrant may be amended or supplemented at any
time by agreement of the holder hereof and the Company, except that any waiver
of any term or condition, or any amendment or supplementation, of this Warrant
shall be in writing. A waiver of any breach or failure to enforce any of the
terms or conditions of this Warrant shall not in any way effect, limit or
waiver a party's rights hereunder at any time to enforce strict compliance
thereafter with every term or condition of this Warrant.
4.4 Illegality. In the event that any one or more of the provisions
contained in this Warrant shall be determined to be invalid, illegal or
unenforceable in any respect for any reason, the validity, legality and
enforceability of any such provision in any other respect and the remaining
provisions of this Warrant shall not, at the election of the party for whom
the benefit of the provision exists, be in any way impaired.
4.5 Copy of Warrant. A copy of this Warrant shall be filed among the records
of the Company.
4.6 Notice. Any notice or other document required or permitted to be given
or delivered to the holder hereof shall be in writing and delivered at, or
sent by telecopy or certified or registered mail to such holder at, the last
address shown on the books of the Company maintained at the Warrant Office for
the registration of this Warrant or at any more recent address of which the
holder hereof shall have notified the Company in writing. Any notice or other
document required or permitted to be given or delivered to the Company shall
be delivered
B-1-4
<PAGE>
at, or sent by facsimile transmission or certified or registered mail to, the
Warrant Office, or such other address within the continental United States of
America as shall have been furnished by the Company to the holder of this
Warrant.
4.7 Limitation of Liability; Not Stockholders. No provision of this Warrant
shall be construed as conferring upon the holder hereof the right to vote,
consent, receive dividends or receive notices (other than as herein expressly
provided) in respect of meetings of stockholders for the election of directors
of the Company or any other matter whatsoever as a stockholder of the Company.
No provision hereof, in the absence of affirmative action by the holder hereof
to purchase shares of Common Stock, and no mere enumeration herein of the
rights or privileges of the holder hereof, shall give rise to any liability of
such holder for the purchase price of any shares of Common Stock or as a
stockholder of the Company, whether such liability is asserted by the Company
or by creditors of the Company.
4.8 Loss, Destruction, etc. of Warrant. Upon receipt of evidence
satisfactory to the Company of the loss, theft, mutilation or destruction of
this Warrant, and in the case of any such loss, theft or destruction upon
delivery of a bond of indemnity or such other security in such form and amount
as shall be reasonably satisfactory to the Company, or in the event of such
mutilation upon surrender and cancellation of this Warrant, the Company will
make and deliver a new Warrant of like tenor, in lieu of such lost, stolen,
destroyed or mutilated Warrant. Any Warrant issued under the provisions of
this Section 4.8 in lieu of any Warrant alleged to be lost, destroyed or
stolen, or in lieu of any mutilated Warrant, shall constitute an original
contractual obligation on the part of the Company. This Warrant shall be
promptly canceled by the Company upon the surrender hereof in connection with
any exchange or replacement. The Company shall pay all taxes (other than
securities transfer taxes) and all other expenses and charges payable in
connection with the preparation, execution and delivery of Warrants pursuant
to this Section 4.8.
4.9 Compliance with Securities Act and Applicable Law. The Company shall not
be required to transfer this Warrant or to sell or issue Warrant Shares if
such transfer or issuance would constitute a violation by the Company of any
provisions of any law or regulation of any governmental authority. While the
Company is required to register the resale of the Warrant Shares by holder(s)
pursuant to the Registration Rights Agreement, in the event the Warrant Shares
issuable on exercise of this Warrant are not then registered under the Act,
the Company may imprint the following legend or any other legend which counsel
for the Company considers necessary or advisable to comply with the Securities
Act of 1933:
"The shares of stock represented by this certificate have not
been registered under the Securities Act of 1933 or under the
securities laws of any State and may not be sold, transferred or
otherwise disposed of except upon such registration or upon
receipt by the issuer, in form and substance satisfactory to the
issuer, of an opinion of the issuer's counsel that registration
is not required for such disposition."
4.10 Registration Rights. The Warrants Shares shall be entitled to such
registration rights under the Securities Act and under applicable state
securities laws as are specified in the Registration Rights Agreement.
4.11 Headings. The Article and Section and other headings herein are for
convenience only and are not a part of this Warrant and shall not affect the
interpretation thereof.
In Witness Whereof, the Company has caused this Warrant to be signed in its
name.
Dated: July 11, 2000
Miller Exploration Company
/s/ Kelly E. Miller
By: _________________________________
Name: Kelly E. Miller
Title: President
B-1-5
<PAGE>
EXHIBIT A
SUBSCRIPTION NOTICE
The undersigned, the holder of the foregoing Warrant, hereby elects to
exercise purchase rights represented thereby for, and to purchase thereunder,
shares of the Common Stock covered by such Warrant, and herewith makes
payment in full for such shares pursuant to Section 1.2 of such Warrant, and
requests that certificates for such shares (and any other securities or other
property issuable upon such exercise) be issued in the name of, and delivered
to .
_____________________________________
Dated: ___________, ____.
B-1-6
<PAGE>
SCHEDULE 2.2
LIST OF APPROVED ASSIGNEES
Jordan Exploration Company LLC
Martin G. Lagina
Robert M. Boeve
Wayne Sterenberg
Craig Tester
Any Persons (as defined in the Securities Purchase Agreement dated as of
July 11, 2000 and entered into between Guardian and the Company) who control,
are controlled by or are under common control with any of the above Persons.
B-1-7
<PAGE>
ANNEX B-2
THE SECURITIES REPRESENTED BY THIS WARRANT AND THE COMMON STOCK ISSUABLE
THEREBY HAVE NOT BEEN AND WILL NOT BE, EXCEPT AS PROVIDED IN THE REGISTRATION
RIGHTS AGREEMENT REFERRED TO BELOW, REGISTERED UNDER THE SECURITIES ACT OF
1933, AS AMENDED (THE "SECURITIES ACT"), OR ANY OTHER APPLICABLE SECURITIES
LAW AND, ACCORDINGLY, THE SECURITIES REPRESENTED BY THIS CERTIFICATE MAY NOT
BE RESOLD, PLEDGED, OR OTHERWISE TRANSFERRED, EXCEPT PURSUANT TO AN EFFECTIVE
REGISTRATION STATEMENT UNDER, OR IN A TRANSACTION EXEMPT FROM REGISTRATION
UNDER, THE SECURITIES ACT AND IN ACCORDANCE WITH ANY OTHER APPLICABLE
SECURITIES LAWS.
WARRANT
to Purchase 2,500,000 Shares of Common Stock of
MILLER EXPLORATION COMPANY
This Common Stock Purchase Warrant (the "Warrant") certifies that for value
received, Guardian Energy Management Corp., a Michigan corporation
("Guardian"), or its assigns, is entitled to subscribe for and purchase from
Miller Exploration Company, a Delaware corporation (the "Company"), in whole
or in part, 2,500,000 shares (the "Warrant Shares") of Common Stock, par value
$0.01 per share, of the Company ("Common Stock") at the Exercise Price (as
hereinafter defined), subject, however, to the provisions and upon the terms
and conditions hereinafter set forth This Warrant and all rights hereunder
shall expire at 5:00p.m., Traverse City, Michigan time, on the second
anniversary of the approval of the Conversion Shares by the stockholders of
the Company (the "Termination Date").
ARTICLE I
Exercise of Warrants
1.1 Term; Exercise Price. The Warrant represented hereby may be exercised by
the holder hereof, in whole or in part, at any time and from time to time
after the date hereof until 5:00 p.m., Traverse City, Michigan time, on the
Termination Date (the "Term"). Subject to adjustment as provided in Article IV
hereof, the exercise price for shares of Common Stock under this Warrant shall
be $2.50 per share of Common Stock (the "Exercise Price").
1.2 Method of Exercise. To exercise this Warrant, the holder hereof shall
deliver to the Company, at the Warrant Office designated in Section 2.1
hereof, (1) a written notice in the form of the Subscription Notice attached
as Exhibit A hereto, stating therein the election of such holder to exercise
the Warrants in the manner provided in the Subscription Notice; and (ii)
payment in full of the Exercise Price in cash or by wire transfer or check for
all Warrant Shares purchased hereunder. This Warrant shall be deemed to be
exercised on the date of receipt by the Company of the Subscription Notice,
accompanied by payment for the Warrant Shares and surrender of this Warrant,
as aforesaid, and such date is referred to herein as the "Exercise Date". Upon
such exercise, the Company shall, as promptly as practicable and in any event
within five business days, issue and deliver to such holder a certificate or
certificates for the full number of the Warrant Shares purchased by such
holder hereunder. As permitted by applicable law, the person in whose name the
certificates for Common Stock are to be issued shall be deemed to have become
a holder of record of such Common Stock on the Exercise Date and shall be
entitled to all of the benefits of such holder on the Exercise Date, including
without limitation the right to receive dividends and other distributions for
which the record date falls on or after the Exercise Date and to exercise
voting rights.
1.3 Expense and Taxes. The Company shall pay all expenses and taxes
(including, without limitation, all documentary, stamp, transfer or other
transactional taxes) attributable to the preparation, issuance or delivery of
the Warrant and of the shares of Common Stock issuable upon exercise of the
Warrant.
B-2-1
<PAGE>
1.4 Reservation of Shares. The Company shall reserve at all times so long as
the Warrant remain outstanding, free from preemptive rights, out of its
treasury Common Stock or its authorized but unissued shares of Common Stock,
or both, solely for the purpose of effecting the exercise of the Warrant, a
sufficient number of shares of Company Stock to provide for the exercise of
the Warrant.
1.5 Valid Issuance. All shares of Common Stock that may be issued upon
exercise of the Warrant will, upon issuance by the Company, be duly and
validly issued, fully paid and nonassessable and free from all taxes, liens
and charges with respect to the issuance thereof and, without limiting the
generality of the foregoing, the Company shall take no action or fail to take
any action which will cause a contrary result.
1.6 No Fractional Share. The Company shall not be required to issue
fractional shares of Common Stock on the exercise of this Warrant. If more
than one Warrant shall be presented for exercise at the same time by the same
holder, the number of full shares of Common Stock which shall be issuable upon
such exercise shall be computed on the basis of the aggregate number of whole
shares of Common Stock purchasable on exercise of the Warrant so presented. If
any fraction of a share of Common Stock would, except for the provisions of
this Section 1.6, be issuable on the exercise of this Warrant, the Company
shall pay an amount in cash calculated by it to be equal to the price of one
share of Common Stock as quoted on the NASDAQ National Market System at the
close of business on the date of such exercise multiplied by such fraction
computed to the nearest whole cent.
ARTICLE II
Transfer
2.1 Warrant Office. The Company shall maintain an office for certain
purposes specified herein (the "Warrant Office"), which office shall initially
be the Company's offices at 3104 Logan Valley Road, P.O. Box 348, Traverse
City, Michigan 49685-0348, and may subsequently be such other office of the
Company or of any transfer agent of the Common Stock in the continental United
States as to which written notice has previously been given to the holder
hereof. The Company shall maintain, at the Warrant Office, a register for the
Warrants in which the Company shall record the name and address of the person
in whose name this Warrant has been issued, as well as the name and address of
each permitted assignee of the rights of the registered owner hereof.
2.2 Limited Right of Transfer. This Warrant may not be directly or
indirectly sold, assigned, pledged, hypothecated, encumbered, transferred or
otherwise disposed of without the prior written consent of the Company;
provided, however, that Guardian may assign its interest in this Warrant to
one or more of the entities or individuals listed on Schedule 2.2 hereto upon
receipt by the Company of (a) evidence, in form and substance satisfactory to
the Company, that each such assignee is an "Accredited Investor" as defined
under Rule 501 of the Securities Act, or (b) an opinion of the Company's
counsel that such assignment can be made without registration under the
Securities Act.
2.3 Transfer of Warrant. The Company agrees to maintain at the Warrant
Office books for the registration and transfer of the Warrant. Subject to the
provisions of Section 2.2, the Company, from time to time, shall register the
transfer of the Warrant in such books upon surrender of this Warrant at the
Warrant Office properly endorsed or accompanied by appropriate instruments of
transfer and written instructions for transfer satisfactory to the Company.
Upon any such transfer and upon payment by the holder or its transferee of any
applicable transfer taxes, new Warrants shall be issued to the transferee and
the transferor (as their respective interests may appear) and the surrendered
Warrant shall be canceled by the Company. The Company shall pay all taxes
(other than securities transfer taxes) and all other expenses and charges
payable in connection with the transfer of the Warrant hereunder.
B-2-2
<PAGE>
ARTICLE III
Anti-Dilution
3.1 Reclassification, Consolidation, Merger or Sale of Assets. In the event
that the Company shall be a party to any transaction (including without
limitation (i) any recapitalization or reclassification of the Common Stock
(other than a change in par value, or from par value to no par value, or from
no par value to par value), (ii) any combination or subdivision of the Common
Stock into a lesser or greater number of shares of Common Stock, (iii) any
consolidation of the Company with, or merger of the Company into, any other
person, (iv) any merger of another person into the Company (other than a
merger which does not result in a reclassification, conversion, exchange or
cancellation of outstanding shares of Common Stock of the Company), or (v) any
sale or transfer of all or a material amount of all of the assets of the
Company or any compulsory share exchange) pursuant to which the Common Stock
is converted into the right to receive other securities, cash or other
property, then lawful provision shall be made as part of the terms of such
transaction whereby the holder of this Warrant shall receive upon the exercise
hereof the kind and amount of securities, cash and other property receivable
upon such transaction by a holder of the number of shares of Common Stock for
which the Warrant was exercisable immediately prior to such transaction. The
entity formed by such consolidation or resulting from such merger or which
acquires such assets or which acquires the Company's shares, as the case may
be, shall make provision in its certificate or articles of incorporation or
other constituent document to establish such right. The above provisions shall
similarly apply to successive transactions of the foregoing type.
3.2 Common Stock Dilutions. In the event that prior to exercise of this
Warrant the Company issues or agrees to issue additional shares of Common
Stock pursuant to a stock split or stock dividend, or dividend or distribution
of rights to purchase stock, then the number of shares to be issued pursuant
to the exercise of this Warrant and the Exercise Price therefore shall be
adjusted proportionately. In the event that prior to the exercise of this
Warrant the Company issues or agrees to issue cash or property pursuant to a
dividend or distribution, this Warrant shall represent the right to acquire,
in addition to the number of shares of Common Stock receivable upon exercise
of this Warrant, and without payment of any additional consideration therefor,
the amount of such cash or property which the holder hereof would have been
entitled to receive pursuant to such dividend or distribution had it been the
holder of record of the Common Stock receivable upon exercise of this Warrant
on the record date therefor. The Company agrees and covenants that it will
not, prior to the exercise of this Warrant, in connection with any plan for
the benefit of employees or directors (i) issue a number of shares of Common
Stock, securities exercisable for Common Stock or other Common Stock
equivalents (the "Plan Securities") which in the aggregate exceeds fifteen
percent (15%) of the total shares of Common Stock outstanding as of the date
thereof, and (ii) of the Plan Securities issued pursuant to clause (i) of this
Section 3.2, issue Plan Securities which in the aggregate are equal to,
convertible into or exercisable for more than 300,000 shares of Common Stock
for consideration, including any applicable exercise or conversion price,
which is below the price quoted for the Common Stock at the close of business
on the day prior to issuance of such Plan Securities.
3.3 Prior Notice of Certain Events. In the event:
(i) the Company establishes a record date to determine the holders of Common
Stock who are entitled to (A) receive any dividend or other distribution
(other than a dividend payable in shares of Common Stock), (B) participate in
a redemption or repurchase of the then-outstanding shares of Common Stock, or
(C) vote in connection with any of the transactions identified in clauses
(ii), (iii), (iv) or (v) below; or
(ii) the Company shall (A) declare any dividend (or any other distribution)
on its Common Stock, other than a dividend payable in shares of Common Stock
or (B) declare or authorize a redemption or repurchase of the then-outstanding
shares of Common Stock; or
(iii) the Company shall authorize the granting to all holders of Common
Stock of rights or warrants to subscribe for or purchase any shares of stock
of any class or series or of any other rights or warrants; or
B-2-3
<PAGE>
(iv) of any reclassification of Common Stock (other than a change in par
value, or from par value to no par value, or from no par value to par value),
or of any other capital reorganization or of any consolidation or merger to
which the Company is a party, or of the sale or transfer of all or
substantially all of the assets of the Company or of any compulsory share
exchange whereby the Common Stock is converted into other securities, cash or
other property; or
(v) of the voluntary or involuntary dissolution, liquidation or winding up
of the Company or such event is likely to occur.
Then the Company shall cause to be mailed to the holder of this Warrant, at
its address as reflected in the Warrant Office transfer records, a notice
stating (A) the date on which a record (if any) is to be taken with respect to
clause (i) above, (B) the date on which any transaction or event contemplated
in any of clauses (i) through and including clause (v) above is expected to
become effective or the date of the anticipated closing of the public
offering, and (C) the time, if any is fixed, as to when the holders of record
of Common Stock shall be entitled to exchange their shares of Common Stock for
securities or other property deliverable upon any such reclassification,
reorganization, consolidation, merger, sale, transfer, share exchange,
dissolution, liquidation or winding up. Each notice of an event specified in
clause(i) above shall be sent at least five (5) days prior to the record date
specified therein and each notice of an event specified in clauses (ii)
through and including (v) above shall be delivered at least fifteen (15) days
prior to the proposed closing of such transaction.
ARTICLE IV
Miscellaneous
4.1 Entire Agreement. This Warrant, together with that certain registration
rights agreement of even date herewith by and between the Company and Guardian
(the "Registration Rights Agreement"), contain the entire agreement between
the holder hereof and the Company with respect to the Warrant Shares
purchasable upon exercise hereof and the related transactions and supersedes
all prior arrangements or understandings with respect thereto.
4.2 Governing Law; Venue. THIS WARRANT SHALL BE GOVERNED BY AND CONSTRUED IN
ACCORDANCE WITH THE APPLICABLE LAWS OF THE STATE OF DELAWARE AND THE UNITED
STATES OF AMERICA FROM TIME TO TIME IN EFFECT.
4.3 Waiver and Amendment. Any term or provision of this Warrant may be
waived at any time by the party which is entitled to the benefits thereof and
any term or provision of this Warrant may be amended or supplemented at any
time by agreement of the holder hereof and the Company, except that any waiver
of any term or condition, or any amendment or supplementation, of this Warrant
shall be in writing. A waiver of any breach or failure to enforce any of the
terms or conditions of this Warrant shall not in any way effect, limit or
waiver a party's rights hereunder at any time to enforce strict compliance
thereafter with every term or condition of this Warrant.
4.4 Illegality. In the event that any one or more of the provisions
contained in this Warrant shall be determined to be invalid, illegal or
unenforceable in any respect for any reason, the validity, legality and
enforceability of any such provision in any other respect and the remaining
provisions of this Warrant shall not, at the election of the party for whom
the benefit of the provision exists, be in any way impaired.
4.5 Copy of Warrant. A copy of this Warrant shall be filed among the records
of the Company.
4.6 Notice. Any notice or other document required or permitted to be given
or delivered to the holder hereof shall be in writing and delivered at, or
sent by telecopy or certified or registered mail to such holder at, the last
address shown on the books of the Company maintained at the Warrant Office for
the registration of this Warrant or at any more recent address of which the
holder hereof shall have notified the Company in writing.
B-2-4
<PAGE>
Any notice or other document required or permitted to be given or delivered to
the Company shall be delivered at, or sent by facsimile transmission or
certified or registered mail to, the Warrant Office, or such other address
within the continental United States of America as shall have been furnished
by the Company to the holder of this Warrant.
4.7 Limitation of Liability; Not Stockholders. No provision of this Warrant
shall be construed as conferring upon the holder hereof the right to vote,
consent, receive dividends or receive notices (other than as herein expressly
provided) in respect of meetings of stockholders for the election of directors
of the Company or any other matter whatsoever as a stockholder of the Company.
No provision hereof, in the absence of affirmative action by the holder hereof
to purchase shares of Common Stock, and no mere enumeration herein of the
rights or privileges of the holder hereof, shall give rise to any liability of
such holder for the purchase price of any shares of Common Stock or as a
stockholder of the Company, whether such liability is asserted by the Company
or by creditors of the Company.
4.8 Loss, Destruction, etc. of Warrant. Upon receipt of evidence
satisfactory to the Company of the loss, theft, mutilation or destruction of
this Warrant, and in the case of any such loss, theft or destruction upon
delivery of a bond of indemnity or such other security in such form and amount
as shall be reasonably satisfactory to the Company, or in the event of such
mutilation upon surrender and cancellation of this Warrant, the Company will
make and deliver a new Warrant of like tenor, in lieu of such lost, stolen,
destroyed or mutilated Warrant. Any Warrant issued under the provisions of
this Section 4.8 in lieu of any Warrant alleged to be lost, destroyed or
stolen, or in lieu of any mutilated Warrant, shall constitute an original
contractual obligation on the part of the Company. This Warrant shall be
promptly canceled by the Company upon the surrender hereof in connection with
any exchange or replacement. The Company shall pay all taxes (other than
securities transfer taxes) and all other expenses and charges payable in
connection with the preparation, execution and delivery of Warrants pursuant
to this Section 4.8.
4.9 Compliance with Securities Act and Applicable Law. The Company shall not
be required to transfer this Warrant or to sell or issue Warrant Shares if
such transfer or issuance would constitute a violation by the Company of any
provisions of any law or regulation of any governmental authority. While the
Company is required to register the resale of the Warrant Shares by holder(s)
pursuant to the Registration Rights Agreement, in the event the Warrant Shares
issuable on exercise of this Warrant are not then registered under the Act,
the Company may imprint the following legend or any other legend which counsel
for the Company considers necessary or advisable to comply with the Securities
Act of 1933:
"The shares of stock represented by this certificate have not
been registered under the Securities Act of 1933 or under the
securities laws of any State and may not be sold, transferred or
otherwise disposed of except upon such registration or upon
receipt by the issuer, in form and substance satisfactory to the
issuer, of an opinion of the issuer's counsel that registration
is not required for such disposition."
4.10 Registration Rights. The Warrants Shares shall be entitled to such
registration rights under the Securities Act and under applicable state
securities laws as are specified in the Registration Rights Agreement.
4.11 Headings. The Article and Section and other headings herein are for
convenience only and are not a part of this Warrant and shall not affect the
interpretation thereof.
In Witness Whereof, the Company has caused this Warrant to be signed in its
name.
Dated: July 11, 2000
Miller Exploration Company
/s/ Kelly E. Miller
By: _________________________________
Name: Kelly E. Miller
Title: President
B-2-5
<PAGE>
EXHIBIT A
SUBSCRIPTION NOTICE
The undersigned, the holder of the foregoing Warrant, hereby elects to
exercise purchase rights represented thereby for, and to purchase thereunder,
shares of the Common Stock covered by such Warrant, and herewith makes
payment in full for such shares pursuant to Section 1.2 of such Warrant, and
requests that certificates for such shares (and any other securities or other
property issuable upon such exercise) be issued in the name of, and delivered
to .
_____________________________________
Dated: ___________, ____.
B-2-6
<PAGE>
SCHEDULE 2.2
LIST OF APPROVED ASSIGNEES
Jordan Exploration Company LLC
Martin G. Lagina
Robert M. Boeve
Wayne Sterenberg
Craig Tester
Any Persons (as defined in the Securities Purchase Agreement dated as of
July 11, 2000 and entered into between Guardian and the Company) who control,
are controlled by or are under common control with any of the above Persons.
B-2-7
<PAGE>
ANNEX B-3
THE SECURITIES REPRESENTED BY THIS WARRANT AND THE COMMON STOCK ISSUABLE
THEREBY HAVE NOT BEEN AND WILL NOT BE, EXCEPT AS PROVIDED IN THE REGISTRATION
RIGHTS AGREEMENT REFERRED TO BELOW, REGISTERED UNDER THE SECURITIES ACT OF
1933, AS AMENDED (THE "SECURITIES ACT"), OR ANY OTHER APPLICABLE SECURITIES
LAW AND, ACCORDINGLY, THE SECURITIES REPRESENTED BY THIS CERTIFICATE MAY NOT
BE RESOLD, PLEDGED, OR OTHERWISE TRANSFERRED, EXCEPT PURSUANT TO AN EFFECTIVE
REGISTRATION STATEMENT UNDER, OR IN A TRANSACTION EXEMPT FROM REGISTRATION
UNDER, THE SECURITIES ACT AND IN ACCORDANCE WITH ANY OTHER APPLICABLE
SECURITIES LAWS.
WARRANT
to Purchase 9,000,000 Shares of Common Stock of
MILLER EXPLORATION COMPANY
This Common Stock Purchase Warrant (the "Warrant") certifies that for value
received, Guardian Energy Management Corp., a Michigan corporation
("Guardian"), or its assigns, is entitled to subscribe for and purchase from
Miller Exploration Company, a Delaware corporation (the "Company"), in whole
or in part, 9,000,000 shares (the "Warrant Shares") of Common Stock, par value
$0.01 per share, of the Company ("Common Stock") at the Exercise Price (as
hereinafter defined), subject, however, to the provisions and upon the terms
and conditions hereinafter set forth This Warrant and all rights hereunder
shall expire at 5:00 p.m., Traverse City, Michigan time, on the fourth
anniversary of the approval of the Conversion Shares by the stockholders of
the Company (the "Termination Date").
ARTICLE I
Exercise of Warrants
1.1 Term; Exercise Price. The Warrant represented hereby may be exercised by
the holder hereof, in whole or in part, at any time and from time to time
after the date hereof until 5:00 p.m., Traverse City, Michigan time, on the
Termination Date (the "Term"). Subject to adjustment as provided in Article IV
hereof, the exercise price for shares of Common Stock under this Warrant shall
be $3.00 per share of Common Stock (the "Exercise Price").
1.2 Method of Exercise. To exercise this Warrant, the holder hereof shall
deliver to the Company, at the Warrant Office designated in Section 2.1
hereof, (i) a written notice in the form of the Subscription Notice attached
as Exhibit A hereto, stating therein the election of such holder to exercise
the Warrants in the manner provided in the Subscription Notice; and (ii)
payment in full of the Exercise Price in cash or by wire transfer or check for
all Warrant Shares purchased hereunder. This Warrant shall be deemed to be
exercised on the date of receipt by the Company of the Subscription Notice,
accompanied by payment for the Warrant Shares and surrender of this Warrant,
as aforesaid, and such date is referred to herein as the "Exercise Date". Upon
such exercise, the Company shall, as promptly as practicable and in any event
within five business days, issue and deliver to such holder a certificate or
certificates for the full number of the Warrant Shares purchased by such
holder hereunder. As permitted by applicable law, the person in whose name the
certificates for Common Stock are to be issued shall be deemed to have become
a holder of record of such Common Stock on the Exercise Date and shall be
entitled to all of the benefits of such holder on the Exercise Date, including
without limitation the right to receive dividends and other distributions for
which the record date falls on or after the Exercise Date and to exercise
voting rights.
1.3 Expense and Taxes. The Company shall pay all expenses and taxes
(including, without limitation, all documentary, stamp, transfer or other
transactional taxes) attributable to the preparation, issuance or delivery of
the Warrant and of the shares of Common Stock issuable upon exercise of the
Warrant.
B-3-1
<PAGE>
1.4 Reservation of Shares. The Company shall reserve at all times so long as
the Warrant remain outstanding, free from preemptive rights, out of its
treasury Common Stock or its authorized but unissued shares of Common Stock,
or both, solely for the purpose of effecting the exercise of the Warrant, a
sufficient number of shares of Company Stock to provide for the exercise of
the Warrant.
1.5 Valid Issuance. All shares of Common Stock that may be issued upon
exercise of the Warrant will, upon issuance by the Company, be duly and
validly issued, fully paid and nonassessable and free from all taxes, liens
and charges with respect to the issuance thereof and, without limiting the
generality of the foregoing, the Company shall take no action or fail to take
any action which will cause a contrary result.
1.6 No Fractional Share. The Company shall not be required to issue
fractional shares of Common Stock on the exercise of this Warrant. If more
than one Warrant shall be presented for exercise at the same time by the same
holder, the number of full shares of Common Stock which shall be issuable upon
such exercise shall be computed on the basis of the aggregate number of whole
shares of Common Stock purchasable on exercise of the Warrant so presented. If
any fraction of a share of Common Stock would, except for the provisions of
this Section 1.6, be issuable on the exercise of this Warrant, the Company
shall pay an amount in cash calculated by it to be equal to the price of one
share of Common Stock as quoted on the NASDAQ National Market System at the
close of business on the date of such exercise multiplied by such fraction
computed to the nearest whole cent.
ARTICLE II
Transfer
2.1 Warrant Office. The Company shall maintain an office for certain
purposes specified herein (the "Warrant Office"), which office shall initially
be the Company's offices at 3104 Logan Valley Road, P.O. Box 348, Traverse
City, Michigan 49685-0348, and may subsequently be such other office of the
Company or of any transfer agent of the Common Stock in the continental United
States as to which written notice has previously been given to the holder
hereof. The Company shall maintain, at the Warrant Office, a register for the
Warrants in which the Company shall record the name and address of the person
in whose name this Warrant has been issued, as well as the name and address of
each permitted assignee of the rights of the registered owner hereof.
2.2 Limited Right of Transfer. This Warrant may not be directly or
indirectly sold, assigned, pledged, hypothecated, encumbered, transferred or
otherwise disposed of without the prior written consent of the Company;
provided, however, that Guardian may assign its interest in this Warrant to
one or more of the entities or individuals listed on Schedule 2.2 hereto upon
receipt by the Company of (a) evidence, in form and substance satisfactory to
the Company, that each such assignee is an "Accredited Investor" as defined
under Rule 501 of the Securities Act, or (b) an opinion of the Company's
counsel that such assignment can be made without registration under the
Securities Act.
2.3 Transfer of Warrant. The Company agrees to maintain at the Warrant
Office books for the registration and transfer of the Warrant. Subject to the
provisions of Section 2.2, the Company, from time to time, shall register the
transfer of the Warrant in such books upon surrender of this Warrant at the
Warrant Office properly endorsed or accompanied by appropriate instruments of
transfer and written instructions for transfer satisfactory to the Company.
Upon any such transfer and upon payment by the holder or its transferee of any
applicable transfer taxes, new Warrants shall be issued to the transferee and
the transferor (as their respective interests may appear) and the surrendered
Warrant shall be canceled by the Company. The Company shall pay all taxes
(other than securities transfer taxes) and all other expenses and charges
payable in connection with the transfer of the Warrant hereunder.
B-3-2
<PAGE>
ARTICLE III
Anti-Dilution
3.1 Reclassification, Consolidation, Merger or Sale of Assets. In the event
that the Company shall be a party to any transaction (including without
limitation (i) any recapitalization or reclassification of the Common Stock
(other than a change in par value, or from par value to no par value, or from
no par value to par value), (ii) any combination or subdivision of the Common
Stock into a lesser or greater number of shares of Common Stock, (iii) any
consolidation of the Company with, or merger of the Company into, any other
person, (iv) any merger of another person into the Company (other than a
merger which does not result in a reclassification, conversion, exchange or
cancellation of outstanding shares of Common Stock of the Company), or (v) any
sale or transfer of all or a material amount of all of the assets of the
Company or any compulsory share exchange) pursuant to which the Common Stock
is converted into the right to receive other securities, cash or other
property, then lawful provision shall be made as part of the terms of such
transaction whereby the holder of this Warrant shall receive upon the exercise
hereof the kind and amount of securities, cash and other property receivable
upon such transaction by a holder of the number of shares of Common Stock for
which the Warrant was exercisable immediately prior to such transaction. The
entity formed by such consolidation or resulting from such merger or which
acquires such assets or which acquires the Company's shares, as the case may
be, shall make provision in its certificate or articles of incorporation or
other constituent document to establish such right. The above provisions shall
similarly apply to successive transactions of the foregoing type.
3.2 Common Stock Dilutions. In the event that prior to exercise of this
Warrant the Company issues or agrees to issue additional shares of Common
Stock pursuant to a stock split or stock dividend, or dividend or distribution
of rights to purchase stock, then the number of shares to be issued pursuant
to the exercise of this Warrant and the Exercise Price therefore shall be
adjusted proportionately. In the event that prior to the exercise of this
Warrant the Company issues or agrees to issue cash or property pursuant to a
dividend or distribution, this Warrant shall represent the right to acquire,
in addition to the number of shares of Common Stock receivable upon exercise
of this Warrant, and without payment of any additional consideration therefor,
the amount of such cash or property which the holder hereof would have been
entitled to receive pursuant to such dividend or distribution had it been the
holder of record of the Common Stock receivable upon exercise of this Warrant
on the record date therefor. The Company agrees and covenants that it will
not, prior to the exercise of this Warrant, in connection with any plan for
the benefit of employees or directors (i) issue a number of shares of Common
Stock, securities exercisable for Common Stock or other Common Stock
equivalents (the "Plan Securities") which in the aggregate exceeds fifteen
percent (15%) of the total shares of Common Stock outstanding as of the date
thereof, and (ii) of the Plan Securities issued pursuant to clause (i) of this
Section 3.2, issue Plan Securities which in the aggregate are equal to,
convertible into or exercisable for more than 300,000 shares of Common Stock
for consideration, including any applicable exercise or conversion price,
which is below the price quoted for the Common Stock at the close of business
on the day prior to issuance of such Plan Securities.
3.3 Prior Notice of Certain Events. In the event:
(i) the Company establishes a record date to determine the holders of Common
Stock who are entitled to (A) receive any dividend or other distribution
(other than a dividend payable in shares of Common Stock), (B) participate in
a redemption or repurchase of the then-outstanding shares of Common Stock, or
(C) vote in connection with any of the transactions identified in clauses
(ii), (iii), (iv) or (v) below; or
(ii) the Company shall (A) declare any dividend (or any other distribution)
on its Common Stock, other than a dividend payable in shares of Common Stock
or (B) declare or authorize a redemption or repurchase of the then-outstanding
shares of Common Stock; or
(iii) the Company shall authorize the granting to all holders of Common
Stock of rights or warrants to subscribe for or purchase any shares of stock
of any class or series or of any other rights or warrants; or
B-3-3
<PAGE>
(iv) of any reclassification of Common Stock (other than a change in par
value, or from par value to no par value, or from no par value to par value),
or of any other capital reorganization or of any consolidation or merger to
which the Company is a party, or of the sale or transfer of all or
substantially all of the assets of the Company or of any compulsory share
exchange whereby the Common Stock is converted into other securities, cash or
other property; or
(v) of the voluntary or involuntary dissolution, liquidation or winding up
of the Company or such event is likely to occur.
Then the Company shall cause to be mailed to the holder of this Warrant, at
its address as reflected in the Warrant Office transfer records, a notice
stating (A) the date on which a record (if any) is to be taken with respect to
clause (i) above, (B) the date on which any transaction or event contemplated
in any of clauses (i) through and including clause (v) above is expected to
become effective or the date of the anticipated closing of the public
offering, and (C) the time, if any is fixed, as to when the holders of record
of Common Stock shall be entitled to exchange their shares of Common Stock for
securities or other property deliverable upon any such reclassification,
reorganization, consolidation, merger, sale, transfer, share exchange,
dissolution, liquidation or winding up. Each notice of an event specified in
clause (i) above shall be sent at least five (5) days prior to the record date
specified therein and each notice of an event specified in clauses (ii)
through and including (v) above shall be delivered at least fifteen (15) days
prior to the proposed closing of such transaction.
ARTICLE IV
Miscellaneous
4.1 Entire Agreement. This Warrant, together with that certain registration
rights agreement of even date herewith by and between the Company and Guardian
(the "Registration Rights Agreement"), contain the entire agreement between
the holder hereof and the Company with respect to the Warrant Shares
purchasable upon exercise hereof and the related transactions and supersedes
all prior arrangements or understandings with respect thereto.
4.2 Governing Law; Venue. THIS WARRANT SHALL BE GOVERNED BY AND CONSTRUED IN
ACCORDANCE WITH THE APPLICABLE LAWS OF THE STATE OF DELAWARE AND THE UNITED
STATES OF AMERICA FROM TIME TO TIME IN EFFECT.
4.3 Waiver and Amendment. Any term or provision of this Warrant may be
waived at any time by the party which is entitled to the benefits thereof and
any term or provision of this Warrant may be amended or supplemented at any
time by agreement of the holder hereof and the Company, except that any waiver
of any term or condition, or any amendment or supplementation, of this Warrant
shall be in writing. A waiver of any breach or failure to enforce any of the
terms or conditions of this Warrant shall not in any way effect, limit or
waiver a party's rights hereunder at any time to enforce strict compliance
thereafter with every term or condition of this Warrant.
4.4 Illegality. In the event that any one or more of the provisions
contained in this Warrant shall be determined to be invalid, illegal or
unenforceable in any respect for any reason, the validity, legality and
enforceability of any such provision in any other respect and the remaining
provisions of this Warrant shall not, at the election of the party for whom
the benefit of the provision exists, be in any way impaired.
4.5 Copy of Warrant. A copy of this Warrant shall be filed among the records
of the Company.
4.6 Notice. Any notice or other document required or permitted to be given
or delivered to the holder hereof shall be in writing and delivered at, or
sent by telecopy or certified or registered mail to such holder at, the last
address shown on the books of the Company maintained at the Warrant Office for
the registration of this Warrant or at any more recent address of which the
holder hereof shall have notified the Company in writing.
B-3-4
<PAGE>
Any notice or other document required or permitted to be given or delivered to
the Company shall be delivered at, or sent by facsimile transmission or
certified or registered mail to, the Warrant Office, or such other address
within the continental United States of America as shall have been furnished
by the Company to the holder of this Warrant.
4.7 Limitation of Liability; Not Stockholders. No provision of this Warrant
shall be construed as conferring upon the holder hereof the right to vote,
consent, receive dividends or receive notices (other than as herein expressly
provided) in respect of meetings of stockholders for the election of directors
of the Company or any other matter whatsoever as a stockholder of the Company.
No provision hereof, in the absence of affirmative action by the holder hereof
to purchase shares of Common Stock, and no mere enumeration herein of the
rights or privileges of the holder hereof, shall give rise to any liability of
such holder for the purchase price of any shares of Common Stock or as a
stockholder of the Company, whether such liability is asserted by the Company
or by creditors of the Company.
4.8 Loss, Destruction, etc. of Warrant. Upon receipt of evidence
satisfactory to the Company of the loss, theft, mutilation or destruction of
this Warrant, and in the case of any such loss, theft or destruction upon
delivery of a bond of indemnity or such other security in such form and amount
as shall be reasonably satisfactory to the Company, or in the event of such
mutilation upon surrender and cancellation of this Warrant, the Company will
make and deliver a new Warrant of like tenor, in lieu of such lost, stolen,
destroyed or mutilated Warrant. Any Warrant issued under the provisions of
this Section 4.8 in lieu of any Warrant alleged to be lost, destroyed or
stolen, or in lieu of any mutilated Warrant, shall constitute an original
contractual obligation on the part of the Company. This Warrant shall be
promptly canceled by the Company upon the surrender hereof in connection with
any exchange or replacement. The Company shall pay all taxes (other than
securities transfer taxes) and all other expenses and charges payable in
connection with the preparation, execution and delivery of Warrants pursuant
to this Section 4.8.
4.9 Compliance with Securities Act and Applicable Law. The Company shall not
be required to transfer this Warrant or to sell or issue Warrant Shares if
such transfer or issuance would constitute a violation by the Company of any
provisions of any law or regulation of any governmental authority. While the
Company is required to register the resale of the Warrant Shares by holder(s)
pursuant to the Registration Rights Agreement, in the event the Warrant Shares
issuable on exercise of this Warrant are not then registered under the Act,
the Company may imprint the following legend or any other legend which counsel
for the Company considers necessary or advisable to comply with the Securities
Act of 1933:
"The shares of stock represented by this certificate have not
been registered under the Securities Act of 1933 or under the
securities laws of any State and may not be sold, transferred or
otherwise disposed of except upon such registration or upon
receipt by the issuer, in form and substance satisfactory to the
issuer, of an opinion of the issuer's counsel that registration
is not required for such disposition."
4.10 Registration Rights. The Warrants Shares shall be entitled to such
registration rights under the Securities Act and under applicable state
securities laws as are specified in the Registration Rights Agreement.
4.11 Headings. The Article and Section and other headings herein are for
convenience only and are not a part of this Warrant and shall not affect the
interpretation thereof.
In Witness Whereof, the Company has caused this Warrant to be signed in its
name.
Dated: July 11, 2000
Miller Exploration Company
/s/ Kelly E. Miller
By: _________________________________
Name: Kelly E. Miller
Title:President
B-3-5
<PAGE>
EXHIBIT A
SUBSCRIPTION NOTICE
The undersigned, the holder of the foregoing Warrant, hereby elects to
exercise purchase rights represented thereby for, and to purchase thereunder,
shares of the Common Stock covered by such Warrant, and herewith makes
payment in full for such shares pursuant to Section 1.2 of such Warrant, and
requests that certificates for such shares (and any other securities or other
property issuable upon such exercise) be issued in the name of, and delivered
to .
_____________________________________
Dated: ___________, ____.
B-3-6
<PAGE>
SCHEDULE 2.2
LIST OF APPROVED ASSIGNEES
Jordan Exploration Company LLC
Martin G. Lagina
Robert M. Boeve
Wayne Sterenberg
Craig Tester
Any Persons (as defined in the Securities Purchase Agreement dated as of
July 11, 2000 and entered into between Guardian and the Company) who control,
are controlled by or are under common control with any of the above Persons.
B-3-7
<PAGE>
ANNEX C
July 12, 2000
Mr. C. E. "Gene" Miller
Eagle Investments Inc.
P.O. Box 348
Traverse City, MI 49685-0348
Dear Gene,
After numerous discussions and detailed review, Miller Exploration
(hereinafter "MEXP") will agree to purchase the following interest from Eagle
Investments (hereinafter "Eagle"), subject to Board approval and (to the
extent necessary) shareholder approval. As you are aware, we both need to
present a purchase and sale agreement that would withstand the highest
scrutiny, due to the roles you play both in MEXP and Eagle.
Pursuant to the letter dated April 1, 1999 (attached as Exhibit "A"), MEXP
had specific restrictions regarding the right to repurchase and certain rights
which have now expired. Subject to the terms and conditions described below,
Eagle will contribute capital, extend said agreement, and modify certain
rights as detailed below. It is therefore agreed:
1) Eagle will infuse five hundred thousand ($500,000) dollars into MEXP in
exchange for common stock at $1.35/share. Eagle will wire said funds to
MEXP within five (5) business days of Board approval or shareholder
approval if required.
2) MEXP will purchase an undivided 50% of Eagle's non-producing leasehold
in the Mississippi Salt Basin pursuant to the interest represented in
Exhibit "B" for a purchase price of two million ($2,000,000) dollars.
Consideration will be paid in the form of MEXP common stock @
$1.35/share.
3) MEXP's purchase of the above will be subject to shareholder approval of
the Guardian Energy Management Corporation equity infusion of five
million ($5,000,000) dollars.
4) Eagle will be granted warrants as follows:
<TABLE>
<CAPTION>
Warrants Exercise Term
-------- -------- ----
<S> <C> <C>
781,250 $1.35/share 1 year from the date of shareholder approval
1,250,000 $2.50/share 2 years from the date of shareholder approval
</TABLE>
5) Eagle will be responsible for its proportionate share of the working
interest to drill the proposed wells on the salt domes pursuant to
Exhibit "B". Upon shareholder approval, MEXP will reimburse Eagle for
50% of its cost to drill and/or complete the respective wells.
6) MEXP's purchase will exclude any rights with respect to Eagle's
interest in the existing wellbores, specifically the Allar 32-6 and
Frost 5-11 #1 (Moselle Dome), Allar #6 (Midway Dome), Campbell #1
(Centerville Dome), and Fairchild#1 (Richmond Dome). In the event of a
side track, mechanical difficulties or development location, Eagle will
retain its rights in said proposed well(s).
7) MEXP will acquire all rights in the Langston #1 drilling unit (Kola
Dome), excepting the Sligo Formation, which is the current producing
zone in the Langston #1.
A) Eagle will reserve the Sligo formation rights in the 640-acre
drilling units immediately adjoining and abutting the Langston #1
drilling unit. In the event a subsequent well is proposed to the
Hosston formation, or a depth greater than the Sligo, Eagle will
only have the rights of participation to the extent of its retained
working interest in the deeper horizons. However, in the event that
the subsequent well(s) is completed in the Hosston or deeper
formation(s), and it is then determined within 120 days of reaching
total depth, that the zones tested are considered to be
unproductive or do not produce in paying quantities, and the well
is subsequently completed in the Sligo formation, Eagle will
participate, at its option, for its proportionate interest as if no
sale
C-1
<PAGE>
had taken place to MEXP. Upon an election by Eagle to participate,
Eagle will reimburse MEXP for its proportionate cost of the
additional interest acquired as if the well had been drilled to the
Sligo formation. If the above 120-day term expires and the well is
subsequently completed in the Sligo formation, Eagle will participate
as if no sale had taken place to MEXP for its rights in the Sligo
formation completion without reimbursement for the drilling.
8) MEXP will have an exclusive right of first offer on any sales of
Eagle's assets, including the remaining non-producing leasehold as well
as the producing leasehold, in the counties which contain the existing
MEXP leasehold base. MEXP will have a period of 15days from receipt of
such offer to reject or accept the offer ("response period"). In the
event of rejection (or no response by MEXP before the end of the
response period), Eagle will be free and clear to sell or assign such
interest to any third party at the terms and conditions equal to or
greater than the terms offered to MEXP. The right of first offer will
include a notice from Eagle to MEXP its desire to sell the producing
and/or non-producing leasehold. At such time MEXP will have the right
to present an offer within the response period described. Additionally,
in the event Eagle receives an unsolicited offer from a third party,
which is acceptable to Eagle, Eagle will also give MEXP the right of
first refusal to accept the terms and conditions provided therein
within the response period. The right of first offer will expire on
December 31, 2000, unless extended by the mutual consent of both
parties.
9) The purchase contemplated will be subject to the approval of the
outside directors of MEXP. A copy of the Resolution approving said sale
will be provided to Eagle.
10) This letter agreement contains the entire agreement between the
parties with respect to the subject matter hereof, and there are no
promises, terms, conditions, or obligations other than those contained
herein.
11) This letter agreement and the rights and obligations of the party will
be governed and interpreted in accordance with the laws of the State
of Michigan without giving effect to principals of conflicts or laws.
If the above meets with your approval, we would appreciate you signing in
the space provided below. This offer must be accepted on or before July 15,
2000, or the proposal contained herein will be null and void.
Sincerely,
Miller Exploration Company
/s/ Kelly E. Miller
Kelly E. Miller
President and CEO
KEM/sc
Agreed to and accepted this day of
, 2000.
Eagle Investments Inc.
By: /s/ C. E. Miller
------------------------------------
C. E. "Gene" Miller, President
C-2
<PAGE>
PROXY
MILLER EXPLORATION COMPANY
3104 Logan Valley Road
TRAVERSE CITY, MICHIGAN 49685
Proxy for Special Meeting of Stockholders to be held Thursday, December 7,
2000.
THIS PROXY IS SOLICITED BY THE BOARD OF DIRECTORS OF MILLER EXPLORATION COMPANY
The undersigned hereby appoints Kelly E. Miller and Deanna L. Cannon, and
each of them, proxies or proxy with full power of substitution and revocation
as to each of them, to represent the undersigned and to act and vote all of the
shares of common stock of Miller Exploration Company (the "Company") the
undersigned is entitled to vote at the Special Meeting of Stockholders of
Miller Exploration Company to be held on the 7th day of December, 2000, at
10:00 a.m., local time, at the offices of the Company located at 3104 Logan
Valley Road, Traverse City, Michigan 49685, on the following matters and in
their discretion on any other matters which may come before the meeting or any
adjournments or postponements thereof. Receipt of the proxy statement dated
November 10, 2000 is hereby acknowledged.
PLEASE MARK, SIGN AND DATE THE REVERSE SIDE OF THIS PROXY AND RETURN THE PROXY
CARD PROMPTLY USING THE ENCLOSED ENVELOPE.
(continued on other side)
THIS PROXY WHEN PROPERLY EXECUTED WILL BE VOTED IN THE MANNER DIRECTED HEREIN
BY THE UNDERSIGNED. IN THE ABSENCE OF SUCH DIRECTION, THIS PROXY WILL BE VOTED
"FOR" PROPOSAL 1 AND "FOR" PROPOSAL 2.
This proxy is solicited by the board of directors of Miller Exploration Company
1. To approve the issuance of common stock in connection with the transaction
by and between Miller Exploration Company and Guardian Energy Management
Corp.
[_] FOR[_] AGAINST[_] ABSTAIN
2.To approve the transaction by and between Miller Exploration Company and
Eagle Investments, Inc.
[_] FOR[_] AGAINST[_] ABSTAIN
Please sign exactly as name
appears herein, date and re-
turn promptly. When shares
are held by joint tenants,
both must sign. When signing
as attorney, executor, admin-
istrator, trustee or guard-
ian, please give full title
as such. If a corporation,
please sign in full corporate
name by duly authorized offi-
cer and give title of offi-
cer. If a partnership, please
sign in partnership name by
authorized person and give
title or capacity of person
signing.
Date: _____, 2000
Signature ____________________
Date: _____, 2000
Signature if held jointly ____
