SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-K
(Mark One)
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X
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Annual report pursuant to Section 13 or 15(d) of the
Securities Exchange Act of 1934
For the fiscal year ended December 31, 1998
OR
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Transition report pursuant to Section 13 or 15(d) of the
Securities Exchange Act of 1934
For the transition period from _____ to _____
Commission file number: 1-14754
PENDARIES PETROLEUM LTD.
(Exact name of Registrants as specified in its charter)
Canada 52-2051576
(State of other jurisdiction (I.R.S.Employer
of incorporation or organization) Identification No.)
8 Greenway Plaza, Suite 910
Houston, TX 77046
(Address of principal executive offices) (Zip Code)
Registrant's telephone number, including area code: (713) 355-2900
Securities registered pursuant to Section 12(b) of the Act:
Title of Each Class Name of Each Exchange on Which Registered
- ------------------- -----------------------------------------
Common Shares (No Par Value) American Stock Exchange
Securities registered pursuant to Section 12(g) of the Act: None
Indicate by check mark whether the registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days. Yes_X_ No___
Indicate by check mark if disclosure of delinquent filers pursuant to
Item 405 of Regulation S-K is not contained herein, and will not be contained,
to the best of registrant's knowledge, in definitive proxy or information
statements incorporated by reference in Part III of this Form 10-K or any
amendment to this Form 10-K. [ ]
As of March 15, 1999, the aggregate market value of the registrant's
Common Shares held by non-affiliates was approximately $4,124,198.
The number of shares outstanding of the registrant's Common Shares as
of March 15, 1999, was 8,836,970.
DOCUMENTS INCORPORATED BY REFERENCE
Document Incorporated as to
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1. Notice and Proxy Statement for the 1. Part III, Items 10, 11, 12, 13
Annual and Special Meeting of
Shareholders to be held June 11, 1999
i
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TABLE OF CONTENTS
Item 1. BUSINESS 1
Item 2. PROPERTIES 14
Item 3. LEGAL PROCEEDINGS 14
Item 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY
HOLDERS 14
Item 5. MARKET FOR THE COMMON EQUITY AND RELATED
STOCKHOLDER MATTERS 15
Item 6. SELECTED FINANCIAL DATA 16
Item 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS 16
Item 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA 22
Item 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON
ACCOUNTING AND FINANCIAL DISCLOSURE 22
Item 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT 22
Item 11. EXECUTIVE COMPENSATION 22
Item 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS
AND MANAGEMENT 22
Item 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS 22
Item 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES AND
REPORTS ON FORM 8-K 27
ii
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PART I
Item 1. Business
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The Company
Pendaries Petroleum Ltd. ("Pendaries" or the "Company") is a Canadian
corporation continued under the Business Corporations Act (New Brunswick)
effective September 9, 1996, and is engaged in the exploration and development
of oil and gas properties primarily in the offshore waters of China through its
wholly-owned subsidiaries Sino-American Energy Corporation ("Sino-American"), a
Texas corporation, and Sino-American Overseas Energy Corporation ("Sino-American
Overseas"), a Cayman Island corporation. The Company's corporate headquarters is
located at 8 Greenway Plaza, Suite 910, Houston, Texas, 77046. At December 31,
1998, the Company had 8 employees in Houston, Texas, and 1 employee in Beijing,
China.
The Company holds all the issued and outstanding Sino-American Class B
Shares. As of December 31, 1998, the Company also held 5,416,463 Sino-American
Class A Shares, representing in the aggregate, approximately 89.5% of the issued
and outstanding shares of common stock of Sino-American on a fully diluted
basis. Eventually, the Company will hold 100% of all Sino-American shares
pursuant to an agreement between the Company and Sino-American. Sino-American
was incorporated under the Texas Business Corporation Act by articles of
incorporation filed August 22, 1996. Prior to September 3, 1996, the business
described below was carried on by Setsco Resources, Inc. ("Setsco"), the
predecessor corporation to Sino-American. On September 3, 1996, Setsco merged
with and into Sino-American under the Texas Business Corporation Act. As a
result, Sino-American, the surviving corporation in the merger, became the owner
of the working interests in the Bohai Bay Blocks described below.
Sino-American's interest in Block 27/11 described below is held through
Sino-American Overseas.
History
Senior management of Sino-American has been engaged in the oil and gas
industry in Asia since the late 1970's when Mr. Robert Rigney, the current Chief
Executive Officer, began selling oil field equipment to the Chinese government.
These activities led to various other oil and gas related ventures throughout
the 1970's and 1980's, including consulting work on behalf of the Chinese
government and the export of crude oil by Mr. Rigney from China. In the early
1990's, Mr. Rigney acted as agent for the Chinese government to assist it in
identifying foreign oil and gas companies possessing appropriate Western
technology which could be utilized in China. The objective of the Chinese
government was to grant concession rights in oil and gas properties to foreign
operators and their partners who could best exploit the available opportunities.
Mr. Rigney has also assisted various Chinese oil and gas enterprises in training
their employees to use Western oil and gas technology and applications.
In 1990, a large U.S. refining company sought the assistance of Mr.
Rigney to identify investment opportunities for the refining company in China.
Mr. Rigney introduced such refining company to Kerr-McGee Corporation
("Kerr-McGee"), which sold the refining company an option to participate in up
to 10% of any of Kerr-McGee's Chinese oil and gas investments made during 1994
and 1995. In 1995, Setsco, purchased this participation right. In 1994, 1995,
and 1996, Kerr-McGee acquired its interests in the Bohai Bay and Pearl River
Mouth blocks, and Setsco exercised its option to participate in each of these
blocks.
1
<PAGE>
Overview
Sino-American and its wholly-owned subsidiary, Sino-American Overseas,
hold certain offshore oil and gas exploration interests in the Bohai Bay and the
Pearl River Mouth Basin in the People's Republic of China. Sino-American holds
working interests in four blocks in the Bohai Bay covering approximately
1,132,958 acres: a 10% interest in the Laopu Block - 78,332 acres; a 10%
interest in the Getuo Block - 76,108 acres; a 10% interest in Block 04/36 -
563,400 acres; and a 15% interest in Block 05/36 - 415,128 acres (collectively,
the "Bohai Bay Blocks"). Sino-American Overseas holds a 16.67% interest in the
Pearl River Block - 753,670 acres located in the Pearl River Mouth Basin of the
South China Sea. Sino-American is one of three non-Chinese companies that are
parties to the petroleum contracts (i.e., "Foreign Contractor") in each of the
Bohai Bay Blocks. In the Pearl River Block, Sino-American and Kerr-McGee
participate in the block as Foreign Contractors. The other party to the
petroleum contracts is either the Chinese National Offshore Oil Company
("CNOOC") or the China National Petroleum Corporation ("CNPC"). Under the
petroleum contracts, the interests of the Foreign Contractors may be reduced
proportionately upon the declaration of commerciality as the CNOOC or the CNPC,
as applicable, is entitled to acquire a 51% working interest in any commercial
development in each of the Bohai Bay Blocks by paying its proportionate share of
the development and operating costs thereafter. The four Bohai Bay Blocks and
the Pearl River Block are operated by a wholly-owned subsidiary of Kerr-McGee.
As of December 31, 1998, three exploratory wells and three confirmation wells
had been drilled on prospect area CFD 2-1 pursuant to the operating agreement in
Block 04/36. The CFD 2-1 field is estimated to hold an aggregate of 31.7 million
barrels of proved undeveloped reserves on an 8/8's basis. Probable reserves have
been assigned to the CFD 11-1 prospect area in Block 04/36 due to the results of
a well drilled and tested in 1973 by the Chinese. In addition, the Company has
seismically identified an additional 17 prospects to which it has assigned
potential reserves, exclusive of the Laopu Block. The Company does not report
quantities of potential or probable reserves.
On March 19, 1999 the Company received a recommendation from Kerr- McGee to
terminate the petroleum contract on the Laopu Block which covers approximately
78,332 acres. All obligations have been fulfilled on this block and the Company
has approved the recommendation.
On March 4, 1999 Kerr-McGee and CNOOC agreed to extend the petroleum
contract on Block 05/36 into its second phase which covers the period from March
31, 1999 to February 28, 2001. Under the terms of the petroleum contract, the
Foreign Contractors are required to relinquish 25% of the acreage in the block
upon electing to proceed to the second exploration phase. Kerr-McGee is
negotiating the acreage to be relinquished with CNOOC at this time. The Company
does not believe that the relinquishment will materially affect the future
potential of the block. Entry in the second exploration phase carries with it a
bonus payment to CNOOC of U.S.$250,000(U.S.$37,500 net to Pendaries) and a one
well commitment to be drilled at some time during the second phase period by the
Foreign Contractors. Moving into the second phase demonstrates the confidence of
the Company in the potential of the block.
In 1996, the Company purchased an interest in three proved producing oil
and gas properties located in Alberta, Canada (the "Alberta Properties") for
$1,966,088. The Morinville and Grand Forks Fields are oil-producing properties,
while the Wintering Hills Field is exclusively a gas-producing property.
Business Strategy
The Company has implemented a strategy which has permitted it to identify
and participate in the exploration and development of overseas oil and gas
properties which, to date, have been limited to China. This strategy includes
the following key elements:
2
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Development of Prospects in China
---------------------------------
The Company believes that potentially significant undeveloped
reserves, located in the shallow offshore waters and adjacent
to nearby large onshore oil fields, underlie the Bohai Bay
Blocks and the Pearl River Block. In management's opinion,
this factor, in combination with the proximity to an oil and
gas facility infrastructure, increasing market demand in the
Pacific region, and a favorable fiscal regime, could result in
attractive oil and gas investment opportunities in China. The
Company has numerous potential prospects on which to conduct
further geologic and geophysical activities in these areas.
The Company intends to exploit these properties in the near
term.
Utilization of Strategic Alliances with Chinese and
----------------------------------------------------
Western Oil and Gas Companies
-----------------------------
The Company believes that it maintains an excellent
relationship with Chinese ministries and will leverage this
cooperation to attempt to attract additional strong oil
companies seeking to enter or enlarge their exploration
activities in China. Company Chairman and CEO, Robert Rigney,
has been involved in the Asian and United States ("U.S.") oil
and gas industries for more than 20 years. In addition, Urick
Ho, a Vice President and Director of the Company and head of
its Beijing office, has over 15 years of experience in the oil
and gas industry in China. As a result of this experience, the
Company has been able to foster alliances between Chinese
companies and other larger Western oil and gas companies. The
Company expects to continue to enjoy the benefit of this
involvement and experience in the future.
Selective Geographic Diversification
------------------------------------
The Company is investigating oil and gas prospects in those
core international areas and in North America where management
has experience and expertise. Depending upon its assessment of
the potential for such investments, management believes that
geologic and geographic diversification would lend added
stability to the Company's reserve base and would be
beneficial to the shareholders.
Murphy Transaction
On April 24, 1998, Sino-American and the Company entered into an agreement
with Murphy Exploration & Production Company ("Murphy") to purchase its 45%
interest in Block 04/36 (the "Murphy Agreement"), which was extended to December
21, 1998 and then to March 22, 1999. The Murphy Agreement provided that the
Company would pay a total of $38 million for Murphy's interest, $35 million of
the consideration to be paid in cash and $3 million in Common Shares. Due to
the adverse change in the condition of the oil and gas industry subsequent to
the signing of the Murphy Agreement, the Company elected not to go forward with
the agreement subsequent to March 22, 1999. The Company's only obligation in the
transaction is restricted to the forfeiture of a non-refundable deposit of $1
million which was made last year, in April 1998, and accounted for at that time.
Oil and Gas Operations
The following selected information relates to the Company's operating areas
in Canada and China. As to the Company's interests in China, the net interests
shown below assume that CNOOC or CNPC, as applicable, exercises its right to
acquire a 51% working interest after a discovery is declared commercial under
the terms of the pertinent petroleum contract. To date there has been no
declaration of commerciality in China.
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<PAGE>
Oil and Gas Acreage
The following table sets forth the Company's acreage position held at
December 31, 1998:
Developed Undeveloped
--------- -----------
<TABLE>
<CAPTION>
Gross Net Gross Net
----- --- ----- ---
<S> <C> <C> <C> <C>
CANADA
Morinville Field 480 91 - -
Grand Forks Field 40 20 - -
Wintering Hills Field 1,898 813 - -
CHINA
Block 04/36 - - 563,400 27,607
Block 05/36 (1) - - 415,128 30,512
Getuo Block - - 76,108 3,729
Laopu Block (2) - - 78,332 3,838
Block 27/11 - - 753,670 61,562
------- ---- --------- ------
TOTAL 2,418 924 1,886,638 27,248
====== ==== ========= ======
<FN>
(1) The Foreign Contractors elected to move into phase two of the exploration
period and as a result are required to relinquish 25% of the acreage in the
block which equates to 103,782 gross acres or 7,628 net acres to the
Company's interest. The relinquishment will be effective March 31, 1999.
See Item 1. "The Company-Overview".
(2) The Foreign Contractors have elected to relinquish their interests in the
Laopu Block. See Item 1. "The Company-Overview".
</FN>
</TABLE>
Productive Wells
The following table sets forth both the gross and net productive wells
of the Company at December 31, 1998:
Developed Undeveloped
--------- -----------
<TABLE>
Gross Net Gross Net
----- --- ----- ---
<S> <C> <C> <C> <C>
CANADA
Morinville Field 4 .8 - -
Grand Forks Field 1 .5 - -
Wintering Hills Field 3 1.2 - -
CHINA
Block 04/36 - - - -
Block 05/36 - - - -
Getuo Block - - - -
Laopu Block - - - -
Block 27/11 - - - -
---- ---- ---- ----
TOTAL 8 2.5 - -
==== ==== ==== ====
</TABLE>
4
<PAGE>
Drilling Activity
The following table sets forth the results of drilling activities in
China during each of the three fiscal years for the period ended December 31,
1998:
<TABLE>
<CAPTION>
1998 1997 1996
---- ---- ----
Gross Net Gross Net Gross Net
----- --- ----- --- ----- ---
<S> <C> <C> <C> <C> <C> <C>
Exploratory Wells: (1)
Productive (2) - - - - 4 .2
Nonproductive (3) 2 .1 2 .1 - -
Development Wells: (1)
Productive (2) - - - - - -
Nonproductive (3) - - - - - -
---- ---- ---- ----- ---- ----
TOTAL 2 .1 2 .1 4 .2
=== === === === === ===
<FN>
(1) An exploratory well is a well drilled either in search of a new, as-yet
undiscovered oil or gas reservoir or to greatly extend the known limits of a
previously discovered reservoir. A developmental well is a well drilled
within the presently proved productive area of an oil or gas reservoir, as
indicated by reasonable interpretation of available data, with the objective
of completing in that reservoir.
(2) A productive well is an exploratory or development well found to be capable
of producing either oil or gas in sufficient quantities to justify
completion as an oil or gas well.
(3) A nonproductive well is an exploratory or development well that is not a
producing well.
</FN>
</TABLE>
There were no wells being drilled in China at December 31, 1998 and no
wells have been drilled in Canada since the Company acquired its interest in
November 1996.
Employees
See Item 1. "The Company" of this Form 10-K ("Form 10-K")
Regulatory Matters
Environmental
The Company's operations are subject to various laws and regulations
relating to the protection of the environment, which have become increasingly
stringent. Management believes the Company's current operations are in
compliance with current environmental laws and regulations. There are no
environmental claims pending or, to management's knowledge, threatened against
the Company. There can be no assurance, however, that current regulatory
requirements will not change, currently unforeseen environmental incidents will
not occur or past non-compliance with environmental laws will be discovered with
respect to the Company's properties.
Additional Factors Affecting Business
No China Proved Producing Reserves and Need for Additional Capital
The Company has proved undeveloped reserves and no proved producing
reserves in China. Its revenues are limited to interest income earned on cash
reserves (approximately $540,200 in 1998) and oil and gas income (approximately
$464,800 in 1998) from oil and gas production located in Alberta, Canada. To
date, the Company has relied primarily on equity financing to fund its ongoing
operations in China. Over the next three years, if full exploration and
development of the Company's properties were to take place, management currently
5
<PAGE>
projects that through 2001 it will need additional capital of at least
$12,500,000 for such activities based upon its now current working interest in
China properties. However, this estimate is based on a number of assumptions,
the accuracy or likelihood of occurrence of which cannot be assured, including,
for example, the level of success in and timing of discoveries, the timing of
the development plan for various fields, and cost and reserve projections of the
operator, Kerr-McGee, and the willingness of the other joint concession owners
to proceed with these exploration and development plans. As a result, the
Company does not expect to have positive cash flow until 2002. There can be no
assurance that sufficient reserves will be found or sold at prices which will
achieve positive cash flow. Moreover, there is no assurance that sufficient
additional financing will be available on terms acceptable to the Company to
enable it to proceed to production or meet its capital obligations as they
become due. Failure to meet capital commitments under the operating agreements
could be a default which would have severe financial penalties with the ultimate
effect, after notice and a cure period, of causing the Company to lose all of
its rights under the operating agreement under which a default occurred.
There is no assurance that oil, in sufficient quantities to make
existing discovery commercially viable, will be produced by the Company. The
Company is not presently deriving any revenue from China operations and has no
positive cash flow. Ryder Scott Company ("Ryder Scott"), in its report, based
its analysis on depletion of economically recoverable reserves in 11 years after
the start of production. The long-term viability of the Company depends on its
ability to find or acquire, develop and produce additional reserves.
Uncertainty of Reserve Estimates and Future Net Revenues
Estimates of the Company's oil and gas reserves and future net revenues
therefrom, appearing elsewhere herein, are based on reserve reports prepared by
Ryder Scott, independent petroleum engineers as of January 1, 1999. The
estimation of reserves requires substantial judgment on behalf of the Company
and the independent petroleum engineers, resulting in imprecise determinations,
particularly with respect to new discoveries. The accuracy of any reserve
estimate depends on the quality of available data as well as engineering and
geological interpretation and judgment. Actual future production, oil and gas
prices, revenues, taxes, capital expenditures, operating expenses, geologic
success, and quantities of recoverable oil and gas resources may vary
substantially from those assumed in these estimates, may result in revisions to
such estimates and could materially affect the estimated quantities and related
future revenues of reserves set forth herein. The estimates of future net
revenues reflect oil and gas price estimates for the general geographical area
as of the date of estimation, without escalation. There can be no assurance,
however, that such prices will be realized or that the estimated production
volumes will be produced during the periods indicated. Future performance that
deviates significantly from the reserve reports could have a material adverse
effect on the Company.
Relinquishment Under the Petroleum Contracts
At the end of the first phase of the exploration period, the Foreign
Contractors must relinquish 25 percent of the contract area excluding
development or production areas. At the end of the second phase of the
exploration period, the Foreign Contractors are obligated to relinquish 25
percent of the remaining contract area after subtracting each development area
and/or production area therefrom. At the end of the last phase of the
exploration period, the Foreign Contractors must relinquish all contract areas
not under development or production. Upon completion of all work and financial
obligations, the Foreign Contractors may relinquish their entire interest in any
block at the end of each exploration period. Due to the extensive exploration
efforts expended on Block 04/36, CNOOC granted permission for entry into the
second phase with no relinquishment, with the second phase extending to August
1999. The Company and the other Foreign Contractors will be evaluating the
acreage to relinquish and may request another extension into the third phase.
There is no assurance that such additional extension will be granted.
6
<PAGE>
The Foreign Contractors are in discussion with CNPC and CNOOC, as
applicable, regarding the first phase relinquishment in Getuo Block and 05/36
Block. The Foreign Contractors are required to relinquish 25 percent of the
contract area in Block 05/36. Discussions with CNPC with regard to
relinquishment on the Getuo Block are still underway. The Foreign Contractors
have identified relinquishment acreage which the Company believes will not
affect the future potential of these blocks.
China's Legal System
Since 1979, many laws and regulations dealing with economic matters, in
general, and foreign investment, in particular, have been promulgated in China.
In December 1982, the National People's Congress of China amended the
Constitution of China to authorize foreign investment and to guarantee "the
lawful rights and interests" of foreign investors in China. As China's legal
system develops, the promulgation of new laws, changes to existing laws and the
pre-emption of local regulations by national laws may adversely affect foreign
investors. The trend of legislation over the past 19 years has, however,
significantly enhanced the protection of foreign investment and allowed for more
active control by foreign parties of foreign invested enterprises in China.
There can be no assurance, however, that the current trend in economic
legislation towards promoting market reforms will not be slowed, curtailed or
reversed, especially in the event of a change in leadership, social or political
disruption, or unforeseen circumstances affecting China's political, economic or
social life. Such a shift could have a material adverse effect upon the business
and prospects of the Company.
Oil and Gas Exploration, Development and Production
Oil and gas exploration involves a high degree of risk and there is no
assurance that expenditures to be made on future exploration by the Company will
result in any new discoveries of oil, condensate or gas in commercial
quantities. It is very difficult to project the costs of implementing an
exploratory drilling program due to the inherent uncertainties of drilling in
unknown formations; the costs associated with encountering various drilling
conditions, such as overpressured zones and tools lost in the hole; and changes
in drilling plans and locations as a result of prior exploratory wells or
additional seismic data and interpretations thereof. The Company's drilling
operations may be curtailed, delayed or canceled as a result of numerous
factors, weather conditions, compliance with governmental requirements and
shortages or delays in the delivery of equipment. Production and development of
offshore oil, gas and condensate properties also involve a high degree of risk.
The value of the Company will be dependent upon the results of the drilling of
offshore, high-risk wells in largely undeveloped areas.
Dependence on Kerr-McGee and Management
Kerr-McGee operates each of the Bohai Bay Blocks and the Pearl River Block.
A change in the relationship between the Company and Kerr-McGee could materially
and adversely affect the operations of the Company and the scheduled date or
amount of hydrocarbon production. Moreover, a change in Kerr-McGee's focus or
willingness to devote resources to its China operations could adversely impact
the Company. The Company's vote under the operating agreements is equal to its
participation interest, which ranges from 10 to 16.67 percent in the various
blocks. The Company has assembled a consulting team consisting of geologists,
geophysicists and petroleum engineers who have considerable foreign and
China-specific oil and gas experience in order to minimize the risks associated
with oil and gas exploration, development and production. The loss of one or
more of the members of the Company's management team could also materially
adversely affect the operations of the Company and the scheduled date or amount
of hydrocarbon production.
7
<PAGE>
Operating Hazards and Uninsured Risks
In addition to the substantial risk that wells drilled will not be
productive, hazards such as unusual or unexpected geologic formations,
pressures, downhole fires, mechanical failures, blowouts, cratering, explosions,
uncontrollable flow of oil, gas or well fluids, pollution and other
environmental risks are inherent in oil and gas exploration and production.
These hazards could result in substantial losses to the Company due to injury
and loss of life, severe damage to and destruction of property and equipment,
pollution and other environmental damage and suspension of operations. The
Company carries insurance which it believes is in accordance with customary
industry practices. Pursuant to the provisions of each of the operating
agreements, the Company is named as an additional insured on the operator's
policies of insurance which address liabilities associated with drilling and
completion activities. As is common in the oil and gas industry, the Company
does not fully insure against all risks associated with its business either
because such insurance is not available or because the cost thereof is
considered prohibitive. The payment of such liabilities would reduce the funds
available to the Company or could result in the total loss of the Company's
property.
Markets and Fluctuation in Energy Prices
The Company's future profitability is substantially dependent on
prevailing prices for natural gas and oil. The amounts of and price obtainable
for the Company's oil and gas production will be affected by market factors
beyond the Company's control. Such factors include the extent of production, the
general level of market demand on a regional, national and worldwide basis,
domestic and foreign economic conditions that determine levels of industrial
production, political events in China and other foreign oil-producing regions,
and variations in governmental regulations and tax laws or the imposition of new
governmental requirements upon the oil and gas industry. Prices for oil and gas
are subject to wide fluctuation in response to relatively minor changes in
supply and demand, market uncertainty and a variety of additional factors that
are beyond the control of the Company. Affecting these factors negatively, for
example, are the upheaval in the Asian financial markets and the current trend
towards lower commodity prices generally. The marketability of the Company's
production depends in part upon the availability, proximity and capacity of
gathering systems, pipelines and processing facilities. A substantial and
prolonged decline in oil and gas prices could have a material adverse effect
upon the Company.
Title to Properties
Title to the China properties remains with either CNOOC or CNPC, as
applicable. However, the Company believes it and Kerr-McGee, the operator of the
Bohai Bay Blocks and the Pearl River Block, have the various central, provincial
or local approvals necessary to conduct their business in China. Neither the
Company nor, to the Company's knowledge, Kerr-McGee is aware of any further
approvals which could impact adversely the ability of the Company to carry on
its business or cause it to lose its rights under the petroleum contracts.
Production
The following tables summarize sales volumes, sales price and
production cost information for the Company's net oil and gas production in
Alberta, Canada for each year of the three-year period ended December 31, 1998.
"Net" production is production that is owned by the Company and produced for its
interest after deducting royalties and other similar interests.
8
<PAGE>
Year Ended December 31,
<TABLE>
-----------------------
<CAPTION>
1998 1997 1996
---- ---- ----
<S> <C> <C> <C>
Net production volume
Crude oil - (Bbls) 14,000 12,000 3,000
Natural gas - (Mcf) 132,000 145,000 28,000
Equivalent - BOE(1) 36,000 36,167 7,667
Average sales price
Per equivalent BOE(1) $ 12.91 $ 16.78 $ 9.99
Average production cost
Per equivalent BOE(1) $ 4.89 $ 6.66 $ 1.45
<FN>
(1) Based on a 6 Mcf gas to 1 Bbl oil conversion ratio.
</FN>
</TABLE>
Geographic Segments
The Company's principal exploration and development activities are now
focused in the Bohai Bay and Pearl River Mouth Basin, China. Current production
is in Alberta, Canada.
Competition
The oil and gas industry is highly competitive in all its phases. The
Company encounters strong competition from many other energy companies,
including many that possess greater resources than the Company.
Price Volatility
As the Company's properties in China are not yet producing, the
Company's only production is in Canada. The revenues generated by the Company's
Canadian properties are highly dependent on prevailing prices for oil and
natural gas. The price obtainable for the Company's oil and natural gas
production is affected by market factors beyond the control of the Company.
These factors include market demand on a regional and national basis, domestic
and foreign economic conditions that determine levels of industrial production,
variations in governmental regulations and tax laws, the marketing of alternate
fuels, and other factors such as fluctuating supply and demand.
Product Marketing
Pendaries' Canadian production is from established fields in close
proximity to pipelines and an established transportation infrastructure. As a
result, Pendaries has not experienced any difficulty in finding a market for all
of its production as it becomes available or in transporting its product to
these markets. In anticipation of establishing production in China, the Company
does not foresee any difficulty in marketing its production as it becomes
available. Due to significant oil and gas development underway in the Bohai
Basin, storage, terminal, and transportation facilities are under construction
or completed. These infrastructure developments and the fact that the Company
may sell its production on the world market lead the Company to believe it will
be able to economically market and transport its China production.
Oil Marketing
Pendaries markets its Alberta production to a variety of purchasers,
most of which are large, established companies. The oil is generally sold under
a short-term contract with the sales price based on an applicable posted price,
9
<PAGE>
plus a negotiated premium. This price is determined on a well-by-well basis and
the purchaser generally takes delivery at the wellhead.
Natural Gas Marketing
All of Pendaries' natural gas production is close to existing pipelines
and, consequently, the Company generally has a variety of options to market its
natural gas. The Company sells the majority of its natural gas on one year
contracts with prices fluctuating month-to-month based on published pipeline
indices with slight premiums or discounts to the index.
Regulations
The Company believes it and Kerr-McGee, the operator of the Bohai Bay
Blocks and the Pearl River Block, have the various central, provincial or local
approvals necessary to conduct their business in China. There can be no
assurance that further unanticipated regulations will not be required which
could impact adversely on the ability of the Company to carry on its business or
cause it to lose its rights under the petroleum contracts.
Currently, the legal requirements and/or the enforcement of existing
Chinese legal requirements applicable to the Company's operation relating to
occupational health and safety and environmental protection do not appear to be
as rigorous as in North America. Should this situation change, the Company
could, in the future, be required to take additional steps to comply with such
laws, including making capital expenditures, which expenditures could be
material.
Estimated Net Quantities of Proved Oil and Gas Reserves
and Present Value of Estimated Future Net Reserves
Ryder Scott, independent petroleum engineers located in Houston, Texas,
has conducted an independent evaluation of the Company's oil and gas reserves
and the present value of future cash flows associated with such reserves based
on constant price assumptions. This evaluation was effective as of January 1,
1999. Information from the Ryder Scott Report is summarized in the January 1,
1999 table below.
All of the Company's proved reserves are located in Block 04/36 and in
Canada. The Company presently has no proved developed reserves in China;
however, as noted above, it has commenced delineation drilling to appraise the
CFD 2-1 prospect area and plans to continue such evaluation in 1999.
The present worth of estimated future cash flows contained in the
following tables may not be representative of the fair market value of the
reserves. Assumptions relating to costs, prices for future production and other
matters are summarized in the notes following the tables. There is no assurance
that such price and cost assumptions will be attained and variances could be
material. All estimated future cash flows, as set forth in the following tables,
are stated after deduction of royalties, Alberta Royalty Tax Credit and
estimated future capital expenditures. The Ryder Scott report is based on
certain factual data supplied by the Company, Kerr-McGee, published industry
information sources and the non-confidential files of Ryder Scott.
10
<PAGE>
Reserves and Economics
Based on Constant Price Assumptions
Before Income Taxes
as of January 1, 1999
Reserves
--------
<TABLE>
<CAPTION>
Net Net Present Worth (Net)(US$000's)(1)(2)
Oil Gas Discounted at
(MBO) (MMCF) Undiscounted 10% 15% 20%
----- ------ ------------ --- --- ---
<S> <C> <C> <C> <C> <C> <C>
Proved Developed Reserves... 106 1,059 $ 1,359 $ 818 $ 676 $ 575
Proved Undeveloped Reserves. 1,852 - 8,825 3,729 2,311 1,312
----- ----- ----- ----- ----- -----
Total Proved Reserves....... 1,958 1,059 $10,184 $4,547 $2,987 $1,887
===== ===== ======= ====== ====== ======
<FN>
(1) The present value of estimated future net revenues attributable to the
Company's reserves was prepared using constant prices as of the calculation
date.
(2) Calculated using an average oil price of $11.33 per barrel for the proved
undeveloped reserves in China and an average oil price of $8.59 per barrel
and $1.38 per Mcf of natural gas for its proved developed reserves in
Canada.
</FN>
</TABLE>
The Company's proved developed and proved undeveloped reserves at
January 1, 1998 and January 1, 1997 were prepared by EBS and Associates, Inc.
("EBS"), independent petroleum engineers, and are summarized as follows:
Reserves and Economics
Based on Constant Price Assumptions
Before Income Taxes
as of January 1, 1998
Reserves
--------
<TABLE>
<CAPTION>
Net Net Present Worth (Net)(US$000's)(1)(2)
Oil Gas Discounted at
(MBO) (MMCF) Undiscounted 10% 15% 20%
----- ------ ------------ --- --- ---
<S> <C> <C> <C> <C> <C> <C>
Proved Developed Reserves... 111 850 $ 2,011 $ 1,350 $ 1,158 $ 1,015
Proved Undeveloped Reserves. 4,397 - 50,576 25,684 18,701 13,735
----- -- ------ ----- ------- ------
Total Proved Reserves....... 4,508 850 $52,587 $27,034 $19,859 $14,750
===== === ======== ======= ======= =======
<FN>
(1) The present value of estimated future net revenues attributable to the
Company's reserves was prepared using constant prices as of the calculation
date.
(2) Calculated using an average oil price of $18.50 per barrel for the proved
undeveloped reserves in China and an average oil price of $16.67 per barrel
and $1.28 per Mcf of natural gas for its proved developed reserves in
Canada.
</FN>
11
<PAGE>
Reserves and Economics
Based on Constant Price Assumptions
Before Income Taxes
as of January 1, 1997
Reserves
--------
<CAPTION>
Net Net Present Worth (Net)(US$000's)(1)(2)
Oil Gas Discounted at
(MBO) (MMCF) Undiscounted 10% 15% 20%
----- ------ ------------ --- --- ---
<S> <C> <C> <C> <C> <C> <C>
Proved Developed Reserves... 116 968 $ 2,941 $ 1,952 $ 1,670 $ 1,462
Proved Undeveloped Reserves. 1,858 - 22,699 12,406 9,244 6,873
----- ---- ------ ------ ----- -----
Total Proved Reserves....... 1,974 968 $ 25,640 $ 14,358 $ 10,914 $ 8,335
===== ==== ======== ======== ======= ========
<FN>
(1) The present value of estimated future net revenues attributable to the
Company's reserves was prepared using constant prices as of the calculation
date.
(2) Calculated using an average oil price of $21.00 per barrel for the proved
undeveloped reserves in China and an average oil price of $21.78 per barrel
and $1.36 per Mcf of natural gas for its proved developed reserves in
Canada.
</FN>
</TABLE>
There are numerous uncertainties inherent in estimating quantities of
proved reserves, future rates of production and the timing of development
expenditures, including many factors beyond the control of the Company. The
reserve data set forth herein represent only estimates. Reserve engineering is a
subjective process of estimating underground accumulations of oil and gas that
cannot be measured in an exact manner, and the accuracy of any reserve estimate
is a function of the quality of available data, engineering and geological
interpretation and judgment and the existence of development plans. As a result,
estimates of reserves made by different engineers for the same property will
often vary. Results of drilling, testing and production subsequent to the date
of an estimate may justify a revision of such estimates. Accordingly, reserve
estimates generally differ from the quantities of oil and gas ultimately
produced. Further, the estimated future net revenues from proved reserves and
the present value thereof are based upon certain assumptions, including
geological success, prices, future production levels and costs that may not
prove to be correct. Predictions about prices and future production levels are
subject to great uncertainty, and the meaningfulness of such estimates depends
on the accuracy of the assumptions upon which they are based.
The Company's proved developed oil reserves in Canada decreased from
111 MBO at January 1, 1998 to 106 MBO at January 1, 1999 due to production of 14
MBO which was partially offset by an upward revision of 9 MBO. Proved developed
natural gas reserves increased from 850 MMcf at the beginning of the year to
1,059 MMcf at the end of the year due to production of 132 MMcf being less than
an upward revision in reserves of 341 MMcf.
Proved undeveloped oil reserves in China decreased from 4,397 MBO at
January 1, 1998 to 1,852 MBO at January 1, 1999. The decrease was due to a 2,545
MBO downward revision in reserves. This downward revision occurred due to
revised structural interpretation of the deep, buried-hill reservoir utilizing
3-D seismic data obtained in 1998. This 3-D seismic data, according to Ryder
Scott's interpretation, showed a more compact structure and complex pattern of
faulting separating the exploration and delineation wells. Additional drilling
will be necessary to define more accurately the true reserves. A development
plan to accomplish this is currently being formulated.
12
<PAGE>
The Company has identified numerous potential prospects on its Bohai
Bay and Pearl River Mouth concessions and has prepared reserve estimates on 17
of these prospects, exclusive of the Laopu Block. While substantial potential
and probable reserves have been assigned to these prospects, no potential or
probable reserves have been included in the above referenced tables.
The Ryder Scott reports, pertaining to proved and probable reserves as
of January 1, 1999, and the EBS reports pertaining to proved, probable and
potential reserves as of January 1, 1998 and January 1, 1997, are available for
review at the Company's offices in Houston, Texas, during normal business hours.
Forward-Looking Statements
The statements contained in this Form 10-K that are historical facts,
including, but not limited to, statements found in this Item 1. "Business" and
Item 7. "Management's Discussion and Analysis of Financial Condition and Results
of Operations," are "Forward-Looking Statements," as that term is defined in
Section 21E of the Exchange Act, that involve a number of risks and
uncertainties. Such forward-looking statements may be or may concern, among
other things, capital expenditures, drilling activity, acquisition plans and
proposals, dispositions, development activities, cost savings, production
efforts and volumes, hydrocarbon reserves, hydrocarbon prices, liquidity,
regulatory matters and competition. Such forward-looking statements generally
are accompanied by words such as "plan," "estimate," "expect," "predict,"
"anticipate," "projected," "should," "assume," "believe," or other words that
convey the uncertainty of future events or outcomes. Such forward-looking
statements are based upon management's current plans, expectations, estimates
and assumptions and are subject to a number of risks and uncertainties that
could significantly affect current plans, anticipated actions, the timing of
such actions and the Company's financial condition and results of operations. As
a consequence, actual results may differ materially from expectations, estimates
or assumptions expressed in or implied by any forward-looking statements made by
or on behalf of the Company. Among the factors that could cause actual results
to differ materially are: fluctuations of the prices received or demand for the
Company's oil and natural gas, the uncertainty of drilling results and reserve
estimates, operating hazards, acquisition risks, requirements for capital,
general economic conditions, competition and government regulations, as well as
the risks and uncertainties set forth from time to time in the Company's other
public reports, filings and public statements.
In assessing Year 2000 issues the Company has relied on certain
representations of third parties and has attempted to predict and address all
possible scenarios which could arise. However, uncertainties exist which could
cause the Year 2000 effects to be more significant than the Company anticipates.
Such uncertainties include the success of the Company in identifying systems and
programs that are not Year 2000 compliant, the nature and amount of programming
required to up-grade or replace each of the affected programs, the availability,
rate and magnitude of related labor and consulting costs and the success of the
Company's vendors and others in addressing the Year 2000 issue.
13
<PAGE>
Recent Developments-Reduction in Size of the Board of Directors
Consistent with management's goal of reducing general and administrative
expenses, the Board believes it to be in the best interest of the Company to
reduce the size of the Board. To accomplish this, three directors, Messrs. John
Evans, Robert Martin, and Marvin Yontef have elected to retire from the Board
effective March 29, 1999. The retiring directors have no disagreements with the
Company on any matter relating to the Company's operations, policies or
practices.
Item 2. Properties
See Item 1. "The Company, Overview" of this Form 10-K. The Company also has
various operating leases for rental of office space, office equipment, and
vehicles. The Company maintains an office at 8 Greenway Plaza, Suite 910,
Houston, Texas, 77046 which comprises 4,678 square feet of lease space. Lease
payments are currently $72,485 per annum. The lease expires on November 1, 2002.
Item 3. Legal Proceedings
There are no material pending legal proceedings to which the Company or any
of its subsidiaries is a party or of which any of their property is the subject.
However, due to the nature of its business, certain legal or administrative
proceedings arise from time to time in the ordinary course of its business.
Item 4. Submission of Matters to a Vote of Security Holders
No matters were submitted for a vote of security holders during the fourth
quarter of 1998.
14
<PAGE>
PART II
Item 5. Market for the Common Equity and Related Stockholder Matters
The Company was listed on the American Stock Exchange on June 24, 1998
and The Toronto Stock Exchange on December 12, 1996. The closing price range and
trading volume of the common shares of the Company ("Common Shares") on the
American Stock Exchange and The Toronto Stock Exchange during the periods
indicated are as follows:
CLOSING PRICE(1)
----------------
<TABLE>
<CAPTION>
PERIOD HIGH LOW VOLUME(2)
- ------ ---- --- ---------
<CAPTION>
(CALENDAR YEAR) TSE Amex TSE Amex
- --------------- --- ---- --- ----
1998
<S> <C> <C> <C> <C> <C>
1st Quarter Cdn $12.50 - Cdn $ 7.50 - 143,572
2nd Quarter Cdn $ 8.50 $ 3.88 Cdn $ 5.50 $ 3.50 1,381,258
3rd Quarter Cdn $ 5.20 $ 3.63 Cdn $ 1.51 $ 1.13 649,820
4th Quarter Cdn $ 1.50 $ 1.06 Cdn $ .57 $ .31 3,345,650
1997
1st Quarter Cdn $24.00 - Cdn $11.80 - 1,146,819
2nd Quarter Cdn $20.95 - Cdn $13.75 - 743,875
3rd Quarter Cdn $19.75 - Cdn $14.00 - 762,535
4th Quarter Cdn $19.65 - Cdn $ 9.60 - 1,500,503
1996
December 12 to
December 31 Cdn $13.25 - Cdn $11.75 - 598,110
<FN>
(1) Closing prices after June 1998 are reflected for the American Exchange
in U.S. dollars and The Toronto Stock Exchange in Canadian dollars.
(2) Volumes after June 1998 are consolidated market volumes.
</FN>
</TABLE>
Dividends
The Company has no stated dividend policy nor is there any restriction on
the payment of dividends other than those imposed by corporate law and
regulation. Neither the Company nor Sino-American has paid any dividends to
date. The Company's current intention is to reinvest its earnings to finance the
growth of its business. The payment of dividends on the Common Shares in the
future will depend on the needs of the Company to finance growth, its financial
condition and other factors which the board of directors may consider
appropriate in the circumstances.
15
<PAGE>
Item 6. Selected Financial Data
The following table sets forth selected historical information
concerning the Company presented in accordance with Canadian GAAP, using U.S.
dollars, and is qualified by reference to the consolidated financial statements
and notes thereto, including Note 11. See the Consolidated Financial Statements
attached hereto.
<TABLE>
<CAPTION>
Year Ended December 31,
-----------------------
1998 1997 1996 1995 1994
------------ ------------ ------------ ------------ --------
Revenues:
<S> <C> <C> <C> <C> <C>
Oil and gas income $ 464,833 $ 606,922 $ 76,622 $ - $ -
Consulting fees - - 220,000 558,058 62,000
------------ ------------ ----------- ----------- -----------
464,833 606,922 296,622 558,058 62,000
----------- ----------- ----------- ----------- -----------
Expenses:
Oil and gas operating 176,179 240,807 11,100 - -
General and administrative 2,407,639 2,174,867 1,048,800 315,479 40,837
Depreciation, depletion and
amortization 291,334 321,304 53,971 3,004 -
Write-off of registration costs 299,397 - - - -
Stock option settlement 450,000 - - - -
Exchange loss 90,873 47,868 70,702 - -
----------- ----------- ----------- ----------- -----------
3,715,422 2,784,846 1,184,573 318,483 40,837
----------- ----------- ----------- ----------- -----------
Other Income:
Interest income 540,211 911,942 64,724 9,000 -
----------- ----------- ----------- ----------- -----------
Income (loss) before income taxes (2,710,378) (1,265,982) (823,227) 248,575 21,163
Income tax (expense) recovery - 381,641 418,821 (87,000) (3,307)
------------- ----------- ----------- ------------ -----------
Net earnings (loss) $ (2,710,378) $ (884,341) $ (404,406) $ 161,575 $ 17,856
============ ============ ============ =========== ===========
Earnings (Loss) Per Share:
Basic $ (.31) $ (.10) $ (.08) $ .08 $ 17.86
Fully diluted $ (.31) $ (.10) $ (.08) $ .05 $ 17.86
Balance Sheet Data (at end of period):
Cash and cash equivalents $ 7,873,280 $ 15,133,285 $ 17,973,455 $ 784,916 $ 19,640
Property and equipment $ 20,654,529 $ 16,134,591 $ 8,610,968 $ 3,654,385 $ -
Total assets $ 28,842,010 $ 31,499,576 $ 26,684,138 $ 4,454,078 $ 22,163
Shareholders' equity $ 28,682,148 $ 31,223,625 $ 25,895,183 $ 3,466,931 $ 18,856
</TABLE>
Item 7. Management's Discussion and Analysis of
Financial Condition and Results of Operations
General
The following discussion should be read in conjunction with the
Company's Consolidated Financial Statements, including the notes thereto. Due to
the fact that the majority of the Company's business activity is conducted in
U.S. dollars, the reporting currency is the U.S. dollar unless otherwise noted.
The Consolidated Financial Statements are prepared in accordance with Canadian
Generally Accepted Accounting Principles for the years ended December 31, 1996,
1997 and 1998. See Note 11 to the annual audited Consolidated Financial
Statements regarding reconciliation to U.S. Generally Accepted Accounting
Principles.
The Company, through its operating affiliates, Sino-American and
Sino-American Overseas, has focused its initial exploration and development
activities in two areas in the People's Republic of China: primarily in four
blocks in the Bohai Bay, and additionally in one block in the Pearl River Mouth
Basin. In 1996 an initial well was drilled in the shallow territorial waters of
the Bohai Bay located in northeast China. Following in 1997, five exploration
wells were drilled. Through December 31, 1998, a sixth exploration well was
drilled in the Bohai Bay and one exploration well was drilled in the Pearl River
Block.
16
<PAGE>
In the following discussion, references to the "Company" refer to
Pendaries Petroleum Ltd. for periods from and after December 12, 1996 and
Sino-American for periods prior to such date. Sino-American, together with its
wholly-owned subsidiary, Sino-American Overseas, holds 100% of the Company's
interests in Bohai Bay and the Pearl River Mouth Basin and the Company holds
approximately 89.5% of Sino-American's outstanding common stock and options
exchangeable into Sino-American Class A Shares, although eventually that
percentage will increase to 100%. The Company holds its interests in the Alberta
Properties directly and therefore Sino-American has no interests in such
properties.
Liquidity and Capital Resources
The Company incurred capital expenditures of $4,868,554 in 1998,
$7,844,927 in 1997 and $5,010,554 in 1996. Except for $1,966,088 which was used
in 1996 to purchase the Alberta Properties, these funds were used primarily to
fund Sino-American's obligations under the operating agreements for its share of
drilling, geological and geophysical costs in its five concession areas in
China. See Item 1. "The Company - Overview."
Capital Expenditures
--------------------
As of December 31,
------------------
<TABLE>
<CAPTION>
1998 1997 1996
---- ---- ----
<S> <C> <C> <C>
Capital costs -- Bohai Bay $4,093,827 $7,369,097 $2,833,055
Capital costs -- Pearl River 750,000 370,544 23,255
Capital costs -- Alberta Properties - - 1,966,088
Capital costs -- Other 24,727 105,286 188,186
---------- ---------- ----------
$4,868,554 $7,844,927 $5,010,584
========== ========== ==========
</TABLE>
Prior to going public in 1996 the Company had raised $1,886,500 capital
privately. At the end of 1996 and in early 1997, the Company netted proceeds
from its initial public offering of $25,655,905. In addition, the Company raised
$3,385,356 in 1997 and $42,000 in 1998 through the exercise by Sino-American
shareholders of stock options and warrants to purchase shares of Sino-American
common stock which were exchanged for the Company's Common Shares. Thus,
cumulatively through 1998, the Company has raised $30,969,761.
At December 31, 1998 the Company had available cash of $7,873,280 and
total liabilities of $159,862, as compared to $15,133,285 and $275,951,
respectively, at December 31, 1997.
The Company has recommended the following drilling and seismic program
to the operator for 1999. The costs shown in this section are based upon the
Company's recommendations and are net to the Company's now existing interest.
US $000's
---------
Geological Overall
Well and Development
<TABLE>
Well Type Block Cost Geophysical Plans Total
- ---- ---- ----- ----- ----------- ----- -----
<S> <C> <C> <C> <C> <C> <C> <C>
CFD 2-1-5* Confirmation 04/36 $ 800 $ 40 $ 350 $ 1,190
CFD 11-1-1 Exploratory 04/36 400 50 160 610
--- -- --- ---
TOTALS $ 1,200 $ 90 $ 510 $ 1,800
======= ==== ===== =======
<FN>
*The drilling of this well may or may not be required prior to
declaration of commerciality. The operator and the Company are
currently determining whether this well will be required. It is
carried in the 1999 budget as a contingent well.
</FN>
</TABLE>
17
<PAGE>
The above drilling schedule would allow the participants to begin
construction of development facilities on the CFD 2-1 field in mid-2000 with
first production in mid-2001. Construction of the development facilities on the
CFD 11-1 field could then begin in 2000 with first production in 2002.
The CFD 2-1 field contains all of the Company's proved undeveloped
reserves. The discovery well was drilled in mid-1996 and three confirmation
wells were drilled in 1997, with 3-D seismic shot, processed and interpreted in
1998.
The CFD 11-1 field contains probable reserves based upon the drilling
and testing of an exploration well drilled by the Chinese government in 1973.
3-D seismic has not yet been shot in this field but is included in the Company's
year 2000 recommendations to the operator.
The Company's total cash requirements attributable to its China
interests through the end of 2001 are projected as follows:
US $000's
<TABLE>
Less Net Net Cash
Exploration Development Operating Required Cumulative
Year Capital Capital Income Per Year Total
---- ------- ------- ------ -------- -----
<S> <C> <C> <C> <C> <C>
1999 * 1,800 - - 1,800 1,800
2000 1,675 1,674 - 3,349 5,149
2001 1,225 7,965 (1,832) 7,358 12,507
------- ----- ------- ------
TOTALS 4,700 9,639 (1,832) 12,507
<FN>
* From preceding table. See footnote in preceding table.
</FN>
</TABLE>
Current engineering studies and projections, assuming the Company's
recommendations to the operator are followed, indicate that after 2001, the
Company's exploration and development capital needs would be funded on a yearly
basis by cash flow from production. There are no assurances that the operator
will follow the Company's recommendations.
The Company has sufficient cash reserves to fund future exploration capital
of $4.7 million needed through 2001. Management believes that the $9.6 million
of development capital required through 2001 can be funded by means of
conventional financing sources. While there can be no assurances, the Company
believes that such funding may be obtainable at present oil and gas market
prices.
The preceding estimates are based on a number of assumptions, the accuracy
or likelihood of the occurrence of which cannot be assured, including, for
example, the timing of the development plan for various fields, the accuracy of
the costs and reserve projections of the Company, and the willingness of the
operator and the other joint concession owners to proceed with these exploration
and development plans. A large portion of future capital requirements is
scheduled for development rather than exploration activities. There is no
assurance that the development costs can be financed in a conventional manner.
Based on the assumptions described above, those estimates, of which there can be
no assurance, project that beginning in 2002, net revenues on a yearly basis
will exceed capital requirements which would result in positive cash flow from
such properties.
18
<PAGE>
Results of Operations
Revenues
The revenues from oil and gas properties to date have been from the
Alberta Properties acquired in November 1996. Oil and gas revenues from the
Alberta Properties increased from $76,622 in 1996 to $606,922 in 1997 as a
result of having held the Alberta Properties for only two months in 1996 and a
full year in 1997. Oil and gas revenues decreased from $606,922 in 1997 to
$464,833 in 1998. The revenue decrease was due primarily to the decline in oil
prices.
Revenues from consulting fees decreased from approximately $220,000 in
1996 to $0 in 1997 and 1998 as such fees were earned primarily under a
consulting agreement with Kerr-McGee. Kerr-McGee's obligation to pay monthly
fees expired in November 1996 and success bonuses are paid only when certain
results are achieved in the Bohai Bay Blocks.
Expenses
Oil and gas operating expenses during 1997 were $240,807 due to the
Company having held its interest in the Alberta Properties for a full year,
which represents a significant increase over the prior year's operating expense
of $11,100 (reflecting only two months of ownership). Oil and gas operating
expenses decreased by $64,628 from $240,807 in 1997 to $176,179 in 1998 due to
fewer workover and remedial operations being carried out in 1998.
General and administrative expenses increased from $1,048,800 in 1996
to $2,174,867 in 1997 due to staffing increases and paying the full year's
salary to employees in 1997 as opposed to only a partial year in 1996. General
and administration expenses were $2,407,639 in 1998. The $232,772 increase from
the prior year was due to increased costs associated with the Company's
registration with the U.S. Securities Exchange Commission, listing on the
American Stock Exchange and one-time charges incurred in connection with the
closing of the Company's Toronto, Canada, office and personnel reductions.
During 1998, the Company wrote off costs of $299,397 associated with
its registration with the U.S. Securities and Exchange Commission. These costs
were incurred primarily in the first and second quarters of 1998 and were being
deferred in anticipation of an offering of securities in the U.S. and Canada.
The Company has elected to indefinitely postpone the offering and has,
therefore, charged these registration costs to expense.
During 1998, the Company settled litigation with the former President
of its wholly owned subsidiary, Sino-American, over the number of stock options
to which the former president was entitled, and in April 1998, the parties
entered into a Settlement Agreement pursuant to which the former president
received $450,000 and agreed to execute a new Stock Option Agreement reflecting
a grant of 100,000 stock options (the number of stock options the Company
claimed had originally been granted) and, with the exception of certain
restrictions not imposed on other option holders, containing terms substantially
similar to those contained in the Stock Option Agreements of all other option
holders who had been granted options prior to 1996. The $450,000 settlement
amount was charged to expense.
The Company incurred an exchange loss of $90,873 in 1998 as compared to
$47,868 in 1997. In 1996 the Company experienced an exchange loss of $70,702.
The losses occurred due to the strength of the U.S. dollar as compared to the
Canadian dollar.
19
<PAGE>
Other Income
Investment of the net proceeds raised in the initial public offering in
1996 and early 1997 resulted in the increase in interest income from $64,724 in
1996 to $911,942 in 1997. Interest income decreased from $911,942 in 1997 to
$540,211 in 1998 due to the use of the proceeds raised in the initial public
offering for capital requirements under the operating agreements and payment of
expenses. The Company will continue to invest cash reserves in liquid, low-risk
investments in order to have funds available to meet capital requirements
anticipated for further exploratory and confirmation programs to be conducted
during 1999.
Income Taxes
The Company recorded a recovery of income taxes of $418,821 in 1996,
$381,641 in 1997 and $0 in 1998. The Company follows Accounting Recommendation
Section 3465, "Income Taxes" of the Handbook of the Canadian Institute of
Chartered Accounts and determined that the loss incurred in 1998 did not meet
the criteria promulgated in Section 3465 to record a future income tax asset.
Net Loss
The net loss after recovery of income taxes for 1998 was approximately
$2,710,378 or $0.31 per share compared to a net loss after recovery of income
taxes of approximately $884,341 or $0.10 per share and $404,406 or $0.08 per
share for the years 1997 and 1996, respectively.
Reserves
See Item 1. "The Company - Estimated Net Quantities of Proved Oil
and Gas Reserves and Present Value of Estimated Future Net Reserves."
Year 2000
The Year 2000 issues relate to the problems associated with the
inability of computer programs and equipment to properly calculate, store or use
dates after December 31, 1999. Hardware and software systems which only use a
two-digit convention for keeping track of dates would improperly interpret the
Year 2000 as the Year 1900. Errors of this type can result in system failures,
miscalculations and the disruption of operations, including, among other things,
a temporary inability to process transactions, send invoices or engage in
similar normal business. In response to the Year 2000 issues, the Company has
developed a strategic plan divided into the following phases: inventory
assessment and review of vendor representations, in-house testing, third party
integration and development of a contingency plan.
The Company has completed its initial assessment phase by compiling an
inventory listing of all in-house systems and reviewing all vendor
representations regarding the Year 2000 that the Company has received to date.
The licensor of the Company's in-house software system has certified that such
software is programmed to properly address Year 2000 scenarios. In addition, the
initial assessment has shown that less critical in-house software and
non-information technology or equipment is either not date sensitive or is
capable of addressing the Year 2000. Based on the initial review and reliance on
vendor representations, the Company is predicting that all such in-house systems
will perform their respective functions in a customary manner when faced with
Year 2000 scenarios. In addition, the Company has determined that functions
which have been out-sourced to third parties, consisting mainly of processing
needs, are performed by systems purchased within the last few years and are
programmed to recognize the Year 2000.
20
<PAGE>
The Company conducted its in-house testing phase, reviewing core
systems and core-non-information technology. To date, the Company has not
encountered any system disruption during testing, and therefore, the Company
expects that the performance of such systems will not be substantially disrupted
by Year 2000 scenarios. However, being primarily involved in the acquisition,
development and exploration of oil and gas internationally, the "mission
critical" equipment and technology of the operators of the Company's properties
rely on external power sources, such as electricity, supplied by third parties.
The Company is relying upon representations by these operators that no material
disruption of services are anticipated as a result of the Year 2000. However,
the most reasonably likely worst case Year 2000 scenario for the Company would
involve a disruption of third party services affecting the productivity of core
equipment, which could result in a substantial decrease in the Company's oil and
gas production. Such event could result in a business interruption that could
affect the Company's production payments from its Alberta Properties.
In addition to its internal review and testing, the Company is
communicating with its third party suppliers, service providers and customers to
determine the status of their Year 2000 compliance programs. The Company has
received and is relying on Year 2000 readiness reports periodically issued by
various third parties, such as financial services providers. The Company will
continue to have formal communications with its significant suppliers and
business partners to determine the extent to which the Company is vulnerable to
either the third parties' or its own failure to correct Year 2000 issues. Third
party notification and integration is expected to be completed during the second
quarter of 1999. To date, approximately 50 percent of these third parties have
responded and have provided favorable representations as to their Year 2000
readiness. These third parties have received similar representations from the
Company. While there can be no guarantee that the systems of other companies on
which the Company relies will be timely converted or that the conversion will be
compatible with the Company's systems, based on the representations received to
date, the Company does not foresee material disruptions in the Company's
business as a result of Year 2000 issues involving third parties.
During its assessment, the Company has taken steps to prevent
anticipated Year 2000 disruptions and intends to prepare, if such a plan is
called for, a contingency plan to address any anticipated disruption caused by
Year 2000 scenarios once the bulk of the readiness surveys have been received.
Although the effects of Year 2000 issues cannot be predicted with certainty, to
date, all systems tested have performed adequately, and therefore, the Company
believes that the potential impact, if any, of such disruption will, at most,
require employees to manually complete otherwise automated tasks of
calculations. The Company does not expect that any additional training would be
required to perform these tasks on a manual basis. The Company does not believe
that such event would materially affect the Company's ability to continue
business activities, although performing such tasks may require additional time
or personnel. In addition, if needed, the Company will identify and arrange for
other vendors, purchasers and third party contractors to provide such services
in order to maintain normal business operations.
It may not be economically feasible for the operator to maintain a
separate and duplicate secondary power supply for every major component of the
operator's "mission critical" equipment. Therefore, unanticipated prolonged
losses of certain services could cause material disruptions for which no
economically feasible contingency plan has been developed.
The Company has, and will continue to, utilize both internal and
external resources to complete tasks and perform testing necessary to address
the Year 2000 issues. The Company has not incurred, and does not anticipate that
it will incur, any significant costs relating to the assessment and remediation
of Year 2000 issues.
21
<PAGE>
Item 8. Financial Statements and Supplementary Data
The Company's consolidated financial statements, accounting policy disclosures,
notes to financial statements, business segment information and independent
auditors' report are presented on pages 27 through 54 of this Form 10-K.
Item 9. Changes in and Disagreements with Accountants
on Accounting and Financial Disclosure
None.
Part III
Item 10. Directors and Executive Officers of the Registrant
The information to be set forth under the captions "Election of
Directors" and "Executive Officers" in the Company's definitive proxy statement
to be filed within 120 days after the close of the fiscal year in connection
with the June 11, 1999 Annual and Special Shareholders' meeting is incorporated
herein by reference.
Item 11. Executive Compensation
The information appearing under the caption "Remumeration of Directors and
Executive Officers--Statement of Executive Compensation" in the Company's
definitive proxy statement to be filed within 120 days after the close of the
fiscal year in connection with the June 11, 1999 Annual and Special
Shareholders' meeting is incorporated herein by reference.
Item 12. Security Ownership of Certain Beneficial Owners and Management
The information appearing under the caption "Principal Shareholders" in
the Company's definitive proxy statement to be filed within 120 days after the
close of the fiscal year in connection with the June 11, 1999 Annual and Special
Shareholders' meeting is incorporated herein by reference.
Item 13. Certain Relationships and Related Transactions
The information appearing under the caption "Transactions with
Affiliates" (if any such captioned information is included) in the Company's
definitive proxy statement to be filed within 120 days after the close of the
fiscal year in connection with the June 11, 1999 Annual and Special
Shareholders' meeting is incorporated herein as reference.
PART IV
Item 14. Exhibits, Financial Statement Schedules and Reports on Form 8-K
1. The following consolidated financial statements of Pendaries Petroleum
Ltd., together with the report thereon of Arthur Andersen LLP dated
February 9, 1999, and the data contained therein, are included
immediately following the Exhibits herein:
22
<PAGE>
Report of Independent Public Accountants..........................28
Consolidated Balance Sheets.......................................29
Consolidated Statements of Operations
and Retained Earnings (Deficit)..................................30
Consolidated Statements of Shareholders' Equity...................31
Consolidated Statements of Cash Flow..............................32
2. Financial Statement Schedules
None
3. Exhibits
(a) The following exhibits are filed as a part of this Form 10-K.
Exhibit No. Exhibit
3(a)* Articles of Incorporation
3(a)* By-Laws
10(a) Purchase and Sale Agreement dated April 24, 1998, between Pendaries
Petroleum and Murphy Exploration & Production Company
10(b) Extensions to the Purchase and Sale Agreement between Pendaries
Petroleum and Murphy Exploration & Production Company
10(c)*+ Pendaries Petroleum Ltd. 1997 Nonqualified Stock Option Plan
10(d)* Exchange Rights agreement between Pendaries and Sino-American dated
August 29, 1996
10(e)*+ 1997 Stock Compensation Plan
10(f)* Petroleum Contract for Block 04/36 dated August 17, 1994 between
CNOOC, Kerr-McGee and Murphy Pacific Rim, Ltd.
10(g)* English translation of MOFTEC approval, dated September 14, 1994,
of Petroleum Contract for Block 04/36 between CNOOC, Kerr-McGee
and Murphy Pacific Rim, Ltd.
10(h)* Operating Agreement for Block 04/36 dated February 6, 1995 between
Kerr-McGee and Murphy Pacific Rim, Ltd.
10(i)* Petroleum Contract for Block 05/36 dated January 23, 1996 between
CNOOC, Kerr-McGee and Huffco China, LDC
10(j)* English translation of MOFTEC approval, dated December 30, 1996, of
Petroleum Contract for Block 05/36 between CNOOC, Kerr-McGee and
Huffco China, LDC
23
<PAGE>
10(k)* Operating Agreement for Block 05/36 between Kerr-McGee,Huffco China,
LDC and Setsco
10(l)* Petroleum Contract for Pearl River Block dated Dated 10, 1996
between CNOOC, Kerr-McGee, Santa Fe Energy Resources of China, Ltd.
and Sino-American Overseas
10(m)* English translation of MOFTEC approval of Petroleum Contract for
Pearl River Block between CNOOC, Kerr-McGee, Santa Fe Energy
Resources of China, Ltd. and Sino-American Overseas
10(n)* Operating Agreement covering Block 27/11 South China Sea
10(o)* Petroleum Contract dated July 21, 1995 for Getuo Block between
CNPC, Kerr-McGee and Energy Development
10(p)* English translation of MOFTEC approval, dated September 15, 1995, of
Petroleum Contract for Getuo Block between CNPC, Kerr-McGee and
Energy Development Corporation
10(q)* Operating Agreement for Getuo Block between Kerr-McGee, Energy
Development Corporation and Setsco
10(r)* Petroleum Contract for Laopu Block dated July 21, 1995 between CNPC,
Kerr-McGee and Energy Development Corporation
10(s)* English translation of MOFTEC approval, dated September 15, 1995, of
Petroleum Contract for Laopu Block between CNPC, Kerr-McGee and
Energy Development Corporation
10(t)* Operating Agreement for Laopu Block among Kerr-McGee, Energy
Development Corporation and Setsco
21 List of Subsidiaries of Pendaries Petroleum Ltd.
23(a) Consent of Arthur Andersen LLP
23(b) Consent of Ryder Scott Company
23(c) Consent of EBS & Associates, Inc.
27 Financial Data Schedule
*Incorporated by reference from Registration Statement No. 1-14754
on Form 20-F filed on June 18, 1998.
+Compensatory Plan.
24
<PAGE>
(b) Form 8-Ks filed during the fourth quarter of 1998.
None.
SIGNATURE
Pursuant to the requirements of Section 13 or 15(d) of the Securities
and Exchange Act of 1934, Pendaries Petroleum Ltd. has duly caused this report
to be signed on its behalf by the undersigned, hereunto duly authorized.
PENDARIES PETROLEUM LTD.
March 29, 1999 /s/ Bobby J. Fogle
Bobby J. Fogle
Vice President -Finance
Pursuant to the requirements of the Securities Exchange Act of 1934,
this report has been signed below by the following persons on behalf of the
Company and in the capacities and on the dates indicated.
March 29, 1999 /s/ Robert E. Rigney
- -------------- --------------------
Robert E. Rigney
Chairman of the Board, Director
(Principal Executive Officer)
Pendaries Petroleum Ltd.
March 29, 1999 /s/ Bobby J. Fogle
- -------------- ------------------
Bobby J. Fogle
Vice President -Finance, Director
(Principal Financial Officer)
Pendaries Petroleum Ltd.
March 29, 1999 /s/ Val G. Bennett
- -------------- ------------------
Val G. Bennett
Director
Pendaries Petroleum Ltd.
March 29, 1999 /s/ Paul H. Farrar
- -------------- ------------------
Paul H. Farrar
Director
Pendaries Petroleum Ltd.
March 29, 1999 /s/ Urick Ho
- -------------- ------------
Urick Ho
Vice President, Director
Pendaries Petroleum Ltd.
25
<PAGE>
March 29, 1999 /s/ James C. Roe
- -------------- ----------------
James C. Roe
Director
Pendaries Petroleum Ltd.
March 29, 1999 /s/ Guy B. Snowden
- -------------- ------------------
Guy B. Snowden
Director
Pendaries Petroleum Ltd.
26
<PAGE>
PENDARIES PETROLEUM LTD.
CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 1998 AND 1997
TOGETHER WITH AUDITORS' REPORT
27
<PAGE>
- --------------------------------------------------------------------------------
AUDITORS' REPORT
- --------------------------------------------------------------------------------
To the Shareholders of
PENDARIES PETROLEUM LTD.:
We have audited the consolidated balance sheets of PENDARIES PETROLEUM LTD. as
at December 31, 1998 and 1997 and the consolidated statements of operations and
retained earnings (deficit), shareholders' equity and cash flow for each of the
three years in the period ended December 31, 1998. 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 an audit to obtain
reasonable assurance 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.
In our opinion, these consolidated financial statements present fairly, in all
material respects, the financial position of the Company as at December 31, 1998
and 1997 and the results of its operations and its cash flows for each of the
three years in the period ended December 31, 1998, in accordance with accounting
principles generally accepted in Canada.
Arthur Andersen LLP
Houston, Texas
February 9, 1999
28
<PAGE>
PENDARIES PETROLEUM LTD.
CONSOLIDATED BALANCE SHEETS
DECEMBER 31, 1998 AND 1997
(all figures are in U.S. dollars)
ASSETS
<TABLE>
<CAPTION>
1998 1997
<CAPTION>
------------------ ------------------
CURRENT ASSETS
<S> <C> <C>
Cash and cash equivalents $ 7,873,280 $ 15,133,285
Accounts receivable 105,750 213,243
Prepaid expenses and other assets 208,451 18,457
------------------ ------------------
8,187,481 15,364,985
------------------ ------------------
PROPERTY AND EQUIPMENT
Oil and gas properties, recorded under the full cost method
Proved 7,890,804 6,556,094
Unproved 13,238,236 9,729,119
Furniture, fixtures and office equipment 169,938 227,657
Accumulated depreciation, depletion and amortization (644,449) (378,279)
------------------ ------------------
20,654,529 16,134,591
------------------ ------------------
$ 28,842,010 $ 31,499,576
================== ==================
</TABLE>
LIABILITIES AND SHAREHOLDERS' EQUITY
<TABLE>
<CAPTION>
CURRENT LIABILITIES
<S> <C> <C>
Accounts payable $ 44,627 $ 88,060
Accrued liabilities 115,235 187,891
------------------ ------------------
159,862 275,951
------------------ ------------------
SHAREHOLDERS' EQUITY Common shares (Note 4)
Authorized
Unlimited number of common shares
Issued
8,781,970 and 8,726,470 common shares 32,501,842 32,328,761
Cumulative translation adjustment - 4,180
Retained deficit (3,819,694) (1,109,316)
------------------ ------------------
28,682,148 31,223,625
------------------ ------------------
$ 28,842,010 $ 31,499,576
================== ==================
</TABLE>
The accompanying notes are an integral part of these consolidated statements.
29
<PAGE>
PENDARIES PETROLEUM LTD.
CONSOLIDATED STATEMENTS OF OPERATIONS AND RETAINED EARNINGS (DEFICIT)
FOR THE YEARS ENDED DECEMBER 31, 1998, 1997 AND 1996
(all figures are in U.S. dollars)
<TABLE>
<CAPTION>
1998 1997 1996
------------------ ------------------ ------------------
REVENUES
<S> <C> <C> <C>
Oil and gas income $ 464,833 $ 606,922 $ 76,622
Consulting fees - - 220,000
------------------ ------------------ ------------------
464,833 606,922 296,622
------------------ ------------------ ------------------
EXPENSES
Oil and gas operating expenses 176,179 240,807 11,100
General and administrative expenses 2,407,639 2,174,867 1,048,800
Depreciation, depletion and amortization 291,334 321,304 53,971
Write-off of registration costs (Note 4) 299,397 - -
Stock option settlement (Note 4) 450,000 - -
Exchange loss (Note 1) 90,873 47,868 70,702
------------------ ------------------ ------------------
3,715,422 2,784,846 1,184,573
------------------ ------------------ ------------------
OTHER INCOME
Interest income 540,211 911,942 64,724
------------------ ------------------ ------------------
<S> <C> <C> <C>
LOSS BEFORE INCOME TAXES (2,710,378) (1,265,982) (823,227)
RECOVERY OF INCOME TAXES - 381,641 418,821
---------------------- --------------- ------------------
LOSS (2,710,378) (884,341) (404,406)
RETAINED EARNINGS (DEFICIT), beginning of year (1,109,316) (224,975) 179,431
------------------ ------------------- ------------------
RETAINED DEFICIT, end of year $ (3,819,694) $ (1,109,316) $ (224,975)
================== ================== ===================
LOSS PER SHARE (Note 6)
Basic $ (0.31) $ (0.10) $ (0.08)
================= ================== ==================
Fully diluted $ (0.31) $ (0.10) $ (0.08)
================= ================== ==================
</TABLE>
The accompanying notes are an integral part of these consolidated statements.
30
<PAGE>
PENDARIES PETROLEUM LTD.
CONSOLIDATED STATEMENTS OF SHAREHOLDERS' EQUITY
FOR THE YEARS ENDED DECEMBER 31, 1998, 1997 AND 1996
(all figures are in U.S. dollars)
(see Note 4)
<TABLE>
<CAPTION>
Total Cumulative Retained
Total Common Translation Earnings
Shares Equity Adjustment (Deficit)
<S> <C> <C> <C> <C>
Balance at December 31, 1995 3,287,500 $ 3,287,500 $ - $ 179,431
Issuance of Sino-American Class A shares 1,648,500 1,758,500 - -
Exercise of Sino-American stock options 169,963 20,000 - -
Issue common shares to incorporate
Pendaries 7 - - -
Initial public offering by Pendaries
(net of offering costs) 2,700,000 20,805,658 - -
Proceeds upon issuance of stock warrants - 248,500 - -
Loss - - - (404,406)
----------- ------------ --------- ------------
Balance at December 31, 1996 7,805,970 26,120,158 - (224,975)
Underwriters' over allotment options 375,000 2,823,247 - -
Sino-American shares canceled (150,000) - - -
Exercise of Sino-American warrants 115,000 944,488 - -
Exercise of Pendaries stock options by
underwriter 250,000 1,912,679 - -
Exercise of Sino-American stock options 326,500 456,924 - -
Employees' share compensation 4,000 49,030 - -
Other adjustments - 22,235 4,180 -
Loss - - - (884,341)
---------- ------------ ---------- ------------
Balance at December 31, 1997 8,726,470 32,328,761 4,180 (1,109,316)
Directors' share compensation 15,000 131,081 - -
Exercise of Sino-American stock options 40,500 42,000 - -
Other adjustments - - (4,180) -
Loss - - - (2,710,378)
---------- ------------ ---------- ------------
Balance at December 31, 1998 8,781,970 $32,501,842 $ - $ (3,819,694)
========= =========== ==== =============
</TABLE>
The accompanying notes are an integral part of these consolidated statements.
31
<PAGE>
PENDARIES PETROLEUM LTD.
CONSOLIDATED STATEMENTS OF CASH FLOW
FOR THE YEARS ENDED DECEMBER 31, 1998, 1997 AND 1996
(all figures are in U.S. dollars)
<TABLE>
<CAPTION>
1998 1997 1996
------------------ ------------------ ------------------
CASH FLOWS USED IN
OPERATING ACTIVITIES
<S> <C> <C> <C>
Loss $ (2,710,378) $ (884,341) $ (404,406)
Items not affecting cash
Depreciation, depletion and amortization 291,334 321,304 53,971
Decrease in future income taxes - (381,641) (418,821)
Loss on disposition of assets 57,282 - -
Changes in non-cash working capital items
Accounts receivable 107,493 (127,695) (75,548)
Accounts payable (43,433) (113,373) 201,433
Accrued liabilities 58,425 (17,990) 205,881
Prepaid expenses and other assets (189,994) (4,290) (9,390)
------------------ ------------------ ------------------
(2,429,271) (1,208,026) (446,880)
------------------ ------------------ -------------------
CASH FLOWS USED IN INVESTING ACTIVITIES
Additions to proved oil and gas properties (1,334,710) (3,231,293) (3,324,801)
Additions to unproved oil and gas properties (3,509,117) (4,508,348) (1,623,140)
Additions to furniture, fixtures and office equipment (24,727) (105,286) (62,613)
------------------ ------------------ -------------------
(4,868,554) (7,844,927) (5,010,554)
------------------ ------------------ ------------------
CASH FLOWS FROM FINANCING ACTIVITIES
Net proceeds from issuance of common shares 42,000 6,208,603 22,832,658
Repayment of notes payable - - (186,685)
Cumulative translation effects (4,180) 4,180 -
------------------- ------------------ ------------------
37,820 6,212,783 22,645,973
---------------- ------------------ ------------------
INCREASE (DECREASE) IN CASH
AND CASH EQUIVALENTS (7,260,005) (2,840,170) 17,188,539
CASH AND CASH EQUIVALENTS, beginning of year 15,133,285 17,973,455 784,916
------------------ ------------------ ------------------
CASH AND CASH EQUIVALENTS, end of year $ 7,873,280 $ 15,133,285 $ 17,973,455
================== ================== ==================
</TABLE>
The accompanying notes are an integral part of these consolidated statements.
32
<PAGE>
PENDARIES PETROLEUM LTD.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 1998, 1997 AND 1996
(all figures are in U.S. dollars unless otherwise noted)
1. SUMMARY OF OPERATIONS AND SIGNIFICANT ACCOUNTING POLICIES
Nature of Operations
Pendaries Petroleum Ltd. ("Pendaries" or "the Company"), a New Brunswick, Canada
corporation, is a holding company whose primary interests are in exploration,
development and production of oil and gas properties in the People's Republic of
China.
On September 3, 1996, Pendaries and Sino-American Energy Corporation
("Sino-American") entered into an Exchange Rights Agreement (the "Agreement")
which conveyed to the Class A stockholders the right to exchange 6,250,000 (as
amended 6,251,000) Class A shares (including Class A shares attributable to
options and warrants outstanding on September 3, 1996) of Sino-American for
6,251,000 common shares of Pendaries. There are no provisions for revocation of
this Agreement. Its expiration in 2005 could be accelerated if the percentage of
Class A shares held by persons other than the Company is less than 10% of total
Class A and Class B shares issued and outstanding. Of the 6,251,000 Class A
shares, options, and warrants originally outstanding, 5,618,500 had been
exchanged or cancelled at December 31, 1998. Subsequent to year end, 21,500
Class A issued shares were exchanged leaving 611,000 Class A stock options
outstanding as the only remaining Sino-American securities authorized for
exchange under the Exchange Rights Agreement (See Note 4).
The Agreement between Sino-American and Pendaries also addresses certain
corporate governance and related issues. The Agreement restricts the operations
of Pendaries to business related to its investment in Sino-American and requires
Sino-American to pay any general and administrative expenses of Pendaries which
it is unable to pay from its own revenues. The Agreement places restrictions on
the issuance, by both companies, of stock or securities convertible or
exchangeable into stock except for shares of Sino-American currently reserved
for the issuance or exercise of stock options. Neither company may incur debt,
except in the ordinary course of business, without the consent of the other
company. Neither company may amend its respective certificate of incorporation
without the consent of the holders of at least two-thirds of each of the Class A
shares of Sino-American and common shares of Pendaries voting thereon. The
Agreement also places certain restrictions on the assignment or transfer of the
Class A shares of Sino-American.
Sino-American, formerly Setsco Resources, Inc. ("Setsco"), a Texas corporation
in the development stage, and its wholly owned subsidiaries, Sino-American
Overseas Energy Corporation ("Sino-American Overseas"), a Cayman Island
corporation, and Pendaries Production, Inc. ("Pendaries Petroleum"), a Delaware
corporation, are engaged in the exploration, development and production of oil
and gas properties in the People's Republic of China. For various purposes,
including to effect the name change to Sino-American, Setsco merged into
Sino-American on September 3, 1996 by issuing one Class A share of Sino-American
for each outstanding share of Setsco (the "Merger").
33
<PAGE>
PENDARIES PETROLEUM LTD.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 1998, 1997 AND 1996
(all figures are in U.S. dollars unless otherwise noted)
1. SUMMARY OF OPERATIONS AND SIGNIFICANT ACCOUNTING POLICIES (Cont.)
Principles of Consolidation
The consolidated financial statements have been prepared in accordance with
accounting principles generally accepted in Canada. The consolidated financial
statements include the accounts of Pendaries, Sino-American, Sino-American
Overseas, and Pendaries Production. All significant intercompany transactions
and balances have been eliminated.
Business Combination
As a result of the Exchange Rights Agreement in 1996, referenced above, the
holders of the Class A shares of Sino-American, for financial accounting
purposes, acquired control of the Company. For such purposes, the business
combination of the two companies has been accounted for as a reverse takeover,
whereby Sino-American is deemed to have acquired Pendaries.
Application of reverse takeover accounting results in the following:
i. The consolidated financial statements of the combined entities are issued
under the name of the legal parent (Pendaries) but are considered a continuation
of the financial statements of the legal subsidiary (Sino-American);
ii. As Sino-American was deemed to be the acquirer for accounting purposes, its
assets and liabilities were included in the consolidated financial statements at
their historical carrying values in the accounts of the Company;
iii. Shareholders' equity represents the shareholders' equity of Sino-American
as of September 3, 1996, plus subsequent equity transactions of the Company.
Cash and Cash Equivalents
Cash and cash equivalents include all cash held in financial instruments with
original maturities of three months or less.
Oil and Gas Properties
The Company follows the full-cost method of accounting for oil and gas
properties. Under this method, all productive and non-productive costs incurred
in connection with the exploration and development of oil and gas reserves are
capitalized in separate cost centers on a country-by-country basis. Such
capitalized costs include: contract and concession acquisition; geological,
34
<PAGE>
PENDARIES PETROLEUM LTD.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 1998, 1997 AND 1996
(all figures are in U.S. dollars unless otherwise noted)
1. SUMMARY OF OPERATIONS AND SIGNIFICANT ACCOUNTING POLICIES (Cont.)
geophysical and other exploration work; drilling, completion of oil and gas
wells, construction of production facilities and gathering lines; and certain
direct, general and administrative costs and other related costs. The Company
may also capitalize interest costs related to unevaluated oil and gas
properties.
Capitalized costs associated with the acquisition and evaluation of unproved
properties are excluded from amortization until it is determined whether proved
reserves can be assigned to such properties, or until the value of the
properties is impaired. Unproved properties are assessed periodically to
determine whether any impairment has occurred.
If the net capitalized costs of oil and gas properties in a cost center exceed
an amount equal to the sum of estimated future net revenues from proved oil and
gas reserves in the cost center and the costs of properties not being amortized,
both adjusted for income tax effects, such excess is charged to expense. The
total capitalized costs of all cost centers is subject to a further
recoverability test which includes, among other things, provisions for site
development and restoration, and future general, administrative and financial
costs. Net capitalized costs are assessed quarterly to determine whether any
impairment has occurred.
Substantially all of the Company's exploration, development and production
activities are conducted jointly with others, and accordingly, the Company's
financial statements reflect only its proportionate interest in such activities.
The Company owns an interest in producing oil and gas properties in Alberta,
Canada. Depletion is provided based on the Company's proportionate interest of
production in respect of proved reserves.
The Company currently has no producing oil and gas properties in the People's
Republic of China. Therefore, related capitalized costs of oil and gas
properties are not currently subject to depletion.
Revenue Recognition
Through 1996, the Company's revenues were primarily derived from consulting
agreements related to its activities in the People's Republic of China. In 1997
and 1998, the Company's revenues were derived from interest income, plus oil and
gas production related to its activities in Canada.
35
<PAGE>
PENDARIES PETROLEUM LTD.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 1998, 1997 AND 1996
(all figures are in U.S. dollars unless otherwise noted)
1. SUMMARY OF OPERATIONS AND SIGNIFICANT ACCOUNTING POLICIES (Cont.)
Income Taxes
Income taxes are provided based on accounting income. Future income taxes arise
primarily due to deducting certain development and exploration costs and capital
cost allowance for income tax purposes in excess of depreciation, depletion and
amortization for financial reporting purposes.
The Company adopted the new Accounting Recommendation Section 3465, "Income
Taxes", of the Handbook of the Canadian Institute of Chartered Accountants,
beginning with its fiscal year ended December 31, 1997. The adoption of Section
3465 changed the Company's method of accounting for income taxes to the
liability method from the previous deferral method of income tax allocation. The
liability method requires that future income tax assets and liabilities be
recognized for the expected future tax effects of all temporary differences
between the income tax and financial reporting bases of assets and liabilities.
This new section also provides recommendations that future income tax assets
related to deductible temporary differences, and unused tax losses and income
tax reductions, should be recognized to the extent that future income tax assets
are considered more likely than not to be realized.
Foreign Currency Translation Adjustments
These consolidated financial statements are presented in U.S. dollars because
the primary transactions of the Company are denominated in U.S. dollars. Foreign
currency exchange gains and losses, if any, are recognized as incurred.
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 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.
Reclassifications
Certain reclassifications have been made to the prior year consolidated
financial statements to conform with the current year presentation.
36
<PAGE>
PENDARIES PETROLEUM LTD.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 1998, 1997 AND 1996
(all figures are in U.S. dollars unless otherwise noted)
2. OIL AND GAS EXPLORATION CONTRACTS
The Company has an interest in five oil and gas exploration contracts covering
acreage in the Bohai Bay and the Pearl River Mouth Basin of the South China Sea.
The Company's counterparties to the contracts include the China National
Petroleum Corporation ("CNPC"), the Chinese National Offshore Oil Corporation
("CNOOC") and various independent oil and gas companies (the independent oil and
gas companies and the Company are collectively referred to as the "Foreign
Contractors").
Oil and gas exploration in each of the five Bohai Bay and South China Sea blocks
is governed by a separate petroleum contract. Below is a table listing the
Company's interest in each block and the concession date.
Block Interest Concession Date
- ------------------------- ------------------------------ -----------------------
04/36 Block Pendaries 10% August 1994
Getuo Block Pendaries 10% July 1995
Laopu Block Pendaries 10% July 1995
05/36 Block Pendaries 15% January 1996
27/11 Block Pendaries 16.67% December 1996
Kerr-McGee Corporation ("Kerr-McGee") is the operator of all five blocks.
Terms of Contracts
Each petroleum contract has a maximum term of 30 years. The contracts are
divided into three periods: the exploration period, the development period and
the production period.
Exploration Period
Work to be performed and expenditures to be incurred during the exploration
period, which consists of three phases totaling seven years, are the exclusive
responsibility of the Foreign Contractors. The Foreign Contractors are obligated
to drill a specified number of wells in each block during the three exploration
phases.
During the first three years, the Foreign Contractors must incur minimum
exploration expenditures of $5 million in each of the Bohai Bay blocks and $6
million in the South China Sea block. Except for an exploratory well in the
Getuo Block, all minimum exploration expenditures have been met as of December
31, 1998.
37
<PAGE>
PENDARIES PETROLEUM LTD.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 1998, 1997 AND 1996
(all figures are in U.S. dollars unless otherwise noted)
2. OIL AND GAS EXPLORATION CONTRACTS (Cont.)
During the next two years, the Foreign Contractors must incur minimum
exploration expenditures of $3 million in both the 04/36 Block and the 05/36
Block, $6 million in both the Getuo Block and the Laopu Block, and $5 million in
the 27/11 Block.
During the last two years, the Foreign Contractors must incur minimum
exploration expenditures of $2.5 million in the 04/36 Block, $3 million in the
05/36 Block, $6 million in both the Getuo Block and the Laopu Block and $5
million in the 27/11 Block.
Development Period
The development period for any field discovered during the exploration period
commences on the date of approval of the Ministry of Energy of the development
plan for an oil and/or gas field. CNOOC or CNPC, as applicable, has the option
to participate for a 51 percent interest (or to such lesser extent that CNOOC or
CNPC, as applicable, elects to participate) in the development and production
periods by paying its proportionate share of the development and operating costs
and receiving its proportionate share of oil and gas production.
Production Period
The production period of any oil and/or gas field in a block is a period of 15
consecutive years commencing on the date of commencement of commercial
production from the field.
Relinquishment
At the end of the first phase of the exploration period, the Foreign Contractors
must relinquish 25 percent of the contract area excluding development or
production areas. At the end of the second phase of the exploration period, the
Foreign Contractors are obligated to relinquish 25 percent of the remaining
contract area after subtracting each development area and/or production area
therefrom. At the end of the last phase of the exploration period, the Foreign
Contractors must relinquish all contract areas not under development or
production. Upon completion of all work and financial obligations, the Foreign
Contractors may relinquish their entire interest in any block at the end of each
exploration period. Due to the extensive exploration efforts expended on Block
04/36, CNOOC granted permission for entry into the second phase with no
relinquishment, with the second phase extending to August 1999. The Company and
the other Foreign Contractors will be evaluating the acreage to relinquish and
may request another extension into the third phase. There is no assurance that
such additional extension will be granted.
38
<PAGE>
PENDARIES PETROLEUM LTD.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 1998, 1997 AND 1996
(all figures are in U.S. dollars unless otherwise noted)
2. OIL AND GAS EXPLORATION CONTRACTS (Cont.)
The Foreign Contractors are in discussion with CNPC and CNOOC, as applicable,
regarding the first phase relinquishment in Getuo Block, Laopu Block, and 05/36
Block. The Foreign Contractors may be required to relinquish 25 percent of the
contract area in these blocks. Should this occur, the Foreign Contractors have
identified relinquishment acreage which the Company believes will not affect the
future prospectivity of these blocks.
3. MURPHY AGREEMENT
On April 24, 1998, Sino-American and the Company entered into an agreement with
Murphy Exploration & Production Company ("Murphy") to purchase its 45 percent
interest in the 04/36 Block (the "Murphy Agreement") which was extended to
December 21, 1998 and then to March 22, 1999. Under the pertinent Operating
Agreement, Kerr-McGee had a 30-day right of first refusal to purchase a
proportionate share of such 45 percent interest. Kerr-McGee did not exercise its
right of first refusal, and its right expired on May 28, 1998.
The Murphy Agreement provides that the Company will pay a total of $38 million
for Murphy's interest, $35 million of the consideration to be paid in cash and
$3 million in common shares. Due to the dramatic adverse change in the condition
of the oil and gas industry subsequent to the signing of the Murphy Agreement,
the Company is in the process of renegotiating the purchase price to a lower
amount. There is no assurance that an agreement on a lower purchase price can be
reached. As part of the agreement, Pendaries submitted a deposit of $1,000,000.
Should the transaction not close for any reason, Pendaries' obligations in the
transaction are restricted to the loss of the aforementioned deposit. The
Company is currently assessing the capital requirements and financing options
for this transaction as well as associated future exploration and development
costs and is considering whether to farm-out a portion of the 45% interest in
Block 04/36 that it may be acquiring from Murphy.
4. COMMON SHARES
Pendaries Common Shares
The authorized share capital of Pendaries consists of an unlimited number of
common shares.
During the year ended December 31, 1996, Sino-American is deemed, for accounting
purposes, to have acquired Pendaries, effective September 3, 1996 as described
in Note 1.
The Company completed an initial public offering in Canada on December 12, 1996
whereby 2,700,000 shares were sold with net proceeds to the Company of
$20,805,658. The funds were used to purchase Class B shares of Sino-American. In
January 1997, one of the underwriters exercised its option to purchase 375,000
additional shares of the Company for net proceeds of $2,823,247. In the fourth
quarter of 1997, the same underwriter exercised an option to purchase an
additional 250,000 common shares resulting in proceeds to the Company of
$1,912,679.
39
<PAGE>
PENDARIES PETROLEUM LTD.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 1998, 1997 AND 1996
(all figures are in U.S. dollars unless otherwise noted)
4. COMMON SHARES (Cont.)
Additionally, in 1997, 326,500 shares of the Company were issued for proceeds of
$456,924 on exercise of outstanding stock options of Sino-American, of which the
Sino-American shares were subsequently exchanged for an equal number of common
shares of Pendaries pursuant to the Exchange Rights Agreement described in Note
1.
The Company's U.S. registration statement filed on Form 20-F was declared
effective by the U.S. Securities and Exchange Commission in June 1998. This
permitted the Company to list its common shares for trading on the American
Stock Exchange. In the third quarter of 1998, the Company wrote-off $299,397 in
deferred registration costs related to the Company's postponed initial
cross-border public offering in the United States.
In 1998, 40,500 shares of the Company were issued for proceeds of $42,000 on
exercise of outstanding stock options of Sino-American. The Sino-American shares
were subsequently exchanged for an equal number of common shares of Pendaries
pursuant to the Exchange Rights Agreement described in Note 1.
The Company issued 4,000 common shares valued at $49,030 in 1997 to its
non-executive employees and 15,000 common shares valued at $131,081 in January
1998 to its non-management (outside) directors.
In February 1999, the outside directors of the Company were granted 62,500
shares as compensation. The estimated value of the share compensation is $47,000
which was accrued at December 31, 1998.
Warrants
In consideration for certain stock offering costs, Sino-American issued warrants
to one of its underwriters to purchase 115,000 common stock for an exercise
price of $12.00 Canadian dollars each. These warrants were exercised in 1997 for
proceeds to the Company of $944,488.
40
<PAGE>
PENDARIES PETROLEUM LTD.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 1998, 1997 AND 1996
(all figures are in U.S. dollars unless otherwise noted)
4. COMMON SHARES (Cont.)
Stock Option Agreements
At December 31, 1998 and 1997, options outstanding to acquire
Pendaries and Sino-American Class A shares are as follows:
Pendaries
(in Canadian dollars)
<TABLE>
<CAPTION>
1998 1997
---- ----
Weighted Weighted
Average Average
Exercise Exercise
Shares Price Shares Price
------ ----- ------ -----
<S> <C> <C> <C> <C>
Outstanding at beginning of year 485,000 $15.36 450,000 $11.75
Granted 79,500 10.75 285,000 17.89
Exercised - - (250,000) 11.75
Forfeitures (37,500) 13.68 - -
---------- -------- ----------- ---------
Outstanding at end of year 527,000 $14.78 485,000 $15.36
======= ====== ======= ======
Sino-American
(in U.S. dollars)
<CAPTION>
1998 1997
---- ----
<CAPTION>
Weighted Weighted
Average Average
Exercise Exercise
Shares Price Shares Price
<S> <C> <C> <C> <C>
Outstanding at beginning of year 651,500 $ 1.49 978,000 $ 1.46
Granted - - - -
Exercised (40,500) 1.04 (326,500) 1.40
--------- ------- --------- -----
Outstanding at end of year 611,000 $ 1.51 651,500 $ 1.49
======= ====== ======= =====
</TABLE>
Of the 527,000 and 611,000 options outstanding under the Pendaries and
Sino-American plans at December 31, 1998, respectively, all have exercise prices
between $10.75 and $19.00 Canadian dollars for Pendaries options and between
$1.00 and $2.00 for the Sino-American options, respectively, with a weighted
average exercise price of $14.78 Canadian dollars and $1.51,
41
<PAGE>
PENDARIES PETROLEUM LTD.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 1998, 1997 AND 1996
(all figures are in U.S. dollars unless otherwise noted)
4. COMMON SHARES (Cont.)
respectively, and a weighted average remaining contractual life of 2.95 and 1.1
years, respectively. All of these options are exercisable. On May 23, 1998,
37,500 options granted under the Pendaries Stock Option Plan in the name of a
former board member expired unexercised, decreasing the total number of options
outstanding under the Plan to 527,000 from 564,500. The Company uses the
intrinsic value method for recognizing compensation expense related to stock
option grants to employees and uses the fair value method for stock option
grants to non-employees.
In February 1999, the outside directors of the Company were granted options for
a total of 107,100 shares to be issued seven days after release of the audited
1998 consolidated financial statements. The options expire five years from date
of issuance and will have an exercise price set as of the close of trading six
days after release of the audited 1998 consolidated financial statements.
Dissenter's Claim
In 1996, as a result of the planned Merger of Setsco and Sino-American, a
shareholder who held 400,000 common shares of Sino-American exercised his
dissenter's rights which, if the claim had been properly pursued, would have
entitled him to be paid the fair value of such shares. In January 1997,
Sino-American, Pendaries and the dissenting shareholder settled the dispute and
all litigation and claims connected therewith. Pendaries issued 250,000 shares
of its common stock to the dissenting shareholder in return for the 400,000
shares of Sino-American held by the dissenting shareholder and his release from
all claims and exchange rights. In connection with this settlement, the Company
cancelled 150,000 shares of Sino-American.
Stock Option Settlement
In April 1998, in connection with litigation with a former President of
Sino-American over the number of stock options to which the former President was
entitled the parties entered into a settlement agreement pursuant to which the
former President received $450,000 and agreed to execute a new Stock Option
Agreement reflecting a grant of 100,000 stock options (the number of stock
options the Company claimed had originally been granted) and, with the exception
of certain restrictions not imposed on other option holders, containing terms
with substantially similar to those contained in the Stock Option Agreements of
all other option holders who had been granted options prior to 1996.
5. INCOME TAXES
Pendaries and Sino-American have cumulative losses for Canadian and U.S. income
tax purposes of approximately $4,200,000 Canadian dollars and $6,900,000 U.S.,
respectively. These tax losses are available to reduce future years' Canadian
and U.S. taxable income through 2004 and 2013, respectively.
42
<PAGE>
PENDARIES PETROLEUM LTD.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 1998, 1997 AND 1996
(all figures are in U.S. dollars unless otherwise noted)
5. INCOME TAXES (Cont.)
Significant components of the Company's future income tax position are as
follows:
<TABLE>
<CAPTION>
1998 1997
------------- ---------------
<S> <C> <C>
Future income tax assets (net operating loss carryforward) $ 4,322,818 $ 1,421,463
Valuation allowance (2,090,163) (945,300)
----------- -------------
2,232,655 476,163
Future income tax liabilities (excess of basis in oil and gas
properties for financial reporting over tax basis) 2,232,655 476,163
----------- ------------
Net future income tax liability $ - $ -
========== ===========
</TABLE>
Canadian GAAP requires that future income tax assets be reduced by a valuation
allowance if it is more likely than not that some portion or all of the future
income tax assets will not be realized. As such, the Company has recorded a
valuation allowance of $2,090,163 as of December 31, 1998 and $945,300 as of
December 31, 1997.
6. LOSS PER SHARE
Basic loss per common share is calculated on the basis of 8,780,388 (1997 -
8,366,811, 1996 - 4,823,762) weighted average common shares outstanding.
Fully diluted loss per common share is calculated on the basis of 9,918,388
(1997 - 9,503,311, 1996 - 5,693,914) weighted average common shares outstanding.
This reflects the effects of share options and warrants outstanding at December
31, 1998, 1997 and 1996. The Company's stock options and warrants were not
included in the computation of fully diluted loss per share because to do so
would have been antidilutive for the periods presented.
7. COMMITMENTS AND CONTINGENCIES
A substantial portion of the Company's operations and reserves are located in
China, and therefore, are subject to certain risks relating to economic and
political stability in China and the surrounding region. The Company is exposed
to certain risks due to its concentration of Chinese operations, which include
possible changes in Chinese laws, particularly relating to foreign investments
and taxation, renegotiation or modification of existing contracts, and
expropriation. Adverse developments in China and future changes in Chinese
governmental regulations and policies could have a material adverse effect on
the Company. The Company does not insure against loss of production or political
risks.
43
<PAGE>
PENDARIES PETROLEUM LTD.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 1998, 1997 AND 1996
(all figures are in U.S. dollars unless otherwise noted)
7. COMMITMENTS AND CONTINGENCIES (Cont.)
i Lease Commitments
At December 31, 1998, the Company had operating leases covering office space in
Houston, Texas. Future minimum lease payments under these operating leases in
aggregate are as follows:
<TABLE>
<S> <C>
1999 $ 72,485
2000 72,485
2001 72,485
2002 60,404
----------
$277,859
========
</TABLE>
ii. Exploration Commitments
The Company has obligations to fulfill certain commitments during the
exploratory phase of its oil and gas concession contracts in the People's
Republic of China (See Note 2).
iii. Environmental Matters
The Company's operations are subject to various laws and regulations relating to
the protection of the environment, which have become increasingly stringent.
Management believes the Company's operations are in compliance with current
environmental laws and regulations. There are no environmental claims pending
or, to management's knowledge, threatened against the Company. There can be no
assurance, however, that current regulatory requirements will not change,
unforeseen environmental incidents will not occur or past non-compliance with
environmental laws will be discovered on the properties.
iv. Uncertainty Due to the Year 2000 Issue
Most entities depend on computerized systems and therefore are exposed to the
Year 2000 conversion risk, which, if not properly addressed, could affect an
entity's ability to conduct normal business operations. Management is addressing
this issue, however, given the nature of this risk, it is not possible to be
certain that all aspects of the Year 2000 Issue affecting the Company and those
with whom it deals such as customers, suppliers and other third parties, will be
fully resolved without adverse impact on the Company's operations.
44
<PAGE>
PENDARIES PETROLEUM LTD.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 1998, 1997 AND 1996
(all figures are in U.S. dollars unless otherwise noted)
8. SEGMENT INFORMATION
Pendaries Petroleum Ltd. is an independent oil and gas company engaged in the
exploration and development of oil and natural gas properties. Information about
the Company's operations by geographic area for the years ended December 31,
1998, 1997 and 1996 are as follows:
<TABLE>
<CAPTION>
1998 1997 1996
---- ---- ----
China
<S> <C> <C> <C>
Revenues $ - $ - $ -
Depreciation - - -
Operating profit (loss) - - -
Capital expenditures 4,843,827 7,739,641 2,968,565
Identifiable assets $ 19,162,952 $ 14,445,739 $ 6,556,196
Canada
Revenues $ 464,833 $ 606,922 $ 76,622
Depreciation, depletion and amortization 259,054 300,931 39,707
Operating loss (1,116,924) (1,382,327) (154,068)
Capital expenditures - 24,608 2,009,376
Identifiable assets $ 2,861,234 $ 4,118,842 $ 2,035,531
United States
Revenues $ - $ - $ 220,000
Depreciation, depletion and amortization 32,280 20,373 14,264
Operating profit (loss) (1,593,454) 116,345 (669,159)
Capital expenditures 24,727 80,678 32,613
Identifiable assets $ 6,817,824 $ 12,934,995 $ 18,092,411
Total
Revenues $ 464,833 $ 606,922 $ 296,622
Depreciation, depletion and amortization 291,334 321,304 53,971
Operating loss (2,710,378) (1,265,982) (823,227)
Capital expenditures 4,868,554 7,844,927 5,010,554
Identifiable assets $ 28,842,010 $ 31,499,576 $ 26,684,138
</TABLE>
45
<PAGE>
PENDARIES PETROLEUM LTD.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 1998, 1997 AND 1996
(all figures are in U.S. dollars unless otherwise noted)
9. CONCENTRATION OF CREDIT RISK
Substantially all of the Company's accounts receivable at December 31, 1998 and
1997, result from oil and gas sales to other companies in the oil and gas
industry and institutional partners. This concentration of customers may impact
the Company's overall credit risk, either positively or negatively, in that
these entities may be similarly affected by industry-wide changes in economic or
other conditions. Such receivables are generally not collateralized. Credit
losses incurred by the Company on receivables generally have not been
significant in prior years.
10. FAIR VALUE OF FINANCIAL INSTRUMENTS
The Company's financial instruments consist of cash and cash equivalents and
short-term trade receivables and payables. The carrying amount of cash, trade
receivables and payables approximates fair market value due to the highly liquid
nature of these short-term instruments.
11. RECONCILIATION TO UNITED STATES GENERALLY ACCEPTED ACCOUNTING PRINCIPLES
These consolidated financial statements are expressed in U.S. dollars, which is
the functional currency in all areas of operation, and are prepared in
accordance with generally accepted accounting principles in Canada ("Canadian
GAAP") which conform in all material respects with those in the United States
("U.S. GAAP") for the years presented, except as outlined below.
Oil and Gas Properties
In Canada, if the net capitalized costs of oil and gas properties in a cost
center exceed an amount equal to the sum of estimated future net revenues from
proved oil and gas reserves in the cost center and the costs of properties not
being amortized, both adjusted for income tax effects, such excess is charged to
expense. Also, the total capitalized costs of all cost centers are subject to a
further recoverability test which includes, among other things, provision for
site development and restoration and future general, administrative and
financial costs. This is not consistent with U.S. GAAP. For U.S. GAAP, if the
net capitalized costs of oil and gas properties in a cost center exceed an
amount equal to the sum of estimated discounted present value at 10% of future
net revenues from proved oil and gas reserves in the cost center and the costs
of properties not being amortized, both adjusted for income tax effects, such
excess is charged to expense. Included in the estimated future net cash flows
are Canadian provincial tax credits expected to be realized beyond the date at
which the legislation, under its provisions, could be repealed. To date, the
Canadian provincial government has not indicated an intention to repeal this
legislation.
46
<PAGE>
PENDARIES PETROLEUM LTD.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 1998, 1997 AND 1996
(all figures are in U.S. dollars unless otherwise noted)
11. RECONCILIATION TO UNITED STATES GENERALLY ACCEPTED ACCOUNTING PRINCIPLES
(Cont.)
If U.S. GAAP had been applied instead of Canadian GAAP, the Company would have
recognized an impairment of its oil and gas properties in Canada in the amount
of $549,555 and $2,195,799 in China in 1998. These amounts are reflected in the
summary shown below as impairment of oil and gas properties. All amounts are in
thousands except for per share data and weighted average common shares
outstanding.
<TABLE>
<CAPTION>
Year Ended December 31,
-----------------------
1998 1997 1996
---- ---- ----
<S> <C> <C> <C>
Loss according to financial
statements, Canadian GAAP $ (2,710) $ (884) $ (404)
Increase due to:
Impairment of oil and gas properties (2,745) - -
--------- ---------- ----------
Approximate loss in accordance with U.S. GAAP (5,455) ( 884) ( 404)
---------- ---------- ----------
Retained earnings (deficit), beginning of period (1,109) (225) 179
----------- ---------- ----------
Retained deficit, end of period $ (6,564) $ (1,109) $ (225)
========== ========== ==========
Loss per share:
Basic $ (0.62) $ (0.10) $ (0.08)
========== ========== ==========
Diluted $ (0.62) $ (0.10) $ (0.08)
========== ========== ==========
Weighted average common shares outstanding 8,780,388 8,366,811 4,823,762
========== ========== ==========
</TABLE>
Accounting for Stock-Based Compensation
In 1995, the United States Financial Accounting Standards Board ("FASB") issued
Statement of Financial Accounting Standards ("SFAS") No. 123, "Accounting for
Stock-Based Compensation." With regard to its stock option plan, the Company
applies the intrinsic value method under Accounting Principles Board ("APB")
Opinion No. 25 as allowed under SFAS No. 123 in accounting for this plan, and
accordingly no compensation expense has been recognized. Had compensation
expense been determined based on the fair value at the grant dates for the stock
option grants consistent with the method of SFAS No. 123, the Company's loss per
common share would have increased to the pro forma amounts indicated below:
47
<PAGE>
PENDARIES PETROLEUM LTD.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 1998, 1997 AND 1996
(all figures are in U.S. dollars unless otherwise noted)
11. RECONCILIATION TO UNITED STATES GENERALLY ACCEPTED ACCOUNTING PRINCIPLES
(Cont.)
<TABLE>
<CAPTION>
Year Ended December 31,
1998 1997 1996
---- ---- ----
<S> <C> <C> <C>
Loss:
As reported (thousands) $(2,710) $ (884) $ (404)
Pro forma (thousands) $(2,926) $ (2,309) $ (2,228)
Loss per share:
As reported:
Basic $ (0.31) $ (0.10) $ ( 0.08)
Diluted $ (0.31) $ (0.10) $ ( 0.08)
Pro Forma:
Basic $ (0.33) $ (0.27) $ (0.41)
Diluted $ (0.33) $ (0.27) $ (0.41)
Stock options issued during period (thousands) -Pendaries 79.5 285 450
Stock options issued during period (thousands) -
Sino-American - - 222
Weighted average exercise price -
Pendaries options granted (Cdn. $) $ 10.75 $ 17.89 $ 11.75
Weighted average exercise price -
Sino-American options granted $ - $ - $ 1.98
Average per option compensation value of options granted -
Pendaries $ 2.72 $ 5.00 $ 3.93
Average per option compensation value of options granted -
Sino-American $ - $ - $ 0.25
Compensation cost (thousands) $ 216 $ 1,425 $ 1,824
</TABLE>
The above amounts were determined in accordance with the Black-Scholes option
pricing model, using the following assumptions: expected volatility computed
using, as of the date of grant, the prior five-year monthly average of the
common shares as listed on the TSE which was 29.4%; expected dividend yield -
0%; expected option term - 5 years; and risk-free rate of return as of the date
of grant was 5.36% based on the yield of five-year U.S. treasury securities.
48
<PAGE>
PENDARIES PETROLEUM LTD.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 1998, 1997 AND 1996
(all figures are in U.S. dollars unless otherwise noted)
11. RECONCILIATION TO UNITED STATES GENERALLY ACCEPTED ACCOUNTING PRINCIPLES
(Cont.)
Escrowed Shares Compensation Expense
In the U.S., the Securities and Exchange Commission has taken the position that
if shares of stock owned by officers and directors of an issuer are placed in
escrow in connection with such issuer's initial public offering and if the
release of such shares is conditioned upon any criteria other than the passage
of time, then upon the release of the escrowed shares, compensation expense is
required to be recognized by the issuer. The issuer's financial statements must
reflect compensation expense in an amount equal to the excess of the price (fair
value) of the issuer's common stock at the date of release over the initial
public offering price. Certain officers and directors of the Company were
required by the Alberta Securities Commission to place shares in escrow in
connection with the Company's initial public offering in Canada in late 1996.
The release of 122,868 of these shares is potentially subject to being
recognized as compensation. No release of such shares has occurred. If the price
of the Company's common stock were to be below the initial offering price at the
time of release, no compensation expense would be recognized.
Comprehensive Income (Loss)
During June 1997, the FASB issued SFAS No. 130, "Comprehensive Income" which was
required to be adopted in the first quarter of 1998. The Statement requires
presentation of comprehensive income (loss), which is traditional net income
(loss) adjusted for certain items reflected as direct charges to equity. There
are no significant reconciling items that would have an effect on comprehensive
income for the three years ended December 31, 1998.
Supplemental Cash Flow Disclosures
The Company paid no interest or taxes during the three year period ended
December 31, 1998.
Derivative Instruments and Hedging Activities
In June, 1998, the FASB issued SFAS No. 133, "Accounting for Derivative
Instruments and Hedging Activities." The Statement establishes accounting and
reporting standards for derivative instruments, including certain derivative
instruments embedded in other contracts and hedging activities. It requires that
an entity recognize all derivatives as either assets or liabilities in the
statement of financial position and measure those instruments at fair value.
This Statement is effective for the fiscal quarters of the Company's year ended
December 31, 2000. The Company does not anticipate that the implementation of
this Statement will have a material impact on the consolidated financial
statements.
49
<PAGE>
PENDARIES PETROLEUM LTD.
SUPPLEMENTAL OIL AND GAS INFORMATION (UNAUDITED)
(all figures are in U.S. dollars unless otherwise noted)
Capitalized Costs
Capitalized costs represent total expenditures for proved and unproved mineral
interests and related support equipment and facilities utilized in oil and
natural gas exploration and production activity, together with related
accumulated depreciation, depletion and amortization.
<TABLE>
<CAPTION>
Canada China Total
<S> <C> <C> <C>
At December 31, 1998
Proved mineral interests $ 1,966,088 $ 5,924,716 $ 7,890,804
Unproved mineral interests - 13,238,236 13,238,236
--------- ---------- ----------
Gross capitalized costs 1,966,088 19,162,952 21,129,040
Accumulated depreciation, depletion and
amortization (598,527) - (598,527)
------------ ------------ ------------
Net capitalized costs $ 1,367,561 $ 19,162,952 $ 20,530,513
============ ============ ============
At December 31, 1997
Proved mineral interests $ 1,967,473 $ 4,588,621 $ 6,556,094
Unproved mineral interests - 9,729,119 9,729,119
--------- --------- ---------
Gross capitalized costs 1,967,473 14,317,740 16,285,213
Accumulated depreciation, depletion and
amortization (340,638) - (340,638)
----------- ------------ -------------
Net capitalized costs $ 1,626,835 $ 14,317,740 $ 15,944,575
============ ============ =============
</TABLE>
Cost Not Being Amortized
The following table sets forth a summary of unproved oil and gas property costs
not being amortized at December 31, 1998, by the year in which such costs were
incurred.
<TABLE>
<CAPTION>
1998 1997 1996 Total
---- ---- ---- -----
<S> <C> <C> <C> <C>
Exploration $3,509,117 $7,739,641 $1,989,478 $13,238,236
</TABLE>
Costs Incurred
Costs incurred represent capitalized or charged against income as incurred in
connection with oil and gas producing activities. Exploration and development
costs include applicable depreciation of support equipment and facilities used
in such activities.
50
<PAGE>
PENDARIES PETROLEUM LTD.
SUPPLEMENTAL OIL AND GAS INFORMATION (UNAUDITED)
(all figures are in U.S. dollars unless otherwise noted)
<TABLE>
<CAPTION>
Canada China Total
------ ----- -----
<S> <C> <C> <C>
At December 31, 1998
Proved property acquisitions $ - $ - $ -
Unproved property acquisitions - - -
Exploration costs - 4,843,827 4,843,827
----------- ------------- -------------
Total costs incurred $ - $ 4,843,827 $ 4,843,827
=========== ============= =============
At December 31, 1997
Proved property acquisitions $ - $ - $ -
Unproved property acquisitions - - -
Exploration costs - 7,739,641 7,739,641
----------- ------------- -------------
Total costs incurred $ - $ 7,739,641 $ 7,739,641
=========== ============= =============
At December 31, 1996
Proved property acquisitions $ 1,979,376 $ - $ 1,979,376
Unproved property acquisitions - - -
Exploration costs - 2,968,565 2,968,565
----------- ------------- -------------
Total costs incurred $ 1,979,376 $ 2,968,565 $ 4,947,941
=========== ============= =============
</TABLE>
Oil and Gas Reserve Information
The following tables set forth certain unaudited information concerning
Pendaries proved oil and gas reserves at December 31, 1998, 1997 and 1996. There
are numerous uncertainties inherent in estimating the quantities of proved
reserves and projecting future rates of production and timing of development
expenditures. The following reserve data represents estimates only and should
not be construed as being exact.
51
<PAGE>
PENDARIES PETROLEUM LTD.
SUPPLEMENTAL OIL AND GAS INFORMATION (UNAUDITED)
(all figures are in U.S. dollars unless otherwise noted)
<TABLE>
<CAPTION>
Natural Gas
Oil and Natural Gas Liquids (Mbbls) (MMcf)
China Canada Total Canada
<S> <C> <C> <C> <C>
At December 31, 1995 1,762 - 1,762 -
Purchase of minerals in place - 117 117 981
Extension, discoveries and other additions - - - -
Revisions of previous estimates 96 2 98 15
Production - (3) (3) (28)
Sale of properties - - - -
----- ---- ----- ----
At December 31, 1996 1,858 116 1,974 968
===== ==== ===== ====
Purchase of minerals in place - - - -
Extension, discoveries and other additions 2,539 - 2,539 -
Revisions of previous estimates - 7 7 27
Production - (12) (12) (145)
Sale of properties - - - -
----- ---- ----- ----
At December 31, 1997 4,397 111 4,508 850
===== ==== ===== ====
Purchase of minerals in place - - - -
Extension, discoveries and other additions - - - -
Revisions of previous estimates (2,545) 9 (2,536) 341
Production - (14) (14) (132)
Sale of properties - - - -
--------- -------- ------ -----
At December 31, 1998 1,852 106 1,958 1,059
====== ===== ====== =====
Proved Developed Reserves
December 31, 1996 - 116 116 968
December 31, 1997 - 111 111 850
December 31, 1998 - 106 106 1,059
</TABLE>
Standardized Measure of Discounted Future Net Cash Flows Relating to Proved
Reserves
The following table sets forth unaudited information concerning the discounted
future net cash flows from proved oil and gas reserves of Pendaries as of
December 31, 1998, 1997, and 1996, net of income tax expense. Income tax expense
has been computed using assumptions relating to the future tax rates and the
permanent differences and credits under the tax laws relating to oil and gas
activities at December 31, 1998, 1997 and 1996, and do not take into account
subsequent changes in tax laws. The information should be viewed only as a form
of standardized disclosure concerning possible future cash flows that would
result under the assumptions used, and should not be viewed as indicative of
fair market value.
52
<PAGE>
PENDARIES PETROLEUM LTD.
SUPPLEMENTAL OIL AND GAS INFORMATION (UNAUDITED)
(all figures are in U.S. dollars unless otherwise noted)
<TABLE>
<CAPTION>
In Thousands
China Canada Total
Standardized measure of discounted future net cash flows relating to
proved reserves, net of income tax expense as of December 31, 1998:
<S> <C> <C> <C>
Future cash flows $ 20,986 $ 2,370 $ 23,356
Future production and development costs 12,161 1,011 13,172
------- ------ --------
Future net inflows before income taxes 8,825 1,359 10,184
Discount at 10% annual rate 5,096 541 5,637
-------- ------- --------
Discounted future net cash flows before income taxes 3,729 818 4,547
Discounted future income taxes - - -
-------- ------- --------
Standardized measure of discounted future net cash flows $ 3,729 $ 818 $ 4,547
======== ======= ========
Standardized measure of discounted future net cash flows relating to
proved reserves, net of income tax expense as of December 31, 1997:
Future cash flows $ 81,348 $ 3,495 $ 84,843
Future production and development costs 30,772 1,484 32,256
-------- ------- --------
Future net inflows before income taxes 50,576 2,011 52,587
Discount at 10% annual rate 24,892 661 25,553
-------- ------- -------
Discounted future net cash flows before income taxes 25,684 1,350 27,034
Discounted future income taxes 6,483 243 6,726
-------- ------- -------
Standardized measure of discounted future net cash flows $ 19,201 $ 1,107 $ 20,308
======== ======= ========
Standardized measure of discounted future net cash flows relating to
proved reserves, net of income tax expense as of December 31, 1996:
Future cash flows $ 39,019 $ 4,685 $ 43,704
Future production and development costs 16,320 1,744 18,064
------- ------- --------
Future net inflows before income taxes 22,699 2,941 25,640
Discount at 10% annual rate 10,293 989 11,282
------- ------- -------
Discounted future net cash flows before income taxes 12,406 1,952 14,358
Discounted future income taxes 3,443 361 3,804
--------- ------- --------
Standardized measure of discounted future net cash flows $ 8,963 $ 1,591 $ 10,554
======== ======= ========
</TABLE>
53
<PAGE>
PENDARIES PETROLEUM LTD.
SUPPLEMENTAL OIL AND GAS INFORMATION (UNAUDITED)
(all figures are in U.S. dollars unless otherwise noted)
<TABLE>
<CAPTION>
Change in standardized measure of discounted future net In Thousands
cash flows related to proved oil and gas reserves for the years 1998 1997 1996
ended December 31,: ------ ------ ------
<S> <C> <C> <C>
Beginning Balance $ 20,308 $ 10,554 $ 7,975
Sales, net of production costs (289) (366) (65)
Net change in prices and production costs (15,278) (3,421) 437
Extensions and discoveries, net of related costs - 14,831 -
Changes in estimated future development costs 3,742 4,536 (918)
Revisions of quantity estimates (11,043) 75 881
Purchases of minerals in place - - 2,485
Accretion of discount 2,703 1,436 1,178
Change in income taxes 6,726 (2,922) 4
Changes in production rate (timing) and other (2,322) (4,415) (1,423)
------- -------- --------
Ending Balance $ 4,547 $ 20,308 $ 10,554
======= ======== ========
</TABLE>
54
<PAGE>
LIST OF EXHIBITS
Exhibit
Number
10(a) Purchase and Sale Agreement dated April 24, 1998, between Pendaries
Petroleum and Murphy Exploration & Production Company
10(b) Extensions to the Purchase and Sale Agreement between Pendaries
Petroleum and Murphy Exploration & Production Company
21 List of Subsidiaries of Pendaries Petroleum Ltd.
23(a) Consent of Arthur Andersen LLP
23(b) Consent of Ryder Scott Company
23(c) Consent of EBS & Associates, Inc.
27 Financial Data Schedule
<PAGE>
EXHIBIT 10(a)
THIS Purchase and Sale Agreement ("Agreement") is entered into the 24 day
of April, 1998 by and among Sino-American Energy Corporation, a Texas
corporation, together with its parent company, Pendaries Petroleum Ltd., a New
Brunswick Canadian corporation, said corporations having offices at 8 Greenway
Plaza, Suite 910, Houston, Texas 77046, U.S.A. (collectively referred to as
"Purchaser") and Murphy Pacific Rim, Ltd., a Bahamian corporation with offices
at Sandringham House, 83 Shirley Street, P.O. Box N-3247, Nassau, The Bahamas
("Seller") and Murphy Exploration & Production Company, a Delaware corporation
with offices at 131 S. Robertson Street, P.O. Box 61780, New Orleans, Louisiana
70161-1780, U.S.A. ("Guarantor").
WITNESSETH
- ----------
WHEREAS Seller is the owner of a 45% interest in that certain Petroleum
Contract by and among China National Offshore Oil Corporation ("CNOOC") and
Kerr-McGee China Petroleum Ltd. ("Kerr-McGee"), et al. for Contract Area 04/36
in the Gulf of Bohai, People's Republic of China, dated August 17, 1994
including all rights and interests incident to or covered by the 04/36 Petroleum
Contract (the "Asset").
WHEREAS Purchaser wishes to purchase the Asset and Seller is agreeable to
selling the Asset on the terms and conditions set forth in this Agreement (or if
subsequent to the date of this Agreement regulatory complications arise which
militate against an asset sale, the parties may mutually decide to convert this
transaction to a sale by Guarantor to Purchaser of 100% of the stock of Seller,
subject to additional terms appropriate to the conversion to a sale of stock,
said alternate transaction hereinafter referred to as the "Stock Transaction");
and
WHEREAS Guarantor, subject to the terms and conditions of this Agreement,
hereby consents to transfer of the Asset;
NOW, THEREFORE, it is agreed as follows:
1. Purchaser hereby agrees to purchase from Seller, and Seller hereby
agrees to sell to Purchaser, the Asset (or, in the case of the Stock
Transaction, Purchaser agrees to purchase from Guarantor and Guarantor
agrees to sell to Purchaser 100% of the stock of Seller) in
consideration for payment by Purchaser to Seller (or Guarantor) of the
purchase price set out in paragraph 2 below.
2. The purchase price for the Asset is Thirty-Eight Million U.S. Dollars
(U.S. $38,000,000), consisting of Thirty-Five Million U.S. Dollars
(U.S. $35,000,000) cash and Three Million U.S. Dollars (U.S.
$3,000,000) in fully paid non-assessable common shares of Pendaries
Petroleum Ltd., duly registered under all relevant Canadian and U.S.
security laws and regulations, pursuant to the upcoming equity
offering ("Common Shares"). The number of Common Shares payable under
the previous sentence shall be equal to the whole number obtained by
dividing U.S. $3,000,000 by (i) the price per share at which the
Purchaser issues stock in its proposed equity offering or (ii) in the
event such offering does not close before October 21, 1998 the price
per share based on the average closing prices of the Common Shares on
The Toronto Stock Exchange for the five (5) trading days preceding
closing converted to U.S. dollars according to the exchange rate
published in the Wall Street Journal on the date of closing this
Agreement. Seller agrees to hold such Common Shares for at least one
year from the date of closing of this Agreement ("Holding Period").
Notwithstanding the foregoing, at Seller's option, Purchaser shall use
its best efforts to include Seller's Common Shares in any public
offering of shares by Purchaser during the Holding Period subject to
the underwriter's terms of the subsequent offering, provided that
Seller shall be obligated to pay its own portion of the underwriter's
fees applicable to its Common Shares included in such offering.
3. Closing shall take place at a mutually agreeable location twelve (12)
business days after completion of Purchaser's proposed equity offering
but in no event later than October 21, 1998. At Closing, Purchaser
shall wire transfer to Seller's designated bank account the purchase
price (and any adjustment for cash calls made by Seller pursuant to
paragraphs 6 and/or 7 below, less the deposit, plus accrued interest,
as provided in paragraph 4 below), and deliver the number of Common
Shares provided for in paragraph 2 above, and Seller shall deliver an
assignment of Seller's interest in the 04/36 Contract and the
Operating Agreement or, in the case of the Stock Transaction,
Guarantor shall deliver 100% of the shares of Seller.
4. Within three (3) business days of the execution of this Agreement,
Purchaser will pay Seller a deposit of One Million U.S. Dollars (U.S.
$1,000,000) cash which will be paid to Seller and held in a segregated
account. Within three (3) business days of the exercise by Kerr-McGee
of its preferential right to purchase up to its proportional share of
the Asset, Seller shall have, or cause to have, Purchaser's deposit
proportionately refunded based on the percentage of the Asset
Kerr-McGee elects to purchase. The deposit shall, along with interest
earned on the amount, be credited to the cash portion of the purchase
price at closing.
5. Notwithstanding anything herein to the contrary, failure by Purchaser
to close on or before October 21, 1998 for any reason (other than
Parties' failure to receive any required approval of CNOOC pursuant to
<PAGE>
ss.23.2 of the 04/36 Contract) shall result in the retention of the
deposit by Seller as a break-up fee. In the event Purchaser cannot
obtain the requisite approvals by October 21, 1998, the deposit shall
be returned to Purchaser with interest earned on the account described
in 4., above.
6. Seller shall retain responsibility for cash calls issued by Kerr-McGee
prior to March 31, 1998. For cash calls issued subsequent to March 31,
1998 and due prior to closing, Seller shall pay same and Purchaser
shall reimburse Seller at closing with interest at the same rate as
that earned on the escrow account described in 4., above.
7. Seller shall retain its voting rights under the 04/36 Contract and the
Joint Operating Agreement until closing; however, it will closely
consult and coordinate its vote with Purchaser during this period.
Purchaser agrees, pursuant to the December 2, 1997 Record of Vote of
the 04/36 Operating Committee, it will not propose an Exclusive
Operation (as defined in Article 5.13(A) of the 04/36 Operating
Agreement) on the Contract Area prior to September 30, 1998. However,
in the event Seller elects to participate solely at Purchaser's
request in i) any part of the Work Program as proposed by Kerr-McGee,
or ii) an Exclusive Operation in which Purchaser has agreed to
participate, Purchaser will be responsible for and assumes Seller's
share of such cash calls at Purchaser's sole risk. In the event
closing does not take place and Purchaser funds Seller's share of such
Exclusive Operation, the parties will enter into a farm-out agreement
to transfer the interest subject to the Exclusive Operation or
Purchaser.
8. This Agreement is personal to Purchaser and may not be assigned
without the consent of Seller.
9. No Party will issue press releases or other public disclosure
documents with regard to this Agreement or the transaction without
prior written consent of the other Parties, unless required by law or
regulation to make such public disclosure prior to receiving such
consent.
10. As soon as practicable after closing, Purchaser shall use all
reasonable efforts to cause the release of the letter of guarantee
attached to Exhibit A to this Agreement and issued by Guarantor to
CNOOC on August 2, 1994. Upon closing, for the period from March 31,
1998 until the release of the letter of guarantee, Purchaser shall
indemnify Guarantor for any liability arising out of the letter of
guarantee.
In the case of the Stock Transaction, Guarantor shall indemnify
Purchaser for any liabilities of Seller other than liabilities arising
out of the 04/36 Contract or the Operating Agreement.
11. This Agreement is subject to the approval and right of first refusal
of CNOOC pursuant to ss.23.2 of the 04/36 Contract which is appended
to this Agreement in Both Chinese and English versions as Exhibits B-1
and B-2, respectively.
12. This Agreement is further subject to all other applicable terms and
conditions of the 04/36 Contract and any other Chinese governmental
approvals which both Seller and Purchaser will work diligently to
obtain. If all required approvals cannot be obtained by October 21,
1998, this Agreement shall terminate, subject to the obligations of
paragraphs 5 and 7 above.
13. This Agreement is also subject to the applicable portion of the
Operating Agreement, attached as Exhibit C, among Kerr-McGee, Seller
and Purchaser including the preferential right of Kerr-McGee to
purchase a prorata share of the Asset or, in the event of a Stock
Transaction, the shares. At closing, Seller shall assign to Purchaser
all of Sellers' rights and obligations under the Operating Agreement.
14. Seller and Guarantor hereby represent and warrant to Purchaser that:
A. Murphy Pacific Rim, Ltd., is a corporation duly organized,
validly existing and in good standing under the laws of the
Bahamas and has all requisite corporate power and authority to
own the Assets and consummate the transaction contemplated by
this Agreement. Murphy Pacific Rim, Ltd., is duly qualified to do
business in and is in good standing in all jurisdictions in which
ownership of the Assets make such qualification necessary.
B. Seller is the owner, beneficially and of record, of the Asset.
C. All assignments, bills of sale and other conveyances of the Asset
shall contain a special warranty of title (i.e., warranty by,
through and under Seller, but not otherwise). Seller has not
subjected the Asset to any mortgages, liens, encumbrances,
security interests, options, charges or any restrictions
whatsoever other than those imposed by the terms of the 04/36
Contract and Operating Agreement. SELLER MAKES NO WARRANTIES,
EXPRESS OR IMPLIED, INCLUDING THE WARRANTY OF MERCHANTABILITY AND
THE IMPLIED WARRANTY FOR A PARTICULAR PURPOSE,REGARDING THE WELLS
FIXTURES,FACILITIES, EQUIPMENT, IMPROVEMENTS, MATERIALS AND OTHER
PERSONAL PROPERTY LOCATED ON OR INCLUDED IN THE ASSET, AND THE
SAME ARE TO BE SOLD ON AN "AS IS, WHERE IS" BASIS AND CONDITION.
<PAGE>
D. The Board of Directors of Seller has approved the sale of the
Asset and the transaction contemplated hereby, and has authorized
the execution and delivery hereon. This Agreement has been duly
executed and delivered by Seller and Guarantor and constitutes
the valid and binding obligation of Seller enforceable in
accordance with its terms, subject only to the consents and
approvals set forth in paragraph 12. Subject to obtaining such
consents and approvals, neither the execution or delivery of this
Agreement, the consummation of the transaction contemplated
hereby, nor the compliance by Seller or Guarantor with any
provisions hereof will violate any provisions of its respective
Articles of Incorporation or by-laws or create any right in or to
the Asset to any other person or entity.
E. Except for the approvals set forth in paragraph 12 and the filing
or issuance of deeds and conveyances assigning title to the Asset
to Purchaser, at or before closing there is no permit, consent,
approval or authorization of any governmental authority pending
or outstanding which would prohibit or be required for the
execution and delivery by Seller of this Agreement or the
transfer of the Asset.
F. Since March 31, 1998 there has been no adverse change in the
Asset of which Seller has particular or unique knowledge which
has not been disclosed by Seller to Purchaser or might reasonably
be expected to have a material adverse effect on the Asset.
G. No agent, broker, investment banker, person or firm acting on
behalf of the Seller or under the authority of the Seller is or
will be entitled to any broker's or finder's fee or any other
commission of similar fee in connection with the sale by the
Seller of the Assets which would be imposed on the transaction or
affect the purchase price of the Asset.
15.1 A. Sino-American Energy Corporation is a corporation duly organized,
validly existing and in good standing under the laws of the State
of Texas and has the corporate power and authority to enter into
this Agreement and consummate the transactions contemplated
hereby.
B. The Board of Directors of Sino-American Energy Corporation will
have approved the transactions contemplated hereby and authorized
the execution and delivery hereof. Neither the execution and
delivery of this Agreement not the consummation of the
transactions contemplated hereby, nor compliance by the Purchaser
with any of the provisions hereof will violate any provision of
the Articles of Incorporation or by-laws of Purchaser.
C. Except as provided in paragraph 12, at or before closing there is
no permit, consent, approval or authorization of any governmental
authority pending or outstanding which would prohibit or be
required for the execution and delivery by the Purchaser of this
Agreement or the consummation by it of the transaction
contemplated hereby other than approval of The Toronto Stock
exchange which approval will be sought prior to closing.
D. No agent, broker, investment banker, person or firm acting on
behalf of the Purchaser or under the authority of the Purchaser
is or will be entitled to any broker's or finder's fee or any
other commission or similar fee which would be imposed on the
transaction or affect the purchase price of the Asset.
15.2 A. Pendaries Petroleum Ltd., is a corporation duly organized,
validly existing and in good standing under the laws of the
Province of New Brunswick, Canada, and has the corporate power
and authority to enter into this Agreement and consummate the
transactions contemplated hereby.
B. The Board of Directors of Pendaries Petroleum Ltd. will have
approved the transactions contemplated hereby and authorized the
execution and delivery hereof. Neither the execution and delivery
of this Agreement not the consummation of the transactions
contemplated hereby, nor compliance by the Purchaser with any of
the provisions hereof will violate any provision of the Articles
of Incorporation or by-laws of Purchaser.
C. Except as provided in paragraph 12, at or before closing there is
no permit, consent, approval or authorization of any governmental
authority pending or outstanding which would prohibit or be
required for the execution and delivery by the Purchaser of this
Agreement or the consummation by it of the transaction
contemplated hereby other than approval of The Toronto Stock
exchange which approval will be sought prior to closing.
D. No agent, broker, investment banker, person or firm acting on
behalf of the Purchaser or under the authority of the Purchaser
is or will be entitled to any broker's or finder's fee or any
other commission or similar fee which would be imposed on the
transaction or affect the purchase price of the Asset.
16. A. During the period commencing on the date of the execution of
this Agreement and continuing until the closing, Seller agrees
that (i) without the prior written consent of Purchaser, Seller
<PAGE>
shall not effect any change in the Asset or enter into any
transaction which would affect the Asset, other than as required
under the 04/36 Contract and / or Operating Agreement, and (ii)
Seller will maintain or cause to have maintained insurance as is
presently maintained by the Seller to protect the Asset from loss
or damage.
B. Seller shall make available to Purchaser at closing Seller's
geologic and geophysical records and files concerning the Asset
including, but not limited to, maps, surveys, seismic
information, electric logs, and reservoir studies, analysis, and
interpretation. Purchaser shall have the right to make copies at
its expense and during normal business hours of Seller of any
such records of the Asset. Purchaser acknowledges and agrees that
Seller does not represent or warrant the accuracy or completeness
of any such records or files.
17. All obligations of Purchaser which are to be discharged under this
Agreement at the closing are subject to the Seller's fulfillment at
the closing or effective as of the closing of each of the following
conditions, unless expressly waived in writing by Purchaser at any
time prior to closing:
A. On the closing date, the representations and warranties of Seller
and Guarantor shall be true in all material respects with the
same effect as though such representations and warranties had
been made as of that time and Purchaser shall have received at
closing an affidavit dated the closing date, signed by an
executive officer of Seller and Guarantor to that effect.
B. Seller and Guarantor shall have performed and complied in all
material respects with all covenants, agreements, and conditions
stated in this Agreement and Purchaser shall have received an
affidavit dated the closing date, signed by an executive officer
of Seller and Guarantor to such effect.
C. During the period from the date of this Agreement to the closing
date the Asset has not suffered any material adverse change
affecting the rights established under the 04/36 Contract and
Purchaser shall have received an affidavit dated the closing
date, signed by an executive officer of Seller to such effect.
D. All corporate and other proceedings to be taken by Seller in
connection with the transaction contemplated by this Agreement
and all other documents incident thereto shall be reasonably
satisfactory in form and substance to Purchaser and its counsel.
E. There shall be no action or proceeding pending or threatened to
restrain or prevent the consummation of the transaction
contemplated by this Agreement.
F. All necessary consents or governmental approvals described in
paragraph 12 shall have been obtained.
G. Seller shall execute, acknowledge and deliver to Purchaser (or
its designee) an assignment, bill of sale and conveyance
conveying to Purchaser (or its designee) the Asset in a form
satisfactory to Purchase.
18. All obligations of Seller which are to be discharged under this
Agreement at the closing are subject to the Purchaser's fulfillment at
the closing or effective as of the closing of each of the following
conditions, unless expressly waived by Seller at any time prior to
closing.
A. On the closing date, the representations and warranties of
Purchaser shall be true in all material respects with the same
effect as though such representations and warranties had been
made as of that time and Seller shall have received at closing an
affidavit dated the closing date, signed by an executive officer
of Purchaser to such effect.
B. Purchaser shall have performed and complied in all material
respects with all covenants, agreements, and conditions stated in
this Agreement and Seller shall have received an affidavit dated
the closing date, signed by an executive officer of Purchaser to
such effect.
C. All corporate and other proceedings to be taken by Purchaser in
connection with the transaction contemplated by this Agreement
and all other documents incident thereto shall be reasonably
satisfactory in form and substance to Seller and its counsel.
D. There shall be no action or proceeding pending or threatened to
restrain or prevent the consummation of the transaction
contemplated by this Agreement.
E. All necessary consents or governmental approvals described in
paragraph 12 shall have been obtained.
19. Purchaser shall protect, defend, indemnify and hold Seller harmless
from the payment of any claims, costs, expenses and liabilities,
direct, contingent or otherwise ("Damages"), assessed against Seller
<PAGE>
which are attributable to the Assets and attributable to a period of
time from and after March 31,1998, unless such Damages shall have been
or relate to the period before March 31, 1998. Seller shall protect,
defend, indemnify and hold Purchaser harmless from the payment of any
Damages assessed against Purchaser which are attributable to the
Assets and attributable to a period of time prior to March 31, 1998,
except for plugging and abandoning liabilities which shall be the
responsibility of the Purchaser.
20. This Agreement may be terminated in the event of the following:
(i) mutual agreement of the Parties;
(ii) inability to receive the necessary governmental approvals
specified in paragraph 12 above; or
(iii) election of Purchaser's Board of Directors not to go
forward with the Agreement as provided in paragraph 13
or inability to obtain approval of The Toronto Stock
Exchange.
In the case of subparagraph (i) & (ii) above, the deposit, plus
accrued interest, shall be refunded to Purchaser. If closing does
not take place for any other reason attributable to Purchaser,
Seller's sole remedy for Purchaser's failure to perform shall be
termination of the Agreement and retention of the deposit.
21. From time to time prior to and following the closing, at the
request of any Party thereto and without further consideration,
the other party or parties hereto shall execute and deliver to
such requesting party instruments and documents and take such
other action as the requesting party may reasonably request in
order to consummate more fully and effectively the transaction
contemplated hereby.
22. This Agreement shall be governed by the laws of the Province of
Alberta, Canada.
23. This Agreement supersedes all prior oral or written agreements
between seller and Purchaser and may only be modified by written
agreement duly signed by both parties.
WITNESS the hand of the parties by their duly authorized officers this
24 day of April, 1998.
PURCHASER: SELLER:
PENDARIES PETROLEUM LTD MURPHY PACIFIC RIM, LTD.
By: /s/ Robert E. Rigney By /s/ Enoch L. Dawkins
-------------------- --------------------
Name Robert E. Rigney Name Enoch L. Dawkins
Title Chairman Title President
GUARANTOR:
SINO-AMERICAN CORPORATION MURPHY EXPLORATION &
PRODUCTION COMPANY
By: /s/ Robert E. Rigney By /s/ Enoch L. Dawkins
-------------------- --------------------
Name Robert E. Rigney Name Enoch L. Dawkins
Title Chairman Title President
G:\LAND\WPDATA\FOREIGN\CHINA\1998\SLE0436\PSREV3.WPD
<PAGE>
EXHIBIT 10(b)
MURPHY PACIFIC RIM, LTD.
200 Peach Street (71730)
P.O. Box 7000
El Dorado, Arkansas 71731
George M. Shirley
General Manager
Negotiations & New Business Development
December 21, 1998
Sino-American Energy Corporation
Pendaries Petroleum Ltd.
Suite 910, 8 Greenway Plaza
Houston, TX 77046
Attention: Mr. Chuck Erickson
RE: China Block 04/36
Purchase and Sale Agreement dated 24 April, 1998 ("Agreement")
& Amendment dated 31 July, 1998 ("First Amendment")
Gentlemen:
Pursuant to our recent discussions, Murphy Pacific Rim, Ltd. and Murphy
Exploration & Production Company (collectively, "Murphy") hereby agree to extend
by ninety-one (91) days the "not later than" date for the closing of the
transaction described in the above referenced Agreement and First Amendment.
Closing shall take place at a mutually agreeable location on or before March 22,
1999. All references to December 21, 1998 in the First Amendment shall be
changed to March 22, 1999. Except as amended hereby, the referenced Agreement
and First Amendment shall remain in full force and effect.
If the foregoing correctly set forth our understanding, please sign and
return one copy of this letter.
MURPHY PACIFIC RIM, LTD.
By: /s/ George M. Shirley
---------------------
MURPHY EXPLORATION & PRODUCTION COMPANY
By: /s/ George M. Shirley
---------------------
Agreed and accepted this 21st day of December, 1998
SINO-AMERICAN ENERGY CORPORATION
By: /s/ Robert E. Rigney
--------------------
PENDARIES PETROLEUM LTD.
By: /s/ Robert E. Rigney
--------------------
<PAGE>
MURPHY PACIFIC RIM, LTD.
200 Peach Street (71730)
P.O. Box 7000
El Dorado, Arkansas 71731
July 31, 1999
VIA U.S. MAIL AND FAX (713) 355-3511
Sino-American Energy Corporation
Pendaries Petroleum Ltd.
Suite 910, 8 Greenway Plaza
Houston, TX 77046
Attention: Mr. Chuck Erickson
RE: Purchase and Sale Agreement
24 April, 1998 ("Agreement")
Gentlemen:
Pursuant to your request, Murphy Pacific Rim, Ltd. and Murphy
Exploration & Production Company (collectively, "Murphy") hereby agree to extend
by sixty (60) days the "not later than" date for the closing of the transaction
described in the above referenced agreement. Closing shall take place at a
mutually agreeable location on or before December 21, 1998. All references to
October 21, 1998 in the Agreement shall be changed to December 21, 1998.
In consideration of this extension, Sino-American Energy Corporation
and Pendaries Petroleum Ltd., (collectively "Purchaser") agree that the US
$1,000,000 deposit previously paid by Purchaser to Murphy (together with
interest subsequently earned thereon) has been fully earned by Murphy and will
not be returned to Purchaser in the event the transaction does not close for any
reason, (including without limitation the failure to receive requisite CNOOC or
any other Chinese governmental approvals). In the event the transaction closes
on or before December 21, 1998 the cash portion of the purchase price shall be
credited (reduced) by the aforementioned $1,000,000, plus interest pursuant to
clause 4 of the referenced agreement. Except as amended hereby, the referenced
agreement shall remain in full force and effect.
If the foregoing correctly set forth our understanding, please sign and
return one copy of this letter.
MURPHY PACIFIC RIM, LTD.
By: /s/ George M. Shirley
---------------------
MURPHY EXPLORATION & PRODUCTION COMPANY
By: /s/ George M. Shirley
---------------------
Agreed and accepted this 21st day of December, 1998
SINO-AMERICAN ENERGY CORPORATION
By: /s/ Robert E. Rigney
--------------------
PENDARIES PETROLEUM LTD.
By: /s/ Robert E. Rigney
--------------------
<PAGE>
EXHIBIT 21
LIST OF SUBSIDIARIES OF PENDARIES PETROLEUM LTD.
Sino-American Energy Corporation
Sino-American Overseas Resources Corp.
Pendaries Production, Inc.
<PAGE>
EXHIBIT 23(a)
CONSENT OF INDEPENDENT PUBLIC ACCOUNTANTS
As independent public accountants, we hereby consent to the incorporation in
this Form 10-K of our report dated February 9, 1999 included in the Pendaries
Petroleum Ltd. annual consolidated financial statements for the year ended
December 31, 1998 included in this Form 10-K.
/s/ Arthur Andersen LLP
ARTHUR ANDERSEN LLP
Houston, Texas
March 29, 1999
<PAGE>
EXHIBIT 23(b)
CONSENT OF RYDER SCOTT COMPANY
INDEPENDENT PETROLEUM ENGINEERS
We hereby consent to the incorporation by reference to our reports entitled
"Sino-American Energy Corporation, Estimates Reserves and Future Net Revenue
Attributable to the CFD 2-1 and CFD 11-1 Fields, Bohai Bay, China, Constant and
Escalated Pricing As of January 1, 1999" and "Pendaries Petroleum Ltd.,
Estimated Future Reserves and Revenue Attributable to Certain Properties in
Canada Constant and Escalated Pricing as of January 1, 1999" and to the data
extracted from our reports and the references to our firm relating to Pendaries
Petroleum Ltd.
Annual Report on Form 10-K for the year ended December 31, 1998.
/s/ Ryder Scott & Company
RYDER SCOTT & COMPANY
PETROLEUM ENGINEERS
March 19, 1999
<PAGE>
EXHIBIT 23(c)
CONSENT OF EBS & ASSOCIATES, INC.
INDEPENDENT PETROLEUM ENGINEERS
We hereby consent to the incorporation by reference to our reports entitled
"Reserve & Economic Potential Study, Bohai Bay & Pearl River, As of January 1,
1997, People's Republic of China, Constant Case" and "Reserve & Economic
Potential Study, Bohai Bay & Pearl River, As of January 1, 1998, People's
Republic of China, Constant Case" and to the data extracted from our reports and
the references to our firm relating to the Pendaries Petroleum Ltd. Form 10-K
for the year ended December 31, 1998.
/s/ EBS & Associates, Inc.
EBS & ASSOCIATES, INC.
PETROLEUM ENGINEERS
March 24, 1999
<TABLE> <S> <C>
<ARTICLE> 5
<LEGEND>
THIS SCHEDULE CONTAINS SUMMARY FINANCIAL INFORMATION EXTRACTED FROM THE
PENDARIES PETROLEUM LTD. CONSOLIDATED FINANCIAL STATEMENTS FOR THE PERIOD
ENDED DECEMBER 31, 1998 AND IS QUALIFIED IN ITS ENTIRETY BY REFERENCE TO
SUCH FINANCIAL STATEMENTS.
</LEGEND>
<MULTIPLIER> 1000
<S> <C>
<PERIOD-TYPE> YEAR
<FISCAL-YEAR-END> DEC-31-1998
<PERIOD-START> JAN-01-1998
<PERIOD-END> DEC-31-1998
<CASH> 7,873
<SECURITIES> 0
<RECEIVABLES> 106
<ALLOWANCES> 208
<INVENTORY> 0
<CURRENT-ASSETS> 8,187
<PP&E> 21,299
<DEPRECIATION> (644)
<TOTAL-ASSETS> 28,842
<CURRENT-LIABILITIES> 160
<BONDS> 0
0
0
<COMMON> 32,502
<OTHER-SE> (3,820)
<TOTAL-LIABILITY-AND-EQUITY> 28,842
<SALES> 465
<TOTAL-REVENUES> 1,005
<CGS> 0
<TOTAL-COSTS> 3,715
<OTHER-EXPENSES> 0
<LOSS-PROVISION> 0
<INTEREST-EXPENSE> 0
<INCOME-PRETAX> (2,710)
<INCOME-TAX> 0
<INCOME-CONTINUING> 0
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> (2,710)
<EPS-PRIMARY> (0.31)
<EPS-DILUTED> (0.31)
</TABLE>
