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U.S. SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, DC 20549
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FORM 10-SB
AMENDMENT NO. 2
GENERAL FORM FOR REGISTRATION OF SECURITIES
OF SMALL BUSINESS ISSUERS
Under Section 12(b) or (G) of The Securities Exchange Act of 1934
PENNACO ENERGY, INC.
(Name of Small Business Issuer in its charter)
NEVADA 88-0384598
(State or other jurisdiction of (IRS Employer ID No.)
incorporation or organization)
1050 17TH STREET, SUITE 700
DENVER, COLORADO 80265
(Address of Principal Executive Office) (Zip Code)
ISSUER'S TELEPHONE NUMBER, INCLUDING AREA CODE: 303-629-6700
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SECURITIES REGISTERED PURSUANT TO SECTION 12(b) OF THE ACT:
Title of each class Name of each exchange on
to be so registered which each class is to be registered
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None
SECURITIES REGISTERED PURSUANT TO SECTION 12(g) OF THE ACT:
Common Stock, par value $.001
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INFORMATION REQUIRED IN REGISTRATION STATEMENT
PART I
ITEM 1. DESCRIPTION OF BUSINESS.
FORWARD-LOOKING STATEMENTS
THIS REGISTRATION STATEMENT CONTAINS CERTAIN FORWARD-LOOKING STATEMENTS
WHICH INVOLVE RISKS AND UNCERTAINTIES. THE ACTUAL RESULTS OF THE COMPANY
COULD DIFFER MATERIALLY FROM THOSE ANTICIPATED IN THESE FORWARD-LOOKING
STATEMENTS AS A RESULT OF FACTORS INCLUDING THOSE SET FORTH IN "RISK FACTORS"
AND ELSEWHERE IN THIS REGISTRATION STATEMENT.
OVERVIEW
Pennaco Energy, Inc. (the "Company") is an independent energy company
primarily engaged in the acquisition, development and production of natural
gas from coal bed methane ("CBM") properties in the Rocky Mountain region of
the United States. The Company currently has oil and gas lease rights with
respect to approximately 465,000 net acres and oil and gas option rights to
approximately 27,000 net acres in the Powder River Basin in northeastern
Wyoming and southeastern Montana, as well as a management team that is
experienced in the development of CBM properties. The Company plans to drill
approximately 40 net CBM wells in the Powder River Basin by year-end 1998,
and approximately 500 gross CBM wells in 1999. The Company initiated its
drilling program on November 15, 1998 with the drilling of its first well.
The Company estimates that its capital expenditures will total approximately
$7 million for the fourth quarter of 1998, which will be allocated
approximately 30% to drilling and completion and 70% to lease acquisition.
As of the date hereof, the Company has not produced any oil or gas nor
does it currently have the ability to produce any oil or gas. Certain of the
Company's undeveloped oil and gas properties have reserves classified as
proved undeveloped; however, such amounts are not significant. While the
Company believes that it has assembled an attractive acreage position, there
can be no assurance that such acreage contains significant amounts of natural
gas reserves nor that such reserves, if any can ever be economically
developed.
Some of the largest coal seams in the United States are found in the
Powder River Basin. A coal seam is a layer of coal of variable thickness
which is found below the surface of the ground but which may also outcrop at
the surface. The CBM wells in the Powder River Basin are 350 to 1,200 feet in
depth and typically take only one to two days to drill. Because of the
relatively short drill time, these wells have relatively low drilling and
completion costs (approximately $50,000 to $60,000 per well). The CBM gas
recovered from the wells in this region does not require treatment or
processing but does require dehydration and compression.
Drilling and production growth in the Powder River Basin is currently
impeded by two principal factors: (i) a natural gas pipeline bottleneck which
restricts the movement of natural gas out of the Powder River Basin, and (ii)
the completion of an environmental impact statement ("EIS") by the Bureau of
Land Management ("BLM") with respect to a portion of the federal lands in the
basin. The Company believes that currently there are over 600 producing wells
in the Powder River Basin. Without producing wells it is impossible to
estimate proved hydrocarbon reserves. Additionally, without a means of
transportation for production, it becomes economically unfeasible to produce
natural gas. The Company believes that this delay has provided the
opportunity for the Company to establish an acreage position at reasonable
cost. However, these same factors could adversely impact the Company's
ability to produce and market natural gas. Operators are currently competing
for the limited number of drilling permits allowed on federal lands by the
BLM until the EIS is complete and sufficient pipeline capacity has been
constructed to transport any additional production. The EIS was originally
scheduled for completion in May 1999, but has been delayed until July 1999.
Several pipeline construction and expansion projects have been proposed, two
of which are permitted and acquiring rights of way. It is currently
anticipated that the pipeline take-away capacity will increase significantly
in late 1999, although there can be no reassurance in this regard.
The Company is filing this Form 10-SB on a voluntary basis. Pursuant to
a private placement of its equity securities that was completed on September 4,
1998, the Company agreed with the purchasers that it would register its
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common stock under Section 12(g) of the Securities Exchange Act of 1934 (the
"Act"). It is the Company's intention, in the event that its obligation to
file reports under the Act is suspended, to continue to file such reports on
a voluntary basis.
The Company currently maintains its principal executive offices at
1050 17th Street, Suite 700, Denver, CO 80265. The Company's telephone number
is (303) 629-6700 and the facsimile number is (303) 629-6800. The Company also
maintains an office at 3651 Lindell Road, Suite A, Las Vegas, Nevada 89103 and a
field office at 400 South Miller Avenue, Gillette, Wyoming 82716.
RECENT DEVELOPMENTS
CMS JOINT VENTURE
On October 23, 1998, the Company and CMS Energy Corporation's
exploration and production unit, CMS Oil and Gas Company, signed a definitive
joint venture agreement (the "CMS Joint Venture") relating to the development
of the Company's Powder River Basin acreage (the "CMS Transaction"). The
agreement involves virtually all of the Company's approximately 492,000 net
acre leasehold position. Pursuant to the terms of the CMS Joint Venture,
CMS Oil and Gas Company will acquire an undivided 50% working interest in
Pennaco's leasehold position in the Powder River Basin for $28.0 million.
The CMS Joint Venture provides for the development of the Company's lease
acreage, with Pennaco and CMS each operating approximately 50% of the wells
drilled in the area of mutual interest. An affiliate of CMS Oil and Gas, CMS
Gas Transmission and Storage, will provide gathering, compression and
transportation services to the joint venture. All of the leases in the area
of mutual interest are dedicated to CMS Gas Transmission and Storage for
gathering, compression and transportation.
Pursuant to the terms of the CMS Transaction, CMS agreed to pay Pennaco
$5.6 million of earnest money in the form of a bridge loan (the "CMS Bridge
Loan") secured by substantially all of the Company's oil and gas leases.
$3.2 million of such amount was paid directly to existing creditors of the
Company. The Company intends to use the balance for general corporate
purposes. The CMS Transaction is structured such that the conveyance of the
working interests will occur at two separate closings. The first closing
occurred on November 20, 1998 and the second closing is scheduled to occur on
January 15, 1999. The Company received $7.6 million at the first closing and
will receive $14.8 million at the second closing. The CMS Bridge Loan will
be canceled if both closings occur or if the buyer wrongfully fails to close
or fails to meet the seller's conditions to closing.
COMMENCEMENT OF DRILLING PROGRAM
On November 15, 1998 the Company initiated its drilling program with the
drilling of its first well in the Powder River Basin. The Company plans to
drill 40 CBM wells by the end of the fourth quarter of 1998, most of which
will be drilled on a 100% working interest basis. In 1999, the Company plans
to drill as many as 500 gross wells, the majority of which will be part of
the CMS Joint Venture. The 1999 CMS Joint Venture drilling program is
subject to the development of a mutually acceptable drilling plan. In the
fourth quarter of 1998, the Company expects capital expenditures for drilling
to be approximately $2.0 million.
Pursuant to an informal arrangement with CBM Drilling, LLC ("CBMD"), the
Company prepaid $250,000 of drilling expenses to ensure that drilling rigs
appropriate for Powder River Basin drilling are available for the Company's
planned drilling program. CBMD currently has four drilling rigs that will be
primarily dedicated to the Company's drilling program.
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RISK FACTORS
NO OPERATING HISTORY AND REVENUES. The Company is a development stage
company with no revenues or income and is subject to all the risks inherent
in the creation of a new business. Since the Company's principal activities
to date have been limited to organizational activities, prospect development,
acquisition of leasehold interests and commencement of a drilling program, it
has no record of any revenue-producing operations. Consequently, there is no
operating history upon which to base an assumption that the Company will be
able to achieve its business plans.
DEPENDENCE ON GATHERING, COMPRESSION AND TRANSPORTATION FACILITIES. If
the Company begins production of natural gas, the marketability of its
production will depend in part upon the availability, proximity and capacity
of gas gathering and compression systems, pipelines and processing
facilities. Based upon future production estimates for the Company and the
Powder River Basin, additional pipeline capacity will be needed as early as
the beginning of 1999. Pipeline demand in the area is increasing as CBM
development activity continues to expand. The Company's core land position
is located in an area near the development activity. The terms of the CMS
Joint Venture provide that Pennaco and CMS Oil and Gas establish an Area of
Mutual Interest ("AMI") around the Company's acreage and that both Pennaco
and CMS Oil and Gas dedicate all of the acreage in the AMI to CMS Gas
Transmission and Storage Company ("CMSGT&S") for gathering, compression and
transportation, which shall be provided at competitive rates and tariffs.
CMSGT&S is currently involved in negotiations to either join other projects
or build its own infrastructure. Meanwhile, outside of the AMI, the Company
is engaged in negotiations with several pipeline companies to lay pipeline to
the Company's planned drillsites, and to gather, compress and transport gas.
However, as of yet no agreements have been entered into with any of these
companies. Unless and until the Company is able to obtain satisfactory
arrangements for the transport and marketing of its gas, both within and
outside of the AMI, the Company may experience delays, possibly significant,
in connection with its efforts to generate revenues from the sale of gas.
Further, there is limited pipeline capacity outside of the Powder River Basin
which will require expansion and new construction to accommodate the
increasing production. The expansion of the pipeline capacity is likely to
require significant capital outlays by the pipeline companies and the related
plans and specifications are subject to government regulatory review, permits
and approvals. This approval process may result in delays in the
commencement and completion of any pipeline construction project. No
assurance can be given by the Company that certain of its wells will not be
shut in for significant periods of time due to the lack of capacity in
existing pipelines. There can be no assurance that such capacity will be
completed on a timely basis or that the Company will be permitted to
transport any volumes thereon.
In addition, federal and state regulation of gas and oil production and
transportation, general economic conditions, changes in supply and changes in
demand all could adversely affect the Company's ability to produce, gather
and transport its natural gas. If market factors were to change materially,
the financial impact on the Company could be substantial. Most gas
transportation contracts will require the Company to transport minimum
volumes. If the Company transports smaller volumes, it may be liable for
damages proportional to the shortfall.
RELIANCE ON CMS TRANSACTION. The Company entered into the CMS
Transaction in order to obtain the funds necessary to implement its business
plan. There is no assurance that the Company will close the CMS Transaction
or be able to obtain additional funding in the future if and when it is
needed. If the Company does not close the CMS Transaction and it cannot
obtain needed funds from other sources, it may be forced to cease its
activities and liquidate.
BRIDGE LOAN. A foreclosure and forfeiture of the collateral pledged to
secure the CMS Bridge Loan would end the Company's development and drilling
activities in the Powder River Basin and threaten the viability of the
Company.
LEASE ACQUISITION RISKS. It is customary in the oil and gas industry to
acquire a lease interest in a property based upon a preliminary title
investigation. If the title to the leases acquired by the Company prove to
be defective, the Company could lose the costs of acquisition and any
development, or incur substantial costs for curative title work. Oil and gas
leases generally call for annual rental payments and the payment of a
percentage royalty on the oil and gas produced. Courts in many states have
interpreted oil and gas leases to include various implied covenants,
including the lessee's implied obligation to develop the lease diligently, to
prevent drainage of oil and gas by wells on adjacent land,
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to seek diligently a market for production, and to operate prudently
according to industry standards. Oil and gas leases with similar language may
be interpreted quite differently depending on the state in which the property
is located. Issues decided differently in two states may not yet have been
decided by the courts of a third state, leading to uncertainty as to the
proper interpretation. For instance, royalty calculations can be
substantially different from state to state, depending on each state's
interpretation of typical lease language concerning the costs of production.
There can be no assurance that the leases will be free from litigation
concerning the proper interpretation of the lease terms. Adverse decisions
could result in material costs to the Company or the loss of one or more
leases.
VOLATILITY OF OIL AND GAS MARKETS. If the Company begins production,
the Company's revenues, profitability and future rate of growth will be
substantially dependent upon prevailing market prices for natural gas and
oil, which can be extremely volatile and in recent years have been depressed
by excess domestic and imported supplies. In addition to market factors,
actions of state and local agencies, the United States and foreign
governments, and international cartels affect oil and gas prices. All of
these factors will be beyond the control of the Company. These external
factors and the volatile nature of the energy markets make it difficult to
estimate future prices of natural gas and oil. There is no assurance that the
Company will be able to produce oil or gas on an economic basis in light of
prevailing market prices. If the Company is able to produce natural gas, any
substantial or extended decline in the price of natural gas would have a
material adverse effect on the Company's financial condition and results of
operations, including reduced cash flow and borrowing capacity and could
reduce both the value and the amount of the Company's oil and gas reserves.
PROPERTY ACQUISITION AND COMPETITION. Competition for prospects and
producing properties is intense. The Company has been competing and will
continue to compete with a number of other potential purchasers of prospects
and producing properties, many of which will have greater financial resources
than the Company. The bidding for prospects has become particularly intense
in the Powder River Basin with different bidders evaluating potential
acquisitions with different product pricing parameters and other criteria
that result in widely divergent bid prices. The presence of bidders willing
to pay prices higher than are supported by the Company's evaluation criteria
could further limit the ability of the Company to acquire prospects. In
addition, low or uncertain prices for properties can cause potential sellers
to withhold or withdraw properties from the market. In this environment,
there can be no assurance that there will be a sufficient number of suitable
prospects available for acquisition by the Company or that the Company can
sell prospects or obtain financing for or participants to join in the
development of prospects.
In addition to competition for leasehold acreage in the Powder River
Basin, the oil and gas exploration and production industry is intensely
competitive as a whole. The Company will compete against established
companies with significantly greater financial, marketing, personnel, and
other resources than the Company. Such competition could have a material
adverse effect on the Company's ability to execute its business plan as well
as profitability.
SHUT-IN WELLS, CURTAILED PRODUCTION, AND OTHER PRODUCTION INTERRUPTIONS.
In the event that the Company manages to initiate production and generate
income from its CBM properties, such production may be curtailed or shut-in
for considerable periods of time due to a lack of market demand, government
regulation, pipeline and processing interruptions, allocations, diminished
pipeline capacity, force majeure and such curtailments may continue for a
considerable period of time. There may be an excess supply of gas in areas
where the Company's operations will be conducted. In such an event, it is
possible that there will be no market or a very limited market if the Company
does generate production in the future. There is also the possibility that
drilling rigs may not be available when needed and there may be shortages of
crews, equipment and other manpower requirements.
UNINSURED RISKS. The Company may not be insured against losses or
liabilities which may arise from operations, either because such insurance is
unavailable or because the Company has elected not to purchase such insurance
due to high premium costs or other reasons. The Company currently carries
well control insurance as well as property and general liability insurance.
OPERATING HAZARDS. The oil and natural gas business involves certain
operating hazards such as well blowouts, craterings, explosions,
uncontrollable flows of oil, natural gas or well fluids, fires, formations
with abnormal pressures,
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pipeline ruptures or spills, pollution, releases of toxic gas and other
environmental hazards and risks, any of which could result in substantial
losses to the Company if it begins commercial production. In addition, the
Company may be liable for environmental damage caused by previous owners of
property purchased or leased by the Company. As a result, substantial
liabilities to third parties or governmental entities may be incurred, the
payment of which could reduce or eliminate the funds available for
exploration, development or acquisitions or result in losses to the Company.
In accordance with customary industry practices, the Company maintains
insurance against some, but not all, of such risks and losses. The Company
may elect to self-insure if management believes that the cost of insurance,
although available, is excessive relative to the risks presented. The
occurrence of an event that is not covered, or not fully covered, by
insurance could have a material adverse effect on the Company's financial
condition and results of operations. In addition, pollution and environmental
risks generally are not fully insurable.
WATER DISPOSAL. The Company believes that the water produced from the
Powder River Basin coal seams, once the Company begins development
activities, will be low in total dissolved solids, allowing the Company to
discharge the water with minimal environmental impact. However, if
non-potable water is discovered, it may be necessary to install and operate
evaporators or to drill disposal wells to re-inject the produced water back
into the underground rock formations adjacent to the coal seams or to lower
sandstone horizons. In the event the Company is unable to obtain the
appropriate permits, non-potable water is discovered or if applicable laws or
regulations require water to be disposed of in an alternative manner, the
costs to dispose of produced water will increase and these costs could have a
material adverse effect on the Company's operations in this area and the
profitability of such operations including rendering future production and
development uneconomic.
REGULATION. The oil and gas industry is extensively regulated by
federal, state and local authorities. Legislation and regulations affecting
the industry are under constant review for amendment or expansion, raising
the possibility of changes that may affect, among other things, the pricing
or marketing of oil and gas production. Substantial penalties may be assessed
for noncompliance with various applicable statutes and regulations, and the
overall regulatory burden on the industry increases its cost of doing
business and, in turn, decreases its profitability. State and local
authorities regulate various aspects of oil and gas drilling and production
activities, including the drilling of wells (through permit and bonding
requirements), the spacing of wells, the unitization or pooling of oil and
gas properties, environmental matters, safety standards, the sharing of
markets, production limitations, plugging and abandonment, and restoration.
FEDERAL AND STATE TAXATION. Federal and state income, severance,
franchise, excise, and other tax laws are of particular significance to the
oil and gas industry. Recent legislation has eroded previous benefits to oil
and gas producers, and any subsequent legislation may continue this trend.
The states in which the Company conducts its oil and gas activities also
impose taxes, including, without limitation, real and personal property
taxes, upon the ownership or production of oil and gas within such states.
There can be no assurance that the tax laws will not be changed or
interpreted in the future in a manner which adversely affects the Company.
RELIANCE UPON DIRECTORS AND OFFICERS. The Company is wholly dependent,
at the present, upon the personal efforts and abilities of its officers who
will exercise control over the day to day affairs of the Company, and upon
its directors, some of whom are engaged in other activities, and will devote
limited time to the Company's activities. Currently several employees of the
Company are not employed by the Company on a full time basis and are serving
in their respective capacities as consultants. This situation will continue
until the Company's business warrants and the Company is able to afford an
expanded staff. There can be no assurance given that the volume of business
necessary to employ all essential personnel on a full time basis will be
obtained nor that the Company's proposed operations will prove to be
profitable. The Company will continue to be highly dependent on the
continued services of its executive officers, and a limited number of other
senior management and technical personnel. Loss of the services of one or
more of these individuals could have a material adverse effect on the
Company's operations. The Company does have employment agreements with
several of its executive officers. The Company does not maintain key person
life insurance on any of its executive officers.
NON-ARM'S LENGTH TRANSACTIONS AND RELATED PARTY TRANSACTIONS. The
number of shares of common stock, par value $0.001 per share (the "Common
Stock"), of the Company or options to purchase shares of Common Stock
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issued to present stockholders of the Company for cash and/or services was
arbitrarily determined and may not be considered the product of arm's length
transactions. It is anticipated that the Company may deal with related
parties when contracting for acquisition and development projects. In
certain circumstances, the fairness of such transactions will be reviewed and
approved by members of the Board of Directors that do not have interests
therein. It is anticipated that there will not be any other review as to the
fairness of the Company's dealings with related parties. A director of the
Company, Mark A. Erickson, is also the President of R.I.S. Resources (USA),
Inc. ("RIS USA"), a wholly owned subsidiary of R.I.S. Resources International
Corp. ("RIS"), and serves as a director of RIS. RIS is engaged in the
gathering, processing and marketing of natural gas. RIS owns approximately
26% of the outstanding shares of the Company.
INDEMNIFICATION OF OFFICERS AND DIRECTORS FOR SECURITIES LIABILITIES.
The bylaws of the Company provide that the Company may indemnify any
director, officer, agent and/or employee as to those liabilities and on those
terms and conditions as are specified in the Nevada Business Corporation Act.
Further, the Company may purchase and maintain insurance on behalf of any
such persons whether or not the corporation would have the power to indemnify
such person against the liability insured against. The foregoing could result
in substantial expenditures by the Company and prevent any recovery from such
officers, directors, agents and employees for losses incurred by the Company
as a result of their actions. Further, the Company has been advised that in
the opinion of the Securities and Exchange Commission, indemnification is
against public policy as expressed in the Securities Act of 1933, as amended,
and is, therefore, unenforceable.
LIMITED MARKET FOR SECURITIES. At present, a limited market exists for
the Company's Common Stock in the OTC Bulletin Board system. There can be no
assurance that the OTC Bulletin Board will provide adequate liquidity or that
a trading market will be sustained. A purchaser of stock may, therefore, be
unable to resell shares purchased should the purchaser desire to do so. The
Company has not been advised by any entity that it intends to make a market
in the Company's Common Stock, nor has the Company taken any affirmative
steps to encourage or market maker to begin trading in the Company's
securities. Furthermore, it is unlikely that a lending institution will
accept the Company's securities as pledged collateral for loans unless a
trading market develops providing necessary and adequate liquidity for the
trading of shares.
CUMULATIVE VOTING, PREEMPTIVE RIGHTS AND CONTROL. There are no
preemptive rights in connection with the Common Stock. The stockholders may
be further diluted in their percentage ownership of the Company in the event
additional shares are issued by the Company in the future. Cumulative voting
in the election of Directors is not provided for in the Company's bylaws or
under Nevada law. Accordingly, the holders of a majority of the shares of
Common Stock, present in person or by proxy, will be able to elect all of the
Company's Board of Directors.
NO DIVIDENDS ANTICIPATED. At the present time, the Company does not
anticipate paying dividends, cash or otherwise, on its Common Stock in the
foreseeable future. Future dividends will depend on earnings, if any, of the
Company, its financial requirements and other factors. Investors who
anticipate the need of an immediate income from their investment in the
Company's Common Stock should refrain from the purchase thereof.
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BUSINESS
GENERAL
The Company was incorporated in January 1998 to engage in the business
of oil and gas exploration and production. To date, the Company's main focus
and primary objective has been the procurement of mineral leasehold interests
in the Powder River Basin of Wyoming and Montana and the commencement of its
CBM drilling program. Since its inception, the Company has issued common
stock and securities to raise capital, recruited and organized management,
and has developed a strategic plan for the development of its Powder River
Basin acreage. Other than the acquisition of leasehold interests, the
Company has conducted limited operations.
CBM production is similar to traditional natural gas production in terms
of the physical producing facilities and the product produced. However, the
subsurface mechanisms that allow the gas to move to the wellbore and the
producing characteristics of CBM wells are significantly different from
traditional natural gas production.
Coal is a black organic mineral formed from buried deposits of plant
material from ancient coastal swamps. Methane, or natural gas, is a common
component of coal, though coals vary in their methane content per ton.
Rather than being limited to open spaces in the coal structure, methane is
adsorbed within the inner coal surfaces. When the coal is fractured and
exposed to lower pressures (near a well or in a coal mine) the gas leaves
(desorbs from) the coal. Whether a coal bed will produce commercial
quantities of natural gas depends on its original content of gas per ton of
coal, the thickness of the coal beds, the reservoir pressure and the
existence of fractures through which the released gas can flow to the
wellhead (permeability). Frequently, coal beds are partly or completely
saturated with water. As the water is produced, space is created for gas to
leave the coal and flow to the well. Contrary to traditional gas wells, new
CBM wells often produce water for several months (dewatering) and then, as
the water production decreases because the coal seams are being drained, and
the pressure decreases, natural gas production increases.
The coal beds of the Powder River Basin are among the thickest coals in
the world, potentially containing extensive recoverable coal bed gas
reserves, and are located in the Tongue River Member of the Paleocene Fort
Union and lower Eocene Wasatch formations. This coal seam contains 10 to 12
coal beds ranging in thickness from approximately five feet to over 200 feet,
with cumulative thicknesses of all coal seams ranging up to 350 feet. In the
Fort Union formation, where the Company intends to drill, gas occurs in
sandstones and coal beds at a number of different stratigraphic levels. Well
depths in the Powder River Basin are relatively shallow, between 350 and
1,200 feet.
Coal beds produce nearly pure methane gas while traditional gas wells
normally produce gas that contains small portions of ethane, propane, and
other, heavier, hydrocarbon gases. Methane normally constitutes more than
90% of the total gases in the production from traditional gas wells. The
Powder River Basin gas does not contain significant amounts of contaminants,
such as hydrogen sulfide, carbon dioxide or nitrogen, that are sometimes
present in traditional natural gas production. Therefore the properties of
the Powder River Basin gas, such as heat content per unit volume (Btu), are
very close to the average properties of pipeline gas from traditional gas
wells.
STRATEGY
Pennaco's business strategy is to build an exploration and production
company that is focused on creating value for its stockholders through
profitable growth in reserves, production and cash flow per share. The key
components of the Company's business strategy include the following: (i)
concentrate activities in the Rocky Mountain and Mid-Continent regions of the
U.S., (ii) lever the expertise of its technical and management team in areas
of prior experience, (iii) acquire producing properties with development and
exploitation potential utilizing industry contacts and opportunities known to
the Company's senior management, (iv) assemble acreage positions through
lease acquisition and farm-ins to conduct a balanced exploration and
development effort, (v) seek to acquire operating control and majority
ownership interests in order to optimize the timing and efficiency of
operations, (vi) participate in gas gathering, processing, transportation,
and marketing activities in order to maximize product price realizations and
(vii) maintain a strong balance sheet in order to be in a position to
capitalize on opportunities as they occur.
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The Company intends to add production by creating and forming strategic
alliances with mid-stream companies (gathering and marketing) and down-stream
companies (pipeline companies and end users). If the Company establishes
significant production and cash flow in the Powder River Basin, it plans to
pursue other CBM projects as well as more conventional oil and gas projects.
DRILLING AND PRODUCTION STRATEGY
The Company has initiated its development program through the drilling
of its first well on November 15, 1998. Though no assurance of success can
be given, the Company's business plan includes the drilling of 40 net CBM
wells by the end of 1998, and an additional 500 gross CBM wells by the end of
1999, assuming current economic and regulatory conditions.
The Company's ability to complete its drilling program is entirely
dependent upon the availability of sufficient capital, equipment and
personnel. The estimated cost per well is approximately $50,000 to $60,000 to
drill and complete. The estimated drilling portion of the well cost is
approximately $10,000. The Company has entered into an informal drilling
arrangement with CBMD, pursuant to which it has prepaid drilling costs of
$250,000. Based on the agreement that every third well shall be drilled at
no cost to Pennaco, the prepaid drilling costs will be recovered after
approximately 75 wells. The prepayments are to ensure that drilling rigs
will be available and dedicated to the Company's planned drilling program and
that the rigs will meet the specific requirements of the Company. CBMD
currently has four CBM drilling rigs that will be primarily dedicated to the
Company's drilling program.
STRATEGIC ALLIANCE AND PARTNERING
On October 23, 1998, the Company and CMS Energy Corporation's
exploration and production unit, CMS Oil and Gas Company formed the CMS Joint
Venture. The agreement involves virtually all of the Company's approximate
492,000 net acre leasehold positions. Pursuant to the terms of the CMS Joint
Venture, CMS Oil and Gas Company will acquire an undivided 50% working
interest in Pennaco's leasehold position in the Powder River Basin for $28.0
million. The CMS Joint Venture provides for the development of the Company's
lease acreage, with Pennaco and CMS each operating approximately 50% of the
wells drilled in the area of mutual interest. An affiliate of CMS Oil and
Gas, CMS Gas Transmission and Storage, will provide gathering, compression
and transportation services to the joint venture. All of the leases in the
area of mutual interest are dedicated to CMS Gas Transmission and Storage for
gathering, compression and transportation.
MARKETING OF PRODUCTION
If the Company successfully produces oil and/or natural gas, it does not
plan to refine or process its production, but plans to sell the production to
unaffiliated oil and natural gas purchasing companies in the area in which it
is produced. If the Company produces natural gas, it expects to sell it
under contracts to both interstate and intrastate natural gas pipeline
companies, as well as companies who transport natural gas overground.
TITLE TO PROPERTIES
The Company believes it has satisfactory title to all of its properties
in accordance with standards generally accepted in the oil and gas industry.
The Company's properties are subject to customary royalty interests, liens
incident to operating agreements, liens for current taxes and other burdens
which the Company believes do not materially interfere with the use of or
affect the value of such properties.
COMPETITION
Competition for prospects and producing properties is intense. The
Company has been competing and will continue to compete with a number of
other potential purchasers of prospects and producing properties, many of
which will have greater financial resources than the Company. The bidding for
prospects has become particularly intense in
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the Powder River Basin with different bidders evaluating potential
acquisitions with different product pricing parameters and other criteria
that result in widely divergent bid prices. The presence of bidders willing
to pay prices higher than are supported by the Company's evaluation criteria
could further limit the ability of the Company to acquire prospects. In
addition, low or uncertain prices for properties can cause potential sellers
to withhold or withdraw properties from the market. In this environment,
there can be no assurance that there will be a sufficient number of suitable
prospects available for acquisition by the Company or that the Company can
sell prospects or obtain financing for or participants to join in the
development of prospects.
In addition to competition for leasehold acreage in the Powder River
Basin, the oil and gas exploration and production industry is intensely
competitive as a whole. The Company will compete against established
companies with significantly greater financial, marketing, personnel, and
other resources than the Company. Such competition could have a material
adverse effect on the Company's ability to execute its business plan as well
as profitability.
REGULATION
The Company's operations will be subject to extensive and continually
changing regulation, as legislation affecting the oil and natural gas
industry is under constant review for amendment and expansion. Many
departments and agencies, both federal and state, are authorized by statute
to issue and have issued rules and regulations binding on the oil and natural
gas industry and its individual participants. The failure to comply with
such rules and regulations can result in substantial penalties. The
regulatory burden on the oil and natural gas industry will increase the
Company's cost of doing business and, consequently, affect its profitability.
However, the Company does not believe that it will be affected in a
significantly different manner by these regulations than its competitors in
the oil and natural gas industry.
TRANSPORTATION AND SALE OF NATURAL GAS. The FERC regulates interstate
natural gas pipeline transportation rates as well as the terms and conditions
of service. FERC's regulations will affect the marketing of any natural gas
produced by the Company, as well as any revenues received by the Company for
sales of such natural gas. In 1985, the FERC adopted policies that make
natural gas transportation accessible to natural gas buyers and sellers on an
open-access, nondiscriminatory basis. The FERC issued Order No. 636 on April
8, 1992, which, among other things, prohibits interstate pipelines from
making sales of gas tied to the provision of other services and requires
pipelines to "unbundle" the services they provide. This has enabled buyers
to obtain natural gas supplies from any source and secure independent
delivery service from the pipelines. All of the interstate pipelines subject
to FERC's jurisdiction are now operating under Order No. 636 open access
tariffs. On July 29, 1998, the FERC issued a Notice of Proposed Rulemaking
regarding the regulation of short term natural gas transportation services.
FERC proposes to revise its regulations to require all available short term
capacity (including capacity released by shippers holding firm entitlements)
to be allocated through an auction process. FERC also proposes to require
pipelines to offer additional services under open access principles, such as
"park and loan" services. In a related initiative, FERC issued a Notice of
Inquiry on July 29, 1998 seeking input from natural gas industry players and
affected entities regarding virtually every aspect of the regulation of
interstate natural gas transportation services. Among other things, FERC is
seeking input on whether to retain cost-based rate regulation for long term
transportation services, potential changes in the manner in which rates are
designed, and the use of index driven or incentive rates for pipelines. The
July 29, 1998 Notice of Inquiry may lead to a subsequent Notice of Proposed
Rulemaking to further revise FERC's regulations.
Additional proposals and proceedings that might affect the natural gas
industry are considered from time to time by Congress, the FERC, state
regulatory bodies and the courts. The Company cannot predict when or if any
such proposals might become effective or their effect, if any, on the
Company's operations. The natural gas industry historically has been closely
regulated; thus there is no assurance that the less stringent regulatory
approach recently pursued by the FERC and Congress will continue indefinitely
into the future.
REGULATION OF PRODUCTION. The production of oil and natural gas is subject
to regulation under a wide range of state and federal statutes, rules, orders
and regulations. State and federal statutes and regulations require permits for
drilling operations, drilling bonds and reports concerning operations. Wyoming
and Montana have regulations
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governing conservation matters, including provisions for the unitization or
pooling of oil and natural gas properties, the establishment of maximum rates
of production from oil and natural gas wells and the regulation of the
spacing, plugging and abandonment of wells. The effect of these regulations
is to limit the amount of oil and natural gas the Company can produce from
its wells and to limit the number of wells or the locations at which the
Company can drill. Moreover, each state generally imposes a production or
severance tax with respect to production and sale of crude oil, natural gas
and gas liquids within its jurisdiction.
FEDERAL OR STATE LEASES. The Company's operations on federal or state
oil and gas leases will be subject to numerous restrictions, including
nondiscrimination statutes. Such operations must be conducted pursuant to
certain on-site security regulations and other permits and authorizations
issued by the Bureau of Land Management, Minerals Management Service and
other agencies. In order to drill wells on Wyoming state land, the Company
is required to file an Application for Permit to Drill with the Wyoming Oil
and Gas Commission. Drilling on acreage controlled by the federal government
requires the filing of a similar application with the Bureau of Land
Management. While the Company has been able to obtain required drilling
permits to date, there can be no assurance that permitting requirements will
not adversely effect the Company's ability to complete its drilling program
at the cost and in the time period currently anticipated.
ENVIRONMENTAL REGULATIONS. Various federal, state and local laws and
regulations governing the discharge of materials into the environment, or
otherwise relating to the protection of the environment, will affect the
Company's operations and costs. In particular, the Company's exploration,
development and production operations, its activities in connection with
storage and transportation of crude oil and other liquid hydrocarbons and its
use of facilities for treating, processing or otherwise handling hydrocarbons
and wastes therefrom will be subject to stringent environmental regulation.
Because CBM wells typically produce significant amounts of water, the Company
is required to file applications with state and federal authorities, as
applicable, to enable it to dispose of water produced from its wells. While
the Company has been able to obtain required water disposal permits to date,
there can be no assurance that such permitting requirements will not
adversely effect the Company's ability to complete its drilling and
development program at the cost and in the time period currently anticipated.
As with the industry generally, compliance with existing regulations
will increase the Company's overall cost of business. Such areas affected
include unit production expenses primarily related to the control and
limitation of air emissions and the disposal of produced water, capital costs
to drill exploration and development wells resulting from expenses primarily
related to the management and disposal of drilling fluids and other oil and
gas exploration wastes and capital costs to construct, maintain and upgrade
equipment and facilities.
The Comprehensive Environmental Response, Compensation and Liability Act
("CERCLA"), also known as "Superfund," imposes liability, without regard to
fault or the legality of the original act, on certain classes of persons that
contributed to the release of a "hazardous substance" into the environment.
These persons include the "owner" or "operator" of the site and companies
that disposed or arranged for the disposal of the hazardous substances found
at the site. CERCLA also authorizes the Environmental Protection Agency and,
in some instances, third parties to act in response to threats to the public
health or the environment and to seek to recover from the responsible classes
of persons the costs they incur. In the course of its ordinary operations,
the Company may generate waste that may fall within CERCLA's definition of a
"hazardous substance." The Company may be jointly and severally liable under
CERCLA for all or part of the costs required to clean up sites at which such
wastes have been disposed.
The Company may own or lease properties that have been used for the
exploration and production of hydrocarbons in the past. Many of these
properties will have been owned by third parties whose actions with respect
to the treatment and disposal or release of hydrocarbons or other wastes were
not under the Company's control. These properties and wastes disposed
thereon may be subject to CERCLA and analogous state laws. Under such laws,
the Company could be required to remove or remediate previously disposed
wastes (including wastes disposed of or released by prior owners or
operators), to clean up contaminated property (including contaminated
groundwater) or to perform remedial plugging operations to prevent future
contamination.
EMPLOYEES
The Company currently has 13 employees and approximately 10 consulting
geologists, engineers, and land acquisition professionals. The Company plans
to hire additional employees as needed. The Company has an outsourcing
arrangement with Trinity Petroleum Management, LLC which provides for
administrative services, specifically land administration, accounting and
production reporting. The Agreement is effective until March 1, 1999 when it
converts to a month-to-month arrangement. The Company believes that this
outsourcing arrangement allows the Company to hire fewer full-time employees
and more efficiently control administrative expenses.
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LEGAL PROCEEDINGS
The Company is not a party to any material legal proceedings.
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OR PLAN OF OPERATION.
RESULTS OF OPERATION
As a development stage company, the Company has no revenues from
operations. During the period from the Company's inception (January 26,
1998) through September 30, 1998, the Company reported a net loss of
$4,076,338. No revenues were realized during this period. Expenses incurred
from the Company's inception (January 26, 1998) through September 30, 1998
totaled $5,386,558, including general and administrative expenses of
$2,918,356 and exploration expenses of $1,784,069, including geologic
consulting fees, geologic data and lease rentals.
In the accompanying financial statements, in accordance with APB No. 25
"Accounting for Stock Issued to Employees," the Company has recognized a
non-cash charge to earnings for compensation expense of approximately
$1,790,000 for the period from inception (January 26, 1998) through September
30, 1998 for stock, warrants, and options issued to certain officers and
employees. Compensation expense was calculated based on the difference
between the closing price per share on the last trading day prior to the date
of employment with the Company and the $1.75 unit price for shares and
warrants purchased by an officer of the Company hired at the beginning of
July and the option price for options awarded to certain officers and key
employees hired in July and August 1998. The restricted securities were
offered as an incentive to attract a senior management team to the Company.
The Company believes that the offers made by the Board of Directors were at
fair market value due to the restricted nature of the securities to be issued
and the lack of a liquid trading market for the Company's Common Stock at the
time of the offer. However, APB No. 25 requires the measurement of
compensation expense at the date of employment rather than at the offer date.
Further, APB No. 25 requires that compensation be measured based on the
quoted market price of the stock once a company's stock is publicly traded.
While the Company was not yet a registrant, the Company's shares have been
quoted on the OTC Bulletin Board system since July 1, 1998.
LIQUIDITY AND CAPITAL RESOURCES
The capital resources of the Company are limited. At present, the
Company is not producing revenues and its main source of funds has been the
sale of the Company's equity securities. The Company had approximately $1.3
million in cash as of September 30, 1998. All cash at present is being used
to fulfill certain leasehold purchase commitments that the Company has
entered into and to fund certain ongoing general and administrative expenses.
On October 23, 1998, the Company and CMS Oil and Gas Company announced the
CMS Transactinn. See "Recent Developments -- CMS
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Joint Venture." Pursuant to the terms of the CMS Joint Venture, CMS paid
Pennaco $5.6 million in the form of the CMS Bridge Loan secured by
substantially all of the Company's oil and gas leases. Approximately $3.2
million of such amount was paid directly to existing creditors of the
Company. The Company intends to use the balance for general corporate
purposes. The Company received $7.6 million at the first closing on November
20, 1998 and the Company will receive $14.8 million at the second closing on
January 15, 1999. The CMS Bridge Loan will be canceled if both closings
occur or if CMS wrongfully fails to close or fails to meet the Company's
conditions to closing. Pro forma for the CMS Transaction as of September 30,
1998, the Company had no debt and approximately $23.0 million of cash. While
the proceeds of the CMS Transaction should allow the Company to pay its
current liabilities and fund its development activities for the first half of
1999, the Company will require further funding to meet its capital
expenditure plans. Should the Company's cash flow from operations continue
to be insufficient to satisfy its capital expenditure requirements, there can
be no assurance that additional debt or equity financing will be available to
meet these requirements. At present, there are no agreements or
understandings between the Company and its officers and directors or
affiliates and any lending institutions with respect to any debt or equity
financings.
Should the Company be able to obtain debt financing in the future, its
level will have several important effects on the Company's future operations,
including (i) a substantial portion of the Company's cash flow will be
dedicated to the payment of interest on its indebtedness and will not be
available for other purposes and (ii) the Company's ability to obtain
additional financing in the future may be impaired. To address the
operational and administrative requirements of the Company's ongoing
development activities, it is anticipated that during the next twelve months
employee requirements will increase to approximately 18 employees.
Currently, the Company has 13 employees.
ITEM 3. DESCRIPTION OF PROPERTY.
The Company has acquired oil and gas leases and options covering
approximately 492,000 net acres in the Powder River Basin of Wyoming and
Montana. Approximately 60% of the acreage is located on federal and state
land and approximately 40% of the acreage is located on private land. The
Company's leases are generally five to ten year leases. The federal leases
are generally ten year term leases and newly acquired fee and state leases
are generally five-year term leases. Leasehold net revenue interests average
greater than 80%.
Historically, oil and gas has been produced from a number of other
reservoirs in the Powder River Basin that are typically greater in depth than
CBM locations. Over 80% of the Company's leasehold acreage allow for
development of all depths. These leases cover both the shallow CBM and
exploration potential for oil and gas from the deeper horizons. Past
exploration of the sedimentary section below the Paleocene coal section has
resulted in production from sandstone reservoirs in twenty-five formations
from upper Cretaceous to Pennsylvanian age. No production has been generated
from the Company's leases.
As of the date hereof, the Company has not produced any oil or gas nor
does it currently have the ability to produce any oil or gas. Certain of the
Company's undeveloped oil and gas properties have reserves classified as
proved undeveloped; however, such amounts are not significant.
The Company's office space is currently subleased pursuant to an
agreement in principle with Evansgroup, Inc. The term of the sublease
commenced on April 6, 1998 and expires on September 30, 2000. The sublease
concerns approximately 11,524 square feet at a yearly rent of approximately
$173,000.
ITEM 4. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT.
The following table sets forth information concerning the beneficial
ownership of the Common Stock as of September 30, 1998 for (i) each current
director who owns shares, (ii) each officer of the Company who owns shares,
(iii) all persons known by the Company to beneficially own more than 5% of
the outstanding shares of the Common Stock, and (iv) all officers and
directors of the Company as a group. Unless otherwise indicated in the
footnotes below, the address of each stockholder is 1050 17th Street, Suite
700, Denver, Colorado, 80265.
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<TABLE>
<CAPTION>
Number of Percentage of
Name and Address(1) Shares Owned(2) Shares Owned(3)
- ------------------- --------------- ---------------
<S> <C> <C>
Paul M. Rady 857,144(4) 5.4%
Jeffrey L. Taylor 543,375(5) 3.5%
Glen C. Warren, Jr. 262,500(6) 1.7%
Gregory V. Gibson 100,000(7) *
David W. Lanza 50,000(8) *
Mark A. Erickson 41,250(9) *
R. I. S. Resources International
Corp. 4,000,000(10) 25.4%
All officers and directors as a group
(six persons) 1,854,269(11) 11.8%
</TABLE>
- ---------------
* Less than 1%
(1) Unless otherwise noted, the Company believes that all shares are
beneficially owned and that all persons named in the table or family
members have sole voting and investment power with respect to all shares
owned by them.
(2) A person is deemed to be the beneficial owner of securities that can be
acquired by such person within 60 days from the date hereof upon the
exercise of warrants or options. Each beneficial owner's percentage
ownership is determined by assuming that options or warrants that are
held by such person (but not those held by any other person) and which
are exercisable within 60 days from the date hereof have been exercised.
(3) Assumes 14,795,179 shares outstanding plus, for each individual, any
securities that specific person has the right to acquire within 60 days.
Options and warrants held by persons other than the specific individual
for whom an ownership interest percentage is being calculated are not
considered in calculating that specific individual's ownership interest
percentage.
(4) Includes 285,715 shares issuable upon the exercise of currently
exercisable stock purchase warrants, exercisable at a price of $1.75 per
share.
(5) Includes 400,000 shares issuable to Mr. Taylor upon the exercise of
currently vested stock options, exercisable at a price of $1.25 per
share. Mr. Taylor's address is 7220 Avenida Encinas, Suite 204,
Carlsbad, California 92009.
(6) Includes 87,500 shares issuable upon the exercise of presently
exercisable stock purchase warrants exercisable at a price of $1.75 per
share.
(7) Represents 100,000 shares issuable upon the exercise of vested stock
options which are exercisable at a price of $1.25 per share. Mr.
Gibson's address is 2010 Main Street, Suite 400, Irvine, California
92614.
(8) Represents 50,000 shares issuable upon the exercise of vested stock
options which are exercisable at a price of $1.25 per share. Mr.
Lanza's address is 710 3rd Street, Marysville, California 95901.
(9) Includes 31,250 shares issuable upon the exercise of vested stock
options which are exercisable at a price of $1.25 per share.
(10) The address of RIS is 609 West Hastings Street, 11th Floor, Vancouver,
British Columbia V6B 4W4, Canada. According to the directors and
officers of RIS, the only person who owns more than 10% of the
outstanding voting rights of RIS is John Hislop, who owns 10.22% of the
outstanding RIS common stock.
(11) Includes 581,250 shares issuable upon the exercise of vested stock
options which are exercisable at a price of $1.25 per share, and
373,215 shares issuable upon the exercise of stock purchase warrants
which are exercisable at a price of $1.75 per share.
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ITEM 5. DIRECTORS, EXECUTIVE OFFICERS AND CONTROL PERSONS.
The following individuals are the officers, directors, and key employees
and consultants of the Company:
<TABLE>
<CAPTION>
Name Position
---- --------
<S> <C>
OFFICERS AND DIRECTORS
Jeffrey L. Taylor Chairman of the Board, Director
Paul M. Rady President, Chief Executive Officer, Director
Glen C. Warren, Jr. Chief Financial Officer, Executive Vice President, Director
Mark A. Erickson Hydrocarbon Marketing Consultant, Director
Gregory V. Gibson Vice President, Legal, Secretary, Director
David W. Lanza Director
ENGINEERING TEAM
Terrell A. Dobkins Vice President of Production
Brian A. Kuhn Vice President of Land
William Travis Brown, Jr. Exploration Manager
George L. Hampton, III Senior Geologist
Dirck Tromp Staff Geologist
Todd H. Gilmer Project Hydrology Consultant
John Dolloff Senior Geology Consultant
Brian Hughes Production and Engineering Consultant
</TABLE>
PAUL M. RADY, CHIEF EXECUTIVE OFFICER, PRESIDENT, MEMBER BOARD OF DIRECTORS
Mr. Rady joined the Company in June 1998 as its Chief Executive Officer,
President and Director. Mr. Rady has entered into an employment agreement
with an initial term of four years with automatic renewal provisions. Mr.
Rady was with Barrett Resources Corporation ("Barrett"), an oil and gas
exploration and production company listed on the New York Stock Exchange, for
approximately eight years. During his tenure at Barrett, Mr. Rady held
various executive positions including his most recent position as Chief
Executive Officer, President and Director. As Chief Executive Officer he was
responsible for all aspects of the Company including, operations, financings,
representing the corporation to the investment community, and working with
the Board of Directors to set the direction of the Company. Other positions
held by Mr. Rady were Chief Operating Officer, Executive Vice President -
Exploration, and Chief Geologist - Exploration Manager. Prior to his
employment at Barrett, Mr. Rady was with Amoco Production Company ("Amoco")
based in Denver, Colorado for approximately 10 years. Mr. Rady received a
Bachelor of Arts degree in Geology from Western State College of Colorado in
1978 and a Master of Science Degree in Geology from Western Washington
University in 1980.
JEFFREY L. TAYLOR, CHAIRMAN OF THE BOARD
Currently Mr. Taylor is the President and Director of Foreign
Investments for the London Taylor Group. The London Taylor Group is a
southern California-based financial service provider acting as venture
capitalist and investment banker to private and small cap public companies.
During the last five years, Mr. Taylor has been a Member of the Board of
Directors of various public companies including, TransAmerica Industries,
Yuma Gold Mines, and Cornucopia Resources. He has also served during the last
five years as Vice President of Metallica Resources, Vice President of
Goldbelt Resources, Vice President of Arrowhead Minerals Corporation, and
Executive Vice President of Corporate Finance of Ultra Petroleum. Prior to
founding the London Taylor Group, Mr. Taylor was an analyst and financial
service provider for Global Resource Investments, Inc. of Carlsbad,
California and the Chief Financial Officer
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for International Art Commission of San Francisco, California. Mr. Taylor
holds a Master of Business Administration, Finance degree from the University
of San Diego.
GLEN C. WARREN, JR., CHIEF FINANCIAL OFFICER, EXECUTIVE VICE PRESIDENT,
DIRECTOR
Mr. Warren joined the Company in July 1998 as its Chief Financial
Officer, Executive Vice President and Director. Mr. Warren has entered into
an employment contract with an initial term of four years with automatic
renewal provisions. Prior to assuming his duties as the Company's Chief
Financial Officer, Mr. Warren was an investment banker with Lehman Brothers
Inc. in New York and focused on equity and debt financing, as well as mergers
and acquisitions for energy and natural resource companies. Prior to Lehman
Brothers, Mr. Warren was also an investment banker with Dillon, Read & Co.,
Inc. and Kidder, Peabody & Co. Incorporated with a total of nine years of
investment banking experience. Mr. Warren also has six years of exploration
and production experience with Amoco Production Company in New Orleans. Mr.
Warren received an MBA degree from the Anderson Graduate School of Management
at U.C.L.A. in 1989 and a Juris Doctorate degree in 1981 and a Bachelor of
Arts degree in Interdisciplinary Science in 1978, both from the University of
Mississippi.
MARK A. ERICKSON, HYDROCARBON MARKETING CONSULTANT, DIRECTOR
Mr. Erickson is a registered petroleum engineer with fifteen years
experience in project financial modeling and management. He is currently
President of RIS USA. Prior to that, Mr. Erickson worked as an asset manager
for North American Resources Company, a $200 million subsidiary of Montana
Power. He received his BS in Petroleum Engineering at Montana Tech and
Masters in Mineral Economics from the Colorado School of Mines.
GREGORY V. GIBSON, DIRECTOR
Mr. Gibson has been an attorney specializing in securities and
securities broker dealerships for over 15 years. Mr. Gibson is a southern
California-based practicing attorney with the law firm of Gibson, Haglund &
Johnson. Prior to his present affiliations, Mr. Gibson was corporate counsel
for three years to Global Resource Investment Limited, a southern
California-based broker-dealer specializing in resource and foreign publicly
traded securities. Prior to working at Global, Mr. Gibson was practicing
securities and international law with the law firms of Gibson & Haglund and
Gibson, Ogden & Johnson. Mr. Gibson attended Claremont Men's College and
Brigham Young University for undergraduate studies and received his Juris
Doctorate degree from Pepperdine University School of Law.
DAVID LANZA, DIRECTOR
Mr. Lanza has been a real estate developer, oil and gas real property
and lease developer, and business owner in California, Nevada, Colorado,
Texas and Wyoming for the past ten years. He is currently the President of
Hust Brothers, a commercial real estate and development company, Vice
President and principal of Hust Brothers Inc., a national automotive
wholesale company, and President and principal of Colusa Motor Sales. Mr.
Lanza has majority interest in Marysville Auto Parts which owns and operates
13 automotive chain stores. Mr. Lanza graduated from the University of
Southern California receiving his Bachelor of Science in Business
Administration.
TERRELL A. DOBKINS, VICE PRESIDENT OF PRODUCTION
Mr. Dobkins has over 20 years experience in the petroleum industry. Mr.
Dobkins started his career at Amoco Production Company where he had extensive
experience in Rocky Mountain Low Permeability Gas Reservoirs and worked in
operations, completions and reservoir engineering. Mr. Dobkins worked as a
Manager for three years at American Hunter Exploration where he was involved
in all U.S. operations and engineering. More recently, Mr. Dobkins served
eight years at Barrett Resources, most recently as Manager of Acquisitions,
and was involved in the development of several projects, including
completions, operations and reservoir engineering.
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<PAGE>
BRIAN A. KUHN, VICE PRESIDENT OF LAND
Mr. Kuhn has 18 years experience in the oil and gas industry as a
landman. Mr. Kuhn worked as a landman for thirteen years at Amoco Production
Company from June 1980 to April 1993. While at Amoco, Mr. Kuhn spent three
years in the Powder River Basin and other basins of the Rocky Mountain
region. Most recently, Mr. Kuhn was employed as a Division Landman for five
years at Barrett Resources Corporation where he worked in the Rocky Mountain
region and numerous other basins. Mr. Kuhn has extensive experience in the
acquisition of producing properties, testifying as expert witness before
state regulatory agencies, management of lease acquisition and negotiation of
both large and small exploration transactions. Mr. Kuhn earned a BBA in
Petroleum Land Management from the University of Oklahoma in May 1980. Mr.
Kuhn is also a member of the American Association of Petroleum Landmen,
Oklahoma City Association of Petroleum Landmen and the Tulsa Association of
Petroleum Landmen.
WILLIAM TRAVIS BROWN, JR., EXPLORATION MANAGER
Mr. Brown is a Chief Geologist for the Company. He began his career
with Amoco in 1969 as an operations and production geologist in the Rocky
Mountain Region. He has extensive experience in the Green River and Powder
River Basins. From 1969 to present, Mr. Brown has conducted extensive work in
3-D seismic & stratigraphic analysis, geological mapping, well site analysis,
and strategic land acquisition for several companies including Amoco
Production, Lear Petroleum, Davis Oil, and Coastal Oil and Gas where he
initiated the coal degassification CBM project in the Powder River Basin.
Mr. Brown received his B.S. in Geology at Columbia University and his Master
of Science and Ph.D. candidacy in Geology at the University of New Mexico.
GEORGE L. HAMPTON, III, SENIOR GEOLOGIST
Mr. Hampton has recently been employed by the Company as Senior
Geologist. Prior to his employment by the Company, Mr. Hampton served as
Chief Geologist of Thermal Energy Corporation ("TEC") a joint venture with
Torch Operating. While at TEC Mr. Hampton supervised the geology and drilling
and/or completion of 100 shallow CBM wells. Mr. Hampton is a petroleum
geologist with 20 years experience in the oil and gas business. He has spent
the last 18 years specializing in CBM exploration, production and analysis.
His career began in 1978 as a geologist for Amoco. From 1979 to 1982 he
participated in the early CBM projects in the San Juan, Piceance, Uinta and
Green River basins. He left Amoco in 1986 to form Hampton & Associates, Inc.,
a consulting company specializing in CBM. While there, he and a team of CBM
experts consulted for a number of major and independent petroleum companies
including: Conoco, British Petroleum, Chevron, Amoco, Helmerich & Payne,
Devon Energy (Blackwood & Nichols), Celsius, Torch, MarkWest, Meridian and
Evergreen. Mr. Hampton was responsible for generation and evaluation of CBM
prospects worldwide. He has also supervised over 100 CBM wells. As a
founding partner of Cairn Point Publishing, he worked on and supervised the
creation and publishing of THE INTERNATIONAL COAL SEAM GAS REPORT, 1997. Mr.
Hampton received his BS and MSC in Geology at Brigham Young University.
DIRCK TROMP, STAFF GEOLOGIST
Mr. Tromp is a certified professional geologist with nine years of
varied geologic and hydrogeologic experience in the petroleum, mining, and
environmental fields. He began his career as a research geologist with the
U.S. Geological Survey. The majority of his experience has been as a
hydrogeologist and geochemist with Roy F. Weston, Inc., an international
environmental consulting firm. Mr. Tromp has extensive experience with
digital mapping, 3-D computer hydrologic conceptual modeling and groundwater
flow modeling. He has designed and installed groundwater systems and
hydrocarbon recovery wells. He has a strong working knowledge of
environmental compliance requirements. Mr. Tromp holds a BS in Geological
Engineering and MSc in Geology/Geochemistry both from the Colorado School of
Mines.
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TODD H. GILMER, PROJECT HYDROLOGY CONSULTANT
Mr. Gilmer is a consulting Project Hydrologist for the Company.
Recently Mr. Gilmer was one of the principal hydrologists for Amoco's Pine
River (Los Pinos) CBM water project in the San Juan Basin and has conducted a
CBM hydrologic study for Western Gas Resources in the Powder River Basin. He
is a hydrogeologist with 25 years of experience in hydro-geological
investigation and water production problems in the petroleum and mineral
industries. He is skilled in water resource exploration, development and
evaluation and has vast experience working with government and environmental
regulatory agencies. Mr. Gilmer began his career as a hydrogeologist with
Wright Water Engineers of Denver in 1973. From 1974-1986 he worked for
several water resource companies where he managed several coal mine baseline
studies and ground water flow modeling projects. From 1986 to present he has
been owner/senior hydrogeologist for Gilmer Geophysics, Inc. where he has
continued his work on hydrology projects for major coal mining and petroleum
companies. He is the author of many publications on hydrology. Mr. Gilmer
earned his BS degree in Geophysics from the University of Minnesota and
attended graduate school for two years at the same institution where he
studied geophysics and hydrogeology.
JOHN DOLLOFF, SENIOR GEOLOGY CONSULTANT
Mr. Dollof is a consulting senior geologist to the Company. Mr. Dolloff
has over 40 years of exploration and production geology and management
experience in the Rocky Mountain, Mid-Continent and west Texas areas.
Beginning his career with Standard Oil of Texas, he was staff geologist with
the predecessor of Champlin Petroleum (Union Pacific Resources) where he
advanced to become District Manager. He became Regional Manager for
Helmerich & Payne and for nine years he managed an 11-state oil and gas
exploration program. He has also served as exploration manager and Senior
Vice-President for several petroleum companies in the Rocky Mountain Region.
Mr. Dolloff earned his BS in Geology from Yale University and MSc Geology
from University of Minnesota.
BRIAN HUGHES, PRODUCTION AND ENGINEERING CONSULTANT
Mr. Hughes is a petroleum engineer with more than twenty years of
supervisory and management experience in nearly all aspects of the natural
gas business. He has been a consulting, drilling, and production engineer
for completion operations in several CBM and tight gas sandstone projects in
the western Rocky Mountains. Prior to 1988, Mr. Hughes was a petroleum
engineer with Shell Oil where he was responsible for all Shell-operated units
in west Texas. Mr. Hughes received his B.S. in Mechanical Engineering from
the U.S. Military Academy and a Masters degree in Petroleum Engineering from
the University of Texas.
Directors' terms are one year.
ITEM 6. EXECUTIVE COMPENSATION.
The Company has recently entered into four-year employment agreements
with Paul M. Rady, who was hired by the Company in June 1998, and Glen C.
Warren, Jr., who was hired in July 1998.
The employment agreement with Mr. Rady provides for a salary of $120,000
per year, bonus compensation equal to 2% of the Company's net cash flow,
participation in the Company's standard insurance plans for its executives,
and participation in the Company's other incentive compensation programs at
the discretion of the Board of Directors. Mr. Rady was granted 400,000 stock
options exercisable at $2.50 per share and 400,000 stock options exercisable
at $5.00 per share which vest ratably over a four-year period commencing in
June 1999. Mr. Rady's stock options are subject to accelerated vesting in
the event of his termination without cause or in the event of a change of
control of the Company. The stock options expire in 2008, subject to earlier
termination if the employment is terminated. If Mr. Rady's employment with
the Company is terminated without cause prior to June 1, 1999, Mr. Rady is
entitled to termination compensation of $2,000,000. If Mr. Rady's employment
with the Company is terminated without cause after June 1, 1999, Mr. Rady is
entitled to termination compensation of $3,000,000. Mr. Rady's employment
agreement automatically renews on each anniversary of the effective date
after June 1, 2001 for an additional two years unless the
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<PAGE>
Company notifies Mr. Rady in writing 90 days prior to such anniversary that
it will not be renewing his employment agreement.
The employment agreement with Mr. Warren provides for a salary of
$100,000 per year, bonus compensation equal to 1% of the Company's net cash
flow, participation in the Company's standard insurance plans for its
executives, and participation in the Company's other incentive compensation
programs at the discretion of the Board of Directors. Mr. Warren was granted
200,000 stock options exercisable at $2.50 per share, 100,000 stock options
exercisable at $3.25 per share, and 200,000 stock options exercisable at
$5.00 per share which vest ratably over a four-year period commencing in July
1999. The stock options expire in 2008. Mr. Warren's stock options are
subject to accelerated vesting in the event of his termination without cause
or in the event of a change of control of the Company. If Mr. Warren's
employment with the Company is terminated without cause prior to July 1,
1999, Mr. Warren is entitled to termination compensation of $400,000. If Mr.
Warren's employment with the Company is terminated without cause after July 1,
1999 but before July 1, 2000, Mr. Warren is entitled to termination
compensation of $750,000. If Mr. Warren's employment with the Company is
terminated without cause after July 1, 2000, Mr. Warren is entitled to
termination compensation of $1,250,000. Mr. Warren's employment agreement
automatically renews on each anniversary of the effective date after June 1,
2002 for an additional year, unless the Company notifies Mr. Warren in
writing 90 days prior to such anniversary that it will not be renewing his
employment agreement.
The following table provides certain summary information concerning
compensation earned by the Company's Chief Executive Officer and Chief
Financial Officer (the "Named Executive Officers") during the period ended
September 30, 1998.
<TABLE>
<CAPTION>
SUMMARY COMPENSATION TABLE
Long-Term
Annual Compensation Compensation
---------------------------------------- Awards
------
Other Securities All
Annual Underlying Other
Name and Principal Position Salary(1) Bonus Comp. Options (#) Comp.
- --------------------------- --------- ----- ----- ------------ ------
<S> <C> <C> <C> <C>
Paul M. Rady .............................. $ 35,000 $ -- -- 800,000 $ --
President and Chief Executive Officer
Glen C. Warren, Jr. ....................... $ 25,000 $ -- -- 512,150 $ --
Chief Financial Officer and
Executive Vice President
</TABLE>
- --------------
(1) Reflects compensation paid from date of employment through September 30,
1998. Mr. Rady began employment with the Company on June 16, 1998.
Mr. Warren began employment with the Company on July 2, 1998.
1998 STOCK OPTION AND INCENTIVE PLAN
On March 24, 1998, the Board of Directors adopted the 1998 Stock Option
and Incentive Plan (the "Plan") which was subsequently approved by the
stockholders of the Company. The stockholders of the Company approved an
amendment to the Plan on June 29, 1998. The Plan is intended to provide
incentive to key employees and directors of, and key consultants, vendors,
customers, and others expected to provide significant services to, the
Company, to encourage proprietary interest in the Company, to encourage such
key employees to remain in the employ of the Company and its Subsidiaries, to
attract new employees with outstanding qualifications, and to afford
additional incentive to consultants, vendors, customers, and others to
increase their efforts in providing significant services to the Company. The
Plan is administered by the Board of Directors or can be administered by a
Committee appointed by the Board of Directors, which Committee shall be
constituted to permit the Plan to comply with Rule 16b-3 of the Act, and
which shall consist of not less than two members. The Board of Directors, or
the Committee if there be one, at its discretion, can select the eligible
employees and consultants to be granted awards, determine the number of
shares to be applicable to such award, and designate any Options as Incentive
Stock Options or Nonstatutory Stock Options (except that no Incentive Stock
Option may be granted to a non-employee director or a non-employee
consultant). The
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<PAGE>
stock subject to awards granted under the Plan are shares of the Company's
authorized but unissued or reacquired Common Stock. The aggregate number of
shares which may be issued as awards or upon exercise of awards under the
Plan is 4,500,000 shares. As of September 30, 1998, Non-statutory Stock
Options to purchase 2,960,150 have been granted to key employees and
directors for exercise prices ranging from $1.25 to $5.00 per share pursuant
to the vesting schedules of the respective agreements. Options in the amount
of 612,500 are currently vested while the balance of the options vest over
the passage of time or are tied to certain benchmarks being achieved with
regards to the drilling of wells or obtaining certain annual gross production
revenues. No Incentive Stock Option Agreements have been entered into by the
Company as of July 31, 1998. The shares that may presently be issued
pursuant to the exercise of an option awarded by the Plan have not been
registered under the Securities Act of 1933 (the "Securities Act"), any state
securities authority, nor any foreign securities authority, and will be
subject to the limitations of Rule 144.
The following table reflects certain information regarding stock options
granted to the Named Executive Officers during the period ended September 30,
1998.
<TABLE>
<CAPTION>
OPTION GRANTS AS OF THE PERIOD ENDED SEPTEMBER 30, 1998
INDIVIDUAL GRANTS
NUMBER OF PERCENTAGE OF TOTAL
SECURITIES OPTIONS GRANTED TO
UNDERLYING EMPLOYEES AS OF EXERCISE
OPTIONS THE PERIOD ENDED PRICE PER EXPIRATION
NAME GRANTED SEPTEMBER 30, 1998 SHARE DATE
---- ---------- ------------------- --------- -----------------
<S> <C> <C> <C> <C>
Paul M. Rady 400,000 13.5% $ 2.50 June 15, 2008
400,000 13.5% $ 5.00 June 15, 2008
Glen C. Warren, Jr. 200,000 6.8% $ 2.50 July 1, 2008
100,000 3.4% $ 3.25 July 1, 2008
200,000 6.8% $ 5.00 July 1, 2008
12,150 0.4% $ 5.00 September 4, 2008
</TABLE>
The following table reflects certain information concerning the number
of unexercised options held by the Named Executive Officers and the value of
such officers' unexercised options as of September 30, 1998. No options were
exercised by the Named Executive Officers during the period ended September
30, 1998.
-19-
<PAGE>
<TABLE>
<CAPTION>
AGGREGATED OPTION EXERCISED IN 1998
AND OPTION VALUES AS OF THE PERIOD ENDED SEPTEMBER 30, 1998
NUMBER OF SECURITIES VALUE OF UNEXERCISED
UNDERLYING UNEXERCISED IN THE MONEY
SHARES OPTIONS HELD AT OPTIONS HELD AT
ACQUIRED SEPTEMBER 30, 1998 SEPTEMBER 30, 1998(1)
ON VALUE ------------------ ---------------------
EXERCISE REALIZED EXERCISABLE UNEXERCISABLE EXERCISABLE UNEXERCISABLE
-------- -------- ----------- ------------- ----------- -------------
<S> <C> <C> <C> <C> <C> <C>
Paul M. Rady -- $ -- -- 800,000 $ -- $ 250,000
Glen C. Warren, Jr. -- $ -- -- 512,150 $ -- $ 125,000
</TABLE>
- --------------
(1) Options are "in-the-money" if the closing market price of the Company's
Common Stock exceeds the exercise price of the options. The exercise price
of the options granted to the Named Executive Officers is $2.50 per share.
The value of unexercised options for each of the Named Executive Officers
represents the difference between the exercise price of such options and
the closing price of the Company's Common Stock on September 30, 1998
($3.125 per share).
ITEM 7. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS.
A Director of the Company, Mark A. Erickson is also the President of RIS
USA, a wholly owned subsidiary of RIS, and serves as a director of RIS USA.
RIS USA is engaged in the downstream gathering, processing and marketing gas
business, and may purchase and provide infrastructure gathering and
transportation of CBM produced by the Company. RIS owns approximately 26% of
the issued and outstanding shares of the Company. If the Company deals with
related parties the fairness of the transactions will be reviewed only by
members of the Board of Directors that do not have interests in the
transactions.
-20-
<PAGE>
ITEM 8. DESCRIPTION OF SECURITIES.
GENERAL
The authorized Common Stock of the Company consists of 50,000,000 shares
of $0.001 par value common stock. The following summary of the terms and
provisions of the Company's capital stock does not purport to be complete and
is qualified in its entirety by reference to the Company's Articles of
Incorporation and By-laws, which have been filed as exhibits to the Company's
registration statement, of which this prospectus is a part, and applicable
law.
COMMON STOCK
The holders of Common Stock are entitled to one vote for each share on
all matters voted upon by stockholders, including the election of directors.
Such holders are not entitled to vote cumulatively for the election of
directors. Holders of a majority of the shares of Common Stock entitled to
vote in any election of directors may elect all of directors standing for
election.
Holders of Common Stock are entitled to participate pro rata in such
dividends as may be declared in the discretion of the Board of Directors out
of funds legally available therefor. Holders of Common Stock are entitled to
share ratably in the net assets of the Company upon liquidation after payment
or provision for all liabilities. Holders of Common Stock have no preemptive
rights to purchase shares of stock of the Company. Shares of Common Stock
are not subject to any redemption provisions and are not convertible into any
other securities of the Company. All outstanding shares of Common Stock are
fully paid and non-assessable.
The Common Stock is quoted on the OTC Bulletin Board system under the
symbol "PNEG."
As of November 15, 1998, 14,795,179 shares are issued and outstanding.
SHARE PURCHASE WARRANTS
The Company has 607,500 warrants outstanding with an exercise price of
$5.00 per share issued September 4, 1998, via a private placement exempt from
the registration requirements of the Securities Act. These warrants may be
exercised any time within six months of the date of issuance.
The Company has 398,215 warrants outstanding with an exercise price of
$1.75 per share for the first year of exercisability and $1.96 per share for
the second year of exercisability. 310,715 of these warrants were issued
July 1, 1998 and 87,500 were issued September 4, 1998, via private placements
exempt from the registration requirements of the Securities Act and may be
exercised within two years from the date of issuance.
The Company has 75,200 warrants outstanding with an exercise price of
$3.58 per share issued September 4, 1998, via a private placement exempt from
the registration requirements of the Securities Act. These warrants may be
exercised any time within two years from the date of issuance.
None of the shares underlying the above-referenced warrant have been
registered under the Securities Act.
YORKTON WARRANTS
The Company entered into a Fiscal Agency Agreement with Yorkton
Securities, Inc., an Ontario, Canada Corporation ("Yorkton") for a period of
one year, whereby Yorkton will provide to the Company corporate finance
services and market consultation. In consideration for said fiscal agency
services, the Company contracted to pay Yorkton a fee in the amount of
128,000 warrants (the "Yorkton Warrants"). The Yorkton Warrants consist of
warrants to purchase up to 128,000 shares of Common Stock at an exercise
price of $1.25 per share any time after April 15, 1999
-21-
<PAGE>
and before April 15, 2000. Shares issued pursuant to exercise of the Yorkton
Warrants have not been registered under the Securities Act.
TRANSFER AGENT
The Company's transfer agent is: Pacific Stock Transfer Company, 3690
South Eastern, Las Vegas, Nevada 89109.
PART II
ITEM 1. MARKET PRICE OF AND DIVIDENDS ON THE REGISTRANT'S COMMON EQUITY AND
OTHER SHAREHOLDER MATTERS.
Effective July 1, 1998, trading in the Common Stock commenced on the OTC
Bulletin Board system. During the period from July 1, 1998 to September 30,
1998, the closing prices ranged from $3.125 to $6.16 per share.
The Company has not paid any cash dividends on its Common Stock since
its incorporation and anticipates that, for the foreseeable future, earnings,
if any, will continue to be retained for use in its business. As of
September 30, 1998, the approximate number of record holders of the Common
Stock was .
ITEM 2. LEGAL PROCEEDINGS.
No material legal proceedings to which the Company is a party are
pending nor are any known to be contemplated and the Company knows of no
legal proceedings pending or threatened, or judgments entered against any
Director or Officer of the Company in his capacity as such.
ITEM 3. CHANGES AND DISAGREEMENTS WITH ACCOUNTANTS.
David E. Coffey, C.P.A., the accounting firm that had previously been
engaged as the principal accountant to audit the Company's financial
statements, was dismissed in July 1998. The audit report previously issued
by David E. Coffey, C.P.A. with respect to the Company's financial statements
did not contain an adverse opinion or a disclaimer of opinion, nor was such
report qualified or modified as to uncertainty, audit scope or accounting
principles. The Company's Board of Directors approved the selection of KPMG
Peat Marwick L.L.P. as auditors for the Company's financial statements for
the fiscal period ending September 30, 1998, and KPMG Peat Marwick L.L.P. was
engaged for such purpose in September 1998. The Company's Board of Directors
approved the dismissal of David E. Coffey, C.P.A.
ITEM 4. RECENT SALES OF UNREGISTERED SECURITIES.
Set forth below is certain information concerning all sales of
securities by the Company during the past three years that were not
registered under the Securities Act:
(a) The Company issued 995,000 shares in January 1998 pursuant to a
share-for-share exchange with the stockholders of International Metal
Protection, Inc. in a transaction conducted solely to reincorporate the
Company in a new jurisdiction. This transaction was exempt from the
registration requirements of the Securities Act pursuant to Section 4(2) of
the Securities Act. There was no change in ownership and the stockholders
made no significant investment decision.
(b) The Company issued 500,000 shares in February 1998 for the purchase
price of $.10 per share pursuant to a private placement exempt from the
registration requirements of the Securities Act pursuant to Section 4(2) of
the Securities Act. At that time, the Company had only a business plan and
no assets. There were eleven offerees in this offering, all of whom made
purchases and all of whom the Company believes were sophisticated investors.
The Company fully apprised each of the offerees of the Company's start-up
nature and gave them full details regarding the Company's business plan.
There was no general solicitation or advertising used in connection with the
offer to sell or sale of these securities. The purchasers were advised that
the securities, once purchased, could not be resold or otherwise transferred
without subsequent registration under the Securities Act. Each purchaser
represented to the Company that they were purchasing the securities for their
own account for investment purposes only.
(c) The Company issued 4,530,000 shares in February 1998 for a purchase
price of $.22 per share pursuant to a Regulation D, Rule 504 offering.
Offerees were provided with a private placement memorandum containing
detailed information about the Company and its plan. The Company required
each prospective investor to represent in writing that (i) they had adequate
means of providing for their current needs and personal contingencies and had
no need to sell the securities in the foreseeable future and (ii) they, either
alone or with their duly designated purchaser representative, had such
knowledge and experience in business and financial matters that they were
capable of evaluating the risks and merits of an investment in the securities.
(d) The Company issued 5,000,000 shares in April 1998 for a purchase
price of $1.25 per share pursuant to a Regulation D, Rule 506 offering. The
Company accepted subscriptions only from accredited investors. Offerees were
provided with a private placement memorandum containing detailed information
about the Company and its plan. The Company required each prospective
investor to represent in writing that (i) they had received and reviewed the
private placement memorandum and understood the risks of an investment in the
Company; (ii) they had the experience and knowledge with respect to similar
investments which enabled them to evaluate the merits and risks of such
investment, or they had obtained and relied upon an experienced independent
adviser with respect to such evaluation; (iii) they had adequate means to
bear the economic risk of such investment, including the loss of the entire
investment; (iv) they had adequate means to provide for their current needs
and possible personal contingencies; (v) they had no need for liquidity of
their investment in the Company; (vi) they understood that the securities had
not been registered under the Securities Act and may have not been registered
or qualified under applicable state securities laws and, therefore, that they
could not sell or transfer the securities unless the securities were
subsequently registered or an exemption therefrom was available to them;
(vii) they were acquiring the securities for investment solely for their own
account and without any intention of reselling or distributing them; and
(viii) they understood that the securities would bear a restrictive legend
prohibiting transfers except in compliance with the provisions of the
securities, the subscription agreement executed by the purchaser and the
applicable federal and state securities laws.
(e) The Company issued 128,000 share purchase warrants with an exercise
price of $1.25 per share, exercisable after April 15, 1999, to Yorkton in
April 1998 pursuant to a private placement exemption from the registration
requirements of the Securities Act under Section 4(2) of the Securities Act.
These warrants were issued pursuant to a negotiated transaction between the
Company and Yorkton, whereby Yorkton agreed to provide corporate finance
services to the Company for one year in return for these warrants.
(f) The Company issued 2,000,000 shares in June 1998 to RIS pursuant to a
Regulation D, Rule 506 offering for a purchase price of $1.75 per share. The
Company accepted subscriptions only from accredited investors. Offerees
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<PAGE>
were provided with a private placement memorandum containing detailed
information about the Company and its plan. The Company required each
prospective investor to represent in writing that (i) they had received and
reviewed the private placement memorandum and understood the risks of an
investment in the Company; (ii) they had the experience and knowledge with
respect to similar investments which enabled them to evaluate the merits and
risks of such investment, or they had obtained and relied upon an experienced
independent adviser with respect to such evaluation; (iii) they had adequate
means to bear the economic risk of such investment, including the loss of the
entire investment; (iv) they had adequate means to provide for their current
needs and possible personal contingencies; (v) they had no need for liquidity
of their investment in the Company; (vi) they understood that the securities
had not been registered under the Securities Act and may have not been
registered or qualified under applicable state securities laws and,
therefore, that they could not sell or transfer the securities unless the
securities were subsequently registered or an exemption therefrom was
available to them; (vii) they were acquiring the securities for investment
solely for their own account and without any intention of reselling or
distributing them; and (viii) they understood that the securities would bear
a restrictive legend prohibiting transfers except in compliance with the
provisions of the securities, the subscription agreement executed by the
purchaser and the applicable federal and state securities laws.
(g) The Company issued 796,429 units were purchased in June, July and
September 1998 pursuant to a Regulation D, Rule 506 offering by three members
of the management team of the Company, for a purchase price of $1.75 per
unit, each unit consisting of one share and a one share purchase warrant for
every two shares purchased. All units were purchased by three members of
the management team of the Company. Offerees were provided with a private
placement memorandum containing detailed information about the Company and
its plan. The Company required each prospective investor to represent in
writing that (i) they had received and reviewed the private placement
memorandum and understood the risks of an investment in the Company; (ii)
they had the experience and knowledge with respect to similar investments
which enabled them to evaluate the merits and risks of such investment, or
they had obtained and relied upon an experienced independent adviser with
respect to such evaluation; (iii) they had adequate means to bear the
economic risk of such investment, including the loss of the entire
investment; (iv) they had adequate means to provide for their current needs
and possible personal contingencies; (v) they had no need for liquidity of
their investment in the Company; (vi) they understood that the securities had
not been registered under the Securities Act and may have not been registered
or qualified under applicable state securities laws and, therefore, that they
could not sell or transfer the securities unless the securities were
subsequently registered or an exemption therefrom was available to them;
(vii) they were acquiring the securities for investment solely for their own
account and without any intention of reselling or distributing them; and
(viii) they understood that the securities would bear a restrictive legend
prohibiting transfers except in compliance with the provisions of the
securities, the subscription agreement executed by the purchaser and the
applicable federal and state securities laws.
(h) The Company issued 1,215,000 units on September 4, 1998 pursuant to
a Regulation D, Rule 506 offering for a purchase price of $3.25 per unit,
each unit consisting of one share and a one share purchase warrant for every
two shares purchased. The Company accepted subscriptions only from
accredited investors. Offerees were provided with a private placement
memorandum containing detailed information about the Company and its plan.
The Company required each prospective investor to represent in writing that
(i) they had received and reviewed the private placement memorandum and
understood the risks of an investment in the Company; (ii) they had the
experience and knowledge with respect to similar investments which enabled
them to evaluate the merits and risks of such investment, or they had
obtained and relied upon an experienced independent adviser with respect to
such evaluation; (iii) they had adequate means to bear the economic risk of
such investment, including the loss of the entire investment; (iv) they had
adequate means to provide for their current needs and possible personal
contingencies; (v) they had no need for liquidity of their investment in the
Company; (vi) they understood that the securities had not been registered
under the Securities Act and may have not been registered or qualified under
applicable state securities laws and, therefore, that they could not sell or
transfer the securities unless the securities were subsequently registered or
an exemption therefrom was available to them; (vii) they were acquiring the
securities for investment solely for their own account and without any
intention of reselling or distributing them; and (viii) they understood that
the securities would bear a restrictive legend prohibiting transfers except
in compliance with the provisions of the securities, the subscription
agreement executed by the purchaser and the applicable federal and state
securities laws. Yorkton served as placement agent for this private
placement. As compensation, Yorkton received share purchase warrants to
purchase 75,200 shares at an exercise price of $3.58.
ITEM 5. INDEMNIFICATION OF DIRECTORS AND OFFICERS.
The Nevada Revised Statutes and certain provisions of the Company's
Bylaws under certain circumstances provide for indemnification of the
Company's Officers, Directors and controlling persons against liabilities
that they may incur in such capacities. A summary of the circumstances in
which such indemnification is provided for is contained herein, but this
description is qualified in its entirety by reference to the Company's Bylaws
and to the statutory provisions.
In general, any Officer, Director, employee or agent may be indemnified
against expenses, fines, settlements or judgments arising in connection with
a legal proceeding to which such person is a party, if that person's actions
were in good faith, were believed to be in the Company's best interest, and
were not unlawful. Unless such person is successful upon the merits in such
an action, indemnification may be awarded only after a determination by
independent decision of the Board of Directors, by legal counsel, or by a
vote of the stockholders, that the applicable standard of conduct was met by
the person to be indemnified.
The circumstances under which indemnification is granted in connection
with an action brought on behalf of the Company is generally the same as
those set forth above; however, with respect to such actions, indemnification
is granted only with respect to expenses actually incurred in connection with
the defense or settlement of the action. In such actions, the person to be
indemnified must have acted in good faith and in a manner believed to have
been in the Company's best interest, and must not have been adjudged liable
for negligence or misconduct.
Indemnification may also be granted pursuant to the terms of agreements
that may be entered in the future or pursuant to a vote of stockholders or
Directors. The statutory provision cited above also grants the power to the
Company to purchase and maintain insurance which protects its Officers and
Directors against any liabilities incurred in connection with their service
in such a position, and such a policy may be obtained by the Company.
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<PAGE>
PENNACO ENERGY, INC.
(A DEVELOPMENT STAGE COMPANY)
FINANCIAL STATEMENTS
SEPTEMBER 30, 1998
(WITH INDEPENDENT AUDITORS' REPORT THEREON)
F-1
<PAGE>
INDEPENDENT ACCOUNTANTS' REPORT
The Board of Directors
Pennaco Energy, Inc.:
We have audited the accompanying balance sheet of Pennaco Energy, Inc. (a
development stage company) as of September 30, 1998, and the related
statements of operations, stockholders' deficit and cash flows for the period
from January 26, 1998 (inception) to September 30, 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 audit.
We conducted our audit in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to
obtain reasonable assurance about whether the financial statements are free
of material misstatement. An audit includes examining, on a test basis,
evidence supporting the amounts and disclosures in the financial statements.
An audit also includes assessing the accounting principles used and
significant estimates made by management, as well as evaluating the overall
financial statement presentation. We believe that our audit provides a
reasonable basis for our opinion.
In our opinion, the financial statements referred to above present fairly, in
all material respects, the financial position of Pennaco Energy, Inc. as of
September 30, 1998, and the results of its operations and its cash flows for
the period from January 26, 1998 (inception) to September 30, 1998, in
conformity with generally accepted accounting principles.
KPMG PEAT MARWICK LLP
Denver, Colorado
November 20, 1998
F-2
<PAGE>
PENNACO ENERGY, INC.
(A Development Stage Company)
Balance Sheet
September 30, 1998
<TABLE>
<CAPTION>
PRO FORMA
ASSETS HISTORICAL (NOTE 2)
------------ -----------
(unaudited)
<S> <C> <C>
Current assets:
Cash $ 1,358,125 22,966,124
Drilling deposit 250,000 250,000
Prepaid expenses and other current assets 78,753 78,753
------------ ----------
Total current assets 1,686,878 23,294,877
------------ ----------
Property and equipment:
Undeveloped oil and gas properties, at cost (using the
successful efforts method of accounting)
(note 9) 16,054,802 9,054,802
Computer software and equipment 176,993 176,993
Furniture and fixtures 69,092 69,092
------------ ----------
16,300,887 9,300,887
Less accumulated depreciation (34,217) (34,217)
------------ ----------
Net property and equipment 16,266,670 9,266,670
------------ ----------
Deferred income tax asset 1,280,000 1,280,000
Other assets 64,415 64,415
------------ ----------
$ 19,297,963 33,905,962
------------ ----------
------------ ----------
</TABLE>
(Continued)
F-3
<PAGE>
PENNACO ENERGY, INC.
(A Development Stage Company)
Balance Sheet
<TABLE>
<CAPTION>
PRO FORMA
LIABILITIES AND STOCKHOLDERS' EQUITY HISTORICAL (NOTE 2)
------------ -----------
(unaudited)
<S> <C> <C>
Current liabilities:
Bridge loan payable, including accrued interest (note 3) $ 3,241,867 --
Note payable to shareholder, including accrued interest
(note 3) 504,583 --
Lease acquisitions payable 2,645,551 --
Accounts payable and accrued liabilities 286,006 286,006
Income tax payable -- 7,560,000
------------ ----------
Total current liabilities 6,678,007 7,846,006
Stockholders' equity (note 6):
Common stock, $.001 par value. Authorized 50,000,000
shares; 14,795,179 shares issued and outstanding 14,795 14,795
Additional paid-in capital 16,681,499 16,681,499
Retained earnings (deficit) accumulated during the
development stage (4,076,338) 9,363,662
------------ ----------
Total stockholders' equity 12,619,956 26,059,956
------------ ----------
------------ ----------
Commitments (note 8)
$ 19,297,963 33,905,962
------------ ----------
------------ ----------
</TABLE>
See accompanying notes to financial statements.
F-4
<PAGE>
PENNACO ENERGY, INC.
(A Development Stage Company)
Statement of Operations
Period from January 26, 1998 (inception) to September 30, 1998
<TABLE>
<S> <C>
Interest income $ 30,250
-------------
Expenses:
Exploration 1,784,069
Depreciation and amortization 34,217
General and administrative (note 6) 2,918,356
Interest expense, including $4,583 payable to shareholder 649,946
-------------
Total expenses 5,386,588
-------------
Loss before income taxes (5,356,338)
Income tax benefit 1,280,000
-------------
Net loss and deficit accumulated during the
development stage $ (4,076,338)
-------------
-------------
Loss per share $ (.38)
-------------
-------------
Weighted average common shares outstanding 10,615,560
-------------
-------------
</TABLE>
See accompanying notes to financial statements.
F-5
<PAGE>
PENNACO ENERGY, INC.
(A Development Stage Company)
Statement of Stockholders' Equity
Period from January 26, 1998 (inception) to September 30, 1998
<TABLE>
<CAPTION>
COMMON STOCK ADDITIONAL
------------------------ PAID-IN ACCUMULATED
SHARES AMOUNT CAPITAL DEFICIT TOTAL
---------- --------- ----------- ----------- ----------
<S> <C> <C> <C> <C> <C>
BALANCES AT JANUARY 26, 1998 (INCEPTION) -- $ -- -- -- --
Common stock issued in connection with share
exchange (note 1) 995,000 995 (995) -- --
Common stock issued, net of offering costs of
$178,14 (note 6) 12,030,000 12,030 10,607,551 -- 10,619,581
Compensation relating to common stock and
warrants issued (note 6) -- -- 1,340,000 -- 1,340,000
Stock option compensation (note 6) -- -- 450,000 -- 450,000
Units issued, net of offering costs of $288,225
(note 6) 1,770,179 1,770 4,268,443 -- 4,270,213
Warrants issued for services (note 6) -- -- 16,500 -- 16,500
Net loss for the period -- -- -- (4,076,338) (4,076,338)
---------- --------- ---------- ---------- ----------
BALANCES AT SEPTEMBER 30, 1998 14,795,179 $ 14,795 16,681,499 (4,076,338) 12,619,956
---------- --------- ---------- ---------- ----------
---------- --------- ---------- ---------- ----------
</TABLE>
See accompanying notes to financial statements.
F-6
<PAGE>
PENNACO ENERGY, INC.
(A Development Stage Company)
Statement of Cash Flows
Period from January 26, 1998 (inception) to September 30, 1998
<TABLE>
<S> <C>
Cash flows from operating activities:
Net loss $ (4,076,338)
Adjustments to reconcile net loss to net cash used in
operating activities:
Depreciation and amortization 34,217
Compensation relating to common stock and warrants issued 1,340,000
Stock option compensation 450,000
Warrants issued for services 16,500
Increase in accrued interest on bridge loan and note payable 46,450
Deferred income tax benefit (1,280,000)
Increases in operating assets and liabilities:
Prepaid expenses and other current assets (78,753)
Other assets (64,415)
Accounts payable and accrued liabilities 286,006
-------------
Net cash used in operating activities (3,326,333)
-------------
Cash flows from investing activities:
Capital expenditures (16,300,887)
Drilling deposit (250,000)
Increase in lease acquisitions payable 2,645,551
-------------
Net cash used by investing activities (13,905,336)
-------------
Cash flows from financing activities:
Proceeds from issuance of bridge loan 3,200,000
Proceeds from issuance of note payable 500,000
Proceeds from issuance of common stock, net of offering costs 14,889,794
-------------
Net cash provided by financing activities 18,589,794
-------------
Net increase in cash 1,358,125
Cash at beginning of period --
-------------
Cash at end of period $ 1,358,125
-------------
-------------
Supplemental disclosures of cash flow information:
Cash paid for interest $ 603,496
-------------
-------------
Cash paid for income taxes $ --
-------------
-------------
</TABLE>
See accompanying notes to financial statements.
F-7
<PAGE>
PENNACO ENERGY, INC.
(A Development Stage Company)
September 30, 1998
Notes to Financial Statements
(1) ORGANIZATION AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
(A) ORGANIZATION AND BASIS OF PRESENTATION
Pennaco Energy, Inc. (the "Company") is an independent, energy
company primarily engaged in the acquisition and development of
natural gas production from coal bed methane properties in the
Rocky Mountain region of the United States. The Company was
incorporated on January 26, 1998 under the laws of the state of
Nevada and its headquarters are in Denver, Colorado.
The Company's activities to date have been limited to
organizational activities, prospect development activities, and
acquisition of leases and option rights. The Company currently has
oil and gas lease rights in the Powder River Basin in northeastern
Wyoming and southeastern Montana. Currently the Company has no
revenue producing operations. Accordingly, the Company is
considered to be in the development stage.
The Company was incorporated as a wholly-owned subsidiary of
International Metal Protection Inc. (International Metal).
Subsequently, all of the outstanding shares of International Metal
were exchanged for shares of the Company and International Metal
was merged into the Company. The 995,000 shares issued in the
exchange were recorded at their par value of $.001 per share as
International Metal had no assets or liabilities at the date of the
merger. International Metal and its predecessor, AKA Video
Communications Inc., had been inactive for the two years ended
December 31, 1997 and prior thereto.
The Company's year end is December 31.
(B) USE OF ESTIMATES IN THE PREPARATION OF FINANCIAL STATEMENTS
The preparation of financial statements in conformity with
generally accepted accounting principles requires management to
make estimates and assumptions that affect the reported amounts of
assets and liabilities and disclosure of contingent assets and
liabilities at the financial statements and the reported amounts of
revenues and expenses during the reporting period. Actual results
could differ from those estimates.
(C) SIGNIFICANT RISKS
The Company is subject to a number of risks and uncertainties
inherent in the oil and gas industry. Among these are risks
related to fluctuating oil and gas prices, uncertainties related to
the estimation of oil and gas reserves and the value of such
reserves, effects of competition and extensive environmental
regulation, risks associated with the search for and the
development of oil and gas reserves, and many other factors, many
of which are necessarily beyond the Company's control. The
Company's financial condition and results of operations will depend
(Continued)
F-8
<PAGE>
significantly upon the Company's ability to find and develop natural
gas and oil reserves and upon the prices received for natural gas and
oil produced, if any. These prices are subject to fluctuations in
response to changes in supply, market uncertainty and a variety of
additional factors that are beyond the control of the Company.
(D) CASH AND CASH EQUIVALENTS
The Company considers all highly liquid investments purchased with
an initial maturity of three months or less to be cash equivalents.
(E) OIL AND GAS ACTIVITIES
The Company follows the successful efforts method of accounting for
its oil and gas activities. Accordingly, costs associated with the
acquisition, drilling and equipping of successful exploratory wells
are capitalized. Geological and geophysical costs, delay and
surface rentals and drilling costs of unsuccessful exploratory
wells are charged to expense as incurred. Costs of drilling
development wells, both successful and unsuccessful, are
capitalized. Upon the sale or retirement of oil and gas
properties, the cost thereof and the accumulated depreciation and
depletion are removed from the accounts and any gain or loss is
credited or charged to operations. Depletion of capitalized
acquisition, exploration and development costs is computed on the
units-of-production method by individual fields as the related
proved reserves are produced.
Capitalized costs of unproved properties are assessed periodically
and a provision for impairment is recorded, if necessary, through a
charge to operations.
Proved oil and gas properties are assessed for impairment on a
field-by-field basis. If the net capitalized costs of proved oil
and gas properties exceeds the estimated undiscounted future net
cash flows from the property a provision for impairment is recorded
to reduce the carrying value of the property to its estimated fair
value.
(F) OTHER PROPERTY AND EQUIPMENT
Other property and equipment is recorded at cost. Depreciation and
amortization is provided using the straight-line method over the
estimated useful lives of the assets, which range from 3 to 15 years.
F-9
<PAGE>
(G) INCOME TAXES
The Company provides for income taxes under Statement of Financial
Accounting Standards No. 109, ACCOUNTING FOR INCOME TAXES (SFAS
109). SFAS No. 109 requires the use of the asset and liability
method of accounting for income taxes. Under the asset and
liability method, deferred tax assets and liabilities are
recognized for the future tax consequences attributable to
differences between the financial statement carrying amounts of
existing assets and liabilities and their respective tax bases and
net operating loss carryforwards. Deferred tax assets and
liabilities are measured using enacted income tax rates expected to
apply to taxable income in the years in which those differences are
expected to be recovered or settled. Under SFAS 109, the effect on
deferred tax assets and liabilities of a change in income tax rates
is recognized in the results of operations in the period that
includes the enactment date.
(h) STOCK-BASED COMPENSATION
Statement of Financial Accounting Standards No. 123, ACCOUNTING FOR
STOCK-BASED COMPENSATION (SFAS 123). This statement defines a fair
value method of accounting for its stock compensation plans. SFAS
123 allows an entity to measure compensation costs for these plans
using the intrinsic value based method of accounting as prescribed
in Accounting Principles Board Opinion No. 25, ACCOUNTING FOR STOCK
ISSUED TO EMPLOYEES (APB 25). The pro forma disclosures of net loss
and loss per share required by SFAS 123 are included in note 5.
(i) LOSS PER SHARE
Loss per share is based on the weighted average number of common
shares outstanding during the period. Outstanding stock options
and warrants were excluded from the computation as their effect was
antidilutive.
(2) JOINT VENTURE AGREEMENT
On October 23, 1998, the Company and CMS Oil and Gas Company, a
subsidiary of CMS Energy Corporation (CMS), signed a definitive
agreement involving the development of certain of its properties in the
Powder River Basin. Under the terms of the agreement, CMS will acquire
an undivided 50% working interest in the Company's undeveloped oil and
gas properties for $28,000,000, payable at two closings, $7,600,000 was
paid on November 20, 1998 and $20,400,000 will be paid on January 15,
1999, in the form of $14,800,000 in cash and the settlement of a
$5,600,000 bridge loan from CMS.
The unaudited pro forma balance sheet of the Company as of September 30,
1998 gives effect to the sale of the interest in the properties and the
use of a portion of the proceeds to repay the bridge loan, the note
payable to shareholders and lease acquisitions payable, all as if the
transactions had occurred on that date.
F-10
<PAGE>
The agreement also contemplates the formation of a joint venture to
develop the properties. The agreement provides that Pennaco and CMS
will each operate approximately 50% of the wells drilled in the area of
mutual interest provided for in the joint venture agreement. An
affiliate of CMS, CMS Gas Transmission and Storage, will provide
gathering, compression and transportation services to the joint venture.
All of the leases in the area of mutual interest are dedicated to CMS
Gas Transmission and Storage for gathering, compression and
transportation.
Under the terms of the agreement, CMS agreed to pay Pennaco $5,600,000
of earnest money in the form of a bridge loan secured by substantially
all of the Company's oil and gas leases. The loan is due and payable at
the second closing in January 1999. The loan will be settled in
connection with the second closing or will be forgiven if CMS wrongfully
fails to close or fails to meet the Company's conditions to closing. A
portion of the proceeds were used to repay the bridge loan.
(3) BRIDGE LOAN
The Company borrowed $3,200,000 under a bridge loan. The bridge loan is
payable on October 23, 1998 with interest at 18%. The bridge loan is
secured by undeveloped oil and gas properties with a carrying value of
approximately $2,668,000. The bridge loan was repaid in full and the
note was canceled on October 23, 1998.
(4) NOTE PAYABLE TO SHAREHOLDER
The unsecured note payable to shareholder bears interest at the prime
rate (8.25% at September 30, 1998) and matures on December 31, 1998.
Under the terms of the note, all interest will be forgiven if the loan
is repaid in full prior to November 30, 1998. Interest payable on the
note for the period from inception to September 30, 1998 was $4,583.
(5) INCOME TAXES
The income tax benefit of $1,280,000 includes a deferred federal income
tax benefit of $1,210,000 and a deferred state income tax benefit of
$70,000. The income tax benefit recorded for the period from inception
to September 30, 1998 differs from the expected income tax benefit
(based on the statutory rate of 34%) primarily as a result of state
income taxes and stock and stock option compensation which is not
deductible for tax purposes.
At September 30, 1998, the Company has a net operating loss carryforward
for federal income tax purposes of approximately $(3,560,000) which is
available to offset future federal taxable income, if any, through 2018.
The tax effects of temporary differences that give rise to the deferred
tax assets at September 30, 1998 are a result of the net operating loss
carryforward.
F-11
<PAGE>
(6) STOCKHOLDERS' EQUITY
(a) COMMON STOCK
Since it's formation in January 1998, the Company completed four
private placement offerings of common stock. In February 1998,
500,000 shares were issued at $.10 per share. Proceeds to the
Company were approximately $50,000. Also in February 1998,
4,530,000 shares were issued at $.22 per share. Proceeds to the
Company were approximately $997,000. In April 1998, 5,000,000
shares were issued at $1.25 per share. The proceeds to the
Company were $6,250,000. In June 1998, 2,000,000 shares were
issued at $1.75 per share. Proceeds to the Company were
approximately $3,500,000. The Company incurred approximately
$723,000 in offering costs relating to these offerings, which have
been charged to additional paid-in capital.
In June 1998, the Company offered certain individuals the right to
acquire common stock at $1.75 per share along with a share purchase
warrant for every two shares purchased, conditioned upon their
acceptance of employment as officers of the Company.
No compensation cost was recorded for the individuals who commenced
employment with the Company prior to July 1, 1998 (the date the
Company's common stock commenced trading) as the estimated fair
value of common stock approximated the common stock issuance price
and the warrant exercise price. Compensation expense of $450,000
was recorded for the shares and warrants issued subsequent to July
1, 1998 based on the difference between the closing price per share
on the last trading day prior to the date of employment with the
Company, and the warrant exercise price.
During the period from inception to September 30, 1998 a total of
796,429 units were issued at $1.75 per unit to officers and key
employees of the Company. The units consist of one share of common
stock and one warrant for each two shares issued. The warrants
have an exercise price of $1.75 per share in the first year and
$1.96 per share in the second year and are exercisable at any time.
Proceeds to the Company were approximately $1,394,000.
In September 1998, the Company issued 1,215,000 Units at $3.25 per
unit, consisting of one share of common stock and one warrant for
each two shares issued. The warrants have an exercise price of
$5.00 per share and may be exercised any time prior to March 4,
1999. Under the terms of the stock subscription agreement 25% of
the proceeds from a certain party, or $763,750, are subject to an
Escrow Arrangement, which provides that the shares and the shares
of common stock underlying the warrants are to be registered for
resale under the Securities Act of 1993 (the "Act") with the U.S.
Securities and Exchange Commission, which the Company has
undertaken to have accomplished by December 31, 1998. The Company
has also undertaken to have the shares qualified by way of an
exemption order provided by the respective Securities Commissions
in Canada. Proceeds to the Company were approximately $3,165,000
exclusive of the proceeds placed in escrow. Offering costs of
$288,225 were charged to additional paid in capital.
F-12
<PAGE>
The escrow proceeds of $763,750 were deposited into an interest
bearing escrow account together with certificates representing the
Units to be purchased. In the event the registration statement is
not declared effective or the Canadian exemption orders are not
obtained on or before the December 31, 1998, the subscribers to the
Offering are entitled to receive either (a) an additional Unit for
each 10 Units purchased in the Offering, or (b) a refund from the
escrow of 25% of the amount paid with their subscription, plus
interest thereon. The subscribers are also entitled to receive an
additional Unit for each 10 Units previously acquired in the
Offering in the event that the Company does not maintain an
effective registration statement effective until such time as the
registered securities may be resold pursuant to Rule 144
promulgated under the Act. The cash in escrow and the related
units are not reflected in the accompanying financial statements.
(b) WARRANTS
The Company issued warrants to purchase 128,000 shares of common
stock to a company for corporate finance services for a period of
one year commencing April 15, 1998. The warrants are exercisable
at $1.25 per share anytime after April 15, 1999 and expire April
15, 2000. The estimated fair value of the warrants issued of
$16,500 was charged to expense during the period from January 26,
1998 to September 30, 1998. In September 1998, the Company agreed
to issue warrants to purchase 75,200 shares of common stock to the
same company in connection with the placement of units in the
September 1998 unit offering. The warrants are exercisable at a
price of $3.58 per share and expire September 4, 2000.
(c) STOCK OPTION, WARRANT AND INCENTIVE PLAN
On March 24, 1998, the Company adopted the 1998 Stock Option and
Incentive Plan (the Plan). The aggregate number of shares which
may be issued as awards under the Plan is 4,500,000 shares. As of
September 1998, options to purchase common stock have been granted
to key employees and directors at exercise prices ranging from
$1.25 to $5.00 per share.
Stock option activity for the Plan for the period from inception to
September 30 is as follows:
<TABLE>
<CAPTION>
WEIGHTED
AVERAGE
EXERCISE
NUMBER OF PRICE
OPTIONS PER SHARE
--------- ---------
<S> <C> <C>
BALANCE, JANUARY 26, 1998 (INCEPTION) -- $ --
Granted 2,960,150 2.70
Canceled (200,000) 1.25
---------
BALANCE, SEPTEMBER 30, 1998 2,760,150 2.81
---------
---------
</TABLE>
F-13
<PAGE>
A summary of the range of exercise prices and the weighted-average
contractual life of outstanding stock options at September 30, 1998, is
as follows:
<TABLE>
<CAPTION>
NUMBER WEIGHTED WEIGHTED NUMBER WEIGHTED
OUTSTANDING AVERAGE AVERAGE EXERCISABLE AVERAGE
SEPTEMBER 30, EXERCISE REMAINING SEPTEMBER 30, EXERCISE
1998 PRICE LIFE (YEARS) 1998 PRICE
------------- -------- ----------- ------------- --------
<S> <C> <C> <C> <C> <C>
$ 1.25 800,000 $ 1.25 9.6 612,500 $ 1.25
2.50 918,000 2.50 8.7 -- --
3.25 430,000 3.25 4.8 -- --
5.00 612,150 5.00 4.4 -- --
--------- -------
$ 1.25 - 5.00 2,760,150 2.81 7.4 612,500 1.25
--------- ------- --- ------- -------
--------- ------- --- ------- -------
</TABLE>
The Company applies APB Opinion 25 and related interpretations in
accounting for its stock option plans. No compensation expense has
been recognized for options granted at or above market value at
date of grant. Compensation expense of $1,340,000 has been
recorded for the period from inception to September 30, 1998 for
options granted below the market value, based upon the difference
between the option price and the quoted market price at the date of
grant.
Had compensation cost for the Company's stock-based compensation
plans been determined based upon the fair value of options on the
grant dates, consistent with the provisions of SFAS 123, the
Company's pro forma net loss and loss per share for the period from
January 26, 1998 to September 30, 1998 would have been $(6,682,454)
and $(.63), respectively.
The weighted average fair value of options granted during 1998 was
$1.33 per share. The weighted average remaining contractual life
of all options outstanding at September 30, 1998 was approximately
6.2 years. The fair value of each option grant was estimated at
the date of grant using the Black-Scholes option-pricing model with
the following assumptions: no expected dividends, expected life of
the options of 1 to 10 years, volatility of 72%, and a risk-free
interest rate of 5.5%.
(7) RELATED PARTY TRANSACTIONS
RIS Resources International Corporation (RIS International) owns
4,000,000 shares of the Company's common stock. A member of the Board
of Directors of the Company also serves as the President and as a member
of the Board of Directors of RIS International. From April 1, 1998
through June 22, 1998 he served as an officer of the Company. Since
that time he has consulted with Company and has received approximately
$5,700 as compensation for his services.
F-14
<PAGE>
During the period from inception to September 30, 1998, a company for
which the Company's Chairman serves as a director provided
administrative services for the Company for which it received
compensation of approximately $16,000.
One of the Company's Directors provided legal services to the Company
during the period from inception to September 30, 1998. The Director's
firm was paid approximately $148,000 and the Director was paid
approximately $15,000 for the period from inception to September 30,
1998.
(8) COMMITMENTS
(a) EMPLOYMENT AGREEMENTS
The Company has entered into four-year employment agreements with
two officers, its President and its Chief Financial Officer and
Executive Vice President. Under the terms of the agreement with
the President, if employment is terminated without cause prior to
June 1, 1999, the President is entitled to termination compensation
of $2,000,000, or $3,000,000 if he is terminated without cause
after June 1, 1999 but before the expiration of his employment
agreement in June 2002. Under terms of the agreement with the
Executive Vice President and Chief Financial Officer, if employment
is terminated without cause prior to July 1, 1999, the chief
Financial Officer and Executive Vice President is entitled to
termination compensation of $400,000, $750,000 if he is terminated
without cause after July 1, 1999 but before July 1, 2000 and
$1,250,000 if he is terminated without cause thereafter but prior
to the expiration of his employment agreement.
(b) LEASE COMMITMENTS
The Company entered into an amendment to its office lease agreement
in Denver, Colorado effective June 1, 1998. The amended lease
covers 11,524 square feet for a term of two years and four months.
During the term of the lease, rent is payable in the amount of
$172,860 base rent per year. During the four months of the lease
from June 1, 1998 through September 30, 1998, the Company paid
$57,620 in rent.
(9) DISCLOSURES ABOUT CAPITALIZED COSTS, COST INCURRED AND RESERVES
Costs incurred in oil and gas producing activities for the period from
January 26, 1998 to September 30, 1998 are as follows:
<TABLE>
<S> <C>
Unproved property acquisition costs $ 16,054,802
--------------
--------------
</TABLE>
Certain of the Company's undeveloped oil and gas properties have
reserves classified as proved undeveloped; however, such amounts are not
significant.
F-15
<PAGE>
PART III
ITEM 1. INDEX TO EXHIBITS.
<TABLE>
<S> <C>
+3.1 Articles of Incorporation
+3.2 By-laws
+10.1 Mineral Lease Purchase Agreement dated February 23, 1998 between
High Plains Associates, Inc. and Pennaco Energy, Inc.
+10.2 Letter Agreement dated January 23, 1998 between High Plains
Associates, Inc. and Taylor Oil Properties
+10.3 Assignment of Option and Exercise of Option dated March 6, 1998
between High Plains Associates, Inc. and Pennaco Energy, Inc.
+10.4 Agreement dated March 6, 1998 between High Plains Associates,
Inc. and Pennaco Energy, Inc.
+10.5 Pennaco Energy, Inc. 1998 Stock Option and Incentive Plan
+10.6 Form of Pennaco Energy, Inc. Incentive Stock Option Agreement
+10.7 Form of Pennaco Energy, Inc. Non-Statutory Stock Option Agreement
+10.8 Employment Agreement dated June 10, 1998 between Pennaco Energy,
Inc. and Paul M. Rady
+10.9 Employment Agreement dated July 2, 1998 between Pennaco Energy,
Inc. and Glen C. Warren
+10.10 Secured Promissory Note dated August 13, 1998 from Pennaco
Energy, Inc. to Venture Capital Sourcing, SA
+10.11 Second Amendment to Security Agreement dated August 13, 1998
between Pennaco Energy, Inc. and Venture Capital Sourcing, SA
*10.12 Purchase and Sale Agreement between Pennaco Energy, Inc., as
Seller and CMS Oil and Gas Company, as Buyer, dated October 23,
1998
*10.13 Secured Promissory Note dated October 23, 1998 from Pennaco
Energy, Inc. to CMS Oil and Gas Company
*27 Financial Data Schedule
</TABLE>
- --------------
+ Previously filed
* Filed herewith
ITEM 2. DESCRIPTION OF EXHIBITS.
As appropriate, the issuer should file those documents required to be
filed as Exhibit Number 2, 3, 5, 6, and 7 in Part III of Form 1-A. The
registrant also shall file:
(12) ADDITIONAL EXHIBITS - Any additional exhibits which the issuer
may wish to file, which shall be so marked as to indicate clearly the subject
matters to which they refer.
13. FORM F-X - Canadian issuers shall file a written irrevocable
consent and power of attorney on Form F-X.
<PAGE>
SIGNATURES
In accordance with Section 12 of the Securities Exchange Act of 1934,
the registrant caused this registration statement to be signed on its behalf
by the undersigned, thereunto duly authorized.
PENNACO ENERGY, INC.
By: /s/ Paul M. Rady
-----------------------------------
Paul M. Rady, President and Chief
Executive Officer
<PAGE>
PURCHASE AND SALE AGREEMENT
BETWEEN
PENNACO ENERGY, INC., AS SELLER
AND
CMS OIL AND GAS COMPANY, AS BUYER
DATED OCTOBER 23, 1998
<PAGE>
LIST OF EXHIBITS
<TABLE>
<CAPTION>
EXHIBIT DESCRIPTION FIRST REFERENCE
- ------- ----------- ---------------
<S> <C> <C>
Exhibit A Leases . . . . . . . . . . . . . . . . . . . . . . . . . . .1.2(a)
Part I - Assets for First Closing
Part II - Assets for Second Closing
Exhibit B Material Agreements. . . . . . . . . . . . . . . . . . . . .1.2(b)
Exhibit C Excluded Lands . . . . . . . . . . . . . . . . . . . . . . .1.3
Exhibit D Form of Note . . . . . . . . . . . . . . . . . . . . . . . .2.1(a)
Exhibit E Map or description of project areas. . . . . . . . . . . . .2.2
Identification of Spotted Horse Area . . . . . . . . . . . .4.3(d)
Exhibit E-2 Map depicting the location of leases with short lease
terms . . . . . . . . . . . . . . . . . . . . . . . . . . .4.3(f)
Exhibit F Form of Assignment and Conveyance. . . . . . . . . . . . . 11.3(a)
Exhibit G Buyer's counsel's opinion letter . . . . . . . . . . . . . 11.3(d)
Exhibit H Buyer's officer's certificate. . . . . . . . . . . . . . . 11.3(d)
Exhibit I Seller's counsel's opinion letter. . . . . . . . . . . . . 11.3(e)
Exhibit J Seller's officer's certificate . . . . . . . . . . . . . . 11.3(e)
Exhibit K Area of Mutual Interest. . . . . . . . . . . . . . . . . . 14.1
Exhibit L Interim JOA. . . . . . . . . . . . . . . . . . . . . . . . .1.7
Exhibit M Escrow Agreement for Note. . . . . . . . . . . . . . . . . .2.5
</TABLE>
<PAGE>
PURCHASE AND SALE AGREEMENT
THIS PURCHASE AND SALE AGREEMENT ("AGREEMENT"), dated October 23, 1998,
is by and between Pennaco Energy, Inc., a Nevada corporation, whose address
is 1050 17th Street, Suite 700, Denver, Colorado 80265 ("SELLER") and CMS Oil
and Gas Company, a Michigan corporation, whose address is 1021 Main Street,
Suite 2800, Houston, Texas 77002-6606 ("BUYER").
RECITALS
A. Seller owns and desires to sell an undivided fifty percent (50%) of
its right, title and interest in certain oil and gas leases located in
Campbell County, Sheridan County and Johnson County, Wyoming, and in Big Horn
County, Rosebud County and Powder River County, Montana as described in
Section 1.2 below (collectively, the "ASSETS") upon the terms and conditions
set forth in this Agreement.
B. Buyer has conducted an independent investigation of the nature,
extent and potential of the Assets and desires to purchase an undivided fifty
percent (50%) of Seller's right, title and interest in the Assets upon the
terms and conditions set forth in this Agreement.
AGREEMENT
In consideration of the mutual promises contained herein and other good
and valuable consideration, the receipt and sufficiency of which are hereby
acknowledged, Buyer and Seller agree as follows:
ARTICLE 1
PURCHASE AND SALE
1.1 PURCHASE AND SALE. Buyer agrees to purchase an undivided
50% of Seller's right, title and interest in the Assets and Seller agrees to
sell the same to Buyer pursuant to the terms of this Agreement.
1.2 ASSETS. The Assets are comprised of the following:
(a) The oil and gas leases (including all leasehold estates, royalty
interests, overriding royalty interests and all other interests therein,
whether described or not), licenses, permits, and other documents of title
described on EXHIBIT A (the "LEASES"), and all of Seller's right, title and
interest
<PAGE>
in and to the oil, gas and all other hydrocarbons in, on or under or that may
be produced from the lands covered by the Leases (the "LANDS");
(b) The rights, to the extent transferable, in and to all agreements,
if any, which are appurtenant to or used in connection with the ownership or
operation of the Leases or Land, including but not limited to the material
agreements described on EXHIBIT B attached hereto and made a part hereof (the
"AGREEMENTS");
(c) All appurtenant rights to enter upon, use and occupy the surface of
any of the lands or of any lands to be crossed in order to gain access to any
of the Lands including, without limitation, servitudes, rights-of-way,
easements, surface use agreements and surface leases (the "SURFACE RIGHTS");
and
(d) Copies of the original files, records, data and information
relating to the items described in Sections 1.2(a) through (c) maintained by
Seller (the "RECORDS"), including, without limitation, lease files, land
files, division order files, abstracts, and title opinions related to the
Assets.
It is the intent of the Parties that the term "Leases" shall include all of
Seller's oil and gas leases, licenses, permits and other documents of title
located in Campbell, Sheridan and Johnson Counties, Wyoming, and in Big Horn,
Rosebud and Powder River Counties, Montana, except to the extent such Leases
cover the Excluded Lands described in Section 1.4 below, whether or not such
Leases are accurately described on Exhibit A hereto.
1.3 INTENT OF PARTIES. It is the intent of the Parties that
Buyer acquire an undivided fifty percent (50%) leasehold interest in a
minimum of 492,000 net mineral acres. In the event Seller's right, title and
interest in the Assets as of the Second Closing Date is greater than 492,000
net mineral acres, the provisions of Section 2.4 shall apply. In the event
Seller's right, title and interest in the Assets as of the Second Closing
Date is less than 492,000 net mineral acres, the provisions of Sections 4.3
and 4.4 shall apply. The term "NET MINERAL ACRES" means, in reference to an
individual Lease, the gross mineral acres in the Lease multiplied by (i) the
percentage ownership of the lessor, and (ii) the percentage ownership of
Seller in such Lease. For information purposes, Seller estimates that the
gross mineral acres associated with the 492,000 net mineral acres in this
transaction are approximately 596,000 acres.
1.4 EXCLUDED ASSETS. Buyer acknowledges that Seller
intentionally excluded from this Agreement the lands described on EXHIBIT C
(the "EXCLUDED LANDS") and any oil and gas leases now owned or hereafter
acquired by Seller to the extent they cover the Excluded Lands.
1.5 DATE OF CLOSING. Unless otherwise agreed to in writing and
subject to the conditions stated in this Agreement, consummation of the
transactions contemplated hereby (the "CLOSING") shall be held in two phases.
The first Closing shall be held on November 20, 1998, and shall cover the
Leases described in Part I of Exhibit A and associated Agreements, Surface
Rights
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<PAGE>
and Records. The second Closing shall be held on January 15, 1999, and shall
cover the Leases described in Part II of Exhibit A and associated Agreements,
Surface Rights and Records. The dates the Closings actually occur are called
the "FIRST CLOSING DATE" and "SECOND CLOSING DATE," respectively. The
Parties may transfer Leases between Parts I and II of Exhibit A prior to the
First Closing Date by mutual agreement of the Parties.
1.6 EFFECTIVE DATE. The purchase and sale shall be effective as
of the First Closing Date at 7:00 a.m. Mountain Time as to the Assets
conveyed on the First Closing Date and as of the Second Closing Date at 7:00
a.m. Mountain Time as to the Assets conveyed on the Second Closing Date. As
used in this Agreement, the term "EFFECTIVE DATE" shall refer to both of the
foregoing effective dates unless the context requires otherwise.
1.7 OTHER AGREEMENTS. Upon each Closing, the development of the
Assets for coal bed methane shall be subject to the terms of the Joint
Operating Agreement attached hereto as EXHIBIT L (the "INTERIM JOA") until
the Interim JOA is superseded by a Development Agreement to be negotiated by
the Parties which will be consistent with Article 18 of this Agreement unless
otherwise mutually agreed by the Parties (the "DEVELOPMENT AGREEMENT") and
the Joint Operating Agreement(s) executed in connection with the Development
Agreement (collectively, the "JOA"). The development of the Assets for any
hydrocarbons other than coal bed methane may be subject to the terms of a
Joint Operating Agreement(s) to be negotiated by the Parties as necessary.
ARTICLE 2
PURCHASE PRICE
2.1 PURCHASE PRICE. The purchase price for the Assets shall be
Twenty-Eight Million Dollars ($28,000,000.00) (the "PURCHASE PRICE") payable
as follows:
(a) A down payment of Five Million Six Hundred Thousand Dollars
($5,600,000.00) (the "DOWNPAYMENT") shall be payable to Seller on October 23,
1998, in the form of (i) payment in full by Buyer on behalf of Seller of that
certain Secured Promissory Note dated September 4, 1998, payable to Venture
Capital Sourcing, S.A. in the principal amount of Three Million Two Hundred
Thousand Dollars ($3,200,000.00) (the "VENTURE NOTE") together with interest
in the amount of Seventy-Eight Thousand Nine Hundred Four Dollars
($78,904.00), and (ii) payment by Buyer to Seller by wire transfer of the
balance. Contemporaneously with the payment of the Downpayment, Seller shall
execute a new Secured Promissory Note to Buyer covering the amount of the
Downpayment (the "NOTE"). The Note shall be on the terms and conditions more
fully set forth in Section 2.5 of this Agreement. The form of the Note is
attached hereto as EXHIBIT D.
(b) Seven Million Six Hundred Thousand Dollars ($7,600,000)
payable to Seller by wire transfer on the First Closing Date. subject to
adjustment as provided in Section 2.3 below.
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<PAGE>
(c) Fourteen Million Eight Hundred Thousand Dollars
($14,800,000) payable to Seller by wire transfer on the Second Closing Date,
subject to adjustment as provided in Section 2.3 below.
2.2 ALLOCATED VALUES. The Assets have been divided into three
project areas known as the Gillette North Project, the Border Project, and
the Sheridan Project, all as more fully described on EXHIBIT E-1. For
purposes of title approval and any resulting adjustment to the Purchase
Price, the Parties agree that the Purchase Price shall be allocated as
follows:
<TABLE>
<S> <C> <C>
Gillette North Project *** ***
Border Project *** ***
Sheridan Project *** ***
</TABLE>
which amounts per net mineral acre shall be referred to herein as the
"ALLOCATED VALUE" for each net mineral acre in a Project. The Allocated
Values set forth above are for the limited purposes set forth in this
Agreement and the Parties acknowledge that the Allocated Values times the
number of net mineral acres in each Project may not total the Purchase Price
set forth herein.
2.3 ADJUSTMENTS TO THE PURCHASE PRICE. The Purchase Price shall
be adjusted as follows:
(a) downward by an amount equal to the Allocated Value of Assets
excluded at the Second Closing as more fully provided in Section 4.4,
(b) downward by an amount equal to the sum of all Title Defects
adjustments made at the Second Closing as provided in Section 4.4, and
(c) upward by any Purchase Price adjustment required under
Section 4.5.
All Purchase Price adjustments shall be made at the Second Closing pursuant
to a "Preliminary Settlement Statement" and shall be subject to final
adjustment after the Second Closing pursuant to the "Final Settlement
Statement." Buyer and Seller shall mutually agree on the Preliminary
Settlement Statement three business days prior to the Second Closing, with
any disagreements to be handled in the Final Settlement Statement and, if
necessary, pursuant to the dispute resolution mechanism set forth in Section
4.7.
2.4 EXCESS NET MINERAL ACRES. It is the intent of the Parties
that Buyer acquire an undivided fifty percent (50%) of Seller's right, title
and interest in the Assets as of the First and Second Closing Dates. It is
estimated by Seller that the total net mineral acres it owns or will own as
of the First and Second Closing dates in Campbell, Sheridan and Johnson
Counties, Wyoming, and in Big Horn, Rosebud and Powder River Counties,
Wyoming, exclusive of the Excluded Lands, will be 492,000 net mineral acres.
In the event that the total of Seller's right, title and interest in the
Assets as of the First and Second Closing Dates is greater than 492,000 net
mineral acres (the
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<PAGE>
"EXCESS NET MINERAL ACRES"), determined as provided in Section 4.4, then, in
addition to the Purchase Price, Buyer shall pay Seller on the Second Closing
Date by wire transfer an amount equal to fifty percent (50%) of the actual
third-party costs of acquisition of the Leases contributing such Excess Net
Mineral Acres including, but not limited to, the lease bonus paid and any
broker costs attributable to such acquisition provided, however, that Buyer
shall have the right, but not the obligation, to acquire Leases containing
Excess Net Mineral Acres (i) for which the third-party costs of acquisition
exceed the Allocated Values for the Project in which such Acres are located,
and (ii) at such time that the third-party costs of acquisition payable under
this Section 2.4 exceed Five Hundred Thousand Dollars ($500,000.00) and Buyer
shall only be obligated to pay for such Leases if and to the extent Buyer
exercises such right. For purposes of this provision, the last Leases
covering the Assets which were acquired by Seller and which are not rejected
by Buyer for Title Defects (as provided in Section 4.4) or substituted by
Seller for Leases with Title Defects (as provided in Section 4.4) shall be
deemed to be the Leases which contributed such Excess Net Mineral Acres.
2.5 PROVISIONS RELATING TO DOWNPAYMENT. The following
provisions shall govern and control the payment and repayment of the
Downpayment described in Section 2.1(a):
(a) Conditions Precedent. The obligation of Buyer to pay the
Downpayment on October 23, 1998, is subject to the following conditions
precedent:
(i) Seller shall have executed and delivered a secured promissory
note in the principal amount of $5,600,000 payable to the order of Buyer,
in the form of EXHIBIT D-1 hereto (the "NOTE"), together with a mortgage
instrument covering all of Seller's right, title and interest in the Assets
in the form of EXHIBIT D-2 hereto (the "MORTGAGE") and such other documents
and instruments including, without limitation, financing statements, as may
be required by Buyer, and in form acceptable to Buyer, to evidence Buyer's
first lien on and security interest in such collateral (collectively with
the Mortgage, the "SECURITY DOCUMENTS");
(ii) Seller shall have delivered to Buyer the Venture Note, marked
cancelled, and all predecessor notes thereto, marked cancelled, and
releases or terminations of a liens and security interests obtained by the
payee/holder of the Venture Note and such predecessor notes, all in form
acceptable to Buyer, and Buyer shall have otherwise determined, to Buyer's
satisfaction, that Buyer's lien on and security interest in the collateral
covered by the Security Documents shall be a first and prior lien and
security interest, subject only to Permitted Encumbrances (as defined in
Article 4 of this Agreement);
(b) Repayment of Note. The Note shall be due and payable on the
later of January 15, 1999, or the Second Closing Date if the Second Closing
Date is extended by mutual agreement of the Parties; provided, however, that
the Note shall be cancelled and delivered to Seller together with a
recordable Release of the Mortgage if (i) both Closings occur, (ii) Buyer
wrongfully fails to tender performance as provided in Article 10.2, or (iii)
Seller's conditions to Closing set forth
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<PAGE>
in Section 9.1(a) are not satisfied. Overdue principal, whether caused by
acceleration of maturity or otherwise, shall bear simple interest from the
date of default until the date of payment at the Prime Rate established from
time to time by Chase Manhattan Bank (the "DEFAULT RATE") and shall be
payable on demand.
(b) The Note shall be a non-negotiable Note and shall be deposited
in escrow together with a properly executed and recordable Release of the
Security Documents (the "RELEASE"). The escrow instructions are attached
hereto as EXHIBIT M.
(d) Events of Default. Each of the following shall constitute
an "EVENT OF DEFAULT" under the Note:
(i) Seller shall fail to pay the Note when it becomes due and
payable;
(ii) Any representation made by Seller in any of the Security
Documents or in Article 5 of this Agreement shall be false, incorrect or
misleading in any material respect;
(iii) Seller shall fail to observe, perform or comply with any
agreement or covenant of Seller contained in any of the Security Documents;
(iv) Seller shall suffer against it the entry of a judgment, decree
or order for relief by a court of competent jurisdiction in any involuntary
proceeding commenced under any applicable bankruptcy, insolvency or other
similar law of any jurisdiction now or hereafter in effect or has any
proceeding commenced against it which remains undismissed for a period of
60 days;
(v) Seller shall commence a voluntary case under any applicable
bankruptcy, insolvency or similar law now or hereafter in effect; shall
apply for or consent to the entry of an order for relief in an involuntary
case under any such law; shall make a general assignment for the benefit of
creditors; shall fail generally to pay (or admits in writing its inability
to pay) its debts as such debts become due; or shall take corporate or
other action to authorize any of the foregoing; or
(vi) Seller shall suffer the appointment of or taking possession by
a receiver, liquidator, assignee, custodian, trustee, sequestrator or
similar official of all or a substantial part of its assets or of all or
any part of the collateral under the Security Documents in a proceeding
brought against or initiated by it, and such appointment or taking
possession is neither made ineffective nor discharged within sixty days
after the making thereof, or such appointment or taking possession is at
any time consented to, requested by, or acquiesced to by it.
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<PAGE>
ARTICLE 3
DUE DILIGENCE INSPECTION
3.1 ACCESS TO RECORDS. Prior to Closing and subject to the
confidentiality provisions of Section 7.2, Seller will disclose and make
available to Buyer and its representatives at Seller's offices or, if
applicable, the offices of Trinity Petroleum, during normal business hours,
all RECORDS in Seller's possession or that of Trinity Petroleum relating to
the Assets for the purpose of permitting Buyer to perform its due diligence
review.
3.2 NO REPRESENTATION OR WARRANTY. The Records are files or
copies thereof that Seller has used or generated in its normal course of
business. SELLER MAKES NO WARRANTY OR REPRESENTATION OF ANY KIND AS TO THE
RECORDS, INCLUDING ANY REPRESENTATION OR WARRANTY AS TO THE ACCURACY AND
COMPLETENESS OF THE RECORDS OTHER THAN THAT SELLER HAS MADE AVAILABLE TO
BUYER ALL OF THE RECORDS REQUIRED TO BE MADE AVAILABLE PURSUANT TO SECTION
3.1. Buyer agrees that any conclusions drawn therefrom shall be the result of
its own independent review and judgment.
ARTICLE 4
TITLE MATTERS
4.1 MERCHANTABLE TITLE. The term "MERCHANTABLE TITLE" means such
title of Seller in and to the Assets, as reflected in the real property
records of the counties where the Assets are located as of the Closing Date,
that, subject to and except for the Permitted Encumbrances: (i) *** (the
"NRI") and (ii) is free and clear of all other defects or encumbrances that
would create a material impairment of use and enjoyment of or loss of
interest in the affected Asset. The term "net revenue interest" means the
difference between Seller's working interest in a Lease and the sum of the
royalties, overriding royalties and other non-cost-bearing burdens which
burden Seller's working interest in such Lease. In the event Seller does not
own 100% of the leasehold estate under a Lease, Seller's net revenue interest
in such Lease shall be adjusted proportionately to an 8/8ths basis for
purposes of the calculation of Merchantable Title and for purposes of
determining Seller's actual net revenue interest for purposes of the
adjustments In Section 4.4(c)(iii)(1) and Section 4.5. The determination of
whether (i) above is met shall be made as provided in Section 4.4.
4.2 PERMITTED ENCUMBRANCES. The term "Permitted Encumbrances"
shall mean:
(a) lessors' royalties, overriding royalties and similar burdens
(exclusive of any reserved by Seller or assigned by Seller to its employees
or affiliates);
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<PAGE>
(b) any required third-party consents to assignment of contracts
and similar agreements, which are handled exclusively under Section 4.8 below;
(c) liens for taxes or assessments not yet due or not yet
delinquent;
(d) all rights to consent by, required notices to, filings with,
or other actions by federal, state or local governmental entities in
connection with the sale or conveyance of the Assets if the same are
customarily obtained subsequent to such sale or conveyance;
(e) rights of reassignment, to the extent any exist as of the
date of this Agreement, upon the surrender or expiration of any lease,
(f) easements, rights-of-way, servitudes, permits, surface
leases and other rights with respect to surface operations, on, over or in
respect of any of the properties or any restriction on access thereto and
that do not materially interfere with the operation of the affected property;
(g) subject to Section 4.3(h), rights reserved to or vested in
any governmental authority to control or regulate any of the Assets in any
manner; and all applicable laws, rules, regulations and orders of general
applicability in the area;
(h) subject to Section 4.3(h), liens arising under operating
agreements, unitization and pooling agreements and production sales contracts
securing amounts not yet due, and
(i) the Note described in Section 2.1(a) above.
4.3 TITLE DEFECT. The term "TITLE DEFECT" includes, but is not
limited to:
(a) Any material encumbrance, encroachment, irregularity, defect
in or objection to real property title, excluding Permitted Encumbrances,
that alone or in combination with other defects, renders title to an Asset
less than Merchantable Title under:
(i) Section 4.1(i) which pertains to a minimum NRI in the Assets,
or
(ii) Section 4.1(ii) which pertains to defects or encumbrances that
create a material impairment of use and enjoyment of or loss of interest in
the affected Assets.
(b) An ownership interest by Seller in the Assets of less than
492,000 net mineral acres,
(c) An ownership interest by Seller in a Project of less than
the applicable net mineral acres set forth below:
-8-
<PAGE>
<TABLE>
<S> <C>
Gillette North Project ***
Border Project ***
Sheridan Project ***
</TABLE>
(d) Express lease terms which require development of coal bed
methane gas on less than a 160-acre per well density pattern except for the
Spotted Horse Area in the Gillette North Project Area (as more fully
identified on EXHIBIT E-1) where the lease terms require wells to be drilled
on 80-acre density or less;
(e) Leases with primary terms remaining of fewer than two (2)
years from the First Closing Date in the Gillette North Project Area except
as otherwise identified on EXHIBIT E-2;
(f) Leases with primary terms remaining of fewer than three (3)
years remaining from the First Closing Date in the Border and Sheridan
Project Areas except as otherwise identified on EXHIBIT E-2.
(g) Surface use restrictions in any Lease that would be
unacceptable to a prudent operator undertaking a coal bed methane project of
the magnitude contemplated by the Parties and with the associated investment;
and
(h) Any regulatory matter which reasonably renders impossible
development of coal bed methane on a density pattern of 160-acres per well or
which would otherwise render the contemplated development uneconomic to a
prudent operator; provided, however, that the holding in the court case of
SOUTHERN UTE INDIAN TRIBE V. AMOCO PRODUCTION COMPANY, ET AL., shall not be
considered a Title Defect nor be considered to render title not Merchantable
Title (except as to Excess Net Mineral Acres) as long as such defect does not
affect more than the thirty-eight percent (38%) of the total net mineral
acres included in the Assets; provided further, however, that the holding
shall not be considered a Title Defect as to a Project so long as such defect
does not affect more than 60% of the Gillette North Project, 65% of the
Sheridan Project, or 20% of the Border Project, as applicable,
(i) Rights of third parties which could interfere with
operations for the exploration, development and production of coal bed
methane within a time that would be acceptable to a prudent operator
undertaking a coal bed methane project of the magnitude contemplated by the
Parties and with the associated investment.
(j) Tax partnership agreements or other agreements requiring
payment of costs on a basis disproportionate with the working interest to be
acquired by Buyer.
(k) Sales contracts or calls on production or options to
purchase production or similar rights with respect to the Assets or the
production therefrom.
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<PAGE>
(l) Gathering, compression, treating or transportation
agreements with respect to the Assets or to the production therefrom.
4.4 ADJUSTMENTS FOR TITLE DEFECTS.
(a) NOTICE OR DETERMINATION OF TITLE DEFECTS.
(i) As to the Title Defects described in subparagraphs (d) through
(1) of Section 4.3 and as to Title Defects described in Section 4.3(a)(ii),
Buyer shall deliver to Seller one or more written "Notices of Title
Defects" as soon as possible but no later than December 1, 1998, covering
in the aggregate all of the Assets. As a condition precedent to the
effectiveness of such notices, a Notice of Title Defects shall describe (1)
the Title Defect, (2) the basis for the Title Defect, and (3) Buyer's good
faith estimate of the value of such Defect, determined as provided in
subsection (c) below ("DEFECT VALUE") and associated calculations. Such
Defect Values may not exceed the Allocated Value of the portion of the
Assets as to which the Title Defect is claimed.
(ii) As soon as reasonably practicable after the provisions of
Section 4.4(c)(i), (ii) and (iii)(3) have been applied as to the Title
Defects of which Seller was given notice under subparagraph (i) above,
Buyer shall determine whether any Title Defects exist under subparagraphs
(b) and (c) of Section 4.3 which pertain to minimum net mineral acres in
the Assets and in each Project Area, respectively, and shall promptly give
Seller notice of any such Title Defects and the value of such Title
Defects, calculated as provided in Section 4.4(c)(iii)(2).
(iii) As soon as reasonably practicable after the determination
under (ii) above, Buyer shall determine whether any Title Defects exist
under subparagraph (a) of Section 4.3 and shall promptly give Seller notice
of any such Title Defects and the value of such Title Defect, calculated as
provided in Section 4.4(c)(iii)(1). For purposes of that determination,
only 492,000 net mineral acres or the actual net mineral acres in the
Assets, whichever is less, shall be considered. For purposes of making the
determination under subparagraph (a) of Section 4.3. The first Leases
covering the Assets which were acquired by Seller and which have not been
rejected by Buyer pursuant to Section 4.4(c)(iii)(3), up to a total under
such Leases of 492,000 net mineral acres, shall be the Leases used in the
calculation of the NRI under Section 4.3(a). The calculation of Excess Net
Mineral Acres under Section 2.4 shall be based upon the Leases or portion
thereof not included in the calculation of the NRI under Section 4.3(a).
In the event Buyer is unable to make its determinations under (ii) and (iii)
above until after the Second Closing Date, any adjustments required under
Sections 4.4(c)(iii)(1) and (2) and 4.5 shall be made in the Final Settlement
Statement.
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<PAGE>
(b) DEFECT CAP. In the event Buyer has timely notified Seller
as set forth in subsection (a)(i) above of any Title Defects with respect to
the Assets and the value of all Title Defects of which Buyer has notified
Seller pursuant to Section 4.4(a) exceeds twenty percent (20%) of the
Purchase Price, either party shall have the option of terminating this
Agreement without liability to the other party.
(c) DEFECT ADJUSTMENTS. The Parties shall proceed as follows:
(i) Seller shall have the option of attempting to cure such Title
Defects to the satisfaction of Buyer on or before the Second Closing Date,
which option shall be communicated to Buyer no later than December 11,
1998, as to the Title Defects Notices received by Seller on or before
December 1, 1998, and no later than ten days after Seller's receipt of the
Title Defects Notices under Section 4.3(a)(i) and (ii).
(ii) By mutual consent of the Parties, Seller shall have the option
of attempting to cure such Title Defects to the satisfaction of Buyer after
the Second Closing Date provided, however, that the Purchase Price
attributable to such Title Defects shall be placed in escrow at the Second
Closing pending such cure;
(iii) If Seller does not elect to cure or is unable to cure such
Title Defects to the satisfaction of Buyer on or before the Second Closing
Date or such later date as is mutually agreed to by the Parties:
(1) As to Title Defects which affect Seller's NRI in the
Assets, the Purchase Price payable on the Second Closing Date
(or as of Final Settlement, if applicable) shall be reduced by
an amount equal to ***.
(2) As to a Title Defect which involves total net mineral
acres below 492,000 or net mineral acres for a particular
Project below the applicable amount set forth in Section
4.3(c), the Purchase Price shall be adjusted downward by an
amount equal to 50% of the deficiency times the applicable
Allocated Value for such net mineral acres,
(3) As to all other Title Defects, Buyer shall have the
option to either accept assignment of the Lease(s) affected by
such Title Defects or to exclude such Leases from this
Agreement (the "EXCLUDED LEASES"). If Buyer elects to exclude
such Leases, the Purchase Price shall be adjusted downward by
an amount equal to the value of such Excluded Leases,
determined by multiplying 50% of the number of net mineral
acres in such Leases times the Allocated Value applicable to
such Leases.
With respect to any potential Purchase Price adjustments under subsections (1)
and (3) above, if and to the extent Seller has Excess Net Mineral Acres (for
which no Title Defects have been asserted b
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<PAGE>
Buyer or which have been accepted by Buyer under Section 4.4(c)(iii)(3)
notwithstanding Title Defects), Seller may substitute the Leases covering
such Excess Net Mineral Acres in order to cure a Title Defect and, to the
extent of such substitution, the net Mineral acres in such Leases shall no
longer be included in the calculation of Excess Net Mineral Acres.
4.5 ADJUSTMENTS FOR EXCESS NRL. In the event Seller is entitled
to receive more than *** from the Assets, the Purchase Price shall be
adjusted upward at the Second Closing by an amount equal to Seller's actual
net revenue interest in the Assets (weighted on an acreage basis and adjusted
as provided in Section 4.1) ***.
4.6 CASUALTY LOSS. Prior to Closing, if a portion of the Assets
is taken or threatened to be taken in condemnation or under the right of
eminent domain ("CASUALTY LOSS"), Buyer shall not be obligated to purchase
such Asset. If Buyer declines to purchase such Asset, the Purchase Price
shall be reduced by the Allocated Value of such Asset.
4.7 DISPUTE RESOLUTION. The parties agree to resolve disputes
concerning the following matters pursuant to this Section 4.7: (i) the
Allocated Value of a Title Defect, (ii) the existence of a Title Defect, or
(iii) the adequacy of Title Defect curative materials submitted pursuant to
Section 4.4 (collectively, the "DISPUTED MATTERS"). The parties agree to
attempt to initially resolve all disputes through good-faith negotiations.
If the parties cannot resolve such disputes on or before one day prior to
Closing, the Disputed Matters shall be finally determined by a partner in the
Denver office of the accounting firm of Coopers & Waterhouse designated by
the firm or a partner in another "big five" accounting firm selected by
mutual agreement of the parties (the "ACCOUNTING FIRM"), taking into account
the factors set forth in this Agreement and employing such independent
attorneys and petroleum engineers as such firm deems necessary or as
reasonably requested by the parties. On or before 30 days after Closing,
Buyer and Seller shall present their respective positions in writing to the
Accounting Firm, together with such evidence as each party deems appropriate.
The Accounting Firm shall be instructed to resolve the dispute through a
final decision within 30 days after submission of Buyer's and Seller's
positions to the Accounting Firm. The costs incurred in employing the
Accounting Firm shall be borne equally by the Seller and Buyer. After the
Accounting Firm makes a determination as to all disputes, the Accounting Firm
shall instruct the appropriate party to pay the other party the appropriate
funds.
4.8 CONSENTS.
(a) PRE-CLOSING. Seller shall use commercially reasonable
efforts to obtain all required consents prior to Closing. The form and
content of all of Seller's solicitations for consents affecting Assets shall
be subject to Buyer's approval. If Buyer discovers other affected properties
during the course of Buyer's due diligence activities, Buyer shall notify
Seller immediately and Seller shall use its commercially reasonable efforts
to obtain such consents prior to Closing.
(b) POST-CLOSING. Except for consents and approvals which are
customarily obtained post-Closing and those consents which would not
invalidate the conveyance of the Assets,
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if a necessary consent to assign any Lease has not been obtained as of the
applicable Closing Date, then (i) the portion of the Assets for which such
consent has not been obtained shall be excluded from the Assets at the
Closing, (ii) the Value for that Asset (whether a first or second Closing
Asset) shall be escrowed at the Second Closing Date if such consent has not
been obtained by the Second Closing Date, (iii) Seller shall use its
reasonable efforts to obtain such consent as promptly as possible following
Closing and shall, upon receipt of such consent, assign such Asset to Buyer,
and (iv) if such consent has not been obtained as of the Final Settlement
Date, the Allocated Value of the Asset shall be a downward adjustment to the
value of the affected Seller's Assets on the Final Settlement Statement.
Buyer shall reasonably cooperate with Seller in obtaining any required
consent including providing assurances of reasonable financial conditions,
but Buyer shall not be required to expend funds or make any other type of
financial commitments a condition of obtaining such consent.
(c) EXCLUSIVE REMEDY. The remedy set forth in this Section 4.8
is the exclusive remedy under this Agreement for required consents to assign
the Assets that are not obtained (other than the consents described in
Section 4.2(d).
ARTICLE 5
SELLER'S REPRESENTATIONS AND WARRANTIES
Seller makes the following representations and warranties:
5.1 ORGANIZATION AND STANDING. Seller is a corporation duly
organized, validly existing and in good standing under the laws of the State
of Nevada and, as of the date of the First Closing, will be duly qualified to
carry on its business in the states of Wyoming and Montana.
5.2 POWER. Seller has all requisite power and authority to carry
on its businesses as presently conducted and to enter into this Agreement and
convey the Assets. The execution and delivery of this Agreement,
consummation of the transactions contemplated hereby, and the fulfillment of
and compliance with the terms and conditions hereof will not violate, or be
in conflict with, any provision of Sellers articles of incorporation or
bylaws or any material provision of any agreement or instrument to which
Seller is a party or by which Seller is bound, or, to its knowledge, any
judgment, decree, order, statute, rule or regulation applicable to it.
5.3 AUTHORIZATION AND ENFORCEABILITY. The execution, delivery
and performance of this Agreement and the transactions contemplated hereby
have been duly and validly authorized by all requisite corporate action on
Seller's part. This Agreement constitutes Seller's legal, valid and binding
obligation, enforceable in accordance with its terms, subject, however, to
the effects of bankruptcy, insolvency, reorganization, moratorium and similar
laws for the protection of creditors, as well as to general principles of
equity, regardless whether such enforceability is considered in a proceeding
in equity or at law.
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5.4 LIABILITY FOR BROKERS' FEES. Seller has not incurred any
liability, contingent or otherwise, for brokers' or finders' fees relating to
the transactions contemplated by this Agreement for which Buyer shall have
any responsibility whatsoever.
5.5 NO BANKRUPTCY. There are no bankruptcy proceedings pending,
being contemplated by, or to the knowledge of Seller, based upon reasonable
inquiry and investigation, threatened against Seller.
5.6 LITIGATION. Seller has not received written notice of any
pending proceeding, "Notice of Violation," action, suit, claim or
investigation before any federal, state or other governmental court, agency
or other instrumentality involving the Assets. There is no action, suit,
proceeding, claim or investigation by any person, entity, administrative
agency or governmental body pending or, to the best of Seller's knowledge,
threatened, against Seller before any governmental authority that impedes or
is likely to impede Seller's ability to consummate the transactions
contemplated by this Agreement and to assume the liabilities to be assumed by
Seller under this Agreement.
5.7 TAXES. All taxes and assessments pertaining to the Assets
based on or measured by the ownership of property for all taxable periods
prior to the taxable period in which this Agreement is executed have been
properly paid. All income taxes and obligations relating thereto that could
result in a lien or other claim against any of the Assets have been properly
paid, unless contested in good-faith by appropriate proceeding.
5.8 TAX PARTNERSHIPS. To the best of Seller's knowledge, the
Assets are not subject to any tax partnership agreements requiring a
partnership income tax return to be filed under Subchapter K of Chapter 1 of
Subtitle A of the Code.
5.9 PREPAYMENTS. To the best of Seller's knowledge, there are no
agreements involving any prepayments for production or any agreements
containing a "take or pay" clause or other provision requiring the delivery
of oil, gas or other minerals produced from or allocated to any of the Assets
at some future time without receiving full payment therefor at the time of
delivery.
5.10 HYDROCARBON SALES CONTRACTS. To the best of Seller's
knowledge, there are no sales contracts or calls on production or options to
purchase production or similar rights with respect to the Assets or to the
production therefrom.
5.11 PREFERENTIAL RIGHTS TO PURCHASE. To the best of Seller's
knowledge, there are no preferential rights to purchase the Assets.
5.12 LEASES. For the period of Seller's ownership, to the best
of Seller's knowledge, all royalty, rentals and other payments under the
Leases have been properly and timely paid, and the Leases are all valid and
subsisting and in full force and effect.
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5.13 COMPLIANCE WITH LAWS. Seller has operated the Assets during
the period of Seller's ownership in compliance with all applicable Laws.
Seller has not received any written notices of any material violations of any
Laws and is not aware of any such notices received by Seller's predecessors
in interest.
5.14 AGREEMENTS. To the best of Seller's knowledge, all of the
material Agreements (excluding Leases) pertaining to the Assets are listed on
Exhibit B.
5.15 ENVIRONMENTAL. To the best of Seller's knowledge, during
the period of Seller's ownership of the Assets, Seller has been in compliance
with all applicable environmental laws, rules or regulations.
5.16 RECORDS. To the best of Seller's knowledge, Seller has made
available to Buyer all Records required to be made available pursuant to
Section 3.1.
ARTICLE 6
BUYER'S REPRESENTATIONS AND WARRANTIES
Buyer makes the following representations and warranties:
6.1 ORGANIZATION AND STANDING. Buyer is a corporation duly
organized, validly existing and in good standing under the laws of the State
of Michigan and, as of the date of the First Closing, will be duly qualified
to carry on its business in the states of Wyoming and Montana.
6.2 POWER. Buyer has all requisite corporate power and authority
to carry on its business as presently conducted and to enter into this
Agreement. The execution and delivery of this Agreement, consummation of the
transactions contemplated hereby, and the fulfillment of and compliance with
the terms and conditions hereof will not violate, or be in conflict with, any
provision of Buyer's articles of incorporation or bylaws or any material
provision of any agreement or instrument to which Buyer is a party or by
which Buyer is bound, or, to its knowledge, any judgment, decree, order,
statute, rule or regulation applicable to it.
6.3 AUTHORIZATION AND ENFORCEABILITY. The execution, delivery
and performance of this Agreement and the transactions contemplated hereby
have been duly and validly authorized by all requisite corporate action on
Buyer's part. This Agreement constitutes Buyer's legal, valid and binding
obligation, enforceable 'in accordance with its terms, subject, however, to
the effects of bankruptcy, insolvency, reorganization, moratorium and similar
laws for the protection of creditors, as well as to general principles of
equity, regardless whether such enforceability is considered in a proceeding
in equity or at law.
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6.4 LIABILITY FOR BROKERS' FEES. Buyer has not incurred any
liability, contingent or otherwise, for brokers' or finders' fees relating to
the transactions contemplated by this Agreement for which Seller shall have
any responsibility whatsoever.
6.5 NO BANKRUPTCY. There are no bankruptcy proceedings pending,
being contemplated by, or to the knowledge of Buyer, based upon reasonable
inquiry and investigation, threatened against Buyer.
6.6 INDEPENDENT EVALUATION. Buyer is experienced and
knowledgeable in the oil and gas business and is aware of its risks. Buyer
has been afforded the opportunity to examine materials made available to it
by Seller. EXCEPT AS SET FORTH IN ARTICLE 5 OF THIS AGREEMENT, BUYER
ACKNOWLEDGES AND AGREES THAT SELLER HAS MADE NO REPRESENTATIONS OR
WARRANTIES, EXPRESS OR IMPLIED, WRITTEN OR ORAL, AS TO THE ACCURACY OR
COMPLETENESS OF THE INFORMATION RELATING TO THE ASSETS FURNISHED BY OR ON
BEHALF OF SELLER OR TO BE FURNISHED TO BUYER OR ITS REPRESENTATIVES.
ARTICLE 7
COVENANTS AND AGREEMENTS
7.1 GOVERNMENT REVIEWS AND FILINGS. Before and after the
Closing, Buyer and Seller shall cooperate to provide requested information,
make required filings with, prepare applications to and conduct negotiations
with each governmental agency as required to consummate the transaction
contemplated hereby. Each party shall make any governmental filings
occasioned by its ownership or structure. Buyer shall make all filings after
the Closing at its expense with governmental agencies necessary to transfer
title to the Assets or to comply with laws. Notwithstanding the fact that
there will be a period of time after each Closing during which Seller will
continue to hold title to the Assets conveyed to Buyer pending receipt of any
necessary governmental approvals of the transfer, Buyer's indemnification
obligation under Section 13.1 shall apply as to such Assets.
7.2 DATA AND INFORMATION.
(a) CONFIDENTIALITY. All data and information obtained from
Seller in connection with the transactions contemplated by this Agreement
whether before or after the execution of this Agreement, and data
computations generated by Buyer from Sellers data and information
(collectively the "Information") is deemed by the parties to be confidential
and proprietary to Seller. Until completion of the Closing except as
required by law, Buyer and its officers, agents and representatives will hold
in strict confidence the terms of this Agreement and all Information, except
any Information which: (i) at the time of disclosure to Buyer by Seller is in
the public domain; (ii) after disclosure to Buyer by Seller becomes part of
the public domain by publication or otherwise, except by breach of this
commitment by Buyer; (iii) Buyer can establish by competent
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proof was rightfully in its possession at the time of disclosure to Buyer by
Seller; (iv) Buyer rightfully receives from third parties free of any
obligation of confidence; (v) is disclosed to Buyer's consultants, investors
and lenders who similarly agree to protect the confidentiality of such
Information and agree to use such Information only for their due diligence
evaluation of the Assets; or (vi) is developed independently by Buyer,
provided that the person or persons developing the Information shall not have
had access to the Information.
(b) RETURN OF INFORMATION. If the transactions contemplated by
this Agreement do not close on or before the Second Closing Date, Buyer shall
(i) return to Seller all copies of the Information generated by Buyer in the
possession of Buyer obtained pursuant to any provision of this Agreement.
ARTICLE 8
TAX MATTERS
8.1 APPOINTMENT OF TAX LIABILITY. "Taxes" shall mean all
property taxes and similar obligations assessed against the Assets or based
upon or measured by the ownership of the Assets, other than income taxes.
With respect to the Assets, Seller shall remain liable for all Taxes
attributable to the period prior to the Effective Time and Seller and Buyer
shall be liable for their pro rata share of all Taxes attributable to the
period from and after the Effective Time.
8.2 CALCULATION OF TAX LIABILITY. If any Taxes relating to the
ownership of the Assets are incurred by Seller or Buyer for a tax period
which commences prior to the Effective Time, then the respective parties'
liability, if any, for such Taxes for both the period prior to the Effective
Time and the period subsequent to the Effective Time shall be determined by
prorating such Taxes to Seller in the ratio that the number of days in the
taxable period or assessment period, as appropriate, before the Effective
Time bears to the total number of days in the taxable period or assessment
period, as appropriate, and to Buyer in the ratio that the number of days in
the taxable period or assessment period, as appropriate, after the Effective
Time bears to the total number of days in the taxable period or assessment
period, as appropriate. Based on the best current information available as of
Closing, the proration shall be made between the parties as an adjustment to
the Purchase Price pursuant to Section 2.3 and thereafter from time to time
as the parties agree.
8.3 TAX REPORTS AND RETURNS. For the tax period in which the
Effective Time occurs, Seller agrees to immediately forward to Buyer any such
tax reports and returns received by Seller after Closing and provide Buyer
with appropriate information which is necessary for Buyer to file any
required tax reports and returns related to the Assets. Buyer agrees to file
all tax returns and reports applicable to the Assets that Buyer is required
to file after the Closing (pursuant to the Development Agreements), and pay
all required Taxes payable with respect to the Assets subject to the
provisions of Section 8.1.
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ARTICLE 9
CONDITIONS TO CLOSING
9.1 SELLER'S CONDITIONS. The obligations of Seller at Closing
are subject, at the option of Seller, to the satisfaction at or prior to the
Closing of the following conditions precedent:
(a) All representations and warranties of Buyer contained in
Article 6 of this Agreement shall be true in all material respects at and as
of the Closing in accordance with their terms as if such representations and
warranties were remade at and as of the Closing, and Buyer shall have
performed and satisfied all covenants and agreements required by this
Agreement to be performed and satisfied by Buyer, at or prior to the Closing
in all material respects;
(b) No order shall have been entered by any court or
governmental agency having jurisdiction over the parties or the subject
matter of this Agreement that restrains or prohibits the purchase and sale
contemplated by this Agreement and which remains in effect at the time of
Closing, except any order that affects or relates to only a portion of the
Assets, which portion of the Assets could be treated as subject to a Title
Defect for the purpose of reducing the Purchase Price pursuant to Section 2.3.
9.2 BUYER'S CONDITIONS. The obligations of Buyer at the Closing
are subject, at the option of Buyer, to the satisfaction at or prior to the
Closing of the following condition precedent:
(a) All representations and warranties of Seller contained in
Article 5 of this Agreement shall be true in all material respects at and as
of the Closing in accordance with their terms as if such representations and
warranties were remade at and as of the Closing and Seller shall have
performed and satisfied all covenants and agreements required by this
Agreement to be performed and satisfied by Seller at or prior to the Closing
in all material respects;
(b) No order shall have been entered by any court or
governmental agency having jurisdiction over the parties or the subject
matter of this Agreement that restrains or prohibits the purchase and sale
contemplated by this Agreement and which remains in effect at the time of
Closing, except any order that affects or relates to only a portion of the
Assets, which portion of the Assets could be treated as subject to a Title
Defect for the purpose of reducing the Purchase Price pursuant to Section 2.3.
ARTICLE 10
RIGHT OF TERMINATION AND ABANDONMENT
10.1 TERMINATION. This Agreement may be terminated in accordance
with the following provisions:
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(a) by Seller if the conditions set forth in Section 9.1 are not
satisfied, through no fault of Seller, or waived by Seller (as evidenced by
Seller Closing), as of either Closing Date;
(b) by Buyer if the conditions set forth in Section 9.2 are not
satisfied, through no fault of Buyer, or waived by Buyer (as evidenced by
Buyer Closing), as of either Closing Date; or
(c) by Seller or Buyer if, through no fault of the party
claiming termination, the Closings do not occur on or before the dates
specified in Section 1.5.
10.2 LIABILITIES UPON TERMINATION. If the transactions
contemplated by this Agreement are not consummated on or before the dates
specified in Section 1.5 by reason of one of the Party's conditions to
Closing having not been satisfied or by reason of one Party's wrongful
failure to tender performance at Closing and the other party is in compliance
with the terms of this Agreement, the rights of the parties shall be as
follows:
(a) If Buyer wrongfully fails to tender performance at either
Closing or Seller's conditions to Closing in Section 9.1(a) have not been
satisfied or waived, Seller shall be entitled to liquidated damages equal to
the amount of the Note and payment of such liquidated damages shall be
accomplished by cancellation of the Note. The Parties acknowledge that in
the event of a default by Buyer, the amount of Seller's damages would be
difficult to ascertain and that such liquidated damages are a reasonable
estimate of Seller's damages.
(b) If Seller wrongfully fails to tender performance at either
Closing or Buyer's conditions to Closing in Section 9.2(a) have not been
satisfied or waived, Buyer shall retain all legal and equitable remedies for
the Seller's breach or default under the terms of this Agreement.
ARTICLE 11
CLOSING
11.1 PLACE OF CLOSING. Each Closing shall be held at the law
offices of Davis, Graham & Stubbs LLP, 370 17th Street, Suite 4700, Denver,
Colorado at 10:00 a.m. or at such other time and place as Buyer and Seller
may agree in writing.
11.2 CLOSING OBLIGATIONS. At each Closing (except as to item (f)
which shall occur at the First Closing only), the following events shall
occur, each being a condition precedent to the others and each being deemed
to have occurred simultaneously with the others:
(a) Seller shall execute, acknowledge and deliver to Buyer an
Assignment and Conveyance of the applicable Assets to Buyer, effective as of
the Effective Time (in sufficient
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counterparts to facilitate filing and recording) and in the form of EXHIBIT F
conveying the Assets to be conveyed as such Closing with a warranty of title
by, through or under Seller and Seller's Broker, but not otherwise.
(b) Seller and Buyer shall execute and deliver the Preliminary
Settlement Statement;
(c) Buyer shall deliver to Seller or the Qualified Intermediary
described in Article 15 if so directed in writing by Seller, the Closing
Amount by wire transfer in immediately available funds, or by such other
method as may be agreed to by the parties hereto;
(d) Seller shall deliver to Buyer an opinion of counsel in form
and substance similar to EXHIBIT G and an officer's certificate from Buyer in
form and substance similar to EXHIBIT H;
(e) Buyer shall deliver to Seller an opinion of counsel in form
and substance similar to EXHIBIT I and an officer's certificate from Seller
in form and substance similar to EXHIBIT J;
(f) At the First Closing, the parties shall execute and deliver
the Interim JOA and the Escrow Agreement required in Article XVI of the
Interim JOA.
(g) The Parties shall execute joint written instructions to the
Escrow Agent identified in Section 2.5 advising the Escrow Agent that the
Closing has occurred.
ARTICLE 12
POST-CLOSING OBLIGATIONS
12.1 GOVERNMENTAL FORMS OF ASSIGNMENT. Within 30 days after each
Closing, Seller shall deliver to Buyer assignments on official forms and
related documentation necessary to transfer the Assets to Buyer in accordance
with requirements of governmental regulations.
12.2 POST-CLOSING ADJUSTMENTS. As soon as practicable after the
First and Second Closing, Buyer shall furnish Seller with all information in
Buyer's custody pertaining to the final settlement and thereafter but in no
event later than 120 days after receipt of Buyer's information, Seller shall
prepare and deliver to Buyer the final settlement statement (the "FINAL
SETTLEMENT STATEMENT") setting forth each adjustment or payment that was not
finally determined as of the First or Second Closing and showing the
calculation of such adjustment and the resulting final purchase price (the
"FINAL PURCHASE PRICE"). As soon as practicable after receipt of the Final
Settlement Statement, but in no event later than on or before 30 days after
receipt of Seller's proposed Final Settlement Statement, Buyer shall deliver
to Seller a written report containing any changes that Buyer proposes to make
to the Final Settlement Statement. Buyer's failure to deliver to Seller a
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written report detailing proposed changes to the Final Settlement Statement
by that date shall be deemed an acceptance by Buyer of the Final Settlement
Statement as submitted by Seller. The parties shall agree with respect to
the changes proposed by Buyer, if any, no later than 15 days after receipt by
Seller of Buyer's comments to the Final Settlement Statement. The date upon
which such agreement is reached or upon which the Final Purchase Price is
established for a transaction shall be herein called the "Final Settlement
Date." If (1) the Final Purchase Price is more than the Closing Amounts, Buyer
shall pay Seller the amount of such difference, or (2) the Final Purchase
Price applicable to Buyer is less than the Closing Amounts, Seller shall pay
to Buyer the amount of such difference, in either event by wire transfer in
immediately available funds or, if the amount of such difference is less than
$25,000, by cashier's check. Payment by Buyer or Seller, as the case may be,
shall be within five days of the Final Settlement Date.
(a) DISPUTE RESOLUTION. If the parties are unable to resolve a
dispute as to the Final Purchase Price by 15 days after Seller's receipt of
Buyer's comments to the proposed Final Settlement Statement, the parties
shall submit the dispute to binding arbitration pursuant to the provisions of
Section 4.7.
12.3 FURTHER ASSURANCES. From time to time after Closing, Seller
and Buyer shall each execute, acknowledge and deliver to the other such
further instruments and take such other action as may be reasonably requested
in order more effectively to assure to the other the full beneficial use and
enjoyment of the Assets and otherwise to accomplish the purposes of the
transactions contemplated by this Agreement.
ARTICLE 13
ASSUMPTION AND RETENTION OF OBLIGATIONS AND INDEMNIFICATION
13.1 ASSUMPTION OF LIABILITIES AND OBLIGATIONS. Upon each
Closing as to the Assets acquired by Buyer in such Closing, Buyer shall
assume its proportionate share of all claims, costs, expenses, liabilities,
and obligations ("OBLIGATIONS") relating to the Assets and shall, except as
otherwise provided in the Development Agreement or under any joint operating
agreements, pay, perform, fulfill and discharge its proportionate share of
such Obligations.
13.2 RETENTION OF LIABILITIES AND OBLIGATIONS. Upon Closing,
Seller retains all Obligations relating to Seller's ownership of the Assets
before the Effective Time.
13.3 INDEMNIFICATION. Each party shall indemnify, save and hold
the other party harmless from and against all Losses which arise from or in
connection with the Obligations for which the indemnifying party is obligated
pursuant to Sections 13.1 and 13.2 above. "Losses" shall mean any actual
loss, cost, expense (including reasonable fees and expenses of attorneys,
technical experts and expert witnesses), liability, damage, demands, suits,
sanctions of every kind and character (including civil fines) reasonably
incident to matters indemnified against; excluding
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however any special, consequential, punitive or exemplary damages, diminution
of value of an Asset, loss of profits incurred by a party hereto or loss
incurred as a result of the indemnified party indemnifying a third party.
13.4 RESERVATION AS TO NON-PARTIES. Nothing herein is intended
to limit or otherwise waive any recourse Buyer or Seller may have against any
non-party for any obligations or liabilities that may be incurred with
respect to the Assets.
ARTICLE 14
AREAS OF MUTUAL INTEREST
14.1 AMI. The Parties agree that there shall be an area of
mutual interest which shall consist of the lands located within the area
depicted on EXHIBIT K. Acquisition of oil and gas leasehold interests or any
unleased mineral interests or any farmouts, options or contractual rights to
acquire the same or any other contracts with respect thereto which affect
lands and minerals lying within the AMI (collectively the "INTERESTS") which
include rights to any coal bed methane gas shall be governed by the AM
provisions of Article 18. Acquisition of Interests within the AMI which cover
only rights below the Ft. Union coal formation ("Deep Rights") shall be
governed by the following provisions. ***
(a) The term of the AMI as to Deep Rights shall be for five (5)
years from the First Closing Date unless sooner terminated by the Parties.
After this period, if there exists an effective joint operating agreement or
unit agreement the acquisition of any additional Deep Rights within the AMI
shall be governed by the provisions of such agreement. If an Interest in
Deep Rights is acquired by one Party (the "ACQUIRING PARTY"), the Acquiring
Party shall offer the other Parties ("NON-ACQUIRING PARTIES") their
proportionate share (based upon Participating Interests) of such Interest
(including all obligations associated with such Interest) within 15 days of
the date of the acquisition.
(b) Such offers shall be made by written notice to the
Non-Acquiring Parties and shall detail the Interests so acquired, the actual
costs of acquisition including, but not limited to, lease bonuses and broker
costs, and all other information, terms and conditions material to the
acquisition so that the Non-Acquiring Parties may evaluate the acquisition.
(c) If a Non-Acquiring Party accepts such offer in writing
within 15 days after receipt of the Acquiring Party's offer, the ownership of
the Interests offered shall, effective as of the date of the acquisition of
such Interests by the Acquiring Party, be acquired in the proportion of the
Participating Interests of the Parties accepting the offer, adjusted to
reflect 100% ownership, and the Acquiring Party shall invoice the
Non-Acquiring Parties accepting the offer for their proportionate share of
the Interests acquired. The Non-Acquiring Parties accepting the offer shall
pay such invoices within 30 days of receipt of such invoices. If such
payment is not received in a timely manner, the Non-Acquiring Party not
timely making payment shall be deemed not to have accepted
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the Acquiring Party's offer. With respect to Interests acquired pursuant to
this Article, the Participating Interests of the Parties with respect to
Approved Projects and other Approved matters shall remain unaffected by the
Non-Acquiring Parties' election. If the value of the Interest acquired by
the Acquiring Party exceeds one million dollars, the Non-Acquiring Parties
shall have *** to accept the offer of the Acquiring Party.
(d) All assignments of any Deep Rights Interests acquired by the
Acquiring Party shall be made to the Non-Acquiring Parties accepting the
offer within 30 days of acceptance of the offer by the Non-Acquiring Parties.
Acquisitions of Deep Rights Interests which cover lands *** of which are the
AMI (based on net acres) shall be subject to this Agreement in their
entirety. If the Parties acquire those Interests, the boundaries of the AMI
shall automatically expand to include all lands covered by such Interests.
If a Party acquires Deep Rights Interests which cover lands of which less
than 75% are located inside the AMI then only those portions of that
acquisition which are located inside the AMI shall be subject to the terms of
this Agreement; the remainder shall not be subject to this Agreement. For
the purposes of this subsection c., the term "INSIDE THE AMI," shall refer to
a horizontal division, I.E., rights within the geographic boundaries of the
AMI.
ARTICLE 15
DEEP RIGHTS OPERATIONS
As to leases or other interests in the AMI which cover only Deep Rights,
the following provisions shall apply:
(a) Operations for production from formations other than coal
bed formations may be conducted by the Parties pursuant to joint operating
agreements to be negotiated between the parties. Operations to explore for,
develop and produce coal bed methane shall take priority over any other
operations within the AMI during the term of the AMI.
(b) During the term of the Deep Rights AMI, should any party
desire to sell all or any part of its interest in Deep Rights, it shall
promptly give written notice to the other party, with full information
concerning its proposed sale, which shall include the name and address of the
prospective purchaser (who must be ready willing and able to purchase), the
purchase price, and all other terms of the offer. The other party shall then
have an optional prior right, for a period of *** days after receipt of the
notice, to purchase on the same terms and conditions the interest which the
other party proposes to sell. However, there shall be no preferential right
to purchase in those cases where any party wishes to mortgage its interests,
or to dispose of its interests by merger, reorganization, consolidation, or
sale of all or substantially all of its assets to a subsidiary or parent
company or to a subsidiary of a parent company, or to any company in which
any one party owns a majority of the stock. In the event multiple parties
become subject to this Agreement and more
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than one party elects to exercise this optional right, the purchasing parties
shall share the purchased interest in the proportions that the interest of
each bears to the total interest of all purchasing parties.
ARTICLE 16
PREFERENTIAL RIGHT TO MATCH GAS PURCHASE OFFERS
During the term of the AMI, Buyer shall have the preferential right to
match the purchase price and terms and conditions of any offers to purchase
Seller's share of coal bed methane production from the AMI which Seller
desires to accept and which are for terms ***. Buyer shall have ***
following delivery of Seller's notice within which to match offers for terms
***. Seller shall be deemed to have delivered notice and Buyer shall be
charged with notice if notice is (1) delivered to Buyer's designated
representative in person, or (2) sent by facsimile transmission to Buyer's
designated representative. Such notice shall state the price and terms and
conditions of any such offers. Failure of Buyer to respond within the
specified time period shall be deemed an election not to match such offer
and, thereafter, Seller shall be free to accept such offer. If Buyer does
not exercise its preferential right to match a third party offer and,
thereafter, such offer is modified in any material respect or Seller does not
accept the third party offer ***, Seller shall resubmit such offer to Buyer
pursuant to this Article 16. This preferential right to match is personal in
nature and shall not be assignable by Buyer without the consent of Seller.
Seller hereby consents to the assignment of this preferential right to match
to an affiliate of Buyer in existence on the date of this Agreement who has
sufficient credit to satisfy commercially reasonable creditworthy standards
for purchasers of gas production in the quantities contemplated by Seller or
who can otherwise satisfy Seller as to its creditworthiness.
ARTICLE 17
***
ARTICLE 18
COAL BED METHANE OPERATIONS
18.1 AREA OF MUTUAL INTEREST PROVISION. Notwithstanding a
statement to the contrary in Section 14.1, from and after the Effective Date,
the Area of Mutual Interest provisions of Article 14 shall apply to
acquisitions of Interests which include coal bed methane gas unless and until
the Area of Mutual Interest provisions of Article 14 are superseded by the
Development Agreement. The term of the AMI as to such Interests shall be five
years from the First Closing Date.
18.2 PREFERENTIAL RIGHT TO PURCHASE. During the term of the AMI,
should any Party desire to sell all or any part of its Interest in the AMI
(other than Deep Rights Interests which are governed by Article 15), it shall
promptly give written notice to the other Party, with full
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<PAGE>
information concerning its proposed sale, which shall include the name and
address of the prospective purchaser (who must be ready, willing and able to
purchase), the purchase price, and all other terms of the offer. The other
Party shall then have an optional prior right, for a period of ten (10) days
after receipt of the notice, to elect to purchase on the same terms and
conditions the Interest which the other Party proposes to sell. However,
there shall be no preferential right to purchase in those cases where any
Party wishes to mortgage its Interests, or to dispose of its assets by
merger, reorganization, consolidation, or sale of all or any portion of its
assets to a subsidiary or parent company or to a subsidiary of a parent
company, or to any company in which any one Party owns a majority of the
stock.
18.3 DEVELOPMENT AGREEMENT. The Parties shall meet in good faith
to attempt to negotiate a Development Agreement with attached Joint Operating
Agreement (the "DEVELOPMENT AGREEMENT") for the conduct of operations on the
Leases for the exploration, development and production of coal bed methane
from the Leases. The basic form of Joint Operating Agreement shall be the
1989 AAPL Model Form of Joint Operating Agreement ("JOA"). Any such
Development Agreement shall contain the following provisions, among others:
(a) It is the intent of the Parties that each Party operate
one-half of the acreage in each Project. Accordingly, in connection with the
negotiation of the Development Agreement, the Parties shall identify
appropriately-sized acreage blocks in each Project Area and shall allocate
such blocks to each Party on an alternating pick basis or other fair and
equitable basis.
(b) The Development Agreement shall incorporate the Area of
Mutual Interest provisions set forth in Article 18.1.
(c) The Development Agreement shall the preferential right to
purchase provisions set forth in Article 18.2.
(d) During the term of the AMI, in the event (i) the Operator of
an area disposes of its interests by merger, consolidation or reorganization
to a party who is not a subsidiary or parent company or a subsidiary of a
parent company or a company in which such party owns a majority of the stock,
(ii) there is a change of control (as hereinafter defined) of the Operator,
or (iii) the Operator's Participating Interest in a particular area falls
below 25%, then the Non-Operator may, at its option, take over operations for
the affected area. (In the event there is more than one NonOperator, the
Non-Operators may elect a new Operator pursuant to Article V of this
Agreement with the existing Operator not be entitled to vote for the new
Operator.) The term "change of control" means a change in the ownership of
voting securities of the Operator of 51% or more or sufficient to elect a
majority of the members of the Board of Directors of Operator.
(e) The Parties agree that the costs of drilling, completing and
hooking up wells ("CAPITAL COSTS") on the Contract Area shall be pre-paid in
accordance with the billing and advance payment provisions set forth in the
Accounting Procedure, provided, as to acreage in the Contract Area operated
by Seller, an escrow arrangement shall be established (the "Escrow Account").
Under
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<PAGE>
such arrangement, pre-paid Capital Costs due from Operator and Non-Operators
for wells operated by Seller shall be deposited into the Escrow Account.
Both Parties shall also establish joint bank accounts (requiring the
signature of both Parties) for the deposit of Capital Costs and the payment
of such Capital Costs. As to acreage operated by Seller, finds from the
Escrow Account shall be deposited by the Escrow Agent into the joint bank
account upon the approval of both Parties. In the event either Party fails
to find its share of any Capital Costs, the other Party may send a Notice of
Default. If the default is not cured within 30 days of the receipt of such
Notice of Default, the defaulting Party, if the Operator of such operation,
shall automatically be removed as operator of such operation without the
necessity of a vote under Article V of this Agreement and, whether or not
Operator, the defaulting Party shall assign all of its interest in such
operation and the affected Leases to the other Party. As to Capital Costs,
the foregoing remedies shall be the exclusive remedies of the Parties for the
failure of a Party to fund such Capital Costs and the Non-Defaulting Party
shall not be entitled to also pursue the remedies set forth in Article VII.D
of the JOA. The Parties, will confer in good faith no less frequently than
annually to consider the ongoing need for the Escrow Account and joint bank
account arrangements, taking into account the prior performance of the
Parties in fulfilling their financial obligations, the most current financial
condition of each Party and the availability of other measures, if
appropriate, to secure the financial performance of each Party to the other.
The Parties will confer regarding the necessity of the escrow arrangement and
act in a commercially reasonable manner.
(f) The JOA shall provide that if a Party elects to go
non-consent as to any particular operation under such JOA, such Party shall
permanently forfeit its right to participate in such operation and in area in
the vicinity of such operation to be defined by the Parties in the
Development Agreement and shall reassign its interest in such area to the
other Party.
Unless and until the Parties negotiate a Development Agreement, operations in
the AMI for coal bed methane shall be governed by the Interim JOA.
ARTICLE 19
1031 EXCHANGE
Seller reserves the right; at or prior to each Closing, to assign rights
under this Agreement with respect to a portion of the Consideration, and that
portion of the Assets associated therewith ("1031 Assets"), to a Qualified
Intermediary (as that term is defined in Section 1.1031(k)-1(g)(4)(v) of the
Treasury Regulations) to accomplish part of this transaction in a manner that
will comply, either in whole or in part, with the requirements of a Like-Kind
Exchange. Pursuant to this Section and a 1031 Exchange Agreement to be
executed contemporaneously herewith, Seller shall assign its rights to the
1031 Assets under this Agreement to the Qualified Intermediary. Buyer hereby
(i) consents to Sellers assignment of its rights in this Agreement with
respect to the 1031 Assets, and (ii) if such an assignment is made, agrees to
pay a portion of the Consideration into the qualified trust account at
Closing as set forth in the 1031 Exchange Agreement. Seller and Buyer
acknowledge and agree that a partial assignment of this Agreement to a
Qualified Intermediary shall
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<PAGE>
not release either party from any of their respective liabilities and
obligations to each other or expand any such respective liabilities or
obligations under this Agreement, and that neither party represents to the
other that any particular tax treatment will be given to either party as a
result thereof Buyer shall not be obligated to pay any additional costs or
incur any additional obligations in its sale of the Assets if such costs are
the result of Seller's Like-Kind Exchange, and Seller shall indemnify and
hold the other Party harmless from and against all claims, losses and
liabilities, if any, resulting from such a Like-Kind Exchange.
ARTICLE 20
MISCELLANEOUS
20.1 EXHIBITS. Exhibits referred to in this Agreement are hereby
incorporated in this Agreement by reference and constitute a part of this
Agreement.
20.2 EXPENSES. Except as otherwise specifically provided, all
fees, costs and expenses incurred by Buyer or Seller in negotiating this
Agreement or in consummating the transactions contemplated by this Agreement
shall be paid by the party incurring the same, including, without limitation,
legal and accounting fees, costs and expenses.
20.3 NOTICES. All notices and communications required or
permitted under this Agreement shall be in writing and addressed to the
parties at the addresses set forth above. Any communication or delivery
hereunder shall be deemed to have been duly made when received by the
receiving party and may be personally delivered, sent by certified mail,
return receipt requested, overnight courier or facsimile transmission. Any
party may, by written notice so delivered to the other parties, change the
address or individual to which delivery shall thereafter be made.
20.4 AMENDMENTS. Except for waivers specifically provided for in
this Agreement, this Agreement may not be amended nor any rights hereunder
waived except by an instrument in writing signed by the party to be charged
with such amendment or waiver and delivered by such party to the party
claiming the benefit of such amendment or waiver.
20.5 ASSIGNMENT. Prior to Closing, this Agreement may not be
assigned without the express written consent of the other Party. The rights
granted under Articles 16 and 17 may not be assigned without Seller's
consent, which consent shall not be unreasonably withheld. Following
Closing, any authorized assignments affecting rights hereunder shall be made
expressly subject to the terms of this Agreement.
20.6 ANNOUNCEMENTS. Seller and Buyer agree that prior to making
any press releases and other public announcements concerning this Agreement
and the transactions contemplated thereby, the party desiring to make such
public announcement shall consult with the other party and exercise
reasonable efforts to (i) agree upon the text of a joint public announcement
to be made by both of such parties, or (ii) obtain written approval of the
other party to the text of a
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<PAGE>
public announcement to be made solely by Seller or Buyer, as the case may be.
The Parties agree that the terms (but not the fact of) the dedication in
Article 17 are sensitive and confidential and shall not be disclosed by
either Party without the consent of the other Party during the 120-day period
of time except and only to the extent such dedication is converted to a
preferential right to match, unless otherwise required by law.
20.7 HEADINGS. The headings of the Articles and Sections of this
Agreement are for guidance and convenience of reference only and shall not
limit or otherwise affect any of the terms or provisions of this Agreement.
20.8 COUNTERPARTS. This Agreement may be executed by Buyer and
Seller in any number of counterparts, each of which shall be deemed an
original instrument, but all of which together shall constitute but one and
the same instrument. Execution can be evidenced by fax signatures with
original signature pages to follow in due course.
20.9 REFERENCES. References made in this Agreement, including
use of a pronoun, shall be deemed to include where applicable, masculine,
feminine, singular or plural, individuals, partnerships or corporations. As
used in this Agreement, "person" shall mean any natural person, corporation,
partnership, court, agency, government, board, commission, trust, estate or
other entity or authority.
20.10 GOVERNING LAW. This Agreement and the transactions
contemplated hereby and any arbitration or dispute resolution conducted
pursuant hereto shall be construed in accordance with, and governed by, the
laws of the State of Colorado and the parties hereby subject themselves to
the sole and exclusive jurisdiction of the Federal or State courts of
Colorado for resolution of any dispute related to this Agreement.
20.11 ENTIRE AGREEMENT. This Agreement constitutes the entire
understanding among the parties, their respective partners, shareholders,
officers, directors and employees with respect to the subject matter hereof,
superseding all negotiations, prior discussions and prior agreements but
expressly not superseding the Development Agreement or the JOA, which shall
survive in accordance with their terms.
20.12 BINDING EFFECT. This Agreement shall be binding upon, and
shall inure to the benefit of, the parties hereto, and their respective
successors and assigns.
20.13 SURVIVAL. This Agreement shall survive the Closings.
20.14 NO THIRD-PARTY BENEFICIARIES. This Agreement is intended
only to benefit the parties hereto and their respective permitted successors
and assigns (including CMS' Affiliates to whom the rights under Articles 16
and 17 may be assigned).
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<PAGE>
20.15 SEVERABILITY. It is the intent of the parties that the
provisions contained in this Agreement shall be severable. Should any
provisions, in whole or in part, be held invalid as a matter of law, such
holding shall not affect the other portions of this Agreement, and such
portions that are not invalid shall be given effect without the invalid
portion.
20.16 RECORDING. This Agreement shall not be recorded by either
Party without the consent of the other Party.
20.17 EXECUTION IN COUNTERPARTS; FACSIMILE EXECUTION. This
Agreement may be executed in any number of counterparts, and each such
counterpart hereof shall be deemed to be an original instrument, but all such
counterparts together shall constitute for all purposes one document.
Executed counterparts of this Agreement may be delivered via facsimile
transmission, and shall be deemed delivered when received, but the originally
executed copies of such counterparts shall promptly thereafter be delivered
to the party or parties receiving such facsimile counterparts.
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<PAGE>
Executed on the dates set forth in the acknowledgments below but
effective as of the Effective Time.
Seller:
PENNACO ENERGY, INC.
By: /s/ PAUL M. RADY
-------------------------------------
Paul M. Rady
President
Buyer:
CMS OIL AND GAS COMPANY
By: /s/ W.H. STEPHENS III
-------------------------------------
W. H. Stephens III
Executive Vice President
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<PAGE>
RATIFIED AS TO ARTICLE 17 BY:
CMS Gas Transmission and Storage Company
By: /s/ WILLIAM J. HAENER
-------------------------------------
William J. Haener
President
-31-
<PAGE>
SECURED
PROMISSORY NOTE
$5,600,000.00 October 23, 1998
Denver, Colorado
FOR VALUE RECEIVED, PENNACO ENERGY, INC., a Nevada corporation
("Borrower"), promises to pay to the order of CMS OIL AND GAS COMPANY, a
Michigan corporation ("Lender"), on or before January 15, 1999 (the "Maturity
Date"), the sum of $5,600,000.00, but subject to the provisions of Section
2.5 of that certain Purchase and Sale Agreement dated October 23, 1998 (the
"Purchase Agreement") between Borrower and Lender. The Maturity Date may be
extended by mutual written agreement of the parties as provided in Section
2.5(b) of the Purchase Agreement.
This Note is secured by, and the holder of this Note is entitled to
the benefits of a security interest granted in the Mortgage, Security
Agreement, Assignment of Production and Proceeds, Financing Statement and
Fixture Filing (the "Mortgage"), given by Borrower for the benefit of Lender
on October 23, 1998 to secure this Note. Reference is made to the Mortgage
for a description of the property covered thereby and the rights, remedies
and obligations of the holder hereof in respect thereto.
This Note is the new Secured Promissory Note referred to in Section
2.1(a) of the Purchase Agreement, issued to evidence the obligation of
Borrower to repay the Downpayment described in the Purchase Agreement on the
terms and conditions set forth in the Purchase Agreement.
This Note is non-negotiable and shall not be assigned or
transferred without the written consent of Borrower.
All payments hereunder shall be made at Lender's offices at 1021
Main Street, Suite 2800, Houston, Texas 77002-6606, or at such other place as
Lender shall have designated to Borrower in writing.
This Note shall not bear interest until after the Maturity Date.
Overdue principal, whether caused by acceleration of maturity or
otherwise, shall bear simple interest at the prime rate of interest
established by The Chase Manhattan Bank from time to time as its "prime rate"
(which rate is not necessarily the lowest or best rate actually charged to
any customer) (the "Default Rate"), from the date of default, and shall be
payable on demand.
It is not intended hereby to charge interest on the overdue
principal at a rate in excess of the maximum rate of interest that Lender may
charge to Borrower under applicable usury and
<PAGE>
other laws, but if, notwithstanding such intent, the Default Rate is in
excess of such maximum rate, the Default Rate shall be adjusted to the
maximum permitted under applicable law during the period or periods that the
Default Rate otherwise provided herein would exceed such rate.
Time is of the essence hereof. In the event of (a) any default in
any payment of this Note when due and payable, or (b) any default or event of
default under the provisions of the Mortgage or Section 2.5 of the Purchase
Agreement, then the whole principal sum of this Note plus accrued interest
and all other obligations of Borrower to Holder, direct or indirect, absolute
or contingent, now existing or hereafter arising, shall, at the option of the
holder of this Note, become immediately due and payable without notice or
demand, and the holder of this Note shall have and may exercise any or all of
the rights and remedies provided herein and in the Mortgage, as they may be
amended, modified or supplemented from time to time.
If Borrower fails to pay any amount due under this Note and Lender
has to take any action to collect the amount due or to exercise its rights
under the Mortgage, including without limitation retaining attorneys for
collection of this Note, or if any suit or proceeding is brought for the
recovery of all or any part of or for protection of the indebtedness or to
enforce Lender's rights under the Mortgage, then Borrower agrees to pay on
demand all costs and expenses of any such action to collect, suit or
proceeding, or any appeal of any such suit or proceeding, incurred by Lender,
including but not limited to the fees and disbursements of Lender's attorneys
and their staff.
Borrower waives presentment, notice of dishonor, notice of
acceleration and protest, and assents to any extension of time with respect
to any payment due under this Note, to any substitution or release of
collateral and to the addition or release of any party. No waiver of any
payment or other right under this Note shall operate as a waiver of any other
payment or right.
If any provision in this Note shall be held invalid, illegal or
unenforceable in any jurisdiction, the validity, legality or enforceability
of any defective provisions shall not be in any way affected or impaired in
any other jurisdiction.
No delay or failure of the holder of this Note in the exercise of
any right or remedy provided for hereunder shall be deemed a waiver of such
right by the holder hereof, and no exercise of any right or remedy shall be
deemed a waiver of any other right or remedy that the holder may have.
At the option of the holder hereof, an action may be brought to
enforce this Note in the District Court in and for the City and County of
Denver, State of Colorado, in the United States District Court for the
District of Colorado, or any Colorado state court or other court in which
venue and jurisdiction are proper. Borrower and all signers or endorsers
hereof consent to venue and jurisdiction in the District Court in and for the
City and County of Denver, State of Colorado and in the United States
District Court for the District of Colorado, and to service of process under
any applicable rule of civil procedure, in any action commenced to enforce
this Note.
-2-
<PAGE>
This Note is to be governed by and construed according to the laws
of the State of Colorado.
PENNACO ENERGY, INC.
a Nevada corporation
By: /s/ GLEN C. WARREN, JR.
------------------------------------
Glen C. Warren, Jr.
Executive Vice President and
Chief Financial Officer
-3-
<TABLE> <S> <C>
<PAGE>
<ARTICLE> 5
<LEGEND>
THIS SCHEDULE CONTAINS SUMMARY FINANCIAL INFORMATION EXTRACTED FROM PENNACO
ENERGY, INC.'S SEPTEMBER 30, 1998 AND IS QUALIFIED IN ITS ENTIRETY BY REFERENCE
TO SUCH FINANCIAL STATEMENTS.
</LEGEND>
<S> <C>
<PERIOD-TYPE> OTHER
<FISCAL-YEAR-END> DEC-31-1998
<PERIOD-START> JAN-26-1998
<PERIOD-END> SEP-30-1998
<CASH> 1,358,125
<SECURITIES> 0
<RECEIVABLES> 0
<ALLOWANCES> 0
<INVENTORY> 0
<CURRENT-ASSETS> 1,686,878
<PP&E> 16,300,887
<DEPRECIATION> (34,217)
<TOTAL-ASSETS> 19,297,963
<CURRENT-LIABILITIES> 6,678,007
<BONDS> 0
0
0
<COMMON> 14,795
<OTHER-SE> 12,605,161
<TOTAL-LIABILITY-AND-EQUITY> 19,297,963
<SALES> 0
<TOTAL-REVENUES> 0
<CGS> 0
<TOTAL-COSTS> 4,736,642
<OTHER-EXPENSES> 0
<LOSS-PROVISION> 0
<INTEREST-EXPENSE> 649,946
<INCOME-PRETAX> (5,356,338)
<INCOME-TAX> (1,280,000)
<INCOME-CONTINUING> (4,076,338)
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> (4,076,338)
<EPS-PRIMARY> (.38)
<EPS-DILUTED> (.38)
</TABLE>
