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Filed Pursuant to
Rule 424(b)(3)
Registration No. 333-72295.
[CanArgo Logo]
Common Stock
Minimum -- 11,500,000 Shares
Maximum -- 21,264,643 Shares
CanArgo Energy Corporation is offering a minimum of 11,500,000 shares and a
maximum of 21,264,643 shares of its common stock at a price of U.S.$0.30 per
share or in Norwegian kroner at a price of NOK 2.35 per share. The minimum
subscription is 1,000 shares.
The common stock is traded in the over-the-counter market under the symbol
GUSH. On June 9, 1999, both the high and the low prices of the common stock on
the OTC Bulletin Board were $0.28 per share. The common stock is also traded on
the Oslo Stock Exchange under the symbol CNR. On June 9, 1999, both the high and
the low prices of the common stock on the Oslo Stock Exchange were NOK 2.15 per
share.
YOU SHOULD CAREFULLY CONSIDER THE INFORMATION REGARDING RISKS ASSOCIATED
WITH A PURCHASE OF THE COMMON STOCK THAT ARE DESCRIBED UNDER THE CAPTION "RISK
FACTORS" BEGINNING ON PAGE 6.
<TABLE>
<CAPTION>
PROCEEDS TO
PRICE SALES CANARGO
TO PUBLIC COMMISSIONS BEFORE EXPENSES
----------------- ----------------- -----------------
<S> <C> <C> <C>
Per Share................................. $ 0.30 $ 0.024 $ 0.276
Minimum Offering.......................... $ 3,450,000 $ 276,000 $ 3,174,000
Maximum Offering.......................... $ 6,379,393 $ 510,351 $ 5,869,042
</TABLE>
All subscription payments will be deposited into escrow accounts and no
funds will be disbursed to CanArgo until at least 11,500,000 shares are sold. If
the minimum number of shares is not sold by the termination of the offering, all
proceeds deposited in the escrow accounts will be promptly refunded to
subscribers in full, without interest and without any deduction of any kind.
NEITHER THE SECURITIES AND EXCHANGE COMMISSION NOR ANY OTHER REGULATORY
BODY HAS APPROVED OR DISAPPROVED OF THESE SECURITIES OR PASSED UPON THE ADEQUACY
OR ACCURACY OF THIS PROSPECTUS. ANY REPRESENTATION TO THE CONTRARY IS A CRIMINAL
OFFENSE.
The offering will terminate on the earlier of:
- the time when all the shares are sold, or
- 9:00 a.m. Texas local time and 4:00 p.m. Norway local time on June
30, 1999, unless CanArgo extends this date, without notice, to not
later than August 6, 1999.
PROSPECTUS DATED JUNE 10, 1999
<PAGE> 2
You should rely only on the information contained in this prospectus. We have
not authorized anyone to provide you with information that is different. The
information in this prospectus is current only as of the date of this
prospectus, regardless of the time this prospectus is delivered to you or the
time you purchase the common stock. This information could change and be
different as of a later date.
This prospectus is not an offer to sell, nor is it seeking an offer to buy, the
common stock in any jurisdiction where the offer or sale is not permitted.
No action is being taken in any jurisdiction other than the United States and
Norway to permit a public offering of the common stock or possession or
distribution of this prospectus in any such jurisdiction. Persons who come into
possession of this prospectus in jurisdictions outside the United States and
Norway are required to inform themselves about and to observe any restrictions
as to this offering and the distribution of this prospectus applicable in that
jurisdiction.
TABLE OF CONTENTS
<TABLE>
<CAPTION>
PAGE
----
<S> <C>
Summary..................................................... 3
Risk Factors................................................ 6
Forward-looking Statements.................................. 15
The Offering................................................ 17
Use of Proceeds............................................. 22
Market for Common Stock and Dividend Policy................. 23
Capitalization.............................................. 26
Selected Consolidated Financial Data........................ 27
Management's Discussion and Analysis of Financial Condition
and Results of Operations................................. 28
Business.................................................... 41
Management.................................................. 59
Related Transactions........................................ 66
Ownership of Voting Securities.............................. 68
Description of Capital Stock................................ 72
Shares Eligible for Future Resale........................... 75
Legal Matters............................................... 76
Experts..................................................... 76
Available Information....................................... 77
Index to Financial Statements............................... 78
</TABLE>
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SUMMARY
This summary highlights information contained elsewhere in this prospectus. This
summary is not complete and does not contain all of the information that you
should consider before investing in the common stock. You should read the entire
prospectus carefully.
Unless otherwise indicated by the context, the term "CanArgo" refers to CanArgo
Energy Corporation and its consolidated subsidiaries. All share and per share
amounts in this prospectus have been adjusted to reflect a 1-for-2 reverse stock
split of CanArgo's common stock effected in July 1998.
CANARGO ENERGY CORPORATION
CanArgo Energy Corporation, a Delaware corporation, is an oil and gas
exploration and production company that owns interests in oil and gas properties
located in the Republic of Georgia and elsewhere in Eastern Europe. CanArgo's
principal activity involves the rehabilitation and development of oil and gas
fields with a productive history that indicate the potential for increased
production through the application of modern production techniques. CanArgo is
producing crude oil at the Ninotsminda field in Georgia through a 68.5% owned
subsidiary, Ninotsminda Oil Company Limited. CanArgo is currently directing most
of its efforts and resources to the development of the Ninotsminda field and
needs the proceeds of this offering to continue that development. To the extent
that it has the financial and other resources to do so, CanArgo intends to
rehabilitate and develop, or engage in exploratory drilling on, other oil and
gas fields in which it has an interest.
CanArgo's principal executive offices are located at Suite 1580, Guinness House,
727 - 7th Avenue, S.W., Calgary, Alberta, Canada T2P 0Z5, and its telephone
number is (403) 777-1185.
THE OFFERING
MINIMUM OFFERING............. 11,500,000 shares, or approximately $3,450,000.
MAXIMUM OFFERING............. 21,264,643 shares, or approximately $6,379,393.
SHARES OF COMMON STOCK TO BE
OUTSTANDING AFTER THIS
OFFERING, BASED ON SHARES
OUTSTANDING AT APRIL 30,
1999......................... Minimum offering: 31,026,324 shares
Maximum offering: 40,790,967 shares
ESCROW ACCOUNT............... All subscription payments will be deposited into
escrow accounts, and no funds will be disbursed
to CanArgo until the minimum number of shares is
sold.
OFFERING PERIOD.............. The offering will terminate on the earlier of:
- the time when all shares offered are sold, or
- 9:00 a.m. Texas local time and 4:00 p.m.
Norway local time on June 30, 1999, unless
CanArgo extends this date, without notice, to
not later than August 6, 1999.
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USE OF PROCEEDS.............. CanArgo will use the net proceeds of the
offering to make a $2,000,000 loan to
Ninotsminda Oil Company to be used to develop
the Ninotsminda field and as general working
capital.
OTC BULLETIN BOARD SYMBOL.... GUSH
OSLO STOCK EXCHANGE SYMBOL... CNR
RISKS........................ An investment in the common stock is very risky.
CanArgo has experienced significant losses and
has generated minimal revenues. CanArgo needs
the proceeds of this offering to continue
development of the Ninotsminda field and to
develop its other oil and gas properties.
Numerous other risks are associated with an
investment in CanArgo common stock. You should
carefully consider the risks that are detailed
under "Risk Factors" beginning at page 6.
SUMMARY CONSOLIDATED FINANCIAL DATA
Since 1994, CanArgo's operations have generated minimal revenues and CanArgo has
had substantial operating losses. The following table summarizes CanArgo's
operating results for the year ended December 31, 1998 and the quarter ended
March 31, 1999. On July 15, 1998, CanArgo acquired CanArgo Oil and Gas Inc.,
which owns 68.5% of Ninotsminda Oil Company, and the operating results of those
subsidiaries are included from that date.
<TABLE>
<CAPTION>
YEAR ENDED QUARTER ENDED
DECEMBER 31, 1998 MARCH 31, 1999
----------------- --------------
(UNAUDITED)
<S> <C> <C>
Revenues....................................... $ 820,952 $ 113,667
Operating loss................................. (6,487,758) (926,330)
Net loss....................................... (6,110,323) (971,223)
Net loss per common share...................... (0.39) (0.05)
</TABLE>
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The following table summarizes CanArgo's balance sheet at March 31, 1999 on an
actual basis and as adjusted to reflect:
- the application of the estimated net proceeds from the sale of a minimum
of 11,500,000 shares and a maximum of 21,264,643 shares of common stock,
and
- the full disbursement of a $6,000,000 loan to Ninotsminda Oil Company.
This loan and $2,000,000 of the net proceeds are treated as restricted
funds because they may only be used for the development of the
Ninotsminda oil field.
<TABLE>
<CAPTION>
MARCH 31, 1999
-----------------------------------------
AS ADJUSTED
--------------------------
MINIMUM MAXIMUM
ACTUAL OFFERING OFFERING
----------- ----------- -----------
(UNAUDITED)
<S> <C> <C> <C>
Working capital (deficit)............. $ (744,161) $ 60,839 $ 2,697,293
Restricted funds...................... -- 8,000,000 8,000,000
Total assets.......................... 46,317,321 55,122,321 57,758,775
Long-term debt........................ -- 6,000,000 6,000,000
Minority interest in subsidiaries..... 4,464,698 4,464,698 4,464,698
Total stockholders' equity............ 39,169,710 41,974,710 44,611,164
</TABLE>
The consolidated financial data summarized above is further explained in the
following sections of this prospectus:
- - "Use of Proceeds,"
- - "Capitalization,"
- - "Selected Consolidated Financial Data,"
- - "Management's Discussion and Analysis of Financial Condition and Results of
Operations" and
- - "Notes to Consolidated Financial Statements."
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RISK FACTORS
This offering involves a high degree of risk. You should carefully consider the
risks described below, as well as all other information in this prospectus,
before investing in CanArgo common stock. This prospectus contains
forward-looking statements that involve risks and uncertainties. Future events
and CanArgo's actual results could differ materially from those anticipated in
these forward-looking statements. Some of the important factors that might cause
such a difference are discussed in the various risk factors that follow and in
the "Forward-Looking Statements" section of this prospectus.
CANARGO HAS NOT YET ESTABLISHED PROFITABLE OPERATIONS.
CanArgo has limited experience as an oil and gas production company. During the
few years that CanArgo has been an oil and gas production company, its oil and
gas properties have produced minimal revenues, which have been far exceeded by
its expenses. As a result, CanArgo has experienced recurring operating losses,
and its operations have not generated and are not generating positive cash
flows. During 1998, CanArgo had revenues of $821,000 and a net loss of
$6,110,000, and in the three months ended March 31, 1999, CanArgo had revenues
of $113,700 and a net loss of $971,000. CanArgo has not yet operated profitably.
See "Management's Discussion and Analysis of Financial Condition and Results of
Operations" for an explanation of CanArgo's operating results.
TO CONTINUE OPERATING, CANARGO REQUIRES EXTERNAL FINANCING IMMEDIATELY AND THEN
MUST ESTABLISH A PROFITABLE BUSINESS WITH POSITIVE CASH FLOW.
CanArgo is required to provide or arrange for all capital and operating
financing for its principal oil and gas properties. CanArgo had negative working
capital at March 31, 1999, when current liabilities exceeded current assets by
$744,000. As a result, unless CanArgo is able to obtain funds from outside
sources and generate positive cash flows from its operations, CanArgo will not
be able to continue its operations. CanArgo needs the proceeds of this offering
to continue its planned operations significantly beyond June 30, 1999.
To enable Ninotsminda Oil Company Limited, a majority-owned subsidiary of
CanArgo, to receive funding of a $6,000,000 loan from the International Finance
Corporation to finance development of the Ninotsminda oil field, CanArgo must
make a $2,000,000 subordinated loan to Ninotsminda Oil Company and satisfy
various other conditions. If that subordinated loan is not made by June 30,
1999, the IFC has the right, on notice to CanArgo, to terminate its loan
commitment. CanArgo is conducting this offering in order to raise the funds to
make the $2,000,000 subordinated loan and to generate additional working
capital, as described under "Use of Proceeds." If CanArgo is unable to make the
$2,000,000 loan, it may be unable to continue with the development of the
Ninotsminda oil field.
For a discussion of CanArgo's financial condition, liquidity and capital
requirements, see "Management's Discussion and Analysis of Financial Condition
and Results of Operations."
CANARGO'S FINANCIAL STATEMENTS ASSUME CONTINUED OPERATIONS.
CanArgo's financial statements are prepared on the assumption that it will
continue to operate despite its need for external financing and its negative
cash flows. As a result, the financial statements do not reflect the reduction
in the value of CanArgo's assets that would be expected if CanArgo were to cease
operations. The report of CanArgo's
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independent accountants on CanArgo's consolidated financial statements for the
year ended December 31, 1998 is qualified with respect to this assumption. For
an expanded discussion of the going concern assumption that was made in
connection with the preparation of CanArgo's financial statements, see Note 3 of
"Notes to Consolidated Financial Statements."
CANARGO'S FUTURE IS DEPENDENT ON THE SUCCESS OF THE NINOTSMINDA OIL FIELD.
CanArgo is directing substantially all of its efforts and most of its available
funds to the development of the Ninotsminda oil field in the Republic of Georgia
and some ancillary activities closely related to the Ninotsminda field project.
This decision is based on management's assessment of the promise of the
Ninotsminda field. However, CanArgo cannot assure investors that its development
plans for the Ninotsminda field will be successful. For example, the Ninotsminda
field may not produce sufficient quantities of oil and gas to justify the
investment CanArgo has made and is making in that field, and CanArgo may not be
able to produce the oil and gas at a sufficiently low cost or to market the oil
and gas produced at a sufficiently high price to generate a positive cash flow
and a profit. See "Business -- Ninotsminda Oil Field" for a description of this
development project.
CANARGO'S INTEREST IN THE NINOTSMINDA FIELD COULD BE FORFEITED OR REDUCED.
CanArgo currently owns 68.5% of Ninotsminda Oil Company, which has the rights to
develop and produce oil and gas from the Ninotsminda field. If the International
Finance Corporation makes a $6,000,000 loan to Ninotsminda Oil Company, it will
have the right to convert all or part of that loan into common shares of
Ninotsminda Oil Company. If the IFC were to convert all of the loan, CanArgo's
interest in Ninotsminda Oil Company would be reduced from 68.5% to 54.8%. As a
result, CanArgo's share in the profits, if any, generated by Ninotsminda Oil
Company would be reduced.
In addition, Ninotsminda Oil Company has pledged substantially all of its assets
to secure the loan it expects to receive from International Finance Corporation,
and CanArgo has pledged all of the shares it owns in Ninotsminda Oil Company to
secure its guaranty of the repayment of a significant portion of the $6 million
IFC loan. If Ninotsminda Oil Company is unable to repay its loan from the IFC,
it may have to transfer its interest in the Ninotsminda field to the IFC, in
which case CanArgo would lose its interest in the Ninotsminda field. Likewise,
if CanArgo is called upon to satisfy its guaranty and is unable to do so,
CanArgo could lose all or a portion of its stock ownership interest in
Ninotsminda Oil Company. See "Business -- Ninotsminda Oil Field -- International
Finance Corporation Loan" for a discussion of the principal terms of the IFC
loan.
CANARGO COULD BE REQUIRED TO PURCHASE NINOTSMINDA OIL COMPANY SHARES AT PRICES
IN EXCESS OF FAIR MARKET VALUE.
In the event the International Finance Corporation converts all or a portion of
its loan to Ninotsminda Oil Company into shares of Ninotsminda Oil Company
stock, it will have the right for a period that could extend until 2007 to
require CanArgo to purchase a portion of those shares at a formula price. That
price could exceed the fair market value of the shares at the time CanArgo is
required to purchase the shares. See "Business -- Ninotsminda Oil
Field -- International Finance Corporation Loan" for a more detailed discussion
of CanArgo's purchase obligation.
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CANARGO COULD BE REQUIRED TO WRITE OFF THE VALUE OF UNSUCCESSFUL PROPERTIES AND
PROJECTS.
In order to realize the carrying value of its oil and gas properties and
ventures, CanArgo must produce oil and gas in sufficient quantities and then
sell such oil and gas at sufficient prices to produce a profit. CanArgo has a
number of unevaluated oil and gas properties and interests in ventures with
similar properties having carrying values totaling $18,990,000 at March 31,
1999, that it has not actively developed. The risks associated with successfully
developing unevaluated oil and gas properties are even greater than those
associated with successfully continuing development of producing oil and gas
properties, since the existence and extent of commercial quantities of oil and
gas in unevaluated properties have not been established. During 1997, CanArgo
recorded impairment charges totaling $19.4 million relating to three
unsuccessful ventures. CanArgo could be required in the future to write off its
investments in additional projects, including the Ninotsminda field project, if
such projects prove to be unsuccessful.
CANARGO MAY NOT BE ABLE TO RAISE THE ADDITIONAL FUNDS IT NEEDS FOR ITS LONG-TERM
OIL AND GAS DEVELOPMENT PLANS.
It will take many years and substantial cash expenditures to develop fully
CanArgo's oil and gas properties. CanArgo generally has the principal
responsibility to provide financing for its oil and gas properties and ventures.
CanArgo believes that the aggregate funds to be provided by the following
sources will be sufficient to finance CanArgo's operations and current
development plan for the Ninotsminda field only until mid-2000:
- - the minimum net proceeds of this offering,
- - a $6 million loan from the International Finance Corporation,
- - cash generated by operations, and
- - proceeds from the sale of assets not central to CanArgo's business plan.
Thereafter, CanArgo estimates that full development of the Ninotsminda oil field
over an additional two to three year period will cost an additional $16,000,000.
Accordingly, CanArgo may need to raise additional funds from outside sources in
order to pay for project development costs beyond those currently budgeted
through mid-2000. CanArgo may not be able to obtain that additional financing.
If adequate funds are not available, CanArgo will be required to scale back or
even suspend its operations.
CANARGO'S OIL AND GAS ACTIVITIES INVOLVE RISKS, MANY OF WHICH ARE BEYOND ITS
CONTROL.
CanArgo's exploration, development and production activities are subject to a
number of factors and risks, many of which may be beyond CanArgo's control.
First, CanArgo must successfully identify commercial quantities of oil and gas.
The development of an oil and gas deposit can be affected by a number of factors
which are beyond the operator's control, such as:
- - Unexpected or unusual geological conditions.
- - The recoverability of the oil and gas on an economic basis.
- - The availability of infrastructure and personnel to support operations.
- - Local and global oil prices.
- - Government regulation.
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CanArgo's activities can also be affected by a number of hazards, such as:
- - Labor disputes.
- - Natural phenomena, such as bad weather and earthquakes.
- - Operating hazards, such as fires, explosions, blow-outs, pipe failures and
casing collapses.
- - Environmental hazards, such as oil spills, gas leaks, ruptures and discharges
of toxic gases.
Any of these hazards could result in damage, losses or liability for CanArgo.
CanArgo experiences an increased risk of some of these hazards in connection
with operations that involve the rehabilitation of fields where less than
optimal practices and technology were employed in the past, as was often the
case in Eastern Europe. CanArgo does not purchase insurance covering all of the
risks and hazards that are involved in oil and gas exploration, development and
production.
THE DEVELOPMENT OF CANARGO'S PROPERTIES IS AFFECTED BY CONDITIONS IN EASTERN
EUROPE.
CanArgo's principal oil and gas properties, including the Ninotsminda field, are
located in Eastern Europe. Development of these fields is subject to a number of
conditions endemic to Eastern European countries, including:
- - POLITICAL INSTABILITY -- The present governmental arrangements in the Eastern
European countries in which CanArgo operates were established relatively
recently, when they replaced Communist regimes. If they fail to maintain the
support of their citizens, these governments could themselves be replaced by
other institutions, including a possible reversion to a totalitarian form of
government. CanArgo's operations typically involve joint ventures or other
participatory arrangements with the national government or state-owned
companies. As a result, CanArgo's operations could be adversely affected by
political instability, changes in government institutions, personnel or
policies, or shifts in political power. There is also the risk that
governments could seek to nationalize, expropriate or otherwise take over
CanArgo's oil and gas properties.
- - SOCIAL AND ECONOMIC INSTABILITY -- The political institutions in Eastern
Europe have recently become more fragmented, and the economic institutions of
Eastern European countries have recently converted to a market economy from a
planned economy. Social and economic instability have accompanied these
changes due to many factors which include:
- Low standards of living.
- High unemployment.
- Undeveloped legal and social institutions.
- Conflicts with neighboring countries.
This instability can make continued operations difficult or impossible.
- - INADEQUATE OR DETERIORATING INFRASTRUCTURE -- Countries in Eastern Europe
often either have underdeveloped infrastructures or, as a result of shortages
of resources, have permitted infrastructure improvements to deteriorate. The
lack of necessary infrastructure improvements can adversely affect
operations. For example, the lack of a
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reliable power supply caused Ninotsminda Oil Company to suspend drilling of
one well and the testing of a second well during the 1998-99 winter season.
- - CURRENCY RISKS -- Payment to CanArgo for oil and gas products sold in Eastern
European countries may be in local currencies. Although CanArgo currently
sells its oil principally for U.S. dollars, it may not be able to continue to
demand payment in hard currencies. Although most Eastern European currencies
are presently convertible into U.S. dollars, there is no assurance that
convertibility will continue. Even if currencies are convertible, the rate at
which they convert into U.S. dollars is subject to fluctuation. In addition,
CanArgo's ability to transfer currencies into or out of Eastern European
countries may be restricted or limited in the future.
CANARGO'S OPERATIONS ARE SIGNIFICANTLY AFFECTED BY CHANGES IN THE MARKET PRICE
OF OIL AND GAS.
Prices for oil and natural gas are subject to wide fluctuations in response to a
number of factors which are beyond CanArgo's control, including:
- - Changes in the supply and demand for oil and natural gas.
- - Actions of the Organization of Petroleum Exporting Countries.
- - Weather conditions.
- - Domestic and foreign governmental regulations.
- - The price and availability of alternative fuels.
- - Political conditions in the Middle East and elsewhere.
- - Overall economic conditions.
A reduction in oil prices can affect the economic viability of CanArgo's
operations. For example, the significant decline in oil prices during 1998
adversely affected CanArgo's results of operations and increased its operating
loss in 1998. There can be no assurance that oil prices will be at a level that
will enable CanArgo to operate at a profit.
CANARGO'S ACTUAL OIL AND GAS PRODUCTION COULD VARY SIGNIFICANTLY FROM ITS
RESERVE ESTIMATES.
Estimates of oil and natural gas reserves and their values by petroleum
engineers are inherently uncertain. These estimates are based on professional
judgments about a number of elements including:
- - The amount of recoverable crude oil and natural gas present in a reservoir.
- - The costs that will be incurred to produce the crude oil and natural gas.
- - The rate at which production will occur.
Reserve estimates are also based on evaluations of geological, engineering,
production and economic data. The data can change over time due to, among other
things:
- - Additional development activity.
- - Evolving production history.
- - Changes in production costs, market prices and economic conditions.
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As a result, the actual amount, cost and rate of production of CanArgo's oil and
gas reserves and the revenues derived from sale of the oil and gas produced in
the future will vary from those anticipated in the most recent report on
CanArgo's oil and gas reserves prepared by AMH Group Ltd. effective as of
January 1, 1999. The magnitude of those variations may be material. Some
elements of the reserve report are discussed in the "Business -- Ninotsminda Oil
Field -- Reserves" section of this prospectus.
CANARGO'S OIL AND GAS OPERATIONS ARE SUBJECT TO EXTENSIVE GOVERNMENTAL
REGULATION.
Governments at all levels -- national, regional and local -- regulate oil and
gas activities extensively. CanArgo must comply with laws and regulations which
govern many aspects of its oil and gas business, including
- - Exploration.
- - Development.
- - Production.
- - Occupational health and safety.
- - Labor standards.
- - Environmental matters.
CanArgo expects the trend towards more burdensome regulation of its business to
result in increased costs and operational delays. This trend is particularly
applicable in developing economies, such as those in Eastern Europe where
CanArgo has its principal operations. In these countries, the evolution towards
a more developed economy is often accompanied by a move towards the more
burdensome regulations that typically exist in the more developed economies.
CANARGO IS INVOLVED IN LITIGATION AND SUBJECT TO THREATENED CLAIMS.
CanArgo is involved in a significant lawsuit which is described under
"Business -- Legal Proceedings." CanArgo could incur significant costs to defend
this or other lawsuits. The lawsuits could divert the attention and efforts of
management from normal business operations. In addition, CanArgo's business,
financial condition, results of operations, cash flows and prospects could be
materially adversely affected if it were to lose a lawsuit. CanArgo may also be
subject to claims arising from its decision to cease active development on some
Eastern European projects, which are discussed in "Management's Discussion and
Analysis of Financial Condition and Results of Operations -- Contingent
Liabilities and Obligations."
CANARGO ENCOUNTERS COMPETITION.
The oil and gas industry can be highly competitive. CanArgo's competitors
include integrated oil and gas companies, independent oil and gas companies,
drilling and income programs, and individuals. Many of its competitors are
large, well-established, well-financed companies. Because of its small size and
lack of financial resources, CanArgo may not be able to compete effectively with
these companies. A more complete discussion of competition is contained in this
prospectus under the heading "Business -- Competition."
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CANARGO'S OPERATIONS ARE DEPENDENT ON ITS CHIEF EXECUTIVE.
David Robson, CanArgo's chairman and chief executive officer, does not have an
employment agreement with CanArgo and could leave at will. He is the CanArgo
executive who has the most experience in the oil and gas industry and who has
the most extensive business relationships in Eastern Europe. CanArgo's business
and operations could be significantly harmed if Mr. Robson were to leave CanArgo
or become unavailable to CanArgo because of illness or death. Neither Mr. Robson
nor any other CanArgo employee is prohibited from competing with CanArgo after
he or she leaves the employ of CanArgo. CanArgo does not carry key employee
insurance on any of its employees.
THE MARKETABILITY OF CANARGO COMMON STOCK IS ADVERSELY AFFECTED BY ITS CURRENT
LOW PRICE.
Due to its low trading price, CanArgo common stock was delisted from The Nasdaq
National Market on March 29, 1999. It now trades on the OTC Bulletin Board. Some
investors view low-priced stocks, even if not classified as penny stock under
SEC regulations, as unduly speculative and therefore not appropriate candidates
for investment. Many institutional investors have internal policies prohibiting
the purchase of or maintenance of positions in low-priced stocks. This has the
effect of limiting the pool of potential purchasers of CanArgo common stock at
present price levels. As a result of the Nasdaq delisting, CanArgo stockholders
may experience difficulty in obtaining accurate and timely price quotations for
the common stock. They may also find greater percentage spreads between bid and
asked prices, and more difficulty in completing transactions and higher
transactions costs when buying or selling the common stock. For more information
regarding the Nasdaq delisting and CanArgo's response, see "Market for Common
Stock and Dividend Policy."
CANARGO COULD LOSE THE LISTING FOR ITS COMMON STOCK ON THE OSLO STOCK EXCHANGE.
The listing of CanArgo's common stock on the Oslo Stock Exchange has been a
secondary listing, with the primary listing having been on The Nasdaq Stock
Market. CanArgo common stock was delisted from The Nasdaq Stock Market on March
29, 1999. If CanArgo's common stock is not readmitted to trading on The Nasdaq
Stock Market and CanArgo is not able to establish another listing acceptable to
the Oslo Stock Exchange, CanArgo could not maintain a secondary listing on the
Oslo Stock Exchange. Administrative requirements relating to an Oslo Stock
Exchange primary listing make that not a feasible alternative for CanArgo.
CANARGO'S PROPOSED 1-FOR-25 REVERSE STOCK SPLIT COULD REDUCE ITS MARKET
CAPITALIZATION.
At the annual meeting of CanArgo stockholders scheduled to be held on June 16,
1999, CanArgo will seek stockholder approval of a 1-for-25 reverse stock split
of the outstanding shares of its common stock. The reasons for the reverse split
are discussed under "Market for Common Stock and Dividend Policy." There is no
assurance, however, that after the reverse split is effected one newly combined
share will have a market value as great as that of 25 shares of common stock
immediately before the reverse stock split.
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<PAGE> 13
EXISTING STOCKHOLDERS WHO DO NOT PURCHASE IN THIS OFFERING WILL EXPERIENCE
DILUTION.
The maximum number of shares being offered is equal to the aggregate number of
outstanding shares of CanArgo common stock and exchangeable shares of CanArgo
Oil & Gas Inc. which can be exchanged for shares of CanArgo common stock
outstanding on April 30, 1999. The public offering price is significantly less
than the net tangible book value per share of the common stock, which was $1.84
at March 31, 1999. Stockholders who do not purchase shares in this offering, or
who purchase less than the number of shares they own, will experience dilution
in their percentage ownership in CanArgo and in the net tangible book value per
share of the shares they hold.
DURING THIS OFFERING, YOUR ABILITY TO SELL COMMON STOCK WILL BE IMPAIRED.
This offering may continue until August 6, 1999. Until the offering is
terminated, investors who wish to sell their shares will have to compete for
buyers with CanArgo's offering of shares pursuant to this prospectus. It is
unlikely that investors will be able to sell their shares on the open market
during the offering for more than a price which together with the "spread"
required by a market maker equals the price at which shares are being sold in
this offering. CanArgo can give no assurance that the market price of the common
stock will be at or above the public offering price during or after the
offering.
SUBSCRIPTIONS ARE NOT REVOCABLE.
Once a subscription is delivered, it may not be revoked or altered, even if the
market price for the common stock falls below the offering price on the cover
page of this prospectus. Subscribers will have no rights as stockholders until
certificates for the shares purchased are issued and delivered. For more
information regarding the subscription procedures, see "The Offering."
PURCHASERS OF THE COMMON STOCK MAY NOT BE ABLE TO ENFORCE THEIR LEGAL RIGHTS
AGAINST CANARGO AND OTHERS.
CanArgo's directors and officers and the experts named in this prospectus are
residents of Canada, the United States, the United Kingdom and Norway. As a
result, purchasers of the common stock, depending on their location, may not be
able to effect service of process within their own country on CanArgo, its
directors and officers, or the named experts. Also, because substantially all of
CanArgo's assets, on a consolidated basis, are located in Eastern Europe,
purchasers may not be able to enforce or satisfy judgments against CanArgo.
THE ACTUAL AMOUNT OF GROSS PROCEEDS FROM THIS OFFERING WILL BE AFFECTED BY
FOREIGN CURRENCY FLUCTUATIONS.
CanArgo is offering the shares at fixed prices in both U.S. dollars and
Norwegian kroner. If the value of the U.S. dollar increases in relation to the
Norwegian kroner during the offering period, the actual gross proceeds received
by CanArgo in U.S. dollars from sales of shares in Norwegian kroner will be less
than if CanArgo had sold the shares for U.S. dollars only. Accordingly,
statements in this prospectus as to gross and net proceeds to be obtained from
this offering are estimates only and assume no adverse effects due to currency
fluctuations.
13
<PAGE> 14
SALES OF COMMON STOCK DURING THE OFFERING COULD AFFECT ITS MARKET PRICE.
Open market sales of common stock that is outstanding at the start of this
offering may adversely affect the market price of the shares during or after
this offering. Approximately 14,937,030 outstanding shares of common stock are
freely tradeable. For additional information regarding shares that could be sold
during the offering, see "Shares Eligible for Future Resale."
FUTURE STOCK ISSUANCES COULD HAVE ANTI-TAKEOVER EFFECTS.
CanArgo's board of directors may at any time issue additional shares of
preferred stock and common stock without any prior approval by the stockholders.
If the proposed 1-for-25 reverse stock split discussed earlier is effected,
after completion of this offering there would be approximately 45,000,000
authorized but unissued shares of common stock and 4,999,900 authorized but
unissued shares of preferred stock available for issuance at the discretion of
the board of directors, assuming no significant stock issuances by CanArgo after
the date of this prospectus except in this offering. Holders of outstanding
shares have no right to purchase a pro rata portion of additional shares of
common or preferred stock issued by CanArgo. The issuance of additional shares
could have an anti-takeover effect under some circumstances as described in the
section "Description of Capital Stock -- Preferred Stock."
14
<PAGE> 15
FORWARD-LOOKING STATEMENTS
This prospectus contains various forward-looking statements. When used in this
prospectus, the words "estimate," "project," "anticipate," "expect," "intend,"
"believe," "hope," "may" and similar expressions, as well as "will," "shall" and
other indications of future tense, are intended to identify forward-looking
statements. The forward-looking statements are based on CanArgo's current
expectations and speak only as of the date made. These forward-looking
statements involve risks, uncertainties and other factors that in some cases
have affected CanArgo's historical results and could cause actual results in the
future to differ significantly from the results anticipated in forward-looking
statements made in this prospectus. Important factors that could cause such a
difference are discussed in this prospectus, particularly in this section and
the sections "Risk Factors" and "Management's Discussion and Analysis of
Financial Condition and Results of Operations." You are cautioned not to place
undue reliance on the forward-looking statements.
Few of the forward-looking statements in this prospectus deal with matters that
are within the unilateral control of CanArgo. Joint venture, acquisition,
financing and other agreements and arrangements must be negotiated with
independent third parties and, in some cases, must be approved by governmental
agencies. These third parties generally have interests that do not coincide with
those of CanArgo and may conflict with CanArgo's interests. Unless CanArgo and
the third parties are able to compromise their various objectives in a mutually
acceptable manner, agreements and arrangements will not be consummated.
Operating entities in various foreign jurisdictions must be registered by
governmental agencies, and production licenses for development of oil and gas
fields in various foreign jurisdictions must be granted by governmental
agencies. These governmental agencies generally have broad discretion in
determining whether to take or approve various actions and matters. In addition,
the policies and practices of governmental agencies may be affected or altered
by political, economic and other events occurring either within their own
countries or in a broader international context.
CanArgo does not have a majority of the equity in the entity that is the
licensed developer of some projects, such as the Stynawske field project, that
CanArgo may pursue in Eastern Europe, even though CanArgo may be the designated
operator of the oil or gas field. In these circumstances, the concurrence of
co-venturers may be required for various actions. Other parties influencing the
timing of events may have priorities that differ from those of CanArgo, even if
they generally share CanArgo's objectives. As a result of all of the foregoing,
among other matters, any forward-looking statements regarding the occurrence and
timing of future events may well anticipate results that will not be realized.
Demands by or expectations of governments, co-venturers, customers and others
may affect CanArgo's strategy regarding the various projects. Failure to meet
such demands or expectations could adversely affect CanArgo's participation in
such projects or its ability to obtain or maintain necessary licenses and other
approvals.
CanArgo's ability to finance all of its present oil and gas projects and other
ventures according to present plans is dependent upon obtaining additional
funding. An inability to obtain financing could require CanArgo to scale back or
abandon its project development, capital expenditure, production and other
plans. The availability of equity or debt financing
15
<PAGE> 16
to CanArgo or to the entities that are developing projects in which CanArgo has
interests is affected by many factors, including:
- - world economic conditions;
- - international relations;
- - the stability and policies of various governments;
- - fluctuations in the price of oil and gas and the outlook for the oil and gas
industry;
- - competition for funds; and
- - an evaluation of CanArgo and specific projects in which CanArgo has an
interest.
Rising interest rates might affect the feasibility of debt financing that is
offered. Potential investors and lenders will be influenced by their evaluations
of CanArgo and its projects and comparisons with alternative investment
opportunities.
16
<PAGE> 17
THE OFFERING
GENERAL
CanArgo is offering a minimum of 11,500,000 shares and a maximum of 21,264,643
shares of its common stock at a purchase price of $0.30 per share or NOK 2.35
per share. Subscribers may pay for the shares either in U.S. dollars or in
Norwegian kroner. CanArgo anticipates that shares of its common stock will be
sold through dealers who will receive a sales commission. Shares may also be
sold through officers and directors of CanArgo who will not receive commissions
or other compensation in connection with those sales. Subscriptions will be
accepted in the order of the date and time they are received by the escrow
agents until all 21,264,643 shares being offered pursuant to this prospectus are
sold or this offering otherwise terminates.
The offering will commence at 9:00 a.m. Texas local time and 4:00 p.m. Oslo
local time on the date after the day when prospectuses are first available for
distribution in Norway. The offering will terminate on the earlier of:
- - the time when all 21,264,643 shares have been sold, or
- - 9:00 a.m. Texas local time and 4:00 p.m. Norway local time on June 30, 1999,
unless this date is extended by CanArgo, without notice to subscribers, to a
date not later than August 6, 1999.
Purchasers of common stock outside of the United States may be required to pay
stamp taxes and other charges in accordance with the laws and practices of the
country of purchase in addition to the public offering price.
ESCROW OF PROCEEDS
Signature Stock Transfer, Inc., located in Dallas, Texas, and Orkla Finans
(Fondsmegling) ASA, located in Oslo, Norway, will serve as escrow agents in
connection with this offering. Orkla Finans will also solicit subscribers for
the shares as explained under "Solicitations by Dealers" below. Payments for
subscriptions delivered to the escrow agents will be promptly deposited into
escrow accounts established at banks by each of the escrow agents. The funds
will remain in the escrow accounts until subscriptions relating to the funds
have been accepted and certificates for the shares of common stock purchased
have been issued. No subscriptions will be accepted and no certificates for
shares will be issued and sold unless and until CanArgo receives and accepts
aggregate subscriptions for at least 11,500,000 shares.
When share certificates have been issued to the subscribers, the proceeds from
the sale of those shares will be disbursed to CanArgo. After a minimum of
11,500,000 shares have been issued and sold, subscriptions will be accepted,
share certificates issued and proceeds disbursed from time to time during the
remaining term of the offering. If at least 11,500,000 shares are not issued and
sold by the date this offering is terminated, all proceeds deposited in the
escrow accounts will be promptly refunded to the subscribers in full, without
interest and without any deduction of any kind.
SUBSCRIPTION PROCEDURE
To subscribe for shares in the offering, you must complete, sign and return an
originally signed subscription agreement and transmit full payment for the
shares subscribed. Facsimile or other copies of executed documents will not be
accepted. You must subscribe for a minimum of 1,000 shares.
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<PAGE> 18
Subscribers may pay for the shares either in U.S. dollars or Norwegian kroner.
Payment may be made by wire transfer in accordance with the instructions set
forth in the subscription agreement. Payment may also be made by check, bank
draft or money order, as follows:
- - for subscriptions delivered to Signature Stock Transfer, Inc., payable to
"SST Holdings Inc. Escrow #2."
- - for subscriptions delivered to Orkla Finans, payable:
-- in U.S. dollars to "Orkla Finans (Fondsmegling) ASA Escrow Account USD,"
or
-- in Norwegian kroner to "Orkla Finans (Fondsmegling) ASA Escrow Account
NOK."
If your subscription is solicited by a dealer who has entered into a selling
agent agreement with CanArgo, you may deliver your completed subscription
agreement and make payment in the normal and customary manner to that dealer.
That dealer has agreed in the selling agent agreement to immediately deliver the
subscription agreement and payment for the shares to an escrow agent.
The subscription price will be considered to have been received only when the
funds have cleared the banking system. Subscribers are urged to consider paying
the subscription price by means of wire transfers or certified or bank cashier's
checks or money orders. Payments made by personal or company checks that have
not been certified will be considered received only upon clearance. Even
domestic checks that have not been certified may take more than five business
days to clear, so subscribers intending to pay with uncertified personal or
company checks are urged to make payment sufficiently in advance of the
termination date.
The completed subscription agreements and payments must be delivered to Orkla
Finans by 4:00 p.m., Oslo local time, or to Signature Stock Transfer, Inc. by
9:00 a.m. Texas local time, on the termination date of the offering.
We suggest, for your protection, that you deliver your subscription documents to
an escrow agent by overnight or express mail courier. If you mail the documents,
we suggest you use registered mail. Unless you deliver your subscription
agreement and payment to the dealer who has solicited it, you should deliver the
subscription agreement and payment to either of the following:
Signature Stock Transfer, Inc.,
as Agent for CanArgo Energy Corporation
14675 Midway Road -- Suite 221
Dallas, Texas 75244-9651
United States of America
or
Orkla Finans (Fondsmegling) ASA,
as Agent for CanArgo Energy Corporation
Tordenskioldsgt. 8/10
P.O. Box 1724 Vika
N-0121 Oslo
Norway
Once delivered, you may not revoke or change your subscription, even if the
market price for the common stock falls below the public offering price during
the offering.
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<PAGE> 19
CanArgo may reject any subscription in full or in part. The subscription price
paid with subscriptions that are not accepted for any reason will be promptly
returned without interest or any deduction of any kind. Subscriptions
accompanied by an overpayment which are otherwise in order will be accepted and
a check will be mailed to the subscriber for the amount of the overpayment.
Certificates for shares will be promptly delivered to subscribers after the
minimum offering has been sold and promptly after later subscriptions have been
accepted. In the case of shares traded on the Oslo Stock Exchange, certificates
for the shares will be issued in the name of Den norske Bank and registered in
the Norwegian VPS, or securities registration system. Norwegian subscribers will
be informed by Den norske Bank or by Orkla Finans of such registration for their
account. Subscribers will not be deemed to be holders of the shares of common
stock they are purchasing until the stock certificates representing those shares
are issued and delivered. At that time, subscribers will acquire all voting and
other rights of holders of common stock with respect to the shares purchased in
this offering.
CanArgo will decide all questions as to the validity, form and eligibility of
subscriptions, and CanArgo's interpretation of the terms and conditions of the
offering will be final and binding. CanArgo may waive any irregularities in any
subscription. CanArgo is not required to notify you of any defect or
irregularity in your subscription.
If you have any questions or need assistance concerning the procedures for
subscribing for shares, you should call Susan E. Palmer, who is CanArgo's
corporate secretary, at (281) 492-6992, or contact the dealer, if any, who has
solicited your subscription.
DETERMINATION OF OFFERING PRICE
CanArgo has determined the public offering price of the shares based on the
recent trading history of the common stock on the OTC Bulletin Board and the
Oslo Stock Exchange, management's assessment of CanArgo's assets and business
prospects, and prevailing market conditions. Information regarding the market
prices of the common stock on the OTC Bulletin Board, the Nasdaq National Market
and the Oslo Stock Exchange since the beginning of 1997 and recent prices can be
found at "Market for Common Stock and Dividend Policy -- Market for Common
Stock."
The public trading price of the common stock may differ from the public offering
price set forth on the first page of this prospectus during the offering. If the
public trading price were to exceed the subscription price, persons interested
in acquiring common stock would be unlikely to purchase shares on the OTC
Bulletin Board or the Oslo Stock Exchange for more than the subscription price
if they could purchase shares at the subscription price directly from CanArgo in
this offering. For that reason, stockholders who wish to sell their shares
during the offering will probably be required to ask a price that, when coupled
with the "spread" required by a market maker, is no more than the subscription
price.
CanArgo's net tangible book value per share as of March 31, 1999 was $1.84 per
share. Since this amount exceeds the public offering price by a substantial
amount, purchasers in this offering will not experience dilution of the
subscription price they pay in this offering in relation to net tangible book
value per share. Existing stockholders who do not subscribe in this offering for
at least the same number of shares as they own will, however, experience
dilution in the net tangible book value of the shares they hold.
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<PAGE> 20
SOLICITATIONS BY DEALERS
CanArgo intends to use the services of a limited number of securities dealers
who are qualified in the jurisdictions in which this offering will be made to
solicit purchasers of the common stock. No dealer will be obligated to take or
purchase any of the shares. As compensation for their services, CanArgo will pay
the dealers a commission of 8% of the purchase price of the shares they sell. No
commissions will be paid with respect to subscriptions that are rejected,
including subscriptions rejected because the minimum of 11,500,000 shares is not
sold in the offering. Subscriptions solicited by dealers will remain subject to
CanArgo's right to accept or reject any subscription. CanArgo will also
reimburse the dealers' expenses in connection with the sale of common stock
incurred with the consent of CanArgo in an amount not to exceed 2% of the
purchase price of the shares they sell.
CanArgo has entered into selling agent agreements with:
- Credifinance Securities Limited of Toronto, Ontario, Canada,
- David Williamson Associates Limited of London, England, and
- Orkla Finans (Fondsmegling) ASA of Oslo, Norway, which is also acting as
an escrow agent in this offering.
CanArgo may also enter into selling agent agreements with other foreign and
domestic dealers. Each selling agent agreement with a dealer qualified in a
jurisdiction outside the United States will prohibit that dealer from soliciting
purchases of common stock from any person present in the United States or
otherwise within the definition of U.S. person contained in Rule 901 under the
United States Securities Act of 1933. Those selling agent agreements will also
prohibit the foreign dealers from directing any selling efforts towards
identifiable groups of U.S. citizens resident outside the United States. CanArgo
and the dealers have agreed to indemnify each other against various liabilities
in connection with this offering, including liabilities arising under the
Securities Act. The selling agent agreements will terminate when this offering
terminates.
CanArgo may also sell common stock in this offering directly through its
officers and directors. No commissions or expense reimbursement will be paid
with respect to these sales.
TAX CONSIDERATIONS
All prospective investors are urged to consult their own legal and tax advisors
with respect to:
- the tax consequences of an investment in the common stock in their
particular circumstances, and
- the application and effect of the laws of the United States or any
state, local, foreign or other taxing jurisdiction on their ownership
and disposition of the common stock.
The following discussion summarizes some of the tax consequences to purchasers
of the common stock who are Norwegian residents.
The United States and Norway have entered into a tax treaty for the avoidance of
double taxation on income and net wealth dated December 31, 1971. Individual
stockholders are subject to net wealth net tax in Norway on shares in U.S.
companies. According to the tax treaty, Norway has an exclusive right to net
wealth taxation on shares owned by
20
<PAGE> 21
Norwegian residents. Stock listed on the SMB-list, small and medium sized
businesses, of the Oslo Stock Exchange, such as CanArgo's common stock, is
valued at 65% of the stock exchange price at the end of the year. The marginal
net wealth tax rate is at present 1.1%.
Dividends on shares in the U.S. companies owned by Norwegian residents are
subject to income tax in both Norway and the U.S. The U.S. taxation is limited
to a withholding tax at 15%, provided the shares are not attributed to a fixed
place of business in the U.S. Norway will credit the withholding tax against the
Norwegian taxes that fall on the dividends. Dividends are taxed as ordinary
income in Norway, at a present rate of 28%.
According to the tax treaty, a Norwegian company owning more than 10% of the
capital of a U.S. company is further entitled to a credit against Norwegian
taxes for the underlying U.S. corporation tax, inasmuch as the tax relates to
the dividends received, and limited to the Norwegian taxes that fall on such
dividends.
Capital gains on the realization of shares is subject to income tax in Norway as
ordinary income, at a present rate of 28%. Capital loss is deductible against
ordinary income. Capital gains or losses are computed as the difference between
the amount received and the acquisition price, including the price for any
rights letter. Broker's commissions and other financing costs paid in connection
with the sale or redemption are deductible against capital gains. According to
the tax treaty, Norway has an exclusive right to tax capital gains on shares
owned by Norwegian residents. However, if the stockholder within the last 12
months before the realization owned more than 25% of the shares and more than
50% of the company assets at the end of the last three income years was
physically present in the U.S., the U.S. has an exclusive right to tax capital
gains on the realization of such shares.
21
<PAGE> 22
USE OF PROCEEDS
After deducting (a) the maximum sales commissions and dealer expenses payable
and (b) estimated expenses of the offering of approximately $300,000, CanArgo
expects that the net proceeds from this offering will be:
- - approximately $2,805,000 if the minimum number of shares is sold, and
- - approximately $5,440,000 if the maximum number of shares is sold.
CanArgo intends to use the net proceeds for the following purposes:
- - $2,000,000 will be used to make a subordinated loan to Ninotsminda Oil
Company. CanArgo must make this loan by June 30, 1999 so that Ninotsminda Oil
Company can receive funding of a $6,000,000 loan from the International
Finance Corporation. The combined $8,000,000 will be used to complete the
current development program for the Ninotsminda oil field which is expected
to be completed by mid-2000. Additional information regarding CanArgo's
development plans for the Ninotsminda oil field and the loan from the
International Finance Corporation is contained in the section
"Business -- Ninotsminda Oil Field."
- - The remaining net proceeds from the offering, about $805,000 in the case of a
minimum offering and about $3,440,000 in the case of a maximum offering, will
be used for general working capital purposes, including the reduction of
outstanding accounts payable and the development of oil and gas projects.
CanArgo believes that the aggregate funds to be provided from the following
sources will be sufficient to satisfy its operating needs during the twelve
month period following the offering:
- - the net proceeds from the minimum offering,
- - the $6 million loan from the International Finance Corporation,
- - cash generated from operations, and
- - estimated proceeds of $900,000 from the planned sale of assets not central to
its business plan.
CanArgo cannot assure investors that it will be able to complete any asset sales
or that the proceeds from any asset sales will be as great as CanArgo currently
anticipates. The net proceeds of this offering will be invested in short-term,
investment-grade, interest-bearing securities until they are used.
22
<PAGE> 23
MARKET FOR COMMON STOCK AND DIVIDEND POLICY
MARKET FOR COMMON STOCK
CanArgo's common stock traded from April 6, 1995 through March 29, 1999 on the
Nasdaq National Market under the symbol "GUSH." CanArgo common stock has also
been listed and traded on the Oslo Stock Exchange since May 1995 under the
symbol "CNR." On March 29, 1999, CanArgo was advised by The Nasdaq Stock Market
that it had delisted CanArgo's common stock effective with the close of business
on March 29, 1999. On March 30, 1999, CanArgo's common stock commenced trading
on the OTC Bulletin Board.
The following table sets forth the high and low sales prices of the common stock
on the Nasdaq National Market and the Oslo Stock Exchange for the periods
indicated, and the high and low bid prices on the OTC Bulletin Board for the
period after March 29, 1999. Average daily trading volume on these markets
during these periods is also provided. Nasdaq National Market data is provided
by The Nasdaq Stock Market; OTC Bulletin Board data is provided by Nasdaq
Trading and Market Services; and Oslo Stock Exchange data is derived from
published financial sources. The over-the-counter quotations reflect
inter-dealer prices, without retail mark-up, mark-down or commissions, and may
not represent actual transactions. Sales prices on the Oslo Stock Exchange were
converted from Norwegian kroner into United States dollars on the basis of the
daily 10:00 a.m. exchange rate for buying United States dollars with Norwegian
kroner announced by the Central Bank of Norway. Prices in Norwegian kroner are
denominated "NOK."
<TABLE>
<CAPTION>
NASDAQ/OTC OSE
-------------------------- --------------------------
AVERAGE AVERAGE
DAILY DAILY
QUARTER ENDED HIGH LOW VOLUME HIGH LOW VOLUME
- ------------- ------ ----- ------- ------ ----- -------
<S> <C> <C> <C> <C> <C> <C>
March 31, 1997.......... $14.25 $8.75 49,338 $14.22 $8.96 210,918
June 30, 1997........... 10.13 7.81 21,109 9.52 7.92 103,931
September 30, 1997...... 9.13 4.84 23,603 8.86 4.96 157,173
December 31, 1997....... 7.00 1.19 62,684 6.46 1.66 284,036
March 31, 1998.......... 2.63 1.44 27,015 2.38 1.60 153,177
June 30, 1998........... 2.25 1.00 15,520 2.13 1.20 65,617
September 30, 1998...... 1.81 0.47 10,266 1.60 0.53 24,924
December 31, 1998....... 0.81 0.22 34,570 0.67 0.20 27,493
March 29, 1999.......... 0.47 0.19 25,642 0.57 0.23 16,412
June 30, 1999 (through
May 31, 1999)......... 0.44 0.19 22,335 0.41 0.23 13,923
</TABLE>
On June 9, 1999, both the high and the low prices of the common stock on the OTC
Bulletin Board were $0.28 per share. On that date both the high and the low
prices of the common stock on the Oslo Stock Exchange were NOK 2.15 per share.
On April 30, 1999, 19,526,324 shares of common stock were outstanding and held
of record by 3,795 stockholders. In addition, 1,738,319 exchangeable shares
issued by CanArgo Oil & Gas Inc., a subsidiary of CanArgo, were outstanding on
that date. Each exchangeable share may be exchanged for one share of common
stock, as described in the section "Description of Capital Stock."
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<PAGE> 24
PLANS TO SEEK READMISSION TO NASDAQ
On March 29, 1999, The Nasdaq Stock Market advised CanArgo that the common stock
had been delisted from The Nasdaq Stock Market because of the failure to meet
Nasdaq's continued listing requirement that the bid price for a listed security
be at least $1.00 per share. The bid price for CanArgo's common stock has been
below $1.00 since August 1998. CanArgo had requested an exception to the minimum
bid price requirement while it pursued a plan, including a reverse split of the
common stock, to increase the bid price for the common stock to a level above
$1.00 per share. The Nasdaq Listing Qualifications Panel that considered the
request, however, rejected it, which resulted in the delisting.
CanArgo has requested the Nasdaq Listing and Hearing Review Council to review
and reconsider the delisting decision. Based upon discussions with members of
the Nasdaq staff, CanArgo's management believes that one factor that will be
taken into consideration in the review process is the bid price for the common
stock at the time of the review. CanArgo believes that its prospects for a
reversal of the delisting decision will be enhanced if the bid price for the
common stock at the time of the review is well in excess of Nasdaq's continued
listing requirement of a $1.00 per share minimum bid price and particularly if
the bid price is in excess of Nasdaq's initial listing requirement of a $5.00
per share minimum bid price. On the other hand, CanArgo believes that an
affirmation of the delisting decision is virtually certain if the bid price for
the common stock at the time of the review remains below $1.00 per share. There
can be no assurance that an elevated bid price will result in the common stock
being readmitted to trading on The Nasdaq Stock Market. The Review Council is
expected to begin its review of the delisting decision no earlier than July
1999.
CanArgo's board of directors has proposed a 1-for-25 reverse split of the common
stock in an attempt to establish a common stock structure that might achieve a
bid price in excess of the $5.00 minimum bid price required under Nasdaq's
initial listing requirements for the Nasdaq National Market. CanArgo's board of
directors had initially considered proposing a 1-for-10 reverse split but
decided to propose the 1-for-25 reverse split in order to increase the
possibility that the bid price after the reverse split would be great enough to
qualify the common stock for listing on The Nasdaq Stock Market or a national
securities exchange. CanArgo will seek stockholder approval of this reverse
stock split at the annual meeting of stockholders scheduled for June 16, 1999.
Although any increase in the bid price for the common stock resulting from the
reverse split may be less than proportionate to the decrease in the number of
shares outstanding, the reverse stock split, if implemented, should result in a
substantially higher bid price for the shares. That price, however, may not meet
the initial listing requirements of the Nasdaq National Market. See "Market for
Common Stock" above for information regarding recent stock prices. If the
stockholders approve the reverse stock split, CanArgo's board of directors would
retain the power to delay or abandon the implementation of the reverse stock
split.
If the Review Council reverses the delisting decision, the common stock would be
readmitted to trading on the Nasdaq National Market. CanArgo does not expect a
decision from the Review Council before October 1999.
24
<PAGE> 25
If the Review Council does not readmit CanArgo's common stock to trading on the
Nasdaq National Market, CanArgo will consider applying for listing to the Nasdaq
SmallCap Market or a national securities exchange, provided it then satisfies
the applicable minimum initial listing requirements. CanArgo believes that
securities listed on The Nasdaq Stock Market, as compared to securities traded
on the OTC Bulletin Board, generally benefit from:
- - smaller percentage spreads between bid and asked prices;
- - greater availability of accurate and timely quotations; and
- - lower transactions costs.
Securities listed on the Nasdaq National Market and national securities
exchanges are exempt from the registration requirements of state securities
laws. This exemption reduces the time and costs associated with complying with
state securities laws when raising capital.
The listing of CanArgo's common stock on the Oslo Stock Exchange has been a
secondary listing, with the primary listing having been on The Nasdaq Stock
Market. If CanArgo's common stock is not readmitted to trading on The Nasdaq
Stock Market and CanArgo is not able to establish another primary listing
acceptable to the Oslo Stock Exchange, CanArgo could not maintain a secondary
listing on the Oslo Stock Exchange. While CanArgo could apply for a primary
listing on the Oslo Stock Exchange, administrative requirements relating to a
primary listing make an Oslo Stock Exchange primary listing not a feasible
alternative for CanArgo. Thus, CanArgo's ability to maintain its listing on the
Oslo Stock Exchange may depend upon its ability to regain its listing on The
Nasdaq Stock Market or to establish another listing in the United States.
DIVIDEND POLICY
CanArgo has not paid any cash dividends on its common stock. CanArgo currently
intends to retain future earnings, if any, for use in its business and,
therefore, does not anticipate paying any cash dividends in the foreseeable
future. The payment of future dividends, if any, will depend on CanArgo's
results of operations and financial condition and on such other factors as the
board of directors may, in its discretion, consider relevant. Under its loan
agreement with International Finance Corporation, Ninotsminda Oil Company's
ability to transfer funds to CanArgo and its affiliates is severely restricted.
The terms of this loan are described in the section "Business -- International
Finance Corporation Loan." In addition, CanArgo may not pay dividends on its
common stock unless its subsidiary, CanArgo Oil & Gas Inc., is able to pay and
simultaneously pays an equivalent dividend on the exchangeable shares issued by
that subsidiary. The terms of the exchangeable shares are described in the
section "Description of Capital Stock."
25
<PAGE> 26
CAPITALIZATION
The following table sets forth the capitalization of CanArgo as of March 31,
1999. The table also presents the capitalization on a pro forma as adjusted
basis to reflect (a) the application of the estimated net proceeds from a
minimum offering of 11,500,000 shares and a maximum offering of 21,264,643
shares and (b) the full disbursement of a $6,000,000 loan to Ninotsminda Oil
Company. You should read this information together with CanArgo's consolidated
financial statements.
<TABLE>
<CAPTION>
AS OF MARCH 31, 1999
------------------------------------------
AS ADJUSTED
---------------------------
ACTUAL MINIMUM MAXIMUM
------------ ------------ ------------
(UNAUDITED)
<S> <C> <C> <C>
Long-term debt(1).................... $ -- $ 6,000,000 $ 6,000,000
Stockholders' equity:
Preferred stock --
5,000,000 shares authorized; 100
shares issued and
outstanding................... -- -- --
Common stock --
50,000,000 shares authorized;
issued and outstanding:
19,393,444 shares actual;
30,893,444 shares as adjusted
for minimum offering;
40,658,087 shares as adjusted
for maximum offering(2);
1,871,199 additional shares
issuable without receipt of
further consideration(3)...... 2,126,464 3,276,464 4,252,928
Capital in excess of par value..... 101,630,441 103,285.441 104,945,431
Accumulated deficit................ (64,587,195) (64,587,195) (64,587,195)
------------ ------------ ------------
Total stockholders' equity...... 39,169,710 41,974,710 44,611,164
------------ ------------ ------------
Total liabilities and stockholders'
equity............................. $ 46,317,321 $ 55,122,321 $ 57,758,775
============ ============ ============
</TABLE>
- -------------------------
(1) The "as adjusted" long-term debt reflects the full amount committed under
Ninotsminda Oil Company's loan agreement with the International Finance
Corporation. This loan is to be disbursed in installments through June 2000
subject to the satisfaction of various conditions at the time of each
disbursement. This loan is described under "Business -- Ninotsminda Oil
Field -- International Finance Corporation Loan."
(2) Excludes 3,297,011 shares reserved for issuance in connection with option
plans, outstanding warrants and for other purposes.
(3) The 1,871,199 additional shares issuable without receipt of further
consideration represent shares of CanArgo common stock issuable upon
exchange of exchangeable shares issued or issuable by CanArgo Oil & Gas
Inc., a CanArgo subsidiary. The exchangeable shares are described in the
section "Description of Capital Stock."
26
<PAGE> 27
SELECTED CONSOLIDATED FINANCIAL DATA
The following tables set forth selected consolidated financial data taken from
CanArgo's consolidated financial statements which appear in this prospectus
beginning at page F-1. CanArgo acquired CanArgo Oil & Gas Inc. in July 1998.
CanArgo Oil & Gas Inc. owns 68.5% of the outstanding stock of Ninotsminda Oil
Company. The financial results of CanArgo Oil & Gas Inc. and Ninotsminda Oil
Company are included in CanArgo's consolidated financial results from July 16,
1998.
You should read the complete financial statements and related notes of these
companies which begin on page F-1 of this prospectus. You should also read the
section "Management's Discussion and Analysis of Financial Condition and Results
of Operations" for an explanation of CanArgo's financial condition and operating
results. In 1996 CanArgo changed its fiscal year end from August 31 to December
31, and in 1994 CanArgo changed its fiscal year end from October 31 to August
31.
<TABLE>
<CAPTION>
TEN TWELVE TWELVE FOUR TWELVE TWELVE THREE MONTHS
MONTHS MONTHS MONTHS MONTHS MONTHS MONTHS ENDED
ENDED ENDED ENDED ENDED ENDED ENDED -----------------
8/31/94 8/31/95 8/31/96 12/31/96 12/31/97 12/31/98 3/31/98 3/31/99
------- ------- ------- -------- -------- -------- ------- -------
(IN $1,000 EXCEPT FOR PER SHARE AMOUNTS) (UNAUDITED)
<S> <C> <C> <C> <C> <C> <C> <C> <C>
Revenues............. 3 625 35 17 313 821 81 114
Operating loss....... (1,466) (7,882) (5,640) (2,983) (29,090) (6,488) (3,025) (926)
Other income
(expense).......... (366) 312 (854) 361 1,202 196 207 (132)
Net loss............. (1,832) (7,600) (6,494) (2,604) (27,683) (6,110) (2,818) (971)
Net loss per common
share -- basic and
diluted............ (0.90) (1.82) (1.04) (0.28) (2.47) (0.39) (0.25) (0.05)
Working capital
(deficit).......... 1,145 4,188 16,926 30,382 13,971 1,366 11,537 (744)
Total assets......... 4,944 10,710 32,089 55,375 37,434 46,568 33,679 46,317
Notes payable and
long-term debt..... 163 -- 300 -- -- -- -- --
Minority interest.... -- -- -- -- -- 4,552 -- 4,465
Stockholders'
equity............. 4,181 9,608 30,505 53,245 26,779 40,031 23,961 39,170
Cash dividends per
common share....... -- -- -- -- -- -- -- --
</TABLE>
27
<PAGE> 28
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
The following discussion should be read together with CanArgo's consolidated
financial statements which appear in this prospectus.
LIQUIDITY, CAPITAL RESOURCES AND FINANCIAL CONDITION
During the fourth quarter of 1997, CanArgo commenced a program to preserve its
financial resources. That program consisted of efforts to reduce general and
administrative expenses and to limit CanArgo's investments in and advances to
oil and gas ventures and properties in which it held interests, while CanArgo
explored and pursued strategic alternatives with the assistance of investment
advisors. As a result of its consideration of strategic alternatives, on
February 2, 1998 CanArgo, which was then known as Fountain Oil Incorporated,
entered into an agreement with CanArgo Oil & Gas Inc., which was then known as
CanArgo Energy Inc. That agreement contemplated a series of transactions to
effect a business combination involving those two companies. The business
combination was consummated on July 15, 1998. The completion of the business
combination had the following principal effects:
- - CanArgo Oil & Gas Inc., which owns 68.5% of Ninotsminda Oil Company, became a
subsidiary of CanArgo;
- - the assets and liabilities of CanArgo Oil & Gas Inc. and the results of its
operations subsequent to July 15, 1998 are included in CanArgo's consolidated
financial statements, which has had a significant impact on CanArgo's
consolidated financial statements;
- - each previously outstanding CanArgo Oil & Gas Inc. common share was converted
into the right to receive 0.8 share of CanArgo's common stock, which provided
the former holders of CanArgo Oil & Gas Inc. securities with the right to
receive approximately 47% of CanArgo's common stock;
- - the management of CanArgo Oil & Gas Inc. succeeded to a majority of the
senior management positions in CanArgo; and
- - CanArgo effected a one-for-two reverse stock split and changed its name from
Fountain Oil Incorporated to CanArgo Energy Corporation.
Upon completion of the business combination, CanArgo resumed a more active
status and has focused its business activities on the development, through
Ninotsminda Oil Company, of the Ninotsminda oil field, and some associated
ventures.
Under the new management, CanArgo continues to attempt to control expenses and
limits its investment in and advances to oil and gas properties and ventures
which do not have prospects for early cash flow. CanArgo continues to incur
general and administrative costs and project costs for which commitments were
made prior to the business combination and which CanArgo would not choose to
incur under present circumstances. These costs averaged approximately $40,000
per month during the second half of 1998 and are expected to continue on a
diminishing basis through mid-1999.
CanArgo's cash balance at March 31, 1999 is not sufficient to cover CanArgo's
working capital requirements and capital expenditure plans for 1999. CanArgo is
undertaking this offering in order to raise sufficient capital to fund its
current development plans for the Ninotsminda field and to provide general
working capital, a portion of which could be used
28
<PAGE> 29
for the development of other projects. The intended use of the net proceeds from
this offering is described in the section "Use of Proceeds." CanArgo's
management believes that funds provided by the following sources will be
sufficient to satisfy its operating needs during the twelve months following
this offering:
- - the estimated net proceeds from a minimum offering of 11,500,000 shares,
- - the International Finance Corporation loan described in the "Business"
section of this prospectus,
- - cash from operations, and
- - the anticipated proceeds of approximately $900,000 from the planned
disposition of assets not central to its operations.
However, CanArgo cannot assure investors that:
- - CanArgo will be able to complete any asset sales;
- - the proceeds from any asset sales will be as great as CanArgo anticipates;
- - CanArgo's operations will generate positive cash flow; or
- - the funds provided by the sources enumerated above or from other sources will
be sufficient to satisfy CanArgo's operating needs during the twelve months
following this offering.
The current development plan for the Ninotsminda field includes the drilling of
a minimum of three development wells plus five major rehabilitations of existing
wells, with a view towards increasing oil production. The total budgeted cost of
the current development plan is $9,573,000. The current development plan is
scheduled to be implemented in 1999 and the first half of 2000, but that timing
is dependent upon the prompt availability of funding for the development,
whether from this offering or otherwise. CanArgo's current development plan for
the Ninotsminda field and the terms of a proposed loan from the International
Finance Corporation to finance it are described in the "Business" section of
this prospectus.
Since a considerable amount of infrastructure for the Ninotsminda field has been
put in place by Georgian Oil, increases in oil production are not expected to
increase infrastructure costs substantially. However, CanArgo cannot assure
investors that:
- - the Ninotsminda field current development plan will be funded,
- - the funding will be timely,
- - the development plan will be successfully completed or will increase
production, or
- - the Ninotsminda field operating revenues after completion of the development
plan will exceed operating costs.
The extent, cost and timing of a full Ninotsminda field development plan are
highly speculative and will depend significantly upon the results of the current
development program. CanArgo currently projects that the full field development
plan for oil would involve the drilling of nine additional wells, would cost an
additional $16 million, and would require two to three years to complete. Should
Ninotsminda Oil Company attempt to implement such a plan immediately following
completion of the current development plan in approximately mid-2000, it could
require substantial additional funding. It is unlikely CanArgo could provide
such funding unless CanArgo itself obtained substantial additional funding.
29
<PAGE> 30
Depending upon the amount of revenue generated by operations and partial funding
of CanArgo projects by third-party participants, CanArgo believes that it may be
required to obtain additional debt or equity financing by the second half of
2000. CanArgo cannot assure investors that it will be able to obtain such
financing or that the financing that is available will be offered on terms that
are attractive or even acceptable to CanArgo.
Development of the oil and gas properties and ventures in which CanArgo has
interests involves multi-year efforts and substantial cash expenditures. Full
development of CanArgo's oil and gas properties and ventures will require the
availability of substantial additional financing from external sources. CanArgo
intends where opportunities exist to transfer portions of its interests in oil
and gas properties and ventures to other entities in exchange for such
financing. CanArgo generally has the principal responsibility for arranging
financing for the oil and gas properties and ventures in which it has an
interest. There can be no assurance, however, that CanArgo or the entities that
are developing the oil and gas properties and ventures will be able to arrange
the financing necessary to develop the projects being undertaken or to support
the corporate and other activities of CanArgo. There can also be no assurance
that such financing as is available will be on terms that are attractive or
acceptable to or are deemed to be in the best interest of CanArgo, such entities
and their respective stockholders or participants.
CanArgo's consolidated financial statements do not give effect to any further
impairment in the value of its investment in oil and gas ventures and properties
or other adjustments that would be necessary if financing cannot be arranged or
if their operations are not profitable. Ultimate realization of the carrying
value of CanArgo's oil and gas properties and ventures will require production
of oil and gas in sufficient quantities and marketing such oil and gas at
sufficient prices to provide positive cash flow to CanArgo. Establishment of
successful oil and gas operations is dependent upon, among other factors, the
following:
- - mobilization of equipment and personnel to implement effectively drilling,
completion and production activities;
- - achieving significant production at costs that provide acceptable margins;
- - reasonable levels of taxation, or economic arrangements in lieu of taxation,
in host countries; and
- - the ability to market the oil and gas produced at or near world prices.
CanArgo has plans to mobilize resources and achieve levels of production and
profits sufficient to recover the carrying value of its oil and gas properties
and ventures. However, if one or more of the above factors, or other factors,
are different than anticipated, these plans may not be realized, and CanArgo may
not recover the carrying value of its oil and gas properties and ventures. Other
risks relating to CanArgo's operations are described in the sections "Risk
Factors" and "Forward-Looking Statements."
CanArgo will be entitled to distributions from the various properties and
ventures in which it participates in accordance with the arrangements governing
the respective properties and ventures. Until the IFC loan is repaid by
Ninotsminda Oil Company, CanArgo will have the limited ability to transfer funds
from Ninotsminda Oil Company to CanArgo.
CONTINGENT LIABILITIES AND OBLIGATIONS
As a result of CanArgo's decision to cease active development of the Lelyaki,
Maykop and Gorisht-Kocul field projects, CanArgo may be subject to contingent
liabilities in the form
30
<PAGE> 31
of claims from the ventures developing those projects or from others
participating in those projects. These projects are discussed under
"Business -- Other Eastern European Projects -- Previously Impaired Projects."
CanArgo was advised during the first quarter of 1998 that Intergas, the entity
developing the Maykop field project, and a shareholder in Intergas were
considering such claims, but no such claims have yet been asserted. CanArgo
management is unable to estimate the range that such claims, if any, might
total. However, if any claims were determined to be valid, they could have a
material adverse effect on CanArgo's financial position, results of operations,
cash flows and prospects. Any such claims may be adjudicated in host country
forums under host country law.
CanArgo is involved in lawsuits which are described in the section
"Business -- Legal Proceedings." CanArgo could incur significant costs in
defending these lawsuits, and the loss of any of these lawsuits could have a
material adverse effect on the financial condition, results of operations, cash
flows and prospects of CanArgo.
CanArgo has contingent obligations and may incur additional obligations,
absolute or contingent, with respect to the acquisition and development of oil
and gas properties and ventures in which it has interests that require or may
require CanArgo to expend funds and to issue shares of its common stock. CanArgo
believes that it has no further obligation to fund any operations relating to
the Lelyaki and Maykop field projects. At March 31, 1999, CanArgo had a
contingent obligation to issue 187,500 shares of common stock to a third party
upon satisfaction of conditions relating to the achievement of specified
Stynawske field project performance standards. As CanArgo develops current
projects and undertakes other projects, it could incur significant additional
obligations.
CHANGES IN FINANCIAL POSITION
As of December 31, 1998, CanArgo had working capital of $1,366,000, compared to
working capital of $13,971,000 as of December 31, 1997. The $12,605,000 decrease
in working capital principally reflects a reduction in cash and cash
equivalents. The payment of liabilities accrued at December 31, 1997,
principally those related to CanArgo's Lelyaki field oil and gas venture,
resulted in a $9,165,000 reduction in accrued liabilities from December 31, 1997
to December 31, 1998, which was largely offset by the utilization of $8,567,000
of restricted cash during 1998 to pay accrued liabilities.
As of March 31, 1999, CanArgo had a working capital deficit of $744,000,
compared to $1,366,000 of working capital as of December 31, 1998. The
$2,110,000 decrease in working capital from December 31, 1998 to March 31, 1999
principally reflects a reduction in cash and cash equivalents and an increase in
accounts payable.
Cash and cash equivalents decreased $12,239,000 during 1998 from $14,164,000 at
December 31, 1997 to $1,925,000 at December 31, 1998, primarily as a result of
expenditures on operating and investment activities and activities relating to
the business combination. Cash and cash equivalents at December 31, 1998
included $819,000 held by Ninotsminda Oil Company, to which CanArgo has limited
access. The utilization of cash during 1998 involved principally the following:
- - the net loss of $6,110,000 incurred in 1998, most of which involved cash
items;
- - the investment of $5,727,000 in oil and gas properties, principally the
Ninotsminda field;
31
<PAGE> 32
- - $1,652,000 of investments in and advances to oil and gas and other ventures,
principally the acquisition of minority interests in a refinery and a
proposed power generation project in the Republic of Georgia; and
- - $1,215,000 of capitalized acquisition costs related to the business
combination.
The use of cash to fund 1998 expenditures was partially offset by the release of
restrictions in 1998 that had applied to $1,133,000 of CanArgo's previously
restricted cash.
Cash and cash equivalents decreased $1,219,000 during the three months ended
March 31, 1999 from $1,925,000 at December 31, 1998 to $706,000 at March 31,
1999, primarily as a result of expenditures on operating activities. Cash and
cash equivalents at March 31, 1999 included $275,000 held by Ninotsminda Oil
Company, to which CanArgo has limited access.
Accounts receivable increased from nil at December 31, 1997, when the minimal
amount of accounts receivable were classified within other current assets, to
$424,000 at December 31, 1998. The increase is primarily as a result of $257,000
of accounts receivable relating to oil sales. In addition, $88,000 of
receivables which had previously been included within other current assets were
reclassified as accounts receivable at December 31, 1998. Accounts receivable
decreased from $424,000 at December 31, 1998 to $382,000 at March 31, 1999. The
decrease is primarily as a result of an allowance for doubtful accounts related
to prior oil sales.
Advances to operator increased from nil at December 31, 1997 to $377,000 at
December 31, 1998 as a result of advance payments made to the entity performing
the operations at the Ninotsminda field on behalf and at the direction of
CanArgo. Advances to operator decreased from $377,000 at December 31, 1998 to
$253,000 at March 31, 1999 as a result of expenditures by the entity performing
the operations at the Ninotsminda field on behalf and at the direction of
CanArgo.
Inventory increased from nil at December 31, 1997 to $170,000 at December 31,
1998 and to $298,000 at March 31, 1999, as result of placing a portion of
CanArgo's oil produced at the Ninotsminda field in storage to be available for
sale in the Georgian domestic or regional market or international markets. At
March 31, 1999, 91,000 barrels of oil were in storage. Inventories are valued at
the lower of cost or market.
Other current assets decreased from $762,000 at December 31, 1997 to $453,000 at
December 31, 1998, primarily as a result of:
- - the 1998 amortization of prepaid expenses amounting to $264,000;
- - the collection in 1998 of $234,000 on claims that had been included within
other current assets; and
- - the 1998 reclassification of $88,000 of accounts receivables previously
included in other current assets.
These reductions in other current assets were partly offset by the prepayment of
insurance premiums amounting to $131,000 in the third quarter of 1998 and 1998
deposits of $169,000. Other current assets decreased from $453,000 at December
31, 1998 to $301,000 at March 31, 1999, primarily as a result of the
amortization of prepaid expenses.
32
<PAGE> 33
The $8,671,000 decrease in current liabilities during the year ended December
31, 1998 is primarily attributable to a $9,165,000 decrease in accrued
liabilities. The decrease in accrued liabilities is, in turn, primarily
attributable to payment of liabilities accrued at December 31, 1997 relating to:
- - bank debt and related interest incurred by Kashtan Petroleum Ltd., the entity
operating the Lelyaki field project;
- - Lelyaki field project closedown costs;
- - employee termination costs; and
- - acquisition of oil field equipment.
These reductions in accrued liabilities in 1998 were partially offset by
accounts payable for which CanArgo became responsible as a result of the
business combination and those arising out of active operations which resumed
following completion of the business combination.
Property and equipment, net, increased from $5,942,000 at December 31, 1997 to
$6,202,000 at December 31, 1998 and to $6,260,000 at March 31, 1999, primarily
as a result of capitalized costs associated with moving two drilling rigs and
related equipment to the Republic of Georgia from Cyprus and the acquisition of
property and equipment in connection with the business combination.
Oil and gas properties, net increased from $1,479,000 at December 31, 1997 to
$30,138,000 at December 31, 1998 primarily as a result of the business
combination. The increase was partly offset by 1998 impairment write-downs of
the Sylvan Lake project aggregating $900,000 as a result of the quarterly
application of the full cost ceiling test in the context of a severe heavy oil
price decline in 1998. See Note 2 of Notes to Consolidated Financial Statements,
"Summary of Significant Accounting Policies -- Oil and Gas Properties," for a
description of the full cost ceiling test.
Oil and gas properties, net increased from $30,138,000 at December 31, 1998 to
$31,070,000 at March 31, 1999 primarily as a result of:
- - the evaluation of seismic data with respect to the Ninotsminda and Nazvrevi
fields for $400,000,
- - capitalization of $262,000 of Ninotsminda Oil Company general and
administrative expenses related to exploration and development activities,
and
- - acquisition of interests with respect to the Ninotsminda field for $110,000.
Investments in and advances to oil and gas and other ventures, net increased
from $5,387,000 at December 31, 1997 to $6,878,000 at December 31, 1998. The
increase reflects principally:
- - $1,004,000 of investment in and advances to Georgian American Oil Refinery;
- - $468,000 of investment in CanArgo Power Corporation, through which CanArgo is
participating in a start-up private power generation project in the Republic
of Georgia; and
- - $155,000 of advances to Boryslaw Oil Company, the entity developing the
Stynawske field project.
These investments and advances were partially offset by CanArgo's $161,000
equity in the loss incurred by Boryslaw Oil Company in 1998.
33
<PAGE> 34
Investments in and advances to oil and gas and other ventures, net increased
from $6,878,000 at December 31, 1998 to $7,049,000 at March 31, 1999. The
increase reflects principally advances of $97,000 to CanArgo Power Corporation
and advances of $96,000 to Boryslaw Oil Company. These investments and advances
were partially offset by CanArgo's $22,000 equity in the loss of Boryslaw Oil
Company in the three months ended March 31, 1999.
As of March 31, 1999 and December 31, 1998 and 1997, CanArgo had net investments
in and advances to Boryslaw Oil Company totaling $5,480,000, $5,406,000 and
$5,387,000, respectively. CanArgo has the responsibility for arranging financing
for this venture, and unless third-party financing can be arranged, CanArgo
might have to supply the capital to finance operations until the venture
generates positive cash flow. This would have the effect of increasing
investments in and advances to oil and gas and other ventures. The amount of
such advances may be greater than the amount of the Boryslaw Oil Company
operating losses recognized by CanArgo, which would cause such net investment
balances to increase. Such investments and advances at the initial stages of
development are essentially unevaluated oil and gas properties, and such costs
may not be recovered if the venture is not successful. No assurance can be given
that CanArgo will be able to arrange third-party financing for such venture,
that CanArgo will have sufficient resources to fund the capital and operating
needs of the venture, or that the venture will be successful.
CanArgo has the right to acquire an additional interest in Georgian American Oil
Refinery for approximately $860,000, which if acquired would result in an
increase in investments in and advances to oil and gas and other ventures during
1999.
Minority interest in subsidiaries at December 31, 1998 of $4,552,000, and at
March 31, 1999 of $4,465,000, relates to the 31.5% interest of the
non-controlling shareholder of Ninotsminda Oil Company.
RESULTS OF OPERATIONS
CanArgo has typically acquired its interests in oil and gas properties through
interests in joint ventures, partially owned corporate and other entities and
joint operating arrangements. CanArgo's interest in the assets and liabilities
of unconsolidated entities is reflected on CanArgo's consolidated balance sheet
on a net basis as investment in and advances to oil and gas ventures. CanArgo's
share of revenue, other income and expenses of unconsolidated entities is
reported in CanArgo's consolidated statement of operations as income or loss
from equity investment in oil and gas ventures. CanArgo's interest in the cash
flow of unconsolidated entities is reported in CanArgo's consolidated statement
of cash flows as distributions from or investment in or advances to oil and gas
ventures. Interests acquired in some joint ventures, partnerships and production
sharing, working interest and other arrangements are proportionately
consolidated. CanArgo will report the same stockholders' equity and net income
or loss whether it accounts for various oil and gas ventures using the equity
method or on a consolidated basis.
THREE MONTH PERIODS ENDED MARCH 31, 1999 AND 1998
CanArgo recorded operating revenue of $114,000 during the three month period
ended March 31, 1999 compared with $81,000 for the three month period ended
March 31, 1998. Ninotsminda Oil Company generated $68,000 of revenue in the
three month period ended March 31, 1999. Its net share of the 107,800 barrels of
gross production from the Ninotsminda field in the period amounted to 39,000
barrels. From its share, Ninotsminda Oil Company placed 31,431 barrels of oil
into storage to be held for sale into the Georgian
34
<PAGE> 35
local and regional market. Because lower transportation costs are involved,
CanArgo believes that sales of Ninotsminda oil to customers in the Georgian
local and regional market generally yield relatively higher net sales prices to
Ninotsminda Oil Company than sales to other customers. Net sale prices for
Ninotsminda oil sold during the first quarter of 1999 averaged $8.98 per barrel.
Oil production from the Sylvan Lake property in Alberta, Canada, accounted for
$46,000 of revenue in the three month period ended March 31, 1999 and
substantially all revenue for the three month period ended March 31, 1998.
The operating loss for the three month period ended March 31, 1999 amounted to
$926,000 compared with $3,025,000 for the corresponding period in 1998. The
decrease in the operating loss is attributable primarily to:
- - 1998 costs associated with CanArgo's involvement in some Eastern European oil
and gas ventures, which involvement CanArgo has effectively terminated,
- - 1998 costs associated with CanArgo's business combination with CanArgo Oil &
Gas Inc., and
- - the impairment of oil and gas properties which amounted to $800,000 in 1998.
Lease operating expenses decreased to $67,000 for the three month period ended
March 31, 1999 as compared to $100,000 for the three month period ended December
31, 1998. The decrease is primarily as a result of a lower level of operating
activity with respect to the Sylvan Lake property for the three month period
ended March 31, 1999, partially offset by the inclusion of Ninotsminda field
expenses.
Direct project costs decreased to $68,000 for the three month period ended March
31, 1999, from $539,000 for the three month period ended March 31, 1998,
reflecting 1998 costs associated with CanArgo's involvement in some Eastern
European oil and gas ventures, which involvement CanArgo has effectively
terminated. This decrease was partially offset by activity related to the
Ninotsminda field.
General and administrative costs decreased to $859,000 for the three month
period ended March 31, 1999, from $1,457,000 for the three month period ended
March 31, 1998. The decrease is primarily attributable to (a) 1998 costs
associated with CanArgo's involvement in some Eastern European oil and gas
ventures which involvement CanArgo has effectively terminated, and (b) 1998
costs associated with CanArgo's business combination with CanArgo Oil & Gas Inc.
This decrease was partially offset by the cost of activity related to the
Ninotsminda field.
The decrease in depreciation, depletion and amortization expense from $118,000
for the three month period ended March 31, 1998 to $25,000 for the three month
period ended March 31, 1999 is attributable principally to (a) the write-down of
the Sylvan Lake properties in 1998 and (b) a decrease in the number of barrels
of oil produced from the Sylvan Lake property for the three month period ended
March 31, 1999. These decreases were partially offset by depletion related to
Ninotsminda field oil production.
The equity loss from investments in unconsolidated subsidiaries decreased to
$22,000 for the three month period ended March 31, 1999, from $91,000 for the
three month period ended March 31, 1998 as a result of the substantially lower
level of activity conducted through unconsolidated subsidiaries in 1998. This
lower level of activity reflects the termination of CanArgo's involvement in the
development activities of some Eastern European oil and gas ventures conducted
through unconsolidated subsidiaries.
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During the three months ended March 31, 1998, CanArgo wrote down its oil and gas
properties in the Sylvan Lake project by an aggregate $800,000 as a result of a
substantial decline of heavy oil prices and the quarterly application of the
full cost ceiling test. There was no comparable write down during the three
months ended March 31, 1999.
CanArgo recorded net other expenses of $132,000 for the three months ended March
31, 1999, as compared to net other income of $207,000 during the three months
ended March 31, 1998. The principal reason for the decrease is lower interest
income as a result of lower cash balances for the three months ended March 31,
1999 compared to the same period for the previous year and the payment of a
facility fee pursuant to Ninotsminda Oil Company's $6,000,000 loan agreement
with the International Finance Corporation.
The net loss of $971,000 or $0.05 per share for the three month period ended
March 31, 1999 compares to a net loss of $2,818,000, or $0.25 per share for the
three month period ended March 31, 1998. As a result of the issuance of shares
in connection with the business combination, the weighted average number of
common shares outstanding was substantially higher during the three month period
ended March 31, 1999 than during the three month period ended March 31, 1998.
YEAR ENDED DECEMBER 31, 1998 COMPARED TO YEAR ENDED DECEMBER 31, 1997
CanArgo recorded operating revenue of $821,000 during the year ended December
31, 1998, compared with $313,000 for the year ended December 31, 1997.
Ninotsminda Oil Company generated $603,000 of 1998 revenue subsequent to the
consummation of the business combination in July 1998. Its net share of the
275,300 barrels of gross production from the Ninotsminda field subsequent to the
business combination amounted to 92,400 barrels of oil. From its share,
Ninotsminda Oil Company placed 41,700 barrels of oil into storage to be held for
sale into the Georgian local and regional market. Because lower transportation
costs are involved, CanArgo believes that sales of Ninotsminda oil to customers
in the Georgian local and regional market generally yield relatively higher net
sales prices to Ninotsminda Oil Company than sales to other customers. Sale
prices for Ninotsminda oil sold during the second half of 1998 averaged $10.63
per barrel.
Oil production from the Sylvan Lake property in Alberta, Canada accounted for
$202,000 of 1998 revenue and substantially all of 1997 revenue. CanArgo also
recorded a nominal amount of revenue during the year ended December 31, 1998
from the sale of electrically enhanced oil recovery equipment; there was no
revenue from the sale of such equipment for the year ended December 31, 1997.
CanArgo expects that revenue for 1999 should be substantially higher than in
1998, since Ninotsminda field operating results will be included for the full
twelve months and CanArgo has plans to increase Ninotsminda field production
substantially during 1999.
Prices for crude oil are subject to wide fluctuations in response to changes in
supply and demand and additional political, economic and other factors. The
significant decline in oil prices during 1998 adversely affected the results of
CanArgo's operations for that year. World oil prices are likely to have a
significant impact on CanArgo's revenue and operating profit or loss in 1999 and
subsequent years.
The operating loss for 1998 amounted to $6,488,000, compared with $29,090,000
for 1997. The decrease in the operating loss is attributable primarily to (a)
the impairment in 1997 of oil and gas ventures, oil and gas properties, property
and equipment and other assets which aggregated $19,424,000, and (b) a
$3,778,000 loss in 1997 representing CanArgo's equity in the loss of oil and gas
ventures. Both are associated with CanArgo's decision in
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1997 to effectively terminate its involvement in some Eastern European oil and
gas ventures and write off its investment related to them.
Lease operating expenses increased to $843,000 during 1998, as compared to
$200,000 for 1997, primarily as a result of the inclusion of Ninotsminda field
expenses subsequent to the business combination.
Direct project costs decreased to $1,157,000 in 1998 from $1,753,000 for 1997,
reflecting the 1997 termination of CanArgo's involvement in some Eastern
European oil and gas ventures. This decrease was partially offset by activity
related to the Ninotsminda field subsequent to the business combination.
The decrease in depreciation, depletion and amortization expense from $345,000
for 1997 to $239,000 during 1998 is attributable principally to the write-down
of proved properties in the Sylvan Lake area in the first and second quarter of
1998 as a result of a severe decline in the price of heavy oil and the quarterly
application of the full cost ceiling test. These write-downs had the effect of
reducing the per barrel depletion expense for oil produced at the Sylvan Lake
field. The decrease in 1998 depreciation, depletion and amortization expense
related to the Sylvan Lake write-downs was partially offset by depletion related
to Ninotsminda field oil production subsequent to the business combination and
to a 1998 increase in the number of barrels of oil produced from the Sylvan Lake
property.
The equity loss from investments in unconsolidated subsidiaries decreased to
$161,000 during 1998, from $3,778,000 for 1997, as a result of the substantially
lower level of activity conducted through unconsolidated subsidiaries in 1998.
The lower level of activity was due to the 1997 termination of development
activities of some Eastern European oil and gas ventures conducted through
unconsolidated subsidiaries.
During 1998, CanArgo wrote down its oil and gas properties in the Sylvan Lake
project by an aggregate $900,000 as a result of a substantial decline of heavy
oil prices and the quarterly application of the full cost ceiling test. If oil
prices decline further, CanArgo may experience additional impairments of these
or other properties. In 1998 CanArgo also wrote down the carrying value of oil
field camp equipment by $113,000 to its estimated recoverable amount. The
$1,013,000 in 1998 impairment expense compares to an aggregate of $19,424,000 of
impairment expense recorded in 1997.
CanArgo recorded net other income of $196,000 for 1998, as compared to
$1,202,000 during 1997. The principal reason for the decrease is CanArgo's 1998
payment of interest expense related to the Lelyaki field project. This was
partially offset by a reduction in the loss that CanArgo recorded on the
disposition of miscellaneous equipment and property, which dropped from $271,000
in 1997 to $30,000 in 1998.
The net loss of $6,110,000, or $0.39 per share, for 1998 compares to a net loss
of $27,683,000, or $2.47 per share, for 1997. As a result of the issuance of
shares in connection with the business combination, the weighted average number
of common shares outstanding was substantially higher during 1998 than during
1997.
YEAR ENDED DECEMBER 31, 1997 COMPARED TO YEAR ENDED AUGUST 31, 1996
CanArgo recorded operating revenue of $313,000 during the year ended December
31, 1997 compared with $35,000 for the year ended August 31, 1996. Revenue in
both years was related to a modest amount of oil and gas production from
property in Alberta, Canada in which CanArgo has interests. The 1997 production
was generated primarily at the Sylvan Lake property in which CanArgo acquired an
interest in 1997.
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CanArgo incurred an operating loss of $29,090,000 for the year ended December
31, 1997, compared to an operating loss of $5,640,000 for the year ended August
31, 1996. The increase in the operating loss is attributable primarily to (a)
the impairment of oil and gas ventures, oil and gas properties, and property and
equipment and other assets which aggregated $19,424,000 in 1997, and (b) a
$3,778,000 loss representing CanArgo's equity in the loss of oil and gas
ventures. There were no comparable impairment charges in fiscal 1996, and in
that year, CanArgo's equity in the loss of oil and gas ventures was $13,000.
Lease operating expenses increased to $200,000 in 1997, as compared to $11,000
in fiscal 1996, primarily as a result of CanArgo's acquisition of an interest in
the Sylvan Lake property in early 1997. 1997 direct project costs increased
$485,000 from the $1,268,000 experienced during the fiscal year ended August 31,
1996, reflecting principally (a) the higher level of project activity and (b)
the inability of CanArgo to recoup from Kashtan some expenses related to the
Lelyaki field project incurred during December 1997.
General and administrative expenses in the years ended December 31, 1997 and
August 31, 1996 were comparable. The level of general and administrative expense
is expected to decrease during 1998, at least prior to the consummation of the
business combination with CanArgo Oil & Gas Inc. The increase in depreciation
and amortization expense from $77,000 in the year ended August 31, 1996 to
$345,000 in the year ended December 31, 1997 is attributable principally to the
increased production of oil.
During the year ended December 31, 1997, CanArgo recognized an aggregate of
$19,237,000 in losses as a result of the impairment of long-lived assets, as
compared to an impairment loss of $420,000 for the year ended August 31, 1996.
Impairment of the ventures operating the Lelyaki, Maykop and Gorisht-Kocul field
projects resulted in a combined loss of $15,736,000. The impairment of drilling
rigs and related equipment originally intended to be utilized in the Maykop
field project and some office furniture, fixtures and equipment resulted in a
loss of $3,244,000. The remaining investment in the Rocksprings property, which
was carried in CanArgo's December 31, 1996 balance sheet as a $257,000
unevaluated oil and gas property, was recognized as impaired in 1997. The
remaining assets impaired during 1997 were notes receivable from the entity that
sold to CanArgo its principal interest in the Lelyaki field project, as to which
there were doubts regarding collectability.
In 1997, CanArgo recorded total other income of $1,202,000, as compared to total
other expense of $854,000 in the year ended August 31, 1996. Interest income
increased to $1,615,000 for the year ended December 31, 1997 from $332,000 for
the year ended August 31, 1996 due to higher average cash and cash equivalent
investments. Interest expense decreased from $1,016,000 for the year ended
August 31, 1996, when CanArgo recorded amortization of financing costs, discount
and interest related to CanArgo's 8% Convertible Subordinated Debentures, to
$69,000 for calendar 1997. In both 1997 and fiscal 1996, CanArgo recorded losses
from the sale of miscellaneous equipment and property amounting to $271,000 and
$182,000, respectively.
The net loss of $27,683,000, or $2.47 per share, in 1997 compares to a net loss
of $6,494,000, or $1.04 per share, in the fiscal year ended August 31, 1996. The
disproportionate losses per share are attributable to CanArgo's issuance of
additional shares subsequent to August 31, 1996. These share issuances resulted
in a substantially higher weighted average number of common shares outstanding
during the year ended December 31, 1997.
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FOUR MONTHS ENDED DECEMBER 31, 1996 COMPARED WITH FOUR MONTHS ENDED DECEMBER 31,
1995
CanArgo recorded an operating loss of $2,983,000 during the four month period
ended December 31, 1996 compared with $1,470,000 for the same 1995 period. The
increased loss resulted from an increase of approximately $1,357,000 of equity
loss from investments in unconsolidated subsidiaries primarily associated with
the activities of CanArgo's oil and gas ventures in Eastern Europe.
General and administrative expenses for the four month period ended December 31,
1996 amounted to $1,282,000, reflecting a modest decrease from the $1,303,000
for the comparable 1995 period. For the 1995 period, general and administrative
costs included a charge for external services for public relations activities of
a non-recurring nature. The decrease in the 1996 period for such expense was
substantially offset by increases in salaries and other administrative costs
related to the build-up of staff associated with the projects in Eastern Europe.
General and administrative expense is net of $1,220,000 and $320,000 capitalized
pursuant to full cost accounting rules during the four month period ended
December 31, 1996 and 1995, respectively.
Interest income increased to $424,000 for the four month period ended December
31, 1996 from $55,000 in the comparable period for the prior year due to higher
average cash investments. Interest expense increased to $13,000 for the four
month period ended December 31, 1996 from $3,000 in the comparable period for
the prior year due to the amortization of financing costs and interest related
to CanArgo's debentures and financing of insurance premiums.
YEAR 2000 COMPLIANCE
The year 2000 problem is the result of computer programs being written using two
digits to define the applicable year. If not corrected, any programs or
equipment that have time sensitive components could fail or produce erroneous
results. CanArgo has completed a review of its existing information technology
and non-information technology systems and has upgraded its accounting
information systems to software that the developer represents to be year 2000
compliant. Except for a limited number of desktop computers utilized by CanArgo
which CanArgo intends to replace, CanArgo believes that the software and
hardware currently used by CanArgo, including oil field production equipment is
year 2000 compliant. The cost of replacing the desktop computers is expected not
to exceed $25,000. Although CanArgo does not expect to incur significant
additional expenditures to address year 2000 issues, there can be no assurance
that this will be the case.
CanArgo has identified several significant suppliers of goods and services,
primarily in the banking, transportation, refining and communication sectors,
whose inability or failure to become year 2000 compliant in a timely manner
could have a material adverse effect on CanArgo's business, financial condition,
results of operations or cash flows. CanArgo has reviewed information from these
suppliers, where available, with respect to their year 2000 compliance status
and continues to monitor their progress. While disruptions to the local power
grid as a result of the year 2000 problem and other problems could interfere
with CanArgo's ability to produce oil and continue development activities at the
Ninotsminda field, CanArgo anticipates that the planned addition later this year
of independent power generation capability at the Ninotsminda field, if
accomplished, will substantially mitigate that risk and enable CanArgo to at
least produce and store oil. Because of uncertainties, however, the actual
effects of the year 2000 problem on CanArgo may be different from its current
assessment. Should remedial efforts be required, the inability of CanArgo or its
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principal suppliers to become year 2000 compliant in a timely manner could
impact CanArgo's ability to produce, sell and receive payment for its crude oil
on a timely basis and could have a material adverse effect on CanArgo's
business, financial condition, results of operations or cash flows.
NEW ACCOUNTING STANDARDS
In 1997, the Financial Accounting Standards Board issued Statement of Financial
Accounting Standards No. 130, Reporting Comprehensive Income, and SFAS No. 131,
Disclosure about Segments of an Enterprise and Related Information, both of
which were adopted in 1998 without having any material effect on CanArgo's
financial statements. In 1998, FASB issued SFAS No. 133, Accounting for
Derivative Instruments and Hedging Activities, which will be adopted in the 1999
annual financial statements and based on present circumstances would not have
any material effect on CanArgo's financial statements.
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BUSINESS
GENERAL DEVELOPMENT OF CANARGO'S BUSINESS
CanArgo Energy Corporation was formed in 1994 to continue, through
reincorporation in Delaware, the business of a predecessor Oklahoma corporation
which was formed in 1980. CanArgo changed its name from Fountain Oil
Incorporated to CanArgo Energy Corporation in connection with a business
combination with CanArgo Oil & Gas Inc. completed on July 15, 1998. CanArgo
conducts its principal operations through subsidiaries, and unless otherwise
indicated by the context, the term CanArgo refers to CanArgo Energy Corporation
and its consolidated subsidiaries.
CanArgo initially operated as an oil and gas exploration and production company.
It altered its principal focus to the application of electrically enhanced heavy
oil recovery technology in 1988, and that focus continued through 1994. In early
1995, CanArgo shifted its principal activities to acquiring and developing
interests in Eastern European oil and gas properties. From 1995 to 1997, CanArgo
established significant ownership interests in four Eastern European oil and gas
development projects. As a result of disappointing results and other negative
indications, CanArgo during the fourth quarter of 1997 wrote off its entire
investments in three of those four projects and began actively to seek a
business combination or similar transaction with another oil and gas company.
As a result of this effort, CanArgo entered into a business combination with
CanArgo Oil & Gas Inc. Upon completion of the business combination in July 1998,
CanArgo Oil & Gas Inc. became a subsidiary of CanArgo, the management of CanArgo
Oil & Gas Inc. assumed the senior management positions in CanArgo, and CanArgo
changed its name from Fountain Oil Incorporated to CanArgo Energy Corporation.
At the time of the business combination, the principal operations and assets of
CanArgo Oil & Gas Inc. were associated with the producing Ninotsminda oil field
in the Republic of Georgia.
CanArgo's principal activity is the rehabilitation and development of oil and
gas fields with a productive history that indicate the potential for increased
production through the application of modern production techniques. CanArgo is
producing crude oil at the Ninotsminda field in Georgia through a 68.5% owned
subsidiary, Ninotsminda Oil Company Limited. CanArgo is currently directing most
of its efforts and resources to the development of the Ninotsminda field.
CanArgo also has interests in other oil and gas fields in Georgia and Ukraine
that it intends to rehabilitate and develop, provided sufficient resources are
available to support these efforts. In addition, CanArgo has interests in
properties at which it may engage in exploratory drilling in an effort to
establish the existence of oil and gas fields which CanArgo could then develop.
CanArgo also owns interests in other Eastern European oil and gas projects which
CanArgo is not actively pursuing, and holds interests in small oil and gas
properties in North America, some of which are producing modest amounts of oil
and gas. CanArgo's principal product is crude oil, and the sale of that oil is
its principal source of revenue.
CanArgo's oil and gas development and production activities are subject to
various risks and uncertainties which are discussed under "Risk Factors" and
"Forward-Looking Statements."
NINOTSMINDA OIL FIELD
Since completion of the business combination with CanArgo Oil & Gas Inc.,
CanArgo's resources have been focused on the development of the Ninotsminda oil
field and some associated activities. The Ninotsminda oil field covers some
2,500 acres and is located
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forty kilometers east of the Georgian capital, Tbilisi. It is adjacent to and
west of the Samgori oil field, which is Georgia's most productive oil field. The
Ninotsminda field was discovered later than the Samgori field and has
experienced substantially less development activity. The state oil company,
Georgian Oil, and others including CanArgo have drilled sixteen wells in the
Ninotsminda field, of which seven are currently classified as producing. Three
of the seven wells classified as producing are presently shut-in while
undergoing or awaiting rehabilitation, and production from the remaining four
wells currently is approximately 1,200 barrels of oil per day.
BUSINESS STRUCTURE
CanArgo's activities at the Ninotsminda oil field are conducted through
Ninotsminda Oil Company Limited, a 68.5% owned subsidiary. In November 1998,
CanArgo increased its percentage ownership of Ninotsminda Oil Company from 55.9%
to 68.5% when the other shareholder of Ninotsminda Oil Company chose not to
subscribe for its pro rata portion of shares being offered to increase
Ninotsminda Oil Company's capital. During 1998, CanArgo invested $6,394,000 of
cash in Ninotsminda Oil Company and, in addition, capitalized an aggregate of
$1,164,000 in loans and accrued interest. If the other shareholder of
Ninotsminda Oil Company declines to provides its pro rata share of required
capital in the future, CanArgo may have to provide a disproportionate share of
the capital Ninotsminda Oil Company requires, if those capital requirements are
to be met. This would result in an increase in CanArgo's percentage ownership of
Ninotsminda Oil Company. At the present time, Ninotsminda Oil Company does not
have any plans to increase its capital.
Ninotsminda Oil Company obtained its rights to the Ninotsminda field, including
all existing wells, and two other fields under a 1996 production sharing
contract with Georgian Oil. Ninotsminda Oil Company's rights under the agreement
expire in December 2019, subject to the possibility of extending such rights
with regard to producing areas. Under the production sharing contract,
Ninotsminda Oil Company is required to relinquish at least half of the area then
covered by the production sharing contract, but not any portions being actively
developed, at five year intervals commencing December 1999. CanArgo is
discussing a possible deferral of the initial relinquishment to 2004 with the
Georgian authorities. No assurance can be given that a deferral will be granted.
Under the production sharing contract, Georgian Oil has a priority right to
receive oil representing a projection of what the Ninotsminda field would have
yielded through 2001 based upon the wells and equipment in use at the time the
contract was entered into. The priority right amounts to approximately:
- - 542 barrels of oil per day during 1999;
- - 280 barrels of oil per day during 2000;
- - 93 barrels of oil per day during 2001; and
- - No barrels of oil per day after 2001.
Of the remaining production, up to 50% will be allocated to Ninotsminda Oil
Company for the recovery of the cumulative capital and operating costs
associated with the Ninotsminda field, which Ninotsminda Oil Company initially
pays. The balance of production is allocated on a 70/30 basis between Georgian
Oil and Ninotsminda Oil Company. Thus, while Ninotsminda Oil Company continues
to have unrecovered costs, it will receive 65% of production in excess of the
oil allocated to Georgian Oil on a priority basis with
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respect to projected base production. For example, the current production of
approximately 1,200 barrels per day is allocated as follows:
- - 542 barrels to Georgian Oil on a priority basis;
- - 329 barrels, representing 50% of the remaining 658 barrels, to Ninotsminda
Oil Company for its unrecovered costs;
- - 230 barrels to Georgian Oil, representing 70% of the balance; and
- - 99 barrels to Ninotsminda Oil Company, representing 30% of the balance.
After recovery of its cumulative capital and operating costs, Ninotsminda Oil
Company will receive 30% of production after Georgian Oil's priority allocation,
which would be 197 barrels based on the example above. The allocation of a share
of production to Georgian Oil relieves Ninotsminda Oil Company of all
obligations it would otherwise have to pay taxes and similar levies to the
Republic of Georgia with respect to Ninotsminda field operations.
Georgian Oil and Ninotsminda Oil Company take their respective shares of
production in kind, and they market their oil separately.
Pursuant to the terms of the production sharing contract, a local, Georgian
company must be appointed as field operator. The field operator provides the
operating personnel and is responsible for day-to-day operations. Ninotsminda
Oil Company pays the operating company's expenses associated with the
development of the Ninotsminda field, and the operating company performs on a
non-profit basis. The Georgian company serving as Ninotsminda field operator has
eighty-eight full time employees, and substantially all of its activities relate
to the development of the Ninotsminda field. The use of the Georgian company as
field operator gives Ninotsminda Oil Company less control of operations than it
might have if it were conducting operations directly.
Ninotsminda field operations are determined by a governing body composed of
members designated by Georgian Oil and Ninotsminda Oil Company, with the
deciding vote allocated to Ninotsminda Oil Company. If Georgian Oil believes
that action proposed by Ninotsminda Oil Company with which Georgian Oil
disagrees would result in permanent damage to a field or reservoir or in a
material reduction in production over the life of a field or reservoir, it may
refer the disagreement to an independent expert for binding resolution.
OIL FIELD DEVELOPMENT
Ninotsminda Oil Company assumed developmental responsibility for the Ninotsminda
field in 1996, when production was minimal. CanArgo believes that the
development and productivity of the Ninotsminda field had in the past been
hampered by, among other factors, a lack of funding, civil strife and
utilization of non-optimal technology.
Ninotsminda Oil Company's initial approach to Ninotsminda field development
involved rehabilitating and adding additional perforations to existing wells,
and this program is continuing. In 1997, Ninotsminda Oil Company commenced a
drilling program, which has involved three wells thus far. The first was
completed in October 1997. Under normal production conditions, this well was
producing at the rate of 400 to 600 barrels of oil per day but is currently
shut-in for maintenance activities. The second well was completed in October
1998. While further testing and stimulation of this well are planned prior to
placing it on production, CanArgo believes that the second well will be less
productive than the first based on preliminary test data. The drilling of the
third well was suspended
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in December 1998 at a depth of 700 meters as a result of undependable electrical
supply and is expected to resume in the summer of 1999 when the electrical
supply is expected to improve. The lack of a reliable power supply during the
winter has also caused delays in the testing of the second well and in the
continuing field rehabilitation program. Ninotsminda Oil Company expects that
the electrical supply problem will be resolved or mitigated if and when a
planned gas-fired, electric generating power plant near Ninotsminda commences
operations. See "Ancillary Ninotsminda Area Projects -- Electrical Power
Generation," which discusses CanArgo's investment in a private power generation
project in the Ninotsminda area which, when operational, should increase the
supply of power available to the Ninotsminda field development program.
During 1997 and 1998, Ninotsminda Oil Company acquired additional seismic data
about the Ninotsminda field, which CanArgo believes will be useful in selecting
additional drilling sites. Drilling sites tentatively selected by Ninotsminda
Oil Company must be approved by Georgian regulatory authorities before drilling
may commence.
To date, exploration and production at the Ninotsminda field have focused on one
zone. There is, however, a second zone, from which oil has been produced in one
well, that Ninotsminda Oil Company intends to examine. In addition, the
Ninotsminda field has a gas cap above the principal producing zone, which could
be a natural gas reservoir from which commercial production could be established
if there were a market for Ninotsminda field natural gas. See "Potential Gas
Development" for a discussion of the possible creation of a market for
Ninotsminda field natural gas and the possible evaluation by CanArgo of the
prospects for natural gas production from the Ninotsminda field. Since a gas cap
can, under some circumstances, aid in the production of crude oil, any
evaluation of the possibility of commencing production from the gas cap would
have to take into consideration the expected impact of natural gas production on
the production of crude oil.
Ninotsminda Oil Company's current development program for oil is defined in a
schedule to Ninotsminda Oil Company's loan agreement with the International
Finance Corporation discussed below. The program described in the schedule
covers a period that began in 1998 and will extend into 2000. The principal
elements of the current development program include:
- - Drilling and testing five new wells, of which one has been completed and a
second has been started; one or more of the wells are expected to be drilled
as horizontal wells;
- - An extensive program for rehabilitating and maintaining existing wells,
including major rehabilitations of at least nine additional wells, of which
four have been completed; major rehabilitations involve such actions as gas
and water isolation procedures, reperforation of existing casings and
application of stimulation techniques;
- - Acquisition and analysis of additional seismic data, which has largely been
completed; and
- - Installation of additional facilities designed to support increased
production to at least the level of 4,500 barrels of oil per day.
The current development program is expected to cost approximately $18.9 million,
of which CanArgo estimates approximately one-half had been expended prior to
March 31, 1999. CanArgo believes that the $6 million loan from the International
Finance Corporation and the $2 million subordinated loan from CanArgo to
Ninotsminda Oil Company, both of which are discussed below, will provide most of
the funds required to complete the current development program. Completion is
anticipated by mid-2000,
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provided that funding through the IFC loan and the subordinated loan from
CanArgo is made available to Ninotsminda Oil Company by June 30, 1999. A
principal use of the proceeds of this offering is to fund the subordinated loan,
which must be in place before disbursements will be made under the IFC loan.
The objective of the current development plan for the Ninotsminda field is to
increase the field's production level to 4,500 barrels of oil per day. The
minimum work program is designed to produce proven non-producing reserves and to
develop a portion of undeveloped reserves. Ninotsminda Oil Company's ability to
complete the program successfully and reach that production level is subject to
many risks, including those described in "Risk Factors." No assurances can be
given that the current development program for the Ninotsminda field will be
successfully completed or that the 4,500 barrels of oil per day production level
will be achieved.
The extent, cost and timing of a full Ninotsminda field development plan are
highly speculative and will depend significantly upon the results of the current
development program. CanArgo currently projects that the full Ninotsminda field
development plan for oil would involve the drilling of nine additional wells,
would cost an additional $16 million, and would require two to three years to
complete. Ninotsminda Oil Company could require substantial additional funding
to be able to implement this plan immediately following completion of the
current development plan. It is unlikely CanArgo could provide this funding
unless CanArgo itself obtained substantial additional funding.
INTERNATIONAL FINANCE CORPORATION LOAN
In December 1998, Ninotsminda Oil Company entered into a convertible loan
agreement with International Finance Corporation, an affiliate of the World
Bank. Pursuant to the loan agreement, IFC agreed under specified conditions to
lend $6 million to Ninotsminda Oil Company primarily to fund the Ninotsminda
field current development program. IFC has the right, upon notice to CanArgo, to
terminate its loan commitment if, among other things, the first disbursement
under the loan agreement is not made by June 30, 1999, or such other date as IFC
and CanArgo agree. IFC has no obligation to disburse funds after June 29, 2000.
Ninotsminda Oil Company is required to repay the loan in five semi-annual
payments of $1.2 million each commencing December 2001. Ninotsminda Oil Company
has pledged substantially all of its assets to IFC to secure the loan.
The loan will bear interest at LIBOR plus 3%. LIBOR is currently approximately
5% per year. In addition, Ninotsminda Oil Company has paid to IFC a facility fee
of $60,000 and will pay a commitment fee equal to 1/2 of 1% per annum on the
portion of the $6 million that has not been disbursed.
Both the initial disbursement of the loan and each subsequent disbursement are
subject to a large number of conditions. The conditions applicable to all
disbursements include:
- - The maintenance of specified financial ratios by Ninotsminda Oil Company,
which it currently would meet assuming a successful draw-down on the loan,
including:
-- a debt-to-equity ratio that does not exceed 1:1; and
-- a ratio of the present value of projected future cash flows from proved
reserves to outstanding long-term indebtedness that exceeds 1.6:1;
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<PAGE> 46
- - The absence of any material adverse changes in Ninotsminda Oil Company's
financial condition or business prospects; and
- - Ninotsminda Oil Company's reaffirmance of various representations and
warranties on and as of the date of disbursement.
Before IFC will advance the initial funds to Ninotsminda Oil Company, additional
significant conditions must be satisfied. Among the important conditions to the
first disbursement are:
- - The shareholders of Ninotsminda Oil Company must provide a $2 million
subordinated loan to Ninotsminda Oil Company; since the other shareholder has
indicated that it will not participate in such a loan, this is effectively a
condition that CanArgo provide the $2 million loan;
- - Evidence has been presented to IFC that Ninotsminda Oil Company has received
at least $10 million from its shareholders since the beginning of 1998 in the
form of equity contributions and the $2 million subordinated loan, which
either has been expended on the Ninotsminda field current development program
or is held in a cash account; and
- - IFC has received favorable legal opinions on a variety of matters relating to
the loan.
No assurances can be given that the conditions to disbursement will be satisfied
or, if not satisfied, waived, or that the IFC will fund all or any part of the
$6,000,000 loan.
The IFC has the right under the loan agreement to convert all or part of the
loan into common shares of Ninotsminda Oil Company. If the entire $6,000,000
loan were converted, IFC would receive shares representing 20% of the equity of
Ninotsminda Oil Company. This would reduce CanArgo's percentage ownership of
Ninotsminda Oil Company from 68.5% to 54.8% but would leave Ninotsminda Oil
Company as a consolidated subsidiary of CanArgo. The conversion right remains in
effect until approximately three months after:
- - The completion of the current development program for the Ninotsminda field;
- - The achievement of sustained production of at least 4,500 barrels of oil per
day; and
- - The completion of various procedural requirements.
CanArgo has provided a partial guaranty of the IFC loan to Ninotsminda Oil
Company and has pledged the shares of Ninotsminda Oil Company stock that it owns
to secure its guaranty obligation. Under the guaranty, CanArgo will be
responsible for the first $4.1 million of guaranteed indebtedness and related
monetary obligations of Ninotsminda Oil Company to IFC under the loan agreement
and 68.5% of any such guaranteed obligations in excess of $6 million.
If IFC converts the loan into Ninotsminda Oil Company stock, it has the right to
require CanArgo and the other shareholder of Ninotsminda Oil Company to purchase
a portion of the shares IFC acquires through conversion. The purchase price for
those shares shall be based on the greater of the cost of those shares to IFC
plus interest and the portion of Ninotsminda Oil Company net asset value
attributable to those shares. CanArgo is obligated to purchase all shares that
IFC may require the existing shareholders of Ninotsminda Oil Company to purchase
until it has spent $4,100,000 on those purchases. Then CanArgo must purchase
68.5% of all shares that IFC may require the existing shareholders of
Ninotsminda Oil Company to purchase after an aggregate of $6 million has
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<PAGE> 47
been spent on those purchases. The repurchase obligation will terminate no later
than December 31, 2007.
PROCESSING, SALE AND CUSTOMERS
Georgian Oil built a considerable amount of infrastructure in and adjacent to
the Ninotsminda field prior to entering into the production sharing contract
with Ninotsminda Oil Company. Those infrastructure improvements, including
initial processing equipment, are now used by Ninotsminda Oil Company.
The mixed oil and water fluid produced from the Ninotsminda field wells flows
into a two-phase separator located at the Ninotsminda field, where gas
associated with the oil is separated. The oil and water mixture is then
transported eleven kilometers in a pipeline to Georgian Oil's central processing
facility at Sartichala for further treatment. The gas is transported to
Sartichala in a separate pipeline where some of the gas is used for fuel and the
rest is currently flared.
At Sartichala, the water is separated from the oil. Ninotsminda Oil Company then
sells this oil to buyers at Sartichala, and the buyers at that point assume
responsibility for the oil. The buyers, at their own risk and cost, generally
transport the oil 20 kilometers by pipeline to a railhead at Ghaciani. At the
railhead, the oil is loaded into railcars for transport directly to the buyers
or their customers or to the Black Sea port of Batumi, Georgia, where oil can be
loaded onto tankers for international shipment.
Ninotsminda Oil Company sells its oil directly to local and international
buyers. Ninotsminda Oil Company sold all of its 1997 production to one buyer,
Glencore International AG, an international trading company. In 1998,
Ninotsminda Oil Company sold its production to three customers as follows:
<TABLE>
<CAPTION>
CUSTOMER PERCENTAGE OF PRODUCTION
- -------- ------------------------
<S> <C>
Sis Plus 7 Ltd........................................... 35.9%
Glencore International AG................................ 34.4
Navtobi Ltd.............................................. 29.7
</TABLE>
The price received for oil by Ninotsminda Oil Company has generally been
negotiated on the basis of the European spot price for Brent grade crude oil,
less discounts for transportation and related charges. The price received by
Ninotsminda Oil Company has ranged from the full Brent price to Brent minus
$5.83 per barrel. The average discount from Brent prices was less in 1998 than
1997, as buyers have begun to purchase oil from Ninotsminda Oil Company for use
in Georgia and neighboring countries and have accordingly faced smaller
transportation costs. Ninotsminda Oil Company now maintains an inventory of oil
available for local, regional and international buyers principally on cash
payment terms.
International trading companies have generally been willing to purchase
Ninotsminda field crude oil at a net price based on the formula of the then
current Brent price less a discount for transportation and related charges,
without regard to shifts in the absolute level of the Brent spot price. CanArgo
has observed, however, that as the Brent price has risen substantially during
March and April 1999, local and regional buyers have resisted paying the net
price based on that formula and have sought a greater discount. Local and
regional buyers generally incur small transportation charges and at relatively
low Brent prices have been offering the highest net price for Ninotsminda field
oil. During the three months ended January 1999, the average per barrel discount
from the spot price for Brent
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grade crude oil granted by CanArgo was approximately $1.50, as sales were made
principally to local and regional buyers during a period of relatively low Brent
prices.
CanArgo expects that it will experience a higher average discount from the Brent
spot price while the spot price remains at levels well above recent lows,
because it expects that it will be selling crude oil either (a) to local and
regional buyers who will demand a discount greater than their actual
transportation and related charges or (b) to international buyers who will be
facing higher transportation charges than the local and regional buyers. CanArgo
believes that the loss of one or more of its current customers would not result
in any significant delay in the sale of the crude oil produced from the
Ninotsminda field, but could result in lower selling prices.
In order for Ninotsminda Oil Company to cover production and depletion expenses
under its production sharing contract at its current production level of
approximately 1,200 barrels per day, it needs to realize a net price of
approximately $10.00 per barrel. The Brent spot price was $14.65 per barrel on
May 12, 1999, but very recently it was substantially below that level. The
highest discount Ninotsminda Oil Company has granted is $5.83 per barrel. No
assurances can be given that oil prices will be at a level that will enable
Ninotsminda Oil Company to cover its production and depletion expenses. See
"Risk Factors" for information about the effects of fluctuations in oil prices.
PRODUCTION HISTORY
The Ninotsminda field was discovered, and initial development began, in 1979.
Ninotsminda field is currently producing approximately 1,200 barrels per day of
oil, plus associated gas, primarily from four wells. Ninotsminda Oil Company's
share of this production, after Georgian Oil's share, is approximately 428
barrels per day. Gross production from the Ninotsminda field for the past three
years was as follows:
<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31 OIL - GROSS BARRELS
- ---------------------- -------------------
<S> <C>
1998........................................................ 554,633
1997........................................................ 639,910
1996........................................................ 515,000
</TABLE>
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RESERVES
The following table summarizes net hydrocarbon reserves for the Ninotsminda oil
field, which are the only significant reserves for CanArgo. This information is
derived from a report effective as of January 1, 1999 prepared by AMH Group
Ltd., independent petroleum consultants. This report is available for inspection
during regular business hours at CanArgo's principal executive offices, Suite
1580, 727 - 7th Avenue, S.W., Calgary, Alberta T2P 0Z5, and at the Oslo Stock
Exchange, Tollbugaten 2, 0105 Oslo, Norway.
<TABLE>
<CAPTION>
PSC ENTITLEMENT VOLUMES(1)
--------------------------------------
OIL RESERVES NINOTSMINDA OIL CANARGO SHARE OF
---------------- COMPANY NINOTSMINDA OIL
GROSS NET(2) ENTITLEMENT COMPANY ENTITLEMENT
------ ------ --------------- -------------------
(IN THOUSANDS OF BARRELS)
<S> <C> <C> <C> <C>
Proved Producing......... 2,404 1,647 1,340 918
Proved Non-Producing..... 1,379 945 890 610
Proved Undeveloped....... 15,200 10,412 8,783 6,016
------ ------ ------ -----
Total Proven............. 18,983 13,004 11,013 7,544
====== ====== ====== =====
</TABLE>
- -------------------------
(1) PSC Entitlement Volumes are those produced volumes which, through the
production sharing contract, accrue to the benefit of Ninotsminda Oil
Company and, as a result of CanArgo's interest in Ninotsminda Oil Company,
accrue to the benefit of CanArgo for the recovery of capital, repayment of
operating costs and share of profit.
(2) Net Oil Reserves represent CanArgo's 68.5% share of Ninotsminda Oil
Company's interest under the production sharing contract in the gross
reserves, before taking into account the interest of Georgian Oil.
Proved reserves are those reserves estimated as recoverable under current
technology and existing economic conditions from that portion of a reservoir
which can be reasonably evaluated as economically productive. This evaluation is
based on an analysis of drilling, geological, geophysical and engineering data,
including the reserves to be obtained by enhanced recovery processes
demonstrated to be economically and technically successful in the subject
reservoir. Proved reserves includes proved producing reserves, proved
non-producing reserves and proved undeveloped reserves.
Proved producing reserves are those proved reserves that are actually on
production or, if not producing, that could be recovered from existing wells or
facilities and where the reasons for the current non-producing status is the
choice of the owner rather than the lack of markets or some other involuntary
reason. An illustration of such a situation is where a well or zone is capable
but is shut-in because its deliverability is not required to meet commitments.
1998 production was 554,633 barrels.
Proved non-producing reserves are reserves that are expected to be recovered
from producing zones in existing well bores open at the time of the reserve
estimate, but production is not occurring for mechanical reasons or the lack of
maintenance-type rehabilitation. Although these reserves are currently not
producing, they are expected to be producing in the short-term. For example, due
to general well rehabilitation program delays, several wells were shut-in or
remained shut-in during 1998, and reserves expected to be produced from these
wells are classified as proved non-producing reserves.
Proved undeveloped reserves are proven reserves that are expected to be
recovered from new wells on undrilled acreage, or from existing wells where
relatively major expenditures are required for the completion of these wells or
for installation of processing and gathering facilities prior to the production
of these reserves. Reserves on undrilled acreage are
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limited to those drilling units offsetting productive wells that are reasonably
certain of production when drilled.
The evaluation by AMH represents the efforts of AMH to predict the performance
of the oil recovery project using their expertise and the available data at the
effective date of their report. There has been no material change in the
available data since that date. Considerable uncertainty exists in the
interpretation and extrapolation of existing data for the purposes of projecting
the ultimate production of oil from underground reservoirs and the corresponding
future net cash flows associated with that production. The process of estimating
quantities of proved crude oil, and the subcategories thereof, is very complex.
The estimating process requires significant subjective decisions relating to the
evaluation of all available geological, engineering and economic data for each
reservoir. The data for a given reservoir may change substantially over time as
a result of such factors as additional development activity, evolving production
history and changing economic conditions. No assurance can be given that the
projections included in the report by AMH will be realized.
POTENTIAL GAS DEVELOPMENT
CanArgo has recently become involved in three-party discussions involving the
electric utility serving the Tbilisi region, which was recently purchased by an
American utility company, and an entity that generates electricity in the
Tbilisi region. The transactions being discussed would involve:
- - the sale of natural gas by CanArgo to the generator of the electricity,
- - the sale of electricity by the generator to the utility,
- - the payment by the utility directly to CanArgo of the price of the natural
gas utilized to generate the electricity, and
- - the payment by the utility to the generator of the balance of the price for
the electricity provided.
The subjects being discussed include the volume of gas required and the price to
be paid for it. CanArgo cannot assure investors that these discussions will
result in the development of the Ninotsminda field gas reserves or that CanArgo
will sell any natural gas in connection with these potential transactions.
A well was put on flow on June 3, 1999 to clean up and test the well. Over a 24
hour period the well flowed at a stabilized rate of 15 million cubic feet per
day. CanArgo cannot assure investors that this flow rate from the well will be
sustainable. CanArgo has not yet fully evaluated the Ninotsminda field gas
reserves or the economics of producing that gas. Most of the gas that is now
produced incidentally with Ninotsminda field oil is currently being flared.
CanArgo expects that in the near future the gas being produced incidentally with
the oil will be utilized by a private power generation operation to be
established at Ninotsminda.
OTHER FIELDS AND PROSPECTS UNDER 1996 PRODUCTION SHARING CONTRACT
Ninotsminda Oil Company has rights to one other field, West Rustavi, and one
prospect, Manavi, in addition to the Ninotsminda field, under the 1996
production sharing contract.
The West Rustavi field is located some 40 km southeast of Ninotsminda. Ten wells
were drilled by Georgian Oil in the West Rustavi field, two of which produced
oil. Ninotsminda Oil Company has initiated an appraisal program and commenced
test production from one
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<PAGE> 51
of the wells. The appraisal program, which includes acquiring further seismic
data and performing rehabilitation work on some of the wells, is aimed at
assessing Georgian Oil's original reserve estimates and ultimately initiating an
appropriate development program. No assurances can be given that the West
Rustavi field will be developed by Ninotsminda Oil Company.
The Manavi prospect is located east of Ninotsminda. Ninotsminda Oil Company has
seismic data regarding the Manavi prospect from both work it commissioned and
earlier efforts by Georgian Oil. Georgian Oil's attempt to drill in the Manavi
prospect was thwarted by logistical problems and did not reach the reservoir.
CanArgo's management believes Manavi is a promising exploration prospect.
ANCILLARY NINOTSMINDA AREA PROJECTS
Electrical Power Generation
CanArgo has an effective 42.5% interest in a Georgian stock company that intends
to produce electricity. This company is planning to install and operate a pilot
3.0 megawatt gas fired power plant to be located adjacent to the Ninotsminda
field. The plant would utilize as its principal fuel gas produced in conjunction
with oil from Ninotsminda field wells. Most of this gas is presently being
flared, with no economic benefit to Ninotsminda Oil Company. The Georgian power
generation company would sell the electricity generated to Ninotsminda Oil
Company for the Ninotsminda field project and to other local purchasers. The
basic equipment, a refurbished Rolls Royce Proteus single cycle gas turbine with
attached Siemens electrical generating equipment, is expected to be in Georgia
and operational before the 1999-2000 winter season begins. No assurance can be
given that the turbine and equipment will arrive in Georgia or prove to be
operational within the time period contemplated.
Once operational, this project would be one of the first private sector power
producers in Georgia. Privatization of the Georgian power sector is well
underway. The 1997 Electricity Law is causing a restructuring of the Georgian
power sector to facilitate competition through provisions having the following
effects, among others:
- - unbundling the generation, transmission and distribution functions;
- - increasing tariffs substantially; and
- - establishing an independent regulatory commission to grant licenses and
regulate tariffs.
Ninotsminda Oil Company expects that the private power company will supply
electricity for Ninotsminda field operations on a priority basis. If this
happens, Ninotsminda Oil Company should be able to avoid or mitigate the
electrical supply problems it has encountered, which forced a suspension of
drilling activity on its third well and interfered with other operations during
the 1998-1999 winter season.
CanArgo is actively seeking to expand its involvement in the Georgian power
sector. It is, among other things, seeking to attract financial partners to join
CanArgo in pursuing opportunities for private sector power production in
Georgia.
Refinery
In 1998, CanArgo purchased for $1,000,000 a 12.9% equity interest in a company
which owns a small refinery located at Sartichala, Georgia. The proceeds were
used to upgrade and expand the refinery. CanArgo has the right through September
30, 1999 to purchase an additional 11.1% interest in the refinery company for
$860,000.
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<PAGE> 52
The refinery, which primarily utilizes refurbished American equipment, began
operations in July 1998 and has a current capacity of approximately 2,000
barrels per day. It is the only refinery in Georgia employing Western
technology. It is able to produce naphtha, diesel fuel, fuel oil, kerosene and
jet fuel. Refinery expansion plans envision capacity of over 4,000 barrels per
day, with further capacity expansion and product extension possible in the
future. The refinery has not purchased crude oil from, or processed crude oil
for the account of, Ninotsminda Oil Company, although it may do so in the
future.
Sartichala is the primary processing center for east Georgian oil production,
including production from Ninotsminda. Refined products are sold on both the
local and export markets. Although the refinery receives some revenue from the
sale of its products in the Georgian currency, the Lari, most pricing is related
to dollar based world market prices. To mitigate the currency exchange risk, the
refinery has established some export sales contracts denominated in United
States dollars. CanArgo believes that its involvement in Georgian refining
activity strengthens its position in the Georgian energy sector and provides
specific support for Ninotsminda Oil Company's activities in Ninotsminda.
The refinery temporarily suspended operations in early 1999 while it evaluated
the impact on its business of recently enacted tax legislation in Georgia which
imposes a substantial excise tax on many refined oil products sold into the
local Georgian market. The excise tax amounts to 60% of the cost of the goods
being sold. The refinery resumed operations in May 1999 and is shifting a
greater portion of its output to the export market.
OTHER GEORGIAN PROJECT -- NAZVREVI/BLOCK XIII
In February 1998, CanArgo entered into a second production sharing contract with
Georgian Oil. This contract covers the Nazvrevi and Block XIII areas of East
Georgia, a 2,100 square kilometer exploration area adjacent to the Ninotsminda
and West Rustavi fields which contains existing infrastructure for oil and gas
production. The contract term is for twenty-five years. CanArgo is required to
relinquish at least half of the area then covered by the production sharing
contract, but not any portions being actively developed, at five year intervals
commencing in 2003.
Under the production sharing contract, CanArgo pays all operating and capital
costs. CanArgo first recovers its cumulative operating costs from production.
After deducting production attributable to operating costs, 50% of the remaining
production, considered on an annual basis, is applied to reimburse CanArgo for
its cumulative capital costs. While cumulative capital costs remain unrecovered,
the other 50% of remaining production is allocated on a 50/50 basis between
Georgian Oil and CanArgo. After all cumulative capital costs have been recovered
by CanArgo, remaining production, after deduction of operating costs, is
allocated on a 70/30 basis between Georgian Oil and CanArgo. The allocation of a
share of production to Georgian Oil relieves CanArgo of all obligations it would
otherwise have to pay the Republic of Georgia for taxes and similar levies
related to activities covered by the production sharing contract. Both Georgian
Oil and CanArgo will take their respective shares of production under this
production sharing contract in kind.
The first phase of the preliminary work program under the Nazvrevi/Block XIII
production sharing contract involves primarily a seismic survey of a portion of
the exploration area and the processing and interpretation of the data
collected. The seismic survey has been completed, and the results of those
studies are currently being interpreted, with a view towards defining possible
oil and gas prospects and exploration drilling locations. The cost of the
seismic program is approximately $1,200,000.
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In October 1998, XCL Ltd., a Louisiana based oil exploration company, agreed to
pay $650,000 for shares representing 11.5% of the outstanding equity of
CanArgo's subsidiary holding the Nazvrevi/Block XIII production sharing
contract. The proceeds will be applied by the subsidiary to fund a portion of
the cost of the seismic acquisition, processing and interpretation program. Most
of the $650,000 has not yet been paid.
The second phase of the preliminary work program under the Nazvrevi/Block XIII
production sharing agreement involves the drilling of one well at an estimated
cost of $4 million. CanArgo can terminate the production sharing contract if it
decides not to proceed with drilling.
OTHER EASTERN EUROPEAN PROJECTS
STYNAWSKE FIELD, WESTERN REGION, UKRAINE
In November 1996, CanArgo entered into a joint venture arrangement with the
Ukrainian state oil company, Ukranafta, for the development of the 6,000 acre
Stynawske field, located in Western Ukraine near the town of Stryv. CanArgo has
a 45% interest in the joint venture entity, with Ukranafta holding the remaining
55% interest. Ukranafta receives on a declining basis through 2001 an allotment
of oil equal to what the field was projected to produce based on the physical
plant and technical processes in use in 1996. The joint venture will be entitled
to all incremental production above that declining base.
The Stynawske field is a relatively tight sandstone reservoir containing light
sweet oil. The production from the field commenced in 1967 but was substantially
terminated after a few years of production due to environmental considerations.
The field is located underneath the main water supply for Western Ukraine, and
leakage from producing wells some 20 years ago threatened to pollute this
aquifer. Four wells that are located away from the water supply have been
allowed to continue production. New wells which would pose a threat to the
aquifer are prohibited.
In preparation for the commencement of development activities, the joint venture
has carried out the following activities:
- - An environmental audit of the Stynawske field;
- - A technical and economic evaluation of the project; and
- - The selection of drilling sites.
CanArgo expects that the initial phase of the project will consist of the
rehabilitation of a number of existing wells, with a view towards increasing
production and gathering data for the preparation of a full field development
program. The feasibility of the initial phase is currently being considered,
including financing and ultimate recovery of funds invested.
CanArgo has concluded on a preliminary basis that the full field development
plan for the rehabilitation of the Stynawske field will probably be based on
deviated drilling, in which the drilling sites for the wells would be located a
safe distance from the water supply and the wells would enter the reservoir at
angles avoiding the aquifer. Additional measures would be taken with the
drilling mud and otherwise to protect the environmental integrity of the
project. Reservoir pressure support through gas or water injection may be
necessary to optimize recovery. The full field development plan for the
Stynawske field will, however, depend upon data developed during an initial
rehabilitation phase.
CanArgo is actively seeking to establish arrangements under which oil and gas
production companies or other investors would acquire a portion of CanArgo's
interest in the
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Stynawske field joint venture in return for supplying financing or services to
implement the initial phase of the project.
If CanArgo does not proceed with the Stynawske field development program, it may
be in breach of obligations it has with regard to the joint venture. This could
place CanArgo's rights to the Stynawske field at risk and could subject CanArgo
to possible liability.
POTENTIAL CASPIAN EXPLORATION PROJECT
In May 1998, CanArgo led a consortium which was the successful bidder in a
tender for two large exploration blocks in the Caspian Sea, located off the
shore of the autonomous Russian republic of Dagestan. Licenses for the blocks
were issued in February 1999 to a majority-owned subsidiary of CanArgo. The
licenses impose substantial commitments on the licensee, and CanArgo is
assessing its options for meeting such commitments in light of CanArgo's limited
resources and existing commitments. If CanArgo determines that it cannot assume
the commitments, CanArgo will relinquish its rights under the licenses.
PREVIOUSLY IMPAIRED PROJECTS
Gorisht-Kocul Field, Albania
CanArgo and the Albanian state oil company, Albpetrol, are partners in a 50/50
joint venture to rehabilitate and develop the 16.5 square kilometer
Gorisht-Kocul field, which is located 35 kilometers east of the Adriatic port,
Vlora. The Albanian government granted the joint venture a 25 year production
license covering the Gorisht-Kocul field. Production at the Gorisht-Kocul field
commenced in 1966. The field, which contains relatively heavy oil, has
reportedly produced approximately 69 million barrels to date. CanArgo was named
operator of the Gorisht-Kocul field with responsibility for implementing the
development plan and arranging financing for the project.
In March 1997, CanArgo declared the political unrest in Albania to be a force
majeure, and the joint venture suspended activities. The suspension of
activities continues. In light of the extended period that the force majeure
condition had continued and the absence of any indication of an imminent
termination of the condition, CanArgo recorded during the fourth quarter of 1997
an impairment for the entire amount of its investment in and advances to the
Albanian joint venture. Albpetrol has requested that the joint venture
recommence activities at the Gorisht-Kocul field. CanArgo is evaluating that
request and seeking others who may want to participate in this project. If it is
unsuccessful in attracting others to participate in this project, CanArgo may
relinquish this project.
Lelyaki Field, Pryluki Region, Ukraine
CanArgo holds an effective 45% interest in a joint venture company formed to
develop the Lelyaki field in eastern Ukraine. CanArgo's partner in this joint
venture is Ukranafta, which holds a 55% interest. In 1996, the joint venture
received a 20 year oil and gas production license for a 67 square kilometer
portion of the Lelyaki field, as well as a five year exploration license for 327
square kilometer area surrounding the production area.
Based on its analysis of initial development efforts including consulting with
independent petroleum engineers, CanArgo concluded that the Lelyaki field would
not support a successful commercial development. On the basis of that
conclusion, during the fourth quarter of 1997 CanArgo recorded an impairment for
the entire amount of its remaining investment in and advances to the Lelyaki
joint venture. CanArgo also advised the joint venture that CanArgo would not
provide it with any further financial support. The joint
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venture continues to produce a modest amount of oil from wells recompleted by
the joint venture, which is sold in the Ukrainian market.
Maykop Field, Adygea
CanArgo holds a 37% interest in Intergas, a Russian joint stock company with a
license for the Maykop gas field. In 1994, Intergas was granted an exclusive 25
year exploration and production license covering specified zones in the 12,500
acre Maykop gas condensate field in the southern Russian autonomous republic of
Adygea, located approximately 185 kilometers from the Black Sea. In 1996 through
1997, CanArgo experienced delays and difficulty in resolving operating
arrangements and other matters relating to Intergas. This caused CanArgo to
conclude that it could not effectively pursue commercial activities and develop
the Maykop field as planned. As a result, CanArgo recorded during the fourth
quarter of 1997 an impairment for the entire amount of its investment in and
advances to Intergas. CanArgo is currently in discussions with the other
shareholders regarding the future of Intergas. CanArgo believes that it has no
further obligation to fund any operations of Intergas, but Intergas and other
shareholders of Intergas and other parties may assert claims against CanArgo.
NORTH AMERICAN OIL AND GAS PROPERTIES AND VENTURES
CanArgo has interests in several small oil and gas properties located in
Alberta, Canada and Texas. These properties either are non-producing or are
producing modest amounts of oil and gas. CanArgo intends to offer one or more of
these properties for sale in order to raise additional working capital.
COMPETITION
The oil and gas industry can be highly competitive. CanArgo encounters
competition from other oil and gas companies in all phases of its operations,
including:
- - The acquisition of producing properties;
- - Obtaining scarce resources and services including oil field services; and
- - The sale of crude oil.
CanArgo's competitors include integrated oil and gas companies, independent oil
and gas companies, individuals and drilling and income programs. Many of these
competitors are large, well-established companies with substantially larger
operating staffs and greater capital resources than CanArgo. In many instances,
these competitors have been engaged in the energy business for a much longer
time than CanArgo. Such competitors may be able to outperform CanArgo on a
number of dimensions, including:
- - Development of information;
- - Analysis of available information;
- - Ability to pay for productive oil and gas properties and exploratory
prospects; and
- - Commitment of resources to define, evaluate, bid for and purchase oil and gas
properties and prospects.
In the competition to acquire oil and gas properties, CanArgo has relied
substantially on the relationships its officers and directors have developed in
the international oil and gas industry and in its areas of operation and
interest. As a result of the termination of employment of various former
officers, CanArgo's ability to benefit from such relationships
55
<PAGE> 56
outside of Georgia has been significantly reduced. CanArgo's management believes
that CanArgo's relatively small size has enabled it to consider projects that
would be deemed to be too small for consideration by many larger competitors.
Most crude oil is sold at prices related to published world prices for various
grades of crude oil. The sale price generally reflects the world price less an
allowance for the cost of delivering the crude oil to a location identified by
the customer. Accordingly, the most desirable market for Ninotsminda field oil
would appear to be the local and regional Georgian markets, although customers
in these markets have recently shown some resistance to price increases based on
movement in world prices. CanArgo has encountered little competition for sales
to the local and regional Georgian markets for crude oil, although Georgian Oil
is a potential competitor as would be any other production company that
establishes crude oil production in or near Georgia. No assurance can be given
that the local and regional Georgian markets for crude oil will not become more
competitive on the sellers' side, yielding relatively lower selling prices.
TECHNOLOGY FOR ENHANCED RECOVERY OF HEAVY OIL
CanArgo has rights to a technology based upon heating heavy oil in the reservoir
with electric current. Heavy oil is very viscous at reservoir temperatures and
normally needs to be heated in order to flow easily. Several pilot projects
involving the technology have been implemented during the past ten years, and
while results have varied, CanArgo believes that they suggest the validity of
the technology. CanArgo, however, has not successfully commercialized this
technology, and during the past several years CanArgo has not devoted any
significant resources to the development or commercialization of this
technology. CanArgo hopes to fund further development of its enhanced oil
recovery technology through direct third-party equity financing of the
subsidiary holding the rights to the technology. No assurances can be given that
the subsidiary will be able to attract purchasers for its shares, that adequate
funding will be generated, or that any funding will result in the successful
development or commercialization of the enhanced oil recovery technology.
GOVERNMENTAL AUTHORIZATIONS
CanArgo's business in Eastern Europe operates pursuant to licenses, concession
agreements or other authorizations granted by the local governmental
authorities. These authorizations impose various requirements upon CanArgo,
either directly or indirectly. The failure to satisfy the requirements of any
authorization could result in its termination or cancellation. In addition, as
sovereign agencies, the governmental authorities that have granted
authorizations may have greater power than private parties to terminate such
authorizations arbitrarily. Loss of such authorizations could have a material
adverse effect upon the financial condition, results of operations, cash flows
and prospects of CanArgo.
ENVIRONMENTAL AND REGULATORY MATTERS
The development of oil and gas fields and the production of hydrocarbons
inherently involve environmental risks. These risks can be minimized, but not
eliminated, through use of various engineering and other technological methods,
and CanArgo intends to employ such methods to industry standards. The potential
environmental problems are enhanced when the oil and gas development and
production activities involve the rehabilitation of fields where the practices
and technologies employed in the past have not embodied the highest standards
then in effect, which has been the case in the Eastern European oil fields in
which CanArgo operates.
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<PAGE> 57
CanArgo's business is subject to various national, provincial, state and local
laws and regulations relating to the exploration for and the development,
production and transportation of oil and natural gas, as well as environmental
and safety matters. Many of these laws and regulations have become more
stringent in recent years, imposing greater liability on a larger number of
potentially responsible parties. CanArgo believes it has complied in all
material respects with these laws and regulations. Because the requirements
imposed by such laws and regulations are frequently changed, CanArgo is unable
to predict the ultimate cost of compliance with these requirements or their
effect on its operations.
EMPLOYEES
As of April 30, 1999, CanArgo had 12 full time employees. The non-affiliated
entity acting as operator of the Ninotsminda oil field for Ninotsminda Oil
Company has 88 full time employees, and substantially all of that company's
activities relate to the development of the Ninotsminda field.
PROPERTIES
CanArgo does not have outright ownership of any real property. Its real property
interests are limited to leasehold and mineral interests.
The following table summarizes the number of productive oil wells and the total
developed acreage for the Ninotsminda field on March 31, 1999. This information
has been presented on a gross basis, representing the interest of Ninotsminda
Oil Company, and on a net basis, representing the interest of CanArgo based on
its 68.5% interest in Ninotsminda Oil Company.
<TABLE>
<CAPTION>
GROSS NET
-------------------------- --------------------------
NUMBER OF WELLS ACREAGE NUMBER OF WELLS ACREAGE
--------------- ------- --------------- -------
<S> <C> <C> <C> <C>
Ninotsminda field.......... 7 2,500 4.8 1,713
</TABLE>
On March 31, 1999, there were no productive wells or developed acreage on any of
CanArgo's other Georgian properties, except for one well on the West Rustavi
field which was shut-in at that date.
The following table summarizes the gross and net undeveloped acreage held under
the Ninotsminda and Nazvrevi/Block XIII production sharing contracts on March
31, 1999. The information regarding gross acreage represents the interest of
Ninotsminda Oil Company under the Ninotsminda contract and the interest of a
majority-owned subsidiary of CanArgo under the Nazvrevi/Block XIII contract. The
information regarding net acreage represents the interest of CanArgo based on
its 68.5% interest in Ninotsminda Oil Company and on an anticipated 88.5%
interest in the subsidiary holding the Nazvrevi/Block XIII contract following
the expected sale to XCL Ltd. of stock representing 11.5% of that subsidiary.
<TABLE>
<CAPTION>
GROSS ACREAGE NET ACREAGE
------------- -----------
<S> <C> <C>
Ninotsminda field.................................... 24,000 16,440
Nazvrevi/Block XIII.................................. 518,500 458,873
------- -------
Total.............................................. 542,500 475,313
======= =======
</TABLE>
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<PAGE> 58
CanArgo leases office space in Calgary, Alberta; Houston, Texas; Tbilisi,
Republic of Georgia; and Maidenhead, England. The leases have remaining terms
varying from one to two years. CanArgo has subleased its Maidenhead offices.
LEGAL PROCEEDINGS
On February 20, 1998, Zhoda Corporation filed suit against CanArgo in the
District Court of Harris County, Texas. In 1997, Zhoda sold to CanArgo shares in
a company through which CanArgo acquired most of its interest in the Lelyaki
field project. Part of the consideration which CanArgo paid to Zhoda consisted
of shares of a CanArgo subsidiary which were exchangeable for shares of CanArgo
common stock only upon the achievement of specified Lelyaki field operating
objectives. CanArgo believes that these objectives were not achieved. In the
litigation, Zhoda asserts that it was wrongfully deprived of the value of the
CanArgo shares it believes it should have received, based upon claims of breach
of contract, breach of fiduciary duty and duty of good faith and fair dealing,
fraud and constructive fraud, fraud in the inducement, negligent
misrepresentation, civil conspiracy, breach of trust, unjust enrichment and
rescission. Zhoda is seeking more than $7,500,000 in damages, return of the
shares transferred to CanArgo, and other relief. The Harris County District
Court has stayed the litigation pending completion of arbitration proceedings,
which are being held in Calgary, Alberta. The arbitration proceedings are still
in the preliminary procedural stage. CanArgo believes it has meritorious
defenses to Zhoda's claims which it intends to assert vigorously. A judgment in
favor of Zhoda could have a material adverse effect on CanArgo's financial
condition, results of operations, cash flows and prospects.
On March 24, 1998, CanArgo filed an action against Zhoda in the Court of Queen's
Bench of Alberta, Judicial Centre of Calgary, in which CanArgo seeks to recover
$190,000, plus interest, which CanArgo asserts Zhoda owes CanArgo pursuant to
promissory notes and loan agreements. On March 31, 1998, Zhoda filed a statement
of defense and a counterclaim in which it asserted essentially the same claims
as were asserted in the Texas action described above. On the basis of its
counterclaim, Zhoda seeks relief similar to that sought in the Texas action.
CanArgo's claim against Zhoda in the Alberta action is not within the scope of
the arbitration proceeding being conducted in Calgary.
On March 9, 1998, Ribalta Holdings, Inc., which sold to CanArgo shares in a
company through which CanArgo acquired most of its interest in the Maykop field
project, filed suit against CanArgo in the Third Judicial District Court of Salt
Lake County, Utah. Ribalta, however, has not yet served the complaint on
CanArgo.
In its complaint, Ribalta alleges breach by CanArgo of the contract governing
the sale of the shares it transferred to CanArgo and failure of a condition in
that contract that should have resulted in the termination of the contract.
Ribalta seeks the return of all benefits conferred on CanArgo pursuant to the
contract or damages equal to the value of such benefits, as well as other
relief. Under that contract, as amended, the maximum consideration to which
Ribalta might have been entitled was $800,000 and 350,000 shares of CanArgo
common stock. CanArgo believes that no consideration is payable under that
contract because conditions to payment specified in the contract were not
satisfied. A judgment in favor of Ribalta in this proceeding could have a
material adverse impact on CanArgo's financial condition, results of operations,
cash flows and prospects. CanArgo believes it has meritorious defenses to
Ribalta's claims which it intends to assert vigorously.
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<PAGE> 59
MANAGEMENT
EXECUTIVE OFFICERS AND DIRECTORS
The executive officers, directors and a significant employee of CanArgo are as
follows:
<TABLE>
<CAPTION>
NAME AGE POSITION
- ---- --- --------
<S> <C> <C>
David Robson 41 Chairman of the board and chief executive officer
Michael R. Binnion 38 Director, president and chief financial officer
Robert A. Halpin 63 Director
J.F. Russell Hammond 57 Director
Peder Paus 53 Director
Nils N. Trulsvik 50 Director
Ron Gerlitz 44 Vice president, technology
Anthony J. Potter 34 Vice president, finance
Niko Tevzadze 34 Vice president (significant employee)
</TABLE>
The members of the audit committee are Robert A. Halpin and Peder Paus. The
members of the compensation committee are J.F. Russell Hammond and Nils N.
Trulsvik.
DAVID ROBSON was elected a director, chairman of the board and chief executive
officer on July 15, 1998. He has also served as a director, chairman of the
board and chief executive officer of CanArgo's subsidiary, CanArgo Oil & Gas
Inc., since July 1997, and as president of Ninotsminda Oil Company since 1996.
Dr. Robson provides his services to CanArgo through Vazon Energy Limited, a
company that he owns. From April 1992 until February 1997, Dr. Robson held
several senior officer positions at JKX Oil & Gas plc, including managing
director and chief executive officer. A subsidiary of JKX Oil & Gas plc is the
minority shareholder of Ninotsminda Oil Company. Dr. Robson holds a B.Sc. (Hon)
in Geology and a Ph.D. in Geochemistry from the University of Newcastle upon
Tyne, and an MBA from the University of Strathclyde. He is the energy sector
representative on the United Kingdom government's East European Trade Council.
MICHAEL R. BINNION was elected a director, president and chief financial officer
on July 15, 1998. He has also served as a director, chief financial officer and
secretary of CanArgo Oil & Gas Inc. since March 1997. Mr. Binnion is also
president and a director of Terrenex Acquisition Corporation, an Alberta Stock
Exchange listed investment company which is CanArgo's largest stockholder. He is
sole owner and director of Rupert's Crossing, a private investment company, and
a director of NRI Online Inc., Fintech Services Ltd. and Smartor Products Inc.
Prior to April 1997, he served as chief financial officer and a director of
Trans-Dominion Energy Company, a Toronto Stock Exchange listed international
exploration and production company, for four years.
ROBERT A. HALPIN was elected a director on March 4, 1995. Mr. Halpin is not
standing for reelection and will retire as a director at the annual meeting of
stockholders to be held in June 1999. He served as chairman of the board from
November 14, 1995 to February 4, 1997 and as vice chairman of the board from
February 4, 1997 to July 15, 1998. Mr. Halpin has long experience in the oil and
gas industry. Mr. Halpin has been a director of TransGlobe Energy Corporation,
Synerseis Technologies Inc. and Pacific Tiger Energy Ltd., all Canadian
companies, since 1997. From 1989 to his retirement in September 1993, he served
as vice president for international exploration and production with
Petro-Canada.
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<PAGE> 60
In October 1993, Mr. Halpin became president of Halpin Energy Resources Ltd., a
firm which provides advisory services to energy companies.
J.F. RUSSELL HAMMOND was elected a director on July 15, 1998. He has also served
as a director of CanArgo Oil & Gas Inc. since June 1997. For over five years,
Mr. Hammond has been an investment advisor to Provincial Securities Ltd., a
private investment company which is the beneficial owner of 7.86% of CanArgo's
voting securities. Mr. Hammond has been chairman of Terrenex Acquisition
Corporation, since 1992.
PEDER PAUS was elected a director on July 15, 1998 and is an independent
businessman based in Oslo, Norway. Since 1995, he has been a consultant on
investor relations for various companies. From 1981 to 1995, Mr. Paus was chief
executive officer of North Venture Ltd., a shipping and offshore consulting firm
based in London, England.
NILS N. TRULSVIK was elected a director on August 17, 1994. He served CanArgo as
president and chief executive officer from February 4, 1997 to July 15, 1998 and
from November 21, 1994 to March 9, 1995; and as executive vice president from
March 9, 1995 to February 4, 1997 and from September 8, 1994 until November 21,
1994. In August 1998, Mr. Trulsvik became a partner in a consulting company, The
Bridge Group, located in Norway. Mr. Trulsvik is a petroleum explorationist with
extensive experience in petroleum exploration and development throughout the
world. Prior to joining CanArgo, he held various positions with Nopec a.s., a
Norwegian petroleum consultant group of companies of which he was a founder,
including managing director from 1987 to 1993 and special advisor from 1993 to
August 1994.
RON GERLITZ was elected vice president, technology on November 1, 1998. From
1997 to September 1998, he was manager of engineering for First Calgary
Petroleums. From 1992 until 1997 he was an independent petroleum consultant in
Calgary, Alberta, Canada. From 1983 to 1992, Mr. Gerlitz worked as an engineer
in various capacities and positions with a number of corporations, including
Mobil Oil. In 1983, he graduated from the University of Calgary with a bachelor
of science in engineering.
ANTHONY J. POTTER was elected vice president, finance on July 15, 1998. He also
serves CanArgo as group controller. He has served as vice president, finance and
group controller of CanArgo Oil & Gas Inc., since May 1998. From September 1986
to April 1998, Mr. Potter was employed with Coopers & Lybrand Chartered
Accountants. In 1986, he graduated from the University of Calgary with a
bachelor of commerce in accounting.
NIKO TEVZADZE was elected vice president on July 15, 1998. He has been the
general director of Georgian British Oil Company, which operates the Ninotsminda
field on behalf of CanArgo, since October 1993. From 1991 to 1993, Mr. Tevzadze
was general director of the joint venture Georgia Makoil. From 1986 to 1991, he
worked at the East Georgia Drilling Office of Georgian Oil as foreman, drilling
engineer and chief technologist.
Directors hold office until the next annual meeting of stockholders and until
their successors are duly elected and qualified. Officers serve at the pleasure
of the board of directors.
INDEMNIFICATION AND INSURANCE
CanArgo's bylaws require CanArgo to indemnify its officers and directors to the
full extent permitted by Delaware law. The bylaws also require CanArgo to
advance payment of expenses to an indemnified party so long as he agrees to
repay the amount advanced if it is later determined that he is not entitled to
indemnification. CanArgo carries directors' and
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<PAGE> 61
officers' liability insurance covering losses arising from claims based on
breaches of duty, negligence, error and other wrongful acts.
EXECUTIVE COMPENSATION
SUMMARY COMPENSATION TABLE
The following table summarizes the compensation paid during the periods
indicated to the current and former executive officers named below.
<TABLE>
<CAPTION>
ANNUAL
COMPENSATION LONG-TERM COMPENSATION
------------------ --------------------------------------
SECURITIES
NAME AND YEAR UNDERLYING ALL OTHER
PRINCIPAL POSITION ENDED SALARY ($) OPTIONS/SARS (#) COMPENSATION(5) ($)
- ------------------ ----- ---------- ---------------- -------------------
<S> <C> <C> <C> <C>
David Robson(1)......... 12/98 82,500 390,000 0
Nils N. Trulsvik(2)..... 12/98 87,376 0 3,681
12/97 140,333 0 6,653
12/96* 51,834 50,000 5,679
8/96 161,241 0 8,635
Rune Falstad(3)......... 12/98 112,852 25,000 3,786
12/97 82,952 15,000 3,825
Alfred Kjemperud(4)..... 12/98 133,338 50,000 3,124
12/97 101,296 5,000 5,014
12/96* 38,875 10,000 2,342
</TABLE>
- -------------------------
* Four month period ended December 31, 1996.
(1) Mr. Robson has served as chief executive officer since July 15, 1998 and
provides services to CanArgo through Vazon Energy Limited.
(2) Mr. Trulsvik served as president and chief executive officer from February
4, 1997 to July 15, 1998 and as executive vice president from March 9, 1995
to February 4, 1997. Included in his 1998 salary is $1,671 paid as
non-employee directors' fees subsequent to July 31, 1998. Mr. Trulsvik's
current compensation arrangements are described below under "Employment
Contracts."
(3) Mr. Falstad served as vice president from June 1997 through March 1999.
Included in his 1998 salary are payments for consulting services rendered to
CanArgo subsequent to July 31, 1998 under a contract with FinCom AS, of
which Mr. Falstad is a partner, which is described below under "Employment
Contracts."
(4) Mr. Kjemperud resigned as vice president on September 3, 1998. Included in
his 1998 salary are payments for consulting services rendered to CanArgo
subsequent to September 3, 1998 under a contract with The Bridge Group which
is described below under "Employment Contracts."
(5) Represents CanArgo's contributions to individual retirement and pension
plans.
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<PAGE> 62
OPTION GRANTS DURING FISCAL YEAR 1998
The following table sets forth information concerning options granted during
1998 to the persons named in the summary compensation table.
<TABLE>
<CAPTION>
NUMBER OF % OF TOTAL
SECURITIES OPTIONS GRANT DATE
UNDERLYING GRANTED TO PRESENT VALUE(2)
OPTIONS EMPLOYEES EXERCISE EXPIRATION --------------------
NAME GRANTED(1) IN FY 12/98 PRICE DATE PER SHARE TOTAL
- ---- ---------- ----------- -------- ---------- --------- --------
<S> <C> <C> <C> <C> <C> <C>
David Robson........... 120,000 16.58% $0.69 10/6/08 $0.3233 $ 38,796
270,000 37.30 1.25 7/16/08 0.5874 158,598
Nils N. Trulsvik....... 0 -- -- -- -- --
Rune Falstad........... 25,000 3.45 0.70 12/16/00 0.1225 3,063
Alfred Kjemperud....... 50,000 6.91 0.70 12/16/00 0.1225 6,125
</TABLE>
- -------------------------
(1) The options granted to Mr. Robson vest in three equal annual installments
commencing on the first anniversary of the grant date and were granted at an
exercise price equal to the fair market value of the common stock on the
date of grant. The options granted to Messrs. Falstad and Kjemperud are
exercisable only from November 16, 2000 through December 16, 2000, at an
exercise price equal to 124% of the fair market value of the common stock on
the date of grant. CanArgo's stock option plans allow the compensation
committee to modify the terms of outstanding options, including their
exercise price and vesting schedule.
(2) These values were derived using the Black-Scholes option pricing model
applying the following assumptions:
<TABLE>
<CAPTION>
EXERCISE RISK FREE
PRICE DIVIDEND YIELD VOLATILITY INTEREST RATE EXPECTED TERM
-------- -------------- ---------- ------------- -------------
<S> <C> <C> <C> <C>
$0.69 0% 44.76% 5.72% 5 years
1.25 0 44.76 5.72 5 years
0.70 0 44.76 5.69 2.1 years
</TABLE>
These values are not intended to forecast future appreciation of CanArgo's
stock price. The actual value, if any, that an executive officer may
realize from his options, assuming that they are exercised, will depend
solely on the increase in the market price of the shares acquired through
option exercises over the exercise price, as measured when the shares are
sold.
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<PAGE> 63
OPTION VALUES AT DECEMBER 31, 1998
The following table summarizes information at December 31, 1998 concerning the
number and hypothetical value of stock options held by the persons named in the
summary compensation table.
<TABLE>
<CAPTION>
NUMBER OF SHARES
UNDERLYING UNEXERCISED VALUE OF UNEXERCISED
OPTIONS HELD IN-THE-MONEY OPTIONS
AT FISCAL YEAR END AT FISCAL YEAR END(1)
---------------------------- ----------------------------
NAME EXERCISABLE UNEXERCISABLE EXERCISABLE UNEXERCISABLE
- ---- ----------- ------------- ----------- -------------
<S> <C> <C> <C> <C>
David Robson............... 75,000 495,000 $0 $0
Nils N. Trulsvik........... 30,000 0 0 0
Rune Falstad............... 0 25,000 0 0
Alfred Kjemperud........... 0 50,000 0 0
</TABLE>
- -------------------------
(1) As of December 31, 1998, none of the options was "in-the-money" because
their exercise price exceeded the market value of the common stock on that
date.
DIRECTORS' COMPENSATION
CanArgo does not currently pay cash compensation to its directors for their
services as directors, but does reimburse them for their ordinary out-of-pocket
expenses for attending board and committee meetings or otherwise in connection
with activities as directors. From July 15, 1998 until October 1, 1998, CanArgo
paid non-employee directors fees at the rate of $10,000 per year. From January
1, 1998 until July 15, 1998, CanArgo paid non-employee directors other than
Robert A. Halpin fees at the rate of $14,000 per year plus a fee of $3,000 per
year for each committee on which the non-employee director served. During that
period, CanArgo also paid non-employee directors a fee of $1,000 per day, other
than a day on which the board met, for each day a non-employee director spent on
the business of board committees which exceeded one day per year with respect to
the compensation committee and three days per year with respect to the audit
committee and the petroleum committee.
From January 1998 through July 15, 1998, CanArgo paid Robert A. Halpin for his
services as vice chairman of the board and a member of board committees at the
rate of $45,000 per year. During that period, CanArgo also provided Mr. Halpin
with an office at CanArgo's offices located in Calgary, Alberta, Canada, and
reimbursed Mr. Halpin for his out-of-pocket expenses in connection with services
on behalf of CanArgo.
Nils N. Trulsvik may provide consulting services to CanArgo at the rate of
$1,200 per day plus expenses, through The Bridge Group, of which Mr. Trulsvik is
a partner, pursuant to a work order dated August 1, 1998 between CanArgo and Mr.
Trulsvik. Mr. Trulsvik did not provide any consulting services to CanArgo during
1998.
From January 1, 1996 to July 15, 1998, Eugene Meyers, who was a non-employee
director of CanArgo during that period, provided financial relations consulting
services to CanArgo at the rate of $15,000 per year for 22 days of service, and
thereafter at the rate of $100 per hour, subject to a $1,000 maximum per day.
CanArgo also reimbursed him for his out-of-pocket expenses associated with those
services.
CanArgo provides automatic grants of non-qualified options to non-employee
directors pursuant to the 1995 Long-Term Incentive Plan. The plan provides that
each
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<PAGE> 64
non-employee director will receive a non-qualified option to purchase 3,750
shares of common stock on (1) the date of each meeting of stockholders at which
he is elected or re-elected as a director or, if in any fiscal year directors
are not elected at a meeting of stockholders, on the last date of that fiscal
year and (2) the date he is first elected as a director, if not at a meeting of
stockholders. In addition, a non-employee director will automatically be granted
a non-qualified option to purchase 3,750 shares of common stock on each date on
which he is elected or re-elected by the board of directors as chairman of the
board of directors, or, if the chairman of the board is then an employee of
CanArgo, as vice chairman of the board of directors. The exercise price of each
option is equal to 100% of the fair market value of the common stock on the date
of grant. Each option is 100% vested six months after the date of grant. Options
expire on the earlier of three years from the date of grant or the first
anniversary of the date the director ceases to be a director. Non-employee
directors are not eligible to receive other options under the 1995 Long-Term
Incentive Plan.
The following table shows the compensation paid to all persons who were
non-employee directors of CanArgo, during the year ended December 31, 1998:
<TABLE>
<CAPTION>
DIRECTORS FEES
AND OTHER CONSULTING OPTIONS
NAME COMPENSATION PAYMENTS GRANTED
- ---- -------------- ---------- -------
<S> <C> <C> <C>
Robert A. Halpin............................ $26,293 $ 0 3,750(3)
J.F. Russell Hammond........................ 2,137 0 3,750(4)
Stanley D. Heckman(1)....................... 10,685 0 --
Eugene J. Meyers(1)......................... 7,537 43,100(2) --
Peder Paus.................................. 2,137 0 3,750(4)
Nils N. Trulsvik............................ 1,671 0 --
</TABLE>
- -------------------------
(1) Messrs. Heckman and Meyers served as non-employee directors until July 15,
1998.
(2) Includes $35,600 for services rendered during 1997.
(3) The options were granted on December 31, 1998 at an exercise price of $0.313
per share, expire on December 30, 2001 and will be 100% vested at June 30,
1999.
(4) The options were granted on July 15, 1998 at an exercise price of $1.00 per
share, expire on July 14, 2001 and were 100% vested at January 15, 1999.
EMPLOYMENT CONTRACTS
CanArgo had employment contracts with Nils N. Trulsvik, Rune Falstad and Alfred
Kjemperud which were terminated effective July 31, 1998. The contracts provided
for annual salaries of approximately $150,000 in the case of Mr. Trulsvik,
approximately $125,000 in the case of Mr. Falstad and approximately $100,000 in
the case of Mr. Kjemperud. In addition, each person received an allowance equal
to 12.5% of his base salary, a portion of which was used to provide minimum life
and disability insurance coverage for each such person. The remainder of the
allowance was used by each person for additional life, medical or accident
insurance and to fund individual pension and retirement plans.
Mr. Falstad provided consulting services to CanArgo through FinCom AS under an
agreement from August 1, 1998 through March 31, 1999 at the rate of $7,000 per
month
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<PAGE> 65
plus expenses. Mr. Kjemperud provides consulting services to CanArgo through The
Bridge Group pursuant to a one-year work order commencing August 1, 1998 at the
rate of $13,000 per month plus expenses. Mr. Trulsvik may provide consulting
services through the Bridge Group pursuant to a work order dated August 1, 1998
at the rate of $1,200 per day plus expenses.
STOCK OPTION PLANS
CanArgo has adopted the 1995 Long-Term Incentive Plan pursuant to which it has
awarded and may in the future award stock options, including re-load options,
and stock appreciation rights, to employees, directors, consultants and advisors
of CanArgo or any subsidiary of CanArgo. Non-employee directors of CanArgo are
only eligible to receive annual automatic option grants under the incentive plan
as described above under "Directors' Compensation." The incentive plan currently
authorizes the issuance of up to 750,000 shares of CanArgo common stock. At the
annual meeting of stockholders scheduled for June 16, 1999, CanArgo will seek
stockholder approval of an amendment of the incentive plan to increase the
number of shares which may be issued thereunder from 750,000 shares to 4,000,000
shares, subject to the limitation that CanArgo may not grant awards that would
increase the number of shares subject to outstanding awards under this plan at
any time to an amount that would exceed 10% of the number of then outstanding
shares of common stock. At March 31, 1999, there were 695,084 shares subject to
outstanding options and 54,916 shares available for future grants under the
incentive plan. There are no stock appreciation rights outstanding.
In connection with the July 1998 combination with CanArgo Oil and Gas Inc.,
CanArgo assumed the CanArgo Oil and Gas Inc. Stock Option Plan under which
988,000 shares may be issued. There are currently outstanding options covering
888,000 shares and 100,000 shares are available for future option grants.
Persons who are eligible to receive options under this stock option plan are
full time employees and consultants of CanArgo or any 50% or more owned
subsidiary of CanArgo (including a director of any subsidiary) who are not
officers or directors of CanArgo.
CanArgo's stock option plans are administered by the compensation committee of
the board of directors. The exercise price and vesting schedule of awards under
these plans are determined by the compensation committee when the award is
granted, provided that the option price for any incentive stock option or any
option granted under the CanArgo Oil and Gas Inc. stock option plan may not be
less than 100% of the fair market value of CanArgo common stock on the date of
grant. The term of options granted under these plans may not exceed ten years
from the date of grant. In the case of an incentive option granted to a person
who owns 10% or more of CanArgo's common stock, the exercise price of the option
may not be less than 110% of the fair market value on the date of grant and the
term of the option may not exceed five years.
The compensation committee may modify or amend the terms of outstanding awards,
including a change or acceleration of the vesting of an award, and it may
exchange, cancel or substitute awards, subject to the consent of the holders of
the awards.
Unless a surviving or acquiring entity agrees to assume the outstanding awards,
each outstanding award under these plans will terminate on the date of:
- - CanArgo's liquidation or dissolution,
- - a reorganization, merger or consolidation in which CanArgo is not the
survivor,
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- - the sale of substantially all of the assets of CanArgo, or
- - the sale of more than 80% of the then outstanding stock of CanArgo to another
corporation or entity.
No awards may be granted under the incentive plan after November 2005. The board
of directors may discontinue either plan at any time and may amend either plan
without stockholder approval unless the amendment would increase the total
number of shares issuable under that plan or, with respect to the CanArgo Oil
and Gas Inc. stock option plan, would change the manner of determining the
minimum exercise price of options.
Under section 162(m) of the Internal Revenue Code of 1986, CanArgo may be
precluded from claiming a federal income tax deduction for total remuneration in
excess of $1,000,000 for its chief executive officer or any of its other four
highest paid officers. Based on the current market price of CanArgo's common
stock and the number of options held by such persons, CanArgo does not believe
that any compensation derived from the exercise of awards granted under these
plans, together with other compensation to CanArgo's executive officers, will
exceed $1,000,000 in any year for any such officer. Neither of the stock option
plans, however, meets the requirements of an exception from section 162(m) for
"performance-based compensation."
RELATED TRANSACTIONS
Nicholas G. Dobrotwir served as vice president of CanArgo from September 1997
until January 26, 1998. Since then he has provided consulting services to
CanArgo. In 1997, CanArgo paid $500,000 and issued 87,500 shares of common stock
having a value on the date of issuance of $1,060,938 to Fielden Management
Services Pty, Ltd. in connection with CanArgo obtaining the right to develop and
operate the Stynawske field project. Mr. Dobrotwir has indirect beneficial
ownership of the 87,500 shares of common stock owned by Fielden. Fielden also
has the contingent right to receive up to an additional 187,500 shares of common
stock if the Stynawske field project satisfies specified performance standards.
During 1997, CanArgo paid Fielden consulting fees and expenses related to the
Stynawske field project. Mr. Dobrotwir was the president and chief executive
officer of Fielden until his resignation on May 5, 1997. Mr. Dobrotwir's
consulting services to CanArgo were provided through Fielden from January 1997
through April 1997. After April 30, 1997, Mr. Dobrotwir's services were provided
pursuant to a management service agreement between CanArgo and Trident Petroleum
Inc. During 1997, CanArgo paid a total of $288,065.20 to Fielden, including
$111,562.50 for consulting services provided by Mr. Dobrotwir, and paid $100,000
to Trident Petroleum Inc. for Mr. Dobrotwir's services.
Orest Senkiw served as a vice president of CanArgo from February 4, 1997 to
December 1, 1997. Mr. Senkiw and his family own the corporation that holds 10.3%
of the outstanding shares of Zhoda Corporation. Mr. Senkiw was the CanArgo
executive who had the principal operating responsibilities for the Lelyaki field
project during 1997. On April 26, 1997, Zhoda transferred an effective 36%
ownership interest in the Lelyaki field project to CanArgo. In consideration for
the transfer, a subsidiary of CanArgo assumed a $450,000 obligation owed by
Zhoda to CanArgo and issued to Zhoda special non-voting common shares of that
subsidiary which could be exchanged for 500,000 shares of CanArgo common stock
if various conditions relating to performance by the Lelyaki field were
achieved. CanArgo believes that all of Zhoda's rights to exchange the special
shares terminated during 1997 because the conditions were not satisfied. Zhoda
has filed a suit
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against CanArgo in connection with this transaction which is described in the
section "Business -- Legal Proceedings."
CanArgo is a 50% shareholder of CanArgo Power Corporation, which in turn owns
85% of a Georgian private power company. The other 50% of CanArgo Power is owned
by Terrenex Acquisition Corporation. Terrenex is the beneficial owner of 11.8%
of CanArgo's voting securities. Michael R. Binnion is president and a director
of both CanArgo and Terrenex. J.F. Russell Hammond is a director of CanArgo and
chairman of Terrenex. Peder Paus is a director of CanArgo and a 12% stockholder
of Terrenex. During the first half of 1998, Terrenex, on behalf of both itself
and CanArgo, provided all of the funds required by CanArgo Power. After the July
1998 business combination with CanArgo Oil & Gas Inc. was completed, CanArgo
reimbursed Terrenex $398,000, representing half of the amount that had been
advanced through that time. CanArgo and Terrenex have funded CanArgo Power
equally since that time.
In May 1998, Terrenex agreed to lend CanArgo Oil & Gas Inc. up to $1,000,000
through August 31, 1998 and subsequently advanced the $1,000,000. CanArgo Oil &
Gas Inc. paid Terrenex a $10,000 commitment fee, $50,000 in draw down fees and
interest at the rate of 1/2% per month. In addition, CanArgo Oil & Gas Inc.
granted Terrenex two options, each exercisable until December 31, 1998. One
option entitled Terrenex to acquire 12 1/2% of the stock of the CanArgo
subsidiary that holds the Nazvrevi/Block XIII production sharing contract. Under
the second option, Terrenex could purchase 15% of CanArgo Oil & Gas Inc.'s
position in any licenses received as a result of a consortium submission in
response to the Dagestan tender for offshore drilling and production rights. The
terms of the loan were negotiated and approved by those directors of CanArgo Oil
& Gas Inc. who had no affiliation with Terrenex. CanArgo repaid the Terrenex
loan following completion of the business combination in July 1998. CanArgo
subsequently extended the options through March 31, 1999 in consideration of the
efforts of Terrenex in attempting to arrange financing for CanArgo. The options
could be exercised by Terrenex paying the percentage of the amount spent by
CanArgo on the relevant project through the exercise date as equaled the
percentage of the project being acquired through the exercise of the option. In
light of the relationship between Terrenex and CanArgo, Terrenex decided that
any investment related to CanArgo that it would make at this time should be in
the entity CanArgo Energy Corporation and not in specific CanArgo projects and,
accordingly, Terrenex allowed the options to expire unexercised.
On July 14, 1998, CanArgo Oil & Gas Inc. issued to Peder Paus, but retained in
escrow, 225,000 of its common shares. The shares were issued to Mr. Paus for
financial services rendered in connection with CanArgo's 1998 business
combination with CanArgo Oil & Gas Inc. Upon the consummation of the business
combination, Mr. Paus became a director of CanArgo, and the 225,000 common
shares of CanArgo Oil & Gas Inc. were converted into 180,000 CanArgo Oil & Gas
Inc. exchangeable shares, each of which could be exchanged for a share of
CanArgo common stock. The shares were issued to Mr. Paus subject to the
condition that the financial services rendered by Mr. Paus result in completed
transactions. Although the business combination closed, post-combination
financing that had been contemplated did not take place. As a result, Mr. Paus
and CanArgo Oil & Gas Inc. agreed in September 1998 that since the condition had
not been satisfied, the shares were not earned and should be cancelled. The
180,000 exchangeable shares were subsequently cancelled.
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OWNERSHIP OF VOTING SECURITIES
DESCRIPTION OF VOTING SECURITIES
The voting securities of CanArgo consist of common stock and a class of
preferred stock called special voting stock. Generally, the common stock and
special voting stock are voted together as a single class on all matters. The
common stock is entitled to one vote per share. The special voting stock is
entitled generally to a number of votes equal to the number of outstanding
exchangeable shares issued by CanArgo Oil & Gas Inc., a subsidiary of CanArgo.
The special voting stock is held of record by Montreal Trust Company of Canada,
which holds the stock in trust for the benefit of the holders of the
exchangeable shares. The special voting stock is voted in the manner directed by
the holders of the exchangeable shares. The exchangeable shares may be exchanged
for shares of common stock on a share-for-share basis. For purposes of the
following tables, the term "voting securities" refers to the CanArgo common
stock and the CanArgo Oil & Gas Inc. exchangeable shares as though they were a
single class of voting securities. These securities are described in the section
"Description of Capital Stock."
SECURITY OWNERSHIP BY MANAGEMENT
The following table sets forth information as of April 30, 1999 regarding the
beneficial ownership of the voting securities by each director, by the persons
named in the summary compensation table, and by all directors and current
executive officers of CanArgo as a group. This information is also provided to
give effect to the sale of a minimum 11,500,000 shares and a maximum 21,264,643
shares of common stock in this offering, but does not reflect possible purchases
of shares by these persons in this offering. Unless otherwise noted, each
stockholder has sole voting and investment power as to the shares shown.
<TABLE>
<CAPTION>
PERCENTAGE OWNERSHIP
------------------------------------------
NUMBER OF BEFORE AFTER MINIMUM AFTER MAXIMUM
NAME SHARES OWNED OFFERING OFFERING OFFERING
- ---- ------------ -------- ------------- -------------
<S> <C> <C> <C> <C>
Michael Binnion......... 439,852(1) 2.06% 1.34% 1.03%
Peder Paus.............. 365,894(2) 1.72% 1.12% *
Nils N. Trulsvik........ 103,700(3) * * *
David Robson............ 90,000(4) * * *
J.F. Russell Hammond.... 33,750(5) * * *
Robert A. Halpin........ 13,500(6) * * *
Rune Falstad............ 10,500 * * *
Alfred Kjemperud........ 0 0 0 0
All executive officers
and directors as a
group (8 persons)..... 1,073,362(7) 4.98% 3.25% 2.51%
</TABLE>
- -------------------------
* Less than 1%.
(1) Includes 70,000 shares underlying presently exercisable options; also
includes 137,218 shares, but excludes 2,403,853 shares, beneficially owned
by Terrenex Acquisition Corporation of which Mr. Binnion is president, a
director and an approximately 5.4% shareholder. Mr. Binnion disclaims
beneficial ownership of all
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<PAGE> 69
shares beneficially owned by Terrenex, other than the 137,218 shares which
represent his 5.4% proportionate interest. For information about the
holdings of Terrenex, see "Top 20 Holders of Voting Securities" below.
(2) Includes 15,715 shares underlying presently exercisable warrants to acquire
exchangeable shares and 3,750 shares underlying presently exercisable
options.
(3) Includes 30,000 shares underlying presently exercisable options.
(4) Represents 90,000 shares underlying presently exercisable options.
(5) Represents 33,750 shares underlying presently exercisable options. Excludes
2,541,071 shares owned by Terrenex Acquisition Corporation of which Mr.
Hammond is chairman, and 1,671,250 shares owned by Provincial Securities
Limited for which Mr. Hammond is an investment advisor, as to which shares
Mr. Hammond disclaims beneficial ownership. For information about the
holdings of Terrenex and Provincial Securities, see "Top 20 Holders of
Voting Securities" below.
(6) Includes 7,500 shares underlying presently exercisable options.
(7) See Notes 1 through 6; also includes 26,666 shares underlying presently
exercisable options held by an executive officer not named in the foregoing
table.
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<PAGE> 70
TOP 20 HOLDERS OF VOTING SECURITIES
Except as noted with respect to Terrenex Acquisition Corporation, Provincial
Securities Limited, Michael R. Binnion, Peder Paus and Nils N. Trulsvik, who are
known by CanArgo to beneficially own the shares indicated, the following table
sets forth information regarding the top 20 record holders of the voting
securities as shown on the stock records of CanArgo and CanArgo Oil & Gas Inc.
as of April 30, 1999. Only Terrenex Acquisition Corporation and Provincial
Securities Limited are known to CanArgo to be the beneficial owners of more than
5% of the voting securities.
<TABLE>
<CAPTION>
RECORD OWNERSHIP
PRIOR TO OFFERING
------------------------------
NAME NUMBER OF SHARES PERCENTAGE
- ---- ---------------- ----------
<S> <C> <C>
Terrenex Acquisition Corporation................... 2,541,071(1) 11.80%
1580, 727 - 7th Avenue, S.W.
Calgary, Alberta T2P 0Z5
Canada
Provincial Securities Limited...................... 1,671,250(2) 7.86%
607 Gilbert House, Barbican
London EC2Y 8BD
United Kingdom
Independent Oilfield............................... 750,000 3.53%
B.A.S.E............................................ 708,750 3.33%
Michael R. Binnion................................. 439,852(3) 2.06%
Gjensidige Kapital v/Gjensidige Fondsfo............ 412,000 1.94%
Peder Paus......................................... 365,894(4) 1.72%
Unibank A/S S/A Collective Client.................. 263,950 1.24%
Makoil Inc......................................... 250,000 1.18%
Part Invest AS..................................... 200,000 0.94%
Eurosecurities Limited............................. 189,200 0.89%
Arnfred Alvestad................................... 134,000 0.63%
G-Fondspar 2020 v/Gjensidige Fondsfo............... 120,000 0.56%
Southwest Capital Group Inc........................ 119,444 0.56%
Vestmo AS.......................................... 119,000 0.56%
A. Hellesto A/S.................................... 106,800 0.50%
Nils N. Trulsvik................................... 103,700(5) 0.49%
Ingebrigt Breistol................................. 101,800 0.48%
Tom Henning Slethei................................ 100,000 0.47%
G&J Holding AS v/Jon T. Marthinsen................. 100,000 0.47%
</TABLE>
- -------------------------
(1) Includes 261,680 shares underlying presently exercisable warrants to acquire
exchangeable shares. Michael Binnion is president, a director and an
approximately 5.4% shareholder, and J.F. Russell Hammond is chairman, of
Terrenex Acquisition Corporation. Assuming it does not purchase any shares
in this offering, after giving effect to a minimum and a maximum offering,
Terrenex would be the beneficial owner of 7.69% and 5.94%, respectively, of
the voting securities then outstanding.
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<PAGE> 71
(2) J.F. Russell Hammond is an investment advisor to Provincial Securities Ltd.
Assuming it does not purchase any shares in this offering, after giving
effect to a minimum and a maximum offering, Provincial Securities would be
the beneficial owner of 5.10% and 3.93%, respectively, of the voting
securities then outstanding.
(3) See Note 1 -- "Security Ownership by Management" above.
(4) See Note 2 -- "Security Ownership by Management" above.
(5) See Note 3 -- "Security Ownership by Management" above.
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<PAGE> 72
DESCRIPTION OF CAPITAL STOCK
CanArgo's certificate of incorporation authorizes CanArgo to issue 50,000,000
shares of common stock, $.10 par value per share, and 5,000,000 shares of
preferred stock, $.10 par value per share. CanArgo has authorized a class of
preferred stock, "Series Voting Preferred Stock," which we refer to in this
prospectus as "special voting stock." As of April 30, 1999, there were
19,526,324 shares of common stock and 100 shares of special voting stock
outstanding.
At the annual meeting of stockholders scheduled to be held on June 16, 1999
CanArgo will seek stockholder approval of a 1-for-25 reverse stock split of its
common stock. If approved, CanArgo does not expect to implement the reverse
split until after this offering is completed. The reverse stock split would
affect the outstanding shares and options, warrants and other obligations to
issue shares of common stock, but would not proportionately reduce the number of
authorized shares of common stock. Accordingly, if the reverse stock split is
implemented, after completion of this offering there will be at least 45,000,000
authorized but unissued shares of common stock available for future issuance at
the discretion of the board of directors. See "Market for Common Stock and
Dividend Policy" for additional information regarding the proposed reverse stock
split.
COMMON STOCK
Holders of common stock have no preferences or preemptive, conversion or
exchange rights. Subject to any preferential rights of any shares of preferred
stock which may be outstanding, holders of common stock are entitled to receive
dividends approved by the board of directors and to share ratably in CanArgo's
assets legally available for distribution to its stockholders in the event of
its liquidation, dissolution or winding-up. CanArgo may not pay dividends on its
common stock unless its subsidiary, CanArgo Oil & Gas Inc., simultaneously pays
an equivalent dividend on the exchangeable shares described below.
Holders of common stock are entitled to one vote per share on all matters voted
on generally by the stockholders, including the election of directors.
Cumulative voting for the election of directors is not permitted. Except as
otherwise required by law or except as any series or class of preferred stock,
such as the special voting stock, may provide, the holders of common stock
possess all voting power.
The shares of common stock to be issued in this offering, when issued and paid
for, will be fully paid and non-assessable.
PREFERRED STOCK
The board of directors is authorized to issue, without stockholder approval,
shares of preferred stock in one or more classes or series. The board of
directors may set the terms and provisions of each class or series by
resolution, including provisions regarding voting, liquidation preference,
redemption, conversion and the right to receive dividends. The board of
directors has authorized one class of preferred stock, "Series Voting Preferred
Stock," which we refer to in this prospectus as "special voting stock." The
board of directors has no present plans to issue any additional shares of
preferred stock.
The ability to issue preferred stock provides CanArgo with flexibility in
connection with possible acquisitions, financings and other corporate
transactions. The issuance of preferred stock may also, however, have the effect
of discouraging, delaying or preventing a change in control of CanArgo. For
example, the board of directors can create a series of preferred stock with
disproportionate voting power or with the right to vote separately as a class on
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<PAGE> 73
important corporate matters, like mergers or the election of directors. The
preferred stock could also be convertible into a large number of shares of
common stock or have other terms which could make it more difficult or costly
for a third party to acquire a significant interest in CanArgo. Also, shares of
preferred stock could be privately placed with purchasers who might side with
the management of CanArgo in opposing a hostile tender offer or other attempt to
obtain control. As a result, the issuance of preferred stock as an anti-takeover
device might preclude stockholders from taking advantage of a situation which
might be favorable to their interests.
SPECIAL VOTING STOCK
In connection with the July 1998 business combination with CanArgo Oil & Gas
Inc., the board of directors authorized a class of preferred stock, "Series
Voting Preferred Stock," referred to as "special voting stock", consisting of
100 shares. The shares of special voting stock were issued to Montreal Trust
Company of Canada, which is holding the shares as trustee for the benefit of the
holders of the exchangeable shares described below. Except as otherwise required
by law or CanArgo's certificate of incorporation, each share of special voting
stock is entitled to a number of votes equal to the quotient (rounded down to
the nearest whole number) obtained by dividing the number of outstanding
exchangeable shares by the number of outstanding shares of special voting stock.
The special voting stock may be voted in the election of directors and on all
other matters submitted to a vote of stockholders of CanArgo. The holders of
common stock and the holder of the special voting stock vote together as a
single class on all matters, except to the extent voting as a separate class is
required by applicable law or CanArgo's certificate of incorporation.
In the event of any liquidation, dissolution or winding up of CanArgo, the
holder of the special voting stock will be entitled to receive the sum of $1.00
per share of special voting stock from any assets of CanArgo available for
distribution to its stockholders. The holder of the special voting stock is not
entitled to receive dividends. The special voting stock may be redeemed by
CanArgo for a price of $1.00 per share at any time when there are no
exchangeable shares outstanding and none which are issuable under options,
warrants or other obligations.
EXCHANGEABLE SHARES
In connection with the July 1998 business combination, the outstanding common
shares of CanArgo Oil & Gas Inc. were exchanged for exchangeable shares issued
by that corporation. The holders of the exchangeable shares may exchange them at
any time for CanArgo common stock on a share-for-share basis. As of April 30,
1999, there were 1,738,319 exchangeable shares outstanding and 933,503
exchangeable shares issuable upon exercise of warrants, which may be exchanged
for an aggregate of 2,671,822 shares of CanArgo's common stock. If the proposed
1-for-25 reverse split of CanArgo's common stock is implemented, then each 25
exchangeable shares may be exchanged for one share of CanArgo common stock. The
following is a summary of the principal terms and rights of the exchangeable
shares.
DIVIDENDS. Holders of exchangeable shares are entitled to receive dividends
equal to the dividends paid by CanArgo on shares of its common stock.
VOTING RIGHTS. The holders of exchangeable shares are entitled to provide
directions to the holder of the special voting stock as to the manner in which
the special voting stock should be voted with respect to any matter on which
holders of the common stock are entitled to vote, as described under "Special
Voting Stock" above.
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EXCHANGE EVENTS. Exchangeable shares must be exchanged for shares of common
stock on a share-for-share basis, plus an amount equal to all declared and
unpaid dividends on the exchangeable shares, whenever:
- - The holder requests CanArgo Oil & Gas Inc. to redeem his exchangeable shares;
- - CanArgo Oil & Gas Inc. is liquidated, dissolved or wound-up;
- - Requested by the holder of the special voting stock, in the event CanArgo Oil
& Gas Inc. becomes insolvent or bankrupt, has a receiver appointed or similar
event occurs;
- - CanArgo Energy Corporation becomes involved in voluntary or involuntary
liquidation, dissolution or winding-up proceedings;
- - Either CanArgo Oil & Gas Inc. or CanArgo Energy Corporation elects to redeem
all of the exchangeable shares, provided the election is made after January
30, 2004 or at the time of the election the number of outstanding
exchangeable shares in less than 853,071; or
- - A holder of exchangeable shares instructs the holder of the special voting
stock to require CanArgo to purchase his exchangeable shares.
PROTECTION RIGHTS. Without the prior approval of CanArgo Oil & Gas Inc. and the
holders of the exchangeable shares, CanArgo may not (1) distribute additional
shares of its common stock, subscription rights or other property or assets to
all or substantially all holders of its common stock, or (2) subdivide, combine,
reclassify or otherwise change the common stock, unless the same or an
economically equivalent action is taken with respect to the exchangeable shares.
The CanArgo Oil & Gas Inc. board of directors decides in its sole discretion
whether the exchangeable shares are being treated on an economically equivalent
basis with the common stock. In the event of any proposed tender offer, share
exchange offer, issuer bid, take-over bid or similar transaction affecting the
common stock, CanArgo must use reasonable efforts to enable holders of
exchangeable shares to be treated the same as the holders of the common stock.
CanArgo has also agreed to protect the rights of the holders of the exchangeable
shares to receive the same dividends as are paid on the common stock and to
exchange shares of common stock for exchangeable shares.
LIMITATION ON LIABILITY
CanArgo's certificate of incorporation limits or eliminates the liability of
CanArgo's directors or officers to CanArgo or its stockholders for monetary
damages to the fullest extent permitted by the Delaware General Corporation Law.
Delaware law provides that a director of CanArgo will not be personally liable
to CanArgo or its stockholders for monetary damages for a breach of fiduciary
duty as a director, except for liability:
- for any breach of the director's duty of loyalty;
- for acts or omissions not in good faith or involving intentional
misconduct or a knowing violation of law;
- for the payment of unlawful dividends and some other actions prohibited
by Delaware corporate law; and
- for any transaction resulting in receipt by the director of an improper
personal benefit.
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SECTION 203 OF DELAWARE GENERAL CORPORATION LAW
Section 203 of the Delaware General Corporation Law, which is applicable to
CanArgo as a Delaware corporation, prohibits various business combinations
between a Delaware corporation and an "interested stockholder," that is, anyone
who beneficially owns, alone or with other related parties, at least 15% of the
outstanding voting shares of a Delaware corporation. Business combinations
subject to Section 203 include mergers, consolidations, sales or other
dispositions of assets having an aggregate value in excess of 10% of the
consolidated assets of the corporation, and some transactions that would
increase the interested stockholder's proportionate share ownership in the
corporation. Section 203 prohibits this type of business combination for three
years after a person becomes an interested stockholder, unless:
- - the business combination is approved by the corporation's board of directors
prior to the date the person becomes an interest stockholder;
- - the interested stockholder acquired at least 85% of the voting stock of the
corporation, other than stock held by directors who are also officers or by
specified employee stock plans, in the transaction in which it becomes an
interested stockholder; or
- - the business combination is approved by a majority of the board of directors
and by the affirmative vote of two-thirds of the outstanding voting stock
that is not owned by the interested stockholder.
TRANSFER AGENT AND REGISTRAR
The transfer agent and registrar for the common stock is Signature Stock
Transfer, Inc., Dallas, Texas, and the Norwegian sub-registrar for the common
stock is Den norske Bank ASA, Oslo, Norway.
SHARES ELIGIBLE FOR FUTURE RESALE
Based on the number of shares outstanding on April 30, 1999, upon completion of
this offering, CanArgo will have outstanding 31,026,324 shares of common stock
if the minimum number of shares is sold and 40,790,967 shares of common stock if
the maximum number of shares is sold. Of these shares, approximately 26,437,030
shares if the minimum number of shares is sold, and approximately 36,201,673
shares if the maximum number of shares is sold, will be freely tradable without
restriction or further registration under the Securities Act unless purchased by
"affiliates" of CanArgo, as that term is defined in Rule 144 under the
Securities Act described below. An "affiliate" is generally considered to be an
executive officer, director or holder of enough of the equity securities of a
company to be able to influence the policies of that company.
The only material restriction on the approximately 4,251,794 of the shares of
common stock outstanding prior to this offering which are held by affiliates is
the limitation on the number of shares that may be sold in any three-month
period under Rule 144. In general, under Rule 144 any person, including an
affiliate, who has beneficially owned restricted shares for at least one year,
and an affiliate with respect to all of his non-restricted shares, is entitled
to sell, within any three-month period, a number of shares at least equal to 1%
of the number of then outstanding shares of common stock. In addition, a person
who has not been an affiliate of CanArgo at any time during the 90 days
preceding the sale and who has beneficially owned the shares proposed to be sold
for at least two years, is entitled to sell an unlimited number of restricted
shares.
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In addition to the outstanding shares, at April 30, 1999 CanArgo had reserved
the following shares for possible future issuance:
- - 2,671,822 shares issuable upon exchange of exchangeable shares which are now
outstanding and which may become outstanding upon exercise of warrants to
purchase exchangeable shares;
- - 1,635,084 shares issuable upon exercise of outstanding stock options;
- - 154,916 shares that may be issued upon exercise of options available for
future grant under CanArgo's stock option plans;
- - 181,250 shares issuable for services rendered; and
- - 187,500 shares issuable in connection with an oil and gas project.
Of the foregoing shares, all but 368,750 shares will be freely tradeable without
restriction or further registration under the Securities Act, except for shares
which may be acquired by affiliates of CanArgo which would be subject to Rule
144 as described above.
LEGAL MATTERS
Kelly Lytton Mintz & Vann LLP, special securities counsel to CanArgo, has
provided an opinion concerning the validity of the shares of common stock
offered by this prospectus. Alan D. Jacobson, a partner in that firm, owns
25,972 shares of common stock, representing less than 1% of the outstanding
shares.
EXPERTS
The consolidated financial statements of CanArgo for the years ended December
31, 1998 and 1997 and August 31, 1996 and the four month period ended December
31, 1996, included in this prospectus have been audited by
PricewaterhouseCoopers LLP, independent accountants, as set forth in their
report which appears in this prospectus. Those financial statements have been
included in this prospectus in reliance upon the report of that firm, which is
given upon the authority of that firm as experts in accounting and auditing.
The consolidated financial statements of CanArgo Oil & Gas Inc. for the six
month period ended December 31, 1997 included in this prospectus have been
audited by Ernst & Young, Chartered Accountants, as set forth in their report
which appears in this prospectus. Those financial statements have been included
in this prospectus in reliance upon the report of that firm, which is given upon
the authority of that firm as experts in accounting and auditing.
The financial statements of Ninotsminda Oil Company Limited for the periods
ended June 30, 1997 and December 31, 1996, included in this prospectus have been
audited by Ernst & Young, Chartered Accountants, as set forth in their report
which appears in this prospectus. Those financial statements have been included
in this prospectus in reliance upon the report of that firm, which is given upon
the authority of that firm as experts in accounting and auditing.
Information from a report prepared by AMH Group Ltd., a firm of independent
petroleum consultants, has been included in this prospectus in reliance on the
fact that AMH Group Ltd. is an expert in the evaluation of oil and gas reserves.
76
<PAGE> 77
AVAILABLE INFORMATION
This prospectus is part of a registration statement on Form S-1 (file no.
333-72295) filed by CanArgo with the SEC. This prospectus does not contain all
of the information set forth in the registration statement. Additional
information about CanArgo and its common stock is contained in the registration
statement and its exhibits. This prospectus contains summary descriptions of
some of the documents that are filed as exhibits to the registration statement.
You should read the entire document filed as an exhibit and not rely solely on
the summaries in this prospectus.
CanArgo files reports with the SEC such as annual and quarterly reports, proxy
and information statements, and other information. The public may read and copy
any materials CanArgo files with the SEC, including the registration statement
and its exhibits, at the SEC's Public Reference Room at 450 Fifth Street, N.W.,
Washington, D.C. 20549. The public may obtain information on the operation of
the Public Reference Room by calling the SEC at 1-800-SEC-0330. The SEC also
maintains an Internet site that contains reports, proxy and information
statements, and other information regarding issuers, such as CanArgo, that file
electronically with the SEC. The address of that site is: http:// www.sec.gov.
From the SEC home page, click on "Search Edgar Archives" then "Quick Forms
Lookup."
77
<PAGE> 78
INDEX TO FINANCIAL STATEMENTS
<TABLE>
<S> <C>
CANARGO ENERGY CORPORATION:
Report of Independent Accountants......................... F-1
Consolidated Balance Sheet as of December 31, 1998 and
December 31, 1997...................................... F-2
Consolidated Statement of Operations for the years ended
December 31, 1998 and 1997 and August 31, 1996......... F-3
Consolidated Statement of Operations for the four month
periods ended December 31, 1996 and 1995............... F-4
Consolidated Statement of Stockholders' Equity for the
period August 31, 1996 through December 31, 1998....... F-5
Consolidated Statement of Cash Flows for the years ended
December 31, 1998 and 1997 and August 31, 1996......... F-6
Consolidated Statement of Cash Flows for the four month
periods ended December 31, 1996 and 1995............... F-7
Notes to Consolidated Financial Statements................ F-8
Supplemental Financial Information: Supplemental Oil and
Gas Disclosures -- Unaudited........................... F-40
Consolidated Condensed Balance Sheet as of March 31, 1999
and December 31, 1998 (Unaudited)...................... F-45
Consolidated Condensed Statements of Operations for the
three months ended March 31, 1999 and March 31, 1998
(Unaudited)............................................ F-46
Consolidated Condensed Statements of Cash Flows for the
three months ended March 31, 1999 and March 31, 1998
(Unaudited)............................................ F-47
Notes to Unaudited Consolidated Condensed Financial
Statements for the three months ended March 31, 1999
and March 31, 1998..................................... F-48
CANARGO OIL & GAS INC.:
Consolidated Balance Sheet as of June 30, 1998
(Unaudited)............................................ F-59
Consolidated Statement of Operations and Deficit for the
six months ended June 30, 1998 (Unaudited)............. F-60
Consolidated Statement of Cash Flows for the six months
ended June 30, 1998 (Unaudited)........................ F-61
Notes to Unaudited Consolidated Financial Statements for
the six months ended June 30, 1998 (Unaudited)......... F-62
Auditors' Report.......................................... F-68
Consolidated Balance Sheet as of December 31, 1997........ F-69
Consolidated Statement of Operations and Deficit for the
six months ended December 31, 1997..................... F-70
Consolidated Statement of Cash Flows for the six months
ended December 31, 1997................................ F-71
Notes to Consolidated Financial Statements................ F-72
Supplemental Disclosures about Oil and Gas -- Production
Activities............................................. F-79
</TABLE>
78
<PAGE> 79
<TABLE>
<S> <C>
NINOTSMINDA OIL COMPANY LIMITED:
Auditors' Report.......................................... F-82
Balance Sheet for the periods ended June 30, 1997 and
December 31, 1996...................................... F-83
Statement of Operations and Retained Earnings for the six
months ended June 30, 1997 and the period October 24,
1995 to December 31, 1996.............................. F-84
Statement of Cash Flows for the six months ended June 30,
1997 and the period October 24, 1995 to December 31,
1996................................................... F-85
Notes to Financial Statements............................. F-86
</TABLE>
79
<PAGE> 80
REPORT OF INDEPENDENT ACCOUNTANTS
To the Board of Directors and Stockholders of
CanArgo Energy Corporation:
We have audited the accompanying consolidated balance sheets of CanArgo
Energy Corporation (formerly Fountain Oil Incorporated) and subsidiaries (the
"Company") as of December 31, 1998 and 1997 and the related consolidated
statements of operations, stockholders' equity and cash flows for the years
ended December 31, 1998, 1997 and August 31, 1996 and the four month period
ended December 31, 1996. These consolidated financial statements are the
responsibility of the Company's management. Our responsibility is to express an
opinion on these consolidated financial statements based on our audits.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to obtain
reasonable assurance about whether the financial statements are free of material
misstatement. An audit includes examining, on a test basis, evidence supporting
the amounts and disclosures in the financial statements. An audit also includes
assessing the accounting principles used and significant estimates made by
management, as well as evaluating the overall financial statement presentation.
We believe that our audits provide a reasonable basis for our opinion.
In our opinion, the consolidated financial statements referred to above
present fairly, in all material respects, the consolidated financial position of
the Company as of December 31, 1998 and 1997 and the consolidated results of
their operations and their cash flows for the years ended December 31, 1998,
1997 and August 31, 1996 and the four month period ended December 31, 1996, in
conformity with generally accepted accounting principles.
The accompanying consolidated financial statements have been prepared
assuming that the Company will continue as a going concern. As more fully
described in Notes 3 and 8 to the consolidated financial statements, the Company
will require substantial capital in order to finance the development of its oil
and gas interests. In addition, the Company and its oil and gas ventures must
produce and market oil and gas in sufficient quantities and at sufficient prices
to provide positive cash flow to the Company. As a result, there is substantial
doubt about the Company's ability to continue as a going concern. Management's
plans in regards to these matters are also described in Note 8 to the
consolidated financial statements. The consolidated financial statements do not
include any adjustments that might result from the outcome of these
uncertainties.
<TABLE>
<S> <C>
Houston, Texas
March 5, 1999 (except for PricewaterhouseCoopers LLP
note 20 which is as of
March 29, 1999)
</TABLE>
F-1
<PAGE> 81
CANARGO ENERGY CORPORATION
CONSOLIDATED BALANCE SHEET
AS OF DECEMBER 31, 1998 AND DECEMBER 31, 1997
<TABLE>
<CAPTION>
DECEMBER 31, DECEMBER 31,
1998 1997
------------ ------------
<S> <C> <C>
ASSETS
Cash and cash equivalents......................... $ 1,924,908 $ 14,164,177
Restricted cash................................... -- 9,700,000
Accounts receivable............................... 424,367 --
Advances to operator.............................. 376,890 --
Inventory......................................... 170,405 --
Other current assets.............................. 453,476 761,904
------------ ------------
Total current assets......................... 3,350,046 24,626,081
Property and equipment, net....................... 6,201,936 5,942,273
Oil and gas properties, net, full cost method
(including unevaluated amounts of $13,266,368
and $324,500 respectively)...................... 30,137,573 1,478,974
Investments in and advances to oil and gas and
other ventures -- net........................... 6,877,974 5,386,707
------------ ------------
TOTAL ASSETS...................................... 46,567,529 37,434,035
============ ============
LIABILITIES AND STOCKHOLDERS' EQUITY
Accounts payable.................................. $ 821,761 $ 328,171
Accrued liabilities............................... 1,162,050 10,326,608
------------ ------------
Total current liabilities.................... $ 1,983,811 $ 10,654,779
Minority interest in subsidiaries................. 4,552,285 --
Commitments and contingencies (Notes 8 and 11).... -- --
Stockholders' equity:
Preferred stock, par value $0.10 per share,
5,000,000 shares authorized: 100 shares
issued and outstanding....................... -- --
Common Stock, par value $0.10 per share,
50,000,000 shares authorized: 15,157,868 and
11,223,744 shares issued and outstanding
respectively; 5,856,775 additional shares
issuable on demand at December 31, 1998
without receipt of further consideration..... 2,101,464 1,122,374
Capital in excess of par value.................. 101,545,941 83,162,531
Accumulated deficit............................. (63,615,972) (57,505,649)
------------ ------------
Total stockholders' equity................... $ 40,031,433 $ 26,779,256
------------ ------------
TOTAL LIABILITIES AND STOCKHOLDERS' EQUITY........ $ 46,567,529 $ 37,434,035
============ ============
</TABLE>
The accompanying notes are an integral part of the consolidated financial
statements
F-2
<PAGE> 82
CANARGO ENERGY CORPORATION
CONSOLIDATED STATEMENT OF OPERATIONS
FOR THE YEARS ENDED DECEMBER 31, 1998 AND 1997 AND AUGUST 31, 1996
<TABLE>
<CAPTION>
1998 1997 1996
----------- ------------ -----------
<S> <C> <C> <C>
Operating Revenues:
Oil and gas sales.................. $ 804,552 $ 313,301 $ 26,562
Other.............................. 16,400 -- 8,615
----------- ------------ -----------
TOTAL REVENUES....................... 820,952 313,301 35,177
----------- ------------ -----------
Operating expenses:
Lease operating expenses........... 843,169 200,321 10,988
Cost of sales...................... 7,888 -- 31,991
Direct project costs............... 1,157,163 1,753,166 1,267,555
General and administrative......... 3,887,386 3,903,446 3,853,972
Depreciation, depletion and
amortization.................... 238,924 344,666 77,253
Equity loss from investments in
unconsolidated subsidiaries..... 161,180 3,778,287 13,272
Impairment of notes receivable..... -- 186,611 --
Impairment of property and
equipment....................... 113,000 3,243,997 --
Impairment of oil and gas
properties...................... 900,000 257,407 419,835
Impairment of oil and gas
ventures........................ -- 15,735,592 --
----------- ------------ -----------
TOTAL OPERATING EXPENSES............. 7,308,710 29,403,493 5,674,866
----------- ------------ -----------
OPERATING LOSS....................... (6,487,758) (29,090,192) (5,639,689)
----------- ------------ -----------
Other (expense) income:
Interest income.................... 782,596 1,615,066 332,071
Interest expense................... (479,932) (69,286) (1,016,465)
Other.............................. (76,540) (72,714) 12,551
Loss on disposition of equipment
and property.................... (30,333) (271,205) (182,020)
----------- ------------ -----------
TOTAL OTHER (EXPENSE) INCOME......... 195,791 1,201,861 (853,863)
----------- ------------ -----------
Net loss before income tax expense... (6,291,967) (27,888,331) (6,493,552)
Income tax expense................... -- -- --
----------- ------------ -----------
NET LOSS BEFORE MINORITY INTEREST.... (6,291,967) (27,888,331) (6,493,552)
Minority interest in loss of
consolidated subsidiaries.......... 181,644 205,380 --
----------- ------------ -----------
NET LOSS............................. $(6,110,323) $(27,682,951) $(6,493,552)
----------- ------------ -----------
NET LOSS PER COMMON SHARE -- BASIC... $ (0.39) $ (2.47) $ (1.04)
----------- ------------ -----------
NET LOSS PER COMMON SHARE --DILUTED.. $ (0.39) $ (2.47) $ (1.04)
----------- ------------ -----------
Weighted average number of common
shares outstanding................. 15,783,889 11,206,506 6,247,568
----------- ------------ -----------
</TABLE>
The accompanying notes are an integral part of the consolidated financial
statements
F-3
<PAGE> 83
CANARGO ENERGY CORPORATION
CONSOLIDATED STATEMENT OF OPERATIONS -- CONTINUED
FOR THE FOUR MONTH PERIODS ENDED DECEMBER 31, 1996 AND 1995
<TABLE>
<CAPTION>
1996 1995
----------- -----------
UNAUDITED
<S> <C> <C>
Operating Revenues:
Oil and gas sales............................... $ 16,980 $ 6,440
Other income.................................... -- 1,908
----------- -----------
TOTAL REVENUES.................................... 16,980 8,348
----------- -----------
Operating expenses:
Cost of sales................................... 4,052 4,581
Lease operating expenses........................ 1,550 2,536
Direct project costs............................ 314,100 120,268
General and administrative...................... 1,281,821 1,303,048
Loss from investments in unconsolidated
subsidiaries................................. 1,359,246 4,424
Depreciation, depletion and amortization........ 39,578 43,643
----------- -----------
TOTAL OPERATING EXPENSES.......................... 3,000,347 1,478,500
----------- -----------
OPERATING LOSS.................................... (2,983,367) (1,470,152)
----------- -----------
Other (expense) income:
Interest income................................. 423,681 54,992
Interest expense................................ (12,744) (3,006)
Other........................................... (49,995) (24,016)
----------- -----------
TOTAL OTHER (EXPENSE) INCOME...................... 360,942 27,970
----------- -----------
Net loss before income tax expense................ (2,622,425) (1,442,182)
Income tax expense................................ -- --
----------- -----------
NET LOSS BEFORE MINORITY INTEREST................. (2,622,425) (1,442,182)
Minority interest in loss of consolidated
subsidiaries.................................... 17,970 --
----------- -----------
NET LOSS.......................................... $(2,604,455) $(1,442,182)
----------- -----------
NET LOSS PER COMMON SHARE -- BASIC................ $ (.28) $ (.27)
----------- -----------
NET LOSS PER COMMON SHARE -- DILUTED.............. $ (.28) $ (.27)
----------- -----------
Weighted average number of common shares
outstanding..................................... 9,348,106 5,417,032
----------- -----------
</TABLE>
The accompanying notes are an integral part of the consolidated financial
statements
F-4
<PAGE> 84
CANARGO ENERGY CORPORATION
CONSOLIDATED STATEMENT OF STOCKHOLDERS' EQUITY
FOR THE PERIOD AUGUST 31, 1996 THROUGH DECEMBER 31, 1998
<TABLE>
<CAPTION>
COMMON STOCK
------------------------
NUMBER OF ADDITIONAL TOTAL
SHARES PAID-IN ACCUMULATED STOCKHOLDERS'
ISSUED PAR VALUE CAPITAL DEFICIT EQUITY
---------- ---------- ------------ ------------ -------------
<S> <C> <C> <C> <C> <C>
BALANCE, AUGUST 31, 1996.... 8,688,304 $ 868,830 $ 56,854,403 $(27,218,243) $30,504,990
---------- ---------- ------------ ------------ -----------
Issuance of common stock
upon conversion of
debentures................ 29,563 2,956 277,438 -- 280,394
Issuance of common stock
upon exercise of warrants
and options............... 2,366,377 236,638 24,827,704 -- 25,064,342
Net loss.................... -- -- -- (2,604,455) (2,604,455)
---------- ---------- ------------ ------------ -----------
BALANCE, DECEMBER 31,
1996...................... 11,084,244 $1,108,424 $ 81,959,545 $(29,822,698) $53,245,271
---------- ---------- ------------ ------------ -----------
Issuance of common stock for
purchase of interest in
oil and gas venture....... 87,500 8,750 1,052,186 -- 1,060,936
Issuance of common stock
upon exercise of
options................... 52,000 5,200 150,800 -- 156,000
Net loss.................... -- -- -- (27,682,951) (27,682,951)
---------- ---------- ------------ ------------ -----------
BALANCE, DECEMBER 31,
1997...................... 11,223,744 $1,122,374 $ 83,162,531 $(57,505,649) $26,779,256
---------- ---------- ------------ ------------ -----------
Issuance of common stock
upon exchange of CanArgo
Oil & Gas Inc.
Exchangeable Shares....... 3,934,124 393,412 7,386,718 -- 7,780,130
Net loss.................... -- -- -- (6,110,323) (6,110,323)
---------- ---------- ------------ ------------ -----------
BALANCE, DECEMBER 31,
1998...................... 15,157,868 $1,515,786 $ 90,549,249 $(63,615,972) $28,449,063
---------- ---------- ------------ ------------ -----------
Common shares issuable upon
exchange of CanArgo Oil &
Gas Inc. Exchangeable
Shares without receipt of
further consideration..... 5,856,775 585,678 10,996,692 -- 11,582,370
---------- ---------- ------------ ------------ -----------
TOTAL, DECEMBER 31, 1998.... 21,014,643 $2,101,464 $101,545,941 $(63,615,972) $40,031,433
---------- ---------- ------------ ------------ -----------
</TABLE>
The accompanying notes are an integral part of the consolidated financial
statements
F-5
<PAGE> 85
CANARGO ENERGY CORPORATION
CONSOLIDATED STATEMENT OF CASH FLOWS
FOR THE YEARS ENDED DECEMBER 31, 1998 AND 1997 AND AUGUST 31, 1996
<TABLE>
<CAPTION>
1998 1997 1996
------------ ------------ -----------
<S> <C> <C> <C>
Operating activities:
Net loss........................................... $ (6,110,323) $(27,682,951) $(6,493,552)
Depreciation and amortization...................... 238,924 344,666 77,253
Loss on disposition of equipment and property...... 30,333 271,205 182,020
Impairment of notes receivable..................... -- 186,611 --
Impairment of property and equipment............... 113,000 3,243,997 --
Impairment of oil and gas properties............... 900,000 257,407 419,835
Impairment of oil and gas ventures................. -- 15,735,592 --
Amortization of debt issuance costs and discount... -- -- 866,666
Equity loss in investments in unconsolidated
subsidiaries..................................... 161,180 3,778,287 13,272
Minority interest in loss of unconsolidated
subsidiaries..................................... (181,644) (205,380) --
Changes in assets and liabilities:
Accounts receivable.............................. 649,671 259,040 53,905
Advance to operator.............................. 665,358 -- --
Inventory........................................ (150,000) -- --
Other assets..................................... 331,936 (139,493) (211,222)
Accounts payable................................. (2,202,203) (471,814) 62,638
Accrued liabilities.............................. (9,164,558) 246,920 (116,766)
------------ ------------ -----------
NET CASH USED IN OPERATING ACTIVITIES................ (14,718,326) (4,175,913) (5,145,951)
------------ ------------ -----------
Investing activities:
Restricted cash.................................... 9,700,000 (4,300,000) --
Acquisition costs.................................. (1,214,948) -- --
Investments in oil and gas properties.............. (5,727,029) (1,318,492) (155,938)
Investments in and advances to oil and gas and
other ventures................................... (1,652,447) (6,280,613) (2,644,837)
Capital expenditures............................... -- (1,573,507) (3,728,770)
Proceeds from disposition of assets................ 438,033 232,638 104,000
Issuance of notes receivable....................... -- -- (135,186)
------------ ------------ -----------
NET CASH USED IN INVESTING ACTIVITIES................ 1,543,609 (13,239,974) (6,560,731)
------------ ------------ -----------
Financing activities:
Cash acquired...................................... 935,448 -- --
Proceeds from issuance of debentures, net of
expenses......................................... -- -- 3,346,723
Proceeds from sales of common stock, net of
expenses......................................... -- -- 21,103,189
Proceeds from exercise of options.................. -- 156,000 --
Proceeds from issuance of short-term borrowings.... -- -- 4,848,476
Principal payments on short-term borrowings........ -- -- (5,054,114)
------------ ------------ -----------
NET CASH PROVIDED BY FINANCING ACTIVITIES............ 935,448 156,000 24,244,274
------------ ------------ -----------
NET INCREASE (DECREASE) IN CASH AND CASH
EQUIVALENTS........................................ (12,239,269) (17,259,887) 12,537,592
CASH AND CASH EQUIVALENTS, BEGINNING OF YEAR......... 14,164,177 31,424,064 4,791,645
------------ ------------ -----------
CASH AND CASH EQUIVALENTS, END OF YEAR............... $ 1,924,908 $ 14,164,177 $17,329,237
------------ ------------ -----------
</TABLE>
The accompanying notes are an integral part of the consolidated financial
statements
F-6
<PAGE> 86
CANARGO ENERGY CORPORATION
CONSOLIDATED STATEMENT OF CASH FLOWS -- CONTINUED
FOR THE FOUR MONTH PERIODS ENDED DECEMBER 31, 1996 AND 1995
<TABLE>
<CAPTION>
1996 1995
----------- -----------
UNAUDITED
<S> <C> <C>
Operating activities:
Net loss.......................................... $(2,604,455) $(1,442,182)
Depreciation and amortization..................... 39,578 43,643
Amortization of debt issuance costs and
discount....................................... 1,375 --
Loss in investments in unconsolidated
subsidiaries................................... 1,359,246 4,424
Minority interest in loss of unconsolidated
subsidiaries................................... (17,970) --
Changes in assets and liabilities:
Accounts receivable............................ (251,828) (114,236)
Other assets................................... 26,687 88,344
Accounts payable............................... 68,453 (305,580)
Accrued liabilities............................ 149,069 (242,037)
----------- -----------
NET CASH USED IN OPERATING ACTIVITIES............... (1,229,845) (1,967,624)
----------- -----------
Investing activities:
Restricted cash................................... (5,400,000) --
Investments in and advances to oil and gas and
other ventures................................. (3,108,472) (1,369,767)
Capital expenditures.............................. (1,200,042) (746,810)
Proceeds from disposition of assets............... -- (73,900)
----------- -----------
NET CASH USED IN INVESTING ACTIVITIES............... (9,708,514) (2,190,477)
Financing activities:
Proceeds from exercise of warrants and options.... 25,064,342 --
Proceeds from issuance of short-term borrowings... -- 122,153
Principal payments on short-term borrowings....... (31,156) (25,108)
----------- -----------
NET CASH PROVIDED BY FINANCING ACTIVITIES........... 25,033,186 97,045
----------- -----------
NET INCREASE (DECREASE) IN CASH AND CASH
EQUIVALENTS....................................... 14,094,827 (4,061,056)
CASH AND CASH EQUIVALENTS, BEGINNING OF YEAR........ 17,329,237 4,791,645
----------- -----------
CASH AND CASH EQUIVALENTS, END OF YEAR.............. $31,424,064 $ 730,589
----------- -----------
</TABLE>
The accompanying notes are an integral part of the consolidated financial
statements
F-7
<PAGE> 87
CANARGO ENERGY CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
1. NATURE OF OPERATIONS
On July 15, 1998, the Company completed the purchase of CanArgo Energy Inc.,
changed its name to CanArgo Energy Corporation and effected a one-for-two
reverse split of its common stock. See Note 4, Business Combination, of Notes to
Consolidated Financial Statements. The reverse split has been reflected
retroactively in the accompanying financial statements and notes thereto.
The principal activities of CanArgo Energy Corporation and its consolidated
subsidiaries (collectively the "Company") have involved the acquisition of
interests in and development of oil and gas fields with a productive history
that indicate the potential for increased production through rehabilitation and
utilization of modern production techniques and enhanced oil recovery processes.
The Company has typically acquired its interests in oil and gas properties
through interests in joint ventures, partially owned corporate and other
entities, and joint operating arrangements. While the Company has acquired
interests representing 50% or less of the equity in various oil and gas
projects, it has generally sought operational responsibility for the substantial
oil and gas projects in which it has interests. Accordingly, certain activities
in which the Company has interests are conducted through unconsolidated
entities. The Company has acquired less than majority interests in entities
developing or seeking to develop oil and gas properties in Eastern Europe
including the Russian Federation. These entities are accounted for as
unconsolidated subsidiaries.
The Company elected to change its fiscal year from August 31 to December 31
effective December 31, 1996 to conform to the calendar year accounting which is
required for most of the significant oil and gas projects in which the Company
participates. Accordingly, the accompanying consolidated financial statements
include information for the four-month transition period ended December 31,
1996. The comparable statements of operations and cash flows for the four month
period ended December 31, 1995 and all related footnote disclosures are
unaudited. Such unaudited information includes all adjustments necessary in the
opinion of the management of the Company for a fair statement of the results of
operations and cash flows. Results for the four month period may not be
indicative of results for the full year.
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
BASIS OF PRESENTATION -- The consolidated financial statements and notes thereto
are prepared in accordance with U.S. generally accepted accounting principles.
All amounts are in U.S. dollars.
CONSOLIDATION -- The consolidated financial statements include the accounts of
CanArgo Energy Corporation and its majority owned subsidiaries. The majority
owned subsidiaries at December 31, 1998 are CanArgo Oil & Gas Inc. (formerly
CanArgo Energy Inc.), Ninotsminda Oil Company Limited, CanArgo Limited, CanArgo
Nazvrevi Limited, CanArgo (Kaspi) Limited, CanArgo Petroleum Products Limited,
Novara Limited, CaspArgo Limited, Electromagnetic Oil Recovery International
Inc., Focan Ltd., Fountain Oil Adygea Incorporated, Fountain Oil Boryslaw
Incorporated, Fountain Oil Boryslaw Ltd., Fountain Oil Norway AS, Fountain Oil
Production Incorporated, Fountain Oil Services Ltd., Fountain Oil Ukraine Ltd.,
Fountain Oil
F-8
<PAGE> 88
CANARGO ENERGY CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- CONTINUED
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES -- (CONTINUED)
U.S. Inc., Gastron International Limited, Uentech Corporation and UK-RAN Oil
Corporation. All significant intercompany transactions and accounts have been
eliminated. Investments in less than majority-owned corporations and
corporate-like entities are accounted for using the equity method of accounting.
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 date of the financial statements and the reported amounts
of revenues and expenses during the reporting period. Actual results could
differ from those estimates.
RECLASSIFICATION -- Certain items in the Consolidated Financial Statements have
been reclassified to conform to the current year presentation. There was no
effect on net loss as a result of these reclassifications.
CASH AND CASH EQUIVALENTS -- The Company considers unrestricted short-term,
highly liquid investments with maturities of three months or less at the time of
purchase to be cash equivalents.
INVENTORIES -- Inventories are valued at lower of cost or market.
PROPERTY AND EQUIPMENT -- Property and equipment is stated at cost unless the
carrying amount is viewed as not recoverable in which case the carrying value of
the assets is reduced to the estimated recoverable amount. See "Impairment of
Long-Lived Assets" below. Expenditures for major renewals and betterments, which
extend the original estimated economic useful lives of applicable assets, are
capitalized. Expenditures for normal repairs and maintenance are charged to
expense as incurred. The cost and related accumulated depreciation of assets
sold or retired are removed from the accounts and any gain or loss thereon is
reflected in operations. Depreciation of property and equipment is computed
using the straight-line method over the estimated useful lives of the assets
ranging from three to ten years.
OIL AND GAS PROPERTIES -- The Company and the unconsolidated entities for which
it accounts using the equity method account for oil and gas properties and
interests under the full cost method. Under this accounting method, costs,
including a portion of internal costs associated with property acquisition and
exploration for and development of oil and gas reserves, are capitalized within
cost centers established on a country-by-country basis. Capitalized costs within
a cost center, as well as the estimated future expenditures to develop proved
reserves and estimated net costs of dismantlement and abandonment, are amortized
using the unit-of-production method based on estimated proved oil and gas
reserves. All costs relating to production activities are charged to expense as
incurred.
Capitalized oil and gas property costs, less accumulated depreciation, depletion
and amortization and related deferred income taxes, are limited to an amount
(the ceiling limitation) equal to (a) the present value (discounted at 10%) of
estimated future net revenues from the projected production of proved oil and
gas reserves, calculated at prices in effect as of the balance sheet date (with
consideration of price changes only to the
F-9
<PAGE> 89
CANARGO ENERGY CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- CONTINUED
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES -- (CONTINUED)
extent provided by fixed and determinable contractual arrangements), plus (b)
the lower of cost or estimated fair value of unproved and unevaluated
properties, less (c) income tax effects related to differences in the book and
tax basis of the oil and gas properties.
REVENUE RECOGNITION -- The Company recognizes revenues when goods have been
delivered, when services have been performed, or when hydrocarbons have been
produced and delivered.
FOREIGN CURRENCY TRANSLATION -- The U.S. dollar is the functional currency for
all of the Company's operations. Accordingly, all monetary assets and
liabilities denominated in foreign currency are translated into U.S. dollars at
the rate of exchange in effect at the balance sheet date and the resulting
unrealized translation gains or losses are reflected in operations. Non-monetary
assets are translated at historical exchange rates. Revenue and expense items
(excluding depreciation and amortization which are translated at the same rates
as the related assets) are translated at the average rate of exchange for the
year. Foreign currency translation amounts recorded in operations for years
ended December 31, 1998 and 1997, the year ended August 31, 1996 and the four
months ended December 31, 1996 and 1995 were not material.
INCOME TAXES -- The Company follows the provisions of Statement of Financial
Accounting Standards ("SFAS") No. 109, Accounting for Income Taxes, which
requires the recognition of deferred tax liabilities and assets for the expected
future tax consequences of events that have been included in the financial
statements or tax returns. Under this method, deferred tax liabilities and
assets are determined based on the difference between the financial statement
and the tax bases of assets and liabilities using enacted rates in effect for
the years in which the differences are expected to reverse. Valuation allowances
are established, when appropriate, to reduce deferred tax assets to the amount
expected to be realized.
IMPAIRMENT OF LONG-LIVED ASSETS -- The Company reviews all of its long-lived
assets except its oil and gas assets, for impairment in accordance with SFAS No.
121 Accounting for the Impairment of Long-Lived Assets and Assets to be Disposed
Of. The Company evaluates its oil and gas properties and its carrying value of
investments in unconsolidated entities conducting oil and gas operations in
accordance with the full cost ceiling limitation.
STOCK-BASED COMPENSATION PLANS -- The Company has adopted only the disclosure
requirements of SFAS No. 123, Accounting for Stock-Based Compensation, and has
elected to continue to record stock-based compensation expense using the
intrinsic-value approach prescribed by Accounting Principles Board ("APB")
Opinion 25. Accordingly, the Company computes compensation cost for each
employee stock option granted as the amount by which the quoted market price of
the Company's Common Stock on the date of grant exceeds the amount the employee
must pay to acquire the stock. The amount of compensation costs, if any, is
charged to operations over the vesting period.
F-10
<PAGE> 90
CANARGO ENERGY CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- CONTINUED
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES -- (CONTINUED)
RECENTLY ISSUED PRONOUNCEMENTS -- In 1997, the Financial Accounting Standards
Board ("FASB") issued SFAS No. 130, Reporting Comprehensive Income, and SFAS No.
131, Disclosure about Segments of an Enterprise and Related Information both of
which were adopted in 1998 without having any material effect on the Company's
financial statements. In 1998, FASB issued SFAS No. 133, Accounting for
Derivative Instruments and Hedging Activities which will be adopted in the 1999
annual financial statements. The Company is currently evaluating the impact of
SFAS No. 133 on its financial statements.
3. GOING CONCERN ASSUMPTION
The Company has incurred recurring operating losses, and its current operations
are not generating positive cash flows. The ability of the Company to continue
as a going concern and to pursue its principal activities of acquiring interests
in and developing oil and gas fields is highly dependent upon generating funds
from external sources and, ultimately, achieving sufficient positive cash flows
from operating activities.
Without sufficient cash from external sources, the Company's ability to finance
its ongoing operations and continue as a going concern is doubtful. However, the
Company's management believes that it will be able to generate funds from
external sources including quasi-governmental financing agencies such as the
International Finance Corporation, conventional lenders, equity investors and
other oil and gas companies that may decide to participate in the Company's oil
and gas projects. See Note 8, Oil and Gas Properties and Investments, of Notes
to Consolidated Financial Statements.
The consolidated financial statements do not give effect to any additional
impairment of its investments in oil and gas properties and ventures or other
adjustments which would be necessary should the Company be unable to obtain
sufficient funds from external sources or continue as a going concern.
4. BUSINESS COMBINATION
On July 15, 1998, the Company completed the acquisition of all of the common
stock of CanArgo Oil & Gas Inc. ("CAOG") for Common Stock consideration valued
at $19,362,500. CAOG is an oil and gas exploration, development and production
company whose principal operations are located in the Republic of Georgia. On
completion of the acquisition, CAOG became a subsidiary of the Company, and each
previously outstanding share of CAOG common stock was converted into the right
to receive 0.8 shares of the Company's Common Stock, giving the former
shareholders of CAOG the right to receive approximately 47% of the Company's
Common Stock. In addition, the former management of CAOG now holds most of the
Company's senior management positions.
F-11
<PAGE> 91
CANARGO ENERGY CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- CONTINUED
4. BUSINESS COMBINATION -- (CONTINUED)
The purchase price was allocated to the net assets of CAOG as follows:
<TABLE>
<S> <C>
Cash........................................................ $ 935,448
Other Current Assets........................................ 2,160,199
Property and Equipment...................................... 841,029
Oil and Gas Properties...................................... 22,855,546
Current Liabilities......................................... (3,096,293)
Long Term Liabilities....................................... (895,500)
Minority Interest........................................... (3,437,929)
-----------
Consideration given -- common shares...................... $19,362,500
-----------
</TABLE>
Under purchase accounting, CAOG's results have been included in the Company's
consolidated financial statements since the date of acquisition. The following
pro forma statements of operations give effect to the business combination as if
such business combination had occurred on January 1, 1997; however, as CAOG
commenced operations in June of 1997, the pro forma financial statements of
operations have been adjusted to reflect the results of operations of
Ninotsminda Oil Company Limited ("NOC"), a 68.5% (prior to November 30,
1998 -- 55.9%) subsidiary of CAOG and now the Company, from January 1, 1997 to
June 30, 1997. The historical results of operations have been adjusted to
reflect (i) revenues and expenses attributable to the Ninotsminda field and (ii)
the difference between the properties, historical depletion, depreciation and
amortization and such expenses calculated based on the value allocated to the
acquired assets. Management does not believe the pro forma amounts are
indicative of the results of operations that would have been reported had the
business combination occurred prior to January 1, 1997 or that may be reported
in the future.
<TABLE>
<CAPTION>
PRO FORMA (UNAUDITED)
----------------------------
YEAR YEAR
ENDED ENDED
DECEMBER 31, DECEMBER 31,
1998 1997
------------ ------------
<S> <C> <C>
Revenues........................................... $ 1,813,904 $ 3,137,415
Operating expenses................................. 9,235,690 32,742,737
----------- ------------
Operating loss..................................... (7,421,786) (29,605,322)
Other income (loss)................................ 203,750 1,131,532
Minority interest in loss of unconsolidated
subsidiary....................................... 449,066 402,654
----------- ------------
Net loss........................................... $(6,768,970) $(28,071,136)
----------- ------------
Basic and diluted net loss per common share........ $ (0.32) $ (1.33)
=========== ============
Weighted average number of common shares
outstanding...................................... 21,014,643 21,177,425
=========== ============
</TABLE>
F-12
<PAGE> 92
CANARGO ENERGY CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- CONTINUED
4. BUSINESS COMBINATION -- (CONTINUED)
The business combination will result in the issuance of 9,790,900 shares of the
Company's Common Stock without receipt of additional consideration by the
Company. At December 31, 1998, 3,934,124 of these shares had been issued. Giving
effect to the full issuance of such shares, the number of shares of the
Company's Common Stock outstanding as at December 31, 1998 would be 21,014,643.
5. RESTRICTED CASH
At December 31, 1997 and 1996, the Company pledged an aggregate of $9,700,000
and $5,400,000, respectively, to collateralize bank letters of credit issued to
assure repayment of borrowings under a line of credit established by Kashtan
Petroleum Ltd. ("Kashtan"), the entity through which the Lelyaki field project
was being developed. At December 31, 1997 and 1996, letters of credit of
$8,150,000 and $1,400,000 were outstanding, respectively. In 1997 the Company
concluded that the Lelyaki field could not support a successful commercial
development and as a result, wrote off its remaining investments relating to the
Lelyaki field project and accrued a liability of $8,280,000 with respect to
Kashtan indebtedness supported by the Company's restricted cash deposits. The
liability is included within accrued liabilities on the Company's balance sheet
as of December 31, 1997.
In January 1998, $350,000 of restricted cash, which had been used to
collateralize a bank letter of credit relating to the Gorisht-Kocul field
project, was released.
In April 1998, restricted cash totaling $8,567,000 was applied to repay such
bank borrowings and related interest. The remaining portion of restricted cash,
totaling $783,000, was released to the Company free of restrictions in May 1998.
6. PROPERTY AND EQUIPMENT, NET
Property and equipment and the related accumulated depreciation at December 31,
1998 included the following:
<TABLE>
<CAPTION>
ACCUMULATED
COST DEPRECIATION IMPAIRMENT NET
----------- ------------ ----------- ----------
<S> <C> <C> <C> <C>
Electrically enhanced oil
recovery ("EEOR")
equipment............... $ 562,953 $(290,855) $ -- $ 272,098
Oil and gas related
equipment............... 8,363,505 -- (2,710,024) 5,653,481
Office furniture, fixtures
and equipment and
other................... 1,090,352 (413,995) (400,000) 276,357
----------- --------- ----------- ----------
Property and Equipment,
Net..................... $10,016,810 $(704,850) $(3,110,024) $6,201,936
----------- --------- ----------- ----------
</TABLE>
F-13
<PAGE> 93
CANARGO ENERGY CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- CONTINUED
6. PROPERTY AND EQUIPMENT, NET -- (CONTINUED)
Property and equipment and the related accumulated depreciation at December 31,
1997 included the following:
<TABLE>
<CAPTION>
ACCUMULATED
COST DEPRECIATION IMPAIRMENT NET
---------- ------------ ----------- ----------
<S> <C> <C> <C> <C>
Electrically enhanced oil
recovery ("EEOR")
equipment................ $ 562,953 $(284,909) $ -- $ 278,044
Oil and gas related
equipment................ 8,348,309 -- (2,843,997) 5,504,312
Office furniture, fixtures
and equipment and
other.................... 1,014,263 (454,346) (400,000) 159,917
---------- --------- ----------- ----------
Property and Equipment,
Net...................... $9,925,525 $(739,255) $(3,243,997) $5,942,273
---------- --------- ----------- ----------
</TABLE>
Oil and gas related equipment includes new or refurbished drilling rigs and
related equipment, substantially all of which has been transported to the
Republic of Georgia for use by the Company in the development of the Ninotsminda
field. Much of the equipment was originally planned to be used in the Maykop
field, Republic of Adygea, Russian Federation, but following extended delays in
resolving operating arrangements with the entity developing that project, the
Company recorded an impairment of $2,844,000 at December 31, 1997, which
represented the difference between the book value of the rigs and related
equipment and their estimated fair value.
As a result of the Company's decision to close down or significantly reduce its
various corporate offices, the Company recorded in 1997 an impairment of
$400,000 to reduce the carrying value of furniture, fixtures and equipment to
their estimated fair value.
7. OIL AND GAS PROPERTIES
The Company has acquired interests in oil and gas properties through joint
ventures and other joint operating arrangements. A summary of the Company's oil
and gas properties as of December 31, 1998 and 1997 are set out below:
<TABLE>
<CAPTION>
DECEMBER 31,
DECEMBER 31, 1998 1997
---------------------------------------------------------------- ------------
REPUBLIC OF
GEORGIA CANADA USA OTHER TOTAL TOTAL
----------- ----------- ----------- -------- ----------- ------------
<S> <C> <C> <C> <C> <C> <C>
Proved properties......... $16,743,816 $ 1,612,308 $ 1,174,734 $ -- $19,530,858 $ 2,650,327
Unproved properties....... 12,707,912 324,500 -- 233,956 13,266,368 324,500
Less: accumulated
depletion and
impairment.............. (174,421) (1,310,498) (1,174,734) -- (2,659,653) (1,495,853)
----------- ----------- ----------- -------- ----------- -----------
Total Oil and Gas
Properties, Net......... $29,277,307 $ 626,310 $ -- $233,956 $30,137,573 $ 1,478,974
=========== =========== =========== ======== =========== ===========
</TABLE>
Oil and gas properties obtained in connection with the acquisition of CAOG
includes $15,120,000 of properties in the full cost pool and $10,550,500 of
unevaluated properties.
F-14
<PAGE> 94
CANARGO ENERGY CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- CONTINUED
7. OIL AND GAS PROPERTIES -- (CONTINUED)
The Ninotsminda field includes seven producing wells and since February 1996 has
been operated under the terms of a production sharing contract ("PSC") between
NOC and the Republic of Georgia represented by the state oil company, Georgian
Oil. Unproved properties in the Republic of Georgia include other license areas
covered by the Ninotsminda PSC as well as an other exploration area referred to
as the Nazvrevi block operated under the terms of a PSC between the Company's
subsidiary, CanArgo Nazvrevi Limited, and the Republic of Georgia.
At December 31, 1997 and 1996, the Company held oil and gas properties in the
United States and Canada. During the fiscal years ended December 31, 1997 and
August 31, 1996, the Company recognized impairments of $257,407 and $419,835
respectively, on these oil and gas properties as a result of applying the full
cost ceiling limitation. The impairments related to previously unproved
properties.
During the first quarter of 1997, the Company purchased a 60% interest in a
heavy oil property in the Sylvan Lake area in Alberta, Canada for approximately
$1,009,000. One new well was successfully drilled during the 1997 third quarter.
The Sylvan Lake project includes a total of four producing wells. During the
year ended December 31, 1998, the Company recognized impairments aggregating
$900,000 on its oil and gas properties in the Sylvan Lake project as a result of
a decline of heavy oil prices and the application of the quarterly full cost
ceiling limitation. The impairments relate to proved properties.
Unproved properties and associated costs not currently being amortized and
included in oil and gas properties were $13,266,368 and $324,500 at December 31,
1998 and 1997 respectively. Unproved oil and gas properties at December 31, 1998
include costs of $12,854,368 with respect to properties in Eastern Europe. These
properties are expected to be evaluated over the next five years. Remaining
costs of $324,500 (December 31, 1997 -- $324,500) relate to the Sylvan Lake
field which are expected to be evaluated over the next 12 months. If no proved
reserves are added, these properties could result in additional impairment.
F-15
<PAGE> 95
CANARGO ENERGY CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- CONTINUED
8. INVESTMENT IN AND ADVANCES TO OIL AND GAS AND OTHER VENTURES
The Company has acquired interests in oil and gas and other ventures through
less than majority interests in corporate and corporate-like entities. A summary
of the Company's net investment in and advances to oil and gas and other
ventures as of December 31, 1998 and 1997 is set out below:
<TABLE>
<CAPTION>
DECEMBER 31, DECEMBER 31,
1998 1997
------------ ------------
<S> <C> <C>
Investments in and Advances to Oil and Gas and
Other Ventures
Ukraine -- Stynawske Field, Boryslaw
Through 45% ownership of Boryslaw Oil
Company.................................... $ 5,980,613 $ 5,800,407
Republic of Georgia -- Sartichala
Through 12.9% ownership of Georgian American
Oil Refinery............................... 1,004,445 --
Republic of Georgia -- Ninotsminda
Through an effective 42.5% ownership Sagarego
Power Corporation.......................... 467,796 --
Ukraine -- Lelyaki Field, Pryluki Region
Through an effective 40.5% ownership of
Kashtan Petroleum Ltd...................... 2,435,725 $ 2,435,725
Adygea, Russian Federation -- Maykop Field
Through 37% ownership in Intergas JSC........ 6,710,874 6,710,874
Canada -- Inverness Unit
Through 50% ownership in Focan Ltd........... -- --
Albania -- Gorisht-Kocul Field
Through 50% ownership of the joint venture... 2,202,922 2,202,922
----------- -----------
Total Investments in and Advances to Oil and Gas
and Other Ventures.............................. $18,802,375 $17,149,928
----------- -----------
</TABLE>
F-16
<PAGE> 96
CANARGO ENERGY CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- CONTINUED
8. INVESTMENT IN AND ADVANCES TO OIL AND GAS AND OTHER VENTURES -- (CONTINUED)
<TABLE>
<CAPTION>
DECEMBER 31, DECEMBER 31,
1998 1997
------------ ------------
<S> <C> <C>
Equity in Profit (Loss) of Oil and Gas and Other
Ventures
Ukraine -- Stynawske Field, Boryslaw............ (574,880) (413,700)
Ukraine -- Lelyaki Field, Pryluki Region........ $(2,435,725) $(2,435,725)
Adygea, Russian Federation -- Maykop Field...... (1,452,510) (1,452,510)
Canada -- Inverness Unit........................ -- --
Albania -- Gorisht-Kocul Field.................. (833,191) (833,191)
----------- -----------
Cumulative Equity in Profit (Loss) of Oil and Gas
and Other Ventures.............................. $(5,296,306) $(5,135,126)
----------- -----------
Impairment -- Maykop Field...................... $(5,258,364) $(5,258,364)
Impairment -- Gorisht-Kocul Field............... (1,369,731) (1,369,731)
----------- -----------
Total Impairment.................................. $(6,628,095) $(6,628,095)
----------- -----------
Total Investments in and Advances to Oil and Gas
and Other Ventures, Net of Equity Loss and
Impairment...................................... $ 6,877,974 $ 5,386,707
----------- -----------
</TABLE>
As of December 31, 1998, the Company had net investments in and advances to oil
and gas ventures totaling $5,405,733 which relate to Boryslaw Oil Company
("BOC"), the entity holding the license to develop the Stynawske field, for
which development operations have not yet begun. Included are advances to BOC
totaling $1,665,000 and $1,508,000 at December 31, 1998 and 1997 respectively.
Such advances may be recoverable only from future revenue of or payments from
future participants in the venture, if any.
In 1998, the Company acquired a 12.9% interest in Georgian American Oil Refinery
("GAOR") for investments and advances totaling $1,004,445. The Company has the
right to purchase an additional 11.1% interest in GAOR for investment and
advances totaling $860,000.
As of December 31, 1998, the Company has an effective 42.5% interest in Sagarego
Power Corporation, a Georgian joint stock company, for which operations have not
yet begun.
Based on its analysis of initial Lelyaki field development efforts completed in
the fourth quarter of 1997, the Company concluded that the Lelyaki field would
not support a successful commercial development. As a result, the Company
recorded an impairment charge totaling $9,108,000 of which $8,280,000
represented debt and accrued interest of Kashtan on which Kashtan defaulted and
which was effectively guaranteed by the Company through restricted cash deposits
and $691,000 related to estimated liabilities for severance and related costs
associated with closing down Kashtan's operations. In addition, the Company
recognized a loss in 1997 of $2,080,000 reflecting its equity in the loss of
Kashtan. The Company believes that it has no further obligation to fund any
operations of Kashtan.
F-17
<PAGE> 97
CANARGO ENERGY CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- CONTINUED
8. INVESTMENT IN AND ADVANCES TO OIL AND GAS AND OTHER VENTURES -- (CONTINUED)
Because of extended delays in resolving operating arrangements and other matters
associated with Intergas JSC ("Intergas"), the entity developing the Maykop
field project, the Company during the fourth quarter of 1997 recorded an
impairment for the entire amount of its investment in and advances to Intergas
of $5,258,000. In addition, the Company recognized a loss in 1997 of $851,000,
reflecting its equity in the loss of Intergas. The Company believes that it has
no further obligation to fund any operations of Intergas.
In March 1997, the Company declared the political unrest in Albania to be a
force majeure with respect to the Gorisht-Kocul project and suspended
development activities. Due to the extended period that the force majeure
condition has continued and the absence of any indication of an imminent
termination of that condition, the Company during the fourth quarter of 1997
recorded an impairment for the entire amount of its investment in and advances
to the Gorisht-Kocul joint venture of $1,370,000. The Company also recognized a
$433,000 loss in 1997 as its equity in the loss of that joint venture. At
December 31, 1998, the force majeure condition remained in effect.
The Company's investment in and advances to BOC are essentially unevaluated
properties. At December 31, 1998 and 1997, there were no material operations or
assets (other than unevaluated properties) of entities being accounted for using
the equity method. Accordingly, no other separate financial information has been
presented.
As a result of the events associated with the impairment of the Company's
investment in and advances to and other assets related to Kashtan, Intergas and
the Gorisht-Kocul joint venture, the Company may be subject to contingent
liabilities in the form of claims from those ventures and other participants
therein. The Company was advised early in 1998 that Intergas and another
shareholders of Intergas were considering asserting such claims, but no such
claims have yet been asserted. Management is unable to estimate the range that
such claims, if any, might total. However, if any claims were determined to be
valid, they could have a material adverse effect on the financial position,
results of operations and cash flows of the Company.
Development of the oil and gas properties and ventures in which the Company has
interests involves multi-year efforts and substantial cash expenditures. The
Company had working capital of $1,366,235 at December 31, 1998, which it
considered inadequate to proceed with full implementation of its program of
developing its principal oil and gas properties and ventures. Full development
of these properties and ventures would require the availability of substantial
funds from external sources. The Company believes that it will be able to
generate funds from external sources including quasi-governmental financing
agencies such as the International Finance Corporation, conventional lenders,
equity investors and other oil and gas companies that may desire to participate
in the Company's oil and gas projects.
The Company generally has the principal responsibility for arranging financing
for the oil and gas properties and ventures in which it has an interest. There
can be no assurance, however, that the Company or the entities that are
developing the oil and gas properties and ventures will be able to arrange the
financing necessary to develop the projects being
F-18
<PAGE> 98
CANARGO ENERGY CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- CONTINUED
8. INVESTMENT IN AND ADVANCES TO OIL AND GAS AND OTHER VENTURES -- (CONTINUED)
undertaken or to support the corporate and other activities of the Company or
that such financing as is available will be on terms that are attractive or
acceptable to or are deemed to be in the best interests of the Company, such
entities or their respective stockholders or participants.
As of December 31, 1998 the Company had remaining net investments in oil and gas
properties and other ventures totaling $37,015,547. Of this amount, $5,405,733
relates to the Stynawske field in the Ukraine for which development operations
have not yet begun. Ultimate realization of the carrying value of the Company's
oil and gas properties and ventures will require production of oil and gas in
sufficient quantities and marketing such oil and gas at sufficient prices to
provide positive cash flow to the Company, which is dependent upon, among other
factors, achieving significant production at costs that provide acceptable
margins, reasonable levels of taxation from local authorities, and the ability
to market the oil and gas produced at or near world prices. In addition, the
Company must mobilize drilling equipment and personnel to initiate drilling,
completion and production activities. The Company expects that the initial phase
of development of the Stynawske field will consist of the workover of a number
of existing wells, with a view towards increasing production and gathering data
for the preparation of a full field development program. The Company is actively
seeking to establish arrangements under which oil and gas production companies
or other investors would acquire a portion of the Company's interest in the
Stynawske field in return for supplying financing or services to implement the
initial phase of the project. However, if one or more of the above factors, or
other factors, are different than anticipated, these plans may not be realized,
and the Company may not recover its carrying value. The Company will be entitled
to distributions from the various properties and ventures in accordance with the
arrangements governing the respective properties and ventures.
The consolidated financial statements of the Company do not give effect to any
additional impairment in the value of the Company's investment in oil and gas
properties and ventures or other adjustments that would be necessary if
financing cannot be arranged for the development of such properties and ventures
or if they are unable to achieve profitable operations. The Company's
consolidated financial statements have been prepared under the assumption of a
going concern. Failure to arrange such financing on reasonable terms or failure
of such properties and ventures to achieve profitability would have a material
adverse effect on the financial position, including realization of assets,
results of operations, cash flows and prospects of the Company and ultimately
its ability to continue as a going concern.
F-19
<PAGE> 99
CANARGO ENERGY CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- CONTINUED
9. ACCRUED LIABILITIES
Accrued liabilities at December 31, 1998 and 1997 included the following:
<TABLE>
<CAPTION>
DECEMBER 31, DECEMBER 31,
1998 1997
------------ ------------
<S> <C> <C>
Compensation, including related taxes............... $ -- $ 337,767
Professional fees................................... 280,000 276,500
Termination costs................................... -- 405,833
Effective guarantee of Kashtan obligations (Note
8)................................................ -- 8,280,000
Close down costs -- Kashtan project (Note 8)........ -- 690,622
Seismic acquisition................................. 771,207 --
Taxes payable....................................... 61,000 --
Oilfield related equipment.......................... -- 268,000
Other............................................... 49,843 67,886
---------- -----------
$1,162,050 $10,326,608
---------- -----------
</TABLE>
In 1997, the Company accrued termination costs for employees who received
contractually required termination notices during the fourth quarter of 1997.
The costs involved represent salaries and related taxes and were reflected as
general and administrative expenses. The accrual included the termination costs
for 11 employees, who were located in the Company's offices in Calgary, Canada
and Asker, Norway.
10. CONVERTIBLE SUBORDINATED DEBENTURES
During the quarter ended February 29, 1996, the Company completed an offering of
its 8% Convertible Subordinated Debentures (the "Debentures") due December 31,
1997. The Company issued $3,750,000 principal amount of Debentures at par and
received net proceeds of $3,346,723 after commissions and expenses. The
Debentures were convertible into shares of the Company's Common Stock at a price
equal to 82 1/2% of the average closing price of such shares on the five trading
days preceding the date of conversion. A maximum of 154,750 shares of the
Company's Common Stock was issuable upon conversion of each $1,000,000 principal
amount of the Debentures. At August 31, 1996, $3,450,000 principal amount of the
Debentures had been converted into 498,662 shares of Common Stock. During the
four months ended December 31, 1996, the remaining $300,000 principal amount of
Debentures was converted into 29,563 shares of Common Stock.
In accordance with Securities and Exchange Commission guidance published in
early 1997, the August 31, 1996 Consolidated Statement of Operations was
restated to reflect a $795,500 charge to interest expense related to the
discount feature of the Debentures. The discount was amortized from the date of
issuance to the earliest conversion dates.
F-20
<PAGE> 100
CANARGO ENERGY CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- CONTINUED
11. COMMITMENTS AND CONTINGENCIES
OIL AND GAS PROPERTIES AND INVESTMENTS IN OIL AND GAS VENTURES
The Company has contingent obligations and may incur additional obligations,
absolute and contingent, with respect to acquiring and developing oil and gas
properties and ventures. At December 31, 1998, the Company had the contingent
obligation to issue an aggregate of 187,500 shares of its Common Stock, subject
to the satisfaction of conditions related to the achievement of specified
performance standards by the Stynawske field project. The Company believes that
it has no further obligation to fund operations of Kashtan or Intergas. Also see
Note 8, Oil and Gas Properties and Investments, of Notes to Consolidated
Financial Statements.
LEGAL PROCEEDINGS AND POTENTIAL CLAIMS
On February 20, 1998, Zhoda Corporation ("Zhoda") filed suit against the Company
in the District Court of Harris County, Texas. Zhoda had sold to the Company
shares in a subsidiary through which the Company acquired most of its interest
in the Lelyaki field project. Substantially all of the consideration payable to
Zhoda was contingent upon achievement of specified Lelyaki field operating
objectives, and because these objectives were not achieved, the Company did not
pay the consideration. In the litigation, Zhoda asserts that it was wrongfully
deprived of the value of the shares it transferred to the Company and of the
contingent consideration it might have received, based upon claims of breach of
contract, breach of fiduciary duty and duty of good faith and fair dealing,
fraud and constructive fraud, fraud in the inducement, negligent
misrepresentation, civil conspiracy, breach of trust, unjust enrichment and
rescission. Zhoda is seeking more than $7,500,000 in damages, return of the
shares transferred to the Company, and other relief. The Company believes it has
meritorious defenses to Zhoda's claims which it intends to assert vigorously.
The Harris County District Court has stayed the litigation pending completion of
arbitration proceedings, which are being held in Calgary, Alberta.
On March 24, 1998, the Company filed an action against Zhoda in the Court of
Queen's Bench of Alberta, Judicial Centre of Calgary, in which the Company seeks
to recover $190,000, plus interest, which the Company asserts Zhoda owes the
Company pursuant to promissory notes and loan agreements. On March 31, 1998,
Zhoda filed a statement of defense and a counterclaim in which it asserted
essentially the same claims as were asserted in the Texas action described
above. On the basis of its counterclaim, Zhoda seeks relief similar to that
sought in the Texas action. The Company's claim against Zhoda in the Alberta
action is not within the scope of the arbitration proceeding being conducted in
Calgary.
A judgement in favor of Zhoda on its claims could have a material adverse effect
on the Company's financial condition, results of operations and cash flows.
On March 9, 1998, Ribalta Holdings, Inc. ("Ribalta"), which sold to the Company
shares in a subsidiary through which the Company acquired most of its interest
in the Maykop field project, filed suit against the Company in the Third
Judicial District Court of Salt Lake County, Utah. Ribalta, however, has not yet
served the complaint on the Company.
F-21
<PAGE> 101
CANARGO ENERGY CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- CONTINUED
11. COMMITMENTS AND CONTINGENCIES -- (CONTINUED)
In its complaint, Ribalta alleges breach by the Company of the contract
governing the sale of the shares it transferred to the Company and failure of a
condition in that contract that should have resulted in the termination of the
contract. Ribalta seeks the return of all benefits conferred on the Company
pursuant to the contract or damages equal to the value of such benefits, as well
as other relief. Under that contract, as amended, the maximum consideration to
which Ribalta might have been entitled was $800,000 and 350,000 shares of
Company Common Stock. The Company believes that no consideration is payable
under that contract because conditions to payment specified in the contract were
not satisfied. An outcome of this proceeding unfavorable to the Company could
have a material adverse impact on the Company's financial condition, results of
operations and cash flows. The Company believes it has meritorious defenses to
Ribalta's claims which it intends to assert vigorously.
As a result of the Company's decision to cease active development of the
Lelyaki, Maykop and Gorisht-Kocul projects, the Company may be subject to
contingent liabilities in the form of claims from the joint ventures developing
such projects or from others participating in those projects. The Company was
advised during the first quarter of 1998 that Intergas and another shareholder
of Intergas were considering asserting such claims in relation to the Maykop
project, but no such claims have yet been asserted. The Company is unable to
estimate the range that such claims, if made, might total. However, if one or
more such claims were asserted and determined to be valid, they could have a
material adverse effect on the Company's financial position, results of
operations and cash flows. Such claims may be adjudicated in the host country
forum under host country laws.
LEASE COMMITMENTS -- The Company leases office space under non-cancellable
operating lease agreements. Rental expense for the years ended December 31, 1998
and 1997 and August 31, 1996 and for the four months ended December 31, 1996 and
1995 was $170,795, $293,855, $186,444, $119,133 and $87,872 respectively.
Future minimum rental payments for the Company's lease obligations as of
December 31, 1998, are as follows:
<TABLE>
<S> <C>
1999........................................................ $119,800
2000........................................................ 57,600
2001........................................................ 28,800
--------
$206,200
--------
</TABLE>
The Company has sublet office space representing $76,800 and $59,000 of the
future minimum rental payments in 1999 and 2000, respectively.
12. CONCENTRATIONS OF CREDIT RISK
The Company's financial instruments that are exposed to concentrations of credit
risk consist primarily of cash and cash equivalents, accounts receivable and
advances to oil and gas and other ventures. The Company places its temporary
cash investments with high credit quality financial institutions. Accounts
receivable relates primarily to other entities
F-22
<PAGE> 102
CANARGO ENERGY CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- CONTINUED
12. CONCENTRATIONS OF CREDIT RISK -- (CONTINUED)
active in the oil and gas industry. The concentration of credit risk associated
with accounts receivable is limited as the Company's debtors are spread across
several countries.
13. STOCKHOLDERS' EQUITY
On July 8, 1998, at a Special Meeting of Stockholders, the stockholders of the
Company approved the acquisition of all of the common stock of CAOG for Common
Stock of the Company pursuant to the terms of an Amended and Restated
Combination Agreement between those two companies (the "Combination Agreement").
Upon completion of the acquisition on July 15, 1998, CAOG became a subsidiary of
the Company, and each previously outstanding share of CAOG common stock was
converted into the right to receive 0.8 shares (the "Exchangeable Shares") of
CAOG which are exchangeable generally at the option of the holders for shares of
the Company's Common Stock on a share-for-share basis. The stockholders of the
Company also approved the issuance of 100 shares (the "Voting Preferred Shares")
of Series Voting Preferred Stock to the Montreal Trust Company of Canada (the
"Trustee") under the Voting, Support and Exchange Trust Agreement entered into
among the Company, CAOG and the Trustee. The Voting Preferred Shares embody the
right to (i) the voting power the holders of unexchanged Exchangeable Shares
would have following the exchange thereof for shares of the Company's Common
Stock and (ii) the right to receive an aggregate of $100 upon redemption at the
rate of $1.00 per Voting Preferred Share following the exchange of all
outstanding Exchangeable Shares. The Voting Preferred Shares are stripped of
their voting power proportionately as Exchangeable Shares are exchanged for
shares of the Company's Common Stock. When fully divested of voting rights
through the exchange of all Exchangeable Shares, the Voting Preferred Shares can
be redeemed by the Company for nominal consideration. The stockholders also
approved a 1-for-2 reverse stock split of the outstanding shares of Common Stock
which took effect on July 15, 1998 and has been given effect through restatement
in these Consolidated Financial Statements and notes thereto.
As of December 31, 1998, 15,157,168 shares of Common Stock, 5,856,775
Exchangeable Shares and 100 shares of Voting Preferred Shares were issued and
outstanding. No other shares of the Company's preferred stock have been issued.
On February 12, 1996, at an Annual Meeting of Stockholders, the stockholders of
the Company approved an increase in the number of authorized shares of Common
Stock from 25,000,000 to 50,000,000 having $0.10 par value per share. The number
of authorized shares of preferred stock of 5,000,000, also having a par value of
$0.10 per share, remained unchanged.
During the year ended August 31, 1996, the four-month period ended December 31,
1996 and the years ended December 31, 1997 and 1998, the following transactions
regarding the Company's Common Stock and warrants and options to purchase the
Company's Common Stock were consummated pursuant to authorization by the
Company's Board of Directors or duly constituted committees thereof.
F-23
<PAGE> 103
CANARGO ENERGY CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- CONTINUED
13. STOCKHOLDERS' EQUITY -- (CONTINUED)
FISCAL YEAR ENDED AUGUST 31, 1996
- - The issuance to investors of 2,500,000 shares for aggregate proceeds of
$20,960,354 net of $1,539,646 of related offering costs.
- - The following are included in the issuance of Common Stock for purchase of
interests in oil and gas ventures:
- The issuance of 75,000 shares at a price of $9.125 per share, along with
other consideration, in exchange for 10% of the equity of UK-RAN Oil
Corporation and 33% of the equity of UK-RAN Energy Corporation
- The issuance of 150,000 shares at a price of $11.125 per share in exchange
for 6% of the equity of Intergas JSC, a joint stock company incorporated
in the Russian Federation.
- - The following are included in the issuance of Common Stock upon conversion of
debentures:
- The issuance of 498,662 shares in a series of conversions of an aggregate
of $3,450,000 principal amount of debentures convertible at various prices
based on 82 1/2% of market price at the time of conversion.
- The adjustment to capital in excess of par in the amount of $311,088
related to deferred costs incurred in the issuance of debentures and
$795,500 related to the discount feature of the debentures.
- - The following are included in the issuance of Common Stock upon warrant and
option exercises:
- The issuance of 26,000 shares at a price of $3.00 per share in a series of
option exercises.
- The issuance of 21,611 shares at a price of $3.00 per share in a series of
warrant exercises.
- - The issuance of options exercisable at $7.6875 per share to purchase 15,000
shares granted to non-employee directors at February 12, 1996 pursuant to the
Company's 1995 Long-Term Incentive Plan.
FOUR MONTH PERIOD ENDED DECEMBER 31, 1996
- - The following are included in the issuance of Common Stock upon conversion of
debentures:
- The issuance of 29,563 shares upon conversion of $300,000 principal amount
of debentures convertible at 82 1/2% of market price at the time of
conversion.
- The adjustment to capital in excess of par in the amount of $19,599
related to deferred costs incurred in the issuance of debentures.
F-24
<PAGE> 104
CANARGO ENERGY CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- CONTINUED
13. STOCKHOLDERS' EQUITY -- (CONTINUED)
- - The following are included in the issuance of Common Stock upon warrant and
option exercises:
- The issuance of 6,000 shares at a price of $3.00 per share in a series of
option exercises.
- The issuance of 243,334 shares at a price of $3.00 per share in a series
of warrant exercises.
- The issuance of 7,143 shares at a price of $3.50 per share in a warrant
exercise.
- The issuance of 569,900 shares at a price of $10.20 per share in a series
of warrant exercises.
- The issuance of 1,540,000 shares at a price of $12.00 per share in a
series of warrant exercises.
- - The issuance of options exercisable at $14.50 per share to purchase 190,750
shares granted to employees at December 31, 1996 pursuant to the Company's
1995 Long-Term Incentive Plan.
- - The issuance of options exercisable at $17.98 per share to purchase 222,500
shares granted to employees at December 31, 1996 pursuant to the Company's
1995 Long-Term Incentive Plan.
YEAR ENDED DECEMBER 31, 1997
- - The issuance of 87,500 shares at a price of $12.125 per share in connection
with the acquisition of an interest in the Stynawske field, Ukraine.
- - The issuance of 52,000 shares at a price of $3.00 per share in a series of
option exercises.
- - The issuance of options exercisable at $9.00 per share to purchase 15,000
shares granted to non-employee directors at June 3, 1997 pursuant to the
Company's 1995 Long-Term Incentive Plan.
- - The issuance of options exercisable at $8.50 per share to purchase 3,500
shares granted to employees at June 30, 1997 pursuant to the Company's 1995
Long-Term Incentive Plan.
- - The issuance of options exercisable at $10.54 per share to purchase 77,500
shares granted to employees at June 30, 1997 pursuant to the Company's 1995
Long-Term Incentive Plan.
- - The cancellation of options to purchase an aggregate 63,084 shares which had
been granted to employees pursuant to the Company's 1995 Long-Term Incentive
Plan. Of the options cancelled, 59,584 were exercisable at $14.50, 2,500 were
exercisable at $17.98, and 1,000 were exercisable at $8.50.
F-25
<PAGE> 105
CANARGO ENERGY CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- CONTINUED
13. STOCKHOLDERS' EQUITY -- (CONTINUED)
YEAR ENDED DECEMBER 31, 1998
- - The issuance of 3,934,124 shares upon exchange by holders of Exchangeable
Shares.
- - The issuance of options exercisable at $1.00 per share to purchase 7,500
shares granted to non-employee directors at July 15, 1998 pursuant to the
Company's 1995 Long-Term Incentive Plan.
- - The conversion at July 15, 1998 of options granted to employees of CAOG under
its stock option plan to purchase shares of CAOG into options exercisable at
$1.85 per share to purchase 988,000 shares of Company Common Stock. The
Company has adopted CAOG's Stock Option Plan covering the existing converted
options and providing for additional grants under the plan.
- - The conversion of CAOG Stock Purchase Warrants into warrants to purchase an
aggregate 1,097,511 Exchangeable Shares that are exchangeable at the option
of the holder for shares of the Company's Common Stock on a share-for-share
basis. Of the 1,097,511 warrants, 164,008 are exercisable at C$2.75, 32,000
are exercisable at C$2.875 and 901,503 are exercisable at C$3.25.
- - The issuance of options exercisable at $1.25 per share to purchase 440,000
shares granted to employees at July 17, 1998 pursuant to the Company's 1995
Long-Term Incentive Plan.
- - The cancellation at July 31, 1998 of options to purchase 140,000 shares of
Company Common Stock which had been granted pursuant to the CAOG Stock Option
Plan exercisable at $1.85 per share.
- - The issuance of options exercisable at $0.688 per share to purchase 192,000
shares of Company Common Stock granted to employees on October 7, 1998
pursuant to the Company's 1995 Long-Term Incentive Plan.
- - The issuance of options exercisable at $0.563 per share to purchase 21,834
shares of Company Common Stock granted to employees on November 17, 1998
pursuant to the Company's 1995 Long-Term Incentive Plan.
- - The issuance of options exercisable at $0.563 per share to purchase 90,000
shares of Company Common Stock granted to employees at November 17, 1998
pursuant to the CAOG Stock Option Plan.
- - The issuance of options exercisable at $0.70 per share to purchase 25,000
shares of Company Common Stock granted to a consultant at November 17, 1998
pursuant to the Company's 1995 Long-Term Incentive Plan.
- - The issuance of options exercisable at $0.70 per share to purchase 50,000
shares of Company Common Stock granted to a consultant at November 17, 1998
pursuant to the CAOG Stock Option Plan.
- - The issuance of options exercisable at $0.313 per share to purchase 3,750
shares of Company Common Stock granted to a non-employee director at December
31, 1998 pursuant to the Company's 1995 Long-Term Incentive Plan.
F-26
<PAGE> 106
CANARGO ENERGY CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- CONTINUED
13. STOCKHOLDERS' EQUITY -- (CONTINUED)
- - The cancellation of options to purchase an aggregate 42,000 shares of Company
Common Stock exercisable at $3.00 which had been granted to various
individuals in August 1994 who were serving or were expected in the future to
serve the Company as officers, directors, employees, consultants and
advisors.
- - The cancellation of options to purchase an aggregate 414,834 shares of
Company Common Stock which had been granted to employees pursuant to the
Company's 1995 Long-Term Incentive Plan. Of the options cancelled, 1,667 were
exercisable at $8.50, 75,000 were exercisable at $10.54, 118,167 were
exercisable at $14.50 and 220,000 were exercisable at $17.98.
- - The cancellation of options at December 31, 1998 to purchase 80,000 shares of
Company Common Stock which had been granted pursuant to the CAOG Stock Option
Plan exercisable at $1.85 per share.
Pursuant to the terms of the Combination Agreement, holders of CAOG Stock
Purchase Warrants have the right to purchase Exchangeable Shares which are
exchangeable generally at the option of the holder for shares of the Company's
Common Stock on a share-for-share basis.
The following table summarizes warrants to purchase the Company's Common Stock,
which were outstanding:
<TABLE>
<CAPTION>
NUMBER OF EXERCISE EXPIRATION
OUTSTANDING AT: WARRANTS PRICE DATE
- --------------- ---------- --------------- ------------------
<S> <C> <C> <C>
August 31, 1995............. 2,463,988 $ 3.00 - $12.00 2/28/97 to 11/3/97
----------
Exercised................. (21,611) $ 3.00 11/3/97
----------
August 31, 1996............. 2,442,377 $ 3.00 - $12.00 2/28/97 to 11/3/97
----------
Exercised................. (2,360,377) $ 3.00 - $12.00 2/28/97 to 11/3/97
Redeemed.................. (82,000) $ 12.00 2/28/97 to 11/3/97
----------
December 31, 1997 and
1996...................... 0
----------
CAOG Stock Purchase
Warrants............... 1,097,511 $C2.75 - $C3.25 4/30/99 to 11/1/99
----------
December 31, 1998........... 1,097,511 $C2.75 - $C3.25 4/30/99 to 11/1/99
----------
</TABLE>
During the four month period ended December 31, 1996, an aggregate of 2,191,900
warrants were called for redemption by the Company. If the average closing price
of the Company's Common Stock exceeded $12.20 and $14.00 per share for 10
consecutive trading days, upon election of the Company and notice to the warrant
holders, the holders of 569,900 warrants and 1,622,000 warrants, respectively,
were required either to exercise their warrants within a specified period or to
have the warrants redeemed by the Company for a nominal redemption price. All
but 82,000 of the 2,191,900 warrants called for redemption were exercised during
the four month period ended December 31,
F-27
<PAGE> 107
CANARGO ENERGY CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- CONTINUED
13. STOCKHOLDERS' EQUITY -- (CONTINUED)
1996; the 82,000 warrants were redeemed. During the same period, an additional
250,477 warrants were also exercised by their holders. There were no outstanding
warrants at December 31, 1996 and 1997. As of December 31, 1998, there were
outstanding 164,008 CAOG Stock Purchase Warrants exercisable at $C2.75 expiring
April 30, 1999, 32,000 CAOG Stock Purchase Warrants exercisable at $C2.875
expiring July 31, 1999 and 901,503 CAOG Stock Purchase Warrants exercisable at
$C3.25 expiring November 1, 1999.
14. NET LOSS PER COMMON SHARE
Effective December 31, 1997 the Company adopted SFAS No. 128 Earnings Per Share,
for all periods presented. Basic and diluted net loss per common share for the
years ended December 31, 1998 and 1997, the year ended August 31, 1996 and the
four month periods ended December 31, 1996 and 1995 were based on the weighted
average number of common shares outstanding during those periods. The weighted
average number of shares used was 15,783,889, 11,206,586, 6,247,568, 9,348,106
and 5,417,032 respectively. The Debentures, which were convertible into a
maximum of 154,750 shares of the Company's Common Stock per $1,000,000 principal
amount of the Debentures, were not included in the computation of diluted net
loss per common share for the four month period ended December 31, 1996 and the
fiscal year ended August 31, 1996 because the effect of such inclusion would
have been anti-dilutive. Additionally, options to purchase the Company's Common
Stock were outstanding during the years ended December 31, 1998 and 1997, the
four month period ended December 31, 1996 and the fiscal year ended August 31,
1996 and warrants to purchase the Company's Common Stock were outstanding during
the year ended December 31, 1998, the four month period ended December 31, 1996,
and the fiscal year ended August 31, 1996 but were not included in the
computation of diluted net loss per common share because the effect of such
inclusion would have been anti-dilutive.
F-28
<PAGE> 108
CANARGO ENERGY CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- CONTINUED
15. INCOME TAXES
The Company and its domestic subsidiaries file U.S. consolidated income tax
returns. No benefit for U.S. income taxes has been recorded in these
consolidated financial statements because of the Company's inability to
recognize deferred tax assets under provisions of SFAS 109. Due to the
implementation of the quasi-reorganization as of October 31, 1988, future
reductions of the valuation allowance relating to those deferred tax assets
existing at the date of the quasi-reorganization, if any, will be allocated to
capital in excess of par value. The provision for income taxes for the year
ended August 31, 1995 consisted of taxes applicable to foreign operations.
A reconciliation of the differences between income taxes computed at the U.S.
federal statutory rate (34%) and the Company's reported provision for income
taxes is as follows:
<TABLE>
<CAPTION>
FOUR MONTH FOUR MONTH
YEAR ENDED YEAR ENDED PERIOD ENDED PERIOD ENDED YEAR ENDED
DECEMBER 31, DECEMBER 31, DECEMBER 31, DECEMBER 31, AUGUST 31,
1998 1997 1996 1995 1996
------------ ------------ ------------ ------------ -----------
<S> <C> <C> <C> <C> <C>
Income tax benefit at
statutory rate..... $(2,077,510) $(9,412,203) $(885,515) (490,342) $(2,207,808)
Benefit of losses not
recognized......... 2,077,510 9,412,203 876,629 490,342 2,197,879
Foreign tax
provision.......... -- -- -- -- --
Other, net........... -- -- 8,886 -- 9,929
----------- ----------- --------- --------- -----------
Provision for income
taxes.............. $ 0 $ 0 $ 0 $ 0 $ 0
----------- ----------- --------- --------- -----------
Effective tax rate... 0% 0% 0% 0% 0%
</TABLE>
The components of the deferred tax assets as of December 31, 1998 and 1997 were
as follows:
<TABLE>
<CAPTION>
DECEMBER 31, DECEMBER 31,
1998 1997
------------ ------------
<S> <C> <C>
Net operating loss carryforwards................... 13,105,000 $13,372,000
Foreign net operating loss carryforwards........... 5,892,000 4,972,000
Impairments........................................ 7,161,000 6,817,000
Patent rights and related equipment................ 180,378 225,473
------------ -----------
26,338,378 25,386,473
Valuation allowance................................ (26,338,378) (25,386,473)
------------ -----------
Net deferred tax asset recognized in balance
sheet............................................ $ -- $ --
------------ -----------
</TABLE>
On August 1, 1991, and subsequently on August 17, 1994, the Company experienced
changes in the Company's ownership as defined in Section 382 of the Internal
Revenue Code ("IRC"). The effect of these changes in ownership is to limit the
utilization of certain existing net operating loss carryforwards for income tax
purposes to approximately
F-29
<PAGE> 109
CANARGO ENERGY CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- CONTINUED
15. INCOME TAXES -- (CONTINUED)
$1,375,000 per year on a cumulative basis. As of December 31, 1997, total U.S.
net operating loss carryforwards were approximately $38,543,000. Of that amount,
approximately $17,208,000 was incurred subsequent to the ownership change in
1994, $16,635,000 was incurred prior to 1994 and therefore is subject to the IRC
Section 382 limitation and $4,700,000 is subject to the separate return
limitation rules. See Note 1 of Notes to Consolidated Financial Statements.
The net operating loss carryforwards expire from 1999 to 2013. The net operating
loss carryforwards limited under the separate return limitation rules may only
be offset against the separate income of the respective subsidiaries. The
Company has also generated approximately $17,330,000 of foreign net operating
loss carryforwards. A significant portion of the foreign net operating loss
carryforwards are subject to limitations similar to IRC Section 382.
The Company's available net operating loss carryforwards may be used to offset
future taxable income, if any, prior to their expiration. The Company may
experience further limitations on the utilization of net operating loss
carryforwards and other tax benefits as a result of additional changes in
ownership.
16. SEGMENTS
During the years ended December 31, 1998 and 1997 and the four months ended
December 31, 1996, the Company operated through one business segment, oil and
gas exploration and production, reflecting its decision to use its electrically
enhanced oil recovery ("EEOR") technology primarily internally as a competitive
advantage to obtain and exploit interests in heavy oil fields and not to pursue
external sales of goods and services related to the EEOR technology. Since oil
and gas exploration and production activities were at a preliminary stage,
revenues for the periods ended December 31, 1997 and 1996 were minimal. For the
fiscal year ended August 31, 1996, EEOR activities were reported as a separate
business segment. For the fiscal year ended August 31, 1996, EEOR revenues
related to a contract with one customer in Canada.
F-30
<PAGE> 110
CANARGO ENERGY CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- CONTINUED
16. SEGMENTS -- (CONTINUED)
Operating revenues for the years ended December 31, 1998 and 1997, the year
ended August 31, 1996 and the four months ended December 31, 1996 by business
segment and geographical area were as follows:
<TABLE>
<CAPTION>
DECEMBER 31, DECEMBER 31, AUGUST 31, DECEMBER 31,
1998 1997 1996 1996
------------ ------------ ---------- ------------
<S> <C> <C> <C> <C>
Oil and Gas Exploration,
Development and Production
Eastern Europe............. $602,724 $ -- $ -- $ --
United States.............. -- -- 2,624 --
Canada..................... 201,828 313,301 23,938 16,980
-------- -------- ------- -------
Total........................ $804,552 $313,301 $26,562 $16,980
-------- -------- ------- -------
EEOR Process Sales and
Service
United States.............. $ -- $ -- $ -- $ --
Canada..................... -- -- 8,615 --
-------- -------- ------- -------
Total........................ $ 0 $ 0 $ 8,615 $ 0
-------- -------- ------- -------
</TABLE>
In 1998, the Company sold its production in Eastern Europe to two customers.
Sales to each customer represented 57% and 43% of operating revenue,
respectively.
F-31
<PAGE> 111
CANARGO ENERGY CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- CONTINUED
16. SEGMENTS -- (CONTINUED)
Operating profit (loss) for the years ended December 31, 1998 and 1997, the year
ended August 31, 1996 and the four months ended December 31, 1996 by business
segment and geographical area were as follows:
<TABLE>
<CAPTION>
DECEMBER 31, DECEMBER 31, AUGUST 31, DECEMBER 31,
1998 1997 1996 1996
------------ ------------ ----------- ------------
<S> <C> <C> <C> <C>
Oil and Gas Exploration,
Development and
Production
Eastern Europe.......... $(2,408,968) $(24,831,798) $(1,770,434) $(1,712,924)
United States........... -- (257,407) (3,262) --
Canada.................. (1,258,506) (97,541) 18,836 11,378
----------- ------------ ----------- -----------
Total..................... $(3,667,474) $(25,186,746) $(1,754,860) $(1,701,546)
----------- ------------ ----------- -----------
EEOR Process Sales and
Service
United States........... $ -- $ -- $ -- $ --
Canada.................. -- -- (30,857) --
----------- ------------ ----------- -----------
Total..................... $ -- $ -- $ (30,857) $ --
----------- ------------ ----------- -----------
Corporate Expenses........ $(2,820,284) $ (3,903,446) $(3,853,972) $(1,281,821)
----------- ------------ ----------- -----------
Total..................... $(6,487,758) $(29,090,192) $(5,639,689) $(2,983,367)
----------- ------------ ----------- -----------
</TABLE>
The Company's loss from investments in unconsolidated subsidiaries pertains
primarily to operations in Eastern Europe.
F-32
<PAGE> 112
CANARGO ENERGY CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- CONTINUED
16. SEGMENTS -- (CONTINUED)
Identifiable assets as of December 31, 1998, 1997 and 1996 by business segment
and geographical area were as follows:
<TABLE>
<CAPTION>
DECEMBER 31, DECEMBER 31, DECEMBER 31,
1998 1997 1996
------------ ------------ ------------
<S> <C> <C> <C>
Corporate
United States..................... $ 3,319 $ 212,536 $ 7,580,219
Canada............................ 2,304,690 -- --
Western Europe.................... 196,304 24,263,223 29,049,022
----------- ----------- -----------
Total............................... $ 2,504,313 $24,475,759 $36,629,241
----------- ----------- -----------
Oil and Gas Exploration, Development
and Production
Eastern Europe.................... $41,644,701 $ 5,386,707 $11,127,176
United States..................... -- -- 6,786,714
Canada............................ 1,001,733 2,067,257 831,930
Western Europe.................... 13,769 5,504,312 --
----------- ----------- -----------
Total............................... $42,660,203 $12,958,276 $18,745,820
----------- ----------- -----------
Other Energy Projects
Eastern Europe.................... 1,403,013 -- --
----------- ----------- -----------
Identifiable Assets -- Total........ $46,567,529 $37,434,035 $55,375,061
----------- ----------- -----------
</TABLE>
The percentage of operating revenues for the years ended December 31, 1998 and
1997, the year August 31, 1996 and the four months ended December 31, 1996 by
business segment and geographical area are as follows:
<TABLE>
<CAPTION>
DECEMBER 31, DECEMBER 31, AUGUST 31, DECEMBER 31,
1998 1997 1996 1996
------------ ------------ ---------- ------------
<S> <C> <C> <C> <C>
Oil and Gas Exploration,
Development and Production
Eastern Europe............. 75% -- -- --
United States.............. -- -- 10% --
Canada..................... 25% 100% 90% 100%
EEOR Process Sales and
Service
United States.............. -- -- 100% --
Canada..................... -- -- -- --
</TABLE>
F-33
<PAGE> 113
CANARGO ENERGY CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- CONTINUED
17. SUPPLEMENTAL CASH FLOW INFORMATION AND NONMONETARY TRANSACTIONS
The following represents supplemental cash flow information for the years ended
December 31, 1998 and 1997, the year ended August 31, 1996 and for the
four-month periods ended December 31, 1996 and 1995:
<TABLE>
<CAPTION>
YEARS ENDED 4 MONTHS ENDED
------------------------------- --------------------
12/31/98 12/31/97 8/31/96 12/31/96 12/31/95
-------- -------- ------- -------- --------
(ALL AMOUNTS IN 000'$)
<S> <C> <C> <C> <C> <C>
Supplemental disclosures of cash flow
information:
Interest paid during the year.......... $-- $ -- $ 146 $ 17 $ 3
-- ------ ------ ---- ------
Supplemental schedule of non-cash
activities:
Acquisition of common stock of
subsidiaries resulting in elimination
upon consolidation and cancellation
of notes receivable of $2,450,000 and
$530,000, respectively............... $-- $ -- $2,980 $ -- $2,450
-- ------ ------ ---- ------
Issuance of Common Stock upon
conversion of convertible debentures
and notes............................ $-- $ -- $3,934 $280 $ --
-- ------ ------ ---- ------
Issuance of Common Stock in connection
with investments in oil and gas
ventures............................. $-- $1,060 $2,353 $ -- $ --
-- ------ ------ ---- ------
Issuance of Common Stock in connection
with compensation earned and third
party services provided.............. $-- $ -- $ --
-- ------ ------ ----
Accruals recorded applicable to
effective guaranty of Kashtan
obligation and Lelyaki field
close-down costs..................... $-- $8,971 $ -- $678
-- ------ ------ ----
</TABLE>
18. STOCK-BASED COMPENSATION PLANS
On August 17, 1994, options to purchase 200,000 shares of the Company's Common
Stock were issued to various individuals who were serving or were expected in
the future to serve the Company as officers, directors, employees, consultants
and advisors (the "1994 Plan"). The options are exercisable at an exercise price
of $3.00 and are only exercisable at the time or within six months after
services are rendered by such individuals. All of these options expire August
16, 1999. Under the 1994 Plan, 74,000 options were outstanding at December 31,
1998.
Pursuant to the 1995 Long-Term Incentive Plan (the "1995 Plan") adopted by the
Company in February 1996, 750,000 shares of the Company's Common Stock have been
authorized for possible issuance under the 1995 Plan. Stock options granted
under the 1995 Plan may be either incentive stock options or non-qualified stock
options. Options expire on such date as is determined by the committee
administering the 1995 Plan, except that incentive stock options may expire no
later than 10 years from the date of grant. Pursuant to the 1995 Plan, a
specified number of stock options exercisable at the then market price are
granted annually to non-employee directors of the Company, which become 100%
vested six months from the date of grant. Stock appreciation rights entitle
F-34
<PAGE> 114
CANARGO ENERGY CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- CONTINUED
18. STOCK-BASED COMPENSATION PLANS -- (CONTINUED)
the holder to receive payment in cash or Common Stock equal in value to the
excess of the fair market value of a specified number of shares of Common Stock
on the date of exercise over the exercise price of the stock appreciation right.
No stock appreciation rights have been granted through December 31, 1998. The
exercise price and vesting schedule of stock appreciation rights are determined
at the date of grant. Under the 1995 Plan, 736,416 options were outstanding at
December 31, 1998.
Pursuant to the terms of the Combination Agreement, on July 15, 1998 each stock
option granted under CAOG's existing Stock Option Plan (the "CAOG Plan") to
purchase a CAOG common share was converted into an option to purchase 0.8 shares
of the Company's Common Stock. Pursuant to the CAOG Plan, which has been adopted
by the Company, a total of 988,000 shares of the Company's Common Stock have
been authorized for issuance. Stock options granted under the CAOG Plan expire
on such date as is determined by the committee administering the CAOG Plan,
except that the term of stock options may not exceed 10 years from the date of
grant. Under the CAOG Plan, 908,000 options were outstanding at December 31,
1998.
The purpose of the Company's stock option plans is to further the interest of
the Company by enabling officers, directors, employees, consultants and advisors
of the Company to acquire an interest in the Company by ownership of its stock
through the exercise of stock options and stock appreciation rights granted
under its various stock option plans.
F-35
<PAGE> 115
CANARGO ENERGY CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- CONTINUED
18. STOCK-BASED COMPENSATION PLANS -- (CONTINUED)
A summary of the status of stock options granted under the 1994 Plan, the 1995
Plan and the CAOG Plan is as follows:
<TABLE>
<CAPTION>
SHARES SHARES ISSUABLE WEIGHTED
AVAILABLE UNDER OUTSTANDING AVERAGE
FOR ISSUE OPTIONS EXERCISE PRICE
--------- ----------------- --------------
<S> <C> <C> <C>
Balance at August 31, 1995.......... 0 200,000 $ 3.00
1995 Plan Authorization........... 750,000
Options (1994 & 1995 Plans):
Granted at market.............. (15,000) 15,000 $ 7.68
Exercised (1994 Plan).......... -- (26,000) $ 3.00
-------- ---------
Balance at August 31, 1996.......... 735,000 189,000 $ 3.38
Options (1994 & 1995 Plans):
Granted at market.............. (190,750) 190,750 $14.50
Granted at a premium........... (222,500) 222,500 $17.98
Exercised (1994 Plan).......... -- (6,000) $ 3.00
-------- ---------
Balance at December 31, 1996........ 321,750 596,250 $12.38
Options (1994 & 1995 Plans):
Granted at market.............. (18,500) 18,500 $ 8.90
Granted at a premium........... (77,500) 77,500 $10.54
Exercised (1994 Plan).......... -- (52,000) $ 3.00
Canceled....................... 63,084 (63,084) $14.54
-------- ---------
Balance at December 31, 1997........ 288,834 577,166 $12.64
-------- ---------
Options (1994 & 1995 Plans):
Granted at market.............. (665,084) 665,084 $ 1.06
Granted at a premium........... (25,000) 25,000 $ 0.70
Canceled (1994 Plan)........... -- (42,000) $ 3.00
Canceled....................... 414,834 (414,834) $15.59
CAOG Plan Authorization:.......... 988,000
Converted Options.............. (988,000) 988,000 $ 1.85
Granted at market.............. (90,000) 90,000 $0.563
Granted at a premium........... (50,000) 50,000 $ 0.70
Canceled....................... 220,000 (220,000) $ 1.85
-------- ---------
Balance at December 31, 1998........ 93,584 1,718,416 $ 1.70
-------- ---------
</TABLE>
F-36
<PAGE> 116
CANARGO ENERGY CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- CONTINUED
18. STOCK-BASED COMPENSATION PLANS -- (CONTINUED)
The shares issuable upon exercise of vested options and the corresponding
weighted average exercise price are as follows:
<TABLE>
<CAPTION>
SHARES ISSUABLE
UNDER WEIGHTED
EXERCISABLE AVERAGE
OPTIONS EXERCISE PRICE
--------------- --------------
<S> <C> <C>
August 31, 1995................................... 172,000 $3.00
August 31, 1996................................... 171,000 $3.42
December 31, 1996................................. 165,000 $3.42
December 31, 1997................................. 177,832 $7.12
December 31, 1998................................. 413,661 $2.82
</TABLE>
The weighted average fair value of options granted at market was $0.61, $2.92,
$7.30 and $2.02 for the years ended December 31, 1998 and 1997, the four month
period ended December 31, 1996 and the fiscal year ended August 31, 1996,
respectively. The weighted average fair value of options granted at a premium
was $0.13, $1.85 and $3.46 for the years ended December 31, 1998 and 1997 and
the four month period ended December 31, 1996, respectively; no options were
granted at a premium for the fiscal year ended August 31, 1996. The weighted
average fair value of all options granted during the years ended December 31,
1998 and 1997, the four month period ended December 31, 1996 and the fiscal year
ended August 31, 1996 was $0.59, $2.05, $5.04 and $2.02, respectively.
The following table summarizes information about stock options outstanding at
December 31, 1998:
<TABLE>
<CAPTION>
OPTIONS OUTSTANDING OPTIONS EXERCISABLE
- ------------------------------------------------------------------- -----------------------------
NUMBER WEIGHTED NUMBER
OF SHARES AVERAGE WEIGHTED OF SHARES WEIGHTED
RANGE OF OUTSTANDING REMAINING AVERAGE EXERCISABLE AVERAGE
EXERCISE PRICES AT 12/31/98 TERM EXERCISE PRICE AT 12/31/98 EXERCISE PRICE
- --------------- ----------- --------- -------------- ----------- --------------
<S> <C> <C> <C> <C> <C>
$0.31 to $1.85....... 1,598,084 9.64 $ 1.39 299,997 $ 1.85
$3.00 to $7.69....... 89,000 8.31 $ 3.79 89,000 $ 3.79
$9.00 to $14.50...... 31,332 7.84 $11.55 24,664 $11.16
--------- -------
$0.31 to $14.50...... 1,718,416 413,661
--------- -------
</TABLE>
As discussed in Note 2, Summary of Significant Accounting Policies, under
"Stock-Based Compensation Plans," of Notes to Consolidated Financial Statements,
the Company accounts for its stock-based compensation plans under APB Opinion
25. Accordingly, no compensation cost has been recognized for those stock
options with exercise prices equal to
F-37
<PAGE> 117
CANARGO ENERGY CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- CONTINUED
18. STOCK-BASED COMPENSATION PLANS -- (CONTINUED)
or greater than the market price of the stock on the date of grant. Under SFAS
No. 123, compensation cost is measured at the grant date based on the fair value
of the awards and is recognized over the service period, which is usually the
vesting period. Had compensation cost for those stock options been determined
consistent with SFAS No. 123, the Company's net loss and net loss per common
share after plan forfeitures would have been approximately $5,750,000 and $0.36,
respectively, for the year ended December 31, 1998, $28,600,000 and $2.56,
respectively, for the year ended December 31, 1997 and approximately $6,500,000
and $1.04, respectively, for the fiscal year ended August 31, 1996. Stock
options had no effect on net loss for the four months ended December 31, 1996.
This effect is not likely to be representative of future pro forma amounts
because of the exclusion of costs of grants before 1995 and the addition of
awards to be granted in future years.
The fair value of each stock option granted by the Company was calculated using
the Black-Scholes option-pricing model applying the following weighted-average
assumptions for the years ended December 31, 1998 and 1997, the four month
period ended December 31, 1996 and the fiscal year ended August 31, 1996:
dividend yield of 0.00%; risk-free interest rates are different for each grant
and range from 5.69% to 5.72% for the year ended December 31, 1998, 6.08% to
6.36% for the year ended December 31, 1997, 5.79% to 6.16% for the four month
period ended December 31, 1996, and during the fiscal year ended August 31,
1996, only one grant was made with a risk-free interest rate of 4.79%; the
average expected lives of options of 4.0 years, 2.1 years, 3.1 years and 1.5
years, respectively; and volatility of 44.8% for the year ended December 31,
1998, 44.7% for the year ended December 31, 1997 and 49% for the four month
period ended December 31, 1996 and the fiscal year ended August 31, 1996.
19. RELATED PARTY TRANSACTIONS
The Company is a 50% shareholder of CanArgo Power Corporation, which in turn
owns 85% of a Georgian private power company. The other 50% of CanArgo Power
Corporation is owned by Terrenex Acquisition Corporation, an entity that is
affiliated with two of the Company's directors and is itself a principal
stockholder of the Company. During the first half of 1998, Terrenex, on behalf
of both itself and the Company, provided all of the funds required by CanArgo
Power. After the July 1998 business combination with CAOG was completed, the
Company reimbursed Terrenex $398,000, representing half of the amount that had
been advanced through that time.
In May 1998, Terrenex agreed to lend CAOG up to $1,000,000 through August 31,
1998 and subsequently advanced the $1,000,000. CAOG paid Terrenex a $10,000
commitment fee, $50,000 in draw down fees and interest at the rate of 1/2% per
month. In addition, CAOG granted Terrenex options exercisable until December 31,
1998 to acquire 12 1/2% of the stock of the subsidiary holding the
Nazvrevi/Block XIII production sharing contract and 15% of CAOG's position in
any license received as a result of a consortium submission in response to the
Dagestan tender for offshore drilling and production rights. The terms of the
loan were negotiated and approved by directors of CAOG who had no affiliation
with Terrenex. The Company subsequently extended the options through
F-38
<PAGE> 118
CANARGO ENERGY CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- CONTINUED
19. RELATED PARTY TRANSACTIONS -- (CONTINUED)
March 31, 1999 in consideration of the efforts of Terrenex in attempting to
arrange financing for the Company. Terrenex can exercise either option by paying
the percentage of the amounts expended on such projects through the exercise
date as equals the percentage of the project being acquired through the exercise
of the option. The Company repaid the Terrenex loan following completion of the
business combination July 1998.
20. SUBSEQUENT EVENTS
On February 12, 1999, the Company filed, subject to completion, a Registration
Statement on Form S-1 with the Securities and Exchange Commission with respect
to the offering of 21,264,643 shares of its Common Stock.
On March 29, 1999, CanArgo was advised by The Nasdaq Stock Market that it had
delisted CanArgo's common stock effective with the close of business on March
29, 1999. On March 30, 1999, CanArgo's common stock commenced trading on the OTC
Bulletin Board.
F-39
<PAGE> 119
CANARGO ENERGY CORPORATION
SUPPLEMENTAL FINANCIAL INFORMATION
SUPPLEMENTAL OIL AND GAS DISCLOSURES -- UNAUDITED
ESTIMATED NET QUANTITIES OF OIL AND GAS RESERVES
Users of this information should be aware that the process of estimating
quantities of "proved" and "proved developed" natural gas and crude oil reserves
is very complex, requiring significant subjective decisions in the evaluation of
all available geological, engineering and economic data for each reservoir. The
data for a given reservoir may also change substantially over time as a result
of numerous factors including, but not limited to, additional development
activity, evolving production history and continual reassessment of the
viability of production under varying economic conditions. Consequently,
material revisions to existing reserve estimates occur from time to time.
Although every reasonable effort is made to ensure that reserve estimates
reported represent the most accurate assessments possible, the significance of
the subjective decisions required and variances in available data for various
reservoirs make these estimates generally less precise than other estimates
presented in connection with financial statement disclosures.
Proved reserves are estimated quantities of natural gas, crude oil and
condensate that geological and engineering data demonstrate, with reasonable
certainty, to be recoverable in future years from known reservoirs with existing
equipment under existing economic and operating conditions.
Proved developed reserves are proved reserves that can be expected to be
recovered through existing wells with existing equipment and under existing
economic and operating conditions.
No major discovery or other favorable or adverse event subsequent to December
31, 1998 is believed to have caused a material change in the estimates of proved
or proved developed reserves as of that date.
The following table sets forth the Company's net proved reserves, including the
changes therein, and proved developed reserves at December 31, 1998, as
estimated by the independent petroleum engineering firm, AMH Group Ltd.:
F-40
<PAGE> 120
CANARGO ENERGY CORPORATION
SUPPLEMENTAL FINANCIAL INFORMATION -- CONTINUED
SUPPLEMENTAL OIL AND GAS DISCLOSURES -- UNAUDITED
<TABLE>
<CAPTION>
REPUBLIC OF
NET PROVED RESERVES -- OIL GEORGIA CANADA TOTAL
- -------------------------- ----------- ------ -----
(IN THOUSANDS OF BARRELS)
<S> <C> <C> <C>
December 31, 1996
Purchase of properties........................ -- 116 116
Revisions of previous estimates............... -- (33) (33)
Extension, discoveries, other additions....... -- 267 267
Production.................................... -- (16) (16)
----- ---- -----
December 31, 1997............................... -- 334 334
Purchase of properties........................ 6,050 -- 6,050
Revisions of previous estimates............... 198 (155) 43
Extension, discoveries, other additions....... 1,388 -- 1,388
Production.................................... (92) (21) (113)
----- ---- -----
December 31, 1998............................... 7,544 158 7,702
----- ---- -----
Net Proved Developed Reserves December 31,
1998.......................................... 1,528 158 1,686
----- ---- -----
</TABLE>
Net proved reserves in the Republic of Georgia as at December 31, 1998 were as
follows:
<TABLE>
<CAPTION>
PSC ENTITLEMENT VOLUMES(1)
---------------------------
OIL RESERVES COMPANY
---------------- NOC SHARE OF NOC
GROSS NET(2) ENTITLEMENT ENTITLEMENT
------ ------ ----------- ------------
(IN THOUSANDS OF
BARRELS)
<S> <C> <C> <C> <C>
Proved Developed Producing........ 2,404 1,647 1,340 918
Proved Developed Non-Producing.... 1,379 945 890 610
Proved Undeveloped................ 15,200 10,412 8,783 6,016
------ ------ ------ -----
Total Proven...................... 18,983 13,004 11,013 7,544
------ ------ ------ -----
</TABLE>
- -------------------------
(1) PSC (production sharing contract) Entitlement Volumes are those produced
volumes which, through the production sharing contract, accrue to the
benefit of NOC and, as a result of the Company's interest in NOC, accrue to
the benefit of the Company for the recovery of capital, repayment of
operating costs and share of profit.
(2) Net Oil Reserves represent the Company's 68.5% share of NOC's interest under
the production sharing contract in the gross reserves, before taking into
account the interest of Georgian Oil.
F-41
<PAGE> 121
CANARGO ENERGY CORPORATION
SUPPLEMENTAL FINANCIAL INFORMATION -- CONTINUED
SUPPLEMENTAL OIL AND GAS DISCLOSURES -- UNAUDITED
Costs incurred for oil and gas property acquisition, exploration and development
activities for the years ended December 31, 1998 and 1997, the four months ended
December 31, 1996 and the year ended August 31, 1996 are as follows:
<TABLE>
<CAPTION>
EASTERN
EUROPE CANADA TOTAL
-------------- ------------- ----------
<S> <C> <C> <C>
December 31, 1998
Property Acquisition
Unproved*........................ $ -- $ -- $ --
Proved........................... -- -- --
Exploration......................... 684,056 136,715 820,771
Development......................... 4,390,495 4,390,495
---------- ---------- ----------
Total costs incurred............. $5,074,551 $ 136,715 $5,211,266
---------- ---------- ----------
December 31, 1997
Property Acquisition
Unproved*........................ $ -- $ 324,500 $ 324,500
Proved........................... -- 684,500 684,500
Exploration......................... -- -- --
Development......................... -- 680,974 680,974
---------- ---------- ----------
Total costs incurred............. $ -- $1,689,974 $1,689,974
---------- ---------- ----------
</TABLE>
<TABLE>
<CAPTION>
UNITED STATES
-------------
<S> <C> <C> <C>
December 31, 1996
Property acquisition:
Unproved*........................ $ -- $ 259,338 $ 259,338
Proved........................... -- -- --
Exploration......................... -- -- --
Development......................... -- -- --
---------- ---------- ----------
Total costs incurred............. $ -- $ 259,338 $ 259,338
---------- ---------- ----------
</TABLE>
F-42
<PAGE> 122
CANARGO ENERGY CORPORATION
SUPPLEMENTAL FINANCIAL INFORMATION -- CONTINUED
SUPPLEMENTAL OIL AND GAS DISCLOSURES -- UNAUDITED
<TABLE>
<CAPTION>
UNITED STATES
-------------
<S> <C> <C> <C>
August 31, 1996
Property acquisition:
Unproved*........................ $ -- $ 287,788 $ 287,788
Proved........................... -- -- --
Exploration......................... -- -- --
Development......................... -- -- --
---------- ---------- ----------
Total costs incurred............. $ -- $ 287,788 $ 287,788
---------- ---------- ----------
</TABLE>
- ---------------
* These amounts represent costs incurred by the Company and excluded from the
amortization base until proved reserves are established or impairment is
determined.
STANDARDIZED MEASURE OF DISCOUNTED FUTURE NET CASH FLOWS RELATING TO PROVED OIL
AND GAS RESERVES
The following information has been developed utilizing procedures prescribed by
SFAS No. 69 Disclosure about Oil and Gas Producing Activities ("SFAS 69") and
based on crude oil reserve and production volumes estimated by the Company's
engineering staff. It may be useful for certain comparative purposes, but should
not be solely relied upon in evaluating the Company or its performance. Further,
information contained in the following table should not be considered as
representative of realistic assessments of future cash flows, nor should the
Standardized Measure of Discounted Future Net Cash Flows be viewed as
representative of the current value of the Company.
The Company believes that the following factors should be taken into account in
reviewing the following information: (1) future costs and selling prices will
probably differ from those required to be used in these calculations; (2) actual
rates of production achieved in future years may vary significantly from the
rate of production assumed in the calculations; (3) selection of a 10% discount
rate is arbitrary and may not be reasonable as a measure of the relative risk
inherent in realizing future net oil and gas revenues; and (4) future net
revenues may be subject to different rates of income taxation.
Under the Standardized Measure, future cash inflows were estimated by applying
period-end oil prices adjusted for fixed and determinable escalations to the
estimated future production of period-end proven reserves. Future cash inflows
were reduced by estimated future development, abandonment and production costs
based on period-end costs in order to arrive at net cash flow before tax. Future
income tax expenses has been computed by applying period-end statutory tax rates
to aggregate future pre-tax net cash flows, reduced by the tax basis of the
properties involved and tax carryforwards. Use of a 10% discount rate is
required by SFAS No. 69.
Management does not rely solely upon the following information in making
investment and operating decisions. Such decisions are based upon a wide range
of factors, including estimates of probable as well as proven reserves and
varying price and cost assumptions
F-43
<PAGE> 123
CANARGO ENERGY CORPORATION
SUPPLEMENTAL FINANCIAL INFORMATION -- CONTINUED
SUPPLEMENTAL OIL AND GAS DISCLOSURES -- UNAUDITED
considered more representative of a range of possible economic conditions that
may be anticipated.
The standardized measure of discounted future net cash flows relating to proved
oil and gas reserves is as follows:
<TABLE>
<CAPTION>
REPUBLIC OF
DECEMBER 31, 1998 (IN THOUSANDS) GEORGIA CANADA TOTAL
- -------------------------------- ----------- ------- -------
<S> <C> <C> <C>
Future cash inflows............................ $70,464 $1,905 $72,369
Less related future:
Production costs.......................... 15,051 1,176 16,227
Development and abandonment costs......... 26,304 37 26,341
Income taxes.............................. -- -- --
------- ------ -------
Future net cash flows.......................... 29,109 692 29,801
10% annual discount for estimating timing of
cash flows................................... 13,838 255 14,093
------- ------ -------
Standardized measure of discounted future net
cash flows before income taxes............ $15,271 $ 437 $15,708
------- ------ -------
</TABLE>
A summary of the changes in the standardized measure of discounted future net
cash flows applicable to proved oil and gas reserves is as follows:
<TABLE>
<CAPTION>
YEAR ENDED
DECEMBER 31,
1998
--------------
(IN THOUSANDS)
<S> <C>
Beginning of period......................................... $ 1,243
Purchase of reserves in place............................... 14,088
Revisions of previous estimates............................. 115
Development costs incurred during the period................ 4,642
Sales of oil and gas, net of production costs............... 38
Production timing and other................................. (4,418)
-------
Net increase................................................ 14,465
-------
End of the period........................................... $15,708
=======
</TABLE>
F-44
<PAGE> 124
CANARGO ENERGY CORPORATION AND SUBSIDIARIES
CONSOLIDATED CONDENSED BALANCE SHEET
AS OF MARCH 31, 1999 AND DECEMBER 31, 1998 (UNAUDITED)
<TABLE>
<CAPTION>
MARCH 31, DECEMBER 31,
1999 1998
------------ ------------
UNAUDITED
<S> <C> <C>
ASSETS
Cash and cash equivalents....................... $ 705,807 $ 1,924,908
Accounts receivable............................. 381,699 424,367
Advances to operator............................ 252,588 376,890
Inventory....................................... 298,149 170,405
Other current assets............................ 300,509 453,476
------------ ------------
Total current assets....................... $ 1,938,752 $ 3,350,046
Property and equipment, net..................... 6,259,741 6,201,936
Oil and gas properties, net, full cost method
(including unevaluated amounts of $13,510,157
and $13,266,368 respectively)................. 31,069,646 30,137,573
Investments in and advances to oil and gas and
other ventures -- net......................... 7,049,182 6,877,974
------------ ------------
TOTAL ASSETS.................................... $ 46,317,321 $ 46,567,529
============ ============
LIABILITIES AND STOCKHOLDERS' EQUITY
Accounts payable................................ $ 1,427,139 $ 821,761
Accrued liabilities............................. 1,255,774 1,162,050
------------ ------------
Total current liabilities.................. $ 2,682,913 $ 1,983,811
Minority interest in subsidiaries............... 4,464,698 4,552,285
Stockholders' equity:
Preferred stock, par value $0.10 per share.... -- --
Common stock, par value $0.10 per share....... 2,126,464 2,101,464
Capital in excess of par value................ 101,630,441 101,545,941
Accumulated deficit........................... (64,587,195) (63,615,972)
------------ ------------
Total stockholders' equity................. $ 39,169,710 $ 40,031,433
------------ ------------
TOTAL LIABILITIES AND STOCKHOLDERS' EQUITY...... $ 46,317,321 $ 46,567,529
============ ============
</TABLE>
See accompanying notes to unaudited consolidated condensed financial statements.
F-45
<PAGE> 125
CANARGO ENERGY CORPORATION AND SUBSIDIARIES
CONSOLIDATED CONDENSED STATEMENTS OF OPERATIONS
FOR THE THREE MONTHS ENDED MARCH 31, 1999 AND MARCH 31, 1998 (UNAUDITED)
<TABLE>
<CAPTION>
THREE MONTHS ENDED
--------------------------
MARCH 31, MARCH 31,
1999 1998
----------- -----------
UNAUDITED
<S> <C> <C>
Operating Revenues:
Oil and gas sales............................... $ 113,667 $ 80,614
----------- -----------
113,667 80,614
----------- -----------
Operating Expenses:
Lease operating expense......................... 66,718 99,517
Direct project costs............................ 68,068 539,406
General and administrative...................... 858,630 1,457,352
Depreciation, depletion and amortization........ 25,000 117,824
Equity loss from investments in unconsolidated
subsidiaries................................. 21,581 91,431
Impairment of oil and gas properties............ -- 800,000
----------- -----------
1,039,997 3,105,530
----------- -----------
OPERATING LOSS.................................... (926,330) (3,024,916)
----------- -----------
Other Income (Expense):
Interest, net................................... (48,259) 203,574
Other........................................... (84,221) 3,225
----------- -----------
TOTAL OTHER INCOME (EXPENSE)...................... (132,480) 206,799
----------- -----------
Minority interest in loss of consolidated
subsidiary...................................... 87,587 --
----------- -----------
NET LOSS AND COMPREHENSIVE LOSS................... $ (971,223) $(2,818,117)
=========== ===========
Weighted average number of common shares
outstanding..................................... 21,222,976 11,223,744
----------- -----------
Net Loss Per Common Share -- Basic................ $ (0.05) $ (0.25)
----------- -----------
Net Loss Per Common Share -- Diluted.............. $ (0.05) $ (0.25)
----------- -----------
</TABLE>
See accompanying notes to unaudited consolidated condensed financial statements.
F-46
<PAGE> 126
CANARGO ENERGY CORPORATION AND SUBSIDIARIES
CONSOLIDATED CONDENSED STATEMENTS OF CASH FLOWS
FOR THE THREE MONTHS ENDED MARCH 31, 1999 AND MARCH 31, 1998 (UNAUDITED)
<TABLE>
<CAPTION>
THREE MONTHS ENDED
--------------------------
MARCH 31, MARCH 31,
1999 1998
----------- -----------
UNAUDITED
<S> <C> <C>
Operating activities:
Net loss........................................ $ (971,223) $(2,818,117)
Depreciation, depletion and amortization........ 25,000 117,824
Impairment of oil and gas properties............ -- 800,000
Equity loss from investments in unconsolidated
subsidiaries................................. 21,581 91,431
Minority interest in loss of consolidated
subsidiary................................... (87,587) --
Changes in assets and liabilities:
Accounts receivable............................. 42,668 --
Advances to operator............................ 124,302 --
Inventory....................................... (127,744) --
Other current assets............................ 152,967 172,315
Accounts payable................................ 605,378 (164,835)
Accrued liabilities............................. 93,724 (772,399)
----------- -----------
NET CASH USED IN OPERATING ACTIVITIES............. (120,934) (2,573,781)
----------- -----------
Investing activities:
Restricted cash................................. -- (200,000)
Investments in oil and gas properties........... (842,573) (73,904)
Purchase of property and equipment.............. (62,805) (1,321)
Investments in and advances to oil and gas and
other ventures............................... (192,789) --
----------- -----------
NET CASH USED IN INVESTING ACTIVITIES............. (1,098,167) (275,225)
----------- -----------
NET DECREASE IN CASH AND CASH EQUIVALENTS......... (1,219,101) (2,849,006)
CASH AND CASH EQUIVALENTS, BEGINNING OF PERIOD.... 1,924,908 14,164,177
----------- -----------
CASH AND CASH EQUIVALENTS, END OF PERIOD.......... $ 705,807 $11,315,171
=========== ===========
Non cash investing and financing activities:
Issuance of common stock in connection with
acquisition of oil and gas properties........ $ 109,500 $ --
=========== ===========
</TABLE>
See accompanying notes to unaudited consolidated condensed financial statements.
F-47
<PAGE> 127
CANARGO ENERGY CORPORATION AND SUBSIDIARIES
NOTES TO UNAUDITED CONSOLIDATED CONDENSED FINANCIAL STATEMENTS
THREE MONTHS ENDED MARCH 31, 1999 AND MARCH 31, 1998 (UNAUDITED)
(1) BASIS OF PRESENTATION
The interim consolidated condensed financial statements and notes thereto of
CanArgo Energy Corporation and its subsidiaries (collectively, the Company) have
been prepared by management without audit. In the opinion of management, the
consolidated condensed financial statements include all adjustments, consisting
of normal recurring adjustments, necessary for a fair statement of the results
for the interim period. The accompanying consolidated condensed financial
statements should be read in conjunction with the consolidated financial
statements and notes thereto included in the Company's Annual Report on Form
10-K for the year ended December 31, 1998 filed with the Securities and Exchange
Commission.
On July 15, 1998 the Company filed with the Delaware Secretary of State
amendments to its Certificate of Incorporation to effect a one-for-two reverse
split of the shares of the Company's Common Stock (the "Reverse Split") and to
change the Company's name from Fountain Oil Incorporated to CanArgo Energy
Corporation. The Reverse Split has been reflected retroactively in the
accompanying financial statements.
Oil and Gas Properties -- The Company and the unconsolidated entities for which
it accounts using the equity method account for oil and gas properties and
interests under the full cost method. Under this accounting method, costs,
including a portion of internal costs associated with property acquisition and
exploration for and development of oil and gas reserves, are capitalized within
cost centers established on a country-by-country basis. Capitalized costs within
a cost center, as well as the estimated future expenditures to develop proved
reserves and estimated net costs of dismantlement and abandonment, are amortized
using the unit-of-production method based on estimated proved oil and gas
reserves. All costs relating to production activities are charged to expense as
incurred.
Capitalized oil and gas property costs, less accumulated depreciation, depletion
and amortization and related deferred income taxes, are limited to an amount
(the ceiling limitation) equal to (a) the present value (discounted at 10%) of
estimated future net revenues from the projected production of proved oil and
gas reserves, calculated at prices in effect as of the balance sheet date (with
consideration of price changes only to the extent provided by fixed and
determinable contractual arrangements), plus (b) the lower of cost or estimated
fair value of unproved and unevaluated properties, less (c) income tax effects
related to differences in the book and tax basis of the oil and gas properties.
(2) BUSINESS COMBINATION
On July 15, 1998, the Company completed the acquisition of all of the common
stock of CanArgo Oil & Gas Inc. ("CAOG") for Common Stock consideration valued
at $19,362,500. CAOG is an oil and gas exploration, development and production
company whose principal operations are located in the Republic of Georgia. On
completion of the acquisition, CAOG became a subsidiary of the Company, and each
previously outstanding share of CAOG Common Stock was converted into the right
to receive 0.8 shares of the Company's Common Stock, giving the former
shareholders of CAOG the right to receive
F-48
<PAGE> 128
CANARGO ENERGY CORPORATION AND SUBSIDIARIES
NOTES TO UNAUDITED CONSOLIDATED CONDENSED
FINANCIAL STATEMENTS -- CONTINUED
(2) BUSINESS COMBINATION -- (CONTINUED)
approximately 47% of the Company's Common Stock. In addition, the former
management of CAOG now holds a majority of the Company's senior management
positions. The transaction was accounted for as a purchase. Under purchase
accounting, CAOG's results have been included in the Company's consolidated
financial statements since the date of acquisition.
The business combination will result in the issuance of 9,790,900 shares of the
Company's Common Stock without receipt of additional consideration by the
Company. At March 31, 1999, 7,919,701 of these shares had been issued. Giving
effect to the full issuance of such shares, the number of shares of the
Company's Common Stock outstanding as at March 31, 1999 would be 21,264,643.
(3) NEED FOR SIGNIFICANT ADDITIONAL CAPITAL, POSSIBLE IMPAIRMENT OF ASSETS
As described in notes 4, 5 and 6 to the condensed consolidated financial
statements, the Company has oil and gas related assets totaling $44,107,212. In
order to recover the carrying value of the proved properties (principally the
Ninotsminda field), among other things, the Company will be required to raise
significant additional capital to develop the proved properties in order to
increase production to a level that provides positive cash flow and to recover
the proved reserves associated with those properties. Budgeted costs for this
development are approximately $9.5 million to be incurred prior to mid-2000 and
approximately $16 million thereafter. To partially fund this further development
cost, Ninotsminda Oil Company received a $6 million loan commitment from the
International Finance Corporation. However, the commitment is essentially
contingent on the Company providing $2 million to NOC in the form of a
subordinated loan. There is no assurance that the Company will be able to raise
the required funds and therefore that NOC will be able to draw on the loan. If
the Company cannot successfully raise the required funds to develop the
Ninotsminda field, it may not be able to recover its carrying value.
In addition to the funds needed to develop the Ninotsminda field, significant
additional capital will be required to explore and, if appropriate develop, the
Company's unproved properties and its investment in oil and gas ventures. This
requirement could be met by raising additional capital, partnering with other
industry participants who would fund all or part of the exploration or
development activities in exchange for an interest in the properties or
interests or outright sale of the properties or interests. The Company is
actively seeking industry partners in connection with its interests in the
Stynawske field as well as its other unproved properties in Eastern Europe. No
adjustment to the carrying value of these properties or interests have been made
as of March 31, 1999, pending the outcome of the Company's capital raising or
joint venture activities. However, it substantive joint venture partners are not
obtained or significant capital is not raised the Company may not recover all or
any of the carrying value of those assets. In addition, even if the Company
obtains the means or identifies an industry partner to explore those properties,
there is no assurance that proved reserves will be found in sufficient
quantities to permit the Company to recover its investment.
F-49
<PAGE> 129
CANARGO ENERGY CORPORATION AND SUBSIDIARIES
NOTES TO UNAUDITED CONSOLIDATED CONDENSED
FINANCIAL STATEMENTS -- CONTINUED
(3) NEED FOR SIGNIFICANT ADDITIONAL CAPITAL, POSSIBLE IMPAIRMENT OF
ASSETS -- (CONTINUED)
The Company has mobilized oil and gas related equipment to Georgia principally
for use in the development of the Ninotsminda field and ultimately for the
exploration and development of certain other unproved properties in Eastern
Europe. If the Ninotsminda field and certain unproved properties are not
successfully developed, the Company may not recover the remaining carrying value
of this equipment.
The Company's investments in Georgian American Oil Refinery and Sagarego Power
Corporation are part of the Company's strategy to successfully develop the
Ninotsminda field and accordingly, ultimate realization of those investments is
tied to the successful development and operation of that field.
The consolidated financial statements of the Company do not give effect to any
additional impairment in the value of the Company's investment in oil and gas
properties and ventures or other adjustments that would be necessary if
financing cannot be arranged for the development of such properties and ventures
or if they are unable to achieve profitable operations. The Company's
consolidated financial statements have been prepared under the assumption of a
going concern. Failure to arrange such financing on reasonable terms or failure
of such properties and ventures to achieve profitability would have a material
adverse effect on the financial position, including realization of assets,
results of operations, cash flows and prospects of the Company and ultimately
its ability to continue as a going concern.
(4) PROPERTY AND EQUIPMENT, NET
Property and equipment, net of accumulated depreciation and impairment at March
31, 1999 and December 31, 1998 included the following:
<TABLE>
<CAPTION>
DECEMBER 31,
MARCH 31, 1999 1998
------------------------------------------------------ ------------
ACCUMULATED
COST DEPRECIATION IMPAIRMENT NET NET
----------- ------------ ----------- ----------- ------------
<S> <C> <C> <C> <C> <C>
Electrically enhanced
oil recovery ("EEOR")
equipment............. $ 562,953 $ (290,855) $ -- $ 272,098 $ 272,098
Oil and gas related
equipment............. 8,426,310 -- (2,710,024) 5,716,286 5,653,481
Office furniture,
fixtures and equipment
and other............. 1,090,352 (418,995) (400,000) 271,357 276,357
----------- ----------- ----------- ----------- -----------
Property and
Equipment............. $10,079,615 $ (709,850) $(3,110,024) $ 6,259,741 $ 6,201,936
=========== =========== =========== =========== ===========
</TABLE>
Oil and gas related equipment includes new or refurbished drilling rigs and
related equipment, substantially all of which has been transported to the
Republic of Georgia for use by the Company in the development of the Ninotsminda
field.
F-50
<PAGE> 130
CANARGO ENERGY CORPORATION AND SUBSIDIARIES
NOTES TO UNAUDITED CONSOLIDATED CONDENSED
FINANCIAL STATEMENTS -- CONTINUED
(5) OIL AND GAS PROPERTIES, NET
The Company has acquired interests in oil and gas properties through share
ownership, joint ventures and joint operating arrangements. A summary of the
Company's oil and gas properties at March 31, 1999 and December 31, 1998 is set
out below:
<TABLE>
<CAPTION>
MARCH 31, 1999 DECEMBER 31,
------------------------------------------------------------------- 1998
REPUBLIC OF ------------
GEORGIA CANADA USA OTHER TOTAL TOTAL
----------- ----------- ----------- ----------- ----------- ------------
<S> <C> <C> <C> <C> <C> <C>
Proved properties.... $17,426,461 $ 1,637,947 $ 1,174,734 $ -- $20,239,142 $19,530,858
Unproved
properties......... 12,951,701 324,500 -- 233,956 13,510,157 13,266,368
Less: accumulated
depletion and
impairment......... (194,421) (1,310,498) (1,174,734) -- (2,679,653) (2,659,653)
----------- ----------- ----------- ----------- ----------- -----------
Total Oil and Gas
Properties, Net.... $30,183,741 $ 651,949 $ -- $ 233,956 $31,069,646 $30,137,573
=========== =========== =========== =========== =========== ===========
</TABLE>
Oil and gas properties obtained in connection with the acquisition of CAOG
includes $15,120,000 of properties in the full cost pool and $10,550,500 of
unevaluated properties. The Ninotsminda field includes seven producing wells and
since February 1996 has been operated under the terms of a production sharing
contract ("PSC") between Ninotsminda Oil Company Limited ("NOC") and the
Republic of Georgia represented by the state oil company, Georgian Oil. Unproved
properties in the Republic of Georgia include other license areas within the
Ninotsminda PSC, as well as other exploration areas referred to as the Nazvrevi
block and Block XIII operated under the terms of a PSC between the Company's
wholly owned subsidiary, CanArgo Nazvrevi Limited, and the Republic of Georgia.
During the first quarter of 1997, the Company purchased a 60% interest in a
heavy oil property in the Sylvan Lake area in Alberta, Canada for approximately
$1,009,000. During the three months ended March 31, 1998, the Company recognized
impairments aggregating $800,000 on its oil and gas properties in the Sylvan
Lake project as a result of a decline of heavy oil prices and the quarterly
application of the full cost ceiling test. The impairment relates to proved
properties.
Unproved properties and associated costs not currently being amortized and
included in oil and gas properties were $13,510,157 and $13,266,368 at March 31,
1999 and December 31, 1998 respectively. Unproved oil and gas properties at
March 31, 1999 include costs of $13,185,657 (December 31, 1998 -- $12,941,868)
with respect to properties in Eastern Europe. These properties are expected to
be evaluated over the next five years. Remaining costs of $324,500 (December 31,
1998 -- $324,500) relate to the Sylvan Lake field which are expected to be
evaluated over the next 12 months. If no proved reserves are added, these
properties could result in additional impairment.
F-51
<PAGE> 131
CANARGO ENERGY CORPORATION AND SUBSIDIARIES
NOTES TO UNAUDITED CONSOLIDATED CONDENSED
FINANCIAL STATEMENTS -- CONTINUED
(6) INVESTMENTS IN AND ADVANCES TO OIL AND GAS AND OTHER VENTURES
The Company has acquired interests in oil and gas and other ventures through
less than majority interests in corporate and corporate-like entities. A summary
of the Company's net investment in and advances to oil and gas ventures as of
March 31, 1999 and December 31, 1998 is set out below:
<TABLE>
<CAPTION>
MARCH 31, DECEMBER 31,
INVESTMENTS IN AND ADVANCES TO OIL AND GAS AND OTHER VENTURES 1999 1998
- ------------------------------------------------------------- ----------- ------------
<S> <C> <C>
Ukraine -- Stynawske Field, Boryslaw
Through 45% ownership of Boryslaw Oil Company........ $ 6,076,233 $ 5,980,613
Republic of Georgia -- Sartichala
Through 12.9% ownership of Georgian American Oil
Refinery.......................................... 1,004,445 1,004,445
Republic of Georgia -- Ninotsminda
Through an effective 42.5% ownership Sagarego Power
Corporation....................................... 564,965 467,796
Ukraine -- Lelyaki Field, Pryluki Region
Through an effective 40.5% ownership of Kashtan Petroleum
Ltd............................................... 2,435,725 2,435,725
Adygea, Russian Federation -- Maykop Field
Through 37% ownership in Intergas JSC................ 6,710,874 6,710,874
Albania -- Gorisht-Kocul Field
Through 50% ownership of the joint venture........... 2,202,922 2,202,922
----------- -----------
Total Investments in and Advances to Oil and Gas and Other
Ventures............................................. $18,995,164 $18,802,375
----------- -----------
</TABLE>
<TABLE>
<CAPTION>
MARCH 31, DECEMBER 31,
EQUITY IN PROFIT (LOSS) OF OIL AND GAS AND OTHER VENTURES 1999 1998
- --------------------------------------------------------- ----------- ------------
<S> <C> <C>
Ukraine -- Stynawske Field, Boryslaw................. $ (596,461) $ (574,880)
Ukraine -- Lelyaki Field, Pryluki Region............. (2,435,725) (2,435,725)
Adygea, Russian Federation -- Maykop Field........... (1,452,510) (1,452,510)
Albania -- Gorisht-Kocul Field....................... (833,191) (833,191)
----------- -----------
Cumulative Equity in Profit (Loss) of Oil and Gas and
Other Ventures..................................... $(5,317,887) $(5,296,306)
----------- -----------
</TABLE>
F-52
<PAGE> 132
CANARGO ENERGY CORPORATION AND SUBSIDIARIES
NOTES TO UNAUDITED CONSOLIDATED CONDENSED
FINANCIAL STATEMENTS -- CONTINUED
(6) INVESTMENTS IN AND ADVANCES TO OIL AND GAS AND OTHER VENTURES -- (CONTINUED)
<TABLE>
<CAPTION>
MARCH 31, DECEMBER 31,
EQUITY IN PROFIT (LOSS) OF OIL AND GAS AND OTHER VENTURES 1999 1998
- --------------------------------------------------------- ----------- ------------
<S> <C> <C>
Impairment -- Maykop Field........................... $(5,258,364) $(5,258,364)
Impairment -- Gorisht-Kocul Field.................... (1,369,731) (1,369,731)
----------- -----------
Total Impairment..................................... $(6,628,095) $(6,628,095)
----------- -----------
Total Investments in and Advances to Oil and Gas and
Other Ventures, Net of Equity Loss and Impairment... $ 7,049,182 $ 6,877,974
=========== ===========
</TABLE>
As of March 31, 1999, the Company had net investments in and advances to oil and
gas ventures totaling $5,479,772 (December 31, 1998 -- $5,405,733) which relate
to Boryslaw Oil Company, the entity holding the license to develop the Stynawske
field, for which development operations have not yet begun. Included are
advances to Boryslaw Oil Company totaling $1,715,000 and $1,665,000 at March 31,
1999 and December 31, 1998, respectively. Such advances are recoverable only
from future revenue of or payments from future participants in the venture, if
any.
The Company's investment in and advances to Boryslaw Oil Company are essentially
unevaluated properties. At March 31, 1999 and December 31, 1998, there were no
material operations or assets (other than unevaluated properties) of entities
being accounted for using the equity method. Accordingly, no other separate
financial information has been presented.
As of March 31, 1999 the Company had remaining net investments in oil and gas
properties and other ventures totaling $38,118,828 (December 31,
1998 -- $37,015,547). Of this amount, $5,479,772 (December 31,
1998 -- $5,405,733) relates to the Stynawske field in the Ukraine for which
development operations have not yet begun. Ultimate realization of the carrying
value of the Company's oil and gas properties and ventures will require
production of oil and gas in sufficient quantities and marketing such oil and
gas at sufficient prices to provide positive cash flow to the Company, which is
dependent upon, among other factors, achieving significant production at costs
that provide acceptable margins, reasonable levels of taxation from local
authorities, and the ability to market the oil and gas produced at or near world
prices. In addition, the Company must mobilize drilling equipment and personnel
to initiate drilling, completion and production activities. The Company expects
that the initial phase of development of the Stynawske field will consist of the
workover of a number of existing wells, with a view towards increasing
production and gathering data for the preparation of a full field development
program. The Company is actively seeking to establish arrangements under which
oil and gas production companies or other investors would acquire a portion of
the Company's interest in the Stynawske field in return for supplying financing
or services to implement the initial phase of the project. However, if one or
more of the above factors, or other factors, are different than anticipated,
these plans may not be realized, and the Company may not recover its carrying
value. The Company will be entitled to distributions from the various properties
F-53
<PAGE> 133
CANARGO ENERGY CORPORATION AND SUBSIDIARIES
NOTES TO UNAUDITED CONSOLIDATED CONDENSED
FINANCIAL STATEMENTS -- CONTINUED
(6) INVESTMENTS IN AND ADVANCES TO OIL AND GAS AND OTHER VENTURES -- (CONTINUED)
and ventures in accordance with the arrangements governing the respective
properties and ventures.
(7) ACCRUED LIABILITIES
Accrued liabilities at March 31, 1999 and December 31, 1998 included the
following:
<TABLE>
<CAPTION>
MARCH 31, DECEMBER 31,
1999 1998
---------- ------------
<S> <C> <C>
Professional fees.................................. $ 330,000 $ 280,000
Seismic acquisition................................ 814,931 771,207
Taxes payable...................................... 61,000 61,000
Other.............................................. 49,843 49,843
---------- ----------
$1,255,774 $1,162,050
========== ==========
</TABLE>
F-54
<PAGE> 134
CANARGO ENERGY CORPORATION AND SUBSIDIARIES
NOTES TO UNAUDITED CONSOLIDATED CONDENSED
FINANCIAL STATEMENTS -- CONTINUED
(8) STOCKHOLDERS' EQUITY
<TABLE>
<CAPTION>
COMMON STOCK
-----------------------
NUMBER OF
SHARES ADDITIONAL TOTAL
ISSUED AND PAID-IN ACCUMULATED STOCKHOLDERS'
ISSUABLE PAR VALUE CAPITAL DEFICIT EQUITY
---------- ---------- ------------ ------------ -------------
<S> <C> <C> <C> <C> <C>
BALANCE, DECEMBER 31,
1998................ 15,157,868 $1,515,786 $ 90,549,249 $(63,615,972) $28,449,063
Issuance of common
stock upon exchange
of CanArgo Oil & Gas
Inc.
Exchangeable Shares... 3,985,576 398,558 7,483,326 -- 7,881,884
Issuance of common
stock in connection
with acquisition of
oil and gas
properties.......... 250,000 25,000 84,500 -- 109,500
Net loss.............. -- -- -- (971,223) (971,223)
---------- ---------- ------------ ------------ -----------
19,393,444 1,939,344 98,117,075 (64,587,195) 35,469,224
Shares issuable upon
exchange of CanArgo
Oil & Gas Inc.
Exchangeable Shares
without payment of
additional
consideration....... 1,871,199 187,120 3,513,366 -- 3,700,486
---------- ---------- ------------ ------------ -----------
BALANCE, MARCH 31,
1999................ 21,264,643 2,126,464 $101,630,441 $(64,587,195) $39,169,710
========== ========== ============ ============ ===========
</TABLE>
CanArgo's Board of Directors has adopted resolutions proposing, subject to
stockholder approval, a 1-for-25 reverse stock split of its outstanding shares
of common stock.
(9) NET LOSS PER COMMON SHARE
Effective December 31, 1997, the Company adopted SFAS No. 128 Earnings Per
Share. Basic and diluted net loss per common share for the periods ended March
31, 1999 and March 31, 1998 are based on the weighted average number of common
shares outstanding during those periods. The weighted average numbers of shares
issued and issuable without receipt of additional consideration for the three
month periods ended March 31, 1999 and 1998 are 21,222,976 and 11,223,744,
respectively. The weighted average number of shares outstanding at March 31,
1999 excludes 2,754,595 shares issuable upon exercise of options and warrants
because they are anti-dilutive.
F-55
<PAGE> 135
CANARGO ENERGY CORPORATION AND SUBSIDIARIES
NOTES TO UNAUDITED CONSOLIDATED CONDENSED
FINANCIAL STATEMENTS -- CONTINUED
(10) COMMITMENTS AND CONTINGENCIES
OIL AND GAS PROPERTIES AND INVESTMENTS IN OIL AND GAS VENTURES
The Company has contingent obligations and may incur additional obligations,
absolute and contingent, with respect to acquiring and developing oil and gas
properties and ventures. At March 31, 1999, the Company had the contingent
obligation to issue an aggregate of 187,500 shares of its Common Stock, subject
to the satisfaction of conditions related to the achievement of specified
performance standards by the Stynawske field project. The Company believes that
it has no further obligation to fund operations of Kashtan Petroleum Ltd. or
Intergas JSC.
LEGAL PROCEEDINGS AND POTENTIAL CLAIMS
On February 20, 1998, Zhoda Corporation ("Zhoda") filed suit against CanArgo in
the District Court of Harris County, Texas. In 1997, Zhoda sold to CanArgo
shares in a company through which CanArgo acquired most of its interest in the
Lelyaki field project. Part of the consideration which CanArgo paid to Zhoda
consisted of shares of a CanArgo subsidiary which were exchangeable for shares
of CanArgo common stock only upon the achievement of specified Lelyaki field
operating objectives. CanArgo believes that these objectives were not achieved.
In the litigation, Zhoda asserts that it was wrongfully deprived of the value of
the CanArgo shares it believes it should have received, based upon claims of
breach of contract, breach of fiduciary duty and duty of good faith and fair
dealing, fraud and constructive fraud, fraud in the inducement, negligent
misrepresentation, civil conspiracy, breach of trust, unjust enrichment and
rescission. Zhoda is seeking more than $7,500,000 in damages, return of the
shares transferred to CanArgo, and other relief. The Harris County District
Court has stayed the litigation pending completion of arbitration proceedings,
which are being held in Calgary, Alberta. The arbitration proceedings are still
in the preliminary procedural stage. CanArgo believes it has meritorious
defenses to Zhoda's claims which it intends to assert vigorously. A judgment in
favor of Zhoda could have a material adverse effect on CanArgo's financial
condition, results of operations, cash flows and prospects.
On March 24, 1998, CanArgo filed an action against Zhoda in the Court of Queen's
Bench of Alberta, Judicial Centre of Calgary, in which CanArgo seeks to recover
$190,000, plus interest, which CanArgo asserts Zhoda owes CanArgo pursuant to
promissory notes and loan agreements. On March 31, 1998, Zhoda filed a statement
of defense and a counterclaim in which it asserted essentially the same claims
as were asserted in the Texas action described above. On the basis of its
counterclaim, Zhoda seeks relief similar to that sought in the Texas action.
CanArgo's claim against Zhoda in the Alberta action is not within the scope of
the arbitration proceeding being conducted in Calgary.
On March 9, 1998, Ribalta Holdings, Inc. ("Ribalta"), which sold to CanArgo
shares in a company through which CanArgo acquired most of its interest in the
Maykop field project, filed suit against CanArgo in the Third Judicial District
Court of Salt Lake County, Utah. Ribalta, however, has not yet served the
complaint on the CanArgo.
F-56
<PAGE> 136
CANARGO ENERGY CORPORATION AND SUBSIDIARIES
NOTES TO UNAUDITED CONSOLIDATED CONDENSED
FINANCIAL STATEMENTS -- CONTINUED
In its complaint, Ribalta alleges breach by CanArgo of the contract governing
the sale of the shares it transferred to CanArgo and failure of a condition in
that contract that should have resulted in the termination of the contract.
Ribalta seeks the return of all benefits conferred on CanArgo pursuant to the
contract or damages equal to the value of such benefits, as well as other
relief. Under that contract, as amended, the maximum consideration to which
Ribalta might have been entitled was $800,000 and 350,000 shares of CanArgo
Common Stock. CanArgo believes that no consideration is payable under that
contract because conditions to payment specified in the contract were not
satisfied. A judgment in favor of Ribalta in this proceeding could have a
material adverse impact on CanArgo's financial condition, results of operations,
cash flows and prospects. CanArgo believes it has meritorious defenses to
Ribalta's claims which it intends to assert vigorously.
POTENTIAL CLAIMS RELATING TO PREVIOUSLY IMPAIRED PROJECTS
As a result of CanArgo's decision to cease active development of the Lelyaki,
Maykop and Gorisht-Kocul projects, CanArgo may be subject to contingent
liabilities in the form of claims from the joint ventures developing such
projects or from others participating in those projects. CanArgo was advised
during the first quarter of 1998 that Intergas and another shareholder of
Intergas were considering asserting such claims in relation to the Maykop
project, but no such claims have yet been asserted. CanArgo is unable to
estimate the range that such claims, if made, might total. However, if one or
more such claims were asserted and determined to be valid, they could have a
material adverse effect on CanArgo's financial position, results of operations,
cash flows and prospects. Such claims may be adjudicated in the host country
forum under host country laws.
(11) SEGMENT INFORMATION
For the three month periods ended March 31, 1999 and 1998, the Company operated
through one business segment, oil and gas exploration and production, reflecting
its decision to use its electrically enhanced oil recovery ("EEOR") technology
primarily internally as a competitive advantage to obtain and exploit interests
in heavy oil fields and not to pursue external sales of goods and services
related to the EEOR technology.
Operating revenues for the three month periods ended March 31, 1999 and 1998 by
geographical area were as follows:
<TABLE>
<CAPTION>
MARCH 31, MARCH 31,
1999 1998
--------- ---------
<S> <C> <C>
Oil and Gas Exploration, Development and Production
Eastern Europe....................................... $ 68,000 $ --
Canada............................................... 45,667 80,614
-------- --------
Total.................................................. $113,667 $ 80,614
======== ========
</TABLE>
F-57
<PAGE> 137
CANARGO ENERGY CORPORATION AND SUBSIDIARIES
NOTES TO UNAUDITED CONSOLIDATED CONDENSED
FINANCIAL STATEMENTS -- CONTINUED
(11) SEGMENT INFORMATION -- (CONTINUED)
Operating profit (loss) for the three month periods ended March 31, 1999 and
1998 by geographical area were as follows:
<TABLE>
<CAPTION>
MARCH 31, MARCH 31,
1999 1998
----------- -----------
<S> <C> <C>
Oil and Gas Exploration, Development and
Production
Eastern Europe.................................. $ (336,194) $(1,592,777)
Canada.......................................... (85,503) (142,985)
----------- -----------
Total............................................. $ (421,697) $(1,735,762)
Corporate Expenses................................ $ (504,633) $(1,289,154)
Total............................................. $ (926,330) $(3,024,916)
=========== ===========
</TABLE>
Identifiable assets as of March 31, 1999 and December 31, 1998 by business
segment and geographical area were as follows:
<TABLE>
<CAPTION>
MARCH 31, DECEMBER 31,
1999 1998
----------- ------------
<S> <C> <C>
Corporate
United States................................... $ 154,756 $ 3,319
Canada.......................................... 1,117,817 2,304,690
Western Europe.................................. 93,632 196,304
----------- -----------
Total............................................. $ 1,366,205 $ 2,504,313
----------- -----------
Oil and Gas Exploration, Development and
Production
Eastern Europe.................................. $42,413,878 $41,644,701
Canada.......................................... 956,513 1,001,733
Western Europe.................................. 11,315 13,769
----------- -----------
Total............................................. $43,381,706 $42,660,203
----------- -----------
Other Energy Projects
Eastern Europe.................................. $ 1,569,410 $ 1,403,013
----------- -----------
Identifiable Assets -- Total...................... $46,317,321 $46,567,529
=========== ===========
</TABLE>
F-58
<PAGE> 138
CANARGO OIL & GAS INC.
CONSOLIDATED BALANCE SHEET
(SEE BASIS OF PRESENTATION -- NOTE 1)
(STATED IN U.S. DOLLARS)
<TABLE>
<CAPTION>
JUNE 30,
1998
-----------
(UNAUDITED)
<S> <C>
ASSETS
Current
Cash...................................................... $ 935,443
Accounts receivable....................................... 2,116,286
Prepaid expenses.......................................... 23,511
Inventory................................................. 20,405
-----------
$ 3,095,645
Oil and gas properties [note 5]............................. 9,061,436
-----------
$12,157,081
===========
LIABILITIES AND SHAREHOLDERS' EQUITY
Current
Accounts payable and accrued liabilities.................. $ 3,051,742
Taxes payable............................................. 61,000
-----------
$ 3,112,742
Long term debt [note 6]..................................... 895,500
Non-controlling interest.................................... 3,437,929
-----------
$ 7,446,171
-----------
CONTINGENCIES [NOTES 7 AND 8]
SHAREHOLDERS' EQUITY
Share capital and special warrants [note 7]................. $ 5,701,384
Deficit..................................................... (990,474)
-----------
$ 4,710,910
-----------
$12,157,081
===========
</TABLE>
See accompanying notes
F-59
<PAGE> 139
CANARGO OIL & GAS INC.
CONSOLIDATED STATEMENT OF OPERATIONS AND DEFICIT
(STATED IN U.S. DOLLARS)
<TABLE>
<CAPTION>
SIX MONTHS
ENDED
JUNE 30,
1998
-----------
(UNAUDITED)
<S> <C>
REVENUE
Oil......................................................... $ 992,952
Interest.................................................... 46,979
-----------
$ 1,039,931
-----------
EXPENSES
Operating costs............................................. $ 771,652
General and administration.................................. 703,652
Depletion................................................... 527,676
Interest.................................................... 39,020
-----------
$ 2,042,000
-----------
Loss before non-controlling interest........................ $(1,002,069)
Non-controlling interest.................................... 267,422
-----------
LOSS FOR THE PERIOD......................................... $ (734,647)
DEFICIT -- BEGINNING OF PERIOD.............................. $ (255,827)
-----------
DEFICIT -- END OF PERIOD.................................... $ (990,474)
===========
BASIC AND FULLY DILUTED LOSS PER SHARE...................... $ (0.07)
-----------
WEIGHTED AVERAGE NUMBER OF COMMON SHARES OUTSTANDING DURING
PERIOD.................................................... 10,438,391
===========
</TABLE>
See accompanying notes
F-60
<PAGE> 140
CANARGO OIL & GAS INC.
CONSOLIDATED STATEMENT OF CASH FLOWS
(STATED IN U.S. DOLLARS)
<TABLE>
<CAPTION>
SIX MONTHS
ENDED
JUNE 30,
1998
-----------
(UNAUDITED)
<S> <C>
CASH PROVIDED BY (USED IN)
OPERATING ACTIVITIES
Loss for the period......................................... $ (734,647)
Items not requiring cash
Depletion................................................. 527,676
Non-controlling interest.................................. (267,422)
-----------
Funds from operations....................................... $ (474,393)
Net change in non-cash working capital related to operating
activities................................................ 522,401
-----------
$ 48,008
-----------
INVESTING ACTIVITIES
Additions to capital assets................................. $(2,527,655)
-----------
$(2,527,655)
-----------
FINANCING ACTIVITIES
Contribution from non-controlling interest.................. $ 1,820,000
Share issue costs........................................... (238,358)
-----------
$ 1,581,642
-----------
INCREASE (DECREASE) IN CASH................................. $ (898,005)
Cash position, beginning of period.......................... $ 1,833,448
-----------
CASH POSITION, END OF PERIOD................................ $ 935,443
===========
</TABLE>
See accompanying notes
F-61
<PAGE> 141
CANARGO OIL & GAS INC.
NOTES TO UNAUDITED CONSOLIDATED
FINANCIAL STATEMENTS
SIX MONTHS ENDED JUNE 30, 1998
(UNAUDITED)
1. BASIS OF PRESENTATION
Prior to July 1, 1997, CanArgo Oil & Gas Inc. (formerly CanArgo Energy Inc.)
carried on business under the name Money Works Inc. Money Works Inc. was
incorporated under the Alberta Business Corporations Act. Effective July 1,
1997, Money Works Inc. acquired all of the outstanding common shares of CanArgo
Ltd. by issuing a total of 8,276,250 common shares from treasury (see note 4),
and changed its name to CanArgo Energy Inc. ("the Corporation"). This resulted
in the former shareholders of CanArgo Ltd. acquiring control of Money Works Inc.
Accordingly, this transaction has been accounted for as a reverse takeover of
the Corporation and the Consolidated Balance Sheet includes the assets and
liabilities of CanArgo Ltd. at their carrying values together with the net
assets of Money Works Inc. acquired at their ascribed fair values. The financial
statements of the Corporation are a continuation of the financial statements of
CanArgo Ltd., the acquirer, for accounting purposes.
CanArgo Ltd. was incorporated on March 4, 1997 with nominal share capital for
the purpose of holding certain shareholders' interest aggregating 55.9% of the
shares of Ninotsminda Oil Company Limited ("NOC"). There was no change in the
individual shareholders' effective interest in NOC as a result of the formation
of CanArgo Ltd.
NOC is a Cypriot company specializing in the exploration and development of oil
and gas properties in the Republic of Georgia. NOC operates under the terms of a
Production Sharing Contract ("PSC") signed February 15, 1996 between NOC and the
Republic of Georgia represented by the state oil company, Georgian Oil. Under
the terms of the PSC, NOC is responsible for the costs associated with the
project, which is operated on behalf of NOC by the local operating company,
Georgian British Oil Company ("Georgian Oil"). Georgian Oil is responsible for
the costs associated with site restoration and abandonment, royalties and all
state taxes. The PSC expires in December 2019 and provides for a five-year
extension. While areas containing field developments are not subject to
relinquishment, other areas are subject to relinquishment after 5, 10, 15 and 20
years after the date of issue of the license. Currently, the Ninotsminda field
is the only producing field in this license.
Production from the Ninotsminda field commenced in the early part of 1996, and
during 1996 approximately 515,000 barrels of oil were produced. Under the terms
of the PSC, Georgian Oil currently takes the first 96.4 tons per day
("determined production") of production, after which all production is shared.
The level of determined production will change in accordance with the terms of
the agreement. After determined production, NOC receives up to 50% of production
for cost recovery. Remaining production after cost recovery is then allocated as
to 30% to NOC and as to 70% to Georgian Oil.
To date, NOC has sold all of its production to one international buyer at prices
related to the world market price for Brent crude, with payment in US dollars
into NOC's bank account in Cyprus.
F-62
<PAGE> 142
CANARGO OIL & GAS INC.
NOTES TO UNAUDITED CONSOLIDATED
FINANCIAL STATEMENTS -- CONTINUED
1. BASIS OF PRESENTATION -- (CONTINUED)
NOC is in an early stage of operations and is facing challenges typical of doing
business in the former Soviet Union. Neither NOC nor the Corporation is
currently in a position to finance all working capital or capital investment
requirements through their own operations and therefore will require additional
external financing.
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
The Corporation follows accounting principles generally accepted in Canada. The
significant accounting policies are noted below.
a) PRINCIPLES OF CONSOLIDATION
These consolidated financial statements include the accounts of the
Corporation's wholly owned subsidiaries CanArgo Ltd. and CanArgo Nazvrevi
Limited and its 55.9% owned subsidiary, NOC. The Corporation's interest in NOC
was contributed by the CanArgo Ltd. shareholders. As there was no substantive
change in the ownership of the NOC shares arising from the transfer, the
Corporation has recorded its investment at the historic costs of NOC to the
shareholders.
b) INVENTORY
Materials, supplies and spare parts held for use in the oil field and
inventories of petroleum products held for sale are recorded at the lower of
average cost and net realizable value.
c) OIL AND GAS PROPERTIES
The Corporation follows the full cost method of accounting for exploration and
development expenditures wherein all costs related to the exploration for and
the development of oil and gas reserves are capitalized. These costs include
lease acquisition costs, geological and geophysical expenses, carrying charges
of non-producing properties, costs of drilling and completing wells and oil and
gas production equipment and that portion of general and administrative expense
applicable to these activities. Proceeds received from the disposal of
properties are normally credited against accumulated costs unless this would
result in a change in the depletion rate by more than 20%, in which case a gain
or loss is computed and reflected in the statement of operations.
Depletion of exploration and development costs and production equipment is
provided on the unit-of-production method based upon estimated proved oil and
gas reserves, as determined by independent engineers.
The Corporation carries its oil and gas properties at the lower of capitalized
cost and net recoverable amount. Net recoverable amount is future net revenues
from proved reserves plus unproved properties at cost less any impairment.
Future net revenues are determined using unit prices and production and overhead
costs, financing charges and income taxes that will be incurred in earning these
revenues.
F-63
<PAGE> 143
CANARGO OIL & GAS INC.
NOTES TO UNAUDITED CONSOLIDATED
FINANCIAL STATEMENTS -- CONTINUED
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES -- (CONTINUED)
d) FOREIGN CURRENCY TRANSLATION
These financial statements are presented in United States dollars. Monetary
amounts denominated in a foreign currency are translated to United States
dollars at the exchange rate in effect at the balance sheet date. Revenue and
expense items are translated at the average exchange rate for the period.
Exchange gains and losses resulting from the translation of foreign currency
amounts are included in or charged to income for the year.
e) FINANCIAL INSTRUMENTS
Financial instruments of the Corporation consist of cash, accounts receivable,
accounts payable and long term debt. As at June 30, 1998 there are no
significant differences between their carrying values and their estimated market
values.
f) INCOME TAXES
Georgian Oil is responsible for all state taxes in the Republic of Georgia. The
undistributed earnings of foreign investees are considered to be permanently
invested for their continuing operations; accordingly, no provisions are made
for taxes which would become payable upon the distribution of such earnings to
the parent company.
g) MEASUREMENT UNCERTAINTY
The amount recorded for depletion of oil and gas properties is based on
estimates. The ceiling test calculation is based on estimates of proved
reserves, production rates, oil prices, future costs and other relevant
assumptions. By their nature, these estimates are subject to measurement
uncertainty and the effect on the financial statements of changes in such
estimates in future years could be significant.
3. CONTRIBUTING OF SHARES OF NOC
Effective June 30, 1997, the shareholders of CanArgo Ltd. contributed their
collective 55.9% interest in NOC for shares in a common control transaction. The
contribution is summarized as follows:
<TABLE>
<S> <C>
NET ASSETS CONTRIBUTED:
Current assets, including $492,295 cash..................... $ 1,291,195
Capital assets.............................................. 4,748,422
Current liabilities......................................... (777,834)
Long term debt.............................................. (675,000)
Non-controlling interest.................................... (1,399,783)
-----------
SHARES ISSUED: 8,275,250 common shares...................... $ 3,187,000
===========
</TABLE>
F-64
<PAGE> 144
CANARGO OIL & GAS INC.
NOTES TO UNAUDITED CONSOLIDATED
FINANCIAL STATEMENTS -- CONTINUED
4. ACQUISITION OF CANARGO LTD.
Effective July 1, 1997, the Corporation acquired all of the outstanding shares
of CanArgo Ltd., a privately owned company. This transaction has been accounted
for as a reverse takeover as described in Note 1.
The acquisition is summarized as follows:
<TABLE>
<S> <C>
NET ASSETS OF CANARGO ENERGY INC. (FORMERLY MONEY WORKS
INC.) ACQUIRED:
Current assets, including $2,726 cash....................... $ 44,108
Current liabilities......................................... (12,133)
--------
$ 31,975
--------
CONSIDERATION:
1,708,640 common shares..................................... $ 31,975
========
</TABLE>
5. OIL AND GAS PROPERTIES
<TABLE>
<CAPTION>
JUNE 30, 1998
-------------
(UNAUDITED)
<S> <C>
Oil and gas properties...................................... $10,887,172
Accumulated Depletion....................................... (1,825,736)
-----------
$ 9,091,436
===========
</TABLE>
General and administrative expenses of $535,363 were capitalized during the six
months ended June 30, 1998.
6. LONG TERM DEBT
<TABLE>
<CAPTION>
JUNE 30, 1998
-------------
(UNAUDITED)
<S> <C>
Advance..................................................... $220,500
Loan........................................................ 675,000
--------
$895,500
========
</TABLE>
The advance from non-controlling interest to NOC bears no interest unless it is
not repaid by June 30, 2000, at which time it would bear interest at 15% until
repayment.
The loan from non-controlling interest to NOC bears interest at a rate of 10%
and is repayable out of surplus funds of NOC as and when available.
F-65
<PAGE> 145
CANARGO OIL & GAS INC.
NOTES TO UNAUDITED CONSOLIDATED
FINANCIAL STATEMENTS -- CONTINUED
7. SHARE CAPITAL AND SPECIAL WARRANTS
AUTHORIZED
Unlimited number of voting common shares
Unlimited number of first preferred shares
Unlimited number of second preferred shares
<TABLE>
<CAPTION>
ISSUED COMMON SHARES NUMBER AMOUNT
- -------------------- ---------- ----------
<S> <C> <C>
Balance, December 31, 1997............................ 10,438,391 $3,917,465
---------- ----------
Share issue costs..................................... (238,358)
---------- ----------
Balance, June 30, 1998................................ 3,679,107
---------- ----------
Special Warrants
Special warrants issued............................... 1,636,597 $2,520,359
Issue costs........................................... -- (498,082)
---------- ----------
Balance, December 31, 1997 and June 30, 1998.......... 1,636,597 $2,022,277
---------- ----------
Warrants issued and balance, December 31, 1997 and
June 30, 1998....................................... 681,760 $ --
---------- ----------
Total share capital and special warrants, December 31,
1997................................................ 5,701,389
---------- ----------
</TABLE>
On November 3, 1997, the Corporation closed a private placement of 1,636,597
special warrants at a price of Canadian $2.20 per special warrant. Each special
warrant is convertible into one common share of the Corporation and one half of
one warrant. Each full warrant is exercisable into one common share at a price
of Canadian $2.60 per share through to November 1, 1999.
In conjunction with the special warrants placement, 681,760 warrants were
issued. Each warrant is exercisable into one common share with 455,010 being
exercisable at a price of Canadian $2.20, 250,000 warrants of which expire on
June 30, 1998 and 205,010 warrants of which expire April 30, 1999, and 226,750
being exercisable at a price of Canadian $2.60 and expiring on November 1, 1999.
If the Corporation has not obtained a receipt for a final prospectus indicating
the qualification of these securities in each relevant jurisdiction by February
28, 1998 then each special warrant will entitle the holder to receive an
additional 0.1 common share and 0.05 warrant without payment of additional
consideration.
INCENTIVE STOCK OPTION PLAN
During the period ended December 31, 1997, 1,035,000 common share options were
granted; none were exercised. At December 31, 1997, options exercisable between
1998 and 2002 were outstanding to purchase 1,035,000 common shares at a price of
$2.20 per share.
F-66
<PAGE> 146
CANARGO OIL & GAS INC.
NOTES TO UNAUDITED CONSOLIDATED
FINANCIAL STATEMENTS -- CONTINUED
8. SUBSEQUENT EVENTS
On February 2, 1998, the Corporation entered into an agreement with Fountain Oil
Incorporated ("Fountain") under which a business combination would be effected
through an exchange of shares. Each common share of the Corporation is
exchangeable into 0.8 (1.6 preReverse Split) common shares of Fountain. This
business combination is subject to regulatory and shareholder approval.
9. GENERALLY ACCEPTED ACCOUNTING PRINCIPLES (GAAP) IN THE UNITED STATES
The Corporation's consolidated financial statements have been prepared in
accordance with accounting principles generally accepted in Canada, which in the
case of the Corporation at June 30, 1998, conforms in all material respects with
United States GAAP.
F-67
<PAGE> 147
AUDITORS' REPORT
To the Directors of
CanArgo Oil & Gas Inc.
We have audited the consolidated balance sheet of CanArgo Oil & Gas Inc.
(formerly CanArgo Energy Inc.) as at December 31, 1997 and the consolidated
statements of operations and deficit and cash flows for the six-month period
then ended. These financial statements are the responsibility of the
Corporation'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 an audit to obtain reasonable
assurance whether the financial statements are free of material misstatement. An
audit includes examining, on a test basis, evidence supporting the amounts and
disclosures in the financial statements. An audit also includes assessing the
accounting principles used and significant estimates made by management, as well
as evaluating the overall financial statement presentation.
In our opinion, these consolidated financial statements present fairly, in all
material respects, the financial position of the Corporation as at December 31,
1997 and the results of its operations and the changes in its financial position
for the six month period then ended in accordance with accounting principles
generally accepted in Canada.
<TABLE>
<S> <C>
Calgary, Canada Ernst & Young
February 18, 1998 Chartered Accountants
</TABLE>
F-68
<PAGE> 148
CANARGO OIL & GAS INC.
CONSOLIDATED BALANCE SHEET
(SEE BASIS OF PRESENTATION -- NOTE 1)
(STATED IN U.S. DOLLARS)
<TABLE>
<CAPTION>
DECEMBER 31,
1997
------------
<S> <C>
ASSETS
Current
Cash...................................................... $1,833,448
Accounts receivable....................................... 514,513
Prepaid expenses.......................................... 53,668
Inventory................................................. 20,405
----------
$2,422,034
Oil and gas properties [note 5]............................. 7,061,457
----------
$9,483,491
==========
LIABILITIES AND SHAREHOLDERS' EQUITY
Current
Accounts payable and accrued liabilities.................. $ 957,725
Taxes payable............................................. 61,000
----------
$1,018,725
Long term debt [note 6]..................................... 895,500
Non-controlling interest.................................... 1,885,351
----------
$3,799,576
----------
CONTINGENCIES [NOTES 7 AND 8]
SHAREHOLDERS' EQUITY
Share capital and special warrants [note 7]................. $5,939,742
Deficit..................................................... (255,827)
----------
$5,683,915
----------
$9,483,491
==========
</TABLE>
See accompanying notes
F-69
<PAGE> 149
CANARGO OIL & GAS INC.
CONSOLIDATED STATEMENT OF OPERATIONS AND DEFICIT
(STATED IN U.S. DOLLARS)
<TABLE>
<CAPTION>
SIX MONTHS ENDED
DECEMBER 31, 1997
-----------------
<S> <C>
REVENUE
Oil......................................................... $ 1,324,114
Interest.................................................... 22,681
-----------
$ 1,346,795
-----------
EXPENSES
Operating costs............................................. $ 790,287
General and administration.................................. 386,397
Depletion................................................... 555,960
Interest.................................................... 34,410
-----------
$ 1,767,054
-----------
Loss before non-controlling interest........................ $ (420,259)
Non-controlling interest.................................... 164,432
-----------
LOSS FOR THE PERIOD......................................... $ (255,827)
DEFICIT -- BEGINNING OF PERIOD.............................. --
-----------
DEFICIT -- END OF PERIOD.................................... $ (255,827)
===========
BASIC AND FULLY DILUTED LOSS PER SHARE...................... $ (0.03)
-----------
WEIGHTED AVERAGE NUMBER OF COMMON SHARES OUTSTANDING DURING
PERIOD.................................................... $10,210,641
===========
</TABLE>
See accompanying notes
F-70
<PAGE> 150
CANARGO OIL & GAS INC.
CONSOLIDATED STATEMENT OF CASH FLOWS
(STATED IN U.S. DOLLARS)
<TABLE>
<CAPTION>
SIX MONTHS ENDED
DECEMBER 31, 1997
-----------------
<S> <C>
CASH PROVIDED BY (USED IN)
OPERATING ACTIVITIES
Loss for the period......................................... $ (255,827)
Items not requiring cash
Depletion................................................. 555,960
Non-controlling interest.................................. (164,432)
-----------
Funds from operations....................................... $ 135,701
Net change in non-cash working capital related to operating
activities................................................ 480,454
-----------
$ 616,155
-----------
INVESTING ACTIVITIES
Contribution of NOC assets, net of cash..................... $(2,694,705)
Acquisition of Money Works Inc., net of cash................ (29,249)
Additions to capital assets................................. (2,868,995)
-----------
$(5,592,949)
-----------
FINANCING ACTIVITIES
Issue of share capital on contribution of NOC assets........ $ 3,187,000
Issue of share capital to acquire Money Works Inc........... 31,975
Initial share capital issued................................ 100
Contribution from non-controlling interest.................. 650,000
Long term debt.............................................. 220,500
Issue of share capital...................................... 698,390
Issuance of special warrants, net of issue costs............ 2,022,277
-----------
$ 6,810,242
-----------
INCREASE IN CASH............................................ $ 1,833,448
Cash position, beginning of period.......................... --
-----------
CASH POSITION, END OF PERIOD................................ $ 1,833,448
===========
</TABLE>
See accompanying notes
F-71
<PAGE> 151
CANARGO OIL & GAS INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(STATED IN U.S. DOLLARS)
1. BASIS OF PRESENTATION
Prior to July 1, 1997, CanArgo Oil & Gas Inc. (formerly CanArgo Energy Inc.)
carried on business under the name Money Works Inc. Money Works Inc. was
incorporated under the Alberta Business Corporations Act. Effective July 1,
1997, Money Works Inc. acquired all of the outstanding common shares of CanArgo
Ltd. by issuing a total of 8,276,250 common shares from treasury (see note 4),
and changed its name to CanArgo Energy Inc. ("the Corporation"). This resulted
in the former shareholders of CanArgo Ltd. acquiring control of Money Works Inc.
Accordingly, this transaction has been accounted for as a reverse takeover of
the Corporation and the Consolidated Balance Sheet includes the assets and
liabilities of CanArgo Ltd. at their carrying values together with the net
assets of Money Works Inc. acquired at their ascribed fair values. The financial
statements of the Corporation are a continuation of the financial statements of
CanArgo Ltd., the acquirer, for accounting purposes.
CanArgo Ltd. was incorporated on March 4, 1997 with nominal share capital for
the purpose of holding certain shareholders' interest aggregating 55.9% of the
shares of Ninotsminda Oil Company Limited ("NOC"). There was no change in the
individual shareholders' effective interest in NOC as a result of the formation
of CanArgo Ltd. These consolidated financial statements reflect the operations
of the Corporation from July 1, 1997, the date of commencement of operations,
which also coincides with the date of the reverse takeover, when the series of
transactions resulting in achieving control over the principal operating asset
was culminated.
NOC is a Cypriot company specializing in the exploration and development of oil
and gas properties in the Republic of Georgia. NOC operates under the terms of a
Production Sharing Contract ("PSC") signed February 15, 1996 between NOC and the
Republic of Georgia represented by the state oil company, Georgian Oil. Under
the terms of the PSC, NOC is responsible for the costs associated with the
project, which is operated on behalf of NOC by the local operating company,
Georgian British Oil Company ("Georgian Oil"). Georgian Oil is responsible for
the costs associated with site restoration and abandonment, royalties and all
state taxes. The PSC expires in December 2019 and provides for a five-year
extension. While areas containing field developments are not subject to
relinquishment, other areas are subject to relinquishment after 5, 10, 15 and 20
years after the date of issue of the license. Currently, the Ninotsminda field
is the only producing field in this license.
Production from the Ninotsminda field commenced in the early part of 1996, and
during 1996 approximately 515,000 barrels of oil were produced. Under the terms
of the PSC, Georgian Oil currently takes the first 96.4 tons per day
("determined production") of production, after which all production is shared.
The level of determined production will change in accordance with the terms of
the agreement. After determined production, NOC receives up to 50% of production
for cost recovery. Remaining production after cost recovery is then allocated as
to 30% to NOC and as to 70% to Georgian Oil.
To date, NOC has sold all of its production to one international buyer at prices
related to the world market price for Brent crude, with payment in US dollars
into NOC's bank account in Cyprus.
F-72
<PAGE> 152
CANARGO OIL & GAS INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- CONTINUED
1. BASIS OF PRESENTATION -- (CONTINUED)
NOC is in an early stage of operations and is facing challenges typical of doing
business in the former Soviet Union. Neither NOC nor the Corporation is
currently in a position to finance all working capital or capital investment
requirements through their own operations and therefore will require additional
external financing.
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
The Corporation follows accounting principles generally accepted in Canada. The
significant accounting policies are noted below.
a) PRINCIPLES OF CONSOLIDATION
These consolidated financial statements include the accounts of the
Corporation's wholly owned subsidiaries CanArgo Ltd. and CanArgo Nazvrevi
Limited and its 55.9% owned subsidiary, NOC. The Corporation's interest in NOC
was contributed by the CanArgo Ltd. shareholders. As there was no substantive
change in the ownership of the NOC shares arising from the transfer, the
Corporation has recorded its investment at the historic costs of NOC to the
shareholders.
b) INVENTORY
Materials, supplies and spare parts held for use in the oil field and
inventories of petroleum products held for sale are recorded at the lower of
average cost and net realizable value.
c) OIL AND GAS PROPERTIES
The Corporation follows the full cost method of accounting for exploration and
development expenditures wherein all costs related to the exploration for and
the development of oil and gas reserves are capitalized. These costs include
lease acquisition costs, geological and geophysical expenses, carrying charges
of non-producing properties, costs of drilling and completing wells and oil and
gas production equipment and that portion of general and administrative expense
applicable to these activities. Proceeds received from the disposal of
properties are normally credited against accumulated costs unless this would
result in a change in the depletion rate by more than 20%, in which case a gain
or loss is computed and reflected in the statement of operations.
Depletion of exploration and development costs and production equipment is
provided on the unit-of-production method based upon estimated proved oil and
gas reserves, as determined by independent engineers.
The Corporation carries its oil and gas properties at the lower of capitalized
cost and net recoverable amount. Net recoverable amount is future net revenues
from proved reserves plus unproved properties at cost less any impairment.
Future net revenues are determined using unit prices and production and overhead
costs, financing charges and income taxes that will be incurred in earning these
revenues.
F-73
<PAGE> 153
CANARGO OIL & GAS INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- CONTINUED
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES -- (CONTINUED)
d) FOREIGN CURRENCY TRANSLATION
These financial statements are presented in United States dollars. Monetary
amounts denominated in a foreign currency are translated to United States
dollars at the exchange rate in effect at the balance sheet date. Revenue and
expense items are translated at the average exchange rate for the period.
Exchange gains and losses resulting from the translation of foreign currency
amounts are included in or charged to income for the year.
e) FINANCIAL INSTRUMENTS
Financial instruments of the Corporation consist of cash, accounts receivable,
accounts payable and long term debt. As at December 31, 1997 there are no
significant differences between their carrying values and their estimated market
values.
f) INCOME TAXES
Georgian Oil is responsible for all state taxes in the Republic of Georgia. The
undistributed earnings of foreign investees are considered to be permanently
invested for their continuing operations; accordingly, no provisions are made
for taxes which would become payable upon the distribution of such earnings to
the parent company.
g) MEASUREMENT UNCERTAINTY
The amount recorded for depletion of oil and gas properties is based on
estimates. The ceiling test calculation is based on estimates of proved
reserves, production rates, oil prices, future costs and other relevant
assumptions. By their nature, these estimates are subject to measurement
uncertainty and the effect on the financial statements of changes in such
estimates in future years could be significant.
3. CONTRIBUTING OF SHARES OF NOC
Effective June 30, 1997, the shareholders of CanArgo Ltd. contributed their
collective 55.9% interest in NOC for shares in a common control transaction. The
contribution is summarized as follows:
<TABLE>
<S> <C>
NET ASSETS CONTRIBUTED:
Current assets, including $492,295 cash..................... $ 1,291,195
Capital assets.............................................. 4,748,422
Current liabilities......................................... (777,834)
Long term debt.............................................. (675,000)
Non-controlling interest.................................... (1,399,783)
-----------
$ 3,187,000
===========
SHARES ISSUED:
8,275,250 common shares..................................... $ 3,187,000
===========
</TABLE>
F-74
<PAGE> 154
CANARGO OIL & GAS INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- CONTINUED
4. ACQUISITION OF CANARGO LTD.
Effective July 1, 1997, the Corporation acquired all of the outstanding shares
of CanArgo Ltd., a privately owned company. This transaction has been accounted
for as a reverse takeover as described in Note 1.
The acquisition is summarized as follows:
<TABLE>
<S> <C>
NET ASSETS OF CANARGO ENERGY INC. (FORMERLY MONEY WORKS
INC.) ACQUIRED:
Current assets, including $2,726 cash....................... $ 44,108
Current liabilities......................................... (12,133)
--------
$ 31,975
--------
CONSIDERATION:
1,708,640 common shares..................................... $ 31,975
========
</TABLE>
5. OIL AND GAS PROPERTIES
<TABLE>
<CAPTION>
DECEMBER 31,
1997
------------
<S> <C>
Oil and gas properties...................................... $7,617,417
Accumulated Depletion....................................... (555,960)
----------
$7,061,457
==========
</TABLE>
General and administrative expenses of $637,993 were capitalized during the six
months ended December 31, 1997.
6. LONG TERM DEBT
<TABLE>
<CAPTION>
DECEMBER 31,
1997
------------
<S> <C>
Advance..................................................... $220,500
Loan........................................................ 675,000
--------
$895,500
========
</TABLE>
The advance from non-controlling interest to NOC bears no interest unless it is
not repaid by June 30, 2000, at which time it would bear interest at 15% until
repayment. The loan from non-controlling interest to NOC bears interest at a
rate of 10% and is repayable out of surplus funds of NOC as and when available.
7. SHARE CAPITAL AND SPECIAL WARRANTS
AUTHORIZED
Unlimited number of voting common shares
Unlimited number of first preferred shares
F-75
<PAGE> 155
CANARGO OIL & GAS INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- CONTINUED
7. SHARE CAPITAL AND SPECIAL WARRANTS -- (CONTINUED)
Unlimited number of second preferred shares
<TABLE>
<CAPTION>
ISSUED COMMON SHARES NUMBER AMOUNT
- -------------------- ---------- ----------
<S> <C> <C>
Balance on incorporation, opening balance............. 1,000 $ 100
Issued upon contribution of an interest in NOC [note
3].................................................. 8,275,250 3,187,000
Issued to CanArgo Ltd. [note 4]....................... 1,708,641 31,975
Issued for cash....................................... 453,500 698,390
---------- ----------
Balance, December 31, 1997............................ 10,438,391 $3,917,465
---------- ----------
SPECIAL WARRANTS
Special warrants issued............................... 1,636,597 $2,520,359
Issue costs........................................... -- (498,082)
---------- ----------
Balance, December 31, 1997............................ 1,636,597 $2,022,277
---------- ----------
WARRANTS ISSUED AND BALANCE, DECEMBER 31, 1997........ 681,760 $ --
---------- ----------
TOTAL SHARE CAPITAL AND SPECIAL WARRANT, DECEMBER 31,
1997................................................ $5,939,742
==========
</TABLE>
On June 30, 1997, the shareholders approved a 40 for 1 consolidation of all the
outstanding common shares. The record date of the stock consolidation was July
2, 1997. Accordingly, all references to number of shares and per share
information prior to July 2, 1997 have been adjusted to reflect the share
consolidation retroactively.
On November 3, 1997, the Corporation closed a private placement of 1,636,597
special warrants at a price of Canadian $2.20 per special warrant. Each special
warrant is convertible into one common share of the Corporation and one half of
one warrant. Each full warrant is exercisable into one common share at a price
of Canadian $2.60 per share through to November 1, 1999.
In conjunction with the special warrant placement, 681,760 warrants were issued.
Each warrant is exercisable into one common share with 455,010 being exercisable
at a price of Canadian $2.20, 250,000 warrants of which expire on June 30, 1998
and 205,010 warrants of which expire April 30, 1999, and 226,750 being
exercisable at a price of Canadian $2.60 and expiring on November 1, 1999.
If the Corporation has not obtained a receipt for a final prospectus indicating
the qualification of these securities in each relevant jurisdiction by February
28, 1998 then each special warrant will entitle the holder to receive an
additional 0.1 common share and 0.05 warrant without payment of additional
consideration.
INCENTIVE STOCK OPTION PLAN
During the period ended December 31, 1997, 1,035,000 common share options were
granted; none were exercised. At December 31, 1997, options exercisable between
1998 and 2002 were outstanding to purchase 1,035,000 common shares at a price of
$2.20 per share.
F-76
<PAGE> 156
CANARGO OIL & GAS INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- CONTINUED
8. CONTINGENCIES
The non-controlling shareholder in NOC has initiated legal proceedings in Cyprus
claiming that a share offer in NOC had not been accepted by the majority
shareholder in the time limits set out and accordingly the share issuance to the
majority shareholder was invalid. If the non-controlling shareholder is
successful in its application before the Cyprus courts, the interest of the
Corporation in NOC could be reduced to 49%. The Corporation has obtained a legal
opinion from Cypriot counsel confirming the appropriate acceptance of the
subscriptions to the share offer. Subsequent to December 31, 1997, the
non-controlling shareholder withdrew its legal action without prejudice.
Accordingly, the Corporation continues to maintain that the legal proceedings
are without merit and consolidates its 55.9% share holding.
9. SUBSEQUENT EVENTS
On February 2, 1998, the Corporation entered into an agreement with Fountain Oil
Incorporated ("Fountain") under which a business combination would be effected
through an exchange of shares. Each common share of the Corporation is
exchangeable into 1.6 common shares of Fountain. This business combination is
subject to regulatory and shareholder approval.
10. GENERALLY ACCEPTED ACCOUNTING PRINCIPLES (GAAP) IN THE
UNITED STATES
The Corporation's consolidated financial statements have been prepared in
accordance with accounting principles generally accepted in Canada, which in the
case of the Corporation at December 31, 1997, conforms in all material respects
with United States GAAP, except as set forth below.
(a) Adjustments to consolidated loss per share
<TABLE>
<CAPTION>
1997
-----------
<S> <C>
Loss in accordance with Canadian and U.S. GAAP.............. $ (255,827)
-----------
Loss per share in accordance with U.S. GAAP................. $ (0.02)
-----------
Weighted average number of common shares outstanding during
period in accordance with U.S. GAAP....................... 10,757,176
===========
</TABLE>
F-77
<PAGE> 157
CANARGO OIL & GAS INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- CONTINUED
10. GENERALLY ACCEPTED ACCOUNTING PRINCIPLES (GAAP) IN THE
UNITED STATES -- (CONTINUED)
(b) Adjustments to consolidated statements of cash flows in respect of non-cash
investing and financing activities.
<TABLE>
<CAPTION>
1997
-----------
<S> <C>
INVESTING ACTIVITIES
In accordance with Canadian GAAP............................ $(5,592,949)
Add:
Contribution of NOC assets, net of cash................... 2,694,705
Acquisition of Money Works, net of cash................... 29,249
-----------
INVESTING ACTIVITIES IN ACCORDANCE WITH U.S. GAAP........... $(2,868,995)
===========
FINANCING ACTIVITIES
In accordance with Canadian GAAP............................ $ 6,810,242
Less:
Issue of share capital on contribution of NOC assets...... (3,187,000)
Issue of share capital on contribution of Money Works..... (31,975)
Add:
Contribution of NOC assets, net of cash................... 492,295
Acquisition of Money Works, net of cash................... 2,726
-----------
FINANCING ACTIVITIES IN ACCORDANCE WITH U.S. GAAP........... $ 4,086,288
===========
</TABLE>
F-78
<PAGE> 158
CANARGO OIL & GAS INC.
SUPPLEMENTAL DISCLOSURES ABOUT OIL AND GAS
PRODUCTION ACTIVITIES
(UNAUDITED, STATED U.S. DOLLARS)
The following information about the Corporation's oil producing activities is
presented in accordance with United States Statement of Financial Accounting
Standards No. 69: Disclosures About Oil and Gas Producing Activities.
OIL RESERVES
Proved oil reserves are the estimated quantities of crude oil which geological
and engineering data demonstrate with reasonable certainty to be recoverable in
future years from known reservoirs under existing economic conditions.
Proved developed oil reserves are reserves that can be expected to be recovered
from existing wells with existing equipment and operating methods.
Estimates of oil reserves are subject to uncertainty and will change as
additional information regarding the producing fields and technology becomes
available and as economic conditions change.
Reserves presented in this section represent NOC's working interest share of
reserves net of royalties. The Corporation has a 55.9% beneficial interest in
the reserves of NOC. Reserves at December 31, 1997 are based on estimates by the
independent petroleum-engineering firm, AMH Group Ltd. and are all located in
the Republic of Georgia.
The Corporation's net proved and net proved developed oil reserves were as
follows:
<TABLE>
<CAPTION>
NET PROVED RESERVES NOC
- ------------------- -------------
(THOUSANDS OF
BARRELS)
<S> <C>
Crude oil
Net proved reserves, June 30, 1997(1)....................... 5,675
Production.................................................. (112)
Reserve additions(1)........................................ 5,452
------
NET PROVED RESERVES, DECEMBER 31, 1997...................... 11,015
======
NET PROVED DEVELOPED RESERVES
June 30, 1997(1)............................................ 994
December 31, 1997........................................... 1,929
</TABLE>
- -------------------------
(1) Estimated by management as the first reserve report prepared for the
Corporation was as of December 31, 1997.
STANDARDIZED MEASURE OF DISCOUNTED FUTURE NET CASH FLOWS AND CHANGES THEREIN
RELATING TO PROVED OIL RESERVES
The following standardized measure of discounted future net cash flows from
proved oil reserves has been computed using period end prices and costs and
period end statutory tax rates. A discount rate of 10% has been applied in
determining the standardized measure of discounted future net cash flows.
F-79
<PAGE> 159
CANARGO OIL & GAS INC.
SUPPLEMENTAL DISCLOSURES ABOUT OIL AND GAS -- CONTINUED
PRODUCTION ACTIVITIES
(UNAUDITED, STATED U.S. DOLLARS)
This information does not necessarily reflect the fair market value of its oil
properties. Actual future net cash flows will differ from the presented
estimated future net cash flows in that:
(i) future production from proved reserves will differ from estimated
production;
(ii) future production will also include production from probable and potential
reserves;
(iii) future rather than year end prices and costs will apply; and
(iv) existing economic, operating and regulatory conditions are subject to
change.
The standardized measure of discounted future net cash flows is as follows:
<TABLE>
<CAPTION>
NOC
--------------
(IN THOUSANDS)
<S> <C>
DECEMBER 31, 1997
Future cash inflows......................................... $113,567
Future production, development and restoration costs........ 73,664
--------
Future net cash flows....................................... $ 39,903
Ten percent annual discount................................. 14,255
--------
Standardized measure........................................ $ 25,648
========
</TABLE>
The changes in the standardized measure of discounted future net cash flows for
the period is as follows:
<TABLE>
<CAPTION>
NOC
--------------
(IN THOUSANDS)
<S> <C>
JULY 1, 1997(1)............................................. $12,951
Oil sales net of production costs........................... (534)
Oil discoveries(1).......................................... 16,100
Development costs incurred.................................. 2,869
-------
DECEMBER 31, 1997........................................... $25,648
=======
</TABLE>
- -------------------------
(1) Estimated by management as the first reserve report prepared for the
Corporation was as of December 31, 1997.
F-80
<PAGE> 160
CANARGO OIL & GAS INC.
SUPPLEMENTAL DISCLOSURES ABOUT OIL AND GAS -- CONTINUED
PRODUCTION ACTIVITIES
(UNAUDITED, STATED U.S. DOLLARS)
Costs incurred in oil property acquisition, exploration and development
activities:
<TABLE>
<CAPTION>
NOC
--------------
(IN THOUSANDS)
<S> <C>
SIX MONTHS ENDED DECEMBER 31, 1997
Property acquisition
Proved.................................................... --
Unproved.................................................. --
Development................................................. $2,869
Exploration................................................. --
------
$2,869
======
</TABLE>
Depletion per unit of net production:
<TABLE>
<CAPTION>
NOC
-----------
($ PER BOE)
<S> <C>
Six months ended December 31, 1997.......................... $4.98
</TABLE>
Results of operations for oil producing activities:
<TABLE>
<CAPTION>
NOC
--------------
(IN THOUSANDS)
<S> <C>
SIX MONTHS ENDED DECEMBER 31, 1997
Sales....................................................... $1,324
Royalty and production expense.............................. (790)
Depletion................................................... (556)
------
Loss before tax............................................. $ (22)
Income tax.................................................. --
------
RESULTS OF OPERATIONS FROM PRODUCING ACTIVITIES............. $ (22)
======
</TABLE>
NOC's share of revenues under the PSC is determined by the price of Brent crude
oil, less transportation charges. At current world oil prices, NOC's share of
revenues under the PSC is insufficient to cover royalty, production and
depletion expenses. In order to cover royalty, production and depletion expenses
under the PSC, at current production volumes of approximately 1,900 barrels per
day, the price for Brent crude will need to be approximately US$16.50 per
barrel. The closing price for Brent crude on May 25, 1998 was US$14.26 per
barrel.
F-81
<PAGE> 161
AUDITORS' REPORT
To the Directors of
Ninotsminda Oil Company Limited
(formerly "JKX (Ninotsminda) Limited")
We have audited the financial statements of Ninotsminda Oil Company Limited and
have obtained all the information and explanations we considered necessary.
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 International Standards on Auditing.
These standards are substantially in accordance with United States 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 also 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 statements presentation. We believe that our audit provides a
reasonable basis for our opinion.
In our opinion, proper books of account have been kept by the Company and the
financial statements, which are in agreement therewith give a true and fair view
of the state of affairs of Ninotsminda Oil Company Limited for the six months
ended June 30, 1997 and the year ended December 31, 1996 and of its profit and
cash flows for the periods then ended in accordance with International
Accounting Standards and comply with the provisions of the Companies Law,
Chapter 113.
<TABLE>
<S> <C>
Limassol, Cyprus Ernst & Young
February 18, 1998 Chartered Accountants
</TABLE>
F-82
<PAGE> 162
NINOTSMINDA OIL COMPANY LIMITED
BALANCE SHEET
(STATED IN U.S. DOLLARS)
<TABLE>
<CAPTION>
JUNE 30, DECEMBER 31,
1997 1996
---------- ------------
<S> <C> <C>
ASSETS
CURRENT
Cash................................................. $ 492,300 $1,565,800
Accounts receivable.................................. 716,300 373,500
Inventory............................................ 82,600 49,600
---------- ----------
1,291,200 $1,988,900
Oil and gas properties [note 6]...................... 4,081,700 2,069,900
---------- ----------
$5,372,900 $4,058,800
========== ==========
LIABILITIES AND SHAREHOLDERS' EQUITY
CURRENT
Accounts payable..................................... $ 67,500 $ 25,600
Taxes payable........................................ 61,000 61,000
Due to shareholders [note 7]......................... 783,800 188,800
---------- ----------
912,300 275,400
Long term debt [note 8].............................. 1,350,000 2,411,600
---------- ----------
2,262,300 2,687,000
---------- ----------
SHAREHOLDERS' EQUITY
Retained earnings.................................... 1,291,300 1,367,500
Share premium [note 9]............................... 1,814,300 --
Share capital [note 9]............................... 5,000 4,300
---------- ----------
3,110,600 1,371,800
---------- ----------
$5,372,900 $4,058,800
========== ==========
</TABLE>
See accompanying notes
F-83
<PAGE> 163
NINOTSMINDA OIL COMPANY LIMITED
STATEMENT OF OPERATIONS AND RETAINED EARNINGS
(STATED IN U.S. DOLLARS)
<TABLE>
<CAPTION>
PERIOD
SIX MONTHS OCTOBER 24,
ENDED 1995 TO
JUNE 30, DECEMBER 31,
1997 1996
---------- ------------
<S> <C> <C>
REVENUE
Oil................................................... $1,500,000 $3,058,900
Other................................................. 17,400 16,000
---------- ----------
1,517,400 3,074,900
---------- ----------
EXPENSES
Operating............................................. 638,200 962,500
General and administrative [note 10].................. 216,400 415,900
Interest [note 4]..................................... 76,000 188,900
Depletion............................................. 663,000 79,100
---------- ----------
1,593,600 1,646,400
---------- ----------
(LOSS) INCOME BEFORE TAXES............................ (76,200) 1,428,500
Provision for income taxes............................ -- 61,000
---------- ----------
(LOSS) NET INCOME FOR THE PERIOD...................... (76,200) 1,367,500
Retained earnings, beginning of period................ 1,367,500 --
---------- ----------
RETAINED EARNINGS, END OF PERIOD...................... $1,291,300 $1,367,500
========== ==========
</TABLE>
See accompanying notes
F-84
<PAGE> 164
NINOTSMINDA OIL COMPANY LIMITED
STATEMENT OF CASH FLOWS
(STATED IN U.S. DOLLARS)
<TABLE>
<CAPTION>
SIX MONTHS PERIOD OCTOBER 24,
ENDED 1995 TO
JUNE 30, 1997 DECEMBER 31, 1996
------------- ------------------
<S> <C> <C>
OPERATING ACTIVITIES
(Loss) income before taxes...................... $ (76,200) $ 1,428,500
Adjustments to reconcile net income to net cash
provided by operating activities
Depletion..................................... 663,000 79,100
----------- -----------
Funds from operations........................... 586,800 1,507,600
Changes in non-cash working capital relating to
operations.................................... 261,100 (208,700)
----------- -----------
NET CASH PROVIDED BY OPERATING ACTIVITIES....... 847,900 1,298,900
----------- -----------
INVESTING ACTIVITIES
Capital asset additions......................... (2,674,800) (2,149,000)
----------- -----------
NET CASH USED IN INVESTING ACTIVITIES........... $(2,674,800) $(2,149,000)
----------- -----------
FINANCING ACTIVITIES
Issuance of shares.............................. 700 4,300
Share premium................................... 1,814,300 --
Increase in due to shareholders................. -- 2,500,000
Repayment of due to shareholders................ (1,061,600) (88,400)
----------- -----------
NET CASH PROVIDED BY FINANCING ACTIVITIES....... 753,400 2,415,900
----------- -----------
Net (decrease) increase in cash................. (1,073,500) 1,565,800
Cash, beginning of period....................... 1,565,800 --
----------- -----------
CASH, END OF PERIOD............................. $ 492,300 $ 1,565,800
=========== ===========
</TABLE>
See accompanying notes
F-85
<PAGE> 165
NINOTSMINDA OIL COMPANY LIMITED
NOTES TO FINANCIAL STATEMENTS
(STATED IN U.S. DOLLARS)
1. INCORPORATION
The Company was incorporated in Cyprus on October 24, 1995 with minimal share
capital and changed its name to Ninotsminda Oil Company Limited ("NOC")
effective January 16, 1998.
2. DESCRIPTION OF BUSINESS
The primary purpose of the Company is the exploration for and production of
hydrocarbons in the Republic of Georgia.
NOC operates under the terms of a Production Sharing Contract ("PSC") signed
February 15, 1996 between NOC and the Republic of Georgia represented by the
state oil company, Georgian Oil. Under the terms of the PSC, NOC is responsible
for the costs associated with the project, which is operated on behalf of NOC by
the local operating company, Georgian British Oil Company ("Georgian Oil").
Georgian Oil is responsible for the costs associated with site restoration and
abandonment, royalties and all state taxes. The PSC expires in December 2019 and
provides for a five year extension. While areas of the license containing field
developments are not subject to relinquishment, other areas are subject to
relinquishment after 5, 10, 15 and 20 years after the date of issue of the
license. Currently the Ninotsminda field is the only producing field in this
license.
Production from the Ninotsminda field commenced in the early part of 1996, and
during 1996 approximately 515,000 barrels of oil were produced. Under the terms
of the PSC, Georgian Oil currently takes the first 750 barrels per day
("determined production") of production, after which all production is shared.
The level of determined production will change in accordance with the terms of
the agreement. After determined production, NOC receives up to 50% of production
for cost recovery. Remaining production after cost recovery is then allocated as
to 30% to NOC and as to 70% to Georgian Oil.
To date, NOC has sold all of its production to one international buyer at prices
related to the world market price for Brent crude, with payment in US dollars
into NOC's bank account in Cyprus.
NOC is in an early stage of operations and is effectively dealing with
challenges typical of doing business in the former Soviet Union. NOC is
currently not in a position to finance all its working capital and capital
investment requirements through its own operations and therefore will require
additional external financing.
3. ACCOUNTING POLICIES
The Company follows international accounting standards. The significant
accounting policies are noted below.
ACCOUNTING CONVENTION
The financial statements are drawn up under the historical cost convention.
F-86
<PAGE> 166
NINOTSMINDA OIL COMPANY LIMITED
NOTES TO FINANCIAL STATEMENTS, CONTINUED
(STATED IN U.S. DOLLARS)
3. ACCOUNTING POLICIES -- (CONTINUED)
EXCHANGE RATES
The financial statements are presented in United States dollars. The Company's
revenues and exploration and production costs are denominated in U.S. dollars.
Transactions in other currencies are translated to United States dollars at the
rates in effect on the transaction date. Balances are translated to United
States dollars at the exchange rate in effect at the balance sheet date. Any
resulting exchange gains or losses are recognized as income or expense in the
year they are incurred.
OIL AND GAS PROPERTIES
The Company accounts for oil and gas expenditures under the full cost method of
accounting, whereby all costs associated with the exploration for and
development of crude oil and natural gas reserves are capitalized as capital
assets within one global amortized cost pool.
Costs related to evaluated properties, including an estimate for future costs to
develop proved reserves, are amortized through depletion charges using the unit
of production method based on commercial proved crude oil reserves.
INVENTORY
Inventory is comprised of crude oil and is carried at the lower of cost and net
realizable value.
4. INTEREST PAYABLE
The following amounts are included in the due to shareholder:
<TABLE>
<CAPTION>
JUNE 30, DECEMBER 31,
1997 1996
-------- ------------
<S> <C> <C>
CanArgo Energy Inc..................................... $134,500 $ 97,800
JKX Nederland BV....................................... 125,400 91,100
-------- --------
$259,900 $188,900
======== ========
</TABLE>
5. PROFITS TAX
The Company is subject to Cyprus corporation tax on its taxable profits at the
rate of 4.25%.
F-87
<PAGE> 167
NINOTSMINDA OIL COMPANY LIMITED
NOTES TO FINANCIAL STATEMENTS, CONTINUED
(STATED IN U.S. DOLLARS)
6. OIL AND GAS PROPERTIES
<TABLE>
<CAPTION>
JUNE 30, DECEMBER 31,
1997 1996
---------- ------------
<S> <C> <C>
Cost
Opening balance.................................... $2,149,000 $ --
Additions during the period........................ 2,674,800 2,149,000
---------- ----------
At December 31..................................... 4,823,800 2,149,000
---------- ----------
Depletion
Opening balance.................................... 79,100 --
Charge for the period.............................. 663,000 79,100
---------- ----------
At December 31..................................... 742,100 79,100
---------- ----------
Net book value
At December 31..................................... $4,081,700 $2,069,900
========== ==========
</TABLE>
7. DUE TO SHAREHOLDERS
Amounts falling due within one year:
<TABLE>
<CAPTION>
JUNE 30, DECEMBER 31,
1997 1996
-------- ------------
<S> <C> <C>
CanArgo Energy Inc..................................... $134,500 $ 97,800
JKX Nederland BV....................................... 649,300 91,100
-------- --------
$783,800 $188,900
======== ========
</TABLE>
8. LONG TERM DEBT
<TABLE>
<CAPTION>
JUNE 30, DECEMBER 31,
1997 1996
---------- ------------
<S> <C> <C>
Shareholder loans
CanArgo Energy Inc................................. $ 675,000 $1,500,000
JKX Nederland BV................................... 675,000 911,600
---------- ----------
$1,350,000 $2,411,600
========== ==========
</TABLE>
The shareholder loans bear interest at the rate of 10% per annum and are
repayable out of surplus funds as and when available.
F-88
<PAGE> 168
NINOTSMINDA OIL COMPANY LIMITED
NOTES TO FINANCIAL STATEMENTS, CONTINUED
(STATED IN U.S. DOLLARS)
9. SHARE CAPITAL
AUTHORIZED
10,000 shares at a par value of L1 each
ISSUED
<TABLE>
<CAPTION>
NUMBER VALUE
------ ------
<S> <C> <C>
Issued during 1996.......................................... 2,000 $4,300
----- ------
Balance, December 31, 1996.................................. 2,000 $4,300
Issued for cash............................................. 363 700
----- ------
Balance, June 30, 1997...................................... 2,363 $5,000
===== ======
</TABLE>
During 1997, the Company issued 203 shares to CanArgo and 160 shares to JKX
Nederland B.V. at a price of $5,000 per share. The amount paid in excess of the
nominal value of the shares is recorded as share premium.
10. RELATED PARTY TRANSACTIONS
During 1997, members of the JKX Oil & Gas plc ("JKX") group of companies,
including JKX Nederland B.V. (44.1% shareholder in NOC at December 31, 1997)
performed services and procured goods and services on behalf of NOC. These goods
and services recharged by JKX to NOC, excluding interest expense, totaled
$531,300 for the six month period ended June 30, 1997 (December 31,
1996 -- $743,000) of which $381,900 has not yet been agreed to by NOC.
11. SHAREHOLDER DISPUTES
There are disputes between shareholders as to their relative ownership interests
in NOC. The resolution of these disputes may result in a reallocation of amounts
between contributed surplus and due to shareholders.
12. GENERALLY ACCEPTED ACCOUNTING PRINCIPLES (GAAP) IN THE UNITED STATES
The Company's financial statements have been prepared in accordance with
international generally accepted accounting principles, which in the case of the
Company conform in all material respects with United States GAAP.
F-89
