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U.S. SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-KSB
|X| Annual report under section 13 or 15(d) of the Securities Exchange Act
of 1934 for the fiscal year ended December 31, 1998.
|_| Transition report under section 13 or 15(d) of the Securities Exchange
Act of 1934 for the transition period from _________to________ .
COMMISSION FILE NUMBER: 0-9474
POTOMAC ENERGY CORPORATION
(FORMERLY MIDWESTERN RESOURCES, INC.)
(NAME OF SMALL BUSINESS ISSUER IN ITS CHARTER)
OKLAHOMA 73-1088064
(State or other jurisdiction of (I.R.S. Employer Identification No.)
incorporation or organization)
1100W
2601 N.W. EXPRESSWAY
OKLAHOMA CITY, OKLAHOMA 73112-4605
(Address of principal executive offices) (Zip Code)
Issuer's telephone number: (405) 840-1427
Securities to be registered under Section 12(b) of the Act:
Name of each exchange on
Title of each class which registered
NONE NONE
Securities to be registered under Section 12(g) of the Act:
COMMON STOCK, $.001 PAR VALUE
(Title of class)
Check whether the issuer (1) filed all reports required to be filed by Section
13 or 15(d) of the Securities Exchange Act during the past 12 months (or such
shorter period that the registrant was required to file such reports), and has
been subject to such filing requirements for the past 90 days.
Yes X No
--- ---
Check if there is no disclosure of delinquent filers in response to Item 405 of
Regulation S-B is not contained in this form, and no disclosure will be
contained, to the best of registrant's knowledge, in definitive proxy or
information statements incorporated by reference in Part III of this Form 10-KSB
or any amendment to this Form 10-KSB.|X|
Issuer's revenues for its most recent fiscal year was $8,577.
The aggregate market value of Registrants Common Stock held by non-affiliates
based upon the closing bid price ($3.375 per share) as of May 10, 1999, was
$11,033,786.
The number of outstanding shares of Registrant's Common Stock as of May 10,
1999, was 7,974,270.
TRANSITIONAL SMALL BUSINESS DISCLOSURE
FORMAT (CHECK ONE):
Yes No X
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TABLE OF CONTENTS
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Part I
Item 1. Description of Business................................................................. 1
Item 2. Description of Property................................................................. 6
Item 3. Legal Proceedings....................................................................... 11
Item 4. Submission of Matters to a Vote of Security Holders..................................... 11
Part II
Item 5. Market for Common Equity and Related Stockholders Matters............................... 11
Item 6. Management's Discussion and Analysis or Plan of Operation............................... 12
Item 7. Financial Statements.................................................................... 14
Item 8. Changes in and Disagreements with Accountants on Accounting and Financial Disclosure.... 15
Part III
Item 9. Directors, Executive Officers, Promoters and Control Persons; Compliance
with Section 16(a) of the Exchange Act................................................ 15
Item 10. Executive Compensation.................................................................. 16
Item 11. Security Ownership of Certain Beneficial Owners and Management.......................... 19
Item 12. Certain Relationships and Related Transactions.......................................... 20
Item 13. Exhibits and Reports on Form 8-K........................................................ 21
(a) Report on Form 8-K................................................................. 21
(b) Exhibits........................................................................... 23
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CAUTIONARY STATEMENT RELATING TO FORWARD LOOKING INFORMATION
Certain statements under the captions "Item 1. Description of
Business," "Item 2. Description of Property," and "Item 6. Management's
Discussion and Analysis or Plan of Operation," and elsewhere in this Report and
the documents referenced herein constitute "forward-looking statements" within
the meaning of Section 21E of the Securities Exchange Act of 1934, as amended.
Certain, but not necessarily all, of such forward-looking statements can be
identified by the use of forward-looking terminology such as "believes,"
"expects," "may," "will," "should" or "anticipates" or the negative thereof or
other variations thereon or comparable terminology, or by discussions of
strategies that involve risks and uncertainties. Such forward-looking statements
involve known and unknown risks, uncertainties and other factors which may cause
the actual results, levels of activity, performance or achievements of Potomac
Energy Corporation, or industry results, to be materially different from any
future results, levels of activity, performance or achievements expressed or
implied by such forward-looking statements. As a result of the foregoing and
other factors, no assurance can be given as to future results, levels of
activity and achievements and neither Potomac Energy Corporation nor any other
person assumes responsibility for the accuracy and completeness of these
statements.
PART I
ITEM 1. DESCRIPTION OF BUSINESS.
BACKGROUND
Potomac Energy Corporation ("PEC" or the "Company") (formerly
Midwestern Resources, Inc.) was formed in 1980 under the laws of the State of
Oklahoma and became inactive and its corporate charter was suspended in 1983. In
March 1998, the Company was reincorporated under the name "Midwestern-Oklahoma
Energy Resources Corporation." Effective June 17, 1998, Potomac Energy (Bermuda)
Ltd., a Bermuda corporation ("Potomac (Bermuda)"), merged with and into Potomac
Exploration Acquisition Corporation, a wholly-owned subsidiary of the Company
("Potomac Acquisition"), pursuant to a Plan of Reorganization and Agreement of
Merger dated June 12, 1998 (the "Merger"). As a condition of the Merger, on June
17, 1998, the outstanding Common Stock of the Company was reverse split on the
basis of one share for each 41.40846 outstanding shares, which resulted in
578,261 shares of Common Stock being outstanding immediately prior to the Merger
(the "Reverse Stock Split"). In consummation of the Merger, the Company issued
7,050,000 shares of its Common Stock to the former shareholders of Potomac
(Bermuda) and the Company's name was changed to "Potomac Energy Corporation."
The Merger was accounted for as a reverse acquisition of the Company by Potomac
(Bermuda). Potomac (Bermuda) was formed on April 7, 1997. Immediately prior to
the Merger, the Company did not have any assets or liabilities. All references
to the "Company" includes Potomac Energy Corporation and its subsidiaries,
unless the context indicates otherwise
The Company is a development stage company engaged in the exploration
and development of oil, gas and coal properties outside of North America. The
Company, through its subsidiaries, owns interests in prospective areas located
in Colombia, South America, which are in the initial stages of exploration and
development. Prior to the Merger, Potomac (Bermuda) had not conducted any
operations other than the acquisition of the interests in the Rosablanca
Association Contract and the Montecristo Association Contract for exploration
and development of the Rosablanca and Montecristo Blocks within the Middle
Magdalena Valley Basin, Colombia, South America. The Rosablanca and Montecristo
Blocks are in the initial stages of exploration. In May 1998, the Company
acquired an interest in the Guaduas Association Contract for the exploration,
development and mining of coal. See Item 2. Description of Property " -- Middle
Magdalena Valley Basin" and " -- Rosablanca and Montecristo Association
Contracts" and "---Guaduas Association contracts." The Company also may seek to
acquire additional oil, gas and coal exploration opportunities in Colombia which
management believes may have large reserve potential; however, there is no
assurance that additional interests will be acquired or if acquired will be
capable of commercial development and production.
EXPLORATION STRATEGY
The Company's oil, gas and coal exploration and development operations
are currently focused entirely on its activities in Colombia, South America. The
oil and gas exploration and development operations are conducted through the
Columbian branch of Potomac Energy (BVI) Ltd., a wholly-owned British Virgin
Islands subsidiary corporation ("Potomac (BVI)"). The coal and electrical power
exploration and development operations are conducted through
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Carbones de Guaduas, Ltd. a Columbian corporation which is 100 percent jointly
owned by Magdalena Energia, LLC, a wholly-owned Texas subsidiary limited
liability company ("Magdalena Energia"), and Grupo Energia, LLC, a Texas
subsidiary limited liability company wholly-owned by Arena Power, L.P. a Houston
based U.S. corporation (Grupo Energia). The dependence on the activities in
Columbia is likely to be reflected in both the short-term performance and the
Company's long-term financial results. The Company may serve as operator with
respect to those properties acquired pursuant to association contracts in which
the Company obtains a controlling interest or holds the largest ownership
interest; however, it is anticipated that the Company will also participate in
the development of properties operated by third parties and in some cases may
delegate operations to a third party. The Company also intends to pursue oil,
gas and electrical power opportunities domestically within the United States.
The Company's business strategy includes:
- - Establishing production, cash flow and reserve value by exploring for
and developing and purchasing producing oil and gas properties, both in
South America and within the United States;
- - Establishing and/or purchasing gas storage facilities and generators
within the United States;
- - Building the Company's base of operations by initially concentrating
its development activities within Colombia and within the United States
in Oklahoma, Kansas and Texas;
- - Acquiring additional properties with potential for development drilling
to establish and maintain a significant inventory of undeveloped
prospects and to establish and enhance the Company's foundation for
future growth;
- - Serving as operator of its wells, mines and power generation facilities
to ensure technical performance and reduce costs;
- - Establish relationships with other energy companies to access their
undeveloped properties, geological data and financial resources;
- - Managing financial risk and mitigating technical risk by drilling in
known productive trends with multi-geologic potential, diversifying
investment over the interests in the Company's primary operating areas,
developing properties that provide a balance between short and long
term reserves, and establishing and maintaining a balance among the
company's oil, gas, coal and electrical generation activities; and
- - Maintaining low general and administrative expenses.
Oil, gas and coal exploration and development is a speculative business
and involves a high degree of risk. The Company is subject to all the risks
normally incident to drilling for and producing oil and gas, as well as mining
of coal, including hazards such as high-pressured formations, blowouts,
cratering, fires, spills, cave-ins, or other hazards or conditions, any of which
could result in damage to or loss of life or property. In accordance with
industry practice, the Company is not fully insured against these risks nor are
all such risks insurable. Payment of such potential liabilities would reduce the
funds available for exploration, drilling and production and could have a
material adverse effect on the Company.
The Company has expended and plans to continue to expend significant
amounts of capital on the acquisition and exploration of its oil, gas and coal
interests. Even if the results of such activities are favorable, subsequent
drilling and mining at significant costs must be conducted on a property to
determine if commercial development of the property is feasible. Oil and gas
drilling, as well as coal mining, may involve unprofitable efforts, not only
from dry holes but from wells and mines that are productive but do not produce
sufficient net revenues to return a profit after operating and other costs. It
is difficult to project the costs of implementing an exploratory drilling and
mining program due to the inherent uncertainties of drilling and mining in
unknown formations, the costs associated with encountering various conditions,
such as high-pressured zones and tools lost in the hole, and changes in drilling
and mining plans and locations as a result of prior exploratory wells, mines or
additional seismic data and interpretations thereof. The marketability of oil,
gas and coal which may be acquired or discovered by the Company will be affected
by the quality of the production and by numerous factors beyond its control,
including market fluctuations, the proximity and capacity of oil and gas
pipelines and processing equipment, government regulations, including
regulations relating to prices, taxes, royalties, land tenure, importing and
exporting of oil and gas and environmental protection. There can be no assurance
the Company will be able to discover, develop and produce sufficient reserves in
Colombia or elsewhere to
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recover the costs and expenses incurred in connection with the acquisition,
exploration and development thereof and achieve profitability.
COLOMBIA--OVERVIEW
The Company's success currently depends entirely on its drilling and
mining exploration activities in Colombia. This dependence is likely to be
reflected in both the short-term performance and the Company's long-term
financial results.
One of the Company's principal asset is a 25 percent interest in the
Association Contracts that relate to Rosablanca and Montecristo Blocks located
in the Middle Magdalena Valley Basin three miles Northwest of Bogota, Colombia,
South America (the "Rosablanca and Montecristo Association Contracts"). As of
the date of this report, a well has not been drilled by the Company on either of
the Rosablanca and Montecristo Blocks. The Rosablanca and Montecristo
Association Contracts were issued by Empresa Colombiana de Petroleos
("Ecopetrol"), the state-owned Colombian oil company, in November 1997, and
provide generally for a six-year exploration phase followed by a 22-year
production period, with partial relinquishments of acreage, excluding commercial
fields, required commencing at the end of the sixth year of the Rosablanca and
Montecristo Association Contracts. The Company currently intends to participate
in the drilling of the initial exploratory well on the Magdalena Valley Basin
before the end of 1999. See Item 2. Description of Property "--Rosablanca and
Montecristo Association Contracts." The Rosablanca and Montecristo Association
Contracts entitle the Company to engage in exploration, development and
production activities on approximately 695,000 acres (173,750 net acres) located
in the Middle Magdalena Valley Basin, before any relinquishment to Ecopetrol.
The second potentially significant asset is the Company's 50 percent
interest in the Guaduas Association Contract. The Guaduas Association Contract
entitles the Company and its partner to engage in exploration, development and
production activities on approximately 6,000 acres (3,000 net acres) located in
the Middle Magdalena Valley Basin, before any relinquishment to Eco-Carbon. As
of the date of this Report, coal mining has not begun on the Guaduas Block.
However, the Company is currently in the process of conducting coring operations
to specifically identify potential coals reserves. The Guaduas Association
Contract was acquired from a third party in May 1998, and provides generally for
a two-year exploration phase followed by a 10 year production period with no
relinquishments. See Item 2. Description of Property "--Guaduas Association
Contract."
Colombia is the fourth largest country in South America, with a total
land area of more than 1,038,700 square kilometers, with a population of 35.9
million people (1993 census). The official language is Spanish and the official
currency is the Colombian peso. Colombia has a democratic form of government.
While Colombia experiences insurgency and national political protests, the
Colombian economy has been among the best performers in Latin America during the
past 20 years. According to publicly available information, Colombia's Gross
Domestic Product ("GDP") has grown by an average of four percent annually in the
last 10 years, approximately twice the average for Latin America. Colombia is
the only country in South America that did not have a single year of negative
GDP or declining per capita income growth in the 1980s and the 1990s. Colombia
recently introduced legislation to attract foreign investment in energy
projects. The measures include the exemption of new oil operations from the $1
per barrel tax which was levied in 1992 to finance protection of oil operations.
According to publicly available information, the United States is
Colombia's largest trading partner, accounting for more than 43 percent of that
country's total imports and 38 percent of its total exports. The United States
is also the top provider of eight of Colombia's 15 largest imports. United State
oil companies now account for 11 of the 18 largest foreign oil concerns
operating in Colombia. Colombia is Latin America's third leading crude exporter
to the United States, after Venezuela and Mexico. Colombia is also Latin
America's leading coal exporter to the United States and Europe.
Colombia is the only country in South America that has seaports on both
the Pacific and Atlantic Oceans, which provide access to major oil markets. The
country has three main crude oil export pipelines leading to the port
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of Covenas in Colombia. The pipeline from Cano Limon has a maximum capacity of
200,000 barrels of oil per day ("BOPD"), and two pipelines from Vasconia with
300,000 and 500,000 BOPD capacities. In 1997, Colombia exported over 30 million
short tons of coal and expects to double coal production to at least 60 million
short tons by 2005.
Columbia is currently investing in the expansion of its electric
generating capacity (currently about 11GigaWatts), with plans to add over four
additional GW by the year 2000 and an additional six GW by the year 2010.
Investments by the private sector, combined with ongoing privatization of public
utilities, will reduce the public ownership share of generating capacity to less
than one-third of the total. By the end of 1997, foreign investors owned over
40% of the country's generating capacity, worth about $4 billion. Columbia's
plans for the power sector favor investment in thermoelectric generating
capacity (primarily natural gas) at the expense of hydroelectricity. Coal-fired
capacity (currently about seven percent of the total ) will also increase. The
diversification of electric generating capacity reflects concern over the impact
of droughts on hydroelectric generation, which has periodically forced the
country to ration electricity.
About 20% of the power generated in Columbia is traded on the country's
electricity exchange, with the balance sold under term contracts. As of February
1998, 120 energy companies (including generators, transporters, distributors,
and marketers) were listed on the exchange. In addition to domestic supply,
Colombia imports some electricity from Venezuela. Per an interconnection
established in July 1998 Colombia exports electricity to neighboring Ecuador,
which is experiencing significant electricity shortages.
The geology of Colombia has been studied since the mid-1800s and has
continued to the present, amassing some detail of the tectonic framework and
related stratigraphy. During the evolution of the geological knowledge of
Colombia, oil and natural gas exploration has been pursued in the Llanos,
Putumayo and Magdalena basins. Exploration in the Magdalena Valley Basin began
in 1918 with the drilling of the Guataqui wells in the Girardot sub-basin,
followed in 1951 by the Ortega discovery. Since the mid-1980's the oil industry
has been the single largest component of economic growth, with total Colombian
oil reserves currently estimated to be approximately 3.7 billion barrels of
recoverable oil. As of December 1993, 210 exploratory wells had been drilled,
resulting in the discovery of 30 fields.
Two major physiographic features dominate the geography of Colombia. To
the west lie the Andes mountains, which, north of the Ecuador border, bifurcate
into three ranges, the Western, Central and Eastern Cordillera, extending toward
the Caribbean coast. These ranges are separated by the Cauca and Magdalena
valleys, respectively. To the east lies the Llanos, a savanna within the bounds
of the Orinoco Basin, which extends over the remainder of the country.
Association contracts acquired from either Empresa Colombiana de
Petroleos, the Colombian national oil company ("Ecopetrol") or Empresa
Colombiana de Carbones, the Colombian national coal company ("Ecocarbon"), after
being approved by all proper Colombian governmental authorities as well as the
board of Ecopetrol or Ecocarbon, are mutually executed by the parties and
subsequently recorded as a public deed in Colombia. Therefore, ownership of an
association contract is public record and protected by Colombian law. The
Rosablanca, Montecristo and Guaduas Association Contracts are on file and
available for public inspection at each respective agency.
RISKS INHERENT IN FOREIGN OPERATIONS
There are risks inherent in the fact that the Company has acquired and
intends to continue to acquire interests in oil, gas and coal properties located
outside of North America in some cases in countries which may be considered
politically and economically unstable.
Foreign properties, operations or investments may be adversely affected
by local political and economic developments, exchange controls, currency
fluctuations, royalty and tax increases, retroactive tax claims, renegotiation
of contracts with governmental entities, expropriation, import and export
regulations and other foreign laws or policies governing operations of
foreign-based companies, as well as by laws and policies of the United States
affecting foreign trade, taxation and investment. In addition, as the Company's
operations are governed by foreign laws, in the event of a dispute, the Company
may be subject to the exclusive jurisdiction of foreign courts or may not be
successful in subjecting foreign persons to the jurisdiction of courts in the
United States. The Company may also be hindered or prevented from enforcing its
rights with respect to a governmental instrumentality because of the doctrine of
sovereign immunity.
The Company's business is subject to political risks inherent in all
foreign operations. While Colombia has no
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history of nationalizing its business nor expropriation of foreign assets, the
Company's oil, gas and coal operations are subject to certain risks, including
(i) loss of revenue, property, and equipment as a result of unforeseen events
such as expropriation, nationalization, war and insurrection, (ii) risks of
increases in taxes and governmental royalties, (iii) renegotiation of contracts
with governmental entities, and (iv) changes in laws and policies governing
operations of foreign-based companies in Colombia. Guerrilla activity in
Colombia has disrupted the operation of oil and gas projects in certain areas in
Colombia but has not affected the Company's interest in the Rosablanca and
Montecristo Association Contracts. Guerrilla activity in Colombia has not
disrupted coal operations in any areas in Colombia to date. This may or may not
continue in the future. The Colombian government continues its efforts through
negotiation and legislation to reduce the problems and effects of insurgent
groups, including regulations containing sanctions such as impairment or loss of
contract rights on companies and contractors if found to be giving aid to such
groups. The associate parties will continue to cooperate with the government,
and do not expect that future guerrilla activity will have a material impact on
the exploration and development of the Rosablanca, Montecristo and Guaduas
Association Contracts. However, there can be no assurance that such activity
will not occur or have such an impact and no opinion can be given on what steps
the government may take in response to any such activity. Colombia is among
several nations whose progress in stemming the production and transit of illegal
drugs is subject to annual certification by the President of the United States.
As of the date of this report, Colombia has received such certification. The
consequences of the failure to receive certification generally include the
following: all bilateral aid, except anti-narcotics and humanitarian aid, has
been or will be suspended; the Export-Import Bank of the United States and the
Overseas Private Investment Corporation will not approve financing for new
projects in Colombia; United States representatives at multilateral lending
institutions will be required to vote against all loan requests from Colombia,
although such votes will not constitute vetoes; and the President of the United
States and Congress retain the right to apply future trade sanctions. Each of
these consequences of the failure to receive such certification could result in
adverse economic consequences in Colombia and could further heighten the
political and economic risks associated with the Company's operations in
Colombia.
JOINT VENTURE ARRANGEMENTS
As a means of diversifying exploration risks, the Company has and
expects to continue to enter into joint venture arrangements for the exploration
and development of properties acquired under association contracts initially
obtained by the Company or acquire only partial interests in oil and gas
properties through joint venture agreements with other oil and gas corporations
that may, by the terms of such joint venture agreements, be the operators of
such properties and joint ventures. Although the Company can take certain steps
to determine if the risk of the exploration activities to be conducted by the
designated operator of such joint ventures is appropriately spread over a number
of prospects within a contract area of an association contract, there can be no
assurance that the risk will be so allocated, that the exploration activities
will be carried out by the operator in a manner deemed appropriate by the
Company or that the activities will be successful. In addition, the Company's
ability to continue its exploration and development activities may be dependent
upon the decision of its joint venture partner or partners to continue
exploration and development activities and to finance their respective portions
of the costs and expenses of the joint venture exploration activities. If the
Company's joint venture partner does not elect to continue and to finance its
obligations to the joint venture, the Company may be required to accept an
assignment of the partners interest therein and assume its financing obligations
of further development or relinquish the Company's interest in the joint venture
or the association contract.
MARKETS
In the event the Company's exploration and development activities
result in the discovery and production of oil and gas and upon Ecopetrol's
declaration of the commerciality of the Company's discovery, oil produced from
the Rosablanca and Montecristo Blocks may be sold to Ecopetrol or to third
parties provided that 75 percent of the purchase price is paid in United States
currency and the remainder in Colombian pesos. In the event the production is
required to satisfy internal demand for oil in Colombia, the Company may be
required to sell some or all of its production to Ecopetrol at prevailing market
prices. It is anticipated that any oil and gas production of the Company from
its Colombian operations will be sold to Ecopetrol under contracts that provide
for cancellation by either party with notice. In the event of cancellation by
Ecopetrol, the Company would be required to arrange for the export and sale of
its production.
In the event the Company's exploration and development activities
result in the discovery and production of coal, Ecocarbon has agreed to a waiver
of its declaration of the commerciality of the Company's discovery, for a
minimum period of ten years. After such time the company would be able to apply
for another waiver of commericality.
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Should this waiver not be granted, then the coal produced from the Guaduas
Blocks may be sold to Ecocarbon or to third parties provided that 75 percent of
the purchase price is paid in United States currency and the remainder in
Colombian pesos. In the event the production is required to satisfy internal
demand for coal in Colombia, the Company may be required to sell some or all of
its production to Ecocarbon at prevailing market prices. It is anticipated that
any coal production of the Company from its Colombian operations will be sold to
third parties under contracts that provide for cancellation by either party with
notice.
Since the early 1970's the market price for crude oil has been
significantly affected by policies adopted by the member nations of the
Organization of Petroleum Exporting Countries ("OPEC"). Members of OPEC
establish prices and production quotas among themselves for petroleum products
from time to time with the intent of controlling the current global supply and
consequently price levels. The Company is unable to predict the effect, if any,
which OPEC policy or price changes would have on any decision of Ecopetrol to
continue or cancel production purchase contracts with the Company or the effect
such policies and price changes might have on the ability of the Company to
otherwise profitability export and market the Company's production from Colombia
in the event Ecopetrol should elect to cancel productions purchase contracts
which may be entered into for the purchase of the Company's production.
Changes in natural gas, crude oil, coal and electrical prices
significantly affect the revenues and cash flows of the Company attributable to
production and the value of its properties. Declines in the prices of the
Company's products could have a material adverse effect on the business and
financial condition of the Company. The Company is unable to predict whether the
prices of crude oil, natural gas, coal and electrical power will rise, stabilize
or decline in the future.
REGULATION
The Company's operations are subject to regulations imposed by the
local regulatory authorities including, without limitation, currency regulation,
import and export regulation, taxation and environmental controls. The
regulations also generally specify, among other things, the extent to which
properties may be acquired or relinquished, permits necessary for spacing and
drilling of wells, mining of coal, measures required for preventing waste of
oil, gas and coal resources and, in some cases, rates of production and sales
prices to be charged to purchasers. Specifically, Colombian operations are
governed by a number of ministries and agencies including Ecopetrol, the
Ministry of Mines and Energy, and the Ministry of the Environment. It is
possible that the administration and enforcement of current environmental laws
and regulations or the passage of new environmental laws or regulations in
Colombia could result in substantial costs and liabilities in the future or in
delays in obtaining the necessary permits to conduct and expand the Company's
Colombian operations. The Company has experienced and may continue to experience
delays in obtaining the necessary environmental permits to expand its Colombian
operations.
EMPLOYEES
The Company's operations are managed from its offices in Oklahoma City,
with a staff of six employees, and use professional consulting services as
needed. The Company's employees are not represented by a labor organization. The
Company and its subsidiaries consider the relations with its employees and
consultants to be good.
ITEM 2. DESCRIPTION OF PROPERTY.
MIDDLE MAGDALENA VALLEY BASIN
The Company has identified and completed the preliminary investigation
of the potential for oil, gas and coal deposits existing in the Middle Magdalena
Valley Basin three miles northwest of Bogota, Colombia. The Company has acquired
a 25 percent interest in the Rosablanca and Montecristo Association Contracts on
a joint-venture basis granting rights to explore for and develop oil and gas in
certain specified properties known as the Rosablanca and the Montecristo Blocks
(sometimes referred to as the Rosablanca II Block) located in the Middle
Magdalena Valley Basin. The Rosablanca Block covers approximately 326,000 acres
and the Montecristo Block covers approximately 369,000 acres. The Company has
also acquired a 50 percent interest in the Guaduas Association Contracts on a
joint-venture basis granting rights to develop coal in certain specified
properties known as the Guaduas Block located in the Middle Magdalena Valley
Basin. The Guaduas Block covers approximately 6,000 acres.
Oil, gas and coal reserves have been investigated and explored in the
Magdalena Valley Basin since as early as 1940. The first commercial oil and gas
field was established by Trocco Oil in 1951 with proven recoverable reserves in
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excess of 800 million barrels. Through the use of advanced technologies and
exploration techniques such as seismic, gravimetric and magneto metric surveys,
combined with now historically proven data and exploratory drilling, additional
potentially large reserves have been identified and recovered throughout the
Middle Magdalena Valley Basin. Several independent oil companies such as Trident
Energy, Harken Oil and Gas, and Seven Seas along with major oil and gas
producers such as Exxon, Inc. and Texaco, Inc. have made important recent
discoveries that have drawn international attention to all of Central and South
America. Exxon is currently the single largest exporter of coal from Colombia.
As of December 31, 1998, approximately 1,642 kilometers of 2-D seismic
data had been acquired and reprocessed on the Rosablanca Block and the
Montecristo Block. Interpretation of the seismic data on the Montecristo Block
is in process. Additionally, interpretation of the seismic data on the LaLuna
and Rosablanca formations and at the Basal Cretaceous formations are being
generated. The LaLuna and Rosablanca formations have tested over 10,000 barrels
of oil per day each on the adjacent Bolivar Association Contract. Based on
analysis and processing of such data, it is estimated that the combined
potential for recoverable oil reserves from the Rosablanca and Montecristo
Blocks could exceed one billion barrels. Exploration is first being concentrated
in the area of the Texaco Las Lajas well located on the Montecristo Block. The
original Texaco exploratory well had oil and gas shows in which the La Luna
formation, but was not drilled deep enough to test the Rosablanca formation.
This well is located on what appears to be a sizable structural feature.
Pursuant to an agreement dated February 27, 1997 (the "GHK Agreement"),
Potomac (Bermuda) and GHK Company, L.L.C., an Oklahoma limited liability company
("GHK"), agreed to jointly acquire and develop any association contracts related
to the Rosablanca Block and the Montecristo Block acquired by Potomac (Bermuda)
or GHK. Under the GHK Agreement, the applications to acquire the association
contract was assigned to GHK for the purpose of allowing the association
contracts on the specified blocks to be acquired by GHK. With respect to any
association contract obtained, GHK agreed to assign a 25 percent interest in
such association contract to Potomac Energy (BVI) Ltd., a British Virgin Islands
wholly-owned subsidiary corporation of the Company ("Potomac (BVI)"). GHK is
designated as operator under the association contracts obtained. The GHK
Agreement further provided that (i) upon issuance of the association contracts,
GHK will to pay Potomac (Bermuda) $150,000, (ii) GHK will provide any initial
guarantee for the performance of exploratory activity under the association
contracts as required by Ecopetrol, (iii) following issuance of each such
association contract, Potomac Energy Corporation had three months to (A) qualify
Potomac (BVI) to do business in Colombia, (B) reimburse GHK 25 percent of any
initial guarantees required by Ecopetrol, and (C) demonstrate financial
capability to pay 25 percent of the costs to perform the first year obligations
of the association contract, and (iv) cause Potomac (BVI) to enter into an
International Operating Agreement with accounting procedure for each contract
area naming GHK's branch company as operator. Pursuant to the Merger, Potomac
Acquisition acquired and assumed all obligations of Potomac (Bermuda) under the
agreement with GHK. Following execution the GHK Agreement was assigned and
transferred by GHK to Seven Seas Petroleum, Inc. ("Seven Seas") and by
Omnipresent Exploration to Potomac (BVI). As of the date of this Report, Potomac
(BVI) is qualified to do business in Colombia. As of December 31, 1998, the
Company was in full compliance with the terms of the GHK Agreement.
As of December 31, 1998, the Company had completed 10 surface scraping
on the Guaduas Block which showed approximately 31 coal seams two to ten meters
thick ranging from the surface to a depth of 72 feet. These shows indicated the
need for further review and analysis by the Company. As a result, the Company
has begun coring operations to further identify specific coal seams, thickness,
and a real extent. This coring is expected to be completed within the second
quarter of 1999. Early analysis of the quality of the coal is estimated at
14,000 BTU, .07 percent sulfur and 5 percent ash.
Pursuant to agreement dated August 8, 1998 (the "Erasmos Agreement"),
the Company agreed to acquire from Erasmo Alfredo Almanza Latorre, a Colombian
citizen, the Association Contract for Small Carbon Exploration and Exploitation
on the Guaduas Block issued to him by Ecocarbon. Under the Erasmos Agreement,
the association contract was assigned to PEC. On December 2, 1998, the Company
agreed to sell a 50 percent interest in the Association Contract related to the
Guaduas Block to Arena Power, L.P., a Houston based U.S. corporation (the "Arena
Agreement"). The Arena Agreement provides for the establishment of a Colombian
corporation, Carbones de Guaduas, Ltd., of which the Company and Arena will
jointly own on an equal basis through their respective wholly-owned
subsidiaries, Magdalena Energia, LLC and Grupo Energia, LLC. The Company
transferred the Guaduas Association Contract to Carbones de Guaduas on January
28, 1999. Carbones de Guaduas is designated as operator under the association
contracts. The Arena Agreement further provides that (i) upon establishment of
the Colombia corporation, Arena will match the Company's initial developmental
costs, (ii) Arena and the Company will then share equally all future
7
<PAGE>
developmental costs, and (iii) Arena and the Company will equally provide any
initial guarantee for the performance of exploratory activity under the
association contracts as required by Ecocarbon.
ROSABLANCA AND MONTECRISTO ASSOCIATION CONTRACTS
On November 19, 1997, the Association Contracts related to the
Rosablanca Block and Montecristo Block (the "Rosablanca and Montecristo
Association Contracts") were awarded to the Colombian branch of Seven Seas and
the Company became entitled to receive a 25 percent interest in the Association
Contracts, subject to the GHK Agreement. In connection with obtaining the
Rosablanca and Montecristo Association Contracts, Seven Seas was not required to
provide any form of financial guarantee of performance for the Rosablanca and
Montecristo Association Contracts.
The Rosablanca and Montecristo Association Contracts provide generally
for a three-to-six year exploration phase followed by a 22-year production
period, with partial relinquishments of acreage, excluding commercial fields,
required commencing at the end of the sixth year of each contract. Under the
terms of each contract, Seven Seas and the Company are required over a
three-to-six-year period to undertake and complete certain work commitments
involving exploration and development of the Rosablanca Block and the
Montecristo Block. Seven Seas and the Company are required during the first two
years of the contracts to reprocess existing seismic data (300 kilometers on the
Rosablanca Block and 500 kilometers on the Montecristo Block), acquire and
interpret landstat images and perform surface geological and geochemical work,
and shoot and evaluate 100 kilometers of new two dimensional seismic and, at the
election of the Company and Seven Sears, during the third year to drill one
exploratory well. In the event after the first two years, the Company and Seven
Seas elect to drill an exploratory well, they will be required to relinquish and
reduce their interest in the block to not more than 247,100 acres (100,000
hectares). The contract will terminate at the end of the third year, unless an
extension is granted by Ecopetrol pursuant to application or a commercial field
has been discovered. The exploration period may be further extended beyond the
third year upon annual application to and approval by Ecopetrol for up to three
years. During each year of this extension, Seven Seas and the Company will be
required to drill one additional exploratory well that penetrates a hydrocarbon
producing formation. In the event such work commitments are not completed as
required, the contract rights will be forfeited. Furthermore, if a commercial
field is discovered during the initial three-year period of the contract or any
extension thereof, the block or contract area will be reduced 50 percent, two
years thereafter will be reduced 50 percent of the remaining block or contract
area and two years thereafter will be further reduced to the commercial fields
that are producing or under development plus a reserve belt 2.5 kilometers wide
surrounding each Commercial Field within the block or contract area. Upon
application to and approval by Ecopetrol, the period for retention of the block
or contract area may be extended for up to four years.
Under the terms of the contracts, Ecopetrol will receive a royalty
equal to 20 percent of production (after pipeline tariffs are deducted) on
behalf of the Colombian government and, in the event a commercially feasible
discovery is made, Ecopetrol will acquire a 50 percent interest in the remaining
production, bear 50 percent of the development costs, and reimburse Seven Seas,
the Company and other joint venture partners, from Ecopetrol's share of future
production, for 50 percent of the costs of certain exploration activities. Upon
acceptance of a field as commercial, Ecopetrol will acquire a 50 percent
interest therein and the interests of the other parties to the contract,
including the Company, will be reduced by 50 percent; all decisions regarding
the development of a commercial field will be made by an Executive Committee
consisting of representatives of the parties to the contract who will vote in
proportion to their respective interests in such contract. Decisions of the
Executive Committee will be made by the affirmative vote of the holders of over
50 percent of the interests in the contract.
If any commercial field in the respective contract areas produces in
excess of 60 million barrels, Ecopetrol's interest in production and costs for
such contract area increases from 50 percent to 75 percent as the ratio of the
accumulated income attributable to Seven Seas, the Company or any other joint
venture partner other than Ecopetrol to the accumulated development, exploration
and operating costs of such parties (less any expenses reimbursed by Ecopetrol)
increases from one to one to three to one.
Under the terms of the Association Contracts, in the event a discovery
is made and is not deemed to be commercially feasible by Ecopetrol, Seven Seas
and the Company may expend up to $2 million over a one-year period to further
develop the field, 50 percent of which will be reimbursed if Ecopetrol
subsequently accepts the commercial feasibility thereof. If Ecopetrol does not
declare the field commercial, the joint venture may continue to develop the
8
<PAGE>
field at its own expense. In such event, Ecopetrol will have the right to
acquire a 50 percent interest therein upon payment of 50 percent of Direct
Exploration Costs and 200 percent of the Additional Exploration Costs expended
by the joint venture, which payment may be made out of Ecopetrol's share of
future production.
GUADUAS ASSOCIATION CONTRACTS
On August 8, 1998, the Association Contract related to the Guaduas
Block was acquired by the Company and on January 28, 1999 was transferred to
Carbones de Guaduas, Ltd. The Company has a 50 percent interest in the
Association Contract, subject to the Erasmos and Arena Agreements. In connection
with obtaining the Guaduas Association Contract, neither the Company nor Arena
were required to provide any form of financial guarantee of performance of the
Guaduas Association Contract.
The Guaduas Association Contract provides generally for a two-year
exploration phase followed by a 10-year production period, with no
relinquishments of acreage or commerciality of field required until the end of
the 10-year production period. Under the terms of the contracts, Carbones de
Guaduas is required over a two-year period to undertake and complete certain
work commitments involving exploration of the Guaduas Block. Carbones de Guaduas
is required during the first two years of the contracts to complete a
professional engineering study which includes developing and completing
topography of the 6,000 acres, analyzing and evaluating potential coal reserves,
conducting coring of three or more locations to a depth of 100 feet on at least
1,000 acres, and completing and submitting a detailed mining plan for the
extraction and exploitation of coal reserves. After the first two years, in the
event the Company and Arena Power through Carbones de Guaduas elect to mine
coal, they will be required to have a plan for using the coal or exporting the
coal, including storage and transportation. The contract will terminate at the
end of the second year, unless the Company and Arena Power through Carbones de
Guaduas elect to move to the production phase. The exploration period may be
further extended beyond the second year upon annual application to and approval
by Ecocarbon for up to three years. The production period may be further
extended beyond the ten years upon annual application to and approval by
Ecocarbon for up to 25 years. In the event such work commitments are not
completed as required, the contract rights will be forfeited.
Under the terms of the contracts, Ecocarbon will not receive a royalty
until the end of the first 10-year production period. After the first ten-year
production period, Ecocarbon will receive a royalty equal to 20 percent of
production (after export tariffs are deducted) on behalf of the Colombian
government.
The Company's net income, as defined under Colombian law, from
Colombian sources is subject to Colombian corporate income tax at a rate of 35
percent. An additional remittance tax is imposed upon remittance of profits
abroad at a rate of seven percent.
PLAN OF DEVELOPMENT
ROSABLANCA AND MONTECRISTO BLOCKS
Seven Seas and the Company have established a 24-month plan of
exploration and development of the Rosablanca and Montecristo Blocks. Under this
plan, established in November of 1997, in addition to the minimum work
commitments under the Rosablanca and Montecristo Association Contracts (the cost
of which is estimated to be approximately $750,000), Seven Seas and the Company
propose to (i) the obtain and process new two-dimensional seismic (75 kilometers
on the Montecristo Block and 50 kilometers on the Rosablanca Block) at an
estimated cost of $550,000, (ii) identify and drill one exploratory well on the
Rosablanca Block at an estimated cost of $500,000, (iii) drill one horizontal
well on the Rosablanca Block at an estimated cost of $1,750,000, (iv) drill
three additional horizontal wells on the Rosablanca Block at an estimated cost
of $3,750,000, and (v) reenter and deepen an existing well on the Montecristo
Block at an estimated cost of $500,000. As of December 31, 1998, Seven Seas had
requested environmental approval for the shooting of additional two-dimensional
seismic (75 kilometers on the Montecristo Block and 50 kilometers on the
Rosablanca Block). Currently, this shooting is anticipated to begin in the
second quarter of 1999. Additionally, Seven Seas has agreed to begin the
environmental approval process to reenter and deepen the existing well on the
Montecristo Block, however, no specific time frame for this well has been
determined. The timing and undertakings under this development plan as it
continues to be achieved will depend upon a number of factors, most of which
will not be within the control of the Company, including availability of capital
resources of the Company and its joint venture partners, the results of
geological and geophysical surveys and analysis, the expected or actual results
of each development undertaking or operation which in large part may be affected
by the anticipated or current cost of such operations and the prices of
9
<PAGE>
crude oil and natural gas, general domestic and international economic
conditions within and without the oil and gas industry, and Columbian legal and
regulatory compliance. Therefore, there can be no assurance that such plan of
exploration and development will be successful or will be completed as
anticipated as of the date of this report.
GUADUAS BLOCK-
The Company has established a 12-month plan of development of the
Guaduas Block. Under this plan, established in December 1998, the Company and
Arena Power propose, in addition to the work commitments outlined in the
Association Contract, to (i) drill at least five core holes at an estimated cost
of $100,000, (ii) identify, analyze and evaluate based on the core data obtained
a preliminary estimate of coal reserves with the assistance of third-party
accredited and licensed mining engineering firm at an estimated cost of $25,000,
(iii) begin full mining operations should reserves warrant as the first phase of
a three phase mining and electrical power generation project with an estimated
cost to be $8,000,000 ($1,000,000 as equity capital by the Company and
$7,000,000 as debt financing).
Early analysis of the quality of the coal is estimated at 14,000 BTU,
.07 percent sulfur and 5 percent ash. Arena and the Company are studying the
feasibility for developing a coal fueled power plant that will provide power for
a major oil and gas production company, several industrial customers, and serve
the national grid. The Company and Arena Power estimate that the initial 100
Mega-watt plant will be constructed in two 50 Mega-watt phases. The first phase
will be operational in late 2000 and the second phase is expected to be
commissioned in late 2001. Provided a suitable steam host is identified, a
combined heat and power (CHP) co-generation installation will be made;
otherwise, a conventional steam turbine method will be employed.
Initial technical and economic studies are proceeding on the power
generation plants in advance of executing power purchase/merchant sale
agreements and initiating engineering, procurement, and construction activities
for the initial 50 Mega-watt power plant. The Company and Arena are identifying
partners with the required expertise to pursue exploration of the coal deposits.
It is expected that the project will require initial developmental costs of
$2,000,000 and a total project financing of approximately $100 million for both
50 Mega-watt phases.
UNCERTAINTY OF FUTURE ESTIMATES OF OIL AND NATURAL GAS RESERVES
As of the date of this report, the Company does not have any
proved oil, gas or coal reserves. However, it is anticipated that through
development of the Company's interest in the Middle Magdalena Valley Basin and
other properties acquired and developed, the Company will obtain and provide to
the shareholders of the Company, through annual reports or other means,
estimates of the Company's reserves. Estimates of the Company's proved oil, gas
and coal reserves and projected future net revenues will be based on reserve
reports prepared by independent engineers. The estimation of reserves requires
substantial judgment on the part of the petroleum and mining engineers,
resulting in imprecise determinations, particularly with respect to new
discoveries. Different reserve engineers may make different estimates of reserve
quantities and revenues attributable thereto based on the same data. Estimates
of proved undeveloped reserves, which in the future may comprise a substantial
portion of the Company's reserves, are by their nature less than certain. The
accuracy of any reserve estimate depends on the quality of the available data as
well as engineering and geological interpretation and judgment. Results of
drilling, mining, testing and production and changes in the assumptions
regarding decline and production rates, crude oil prices, coal prices,
electrical prices, revenues, taxes, capital expenditures, operating expenses,
geologic success and quantities of recoverable crude oil may vary substantially
from those assumed in the estimates, may result in revisions to such estimates
and could materially affect the estimated quantities and related value of
reserves set forth herein. The estimates of future net revenues will reflect
oil, gas and coal prices as of the date of estimation, without escalation. There
can be no assurance, however, that such prices will be realized or that the
estimated production volumes will be produced during the periods indicated.
Future performance that deviates significantly from the reserve reports could
have a material adverse effect on the Company.
OFFICE PROPERTIES
The Company maintains its executive office in approximately 3,400
square feet at Suite 1100W, The Oil Center, 2601 Northwest Expressway, Oklahoma
City, Oklahoma 73112-7293. The office premises are occupied under a lease which
expires in July 2001, and requires monthly rental payments of $4,000. The
Company considers such space to be adequate for its current needs.
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<PAGE>
ITEM 3. LEGAL PROCEEDINGS.
The Company does not have any pending litigation.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS.
During the fourth quarter of the fiscal year ended December 31, 1998,
the Company did not submit any matters to a vote of its shareholders through the
solicitation of proxies or otherwise.
PART II
ITEM 5. MARKET FOR COMMON EQUITY AND RELATED STOCKHOLDERS MATTERS.
The Company's Common Stock is traded on the NASDAQ Over-The-Counter
Bulletin Board and is quoted by the NASDAQ under the symbol "PMCY." Prior to
October 13, 1998, the Company's Common Stock was inactive, and a public trading
market for the Common Stock did not exist. The following table sets forth, for
the periods presented, the high and low closing bid quotations in the NASDAQ
Over-The-Counter Bulletin Board as quoted by NASDAQ. The bid quotations reflect
inter-dealer prices without adjustment for retail markups, markdowns or
commissions and may not reflect actual transactions.
<TABLE>
<CAPTION>
COMMON STOCK
----------------
CLOSING BID
----------------
HIGH LOW
------ ------
<S> <C> <C>
1998:
First Quarter Ended March 31.................................... $ -- $ --
Second Quarter Ended June 30................................... $ -- $ --
Third Quarter Ended September 30................................ $ -- $ --
Fourth Quarter Ended December 31................................ $ 3.00 $ 0.00
1997:
First Quarter Ended March 31.................................... $ -- $ --
Second Quarter Ended June 30.................................... $ -- $ --
Third Quarter Ended September 30................................ $ -- $ --
Fourth Quarter Ended December 31................................ $ -- $ --
</TABLE>
On May 10, 1998, there were approximately 1,633 holders of the Common
Stock.
RECENT SALES OF UNREGISTERED SECURITIES
The Company sold and issued the securities described below within the
past three years which were not registered under the Securities Act of 1933, as
amended:
<TABLE>
<CAPTION>
NUMBER
OF SHARES
PURCHASE OF COMMON
PRICE PER STOCK NET
NAME DATE OF PURCHASE SHARE PURCHASED PROCEEDS(1) CONSIDERATION
- ----------------------------- ---------------- --------- --------- ----------- -------------
<S> <C> <C> <C> <C> <C>
Michael E. Dunn.............. March 10, 1998 $ -- 300,696 $ -- Services
</TABLE>
- -----------------------------
(1) No underwriting discounts or commissions were paid with respect to such
sales.
The Common Stock purchased by each of the above-named persons was
issued pursuant to Rule 506 of Regulation D.
Pursuant to a Plan of Reorganization and Agreement of Merger, dated
June 12, 1998, the Company acquired the issued and outstanding capital stock of
Potomac (Bermuda). On June 17, 1998, the Company issued 7,050,000 shares of its
Common Stock to the shareholders of Potomac ( Bermuda) pursuant to Rule 506 of
Regulation D.
With respect to each of the foregoing Common Stock sale transactions,
the Company relied on Section 4(2) of the Securities Act of 1933 and Regulation
D for exemption from the registration requirements of such Act. With
11
<PAGE>
respect to purchases of the Common Stock after June 17, 1998, each purchaser
was furnished copies of the relevant information contained in the Company's
most recent Form 10-KSB Annual Report, Form 10-QSB Quarterly report and other
reports filed with the Securities and Exchange Commission during the year of
purchase, and each purchaser had the opportunity to verify the information
provided. Furthermore, the Company obtained an executed subscription
agreement containing representations from each of the purchasers in
connection with the purchase of the Common Stock of his or her intent to
acquire such Common Stock for the purpose of investment only, and not with a
view toward the subsequent distribution thereof. Each of the stock
certificates representing the Common Stock of the Company issued without
registration under the Act has been stamped with a legend restricting
transfer of the Common Stock represented thereby and the Company has issued
stop transfer instructions to UMB Bank, N.A., the registrar and transfer
agent for the Common Stock of the Company, concerning all certificates
representing the Common Stock issued in the above-described transactions.
ITEM 6. MANAGEMENT'S DISCUSSION AND ANALYSIS OR PLAN OF OPERATION. The following
discussion should be read in conjunction with the audited consolidated financial
statements and notes thereto appearing elsewhere in this
12
<PAGE>
Report. Project operations conducted in Colombia, South America. See "Item 2.
Description of Property--Middle Magdalena Valley Basin--Plan of Development."
RESULTS OF OPERATIONS
Potomac (Bermuda) was formed on April 7, 1997. Prior to the Merger, the
Company was inactive and did not have any assets or liabilities. Effective June
17, 1998, Potomac (Bermuda) merged with and into Potomac Acquisition and became
a wholly-owned subsidiary of the Company. The Merger was accounted for as a
reverse acquisition of the Company by Potomac (Bermuda) under the purchase
method of accounting. The following discussion and analysis of results of
operations discussed below are full the full fiscal year including Potomac
(Bermuda) prior to the Merger and the Company since the merger. Also See
"Business and Properties--General" and "Certain Transactions."
The Company is a development stage company that during the period
ending December 31, 1998, did not have any revenue and incurred a net loss of
$803,762. There is no assurance that the Company will have revenues from oil,
gas or coal sales in the future. The only revenue received by Potomac during
1998 was from interest income of $7,747 earned or accrued on cash and cash
equivalents and marketable securities. During 1998, Potomac obtained interests
in the Guaduas Association Contract and continued to fulfill it's work
commitments on the Rosablanca and Montecristo Association Contracts and in
connection therewith incurred $413,488 in professional fees and consulting
expenses and incurred miscellaneous expenses of $398,851. Other than the
activities associated with obtaining the Guaduas Association Contract and
fulfilling the required work commitments of the Rosablanca and Montecristo
Association Contracts, Potomac did not conduct any operating activities during
1998.
YEAR 2000 COMPUTER SYSTEM COMPLIANCE
The Company's computer systems are year 2000 compliant. The Company's
computer systems which employed two digit year date format rather than four
digit date format have been programed to comply with year 2000 requirements on a
system-by-system basis. Currently, the Company utilizes a WindowsNT operating
system which operates off of a Dell manufactured server.
ACCOUNTING STANDARDS ISSUED BUT NOT YET ADOPTED
In June 1998, the Financial Accounting Standards Board issued
Statement of Financial Accounting Standards ("SFAS") No. 133, "Accounting for
Derivative Instruments and Hedging Activities," which requires disclosures
related to trading and holding of derivative instruments and the conduct of
hedging activities. This statement is effective for financial statements of the
Company for the year beginning after June 15, 1999. Management of the Company
believes that adoption of SFAS No. 133 will not have a material effect on the
Company's financial statements.
EFFECTS OF RELATED ENERGY (OIL, GAS AND COAL) PRICE FLUCTUATIONS
In the event the Company's exploration activities result in significant
production of crude oil, natural gas or coal the Company's operations and the
value of its assets, including producing and non-producing assets, will be
subject to the effects of fluctuations in crude oil, natural gas and coal
prices. As a result of the instability and volatility of prices and the surplus
of crude oil and natural gas, and current market conditions within the oil and
gas industry, financial institutions have become more selective in the energy
lending area and have reduced the percentage of existing reserves that may
qualify for the borrowing base to support energy loans.
In the future, the Company anticipates that its principal source of
cash flows, if any, will be from the production and sale of crude oil,
natural gas and coal reserves which are depleting assets. Cash flows from
production sales depends upon the quantity of production and the price
obtained for such production. Generally, an increase in prices allows a
company to finance its operations to a greater extent with internally
generated funds, may allow a company to obtain equity financing more easily
or on better terms and lessens the difficulty of attracting financing
alternatives available to a company from industry partners and non-industry
investors. However, price increases heighten the competition for energy
association contracts, leases and other contractual arrangement, increase the
costs of exploration and development activities, and because of potential
price declines, increase the risks associated with the purchase of producing
properties while prices are at higher levels.
A decline in oil, gas and coal prices (i) reduces internally generated
cash flows which in turn reduces the funds
13
<PAGE>
available for exploration for and replacement of reserves, (ii) increases the
difficulty of obtaining equity financing and worsens the terms on which such
financing may be obtained, (iii) reduces the number of available oil, gas and
coal properties on reasonable economic terms, (iv) may result in the expiration
of oil, gas and coal contractual interests based upon the potential reserves in
relation to exploration and development costs, (v) results in marginally
productive oil, gas and coal mines being abandoned as non-commercial, and (vi)
increases the difficulty of attracting financing alternatives available from
industry partners and non-industry investors. However, price declines reduce the
competition for oil, gas and coal interests and, correspondingly, reduce the
prices paid for such interests or result in obtaining such interests on more
favorable terms. Furthermore, exploration and production costs generally
decline, although the decline may not be at the same rate of decline of energy
prices.
SEASONALITY
It is anticipated that the results of operations of the Company will be
somewhat seasonal due to seasonal fluctuations in the price for crude oil,
natural gas, coal and electrical kilowatts. Historically, crude oil prices have
been generally higher in the third and fourth quarters and natural gas prices
have been generally higher in the fourth quarter. Electrical kilowatts tend to
be higher in the third quarter. Due to these seasonal price fluctuations, it is
anticipated that results of operations for individual quarterly periods may not
be indicative of results which may be realized on an annual basis.
INFLATION AND CHANGES IN PRICES
Inflation principally affects the costs required to drill, complete and
operate oil and gas wells as well as mine coal. In recent years inflation has
had a minimal effect on such costs. However, increases and decreases in drilling
or mining activities, which generally a linked to crude oil, natural gas and
coal price increases and decreases, have resulted in the increase and decrease
of exploration, development and exploitation costs on an industry-wide basis.
LIQUIDITY AND CAPITAL RESOURCES
Potomac has financed its development state activities through the sale
of equity securities and does not have any borrowing facilities or arrangements
in place to fund its capital commitments. During 1997, net cash used by
operating activities totaled $249,098, net cash used by investing activities
totaled $60,120 and net cash provided by financing activities totaled $412,000.
During the twelve months ended December 31, 1998, net cash used by operating
activities totaled $392,020 cash provided by financing activities totaled
$741,036. As of December 31, 1998, Potomac had working capital of $64,818
compared to working capital of $168,858 at December 31, 1997.
Under the terms of the Rosablanca and Montecristo Association
Contracts, the Company has certain minimum work commitments on a joint venture
basis with Seven Seas, the Company's share of such costs is estimated to be
approximately $750,000. In addition to the minimum work commitments, the Company
has established a 24-month plan of development of the Rosablanca and Montecristo
Blocks at an estimated cost of $3,496,984. See "Description of Properties--Plan
of Development." Under the terms of the Guaduas Association Contract, the
Company has certain minimum work commitments on a joint venture basis with Arena
Power, the Company's share of such costs is estimated to be approximately
$387,500. In addition to the minimum work commitments, the Company has
established a 24-month plan of development of the Guaduas Blocks at an estimated
cost of $1,000,000. See "Description of Properties--Plan of Development." The
Company anticipates that the costs of development of the Rosablanca, Montecristo
and Guaduas Blocks will be funded with proceeds from the sale of equity and debt
securities and, although unlikely, borrowings. There is no assurance that such
funding will be available or on terms acceptable to the Company, in which event
the Company may forfeit its interests in the Blocks.
14
<PAGE>
ITEM 7. FINANCIAL STATEMENTS
The response to this Item is set forth herein in a separate section
of this report, appearing on page F-1 through F-12.
ITEM 8. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING
AND FINANCIAL DISCLOSURE.
There have been no disagreements of the type required to be
reported under this Item between management of the Company and its
independent accountants during 1998.
PART III
ITEM 9. DIRECTORS, EXECUTIVE OFFICERS, PROMOTERS AND CONTROL PERSONS;
COMPLIANCE WITH SECTION 16(a) OF THE EXCHANGE ACT.
Set forth below is certain information with respect to each
executive officer and Director of the Company. Directors are generally
elected at the annual shareholders' meeting and hold office until the next
annual share holders' meeting and until their successors are elected and
qualify. Executive officers are elected by the Board of Directors and serve
at its discretion. The Bylaws of the Company provide that the Board of
Directors shall consist of not less than two and such number as the Board of
Directors may from time to time determine by resolution or election. The
Company's Board of Directors currently consists of seven members.
<TABLE>
<CAPTION>
NAME AGE POSITION WITH THE COMPANY
- ---- --- -------------------------
<S> <C> <C>
Paul D. Meadows................... 72 Chairman of the Board of Directors
Carl W. Swan...................... 73 Chief Executive Officer and Vice Chairman
Of the Board of Directors
Gene Callaway..................... 50 President and Director
Frank H. Mahan.................... 56 Executive Vice President and Director
James E. Frazier.................. 35 Vice President, Chief Financial Officer,
Secretary and Director
Joseph Edward Michaud............. 67 Director
Charles T. Newman ................ 56 Director
</TABLE>
The executive officers of the Company devote such time to the business
and affairs of the Company as may be required, but not less than 50 percent of
their time. Each executive officer and director has completed an annual
questionnaire as required for the purposes of this report. As of the date of
this report there are no material legal or financial items to disclose.
BACKGROUND OF COMPANY EXECUTIVE OFFICERS AND DIRECTORS
The following is a brief description of the business background of the
executive officers and Directors of the Company:
PAUL D. MEADOWS is Chairman of the Board of Directors of the Company, a
private investor in and consultant with respect to oil and gas investments and
Chairman and, as trustee of a family trust, a 50 percent shareholder of Vega
Energy Company, an independent oil and gas company. Mr. Meadows was a founder
and served as a director of Ensource, Inc., a New York Stock Exchange
exploration and production company, until its merger with UMC Petroleum
Corporation in 1989 and thereafter, until September 1995, served on its
technical advisory committee. Mr. Meadows holds a Bachelor of Science Degree in
Petroleum Engineering and an Honorary Doctor of Science Degree from the New
Mexico Institute of Mining and Technology.
CARL W. SWAN is Chief Executive Officer and Vice Chairman of the Board
of Directors of the Company. Mr. Swan has been actively involved in all facets
of the oil and gas industry since 1951. He co-founded and served as President
and Chief Executive Officer and a Director of Basin Petroleum Corporation, which
was a publicly held company that merged into Reserve Oil and Gas Corporation in
1976. Since 1976, Mr. Swan has operated Swan Petroleum Corporation, a privately
held oil and gas exploration company involved in oil and gas drilling,
exploration and refining. Mr. Swan has extensive oil and gas drilling and
production experience in several foreign countries. Mr. Swan has conducted oil
and gas operations with Frank Mahan through affiliated entities since 1989. Mr.
Swan is a graduate of the University of New Mexico.
GENE CALLAWAY is President and a Director of the Company. Mr. Callaway
is an attorney with 25 years experience in all legal areas relating to oil and
gas exploration and production, (onshore and offshore, internationally
15
<PAGE>
and domestically). Mr. Callaway served as a senior lawyer in Shell Oil's Western
US exploration and production legal department, the largest division in Shell
Oil. Mr. Callaway also provided legal services for several years to Shell Oil's
Natural Gas department. For four years, Mr. Callaway was on international
assignment for Shell providing legal support for all international exploration
and production operations including those in Africa, Asia, South and Central
America and Western Pacific area. Before joining Shell, Mr. Callaway was in
private practice. Mr. Callaway is a graduate of Louisiana State University and
licensed in both Texas and Louisiana.
FRANK H. MAHAN is an Executive Vice President and Director of the
Company. Mr. Mahan has 25 years experience in the oil and gas industry. He has
attended a number of management and supervisory courses involving the oil and
gas industry. He attended Oklahoma State University from 1960 until 1965,
majoring in business management and has been involved in the management of
several companies engaged in oil and gas drilling, exploration and production
and has been an independent producer since 1979. Mr. Mahan has conducted oil and
gas operations with Carl W. Swan through affiliated entities since 1989.
JAMES E. FRAZIER is Vice President, Chief Financial Officer, Secretary
and a Director of the Company. Mr. Frazier is President and Chief Executive
Officer of JCZ Leasing, Inc., which provides financial services to more than 235
commercial equipment dealers in Oklahoma and throughout the Southwestern United
States, and a director of Heritage Financial Services, Inc., a private
investment services company. Mr. Frazier served as Vice President of Chase
Manhattan Bank, N.A. and managed operations within the Global Securities and
Institutional Trust Divisions as well as the Private Banking and Credit Services
Divisions. Mr. Frazier is a graduate of Fordham University with a degree in
economics.
JOSEPH EDWARD MICHAUD is a Director of the Company and an independent
analyst of oil and gas properties and an investor in exploratory and development
prospects. Mr. Michaud has in excess of 40 years experience in the oil and gas
business, including extensive training as a petroleum engineer while employed by
James A. Lewis Engineering, a leading consulting firm in reservoir analysis and
property appraisals in the United States and Canada.
CHARLES T. NEWMAN is a Director of the Company. Mr. Newman is a ten-
year Bermuda resident with extensive international senior management experience.
Mr. Newman is a director of numerous international engineering and resource
companies. Since 1994, Mr. Newman has been the owner and CEO of Tatra
International, Ltd., a Bermuda company providing offshore advisory services. Mr.
Newman has a degree in Engineering from the University of Saskatchewan.
COMPLIANCE WITH SECTION 16 OF THE SECURITIES EXCHANGE ACT OF 1934.
Section 16(a) of the Securities Exchange Act of 1934, as amended, requires the
Company's directors and officers, and persons who own more than 10 percent of a
registered class of the Company's Common Stock, to file reports of ownership and
changes in ownership with the Securities and Exchange Commission ("SEC").
Officers, directors and greater than 10 percent shareholders are required by SEC
regulation to furnish the Company with copies of all Section 16(a) forms they
file.
Based solely on the Company's review of the copies of such forms
received by it during the year ended December 31, 1998, and written
representations that no other reports were required, the Company believes that
each person who, at any time during such year, was a director, officer or
beneficial owner of more than 10 percent of the Company's Common Stock complied
with all Section 16(a) filing requirements during such fiscal year; however, all
forms filed pursuant to Section 16(a) with the SEC by the officers and directors
of the Company were filed late.
ITEM 10. EXECUTIVE COMPENSATION
The Company was inactive during 1997, 1996 and 1995 and no executive
officer compensation was paid or accrued during such years. The following table
sets forth certain information with respect to the total cash compensation, paid
or accrued, of the Chief Executive Officer of Potomac during 1998. With respect
to each of their executive officers, Potomac and its affiliates did not pay or
accrue total compensation in excess of $100,000 during 1998. Furthermore,
Potomac (Bermuda) was formed in 1997; therefore, during 1996 and 1995, no
compensation was paid to or accrued for the executive officers of Potomac
(Bermuda) and its affiliates.
16
<PAGE>
OFFICER COMPENSATION TABLE
<TABLE>
<CAPTION>
ANNUAL COMPENSATION
--------------------------------------
ALL OTHER
NAME AND PRINCIPAL POSITION YEAR SALARY(1) BONUS(2) COMPENSATION(3)
- --------------------------- ---- --------- -------- ---------------
<S> <C> <C> <C> <C>
Carl W. Swan..................... 1998 $48,000 $ -- $11,943
Chief Executive Officer 1997 $48,000 $1,000 $ 7,800
</TABLE>
- ----------
(1) Dollar value of base salary (both cash and non-cash) earned during the
year.
(2) Dollar value of bonus (both cash and non-cash) earned during the year.
(3) The amounts reflected are for an automobile and telephone expense
reimbursements, health insurance premiums paid by the Company.
AGGREGATE OPTION GRANTS AND EXERCISES IN 1998 AND YEAR-END OPTION VALUES
STOCK OPTIONS AND OPTION VALUES. The following table sets forth
information related to options granted to the executive officer named in the
Officer Compensation Table during 1998.
<TABLE>
<CAPTION>
INDIVIDUAL GRANTS POTENTIAL REALIZABLE VALUE AT
---------------------------------------------------------------- ASSUMED RATES OF STOCK
PERCENT OF TOTAL PRICE APPRECIATION
NUMBER OPTIONS GRANTED EXERCISE OR FOR OPTION TERM(2)
OF OPTIONS TO EMPLOYEES IN BASE PRICE ------------------------------
NAME GRANTED 1998 PER SHARE EXPIRATION DATE FIVE PERCENT TEN PERCENT
- ---- ---------- ---------------- ----------- --------------- ------------ -----------
<S> <C> <C> <C> <C> <C> <C>
Carl W. Swan.......... 100,000 44.4% $1.00 December 31, 2003 $115,763 $133,100
</TABLE>
- ----------
(1) The potential realizable value portion of the foregoing table
illustrates the value that might be realized upon exercise of the
options immediately prior to the expiration of their term, assuming the
specified compound rates of appreciation of the Common Stock over the
term of the options. These amounts do not take into consideration
provisions restricting transferability and represent certain assumed
rates of appreciation only. Actual gains on stock option exercises are
dependent on the future performance of the Common Stock and overall
stock market conditions. There can be no assurance that the potential
values reflected in this table will be achieved. All amounts have been
rounded to the nearest whole dollar amount.
AGGREGATE STOCK OPTION EXERCISE AND YEAR-END AND OPTION VALUES. The
following table sets forth information related to the number and value of
options held by the named executive officer at the end of 1998. During 1998,
there were no options to purchase the Common Stock exercised by the named
executive officer.
<TABLE>
<CAPTION>
NUMBER OF OPTIONS VALUE OF UNEXERCISED IN-THE-MONEY
AS OF DECEMBER 31, 1998 OPTIONS AS OF DECEMBER 31, 1998(1)
--------------------------------- ----------------------------------
NAME EXERCISABLE UNEXERCISABLE EXERCISABLE UNEXERCISABLE
- ---- ----------- ------------- ----------- -------------
<S> <C> <C> <C> <C>
Carl W. Swan.............................. 100,000 -- $200,000 $ --
</TABLE>
- ----------
(1) The closing sale price of the Common Stock as quoted on NASDAQ Bulletin
Board on December 31, 1998, was $3.00. Value is calculated on the basis
of the difference between the option exercise price and $3.00
multiplied by the number of shares of Common Stock underlying the
option.
On April 1, 1998, Potomac (Bermuda) granted Frank H. Mahan stock
options exercisable on or before December 31, 2003, for the purchase of 100,000
shares of common stock of Potomac (Bermuda) for $1.00 per share, and issued to
Gene Callaway and James E. Frazier 400,000 and 100,000 shares of Common Stock,
respectively, for services rendered. In connection with the Merger, all
outstanding stock options of Potomac (Bermuda) were assumed by the Company and
became exercisable for the purchase of shares of Common Stock of the Company for
$1.00 per share. Furthermore, in September 1998 the Company granted Alvaro
Cayzedo stock options exercisable on or before December 31, 2003, for the
purchase of 100,000 shares of Common Stock of the Company for $1.00 per share
for services rendered as advisors to the Board.
17
<PAGE>
COMPENSATION OF DIRECTORS
The directors of the Company that are employees are not currently
compensated for attending meetings of directors and committees of the Board of
Directors, but are reimbursed out-of-pocket expenses. The compensation of
non-employee directors has not been determined by the Board of Directors, but
non-employee directors are reimbursed out-of-pocket expenses incurred in
attending meetings of directors and committees on which they serve.
LACK OF EMPLOYMENT ARRANGEMENTS AND LOSS OF KEY EMPLOYEES
The Company does not have any written employment agreements or
arrangements with its officers and employees. Accordingly, each officer and
employee of the Company may be terminated as determined in the sole discretion
of the Company.
The Company has a limited operating history and the success of the
Company depends to a large degree upon the efforts of its executive officers,
the loss of whose services could have a material adverse effect on the Company.
The Company does not maintain key man insurance covering the loss of life or
disability of its executive officers.
OFFICER AND DIRECTOR LIABILITY
As permitted by the provisions of the Oklahoma General Corporation Act,
the Certificate of Incorporation (the "Certificate") eliminates in certain
circumstances the monetary liability of directors of PEC for a breach of their
fiduciary duty as directors. These provisions do not eliminate the liability of
a director for (i) a breach of the director's duty of loyalty to PEC or its
shareholders, (ii) acts or omissions by a director not in good faith or which
involve intentional misconduct or a knowing violation of law, (iii) liability
arising under Section 1053 of the Oklahoma General Corporation Act (relating to
the declaration of dividends and purchase or redemption of shares in violation
of the Oklahoma General Corporation Act), or (iv) any transaction from which the
director derived an improper personal benefit. In addition, these provisions do
not eliminate liability of a director for violations of federal securities laws,
nor do they limit the rights of PEC or its shareholders, in appropriate
circumstances, to seek equitable remedies such as injunctive or other forms of
non-monetary relief. Such remedies may not be effective in all cases.
The Certificate and Bylaws of PEC provide that PEC shall indemnify all
directors and officers of PEC to the full extent permitted by the Oklahoma
General Corporation Act. Under such provisions, any director or officer, who in
his capacity as such, is made or threatened to be made, a party to any suit or
proceeding, may be indemnified if the Board of Directors determines such
director or officer acted in good faith and in a manner he reasonably believed
to be in or not opposed to the best interest of PEC. The Certificate and Bylaws
of PEC and the Oklahoma General Corporation Act further provide that such
indemnification is not exclusive of any other rights to which such individuals
may be entitled under the Certificate, the Bylaws, an agreement, vote of
shareholders or disinterested directors or otherwise. Insofar as indemnification
for liabilities arising under the Act may be permitted to directors and officers
of PEC pursuant to the foregoing provisions, or otherwise, PEC has been advised
that in the opinion of the Commission such indemnification is against public
policy as expressed in the Act and is, therefore, unenforceable.
STOCK OPTION PLAN
PEC established the Potomac Energy Corporation Non-Qualified Stock
Option Plan (the "Option Plan" or "Plan") on January 28, 1999. The Option Plan
provides for the grant of non-qualified stock options ("Options"), with stock
appreciation rights ("SARs") to employees, directors, independent contractors
and consultants of the Company. The total number of shares of Common Stock
authorized and reserved for issuance under the Option Plan is 525,000.
As of the date of this Report, no Options have been granted under the Option
Plan.
The Board of Directors (the "Board") administers the Plan and the
authority to interpret and construe the Plan, and determine all questions
arising under the Plan and any agreement made pursuant to the Plan. Options
under the Option Plan may be granted only to persons ("Eligible Persons") who at
the time of grant are directors, executive officers, employees and independent
contractors and consultants of the Company and its subsidiaries.
Options may be granted by the Board on terms and conditions determined
solely by the Board. No Option shall be exercisable more than 10 years after the
date of grant. The maximum number of shares of stock for which an Eligible
Person may be granted Options in any calendar year may not exceed 25 percent of
the aggregate number of shares of stock with respect to which Options may be
granted under the Option Plan. The exercise prices of Options are determined by
the Board, but in no event may such price be less than 85 percent of the fair
market value of the stock on
18
<PAGE>
the date of grant. Options granted are not transferable except by will or by the
laws of descent and distribution or with the consent of the Company. No Option
under the Plan may be granted after December 31, 2008.
Options may be exercisable only by the Option holder ("Participant")
while serving as a director of the Company or a subsidiary or while actively
employed as an employee, an independent contractor or a consultant by the
Company or a subsidiary, except that (i) any such Option granted and which is
otherwise exercisable, may be exercised by the personal representative of a
deceased Participant within 12 months after the death of such Participant (but
not beyond the exercise period of such Option), (ii) if a Participant is
terminated as a director, an employee, an independent contractor or a consultant
of the Company or a subsidiary on account of (A) retirement, such Participant
may exercise any Option which is otherwise exercisable at any time within three
months of such date of termination, or (B) a disability, such Participant may
exercise any Option which is otherwise exercisable at any time within 12 months
of such date of termination. If a Participant dies during the applicable
three-month or 12-month period following the date of such Participant's
retirement or termination on account of disability, the rights of the personal
representative of such deceased Participant as such relate to any Options
granted to such deceased Participant shall have similar rights to exercise the
Options and during the remainder of the three-month or 12-month period.
The Board, in its sole discretion, may permit a Participant who is
terminated as a non-employee director, an employee, an independent contractor or
a consultant due to retirement or disability, or upon the occurrence of special
circumstances (as determined by the Board), or the personal representative of a
deceased Participant to exercise and purchase (within three years of such
termination) all or any part of the shares subject to Option on the date of
termination.
ITEM 11. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT
The following table presents certain information as to the beneficial
ownership of the Common Stock of the Company as of May 10, 1999 of (i) each
person that beneficially owns more than five percent thereof, (ii) each
executive officer and director of the Company, and (iii) all executive officers
and directors as a group. All persons listed have sole voting and investment
power with respect to their shares, and there is no family relationship between
the executive officers and directors. For purposes of the following table, the
number of shares and percent of ownership of outstanding Common Stock that the
named person beneficially owns includes shares of Common Stock that such person
has the right to acquire within 60 days of the forgoing date upon exercise of
outstanding stock options, but such shares are not included for the purposes of
computing the number of shares beneficially owned and percent of outstanding
Common Stock of any other named person.
<TABLE>
<CAPTION>
SHARES
BENEFICIALLY PERCENTAGE OF OUTSTANDING
NAME AND ADDRESS OF BENEFICIAL OWNER OWNED BENEFICIALLY OWNED SHARES
- ------------------------------------ ------------ -------------------------
<S> <C> <C>
Frank H. Mahan(1)(2)........................... 1,100,000 12.5%
Carl W. Swan(1)(2)............................. 1,005,000 11.4%
Auburn International, Inc.(3).................. 1,000,000 11.3%
Karl Rollke(4)................................. 950,000 10.8%
Value Invest, Ltd.(5).......................... 800,000 9.1%
Marlene S. Schiff (2)(6)....................... 500,000 5.7%
Lawrence Ronald Crow (3)....................... 500,000 5.7%
Lamar Lee Lindenmuth(3)........................ 500,000 5.7%
Gene Callaway(1)............................... 400,000 4.5%
James E. Frazier............................... 200,000 2.3%
Paul D. Meadows(7)............................. 200,000 2.3%
Joseph Edward Michaud(7)....................... 200,000 2.3%
Charles T. Newman.............................. 150,000 1.7%
Executive Officers and Directors
as a Group (seven persons)(8).............. 3,300,000 37.9%
</TABLE>
19
<PAGE>
- ----------
(1) The named person's address is The Oil Center, Suite 1100W, Oklahoma
City, Oklahoma 73112-7293.
(2) The number of beneficially owned shares of percentage of outstanding
shares includes stock options exercisable for the purchase of 100,000
shares of Common Stock on or before April 30, 2003.
(3) The address of Auburn International, Inc. is 440 Benmar, Suite 3020,
Houston, Texas 77069. The beneficiaries of Auburn are Lawrence Ronald
Crow and Lamar Lee Lindenmuth, each a 50 percent beneficiary.
(4) Mr. Rollke's address is 1888 Albeni Street, Apartment 1201, Vancouver,
B.C., Canada V6 1B3.
(5) The address of Value Invest, Ltd. is Letzibraben 89, 8040 Zurich,
Switzerland.
(6) Ms. Schiff's address is 950 Fifth Avenue, New York, New York 10021.
(7) The number of beneficially owned shares and percentage of outstanding
shares consists of stock options exercisable for the purchase of
200,000 shares of Common Stock.
(8) The number of beneficially owned shares of percentage of outstanding
shares includes stock options exercisable for the purchase of 600,000
shares of Common Stock.
(9) Mr. Newman's address is 3rd Floor, 25 Church Street, P.O. Box HM 352,
Hamilton HM BX, Bermuda.
ITEM 12. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS.
Set forth below is a description of transactions entered into between
PEC or Potomac (Bermuda) and certain of its officers, directors and shareholders
during the last two years. Certain of these transactions will continue in effect
and may result in conflicts of interest between PEC and such individuals.
Although these persons have fiduciary duties to PEC and its shareholders, there
can be no assurance that conflicts of interest will always be resolved in favor
of PEC.
On March 10, 1998, Michael E. Dunn, the former President and Director
of PEC, was issued 300,696 shares of Common Stock, after giving effect to the
reverse stock split, for services rendered in connection with the
reincorporation of PEC.
In connection with the organization and formation of Potomac (Bermuda),
(i) each of Carl W. Swan and Frank H. Mahan contributed all of his rights under
the applications with Ecopetrol related to the Rosablanca and Montecristo Blocks
to Potomac (Bermuda) and in exchange therefor was issued 1,000,000 shares of
common stock of Potomac (Bermuda) and (ii) James E. Frazier was issued 100,000
shares of common stock of Potomac (Bermuda) for services rendered. The value of
the applications with Ecopetrol related to the Rosablanca and Montecristo Blocks
was estimated to be not less than $20,000 which was substantially less than the
direct costs that Messrs. Swan and Mahan in making such applications.
On April 1, 1998, Potomac (Bermuda) (i) granted each of Messrs. Swan
and Mahan stock options exercisable on or before December 31, 2003 for the
purchase of 100,000 shares of common stock of Potomac (Bermuda) for $1.00 per
share, (ii) issued to Gene Callaway and James E. Frazier 400,000 and 100,000
shares of common stock, respectively, for services rendered, and (iii) granted
Mr. Dunn stock options exercisable on before December 31, 2003, to purchase
50,000 shares of common stock for legal services rendered and to be rendered for
$.50 per share. On February 9, 1997, Potomac (Bermuda) granted Marlene S. Schiff
stock options exercisable for the purchase of 100,000 shares of Common Stock on
or before April 30, 1999, for $1.00 per share. In addition, on May 8, 1998,
Potomac (Bermuda) granted to each of Paul D. Meadows and Joseph Edward Michaud
stock options exercisable on or before December 31, 2003 for the purchase of
200,000 shares of common stock of Potomac (Bermuda) for $1.00 per share. In
connection with the Merger, all outstanding stock options of Potomac (Bermuda)
were assumed by the Company and became exercisable for the purchase of shares of
Common Stock of the Company for $1.00 per share. Furthermore, in September 1998,
the Company granted Alvaro Cayzedo stock options exercisable on or before
December 31, 2003, for the purchase of 100,000 shares of Common Stock for $1.00
per share for services rendered as an advisor to the Board.
Commencing in May 1997, Potomac (Bermuda) made certain monthly payments
to BV Operating, Inc., an Oklahoma corporation owned equally by Messrs. Swan and
Mahan, for reimbursement of general overhead, employee salaries (including the
compensation of the executive officers of Potomac (Bermuda)), travel and other
expenses incurred in connection with services performed on behalf of Potomac
(Bermuda) principally related to the application for and obtaining of the
Rosablanca and Montecristo Association Contracts. Potomac (Bermuda) reimbursed
BV Operating, Inc. $100,500 and $132,130 and during 1998 and 1997, respectively.
The reimbursement arrangement with BV Operating, Inc. was terminated in June
1998.
20
<PAGE>
ITEM 13. EXHIBITS AND REPORTS ON FORM 8-K.
(a) REPORTS ON FORM 8-K:
During 1998 the Company did not file any reports on Form 8-K.
(b) EXHIBITS:
1.1 Consolidated Financial Statements
2.1 Association Contract between Empresa Colombiana De Petroleos
and Seven Seas Petroleum Colombia, the Rosablanca sector,
dated November 19, 1997, incorporated by reference to
Registrant's Form 10-KSB Annual Report for the year ended
December 31, 1997.
2.2 Association Contract between Empresa Colombiana De Petroleos
and Seven Seas Petroleum Colombia, the Montecristo sector,
dated November 19, 1997, incorporated by reference to
Registrant's Form 10-KSB Annual Report for the year ended
December 31, 1997.
2.3 Letter of Intent between Potomac Energy Corporation and The
GHK Company L.L.C., dated February 27, 1997, incorporated by
reference to Registrant's Form 10-KSB Annual Report for the
year ended December 31, 1997.
2.4 Basic Contract of Small Carbon Exploration/Exploitation
between Ecocarbon and Erasmo Alfredo Almanza LaTorre, dated
July 10, 1998.
2.5 Agreement of Association between Dr. Erasmo Almanza LaTorre
and Carbones de Guaduas, Ltda., dated April 6, 1998.
2.6 Letter Agreement between Arena Power, L.P. and Registrant,
dated December 2, 1998.
3.1 Subsidiaries of Registrant.
4.1 Potomac Energy Corporation Non-Qualified Stock Option Plan
adopted January 28, 1998.
21
<PAGE>
SIGNATURES
In accordance with Section 13 or 15(d) of the Exchange Act, the
Registrant caused this report to be signed on its behalf by the undersigned,
hereunto duly authorized.
POTOMAC ENERGY CORPORATION
(Formerly Midwestern Resources, Inc.)
(Registrant)
By: /s/ CARL W. SWAN
--------------------------------------
Carl W. Swan, Chief Executive Officer
Date: May 14, 1999
In accordance with the Exchange Act, this Report has been signed below
by the following persons on behalf of the Registrant and in the capacities and
on the dates indicated.
<TABLE>
<CAPTION>
NAME TITLE DATE
- ---- ----- ----
<S> <C> <C>
Chief Executive Officer, Secretary
/s/ CARL W. SWAN and Vice Chairman of the Board May 14, 1999
- ------------------------------ Directors
Carl W. Swan
/s/ GENE CALLAWAY President and Director May 14, 1999
- ------------------------------
Gene Callaway
/s/ JAMES E. FRAZIER Vice President, Chief Financial Officer, May 14, 1999
- ------------------------------ Secretary and Director
James E. Frazier
/s/ FRANK H. MAHAN
- ------------------------------ Executive Vice President and Director May 14, 1999
Frank H. Mahan
/s/ PAUL D. MEADOWS
- ------------------------------ Chairman of the Board of Directors May 14, 1999
Paul D. Meadows
/s/ JOSEPH EDWARD MICHAUD
- ------------------------------ Director May 14, 1999
Joseph Edward Michaud
/s/ CHARLES NEWMAN
- ------------------------------ Director May 14, 1999
Charles Newman
</TABLE>
22
<PAGE>
1.1 CONSOLIDATED FINANCIAL STATEMENTS
Consolidated Financial Statements
POTOMAC ENERGY CORPORATION AND SUBSIDIARIES
(A Development Stage Enterprise)
December 31, 1998
<TABLE>
<CAPTION>
Consolidated Financial Statements
<S> <C>
Independent Auditors' Report . . . . . . . . . . . . . . . . . . . . . . . F-1
Consolidated Balance Sheets. . . . . . . . . . . . . . . . . . . . . . . . F-2
Consolidated Statements of Operations. . . . . . . . . . . . . . . . . . . F-3
Consolidated Statements of Stockholders' Equity. . . . . . . . . . . . . . F-4
Consolidated Statements of Cash Flows. . . . . . . . . . . . . . . . . . . F-5
Notes to Consolidated Financial Statements . . . . . . . . . . . . . . . . F-6
</TABLE>
23
<PAGE>
The Board of Directors
Potomac Energy Corporation
Oklahoma City, Oklahoma
We have audited the accompanying Consolidated Balance Sheet of Potomac Energy
Corporation (an Oklahoma corporation in the development stage) and
Subsidiaries as of December 31, 1998, and the related Consolidated Statements
of Operations, Stockholders' Equity, and Cash Flows for the year then ended.
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. The financial statements of Potomac Energy
(Bermuda), Ltd., the predecessor to Potomac Energy Corporation, as of
December 31, 1997 were audited by other auditors whose report dated May 11,
1998 expressed an unqualified opinion on those statements.
We conducted our audit in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to
obtain reasonable assurance about whether the financial statements are free
of material misstatement. An audit includes examining, on a test basis,
evidence supporting the amounts and disclosures in the financial statements.
An audit also includes assessing the accounting principles used and
significant estimates made by management, as well as evaluating the overall
financial statement presentation. We believe our audit provides a reasonable
basis for our opinion.
In our opinion, the consolidated financial statements referred to above
present fairly, in all material respects, the financial position of Potomac
Energy Corporation and Subsidiaries as of December 31, 1998 and the
consolidated results of their operations and their cash flows for the year
then ended in conformity with generally accepted accounting principles.
/s/Smith, Carney & Co., p.c.
Oklahoma City, Oklahoma
March 26, 1999
F-1
<PAGE>
CONSOLIDATED BALANCE SHEETS
POTOMAC ENERGY CORPORATION AND SUBSIDIARIES
(A Development Stage Enterprise)
<TABLE>
<CAPTION>
DECEMBER 31,
------------
1998 1997
----------- -----------
ASSETS
<S> <C> <C>
CURRENT ASSETS
Cash $ 218,788 $102,782
Accounts receivable, other 1,615 150,000
Marketable securities - 37,777
---------- --------
Total Current Assets 220,403 290,559
---------- --------
PROPERTY AND EQUIPMENT
Furniture and equipment 27,818 -
Office equipment, capital leases 46,379 -
Leasehold improvements 6,912 -
Oil and gas properties, non-
producing, full cost method 472,331 1,121
Coal interests, non-producing 20,909 -
---------- --------
574,349 1,121
Less accumulated depreciation (6,287) -
---------- --------
568,062 1,121
---------- --------
OTHER ASSETS
Organization costs - 21,222
Deposits 4,061 -
---------- --------
4,061 21,222
---------- --------
$ 792,526 $312,902
---------- --------
---------- --------
LIABILITIES AND STOCKHOLDERS' EQUITY
CURRENT LIABILITIES
Accounts payable $ 120,248 $121,701
Accrued taxes, other than income 17,953 -
Current portion of capital
lease obligations 17,384 -
---------- --------
Total Current Liabilities 155,585 121,701
---------- --------
LONG-TERM PORTION OF CAPITAL
LEASE OBLIGATIONS 21,923 -
---------- --------
STOCKHOLDERS' EQUITY
Common stock, $.01 par value; authorized
50,000,000 in 1998 and 12,000,000 shares
in 1997; issued and outstanding
7,869,270 in 1998 and 4,700,000 in 1997 78,693 47,000
Paid-in capital 2,035,886 840,000
Deficit accumulated during
development stage (1,499,561) (695,799)
---------- --------
615,018 191,201
---------- --------
$ 792,526 $312,902
---------- --------
---------- --------
</TABLE>
See accompanying summary of accounting
policies and notes to consolidated
financial statements.
F-2
<PAGE>
CONSOLIDATED STATEMENTS OF OPERATIONS
POTOMAC ENERGY CORPORATION AND SUBSIDIARIES
(A Development Stage Enterprise)
<TABLE>
<CAPTION>
PERIOD FROM PERIOD FROM
INCEPTION INCEPTION
FOR THE YEAR (APRIL 7, 1997) (APRIL 7, 1997)
ENDING TO TO
DECEMBER 31, DECEMBER 31, DECEMBER 31,
1998 1997 1998
---------------- --------------- ---------------
REVENUES
<S> <C> <C> <C>
Interest earned $ 7,747 $ 1,443 $ 9,190
Foreign currency gain 830 - 830
---------------- --------------- ---------------
8,577 1,443 10,020
---------------- --------------- ---------------
EXPENSES
Advertising and marketing 6,042 - 6,042
Auto expense 1,672 - 1,672
Bank charges 1,927 - 1,927
Computer expense 3,000 - 3,000
Consulting 237,947 196,880 434,827
Stock-based non-employee
compensation expense 92,159 - 92,159
Contributions 250 - 250
Depreciation 6,287 - 6,287
Dues and subscriptions 6,050 - 6,050
Employee benefits 9,409 - 9,409
Insurance 418 - 418
Interest 2,784 - 2,784
Meals and entertainment 17,442 - 17,442
Miscellaneous 13,943 - 13,943
Office expense 1,571 973 2,544
Office supplies 5,718 310 6,028
Payroll taxes 11,180 - 11,180
Professional fees 83,382 20,677 104,059
Rent 21,869 - 21,869
Salaries 101,337 - 101,337
Stock-based employee
compensation expense 131,250 475,000 606,250
SEC expenses 17,103 - 17,103
Taxes, other than income 7,639 - 7,639
Telephone 10,118 736 10,854
Travel 21,842 2,666 24,508
---------------- --------------- ---------------
812,339 697,242 1,509,581
---------------- --------------- ---------------
Net Loss $ (803,762) $ (695,799) $ (1,499,561)
---------------- --------------- ---------------
---------------- --------------- ---------------
Net Loss Per Share $ (.12) $ (.19)
---------------- ---------------
---------------- ---------------
Weighted average number of
Common Shares Outstanding 6,877,649 3,731,439
---------------- ---------------
---------------- ---------------
</TABLE>
See accompanying summary of
accounting policies and
notes to consolidated
financial statements.
F-3
<PAGE>
CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY
POTOMAC ENERGY CORPORATION AND SUBSIDIARIES
(A Development Stage Enterprise)
<TABLE>
<CAPTION>
PAID-IN ACCUMULATED
SHARES AMOUNT CAPITAL DEFICIT TOTAL
--------- ------- ---------- ----------- ---------
<S> <C> <C> <C> <C> <C>
APRIL 7, 1997
- -------------
(Inception) - $ - $ - $ - $ -
Sale of stock 2,800,000 28,000 384,000 - 412,000
Shares issued
for services 1,900,000 19,000 456,000 - 475,000
Net loss - - - (695,799) (695,799)
--------- ------- ---------- ----------- ---------
DECEMBER 31,
1997 4,700,000 47,000 840,000 (695,799) 191,201
----
Sale of stock 1,040,000 10,400 737,977 - 748,377
Shares issued
for services 1,550,000 15,500 372,000 - 387,500
Shares issued
during re-
organization
(Note B) 579,270 5,793 - - 5,793
Value of stock
options granted
to consultants - - 85,909 - 85,909
Net loss - - - (803,762) (803,762)
--------- ------- ---------- ----------- ---------
DECEMBER 31,
1998 7,869,270 $78,693 $2,035,886 $(1,499,561) $ 615,018
---- --------- ------- ---------- ----------- ---------
--------- ------- ---------- ----------- ---------
</TABLE>
See accompanying summary of accounting policies
and notes to consolidated financial statements.
F-4
<PAGE>
CONSOLIDATED STATEMENTS OF CASH FLOWS
POTOMAC ENERGY CORPORATION AND SUBSIDIARIES
(A Development Stage Enterprise)
<TABLE>
<CAPTION>
PERIOD FROM
INCEPTION
FOR THE YEAR (APRIL 7, 1997)
ENDING TO
DECEMBER 31, DECEMBER 31,
1998 1997
------------ ---------------
<S> <C> <C>
CASH FLOWS FROM OPERATING ACTIVITIES
Net loss $(803,762) $(695,799)
Adjustments to reconcile net loss
to net cash provided (used) by
operating activities:
Stock compensation:
Compensation expense 131,250 475,000
Consulting expenses 92,159 -
Depreciation 6,287 -
(Increase) decrease in
accounts receivable 148,385 (150,000)
Increase (decrease) in:
Accounts payable 19,769 121,701
Accrued taxes 17,953 -
Deposits (4,061) -
--------- ---------
Net Cash Used By
Operating Activities (392,020) (249,098)
--------- ---------
CASH FLOWS FROM INVESTING ACTIVITIES
Exploration of oil and gas
properties (221,210) (1,121)
Exploration of coal properties (20,909) -
Purchase of furniture, equip-
ment, and leasehold
improvements (34,731) -
Purchase of investments - (37,777)
Sale of investments 37,777 -
Stock issued during re-
organization 5,793 -
Organization costs - (21,222)
--------- ---------
Net Cash Used By
Investing Activities (233,280) (60,120)
--------- ---------
CASH FLOWS FROM FINANCING ACTIVITIES
Sale of stock 748,377 412,000
Payments on long-term debt (7,071) -
--------- ---------
Net Cash Provided By
Financing Activities 741,306 412,000
--------- ---------
Net Increase In Cash 116,006 102,782
CASH AT BEGINNING OF PERIOD 102,782 -
--------- ---------
CASH AT END OF PERIOD $ 218,788 $ 102,782
--------- ---------
--------- ---------
</TABLE>
Interest of $2,784 and $-0- was paid and expensed in 1998 and 1997,
respectively.
See accompanying summary of accounting policies and notes to consolidated
financial statements.
F-5
<PAGE>
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
POTOMAC ENERGY CORPORATION AND SUBSIDIARIES
(A Development Stage Enterprise)
DECEMBER 31, 1998
NOTE A--SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
NATURE OF OPERATIONS: Potomac Energy Corporation (Potomac), an Oklahoma
Corporation, is involved in identifying, investigating, exploring, and, where
determined advantageous, developing, mining, refining, and marketing oil and gas
and coal deposits. Potomac is currently a public company registered on the
NASDAQ.
DEVELOPMENT STAGE ENTERPRISE: Potomac is a development stage enterprise and has
yet to generate any revenue from oil and gas or coal sales and has no assurance
of future revenues from such sales. Both oil and gas and coal exploration and
development are speculative in nature and, as such, involves a high degree of
risk. The Company plans to spend significant amounts on the acquisition and
exploration of properties. These costs may require the Company to raise
additional capital through debt or equity financing. Such additional financing
may require the encumbrance of Company assets or agreements with other parties
where some of the costs of exploration are paid by others in exchange for an
interest in the property. The Company has acquired interests in properties
internationally. Such plans have additional risks because, in some cases, the
country where the acquisition occurs may be considered politically and/or
economically unstable.
RISKS AND UNCERTAINTIES: 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.
Significant estimates include depreciation, depletion, and amortization of
proved oil and gas and coal reserves. Oil and gas and coal reserve estimates
used as the basis for depletion are inherently imprecise and are expected to
change as future information becomes available.
PRINCIPLES OF CONSOLIDATION: The consolidated financial statements include the
accounts of the Company; its wholly-owned subsidiary, Potomac Exploration
Acquisition Corporation (PEAC), an Oklahoma corporation, and PEAC's wholly-owned
subsidiary, Potomac Energy (BVI), Ltd., a British Virgin Islands corporation;
and the Company's predecessor, Potomac Energy (Bermuda), Ltd., a Bermuda
Corporation. The Company's other predecessor, Midwestern-Oklahoma Energy
Resources Corporation, an Oklahoma corporation, had no activity prior to the
reorganization. Magdalena Energia, LLC, a Texas limited liability company, a
wholly-owned subsidiary, did not have any recordable transactions during 1998.
All material intercompany accounts and transactions have been eliminated.
FAIR VALUE OF FINANCIAL INSTRUMENTS: The recorded amounts of cash, accounts
receivable, and accounts payable approximate fair value because of the
short-term maturity of these items.
INVESTMENT SECURITIES: The Company classifies its marketable debt securities
as "held to maturity" if it has the positive intent and ability to hold the
securities to maturity. All other marketable debt securities are classified
as "available for sale". Securities classified as "available for sale" are
carried in the financial statements at fair value. Realized gains and losses,
determined using the specific identification method are included in earnings;
unrealized holding gains and losses are reported as a separate component of
Stockholders' Equity. Securities classified as held to maturity are carried
at amortized cost. There were no investment securities owned by the Company
as of the Balance Sheet Date.
F-6
<PAGE>
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--CONTINUED
POTOMAC ENERGY CORPORATION AND SUBSIDIARIES
(A Development Stage Enterprise)
DECEMBER 31, 1998
NOTE A--SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES--Continued
PROPERTY AND EQUIPMENT: Property and equipment is stated on the basis of cost.
Maintenance and repairs are charged to expense. Renewals and betterments which
substantially extend the useful life of property are capitalized. Accumulated
allowances for depreciation of furniture, equipment, and leasehold improvements
retired, or otherwise disposed of, are eliminated from the accounts on
disposition. Profits and losses resulting from such disposition are included in
income.
Depreciation is computed using the straight-line method over the estimated
useful lives of the assets (seven to ten years).
OIL AND GAS INTERESTS: The Company follows the full-cost method of accounting
for oil and natural gas properties. Under this method, all costs incurred in the
exploration, acquisition, and development, including unproductive wells, are
capitalized in separate cost centers for each country. Such capitalized costs
include contract and concessions acquisition, geological, geophysical, and other
exploration work, drilling, completing and equipping oil and gas wells,
constructing production facilities and pipelines, and other related costs.
The capitalized costs of oil and gas properties in each cost center are
amortized on a composite units of production method based on future gross
revenues from proved reserves. Sales or other dispositions of oil and gas
properties are normally accounted for as adjustments of capitalized costs. Gain
or loss is not recognized in income unless a significant portion of a cost
center's reserves is involved. Capitalized costs associated with acquisition and
evaluation of unproved properties are excluded from amortization until it is
determined whether proved reserves can be assigned to such properties or until
the value of the properties is impaired. If the net capitalized costs of oil and
gas properties in a cost center exceed an amount equal to the sum of the present
value of estimated future net revenues from proved oil and gas reserves in the
cost center and the lower of cost or fair value of properties not being
amortized, both adjusted for income tax effects, such excess is charged to
expense.
Since the Company has not produced any oil or gas, a provision for depletion has
not been made.
INCOME TAXES: The Company's predecessor and one of its subsidiaries are foreign
corporations and are subject to the income tax laws of the various countries in
which they may operate. Branch income from interests obtained through the
association agreements in Colombia, South America are subject to Colombian
corporate income tax at a rate of 35%, as well as a 7% remittance tax on funds
transferred to the United States.
The Company follows the asset/liability method of accounting for income taxes.
Under this method, deferred tax assets and liabilities are recognized for the
future tax consequences of (i) temporary differences between the tax bases of
assets and liabilities and their reported amounts in the financial statements
and (ii) operating loss and tax credit carry-forwards for tax purposes. Deferred
tax assets are reduced by a valuation allowance when, based upon management's
estimates, it is more likely than not that a portion of the deferred tax assets
will not be realized in a future period.
FOREIGN CURRENCY TRANSLATION: The majority of all costs associated with foreign
operations are paid in U.S. dollars as opposed to the local currency of the
operations; therefore, the reporting and functional currency is the U.S. dollar.
Gains and losses from foreign currency transactions are recognized in current
net income.
F-7
<PAGE>
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--Continued
POTOMAC ENERGY CORPORATION AND SUBSIDIARIES
(A Development Stage Enterprise)
December 31, 1998
NOTE A--SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES--Continued
FOREIGN CURRENCY TRANSLATION--Continued
Monetary items are translated using the exchange rate in effect at the Balance
Sheet date; non-monetary items are translated using historical exchange rates.
Revenues and expenses are translated at the average rates in effect on the dates
they occur. No material gains or losses were incurred during the period
presented.
NET LOSS PER SHARE: Net loss per share is calculated based on the weighted
average number of common, and dilutive, common equivalent shares outstanding.
There were no material differences between primary and fully diluted earnings
per share for the periods presented.
RECLASSIFICATION OF PRIOR YEAR FINANCIAL STATEMENTS: In 1997, the Company's
predecessor, Potomac (Bermuda), combined legal and professional services with
consulting services. These amounts have been reclassified to conform to the 1998
presentation.
NOTE B--REORGANIZATION
Potomac is the surviving parent corporation as a result of a merger effective
June 17, 1998 between Potomac Energy (Bermuda), Ltd. and Midwestern-Oklahoma
Energy Resources Corporation, a publicly-held corporation. Potomac (Bermuda)
with its wholly-owned subsidiary, Potomac Energy (BVI), Ltd., merged into
Potomac Exploration Acquisition Corporation, a subsidiary of Midwestern. Potomac
(Bermuda) was dissolved. The merger was accounted for as a reverse acquisition
of Midwestern by Potomac (Bermuda). The Shareholders of Potomac (Bermuda) were
issued 7,050,000 shares of Midwestern common stock. With the exception of two
management members, the Officers and Directors of Potomac (Bermuda) Became the
Officers and Directors of Midwestern. Midwestern then changed its name to
Potomac Energy Corporation.
Subsequent to the reorganization, the Company carried out a private placement
for net offering proceeds of $554,170 for the issuance of 240,000 shares.
NOTE C--JOINT INTEREST OPERATIONS
Potomac has entered into a joint venture agreement with Seven Seas Petroleum
Colombia (Seven Seas), a branch of Seven Seas Petroleum, Inc., which is a
publicly traded Canadian corporation. Seven Seas has obtained association
contracts for oil and gas reserves identified through preliminary investigation
in the Middle Magdalena Valley Basin in Central Colombia, South America. Seven
Seas has been accepted by Ecopetrol, the state owned oil company in Colombia, to
administer the association contracts covering certain properties known as the
Rosa Blanca and Montecristo Blocks. Seven Seas owns a 75 percent interest and
Potomac owns a 25 percent interest. Seven Seas is designated as the operator.
Upon the successful negotiation of the association contracts, Seven Seas was
required to pay Potomac a participation fee of $150,000, which was used to
offset geophysical survey costs.
F-8
<PAGE>
In April, 1998, the Company entered into an agreement to undertake a feasibility
study for the mining of coal and generation of electricity in the Guaduas Field
located in Central Colombia, South America. The agreement with Erasmos Almanza
La Torre, in his capacity as General Manager of Global Drilling de Colombia.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--Continued
POTOMAC ENERGY CORPORATION AND SUBSIDIARIES
(A Development Stage Enterprise)
December 31, 1998
NOTE C--JOINT INTEREST OPERATIONS--Continued
provides for an interest in coal contracts in the area once the project's
feasibility has been established. Almanza holds association contracts with
Ecocarbone, the state agency of Colombia that oversees the production of coal.
In December, 1998, the Company organized a wholly-owned subsidiary, Magdalena
Energia, LLC, a Texas limited liability company, to manage its coal and
generation of energy interests located in Colombia. As of December 31, 1998, no
assets had been transferred and no transactions had occurred in Magdalena. In
February, 1999, the Company formed Carbones de Guaduas, Ltd., a Colombian
corporation with Grupo Energia, LLC as a 50% partner, and the contract with
Almanza discussed above was transferred to the new corporation.
NOTE D--RELATED PARTY TRANSACTIONS
The Company's predecessor, Potomac Energy (Bermuda), Ltd. was managed by BV
Operating, Ltd., an Oklahoma corporation, in accordance with a consulting
agreement. BV Operating, Ltd. (BV) is owned by common Shareholders of Potomac.
Potomac paid a fixed rate of $30,000 per month to BV. BV was responsible for
costs and expenses of all offices, salaries, and wages plus applicable burdens
and expenses except for directly chargeable items. The direct charges include
labor costs and benefits for field employees employed on the joint property in
Colombia, professional contract services, maintenance and repair of equipment,
insurance, travel, and other necessary expenses. The total paid to BV was
$197,500 and $132,130 in 1998 and 1997, respectively. The contract terminated as
a result of the reorganization.
Potomac (Bermuda) and Potomac (BVI)'s offices are managed by a Stockholder. The
Company pays a fee to the Stockholder of $1,500 per month, paid quarterly. The
agreement between these parties is cancelable without notice. The total paid
during 1998 and 1997 was $22,500 and $18,000, respectively.
Geophysical studies on undeveloped properties were performed during the year by
a company owned by common Shareholders of Potomac. Total fees paid to this
company during 1997 were $150,000.
Prior to the reorganization discussed in Note B, the Company issued 1,550,000
and 1,900,000 shares of common stock at a recorded value of $387,500 and
$475,000 for services rendered in 1998 and 1997, respectively. Of the stock
issued in 1998, $250,000 was capitalized as geological and geophysical costs of
oil and gas properties. The Stock was valued at the price of stock being sold
during that time.
NOTE E--STOCK OPTIONS
On April 18, 1998, the Company's predecessor, Potomac (Bermuda), granted stock
options to purchase 950,000 shares of common stock during various periods, which
expire April, 1999 through December, 2003, at an exercise price of $1.00 except
for 50,000 shares which have an exercise price of $.50. On October 14, 1998, the
Company granted options to purchase 125,000 shares of common stock, which expire
December, 2003, at an exercise price of $1.00. The Company has elected to follow
Accounting Principles Board Opinion No. 25, "Accounting for Stock Issued to
Employees" (APB 25). Under APB 25, no compensation expense is recognized when
the exercise price of stock options equals the market price of the underlying
stock on the date of the grant.
F-9
<PAGE>
If the Company had elected to recognize compensation based on the fair value of
the options granted at the grant date as prescribed by SFAS 123, net loss and
net loss per share would have increased to the pro forma amounts shown below for
the year ending December 31, 1998.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--Continued
POTOMAC ENERGY CORPORATION AND SUBSIDIARIES
(A Development Stage Enterprise)
December 31, 1998
NOTE E--STOCK OPTIONS--Continued
Pro Forma Net Loss $(815,543)
Pro Forma Net Loss Per Share $ (.12)
The fair value of each option grant is estimated on the date of grant using the
Black-Scholes option pricing model with the following assumptions used for
grants during the year ended December 31, 1998: weighted average risk free
interest rate of 5.50 percent; no dividend yield; volatility of 40%; and
expected life less than six years. The Company granted options prior to public
trading on NASDAQ OTC BB. Consequently, the underlying common shares had no
historic volatility prior to October 13, 1998. The fair values of the options
granted prior to October 13, 1998 were based on the difference between the
present value of the exercise price of the option and the estimated fair value
price of the common share.
The intent of the Black-Scholes option valuation model is to provide estimates
of fair values of traded options that have no vesting restrictions and are fully
transferable. Option valuation models require the use of highly subjective
assumptions including expected stock price volatility. The Company has utilized
the Black-Scholes method to produce the pro forma disclosures required under
SFAS 123. In management's opinion, existing valuation models do not necessarily
provide a reliable single measure of the fair value of its employee stock
options because the Company's employee stock options have significantly
different characteristics from those of traded options and because changes in
the subjective input assumptions can materially affect the fair value estimate.
The effects of applying SFAS 123 in this pro forma are not indicative of future
amounts.
NOTE F--CAPITALIZED LEASES
In 1998, the Company acquired telephone and computer equipment in the amount of
$46,379 that is subject to long-term capital leases. Accumulated depreciation
at year-end was $4,415.
The future minimum lease payments for these capital leases are as follows:
<TABLE>
<CAPTION>
<S> <C>
1999 $ 25,687
2000 20,514
2001 6,780
--------
52,981
Less amount representing interest (13,674)
--------
Present Value of Minimum
Lease Payments 39,307
Current portion (17,384)
--------
Long-Term Obligations
Under Capital Leases $ 21,923
--------
--------
</TABLE>
F-10
<PAGE>
NOTE G--OPERATING LEASES
During 1998, the Company entered into a lease for office space in Oklahoma
City for a term of five years. Minimum lease payments remaining under this
lease are:
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--Continued
POTOMAC ENERGY CORPORATION AND SUBSIDIARIES
(A Development Stage Enterprise)
December 31, 1998
NOTE G--OPERATING LEASES--Continued
<TABLE>
<CAPTION>
<S> <C>
1999 $46,863
2000 47,800
2001 49,674
2002 50,612
2003 25,306
</TABLE>
Rent expense for the year was $21,869.
NOTE H--INCOME TAXES
The geographical sources of tax losses were as follows:
<TABLE>
<CAPTION>
YEAR ENDED
DECEMBER 31,
-----------------------
1998 1997
--------- ---------
<S> <C> <C>
United States $(103,536) $ -
Foreign (459,839) (220,799)
--------- ---------
$(563,375) $(220,799)
--------- ---------
--------- ---------
</TABLE>
Net deferred income taxes consist of the following:
<TABLE>
<CAPTION>
YEAR ENDED
DECEMBER 31,
-----------------------
1998 1997
--------- ---------
<S> <C> <C>
Deferred tax asset $ 286,155 $ 190,000
Valuation allowance (286,155) (190,000)
--------- ---------
$ - $ -
--------- ---------
--------- ---------
</TABLE>
The Company has not recorded any deferred income tax provision or benefit. The
Company's provision for income taxes differs from the amount computed by
applying statutory rates, due principally to the valuation allowance recorded
against its deferred tax asset relating primarily to net operating tax loss
carry-forwards. Temporary differences included in deferred tax assets relate
primarily to restricted stock issued for compensation. The U.S. net operating
loss carryforward as of December 31, 1998 was approximately $200,000.
NOTE I--YEAR 2000 DISCLOSURE
The "Y2K" issue is a general term used to refer to certain business implications
of the arrival of the new millennium. On January 1, 2000, all hardware and
software systems which use a two-digit year convention could fail completely
F-11
<PAGE>
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--Continued
POTOMAC ENERGY CORPORATION AND SUBSIDIARIES
(A Development Stage Enterprise)
December 31, 1998
NOTE I--YEAR 2000 DISCLOSURES--Continued
or create erroneous data as a result of the system failing to recognize the two
digit date "00" as representing the Year 2000. The Company does not believe that
its internal systems and operations have any material issues with respect to
Year 2000 compliance and does not anticipate incurring significant remediation
costs, if any. The Company has a limited operating history and is engaged solely
in the exploration, development, and production of oil, natural gas, and coal in
Colombia. As such, the Company engages in few transactions and has minimum
reliance on the hardware and software systems of third parties. Further, the
Company's hardware and software systems are relatively new and the Company has
been advised that all of these systems are Year 2000 compliant. Accordingly, the
risk of operation disruptions and the corresponding risk of liability for
disruptions caused by Non-Year 2000 compliant systems are not of major concern
to the Company.
NOTE J--ADOPTION OF NEW ACCOUNTING STANDARDS
Effective June 17, 1998, the Company adopted Statement of Position 98-5,
"Reporting on the Costs of Start-Up Activities", issued by the American
Institute of Certified Public Accountants. This statement requires that the
costs of start-up activities and organization costs, as defined, be expensed as
incurred. Organization costs of Potomac (Bermuda) and those incurred during the
reorganization discussed in Note B have been expensed in 1998.
Due to the current status of the Company's operations as discussed in Note A,
SFAS 130, "Reporting Comprehensive Income", SFAS 131, "Disclosures About
Segments of an Enterprise and Related Information", and SFAS 132, "Employers'
Disclosures About Pensions and Other Postretirement Benefits", do not apply.
NOTE K--CONCENTRATION OF CREDIT RISK
The Company maintains its cash in bank deposit accounts which, at times, may
exceed federal insured limits. The Company has not experienced any losses in
such accounts and believes it is not exposed to any significant risk.
SUPPLEMENTAL OIL AND GAS INFORMATION (UNAUDITED)
Capitalized costs at December 31, 1998 and 1997, respectively, relating to the
Company's oil and gas activities are as follows:
<TABLE>
<CAPTION>
1998 1997
-------- ------
<S> <C> <C>
Unproved properties, Colombia, net $472,331 $1,121
Costs incurred were as follows:
Exploration costs $472,331 $1,121
</TABLE>
F-12
<PAGE>
EXHIBIT 2.4
ASSOCIATION CONTRACT
BASIC CONTRACT OF SMALL CARBON EXPLORATION/EXPLOITATION BETWEEN ECOCARBON AND
ERASMO ALFREDO ALMANZA LATORRE.
OBJECT:
9.1 This small mining contract in its various stages of exploration,
construction and exploitation is subject to the Program of
Geological Exploration---Annex no. 5 and the Work and Investment
program (P.T.I.) Annex no. 6 presented by the contractor and
approved by Ecocarbon.
9.2 The area subject to this contract is according to the following
coordinates: (see Spanish contract)
9.3 This area is located in the municipality of Guaduas and has a total
surface area of 390 hectares.
9.4 This area is part of a major extension approved on March 25, 1987
and relinquished/returned by Carbocol.
9.5 It is understood that the area approved is the area designated by
the above mentioned coordinates.
9.6 Ecocarbon shall not be responsible for any improvements of the area
if the area is lost by the contractor.
9.7 Ecocarbon has the right to designate the maximum depth allowed
within the contract area.
9.8 The contractor shall mark/stake out the area in accordance to clause
9.3 of this contact.
SECOND: CONDITIONS
1.1 The present contract shall be considered void due to the following
events:
1.1.1 If during the time period of this contract a third party claims the
right to this area and this is upheld legally, Ecocarbon will honor
this judgement.
1.1.2 If during the following 3 months after the awarding of this contract
the contractor has not registered with the CAR- Corporation Autonoma
Regional- the Environmental plan for the project and has not given
Ecocarbon a copy of this plan.
1.1.3 If the contractor has not presented within the time period
established the Work and Investment Plan (P.T.I.).
1.1.4 When the environmental permits are rejected by the proper
authorities.
THIRD: NON INTERFERENCE OR INTEGRATION OF LARGE MINING PROJECTS.
2.1 If a large mining project is started in the area the contractor
shall comply with the instructions provided by Ecocarbon in order
not to interfere with the large mining project.
2.2 In the case of technical or economical reasons where it is
impossible to avoid interference, Ecocarbon can order the
integration of this area to the large mining project, according to
article no. 90 of the Mining Code.
FOURTH: VALUE OF THE CONTRACT. This present contract does not have any value
at the time of awardance and is considered a contract without an amount.
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FIFTH: DURATION OF THE CONTRACT. This present contract shall have duration of
12 years and 0 months.
4.1 Period for exploration: 12 months plus 2 months for the study and
approval of the Final Information of Exploration (I.F.E.), 6 months
to put together the Work and Investment Program (P.T.I.), and 2
months for Ecocarbon's evaluation of this plan.
4.2 Time period for the construction: 7 months, plus 1 month for the
presentation of the final information.
4.3 Time period for the exploitation: 10 years and 6 months.
4.4 The terms of the phases of exploration, construction and the
presentation of the I.F.E. and P.T.I can be extended but shall not
exceed 50% of the initial time period. The application for these
extensions shall be provided to Ecocarbon one month before the
deadline.
4.5 The exploitation period can be extended if the contractor presents a
letter requesting this extenuation 6 months before its expiration.
4.6 When the contractor asks for an extension of any of the
above-mentioned phases the time of the extenuation shall be
discounted from the Exploitation stage.
SIXTH: THE GEOLOGICAL EXPLORATION PROGRAM (P.E.G)--- Within 3 months of the
issuance of this contract the contractor shall submit the P.E.G. to Ecocarbon
for its approval. This program shall detail the work needed for the
exploration, the activities that are to be accomplished, the time of duration
for each activity, and the method to be used for the work and the estimated
investment. The P.E.G. shall be an integral part of the contract, and shall
be considered Annex No. 5, and until it is approved by Ecocarbon the
contractor has not completed his requirements established in clause 15 and
shall not begin the exploration phase. The additional time needed to make
corrections to the P.E.G. shall be deducted from the Exploitation phase.
SEVENTH: EXPLORATION WORK AND INFORMATION. During the exploration, the
contractor shall realize the work as described in the approved P.E.G. and
shall present the following information, according to Annex No. 7.
6.0.1 The contractor is obligated to present to Ecocarbon in the
exploration phase, weekly information for the work done in the area.
This report includes the work in progress from the week before and
the work that will carry over into the following week.
6.0.2 This report shall include the development of the work done, the
investment made and the results obtained.
6.1 Final information of the Exploration phase. I.F.E.: At the end of
the exploration phase, the contractor shall present the Final
Information of the Exploration phase which shall include the
information of Annex No. 3 and adjusted to Annex no. 2.
6.2 Once the I.F.E. is presented Ecocarbon shall have two months to
approve the program or to write its objections which they feel are
pertinent and give a time period in which corrections, modifications
of additions can be name. This time period will be deducted from the
exploration stage. If there is no answer from Ecocarbon during this
time period then the contractor can assume that the I.F.E. has been
approved and enter into the P.T.I. stage.
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EXHIBIT 2.5
Carbones de Guaduas. Ltda
CONVENIO DE CUENTAS EN PARTICIPACION
This Agreement of "Association" is executed by and between:
VII. ON THE ONE HAND, DR. ERASMO ALMANZA LATORRE, A CITIZEN OF
COLOMBIA WITH CITIZENSHIP CARD NDEG 17.079, 078, WHO ACTS HEREIN IN
HIS OWN NAME AND BEHALF, AND FOR THE PURPOSES OF THIS AGREEMENT HAS
THE CAPACITY AS "ACTIVE PARTNER; AND
VIII. On the other hand,. CARBONES DE GUADUAS, LTDA., a limited
liability company incorporated and existing under the Laws of
Colombia. Hereinafter referred to as the Investing Partners, acting
herein through its legal representative and authorized officer, Mr.
Alain Loriquer;
WHEREAS:
1. On April 23, 1998 an Agreement for a Coal Mining and Power
Generation Project in Guaduas", was executed between the "Active
Partner" on the one hand, and, on the other by Msres CARL SWAN,
FRANK MAHAN, EUGENE CALLAWAY, ALAIN LORIQUER, JACK SCHRADER and
ALVARO LOPEZ, each of them acted in common ("en comun y proindiviso
por partes iguales"), by equal shares; such Agreement was extended
by a document executed May 26, 1998.
2. The above mentioned Agreement refers to the intention of the Parties
to develop a Coal Mining Project in the municipality of Guaduas,
"Departamento" of Cundinamarca, and any surrounding area, with the
purpose of possibly further developing a project for power
generation or any other project that may be financially and legally
feasible under the laws and regulations of Colombia.
3. Msres CARL SWAN, FRANK MAHAN, EUGENE CALLAWAY, ALAIN LORIQUER, JACK
SCHRADER and ALVARO LOPEZ, have assigned to Magdalena Energia LLC a
Limited Liability Company incorporated under the Laws of the State
of Texas, and to Grupo Energia LLC a Limited Liability Company
incorporated under the Laws of the State of Texas, all their rights
and obligations under the aforementioned Agreements, and thus have
created CARBONES DE GUADUAS, LTDA.
4. The Active Partner acknowledges that he acts in his own name but on
behalf of the Investing Partner.
5. The Investing Partner maintains an interest in developing the
coal-mining project for the further development of a power
generation project and other possible purposes and ventures; and the
Active Partner expects a compensation to be established in this
instrument.
6. In performance of the above mentioned agreement, on July 10, 1998,
the Active Partner executed with ECOCARBON a "Contract for the
Exploration and Exploitation of Coal - "Contrato de pequena
exploracion y explotacion carbonifera"-, covering an area described
in Clause 1.2 thereof within the municipality Guaduas.
7. Also, in performance of the above mentioned agreement, the Active
Partner submitted in his name but for the account of the Investing
Partner, three (3) applications for the exploration and exploitation
of areas - "solicitudes de exploracion y explotacion"-, for areas
adjacent to the area covered by the Contract dated July 10, 1998.
The applications are included within the following coordinates:
a) parting from "Punto Arcifinio" 248 IC
X: 106596000 Y: 946380 Area: 495 Has. Vereda Tabaquera
X: 106596000 Y: 946380 Area: 450 Has. Vereda: Carbonera
San Jose
b) parting from- Punto Arcifinio 204-3A:
X: 105304000 Y: 945990 Are26a: 420 Has. Vereda: Chipauta -
Carbonera
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Active Partner has agreed to submit two additional applications in
the neighboring areas, which have already been compensated for and
the coordinates of which will be provided as soon as possible to
Investing Partner.
8. The Parties acknowledge the need to enter into this agreement of
"association" while the feasibility studies for any of the above
intended projects are concluded. Materialization of such projects is
not an obligation; instead it will be the consequence of the
conclusions of such feasibility studies.
9. For the actions conducted to date by the Active Partner, he has been
compensated by the individuals who have formed the Investing
Partner, with the following amounts:
- Twenty million Pesos (Col $20.000.000), paid on
May 19, 1998, as a compensation for consulting services
provided through April 23, 1998.
- Four million Pesos ($4.257.443) paid on October 6, 1998, as
a compensation for the submittal of the second and third
"applications".
- The equivalent in Colombian Pesos to USD 4,500 paid as an
advance against the first installment of 50% of the Col Ps
110.000.000 as provided for in 2.1 of this agreement.
BASED ON THE ABOVE CONSIDERATIONS, THE PARTIES AGREE AS FOLLOWS:
1. OBLIGATIONS OF THE ACTIVE PARTNER:
0.1 In relation to the existing Contract of July 10, 1998, the
Active Partner shall comply all the obligations therein
stated and shall ensure that it remains valid and
enforceable in all respects.
0.2 In relation to the three (3) applications for exploration
and exploitation submitted, as well as any other application
as indicated above, also the Active Partner shall diligently
conduct all actions and processes necessary to make these
applications convertible into Contracts for Exploration and
Exploitation.
0.3 To search for and obtain, for the benefit of the project all
technical, commercial and any other kind of information as
may be necessary or convenient for the successful
exploration and exploitation of coal reservoirs that may be
found in the areas and in other zones of the Colombian
territory.
0.4 To advise the Investing Partner of any act or fact that may
affect the rights to explore and develop the coal mines in
the areas mentioned above.
0.5 To refrain from conducting any assignment, alienation,
limitation to the property, mortgages or any other
encumbrance upon the rights derived from the contract and
the applications referred to above.
0.6 To keep any and all technical, commercial or financial
information related to the rights under the contracts and
under this agreement strictly confidential
0.7 To assign all and free of any and all encumbrance the rights
that he may have by virtue of this agreement, under the
Contract with ECOCARBON and under the applications above
mentioned, to the Investing Partner within the month
following receipt of the advise provided payments under
clause 2.1 and 2.2 are made and without prejudice to the
compensation agreed to in the form of a percentage of
profits described in clause 2.3 of this agreement.
0.8 To grant the Investing Partner the right to participate,
under similar terms and conditions as obtained by the Active
Partner, in any Projects, whether commercial, industrial or
otherwise, on any lands, or interest in any lands, obtained
by the Active Partner, located within a 25 mile radius from
the perimeter of the area described in clause 1.2 of the
Contract entered into between the Active Partner and
ECOCARBON for the exploration and exploitation of coal,
dated July 10, 1998.
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2. OBLIGATIONS OF THE INVESTING PARTNER:
2.1 To pay the Active Partner the amount of One hundred ten
million Colombian Pesos (Col$110.000.000), in two
installments as follows:
a) Fifty percent (50%) on the tenth (10th) working day
following execution of this agreement;
b) Fifty percent (50%) on the twentieth (20th) working
day following execution of this agreement.
2.1 To pay the Active Partner the total amount of Twenty five
thousand US Dollars (USD 25,000) divided into twelve (12)
equal monthly installments the first one becoming payable on
the same day as the amount described in 2.1(b) herein
above. Each one of these payments shall be made in Colombian
Pesos by converting the amount in dollars to pesos at the
Representative Market Exchange Rate as certified by the
Banking Superintendency for the day of payment.
2.2 Once the corporate structure for the Mining and/or Power
Generation is established, where the Investing Partner has
an interest, then it will ensure that such company or
companies, resulting of this decision shall each agree with
the Active Partner on a share of profits in the amount of
two percent (2%) of the net distributable profits - after
taxes and reserves - as determined in the Balance Sheet and
other financial documents of each company.
2.3 Payments contemplated in this clause as payable to Active
Partner, shall be made by Investing Partner according to
payment instructions received from Active Partner, provided
Beneficiary is clearly identified.
3. APPLICABLE LAW AND ARBITRATION.
The laws of the Republic of Colombia shall govern this agreement.
Any dispute between the parties that may not be amicably resolved
within the sixty (60) calendar days following the claim from one of
the Parties, shall be submitted to the decision of an Arbitration
tribunal that shall meet and decide according to the rules of the
Center of Conciliation and Arbitration of Santafe de Bogota, D.C.,
The tribunal shall be formed by 3 arbitrators appointed by the joint
agreement of the Parties. In the absence of such agreement, the
Parties delegate this decision upon the Center of Conciliation and
Arbitration of Bogota. The Tribunal shall meet in Bogota and its
ruling shall be in law.
4. ADDRESSES OF THE PARTIES:
For the purposes of information and advises between the Parties
under this agreement, each one of them appoints the following agents
and their address as follows:
The Active Partner: The Investing Partner.
ERASMO ALMANZA LATORRE ALAIN LORIQUER
Diag.128C NDEG58-04 Cra.11 NDEG115-08
Tel. 271 7206 Tel. 612 81 66
Fax. 616 3774 Fax. 612 81 66
Santafe de Bogota D.C. Santafe de Bogota D.C.
5. LANGUAGE:
This agreement is executed simultaneously in both the English and
the Spanish languages.
6. EXPENSES AND TAXES.
The Investing Partner shall pay the expenses for the authentication
of signatures and recognition of this agreement as well as the stamp
tax.
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IN WITNESS OF THE ABOVE THE PARTIES HAVE CAUSED THIS AGREEMENT TO BE EXECUTED IN
THE CITY OF SANTAFE DE BOGOTA D.C., THIS 6TH DAY OF APRIL 1999, BY:
The Active Partner The Investing Partner:
/s/ERASMO ALMANZA /s/ALAIN LORIQUER
LEGAL REPRESENTATIVE
CONRBONES DE GUADUAS, LTDA, Y
POTOMAC ENERGY (BVI), LTD.
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EXHIBIT 2.6
This Letter sets out the general terms and conditions under which Arena
Power, L.P., ("Arena") and Potomac Energy Corporation, ("Potomac"),
collectively the Parties, ("Parties"), will jointly participate in the
development, exploitation, ownership, and operation of a coal deposit and a
coal-fired electric power production plant which will be located near
Guaduero in the Emerald Mountain Region northwest of Bogota, Columbia, the
Project ("Project").
As required, an ownership entity will be formed in Columbia, presumably
under an S.A. or S.A. de C.V. structure. The entity will be called
NEWCO, S.A. or NEWCO S.A. de C.V. ("Newco").
Newco will be owned by Arena and Potomac who will each own one-half
(1/2) of the stock of the entity and contribute required equity and/or
guarantees in proportion to their ownership. If Newco enters any
agreement to provide any local partners or equity/debt providers with
equity, then dilution of Arena and Potomac will occur on an equal basis.
Arena will be responsible for day to day management of Newco. Newco's
board will have a minimum of four seats which will be held by Arena and
Potomac. The board of Newco will adopt a resolution containing a list of
management functions and business activities that will require unanimous
consent of the Arena and Potomac directors.
Arena and Potomac will equally share development costs of the Project
once their capital accounts have equalized. To date, Potomac has
incurred project development costs of $30,000. Arena will fund 100% of
the next $30,000 in development costs to equalize its capital account
with Potomac's. Thereafter, Arena and Potomac will each be responsible
for one-half of the development costs of the Project.
If a Project Development Fee is included in long term project debt
financing, this development fee will be split equally among Arena and
Potomac to offset each groups development costs.
The Basic Contract for Small Carbon Exploration/Exploitation between
Ecocarbon and Erasmo Potomac, will be formally assigned to Newco within
60 days of Newco's formation.
This Memorandum of Understanding is binding on Arena and Potomac.
This Agreement is dated effective December 2, 1998.
/s/Daniel P. Werner /s/Carl Swan
Daniel P. Werner Carl Swan
Vice President, Potomac Energy Corporation
Arena Power Company, General Partner of
Arena Power, L.P.
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EXHIBIT 3.1
<TABLE>
<CAPTION>
STATE OR JURISDICTION OF
INCORPORATION OR NAME UNDER WHICH
SUBSIDIARIES OF REGISTRANT ORGANIZATION SUBSIDIARIES DO BUSINESS
<S> <C> <C>
1.) Potomac Energy (BVI), Ltd. Tortola, British Virgin Islands Potomac (BVI), Ltd.
2.) Magdalena Energia, LLC Texas Magdalena Energia
3.) Carbones De Guaduas, Ltd. Bogota, Colombia Carbones De Guaduas
4.) Potomac Exploration Acquisition Corporation Oklahoma Potomac Exploration Acquisition
Corporation
</TABLE>
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<PAGE>
EXHIBIT 4.1
POTOMAC ENERGY CORPORATION
NON-QUALIFIED STOCK OPTION PLAN
ARTICLE I
GENERAL PROVISIONS
On JANUARY 28, 1998, Potomac Energy Corporation (the "Company")
adopted the Potomac Energy Corporation Non-Qualified Stock Option Plan (the
"Plan").
1.1 PURPOSE. The purpose of the Plan shall be to attract, retain and
motivate directors, executive officers, key employees and independent
contractors and consultants of the Company and its subsidiaries ("Eligible
Persons") by way of granting (i) non-qualified stock options ("Stock
Options") with stock appreciation rights attached ("Stock Option SARs"). For
the purpose of this Plan, Stock Option SARs are sometimes herein called
"SARs." The Stock Options to be granted are intended to be "non-qualified
stock options" as described in Sections 83 and 421 of the Internal Revenue
Code of 1986, as amended (the "Code"). Furthermore, under the Plan, the terms
"parent" and "subsidiary" shall have the same meaning as set forth in
Subsections (e) and (f) of Section 425 of the Code unless the context herein
clearly indicates to the contrary.
1.2 GENERAL. The terms and provisions of this Article I shall be
applicable to Stock Options and SARs unless the context herein clearly
indicates to the contrary.
1.3 ADMINISTRATION OF THE PLAN. The Plan shall be administered by
the Board of Directors (the "Board") of the Company.
1.3.1 BOARD ADMINISTRATION. The Board shall have the power
where consistent with the general purpose and intent of the Plan to
(i) modify the requirements of the Plan to conform with the law or
to meet special circumstances not anticipated or covered in the
Plan, (ii) suspend or discontinue the Plan, (iii) establish
policies, and (iv) adopt rules and regulations and prescribe forms
for carrying out the purposes and provisions of the Plan including
the form of any "stock option agreements" ("Stock Option
Agreements").
1.3.2 PLAN INTERPRETATION. Unless otherwise provided in the
Plan, the Board shall have the authority to interpret and construe
the Plan, and determine all questions arising under the Plan and any
agreement made pursuant to the Plan. Any interpretation, decision or
determination made by the Board shall be final, binding and
conclusive.
1.3.3 SELECTION OF PARTICIPANTS. In designating and
selecting Eligible Persons ("Participants") for participation in the
Plan, the Board may consult with and give consideration to the
recommendations and criticisms submitted by appropriate managerial
and executive officers of the Company. The Board also shall take
into account the duties and responsibilities of the Eligible
Persons, their past, present and potential contributions to the
success of the Company and such other factors as the Board shall
deem relevant in connection with accomplishing the purpose of the
Plan.
1.4 SHARES SUBJECT TO THE PLAN. Shares of stock ("Stock") covered by
Stock Options and SARs shall consist of 950,000 shares of the Common Stock,
$.01 par value, of the Company, subject to adjustment pursuant to Section 1.7
of the Plan, which may be either authorized and unissued shares or treasury
shares, as determined in the sole discretion of the Board. If any Option for
shares of Stock, granted to a Participant lapses, or is otherwise terminated,
the Board may grant Stock Options and SARs for such shares of Stock to other
Participants. However, Stock Options and SARs shall not be granted again for
shares of Stock which have been (i) subject to SARs which are surrendered in
exchange for cash or shares of Stock issued pursuant to the exercise of SARs
as provided in Article II hereof and (ii) shares withheld for tax withholding
requirements.
1.5 PARTICIPATION IN THE PLAN. The Board shall determine from time
to time those Eligible Persons who are to be granted Stock Options and SARs
and the number of shares of Stock covered thereby. The maximum number of
shares of
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Stock for which an employee-Director may be granted Stock Options in any
calendar year shall not exceed 25 percent of the aggregate number of shares
of Stock with respect to which Options may be granted under the Plan.
1.6 DETERMINATION OF FAIR MARKET VALUE. As used in the Plan, "fair
market value" shall mean on any particular day (i) if the Stock is listed or
admitted for trading on any national securities exchange or the SmallCap
Market System or the National Market System of NASDAQ Stock Market, Inc.
("NASDAQ"), the last sale price, or if no sale occurred, the mean between the
closing high bid and low asked quotations, for such day of the Stock, (ii) if
Stock is not traded on any national securities exchange but is quoted on an
automated quotation system or any similar system of automated dissemination
of quotations or securities prices in common use, the mean between the
closing high bid and low asked quotations for such day of the Stock on such
system, (iii) if neither clause (i) nor (ii) is applicable, the mean between
the high bid and low asked quotations for the Stock as reported by the
National Daily Quotation Bureau, Incorporated if at least two securities
dealers have inserted both bid and asked quotations for shares of the Stock
on at least five (5) of the ten (10) preceding days, (iv) in lieu of the
above, if actual transactions in the shares of Stock are reported on a
consolidated transaction reporting system, the last sale price of the shares
of Stock on such system or, (v) if none of the conditions set forth above is
met, the fair market value of shares of Stock as determined by the Board.
Provided, however, for purposes of determining "fair market value" of the
Common Stock of the Company, such value shall be determined without regard to
any restriction other than a restriction which will never lapse.
1.7 ADJUSTMENTS UPON CHANGES IN CAPITALIZATION. The grants of Stock
Options shall in no way affect the right of the Company to adjust,
reclassify, reorganize or otherwise change its capital or business structure
or to merge, consolidate, dissolve, liquidate or sell or transfer all or any
part of its assets or business. The aggregate number of shares of Stock under
Stock Options granted under the Plan, the Option Price and the total number
of shares of Stock which may be purchased by a Participant on exercise of a
Stock Option shall be appropriately adjusted by the Board to reflect any
recapitalization, stock split, merger, consolidation, reorganization,
combination, liquidation, stock dividend or similar transaction involving the
Company. Provided, however, and notwithstanding the foregoing, (i) a
dissolution or liquidation of the Company, (ii) a merger or consolidation in
which the Company is not the surviving or the resulting corporation or (iii)
a reverse merger in which the Company is the surviving entity but in which
the securities possessing more than 50 percent of the total combined voting
power of the Company's outstanding securities are transferred to a person or
persons different from those who held such securities immediately prior to
the merger (collectively referred to herein as a "Corporate Transaction"),
shall cause the Plan and any Stock Option or SAR granted thereunder, to
terminate upon the effective date of such dissolution, liquidation, merger or
consolidation, subject to Section 1.21 of the Plan. Provided, further, that
for the purposes of this Section 1.7, if any merger, consolidation or
combination occurs in which the Company is not the surviving corporation and
is the result of a mere change in the identity, form or place of organization
of the Company accomplished in accordance with Section 368(a)(1)(F) of the
Code, then, such event will not cause a termination of the Plan. Appropriate
adjustment may also be made by the Board in the terms of a SAR to reflect any
of the foregoing changes.
1.8 AMENDMENT AND TERMINATION OF THE PLAN. The Plan shall terminate
at midnight, DECEMBER 31, 2008, but prior thereto may be altered, changed,
modified, amended or terminated by written amendment approved by the Board.
Provided, that no action of the Board may amend the Plan in any manner which
would impair the applicability of Rule 16b-3 under the Securities Exchange
Act of 1934, as amended, to the Plan. Except as provided in this Article I,
no amendment, modification or termination of the Plan shall in any manner
adversely affect any Stock Option or SAR theretofore granted under the Plan
without the consent of the affected Participant.
1.9 EFFECTIVE DATE. The Plan shall be effective JUNE 12, 1998 (the
"Effective Date").
1.10 SECURITIES LAW REQUIREMENTS. The Company shall have the right,
but not the obligation to cause the shares of Stock issuable upon exercise of
the Options to be registered under the Securities Act of 1933, as amended
(the "Securities Act") or the securities laws of any state or jurisdiction.
1.10.1 RESTRICTIONS ON TRANSFERABILITY AND LEGEND ON
CERTIFICATES. As a condition precedent to the grant of any Stock
Option or the issuance or transfer of shares pursuant to the
exercise of any Stock Option, the Company may require the
Participant or holder to take any reasonable action to meet such
requirements or to obtain such approvals. The Company shall have the
right to restrict the transferability of shares of Stock issued or
transferred upon exercise of the Stock Options in such manner as it
deems necessary or appropriate to insure the availability of any
exemption from registration under the Securities Act and any other
applicable securities laws or regulations that may be available,
including the endorsement with a legend reading as follows:
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The shares of Common Stock evidenced by this certificate have been
issued to the registered owner in reliance upon written
representations that these shares have been purchased solely for
investment purposes. These shares may not be sold, transferred or
assigned unless in the opinion of the Company and its legal counsel
such sale, transfer or assignment will not be in violation of the
Securities Act of 1933, as amended, and the rules and regulations
thereunder.
1.10.2 REGISTRATION STATEMENT. If a registration statement
covering the shares of Stock issuable upon exercise of the Stock
Options granted under the Plan is filed under the Securities Act,
and is declared effective the Securities and Exchange Commission,
the provisions of Section 1.10.1 shall terminate during the period
of time that such registration statement, as periodically amended,
remains effective.
1.11 SEPARATE CERTIFICATES. Separate certificates representing the
Common Stock of the Company to be delivered to a Participant upon the
exercise of any Stock Option and SAR will be issued to such Participant.
1.12 PAYMENT FOR STOCK; RECEIPT OF STOCK OR CASH IN LIEU OF PAYMENT.
1.12.1 PAYMENT FOR STOCK. Payment for shares of Stock
purchased under this Plan shall be made (i) in full and in cash or
check made payable to the Company or (ii) may also be made in Common
Stock of the Company held for the requisite period necessary to
avoid a charge to the Company's reported earnings and valued at fair
market value on the date of exercise of the Option, or (iii) a
combination of cash and Common Stock of the Company. In the event
that Common Stock of the Company is utilized in consideration for
the purchase of Stock upon the exercise of an Option, such Common
Stock shall be valued at the "fair market value" as defined in
Section 1.6 of the Plan.
1.12.2 RECEIPT OF STOCK IN LIEU OF CASH PAYMENT.
Furthermore, a Participant may exercise an Option without payment of
the Option Price in the event that the exercise is pursuant to
rights under an SAR attached to the Option and such SAR is
exercisable on the date of exercise of the Stock Option to which it
is attached. In the event a Stock Option with an SAR attached is
exercised without payment of the Option Price in cash or by check or
Common Stock of the Company, the Participant shall be entitled to
receive either (i) a cash payment from the Company equal to the
excess of the total fair market value of the shares of Stock on such
date as determined with respect to which the Stock Option is being
exercised over the total cash Option Price of such shares of Stock
as set forth in the Stock Option SAR or (ii) that number of whole
shares of Stock as is determined by dividing (A) an amount equal to
the fair market value per share of Stock on the date of exercise
into (B) an amount equal to the excess of the total fair market
value of the shares of Stock on such date with respect to which the
Stock Option SAR is being exercised over the total cash Option Price
of such shares of Stock as set forth in the Stock Option SAR, and
fractional shares will be rounded to the next lowest number and the
Participant will receive cash in lieu thereof.
1.13 INCURRENCE OF DISABILITY AND RETIREMENT. A Participant shall be
deemed to have terminated his employment as an employee, his independent
contractor arrangement or consulting arrangement with the Company and
incurred a disability ("Disability") if such Participant suffers a physical
or mental condition which, in the judgment of the Board, totally and
permanently prevents a Participant from engaging in any substantial gainful
employment with or the providing of services or consulting for the Company or
a subsidiary. A Participant shall be deemed to have terminated employment as
an employee, independent contractor or a consultant due to retirement
("Retirement") if such Participant ceases to be an employee, independent
contractor or a consultant of the Company or its subsidiary, without cause,
after attaining the age of 55.
1.14 STOCK OPTIONS GRANTED SEPARATELY. Because the Board is
authorized to grant Stock Options and SARs to Participants, the grant thereof
and Stock Option Agreements relating thereto will be made separately and
totally independent of each other.
1.15 GRANTS OF OPTIONS AND STOCK OPTION AGREEMENT. Each Stock Option
and Stock Option SAR granted under this Plan shall be evidenced by the
minutes of a meeting of the Board or by the written consent of the Board and
by a written Stock Option Agreement effective on the date of grant and
executed by the Company and the Participant. Each Stock Option and Stock
Option SAR granted hereunder shall contain such terms, restrictions and
conditions as the Board may determine, which terms, restrictions and
conditions may or may not be the same in each case.
1.16 USE OF PROCEEDS. The proceeds received by the Company from the
sale of Stock pursuant to the exercise of Stock Options granted under the Plan
shall be added to the Company's general funds and used for general corporate
purposes.
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1.17 NON-TRANSFERABILITY OF OPTIONS. Except as otherwise herein
provided, any Stock Option or Stock Option SAR granted shall not be
transferable otherwise than by will or the laws of descent and distribution
or with the consent of the Company, and the Stock Option and Stock Option SAR
may be exercised, during the lifetime of the Participant, only by him. More
particularly (but without limiting the generality of the foregoing), the
Stock Option and Stock Option SAR may not be assigned, transferred (except as
provided above), pledged or hypothecated in any way, shall not be assignable
by operation of law and shall not be subject to execution, attachment, or
similar process. Any attempted assignment, transfer, pledge, hypothecation,
or other disposition of the Stock Option or Stock Option SAR contrary to the
provisions hereof shall be null and void and without effect.
1.18 ADDITIONAL DOCUMENTS ON DEATH OF PARTICIPANT. No transfer of a
Stock Option or Stock Option SAR by the Participant by will or the laws of
descent and distribution shall be effective to bind the Company unless the
Company shall have been furnished with written notice and an unauthenticated
copy of the will and/or such other evidence as the Board may deem necessary
to establish the validity of the transfer and the acceptance by the successor
to the Stock Option or Stock Option SAR of the terms and conditions of such
Stock Option or Stock Option SAR.
1.19 CHANGES IN EMPLOYMENT. So long as the Participant shall
continue to be a director, an employee, an independent contractor or a
consultant of the Company or any one of its subsidiaries, any Stock Option or
Stock Option SAR granted to such Participant shall not be affected by any
change of duties or position. Nothing in the Plan or in any Stock Option
Agreement which relates to the Plan shall confer upon any Participant any
right to continue as a director or in the employ as an employee, independent
contractor or consultant of the Company or of any of its subsidiaries, or
interfere in any way with the right of the Company or any of its subsidiaries
to terminate such Participant as a director, employee or independent
contractor or consultant at any time.
1.20 SHAREHOLDER RIGHTS. No Participant shall have a right as a
shareholder with respect to any shares of Stock subject to a Stock Option or
Stock Option SAR prior to the purchase of such shares of Stock by exercise of
the Stock Option or Stock Option SAR.
1.21 RIGHT TO EXERCISE UPON COMPANY CEASING TO EXIST. In the event
of a Corporate Transaction, the Participant shall have the right immediately
prior to consummation of the Corporate Transaction to exercise, in whole or
in part, such Participant's then remaining Stock Options and Stock Option
SARs whether or not then exercisable, but limited to that number of shares
that can be acquired without causing the Participant to have an "excess
parachute payment" as determined under Section 280G of the Code determined by
taking into account all of Participant's "parachute payments" determined
under Section 280G of the Code. Provided, the foregoing notwithstanding,
after the Participant has been afforded the opportunity to exercise his then
remaining Stock Options and Stock Option SARs as provided in this Section
1.21, and to the extent such Stock Options and Stock Option SARs are not
timely exercised as provided in this Section 1.21, then, the terms and
provisions of this Plan and any Stock Option Agreement will thereafter
continue in effect, and the Participant will be entitled to exercise any such
remaining and unexercised Options in accordance with the terms and provisions
of this Plan and such Stock Option Agreement as such Stock Options and Stock
Option SARs thereafter become exercisable. Provided further, that for the
purposes of this Section 1.21, if any merger, consolidation or combination
occurs in which the Company is not the surviving corporation and is the
result of a mere change in the identity, form, or place of organization of
the Company accomplished in accordance with Section 368(a)(1)(F) of the Code,
then, such event shall not cause an acceleration of the exercisability of any
such Stock Options and Stock Option SARs granted hereunder.
1.22 ASSUMPTION OF OUTSTANDING STOCK OPTIONS AND STOCK OPTION SARS.
Any successor to the Company succeeding to, or assigned the business of, the
Company as the result of or in connection with a corporate merger,
consolidation, combination, reorganization, dissolution or liquidation
transaction shall assume all Stock Options and Stock Option SARs outstanding
under the Plan or issue new Stock Options and Stock Option SARs in place of
outstanding Stock Options and/or Stock Option SARs under the Plan.
1.23 TAX WITHHOLDINGS. The Company's obligation to deliver Stock
upon the exercise of Stock Options or Stock Option SARs under the Plan shall
be subject to the satisfaction of all applicable federal, state and local
income tax withholding requirements. The Board may in its discretion and in
accordance with the provisions of Section 1.23 and such supplemental rules as
the Board may from time to time adopt, provide any or all holders of Stock
Options or Stock Option SARs with the right to use shares of Stock in
satisfaction of all or part of the federal, state and local income tax
liabilities incurred by such holders in connection with the exercise of their
Stock Options or Stock Option SARs ("Taxes"). Such right may be provided to
any such holders of Stock Options or Stock Option SARs in either or both of
the following methods: (i) the holder of a Stock Option or Stock Option SAR
may be provided with the election, which may be subject to approval by the
Board, to have the Company withhold, from the Stock otherwise issuable upon
exercise of such Stock Option or Stock
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Option SAR, a portion of those shares of Stock with an aggregate fair market
value equal to the percentage (not to exceed 100 percent) of the applicable
Taxes designated by the holder of the Options, and/or (ii) the Board may, in
its discretion, provide the holder of the Stock Options or Stock Option SARs
with the election to deliver to the Company, at the time the Stock Option or
Stock Option SAR is exercised, one or more shares of Stock previously
acquired by such holder (other than pursuant to the transaction triggering
the Taxes) with an aggregate fair market value equal to the percentage (not
to exceed 100 percent) of the Taxes incurred in connection with such Stock
Option or Stock Option SAR exercise designated by such holder.
1.24 GOVERNING LAW. The Plan shall be governed by and all questions
hereunder shall be determined in accordance with the laws of the State of
Oklahoma.
ARTICLE II
TERMS OF STOCK OPTIONS AND EXERCISE
2.1 GENERAL TERMS.
2.1.1 GRANT AND TERMS FOR STOCK OPTIONS. Stock Options and
Stock Option SARs shall be granted by the Board on the following
terms and conditions: No Stock Options and Stock Option SARs shall
be exercisable more than 10 years after the date of grant. Subject
to such limitation, the Board shall have the discretion to fix the
period (the "Option Period") during which any Stock Option or Stock
Option SAR may be exercised. Stock Options and Stock Option SARs
granted shall not be transferable except by will or by the laws of
descent and distribution or with the consent of the Company. Stock
Options and Stock Option SARs shall be exercisable only by the
Participant while serving as a Director of the Company or a
subsidiary or while actively employed as an employee, an independent
contractor or a consultant by the Company or a subsidiary, except
that (i) any such Stock Option granted and which is otherwise
exercisable, may be exercised by the personal representative of a
deceased Participant within 12 months after the death of such
Participant (but not beyond the Option Period of such Stock Option),
(ii) if a Participant is terminated as a Director, an employee, an
independent contractor or a consultant of the Company or a
subsidiary on account of Retirement, such Participant may exercise
any Stock Option which is otherwise exercisable at any time within
three months of such date of termination, or (iii) if a Participant
is terminated as a Director, as an employee, an independent
contractor or a consultant of the Company or a subsidiary on account
of incurring a Disability, such Participant may exercise any Stock
Option which is otherwise exercisable at any time within 12 months
of such date of termination. If a Participant should die during the
applicable three-month or 12-month period following the date of such
Participant's Retirement or termination on account of Disability,
the rights of the personal representative of such deceased
Participant as such relate to any Stock Options and Stock Option
SARs granted to such deceased Participant shall be governed in
accordance with Subsection 2.1.1(i) of this Article II.
2.1.2 OPTION PRICE. The option price ("Option Price") for
shares of Stock subject to Stock Options and Stock Option SARs shall
be determined by the Board, but in no event shall such Option Price
be less than 85 percent of the fair market value of the Stock on the
date of grant.
2.1.3 ACCELERATION OF OTHERWISE UNEXERCISABLE STOCK OPTION
ON RETIREMENT, DEATH, DISABILITY OR OTHER SPECIAL CIRCUMSTANCES. The
Board, in its sole discretion, may permit (i) a Participant who is
terminated as a Director, an employee, an independent contractor or
a consultant due to Retirement or Disability, (ii) the personal
representative of a deceased Participant, or (iii) any other
Participant who is terminated as a Director, an employee, an
independent contractor or a consultant upon the occurrence of
special circumstances (as determined by the Board), to exercise and
purchase (within three years of such date of such Participant's
termination) all or any part of the shares subject to Stock Options
and Stock Option SARs on the date of the Participant's termination,
Retirement, Disability, death, or as the Board otherwise so
determines, notwithstanding that all installments, if any, with
respect to such Stock Option or Stock Option SAR, had not accrued on
such termination date.
2.1.4 NUMBER OF STOCK OPTIONS GRANTED. Participants may be
granted more than one Stock Option and Stock Option SAR. In making
any such determination, the Board shall obtain the advice and
recommendation of the officers of the Company or a subsidiary which
have supervisory authority over such Participants. The granting of a
Stock Option or Stock Option SAR under the Plan shall not affect any
outstanding Stock Options or Stock Option SARs previously granted to
a Participant under the Plan.
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2.1.5 NOTICE OF EXERCISE STOCK OPTION. Upon exercise of a
Stock Option or Stock Option SAR, a Participant shall give written
notice to the Secretary of the Company, or other officer designated
by the Board, at the Company's main office in Oklahoma City,
Oklahoma. No Stock shall be issued to any Participant until the
Company receives full payment for the Stock purchased, if
applicable, and any required Taxes as provided in the Plan and the
Stock Option Agreement.
ARTICLE III
SARS
3.1 GENERAL TERMS.
3.1.1 GRANT AND TERMS OF SARS. The Board grant SARs to
Participants in connection with Stock Options granted under the
Plan. SARs shall terminate at such time as the Board determines and
shall be exercised only upon surrender of the related Stock Option
and only to the extent that the related Stock Option (or the portion
thereof as to which the SAR is exercisable) is exercised. SARs may
be exercised only by the Participant while a director, an employee,
an independent contractor or a consultant of the Company or a
subsidiary except that (i) any SARs previously granted to a
Participant which are otherwise exercisable may be exercised, with
the approval of the Board, by the personal representative of a
deceased Participant (but not beyond the expiration date of such
SAR), and (ii) if a Participant is terminated as a director, an
employee, an independent contractor or a consultant of the Company
or a subsidiary, as the case may be, on account of Retirement or
Disability, such Participant may exercise any SARs which are
otherwise exercisable, with the approval of the Board, anytime
within three months of the date of the termination by Retirement or
within 12 months of termination by Disability. If a Participant
should die during the applicable three-month period following the
date of such Participant's Retirement or during the applicable 12
month period following the date of termination on account of
Disability, the rights of the personal representative of such
deceased Participant as such relate to any SARs granted to such
deceased Participant shall be governed in accordance with (i) of the
second sentence of this Subsection 3.1.1. The applicable SAR shall
(i) terminate upon the termination of the underlying Stock Option
(ii) only be transferable at the same time and under the same
conditions as the underlying Stock Option is transferable, (iii)
only be exercised when the underlying Stock Option is exercised, and
(iv) may be exercised only if there is a positive spread between the
Option Price and the fair market value of the Stock for which the
SAR is exercised.
3.1.2 ACCELERATION OF OTHERWISE UNEXERCISABLE SARS ON
RETIREMENT, DEATH, DISABILITY OR OTHER SPECIAL CIRCUMSTANCES. The
Board, in its sole discretion, may permit (i) a Participant is
terminated as a director, an employee, an independent contractor, or
a consultant with the Company or a subsidiary due to Retirement or
Disability, (ii) the personal representative of such deceased
Participant, or (iii) any other Participant who is terminated as
director, an employee, an independent contractor or a consultant
with the Company or a subsidiary upon the occurrence of special
circumstances (as determined by the Board) to exercise (within three
years of such date of such termination) all or any part of any such
SARs previously granted to such Participant as of the date of such
Participant's termination, Retirement, Disability, death, or as the
Board otherwise so determines, notwithstanding that all
installments, if any with respect to such SARs, had not accrued on
such date.
3.1.3 FORM OF PAYMENT OF SARS. The Participant may request
the method and combination of payment upon the exercise of a SAR;
however, the Board has the final authority to determine whether the
value of the SAR shall be paid in cash or shares of Stock or both.
Upon exercise of a SAR, the holder is entitled to receive the excess
amount of the fair market value of the Stock (as of the date of
exercise) for which the SAR is exercised over the Option Price under
the related Stock Option. All applicable Taxes will be paid by the
Participant to the Company upon the exercise of a SAR in accordance
with Section 1.23.
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