<PAGE>
RULE NO. 424(b)(4)
REGISTRATION NO. 33-04612
PROSPECTUS
U.S. ENERGY SYSTEMS, INC.
205,000 SHARES OF COMMON STOCK
----------------
This Prospectus relates to the offering ("Secondary Offering") by Anchor
Capital Company LLC ("Anchor") of 205,000 shares of Common Stock of the
Company, such shares of Common Stock (collectively, the "Securities") to be
sold from time to time by Anchor (the "Selling Securityholders") following
completion of the Primary Offering (as defined below). Concurrently with this
Secondary Offering, the Company is offering for sale to the public, by means
of a separate prospectus, 3,100,000 shares of Common Stock and 3,100,000
Warrants (the "Primary Offering").
Anchor has agreed that it will not sell its 205,000 shares of Common Stock
without the consent of Gaines, Berland Inc. (the "Representative") for a
period of nine months from the date of consummation of the Primary Offering.
The Company's Common Stock is sporadically traded on the NASD OTC Bulletin
Board. Prior to this Secondary Offering, there has been no public market for
the Warrants nor has there been an established trading market for the Common
Stock. There can be no assurance that such a market will develop for the
Securities as a result of this Secondary Offering. The Common Stock and the
Warrants have been approved for quotation on the Nasdaq SmallCap Market under
the symbols USEY and USEYW, respectively.
----------------
THESE SECURITIES ARE SPECULATIVE IN NATURE, INVOLVE A HIGH DEGREE OF RISK
AND SUBSTANTIAL DILUTION AND SHOULD BE CONSIDERED ONLY BY PERSONS
WHO CAN AFFORD THE LOSS OF THEIR ENTIRE INVESTMENT. SEE "RISK
FACTORS" BEGINNING ON PAGE 9.
----------------
THESE SECURITIES HAVE NOT BEEN APPROVED OR DISAPPROVED BY THE SECURITIES AND
EXCHANGE COMMISSION OR ANY STATE SECURITIES COMMISSION NOR HAS THE
SECURITIES AND EXCHANGE COMMISSION OR ANY STATE SECURITIES COMMISSION
PASSED UPON THE ACCURACY OR ADEQUACY OF THIS PROSPECTUS. ANY
REPRESENTATION TO THE CONTRARY IS A CRIMINAL OFFENSE.
THE DATE OF THIS PROSPECTUS IS DECEMBER 2, 1996
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AVAILABLE INFORMATION
The Company is subject to informational requirements of the Securities
Exchange Act of 1934, as amended (the "Exchange Act"), and in accordance
therewith files reports, proxy statements and other information with the
Securities and Exchange Commission (the "Commission"). Reports, proxy
statements and other information filed by the Company with the Commission can
be inspected without charge and copied at prescribed rates at the public
reference facilities maintained by the Commission at Room 1024, 450 Fifth
Street N.W., Washington, D.C. 20549 and at the Commission's regional offices
located at Seven World Trade Center, Suite 1300, New York, New York 10048, and
Suite 1400, Citicorp Center, 500 West Madison Street, Chicago, Illinois 60661.
The Company's Common Stock is quoted on the NASD OTC Bulletin Board and
certain of the Company's reports, proxy materials and other information may be
available for inspection at the offices of the National Association of
Securities Dealers, Inc., 1735 K Street, N.W., Washington, D.C. 20006. The
Commission maintains a web site that contains reports, proxy and information
statements and other information regarding issuers that file electronically
with the Commission. The address of such web site is http://www.sec.gov.
The Company has filed with the Commission a Registration Statement on Form
SB-2 under the Securities Act of 1933, as amended ("Securities Act"), with
respect to the securities offered hereby. This Prospectus does not contain all
of the information set forth in the Registration Statement, certain parts of
which have been omitted in accordance with the rules and regulations of the
Commission. For further information with respect to the Company and the
securities offered hereby, reference is made to the Registration Statement,
including the exhibits filed as part thereof and otherwise incorporated
therein. Copies of the Registration Statement and the exhibits may be
inspected, without charge, at the offices of the Commission, or obtained at
prescribed rates from the Public Reference Section of the Commission at the
address set forth above.
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IN CONNECTION WITH THIS OFFERING, THE UNDERWRITERS MAY OVER-ALLOT OR EFFECT
TRANSACTIONS WHICH STABILIZE OR MAINTAIN THE MARKET PRICES OF THE COMMON STOCK
OR WARRANTS AT LEVELS ABOVE THOSE WHICH MIGHT OTHERWISE PREVAIL IN THE OPEN
MARKET. SUCH STABILIZING, IF COMMENCED, MAY BE DISCONTINUED AT ANY TIME.
OFFERS AND SALES IN CALIFORNIA AND OREGON MAY ONLY BE MADE TO ACCREDITED
INVESTORS WHO MEET A SUITABILITY STANDARD OF EITHER (A) $65,000 GROSS ANNUAL
INCOME AND AN EXCLUSIVE NET WORTH (NET WORTH EXCLUSIVE OF HOME, HOME
FURNISHINGS AND AUTOMOBILES) OF NOT LESS THAN $250,000; OR (B) AN EXCLUSIVE
NET WORTH OF $500,000.
OFFERS AND SALES IN NEW JERSEY MAY BE MADE ONLY TO INVESTORS WHO MEET THE
FOLLOWING SUITABILITY STANDARDS: EITHER (A) INDIVIDUAL GROSS ANNUAL INCOME IN
EXCESS OF $100,000 AND NET WORTH OF NOT LESS THAN $250,000; OR (B) NET WORTH
OF $500,000.
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PROSPECTUS SUMMARY
The following summary is qualified in its entirety by the more detailed
information and financial statements, including notes thereto, appearing
elsewhere in this Prospectus. Each prospective investor is urged to read this
Prospectus in its entirety. At or prior to the consummation of the Primary
Offering, the Company will consummate the following transactions (the "Closing
Transactions"): (i) the acquisition of a 95% interest in two geothermal plants
known as Steamboat 1 and 1A for $4,741,000 (including $50,000 as a downpayment
which was previously paid by the Company) (the "Steamboat Acquisition"), (ii)
the acquisition of an 81.5% interest in NRG Company LLC ("NRG") for $265,000,
to enable NRG to make a loan of $250,000 to Reno Energy LLC ("Reno Energy"),
developer of a district heating project to be fueled by geothermal sources, to
secure for NRG an option to obtain a 50% interest in Reno Energy, (iii) the
conversion of $500,000 of convertible subordinated debentures (the "Convertible
Debentures") into 125,000 shares of Common Stock and 125,000 Warrants (the
"Private Warrants") having the same terms and conditions as the Warrants (the
"Debenture Conversion") and (iv) the exchange of the 57,500 currently
outstanding shares of the Company's Series One Preferred Stock for 205,000
shares of Common Stock (the "Preferred Stock Exchange"). The consummation of
the Primary Offering is a condition to the consummation of the Closing
Transactions and the consummation of the Closing Transactions is a condition to
the consummation of each of the Primary Offering and this Secondary Offering.
Accordingly, if any of the Closing Transactions is not consummated, each of the
Primary Offering and this Secondary Offering will be terminated. Except as
otherwise indicated, all information in this Prospectus assumes no exercise of
the Warrants offered hereby or any of the Company's other outstanding options
and warrants to purchase Common Stock. Although this Prospectus is written as
though the Secondary Offering is concurrent with the Primary Offering, the
Secondary Offering will not commence until the Primary Offering has been
consummated. All numbers and amounts specified herein reflect a one for forty
reverse stock split effective May 6, 1996, unless otherwise indicated.
THE COMPANY
U.S. Energy Systems, Inc. is engaged in the cogeneration and independent
power plant ("IPP") industries as a project developer, owner and operator.
Cogeneration is the process of producing two or more energy forms (typically
electricity and heat) simultaneously from the same fuel source. A cogeneration
facility is a power plant which produces electricity and, simultaneously,
recovers waste heat to use in place of heat which would otherwise be made from
conventional sources such as furnaces or boilers. An IPP is a power plant which
is not owned and operated by a regulated public electric utility company.
Frequently, IPPs are cogeneration facilities. Federal and state laws have been
promulgated to promote competition in the sale of electric energy and to
encourage cogeneration and independent power facilities.
The Company's strategy is to seek projects requiring power production or
cogeneration and to become an equity participant with the owners, developers or
other involved parties in return for the Company's expertise in the
structuring, design, management and operation of the projects. Often, at the
time of the Company's initial involvement, such projects will have advanced
beyond the conceptualization stage to a point where the engineering, management
and project coordination skills the Company offers are required to proceed.
Projects in which the Company is involved or is negotiating to become involved
include (a) acquiring and operating existing IPPs and cogeneration facilities
in the United States, (b) developing, constructing, and operating new IPPs and
cogeneration facilities in the United States and in certain overseas markets,
(c) designing and constructing cogeneration and IPPs for third party owners,
and (d) developing, constructing and selling energy-efficient products using
cogeneration technology such as non-electric air conditioning.
As a major element of its strategy, the Company intends to focus on projects
such as shopping malls, healthcare centers, food processing centers, hotels and
other facilities where large quantities of electricity, air
3
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conditioning and hot water are required on a continuous and simultaneous basis.
The Company has signed a letter of intent with the owners of Bluebeard's
Castle, a large resort and commercial complex in St. Thomas, United States
Virgin Islands ("USVI"), to build and operate a 3 megawatt cogeneration plant
and a 120,000 gallon per day water recovery system in the resort's property.
Under the letter of intent the Company, the resort manager and the resort
owners would own the cogeneration plant and water system and share revenues.
The Company has received initial funding from the resort owners and the first
of six engine generators was installed during September 1996. The Company has
also entered into a joint development agreement with the Cowen Investment Group
("Cowen") to develop, build and operate cogeneration plants at shopping malls.
Toward this end, the joint venture has been in discussions with two of the
major mall owners in the United States. Under the joint development agreement,
savings from the cogeneration systems would be shared equally by the mall
owners and the joint development company (in which the Company would have a 40%
profit interest). Under the joint development agreement, the Company will
perform all project development functions other than securing the financing.
See "Business--Current Operations and On-Going Projects."
The Company has a history of losses substantially throughout its existence
and, except for the distribution of $20,000 from the Plymouth State College
project (described below) in August 1996, has not received any cash
distributions from its investments since emerging from bankruptcy in 1993. To
provide the Company with a source of revenues to enable it to expand its
business, concurrently with the Primary Offering, the Company will acquire, for
a total investment of $4,741,000 (including $50,000 as a downpayment which was
previously paid by the Company), a 95% interest in two geothermal power plants,
known as Steamboat 1 and 1A, in Steamboat Hills, Nevada (the "Steamboat
Facilities"). Electricity is produced in geothermal plants by extracting heat
from the earth to drive turbines, thereby generating the electricity.
Geothermal power is considered a highly environmentally sound method of
producing electricity, but it can only be produced in areas where specific
geological formations exist. A substantial portion of the net proceeds of the
Primary Offering will be used for the Steamboat Acquisition. The Company
regards the Steamboat Acquisition as a key element toward achieving its
objectives in the independent power plant industry.
In January 1994, the Company purchased a 50% equity interest in a limited
liability company which owns a cogeneration facility in Lehi, Utah. The Company
expects the Lehi plant to be operational in the fourth quarter of this fiscal
year, provided that it obtains the necessary air quality permits. However, the
Company and its partners may decide to sell a portion of the operating
machinery and to purchase replacement equipment, thereby increasing the plant's
output capacity and efficiency. If such sale and replacement is undertaken, the
receipt of operational revenues would be delayed until the second quarter of
the next fiscal year. As there are no contracts in effect at this time for the
sale of power from this plant, receipt of revenues will also be dependent upon
the Company entering into such contracts with customers. See "Business--Current
Operations and On-Going Projects--Lehi Cogeneration Project."
The Steamboat and Lehi projects enable the Company to participate in what it
believes is a growing market for independently produced electricity in the
western United States. Additionally, in 1994 the Company acquired a 50%
interest in a partnership which owns and operates a cogeneration plant which
produces 2.5 megawatts of electricity and 25 million British Thermal Units
("BTUs") for heating at Plymouth State College in Plymouth, New Hampshire. The
Plymouth facility provides 100% of the electrical and heating requirements for
the campus, which is part of the University of New Hampshire system, under a
twenty year contract.
The Company also intends to pursue projects which can utilize waste products
or other alternative fuels, such as used motor oil and tires, which provide
environmental and ecological benefits and also provide potential for earnings
because of low fuel costs. In this regard, the Company will invest $265,000 for
81.5% of NRG. NRG will have an option to acquire 50% of Reno Energy, which
plans to develop a pipeline to distribute and sell excess heat available from
the geothermal resources in Steamboat Hills, Nevada (the "Reno Project").
The Company was incorporated in the State of Delaware on May 6, 1981. The
executive offices of the Company are located at 515 North Flagler Drive, Suite
202, West Palm Beach, Florida 33401. Its telephone number is (561) 820-9779.
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CLOSING TRANSACTIONS
Concurrently with the closing of the Primary Offering, the Company will
acquire a 95% interest in Steamboat Envirosystems, L.C. ("Steamboat LLC"),
which will purchase the Steamboat Facilities from Far West Electric Energy
Fund, L.P. (the current owner of Steamboat 1) and 1-A Enterprises (the current
owner of Steamboat 1-A). Far West Capital, Inc., a Utah corporation ("Far West
Capital"), will own the remaining 5% of Steamboat LLC. The Company will
contribute a total of $4,741,000 (including $50,000 as a downpayment which was
previously paid by the Company) to Steamboat LLC from the proceeds of the
Primary Offering to enable Steamboat LLC to complete the acquisition, to retire
a mortgage and to provide capital for the potential acquisition of certain of
the royalty interests to which the Steamboat Facilities are subject and
improvements to the plants. See "Business--Current Operation and On-Going
Projects--Steamboat Geothermal Power Plants."
The Debenture Conversion and the Preferred Stock Exchange will also occur
concurrently with the Closing of the Primary Offering. These transactions,
combined with the repayment of debt to be made with a portion of the proceeds
of the Primary Offering, will result in a substantial reduction of the
Company's indebtedness. In December 1994 the holders of the Convertible
Debentures agreed to allow the Company to defer one-half of interest payments
due thereafter until the consummation of an underwritten offering of the
Company's securities, when interest payments so accrued would be paid. In March
1996, the Company offered a conversion plan to the debenture holders (the
"Debenture Conversion") whereby the holders could convert on a pro rata basis
up to $500,000 in face amount for 125,000 shares of Common Stock and 125,000
Private Warrants, with the 18% rate of interest reduced to 9% on the
unconverted balance. Twenty-three of the twenty-six debenture holders
representing $1,375,000 face amount of the $1,525,000 total have agreed to the
Debenture Conversion. The $150,000 in principal amount held by the holders
declining the Offer will continue to receive 18% interest, and will not
participate in the Debenture Conversion. See "Description of Securities--
Convertible Debentures," "Certain Transaction" and Pro Forma Financial
Statements.
5
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THE OFFERING
Securities offered..........
205,000 shares of Common Stock. See "Description
of Securities."
Common Stock outstanding
prior to the Primary 439,650 shares
Offering...................
Common Stock to be
outstanding after the 3,869,650 shares(1)(2)
Primary Offering...........
Use of proceeds............. The Company will receive no proceeds from the
sale of the Securities offered hereby.
Nasdaq SmallCap Market
Symbols.................... Common Stock: USEY
Warrants: USEYW
RISK FACTORS
The securities offered hereby are speculative and involve a high degree of
risk and substantial dilution. Among the principal risks to be considered are:
(i) the Company has incurred and continues to incur substantial losses, (ii)
the Company's profitability will be dependent, to a significant extent, on the
continued successful operations of the Steamboat Facilities, (iii) prior to the
Primary Offering, the Company has significant working capital and stockholders'
equity deficits, and (iv) the Company may require additional capital to
undertake future projects. See "Risk Factors."
- --------
(1) Includes (i) 439,650 shares of Common Stock outstanding prior to the
Primary Offering, (ii) 3,100,000 shares of Common Stock being issued
pursuant to the Primary Offering, (iii) 125,000 shares of Common Stock to
be issued in the Debenture Conversion and (iv) 205,000 shares of Common
Stock to be issued in the Preferred Stock Exchange.
(2) Does not include an aggregate of 4,264,975 shares of Common Stock reserved
and to be reserved for issuance following completion of the Primary
Offering including (i) 291,850 shares issuable on exercise of currently
outstanding options and warrants, (ii) 3,845,000 shares issuable on
exercise of the Warrants, the Representative's Purchase Option and the
Warrants issuable on exercise of the Representative's Purchase Option and
the Private Warrants being issued in the Private Placement and the
Debenture Conversion and (iii) 128,125 shares issuable upon conversion of
Convertible Debentures which will remain outstanding after the Primary
Offering.
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SUMMARY FINANCIAL DATA
(IN THOUSANDS, EXCEPT PER SHARE DATA)
The Summary Financial Information set forth below is derived from the
historical financial statements appearing elsewhere in this Prospectus and
should be read in conjunction with such financial statements, including the
notes thereto. The Pro Forma Statements of Operations data for the year ended
January 31, 1996 and the six months ended July 31, 1996 give effect to the
Closing Transactions including the acquisition of a 95% interest in Steamboat
LLC and the 81.5% interest in NRG as if they had occurred at the beginning of
the periods. The Pro Forma Balance sheet data as at July 31, 1996 give effect
to the Offering and to the Closing Transactions as if such transactions had
occurred on such date. See Pro Forma Financial Statements, and historical
financial statements.
STATEMENT OF OPERATIONS DATA:
<TABLE>
<CAPTION>
SIX MONTHS
YEAR ENDED ENDED
YEAR ENDED JANUARY 31, SIX MONTHS ENDED JULY 31,
JANUARY 31, 1996 1995 JULY 31, 1996 1995
---------------------------- ----------- ----------------------- ----------
HISTORICAL PRO FORMA HISTORICAL HISTORICAL PRO FORMA HISTORICAL
USE USE/SB (1) USE USE USE/SB (1) USE
---------- --------------- ----------- ---------- ---------- ----------
<S> <C> <C> <C> <C> <C> <C>
Revenue $ -- $ 3,404 $ -- $ -- $ 1,919 $ --
------- --------- ------- ------- --------- -------
Operating and
administrative
expenses:
Depreciation.......... -- 172 -- -- 86 --
Royalty............... -- 528 -- -- 372 --
Other................. 853 1,856 1,006 408 927 421
Interest (2)............ 604 106 319 328 41 223
Loss from Joint Ven-
tures.................. 17 17 76 92 92 62
------- --------- ------- ------- --------- -------
Income (loss) before in-
come taxes............. (1,474) 725 (1,401) (828) 401 (706)
Income taxes (3)........ -- 244 -- -- 135 --
------- --------- ------- ------- --------- -------
Income (loss) before ex-
traordinary items...... (1,474) 481 (1,401) (828) 266 (706)
Preferred dividends..... 21(4) -- -- 29(4) -- --
------- --------- ------- ------- --------- -------
Income (loss) available
for common stockhold-
ers*................... $(1,495) $ 481 $(1,401) $ (857) $ 266 $ (706)
======= ========= ======= ======= ========= =======
(Loss) per share of Com-
mon Stock*............ $ (3.41) $ (3.38) $ (1.95) $ (1.61)
======= ======= ======= =======
(Loss) per share of Com-
mon Stock--Supplemental
(5)*................... $ (1.30) $ (0.66)
======= =======
Pro forma net income per
share of Common Stock
(6)*.................. $ 0.17 $ 0.09
========= =========
Shares used in computing
net income per share of
Common Stock (6)....... 438,773 2,797,292 415,022 439,650 3,014,708 438,296
======= ========= ======= ======= ========= =======
BALANCE SHEET DATA:
<CAPTION>
JULY 31, 1996
----------------------------
HISTORICAL PRO FORMA (7)
---------- ---------------
AS ADJUSTED
<S> <C> <C>
Current assets.......... $ 21 $2,988
Investment in joint ven-
tures.................. 1,834 1,781
Loan receivable......... -- 300(8)
Property, plant and
equipment.............. -- 5,015
Total assets............ 2,076 10,084
Current liabilities..... 2,815 1,250
Long-term liabilities... 2,818 1,343
Minority interest in
subsidiaries........... -- 334
Working capital......... (2,794) 1,738
Stockholders' equity
(deficit).............. (3,557) 7,157
</TABLE>
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* Before extraordinary item.
(1) Includes (a) adjusted operating results of the Steamboat Facilities for the
year ended December 31, 1995, and the six months ended June 30, 1996; (no
provision for the minority interest is made until the annual net income of
the Steamboat Facilities exceeds $1,800,000), (b) NRG income of 9% interest
on a $300,000 loan to Reno Energy less the 18.5% minority interest in NRG,
(c) elimination of deferred note payable discount, elimination of interest
payments on notes payable and bridge loans to be repaid from the proceeds
of this Offering, and (d) elimination of interest on $500,000 principal
amount of Convertible Debentures converted into Common Stock and Private
Warrants, with $875,000 of the remainder paying interest at 9% per annum.
(2) Adjusted for reduction on $875,000 principal amount of Convertible
Debenture interest to 9%, and elimination of interest costs on $500,000
principal amount of Convertible Debentures converted into Common Stock and
Private Warrants and on bridge loans and notes payable which will have been
paid from the proceeds of the Primary Offering. Also adjusts for the
elimination of certain unamortized deferred costs of these notes and loans.
Three of the 26 holders of Convertible Debentures, representing $150,000 in
principal amount, have not agreed to the interest rate reduction from 18%
to 9% per annum. Also includes NRG income of 9% interest on $300,000 loan
to Reno Energy less the 18.5% minority interest in NRG.
(3) A pro forma provision for income taxes was calculated after providing for a
limit on the net operating loss deduction assuming an ownership change had
taken place at the beginning of the 1996 fiscal year and the beginning of
the six month period ended July 31, 1996.
(4) Provision for dividends on Series One Preferred Stock eliminated as a
result of the Preferred Stock Conversion.
(5) Supplemental loss per share is based on the weighted average number of
shares outstanding and 518,895 (at January 31, 1996) and 569,767 (at July
31, 1996) of the shares to be issued in the Primary Offering for the
repayment of debt.
(6) Pro forma net income per share is based on the weighted average number of
shares outstanding, the shares issued in the Debenture Conversion and the
Preferred Stock Exchange and shares issued in the Primary Offering to
obtain funds required for the acquisition of the Steamboat Facilities, the
investment in NRG and the retirement of debt (2,103,779 shares at January
31, 1996 and 2,245,058 shares at July 31, 1996). Assumed exercise of
options and warrants have not been reflected as they would be anti-
dilutive.
(7) Reflects the sale of Securities offered hereby, the Debenture Conversion,
the Preferred Stock Exchange and the anticipated use of proceeds for the
Steamboat Acquisition, the NRG investment and the repayment of
indebtedness, including accrued interest to November 30, 1996.
(8) The NRG loan to Reno Energy includes $50,000 from funds invested by the
minority interests and $250,000 from the funds to be invested by the
Company.
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RISK FACTORS
Prospective purchasers of the securities offered hereby should carefully
consider the following factors, as well as the information contained elsewhere
in this Prospectus.
NO SIGNIFICANT REVENUES; HISTORY OF LOSSES/UNCERTAIN PROFITABILITY; WORKING
CAPITAL, CASH FLOW AND SECURITYHOLDERS' EQUITY DEFICITS; AUDITORS' OPINION
WITH EXPLANATORY PARAGRAPH
The Company has a history of losses substantially throughout its existence
and, except for the distribution of $20,000 from the Plymouth State College
project in August 1996, has not received any cash distributions from its
investments since its reorganization in 1993. To date, the Lehi power plant
has not been operational. See "Current Operations and On-Going Projects."
Although the Company believes that there may be profit and cash flow from the
Lehi power plant starting in the fourth quarter of this fiscal year, there can
be no assurances that this will occur. Operations at the plant may be delayed
until the second quarter of the next fiscal year if the Company decides to
sell certain operating machinery and replace it by purchasing equipment that
would ultimately increase output capacity and efficiency. The Plymouth
cogeneration plant historically had not provided revenues or cash flow to the
Company because of costs related to equipment adjustments and operational
reserves required by the terms of its financing, and there can be no assurance
that any cash flow will be available in the foreseeable future. The Company
received a distribution of $20,000 in August 1996.
For the years ended January 31, 1996 and 1995, the Company incurred net
losses of $1,391,000 and $1,316,000 respectively, and for the six months ended
July 31, 1996, the Company incurred a net loss of $828,000. At July 31, 1996,
as a result of these and earlier accumulated losses, the Company had a working
capital deficit of $2,794,000 and a stockholders' equity deficit of
$3,557,000. There can be no assurance that the Company will ever be able to
generate cash flows sufficient to meet its obligations and sustain operations.
The independent auditors' report for the fiscal year ended January 31, 1996
states that these factors raise substantial doubt about the Company's ability
to continue as a going concern. See "Management's Discussion and Analysis of
Financial Condition and Results of Operations" and the Company's Financial
Statements.
LIMITED AVAILABLE CAPITAL; POSSIBLE NEED FOR ADDITIONAL FINANCING
While the Company believes that the proceeds from the Primary Offering,
together with anticipated cash flow from operations, will be sufficient to
meet its anticipated cash requirements for the next twelve months, there is no
assurance in this regard. The Company's continued existence will be dependent
upon its ability to generate cash flows from its operations sufficient to meet
its obligations as they become due. Unless the Company can generate cash flows
from operations to fund its working capital needs, the Company will be
required to obtain additional equity or debt financing to continue to operate
its business. If the Company should require additional capital, there can be
no assurance that such capital will be available to the Company, or if
available, it would be on terms acceptable to the Company. If additional funds
are raised by issuing equity securities, significant dilution to existing
stockholders may result. Any inability by the Company to obtain additional
financing, if required, will have a material adverse effect on the operations
of the Company, including the possible cessation of operations. See
"Management's Discussion and Analysis of Financial Condition and Results of
Operations--Liquidity and Capital Resources."
PRIOR BANKRUPTCY; DEFERRED TAXES
In late 1986, the Company, then called Cogenic Energy Systems, Inc., was
impaired by a $2,100,000 judgment resulting from a contractual dispute.
Although ultimately settled, the protracted court case caused delays in
planned expansion and sales and led to a serious cash shortage. In mid-1989,
the Company filed for protection under Chapter 11 of the Bankruptcy Code and a
Plan of Reorganization was confirmed by the bankruptcy court in 1993. The Plan
required the payment of outstanding taxes. Of those taxes, $110,000 was
required to be paid upon the merger of Utility Systems Florida, Inc. ("USF")
into the Company (see "Business--The Company"), but has been deferred pursuant
to a verbal agreement with the Internal Revenue Service as long as the Company
continues to meet its remaining pre-bankruptcy tax obligations ($372,000 at
July 31, 1996),
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<PAGE>
which it is amortizing on a monthly basis over a six year period. The Company
does not intend to pay this deferred $110,000 amount out of the proceeds of
the Primary Offering but to continue the deferral until either the Internal
Revenue Service requires payment or the Board of Directors deems cash flow to
be satisfactory.
EMERGING INDUSTRY; UNCERTAINTY OF MARKET ACCEPTANCE
Although the cogeneration and IPP industries have been in existence for a
number of years, they are still in their development stages. As is typically
the case in an emerging industry, demand and market acceptance for their
products and services are subject to a high level of uncertainty. The Company
began developing new projects after USF merged with the reorganized Cogenic
Energy Systems, Inc. in November 1993, but has not yet commenced significant
marketing activities and currently has limited marketing experience as well as
limited financial, personnel and other resources to undertake extensive
marketing activities.
PROJECT DEVELOPMENT AND ACQUISITION RISKS
It is anticipated that certain types of projects, if undertaken, will
require the Company to raise additional capital and there can be no assurance
that such capital will be available on acceptable terms. The Company's ability
to develop new projects, including the Reno Project, is also dependent on a
number of other factors outside its control, including obtaining power
agreements, governmental permits and approvals, fuel supply and transportation
agreements, electrical transmission agreements, site agreements and
construction contracts, and there can be no assurance that the Company will be
successful in doing so. In particular, the Reno Project is still in the
planning and development stage and there are no contracts with any end users
nor any governmental approvals. Project development is subject to
environmental, engineering and construction risks. If additional financing is
not available on acceptable terms, the Company may have to cancel, decline or
defer new projects. Further, projects which are successfully developed may
still face risks inherent in start-up businesses, such as lack of market
acceptance.
POTENTIAL REDUCTION IN REVENUE FROM STEAMBOAT GEOTHERMAL PROJECTS
The current power purchase agreements with Sierra Pacific Power Company
("Sierra") provide for price adjustments in December 1996 for Steamboat 1 and
in December 1998 for Steamboat 1A. Under the contracts, Steamboat LLC is
required to sell power to Sierra for additional 10-year periods at the then-
prevailing short-term avoided costs for electricity for Sierra. If the price
adjustments were to be made now, the new prices based on the contract formula
would be substantially less than the existing contract rates. Although
Management believes that revenues generated will still be in excess of the
costs of production, there is no assurance that future prices at which the
electricity generated by the Steamboat Facilities may be sold will exceed the
cost of production, or that Steamboat LLC will generate adequate cash flow
from operations to meet its investing and financing requirements. Although the
prices are variable and fluctuate, if, as expected, a substantial reduction in
power prices for Steamboat 1 takes place in December 1996, the result would
mean a decrease in the amount of net earnings of Steamboat LLC which the
Company will receive, which, depending on the extent of the price reductions,
could result in the Company reflecting a net loss. However, Management
believes that more satisfactory earnings can potentially be obtained for the
energy generated in the Steamboat Facilities through negotiations with Sierra
and/or as a result of efforts by the Company to develop other options for
sales of both electricity and heat from the facility. The Company believes it
is in a position to obtain a satisfactory price for electricity generated in
the Steamboat Facilities because (i) the existing contract with Sierra, which
calls for "short term" avoided cost in the second 10 years, is subject to
negotiation since no "short term" tariff has been recently published by Sierra
with the state of Nevada regulatory authority; (2) even if published, "short
term" rates may not be applicable to a 20 year (long term) contract; and (3)
the Company is developing other options for sales of both electricity and heat
from the facility, and heat is not subject to the power purchase contract. No
assurance can be given that such efforts will be successful.
10
<PAGE>
The Company will pay $1,000,000 into Steamboat LLC to provide capital for
the potential acquisition of certain royalty interests and to fund certain
improvements to the Steamboat Facilities which are expected to result in
higher electricity output. While negotiations with certain royalty owners have
already begun, no agreements have yet been concluded and no potential savings
from royalty reductions are reflected in the pro forma financial statements
presented herein. Additional royalty agreements, applying only to Steamboat 1,
call for payment of a total of 30% of the net revenue of Steamboat 1 after
certain deductions, starting March 1, 1997. The resulting effect on the net
income of Steamboat LLC and on the Company's after-tax income will depend on
the other elements of power sales revenues outlined above. Assuming the
reduction in income from power sales discussed above, and the buyout of no
royalty interests, the cost of these net revenue royalties could be in the
range of $50,000 to $100,000 annually. The Company expects the Steamboat
Facilities to generate sufficient revenues to make any royalty payments
required. Negotiations with these interests have also already begun, but no
assurance can be given that the negotiations will produce successful results.
See "U.S. Energy Systems, Inc. and Subsidiaries Pro Forma Condensed
Consolidated Statements of Operations," "Steamboat Facilities Pro Forma
Condensed Combined Statement of Operations," "Management's Discussion and
Analysis of Financial Condition and Plan of Operation--Plan of Operation" and
"Business--Current Operations and On-Going Projects."
RELIANCE ON PRESIDENT
The Company will be dependent upon its executive officers and key employees,
particularly its President, Richard Nelson. The unexpected loss of the
services of Mr. Nelson could have a detrimental effect on the Company.
Although the Company plans to add additional full-time employees after the
Primary Offering, the Company presently has only three current full-time
employees and contracts with independent contractors for the conduct of
certain engineering, accounting, administrative and legal functions. The
Company plans to obtain $1,000,000 of key man insurance on Mr. Nelson upon
completion of this offering.
GENERAL OPERATING RISKS
The operation of power generation facilities involves many risks, including
the breakdown or failure of power generation equipment, transmission lines or
other equipment or processes and performance below expected levels of output
or efficiency. Although the facilities in which the Company is or will be
involved contain certain redundancies and back-up mechanisms, there can be no
assurance that any such breakdown or failure would not prevent the affected
facility from performing under applicable power agreements. The development
and operation of geothermal energy resources are subject to risks and
uncertainties similar to those experienced in the development of oil and gas
resources. The successful exploitation of a geothermal energy resource
ultimately depends upon the heat content of the extractable fluids, the
geology of the reservoir, the total amount of recoverable reserves, and
operational factors relating to the extraction of fluids, including operating
expenses, energy price levels, and capital expenditure requirements relating
primarily to the drilling of new wells. In connection with the development of
a project, the Company estimates the productivity of the geothermal resource
and the expected decline in such productivity. The productivity of a
geothermal resource may decline more than anticipated, resulting in
insufficient recoverable reserves being available for sustained generation of
the electrical power capacity desired. See "Business --Current Operations and
On-Going Projects."
GOVERNMENT REGULATION
Under present federal law, the Company is not and will not be subject to
regulation as a holding company under the Public Utility Holding Company Act
of 1935 ("PUHCA") as long as each power plant in which it has an interest is a
qualifying facility ("QF") under the Public Utility Regulatory Policies Act of
1978 ("PURPA"). A QF that is a cogeneration facility must produce not only
electricity but also useful thermal energy for use in an industrial or
commercial process or heating or cooling applications in certain proportions
to the facility's total energy output and must meet certain energy efficiency
standards. Under PURPA, a regulated public electric utility company must
purchase electricity at its avoided cost from an IPP which has QF status. QF
status is granted to IPP's which use fossil fuel in a manner which allows for
recovery and use of a certain percentage of otherwise rejected heat thereby
achieving a higher degree of fuel efficiency. QF status is also
11
<PAGE>
granted to IPP's which use renewable energy sources such as geothermal, hydro,
solar, wind, and waste products without regard to heat recovery. An IPP using
fossil fuel, which loses its ability to use recovered heat, could fall below
the efficiency standards and thereby lose its QF status. The regulated public
electric utility company, which may have been required to purchase electricity
from the IPP, could thereafter refuse to purchase such electricity. IPP's
which have QF status, and which are not fossil fuel driven, are not subject to
efficiency standards regarding QF status. See "Business--Government
Regulation."
Prior to resuming operations, the Lehi facility may be required to obtain a
permit to authorize the discharge of oil into the city sewer system, which
permit may limit the authorized levels of such discharge. Additionally, before
the Lehi facility can become operative, it is required to install a continuous
emissions monitor ("CEM"). Although the Company intends to install a CEM,
there can be no assurance that it will be able to do so.
The construction and operation of power generation facilities require
numerous permits, approvals and certificates from appropriate federal, state
and local governmental agencies, as well as compliance with environmental
protection legislation and other regulations. While the Company believes that
it is in substantial compliance with all applicable rules and regulations and
that the projects in which it is involved have the requisite approvals for
existing operations and are operated in accordance with applicable laws, the
operations of the Company and its projects remain subject to a varied and
complex body of laws and regulations that both public officials and private
individuals may seek to enforce. There can be no assurance that new or
existing laws and regulations which would have a materially adverse affect
would not be adopted or revised, nor can there be any assurance that the
Company will be able to obtain all necessary licenses, permits, approvals and
certificates for proposed projects or that completed facilities will comply
with all applicable permit conditions, statutes or regulations. In addition,
regulatory compliance for the construction of new facilities is a costly and
time consuming process, and intricate and changing environmental and other
regulatory requirements may necessitate substantial expenditures for
permitting and may create a significant risk of expensive delays or
significant loss of value in a project if the project is unable to function as
planned due to changing requirements or local opposition.
ENVIRONMENTAL RISKS
As is the case in all power projects, strict environmental regulations
established by federal, state and local authorities involving air and other
emissions must be met. While the Company takes every precaution to insure that
such regulations are met at all times, and projects are not entered into which
do not or cannot meet such regulations, there is no assurance that such
regulations can always be met. Should a condition occur in which emissions
standards at a specific project fall below allowable standards, there could be
costs involved in remediating such conditions. Additionally, as with all
industrial sites, there are standards for the safe handling of fuels and
chemicals which must be met. Again, the Company takes every precaution to
insure such standards are met. Exigencies may occur--a fuel spillage for
example--which would require remediation with attendant costs.
Areas in which the Company is acquiring geothermal projects are subject to
frequent low-level seismic disturbances, and more significant seismic
disturbances are possible. While such power generation facilities are built to
withstand relatively significant levels of seismic disturbance, and the
Company believes it will be able to maintain adequate insurance protection,
there can be no assurance that earthquake, property damage or business
interruption insurance will be adequate to cover all potential losses
sustained in the event of serious seismic disturbances or that such insurance
will continue to be available on commercially reasonable terms.
UNCERTAINTY OF COMPETITIVE ENVIRONMENT
In addition to competition from electric utilities in the markets where the
projects are located, the Company also faces competition from approximately
150 companies currently involved in the cogeneration and independent power
market. Virtually all of these companies are larger and better financed than
the Company. Although the Company believes that it will be entering segments
of the marketplace where it will not face extensive competition, there is no
assurance that it will be able to do so, and it will thereby be disadvantaged
if it has to compete with the larger and better financed companies. The entire
industry also may face competition from existing investor owned utility
companies and may be adversely affected by the prices charged by such
companies for conventional energy sources, which, in turn, are affected by
inflation and availability of fossil fuel.
12
<PAGE>
INSURANCE
Although the Company maintains insurance of various types to cover many of
the risks that apply to its operations, including $2,000,000 of general
liability insurance as well as separate insurance for each project, the
Company's planned insurance will not cover every potential risk associated
with its operations. The occurrence of a significant adverse event, the risks
of which are not fully covered by insurance, could have a material adverse
effect on the Company's financial condition and results of operations.
Moreover, no assurance can be given that the Company will be able to maintain
adequate insurance in the future at rates it considers reasonable.
SUBSTANTIAL PORTION OF PROCEEDS TO PAY DEBTS; POTENTIAL CONFLICTS OF INTEREST
BETWEEN THE COMPANY AND CERTAIN OF ITS OFFICERS
A substantial amount of the net proceeds of the Primary Offering and will be
used to repay the Company's current indebtedness. A portion of such repayment
will benefit directly or indirectly several of the Company's officers,
directors and stockholders. In order to induce all holders of Convertible
Debentures to convert at least one-third of their Convertible Debentures, the
Company agreed to reduce the conversion rate from $16 per share to the same
price as that being offered to the public, $4.00 per share. There are 26
holders of Convertible Debentures, all of whom have been afforded the
opportunity to obtain the same more favorable conversion rate. The Chairman of
the Board, a director, and two principal stockholders of the Company are
holders of an aggregate amount of $425,000 of the Company's Convertible
Debentures. Accrued interest on such indebtedness, adjusted to November 30,
1996, which will be repaid from the proceeds of the Primary Offering, amounts
to $119,000. As part of the Debenture Conversion the conversion rate of the
Convertible Debentures held by those holders consenting to participate, which
remain outstanding after the Debenture Conversion, will be reduced to $8.00
per share from the present $16.00 per share and the interest rate will be
reduced to 9% from the present 18%. See "Closing Transactions" and
"Description of Securities--Convertible Debentures." The President, the
Chairman, two directors and two principal stockholders will also benefit by
the payment to them of an aggregate of $1,141,000 (including accrued interest
to November 30, 1996) for a loan made by them to enable the Company to obtain
its interest in the co-generation facility at Plymouth State College in New
Hampshire. Additionally, Messrs. Nelson and Rosen have each deferred portions
of their salaries and $250,000 and $175,000, respectively, will be owed to
them as of November 30, 1996. The deferred salaries will not be paid from net
proceeds of the Primary Offering, but from cash flow, if and when, in the
opinion of the Board of Directors, cash flow is sufficient. Messrs. Nelson and
Rosen will also benefit from the release of their pledges of an aggregate of
97,250 shares of the Company's Common Stock owned by them in connection with
certain bridge loans made to the Company by Anchor Capital Company, LLC
("Anchor") and Solvation, Inc. ("Solvation"), which loans are being repaid
with a portion of the proceeds. See "Certain Transactions."
LIMITED MARKET FOR THE COMMON STOCK; OFFERING PRICES DETERMINED BY NEGOTIATION
Prior to the Primary Offering, there has been a limited trading market for
the Common Stock and no trading market for the Warrants. The Common Stock has
been sporadically traded on the OTC Bulletin Board. Although the Company has
made an application so that the Common Stock and Warrants will trade on the
Nasdaq SmallCap Market upon conclusion of the Primary Offering, there can be
no assurance that an active public trading market for the Common Stock or
Warrants will develop and continue after the Primary Offering. The initial
offering prices of the Securities in the Primary Offering were determined by
negotiations between the Company and the Representative and may bear no
relation to the market prices of the Common Stock and Warrants after the
Primary Offering.
EFFECT OF WARRANTS, OPTIONS AND CONVERTIBLE SECURITIES OUTSTANDING AFTER
OFFERING
The Company has outstanding options and warrants which provide for the
purchase of an aggregate of 291,850 shares of Common Stock at prices ranging
from $4.00 to $10.00 per share. The Warrants, if exercised, would result in
the issuance of 3,100,000 shares of Common Stock. In the Primary Offering, the
Underwriters'
13
<PAGE>
over-allotment option, if fully exercised, including the related Warrants,
would result in the issuance of 930,000 shares of Common Stock. The
Representative's Purchase Option, if fully exercised, including the related
Warrants, would result in the issuance of 620,000 shares of Common Stock. An
additional 128,125 shares of Common Stock are issuable upon conversion of
remaining Convertible Debentures. These issuances of Common Stock, totalling
5,069,975 shares, would have a dilutive effect on the Company's stockholders
by decreasing their percentage ownership in the Company. Moreover, the holders
of such securities would be most likely to exercise or convert such securities
at a time when the Company could obtain capital by a new offering of
securities on terms more favorable than those provided by such securities.
Consequently, the terms on which the Company could obtain additional capital
may be adversely affected. See "Capitalization."
IMMEDIATE AND SUBSTANTIAL DILUTION
The Primary Offering involves an immediate dilution of approximately $2.15
per share of Common Stock, (approximately 54% of the offering price of the
Common Stock) between the offering price per share of the Common Stock and the
pro forma net tangible book value per share of the Common Stock immediately
after the completion of the Primary Offering and the Closing Transactions.
POSSIBLE RULE 144 SALES
Upon consummation of the Primary Offering, the Company will have outstanding
3,869,650 shares of Common Stock. All of the 3,100,000 shares sold in the
Primary Offering (assuming no exercise of the Underwriters' over-allotment
option in the Primary Offering), will be freely transferable by persons other
than affiliates (as defined in regulations under the Securities Act) without
restriction or further registration under the Securities Act.
Of the 439,650 shares of Common Stock outstanding prior to the Primary
Offering, 64,650 are "restricted securities" within the meaning of Rule 144
under the Securities Act and may not be sold in the absence of registration
under the Securities Act, unless an exemption from registration is available,
including the exemption provided by Rule 144. Under Rule 144 as currently in
effect, all of such 64,650 shares are currently eligible for sale, subject in
each instance to the volume limitations of the Rule. The 205,000 shares of
Common Stock to be issued in the Preferred Stock Exchange and the 125,000
shares of Common Stock to be issued upon the Debenture Conversion will be
restricted securities. Although registered pursuant to the Shelf
Registration, Anchor will not sell the 205,000 shares of Common Stock it will
receive in the Preferred Stock Exchange without the Representative's prior
written approval for a period of 9 months from the date of this Prospectus.
The foregoing does not give effect to any shares issuable on exercise of
outstanding options and warrants. The effect of the offer and sale of such
shares may be to depress the market price for the Company's Common Stock. See
"Shares Eligible for Future Sale--Possible Rule 144 Sales."
POTENTIAL ADVERSE EFFECT OF WARRANT REDEMPTION
The Warrants may be called for redemption by the Company once they become
exercisable and the Representative has given its prior consent at a redemption
price of $.01 per Warrant upon not less than 30 business days' prior written
notice if the last sale price of the Common Stock has been at least $6.00
(150% of the exercise price of the Warrants) on all 20 of the last trading
days ending on the third day prior to the date on which notice is given.
Notice of redemption of the Warrants could force the holders to exercise the
Warrants and pay the exercise price at a time when it may be disadvantageous
for them to do so, to sell the Warrants at the current market price when they
may otherwise wish to hold the Warrants, or to accept the redemption price,
which would be substantially less than the market value of the Warrants at the
time of redemption. The Company is required to maintain the effectiveness of a
current registration statement relating to the exercise of the Warrants and,
accordingly, the Company will be unable to redeem the Warrants unless there is
a currently effective prospectus and registration statement under the
Securities Act covering the issuance of underlying securities. Also, lack of
qualification or registration under applicable state securities laws may mean
that the Company
14
<PAGE>
would be unable to issue securities upon exercise of the Warrants to holders
in certain states, including at the time when the Warrants are called for
redemption. See "Description of Securities--Warrants."
AUTHORIZATION AND DISCRETIONARY ISSUANCE OF PREFERRED STOCK; ANTI-TAKEOVER
PROVISIONS
The Company's Certificate of Incorporation authorizes the issuance of
Preferred Stock with such designations, rights and preferences as may be
determined from time to time by the Board of Directors. Accordingly, the Board
of Directors is empowered, without stockholder approval, to issue Preferred
Stock with dividend, liquidation, conversion, voting or other rights which
could adversely affect the voting power or other rights of holders of the
Company's Common Stock. In the event of issuance, the Preferred Stock could be
utilized, under certain circumstances, as a method of discouraging, delaying
or preventing a change in control of the Company, which could have the effect
of discouraging bids for the Company and, thereby, preventing stockholders
from receiving a premium for their shares over the then-current market prices.
See "Description of Securities."
The Delaware General Corporation Law includes provisions which are intended
to encourage persons considering unsolicited tender offers or other unilateral
takeover proposals to negotiate with the Company's directors rather than
pursue non-negotiated takeover attempts. These existing takeover provisions
may have a significant effect on the ability of a stockholder to benefit from
certain kinds of transactions that may be opposed by the incumbent directors.
See "Description of Securities--Anti-Takeover Provisions."
CURRENT PROSPECTUS AND STATE BLUE SKY REGISTRATION REQUIRED TO EXERCISE
WARRANTS
The Company will be able to issue shares of its Common Stock upon exercise
of the Warrants only if there is then a current prospectus relating to the
issuance of such Common Stock and only if such Common Stock is qualified for
sale or exempt from qualification under applicable securities laws of the
jurisdictions in which the various holders of the Warrants reside. The Company
has undertaken to keep current a prospectus which will permit the purchase and
sale of the Common Stock underlying the Warrants, but there can be no
assurance that the Company will be able to do so. Although the Company intends
to seek to qualify for sale the shares of Common Stock underlying the Warrants
in those states in which the securities are to be offered, no assurance can be
given that such qualification will be obtained. The Warrants may be deprived
of any value and the market for the Warrants may be limited if a current
prospectus covering the Common Stock issuable upon the exercise of the
Warrants is not kept effective or if such Common Stock is not qualified or
exempt from qualification in the jurisdictions in which the holders of the
Warrants then reside. See "Description of Securities--Warrants."
QUALIFICATION REQUIREMENTS FOR NASDAQ SECURITIES; RISKS OF LOW-PRICED
SECURITIES
Although the Company has satisfied the Nasdaq SmallCap listing criteria and
the Common Stock and Warrants have been approved for quotation on the Nasdaq
SmallCap Market, there can be no assurance that the Company will be able to
continue to meet the required standards once it is listed. If it should fail
to meet one or more of such standards, its securities would be subject to
deletion from Nasdaq. If this should occur, trading, if any, in the Common
Stock and the Warrants would then continue to be conducted in the over-the-
counter market on the OTC Bulletin Board, an NASD-sponsored inter-dealer
quotation system, or in what are commonly referred to as "pink sheets." As a
result, an investor may find it more difficult to dispose of, or to obtain
accurate quotations as to the market value of, the Company's securities. In
addition, if the Company's securities cease to be quoted on Nasdaq and the
Company fails to meet certain other criteria, they would be subject to
Commission rules that impose additional sales practice requirements on broker-
dealers who sell such securities to persons other than established customers
and accredited investors. For transactions covered by these rules, the broker-
dealer must make a special suitability determination for the purchaser and
have received the purchaser's written consent to the transaction prior to
sale. The broker-dealer also must provide the customer with current bid and
offer quotations for the securities, the compensation of the broker-dealer and
its salesperson in the transaction, and monthly account statements showing the
market value of each such security held in the customer's account. In
addition, prior to effecting a transaction in such a security the broker-
dealer must deliver a standardized risk
15
<PAGE>
disclosure document prepared by the Commission that provides information about
low-priced securities and the nature and level of risks in the market for such
securities. Consequently, if the Company's securities were no longer quoted on
Nasdaq, these rules may affect the ability of broker-dealers to sell the
Company's securities and the ability of purchasers in each of the Primary and
Secondary Offering to sell their securities in the secondary market.
LIMITATIONS ON REPRESENTATIVE'S MARKET MAKING ACTIVITIES
The Representative has the right to act as the Company's agent in connection
with any future solicitation of warrantholders to exercise their Warrants.
Unless granted an exemption by the Commission from Rule 10b-6 promulgated
under the Exchange Act, the Representative will be prohibited, during certain
periods when the Warrants are exercisable, from engaging in any market-making
activities with regard to the Company's securities until the later of the
termination of such solicitation activity or the termination (by waiver or
otherwise) of any right that the Representative may have to receive a fee for
soliciting the exercise of the Warrants. The Warrants are not exercisable
until one year after the date of this Prospectus. As a result, the
Representative may be unable to continue to provide a market for the Company's
securities during certain periods while the Warrants are exercisable. Such
limitations could impair the liquidity and market prices of the Common Stock
and Warrants.
DIVIDENDS UNLIKELY
The Company has never declared or paid dividends on its Common Stock and
currently does not intend to pay dividends in the foreseeable future. The
payment of dividends in the future will be at the discretion of the Board of
Directors. See "Dividend Policy."
LIMITED LIABILITY OF DIRECTORS
The Company's Certificate of Incorporation limits the liability of directors
to the maximum extent permitted by Delaware law. Delaware law provides that
directors of a corporation will not be liable to the corporation or its
stockholders for expenses incurred in derivative or third party actions
arising from a breach of their fiduciary duty as directors, except in certain
circumstances. Accordingly, except in such circumstances, the Company's
directors will not be liable to the Company or its stockholders for breach of
such duty.
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<PAGE>
USE OF PROCEEDS
The Company will receive no proceeds from the sale of Securities offered
hereby.
PRICE RANGE OF COMMON STOCK
The Common Stock has traded on the NASD OTC Bulletin Board under the symbols
USEY (until July 1996) and USEE since the second quarter of the 1995 fiscal
year. The following table sets forth, for the periods indicated, the high and
low closing bid quotations for the Common Stock, as reported by the NASD OTC
Bulletin Board. The following quotations reflect inter-dealer prices, without
retail mark-up, mark-down or commission and may not represent actual
transactions.
<TABLE>
<CAPTION>
BID
-------------
HIGH LOW
------ ------
<S> <C> <C>
Fiscal Year Ended January 31, 1995:
Second Quarter............................................ $ 4.40 $ 3.60
Third Quarter............................................. $10.00 $ 8.40
Fourth Quarter............................................ $10.00 $10.00
Fiscal Year Ended January 31, 1996:
First Quarter............................................. $10.00 $10.00
Second Quarter............................................ $10.00 $10.00
Third Quarter............................................. $ 8.40 $ 6.00
Fourth Quarter............................................ $ 4.00 $ 2.40
Fiscal Year Ending January 31, 1997:
First Quarter............................................. $ 2.92 $ 2.48
Second Quarter............................................ $ 2.00 $ 1.50
Third Quarter (to October 28, 1996)....................... $ 3.21 $ 2.58
</TABLE>
As of October 28, 1996, there were 584 record holders of the Company's
Common Stock and approximately 900 beneficial holders of the Company's Common
Stock.
On October 28, 1996, the high bid price was $3.25 and low bid price was
$3.25.
DIVIDEND POLICY
The Company has not paid cash dividends on its Common Stock and does not
anticipate paying cash dividends in the foreseeable future.
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<PAGE>
CAPITALIZATION
The following table sets forth the historical capitalization of the Company
at July 31, 1996 and as adjusted to reflect (i) the sale of the Securities in
the Primary Offering, (ii) the consummation by the Company of the Debenture
Conversion and the Preferred Stock Exchange, and (iii) the application of the
net proceeds from the foregoing, including the completion of the Steamboat
Acquisition and the repayment of debt including accrual of interest and
additional bridge loan borrowing to November 30, 1996. See "Closing
Transactions" and "Certain Transactions." This table should be read in
conjunction with the Company's Consolidated Financial Statements and Notes
thereto and the Pro Forma Financial Statements included in this Prospectus.
<TABLE>
<CAPTION>
JULY 31, 1996
------------------------
PRO FORMA
HISTORICAL AS ADJUSTED
----------- -----------
<S> <C> <C>
Long-term debt, net of unamortized discount of
$30,000............................................. $ 2,818,000 $ 1,343,000
Loans payable........................................ 960,000
Pre-reorganization income taxes payable, current..... 192,000 192,000
----------- -----------
3,970,000 1,535,000
----------- -----------
Stockholders' equity:
Preferred stock, $0.01 par value, 5,000,000 shares
authorized; issued and outstanding, 57,500 shares;
to be issued and outstanding, none................ 1,000
Common stock, $0.01 par value, 35,000,000 shares
authorized; issued and outstanding, 439,650
shares; to be issued and outstanding, 3,869,650
shares(1)(2)...................................... 4,000 38,000
Additional paid-in capital......................... 112,000 11,020,000
Accumulated (deficit)(3)........................... (3,674,000) (3,901,000)
----------- -----------
Total stockholders' equity (deficit)................. (3,557,000) 7,157,000
----------- -----------
Total capitalization................................. $ 413,000 $ 8,692,000
=========== ===========
</TABLE>
- --------
(1) Includes (i) 439,650 Shares of Common Stock outstanding prior to the
Primary Offering, (ii) 3,100,000 shares of Common Stock being issued
pursuant to the Primary Offering, (iii) 125,000 shares of Common Stock to
be issued in the Debenture Conversion and (iv) 205,000 shares of Common
Stock to be issued in the Preferred Stock Exchange.
(2) Does not include an aggregate of 4,264,975 shares of Common Stock reserved
and to be reserved for issuance following completion of the Primary
Offering including (i) 291,850 shares issuable on exercise of currently
outstanding options and warrants, (ii) 3,845,000 shares issuable on
exercise of the Warrants, the Representative's Purchase Option and the
Warrants issuable on exercise of the Representative's Purchase Option and
the Private Warrants being issued in the Private Placement and the
Debenture Conversion and (iii) 128,125 shares issuable upon conversion of
Convertible Debentures which will remain outstanding after the Primary
Offering.
(3) Change in accumulated (deficit) reflects the write off of unamortized debt
discount of $25,000 in connection with repayment of certain debt and the
accrual of interest to October 31, 1996.
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<PAGE>
U.S. ENERGY SYSTEMS, INC. AND SUBSIDIARIES
(FORMERLY U.S. ENVIROSYSTEMS, INC.)
PRO FORMA CONDENSED CONSOLIDATED BALANCE SHEET
AS OF JULY 31, 1996
The following Pro Forma Condensed Balance Sheet gives effect to the
following transactions as if they had occurred on July 31, 1996: (a) sale of
3,100,000 shares of Common Stock and 3,100,000 Warrants offered by this
Prospectus for net proceeds of $10,662,000, (b) acquisition of a 95% interest
in two geothermal power plants (the Steamboat Facilities) for an aggregate of
$4,741,000 (including $50,000 as a downpayment which was previously paid by
the Company), (c) acquisition of an 81.5% interest in NRG for $265,000, (d)
repayment of notes payable and other liabilities in the aggregate amount of
$2,767,000 adjusting for accrual of interest and additional bridge loan
financing to November 30, 1996, (e) conversion of 57,500 shares of Series One
Preferred Stock into 205,000 shares of Common Stock, and (f) conversion of
$500,000 principal amount of the existing Convertible Debentures to 125,000
shares of Common Stock and 125,000 Private Warrants. The Pro Forma Condensed
Balance Sheet should be read in conjunction with Pro Forma Statement of
Operations and the historical financial statements of the Company, Lehi
Independent Power Associates, L.C. ("LIPA") and Plymouth Cogeneration included
in this Prospectus.
<TABLE>
<CAPTION>
STEAMBOAT PRO FORMA ADJUSTMENTS
USE 1 AND 1A --------------------------- PRO
HISTORICAL PRO FORMA CONSOLIDATED DEBIT CREDIT FORMA
----------- ---------- ------------ ----------- ----------- -----------
<S> <C> <C> <C> <C> <C> <C>
A S S E T S
Current assets:
Cash.................... $ 1,000 $ 1,000 $10,662,000(a) $ 4,691,000(b) $ 2,965,000
25,000(i) 2,767,000(c2)
265,000(h)
Inventory............... 19,000 19,000 19,000
Other current assets.... 1,000 $ 3,000 4,000 4,000
----------- ---------- ---------- ----------- ----------- -----------
Total current assets... 21,000 3,000 24,000 10,687,000 7,723,000 2,988,000
Investments in Joint
Ventures--at equity:
Lehi Independent Power 1,112,000 1,112,000 1,112,000
Associates, LC........
Plymouth Cogeneration 669,000 669,000 669,000
Limited Partnership...
Steamboat 53,000 53,000 4,691,000(b) 4,744,000(g) --
Envirosystems.........
NRG Company LLC........ 265,000(h) 265,000(i) --
Loan receivable, Reno 300,000(i) 300,000
Energy.................
Property, Plant and 5,015,000 5,015,000 5,015,000
Equipment..............
Deferred costs of regis- 221,000 221,000 221,000(a) --
tration................
----------- ---------- ---------- ----------- ----------- -----------
TOTAL.................. $ 2,076,000 $5,018,000 $7,094,000 $15,943,000 $12,953,000 $10,084,000
=========== ========== ========== ----------- ----------- ===========
L I A B I L I T I E S
Loans payable........... $ 960,000 $ 960,000 $ 960,000(c2) $ --
Pre-reorganization in- 192,000 192,000 192,000
come taxes payable.....
Other current liabili- 1,663,000 1,663,000 807,000(c2) 202,000(c1) 1,058,000
ties ..................
----------- ---------- ---------- ----------- ----------- -----------
Total current liabili- 2,815,000 2,815,000 1,767,000 202,000 1,250,000
ties..................
Convertible subordinated 1,525,000 1,525,000 500,000(e) 1,025,000
secured debentures ....
Notes payable .......... 975,000 975,000 1,000,000(c2) 25,000(f) --
Other liabilities ...... 318,000 318,000 318,000
----------- ---------- ---------- ----------- ----------- -----------
Total liabilities...... 5,633,000 5,633,000 3,267,000 227,000 2,593,000
----------- ---------- ----------- ----------- -----------
Minority interests in
subsidiaries:
Steamboat Envirosystems 274,000(g) 274,000
LLC...................
NRG Company LLC........ 60,000(i) 60,000
----------- -----------
Total Minority Inter- 334,000 334,000
ests..................
----------- -----------
S T O C K H O L D E R S'
E Q U I T Y
(C A P I T A L
D E F I C I E N C Y):
Preferred stock, ($.01
par value issued and
outstanding, 57,500
shares; to be issued
and outstanding, none). 1,000 1,000 1,000(d) --
Common stock ($.01 par
value, issued and out-
standing, 439,650
shares; to be issued
and outstanding,
3,869,650 shares)...... 4,000 4,000 31,000(a) 38,000
2,000(d)
1,000(e)
Additional paid-in capi- 112,000 112,000 221,000(a) 10,631,000(a) 11,020,000
tal.................... 1,000(d) 499,000(e)
Accumulated deficit..... (3,674,000) (3,674,000) 25,000(f) (3,901,000)
202,000(c1)
Members' equity:
U.S. Energy Systems, 4,744,000 4,744,000 4,744,000(g) --
Inc. .................
Far West Capital, Inc.. 274,000 274,000 274,000(g) --
----------- ---------- ---------- ----------- ----------- -----------
Total stockholders' (3,557,000) 5,018,000 1,461,000 5,468,000 11,164,000 7,157,000
equity (capital
deficiency)...........
----------- ---------- ---------- ----------- ----------- -----------
TOTAL.................. $ 2,076,000 $5,018,000 $7,094,000 $24,678,000 $24,678,000 $10,084,000
=========== ========== ========== =========== =========== ===========
</TABLE>
19
<PAGE>
Notes to Pro Forma Condensed Consolidated Balance Sheet
- --------
(a) To reflect sale of 3,100,000 shares of Common Stock and 3,100,000 Warrants
for net proceeds of $10,662,000.
(b) To reflect purchase of a 95% interest in Steamboat LLC, which is acquiring
the Steamboat Facilities.
<TABLE>
<S> <C>
(c1)To reflect accrual of interest from August 1 to November 30,
1996............................................................... $202,000
(c2)To reflect assumed repayment of debt:
Note payable.................................................... $1,000,000
Bridge loans.................................................... 960,000
Accrued interest................................................ 807,000
----------
$2,767,000
==========
</TABLE>
(d) To reflect conversion of existing Series One Preferred Stock into 205,000
shares of Common Stock.
(e) To reflect conversion of $500,000 principal amount of the existing
Convertible Debentures to 125,000 shares of Common Stock and 125,000
Private Warrants. No value has been assigned to these warrants.
(f) To eliminate unamortized debt discount on debt repaid. This charge will be
treated as an extraordinary loss in the statement of operations during the
period this Offering is consummated.
(g) To eliminate Steamboat LLC investment account and set up minority
interest.
(h) To reflect purchase of an 81.5% interest in NRG Company, LLC for $265,000.
(i) To reflect consolidation of accounts of NRG. The only assets of NRG are a
loan receivable of $300,000 from Reno Energy and cash of $25,000. The
majority interest was paid in during September, 1996. See "Business--
Current Operations and On-going Projects--Nevada District Heating
Project."
20
<PAGE>
U.S. ENERGY SYSTEMS, INC. AND SUBSIDIARIES
(FORMERLY U.S. ENVIROSYSTEMS, INC.)
PRO FORMA CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
The following Pro Forma Condensed Consolidated Statement of Operations
consolidates the results of operations of the Company for the year ended
January 31, 1996 and the six months ended July 31, 1996 with the pro forma
results of operations of the Steamboat Facilities for the year ended
December 31, 1995 and the six months ending June 30, 1996 as if the proposed
Steamboat Acquisition had taken place at the beginning of the periods in a
transaction accounted for as a purchase. The Pro Forma Condensed Consolidated
Statement of Operations also gives effect to the following: (a) sale of Common
Stock and Warrants to the extent necessary to fund the acquisition of a 95%
interest in the Steamboat Facilities and repay debt, (b) conversion of 57,500
shares of Series One Preferred Stock into 205,000 shares of Common Stock, (c)
restructure of existing Convertible Debentures by converting $500,000
principal amount to 125,000 shares of Common Stock and 125,000 Private
Warrants and reducing the interest rate from 18% to 9% on $875,000 of the
remaining balance and (d) the investment in NRG as if the investment was made
at the beginning of the periods. This statement should be read in conjunction
with the Steamboat Envirosystems, L.C. Pro Forma Condensed Balance Sheet as of
June 30, 1996, the Steamboat Envirosystems Power Plants Pro Forma Condensed
Combined Statement of Operations and the historical financial statements of
the Company, LIPA and Plymouth Cogeneration, Far West Electric Energy Fund,
L.P. and 1-A Enterprises, included in this Prospectus. LIPA, Plymouth, Far
West Electric Energy Fund, L.P. and 1-A Enterprises each have a fiscal year
end of December 31 which differs to the fiscal year end of the Company. No
material adjustment is necessary to reconcile the December 31 year end to the
Company's January 31 year end. The pro forma results of operations are not
necessarily indicative of future results of operations or what the results
would have been if the acquisition had taken place at the beginning of the
periods.
<TABLE>
<CAPTION>
YEAR ENDED JANUARY 31, 1996
--------------------------------------------------------------------
ADJUSTED
USE 1 AND 1A PRO FORMA PRO FORMA
HISTORICAL PRO FORMA (1) CONSOLIDATED ADJUSTMENTS CONSOLIDATED
----------- ------------- ------------ ----------- ------------
<S> <C> <C> <C> <C> <C>
Revenue:
Electric power... $ -- $3,404,000 $3,404,000 $ -- $3,404,000
----------- ---------- ---------- --------- ----------
Total revenue.... -- 3,404,000 3,404,000 -- 3,404,000
----------- ---------- ---------- --------- ----------
Expenses:
Depreciation.... -- 172,000 172,000 172,000
Royalty......... -- 528,000 528,000 528,000
Administrative
and other....... 853,000 1,003,000 1,856,000 1,856,000
Interest
expense(5a)/income
(5b) ............ 604,000 -- 604,000 (476,000)(2) 106,000
(22,000)(5b)
Loss from Joint
Ventures......... 17,000 17,000 17,000
----------- ---------- ---------- --------- ----------
Total expenses.. 1,474,000 1,703,000 3,177,000 2,679,000
----------- ---------- ---------- --------- ----------
Income (loss) be-
fore income tax-
es............... (1,474,000) 1,701,000 227,000 725,000
Income taxes..... -- -- (244,000)(3) 244,000
----------- ---------- ---------- --------- ----------
Net income
(loss)........... (1,474,000) 1,701,000 227,000 481,000
Dividends on pre-
ferred stock..... 21,000 21,000 21,000(4) --
----------- ---------- ---------- --------- ----------
Net income (loss)
available for
common stockhold-
ers (6).......... $(1,495,000) $1,701,000 $ 206,000 $ 481,000
----------- ---------- ---------- --------- ----------
Net income per
common share (7). $ (3.41) $ 0.17
----------- ----------
Shares used in
computing net in-
come per common
share (7)........ 438,773 2,797,292
=========== ==========
<CAPTION>
SIX MONTHS ENDED JULY 31, 1996
-------------------------------------------------------------------
ADJUSTED
USE 1 AND 1A PRO FORMA PRO FORMA
HISTORICAL PRO FORMA (1) CONSOLIDATED ADJUSTMENTS CONSOLIDATED
----------- ------------- ------------ --------------- ------------
<S> <C> <C> <C> <C> <C>
Revenue:
Electric power... $ -- $1,919,000 $1,919,000 $ -- $1,919,000
----------- ------------- ------------ --------------- ------------
Total revenue.... -- 1,919,000 1,919,000 -- 1,919,000
----------- ------------- ------------ --------------- ------------
Expenses:
Depreciation.... -- 86,000 86,000 86,000
Royalty......... -- 372,000 372,000 372,000
Administrative
and other....... 408,000 519,000 927,000 927,000
Interest
expense(5a)/income
(5b) ............ 328,000 -- 328,000 (276,000)(2) 41,000
(11,000)(5b)
Loss from Joint
Ventures......... 92,000 92,000 92,000
----------- ------------- ------------ --------------- ------------
Total expenses.. 828,000 977,000 1,805,000 1,518,000
----------- ------------- ------------ --------------- ------------
Income (loss) be-
fore income tax-
es............... (828,000) 942,000 114,000 401,000
Income taxes..... -- -- 135,000 (3) 135,000
----------- ------------- ------------ --------------- ------------
Net income
(loss)........... (828,000) 942,000 114,000 266,000
Dividends on pre-
ferred stock..... 29,000 29,000 (29,000)(4) --
----------- ------------- ------------ --------------- ------------
Net income (loss)
available for
common stockhold-
ers (6).......... $(857,000) $ 942,000 $ 85,000 $ 266,000
----------- ------------- ------------ --------------- ------------
Net income per
common share (7). $ (1.95) $ 0.08
----------- ------------
Shares used in
computing net in-
come per common
share (7)........ 439,650 3,014,708
=========== ============
</TABLE>
21
<PAGE>
- --------
(1) Reflects the Pro Forma earnings of the Steamboat Facilities as shown on
the Pro Forma Condensed Combined Statement of Operations of Steamboat
Facilities. The Company is entitled to an annual preferred return of the
first $1,800,000 of the net income of Steamboat LLC. No provision for the
interest of Far West Capital in the net income of Steamboat Facilities is
made until the annual net income of the Steamboat Facilities exceeds
$1,800,000.
(2) To reflect the reduction in interest expenses as a result of repayment of
Notes Payable and Loans Payable, conversion of $500,000 Convertible
Subordinated Secured Debentures to 125,000 shares of Common Stock and
125,000 Private Warrants, and reduction of interest rate from 18% to 9% on
$875,000 of the remaining balance of the Convertible Debentures. The
reduction of the interest rate to 9% will be accounted for prospectively.
(3) To reflect provision for federal and state taxes at 38%, while providing
for a limit on the net operating loss deduction assuming an ownership
change had taken place at the beginning of the fiscal year and the
beginning of the six month period ended July 31, 1996. A deferred tax
benefit was not provided in the historical financial statements since the
likelihood of realization of such benefit cannot be determined.
(4) Provision for dividends on Series One Preferred Stock eliminated as a
result of the Preferred Stock Conversion.
(5a) The historical amounts during the year ended January 31, 1996 and the six
months ended July 31, 1996 include approximately $185,000 and $93,000,
respectively, of interest on debts owed to related parties.
(5b) To reflect NRG income of 9% interest on $300,000 loan to Reno Energy,
$27,000 per annum, less the 18.5% minority interest in NRG.
(6) The net income (loss) available to common stockholders during the period
the 57,500 shares of Series One Preferred Stock are converted into 205,000
shares of Common Stock will be reduced by a nonrecurring amount of
approximately $791,000 representing the excess of fair value of the Common
Stock transferred to the holders of the Preferred Stock over the carrying
amount of the Preferred Stock in the Company's balance sheet.
(7) Pro forma net income per share is based on the weighted average number of
shares outstanding, the shares issued in the Debenture Conversion and the
Preferred Stock Exchange, the dividend on the 11% Preferred Stock and
shares issued in the Primary Offering to obtain funds required for the
acquisition of the Steamboat Facilities, the investment in NRG and the
retirement of debt (2,103,779 shares at January 31, 1996 and 2,245,058
shares at July 31, 1996). Assumed exercise of options and warrants have
not been reflected as they would be anti-dilutive.
22
<PAGE>
STEAMBOAT ENVIROSYSTEMS, L.C.
PRO FORMA CONDENSED BALANCE SHEET
AS OF JUNE 30, 1996
The following Pro Forma Condensed Balance Sheet gives effect to the
acquisition of two geothermal plants (the "Steamboat Facilities") accounted
for as a purchase by the Company (95% ownership interest) and Far West Capital
(5% ownership interest) for an aggregate of $5,015,000 as if such acquisition
had taken place on June 30, 1996. The total is made up of $4,741,000
(including $50,000 down payment previously paid by the Company) contributed by
the Company and $274,000 contributed by Far West Capital. The Company's
contribution will consist of (1) $1,575,000 to be distributed to the limited
partners and owners of the predecessor entities (other than Far West Capital,
Inc.) to obtain a 95% interest in Steamboat Envirosystems, L.C., (2)
$2,166,000 to be used to pay all outstanding mortgages on the Steamboat
Facilities and (3) $1,000,000 in cash to be contributed to the Partnership to
allow the potential purchase and cancellation of certain royalty interests and
to fund certain improvements to the Steamboat Facilities. Far West Capital is
contributing its limited partnership interest in Steamboat 1, valued at
$274,000 to Steamboat LLC. Far West Capital has a 5.14% ownership interest in
Steamboat 1 and is not participating in the distributions of the purchase
price paid by the Company. The Pro Forma Condensed Balance Sheet should be
read in conjunction with the Pro Forma Condensed Combined Operations of
Steamboat Envirosystems, L.C. and the historical financial statements of the
Company, Far West Electric Energy Fund, L.P. and 1-A Enterprises included in
this Prospectus.
<TABLE>
<CAPTION>
PRO FORMA ADJUSTMENTS
------------------------
DEBIT CREDIT PRO FORMA
---------- ---------- ----------
<S> <C> <C> <C>
ASSETS
Cash.................................. $4,741,000(a) $1,575,000(c)
1,000,000(d)
2,166,000(f)
Other Assets.......................... 3,000(a) $ 3,000
Property, Plant and Equipment......... 274,000(b)
1,575,000(c)
1,000,000(d)
2,166,000(e) 5,015,000
---------- ---------- ----------
Total............................... $9,759,000 $4,741,000 $5,018,000
========== ========== ==========
LIABILITIES
Notes payable......................... $2,166,000(f) $2,166,000(e)
MEMBERS' EQUITY
U.S. Energy Systems, Inc.............. 4,744,000(a) $4,744,000
Far West Capital, Inc................. 274,000(b) 274,000
---------- ---------- ----------
Total............................... $2,166,000 $7,184,000 $5,018,000
========== ========== ==========
</TABLE>
- --------
(a) To reflect cash contribution of U.S. Energy Systems, Inc. including
$50,000 deposit previously paid.
(b) To reflect contribution of Far West Capital Inc. of its 5.14% limited
partnership interest in Far West Electric Energy Fund, L.P.
(c) To reflect distributions to limited partners of Far West Electric Energy
Fund, L.P. and owners of 1-A Enterprises.
(d) To reflect the investment to purchase and cancel certain royalty interests
and to fund certain improvements to the Steamboat Facilities.
(e) To reflect assumption of the mortgage to acquire the Steamboat Facilities
from Far West Electric Energy Fund, L.P. and 1-A Enterprises (the
"Mortgage").
(f) To reflect payment of the Mortgage.
23
<PAGE>
STEAMBOAT FACILITIES
PRO FORMA CONDENSED COMBINED STATEMENT OF OPERATIONS
The following Pro Forma Condensed Combined Statement of Operations of the
Steamboat Facilities reflects the combined results of operations of the
Steamboat Facilities for the year ended December 31, 1995 and the six months
ended June 30, 1996, adjusted to eliminate those costs which will no longer
exist as a result of the purchase of interests by the Company and Far West
Capital. Steamboat LLC will acquire the Steamboat Facilities from Far West
Electric Energy Fund L.P. and 1-A Enterprises subject to a mortgage in favor
of an institutional lender and certain net revenue or royalty interests in
steam extraction rights. The $4,691,000 contributed by the Company to
Steamboat LLC will be applied as follows: (1) $1,575,000 cash purchase price
(less $50,000 down payment previously paid by the Company) will be used to
obtain a 95% interest in Steamboat LLC, (2) a mortgage on the Steamboat
Facilities, on which the last quarterly principal payment was made on October
20, 1996, which had a face value of $3,800,000 as at November 30, 1996 net of
an escrowed reserve, and will be acquired by the Company for $2,166,000 and
contributed to Steamboat LLC, and (3) $1,000,000 in cash will be contributed
by the Company to Steamboat LLC to allow the potential purchase and
cancellation of certain of the royalty interests and to fund certain
improvements to the Steamboat Facilities. This statement is not necessarily
indicative of what results of operations would have been had the Company
acquired its interest in the Steamboat Facilities at the beginning of the
periods or of what future results of operations may be. This statement should
be read in conjunction with the historical financial statements of Far West
Electric Energy Fund, L.P. (of which Steamboat 1 is a part) and 1-A
Enterprises (Steamboat 1-A) included in this Prospectus.
<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31, 1995
---------------------------------------------------------------
HISTORICAL
---------------------------------
FAR WEST
ELECTRIC
ENERGY 1 AND 1-A
FUND, 1-A PRO FORMA
L.P.(1) ENTERPRISES COMBINED ADJUSTMENTS ADJUSTED
---------- ----------- ---------- ----------- ----------
<S> <C> <C> <C> <C> <C>
Revenue:
Electric power.... $2,529,000 $875,000 $3,404,000 $ $3,404,000
Other............. 145,000 145,000 (87,000) (3a,b)
(58,000) (4)
---------- -------- ---------- ----------- ----------
Total revenues.. 2,674,000 875,000 3,549,000 (145,000) 3,404,000
---------- -------- ---------- ----------- ----------
Expenses:
Operations:
Depreciation..... 631,000 104,000 735,000 (563,000)(2) 172,000
Royalty.......... 405,000 210,000 615,000 (87,000)(3a,b) 528,000
Other............ 824,000 237,000 1,061,000 (58,000)(4) 1,003,000
Interest........... 655,000 161,000 816,000 (816,000)(5)
---------- -------- ---------- ----------- ----------
Total expenses.... 2,515,000 712,000 3,227,000 $(1,524,000) 1,703,000
---------- -------- ---------- ----------- ----------
Net income........ $ 159,000 $163,000 $ 322,000 $1,701,000
========== ======== ========== ==========
<CAPTION>
SIX MONTHS ENDED JUNE 30, 1996
--------------------------------------------------------------
HISTORICAL
---------------------------------
FAR WEST
ELECTRIC
ENERGY PRO FORMA
FUND, A 1 AND 1-A
L.P. ENTERPRISES COMBINED ADJUSTMENTS ADJUSTED
---------- ----------- ---------- ----------------- ----------
<S> <C> <C> <C> <C> <C> <C>
Revenue:
Electric power.... $1,509,000 $410,000 $1,919,000 $ $1,919,000
Other............. 68,000 68,000 (43,000)(3)
(25,000)(4)
---------- ----------- ---------- ----------------- ----------
Total revenues.. 1,577,000 410,000 1,987,000 (68,000) 1,919,000
---------- ----------- ---------- ----------------- ----------
Expenses:
Operations:
Depreciation..... 329,000 52,000 381,000 (295,000)(2) 86,000
Royalty.......... 237,000 92,000 329,000 43,000 (3a,b) 372,000
Other............ 439,000 105,000 544,000 (25,000)(4) 519,000
Interest........... 330,000 71,000 401,000 (401,000)(5)
---------- ----------- ---------- ----------------- ----------
Total expenses.... 1,335,000 320,000 1,655,000 $(678,000) 977,000
---------- ----------- ---------- ----------------- ----------
Net income........ $ 242,000 $ 90,000 $ 332,000 $ 942,000
========== =========== ========== ==========
</TABLE>
- ----
(1) Does not include the operations of Crystal Springs Project or the gain on
sale of Crystal Springs Project. Crystal Springs Project was sold by Far
West Electric Energy Fund, L.P. in February, 1995.
(2) To record estimated reduction of depreciation for new basis of assets
acquired, based on $5,157,000 total cost, assuming a 30-year depreciation
period, from date of acquisition.
(3)(a) To eliminate certain royalties paid by 1-A Enterprises to Far West
Electric Energy Fund, L.P., which amount to $87,000 in the year ended
December 31, 1995 and $43,000 in the six months ended June 30, 1996.
(b) Does not include additional savings to be made if negotiations with
certain royalty owners, already under way, are successful.
(4) To eliminate intercompany charges paid by 1-A Enterprises to Far West
Electric Energy Fund, L.P.
(5) To eliminate interest expense due to elimination of debt.
(6) No provision for the interest of Far West Capital in the net income is
required until the annual net income for the Steamboat Facilities exceeds
$1,800,000.
24
<PAGE>
U.S. ENERGY SYSTEMS, INC. AND SUBSIDIARIES
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITIONAND PLAN OF
OPERATION
RESULTS OF OPERATIONS
Year ended January 31, 1996 compared to year ended January 31, 1995
The Company had no revenues during the two fiscal years because (i) the Lehi
project acquired during that period was dormant, (ii) in the Plymouth project,
depreciation offset all earnings and (iii) efforts to arrange financing were
just beginning. In the fiscal year ended January 31, 1996, the Company had a
loss from operations of $1,474,000. This was reduced by an extraordinary gain
of $83,000 arising from the restructuring of a liability, resulting in a net
loss for the fiscal year of $1,391,000. In the earlier fiscal year the loss
from operations was $1,401,000 and the net loss was $1,316,000.
The elements making up the losses in the two fiscal years were:
<TABLE>
<CAPTION>
1996 1995
---------- ----------
<S> <C> <C>
Operating expenses.................................... $ 27,000 $ 109,000
Selling and administrative expenses................... 826,000 897,000
Interest expense...................................... 604,000 319,000
Loss from Joint Ventures.............................. 17,000 76,000
---------- ----------
Totals.............................................. $1,474,000 $1,401,000
========== ==========
</TABLE>
Operating expenses of $27,000 and $109,000 in the fiscal years ended January
31, 1996 and 1995 resulted from the adjudication of legal action on a project
which had been completed and reported in an earlier year. There will be no
further costs associated with this project.
Major items in the selling and administrative expenses were:
<TABLE>
<CAPTION>
1996 1995
-------- --------
<S> <C> <C>
Salaries and consulting fees.............................. $431,000 $407,000
Corporate expenses........................................ 70,000 85,000
Legal and professional costs.............................. 148,000 202,000
</TABLE>
While there was no revenue during the two years, it was nevertheless
necessary to expend funds for salaries and consulting fees to evaluate new
proposals and structure joint ventures and new projects for planned growth.
The Company estimates that $75,000 of the salaries and consulting costs are
non-recurring or applicable to specific projects which will absorb future
costs.
Included in corporate expenses in the fiscal year ended January 31, 1996 is
a non-recurring cost of $25,000 for a previously planned public offering that
was never consummated.
Legal and professional costs were lower in the 1996 fiscal year due to the
fact that there were no start-up costs for the Company in this year. Costs
already incurred in connection with this Prospectus, approximately $50,000 as
of January 31, 1996, have been deferred.
Interest expense increased in the 1996 fiscal year due to the additional
borrowings in notes payable and bridge loans. The bulk of the increase is
accounted for as follows: The $1,000,000 in notes payable were in existence
only part of the 1995 fiscal year and the interest on them accrued in that
year totaled $28,000, whereas for the full 1996 fiscal year the interest was
$137,000. The bridge loans came into being in June, 1995, so did not affect
the 1995 fiscal year. The interest expense in the 1996 fiscal year was
$169,000.
Losses from joint ventures of $17,000 in the 1996 fiscal year and $76,000 in
the 1995 fiscal year include $59,000 and $55,000 respectively for amortization
of purchase price over net equities in the net assets of LIPA
25
<PAGE>
and Plymouth Cogeneration. For the period ended January 31, 1996, the
Company's allocated share of income or loss from joint ventures equalled
$86,000 gain from LIPA, and $44,000 loss from Plymouth Cogeneration. The
Company's gain from LIPA includes $118,000 gain from sale of unused plant
equipment.
Six months Ended July 31, 1996 Compared to 1995
The Company had no revenues for either of these periods. The losses shown
were made up of the following major elements:
<TABLE>
<CAPTION>
1996 1995
-------- --------
<S> <C> <C>
(Loss) from joint ventures................................... $ 92,000 $ 62,000
======== ========
Operating expenses........................................... -- $ 26,000
======== ========
Selling and administrative expenses:
Salaries and consulting fees............................... $239,000 $190,000
Legal and professional fees................................ 77,000 63,000
Corporate expenses......................................... 15,000 48,000
All other.................................................. 77,000 94,000
-------- --------
Total selling and administrative expenses.................... $408,000 $395,000
======== ========
Interest expenses............................................ $328,000 $223,000
======== ========
The six-month joint venture losses break down as follows:
Lehi Independent Power Associates, L.C. ("Lehi")............. $ 58,000 $ 40,000
Plymouth Cogeneration Limited Partnership ("Plymouth")....... 34,000 22,000
-------- --------
Total (loss) from joint ventures............................. $ 92,000 $ 62,000
======== ========
</TABLE>
Operating expenses in the 1995 period resulted from the adjudication of
legal action on a project which had been completed and reported on earlier.
There will be no further costs associated with this project.
Consulting agreements which began during 1995 and were not in existence
during the 1995 period accounted for the increase in salaries and consulting
fees. The Company has entered into a consulting agreement with Indus Inc. for
assistance in developing both projects and joint development agreements in
Asia, with specific emphasis on India. To date, Indus Inc. has been
instrumental in bringing in the potential project for the Rajinder Steel Mill
in Raijpur, India and for developing the potential for a consortium with
Raunaq Industries in New Delhi, India. The Company has also entered into a
consulting agreement with Knoll Capital Management relating to specific work
being done for the Company to develop projects in Israel and the Middle East.
Knoll Capital Management was instrumental in arranging the kibbutz project in
Israel which the Company is currently pursuing. See "Certain Transactions."
Legal and professional fees were higher in the current quarter due to the
additional costs related to the additional bridge loans, amortized over the
terms of the loans. Costs incurred in connection with the public and private
financing have been deferred. As of July 31, 1996, these amounted to $221,000.
The corporate expenses in 1995 included a non-recurring cost of $25,000 for
a previously planned public offering that was never consummated. Interest
expense increased in the 1996 period due to higher levels of borrowing,
including bridge loans which began in June, 1995.
LIQUIDITY AND CAPITAL RESOURCES
The Company has no contractual commitment for capital expenditures at this
time. The Company has employment agreements with two of its officers which
expire five years from the date of this Prospectus. The agreements provide for
minimum annual payments totaling $210,000. Payments under these agreements
will not be made until the working capital of the Company permits.
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<PAGE>
As a result of accumulated losses, the Company had a negative working
capital of $1,910,000, and a capital deficiency of $2,729,000 at January 31,
1996, and $2,794,000 and $3,557,000, respectively, at July 31, 1996. The
independent auditors' report for the fiscal year ended January 31, 1996 states
that these factors raise substantial doubt about the Company's ability to
continue as a going concern. As a result of the Primary Offering, the
Company's pro forma working capital at July 31, 1996 would be a positive
$1,738,000.
During the fiscal year ended January 31, 1996, net cash used in operating
activities was $641,000. Cash used in investing activities was $29,000, with
$53,000 having been used in connection with the Steamboat Acquisition, offset
in part by collections of a loan receivable from an officer of the Company.
During the 1996 fiscal year, $34,000 was received from the sale of Common
Stock and $785,000 was received as proceeds from notes and loans payable.
Other adjustments brought the total cash flow provided by financing activities
to $664,000.
During the fiscal year ended January 31, 1995, net cash used in operating
activities was $874,000. Cash used in investing activities totaled $694,000,
of which $647,000 was for investment in and advances to joint ventures. Cash
provided by financing activities totaled $1,396,000 with $139,000 derived from
sale of Common Stock and $1,375,000 from borrowings.
During the six months ended July 31, 1996, cash flow was carefully
conserved. Salaries were deferred and additional bridge loan borrowings
amounting to $175,000 were received. Fifty percent of interest payments to
holders of the Convertible Debentures continued to be deferred until paid out
of the proceeds of the Primary Offering, by agreement of the holders of the
Convertible Debentures.
PLAN OF OPERATION
The net proceeds of the Primary Offering will be approximately $10,662,000.
Of this total, the Company's acquisition of 95% of Steamboat LLC will use
$4,691,000 (plus $50,000 that had already been paid as a deposit.) Other
liabilities required to be paid have been adjusted to include additional
bridge loan borrowings and interest accruals through November 30, 1996. The
bridge loans, including interest, total $1,130,000, secured notes payable,
including interest, total $1,232,000, and accrued interest on the Convertible
Debentures required to be paid as part of the restructuring of these
instruments, total $405,000. It is Management's belief that the funds
remaining as working capital, together with the income from the projects
including the Steamboat Facilities, will be sufficient to meet the
requirements of the Company for the next 12 months of operation without having
to raise additional funds except on a project finance basis for new projects.
The steps taken to reduce the Company's interest costs include (i) the
capitalization of $500,000 of the Convertible Debentures and the reduction of
the interest rate on $875,000 of the balance after consummation of the Primary
Offering from 18% to 9%, (ii) the payment of secured notes in the principal
amount of $1,000,000 and interest thereon, and (iii) repayment of all bridge
loans. The interest expense reflected in this Prospectus gives effect to the
fact that three of the 26 holders of Convertible Debentures, representing
$150,000 in principal amount, have not agreed to the interest rate reduction
from 18% to 9% per annum. Accordingly, the Company's annual interest expense
will be $13,500 greater than the Pro Forma amounts shown in this Prospectus.
In addition, the Steamboat Acquisition is expected to give the Company a
positive cash flow from all joint ventures in the current fiscal year. This
will not be impacted by payment of dividends since the shares issued to Anchor
for the initial bridge loan are being converted to 205,000 shares of common
stock.
The current power purchase agreements with Sierra Pacific Power Company
("Sierra") provide for price adjustments in December 1996 for Steamboat 1 and
in December 1998 for Steamboat 1A. Under the contracts, Steamboat LLC is
required to sell power to Sierra for additional 10-year periods at the then-
prevailing short-term avoided costs for electricity for Sierra. However,
Sierra has indicated that it would be willing to negotiate a
27
<PAGE>
mutual release of the contract. If the price adjustments were to be made now,
the new prices based on the contract formula would be substantially less than
the existing contract rates. Although Management believes that revenues
generated will still be in excess of the costs of production, there is no
assurance that future prices at which the electricity generated by the
Steamboat Facilities may be sold will exceed the cost of production, or that
Steamboat LLC will generate adequate cash flow from operations to meet its
investing and financing requirements. Although the prices are variable and
fluctuate, if, as expected, a substantial reduction in power prices for
Steamboat 1 takes place in December 1996, the result would mean a decrease in
the Company's share of the net earnings of Steamboat LLC, which, depending on
the extent of the price reduction, could result in the Company reflecting a
net loss. If rates offered by Sierra are not satisfactory, the Company and its
partners may seek to negotiate termination of the existing contracts. The
Company believes that under new regulations it will be able to sell the output
of electricity to other electric utility purchasers at more favorable prices.
The Company will contribute $1,000,000 to Steamboat LLC for the purpose of
buying out certain royalty interests and to fund certain improvements to the
Steamboat Facilities which are expected to result in higher electricity
output. While negotiations with certain royalty owners have already begun, no
agreements have yet been concluded and potential savings from royalty
reductions are not reflected in the pro forma financial statements presented
herein. Additional royalty agreements, applying only to Steamboat 1, call for
payment of a total of 30% of the net revenue of Steamboat 1 after certain
deductions, starting March 1, 1997. The resulting effect on the net income of
Steamboat LLC and on the Company's after tax income will depend on the other
elements of power sales revenues outlined above. Assuming the reduction in
income from power sales illustrated above, and the buyout of no royalty
interests, the cost of these net revenue royalties could be in the range of
$50,000 to $100,000 annually. Negotiations with these interests have also
already begun, and Management believes they will be successfully purchased
although no assurance can be given that such negotiations will be successful.
See "U.S. Energy Systems, Inc. and Subsidiaries Pro Forma Condensed
Consolidated Statements of Operations," "Steamboat Facilities Pro Forma
Condensed Combined Statement of Operations," and "Business--Current Operations
and On-Going Projects."
In 1995, the Company and its partners in the Lehi Plant concluded a sale of
non-essential engines and parts of the Lehi, Utah plant for a gain of
approximately $236,000, with 50% or $118,000 as the Company's share. The
partnership is using a portion of the funds from this sale to upgrade the
remaining two engines and place them in service. Currently there are no
contracts for the sale of the power output of the Lehi Plant. However,
negotiations for such contracts will begin as soon as the plant is in
operational status, and it is anticipated that cash flow will be generated
during the fourth quarter of the fiscal year, provided that it obtains the
necessary air quality permits. Alternatively, the Lehi partners may decide to
sell two of the engines and to replace them with a larger and more efficient
gas turbine. If such sale is made, the Company would benefit through its 50%
share of the revenue from the sale; however, operations would be delayed until
the second quarter of the next fiscal year. The cost of the new engine is
expected to be fully financed directly through the manufacturer without
additional investment by the Company.
Under Title V of the Clean Air Act, the Lehi Plant must obtain an operating
permit from the Utah Division of Air Quality before it can commence
operations. The Title V program did not take effect in Utah until July 10,
1995. Therefore, a Title V permit was not a requirement during past operations
of the facility, but it will be a requirement for future operations. A permit
modification would also be necessary if new engines are installed or if
capacity is increased.
The Plymouth, NH plant has been operating since January 1995 and
historically has not provided revenues or cash flow to the Company because of
costs related to equipment adjustments and operational reserves required by
the terms of the financing. However, the plant has begun to provide cash flow
to the Company. The Company received its first distribution amounting to
$20,000 in August 1996. In addition, switching the plant's fuel supply to less
expensive waste oil, as is presently being contemplated, could add to cash
flow starting during the next fiscal year, as the Partnership has an agreement
with the university to share equally in any fuel savings. There are also plans
being studied to expand the size of the project to serve other New Hampshire
college system campuses through wheeling, as described in "Business," which
would take place during fiscal year 1998.
28
<PAGE>
The Company also expects revenues from other projects, currently being
negotiated, that will be under way during the next twelve months but are not
yet under contract. There are five such projects, not including Steamboat, at
least four of which the Company believes will be secured and from which
revenues are anticipated to commence within the next twelve months. These
include two projects for two separate shopping malls in El Paso, TX, a large
resort and commercial center in St. Thomas, USVI, a residential and commercial
center at a kibbutz in Haifa, Israel, and in the long term a steel mill in
Raipur, India. With regard to the shopping malls and the St. Thomas resort,
the Company and its joint development partners in each case will own and
operate the cogeneration facilities. The Company has signed a letter of intent
with the owners of Bluebeard's Castle, a large resort and commercial complex
in St. Thomas, USVI, to build and operate a 3 megawatt Cogeneration plant and
a 120,000 gallon per day water recovery system in the resort's property. The
Company, the resort manager and the resort owners will own the cogeneration
plant and water system and share revenues based on capital investment in the
project. The resort owners have paid approximately $41,000 for the
installation of the first of six engine generators, installed September 1996.
While the Company anticipates realizing additional revenues for its
engineering and equipment sales to the project immediately upon the start of
construction, and anticipates that the main stream of revenue will be the sale
of energy to the host facilities over the fifteen year term of the contract,
there can be no assurance that this will occur. In the case of the Israeli
kibbutz project, the Company would be selling the hardware and providing
engineering services for installation to the kibbutz, and the Company's
revenues will be derived from these sales. In the case of the Raipur steel
mill, the Company will provide consulting services to the steel mill for the
acquisition, shipping and installation of the hardware. The consulting fee
will be a percentage of total cost.
These other projects should not require capital outlays, as they will be
self-financed. The working capital remaining after the closing of the Primary
Offering, together with the regular income from Steamboat LLC, will be
adequate for operational needs during the next twelve months.
While the Company does not conduct research and development per se, it will
expend funds to investigate and develop new projects. It is anticipated that a
total of approximately $100,000 will be spent over the next twelve months on
such endeavors, which will come from working capital as available. Although
each project which comes on stream has its own project staff which becomes a
cost of the specific project, the Company does plan to add at least three more
employees to headquarters staff to assist management. Expenses for such staff
increase, as well as expenses for outside consultants, have been taken into
account in planning for the Company's budget over the coming year.
RESTRUCTURING OF DEBT
Concurrently with the consummation the Primary Offering and the other
Closing Transactions, the Convertible Debentures, of which an aggregate
principal amount of $1,525,000 is outstanding, will be restructured by
converting $500,000 principal amount into 125,000 shares of Common Stock and
125,000 Private Warrants and reducing the conversion rate on $875,000 of the
remainder to $8.00 per share from the present $16 per share, making the
remainder convertible into 128,125 shares of Common Stock. From and after the
consummation of the Primary Offering, the interest rate on $875,000 in
principal amount will be 9% instead of the present 18%. Three of the 26
holders of Convertible Debentures, representing $150,000 in principal amount,
have not agreed to participate in this restructuring.
ACCOUNTING STANDARDS
During the fiscal year ending January 31, 1997, the Company will be required
to adopt Statement of Financial Accounting Standard ("SFAS") No. 121,
"Accounting for the Impairment of Long-Lived Assets," and SFAS 123,
"Accounting for Stock-Based Compensation," neither of which is expected to
have a material effect in the Company's financial statements.
IMPACT OF INFLATION
The Company's contracts include adjustments for changes in inflation
indices. The impact of inflation on Company earnings and cash flows is
expected to be minimal.
29
<PAGE>
BUSINESS
THE COMPANY
The Company, formerly called Cogenic Energy Systems, Inc. and U.S.
Envirosystems, Inc., was incorporated under the laws of the State of Delaware
in 1981 in order to engage in the design, assembly, turn-key sale and
installation of factory built cogeneration systems powered by diesel oil
and/or natural gas. Richard H. Nelson, President of the Company, is one of the
two founders of the Company and acted as its Chief Executive Officer until
1989. In late 1986, the Company was impaired by a $2,100,000 judgment
resulting from a contractual dispute in California. Although ultimately
settled, the protracted court case caused serious delays in planned expansion
and in sales. Despite extensive restructuring, the increasingly recessionary
economic climate during that period led to a serious cash shortage. By mid-
1989, the Company filed for protection under Chapter 11 of the Bankruptcy
Code.
Utility Systems Florida, Inc. ("USF") was formed by Mr. Nelson in late 1991
with the objective of entering into the alternative energy industry. USF
proposed a Plan of Reorganization for the Company with the intent of merging
USF with the reorganized company. The Plan of Reorganization was approved by
the creditors and stockholders of the Company, and the U.S. Bankruptcy Court,
Southern District New York, confirmed the Plan in March 1993. Pursuant to the
Plan, USF was merged into the Company and the Company was renamed U.S.
Envirosystems, Inc. Mr. Nelson resumed the positions of President and Chief
Executive Officer of the Company when it emerged from bankruptcy. On May 17,
1996, the Company changed its name from U.S. Envirosystems, Inc. to U.S.
Energy Systems, Inc.
BUSINESS OF THE COMPANY
Since its reorganization, the Company has been engaged in the independent
power plant ("IPP") industry as a project developer, owner and operator. IPP's
produce electricity for sale to either direct end users or to regulated public
electric utility companies. Regulated public electric utility companies have
historically produced electricity and have held the exclusive distribution
rights of the electricity thus produced to end users in specific geographic
territories. The exclusive right to the distribution of electric power within
a specific territory is a right granted to the regulated public utility
company by the various state public utility commissions where such regulated
public utility companies are located. Because the exclusive franchise right is
in effect a monopoly, the rates charged for electric power and other services,
as well as overall operations, are regulated by the state public utility
commissions.
In recent years, however, federal and state laws have been promulgated to
reduce and/or eliminate the regulated public electric utility industry's
monopoly over the production and sale of electric power in order to enhance
competition among electricity providers, hence, the emergence of IPP's. In
addition to conserving natural resources and reducing atmospheric pollution by
encouraging more efficient production of electric power, competition should
result in lower consumer costs for energy. "Independent power plants" and
"cogeneration plants" are frequently used interchangeably to describe the
power industry which is an alternative to the regulated power industry. IPP's
generally, but not always, produce power utilizing a process known as
"cogeneration." Cogeneration is defined as the production of two or more
energy forms (typically electricity and heat) simultaneously from the same
fuel source. While producing electricity, otherwise wasted heat is recovered
from the exhaust and/or engine cooling water. This recovered heat can be used
to replace heat which would otherwise be made from conventional furnaces and
boilers. Other IPP's may not technically be "cogenerators" but rather utilize
renewable fuel sources such as geothermal, wind, solar, hydro, and waste
products such as waste oil, waste wood and other bio-mass waste, or landfill
gas. The favorable economics of cogeneration or innovative and inexpensive
renewable fuel sources allow IPP's to compete with the longer established
regulated power industry.
The Company's strategy is to seek projects requiring power production or
cogeneration and to become an equity participant with the owners, developers
or other involved parties in return for the Company's expertise in the
structuring, design, management and operation of the projects. Often, at the
time of the Company's initial involvement, such projects will have advanced
beyond the conceptualization stage to a point where the
30
<PAGE>
engineering, management and project coordination skills the Company offers are
required to proceed. Although the Company has only begun to develop new
projects since USF merged with the reorganized Cogenic Energy Systems, Inc. in
November 1993, the president and key consultants of the Company have been
involved in the power generation industry for over twenty years and the
alternative energy business for over fifteen years and have been involved in
the building of over 200 power projects in the United States and abroad
ranging in size from 100 kilowatts to 50 megawatts. Innovative power projects
developed by the principal executive include cogeneration systems for ocean-
going U.S. Coast Guard and Navy vessels.
In furtherance of its strategy, the Company is opportunistically pursuing:
(i) existing IPPs and cogeneration facilities which can be bought at favorable
prices; (ii) IPP and cogeneration projects not yet built but for which another
developer has successfully negotiated the basic requirements for a plant
including power purchase agreements, environmental permits, etc., and (iii)
special market opportunities for cogeneration and energy savings projects
(such as large shopping malls, resorts, etc.) where such energy applications
are not presently in common use and where the Company can enter into joint
development agreements with the property owners to own and operate such
facilities. With regard to the latter, the Company possesses designs for, and
will continue to seek out or develop, special energy-efficient products such
as natural gas powered air conditioning with emphasis on the health care, food
processing, shopping mall and hotel markets where large quantities of
electricity, air conditioning and hot water are required on a continuous and
simultaneous basis.
The Company believes the greatest future potential for the Company in the
independent power plant/cogeneration market within the United States is in
facilities in the 3 to 50 megawatt size range. Additionally, the Company
believes that the largest potential for "inside-the-fence" facilities (where
all the energy forms produced are consumed at the power plant location) falls
into this size category. This range is advantageous because, within this
range, and depending on geographic location, these plants usually fall below
thresholds requiring prolonged environmental and air quality permit procedure
and may achieve more favorable pricing for its electricity from either the
utility grids or local customers. The reasons for more favorable pricing are
that plants of this size can be located in specific areas of power capacity
shortages. Regulated utility companies purchasing such power to assist in
meeting shortages are frequently willing to pay more than "avoided cost"
(i.e., their cost to produce an incremental kilowatt), and local end users are
frequently willing to pay full retail prices which is more cost effective than
interruptions of service due to shortage induced brown-outs.
Also, the air quality permitting process for the size range contemplated by
the Company is generally faster, easier and more assured than in the larger
projects. The basis for granting air quality permits varies from location to
location, but permits are always required before commencement of operations.
In applying for such permits, the facility developers present a computer model
of emissions of carbon monoxide and nitrous oxides which would be expected to
issue from the facility over a one year period. This model is based on the
fuel used, the anticipated annual hours of operation, the engine
manufacturer's specifications for emissions, and the reduction of such
emissions from application of catalytic converters or other devices. The
emissions are then expressed in weight, e.g., "100 tons per year." The local
air quality authority will then determine if this is acceptable for the area.
The local air quality authority may or may not require continuous emissions
monitoring to insure that the level of emissions granted in the permit are not
exceeded.
If the facility is recovering waste heat and utilizing that heat to displace
heat which would otherwise be made from burning fuels in conventional furnaces
or boilers, and if the emissions from the facility are actually less than the
emissions which would be forthcoming from the conventional furnaces or boilers
so displaced, there is said to be a "net reduction" in emissions for the area,
and the permitting authorities will normally act promptly and favorably to
grant the permit. If the facility is not using recovered waste heat to
displace other heat source emissions, e.g., a large, stand-alone generating
plant with no cogeneration, there would be a "net increase" in emissions in
that geographic area. Under such circumstances, the permitting process could
be prolonged and made difficult by public hearings, public interventions, and
the considerably more careful determinations which the local air quality
authority must make in order to decide whether or not such net increase in
emissions can be allowed.
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<PAGE>
In the smaller size range, so-called "inside-the-fence" projects, nearly all
of the electrical and thermal output can be utilized by the host site. The
thermal output of the cogeneration system replaces conventional thermal output
from the host's boilers and furnaces with substantially less atmospheric
emissions of nitrous oxide (NOX) and carbon monoxide (CO) because of the
emission control technology available to cogeneration engines which is not
available to boilers and furnaces. Since the cogeneration system results in a
net reduction in emissions for the specific site, air quality permitting
authorities will generally respond quickly and favorably. In contrast, while
the larger projects (over 50 megawatts) usually have no problems in placing
the electrical output, there is a problem in finding suitable thermal hosts
who can use the vast quantities of heat produced. Under such circumstances,
even if all of the host's thermal requirements are offset, there is still an
increase in net emissions in the area of the power plant. A prolonged and
difficult permitting process is frequently the result.
The Company has begun to develop several projects in the 3 to 50 megawatt
size range with emphasis on "inside the fence" applications. Although natural
gas has proven to be a superior and economical fuel choice for many sites, the
Company also intends to emphasize projects which can utilize alternative
and/or renewable fuels, since such projects not only serve the interests of
the public from an environmental and ecological standpoint but also have the
greatest potential for earnings because of the low fuel costs. In addition to
potential within the United States, there are substantial opportunities
overseas for such projects, especially in Latin America and Asia. The Company
believes that energy shortages, combined with national policies to privatize
power production in many developing countries, are creating an increasing
potential for U.S. companies in the independent power industry. In addition to
international agencies such as the World Bank and the Inter-American
Development Bank, there are a growing number of private institutional lenders
who provide project financing for such developments. The Company has commenced
an effort to create consortiums with both foreign companies and other U.S.
companies to pursue this market since the Company does not presently have the
financial resources or personnel to pursue such projects by itself. For
example, the Company has entered into a memorandum of understanding with
Raunaq Industries in India to pursue the creation of a consortium to build one
or more large coal fired power plants. In Panama, while no definitive
consortium agreement has been signed, the Company and its Panamanian partners
have created a Panamanian corporation (Panavisa), which has applied to the
Panamanian government for pre-qualification to bid on several projects.
COGENERATION AND INDEPENDENT POWER PRODUCTION
Cogeneration is the process of producing two or more energy forms (typically
electricity and heat) simultaneously from the same fuel source. In order to
encourage the conservation of natural resources such as fossil fuels and to
foster development of non-fossil fuel energy sources, the federal government
enacted PURPA, which mandated that all state public utility commissions
require public electric utility companies to cooperate with privately owned
cogeneration facilities, both by purchasing electricity from such facilities
at the utility company's "avoided cost" (i.e., the utility company's
incremental cost for generating such electricity itself) and by providing
standby power to such privately owned facilities.
When electricity is produced, whether in a small cogeneration facility or in
a large central utility power plant, the energy efficiency of the fuel used
(the electrical output expressed in BTUs divided by the amount of BTU input to
the engines) does not exceed 35%. The remaining 65% of available energy
efficiency from the fuel is waste heat, either expelled from the exhaust or
removed from the engine's jacket water by radiators. By recovering substantial
portions of this otherwise wasted heat, and by converting this heat into
useful thermal purposes, the fuel efficiency of a cogeneration facility can
approach 75%. This converted waste heat replaces heat that would otherwise
have to be made using yet another fuel. Central utility power plants have the
ability to recover such heat, but the long distances of such plants from
customers who could utilize thermal energy makes recovery and transport
impractical.
In April 1996 the Federal Energy Regulatory Commission ("FERC") promulgated
a regulation which orders all electric utility companies to open their
transmission lines to independent power producers thus allowing wholesale
purchase of power by the utilities from distant independent producers. While
the federal regulation does not mandate that the transmission lines be opened
for direct sale of power by independent producers to retail end users, many
states are expected to phase in such regulations in the future. See
"Business--Government Regulation."
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CURRENT OPERATIONS AND ON-GOING PROJECTS
Steamboat Geothermal Power Plants. The Company has signed an agreement to
form Steamboat LLC, a limited liability company which will acquire two
geothermal power plants, referred to as the Steamboat Facilities, in Steamboat
Hills, Nevada. Electricity is produced in these geothermal plants through the
use of heat in the form of hot water from the earth. The electricity is
produced through a "binary system" in which geothermal hot water is circulated
in one closed loop and, in another closed loop, inert gas is compressed and
heated. The compressed inert gas drives turbines to generate the electricity.
The geothermal water is reinjected into the earth to be re-heated again
through the earth's sub strata magma formation. Because there are virtually no
atmospheric emissions or pollutants in the process, because the natural
resource (water) is constantly returned to the earth to avoid depletion of the
underground aquifer water table, and because the heat source is the earth's
natural magma layer, geothermal power is considered one of the most
environmentally sound methods of producing electricity. However, it can only
be produced in locations where specific geological formations exist.
Steamboat LLC will acquire the Steamboat Facilities from Far West Electric
Energy Fund L.P. ("FWEEF") and I-A Enterprises subject to a mortgage (the
"Mortgage") in favor of an institutional lender and certain net revenue or
royalty interests in steam extraction rights. Far West Capital is the general
partner and a limited partner in FWEEF. The Company will obtain a 95% interest
in Steamboat LLC by contributing to Steamboat LLC the $1,575,000 cash purchase
price (less $50,000 down payment previously paid by the Company) for the
Steamboat Facilities. Far West Capital will own the remaining 5%. The
Mortgage, on which the last quarterly principal payment was made on October
20, 1996, will have a face value of $3,800,000 at November 30, 1996 net of an
escrowed reserve, and will be acquired by the Company for $2,166,000 and
contributed to Steamboat LLC. While the Mortgage is in technical default, the
holder of the Mortgage has waived its rights and has negotiated with the
Company the payment for the Mortgage. An additional $1,000,000 in cash will be
contributed by the Company to Steamboat LLC to provide capital for the
potential acquisition of certain of the royalty interests and for funding
certain improvements to the Steamboat Facilities. While negotiations with
certain royalty owners have already begun, and the Company and its partners
believe that these interests can be bought out, no agreements have yet been
concluded and no potential savings from royalty reductions are reflected in
the pro forma financial statements presented herein. Additional royalty
agreements, applying only to Steamboat 1, call for payment of a total of 30%
of the net revenue of Steamboat 1 after certain deductions, starting March 1,
1997. The resulting effect on the net income of Steamboat LLC and on the
Company's after tax income will depend on the other elements of power sales
revenues outlined above. Assuming the reduction in income from power sales
illustrated above, and the buyout of no royalty interests, the cost of these
net revenue royalties could be in the range of $50,000 to $100,000 annually.
Negotiations with these interests have also already begun, and Management
believes they will be successfully purchased, although no assurance can be
given. See "U.S. Energy Systems, Inc. and Subsidiaries Pro Forma Condensed
Consolidated Statements of Operations," "Steamboat Facilities Pro Forma
Condensed Combined Statement of Operations" and "Management's Discussion and
Analysis of Financial Condition and Plan of Operation--Plan of Operation."
Far West Capital has a 5.14% ownership interest in FWEEF and is contributing
to Steamboat LLC the debt owed to it by FWEEF. Far West Capital will not
receive any portion of the purchase price paid by the Company. The Company
will receive the first $1,800,000 of Steamboat LLC annual net income. For net
income above $1,800,000, Far West Capital will receive: (i) 55% for the first
five years and (ii) 5% thereafter, with the Company to receive the balance.
Far West Capital was established in 1983 and has been a developer and operator
of cogeneration and independent power projects, principally hydroelectric and
geothermal, in the western United States and is the Company's current partner
in LIPA. The two Steamboat geothermal plants were built in 1986 and 1988,
respectively, by Far West Capital. A substantial portion of the net proceeds
of the Primary Offering and the Private Placement will be used for this
acquisition, which will generate immediate cash flow for the Company, thereby
allowing it to pursue and launch additional projects, none of which is the
subject of a binding or definite agreement.
The Steamboat Facilities are currently managed by the professional
operations staff of SB Geo, Inc. The principals of Far West Capital own the
majority interest in SB Geo, Inc. After the Company has purchased its
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equity interest in Steamboat LLC, SB Geo, Inc. will continue to manage the
day-to-day operations of the Steamboat Facilities. Charges by SB Geo, Inc. for
services rendered will be negotiated at arms length, and may not exceed
charges for similar services which could be obtained from other sources.
The two geothermal plants produce 8 megawatts of electric power which is
sold under two power purchase agreements to Sierra. The plants have operated
at 99% capacity since inception. The current power purchase agreements have
price adjustments in December 1996 for Steamboat 1 and in December 1998 for
Steamboat 1-A, which require Sierra to purchase and Steamboat LLC to provide
electricity at Sierra's then-prevailing short-term avoided cost. If the price
adjustments were to be made now, the new prices based on the contract formula
would be substantially less than the existing contract rates. Although
Management believes that revenues generated will still be in excess of the
costs of production, there is no assurance that future prices at which the
electricity generated by the Steamboat Facilities may be sold will exceed the
cost of production, or that Steamboat LLC will generate adequate cash flow
from operations to meet its investing and financing requirements. Although the
prices are variable and fluctuate, if, as expected, a substantial reduction in
power prices for Steamboat 1 takes place in December 1996, the result would
mean a decrease in the Company's share of the net earnings of Steamboat LLC,
which, depending on the extent of the price reduction, could result in the
Company reflecting a net after tax loss. However, Management believes that a
more satisfactory price is likely to be obtained for the electricity generated
in the Steamboat Facilities through negotiations with Sierra or otherwise,
although no assurance can be given that such efforts will be successful. In
addition, if Sierra were to consent to releasing the Company from the existing
power purchase agreements, the Company would be free to sell the power to
other utilities. While under the power purchase agreements, Sierra has an
obligation to buy the electricity generated and the plants have an obligation
to sell the same to Sierra, negotiations relating to the price adjustments may
result in a mutual cancellation of the agreement if such is favorable to both
sides. Sierra has indicated it would be willing to negotiate a mutual
cancellation.
There are currently five geothermal power projects operating in Steamboat
Hills, Nevada, totalling approximately 62 megawatts of output. In addition to
the 8 megawatt Steamboat 1 and 1-A projects which came on line in 1986 and
1988, respectively, the 35 megawatt Steamboat 2 and 3 projects were developed
and built by Far West Capital in 1992 and remain owned by Far West Capital. In
addition, Caithness Power, Inc. brought a 12 megawatt project on line in 1995.
There is currently a total of approximately 170 megawatts of geothermal power
being produced in Nevada with production from the Steamboat Hills area
accounting for approximately 36%.
Plymouth State College, New Hampshire. In 1994 the Company, through its
subsidiary, Plymouth Envirosystems, Inc., acquired a 50% interest in Plymouth
Cogeneration which owns and operates a cogeneration plant which produces 2.5
megawatts of electricity and 25 million BTUs for heat at Plymouth State
College, in Plymouth, New Hampshire. The facility provides 100% of the
electrical and heating requirements for the campus, which is a part of the
University of New Hampshire system, under a twenty year contract. The project,
which cost $5.9 million to construct, is comprised of a combination of diesel
engine-generators, heat recovery and supplemental boilers, and the complete
civil works tying all campus buildings into a single heating loop. The project
was financed prior to the Company's acquisition of a 50% interest through
$5,110,000 in State of New Hampshire tax exempt revenue bonds and $700,000 in
equity. The Company paid a total of $636,000 in cash and 11,400 shares of
Common Stock for its 50% interest.
The Company's partners in Plymouth Cogeneration are Central Hudson
Enterprises Corporation, a wholly owned subsidiary of Central Hudson Gas &
Electric Corporation of New York, and Independent Energy Corporation ("IEC").
The project was completed in November 1994 and put into full commercial
service in January 1995. IEC Plymouth, Inc. ("IEC Plymouth"), a wholly-owned
subsidiary of IEC, runs the day-to-day operations of the plant and the
management decisions are resolved by a management committee which is composed
of representatives of the Company, IEC and Central Hudson Enterprises
Corporation.
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The State of New Hampshire has initiated a study to determine the
feasibility of expanding the existing facility to wheel electric power to two
other state college campuses. Also, plans are currently being developed by
Plymouth Cogeneration to install special fuel treatment equipment which will
allow the existing engines to burn less costly and more efficient fuels. Fuel
cost savings would be shared equally between the college and the partnership.
There can be no assurance that such fuel treatment equipment will be installed
or that such fuel cost savings will be realized.
Lehi Cogeneration Project. In January 1994, the Company, through its
subsidiary, Lehi Envirosystems, Inc. ("LEI"), purchased a 50% equity interest
in LIPA, which owns a 17 megawatt cogeneration facility in Lehi, Utah and the
underlying real estate, hardware and permits to operate. Although the facility
has been dormant since 1990, work is underway to commence operations at the
facility and the Company believes it is capable of future operations. The
Company estimates that it will cost $30,000 to commence operations. The
successful operation of the plant also requires the negotiation of an
agreement with a utility company to purchase the electrical output. LIPA has
been negotiating with the municipal authority and the town of Lehi. No
agreements are yet in place and there can be no assurance that the Company
will be able to successfully negotiate any contracts. The Company and its
partners, who own the remaining 50% of LIPA, share on a pro-rata basis the
ownership, retrofitting costs, annual expenses, and revenues associated with
the project. The Company financed its acquisition cost of $1,225,000 for this
interest through the issuance of Convertible Debentures. In addition to
payment of interest, the Company is obligated to pay the holders of the
Convertible Debentures a pro rata portion of 50% of LIPA's share of the net
revenue (net of funds required for the payment of interest) resulting from
LIPA's energy sales. See "Description of Securities--Convertible Debentures"
and "Certain Transactions." The Company's partners in the Lehi project are Far
West Capital and Suma Corporation ("Suma"), a Utah company with interests in
waste-to-energy projects. The Lehi facility is managed by a management
committee which is composed of representatives of Far West Capital, Suma and
the Company.
Lehi originally had three engine generators totaling 17 megawatts. One unit
which would have required extensive and costly repairs was sold in December
1995, resulting in a gain of approximately $236,000. The two remaining units
totaling 10 megawatts are currently being prepared to start commissioning in
order to allow them to be put in operation during the fourth quarter.
Concurrently with readying these engines for operational status, the LIPA
partnership has received an offer to purchase these engines and is evaluating
this option. If a satisfactory sales price is obtained, LIPA would thereafter
begin plans to acquire and install a 35 megawatt gas turbine, which would have
substantially greater efficiency. If the engines were sold, commencement of
operations would be delayed from the fourth quarter of the current fiscal year
until the second quarter of the next fiscal year. The proceeds from the sale
of these engines would provide sufficient operating capital for the
partnership until the larger gas turbine was operational. Financing for the
gas turbine, if this option is selected, would be provided by the engine
manufacturer.
Under Title V of the Clean Air Act, the Lehi Plant must obtain an operating
permit from the Utah Division of Air Quality before it can commence
operations. The Title V program did not take effect in Utah until July 10,
1995. Therefore, a Title V permit was not a requirement during past operations
of the facility, but it will be a requirement for future operations. A permit
modification would also be necessary if new engines are installed or if
capacity is increased. Because all existing facilities were required to submit
operating permit applications in 1995, the Division of Air Quality has had a
significant backlog.
Shortly after the Company's interest in the project was purchased, Micron
Technologies, Inc. ("Micron") announced it intended to build a $1.5 billion
manufacturing facility in the town of Lehi on property one mile from the Lehi
Cogeneration Facility. The town announced that it would supply power to Micron
through its municipal power authority. The town does not have a power
generation capability, but acquires power through the Utah Association of
Municipal Power Systems ("UAMPS"). Over one year was spent in discussions with
Micron, the town of Lehi, and UAMPS as to the feasibility of increasing the
capacity from the facility to serve the 35 megawatt requirements of Micron. As
a result of these discussions, the Company and its partners decided to sell
one seven megawatt engine which was non-functional in order to make room in
the plant for a larger and more efficient engine. It was also decided during
this period that it was premature to put the plant in operation
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before its full intended utilization was determined. Management had been
negotiating with Micron to provide direct sale of 35 megawatts from the Lehi
facility. During these prolonged negotiations, and up until Micron's decision
in April 1995 to suspend construction of their new plant, Management was
constrained by local political sensitivity from seeking sale of electricity
from the Lehi facility to other potential purchasers. Management believes,
however, that the substantial population and industrial growth being
experienced in the area is creating a large, future market for power.
Management further believes that it should plan to increase the Lehi
facility's size to 35 megawatts using high efficiency gas turbines since a
market is rapidly developing. Even in the absence of Micron, 35 megawatts is
the size under discussion because the plant's air quality permit allows for
249.9 tons of emissions annually, which fits the profile of a 35 megawatt
combined cycle gas turbine.
The Lehi cogeneration plant was originally built in 1987 at a cost in excess
of $20,000,000. The plant operated successfully as a small power production
facility under "qualifying facility" status granted by FERC from date of
commissioning until 1990, selling its electric output to Utah Power and Light
and its recovered heat to a large adjacent greenhouse operation. In 1990 the
original developer, which suffered financial problems not associated with this
project, filed for protection under the bankruptcy laws. The Lehi plant, along
with a number of other assets, were sold by the bankruptcy court in April
1993. The Lehi plant was purchased by a Salt Lake City group, Lehi Co-Gen
Associates, L.C., with the intention of either reselling the component
equipment contained within the plant or re-establishing the cogeneration
operation in partnership with interested parties. Extensive engineering and
economic due diligence studies were conducted on the project by Southern
Electric International, a subsidiary of the Southern Company, one of the
largest electric utility companies in the United States, in conjunction with
the Company, resulting in a decision to restore the plant to full operational
status. The studies estimated that the salvage value of the hardware and parts
alone should be in excess of $3,000,000. LIPA purchased the facility from Lehi
Co-Gen Associates, L.C. in early 1994 for approximately $292,000.
The Lehi plant uses dual fuel configuration reciprocating engines. These
engines can run on either diesel fuel or natural gas, or a combination
thereof. The plant can be operated on 5% diesel fuel and 95% natural gas, for
optimum environmental and economic efficiency. The plant is totally self-
contained, with state-of-the-art switchgear and computerized electronic
controls. Full environmental assessments have been conducted which indicate
that no environmental hazards are present or likely to occur. One of the most
important features of the plant is its extant air quality permit, allowing the
plant to operate with emissions of up to 249.9 tons of nitrous oxide ("NOX")
annually. With expanded and upgraded hardware, this permit will allow the
plant to increase operational output substantially.
Prior to resuming operations, the facility may be required to obtain a
permit to authorize the discharge of oil into the city sewer system, which
permit may limit the authorized levels of such discharge. Additionally, before
the facility can become operative, it is required to install a CEM. Although
the Company intends to install a CEM, there can be no assurance that it will
be able to do so.
Shopping Malls. The Company has entered into a joint development agreement
with the Cowen Investment Group to develop, build and operate cogeneration
plants in the United States. Cowen is a financier of real estate projects.
Under the joint development agreement, Cowen will provide the customers and
the cogeneration project financing. Cowen will retain 60% of the profit
interests in the projects and the Company will retain 40%. The Company's
responsibility is to provide the technical expertise, design, equipment
selection and installation services. The joint venture is negotiating with a
major real estate company which owns and operates approximately 200 shopping
malls throughout the United States. Three of the malls have been considered
for initial test sites and engineering has begun for the first site. The
Company is carrying the cost of preliminary engineering which will be
reimbursed from the project if it is undertaken. The Company and Cowen have
also begun discussions with a second major owner and operator of over 40 malls
and has begun feasibility studies to determine the best initial sites. The
targeted shopping malls are all enclosed structures with an average interior
space of 500,000 square feet. Such malls have substantial electric demand,
with 18 hours of daily power plant operation, seven days per week, and with
almost year-round air conditioning requirements without regard to geographic
location. The average cogeneration system configuration for such malls would
consist of 4 megawatts in electric generation, with recovered heat utilized
for absorption air conditioning (in which the recovered heat causes inert
gases to expand and compress to produce chilled air, as opposed to
conventional compression powered by electric motors.) The systems would also
require up to 1000 tons of supplemental non-electric air conditioning. The
supplemental non-electric air conditioning, in most cases, would be provided
by engine driven chillers ("EDC"). An EDC produces chilled water by utilizing
conventional compressors, but powering the
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compressors with natural gas fueled engines as opposed to electric motors. The
EDC units would be manufactured by sub-contractors from designs developed and
owned by the Company. While initial plans have been drawn and reviewed with
the mall owners, there can be no assurance that the joint effort with Cowen
will lead to any contracts being signed with mall owners or cogeneration
systems being installed.
Under the plan discussed with the mall owners, the joint development company
would engineer, build and operate the cogeneration facilities, with financing
arranged by Cowen. The joint development company and the mall owner would
share energy savings for a fifteen year period, after which time the
cogeneration plant ownership would revert to the mall owners. A proposed
agreement with one of the mall owners calls for at least ten such
installations. The mall owners have indicated, however, that installations of
cogeneration systems would be contemplated at all malls where certain basic
economic criteria for cogeneration exists. The Company and Cowen believe that
approximately one-third of the malls can meet the economic criteria of a
minimum of twenty-five percent annual energy savings. Since all of the malls
are of similar configuration and have similar energy patterns, there would be
an economy of scale: project design could be replicated at multiple locations
with only modest configuration changes. A contract for the first mall is
expected to be signed in the third fiscal quarter of 1996 with construction
commencing shortly thereafter, although there can be no assurance that this
will occur.
U.S. Virgin Islands. The Company has signed a letter of intent and is
currently in final contract preparation with Bluebeard Holding Company to
build a 3 megawatt cogeneration project for Bluebeard's Castle, a major resort
in St. Thomas, U.S. Virgin Islands. Utility services for the Islands, like
many other areas of the Caribbean, were severely impacted during the 1995
hurricane season, and the Company believes that many public and private
buildings are presently considering "inside-the-fence" cogeneration facilities
in order to assure reliability of electric and hot water services as well as
to reduce present high costs of utility-provided services.
It is contemplated that the Company, the resort manager and the resort owner
will form a limited liability entity, which will own and operate the
cogeneration facility, selling discounted power to the hotel and adjacent
commercial buildings. The profits and cash shall be distributed pro rata on
the basis of the capital contributions of the parties to the contract. The
Company will be credited for its capital contributions as a result of the
services it will provide to the joint venture. It is also contemplated that
the cogeneration facility will include a 120 thousand gallon per day reverse
osmosis water purification system to convert sea water to potable water.
Supplies of fresh water, which are always in short supply in the Islands, were
even further reduced as a result of the storms. It is contemplated that the
resort's holding company will arrange twenty-percent equity for the project,
with the balance being financed through local banks. The Company will provide
design, equipment selection and installation services for the project. The
holding company is also in the planning stage for a large, new resort,
apartment and shopping complex on the eastern end of St. Thomas for which a
cogeneration facility is planned. It is contemplated that the limited
liability entity to be formed by the Company and Bluebeard Holding Company
will own and operate this future facility and will seek additional resort
facilities for cogeneration throughout the Virgin Islands and other islands in
the Caribbean. While final contracts are in preparation, the project has
already begun with the receipt of initial funding from Bluebeard and the
scheduled installation of the first of six engine generators to be used in the
project.
Waste Motor Oil Project. In November 1992, the Company was engaged to design
and build a three megawatt cogeneration plant in Virginia for a private energy
investment fund under a turn-key contract for $1,600,000. The plant was built
and put into commercial service in July 1993, eight months after commencement
of the project. The private energy fund had signed a long term contract with
Virginia Electric Power Company ("VEPCO") to provide 3 megawatts of demand
capacity to the VEPCO grid, and contracted with the Company to provide an
operational system both rapidly and cost effectively. The Company created a
distinct design utilizing rebuilt, very low RPM internal combustion engines,
which have the capability of utilizing waste motor oil as fuel. The use of
waste motor oil not only reduces the fuel costs for the project, but also
solves a local environmental problem of disposing of over 800,000 gallons
annually. The Company will employ the techniques developed on this job in
future projects. The Company has no ongoing equity interest in this project.
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Nevada District Heating Project. Concurrently with the closing of the
Primary Offering, the Company will be acquiring an 81.5% interest in NRG
Company LLC ("NRG") for $265,000. NRG was recently formed and funded at
$70,000 by several investors in the Company, including Messrs. Rosen and
Nelson (see "Certain Transactions--Reno Project"). From these funds NRG made a
loan of $50,000 to Reno Energy LLC ("Reno Energy"). $250,000 from the
Company's capital contribution to NRG will be loaned to Reno Energy to bring
the total loan to $300,000. The purpose will be to fund pre-development
expenses associated with the proposed development of a geothermal district
heating project. The loan is to be repaid over three years with interest at 9%
per annum, or with the proceeds from any financing transaction.
There is a large industrial park being developed in Reno on a 1200 acre area
in close proximity to the district heating plant. The first phase of the park
is already sold out, and the entire park is expected to be developed within
the next four to seven years. An examination of the current property owners of
the park indicates that the park will house mostly commercial buildings with
some industrial facilities. Also, a 200-bed hospital and 300-room hotel are
planned to be built in the park, with many more prospective tenants.
Therefore, the industrial park will create a huge demand for space heating and
cooling as well as process heating. It is expected that the total buildings,
adding up to 30,000,000 square feet of floor space, will be connected to the
geothermal grid to meet their heating and cooling needs. Additionally, there
is a high school located nearby and a college campus is planned in addition to
other development in the area. Each of these is likely to be a major consumer
of geothermal energy.
Reno Energy plans to construct and operate a plant which will use
geothermally heated fresh water for space heating and cooling and for process
heating in the industrial park and the other nearby development. To meet the
requirements of these commercial and industrial facilities, a pipeline with
supply and return lines would be built that would loop through the industrial
park. A binary hot water system with fresh water circulating through the loop
will be used to avoid any concerns associated with the direct use of
geothermal brine such as scale build-up in the pipes, corrosion on pipes and
equipment, and possible pollution of the ground in case of a spill. Fresh
water will be heated in heat exchangers at the site where geothermal brine is
extracted and reinjected; only fresh water will be circulated in the loop. The
heat thus provided will be sold at a discount from the cost of producing an
equivalent amount of heat from conventional natural gas furnaces.
Under the terms of the agreements between NRG and Reno Energy, NRG will have
an option to acquire a 50% interest in Reno Energy (subject to certain
preferential distribution interests of the founders of Reno Energy) (the "Reno
Option"). The Reno Option, which would be paid for out of working capital,
will be exercisable for $1 million until December 31, 1996 but extendable,
upon payment of $100,000, until March 1, 1997 at an exercise price of
$1,200,000. If the Company determines to exercise the Reno Option, it will use
the funds designated for use as working capital, if such funds are available
at that time. It is estimated that approximately $35,000,000 is required for
construction, procurement and other costs associated with the commencement of
operations at Reno Energy. Such amount is expected to be financed through
industrial revenue bonds and/or vendor financing, in addition to other types
of tax-exempt debt financing. Efforts begun on the Reno Project include
retention of an international engineering firm to provide preliminary
engineering and design services to support Reno Energy's application to the
Nevada Public Service Commission for authorization, as well as retention of a
financial consultant to assist in securing debt financing for the Reno
Project.
Under the terms of the agreements governing NRG, the Company, which will own
81.5% of NRG, will have decision making authority on all matters. If the Reno
Option is exercised, each of the investors in NRG will be given an opportunity
to fund its pro rata share of the option price in order to maintain its
interest in NRG.
The project is still in the planning and development stage. As yet there are
no contracts with any end users, nor are there approvals from local and state
authorities. The Company will have to satisfy itself as to these and other
factors before NRG's option would be exercised.
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OTHER POTENTIAL PROJECTS FOR THE COMPANY
ALTHOUGH PRELIMINARY EFFORTS HAVE BEEN UNDERTAKEN IN CONNECTION WITH THE
FOLLOWING PROJECTS, THERE IS NO ASSURANCE THAT ANY OF THEM WILL BE DEVELOPED.
India. The Company, through its 50% owned subsidiary, USE International,
LLC, has proposed a 52 megawatt combined cycle cogeneration project for a
major steel mill in Raipur, M.P., India. The project would utilize naphtha as
a fuel source to power a General Electric 40 megawatt gas turbine which will
also provide sufficient steam recovery to power a 12 megawatt steam turbine.
The use of recovered heat in the form of steam to power a second form of
electric production is known as a "combined cycle system." The steel mill
intends to purchase the system on a turnkey basis, and the Company would act
as project manager and coordinator being compensated on a percentage-of-cost
basis. The steel mill is presently awaiting funding from its financial
institutions in order to proceed. Inside-the-fence projects of this size are
growing in popularity in India because no central or local government
permissions are required and financing is easier since it is based entirely on
the credit-worthiness of the customer. The remaining 50% of USE International,
LLC is owned by Indus, LLC. Ravi Singh, a consultant to the Company, is the
President and principal shareholder of Indus, LLC.
Panama. The Company has formed a company, Panavisa Envirosystems, S.A.
("Panavisa"), in order to qualify and bid on several potential power projects
in Panama. Panavisa, a wholly-owned subsidiary of the Company, is the
corporate vehicle which would be the joint venture partner with others when
specific projects are developed. While there is no definitive agreement in
place, the Company is working with a Panamanian financial group to form a
consortium to design, build, and operate barge-mounted power plants for
Institucion de Recursos Hidraulicos y Electrificacion, the Panamanian national
electric company, which would purchase electricity from the consortium under a
negotiated long-term contract. If such project is ultimately undertaken, it is
likely that the Panamanian financial group involved in such project would
become a partner in Panavisa. The Company's role would be to act as consortium
manager. Percentages of ownership among the various potential consortium
partners have not yet been negotiated. The barge-mounted power plant design
would utilize very low speed diesel engines capable of burning Orimulsion, an
emulsified tar recovered from reserves under the Orinoco River in Venezuela.
The Company would be working with Bitor USA, a wholly owned subsidiary of
Petrolanos Venezuela, which holds the patents on the Orimulsion process.
Specific opportunities for such power plants presently exist in Panama as well
as other Central American countries, which are facing severe power shortages
as a result of aging thermal power plants and reductions in available
hydroelectricity. Advantages of barge mounted systems are quick delivery and
total fabrication in the United States.
Israel. The Company submitted bids to a kibbutz to provide a three megawatt
cogeneration facility with 800 tons of absorption cooling using Israeli
technology for the absorbers. The Company was advised that it was low bidder.
The next procedure requires the kibbutz authority to authorize a purchase
contract and to arrange financing. If the contract is ultimately awarded, as
management believes it will be, the Company will do final design work, acquire
all hardware, have the system fabricated in the United States by qualified
sub-contractors, ship the entire system in four containers to Israel, and send
engineers to oversee installation by local mechanical and electrical
contractors. The Company is working in association with Coolingtec Ltd., of
Israel, which is the patent holder and manufacturer of a new design absorption
chilling unit, which is capable of delivering substantially lower temperatures
than other absorbers currently on the market. Absorption chillers utilize
recovered heat from the cogeneration engines as their power source.
Native American Reservation. The Company is in discussions with an East
Coast Native American nation to assist it in developing an infrastructure
industry on its reservation involving independent power production. The
Company has recommended, and the Tribal Council has preliminarily approved, a
plan whereby the Company and the Native American nation would form a joint
development company to build, own and operate an independent power plant of
from 50 to 100 megawatts on the reservation. Output from the plant would be
sold to the grid and to neighboring municipalities.
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U.S. Plastics Manufacturer. The Company has been asked to evaluate the
potential for an inside-the-fence cogeneration project of approximately 5
megawatts for a large U.S. manufacturer of plastic products in Illinois.
Recovered heat from the engine generators would be used in the plastics
extrusion operation. If the project proves economically feasible, the Company
would design and build the facility on a turn-key basis for the plastics
manufacturer.
Locating New Projects. The President and consultants of the Company
communicate frequently with numerous individuals and companies in the
industry. Most of the projects in which the Company is now involved have come
from these contacts. The Company has established several informal and non-
exclusive relationships with other cogeneration developers and with non-
regulated subsidiaries of utility companies to pursue other business
opportunities in areas of interest to the Company. In certain special markets
that the Company seeks to develop, the Company identifies specific potential
customers and makes direct approaches to those customers.
COMPETITION
There are approximately 150 companies nationwide currently involved with
independent power plants. The Company currently occupies a relatively minor
position in the industry. The independent power plant industry is basically
divided into three areas: (1) very large power plants (over 50 megawatts); (2)
standard power plants (under 50 megawatts); and (3) "inside-the-fence" plants,
which can be of varying sizes, and so called because they are built especially
to serve the electrical and thermal needs of a specific building or group of
buildings rather than to sell the power to the utility grid and are located
literally "inside-the-fence" of the end user's property. Many of the very
large plants are owned and operated by subsidiaries of public utility
companies and large industrial companies which have established these
subsidiaries to participate in the IPP industry. Approximately 18 of the 25
largest independent power companies are subsidiaries of public utilities or
large industrial companies. The operations of most of these companies are
geared to the largest sized power plants because of the need to place
significant investment to achieve returns large enough to have an impact on a
large public utility's or industrial company's balance sheet. Some of these
companies have been highly successful in the development of larger plants; but
under federal law, utility subsidiaries may not own more than 50% of QF
projects. However, subsidiaries of large industrial companies and other non-
utility companies have no similar restrictions. Additionally, under federal
law enacted in 1992, a new category of independent power producer was created
known as exempt wholesale generators ("EWG"). EWG's have no ownership
limitations nor do they have similar requirements to QF's with regard to
useful thermal output or fuel efficiency and operating efficiency criteria. To
receive qualification as an EWG, the owner of an IPP need only demonstrate
that the entire output of the facility is sold exclusively in the wholesale
market. EWG's are prohibited from making retail sales and therefore cannot be
developed for inside-the-fence projects. In many instances, subsidiaries of
public utilities and large industrial companies make ideal partners for
projects and the Company intends to work with such companies when it locates a
specific project fitting their investment parameters.
In the category of standard sized independent power plants (under 50
megawatts), the vast majority of the developers so involved are either
subsidiaries of other non-utility industrial companies, small privately owned
partnerships, or energy funds established to invest in such projects. "Inside-
the-fence" plants are generally owned and operated by the end user, although a
number of such plants are built, owned and operated for the end user by third
parties.
EMPLOYEES
At present the Company has three full time employees and five contract staff
members. The Company will retain outside contract staff as required for
engineering, fabrication, construction and maintenance services. Management
believes present staffing is adequate, although it expects that the number of
full time employees will expand over the next year as new projects come on
stream. Partnership projects such as Lehi, Plymouth, and the Steamboat
Facilities have their own professional staffs. These staffs report to a
Management Group in each of the individual partnerships, and a senior Company
officer is an active member of each of the Management Groups.
40
<PAGE>
DESCRIPTION OF PROPERTY
The Lehi project is owned by LIPA, a Utah limited liability company. The
Company owns 50% of LIPA. The property includes two acres of land in Lehi,
Utah and all buildings, engine/generators, ancillary generating equipment,
heat recovery equipment, switchgear and controls, storage tanks, spare parts,
tools, and permits to operate a cogeneration facility with emissions of up to
249.9 tons of NOX annually. All costs associated with LIPA and the operation
of the plants, and all income derived therefrom, are divided pro-rata among
the Company and the owners of the remaining 50% of LIPA. Other than the
Company's obligations to its debenture holders and bridge lenders, there are
no other encumbrances or debt associated with LIPA or the Lehi cogeneration
project. Management believes the plant is adequately covered by insurance.
The Plymouth State College Cogeneration project is owned by Plymouth
Cogeneration, a Delaware partnership. The Company owns 50% of Plymouth
Cogeneration, which, in turn, owns all the plant and equipment associated with
the cogeneration project including the diesel engines, generators, three
auxiliary boilers, switchgear, controls and piping. The state university
system has two contracts with Plymouth Cogeneration: (1) a 20 year lease on
the above equipment, and (2) a 20 year management contract. Both contracts
have escalation clauses. Management believes the equipment is adequately
covered by insurance.
The Company leases, on a year to year basis, 1,100 square feet of office
space in a commercial office building in West Palm Beach, Florida where its
executive offices are located. Contract employees work out of their own
offices. Management believes that the current space will remain adequate
through the current lease period, which expires in September 1997.
GOVERNMENT REGULATION
Under present federal law, the Company is not and will not be subject to
regulation as a holding company under PUHCA as long as each power plant in
which it has an interest is a QF under PURPA or is subject to another
exemption. In order to be a QF, a facility must be not more than 50% owned by
an electric utility or electric utility holding company. A QF that is a
cogeneration facility must produce not only electricity but also useful
thermal energy for use in an industrial or commercial process or heating or
cooling applications in certain proportions to the facility's total energy
output and must meet certain energy efficiency standards. Therefore, loss of a
thermal energy customer could jeopardize a cogeneration facility's QF status.
If one of the power plants in which the Company has an interest were to lose
its QF status and not receive another PUHCA exemption, the project subsidiary
or partnership in which the Company has an interest that owns or leases that
plant could become a public utility company, which could subject the Company
to various federal, state and local laws, including rate regulation. In
addition, loss of QF status could allow the power purchaser to cease taking
and paying for electricity or to seek refunds of past amounts paid and thus
could cause the loss of some or all contract revenues or otherwise impair the
value of a project and could trigger defaults under provisions of the
applicable project contracts and financing agreements. There can be no
assurance that if a power purchaser ceased taking and paying for electricity
or sought to obtain refunds of past amounts paid the costs incurred in
connection with the project could be recovered through sales to other
purchasers. A geothermal plant will be a QF if it meets PURPA's ownership
requirements and certain other standards. Each of Steamboat 1 and Steamboat 1-
A meet such ownership requirements and standards and is therefore a QF. QF
status exempts the owner of an IPP from regulation under various federal laws
including PUHCA and the regulation of the rates for sale from the IPP as well
as certain state laws. However, QF status does not exempt an IPP from state
utility law regulation in those states where the sale of electricity directly
to an industrial or commercial customer is regulated as a retail sale. Most
states currently do not regulate the sale of electricity from a QF to an
inside-the-fence customer.
The construction and operation of power generation facilities require
numerous permits, approvals and certificates from appropriate federal, state
and local governmental agencies, as well as compliance with environmental
protection legislation and other regulations. With the exception of an air
operating permit for the Lehi facility, the Company believes that it is in
substantial compliance with all applicable rules and regulations and that the
projects in which it is involved have the requisite approvals for existing
operations and are operated
41
<PAGE>
in accordance with applicable laws. However, the operations of the Company and
its projects remain subject to a varied and complex body of laws and
regulations that both public officials and private individuals may seek to
enforce. There can be no assurance that new or existing laws and regulations
which would have a materially adverse affect would not be adopted or revised,
nor can there be any assurance that the Company will be able to obtain all
necessary licenses, permits, approvals and certificates for proposed projects
or that completed facilities will comply with all applicable permit
conditions, statutes or regulations. In addition, regulatory compliance for
the construction of new facilities is a costly and time consuming process, and
intricate and changing environmental and other regulatory requirements may
necessitate substantial expenditures for permitting and may create a
significant risk of expensive delays or significant loss of value in a project
if the project is unable to function as planned due to changing requirements
or local opposition.
LEGAL PROCEEDINGS
There are no legal proceedings currently pending or threatened against the
Company.
The owner of a farm adjacent to the LIPA facility in Lehi, Utah, has sued
LIPA for "nuisance, trespass, and negligence" alleging that in May 1995 diesel
fuel from the power plant invaded the drainage ditch dividing the two
properties. The drainage ditch feeds a watering hole on the farmer's property.
The plaintiff's suit alleges that one bull died and five calves were aborted
as a result of petroleum toxosis from ingestion of the fuel in the ditch and
the watering hole. The suit, filed in Utah state court on January 25, 1996,
seeks damages "in excess of $20,000." Depositions of both sides have been
completed. Although there was a spill of several hundred gallons of fuel on
the LIPA property in 1991, prior to ownership by either the Company or its
partners, the 1991 spill was remediated. Prior to the Company's purchase of
its interest in the power plant in 1994, Phase I and Phase II Environmental
Assessments were conducted which did not identify any environmental problems.
There is no pathology evidence that the bull died of petroleum toxosis, or
that the calves were aborted as a result of petroleum toxosis in the mother
cows. No other cattle drinking from the same water hole appeared to be
affected. While neither the Company nor its partners believe the plaintiff has
a strong case, LIPA is exploring settlement options with the plaintiff which
would be less costly than the further extensive testing, expert analyses and
litigation. On April 10, 1996, the Utah Division of Water Quality issued a
notice of violation and order charging LIPA with illegally discharging diesel
fuel to the Lehi Irrigation Company canal on May 9, 1995. LIPA appealed that
notice of violation on May 10, 1996, but the Division of Water Quality has not
responded formally to the appeal. Under state law, the Division of Water
Quality cannot impose monetary penalties in an administrative proceeding; it
must bring a civil action in court to do so. No further formal action has
occurred on this appeal or towards issuance of the renewed permit. The
Division of Water Quality also has not filed any civil actions seeking
penalties. On November 4, 1996 the Division of Water Quality inspected the
facility and found no deficiencies.
42
<PAGE>
MANAGEMENT
The directors and executive officers of the Company are presently as
follows:
<TABLE>
<CAPTION>
AGE POSITION(S)
--- -----------
<S> <C> <C>
Theodore Rosen.............. 71 Chairman of the Board of Directors
Richard H. Nelson........... 56 President, Chief Executive Officer and Director
Fred Knoll.................. 40 Director
Ronald Moody................ 62 Director
Evan Evans.................. 71 Director
Seymour J. Beder............ 69 Treasurer and Chief Financial Officer
</TABLE>
At the conclusion of the Primary Offering, Messrs. Knoll and Moody will
resign. The remaining directors intend to elect two outside directors to fill
the vacancies. These persons have not yet been identified by the Company.
Theodore Rosen. Mr. Rosen has been a Director of the Company and Chairman of
the Board of Directors since November 1993. Since June 1993, Mr. Rosen has
been Managing Director of Burnham Securities. He was Senior Vice President of
Oppenheimer & Co. from January 1991 to June 1993, and was Vice President of
Smith Barney & Co. from 1989 to 1991. Mr. Rosen also currently serves as a
director of Waterhouse Investors Cash Management Co., an investment management
company engaged in management of money market mutual funds. Mr. Rosen holds a
BA degree from St. Lawrence University and did graduate work at both Albany
Law School and Columbia University School of Business.
Richard H. Nelson. Mr. Nelson has been President, Chief Executive Officer
and Director of the Company since November 1993. Mr. Nelson has been engaged
in the power plant industry for more than twenty years and has been involved
with over 200 power projects throughout the world, 125 of which have been
cogeneration projects. In 1973, Mr. Nelson formed Sartex Corp., which was
merged into the Company, then called Cogenic Energy Systems, Inc. ("Cogenic"),
in 1981. Mr. Nelson served as president of Cogenic until 1989. Cogenic filed
for reorganization under Chapter 11 of the Bankruptcy Code in 1989. From
January 1989 until January 1991, Mr. Nelson was president of Utility Systems
Corp., a subsidiary of Cogenic which was not party to the Chapter 11 filing.
In January 1991 Mr. Nelson formed USF where he served as president until
November 1993. A Plan of Reorganization was confirmed for Cogenic in March
1993, after which USF and Cogenic merged, with Cogenic being the surviving
corporation and changing its name to U.S. Envirosystems, Inc. Mr. Nelson was
Special Assistant to the Director of the Peace Corps from 1961 to 1962;
thereafter he served as Military Aide to the Vice President of the United
States from 1962 to 1963 and Assistant to the President of the United States
from 1963 to 1967. From 1967 to 1969, Mr. Nelson was Vice President of
American International Bank, and from 1969 to 1973 he was Vice President of
Studebaker-Worthington Corp. Mr. Nelson received his BA degree from Princeton
University.
Ronald Moody. Mr. Moody has been a Director of the Company since January
1994. Mr. Moody entered the investment community in 1967 as a senior partner
of a Canadian investment house until 1976, and since that time has been a
private investor for his own account. After several years with the Royal Bank
of Canada, Mr. Moody joined the Montreal Trust Company in 1962 as a manager of
pension fund and individual trust accounts. Mr. Moody received his BA from the
University of Western Ontario.
Fred Knoll. Mr. Knoll has been a Director of the Company since August 1994.
During the last five years, Mr. Knoll has been chairman and CEO of Knoll
Capital Management, an investment and cash management firm, in New York. Mr.
Knoll is the Chairman of the Board of Thinking Tools and of Lamar Signal
Processing and a Director of Spradling Holdings, Raphael Glass and the
Columbus Fund. From 1989 until 1993, Mr. Knoll was Chairman of the Board of
Directors of C3/Telos Corporation, a computer systems company. Mr. Knoll
received
43
<PAGE>
his B.S. degree in Computer Sciences from M.I.T. and also a B.S. degree in
Management from the Sloan School at M.I.T. He received his MBA from Columbia
University.
Evan Evans. Mr. Evans has been a Director of the Company since August 1995.
Since 1983 he has been chairman of Holvan Properties, Inc. ("Holvan"), a real
estate developer, and was managing director of Easco Marine, Ltd. from 1983 to
1988. Also, from 1985 to 1986 Mr. Evans was general manager of Belgian
Refining Corporation ("BRC"), pursuant to a contract between BRC and Holvan.
From 1981 to 1983 he was vice president of Getty Trading and Transportation
Company and president of its subsidiary, Getty Trading International, Inc.
From 1970 to 1981 Mr. Evans was vice president and member of the board of
directors of United Refining Corp. He is currently on the board of directors
of Holvan and BRC. Mr. Evans received his BS degree in Mathematics from St.
Lawrence University and his BS in Civil Engineering from M.I.T.
Seymour J. Beder has been Secretary, Treasurer, Controller and Chief
Financial Officer of the Company since November 1993. From 1970 through 1980
he was Chief Financial Officer for Lynnwear Corporation, a textile company,
and from 1980 to September 1993, Mr. Beder was president of Executive
Timeshare, Inc., a provider of executive consulting talent. Mr. Beder is a
Certified Public Accountant, and a member of the New York State Society of
Certified Public Accountants and the American Institute of Certified Public
Accountants. Mr. Beder received his BA degree from City College of New York.
In addition, the following persons, who are not officers or directors, are
affiliated with the operations of the Company as consultants:
Donald A. Warner. Mr. Warner has acted as director of development and a
consultant to the Company since 1993. For over 20 years, Mr. Warner has been
closely involved with the energy and environmental industries, and has been
consultant and attorney to numerous environmental and energy project
developments in both the public and private sector. The Company expects Mr.
Warner to work for the Company full-time after the completion of the Primary
Offering. Mr. Warner holds his BA degree from Rochester University and his JD
degree from Syracuse University. He also holds an LLM degree from Washington
University.
Patrick McGovern. Mr. McGovern has been a consultant to the Company since
1993. From 1973 to 1981, Mr. McGovern was Engine Sales Manager for Virginia
Tractor Company (Caterpillar). From 1981 to 1984, he was Vice President
Engineering for the Company. From 1984 to present, he has been president of
Power Management Corp. Mr. McGovern holds both his BSEE and MBA degrees from
Louisiana State University.
Ravi Singh. Mr. Singh has been President of USE International, LLC, 50% of
which is owned by the Company, since 1995. Mr. Singh is president of Indus
LLC, a company he formed in 1994 to develop new investment opportunities
throughout southeast Asia and Oceania regions. From 1988 until 1994 he was a
partner and Managing Director for International Investment Banking at Cowen &
Company. Prior to his time at Cowen & Company, Mr. Singh had been affiliated
with Coopers & Lybrand LLP with advisory responsibilities for cross-border
mergers and acquisitions, notably in Japan. Mr. Singh was also affiliated with
Komatsu Ltd. of Japan where he was responsible for business development in
India. Mr. Singh received his BS in Engineering from the University of Delhi
and his MBA from Columbia University.
Nils A. Kindwall. Mr. Kindwall was Vice Chairman of Freeport McMoran, Inc.
from 1975 until his retirement in 1993. At Freeport McMoran, he was
principally responsible for developing and financing major natural resource
projects throughout the world. He has served on the National Advisory Board of
Chemical Bank, and is on the board of John Wiley & Sons, Inc. and Metall
Mining Corporation. Mr. Kindwall received his BA degree in Economics from
Princeton University and his MBA from Columbia University.
LIMITATIONS OF LIABILITY AND INDEMNIFICATION MATTERS
The Company's Certificate of Incorporation includes provisions which limit
the liability of its Directors. As permitted by applicable provisions of the
Delaware General Corporation Law (the "Delaware Law"), Directors
44
<PAGE>
will not be liable to the Company for monetary damages arising from a breach
of their fiduciary duty as Directors in certain circumstances. This limitation
does not affect liability for any breach of a Director's duty to the Company
or its stockholders (i) with respect to approval by the Director of any
transaction from which he or she derives an improper personal benefit, (ii)
with respect to acts or omissions involving an absence of good faith, that the
Director believes to be contrary to the best interests of the Company or its
stockholders, that involve intentional misconduct or a knowing and culpable
violation of law, that constitute an unexpected pattern or inattention that
amounts to an abdication of his or her duty to the Company or its
stockholders, or that show a reckless disregard for duty to the Company or its
stockholders in circumstances in which he or she was, or should have been
aware, in the ordinary course of performing his or her duties, of a risk of a
serious injury to the Company or its stockholders, or (iii) based on
transactions between the Company and its Directors or another corporation with
interrelated Directors or on improper distributions, loans or guarantees under
applicable sections of Delaware Law. This limitation of Directors' liability
also does not affect the availability of equitable remedies, such as
injunctive relief or rescission.
The Company's Bylaws obligate the Company to indemnify its directors and
officers to the full extent permitted by Delaware Law, including circumstances
in which indemnification is otherwise discretionary under Delaware Law.
Insofar as indemnification for liabilities arising under the Securities Act
may be permitted to directors, officers and controlling persons of the
Company, pursuant to the foregoing provisions or otherwise, the Company has
been advised that in the opinion of the Securities and Exchange Commission
such indemnification is against public policy as expressed in the Securities
Act and is, therefore, unenforceable.
EXECUTIVE COMPENSATION
The following table shows the total compensation paid by the Company during
the fiscal years ended January 31, 1996, 1995 and 1994, and during the six
months ended July 31, 1996 to Mr. Richard H. Nelson, the Company's President
and Chief Executive Officer. There were no other executives of the Company who
received total compensation in excess of $100,000 during any of such years.
<TABLE>
<CAPTION>
NAME AND PRINCIPAL POSITION FISCAL YEAR SALARY BONUS LONG TERM COMPENSATION
- --------------------------- ------------------ -------- ----- ----------------------
<S> <C> <C> <C> <C>
Richard H. Nelson, 1997
President and Chief (to July 31, 1996) $ 75,000(1)
Executive Officer..... 1996 150,000(2) -- --
1995 $149,850 -- --
1994 $ 24,500 -- --
</TABLE>
- --------
(1) This entire amount has been deferred and will be paid by the Company when
working capital is adequate, which shall be determined by the Board of
Directors.
(2)Includes $125,500 at January 31, 1996, which has been deferred and will be
paid by the Company when working capital is adequate, which shall be
determined by the Board of Directors.
- --------
For a period of three years from the date of this Prospectus, all
compensation and other arrangements between the Company and its officers,
directors and affiliates is to be approved by a Compensation Committee of the
Board of Directors, a majority of whom are to have no affiliation or other
relationship with the Company other than as directors.
Compensation of Directors. Directors are not compensated for attendance at
meetings of the Board, although certain travel expenses relating to attending
meetings are reimbursed.
Employment Contracts. Mr. Nelson has an employment contract with the Company
to serve as its Chief Executive Officer for a term of five years from the date
of this Prospectus. Mr. Nelson's contract commenced November 11, 1993 and
provides for an annual salary of $150,000 plus normal benefits. Mr. Nelson has
volunteered to defer 50% of this salary until the Company's cash flow is, in
the opinion of the Board of Directors, sufficient. Under the terms of Mr.
Nelson's employment agreement, he may not compete with the Company
45
<PAGE>
during the term of his employment with the Company or for two years
thereafter, or, at any time, disclose any confidential information pertaining
to the Company. Mr. Nelson works for the Company full-time. As of November 30,
1996, the amount of deferred compensation owed to Mr. Nelson was $250,000.
Mr. Rosen has an employment contract with the Company to serve as its
Chairman of the Board for a term of five years from the date of this
Prospectus. Mr. Rosen's contract commenced December 1, 1993 and provides for
an annual salary of $60,000 which is being deferred until the Company's cash
flow is, in the opinion of the Board of Directors, sufficient. Mr. Rosen
devotes a minimum of 40 hours per week to the Company. Under the terms of Mr.
Rosen's employment agreement, he may not compete with the Company during the
term of his employment with the Company or for two years thereafter, or, at
any time, disclose any confidential information pertaining to the Company. As
of November 30, 1996, the amount of deferred compensation owed to Mr. Rosen
was $175,000.
Stock Options. The Board of Directors has reserved 400,000 shares of the
Company's Common Stock for the issuance of non-qualified options to existing
and future directors, executives and employees of the Company.
CERTAIN TRANSACTIONS
The Plan of Reorganization of Cogenic Energy Systems, Inc. (the "Plan") was
originally filed and financed by Richard Nelson, who was then the sole
shareholder and sole director of USF. The Plan was confirmed by the bankruptcy
court in March 1993. Under the Plan, 100,000 shares of the reorganized debtor
were issued to Richard Nelson as the proponent and financier of the Plan. An
additional 125,000 shares (the "merger shares") were issued to USF upon
consummation of the Plan and upon the merger of the reorganized debtor with
USF. These merger shares were distributed to individuals and companies who
purchased shares of USF for purposes of providing USF with the financing to
acquire the Company and to allow the Company to continue as the surviving
corporation.
Messrs. Nelson, the President, Theodore Rosen, the Chairman, Ronald Moody, a
director, Fred Knoll, a director, and S. Marcus Finkle, a principal
stockholder of the Company, are participants in the Plymouth Loan (having
loaned $25,000, $25,000, $75,000, $650,000 and $150,000 respectively), which
bears interest at the rate of 2.5% per annum above the prime rate, and in
which the lenders, other than Messrs. Nelson and Rosen, received five-year
warrants to purchase 120 shares of the Company's Common Stock for each $1,000
loaned, which warrants are exercisable at $5.00 per share. Messrs. Nelson,
Rosen, Moody, Knoll and Finkle will benefit by the payment to them from the
net proceeds of the Primary Offering of $30,900, $30,900, $92,500, $801,200
and $185,300, respectively (including accrued interest to November 30, 1996)
in connection with the repayment of the Plymouth Loan. Mr. Rosen, Mr. Knoll
and Mr. Finkle and Guernroy Ltd. a principal Stockholder, are also holders of
the Company's Convertible Debentures in the amounts of $125,000, $200,000,
$50,000 and $50,000 respectively. Accrued interest, adjusted to November 30,
1996, which will be repaid from the proceeds of the Primary Offering, amount
to $32,600, $59,000, $13,800 and $13,100 respectively. As part of the
Debenture Conversion, the conversion rate on $875,000 of the Convertible
Debentures, which remain outstanding after the Debenture Conversion, will be
reduced to $8.00 per share from the present $16.00 per share and the interest
rate thereon will be reduced to 9% from the present 18%. In addition to
payment of interest, the Company is obligated to pay the holders of the
Convertible Debentures a pro rata portion of 50% of LIPA's share of the net
revenue (net of funds required for the payment of interest) resulting from
LIPA's energy sales. Three of the 26 holders of Convertible Debentures,
representing $150,000 in principal amount, have not agreed to the interest
rate reduction from 18% to 9% per annum. See "Closing Transactions," and
"Description of Securities--Convertible Debentures."
In June 1995, the Company issued 57,500 shares of Series One Preferred Stock
to Anchor under the terms of the Anchor Loan by which Anchor loaned the
Company the sum of $660,000 bearing interest at the rate of 18% per annum. The
Anchor Loan is cross-collateralized (together with the Solvation Loan
described below) by a first lien on all of the assets of the Company and
97,250 shares of Common Stock owned by Messrs. Nelson
46
<PAGE>
and Rosen. The purpose of the Anchor Loan was to finance the costs and
expenses of the proposed public offering and provide other funding to the
Company for various costs and expenses. The maturity of the Anchor Loan has
been extended from March 11, 1996 to November 29, 1996. The Anchor Loan is to
be repaid at the date of closing of the Primary Offering or at the date of
closing of any public or private offering of debt or equity securities in the
gross amount of $5,000,000 or more and/or the sale of any of the Company's
assets or any part thereof. $796,000 of the proceeds of the Primary Offering
and the Private Placement will be used to repay the Anchor Loan and $136,000
of accrued interest on such loan. The 57,500 shares of Series One Preferred
Stock will be exchanged for 205,000 shares of Common Stock in the Preferred
Stock Exchange. See "Description of Securities--Preferred Stock--Series One
Preferred Stock."
The Company and its partners, who each own 50% of LIPA, share on a pro-rata
basis the ownership, retrofitting costs, annual expenses, and revenues
associated with the Lehi Cogeneration Project. The Company financed its
acquisition cost of $1,225,000 for this interest through the issuance of
Convertible Debentures. In addition to payment of interest, the Company is
obligated to pay the holders of the Convertible Debentures a pro rata portion
of 50% of LIPA's share of the net revenue (net of funds required for the
payment of interest) resulting from LIPA's energy sales. See "Business--
Current Operations and On-Going Projects."
The Company has also entered into a consulting agreement with Knoll Capital
Management relating to specific work being done for the Company to develop
projects in Israel and the Middle East. The contract is for a term of one
year, expiring in October 1996, and provides for a consulting fee of $5,000
per month. Fred Knoll, a director and principal stockholder of the Company is
the Chairman and Chief Executive Officer of Knoll Capital Management. Knoll
Capital Management was instrumental in arranging the kibbutz project in Israel
which the Company is currently pursuing and continues to be instrumental in
assisting the Company in negotiations in other parts of the world, including
Panama. See "Management's Discussion and Analysis of Financial Condition and
Plan of Operations--Results of Operations."
In December 1995, Solvation loaned the Company $200,000, which carries an
interest rate of 10% per annum and which has matured and will be paid when the
Offering is closed, but no later than November 15, 1996. A further $50,000 was
loaned to the Company in May 1996 on the same terms and conditions. The
Solvation Loan is cross-collateralized with the Anchor Loan by a first lien on
all of the assets of the Company and 97,250 shares of Common Stock owned by
Messrs. Nelson and Rosen.
In connection with the Anchor Loan, Richard Nelson and Theodore Rosen, the
Company's President and Chairman of the Board, respectively, pledged an
aggregate of 97,250 shares of the Company's Common Stock to Anchor. (The
pledge was later extended to secure the Solvation Loan.) These shares will be
released from such pledge upon repayment of the Anchor Loan and the Solvation
Loan.
Reno Project. In order to participate in the Reno Project and eliminate any
potential conflict of interest, the Company will be acquiring the interests of
Messrs. Rosen and Nelson in NRG. Of the $265,000 to be paid by the Company for
its 81.5% interest in NRG, $10,000 will be used to purchase those interests,
for which Messrs. Rosen and Nelson had paid that amount. See "Business--
Current Operations and On-Going Projects--Nevada District Heating Project."
Messrs. Moody and Knoll, directors of the Company until their resignation upon
the consummation of the Primary Offering, will each continue to own $10,000
(3.08%) interests in NRG.
47
<PAGE>
PRINCIPAL AND SELLING SECURITYHOLDERS
The following table lists the number of shares of Common Stock owned as of
October 31, 1996 by (i) persons known to hold more than five percent of the
shares of outstanding Common Stock, (ii) each director of the Company, (iii)
any executive officers named in the Summary Compensation Table, (iv) all
officers and directors of the Company as a group. The following table also
includes relevant information regarding the securityholders for whose account
securities are being offered pursuant to this Prospectus. Each person named in
the table has sole investment power and sole voting power with respect to the
shares of the Common Stock set forth opposite his or its name, except as
otherwise indicated.
<TABLE>
<CAPTION>
BENEFICIAL OWNERSHIP SHARES TO WARRANTS BENEFICIAL OWNERSHIP
PRIOR TO OFFERING(1) BE SOLD TO BE SOLD AFTER OFFERING(1)
-------------------- --------- ---------- -----------------------------
<S> <C> <C> <C> <C> <C> <C>
Richard Nelson.......... 82,446 18.7% 0 82,446 2.1%
Theodore Rosen.......... 88,333(2) 17.4% 0 100,833(2a) 2.6%
Ronald Moody............ 21,500(3) 4.8% 0 21,500(3) 0.6%
Fred Knoll.............. 171,333(3) 28.6% 0 191,334(a) 4.8%
Evan Evans.............. 2,500 0.6% 0 2,500 0.1%
S. Marcus Finkle........ 63,833 13.9% 0 68,833(a) 1.8%
117 AABC
Aspen, CO
Guernroy, Ltd........... 38,158 8.6% 0 43,158(a) 1.1%
c/o Royal Bank of
Canada
Channel Isles, UK
Anchor Capital Company, 205,000 31.8% 205,000(8) 0 0%
LLC....................
1140 Avenue of the
Americas
New York, NY 10036
All officers and 381,113(2)(2a) 55.2% 413,613(2)(2a) 10.0%
directors..............
as a group (6 persons) (3)(4) (3)
(4)
</TABLE>
- --------
(1) The tabular information gives effect to the exercise of warrants or
options exercisable within 60 days of the date of this table owned in each
case by the person or group whose percentage ownership is set forth
opposite the respective percentage and is based on the assumption that no
other person or group exercises its option. The address of each of the
officers and directors is 515 North Flagler Drive, Suite 202, West Palm
Beach, Florida 33401.
(2) Includes 8,333 shares issuable upon conversion of Convertible Debentures,
and 60,250 shares issuable upon exercise of non-qualified options at an
exercise price of $8 per share which became exercisable on December 1,
1995.
(2a) Includes 10,417 shares issuable upon conversion of Convertible
Debentures, and 60,250 shares issuable upon exercise of non-qualified
options at an exercise price of $8 per share which became exercisable on
December 1, 1995. Excludes 10,417 shares issuable upon exercise of
Private Warrants which are not exercisable until one year after the
closing of the Debenture Conversion.
(3) Includes 9,000 shares issuable on exercise of warrants at an exercise
price of $5 per share which became exercisable on October 31, 1994.
(4) Includes (i) 67,500 shares issuable upon exercise of non-qualified options
at an exercise price of $8 per share which became exercisable on December
1, 1995 and (ii) 91,333 shares owned by Europa International Inc.
("Europa"), including 13,333 shares issuable to Europa upon conversion of
Convertible Debentures and 78,000 shares issuable to Europa on exercise of
warrants at an exercise price of $5 per share which became exercisable on
October 31, 1994. Knoll Capital Management has the sole voting power of
the shares owned by Europa. Mr. Knoll is the President and sole
shareholder of Knoll Capital an Management.
48
<PAGE>
(4a) Includes Europa holdings of 16,667 shares issuable upon conversion of
Convertible Debentures and 78,000 shares issuable on exercise of warrants
at an exercise price of $5 per share which became exercisable on October
31, 1994. Knoll Capital Management has the sole voting power of the
shares owned by Europa. Mr. Knoll is the President and sole shareholder
of Knoll Capital Management. Excludes 16,667 shares issuable upon
exercise of Private Warrants which are not exercisable until one year
after the closing of the Debenture Conversion.
(5) Includes 1,250 shares issuable upon exercise of non-qualified options at
an exercise price of $4 per share which became exercisable on January 25,
1995.
(6) Includes 3,333 shares issuable upon conversion of Convertible Debentures
and 18,000 shares issuable on exercise of warrants at an exercise price of
$5 per share which became exercisable on October 31, 1994.
(6a) Includes 4,167 shares issuable upon conversion of Convertible Debentures
and 18,000 shares issuable on exercise of warrants at an exercise price
of $5 per share which became exercisable on October 31, 1994. Excludes
4,167 shares issuable upon exercise of Private Warrants which are not
exercisable until one year after the Debenture Conversion.
(7) Includes 3,333 shares issuable upon conversion of Convertible Debentures.
(7a) Includes 4,167 shares issuable upon conversion of Convertible Debentures.
Excludes 4,167 shares issuable upon exercise of warrants which are not
exercisable until one year after the Debenture Conversion.
(8) Represents shares issuable upon conversion of 57,500 shares of Series One
Preferred Stock.
49
<PAGE>
DESCRIPTION OF SECURITIES
The Company's authorized capital stock consists of 35,000,000 shares of
Common Stock, par value $.01 per share (the "Common Stock"), and 5,000,000
shares of Preferred Stock, par value $.01 per share (the "Preferred Stock").
The following summary of certain terms of the Common Stock and Preferred Stock
does not purport to be complete and is subject to, and qualified in its
entirety by, the provisions of the Company's Certificate of Incorporation and
By-laws, which are included as exhibits to the Registration Statement of which
this Prospectus is a part.
COMMON STOCK
The Company has 439,650 shares of Common Stock issued and outstanding. The
holders of Common Stock are entitled to one vote for each share held of record
on all matters submitted to a vote of stockholders and do not have cumulative
voting rights. Accordingly, holders of a majority of the shares entitled to
vote in any election of Directors may elect all of the Directors standing for
election. Subject to preferences that may be applicable to any then
outstanding Preferred Stock, the holders of the Common Stock are entitled to
receive such dividends, if any, as may be declared by the Board of Directors
from time to time out of legally available funds. Upon liquidation,
dissolution or winding up of the Company, the holders of Common Stock are
entitled to share ratably in all assets of the Company that are legally
available for distribution, after payment of all debts and other liabilities
and subject to the prior rights of holders of the Preferred Stock then
outstanding. The holders of Common Stock have no preemptive, subscription,
redemption or conversion rights. The rights, preferences and privileges of
holders of Common Stock are subject to the rights of the holders of shares of
any series of Preferred Stock that the Company will issue in the future.
WARRANTS
Each Warrant offered in the Primary Offering entitles the registered holder
to purchase one share of Common Stock at a price of $4.00 per share, subject
to adjustments in certain circumstances, during the period commencing one year
and ending five years from the date of this Prospectus.
The Warrants are redeemable by the Company, at the option of the Company,
with the prior consent of the Representative, at a price of $.01 per Warrant
at any time after the Warrants become exercisable, upon not less than 30
business days' written notice, provided that the last sales price of the
Common Stock equals or exceeds 150% (initially $6.00) of the then-exercise
price of the Warrants (the "Redemption Threshold") for the 20 consecutive
trading days ending on the third day prior to the notice of redemption to
warrantholders. The warrantholders shall have the right to exercise the
Warrants until the close of business on the date fixed for redemption. The
Company is required to maintain the effectiveness of a current registration
statement relating to the exercise of the Warrants and, accordingly, the
Company will be unable to redeem the Warrants unless there is a currently
effective prospectus and registration statement under the Securities Act
covering the issuance of underlying securities. Also, lack of qualification or
registration under applicable state securities laws may mean that the Company
would be unable to issue securities upon exercise of the Warrants to holders
in certain states, including at the time when the Warrants are called for
redemption.
The Warrants will be issued in registered form under a Warrant Agreement
between the Company and American Stock Transfer & Trust Company as Warrant
Agent. Reference is made to such Warrant Agreement (which has been filed as an
exhibit to the Registration Statement of which this Prospectus is a part) for
a complete description of the terms and conditions applicable to the Warrants
(the description herein contained being qualified in its entirety by reference
to such Warrant Agreement).
The exercise price, number of shares of Common Stock issuable on exercise of
the Warrants and Redemption Threshold are subject to adjustment in certain
circumstances, including in the event of a stock dividend, recapitalization,
reorganization, merger or consolidation of the Company. However, the Warrants
are not subject to adjustment for issuances of Common Stock at a price below
their exercise price.
50
<PAGE>
The Company has the right, in its sole discretion, to decrease the exercise
price of the Warrants for a period of not less than 30 days on not less than
30 days' prior written notice to the warrantholders. In addition, the Company
has the right, in its sole discretion, to extend the expiration date of the
Warrants on five business days' prior written notice to the warrantholders.
The Company will comply with all applicable tender offer rules, including Rule
13e-4, in the event the Company reduces the exercise price for a limited
period of time.
The Warrants may be exercised upon surrender of the Warrant Certificate
representing the Warrants on or prior to the expiration date at the offices of
the Warrant Agent, with the exercise form on the reverse side of the Warrant
Certificate completed and executed as indicated, accompanied by full payment
of the exercise price (by certified check, payable to the Company) for the
number of Warrants being exercised. The warrantholders do not have the rights
or privileges of holders of Common Stock.
No Warrants will be exercisable unless at the time of exercise the Company
has filed with the Commission a current prospectus covering the shares of
Common Stock issuable upon exercise of such Warrants and such shares have been
registered or qualified or are exempt under the securities laws of the state
of residence of the holder of such Warrants.
No fractional shares will be issued upon exercise of the Warrants. The
Company will pay to such warrantholder, in lieu of the issuance of any
fractional share which is otherwise issuable to such warrantholder, an amount
in cash based on the market value of the Common Stock on the last trading day
prior to the exercise date.
Private Warrants. 125,000 Private Warrants are also being issued in
connection with the Debenture Conversion. The terms of the Private Warrants
were negotiated at arms-length.
PREFERRED STOCK
The Company is authorized to issue 5,000,000 shares of Preferred Stock, par
value $0.01 per share, in one or more series. The Board of Directors, without
further approval of the stockholders, is authorized to fix the rights and
terms relating to dividends, conversion, voting, redemption, liquidation
preferences, sinking funds and any other rights, preferences, privileges and
restrictions applicable to each such series of Preferred Stock. The issuance
of Preferred Stock, while providing flexibility in connection with possible
financing, acquisitions and other corporate purposes, could, among other
things, adversely affect the voting power of the holders of Common Stock and,
under certain circumstances, be used as a means of discouraging, delaying or
preventing a change in control of the Company. Other than the Series One
Preferred Stock, the Company has no shares of Preferred Stock outstanding and
has no plans to issue any shares.
Series One Preferred Stock. In June 1995, the Board of Directors designated
100,000 of the Company's Preferred Stock as "Series One Exchangeable and
Convertible Preferred Stock" (the "Series One Preferred Stock"). The Company
issued 57,500 shares of the Series One Preferred Stock to Anchor under the
terms of the Anchor Loan. See "Certain Transactions." Under the terms of the
Anchor Loan, upon the consummation of the Primary Offering and the other
Closing Transactions, the 57,500 shares of Series One Preferred Stock will be
exchanged for 205,000 shares of Common Stock. The holders are also entitled to
receive cumulative dividends equal to $1.00 per share and have a liquidation
preference of $10.00 per share plus any dividends accrued and unpaid. The
holders of Series One Preferred Stock have no voting rights except for certain
corporate actions. The Series One Preferred Stock is redeemable at the option
of the Company at a price of $10.00 per share, plus accrued and unpaid
dividends, under certain conditions, commencing January 1, 1999.
CONVERTIBLE DEBENTURES
Concurrently with the consummation of the Primary Offering and the other
Closing Transactions, the Convertible Debentures, of which an aggregate
principal amount of $1,525,000 is outstanding, will be restructured by
converting, at a price of $4.00 per share, $500,000 principal amount into
125,000 shares of
51
<PAGE>
Common Stock and 125,000 Private Warrants and reducing the conversion rate on
$875,000 of the remainder to $8.00 per share from the present $16 per share,
making the remainder convertible into 128,125 shares of Common Stock. From and
after the consummation of the Primary Offering, the interest rate on $875,000
in principal amount will be 9% instead of the present 18%. Three of the 26
holders of Convertible Debentures, representing $150,000 in principal amount,
have not agreed to the conversion. These changes were negotiated with the
holders of the Convertible Debentures. The Convertible Debentures were issued
in June 1994 and mature on January 25, 2004. In addition to payment of
interest, the Company is to pay the holders of the Convertible Debentures a
pro rata portion of 50% of LIPA's share of the net revenue (net of funds
required for the payment of interest) resulting from LIPA's energy sales (the
"Supplemental Participation"). As a result of the Debenture Conversion, the
Supplemental Participation will be reduced by one-third in view of the
Conversion of $500,000 in principal amount of Convertible Debentures. See
"Business--Current Operations and On-Going Projects--Lehi Cogeneration
Project."
Pursuant to the terms and conditions of a pledge agreement between the
Company and Richard Nelson and Theodore Rosen, acting jointly as pledge agent
for all of the holders of the Convertible Debentures, payment of principal and
interest on the Convertible Debentures and, if applicable, any Supplemental
Participation due is secured by a security interest in all of the issued and
outstanding shares of common stock of LEI, all of which issued and outstanding
shares are owned by the Company. Until such time as the Company's obligations
for the payment of the principal and interest on the Convertible Debentures
and, if applicable, any Supplemental Participation due are paid in full, the
Company shall not cause LEI to issue any additional shares of common stock
unless the security interest granted in LEI shall be extended to such
additional shares.
The Convertible Debentures are subordinate and subject in right of payment
to the prior payment of all "Senior Indebtedness" of the Company. "Senior
Indebtedness" is the principal of, premium, if any, and interest (including
any interest accruing after the filing of a petition in bankruptcy) on and
other amounts due or in connection with any indebtedness of the Company
including, without limitation, the liabilities as defined in and arising under
any loan or security agreement with a bank, insurance company, or other
financial institution or affiliate of any thereof whether outstanding on the
date of the Convertible Debentures, or any indebtedness thereafter created,
incurred, assumed or guaranteed by the Company, and, in each case, all
renewals, extensions, and refundings thereof, except indebtedness which by the
terms of the instrument creating or evidencing such indebtedness created,
incurred, assumed, or guaranteed after the date of the Convertible Debentures
is expressly made equal to or subordinate and subject in right of payment to,
the payment of principal of an interest on the Convertible Debentures.
Notwithstanding anything herein to the contrary, Senior Indebtedness shall not
include (i) indebtedness representing the repurchase price of any preferred
stock or other capital stock of the Company or any dividend or distribution
with respect thereto; (ii) indebtedness of the Company owed directly to any
employee, officer or director thereof; and (iii) indebtedness which, by its
terms, is subordinate in right of payment to the indebtedness of the Company
evidenced by the Convertible Debentures.
To the extent the Company shall have funds legally available for such
payment, commencing January 25, 1998, the Company may redeem at its option the
Convertible Debentures, in whole or in part, at a redemption price equal to
102% of the principal amount of each Convertible Debenture, plus any unpaid
and accrued interest of the Supplemental Participation. Upon any such
redemption, the Company must issue each holder whose Convertible Debenture(s)
have been redeemed a warrant to purchase a number of shares of the Company's
Common Stock equal to the number of shares into which the principal amount
being redeemed is then convertible. The exercise price of these warrants would
be the same as the conversion price at the time of redemption (currently $8.00
per share).
ANTI-TAKEOVER PROVISIONS
The Company is governed by the provisions of Section 203 of the General
Corporation Law of Delaware, an anti-takeover law. In general, this statute
prohibits a publicly-held Delaware corporation from engaging in a "business
combination" with an "interested stockholder" for a period of three years
after the date of the transaction in which the person became an interested
stockholder, unless the business combination is approved
52
<PAGE>
in a prescribed manner. A "business combination" includes mergers, asset sales
and other transactions resulting in a financial benefit to the interested
stockholder. An "interested stockholder" is a person who, together with
affiliates and associates, owns (or within three years, did own) 15% or more
of the Company's voting stock.
The Delaware Statute may discourage certain types of transactions involving
an actual or potential change in control of the Company.
TRANSFER AGENT AND REGISTRAR
The transfer agent and registrar for the Common Stock and warrant agent for
the Warrants is American Stock Transfer & Trust Company.
53
<PAGE>
SHARES ELIGIBLE FOR FUTURE SALE
Possible Rule 144 Sales. Upon completion of the Primary Offering by the
Company described in this Prospectus, the Company will have outstanding
3,869,650 shares of Common Stock. All of the 3,100,000 shares sold in the
Primary Offering (assuming no exercise of the Underwriters' over-allotment
option in the Primary Offering) will be freely transferable by persons other
than affiliates (as defined in regulations under the Securities Act) without
restriction or further registration under the Securities Act.
Of the 439,650 shares of Common Stock outstanding prior to the Primary
Offering, 64,650 shares of Common Stock outstanding are "restricted
securities" within the meaning of Rule 144 under the Securities Act and may
not be sold in the absence of registration under the Securities Act, unless an
exemption from registration is available, including the exemption provided by
Rule 144. Under Rule 144 as currently in effect, all of such 64,650 shares are
currently eligible for sale (none of which are subject to the agreements
described below restricting their sale), subject in each instance to the
volume limitations of the Rule. The holders of record of 114,279 of these
shares have agreed with the Representative not to sell their shares until
thirteen months from the date of this Prospectus without the prior written
approval of the Representative. The 205,000 shares of Common Stock to be
issued in the Preferred Stock Exchange and the 125,000 shares of Common Stock
to be issued upon the Debenture Conversion will be restricted securities.
Although registered pursuant to the Shelf Registration, Anchor has agreed not
to sell the 205,000 shares of Common Stock it will receive in the Preferred
Stock Exchange without the Representative's prior written approval, for a
period of nine months following the consummation of the Offering. The
foregoing does not give effect to any shares issuable on exercise of
outstanding options and warrants. The effect of the offer and sale of such
shares may be to depress the market price for the Company's Common Stock.
In general, under Rule 144 as currently in effect, any person (or persons
whose shares are aggregated for purposes of Rule 144) who beneficially owns
Restricted Securities with respect to which at least two years have elapsed
since the later of the date the shares were acquired from the Company or from
an affiliate of the Company, is entitled to sell, within any three-month
period, a number of shares that does not exceed the greater of (i) 1% of the
then outstanding shares of Common Stock of the Company, or (ii) the average
weekly trading volume in Common Stock during the four calendar weeks preceding
such sale. Sales under Rule 144 are also subject to certain manner-of-sale
provisions and notice requirements, and to the availability of current public
information about the Company. A person who is not an affiliate, has not been
an affiliate within 90 days' prior to sale and who beneficially owns
Restricted Securities with respect to which at least three years have elapsed
since the later of the date the shares were acquired from the Company or from
an affiliate of the Company, is entitled to sell such shares under Rule 144(k)
without regard to any of the volume limitations or other requirements
described above.
54
<PAGE>
PLAN OF DISTRIBUTION
The Securities are being registered to permit public secondary trading of
the 205,000 shares of Common Stock by the holders thereof from time to time
after the date of this Prospectus. The Company has agreed, among other things,
to bear all expenses other than underwriting discounts and selling commissions
and fees in connection with the registration and sale of the Securities
covered by this Prospectus.
The Company will not receive any of the proceeds from this Secondary
Offering by the Selling Securityholders. The Company has been advised by the
Selling Securityholders that the Selling Securityholders may sell all or a
portion of the Securities beneficially owned by them and offered hereby from
time to time on the Nasdaq SmallCap Market, the NASD OTC Bulletin Board or any
exchange on which the Securities may trade on terms to be determined at the
times of such sales. The Selling Securityholders may also make sales of the
Securities directly or through a broker or brokers. Alternatively, any of the
Selling Securityholders may from time to time offer any of the Securities
beneficially owned by them through underwriters, dealers or agents, who may
receive compensation in the form of underwriting discounts, commissions or
concessions from the Selling Securityholders and from the purchasers of the
Securities for whom they may act as agent. Any sales pursuant to this
Prospectus by holders of any of the Securities offered hereby will require the
delivery of a current Prospectus to the purchaser.
The Securities may be sold from time to time in one or more transactions at
fixed offering prices, which may be changed, or at varying prices determined
at the time of sale or at negotiated prices. Such prices will be determined by
the holders of such Securities or by agreement between such holders and
underwriters or dealers who may receive fees or commissions in connection
therewith. The aggregate proceeds to the Selling Securityholders from the sale
of the Securities offered hereby will be the purchase price of such Securities
less discounts and commissions, if any. No underwriting arrangements exist as
of the date of this Prospectus for sales by any Selling Securityholders. Upon
being advised of any underwriting arrangements, the Company will supplement
this Prospectus to disclose such arrangements.
The Company may suspend the use of this Prospectus at any time under certain
circumstances relating to pending corporate developments, public filings with
the Commission and similar events.
In order to comply with the securities laws of certain states, if
applicable, the Securities will be sold in such jurisdictions only through
registered or licensed brokers or dealers. In addition, in certain states the
Securities may not be sold unless they have been registered or qualified for
sale in the applicable state or an exemption from the registration or
qualification requirement is available and is complied with.
The Selling Securityholders and any broker-dealers, agents or underwriters
that participate with the Selling Securityholders in the distribution of the
Securities may be deemed to be "underwriters" within the meaning of the
Securities Act, in which event any commissions received by such broker-
dealers, agents or underwriters and any profit on the resale of the Securities
purchased by them may be deemed to be underwriting commissions or discounts
under the Securities Act.
LEGAL MATTERS
The legality of the Securities offered hereby will be passed upon for the
Company by the firm of Reid & Priest LLP, New York, New York.
55
<PAGE>
EXPERTS
The financial statements of the Company as at January 31, 1996 and for each
of the years in the two-year period then ended, appearing in the Prospectus,
have been audited by Richard A. Eisner & Company, LLP, independent auditors,
to the extent and for the years indicated in their report appearing elsewhere
herein and in the Registration Statement. Such financial statements have been
included in reliance upon such report given upon the authority of that firm as
experts in accounting and auditing.
The financial statements of Lehi Independent Power Associates, L.C. as of
December 31, 1995 and 1994 for the year then ended and the period January 24,
1994 (date of inception) through December 31, 1994, appearing in this
Prospectus, have been audited by Traveller Winn & Mower, PC, independent
auditors, to the extent and for the years indicated in their report appearing
elsewhere herein and in the Registration Statement. Such financial statements
have been included in reliance upon such report and upon the authority of that
firm as experts in accounting and auditing.
The financial statements of Far West Electric Energy Fund, L.P. as of
December 31, 1994 and 1995 and for the years then ended, appearing in this
Prospectus, have been audited by Robison, Hill & Co., PC, independent
auditors, to the extent and for the years indicated in their report appearing
elsewhere herein and in the Registration Statement. Such financial statements
have been included in reliance upon such report and upon the authority of that
firm as experts in accounting and auditing.
The financial statements of 1-A Enterprises as of December 31, 1994 and 1995
and for the two-year period then ended, appearing in this Prospectus, have
been audited by Robison, Hill & Co., PC, independent auditors, to the extent
and for the years indicated in their report appearing elsewhere herein and in
the Registration Statement. Such financial statements have been included in
reliance upon such report and upon the authority of that firm as experts in
accounting and auditing.
The financial statements of Plymouth Cogeneration Limited Partnership as of
December 31, 1994 and 1995 and for the year ended December 31, 1995, appearing
in this Prospectus, have been so included in the reliance on the report on
Price Waterhouse LLP, independent accountants given on the authority of said
firm as experts in auditing and accounting.
56
<PAGE>
U.S. ENERGY SYSTEMS, INC. AND SUBSIDIARIES
(FORMERLY U.S. ENVIROSYSTEMS, INC.)
INDEX TO FINANCIAL STATEMENTS
<TABLE>
<CAPTION>
PAGE
----
<S> <C>
U.S. ENERGY SYSTEMS, INC.
Report of Independent Auditor............................................. F-2
Consolidated Balance Sheet as at January 31, 1996 and July 31, 1996 (Unau-
dited)................................................................... F-3
Consolidated Statements of Operations for the years ended January 31, 1996
and January 31, 1995
and for the Six Months ended July 31, 1996 and July 31, 1995 (Unaudited). F-4
Consolidated Statements of Changes in Capital Deficiency for the years
ended January 31, 1996
and January 31, 1995 and for the Six Months ended July 31, 1996 and July
31, 1995 (Unaudited)..................................................... F-5
Consolidated Statements of Cash Flows for the years ended January 31, 1996
and January 31, 1995
and for the Six Months ended July 31, 1996 and July 31, 1995 (Unaudited). F-6
Notes to Financial Statements............................................. F-7
FAR WEST ELECTRIC ENERGY FUND, L.P.
Independent Auditor's Report.............................................. F-16
Balance Sheets, December 31, 1995 and 1994 and September 30, 1996......... F-17
Statements of Income, for the years ended December 31, 1995, 1994, and
1993
and the Nine Months ended September 30, 1996............................. F-18
Statements of Partners' Capital, for the years ended December 31, 1995,
and 1994, and 1993
and the Nine Months ended September 30, 1996............................. F-19
Statements of Cash Flows, for the years ended December 31, 1995, 1994 and
1993
and the Nine Months ended September 30, 1996............................. F-20
Notes to Financial Statements............................................. F-21
1-A ENTERPRISES
Independent Auditor's Report.............................................. F-29
Balance Sheet, December 31, 1995 and 1994 and September 30, 1996.......... F-30
Statements of Income, for the years ended December 31, 1995 and 1994 and
the Nine Months ended September 30, 1996................................. F-31
Statements of Partners' Capital, for the years ended December 31, 1995 and
1994
and the Nine Months ended September 30, 1996............................. F-32
Statements of Cash Flows, for the years ended December 31, 1995 and 1994
and the Nine Months ended September 30, 1996............................. F-33
Notes to Financial Statements December 31, 1995 and 1994 and the Nine
Months ended
September 30, 1996....................................................... F-34
LEHI INDEPENDENT POWER ASSOCIATES, L.C.
Report of Independent Auditors............................................ F-38
Balance Sheets, December 31, 1995 and 1994 and June 30, 1996.............. F-39
Statements of Operations for the year ended December 31, 1995, the Period
ended December 31, 1994 and the Six Months ended June 30, 1996........... F-40
Statement of Changes in Members' Equity for the year ended December 31,
1995,
the Period ended December 31, 1994 and the Six Months ended June 30,
1996..................................................................... F-41
Statements of Cash Flows for the year ended December 31, 1995, the Period
ended December 31, 1994 and the Six Months ended June 30, 1996........... F-42
Notes to Financial Statements............................................. F-43
PLYMOUTH COGENERATION LIMITED PARTNERSHIP
Report of Independent Accountants......................................... F-45
Balance Sheets, December 31, 1995 and 1994 and June 30, 1996.............. F-46
Statement of Operations for the year ended December 31, 1995
and the Six Months ended June 30, 1996................................... F-47
Statement of Changes in Partners' Capital for the year ended December 31,
1995
and the Six Months ended June 30, 1996................................... F-48
Statement of Cash Flows for the year ended December 31, 1995
and the Six Months ended June 30, 1996................................... F-49
Notes to Financial Statements............................................. F-50
</TABLE>
F-1
<PAGE>
REPORT OF INDEPENDENT AUDITORS
Board of Directors and Stockholders
U.S. Energy Systems, Inc.
(formerly U.S. Envirosystems, Inc.)
We have audited the accompanying consolidated balance sheet of U.S. Energy
Systems, Inc. (formerly U.S. Envirosystems, Inc.) and subsidiaries as at
January 31, 1996 and the related consolidated statements of operations,
changes in capital deficiency and cash flows for each of the years in the two-
year period then ended. These statements are the responsibility of the
Company's management. Our responsibility is to express an opinion on these
financial statements based on our audits.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to
obtain reasonable assurance about whether the financial statements are free of
material misstatement. An audit includes examining, on a test basis, evidence
supporting the amounts and disclosures in the financial statements. An audit
also includes assessing the accounting principles used and significant
estimates made by management, as well as evaluating the overall financial
statement presentation. We believe that our audits provide a reasonable basis
for our opinion.
In our opinion, the consolidated financial statements enumerated above
present fairly, in all material respects, the financial position of U.S.
Energy Systems, Inc. and subsidiaries at January 31, 1996, and the results of
its operations and its cash flows for each of the years in the two-year period
then ended in accordance with generally accepted accounting principles.
The accompanying financial statements have been prepared assuming that the
Company will continue as a going concern. As discussed in Note A to the
financial statements, the Company has incurred significant losses and as at
January 31, 1996, has a working capital deficiency of approximately $1,910,000
and a capital deficiency of $2,729,000 which raise substantial doubt about its
ability to continue as a going concern. Management's plans in regard to these
matters are also described in Note A. The financial statements do not include
any adjustments that might result from the outcome of this uncertainty.
Richard A. Eisner & Company, LLP
New York, New York
March 1, 1996
With respect to Note J[4]
May 6, 1996
With respect to Note A (change of name to U.S. Energy Systems, Inc.)
May 17, 1996
F-2
<PAGE>
U.S. ENERGY SYSTEMS, INC. AND SUBSIDIARIES
(FORMERLY U.S. ENVIROSYSTEMS, INC.)
CONSOLIDATED BALANCE SHEETS
<TABLE>
<CAPTION>
JANUARY 31, JULY 31,
ASSETS 1996 1996
(NOTE G) ----------- -----------
(UNAUDITED)
<S> <C> <C>
Current assets:
Cash.................................................. $ 2,000 $ 1,000
Other current assets.................................. 16,000 20,000
---------- ----------
Total current assets................................. 18,000 21,000
Investments in Joint Ventures--at equity:
Lehi Independent Power Associates, L.C. (Note C[1])... 1,170,000 1,112,000
Plymouth Cogeneration Limited Partnership (Note C[2]). 703,000 669,000
Other assets........................................... 103,000 274,000
---------- ----------
TOTAL................................................ $1,994,000 $2,076,000
========== ==========
LIABILITIES
Current liabilities:
Accrued expenses and other current liabilities (in-
cluding due to related parties of $467,000 and
$707,000, respectively) (Notes D and L).............. $ 990,000 $1,663,000
Pre-reorganization income taxes payable and accrued
interest--
current (Note E)..................................... 172,000 192,000
Loans payable (Note G)................................ 766,000 960,000
---------- ----------
Total current liabilities............................ 1,928,000 2,815,000
Convertible subordinated secured debentures (including
due to related parties of $325,000) (Notes H and L)... 1,525,000 1,525,000
Notes payable (including due to related parties of
$775,000) (Notes I and L)............................. 965,000 975,000
Deferred interest (including due to related parties of
$12,000) (Notes H and L).............................. 114,000 114,000
Pre-reorganization income taxes payable and accrued in-
terest (Note E)....................................... 176,000 180,000
Advances from Joint Ventures (Note C[2])............... 15,000 24,000
---------- ----------
Total liabilities.................................... 4,723,000 5,633,000
---------- ----------
Commitments and contingencies (Note K)
CAPITAL DEFICIENCY
(NOTES A AND J)
Preferred stock, $.01 par value, authorized
5,000,000 shares; issued and outstanding 57,500
(liquidating preference $575,000)..................... 1,000 1,000
Common stock, $.01 par value, authorized
35,000,000 shares; issued and outstanding 439,650..... 4,000 4,000
Additional paid-in capital............................. 112,000 112,000
Accumulated deficit.................................... (2,846,000) (3,674,000)
---------- ----------
Total capital deficiency............................. (2,729,000) (3,557,000)
---------- ----------
TOTAL................................................ $1,994,000 $2,076,000
========== ==========
</TABLE>
The accompanying notes to financial statements are an integral part hereof.
F-3
<PAGE>
U.S. ENERGY SYSTEMS, INC. AND SUBSIDIARIES
(FORMERLY U.S. ENVIROSYSTEMS, INC.)
CONSOLIDATED STATEMENTS OF OPERATIONS
<TABLE>
<CAPTION>
SIX MONTHS ENDED
YEAR ENDED JANUARY 31, JULY 31,
------------------------ -----------------------
1996 1995 1996 1995
----------- ----------- ----------- -----------
(UNAUDITED) (UNAUDITED)
<S> <C> <C> <C> <C>
Cost and expenses:
Operating expenses.......... $ 27,000 $ 109,000 $ $ 26,000
Administrative expenses..... 826,000 897,000 408,000 395,000
Interest expense............ 604,000 319,000 328,000 223,000
Loss from Joint Ventures.... 17,000 76,000 92,000 62,000
----------- ----------- --------- ---------
Total cost and expenses.... 1,474,000 1,401,000 828,000 706,000
----------- ----------- --------- ---------
(Loss) before extraordinary
item....................... (1,474,000) (1,401,000) (828,000) (706,000)
Extraordinary gain from re-
structuring of liabilities.. 83,000 85,000 83,000
----------- ----------- --------- ---------
Net (Loss)................... (1,391,000) $(1,316,000) (828,000) $(623,000)
=========== =========
Dividends on preferred stock. (21,000) (29,000)
----------- ---------
(Loss) applicable to common
stock....................... $(1,412,000) $(857,000)
=========== =========
(Loss) per share before ex-
traordinary item............ $ (3.41) $ (3.38) $ (1.95) $ (1.61)
=========== =========== ========= =========
Net (loss) per share......... $ (3.22) $ (3.17) $ (1.95) $ (1.42)
=========== =========== ========= =========
Weighted average shares out-
standing.................... 438,773 415,022 439,650 438,296
=========== =========== ========= =========
</TABLE>
The accompanying notes to financial statements are an integral part hereof.
F-4
<PAGE>
U.S. ENERGY SYSTEMS, INC. AND SUBSIDIARIES
(FORMERLY U.S. ENVIROSYSTEMS, INC.)
CONSOLIDATED STATEMENTS OF CHANGES IN CAPITAL DEFICIENCY
(NOTES A AND J)
<TABLE>
<CAPTION>
PREFERRED STOCK COMMON STOCK
--------------- -------------------------
NUMBER NUMBER ADDITIONAL
OF OF PAID-IN ACCUMULATED
SHARES AMOUNT SHARES AMOUNT CAPITAL DEFICIT TOTAL
------- ------- ------- ------ ---------- ----------- -----------
<S> <C> <C> <C> <C> <C> <C> <C>
Balance--January 31,
1994................... 391,250 $4,000 $(306,000) $ (139,000) $ (441,000)
Sale of common stock.... 32,000 139,000 139,000
Compensation
attributable to options
and warrants........... 48,000 48,000
Shares issued for inter-
est in Joint Ventures.. 11,400 114,000 114,000
Value assigned to
warrants issued in
connection with notes
payable................ 46,000 46,000
Net (loss) for the year
ended
January 31, 1995....... (1,316,000) (1,316,000)
------- ------- ------- ------ --------- ----------- -----------
Balance--January 31,
1995................... 434,650 4,000 41,000 (1,455,000) (1,410,000)
Sale of common stock.... 5,000 34,000 34,000
Value assigned to
preferred stock issued
in connection with
loans payable.......... 57,500 $ 1,000 28,000 29,000
Value assigned to
additional warrants
issued in connection
with notes payable..... 9,000 9,000
Net (loss) for the year
ended
January 31, 1996....... (1,391,000) (1,391,000)
------- ------- ------- ------ --------- ----------- -----------
Balance--January 31,
1996................... 57,500 1,000 439,650 4,000 112,000 (2,846,000) (2,729,000)
Net (loss) for the six
months ended
July 31, 1996.......... (828,000) (828,000)
------- ------- ------- ------ --------- ----------- -----------
Balance--July 31, 1996
(Unaudited)............ 57,500 $ 1,000 439,650 $4,000 $ 112,000 $(3,674,000) $(3,557,000)
======= ======= ======= ====== ========= =========== ===========
</TABLE>
The accompanying notes to financial statements are an integral part hereof.
F-5
<PAGE>
U.S. ENERGY SYSTEMS, INC. AND SUBSIDIARIES
(FORMERLY U.S. ENVIROSYSTEMS, INC.)
CONSOLIDATED STATEMENTS OF CASH FLOWS
<TABLE>
<CAPTION>
SIX MONTHS ENDED
YEAR ENDED JANUARY 31, JULY 31,
------------------------ -----------------------
1996 1995 1996 1995
----------- ----------- ----------- -----------
(UNAUDITED) (UNAUDITED)
<S> <C> <C> <C> <C>
Cash flows from operating ac-
tivities:
Net (loss).................. $(1,391,000) $(1,316,000) $(828,000) $(623,000)
Adjustments to reconcile net
(loss) to net cash (used
in) operating activities:
Amortization of debt dis-
count...................... 42,000 3,000 10,000 7,000
Amortization of purchase
price in excess of equity
in Joint Ventures.......... 59,000 55,000 26,000 28,000
Amortization of deferred fi-
nancing and registration
costs...................... 72,000 39,000 14,000
Value assigned to options
and warrants............... 48,000
Gain from restructuring of
liabilities................ (83,000) (85,000) (83,000)
Equity in (income)/loss of
Joint Ventures, net of dis-
tributions................. (13,000) 21,000 66,000 34,000
Loss from legal proceedings. 102,000
Deferred interest........... 114,000 61,000
Accrued interest on pre-re-
organization income taxes
payable.................... 39,000 24,000
Changes in operating assets
and liabilities:
(Increase) decrease in
other assets.............. 2,000 (1,000) (19,000) (11,000)
Increase in accounts pay-
able and accrued expenses. 671,000 146,000 673,000 134,000
----------- ----------- --------- ---------
Net cash (used in) operat-
ing activities............ (641,000) (874,000) (9,000) (439,000)
----------- ----------- --------- ---------
Cash flows from investing ac-
tivities:
Security deposit on proposed
acquisition................ (50,000)
Cost incurred in connection
with the Proposed Acquisi-
tions...................... (3,000)
Investment in Joint Ven-
tures...................... (636,000)
Advances to Joint Ventures.. (9,000) (11,000)
Loans (to) from officers.... (47,000)
Collections of loans receiv-
able--officer.............. 33,000 59,000
----------- ----------- --------- ---------
Net cash provided by (used
in) investing activities.. (29,000) (694,000) 59,000
----------- ----------- --------- ---------
Cash flows from financing ac-
tivities:
Proceeds from issuance of
convertible subordinated
debt....................... 400,000 25,000
Proceeds from issuance of
common stock............... 34,000 139,000 63,000
Proceeds from issuance of
notes payable.............. 25,000 975,000
Proceeds from loans payable
and preferred stocks....... 785,000 175,000 570,000
Payment of deferred financ-
ing costs.................. (102,000) (85,000)
Payment of pre-reorganiza-
tion payroll taxes payable. (34,000) (105,000) (109,000)
Payment of pre-reorganiza-
tion income taxes payable.. (9,000) (13,000) (11,000)
Advances from Joint Ven-
tures...................... 15,000 9,000 3,000
Deferred registration costs. (50,000) (176,000)
----------- ----------- --------- ---------
Net cash provided by fi-
nancing activities........ 664,000 1,396,000 8,000 456,000
----------- ----------- --------- ---------
NET INCREASE (DECREASE) IN
CASH........................ (6,000) (172,000) (1,000) 76,000
Cash--beginning of the peri-
od.......................... 8,000 180,000 2,000 8,000
----------- ----------- --------- ---------
CASH--END OF THE PERIOD...... $ 2,000 $ 8,000 $ 1,000 $ 84,000
=========== =========== ========= =========
Supplemental disclosure of
cash flow information:
Cash paid for interest...... $ 93,000 $ 163,000 $ 154,000 $ 60,000
Supplemental schedule of
noncash investing activity:
Fair market value of common
stock issued and contrib-
uted to investment in Joint
Ventures................... $ 114,000
Supplemental schedule of
noncash financing activity:
Valuation of preferred stock
in connection with bridge
loan....................... $ 29,000
</TABLE>
The accompanying notes to financial statements are an integral part hereof.
F-6
<PAGE>
U.S. ENERGY SYSTEMS, INC. AND SUBSIDIARIES
(FORMERLY U.S. ENVIROSYSTEMS, INC.)
NOTES TO FINANCIAL STATEMENTS
(UNAUDITED WITH RESPECT TO JULY 31, 1996 AND JULY 31, 1995)
(NOTE A)--THE COMPANY:
U.S. Energy Systems, Inc. ("USE") and subsidiaries (collectively, the
"Company") are the successors to Cogenic Energy Systems, Inc. ("Cogenic").
Cogenic emerged from Chapter 11 Bankruptcy Proceedings on March 22, 1993. The
Plan of Reorganization, as amended, provided that Cogenic merge with Utilities
Systems Florida, Inc. ("USF") and change the name of the reorganized Cogenic
to U.S. Envirosystems, Inc.
On May 17, 1996, the Company amended its Certificate of Incorporation to
change the name of the Company to U.S. Energy Systems, Inc.
The Company is in the business of owning, developing and operating
cogeneration and independent power plants through Joint Ventures.
The Company has incurred significant losses since its reorganization in 1993
and, as at January 31, 1996 has a working capital deficiency of approximately
$1,910,000 and a capital deficiency of approximately $2,729,000. These factors
raise substantial doubt about its ability to continue as a going concern.
Management's plans for which it has letters of intent or agreements include
the following:
a) Obtain net proceeds of approximately $10,662,000 through the sale of
3,100,000 shares of common stock and warrants in a public offering (the
"Proposed Public Offering").
b) Convert the existing preferred stock into 205,000 shares of common
stock.
c) Convert $500,000 of the existing Debentures into 125,000 shares of
common stock and warrants.
d) Acquire an interest in two operating geothermal power plants ("Steamboat
1 and 1A") for an aggregate of $5,400,000 in cash consideration (the
"Proposed Acquisitions").
e) Repay notes payable and other liabilities of approximately $2,139,000.
All of the above are dependent upon the successful completion of the
proposed public offering referred to in (b) above and to certain other
conditions including the completion of all of the above. There is no assurance
that the above plans can be accomplished. The financial statements do not
include any adjustments that might result from the outcome of this
uncertainty.
The financial information presented as of July 31, 1996 and for the six-
month periods ended July 31, 1996 and July 31, 1995 is unaudited, but in the
opinion of management contains all adjustments (consisting of only normal
recurring adjustments) necessary for a fair presentation of such financial
information. Results of operations for interim periods are not necessarily
indicative of those to be achieved for full fiscal years.
(NOTE B)--SIGNIFICANT ACCOUNTING POLICIES:
Significant accounting policies followed in the preparation of the financial
statements are as follows:
[1]Consolidation:
The consolidated financial statements of the Company include the accounts of
the Company and its wholly owned subsidiaries. All significant intercompany
accounts and transactions have been eliminated in the consolidated balance
sheet.
F-7
<PAGE>
U.S. ENERGY SYSTEMS, INC. AND SUBSIDIARIES
(FORMERLY U.S. ENVIROSYSTEMS, INC.)
NOTES TO FINANCIAL STATEMENTS--(CONTINUED)
(UNAUDITED WITH RESPECT TO JULY 31, 1996 AND JULY 31, 1995)
[2]Investments in Joint Ventures:
Investments in Joint Ventures are accounted for under the equity method.
LIPA and Plymouth each have a fiscal year end December 31 which differs to the
fiscal year end of the Company. No material adjustment is necessary to
reconcile the December 31 year end to the Company's January 31 year end.
[3]Net (loss) per share:
Net (loss) per share is computed using the weighted average number of common
shares outstanding during the period and, when dilutive, common stock
equivalents.
[4]Recent pronouncements:
The Financial Accounting Standards Board has issued Statement of Financial
Accounting Standards No. 123, "Accounting for Stock-Based Compensation" ("SFAS
123"). The Company will adopt the disclosure requirements of SFAS 123 during
the Company's fiscal year ending January 31, 1997 but will continue to account
for its stock option plans under Accounting Principles Board Opinion No. 25,
"Accounting for Stock Issued to Employees" as permitted under FAS 123.
In addition, the Financial Accounting Standards Board issued Statement of
Financial Accounting Standards No. 121 ("SFAS 121"), "Accounting for the
Impairment of Long-Lived Assets and for Long-Lived Assets to Be Disposed Of".
SFAS 121 is also effective for the Company's fiscal year ending January 31,
1997. The Company believes adoption of SFAS No. 121 will not have a material
impact on its financial statements.
[5]Use of estimates:
The preparation of financial statements in conformity with generally
accepted accounting principles requires management to make estimates and
assumptions that affect the reported amounts of assets and liabilities at the
date of the financial statements and the reported amounts of revenues and
expenses during the reporting period. Actual results could differ from those
estimates.
(NOTE C)--INVESTMENT IN JOINT VENTURES:
[1]Lehi Independent Power Associates, L.C.:
In January 1994, Lehi Envirosystems, Inc. ("LEHI"), a subsidiary of the
Company, purchased a 50% equity interest in a limited liability company called
Lehi Independent Power Associates, L.C. ("LIPA"), which wholly owns a
cogeneration project (the "Project") located in Lehi, Utah.
The operating agreement of LIPA provides for, among other matters, the
allocation of the net profits and net losses to the owners in proportion to
their ownership interest. The agreement also provides for additional
contributions totalling $875,000 to be shared by the owners in the event that
any modification, as defined, is required to bring the Project back to full
operational condition. LIPA terminates in January 2024, unless sooner
dissolved by certain conditions as set forth in the operating agreement.
During the two-year period ended January 31, 1996 and the six-month period
ended July 31, 1996, the Project was not in operation.
In the Proposed Acquisitions, Far West Capital Inc., the other 50% owner of
LIPA, will own an interest in Steamboats in the event the Proposed
Acquisitions are consummated.
F-8
<PAGE>
U.S. ENERGY SYSTEMS, INC. AND SUBSIDIARIES
(FORMERLY U.S. ENVIROSYSTEMS, INC.)
NOTES TO FINANCIAL STATEMENTS--(CONTINUED)
(UNAUDITED WITH RESPECT TO JULY 31, 1996 AND JULY 31, 1995)
[2]Plymouth Cogeneration Limited Partnership ("PCLP"):
In November 1994, Plymouth Envirosystems, Inc. ("Plymouth"), a subsidiary of
the Company, acquired a 5% general partner interest and a 35% limited partner
interest in PCLP for cash contributions of $636,000.
The amended and restated agreement of limited partnership (the "Agreement")
provides for, among other matters, the allocation of net profits and net
losses in accordance with the respective ownership interests of the partners.
The terms, conditions and provisions of the Agreement expire in November 2024
or until its termination or dissolution in accordance with the provisions of
the Agreement.
The partnership is engaged in the business of owning and operating a
cogeneration facility designed, developed, and constructed for the production
of electricity and steam (the "Plymouth Project"). The management, supervision
and control of, and the determination of all matters relating to the ownership
and operation of the Plymouth Project and the operations of PCLP are delegated
to PSC, the managing partner.
In December 1994, Plymouth acquired a 36.4% limited partner ownership
interest in PSC, the managing partner of PCLP, for a contribution of 11,400
shares of the Company's common stock with a fair market value of approximately
$114,000. With this transaction, the Company's combined ownership interest in
PCLP is effectively 50%.
In November 1994, the Company entered into an agreement with IEC, a general
partner of PSC. The agreement provides for advances by IEC to the Company
equal to 50% of the development commissions, as defined, received by IEC from
PSC for a period of five years commencing in 1995. During the fiscal year
ended January 31, 1996, the Company received advances from IEC of $15,000. The
advances will be repaid by the Company from the proceeds of capital
distributions received from PSC. The Company is required to repay the advances
in five equal annual installments commencing July 1, 2004.
[3]At acquisition, LEHI's equity in the net assets of LIPA was approximately
$146,000 and Plymouth's equity in the net assets of PCLP was approximately
$668,000. The excess of purchase price over the underlying equities of LEHI
and Plymouth have been allocated to the plants of LIPA and PCLP, respectively,
and is being amortized over the remaining life of such assets. At January 31,
1996, the estimated remaining life of the plants is as follows:
<TABLE>
<S> <C>
LIPA--Buildings.......................... 28 years
Machinery and equipment............... 6 years
Plymouth--Plant.......................... 19 years
</TABLE>
F-9
<PAGE>
U.S. ENERGY SYSTEMS, INC. AND SUBSIDIARIES
(FORMERLY U.S. ENVIROSYSTEMS, INC.)
NOTES TO FINANCIAL STATEMENTS--(CONTINUED)
(UNAUDITED WITH RESPECT TO JULY 31, 1996 AND JULY 31, 1995)
[4]The following is summarized financial information of LIPA and PCLP:
<TABLE>
<CAPTION>
DECEMBER 31, 1995 JUNE 30, 1996
---------------------- ----------------------
LIPA PCLP LIPA PCLP
---------- ---------- ---------- ----------
<S> <C> <C> <C> <C>
Current Assets................. $ 158,000 $ 158,000 $ 122,000 $ 188,000
Property, plant and equipment
at cost (net)................. 257,000 5,593,000 251,000 5,450,000
Other assets................... 828,000 876,000
---------- ---------- ---------- ----------
Total assets................. 415,000 6,579,000 373,000 6,514,000
Current liabilities............ (9,000) (343,000) (35,000) (339,000)
Long-term debt................. (4,987,000) (4,990,000)
---------- ---------- ---------- ----------
Equity......................... $ 406,000 $1,249,000 $ 338,000 $1,185,000
========== ========== ========== ==========
Equity in Joint Ventures....... $ 203,000 $ 625,000 $ 169,000 $ 593,000
Investments in Joint Ventures
in excess of equity........... 967,000 78,000 943,000 76,000
---------- ---------- ---------- ----------
Total investments in Joint
Ventures.................... $1,170,000 $ 703,000 $1,112,000 $ 669,000
========== ========== ========== ==========
</TABLE>
<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31, SIX MONTHS ENDED JUNE 30,
------------------------------ --------------------------------------
LIPA PCLP LIPA PCLP
------------------ ---------- ------------------ ------------------
1995 1994 1995 1996 1995 1996 1995
-------- -------- ---------- -------- -------- -------- --------
<S> <C> <C> <C> <C> <C> <C> <C>
Revenue................. $1,150,000 $596,000 $570,000
========== ======== ========
Gain on sale of fixed
assets................. $236,000
========
Net income (loss)....... $172,000 $(41,000) $ (87,000) $(68,000) $(24,000) $(64,000) $(44,000)
======== ======== ========== ======== ======== ======== ========
Equity in net income
(loss)................. $ 86,000 $(21,000) $ (44,000) $(34,000) $(12,000) $(32,000) $(22,000)
Amortization of purchase
price over equity...... (55,000) (55,000) (4,000) (24,000) (28,000) (2,000)
-------- -------- ---------- -------- -------- -------- --------
Net income (loss) from
Joint Ventures......... $ 31,000 $(76,000) $ (48,000) $(58,000) $(40,000) $(34,000) $(22,000)
======== ======== ========== ======== ======== ======== ========
</TABLE>
Plymouth Project commenced operations on January 1, 1995.
(NOTE D)--ACCOUNTS PAYABLE AND ACCRUED EXPENSES:
Accrued expenses and other current liabilities are comprised of the
following:
<TABLE>
<CAPTION>
JANUARY 31, JULY 31,
1996 1996
----------- ----------
<S> <C> <C>
Professional fees.................................... $293,000 $ 501,000
Accrued interest..................................... 417,000 591,000
Accrued payroll and related taxes.................... 238,000 411,000
Other................................................ 42,000 160,000
-------- ----------
Total.............................................. $990,000 $1,663,000
======== ==========
</TABLE>
F-10
<PAGE>
U.S. ENERGY SYSTEMS, INC. AND SUBSIDIARIES
(FORMERLY U.S. ENVIROSYSTEMS, INC.)
NOTES TO FINANCIAL STATEMENTS--(CONTINUED)
(UNAUDITED WITH RESPECT TO JULY 31, 1996 AND JULY 31, 1995)
(NOTE E)--PRE-REORGANIZATION INCOME TAXES PAYABLE:
Pursuant to the Plan of Reorganization of Cogenic, the pre-reorganization
income taxes payable were to be paid in full, plus interest at the rate set by
applicable statute, by making a payment of $110,000 upon the merger with USF
and by making equal monthly installments, commencing one year after the
merger, over a period not exceeding six years after the date of assessment of
such pre-reorganization income taxes payable. The $110,000 payment has not
been made since the effective date of the merger.
The remaining payments of pre-reorganization income taxes and accrued
interest are as follows:
<TABLE>
<CAPTION>
JANUARY 31, JULY 31,
1996 1996
----------- --------
<S> <C> <C>
1997.................................................... $172,000 $192,000
1998.................................................... 41,000 46,000
1999.................................................... 43,000 44,000
2000.................................................... 46,000 47,000
2001.................................................... 46,000 43,000
-------- --------
Total................................................. $348,000 $372,000
======== ========
</TABLE>
During the two-year period ended January 31, 1996, the Company reached
settlements with the tax authorities resulting in extraordinary gains from
restructuring of liabilities of $83,000 and $85,000 during the years ended
January 31, 1996 and January 31, 1995, respectively.
(NOTE F)--INCOME TAXES:
The deferred tax asset is as follows:
<TABLE>
<CAPTION>
JANUARY 31, JULY 31,
1996 1996
----------- ----------
<S> <C> <C>
Benefit of post-reorganization operating loss
carryforward....................................... $801,000 $1,022,000
Expenses for financial reporting, not yet deductible
for taxes.......................................... 132,000 110,000
Valuation allowance................................. (933,000) (1,132,000)
-------- ----------
$-- 0 -- $ -- 0 --
======== ==========
</TABLE>
The Company has fully reserved against the deferred tax asset since the
likelihood of realization cannot be determined.
During the years ended January 31, 1996 and 1995, and the six-month period
ended July 31, 1996, the difference between the statutory tax rate of 34% and
the Company's effective tax rate of 0% is due to an increase in the valuation
allowance of $410,000, $503,000 and $199,000, respectively.
Prior to the reorganization, Cogenic had available a net operating loss
carryforward, which expires through 2008, of approximately $19,000,000 for tax
purposes and tax credit carryforwards of $216,000 expiring from 1997 to 2000.
Utilization of the acquired net operating loss and tax credit carryforwards
may be subject to limitations as a result of the reorganization, or in the
event of other significant changes in ownership. Accordingly, the Company has
not recognized the deferred tax asset attributable to the acquired net
operating loss and tax credit carryforwards.
F-11
<PAGE>
U.S. ENERGY SYSTEMS, INC. AND SUBSIDIARIES
(FORMERLY U.S. ENVIROSYSTEMS, INC.)
NOTES TO FINANCIAL STATEMENTS--(CONTINUED)
(UNAUDITED WITH RESPECT TO JULY 31, 1996 AND JULY 31, 1995)
(NOTE G)--LOANS PAYABLE (THE "LOANS"):
Loans payable consist of the following:
<TABLE>
<CAPTION>
JANUARY 31, JULY 31,
1996 1996
----------- --------
<S> <C> <C>
18% loan, payable on the earlier of May 31, 1996 or
closing of the proposed
public offering, net of debt discount of $19,000 at
January 31, 1996
(effective rate 39.68%) (a)........................... $616,000 $660,000
10% loan, payable on the earlier of May 31, 1996 or
closing of the
proposed public offering (b).......................... 100,000 250,000
18% unsecured loan payable upon closing of the proposed
public offering....................................... 50,000 50,000
-------- --------
$766,000 $960,000
======== ========
</TABLE>
(a) Collateralized by first lien on all the assets of the Company and by
97,250 shares of the Company's common stock owned by officers.
(b) Collateralized by the Company's interest in LIPA and PCLP Joint
Ventures, subject to prior lien.
(NOTE H)--CONVERTIBLE SUBORDINATED SECURED DEBENTURES:
The Company's Convertible Subordinated Debentures (the "Debentures") bear
interest at 18% and are due on January 25, 2004. In addition to the interest
payments, the Debenture holders are entitled to 50% of the Company's share of
net profits (net of provision for the 18% interest on the Debentures) of LIPA
("Supplemental Participation"). The Debentures are collateralized by a
security interest in the outstanding shares of Lehi and are subject to
subordination to senior indebtedness. Commencing January 25, 1998, the Company
has the option to redeem the Debentures at 102, plus unpaid and accrued
interest and Supplemental Participation. Commencing January 25, 1996, each
Debenture may be converted at any time, at the option of the Debenture
holders, into the Company's common stock. Subject to certain adjustments, each
$1,000 principal amount of Debentures is initially convertible into 62 shares
of the Company's common stock. Commencing January 25, 1997, the Company will
have the right to convert all the then outstanding Debentures into common
stock at the then current conversion number if the market price, as defined,
of the common stock equals or exceeds $40.00 for more than twenty (20)
consecutive days prior to the date fixed for conversion by the Company.
In December 1994, the Company requested from its Debenture holders that one-
half of the 18% interest be deferred commencing with the December 25, 1994
interest payment until the earlier to occur of completion of new financing or
commencement of cash flow from LIPA (see Note C[1]). In the event of default,
the Debenture holders have the right to demand immediate payment of all or any
portion of the outstanding principal amount and any unpaid interest, if the
default is not remedied within 120 days after it has occurred. As of May 15,
1995, the Debenture holders have agreed to the terms of the partial deferment.
In connection with the 9% deferment, the Company increased the number of
shares that each Debenture can be converted into from 62 shares for each
$1,000 principal amount to 66 shares for each $1,000 principal amount.
At January 31, 1996 and July 31, 1996, the 9% interest deferred, included in
accrued expenses and other current liabilities, was $160,000 and $229,000,
respectively.
F-12
<PAGE>
U.S. ENERGY SYSTEMS, INC. AND SUBSIDIARIES
(FORMERLY U.S. ENVIROSYSTEMS, INC.)
NOTES TO FINANCIAL STATEMENTS--(CONTINUED)
(UNAUDITED WITH RESPECT TO JULY 31, 1996 AND JULY 31, 1995)
(NOTE I)--NOTES PAYABLE:
In connection with the acquisition of PCLP (see Note C[2]), the Company
borrowed $1,000,000 from a group comprised principally of officers, directors
and affiliates of the Company. The interest on the Secured Promissory Notes
(the "Notes") is the prime rate plus 2.5% (11% at January 31, 1996 and 10.75%
at July 31, 1996) adjusted quarterly during the term of the Notes. The
interest on the Notes is payable quarterly but only to the extent that the net
after tax cash flow of Plymouth is sufficient to make such interest payment.
The Company has not paid interest on these Notes since the inception of the
Notes. At January 31, 1996 and July 31, 1996, the unpaid interest on these
Notes was $141,000 and $209,000, respectively, included in accrued expenses
and other current liabilities. The Notes are collateralized by the shares of
common stock of Plymouth. The Notes and unpaid interest, are to be paid on the
earlier of: (1) USE's receipt of not less than $1,000,000 in net proceeds from
the Company's next public offering of equity securities, or (2) USE's receipt
of an aggregate of not less than $4,000,000 in net proceeds from a private
debt financing of USE, or (3) October 31, 1997.
In conjunction with the issuance of these Notes, the Company granted to the
investors warrants to purchase 95,000 shares of the Company's common stock at
$16.00 per share before October 31, 1999. The Company, based on an independent
appraisal, valued the warrants issued at $46,000, which is being accounted for
as debt discount. In connection with the Company's Loans (Note G), the Company
was required to grant certain security interests in the Company's assets
including its ownership interest in Plymouth. In June 1995, in return for
granting the security interests, the Company granted the noteholders
additional warrants to purchase 19,000 shares of the Company's common stock
(the "Additional Warrants"). The Additional Warrants have the same terms as
those warrants initially granted to the noteholders. The Company, based on the
appraisal referred to above, valued the Additional Warrants issued at $9,500,
which is being accounted for as additional debt discount. In March 1996, as a
result of continuing negotiations between the parties that commenced when the
additional warrants were issued, the Company reduced the exercise price of the
warrants, including the additional warrants, from $16.00 per share to $5.00
per share. At that time, the market price of the Common Stock was $2.50 per
share. The effective interest rates at January 31, 1996 and January 31, 1995
are 13.60% and 10.72%, respectively.
(NOTE J)--STOCKHOLDERS' EQUITY:
[1]Preferred stock:
In June 1995, the Board of Directors designated 100,000 shares of preferred
stock as Series One Exchangeable and Convertible Preferred Stock ("Series One
Preferred Stock"). The holders of Series One Preferred Stock are entitled to
(i) convert to common stock equal to $10.00 per share of Series One Preferred
Stock divided by the conversion price, as defined, and subject to adjustments
for changes in capital stock, (ii) no voting rights except for certain
corporate actions, (iii) receive cumulative dividends equal to $1.00 per
share, (iv) liquidation preference of $10.00 per share plus any dividends
accrued and unpaid.
The Series One Preferred Stock is redeemable at the option of the Company at
a price of $10.00 per share, plus accrued and unpaid dividends, under certain
conditions, commencing the earlier of: (i) 3 years after the effective date of
the Proposed Public Offering or (ii) January 1, 1999. The Series One Preferred
Stock rank senior to all other equity securities of the Company including any
other series or classes of preferred stock with respect to dividend rights and
rights upon liquidation, winding up and dissolution.
In connection with the Company's Loans, the Company issued 57,500 shares of
Series One Preferred Stock which are convertible into 205,000 shares of common
stock. The Company estimated the fair value of these shares of Series One
Preferred Stock at approximately $29,000 and this amount is treated as a loan
discount which is being amortized over the life of the loan.
F-13
<PAGE>
U.S. ENERGY SYSTEMS, INC. AND SUBSIDIARIES
(FORMERLY U.S. ENVIROSYSTEMS, INC.)
NOTES TO FINANCIAL STATEMENTS--(CONTINUED)
(UNAUDITED WITH RESPECT TO JULY 31, 1996 AND JULY 31, 1995)
In calculating the net income per share, the net income (loss) available for
common stockholders during the period the 57,500 shares of Series One
Preferred Stock are converted into 205,000 shares of common stock will be
reduced by a nonrecurring amount of approximately $791,000 which represents
the excess of the fair value of the common stock transferred to the holders of
the preferred stock over the carrying amount of the preferred stock.
[2]Stock options:
Stock option activity is summarized as follows:
<TABLE>
<CAPTION>
SHARES OPTION PRICE EXPIRATION DATE
------- -------------- ---------------
(PER SHARE)
<S> <C> <C> <C>
Granted--year ended January 31, 1995. 20,100 $4.00 - $10.00 April 1999 -
January 2000
Granted--year ended January 31, 1996. 154,000 $4.00 - $ 8.00 January 2000 -
------- December 2000
Balance at January 31, 1996 and July
31, 1996
(174,100 exercisable at option
prices $4.00 to $10.00)............. 174,100
</TABLE>
During the year ended January 31, 1995 the Company recorded a compensation
charge of $46,000 in connection with the issuance of certain options in that
year.
[3]Common stock reserved:
The Company has reserved shares of common stock for issuance upon conversion
of the Debentures and exercise of warrants and options as follows:
(i) Convertible subordinated secured debentures (Note H)............ 100,000
(ii) Warrants issued in conjunction with notes payable (Note I)..... 114,000
(iii) Warrants issued in connection with consulting services.
Exercisable at $16.00 per share, expires October 31, 1999. In
connection therewith, the Company recorded a noncash charge
of $2,000, in 1995.............................................. 3,750
(iv) Stock options outstanding (Note J[2]).......................... 174,100
(v) Series One Preferred Stock (Note J[1]).......................... 205,000
In connection with the proposed transactions referred to in Note A, the
Company anticipates issuing warrants to purchase approximately 2,125,000
shares of common stock.
[4]Reorganization:
In February 1996, the shareholders approved a 1 for 40 reverse stock split,
effective May 6, 1996, which has been given retroactive effect in the
accompanying financial statements. All reference to shares and per share
amounts in the notes to financial statements have been adjusted to reflect the
reverse split.
(NOTE K)--COMMITMENTS AND CONTINGENCIES:
[1]The Company has employment agreements which expire through November 30,
1998 with two of its officers. The agreements provide for minimum annual
payments of $210,000 subject to upward adjustment at the discretion of the
Board of Directors.
F-14
<PAGE>
U.S. ENERGY SYSTEMS, INC. AND SUBSIDIARIES
(FORMERLY U.S. ENVIROSYSTEMS, INC.)
NOTES TO FINANCIAL STATEMENTS--(CONTINUED)
(UNAUDITED WITH RESPECT TO JULY 31, 1996 AND JULY 31, 1995)
[2]In October 1995, the Company entered into a consulting agreement with one
of the members of its Board of Directors for an unspecified period. The
consulting agreement provides for a $5,000 monthly consulting fee. The term of
the consulting agreement is subject to the approval of the Board of Directors.
[3]USE International, L.L.C. ("USE International"):
In May 1995, the Company entered into a Joint Venture agreement to form a
limited liability company, USE International, L.L.C. ("USE International").
USE International is owned 50% by the Company and 50% by Indus, LLC ("Indus").
USE International is managed by Indus. In connection with the agreement, the
Company sold 2,500 shares of its common stock, at market price, to Indus and
issued options to purchase 16,250 shares of the Company's common stock with an
exercise price of $8.00 per share and expiring five years after date of
issuance. The agreement also provides for the issuance of options to purchase
up to an additional 25,000 shares of the Company's common stock at a price per
share of $8.00. These options will be granted to Indus upon the signing of an
initial transaction, as defined, by USE International.
The Company has agreed to pay Indus a consulting fee of $6,000 per month.
The consulting arrangement has an initial term of one year and expires in May
1996. The Company has also agreed to indemnify, defend and hold Indus harmless
from all claims, losses, causes of action, liabilities, costs and expenses
(including attorney's fees) which may arise in connection with the business of
USE International.
The Company accounts for the investment in USE International under the
equity method. USE International was inactive during the year ended January
31, 1996 and the six-month period ended July 31, 1996.
(NOTE L)--RELATED PARTY TRANSACTIONS:
The Company borrowed from officers and an affiliate of a director
(collectively, the "Related Parties") $325,000 under the Debentures and
$775,000 under the Notes. In connection with the Notes, an affiliate of a
director was granted warrants to purchase 78,000 shares of the Company's
common stock at $16.00 per share before October 31, 1999. Included in deferred
interest at January 31, 1996 and July 31, 1996 is $12,000 due to the Related
Parties. In addition, at January 31, 1996 and July 31, 1996, $467,000 and
$707,000, respectively, of accrued expenses and other current liabilities is
due to the Related Parties.
During the year ended January 31, 1996 and 1995 and the six months ended
July 31, 1996 and 1995, the Company paid interest of $15,000, $22,000, $13,000
and $17,000, respectively, to the Related Parties.
F-15
<PAGE>
INDEPENDENT AUDITOR'S REPORT
General Partner
Far West Electric Energy Fund, L.P.
Salt Lake City, Utah
We have audited the balance sheet of Far West Electric Energy Fund, L.P. as
of December 31, 1995 and 1994, and the related statements of income, partners'
capital and cash flows for each of the three years in the period ended
December 31, 1995. These financial statements are the responsibility of the
Partnership's management. Our responsibility is to express an opinion on these
financial statements based on our audit.
We conducted our audit in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to
obtain reasonable assurance about whether the financial statements are free of
material misstatement. An audit includes examining, on a test basis, evidence
supporting the amounts and disclosures in the financial statements. An audit
also includes assessing the accounting principles used and significant
estimates made by management, as well as evaluating the overall financial
statement presentation. We believe that our audit provides a reasonable basis
for our opinion.
In our opinion, the financial statements referred to above present fairly,
in all material respects, the financial position of Far West Electric Energy
Fund, L.P. as of December 31, 1995 and 1994, and the results of its operations
and its cash flows for each of the three years in the period ended December
31, 1995, in conformity with generally accepted accounting principles.
Respectfully submitted,
/s/ ROBISON, HILL & CO.
----------------------------------
Certified Public Accountants
Salt Lake City, Utah
February 29, 1996
F-16
<PAGE>
FAR WEST ELECTRIC ENERGY FUND, L.P.
A DELAWARE LIMITED PARTNERSHIP
BALANCE SHEETS
<TABLE>
<CAPTION>
DECEMBER 31,
------------------------
SEPTEMBER 30,
1995 1994 1996
----------- ----------- -------------
(UNAUDITED)
<S> <C> <C> <C>
ASSETS
Utility Plant:
Plant in Service...................... $15,999,000 $18,716,000 $15,999,000
Equipment............................. 588,000 335,000 629,000
Construction in Progress.............. 118,000 118,000 118,000
Accumulated Depreciation.............. (5,377,000) (6,010,000) (5,859,000)
----------- ----------- -----------
Net Utility Plant.................... 11,328,000 13,159,000 10,887,000
Restricted Cash........................ 1,026,000 1,145,000 1,067,000
Other Assets........................... 106,000 124,000 93,000
Current Assets:
Cash and Cash Equivalents............. 263,000 278,000 207,000
Receivables--Trade.................... 399,000 437,000 271,000
Receivables--Other.................... 6,000 6,000 0
Receivable--Related Party............. 238,000 159,000 0
Prepaid Expenses...................... 4,000 12,000 16,000
----------- ----------- -----------
Total Current Assets................. 910,000 892,000 494,000
----------- ----------- -----------
Total Assets......................... $13,370,000 $15,320,000 $12,541,000
=========== =========== ===========
PARTNERS' CAPITAL AND LIABILITIES
Partners' Capital:
Limited Partners--10,306 units........ $ 5,148,000 $ 4,868,000 $ 5,340,000
General Partner--1 Percent............ (8,000) (11,000) (6,000)
----------- ----------- -----------
Total Partners' Capital.............. 5,140,000 4,857,000 $ 5,334,000
Other Liabilities...................... -- 150,000
Long-term Debt:
Notes Payable--Related Party.......... 188,000 230,000 152,000
Notes Payable......................... 537,000 -- 537,000
----------- ----------- -----------
Partners' Capital and Long-Term Liabil-
ities................................. 5,865,000 5,237,000 6,023,000
Current Liabilities:
Current Portion--Long-term Debt....... 4,563,000 7,140,000 3,911,000
Note Payable--Related Party........... 1,159,000 1,043,000 1,246,000
Payable-Related Party................. 671,000 573,000 274,000
Accrued Liabilities
Operations............................ 402,000 495,000 295,000
Royalties............................. 96,000 220,000 78,000
Interest.............................. 614,000 612,000 714,000
----------- ----------- -----------
Total Current Liabilities............ 7,505,000 10,083,000 6,518,000
----------- ----------- -----------
Total Partners' Capital and Liabili-
ties................................ $13,370,000 $15,320,000 $12,541,000
=========== =========== ===========
</TABLE>
See accompanying notes to the financial statements.
F-17
<PAGE>
FAR WEST ELECTRIC ENERGY FUND, L.P.
A DELAWARE LIMITED PARTNERSHIP
STATEMENTS OF INCOME
<TABLE>
<CAPTION>
NINE MONTHS ENDED
YEARS ENDED DECEMBER 31, SEPTEMBER 30,
---------------------------------- ------------------------
1995 1994 1993 1996 1995
---------- ---------- ---------- ----------- -----------
(UNAUDITED) (UNAUDITED)
<S> <C> <C> <C> <C> <C>
Revenues:
Electric Power Reve-
nues.................. $2,529,000 $2,728,000 $3,162,000 $2,043,000 $1,794,000
Other Revenues......... 145,000 151,000 622,000 111,000 110,000
---------- ---------- ---------- ---------- ----------
Total Revenues....... 2,674,000 2,879,000 3,784,000 2,154,000 1,904,000
---------- ---------- ---------- ---------- ----------
Expenses:
Operations............. 1,755,000 1,779,000 2,163,000 1,281,000 1,271,000
Bad Debt Expense....... -- -- 31,000 -- --
General and Administra-
tive:
Professional Services. 55,000 54,000 72,000 100,000 42,000
General Partners--Re-
lated Party.......... 98,000 123,000 223,000 78,000 95,000
---------- ---------- ---------- ---------- ----------
Total General and Ad-
ministrative........ 153,000 177,000 295,000 178,000 137,000
---------- ---------- ---------- ---------- ----------
Total Expenses....... 1,908,000 1,956,000 2,489,000 1,459,000 1,408,000
---------- ---------- ---------- ---------- ----------
Income From Opera-
tions............... 766,000 923,000 1,295,000 695,000 496,000
Other Income (Expense):
Interest Income........ 73,000 52,000 38,000 43,000 50,000
Interest Expense....... (744,000) (902,000) (806,000) (544,000) (924,000)
Loss on Sale of Proper-
ty.................... (170,000) -- -- -- (170,000)
---------- ---------- ---------- ---------- ----------
Net Other Expense.... (841,000) (850,000) (768,000) (501,000) (1,044,000)
---------- ---------- ---------- ---------- ----------
Net Income (Loss)
Before Extraordinary
Item............... (75,000) 73,000 527,000 194,000 (548,000)
Extraordinary Item--
Early Extinguishment
of Debt................ 358,000 -- 175,000 -- 358,000
---------- ---------- ---------- ---------- ----------
Net Income........... $ 283,000 $ 73,000 $ 702,000 $ 194,000 $ (190,000)
========== ========== ========== ========== ==========
Net Income Per Lim-
ited Partnership
Unit:
Income Before Ex-
traordinary Item... $ (7.28) $ 7.08 $ 51.14 $ 18.82 $ (53.17)
Extraordinary Item.. 34.74 -- 16.98 -- 34.74
---------- ---------- ---------- ---------- ----------
Net Income........... $ 27.46 $ 7.08 $ 68.12 $ 18.82 $ (18.43)
========== ========== ========== ========== ==========
</TABLE>
See accompanying notes to the financial statements.
F-18
<PAGE>
FAR WEST ELECTRIC ENERGY FUND, L.P.
A DELAWARE LIMITED PARTNERSHIP
STATEMENT OF PARTNERS' CAPITAL
FOR THE YEARS ENDED DECEMBER 31, 1995, 1994, AND 1993
AND THE NINE MONTHS ENDED SEPTEMBER 30, 1996 (UNAUDITED)
<TABLE>
<CAPTION>
GENERAL PARTNER LIMITED PARTNERS
------------------- -------------------
% INCOME NUMBER TOTAL
ALLOCATION AMOUNT OF UNITS AMOUNT AMOUNT
---------- -------- -------- ---------- ----------
<S> <C> <C> <C> <C> <C>
Balances at December 31,
1992................... 1 $(18,573) 10,306 $4,100,573 $4,082,000
Net Income.............. -- 7,020 -- 694,980 702,000
--- -------- ------ ---------- ----------
Balances at December 31,
1993................... 1 (11,553) 10,306 4,795,553 4,784,000
Net Income.............. -- 730 -- 72,270 73,000
--- -------- ------ ---------- ----------
Balances at December 31,
1994................... 1 $(10,823) 10,306 4,867,823 4,857,000
Net Income.............. -- 2,830 -- 280,170 283,000
--- -------- ------ ---------- ----------
Balances at December 31,
1995................... 1 $ (7,993) 10,306 $5,147,993 $5,140,000
Net Income (Unaudited).. -- 1,940 -- 192,060 194,000
--- -------- ------ ---------- ----------
Balances at September
30, 1996 (Unaudited)... 1 $ (6,053) 10,306 $5,340,053 $5,334,000
=== ======== ====== ========== ==========
</TABLE>
See accompanying notes to the financial statements.
F-19
<PAGE>
FAR WEST ELECTRIC ENERGY FUND, L.P.
A DELAWARE LIMITED PARTNERSHIP
STATEMENTS OF CASH FLOWS
INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS
<TABLE>
<CAPTION>
NINE MONTHS ENDED
YEARS ENDED DECEMBER 31, SEPTEMBER 30,
------------------------------ -----------------------
1995 1994 1993 1996 1995
-------- -------- ---------- ----------- -----------
(UNAUDITED) (UNAUDITED)
<S> <C> <C> <C> <C> <C>
CASH FLOWS FROM OPERAT-
ING ACTIVITIES:
Net Income (Loss)...... $283,000 $ 73,000 $ 702,000 $194,000 $(190,000)
Adjustments to Net In-
come (Loss):
Depreciation and Amor-
tization.............. 613,000 661,000 716,000 494,000 475,000
Loss on Sale of Proper-
ty.................... 170,000 -- -- -- 170,000
Extraordinary Item--
Early Extinguishment
of Debt............... (358,000) -- (175,000) -- (358,000)
(Increase) Decrease in
Receivables........... (41,000) (124,000) (59,000) 134,000 183,000
(Increase) Decrease in
Prepaid Insurance..... (1,000) -- (9,000) (12,000) (4,000)
(Increase) Decrease in
Other Assets.......... 18,000 18,000 18,000 13,000 14,000
Accrued Income Re-
stricted Cash......... (63,000) (43,000) (31,000) -- (49,000)
Increase (Decrease) in
Accrued Liabilities... 41,000 120,000 (234,000) (25,000) (24,000)
Increase (Decrease) in
Amount Due to
General Partner....... 98,000 100,000 214,000 (246,000) 369,000
-------- -------- ---------- -------- ---------
Total Adjustments..... 477,000 732,000 440,000 359,000 776,000
-------- -------- ---------- -------- ---------
Net Cash Provided by
Operating Activities.. 760,000 805,000 1,142,000 553,000 586,000
-------- -------- ---------- -------- ---------
CASH FLOWS FROM INVEST-
ING ACTIVITIES:
Cash Draws Restricted
Cash.................. 181,000 -- 207,000 119,000 182,000
Transfers to Restricted
Cash.................. -- -- (205,000) -- --
Capital Expenditures... (253,000) (139,000) (222,000) (41,000) (253,000)
Disposal of Plant and
Equipment............. -- -- -- -- --
-------- -------- ---------- -------- ---------
Net Cash Provided by
(Used) in Investing Ac-
tivities............... (72,000) (139,000) (220,000) 78,000 (71,000)
-------- -------- ---------- -------- ---------
CASH FLOWS FROM FINANC-
ING ACTIVITIES:
Principal Payments on
Long-Term Debt........ (815,000) (751,000) (1,109,000) (687,000) (600,000)
Proceeds From the Issu-
ance of Debt.......... 112,000 83,000 171,000 -- --
-------- -------- ---------- -------- ---------
Net Cash Provided by
(Used) in Financing
Activities............ (703,000) (668,000) (938,000) (687,000) (600,000)
-------- -------- ---------- -------- ---------
Increase (Decrease) in
Cash and Cash Equiva-
lents.................. (15,000) (2,000) (16,000) (56,000) (85,000)
Cash and Cash Equiva-
lents at Beginning of
Period................. 278,000 280,000 296,000 263,000 278,000
-------- -------- ---------- -------- ---------
Cash and Cash Equiva-
lents at End of Period. $263,000 $278,000 $ 280,000 $207,000 $ 193,000
======== ======== ========== ======== =========
SUPPLEMENTAL DISCLOSURE
OF CASH FLOW
INFORMATION:
Cash Paid During the
Period for Interest... $743,000 $727,000 $ 755,000 $411,000 $ 205,000
======== ======== ========== ======== =========
</TABLE>
NON-CASH ACTIVITIES:
The Partnership reduced a contract payable for the year ended December 31,
1993 by $13,000, and recognized income relating to option payments not made.
An extraordinary gain of $175,000 for the year ended December 31, 1993, was
recognized relating to the extinguishment and restructuring of debt and
accrued interest; see Note 4.
Notes payable and accrued interest were reduced and other income recognized
for the year ended December 31, 1993 in the amount of $424,000, relating to
offsets allowed under the performance guaranty on the Steamboat Springs
project; see Note 7.
The Partnership sold the Crystal Springs Project for $1,100,000 which was
paid directly to First Security Bank to pay down the note secured by the
Crystal Springs Project in accordance with the sales agreement dated February
28, 1995. In addition, the note referred to above was restructured as
described in Note 13. A net loss on the sale of $170,000 has been reported in
net income for December 31, 1995 as other income, and gain on early
extinguishment of debt of $358,000 has been reported as an extraordinary item
for December 31, 1995.
See accompanying notes to the financial statements.
F-20
<PAGE>
FAR WEST ELECTRIC ENERGY FUND, L.P.
A DELAWARE LIMITED PARTNERSHIP
NOTES TO FINANCIAL STATEMENTS
NOTE 1--SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
The following significant accounting policies are followed by Far West
Electric Energy Fund, L.P. in preparing and presenting the financial
statements, and are to assist the users in understanding the financial
statements.
ORGANIZATION
Far West electric Energy Fund L.P., a Delaware limited partnership (the
"Partnership"), was originally organized in September 1984 under the Uniform
Limited Partnership Act of Utah as Far West Hydroelectric Fund, Ltd. On
December 20, 1988, the Partnership changed its name to Far West Electric
Energy Fund, L.P. and changed its domicile to Delaware.
The Partnership owns a geothermal power plant, (the "Steamboat Springs
Plant") located in Nevada, and until March 16, 1995, owned a hydroelectric
plant located in Idaho (the "Crystal Springs Plant") which was sold to Crystal
Springs Hydroelectric, L.P., a Washington limited partnership pursuant to a
Purchase and Sale Agreement dated February 28, 1995.
UTILITY PLANT AND EQUIPMENT
Utility plants and equipment are carried at cost or adjusted cost (see Note
2). Fixed assets are depreciated over their estimated useful life (utility
plants--thirty years, equipment--five to ten years).
CASH EQUIVALENTS
For purposes of the statement of cash flows, the Partnership's policy is
that all investments with maturities of three months or less are considered
cash equivalents.
INCOME TAXES
No provision for income taxes has been made since the Partnership files
partnership return under provisions for federal and state tax laws. The assets
and liabilities of the Partnership for tax purposes are lower than the
financial statements for 1995 by $8,066,000 and $552,000; and for 1994 by
$11,154,000 and $2,208,000, respectively.
INCOME PER LIMITED PARTNERSHIP UNIT
The income per partnership unit on income before extraordinary item and on
net income is calculated on the weighted average units outstanding during the
year. The weighted average of units outstanding during 1995, 1994, and 1993
were 10,306.
RECLASSIFICATIONS
Certain amounts in 1994 and 1993 have been reclassified to conform with
financial statement presentations adopted in 1995.
UNAUDITED INTERIM PERIODS
The financial information presented as of September 30, 1996 and for the
nine-month periods ended September 30, 1996 and 1995 is unaudited, but in the
opinion of Management contains all adjustments (consisting only of normal
recurring adjustments) necessary for a fair representation of such financial
information. Results of operations for interim periods are not necessarily
indicative of those to be achieved for full fiscal years.
F-21
<PAGE>
FAR WEST ELECTRIC ENERGY FUND, L.P.
A DELAWARE LIMITED PARTNERSHIP
NOTES TO FINANCIAL STATEMENTS--(CONTINUED)
NOTE 2--UTILITY PLANT
Plant in service consists of the following at December 31, 1995 and 1994:
<TABLE>
<CAPTION>
ESTIMATED
1995 1994 USEFUL LIVES
----------- ----------- ------------
<S> <C> <C> <C>
Steamboat Springs Thermal Hydroelec-
tric Power Plant.................... $15,599,000 $15,599,000 30 Years
Expansion Pipeline................... 400,000 400,000 5 to 7 Years
Crystal Springs Hydroelectric Power
Plant............................... -- 4,738,000 30 Years
Valuation Allowance.................. -- (2,021,000)
----------- -----------
$15,999,000 $18,716,000
=========== ===========
</TABLE>
The valuation allowance relates to the Crystal Springs Hydroelectric Power
Project. The valuation allowance is a result of the rights to a purchase
option being waived and a decline in the value of the project.
NOTE 3--OTHER ASSETS
Other assets consist of the following at December 31, 1995 and 1994:
<TABLE>
<CAPTION>
1995 1994
-------- --------
<S> <C> <C>
Loan Origination Fees.................................... $183,000 $183,000
Organization Costs....................................... 65,000 65,000
Other Assets............................................. 35,000 35,000
Accumulated Amortization................................. (177,000) (159,000)
-------- --------
Total Other Assets..................................... $106,000 $124,000
======== ========
</TABLE>
The loan origination fees are being amortized on a straight-line basis over
the respective lives of the loans. Organization costs are amortized over a
five year period on a straight-line basis. Amortization was $18,000, $18,000,
$18,000 for the years ended December 31, 1995, 1994, and 1993, respectively.
NOTE 4--LONG-TERM DEBT--NOTES PAYABLE
Long-term debt as of December 31, 1995 and 1994 consists of the following:
<TABLE>
<CAPTION>
1995 1994
---------- ----------
<S> <C> <C>
Note Payable to Westinghouse Credit Corp. is in
default as of 10/23/92 and is immediately due and
payable. Note is secured by the Steamboat Springs
Project and all associated rights. Interest rate is
11.5%............................................... $4,563,000 $5,340,000
Note Payable to a bank was due and payable in full
originally on December 1, 1993, extended to
September 30, 1994 and has been modified due to the
sale of the Crystal Springs Project. The principal
amount owing after the modification is $537,000.
Interest is due in semiannual installments. With all
remaining principal and interest due 3/2/2000.
Interest rate is prime which was 8.75% at year end
(See Note 13--Sale of Crystal Springs Project)...... 537,000 1,800,000
---------- ----------
5,100,000 7,140,000
Less Current Installments Due........................ 4,563,000 7,140,000
---------- ----------
$ 537,000 $ --
========== ==========
</TABLE>
F-22
<PAGE>
FAR WEST ELECTRIC ENERGY FUND, L.P.
A DELAWARE LIMITED PARTNERSHIP
NOTES TO FINANCIAL STATEMENTS--(CONTINUED)
The aggregate maturities of long-term debt for each of the five years
subsequent to December 31, 1995 are as follows:
<TABLE>
<CAPTION>
YEAR ENDING
DECEMBER
31,
-----------
<S> <C>
1996......................................................... $ 4,563,000
1997......................................................... --
1998......................................................... --
1999......................................................... --
2000......................................................... 537,000
Thereafter................................................... --
-----------
$ 5,100,000
===========
</TABLE>
A note payable to Ormat, Inc. was extinguished in the amount of $175,000 in
December 1993. The extinguishment was a result of negotiations to settle
litigation on the performance guaranty. The principal note amount and related
accrued interest are shown as an extraordinary item in the statement of
operations for the year ended December 31, 1993.
During December 1992, a note payable to a bank was restructured resulting in
a reduction of principal amount, accrued interest, and a renegotiation of
terms. Interest payments relating to the reduced note were offset to accrued
interest payable. The total amount offset against accrued interest payable in
1994 was $26,000.
NOTE 5--RESTRICTED CASH
The Partnership is required to maintain an escrowed bank account as security
under the terms of the note payable to Westinghouse Credit Corp. with the note
payable balance as of December 31, 1995 of $4,563,000. The reserve account was
drawn down to $1,026,000 due to insufficient operating funds needed for plant
repairs of $188,000. The note is in default due to the reserve account being
drawn below required amounts. The reserve includes the initial deposit of
$1,000,000 and requires an additional $70,000 annually for the first seven
years, interest income is also retained in the reserve account. Disbursements
from the reserve account for principal and interest payments on the note are
allowed to the extent that there are insufficient funds in the Partnership's
operating accounts.
NOTE 6--NOTE PAYABLE-RELATED PARTY
The Partnership had notes payable to related parties for the years ended
December 31, 1995, and 1994 as follows:
<TABLE>
<CAPTION>
1995 1994
---------- ----------
<S> <C> <C>
Notes Payable to General Partner payable on demand,
unsecured. Interest rate is 13%...................... $1,117,000 $1,005,000
Note Payable to 1-A Enterprises, a partnership, due in
quarterly installments, including interest;
commencing April 16, 1990, remaining principal due
January 16, 2000; unsecured. Interest rate is 11%.... 230,000 268,000
---------- ----------
1,347,000 1,273,000
Less Current Installments Due......................... 1,159,000 1,043,000
---------- ----------
$ 188,000 $ 230,000
========== ==========
</TABLE>
F-23
<PAGE>
FAR WEST ELECTRIC ENERGY FUND, L.P.
A DELAWARE LIMITED PARTNERSHIP
NOTES TO FINANCIAL STATEMENTS--(CONTINUED)
NOTE 7--PURCHASE AND OPERATING AGREEMENTS
Steamboat Springs Thermal Hydroelectric Power Plant (Steamboat Springs)
Under the terms of the Steamboat Springs purchase agreement (the Agreement),
the Partnership is required to pay royalties to non-affiliated parties
aggregating 14.05 percent of annual gross revenues for the life of the project
plus an annual lump sum of $50,000 for the first ten years. As of December 31,
1995 all royalty obligations were current. For the years ended December 31,
1995, 1994, and 1993, royalty expense related to these commitments is as
follows:
<TABLE>
<CAPTION>
1995 1994 1993
-------- -------- --------
<S> <C> <C> <C>
Sierra Pacific Power Company (10%)................ $253,000 $257,000 $263,000
Benson Schwarzhoff & Helzel (3.888%).............. 98,000 99,000 102,000
Geothermal Development Associates ($50,000)....... 50,000 50,000 50,000
G. Martin Booth (.081%)........................... 2,000 2,000 2,000
Richard W. Harris (.081%)......................... 2,000 2,000 2,000
-------- -------- --------
Total............................................ $405,000 $410,000 $419,000
======== ======== ========
</TABLE>
As part of the Agreement, the original developer of Steamboat Springs (the
Developer) guaranteed annual net operating revenues, as defined (Net Operating
Revenues) of $2,000,000 for a period of ten years following the date of
commissioning, March 31, 1987 (the Guarantee). In 1993, the debt and related
performance guarantee with the original developer was extinguished. Pursuant
to the Guarantee and included in other revenues in the statements of income
for the years ended December 31, 1993, and 1992 are $424,000, and $387,000,
respectively. Pursuant to the contract and in accordance with FIN-39, amounts
due to the Partnership under the Guarantee are offset annually against a note
payable to the Developer, and the Bonneville corporation which subsequently
sold the project to the Partnership. The note payable to the developer and
Bonneville have been fully offset as of December 31, 1993. The following Table
summarizes these transactions:
<TABLE>
<CAPTION>
1993
----------
<S> <C>
Guaranteed Net Operating Revenues............................ $2,000,000
Net Operating Revenues....................................... 1,288,000
----------
Offset Available............................................. 712,000
Gross Debt Subject to Offset................................. 424,000
----------
Debt to be Offset in Future.................................. $ --
==========
</TABLE>
The Partnership is also required to pay the Developer annual royalties equal
to 50 percent of the first $100,000 over the guaranteed Net Operating Revenues
and 75 percent of amounts in excess of the $100,000 each year for the first
ten years following the date of commissioning. For years 11 through 20 after
commissioning, the royalty equals 30 percent of Net Operating Revenues;
principal debt service payments incurred to finance construction or operations
are not deducted in determining the revised net operating revenues (Revised
Net Operating Revenues). For years 21 inclusive and thereafter, the royalty is
equal to 50 percent of Revised Net Operating Revenues. As revenues have not
exceeded the guaranteed net operating revenues, no royalties have been earned
and no royalties have been paid pursuant with this commitment.
NOTE 8--RELATED PARTY TRANSACTIONS
Under the terms of the Partnership agreement, the general partner (Far West
Capital, Inc.) is allowed various fees and reimbursements of expenses incurred
to manage the Partnership. For each of the years in the three-year
F-24
<PAGE>
FAR WEST ELECTRIC ENERGY FUND, L.P.
A DELAWARE LIMITED PARTNERSHIP
NOTES TO FINANCIAL STATEMENTS--(CONTINUED)
period ended December 31, 1995, the Partnership expensed the following amounts
as cost reimbursements to the general partner:
<TABLE>
<CAPTION>
1995 1994 1993
------- -------- --------
<S> <C> <C> <C>
General and Administrative Expenses............... $98,000 $123,000 $223,000
</TABLE>
In addition, during the year ended December 31, 1993, the Partnership paid
$3,300 to a Utah partnership for private air transportation, in the ordinary
course of business, in lieu of commercial airfare. The general partners are
partners of the Utah Partnership.
As a term of the amended and restated Partnership agreement, the General
Partner is entitled to 5 percent of the limited partnership units (Units) as
compensation. Limited Partnership units for each of the three-year period
ended December 31, 1995 are as follows:
<TABLE>
<CAPTION>
1995 1994 1993
------ ------ ------
<S> <C> <C> <C>
General Partner......................................... 530 530 530
Limited Partners........................................ 9,776 9,776 9,776
------ ------ ------
Total................................................. 10,306 10,306 10,306
====== ====== ======
</TABLE>
During 1988, the Partnership assigned its rights to build an expansion unit
to Steamboat Springs to a Nevada general partnership owned mostly by Alan O.
Melchior and Thomas A. Quinn, officers and owners of the General Partner of
the Partnership. As consideration for the rights, the Nevada general
partnership deeded the Partnership rights and title to piping and valves
installed from Steamboat Springs to the expansion unit and agreed to pay the
Partnership royalties equaling 10 percent of net operating income from the
expansion for the years ended December 31, 1988 through 1992, 15 percent for
1993 through 1998, 40 percent for 1999 through 2010, 45 percent thereafter,
and an annual pumping charge. Included in other revenues in the statement of
operations for the years ended December 31, 1995, 1994 and 1993, are $145,000,
$144,000 and $135,000, respectively related to this agreement. As of December
31, 1994 and 1993, two of the general partners held a 75 percent ownership in
the Nevada general partnership.
During 1991, the Partnership assigned its 77% ownership in SB Geo, Inc. a
Utah Corporation, to Alan O. Melchior and Thomas A. Quinn, two of the officers
and owners of the General Partner of the Partnership. SB Geo, Inc. operates
the Partnership's Steamboat Springs Thermal Hydroelectric Power Plant and a
related expansion unit. At the time of the transfer, SB Geo, Inc. had no
assets and operated on a cost reimbursement basis. No gain or loss was
recognized as a result of the assignment.
NOTE 9--MAJOR CUSTOMER
The Partnership has contracted with Sierra Pacific Power Company to sell
electric energy from Steamboat Springs for a term of 20 years. The contract
entitles the Partnership to a rate of 71.7 mills per kilowatt hour for the
first 10 years and a variable amount related to the short-term cost of power
to Sierra Pacific Power Company for the second 10 years. Sales to Sierra
Pacific Power Company account for 100 percent of electric power sales. The
Partnership is dependent upon this customer for the purchase of all
electricity generated from this power plant.
F-25
<PAGE>
FAR WEST ELECTRIC ENERGY FUND, L.P.
A DELAWARE LIMITED PARTNERSHIP
NOTES TO FINANCIAL STATEMENTS--(CONTINUED)
NOTE 10--LITIGATION
ORMAT ARBITRATION
The arbitrators during 1993 made their award regarding the lawsuit against
Ormat alleging breach of contract on the Steamboat Springs project and Ormat's
counter-suit regarding the cancellation of the operating agreement. The
Partnership was awarded $188,000 in damages including a portion of previously
restricted cash. Ormat was awarded $255,000 for past fixed operating fees of
which the majority had been held in an escrow account.
Subsequent to the arbitrators award the Partnership and Ormat reached an
additional agreement which cancels the note payable to Ormat which was
previously offset by the performance guaranty.
BONNEVILLE PACIFIC CORPORATION BANKRUPTCY
The Partnership has filed a claim in the Chapter 11 filing of Bonneville
Pacific Corporation. The claim relates to fraud claims and other transactions
on the Crystal Springs project.
This claim is a general unsecured claim; it is unliquidated and contingent,
meaning that the amount of the claim has yet to be fixed in the bankruptcy
forum. It is estimated that the claim is no more than $100,000.00. There is no
economy for the partnership in attempting to resolve the amount of the claim
at this juncture, without certainty that Bonneville Pacific Corporation will
succeed in confirming a plan of reorganization, since general unsecured claims
cannot receive payment absent confirmation of a plan of reorganization. If and
when a plan of reorganization is confirmed, it is expected that, post-
confirmation, there will be a claims liquidation and resolution process,
during which the claim of the partnership will be fixed by the bankruptcy
court. The Chapter 11 reorganization proceeding of the Bonneville Pacific
Corporation has been ongoing for some years. It is a large and complex
proceeding. The success of the reorganization effort will turn in major part
upon complex litigation which the trustee in the case, Roger Segal, has
commenced against various parties in interest. Counsel for Mr. Segal, Vernon
Hopkinson, estimates at the present time that this litigation may be concluded
and a plan of reorganization proposed no earlier than year-end, 1997. As noted
above, payment on account of general unsecured claims cannot occur unless and
until a plan of reorganization is confirmed by the bankruptcy court. Mr.
Hopkinson estimates at the present time that the size of the dividend to
general unsecured creditors could be anywhere from 20 percent to payment in
full, depending upon the outcome of the aforementioned litigation.
NEVADA DEPARTMENT OF TRANSPORTATION
The Department of Transportation of the State of Nevada ("NDOT") commenced
action on 12/10/93 in the Second Judicial District Court of the State of
nevada in and for the County of Washoe against the Partnership and others to
obtain, for highway purposes, ownership of approximately 2.79 acres of the
property owned by Sierra Pacific Power Company ("SPPC") at the extreme north
of the land upon which the Steamboat Springs Plant is located pursuant to the
SPPC lease. The Court entered an Order for occupancy of the condemned property
on 12/29/93. The NDOT deposited the sum of $273,500 on 12/29/93; which remains
on deposit as of 12/31/95. The Partnership is defending the action insofar as
is necessary to protect a stand-by injection well located on the lease in the
proximity of the land being taken and a monitoring well in an adjacent area
which is being taken. It is presently negotiating a settlement which will
leave the stand-by injection well and the Partnership's rights in and use
thereof intact and available. The Partnership has constructed a new monitoring
well and is attempting to recover the cost thereof from the State. The
Partnership has an agreement in principle with the State relative to this
reimbursement, the cost of which is approximately $5,000. That sum will likely
be disbursed in May or June of 1996. The Partnership is also attempting to
obtain a portion of the $273,500
F-26
<PAGE>
FAR WEST ELECTRIC ENERGY FUND, L.P.
A DELAWARE LIMITED PARTNERSHIP
NOTES TO FINANCIAL STATEMENTS--(CONTINUED)
offered and deposited into Court by NDOT on 12/29/93 as compensation for the
taking. SPPC is claiming all of such funds as the owner of the land. The Court
has granted NDOT the right to possess and occupy the property while the amount
of compensation to be finally awarded is being contested. WCC, the
Partnership's principal creditor, has claimed that under the financing
agreements with respect to the Steamboat Springs and 1-A Plants, all funds
recovered from NDOT must be applied to reduce the principal balance of the
loans outstanding. The funds will not likely be disbursed until the fourth
quarter of 1996 or the first quarter of 1997, unless the Partnership, SPPC,
and WCC reach some settlement before that time.
NOTE 11--NOTE DEFAULTS
Due to insufficient funds being in restricted cash, the Partnership received
a notice of default as of 10/23/92 on a note to Westinghouse Credit Corp. The
balance as of December 31, 1995 and 1994 was $4,563,000 and $5,340,000,
respectively. Under the terms of the note all principal and interest is
immediately due and payable. The note is secured by the Steamboat Springs
project and related revenues and other assets.
The Partnership was in default on a note payable to a bank as of 9/30/94.
The balance as of December 31, 1994 and 1993 was $1,800,000. Due to the sale
of the Crystal Springs Project subsequent to December 31, 1994, this note has
been reduced to $537,000 (see Note 13) and is no longer in default.
NOTE 12--LIQUIDITY
As shown in the accompanying financial statements for the year ended
December 31, 1995, current liabilities exceeded current assets by $6,595,000.
Of this amount $4,563,000 relates to the note defaults described in Note 11.
NOTE 13--SALE OF CRYSTAL SPRINGS PROJECT
The Partnership signed an agreement dated February 28, 1995 to sell the
Crystal Springs project. The sale included all the assets and liabilities
associated with the Crystal Springs Project except the note payable to First
Security Bank which has been modified as follows:
Upon receipt of First Security (Lender) of a principal payment on the loan
in the amount of $1,100,000, the note was modified to provide that the
remaining principal balance owed shall be $537,000 and interest and costs
on the loan shall be deemed current.
If the note is paid in full within two years after the payment of
$1,100,000, the Lender will discount the principal amount owing by $100,000
(requiring a principal payment of only $437,000), and if paid within three
years, the Lender will discount the amount of the principal due by $50,000
(requiring a principal payment of only $487,000). There will be no discount
if paid after the third anniversary.
The modification has resulted in a gain on early extinguishment of debt of
$358,000.
The net loss on sale of the Crystal Springs Project of $170,000 has been
reported on the Statement of Income for the year ended December 31, 1995 as
Other Income.
At February 28, 1995, no amount was due on the $50,000 line of credit
acquired in 1992 for use in repair of certain items of equipment for the
Crystal springs Plant for start up operations in 1993.
F-27
<PAGE>
FAR WEST ELECTRIC ENERGY FUND, L.P.
A DELAWARE LIMITED PARTNERSHIP
NOTES TO FINANCIAL STATEMENTS--(CONTINUED)
The following pro forma statement of operations give effect to the above
events as if they had occurred on January 1, 1995:
PRO FORMA STATEMENT OF OPERATIONS
<TABLE>
<CAPTION>
PRO FORMA
AS REPORTED IN ADJUSTMENTS PRO FORMA
ACCOMPANYING FOR STATEMENT
FINANCIAL SUBSEQUENT OF
STATEMENTS EVENTS OPERATIONS
-------------- ----------- ----------
<S> <C> <C> <C>
REVENUES
Electric Power Sales................. $2,529,000 $ -- $2,529,000
Other Revenues....................... 145,000 -- 145,000
---------- ------- ----------
Total Revenues...................... 2,674,000 -- 2,674,000
---------- ------- ----------
EXPENSES
Interest, Net........................ 671,000 (16,000) (A) 655,000
Depreciation......................... 613,000 -- 613,000
Royalty.............................. 405,000 -- 405,000
Professional Services................ 54,000 (4,000) (A) 50,000
Administrative Services--General
Partner............................. 98,000 (38,000) (A) 60,000
Amortization......................... 18,000 -- 18,000
Insurance............................ 47,000 -- 47,000
Maintenance.......................... 583,000 (5,000) (A) 578,000
Taxes................................ 31,000 -- 31,000
Other................................ 59,000 (1,000) (A) 58,000
---------- ------- ----------
Total Expenses...................... 2,579,000 (64,000) 2,515,000
---------- ------- ----------
Net Income (Loss)................... $ 95,000 $64,000 $ 159,000
---------- ------- ----------
Net Income (Loss) Per Limited Part-
nership Unit....................... $ 9.22 $ 6.21 $ 15.43
========== ======= ==========
</TABLE>
A--Operating expenses attributable to Crystal Springs Project.
B--Accrued interest and expenses from January 1, 1995 through date of sale of
Crystal Springs Project.
NONRECURRING TRANSACTIONS
The same of the Crystal Springs Project has resulted in a loss of $170,000
and a gain on early extinguishment of debt of $358,000. These amounts are
reported in the statement of Income for December 31, 1995.
NOTE 14--SUBSEQUENT EVENTS
STEAMBOAT SPRINGS PROJECT
The Fund has received a cash offer to sell substantially all of the assets
of the Fund to U.S. Envirosystems, Inc. for $1,250,000. The sale would result
in the termination of the Fund and distribution of the proceeds to limited
partners of approximately $33 per limited partnership unit.
F-28
<PAGE>
INDEPENDENT AUDITOR'S REPORT
Partners
1-A Enterprises
Salt Lake City, Utah
We have audited the balance sheet of 1-A Enterprises as of December 31, 1995
and 1994, and the related statements of income, partners' capital and cash
flows for the years then ended. These financial statements are the
responsibility of the Partnership's management. Our responsibility is to
express an opinion on these financial statements based on our audit.
We conducted our audit in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to
obtain reasonable assurance about whether the financial statements are free of
material misstatement. An audit includes examining, on a test basis, evidence
supporting the amounts and disclosures in the financial statements. An audit
also includes assessing the accounting principles used and significant
estimates made by management, as well as evaluating the overall financial
statement presentation. We believe that our audit provides a reasonable basis
for our opinion.
In our opinion, the financial statements referred to above present fairly,
in all material respects, the financial position of 1-A Enterprises as of
December 31, 1995 and 1994, and the results of its operations and its cash
flows for the years then ended in conformity with generally accepted
accounting principles.
Respectfully submitted,
/s/ ROBISON, HILL & CO.
----------------------------------
Certified Public Accountants
Salt Lake City, Utah
March 5, 1996
F-29
<PAGE>
1-A ENTERPRISES
A NEVADA GENERAL PARTNERSHIP
BALANCE SHEETS
<TABLE>
<CAPTION>
DECEMBER 31,
----------------------
SEPTEMBER 30,
1995 1994 1996
---------- ---------- -------------
(UNAUDITED)
<S> <C> <C> <C>
ASSETS
Utility Plant:
Plant................................... $2,431,222 $2,431,222 $2,431,222
Development Costs....................... 450,000 450,000 450,000
Accumulated Depreciation................ (676,289) (580,248) (748,320)
---------- ---------- ----------
Net Utility Plant..................... 2,204,933 2,300,974 2,132,902
Restricted Assets:
Cash.................................... 80,626 76,157 82,367
Certificate of Deposit.................. 73,189 70,000 77,644
---------- ---------- ----------
Total Restricted Assets............... 153,815 146,157 160,011
Other Assets:............................ 32,145 40,181 26,118
Current Assets:
Cash and Cash Equivalents............... 80,428 98,642 83,063
Receivables--Trade...................... 98,539 98,600 145,215
Receivables--Other...................... 7,139 6,358 4,714
Receivable--Related Party............... 229,810 267,705 198,498
Prepaid Expenses........................ 1,679 1,348 4,164
---------- ---------- ----------
Total Current Assets.................. 417,595 472,653 435,654
---------- ---------- ----------
Total Assets.......................... $2,808,488 $2,959,965 $2,754,685
========== ========== ==========
PARTNERS' CAPITAL AND LIABILITIES
Partners' Capital........................ $ (293,083) $ (464,613) $ 127,407
Current Liabilities:
Note Payable--See Note 4................ 1,670,995 1,960,732 1,431,593
Note Payable--Related Party............. 728,970 728,970 503,970
Payable--Related Party.................. 358,574 435,193 319,932
Accrued Liabilities:
Operations............................. 3,120 5,767 4,820
Royalties.............................. 302,315 249,799 335,453
Interest............................... 37,597 44,117 31,510
---------- ---------- ----------
Total Current Liabilities............. 3,101,571 3,424,578 2,627,278
---------- ---------- ----------
Total Partners' Capital and Liabili-
ties................................. $2,808,488 $2,959,965 $2,754,685
========== ========== ==========
</TABLE>
The accompanying notes are an integral part of these financial statements.
F-30
<PAGE>
1-A ENTERPRISES
A NEVADA GENERAL PARTNERSHIP
STATEMENTS OF INCOME
<TABLE>
<CAPTION>
YEARS ENDED NINE MONTHS,
DECEMBER 31, ENDED SEPTEMBER 30,
------------------ -----------------------
1995 1994 1996 1995
-------- -------- ----------- -----------
(UNAUDITED) (UNAUDITED)
<S> <C> <C> <C> <C>
REVENUES:
Electric Power Revenues............ $875,356 $798,722 $711,178 $688,890
-------- -------- -------- --------
EXPENSES:
Operations......................... 536,756 545,336 409,075 454,914
General and Administrative:
Professional Services............. -- 1,481 3,057 8,232
Related party..................... 14,500 14,500 -- --
-------- -------- -------- --------
Total Expenses................... 551,256 561,317 412,132 463,146
-------- -------- -------- --------
Income From Operations........... 324,100 237,405 299,046 225,744
-------- -------- -------- --------
OTHER INCOME (EXPENSE):
Interest Income.................... 41,037 38,315 24,874 25,226
Interest Expense................... (202,477) (233,513) (128,606) (115,755)
-------- -------- -------- --------
Net other Expense................. (161,440) (195,198) (103,732) (90,529)
-------- -------- -------- --------
Net Income........................ $162,660 $ 42,207 $195,314 $135,215
======== ======== ======== ========
</TABLE>
The accompanying notes are an integral part of these financial statements.
F-31
<PAGE>
1-A ENTERPRISES
A NEVADA GENERAL PARTNERSHIP
STATEMENT OF PARTNERS' CAPITAL
FOR THE YEARS ENDED DECEMBER 31, 1995, AND 1994
AND THE NINE MONTHS ENDED SEPTEMBER 30, 1996 (UNAUDITED)
<TABLE>
<S> <C>
Balances at December 31, 1993....................................... $(510,835)
Contributions....................................................... 4,015
Net Income.......................................................... 42,207
---------
Balances at December 31, 1994....................................... (464,613)
Contributions....................................................... 8,870
Net Income.......................................................... 162,660
---------
Balances at December 31, 1995....................................... (293,083)
Contributions (Unaudited)........................................... 225,176
Net Income (Unaudited).............................................. 195,314
---------
Balances at September 30, 1996 (Unaudited).......................... $ 127,407
=========
</TABLE>
The accompanying notes are an integral part of these financial statements.
F-32
<PAGE>
1-A ENTERPRISES
A NEVADA GENERAL PARTNERSHIP
STATEMENTS OF CASH FLOWS
INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS
<TABLE>
<CAPTION>
YEARS ENDED NINE MONTHS
DECEMBER 31, ENDED SEPTEMBER 30,
------------------ -----------------------
1995 1994 1996 1995
-------- -------- ----------- -----------
(UNAUDITED) (UNAUDITED)
<S> <C> <C> <C> <C>
CASH FLOWS FROM OPERATING ACTIVI-
TIES:
Net Income (Loss).................. $162,660 $ 42,207 $195,314 $135,215
-------- -------- -------- --------
Adjustments to Net Income (Loss):
Depreciation and Amortization..... 104,078 104,078 78,058 78,058
(Increase) Decrease in Receiv-
ables............................ (721) (18,339) (44,254) (34,567)
(Increase) Decrease in Prepaid In-
surance.......................... (331) (678) (2,484) (2,850)
Accrued Interest Income Restricted
Assets........................... (7,658) (2,859) (6,196) (6,528)
Increase (Decrease) in Accrued Li-
abilities........................ 43,349 48,764 28,752 (32,968)
Increase (Decrease) in Amount Due
to Related Party................. (76,619) 147,519 (263,641) 26,376
-------- -------- -------- --------
Total Adjustments................ 62,098 278,486 (209,765) 27,521
-------- -------- -------- --------
Net Cash Provided by Operating Ac-
tivities......................... 224,758 320,693 (14,451) 162,736
-------- -------- -------- --------
CASH FLOWS FROM INVESTING ACTIVI-
TIES:
Principle Payments From Note Re-
ceivable Related Party........... 37,895 33,916 31,312 28,024
Investment in Certificate of De-
posit--Restricted................ -- (70,000) -- --
-------- -------- -------- --------
Net Cash Provided by (Used) in In-
vesting Activities............... 37,895 (36,084) 31,312 28,024
-------- -------- -------- --------
CASH FLOWS FROM FINANCING ACTIVI-
TIES:
Principal payments on Long-term
Debt.............................. (289,737) (259,310) (239,402) (214,262)
Proceeds from Partner Contribu-
tions............................. 8,870 4,015 225,176 7,941
-------- -------- -------- --------
Net Cash Provided by (Used) in Fi-
nancing Activities................ (280,867) (255,295) (14,226) (206,321)
-------- -------- -------- --------
Increase (Decrease) in Cash and
Cash Equivalents.................. (18,214) 29,314 2,635 (15,561)
Cash and Cash Equivalents at Begin-
ning of Year...................... 98,642 69,328 80,428 98,642
-------- -------- -------- --------
Cash and Cash Equivalents at End of
Year.............................. $ 80,428 $ 98,642 $ 83,063 $ 83,081
======== ======== ======== ========
SUPPLEMENTAL DISCLOSURE OF CASH
FLOW INFORMATION:
Cash Paid During the Year for In-
terest............................ $208,997 $239,346 $ 97,096 $115,755
======== ======== ======== ========
</TABLE>
The accompanying notes are an integral part of these statements.
F-33
<PAGE>
1-A ENTERPRISES
A NEVADA GENERAL PARTNERSHIP
NOTES TO FINANCIAL STATEMENTS
DECEMBER 31, 1995 AND 1994
NOTE 1--SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
The following significant accounting policies are followed by 1-A
Enterprises in preparing and presenting the financial statements, and are to
assist the users in understanding the financial statements.
ORGANIZATION
1-A Enterprises, a Nevada General partnership (the Partnership) was
organized in 1988 to acquire and operate electric generating plants.
UTILITY PLANT AND DEVELOPMENT COSTS
Utility plant and Development costs are carried at cost. Fixed assets are
depreciated over their estimated useful life (thirty years).
CASH EQUIVALENTS
For purposes of the statement of cash flows, the Partnership's policy is
that all investments with maturities of three months or less are considered
cash equivalents.
INCOME TAXES
No provision for income taxes has been made since the Partnership files
partnership return under provisions for federal and state tax laws. The assets
of the Partnership for tax purposes are lower than the financial statements
for 1995 and 1994 by $2,204,933 and $2,300,974 respectively.
UNAUDITED INTERIM PERIODS
The financial information presented as of September 30, 1996 and for the
nine-month periods ended September 30, 1996 and 1995 is unaudited, but in the
opinion of Management contains all adjustments (consisting only of normal
recurring adjustments) necessary for a fair representation of such financial
information. Results of operations for interim periods are not necessarily
indicative of those to be achieved for full fiscal years.
NOTE 2--RECEIVABLE RELATED PARTY
The Partnership had a note receivable from a related party for the year
ended December 31, 1995 and 1994 as follows:
<TABLE>
<CAPTION>
1995 1994
-------- --------
<S> <C> <C>
Note Receivable From Far West Electric Energy Fund, L.P.,
a Delaware Limited partnership, due in quarterly
installments, including interest; commencing April 16,
1990, remaining principle due January 16, 2000;
unsecured. Interest rate is 11%......................... $229,810 $267,705
======== ========
</TABLE>
NOTE 3--OTHER ASSETS
Other assets consist of the following at December 31, 1995 and 1994:
<TABLE>
<CAPTION>
1995 1994
-------- --------
<S> <C> <C>
Loan Origination Fees.................................... $ 80,363 $ 80,363
Accumulated Amortization................................. (48,218) (40,182)
-------- --------
Total Other Assets....................................... $ 32,145 $ 40,181
======== ========
</TABLE>
The loan origination fees are being amortized on a straight-line basis over
the life of the loan (ten years). Amortization was $8,036 and $8,036 for the
years ended December 31, 1995 and 1994, respectively.
F-34
<PAGE>
1-A ENTERPRISES
A NEVADA GENERAL PARTNERSHIP
NOTES TO FINANCIAL STATEMENTS--(CONTINUED)
DECEMBER 31, 1995 AND 1994
NOTE 4--LONG-TERM DEBT
Long-term debt as of December 31, 1995 and 1994 consists of the following:
<TABLE>
<CAPTION>
1995 1994
---------- ----------
<S> <C> <C>
Note Payable to a corporation is payable in quar-
terly installments, including interest, beginning
January 20, 1990. Note is secured by the Steamboat
1-A Project and all associated rights. Interest
rate is 11.25%..................................... $1,670,995 $1,960,732
Less Current Installments Due....................... 1,670,995 1,960,732
---------- ----------
$ -- $ --
========== ==========
</TABLE>
The aggregate maturities of long-term debt for each of the five years
subsequent to December 31, 1995 are as follows:
<TABLE>
<CAPTION>
YEAR ENDING DECEMBER 31,
------------------------
<S> <C>
1996........................................................ $1,670,995
1997........................................................ --
1998........................................................ --
1999........................................................ --
2000........................................................ --
Thereafter.................................................. --
----------
$1,670,995
==========
</TABLE>
NOTE 5--NOTE PAYABLE-RELATED PARTY
The Partnership had notes payable to related parties for the years ended
December 31, 1995 and 1994, as follows:
<TABLE>
<CAPTION>
1995 1994
-------- --------
<S> <C> <C>
Notes Payable to Far West Capital* payable on demand,
unsecured.
No interest accrued to date.............................. $728,970 $728,970
Less Current Installments Due............................. 728,970 728,970
-------- --------
$ -- $ --
======== ========
</TABLE>
*Two of the general partners of the Company are majority owners of Far West
Capital, Inc.
F-35
<PAGE>
1-A ENTERPRISES
A NEVADA GENERAL PARTNERSHIP
NOTES TO FINANCIAL STATEMENTS--(CONTINUED)
DECEMBER 31, 1995 AND 1994
NOTE 6--PURCHASE AND OPERATING AGREEMENTS
Under the terms of the amended purchase agreement (the Agreement), the
Partnership is required to pay royalties aggregating 29.05 percent of annual
gross revenues. For the years ended December 31, 1995, and 1994, royalty
expense related to these commitments is as follows:
<TABLE>
<CAPTION>
1995 1994
-------- --------
<S> <C> <C>
Sierra Pacific Power Company (10%)........................ $ 87,536 $ 79,872
Benson Schwarzhoff & Helzel (3.888%)...................... 34,034 31,054
Far West Electrical Energy Fund, L.P.(15%)................ 86,904 86,654
G. Martin Booth (.081%)................................... 709 647
Richard W. Harris (.081%)................................. 709 647
-------- --------
Total.................................................... $209,892 $198,874
======== ========
</TABLE>
NOTE 7--RESTRICTED ASSETS
The Partnership is required to maintain an escrowed bank account as security
under the terms of the note payable to a corporation with the notepayable
balance as of December 31, 1995 and 1994 of $1,670,995 and $1,960,732
respectively. The reserve required an initial deposit of $150,000 plus
interest income to be maintained in the account. The reserve was drawn down
due to insufficient operating funds to meet obligations. The balance in the
reserve as of December 31, 1995 and 1994 is $80,626 and $76,157 respectively.
Disbursements from the reserve account for obligations are allowed to the
extent that there are insufficient funds in the Partnership's operating
accounts. Funds are to be deposited into the reserve account as necessary to
replenish any disbursements for obligations as provided above. The note is in
default due to the reserve account being drawn down below required amounts.
The Company is required to pay a 10% royalty to Sierra Pacific Power Company
(SPPC). Under the agreement with SPPC, 4% is paid and 6% is accrued during the
first 6 years of operation. The date of initial operation was 10/29/88. During
the seventh and eighth years, the amount paid increases to 6% and 8% while the
amount accrued decreases to 4% and 2%, respectively. Beginning in years nine
through thirty, the full 10% is paid with no accrual. The accumulation of
accrued royalties pursuant to this agreement shall be paid in the eleventh
year of operation plus interest accrued monthly at an annual rate of 11.9%.
The Partnership is required to maintain an irrevocable letter of credit for
the benefit of SPPC in the amount of $70,000. The provisions of the letter of
credit provide that in the event of default by the Company, SPPC shall have
the right to draw upon the letter of credit to satisfy any amounts or portions
os such amounts owed to SPPC for the eleventh year payment amount and interest
accrued as of the date of default. The $70,000 has been invested by the
company in a certificate of deposit which had a balance of $73,189 and $70,000
as of December 31, 1995 and 1994, respectively.
NOTE 8--RELATED PARTY TRANSACTIONS
Amounts have been accrued for various fees and reimbursements of expenses
incurred by an affiliated company to manage the Partnership. For each of the
years in the two-year period ended December 31, 1995, the Partnership expensed
the following amounts as cost reimbursements to the affiliated company:
<TABLE>
<CAPTION>
1995 1994
------- -------
<S> <C> <C>
General and Administrative Expenses......................... $14,500 $14,500
</TABLE>
F-36
<PAGE>
1-A ENTERPRISES
A NEVADA GENERAL PARTNERSHIP
NOTES TO FINANCIAL STATEMENTS--(CONTINUED)
DECEMBER 31, 1995 AND 1994
During 1988, Far West Electric Energy Fund, L.P. assigned their rights to
build an expansion unit to Steamboat Springs to 1-A Enterprises. As
consideration for the rights, 1-A Enterprises deeded Far West Electric Energy
Fund, L.P., rights and title to piping and valves installed from Steamboat
Springs to the expansion unit and agreed to pay Far West Electric EnergyFund,
L.P. royalties equaling 10 percent of net operating income from the expansion
for the years ended December 31, 1988 through 1992, 15 percent for 1993
through 1998, 40 percent for 1999 through 2010, 45 percent thereafter, and an
annual pumping charge. Included in Operations Expense in the statement of
operations for the years ended December 31, 1995 and 1994, are $145,096, and
$144,000, respectively related to this agreement. As of December 31, 1995 and
1994, two of the general partners of Far West Electric Energy Fund, L.P. held
a 74 percent (1995) and 75 percent (1994) ownership in 1-A Enterprises.
The Partnership has entered into an Operating and Maintenance Agreement with
a related corporation to act as the operator of the project. This agreement
provides for operator to perform the duties of the operator including
operating and regular maintenance of the plant for a monthly fee and
additional fees for variable maintenance. The Partnership paid $142,745 for
the year ended December 31, 1995 and $169,120 for the year ended December 31,
1994.
NOTE 9--MAJOR CUSTOMER
The Partnership has contracted with Sierra Pacific Power Company to sell
electric energy from Steamboat Springs for a term of 20 years. The contract
entitles the Partnership to a rate of 71.7 mills per kilowatt hour for the
first 10 years and a variable amount related to the short-term cost of power
to Sierra Pacific Power Company for the second 10 years. Sales to Sierra
Pacific Power Company account for 100 percent of electric power sales. The
Partnership is dependent upon this customer for the purchase of all
electricity generated from this power plant.
NOTE 10--NOTE DEFAULTS
The Partnership is in default on a note payable to a corporation as of
October 1990 for reasons described in Note 4. The balance as of December 31,
1995 and 1994 is $1,670,995 and $1,960,732 respectively. Under the terms of
the note all principal and interest is immediately due and payable upon
request of the Lender. The note is secured by the 1-A project and related
revenued and other assets.
NOTE 11--LIQUIDITY
As shown in the accompanying financial statements for the year ended
December 31, 1995, current liabilities exceeded current assets by $2,683,976.
Of this amount $1,670,995 relates to the note defaults described in Note 9.
F-37
<PAGE>
REPORT OF INDEPENDENT AUDITORS
The Board of Directors
Lehi Independent Power Associates, L.C.
We have audited the accompanying balance sheets of Lehi Independent Power
Associates, L.C. as of December 31, 1995 and 1994 and the related statements
of operations, changes in members' equity and cash flows for the year ended
December 31, 1995 and the period January 24, 1994 (date of inception) through
December 31, 1994. These financial statements are the responsibility of the
Company's management. Our responsibility is to express an opinion on these
financial statements based on our audit.
We have conducted our audit in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to
obtain reasonable assurance about whether the financial statements are free of
material misstatement. An audit includes examining, on a test basis, evidence
supporting the amounts and disclosures in the financial statements. An audit
also includes assessing the accounting principles used and significant
estimates made by management, as well as evaluating the overall financial
statement presentation. We believe that our audit provides a reasonable basis
for our opinion.
In our opinion, the financial statements referred to above present fairly,
in all material respects, the financial position of Lehi Independent Power
Associates, L.C., as of December 31, 1995 and 1994, and the results of its
operations and its cash flows for year ended December 31, 1995 and the period
January 24, 1994 (date of inception) through December 31, 1994 in conformity
with generally accepted accounting principles.
March 19, 1996 /s/ Traveller Winn & Mower, P.C.
Salt Lake City, Utah
F-38
<PAGE>
LEHI INDEPENDENT POWER ASSOCIATES, L.C.
BALANCE SHEETS
<TABLE>
<CAPTION>
DECEMBER 31,
-----------------
JUNE 30,
1995 1994 1996
-------- -------- -----------
(UNAUDITED)
<S> <C> <C> <C>
ASSETS
Current assets:
Cash and cash equivalents....................... $ 41,460 $ 2,113 $ 7,305
Due from member................................. -- 3,335 --
Note receivable................................. 115,750 -- 113,750
Prepaid insurance............................... 853 -- 1,117
-------- -------- --------
Total current assets........................... 158,063 5,448 122,172
Property, plant and equipment, net............... 257,125 278,921 250,464
-------- -------- --------
Total assets................................... $415,188 $284,369 $372,636
======== ======== ========
LIABILITIES AND MEMBERS' EQUITY
Current liabilities:
Accounts payable................................ $ 4,873 $ 951 $ 34,329
Accrued expenses................................ 4,373 -- 373
Related party note payable...................... -- 3,440 --
-------- -------- --------
Total current liabilities...................... 9,246 4,391 34,702
Members' equity:
Member contributions............................ 292,662 292,662 292,662
Additional capital contributions................ 42,104 28,149 42,105
Retained earnings (deficit)..................... 71,176 (40,833) 3,167
-------- -------- --------
Total members' equity.......................... 405,942 279,978 337,934
-------- -------- --------
Total liabilities and members' equity............ $415,188 $284,369 $372,636
======== ======== ========
</TABLE>
See accompanying notes to financial statements.
F-39
<PAGE>
LEHI INDEPENDENT POWER ASSOCIATES, L.C.
STATEMENTS OF OPERATIONS
<TABLE>
<CAPTION>
FOR THE PERIOD
FOR THE JANUARY 24 FOR THE SIX MONTHS
YEAR ENDED THROUGH ENDED JUNE 30
DECEMBER 31, DECEMBER 31, -----------------------
1995 1994 1996 1995
------------ -------------- ----------- -----------
(UNAUDITED) (UNAUDITED)
<S> <C> <C> <C> <C>
INCOME:
Gain on sale of fixed
asset................. $236,194 $ -- $ -- $ --
EXPENSES:
General and administra-
tive.................. 49,195 27,092 61,347 16,925
Write-down of property,
plant and equipment... 14,990 13,741 6,661 7,495
-------- -------- -------- --------
Total expenses........ 64,185 40,833 68,008 24,420
-------- -------- -------- --------
Net income (loss)....... $172,009 $(40,833) $(68,008) $(24,420)
======== ======== ======== ========
</TABLE>
See accompanying notes to financial statements.
F-40
<PAGE>
LEHI INDEPENDENT POWER ASSOCIATES, L.C.
STATEMENT OF CHANGES IN MEMBERS' EQUITY
FOR THE YEAR ENDED DECEMBER 31, 1995 AND THE PERIOD
JANUARY 24, 1994 (DATE OF INCEPTION) THROUGH DECEMBER 31, 1994
<TABLE>
<CAPTION>
ADDITIONAL RETAINED TOTAL
MEMBER CAPITAL EARNINGS MEMBERS'
CONTRIBUTIONS CONTRIBUTIONS (DEFICIT) EQUITY
------------- ------------- --------- --------
<S> <C> <C> <C> <C>
Balance January 24, 1995....... $ -- $ -- $ -- $ --
Members contributions.......... 292,662 28,149 -- 320,811
Net loss....................... -- -- (40,833) (40,833)
-------- ------- ------- --------
Balance December 31, 1994...... 292,662 28,149 (40,833) 279,978
Members contributions--Suma,
Corp.......................... -- 3,489 -- 3,489
Members contributions--Far West
Capital, Inc.................. -- 3,489 -- 3,489
Members contributions--Lehi
Envirosystems, Inc............ -- 6,977 -- 6,977
Members distribution--Suma
Corp.......................... -- -- (15,000) (15,000)
Members distribution--Far West
Capital, Inc.................. -- -- (15,000) (15,000)
Members distribution--Lehi
Envirosystems, Inc............ -- -- (30,000) (30,000)
Net income..................... -- -- 172,009 172,009
-------- ------- ------- --------
Balance December 31, 1995...... 292,662 42,104 71,176 405,942
-------- -------
Net (Loss) (Unaudited)......... (68,008) (68,008)
------- --------
Balance June 30, 1996 (Unau-
dited)........................ $292,662 $42,104 $ 3,168 $337,934
======== ======= ======= ========
</TABLE>
See accompanying notes to financial statements.
F-41
<PAGE>
LEHI INDEPENDENT POWER ASSOCIATES, L.C.
STATEMENTS OF CASH FLOWS
<TABLE>
<CAPTION>
FOR THE YEAR FOR THE PERIOD FOR THE SIX MONTHS
ENDED ENDED ENDED JUNE 30,
DECEMBER 31, DECEMBER 31, -----------------------
1995 1994 1996 1995
------------ -------------- ----------- -----------
(UNAUDITED) (UNAUDITED)
<S> <C> <C> <C> <C>
CASH FLOWS FROM OPERATING
ACTIVITIES:
Net income (loss)......... $172,009 $(40,833) $(68,008) $(24,240)
Adjustment to reconcile
net income to net cash
provided by operating
activities:
Write-down of property,
plant and equipment...... 14,990 13,741 6,661 7,495
Gain on sale of equipment. (236,194) -- -- --
Changes in assets and lia-
bilities................. -- -- -- --
Prepaid insurance......... (853) -- (264) 1,036
Note Receivable........... -- -- 2,000 --
Accounts payable.......... 3,922 951 29,456 9,943
Accrued expenses.......... 4,373 -- (4,000) --
-------- -------- -------- --------
Net cash (used) by operat-
ing activities........... (41,753) (26,141) (34,155) (8,018)
Cash flows from investing
activities:
Proceeds from sale of
equipment................ 127,250 -- -- --
Cash flows from financing
activities:
Net payment and proceeds
from collection of due
from member............. 3,335 (3,335) -- 1,245
Net payment and proceeds
of related party note
payable................. (3,440) 3,440 -- (3,440)
Additional capital con-
tributions.............. 13,955 28,149 -- 10,705
Members' distribution.... (60,000) -- -- --
-------- -------- -------- --------
Net cash provided (used)
by financing activities.. (46,150) 28,254 -- 8,510
-------- -------- -------- --------
Net increase in cash and
cash equivalents......... 39,347 2,113 (34,155) 492
Cash and cash equivalents
at beginning of period... 2,113 -- 41,460 2,113
-------- -------- -------- --------
Cash and cash equivalents
at end of period......... $ 41,460 $ 2,113 $ 7,305 $ 2,605
======== ======== ======== ========
</TABLE>
SUPPLEMENTAL CASH FLOW INFORMATION
Interest paid by the Company during 1995 was $415.
SUPPLEMENTAL SCHEDULE OF NON-CASH INVESTING AND FINANCING ACTIVITIES
During the period ended December 31, 1994, the members of the Company
contributed property and equipment with a cost of $292,662.
During the year ended December 31, 1995, the Company sold equipment for
$243,000. The Company received $127,250 in proceeds and a note receivable for
$115,750.
See accompanying notes to financial statements.
F-42
<PAGE>
LEHI INDEPENDENT POWER ASSOCIATES, L.C.
NOTES TO FINANCIAL STATEMENTS
DECEMBER 31, 1995 AND 1994
NOTE 1--ORGANIZATION AND SIGNIFICANT ACCOUNTING POLICIES
ORGANIZATION
Lehi Independent Power Associates, L.C.(the Company) is a Utah based company
organized on January 24, 1994. The Company's principal business is to
purchase, develop, own, operate and/or sell all or a portion of a power
generation facility which produces electrical energy located in Lehi, Utah.
The members and their respective ownership percentages are as follows: Lehi
Envirosystems, Inc., 50 %; Far West Capital, Inc., 25%; and Suma Corp., 25%.
All revenues and expenses are shared in the same proportion as each members'
ownership percentage.
CASH AND CASH EQUIVALENTS
The Company considers all cash on deposit and short-term liquid investments
with original maturities of three months or less to be cash equivalents.
PROPERTY, PLANT AND EQUIPMENT
Property, plant and equipment consists of land, a power generation plant and
plant equipment and is recorded at cost. The plant is currently not in
operation. The plant and plant equipment are depreciated on the straight-line
method over useful lives of 29 and 6 years, respectively.
INCOME TAXES
No provision for federal income tax is made since the Company is treated as
a partnership for tax purposes and as such is not a taxable entity under the
federal income tax provisions. The individual members are taxed on their
proportionate share of members' income or loss.
NOTE 2--DUE FROM MEMBER
At December 31, 1994, the Company had capital contributions receivable from
Lehi Envirosystems, Inc., for $3,335. This represents required contributions
to maintain the proportionate sharing of expenses as stipulated in the
operating agreement. This amount was received in 1995.
NOTE 3--PROPERTY, PLANT AND EQUIPMENT
Property, plant and equipment is stated at cost and consisted of the
following at December 31:
<TABLE>
<CAPTION>
1995 1994
-------- --------
<S> <C> <C>
Land..................................................... $ 13,000 $ 13,000
Building................................................. 239,216 239,216
Plant equipment.......................................... 30,446 40,446
-------- --------
282,662 292,662
Write-down of property, plant and equipment............. (25,537) (13,741)
-------- --------
$257,125 $278,921
======== ========
</TABLE>
F-43
<PAGE>
LEHI INDEPENDENT POWER ASSOCIATES, L.C.
NOTES TO FINANCIAL STATEMENTS--(CONTINUED)
DECEMBER 31, 1995 AND 1994
During the periods in which the property, plant and equipment is not in
operation, management has reviewed the assets to determine their realization.
Based on this review, management has written-down the property, plant and
equipment for the year and period ended December 31, 1995 and 1994, $14,990
and $13,741, respectively.
NOTE 4--RELATED PARTY TRANSACTIONS
The Company receives accounting services from a related company's accounting
department. The services provided are billed at $40 an hour and average
approximately $160 a month.
The related party note payable is due on demand and carries no interest
rate.
NOTE 5--COMMITMENTS AND CONTINGENCIES
The Company is in communication with the Utah State Department of Water
Quality with respect to traces of petroleum products found in a ground water
discharge ditch which exits the plant property. Based on those communications,
the State is reviewing what, if any, additional action may be required. Also,
the United States Environmental Protection Agency (EPA) has reviewed the data
on the discharge and has concluded that no violation of EPA Rules and Laws
have occurred. In Management's opinion, the potential impact to the financial
statements would not exceed $45,000.
NOTE 6--GOING CONCERN
The Company's primary asset consists of a power generation facility that is
currently idle. Consistent with its preference to operate the facility, the
Company has thus far declined to accept several offers to liquidate the
facility for amounts significantly in excess of the facility's recorded net
book value. The Company continues to pursue a financially feasible power
purchase contract which when executed would result in the commencement of
operations.
The members of the Company have committed to continue to fund necessary
costs associated with holding and maintaining the power plant through December
31, 1996 in the event that the power plant does not begin operations or is
otherwise unable to generate revenues sufficient to fund operating and holding
costs.
F-44
<PAGE>
REPORT OF INDEPENDENT ACCOUNTANTS
To the Partners of Plymouth Cogeneration Limited Partnership
In our opinion, the accompanying balance sheets and the related statements
of operations, changes in partners' capital and cash flows present fairly, in
all material respects, the financial position of Plymouth Cogeneration Limited
Partnership at December 31, 1995 and 1994, and the results of their operations
and their cash flows for the year ended December 31, 1995, in conformity with
generally accepted accounting principles. These financial statements are the
responsibility of the Partnership's management; our responsibility is to
express an opinion on these financial statements based on our audits. We
conducted our audits of these statements in accordance with generally accepted
auditing standards which 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, assessing
the accounting principles used and significant estimates made by management,
and evaluating the overall financial statement presentation. We believe that
our audits provide a reasonable basis for the opinion expressed above.
/s/ Price Waterhouse LLP
February 27, 1996
Hartford, Connecticut
F-45
<PAGE>
PLYMOUTH COGENERATION LIMITED PARTNERSHIP
BALANCE SHEETS
<TABLE>
<CAPTION>
DECEMBER 31,
---------------------
JUNE 30,
1995 1994 1996
---------- ---------- -----------
(UNAUDITED)
<S> <C> <C> <C>
ASSETS
Current assets:
Cash and cash equivalents................... $ 15,944 $ 8,233 $ 65,481
Accounts receivable......................... 90,865 76,881 89,394
Prepaid expenses............................ 18,087 14,198 47
Restricted cash............................. 33,773 619,820 33,707
---------- ---------- ----------
Total current assets....................... 158,669 719,132 188,629
---------- ---------- ----------
Plant, at cost............................... 5,888,172 5,882,464 5,893,333
Less: accumulated depreciation............... 295,411 -- 443,289
---------- ---------- ----------
5,592,761 5,882,464 5,450,044
---------- ---------- ----------
Debt service reserve......................... 497,085 500,020 496,717
Deferred financing costs, less accumulated
amortization of
$8,141 in 1995.............................. 154,683 162,824 150,613
Rent receivable.............................. 176,184 -- 228,468
---------- ---------- ----------
Total assets............................... $6,579,382 $7,264,440 $6,514,471
========== ========== ==========
LIABILITIES AND PARTNERS' CAPITAL
Current liabilities:
Note payable--general contractor (Note 2)... $ -- $ 586,000 $ --
Accounts payable and accrued expenses....... 262,013 286,917 257,600
Deferred revenue............................ 81,127 74,806 81,127
---------- ---------- ----------
Total current liabilities.................. 343,140 947,723 338,727
---------- ---------- ----------
Long-term debt, net of discount (Note 3)..... 4,987,181 4,980,717 4,990,413
---------- ---------- ----------
Partners capital:
General partners............................ 180,599 193,639 171,039
Limited partners............................ 1,068,462 1,142,361 1,014,292
---------- ---------- ----------
Total partners' capital.................... 1,249,061 1,336,000 1,185,331
---------- ---------- ----------
Total liabilities and partners' capital.... $6,579,382 $7,264,440 $6,514,471
========== ========== ==========
</TABLE>
The accompanying notes are an integral part of these financial statements.
F-46
<PAGE>
PLYMOUTH COGENERATION LIMITED PARTNERSHIP
STATEMENT OF OPERATIONS
<TABLE>
<CAPTION>
FOR THE SIX MONTHS
FOR THE YEAR ENDED
ENDED JUNE 30,
DECEMBER 31, -----------------------
1995 1996 1995
------------ ----------- -----------
(UNAUDITED) (UNAUDITED)
<S> <C> <C> <C>
REVENUES
Facility lease............................ $ 598,968 $ 299,484 $ 299,484
Management services....................... 551,461 278,642 270,979
---------- --------- ---------
Total revenues.......................... 1,150,429 578,126 570,463
---------- --------- ---------
OPERATING EXPENSES
Operating and maintenance................. 426,948 222,310 212,298
Depreciation and amortization............. 303,552 151,948 152,575
General and administrative................ 149,830 85,111 75,045
---------- --------- ---------
Total operating expenses................ 880,330 459,369 439,918
---------- --------- ---------
Income before interest income and ex-
pense.................................. 270,099 118,757 130,545
---------- --------- ---------
INTEREST INCOME AND EXPENSE
Interest expense.......................... (403,736) (201,919) (201,110)
Interest income........................... 46,698 19,432 26,893
---------- --------- ---------
(357,038) (182,487) (174,217)
---------- --------- ---------
Net loss................................ $ (86,939) $ (63,730) $ (43,672)
========== ========= =========
</TABLE>
The accompanying notes are an integral part of these financial statements.
F-47
<PAGE>
PLYMOUTH COGENERATION LIMITED PARTNERSHIP
STATEMENT OF CHANGES IN PARTNERS' CAPITAL
<TABLE>
<CAPTION>
PARTNERS' CAPITAL PARTNERS' CAPITAL PARTNERS' CAPITAL
DECEMBER 31, DECEMBER 31, JUNE 30,
1994 NET LOSS 1995 NET LOSS 1996
----------------- -------- ----------------- ----------- -----------------
(UNAUDITED) (UNAUDITED)
<S> <C> <C> <C> <C> <C>
General Partners........ $ 193,639 $(13,040) $ 180,599 $ (9,560) $ 171,039
Limited Partners........ 1,142,361 (73,899) 1,068,462 (54,170) 1,014,292
---------- -------- ---------- -------- ----------
$1,336,000 $(86,939) $1,249,061 $(63,730) $1,185,331
========== ======== ========== ======== ==========
</TABLE>
The accompanying notes are an integral part of these financial statements.
F-48
<PAGE>
PLYMOUTH COGENERATION LIMITED PARTNERSHIP
STATEMENT OF CASH FLOWS
<TABLE>
<CAPTION>
FOR THE
FOR THE YEAR SIX MONTHS
ENDED ENDED JUNE 30,
DECEMBER 31, ----------------------
1995 1996 1995
------------ ---------- ----------
(UNAUDITED) (UNAUDITED)
<S> <C> <C> <C>
CASH FLOWS FROM OPERATING ACTIVITIES
Net loss................................. $(86,939) $(63,730) $ (43,672)
Adjustments to reconcile net loss to net
cash from operating activities:
Depreciation and amortization........... 303,552 151,948 152,575
Bond discount amortization.............. 6,464 3,232 3,232
Changes in assets and liabilities:
Accounts receivable..................... (13,984) 1,471 (6,909)
Prepaid expenses........................ (3,889) 18,040 1,458
Transfer from restricted cash........... 47 66 --
Rent receivable......................... (176,184) (52,284) (88,092)
Accounts payable and accrued expenses... (24,904) (4,413) (19,983)
Deferred revenue........................ 6,321 -- --
-------- -------- ---------
Net cash provided (used) by operating
activities............................ 10,484 54,330 (1,391)
-------- -------- ---------
CASH FLOWS FROM INVESTING ACTIVITIES
Expenditures for plant................... (5,708) (5,161) --
Use of restricted cash................... 586,000 -- 226,241
-------- -------- ---------
Net cash provided (used) by investing ac-
tivities................................ 580,292 (5,161) 226,241
-------- -------- ---------
CASH FLOWS FROM FINANCING ACTIVITIES
Payment out of debt service reserve...... 2,935 368 10
Payment of note payable.................. (586,000) -- (230,959)
-------- -------- ---------
Net cash (used) provided by financing
activities............................ (583,065) 368 (230,949)
-------- -------- ---------
Net increase (decrease) in cash and
cash equivalents...................... 7,711 49,537 (6,099)
Cash and cash equivalents, beginning...... 8,233 15,944 8,233
-------- -------- ---------
Cash and cash equivalents, ending......... $ 15,944 $ 65,481 $ 2,134
======== ======== =========
SUPPLEMENTAL DISCLOSURES
Interest paid............................ $421,305 $198,012 $ 198,013
======== ======== =========
</TABLE>
The accompanying notes are an integral part of these financial statements.
F-49
<PAGE>
PLYMOUTH COGENERATION LIMITED PARTNERSHIP
NOTES TO FINANCIAL STATEMENTS
NOTE 1--SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
ORGANIZATION
On June 25, 1992, IEC Plymouth, Inc. ("IEC" or "General Partner"), a
Connecticut Corporation, and Central Hudson Cogeneration Incorporated, a New
York Corporation ("Cencogen"), a wholly-owned subsidiary of Central Hudson Gas
& Electric Corporation, a New York Corporation, formed a limited partnership
under the State of New Hampshire Statutes, Plymouth Cogeneration Limited
Partnership (the "Partnership"), to construct, own and operate a 1.25 MW
cogeneration facility (the "Facility") and provide electricity and steam to
Plymouth State College (the "Site") in Plymouth, New Hampshire. On May 11,
1993, IEC and Cencogen agreed to admit PSC Cogeneration Limited Partnership
("PSC" or "General Partner"), a Connecticut limited partnership and IEC
affiliate, replacing IEC. On November 1, 1994, PSC and Cencogen agreed to
admit Plymouth Envirosystems, Inc. ("Envirosystems" or "General Partner"), a
Delaware corporation, a wholly-owned subsidiary of U.S. Envirosystems, Inc., a
Delaware corporation. The Limited Partnership Agreement, as amended, expires
November 2024.
The Limited Partnership Agreement provides that profits, losses and
distributable cash for financial reporting and income tax purposes are
allocated in accordance with the ownership interests of the partners.
At December 31, 1995 and 1994, PSC's ownership consisted of a 10% managing
general partner and 17.5% limited partner interest, Cencogen's ownership
consisted of a 32.5% limited partner interest and Envirosystems ownership
consisted of a 5% general partner and 35% limited partner interest.
On June 1, 1993, the Partnership entered into an Agreement of Site Lease
("Site Lease") with the University System of New Hampshire (the "University
System"). The Site Lease provides that the University System will lease to the
Partnership a parcel of land at the Site on which to construct the Facility.
The Site Lease expires upon expiration of the Management Services Agreement
(2015).
REVENUES
On June 1, 1993, the Partnership entered into an Agreement of Facility Lease
("Facility Lease") with the University System. The Facility Lease provides
that the Partnership will lease the Facility to the University System for the
supply of thermal and electric energy to the Site for a defined rental stream
which escalates over the life of the lease, or 20 years. Upon expiration of
the Facility Lease (2015), the Partnership must convey title and all personal
property at the Facility to the University System, free and clear of
encumbrances. The Facility Lease includes an escape clause which provides for
the University System to terminate the agreement without penalty in the event
that the State of New Hampshire does not appropriate funds for the payment of
the Facility Lease.
On June 1, 1993, the Partnership entered into a Management Services
Agreement ("MSA") with the University System. The MSA provides that the
Partnership will operate and maintain the Facility for the benefit of the
University System during the term of the MSA for a defined monthly management
service fee, and a 1.1 cent per kwh operation and maintenance fee over the
life of the MSA (20 years). The MSA commenced on the in-service date of the
Facility and expires in the year 2015. The Facility was deemed in-service
January 1, 1995.
Under the terms of Facility Lease and MSA, the Partnership is required to
provide significant services through-out the life of the agreements. As a
result, the Facility Lease is being accounted for as an operating lease. Lease
revenues are recognized in accordance with Financial Accounting Standards
Board Technical Bulletin No. 85-3, which requires that operating lease
revenues be recognized on the straight-line basis over the life of the lease.
Accordingly, while annual rent receipts escalate each year, approximately
598,968 of facility
F-50
<PAGE>
PLYMOUTH COGENERATION LIMITED PARTNERSHIP
NOTES TO FINANCIAL STATEMENTS--(CONTINUED)
lease revenue will be recognized by the Partnership annually. Management
service fees and operation and maintenance fees are recognized as earned over
the life of the MSA.
Since Facility Lease revenues are being recognized on a straight-line basis,
the Partnership has recognized as a long-term asset, Rent receivable, at
December 31, 1995, which represents the excess of revenues recognized over
cash payments received.
At December 31, 1995 and 1994, the Partnership had deferred revenues of
$81,127 and $74,806 which represents management service fees and lease
revenues billed in advance.
RESULTS OF OPERATIONS AND MANAGEMENT PLANS
While the Partnership incurred a net loss in 1995, management believes that
its cash flows, including scheduled escalating rent receipts under the
Facility Lease, will be sufficient to meet both its future operating expenses
and debt service requirements, including sinking fund installments.
PLANT
Plant represents cost of the Facility which is being leased to the
University System under the Facility Lease. The Partnership placed the
Facility in-service January 1, 1995. During 1994, the University System's
operating permits necessary to operate its existing boilerhouse expired, at
which time the Partnership agreed to operate the Facility, while still under
construction. As of December 31, 1994, lease revenues of $210,636, management
service fees of $217,939, and operation and maintenance fees of $40,945 were
earned during the construction period; as a result of Facility start-up prior
to substantial completion and in-service date. The above revenues earned
during construction and related operating and start-up expenses ($417,743)
were netted against Plant ($51,777). In accordance with the facility lease,
the Partnership is responsible for all maintenance and equipment repair.
DEPRECIATION
Depreciation is provided on a straight-line basis. The useful life of the
plant is estimated to be twenty years.
INCOME TAXES
The Partnership is not subject to federal or state income taxes. Each
partner is required to report on its federal and, as required, state income
tax return its distributive share of the Partnership's income, gains, losses,
deductions and credits for the taxable year of the Partnership ending within
or with its taxable year. Accordingly, there is no provision for income taxes
in the accompanying financial statements.
FAIR VALUE OF FINANCIAL INSTRUMENTS
The carrying amounts reflected in the balance sheet for cash and cash
equivalents, accounts receivable, restricted cash, debt service reserve,
accounts payable and accrued expenses approximate their respective fair values
because of the short maturity of these items.
It was not practicable to estimate the fair value of the $5.11 million,
7.75% State of New Hampshire Electric Facility Revenue Bonds without the
Partnership incurring excessive costs. The note is secured by a first mortgage
in the Facility with a maturity date of June 1, 2014.
F-51
<PAGE>
PLYMOUTH COGENERATION LIMITED PARTNERSHIP
NOTES TO FINANCIAL STATEMENTS--(CONTINUED)
STATEMENT OF CASH FLOWS
For purposes of the Statement of Cash Flows, the Partnership considers
highly liquid investments with an original maturity of three months or less to
be cash equivalents.
Restricted cash consists of cash held in trust for payment of semi-annual
long-term interest payments of the Partnership. Debt service reserve consists
of cash held in trust until maturity of the Partnership's long-term debt.
USE OF ESTIMATES
The preparation of financial statements in conformity with generally
accepted accounting principles requires management to make estimates and
assumptions that affect the reported amounts of assets and liabilities and
disclosure of contingent assets and liabilities at the date of the financial
statements and the reported amounts of revenues and expenses during the
reporting period. Actual results could differ from those estimates.
UNAUDITED INTERIM FINANCIAL INFORMATION
The financial information presented as of June 30, 1996 and for the six
month periods ended June 30, 1996 and June 30, 1995 is unaudited, but in the
opinion of management contains all adjustments (consisting of only normal
recurring adjustments) necessary for a fair presentation of such financial
information. Results of operation for interim periods are not necessarily
indicative of those to be achieved for full fiscal years.
NOTE 2--NOTE PAYABLE--GENERAL CONTRACTOR
During May 1994, the Partnership entered into an amendment to the Turnkey
Construction Contract ("Construction Contract") with the general contractor of
the Facility. The amendment provided for an additional payment in the amount
of $636,000 from the Partnership to the general contractor for additional
construction costs. In connection with the amendment, the Partnership executed
a $636,000 promissory note for payment of these costs. The note bears interest
at Citibank's prime lending rate plus 2%. Interest and principal were payable
on maturity of the note in November 1994. During November 1994, the
Partnership funded an escrow, the funds of which were available under the
terms of the escrow agreement to settle the Partnership's obligations to the
general contractor. At December 31, 1994, the balance due to the general
contractor on the note and the funds escrowed for payment amounted to
$586,000. Accrued interest on the note at December 31, 1994 amounted to
$25,142. The escrowed funds were included in restricted cash. During 1995, the
Partnership settled all obligations with the general contractor.
NOTE 3--LONG-TERM DEBT
On June 30, 1993, the Partnership obtained $5,110,000 of financing from the
Business Finance Authority of the State of New Hampshire to construct the
Facility. The financing was obtained through issuance of 7.75% State of New
Hampshire Electric Facility Revenue Bonds (the "Bonds"), a tax-exempt
financing, which matures on June 1, 2014. The Bonds were issued at a discount
of $129,283, which is being amortized over the life of the bonds using the
bonds outstanding method. This Leasehold Mortgage and Trust Agreement
(the "Agreement") contains certain business covenants including, among other
items, that the Partnership provides timely financial and business
information.
In connection with the financing, the Partnership paid $162,824 of financing
related costs. These deferred financing costs will be amortized on the bonds
outstanding method over the life of the bonds.
F-52
<PAGE>
PLYMOUTH COGENERATION LIMITED PARTNERSHIP
NOTES TO FINANCIAL STATEMENTS--(CONTINUED)
The Bondholder has a first mortgage security interest in the Facility, pledge
of the Partnership interests, and a collateral assignment of all facility
operating agreements. Interest is payable semi-annually on June 1 and December
1. The Bonds are subject to redemption from sinking fund installments, without
premium, plus accrued interest on June 1, 1997 and each June 1 thereafter at
their principal amounts, through maturity of June 1, 2014. The Bonds are also
subject to redemption at the option of the Partnership on or after: June 1,
2003 at 102%; June 1, 2004 at 101%; and June 1, 2005 at 100%. Aggregate annual
sinking fund installments for the next five years and thereafter are as
follows:
<TABLE>
<S> <C>
1996.......................... $ --
1997.......................... 70,000
1998.......................... 100,000
1999.......................... 125,000
2000.......................... 175,000
Thereafter.................... 4,640,000
----------
$5,110,000
==========
</TABLE>
NOTE 4--RELATED PARTY TRANSACTIONS
DEVELOPMENT EXPENSES
The managing general partner and affiliates were reimbursed for development
expenses during the development and construction phases. In 1994, total
reimbursements of $275,000 were incurred and capitalized to Plant during the
development and construction phases.
ADMINISTRATION SERVICE FEES
On January 13, 1994, the Partnership entered into and Administrative
Services Agreement with an affiliate of PSC. The agreement provides that
commencing on January 1, 1995, the Partnership will pay a fee in the amount of
$40,000, annually, adjusted for CPI, for administrative services to be
provided by the affiliate on behalf of the Partnership. The Partnership
incurred an administrative fee of $42,000 during 1995, which is included in
general and administrative expenses.
DEVELOPMENT COMMISSIONS
Development Commissions are payable to PSC and Cencogen commencing on the
in-service date of the Facility (January 1, 1995). Development commissions are
fixed annual amounts, payable quarterly which escalate over the life of the
agreement, or 20 years, and are subordinate to the payment of debt service and
general partners fees. The Partnership incurred development commissions of
$44,388 during 1995, which are included in general and administrative
expenses.
GENERAL PARTNER'S FEE
General Partner's Fee is payable to PSC commencing on the in-service date of
the Facility (January 1, 1995). The general partner's fee is a fixed annual
amount payable quarterly which escalates over the life of the agreement, or 20
years, and is subordinate to the payment of debt service. The Partnership
incurred $14,796 during 1995, which is included in general and administrative
expenses.
F-53
<PAGE>
PLYMOUTH COGENERATION LIMITED PARTNERSHIP
NOTES TO FINANCIAL STATEMENTS--(CONTINUED)
OTHER
The Partnership incurred the following expenses with affiliates of the
General Partner for the years ended December 31, 1995 and 1994. The 1994 costs
were capitalized into Plant during the development and construction phases.
<TABLE>
<CAPTION>
1995 1994
------ -------
<S> <C> <C>
Employee group health insurance and office related........... $ -- $37,703
Interest expense on advances................................. 1,108 --
</TABLE>
Amounts due to affiliates of the General Partner included in accounts
payable and accrued expenses of the Partnership at December 31, 1995 and 1994:
<TABLE>
<CAPTION>
1995 1994
------- ----
<S> <C> <C>
Interest bearing advances at prime.............................. $28,520 $--
Accrued interest on advances.................................... 1,108 --
</TABLE>
The Partnership has elected for its employees to participate in a 401(k)
plan sponsored by an affiliate of the General Partner. The 401(k) plan calls
for employee only contributions.
NOTE 5--SUBSEQUENT EVENT (UNAUDITED)
In 1996, three of the Partnership's operating permits expired. The
Partnership filed for renewal of these permits prior to their expiration but
has yet to receive approval from the State of New Hampshire. Management
anticipates the permits to be approved.
F-54
<PAGE>
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- -------------------------------------------------------------------------------
NO DEALER, SALES REPRESENTATIVE OR ANY OTHER PERSON HAS BEEN AUTHORIZED TO
GIVE ANY INFORMATION OR TO MAKE ANY REPRESENTATIONS IN CONNECTION WITH THIS
OFFERING OTHER THAN THOSE CONTAINED IN THIS PROSPECTUS, AND, IF GIVEN OR MADE,
SUCH INFORMATION OR REPRESENTATIONS MUST NOT BE RELIED UPON AS HAVING BEEN AU-
THORIZED BY THE COMPANY. THIS PROSPECTUS DOES NOT CONSTITUTE AN OFFER TO SELL,
OR A SOLICITATION OF AN OFFER TO BUY, ANY SECURITIES OTHER THAN THE REGISTERED
SECURITIES TO WHICH IT RELATES OR AN OFFER TO, OR A SOLICITATION OF, ANY PER-
SON IN ANY JURISDICTION WHERE SUCH OFFER OR SOLICITATION WOULD BE UNLAWFUL.
NEITHER THE DELIVERY OF THIS PROSPECTUS NOR ANY SALE MADE HEREUNDER SHALL, UN-
DER ANY CIRCUMSTANCES, CREATE ANY IMPLICATION THAT THERE HAS BEEN NO CHANGE IN
THE AFFAIRS OF THE COMPANY SINCE THE DATE HEREOF OR THAT THE INFORMATION CON-
TAINED HEREIN IS CORRECT AS OF ANY TIME SUBSEQUENT TO THE DATE HEREOF.
----------------
TABLE OF CONTENTS
<TABLE>
<CAPTION>
PAGE
----
<S> <C>
AVAILABLE INFORMATION..................................................... 2
PROSPECTUS SUMMARY........................................................ 3
RISK FACTORS.............................................................. 9
USE OF PROCEEDS........................................................... 17
PRICE RANGE OF COMMON STOCK............................................... 17
DIVIDEND POLICY .......................................................... 17
CAPITALIZATION ........................................................... 18
PRO FORMA FINANCIAL INFORMATION........................................... 19
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND PLAN OF
OPERATION ............................................................... 25
BUSINESS ................................................................. 30
MANAGEMENT ............................................................... 43
CERTAIN TRANSACTIONS ..................................................... 46
PRINCIPAL AND SELLING SECURITYHOLDERS .................................... 48
DESCRIPTION OF SECURITIES ................................................ 50
SHARES ELIGIBLE FOR FUTURE SALE .......................................... 54
PLAN OF DISTRIBUTION ..................................................... 55
LEGAL MATTERS ............................................................ 55
EXPERTS .................................................................. 56
FINANCIAL STATEMENTS...................................................... F-1
</TABLE>
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U.S. ENERGY SYSTEMS, INC.
205,000 SHARES OF COMMON STOCK
----------------
PROSPECTUS
----------------
DECEMBER 2, 1996
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