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SECURITIES AND EXCHANGE COMMISSIO
WASHINGTON, D.C. 20549
FORM 10-KSB
[X] ANNUAL REPORT UNDER SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934
For the fiscal year ended February 28, 1997
[ ] TRANSITION REPORT UNDER SECTION 13 OR 15(d)
OF THE EXCHANGE ACT OF 1943
For the transition period from _________________ to __________________
Commission File No. 1-4766
GATEWAY ENERGY CORPORATION
--------------------------
(Name of small business issuer in its charter)
Delaware 44-0651207
--------------------------------- ------------------------------
(State or other jurisdiction of (IRS Employer Identification
incorporation or organization) Number)
10842 Old Mill Road, Suite 5, Omaha, NE 68154
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(Address and Zip Code of principal executive offices)
(402) 330-8268
----------------------------
(Issuer's telephone number)
Securities registered under Section 12(b) of the Exchange Act:
Title of each class Name of each exchange on which registered
None None
------ ------
Securities registered under Section 12(g) of the Exchange Act:
Common Stock, $0.25 Par Value
-----------------------------
(Title of Class)
Check whether the issuer (1) has filed all reports required to be filed by
Section 13 or 15(d) of the Exchange Act during the past 12 months (or for such
shorter period that the registrant was required to file such reports), and (2)
has been subject to such filing requirements for the past 90 days.
Yes X No
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Check if there is no disclosure of delinquent filers in response to Item
405 of Regulation S-B is not contained in this form, and no disclosure will be
contained, to the best of registrant's knowledge, in definitive proxy or
information statements incorporated by reference in Part III of this Form 10-KSB
or any amendment to this Form 10-KSB.
Issuer's revenues for the most recent fiscal year ended February 28, 1997,
were $18,136,900.
The aggregate market value of the voting stock held by non-affiliates
computed by reference to the price at which the stock was sold, or the average
bid and ask prices of such stock, as of May 28, 1997 was $13,890,000.
(APPLICABLE ONLY TO CORPORATE REGISTRANTS)
The number of shares outstanding of each of the issuer's classes of common
equity, as of May 28, 1997, was 14,338,500.
DOCUMENTS INCORPORATED BY REFERENCE
None
-------
Transitional Small Business Disclosure Format (check one):
Yes No X
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To Our Stockholders:
Because Gateway is a company with publicly traded stock, we must annually
file this Form 10-KSB with the Securities and Exchange Commission ("SEC"). It
is our principal annual disclosure document. It contains an overall discussion
about our business, our financial condition and financial prospects and our
annual audited financial statements.
Item 1 contains the general description of our current business and
properties. We direct your particular attention to the caption "Recent
Developments" which describes our recently completed recapitalization. Item
2 describes our properties, including our lease arrangements for our
executive offices. Item 3 describes any significant legal proceedings in
which we were involved. Item 4 shows the matters submitted to the common and
preferred stockholders and the results of the voting. Item 5 contains a
two-year report on the high and low quarterly stock prices of our Common
Stock.
Item 6 is a discussion about our results of operations. We are required to
compare the most recent fiscal year results for February 28, 1997 with the
results of a year ago and to do a similar comparison of the results for February
29, 1996 compared with the prior year. In this way, you are provided with a
three-year overview of what occurred financially within your Company. The
discussion also includes our liquidity, or basically how much cash we have and
where we will get the cash needed to operate in the near term. Finally, we
discuss certain factors which may affect the future of your Company and you are
encouraged to read those carefully.
The audited financial statements are contained in Item 7 along with the
report from our auditors, Grant Thornton LLP. Items 9 through 12 relate to
certain information about company officers, directors and insiders.
Item 13 describes important documents relating to the Company and where
copies of those may be found. The last part of the form contains the
signatures. The SEC requires that this Form 10-KSB be signed by an executive
officer and a majority of the Board of Directors of your Company.
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PART I.
ITEM 1. BUSINESS
GENERAL
Gateway Energy Corporation (the "Company"), a Delaware corporation, was
originally incorporated as Gateway Sporting Goods Company in 1960. On June 1,
1992, the Company completed a restructuring plan and began acquiring interests
in natural gas gathering, processing, and transmission properties (commonly
known as the gathering, transmission, and marketing segment of the natural gas
industry). In 1996, the Company acquired an interest in a partnership which
owns and develops natural gas reserves.
The Company's common stock is traded in the over-the-counter market on the
bulletin board section of NASDAQ under the symbol GNRG. The Company's principal
executive offices are located at 10842 Old Mill Road, Suite 5, Omaha, Nebraska
68154, and its telephone number is (402) 330-8268.
RECENT DEVELOPMENTS
Effective March 1, 1997, the Company consummated a recapitalization which
resulted in substantial changes to the Company's capital structure. In January
1997, the holders of the Company's Common Stock were asked to approve a 1-for-25
reverse split of the Common Stock of the Company and to decrease the authorized
Common Stock from 75,000,000 shares to 10,000,000 shares. The holders of the
Common Stock approved this action subject to the completion of other parts of
the recapitalization.
The second and most significant part of the recapitalization was the
solicitation of consents of the holders of the nine series of Preferred Stock
of the Company and its subsidiary, Gateway Pipeline Company. In February
1997, the consents were solicited from these holders and the required
majority vote of each class of Preferred Stock was obtained. The holders of
the Preferred Stock were then given a period of time until April 11, 1997 in
which to either convert their Preferred Stock into Common Stock under the
original conversion terms or accept a package of securities consisting of 10%
Subordinated Notes, Common Stock and Common Stock Purchase Warrants. As of
April 30, 1997, Preferred Stock with a stated value of $14,616,600 was
converted into 11,408,500 shares of Common Stock. The holders of the
remaining Preferred Stock with a stated value of $3,114,700 will receive a
total of $1,178,000 of 10% Subordinated Notes, 740,300 shares of Common
Stock, and 62,000 Common Stock Purchase Warrants. The 10% Subordinated Notes
carry an additional interest provision equal to a percentage of any operating
cash distribution received from the Company's limited partnership engaged in
the oil and gas development business. As a result of the recapitalization,
approximately 4.3% of the Company's total operating cash distributions from
Castex LP will be segregated for an additional interest provision on the
Notes. As a result of the recapitalization, the Company currently has no
Preferred Stock outstanding.
As a result of the unexpectedly high amount of conversions of the Preferred
Stock into Common Stock, the authorized Common Stock of 10,000,000 shares,
approved in January, 1997 by the
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Common Stockholders, proved insufficient. On March 20, 1997, the Company again
solicited consents from the holders of the Common Stock to increase the
authorized Common Stock from 10,000,000 shares to 17,500,000 shares. Consents
from holders of a majority of the outstanding Common Stock were received on
April 25, 1997, thereby enabling the completion of the recapitalization.
For presentation purposes, all share and per share amounts in the text portion
of this Form 10-KSB will be shown assuming the 1-for-25 reverse split of the
Common Stock.
DESCRIPTION OF BUSINESS
The Company, through joint ventures and other arrangements with industry
partners (the "Joint Ventures"), owns and operates natural gas gathering
pipeline systems and processing plants and related facilities in the Gulf Coast
and Southwestern states of Texas, New Mexico, Oklahoma and Louisiana, and the
Gulf of Mexico.
The Company, through its subsidiary, Gateway Pipeline Company ("Pipeline")
acquired all of the outstanding common stock of Venture Resources, Inc.
("Venture") which owns gas gathering systems in Louisiana and Texas and owns a
partnership interest in a partnership which owns and operates gathering systems
in Oklahoma.
The Company also has a limited partnership interest in Castex Energy 1995 LP
("Castex LP"), a partnership engaged in acquiring gas reserves and drilling
primarily in South Louisiana. The general partner of Castex LP is Castex
Energy, Inc.
The Company owns directly, working interests in several gas wells in Louisiana,
Texas and Pennsylvania which are also operated by Castex Energy, Inc.
The gas gathering segment of the natural gas transmission system is that portion
of the transportation system developed and designed to gather natural gas from
producing properties and transport that natural gas to the primary transmission
pipeline. These gathering systems generally have the lowest capital cost of any
segment of the total pipeline system. They are usually installed underground to
service the producing wells along their service area. Gathering systems can
include connections into other existing production or leases yet to be
developed. Delivery systems provide natural gas service to end users. These
systems may purchase gas for resale to industrial customers or may provide a
transportation service for a tariff.
The gas gatherer contracts with the owner or operator of the producing gas wells
to utilize the gas gathering system to transport the gas from the wellhead to a
transmission line. The producer pays the state severance taxes and delivers dry
gas (that which is stripped of natural gas liquids ("NGLs")). The gathering
system delivers the gas to the transmission line and for that service receives a
"tariff." The gatherer generally has no obligation for severance taxes or
stripping the NGLs. In some cases, the gatherer will install a
separator/dehydrator and thus receives the benefits from the "drip" or the sale
of the extracted NGLs, and in other cases the gatherer may construct and own gas
processing facilities which extract the NGLs from rich BTU gas streams
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under financial arrangements with the producer. The gas gatherer may also take
advantage of gas marketing opportunities, whereby the gas gatherer purchases the
gas at the wellhead and takes title to the product. The gas is then transported
from the point of purchase to a point of delivery and then sold to one or more
customers. These purchases and sales are generally transacted through "back to
back" contracts. Currently, approximately 87% of gathering and processing
revenues recorded by the Company are received under "back to back" contracts, 3%
under tariff arrangements, and 10% from sales of NGLs.
The delivery segment of the industry provides service directly to end users of
natural gas, primarily industrial and large commercial companies. Delivery
pipelines are connected to major intra or interstate pipelines and gas supplies
are purchased directly from the pipeline company or others who have access and
capacity on that system. Delivery pipelines provide service directly to end
users and volumes are metered at the plant. Generally, sales are based on
contracts which cover the same period as the supply contract so margins are
secured for the length of the contract. This is an expanding segment of the
industry due to regulations which allowed customers to bypass their local
distribution utility. It is also very competitive as suppliers try to secure
markets for their gas and as local utilities become more aggressive in retaining
large industrial users.
The Company also participates in the production segment of the industry through
its limited partnership interest in Castex LP. Castex LP owns working interests
in the South Lake Arthur Field in Louisiana as well as interests in gas wells in
Texas. Castex LP also has interests in acreage which will be developed and
drilled. Castex LP drilled several wells during the last fiscal year and
expects to conduct additional development drilling and acquire additional
reserves in the current fiscal year.
THE COMPANY'S JOINT VENTURE OPERATIONS
The Company operates certain of its gathering systems through joint ventures.
Each joint venture is operated by an operator/manager who is a joint venture
partner. The operator/manager is responsible for the operation, maintenance,
marketing, and accounting for the pipeline system. The operator/manager
receives a monthly fee and, in some instances, an overhead allowance to cover
certain in-office expenses. The joint venture agreements provide for net
operating revenues to be distributed monthly to the joint venture partners in
accordance with distribution provisions of the agreement.
These distribution provisions vary but the majority of agreements provide for
distributions of 80 percent to the Company until the Company has received 125
percent of its investment at which time distributions are reduced to 60 percent.
Several of the agreements provide that the Company will receive a minimum return
on its investment (generally 20%) before distributions are made to the joint
venture manager and partners.
MAJOR CUSTOMERS AND SUPPLIERS
The Company purchases natural gas from numerous producers and purchased 19% and
14% of its total cost of gas supply from two major oil and gas producing
companies. All customers with
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sales exceeding 10% are in the gas gathering segment. Gross sales as a
percentage of total revenue to these customers are as follows:
1997 1996
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Customer A 28% 22%
Customer B 16% 9%
Although these sales constitute a major portion of total revenues, they do not
represent a significant portion of net operating margin because of back-to-back
purchase contracts to supply these major customers.
COMPETITION
The natural gas industry is highly competitive. The Company competes against
other companies in the production, gathering, delivery, and marketing business
for supplies and for customers. Competition for gas supplies is primarily based
on the availability of transportation facilities and satisfactory price. In
marketing, there are numerous competitors, including interstate pipelines, major
producers, and local and national gatherers, brokers, and marketers. Most
competitors have capital resources greater than the Company and control greater
supplies of gas. Competition for marketing customers is primarily based on
reliability and the price of delivered gas.
REGULATION
The transportation, sale, and marketing of natural gas in interstate commerce
are subject to extensive regulation under the Natural Gas Act ("NGA"), the
Natural Gas Policy Act of 1978 ("NGPA"), and rules and regulations promulgated
by the Federal Energy Regulatory Commission ("FERC"). As discussed below, the
Company believes that the gathering and delivery facilities of the Company are
intrastate in nature and not subject to FERC's jurisdiction. The properties
are, however, subject to regulation by various state agencies.
In April 1992, the FERC issued Order 636 which generally requires interstate
pipelines to "unbundle" their traditional wholesale services and create and make
available on an open and nondiscrimination basis numerous constituent services,
including gas gathering services. This ruling and subsequent Orders 636A and
636B have had a significant impact on the natural gas transportation industry.
Generally, these regulations have made it less attractive for large interstate
pipelines to own and operate the gas gathering systems. This situation makes
available numerous systems at prices which can generate attractive rates of
return for the Company.
The Fort Cobb Fuel and Irrigation Authority ("Fort Cobb") is a local
distribution company subject to the regulations of the Oklahoma Public Service
Commission ("OPSC"). The OPSC regulates the prices to the customer based on the
cost of investment, operating and maintenance expense, cost of purchased gas and
rates of return. Fort Cobb's rates to customers were last approved by OPSC in
1993; Fort Cobb has not filed for an increase in rates since that time. The
OPSC also regulates construction and safety of the distribution system.
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ENVIRONMENTAL AND SAFETY CONCERNS.
The Company's operations are subject to environmental risks normally incident to
the operation and construction of pipelines, plants, and other facilities for
producing, gathering, processing, treating, and transporting natural gas. In
most instances, the regulatory requirements relate to the discharge of
substances into the environment and include controls such as water and air
pollution control measures. Environmental laws and regulations may require the
acquisition of a permit before certain activities may be conducted. Further,
these laws and regulations may limit or prohibit activities on certain lands
lying within wilderness areas, wetlands, areas providing habitat for certain
species, or other protected areas. The properties are also subject to other
federal, state, and local laws covering the handling, storage, or discharge of
materials used by the joint ventures, or otherwise relating to protection of the
environment, safety, and health.
Management believes the Company and its joint venture operators have obtained,
and are in current compliance with, all necessary and material permits and that
its joint venture operations are in substantial compliance with applicable
material governmental regulations.
EMPLOYEES
As of February 28, 1997, the Company, excluding the employees of its joint
venture operators, had 18 full-time employees.
ITEM 2. DESCRIPTION OF PROPERTY
JOINT VENTURE OPERATING PROPERTIES
As discussed above, the Company currently owns various properties operated
through joint ventures or by other industry partners (the "Joint Venture
Systems"). The Company owns interests in these Joint Venture Systems ranging
from 25% to 65%. The Company does not hold record or legal title to the joint
venture properties, instead the record or legal title is held in the name of the
Manager/Operator of the joint venture. The terms of the joint venture
agreements provide for an undivided ownership interest in the operating
properties.
As of February 28, 1997, the Company owned interests (generally 60% to 65% after
payout) in Joint Venture systems comprising approximately 650 miles of pipeline
with a capacity of 954 million cubic feet per day (MMCFD), currently handling
approximately 55 MMCFD with an investment cost of $6,697,000. The 49 systems
are operated under 17 Joint Venture or other operating agreements. The pipeline
systems are comprised of 1" to 20" pipe and generally vary in length from 7
miles to 120 miles per system.
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A brief summary of location, miles of pipeline, capacity and size of the
gathering system pipelines is as follows:
STATE MILES SIZE CAPACITY
----- ----- ---- --------
(MMCFD)
-------
Texas 372 2" to 8" 356
New Mexico 117 3" to 8" 46
Louisiana 38 2 7/8" to 8" 102
Oklahoma 8 2" to 8" 90
Offshore 110 4 1/2" to 20" 360
DELIVERY
The Company owns and operates the following delivery system:
STATE MILES SIZE CAPACITY
----- ----- ---- --------
Texas 14 6" 25
FORT COBB FUEL AND IRRIGATION AUTHORITY
The Companies own 99% of the Fort Cobb Fuel and Irrigation Authority ("Ft.
Cobb"), a local distribution company which serves approximately 2,600 rural and
residential customers in Caddo and Washita counties in Oklahoma. Ft. Cobb owns
and operates 594 miles of 1" to 4" pipeline and related meters, regulators,
valves, rights-of-way, easements, etc. normally associated with distribution
systems.
The system is also used as a gathering system to gather and transport natural
gas from low pressure wells in Caddo and Washita counties. As of February 28,
1997, nineteen wells have been connected and three compressors installed. The
gas purchased from these producers is either sold to Fort Cobb or to third
parties.
EQUITY INVESTMENT IN CASTEX LP
The Company participates in oil and gas production and development through its
limited partnership investment in Castex LP. Castex LP owns working interests
in oil and gas producing properties, primarily in the South Lake Arthur Field in
Louisiana. These properties are largely operated by operators other than Castex
LP, or its general partner, Castex Energy, Inc.
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Castex LP is also involved in drilling and development on acreage primarily in
the gulf area of Louisiana. The following sets forth the Company's equity
interest in Castex LP at February 28, 1997:
Net capitalized costs $10,100,000
Discounted future net cash flows 14,300,000
Proved reserves (mcf equivalent) 13,500,000
CORPORATE PROPERTY
In addition to the operating properties described above, the Company leases
office space and owns certain office equipment located at 10842 Old Mill Road,
Suite 5, Omaha, NE 68154, the Company's corporate headquarters, and leases
office space in Houston, Texas for its operating office.
ITEM 3. LEGAL PROCEEDINGS
None.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
On January 13, 1997, through a Solicitation of Consents of Common Stockholders
(in lieu of a proxy) the Company submitted to its shareholders for approval a
resolution to i) effect a 1 for 25 reverse stock split, ii) decrease the
authorized common stock from 75,000,000 shares to 10,000,000 shares and, iii)
decrease the authorized preferred stock from 1,750,000 shares to 10,000 shares.
The Solicitation was completed on January 31, 1997. The vote, on a pre-split
basis is shown below.
For 21,238,902
Against 269,873
Abstain 1,315
On February 12, 1997, through a Solicitation of Consents to each class of
preferred stockholder, the Company submitted to each preferred stockholder for
approval Amended Certificates of Designation for each class of preferred stock.
The Amended Certificates of Designation generally provided that the outstanding
preferred stock, in connection with the Recapitalization (See Item 1), would be
mandatorily redeemed/converted into Subordinated Notes, Common Stock and
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Common Stock Purchase Warrants. Each preferred stockholder would have the
option to convert their preferred shares into Common Stock at the rates
prescribed in the original Certificates of Designation. The vote was completed
on February 28, 1997, as shown below:
For as a Percent
of Preferred Stock
Series For Against Outstanding
------ --- ------- -----------
Series A 430.0 - 80.0%
Series B 866.6 87.5 52.5
Series G 4,435.9 235.2 55.9
Series J 567.5 5.0 75.9
Series K 587.5 6.3 78.3
Series L 174.3 - 73.2
Series M 400.1 - 91.5
Series N 3,440.0 - 61.4
Series O 1.0 - 100.0
On March 20, 1997, through a Solicitation of Consents of Common Stockholders (in
lieu of a proxy), the Company submitted to its shareholders for approval a
resolution to increase the authorized common shares from 10,000,000 shares to
17,500,000 shares. The solicitation was finalized on April 28, 1997, as shown
below.
For 1,024,483
Against 6,111
Abstain 9,256
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PART II.
ITEM 5. MARKET FOR COMMON EQUITY AND RELATED STOCKHOLDER MATTERS
MARKET INFORMATION
The Company's common stock is traded in the over-the-counter market on the
bulletin board section of NASDAQ. The bid prices shown reflect inter-dealer
prices without retail mark-up, mark-down, or commissions and may not represent
actual transactions. As discussed in Item 1, the market prices shown below have
been adjusted for the one for twenty-five reverse split.
Quarter Ending High Low
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May 31, 1995 $17.19 $10.94
August 31, 1995 18.75 12.50
November 30, 1995 15.63 9.37
February 29, 1996 12.50 9.37
Quarter Ending High Low
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May 31, 1996 $10.15 $ 4.69
August 31, 1996 7.81 3.75
November 30, 1996 5.47 1.95
February 28, 1997 3.52 1.00
HOLDERS
As of February 28, 1997, there are approximately 3,500 shareholders of the
Company's Common Stock, Par Value $0.25.
DIVIDENDS
There have been no dividends declared on the Company's Common Stock during
the last two fiscal years. The Company does not intend to pay dividends on
its common stock in the near future.
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RECAPITALIZATION
In connection with the Recapitalization described in Item 1, the Company
redeemed/converted all of its outstanding preferred stock and accrued
dividends effective March 1, 1997, into the following securities:
<TABLE>
<CAPTION>
Preferred Stock
Redeemed Securities Issued
------------------ --------------------------------------------------------
2/28/97
------- Subordinated Common Stock Common Stock
Series Shares Stated Value Notes Shares Purchase Warrants
------ ------ ------------ ----- ------ -----------------
<S> <C> <C> <C> <C> <C>
A 537.5 $537,500 $ - 371,950 -
B 1,650.0 1,650,000 39,000 1,079,469 2,000
G 7,769.8 7,769,800 592,234 5,856,643 29,985
J 747.5 747,500 3,801 495,785 200
K 750.0 750,000 7,313 509,276 375
L 238.0 238,000 4,973 158,291 255
M 437.5 437,500 - 299,023 -
N 5,601.0 5,601,000 530,640 3,378,382 29,480
O 1.0 693,000 - 213,977 -
</TABLE>
ITEM 6. MANAGEMENT'S DISCUSSION AND ANALYSIS
The following management's discussion and analysis contains trend analysis and
other forward-looking statements within the meaning of Section 27A of the
Securities Act of 1933, as amended, and Section 21E of the Securities Exchange
Act of 1934, as amended. Actual results could differ materially from those
projected in the forward-looking statements throughout this document as a result
of the risk factors set forth below in the section entitled "Factors Affecting
Future Results" and elsewhere in this document.
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RESULTS OF OPERATIONS
The following table sets forth information for each of the years in the
three-year period ended February 28, 1997:
1997 1996 1995
---- ---- ----
Operating Revenues $18,136,900 $13,131,400 $8,107,600
Operating Margin 3,189,300 3,492,900 1,876,500
Depreciation, Depletion and
Amortization 995,500 1,089,900 345,500
General and Administrative
Expense 1,670,800 2,315,100 979,000
Other Income (Expense) (231,600) (146,600) 70,000
Net Earnings (Loss) 225,400 (92,700) 575,300
Loss Applicable to Common
Stock (1,283,300) (2,415,700) (705,700)
YEAR ENDED FEBRUARY 28, 1997 COMPARED TO YEAR ENDED FEBRUARY 29, 1996
GENERAL. Monthly natural gas prices as represented by the NYMEX Henry Hub
index averaged $2.70 in fiscal 1997, compared to $1.86 in the preceding fiscal
year, an increase of 45%. Monthly gas prices represented by the EPNG Permian
Basin index increased from $1.43 in 1996 to $2.32 in 1997. The Company's gas
gathering revenues are based both on "back-to-back" contracts and tariff
contracts. Increases in natural gas prices directly affect the revenues under
the "back-to-back" contracts. Higher prices also affect the overall production
of natural gas as producers are encouraged to invest larger amounts in
exploration, development and rework. Gas prices have remained stable throughout
the beginning of fiscal 1998 and demand for natural gas continues to increase.
Liquids prices were also higher than in prior years particularly in the third
and fourth quarter of fiscal 1997.
OPERATING REVENUES. Operating revenues increased $5,005,500 or 38% over
the prior year. Revenues from gas gathering activities increased $4.8 million.
New acquisitions in 1997 added $.9 million to revenue, and higher gas prices on
existing joint ventures increased revenue by approximately $2.7 million.
Additional volumes transported on gas gathering systems increased revenues by
$1.2 million. Revenues from marketing activities increased $.7 million as a
result of higher gas prices and additional volume. Revenues from Caddo Gas
increased $.6 million as a result of an 86% increase in volumes and additional
sales made to third parties. All other
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activities including the Company's oil and gas production, delivery and other
miscellaneous income increased revenue by $.2 million over 1996.
The above increases in revenues were offset by $.7 million as a result of the
change in accounting for Castex LP from consolidation to the equity method of
accounting. Also, revenues at Fort Cobb decreased $.2 million as a result of a
decrease in volumes of 20%. Weather in Caddo County, Oklahoma was wet during
the irrigation season and dry during the fall drying season. The decrease in
volumes was somewhat offset by higher gas purchase prices which were passed
through to customers.
OPERATING MARGIN. Operating margins are defined as revenue less gas
purchases, and operating and maintenance expenses. Operating margins decreased
$303,600 in 1997 from 1996. Operating margins from properties owned throughout
the periods increased approximately $500,000 due largely to higher gas prices.
Also, operating margins from Venture, purchased in March 1996, were $167,000 in
1997. These increases were offset by reduced operating margins from Fort Cobb
of $203,700 due to reductions in sales related to weather, the sale of Castex
Energy, Inc. in October 1996, and the change in accounting for Castex LP.
Operating margins from Castex LP were $630,000 in 1996.
DEPRECIATION, DEPLETION & AMORTIZATION. Depreciation, depletion and
amortization decreased $94,400. The acquisition of Venture Resources, Inc. in
March 1996, additions and expansions to existing properties, and additional
depletion on certain producing properties due to redefining the full cost pools
increased depreciation by $349,000. These increases were offset by the decrease
in depletion from Castex LP due to the change in method of accounting for the
investment in this partnership.
GENERAL AND ADMINISTRATIVE EXPENSE. General and administrative expense
decreased $644,300 in 1997 from 1996. This decrease was due primarily to the
effect of closing the Houston office of GPC ($72,000); reduction in corporate
expenses, ($321,200) and the change in accounting for Castex LP ($345,000).
Corporate expense decreased because of the termination in April 1996 of services
provided under an agreement for investment banking services and a decrease in
salaries and wages due to bonuses and incentives provided for in 1996. These
decreases were offset by increases in accounting and legal fees due to the
addition of Castex LP and the complexities involved in financial and tax
reporting.
OTHER INCOME (EXPENSE). Other income and expense includes interest
income and expense, loss on disposal of assets, income from equity investment
in partnership and minority interest. Interest expense increased $140,300 in
1997 over 1996 as a result of promissory notes of $759,600 issued in fiscal
1997, interest and commitment fees on the Guarantee Notes issued in July 1996
and interest and commitment fees relating to the extension of certain bridge
loans. Interest expense decreased $119,600 due to the change in accounting
for Castex LP.
The loss on the disposal of assets of $344,800 in 1997 includes the loss on the
sale of the Guymon Pipeline, the sale of the Company's interest in CEI and the
loss on assets associated with the
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Houston office of GPC. These losses were offset by the gain on a pipeline
system which was included in the purchase of Venture Resources, Inc. in March
1996.
Income from equity in partnerships includes the Company's share of the net
income of $295,500 from Castex LP for 1997. This investment was made in January
1996 and, because the Company had a majority interest in the general partner,
was consolidated in 1996. Income, net of minority interest, was $53,000 for the
two months Castex LP was owned in the year ended February 29, 1996. Equity
investments in partnerships acquired with Venture in March 1996 contributed
$170,300 in 1997.
NET EARNINGS (LOSS). Net earnings increased $318,100 in fiscal 1997 over
fiscal 1996. Earnings increased approximately $80,000 from properties owned
during 1997 and 1996 and $644,000 from a reduction in general and
administrative expenses. Earnings also increased $242,000 and $243,000 with
the purchase of an equity interest in Castex LP in January 1996 and all of
the common stock of Venture Resources, Inc. in March 1996, respectively. These
increases in earnings were offset by an increase in interest expense of
$260,000 due to additional borrowings and commitment fees and net losses on
the disposal of assets which were $393,000 more than in fiscal 1996.
LOSS APPLICABLE TO COMMON STOCK. The loss applicable to common stock
decreased to $1,283,300 from $2,415,700 in 1996. This change in the net loss
applicable to common stock was due to an increase in net earnings of $318,100
and decrease in the provision for preferred dividends of $814,300. Increases
in preferred dividends and amortization of offering costs, and the charge for
redemption of Series C were offset by gains resulting from the revaluation of
preferred stock due to the Recapitalization.
YEAR ENDED FEBRUARY 29, 1996 COMPARED TO FEBRUARY 28, 1995
GENERAL. Natural gas prices as represented by the monthly NYMEX index
prices were about 4% higher in fiscal 1996 as compared to fiscal 1995. A
significant portion of the Company's properties and gas revenues are made based
on monthly El Paso index prices which actually decreased $.12 per BTU or 8%.
Both indexes reflected substantially lower prices from March 1995 to August
1995. Lower gas prices during the early months of the fiscal year resulted in a
slowdown of producer rework and drilling activity which curtailed some expected
volume increases on certain of the Company's systems. Natural gas prices
rebounded strongly in late fall of 1995 and at February 29, 1996, were $2.34 for
March deliveries which was $.92 higher than the previous year.
OPERATING REVENUES. Operating revenues increased $5.0 million or 62% over
the prior year. The revenue increase was largely due to acquisitions made
during fiscal 1996 and 1995. Revenues from gathering and delivery systems
increased $2.3 million because of systems acquired throughout 1995.
Distribution revenues from Fort Cobb Fuel Authority increased $1.2 million with
the purchase of this utility in November 1994. Production revenue increased
$1.0 million due to the acquisition of interests in the South Lake Arthur Field
in January 1996 and revenues
13
<PAGE>
generated from successful wells drilled during the current fiscal year.
Revenues from systems acquired prior to March 1, 1994, declined 6% due to
reductions in volumes on several systems.
OPERATING MARGIN. Operating margins for fiscal 1996 increased by $1.6
million, almost double, over fiscal 1995 due almost entirely to acquisitions
made during the period. Gathering system margins increased $.5 million
primarily due to the addition of volumes on the Caddo System and other
acquisitions in 1995. Distribution operating margins from Fort Cobb increased
$.1 million due to the timing of the acquisition in November 1994. Production
operating margins increased $.8 million due primarily to the acquisition of
interests in the South Lake Arthur Field in January 1996. Castex also drilled
several successful wells in fiscal 1996. Other increases in operating margins
from acquisitions were offset by higher operating expenses and reduced volumes
transported by several gathering systems.
DEPRECIATION, DEPLETION AND AMORTIZATION. Depreciation, depletion and
amortization increased $.7 million over fiscal 1995 due primarily to $400,000 of
depletion of gas reserves acquired in January 1996 and increases due to
gathering system assets acquired during fiscal 1995.
GENERAL AND ADMINISTRATIVE EXPENSE. General and administrative expenses
increased $1.3 million in fiscal 1996 over fiscal 1995. In January 1995, the
Company acquired certain production properties and in connection therewith
opened an operating office in Houston, Texas. This office is focusing on making
larger acquisitions for the Company, owning and operating systems to avoid joint
venture operating fees, developing gas producing prospects, and drilling low
risk wells. In fiscal 1996, total general and administrative expenses of
Gateway Pipeline Company ("GPC") and Castex were $896,000 compared to only
$119,000 for the two months in fiscal 1995. These costs included start up
costs, costs of pursuing several significant acquisitions which were not
consummated, and costs to position the companies to operate properties.
Administrative expenses at Fort Cobb increased $150,000 over fiscal 1995
due to including twelve months in 1996 as contrasted to four months in 1995.
Corporate administrative expenses increased $429,000 over fiscal 1995.
This increase was due primarily to fees paid to an investment advisory firm to
assist the Company in obtaining institutional funds. In August 1994, the
Company entered into a contract with an investment advisory firm to assist in
obtaining a minimum of $15.0 million of institutional funds. The Company was
unable to locate the somewhat narrowly defined qualified investment prospects
and therefore was obligated to pay certain minimum annual financing fees in
addition to monthly retainer fees of $313,000 which are included in expense.
The contract was terminated in April 1996. Increases in professional fees
(legal and accounting), salaries and wages and shareholder-related costs
accounted for the balance of the increase. Legal and accounting fees continue
to increase as the Company pursues larger and more complex transactions,
especially those involving oil and gas production.
OTHER INCOME (EXPENSE). The majority of the change in other income
(expense) is related to interest expense which increased $272,000 over the
previous year. This increase was due to
14
<PAGE>
$119,000 of expense associated with the credit facility used to acquire
interests in the South Lake Arthur Field and $153,000 for bridge loans necessary
to acquire properties before funds from the Series N Preferred Stock Offering
were available. The interest expense for bridge loans includes the issuance of
common stock valued at $60,000 in consideration of commitment fees.
NET EARNINGS (LOSS). The fiscal 1996 net loss of $93,000 represents a
$668,000 decrease from fiscal 1995 net earnings. Although revenues and net
operating margins increased significantly, this increase was offset primarily by
higher general and administrative costs associated with the Company's Houston
operations, fees paid to the investment advisory firm and increased interest
expense.
LOSS APPLICABLE TO COMMON STOCK. Net loss applicable to common stock
increased $1.7 million over 1995 due to net earnings decreasing $668,000 and the
provision for preferred dividends increasing $1.0 million. The increase in the
provision for dividends is due to $842,000 of additional dividend payments
resulting from additional preferred stock issuances in 1996 and 1995 and
increased amortization of Series G offering costs of $200,000.
LIQUIDITY AND CAPITAL RESOURCES
The Company has substantially improved its financial condition through the
implementation of the Recapitalization. The Company's debt to total capital,
after the results of the Recapitalization will be approximately 17%. The net
working capital has improved from a negative $1.3 million in 1996 to a positive
$.4 million in 1997. The improvement is due to the change in accounting for
Castex LP to the equity method and classification of dividends payable, which
were paid in April 1997 with subordinated notes and common stock, as a long-term
liability.
The Company has in place an operating line of credit agreement with a bank with
maximum borrowings of $550,000. As of May 1997, the amount available to the
Company under this operating line of credit was $386,000.
The Company has retained the services of an investment banker with experience in
helping growth-oriented companies in the oil and gas industry. The investment
advisor is expected to assist the Company in obtaining reasonably priced long-
term debt or equity capital to finance its acquisition strategies. The Company
has signed a letter of intent to sell its interest in Castex LP and its other
oil and gas properties for approximately $3.5 million. The proceeds from this
sale can be combined with long-term financing to acquire properties which
compliment the Company's core assets. Management believes that these proceeds
and its more favorable debt/equity ratio will allow it to obtain long-term
financing on reasonable terms.
The Company generated net cash flows from operations of $1,085,800 in fiscal
1997. The cash generated from operations and cash received from sale of
assets of $841,500 was used to pay preferred stock dividends of $1,523,800 in
1997. The Company utilized net proceeds from preferred stock and escrowed
cash at February 29, 1996, to fund expansion of existing properties, purchase
Venture in March 1996, and retire bridge loans used to finance prior year
acquisitions.
15
<PAGE>
Payments for debt service in fiscal 1998, based on pro forma capitalization
after the Recapitalization, are estimated to be $450,000. The Company
believes that cash generated from operations will be sufficient to meet these
debt service requirements and fund expected capital expenditures (estimated to
be less than $500,000) required to maintain the competitive position of the gas
gathering and processing assets.
FACTORS AFFECTING FUTURE RESULTS
As discussed in Item 1, the Company completed a Recapitalization which
converted its previously existing preferred stocks into subordinated notes,
common stock and common stock warrants. The Recapitalization reduced the
cash requirements for preferred dividends from approximately $2.2 million
annually to $.1 million for interest. One of the principal objectives of the
Recapitalization was to facilitate access to reasonably priced capital to
enable the Company to build enhanced stockholder value through the execution
of certain strategies. These strategies include, among other things, 1)
development of the Company's natural gas assets located in selected core
geographic areas through enhancements and expansions, 2) acquisition of
assets which complement the Company's midstream gathering and processing
assets; and 3) continued development of the Company's operating organization
in order to decrease its reliance on third-party managers who currently
operate the Company's properties.
During the next twelve months, the Company will continue to build an
operating organization. This organization will have the capability of
assuming operation and management of the Company's existing joint ventures as
well as any acquisitions. The outcome of negotiations with current joint
venture partners will significantly affect the Company's ability to improve
the performance on certain properties that are currently not generating
revenues and returns as expected. Also, the Company's ability to expand
existing systems and acquire additional properties in core geographic areas
is related to the extent properties are under Company management.
The Company must provide services to its customers, primarily producers, at a
competitive price. Therefore, in order to be successful the Company must
contain its costs in line with industry competitors. The Company's access to
reasonably priced long-term capital will have a significant effect on its
ability to acquire additional properties which will increase revenues
sufficiently to cover fixed overhead costs which are required for a public
company. The Company believes that the Recapitalization and the retention of
an investment advisor with experience in growing middle market oil and gas
companies will allow the Company to access capital and find properties which
can provide attractive returns. However, there can be no assurance that the
Company will be successful in this endeavor.
The Company's ability to generate long-term value for the common stockholder is
dependent upon the successful acquisition of additional mid stream assets which
compliment the Company's core business at costs which provide for reasonable
returns. There are many companies participating in the midstream segment of the
natural gas industry, many with resources greater than the Company. Greater
competition for profitable operations can increase prices and make it more
difficult to acquire assets at reasonable multiples of cash flow.
16
<PAGE>
The Company believes that it will be able to compete in this environment and
will be able to find attractive investments which compliment its existing
properties. However, it is not possible to predict competition or the effect
this will have on the Company's operations.
The Company's operations are also significantly affected by factors which are
outside the control of the Company. Gas gathering and processing is dependent
on throughput volume. Throughput on the Company's systems is dependent on
natural gas production which is significantly affected by natural gas prices as
prices affect the willingness of producers to invest the required capital to
obtain geological and geophysical information, drill development or exploratory
wells, and to rework or maximize production on existing wells. Natural gas
prices have recently stabilized at levels which should provide adequate
incentive to producers; however, there is no assurance that such prices will
remain at current levels, and that producers will continue to react positively
to the current prices.
The Company's revenues, particularly in its retail operations, are also affected
by weather. Much of the retail demand is for crop irrigation and drying.
Favorable precipitation in the growing season and hot, dry weather in the fall
can significantly reduce demand for natural gas.
ITEM 7. FINANCIAL STATEMENTS
Report of Independent Certified Public Accountants........F-1
Consolidated Balance Sheets as of
February 28, 1997 and February 29, 1996...............F-2
Consolidated Statements of Operations for the years
ended February 28, 1997 and February 29, 1996.........F-4
Consolidated Statement of Stockholders' Equity for the
years ended February 28, 1997 and February 29, 1996....F-5
Consolidated Statements of Cash Flows for the years
ended February 28, 1997 and February 29, 1996.........F-6
Notes to Consolidated Financial Statements................F-8
ITEM 8. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS
None.
17
<PAGE>
PART III.
ITEM 9. DIRECTORS, EXECUTIVE OFFICERS, PROMOTERS, AND CONTROL PERSONS
The names and ages of the directors as of February 28, 1997, are set forth
below. All directors serve until the next annual stockholder meeting.
NAME AGE DIRECTOR SINCE
---- --- --------------
Donald L. Anderson 65 February 1993
John B. Ewing 75 June 1988
Charles A. Holtgraves 32 June 1988
L. J. Horbach 55 January 1990
Officers of the Company serve for a one-year term. The names and ages of
officers are listed below.
NAME AGE POSITION OFFICER SINCE
- ---- --- -------- -------------
L. J. Horbach 55 Chairman of the Board, President June 1990
and Chief Executive Officer
Neil A. Fortkamp 51 Executive Vice President, Treasurer January 1994
and Chief Financial Officer
Donald L. Anderson 65 Vice President and Secretary September 1992
L. J. HORBACH has been a director of the Company since January 1990 and Chairman
of the Board, President and Chief Executive Officer since June 1990. For the
past five years Mr. Horbach has also been associated with L. J. Horbach &
Associates, a firm specializing in reorganizations and financial consulting. Mr.
Horbach is currently a director of Regency Affiliates, Inc., a public company,
and Templeton Savings Bank.
NEIL A. FORTKAMP was appointed Vice President, Treasurer, and Chief Financial
Officer in January 1994 and Executive Vice President in November 1995. Mr.
Fortkamp was president of Data Duplicating Corporation, a software manufacturing
company, from August 1991 to January 1994.
DONALD L. ANDERSON has served on the Board since February 1993. He has been
a Vice President since September 1992 and was appointed Secretary in July
1996. Mr. Anderson has been involved in investment banking activities for
over 30 years and has significant experience in the energy business. For the
past five years Mr. Anderson has served as a private consultant to the
investment banking industry and is affiliated with Pipeline Capital, Inc.
18
<PAGE>
CHARLES A. HOLTGRAVES has served as a director since 1988 and was Secretary from
1988 to 1996. For the past five years Mr. Holtgraves has been an investor and
officer of First Mortgage Investment Company.
JOHN B. EWING has served as a director since June 1988. For the past five years
Mr. Ewing has been an attorney in private practice.
COMPLIANCE WITH SECTION 16(a) OF EXCHANGE ACT
Section 16(a) of the Securities Exchange Act of 1934, as amended (the "Exchange
Act"), requires the Company's officers and directors and persons who own more
than 10% of a registered class of the Company's equity securities to file
reports of ownership on Form 3 and changes in ownership on Form 4 or Form 5 with
the Securities and Exchange Commission (the "SEC"). Such officers, directors,
and 10% stockholders are also required by the SEC rules to furnish the Company
with copies of all Section 16(a) forms they file. No officers or directors
failed to make such filings.
ITEM 10. EXECUTIVE COMPENSATION
Summary Compensation Table. Individual executive officer compensation for the
fiscal year ending February 28, 1997, included base salary, certain expense
allowances provided by the Company and matching contributions of the Company to
its 401(k) savings plan. As of February 28, 1997, the Company had no bonus or
long-term incentive programs in effect and no bonuses were payable for the year
then ended. The following Summary Compensation Table includes compensation paid
in cash and notes.
<TABLE>
<CAPTION>
Long Term
Annual Compensation Compensation
---------------------------------------------- Securities Underlying
Name and Principal Position Year Salary Other Bonus Options/SARs (#)
- --------------------------- ---- ------ ----- ----- ----------------
($) ($) ($)
<S> <C> <C> <C> <C> <C>
Larry J. Horbach, President and 1995 95,900 0 0 0
Chief Executive Officer 1996 108,100 11,400 10,600 7,000 shares (1)
1997 110,800 14,200 0 0
Neil A. Fortkamp, Executive 1995 66,700 0 0
Vice President and Chief 1996 76,300 8,700 8,000 6,500 shares(1)(2)
Financial Officer 1997 82,500 8,700 0 0
Donald L. Anderson
Vice President and
Secretary 1997 48,000(3) 0 0 0
</TABLE>
19
<PAGE>
(1) On December 1, 1994, Messrs. Horbach and Fortkamp were granted
incentive stock options coupled with tandem stock appreciation rights
under the Company's 1994 Incentive and Nonqualified Stock Option Plan.
Messrs. Horbach and Fortkamp were granted options and tandem stock
appreciation rights on 7,000 shares and 6,000 shares, respectively,
each at an exercise price of $6.25 per share. The options vest at the
rate of 50% per year commencing December 1, 1994. Under the stock
appreciation rights, holders may exercise such SARs for cash, common
stock or any combination thereof in an amount equal to the difference
between the market price of the Company's common stock on the date of
exercise and the option price at the date of grant. Mr. Fortkamp also
received warrants to purchase 500 shares of common stock. See Footnote
2 below.
(2) As a part of 1995 compensation to Company employees, Mr. Fortkamp
received warrants to purchase 500 shares of Company common stock
exercisable at $4.00 per share through February 28, 2000.
(3) Mr. Anderson was named Secretary in July 1996 and became a salaried
officer at that time. Mr. Anderson has a five-year employment
agreement with the Company. See Item 12.
OPTION/SAR GRANTS IN LAST FISCAL YEAR. The Company made no grants of stock
options or stock appreciation rights during the year ended February 28, 1997.
AGGREGATE OPTION/SARS EXERCISED IN LAST FISCAL YEAR AND FISCAL YEAR-END
OPTION/SAR VALUES. No executive officers exercised options during the fiscal
year ended February 28, 1997 and there were no unexercised in-the-money
options at fiscal year end.
DIRECTOR COMPENSATION. Directors who are not officers receive $500 per day for
Board and committee meetings attended plus expenses of meetings.
ITEM 11. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT
(a) SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS. As of February 28,
1997, there were no persons who are known to the Company to be beneficial owners
of more than five percent (5%) of the Company's voting common stock.
20
<PAGE>
(b) SECURITY OWNERSHIP OF MANAGEMENT. The following table sets forth
information concerning the shares of Common and Preferred Stock beneficially
owned by (i) each director of the Company; (ii) each of the executive officers
of the Company; and (iii) all directors and executives as a group.
Name and Address of Number of Shares
Title of Class Beneficial Owner Beneficially Owned Percent of Class
- -------------- ---------------- ----------------- ----------------
Common Stock L. J. Horbach 24,600 1.27%
10842 Old Mill Road #5
Omaha, NE 68154
Common Stock Neil A. Fortkamp 1,500 .08%
13011 Lafayette Avenue
Omaha, NE 68154
Common Stock Charles A. Holtgraves 51,900 2.69%
6510 Indian Lane
Mission Hills, KS 66208
Common Stock Donald L. Anderson 24,200 1.25%
48-505 Via Encanto
La Quinta, CA 92253
Common Stock John B. Ewing, Jr. 5,800 .30%
1621 Bay Point Court
Sarasota, FL 34236
All executive officers and directors
as a group 108,000 5.60%
Name and Address of Amount and Nature of
Title of Class Beneficial Owner Beneficial Owner Percent of Class
- -------------- ---------------- ---------------- ----------------
Preferred Stocks(1)
- -------------------
Series B Charles A. Holtgraves 25 1.51%
John B. Ewing, Jr. 25 1.51%
Series K Charles A. Holtgraves 100 13.33%
Series O Donald L. Anderson 1 100%
All executive officers and directors as a group:
Series B 50 3.03%
Series K 100 13.33%
Series O 1 100%
(1) All preferred stocks were converted into common stock in connection with
the Recapitalization.
(c) CHANGES IN CONTROL. None.
21
<PAGE>
ITEM 12. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
In fiscal year 1992, the Company entered into an agreement with Pipeline
Capital, Inc. ("PCI") (which was subsequently amended several times) whereby
PCI, through a sponsorship arrangement, was to raise up to $50,000,000 in
capital for the Company over five years. Donald L. Anderson is a shareholder of
PCI and has a one-third interest in the capital and in all profits and losses of
PCI. Under this arrangement, $20,291,000 of capital was raised.
The parties had several ongoing disagreements regarding the proper
interpretation of various sections of the agreement. In an attempt to settle
these, the parties terminated all prior agreements and entered into a Settlement
and Purchase Agreement ("Agreement") effective May 6, 1996. In summary, the
Agreement provided for the following:
- The Company issued to PCI, one share of its Series O Preferred Stock
which is non-voting and has no dividend rights. Upon the following
described events, the following payments were to be made to PCI: (i)
PCI was entitled to receive 10% of the consideration paid in the event
of a merger of the Company, the sale of all, or substantially all of
its assets or the sale or exchange of a majority or more of the
outstanding Common Stock; (ii) in the event of liquidation and
dissolution of the Company, after payment of all debts senior to
Series O, PCI was to receive a payment equal to 10% of the remaining
assets of the Company; (iii) if neither event above has occurred by
July 1, 2000, PCI was to receive an amount equal to 10% of the fair
market value appraisal of the Company, said appraisal to be done by an
investment banking or appraisal firm.
- The Company repurchased the 56.3 shares of Series C Preferred Stock
owned by PCI, representing its right to receive the above referenced
payments for $480,000 represented by a promissory note requiring
payments of $10,000 per month commencing July 1, 1996 and ending June
1, 2000.
- PCI executed a promissory note in the amount of $278,728 plus interest
at 7% representing all advances to PCI to the date of the Agreement.
All principal and interest on this note was to be offset against the
amounts which were payable to PCI upon a payment event described above.
- The Company has entered into an Employment Agreement with Donald L.
Anderson to employ him as Vice President-Shareholder Relations until
July 1, 2000 unless the Agreement is otherwise terminated. Mr.
Anderson receives compensation of $6,000 per month. In the event the
employment is terminated as a result of Mr. Anderson's death or
permanent disability or because of a sale or change of control of the
Company, Mr.
22
<PAGE>
Anderson or his estate shall be entitled to all remaining salary under
the Agreement reduced to present value at a discount rate equal to 8%.
In the Recapitalization PCI exchanged its one share of Series O
Preferred Stock for 213,977 shares of common stock which
represented 10% of the fully diluted shares outstanding at the
time the Information Statements were first mailed to Stockholders.
The $480,000 promissory note (now $380,000) remains a legal
obligation of the Company and the Company continues to pay $10,000
per month to PCI as provided in the note. As part of the
Recapitalization, the Company canceled the $278,728 promissory
note from PCI.
The following table sets forth the cash payments, excluding amounts with respect
to the 10% net operating income and stock issued to PCI during the periods
indicated:
2/28/95 2/29/96 2/28/97
------- ------- -------
Cash $630,000 $231,400 $167,500
Common Stock 19,600 shares 4,800 shares 9,000 shares
OTHER TRANSACTIONS
In 1997, in connection with sale of CEI and closing of the GPC Houston office,
the Company canceled notes payable to officers and directors of those entities
which were issued in connection with the acquisition of CEI, certain producing
properties, and furniture and fixtures.
In May 1996, Mr. Horbach advanced the Company $35,000 for working capital
purposes which was repaid in December 1996. In August 1996, Mr. Horbach
advanced $50,000 for working capital. This advance was subsequently repaid in
October 1996, with advances from the operating line of credit.
As of February 29, 1996, the Company owed Mr. Horbach $17,100
which was the amount remaining on a Promissory Note issued in
1992. The balance was paid in fiscal 1997. During fiscal years
1997 and 1996, the Company paid Donald L. Anderson $6,400 and
$15,100 respectively, as fees for administrative services
performed in connection with private placement of the Company's
securities.
23
<PAGE>
ITEM 13. EXHIBITS AND REPORTS ON FORM 8-K
(a) EXHIBITS
The following index sets forth the documents and
schedules filed with this annual report on Form 10-KSB.
Exhibit No. Description of Document Page
- ----------- ----------------------- ----
3(a) Restated Certificate of Incorporation, filed as
Exhibit 3.1 to Registrant's Form 8 dated
October 17, 1991. *
3(b) Certificate of Amendment of Restated Certificate of
Incorporation dated March 3, 1997. 27
3(c) Certificate of Amendment of Restated Certificate of
Incorporation dated July 29, 1996. 28
3(d) Certificate of Amendment of Restated Certificate of
Incorporation dated July 29, 1995. 29
3(e) Certificate of Amendment of Restated Certificate of
Incorporation dated January 12, 1995 filed as
Exhibit 3.8 to Annual Report on Form 10-KSB
for the year ended February 29, 1996. *
10(a) 1994 Incentive and Nonqualified Stock Option Plan
filed as part of the Gateway Energy Corporation
1994 Proxy Statement, Schedule 14-A. *
10(b) Employment Agreement with Donald L. Anderson. 30
11 Statement Regarding Computation of Earnings Per
Share. 31
21 Subsidiaries 32
27 Financial Data Schedule
* Incorporated by reference.
(b) REPORTS ON FORM 8K
(1) Form 8-K, Item 2, Acquisition of Assets, July 15, 1996.
24
<PAGE>
SIGNATURES
In accordance with Section 13 or 15(d) of the Exchange Act, the registrant
caused this report to be signed on its behalf by the undersigned, thereunto duly
authorized.
GATEWAY ENERGY CORPORATION
- --------------------- ---------------------
(Registrant)
By /s/ L. J. Horbach June 11, 1997
--------------------------------------------- -------------
L. J. Horbach, President Date
By /s/ Neil A. Fortkamp June 11, 1997
--------------------------------------------- -------------
Neil A. Fortkamp, Executive Vice President & Date
Chief financial Officer
In accordance with the Exchange Act, this report has been signed below by the
following persons on behalf of the registrant and in the capacities and on the
dates indicated.
/s/ L. J. Horbach June 11, 1997
- ------------------------------------- -------------
L. J. Horbach, Director Date
/s/ John B. Ewing June 11, 1997
- ------------------------------------- -------------
John B. Ewing, Director Date
/s/ Charles A. Holtgraves June 11, 1997
- ------------------------------------- -------------
Charles A. Holtgraves, Director Date
/s/ Donald L. Anderson June 11, 1997
- ------------------------------------- -------------
Donald L. Anderson, Director Date
<PAGE>
REPORT OF INDEPENDENT CERTIFIED PUBLIC ACCOUNTANTS
Board of Directors
Gateway Energy Corporation
We have audited the accompanying consolidated balance sheets of Gateway Energy
Corporation (a Delaware corporation) and subsidiaries as of February 28, 1997
and February 29, 1996, and the related consolidated statements of operations,
stockholders' equity and cash flows for the years then ended. These financial
statements are the responsibility of the Company's management. Our
responsibility is to express an opinion on these financial statements based on
our 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 financial statements referred to above present fairly, in
all material respects, the consolidated financial position of Gateway Energy
Corporation and subsidiaries as of February 28, 1997 and February 29, 1996, and
the consolidated results of their operations and their consolidated cash flows
for the years then ended in conformity with generally accepted accounting
principles.
GRANT THORNTON LLP
Lincoln, Nebraska
May 30, 1997
F1
<PAGE>
GATEWAY ENERGY CORPORATION AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
February 28, February 29,
1997 1996
------------ ------------
ASSETS
CURRENT ASSETS
Cash and cash equivalents $ 329,500 $ 1,572,600
Restricted cash 2,100 148,100
Trade accounts receivable, less allowance for
doubtful accounts of $15,100 in 1997
and $34,400 in 1996 2,834,700 4,041,800
Inventories 55,200 71,200
Prepaid expenses and other assets 365,400 92,400
----------- -----------
Total current assets 3,586,900 5,926,100
PROPERTY AND EQUIPMENT - AT COST
Oil and gas properties,
using full cost accounting - 11,813,900
Gas gathering, processing and transportation 11,857,100 11,678,500
Office furniture and other equipment 317,300 435,400
----------- -----------
12,174,400 23,927,800
Less accumulated depreciation, depletion
and amortization 1,839,000 1,538,200
----------- -----------
10,335,400 22,389,600
OTHER ASSETS
Assets held for sale 3,024,900 -
Cash escrowed for acquisitions - 657,700
Equity investment in partnership 370,000 -
Note receivable - related party 298,700 278,700
Other 499,900 469,100
----------- -----------
4,193,500 1,405,500
----------- -----------
$18,115,800 $29,721,200
----------- -----------
----------- -----------
F-2
<PAGE>
GATEWAY ENERGY CORPORATION AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS - CONTINUED
February 28, February 29,
1997 1996
------------ ------------
CURRENT LIABILITIES
Notes payable $ 379,300 $ 1,390,000
Note payable to officer - 17,100
Current maturities of long-term debt 199,100 1,606,700
Accounts payable 2,357,000 3,622,400
Accrued expenses and other liabilities 300,000 360,400
Preferred dividends payable - 225,100
---------- ----------
Total current liabilities 3,235,400 7,221,700
Preferred dividends payable 960,700 -
Long-term debt, less current maturities 1,173,600 8,095,000
Minority interests 184,500 1,029,700
Preferred stock of subsidiary (liquidation value
$537,500 at February 28, 1997) 358,500 470,500
Mandatory redeemable preferred stock (liquidation
value of $8,336,900 at February 28, 1997) 6,394,700 8,335,500
STOCKHOLDERS' EQUITY
Preferred stock (liquidation value of $9,400,000
at February 28, 1997) 9,400 7,900
Common stock- authorized, 17,500,000 shares
of $.25 par value; issued and outstanding
1,929,800 shares in 1997 and 1,079,000
shares in 1996 482,500 269,800
Additional paid-in capital 12,334,900 9,275,600
Accumulated deficit (7,018,400) (4,984,500)
----------- -----------
5,808,400 4,568,800
----------- -----------
$18,115,800 $29,721,200
----------- -----------
----------- -----------
The accompanying notes are an integral part of these statements.
F-3
<PAGE>
GATEWAY ENERGY CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS
Year ended
---------------------------
February 28, February 29,
1997 1996
------------ ------------
Operating revenues
Natural gas and oil sales $16,190,000 $11,332,100
Transportation and processing 1,869,800 1,647,300
Other 77,100 152,000
----------- -----------
18,136,900 13,131,400
Operating costs and expenses
Cost of natural gas purchased 12,630,000 7,272,500
Operation and maintenance 2,317,600 2,366,000
Depreciation, depletion and amortization 995,500 1,089,900
General and administrative 1,670,800 2,315,100
----------- -----------
17,613,900 13,043,500
----------- -----------
Operating profit 523,000 87,900
Other income (expense)
Equity in earnings of partnerships 465,800 -
Gain (loss) on disposal of assets (344,800) 48,000
Interest income 68,700 97,800
Interest expense (425,600) (285,300)
Other expense (1,200) (14,600)
Minority interests 5,500 7,500
----------- -----------
(231,600) (146,600)
----------- -----------
Earnings (loss) before income taxes 291,400 (58,700)
Income taxes 66,000 34,000
----------- -----------
NET EARNINGS (LOSS) 225,400 (92,700)
Provision for preferred dividends 1,508,700 2,323,000
----------- -----------
Loss applicable to common stock $(1,283,300) $(2,415,700)
----------- -----------
----------- -----------
Loss per common share $ (0.95) $ (2.31)
------------ -----------
------------ -----------
Weighted average common shares outstanding 1,351,000 1,046,100
----------- -----------
----------- -----------
The accompanying notes are an integral part of these statements.
F-4
<PAGE>
GATEWAY ENERGY CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENT OF STOCKHOLDERS' EQUITY
<TABLE>
<CAPTION>
Additional
Preferred Common stock paid-in Accumulated
stock Shares Amount capital deficit Total
----- ------ ------ ------- ------- -----
<S> <C> <C> <C> <C> <C> <C>
Balance at March 1, 1995 $4,000 25,735,700 $257,400 $6,247,800 $(3,025,900) $3,483,300
Issuance of stock for cash and
services (net of issuance
costs of $707,500) 3,900 611,700 6,100 3,319,200 - 3,329,200
Amortization of issue costs
on mandatory redeemable
preferred stock - - - (457,100) - (457,100)
Compensation under stock
award plans - - - 34,800 - 34,800
Preferred stock dividends - - - - (1,865,900) (1,865,900)
Preferred stock conversions - 628,700 6,300 130,900 - 137,200
Net loss - - - - (92,700) (92,700)
------ ---------- -------- --------- ----------- ---------
Balance at February 29, 1996 7,900 26,976,100 269,800 9,275,600 (4,984,500) 4,568,800
Redemption of mandatory
redeemable Series C preferred
stock - - - (693,000) - (693,000)
Issuance of stock for cash and
services (net of issuance costs
of $502,300) 1,700 2,662,600 26,600 1,732,600 - 1,760,900
Amortization of issue costs on
mandatory redeemable
preferred stock - - - (482,100) - (482,100)
Compensation under stock
award plans - - - (34,800) - (34,800)
Preferred stock dividends - - - - (2,259,300) (2,259,300)
Preferred stock conversions
to common stock (200) 18,606,600 186,100 1,467,300 - 1,653,200
Revaluation of preferred stock
due to Recapitalization - - - 1,069,300 - 1,069,300
Net earnings - - - - 225,400 225,400
Reduction in shares, one for twenty
five reverse stock split - (46,315,500) - - - -
------- ----------- -------- ----------- ----------- ----------
Balance at February 28, 1997 $9,400 1,929,800 $482,500 $12,334,900 $(7,018,400) $5,808,400
------- ----------- -------- ----------- ----------- ----------
------- ----------- -------- ----------- ----------- ----------
</TABLE>
The accompanying notes are an integral part of this statement.
F-5
<PAGE>
GATEWAY ENERGY CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
Year ended
---------------------------
February 28, February 29,
1997 1996
------------ ------------
INCREASE (DECREASE) IN CASH AND CASH
EQUIVALENTS
Cash flows from operating activities
Net earnings (loss) $ 225,400 $ (92,700)
Adjustments to reconcile net earnings (loss)
to net cash provided by operating activities
Equity in undistributed earnings of
partnerships (288,500) -
Depreciation, depletion and amortization 995,500 1,089,900
(Gain) loss on disposal of assets 344,800 (48,000)
Compensation accrued under stock award plans (34,800) 34,800
Stock issued for interest, fees and services 59,800 110,100
Noncash interest expense, net 85,000 -
Minority interests in net losses
of subsidiaries (5,500) (7,500)
Other 26,100 (5,800)
Increase (decrease) in cash and cash
equivalents, net of businesses acquired,
resulting from changes in:
Trade accounts receivable (911,700) (1,444,400)
Inventories 15,600 (47,500)
Prepaid expenses and other current assets (368,900) (66,000)
Accounts payable 1,003,500 969,600
Accrued expenses and other liabilities (60,500) 144,700
---------- ---------
Net cash provided by operating activities 1,085,800 637,200
---------- ---------
F-6
<PAGE>
GATEWAY ENERGY CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS - CONTINUED
Year ended
-------------------------------
February 28, February 29,
1997 1996
------------ ------------
Cash flows from investing activities
Capital expenditures $ (697,600) $ (1,909,100)
Proceeds from sale of property and equipment 841,500 228,400
Acquisitions of businesses, net of cash
acquired of $134,200 in 1997 and
$128,300 in 1996 (1,265,600) (11,097,600)
Decrease in cash and cash equivalents as
a result of the deconsolidation of Castex LP (1,172,800) -
Advances on notes receivable - (110,400)
Payments on notes receivalbe - 150,000
Other (155,000) (199,700)
------------ ------------
Net cash used in investing activities (2,449,500) (12,938,400)
------------ ------------
Cash flows from financing activities
Decrease in restricted and escrowed cash 803,700 311,300
Proceeds from borrowings 3,478,700 11,390,000
Payments on borrowings (3,761,400) (461,000)
Payments on note payable to officer (17,100) (24,600)
Proceeds from sale of preferred stock 1,438,000 3,620,700
Retirement of preferred stock (97,000) (95,800)
Proceeds from issuance of common stock 30,100 -
Preferred dividends paid (1,523,800) (1,876,700)
Minority stockholder contributions - 672,000
Other (230,500) -
---------- ----------
Net cash provided by financing activities 120,600 13,535,900
---------- ----------
Net change in cash and cash equivalents (1,243,100) 1,234,700
Cash and cash equivalents at beginning of year 1,572,600 337,900
------------ ------------
Cash and cash equivalents at end of year $ 329,500 $ 1,572,600
---------- -----------
---------- -----------
The accompanying notes are an integral part of these statements.
F-7
<PAGE>
GATEWAY ENERGY CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE A - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
A summary of the significant accounting policies consistently applied in the
preparation of the accompanying consolidated financial statements follows.
Certain reclassifications have been made to conform to the 1997 presentation.
1. PRINCIPLES OF CONSOLIDATION AND NATURE OF BUSINESS
The consolidated financial statements include the accounts of Gateway Energy
Corporation ("GEC") and all its wholly-owned and majority-owned subsidiaries and
joint venture investments. The Company's investments in joint ventures are
accounted for using the proportional consolidation method. All significant
intercompany transactions have been eliminated in consolidation.
In October 1996, the Company sold a majority-owned subsidiary, Castex Energy,
Inc. ("CEI"). CEI, among other things, serves as the general partner for
Castex Energy 1995 L.P. ("Castex LP"). The sale of CEI resulted in the
Company no longer controlling the general partner of Castex LP; therefore,
in 1997 the Company has deconsolidated its 66% limited partner interest in
Castex LP and reports such interest using the equity method as of the
beginning of the year.
The Company purchases, develops, owns, and operates natural gas gathering
pipeline systems and processing plants and related facilities in the Gulf Coast
and Southwestern states of Texas, New Mexico, Oklahoma and Louisiana, both
internally and through joint ventures with industry partners. In addition, the
Company operates a local natural gas distribution company in Oklahoma, and
through Castex LP, conducts oil and gas exploration and production activities in
Louisiana.
2. PROPERTY AND EQUIPMENT
The Company accounts for its investment in oil and gas producing activities
using the full cost method of accounting. Under this method of accounting, all
costs, including indirect costs related to exploration and development
activities, are capitalized as oil and gas property costs. These costs, and
estimated future development costs, are accumulated in a single cost center and
are amortized on an equivalent unit-of-production basis using total estimated
proved oil and gas reserves. No gains or losses are recognized on the sale or
disposition of oil and gas reserves, except for sales which include a
significant portion of the total remaining reserves.
Property and equipment, other than oil and gas properties, are stated at cost,
including capitalization of interest costs on funds used to finance major
pipeline projects during their construction period. Additions and improvements
that add to the productive capacity or extend the useful life of the asset are
capitalized. Expenditures for maintenance and repairs are charged to expense as
incurred. Depreciation is provided using the straight-line method over estimated
useful lives of 6 to 30 years for pipeline systems, gas plant and processing
equipment and over 2 to 10 years for office furniture and other equipment. Upon
disposition or retirement of pipeline components or gas plant components, any
gain or loss is charged or credited to accumulated depreciation. When entire
F-8
<PAGE>
GATEWAY ENERGY CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
pipeline systems, gas plants or other property and equipment are retired or
sold, any gain or loss is credited to or charged against operations.
Impairment losses are recognized for long-lived assets used in operations when
indicators of impairment are present and the undiscounted cash flows are not
sufficient to recover the assets' carrying value. The amount of impairment is
measured by comparing the fair value of the asset to its carrying amount. The
Company, based on presently available estimates and current circumstances, has
determined that no impairment loss should be recognized at February 28, 1997.
3. ASSETS HELD FOR SALE
Assets held for sale are stated at the lower of cost or market.
4. CASH EQUIVALENTS
For purposes of the consolidated statements of cash flows, the Company considers
all highly liquid debt instruments purchased with original maturities of three
months or less to be cash equivalents.
5. INCOME TAXES
Deferred tax assets and liabilities are recognized for the expected future tax
consequences of events that have been included in the financial statements or
income tax returns. Under this method, deferred tax assets and liabilities are
determined based on the difference between the financial statement and tax bases
of assets and liabilities as measured by the enacted tax rates in effect when
these differences reverse. Deferred tax assets are reduced by a valuation
allowance when it is more likely than not that they will not be realized.
Deferred tax expense is the result of changes in deferred tax assets and
liabilities.
6. GAS BALANCING
The Company uses the sales (cash) method of accounting for gas imbalances.
Under the sales method the Company recognizes revenue on the amount of gas sold
to purchasers, which may differ from the amount the Company is entitled to based
on its working interest. A liability is recognized for overproduction only when
the estimated reserves on a property are not sufficient to repay the
overproduction quantities "in-kind". Gas imbalances at February 28, 1997 and
February 29, 1996 were not material.
7. ACCOUNTING FOR STOCK BASED COMPENSATION PLANS
In October 1995, the Financial Accounting Standards Board ("FASB") issued
Statement No. 123, ACCOUNTING FOR STOCK-BASED COMPENSATION, which required
adoption in fiscal 1997. The new standard defines a fair value method of
accounting for stock options and similar equity instruments. Under the fair
value method, compensation cost is measured at the grant date based on the fair
value
F-9
<PAGE>
GATEWAY ENERGY CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
of the award and is recognized over the service period, which is usually the
vesting period. Pursuant to the new standard, companies are encouraged, but
not required, to adopt the fair value method of accounting for employee
stock-based transactions. Companies are also permitted to continue to
account for such transactions under Accounting Principles Board Opinion No.
25 ("APB 25"), ACCOUNTING FOR STOCK ISSUED TO EMPLOYEES, but are required to
disclose pro forma net income and earnings per share as if the companies had
applied the new method of accounting. The accounting requirements of the new
method are effective for all employee awards granted after the beginning of
the fiscal year of adoption, whereas the disclosure requirements apply to all
awards granted subsequent to December 31, 1994. The Company has adopted the
disclosure requirements of Statement No. 123 in 1997 but will continue to
recognize and measure compensation for its stock based compensation plans in
accordance with the existing provisions of APB 25. Pro forma information is
not presented since no options or warrants have been issued to employees
subsequent to December 31, 1994.
8. REVERSE STOCK SPLIT
All references in the consolidated financial statements referring to common
shares, options and warrants, and loss per common share amounts have been
adjusted to give retroactive effect to a one-for-twenty five reverse split
effected on March 4, 1997, to holders of record on that date.
9. EARNINGS PER COMMON SHARE
Earnings per common share are based upon the average number of shares
outstanding during each period after giving effect to dividend requirements of
the various preferred stock issues and shares issuable upon exercise of
outstanding stock options and warrants in periods in which such options and
warrants have a dilutive effect. The fully diluted per share computation
reflects the effect of common shares issuable upon the conversion of preferred
stock in periods in which such exercise would cause dilution. For 1997 and
1996, the loss per common share, assuming full dilution, is considered to be the
same as primary since the effect of the common stock equivalents and other
potentially dilutive securities were antidilutive.
The FASB has issued Statement of Financial Accounting Standards No. 128,
EARNINGS PER SHARE, which is effective for financial statements issued after
December 15, 1997. Early adoption of the new standard is not permitted. The
new standard eliminates primary and fully diluted earnings per share and
requires presentation of basic and diluted earnings per share together with
disclosure of how the per share amounts were computed. The adoption of this new
standard is not expected to have a material impact on the disclosure of earnings
per share in the financial statements. The effect of adopting this new standard
has not been determined.
10. 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
F-10
<PAGE>
GATEWAY ENERGY CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
and the reported amounts of revenues and expenses during the reporting period.
Actual results could differ from those estimates.
NOTE B - SUBSEQUENT EVENT - RECAPITALIZATION
Effective March 1, 1997, the Company's preferred stockholders approved
the restructuring of all nine series of its preferred stock. As part of the
restructuring the Company's common stockholders authorized a one-for-twenty
five reverse split and a reduction of authorized common shares from
75,000,000 to 17,500,000 (collectively the "Recapitalization").
The objectives of the Recapitalization are to improve the Company's financial
condition, retain cash flow for required capital additions and enhancements,
facilitate the development of reasonably priced long-term financing and allow
the Company to execute its strategies for developing an operating organization,
decreasing its reliance on third-party operators and developing its core assets
through expansion and acquisition.
The significant components of the Recapitalization, together with the applicable
accounting effects, are as follows:
o The Company offered to exchange $7,769,800 stated value of the Series
G mandatory redeemable preferred stock plus accrued dividends of
$505,200 for i) 1,983,200 shares of common stock, ii) $3,069,200 of
10% subordinated notes and, iii) 155,400 common stock purchase
warrants exercisable to March 1, 2002 at $3.00 per share.
Alternatively, the Series G preferred stockholders could elect to
convert their preferred stock into 6,782,800 shares of common stock as
provided for in the Certificate of Designation. Pursuant to the
elections of the Series G preferred stockholders, the Company issued
$592,200 of 10% subordinated notes, 5,856,600 shares of common stock
and 30,000 common stock purchase warrants and cancelled all Series G
preferred stock.
o The Company offered to exchange $9,961,500 stated value of Series A
(GPC), B, J, K, L, M, & N preferred stock plus accrued dividends of
$403,400 for i) 2,131,900 shares of common stock, ii) $3,690,700 of
10% subordinated notes and, iii) 199,230 common stock purchase
warrants. Alternatively, the preferred stockholders could elect to
convert their preferred stock into 7,119,500 shares of common stock as
provided for in the Certificate of Designation. Pursuant to the
elections of each preferred stockholder, the Company issued $585,700
of 10% subordinated notes, 6,292,200 shares of common stock and
32,300 common stock purchase warrants and cancelled all preferred
stock of these series.
o The Company exchanged the Series O preferred stock held by Pipeline
Capital, Inc. ("PCI") for 214,000 shares of common stock and agreed to
cancel the promissory note of $298,700 due to the Company by PCI.
F-11
<PAGE>
GATEWAY ENERGY CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
The subordinated notes are dated March 1, 1997, with an interest rate of 10%,
payable quarterly. Annual equal principal payments begin on March 1, 2000, and
continue through March 1, 2004. The aggregate subordinated notes have a 4.36%
interest in the cash distributions and liquidation proceeds of Castex LP after
recovery of the Company's investment and the payment of any related income
taxes. This interest is expected to increase the effective interest rate on the
subordinated notes by approximately 0.5%.
As a result of the Recapitalization, the carrying value of each series of
preferred stock outstanding at February 28, 1997 has been adjusted to fair
value, resulting in a decrease in the provision for preferred dividends and loss
applicable to common stock of approximately $2,393,000. The following table
presents the capitalization of the Company as of February 28, 1997, as reported
and on a pro forma basis assuming the Recapitalization had occurred on that
date:
February 28, 1997
-------------------------------
As reported Pro forma
----------- ---------
Preferred dividends payable $ 960,700 $ -
Long-term debt, including
current portion 1,372,700 2,350,600
Minority interests 184,500 184,500
Preferred stock of subsidiary 358,500 -
Mandatory redeemable preferred stock 6,394,700 -
Stockholders' equity:
Preferred stock 9,400 -
Common stock 482,500 3,579,700
Additional paid-in capital 12,334,900 15,983,100
Accumulated deficit (7,018,400) (7,018,400)
----------- -----------
Total stockholders' equity 5,808,400 12,544,400
----------- -----------
Total capitalization $15,079,500 $15,079,500
----------- -----------
----------- -----------
Common shares outstanding 1,929,800 14,338,500
----------- -----------
----------- -----------
F-12
<PAGE>
GATEWAY ENERGY CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
NOTE C - ACQUISITIONS AND DIVESTITURES
All acquisitions have been accounted for as purchases; operations of the
companies and businesses acquired or disposed have been included in the
accompanying consolidated financial statements from their respective dates of
acquisition or through their respective dates of disposal.
Effective March 1, 1996, GPC acquired all of the outstanding common stock of
Venture Resources, Inc. ("Venture"), a company with interests in natural gas
gathering and transmission properties located in Texas, Louisiana and Oklahoma
for approximately $1,305,000. The acquisition cost was equal to the fair value
of the net assets acquired. In April 1996, Venture acquired the remaining 50%
partnership interest in MV Pipeline for $100,000.
In October 1996, the Company sold its sixty percent interest in CEI to its
minority shareholders in exchange for the cancellation of notes payables to
officers of $138,800, the forgiveness of the intercompany payable to CEI of
$218,500 and the forgiveness of an intercompany note and accrued interest from
CEI to the Company in the amount of $222,000. In addition, the Company paid CEI
$20,000 in consideration for a lease cancellation. The transaction resulted in
a net loss of $75,900 which has been charged to loss on disposal of assets.
In November and December 1996, the Company sold two pipelines for cash of
$866,300, resulting in a net loss of $154,100. The net loss has been charged to
loss on disposal of assets.
Effective January 1996, Castex LP acquired numerous oil and gas producing
interests for approximately $9,500,000 and assumed certain liabilities of
approximately $500,000. The purchase was financed with proceeds from a credit
facility with a bank. The acquisition cost was equal to the fair value of the
net assets acquired.
F-13
<PAGE>
GATEWAY ENERGY CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
In January 1996, a subsidiary of the Company, Gateway Pipeline Company ("GPC"),
acquired all the outstanding shares of Ozark Natural Gas Company ("Ozark") for
$30,000. Ozark owns natural gas franchises for the cities of Branson and
Hollister, Missouri. Additional contingent consideration of $70,000 will be
paid upon successful financing of planned development of natural gas
transmission and distribution systems in the franchise areas.
On December 15, 1995, a subsidiary of the Company, Shoreham Gathering Company,
("SGC"), acquired eight separate offshore gathering systems. The systems were
purchased for cash of $753,000 and consist of approximately 49 miles of
pipeline. Six of the eight systems are inactive but are located in areas where
there is considerable lease and drilling activity.
Effective June 30, 1995, GPC acquired a 15 mile pipeline. The purchase price of
$795,000 was financed with proceeds from the Series N preferred stock and
short-term bank financing. In November 1996, GPC sold this pipeline.
The following unaudited pro forma consolidated results of operations for the
year ended February 29, 1996 assume all purchases occurred at the beginning of
1996, as follows:
Revenues $17,415,000
Net earnings 368,700
Loss applicable to common stock (2,219,000)
Loss per common share (2.12)
F-14
<PAGE>
GATEWAY ENERGY CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
NOTE D - INVESTMENT IN CASTEX LP
The following presents summarized financial information of Castex LP carried at
equity in fiscal 1997 (See Note A):
February 28, 1997
-----------------
Condensed Balance Sheet:
Current assets $ 4,139,600
Property and equipment, net 15,279,300
Other assets 419,400
-----------
$19,838,300
-----------
-----------
Current liabilities $ 6,284,500
Noncurrent liabilities 10,634,300
Partnership equity 2,919,500
-----------
$19,838,300
-----------
-----------
Condensed Statement of Operations:
Operating revenue $ 5,474,600
Operating profit 1,806,800
Net earnings 401,600
The Company's equity investment in Castex LP is $2,022,700 as of February 28,
1997 and is included in assets held for sale in the consolidated balance
sheet. The Company's equity in earnings of Castex LP was $295,400 for the
year ended February 28, 1997 and is included in equity in earnings of
partnerships in the consolidated statement of operations.
NOTE E - OIL AND GAS OPERATIONS
As discussed in Note A, the Company began accounting for its investment in
Castex LP using the equity method in fiscal 1997. This investment constitutes
substantially all of the Company's oil and gas operations. Accordingly, 1997
oil and gas disclosures relate only to the Company's equity in Castex LP.
Capitalized costs related to the Company's oil and gas producing activities and
the related amounts of accumulated depreciation, depletion and amortization at
February 29, 1996, are shown below:
Proved properties $11,731,500
Unproved properties 82,400
----------
11,813,900
Accumulated depreciation,
depletion and amortization (413,000)
----------
Net property costs $11,400,900
----------
----------
F-15
<PAGE>
GATEWAY ENERGY CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
The Company's equity in net capitalized costs of Castex LP was $10,100,000 at
February 28, 1997.
The following reflects the costs incurred during 1996 in oil and gas producing
activities:
Property acquisition costs:
Proved $10,221,500
Unproved 82,400
Exploration and development costs 847,500
-----------
$11,151,400
-----------
-----------
The Company's equity in costs incurred by Castex LP was approximately $4,800,000
for the year ended February 28, 1997.
The following table includes revenues and expenses associated directly with
the Company's oil and gas producing activities for the year ended February 29,
1996. It does not include any allocation of the Company's interest
costs or general corporate overhead and, therefore, is not necessarily
indicative of the contribution to net earnings of the Company's oil and gas
operations. Income tax expense has been calculated by applying statutory
income tax rates to oil and gas sales after deducting costs, including
depreciation, depletion and amortization and after giving effect to permanent
differences.
Oil and gas sales $1,051,700
Production and operating expenses (181,800)
Depreciation, depletion and amortization (414,700)
Income tax expense (155,000)
Results of operations for oil and gas ----------
producing activities $ 300,200
----------
----------
The Company's equity in the results of operations of Castex LP for the year
ended February 28, 1997, using the same methodology noted above, was
$1,015,000.
NOTE F - JOINT VENTURE OPERATIONS
The Company participates in 17 natural gas gathering, processing or delivery
joint ventures. All but one of the joint ventures are operated by the Company's
joint venture partners. Management fees to the joint venture partners are a
base fee plus a percentage of qualifying expenditures or a percentage of net
operating income, as defined. The joint venture agreements contain provisions
for increased income participation by the Company until specified payout levels
are attained. The agreements have terms of one to ten years, with provision for
earlier termination, along with buy-sell agreements in
F-16
<PAGE>
GATEWAY ENERGY CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
the event of termination. Fees paid to the joint venture partners were
approximately $239,000 in 1997 and $237,000 in 1996.
NOTE G - NOTES PAYABLE
Notes payable consist of the following: February 28, February 29,
1997 1996
------------ ------------
Operating line of credit $316,000 $ -
Operating line of credit - Fort Cobb 40,000 30,000
Acquisition line of credit - 575,000
Bridge loans - 785,000
Other 23,300 -
-------- ----------
$379,300 $1,390,000
-------- ----------
-------- ----------
OPERATING LINES OF CREDIT
On September 27, 1996, the Company entered into an operating line of credit
agreement and promissory note with a bank with maximum available borrowings of
$400,000. The maximum amount was subsequently increased to $550,000. Interest
is payable monthly at 1% above the Prime Rate published in the Wall Street
Journal and all outstanding principal is due September 27, 1997. At February
28, 1997, the effective rate was 9.25%. The line is collateralized by an
assignment of the Company's interest in a joint venture which operates several
gas gathering systems in Texas and New Mexico.
On July 15, 1995, a subsidiary of the Company, Fort Cobb Oklahoma Irrigation
Fuel Authority L.L.C. ("Fort Cobb"), entered into a revolving line of credit
with a bank with maximum available borrowings of $40,000. Interest is payable
quarterly at 1.25% above the New York Prime Rate (the effective rate was 9.50%
at February 28, 1997) beginning October 1, 1995. All outstanding principal is
due July 15, 1997. The line is collateralized by substantially all Fort Cobb
assets and is guaranteed by the Company and the remaining 1% owner of Fort Cobb.
ACQUISITION LINE OF CREDIT
The Company had a revolving line of credit agreement with a bank with maximum
available borrowings of $750,000 due October 31, 1996. Interests in certain of
the Company's joint venture properties and all deposit and escrow accounts at
the bank collateralized the line. This line of credit was repaid during fiscal
1997.
BRIDGE LOANS
On September 28, 1995, the Company issued a promissory note due December 28,
1995, for $235,000 in cash. The proceeds were used for working capital purposes
because of delays in collecting funds from a customer. The note was extended to
March 28, 1996. The note was without collateral and bore
F-17
<PAGE>
GATEWAY ENERGY CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
interest at 11% per annum which could, at the option of the holder, be paid with
common stock of the Company at $6.25 per share. As part of the commitment to
the holder for the initial and extension terms, the Company issued 2,000 shares
of restricted common stock and warrants to purchase an additional 6,000 shares
at $6.25 per share. The balance outstanding at February 29, 1996, was $135,000
and was repaid during fiscal 1997.
On November 30, 1995, the Company issued promissory notes due February 28,
1996, for a total of $650,000 in cash. The notes were subsequently extended
to February 28, 1997. The proceeds from the notes were used to acquire the
Company's interest in the South Lake Arthur properties. The notes bore
interest at 11% per annum which could, at the option of the holders, be paid
with common stock of the Company at $8.75 per share. As part of the
commitment to the holders for the initial and extension terms, the Company
issued 6,000 shares of common stock and warrants to purchase 13,260 shares of
common stock at $8.75 per share. The notes were collateralized by the
properties acquired. The notes were repaid during fiscal 1997.
NOTE H - LONG-TERM DEBT
Long-term debt consists of the following:
February 28, February 29,
1997 1996
------------ ------------
Castex LP bank credit agreement $ - $9,500,000
Promissory notes 1,022,600 -
Note payable to PCI 350,100 -
Notes payable to directors and officers - 201,700
------------ ------------
1,372,700 9,701,700
Less current maturities 199,100 1,606,700
------------ ------------
$ 1,173,600 $8,095,000
------------ ----------
------------ ----------
CASTEX LP BANK CREDIT AGREEMENT
In January 1996, Castex LP entered into a bank credit agreement which, as
amended, provides for commitments totaling $20,000,000 through September,
1997, to finance the acquisition and development of certain oil and gas
producing properties and other properties in Louisiana and Texas. Commitment
availability is reduced by amounts borrowed and can be further reduced by
Castex LP and the bank under certain circumstances as defined in the
agreement. A commitment fee of 0.125% per annum on the average commitment
availability is payable quarterly.
Borrowings under the bank credit agreement have a final stated maturity date of
January 24, 2001 but can be retired earlier. Principal and interest payments
are made monthly. Borrowings bear interest primarily at floating interest rates
based on the higher of the bank's base rate or the Federal Funds Rate plus 0.25%
(the effective rate was 7.375% at February 29, 1996). Provisions in the bank
credit agreement also require up front closing fees, annual engineering fees of
F-18
<PAGE>
GATEWAY ENERGY CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
$25,000, the use of interest rate swaps and production price hedges and the
assignment of a permanent overriding royalty interest ("ORRI") initially
equivalent to a 6.5% interest in certain oil and gas producing properties
acquired with the loan proceeds. The bank agreement provides for a reduction of
the ORRI to 2% when the payments of principal, interest, fees, interest rate
hedges and the 6.5% ORRI produce an internal rate of return to the bank of 13%
on amounts borrowed and payments made under the ORRI exceed $500,000. As a
result of these provisions, the value of the ORRI is being amortized using the
interest method and included in interest expense. The bank credit agreement
contains covenants which require that Castex LP maintain defined levels of
tangible net worth, cash equivalents, current assets to current liabilities,
debt to capitalization, and interest coverage. The covenants also limit, among
other things, Castex LP's ability to sell or acquire oil and gas interests,
incur additional indebtedness, make investments or pay dividends or
distributions. Borrowings under this bank credit agreement are non-recourse to
the Company and are collateralized by the properties acquired and developed.
The Company's limited partnership interest in Castex LP is pledged as security
for the bank credit agreement. At February 28, 1997, Castex LP was in
compliance with or had obtained waiver of all such covenants.
PROMISSORY NOTES
During fiscal 1997, GPC issued $759,600 of convertible promissory notes,
proceeds of which were used to repay bridge loans in connection with the
purchase of Venture. The promissory notes are without collateral and bear
interest at the rate of 10% per annum payable monthly. The principal sum of
the promissory notes is due two years from the date of issuance. The
promissory notes are convertible at any time into common stock of the Company
at the conversion price of $.40 per common share. The notes are guaranteed
by the Company.
In April 1996, the Company issued a promissory note for $200,000 in payment of
investment advisory and financing services. The note is without collateral,
bears interest at the rate of 9% per annum and is payable in twenty-four equal
monthly installments of $9,100 commencing April 1, 1996.
In July 1996, the Company issued various promissory notes totaling $150,000.
The promissory notes were issued in connection with funds provided by certain
stockholders for working capital. At the time of issuance 8,000 shares of
common stock and warrants to purchase 8,000 shares of the Company's common
stock at $3.00 per share were issued in full consideration for interest and
commitment fees in connection with the notes. All principal payments are due
July 25, 1998. As collateral for the notes, the Company pledged all of its
ownership interests in three joint ventures. The notes may be converted to
common stock at any time prior to July 25, 1998, at the rate of $5.00 per
common share. The holders of the notes also agreed to guarantee the
Operating Line of Credit in the aggregate amount of $150,000.
NOTE PAYABLE TO PCI
In May 1996, the Company issued to Pipeline Capital, Inc. ("PCI"), a related
party, a promissory note for $480,000. The note is payable in forty eight equal
monthly installments of $10,000
F-19
<PAGE>
GATEWAY ENERGY CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
beginning July 1, 1996. The Company, may, at its option, prepay all of the note
at a discount rate of 8%; therefore, the note was originally recorded at the
discounted value of $423,000 and payments applied to principal and interest,
based on the above rate.
Notes Payable to Directors and Officers
Notes payable to directors and officers of one of the Company's subsidiaries
bore interest at 15% and were payable in monthly installments of principal and
interest through December 1998. The notes were collateralized by the properties
acquired. The notes were retired in 1997.
Aggregate future maturities of long-term debt are as follows:
1998 $ 199,100
1999 1,022,400
2000 111,900
2001 39,300
NOTE I - SPONSORSHIP AGREEMENT
The Company had an agreement with PCI, whereby PCI was to raise funds for the
Company through private placements and public offerings of the Company's
securities. The agreement also provided for an "Exit Amount" due PCI of a 10%
cumulative participation in the net operating income, as defined, from the
properties acquired with funds raised by PCI and a residual interest in the
acquired properties based on a buyout formula between five to seven years from
the inception of the various joint venture programs. Series C preferred stock
was issued to PCI to evidence the residual interest. Payments due under the
above agreement were reduced by cumulative prior cash payments and stock issued
to PCI. No liability was recorded at February 29, 1996, as payments and stock
issued to PCI exceeded amounts due under the above agreement.
As a result of ongoing disagreements between the Company and PCI regarding the
proper method of determining the Exit Amount and the continued involvement of
PCI in obtaining capital and securing properties, the parties terminated the
agreement and the parties entered into a Settlement and Purchase Agreement in
May 1996, which provided for the following:
- The Company repurchased 56.25 shares of Series C Preferred Stock owned
by PCI, which represented its right to receive the Exit Amount and the
10% interest in defined net operating cash flows for $480,000
represented by a promissory note requiring payments of $10,000 per
month commencing July 1, 1996, and ending June 1, 2000. The Company
may, at its option, prepay all of the note at a discount rate of 8%.
- PCI executed a new promissory note for approximately $279,000 plus
interest at 7% per annum representing all advances to PCI to date.
All principal and interest on this note will be offset against the
amounts which are payable to PCI upon a payment event under the
Series O Preferred Stock, described below.
F-20
<PAGE>
GATEWAY ENERGY CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
- The Company issued PCI one share of its Series O preferred stock which
is non-voting and has no dividend rights. The Series O preferred
stock entitles PCI to receive 10% of the consideration paid for the
Company in a sale, merger or exchange less the outstanding balance of
the promissory note executed by PCI. In the event there is no sale,
merger or exchange prior to July 1, 2000, the Company is obligated to
obtain an appraisal to value the Company and PCI is to receive an
amount equal to 10% of the fair market value appraisal, less the
promissory note due to the Company. As a result of this settlement,
the Company recorded an increase to the provision for preferred
dividends of $693,000.
In connection with the Recapitalization discussed in Note B, effective March 1,
1997, PCI exchanged its Series O preferred stock for 214,000 shares of the
Company's common stock and canceled the promissory note due to the Company.
NOTE J - PREFERRED STOCK
Preferred stock consists of the following:
<TABLE>
<CAPTION>
February 28, 1997 February 29, 1996
----------------- -----------------
<S> <C> <C>
NON-VOTING PREFERRED STOCK OF SUBSIDIARY
Series A, 10% cumulative, participating
convertible, $.01 par value, $1,000
stated value, authorized 750 shares;
issued 537.5 shares. (recorded at fair value in
1997 due to Recapitalization; net of issue
costs of approximately $67,000 in 1996).
$ 358,500 $ 470,500
----------- ----------
----------- ----------
NON-VOTING MANDATORY REDEEMABLE PREFERRED STOCK
Series C, $1,000 stated value, authorized
1,000 shares, issued 56.25 shares in 1996. $ - $ 600
Series O, $1.00 par value, 1 share authorized and issued
in 1997. 512,700 -
Series G, 12% cumulative, convertible, $1.00 par
value, $1,000 stated value, authorized 10,000 shares;
issued 7,769.8 shares and 9,749.15 shares in 1997 and
1996, respectively. (recorded at fair value in
1997 due to Recapitalization; net of unamortized issue
costs of approximately $1,414,000 in 1996).
5,882,000 8,334,900
----------- ----------
$ 6,394,700 $8,335,500
----------- ----------
----------- ----------
F-21
<PAGE>
GATEWAY ENERGY CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
NON-VOTING PREFERRED STOCK
Series B, 12% cumulative, convertible,
$1.00 par value, $1,000 stated value,
authorized 4,000 shares; issued 1,650
shares in 1997 and 1,750 shares in 1996. $ 1,700 $ 1,700
Series J, 10% cumulative, convertible,
$1.00 par value, $1,000 stated value,
authorized 750 shares; issued 747.5
shares in 1997 and 1996. 700 700
Series K, 12%, cumulative, convertible,
$1.00 par value, $1,000 stated value,
authorized and issued 750 shares . 800 800
Series L, 12%, cumulative, convertible
$1.00 par value, $1,000 stated value,
authorized 255 shares; issued 238
shares in 1997 and 255 shares in 1996. 200 300
Series M, 12%, cumulative, convertible,
$1.00 par value, $1,000 stated value,
authorized 500 shares; issued 437.5
shares in 1997 and 500 shares in 1996. 400 500
Series N, 12%, cumulative, convertible
$1.00 par value, $1,000 stated value,
authorized 21,000 shares; issued 5,601
shares in 1997 and 3,902 shares in 1996. 5,600 3,900
----------- ----------
$ 9,400 $ 7,900
----------- ----------
----------- ----------
</TABLE>
CONVERSION
All of the Company's preferred stock, excluding Series O, is convertible into
common stock of the Company in whole or in part following the second anniversary
of the dates of issuance. The
F-22
<PAGE>
GATEWAY ENERGY CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
conversion price is equal to a percentage of the average bid price of the common
stock for the ninety days previous to conversion. The conversion percentage for
each series of preferred stock is as follows:
Series A - GPC 85%
Series B, M 89%
Series J 90%
Series K, L 88%
Series G 70%
Series N 80%
SERIES G COLLATERAL AND AMORTIZATION
Series G preferred stock is collateralized by properties and joint venture
interests which were purchased with the proceeds of the offering. A bank
serving as an independent trustee (the "Trustee") holds a first security
interest in those properties in favor of the Series G preferred stockholders.
The Trustee is empowered to liquidate or sell properties in the event that
dividends are not paid or the stock is not redeemed as required.
Issue costs were being amortized to the initial mandatory date and are
reflected as preferred dividends in the accompany statements of operations
using the interest method. The provision for preferred dividends include
$482,100 and $457,100 of such amortization in 1997 and 1996 respectively.
See also Note B regarding adjustment of all preferred stock to fair value as
a result of the March 1997 Recapitalization.
REDEMPTIONS AND CONVERSIONS
The Company redeemed 97 and 96 shares of Series G in 1997 and 1996,
respectively, and converted 1,882 and 155 shares into 714,500 and 21,100 shares
of common shares in 1997 and 1996, respectively.
In 1997 and 1996, Series B stockholders converted 100 shares and 37.5 shares,
respectively, into 15,100 and 4000 shares of common stock.
In 1997, 17 shares of Series L and 62.5 shares of Series M were converted into
3,200 and 11,500 shares of common stock, respectively.
SUSPENSION OF DIVIDENDS AND RECAPITALIZATION
The Company suspended dividend payments effective January 1, 1997, for Series A,
B, J, K, L, and M; December 1, 1996, for Series N; and October 1, 1996, for
Series G.
In connection with the Recapitalization discussed in Note B, all of the
Company's preferred stock was converted into common stock or was exchanged for
10% subordinated notes, common stock
F-23
<PAGE>
GATEWAY ENERGY CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
and common stock purchase warrants. A majority vote of each class of preferred
stock was obtained approving Amended Certificates of Designation which provided
for the exchange.
The Company included dividends accrued through February 28, 1997, in the amounts
which were exchanged in connection with the Recapitalization.
RIGHTS OF PREFERRED STOCKHOLDERS
If, for any class of preferred stock, the Company (i) is in arrears on
dividends, (ii) has failed to pay or set aside any amounts required to be paid
or set aside for any sinking funds, or (iii) is in default on any of its
redemption obligations, then no dividends shall be paid or declared on any
common stock nor shall any common stock be purchased or redeemed by the Company.
AUTHORIZED SHARES
During 1997, the Company decreased its authorized preferred stock from 1,750,000
shares to 10,000 shares.
NOTE K - INCOME TAXES
The provision for income taxes for the years ended February 28, 1997 and
February 29, 1996 consisted of the following:
1997 1996
---- ----
Current $346,000 $ 45,000
Benefit of tax net operating loss carryforwards (280,000) (11,000)
-------- --------
Total $ 66,000 $ 34,000
-------- --------
-------- --------
The differences between income taxes computed using the average statutory
federal income tax rates of 34% and 17%, respectively, and the provision for
income taxes for the years ended February 28, 1997 and February 29, 1996
follow:
1997 1996
---- ----
Taxes at statutory rate $ 99,000 $(10,000)
State income taxes, net of federal tax benefit 32,000 34,000
Decrease in valuation allowance (198,000) -
Capital loss carryforward 14,000 -
Goodwill amortization and other nondeductible
expenses 117,000 -
Other 2,000 10,000
-------- --------
$ 66,000 $ 34,000
-------- --------
-------- --------
F-24
<PAGE>
GATEWAY ENERGY CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
The tax effects of the temporary differences that give rise to deferred tax
assets and liabilities follow:
February 28, February 29,
1997 1996
------------ ------------
Deferred tax assets:
Net operating loss carryforwards $566,000 $2,648,000
Deferred compensation 13,000 19,000
Excess tax over financial basis of
property and equipment 121,000 -
Other 46,000 22,000
-------- ----------
746,000 2,689,000
Deferred tax liability - excess financial
over tax basis of property and
equipment - (2,000)
Valuation allowance (746,000) (2,687,000)
-------- ----------
$ - $ -
-------- ----------
-------- ----------
The decrease in the valuation allowance was $1,941,000 and $211,000 during 1997
and 1996, respectively. The decreases in both years result primarily from the
expiration of net operating loss carryforwards.
At February 28, 1997, the Company had approximately $1,700,000 federal net
operating loss carryforwards which may be applied against future taxable income
and which expire from 1998 through 2011.
NOTE L - EMPLOYEE BENEFITS
The Company offers various benefits to its employees, as follows:
401(k) SAVINGS PLAN
The Company has a 401(k) savings plan covering substantially all employees at
least 21 years of age with at least one year of service. The Company can make
discretionary contributions with Board of Directors' approval. Total Company
contributions to the plan were $10,400 and $7,700 for the years ended February
28, 1997 and February 29, 1996, respectively.
STOCK OPTION PLAN
The Company has an "incentive and nonqualified stock option plan" which provides
for the granting of (1) incentive stock options, (2) nonqualifying stock options
and (3) stock appreciation rights (SAR's) to key officers and employees. A
total of 20,000 shares of common stock has been reserved for issuance under the
plan. Under the terms of the plan, the exercise price, determined by a
committee of the Board of Directors ("the Committee"), shall be determined at
the time of grant but shall not be less than 100% of the common stock fair
market value (as defined) for incentive stock options and not less than 75% of
the fair market value for nonqualified stock options. The term of
F-25
<PAGE>
GATEWAY ENERGY CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
each option shall be fixed by the Committee but may not exceed ten years. The
above options may be issued with SAR's attached as described below.
SAR's permit the holder to exercise such SAR's for cash, common stock or any
combination thereof in an amount equal to the difference between the market
price (as defined) on the date of exercise and the option price at the date of
grant. On December 1, 1994, incentive stock options with attached SAR's for
13,000 shares of common stock were issued to two officers of the Company at an
exercise price of $6.25 per share. Up to 50% of the options may be exercised
one year following the date of grant and 50% may be exercised two years
following the date of grant, with the options and SAR's expiring ten years from
the date of grant. All options and SAR's are still outstanding at February
28, 1997.
During 1997, a compensation credit of $35,000 was recognized related to SARs
due to a decrease in the market price of the Company's stock. During 1996, a
compensation charge of $35,000 was incurred related to SARs due to an
increase in the market price of the Company's stock.
COMMON STOCK WARRANTS
Stock purchase warrants for 1,188 shares of common stock were issued December 1,
1994 to selected employees as part of their 1995 compensation. Such
warrants, which are all outstanding, are exercisable at $4.00 per share through
February 2000.
NOTE M - LEASES
The Company leases office space and certain equipment under operating leases
expiring at various times through March 2000. The majority of the equipment
leases are month-to-month leases. Rent expense totaled approximately $512,000
and $643,000 during 1997 and 1996, respectively.
NOTE N - RELATED PARTY TRANSACTIONS
During the year ended February 28, 1997, PCI received cash payments of $167,500
and 9,000 shares of common stock at a total recorded cost of $36,400, for
various services related to preferred stock fundraising and property
acquisitions. A director received $6,400 for services related to stock
subscription administration.
Included in accounts payable at February 28, 1997, are amounts due PCI of
$24,000. The $298,700 note receivable from a related party represents a note
from PCI for advances to and expenses paid on its behalf related to fundraising
activities. The note is collateralized by the Series O preferred stock, bears
interest at 7% and is due no later than July 1, 2000. This note was cancelled
subsequent to year end in connection with the exchange of Series O preferred
stock for common stock in connection with the Recapitalization.
During the year ended February 29, 1996, PCI received cash payments of
approximately $231,000 and a director received cash payments of approximately
$15,000 for services relating to various preferred stock fundraising activities,
for due diligence and other services relating to property
F-26
<PAGE>
GATEWAY ENERGY CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
acquisitions. PCI also received 4,800 shares of restricted common stock related
to Series G offering costs at a total recorded value of approximately $29,000.
Included in accounts payable at February 29, 1996 are amounts due PCI and
members of Company management and joint venture operators totaling approximately
$57,000. The $278,700 note receivable to a related party represents a note due
from PCI for advances to and expenses paid on its behalf relating to fundraising
activities. The note is collateralized by all Series C preferred stock, bears
interest at 7% and is due no later than February 1999. The note payable to
officer represents a demand promissory note, with interest payable quarterly at
the national prime rate. In addition, GPC has notes payable totaling
approximately $202,000 relating to certain business acquisitions and office
equipment purchases with certain officers and directors of GPC and CEI.
Interest expense on these notes was approximately $34,000 for the year ended
February 29, 1996. GPC and CEI also paid approximately $62,000 in consulting
fees to a director of GPC and CEI during 1996.
NOTE O - COMMITMENTS, CONTINGENCIES AND UNCERTAINTIES
The Company and its subsidiaries are parties to litigation and claims arising in
the normal course of business. Management, after consultation with legal
counsel, believes that the liabilities, if any, arising from such litigation and
claims will not be material to the consolidated financial statements.
The Company has certain joint venture pipeline systems with a carrying value of
$2,400,000 at February 28, 1997 that generated marginal or negative cash flows
during the year ended February 28, 1997. The Company is undertaking plans in
fiscal 1998 that include obtaining management control of these systems,
increasing volume throughput and reducing operating costs. The Company also
believes that if these systems were sold, the net proceeds would exceed the
carrying value of the systems. Given the early stages of the implementation of
these plans, it is reasonably possible the Company's estimate that it will
recover the carrying amount of the pipelines from future operations or sale will
change in the near term.
NOTE P - SUPPLEMENTAL CASH FLOW INFORMATION
Cash paid for interest was $268,900 and $108,300 in 1997 and 1996, respectively.
Cash paid for income taxes was $16,000 and $62,900 in 1997 and 1996,
respectively.
NONCASH INVESTING AND FINANCING ACTIVITIES
During 1997, approximately 851,800 shares of restricted common stock were
issued as part of various preferred stock conversions and for offering costs
of $243,200 and debt issuance costs of $188,400. Certain Series G mandatory
redeemable preferred stockholders converted 1,882 shares with a carrying
value of approximately $1,653,000, which included approximately $229,000 of
issue costs that were charged to additional paid-in capital, to 714,500
shares of common stock.
F-27
<PAGE>
GATEWAY ENERGY CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
As described in Note I, the Company redeemed the Series C mandatory
redeemable preferred stock and recorded a charge to additional paid-in
capital of $693,000. Also during 1997, the carrying value of Series G and
Series O preferred stock was decreased by $587,200 through a credit to
additional paid-in capital, representing amortization of issue costs of
$482,100 offset by an adjustment to fair value of $1,069,300 as a result of
the Recapitalization discussed in Note B.
During 1997, bridge notes of $375,000 were exchanged for promissory notes of
$367,100 and common stock and common stock warrants of $7,900. The Company
also sold its investment in CEI in exchange for cancellation of notes payable
of $138,800.
As described in Note C, during 1997 the Company purchased all the capital
stock of Venture Resources, Inc. for $1,305,000. In connection with the
acquisition, $66,000 of liabilities were assumed.
During 1996, approximately 17,900 shares of restricted common stock were issued
as part of various preferred stock conversion activities and for offering costs.
Additionally, 100 shares of Series A preferred stock of GPC were issued to a
stockholder of GEC for a $100,000 reduction of a short-term promissory note.
The Company also entered into a promissory note with an officer of GPC for
approximately $19,000 for the purchase of office equipment. During the
formation of Castex LP in 1996, the minority owners contributed approximately
$203,000 of oil and gas producing properties. Certain stockholders also
converted 155 shares of Series G mandatory redeemable preferred stock with a
carrying value of approximately $137,200, which included approximately $18,000
of issue costs that was charged to additional paid-in capital, to approximately
21,100 shares of common stock. Also during 1996, the carrying value of Series G
preferred stock was increased by approximately $457,000 through a charge to
additional paid-in capital, representing amortization of issue costs.
As described in Note C, during 1996 the Company acquired assets and assumed
certain liabilities in connection with business acquisitions, as follows:
Fair value of assets acquired $ 11,588,500
Cash paid (11,097,600)
-------------
Liabilities assumed $ 490,900
-------------
-------------
NOTE Q - FINANCIAL INSTRUMENTS
The following estimated fair value information pertains to the Company's
financial instruments and is based on the requirements set forth in FASB
Statement No. 107, DISCLOSURES ABOUT FAIR VALUE OF FINANCIAL INSTRUMENTS, and
does not purport to represent the aggregate net fair value of the Company.
The following methods and assumptions were used to estimate the fair value of
each class of financial instruments for which it is practicable to estimate that
value:
CASH AND CASH EQUIVALENTS, OTHER CASH AND NOTE RECEIVABLE: The carrying amounts
of cash and cash equivalents, restricted cash and cash escrowed for acquisitions
and the note receivable - related party approximate fair value because of the
short maturity of those instruments.
NOTES PAYABLE AND NOTE PAYABLE TO OFFICER: The estimated fair values of
notes payable are based on the borrowing rates currently available to the
Company for bank loans with similar terms and average maturities.
LONG-TERM DEBT: The fair values of the Company's long-term debt are estimated
using discounted cash flow analyses based on the Company's current incremental
borrowing rates for similar types of borrowing arrangements.
F-28
<PAGE>
GATEWAY ENERGY CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
MANDATORY REDEEMABLE PREFERRED STOCK: In 1997, the estimated fair values of
mandatory redeemable preferred stock approximated their carrying values due
to adjustments required as part of the Recapitalization described in Note B.
The fair values were based on the estimated fair values of common stock,
warrants and subordinated notes issued in connection with the
Recapitalization. In 1996, the estimated fair values of mandatory redeemable
preferred stock are estimated using a discounted cash flow calculation that
applies interest rates currently being offered to a schedule of aggregated
expected maturities. The carrying amount of accrued dividends approximates
its fair value.
DERIVATIVE FINANCIAL INSTRUMENTS: Estimated fair values for derivative
financial instruments used by Castex LP (interest rate and commodity price
swaps and collars) are based on pricing models or formulas using current
assumptions.
The estimated fair values of the Company's financial instruments are as follows:
<TABLE>
<CAPTION>
February 28, 1997 February 29, 1996
----------------- -----------------
Carrying Estimated Carrying Estimated
amount fair value amount fair value
of assets of assets of assets of assets
(liabilities) (liabilities) (liabilities) (liabilities)
------------ ------------- ------------- -------------
<S> <C> <C> <C> <C>
Financial assets:
Cash and cash equivalents $ 329,500 $ 329,500 $1,572,600 $1,572,600
Restricted cash and cash
escrowed for acquisitions 2,100 2,100 805,800 805,800
Note receivable - related party 298,700 298,700 278,700 278,700
Financial liabilities:
Notes payable and note
payable to officer (379,300) (379,300) (1,407,100) (1,407,100)
Long-term debt:
Castex LP bank credit agreement - - (9,500,000) (9,500,000)
Other (1,372,700) (1,364,400) (201,700) (209,800)
Mandatory redeemable preferred stock (6,394,700) (6,394,700) (8,335,500) (10,028,200)
Derivative financial instruments Castex LP:
Interest rate swap - - - (100,300)
Commodity price swaps and Dollars - - - (524,500)
Derivative financial instruments are used by Castex LP to reduce exposures to market risks resulting
from fluctuations in interest rates and gas prices. Castex LP does not enter into financial instruments
</TABLE>
F-29
<PAGE>
GATEWAY ENERGY CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
for trading or speculative purposes. The counter-party to these contracts is a
major financial institution. Management believes that risk of loss is remote
and would not be material.
INTEREST RATE RISK MANAGEMENT
Castex LP uses interest rate swaps to manage interest rate risk related to
certain borrowings. Interest rate swap agreements are used to hedge bank debt
and mature with these borrowings. The swaps convert the debt to fixed rate U.S.
dollar liabilities. Interest expense under these agreements, and the respective
debt instruments that they hedge, are recorded at the net effective interest
rate of the hedged transactions.
FUTURES CONTRACTS RISK MANAGEMENT
Castex LP enters into natural gas swap and collar contracts to reduce its
exposure to price risk in the spot market for natural gas. These contracts
settle monthly through December 1998 and are scheduled to coincide with monthly
gas production equivalent to approximately 100,000 MMBTU per month during that
period. The contracts represent agreements between Castex LP and a third
party to exchange cash based on a designated price, or a designated range of
prices for collars. Prices are referenced to natural gas futures contracts
traded on the New York Mercantile Exchange. Cash settlement occurs 120 days
subsequent to the production month. Castex LP accounts for gains and losses
as an adjustment of oil and gas sales in the period of the hedged production.
Financial instruments and risk management information related to Castex LP is
presented for 1996 only, as Castex LP was accounted for using the equity
method in 1997.
F-30
<PAGE>
GATEWAY ENERGY CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
NOTE R - SEGMENTS AND MAJOR CUSTOMERS
The Company operates in two major lines of business for the year ended February
29, 1996. As discussed in Note A, the Company began accounting for its
investment in Castex LP using the equity method in fiscal 1997. This investment
constituted substantially all of the Company's oil and gas operations. See Note
D for summarized financial information of Castex LP. Other than the Company's
equity investment in the earnings of Castex LP, the consolidated financial
statements for the year ended February 28, 1997, present information concerning
the gas gathering, processing and transportation operations. Information
concerning operations in these businesses for the year ended February 29, 1996,
is presented below.
<TABLE>
<CAPTION>
Gas gathering,
Oil and gas processing
producing and
activities transportation Corporate Consolidated
---------- -------------- --------- ------------
<S> <C> <C> <C> <C>
Sales $ 1,051,700 $12,079,700 $ - $13,131,400
Depreciation,
depletion and
amortization $ 414,700 $ 667,500 $ 7,700 $ 1,089,900
Operating profit
(loss) $ 71,100 $ 1,198,600 $(1,181,800) $ 87,900
Identifiable assets $ 14,342,000 $ 14,079,600 $ 1,299,600 $29,721,200
Capital expenditures $ 11,163,400 $ 2,513,500 $ 13,100 $13,690,000
</TABLE>
All customers with sales exceeding 10% of total revenue are in the gas gathering
segment. Gross sales as a percentage of total revenue to these customers are as
follows:
Year ended
February 28, February 29,
1997 1996
-------------- ---------------
Customer A 28% 22%
Customer B 16% 9%
The Company's natural gas pipeline operations have a concentration of customers
in the natural gas transmission, distribution and petrochemical industries.
These concentrations of customers may impact the Company's overall exposure to
credit risk, either positively or negatively, in that the customers may be
similarly affected by the changes in economic or other conditions. The
Company's accounts receivable are generally not collateralized.
F-31
<PAGE>
GATEWAY ENERGY CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
NOTE S - COMMON STOCK WARRANTS
During fiscal 1997 and 1996, the Company issued common stock warrants in
connection with various preferred stock and debt issuances and for services
provided. The warrants entitled the holders to purchase shares of the
Company's common stock at prices ranging from $2.50 to $8.75 per share and
were exercisable at various dates through April 2000. In conjunction with
the Recapitalization, the exercise price for substantially all warrants were
modified to $3.00 per share. Warrants with expiration dates prior to
March 1, 1999, were extended to that date. At February 28, 1997 and
February 29, 1996, the Company had warrants outstanding which entitled
holders to purchase 208,800 and 53,600 shares, respectively.
NOTE T - FOURTH QUARTER ADJUSTMENTS
Aggregate year end adjustments recorded in the fourth quarter reduced net
earnings by approximately $295,000.
NOTE U - ASSETS HELD FOR SALE
On May 29, 1997, the Company signed a Letter of Intent to sell its oil and
gas producing interests including its equity investment in Castex LP for an
amount in excess of current carrying value. The sale is expected to be
completed during fiscal 1998. The carrying value of assets held for sale as
of February 28, 1997 is as follows:
Equity investment in Castex LP $2,022,700
Other oil and gas producing interests, net 1,002,200
---------
$3,024,900
---------
---------
F-32
<PAGE>
GATEWAY ENERGY CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
SUPPLEMENTAL FINANCIAL DATA
(UNAUDITED)
The following 1997 and 1996 supplemental unaudited information regarding the
Company's proved oil and gas reserves, all of which are located in the United
States, is presented pursuant to the disclosure requirements prescribed by the
Securities and Exchange Commission and Statement of Financial Accounting
Standards No. 69, DISCLOSURES ABOUT OIL AND GAS PRODUCING ACTIVITIES. As
discussed in Note A, the Company began accounting for its investment in Castex
LP using the equity method in fiscal 1997. This investment constitutes
substantially all of the Company's oil and gas operations. Accordingly, 1997
oil and gas disclosures relate only to the Company's equity in Castex LP.
The reserve estimates are based primarily on reports prepared by an independent
petroleum engineer and, to a lesser extent, an internally prepared reserve
study. There are numerous uncertainties inherent in estimating quantities of
proved reserves and projecting future rates of production and timing of
development activities. Revision of prior year estimates can have a significant
impact on the results. Also, exploration costs in one year may lead to
significant discoveries in later years and may significantly change previous
reserves and their valuation. Values of unproved properties and anticipated
future price and cost increases or decreases are not considered. Therefore, the
Standardized Measure should be viewed with caution and not construed as a "best
estimate" of the fair value of the Company's oil and gas properties or of future
net cash flows.
ESTIMATED QUANTITIES OF OIL AND GAS RESERVES
Year ended
February 29, 1996
------------------
(Oil) (Gas)
----- -----
Proved developed and undeveloped reserves
Beginning of period 45,000 434,000
Revision of previous estimates 2,000 (25,000)
Purchase of reserves 33,000 11,640,000
Extensions and discoveries - 186,000
Production (5,000) (355,000)
--------- -------------
End of period 75,000 11,880,000
--------- -------------
--------- -------------
Proved developed reserves
Beginning of period 45,000 434,000
End of period 73,000 11,066,000
The above includes reserves of approximately 22,000 bbls and 3,534,000 MCF
attributable to minority interest ownership in a consolidated subsidiary.
For the year ended February 28, 1997, the Company's equity in proved reserves
for Castex LP was approximately 100,000 bbls and 12,900,000 MCF.
F-33
<PAGE>
SUPPLEMENTAL FINANCIAL DATA - CONTINUED
(UNAUDITED)
STANDARDIZED MEASURE OF DISCOUNTED FUTURE NET CASH FLOWS
Year ended
February 29, 1996
-----------------
Future oil and gas revenues $23,547,000
Future production and development costs (5,665,000)
Future income tax expense (1,468,000)
-------------
Future net cash flows 16,414,000
Discounted at 10% for estimated timing
of cash flows (4,596,000)
-------------
Standardized measure of discounted future
net cash flows $11,818,000
-------------
-------------
The above estimated future income taxes are computed by applying the appropriate
statutory tax rates to the future pretax net cash flows of proved reserves, net
of the tax basis of the oil and gas properties and estimated statutory
depletion.
The above total standardized measure of discounted future cash flows includes
$3,515,000 which is attributable to minority interest ownership in a
consolidated subsidiary. For the year ended February 28, 1997, the Company's
equity in discounted future net cash flows of Castex LP was $14,300,000.
F-34
<PAGE>
GATEWAY ENERGY CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
CHANGES IN STANDARDIZED MEASURE OF DISCOUNTED FUTURE NET CASH FLOWS
Year ended
February 29, 1996
-----------------
Sales and transfers of oil and gas produced,
net of production costs $ (736,000)
Net changes in prices and production costs 56,000
Extensions and discoveries, less related costs 264,000
Costs incurred during the period which reduced
future development costs 70,000
Revisions of previous quantity estimates (4,000)
Accretion of discount 64,000
Purchases of reserves 12,205,000
Net change in income taxes (924,000)
Other 322,000
------------
Net increase 11,317,000
Balance at beginning of period 501,000
------------
Balance at end of period $11,818,000
------------
------------
Changes in the standardized measure for the year ended February 28, 1997 are not
presented as a result of the Company's change in accounting for its investment
in Castex LP to the equity method.
F-35
<PAGE>
EXHIBIT 3(b)
CERTIFICATE OF AMENDMENT
OF
RESTATED CERTIFICATE OF INCORPORATION
OF
GATEWAY ENERGY CORPORATION
Gateway Energy Corporation (the "Corporation"), a corporation organized and
existing under and by virtue of the General Corporation Law of the State of
Delaware (the "DGCL"), DOES HEREBY CERTIFY:
FIRST, that the board of directors and shareholders of the Corporation, in
accordance with the provisions of the DGCL, duly adopted a resolution setting
forth the proposed amendment to its Restated Certificate of Incorporation (the
"Amendment") of said Corporation, declaring said Amendment to be desirable,
advisable, and in the best interest of the Corporation. The resolution setting
forth the proposed Amendment is as follows:
NOW, THEREFORE, BE IT RESOLVED, that Article I of the Restated
Certificate of Incorporation of the Corporation be deleted and amended in its
entirety to read as follows:
FOURTH. Effective March 4, 1997, the shares of Common Stock
outstanding on that date shall be split 1 for 25 with the result that each 25
shares of outstanding Common Stock shall become 1 share of outstanding Common
Stock. The total aggregate number of shares which the Company shall have
authority to issue is ten million, ten thousand (10,010,000) shares designated
as follows: (i) ten million (10,000,000) shares of Common Stock, par value $.25
per share; and (ii) ten thousand (10,000) shares of Preferred Stock, par value
$1.00 per share, which shares of Preferred Stock may be issued in series, all
with such rights, privileges, restrictions and preferences as the Board of
Directors may authorize from time to time.
SECOND, that said Amendment was duly adopted in accordance with the
provisions of Section 242 of the DGCL.
IN WITNESS WHEREOF, Gateway Energy Corporation has caused this Certificate
of Amendment to be signed by Larry J. Horbach, its President, and attested by
Roger E. Pfeifer, its Assistant Secretary, this 3rd day of March, 1997.
GATEWAY ENERGY CORPORATION
By: /s/ Larry J. Horbach
-------------------------------------
Larry J. Horbach, President
<PAGE>
EXHIBIT 3(c)
CERTIFICATE OF AMENDMENT
OF
RESTATED CERTIFICATE OF INCORPORATION
OF
GATEWAY ENERGY CORPORATION
Gateway Energy Corporation (the "Corporation"), a corporation organized and
existing under and by virtue of the General Corporation Law of the State of
Delaware (the "DGCL"), DOES HEREBY CERTIFY:
FIRST, that the board of directors and shareholders of the Corporation, in
accordance with the provisions of the DGCL, duly adopted a resolution setting
forth the proposed amendment to its Restated Certificate of Incorporation (the
"Amendment") of said Corporation, declaring said Amendment to be desirable,
advisable, and in the best interest of the Corporation. The resolution setting
forth the proposed Amendment is as follows:
NOW, THEREFORE, BE IT RESOLVED, that Article I of the Restated
Certificate of Incorporation of the Corporation be deleted and amended in its
entirety to read as follows:
FOURTH. The total aggregate number of shares which the Company
shall have authority to issue is Seventy-Six Million, Seven Hundred Fifty
Thousand (76,750,000) shares designated as follows: (i) Seventy-Five Million
(75,000,000) shares of Common Stock, par value $.01 per share; and (ii) One
Million, Seven Hundred Fifty Thousand (1,750,000) shares of Preferred Stock, par
value $1.00 per share, which shares of Preferred Stock may be issued in series,
all with such rights, privileges, restrictions and preferences as the Board
of Directors may authorize from time to time.
SECOND, that said Amendment was duly adopted in accordance with the
provisions of Section 242 of the DGCL.
IN WITNESS WHEREOF, Gateway Energy Corporation has caused this Certificate
of Amendment to be signed by Larry J. Horbach, its President, and attested by
Roger E. Pfeifer, its Assistant Secretary, this 29th day of July, 1996.
GATEWAY ENERGY CORPORATION
By: /s/ Larry J. Horbach
-------------------------------------
Larry J. Horbach, President
ATTEST:
/s/ Roger E. Pfeifer
- ------------------------------
Roger E. Pfeifer, Assistant Secretary
<PAGE>
EXHIBIT 3(d)
CERTIFICATE OF AMENDMENT
OF
RESTATED CERTIFICATE OF INCORPORATION
OF
GATEWAY GATHERING SYSTEMS, INC.
Gateway Gathering Systems, Inc. (the "Corporation"), a corporation
organized and existing under and by virtue of the General Corporation Law of the
State of Delaware (the "DGCL"), DOES HEREBY CERTIFY:
FIRST, that the board of directors and shareholders of the Corporation, in
accordance with the provisions of the DGCL, duly adopted a resolution setting
forth the proposed amendment to its Restated Certificate of Incorporation (the
"Amendment") of said Corporation, declaring said Amendment to be desirable,
advisable, and in the best interest of the Corporation. The resolution setting
forth the proposed Amendment is as follows:
NOW, THEREFORE, BE IT RESOLVED, that Article I of the Restated
Certificate of Incorporation of the Corporation be deleted and amended in its
entirety to read as follows:
FIRST. The name of the corporation is Gateway Energy Corporation.
SECOND, that said Amendment was duly adopted in accordance with the
provisions of Section 242 of the DGCL.
IN WITNESS WHEREOF, Gateway Gathering Systems, Inc. has caused this
Certificate of Amendment to be signed by Larry J. Horbach, its President, and
attested by Roger E. Pfeifer, its Assistant Secretary, this 28th day of
July, 1995.
GATEWAY GATHERING SYSTEMS, INC.
By: /s/ Larry J. Horbach
-------------------------------------
Larry J. Horbach, President
ATTEST:
/s/ Roger E. Pfeifer
- ------------------------------
Roger E. Pfeifer, Assistant Secretary
<PAGE>
EXHIBIT 10(b)
EMPLOYMENT AGREEMENT
THIS AGREEMENT is made and entered into effective the 1st day of July, 1996
by and among Gateway Energy Corporation, a Delaware corporation, ("Company") and
Donald L. Anderson ("Employee").
WITNESSETH
WHEREAS, the Company and Pipeline Capital, Inc., and each of its
stockholders, ("PCI") have entered into a Settlement and Purchase Agreement
dated May 6, 1996 to settle and resolve all differences between them; and
WHEREAS, the Settlement and Purchase Agreement contemplates that Employee
will be employed by the Company on the terms hereinafter set forth.
NOW, THEREFORE, in consideration of the above premises and the mutual
covenants contained herein and other good and valuable consideration, the
receipt and sufficiency of which are hereby acknowledged, the parties agree as
follows:
1. EMPLOYMENT. Company and Employee agree that Employee's employment
with Company shall be governed by the terms and conditions of this Agreement.
During the term of this Agreement, Employee shall serve as Vice-President -
Shareholder Relations. Employee shall perform such duties and exercise such
powers pertaining to his office as may be determined from time to time by the
President or Chief Executive Officer of the Company, provided such duties and
powers shall be consistent with those normally expected of persons holding
similar positions. Employee's duties are subject to reasonable modifications
based on future developments in the Company's business.
2. TERM. The term of employment of Employee by Company under this
Agreement shall be from the effective date of this Agreement until July 1, 2000,
unless otherwise terminated pursuant to Section 7 below.
3. COMPENSATION. In return for his services to the Company pursuant to
this Agreement, Employee shall receive compensation equal to $6,000 per month
for the term of this Agreement. Company shall deduct and withhold from all
compensation payable hereunder withholding and other applicable taxes in the
manner provided by law.
4. EXTENT OF SERVICES. Employee shall devote his entire time, attention
and best efforts to the business of the Company. During the term of this
Agreement, Employee shall not enter into employment with any other person or
engage in any other business activity without the prior written consent of the
Board of Directors of the Company.
<PAGE>
5. WORKING FACILITY. Employee will perform his services hereunder in
Palm Desert, California unless otherwise agreed by both parties to this
Agreement.
6. BENEFITS. Employee shall be entitled to participate on substantially
the same terms as the other management level employees of the Company in group
insurance, retirement plans and other benefit programs established by the
Company in accordance with the personnel policies and benefit programs as
established by the Company from time to time during the term of Employee's
employment. Employee's participation under any group insurance programs,
retirement plans or other benefit programs shall be subject to the applicable
terms and conditions of the same. This paragraph shall not be construed as a
commitment on the part of the Company to establish, maintain or continue any
such plans or programs.
7. TERMINATION OF EMPLOYMENT. The employment of Employee by the Company
shall terminate upon the occurrence of any of the following events:
a. Employee's employment shall terminate automatically on the death of
Employee.
b. Employee's employment shall terminate upon the disability of Employee.
"Disability" shall mean a physical or mental condition of Employee
resulting form bodily injury, disease or mental disorder which renders
him incapable of continuing his usual and customary employment with
the Company for the foreseeable future. Disability shall be
determined by a majority vote of a panel of three (3) licensed
physicians with one chosen by the Company, one chosen by the Employee,
and one chosen by the other two physicians. Said Disability shall be
deemed effective immediately upon the rendering of said majority vote.
c. Employee's employment shall terminate upon the occurrence of the sale
of all or substantially all of the assets of the Company; the merger
of the Company with another company, a majority or more of the stock
of which after the merger is not owned by the then current
stockholders of the Company; or the sale or transfer by the then
current stockholders of the Company of more than a majority of the
common stock of the Company owned by them to a third party.
d. Company may terminate Employee's employment immediately for "good
cause" which shall be limited to the following circumstances:
(i) the willful and continued failure by the Employee to
substantially perform the duties required under this
Agreement (other than any failure resulting from an illness
or other similar incapacity or Disability) for a period of
thirty (30) days after written demand for performance is
delivered to Employee on behalf of the Board of Directors of
the Company which specifically identifies the manner in
which it is alleged that the Employee has not substantially
performed his duties;
2
<PAGE>
(ii) the engaging by the Employee of misappropriation of funds,
properties or assets of the Company, sexual harassment of
employees of the Company, chronic alcoholism or drug
addiction, slander or liable concerning the Company, or a
material tort relating to his office or employment with the
Company which has a material or adverse effect on the
Company;
(iii) Employee's conviction of a crime constituting a felony; or
(iv) if Employee acts in bad faith or with negligence or willful
disregard to his duties or contrary to established
employment policies of the Company or if Employee commits an
act or acts of fraud.
8. PAYMENTS ON TERMINATION.
a. Upon termination of Employee's employment pursuant to Section 7(a),
(b) or (c), the Company shall pay to Employee, or if the termination
is as a result of the death of the Employee to his personal
representative, termination pay as follows:
(i) Employee shall receive compensation equal to all remaining
salary due to the Employee under the terms of this
Agreement, reduced to present value, at a discount rate
equal to 8%;
(ii) Employee shall receive any bonuses declared by the Board of
Directors with respect to Employee's services prior to the
effective date of termination, but unpaid as of such date;
(iii) Employee shall receive any incentive compensation, deferred
compensation or similar payments to which Employee is
entitled under the terms of any plan, arrangement or policy
established by the Company and relating to such
compensation.
b. Upon termination of Employee's employment pursuant to Section 7(d),
the Company shall pay to Employee termination pay as follows:
(i) Employee shall receive compensation equal to the pro rata
portion of his monthly salary due to Employee on the date of
termination;
(ii) Employee shall receive any bonuses declared by the Board of
Directors with respect to Employee's services prior to the
effective date of termination, but unpaid as of such date;
3
<PAGE>
(iii) Employee shall receive any incentive compensation, deferred
compensation or similar payments to which Employee is
entitled under the terms of any plan, arrangement or policy
established by the Company and relating to such
compensation.
The payments under Section 8 shall be paid by the Company within thirty
(30) days of the effective date of termination of employment. Any payments
due under subparagraph a(iii) or b(iii) above, shall be paid in the manner
and in accordance with the terms of any such plan, arrangement or policy.
9. APPLICABLE LAW. The validity and construction of this Agreement or
any of its provisions shall be governed by and determined in accordance with
the laws of the State of Nebraska.
10. ENTIRE AGREEMENT. This Agreement contains the entire understanding
between the parties hereto and supersedes all other oral and written
agreements or understandings between them relating to the Employee's
employment. No modification or addition hereto or waiver or cancellation of
any provision herein shall be valid except by a writing signed by the party
to be charged therewith.
11. NON-WAIVER. No delay or failure by either party to exercise any
right under this Agreement and no partial or single exercise or waiver of that
right shall constitute a waiver of that or any other or future right.
12. NOTICES. Any notices to be delivered under this Agreement shall be
given in writing and delivered, personally, via telefax or similar electronic
transmission, or by certified mail, postage prepaid, addressed to the Company
or to the Employee at their last known address. Any such notice shall be
deemed given when actually received by the party to whom the same is directed.
13. SUCCESSORS AND ASSIGNS. This Agreement shall be binding upon and
shall inure to the benefit of the parties hereto and there heirs, personal
representatives, successors and assigns; provided, however, in no event may
Employee assign any of his duties or obligations under this Agreement.
14. HEADINGS. The headings herein are inserted only as a matter of
convenience and reference and in no way define, limit, or describe the scope of
this Agreement or the intent of any of the provisions hereof.
4
<PAGE>
IN WITNESS WHEREOF, the parties have duly executed this Agreement on
May 6, 1996, to be effective July 1, 1996.
GATEWAY ENERGY CORPORATION, a
Delaware Corporation
By:
------------------------------------
Its
--------------------------------
---------------------------------------
Donald L. Anderson
5
<PAGE>
GATEWAY ENERGY CORPORATION AND SUBSIDIARIES
STATEMENT REGARDING COMPUTATION OF PER SHARE EARNINGS
EXHIBIT 11
<TABLE>
<CAPTION>
Year ended
--------------------------------
February 28, February 29,
1997(2) 1996(2)
------------ -------------
<S> <C> <C>
Weighted average number of common shares
outstanding 1,350,958 1,046,115
Add net shares issuable pursuant to warrant
agreements less shares assumed repurchased
at the average market price 12,866(1) 2,445(1)
Add shares issuable assuming conversion
of Series C preferred stock into common
stock 938(1) 5,625(1)
Add net shares pursuant to stock options less
shares assumed repurchased at the average
market price 1,506(1) 7,239(1)
----------- -----------
Tentative number of shares for computation of
primary earnings per share 1,366,268 1,061,424
Add additional net shares issuable pursuant
to warrant agreements less shares assumed
repurchased at the higher of the period end
or average market price -- 45
Add additional dilutive shares issuable assuming
conversion of Series B,G,J,K,L,M,N & A
preferred stock into common stock 4,524,725 1,539,174
----------- -----------
Tentative number of shares for computation
of fully diluted earnings per share 5,890,993 2,600,643
----------- -----------
----------- -----------
Loss applicable to common stock for purposes
of computing primary earnings per share $(1,283,300) $(2,415,700)
Add provision for preferred dividends
relating to convertible preferred stock 1,508,700 2,323,000
----------- -----------
Net earnings (loss) for computation of fully
diluted earnings per share $ 225,400 $ (92,700)
----------- -----------
----------- -----------
Loss per common share - primary, excluding
common stock equivalents $(0.95) $(2.31)
------ ------
------ ------
Earnings (loss) per common share - fully diluted $ 0.04 $(0.04)
------ ------
------ ------
</TABLE>
(1) Not used in primary earnings per share calculations as the effect would be
antidilutive.
(2) All share data reflects the retroactive effect to a one-for-twenty five
reverse split effected on March 4, 1997, to holders of record on that date.
<PAGE>
GATEWAY ENERGY CORPORATION AND SUBSIDIARIES
EXHIBIT 21-SUBSIDIAIRES
COMPANY STATE PERCENT OWNED
- ------- ----- -------------
Gateway Pipeline Co. Missouri 90%
Gateway Energy Marketing Texas 100%
Venture Resources, Inc. Texas 100%
Fort Cobb Oklahoma Irrigation
Fuel Authority,L.L.C. Oklahoma 99%
Shoreham Gathering Company Nebraska 80%
Ozark Natural Gas Company Missouri 100%
<TABLE> <S> <C>
<PAGE>
<ARTICLE> 5
<S> <C>
<PERIOD-TYPE> YEAR
<FISCAL-YEAR-END> FEB-28-1997
<PERIOD-END> FEB-28-1997
<CASH> 331,600
<SECURITIES> 0
<RECEIVABLES> 2,834,700
<ALLOWANCES> 15,100
<INVENTORY> 55,200
<CURRENT-ASSETS> 3,586,900
<PP&E> 12,174,400
<DEPRECIATION> 1,839,000
<TOTAL-ASSETS> 18,115,800
<CURRENT-LIABILITIES> 3,235,400
<BONDS> 1,173,600
6,394,700
9,400
<COMMON> 482,400
<OTHER-SE> 5,316,500
<TOTAL-LIABILITY-AND-EQUITY> 18,115,800
<SALES> 16,190,000
<TOTAL-REVENUES> 18,136,900
<CGS> 12,630,000
<TOTAL-COSTS> 14,948,500
<OTHER-EXPENSES> 0
<LOSS-PROVISION> 0
<INTEREST-EXPENSE> 425,600
<INCOME-PRETAX> 291,400
<INCOME-TAX> 66,000
<INCOME-CONTINUING> 225,400
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> 225,400
<EPS-PRIMARY> (0.95)
<EPS-DILUTED> (0.95)
</TABLE>
