<PAGE>
U. S. SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D. C. 20549
FORM 10-QSB
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15 (d)
OF THE SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended AUGUST 31, 1998
[ ] TRANSITION REPORT UNDER SECTION 13 OR 15 (d) OF THE EXCHANGE ACT
For the transition period from
__________to __________
Commission File No. 1-4766
GATEWAY ENERGY CORPORATION
----------------------------------------------------------------------
(Exact name of small business issuer as specified in its charter)
Delaware 44-0651207
------------------------------- -----------------------------------
(State or other jurisdiction of (IRS Employer Identification Number)
incorporation or organization)
10842 Old Mill Road, Suite #5
Omaha, NE 68154
(Address of principal executive offices)
Issuer's telephone number (402) 330-8268
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 _______
APPLICABLE ONLY TO CORPORATE ISSUERS
As of September 30, 1998 the Issuer had 14,782,500 shares of its common
stock outstanding.
Transitional Small Business Disclosure Format: Yes____ No___X___
<PAGE>
FORM 10-QSB
PART I
<TABLE>
<CAPTION>
<S> <C> <C>
ITEM 1. FINANCIAL STATEMENTS
Page
Unaudited Consolidated Balance Sheet
as of August 31, 1998. 10
Unaudited Consolidated Statements of Operations for
the three months and six months ended August 31, 1998,
and August 31, 1997. 11
Unaudited Consolidated Statements of Cash Flows for
the six months ended August 31, 1998, and August 31, 1997. 12
Notes to Consolidated Financial Statements 13
</TABLE>
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS.
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.
RESULTS OF OPERATIONS
Comparisons between fiscal 1999 and fiscal 1998 are significantly affected
by two major transactions. First, in September 1997, the Company reached
agreement with Shoreham Pipeline Company ("Shoreham") to dissolve all of the
joint ventures between the parties. The Company transferred its interests,
ranging from 60% to 80%, in six joint ventures to Shoreham. The Company
acquired Shoreham's interests, ranging from 5% to 20%, in nine joint ventures.
The Company also acquired Shoreham's 20% minority interest in Gateway Offshore
Pipeline Company and transferred an offshore system to Shoreham.
Second, in September 1997, the Company sold its limited partnership
interest in Castex LP and its other oil and gas producing properties. The
proceeds received from the above transactions have been used to retire lines of
credit, fund capital expenditures and invest in a certificate of deposit.
2
<PAGE>
The Henry Hub Index price for gas delivered in southern Louisiana averaged
$2.11 in the second quarter of fiscal 1999, compared with $2.26 in the prior
quarter and $1.93 in the same quarter of the prior year. Natural gas prices
have remained firm in spite of the downward pressure on oil prices. Natural
gas producers continue to exploit new drilling opportunities.
THREE MONTHS ENDED AUGUST 31, 1998 COMPARED TO AUGUST 31, 1997
The following table sets forth information for the three months ended
August 31, 1998 and 1997:
<TABLE>
<CAPTION>
1998 1997
---- ----
(restated)
<S> <C> <C>
Operating Revenues $2,554,800 $ 3,481,400
Operating Margin 690,800 628,400
Depreciation and Amortization 185,400 228,100
General and Administrative 709,500 333,900
Other Income (Expense) 14,200 (300,100)
Net Loss (222,700) (245,500)
</TABLE>
Operating revenues declined $926,600 in the second quarter of fiscal 1999
from the same quarter of the prior year. Sales attributable to the Company's
interests in properties sold to Shoreham were $1,814,400, and oil and gas
production revenues were $60,000 in fiscal 1998. These decreases were
partially offset by the startup of Gateway Energy Marketing, by higher volumes
at Fort Cobb and increased revenues in offshore operations.
Operating margins, that is revenues less cost of gas and operating
expenses, increased $62,400 in fiscal 1999 over the same quarter of the prior
year. Operating margins from the joint ventures sold to Shoreham and the oil
and gas properties were $429,400 in fiscal 1998. That shortfall was more than
made up by increased volumes at Fort Cobb, by the increased offshore activity
and the startup of Gateway Energy Marketing. In fiscal 1999, the Company has
primarily focused on enhancing and increasing the profitability of its existing
systems.
General and administrative expenses increased $375,600 in the second
quarter of fiscal 1999 compared to the same quarter of the prior year. During
1997 the Company changed its management philosophy and opted to terminate all
of its joint venture arrangements and operate and manage its properties with
company employees. In connection therewith, the Company hired management and
support staff who manage its operations from the office in Houston. This
change in strategy added significant general and administrative costs,
reflecting costs of additional personnel, office rent and telecommunications,
legal fees and other office costs. The second quarter of fiscal 1999 includes
$125,000 of costs expected to be incurred to effect a move of its corporate
headquarters to Houston, Texas. These costs include expected employee
severance payments and other moving expenses.
General and administrative costs are expected to be approximately the
same after the move because Houston staff will be added to replace most of
the employees who opted not to move with the Company, and because office
costs are expected to be relatively higher in the Houston, Texas metropolitan
area compared with Omaha, Nebraska. However, the
3
<PAGE>
Company expects to continue to improve the profitability of its current
properties and is actively seeking to acquire or invest in new properties.
Interest expense decreased $316,800 in the second quarter of fiscal 1999
compared to the second quarter of fiscal 1998. Interest expense in fiscal 1998
includes $306,800 of interest expense related to changes to certain convertible
promissory notes in August 1997.
The increase in net loss for the quarter to $222,700 reflects (i) the
effect of the fiscal 1998 settlement with Shoreham and related sale of joint
venture interests, (ii) the fiscal 1998 sale of the Castex LP partnership
interest, and (iii) higher general and administrative expenses to manage and
operate properties, seek out additional investment opportunities and relocate
the accounting, financial and administrative functions to Houston, Texas in
fiscal 1999. These negative effects were partially offset by increased volumes
and revenues at Fort Cobb and offshore properties and by decreased depreciation
expense and higher interest income in fiscal 1999.
SIX MONTHS ENDED AUGUST 31, 1998 COMPARED TO AUGUST 31, 1997
The following summary sets forth information for the six months ended
August 31, 1998 and 1997:
<TABLE>
<CAPTION>
1998 1997
---- ----
(Restated)
<S> <C> <C>
Operating Revenues $4,079,800 $6,477,300
Operating Margin 881,300 1,192,500
Depreciation and Amortization 363,100 455,400
General and Administrative 1,244,600 623,800
Other Income (Expense) (47,500) (283,600)
Net Loss (779,200) (185,100)
</TABLE>
Operating revenues declined $2,397,500 in the six months ended August 31,
1998 from the same period of the prior year. Sales attributable to the
Company's interests in properties sold to Shoreham accounted for $3,353,900 of
the revenues in the fiscal 1998 period, and oil and gas production revenues
were $102,700. These decreases were partially offset by the startup of Gateway
Energy Marketing, by higher volumes at Fort Cobb and increased revenues from
offshore operations.
Operating margins, that is revenues less cost of gas and operating
expenses, decreased $311,200 in the first half of fiscal 1999 over the same
period of the prior year. Operating margins from the joint ventures sold to
Shoreham and the oil and gas properties totaled $849,800 in the fiscal 1998
period. That shortfall was largely made up by increased volumes at Fort Cobb,
by increased offshore activity and the startup of Gateway Energy Marketing. In
fiscal 1999, the Company has primarily focused on enhancing the profitabilty of
its existing systems.
General and administrative expenses increased $620,800 in the six months
ended August 31, 1998 compared to the same period of the prior year. During
1997 the Company
4
<PAGE>
changed its management philosophy and opted to terminate all of its joint
venture arrangements and operate and manage its properties with company
employees. In connection therewith, the Company hired management and support
staff who manage its operations from the office in Houston. This change in
strategy added significant general and administrative costs, reflecting costs
of additional personnel, office rent and telecommunications, legal fees and
other office costs. Fiscal 1999 includes $125,000 of costs expected to be
incurred to effect a move of its corporate headquarters to Houston, Texas.
These costs include expected employee severance payments and other moving
expenses.
General and administrative costs are expected to continue at approximately
their current level because Houston staff will be added to replace most of the
employees who opted not to move with the Company, and because office costs are
expected to be relatively higher in the Houston, Texas metropolitan area
compared with Omaha, Nebraska. However, the Company expects to continue to
improve the profitability of its current properties and is actively seeking to
acquire or invest in new properties.
Interest expense decreased $286,800 in the first half of fiscal 1999
compared to the first half of fiscal 1998. Interest expense in fiscal 1998
includes $306,800 of interest expense related to changes to certain convertible
promissory notes in August 1997.
The increase in net loss for in the six months ended August 31, 1998 to
$779,200 reflect (i) the effect of the fiscal 1998 settlement with Shoreham and
related sale of joint venture interests, (ii) the fiscal 1998 sale of the
Castex LP partnership interest, and (iii) higher general and administrative
expenses to manage and operate properties, seek out additional investment
opportunities and relocate the accounting, financial and administrative
functions to Houston, Texas in fiscal 1999. These negative effects were
partially offset by decreased depreciation expense and higher interest income
in fiscal 1999.
LIQUIDITY AND CAPITAL RESOURCES
The Company substantially improved its financial condition with the
completion of the Recapitalization in the first quarter of fiscal 1998.
Monthly cash requirements of approximately $175,000 for preferred dividends
were eliminated and total debt service reduced to $22,000 per month. The
Company's debt to total capitalization is approximately 15% at August 31, 1998
which should provide opportunity for the Company to utilize conventional long-
term financing to fund acquisitions or construction opportunities.
The Company has in place an operating line of credit with a bank with
maximum borrowings of up to $500,000. As of August 31, 1998 the amount
available under this operating line was $480,700.
The Company has cash and cash equivalents and a certificate of deposit
totaling $1.7 million as of August 31, 1998. The Company experienced a deficit
in cash flow from operating activities of $723,000 in the first half of fiscal
1999. Management has reached an agreement with certain promissory convertible
noteholders and will pay noteholders principal and accrued interest of
approximately $550,000 in October 1998.
5
<PAGE>
As a result of the September 1997 Settlement Agreement the Company has a
receivable from Shoreham in the amount of $1,603,100. Shoreham has defaulted
on this obligation, and the Company is pursuing all legal remedies available
to compel Shoreham to resume payments on the receivable. Management believes
it will be successful; however, the Company and Shoreham are in the early
stages of resolving these matters.
FACTORS AFFECTING FUTURE RESULTS
One of the principal objectives of the Recapitalization was to facilitate
access to reasonably priced capital to enable the Company to enhance
stockholder value through the execution of certain strategies. These strategies
include, among other things, i) focusing on gathering, processing, transporting
and marketing of natural gas, ii) expanding the Company's asset base in core
geographic areas, iii) developing a niche that will create demand for our
services, and iv) acquiring or constructing properties in one or more new core
areas.
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 to increase operating margins
sufficiently to cover its fixed overhead costs. The Company believes that the
Recapitalization, cash reserves and experienced operating management 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 enhancement of its core assets and the
successful acquisition of additional midstream assets. 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.
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. Heavy precipitation in
6
<PAGE>
the growing season and hot, dry weather in the fall can significantly reduce
demand for natural gas.
7
<PAGE>
PART II
ITEM 1. LEGAL PROCEEDINGS
None
ITEM 2. CHANGES IN SECURITIES
None
ITEM 3. DEFAULTS UPON SENIOR SECURITIES
None
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF
SECURITY HOLDERS
a) Annual Meeting held July 16, 1998.
b) The following directors were elected at the Annual Meeting
and comprise all of the directors of the Company.
D. L. Anderson E. P. Hoffman
J. B. Ewing C. A. Holtgraves
M. T. Fadden G. A. McConnell
N. A. Fortkamp N. J. Pilger
L. J. Horbach A. Yeddis
c) The following table sets forth the matters voted upon at the
meeting.
<TABLE>
<CAPTION>
Votes For Votes Against Abstaining
--------- ------------- ----------
<S> <C> <C> <C>
i) Approve the adoption
of the Company's 1998
Stock Option Plan 8,193,300 958,000 577,100
ii) Ratify appointment of
Grant Thornton LLP
as independent public
accountants. 9,037,200 175,200 216,000
</TABLE>
8
<PAGE>
<TABLE>
<CAPTION>
Votes For Votes Against
--------- -------------
<S> <C> <C>
iii) Elect the following
nominated directors
D. L. Anderson 8,896,600 531,800
J. B. Ewing 8,910,800 517,500
M. T. Fadden 8,910,800 517,500
N. A. Fortkamp 8,896,600 531,800
L. J. Horbach 8,888,700 539,700
E. P. Hoffman 8,910,800 517,500
C. A. Holtgraves 8,910,800 517,500
G. A. McConnell 8,910,800 517,500
N. J. Pilger 8,910,800 517,500
A. Yeddis 8,910,800 517,500
</TABLE>
ITEM 5. OTHER INFORMATION
The Company has elected to move its accounting, financial and
administrative functions to its operating headquarters in Houston,
Texas from their current location in Omaha, Nebraska. The
combination of these functions with operations is expected to improve
the efficiency and communications between these areas.
The relocation is estimated to cost approximately $125,000 including
severance pay for employees not relocating to Houston, moving costs,
lease termination costs and other miscellaneous expenses. A reserve
for this amount has been charged against operations for the three
month period ended August 31, 1998. Personnel and other costs are
expected to be approximately the same after the relocation to
Houston.
The Office of the Chairman will remain in Omaha.
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K.
a) Exhibits:
11 Statement re Computation of Per Share Earnings. *
21 Subsidiaries*
27 Financial Data Schedule.*
_____________________________
* Included in SEC 10-QSB filing only
9
<PAGE>
SIGNATURES
Pursuant to the requirements of Section 13 or 15 (d) of the Securities
Exchange Act of 1934, the Registrant has duly caused this report to be signed
on its behalf by the undersigned thereunto duly authorized.
GATEWAY ENERGY CORPORATION
______/s/ Neil A. Fortkamp__________
Executive Vice President and Treasurer
____October 15, 1998____
(Date)
10
<PAGE>
GATEWAY ENERGY CORPORATION AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEET
AUGUST 31, 1998
(UNAUDITED)
ASSETS
<TABLE>
<CAPTION>
<S> <C>
CURRENT ASSETS
Cash and cash equivalents $ 306,600
Certificate of deposit 1,400,000
Trade accounts receivable 1,373,600
Note receivable, current portion 1,110,600
Inventories 98,500
Prepaid expenses and other assets 273,500
-----------
Total current assets 4,562,800
-----------
PROPERTY AND EQUIPMENT, AT COST
Gas gathering, processing and transportation 10,101,500
Equipment and office furniture 650,800
-----------
10,752,300
Less accumulated depreciation and amortization 2,267,300
-----------
8,485,000
-----------
OTHER ASSETS
Note receivable, less current portion 482,500
Other 386,800
-----------
869,300
-----------
$13,917,100
-----------
-----------
LIABILITIES AND STOCKHOLDERS' EQUITY
CURRENT LIABILITIES
Notes payable $ 22,900
Current maturities of long-term debt 664,500
Accounts payable 1,089,000
Accrued expenses and other liabilities 260,500
-----------
Total current liabilities 2,036,900
-----------
LONG-TERM DEBT, LESS CURRENT MATURITIES 1,144,300
STOCKHOLDERS' EQUITY
Common stock- authorized, 17,500,000 shares
of $.25 par value; issued and outstanding,
14,782,500 shares 3,695,700
Additional paid-in capital 16,022,400
Accumulated deficit (8,982,200)
-----------
Total stockholders' equity 10,735,900
-----------
$13,917,100
-----------
-----------
</TABLE>
The accompanying notes are an integral part of this statement.
11
<PAGE>
GATEWAY ENERGY CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS
(UNAUDITED)
<TABLE>
<CAPTION>
Three Months Ended Six Months Ended
August 31 August 31
------------------------ ------------------------
1998 1997 1998 1997
---- ---- ---- ----
(Restated) (Restated)
<S> <C> <C> <C> <C>
OPERATING REVENUES:
Natural gas sales $2,166,900 $3,150,900 $3,497,700 $5,776,600
Transportation and processing 361,500 168,600 528,800 351,200
Other 26,400 161,900 53,300 349,500
---------- ---------- ---------- ----------
2,554,800 3,481,400 4,079,800 6,477,300
---------- ---------- ---------- ----------
OPERATING COSTS AND EXPENSES:
Cost of natural gas purchased 1,535,600 2,163,900 2,596,000 3,972,000
Operation and maintenance 328,400 689,100 602,500 1,312,800
Depreciation and amortization 185,400 228,100 363,100 455,400
General and administrative 709,500 333,900 1,244,600 623,800
---------- ---------- ---------- ----------
2,758,900 3,415,000 4,806,200 6,364,000
---------- ---------- ---------- ----------
OPERATING PROFIT (LOSS) (204,100) 66,400 (726,400) 113,300
OTHER INCOME (EXPENSE)
Equity in earnings of partnership - 90,000 - 180,000
Interest and other income 71,200 12,100 150,700 21,400
Interest expense (85,400) (402,200) (198,200) (485,000)
---------- ---------- ---------- ----------
(14,200) (300,100) (47,500) (283,600)
---------- ---------- ---------- ----------
LOSS BEFORE INCOME
TAXES (218,300) (233,700) (773,900) (170,300)
Income taxes 4,400 11,800 5,300 14,800
---------- ---------- ---------- ----------
NET LOSS $ (222,700) $ (245,500) $ (779,200) $ (185,100)
---------- ---------- ---------- ----------
---------- ---------- ---------- ----------
BASIC AND DILUTED LOSS
PER COMMON SHARE $ (.02) $ (.02) $ (.05) $ (.01)
---------- ---------- ---------- ----------
---------- ---------- ---------- ----------
</TABLE>
The accompanying notes are an integral part of these statements.
12
<PAGE>
GATEWAY ENERGY CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
(UNAUDITED)
<TABLE>
<CAPTION>
Six Months Ended August 31
--------------------------
1997 1998
---- ----
(Restated)
<S> <C> <C>
CASH FLOWS FROM OPERATING ACTIVITIES:
Net loss $ (779,200) $ (185,100)
Adjustments to reconcile net loss
to net cash provided by (used in)
operating activities-
Equity in undistributed earnings of partnership - (167,000)
Depreciation and amortization 363,100 455,400
Non-cash expenses 108,200 359,500
Other (8,000) (11,100)
Changes in operating assets and liabilities-
Trade accounts receivable (466,800) 182,400
Inventories 23,200 (28,300)
Prepaid expenses and other current assets (12,700) (279,800)
Accounts payable 31,700 (295,600)
Accrued expenses and other liabilities 16,900 325,100
---------- ----------
Net cash provided by (used in) operating
activities (723,600) 355,500
---------- ----------
CASH FLOWS FROM INVESTING ACTIVITIES:
Capital expenditures (408,700) (151,700)
Acquisition of business (44,000) -
Payments on notes receivable 646,400 -
Net decrease in certificate of deposit 1,350,000 -
Other - (43,000)
---------- ----------
Net cash provided by (used in) investing
activities 1,543,700 (194,700)
---------- ----------
CASH FLOWS FROM FINANCING ACTIVITIES:
Proceeds from borrowings 341,300 989,000
Payments on borrowings (1,294,600) (1,266,800)
Other - (16,700)
---------- ----------
Net cash used in financing activities (953,300) (294,500)
---------- ----------
Net change in cash and cash equivalents (133,200) (133,700)
Cash and cash equivalents at beginning of period 439,800 329,500
---------- ----------
Cash and cash equivalents at end of period $ 306,600 $ 195,800
---------- ----------
---------- ----------
</TABLE>
The accompanying notes are an intregal part of these statements.
13
<PAGE>
GATEWAY ENERGY CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(1) Principles of Consolidation and Nature of Business
The accompanying consolidated financial statements have been prepared by
the Company, without audit. In the opinion of management, such financial
statements reflect all adjustments necessary for a fair presentation of the
financial position and results of operations in accordance with generally
accepted accounting principles. The financial statements should be read in
conjunction with the financial statements and the Notes thereto included in the
Company's Annual Report on Form 10-KSB for the year ended February 28, 1998.
Certain minor reclassifications to the August 31, 1997 statements have been
made to conform with the August 31, 1998 presentation. The Company also
restated the Statement of Operations and Statement of Cash Flows for the three
month and six month periods ended August 31, 1997 (see also Note 6).
The consolidated financial statements include the accounts of Gateway
Energy Corporation ("GEC"), and all of its wholly-owned subsidiaries and joint
venture investments. The Company's investments in its joint ventures are
accounted for using the proportional consolidation method. All significant
intercompany transactions have been eliminated in consolidation.
The Company purchases, develops, owns, and operates natural gas gathering
and pipeline systems and processing plants and related facilities in the Gulf
Coast and Southwestern states of Texas, Oklahoma and Louisiana, and in offshore
Texas state waters. The Company also operates a natural gas distribution
company in Oklahoma.
(2) Earnings Per Common Share
In 1997, the Financial Accounting Standards Board ("FASB") issued SFAS No.
128, EARNINGS PER SHARE. Basic earnings per share is computed by dividing the
net earnings or loss by the weighted average number of common shares
outstanding during the period. Diluted earnings per share is computed by
dividing net earnings or loss by the weighted average number of common shares
outstanding after giving effect to all potentially dilutive common shares that
were outstanding during the period. Potential dilutive common shares are not
included in the computation of diluted earnings per share if they are anti-
dilutive. For the three month and six month periods ended May 31, 1998 and
1997, the diluted loss per common share is the same as basic since the effect
of potentially dilutive common shares arising from convertible debt and
outstanding stock options and warrants was anti-dilutive.
The weighted average number of common shares outstanding used in the
computation of basic and diluted earnings per share for the three month
periods ended August 31, 1998 and 1997 and the six month periods ended August
31, 1998 and 1997 were 14,659,800, 14,337,400, 14,557,300 and 14,198,400
respectively.
14
<PAGE>
GATEWAY ENERGY CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
(3) Notes Payable
Notes payable consists of the following at August 31, 1998:
<TABLE>
<CAPTION>
<S> <C>
Operating line of credit $19,300
Other 3,600
-------
$22,900
-------
-------
</TABLE>
The Company's current operating line of credit provides for maximum
available borrowings of $500,000 through February 27, 1999. Interest is
payable monthly at 6.4% per annum and principal is due on demand, or if no
demand is made, at maturity. The line is collateralized by the Company's
certificate of deposit.
(4) Long-term Debt
Long-term debt at August 31, 1998 consists of the following:
<TABLE>
<CAPTION>
<S> <C>
Convertible promissory notes $ 585,400
Subordinated notes 1,019,400
Note payable to PCI 204,000
----------
1,808,800
Less current maturities 664,500
----------
$1,144,300
----------
----------
</TABLE>
The original conversion privileges of substantially all of the promissory
notes allowed noteholders to convert into common stock of the Company at a pre-
reverse stock split price of $.40 per share. The promissory notes
inadvertently did not contain the customary anti-dilution language to effect a
change in the conversion price in the case of stock splits, stock dividends or
other capitalization changes. In 1997, certain noteholders tendered their
promissory notes for conversion at $.40 per share. In lieu of conversion, the
Company and the noteholders agreed to i) a one year extension on the notes,
and ii) a thirty day window for conversion in the event the Company called the
promissory notes as consideration for the noteholders not converting their
notes at that time.
The Company and the Noteholders disagreed as to the proper conversion
price per share after giving effect to the one for twenty-five reverse split.
In October 1998, the Company and the noteholders reached an agreement
whereby the Company would exchange the convertible promissory notes for cash
equal to the principal and accrued interest through October 15, 1998 and
210,000 shares of common stock. In addition, certain noteholders agreed to
cancel a Subscription Agreement with attached Stock Purchase Rights and to
reduce warrants issued to the noteholders from 200,000 to 40,000. The value of
the cash and common stock was equal to the fair market value of the convertible
15
<PAGE>
GATEWAY ENERGY CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
promissory notes at the date of exchange; therefore no charges will be included
in the statements of operations for this exchange.
(5) Note Receivable
In September 1997, the Company entered into a Settlement Agreement with
Shoreham Pipeline Company ("Shoreham") to dissolve all of the joint ventures
between the Company and Shoreham and to settle litigation between the parties.
The Settlement Agreement provided that the Company would receive $540,000 in
cash, a note receivable of $2,160,000 and Shoreham's minority interest in
certain joint ventures in exchange for the Company's interest in other joint
ventures. The note receivable is without collateral and is due in twenty-four
monthly installments beginning December 1, 1997. Shoreham was to complete the
final accounting for all the Joint ventures for June, July and August 1997 and
make cash distributions as appropriate.
The Company performed an audit of the final cash distributions from
Shoreham in April 1998 and believes that cash distributions to the Company for
June, July and August 1997 were substantially understated. The Company has
initiated legal proceedings to collect the remaining distributions to which it
is entitled.
Beginning July 1, Shoreham defaulted on the payments required under the
Settlement Agreement. The Company is pursuing all legal remedies available
to compel Shoreham to resume payments. Mediation between the parties
regarding disputed distributions and Shoreham's default is scheduled for
October 27, 1998. Management believes it will be successful and thus has not
recorded a reserve against the receivable. However, the Company and Shoreham
are in the early stages of resolving these matters.
(6) Restatement of August 31, 1997 Statement of Operations
The financial statements as of August 31, 1997, and for the three month
and six month periods then ended have been restated to reflect an adjustment
for the cost of amending certain convertible promissory notes effective
August 22, 1997. The adjustment increased interest expense by $306,800 and
reduced earnings per share by $.02 for the three month and six month periods
ended August 31, 1997.
As more fully described in Note 4, certain convertible promissory notes
did not contain the customary anti-dilution language. In the fourth quarter of
fiscal 1998, pursuant to the agreement reached in August 1997, the Company
recognized a charge to interest expense that reflected the difference between
the $.40 per share conversion price and the market value of the Company's
common stock in August 1997.
16
<PAGE>
GATEWAY ENERGY CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
(7) Acquisitions
Effective July 1, 1998, the Company acquired all of the outstanding stock
of Abtech Resources, Inc. ("Abtech") for $44,000 in cash and 285,000 shares of
common stock. The majority of Abtech's outstanding stock was owned by the
Company's current chief executive officer.
The acquisition was accounted for as a purchase and the purchase price was
allocated to Abtech's principal asset. Abtech's principal asset is a License
Agreement between Abtech and a company which owns a patented process for the
rejection of nitrogen from natural gas. The License Agreement gives the
Company the exclusive right to utilize this rejection process for conventional
natural gas in the Permian Basin and for all coalbed methane or landfill gas in
the continental United States.
The Company is required to pay a license fee based upon throughput through
each processing unit so long as there are any unexpired patents covering the
rejection technology. The Company must have installed or have commitments to
install processing units with a stated minimum capacity as of December 31,
2002, to maintain the exclusive rights to the process.
(8) Supplemental Disclosures of Cash Flow Information
Cash paid during the periods is as follows:
<TABLE>
<CAPTION>
Six Months Ended August 31
--------------------------
1998 1997
---- ----
<S> <C> <C>
Interest $117,600 $125,400
Income taxes 12,400 94,500
</TABLE>
In July 1998, the Company issued 48,000 shares of common stock to its
directors as part of their annual compensation.
In August 1998, the Company issued 285,000 shares of common stock to
acquire Abtech Resources, Inc.
17
<PAGE>
GATEWAY ENERGY CORPORATION AND SUBSIDIARIES
STATEMENT REGARDING COMPUTATION OF PER SHARE EARNINGS
EXHIBIT 11
<TABLE>
<CAPTION>
Quarter Ended August 31, Six Months Ended August 31,
1998 1997 1998 1997
---------- ---------- ---------- ----------
<S> <C> <C> <C> <C>
Weighted average number of common shares
outstanding 14,659,800 14,337,400 14,557,300 14,198,400
Add shares issuable pursuant to warrant
agreements less shares assumed repurchased
at the average market price 34,500 (1) 23,300 (1) 46,400 (1) 60,700 (1)
Add shares issuable pursuant to stock options
less shares assumed repurchased at the
average market price 5,500 (1) 3,000 (1) 8,100 (1) 27,400 (1)
Add shares issuable from assumed conversion
of convertible notes 624,600 (1) 704,600 (1) 695,500 (1) 1,034,900 (1)
---------- ---------- ---------- ----------
Tentative number of shares for computation
of fully diluted earnings per share 15,324,400 15,068,300 15,307,300 15,321,400
---------- ---------- ---------- ----------
---------- ---------- ---------- ----------
Loss applicable to common stock (222,700) (245,500) (779,200) (185,100)
Add back interest expense for convertible
promissory notes assumed converted 13,400 (1) 44,100 (1) 36,000 (1) 126,600 (1)
---------- ---------- ---------- ----------
Tentative earnings (loss) for computation of
fully diluted earnings per share $ (209,300) $ (201,400) $ (743,200) $ (58,500)
---------- ---------- ---------- ----------
---------- ---------- ---------- ----------
Basic loss per common share $ (0.02) $ (0.02) $ (0.05) $ (0.01)
---------- ---------- ---------- ----------
---------- ---------- ---------- ----------
Fully diluted loss per common share $ (0.02) $ (0.02) $ (0.05) $ (0.01)
---------- ---------- ---------- ----------
---------- ---------- ---------- ----------
</TABLE>
(1) Not used in fully diluted earnings per share calculations as effect would
be antidilutive.
<PAGE>
GATEWAY ENERGY CORPORATION AND SUBSIDIARIES
SUBSIDIARIES
EXHIBIT 21
<TABLE>
<CAPTION>
Company State Percent Owned
------- ----- -------------
<S> <C> <C>
Gateway Pipeline Co. Texas 100%
Gateway Energy Marketing Texas 100%
Gateway Processing Company Texas 100%
Fort Cobb Fuel Authority, L.L.C. Oklahoma 100%
Gateway Offshore Pipeline Company Nebraska 100%
</TABLE>
<TABLE> <S> <C>
<PAGE>
<ARTICLE> 5
<MULTIPLIER> 1,000
<S> <C>
<PERIOD-TYPE> 6-MOS
<FISCAL-YEAR-END> FEB-28-1998
<PERIOD-END> AUG-31-1998
<CASH> 306,600
<SECURITIES> 1,400,000
<RECEIVABLES> 1,373,600
<ALLOWANCES> 0
<INVENTORY> 98,500
<CURRENT-ASSETS> 4,562,800
<PP&E> 10,752,300
<DEPRECIATION> 2,267,300
<TOTAL-ASSETS> 13,917,100
<CURRENT-LIABILITIES> 2,036,900
<BONDS> 1,144,300
0
0
<COMMON> 3,695,700
<OTHER-SE> 7,040,200
<TOTAL-LIABILITY-AND-EQUITY> 13,917,100
<SALES> 3,497,700
<TOTAL-REVENUES> 4,079,800
<CGS> 2,596,000
<TOTAL-COSTS> 3,561,600
<OTHER-EXPENSES> 1,244,600
<LOSS-PROVISION> 0
<INTEREST-EXPENSE> 198,200
<INCOME-PRETAX> (773,900)
<INCOME-TAX> 5,300
<INCOME-CONTINUING> (779,200)
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> (779,200)
<EPS-PRIMARY> (0.05)
<EPS-DILUTED> (0.05)
</TABLE>
