<PAGE>
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
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FORM 10-Q
(Mark One)
|X| QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the quarterly period ended December 31, 1997
------------------------------------------------
or
|_| TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the transition period ended
-----------------------------------------------
Commission file number: 0-10990
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CASTLE ENERGY CORPORATION
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(Exact Name of Registrant as Specified in its Charter)
<TABLE>
<S> <C>
Delaware 76-0035225
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(State or Other Jurisdiction of Incorporation or Organization) (I.R.S. Employer Identification No.)
One Radnor Corporate Center, Suite 250, 100 Matsonford Road, Radnor, Pennsylvania 19087
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(Address of Principal Executive Offices) (Zip Code)
</TABLE>
Registrant's Telephone Number, Including Area Code (610) 995-9400
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(Former Name, Former Address and Former Fiscal Year,
if Changed Since Last Report)
Indicate by check X whether the registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 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 .
--- ---
Indicate the number of shares outstanding of each of the issuer's
classes of common stock as of the latest practicable date: 4,292,846 shares of
Common Stock, $.50 par value outstanding as of February 10, 1998.
<PAGE>
CASTLE ENERGY CORPORATION
INDEX
<TABLE>
<CAPTION>
Page #
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<S> <C>
Part I. Financial Information
Item 1. Financial Statements:
Consolidated Balance Sheets - December 31, 1997
(Unaudited) and September 30, 1997....................................................... 1
Consolidated Statements of Operations - Three Months
Ended December 31, 1997 and 1996 (Unaudited)............................................. 2
Consolidated Statements of Cash Flows - Three Months
Ended December 31, 1997 and 1996 (Unaudited)............................................. 3
Consolidated Statements of Stockholders' Equity - Year
Ended September 30, 1997 and Three Months Ended
December 31, 1997 (Unaudited)............................................................ 4
Notes to the Consolidated Financial Statements (Unaudited) .............................. 5-8
Item 2. Management's Discussion and Analysis of Financial
Condition and Results of Operations...................................................... 9-16
Part II. Other Information
Item 1. Legal Proceedings........................................................................ 17
Item 6. Exhibits and Reports on Form 8-K......................................................... 17
Signature ...................................................................................................... 18
</TABLE>
<PAGE>
PART I. FINANCIAL INFORMATION
Item 1. Financial Statements
CASTLE ENERGY CORPORATION
CONSOLIDATED BALANCE SHEETS
("000's" Omitted Except Share Amounts)
<TABLE>
<CAPTION>
December 31, September 30,
1997 1997
------------ -------------
ASSETS (Unaudited)
<S> <C> <C>
Current assets:
Cash and cash equivalents................................................. $51,490 $36,338
Restricted cash........................................................... 494 497
Accounts receivable....................................................... 9,420 5,868
Prepaid transportation, net............................................... 1,500 1,500
Prepaid expenses and other current assets................................. 458 452
Deferred income taxes..................................................... 2,234 2,239
Note receivable - Penn Octane Corporation................................. 1,000
Note receivable - MG 10,000
Estimated realizable value of discontinued net refining assets............. 4,422 4,422
------- -------
Total current assets.................................................... 71,018 61,316
Property, plant and equipment, net:
Natural gas transmission..................................................
Furniture, fixtures and equipment......................................... 169 180
Oil and gas properties, net (full cost method)................................ 3,417 2,818
Gas contracts, net............................................................ 13,381 15,747
Prepaid transportation, net................................................... 702 1,162
Deferred income taxes......................................................... 1,494
------- -------
Total assets............................................................ $88,687 $82,717
======= =======
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities:
Dividend payable.......................................................... $ 707 $ 707
Accounts payable.......................................................... 10,947 5,615
Accrued expenses.......................................................... 1,184 1,257
Net refining liabilities retained.......................................... 5,929 7,353
------- -------
Total current liabilities............................................... 18,767 14,932
Long-term liabilities......................................................... 20 20
------- -------
Total liabilities....................................................... 18,787 14,952
------- -------
Commitments and contingencies
Stockholders' equity:
Series B participating preferred stock; par value - $1.00; 10,000,000
shares authorized; no shares issued
Common stock; par value - $0.50; 25,000,000 shares authorized; 6,800,646
shares issued at December 31, 1997 and 6,798,646 shares
issued at September 30, 1997............................................ 3,400 3,399
Additional paid-in capital................................................ 67,080 67,061
Retained earnings......................................................... 24,583 22,468
------- --------
95,063 92,928
Treasury stock at cost - 2,085,100 shares at September 30, 1997 and
December 31, 1997 (25,163) (25,163)
------- -------
Total stockholders' equity 69,900 67,765
------- -------
Total liabilities and stockholders' equity.............................. $88,687 $82,717
======= =======
</TABLE>
The accompanying notes are an integral part of these financial statements.
-1-
<PAGE>
CASTLE ENERGY CORPORATION
CONSOLIDATED STATEMENTS OF OPERATIONS
("000's" Omitted Except Share Amounts)
(Unaudited)
<TABLE>
<CAPTION>
Three Months Ended December 31,
-------------------------------
1997 1996
---- ----
<S> <C> <C>
Revenues:
Natural gas marketing and transmission:
Gas sales.......................................................... $ 20,263 $ 18,425
----------- -----------
20,263 18,425
----------- -----------
Exploration and production:
Oil and gas sales.................................................. 658 2,094
Well operations.................................................... 58 106
----------- -----------
716 2,200
----------- -----------
20,979 20,625
----------- -----------
Expenses:
Natural gas marketing and transmission:
Gas purchases...................................................... 13,086 11,243
Transportation..................................................... 460
Operating costs.................................................... 239
General and administrative......................................... 26 304
Depreciation and amortization...................................... 2,365 2,905
----------- -----------
15,937 14,691
----------- -----------
Exploration and production:
Oil and gas production............................................. 165 577
General and administrative......................................... 222 212
Depreciation, depletion and amortization........................... 163 494
----------- -----------
550 1,283
----------- -----------
Corporate general and administrative expenses........................ 740 1,143
----------- -----------
17,227 17,117
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Operating income......................................................... 3,752 3,508
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Other income (expense):
Interest income...................................................... 637 225
Other income (expense)............................................... 21 (40)
Interest expense..................................................... (199)
----------- -----------
658 (14)
----------- -----------
Net income before provision for income taxes............................. 4,410 3,494
----------- -----------
Provision for income taxes:
State............................................................ 44 35
Federal.......................................................... 1,544 1,223
----------- -----------
1,588 1,258
----------- -----------
Net income............................................................... $ 2,822 $ 2,236
=========== ===========
Net income per share:
Basic................................................................ $ .60 $ .33
=========== ===========
Diluted.............................................................. $ .59 $ .33
=========== ===========
Weighted average number of common and common equivalent shares outstanding:
Basic............................................................. 4,715,546 6,691,781
========= ==========
Diluted........................................................... 4,745,690 6,717,477
========= ==========
</TABLE>
The accompanying notes are an integral part of these financial statements.
-2-
<PAGE>
CASTLE ENERGY CORPORATION
CONSOLIDATED STATEMENTS OF CASH FLOWS
("000's" Omitted)
(Unaudited)
<TABLE>
<CAPTION>
Three Months Ended December 31,
-------------------------------
1997 1996
---- ----
<S> <C> <C>
Net cash flow provided by operating activities........................... $17,601 $ 3,543
------- ----------
Cash flows from investing activities:
Investment in oil and gas properties................................. (762) (98)
Investment in note receivable - Penn Octane Corporation.............. (1,000)
Investment in pipelines.............................................. (1)
------- ----------
Net cash used in investing activities........................... (1,762) (99)
------- ----------
Cash flows from financing activities:
Dividends paid to stockholders........................................ (707)
Proceeds of long-term debt............................................ 7,456
Repayment of long-term debt........................................... (10,835)
Payment of debt issuance costs........................................ (125)
Acquisition of treasury stock......................................... (31)
Proceeds from exercise of stock options............................... 20
------- ----------
Net cash provided by (used in) financing activities............. (687) (3,535)
------- ----------
Net increase (decrease) in cash and cash equivalents..................... 15,152 (91)
Cash and cash equivalents - beginning of period.......................... 36,338 3,457
------- ----------
Cash and cash equivalents - end of period................................ $51,490 $ 3,366
======= ==========
Supplemental disclosures of cash flow information are as follows: Cash paid
during the period:
Interest........................................................... - $ 298
======= ==========
Income taxes....................................................... $ 4 -
======= ==========
</TABLE>
The accompanying notes are an integral part of these financial statements.
-3-
<PAGE>
CASTLE ENERGY CORPORATION
CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY
("000's" Omitted Except Share Amounts)
<TABLE>
<CAPTION>
Common Stock Additional Retained Treasury Stock
----------------- Paid-In Earnings -------------------
Shares Amount Capital (Deficit) Shares Amount Total
------ ------ ------- --------- ------ ------ ---------
<S> <C> <C> <C> <C> <C> <C> <C>
Balance - October 1, 1996............. 6,693,646 $3,347 $66,316 ($2,952) $66,711
Stock acquired........................ 2,085,100 ($25,163) (25,163)
Options exercised..................... 105,000 52 745 797
Dividends............................. (1,446) (1,446)
Net income............................ 26,866 26,866
--------- ------ ------- -------- --------- -------- -------
Balance - September 30, 1997.......... 6,798,646 3,399 67,061 22,468 2,085,100 (25,163) 67,765
Options exercised..................... 2,000 1 19 20
Dividends............................. (707) (707)
Net income............................ 2,822 2,822
--------- ------ ------- -------- --------- -------- -------
Balance - December 31, 1997 6,800,646 $3,400 $67,080 $24,583 2,085,100 ($25,163) $69,900
========= ====== ======= ======== ========= ======== =======
</TABLE>
The accompanying notes are an integral part of these financial statements.
-4-
<PAGE>
Castle Energy Corporation and Subsidiaries
Notes to Consolidated Financial Statements
(Dollars in thousands, except share amounts)
(Unaudited)
Note 1 - Basis of Preparation
The unaudited consolidated financial statements of Castle Energy
Corporation (the "Company") included herein have been prepared pursuant to the
rules and regulations of the Securities and Exchange Commission. Certain
reclassifications have been made to make the periods presented comparable.
Although certain information and footnote disclosures normally included in
financial statements prepared in accordance with generally accepted accounting
principles have been condensed or omitted pursuant to such rules and
regulations, the Company believes that the disclosures included herein are
adequate to make the information presented not misleading. Operating results
for the three-month period ended December 31, 1997 are not necessarily
indicative of the results that may be expected for the fiscal year ending
September 30, 1998 or subsequent periods. These unaudited consolidated
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-K for the fiscal year ended September 30, 1997.
In the opinion of the Company, the unaudited consolidated financial
statements contain all adjustments necessary for a fair statement of the
results of operations for the three-month periods ended December 31, 1997 and
1996 and for a fair statement of financial position at December 31, 1997.
Note 2 - September 30, 1997 Balance Sheet
The amounts presented in the balance sheet as of September 30, 1997
were derived from the Company's audited consolidated financial statements
which were included in its Annual Report on Form 10-K for the fiscal year
ended September 30, 1997.
Note 3 - Discontinued Operations
From August 1989 to September 30, 1995, several of the Company's
subsidiaries conducted refining operations. By December 12, 1995, the
Company's refining subsidiaries had sold all of their refining assets. In
addition, Powerine Oil Company ("Powerine"), one of the Company's refining
subsidiaries, merged into a subsidiary of the purchaser and is no longer a
subsidiary of the Company. The Company's other refining subsidiaries own no
refining assets and are in the process of liquidation. As a result, the
Company has accounted for its refining operations as discontinued operations.
Note 4 - Contingencies/Litigation
Powerine Arbitration
One of the Company's subsidiaries owned a $10,000 note due from
Metallgesellschaft Corp. ("MG"), a former related party ("the MG Note"). The
subsidiary also owed a $10,000 note to MG. The subsidiary was also assigned
the claim of Powerine against MG. The claim relates to discontinued refining
operations. The claim was submitted to binding arbitration. The subsidiary has
carried its estimated recovery from the Powerine Arbitration, after all
offsetting of notes, at $10,000.
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<PAGE>
Castle Energy Corporation and Subsidiaries
Notes to Consolidated Financial Statements
(Dollars in thousands, except share amounts)
(Unaudited)
On May 30, 1997, the arbitrator issued a written opinion finding for
the Company's subsidiary on all liability issues. On October 14, 1997, MG paid
the Company's subsidiary $8,700, thus reducing the book value of the
subsidiary's receivable from the Powerine Arbitration to $1,300. The
subsidiary then filed a motion to recover an additional $2,142 related to
interest on the principal amount awarded in the arbitration. On January 27,
1998, the arbitrator ruled in favor of MG concerning the additional $2,142 the
subsidiary sought to recover. As a result the subsidiary booked a $1,300
reserve against the recorded $1,300 receivable from the Powerine Arbitration.
Management believes that it is due the additional $2,142 and is currently
considering alternatives to recover this amount.
The $1,300 difference between the $10,000 book value of the Powerine
Arbitration and the $8,700 recovered has been offset against $2,932 of
deferred gain applicable to the Company's discontinued refining operations,
resulting in a net deferred gain applicable to discontinued refining
operations of $1,632 at December 31, 1997. Such amounts are included under the
caption "net refining liabilities retained" in the consolidated balance sheet
at December 31, 1997. The Company's policy has been to defer any net gains
related to discontinued refining operations until such time as the probability
of future offsetting losses is remote and to recognize net losses, if any, if
and when such net losses are probable.
SWAP Agreement - MGNG
Indian Refining I Limited Partnership ("IRLP"), the Company's
inactive refining subsidiary, is involved in litigation with MG Natural Gas
Corp. ("MGNG"), a subsidiary of MG. The litigation involves competing claims
by both parties concerning a terminated natural gas swap agreement between
MGNG and IRLP. The litigation is related to the Powerine Arbitration
litigation (see above) and has been deferred several times pending the outcome
of the Powerine Arbitration litigation. IRLP expects this litigation to be
settled shortly since the Powerine Arbitration litigation has been decided and
expects to recover $703, plus interest. If MGNG were to prevail, IRLP
would owe MG $653 plus interest. The amount at stake is accordingly
$1,356, plus interest.
In January 1998, IRLP filed suit against MG to collect $703 plus
interest and has recorded a receivable of $703 on its books related to the
anticipated recovery. The amount which is ultimately recovered will directly
impact discontinued operations. The impact of resolution will be considered
with other items, if any, impacting discontinued operations.
Larry Long Litigation
In May 1996, Larry Long, representing himself and allegedly "others
similarly situated," filed suit against the Company, three of the Company's
natural gas marketing and transmission and exploration and production
subsidiaries, Atlantic Richfield Company ("ARCO"), B&A Pipeline Company (a
former subsidiary of ARCO), and MGNG in the Fourth Judicial District Court of
Rusk County, Texas. The plaintiff originally claimed, among other things, that
the defendants underpaid non-operating working interest owners, royalty
-6-
<PAGE>
interest owners, and overriding royalty interest owners with respect to gas
sold to Lone Star Gas Company ("Lone Star") pursuant to a long-term contract
("Lone Star Contract"). Although no amount of actual damages was specified in
the plaintiff's initial pleadings, it appeared that, based upon the volumes of
gas sold to Lone Star, the plaintiff may have been seeking actual damages in
excess of $40,000.
After some initial discovery, the plaintiff's pleadings were
significantly amended. Another purported class representative, Travis Crim,
was added as a plaintiff, and ARCO, B&A Pipeline Company and MGNG were dropped
as defendants. Although it is not completely clear from the amended petition,
the plaintiffs have apparently now limited their proposed class of plaintiffs
to royalty owners and overriding royalty owners in leases owned by the
Company's exploration and production subsidiary limited partnership. In
amending their pleadings, the plaintiffs revised their basic claim to seeking
royalties on certain operating fees paid by Lone Star to the Company's natural
gas marketing subsidiary limited partnership. No hearing has been held on the
plaintiffs' request for class certification, however. Furthermore, no hearing
is presently scheduled and there is no current activity in the case.
Based upon the revised pleadings, management of the Company
determined that the possible exposure of the Company and its subsidiary
limited partnerships for all gas sold to Lone Star in the past and in the
future, were they to lose the case, was less than $3,000. However, the Company
sold all of its Rusk County oil and gas properties to Union Pacific Resources
Company ("UPRC") in May of 1997. The sale to UPRC effectively removed any
possibility of exposure by the Company or its subsidiary limited partnerships
to claims for additional royalties with respect to future production.
Management continues to believe that the plaintiffs' claims are without merit
and intends to vigorously fight the claims which have been asserted by the
plaintiffs if such claims are pursued. Moreover, management believes that the
recent sale to UPRC has reduced the total exposure of the Company and its
subsidiary limited partnerships to less than $2,000 in actual damages if they
were to lose the case on all points.
Powerine Class Action Lawsuit
In July 1996, Powerine was served with a suit concerning operations
of the Powerine Refinery in the Superior Court of the State of California in
Los Angeles, California. The suit claims the Powerine Refinery is a public
nuisance, that it has released excessive toxic and noxious emissions and
caused physical and emotional distress and property damage to residents living
nearby. The Company was also named as a defendant in the suit. In March 1997,
the Company was served with the lawsuit.
In April 1997, the Company filed a motion to quash the plaintiffs'
summons based upon the lack of jurisdiction. On May 2, 1997, the court granted
the Company's motion. As a result, the Company is no longer a defendant in the
Powerine Class Action Lawsuit.
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<PAGE>
Castle Energy Corporation and Subsidiaries
Notes to Consolidated Financial Statements
(Dollars in thousands, except share amounts)
(Unaudited)
Note 5 - Accounting Pronouncements
In February 1997, FASB issued SFAS No. 128, "Earnings Per Share,"
("FAS No.128") which establishes standards for computing and presenting
earnings per share ("EPS") for entities with publicly held common stock. SFAS
No. 128 simplifies the standards for computing EPS previously found in
Accounting Principles Board Opinion No. 15, "Earnings Per Share," and makes
them comparable to international EPS standards. It replaces the presentation
of primary EPS with a presentation of basic EPS, and requires dual
presentations of basic and diluted EPS on the face of the income statement.
SFAS No. 128 is effective for fiscal years ending after December 15, 1997, and
early adoption is not permitted. The Company adopted FAS 128 effective October
1, 1997. Earnings per share for the three month period ended December 31, 1996
have been restated in accordance with FAS No. 128
Note 6 - Derivative Financial Instruments
The Company utilizes derivative financial instruments to reduce its
exposure to changes in the market price of natural gas. Commodity derivatives
utilized as hedges of natural gas are futures contracts. Natural gas basis
swaps are sometimes used to hedge the basis differential between the
derivative financial instrument index price and the natural gas field price.
In order to qualify as a hedge, price movements in the underlying commodity
derivative must be highly correlated with the hedged commodity.
Gains and losses on futures contracts that qualify as a hedge of
firmly committed or anticipated purchases and sales of natural gas are
deferred on the balance sheet and credited or debited to cost of gas purchased
and recognized in operations when the related hedged transaction occurs. There
were no such deferred gains or losses at December 31, 1997 or September 30,
1997. Gains or losses on derivative financial instruments that do not qualify
as a hedge are recognized in income currently.
As a result of hedging transactions, the cost of gas purchased
decreased $209 and $286 for the quarters ended December 31, 1997 and 1996,
respectively.
Note 7 - Subsequent Events
Subsequent to December 31, 1997, the Company repurchased 422,700
shares of its outstanding common stock. The purchase price was $5,805.
Subsequent to December 31, 1997, the Company repurchased 7,500
outstanding options from a former officer of a subsidiary of the Company for
$33, the fair market value of such options on the date repurchased.
-8-
<PAGE>
Item 2. Management's Discussion and Analysis of Financial Condition and
Results of Operations.
RESULTS OF OPERATIONS
As noted previously, the Company had discontinued its refining
operations by September 30, 1995. As a result, management's discussion and
analysis focuses primarily on the Company's continuing operations -- natural
gas marketing and transmission and exploration and production. All references
herein to dollars are in thousands.
In May 1997, the Company sold approximately 84% of its proved oil and
gas reserves and its Texas pipeline to UPRC and one of its subsidiaries. As a
result, the operations related to the assets sold impacted operations for all
three months of the quarter ended December 31, 1996 but did not impact
operations for the three months ended December 31, 1997.
The Company desires to take advantage of the safe harbor provisions
of the Private Securities Litigation Reform Act of 1995 and has included a
discussion of risk factors related to Management's Discussion and Analysis of
Financial Condition and Results of Operations. The discussion and analysis
below include forward-looking data that are based upon management's estimates,
assumptions and projections. Important factors such as the risk factors listed
below could cause results to differ materially from those expected by
management.
NATURAL GAS MARKETING
As noted above, the Company sold its Texas oil and gas properties and
pipeline to UPRC in May of 1997 while retaining its gas marketing operations
which consist primarily of a long-term gas sales contract with Lone Star. The
sale had the following effects on the Company's natural gas marketing and
transmission operations.
a. The Company now had to purchase gas for the Lone Star Contract
that previously was produced from the Company's Texas oil and
gas properties. As a result, the Company became subject to
price risk on such future gas purchases whereas previously the
Company was subject to reserve production risk - the
possibility that the volumes of gas produced were more or less
than that expected. Previously, the Company's marketing
subsidiary purchased a portion of the gas required for the Lone
Star Contract from one of the Company's exploration and
production subsidiaries. The resultant intercompany sales were
eliminated in consolidation. Since the sale to UPRC, the
Company's gas marketing subsidiary has purchased all gas
required for the Lone Star Contract from unrelated parties.
b. Having sold its Texas pipeline, the Company now requires
outside transportation to transport its gas to Lone Star. UPRC,
the purchaser of the Company's Texas pipeline, agreed to
transport all of the remaining Lone Star gas as part of the
related purchase and sale agreement. The Company has recorded
the value of such prepaid transportation at $3,000, its
estimated fair market value, and is amortizing the prepayment
over the term of the Lone Star Contract based upon deliveries
made. Previously, the Company incurred operating expenses to
operate the pipeline and recorded pipeline depreciation.
-9-
<PAGE>
Gross Margin
A comparison of the gross margins earned by the Company's natural gas
marketing and transmission segment is as follows:
<TABLE>
<CAPTION>
Lone
Star MGNG Intercompany
Contract Contract Eliminations Consolidated
-------- -------- ------------ ------------
<S> <C> <C> <C>
Quarter Ended December 31, 1997:
Gas Sales $19,013 $1,250 $20,263
Gas purchases (11,510) (1,576) (13,086)
-------- ------ ---------
Gross margin $ 7,503 ($ 326) $ 7,177
======== ======= =========
Quarter Ended December 31, 1996
Gas Sales $18,370 $1,236 ($1,181) $18,425
Gas purchases (11,017) (1,407) 1,181 (11,243)
------- ------ ------- --------
Gross margin $ 7,353 $ (171) $ 0 $ 7,182
======== ====== ======= ========
</TABLE>
Natural gas sales under the Lone Star Contract increased $643 or 3.5%
from the first quarter of fiscal 1997 to the first quarter of fiscal 1998.
Under the Lone Star Contract the price received for gas is essentially fixed
through May 31, 1999. The variance in gas sales, therefore, is almost entirely
attributable to the volumes of gas delivered. Although the volumes delivered
to Lone Star annually are essentially fixed (the Lone Star Contract has a
take-or-pay provision), the Lone Star Contract year is from February 1 to
January 31 whereas the Company's fiscal year is from October 1 to September
30. Furthermore, although the volumes to be taken by Lone Star in a given
contract year are fixed, there is no provision requiring fixed monthly or
daily volumes and deliveries accordingly vary with Lone Star's seasonal and
peak demands. Such variances have been significant. As a result, Lone Star
deliveries, although fixed for a contract year, may be skewed and not
proportional for the Company's fiscal periods.
For the first quarter of fiscal 1998 deliveries and sales to Lone
Star exceeded by approximately 20% those which would have resulted if daily
deliveries had been fixed and equal. Since annual deliveries and sales have
historically approximated the annual volumes Lone Star is required to take
under the Lone Star Contract, it is expected that deliveries and sales for the
remainder of fiscal 1998 will average less than those which would have
resulted if daily deliveries were fixed and equal.
Gas purchases for the Lone Star Contract increased $493 or 4.5% from
the first quarter of fiscal 1997 to the first quarter of fiscal 1998. For the
quarter ended December 31, 1996 gas purchases comprised 60.0% of gas sales
versus 60.5% of gas sales for the quarter ended December 31, 1997. From 1997
to 1998 the gross margin increased $150 or 2.0%. During the same periods the
gross margin percentage ((gas sales - gas purchases) as a percentage of gas
sales) decreased .5% from 40.0% for the quarter ended December 31, 1996 to
39.5% for the quarter ended December 31, 1997. The increase in gas purchases
as a percentage of gas sales and resulting decrease in the gross margin
percentage resulted primarily from the increased gas purchase costs applicable
to unhedged gas supplies that the Company purchased at spot prices and which
were not provided by the Company's fixed price gas supply contract with MGNG.
Approximately 10% of the Company's gas supplies for the Lone Star Contract
remain unhedged and the Company is thus subject to gas price risk with respect
thereto.
-10-
<PAGE>
MGNG Contract
One of the Company's natural gas marketing subsidiaries is a party to
a gas sales contract with MGNG ("MG Contract"). Pursuant to the terms of the
contract, the subsidiary is required to sell to MGNG 7,356 MMBtu's (British
thermal units) of natural gas at a fixed price ratably over the period from
June 1, 1996 to May 31, 1999. The fixed price for the gas sold to MGNG is
significantly less than the fixed price of gas sold to Lone Star. For the
quarter ended December 31, 1997, the Company realized a negative gross margin
of $326 versus a negative gross margin of $171 for the quarter ending December
31, 1996. The negative margins resulted because the spot (market) prices paid
by the Company for gas, less hedging adjustments where applicable, exceeded
the fixed price received by the Company from MGNG under the contract. The
higher negative gross margins for the quarter ended December 31, 1997 resulted
because the spot prices paid by the Company, net of hedging effects, were
greater in fiscal 1998 than in fiscal 1997. The Company has not yet hedged
most of the remaining gas purchase requirement for this contract. In addition,
the Company expects to realize a significant negative gross margin on this
contract for the second quarter of fiscal 1998. Future gross margins will
depend primarily on future spot (market) prices of gas and the results of the
Company's efforts to hedge its remaining gas purchase commitments at favorable
prices.
Operating Costs
Operating costs decreased to zero for three months ended December 31,
1997 because the Texas pipeline was sold to UPRC in May 1997 and the Company
no longer incurs operating costs to operate the Texas pipeline.
General and Administrative
General and administrative costs decreased $278 from $304 for the
three months ended December 31, 1996 to $26 for the three months ended
December 31, 1997. Most general and administrative costs incurred during the
three months ended December 31, 1996 related to the Texas pipeline, which was
sold in May 1997. The remaining administrative costs consist primarily of
consulting fees for on-going gas marketing operations.
Transportation
Transportation expense increased $460 from zero for the three months
ended December 31, 1996 to $460 for the three months ended December 31, 1997.
In 1997, one of the Company's subsidiaries owned and operated the Texas
pipeline and all transportation revenues were for intercompany transportation
and were accordingly eliminated in consolidation of the Company's financial
statements. In 1998, transportation expense consisted entirely of the
amortization of a $3,000 prepaid transportation asset. Amortization is based
upon and thus proportional to deliveries made to Lone Star.
Depreciation and Amortization
Depreciation and amortization decreased $540 or 18.6% from the first
three months of fiscal 1997 to the first three months of fiscal 1998. The
decrease is attributable to the sale of the Texas pipeline to UPRC in May
1997. As a result of the sale, the Company no longer owned and depreciated the
Texas pipeline.
-11-
<PAGE>
EXPLORATION AND PRODUCTION
As noted above, the Company sold its Texas oil and gas properties to
UPRC in May 1997. The reserves sold represented approximately 84% of the
Company's proved oil and gas reserves and 60%- 65% of the Company's gas
production at the time of sale. Comparison of current oil and gas sales,
production costs, general and administrative costs and depletion, depreciation
and amortization to those in fiscal 1997 is thus not meaningful. Accordingly,
exploration and production operations comparisons and analysis have been
limited to those oil and gas properties which were not sold to UPRC. The
related operating results for such properties are as follows:
Quarter Ended December 31,
--------------------------
1997 1996
---- ----
Revenues:
Oil and gas sales............................... $658 $844
Well operations................................. 58 72
---- ------
716 916
---- -----
Expenses:
Oil and gas production.......................... 165 132
General and administrative...................... 222 166
Depreciation, depletion and amortization........ 163 216
---- -----
550 514
---- -----
Operating income..................................... $166 $402
==== ====
Revenues
Oil and Gas Sales
Oil and gas sales decreased $186 or 22% from the first quarter of
fiscal 1997 to the first quarter of fiscal 1998. The decrease is primarily
attributable to decreased oil and gas prices. Decreased production also
contributed to the decreased sales. Although the Company has participated in
drilling approximately 15 new wells from July 1997 through December 31, 1997,
most of the revenues generated from such new drilling activities are not
expected to significantly impact oil and gas sales until the second quarter of
fiscal 1998. The Company is currently participating in two drilling programs
and expects to participate in at least 20-25 new wells in fiscal 1998. The
Company is also reviewing possible investments in other oil and gas drilling
programs and oil and gas property acquisitions. As a result, the Company
expects that its oil and gas sales will increase significantly given stable or
increasing oil and gas sales prices but there can be no assurance that such
will be the case.
Well Operations
Revenue from well operations decreased $14 or 19.4% from the
first quarter of fiscal 1997 to the first quarter of fiscal 1998. The decrease
is attributable to the Company's resignation as operator on certain
Appalachian wells where a non-operator offered to operate the wells at a cost
less than that being incurred by the Company in performing such operations.
The related well operations revenues were not replaced.
-12-
<PAGE>
Expenses
Oil and Gas Production
Oil and gas production expenses increased $33 or 25% from the
first quarter of fiscal 1997 to the first quarter of fiscal 1998. The increase
in oil and gas production expenses results from the general maturing of the
Company's oil and gas properties and the tendency for older, depleting
properties to carry a higher production expense burden than recently drilled
properties. Furthermore, oil and gas production expenses, especially repairs,
do not generally occur evenly throughout the year and are best compared on an
annual rather than on a quarterly basis. The Company expects that, although
oil and gas production expense will increase as a result of its new drilling
activities, such expenses will decline when compared to oil and gas production
given the lower production costs typically associated with new production.
There can be no assurance, however, that such will be the case.
General and Administration
General and administrative costs increased $56 or 33.7% from the
first three months of fiscal 1997 to the first three months of fiscal 1998.
The increase was attributable to increased employee salaries in fiscal 1998
and a non-recurring $24 recovery in fiscal 1997 for which there was no
counterpart in fiscal 1998.
Depreciation, Depletion and Amortization
Depreciation, depletion and amortization decreased $53 or 24.5%
from the first quarter of fiscal 1997 to the first quarter of fiscal 1998. The
decrease is attributable to decreased production and to a decrease in the cost
per equivalent mcf of proved reserves in the Company's full cost amortization
center. The decrease in the cost per equivalent mcf in the Company's full cost
amortization center resulted from the sale of 84% of the Company's oil and gas
reserves to UPRC in May of 1997. The consequence will be a decrease in future
depreciation, depletion and amortization charges to the Company's exploration
and production operations.
OTHER INCOME (EXPENSE)
Interest Income
Interest income increased $412 or 183.1% from the first quarter of
fiscal 1997 to the first quarter of fiscal 1998. The increase is primarily
attributable to an increase in unrestricted cash. At December 31, 1997, the
Company had $51,490 of unrestricted cash versus only $3,366 a year earlier.
For the three months ended December 31, 1996, $200 of interest income was
attributable to a note receivable from MG related to the Powerine Arbitration
and $25 resulted from the investment of excess cash. For the three months
ended December 31, 1997, $31 was attributable to interest on the MG note, $19
was attributable to interest on a note from Penn Octane Corporation ("Penn
Octane") and the remaining $587 was attributable to the investment of excess
cash. Interest on the MG note ceased on October 14, 1997.
The Penn Octane note, $1,000, is unsecured, bears interest at 10% and
is due the earlier of June 30, 1998 or the closing of any financing by Penn
Octane in excess of $5,000. The Company expected Penn Octane to close such a
financing in January 1998 but it has not yet been able to do so. Penn
-13-
<PAGE>
Octane has, however, paid interest due on the note. The Company will continue
to monitor its investment in Penn Octane.
Interest Expense
Interest expense decreased $199 to zero in the quarter ended December
31, 1997 because the Company repaid all of its long-term debt in May 1997 with
a portion of the proceeds of the sale of its Texas oil and gas properties and
pipeline to UPRC.
TAX PROVISION
The tax provision for each of the quarters ended December 31, 1996
and 1997 essentially represents the amortization of the Company's deferred tax
assets at the effective rate of 36% of pre-tax book income. The Company
expects to record a similar tax provision for future earnings through
amortization of the deferred tax asset. If future events change the Company's
estimate concerning the probability of utilizing its tax assets, appropriate
adjustments will be made when such a conclusion is reached.
LIQUIDITY AND CAPITAL RESOURCES
All statements other than statements of historical fact contained in
this report are forward-looking statements. Forward-looking statements in this
report generally are accompanied by words such as "anticipate," "believe,"
"estimate", or "expect" or similar statements. Although the Company believes
that the expectations reflected in such forward-looking statements are
reasonable, no assurance can be given that such expectations will prove
correct. Factors that could cause the Company's results to differ materially
from the results discussed in such forward-looking statements are disclosed in
this report, including without limitation in conjunction with the expected
cash receipts and expected cash obligations included below. All
forward-looking statements in this report are expressly qualified in their
entirety by the cautionary statements in this paragraph.
During the quarter ended December 31, 1997, the Company generated
$17,601 from operating activities. Of this amount, $8,700 represented the
collection of a portion of the MG Note. During the same period the Company
invested $1,000 in a note for Penn Octane and $762 in oil and gas drilling and
paid $707 in stockholder dividends. At December 31, 1997, the Company had
$51,490 of unrestricted cash, $52,251 of working capital and no long-term
debt.
At the present time the probable future cash expenditures of the
Company consist of the following:
a. Investments in Oil and Gas Properties and Energy Sector - the
Company has already entered into a joint venture to drill up
to 100 wells in Appalachia over the next three to four years
and had undertaken a 10-13 well drilling program on its
undrilled Alabama acreage. Nine wells have been drilled by the
joint venture and the Company has drilled five new coalbed
methane wells in Alabama. At least 20 new wells are planned by
the joint venture over the next year and the Company plans to
drill at least five additional coalbed methane wells in
Alabama. In addition, the Company is also reviewing several
possible joint ventures, reserve acquisitions and drilling
ventures, as well as other investments in the energy sector.
The Company believes that the recent significant decrease in
oil and gas prices will increase the probability that the
Company can conclude
-14-
<PAGE>
a transaction or several transactions on terms favorable to
the Company although there can be no assurance that such will
be the case.
b. Repurchase of Company Shares - as of February 10, 1998, the
Company had repurchased 2,507,800 of its shares of common
stock at a cost of $30,968 (2,085,100 shares at a cost of
$25,163 as of December 31, 1997). The Company's Board of
Directors had previously authorized the repurchase of up to
2,500,000 shares to provide an exit vehicle for investors who
want to liquidate their investment in the Company. On February
4, 1998, the Board of Directors authorized the repurchase of
an additional 500,000 shares over the next year. The decision
whether to repurchase additional shares will depend upon the
market price of the Company's stock, tax considerations, the
number of stockholders seeking to sell their shares and other
factors.
c. Recurring Dividends - the Company's Board of Directors adopted
a policy of paying a $.60 per share annual dividend ($.15 per
share quarterly) in June of 1997. The Company expects to
continue to pay such dividend until the Board of Directors, in
its sole discretion, changes such policy.
An estimate of the Company's expected cash resources and obligations
from January 1, 1998 to September 30, 1999, the fiscal year end during which
the Lone Star Contract expires, is as follows:
<TABLE>
<CAPTION>
Expected Cash Resources: ("000's" Omitted)
<S> <C>
Cash on hand - January 1, 1998.................................................. $ 51,490
Cash flow - gas marketing and remaining exploration and
production operations....................................................... 38,859
Repayment of Penn Octane Corporation note....................................... 1,000
Proceeds from platinum recovery - IRLP.......................................... 800
Proceeds from SWAP litigation - IRLP............................................ 703
Proceeds from American Western note............................................. 2,919
Interest........................................................................ 5,801
Liquidation of working capital.................................................. 741
--------
102,313
--------
Expected Cash Obligations:
New drilling.................................................................... 3,238
Purchase of 422,700 shares of common stock of the Company
from January 1, 1998 to February 10, 1998................................... 5,805
Purchase of 492,200 additional shares of common stock of the
Company..................................................................... 6,890
Quarterly dividends (based on outstanding shares at February 10,
1998 less additional purchases of 492,200 shares)........................... 4,138
Assumed IRLP payment of vendors and funding of
environmental reserves...................................................... 4,422
--------
24,493
--------
Excess of Expected Cash Resources Over Expected Cash
Obligations................................................................. $ 77,820
========
</TABLE>
-15-
<PAGE>
The foregoing estimates assume that the Company's operations and
expected cash flow will not be affected by any of the risk factors listed
below:
a. Contingent environmental liabilities
b. Vendor liabilities of the Company's inactive refining
subsidiaries (IRLP, Powerine and Indian Oil Company)
c. Larry Long Litigation
d. Credit risk - Lone Star
e. Supply risk - MGNG
f. Price risk - gas supply
g. Gas contract litigation - Lone Star, MGNG
h. Public market for Company's stock
i. Future of the Company
j. Year 2000 risk - accounting and operations
k. Other risks including general business risks, insurance claims
against the Company in excess of insurance recoveries, tax
liabilities resulting from tax audits, drilling risks and
litigation risk.
Readers should refer to the Management Discussion and Analysis of
Financial Condition and Results of Operations Section of the Company's Form
10-K for the fiscal year ended September 30, 1997 for a description of the
aforementioned risk factors.
If any or several of these risks materialize, the Company's estimated
cash flow and results of operations will probably be adversely impacted and
the impact may be material. The estimated cash flow above assumes none of
these risks materializes. Given the number and variety of risks and the
litigiousness of today's corporate world, it is reasonably possible that one
or more of these risks may occur.
-16-
<PAGE>
PART II. OTHER INFORMATION
Item 1. Legal Proceedings
For information regarding lawsuits, reference is made to Item 3 of the
Company's Form 10-K (Annual Report) for the fiscal year ended September 30,
1997. Also see Note 4 to the December 31, 1997 financial statements included
in Part I.
Item 6. Exhibits and Reports on Form 8-K
(A) Exhibits:
Exhibit 11.1 - Statement re: Computation of Earnings Per Share
Exhibit 27 - Financial Data Schedule
(B) Reports on Form 8-K: None
-17-
<PAGE>
SIGNATURES
Pursuant to the requirements 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.
Date: February 10, 1998 CASTLE ENERGY CORPORATION
/s/Richard E. Staedtler
-------------------------
Richard E. Staedtler
Chief Financial Officer
Chief Accounting Officer
-18-
<PAGE>
Exhibit 11.1
Castle Energy Corporation
Statement of Computation of Earnings Per Share
(Dollars in thousands, except per share amounts)
(Unaudited)
<TABLE>
<CAPTION>
Three Months Ended December 31,
---------------------------------------------------------------------
1997 1996
----------------------------- ------------------------------
Basic Diluted Basic Diluted
------------ ------------ ------------ ------------
<S> <C> <C> <C> <C>
I. Shares Outstanding, Net of Treasury
Stock Purchased During the Period:
Stock, net 4,715,546 4,715,546 6,693,646 6,693,646
Purchase of treasury stock (weighted) (960) (960) (1,865) (1,865)
------------ ------------ ------------ ------------
4,714,586 4,714,586 6,691,781 6,691,781
II. Weighted Equivalent Shares:
Assumed options and warrants exercised 31,104 25,696
------------ ------------ ------------ ------------
III. Weighted Average Shares and Equivalent Shares 4,714,546 4,745,690 6,691,781 6,717,477
============ ============ ============ ============
IV. Net Income $ 2,822 $ 2,822 $ 2,236 $ 2,236
============ ============ ============ ============
V. Net Income Per Share $ .60 $ .59 $ .33 $ .33
============ ============ ============ ============
</TABLE>
<TABLE> <S> <C>
<ARTICLE> 5
<LEGEND>
THIS SCHEDULE CONTAINS SUMMARY FINANCIAL DATA EXTRACTED FROM THE COMPANY'S
CONSOLIDATED FINANCIAL STATEMENTS FOR THE QUARTER ENDED DECEMBER 31, 1997
INCLUDED IN PART I FINANCIAL INFORMATION AND IS QUALIFIED IN ITS ENTIRETY BY
REFERENCE TO SUCH FINANCIAL STATEMENTS.
</LEGEND>
<MULTIPLIER> 1,000
<S> <C>
<PERIOD-TYPE> 3-MOS
<FISCAL-YEAR-END> SEP-30-1998
<PERIOD-END> DEC-31-1997
<CASH> 51,490
<SECURITIES> 0
<RECEIVABLES> 9,420
<ALLOWANCES> 0
<INVENTORY> 0
<CURRENT-ASSETS> 71,018
<PP&E> 11,306
<DEPRECIATION> 7,720
<TOTAL-ASSETS> 88,687
<CURRENT-LIABILITIES> 18,767
<BONDS> 0
0
0
<COMMON> 3,400
<OTHER-SE> 67,080
<TOTAL-LIABILITY-AND-EQUITY> 88,687
<SALES> 20,979
<TOTAL-REVENUES> 20,979
<CGS> 13,086
<TOTAL-COSTS> 17,227
<OTHER-EXPENSES> 0
<LOSS-PROVISION> 0
<INTEREST-EXPENSE> 0
<INCOME-PRETAX> 4,410
<INCOME-TAX> 1,588
<INCOME-CONTINUING> 2,822
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> 2,822
<EPS-PRIMARY> .60
<EPS-DILUTED> .59
</TABLE>
