<PAGE>
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
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 SEPTEMBER 30, 1998
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the transition period from _____ to _____
Commission file number 0-16487
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INLAND RESOURCES INC.
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(Exact name of Registrant as specified in its charter)
WASHINGTON 91-1307042
- ------------------------------- -------------------
(State or Other Jurisdiction of (IRS Employer
Incorporation or Organization) Identification No.)
410 17TH STREET, SUITE 700, DENVER, COLORADO 80202
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(Address of Principal Executive Offices) (ZIP Code)
Registrant's Telephone Number, Including Area Code: (303) 893-0102
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(Former name, address and fiscal year, if changed, since last report)
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Indicate by check mark whether the registrant (1) has filed all reports required
to be filed by Sections 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 xx No
---- ----
Number of shares of common stock, par value $.001 per share, outstanding as of
November 12, 1998: 8,406,740
<PAGE>
PART 1. FINANCIAL INFORMATION
INLAND RESOURCES INC.
CONSOLIDATED BALANCE SHEETS
SEPTEMBER 30, 1998 AND DECEMBER 31, 1997
(In thousands)
<TABLE>
SEPTEMBER 30, DECEMBER 31,
1998 1997
------------- ------------
<S> <C> <C>
ASSETS (Unaudited)
Current assets:
Cash and cash equivalents $ 1,659 $ 604
Accounts receivable 7,885 13,601
Inventory 7,397 6,974
Other current assets 1,720 2,087
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Total current assets 18,661 23,266
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Property and equipment, at cost:
Oil and gas properties (successful efforts method) 175,039 143,829
Accumulated depletion, depreciation and amortization (17,551) (10,009)
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157,488 133,820
Other property and equipment, net 22,838 14,699
Other long-term assets 3,119 4,168
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Total assets $ 202,106 $ 175,953
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--------- ---------
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities:
Accounts payable $ 16,133 $ 6,238
Accrued liabilities 2,654 3,614
Current portion of long-term debt 12,669 167
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Total current liabilities 31,456 10,019
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Long-term debt 138,143 122,944
Environmental liability 922 1,000
Mandatorily redeemable Series C preferred stock 9,568 9,568
Accrued Series C preferred stock dividends 1,233 450
Warrants outstanding 1,300 1,300
Stockholders' equity:
Preferred Class A stock, par value $.001, 20,000,000
shares authorized; 100,000 shares of
Series C outstanding
Common stock, par value $.001; 25,000,000 shares
authorized; issued and outstanding 8,384,421 and
8,359,830, respectively 8 8
Additional paid-in capital 41,893 41,856
Accumulated deficit (22,417) (11,192)
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Total stockholders' equity 19,484 30,672
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Total liabilities and stockholders' equity $ 202,106 $ 175,953
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</TABLE>
The accompanying notes are an integral part of the consolidated financial
statements
1
<PAGE>
PART 1. FINANCIAL INFORMATION (CONTINUED)
INLAND RESOURCES INC.
CONSOLIDATED STATEMENTS OF OPERATIONS
FOR THE THREE-MONTH AND NINE-MONTH PERIODS ENDED SEPTEMBER 30, 1998 AND 1997
(In thousands except earnings per share)
(Unaudited)
<TABLE>
Three months ended Nine months ended
September 30, September 30,
--------------------------- ---------------------------
1998 1997 1998 1997
-------- -------- -------- --------
<S> <C> <C> <C> <C>
Revenues:
Sales of refined product $ 17,740 $ 52,978
Sales of crude oil and natural gas 3,105 $ 3,915 11,701 $ 10,403
-------- -------- -------- --------
Total revenues 20,845 3,915 64,679 10,403
-------- -------- -------- --------
Operating expenses:
Cost of refinery feedstock 11,850 39,455
Refinery operating expenses 3,014 6,968
Lease operating expenses 2,086 732 6,182 1,953
Production taxes 117 166 345 445
Exploration 37 14 128 43
Depletion, depreciation and amortization 3,299 1,652 8,617 4,067
General and administrative, net 901 491 2,690 1,332
-------- -------- -------- --------
Total operating expenses 21,304 3,055 64,385 7,840
-------- -------- -------- --------
Operating income (loss) (459) 860 294 2,563
Interest expense (3,971) (598) (10,867) (1,895)
Other income, net 206 61 343 365
-------- -------- -------- --------
Net income (loss) before extraordinary loss (4,224) 323 (10,230) 1,033
Extraordinary loss on early extinguishment of debt (295) (212) (1,160)
-------- -------- -------- --------
Net income (loss) (4,224) 28 (10,442) (127)
Preferred Series B Stock redemption premium (580) (580)
Preferred Series C accrued stock dividend (255) (783)
-------- -------- -------- --------
Net loss available to common stockholders $ (4,479) $ (552) $(11,225) $ (707)
-------- -------- -------- --------
-------- -------- -------- --------
Net loss per share - Basic
Before extraordinary loss $ (0.53) $ (0.03) $ (1.31) $ 0.06
Extraordinary loss $ (0.04) $ (0.03) $ (0.16)
-------- -------- -------- --------
Total $ (0.53) $ (0.07) $ (1.34) $ (0.10)
-------- -------- -------- --------
-------- -------- -------- --------
Basic weighted average common shares outstanding 8,378 8,049 8,369 6,991
-------- -------- -------- --------
-------- -------- -------- --------
Net loss per share - Diluted
Before extraordinary loss $ (0.53) $ (0.03) $ (1.31) $ 0.06
Extraordinary loss $ (0.04) $ (0.03) $ (0.16)
-------- -------- -------- --------
Total $ (0.53) $ (0.07) $ (1.34) $ (0.10)
-------- -------- -------- --------
-------- -------- -------- --------
Diluted weighted average common shares outstanding 8,378 8,049 8,369 6,991
-------- -------- -------- --------
-------- -------- -------- --------
Dividends per common share NONE NONE NONE NONE
-------- -------- -------- --------
-------- -------- -------- --------
</TABLE>
The accompanying notes are an integral part of the consolidated financial
statements
2
<PAGE>
PART 1. FINANCIAL INFORMATION (CONTINUED)
INLAND RESOURCES INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS
FOR THE NINE-MONTH PERIODS ENDED SEPTEMBER 30, 1998 AND 1997
(In thousands)
(Unaudited)
<TABLE>
1998 1997
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<S> <C> <C>
Cash flows from operating activities:
Net loss $ (10,442) $ (127)
Adjustments to reconcile net loss to net cash
provided by operating activities:
Depletion, depreciation and amortization 8,617 4,067
Amortization of debt issue costs and debt discount 491 155
Loss on early extinguishment of debt 212 1,160
Effect of changes in current assets and liabilities:
Accounts receivable 5,716 603
Inventory (1,423) (955)
Other assets 304 (643)
Accounts payable and accrued expenses 8,857 5,040
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Net cash provided by operating activities 12,332 9,300
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Cash flows from investing activities:
Acquisition of oil and gas properties (69,922)
Development expenditures and equipment purchases (36,524) (21,908)
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Net cash used by investing activities (36,524) (91,830)
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Cash flows from financing activities:
Proceeds from sale of preferred stock 9,575
Proceeds from sale of common stock 37 293
Proceeds from issuance of long-term debt 39,800 131,346
Payments of long-term debt (13,705) (60,099)
Debt issue costs (885) (3,635)
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Net cash provided by financing activities 25,247 77,480
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Net change in cash and cash equivalents 1,055 (5,050)
Cash and cash equivalents at beginning of period 604 10,031
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Cash and cash equivalents at end of period $ 1,659 $ 4,981
--------- ---------
--------- ---------
</TABLE>
The accompanying notes are an integral part of the consolidated financial
statements
3
<PAGE>
PART 1. FINANCIAL INFORMATION (CONTINUED)
INLAND RESOURCES INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
------
1. COMPANY ORGANIZATION:
Inland Resources Inc. (the "Company") is an independent energy company with
substantially all of its producing oil and gas property interests located
in the Monument Butte Field within the Uinta Basin of Northeastern Utah.
The Company also owns a refinery located in Woods Cross, Utah with an
optimum refining capacity of 12,500 barrels per day.
2. BASIS OF PRESENTATION:
The preceding financial information has been prepared by the Company
pursuant to the rules and regulations of the Securities and Exchange
Commission ("SEC") and, in the opinion of the Company, includes all normal
and recurring adjustments necessary for a fair statement of the results of
each period shown. Certain information and footnote disclosures normally
included in the financial statements prepared in accordance with generally
accepted accounting principles have been condensed or omitted pursuant to
SEC rules and regulations. Management believes the disclosures made are
adequate to ensure that the financial information is not misleading, and
suggests that these financial statements be read in conjunction with the
Company's Annual Report on Form 10-KSB for the year ended December 31,
1997.
3. ACCOUNTING PRONOUNCEMENT:
The Financial Accounting Standards Board issued Statement No. 133
"Accounting for Derivative Instruments and Hedging Activities" effective
for fiscal years beginning after June 15, 1999. The Statement requires
companies to record derivative transactions on the balance sheet as assets
or liabilities, measured at fair value, and further defines transactions
that qualify for hedge accounting. The Company has not assessed the impact
this Statement may have on reported financial information.
4. INVENTORIES:
Inventories at September 30, 1998 and December 31, 1997 consist of the
following (in thousands):
<TABLE>
September 30, December 31,
1998 1997
------------- ------------
<S> <C> <C>
Crude Oil $ 906 $ 1,006
Refined Product 4,129 3,685
Tubular goods 2,170 1,994
Materials and supplies 192 289
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Total $ 7,397 $ 6,974
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</TABLE>
5. DEBT:
On September 30, 1997, the Company closed separate Credit Agreements with
Trust Company of the West ("TCW") and ING (U.S.) Capital Corporation
("ING"), both of which have been substantially amended. The TCW Credit
Agreement provided the Company with $75.0 million, all of which was funded
at closing. The borrowing base under ING Credit Agreement is limited to the
collateral value of proved reserves and is currently established at $70.0
million. At September 30, 1998, the Company had $64.75 million of
borrowings and $2.3 million of letter of credit obligations outstanding
under the ING Credit Agreement and $75.0 million of borrowings outstanding
under the TCW Credit Agreement. On October 16, 1998, the Company borrowed
an additional $1.9 million under the ING Credit Agreement lowering its
current availability to approximately $1.0 million.
4
<PAGE>
Subsequent to September 30, 1998, a working capital covenant common to
both the ING Credit Agreement and the TCW Credit Agreement was waived
through December 31, 1998, allowing the Company to remain in compliance
as of September 30, 1998. The Company believes it will be able
restructure its capital to bring this covenant in compliance by December
31, 1998, although there can be no assurance that the Company will be
successful. As a result, the associated debt is classified on the
accompanying Consolidated Balance Sheet based on the existing terms for
repayment. If the Company fails in its restructuring attempt or does not
receive additional modifications or waivers, the Company may be out of
compliance with this or other debt covenants on December 31, 1998 which
would cause the entire debt balance to be classified as a current
liability given the lenders ability to call the debt for repayment at
that time.
6. FARMOUT AGREEMENT:
Since June 1, 1998, the Company's drilling program has been conducted under
a Farmout Agreement with Smith Management LLC ("Smith"). The Farmout
Agreement contemplated the drilling and completion of 56 wells before
December 31, 1998 aggregating total expenditures of approximately $20.0
million (including management fees). Under the Farmout Agreement, Smith
agreed to fund 100% of the drilling and completion costs for wells
commenced prior to October 1, 1998 and 70% for wells commenced after
September 30, 1998. Smith also agreed to take production proceeds payments,
at the Company's option, either in cash or in shares of the Company's
common stock priced at a 10% discount of the average bid side of the
closing price for each trading day during the month to which the payment
relates. Through November 12, 1998, the Company has issued 29,195 shares of
common stock related to the Farmout Agreement. The Farmout Agreement
provides that Smith will reconvey all drillsites to the Company once Smith
has recovered from production an amount equal to 100% of its expenditures,
including management fees and production taxes, plus an additional sum
equal to 18% per annum on such expended sums. The Farmout Agreement with
Smith satisfied the Company's obligation to its lenders to obtain a capital
infusion of at least $15.0 million by June 30, 1998. The Company received
advances of $10.05 million under the Farmout Agreement as of September 30,
1998. On October 1, 1998, the Company received an additional advance of
$2,835,000 related to September drilling under the Farmout Agreement
bringing total advances to $12,885,000. As of the filing of this Form 10-Q,
a $2.2 million invoice relating to October drilling had not been paid by
Smith. In addition, Smith has informed the Company that it will not fund
further development in November and December as contemplated in the Farmout
Agreement.
7. SOUND REFINING:
During the third quarter of 1998, the Company revised its preliminary
purchase accounting estimates related to the acquisition of the Woods Cross
Refinery. The revision directly effects the carrying value of certain
assets associated with the Sound Refining facility in Tacoma, Washington.
At the time of recording the initial purchase accounting entries at
December 31, 1997, the Company was aware that the value assigned to the
inventory and note receivable associated with Sound Refining would have to
be reevaluated to determine their actual value. The Company has now
concluded that the value of the note receivable and inventory is zero. The
resulting adjustment was to decrease the carrying value of inventory by
$1.0 million and notes receivable by $1.5 million, with a corresponding
increase to other property and equipment at the Woods Cross facility of
$2.5 million. The Company cannot predict when or if any amounts will
ultimately be recovered on these assets. A director of Inland Refining,
Inc., the Company's 100% owned refining subsidiary, controls the entity
that purchased the Sound Refinery assets. The reclassification did not have
any material effect on the Consolidated Statement of Operations or
Consolidated Stockholders' Equity.
5
<PAGE>
PART 1. FINANCIAL INFORMATION (CONTINUED)
INLAND RESOURCES INC.
MANAGEMENT'S DISCUSSION AND ANALYSIS OR PLAN OF OPERATION
------
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OR PLAN OF OPERATION:
RESULTS OF OPERATIONS:
GENERAL:
Effective September 1, 1997, the Company acquired 153 gross (46.9 net)
wells from Enserch Exploration Company ("Enserch"). Effective September 30,
1997, the Company acquired 279 gross (184 net) wells from Equitable Resources
Energy Company ("EREC"). On December 31, 1997, the Company closed the
acquisition of an oil refinery located in Woods Cross, Utah (the "Woods Cross
Refinery"). These acquisitions were accounted for as purchases, therefore, the
assets and results of operations are included in the Company's financial
statements from the effective acquisition dates forward.
THREE MONTH PERIODS ENDED SEPTEMBER 30, 1998 AND 1997:
SALES OF REFINED PRODUCTS - The Company averaged sales of 9,500 barrels per
day from the Woods Cross Refinery, of which 59% represented gasoline and diesel
products. Third quarter sales volumes were 12% higher than the initial six
months of the year as the Company realized the benefits of completing various
major repair and maintenance procedures. The sales price of the Company's
product slate averaged $20.30 during the third quarter which was less than
earlier quarters due to Salt Lake City market conditions. The Company did not
have refining operations during the third quarter of 1997.
SALES OF CRUDE OIL AND NATURAL GAS - The Company eliminated in
consolidation $2.29 million of sales made between its production operations and
the Woods Cross Refinery during the third quarter of 1998. Prior to considering
intercompany eliminations, crude oil and natural gas sales during the third
quarter of 1998 exceeded the previous year third quarter by 38%. The increase
was attributable to the Enserch and EREC acquisitions and the effects of the
Company's development drilling results. During 1997 the Company drilled 80 wells
and during the first nine months of 1998 the Company drilled an additional 86
wells. Although production increased 95% on a barrel of oil equivalent ("BOE")
basis, the sales increase was only 38% due primarily to a 37% decrease in the
average price received for crude oil production from $15.63 during the third
quarter of 1997 to $9.81 during the same period in 1998.
As further discussed in "Liquidity and Capital Resources" below, the Company has
entered into price protection agreements to hedge against volatility in crude
oil prices. Although hedging activities do not affect the Company's actual sales
price for crude oil in the field, the financial impact of hedging transactions
is reported as an adjustment to crude oil revenue in the period in which the
related oil is sold. Oil and gas sales were increased by $100,000 and decreased
by $33,000 during the third quarters of 1998 and 1997, respectively, to
recognize hedging contract settlement gains and losses and contract purchase
cost amortization.
6
<PAGE>
COST OF REFINERY FEEDSTOCK - The Company purchases crude oil from a number
of sources, including major oil companies and small independent producers, under
arrangements which contain market-responsive pricing provisions. The Company's
Woods Cross Refinery began purchasing approximately 2,000 barrels per day of the
Company's own "Black Wax" crude oil production during April 1998. The Company
has completed modifications to the Woods Cross Refinery to allow 5,000 barrels
per day of Black Wax crude oil to be processed. The Company's average cost of
crude oil, including transportation charges, was $16.59 per barrel during the
third quarter of 1998 before considering the elimination of $2.29 million of
costs associated with sales between its production operations and refinery.
REFINERY OPERATING EXPENSE - During the third quarter of refinery
operations, the Company continued to upgrade and repair key refinery equipment.
Operating costs, consisting primarily of direct labor, utilities and repairs
averaged $2.97 per barrel sold. The refinery is considered to be in good
operating condition. No additional major turnaround projects are expected in
1998, although the Company will continue to repair and upgrade its buildings,
tanks and roads.
LEASE OPERATING EXPENSES - Lease operating expense increased $1.35 million
between periods due to the large increase in the number of producing wells the
Company operates. Lease operating expense per BOE sold was $3.90 during the
third quarter of 1998, up from the $2.66 experienced during the third quarter of
1997. The increase on a BOE basis is the result of the Enserch and EREC
acquisitions that included a large number of lower producing wells.
PRODUCTION TAXES - Production tax expense consists of estimates of the
Company's yearly effective tax rate for Utah state severance tax and production
ad valorem tax. Changes in sales prices, tax rates, tax exemptions and the
timing, location and results of drilling activities can all affect the Company's
actual effective tax rate. During the third quarter of 1998 the Company recorded
production taxes at 2.2% of sales, consistent with the actual effective rate for
the 1997 tax year. The estimated production tax rate recorded during the third
quarter of 1997 was 4.2%.
EXPLORATION - Exploration expense represents the Company's cost to retain
unproved acreage.
DEPLETION, DEPRECIATION AND AMORTIZATION - The increase in depletion,
depreciation and amortization resulted from increased sales volumes offset by a
lower depletion rate. In addition, the refinery purchase increased the
depreciable basis of assets. Depletion, which is based on the
units-of-production method, comprises the majority of the total charge. The
depletion rate is a function of capitalized costs and related underlying
reserves in the periods presented. The Company's average depletion rate was
$5.35 per BOE sold during the third quarter of 1998 compared to $5.65 per BOE
sold during the third quarter of 1997.
GENERAL AND ADMINISTRATIVE, NET - General and administrative expense
increased $410,000 between quarters. This expense would have decreased if not
for the $520,000 of general and administrative expense related to refining
operations which were not present in the prior year. General and administrative
expense for production operations is reported net of operator fees and
reimbursements which were $1.5 million and $0.6 million during the third
quarters of 1998 and 1997, respectively. Gross general and administrative
expense for production operations was $1.9 million in 1998 and $1.1 million in
1997. The increase in reimbursements and expense is a function of the level of
operated field activity which increased dramatically with the Enserch and EREC
purchases.
INTEREST EXPENSE - Borrowings during the third quarter of 1998 were
recorded at an effective interest rate of 10.6%. Borrowings during the third
quarter of 1997 were recorded at an effective interest rate of 8.0%. The
increase in expense between periods was due to a significant increase in the
average amount of borrowings outstanding due to the leveraged purchases of
Enserch, EREC and the Woods Cross Refinery.
OTHER INCOME - Other income represents interest earned on the investment of
surplus cash balances.
7
<PAGE>
EXTRAORDINARY LOSS ON EARLY EXTINGUISHMENT OF DEBT - On September 30, 1997,
the Company refinanced an existing obligation to a former lender. Unamortized
debt issue costs of $295,000 were written off as an extraordinary loss.
INCOME TAXES - During the third quarter of 1998 and 1997, no income tax
provision or benefit was recognized due to net operating losses incurred and the
recording and reversal of a full valuation allowance.
NINE MONTH PERIODS ENDED SEPTEMBER 30, 1998 AND 1997:
SALES OF REFINED PRODUCTS - The Company averaged sales of 8,900 barrels per
day from the Woods Cross Refinery, of which 58% was gasoline and diesel
products. The Company performed various major repair and maintenance procedures
that negatively impacted the volumes available for sale during the initial nine
months of the year. The Company expects its average daily sales to exceed 9,000
barrels per day during the remainder of 1998, although there can be no assurance
of this increase. The sales price of the Company's product slate has averaged
$20.67 during the initial nine months of the year. The Company did not have
refining operations during 1997.
SALES OF CRUDE OIL AND NATURAL GAS - The Company eliminated in
consolidation $4.2 million of sales made between its production operations and
the Woods Cross Refinery. Prior to considering intercompany eliminations, crude
oil and natural gas sales during the initial nine months of 1998 exceeded the
previous year by 53%. The increase was attributable to the Enserch and EREC
acquisitions and the effects of the Company's development drilling results.
During 1997 the Company drilled 80 wells and during the first nine months of
1998 the Company drilled an additional 86 wells. Although production increased
121% on a barrel of oil equivalent ("BOE") basis, the sales increase was only
53% due primarily to a 41% decrease in the average price received for crude oil
production from $17.01 during the initial nine months of 1997 to $10.10 during
the same period in 1998.
As further discussed in "Liquidity and Capital Resources" below, the Company has
entered into price protection agreements to hedge against volatility in crude
oil prices. Although hedging activities do not affect the Company's actual sales
price for crude oil in the field, the financial impact of hedging transactions
is reported as an adjustment to crude oil revenue in the period in which the
related oil is sold. Oil and gas sales were increased by $194,000 and decreased
by $176,000 during the initial nine months of 1998 and 1997, respectively, to
recognize hedging contract settlement gains and losses and contract purchase
cost amortization.
COST OF REFINERY FEEDSTOCK - The Company purchases crude oil from a number of
sources, including major oil companies and small independent producers, under
arrangements which contain market-responsive pricing provisions. The Company's
Woods Cross Refinery began purchasing approximately 2,000 barrels per day of the
Company's own "Black Wax" crude oil production during April 1998. The Company
has completed its modifications to the Woods Cross Refinery to allow as much as
5,000 barrels per day of Black Wax crude oil to be processed. The Company's
average cost of crude oil, including transportation charges, was $16.82 per
barrel during the initial nine months of 1998 before considering the elimination
of $4.2 million of costs associated with sales between its production operations
and refinery.
REFINERY OPERATING EXPENSE - The Company spent considerable resources
during the initial six months of 1998 to upgrade and repair key refinery
equipment which had been neglected by prior owners. Operating costs, consisting
primarily of direct labor, utilities and repairs have averaged $2.87 per barrel
sold. The refinery is considered to be in good operating condition. No
additional major turnaround projects are expected in 1998, although the Company
will continue to repair and upgrade its buildings, tanks and roads.
LEASE OPERATING EXPENSES - Lease operating expense increased $4.2 million
between periods due to the large increase in the number of producing wells the
Company operates. Lease operating expense per BOE sold was $4.14 during the
first nine months of 1998, up from the $2.89 experienced during the first nine
months of 1997. The increase on a BOE basis is the result of the Enserch and
EREC acquisitions that included a large number of lower producing wells.
8
<PAGE>
PRODUCTION TAXES - Production tax expense consists of estimates of the
Company's yearly effective tax rate for Utah state severance tax and production
ad valorem tax. Changes in sales prices, tax rates, tax exemptions and the
timing, location and results of drilling activities can all affect the Company's
actual effective tax rate. During the initial nine months of 1998 the Company
recorded production taxes at 2.2% of sales, consistent with the actual effective
rate for the 1997 tax year. The estimated production tax rate recorded during
the initial nine months of 1997 was 4.2%.
EXPLORATION - Exploration expense represents the Company's cost to retain
unproved acreage.
DEPLETION, DEPRECIATION AND AMORTIZATION - The increase in depletion,
depreciation and amortization resulted from increased sales volumes offset by a
lower depletion rate. In addition, the refinery purchase increased the
depreciable basis of assets. Depletion, which is based on the
units-of-production method, comprises the majority of the total charge. The
depletion rate is a function of capitalized costs and related underlying
reserves in the periods presented. The Company's average depletion rate was
$5.06 per BOE sold during the first nine months of 1998 compared to $5.65 per
BOE sold during the same period in 1997. Based on the Company's July 1, 1998
reserve report, the current depletion charge is $5.35 per barrel.
GENERAL AND ADMINISTRATIVE, NET - General and administrative expense
increased $1.4 million between quarters. This expense would have decreased
between periods if not for the $1.5 million of general and administrative
expense related to refining operations which were not present in the prior year.
General and administrative expense for production operations is reported net of
operator fees and reimbursements which were $4.3 million and $1.9 million during
the first nine months of 1998 and 1997, respectively. Gross general and
administrative expense for production operations was $5.5 million in 1998 and
$3.2 million in 1997. The increase in reimbursements and expense is a function
of the level of operated field activity which increased dramatically with the
Enserch and EREC purchases.
INTEREST EXPENSE - Borrowings during 1998 were recorded at an effective
interest rate of 10.6%. Borrowings during 1997 were recorded at an effective
interest rate of 9.5%. The increase in expense between periods was due to a
significant increase in the average amount of borrowings outstanding due to the
leveraged purchases of Enserch, EREC and the Woods Cross Refinery.
OTHER INCOME - Other income represents interest earned on the investment of
surplus cash balances.
EXTRAORDINARY LOSS ON EARLY EXTINGUISHMENT OF DEBT - On May 29, 1998, the
Company refinanced its Credit Agreement with Banque Paribas and wrote off
$212,000 of debt issuance cost. On September 30, 1997, the Company refinanced an
existing obligation to a former lender. Unamortized debt issue costs of $295,000
were written off as an extraordinary loss. On June 30, 1997, the Company
refinanced an obligation to Trust Company of the West. Unamortized debt issue
costs of $291,000 and an unamortized loan discount of $573,000 were written off
as an extraordinary loss.
INCOME TAXES - During the first half of 1998 and 1997, no income tax
provision or benefit was recognized due to net operating losses incurred and the
recording and reversal of a full valuation allowance.
9
<PAGE>
LIQUIDITY AND CAPITAL RESOURCES
At September 30, 1998, the Company had $202.1 million of assets. Total
capitalization was $182.4 million of which 11% was represented by stockholders'
equity, 7% by mezzanine equity, 35% by senior debt and 47% by subordinated and
other debt. During the initial nine months of 1998, the Company generated $12.3
million from operating activities and borrowed $39.8 million. These sources
along with cash on hand were used to fund $34.5 million of development in the
Monument Butte Field, perform $2.0 million of capital upgrades at the refinery
and repay $13.0 million to a former lender. The remaining net change in cash was
caused by changes in working capital account positions and other miscellaneous
items.
Through November 12, 1998, the Company drilled 95 gross (73 net) wells and
converted 25 wells to injection. An additional $4.0 million of capital
expenditures was incurred related to the drilling program between September 30,
1998 and the suspension of drilling in early November. The Company expects to
restructure its capital such that its drilling program can be renewed by the
first quarter of 1999, although there is no assurance that the Company will be
successful. Until the capital restructuring is complete, the Company does not
plan to drill additional wells focusing instead on its continuing efforts to
pressurize the Monument Butte Field through additional development of its water
injection infrastructure. The level of these and other capital expenditures is
largely discretionary, and the amount of funds devoted to any particular
activity may increase or decrease significantly depending on available
opportunities, capital availability and market conditions.
Since June 1, 1998, the Company's drilling program has been conducted under
a Farmout Agreement with Smith Management LLC ("Smith"). The Farmout Agreement
contemplated the drilling and completion of 56 wells before December 31, 1998
aggregating total expenditures of approximately $20.0 million (including
management fees). Under the Farmout Agreement, Smith agreed to fund 100% of the
drilling and completion costs for wells commenced prior to October 1, 1998 and
70% for wells commenced after September 30, 1998. Smith also agreed to take
production proceeds payments, at the Company's option, either in cash or in
shares of the Company's common stock priced at a 10% discount of the average bid
side of the closing price for each trading day during the month to which the
payment relates. Through November 12, 1998, the Company has issued 29,195 shares
of common stock related to the Farmout Agreement. The Farmout Agreement provides
that Smith will reconvey all drillsites to the Company once Smith has recovered
from production an amount equal to 100% of its expenditures, including
management fees and production taxes, plus an additional sum equal to 18% per
annum on such expended sums. The Farmout Agreement with Smith satisfied the
Company's obligation to its lenders to obtain a capital infusion of at least
$15.0 million by June 30, 1998. The Company received advances of $10.05 million
under the Farmout Agreement as of September 30, 1998. On October 1, 1998, the
Company received an additional advance of $2,835,000 related to September
drilling under the Farmout Agreement bringing total advances to $12,885,000. As
of the filing of this Form 10-Q, a $2.2 million invoice relating to October
drilling had not been paid by Smith. In addition, Smith has informed the Company
that it will not fund further development in November and December as
contemplated in the Farmout Agreement.
The Company's drilling program was suspended due to the continuing low oil
price environment and the decision of Smith to stop funding under the Farmout
Agreement. The Company has a working capital deficit of $12.8 million at
September 30, 1998. Approximately $12.7 million of the deficit is caused by
principal payments due on the Company's senior debt facility beginning June
1999. Based on current conditions, the Company will not be able to make its
senior facility principal payments as scheduled. The Company also has an
immediate $5.0 million to $7.0 million cash requirement to fund outstanding
accounts payable. The Company is pursuing a number of strategies to cure its
short-term liquidity issue. Possible solutions include obtaining modifications
to its credit agreements, selling assets, issuing additional debt or selling
additional equity of the Company. Although the Company believes its lenders will
assist in solving the Company's liquidity and working capital issues, there can
be no assurance that the Company will obtain modifications or concessions from
its lenders or raise the necessary capital from other sources in the time frames
required. As a result, the Company may have to further slow or stop development
of the Monument Butte Field and suspend all upgrades at the Woods Cross
Refinery.
10
<PAGE>
FINANCING - On September 30, 1997, the Company closed separate Credit
Agreements with Trust Company of the West and TCW Asset Management Company in
their capacities as noteholder and agent (collectively "TCW") and ING (U.S.)
Capital Corporation ("ING"). Subsequent to the closing of the ING Credit
Agreement, U.S. Bank National Association and Meespierson Capital Corp.
(collectively referred to herein with ING as the "Senior Lenders") became loan
participants in the ING Credit Agreement. The Credit Agreement with TCW provided
the Company with $75.0 million, all of which was funded at closing. The ING
Credit Agreement provides the Company with a borrowing base which is currently
established at $70.0 million. The borrowing base under the ING facility is
limited to the collateral value of proved reserves as determined semiannually by
the Senior Lenders. At September 30, 1998, the Company had $64.75 million of
borrowings and $2.3 million of letter of credit obligations outstanding under
the ING Credit Agreement and $75.0 million borrowed under the TCW Credit
Agreement. On October 16, 1998, the Company borrowed an additional $1.9 million
under the ING Credit Agreement lowering its current availability to $1.0
million.
The ING Credit Agreement constitutes a revolving line of credit until
March 31, 1999, at which time it converts to a term loan payable in quarterly
installments through March 29, 2003. The quarterly installments, based on a
$70.0 million borrowing base, are $6.2 million for the first three quarters,
$4.7 million for the next four quarters, $3.9 million for the next four
quarters, $3.5 million for the next four quarters, and $3.0 million on March
29, 2003. The ING loan bears interest, at the Company's option, at either (i)
the average prime rates announced from time to time by The Chase Manhatten
Bank, Citibank, N.A. and Morgan Guaranty Trust Company of New York plus 0.5%
per annum; or (ii) at LIBOR plus 1.75%. The Company has consistently selected
the LIBOR rate option resulting in an effective interest rate of
approximately 7.75%. As required by the ING and TCW Credit Agreements, on
April 30, 1998 the Company paid $140,000 to put in place an interest rate
hedge. The hedge covers the period June 12, 1998 through December 12, 2000
and effectively provides a 6.75% LIBOR rate interest ceiling (before
consideration of the 1.75% adjustment) on $35.0 million of borrowings under
the ING Credit Agreement. The loan from ING is secured by a first lien on
substantially all assets of the Company.
The TCW Credit Agreement is comprised of a $65.0 million tranche and a
$10.0 million tranche and is payable interest only, at a rate of 9.75% per
annum, quarterly until the earlier of December 31, 2003 or the date on which the
ING loan is paid in full. At that time, the TCW Credit Agreement converts to a
term loan payable in twelve quarterly installments of principal and interest.
The quarterly principal installments are $6.25 million for the first four
quarters, $8.75 million for the next four quarters and $3.75 million for the
last four quarters. The Company granted warrants to TCW to purchase 100,000
shares of common stock at an exercise price of $10.00 per share (subject to
anti-dilution adjustments) at any time after September 23, 2000 and before
September 23, 2007. The Company also granted registration rights in connection
with such warrants. TCW is also entitled to additional interest on the $65.0
million tranche in an amount that yields TCW a 12.5% internal rate of return,
such interest payment to be made concurrently with the final payment of all
principal and interest on the TCW Credit Agreement. For purposes of the internal
rate of return calculation, the Company is given credit for the funding fee of
$2.25 million paid to TCW at closing. In regards to the $10.0 million tranche,
upon payment in full of the TCW Credit Agreement by the Company, TCW may elect
to "put" their warrant back to the Company and accept a cash payment which will
cause TCW to achieve a 12.5% rate of return. The TCW Credit Agreement restricts
any repayment of the indebtedness until October 1, 1999. The TCW Credit
Agreement is secured by a second lien on substantially all assets of the
Company.
The TCW and ING Credit Agreements have common covenants that restrict the
payment of cash dividends, borrowings, sale of assets, loans to others,
investment and merger activity and hedging contracts without the prior consent
of the lenders and requires the Company to maintain certain net worth, interest
coverage and working capital ratios. Subsequent to September 30, 1998, a working
capital covenant common to both the ING Credit Agreement and the TCW Credit
Agreement was waived until December 31, 1998, allowing the Company to remain in
compliance as of September 30, 1998. The Company believes it will be able
restructure its capital to bring this covenant in compliance by December 31,
1998, although there can be no assurance that the Company will be successful. As
a result, the associated debt is classified on the accompanying Consolidated
Balance Sheet based on the existing terms for repayment. If the Company fails in
its restructuring attempt or does not receive
11
<PAGE>
additional modifications or waivers, the Company may be out of compliance
with this or other debt covenants on December 31, 1998 which would cause the
entire debt balance to be classified as a current liability given the lenders
ability to call the debt for repayment at that time.
CRUDE OIL HEDGING ACTIVITIES - The Company has a hedge in place with Enron
Capital and Trade Resources Corp. (the "Enron Hedge") that hedges crude oil
production over a five year period beginning January 1, 1996 in monthly amounts
escalating from 8,500 Bbls in January 1996 to 14,000 Bbls in December 2000. The
hedge is structured as a cost free collar whereby the average monthly price,
based on NYMEX Light Sweet Crude Oil Futures Contracts, is between $18.00 and
$20.55 per barrel. On January 1, 1997, the Company paid $34,170 to enter into a
contract with Koch Gas Services Company ("Koch") that exactly offsets the effect
of the Enron Hedge during the period January 1998 through December 2000.
The Company also had a put contract with Enron for 100,000 barrels per
month from January 1998 through March 1998 at a put price of $16.00 per barrel.
The Company recorded $95,500 of income under this contract in the first quarter
of 1998.
On March 12, 1998, the Company entered into a cost free collar with Enron
whereby the average monthly price, based on NYMEX Light Sweet Crude Oil Futures
Contracts, is between $14.50 and $17.70 per barrel. The collar covers 75,000
barrels per month for the period from April 1998 through December 1998. The
Company recorded income of $177,000 during 1998 under this contract.
MARKETS - The oil produced from the Monument Butte Field is called "Black
Wax". As the quantity of Black Wax produced within the Monument Butte Field
grows, physical limitations within the regional refineries, located in Salt Lake
City, Utah, will limit the amount of Black Wax that can be economically
processed. One of the reasons for acquiring the Woods Cross Refinery was to
provide a refining source, if needed, for the Company's Black Wax production.
During April 1998, the Company began transporting approximately 2,000 barrels
per day of its crude oil production to the Woods Cross Refinery and has
performed additional upgrades to the Woods Cross Refinery to accommodate
processing of up to 5,000 barrels per day of Black Wax. Although the Company has
held discussions with the other Salt Lake City refineries to inform them of the
outlook for increasing Black Wax production in this region, they have been
unwilling to make modifications to their existing plant configurations. Until
additional Black Wax refining facilities are constructed, there will continue to
be downward pressure on Black Wax pricing, although there can be no assurance
that additional processing facilities will positively impact the price received
for Black Wax production.
ENVIRONMENTAL MATTERS - The Company believes it is in compliance in all
material respects with applicable federal, state and local environmental
regulations. There are no environmental proceedings pending against the Company.
YEAR 2000 ISSUES
The Company is aware of the issues associated with the programming code in
many existing computer systems as the millennium approaches. The "Year 2000"
problem is pervasive; virtually every computer operation may be affected in some
way by the rollover of the digit value to 00. The risk is that computer systems
will not properly recognize sensitive information when the year changes to 2000.
Systems that do not properly recognize such information could generate erroneous
data or cause a system to fail, resulting in business interruption.
The Company has conducted a review of its computer systems and is taking
steps to correct Year 2000 compliance issues. The Company benefits from having
relatively new computer systems in most locations. The Company believes its
computer hardware is 90% Year 2000 compliant and that its computer software is
80% Year 2000 compliant. Computer hardware and software that is not Year 2000
compliant is scheduled to be updated before June 1999. The Company's operations
are not extremely dependent on vendor compliance with Year 2000 issues. To the
extent a major vendor is not Year 2000 compliant by June 1999, the Company
believes that alternative vendors that are Year 2000 compliant will be available
and selected. In summary, management
12
<PAGE>
believes that Year 2000 issues can be mitigated without a significant effect
on the Company's financial position. The Company expects to expend less than
$50,000 to become fully Year 2000 compliant. However, given the complexity of
the Year 2000 issue, there can be no assurance that the Company will be able
to address the problem without incurring costs that are material to future
financial results or future financial condition.
FORWARD LOOKING STATEMENTS
Statements that are not historical facts included in this Form 10-Q are
"forward-looking statements" within the meaning of the Private Securities
Litigation Reform Act of 1995 that involve risks and uncertainties that could
cause actual results to differ from projected results. Such statements address
activities, events or developments that the Company expects, believes, projects,
intends or anticipates will or may occur, including such matters as future
capital, development and exploration expenditures (including the amount and
nature thereof), drilling of wells, reserve estimates (including the present
value of future net revenues), future production of oil and gas, business
strategies, expansion and growth of the Company's operations, cash flow,
marketing of crude oil and natural gas, sources of crude oil for refining,
marketing of refined products and refinery maintenance, operations and upgrades.
Factors that could cause actual results to differ materially ("Cautionary
Disclosures") are described throughout this Form 10-Q. Cautionary Disclosures
include, among others: general economic conditions, the market price of crude
oil and natural gas, the Company's ability to find, acquire, market, develop and
produce new properties, operating hazards attendant to the oil and gas industry
and crude oil refining industry, uncertainties in the estimation of proved
reserves and in the projection of future rates of production and timing of
development expenditures, the strength and financial resources of the Company's
competitors, the Company's ability to find and retain skilled personnel,
climatic conditions, labor relations, availability and cost of material and
equipment, environmental risks and compliance, the results of financing efforts,
and regulatory developments and compliance. All written and oral forward-looking
statements attributable to the Company are expressly qualified in their entirety
by the Cautionary Disclosures. The Company disclaims any obligation to update or
revise any forward-looking statement to reflect events or circumstances
occurring hereafter or to reflect the occurrence of anticipated or unanticipated
events.
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURE ABOUT MARKET RISK:
This Item is not applicable to the Company for this Form 10-Q.
13
<PAGE>
PART II. OTHER INFORMATION
INLAND RESOURCES INC.
------
Items 1, 3, 4 and 5 are omitted from this report as inapplicable.
ITEM 2. CHANGES IN SECURITIES.
The Company accrued for issuance 21,293 shares of common stock dividends related
to its Series C preferred stock during the period from July 1, 1998 to September
30, 1998. Effective September 15, 1998, the Company issued 6,876 shares of
common stock to Smith pursuant to the terms of the Farmout Agreement. The
Company relied on the exemption provided by Section 4 (2) of the Securities Act
of 1933, as amended, with regard to these issuances of common stock.
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K.
The following documents are filed as part of this Quarterly Report on Form 10-Q.
<TABLE>
Exhibit
Number Description of Exhibits
- ------- -----------------------
<S> <C>
3.1 Amended and Restated Articles of Incorporation, as amended through
July 21, 1997 (filed as exhibit 3.1 to the Company's Quarterly Report
on Form 10-QSB for the quarter ended June 30, 1997, and incorporated
herein by reference).
3.2 Bylaws of the Company (filed as Exhibit 3.2 to the Company's
Registration Statement of Form S-18, Registration No. 33-11870-F, and
incorporated herein by reference).
3.2.1 Amendment to Article IV, Section 1 of the Bylaws of the Company
adopted February 23, 1993 (filed as Exhibit 3.2.1 to the Company's
Annual Report on Form 10-K for the fiscal year ended December 31,
1992, and incorporated herein by reference).
3.2.2 Amendment to the Bylaws of the Company adopted April 8, 1994 (filed as
Exhibit 3.2.2 to the Company's Registration Statement of Form S-4,
Registration No. 33-80392, and incorporated herein by reference).
3.2.3 Amendment to the Bylaws of the Company adopted April 27, 1994 (filed
as Exhibit 3.2.3 to the Company's Registration Statement of Form S-4,
Registration No. 33-80392, and incorporated herein by reference).
27.1 Financial Data Schedule.*
</TABLE>
- -------------------
* Filed herewith.
(b) Reports on Form 8-K:
A Form 8-K was filed under Item 5 on July 1, 1998 reporting the Farmout
Agreement with Smith Management LLC.
14
<PAGE>
INLAND RESOURCES INC.
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.
INLAND RESOURCES INC.
(Registrant)
Date: November 13, 1998 By: /s/ Kyle R. Miller
--------------------- --------------------------
Kyle R. Miller
Chief Executive Officer
Date: November 13, 1998 By: /s/ Michael J. Stevens
--------------------- --------------------------
Michael J. Stevens
Vice President - Accounting and
Administration
(Principal Accounting Officer)
15
<TABLE> <S> <C>
<PAGE>
<ARTICLE> 5
<MULTIPLIER> 1,000
<S> <C>
<PERIOD-TYPE> 9-MOS
<FISCAL-YEAR-END> DEC-31-1998
<PERIOD-START> JAN-01-1998
<PERIOD-END> SEP-30-1998
<CASH> 1,659
<SECURITIES> 0
<RECEIVABLES> 7,885
<ALLOWANCES> 0
<INVENTORY> 7,397
<CURRENT-ASSETS> 18,661
<PP&E> 197,877
<DEPRECIATION> 17,551
<TOTAL-ASSETS> 202,106
<CURRENT-LIABILITIES> 31,456
<BONDS> 138,143
9,568
0
<COMMON> 41,901
<OTHER-SE> (22,417)
<TOTAL-LIABILITY-AND-EQUITY> 202,106
<SALES> 64,679
<TOTAL-REVENUES> 64,679
<CGS> 52,605
<TOTAL-COSTS> 64,385
<OTHER-EXPENSES> (343)
<LOSS-PROVISION> 0
<INTEREST-EXPENSE> (10,867)
<INCOME-PRETAX> (10,230)
<INCOME-TAX> 0
<INCOME-CONTINUING> (10,230)
<DISCONTINUED> 0
<EXTRAORDINARY> (212)
<CHANGES> 0
<NET-INCOME> (10,442)
<EPS-PRIMARY> (1.34)
<EPS-DILUTED> (1.34)
</TABLE>
