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U.S. SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-QSB
|X| QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
or
|_| TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
FOR THE QUARTER ENDED SEPTEMBER 30, 1998
Commission File Number 0-6580
[GRAPHIC OMITTED]
PEASE OIL AND GAS COMPANY
(Exact name of small business issuer as specified in its charter)
Nevada 87-0285520
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification Number)
751 Horizon Court, Suite 203
Grand Junction, Colorado 81506
(Address of principal executive offices)
(970) 245-5917
(Registrant's telephone number, including area code)
Indicate by check mark 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 past 12 months (or for such shorter period that the registrant
was required to file such reports), and (2) has been subject to such filing
requirements for the past 90 days. Yes X No____
As of November 13, 1998 the registrant had 16,007,048 shares of its
$0.10 par value Common Stock issued and outstanding.
Transitional Small Business Issuer Disclosure Format (check one):Yes ____ No X
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<PAGE>
TABLE OF CONTENTS
PAGE
NUMBER
PART I - Financial Information
Item 1. Financial Statements
Consolidated Balance Sheets. . . . . . . . .. . . 3
September 30, 1998 (unaudited) and December 31, 1997
Consolidated Statements of Operations (unaudited) . . 4
For the Three and Nine Months Ended September 30, 1998
and 1997
Consolidated Statements of Cash Flows (unaudited) . . . 5-6
For the Nine Months Ended September 30, 1998 and 1997
Notes to Consolidated Financial Statements . . . . . . 7-8
Item 2. Management's Discussion and Analysis . . . . . . . . 8
Liquidity and Capital Resources . . . . . 8
Results of Operations . . . . . . . . . . . . . 10
Overview . . . . . . . . . . . . . . . . . . . 10
Change in Accounting Principle. . . . . . . 11
Assets Held For Sale. . . . . . . . . . . . 11
Total Revenue . . . . . . . . . . . . . . . . . 11
Oil and Gas . . . . . . . . . . . . . . . . . . 12
Gas Plant Processing . . . . . . . . . . . . . . 13
Oil Field Services and Oil Field Supply . . . . 14
Well Administration and Other Income . . . . . . 14
Consulting Agreement - Related Party . . . . . . 14
General and Administrative . . . . . . . . . . . 14
Depreciation, Depletion and Amortization . . . . 15
Interest Expense. . . . . . . . . . . . . . . . 15
Impairment Expense - Oil and Gas Properties. 15
Dividends and Net Loss Per Common Share. . . 16
Other Matters. . . . . . . . . . . . . . . . . . . 16
Disclosure Regarding ForwardLooking Statements 16
Year 2000 Issue. . . . . . . . . . . . . . . ..17
Part II - Other Information . . . . . . . . . . . . . . . . . . . . . . . . 18
Item 1. Legal Proceedings . . . . . . . . . . . . . . . . . . . . 18
Item 2. Changes in Securities . . . . . . . . . . . . . . . . . . 18
Item 3. Defaults Upon Senior Securities . . . . . . . . . . . . . 18
Item 4. Submission of Matters to a Vote of Security Holders . . . 19
Item 5. Other Information . . . . . . . . . . . . . . . . . . . . 19
Item 6. Exhibits and Reports on Form 8-K . . . . . . . . . . . . . 19
Part III - Signatures . . . . . . . . . . . . . . . . . . . . . . . . . . . 20
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<PAGE>
PART 1 - FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS
PEASE OIL AND GAS COMPANY AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
September 30, December 31,
1998 1997
---------------- ----------------
unaudited)
CURRENT ASSETS:
Cash and equivalents $ 1,852,714 $ 6,547,804
Trade receivables 550,137 757,434
Prepaid expenses and other 77,881 43,979
-------------- ---------------
Total current assets 2,480,732 7,349,217
------------ -------------
ASSETS HELD FOR SALE 988,157 4,048,000
------------- -------------
OIL AND GAS PROPERTIES, at cost
(full cost method):
Unevaluated properties 6,567,076 4,522,917
Costs being amortized 12,499,361 9,424,932
----------- -------------
Total oil and gas properties 19,066,437 13,947,849
Less accumulated amortization (8,370,751) (4,965,232)
------------- --------------
Net oil and gas properties 10,695,686 8,982,617
----------- -------------
OTHER ASSETS:
Deferred debt issuance costs, net 357,110 664,318
Deposits and other 167,493 167,493
Office equipment and vehicles, net 70,965 82,498
-------------- --------------
Total other assets 595,568 914,309
------------- -------------
TOTAL ASSETS $ 14,760,143 $ 21,294,143
=========== ===========
LIABILITIES AND STOCKHOLDERS' EQUITY
CURRENT LIABILITIES:
Accounts payable, trade $ 773,538 $ 1,500,239
Accrued production taxes 236,851 204,108
Other accrued expenses 407,982 349,396
----------- --------------
Total current liabilities 1,418,371 2,053,743
------------ -------------
LONG-TERM LIABILITIES:
Convertible Debentures, net of discount 2,215,879 2,922,703
Accrued production taxes 120,593 226,019
------------- --------------
Total long-term liabilities 2,336,472 3,148,722
------------ -------------
STOCKHOLDERS' EQUITY:
Preferred Stock, par value $0.01 per
share, 2,000,000 shares authorized,
111,836 and 113,333 shares of Series
B 5% PIK Cumulative Convertible
Preferred Stock issued and outstanding,
respectively (liquidation preference of
$5,591,800 at September 30, 1998). 1,118 1,133
Common Stock, par value $0.10 per share,
40,000,000 shares authorized, 16,007,048
and 15,789,955 shares issued and
outstanding, respectively. 1,600,705 1,578,996
Additional paid-in capital 36,612,445 36,875,394
Accumulated deficit 27,208,968) (22,363,845)
------------ ---------------
Total stockholders' equity 11,005,300 16,091,678
----------- --------------
TOTAL LIABILITIES AND STOCKHOLDERS' EQUITY $ 14,760,143 $ 21,294,143
=========== ===========
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<PAGE>
PEASE OIL AND GAS COMPANY AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS
(unaudited)
<TABLE>
<CAPTION>
For The Three Months For The Nine Months
Ended September 30, Ended September 30,
1998 1997* 1998 1997*
----------- ------------ ----------- ------------
REVENUE:
<S> <C> <C> <C> <C>
Oil and gas sales ........................... $ 606,016 $ 868,749 $ 1,853,284 $ 2,328,328
Gas plant processing ........................ 76,719 153,848 256,246 525,704
Oil field services and supply ............... 54,336 181,373 272,172 525,585
Well administration and other income ........ 4,116 28,666 22,640 67,570
------------ ------------ ------------ ------------
Total revenue .......................... 741,187 1,232,636 2,404,342 3,447,187
------------ ------------ ------------ ------------
OPERATING COSTS AND EXPENSES:
Oil and gas production ...................... 285,888 390,718 995,995 1,125,214
Gas plant processing ........................ 99,898 79,346 275,046 283,645
Oil field services and supply ............... 65,921 176,090 289,786 469,223
General and administrative .................. 544,669 339,079 1,071,555 1,045,258
Consulting agreement-related party .......... 63,925 159,292 189,386 340,470
Depreciation, depletion and amortization .... 708,431 875,769 1,460,562 1,850,881
Impairment .................................. 2,100,000 2,394,519 2,739,043 4,784,451
------------ ------------ ------------ ------------
Total operating costs and expenses . (3,868,732) 4,414,813 7,021,373 9,899,142
------------ ------------ ------------ ------------
LOSS FROM OPERATIONS ........................... (3,127,545) (3,182,177) (4,617,031) (6,451,955)
----------- ------------ ------------ ------------
OTHER INCOME (EXPENSES):
Early extinguishment of debt ................ (396,742) -- (396,742) --
Interest income ............................. 21,525 70,029 167,695 133,142
Interest expense ............................ (1,488) (105,655) (2,004) (507,667)
Gain (Loss) on sale of assets ............... 2,500 (3,855) 2,957 (10,046)
----------- ------------ ------------ ------------
Total other income (expenses), net ..... (374,205) (39,481) (228,094) (384,571)
------------ ------------ ------------ ------------
NET LOSS ....................................... $(3,501,750) $ (3,221,658) $ (4,845,125) $ (6,836,526)
============ ============ ============ ============
NET LOSS APPLICABLE TO COMMON
STOCKHOLDERS .............................. $(3,992,024) $ (3,221,658) $ (6,569,779) $ (6,926,495)
============ ============ ============ ============
NET LOSS PER COMMON SHARE ...................... $ (0.25) $ (0.22) $ (0.41) $ (0.57)
============ ============ ============ ============
WEIGHTED AVERAGE NUMBER OF
COMMON SHARES OUTSTANDING ................. 15,930,000 14,976,000 15,842,000 12,191,000
============ ============ ============ ============
</TABLE>
*Restated for full cost method of accounting for oil and gas activities - See
Note 2
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<PAGE>
PEASE OIL AND GAS COMPANY AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
(unaudited)
For The Nine Months
Ended September 30,
1998 1997*
----------- -----------
CASH FLOWS FROM OPERATING ACTIVITIES:
Net loss ....................................... $ (4,845,125) $ (6,836,526)
Adjustments to reconcile net loss to net cash
provided by operating activities:
Provision for depreciation and depletion .... 1,460,562 1,816,384
Provision for impairment .................... 2,739,043 4,784,451
Loss on Early Extinguishment of Debt ........ 396,742 --
Amortization of intangible assets ........... -- 316,827
Stock-based compensation .................... -- 70,154
(Gain) Loss on sale of property and equipment (2,957) 10,046
Changes in operating assets and liabilities:
(Increase) decrease in:
Trade receivables ........................... 207,297 (169,649)
Inventory ................................... 128,418 34,164
Prepaid expenses and other assets ........... (33,902) (23,421)
Increase (decrease) in:
Accounts payable ............................ 145,521 (17,343)
Accrued expenses ............................ (107,465) (132,334)
----------- -----------
Net cash provided by (used in) operating
activities .............................. 88,134 (147,247)
----------- -----------
CASH FLOWS FROM INVESTING ACTIVITIES:
Capital expenditures for property and equipment (6,250,614) (9,586,053)
Proceeds from sale of property and equipment ... 2,987,150 52,867
Proceeds from redemption of certificate of
deposit ................................. -- 17,500
----------- -----------
Net cash used in investing activities ....... (3,263,464) (9,515,686)
----------- -----------
CASH FLOWS FROM FINANCING ACTIVITIES:
Repayment of long-term debt .................... (1,201,327) (331,747)
Proceeds from sale of common stock ............. -- 9,480,000
Proceeds from exercise of common stock
options and warrants .................... 939 3,866,353
Offering costs ................................. (146,765) (1,408,178)
Payment of Preferred Stock dividends ........... (141,357) --
Purchase of 500 shares of Preferred Stock ...... (31,250) --
----------- -----------
Net cash used in financing activities ....... (1,519,760) 11,606,428
----------- -----------
INCREASE (DECREASE) IN CASH &
EQUIVALENTS ................................. (4,695,090) 1,943,495
CASH & EQUIVALENTS, beginning of period .......... 6,547,804 1,995,860
----------- -----------
CASH & EQUIVALENTS, end of period ................ $ 1,852,714 $ 3,939,355
=========== ===========
*Restated for full cost method of accounting for oil and gas activities - See
Note 2.
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<PAGE>
PEASE OIL AND GAS COMPANY AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
(unaudited)
(continued)
For The Nine Months
Ended September 30,
1998 1997
------------- -------------
SUPPLEMENTAL DISCLOSURE OF CASH
FLOW INFORMATION:
Cash paid for interest:
Related parties ............................. $ - $ 42,417
Other ....................................... 299,646 357,801
-------- --------
Total .................................... $ 299,646 $ 400,218
======== ========
Cash paid for income taxes ..................... $ -- $ --
======== --------
SUPPLEMENTAL DISCLOSURE OF NON-CASH
INVESTING AND FINANCING ACTIVITIES:
Increase (Decrease) in accounts payable for the
purchase of property and equipment -
principally oil and gas properties ........ $ (725,456) $ 455,503
======== ========
Capitalized portion of debt issuance/discount
costs ..................................... $ 396,141 $ --
======== ========
Long-term debt incurred for purchase of vehicles $ 32,610 $ 50,691
======== ========
Acquisition of oil and gas properties for common
stock .................................... $ -- $ 885,000
======== ========
Accrued Preferred Stock dividends .............. $ 69,585 $ --
======== ========
Conversion of debentures into common stock ..... $ -- $ 605,437
======== ========
Debt Issuance Costs associated with converted
debentures ............................. $ -- $ 181,470
======== ========
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<PAGE>
PEASE OIL AND GAS COMPANY AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(unaudited)
Note 1 - Basis of Presentation:
The accompanying unaudited condensed consolidated financial statements have been
prepared in accordance with generally accepted accounting principles for interim
financial information. They do not include all information and notes required by
generally accepted accounting principles for complete financial statements.
However, except as disclosed herein, there has been no material change in the
information disclosed in the notes to consolidated financial statements included
in the Annual Report on Form 10-KSB of Pease Oil and Gas Company (the Company)
for the year ended December 31, 1997. In the opinion of Management, all
adjustments (consisting of normal recurring accruals) considered necessary for a
fair presentation have been included. Operating results for the periods
presented are not necessarily indicative of the results that may be expected for
the full year.
The accounting policies followed by the Company are set forth in Note 1 to the
Company's financial statements in Form 10-KSB for the year ended December 31,
1997. It is suggested that these financial statements be read in conjunction
with the financial statements and notes included in the Form 10-KSB.
Note 2 - Change In Accounting Principle:
As more thoroughly discussed in the Company's 1997 Annual Report on Form 10-KSB,
the Company changed its method of accounting for oil and gas producing
activities from the successful efforts method to the full cost method during the
fourth quarter of 1997. The 1997 financial statements presented herein have been
restated to reflect the change. As a result of the change in accounting method,
the net loss applicable to common shareholders increased in 1997 as follows:
<TABLE>
<CAPTION>
For the Three Months For the Nine Months
Ended 9/30/97 Ended 9/30/97
Description Net Loss Per Share Net Loss Per Share
<S> <C> <C> <C> <C>
As Previously Reported Under Successful Efforts $(1,053,153) $ (0.07) $(2,292,543) $ (0.19)
As Reported under Full Cost ................... (3,221,658) (0.22) (6,926,495) (0.57)
----------- ----- ----------- -----
Increase in Net Loss under Full Cost .... $(2,168,505) $ (0.15) $(4,633,952) $ (0.38)
=========== ===== =========== =====
</TABLE>
Note 3 - Long Term Debt:
Long-term debt at September 30, 1998 and December 31, 1997 consisted of the
following:
Dec. 31, 1997 Sept. 30, 1998
------------- --------------
Convertible debentures, interest at 10%
collateralized by certain oil and gas
properties, due April 2001 $ 3,975,000 $ 2,782,500
Less unamortized discount (1,052,297) (566,621)
---------------- -----------------
Net carrying value $ 2,922,703 $ 2,215,879
============== ================
As more thoroughly discussed in the Company's 1997 Annual Report on Form 10-KSB,
the Company initiated a private placement in April 1996 to sell up to $5,000,000
of collateralized convertible debentures in the form of "Units". Each Unit
consisted of one $50,000 five-year 10% collateralized convertible debenture and
detachable warrants to purchase 25,000 shares of the Company's common stock at
$1.25 per share. In November 1996, the offering was completed and the Company
was successful in selling the entire $5,000,000 generating net cash proceeds of
$4,300,000. The estimated fair value of the detachable warrants of $1,829,000
was treated as a discount and is bring amortized using the interest method.
During 1997, $1,025,000 of the debentures converted into common stock pursuant
to the terms of the debenture agreement. On September 30, 1998, the Company sold
certain oil and gas properties located in the Rocky Mountains, along with its
gas plant, service and supply businesses, that collateralized these debentures.
In connection with that sale, the Company prepaid $1,192,500 of the principal
when the holders released the corresponding collateral.
Note 4 - Early Extinguishment of Debt:
In connection with the prepayment of $1,192,500 on September 30, 1998 discussed
in Note 3, the Company incurred a non-cash charge of $396,742 associated with
the unamortized discount and debt issuance costs associated with the convertible
debentures.
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<PAGE>
Note 5 - Dividends and Net Loss Per Common Share:
Net loss per common share is computed by dividing the net loss applicable to
common stockholders by the weighted average number of common shares outstanding
during the year. All potential common shares have been excluded from the
computations because their effect would be antidilutive.
The net loss applicable to common stockholders is determined by adding any
dividends accruing to the benefit of the preferred stockholders to the net loss.
The dividends included for this calculation include: 1) paid dividends; 2)
accrued but unpaid dividends; and 3) any imputed dividends attributable to the
beneficial conversion feature. During 1997, the net loss applicable to common
stockholders includes $89,969 for the nine months ended of accrued but unpaid
dividends related to the Series A Preferred Stock. The Series A Preferred Stock
automatically converted into common on June 11, 1997. During 1998, the net loss
applicable to common stockholders includes the following charges associated with
the Series B Preferred Stock that was issued on December 31, 1997:
For the Period Ended September 30, 1998
Three Months Nine Months
Dividends declared $ 69,585 $ 210,941
Imputed non-cash dividend 420,689 1,513,713
------------ ------------
Total $ 490,274 $ 1,724,654
=========== ===========
The Series B Preferred Stock became convertible into common stock on April 1,
1998 at a conversion price equal to a 12% discount to the average trading price
of the common stock prior to conversion. This discount increases monthly through
March 1999 when the discount tops out at 25% (this discount is considered a
"beneficial conversion feature"). The additional non-cash imputed dividend
charge included in the net loss applicable to common stockholders represents the
intrinsic value of the discount applicable through September 30, 1998. As long
as any Series B Preferred Stock is outstanding, additional non-cash imputed
dividend charges will be incurred in future periods as the conversion discount
increases until the discount tops out at 25%.
ITEM 2 - MANAGEMENT'S DISCUSSION AND ANALYSIS
Liquidity, Capital Expenditures and Capital Resources
At September 30, 1998, the Company's cash balance was $1,852,714 with a positive
working capital position of $1,062,361, compared to a cash balance of $6,547,804
and a positive working capital position of $5,295,474 at December 31, 1997. The
change in the Company's cash balance is summarized as follows:
Cash balance at December 31, 1997 $ 6,547,804
Sources of Cash:
Proceeds from the sale of property and equipment 2,987,150
Cash provided by operating activities 88,134
Proceeds from the exercise of common warrants 939
-----------------
Total Sources of Cash 3,076,223
Uses of Cash:
Exploration Activities - Gulf Coast 6,185,498
Payments on long term debt 1,201,327
Offering Costs associated with Series B Preferred Stock 146,765
Dividends Paid on Series B Preferred Stock 141,357
Purchase of 500 shares of Preferred Stock 31,250
Other Capital Expenditures 65,116
---------------
Total uses of cash 7,771,313
-------------
Cash balance at September 30, 1998 $ 1,852,714
=============
During 1998, the Company generated approximately $3.0 million from the sale of
existing assets consisting principally of its Rocky Mountain assets (certain oil
and gas properties, the gas plant, service and supply businesses). The Company
used approximately $1.2 million of these proceeds to pay down the existing
convertible debentures in connection with the mortgage release of the
corresponding oil and gas properties. The Company is currently under contract to
sell substantially all of its remaining Rocky Mountain assets for $855,000 and
is scheduled to close on December 4, 1998. Should the sale close, the effective
date will be November 1, 1998 and all the proceeds will be available for working
capital.
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<PAGE>
As noted, most of the Company's uses of cash were deployed in exploration
activities in the Gulf Coast. The costs incurred in 1998 are summarized as
follows (the difference between the total incurred, as illustrated in the
following table, and the total amount paid in 1998, relates to the changes in
accounts payable at December 31, 1997 and September 30, 1998 as well as other
non-cash amounts capitalized in the full cost pool):
<TABLE>
<CAPTION>
PROGRAM OPERATOR
Category ........ NEGX Parallel AHC Other Total %
- ------------------------------ ---------- ---------- ---------- ---------- ---------- ----------
<S> <C> <C> <C> <C> <C> <C>
Successful Efforts ......... $ 695,775 $ -- $ 642,916 $ 38,087 $1,376,778 23%
---------- ---------- ---------- ---------- ----------
Exploratory Dry Holes ...... 646,527 182,185 -- -- 828,712 14%
---------- ---------- ---------- ---------- ----------
Land, G&G-Seismic Programs . 1,232,447 1,498,344 -- -- 2,730,791 47%
---------- ---------- ---------- ---------- ----------
Other Exploration Costs .... -- -- -- 932,313 932,313 16%
---------- ---------- ----------
Total Exploration Costs $2,574,749 $1,680,529 $ 642,916 $ 970,400 $5,868,594 100%
========== ========== ========== ========== ========== ==========
Percent ............. 44% 29% 11% 16% 100%
</TABLE>
Under the existing commitments, the Company's anticipated capital requirements
to meet expected drilling and development costs will be approximately $0.6
million for the remainder of 1998 and approximately $2.8 million for 1999. The
Company's current and anticipated cash position will be insufficient to cover
the future working capital and exploration obligations. The Company has
vigorously explored various alternatives for additional sources of capital.
However, with the hyper-dilutive potential of the outstanding Series B Preferred
Stock (should the holders elect to convert into common stock), the Company has
been unable to attract any additional equity capital during 1998. For example,
using the Company's recent common stock price of $0.25, and applying the
applicable discount of 22%, should all the holders of the Series B Preferred
Stock elect to convert into common stock, approximately 27.5 million shares
would be issued in the conversion. This would represent approximately 63% of the
then outstanding common shares. The Company has entered into preliminary
negotiations to restructure the Preferred Stock into a non-dilutive debt
instrument. However, should this occur, the Preferred Stockholders have
indicated they would require a paydown on their outstanding obligation of at
least $1.5 million. The negotiations on the specific terms are ongoing. However,
should a paydown be required, the Company would attempt to fund this obligation
through existing working capital, the sale of its remaining Rocky Mountain
assets, the sale of additional common stock and/or a sale, either in whole or in
part, of its interest in the Formosa, Texana and Ganado 3-D Prospects located in
and around Jackson County, Texas (operated by Parallel Petroleum). It should be
noted this concept and negotiation is in its early stages and there can be no
assurance such a transaction will ever come to fruition.
In September 1998, the Company engaged San Jacinto Securities, Inc. ("SJS"), an
investment banking firm located in Dallas, Texas, to assist the Company in
pursuing various strategic alternatives. Their efforts will focus primarily on
seeking a potential merger candidate for the Company. As of the date of this
report, over a dozen potential candidates had been identified and due diligence
by many of these candidates has already commenced. However, no assurance can be
given at this time whether or not a merger transaction will eventually occur,
what consideration may be offered to the Company in such a transaction, or
whether an offer to merge will be accepted by the Company or its shareholders.
In exchange for their services, SJS will be paid a $150,000 non-refundable cash
fee (of which $50,000 was paid in September 1998) plus 3% of the merger value in
excess of $5.0 million.
The collapse of the oil market have significantly impaired the marketability and
value of the Company's existing assets and the ability to raise additional
capital. Therefore, it cannot be determined at this time what courses of action
will ultimately be taken by the Company. In any case, the Company will have to
seek additional financing and it is unclear what alternatives for future working
capital will be available, nor to what extent the potential dilution to the
existing shareholders may be. If additional sources of financing are not
ultimately available, the company may have to consider other alternatives,
including the sale of existing assets, cancellation of existing exploration
agreements, farmouts, joint vantures, restructuring under the protection of the
Federal Bankruptcy Laws and/or liquidation.
The Company's common stock is traded on the Nasdaq SmallCap electronic market
system under the symbol "WPOG". Nasdaq requires that a company listed on the
SmallCap market must maintain an average bid price of at least $1.00 per share
to keep its listing. The Company's stock does not presently trade for greater
than $1.00 per share and on July 2, 1998 the Nasdaq notified the Company that
the stock would be delisted on October 2, 1998 unless the market price is $1.00
per share or greater prior to that date. The Company applied for and was granted
a stay on the delisting until at least November 20, 1998, when an oral hearing
will be held in Washington, D.C. to review the Company's circumstances and
future plans. The Company will attend this hearing and appeal for an
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<PAGE>
extension of time to allow the current actions being initiated by the Company to
take their course. On November 16, 1998, the Company's Board of Directors
approved a reverse stock split of 10:1. No shareholder approval is necessary
and the Company is proceeding with the administrative procedures necessary to
effect the reverse split. Accordingly, the Company expects the reverse split
will be effective in December, 1998. However, it cannot be determined at this
time whether or not delisting will be stayed after November 20, 1998. Should
delisting occur, the Company's common stock would be traded in the over-the-
counter market on the NASD Bulletin Board or on the "pink sheets". Should the
Company lose its listing on the Nasdaq SmallCap electronic market system, it
will have a material negative impact on the Company's ability to raise
additional equity capital. In addition, it may impair the ability for a
stockholder to liquidate any holdings.
In July 1998, the Company initiated several steps to improve the corporate
governance and direction of the Company. First, the Board of Directors
established an Executive Committee whose purpose is to formulate and implement
recommendations, strategies and actions which are intended to support and
protect shareholder value. Essentially, the Executive Committee manages the
day-to-day activities of the Company and has broad power and authority to act in
the absence of the full Board of Directors.
Secondly, Mr. William F. Warnick replaced Willard H. Pease, Jr. as Chairman of
the Board. Mr. Warnick is an outside Director, a practicing attorney in Lubbock,
Texas, and also serves as the Texas Attorney General's appointee to the Texas
School Board Land Commission. Mr. Warnick has also served in numerous management
positions of private oil and gas companies. Mr. Warnick received both a B.A. in
finance in 1968 and a J.D. degree in 1971.
Thirdly, the Company announced the addition of Mr. F.A. (Allan) Wise to the
Board of Directors. Mr. Wise has been professionally engaged in the oil and gas
business for 30 years, having worked 7 years for Shell Oil Company as a
petroleum engineer and 9 years for Petro-Lewis Corporation where he served in
various capacities, including Vice President of Drilling and Production, Vice
President of the Gulf Coast Region and Vice President of Acquisitions. Since
1987, Mr. Wise has been co-owner of Wise and Treece Petroleum Management, inc.,
a petroleum engineering, land and management consulting firm. Mr. Wise, through
the consulting firm, serves the oil and gas industry by providing a wide range
of technical and management economic analysis and modeling of exploration plays
and the resulting development drilling; acquisition and financing of oil and gas
plays and properties; financial modeling of oil and gas investment structures;
supervision of oil and gas field development, drilling and petroleum engineering
and management consulting.
The Executive Committee is comprised of four voting members: Patrick J. Duncan,
the Company's President/CFO, Steve Antry, a Director and consultant to the
Company, William F. Warnick and F. A. Wise. The Board of Directors implemented
these changes to enhance the decision making processes in all aspects of the
Company's business. The Executive Committee is diligently working on a
resolution to the Company's financing needs and other corporate issues. However,
the outcome is unknown at this time.
Lastly, on November 3, 1998 the Board of Directors accepted Mr. Willard H.
Pease, Jr.'s resignation as President and CEO of the Company. Mr. Pease had
served the Company as President and CEO for the past 8 years. He will continue
to serve the Company as an employee in a non-management position. Mr. Patrick J.
Duncan was immediately approved by the Board as Interim President. Mr. Duncan
has served the Company as CFO since September 1994. In connection with his
resignation, Mr. Pease agreed, among other things, to: a.) reduce the amount due
upon termination of his employment from $375,000 to $150,000; and b.) reduce his
annual salary from $125,000 to $80,000.
RESULTS OF OPERATIONS
Overview
The Company's largest source of operating revenue is from the sale of produced
oil, natural gas, and natural gas liquids. Therefore, the level of the Company's
revenues and earnings are affected by prices at which natural gas, oil and
natural gas liquids are sold. Accordingly, the Company's operating results for
any prior period are not necessarily indicative of future operating results
because of the fluctuations in natural gas, oil and natural gas liquid prices
and the lack of predictability of those fluctuations as well as changes in
production levels.
Change In Accounting Principle
As more thoroughly discussed in the Company's Annual Report on Form 10-KSB, the
Company changed its method of accounting for oil and gas producing activities
from the successful efforts method to the full cost method. The 1997 financial
statements presented herein have been restated to reflect the change. As a
result of the change in accounting method, the net loss applicable to common
shareholders increased in 1997 as follows:
-10-
<PAGE>
<TABLE>
<CAPTION>
For the Three Months For the Nine Months
Ended 9/30/97 Ended 9/30/97
Description Net Loss Per Share Net Loss Per Share
<S> <C> <C> <C> <C>
As Previously Reported Under Successful Efforts $(1,053,153) $ (0.07) $(2,292,543) $(0.19)
As Reported under Full Cost ................... (3,221,658) (0.22) (6,926,495) (0.57)
----------- ----- ----------- -----
Increase in Net Loss under Full Cost .... $(2,168,505) $ (0.15) $(4,633,952) $(0.38)
=========== ===== =========== =====
</TABLE>
The majority of the increased loss in 1997 is recognized in the financial
statements under the caption "Impairment Expense" which is discussed later in
this section.
Management believes the full cost method of accounting is preferable because it
will most accurately reflect the results of the Company's future operations. In
connection with the Company's change in strategy from primarily an acquisition
and production company to an exploration and production company, it is now
focusing its efforts in the Gulf Coast region of the United States. The Company
seeks to allocate its capital resources over a diversified portfolio of
exploration and development projects within that area. It seeks to achieve a
balance between the risks of exploratory drilling and the return on investment
by investing in projects with large potential. Dry holes, abandoned properties
and seismic projects are an inherent part of the exploration process. However,
management believes that it is through disciplined, consistent application of
this balanced portfolio strategy that the desired return on its entire
investment will be achieved. Management believes that the full cost method of
accounting is the method used by many independent oil and gas companies of
comparable size to the Company and allows investors to better measure the
performance of the Company. Management further believes that advanced three
dimensional seismic and computer-aided exploration technology has become a much
more significant factor in the success of an exploration program than in the
past. Management believes that expensing these costs when incurred, as is
required under successful efforts, is inconsistent with the value they add to
the exploration process.
Assets Held For Sale
During the fourth quarter of 1997, the Company's Board of Directors determined
that the Company's long-term strategy has shifted to exploration and development
activities in the Gulf Coast region and that the Rocky Mountain assets should
ultimately be divested. At the date of this report, the Company had sold a
majority of its Rocky Mountain assets consisting of certain oil and gas
properties, the gas plant and service and supply businesses for approximately
$2.3 million. Substantially all of the remaining Rocky Mountain assets are also
under contract for $855,000 and the transaction is scheduled to close on
December 4, 1998. Accordingly, the production, revenue, costs, operating margins
and cash flows currently generated and discussed under the captions "Oil and Gas
- - Rocky Mountains", "Gas Plant Processing", "Oil Field Services and Supply",
"Well Administration and Other Income" will no longer be part of the Company's
future operations. Since these assets include a significant portion of the
Company's historical operations, the sale of these assets, will have an
immediate and material negative impact on the Company's future cash flows and
results of operations.
Total Revenue
Total Revenue from all operations was as follows:
<TABLE>
<CAPTION>
For the Three Months Ended September 30,
1998 1997
------------------------ --------------------------
Amount % Amount %
<S> <C> <C> <C> <C>
Oil and gas sales $ 606,016 82% $ 868,749 70%
Gas plant processing 76,719 10% 153,848 13%
Oil field services and supply 54,336 7% 181,373 15%
Well administration and other income 4,116 1% 28,666 2%
------------ ------ ------------- ------
Total revenue $ 741,187 100% $1,232,636 100%
=========== ==== ========== ====
For the Nine Months Ended September 30,
1998 1997
------------------------ ------------------------
Amount % Amount %
Oil and gas sales $1,853,284 77% $ 2,328,328 68%
Gas plant processing 256,246 11% 525,704 15%
Oil field services and supply 272,172 11% 525,585 15%
Well administration and other income 22,640 1% 67,570 2%
----------- ------ ---------- ------
Total revenue $2,404,342 100% $ 3,447,187 100%
</TABLE>
The decrease in total revenue, along with any known trends or changes that
effect revenue on a line-by-line basis, are discussed in the following
paragraphs under their respective captions.
Oil and Gas
Operating statistics for oil and gas production for the periods presented are as
follows:
<TABLE>
<CAPTION>
For the Three Months For the Nine Months
Ended September 30, Ended September 30,
---------------------------- ----------------------------
1998 1997 1998 1997
----------- ---------- ---------- -----------
Production:
Oil (Bbls)
<S> <C> <C> <C> <C>
Rocky Mtns ........... 12,900 20,200 47,900 60,500
Gulf Coast ........... 13,700 15,500 37,300 31,200
----------- ----------- ----------- -----------
Combined Total .. 26,600 35,700 85,200 91,700
=========== =========== =========== ===========
Gas (Mcf)
Rocky Mtns ........... 70,900 103,005 228,300 296,500
Gulf Coast ........... 90,100 41,000 197,400 57,900
----------- ----------- ----------- -----------
Combined Total . 161,000 144,000 425,700 354,400
=========== =========== =========== ===========
BOE (6:1)
Rocky Mtns ........... 24,700 37,400 86,000 109,900
Gulf Coast ........... 28,700 22,300 70,200 40,900
----------- ----------- ----------- -----------
Combined Total . 53,400 59,700 156,200 150,800
=========== =========== =========== ===========
Average Collected Price:
Oil (per Bbl)
Rocky Mtns ........... $ 11.19 $ 17.26 $ 12.32 $ 19.12
Gulf Coast ........... $ 11.13 $ 18.54 $ 12.96 $ 19.25
----------- ----------- ----------- -----------
Combined Average $ 11.16 $ 17.82 $ 12.60 $ 19.16
=========== =========== =========== ===========
Gas (per Mcf)
Rocky Mtns .......... $ 1.28 $ 1.17 $ 1.39 $ 1.39
Gulf Coast .......... $ 2.43 $ 2.72 $ 2.34 $ 2.75
----------- ----------- ----------- -----------
Combined Average $ 1.92 $ 1.61 $ 1.83 $ 1.61
=========== =========== =========== ===========
Per BOE (6:1)
Rocky Mtns .......... $ 9.51 $ 12.56 $ 10.56 $ 14.27
Gulf Coast .......... $ 12.93 $ 17.87 $ 13.46 $ 18.60
----------- ----------- ----------- -----------
Combined Average $ 11.34 $ 14.55 $ 11.86 $ 15.45
=========== =========== =========== ===========
Operating Margins
(Excl. DD&A/Impairment):
Rocky Mtns:
Revenue -
Rocky Mtns. - Oil $ 144,662 $ 348,825 $ 590,067 $ 1,155,850
Rocky Mtns. - Gas 90,573 120,924 318,034 412,149
----------- ----------- ----------- -----------
236,235 469,749 908,101 1,567,999
Production Costs ..... (236,720) (373,494) (870,227) (1,093,249)
----------- ----------- ----------- -----------
Operating Margin . $ (1,485) $ 96,255 $ 37,874 $ 474,750
=========== =========== =========== ===========
Operating Margin % (1%) 20% 4% 30%
Gulf Coast:
Revenue -
Gulf Coast - Oil . $ 152,164 $ 288,368 $ 484,016 $ 600,987
Gulf Coast - Gas . 218,615 110,632 461,167 159,342
----------- ----------- ----------- -----------
370,779 399,000 945,183 760,329
Production Costs ..... (49,168) (17,224) (125,768) (31,965)
----------- ----------- ----------- -----------
Operating Margin . $ 321,611 $ 381,776 $ 819,415 $ 728,364
=========== =========== =========== ===========
Operating Margin % 87% 96% 87% 96%
</TABLE>
-11-
<PAGE>
<TABLE>
<CAPTION>
For the Three Months For the Nine Months
Ended September 30, Ended September 30,
--------------------------- -------------------------------
1998 1997 1998 1997
------------ ---------- ---------- -----------
Combined Totals:
<S> <C> <C> <C> <C>
Revenue ..................... $ 606,014 $ 868,749 $ 1,853,284 $ 2,328,328
Costs ....................... (285,888) (390,718) (995,995) (1,125,214)
----------- ----------- ----------- -----------
Operating Margin ........ $ 320,126 $ 478,031 $ 857,289 $ 1,203,114
=========== =========== =========== ===========
Operating Margin % ...... 52% 55% 46% 52%
Production Costs per BOE before DD&A:
Rocky Mtn Region ............ $ 9.58 $ 9.99 $ 10.11 $ 9.95
Gulf Coast Region ........... 1.71 0.77 1.79 0.78
----------- ----------- ----------- -----------
Combined Average ........ $ 5.35 $ 6.54 $ 6.38 $ 7.46
=========== =========== =========== ===========
Change in Revenue
Attributable to:
Production ........................ $ (135,550) $ (8,247)
Price ............................. (127,185) (466,797)
----------- -----------
Total Revenue Decrease ......... $ (262,735) $ (475,044)
=========== ===========
</TABLE>
Approximately 25% of the decrease in oil and gas production for the Rocky
Mountain region can be attributed to the natural decline in production that is
inherent in oil and gas wells and the other 75% can be attributed to the sale of
the Company's Utah properties in May 1998 (that sale had an effective date of
April 1, 1998). The increase in oil and gas production for the Gulf Coast region
can be attributed to the 1997 discoveries. The deterioration in commodity prices
(particularly oil) between the periods presented has been the single largest
negative factor impacting the results of operations.
In early Octobe 1998, the Company announced the completion of the State 2102 #1
in the E. Bayou Sorrel Vield, Iberville Parish. This well was tested in the Cib
hazz 3 formation at a rate of 3,048 barrels of oil and 2.8 million cubic feet of
natural gas per day. The operator, National Energy Group, Inc., intends to
produce this well at approximately 1,400 barrels of oil per day and increase the
production levels in the future if the conditions allow. The Company owns a
8.92% working interest in this well.
Also in early October 1998, the Company announced the completion of the J.P.Owen
#1 in the Maurice Field, Lafayette Parish, Louisiana. This well was initially
tested at 9 million cubic feet of natural gas per day and 400 barrels of
condensate. After the first few days the well began producing water which
caused the operator, Amerada Hess Corp., to reduce the production rate to
approximately 3 million cubic feet per day and increase the rate of its offset
well, the Trahan #1, to approximately 15 million cubic feet of natural gas per
day (the Trahan #1 had historically produced at approximately 10 MMcf/d). The
Company owns a 8.4% working interest in this field.
With the addition of these two wells, the Company's total current net daily
production from its Gulf Coast properties is approximately 300 bbls of oil and
1,300 Mcf of gas (or 520 BOE) per day.
<PAGE>
Gas Plant Processing
This category accounts for the natural gas processed and the natural gas liquids
extracted and sold by the Gas Plant facility.
Operating statistics for the periods presented are as follows:
<TABLE>
<CAPTION>
For the Three Months For the Nine Months
Ended September 30, Ended September 30,
------------------------------- --------------------------
1998 1997 1998 1997
----------- -------------- ---------- -------------
Production:
<S> <C> <C> <C> <C>
Natural Gas Processed (Inlet Mcf) .......... 77,500 86,000 232,700 250,200
Liquids Produced -
B-G Mix (gallons) ................. 204,400 192,100 542,200 588,300
Propane (gallons) ................. 130,100 163,600 404,800 485,000
----------- ----------- ----------- -----------
Total liquids produced .... 334,500 355,700 947,000 1,073,300
=========== =========== =========== ===========
Total Liquids produced per Inlet Mcf ("GPM") 4.32 4.14 4.07 4.29
=========== =========== =========== ===========
Average Sales Price of Liquids (per gallon) $ 0.23 $ 0.40 $ 0.27 $ 0.41
=========== =========== =========== ===========
Gross Margin: ................................ Amount Amount Amount Amount
----------- ----------- ----------- -----------
Revenue .................................... $ 76,719 $ 153,848 $ 256,246 $ 525,704
Costs ...................................... (99,898) (79,346) (275,046) (283,645)
----------- ----------- ----------- -----------
Gross Margin ........................ $ (23,179) $ 74,502 $ (18,800) $ 242,059
=========== =========== =========== ===========
Gross Margin Percent ................ (30%) 48% (7%) 46%
</TABLE>
The decrease in natural gas processing volumes (per Mcf) during 1998 when
compared to 1997, can be substantially attributed to the normal decline in
production from the two fields owned and operated by the Company that supply the
gas plant with natural gas. The decrease in revenue in 1998 when compared to
1997 is a direct result of: 1.) the volume of natural gas processed; 2.) the
substantial decrease in liquid prices; and 3.) the gas plant encountered
-12-
<PAGE>
several operational problems during 1998 that forced the plant to flare a
significant amount of unprocessed gas (thus lowering the GPM).
Costs associated with the Gas Plant operations consist of both semi-fixed and
variable costs. The semi-fixed costs consist of direct payroll, utilities,
operating supplies, general and administrative costs, and other items necessary
in the day-to-day operations. The semi-fixed costs are not expected to change
significantly regardless of the volume processed by the Gas Plant. The variable
costs consist primarily of purchased gas, plant fuel and shrink, lubricants,
repair and maintenance. These costs are generally a direct function of the
volume processed by the Gas Plant and are expected to either increase or
decrease proportionately with the corresponding plant production.
Oil Field Services and Oil Field Supply
Operating statistics for the Company's oil field service and supply operations
for the periods presented are as follows:
<TABLE>
<CAPTION>
For the Three Months For the Nine Months
Ended September 30, Ended September 30,
----------------------------- ----------------------------
1998 1997 1998 1997
----------- -------------- ------------ --------------
<S> <C> <C> <C> <C>
Revenue $ 54,336 $ 181,373 $272,172 $ 525,585
Costs (65,921) (176,090) (289,786) (469,223)
---------- ------------ ----------- -----------
Net Operating Income (Loss) $(11,585) $ 5,283 $ (17,614) $ 56,362
========= ============== ========== ===========
</TABLE>
Total revenue, and the net operating income decreased in 1998, when compared to
1997 as a result of the Company's supply store manager and hot oil truck pusher
resigning in light of the anticipated sale of the Rocky Mountain assets and
taking a portion of the Company's business with them.
Well Administration and Other Income
The decrease in well administration and other income is a direct result of the
Company selling its Utah oil and gas properties effective April 1, 1998. These
properties generated most of this revenue.
Consulting Arrangement - Related Party
In March 1996 the Company entered into a three-year consulting agreement with
Beta Capital Group, Inc. ("Beta"). Beta, located in Newport Beach, California,
specializes in emerging companies with both capital needs and market support
requirements. Beta's chairman, Steve Antry, has been a director of the Company
since August 1996. The consulting agreement with Beta provides for minimum
monthly cash payments of $17,500 plus reimbursement for out-of-pocket expenses.
General and Administrative
Although there is no substantial difference in G&A expenses for the nine months
ended when comparing 1997 to 1998, the Company did incur additional expenses in
the third quarter of 1998 when compared to the same period in 1997 as follows:
1.) $150,000 to San Jacinto Securities, Inc., associated with its engagement to
pursue strategic alternatives (principally merger candidates) and 2.)
approximately $60,000 in legal and other professional fees.
Depreciation, Depletion and Amortization
Depreciation, Depletion and Amortization ("DD&A") for the periods presented by
cost center consisted of the following:
<TABLE>
<CAPTION>
For the Three Months For the Nine Months
Ended September 30 Ended September 30
-------------------------- ---------------------------
1998 1997 1998 1997
------------- --------- ------------ ------------
<S> <C> <C> <C> <C>
Oil and Gas Properties - Rocky Mtns. $ 79,429 $ 452,595 $ 265,510 $ 1,054,646
Oil and Gas Properties - Gulf Coast 526,841 303,874 866,477 437,300
Gas Plant Operations 63,973 60,182 181,371 180,540
Service and Supply Operations 26,698 35,093 110,395 106,618
Furniture and Fixtures 11,490 12,526 36,809 37,280
Non-Compete Agreements - 11,499 - 34,497
-------------- ----------- -----------------------------
Total $ 708,431 $ 875,769 $ 1,460,562 $ 1,850,881
======== ========= =========== ===========
</TABLE>
-13-
<PAGE>
DD&A for the oil and gas properties, per BOE, for the periods presented is as
follows:
Rocky Mountains 3.21 12.11 3.09 9.60
Gulf Coast 18.37 13.61 12.33 10.70
Combined Total 11.35 12.67 7.25 9.90
DD&A for the oil and gas properties is computed based on one full cost pool
using the total estimated reserves at the end of each period presented and prior
to applying the ceiling test discussed later in this section under "Impairment
Expense". The estimated portion of DD&A for the Rocky Mountains and the Gulf
Coast are illustrated here for analysis purposes only. Therefore, the variances
in the DD&A rates for oil and gas properties (per BOE) for the periods presented
are a function of the estimated reserves (which are significantly affected by
the price of oil and gas) and the net costs being amortized at the end of the
respective reporting periods. The deterioration of commodity prices
(particularly oil) between the periods presented has, among other factors,
lowered the value of the Company's reserves and effectively increased its rate
of DD&A of oil and gas properties per BOE.
Interest Expense
Total interest incurred, and its allocation, for the periods presented is as
follows:
<TABLE>
<CAPTION>
For the Three Months For the Nine Months
Ended September 30, Ended September 30,
1998 1997 1998 1997
<S> <C> <C> <C> <C>
Interest paid or accrued $ 101,680 $ 105,296 $ 299,313 $ 346,740
Amortization of debt discount 80,946 83,628 242,838 272,366
Amortization of debt issuance costs 51,101 52,793 153,304 171,899
------------ ----------- --------- --------
Total interest incurred 233,727 241,717 695,455 791,005
Interest capitalized (232,239) (136,062) (693,451) (283,338)
------------ ------------ --------- ----------
Interest expense $ 1,488 $ 105,655 $ 2,004 $ 507,667
============ =========== =========== =========
</TABLE>
The lower interest incurred in 1998 is attributed to the face value of the
convertible debentures issued in 1996 decreased from an average balance of $4.48
million during the first nine months of 1997 to an average balance of $3.98
million during 1998. The decrease in the average balance during the periods
presented is attributed to a portion of the convertible debentures converted
into common stock during 1997. More interest was capitalized in 1998 when
compared to 1997 since the average amounts invested in unevaluated oil and gas
properties was substantially higher in 1998.
Impairment Expense - Oil and Gas Properties
The Company changed its accounting method for oil and gas activities from
successful efforts to full cost during the fourth quarter of 1997. The full cost
method regards all costs of acquisition, exploration, and development activities
as being necessary for the ultimate production of reserves. All of those costs
are incurred with the knowledge that many of them relate to activities that do
not result directly in finding and developing reserves. However, the Company
expects that the benefits obtained from the prospects that do prove successful,
together with benefits from past discoveries, will ultimately recover the costs
of all activities, both successful and unsuccessful. Thus, all costs incurred in
those activities are regarded as integral to the acquisition, discovery, and
development of reserves that ultimately result from the efforts as a whole and
are thereby associated with the Company's proved reserves. Establishing a direct
cause-and-effect relationship between costs incurred and specific reserves
discovered, which is the premise under successful efforts, is not relevant to
the full cost concept. In light of the transformation from Rocky Mountain
acquisition and development to Gulf Coast exploration, the Company believes this
method will be a preferable method of accounting. However, the costs accumulated
in the Company's full cost pool are subject to a "ceiling", as defined by
Regulation SX Rule 4-10(e)(4). As prescribed by the corresponding accounting
standards for full cost, all the accumulated costs in excess of the ceiling, are
to be expensed by a charge to impairment.
Accordingly, the impairment recognized in 1998 can be substantially attributed
to the costs incurred in connection with dry holes and a continuing
deterioration of commodity prices (particularly oil) since December 31, 1997.
The impairment recognized during the first nine months of 1997 is associated
with approximately $1.2 million in dry holes, and $3.6 million associated with
the Rocky Mountain assets and the cumulative effect of the change in accounting
methods from successful efforts to full cost. As thoroughly discussed in the
Company's 1997 10-KSB, the cumulative
-14-
<PAGE>
effect of the accounting change retroactively increased the carrying value of
the oil and gas properties (which at the time consisted principally of the Rocky
Mountain properties). Essentially, the significant drop in oil and gas prices
between December 31, 1996 and September 30, 1998 have continued to lower the
"ceiling" on the full cost pool and the Company has incurred the additional
impairment charges.
Dividends and Net Loss Per Common Share
Net loss per common share is computed by dividing the net loss applicable to
common stockholders by the weighted average number of common shares outstanding
during the year. All potential common shares have been excluded from the
computations because their effect would be antidilutive.
The net loss applicable to common stockholders is determined by adding any
dividends accruing to the benefit of the preferred stockholders to the net loss.
The dividends included for this calculation include: 1) paid dividends; 2)
accrued but unpaid dividends; and 3) any imputed dividends attributable to the
beneficial conversion feature. During 1997, the net loss applicable to common
stockholders includes $89,969 for the nine months ended of accrued but unpaid
dividends related to the Series A Preferred Stock. The Series A Preferred Stock
automatically converted into common on June 11, 1997. During 1998, the net loss
applicable to common stockholders includes the following charges associated with
the Series B Preferred Stock that was issued on December 31, 1997:
For the Period Ended September 30, 1998
Three Months Nine Months
Dividends declared $ 69,585 $ 210,941
Imputed non-cash dividend 420,689 1,513,713
----------- ------------
Total $ 490,274 $ 1,724,654
========== ===========
The Series B Preferred Stock became convertible into common stock on April 1,
1998 at a conversion price equal to a 12% discount to the average trading price
of the common stock prior to conversion. This discount increases monthly through
March 1999 when the discount tops out at 25% (this discount is considered a
"beneficial conversion feature"). The additional non-cash imputed dividend
charge included in the net loss applicable to common stockholders represents the
intrinsic value of the discount applicable through September 30, 1998. As long
as any Series B Preferred Stock is outstanding, additional non-cash imputed
dividend charges will be incurred in future periods as the conversion discount
increases until the discount tops out at 25%.
OTHER MATTERS
Disclosure Regarding Forward-Looking Statements
This report on Form 10-QSB includes "forward-looking statements" within the
meaning of Section 27A of the Securities Act of 1933, as amended (the
"Securities Act"), and Section 21E of the Securities Exchange Act of 1934, as
amended (the "Exchange Act"). All statements other than statements of historical
facts included in this report, including, without limitation, statements under
"Business and Properties" and "Management's Discussion and Analysis of Financial
Condition and Results of Operations" regarding the Company's financial position,
reserve quantities and net present values, business strategy, plans and
objectives of management of the Company for future operations and capital
expenditures, are forward-looking statements and the assumptions upon which such
forward- looking statements are based are believed to be reasonable. The Company
can give no assurance that such expectations and assumptions will prove to be
correct. Reserve estimates of oil and gas properties are generally different
from the quantities of oil and natural gas that are ultimately recovered or
found. This is particularly true for estimates applied to exploratory prospects.
Additionally, any statements contained in this report regarding forward- looking
statements are subject to various known and unknown risks, uncertainties and
contingencies, many of which are beyond the control of the Company. Such things
may cause actual results, performance, achievements or expectations to differ
materially from the anticipated results, performance, achievements or
expectations. Factors that may affect such forward-looking statements include,
but are not limited to: the Company's ability to generate additional capital to
complete its planned drilling and exploration activities; risks inherent in oil
and gas acquisitions, exploration, drilling, development and production; price
volatility of oil and gas; competition; shortages of equipment, services and
supplies; government regulation; environmental matters; financial condition of
the other companies participating in the exploration, development and production
of oil and gas programs; and other matters beyond the Company's control. In
addition, since all of the prospects in the Gulf Coast are currently operated by
another party,
-15-
<PAGE>
the Company may not be in a position to control costs, safety and timeliness of
work as well as other critical factors affecting a producing well or exploration
and development activities. All written and oral forward-looking statements
attributable to the Company or persons acting on its behalf subsequent to the
date of this report are expressly qualified in their entirety by this
disclosure.
Year 2000 Issue
The Company has begun to address possible remedial efforts in connection with
computer software that could be affected by the Year 2000 problem. The Year 2000
problem is the result of computer programs being written using two digits rather
than four to define the applicable year. Any programs that have time-sensitive
software may recognize a date using "00" as the year 1900 rather than the year
2000. This could result in a major system failure or miscalculations. The
Company utilizes a number of computer programs across its entire operation. The
Company has not completed its assessment, but currently believes that the costs
of addressing this issue should not have a material adverse impact on the
Company's financial position. However, if the Company and third parties upon
which it relies are unable to satisfactorily address this issue in a timely
manner, it could result in a material financial risk to the Company. There can
be no assurances that Year 2000 problems will not occur with respect to the
Company's computer systems or business affiliations. The Year 2000 problem may
impact other entities with which the Company transacts business, and the Company
cannot predict the effect of the Year 2000 problem on such entities or the
Company.
-16-
<PAGE>
PART II - OTHER INFORMATION
Item 1. Legal Proceedings
The Company may from time to time be involved in various claims, lawsuits,
disputes with third parties, actions involving allegations of discrimination, or
breach of contract incidental to the operation of its business. The Company is
not currently involved in any such incidental litigation which it believes could
have a materially adverse effect on its financial condition or results of
operations.
Item 2. Changes in Securities
(a) and (b): not applicable
(c) Recent sales of unregistered securities. The Company issued and sold
the following securities without registration under the Securities Act
of 1933, as amended ("Securities Act"), during the first nine months of
1998 and through the date of this Report.
1. On February 2, 1998, the Company issued 1,250 shares of its common stock
upon exercise of outstanding stock purchase warrants at $0.75 per share for
total proceeds of $938 to the Company. The Certificates representing the shares
issued upon exercise bear a restrictive legend prohibiting transfer without
registration under the Securities Act or the availability of an exemption from
registration and "stop transfer" instructions have been issued to the transfer
agent. These warrants were issued in February 1996 in connection with the
Consulting Agreement entered into with Beta Capital Group, Inc. The shares of
common stock issued upon exercise of the warrants were registered for resale by
the holder in Registration No. 333-19589.
2. On May 20, 1998 the Company issued 30,027 shares of its common stock
upon conversion of 497 shares of Series B Preferred Stock. The Certificates
representing the shares issued upon conversion bear a restrictive legend
prohibiting transfer without registration under the Securities Act or the
availability of an exemption from registration. The shares issued upon
conversion were registered by the Company for resale by the holders
in Registration No. 333-44305. The Company relied upon Section 3(a)(9) of the
Securities Act of 1933, as amended, in claiming exemption from the registration
requirements of the Securities Act for issuance of the securities upon
conversion.
3. On July 17, 1998 the Company issued 63,544 shares of its common
stock upon conversion of 500 shares of Series B Preferred Stock. The
Certificates representing the shares issued upon conversion bear a restrictive
legend prohibiting transfer without registration under the Securities Act or the
availability of an exemption from registration. The shares issued upon
conversion were registered by the Company for resale by the holders in
Registration No. 333-44305. The Company relied upon Section 3(a)(9) of the
Securities Act of 1933, as amended, in claiming exemption from the registration
requirements of the Securities Act for issuance of the securities upon
conversion.
4. On August 18, 1998 the Company issued 122,272 shares of its
common stock upon conversion of 500 shares of Series B Preferred Stock. The
Certificates representing the shares issued upon conversion bear a restrictive
legend prohibiting transfer without registration under the Securities Act or the
availability of an exemption from registration. The shares issued upon
conversion were registered by the Company for resale by the holders in
Registration No. 333-44305. The Company relied upon Section 3(a)(9) of the
Securities Act of 1933, as amended, in claiming exemption from the registration
requirements of the Securities Act for issuance of the securities upon
conversion.
In connection with the issuance of the above noted securities, the Company also
relied upon Section 4(2) of the Securities Act in claiming exemption for the
registration requirement of the Securities Act. All of the persons to whom the
securities were issued had full information concerning the business and affairs
of the Company and acquired the shares for investment purposes. Certificates
representing the securities issued bear a restrictive legend and stop transfer
instructions have been entered prohibiting transfer of the securities except in
compliance with applicable securities law.
-17-
<PAGE>
Item 3. Defaults Upon Senior Securities
(a) There has been no material default in the payment of principal,
interest, or any other material default, with respect to any
indebtedness of the small business issuer during the period covered by
this report.
(b) There has been no material default in the payment of dividends for any
class of preferred stock during the period covered by this report.
Item 4. Submission of Matters to a Vote of Security Holders
There were no matters submitted to a vote of shareholders.
Item 5. Other Information
Discretionary Voting by Management
Unless the Company receives notice from a stockholder that the stockholder plans
to present a matter for consideration at the next annual meeting of
stockholders, including information about the matter to be presented, by March
14, 1999 (45 days before the date the Company mailed its proxy materials to
stockholders in 1998), management will have discretionary authority to vote all
shares for which it holds proxies in opposition to the matter if presented. This
procedure is intended to be in response to amendments to Rule 14a-4 under the
Securities Exchange Act of 1934, recently adopted by the Securities and Exchange
Commission.
Resignation of a Director
On November 1, 1998, Mr. R. Thomas Fetters, Jr. resigned his position as
a director of the Company. The resignation was voluntary and did not
involve any disputes or disagreements with the Company, its management or
Board of Directors.
Purchase of Series B Preferred Stock
On September 9, 1998, the Company purchased (redeemed) and retired 500 shares of
the Series B Preferred Stock ("Preferred Stock") for $31,250 and on October 5,
1998 an additional 4,000 shares for $175,000. The Company decided to purchase
these shares in lieu of allowing them to convert into approximately 1.1 million
shares of common stock. As part of the transaction, those (not all) preferred
holders agreed not to attempt any additional conversions until at least December
15, 1998 (they collectively hold 7,336 shares of Preferred Stock with a par
value of $366,800).
Item 6. Exhibits and Reports on Form 8-K
(a) The following exhibits are filed with this report:
(1) Exhibit 27-1, "Financial Data Schedule" - for the quarter
ended September 30, 1998. (2) Exhibit 27-2, "Financial Data
Schedule" - for the quarter ended September 30, 1997 as
restated for accounting change from successful efforts to full
cost for oil and gas activities.
(b) The following report on Form 8-K was filed during the quarter ended
September 30, 1998:
Item Reported Date Financial Statement
------------- ------------------------ ---------------------
(1) 5, 7 September 9, 1998 None - Not Applicable
There were no financial statements filed during the quarter ended September 30,
1998 other than the Company's Quarterly Report on Form 10-QSB for the second
quarter ended June 30, 1998.
-18-
<PAGE>
SIGNATURES
In accordance with Section 13 or 15 (d) of the Exchange Act, the Registrant
caused this report to be signed on its behalf by the undersigned, thereunto duly
authorized.
PEASE OIL AND GAS COMPANY
Date: November 16, 1998 By: /s/ Patrick J. Duncan
Patrick J. Duncan
President and Principal Accounting Officer
Date: November 16, 1998 By: /s/ William F. Warnick
William F. Warnick
Chairman of the Board
-19-
<PAGE>
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