FORM 10-Q
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended June 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 0-16621
GARNET RESOURCES CORPORATION
(Exact name of registrant as specified in its charter)
Delaware 74-2421851
(State or other jurisdiction of (IRS Employer
incorporation or organization) Identification No.)
RR 2 Box 4400, Nacogdoches, Texas 75961
(Address of principal executive offices) (Zip Code)
Registrant's telephone number, including area code (409) 559-9959
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 preceding 12 months (or for such shorter period that the Registrant
was required to file such reports) and (2) has been subject to such filing
requirements for the past 90 days.
Yes X No
As of August 14, 1998, 11,492,162 shares of Registrant's Common Stock, par value
$.01 per share, were outstanding.
<PAGE>
GARNET RESOURCES CORPORATION (the "Registrant" or the "Company")
I N D E X
PART I - FINANCIAL INFORMATION Page
Item 1. Financial Statements
Consolidated Balance Sheets -
June 30, 1998 (unaudited)
and December 31, 1997 ............................ 3-4
Consolidated Statements of
Operations for the Three Months and
Six Months Ended June 30, 1998 and 1997
(unaudited) ...................................... 5
Condensed Consolidated Statements of
Cash Flows for the Six Months Ended
June 30, 1998 and 1997 (unaudited) .............. 6
Notes to Condensed Consolidated Financial
Statements- June 30, 1998 (unaudited) ........... 7-15
Item 2. Management's Discussion and Analysis of
Financial Condition and Results of
Operations ..................................... 15-18
PART II - OTHER INFORMATION
Item 6. Exhibits and Reports on Form 8-K .................... 19-20
2
<PAGE>
PART I - FINANCIAL INFORMATION
Item 1. Financial Statements.
GARNET RESOURCES CORPORATION AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
June 30, December 31,
1998 1997
----------------- -----------
ASSETS (unaudited)
CURRENT ASSETS:
Cash and cash equivalents ........... $ 466,459 $ 425,019
Restricted cash balances ............ 282,382 1,699,231
Accounts receivable ................. 774,573 1,476,485
Inventories ......................... 435,311 736,899
Prepaid expenses .................... 88,759 108,577
------------ ------------
Total current assets ....... 2,047,484 4,446,211
------------ ------------
PROPERTY AND EQUIPMENT, at cost:
Oil and gas properties
(full-cost method)-
Proved ............................ 60,265,519 59,317,097
Unproved (excluded from
amortization) .................... 286,279 263,908
------------ ------------
60,551,798 59,581,005
Other equipment ..................... 62,155 134,598
------------ ------------
60,613,953 59,715,603
Less - Accumulated depreciation,
depletion and amortization ......... (54,166,983) (48,213,229)
------------ ------------
6,446,970 11,502,374
------------ ------------
OTHER ASSETS ................................. 385,873 511,863
------------ ------------
$ 8,880,327 $ 16,460,448
============ ============
The accompanying notes are an integral part of these condensed consolidated
financial statements.
3
<PAGE>
GARNET RESOURCES CORPORATION AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
Continued
June 30, December 31,
LIABILITIES AND STOCKHOLDERS' EQUITY 1998 1997
------------- -----------
(unaudited)
CURRENT LIABILITIES:
Current portion of long-term debt .......... $ 21,301,740 $ 22,641,480
Accounts payable and accrued
liabilities ............................... 1,766,620 1,123,104
------------ ------------
Total current liabilities .............. 23,068,360 23,764,584
------------ ------------
LONG-TERM DEBT, net of current portion .......... -- --
------------ ------------
DEFERRED INCOME TAXES ........................... -- --
------------ ------------
OTHER LONG-TERM LIABILITIES ..................... 274,113 279,200
------------ ------------
STOCKHOLDERS' EQUITY:
Common stock, $.01 par value, 75,000,000
shares authorized, ........................ 11,492,162
shares issued and outstanding as of June 30,
1998 and December 31, 1997 ................. 114,922 114,922
Capital in excess of par value ............. 52,491,212 52,491,212
Retained earnings (deficit) ................ (67,068,280) (60,189,470)
------------ ------------
Total stockholders' equity ............. (14,462,146) ( 7,583,336)
------------ ------------
$ 8,880,327 $ 16,460,448
============ ============
The accompanying notes are an integral part of these condensed consolidated
financial statements.
4
<PAGE>
<TABLE>
<CAPTION>
GARNET RESOURCES CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS
(Unaudited)
Three Months Ended Six Months Ended
June 30, June 30,
1998 1997 1998 1997
--------------- ----------- --------- -----------
REVENUES:
<S> <C> <C> <C> <C>
Oil sales .......................... $ 804,113 $ 2,169,479 $ 1,928,267 $ 5,213,480
Interest and other ................. 109,105 39,037 166,683 108,796
------------ ------------ ------------ -------------
913,218 2,208,516 2,094,950 5,322,276
------------ ------------ ------------ -------------
COSTS AND EXPENSES:
Production ......................... 474,211 987,076 1,080,662 1,930,852
Exploration ........................ (710) 1,700 50 3,452
General and
administrative .................... 278,768 360,907 561,089 565,815
Interest ........................... 545,453 560,086 1,118,329 1,145,217
Depreciation, depletion
and amortization .................. 346,134 2,107,199 876,677 4,199,772
Write down of oil and
Gas properties .................... 1,645,468 10,705,135 5,127,167 14,216,868
Foreign currency
translation gain .................. 12,422 (24,675) (17,015) (104,761)
------------ ------------ ------------ -------------
3,301,746 14,697,428 8,746,959 21,957,215
------------ ------------ ------------ -------------
INCOME (LOSS) BEFORE
INCOME TAXES ....................... (2,388,528) (12,488,912) (6,652,009) (16,634,939)
PROVISION FOR
INCOME TAXES ........................... 114,648 (307,494) 226,801 (561,249)
------------ ------------ ------------ -------------
NET LOSS ................................ $ (2,503,176) $(12,181,418) $ (6,878,810) $(16,073,690)
============ ============ ============ =============
LOSS PER SHARE OF COMMON
STOCK (BASIC AND DILUTED) ............... $ (.22) $ (1.06) $ (.60) $ (1.40)
============ ============ ============ =============
WEIGHTED AVERAGE
SHARES OUTSTANDING ...................... 11,492,162 11,492,162 11,492,162 11,492,162
============ ============ ============ =============
</TABLE>
The accompanying notes are an integral part of these condensed
consolidated financial statements.
5
<PAGE>
GARNET RESOURCES CORPORATION AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(Unaudited)
Six Months Ended
June 30,
1998 1997
---------- ----------
CASH FLOWS FROM OPERATING ACTIVITIES:
Net loss .................................... $ (6,878,810) $(16,073,690)
Exploration costs ........................... 50 3,452
Depreciation, depletion and amortization .... 876,677 4,199,772
Write down of oil and gas properties ........ 5,127,167 14,216,868
Deferred income taxes ....................... -- (979,499)
Changes in components of working capital .... 2,089,083 311,987
Other ....................................... 120,778 119,668
------------ ------------
Net cash provided by operating activities 1,334,945 1,798,558
------------ ------------
CASH FLOWS FROM INVESTING ACTIVITIES:
Capital expenditures ........................ (1,119,254) (3,320,539)
(Increase) decrease in joint venture and
contractor advances ......................... (239,891) 795,375
Other ....................................... 29,414 (54,447)
------------ ------------
Net cash used for investing activities .. (1,329,731) (2,579,611)
------------ ------------
CASH FLOWS FROM FINANCING ACTIVITIES:
Short term borrowings ....................... 36,226 --
Cost of debt issuances ...................... -- (18,789)
Repayments of debt .......................... -- (496,200)
------------ ------------
Net cash (used) for provided by
financing activities ................... 36,226 (514,989)
------------ ------------
NET (DECREASE) INCREASE IN CASH
AND CASH EQUIVALENTS ........................... 41,440 (1,296,042)
CASH AND CASH EQUIVALENTS
AT BEGINNING OF PERIOD ......................... 425,019 3,058,015
------------ ------------
CASH AND CASH EQUIVALENTS AT END OF PERIOD ....... $ 466,459 $ 1,761,973
============ ============
Supplemental disclosures of cash flow information:
Cash paid for -
Interest, net of amounts capitalized ........ $ 361,272 $ 1,094,811
Income taxes ................................ 82,479 324,726
The accompanying notes are an integral part of these condensed consolidated
financial statements.
6
<PAGE>
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
JUNE 30, 1998
(Unaudited)
(1) Financial statement presentation-
The condensed consolidated financial statements include the accounts of
Garnet Resources Corporation, a Delaware corporation ("Garnet"), and its wholly
owned subsidiaries. Garnet and its wholly owned subsidiaries are collectively
referred to as the "Company." These financial statements have been prepared by
the Company without audit, pursuant to the rules and regulations of the
Securities and Exchange Commission, and include all adjustments (which consist
solely of normal recurring adjustments) which, in the opinion of management, are
necessary for a fair presentation of financial position and results of
operations. Certain information and footnote disclosures normally included in
financial statements prepared in accordance with generally accepted accounting
principles have been condensed or omitted pursuant to such rules and
regulations, although the Company believes that the disclosures are adequate to
make the information presented not misleading. It is suggested that these
condensed consolidated financial statements be read in conjunction with the
Company's audited consolidated financial statements and the notes thereto
included in its Form 10-K for the year ended December 31, 1997.
Effective January 1, 1998, the Company adopted Statement of Financial
Accounting Standards ("SFAS") No. 130, "Reporting Comprehensive Income". SFAS
No. 130 establishes standards for reporting and display of comprehensive income
in a full set of general-purpose financial statements. Comprehensive income
includes net income and other comprehensive income which is generally comprised
of changes in the fair value of available-for-sale marketable securities,
foreign currency translation adjustments and adjustments to recognize additional
minimum pension liabilities. The Company had no accumulated other comprehensive
income at December 31, 1997 and no other comprehensive income for the six months
ended June 30, 1998 and 1997.
(2) Merger plans-
The Company and Aviva Petroleum Inc. ("Aviva") signed an
Agreement and Plan of Merger dated June 24, 1998 (the "Merger Agreement"). Under
the terms of the Merger Agreement, Aviva will form a wholly owned subsidiary
which will merge with and into the Company. The Company will become a wholly
owned subsidiary of Aviva upon the consummation of the merger. The Company's
stockholders will receive approximately 1.1 million shares of common stock of
Aviva. The Merger Agreement also provides for the refinancing of Garnet's
outstanding debt (the "Chase Loan") to Chase Bank of Texas ("Chase") which is
guaranteed by the Overseas Private Investment Corporation ("OPIC"), an agency of
the United States Government, and the issuance of approximately 12.9 million
shares of Aviva common stock to the holders of the Company's $15 million dollars
of 9 1/2% subordinated debentures (the "Debentures") in exchange for those
debentures.
The Company's stockholders will receive one (1) share of Aviva common
stock for each ten (10) shares of Garnet's common stock that they hold. The
Company's stockholders holding less than 1,000 registrant's shares or who would
receive fractional shares of Aviva common stock after the exchange will receive
cash in the amount of $0.02 for each share of the Company's common stock held.
The Company's stockholders entitled to receive Aviva common stock will be issued
one Aviva depositary share for each five (5) shares of Aviva common stock that
they receive as a result of the merger. The Aviva depositary shares trade on the
American Stock Exchange under the symbol "AVV".
<PAGE>
Completion of the merger transaction is planned to take place during the third
quarter of this year and is subject to various contingencies including the
execution of a Definitive Credit Agreement and the approval of the transactions
contemplated by the Merger Agreement by the stockholders of Aviva and Garnet. A
Joint Proxy Statement was filed with the Securities and Exchange Commission on
Form S-4 on June 29, 1998 and will be sent to the stockholders of both companies
when it has been declared effective by the Securities and Exchange Commission.
(3) Liquidity and Capital Resources-
The Company is highly leveraged with $21,301,740 in current debt
consisting of (i) the Debentures due December 21, 1998 and (ii) $6,350,000
($6,301,740 net to Garnet) in principal outstanding under the Chase Loan to an
indirect subsidiary of Garnet, Argosy Energy International ("Argosy"), a Utah
limited partnership. Based on Argosy's first quarter 1998 financial statements,
Argosy has determined that it is no longer in compliance with certain covenants
required by the finance agreement governing the Chase Loan. In the absence of a
waiver of such covenants, either OPIC, Chase or both would have the right to
call a default under the Chase Loan, accelerate payment of all outstanding
amounts due thereunder and realize upon the collateral securing the Chase Loan.
Although Argosy may apply for a waiver, given the Company's financial position
and negative working capital balance at June 30, 1998, no assurance can be given
that such waiver will be granted or continued. Under the terms of the Chase
Loan, 75% of the proceeds from Argosy's oil sales, which are paid in U.S.
dollars are deposited into an escrow account with Chase to secure payment of the
Chase Loan. Argosy is required to maintain a minimum balance in such escrow
account equal to six months of interest, principal and other fees due under the
Chase Loan. The escrow account minimum required balance at June 15, 1998 was
$1,700,000 and the total account balance was $2,100,000. As previously stated,
Argosy was unable to pay the scheduled Chase Loan principal, interest and fees
due June 15, 1998 from its operating account. Chase and OPIC therefore,
exercised their right to withdraw such amounts totaling $1,600,000 from the
escrow account and released $200,000 to Argosy, leaving a balance of $300,000 in
the account. U. S. dollar revenues continue to be deposited into the escrow
account in an effort to bring the balance up to the required minimum as soon as
possible. Release of additional funds to Argosy will be at the sole discretion
of OPIC and Chase. No assurance can be given that OPIC will release additional
amounts sufficient to fund the Company's operations.
The Company was unable to pay interest to the debenture holders due
March 31 and June 30, 1998. The Company's financial forecasts indicate that,
assuming no changes in its capital structure, working capital and cash flow from
operations, the Company will not be able to pay Debentures interest due
September 30, 1998, or pay principal and interest due under the Chase Loan on
December 15, 1998 and maintain the minimum balance in the escrow account. The
Company also does not expect working capital and cash flow from operations to be
sufficient to repay the principal amount of the Debentures at maturity or
earlier if the debenture holders call a default as a result of the non-payment
of interest. The Company must complete a restructuring transaction or
renegotiate the terms of the Debentures in order to avoid non-compliance with
its obligations to pay the Debentures. As a result, management believes there is
substantial doubt about the Company's ability to continue as a going concern. In
the absence of a business transaction or a restructuring of the Company's
indebtedness, the Company may seek protection from its creditors under the
Federal Bankruptcy Code.
<PAGE>
(4) Colombian operations-
Through its ownership of interests in Argosy , the Company has an
indirect interest in a risk sharing contract in Colombia (the "Santana
Contract") with Empresa Colombiana de Petroleos, the Colombian national oil
company ("Ecopetrol"). The Santana Contract currently entitles Argosy and Neo to
explore for oil and gas on approximately 52,000 acres located in the Putumayo
Region of Colombia (the "Santana Block"). The contract provided for a ten-year
exploration period that expired in 1997 and for a production period expiring in
2015. Argosy and Neo also had two association contracts (the "Fragua Contract"
and the "Yuruyaco Contract") with Ecopetrol. The Fragua Contract covers an area
of approximately 32,000 acres contiguous to the northern boundary of the Santana
Block (the "Fragua Block"), while the Yuruyaco Contract covers an area of
approximately 39,000 acres contiguous to the eastern boundaries of the Santana
Block and the Fragua Block (the "Yuruyaco Block"). Work obligations under these
two contracts have been met and applications to relinquish the areas were filed
with Ecopetrol. The relinquishment of the Fragua Contract has been formally
accepted by Ecopetrol and the application to relinquish the Yuruyaco Contract is
under consideration. Argosy and Neo also have the right until 2003 to explore
for and produce oil and gas from approximately 77,000 acres located in the
Putumayo Region (the "Aporte Putumayo Block") pursuant to other agreements with
Ecopetrol. Argosy and Neo notified Ecopetrol in 1994 that they intend to abandon
the remaining wells and relinquish the Aporte Putumayo Block because declining
production rates made continued operation of the wells economically
unattractive. Ecopetrol is presently in discussion with another company desirous
of contracting with Ecopetrol for a new contract area that will include the
Aporte Putumayo Block. Depending on the terms of this new contract, the Company
may still be obligated to pay its share of the abandonment costs estimated to be
approximately $220,000.
Argosy serves as the operator of the Colombian properties under joint
venture agreements. The Santana Contract provides that Ecopetrol will receive a
royalty equal to 20% of production on behalf of the Colombian government and, in
the event a discovery is deemed commercially feasible, Ecopetrol will acquire a
50% interest in the remaining production from the field, bear 50% of the
development costs, and reimburse the joint venture, from Ecopetrol's share of
future production from each well, for 50% of the joint venture's costs of
successful exploratory wells in the field. In June 1996, cumulative oil
production from the Santana Contract exceeded seven million barrels. Under the
terms of the Santana Contract, Ecopetrol continued to bear 50% of development
costs, but its interest in production revenues and operating costs applicable to
wells on the Santana Block increased to 65%. If a discovery is made and is not
deemed by Ecopetrol to be commercially feasible, the joint venture may continue
to develop the field at its own expense and will recover 200% of the costs
thereof, at which time Ecopetrol will acquire a 65% interest therein at no cost
to Ecopetrol or further reimbursement by Ecopetrol to Argosy.
The Company's resulting net participation in revenues and costs for the
Santana Contract is as follows:
<PAGE>
Production Operating Exploration Development
Revenues Costs Costs Costs
After seven million barrels
of accumulated production 15.3% 19.1% 38.2% 27.3%
The joint venture has completed its seismic acquisition and drilling
obligations for the ten-year exploration period of the Santana Contract,
resulting in the discovery of four oil fields, all of which have been declared
commercial by Ecopetrol. The joint venture has the right to continue to explore
for additional oil and gas deposits on the remaining acreage in the block, which
is held under the commercial production provisions of the Santana Contract.
Under the terms of a contract with Ecopetrol, all oil produced from
the Santana Block is sold to Ecopetrol. If Ecopetrol exports the oil, the price
paid is the export price received by Ecopetrol, adjusted for quality
differences, less a handling and commercialization fee of $.515 per barrel. If
Ecopetrol does not export the oil, the price paid is based on the price received
from Ecopetrol's Cartagena refinery, adjusted for quality differences, less
Ecopetrol's cost to transport the crude to Cartagena and a handling and
commercialization fee of $.415 per barrel. Under the terms of its contract with
Ecopetrol, 25% of all revenues from oil sold to Ecopetrol is paid in Colombian
pesos, which may only be utilized in Colombia. To date, Argosy has experienced
no difficulty in repatriating the remaining 75% of such payments which are
payable in United States dollars.
As general partner, the Company's subsidiary is contingently liable
for any obligations of Argosy and may be contingently liable for claims
generally related to the conduct of Argosy's business.
(5) Exploration licenses in Papua New Guinea-
Garnet PNG Corporation ("Garnet PNG"), a wholly owned subsidiary of
Garnet, owned a 6% interest (the "PPL-181 Interest) in Petroleum Prospecting
License No. 181 ("PPL-181") which covered 952,000 acres (the "PPL-181 Area").
Garnet PNG also held a 7.73% interest in an adjoining license, Petroleum
Prospecting License No. 174, on which an exploratory dry hole was drilled in the
first quarter of 1996. This license was surrendered on April 25, 1997. In 1986,
oil was discovered approximately 10 miles from the northern border of the
PPL-181 Area in an adjoining license area.
Under the terms of an agreement pertaining to PPL-181, Occidental
International Exploration and Production Company ("Occidental") agreed to drill
and complete at its cost, a test well on the PPL-181 Area by September 1997.
PPL-181 was owned by Occidental (88%), Garnet PNG (6%) and Niugini Energy Pty.
Limited (6%). The test well, Turama-1, was drilled in the first quarter of 1997,
reaching a total depth of 9,652 feet. The well encountered the objective sands
in the Jurassic-Cretaceous Imburu formation, but evaluations of samples and
electric logs indicated that the sands were water bearing; therefore, the well
was abandoned as a dry hole.
<PAGE>
In an agreement dated November 24, 1997, among Occidental Kanau Ltd. ,
Occidental of Papua New Guinea Ltd. ("Occidental PNG"), Santos Niugini
Exploration Pty. Limited ("Santos"), Niugini Energy, Inc. and Garnet PNG ,
Garnet PNG agreed to exchange its 6% interest (the "PPL-181 Interest") in
PPL-181 for a 4% interest in a newly applied for but not yet issued petroleum
prospecting license (New PPL") covering the PPL-181 Area and Petroleum
Prospecting License No. 158 ("PPL-158") held by Occidental PNG and Santos. On
April 28, 1998, the Minister for Petroleum and Energy for the Government of
Papua New Guinea agreed in writing to the relinquishment of PPL-181and PPL-158
and to the issuance of the New PPL to be designated Petroleum Prospecting
License No. 206 ("PPL-206). It is anticipated that PPL-206 will be formally
issued during the third quarter of this year.
Upon presentation of a tax clearance certificate evidencing Garnet
PNG's compliance with the relevant provisions of Papua New Guinea's income tax
laws, profits, dividends and certain other payments, if any, up to an amount of
500,000 kina (approximately $ 224,000) per year may be fully remitted out of
Papua New Guinea. Amounts in excess of 500,000 kina may also be remitted,
subject to clearance from the Bank of Papua New Guinea.
(6) Long-term debt-
Long-term debt at June 30, 1998 and December 31, 1997 consisted of the
following:
1998 1997
------------- ----------
9 1/2% convertible subordinated debentures $15,000,000 $15,000,000
Notes payable by Argosy to a U.S. bank 6,301,740 7,641,480
------------- -------------
21,301,740 22,641,480
Less - Current portion (21,301,740) (22,641,480)
------------ ------------
$ - $ -
=================== ===========
In 1993, Garnet issued $15,000,000 of convertible subordinated
debentures (the "Debentures") due December 21, 1998. The Debentures bear
interest at 9 1/2% per annum payable quarterly and are convertible at the option
of the holders into Garnet common stock at $5.50 per share. If the Company
elects to prepay the Debentures under certain circumstances, it will issue
warrants under the same economic terms as the Debentures. At the option of a
holder, in the event of a change of control of the Company, the Company will be
required to prepay such holder's Debenture at a 30% premium. The Debentures are
secured by a pledge of all of the common stock of Garnet's wholly owned
subsidiary which serves as the general partner of Argosy. Under the terms of an
agreement with the holders of its Debentures, Garnet has agreed that it will not
pay dividends or make distributions to the holders of its common stock. The
Debentures mature December 21, 1998; therefore, the entire balance has been
classified as current in the accompanying consolidated balance sheet. As of June
30, 1998, Garnet was not in compliance with the minimum net worth required by
the Debentures and did not pay the quarterly interest payment due March 31 and
June 30, 1998. Additionally, the Company does not expect working capital and
cash flow from operations to be sufficient to repay the principal amount of the
debentures at maturity, therefore the Company must consummate a restructuring
transaction prior to their maturity date in order to avoid non-compliance with
its obligations to pay the Debentures. If no restructuring transaction is
consummated the Company will be required to re-negotiate the terms of the
debentures. In the absence of a business transaction or a restructuring of the
Company's indebtedness, the Company may seek protection from its creditors under
the Federal Bankruptcy Code.
<PAGE>
In 1994, Argosy entered into a finance agreement with Overseas Private
Investment Corporation, an agency of the United States government ("OPIC"),
pursuant to which OPIC agreed to guarantee up to $9,200,000 in bank loans to
Argosy, the loans were funded in two stages of $4,400,000 in August 1994 and
$4,800,000 in October 1995. The Company used these funds to drill development
wells and complete the construction of its production facilities in Colombia.
OPIC's guaranty is secured by Argosy's interest in the Santana Contract and
related assets, as well as the pledge of Garnet's direct and indirect interests
in Argosy. The terms of the guaranty agreement also restrict Argosy's ability to
make distributions to its partners, including the Company, prior to the
repayment of the guaranteed loans. The maximum term of the loans is not to
exceed seven years, and the principal amortization schedule is based on
projected cash flows from wells on the Santana Block. The loans bear interest at
the lender's Eurodollar deposit rate plus .25% per annum for periods of two,
three or six months as selected by Argosy. The interest rate at March 31, 1998
was 6.125%. In consideration for OPIC's guaranty, Argosy pays OPIC a guaranty
fee of 2.4% per annum on the outstanding balance of the loans guaranteed. Argosy
is no longer in compliance with certain covenants required by the finance
agreement governing the Chase Loan.
(7) Stock option plans-
Garnet has adopted stock option plans (the "Employee Plans") pursuant
to which an aggregate of 1,473,000 shares of Garnet's common stock is authorized
to be issued upon exercise of options granted to officers, employees, and
certain other persons or entities performing substantial services for or on
behalf of Garnet or its subsidiaries.
The Stock Option and Compensation Committee of Garnet's Board of
Directors (the "Committee") is vested with sole and exclusive authority to
administer and interpret the Employees' Plans, to determine the terms upon which
options may be granted, to prescribe, amend and rescind such interpretations and
determinations and to grant options to directors. Current Committee members are
not eligible to receive options under the Employees' Plans.
The employee stock options are generally exercisable for a period of 10
years and 30 days from the date of grant. The purchase price of shares issuable
upon exercise of an option may be paid in cash or by delivery of shares with a
value equal to the exercise price of the option. The Committee has determined
that the right to exercise non-incentive options issued to employees vests over
a period of four years, so that 20% of the option becomes exercisable on each
anniversary of the date of grant.
On May 22, 1997, Garnet adopted the 1997 Directors' Stock Option Plan
(the "1997 Directors' Plan") pursuant to which an aggregate of 470,000 shares of
Garnet's common stock is authorized to be issued upon exercise of options
granted to non-employee directors. An aggregate of 122,950 shares was issuable
as of June 30, 1998 upon exercise of options granted thereunder in exchange,
among other things, for the surrender of 265,000 options previously granted to
such directors under the 1990 Directors' Stock Option Plan that has since been
terminated. Director's stock options are exercisable for a period of 5 years
from the date of grant. The purchase price of shares issuable upon exercise of a
director's stock option must be paid in cash.
<PAGE>
The following is a summary of stock option activity in connection with
the Employees' Plans and the Directors' Plan:
Shares Price Range
Options outstanding at December 31, 1995 1,329,102 $2.50-$13.83
Options granted 480,000 4.00 - 11.75
Options expired (630,376) 2.87 - 4.05
----------- -----------
Options outstanding at December 31, 1996 1,178,726 1.19 - 13.83
Options granted 698,956 0.38 - 0.56
Options cancelled (451,080) 4.00 - 11.75
Options expired (85,372) 2.87 - 4.05
---------- ------------
Options outstanding at December 31, 1997 1,341,230 0.38 -- 2.50
Options expired (568,171) 0.38 -- 0.56
----------- ------------
Options outstanding at June 30, 1998 773,059 $0.38 - $0.56
========= =============
As of June 30, 1998, options for 486,458 shares were exercisable.
In October 1995, the Financial Accounting Standards Board issued
Statement of Financial Accounting Standards ("SFAS") No. 123, a new standard for
accounting for stock-based compensation. This standard established a fair-value
based method of accounting for stock options awarded after December 31, 1995 and
encourages companies to adopt SFAS No. 123 in place of the existing accounting
method, which requires expense recognition only in situations where stock
compensation plans award intrinsic value to recipients at the date of grant.
Companies that do not follow SFAS No. 123 for accounting purposes must make
annual pro forma disclosures of its effects. Adoption of the standard was
required in 1996, although earlier implementation was permitted. The Company did
not adopt SFAS No. 123 for accounting purposes; however it will make annual pro
forma disclosures of its effects.
(8) Income taxes-
The provisions for income taxes and deferred income taxes payable
relate to the Colombian activities of Argosy. No deferred taxes were provided
because the tax bases of the Company's assets exceed the financial statement
bases, resulting in a deferred tax asset, which the Company has determined, is
not presently realizable.
As of December 31, 1997, the Company had a regular U. S. tax net
operating loss carryforward and an alternative minimum tax loss carryforward of
approximately $30,900,000 and $ 30,600,000 respectively. These loss
carryforwards will expire beginning in 2001 if not utilized to reduce U.S.
income taxes otherwise payable in future years, and are limited as to
utilization because of the occurrences of "ownership changes" (as defined in
Section 382 of the Internal Revenue Code of 1986, as amended) in 1991 and
earlier years. Such loss carryforwards also exclude regular tax net operating
loss carryforwards aggregating approximately $4,500,000 attributable to certain
of Garnet's subsidiaries, which can be used in certain circumstances to offset
taxable income generated by such subsidiaries.
<PAGE>
(9) Subsequent event-
On August 3, 1998, leftist guerrilla groups launched a nation wide
offensive in Colombia. As a result of one attack, the Company's oil production
and storage facilities at the Mary field were damaged and minor damage was
inflicted on the Linda facilities. While it is too early to accurately assess
the cost of repairs, the Company does not believe the property damage will
exceed insurance limits.
As of August 10, 1998, the Company's oil production from the Linda and
Toroyaco fields had been restored. Production from the Mary and Miraflor fields,
however, may be suspended or significantly curtailed for at least several weeks
and possibly longer depending on the extent of damage and availability of repair
crews.
(10) Capital Stock: Net Income (Loss) Per Common Share-
A reconciliation of the components of basic and diluted net income (loss) per
common share for the three months and six months ended June 30,1998 and 1997 is
presented in the table below (in thousands, except per share amounts):
Three Months Ended Six Months Ended
June 30, June 30,
1998 1997 1998 1997
----- ----- ----- ----
Basic net income (loss) per share:
Net income (loss) $ (2,503) $(12,181) $ (6,879) $(16,074)
Less: Preferred stock
Dividends -- -- -- --
Earnings (loss) available
To common shareholders $ (2,503) $(12,181) $ (6,879) $(16,074)
Weighted average shares of
common stock outstanding(1) 11,492 11,492 11,492 11,492
Basic net income (loss)
Per share $ (.22) $ (1.06) $ (.60) $ (1.40)
Diluted net income (loss) per share:
Weighted average shares of
common stock outstanding (1) 11,492 11,492 11,492 11,492
Effect of dilutive securities:
Restricted stock (2) (3) 0 0 0 0
Preferred stock, warrants
and stock options (2) (3) 0 0 0 0
Average shares of common
Stock outstanding including
dilutive securities 11,492 11,492 11,492 11,492
Diluted net income (loss)
Per share $ (.22) $ (1.06) $ (.60) $ (1.40)
(1) Includes shares issued and outstanding plus vested restricted stock.
(2) Calculated using the treasury stock method, including unearned
compensation of restricted stock as proceeds.
(3) Amounts are not included in the computation of diluted net income (loss)
per share because to do so would have been antidilutive.
<PAGE>
Item 2. Management's Discussion and Analysis of Financial Condition and Results
of Operations.
Liquidity and Capital Resources
The Company is highly leveraged with $21,301,740 in current debt
consisting of (i) the Debentures ($15,000,000) due December 21, 1998 and (ii)
$6,350,000 ($6,301,740 net to Garnet) in principal outstanding under the Chase
Loan to Argosy. Based on Argosy's year-end financial statements, Argosy has
determined that it is no longer in compliance with certain covenants required by
the finance agreement governing the Chase Loan. In the absence of a waiver of
such covenants, either OPIC or Chase would have the right to call a default
under the Chase Loan, accelerate payment of all outstanding amounts due
thereunder and realize upon the collateral securing the Chase Loan. Although
Argosy may apply for a waiver, given the Company's financial position and
negative working capital balance at June 30, 1998, no assurance can be given
that such waiver will be granted or continued. Under the terms of the Chase
Loan, the 75% of proceeds from Argosy's oil sales, which are paid in U.S.
dollars are deposited into an escrow account with Chase to secure payment of the
Chase Loan. Argosy is required to maintain a minimum balance in such escrow
account equal to six months of interest, principal and other fees due under the
Chase Loan. The escrow account minimum required balance at June 15th, 1998 was
$1,700,000 and the total account balance was $2,100,000. As previously stated,
Argosy was unable to pay the scheduled Chase Loan principal, interest and fees
due June 15th, 1998 from its operating accounts. Chase and OPIC therefore,
exercised their right to withdraw such amounts totaling $ 1,600,000 from the
escrow account and released $ 200,000 to Argosy, leaving a balance of $ 300,000
in the account. Revenues in U. S. dollar continue to be deposited into the
escrow account to bring the balance up to the required minimum as soon as
possible. Release of additional funds to Argosy will be at the sole discretion
of OPIC and Chase. No assurance can be given that OPIC and Chase will release
additional amounts sufficient to fund the Company's operations.
The Company was unable to pay the interest to the debenture holders due
March 31 and June 30, 1998 and the Company's financial forecasts indicate that,
assuming no changes in its capital structure, working capital and cash flow from
operations, the Company will not be able to pay Debenture interest due September
30, 1998 or pay principal and interest due under the Chase Loan on December 15,
1998 and maintain the minimum balance in the escrow account. The Company also
does not expect working capital and cash flow from operations to be sufficient
to repay the principal amount of the Debentures at maturity or earlier if the
Debenture holders call a default as a result of the non-payment of interest. The
Company must complete a restructuring transaction or renegotiate the terms of
the Debentures in order to avoid non-compliance with its obligations to pay the
Debentures. As a result, management believes there is substantial doubt about
the Company's ability to continue as a going concern. In the absence of a
business transaction or a restructuring of the Company's indebtedness, the
Company may seek protection from its creditors under the Federal Bankruptcy
Code.
In view of its operating losses and financial condition, the Company
initiated further cost containment programs in 1997 and 1998 including a 28%
reduction in its Colombian personnel and the termination of all U.S. personnel
other than Douglas W. Fry, the Chief Executive Officer, and Edgar L. Dyes, the
Chief Financial Officer and the closing of the Company executive office in
Houston. The Company also engaged Rauscher Pierce Refsnes, Inc. (now Dain
Rauscher) as a financial advisor to provide assistance in negotiating a business
combination or a debt restructuring transaction to address the Company's
liquidity issues. Although the Company engaged in comprehensive efforts,
including extensive negotiations with two separate candidates, the Company was
not successful in concluding a transaction. The Company, on June 24, 1998,
executed a definitive merger agreement to effect a business combination (see
Note 2), although no assurance can be given that the merger will be consummated.
It is anticipated that any future foreign exploration and development
activities will require substantial amounts of capital. If the Company is unable
to conclude a business combination or a debt restructuring transaction, the
Company will not have the resources to finance any further exploration or
development activity. Accordingly, there can be no assurance that any additional
exploration or development activities will be conducted, other than those
activities required to deplete the Company's existing proved reserves. The
present environment for financing the ongoing obligations of an oil and gas
business is uncertain due, in part, to the substantial instability in oil and
gas prices in recent years and to the volatility of financial markets. In
addition, the Company's ability to continue its exploration and development
programs may be dependent upon its joint venture partners' financing their
portion of such costs and expenses. There can be no assurance that the Company's
partners will contribute, or be in a position to contribute, their costs and
expenses of the joint venture programs. If the Company's partners cannot finance
their obligations to the joint ventures, the Company may be required to accept
an assignment of the partners' interests therein and assume their financing
obligations. If sufficient funds cannot be raised to meet the Company's
obligations in connection with its properties, the interests in such properties
might be sold or forfeited.
<PAGE>
On August 3, 1998, Colombian leftist guerrilla groups launched a
nationwide series of attacks. As a result of one attack, the Company's oil
production and storage facilities at the Mary field were damaged and minor
damage was inflicted on the Linda facilities. While it is too early to
accurately assess the cost of repairs, the Company does not believe the property
damage will exceed insurance limits. As of August 10, 1998, the Company's oil
production from the Linda and Toroyaco fields had been restored, however,
production from the Mary and Miraflor fields may be suspended or significantly
curtailed for at least several weeks and possibly longer depending on the extent
of damage and availability of repair crews.
As described herein, the Company's operations are primarily located
outside the United States. Although certain of such operations are conducted in
foreign currencies, the Company considers the U.S. dollar to be the functional
currency in most of the countries in which it operates. In addition, the Company
has no significant operations in countries with highly inflationary economies.
As a result, the Company's foreign currency transaction gains and losses have
not been significant. Exchange controls exist for the repatriation of funds from
Colombia and Papua New Guinea. The Company believes that the continuing
viability of its operations in these countries will not be affected by such
restrictions.
The foregoing discussion contains, in addition to historical
information, forward-looking statements. The forward-looking statements were
prepared on the basis of certain assumptions which relate, among other things,
to costs expected to be incurred in the development of the Company's properties,
the receipt of environmental and other necessary administrative permits required
for such development, future oil prices, future production rates, and the
ability to conclude a business combination or a debt restructuring transaction.
Even if the assumptions on which the projections are based prove accurate and
appropriate, the actual results of the Company's operations in the future may
vary widely from the financial projections due to unforeseen engineering,
mechanical or technological difficulties in drilling or working over wells,
regional political issues, general economic conditions, increased competition,
changes in government regulation or intervention in the oil and gas industry,
and other risks described herein. Accordingly, the actual results of the
Company's operations in the future may vary widely from the forward-looking
statements included herein.
Results of Operations
Three months and six months ended June 30, 1998
compared with the same period in 1997
The Company reported net losses of $2,503,176 ($.22 per share) and
$12,181,418 ($1.06 per share) for the three months ended June 30, 1998 and 1997,
respectively and $6,878,810 ($.60 per share) and $16,073,690 ($1.40 per share)
for the six months ended June 30, 1998 and 1997 respectively.
Oil and gas revenues continued to decline due to dramatically lower oil
prices and declining production rates. Lost revenues were partially offset by
decreased production expenses related to the expiration of Colombian production
taxes and lower transportation, handling and commercialization costs. Also the
company instituted major cost reduction programs at all levels of operations and
administration. The Company's comparative average daily sales volumes in barrels
of oil per day ("BOPD"), average sales prices and costs per barrel in Colombia
for such periods were as follows:
<PAGE>
Three Months Ended Six Months Ended
June 30, June 30,
1998 1997 1998 1997
------ ----- ---- ----
Average oil sales (BOPD) 833 1,439 924 1,550
Average oil price per barrel $10.61 $ 16.56 $ 11.53 $18.58
Production costs per barrel $ 6.26 $ 7.54 $ 6.46 $ 6.88
Depreciation, depletion and
amortization per barrel $ 4.58 $ 16.06 $ 5.22 $14.94
Net operating losses for the three month period ending June 30, 1998
increased from $858,000 to $2,503,000 as a result of a $1,645,000 write down of
oil and gas properties attributable to lower oil prices used in the calculation
of future net revenues. The Company's exploration and production activities are
accounted for under the full cost method. Under this method, all acquisition,
exploration and development costs, including certain related employee costs,
incurred for the purpose of finding oil and gas are capitalized. Capitalized
costs are limited to the sum of the present value of future net revenues
discounted at 10% related to estimated production of proved reserves and the
lower of cost or estimated fair value of unevaluated properties. If the net
capitalized costs of oil and gas properties in a cost center, exceed an amount
equal to the sum of the present value of estimated future net revenues from
proved oil and gas reserves in the cost center plus the costs of properties not
being amortized, both adjusted for income tax effects, such excess is charged to
expense. Corporate general and administrative expenses decreased by 23 %
compared to the same period in 1997 due to personnel reductions and austerity
measures taken in the last quarter of 1997 and the first half of 1998. Interest
expenses declined because of scheduled repayments of debt. The provision for
income taxes, all of which relates to Colombian operations, remained low due to
revisions in Colombian presumptive income calculations for tax purposes. The
corporate tax rate in Colombia is currently 35 % and is applied to the greater
of taxable or presumptive income.
Year 2000
The Company is currently utilizing accounting software in the United
States that is year 2000 compliant. Argosy Energy International, the Company's
subsidiary in Colombia, must upgrade it's systems however. An evaluation of
alternative solutions to the year 2000 problem is complete and a new management
information and accounting software package has been selected to upgrade the
system. Installation, conversion and implementation should take about six months
and is estimated to cost approximately $ 48,000.
New Accounting Pronouncements
The Company is assessing the reporting and disclosure requirements of SFAS No.
131, Disclosures about Segments of an Enterprise and Related Information. This
statement requires a public business enterprise to report financial and
descriptive information about its reportable operating segments. The statement
is effective for financial statements for periods beginning after December 15,
1997, but is not required for interim financial statements in the initial year
of its application. The Company will adopt the provisions of SFAS No. 131 in its
December 1998 consolidated financial statements.
The Company is also assessing the reporting and disclosure requirements
of SFAS No. 133, Accounting for Derivative Instruments and Hedging Activities.
This statement establishes accounting and reporting standards for derivative
instruments and hedging activities. The statement is effective for financial
statements for fiscal years beginning after June 15, 1999. The Company believes
SFAS No. 133 will not have a material impact on its financial statements or
accounting policies. The Company will adopt the provisions of SFAS No. 133 in
the first quarter of the year 2000.
<PAGE>
Item 6. Exhibits and Reports on Form 8-K.
(a) Exhibits
Item Exhibit
No. Item Title No.
(2) Agreement and Plan of Merger dated June 24, 1998,
by and among Aviva Petroleum Inc., Aviva Merger Inc.
and Garnet Resources Corporation (filed as exhibit 2.1
to Aviva Petroleum Inc. Registration Statement on Form
S-4, File No. 333-58061, and incorporated herein by
reference). *2.1
(27) Financial Data Schedule. **27.1
------------
* Previously Filed
** Filed Herewith
<PAGE>
(b) Reports on Form 8-K
The Company filed a From 8K on June 30, 1998. The Form 8K describes the
definitive agreement pursuant to which a wholly owned subsidiary of Aviva
Petroleum Inc. will be merged with and into the Company.
<PAGE>
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934,
the Registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
GARNET RESOURCES CORPORATION
Date: August 14, 1998 /s/ Edgar L. Dyes
-----------------
Edgar L. Dyes,
Vice President and Treasurer
(As both a duly authorized
officer of Registrant and as
principal financial officer
of Registrant
<TABLE> <S> <C>
<ARTICLE> 5
<LEGEND>
This schedule containes Summary Financial Information extracted from
consolidated condensed unaudited financial statements filed with the Company's
June 30, 1998 Quarterly Report on Form 10-QSB and is qualified in its entirety
by reference to such financial statements.
</LEGEND>
<CIK> 0000820084
<NAME> Garnet Resources Corporation
<MULTIPLIER> 1
<CURRENCY> U.S. Dollars
<S> <C>
<PERIOD-TYPE> 6-MOS
<FISCAL-YEAR-END> DEC-31-1998
<PERIOD-START> MAR-31-1998
<PERIOD-END> JUN-30-1998
<EXCHANGE-RATE> 1
<CASH> 748,841
<SECURITIES> 0
<RECEIVABLES> 459,477
<ALLOWANCES> 0
<INVENTORY> 435,311
<CURRENT-ASSETS> 2,047,484
<PP&E> 60,613,953
<DEPRECIATION> (54,166,983)
<TOTAL-ASSETS> 8,880,327
<CURRENT-LIABILITIES> 23,068,360
<BONDS> 0
0
0
<COMMON> 114,922
<OTHER-SE> (14,577,068)
<TOTAL-LIABILITY-AND-EQUITY> 8,880,327
<SALES> 1,928,267
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<CGS> 1,080,662
<TOTAL-COSTS> 1,080,662
<OTHER-EXPENSES> 878,576
<LOSS-PROVISION> 0
<INTEREST-EXPENSE> 1,118,329
<INCOME-PRETAX> (6,652,009)
<INCOME-TAX> 226,801
<INCOME-CONTINUING> (6,878,810)
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> (6,878,810)
<EPS-PRIMARY> (0.60)
<EPS-DILUTED> (0.60)
</TABLE>
