<PAGE> 1
AS FILED WITH THE SECURITIES AND EXCHANGE COMMISSION ON OCTOBER 14, 1998
REGISTRATION NO. 333-61403
================================================================================
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
---------------------------
PRE-EFFECTIVE AMENDMENT NO. 1
TO
FORM S-4
REGISTRATION STATEMENT
UNDER
THE SECURITIES ACT OF 1933
---------------------------
QUEEN SAND RESOURCES, INC.
QUEEN SAND RESOURCES, INC.
NORTHLAND OPERATING CO.
CORRIDA RESOURCES, INC.
(Exact name of registrant as specified in its charter)
<TABLE>
<S> <C> <C>
DELAWARE 1311 75-2615565
NEVADA 1311 75-2564071
NEVADA 1311 75-2593510
NEVADA 1311 75-2691594
(State or other jurisdiction of (Primary Standard Industrial (I.R.S. Employer
incorporation or organization) Classification Code Numbers) Identification Nos.)
</TABLE>
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3500 OAK LAWN, SUITE 380
DALLAS, TEXAS 75219-4398
(214) 521-9959
(214) 521-9960 (FAX)
(Address, including zip code, and telephone number, including
area code, of Registrants' principal executive offices)
---------------------------
ROBERT P. LINDSAY
CHIEF OPERATING OFFICER AND EXECUTIVE VICE PRESIDENT
QUEEN SAND RESOURCES, INC.
3500 OAK LAWN, SUITE 380
DALLAS, TEXAS 75219-4398
(214) 521-9959
(Name, address, including zip code, and telephone number,
including area code, of agent for service)
---------------------------
Copies to:
WILLIAM L. BOEING
HAYNES AND BOONE, L.L.P.
901 MAIN STREET, SUITE 3100
DALLAS, TEXAS 75202
(214) 651-5000
(214) 651-5940 (FAX)
---------------------------
APPROXIMATE DATE OF COMMENCEMENT OF PROPOSED SALE TO THE PUBLIC:
As soon as practicable after the effective date of this Registration Statement.
If any of the securities being registered on this Form are being
offered in connection with the formation of a holding company and there is
compliance with General Instruction G, check the following box. [ ]
If this Form is filed to register additional securities for an offering
pursuant to Rule 462(b) under the Securities Act, check the following box and
list the Securities Act registration statement number of the earlier effective
registration statement for the same offering. [ ]
If this Form is a post-effective amendment filed pursuant to Rule
462(d) under the Securities Act, check the following box and list the Securities
Act registration statement number of the earlier effective registration
statement for the same offering. [ ]
THE REGISTRANTS HEREBY AMEND THIS REGISTRATION STATEMENT ON SUCH DATE
OR DATES AS MAY BE NECESSARY TO DELAY ITS EFFECTIVE DATE UNTIL THE REGISTRANTS
SHALL FILE A FURTHER AMENDMENT WHICH SPECIFICALLY STATES THAT THIS REGISTRATION
STATEMENT SHALL THEREAFTER BECOME EFFECTIVE IN ACCORDANCE WITH SECTION 8(a) OF
THE SECURITIES ACT OF 1933 OR UNTIL THE REGISTRATION STATEMENT SHALL BECOME
EFFECTIVE ON SUCH DATE AS THE COMMISSION, ACTING PURSUANT TO SAID SECTION 8(a),
MAY DETERMINE.
================================================================================
<PAGE> 2
PROSPECTUS
OCTOBER 14, 1998
OFFER TO EXCHANGE
12 1/2% SENIOR NOTES DUE 2008
FOR ALL OUTSTANDING 12 1/2% SENIOR NOTES DUE 2008
OF
QUEEN SAND RESOURCES, INC.
--------------------
THE EXCHANGE OFFER WILL EXPIRE AT 5:00 P.M., NEW YORK CITY TIME, ON
NOVEMBER 18, 1998 UNLESS EXTENDED.
Queen Sand Resources, Inc., a Delaware corporation ("Queen Sand
Resources" and, together with its subsidiaries, the "Company") is offering upon
the terms and subject to the conditions set forth in this Prospectus and the
accompanying letter of transmittal (the "Letter of Transmittal") (which together
constitute the "Exchange Offer") to exchange $1,000 principal amount of its new
12 1/2% Senior Notes due 2008 (the "New Notes") for each $1,000 principal amount
of its outstanding 12 1/2% Senior Notes due 2008 (the "Old Notes") in the
aggregate principal amount of $125 million. The form and terms of the New Notes
are identical to the form and terms of the Old Notes, except that the Old Notes
were offered and sold in reliance upon certain exemptions from registration
under the Securities Act of 1933, as amended (the "Securities Act"), while the
offering and sale of the New Notes in exchange for the Old Notes has been
registered under the Securities Act, with the result that the New Notes will not
bear any legends restricting their transfer. The New Notes will evidence the
same indebtedness as the Old Notes and will be issued pursuant to, and entitled
to the benefits of, the indenture among the Company, certain direct and indirect
wholly owned subsidiaries of the Company and the Trustee (defined herein)
thereunder, dated as of July 1, 1998 (the "Indenture"), governing the Old Notes.
The Exchange Offer is being made in order to satisfy certain contractual
obligations of the Company. See "The Exchange Offer" and "Description of Notes."
The New Notes and the Old Notes are sometimes collectively referred to herein as
the "Notes."
The New Notes will bear interest from the date of issuance of the Old
Notes at a rate per annum of 12 1/2%. Interest on the New Notes will be payable
in cash, semiannually on each January 1 and July 1, commencing January 1, 1999.
No interest will be paid on Old Notes which are exchanged for New Notes, and
holders of Old Notes which are exchanged for New Notes will be deemed to have
waived the right to receive interest accrued thereon to the date of exchange.
The Notes are redeemable at the option of the Company, in whole or in
part, at any time on or after July 1, 2003, at the redemption prices set forth
herein, plus accrued and unpaid interest and Liquidated Damages (defined
herein), if any, to the date of redemption. Furthermore, prior to July 1, 2001,
up to 20% of the aggregate principal amount of the Notes originally issued may
be redeemed from time to time at the option of the Company, in whole or in part,
at 112.5% of the principal amount thereof, plus accrued and unpaid interest and
Liquidated Damages, if any, to the date of redemption with the net cash proceeds
of one or more Equity Offerings (defined herein); provided that at least 80% of
the aggregate principal amount of the Notes originally issued remains
outstanding immediately after each such redemption. Upon the occurrence of a
Change of Control (defined herein), the Company will be required to make an
offer to purchase the Notes at a purchase price equal to 101% of the principal
amount thereof, plus accrued and unpaid interest and Liquidated Damages, if any,
to the date of purchase. See "Description of Notes."
The New Notes will be senior unsecured obligations of the Company. The
New Notes will rank pari passu with any existing and future unsubordinated
indebtedness of the Company, but will be effectively subordinated to the rights
of holders of secured unsubordinated indebtedness of the Company to the extent
of the value of the collateral securing such indebtedness. The New Notes will
rank senior to all unsecured subordinated indebtedness of the Company. The New
Notes will be jointly, severally and unconditionally guaranteed (the "Subsidiary
Guarantees") by each of the existing and future Restricted Subsidiaries (defined
herein) of the Company (the "Subsidiary Guarantors"). The Subsidiary Guarantees
will be senior unsecured obligations of the Subsidiary Guarantors and will rank
pari passu with any existing and future unsubordinated indebtedness of the
Subsidiary Guarantors, but will be effectively subordinated to the rights of
holders of secured unsubordinated indebtedness of the Subsidiary Guarantors to
the extent of the value of the collateral securing such indebtedness. As of June
30, 1998, on a pro forma basis after giving effect to the Offerings (defined
herein) and the application of the net proceeds therefrom, there would have been
approximately $10.3 million of unsubordinated indebtedness for money borrowed by
the Company and the Subsidiary Guarantors, all of which was secured
indebtedness, and approximately $6.8 million of general unsecured trade
indebtedness and other liabilities of the Company and the Subsidiary Guarantors
(excluding approximately $24.7 million of available borrowings and letters of
credit under the Company's credit facilities). The Indenture governing the Notes
will limit the ability of the Company and the Subsidiary Guarantors to incur
additional Indebtedness. See "Use of Proceeds," "Capitalization," "Description
of Other Indebtedness" and "Description of Notes."
The Company and the Subsidiary Guarantors have agreed to file by
September 5, 1998, and cause to become effective by November 4, 1998, the
Registration Statement of which this Prospectus is a part relating to an
exchange offer for the Notes, or, in lieu thereof, to file and cause to become
effective a resale shelf registration statement for the Notes. If such exchange
offer or shelf registration statement is not filed or is not declared effective,
or if such exchange offer is not consummated, within the time periods set forth
herein, Liquidated Damages will accrue and be payable on the Notes until such
registration or consummation. See "Exchange Offer; Registration Rights."
The Company will accept for exchange any and all validly tendered Old
Notes on or before 5:00 p.m., New York City time, on November 18, 1998, unless
extended (the "Expiration Date"). Tenders of Old Notes may be withdrawn at any
time before 5:00 p.m., New York City time, on the Expiration Date, but after
that time are irrevocable. Harris Trust and Savings Bank will act as Exchange
Agent in connection with the Exchange Offer. The Exchange Offer is not
conditioned on any minimum principal amount of Old Notes being tendered for
exchange, but is otherwise subject to certain customary conditions.
SEE "RISK FACTORS," BEGINNING ON PAGE 17, FOR A DISCUSSION OF CERTAIN
FACTORS THAT HOLDERS SHOULD CONSIDER IN CONNECTION WITH THE EXCHANGE OFFER AND
AN INVESTMENT IN THE EXCHANGE NOTES.
---------------------
THESE SECURITIES HAVE NOT BEEN APPROVED OR DISAPPROVED BY THE SECURITIES AND
EXCHANGE COMMISSION OR ANY STATE SECURITIES COMMISSION NOR HAS THE SECURITIES
AND EXCHANGE COMMISSION OR ANY STATE SECURITIES COMMISSION PASSED UPON THE
ACCURACY OR ADEQUACY OF THIS PROSPECTUS. ANY REPRESENTATION TO THE CONTRARY IS A
CRIMINAL OFFENSE.
---------------------
<PAGE> 3
The Old Notes were sold by the Company on July 8, 1998, to Nesbitt Burns
Securities Inc., CIBC Oppenheimer Corp. and Societe Generale Securities
Corporation (the "Placement Agents") in a transaction not registered under the
Securities Act in reliance on the exemptions under the Securities Act. The
Placement Agents subsequently placed the Old Notes with qualified institutional
buyers in reliance on Rule 144A under the Securities Act and to certain
institutional accredited investors. Accordingly, the Old Notes may not be
reoffered, resold or otherwise transferred in the United States unless
registered or unless an applicable exemption from the registration requirements
of the Securities Act is available. The New Notes are being offered hereunder in
order to satisfy the obligations of the Company under a Registration Rights
Agreement entered into among the Company, the Subsidiary Guarantors of the Notes
and the Placement Agents (the "Registration Rights Agreement"). See "The
Exchange Offer."
Based on an interpretation by the staff of the Securities and Exchange
Commission (the "Commission" or the "SEC") set forth in no-action letters issued
to third parties unrelated to the Company, the Company believes that the New
Notes issued pursuant to this Exchange Offer may be offered for resale, resold
and otherwise transferred by a holder thereof who is not an "affiliate" of the
Company or any Guarantor within the meaning of Rule 405 under the Securities
Act, without compliance with the registration and prospectus delivery provisions
of the Securities Act, provided that the holder is acquiring the New Notes in
the ordinary course of its business and is not participating in and has no
arrangement or understanding with any person to participate in the distribution
(within the meaning of the Securities Act) of the New Notes. Persons wishing to
exchange Old Notes in the Exchange Offer must represent to the Company that
these conditions have been met.
Each broker-dealer that receives New Notes for its own account pursuant to
the Exchange Offer must acknowledge that it will deliver a prospectus in
connection with any resale of such New Notes. The Letter of Transmittal states
that by so acknowledging and by delivering a prospectus, a broker-dealer will
not be deemed to admit that it is an "underwriter" within the meaning of the
Securities Act. This Prospectus, as it may be amended or supplemented from time
to time, may be used by a broker-dealer in connection with resales of New Notes
received in exchange for Old Notes where such New Notes were acquired by such
broker-dealer as a result of market-making activities or other trading
activities. The Company has agreed that, starting on the Expiration Date
(defined herein) and ending on the close of business on the first anniversary of
the Expiration Date, it will make this Prospectus available to any broker-dealer
for use in connection with any such resale. See "Plan of Distribution."
The Old Notes are currently eligible for trading in the Private Offerings,
Resales and Trading through Automated Linkages (PORTAL) market. The Company
expects the New Notes will be eligible for trading in the Private Offerings,
Resales and Trading through Automated Linkages (PORTAL) market upon issuance.
The Company does not intend to list the New Notes on any national securities
exchange or to seek the admission thereof to trading in the National Association
of Securities Dealers Automated Quotation System. The Placement Agents have
advised the Company that they intend to make a market in the New Notes; however,
they are not obligated to do so and any market-making may be discontinued at any
time without notice. Accordingly, no assurance can be given that an active
public or other market will develop for the New Notes or as to the liquidity of
or the trading market for the New Notes.
Any Old Notes not tendered and accepted in the Exchange Offer will remain
outstanding. To the extent that any Old Notes are tendered and accepted in the
Exchange Offer, a holder's ability to sell untendered Old Notes could be
adversely affected. Following consummation of the Exchange Offer, the holders of
Old Notes will continue to be subject to the existing restrictions on transfer
thereof.
THE EXCHANGE OFFER IS NOT BEING MADE TO, NOR WILL THE COMPANY ACCEPT
SURRENDERS FOR EXCHANGE FROM, HOLDERS OF PRIVATE NOTES IN ANY JURISDICTION IN
WHICH THE EXCHANGE OFFER OR THE ACCEPTANCE THEREOF WOULD NOT BE IN COMPLIANCE
WITH THE SECURITIES OR BLUE SKY LAWS OF SUCH JURISDICTION.
NO PERSON IS AUTHORIZED IN CONNECTION WITH THE EXCHANGE OFFER TO GIVE ANY
INFORMATION OR TO MAKE ANY REPRESENTATION NOT CONTAINED IN THIS PROSPECTUS OR
THE ACCOMPANYING LETTER OF TRANSMITTAL, AND, IF GIVEN OR MADE, SUCH INFORMATION
OR REPRESENTATION MUST NOT BE RELIED UPON AS HAVING BEEN AUTHORIZED BY THE
COMPANY. NEITHER THE DELIVERY OF THIS PROSPECTUS OR THE ACCOMPANYING LETTER OF
TRANSMITTAL, NOR ANY EXCHANGE MADE HEREUNDER SHALL UNDER ANY CIRCUMSTANCES
CREATE ANY IMPLICATION THAT THE INFORMATION CONTAINED HEREIN IS CORRECT AS OF
ANY DATE SUBSEQUENT TO THE DATE HEREOF.
2
<PAGE> 4
The Company expects that the New Notes issued pursuant to this Exchange
Offer will be issued in the form of one or more permanent global notes (the
"Global New Notes"), which will be deposited with, or on behalf of, The
Depository Trust Company ("DTC") and registered in its name or in the name of
its nominee. Beneficial interests in the Global New Notes representing the New
Notes will be shown on, and transfers thereof will be effected through, records
maintained by DTC and its participants. After the initial issuance of the Global
New Notes, New Notes in certificated form will be issued in exchange for the
Global New Notes on the terms set forth in the Indenture. See "Description of
Notes -- Book Entry; Delivery and Form."
3
<PAGE> 5
AVAILABLE INFORMATION
The Company is subject to the informational requirements of the Securities
Exchange Act of 1934, as amended (the "Exchange Act"). In accordance with the
Exchange Act, the Company files reports, proxy statements and other information
with the Commission. The reports, proxy statements and other information can be
inspected and copied at the public reference facilities that the Commission
maintains at Room 1024, 450 Fifth Street, N.W., Washington, D.C. 20549, and at
the Commission's regional offices located at 7 World Trade Center, 13th Floor,
New York, New York 10048, and Suite 1400, 500 West Madison Street, Chicago,
Illinois 60661. Copies of these materials can be obtained at prescribed rates
from the Public Reference Section of the Commission at the principal offices of
the Commission, 450 Fifth Street, N.W., Washington, D.C. 20549. The Commission
also maintains a Web site at http: //www.sec.gov containing reports, proxy and
information statements and other information regarding registrants, including
the Company, that file electronically with the Commission. In addition, the
Common Stock, par value $0.0015 per share (the "Common Stock"), of the Company
is traded on the Nasdaq SmallCap Market under the symbol "QSRI" and reports,
proxy statements and other information concerning the Company can be inspected
and copied at the offices of the National Association of Securities Dealers,
Inc., 1735 K Street, N.W., Washington, D.C. 20006.
Pursuant to the Indenture, the Company has agreed that, to the extent such
filings are accepted by the Commission and whether or not it has a class of
securities registered under the Exchange Act, it will file the annual reports,
quarterly reports and other documents that the Company would be required to file
if it were subject to Section 13 or 15 of the Exchange Act, in each case on or
before the dates on which such reports and other documents would have been
required to have been filed with the Commission if the Company had been subject
to Section 13 or 15 of the Exchange Act. The Company will also be required (i)
to file with the Trustee (with exhibits), and to provide to each holder of Notes
(without exhibits), without cost to such holder, copies of such reports and
documents within 15 days after the date on which the Company files such report
and documents with the Commission or the date on which the Company would be
required to file such reports and documents if the Company were so required and
(ii) if filing such reports and documents with the Commission is not accepted by
the Commission or is prohibited under the Exchange Act, to supply at its cost
copies of such reports and documents (including any exhibits thereto) to any
holder of Notes promptly upon written request.
This Prospectus contains summaries believed to be accurate with respect to
certain terms of certain documents, but reference is made to the actual
documents, including the Indenture governing the Notes and the Registration
Rights Agreement (copies of which will be made available by the Company to
holders upon request), for complete information with respect thereto, and all
such summaries are qualified in their entirety by such reference.
INCORPORATION OF CERTAIN DOCUMENTS BY REFERENCE
The following documents, which have been filed by the Company with the
Commission pursuant to the Exchange Act, are hereby incorporated by reference in
this Prospectus: (i) Annual Report on Form 10-KSB for the fiscal year ended June
30, 1998, (ii) Current Report on Form 8-K dated March 19, 1998, as amended by
Current Report on Form 8-K/A-2 filed June 8, 1998, (iii) Current Report on Form
8-K dated July 8, 1998, as amended by Current Report on Form 8-K/A-1 filed
September 4, 1998 and (iv) the Pro Forma Combined Condensed Financial Statements
(unaudited) and the Financial Statements of Business Acquired in respect of
properties acquired from Collins and Ware, Inc. contained in the Company's
Annual Report on Form 10-KSB for the fiscal year ended June 30, 1997, as amended
by Annual Report on Form 10-KSB/A filed April 23, 1998.
All documents filed by the Company pursuant to Sections 13(a), 13(c), 14 or
15(d) of the Exchange Act subsequent to the date of this Prospectus and prior to
the termination of the Exchange Offer made hereby shall be deemed to be
incorporated by reference herein. Any statement contained in a document
incorporated or deemed to be incorporated by reference herein shall be deemed
superseded or modified for purposes of this Prospectus to the extent that a
statement contained herein (or in any other subsequently filed document which
also is incorporated by reference herein) modifies or supersedes such statement.
Any such statement so modified or superseded shall not be deemed, except as so
modified or superseded, to constitute a part of this Prospectus.
The Company will provide without charge to each person, including any
beneficial owner, to whom this Prospectus is delivered, on the written or oral
request of any such person, a copy of any or all of the documents
4
<PAGE> 6
incorporated by reference (other than exhibits to such documents which are not
specifically incorporated by reference in such documents) or described herein.
Written requests for such copies should be directed to the Company, 3500 Oak
Lawn, Suite 380, Dallas, Texas 75219-4398, Attention: Corporate Secretary.
Telephone requests may be directed to William W. Lesikar, Vice
President-Finance, of the Company, at (214) 521-9959.
FORWARD-LOOKING STATEMENTS
This Prospectus includes "forward-looking statements" within the meaning of
Section 27A of the Securities Act and Section 21E of the Exchange Act, which can
be identified by the use of forward-looking terminology such as, "may,"
"believe," "expect," "intend," "plan," "seek," "anticipate," "estimate" or
"continue" or the negative thereof or other variations thereon or comparable
terminology. All statements other than statements of historical fact included in
this Prospectus, including without limitation, the statements under "Business"
and "Management's Discussion and Analysis of Financial Condition and Results of
Operations" and located elsewhere herein regarding the financial position and
liquidity of the Company, the volume or discounted present value of its oil and
natural gas reserves, its ability to service its indebtedness, its strategic
plans including its ability to locate and complete acquisitions of, and to
develop, oil and natural gas assets and other matters, are forward-looking
statements. Although the Company believes that the expectations reflected in
such forward-looking statements are reasonable, it can give no assurance that
such expectations will prove to have been correct. Important factors with
respect to any such forward-looking statements, including certain risks and
uncertainties that could cause actual results to differ materially from the
Company's expectations ("Cautionary Statements") are disclosed in this
Prospectus, including, without limitation, in conjunction with the
forward-looking statements included in this Prospectus. Important factors that
could cause actual results to differ materially from those in the
forward-looking statements herein include, but are not limited to, the timing
and extent of changes in commodity prices for oil and natural gas, the need to
develop and replace reserves, environmental risks, drilling and operating risks,
risks related to exploitation and development, uncertainties about the estimates
of reserves, competition, government regulation and the ability of the Company
to meet its stated business goals. All subsequent written and oral
forward-looking statements attributable to the Company or persons acting on its
behalf are expressly qualified in their entirety by the Cautionary Statements.
5
<PAGE> 7
SUMMARY
The following summary is qualified in its entirety by the more detailed
information and financial statements (including the notes thereto) and pro forma
condensed consolidated financial information appearing elsewhere in this
Prospectus. This Exchange Offer is being conducted pursuant to contractual
obligations of the Company to the Placement Agents arising from the offering of
the Old Notes (the "Old Note Offering"), which was consummated on July 8, 1998.
The Company also completed a private placement of Common Stock by the Company
with gross proceeds to the Company of $32.5 million (the "Private Equity
Placement" and, together with the Note Offering, the "Offerings"). Except as
otherwise indicated, each reference herein to "pro forma" or "pro forma basis"
shall mean that the results for the stated period or other data have been
adjusted to reflect (i) the Morgan Property Acquisition (defined herein),(ii)
the NASGAS Property Acquisition (defined herein), (iii) the Collins and Ware
Property Acquisition (defined herein) (together with the Morgan Property
Acquisition and the NASGAS Property Acquisition, the "Property Acquisitions"),
(iv) the Offerings and the application of the net proceeds therefrom, and (v)
the termination of a $125.0 million LIBOR interest rate swap agreement at a cost
to the Company of approximately $3.5 million. Certain oil and natural gas terms
used in this Prospectus are defined in the "Glossary" included herein. Certain
terms used in connection with the Notes are defined under the caption
"Description of Notes -- Certain Definitions." As used herein, references to the
"Company" are to Queen Sand Resources, Inc., a Delaware corporation ("Queen Sand
Resources"), and its subsidiaries.
THE COMPANY
Queen Sand Resources is an independent energy company which emphasizes
growth in oil and natural gas reserves and production volumes through the
acquisition, exploitation and development of on-shore oil and natural gas
properties located in the United States. Since August 1994 through the date of
this Prospectus, the Company has grown primarily through 19 acquisitions of oil
and natural gas properties for aggregate consideration of approximately $166.7
million. As a result of the Company's activities to date, it has assembled a
geographically and geologically diverse property base, characterized by
long-lived production and multiple opportunities for further development,
exploitation and exploration. For the year ended June 30, 1998, the Company had
revenues of $10.9 million and earnings before interest, taxes, depreciation,
depletion and amortization ("EBITDA") of $4.1 million. For the year ended June
30, 1998, on a pro forma basis, the Company had revenues of $34.6 million and
EBITDA of $ 26.9 million. As of August 31, 1998, the officers and directors of
the Company collectively had a beneficial interest in or had a proxy for
approximately 20.1% of the Company's voting capital stock, and Joint Energy
Development Investments Limited Partnership ("JEDI"), an affiliate of Enron
Corp. ("Enron"), beneficially owned approximately 33.0% of the Company's voting
capital stock.
The Company's objective is to increase its reserves, production, earnings,
cash flow and net asset value through a growth strategy that seeks to maintain a
diversified portfolio of oil and natural gas reserves with stable production and
operating characteristics. The Company seeks to achieve this objective through a
balanced mix of oil and natural gas property acquisitions coupled with the
development and exploitation of its reserve base. The Company evaluates
potential acquisition properties based on their particular impact upon the
Company's portfolio of reserves. The Company focuses on low reserve replacement
costs, long reserve life, an inventory of attractive development and
exploitation projects, and the potential for reserve and production growth. For
instance, in the April 1998 Morgan Property Acquisition, the Company acquired
certain oil and natural gas property interests representing proved reserves of
149.5 Bcfe, of which 76% was classified as proved developed producing. This
acquisition provided the Company with stable, long-lived production and cash
flow to develop and exploit its inventory of non-producing reserves. In the
March 1998 NASGAS Property Acquisition, the Company acquired certain natural gas
properties with attractive development potential and approximately 36.8 Bcfe of
proved reserves, of which 91% was classified as non-producing. The Company
intends to fully develop these reserves by drilling primarily low-risk
development wells. In aggregate, the Company has currently identified over 252
potential development locations and exploitation projects on its properties. The
Company currently plans to spend approximately $17 million through June 30, 1999
to further develop and exploit its existing properties.
At June 30, 1998, the Company had interests in 1,003 (inclusive of 69
service wells), proved reserves of 176 Bcf of natural gas and 7.9 MMBbls of oil
(aggregating approximately 224 Bcfe) with a SEC PV-10 of $165 million, and a
Reserve Life Index of 12 years. Approximately 69% of the Company's reserves was
classified as proved developed producing and approximately 79% of the Company's
total proved reserves was natural gas. The Company's average daily net
production was 47.7 MMcfe basis for the month of June 1998.
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<PAGE> 8
The Company's properties are diversified across 114 producing fields which
are located principally in the southwestern United States. The Company's
interests in the Gilmer Field in East Texas, the J.C. Martin and the
Lopeno/Volpe Fields in South Texas, the Meade Field in Kentucky and the Caprock
Field in New Mexico represent approximately 62% of its proved reserves (on a SEC
PV-10 basis) as of June 30, 1998. In addition, the Company has substantial
properties in Oklahoma and Louisiana. At June 30, 1998, the Company held
interests in leases covering approximately 259,016 gross (121,129 net) acres.
BUSINESS STRATEGY
The Company's strategy is to increase its reserves, production, earnings,
cash flow and net asset value by (i) acquiring strategic oil and natural gas
properties in a disciplined manner, (ii) developing, exploiting and exploring
its properties, (iii) achieving low operating costs and (iv) maintaining
financial flexibility.
o Strategic Acquisitions. The Company has a successful track record of
increasing its reserves through acquisitions, having added an estimated
257.4 Bcfe of proved reserves from 19 acquisitions for aggregate
consideration of $166.7 million or $0.65 per Mcfe since commencing
operations in August 1994 through the date of this Prospectus. The
Company seeks to expand its diversified, long-lived portfolio of oil
and natural gas properties by acquiring producing properties with (i)
identified development and exploitation potential, (ii) controlled-risk
exploration potential, (iii) historically low operating expenses, or
the opportunity to reduce operating expenses, and (iv) geological,
geophysical and other technical and operating characteristics with
which management of the Company has expertise. The Company applies
strict economic and reserve risk criteria in evaluating acquisitions of
oil and natural gas properties.
o Development, Exploitation and Exploration. The Company seeks to
maximize the value and cash flow of its oil and natural gas properties
through development drilling, workovers, recompletions, enhanced
recovery techniques and reductions in operating costs. The Company has
identified over 252 potential development locations and exploitation
projects on its existing portfolio of properties. The Company currently
plans to spend approximately $12 million to drill or participate in the
drilling of approximately 118 wells through June 30, 1999. The Company
also continually evaluates and pursues exploitation opportunities,
including workover and recompletion projects. The Company expects to
spend approximately $5 million on these exploitation projects through
June 30, 1999. Although the Company could increase its exploration
drilling activity in the future, its current strategy includes only
limited investments in exploratory projects.
o Low Operating Costs. The Company's goal is to achieve a lower operating
expense on a per unit (Mcfe) basis than that of its peers. The Company
is pursuing this objective by emphasizing cost controls in its field
operating expenses and acquiring properties with low operating costs
while increasing existing production through development drilling and
effective workover and well maintenance programs. Through these
efforts, the Company has reduced lease operating expenses from $1.52
per Mcfe during the year ended June 30, 1997 to $1.07 per Mcfe for the
year ended June 30, 1998.
o Financial Flexibility. The Company is committed to maintaining
financial flexibility, which management believes is important for the
successful implementation of its growth strategy. In implementing this
strategy, the Company intends to continue using a mixture of debt and
equity. Consistent with this financial strategy, the Company raised an
aggregate of approximately $65.2 million in equity capital from August
9, 1994 through June 30, 1998. On July 8, 1998 and July 20, 1998 the
Company issued an aggregate of 3,428,574 shares of Common Stock for $24
million cash and two holders of warrants exercised their warrants and
certain maintenance rights to purchase an aggregate of 3,074,236 shares
of stock for an aggregate exercise and purchase price of $8.5 million.
As of August 31, 1998, the Company had approximately $14.7 million
available under its Amended and Restated Credit Agreement (the "Credit
Agreement") and $10.0 million available under its revolving credit
facility (the "ECT Revolving Credit Agreement") with Enron Capital &
Trade Resources Corp. ("ECT"). See "Description of Other Indebtedness."
In general, the Company strives to maintain a balanced asset/liability
management program by matching long-lived reserves with extended
maturity liabilities. Furthermore, the Company seeks to mitigate the
effect of decreases in commodity prices by utilizing hedging
instruments. The Company has also entered into, and may in the future
utilize, interest rate hedges.
7
<PAGE> 9
RECENT PROPERTY ACQUISITIONS
Morgan Property Acquisition
On April 20, 1998, the Company acquired various non-operated, net profits
interests ("NPIs") and royalty interests revenues ("RIs"; together with the
NPIs, the "Morgan Properties") for gross cash consideration of $150.0 million
(net consideration of approximately $137.9 million after adjustments for net
profits interests and royalty interests revenues and capital expenditures since
October 1, 1997, the effective date of the purchase) from pension funds managed
by J.P. Morgan Investments (the "Morgan Property Acquisition"). The Morgan
Property Acquisition was financed with borrowings under the Credit Agreement and
two subordinated bridge credit facilities (the "Debt Bridge Facility" and the
"Equity Bridge Facility" and collectively, the "Bridge Facilities") arranged by
Bank of Montreal. The oil and natural gas properties burdened by the Morgan
Properties (collectively, the "Underlying Properties") are primarily located in
East Texas, South Texas and the mid-continent region of the United States.
According to Ryder Scott Company ("Ryder Scott"), independent petroleum
engineers, as of June 30, 1998, the Morgan Properties contained proved reserves
of 116 Bcf of natural gas and 3.4 MMBbls of oil (aggregating 137 Bcfe), of which
approximately 77% was classified as proved developed producing. The Morgan
Properties had a SEC PV-10 of $119 million as of June 30, 1998. The Company
estimates that as of the effective date of the Morgan Property Acquisition, the
proved reserves attributed to the Morgan Properties were 149.5 Bcfe.
The Company believes that the Morgan Property Acquisition provides it with
certain benefits, including (i) the enhancement of the Company's portfolio of
high quality reserves with long production histories and low operating costs,
(ii) additional cash flow to fund development and exploitation projects, (iii)
the enhancement of its operational base to grow through further acquisitions,
(iv) significant additional development and exploitation opportunities and (v)
additional geographic core concentration of the Company's existing properties
and operational capabilities. Although the Company did not directly acquire
working interests in the wells located on the Underlying Properties, the Company
believes that its significant interests in certain key Underlying Properties
will enable the Company to influence the timing and manner of development and
exploitation of such key properties.
NASGAS Property Acquisition
On March 9, 1998 (with an effective date of January 1, 1998), the Company
purchased certain operated natural gas properties in western Kentucky for net
cash consideration of $450,000 and 337,500 shares of the Company's Common Stock
(the "NASGAS Property Acquisition"). The acquired properties are comprised of
interests in 21 gross wells (12.6 net) and 61,421 gross acres (36,858 net) (the
"NASGAS Properties"). According to H.J. Gruy and Associates, Inc. ("H.J. Gruy"),
independent petroleum engineers, the proved reserves attributed to the NASGAS
Properties as of June 30, 1998, were 36.7 Bcf, 100% of which was natural gas,
and 8% proved developed producing, with a SEC PV-10 of $9.4 million. The Company
believes the NASGAS Property Acquisition provides it with certain benefits,
including a large inventory of low-cost, low-risk development drilling
opportunities.
Collins and Ware Property Acquisition
On August 1, 1997, the Company purchased certain operated oil and natural
gas properties for cash consideration (net of production subsequent to the
February 1, 1997 effective date) of approximately $6.0 million and 1,000,000
shares of the Company's Common Stock (the "Collins and Ware Property
Acquisition"). The acquired properties were comprised of interests in 77 gross
(12.4 net) wells located in New Mexico, Texas and Oklahoma (the "Collins and
Ware Properties"). According to H.J. Gruy, the proved reserves attributed to the
Collins and Ware Properties as of June 30, 1998, were 6.6 Bcfe, 19% of which was
natural gas, and 74% proved developed producing, with a SEC PV-10 of $5.6
million. The Company estimates that as of February 1, 1997, the proved reserves
attributed to the Collins and Ware Properties were 7.3 Bcfe.
8
<PAGE> 10
THE OLD NOTE OFFERING
THE OLD NOTES................................... The Old Notes were sold by the
Company on July 8, 1998 to the
Placement Agents pursuant to a
Purchase Agreement. The
Placement Agents resold the Old
Notes to qualified
institutional buyers pursuant
to Rule 144A under the
Securities Act and to certain
institutional accredited
investors.
REGISTRATION RIGHTS AGREEMENT................... In connection with the Old Note
Offering, the Company entered
into a Registration Rights
Agreement with the Placement
Agents which grants the holders
of the Old Notes certain
registration rights. The
Exchange Offer is intended to
satisfy such rights, which
terminate upon consummation of
the Exchange Offer. If
applicable law or applicable
interpretations of the staff of
the Commission do not permit
the Company to effect the
Exchange Offer, or in certain
other circumstances, the
Company has agreed to file a
shelf registration statement
covering resales of Registrable
Securities (as defined in the
Registration Rights Agreement).
THE EXCHANGE OFFER
The Exchange Offer applies to the entire $125 million aggregate principal
amount of the Old Notes. The form and terms of the New Notes are identical to
the form and terms of the Old Notes, except that the Old Notes were offered and
sold in reliance upon certain exemptions from registration under the Securities
Act, while the offering and sale of the New Notes in exchange for the Old Notes
has been registered under the Securities Act, with the result that the New Notes
will not bear any legends restricting their transfer. See "Description of
Notes."
THE EXCHANGE OFFER.............................. The Company is hereby offering
to exchange $1,000 principal
amount of New Notes for each
$1,000 principal amount of Old
Notes that are properly
tendered and accepted. As of
the date hereof, Old Notes
representing an aggregate
principal amount of $125
million are outstanding. Based
on an interpretation by the
Commission's staff set forth in
no-action letters issued to
third parties unrelated to the
Company, the Company believes
that the New Notes issued
pursuant to this Exchange Offer
may be offered for resale,
resold and otherwise
transferred by a holder thereof
who is not an "affiliate" of
the Company or any Guarantor
within the meaning of Rule 405
under the Securities Act,
without compliance with the
registration and prospectus
delivery provisions of the
Securities Act, provided that
the holder is acquiring the New
Notes in the ordinary course of
its business and is not
participating in and has no
arrangement or understanding
with any person to participate
in the distribution (within the
meaning of the Securities Act)
of the New Notes. Persons
wishing to exchange Old Notes
in the Exchange Offer must
represent to the Company that
these conditions have been met.
The Company has not sought, and
does not intend to seek, its
own no-action letter, and there
can be no assurance that the
Commission's staff would make a
similar determination with
respect to this Exchange Offer.
Each broker-dealer that
receives New Notes for its own
account in exchange for Old
Notes, where the Old Notes were
acquired by that broker-dealer
as a result of its
market-making activities or
other trading activities, must
acknowledge that it will
deliver a prospectus in
connection with any resale of
such New Notes. See "The
Exchange Offer -- Purpose and
Effect" and "Plan of
Distribution."
9
<PAGE> 11
EXPIRATION DATE................................. The Exchange Offer will expire
at 5:00 p.m., New York City
time, on November 18, 1998,
unless the Exchange Offer is
extended by the Company in its
sole discretion, in which case,
the term "Expiration Date"
shall mean the latest date and
time to which the Exchange
Offer is extended.
WITHDRAWAL RIGHTS............................... The tender of Old Notes
pursuant to the Exchange Offer
may be withdrawn at any time
prior to 5:00 p.m., New York
City time, on the Expiration
Date. Any Old Notes not
accepted for exchange for any
reason will be returned without
expense to the tendering holder
thereof as promptly as
practicable after the
expiration or termination of
the Exchange Offer.
INTEREST ON THE NEW NOTES AND OLD NOTES......... Interest on each
New Note will accrue from the
date of issuance of the Old
Note for which the New Note is
exchanged. No interest will be
paid on Old Notes which are
exchanged for New Notes, and
holders of Old Notes which are
exchanged for New Notes will be
deemed to have waived the right
to receive interest accrued
thereon to the date of
exchange.
CONDITIONS TO THE EXCHANGE OFFER................ The Exchange Offer is subject
to certain customary
conditions, certain of which
may be waived by the Company.
See "The Exchange Offer --
Conditions." The Exchange Offer
is not conditioned upon any
minimum aggregate principal
amount of Old Notes being
tendered for exchange.
PROCEDURES FOR TENDERING OLD NOTES.............. Each holder of Old Notes
wishing to accept the Exchange
Offer must complete, sign and
date the Letter of Transmittal,
or a copy thereof, in
accordance with the
instructions contained herein
and therein, and mail or
otherwise deliver the Letter of
Transmittal, or a copy thereof,
together with the Old Notes and
any other required
documentation, to the Exchange
Agent at the address set forth
herein. Persons holding Old
Notes through DTC and wishing
to accept the Exchange Offer
must do so pursuant to DTC's
Automated Tender Offer Program,
by which each tendering
Participant (defined herein)
will agree to be bound by the
Letter of Transmittal. By
executing or agreeing to be
bound by the Letter of
Transmittal, each holder will
represent to the Company that,
among other things, (i) the New
Notes to be acquired by such
holder of Old Notes in
connection with the Exchange
Offer are being acquired by
such holder in the ordinary
course of its business, (ii) if
such holder is not a broker
dealer, such holder is not
currently participating in,
does not intend to participate
in, and has no arrangement or
understanding with any person
to participate in a
distribution of the New Notes,
(iii) if such holder is a
broker-dealer registered under
the Exchange Act or is
participating in the Exchange
Offer for the purposes of
distributing the New Notes,
such holder will comply with
the registration and prospectus
delivery requirements of the
Securities Act in connection
with a secondary resale
transaction of the New Notes
acquired by such person and
cannot rely on the position of
the staff of the Commission set
forth in no-action letters (see
"The Exchange Offer -- Resale
of Exchange Notes"), (iv) such
holder understands that a
secondary resale transaction
described in clause (iii) above
and any resales of New Notes
obtained by such holder in
exchange for Old Notes acquired
by such holder directly from
the Company should be covered
by an effective registration
statement containing the
information required by Item
507 or Item 508, as applicable,
of Regulation S-K of the
Commission and (v) such holder
10
<PAGE> 12
is not an "affiliate," as
defined in Rule 405 under the
Securities Act, of the Company.
If the holder is a
broker-dealer that will receive
New Notes for its own account
in exchange for Old Notes that
were acquired as a result of
market- making activities or
other trading activities, such
holder will be required to
acknowledge in the Letter of
Transmittal that such holder
will deliver a prospectus in
connection with any resale of
such New Notes; however, by so
acknowledging and by delivering
a prospectus, such holder will
not be deemed to admit that it
is an "underwriter" within the
meaning of the Securities Act.
See "The Exchange Offer --
Procedures for Tendering."
Pursuant to the Registration
Rights Agreement, the Company
is required to file a
registration statement for a
continuous offering pursuant to
Rule 415 under the Securities
Act in respect of the Old Notes
if applicable law or SEC staff
interpretations otherwise
prevent registration of the New
Notes pursuant to the Exchange
Offer. See "The Exchange Offer
-- Purpose and Effect."
SPECIAL PROCEDURES FOR BENEFICIAL
OWNERS......................................... Any beneficial owner whose Old
Notes are registered in the
name of a broker, dealer,
commercial bank, trust company
or other nominee and who wishes
to tender such Old Notes in the
Exchange Offer should contact
such registered holder promptly
and instruct such registered
holder to tender on such
beneficial owner's behalf. If
such beneficial owner wishes to
tender on such owner's own
behalf, such owner must, prior
to completing and executing the
Letter of Transmittal and
delivering such owner's Old
Notes, either make appropriate
arrangements to register
ownership of the Old Notes in
such owner's name or obtain a
properly completed bond power
from the registered holder. The
transfer of registered
ownership may take considerable
time and may not be able to be
completed prior to the
Expiration Date. See "The
Exchange Offer -- Procedures
for Tendering."
GUARANTEED DELIVERY PROCEDURES.................. Holders of Old Notes who wish
to tender their Old Notes and
whose Old Notes are not
immediately available or who
cannot deliver their Old Notes,
the Letter of Transmittal or
any other documentation
required by the Letter of
Transmittal to the Exchange
Agent prior to the Expiration
Date may tender their Old Notes
according to the guaranteed
delivery procedures set forth
under "The Exchange Offer --
Guaranteed Delivery
Procedures."
ACCEPTANCE OF OLD NOTES AND DELIVERY
OF NEW NOTES................................... Subject to the satisfaction or
waiver of the conditions to the
Exchange Offer, the Company
will accept for exchange any
and all Old Notes which are
properly tendered in the
Exchange Offer prior to 5:00
p.m., New York City time, on
the Expiration Date. The New
Notes issued pursuant to the
Exchange Offer will be
delivered at the earliest
practicable date following the
Expiration Date. See "The
Exchange Offer -- Terms of the
Exchange Offer."
EXCHANGE AGENT.................................. Harris Trust and Savings Bank
is serving as Exchange Agent in
connection with the Exchange
Offer and is also serving as
Trustee under the Indenture.
FEDERAL INCOME TAX CONSIDERATIONS............... The exchange pursuant to the
Exchange Offer will not be a
taxable event for federal
income tax purposes. See
"Certain U.S. Federal Income
Tax Considerations."
11
<PAGE> 13
EFFECT OF NOT TENDERING......................... Old Notes that are eligible for
exchange in the Exchange Offer,
but are not tendered or are
tendered but not accepted will,
following the completion of the
Exchange Offer, continue to be
subject to the existing
restrictions upon transfer
thereof. The Company will have
no further obligation to
provide for the registration
under the Securities Act of
such Old Notes.
GLOBAL NOTE..................................... The New Notes will be issued in
fully registered form and are
expected to initially be
represented by one or more
Global New Notes, registered in
the name of DTC or its nominee
and deposited with DTC. Holders
of beneficial interests in the
Global New Notes will not be
considered the owners or
holders of any New Notes under
the Global New Notes or the
Indenture for any purpose.
Holders of beneficial interests
in the Global New Notes may be
unable to transfer or pledge
their interest in the Global
New Notes if physical delivery
is required. Payments by DTC
Participants (defined herein)
and DTC Indirect Participants
(defined herein) to the
beneficial owners of New Notes
will be governed by standing
instructions and customary
practice and will be the
responsibility of the DTC
Participants or DTC Indirect
Participants and not the
Company or the Trustee. See
"Exchange Offer -- Book Entry
Transfer."
TERMS OF THE NEW NOTES
SECURITIES OFFERED.............................. $125 million principal amount
of 12 1/2% Senior Notes Due
2008, issued by the Company.
RANKING......................................... The New Notes will be senior
unsecured obligations of the
Company. the New Notes will
rank pari passu with any
existing and future
unsubordinated indebtedness of
the Company, but will be
effectively subordinated to the
rights of holders of secured
unsubordinated indebtedness of
the Company to the extent of
the value of the collateral
securing such indebtedness. the
New Notes will rank senior to
all unsecured subordinated
indebtedness of the Company. as
of June 30, 1998, on a pro
forma basis after giving effect
to the Offerings and the
application of the net proceeds
therefrom, there would have
been approximately $3.1 million
of unsubordinated indebtedness
for money borrowed by the
Company and the Subsidiary
Guarantors, all of which was
secured indebtedness, and
approximately $4.5 million of
general unsecured trade
indebtedness and other
liabilities of the Company and
the Subsidiary Guarantors
(excluding approximately $31.9
million of available borrowings
and letters of credit under the
Company's credit facilities).
see "Description of Notes --
General" and "-- Subsidiary
Guarantees."
MATURITY DATE................................... July 1, 2008.
INTEREST PAYMENT DATES.......................... January 1 and July 1 of each
year, commencing January 1,
1999.
SUBSIDIARY GUARANTORS........................... The New Notes will be jointly,
severally and unconditionally
guaranteed by each of the
existing and future Restricted
Subsidiaries of the Company.
The Subsidiary Guarantees will
be senior unsecured obligations
of the Subsidiary Guarantors
and will rank pari passu with
any existing and future
unsubordinated indebtedness of
the Subsidiary Guarantors, but
will be effectively
subordinated to the rights of
holders of secured
unsubordinated indebtedness of
the Subsidiary Guarantors to
the extent of the value of the
collateral securing such
indebtedness. See "Description
of Notes -- Subsidiary
Guarantees."
12
<PAGE> 14
OPTIONAL REDEMPTION............................. The New Notes will be
redeemable at the option of the
Company, in whole or in part,
at any time on and after july
1, 2003, at the redemption
prices set forth herein, plus
accrued and unpaid interest and
Liquidated Damages, if any, to
the date of redemption.
Furthermore, prior to July 1,
2001, up to 20% of the
aggregate principal amount of
the New Notes originally issued
may be redeemed from time to
time at the option of the
Company, in whole or in part,
at 112.5% of the principal
amount thereof, plus accrued
and unpaid interest and
Liquidated Damages, if any, to
the date of redemption, with
the net cash proceeds of one or
more Equity Offerings, provided
that at least 80% of the
aggregate principal amount of
the New Notes originally issued
remains outstanding immediately
after each such redemption. See
"Description of Notes --
Optional Redemption."
CHANGE OF CONTROL............................... Upon the occurrence of a Change
of Control the Company will be
required to make an offer to
purchase the New Notes at a
purchase price equal to 101% of
the principal amount thereof,
plus accrued and unpaid
interest and Liquidated
Damages, if any, to the date of
purchase. There can be no
assurance, however, that the
Company will have sufficient
funds with which to purchase
the New Notes at that time, and
certain provisions of the
Company's other debt agreements
may further limit the Company's
ability to make such purchases.
see "Risk Factors -- Limitation
on Purchase of Notes Upon the
Occurrence of a Change of
Control" and "Description of
Notes -- Purchase at the Option
of Holders upon a Change of
Control."
CERTAIN COVENANTS............................... The Indenture contains certain
covenants that, among other
things, limit the ability of
the Company and its Restricted
Subsidiaries to (i) incur
additional Indebtedness, (ii)
pay dividends or make other
distributions with respect to
Capital Stock or Redeemable
Stock or purchase, redeem or
retire Capital Stock or
Redeemable Stock or make other
Restricted Payments, (iii)
enter into certain transactions
with affiliates, (iv) create
certain liens, (v) enter into
certain consolidations, mergers
and transfers of assets, (vi)
issue any Capital Stock of a
Restricted Subsidiary or permit
any Person other than the
Company or a Wholly Owned
Restricted Subsidiary to own
such stock, (vii) permit any
Restricted Subsidiaries to
suffer to exist certain types
of restrictions on the ability
of Restricted Subsidiaries to
pay dividends and make other
transfers of assets to the
Company and other Restricted
Subsidiaries and (viii) dispose
of the proceeds of certain
Asset Sales.
BOOK-ENTRY; DELIVERY AND FORM................... The New Notes will initially
be represented by one or more
Global New Notes registered in
the name of a nominee of DTC.
Beneficial interests in the
Global New Notes will be shown
on, and transfers thereof will
be effected only through,
records maintained in
book-entry Form by DTC with
respect to its participants.
See "Description of Notes --
Book-Entry; Delivery and Form."
RISK FACTORS
For a discussion of certain factors that should be considered by holders in
connection with the Exchange Offer and the New Notes, see "Risk Factors."
13
<PAGE> 15
SUMMARY CONSOLIDATED FINANCIAL INFORMATION
The following table sets forth for the periods indicated certain summary
historical and pro forma consolidated financial information of the Company. The
summary historical consolidated financial information for each of the years in
the three years ended June 30, 1998 have been derived from the audited
consolidated financial statements of the Company. The Company completed material
acquisitions of producing properties in each of the periods presented which
affects the comparability of the historical financial and operating data for all
periods presented. The summary historical and pro forma information below should
be read in conjunction with "Management's Discussion and Analysis of Financial
Condition and Results of Operations," the Consolidated Financial Statements of
the Company and the notes thereto, as well as the "Unaudited Pro Forma Condensed
Consolidated Financial Statements" and the notes thereto included elsewhere in
this Prospectus. Neither the historical results nor the pro forma results are
necessarily indicative of the Company's future operations or financial results.
<TABLE>
<CAPTION>
YEAR ENDED JUNE 30,
-------------------------------------------------------
PRO FORMA
HISTORICAL AS ADJUSTED
---------------------------------------- ------------
1996 1997 1998 1998(1)
----------- --------- ---------- ----------
(IN THOUSANDS, EXCEPT RATIOS)
<S> <C> <C> <C> <C>
STATEMENT OF OPERATIONS DATA:
Revenues:
Oil and natural gas sales................................ $ 2,079 $ 4,381 $ 6,446 $ 6,767
Net Profits Interests and Royalty Interests(2)........... -- -- 4,432 27,763
Interest and other....................................... 72 300 105 105
----------- --------- ---------- ----------
Total revenues.......................................... 2,151 4,681 10,983 34,635
----------- --------- ---------- ----------
Expenses:
Production expenses...................................... 1,176 2,507 4,546 4,624
Depreciation, depletion and amortization................. 630 982 4,809 15,343
Writedown of oil and gas properties...................... -- -- 28,166 28,166
General and administrative............................... 1,113 1,452 2,259 2,959
Interest and financing costs(3).......................... 421 878 3,957 17,547
----------- --------- ---------- ----------
Total expenses.......................................... 3,340 5,819 43,737 68,639
----------- --------- ---------- ----------
Income (loss) before extraordinary item
and income taxes......................................... (1,189) (1,138) (32,754) (34,004)
Extraordinary item(4)...................................... -- 171 -- --
Income taxes............................................... -- -- -- --
----------- --------- ---------- ----------
Net income (loss).......................................... $ (1,189) $ (1,309) $ (32,754) $ (34,004)
=========== ========= ========== ==========
OTHER FINANCIAL DATA:
EBITDA(5).................................................. $ (210) $ 422 $ 4,072 $ 26,947
Capital expenditures(6).................................... 6,235 8,620 159,277 159,277
Ratio of EBITDA to interest expense(3)(5)(7)............... NM 0.5X 1.1X 1.6X
Ratio of earnings to fixed charges(8)...................... NM NM NM NM
</TABLE>
<TABLE>
<CAPTION>
At June 30, 1998
---------------------------
Historical Pro Forma(1)
----------- -------------
(IN THOUSANDS, EXCEPT RATIO
DATA)
<S> <C> <C>
BALANCE SHEET DATA:
Cash and cash equivalents........ $ 1,029 $ 11,555
Working capital (deficit)........ (425) 4,719
Net property and equipment....... 142,467 142,467
Total assets..................... 153,675 166,819
Total debt....................... 153,556 136,200
Stockholders' equity (net
capital deficiency)........... (6,781) 23,720
ACNTA(9)......................... 164,770 169,914
</TABLE>
14
<PAGE> 16
- -----------------
(1) Reflects the pro forma effect of the Note Offering and the Private Equity
Placement, the application of the net proceeds thereof and the concurrent
unwinding of the Company's forward LIBOR interest rate swap agreement. See
"Unaudited Pro Forma Condensed Consolidated Financial Statements," included
elsewhere in this Prospectus, for a discussion of the preparation of these
data. Pro forma net cash provided by operating activities was obtained by
adjusting the historical amount for the pro forma changes in oil and
natural gas sales, oil and natural gas production expenses, general and
administrative expenses and interest expense (except for the amortization
of debt costs). See also "Use of Proceeds" and "Capitalization."
(2) Presented below are the oil and natural gas sales and associated production
expenses from which the NPI and RI revenues are derived:
<TABLE>
<CAPTION>
PRO FORMA YEAR
YEAR ENDED ENDED
JUNE 30, 1998 JUNE 30, 1998
-------------- ---------------
(IN THOUSANDS) (IN THOUSANDS)
<S> <C> <C>
Oil and natural gas sales...................... $ 6,219 $ 38,292
Production expenses............................ 1,787 10,529
---------- ----------
Net profits interests and royalty
interests revenue............................. $ 4,432 $ 27,763
========== ==========
</TABLE>
(3) For purposes of computing the ratio of EBITDA to interest expense, interest
expense excludes the amortization of debt issuance costs of $101,000 and $1
for the year ended June 30, 1998 and the pro forma year ended June 30,
1998, respectively.
(4) During the fiscal year ended June 30, 1997, the Company modified the terms
of indebtedness related to certain acquired properties and recognized an
extraordinary loss of $171,381.
(5) EBITDA represents earnings before interest expense, income taxes,
depreciation, depletion and amortization expense, write down of oil and
gas properties and extraordinary items and excludes interest and other
income. EBITDA is not a measure of income or cash flows in accordance with
generally accepted accounting principles, but is presented as a
supplemental financial indicator as to the Company's ability to service or
incur debt. EBITDA is not presented as an indicator of cash available for
discretionary spending or as a measure of liquidity. EBITDA may not be
comparable to other similarly titled measures of other companies. The
Credit Agreement requires the maintenance of certain EBITDA ratios. EBITDA
should not be considered in isolation or as a substitute for net income,
operating cash flow or any other measure of financial performance prepared
in accordance with generally accepted accounting principles or as a measure
of the Company's profitability or liquidity.
(6) Capital expenditures for the year ended June 30, 1998, include the costs of
acquiring the Collins and Ware Properties, the NASGAS Properties, and
Morgan Properties.
(7) EBITDA was insufficient to cover interest expense by $631,000 and $456,000
for the fiscal years ended June 30, 1996 and 1997, respectively.
(8) For purposes of computing the ratio of earnings to fixed charges, fixed
charges consist of interest expense. Earnings consist of earnings before
extraordinary items and income taxes plus fixed charges. Earnings were
insufficient to cover fixed charges by $1.2 million, $1.2 million, $32.8
million and $34.0 million for the fiscal years ended June 30, 1996, 1997,
and 1998 and the pro forma year ended June 30, 1998, respectively.
(9) Adjusted Consolidated Net Tangible Assets ("ACNTA") is generally defined as
(a) the sum (without duplication) of (i) SEC PV-10, plus (ii) capitalized
costs attributable to oil and natural gas properties to which no proved oil
and natural gas reserves are attributable, plus (iii) net working capital,
plus (iv) the net book value of each other tangible asset, minus (b)
minority interests and, to the extent not otherwise taken into account,
natural gas balancing liabilities. Pro forma ACNTA of $170.0 million
includes $165.2 million of adjusted SEC PV-10 and $4.8 million of working
capital.
15
<PAGE> 17
SUMMARY OPERATING AND RESERVE DATA
The following table sets forth summary operating and reserve data at the
dates and for the periods indicated. Estimates of proved reserves and future net
revenues from which SEC PV-10 is derived are based on period-end prices of oil
and natural gas held constant (except to the extent a contract specifically
provides otherwise) in accordance with regulations of the Commission. For
additional information regarding the effect of prices on proved reserves and
estimated future net revenues, see "Risk Factors -- Volatility of Oil and
Natural Gas Prices," "-- Uncertainty of Estimates of Proved Reserves and Future
Net Revenues," and "Business -- Oil and Natural Gas Reserves."
<TABLE>
<CAPTION>
YEAR ENDED JUNE 30,
---------------------------------------------------------
HISTORICAL PRO FORMA(1)
-------------------------------------------- ------------
1996 1997 1998 1998
-------------- ------------ ------------ ------------
<S> <C> <C> <C> <C>
OPERATING DATA:
Production volumes:
Natural gas (MMcf)........................................ 154 546 3,368 15,454
Oil (MBbl)................................................ 103 151 325 700
Total (MMcfe)........................................... 769 1,450 5,318 19,654
Average sales price(2):
Natural gas (per Mcf)..................................... $ 2.43 $ 2.31 $ 2.27 $ 2.14
Oil (per Bbl)............................................. 18.26 20.73 15.52 16.55
Natural gas equivalent (per Mcfe)......................... 2.70 3.02 2.39 2.53
Selected expenses (per Mcfe)(3):
Lease operating expense................................... $ 1.31 $ 1.52 $ 1.07 $ .61
Production taxes.......................................... 0.22 0.21 0.12 .16
General and administrative................................ 1.45 1.00 0.43 .15
Depreciation, depletion and amortization(4)............... 0.82 0.68 0.91 .78
</TABLE>
<TABLE>
<CAPTION>
1996 1997 1998
---------- ----------- ----------
<S> <C> <C> <C>
PROVED RESERVE DATA (END OF PERIOD):
Proved reserves:
Natural gas (MMcf).................. 12,984 20,973 176,095
Oil(MBbl)........................... 6,932 6,709 7,949
Total(MMcfe)........................ 54,574 61,224 223,788
Percent proved developed reserves....... 42.1% 41.7% 68.3%
Percent natural gas reserves............ 23.8% 34.3% 78.7%
Reserve Life Index (years)(5)........... 71.0 42.2 11.4
Estimated future net cash flows before
income taxes (thousands).............. $ 72,756 $ 80,596 $ 318,663
SEC PV-10 (thousands)................... 31,453 41,218 165,195
</TABLE>
- ------------------
(1) Reflects the pro forma effect of the Property Acquisitions. See "Unaudited
Pro Forma Condensed Consolidated Financial Statements," included elsewhere
in this Prospectus, for a discussion of the preparation of these data.
(2) Pro forma average sales price information for the year ended June 30, 1997
and 1998 include oil revenues of $10.3 million and $7.5 million,
respectively, and natural gas revenues of $32.9 million and $30.7 million,
respectively, attributable to the Morgan Properties, which are presented
net of lease operating expenses and production taxes for financial
statement presentation.
(3) Pro forma lease operating expenses include $8.1 million and production
taxes include $1.6 million for the year ended June 30, 1998, attributable
to the Morgan Properties, which are netted against the NPI and RI revenues
for financial statement presentation.
(4) Represents depreciation, depletion and amortization of oil and natural gas
properties only.
(5) The reserve life index at June 30, 1998 has been calculated using pro forma
production of 19,654 MMcfe for the year ended June 30, 1998.
16
<PAGE> 18
RISK FACTORS
In addition to the other information contained in this Prospectus, the
following risk factors should be considered carefully in evaluating the Exchange
Offer and an investment in the New Notes offered hereby. This Prospectus
contains forward-looking statements of the Company which involve risks and
uncertainties.
ADVERSE CONSEQUENCES OF FAILURE TO EXCHANGE
The Old Notes were sold pursuant to an exemption from the registration
requirements of the Securities Act and their transfer is subject to certain
restrictions under the Securities Act. In general, Old Notes may not be offered
or sold unless registered under the Securities Act, except pursuant to an
exemption from, or in a transaction not subject to, the Securities Act and
applicable state securities laws. Holders of Old Notes who do not exchange their
Old Notes for New Notes pursuant to the Exchange Offer will continue to be
subject to such transfer restrictions on the Old Notes. The Company currently
does not anticipate that it will register the Old Notes under the Securities
Act. To the extent that Old Notes are tendered and accepted in the Exchange
Offer, the trading market for untendered and tendered but unaccepted Old Notes
could be adversely affected. See "The Exchange Offer -- Consequences of Failure
to Exchange."
RISKS ASSOCIATED WITH EXCHANGE OFFER PROCEDURES
The New Notes will be issued in exchange for Old Notes only after timely
receipt by the Exchange Agent of such Old Notes, a properly completed and duly
executed Letter of Transmittal and all other required documentation. Therefore,
holders of Old Notes desiring to tender such Old Notes in exchange for New Notes
should allow sufficient time to ensure timely delivery. Neither the Exchange
Agent nor the Company is under any duty to give notification of defects or
irregularities with respect to tenders of Old Notes for exchange. Old Notes that
are not tendered or are tendered but not accepted will, following consummation
of the Exchange Offer, continue to be subject to the existing restrictions upon
transfer thereof. In addition, any holder of Old Notes who tenders in the
Exchange Offer for the purpose of participating in a distribution of the New
Notes will be required to comply with the registration and prospectus delivery
requirements of the Securities Act in connection with any resale transaction.
Each broker-dealer that receives New Notes for its own account in exchange for
Old Notes, where the Old Notes were acquired by the broker-dealer as a result of
market-making or any other trading activities, must acknowledge that it will
deliver a prospectus in connection with any resale of such New Notes. See "Plan
of Distribution."
EFFECTS OF LEVERAGE
At June 30, 1998, the Company's ratio of total indebtedness to total
capitalization was 104.4% (on a pro forma basis 86.3%). At June 30, 1998, the
Company's consolidated total interest coverage ratio was 1.0:1.0. The Company
intends to incur additional indebtedness in the future as it executes its
acquisition and exploitation strategy. See "-- Substantial Capital
Requirements," "Capitalization" and the "Unaudited Pro Forma Condensed
Consolidated Financial Statements" and the notes thereto included elsewhere
herein.
The Company's ability to meet its debt service obligations will be
dependent upon the Company's future performance, which will be subject to oil
and natural gas prices, the Company's level of production, general economic
conditions and to financial, business and other factors affecting the operations
of the Company, many of which are beyond its control. There can be no assurance
that the Company's future performance will not be adversely affected by some or
all of these factors. See "Management's Discussion and Analysis of Financial
Condition and Results of Operations -- Liquidity and Capital Resources."
The Company's level of indebtedness will have several important effects on
its future operations, including (i) a substantial portion of the Company's cash
flow from operations must be dedicated to the payment of interest on its
indebtedness and will not be available for other purposes, (ii) covenants
contained in the Company's debt obligations will require the Company to meet
certain financial tests, and other restrictions will limit its ability to borrow
additional funds or to dispose of assets and may affect the Company's
flexibility in planning for, and reacting to, changes in its businesses,
including possible acquisition activities and (iii) the Company's ability to
obtain additional financing in the future may be impaired. The Company has
experienced financial covenant defaults under the Credit Agreement, which
defaults were waived by its lender. While the Credit Agreement reflects revised
financial covenant terms which the Company believes it can meet for the
foreseeable future, there can be no assurance that the
17
<PAGE> 19
Company will not default on its financial covenants under the Credit Agreement
or the ECT Revolving Credit Agreement or that the lenders will waive any such
defaults. A default under the Credit Agreement or the ECT Revolving Credit
Agreement would permit the lenders to accelerate repayments of their loans and
to foreclose on the collateral securing the loans, including the Company's oil
and natural gas properties. See "Description of Notes" and "Description of Other
Indebtedness."
HOLDING COMPANY STRUCTURE
Queen Sand Resources is a holding company, the principal assets of which
consist of equity interests in its subsidiaries. The New Notes will be a direct
unsecured, unsubordinated obligation of Queen Sand Resources, which derives all
of its revenues from the operations of its subsidiaries. As a result, Queen Sand
Resources will be dependent on the earnings and cash flow of, and dividends and
distributions or advances from, its subsidiaries to provide the funds necessary
to meet its debt service obligations, including the payment of principal of and
interest on the New Notes. The payment of dividends from the subsidiaries to
Queen Sand Resources and the payment of any interest on or the repayment of any
principal of any loans or advances made by Queen Sand Resources to any of its
subsidiaries may be subject to statutory restrictions and are contingent upon
the earnings of such subsidiaries.
The New Notes will be senior unsecured obligations of Queen Sand Resources.
The New Notes will rank pari passu with any existing and future unsubordinated
indebtedness of Queen Sand Resources, but will be effectively subordinated to
the rights of holders of secured unsubordinated indebtedness of Queen Sand
Resources to the extent of the value of the collateral securing such
indebtedness. The New Notes will rank senior to all unsecured subordinated
indebtedness of Queen Sand Resources. The New Notes will be jointly, severally
and unconditionally guaranteed by each of the existing and future Restricted
Subsidiaries of the Company. The Subsidiary Guarantees will be senior unsecured
obligations of the Subsidiary Guarantors and will rank pari passu with any
existing and future unsubordinated indebtedness of the Subsidiary Guarantors,
but will be effectively subordinated to the rights of holders of secured
unsubordinated indebtedness of the Subsidiary Guarantors to the extent of the
value of the collateral securing such indebtedness. As of June 30, 1998, on a
pro forma basis after giving effect to the Offerings and the application of the
net proceeds therefrom, there would have been approximately $3.1 million of
unsubordinated indebtedness for money borrowed by Queen Sand Resources and the
Subsidiary Guarantors, all of which was secured indebtedness, and approximately
$4.5 million of general unsecured trade indebtedness and other liabilities of
Queen Sand Resources and the Subsidiary Guarantors (excluding approximately
$31.9 million of available borrowings and letters of credit under the Company's
credit facilities). The Indenture governing the Notes limits the ability of
Queen Sand Resources and the Subsidiary Guarantors to incur additional
Indebtedness. The Company intends to incur additional indebtedness, including
secured indebtedness, in the future as it executes its business strategy. In the
event of a liquidation, dissolution, reorganization, bankruptcy or any similar
proceeding regarding the Company, or upon acceleration of the Notes due to an
Event of Default (defined herein), the assets of Queen Sand Resources will be
available to pay obligations of the Notes only after all secured indebtedness of
Queen Sand Resources has been paid in full in cash, and the assets of each
Subsidiary Guarantor will be available to pay its Subsidiary Guaranty only after
all secured indebtedness of such Subsidiary Guarantor has been paid in full in
cash. Accordingly, there may not be sufficient assets remaining to pay amounts
due on all or any of the Notes. See "Description of Notes -- General."
The New Notes and the Subsidiary Guarantees are unsecured and will be
effectively subordinated to any secured indebtedness of Queen Sand Resources or
the appropriate Subsidiary Guarantor, as applicable. The ability of Queen Sand
Resources to comply with the provisions of the Credit Agreement and the ECT
Revolving Credit Agreement or any other secured indebtedness may be affected by
events beyond Queen Sand Resource's control. The breach of any such provisions
could result in a default under the Credit Agreement and the ECT Revolving
Credit Agreement or any other secured indebtedness, in which case, depending on
the actions taken by the lenders thereunder, or their successors or assignees,
such lenders could elect to declare all amounts borrowed under the Credit
Agreement and the ECT Revolving Credit Agreement or any other secured
indebtedness, together with accrued interest, to be due and payable. Such
lenders could then proceed to foreclose against any collateral securing the
payment of such indebtedness, which collateral would constitute a significant
portion or all of the Company's assets. See "Description of Other Indebtedness"
and "Description of Notes."
18
<PAGE> 20
VOLATILITY OF OIL AND NATURAL GAS PRICES
The Company's financial condition, operating results and future growth are
substantially dependent upon commodity prices and demand for oil and natural
gas. Historically, the markets for oil and natural gas have been volatile and
are likely to continue to be volatile in the future. Prices for oil and natural
gas are subject to wide fluctuation in response to market uncertainty, changes
in supply and demand and a variety of additional factors, all of which are
beyond the control of the Company. These factors include domestic and foreign
political conditions, the overall supply of, and demand for, oil and natural
gas, the price of imports of oil and natural gas, weather conditions, the price
and availability of alternative fuels and overall economic conditions. The
Company's future financial condition and results of operations will be
dependent, in part, upon the prices received for the Company's oil and natural
gas production, as well as the costs of acquiring, finding, developing and
producing reserves. In order to reduce its exposure to price risks in the sale
of its oil and natural gas, the Company has entered into and may in the future
enter into hedging contracts. See "Management's Discussion and Analysis of
Financial Condition and Results of Operations -- Changes in Prices and Hedging
Activities" and "-- Risks of Hedging Activities." Furthermore, the prices paid
for the Company's share of oil and natural gas production depends in part upon
the availability, proximity and capacity of gathering systems. The Company's
current production is predominantly weighted toward natural gas, making earnings
and cash flow more sensitive to natural gas price fluctuations. For the fiscal
year ended June 30, 1998, the Company has estimated that a $0.10 per Mcf decline
in natural gas prices would have resulted in a $505,000 decrease in the
Company's EBITDA, and a $1.00 per Bbl decline in oil prices would have resulted
in a $572,000 decrease in the Company's EBITDA. For the fiscal year ended June
30, 1998, the Company estimated that a $0.10 per Mcf increase in natural gas
prices would have resulted in a $505,000 increase in the Company's EBITDA. For
the fiscal year ended June 30, 1998, the Company estimated that a $1.00 per Bbl
increase in oil prices would have resulted in a $931,000 increase in the
Company's EBITDA. The Company's ability to repay outstanding amounts under the
Credit Agreement, the ECT Revolving Credit Agreement and the Notes, as well as
the Company's ability to maintain or increase its borrowing capacity and to
obtain additional capital on attractive terms, are also substantially dependent
upon oil and natural gas prices. See "-- Substantial Capital Requirements" and
"Management's Discussion and Analysis of Financial Condition and Results of
Operations."
REPLACEMENT AND EXPANSION OF RESERVES
The Company's financial condition and results of operations depend
substantially upon its ability to acquire or find and successfully develop
additional oil and natural gas reserves. The proved reserves of the Company will
generally decline as its reserves are produced, except to the extent that the
Company acquires properties containing proved reserves or conducts successful
development, exploitation or exploration activities. The decline rate varies
depending upon reservoir characteristics and other factors. Without reserve
additions in excess of production through acquisition or exploitation and
development activities, the Company's reserves and production will decline over
time. There can be no assurance that the Company will be able to economically
find and develop or acquire additional reserves to replace its current and
future production.
ACQUISITION RISKS
The Company expects to continue to evaluate and pursue acquisition
opportunities, primarily in the mid-continent and southwest regions of the
United States. The successful acquisition of producing properties requires an
assessment of recoverable reserves, future oil and natural gas prices, operating
costs, potential environmental and other liabilities and other factors beyond
the Company's control. This assessment is necessarily inexact and its accuracy
is inherently uncertain. In connection with such an assessment, the Company
performs a review it believes to be generally consistent with industry
practices. This review, however, will not reveal all existing or potential
problems, nor will it permit the Company to become sufficiently familiar with
the properties to fully assess their deficiencies and capabilities. Inspections
generally are not performed on every well, and structural and environmental
problems are not necessarily observable even when an inspection is undertaken.
Even when problems are identified, the seller may not be willing or financially
able to give contractual protection against such problems, and the Company may
decide to assume environmental and other liabilities in connection with acquired
properties. There can be no assurance that the Company's acquisitions will be
successful. Any unsuccessful acquisition could have a material adverse effect on
the Company's financial condition and results of operations.
The Morgan Property Acquisition represents the largest acquisition
undertaken by the Company to date and represents a major step in the Company's
growth strategy. However, the increased size of the Company and its scope
19
<PAGE> 21
of operations will present significant challenges to the Company due to the
increased time and resources required in the management effort. Accordingly,
there can be no assurance that the future operations of the Company can be
effectively managed to realize the goals anticipated of the Property
Acquisitions. In addition, the management of the existing asset base and the
continued growth and expansion of the Company will depend, among other factors,
on the Company's ability to recruit and retain skilled and experienced
management and technical personnel. There can be no assurance that the Company
will be successful in such efforts.
DRILLING AND OPERATING RISKS
The Company's oil and natural gas business is also subject to all of the
operating risks associated with the drilling for and production and secondary
recovery of oil and natural gas, including, but not limited to, uncontrollable
flows of oil, natural gas, brine or well fluids (including fluids used in
waterflood activities) into the environment (including groundwater
contamination), fires, explosions, pollution and other risks, any of which could
result in substantial losses to the Company. Drilling activities are subject to
many risks, including the risk that no commercially productive oil or natural
gas reservoirs will be encountered. The Company anticipates drilling or
participating in the drilling of a substantially greater number of wells over
the next 12 to 18 months than it has in the past. There can be no assurance that
new wells drilled or participated in by the Company will be productive or that
the Company will recover all or any portion of its investment. Drilling for oil
and natural gas may involve unprofitable efforts, not only from dry wells, but
from wells that are productive but do not produce sufficient net revenues to
return a profit after drilling, operating and other costs. The cost of drilling,
completing and operating wells is often uncertain. The Company's drilling
operations may be curtailed, delayed or canceled as a result of a variety of
factors, many of which are beyond its control, including economic conditions,
mechanical problems, pressure or irregularities in formations, title problems,
weather conditions, compliance with governmental requirements and shortages in
or delays in the delivery of equipment and services. The Company's future
drilling activities may not be successful. Lack of drilling success could have a
material adverse effect on the Company's financial conditions and results of
operations.
In addition to the substantial risk that wells drilled will not be
productive, hazards such as unusual or unexpected geologic formations,
pressures, downhole fires, mechanical failures, blowouts, cratering, explosions,
uncontrollable flows of oil, natural gas or wells fluids, pollution and other
environmental risks are inherent in oil and natural gas development,
exploitation, exploration, production and gathering. These hazards could result
in substantial losses to the Company due to injury and loss of life, severe
damage to and destruction of property and equipment, pollution and other
environmental damage and suspension of operations. The Company carries insurance
that it believes is in accordance with customary industry practices, but, as is
common in the oil and natural gas industry, the Company does not fully insure
against all risks associated with its business either because such insurance is
not available or because the cost thereof is considered prohibitive. The
occurrence of an event that is not covered, or not fully covered by insurance,
could have a material adverse effect on the Company's financial condition and
results of operations.
There are certain risks associated with secondary recovery operations,
especially the use of waterflooding techniques, and drilling activities in
general. Waterflooding involves significant capital expenditures and uncertainty
as to the total amount of secondary reserves that can be recovered. In
waterflood operations, there is generally a delay between the initiation of
water injection into a formation containing hydrocarbons and any increase in
production that may result. The unit production costs per barrel of waterflood
projects are generally higher during the initial phases of such projects due to
the purchase of injection water and related costs, as well as during the later
stages of the life of the project. The degree of success, if any, of any
secondary recovery program depends on a large number of factors, including the
porosity and permeability of the formation, the technique used and the location
of injection wells.
SUBSTANTIAL CAPITAL REQUIREMENTS
The Company's strategy of acquiring, developing and exploiting oil and
natural gas properties is dependent upon its ability to obtain financing for any
such expenditures. The Company expects to utilize its Credit Agreement and the
ECT Revolving Credit Agreement to borrow a significant portion of the funds
required. The Credit Agreement limits the amounts the Company may borrow
thereunder to amounts, determined by the lenders in their sole discretion, based
upon projected net revenues from the Company's oil and natural gas properties
and restricts the amounts the Company may borrow under other credit facilities.
As of August 31, 1998, the Company believes it
20
<PAGE> 22
would be able to borrow up to approximately $25.0 million (of which
approximately $10.3 million was outstanding) under the Credit Agreement. The
lenders can adjust the borrowings permitted to be outstanding under the Credit
Agreement and under the ECT Revolving Credit Agreement semi-annually. The
lenders require that outstanding borrowings in excess of the borrowing limit be
repaid ratably over a period no longer than six months. No assurances can be
given that the Company will be able to make any such mandatory principal
payments required by the lenders. The Company could, under certain
circumstances, borrow under the ECT Revolving Credit Agreement up to the lesser
of $10.0 million or 40% of the borrowing base established under the Credit
Agreement. See "Description of Other Indebtedness."
Any future acquisition by the Company requiring financing in excess of the
amount then available under the Credit Agreement or the ECT Revolving Credit
Agreement will depend upon the lenders' evaluations of the properties proposed
to be acquired. For a description of the Credit Agreement and the ECT Revolving
Credit Agreement and their principal terms and conditions, see "Description of
Other Indebtedness."
UNCERTAINTY OF ESTIMATES OF PROVED RESERVES AND FUTURE NET REVENUES
There are numerous uncertainties in estimating quantities of proved
reserves and in projecting future rates of production and the timing of
development expenditures, including many factors beyond the control of the
Company. The reserve data set forth in this Prospectus are only estimates.
Although the Company believes such estimates to be reasonable, reserve estimates
are imprecise and may be expected to change as additional information becomes
available. Estimates of oil and natural gas reserves, of necessity, are
projections based on engineering data, and there are uncertainties inherent in
the interpretation of such data, as well as the projection of future rates of
production and the timing of development expenditures. Reservoir engineering is
a subjective process of estimating underground accumulations of oil and natural
gas that cannot be exactly measured. Therefore, estimates of the economically
recoverable quantities of oil and natural gas attributable to any particular
group of properties, classifications of such reserves based on risk of recovery
and such estimate is a function of the quality of available data and of
engineering and geological interpretation and judgment and the future net cash
flows expected therefrom, prepared by different engineers or by the same
engineers at different times may vary substantially. There also can be no
assurance that the reserves set forth herein will ultimately be produced or that
the proved undeveloped reserves will be developed within the periods
anticipated. Actual production, revenues and expenditures with respect to the
Company's reserves will likely vary from estimates, and such variances may be
material. In addition, the estimates of future net revenues from proved reserves
of the Company and the present value thereof are based upon certain assumptions
about future production levels, prices and costs that may not be correct. The
Company emphasizes with respect to the estimates prepared by independent
petroleum engineers that SEC PV-10 should not be construed as representative of
the fair market value of the proved oil and natural gas properties belonging to
the Company since discounted future net cash flows are based upon projected cash
flows which do not provide for changes in oil and natural gas prices or for
escalation of expenses and capital costs. The meaningfulness of such estimates
is highly dependent upon the accuracy of the assumptions upon which they are
based. Actual future prices and costs may differ materially from those
estimated. Prospective purchasers of New Notes are cautioned not to place undue
reliance on the reserve data included in this Prospectus.
NATURE OF THE NET PROFITS INTERESTS AND ROYALTY INTERESTS
General. As a result of the Morgan Property Acquisition, a substantial
portion of the Company's oil and natural gas property interests are in the form
of NPIs and RIs. The NPIs were conveyed by various assignors (collectively, the
"Assignors") to the Company from such Assignor's net revenue interest
(generally, a leasehold working interest less lease burdens) in the Underlying
Properties. These various conveyances (collectively, the "Conveyances") were
designed to be conveyances of interests in real property. As the owner of NPIs,
the Company does not have the direct right to drill or operate wells or to cause
third parties to propose or drill wells on the Underlying Properties. If an
Assignor or any other working interest owner proposes to drill a well on the
Underlying Properties, then each respective Assignor is obligated to give the
Company notice of such proposal. Under the applicable ancillary agreements
pertaining to each Conveyance of a NPI (the "Ancillary Agreements"), the Company
will then have the option to pay the Applicable Percentage (as defined in the
Ancillary Agreement) of the respective Assignor's working interest share of the
expenses of any well that is proposed, and thereby become entitled to a NPI
equal to the Applicable Percentage multiplied by the Assignor's net revenue
interest in that well. However, if an Assignor elects not to participate in the
drilling of a well, the Company will be denied the opportunity to participate in
that well. Moreover, if an Assignor owns less than a 100% working interest in a
proposed well, and the other owners of
21
<PAGE> 23
working interests with respect to such well elect not to participate in the
well, the well will not be drilled unless a means of funding the costs allocable
to the working interest owners who do not elect to participate in the well is
effectuated. The financial strength and the competence of the various Assignors,
and to a lesser extent the financial strength and the competence of other
parties owning working interests in the Underlying Properties, may have an
effect on when and whether wells get drilled on the Underlying Properties, and
on whether operations are conducted in a prudent and competent manner. Finally,
the NPIs were created subsequent and subject to the various operating agreements
that cover and govern operations on the properties. Possible consequences of the
NPIs being subject to the applicable operating agreements include: (i) if an
Assignor elects not to participate in a major operation, the entire original
interest of the Assignor (including the NPI) will be relinquished to the
consenting parties under the "non-consent penalty" provisions of the standard
Form operating agreements that govern operations on most of the Underlying
Properties and (ii) if an Assignor fails to pay its share of costs arising under
an operating agreement, the entire original interest of the Assignor (including
the NPIs) will be encumbered by the operator's lien. Because the NPI may not
burden every well covered by an operating agreement, the NPI could arguably be
encumbered by the operator's lien securing obligations incurred by an Assignor
on wells in which the Company does not own a NPI. See "Business -- Recent
Property Acquisitions."
In the past, certain of the operators and/or Assignors on the Morgan
Properties have experienced financial difficulties, including bankruptcy.
Further, in at least one instance an operator has claimed a right to setoff
against the Company's revenue stream from certain properties for unpaid bills
arising from the nonpayment by a bankrupt Assignor.
The RIs are comprised largely of term royalty interests, the duration of
which is the same as the oil and natural gas lease to which it pertains. A
smaller group of RIs are perpetual royalty interests which entitle the owner
thereof to a share of production from the Underlying Properties under both the
current oil and gas lease and any replacement or successor oil and natural gas
lease. In all cases, the RIs are non-operating interests, have little or no
influence over oil and natural gas development or operation on the lands they
burden and should be free of costs or liabilities arising from operations by the
working interest owners.
Sale and Abandonment of Underlying Properties. An Assignor (and any
subsequent transferee of an Assignor) has the right to abandon any well or
working interest included in the Underlying Properties if, in its opinion, such
well or property ceases to produce or is not capable of producing in
commercially paying quantities. The Company may not control the timing of
plugging and abandoning wells. The Conveyances provide that Assignor's working
interest share of the costs of plugging and abandoning uneconomic wells will be
deducted in calculating net cash flow from the property.
The Assignor may sell the Underlying Properties, subject to and burdened by
the RIs, without the consent of the Company. Accordingly, there exists the risk
that the Underlying Properties could be transferred to a party with a weaker
financial profile.
Litigation. The landowner royalty on the J.C. Martin Field is currently
subject to a lawsuit that may create uncertainty regarding the Company's title
to its royalty interest. The Company believes the suit is without merit and a
favorable order of summary judgment has been rendered in favor of the pension
funds managed by J.P. Morgan Investments. However, that order may be appealed.
The purchase agreement for the purchase of the Morgan Properties provides for
the escrow of $8.0 million of the purchase price. In the event the summary
judgment is later overturned and a judgment is later entered against the pension
funds managed by J.P. Morgan Investments (or the Company as successor owner)
rescinding the original transaction whereby the pension funds managed by J.P.
Morgan Investments acquired their interest, the escrowed monies would be
returned to the Company and the Company would convey its property interest to
the plaintiff.
Certain Bankruptcy Issues. Although the matter is not entirely free from
doubt, the Company believes that the Morgan Properties should constitute real
property interests under applicable state law. Consistent therewith, the
Conveyances state that the NPIs constitute real property interests and were
recorded in the appropriate real property records of the states in which the
Underlying Properties are located. If, during the term of the NPIs, an Assignor
becomes involved as a debtor in bankruptcy proceedings, it is not entirely clear
that all of the NPIs would be treated as real property interests under the laws
of such states. If in such a proceeding a determination were made that the NPIs
constitute real property interests, the NPIs should be unaffected in any
material respect by such bankruptcy proceeding. If in such a proceeding a
determination were made that the NPIs constitute an executory contract (a term
22
<PAGE> 24
used, but not defined, in the United States Bankruptcy Code to refer to a
contract under which the obligations of both the debtor and the other party to
such contract are so unsatisfied that the failure of either to complete
performance would constitute a material breach excusing performance by the
other) and not a real property interest under applicable state law, and if such
contract were not to be assumed in a bankruptcy proceeding involving an
Assignor, the Company would be treated as an unsecured creditor of such Assignor
with respect to such NPI in the pending bankruptcy.
FINANCIAL REPORTING IMPACT OF FULL COST METHOD OF ACCOUNTING
The Company uses the full cost method of accounting for its investment in
oil and natural gas properties. Under the full cost method of accounting, all
costs of acquisition, exploration and development of oil and natural gas
reserves are capitalized into a "full cost pool" as incurred, and properties in
the pool are depleted and charged to operations using the unit-of-production
method based on the ratio of current production to total proved oil and natural
gas reserves. To the extent that such capitalized costs (net of accumulated
depreciation, depletion and amortization) less deferred taxes exceed the SEC
PV-10 of estimated future net cash flow from proved reserves of oil and natural
gas, and the lower of cost or fair value of unproved properties after income tax
effects, such excess costs are charged to operations. Once incurred, a
write-down of oil and natural gas properties is not reversible at a later date
even if oil or natural gas prices increase. At June 30, 1998, the Company
recorded a write-down of its oil and natural gas properties of $28.2 million.
Significant downward revisions of quantity estimates or declines in oil and
natural gas prices from those in effect on June 30, 1998 which are not offset by
other factors could result in further write-downs for impairment of oil and
natural gas properties.
COMPETITION
The Company encounters substantial competition in acquiring properties,
marketing oil and natural gas, securing equipment and personnel, and operating
its properties. The competitors in acquisitions, development, exploration and
production include major oil companies, numerous independent oil and natural gas
companies, individual proprietors and others. Many of these competitors have
financial and other resources which substantially exceed those of the Company
and have been engaged in the energy business for a much longer time than the
Company. Therefore, competitors may be able to pay more for desirable leases and
to evaluate, bid for and purchase a greater number of properties or prospects
than the financial or personnel resources of the Company will permit. See
"Business -- Markets and Competition."
GOVERNMENT LAWS AND REGULATIONS
The Company's operations are affected from time to time in varying degrees
by political developments and federal and state laws and regulations. In
particular, oil and natural gas production, operations and economics are or have
been affected by price controls, taxes and other laws relating to the oil and
natural gas industry, by changes in such laws and by changes in administrative
regulations. The Company cannot predict how existing laws and regulations may be
interpreted by enforcement agencies or court rulings, whether additional laws
and regulations will be adopted, or the effect such changes may have on its
business or financial condition. See "Business -- Regulation."
The Company's operations are subject to complex and constantly changing
environmental laws and regulations adopted by federal, state and local
governmental authorities. The Company believes that compliance with such laws
has had no material adverse effect upon the Company's operations to date, and
that the cost of such compliance has not been material. Nevertheless, the
discharge of oil, natural gas or other pollutants into the air, soil or water
may give rise to liabilities on the part of the Company to the government and
third parties and may require the Company to incur costs of remediation.
Additionally, from time to time the Company has agreed to indemnify both sellers
of producing properties from whom the Company acquires reserves and purchasers
of properties from the Company against certain liabilities for environmental
claims associated with the properties being purchased or sold by the Company. No
assurance can be given that existing environmental laws or regulations, as
currently interpreted or reinterpreted in the future, or future laws or
regulations, will not materially adversely affect the Company's operations and
financial condition or that material indemnity claims will not arise against the
Company with respect to properties acquired or sold by the Company. See
"Business -- Regulation -- Environmental Regulation."
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RISKS OF HEDGING ACTIVITIES
In order to reduce its exposure to price risks in the sale of its oil and
natural gas, the Company has entered into and may in the future enter into
hedging contracts. The Company's hedging contracts apply to only a portion of
its production and provide only limited price protection against fluctuations in
the oil and natural gas markets. If the Company's reserves are not produced at
rates equivalent to the hedged position, the Company would be required to
satisfy its obligations under its hedging contracts on potentially unfavorable
terms without the ability to hedge that risk through sales of comparable
quantities of its own production. Further, the terms under which the Company
enters into hedging contracts are based on assumptions and estimates of numerous
factors such as cost of production and pipeline and other transportation costs
to delivery points. Substantial variations between the assumptions and estimates
used by the Company and actual results experienced could materially adversely
affect the Company's anticipated profit margins and its ability to manage the
risks associated with fluctuations in oil and natural gas prices. See "--
Uncertainty of Estimates of Proved Reserves and Future Net Revenues."
Additionally, to the extent that the Company enters into hedging contracts, it
may be prevented from realizing the benefits of price increases above the level
of the hedges. Such hedging contracts are also subject to the risk that the
other party may prove unable or unwilling to perform its obligations under such
contracts. Any significant nonperformance could have a material adverse effect
on the Company's financial condition and results of operations. See
"Management's Discussion and Analysis of Financial Condition and Results of
Operations -- Changes in Prices and Hedging Activities."
POTENTIAL CONFLICTS OF INTEREST
JEDI, an affiliate of Enron, owns 9,600,000 shares of the Company's Series
A Participating Convertible Preferred Stock, par value $0.01 per share (the
"Series A Preferred Stock"), warrants to acquire an aggregate of 1,774,648
shares of the Company's Common Stock and 2,634,951 shares of Common Stock (as of
August 31, 1998: 6.5% of the outstanding voting capital stock, and, assuming the
exercise of its warrants and the conversion of its Series A Preferred Stock,
33.2% of the voting capital stock). In addition, upon the occurrence of certain
defaults under the Certificate of Designation governing the Series A Preferred
Stock, JEDI would have the right to appoint a majority of the Company's Board of
Directors. As the holder of a significant portion of the Company's voting stock,
JEDI, as well as its affiliates (including Enron), may have the ability to
exercise significant influence over the management of the Company. Enron and
certain of its subsidiaries and other affiliates collectively participate in
nearly all phases of the oil and natural gas industry and are, therefore,
competitors of the Company. Effective December 29, 1997, the Company entered
into the ECT Revolving Credit Agreement with ECT, a wholly-owned subsidiary of
Enron. See "Description of Other Indebtedness -- ECT Revolving Credit
Agreement." In addition, Enron and certain of its affiliates have provided, or
assisted in providing, and may in the future provide or assist in arranging,
financing to or for non-affiliated participants in the oil and natural gas
industry who are or may become competitors of the Company.
The Indenture does not prohibit the Company from conducting business with
Enron and its subsidiaries and affiliates, but will generally require that such
transactions be conducted on an arms-length basis and provide that certain
requirements must be satisfied in order for the Company to transact such
business. See "Description of Notes -- Certain Covenants."
CONTROL BY CERTAIN STOCKHOLDERS
As of August 31, 1998, the current officers and directors of the Company as
a group had a beneficial interest in or held a proxy for approximately 20.1% of
the voting capital stock, and JEDI beneficially owned approximately 33.2% of the
voting capital stock. Consequently, these stockholders, should they determine to
act together, may be in a position to effectively control the affairs of the
Company, including the election of all of the Company's directors and the
approval or prevention of certain corporate transactions which require majority
stockholder approval.
DEPENDENCE ON KEY PERSONNEL
The Company is dependent upon Edward J. Munden, Chairman of the Board,
President and Chief Executive Officer, Robert P. Lindsay, Chief Operating
Officer and Executive Vice President, Ronald I. Benn, Chief Financial Officer
and Treasurer, Bruce I. Benn, Executive Vice President and Secretary, and other
key personnel, including V. Ed Butler, Vice President, Operations and Ronald
Idom, Vice President, Acquisitions, for its various activities, and the loss of
any one of these individuals for any reason may adversely affect the Company.
The Company holds
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<PAGE> 26
key man insurance on the lives of each of Edward J. Munden, Robert P. Lindsay,
Bruce I. Benn and Ronald I. Benn. The Company also has employment agreements
with each of these officers (other than Mr. Idom) through 2002.
LIMITATION ON PURCHASE OF NOTES UPON THE OCCURRENCE OF A CHANGE OF CONTROL
Upon the occurrence of a Change of Control, the Company will be required to
make an offer to purchase the Notes at a purchase price equal to 101% of the
principal amount thereof, plus accrued and unpaid interest and Liquidated
Damages, if any, to the date of purchase. If a Change of Control were to occur,
there can be no assurance that the Company and the Subsidiary Guarantors would
have sufficient financial resources, or would be able to arrange financing, to
pay the purchase price for all Notes tendered by the holders thereof. As of the
date of original issuance of the Notes, the Credit Agreement and the ECT
Revolving Credit Agreement will, and any future credit agreements or other
agreements relating to indebtedness to which the Company or a Subsidiary
Guarantor becomes a party may, contain restrictions on the purchase of Notes. If
a Change of Control occurs at a time when the Company and the Subsidiary
Guarantors are unable to purchase the Notes (due to insufficient financial
resources, contractual prohibition or otherwise), such failure to purchase
tendered Notes would constitute an Event of Default under the Indenture, which
would, in turn, constitute a default under the Credit Agreement and the ECT
Revolving Credit Agreement and may constitute a default under the terms of any
other indebtedness of the Company or the Subsidiary Guarantors then outstanding.
See "Description of Notes -- Purchase at the Option of Holders Upon a Change of
Control." The definition of "Change of Control" in the Indenture includes a
sale, lease, conveyance or transfer of "all or substantially all" of the assets
of the Company and certain of its Restricted Subsidiaries, taken as a whole, to
a person or group of persons. There is little case law interpreting the phrase
"all or substantially all" in the context of an indenture. Because there is no
precise established definition of this phrase, the ability of a holder of the
Notes to require the Company to purchase such Notes as a result of a sale,
lease, conveyance or transfer of all or substantially all of the Company's
assets to a person or group of persons may be uncertain.
REPURCHASE OBLIGATIONS IN CONNECTION WITH PRIVATE EQUITY PLACEMENT
In connection with the Private Equity Placement, the Company granted to
those purchasers acquiring shares pursuant to the Purchase Agreement (defined
herein) (the "Buyers") the right to require the Company to repurchase such
Buyer's shares of Common Stock and rights to acquire additional shares of Common
Stock after the occurrence of certain major transactions or triggering events,
including, without limitation, certain consolidations or mergers, the sale or
transfer of all or substantially all of the Company's assets, a tender offer for
more than 40% of the outstanding shares of Common Stock, and certain defaults by
the Company under its covenants to the Buyers. The Company would be required to
obtain the consent of the lenders under the Credit Agreement and the ECT
Revolving Credit Agreement and the consent of the holders of the Notes before
repurchasing such shares and rights. If the Company could not obtain such
consents, the Company would be in default under its agreement with the Buyers,
and such default could trigger cross defaults under the Credit Agreement or the
ECT Revolving Credit Agreement. In addition, if the Company fails to repurchase
the shares of Common Stock and repricing rights as required, the Company could
be liable to the Buyers for damages. See "Recent Developments -- Private Equity
Placement."
FRAUDULENT CONVEYANCE
If a court in a lawsuit brought by an unpaid creditor or representative of
creditors, such as a trustee in bankruptcy, or the Company as a
debtor-in-possession, were to determine under relevant federal or state
fraudulent conveyance statutes that the Company did not receive fair
consideration or reasonably equivalent value for incurring indebtedness,
including the Notes, and that, at the time of such incurrence, the Company (i)
was insolvent, (ii) was rendered insolvent by reason of such incurrence, (iii)
was engaged in a business or transaction for which the assets remaining with the
Company constitute unreasonably small capital or (iv) intended to incur, or
believed that it would incur, debts beyond its ability to pay such debts as they
matured, then such court, subject to applicable statutes of limitation, could
void the Company's obligations under the Notes, subordinate the Notes to other
indebtedness of the Company or take other action detrimental to the holders of
the Notes.
The measure of insolvency for these purposes will depend upon the governing
law of the relevant jurisdiction. Generally, however, a company will be
considered insolvent for these purposes if the sum of that company's debts is
greater than the fair value or the fair saleable value of all of that company's
property or if the present fair saleable value of that company's assets is less
than the amount that will be required to pay its probable liability on its
existing debts as they become absolute and mature. Moreover, regardless of
solvency, a court could void an incurrence of
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indebtedness, including the Notes, if it determined that such transaction was
made with the intent to hinder, delay or defraud creditors. In addition, a court
could subordinate indebtedness, including the Notes, to the claims of all
existing and future creditors on similar grounds. The Company believes that,
after giving effect to the Note Offering, the Company will be (i) neither
insolvent nor rendered insolvent by the incurrence of indebtedness in connection
with the Note Offering, (ii) in possession of sufficient capital to run its
business effectively and (iii) incurring debts within its ability to pay as the
same mature or become due.
In addition, the Subsidiary Guarantees may be subject to review under
relevant federal and state fraudulent conveyance and similar statutes in a
bankruptcy or reorganization case or a lawsuit brought by or on behalf of
creditors of the Subsidiary Guarantors. In such a case, the analysis set forth
above would generally apply, except that the Subsidiary Guarantees could also be
subject to the claim that, since the Subsidiary Guarantees were incurred for the
benefit of the Company (and only indirectly for the benefit of the Subsidiary
Guarantors), the obligations of the Subsidiary Guarantors thereunder were
incurred for less than the fair consideration or reasonably equivalent value. A
court could void the Subsidiary Guarantors' obligations under the Subsidiary
Guarantees, subordinate the Subsidiary Guarantees to other indebtedness of the
Subsidiary Guarantors or take other action detrimental to the holders of the
Notes. See "Description of Other Indebtedness" and "Description of Notes."
LACK OF PUBLIC MARKET FOR THE NOTES
The Old Notes are, and the Company expects the New Notes will be upon
issuance, designated for trading in the Private Offerings, Resales and Trading
through Automatic Linkages (PORTAL) market. There is no established trading
market for the New Notes and the Company does not currently intend to list the
New Notes on any securities exchange or to seek approval for quotation through
any automated quotation system. Accordingly, there can be no assurance regarding
the future development of any market for the Notes, the liquidity of any market
that may develop for the Notes or the ability of holders of the Notes to sell
their Notes or the price at which such holders may be able to sell their Notes.
If such a market were to develop, no assurance can be given as to the trading
prices of the Notes, which may be higher or lower than the initial offering
price of the Old Notes depending on many factors, including, among other things,
prevailing interest rates, the Company's operating results and prospects and the
market for similar securities. The liquidity of, and trading market for, the
Notes may be adversely affected by general declines in the market for similar
securities. Such a decline may adversely affect liquidity and trading markets
independent of the financial performance of, and prospects for, the Company.
RECENT DEVELOPMENTS
PRIVATE EQUITY PLACEMENT
General. The Company raised $25 million of equity on July 8, 1998 and an
additional $7.5 million on July 20, 1998 (collectively, the "Private Equity
Placement"). Pursuant to the Amended and Restated Securities Purchase Agreement,
dated as of July 8, 1998, among the Company and the buyers signatory thereto
(the "Buyers") (the "Purchase Agreement"), the Company issued (i) 2,357,144
shares of the Company's Common Stock on July 8, 1998 and issued an additional
1,071,430 shares of the Company's Common Stock on July 20, 1998 to the Buyers
(the "Common Shares"), (ii) certain repricing rights (the "Repricing Rights") to
acquire additional shares of Common Stock (the "Repricing Common Shares") and
(iii) warrants (the "Buyer Warrants") to purchase an aggregate of up to 605,000
shares of Common Stock (the "Warrant Common Shares"). The aggregate gross
consideration for the issuances was $24 million, $16.5 million of which was
received by the Company on July 8, 1998 and $7.5 million of which was received
by the Company on July 20, 1998. The Company also agreed to register for resale
the Common Shares, Repricing Common Shares and Warrant Common Shares pursuant to
the terms of a registration rights agreement (the "Registration Rights
Agreement"). Initially capitalized terms used but not defined in this section
"Private Equity Placement" have the meanings ascribed to such terms in the
Purchase Agreement filed as an exhibit to this Registration Statement on Form
S-4.
On July 8, 1998, JEDI exercised certain warrants to acquire an aggregate of
980,935 shares of Common Stock for an aggregate exercise price of approximately
$3.3 million and exercised certain antidilution rights to purchase 693,301
shares of the Company's Common Stock for an aggregate purchase price of $1.67
million. A second holder of warrants exercised warrants on July 8, 1998 to
acquire an aggregate of 1,400,000 shares of Common Stock. The Company received
approximately $3.5 million for the exercise of these warrants.
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<PAGE> 28
Repricing Rights. Pursuant to the Purchase Agreement, the Company granted
certain Repricing Rights to the Buyers pursuant to which each of the Buyers (or
their permitted assignees or successors) may exercise its Repricing Rights and
acquire shares of Common Stock in accordance with the following formula (the
"Repricing Rate"):
(Repricing Price -- Market Price)
--------------------------------------------------------------
Market Price
The "Repricing Price" means, (i) during the period beginning on and
including the date which is 121 days after July 8, 1998 and ending on and
including the date which is 150 days after July 8, 1998, 124% of the Purchase
Price, (ii) during the period beginning on and including the date which is 151
days after July 8, 1998 and ending on and including the date which is 180 days
after July 8, 1998, 125% of the Purchase Price, (iii) during the period
beginning on and including the date which is 181 days after July 8, 1998 and
ending on and including the date which is 210 days after July 8, 1998, 126% of
the Purchase Price, (iv) during the period beginning on and including the date
which is 211 days after July 8, 1998 and ending on and including the date which
is 240 days after July 8, 1998, 127% of the Purchase Price and (v) after the
date which is 240 days after July 8, 1998, 128% of the Purchase Price.
The "Market Price" means, as of any date of determination, the lowest
closing bid price during the fifteen consecutive trading days immediately
preceding such date of determination.
The Repricing Rate is multiplied by the number of Common Shares the Buyer
has chosen to reprice in order to determine the number of shares to be issued to
the Buyer.
If the Company fails to issue a stock certificate for the number of shares
of Common Stock to which the holder is entitled or to credit the holder's
balance account with The Depository Trust Company for such number of shares of
Common Stock to which the holder is entitled upon such holder's exercise of the
Repricing Rights within three trading days after the Company's or the transfer
agent's receipt of the exercise notice, the Company shall pay damages to such
holder on each day after the third trading day that such exercise is not
effected. The amount of damages shall equal 0.5% of the product of (i) the sum
of the number of shares of Common Stock not issued to the holder on a timely
basis and (ii) the closing bid price of the Common Stock on the last possible
date which the Company could have issued such Common Stock without violating its
delivery requirements. In addition, if the Buyer to whom the Company has failed
to timely deliver the shares is forced to purchase other outstanding shares of
Common Stock of the Company in order to cover a sale order by such Buyer (a
"Buy-In"), then the Company will be required to pay to such Buyer the positive
difference between the price at which the Buyer bought its covering shares and
the sale price in respect of the shares sold by it.
The right of a holder of Repricing Rights to exercise such Repricing Rights
is limited as set forth below.
(i) Without the prior written consent of the Company, a holder of
Repricing Rights shall not be entitled to exercise an aggregate number of
Repricing Rights in excess of the number of Repricing Rights which when
divided by the number of Repricing Rights purchased by such holder would
exceed (A) 0.00 for the period beginning on July 8, 1998 and ending on and
including the 120th day thereafter, (B) 0.25 for the period beginning on
the 121st day after July 8, 1998 and ending on and including the 150th day
after July 8, 1998, (C) 0.50 for the period beginning on and including the
151st day after July 8, 1998 and ending on and including the 180th day
after July 8, 1998, (D) 0.75 for the period beginning on the 181st day
after July 8, 1998 and ending on and including the 210th day after July 8,
1998, and (E) 1.00 for the period beginning on and including the 211th day
after July 8, 1998. This exercise restriction shall cease to apply if a
Major Transaction (as defined below) or Triggering Event (as defined below)
shall have occurred or been publicly announced or if a registration
statement meeting the requirements of the Registration Rights Agreement
shall not have been declared effective by the 120th day after July 8, 1998.
(ii) As more fully described in the Purchase Agreement, a holder of
Repricing Rights shall not be entitled to exercise Repricing Rights in
excess of that number of Repricing Rights which, upon giving effect to such
exercise, would cause the aggregate number of shares of Common Stock
beneficially owned by the holder and its affiliates to exceed 4.99% of the
outstanding number of shares of the Common Stock following such exercise.
Such restriction is waivable by a holder upon at least 61 days notice.
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In addition to the exercise restrictions, a Buyer's right to exercise its
Repricing Right terminates automatically on the earlier to occur of (i) if the
Initial Common Share with respect to which such Repricing Right was acquired is
sold prior to the date which is 120 days after the date on which such Repricing
Right was acquired, (ii) if the Initial Common Share with respect to which such
Repricing Right was acquired is sold on or after the date which is 120 days
after the Closing Date on which such Repricing Right was acquired at a price
equal to or greater than the Repricing Price in effect on the date of such sale,
(iii) on the date immediately following the date which is one year after the
date of the sale of the Initial Common Share with respect to which such
Repricing Right was acquired and (iv) if the Buyer elects to terminate the
Repricing Right in lieu of the Company repurchasing such Buyer's related Initial
Common Share.
Company Repurchase Rights. Pursuant to the Purchase Agreement, the Company may
elect to repurchase Repricing Rights exercised in lieu of issuing Repricing
Common Shares upon such exercise if the average closing bid price of the Common
Stock for the five day trading period immediately preceding the exercise date of
the Repricing Rights is not greater than $5.30. The repurchase price per
Repricing Right shall be equal to the product of (i) the Repricing Rate of the
Repricing Right on the exercise date and (ii) the last reported sale price of
the Common Stock on the exercise date.
Pursuant to the Purchase Agreement, the Company may also elect to
repurchase any or all of the Common Shares issued to the Buyers and the
Repricing Rights associated with such Common Shares at any time after the
Closing Date on which a Repricing Right is acquired. The repurchase price per
Repricing Right shall be an amount per Common Share and associated Repricing
Right equal to (i) 119% of the Purchase Price, if the repurchase date is prior
to the date which is 120 days after July 8, 1998 and (ii) 128% of the Purchase
Price, if the repurchase date is on or after the date which is 120 days after
July 8, 1998.
Put Rights of Buyers. Pursuant to the Purchase Agreement, each holder of Common
Shares or Repricing Rights, has the right to require the Company to repurchase
all or a portion of such holder's Common Shares or Repricing Rights upon the
occurrence of a Major Transaction or a Triggering Event. The repurchase price is
equal to (i) for each Common Share with an associated Repricing Right, the
greater of (A) 130% of the Purchase Price and (B) the sum of (I) the Purchase
Price and (II) the product of (x) the Repricing Rate of the Repricing Right on
the date of such holder's delivery of a notice of repurchase and (y) the last
reported sale price of the Common Stock on the delivery date of a notice of
repurchase, (ii) for each Repricing Right without the associated Common Share,
the product of (A) the Repricing Rate of the Repricing Right on the date such
holder's delivery of a notice of repurchase and (B) the last reported sale price
of the Common Stock on the date of such holder's delivery of notice of
repurchase and (iii) for each Common Share without an associated Repricing
Right, 130% of the Purchase Price.
A "Major Transaction" is deemed to have occurred at such time as any of the
following events:
(i) the consolidation, merger or other business combination of the
Company with or into another person (other than (A) a consolidation, merger
or other business combination in which holders of the Company's voting
power immediately prior to the transaction continue after the transaction
to hold, directly or indirectly, the voting power of the surviving entity
or entities necessary to elect a majority of the members of the board of
directors (or their equivalent if other than a corporation) of such
surviving entity or entities, or (B) pursuant to a migratory merger
effected solely for the purpose of changing the jurisdiction of
incorporation of the Company);
(ii) the sale or transfer of all or substantially all of the Company's
assets; or
(iii) a purchase, tender or exchange offer made to and accepted by the
holders of more than 40% of the outstanding shares of Common Stock.
A "Triggering Event" is deemed to have occurred at such time as any of the
following events:
(i) a registration statement in respect of the resale of the Common
Shares, Repricing Common Shares and Warrant Common Shares (the "Resale
Registration Statement") has not been deemed effective by the Commission on
or prior to the 210th day after July 8, 1998. (A Resale Registration
Statement was declared effective on September 22, 1998.)
(ii) during the Effectiveness Period the effectiveness of the Resale
Registration Statement lapses for any reason or is unavailable for sale of
the Registrable Securities (as defined in the Registration Rights
Agreement)
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in accordance with the terms of the Registration Rights Agreement, and such
lapse or unavailability continues for a period of ten trading days in
aggregate (excluding any "blackout" periods permitted by the terms of the
Registration Rights Agreement);
(iii) the Common Stock is suspended from listing or is delisted from
The Nasdaq SmallCap Market or on any subsequent market for a period of five
consecutive days, unless such delisting is due to the Company having the
Common Stock relisted on a subsequent market within such five day period;
(iv) the Company notifies any holder of Repricing Rights, including by
way of public announcement, at any time, of its intention not to comply or
inability to comply with proper requests for exercise of any Repricing
Rights into shares of Common Stock;
(v) the Company fails to deliver shares of Common Stock pursuant to the
exercise of Repricing Rights within ten days of an exercise date or to pay
the amount due in respect of a Buy-In within ten days after notice of such
Buy-In is delivered to the Company;
(vi) the Company is not required to issue any Repricing Common Shares
pursuant to the exercise of Repricing Rights due to certain restrictions
imposed under the rules and regulations of The Nasdaq Stock Market or the
Company is otherwise unable to issue shares of Common Stock upon delivery
of an exercise notice for any reason;
(vii) if stockholder approval of the issuance of the securities is
required, the Company's stockholders fail to approve the issuance of the
shares of Common Stock upon the exercise of Repricing Rights within 135
days of a Proxy Statement Trigger Date (as defined in the Purchase
Agreement);
(viii) the Company breaches any representation, warranty, covenant or
other material term or condition of the Purchase Agreement, the Warrants,
the Registration Rights Agreement or the irrevocable transfer agent
instructions or any other agreement, document, certificate or other
instrument delivered in connection with the transactions contemplated
thereby or hereby, and such breach, if curable, continues for a period of
at least ten days after written notice thereof to the Company; or
(ix) a voluntary or involuntary case or proceeding is commenced by or
against the Company or a subsidiary under any applicable federal or state
bankruptcy, insolvency, reorganization or other similar proceeding
(excluding any involuntary proceeding that is dismissed within thirty days
of the filing thereof).
At any time after receipt of a notice from the Company that a Major
Transaction is to occur (or, in the event a notice is not delivered at least ten
days prior to a Major Transaction), any holder of Common Shares, Repricing
Common Shares or Repricing Rights then outstanding may require the Company to
repurchase all or a portion of the holder's Common Shares, Repricing Common
Shares or Repricing Rights. At any time after the earlier of a holder's receipt
of a notice from the Company that a Triggering Event has occurred and such
holder becoming aware of a Triggering Event, but in no event later than fifteen
business days after a holder's receipt of such notice, any holder of Common
Shares, Repricing Common Shares or Repricing Rights then outstanding may require
the Company to repurchase all or a portion of the holder's Common Shares,
Repricing Common Shares or Repricing Rights. The repurchase price upon the
occurrence of a Major Transaction or a Triggering Event is equal to (i) for each
Common Share with an associated Repricing Right, the greater of (A) 130% of the
Purchase Price and (B) the sum of (I) the Purchase Price and (II) the product of
(x) the Repricing Rate of the Repricing Right on the date of such holder's
delivery of notice of repurchase and (y) the last reported sale price of the
Common Stock on the date of such holder's delivery of a notice of repurchase,
(ii) for each Repricing Right without the associated Common Share, the product
of (x) the Repricing Rate of the Repricing Right on the date of such holder's
delivery of a notice to repurchase and (y) the last reported sale price of the
Common Stock on the date of such holder's delivery of notice of repurchase and
(iii) for each Common Share without an associated Repricing Right, 130% of the
Purchase Price.
The Company shall deliver the applicable repurchase price, in the case of a
repurchase pursuant to the occurrence of a Triggering Event, to such holder
within five business days after the Company's receipt of a notice of repurchase
from the holder and, in the case of a repurchase pursuant to the occurrence of a
Major Transaction, the Company shall deliver the applicable repurchase price
immediately prior to the consummation of the Major
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Transaction; provided that if Common Shares are being repurchased, the holder's
stock certificates shall have been delivered to the Company; provided further
that if the Company is unable to repurchase all of the Common Shares or the
Repricing Rights to be repurchased, the Company shall repurchase an amount from
each holder on a pro rata basis.
Other Terms of the Purchase Agreement. The Purchase Agreement contains customary
representations and warranties of the Company for transactions of this type.
Pursuant to the Purchase Agreement, the Company has agreed, among other
things, to abide by certain limitations on the Company's ability to raise equity
(the "Capital Raising Limitation"). The Capital Raising Limitation prohibits the
Company and its subsidiaries from negotiating with any party for any equity
financing or issue any equity securities of the Company or any subsidiary or
securities convertible or exchangeable into or for equity securities of the
Company or any subsidiary during the period beginning on July 8, 1998 and ending
on and including the 365th day after the Closing Date unless it first delivers a
written notice of the future offering to each Buyer and provides each Buyer an
option to purchase up to its pro rata portion of the shares to be offered in the
future offering.
In addition, on or before November 4, 1998, the Company must provide
stockholders of the Company with a proxy statement relating to the next meeting
of stockholders of the Company, which meeting shall be not later than 60 days
after November 4, 1998, which proxy statement solicits the affirmative vote of
the stockholders for approval of the Company's issuance of all of the Securities
described in the Purchase Agreement (including the approval of issuances as may
be required by the Rules of the Nasdaq Stock Market, Inc.). Certain holders of
capital stock having voting power aggregating over 50% of the total current
outstanding voting capital stock have executed a letter agreement agreeing to
vote in favor of the issuance. If the Company fails to hold the meeting by the
deadline described above, then the Company shall pay to each Buyer an amount in
cash equal to the product of (i) the aggregate Purchase Price paid by such Buyer
multiplied by (ii) .025; multiplied by (iii) the quotient of (x) the number of
days after the deadline that a meeting is not held, divided by (y) 30.
Warrants. Pursuant to the Purchase Agreement, on July 8, 1998 the Company issued
the Buyer Warrants to the Buyers. The Buyer Warrants are exercisable for three
years commencing July 8, 1998. The Buyer Warrants are exercisable for an
aggregate of up to 925,000 shares of Common Stock at an exercise price equal to
110% of the Purchase Price. The Buyer Warrants provide for customary adjustments
to the exercise price and number of shares to be issued in the event of certain
dividends and distributions to holders of Common Stock, stock splits,
combinations and mergers. The Buyer Warrants also include customary provisions
with respect to, among other things, transfer of the Buyer Warrants, mutilated
or lost warrant certificates, and notices to holder(s) of the Buyer Warrants.
Registration Rights Agreement. At the time of sale, none of the Common Shares,
the Repricing Common Shares or the Warrant Common Shares will be registered
under the Securities Act and therefore, will be, when issued, "restricted
securities." Effective July 8, 1998, the Company entered into a Registration
Rights Agreement with the Buyers pursuant to which the Buyers are entitled to
certain rights with respect to the registration under the Securities Act of the
Common Shares, the Repricing Common Shares and the Warrant Common Shares (the
"Registrable Securities").
Pursuant to the Registration Rights Agreement, the Company agreed to file a
registration statement on Form S-3 on or before September 5, 1998, covering the
resale of all of the Registrable Securities. The Company is required to use its
best efforts to cause such registration statement to become effective as soon as
practicable following the filing thereof; but in no event later than the earlier
of (i) November 4, 1998 and (ii) the fifth day after the Company learns that the
Commission will not review the registration statement or that the Commission has
no further comments on the registration statement. The Company filed a Resale
Registration Statement on August 13, 1998 (333-61375) and such registration
statement was declared effective by the Commission on September 22, 1998. If the
registration statement does not become effective by this date, then the Company
is required to make cash payments to the holders of the Registrable Securities
equal to 2.0% of the aggregate Purchase Price paid by each holder on the first
day of each month during the default. The Registration Rights Agreement also
provides for unlimited piggyback registration rights prior to the expiration of
the registration period for the Registrable Securities. The Company generally
bears the expense of any registration statement, while selling holders generally
bear selling expenses such as underwriting fees and discounts. The Registration
Rights Agreement also includes customary indemnification provisions. In
addition, under the Purchase Agreement, the Company cannot file a registration
statement (other than a registration statement filed pursuant to the
Registration
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Rights Agreement, a registration statement filed pursuant to a demand
registration right or a registration statement on Form S-8) covering the sale or
resale of shares of Common Stock with the Securities and Exchange Commission
beginning on July 8, 1998 and ending on the 60th trading day after the date that
the registration statement filed on behalf of the holders has been declared
effective by the Securities and Exchange Commission.
Placement Agents. The Company paid $1.8 million cash and issued warrants to
purchase 480,000 shares of the Company's Common Stock in consideration for Jesup
& Lamont Securities Corp., Phillip Louis Trading Co., Inc. and Laidlaw & Co.
acting as the placement agents in connection with the Private Equity Placement
to the Buyers.
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THE EXCHANGE OFFER; REGISTRATION RIGHTS
PURPOSE AND EFFECT
The Company, the Subsidiary Guarantors and the Initial Purchasers have
entered into a Registration Rights Agreement (the "Registration Rights
Agreement") pursuant to which the Company and the Subsidiary Guarantors have
agreed, for the benefit of the holders of the Notes, (i) to file with the
Commission, on or before September 5, 1998, a Registration Statement (the
"Exchange Offer Registration Statement") under the Securities Act relating to
the Exchange Offer pursuant to which New Notes would be offered in exchange for
the then outstanding Old Notes tendered at the option of the holders thereof and
(ii) to use its reasonable best efforts to cause the Exchange Offer Registration
Statement to become effective as soon as practicable thereafter, but in no event
later than November 4, 1998. The Company has further agreed to commence the
Exchange Offer promptly after the Exchange Offer Registration Statement has
become effective, hold the offer open for at least 20 business days, and
exchange the New Notes for all Old Notes validly tendered and not withdrawn
before the expiration of the Exchange Offer.
Under existing Commission interpretations set forth in no-action letters
issued to third parties, the New Notes would in general be freely transferable
after the Exchange Offer without further registration under the Securities Act,
except that broker-dealers ("Participating Broker-Dealers") receiving New Notes
in the Exchange Offer will be subject to a prospectus delivery requirement with
respect to resales of New Notes. The Commission has taken the position that
Participating Broker-Dealers may fulfill their prospectus delivery requirements
with respect to the New Notes (other than a resale of an unsold allotment from
the original sale of the Old Notes) by delivery of the prospectus contained in
the Exchange Offer Registration Statement. Under the Registration Rights
Agreement, the Company and the Subsidiary Guarantors are required to allow
Participating Broker-Dealers and other persons, if any, subject to similar
prospectus delivery requirements to use the prospectus contained in the Exchange
Offer Registration Statement in connection with the resale of such New Notes.
The Exchange Offer Registration Statement will be kept effective for a period of
up to 90 days after the Exchange Offer has been consummated in order to permit
resales of New Notes acquired by broker-dealers in after-market transactions.
Each holder of Notes (other than certain specified holders) who wishes to
exchange such Notes for New Notes in the Exchange Offer will be required to
represent that any New Notes to be received by it will be acquired in the
ordinary course of its business, that at the time of the commencement of the
Exchange Offer it is not participating, does not intend to participate and has
no arrangement or understanding with any person to participate in, the
distribution (within the meaning of the Securities Act) of the New Notes and
that it is not an Affiliate of the Company.
However, if (i) on or before the date of consummation of the Exchange
Offer, the existing Commission interpretations are changed such that the New
Notes would not in general be freely transferable in such manner on such date or
(ii) the Exchange Offer has not been consummated within the 175 days following
the Closing, the Company will, in lieu of effecting the registration of the New
Notes, use its reasonable best efforts to cause a registration statement under
the Securities Act relating to a shelf registration of the Old Notes for resale
by holders (the "Resale Registration") to become effective and to remain
effective for a period of up to two years after the effective date of such
registration statement. The Company will, in the event of the Resale
Registration, provide to the holders of the Old Notes copies of the prospectus
that is a part of the registration statement filed in connection with the Resale
Registration, notify such holders when the Resale Registration for the Old Notes
has become effective and take certain other actions as are required to permit
unrestricted resales of the Old Notes. A holder of Old Notes that sells such
Notes pursuant to the Resale Registration generally would be required to be
named as a selling securityholder in the related prospectus and to deliver a
prospectus to purchasers, will be subject to certain of the civil liability
provisions under the Securities Act in connection with such sales and will be
bound by the provisions of the Registration Rights Agreement that are applicable
to such a holder (including certain indemnification obligations).
Although the Company intends to file the registration statement previously
described, there can be no assurance that the registration statement will be
filed, or if filed, that it will become effective. In the event that (i) the
Company has not filed the registration statement relating to the Exchange Offer
within 60 days following the Closing, (ii) such registration statement has not
become effective within 120 days following the Closing, (iii) the Exchange Offer
has not been consummated within 30 business days after the effectiveness
deadline for the Exchange Offer Registration Statement, (iv) the Company has not
filed the resale registration statement within 30 days of the date on which the
obligation to file such resale registration statement arose, (v) the resale
registration statement has not been declared effective within 105 days of the
date on which the obligation to file such resale registration statement arose or
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(vi) any registration statement required by the Registration Rights Agreement is
filed and declared effective but shall thereafter cease to be effective (except
as specifically permitted therein) without being succeeded within 30 days by an
additional registration statement filed and declared effective (any such event
referred to in clauses (i) through (vi), the "Registration Default"), interest
("Liquidated Damages") will accrue on the Old Notes and the New Notes (in
addition to the stated interest on the Old Notes and the New Notes) from and
including the date on which any such Registration Default shall occur to but
excluding the date on which all Registration Defaults have been cured.
Liquidated Damages will accrue at a rate of 0.5% per annum during the 90-day
period immediately following the occurrence of any Registration Default and
shall increase by 0.25% per annum at the end of each subsequent 90-day period,
but in no event shall such rate exceed 1.50% per annum.
All accrued Liquidated Damages shall be paid to Holders in the same manner
in which payments of other interest are made pursuant to the Indenture. See
"Description of Notes -- General."
The summary herein of certain provisions of the Registration Rights
Agreement does not purport to be complete and is subject to, and is qualified in
its entirety by reference to, all the provisions of the Registration Rights
Agreement, a copy of which will be available upon request to the Company.
The Old Notes and the New Notes will be considered collectively to be a
single class for all purposes under the Indenture, including, without
limitation, waivers, amendments, redemptions and Offers to Purchase, and for
purposes of the Description of Notes (except under this "Exchange Offer;
Registration Rights") all references herein to the "Notes" shall be deemed to
refer collectively to the Old Notes and any New Notes, unless the context
otherwise requires.
CONSEQUENCES OF FAILURE TO EXCHANGE
The Old Notes are, and the Company expects the New Notes to be upon
issuance, designated for trading in the PORTAL market. To the extent Old Notes
are tendered and accepted in the Exchange Offer, the principal amount of
outstanding Old Notes will decrease with a resulting decrease in the liquidity
in the market therefor. Following the consummation of the Exchange Offer,
holders of Old Notes who were eligible to participate in the Exchange Offer but
who did not tender their Old Notes will not be entitled to certain rights under
the Registration Rights Agreement, and such Old Notes will continue to be
subject to certain restrictions on transfer. In general, Old Notes may not be
offered or sold, unless registered under the Securities Act and applicable state
securities laws, except pursuant to an exemption from, or in a transaction not
subject to, the Securities Act and applicable state securities laws. The Company
does not intend to register the Old Notes under the Securities Act and, after
consummation of the Exchange Offer, will not be obligated to do so.
TERMS OF THE EXCHANGE OFFER
Upon the terms and subject to the conditions set forth in this Prospectus
and in the Letter of Transmittal, the Company will accept any and all Old Notes
validly tendered and not withdrawn prior to 5:00 p.m., New York City time, on
the Expiration Date. As soon as practicable after the Expiration Date, the
Company will issue a principal amount of New Notes in exchange for each like
principal amount of outstanding Old Notes accepted in the Exchange Offer.
Holders may tender some or all of their Old Notes pursuant to the Exchange
Offer. However, Old Notes may be tendered only in integral multiples of $1,000
in principal amount.
The form and terms of the New Notes are identical to the form and terms of
the Old Notes, except that the Old Notes were offered and sold in reliance upon
certain exemptions from registration under the Securities Act, while the
offering and sale of the New Notes in exchange for the Old Notes have been
registered under the Securities Act, with the result that the New Notes will not
bear any legends restricting their transfer. Also, holders of the New Notes will
not be entitled to certain rights under the Registration Rights Agreement. The
New Notes will evidence the same debt as the Old Notes and will be issued
pursuant to, and entitled to the benefits of, the Indenture.
As of the date of this Prospectus, $125 million aggregate principal amount
of the Old Notes was outstanding and registered in the name of Cede & Co., as
nominee for DTC. The Company has fixed the close of business on October 13,
1998, as the record date for the Exchange Offer for purposes of determining the
persons to whom this Prospectus, together with the Letter of Transmittal, will
initially be sent. Holders of Old Notes do not have any appraisal or dissenters'
rights under the General Corporation Law of the State of Delaware or the
Indenture in
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connection with the Exchange Offer. The Company intends to conduct the Exchange
Offer in accordance with the applicable requirements of the Exchange Act and the
rules and regulations of the Commission promulgated thereunder, including Rule
14e-1 thereunder.
The Company shall be deemed to have accepted validly tendered Old Notes
when, as, and if the Company has given oral or written notice thereof to the
Exchange Agent. The Exchange Agent will act as agent for the tendering holders
for the purpose of receiving the New Notes from the Company. If any tendered Old
Notes are not accepted for exchange because of an invalid tender, the occurrence
of certain other events set forth herein or otherwise, the certificates for such
unaccepted Old Notes will be returned, without expense, to the tendering holder
thereof as promptly as practicable after the Expiration Date.
Holders who tender Old Notes in the Exchange Offer will be required to pay
any brokerage commissions or fees or, subject to the instructions in the Letter
of Transmittal, transfer taxes with respect to the exchange of Old Notes
pursuant to the Exchange Offer. See "The Exchange Offer -- Solicitation of
Tenders; Fees and Expenses."
EXPIRATION DATE; EXTENSIONS; AMENDMENTS
The term "Expiration Date" shall mean 5:00 p.m., New York City time, on
November 18, 1998, unless the Company, in its sole discretion, extends the
Exchange Offer, in which case the term "Expiration Date" shall mean the latest
date and time to which the Exchange Offer is extended. In order to extend the
Exchange Offer, the Company will notify the Exchange Agent of any extension by
oral or written notice prior to 9:00 a.m., New York City time, on the next
business day after the previously scheduled Expiration Date. The Company
reserves the right, in its sole discretion, (i) to delay accepting any Old
Notes, to extend the Exchange Offer or, if any of the conditions set forth under
"The Exchange Offer -- Conditions" shall not have been satisfied, to terminate
the Exchange Offer, by giving oral or written notice of such delay, extension or
termination to the Exchange Agent, or (ii) to amend the terms of the Exchange
Offer in any manner. If the Exchange Offer is amended in a manner determined by
the Company to constitute a material change, the Company will promptly disclose
such amendment in a manner reasonably calculated to inform the holders of the
Old Notes of such amendment. Without limiting the manner in which the Company
may choose to make public announcements of any delay in acceptance, extension,
termination or amendment of the Exchange Offer, the Company shall have no
obligation to publish, advertise, or otherwise communicate any such public
announcement, other than by making a timely release to the Dow Jones News
Service.
INTEREST ON THE NEW NOTES
The New Notes will bear interest from the date of issuance of the Old Notes
that are tendered for exchange for the New Notes. Accordingly, holders of Old
Notes accepted for exchange will not receive interest that is accrued but unpaid
on the Old Notes at the time of tender, but such interest will be payable on the
first interest payment date after the consummation of the Exchange Offer.
Holders of Old Notes accepted for exchange in the Exchange Offer will be deemed
to have waived the right to receive interest accrued but unpaid thereon as of
the date of exchange. Interest on the New Notes will be payable semi-annually on
January 1 and July 1 of each year, commencing January 1, 1999.
PROCEDURES FOR TENDERING
Only a registered holder of Old Notes may tender Old Notes in the Exchange
Offer. Except as set forth under "The Exchange Offer -- Book Entry Transfer," to
tender in the Exchange Offer a holder must complete, sign and date the Letter of
Transmittal, or a copy thereof, have the signatures thereon guaranteed if
required by the Letter of Transmittal, and mail or otherwise deliver the Letter
of Transmittal or copy to the Exchange Agent for receipt prior to 5:00 p.m. on
the Expiration Date. In addition, either (i) certificates for such Old Notes
must be received by the Exchange Agent along with the Letter of Transmittal,
(ii) a timely confirmation of a book-entry transfer (a "Book-Entry
Confirmation") of such Old Notes into the Exchange Agent's account at DTC (the
"Book-Entry Transfer Facility") pursuant to the procedure for book-entry
transfer described below, must be received by the Exchange Agent prior to the
Expiration Date, or (iii) the holder must comply with the guaranteed delivery
procedures described below. To be tendered effectively, the Old Notes, Letter of
Transmittal and other required documents must be received by the Exchange Agent
at the address set forth under "The Exchange Offer -- Exchange Agent" prior to
5:00 p.m. on the Expiration Date.
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The tender by a holder that is not withdrawn before the Expiration Date
will constitute an agreement between that holder and the Company in accordance
with the terms and subject to the conditions set forth herein and in the Letter
of Transmittal.
THE METHOD OF DELIVERY OF OLD NOTES AND THE LETTER OF TRANSMITTAL AND ALL
OTHER REQUIRED DOCUMENTS TO THE EXCHANGE AGENT IS AT THE ELECTION AND RISK OF
THE HOLDER. INSTEAD OF DELIVERY BY MAIL, IT IS RECOMMENDED THAT HOLDERS USE AN
OVERNIGHT OR HAND DELIVERY SERVICE. IN ALL CASES, SUFFICIENT TIME SHOULD BE
ALLOWED TO ASSURE DELIVERY TO THE EXCHANGE AGENT BEFORE 5:00 P.M. ON THE
EXPIRATION DATE AND PROPER INSURANCE SHOULD BE OBTAINED. NO LETTER OF
TRANSMITTAL OR OLD NOTES SHOULD BE SENT TO THE COMPANY. HOLDERS MAY REQUEST
THEIR RESPECTIVE BROKERS, DEALERS, COMMERCIAL BANKS, TRUST COMPANIES, OR
NOMINEES TO EFFECT THESE TRANSACTIONS FOR SUCH HOLDERS.
Any beneficial owner whose Old Notes are registered in the name of a
broker, dealer, commercial bank, trust company, or other nominee and who wishes
to tender should contact the registered holder promptly and instruct the
registered holder to tender on the beneficial owner's behalf. If the beneficial
owner wishes to tender on its own behalf, such beneficial owner must, prior to
completing and executing the Letter of Transmittal and delivering such
beneficial owner's Old Notes, either make appropriate arrangements to register
ownership of the Old Notes in the beneficial owner's name or obtain a properly
completed bond power from the registered holder. The transfer of registered
ownership may take considerable time.
Signatures on a Letter of Transmittal or a notice of withdrawal, as the
case may be, must be guaranteed by an Eligible Institution (defined herein)
unless the Old Notes tendered pursuant thereto are tendered (i) by a registered
holder who has not completed the box titled "Special Registration Instructions"
or "Special Delivery Instructions" on the Letter of Transmittal or (ii) for the
account of an Eligible Institution. If signatures on a Letter of Transmittal or
a notice of withdrawal, as the case may be, are required to be guaranteed, the
guarantee must be by any eligible guarantor institution that is a member of or
participant in the Securities Transfer Agents Medallion Program, the New York
Stock Exchange Medallion Signature Program or the Stock Exchange Medallion
Program (an "Eligible Institution").
If the Letter of Transmittal is signed by a person other than the
registered holder of any Old Notes listed therein, such Old Notes must be
endorsed or accompanied by a properly completed bond power, signed by the
registered holder as that registered holder's name appears on the Old Notes with
the signature thereon guaranteed by an Eligible Institution.
If the Letter of Transmittal or any Old Notes or bond powers are signed by
trustees, executors, administrators, guardians, attorneys-in-fact, officers of
corporations, or others acting in a fiduciary or representative capacity, such
persons should so indicate when signing, and evidence satisfactory to the
Company of their authority to so act must be submitted with the Letter of
Transmittal, unless waived by the Company.
All questions as to the validity, form, eligibility (including time of
receipt), acceptance and withdrawal of tendered Old Notes will be determined by
the Company in its sole discretion, which determination will be final and
binding. The Company reserves the absolute right to reject any and all Old Notes
not properly tendered or any Old Notes the Company's acceptance of which would,
in the opinion of counsel for the Company, be unlawful. The Company also
reserves the right to waive any defects, irregularities or conditions of tender
as to particular Old Notes. The Company's interpretation of the terms and
conditions of the Exchange Offer (including the instructions in the Letter of
Transmittal) will be final and binding on all parties. Unless waived, any
defects or irregularities in connection with tenders of Old Notes must be cured
within such time as the Company shall determine. Although the Company intends to
notify holders of defects or irregularities with respect to tenders of Old
Notes, neither the Company, the Exchange Agent nor any other person shall incur
any liability for failure to give such notification. Tenders of Old Notes will
not be deemed to have been made until such defects or irregularities have been
cured or waived. Any Old Notes received by the Exchange Agent that the Company
determines are not properly tendered and as to which the defects or
irregularities have not been cured or waived will be returned by the Exchange
Agent to the tendering holders, unless otherwise provided in the Letter of
Transmittal, as soon as practicable following the Expiration Date.
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In addition, subject to the Company's contractual obligations, the Company
reserves the right in its sole discretion to purchase or make offers for any Old
Notes that remain outstanding after the Expiration Date or, as set forth under
"The Exchange Offer -- Conditions," to terminate the Exchange Offer and, to the
extent permitted by applicable law, purchase Old Notes in the open market, in
privately negotiated transactions or otherwise. The terms of any such purchases
or offers could differ from the terms of the Exchange Offer.
By tendering, each holder will represent to the Company that, among other
things, (i) New Notes to be acquired by such holder of Old Notes in connection
with the Exchange Offer are being acquired by such holder in the ordinary course
of business of such holder, (ii) such holder has no arrangement or understanding
with any person to participate in the distribution of the New Notes, (iii) such
holder acknowledges and agrees that any person who is a broker-dealer registered
under the Exchange Act or is participating in the Exchange Offer for the
purposes of distributing the New Notes must comply with the registration and
prospectus delivery requirements of the Securities Act in connection with a
secondary resale transaction of the New Notes acquired by such person and cannot
rely on the position of the staff of the Commission set forth in certain
no-action letters, (iv) such holder understands that a secondary resale
transaction described in clause (iii) above and any resales of New Notes
obtained by such holder in exchange for Old Notes acquired by such holder
directly from the Company should be covered by an effective registration
statement containing the selling security holder information required by Item
507 or Item 508, as applicable, of Regulation S-K of the Commission and (v) such
holder is not an "affiliate," as defined in Rule 405 under the Securities Act,
of the Company. If the holder is a broker-dealer that will receive New Notes for
such holder's own account in exchange for Old Notes that were acquired as a
result of market-making activities or other trading activities, such holder will
be required to acknowledge in the Letter of Transmittal that such holder will
deliver a prospectus in connection with any resale of such New Notes; however,
by so acknowledging and by delivering a prospectus, such holder will not be
deemed to admit that it is an "underwriter" within the meaning of the Securities
Act. See "Plan of Distribution."
In all cases, issuance of New Notes for Old Notes that are accepted for
exchange pursuant to the Exchange Offer will be made only after timely receipt
by the Exchange Agent of certificates for such Old Notes or a timely Book-Entry
Confirmation of such Old Notes into the Exchange Agent's account at the
Book-Entry Transfer Facility, a properly completed and duly executed Letter of
Transmittal (or, with respect to DTC and its participants, electronic
instructions in which the tendering holder acknowledges its receipt of and
agreement to be bound by the Letter of Transmittal), and all other required
documents. If any tendered Old Notes are submitted for a greater principal
amount than the holder desires to exchange, such unaccepted or non-exchanged Old
Notes will be returned without expense to the tendering holder thereof (or, in
the case of Old Notes tendered by book-entry transfer into the Exchange Agent's
account at the Book-Entry Transfer Facility pursuant to the book-entry transfer
procedures described below, such non-exchanged Old Notes will be credited to an
account maintained with such Book-Entry Transfer Facility) as promptly as
practicable after the expiration of the Exchange Offer.
BOOK-ENTRY TRANSFER
The Exchange Agent will make a request to establish an account with respect
to the Old Notes at the Book-Entry Transfer Facility for purposes of the
Exchange Offer within two business days after the date of this Prospectus, and
any financial institution that is a participant in the Book-Entry Transfer
Facility system may make book-entry delivery of Old Notes being tendered by
causing the Book-Entry Transfer Facility to transfer such Old Notes into the
Exchange Agent's account at the Book-Entry Transfer Facility in accordance with
such Book-Entry Transfer Facility's procedures for transfer. However, although
delivery of Old Notes may be effected through book-entry transfer at the
Book-Entry Transfer Facility, the Letter of Transmittal or copy thereof, with
any required signature guarantees and any other required documents, must, in any
case other than as set forth in the following paragraph, be transmitted to and
received by the Exchange Agent at the address set forth under "The Exchange
Offer -- Exchange Agent" on or prior to the Expiration Date or the guaranteed
delivery procedures described below must be complied with.
DTC's Automated Tender Offer Program ("ATOP") is the only method of
processing exchange offers through DTC. To accept the Exchange Offer through
ATOP, participants in DTC must send electronic instructions to DTC through DTC's
communication system in lieu of sending a signed, hard copy Letter of
Transmittal. DTC is obligated to communicate those electronic instructions to
the Exchange Agent. To tender Old Notes through ATOP, the electronic
instructions sent to DTC and transmitted by DTC to the Exchange Agent must
contain the character by which the participant acknowledges its receipt of and
agrees to be bound by the Letter of Transmittal.
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GUARANTEED DELIVERY PROCEDURES
If a registered holder of the Old Notes desires to tender such Old Notes
and the Old Notes are not immediately available, or time will not permit such
holder's Old Notes or other required documents to reach the Exchange Agent
before the Expiration Date, or the procedure for book-entry transfer cannot be
completed on a timely basis, a tender may be effected if (i) the tender is made
through an Eligible Institution, (ii) prior to the Expiration Date, the Exchange
Agent received from such Eligible Institution a properly completed and duly
executed Letter of Transmittal (or a facsimile thereof) and Notice of Guaranteed
Delivery, substantially in the Form provided by the Company (by telegram, telex,
facsimile transmission, mail or hand delivery), setting forth the name and
address of the holder of Old Notes and the amount of Old Notes tendered, stating
that the tender is being made thereby and guaranteeing that within three New
York Stock Exchange ("NYSE") trading days after the date of execution of the
Notice of Guaranteed Delivery, the certificates for all physically tendered Old
Notes, in proper Form for transfer, or a Book-Entry Confirmation, as the case
may be, and any other documents required by the Letter of Transmittal will be
deposited by the Eligible Institution with the Exchange Agent, and (iii) the
certificates for all physically tendered Old Notes, in proper Form for transfer,
or a Book-Entry Confirmation, as the case may be, and all other documents
required by the Letter of Transmittal, are received by the Exchange Agent within
three NYSE trading days after the date of execution of the Notice of Guaranteed
Delivery.
WITHDRAWAL RIGHTS
Tenders of Old Notes may be withdrawn at any time prior to 5:00 p.m., New
York City time, on the Expiration Date.
For a withdrawal of a tender of Old Notes to be effective, a written or
(for DTC participants only) electronic ATOP transmission notice of withdrawal
must be received by the Exchange Agent at its address set forth herein prior to
5:00 p.m., New York City time, on the Expiration Date. Any such notice of
withdrawal must (i) specify the name of the person having deposited the Old
Notes to be withdrawn (the "Depositor"), (ii) identify the Old Notes to be
withdrawn (including the certificate number or numbers and principal amount of
such Old Notes), (iii) be signed by the holder in the same manner as the
original signature on the Letter of Transmittal by which such Old Notes were
tendered (including any required signature guarantees) or be accompanied by
documents of transfer sufficient to have the Trustee with respect to the Old
Notes register the transfer of such Old Notes into the name of the person
withdrawing the tender and (iv) specify the name in which any such Old Notes are
to be registered, if different from that of the Depositor. All questions as to
the validity, Form and eligibility (including time of receipt) of such notices
will be determined by the Company, in its sole discretion, whose determination
shall be final and binding on all parties. Any Old Notes so withdrawn will be
deemed not to have been validly tendered for exchange for purposes of the
Exchange Offer. Any Old Notes which have been tendered for exchange but which
are not exchanged for any reason will be returned to the holder thereof without
cost to such holder as soon as practicable after withdrawal, rejection of tender
or termination of the Exchange Offer. Properly withdrawn Old Notes may be
retendered by following one of the procedures described under "The Exchange
Offer -- Procedures for Tendering" at any time on or prior to the Expiration
Date.
CONDITIONS
Notwithstanding any other term of the Exchange Offer, the Company shall not
be required to accept for exchange, or exchange New Notes for, any Old Notes,
and may terminate the Exchange Offer as provided herein before the acceptance of
such Old Notes, if (i) the Exchange Offer shall violate applicable law or any
applicable interpretation of the staff of the Commission, (ii) any action or
proceeding is instituted or threatened in any court or by any governmental
agency that might materially impair the ability of the Company to proceed with
the Exchange Offer or any material adverse development has occurred in any
existing action or proceeding with respect to the Company, or (iii) any
governmental approval has not been obtained, which approval the Company shall
deem necessary for the consummation of the Exchange Offer. If the Company
determines in its sole discretion that any of the conditions are not satisfied,
the Company may (i) refuse to accept any Old Notes and return all tendered Old
Notes to the tendering holders (or, in the case of Old Notes tendered by
book-entry transfer into the Exchange Agent's account at the Book-Entry Transfer
Facility pursuant to the book-entry transfer procedures described above, such
Old Notes will be credited to an account maintained with such Book-Entry
Transfer Facility), (ii) extend the Exchange Offer and retain all Old Notes
tendered prior to the expiration of the Exchange Offer, subject, however,
37
<PAGE> 39
to the rights of holders to withdraw such Old Notes (see "-- Withdrawal Rights")
or (iii) waive such unsatisfied conditions with respect to the Exchange Offer
and accept all properly tendered Old Notes which have not been withdrawn. If
such waiver constitutes a material change to the Exchange Offer, the Company
will promptly disclose such waiver by means of a prospectus supplement that will
be distributed to the registered holders, and the Company will extend the
Exchange Offer for a period of five to ten business days, depending upon the
significance of the waiver and the manner of disclosure to the registered
holders, if the Exchange Offer would otherwise expire during such
five-to-ten-business-day period.
EXCHANGE AGENT
All executed Letters of Transmittal should be directed to the Exchange
Agent. Harris Trust and Savings Bank has been appointed as Exchange Agent for
the Exchange Offer. Questions, requests for assistance and requests for
additional copies of this Prospectus or of the Letter of Transmittal should be
directed to the Exchange Agent addressed as follows:
BY REGISTERED OR CERTIFIED MAIL:
Harris Trust and Savings Bank
c/o Harris Trust Company of New York
P.O. Box 1010
Wall Street Station
New York, New York 10268-1010
BY OVERNIGHT MAIL OR HAND DELIVERY:
Harris Trust and Savings Bank
c/o Harris Trust Company of New York
88 Pine Street, 19th Floor
New York, New York 10005
BY FACSIMILE:
(212) 701-7636
CONFIRM BY TELEPHONE:
(212) 701-7624
SOLICITATIONS OF TENDERS; FEES AND EXPENSES
The expenses of soliciting acceptances to the Exchange Offer will be borne
by the Company. The principal solicitation is being made by mail; however,
additional solicitations may be made in person or by telephone by officers and
employees of the Company. The Company has not retained any dealer-manager or
similar agent in connection with the Exchange Offer and will not make any
payments to brokers, dealers or others soliciting acceptances of the Exchange
Offer. The Company, however, will pay the Exchange Agent reasonable and
customary fees for its services and will reimburse it for its reasonable
out-of-pocket expenses in connection therewith. Other cash expenses to be
incurred in connection with the Exchange Offer and to be paid by the Company
include registration, accounting and legal fees and printing costs, among
others.
ACCOUNTING TREATMENT
For accounting purposes, the Company will recognize no gain or loss as a
result of the Exchange Offer. The expenses of the Exchange Offer will be
amortized over the term of the New Notes.
The Company will pay all transfer taxes, if any, applicable to the exchange
of Old Notes pursuant to the Exchange Offer. If, however, a transfer tax is
imposed for any reason other than the exchange of the Old Notes pursuant to the
Exchange Offer, then the amount of any such transfer taxes (whether imposed on
the registered holder or other persons) will be payable by the tendering holder.
If satisfactory evidence of payment of such taxes or exemption therefrom is not
submitted with the Letter of Transmittal, the amount of such taxes will be
billed directly to such tendering holder.
38
<PAGE> 40
TRANSFER TAXES
Holders who tender their Old Notes for exchange will not be obligated to
pay any transfer taxes in connection therewith, except that holders who instruct
the Company to register New Notes in the name of, or request that Old Notes not
tendered or not accepted in the Exchange Offer be returned to, a person other
than the registered tendering holder will be responsible for the payment of any
applicable transfer tax thereon.
39
<PAGE> 41
USE OF PROCEEDS
There will be no cash proceeds to the Company from the Exchange Offer.
The net proceeds from the Old Note Offering and the Private Equity
Placement, after deducting underwriting discounts, placement fees and offering
expenses, were approximately $151.4 million. The sources and uses of net
proceeds to the Company from the Old Note Offering and the Private Equity
Placement are summarized as follows (dollars in millions):
<TABLE>
<CAPTION>
<S> <C>
SOURCES:
Old Note Offering, net of underwriting discounts and expenses..... $120,000,000
------------
Private Equity Placement, net of expenses......................... 30,900,000
------------
Total........................................................ $151,400,000
============
USES:
Repayment of indebtedness......................................... $151,400,000
------------
Total........................................................ $151,400,000
============
</TABLE>
The net proceeds received by the Company from the Offerings completed on
July 8, 1998 of approximately $144.5 million and on July 20, 1998 of
approximately $6.9 million were used to repay indebtedness outstanding under the
Company's Credit Agreement and to repay indebtedness outstanding under the
Bridge Facilities. Substantially all of this indebtedness was incurred to fund
the Company's acquisition of net revenue interests and royalty interests in
producing oil and natural gas properties from certain trusts managed by J.P.
Morgan Investments. Immediately following such repayments, the amount of
indebtedness outstanding under the Credit Agreement was $10.3 million.
The indebtedness under the Credit Agreement was incurred to fund the
Property Acquisitions and general corporate working capital needs. The proceeds
from the Bridge Facilities were used to partially fund the Morgan Property
Acquisition. Indebtedness outstanding under the Credit Agreement bears interest
at a rate determined under certain Federal Funds, Prime Rate or LIBOR rate
options and currently bears interest at 8.125% per annum. Indebtedness
outstanding under the Debt Bridge Facility bore interest at a rate of LIBOR plus
4% per annum (currently 9.625% per annum). Indebtedness outstanding under the
Equity Bridge Facility bore interest at a rate of LIBOR plus 6% per annum
(currently 11.625% per annum). As of July 31, 1998, there is approximately $14.7
million available for reborrowing under the Credit Agreement to be used for
general corporate purposes, which may include acquiring oil and natural gas
properties or companies owning the same. The Company intends to reborrow amounts
under the Credit Agreement to fund the exploitation and development, potential
acquisition and exploration of oil and natural gas properties and other general
corporate purposes. See "Description of Other Indebtedness" and "Management's
Discussion and Analysis of Financial Condition and Results of Operations --
Liquidity and Capital Resources" for a description of these facilities.
40
<PAGE> 42
CAPITALIZATION
The following table sets forth the capitalization of Queen Sand Resources
at June 30, 1998 to give effect to the consummation of (i) the Old Note Offering
and exchange of the Old Notes for New Notes, (ii) the Private Equity Placement
and (iii) the application of the net proceeds received by the Company from the
Old Note Offering and the Private Equity Placement as described in "Use of
Proceeds."
<TABLE>
<CAPTION>
JUNE 30 , 1998
------------------------------
PRO FORMA AS
ADJUSTED FOR THE
HISTORICAL OFFERINGS
--------------- ----------------
(IN THOUSANDS)
<S> <C> <C>
Total long-term indebtedness (including current portion) (1):
Credit Agreement................................................. $ 92,500 $ 10,300
Bridge Facilities................................................ 58,860 --
ECT Revolving Credit Agreement................................... -- --
121/2% Senior Notes due 2008 offered hereby....................... -- 125,000
Other............................................................ 2,259 1,047
------------ -----------
Total long-term indebtedness................................. 153,619 136,347
Stockholders' equity:
Preferred Stock:
Series A Participating Convertible Preferred Stock,
$0.01 par value; 9,600,000 shares authorized;
9,600,000 shares issued and outstanding.................... 96 96
Series B Participating Convertible Preferred Stock,
$0.01 par value; 9,600,000 shares authorized;
no shares issued or outstanding............................ -- --
Series C Convertible Preferred Stock, $0.01 par value;
10,400 shares authorized; 10,400 shares issued and
outstanding................................................ -- --
Common Stock, $0.0015 par value; 100,000,000 shares
authorized; 30,754,577 shares issued and outstanding 50 56
on a pro forma basis...........................................
Additional paid-in capital....................................... 34,012 64,507
Accumulated deficit.............................................. (35,939) (35,939)
Treasury stock, 9,600,000 shares, at cost........................ (5,000) (5,000)
------------ -----------
Total stockholders' equity (net capital deficiency).......... (6,781) 23,720
------------ -----------
Total capitalization................................................. $ 146,838 $ 160,067
============ ===========
</TABLE>
- --------------------
(1) See "Management's Discussion and Analysis of Financial Condition and
Results of Operations -- Liquidity and Capital Resources," "Description of
Other Indebtedness" and Note 3 to the Company's Consolidated Financial
Statements included elsewhere in this Prospectus for additional information
concerning the Company's indebtedness.
41
<PAGE> 43
SELECTED CONSOLIDATED FINANCIAL INFORMATION
The following table sets forth for the periods indicated certain summary
historical and pro forma consolidated financial information of the Company. The
summary historical consolidated financial information for each of the years in
the three years ended June 30, 1998 have been derived from the audited
consolidated financial statements of the Company. The Company completed material
acquisitions of producing properties in each of the periods presented which
affects the comparability of the historical financial and operating data for all
periods presented. The summary historical and pro forma information below should
be read in conjunction with "Management's Discussion and Analysis of Financial
Condition and Results of Operations," the Consolidated Financial Statements of
the Company and the notes thereto, as well as the "Unaudited Pro Forma Condensed
Consolidated Financial Statements" and the notes thereto included elsewhere in
this Prospectus. Neither the historical results nor the pro forma results are
necessarily indicative of the Company's future operations or financial results.
<TABLE>
<CAPTION>
YEAR ENDED JUNE 30,
--------------------------------------------------------------
PRO FORMA
HISTORICAL AS ADJUSTED
--------------------------------------- -----------------
1996 1997 1998 1998(1)
------------- ----------- -------- -----------------
(IN THOUSANDS,
EXCEPT RATIOS)
<S> <C> <C> <C> <C>
STATEMENT OF OPERATIONS DATA:
Revenues:
Oil and natural gas sales............... $ 2,079 $ 4,381 $ 6,446 $ 6,767
Net Profits Interests and Royalty
Interests(2).......................... -- -- 4,432 27,763
Interest and other...................... 72 300 105 105
----------- ---------- --------- -----------
Total revenues......................... 2,151 4,681 10,983 34,635
----------- ---------- --------- -----------
Expenses:
Production expenses..................... 1,176 2,507 4,546 4,624
Depreciation, depletion and 15,343
amortization.......................... 630 982 4,809
Writedown of oil and gas properties..... -- -- 28,166 28,166
General and administrative.............. 1,113 1,452 2,259 2,959
Interest and financing costs(3)......... 421 878 3,957 17,547
----------- ---------- --------- -----------
Total expenses......................... 3,340 5,819 43,737 68,639
----------- ---------- --------- -----------
Income (loss) before extraordinary
item and income taxes................... (1,189) (1,138) (32,754) (34,004)
Extraordinary item(4)..................... -- 171 -- --
Income taxes.............................. -- -- -- --
----------- ---------- --------- -----------
Net income (loss)......................... $ (1,189) $ (1,309) $ (32,754) $ (34,004)
=========== ========== ========= ===========
OTHER FINANCIAL DATA:
EBITDA(5)................................. $ (210) $ 422 $ 4,072 $ 26,947
Capital expenditures(6)................... 6,235 8,620 159,277 159,277
Ratio of EBITDA to interest
expense(3)(5)(7)........................ NM 0.5X 1.1X 1.6X
Ratio of earnings to fixed
charges(8).............................. NM NM NM NM
</TABLE>
42
<PAGE> 44
<TABLE>
<CAPTION>
AT JUNE 30, 1998
-------------------------------------------
HISTORICAL PRO FORMA(2)
------------------ -----------------
(IN THOUSANDS)
<S> <C> <C>
BALANCE SHEET DATA:
Cash and cash equivalents...... $ 1,029 $ 11,555
Working capital (deficit)...... (425) 4,719
Net property and equipment..... 142,467 142.467
Total assets................... 153,675 166,819
Total debt..................... 153,556 136,200
Stockholders' equity........... (6,781) 23,720
ACNTA(10)...................... 164,770 169,914
</TABLE>
(1) Reflects the pro forma effect of the Note Offering and the Private Equity
Placement. See "Unaudited Pro Forma Condensed Consolidated Financial
Statements," included elsewhere in this Prospectus, for a discussion of the
preparation of these data. Pro forma net cash provided by operating
activities was obtained by adjusting the historical amount for the pro
forma changes in oil and natural gas sales, oil and natural gas production
expenses, general and administrative expenses and interest expense (except
for the amortization of debt costs). See also "Use of Proceeds" and
"Capitalization."
(2) Presented below are the oil and natural gas sales and associated production
expenses from which the NPI and RI revenues are derived:
<TABLE>
<CAPTION>
PRO FORMA YEAR
YEAR ENDED ENDED
JUNE 30, 1998 JUNE 30, 1998
-------------- --------------
(IN THOUSANDS) (IN THOUSANDS)
<S> <C> <C>
Oil and natural gas sales........................ $ 6,219 $ 38,292
Production expenses.............................. 1,787 10,529
--------- ----------
Net profits interests and royalty interests
revenues......................................... $ 4,432 $ 27,763
========= ==========
</TABLE>
(3) For purposes of computing the ratio of EBITDA to interest expense, interest
expense excludes the amortization of debt issuance costs of $101,000 for
the year ended June 30, 1998, and $1.3 million for the pro forma year ended
June 30, 1998.
(4) During the fiscal year ended June 30, 1997, the Company modified the terms
of indebtedness related to certain acquired properties and recognized an
extraordinary loss of $171,381.
(5) EBITDA represents earnings before interest expense, income taxes,
depreciation, depletion and amortization expense, write down of oil and gas
properties and extraordinary items and excludes interest and other income.
EBITDA is not a measure of income or cash flows in accordance with
generally accepted accounting principles, but is presented as a
supplemental financial indicator as to the Company's ability to service or
incur debt. EBITDA is not presented as an indicator of cash available for
discretionary spending or as a measure of liquidity. EBITDA may not be
comparable to other similarly titled measures of other companies. The
Credit Agreement requires the maintenance of certain EBITDA ratios. EBITDA
should not be considered in isolation or as a substitute for net income,
operating cash flow or any other measure of financial performance prepared
in accordance with generally accepted accounting principles or as a measure
of the Company's profitability or liquidity.
(6) Capital expenditures for the year ended June 30, 1998, include the costs of
acquiring the Collins and Ware Properties, the NASGAS Properties, and
Morgan Properties.
(7) EBITDA was insufficient to cover interest expense by $631,000 and $456,000
for the fiscal years ended June 30, 1996 and 1997, respectively.
(8) For purposes of computing the ratio of earnings to fixed charges, fixed
charges consist of interest expense. Earnings consist of earnings before
extraordinary items and income taxes plus fixed charges. Earnings were
insufficient to cover fixed charges by $1.2 million, $1.2 million, $32.8
million and $34.0 million for the fiscal years ended June 30, 1996, 1997
and 1998 and the pro forma year ended June 30, 1998, respectively.
(9) Adjusted Consolidated Net Tangible Assets ("ACNTA") is generally defined as
(a) the sum (without duplication) of (i) SEC PV-10, plus (ii) capitalized
costs attributable to oil and natural gas properties to which no proved oil
and natural gas reserves are attributable, plus (iii) net working capital,
plus (iv) the net book value of each other tangible asset, minus (b)
minority interests and, to the extent not otherwise taken into account,
natural gas balancing liabilities. Pro forma ACNTA of $170.0 million
includes $165.2 million of adjusted SEC PV-10 and $4.8 million of working
capital.
43
<PAGE> 45
UNAUDITED PRO FORMA CONDENSED CONSOLIDATED FINANCIAL INFORMATION
The accompanying Unaudited Pro Forma Condensed Consolidated Financial
Statements reflect the historical financial position and results of operations
of the Company, adjusted to give effect to (i) the Morgan Property Acquisition
(including the incurrence of indebtedness under the Credit Agreement and the
Bridge Facilities and the application of the net proceeds therefrom), (ii) the
NASGAS Property Acquisition, (iii) the Collins and Ware Property Acquisition,
(iv) the Private Equity Placement and the application of the net proceeds
therefrom and (v) the Old Note Offering and the application of the net proceeds
therefrom and the exchange of the Old Notes for New Notes. The Unaudited Pro
Forma Condensed Consolidated Financial Statements are based on the historical
financial statements of the Company and, in part, the statements of net profits
interests and royalty interests revenues of the Morgan Properties included
elsewhere in this Prospectus.
The Unaudited Pro Forma Condensed Consolidated Balance Sheet as of June 30,
1998 assumes the Offerings had been consummated on that date. The Unaudited Pro
Forma Condensed Consolidated Statements of Operations for the year ended June
30, 1998 has been prepared assuming the acquisitions of the Morgan, NASGAS and
Collins and Ware Properties had been completed and the Offerings had been
consummated on July 1, 1997.
The pro forma adjustments are based upon available information and
assumptions that management of the Company believes are reasonable. The
Unaudited Pro Forma Condensed Consolidated Financial Statements do not purport
to represent the financial position or results of operations which would have
occurred had such transactions been consummated on the dates indicated or the
Company's financial position or results of operations for any future date or
period. These Unaudited Pro Forma Condensed Consolidated Financial Statements
and notes thereto should be read in conjunction with the Company's historical
financial statements and the notes thereto, and the statements of (i) net
profits interests and royalty interests revenues of the Morgan Properties and
(ii) operating revenues and direct operating expenses of the Collins and Ware
Properties and the notes thereto, included elsewhere in this Prospectus.
UNAUDITED PRO FORMA CONDENSED CONSOLIDATED BALANCE SHEET
JUNE 30, 1998
$ THOUSANDS
<TABLE>
<CAPTION>
PRO FORMA
COMPANY ADJUSTMENTS FOR AS ADJUSTED FOR
HISTORICAL THE OFFERINGS THE OFFERINGS
------------- --------------- ---------------
<S> <C> <C> <C>
ASSETS:
Current Assets......................................................... $ 6,411 $ 30,500 (1) $ 11,555
120,500 (2)
(142,356)(3)
(3,500)(4)
Net property and equipment............................................. 142,467 142,467
4,500 (2)
Other assets and deferred charges...................................... 4,797 3,500 (4) 12,797
---------- -------------- -----------
Total Assets........................................................ $ 153,675 $ 13,144 $ 166,819
========== ============== ===========
LIABILITIES AND STOCKHOLDERS EQUITY:
Current liabilities.................................................... $ 6,836 $ -- $ 6,836
Long-term obligations, net of current portion.......................... 125,000 (2)
153,619 (142,356)(3) 136,263
---------- -------------- -----------
Total Liabilities................................................... 160,455 (17,356) 143,099
Stockholders' equity:..................................................
Preferred Stock, $.01 par value..................................... 96 96
Common shares stock, $.0015 par value............................... 51 5 (1) 56
Additional paid-in capital.......................................... 34,012 30,495 (1) 64,507
Accumulated deficit................................................. (35,939) (35,939)
Treasury stock...................................................... (5,000) (5,000)
---------- -------------- -----------
Total stockholders' equity...................................... (6,780) 30,500 23,720
Total liabilities and stockholders' equity...................... $ 153,675 $ 13,144 $ 166,819
========== ============== ===========
</TABLE>
See accompanying notes to the unaudited pro forma condensed consolidated
financial statements.
44
<PAGE> 46
UNAUDITED PRO FORMA CONDENSED CONSOLIDATED STATEMENT OF OPERATIONS
FOR THE YEAR ENDED JUNE 30, 1998
(IN THOUSANDS, EXCEPT PER SHARE DATA)
<TABLE>
<CAPTION>
PRO FORMA
ADJUSTMENTS PRO FORMA PRO FORMA PRO FORMA
COLLINS FOR THE FOR THE ADJUSTMENTS AS ADJUSTED
COMPANY AND WARE NASGAS MORGAN PROPERTY PROPERTY FOR THE FOR THE
HISTORICAL HISTORICAL HISTORICAL HISTORICAL ACQUISITIONS ACQUISITIONS OFFERINGS OFFERINGS
------------------------------------------------------------------------------------------------------
(12 MONTHS) (1 MONTH) (8 MONTHS) (9 MONTHS)
<S> <C> <C> <C> <C> <C> <C> <C> <C>
Revenues:
Oil and natural gas sales.. $ 6,446 $ 207 $ 114 $ -- $ -- $ 6,767 $ -- $ 6,767
Net profits interests and
royalty interests........ 4,432 -- -- 23,331 -- 27,763 -- 27,763
Interest and other......... 105 -- -- -- -- 105 -- 105
---------- ------ ------- -------- --------- --------- --------- -----------
Total revenues......... 10,983 207 114 23,331 -- 34,635 -- 34,635
Expenses:
Production expenses....... 4,546 54 24 -- -- 4,624 -- 4,624
Depreciation, depletion and 4,809 -- -- -- 10,534(5) 15,343 -- 15,343
amortization.............
Writedown of oil and gas
properties............... 28,166 -- -- -- -- 28,166 -- 28,166
General and administrative. 2,259 -- -- -- 700(6) 2,959 -- 2,959
41(7) (14,799)(10)
Interest and financing 10,593(8) 16,475(11)
costs.................... 3,957 -- -- -- 480(9) 15,071 800(12) 17,547
---------- ------ ------- -------- --------- --------- --------- -----------
Total expenses............. 43,737 54 24 -- 22,348 66,163 2,476 68,639
Net income (loss) before
income taxes............... (32,754) 153 90 23,331 (22,348) (31,528) (2,476) (34,004)
Income taxes................. -- -- -- -- -- -- -- --
---------- ------ ------- -------- --------- --------- --------- -----------
Net income (loss)............ $ (32,754) $ 153 $ 90 $ 23,331 $ (22,348) $ (31,528) $ (2,476) $ (34,004)
========== ====== ======= ========= ========= ========= ========= ===========
Net (loss) per common share.. $ (1.44) $ (1.17)
========== ==========
Shares used in computing
net loss per common share.. 22,719,177 29,149,987
========== ===========
</TABLE>
See accompanying notes to the unaudited pro forma condensed consolidated
financial statements.
45
<PAGE> 47
NOTES TO UNAUDITED PRO FORMA CONDENSED CONSOLIDATED
FINANCIAL STATEMENTS
NOTE A -- GENERAL
On August 1, 1997, (with an effective date of February 1, 1997) the Company
acquired the Collins and Ware Properties. The adjusted purchase price consisted
of cash of approximately $6.0 million and 1,000,000 shares of the Company's
Common Stock. The cash portion of this acquisition was funded through borrowings
made under the Credit Agreement with Bank of Montreal.
On March 9, 1998 (with an effective date of January 1, 1998), the Company
purchased the NASGAS Properties for net cash consideration of $450,000 and
337,500 shares of the Company's Common Stock.
On April 20, 1998, the Company acquired the Morgan Properties for gross
cash consideration of approximately $150.0 million (approximately $137.9 million
after adjustments for net profits interests and royalty interest revenues and
capital expenditures since October 1, 1997, the effective date of the purchase).
The acquisition was financed with borrowings under the Credit Agreement of
approximately $92.0 million and two $30.0 million Bridge Facilities arranged by
Bank of Montreal.
NOTE B -- UNAUDITED PRO FORMA CONDENSED CONSOLIDATED BALANCE SHEET
The accompanying Unaudited Pro Forma Condensed Consolidated Balance Sheet
has been prepared as if the acquisition of the Morgan Properties and the related
borrowings, the Private Equity Placement and the issuance of the Notes were
consummated on June 30, 1998 and reflects the following adjustments:
(1) To record the issuance of approximately 3,429,000 shares of Common Stock at
$7.00 per share, for gross proceeds of $24 million and the issuance of
3,002,236 shares of Common Stock pursuant to exercise of warrants and
rights for gross proceeds of approximately $8.5 million, net of costs of
issuance.
(2) To record the Old Note Offering, including estimated costs of issuance of
approximately $4.5 million.
(3) To record repayment of borrowings under the Credit Agreement and the
retirement of the Bridge Facilities.
(4) To record the unwinding of the Company's $125.0 million forward LIBOR
interest rate swap agreement.
NOTE C -- UNAUDITED PRO FORMA CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
The accompanying Unaudited Pro Forma Condensed Consolidated Statement of
Operations has been prepared as if the acquisition of the Collins and Ware,
NASGAS and Morgan Properties, the Private Equity Placement and the Note Offering
were consummated on July 1, 1997.
The results of operations of the NASGAS and Collins and Ware Properties
have been included in the historical results of operations of the Company for
periods subsequent to their respective dates of acquisition.
The unaudited pro forma condensed consolidated statement of operations
reflects the following adjustments:
(5) To record incremental depletion expense of approximately $51,000, $12,000
and $10.5 million, for the year ended June 30, 1998 for the Collins and
Ware, NASGAS and Morgan Properties, respectively.
(6) To record estimated incremental general and administrative expenses
relating to administration of the Morgan Properties.
(7) To record interest expense for the one month ended July 31, 1997 on the
borrowing by the Company of $6.0 million under the Credit Agreement to
finance the acquisition of the Collins and Ware Properties, based on a
8.25% interest rate.
46
<PAGE> 48
(8) To record interest expense relating to the borrowings by the Company of
$152.0 million under the Credit Agreement and the Bridge Facilities.
Interest on borrowings under the Credit Agreement and the Bridge Facilities
is based on estimated interest rates of 8.50%, 10% and 12%, respectively.
Interest expense on these borrowings will fluctuate based on changes in
LIBOR. The effect of a 1/8th of a percentage point change in the LIBOR rate
would change interest expense by approximately $190,000 per year.
(9) To record amortization, calculated on a straight line basis, of the
issuance costs of the borrowings under the Credit Agreement and the Bridge
Facilities.
(10) To adjust interest expense to reflect the repayment of borrowings under
the Company's existing Credit Agreement and the retirement of the Bridge
Facilities used to finance the acquisition of the Morgan Properties.
(11) To record interest expense for Notes issued in the Note Offering, based on
a 12.5% interest rate.
(12) To record amortization, calculated on a straight line basis, of the
issuance costs of the Note Offering and the costs of unwinding the LIBOR
swap agreement.
NOTE D -- UNAUDITED PRO FORMA NET LOSS PER COMMON SHARE
The unaudited pro forma net loss per common share is computed by dividing
pro forma net loss by the weighted average number of common shares of the
Company outstanding during the period adjusted for the number of common shares
issued in the Private Equity Placement and the Collins and Ware and NASGAS
Property Acquisitions, as if such shares were outstanding during the entire
period.
47
<PAGE> 49
MANAGEMENT'S DISCUSSION AND ANALYSIS
OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
GENERAL
The Company is an independent energy company which emphasizes growth in oil
and natural gas reserves and production volumes through the acquisition,
exploitation and development of on-shore oil and natural gas properties located
in the United States.
The Company's strategy is to increase its reserves, production, earnings,
cash flow and net asset value by (i) acquiring strategic oil and natural gas
properties in a disciplined manner, (ii) developing, exploiting and exploring
its properties, (iii) achieving low operating costs and (iv) maintaining
financial flexibility.
On March 6, 1995, the Company acquired all of the outstanding common stock
of QSRn in exchange for 19,200,000 shares of Common Stock of the Company. For
accounting purposes, the acquisition has been treated as a recapitalization of
QSRn with QSRn as the acquiror (reverse acquisition). The historical financial
statements of the Company prior to March 6, 1995 are those of QSRn, which have
been retroactively restated for the equivalent number of shares received in the
reverse acquisition. QSRn was formed on August 9, 1994. Prior to the March 6,
1995 acquisition of QSRn, the Company had no material operations.
The Company uses the full cost method of accounting for its investment in
oil and natural gas properties. Under the full cost method of accounting, all
costs of acquisition, exploration and development of oil and natural gas
reserves are capitalized into a "full cost pool" as incurred, and properties in
the pool are depleted and charged to operations using the unit-of-production
method based on the ratio of current production to total proved oil and natural
gas reserves. To the extent that such capitalized costs (net of accumulated
depreciation, depletion and amortization) less deferred taxes exceed the SEC
PV-10 of estimated future net cash flow from proved reserves of oil and natural
gas, and the lower of cost or fair value of unproved properties after income tax
effects, such excess costs are charged to operations. Once incurred, a
write-down of oil and natural gas properties is not reversible at a later date
even if oil or natural gas prices increase. Significant downward revisions of
quantity estimates or declines in oil and natural gas prices from those in
effect on December 31, 1997 which are not offset by other facts could result in
a write-down for impairment of oil and natural gas properties. See "Risk Factors
- -- Financial Reporting Impact of Full Cost Method of Accounting."
The Company has experienced significant growth in reserves, production,
revenue and cash flow since commencing operations. "Management's Discussion and
Analysis of Financial Condition and Results of Operations" should be read in
conjunction with the Consolidated Financial Statements of the Company and the
notes thereto, as well as the "Unaudited Pro Forma Condensed Consolidated
Financial Statements" and the notes thereto, included elsewhere in this
Prospectus. Neither the historical results nor the pro forma results are
necessarily indicative of the Company's future operations or financial results.
COMPARISON OF THE YEARS ENDED JUNE 30, 1998 AND 1997
Revenues. Total revenue during the year ended June 30, 1998 were $11.0
million, an increase of $6.3 million over 1997. Operating revenue from the sale
of natural gas and crude oil was $6.5 million in 1998, while revenues from net
profits interests and royalty interests acquired during 1998 provided additional
revenues of $4.4 million. The Company's revenues are derived from the sale of
3.4 Bcf of natural gas, at an average price per Mcf of $2.27, and 324,557
barrels of crude oil, at an average price per barrel of $15.52. During the year
ended June 30, 1997 the Company generated operating revenue of $4.4 million from
the sale of natural gas and crude oil. The natural gas and crude oil revenues
for the year ended June 30, 1997 were derived from the sale of 546.3 MMcf of
natural gas, at an average price per Mcf of $2.31, and 150,546 barrels of crude
oil, at an average price per barrel of $20.73.
The two periods are not readily comparable because of the significant
growth that the Company experienced during the years ended June 30, 1998 and
1997. Production from properties owned throughout both periods was 467.2 MMcf of
natural gas and 86,295 barrels of crude oil during the year ended June 30, 1998.
This represents an increase of 60.3 MMcf (15%) over the 407.1 MMcf of natural
gas, and a decrease of 17,682 barrels (17%) from the 103,977 barrels of crude
oil produced during the year ended June 30, 1997. The increase in natural gas
production is a reflection of the successful exploitation and development
programs implemented by the Company during the year ended June 30, 1998. The
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<PAGE> 50
decrease in crude oil production is a combination of the natural rate of
depletion of the reservoirs associated with these properties and temporary
reductions in production as certain properties were worked over. Production from
properties acquired during the 1997 and 1998 periods was 2.9 Bcf of natural gas
and 238,262 barrels of crude oil during 1998 as compared to 139.2 MMcf of
natural gas and 46,569 barrels of crude oil during 1997.
Costs and Expenses. Operating costs and expenses for the year ended June
30, 1998, exclusive of a non-cash ceiling test write-down of $28.2 million, were
$15.6 million. Of this total, lease operating expenses and production taxes were
$4.5 million, general and administrative costs were $2.3 million, interest
charges were $4.0 million, and depletion, depreciation and amortization costs
were $4.8 million. Operating costs and expenses for the year ended June 30, 1997
were $5.8 million. Of this total, lease operating expenses and production taxes
were $2.5 million, general and administrative expenses were $1.5 million,
interest and financing charges were $878,000, and depletion, depreciation and
amortization costs were $982,000.
The increase in lease operating expenses is a result of the Company's
increased levels of crude oil and natural gas production. When lease operating
expenses are compared on a cost per unit basis, the cost of producing an Mcfe,
including production taxes, decreased by $0.54 per Mcfe (42%) to $1.19. This
decrease in lease operating costs per unit is primarily the result of the
acquisition of properties having lower operating costs per unit during the
comparable periods. General and administrative expenses have increased by
$806,000 as a result of the increased size of the Company requiring additional
employees; however, on a per unit basis, general and administrative expenses for
the year ended June 30, 1998 were $0.43 per Mcfe, a decrease of $0.57 per Mcfe
(57%). This per unit decline in general and administrative expenses is a result
of the Company's increased level of crude oil and natural gas production. The
increase in depletion, depreciation and amortization costs of $3.8 million is a
result of the increased volume of crude oil and natural gas produced by the
Company and the higher per unit cost of acquisition of the properties acquired
during the year ended June 30, 1998. On a cost per Mcfe of reserves the
depletion, depreciation and amortization costs increased by $0.21 per Mcfe
(31%).
Pursuant to Commission regulations, the Company recorded a $28.2 million
non-cash write-down of the carrying value of its crude oil and natural gas
properties to reflect the impact of low crude oil and natural gas prices at June
30, 1998. The Company was not required to record a similar write-down at June
30, 1997.
Net Loss. The Company has incurred losses since its inception, including
$32.8 million ($1.44 per common share) for the year ended June 30, 1998,
compared to $1.3 million ($0.05 per share) for the year ended June 30, 1997.
These losses are a reflection of the start-up nature of the Company's crude oil
and natural gas production activities. The Company believes, but cannot assure,
that as a result of the acquisitions it has made during the year ended June 30,
1998 that its revenues from natural gas and crude oil are sufficient to cover
its production costs and operating expenses, subject to prevailing prices for
crude oil and natural gas and the volumes thereof produced by the Company. The
Company entered the 1999 fiscal year (July 1, 1998 to June 30, 1999) with a plan
to improve production from the properties it had acquired through June 1998 and
to acquire additional crude oil and natural gas producing properties to provide
the revenue base required to generate additional positive cash flow from
operations. The Company's revenues, profitability and future rate of growth are
substantially dependent upon prevailing prices for crude oil and natural gas and
the volumes of crude oil and natural gas produced by the Company. In addition,
the Company's proved reserves will decline as crude oil and natural gas are
produced unless the Company is successful in acquiring properties containing
proved reserves or conducts successful exploitation and development activities.
COMPARISON OF THE YEARS ENDED JUNE 30, 1997 AND 1996
Revenues. During the year ended June 30, 1997 operating revenue from crude
oil and natural gas was $4.4 million. This consisted of 150,546 barrels of crude
oil, at an average price per barrel of $20.73 and 546,282 Mcf of natural gas, at
an average price per Mcf of $2.31. During the year ended June 30, 1996 the
Company generated operating revenue of $2.1 million from crude oil and natural
gas. This consisted of 102,536 barrels of crude oil, at an average price per
barrel of $18.26, and 153,833 Mcf of natural gas, at an average price per Mcf of
$2.43.
The two periods are not readily comparable because of the significant
growth that the Company has experienced since inception. During the year ended
June 30, 1996 the Company owned certain properties that it acquired on April 10,
1996 in East Texas (the "East Texas Properties") for only 81 days compared to a
full 12 months during
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<PAGE> 51
the year ended June 30, 1997. During the year ended June 30, 1997 the Company
produced 20,009 barrels of crude oil and 347,656 Mcf of natural gas from these
East Texas properties, compared to only 4,966 barrels of crude oil and 85,457
Mcf of natural gas during the 81 days of the year ended June 30, 1996 that it
owned these East Texas properties. During the year ended June 30, 1997 the
Company produced 46,569 barrels of crude oil and 139,231 Mcf of natural gas from
properties that it acquired during the year ended June 30, 1997. There is no
comparable production from these properties for the year ended June 30, 1996.
During the year ended June 30, 1997 the Company produced 83,968 barrels of crude
oil and 59,395 Mcf of natural gas from properties that it also owned throughout
the year ended June 30, 1996. The production from these comparable properties
during the year ended June 30, 1996 was 97,570 barrels of crude oil and 68,376
Mcf of natural gas. This decrease in production of 13,602 barrels (14%) of crude
oil and 8,981 Mcf (13%) of natural gas is consistent with the annual rate of
depletion of the reservoirs associated with these properties.
Costs and Expenses. Operating costs and expenses for the year ended June
30, 1997 were $5.5 million. Of this total, lease operating expenses were $2.2
million ($1.52 per Mcfe) and depletion, depreciation and amortization costs were
$1.0 million ($0.68 per Mcfe). General and administrative costs for the year
ended June 30, 1997 were $1.5 million ($1.00 per Mcfe), interest charges were
$878,000 ($0.61 per Mcfe) and the Company recorded gains on changes in foreign
exchange rates of $300,000. Additionally, the Company incurred an extraordinary
loss of $171,000 when it renegotiated the terms of two notes payable pursuant to
the arrangement of the Bank of Montreal loan facility. Operating costs and
expenses for the year ended June 30, 1996 were $3.3 million. Of this total,
lease operating costs were $1.2 million ($1.53 per Mcfe) and depletion,
depreciation and amortization costs were $630,000 ($0.82 per Mcfe). General and
administrative expenses for the year were $1.1 million ($1.45 per Mcfe).
Interest and financing charges during the year were $421,000 ($0.55 per Mcfe).
The Company generated a further $10,000 in interest income and $62,000 in
unrealized gains in foreign exchange.
The increase in lease operating expenses is a result of the increase in
production over the comparative periods. When lease operating expenses are
compared on a cost per Mcfe basis, the cost of producing a Mcfe decreased by
$0.01 per Mcfe (0.6%). The decrease per Mcfe is the result of lower lease
operating expenses per Mcfe for properties acquired during the year offset by
higher lease operating expenses per Mcfe arising from the significant workover
expenses on properties acquired during the period from August 9, 1994
(inception) to June 30, 1995 and the reduced production related to the depletion
of some of those properties. The increase in depletion, depreciation and
amortization costs is a result of the increased volume of crude oil and natural
gas produced by the Company. On a cost per Mcfe of reserves the depletion,
depreciation and amortization costs declined by $0.14 per Mcfe. This decrease in
depletion, depreciation and amortization is primarily a result of a revision to
the Company's proposed future development program for its crude oil producing
properties in New Mexico. The increase of $339,000 of general and administrative
expenses are a result of the increased management support requirements of the
Company, particularly in light of the amount of time and effort expended in
closing the JEDI transaction. As a function of Mcfe produced, the general and
administrative expenses for the year ended June 30, 1997 decreased by $0.50 per
Mcfe (34%). This decline in general and administrative expenses as a function of
the Mcfe's produced is consistent with expectations. The Company believes that
its general and administrative infrastructure is capable of servicing a
significantly larger revenue base than that which was in place at June 30, 1997.
Net Loss. The Company has incurred losses since its inception, including
$1.3 million ($0.05 per voting share) for the year ended June 30, 1997, compared
to $1.2 million ($0.05 per share) for the year ended June 30, 1996. These losses
are a reflection of the start-up nature of the Company's crude oil and natural
gas production activities. The Company believes, but cannot assure, that as a
result of the acquisitions it has made during the year ended June 30, 1997 and
the acquisition of certain crude oil and natural gas producing properties on
August 1, 1997 that its revenues from crude oil and natural gas are sufficient
to cover its production costs and operating expenses, subject to prevailing
prices for crude oil and natural gas and the volumes thereof produced by the
Company. The Company entered the 1998 fiscal year (July 1, 1997 to June 30,
1998) with a plan to improve production from the properties it had acquired
through June 1997 and to acquire additional oil and natural gas producing
properties to provide the revenue base required to generate additional positive
cash flow from operations. The Company's revenues, profitability and future rate
of growth are substantially dependent upon prevailing prices for crude oil and
natural gas and the volumes of crude oil and natural gas produced by the
Company. In addition, the Company's proved reserves will decline as crude oil
and natural gas are produced unless the Company is successful in acquiring
properties containing proved reserves or conducts successful exploration and
development activities.
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<PAGE> 52
LIQUIDITY AND CAPITAL RESOURCES
General
Consistent with the Company's strategy of acquiring and developing
reserves, the Company has an objective of maintaining as much financing
flexibility as is practicable. Since the Company commenced its oil and natural
gas operations, the Company has utilized a variety of sources of capital to fund
its acquisitions and development and exploitation programs, and to fund its
operations.
The Company's general financial strategy is to use cash flow from
operations, debt financings and the issuance of equity securities to service
interest on the Company's indebtedness, to pay ongoing operating expenses, and
to contribute limited amounts toward further development of the Company's
existing proved reserves as well as additional acquisitions. There can be no
assurance that cash from operations will be sufficient in the future to cover
all such purposes.
The Company has planned development and exploitation activities for all of
its major operating areas. In addition, the Company is continuing to evaluate
oil and natural gas properties for future acquisition. Historically, the Company
has used the proceeds from the sale of its securities in the private equity
market and borrowings under its credit facilities to raise cash to fund
acquisitions or repay indebtedness incurred for acquisitions, and the Company
has also used its securities as a medium of exchange for other companies' assets
in connection with acquisitions. However, there can be no assurance that such
funds will be available to the Company to meet its budgeted capital spending.
Furthermore, the Company's ability to borrow other than under the Credit
Agreement is subject to restrictions imposed by such Credit Agreement. If the
Company cannot secure additional funds for its planned development and
exploitation activities, then the Company will be required to delay or reduce
substantially both of such activities.
Sources of Capital
The Company's principal sources of capital for funding its business
activities have been cash flow from operations, debt financings and the issuance
of equity securities.
The Company's sources of funds from debt financings
include funds available under the Credit Agreement, the ECT Revolving Credit
Agreement, the Bridge Facilities, certain bonds issued to certain European
investors and a capital lease.
The Credit Agreement provides for borrowings up to $125.0 million, subject
to borrowing base limitations (currently $25.0 million), to among other things,
fund development and exploitation expenditures, acquisitions and general working
capital, of which approximately $10.3 million is outstanding. Effective December
29, 1997, the Company established the ECT Revolving Credit Agreement with ECT,
as a lender and as agent for the lenders thereto, to fund up to $10.0 million
for capital costs incurred with future development projects and to fund further
acquisitions. The ECT Revolving Credit Agreement is subordinate to the Credit
Agreement. See "Description of Other Indebtedness."
In April 1998, the Company entered into certain debt and equity bridge
facilities (the "Bridge Facilities") with Bank of Montreal, Enron and an
affiliate of Enron (collectively, the "Bridge Purchasers") to provide financing
to complete the Morgan Acquisition. Pursuant to the Bridge Facilities, the
Company issued notes and warrants (the "Bridge Warrants") to purchase shares of
Common Stock. The Company used the proceeds of the Offerings and borrowings
under the Credit Agreement to repay all indebtedness outstanding under the
Bridge Facilities, whereupon the Bridge Facilities were retired and the Bridge
Warrants terminated. See "Use of Proceeds."
As of July 31, 1998 the Company had issued to investors in Europe
Deutschemark denominated (DEM) 12% Bonds (the "12% Bonds") totaling DEM 1.6
million ($.9 million). Under Regulation S of the Securities Act, the Company is
prohibited from selling these Bonds to U.S. persons (as defined in Regulation
S). In January 1998 the Company discontinued its efforts to sell any additional
12% Bonds. The Company is obligated to make periodic interest payments (January
15 and July 15 of each year) and to repay the principal when it comes due on
July 15, 2000 in DEM. All interest payments have been paid in full at the time
they came due. The funds generated by the Company from operations, which Form
the primary source of funds to pay the interest, are denominated in $US. The
Company is exposed to the risk that, upon repayment, the exchange rate between
DEM and $US may be less favorable than that which existed at the time that the
bonds were issued. This would result in the Company having
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<PAGE> 53
to repay a larger amount of $US than it received initially. Changes in the $US
equivalent of the DEM bonds arising from changes to the DEM:$US exchange rate
are recognized monthly. At July 31, 1998 the Company had recorded unrealized
exchange rate gains of approximately $141,000 (at June 30, 1997 $300,000).
However, there are no assurances that the Company will continue to realize gains
related to favorable changes in the DEM:$US exchange rates in the future.
Unfavorable changes to the DEM:$US exchange rate will result in the Company
recording unrealized exchange rate losses related to the changes as they occur.
The Company believes it has the opportunity to enter into arrangements to manage
its DEM:$US exchange rate risk. At this time, the Company has not entered into
any such arrangements.
The Company has issued both preferred stock and Common Stock for cash to
raise equity to finance the working capital of the Company, to repay existing
indebtedness and to fund acquisitions. In December 1997 the Company raised $10.0
million of gross proceeds through a private institutional placement of preferred
stock. Since July 1, 1997 the Company has also received approximately $13.4
million of cash proceeds from the exercise of previously issued warrants and the
exercise of certain anti-dilution rights of JEDI. In addition, the Company has
also issued Common Stock as partial consideration when acquiring oil and natural
gas producing properties.
On July 8, 1998, the Company completed the Old Note Offering. In addition,
on July 8, 1998 and July 20, 1998, the Company completed the Private Placement.
Pursuant to the Old Note Offering, the Company issued and sold the Old Notes to
certain institutional buyers pursuant to Rules 144A and Regulation D promulgated
under the Securities Act. The Old Notes mature on July 1, 2008, and interest on
the Notes is payable semiannually on January 1 and July 1 of each year,
commencing January 1, 1999 at the rate of 12 1/2% per annum. The payment of the
Old Notes is guaranteed by the Company's three operating subsidiaries. The net
proceeds received by the Company from the Old Note Offering and the Private
Equity Placement completed on July 8, 1998 of approximately $144.5 million and
on July 20, 1998 of approximately $6.9 million were used to repay indebtedness
outstanding under the Company's Credit Agreement, to repay indebtedness
outstanding under the Bridge Facilities, to redeem $1.3 million (2,350,000 DEM)
of Deutschemark denominated bonds and to unwind an interest rate hedge contract
at a cost of $3.5 million. Substantially all of this indebtedness was incurred
to fund the Morgan Property Acquisition.
The Company believes that it can generate sufficient cash flow from
operations to pay the interest charges on all of its interest-bearing debt. The
natural gas price hedging program currently in place provides a degree of
protection against significant decreases in crude oil and natural gas prices.
Furthermore, 92% of the Company's interest-bearing debt is at fixed rates for
extended periods, providing an effective hedge against increases in prevailing
interest rates.
The Company does not have sufficient liquidity or capital to undertake
significant potential acquisition prospects. Therefore, the Company will
continue to be dependent on raising substantial amounts of additional capital
through any one or a combination of institutional or bank debt financing, equity
offerings, debt offerings and internally generated cash flow, or by forming
sharing arrangements with industry participants. Although the Company has been
able to obtain such financings and to enter into such sharing arrangements in
certain of its projects to date, there can be no assurance that it will continue
to be able to do so. Alternatively, the Company may consider issuing additional
securities in exchange for producing properties. There can be no assurance that
any such financings or sharing arrangement can be obtained. Therefore,
notwithstanding the Company's need for substantial amounts of additional
capital, there can be no assurance that it can be obtained.
Further acquisitions and development activities in addition to those for
which the Company is contractually obligated are discretionary and depend to a
significant degree on cash availability from outside sources such as bank debt
and the sale of securities or properties.
Uses of Capital
Since commencing its crude oil and natural gas operations in August 1994
the Company has completed 19 acquisitions of crude oil and natural gas producing
properties. Through June 30, 1998, the Company had expended a total of $176.9
million in acquiring, developing and exploiting crude oil and natural gas
producing properties. Initially, the operations of the Company represented a net
use of funds. As demonstrated in the operating results for the year ended June
30, 1998, the Company generates a positive cash flow from operations. The
Company expects to spend $17 million on capital expenditures through June 1999
for exploitation and development projects.
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<PAGE> 54
INFLATION
During the past several years, the Company has experienced some inflation
in crude oil and natural gas prices with moderate increases in property
acquisition and development costs. During the fiscal year ended June 30, 1998,
the Company received somewhat lower commodity prices for the natural resources
produced from its properties. The results of operations and cash flow of the
Company have been, and will continue to be, affected to a certain extent by the
volatility in crude oil and natural gas prices. Should the Company experience a
significant increase in crude oil and natural gas prices that is sustained over
a prolonged period, it would expect that there would also be a corresponding
increase in crude oil and natural gas finding costs, lease acquisition costs,
and operating expenses.
CHANGES IN PRICES AND HEDGING ACTIVITIES
Annual average crude oil and natural gas prices have fluctuated
significantly over the past three years. The Company's weighted average price
per barrel and the weighted average price per Mcf during the fiscal year ended
June 30, 1998 were $15.52 and $2.27, respectively. For the year ended June 30,
1998, the Company averaged $2.10 per barrel less and $0.15 per Mcf less for its
crude oil and natural gas sales, respectively, than the average NYMEX prices for
the same period. The Company's weighted average price per barrel and the
weighted average price per Mcf during the fiscal year ended June 30, 1997 were
$20.73 and $2.31, respectively. For the year ended June 30, 1996, the Company
averaged $1.56 per barrel less for its crude oil and $0.14 per Mcf for its
natural gas sales than the average NYMEX prices for the same period.
The Company has a commodity price risk management (hedging) strategy that
is designed to provide protection from low commodity prices while providing some
opportunity to enjoy the benefits of higher commodity prices. On April 21 and
22, 1998 the Company entered into a series of natural gas futures contracts with
Bank of Montreal and with an affiliate of Enron. This strategy is designed to
provide a degree of protection of negative shifts in natural gas prices (Henry
Hub Nymex Index) on approximately 75% of its expected natural gas production
from reserves currently classified as proved developed producing during the
fiscal year ending June 30, 1999. At the same time, the Company is able to
participate completely in upward movements in the Henry Hub Nymex Index to the
extent of approximately 50% of its expected natural gas production for the
fiscal year ending June 30, 1999, and up to $2.70 per MMBtu on approximately 25%
of its expected natural gas production for the fiscal year ended June 30, 1999.
The Company did not enter into any hedging contracts related to crude oil
prices. At such time as the price of WTI Nymex increases the Company will
consider entering into futures agreements that will accomplish the same
objectives as that of the natural gas hedging strategy.
In addition to the natural gas contracts entered into on April 25, 1998,
the Company was under contract with an affiliate of Enron for 10,000 barrels of
crude oil per month with a floor of $18.00 per barrel and a ceiling of $20.40
per barrel with the Company participating on 50% of the price of WTI Nymex over
$20.40 for the period from September 1, 1997 through August 31, 1998. The
Company also has a contract for 50,000 MMBtu of natural gas per month with an
affiliate of Enron, with a floor price of $1.90 per MMBtu and a ceiling price of
$2.66 per MMBtu, with the Company participating on 50% of the price of Henry Hub
Nymex Index over $2.66 per MMBtu for the period from September 1, 1997 through
August 31, 1998.
The Company has implemented a comprehensive hedging strategy for its
natural gas production over the next five years. The Company has placed 25% of
the expected natural gas production from its PDPs into a swap at $2.40 per
MMBtu. Ten percent of the Company's expected PDP was hedged in a contract with a
floor of $1.90 per MMBtu. The Company also hedged 40% of its expected PDP with a
series of non-participating collars with ceilings that escalate from $2.70 per
MMBtu to $2.90 per MMBtu over time.
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The table below sets out volume of natural gas hedged with a floor price of
$1.90 per MMBtu with Enron. The volumes presented in this table are divided
equally over the months during the period:
<TABLE>
<CAPTION>
Volume
PERIOD BEGINNING Period Ending (MMBtu)
---------------- ------------- -------
<S> <C> <C>
May 1, 1998........ December 31, 1998 885,000
January 1, 1999.... December 31, 1999 1,080,000
January 1, 2000.... December 31, 2000 880,000
January 1, 2001.... December 31, 2001 740,000
January 1, 2002.... December 31, 2002 640,000
January 1, 2003.... December 31, 2003 560,000
</TABLE>
The table below sets out volume of natural gas hedged with a swap at $2.40
per MMBtu with Enron. The volumes presented in this table are divided equally
over the months during the period:
<TABLE>
<CAPTION>
Volume
PERIOD BEGINNING Period Ending (MMBtu)
---------------- ------------- -------
<S> <C> <C>
May 1, 1998........ December 31, 1998 2,210,000
January 1, 1999.... December 31, 1999 2,710,000
January 1, 2000.... December 31, 2000 2,200,000
January 1, 2001.... December 31, 2001 1,850,000
January 1, 2002.... December 31, 2002 1,600,000
January 1, 2003.... December 31, 2003 1,400,000
</TABLE>
Effective May 1, 1998 through December 31, 2003 the Company has a contract
involving the hedging of a portion of its future natural gas production
involving floor and ceiling prices as set out in the table below. The volumes
presented in this table are divided equally over the months during the period.
<TABLE>
<CAPTION>
VOLUME FLOOR CEILING
PERIOD BEGINNING PERIOD ENDING (MMBtu) PRICE PRICE
- ------------------------- ------------------- ------------ -------- ----------
<S> <C> <C> <C> <C>
May 1, 1998.............. December 31, 1998 3,540,000 $ 2.00 $ 2.70
January 1, 1999.......... December 31, 1999 4,330,000 2.00 2.70
January 1, 2000.......... December 31, 2000 3,520,000 2.00 2.70
January 1, 2001.......... April 30, 2001 990,000 2.00 2.70
May 1, 2001.............. December 31, 2001 1,980,000 2.00 2.80
January 1, 2002.......... April 30, 2002 850,000 2.00 2.80
May 1, 2002.............. December 31, 2002 1,700,000 2.00 2.90
January 1, 2003.......... December 31, 2003 2,250,000 2.00 2.90
</TABLE>
INTEREST RATE HEDGING
The Company entered into a forward LIBOR interest rate swap effective for
the period June 30, 1998 through June 29, 2009 at a rate of 6.30% on $125.0
million. On July 9, 1998, the Company unwound this swap at a cost to the Company
of approximately $3.5 million with borrowings drawn under the Credit Agreement.
YEAR 2000 COMPUTER ISSUE
General. The Company is addressing the potential impact of the Year 2000
("Y2K") issue on its operations. A review of internal systems has been initiated
and a review of the state of readiness of significant suppliers and customers
will be undertaken over the next few months. It is believed that appropriate
remedial action can be completed in advance of the year 2000 and the costs of
such action will not have a material affect on the financial condition or
results of operations of the Company.
State of Readiness. The Company currently uses commercially available
software for its management information ("IT") systems including accounting,
engineering evaluation, acquisition analysis and word processing. This software
is warranted by the suppliers/manufacturers to be Y2K compliant. The Company has
not taken any
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<PAGE> 56
steps to independently verify the truth of such warranties but has no reason to
believe that the software is not as warranted. The Company has begun a review of
non-IT systems which it expects to complete in the next few months.
Costs of Compliance. Management believes that the cost of compliance will
be minimal. As its IT systems were warranted to be compliant when purchased, the
Company has not incurred, nor does it expect to incur any significant
incremental costs to modify or replace such systems to make them compliant.
Non-IT systems are currently being evaluated to determine whether and to what
extent they may be non-compliant. Management does not currently believe that the
amount of non-compliant equipment will be found to be significant nor will the
cost to modify or replace such equipment be material. The Company's products do
not contain any microprocessors.
The Company is seeking written verification from its major suppliers and
customers that they will be Y2K compliant. The costs of seeking verification is
minimal. Management believes that it will not be practical to independently
verify the responses because it does not believe that the Company would be given
access to carry out such verification or that the costs of doing so would be
affordable. The cost of replacing non-compliant or non-responsive suppliers and
customers will not be possible to determine until the review process has
progressed.
Risk. Any Y2K problems that do occur will likely manifest themselves in
reduced production through equipment shut down or impaired liquidity through
inability of customers to take delivery or process payment.
Contingency. The Company plans to establish contingency plans once its
verification program is complete and the risks have been more fully quantified.
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<PAGE> 57
BUSINESS
GENERAL
Queen Sand Resources is an independent energy company which emphasizes
growth in oil and natural gas reserves and production volumes through the
acquisition, exploitation and development of on-shore oil and natural gas
properties located in the United States. Since August 1994, the Company has
grown primarily through 19 acquisitions of oil and natural gas properties for
aggregate consideration of approximately $166.7 million. As a result of the
Company's activities to date, it has assembled a geographically and geologically
diverse property base, characterized by long-lived production and multiple
opportunities for further development, exploitation and exploration. For the
year ended June 30, 1998, the Company had revenues of $10.9 million and EBITDA
of $4.1 million. As of August 31, 1998, the officers and directors of the
Company collectively had a beneficial interest in or had a proxy for
approximately 20.1% of the Company's voting capital stock, and JEDI, an
affiliate of Enron, beneficially owned approximately 33.0% of the Company's
voting capital stock.
The Company's objective is to increase its reserves, production, earnings,
cash flow and net asset value through a growth strategy that seeks to maintain a
diversified portfolio of oil and natural gas reserves with stable production and
operating characteristics. The Company seeks to achieve this objective through a
balanced mix of oil and natural gas property acquisitions coupled with the
development and exploitation of its reserve base. The Company evaluates
potential acquisition properties based on their particular impact upon the
Company's portfolio of reserves. The Company focuses on low reserve replacement
costs, long reserve life, an inventory of attractive development and
exploitation projects, and the potential for reserve and production growth. For
instance, in the April 1998 Morgan Property Acquisition, the Company acquired
certain oil and natural gas property interests representing proved reserves of
149.5 Bcfe, of which 76% was classified as proved developed producing. This
acquisition provided the Company with stable, long-lived production and cash
flow to develop and exploit its inventory of non-producing reserves. In the
March 1998 NASGAS Property Acquisition, the Company acquired certain natural gas
properties with attractive development potential and approximately 36.8 Bcfe of
proved reserves, of which 91% was classified as non-producing. The Company
intends to fully develop these reserves by drilling primarily low-risk
development wells. In aggregate, the Company has currently identified over 252
potential development locations and exploitation projects on its properties. The
Company currently plans to spend approximately $17 million through June 30, 1999
to further develop and exploit its existing properties.
At June 30, 1998, the Company had interests in 1,003 wells (inclusive of 69
service wells), proved reserves of 176 Bcf of natural gas and 7.9 MMBbls of oil
(aggregating approximately 224 Bcfe) with a SEC PV-10 of $165 million, and a
Reserve Life Index of 12 years. Approximately 69% of the Company's reserves was
classified as proved developed producing and approximately 79% of the Company's
total proved reserves was natural gas. The Company's average daily net
production was 47.7 MMcfe for the month of June 1998.
The Company's properties are diversified across 114 producing fields which
are located principally in the southwestern United States. The Company's
interests in the Gilmer Field in East Texas, the J.C. Martin and the
Lopeno/Volpe Fields in South Texas, the Meade Field in Kentucky and the Caprock
Field in New Mexico represent approximately 62% of its proved reserves (on a SEC
PV-10 basis) as of June 30, 1998. In addition, the Company has substantial
properties in Oklahoma and Louisiana. At June 30, 1998, the Company held
interests in leases covering approximately 259,016 gross (121,129 net) acres.
The Company was incorporated under the laws of the state of Delaware on May
11, 1989 under the name "Park Avenue Capital Corp." Prior to March 1995, the
Company had no substantive operations. The Company operates its business through
three subsidiaries, QSRn, Northland Operating Co., a Nevada corporation
("Northland"), and Corrida Resources, Inc., a Nevada corporation ("Corrida").
On March 6, 1995, the Company acquired all of the outstanding common stock
of QSRn in exchange for 19,200,000 shares of Common Stock of the Company. For
accounting purposes, the acquisition has been treated as a recapitalization of
QSRn with QSRn as the acquiror (reverse acquisition). The historical financial
statements of the Company prior to March 6, 1995 are those of QSRn. QSRn and
Corrida own the material assets of the Company.
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BUSINESS STRATEGY
The Company's strategy is to increase its reserves, production, earnings,
cash flow and net asset value by (i) acquiring strategic oil and natural gas
properties in a disciplined manner, (ii) developing, exploiting and exploring
its properties, (iii) achieving low operating costs and (iv) maintaining
financial flexibility.
o Strategic Acquisitions. The Company has a successful track record of
increasing its reserves through acquisitions, having added an estimated
257.4 Bcfe of proved reserves from 19 acquisitions for aggregate
consideration of $166.7 million or $0.65 per Mcfe since commencing
operations in August 1994 through the date of this Prospectus. The
Company seeks to expand its diversified, long-lived portfolio of oil
and natural gas properties by acquiring producing properties with (i)
identified development and exploitation potential, (ii) controlled-risk
exploration potential, (iii) historically low operating expenses, or
the opportunity to reduce operating expenses, and (iv) geological,
geophysical and other technical and operating characteristics with
which management of the Company has expertise. The Company applies
strict economic and reserve risk criteria in evaluating acquisitions of
oil and natural gas properties.
o Development, Exploitation and Exploration. The Company seeks to
maximize the value and cash flow of its oil and natural gas properties
through development drilling, workovers, recompletions, enhanced
recovery techniques and reductions in operating costs. The Company has
identified over 252 potential development locations and exploitation
projects on its existing portfolio of properties. The Company currently
plans to spend approximately $12 million to drill or participate in the
drilling of approximately 118 wells through June 30, 1999. The Company
also continually evaluates and pursues exploitation opportunities,
including workover and recompletion projects. The Company expects to
spend approximately $5 million on these exploitation projects through
June 30, 1999. Although the Company could increase its exploration
drilling activity in the future, its current strategy includes only
limited investments in exploratory projects.
o Low Operating Costs. The Company's goal is to achieve a lower operating
expense on a per unit (Mcfe) basis than that of its peers. The Company
is pursuing this objective by emphasizing cost controls in its field
operating expenses and acquiring properties with low operating costs
while increasing existing production through development drilling and
effective workover and well maintenance programs. Through these
efforts, the Company has reduced lease operating expenses from $1.52
per Mcfe during the year ended June 30, 1997 to $1.07 per Mcfe for the
year ended June 30, 1998.
o Financial Flexibility. The Company is committed to maintaining
financial flexibility, which management believes is important for the
successful implementation of its growth strategy. In implementing this
strategy, the Company intends to continue using a mixture of debt and
equity. Consistent with this financial strategy, the Company raised an
aggregate of approximately $65.2 million in equity capital from August
9, 1994 through June 30, 1998. On July 8, 1998 and July 20, 1998 the
Company issued an aggregate of 3,428,574 shares of Common Stock for $24
million cash and two holders of warrants exercised their warrants and
certain maintenance rights to purchase an aggregate of 3,074,236 shares
of stock for an aggregate exercise and purchase price of $8.5 million.
As of August 31, 1998, the Company had approximately $14.7 million
available under its Credit Agreement and $10.0 million available under
the ECT Revolving Credit Agreement with ECT. See "Description of Other
Indebtedness." In general, the Company strives to maintain a balanced
asset/liability management program by matching long-lived reserves with
extended maturity liabilities. Furthermore, the Company seeks to
mitigate the effect of decreases in commodity prices by utilizing
hedging instruments. The Company has also entered into, and may in the
future utilize, interest rate hedges.
RECENT PROPERTY ACQUISITIONS
Morgan Property Acquisition
General. On April 20, 1998, the Company acquired various non-operated NPIs
and RIs for gross cash consideration of $150.0 million (net consideration of
approximately $137.9 million after adjustments for net profits interests and
royalty interests revenues and capital expenditures since October 1, 1997, the
effective date of the purchase) in the Morgan Property Acquisition from pension
funds managed by J.P. Morgan Investments. The Morgan Property Acquisition was
financed with borrowings under the Credit Agreement and the Bridge Facilities.
The
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Underlying Properties are primarily located in East Texas, South Texas and the
mid-continent region of the United States. According to Ryder Scott, as of June
30, 1998, the Morgan Properties contained proved reserves of 116 Bcf of natural
gas and 3.4 MMBbls of oil (aggregating 137 Bcfe), of which approximately 77% was
classified as proved developed producing. The Morgan Properties had a SEC PV-10
of $119 million as of June 30, 1998. The Company estimates that as of the
effective date of the Morgan Property Acquisition, the proved reserves
attributed to the Morgan Properties were 149.5 Bcfe.
The Company believes that the Morgan Property Acquisition provides it with
certain benefits, including (i) the enhancement of the Company's portfolio of
high quality reserves with long production histories and low operating costs,
(ii) additional cash flow to fund development and exploitation projects, (iii)
the enhancement of its operational base to grow through further acquisitions,
(iv) significant additional development and exploitation opportunities and (v)
additional geographic core concentration of the Company's existing properties
and operational capabilities. Although the Company did not directly acquire
working interests in the wells located on the Underlying Properties, the Company
believes that its significant interests in certain key Underlying Properties
will enable the Company to influence the timing and manner of development and
exploitation of such key properties. Such influence results from the relatively
large size of the Applicable Percentage in a number of Morgan Properties, and
the desire of the Assignor and/or the operators of particular Underlying
Properties to have the Company pay the Applicable Percentage of the costs of
drilling, completing and equipping new wells or other significant capital
assets; if the Company does not agree to pay such amounts according to the terms
of the Ancillary Agreements, then the Assignor, the operator and/or the other
working interest owners must pay the Applicable Percentage of such costs.
Accordingly, the ability of the Company to select those operations it will
choose to fund gives it significant influence over the development of certain
key Underlying Properties. See "Risk Factors -- Nature of the Net Profits
Interests and Royalty Interests."
Form of Property Ownership. The Morgan Properties burden the Underlying
Properties. The Morgan Properties were conveyed to the Company by means of
various Conveyances. Each Conveyance burdens a working interest in a field or
group of fields. Since tax exempt investors such as the pension funds managed by
J.P. Morgan Investments could not own working interests without incurring income
taxes, the NPIs were structured to yield many of the same economic benefits and
burdens as a working interest owner without the liabilities associated with
leasehold ownership. An NPI is an ownership in the gross production of oil,
natural gas or other minerals attributable to the burdened working interest.
Each NPI is created in a particular Conveyance; each Conveyance contains a
description of the procedure for calculating the monthly payments to the
Company. These Conveyances were intended to convey the Morgan Properties as real
property interests under applicable law. See "Risk Factors -- Nature of the Net
Profits Interests and Royalty Interests."
The various Assignors of NPIs own the Underlying Properties subject to and
burdened by the NPIs conveyed to the Company. Each Assignor receives all
payments relating to the Underlying Properties and is required to pay to the
Company the portion thereof attributable to the NPI. Under each Conveyance, the
amounts payable with respect to the Morgan Properties are computed and paid
monthly. Each Assignor is entitled to retain any amounts attributable to the
Underlying Properties which are not required to be paid to the Company with
respect to the Morgan Properties.
Similarly, the RIs generally entitle the Company to receive a certain
percentage of all of the proceeds of production sold from the particular
Underlying Property, free and clear of all costs of development and operations,
but subject, in certain situations, to its proportionate share of certain
processing and transportation costs. The RI is calculated and paid to the
Company by either the applicable Assignor, the operator or, in some cases, the
purchaser of production from the applicable Underlying Property.
In general, the NPIs provide that the monthly cash amount paid for lease
operating expenses, severance and ad valorem taxes, workover costs, overhead per
well, and other identified expenses be subtracted from the production revenue
received by the burdened working interest (the "net profit" or "Net Cash Flow").
While the Company has audit rights with respect to the proper calculation of Net
Cash Flow, the calculation of Net Cash Flow and payment of the NPI is dependent
upon the financial integrity and competence of the Assignors. Each Assignor is
then required to pay a specified percentage of the Net Cash Flow to the Company
along with a summary of the monthly accounting. Should the Net Cash Flow for a
particular month be negative, the working interest owner recoups any deficit
from future Net Cash Flow before resuming payments to the Company. The Company
elects whether or not to participate in new wells, recompletions and other
capital items proposed by the working interest owners. A related document, the
Ancillary Agreement, provides a procedure allowing such elections. If the
Company elects to
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participate, it pays a percentage of the capital cost to drill, complete, and
equip new wells for production. These capital costs are invoiced directly to the
Company. The NPIs require that Assignor provide all geologic and economic data
necessary to assess new well elections. With this data, the Company's
engineering personnel can develop the technical and operational understanding of
the properties that is necessary to make suggestions and to influence on-going
development activities.
The NPIs are interests in minerals only. The Company does not own any of
the equipment on the leases or the Underlying Properties. Investments in new
wells drilled on the Underlying Properties will likely have to be fully
capitalized and depleted, i.e., there may be no current deductions for
intangible drilling or completion costs.
The owner of the Morgan Properties should not be personally liable for
costs and expenses, losses or damages arising from the extraction of minerals
from the Underlying Properties. In addition, each Conveyance contains a
provision that the owner of the NPI will not be liable for expenses or
liabilities incurred in connection with the operations and provides an indemnity
by the Assignor to the NPI owner against any such cost or liabilities. Although
the NPI owner is not liable for payment of costs, losses or damages described
above, certain of such costs, losses or damages may qualify as a deduction in
calculating Net Cash Flow. However, unlike non-operated working interests, the
NPI owner is not personally liable for these costs, losses or damages. As an
extra measure of protection, the NPI requires that the working interest owner
maintain specified types of insurance and the NPI owner be an additional named
insured on those policies. See also "-- Title to Oil and Natural Gas Properties"
and "--Litigation."
NASGAS Property Acquisition
On March 9, 1998 (with an effective date of January 1, 1998), the Company
purchased certain operated natural gas properties in western Kentucky for net
cash consideration of $450,000 and 337,500 shares of the Company's Common Stock.
The acquired properties are comprised of interests in 21 gross wells (12.6 net)
and 61,421 gross acres (36,858 net). According to H.J. Gruy, the proved reserves
attributed to the NASGAS Properties as of June 30, 1998 were 36.7 Bcf, 100% of
which was natural gas, and 8% proved developed producing, with a SEC PV-10 of
$9.4 million. The Company believes the NASGAS Property Acquisition provides it
with certain benefits, including a large inventory of low-cost, low-risk
development drilling opportunities.
Collins and Ware Property Acquisition
On August 1, 1997, the Company purchased certain operated oil and natural
gas properties for cash consideration (net of production subsequent to the
February 1, 1997 effective date) of approximately $6.0 million and 1,000,000
shares of the Company's Common Stock. The acquired properties were comprised of
interests in 77 gross (12.4 net) wells located in New Mexico, Texas and
Oklahoma. According to H.J. Gruy, the proved reserves attributed to the Collins
and Ware Properties as of June 30, 1998, were 6.6 Bcfe, 19% of which was natural
gas, and 74% proved developed producing, with a SEC PV-10 of $5.6 million. The
Company estimates that as of February 1, 1997, the proved reserves attributed to
the Collins and Ware Properties were 7.3 Bcfe.
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PRINCIPAL OIL AND NATURAL GAS PROPERTIES
The following table summarizes certain information with respect to each of
the Company's principal areas of operation at June 30, 1998.
<TABLE>
<CAPTION>
PROVED RESERVES (1)
------------------------------------------------------------------------------
TOTAL TOTAL PERCENT
GROSS OIL NATURAL PROVED OF TOTAL SEC PERCENT
AND GAS OIL GAS RESERVES PROVED PV-10 OF TOTAL
WELLS (MBbls) (MMcf) (Bcfe) RESERVES (000s) SEC PV-10
--------- ------- --------- ---------- ---------- ---------- -----------
<S> <C> <C> <C> <C> <C> <C> <C>
EAST TEXAS
Gilmer Field............... 42 496 56,631 59.6 26.6% $ 50,944 30.9%
Other...................... 119 953 18,607 24.3 10.9 20,573 12.4
------ ------ ------- ----- ------ --------- -----
Total East Texas....... 161 1,449 75,238 83.9 37.5 71,517 43.3
SOUTH TEXAS
J.C. Martin Field.......... 72 0 19,124 19.1 8.5 23,220 14.1
Lopeno and Volpe Fields.... 16 0 19,832 19.8 8.9 13,626 8.3
Other...................... 141 211 2,650 4.0 1.8 3,511 2.0
------ ------ ------- ----- ------ --------- -----
Total South Texas...... 229 211 41,606 42.9 19.2 40,357 24.4
KENTUCKY (APPALACHIAN BASIN)
Meade Field................ 21 0 36,681 36.7 16.4 9,384 5.7
NEW MEXICO
Caprock (Queen) Field...... 74 2,527 0 15.2 6.8 4,697 2.8
Other...................... 1 0 6 0 0 3 0
------ ------ ------- ----- ------ --------- -----
Total New Mexico....... 75 2,527 6 15.2 6.8 4,700 2.8
OTHER.......................... 448 3,762 22,560 45.1 20.1 39,161 23.8
------ ------ ------- ----- ------ --------- -----
TOTAL.......................... 934 7,949 176,095 223.8 100.0% $ 165,119 100.0%
====== ====== ======= ===== ====== ========= =====
</TABLE>
(1) The proved reserves and SEC PV-10 with respect to the Morgan Properties were
estimated by Ryder Scott. The proved reserves and SEC PV-10 other than with
respect to the Morgan Properties were estimated by H.J. Gruy.
The following is an overview of the major fields of the Company, by area.
East Texas
Gilmer Field. The Gilmer Field was part of the Morgan Property Acquisition
and consists of 42 natural gas wells that cover approximately 13,000 gross acres
in Upshur County, in East Texas. The wells produce from the Cotton Valley Lime
formation at a depth of approximately 11,500 feet to 12,000 feet.
The Gilmer Field is located on the northwestern flank of the Sabine Uplift.
The initial well in the field was drilled in 1966 and the field was delineated
over the following ten years, eventually expanding to 21 gas units. The
reservoirs are characterized by low permeability, depletion drive mechanisms and
require stimulation.
The Morgan Properties in the Gilmer Field were initially conveyed in 1991 in
conjunction with Goldston Oil Corporation and its related entities ("Goldston")
and two industry participants. The Company's interest is a 47.5% NPI in
Goldston's working interest in 13 gas units in the heart of the Gilmer Field.
Goldston has an 80% working interest and is operator of the units. Well spacing
is currently four wells per 640 acre block for most of the units in the field.
At June 30, 1998, the Gilmer Field contained 59.6 Bcfe of proved reserves,
which represented approximately 26.6% of the Company's total proved reserves and
30.9% of the Company's SEC PV-10. The Company's average daily net production
from the Gilmer Field in June 1998 was approximately 12 MMcf of natural gas and
135 Bbls, aggregating 12.8 MMcfe.
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Goldston drilled and completed an infill well in January 1998 which tested
4,000 Mcf/d of natural gas and 40 Bbls/d of oil. Another well was spudded in
March 1998 and was completed in July 1998, testing 2,750 Mcf/d and 81 Bbls/d.
One additional proved undeveloped location remains to be drilled this year which
management believes will fully develop the field on 160 acre spacing.
Fieldwide central compression is scheduled to be installed and operating in
September 1998. Management believes that development of the three wells
discussed above along with central compression will lower gathering system
pressure and will allow the field to sustain a higher production rate through
1998.
South Texas
J.C. Martin Field. The J.C. Martin Field consists of 72 producing natural
gas wells that cover approximately 8,300 gross acres in Zapata County, Texas on
the Mexican border. The field primarily produces from the Lobo 1, 3 and 6 series
of sands in the Wilcox formation at depths of approximately 8,000 feet to 10,000
feet and was part of the Morgan Property Acquisition. The Company's interests
consist of (i) a 13.33% perpetual, non-participating mineral royalty covering
the Mecom family ranch and (ii) an 80% NPI in Devon Energy Corporation's
("Devon's") 20% working interest in the ranch. Coastal Oil Corporation
("Coastal") operates all of the wells. The reservoirs are low permeability,
producing through pressure depletion and requiring fracture stimulations. The
Company's RI in this property is the subject of litigation involving the
predecessor owner. See "-- Litigation."
At June 30, 1998, the J.C. Martin Field contained 19.1 Bcfe of proved
reserves, which represented approximately 8.5% of the Company's total proved
reserves and approximately 14.1% of the Company's SEC PV-10. The Company's
average daily net production from the J.C. Martin Field in June 1998 was 6.2
MMcfe.
During 1997, Coastal drilled nine wells in this field. From January 1, 1998
through June 30, 1998 Coastal drilled an additional seven wells, three of which
have been completed and are on production and four of which are being completed.
The first well drilled during 1998 in this field tested natural gas from a
deeper Cretaceous zone. The well is currently on production and is commingled
with the Lobo formation and is producing in excess of 3.7 MMcf/d. This zone
previously had not produced on the lease but has produced significant volumes to
the north. Management believes that there may be additional potential on the
west end of the Mecom Ranch for this zone as only a few wells have actually
penetrated the Cretaceous zone. A second completion in the Cretaceous zone
tested 5.1 MMcf/d. Management also believes that potential exists for reserves
in the Middle Wilcox zones at approximately 5,000 feet to 6,000 feet.
Lopeno and Volpe Fields. The Lopeno and Volpe Fields are located in Zapata
County, Texas and were also part of the Morgan Property Acquisition. These
fields consist of 13 wells with 16 separate completions. All of the wells
produce from multiple reservoirs in the Upper Wilcox formation. The Morgan
Properties in these fields were initially conveyed in 1995 in association with
Mustang Oil & Gas Corporation, a subsidiary of Gulf Resources Corporation ("Gulf
Resources"). In April 1998, Choctaw II Oil & Gas Ltd. ("Choctaw") acquired Gulf
Resources' working interests in these fields and is now the operator of 10 of
the 13 wells with Pioneer Resources Corporation operating the remainder.
The Company's interest in these fields consists of a 66.66% NPI in Choctaw's
working interests. Choctaw's working interests vary from 15.7% to 75%.
The Lopeno Field covers over 6,000 acres and is an extension of a field
originally discovered in 1952. Over 20 sands have produced in the field at
depths ranging from 6,500 feet to 12,000 feet. Typical of the numerous Upper
Wilcox fields along the Texas Gulf Coast, Lopeno Field is highly faulted and
overpressured. The Volpe Field is also a Wilcox field located 8 miles north of
Lopeno, Texas. A well was drilled directionally along the trapping fault and is
producing from the Middle Wilcox formation. Multiple Upper Wilcox zones are
classified behind-the-pipe. Three proved undeveloped locations have been
identified in this field.
At June 30, 1998, the Lopeno and Volpe Fields contained an estimated 19.8
Bcfe of proved reserves, which represented approximately 8.9% of the Company's
total proved reserves and approximately 8.3% of the Company's
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SEC PV-10. The Company's average daily net production from the fields in June
1998 was 2.4 MMcf/d of natural gas.
Management believes that the production in these fields can be enhanced
through workovers and accelerated drilling for the shallow, behind-the-pipe
reserves.
Kentucky
Meade Field. The Company has a 60% working interest in approximately 61,421
gross acres in Meade, Hardin and Breckinridge Counties, Kentucky. There are
currently 20 gross producing and 1 gross shut-in natural gas wells located on
the Company's leases in Meade County. Four of the wells were drilled in 1995, 14
in 1996 and the remainder in 1997. These wells produce from the New Albany Shale
formation between the depths of approximately 720 feet and 850 feet. The shale
zone has two porosity members and averages 80 feet in thickness. In addition to
the natural gas wells, the Company also owns an interest in one salt-water
disposal well and a related natural gas gathering system.
At June 30, 1998, these properties contained 36.7 Bcfe of net proved
reserves, which represents approximately 16.4% of the Company's total proved
reserves and approximately 5.7% of the Company's SEC PV-10. The Company acquired
these properties because management believes they have significant low risk
development potential from relatively shallow formations. Natural gas reserves
are long-lived reserves (generally, over 40 years) characterized by an increase
in production rates with dewatering and then a gradual decline. The Company's
average daily net production from the Meade Field in June 1998 was 151 Mcf.
New Mexico
Caprock (Queen) Field. The Caprock (Queen) Field was the Company's first
acquisition and consists of 74 oil wells, 39 water injection wells, 30 shut-in
wells and 77 temporarily abandoned wells on approximately 14,200 gross acres
located in Lea and Chaves Counties, New Mexico. The Caprock Field produces from
the "Artesia Red Sand" or Queen sandstone of Permian age in the Seven Rivers and
Grayburg formations at a depth of approximately 3,000 feet. Discovery wells were
drilled from 1940 through 1949. Development wells were drilled between 1954 and
1956 within the productive limits of the field which is approximately twenty
miles long and three miles wide. Primary production was established on 40-acre
spacing. Initial waterflood operations began in 1959 through 1960.
The Company has a 100% working interest and an 82.6% revenue interest in two
operating units (the Drickey Queen Sand Unit and the Westcap Unit), a 98.3%
working interest and a 79.3% revenue interest in a third operating unit (the
Rock Queen Unit), and a 100% working interest and a 90% revenue interest in the
Trigg and Federal V leases. These five properties comprise the central 14,200
acres of the approximately 26,000 productive acres that contain nine contiguous
development units.
At June 30, 1998, the Caprock Field contained an estimated 2,527 MBbls (15.2
Bcfe) of net proved reserves, which represented approximately 6.8% of the
Company's total proved reserves and 2.8% of the Company's SEC PV-10. For the
month of June 1998, the Company's average daily net production was 101 Bbls of
oil.
The Company has recently focused its efforts to improve the reservoir
management of the field. Recent capital expenditures have included replacing
flowlines and injection lines, replacing rod strings and downhole production
equipment, repairing pumping units, major overhauls of injection lines,
installing test headers and equipment, installing injection meters and returning
out of service wells to injection and production status.
A pilot program, as the initial step toward redeveloping the waterflood
pattern, has been designed and the Company anticipates the program will be
implemented in the first half of fiscal year 1999. The Company is the operator.
DEVELOPMENT, EXPLOITATION AND EXPLORATION ACTIVITIES
The Company's development drilling program is generated largely through the
Company's internal technical evaluation efforts and as a result of the Company's
obtaining undeveloped acreage in connection with producing property
acquisitions. In addition, there are numerous opportunities for infill drilling
on Company leases currently
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producing oil and natural gas. The Company intends to continue to pursue
development drilling opportunities which offer potentially significant returns
to the Company. The exploitation activities of the Company consist of the
evaluation of additional reserves through workovers, behind the pipe
recompletions and secondary recovery operations.
The objective of the Company's overall development and exploitation strategy
is to achieve a balance between low risk workover and recompletion activities
and moderate risk infill and extensional development wells. This
exploitation/development strategy is intended to increase reserves while
minimizing the risk of uneconomic projects. The Company currently intends only
limited investments in exploratory drilling projects.
During the period ended June 30, 1998, the Company participated in drilling
26 gross (9.6 net) wells, of which approximately 85% gross (78% net) were
productive. However, there can be no assurance that this past rate of drilling
success will continue in the future. The Company is currently pursuing
development drilling projects in 18 different fields and anticipates continued
growth in its drilling activities.
At June 30, 1998, the Company had identified approximately 252 development
locations and exploitation projects on its acreage. The Company expects to spend
approximately $17 million on development locations and exploitation projects
through June 30, 1999.
The following is a brief discussion of the primary areas of development and
exploitation activity for the Company:
East Texas
Segno Field. The Company intends to continue participating with the operator
(Prime Energy) in the development of the Segno field. Recent activity includes
the deepening of several wells to test lower producing horizons, the Wilcox "D",
"E", "F" and "G" and the drilling of a number of new wells targeting reserves
not yet produced from the Yegua and Wilcox. The operator continues to return
wells that are off production back to service and to improve the field's
facilities infrastructure. Projects planned through June 30, 1999 include
drilling two proved undeveloped locations and six workovers/deepenings at a
total cost to the Company of approximately $425,000. In addition, several
significant new prospects have been identified utilizing 2-D seismic data. The
Company is participating in leasing of the acreage covering these prospects,
identified as "Segno West."
South Texas
J.C. Martin Field. A 3-D seismic survey, shot in 1996, has been the catalyst
for the most recent drilling in the J.C. Martin Field. Coastal Oil Corporation,
the operator, has been very active in this area and continues to propose new
wells to be drilled. The Company anticipates at least nine additional locations
will be drilled this year to develop untested or undrained fault blocks in the
Lobo 1, 3 and 6 series of Wilcox sands at a total cost to the Company of
approximately $1.3 million. In addition, the Company participated in a state
lease sale with the operator on acreage offsetting its current acreage and was
the successful bidder on the tract. The Company also expects to propose a Middle
Wilcox test be drilled later this year to test this unproven shallower zone.
Lopeno/Volpe Fields. The Company believes significant potential exists in
the Lopeno/Volpe Fields to increase production. Several workovers have been
identified in the Lopeno Field to reopen zones which were completed and
stimulated, but due to lack of funds from the previous operator are not
producing. Over twenty sands have produced in the Lopeno Field and most wells
have multiple behind-the-pipe zones. Accelerated drilling for some of the
shallower zones may be justified, improving their present value. Three proved
undeveloped locations have been identified in the Volpe Field that would develop
Upper Wilcox sands. The new operator, Choctaw, has indicated to the Company that
it intends to pursue the necessary workovers and additional drilling. The
Company anticipates its share of capital expenditures in the Lopeno/Volpe fields
will be approximately $1.4 million through June 1999.
Kentucky
Meade Field. The Company believes that the Meade Field presents
opportunities for low cost developmental drilling at depths of less than 1,000
feet. The Company expects that the field will be developed in five phases. Phase
1, consisting of 20 wells, was completed in 1996. A delineation well, the Gohl
No. 2, was drilled in late 1997
63
<PAGE> 65
and extended the proven limits of the field four miles to the southwest. Phases
2 through 5 are scheduled to occur between August 1998 and October 1999 with 10
wells drilled per month every other month for a total of 101 wells at an average
cost to the Company of $54,000 per well. The total capital expenditures for the
project are estimated at $5.4 million
New Mexico
Caprock (Queen) Field. Exploitation efforts at the Caprock (Queen) Field
include a coordinated program of workovers, waterflood redevelopment and infill
drilling. The Company, with the assistance of independent engineering
consultants, has evaluated several alternate development options. The Company
intends to redevelop the Rock Queen Unit with the drilling of infill development
wells establishing a modified seven spot pattern. It is anticipated that a total
of 55 producing wells and 14 water injection wells will be drilled, 59 wells
will be worked over, 24 wells will be returned to production and 19 wells will
be returned to injection. The Company plans to redevelop the Drickey
Queen/Westcap Units using a line drive waterflood pattern. A total of five dual
lateral horizontal producers will be drilled and 14 single lateral horizontal
injection wells are slated to be drilled. A pilot program has been designed
which consists of four horizontal water injection wells and one dual lateral
horizontal producer with an associated water injection plant and production
facility. The pilot will fully develop one 640 acre section of the Drickey Queen
Unit. The Company anticipates the pilot program will be implemented in the first
half of fiscal 1999 and will cost $2.1 million.
MARKETING
The Company's oil and natural gas production is sold to various purchasers
typically in the areas where the oil or natural gas is produced. The Company
does not refine or process any of the oil and natural gas it produces. The
Company is currently able to sell, under contract or in the spot market, all of
the oil and the natural gas it is capable of producing at current market prices.
Substantially all of the Company's oil and natural gas is sold under short term
contracts or contracts providing for periodic adjustments or in the spot market;
therefore, its revenue streams are highly sensitive to changes in current market
prices. The Company's market for natural gas is pipeline companies as opposed to
end users. See "Risk Factors -- Volatility of Oil and Natural Gas Prices" for a
discussion of the risks of commodity price fluctuations.
In an effort to reduce the effects of the volatility of the price of crude
oil and natural gas on the Company's operations and cash flow, management has
adopted a policy of hedging oil and natural gas prices whenever market prices
are in excess of the prices anticipated in the Company's operating budget and
financial plan through the use of commodity futures, options and swap
agreements. The Company does not engage in speculative hedging. See
"Management's Discussion and Analysis of Financial Condition and Results of
Operations -- Changes in Prices and Hedging Activities."
For the year ended June 30, 1998, Big Run Production and Goldston Oil
Corporation accounted for approximately 13% and 17%, respectively, of the
Company's oil and natural gas sales. For the year ended June 30, 1997, Big Run
Production, Navajo Refining, EOTT Energy, Texaco and Conoco accounted for 32%,
14%, 17%, 10% and 9%, respectively, of the Company's oil and natural gas sales.
The Company does not believe that the loss of any of these buyers would have a
material effect on the Company's business or results of operations as it
believes it could readily locate other buyers. However, short term disruptions
could occur while the Company sought alternative buyers or while lines were
being connected to other pipelines.
The market for oil and natural gas produced by the Company depends on
factors beyond its control, including the extent of domestic production and
imports of oil and natural gas, the proximity and capacity of natural gas
pipelines and other transportation facilities, weather, demand for oil and
natural gas, the marketing of competitive fuels and the effects of state and
federal regulation. The oil and natural gas industry also competes with other
industries in supplying the energy and fuel requirements of industrial,
commercial and individual consumers.
OIL AND NATURAL GAS RESERVES
The following tables summarize certain information regarding the Company's
estimated proved oil and natural gas reserves as of June 30, 1996, 1997 and
1998. All such reserves are located in the United States. The estimates relating
to the Company's proved oil and natural gas reserves and future net revenues of
oil and natural gas reserves
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<PAGE> 66
at June 30,1998 with respect to the Morgan Properties included in this
Prospectus are based upon reports prepared by Ryder Scott. The estimates at June
30, 1997 and at June 30, 1998 (other than with respect to the Morgan Properties)
included in this Prospectus are based upon reports prepared by H.J. Gruy. Such
estimates at June 30, 1996 included in this Prospectus are based upon reports
prepared by Harper and Associates. In accordance with Commission guidelines,
the estimates of future net cash flows from proved reserves and their SEC PV-10
are made using oil and natural gas sales prices in effect as of the dates of
such estimates and are held constant throughout the life of the properties. The
Company's estimates of proved reserves, future net cash flows and SEC PV-10 were
estimated using the following weighted average prices, before deduction of
production taxes:
<TABLE>
<CAPTION>
JUNE 30,
-------------------------------------
1996 1997 1998
---------- --------- ----------
<S> <C> <C> <C>
Natural gas (per Mcf)..... $ 2.39 $ 2.25 $ 2.40
Oil (per Bbl)............. 19.65 17.43 12.80
</TABLE>
Reserve estimates are imprecise and may be expected to change as additional
information becomes available. Furthermore, estimates of oil and natural gas
reserves, of necessity, are projections based on engineering data, and there are
uncertainties inherent in the interpretation of such data as well as the
projection of future rates of production and the timing of development
expenditures. Reservoir engineering is a subjective process of estimating
underground accumulations of oil and natural gas that cannot be measured in an
exact way, and the accuracy of any reserve estimate is a function of the quality
of available data and of engineering and geological interpretation and
judgement. Reserve reports of other engineers might differ from the reports
contained herein. Results of drilling, testing, and production subsequent to the
date of the estimate may justify revision of such estimate. Future prices
received for the sale of oil and natural gas may be different from those used in
preparing these reports. The amounts and timing of future operating and
development costs may also differ from those used. Accordingly, there can be no
assurance that the reserves set forth herein will ultimately be produced nor can
there be assurance that the proved undeveloped reserves will be developed within
the periods anticipated. The Company emphasizes with respect to the estimates
prepared by independent petroleum engineers that the discounted future net cash
inflows should not be construed as representative of the fair market value of
the proved oil and natural gas properties belonging to the Company, since
discounted future net cash inflows are based upon projected cash inflows which
do not provide for changes in oil and natural gas prices nor for escalation of
expenses and capital costs. The meaningfulness of such estimates is highly
dependent upon the accuracy of the assumptions upon which they were based.
All reserves are evaluated at contract temperature and pressure which can
affect the measurement of natural gas reserves. Operating costs, development
costs and certain production-related and ad valorem taxes were deducted in
arriving at the estimated future net cash flows. No provision was made for
income operating methods and existing conditions at the prices and operating
costs prevailing at the dates indicated above. The estimates of the SEC PV-10
from future net cash flows differ from the Standardized Measure set forth in the
notes to the Consolidated Financial Statements of the Company, which is
calculated after provision for future income taxes. There can be no assurance
that these estimates are accurate predictions of future net cash flows from oil
and natural gas reserves or their present value.
For certain additional information concerning the Company's oil and natural
gas reserves and estimates of future net revenues attributable thereto, see Note
9 of the Notes to Consolidated Financial Statements.
65
<PAGE> 67
Company Reserves
The following tables set forth the proved reserves of oil and natural gas of
the Company and the SEC PV-10 thereof on an actual basis for each year in the
three-year period ended June 30, 1998.
PROVED OIL AND NATURAL GAS RESERVES(1)
<TABLE>
<CAPTION>
JUNE 30,
-------------------------------------
1996 1997 1998
--------- -------- ---------
<S> <C> <C> <C>
NATURAL GAS RESERVES (MMcf):
Proved Developed Producing Reserves................... 4,712 8,627 102,136
Proved Developed Non-Producing Reserves............... 4,662 3,785 18,862
Proved Undeveloped Reserves........................... 3,610 8,561 55,097
------- -------- --------
Total Proved Reserves of natural gas............. 12,984 20,973 176,095
======= ======== ========
OIL RESERVES (MBbl):
Proved Developed Producing Reserves................... 751 1,181 3,814
Proved Developed Non-Producing Reserves............... 1,514 1,007 1,484
Proved Undeveloped Reserves........................... 4,667 4,521 2,651
------- -------- --------
Total Proved Reserves of oil..................... 6,932 6,709 7,949
------- -------- --------
TOTAL PROVED RESERVES (MMcfe)............................. 54,574 61,224 223,788
======= ======== ========
</TABLE>
SEC PV-10 OF PROVED RESERVES(1)
<TABLE>
<CAPTION>
JUNE 30,
---------------------------------------
1996 1997 1998
---------- ---------- ---------
<S> <C> <C> <C>
SEC PV-10 (THOUSANDS)(2):
Proved Developed Producing Reserves.................. $ 9,002 $ 13,810 $ 113,539
Proved Developed Non-Producing Reserves.............. 8,144 7,850 17,661
Proved Undeveloped Reserves.......................... 14,307 19,558 33,920
---------- ---------- ---------
TOTAL SEC PV-10.................................. $ 31,453 $ 41,218 $ 165,120
========== ========== =========
</TABLE>
- ----------------------------
(1) The historical Company data at June 30, 1996 and, with respect to the
NASGAS Properties, June 30, 1997, is based upon reserve reports
prepared by Harper and Associates. The data shown at June 30, 1997 and
June 30, 1998 (excluding data with respect to the Morgan Properties at
June 30, 1998) is based upon reports prepared by H.J. Gruy. The data
included with respect to the Morgan Properties at June 30, 1998 is
based upon reserve reports prepared by Ryder Scott.
(2) SEC PV-10 differs from the Standardized Measure set forth in the notes
to the Consolidated Financial Statements of the Company, which is
calculated after provision for future income taxes.
Except for the effect of changes in oil and natural gas prices, no major
discovery or other favorable or adverse event is believed to have caused a
significant change in these estimates of the Company's proved reserves since
June 30, 1998.
Except for Form EIA 23, "Annual Survey of Domestic Oil and Gas Reserves",
filed with the United States Department of Energy, no other estimates of total
proven net oil and natural gas reserves have been filed by the Company with, or
included in any report to, any United States authority or agency pertaining to
the Company's individual reserves since the beginning of the Company's last
fiscal year. Reserves reported on Form EIA 23 are comparable to the reserves
reported by the Company herein.
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<PAGE> 68
OPERATIONS DATA
Productive Wells
The following table sets forth the number of total gross and net productive
wells in which the Company owned an interest as of June 30, 1998.
<TABLE>
<CAPTION>
GROSS NET
--------------------------------- -------------------------------
OIL GAS TOTAL OIL GAS TOTAL
----------- ---------- ---------- --------- --------- ---------
<S> <C> <C> <C> <C> <C> <C>
Texas................ 335 221 556 124.5 78.9 203.4
New Mexico........... 75 2 77 73.6 0.6 74.2
Louisiana............ 35 4 39 15.2 0.4 15.6
Mississippi.......... 24 0 24 17.1 0.0 17.1
Oklahoma............. 28 153 181 7.4 21.4 28.8
Kentucky............. 0 21 21 0 12.6 12.6
Other(1)............. 3 33 36 0.3 7.5 7.8
----------- ---------- ---------- --------- --------- ---------
Total........... 500 434 934 238.1 121.4 359.5
=========== ========== ========== ========= ========= =========
</TABLE>
(1) Represents wells located in Kansas, Alabama and Wyoming.
Production Economics
The following table sets forth certain operating information of the Company
for the periods presented.
<TABLE>
<CAPTION>
YEAR ENDED JUNE 30,
--------------------------------
HISTORICAL
--------------------------------
1996 1997 1998
--------- --------- ---------
<S> <C> <C> <C>
OPERATING DATA:
Production volumes:
Natural gas (MMcf) ............................. 154 546 3,368
Oil (MBbl) ..................................... 103 151 325
Total (MMcfe): .............................. 769 1,450 5,318
Average sales price:
Natural gas (per Mcf) .......................... $ 2.43 $ 2.31 $ 2.27
Oil (per Bbl) .................................. 18.26 20.73 15.52
Natural gas equivalent (per Mcfe) .............. 2.70 3.02 2.39
Selected expenses (per Mcfe):
Production taxes ............................... $ 0.22 $ 0.21 $ 0.12
Lease operating expense ........................ 1.31 1.52 1.07
General and administrative ..................... 1.45 1.00 0.43
Depreciation, depletion and amortization(1) .... 0.82 0.68 0.91
</TABLE>
- --------------------------
(1) Represents depreciation, depletion and amortization of oil and natural gas
properties only.
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<PAGE> 69
Drilling Activity
The following table sets forth the Company's gross and net working
interests in exploratory and development wells (but excluding injection or
service wells) drilled during the indicated periods.
<TABLE>
<CAPTION>
FOR THE YEAR ENDED JUNE 30,
-------------------------------------------------------------------------
1996 1997 1998
----------------------- ----------------------- -------------------------
GROSS NET GROSS NET GROSS NET
----------- ----------- ----------- ----------- ----------- -------------
<S> <C> <C> <C> <C> <C> <C>
EXPLORATORY:
Oil....................... 4 2.0 1 0.5 1 0.0
Gas....................... 0 0.0 0 0.0 1 0.3
Dry....................... 2 1.0 0 0.0 1 0.7
----------- ----------- ----------- ----------- ----------- -------------
Total.................. 6 3.0 1 0.5 3 1.0
=========== =========== =========== =========== =========== =============
DEVELOPMENT:
Oil....................... 0 0.0 0 0.0 5 2.1
Gas....................... 0 0.0 0 0.0 10 2.6
Dry....................... 0 0.0 0 0.0 1 0.4
----------- ----------- ----------- ----------- ----------- -------------
Total.................. 0 0.0 0 0.0 16 5.1
=========== =========== =========== =========== =========== =============
TOTAL:
Oil....................... 4 2.0 1 0.5 6 2.1
Gas....................... 0 0.0 0 0.0 11 2.9
Dry....................... 2 1.0 0 0.0 2 1.1
----------- ----------- ----------- ----------- ----------- -------------
Total.................. 6 3.0 1 0.5 19 6.1
=========== =========== =========== =========== =========== =============
</TABLE>
DEVELOPED AND UNDEVELOPED ACREAGE
The following table sets forth the approximate gross and net acres in which
the Company owned an interest as of June 30, 1998.
<TABLE>
<CAPTION>
DEVELOPED UNDEVELOPED
----------------------- --------------------------
GROSS NET GROSS NET
---------- ------------ ------------- ------------
<S> <C> <C> <C> <C>
Texas........................ 73,074 38,027 39,833 17,273
New Mexico................... 14,440 14,170 0 0
Louisiana.................... 5,865 2,334 0 0
Mississippi.................. 1,633 1,323 0 0
Oklahoma..................... 42,240 5,954 0 0
Kentucky..................... 424 260 60,997 36,598
Other(1)..................... 20,510 5,190 0 0
---------- ------------ ------------- ------------
Total................... 158,186 67,258 100,830 53,871
========== ============ ============= ============
</TABLE>
- --------------------------
(1) Represents acreage located in Colorado, Kansas, Alabama and Wyoming.
MARKETS AND COMPETITION
The oil and natural gas industry is highly competitive. Competitors include
major oil companies, other independent oil and natural gas concerns and
individual producers and operators, many of which have financial resources,
staffs and facilities substantially greater than those of the Company. In
addition, the Company encounters substantial competition in acquiring oil and
natural gas properties, marketing oil and natural gas and securing trained
personnel. When possible, the Company tries to avoid open competitive bidding
for acquisition opportunities. The principal means of competition with respect
to the sale of oil and natural gas production are product availability and
price. While it is not possible for the Company to state accurately its position
in the oil and natural gas industry, the Company believes that it represents a
minor competitive factor.
The market for oil and natural gas produced by the Company depends on
factors beyond its control, including domestic and foreign political conditions,
the overall level of supply of and demand for oil and natural gas, the price
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<PAGE> 70
of imports of oil and natural gas, gas pipelines and other transportation
facilities and overall economic conditions. The oil and natural gas industry as
a whole also competes with other industries in supplying the energy and fuel
requirements of industrial, commercial and individual consumers. See "Risk
Factors -- Volatility of Oil and Natural Gas Prices."
TITLE TO OIL AND NATURAL GAS PROPERTIES
The Company has acquired interests in producing and non-producing acreage
in the Form of working interests, RIs, overriding royalty interests and NPIs.
Substantially all of the Company's property interests, and the Assignors'
interests in the Underlying Properties, are held pursuant to leases from third
parties. The leases grant the lessee the right to explore for and extract oil
and natural gas from specified areas. Consideration for a lease usually consists
of a lump sum payment (i.e., bonus) and a fixed annual charge (i.e., delay
rental) prior to production (unless the lease is paid up) and, once production
has been established, a royalty based generally upon the proceeds from the sale
of oil and natural gas. Once wells are drilled, a lease generally continues so
long as production of oil and natural gas continues. In some cases, leases may
be acquired in exchange for a commitment to drill or finance the drilling of a
specified number of wells to predetermined depths. Some of the Company's
non-producing acreage is held under leases from mineral owners or a government
entity which expire at varying dates. The Company is obligated to pay annual
delay rentals to the lessors of certain properties in order to prevent the
leases from terminating. Title to leasehold properties is subject to royalty,
overriding royalty, carried, net profits and other similar interests and
contractual arrangements customary in the oil and natural gas industry, and to
liens incident to operating agreements, liens relating to amounts owed to the
operator, liens for current taxes not yet due and other encumbrances.
As is customary in the industry, the Company generally acquires oil and
natural gas acreage without any warranty of title except as to claims made by,
through or under the transferor. Although the Company has title examined prior
to acquisition of developed acreage in those cases in which the economic
significance of the acreage justifies the cost, there can be no assurance that
losses will not result from title defects or from defects in the assignment of
leasehold rights. In many instances, title opinions may not be obtained if in
the Company's judgment it would be uneconomical or impractical to do so.
The Underlying Properties are typically subject, in one degree or another,
to one or more of the following: (i) royalties and other burdens and
obligations, expressed and implied, under oil and gas leases; (ii) overriding
royalties and other burdens created by Assignor or its predecessors in title;
(iii) a variety of contractual obligations (including, in some cases,
development obligations) arising under operating agreements, farmout agreements,
production sales contracts and other agreements that may affect the properties
or their titles; (iv) liens that arise in the normal course of operations, such
as those for unpaid taxes, statutory liens securing unpaid suppliers and
contractors and contractual liens under operating agreements; (v) pooling,
unitization and communitization agreements, declarations and orders; and (vi)
easements, restrictions, rights-of-way and other matters that commonly affect
property. To the extent that such burdens and obligations affect Assignor's
rights to production and the value of production from the Underlying Properties,
they have been taken into account in calculating the Company's interests and in
estimating the size and value of the reserves attributable to the Morgan
Properties.
REGULATION
General Federal and State Regulation
The Company's oil and natural gas exploration, production and related
operations are subject to extensive rules and regulations promulgated by federal
and state agencies. Failure to comply with such rules and regulations can result
in substantial penalties. The regulatory burden on the oil and natural gas
industry increases the Company's cost of doing business and affects its
profitability. Because such rules and regulations are frequently amended or
reinterpreted, the Company is unable to predict the future cost or impact of
complying with such laws.
The State of Texas and many other states require permits for drilling
operations, drilling bonds and reports concerning operations and impose other
requirements relating to the exploration and production of oil and natural gas.
Such states also have statutes or regulations addressing conservation matters,
including provisions for the unitization or pooling of oil and natural gas
properties, the establishment of maximum rates of production from wells, and the
regulation of spacing, plugging and abandonment of such wells. Many states
restrict production to the market
69
<PAGE> 71
demand for oil and natural gas. Some states have enacted statutes prescribing
ceiling prices for natural gas sold within their states.
FERC regulates interstate natural gas transportation rates and service
conditions, which affect the revenues received by the Company for sales of its
production. Since the mid-1980s, FERC has issued a series of orders, culminating
in Order Nos. 636, 636-A and 636-B ("Order 636"), that have significantly
altered the marketing and transportation of natural gas. Order 636 mandates a
fundamental restructuring of interstate pipeline sales and transportation
service, including the unbundling by interstate pipelines of the sale,
transportation, storage and other components of the city-gate sales services
such pipelines previously performed. One of FERC's purposes in issuing the
orders is to increase competition within all phases of the natural gas industry.
Order 636 and subsequent FERC orders on rehearing have been appealed and are
pending judicial review. Because these orders may be modified as a result of the
appeals, it is difficult to predict the ultimate impact of the orders on the
Company. Generally, Order 636 has eliminated or substantially reduced the
interstate pipelines' traditional role as wholesalers of natural gas, and has
substantially increased competition and volatility in natural gas markets.
The price the Company receives from the sale of oil and natural gas liquids
is affected by the cost of transporting products to market. Effective January 1,
1995, FERC implemented regulations establishing an indexing system for
transportation rates for oil pipelines, which, generally, would index such rates
to inflation, subject to certain conditions and limitations. The Railroad
Commission of the State of Texas is considering adopting rules to prevent
discriminatory transportation practices by intrastate gas gatherers and
transporters by requiring the disclosure of rate information under varying
conditions of service. The Company is not able to predict with certainty the
effects, if any, of these regulations on its operations. However, the
regulations may increase transportation costs or reduce wellhead prices for oil
and natural gas liquids.
Finally, from time to time regulatory agencies have imposed price controls
and limitations on production by restricting the rate of flow of oil and natural
gas wells below natural production capacity in order to conserve supplies of oil
and natural gas. See "Risk Factors -- Government Laws and Regulations."
Environmental Regulation
The Company's exploration, development and production of oil and natural
gas, including its operation of saltwater injection and disposal wells, are
subject to various federal, state and local environmental laws and regulations.
Such laws and regulations can increase the costs of planning, designing,
installing and operating oil and natural gas wells. The Company's domestic
activities are subject to a variety of environmental laws and regulations,
including but not limited to, the Oil Pollution Act of 1990 ("OPA"), the Clean
Water Act ("CWA"), the Comprehensive Environmental Response, Compensation and
Liability Act ("CERCLA"), the Resource Conservation and Recovery Act ("RCRA"),
the Clean Air Act ("CAA"), and the Safe Drinking Water Act ("SDWA"), as well as
state regulations promulgated under comparable state statutes. The Company also
is subject to regulations governing the handling, transportation, storage and
disposal of naturally occurring radioactive materials that are found in its oil
and natural gas operations. Civil and criminal fines and penalties may be
imposed for non-compliance with these environmental laws and regulations.
Additionally, these laws and regulations require the acquisition of permits or
other governmental authorizations before undertaking certain activities, limit
or prohibit other activities because of protected areas or species, and impose
substantial liabilities for cleanup of pollution.
Under the OPA, a release of oil into water or other areas designated by the
statute could result in the Company being held responsible for the costs of
remediating such a release, certain OPA specified damages, and natural resource
damages. The extent of that liability could be extensive, as set forth in the
statute, depending on the nature of the release. A release of oil in harmful
quantities or other materials into water or other specified areas could also
result in the Company being held responsible under the CWA for the costs of
remediation, and civil and criminal fines and penalties.
CERCLA and comparable state statutes, also known as "Superfund" laws, can
impose joint and several retroactive liability, without regard to fault or the
legality of the original conduct, on certain classes of persons for the release
of a "hazardous substance" into the environment. In practice, cleanup costs are
usually allocated among various responsible parties. Potentially liable parties
include site owners or operators, past owners or operators under certain
conditions, and entities that arrange for the disposal or treatment of, or
transport hazardous substances found at the site. Although CERCLA, as amended,
currently exempts petroleum, including but not limited to, crude oil,
70
<PAGE> 72
natural gas and natural gas liquids from the definition of hazardous substance,
the Company's operations may involve the use or handling of other materials that
may be classified as hazardous substances under CERCLA. Furthermore, there can
be no assurance that the exemption will be preserved in future amendments of the
act, if any.
RCRA and comparable state and local requirements impose standards for the
management, including treatment, storage, and disposal of both hazardous and
nonhazardous solid wastes. The Company generates hazardous and nonhazardous
solid waste in connection with its routine operations. From time to time,
proposals have been made that would reclassify certain oil and natural gas
wastes, including wastes generated during pipeline, drilling, and production
operations, as "hazardous wastes" under RCRA which would make such solid wastes
subject to much more stringent handling, transportation, storage, disposal, and
clean-up requirements. This development could have a significant impact on the
Company's operating costs. While state laws vary on this issue, state
initiatives to further regulate oil and natural gas wastes could have a similar
impact.
Because oil and natural gas exploration and production, and possibly other
activities, have been conducted at some of the Company's properties by previous
owners and operators, materials from these operations remain on some of the
properties and in some instances require remediation. In addition, the Company
has agreed to indemnify sellers of producing properties from whom the Company
has acquired reserves against certain liabilities for environmental claims
associated with such properties. While the Company does not believe that costs
to be incurred by the Company for compliance and remediating previously or
currently owned or operated properties will be material, there can be no
guarantee that such costs will not result in material expenditures.
Additionally, in the course of the Company's routine oil and natural gas
operations, surface spills and leaks, including casing leaks, of oil or other
materials occur, and the Company incurs costs for waste handling and
environmental compliance. Moreover, the Company is able to control directly the
operations of only those wells for which it acts as the operator.
Notwithstanding the Company's lack of control over wells owned by the Company
but operated by others, the failure of the operator to comply with the
applicable environmental regulations may, in certain circumstances, be
attributable to the Company.
Is it not anticipated that the Company will be required in the near future
to expend amounts that are material in relation to its total capital
expenditures program by reason of environmental laws and regulations, but
inasmuch as such laws and regulations are frequently changed, the Company is
unable to predict the ultimate cost of compliance. There can be no assurance
that more stringent laws and regulations protecting the environment will not be
adopted or that the Company will not otherwise incur material expenses in
connection with environmental laws and regulations in the future. See "Risk
Factors -- Government Laws and Regulations."
EMPLOYEES
As of September 14, 1998, the Company had 22 full-time employees consisting
of 10 officers and 12 support staff. Four of the employees are in Ottawa,
Canada, 13 of the employees are located in the Dallas office, 3 are on site in
New Mexico, one is on site in Kentucky and 1 is on site in East Texas. In
addition, the Company regularly engages technical consultants and independent
contractors to provide specific advice or to perform certain administrative or
technical functions.
From August 9, 1994 (inception) to May 6, 1997 the executive services of
Edward J. Munden, Ronald I. Benn and Bruce I. Benn were provided to the Company
under a management contract with Capital House A Finance and Investment
Corporation ("CHC"), a Canadian venture capital company. Bruce I. Benn, Edward
J. Munden and Ronald I. Benn are directors and shareholders of CHC. Since May 6,
1997, Edward J. Munden, Bruce I. Benn and Ronald I. Benn have been employees of
the Company. Edward Munden and Bruce Benn are officers and directors of the
Company. Ronald Benn is an officer of the Company.
FACILITIES
The Company occupies approximately 3,475 square feet of office space at
3500 Oak Lawn Avenue, Suite 380, Dallas, Texas, under a lease that expires in
November 1999. The Company is in the process of locating additional space to
lease in Dallas. The Company also occupies approximately 2,000 square feet of
space in Ottawa, Ontario for offices for certain of its executive officers
located there under a lease that expires in August 2003. The Company leases
property for a rig yard in New Mexico.
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<PAGE> 73
LEGAL PROCEEDINGS
Litigation. The landowner royalty on the J.C. Martin Field is currently
subject to a lawsuit that may create uncertainty regarding the Company's title
to its interest in the J.C. Martin Field. See "Risk Factors -- Nature of the Net
Profits Interests and Royalty Interests -- Litigation."
No other legal proceedings are pending other than ordinary routine
litigation incidental to the Company business, the outcome of which management
believes will not have a material adverse effect on the Company.
72
<PAGE> 74
MANAGEMENT
The officers and Directors of the Company are listed below, together
with a description of their experience and certain other information. Each of
the Directors serves for a one year term. Executive officers are appointed by
the Board of Directors.
<TABLE>
<CAPTION>
NAME AGE CURRENT POSITION WITH COMPANY
---- --- -----------------------------
<S> <C> <C>
Edward J. Munden............... 47 Chairman of the Board, Chief Executive
Officer, President and Director
Bruce I. Benn.................. 44 Executive Vice President and Director
Robert P. Lindsay.............. 55 Chief Operating Officer, Executive
Vice President and Director
Ronald I. Benn................. 43 Chief Financial Officer
V. Ed Butler................... 42 Vice President, Asset Management
Ronald Idom.................... 43 Vice President, Acquisitions
William W. Lesikar............. 45 Vice President, Finance
Kenoth H. Flournoy 50 Vice President, Operations
William A. Williamson.......... 42 Vice President, Land
Steven M. Emshoff.............. 46 Vice President, Business Development
Ted Collins, Jr................ 59 Director
Eli Rebich..................... 46 irector
</TABLE>
Edward J. Munden has been the President and a Director of the Company since
March 6, 1995. He was appointed Chief Executive Officer in May 1996 and was
appointed Chairman of the Board in October 1997. Since 1989, he has been a
director and co-founder of CHC, which is a Canadian venture capital firm located
in Ottawa, Canada. From 1994 to 1996, he was a director of Capital House
International Ltd. ("CHIL"). CHIL became the original stockholder of QSRn and
was previously a majority stockholder of the Company. Mr. Munden has held
positions in the mining industry with Eldorado Nuclear Limited (1980 to 1989),
the manufacturing industry with Proctor and Gamble Company of Canada (1978 to
1980) and the oil and natural gas industry with Union Oil of Canada Limited
(1974 to 1976). Mr. Munden is a professional geological engineer and holds a
Bachelor of Science degree in Engineering (1974) and a Masters of Business
Administration (1978) from Queens University in Kingston, Canada.
Bruce I. Benn has been an Executive Vice President and a Director of the
Company since March 1995. In 1989, he, together with Ronald I. Benn and Edward
J. Munden, founded CHC and has been a director since then. From 1994 to 1996, he
was a director of CHIL. From 1985 to 1993, he was Vice President and Director of
Corporation House Ltd., where he acted as an investment banker and a financial
advisor to resource development, manufacturing and construction firms around the
world. He is an attorney and holds a Masters of Law degree (LL.M, 1979) from the
University of London, England, a Baccalaureate of Laws (LL.B, 1978) from the
University of Ottawa, Canada, and a Bachelor of Arts in Economics (1975) from
Carleton University in Ottawa, Canada. Ronald I. Benn, the Chief Financial
Officer of the Company, is the brother of Bruce I. Benn.
Robert P. Lindsay joined the Company in 1994 and became Executive Vice
President in September 1995 and Chief Operating Officer in May 1996. From 1973
until 1995 Mr. Lindsay was Chief Executive Officer of Lin-mour Drilling Company.
Mr. Lindsay joined Helmrich & Payne, an oil and natural gas drilling and
exploration company headquartered in Tulsa, Oklahoma, in 1965 and held
increasingly senior positions with that company until 1973. Mr. Lindsay holds a
Bachelor of Arts degree in Accounting (1965) from the University of Texas.
Ronald I. Benn was appointed Chief Financial Officer of QSRn in 1994 and
assumed the same position with the Company when it acquired QSRn in March 1995.
Since 1989, he has been a senior executive, director and co-founder of CHC. From
1994 to 1996, Mr. Benn was a director of CHIL. From 1980 to 1985, Mr. Benn, a
Chartered Accountant, held positions in the auditing division, in management
consulting as a turnaround specialist, and the insolvency division of the
accounting firm of Clarkson Gordon Chartered Accountants (now known as Ernst
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& Young Chartered Accountants). From 1985 to 1986 he also had experience in the
commercial banking industry and as senior financial officer to certain start-up
companies. Mr. Benn holds a Bachelor of Science degree (1977) from Carleton
University in Ottawa, Canada and a Bachelor of Commerce (Honours) (1980) from
the University of Windsor, Canada. Ronald I. Benn is the brother of Bruce I.
Benn.
V. Ed Butler joined the Company in June 1996 as Vice President, Operations.
He has 20 years of experience in oil field engineering and operations. From 1993
to 1995, he was Executive Vice President for Echo Production, Inc. From 1982 to
1993 he held the position of Operations Manager for Triad Energy Corporation. He
has also been a staff engineer for Blocker Exploration Company from 1980 to 1982
and an area production engineer for Texas Oil and Gas Corporation from 1978 to
1980. Mr. Butler holds an M.B.A. (1988) from the University of Texas, and a
Bachelor of Science in Petroleum Engineering (1978) from Texas A&M University.
Ronald Idom joined the Company in January 1998 as Vice President,
Acquisitions. He has over 22 years of experience in reservoir engineering and
management. From 1991 to 1997, he was Manager Gas Supply for Delhi Gas Pipeline
Corporation and Manager Engineering/Project Development from 1988 to 1991. From
1985 to 1988 he held the position of Chief Reservoir Engineer for TXO Production
Corp. (both Delhi Gas Pipeline and TXO Production Corp. were subsidiaries of
USX/Texas Oil & Gas Corporation). He also served as acquisition engineer for NRM
Petroleum from 1983 to 1985; a self-employed petroleum consultant from 1980 to
1983 and held various engineering positions with Texas Oil and Gas Corporation
from 1976 to 1980. Mr. Idom graduated from Texas A&M University in 1976 with a
Bachelor of Science in Petroleum Engineering.
William W. Lesikar joined the Company in June 1998 as Vice President,
Finance. Mr. Lesikar, a Certified Public Accountant, has 22 years of experience
in finance and accounting with nearly 17 years in the oil and gas industry. From
1981 to 1998, Mr. Lesikar held increasing positions of authority with Lyco
Energy Corporation of Dallas, Texas including Controller from 1981 to 1983, and
Chief Financial Officer and Executive Vice President from 1988 to 1998. From
1978 to 1981, Mr. Lesikar was an audit manager and senior auditor with Arthur
Young & Company (now known as Ernst & Young LLP). From 1976 to 1978, Mr. Lesikar
was an auditor with Haskins & Sells (now known as Deloitte & Touche LLP). Mr.
Lesikar holds a Masters of Business Administration (1988) from Southern
Methodist University and a Bachelor of Business Administration (1975) from
University of Texas at Austin.
William A. Williamson joined the Company in March 1998 as Vice President,
Land. He has over 17 years of experience in petroleum land management. From 1989
to 1998, he served as President of BAW Energy, Inc. BAW Energy, Inc. was formed
primarily to provide oil and gas asset management from a land and legal
perspective to independent oil and gas companies. Clients of BAW Energy, Inc.
included INCO Oil Corporation, Janex Oil Co., Inc., Walter Exploration, Inc. and
the Company. From 1979 to 1989, he was self-employed as an independent Petroleum
Landman. Mr. Williamson holds a Bachelor of Business Administration in Finance
(1978) from Texas A&M University.
Steven M. Emshoff joined the Company in July 1998 as Vice President,
Business Development. He has over 25 years of experience in banking and
investment banking, with 17 years in the oil and gas industry. From 1994 to
1998, Mr. Emshoff was a Director of Enron Finance Corporation providing and
structuring financial products and services to independent oil and natural gas
producers in the Southwest United States. From 1993 to 1994 he was a Senior Vice
President and Corporate Lending Officer for Charter Bancshares, Inc.
supervising, negotiating and structuring energy loans. From 1982 to 1993 he was
Vice President and Regional Manager of Texas Commerce Bancshares and its
subsidiary, also providing energy loans. From 1973 to 1982, Mr. Emshoff was a
National Bank Examiner with the U.S. Treasury. Mr. Emshoff holds a Bachelor of
Commerce (1973) and a Bachelor of Science (1973) from Rice University.
Kenoth H. Flournoy joined the Company in January 1998 and became Vice
President, Operations in July 1998. Mr. Flournoy has over 28 years of experience
in the oil and gas industry. From 1997 to 1998, Mr. Flournoy provided
engineering consulting services to the oil and gas industry. From 1983 to 1997
he was Vice President of Production for Maguire Oil Company and Maguire Energy
Company where he was responsible for the property management, drilling,
production and engineering for overall operations and joint venture operations.
He was also Vice President of Production and Production Manager for Evergreen
Oil Corporation from 1980 to 1983, assistant to the Vice President of Operations
for Canus Petroleum, Inc. from 1979 to 1980, District Engineer for Champlin
Petroleum Co. from 1977 to 1979 and held various engineering positions with
Texaco, Inc. from 1970 to 1977. Mr.
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<PAGE> 76
Flournoy holds a Bachelor of Science in Chemistry and Business (1970) from
Texas A&M University of Commerce, Texas.
Ted Collins, Jr. has been a Director of the Company since October 1997.
Since January 1988 he has been President of Collins and Ware, Inc., a private
oil and natural gas exploration and production company headquartered in Midland,
Texas. He is also Chairman of Mid Louisiana Gas Corp., an interstate pipeline
serving industrial and residential customers in Louisiana and Mississippi with
Pan American Petroleum Corp. (now Amoco Production Co.). From 1986 to 1988, Mr.
Collins was President of Enron Oil & Gas Company and from 1985 to 1986 he was
President of HNG/InterNorth Exploration Company. From 1982 to 1985, Mr. Collins
served as President of HNG Oil Company, and from 1969 to 1982 he was Executive
Vice President and Director of American Quasar Petroleum Co. From 1963 to 1969,
Mr. Collins served as an independent oil operator, and from 1960 to 1963, he was
a petroleum engineer. Mr. Collins holds a Bachelor of Science in Geological
Engineering (1960) from the University of Oklahoma. Mr. Collins is also a
director of Hanover Compression Company, Midcoast Energy Resources, Inc. and
Chaparral Resources, Inc.
Eli Rebich has been a Director of the Company since October 1997. He is an
independent oil and natural gas producer with over 22 years of industry
experience, including evaluation, acquisition, title work and operation of oil
and natural gas properties. Since 1978, he has acquired producing properties in
Texas, Louisiana, Mississippi, Oklahoma and Colorado. He is President and
Director of Big Run Production Company which operates properties in several
states.
SECURITY OWNERSHIP OF CERTAIN
BENEFICIAL OWNERS AND MANAGEMENT
The following table sets forth information with respect to the number of
shares of the Company's Common Stock and the Company's voting capital stock,
which includes both the Common Stock and the Series A Preferred Stock (the
"Voting Stock") beneficially owned as of August 31, 1998 by (i) all holders (the
"Stockholders") of shares of the Common Stock known by the Company to own
beneficially more than 5% of the outstanding shares of the Common Stock or the
Voting Stock, (ii) the executive officers of the Company, (iii) each Director of
the Company and (iv) all Directors and officers of the Company as a group.
<TABLE>
<CAPTION>
APPROXIMATE APPROXIMATE
AMOUNT AND NATURE OF PERCENTAGE OF PERCENTAGE OF
NAME OF BENEFICIAL OWNER BENEFICIAL OWNERSHIP COMMON STOCK VOTING STOCK
- ------------------------ -------------------- ------------- -------------
<S> <C> <C> <C>
Officers and Directors:
Edward J. Munden..................................... 6,618,500(1)(2) 21.4% 16.1%
Bruce I. Benn........................................ 6,618,500(1)(2) 21.4% 16.1%
Robert P. Lindsay.................................... 6,632,786(1)(2) 21.4% 16.1%
Ronald I. Benn....................................... 6,618,500(1)(2) 21.4% 16.1%
Ted Collins, Jr.(4).................................. 1,002,500 3.2% 1.2%
Eli Rebich........................................... 472,500 1.5% 2.5%
All executive officers and directors as a group
(6 persons)........................................ 8,158,286(1)(2) 26.3% 20.1%
Five Percent Stockholders:
Joint Energy Development Investments Limited
Partnership c/o Enron Corp......................... 14,009,599(5) 33.2% 33.2%
EIBOC Investments Ltd................................ 6,600,000(1) 21.3% 16.3%
</TABLE>
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<PAGE> 77
- --------------------
(1) Edward J. Munden, Ronald I. Benn and Bruce I. Benn have a beneficial
interest in the shares of Common Stock owned by EIBOC Investments Ltd.
("EIBOC"). In addition, EIBOC has granted an irrevocable proxy to
Messrs. Munden, Benn, Benn and Lindsay to vote 6,600,000 shares owned
of record by EIBOC. Accordingly, the 6,600,000 shares owned of record
by EIBOC have been included as beneficially owned by each of the
foregoing individuals, and by all officers and Directors as a group.
(2) Includes options exercisable within 60 days.
(3) Mr. Lindsay acquired 14,286 shares of Common Stock in the name of his
children and disclaims any beneficial interest in these shares.
(4) Represents shares that are owned of record by Collins and Ware, Inc.
Mr. Collins is a controlling shareholder, executive officer and
director of Collins and Ware, Inc., but disclaims beneficial ownership
of such shares.
(5) Includes 9,600,000 shares of Common Stock issuable upon conversion of
the 9,600,000 shares of Series A Preferred Stock, 2,634,951 shares of
Common Stock and 1,774,648 shares of Common Stock issuable upon
exercise of certain warrants. JEDI is a limited partnership, the
general partner of which is Enron Capital Management Limited
Partnership, which is an indirect wholly-owned subsidiary of Enron.
Upon the occurrence of certain Events of Default (as defined in the
Company's Restated Certificate of Incorporation), JEDI, the holder of
the Series A Preferred Stock, has the right to require the Company to
repurchase the Series A Preferred Stock.
Pursuant to the Stockholders Agreement dated May 6, 1997 among Bruce I.
Benn, Ronald I. Benn, Edward J. Munden and Robert P. Lindsay (collectively, the
"Management Stockholders"), EIBOC and JEDI, each of the Management Stockholders
covenanted not to transfer, nor to authorize transfer of, any of the 6,600,000
shares of Common Stock in which they have or may acquire a beneficial interest
except by will or the laws of descent and distribution or otherwise by operation
of law or judicial decree or as permitted by the Stockholders Agreement.
The Stockholders Agreement permits EIBOC and the Management Stockholders to
make the following transfers of shares of Common Stock: (i) EIBOC and the
Management Stockholders in the aggregate may transfer shares of Common Stock
provided that the number of shares of Common Stock to be transferred together
with all shares of Common Stock transferred by EIBOC and the Management
Stockholders during the preceding 12 months does not exceed the lesser of (x) 4%
of the outstanding shares of Common Stock, (y) four times the average weekly
reported volume of trading, excluding any trades made by EIBOC or a Management
Stockholder on all national securities exchanges and/or reported through the
automated quotation system of a registered securities association during the
four calendar weeks preceding the date of transfer or (z) four times the average
weekly volume of trading, excluding any trades made by EIBOC or a Management
Stockholder, in Common Stock reported through the consolidated transaction
reporting system, contemplated by Rule 11Aa3-1 under the Exchange Act during the
four week period specified in clause (y), and (ii) EIBOC and the Management
Stockholders may transfer shares of Common Stock in a registered underwritten
public offering of Common Stock; provided, that neither EIBOC nor any Management
Stockholder may transfer shares of Common Stock if after the transfer EIBOC and
the Management Stockholders would beneficially own less than 4,950,000 shares of
Common Stock in the aggregate, subject to certain adjustments for stock splits,
combinations, and stock dividends. In addition, the Stockholders Agreement
permits EIBOC and the Management Stockholders to transfer Common Stock to
certain family members and related entities and to make certain transfers of
Common Stock upon the death or disability of a Management Stockholder.
Pursuant to the Stockholders Agreement, JEDI agreed that until the second
anniversary of the date of the Stockholders Agreement, and except pursuant to
its registration rights under the Registration Rights Agreement between the
Company and JEDI, JEDI will not transfer any shares of Common Stock or
securities convertible into or exercisable or exchangeable for shares of Common
Stock (a "Common Stock Equivalent") to any person that is not an affiliate of
JEDI except in blocks of at least 600,000 shares of Common Stock or blocks of
Common Stock Equivalents that are convertible into or exchangeable or
exercisable for at least 600,000 shares of Common Stock.
Pursuant to the Stockholders Agreement, JEDI agreed that until the second
anniversary of the date of the Stockholders Agreement and except pursuant to its
registration rights under the Registration Rights Agreement between the Company
and JEDI, JEDI will not transfer any shares of Common Stock or Common Stock
Equivalents at the proposed sale price. Pursuant to the right of first refusal,
the Company will have the first right, which must be exercised within 30 days
after receipt of notice of the proposed transfer, to purchase the shares of
Common Stock or Common Stock Equivalents to be transferred. If the Company does
not elect to acquire the shares of Common Stock or Common Stock Equivalents to
be transferred, the Management Stockholders (if the Management Stockholders own
in the aggregate more than 10% of the voting power of the Company's capital
stock) will have
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<PAGE> 78
the right to purchase such securities if the Management Stockholders notify JEDI
of such election within 30 days after the Company's receipt of notice of the
proposed transfer.
Upon the occurrence of certain Events of Default (as defined in the
Company's Restated Certificate of Incorporation, the holder of the Series A
Preferred Stock has (i) the right to require the Company to repurchase the
Series A Preferred Stock, which as of August 31, 1998 constitutes approximately
33.2% of the Voting Stock and (ii) the right, acting separately as a class, to
elect a number of persons to the Board of Directors of the Company that, along
with any members of the Board of Directors who are serving at the time of such
action, will constitute a majority of the Board of Directors.
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<PAGE> 79
DESCRIPTION OF NOTES
The Old Notes were, and the New Notes will be, issued under an Indenture,
dated as of July 1, 1998, among the Company, as issuer, each Subsidiary
Guarantor, and Harris Trust and Savings Bank, as Trustee (the "Trustee"). The
New Notes will be issued under the same Indenture, and the New Notes and the
Notes will constitute a single series of debt securities under the Indenture. In
the event that the Exchange Offer is consummated, any Old Notes that remain
outstanding after consummation of the Exchange Offer and the New Notes issued in
the Exchange Offer will vote together as a single class for purposes of
determining whether holders of the requisite percentage in outstanding principal
amount of Notes have taken certain actions or exercised certain rights under the
Indenture. The Indenture is filed as an exhibit to the Registration Statement.
The terms of the Notes will include those stated in the Indenture and those
made part of the Indenture by reference to the Trust Indenture Act of 1939, as
amended (the "Trust Indenture Act"). The following summary of certain terms and
provisions of the Notes and the Indenture does not purport to be complete and is
qualified in its entirety by reference to the Trust Indenture Act, the Notes and
the Indenture. A copy of the Indenture (which includes the forms of Notes) is
available upon request to the Company at the address set forth under "Available
Information."
The definitions of certain capitalized terms used in the following summary
are set forth below under "Certain Definitions." Capitalized terms used in this
summary and not otherwise defined below have the meanings assigned to them in
the Indenture. For purposes of this "Description of Notes," references to the
"Company" shall mean Queen Sand Resources, excluding its subsidiaries.
As of the date of the Indenture, each of the Company's operating
Subsidiaries is a Restricted Subsidiary. However, under certain circumstances,
the Company will be able to designate current or future Subsidiaries as
Unrestricted Subsidiaries. Unrestricted Subsidiaries will not be subject to many
of the restrictive covenants set forth in the Indenture.
GENERAL
The Old Notes and the New Notes will mature on July 1, 2008, and will be
limited to an aggregate principal amount of $125,000,000. The Old Notes bore
interest at 12 1/2% per annum from July 8, 1998, the date of issuance of the Old
Notes. Interest on the New Notes will accrue at the rate of 12 1/2% per annum
from the date of issuance of the New Note for which an Old Note is exchanged.
Interest on the New Notes will be payable semiannually on January 1 and July 1
of each year, beginning on January 1, 1999, to the person in whose name the New
Note (or any predecessor Note) is registered at the close of business on the
immediately preceding December 15 or June 15, as the case may be. Interest will
be computed on the basis of a 360-day year comprised of twelve 30-day months.
Subject to the covenants described below under "-- Certain Covenants" and
applicable law, the Company may issue additional Notes under the Indenture. The
New Notes offered hereby and any additional Notes subsequently issued would be
treated as a single class for all purposes under the Indenture.
Principal of, premium and Liquidated Damages, if any, and interest on the
New Notes will be payable, and the New Notes will be exchangeable and
transferable, at an office or agency of the Company, one of which will be
maintained for such purpose in The City of New York (which will be an office or
agency of the Trustee) or such other office or agency permitted under the
Indenture. At the option of the Company, payment of interest may be made by
check mailed to the person entitled thereto as shown on the Security Register.
The Old Notes were, and the New Notes will be, senior unsecured obligations
of the Company. The payment of the principal of, premium, if any, and interest
on the New Notes will be pari passu with all existing and future unsecured and
unsubordinated indebtedness of the Company, but will be effectively subordinated
to the rights of holders of secured unsubordinated indebtedness of the Company
to the extent of the value of the collateral securing such indebtedness. The Old
Notes ranked, and the New Notes will rank, senior to all unsecured subordinated
indebtedness of the Company. Although the Indenture contains limitations on the
amount of additional Indebtedness that the Company and its Restricted
Subsidiaries may incur, the amounts of such Indebtedness could be substantial.
See "-- Certain Covenants -- Limitation on Indebtedness."
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<PAGE> 80
The obligations of the Company under the Old Notes were, and under the New
Notes will be, jointly, severally and unconditionally guaranteed by the
Subsidiary Guarantors. See "-- Subsidiary Guarantees."
SUBSIDIARY GUARANTEES
Under the circumstances described below, the Company's payment obligations
under the Old Notes was, and under the New Notes will be, jointly, severally and
unconditionally guaranteed by the Subsidiary Guarantors. Each Subsidiary
Guaranty is a senior unsecured obligation of the applicable Subsidiary Guarantor
and will rank pari passu with any existing and future unsubordinated
indebtedness of such Subsidiary Guarantor, but will be effectively subordinated
to the rights of holders of secured unsubordinated indebtedness of such
Subsidiary Guarantor to the extent of the value of the collateral securing such
indebtedness. As of the date of this Prospectus, the only Subsidiary Guarantors
were the Initial Subsidiary Guarantors.
The Indenture requires the Company to cause any Restricted Subsidiary (and
any Subsidiary that was previously an Unrestricted Subsidiary and becomes a
Restricted Subsidiary) after the Issue Date to execute and deliver to the
Trustee a supplemental indenture pursuant to which such Subsidiary will become a
Subsidiary Guarantor. Certain mergers, consolidations and dispositions of
Property may result in additional Subsidiary Guarantors or the release of
Subsidiary Guarantors. See "-- Certain Covenants -- Merger, Consolidation and
Sale of Substantially All Assets." Any Subsidiary Guarantor that is designated
an Unrestricted Subsidiary in accordance with the terms of the Indenture shall
be released from and relieved of its obligations under its Subsidiary Guaranty
upon execution and delivery of a supplemental indenture satisfactory to the
Trustee.
Each current and future Subsidiary Guarantor guarantees the Company's
obligations with respect to the Notes, as provided above. Holders of the Notes
will be direct creditors of each Subsidiary Guarantor by virtue of its
Subsidiary Guarantee. Nonetheless, in the event of the bankruptcy or financial
difficulty of a Subsidiary Guarantor, such Subsidiary Guarantor's obligations
under its Subsidiary Guarantee may be subject to review and avoidance under
state and federal fraudulent transfer laws. Among other things, such obligations
may be avoided if a court concludes that such obligations were incurred for less
than reasonably equivalent value or fair consideration at a time when the
Subsidiary Guarantor was insolvent, was rendered insolvent, or was left with
inadequate capital to conduct its business. A court would likely conclude that a
Subsidiary Guarantor did not receive reasonably equivalent value or fair
consideration to the extent that the aggregate amount of its liability on its
Subsidiary Guarantee exceeds the economic benefits it receives in the Old Note
Offering or the Exchange Offer. The obligations of each Subsidiary Guarantor
under its Subsidiary Guarantee will be limited in a manner intended to cause it
not to be a fraudulent conveyance under applicable law, although no assurance
can be given that a court would give the Holder the benefit of such provision.
See "Risk Factors -- Fraudulent Conveyance."
If the obligations of a Subsidiary Guarantor under its Subsidiary Guarantee
were avoided, Holders of New Notes would have to look to the assets of any
remaining Subsidiary Guarantors and the Company for payment. There can be no
assurance in that event that such assets would suffice to pay the outstanding
principal and interest on the New Notes.
Each Subsidiary Guarantor may merge or consolidate with or dispose of its
assets to the Company or a Wholly Owned Restricted Subsidiary that is a
Subsidiary Guarantor. In addition, each Subsidiary Guarantor may merge or
consolidate with or dispose of its assets to any Person (other than the Company
or a Wholly Owned Restricted Subsidiary that is a Subsidiary Guarantor),
regardless of whether such Person is an Affiliate of such Subsidiary Guarantor,
if (i) immediately after such transaction, and giving effect thereto, no Default
or Event of Default has occurred and is continuing; (ii) such transaction was
subject to, and consummated in compliance with, as appropriate, either the
provisions of the Indenture described under "-- Certain Covenants -- Limitation
on Asset Sales" or those described under "-- Certain Covenants -- Merger,
Consolidation and Sale of Substantially All Assets;" and (iii) the Company shall
have delivered to the Trustee an Officer's Certificate and an Opinion of
Counsel, each stating that such transaction complies with the above provisions
and that all conditions precedent relating to such transaction have been
complied with.
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<PAGE> 81
OPTIONAL REDEMPTION
At any time on or after July 1, 2003, the Old Notes are, and the New Notes
will be, redeemable at the option of the Company, in whole or in part (equal to
$1,000 in principal amount or an integral multiple thereof), on not less than 30
nor more than 60 days' prior notice, at the following redemption prices
(expressed as percentages of principal amount), plus accrued and unpaid interest
and Liquidated Damages, if any, to the date of redemption (subject to the right
of holders of record on the relevant record date to receive interest due on the
relevant interest date), if redeemed during the 12-month period commencing on
July 1 of the years indicated below.
<TABLE>
<CAPTION>
YEAR REDEMPTION PRICE
---- ----------------
<S> <C>
2003..................... 106.2500%
2004..................... 104.6875%
2005..................... 103.1250%
2006..................... 101.5625%
2007..................... 100.0000%
</TABLE>
Notwithstanding the foregoing, prior to July 1, 2001, the Company may, at
any time or from time to time, redeem up to 20% of the aggregate principal
amount of any Notes originally outstanding at a redemption price of 112.5% of
the principal amount thereof, plus accrued and unpaid interest and Liquidated
Damages, if any, to the date of redemption, with the net cash proceeds of one or
more Equity Offerings of the Company, provided that at least 80% of the
aggregate principal amount of the Notes originally issued remains outstanding
immediately after the occurrence of such redemption and provided, further, that
such redemption shall occur not later than 75 days after the date of the closing
of any such Equity Offering. The redemption shall be made in accordance with
procedures set forth in the Indenture.
If less than all of the Notes are to be redeemed at any time, selection of
Notes for redemption will be made by the Trustee in compliance with the
requirements of the principal national securities exchange, if any, on which the
Notes are listed, or, if the Notes are not so listed, on a pro rata basis, by
lot or by such method as the Trustee shall deem fair and appropriate.
SINKING FUND
There is no mandatory sinking fund payments for the Old Notes, and there
will be no mandatory sinking fund payments for the New Notes.
PURCHASE AT THE OPTION OF HOLDERS UPON A CHANGE OF CONTROL
Upon the occurrence of a Change of Control, each Holder of Notes shall have
the right to require the Company to repurchase all or any part (equal to $1,000
in principal amount or an integral multiple thereof) of such Holder's Notes
pursuant to the offer described below (the "Change of Control Offer") at a
purchase price in cash equal to 101% of the principal amount thereof, plus
accrued and unpaid interest and Liquidated Damages, if any, to the date of
purchase (the "Change of Control Payment").
Within 30 days following any Change of Control, the Company shall mail a
notice to each Holder stating, among other things: (i) that a Change of Control
has occurred and a Change of Control Offer is being made pursuant to the
Indenture and that all Notes (or portions thereof) properly tendered will be
accepted for payment; (ii) the purchase price and the purchase date, which shall
be, subject to any contrary requirements of applicable law, no fewer than 30
days nor more than 60 days from the date the Company notifies the Holders of the
occurrence of the Change of Control (the "Change of Control Payment Date");
(iii) that any Note (or portion thereof) accepted for payment (and duly paid on
the Change of Control Payment Date) pursuant to the Change of Control Offer
shall cease to accrue interest on the Change of Control Payment Date; (iv) that
any Notes (or portions thereof) not properly tendered will continue to accrue
interest; (v) a description of the transaction or transactions constituting the
Change of Control; (vi) the procedures that Holders of Notes must follow in
order to tender their Notes (or portions thereof) for payment and the procedures
that Holders of Notes must follow in order to withdraw an election to tender
Notes (or portions
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<PAGE> 82
thereof) for payment; and (vii) all other instructions and materials necessary
to enable Holders to tender Notes pursuant to the Change of Control Offer.
The Company will comply, to the extent applicable, with the requirements of
Rules 13e-4 and 14e-1 under the Exchange Act, and any other securities laws and
regulations thereunder to the extent such laws and regulations are applicable in
connection with the purchase of Notes in connection with a Change of Control. To
the extent that the provisions of any securities laws or regulations conflict
with the provisions relating to the Change of Control Offer, the Company will
comply with the applicable securities laws and regulations and will not be
deemed to have breached its obligations described above.
If a Change of Control were to occur, there can be no assurance that the
Company and the Subsidiary Guarantors would have sufficient financial resources,
or would be able to arrange financing, to pay the purchase price for all Notes
tendered by the Holders thereof. In addition, the Credit Agreement and the ECT
Revolving Credit Agreement contain, and any future credit agreements or other
agreements relating to indebtedness to which the Company or a Subsidiary
Guarantor becomes a party may contain, restrictions on the purchase of Notes. If
a Change of Control occurs at a time when the Company and the Subsidiary
Guarantors are unable to purchase the Notes (due to insufficient financial
resources, contractual prohibition or otherwise), such failure to purchase
tendered Notes would constitute an Event of Default under the Indenture, which
would, in turn, constitute a default under the Credit Agreement and the ECT
Revolving Credit Agreement and may constitute a default under the terms of any
other Indebtedness of the Company or the Subsidiary Guarantors then outstanding.
The Company will not be required to make a Change of Control Offer upon a
Change of Control if a third party makes the Change of Control Offer in the
manner, at the times and otherwise in compliance with the requirements set forth
in the Indenture applicable to a Change of Control Offer made by the Company and
purchases all Notes validly tendered and not withdrawn under such Change of
Control Offer.
A "Change of Control" shall be deemed to occur if (i) any "person" or
"group" (within the meaning of Sections 13(d)(3) and 14(d)(2) of the Exchange
Act or any successor provision to either of the foregoing, including any group
acting for the purpose of acquiring, holding or disposing of securities within
the meaning of Rule 13d-5(b)(1) under the Exchange Act), becomes the "beneficial
owner" (as defined in Rules 13d-3 and 13d-5 under the Exchange Act) of 50% or
more of the total voting power of all classes of the Voting Stock of the Company
or warrants or options to acquire such Voting Stock, calculated on a fully
diluted basis, (ii) the sale, lease, conveyance or transfer of all or
substantially all of the assets of the Company and its Restricted Subsidiaries
taken as a whole (other than to any Wholly Owned Restricted Subsidiary) shall
have occurred, (iii) the stockholders of the Company shall have approved any
plan of liquidation or dissolution of the Company, (iv) the Company consolidates
with or merges into another Person or any Person merges into the Company in any
such event pursuant to a transaction in which the outstanding Voting Stock of
the Company is reclassified into or exchanged for cash, securities or other
property, other than any such transaction where (a) the outstanding Voting Stock
of the Company is reclassified into or exchanged for Voting Stock of the
surviving corporation that is Capital Stock and (b) the holders of the Voting
Stock of the Company immediately prior to such transaction own, directly or
indirectly, not less than a majority of the Voting Stock of the surviving
corporation immediately after such transaction in substantially the same
proportion as before the transaction or (v) during any period of two consecutive
years, individuals who at the beginning of such period constituted the Company's
Board of Directors (together with any new directors whose election or
appointment by such board or whose nomination for election by the stockholders
of the Company was approved by a vote of a majority of the directors then still
in office who were either directors at the beginning of such period or whose
election or nomination for election was previously so approved) cease for any
reason to constitute a majority of the Company's Board of Directors then in
office, excluding directors elected by JEDI or its affiliates.
The definition of Change of Control includes a phrase relating to the sale,
lease, conveyance or transfer of "all or substantially all" of the Company's
assets. The Indenture is governed by New York law, and there is no established
quantitative definition under New York law of "substantially all" of the assets
of a corporation. Accordingly, if the Company and its Restricted Subsidiaries
were to engage in a transaction in which they disposed of less than all of the
assets of the Company and its Restricted Subsidiaries taken as a whole, a
question of interpretation could arise as to whether such disposition was of
"substantially all" of their assets and whether the Company was required to make
a Change of Control Offer.
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Except as described above with respect to a Change of Control, the
Indenture does not contain any other provisions that permit the Holders of the
Notes to require that the Company repurchase or redeem the Notes in the event of
a takeover, recapitalization or similar restructuring.
BOOK-ENTRY SYSTEM
Except as set forth below, the Old Notes were issued in registered, global
form in minimum denominations of $1,000 and integral multiples of $1,000 in
excess thereof.
Old Notes sold in reliance on Rule 144A were represented by, and the New
Notes initially will be represented by, one or more Notes in registered global
form without interest coupons (each a "Rule 144A Global Note"). The Rule 144A
Global Notes will be deposited upon issuance with the Trustee as custodian for
The Depository Trust Company ("DTC"), in New York, New York and registered in
the name of DTC or its nominee, in each case for credit to an account of a
direct or indirect participant in DTC as described below.
Regulation S Notes initially will be represented by one or more temporary
Notes in registered global Form without interest coupons (collectively, the
"Regulation S Temporary Global Note"). The Regulation S Temporary Global Note
will be deposited on behalf of the subscribers thereof with a custodian for DTC.
The Regulation S Temporary Global Note will be registered in the name of a
nominee of DTC for credit to the subscribers' respective accounts at Euroclear
System ("Euroclear") and Cedel Bank, S.A. ("CEDEL"). Beneficial interests in the
Regulation S Temporary Global Note may be held only through Euroclear or CEDEL.
Within a reasonable period of time after the expiration of the "40-day
restricted period" (within the meaning of Rule 903(c)(3) of Regulation S under
the Securities Act) (the "40-day restricted period"), the Regulation S Temporary
Global Note will be exchanged for one or more permanent Notes in registered
global Form without interest coupons (the "Regulation S Permanent Global Notes"
and, together with the Regulation S Temporary Global Note, the "Regulation S
Global Note") (the Regulation S Global Note and the Rule 144A Global Note,
collectively, being the "Global Notes") upon delivery to the Trustee of
certification as provided in the Indenture. During the 40-day restricted period,
beneficial interests in the Regulation S Temporary Global Note may be held only
through Euroclear or CEDEL (as indirect participants in DTC), and, pursuant to
DTC's procedures, beneficial interests in the Regulation S Temporary Global Note
may not be transferred to a person that takes delivery thereof in the Form of an
interest in the Rule 144A Global Note. After the 40-day restricted period, (i)
beneficial interests in the Regulation S Permanent Global Notes may be
transferred to a person that takes delivery in the Form of an interest in the
Rule 144A Global Note and (ii) beneficial interests in the Rule 144A Global Note
may be transferred to person that takes delivery in the Form of an interest in
the Regulation S Permanent Global Notes, provided, that the certification
requirements described below are complied with.
Except as set forth below, the Global Notes may be transferred, in whole
and not in part, only to another nominee of DTC or to a successor of DTC or its
nominee. Beneficial interests in the Global Notes may not be exchanged for Notes
in certificated Form except in the limited circumstances described below. See
"-- Exchange of Book-Entry Notes for Certificated Notes." Except in the limited
circumstances described below, owners of beneficial interests in the Global
Notes are entitled to receive physical delivery of Certificated Notes (as
defined below).
Rule 144A Notes (including beneficial interests in the Rule 144A Global
Note) will be subject to certain restrictions on transfer and will bear a
restrictive legend as described under "Notice to Investors." Regulation S Notes
will also bear the legend described under "Notice to Investors." In addition,
transfer of beneficial interests in the Global Notes will be subject to the
applicable rules and procedures of DTC and its direct or indirect participants
(including, if applicable, those of Euroclear and CEDEL), which may change from
time to time.
Initially, the Trustee will act as Paying Agent and Registrar. The Notes
may be presented for registration of transfer and exchange at the offices of the
Registrar.
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DEPOSITARY PROCEDURES
The following description of the operations and procedures of DTC,
Euroclear and CEDEL are provided solely as a matter of convenience. These
operations and procedures are solely within the control of the respective
settlement systems and are subject to changes by them from time to time. The
Company takes no responsibility for these operations and procedures and urges
investors to contact the system or their participants directly to discuss these
matters.
DTC has advised the Company that DTC is a limited-purpose trust company
created to hold securities for its participating organizations (collectively,
the "Participants") and to facilitate the clearance and settlement of
transactions in those securities between Participants through electronic
book-entry changes in accounts of its Participants. The Participants include
securities brokers and dealers (including the Initial Purchasers), banks, trust
companies, clearing corporations and certain other organizations. Access to
DTC's system is also available to other entities such as banks, brokers, dealers
and trust companies that clear through or maintain a custodial relationship with
a Participant, either directly or indirectly (collectively, the "Indirect
Participants"). Persons who are not Participants may beneficially own securities
held by or on behalf of DTC only through the Participants or the Indirect
Participants. The ownership interests and transfer of ownership interests of
each actual purchaser of each security held by or on behalf of DTC are recorded
on the records of the Participants and Indirect Participants.
DTC has also advised the Company that, pursuant to procedures established
by it, (i) upon deposit of the Global Notes, DTC will credit the accounts of
Participants designated by the Initial Purchasers with portions of the principal
amount of the Global Notes and (ii) ownership of such interests in the Global
Notes will be maintained by DTC (with respect to the Participants) or by the
Participants and the Indirect Participants (with respect to other owners of
beneficial interests in the Global Notes).
Investors in the Rule 144A Global Note may hold their interests therein
directly through DTC, if they are Participants in such system, or indirectly
through organizations (including Euroclear and CEDEL) which are Participants in
such system. Investors in the Regulation S Global Note must initially hold their
interests therein through Euroclear or CEDEL, if they are participants in such
systems, or indirectly through organizations that are participants in such
systems ("Member Organizations"). After the expiration of the 40-day restricted
period (but not earlier), investors may also hold interests in the Regulation S
Global Note through organizations other than Euroclear and CEDEL that are
Participants or Indirect Participants. Euroclear and CEDEL will hold interests
in the Regulation S Global Note on behalf of their participants through
customers' securities accounts in their respective names on the books of their
respective depositaries, which are Morgan Guaranty Trust Company of New York,
Brussels office, as operator of Euroclear, and Citibank, N.A., as operator of
CEDEL. The depositaries, in turn, will hold such interests in the Regulation S
Global Note in customers' securities accounts in the depositaries' names on the
books of DTC. All interests in a Global Note, including those held through
Euroclear or CEDEL, may be subject to the procedures and requirements of DTC.
Those interests held through Euroclear or CEDEL may also be subject to the
procedures and requirements of such systems. The laws of some states require
that certain persons take physical delivery in definitive form of securities
that they own. consequently, the ability to transfer beneficial interest in a
Global Note to such person will be limited to that extent. Because DTC can act
only on behalf of Participants, which in turn act on behalf of Indirect
Participants and certain banks, the ability of a person having beneficial
interests in Global Note to pledge such interests to persons or entities that do
not participate in the DTC system, or otherwise take actions in respect of such
interests, may be affected by the lack of a physical certificate evidencing such
interests. For certain other restrictions on the transferability of the Notes,
see "-- Exchange of Book-Entry Notes for Certificated Notes," and "-- Exchanges
between Regulation S Notes and Rule 144A Notes."
EXCEPT AS DESCRIBED BELOW, OWNERS OF INTERESTS IN THE GLOBAL NOTES WILL NOT
HAVE NOTES REGISTERED IN THEIR NAMES, WILL NOT RECEIVE PHYSICAL DELIVERY OF
NOTES IN CERTIFICATED FORM AND WILL NOT BE CONSIDERED THE REGISTERED OWNERS OR
HOLDERS THEREOF UNDER THE INDENTURE FOR ANY PURPOSE.
Payments in respect of the principal of and premium, if any, and interest
and Liquidated Damages, if any, on Global Notes registered in the name of DTC or
its nominee will be payable by the Trustee to DTC in its capacity as the
registered Holder under the Indenture. Under the terms of the Indenture, the
Company and the Trustee will treat the persons in whose names the Notes,
including the Global Notes, are registered as the owners thereof for the purpose
of receiving such payments and for any and all other purposes whatsoever.
Consequently, neither the Company, the Trustee nor any agent of the Company or
the Trustee has or will have any responsibility or liability
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for (i) any aspect of DTC's records or any Participant's or Indirect
Participant's records relating to or payments made on account of beneficial
ownership interests in the Global Notes, or for maintaining, supervising or
reviewing any of DTC's records or any Participant's or Indirect Participant's
records relating to the beneficial ownership interests in the Global Notes or
(ii) any other matter relating to the actions and practices of DTC or any of its
Participants or Indirect Participants. DTC has advised the Company that its
current practice, upon receipt of any payment in respect of securities such as
the Notes (including principal and interest), is to credit the accounts of the
relevant Participants with the payment on the payment date, in amounts
proportionate to their respective holdings in the principal amount of beneficial
interests in the relevant security as shown on the records of DTC unless DTC has
reason to believe it will not receive payment on such payment date. Payments by
the Participants and the Indirect Participants to the beneficial owners of Notes
will be governed by standing instructions and customary practices and will be
the responsibility of the Participants or the Indirect Participants and will not
be the responsibility of DTC, the Trustee or the Company. Neither the Company
nor the Trustee will be liable for any delay by DTC or any of its Participants
in identifying the beneficial owners of the Notes, and the Company and the
Trustee may conclusively rely on and will be protected in relying on
instructions from DTC or its nominee for all purposes.
Except for trades involving only Euroclear and CEDEL participants,
interests in the Global Notes are expected to be eligible to trade in DTC's
Same-Day Funds Settlement System and secondary market trading activity in such
interests will therefore settle in immediately available funds, subject in all
cases to the rules and procedures of DTC and its Participants.
Subject to the transfer restrictions set forth under "Notice to Investors,"
transfers between Participants in DTC will be effected in accordance with DTC's
procedures, and will be settled in same-day funds, and transfers between
participants in Euroclear and CEDEL will be effected in the ordinary way in
accordance with their respective rules and operating procedures.
Subject to compliance with the transfer restrictions applicable to the
Notes described herein, cross-market transfers between the Participants in DTC,
on the one hand, and Euroclear or CEDEL participants, on the other hand, will be
effected through DTC in accordance with DTC's rules on behalf of Euroclear or
CEDEL, as the case may be, by its respective depositaries; however, such
cross-market transactions will require delivery of instructions to Euroclear or
CEDEL, as the case may be, by the counterparty in such system in accordance with
the rules and procedures and within the established deadlines (Brussels time) of
such system. Euroclear or CEDEL, as the case may be, will, if the transaction
meets its settlement requirements, deliver instructions to its respective
depositaries to take action to effect final settlement on its behalf by
delivering or receiving interests in the relevant Global Note in DTC, and making
or receiving payment in accordance with normal procedures for same-day funds
settlement applicable to DTC. Euroclear participants and CEDEL participants may
not deliver instructions directly to the depositaries for Euroclear or CEDEL.
Because of time zone differences, the securities account of a Euroclear or
CEDEL participant purchasing an interest in a Global Note from a Participant in
DTC will be credited, and any such crediting will be reported to the relevant
Euroclear or CEDEL participant, during the securities settlement processing day,
(which must be a business day for Euroclear and CEDEL) immediately following the
settlement date of DTC. DTC has advised the Company that cash received in
Euroclear or CEDEL as a result of sales of interests in a Global Note by or
through a Euroclear or CEDEL participant to a Participant in DTC will be
received with value on the settlement date of DTC but will be available in the
relevant Euroclear or CEDEL cash account only as of the business day for
Euroclear or CEDEL following DTC's settlement date.
DTC has advised the Company that it will take any action permitted to be
taken by a Holder of Notes only at the direction of one or more Participants to
whose account with DTC interests in the Global Notes are credited and only in
respect of such portion of the aggregate principal amount of the Notes as to
which such Participant or Participants has or have given such direction.
However, if there is an Event of Default under the Notes, DTC reserves the right
to exchange the Global Notes for legended Notes in certificated form, and to
distribute such Notes to its Participants.
The information in this section concerning DTC, Euroclear and CEDEL and
their book-entry systems has been obtained from sources that the Company
believes to be reliable, but the Company takes no responsibility for the
accuracy thereof.
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Although DTC, Euroclear and CEDEL have agreed to the foregoing procedures
to facilitate transfers of interests in the Regulation S Global Note and in the
Rule 144A Global Note among participants in DTC, Euroclear and CEDEL, they are
under no obligation to perform or to continue to perform such procedures, and
such procedures may be discontinued at any time. Neither the Company nor the
Trustee will have any responsibility for the performance by DTC, Euroclear or
CEDEL or their respective participants or indirect participants of their
respective obligations under the rules and procedures governing their
operations.
TRANSFER OF NOTES HELD THROUGH DTC
The Trustee and DTC have confirmed that the Exchange Offer is eligible for
the DTC Automated Tender Offer Program ("ATOP"). DTC has authorized DTC
participants that hold Notes on behalf of beneficial owners of Notes through DTC
to tender their Notes as if they were Holders. To effect a tender, DTC
participants should transmit their acceptance to DTC through ATOP by causing DTC
to transfer Notes to the Trustee for such Notes in accordance with ATOP's
procedures for transfer. DTC will then send an Agent's Message (as defined
below) to the Trustee. Delivery of tendered Notes by a DTC participant must be
made to the Trustee pursuant to the procedure for book-entry transfer set forth
below or the tendering DTC participant must comply with the guaranteed delivery
procedures set forth below.
Except as provided below, unless the Notes being tendered are deposited
with the Trustee for such Notes, prior to 5:00 p.m., New York City time, on the
Expiration Date (accompanied by a properly completed and duly executed Letter of
Transmittal or a properly transmitted Agent's Message relating to such Notes),
IMPAC may, at its option, treat such tender as defective.
BOOK-ENTRY DELIVERY PROCEDURES
The Trustee has established or will establish within two Business Days (as
defined below) after the date of this Prospectus an account at DTC under the
ATOP program with respect to the Notes, as the case may be, for purposes of the
Exchange Offer in respect of such Notes, and any financial institution that is a
participant in DTC may make book-entry delivery of the Notes, as the case may
be, by causing DTC to transfer such Notes to the DTC for such Notes in
accordance with DTC's procedures for such transfer. A "Business Day" includes
any day which is not a Saturday, Sunday or federal holiday. However, although
delivery of Notes may be effected through book-entry transfer to the Trustee
through DTC, an Agent's Message in connection with a book-entry transfer or, if
Letter of Transmittal is utilized, the applicable Letter of Transmittal (or
facsimile thereof) with any required signature guarantees, the certificates
representing the Notes and any other documents required signature guarantees,
the certificates representing the Notes and any other documents required by the
applicable Letter of Transmittal is utilized, the applicable Letter of
Transmittal (or a facsimile thereof) with any required signature guarantees, the
certificates representing the Notes and any other documents required by the
applicable Letter of Transmittal, must, in any case, be transmitted to and
received by the Trustee at its address set forth herein prior to 5:00 p.m., New
York City time, on the Expiration Date, or, to be validly tendered prior to 5:00
p.m., New York City time, on the Expiration Date, the guaranteed delivery
procedures described below must be complied with. Delivery of documents to DTC
does not constitute delivery to the Trustee. The confirmation of a book-entry
transfer to the Trustee through DTC via DTC's ATOP procedures as described above
in referred to herein as "Book-Entry Confirmation."
The term "Agent's Message" means a message transmitted by DTC to, and
received by, the Trustee and forming a part of the Book- Entry Conformation,
which states that DTC has received an express acknowledgment from each
participant in DTC tendering the Notes that such participant has received the
applicable Letter of Transmittal and agrees to be bound by the terms of such
Letter of Transmittal and that IMPAC may enforce such agreement against such
participants.
EXCHANGE OF BOOK-ENTRY NOTES FOR CERTIFICATED NOTES
A Global Note is exchangeable for definitive New Notes in registered
certificated form if (i) DTC (x) notifies the Company that it is unwilling or
unable to continue as depositary for the Global Note and the Company thereupon
fails to appoint a successor depositary or (y) has ceased to be a clearing
agency registered under the Exchange Act, (ii) the Company, at its option,
notifies the Trustee in writing that it elects to cause the issuance of the New
Notes in certificated Form or (iii) there shall have occurred and be continuing
an Event of Default or any event which after notice or lapse of time or both
would be an Event of Default with respect to the New Notes. In addition, subject
to
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certain limitations, beneficial interests in a Global Note are exchangeable for
definitive New Notes upon the request of the beneficial holder to the Trustee
through the applicable procedures of DTC. In all cases, certificated New Notes
delivered in exchange for any Global Note or beneficial interests therein will
be registered in the names, and issued in any approved denominations, requested
by or on behalf of the depositary (in accordance with its customary procedures)
and will bear the applicable restrictive legend referred to in "Notice to
Investors," unless the Company determines otherwise in compliance with
applicable law.
CERTAIN COVENANTS
The Indenture contains, among others, the following covenants:
Limitation on Indebtedness
The Indenture provides that the Company will not, and it will not permit
any of its Restricted Subsidiaries to, directly or indirectly, Incur any
Indebtedness (other than Permitted Indebtedness) unless, after giving pro forma
effect to the incurrence of such Indebtedness and the receipt and application of
the proceeds thereof, (i) no Default or Event of Default would occur as a
consequence of, or be continuing following, such Incurrence and application and
(ii) the Consolidated Interest Coverage Ratio would exceed (i) 2.25 to 1.0 if
such Incurrence is between the Issue Date and July 1, 1999 and (ii) 2.50 to 1.0
if such Incurrence is thereafter.
"Permitted Indebtedness" means any and all of the following: (i)
Indebtedness arising under the Indenture, including without limitation the Notes
and the Subsidiary Guarantees; (ii) Indebtedness under the Senior Credit
Facilities, to the extent that the aggregate principal amount of all
Indebtedness under the Senior Credit Facilities, together with all Indebtedness
Incurred pursuant to clause (ix) of this paragraph in respect of Indebtedness
previously Incurred pursuant to this clause (ii), at any one time outstanding
does not exceed the greater of (a) $35.0 million and (b) $8.0 million, plus 15%
of Adjusted Consolidated Net Tangible Assets determined as of the date of the
Incurrence of such Indebtedness; provided, however, that the maximum amount
available to be outstanding under the Senior Credit Facilities as Permitted
Indebtedness pursuant to this clause (ii) shall be permanently reduced by the
amount of Net Available Cash from Asset Sales used to permanently repay
Indebtedness under the Senior Credit Facilities (with a permanent reduction of
the related commitment to lend or the amount available to be refinanced in the
case of a revolving credit facility) and not subsequently reinvested in
Additional Assets or used to permanently reduce other Indebtedness to the extent
permitted pursuant to the provisions of the Indenture described under "--
Limitation on Asset Sales"; provided, however, that the application of any such
Net Available Cash from Asset Sales shall not permanently reduce the amount of
Permitted Indebtedness under this clause (ii) below $10.0 million in principal
amount plus related accrued interest and costs; (iii) Indebtedness to the
Company or any of its Wholly Owned Restricted Subsidiaries by any of its
Restricted Subsidiaries or Indebtedness of the Company to any of its Wholly
Owned Restricted Subsidiaries (but only so long as such Indebtedness is held by
the Company or a Wholly Owned Restricted Subsidiary); (iv) Indebtedness in
respect of bid, performance or surety obligations issued by or for the account
of the Company or any Restricted Subsidiary in the ordinary course of business,
including guarantees and letters of credit functioning as or supporting such
bid, performance or surety obligations (in each case other than for an
obligation for money borrowed); (v) Indebtedness under Permitted Hedging
Agreements; (vi) obligations relating to oil or gas balancing positions arising
in the ordinary course of business that are customary in the Oil and Gas
Business; (vii) Indebtedness outstanding on the Issue Date (which is not repaid
with the proceeds of the Note Offering) not otherwise permitted in clauses (i)
through (vi) above; (viii) Indebtedness not otherwise permitted to be Incurred
pursuant to this paragraph (excluding any Indebtedness Incurred pursuant to the
provisions of the Indenture described in the immediately preceding paragraph),
provided that the aggregate principal amount of all Indebtedness Incurred
pursuant to this clause (viii), together with all Indebtedness Incurred pursuant
to clause (ix) of this paragraph in respect of Indebtedness previously Incurred
pursuant to this clause (viii), at any one time outstanding does not exceed
$15.0 million; (ix) Indebtedness Incurred in exchange for, or the proceeds of
which are used to refinance, (a) Indebtedness referred to in clauses (i) through
(viii) of this paragraph (including Indebtedness previously Incurred pursuant to
this clause (ix)) and (b) Indebtedness Incurred pursuant to the provisions of
the Indenture described in the immediately preceding paragraph, provided that
such Indebtedness is Permitted Refinancing Indebtedness; and (x) Indebtedness
consisting of obligations in respect of purchase price adjustments, indemnities
or Guarantees in connection with the acquisition or disposition of assets.
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Limitation on Liens
The Indenture provides that the Company will not, and will not permit any
Restricted Subsidiary to, directly or indirectly, enter into, create, incur,
assume or suffer to exist any Lien (other than Permitted Liens) on or with
respect to any Property of the Company or such Restricted Subsidiary, whether
owned on the Issue Date or acquired after the Issue Date, or any interest
therein or any income or profits therefrom, unless the Notes (and, in the case
of a Restricted Subsidiary which is a Subsidiary Guarantor, the Subsidiary
Guaranty of such Subsidiary) are secured equally and ratably with (or prior to)
any and all other obligations secured by such Lien.
"Permitted Liens" means any and all of the following: (i) Liens existing as
of the Issue Date; (ii) Liens securing the Notes, the Subsidiary Guarantees and
other obligations arising under the Indenture; (iii) any Lien existing on any
Property (including future improvements thereon, accessions thereto and proceeds
thereof) of a Person at the time such Person is merged or consolidated with or
into the Company or a Subsidiary Guarantor or becomes a Restricted Subsidiary
that is a Subsidiary Guarantor (and not incurred in anticipation of or in
connection with such transaction), provided that such Liens are not extended to
other Property of the Company or the Subsidiary Guarantors; (iv) any Lien
existing on any Property (including future improvements thereon, accessions
thereto and proceeds thereof) at the time of the acquisition thereof (and not
incurred in anticipation of or in connection with such transaction), provided
that such Liens are not extended to other Property of the Company or the
Subsidiary Guarantors; (v) any Lien incurred in the ordinary course of business
incidental to the conduct of the business of the Company or the Subsidiary
Guarantors or the ownership of their Property (including, without limitation,
(a) easements, rights of way and similar encumbrances, (b) rights or title of
lessors under leases (other than Capital Lease Obligations), (c) rights of
collecting banks having rights of setoff, revocation, refund or chargeback with
respect to money or instruments of the Company or the Subsidiary Guarantors or
on deposit with or in the possession of such banks, (d) Liens imposed by law,
including without limitation, Liens under workers' compensation or similar
legislation and mechanics', carriers', warehousemen's, materialmen's, suppliers'
and vendors' Liens, (e) Liens incurred to secure performance of obligations with
respect to statutory or regulatory requirements, performance or return-of-money
bonds, surety bonds or other obligations of a like nature and incurred in a
manner consistent with industry practice and (f) Liens on deposits made in the
ordinary course of business), in each case which are not incurred in connection
with the borrowing of money, the obtaining of advances or the payment of the
deferred purchase price of Property (other than Trade Accounts Payable) and
which do not in the aggregate impair in any material respect the use of Property
in the operation of the business of the Company and its Restricted Subsidiaries
taken as a whole; (vi) Liens for taxes, assessments and governmental charges not
yet due or the validity of which are being contested in good faith by
appropriate proceedings, promptly instituted and diligently conducted, and for
which adequate reserves have been established to the extent required by GAAP;
(vii) Liens incurred to secure appeal bonds and judgment and attachment Liens,
in each case in connection with litigation or legal proceedings that are being
contested in good faith by appropriate proceedings so long as reserves have been
established to the extent required by GAAP as in effect at such time and so long
as such Liens do not encumber assets by an amount in excess of $5.0 million;
(viii) Liens securing Permitted Hedging Agreements of the Company and its
Restricted Subsidiaries; (ix) Oil and Gas Liens Incurred in the ordinary course
of the business of the Company and its Restricted Subsidiaries; (x) purchase
money security interests (including, without limitation, Capital Lease
Obligations) granted in connection with the acquisition of fixed assets in the
ordinary course of business of the Company and its Restricted Subsidiaries,
provided, that (a) such Liens attach only to the Property (including future
improvements thereon, accessions thereto and proceeds thereof) so acquired with
the purchase money Indebtedness secured thereby and (b) the Indebtedness secured
by such Liens is not in excess of the purchase price of such Property; (xi)
Liens resulting from the deposit of funds or evidences of Indebtedness in trust
for the purpose of decreasing or defeasing Indebtedness of the Company or any of
its Subsidiaries so long as such deposit of funds is permitted by the provisions
of the Indenture described under "-- Limitation on Restricted Payments;" (xii)
Liens resulting from a pledge of Capital Stock of a Person that is not a
Restricted Subsidiary; (xiii) Liens, including liens resulting from the pledge
of Capital Stock of Restricted Subsidiaries, to secure obligations arising from
time to time under the Senior Credit Facilities; (xiv) Liens to secure any
permitted extension, renewal, refinancing, refunding or exchange (or successive
extensions, renewals, refinancings, refundings or exchanges), in whole or in
part, of or for any Indebtedness secured by Liens referred to in clauses (i),
(ii), (iii), (iv), (x) and (xiii) above; provided, however, that (a) such new
Lien shall be limited to all or part of the same Property (including future
improvements thereon, accessions thereto and proceeds thereof) that secured the
original Lien and (b) the Indebtedness secured by such Lien at such time is not
increased to any amount greater than the sum of (1) the outstanding principal
amount or, if greater, the committed amount of the Indebtedness secured by such
original Lien immediately prior to such extension, renewal, refinancing,
refunding or exchange and (2) an amount necessary to pay any fees and expenses,
including premiums, related to such refinancing, refunding,
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extension, renewal or replacement; (xv) Liens encumbering property or assets
under construction arising from progress or partial payments by a customer of
the Company or its Restricted Subsidiaries relating to such property or assets;
and (xvi) Liens in favor of the Company or a Subsidiary Guarantor.
Notwithstanding anything in this paragraph to the contrary, the term "Permitted
Liens" does not include Liens resulting from the creation, incurrence, issuance,
assumption or Guarantee of any Production Payment and Reserve Sale other than
(a) Production Payments and Reserve Sales in connection with the acquisition of
Properties after the Issue Date, provided that any such Liens created in
connection therewith are created, incurred, issued, assumed or guaranteed in
connection with the financing of, and within 90 days after the acquisition of,
the Property that is subject thereto, (b) Production Payments and Reserve Sales,
other than those described in clause (a) of this sentence, to the extent such
Production Payments and Reserve Sales constitute Asset Sales made pursuant to
and in compliance with the provisions of the Indenture described under "--
Limitation on Asset Sales," or (c) Oil and Gas Liens that are not
Dollar-Denominated Production Payments or Volumetric Production Payments, that
are incurred in the ordinary course of business of the Company and its
Restricted Subsidiaries, and that may be deemed under the definition of
Production Payments and Reserve Sales to constitute Production Payments and
Reserve Sales.
Limitation on Restricted Payments
(a) The Indenture provides that the Company will not, and will not permit
any of its Restricted Subsidiaries to, directly or indirectly, make any
Restricted Payment if, at the time of and after giving effect to the proposed
Restricted Payment, (i) any Default or Event of Default would have occurred and
be continuing, (ii) the Company could not incur at least $1.00 of additional
Indebtedness (other than Permitted Indebtedness) pursuant to the provisions of
the Indenture described under "-- Limitation on Indebtedness" or (iii) the
aggregate amount expended or declared for all Restricted Payments from the Issue
Date would exceed the sum (without duplication) of the following:
(i) 50% of the aggregate Consolidated Net Income of the Company accrued
on a cumulative basis commencing on the last day of the fiscal quarter
immediately preceding the Issue Date, and ending on the last day of the
fiscal quarter ending on or immediately preceding the date of such proposed
Restricted Payment (or, if such aggregate Consolidated Net Income shall be
a loss, minus 100% of such loss), plus
(ii) the aggregate net cash proceeds, or the Fair Market Value of
Property other than cash, received by the Company on or after the Issue
Date from the issuance or sale (other than to a Subsidiary of the Company)
of Capital Stock of the Company or any options, warrants or rights to
purchase Capital Stock of the Company, plus
(iii) the aggregate net cash proceeds or the Fair Market Value of
Property other than cash received by the Company as capital contributions
to the Company (other than from a Subsidiary of the Company) on or after
the Issue Date, plus
(iv) the aggregate net cash proceeds received by the Company upon the
exercise of any options, warrants or rights to purchase shares of Capital
Stock of the Company (other than from a Subsidiary of the Company) on or
after the Issue Date, plus
(v) the aggregate net cash proceeds received on or after the Issue Date
by the Company from the issuance or sale (other than to any Subsidiary of
the Company) of convertible debt or convertible Redeemable Stock that has
been converted into or exchanged for Capital Stock of the Company, together
with the aggregate cash received by the Company at the time of such
conversion or exchange, plus
(vi) to the extent not otherwise included in the Company's Consolidated
Net Income, an amount equal to the net reduction in Investments made by the
Company and its Restricted Subsidiaries subsequent to the Issue Date in any
Person resulting from (1) payments of interest on debt, dividends,
repayments of loans or advances or other transfers or distributions of
Property, in each case to the Company or any Restricted Subsidiary from any
Person other than the Company or a Restricted Subsidiary, and in an amount
not to exceed the book value of such Investments previously made in such
Person that were treated as Restricted Payments, or (2) the designation of
any Unrestricted Subsidiary as a Restricted Subsidiary, and in an amount
not to exceed the lesser of (x) the book value of all Investments
previously made in such Unrestricted Subsidiary that were treated as a
Restricted Payments and (y) the Fair Market Value of such Unrestricted
Subsidiary.
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(b) The limitations set forth in paragraph (a) above will not prevent the
Company or any Restricted Subsidiary from making the following Restricted
Payments so long as, at the time thereof, no Default or Event of Default shall
have occurred and be continuing (except in the case of clause (i) below under
which the payment of a dividend is permitted, so long as the declaration of such
dividend was made in compliance with the provisions under "-- Limitation on
Restricted Payments"):
(i) the payment of any dividend on Capital Stock of the Company or any
Restricted Subsidiary within 60 days after the declaration thereof, if at
such declaration date such dividend could have been paid in compliance with
paragraph (a) above;
(ii) the purchase, redemption or other acquisition or retirement for
value of any Capital Stock of the Company or any Restricted Subsidiary, in
exchange for, or out of the aggregate net cash proceeds of, a substantially
concurrent issuance and sale (other than to a Subsidiary of the Company) of
Capital Stock of the Company;
(iii) the making of any principal payment on or the repurchase,
redemption, defeasance or other acquisition or retirement for value, prior
to any scheduled principal payment, scheduled sinking fund payment or
maturity, of any Indebtedness (other than Redeemable Stock) in exchange
for, or out of the aggregate net cash proceeds of, a substantially
concurrent issuance and sale (other than to a Subsidiary of the Company) of
Capital Stock of the Company;
(iv) the making of any principal payment on or the repurchase,
redemption, defeasance or other acquisition or retirement for value of
Indebtedness in exchange for, or out of the aggregate net cash proceeds of,
a substantially concurrent Incurrence (other than a sale to a Subsidiary of
the Company) of Indebtedness so long as such new Indebtedness is Permitted
Refinancing Indebtedness and such new Indebtedness (a) has an Average Life
to Stated Maturity that is longer than the Average Life to Stated Maturity
of the Notes and (b) has a Stated Maturity for its final scheduled
principal payment that is at least 91 days later than the Stated Maturity
of the final scheduled principal payment of the Notes;
(v) loans made to officers, directors or employees of the Company or
any Restricted Subsidiary approved by the Board of Directors (or a duly
authorized officer), the proceeds of which are used solely (a) to purchase
common stock of the Company in connection with a restricted stock or
employee stock purchase plan, or to exercise stock options received
pursuant to an employee or director stock option plan or other incentive
plan, in a principal amount not to exceed the exercise price of such stock
options or (b) to refinance loans, together with accrued interest thereon,
made pursuant to Item (a) of this clause (v); and
(vi) the repurchase, redemption or other acquisition or retirement for
value of the Company's 12% Bonds outstanding on the date hereof.
The actions described in clauses (i), (ii), (iii) and (v) of this paragraph
(b) shall be Restricted Payments that shall be permitted to be taken in
accordance with this paragraph (b) but shall reduce the amount that would
otherwise be available for Restricted Payments under paragraph (a) (provided
that any dividend paid pursuant to clause (i) of this paragraph (b) shall reduce
the amount that would otherwise be available under paragraph (a) when declared,
but not also when subsequently paid pursuant to such clause (i)), and the
actions described in clause (iv) of this paragraph (b) shall be Restricted
Payments that shall be permitted to be taken in accordance with this paragraph
(b) but shall not reduce the amount that would otherwise be available for
Restricted Payments under paragraph (a).
Limitation on Issuance and Sale of Capital Stock of Restricted Subsidiaries
The Indenture provides that the Company will not (i) permit any Restricted
Subsidiary to sell or otherwise issue any Capital Stock other than to the
Company or one of its Wholly Owned Restricted Subsidiaries or (ii) permit any
Person other than the Company or a Wholly Owned Restricted Subsidiary to own any
Capital Stock of any other Restricted Subsidiary, except, in each case, for (a)
directors' qualifying shares, (b) the Capital Stock of a Restricted Subsidiary
owned by a Person at the time such Restricted Subsidiary became a Restricted
Subsidiary or acquired by such Person in connection with the formation of the
Restricted Subsidiary, or transfers thereof or (c) a sale of all of the Capital
Stock of a Restricted Subsidiary owned by the Company or its Subsidiaries
effected in accordance with the provisions of the Indenture described under "--
Limitation on Asset Sales."
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Limitation on Asset Sales
The Indenture provides that the Company will not, and will not permit any
Restricted Subsidiary to, consummate any Asset Sale unless (i) the Company or
such Restricted Subsidiary, as the case may be, receives consideration at the
time of such Asset Sale at least equal to the Fair Market Value of the shares
and assets subject to such Asset Sale and (ii) at least 75% of the consideration
paid to the Company or such Restricted Subsidiary in connection with such Asset
Sale is in the Form of cash or Cash Equivalents or Exchanged Properties
("Permitted Consideration").
The Net Available Cash from Asset Sales by the Company or a Restricted
Subsidiary may be applied by the Company or such Restricted Subsidiary, to the
extent the Company or such Restricted Subsidiary elects (or is required by the
terms of any Indebtedness of the Company or such Restricted Subsidiary), to (i)
prepay, repay or purchase Indebtedness of the Company or a Subsidiary Guarantor
or Indebtedness of such Restricted Subsidiary (in each case excluding
Indebtedness owed to the Company or an Affiliate of the Company (other than
pursuant to a Senior Credit Facility) and Indebtedness of the Company or a
Subsidiary Guarantor which is subordinated to the Notes or the applicable
Subsidiary Guaranty), (ii) to reinvest in Additional Assets (including by means
of an Investment in Additional Assets by a Restricted Subsidiary with Net
Available Cash received by the Company or another Restricted Subsidiary) or
(iii) purchase Notes (excluding Notes owned by the Company or an Affiliate of
the Company, other than pursuant to an offer made to all holders of the Notes).
Any Net Available Cash from an Asset Sale not applied in accordance with
the preceding paragraph within 365 days from the date of such Asset Sale shall
constitute "Excess Proceeds." When the aggregate amount of Excess Proceeds
exceeds $10.0 million, the Company will be required to make an offer to purchase
Notes having an aggregate principal amount equal to the aggregate amount of
Excess Proceeds (the "Prepayment Offer") at a purchase price equal to 100% of
the principal amount of such Notes plus accrued and unpaid interest and
Liquidated Damages, if any, to the Purchase Date (as defined) in accordance with
the procedures (including prorating in the event of oversubscription) set forth
in the Indenture, but, if the terms of any Indebtedness (other than Indebtedness
which is subordinated to the Notes or a Subsidiary Guaranty) require that an
offer to purchase such Indebtedness be made contemporaneously with the
Prepayment Offer, then the Excess Proceeds shall be prorated between the
Prepayment Offer and such other Offer in accordance with the aggregate
outstanding principal amounts of the Notes and such other Indebtedness, and the
aggregate principal amount of Notes for which the Prepayment Offer is made shall
be reduced accordingly. If the aggregate principal amount of Notes tendered by
Holders thereof exceeds the amount of available Excess Proceeds, then such
Excess Proceeds will be allocated pro rata according to the principal amount of
the Notes tendered and the Trustee will select the Notes to be purchased in
accordance with the Indenture. To the extent that any portion of the amount of
Excess Proceeds remains after compliance with the second sentence of this
paragraph and provided that all Holders of Notes have been given the opportunity
to tender their Notes for purchase as described in the following paragraph in
accordance with the Indenture, the Company or such Restricted Subsidiary may use
such remaining amount for general corporate purposes and the amount of Excess
Proceeds will be reset to zero.
Within five days after the 365th day following the date of an Asset Sale,
the Company shall, if it is obligated to make an offer to purchase the Notes
pursuant to the preceding paragraph, send a written Prepayment Offer notice, by
first-class mail, to the Holders of the Notes (the "Prepayment Offer Notice"),
accompanied by such information regarding the Company and its Subsidiaries as
the Company in good faith believes will enable such Holders of the Notes to make
an informed decision with respect to the Prepayment Offer. The Prepayment Offer
Notice will state, among other things, (i) that the Company is offering to
purchase Notes pursuant to the provisions of the Indenture, (ii) that any Note
(or any portion thereof) accepted for payment (and duly paid on the Purchase
Date) pursuant to the Prepayment Offer shall cease to accrue interest on the
Purchase Date, (iii) that any Securities (or portions thereof) not properly
tendered will continue to accrue interest, (iv) the purchase price and purchase
date, which shall be, subject to any contrary requirements of applicable law, no
less than 30 days nor more than 60 days after the date the Prepayment Offer
Notice is mailed (the "Purchase Date"), (v) the aggregate principal amount of
Notes to be purchased, (vi) a description of the procedure which Holders of
Notes must follow in order to tender their Notes and the procedures that Holders
of Notes must follow in order to withdraw an election to tender their Notes for
payment, and (vii) all other instructions and materials necessary to enable
Holders to tender Notes pursuant to the Prepayment Offer.
The Company will comply, to the extent applicable, with the requirements of
Rules 13e-4 and 14e-1 under the Exchange Act and any other securities laws or
regulations thereunder to the extent such laws and regulations are
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applicable in connection with the purchase of Notes as described above. To the
extent that the provisions of any securities laws or regulations conflict with
the provisions relating to the Prepayment Offer, the Company will comply with
the applicable securities laws and regulations and will not be deemed to have
breached its obligations described above.
There can be no assurance that the Company and the Subsidiary Guarantors
will be able to fund any Prepayment Offer. The Credit Agreement and the ECT
Revolving Credit Agreement contain, and any future credit agreements or other
agreements relating to indebtedness to which the Company or a Subsidiary
Guarantor becomes a party may contain, restrictions on the repurchase of Notes.
If a Prepayment Offer is required to be made at a time when such restrictions
are in effect, such failure to purchase tendered Notes would constitute an Event
of Default under the Indenture, which would, in turn, constitute a default under
the Credit Agreement and the ECT Revolving Credit Agreement and may constitute a
default under the terms of any other Indebtedness of the Company or the
Subsidiary Guarantors then outstanding.
Limitation on Transactions with Affiliates
The Indenture provides that the Company will not, and will not permit any
of its Restricted Subsidiaries to, directly or indirectly, conduct any business
or enter into any transaction or series of transactions (including, but not
limited to, but excluding transactions under certain agreements in existence on
the Issue Date, the sale, transfer, disposition, purchase, exchange or lease of
Property, the making of any Investment, the giving of any Guarantee or the
rendering of any service) with or for the benefit of any Affiliate of the
Company (other than the Company or a Wholly Owned Restricted Subsidiary), unless
(i) such transaction or series of transactions is on terms no less favorable to
the Company or such Restricted Subsidiary than those that could be obtained in a
comparable arm's-length transaction with a Person that is not an Affiliate of
the Company or such Restricted Subsidiary, and (ii) with respect to a
transaction or series of transactions involving aggregate payments by or to the
Company or such Restricted Subsidiary having a Fair Market Value equal to or in
excess of (a) $1.0 million but less than $5.0 million, the Board of Directors of
the Company (including a majority of the disinterested members of the Board of
Directors of the Company) approves such transaction or series of transactions
and, in its good faith judgment, believes that such transaction or series of
transactions complies with clause (i) of this paragraph, as evidenced by a
certified resolution delivered to the Trustee or (b) $5.0 million, (1) the
Company receives from an independent, nationally recognized investment banking
firm or appraisal firm, in either case specializing or having a specialty in the
type and subject matter of the transaction (or series of transactions) at issue,
a written opinion that such transaction (or series of transactions) is fair,
from a financial point of view, to the Company or such Restricted Subsidiary and
(2) the Board of Directors of the Company (including a majority of the
disinterested members of the Board of Directors of the Company) approves such
transaction or series of transactions and, in its good faith judgment, believes
that such transaction or series of transactions complies with clause (i) of this
paragraph, as evidenced by a certified resolution delivered to the Trustee.
The limitations of the preceding paragraph do not apply to (i) the payment
of reasonable and customary compensation (including pursuant to stock option and
stock purchase plans) to directors of the Company or any of its Restricted
Subsidiaries who are not employees of the Company or any of its Restricted
Subsidiaries, (ii) indemnities of officers and directors of the Company or any
Subsidiary consistent with such Person's bylaws and applicable statutory
provisions, (iii) the Company's and its Restricted Subsidiaries' employee
compensation and other benefit arrangements or (iv) Investments in Unrestricted
Subsidiaries which are deemed to be Restricted Payments under the provisions
under "-- Limitation on Restricted Payments."
Restrictions on Distributions from Restricted Subsidiaries
The Indenture provides that the Company will not, and will not permit any
of its Restricted Subsidiaries to, directly or indirectly, create, assume or
otherwise cause or suffer to exist or become effective, or enter into any
agreement with any Person that would cause to become effective, any consensual
encumbrance or restriction on the legal right of any Restricted Subsidiary to
(i) pay dividends, in cash or otherwise, or make any other distributions on or
in respect of its Capital Stock or Redeemable Stock held by the Company or a
Subsidiary Guarantor, (ii) pay any Indebtedness or other obligation owed to the
Company or any Subsidiary Guarantor, (iii) make any Investments in the Company
or any Subsidiary Guarantor, or (iv) transfer any of its property or assets to
the Company or any Subsidiary Guarantor. Such limitation will not apply (a) with
respect to clauses (iii) and (iv) only, to encumbrances and restrictions (1) in
existence under or by reason of any agreements in effect on the Issue Date, (2)
required under
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Senior Credit Facilities that are not more restrictive than those in effect
under the Senior Credit Facilities on the Issue Date, (3) in existence with
respect to a Restricted Subsidiary at the time it became a Restricted Subsidiary
if (a) such encumbrance or restriction was not created in anticipation of or in
connection with the transactions pursuant to which the Restricted Subsidiary
became a Restricted Subsidiary and (b) immediately following such transaction,
on a pro forma basis, the Company could incur at least $1.00 of additional
Indebtedness (other than Permitted Indebtedness) pursuant to the provisions of
the Indenture described under "-- Limitation on Indebtedness" or (4) which
result from the renewal, refinancing, extension or amendment of an agreement
referred to in the immediately preceding clauses (1), (2) and (3), provided,
such replacement or encumbrance or restriction is no more restrictive to the
Company or Restricted Subsidiary and is not materially less favorable to the
Holders of Notes than those under or pursuant to the agreement evidencing the
Indebtedness so extended, renewed, refinanced or replaced, and (b) with respect
to clause (iv) only, to (1) any restriction on the sale, transfer or other
disposition of assets or Property as a result of a Lien permitted under the
provisions of the Indenture described under "-- Limitation on Liens," (2) any
encumbrance or restriction arising in connection with an acquisition of
Property, so long as such encumbrance or restriction relates solely to the
Property so acquired (including future improvements thereon, accessions thereto
and proceeds thereof) and was not created in anticipation of or in connection
with such acquisition, (3) customary provisions restricting subletting or
assignment of leases and customary provisions in other agreements that restrict
assignment of such agreements or rights thereunder, (4) any encumbrance or
restriction due to applicable law, (5) customary restrictions contained in asset
sale agreements limiting the transfer of such assets pending the closing of such
sale and (6) restrictions contained in purchase money obligations for Property
acquired in the ordinary course of business with respect to transfers of such
Property.
Restricted and Unrestricted Subsidiaries
Unless defined or designated as an Unrestricted Subsidiary, any Person that
becomes a Subsidiary of the Company or any of its Restricted Subsidiaries shall
be classified as a Restricted Subsidiary subject to the provisions of the next
paragraph. The Company may designate a Subsidiary (including a newly formed or
newly acquired Subsidiary) of the Company or any of its Restricted Subsidiaries
as an Unrestricted Subsidiary if (i) such Subsidiary does not at such time own
any Capital Stock, Redeemable Stock or Indebtedness of, or own or hold any Lien
on any property of, the Company or any other Restricted Subsidiary, (ii) such
Subsidiary does not at such time have any Indebtedness or other obligations
which, if in default, would result (with the passage of time or notice or
otherwise) in a default on any Indebtedness of the Company or any Restricted
Subsidiary and (iii)(a) such designation is effective immediately upon such
Subsidiary becoming a Subsidiary of the Company or of a Restricted Subsidiary,
(b) the Subsidiary to be so designated has total assets of $1,000 or less or (c)
if such Subsidiary has total assets greater than $1,000, then such redesignation
as an Unrestricted Subsidiary is deemed to constitute a Restricted Payment in an
amount equal to the Fair Market Value of the Company's direct and indirect
ownership interest in such Subsidiary, and such Restricted Payment would be
permitted to be made at the time of such designation under the provisions of the
Indenture described under "-- Limitation on Restricted Payments." Except as
provided in clauses (iii)(b) and (c) of this paragraph, no Restricted Subsidiary
may be redesignated as an Unrestricted Subsidiary. The designation of an
Unrestricted Subsidiary or removal of such designation shall be made by the
Board of Directors of the Company or a committee thereof pursuant to a certified
resolution delivered to the Trustee and shall be effective as of the date
specified in the applicable certified resolution, which shall not be prior to
the date such certified resolution is delivered to the Trustee.
The Company will not, and will not permit any of its Restricted
Subsidiaries to, take any action or enter into any transaction or series of
transactions that would result in a Person becoming a Restricted Subsidiary
(whether through an acquisition or otherwise, but excluding the creation by the
Company of a new Wholly Owned Restricted Subsidiary) unless, after giving effect
to such action, transaction or series of transactions, on a pro forma basis, (i)
the Company could Incur at least $1.00 of additional Indebtedness (other than
Permitted Indebtedness) pursuant to the provisions of the Indenture described
under "-- Limitation on Indebtedness" and (ii) no Default or Event of Default
would occur or be continuing.
Merger, Consolidation and Sale of Substantially All Assets
The Indenture provides that (i) the Company will not merge or consolidate
with or into any other Person (whether or not the Company is the surviving
entity), and (ii) the Company will not and will not permit its Restricted
Subsidiaries to, directly or indirectly, sell, transfer, assign, lease, convey
or otherwise dispose of all or substantially all of the Property of the Company
and its Restricted Subsidiaries taken as a whole to any Person in any one
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transaction or a series of transactions (including, without limitation,
dispositions pursuant to mergers, consolidations, Investments and Production
Payments and Reserve Sales), in each case unless: (a) the Surviving Entity (as
defined) shall be a corporation organized and existing under the laws of the
United States of America or a State thereof or the District of Columbia; (b) in
the case of a transaction described in clause (ii) above, such Property shall
have been transferred as an entirety or virtually as an entirety to one Person;
(c) immediately before and immediately after giving effect to such transaction
or series of transactions on a pro forma basis, no Default or Event of Default
shall have occurred and be continuing; (d) except in the case of a merger of the
Company with a Restricted Subsidiary, immediately after giving effect to such
transaction or series of transactions on a pro forma basis, the Surviving Entity
would be able to incur at least $1.00 of additional Indebtedness (other than
Permitted Indebtedness) under the provisions of the Indenture described under
"-- Limitation on Indebtedness;" (e) except in the case of a merger of the
Company with a Restricted Subsidiary, immediately after giving effect to such
transaction or series of transactions on a pro forma basis, the Surviving Entity
shall have a Consolidated Net Worth equal to or greater than the Consolidated
Net Worth of the Company immediately prior to the transaction or series of
transactions; (f) if the Company is not the Surviving Entity, then (1) the
Surviving Entity shall have executed and delivered to the Trustee a supplemental
indenture satisfactory to the Trustee pursuant to which the Surviving Entity
assumes the obligations of the Company under the Indenture and the Notes, (2)
each Subsidiary Guarantor (unless it is the Surviving Entity) shall have
executed and delivered to the Trustee a supplemental indenture satisfactory to
the Trustee confirming that such Subsidiary Guarantor's Subsidiary Guaranty
remains in full force and effect and guarantees the Surviving Entity's
obligations under the Indenture and the Notes, and (3) in the case of a
transaction described in clause (ii) above in which the transferee assumes all
of the obligations of the Company under the Indenture and the Notes, the Company
shall be released and shall no longer be considered an obligor under the
Indenture and the Notes; and (g) the Company, and if the Company is not the
Surviving Entity the Surviving Entity, shall have delivered to the Trustee an
Officer's Certificate (attaching the calculations to demonstrate compliance with
(d) and (e) above) and an Opinion of Counsel, each stating that such merger,
consolidation or disposition and any such supplemental indentures comply with
the terms of the Indenture. The Term "Surviving Entity" shall mean the Person
referred to in clauses (i) and (ii) above (1) formed by or surviving any such
merger or consolidation involving the Company or (2) to which any sale,
transfer, assignment, lease, conveyance or other disposition is made.
With respect to each transaction or series of transactions described above,
giving effect to such transaction or series of transactions on a pro forma basis
shall include, without limitation, (i) treating any Indebtedness not previously
the obligation of the Company or any of its Restricted Subsidiaries which
becomes an obligation of the Company or any of its Restricted Subsidiaries in
connection with or as a result of such transaction or series of transactions as
having been incurred at the time of the transaction or series of transactions
and (ii) giving effect to any Indebtedness incurred or anticipated to be
incurred in connection with such transaction or series of transactions.
Reports
The Indenture provides that, whether or not required by the rules and
regulations of the SEC, so long as any Notes are outstanding, the Company will
file with the SEC and furnish to the Holders of Notes all quarterly and annual
financial information required to be contained in a filing with the SEC on Forms
10-QSB and 10-KSB, including a "Management's Discussion and Analysis of
Financial Condition and Results of Operations" and, with respect to the annual
consolidated financial statements only, a report thereon by the Company's
independent auditors.
CERTAIN DEFINITIONS
Set forth below is a summary of certain of the defined terms used in the
Indenture. Reference is made to the Indenture for the full definition of all
such terms, as well as any other capitalized terms used herein for which no
definition is provided.
"Additional Assets" means (i) any Property (other than cash, Permitted
Short-Term Investments or securities) used in the Oil and Gas Business or any
business ancillary thereto, (ii) Investments in any other Person engaged in the
Oil and Gas Business or any business ancillary thereto (including the
acquisition from third parties of Capital Stock of such Person) made in
compliance with the provisions of the Indenture described under "-- Certain
Covenants -- Limitation on Restricted Payments" and as a result of which such
other Person becomes a Restricted Subsidiary in compliance with the provisions
of the Indenture described under "-- Certain Covenants -- Restricted and
Unrestricted Subsidiaries," (iii) the acquisition from third parties of Capital
Stock of a Restricted Subsidiary,
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(iv) the costs of acquiring, exploiting, developing and exploring in respect of
oil and gas properties or (v) Permitted Business Investments.
"Adjusted Consolidated Net Tangible Assets" means (without duplication), as
of the date of determination, the remainder of: (i) the sum of (a) discounted
future net revenues from proved oil and gas reserves of the Company and its
Restricted Subsidiaries calculated in accordance with Commission guidelines
before any state, federal or foreign income taxes, as estimated by the Company
and confirmed by a nationally recognized firm of independent petroleum engineers
in a reserve report prepared as of the end of the Company's most recently
completed fiscal year for which audited financial statements are available, as
increased by, as of the date of determination, the estimated discounted future
net revenues from (1) estimated proved oil and gas reserves acquired since such
year-end, which reserves were not reflected in such year-end reserve report, and
(2) estimated oil and gas reserves attributable to upward revisions of estimates
of proved oil and gas reserves since such year-end due to exploration,
development or exploitation activities, in each case calculated in accordance
with SEC guidelines (utilizing the prices utilized in such year-end reserve
report), and decreased by, as of the date of determination, the estimated
discounted future net revenues from (3) estimated proved oil and gas reserves
produced or disposed of since such year-end and (4) estimated oil and gas
reserves attributable to downward revisions of estimates of proved oil and gas
reserves since such year-end due to changes in geological conditions or other
factors which would, in accordance with standard industry practice, cause such
revisions, in each case calculated in accordance with SEC guidelines (utilizing
the prices utilized in such year-end reserve report); provided that, in the case
of each of the determinations made pursuant to clauses (1) through (4), such
increases and decreases shall be as estimated by the Company's petroleum
engineers, unless there is a Material Change as a result of such acquisitions,
dispositions or revisions, in which event the discounted future net revenues
utilized for purposes of this clause (i)(a) shall be confirmed in writing by a
nationally recognized firm of independent petroleum engineers, (b) the
capitalized costs that are attributable to oil and gas properties of the Company
and its Restricted Subsidiaries to which no proved oil and gas reserves are
attributable, based on the Company's books and records as of a date no earlier
than the date of the Company's latest annual or quarterly financial statements,
(c) the Net Working Capital on a date no earlier than the date of the Company's
latest annual or quarterly financial statements and (d) the greater of (1) the
net book value on a date no earlier than the date of the Company's latest annual
or quarterly financial statements and (2) the appraised value, as estimated by
independent appraisers, of other tangible assets (including, without
duplication, Investments in unconsolidated Restricted Subsidiaries) of the
Company and its Restricted Subsidiaries, as of the date no earlier than the date
of the Company's latest audited financial statements, minus (ii) the sum of (a)
minority interests, (b) any net gas balancing liabilities of the Company and its
Restricted Subsidiaries reflected in the Company's latest audited financial
statements, (c) to the extent included in (i)(a) above, the discounted future
net revenues, calculated in accordance with Commission guidelines (utilizing the
prices utilized in the Company's year-end reserve report), attributable to
reserves which are required to be delivered to third parties to fully satisfy
the obligations of the Company and its Restricted Subsidiaries with respect to
Volumetric Production Payments (determined, if applicable, using the schedules
specified with respect thereto) and (d) the discounted future net revenues,
calculated in accordance with Commission guidelines, attributable to reserves
subject to Dollar-Denominated Production Payments which, based on the estimates
of production and price assumptions included in determining the discounted
future net revenues specified in (i)(a) above, would be necessary to fully
satisfy the payment obligations of the Company and its Restricted Subsidiaries
with respect to Dollar-Denominated Production Payments (determined, if
applicable, using the schedules specified with respect thereto).
"Adjusted Net Assets" of a Subsidiary Guarantor at any date shall mean the
amount by which the fair value of the Property of such Subsidiary Guarantor
exceeds the total amount of liabilities, including, without limitation,
contingent liabilities (after giving effect to all other fixed and contingent
liabilities incurred or assumed on such date), but excluding liabilities under
the Subsidiary Guaranty, of such Subsidiary Guarantor at such date.
"Affiliate" of any specified Person means any other Person (i) which
directly or indirectly through one or more intermediaries controls, or is
controlled by, or is under common control with, such specified Person or (ii)
which beneficially owns or holds directly or indirectly 10% or more of the
Voting Stock of such specified Person or of any Subsidiary of such specified
Person. For the purposes of this definition, "control," when used with respect
to any specified Person, means the power to direct the management and policies
of such Person directly or indirectly, whether through the ownership of Voting
Stock, by contract or otherwise; and the terms "controlling" and "controlled"
have meanings correlative to the foregoing.
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"Asset Sale" means, with respect to any Person, any transfer, conveyance,
sale, lease or other disposition (collectively, "dispositions," and including,
without limitation, dispositions pursuant to any consolidation or merger) by
such Person or any of its Restricted Subsidiaries in any single transaction or
series of transactions of (i) shares of Capital Stock or other ownership
interests of another Person (including Capital Stock of Restricted Subsidiaries
and Unrestricted Subsidiaries) or (ii) any other Property of such Person or any
of its Restricted Subsidiaries; provided, however, that the term "Asset Sale"
shall not include: (a) the disposition of Permitted Short-Term Investments,
inventory, accounts receivable or other Property (excluding the disposition of
oil and gas in place and other interests in real property unless made in
connection with a Permitted Business Investment) in the ordinary course of
business; (b) the disposition of Property received in settlement of debts owing
to the Company or any Restricted Subsidiary as a result of foreclosure,
perfection or enforcement of any Lien or debt, which debts were owing to the
Company or any Restricted Subsidiary in the ordinary course of business of the
Company or such Restricted Subsidiary; (c) any disposition that constitutes a
Restricted Payment made in compliance with the provisions of the Indenture
described under "-- Certain Covenants -- Limitation on Restricted Payments;" (d)
when used with respect to the Company, any disposition of all or substantially
all of the Property of the Company permitted pursuant to the provisions of the
Indenture described under "-- Certain Covenants -- Merger, Consolidation and
Sale of Substantially All Assets;" (e) the disposition of any Property by the
Company or a Restricted Subsidiary to the Company or a Wholly Owned Restricted
Subsidiary; (f) the disposition of any asset with a Fair Market Value of less
than $5.0 million; or (g) any Production Payment and Reserve Sale created,
incurred, issued, assumed or guaranteed in connection with the financing of, and
within 90 days after the acquisition of, the Property that is subject thereto.
"Assigned Restricted Subsidiary Indebtedness" means Indebtedness of a
Restricted Subsidiary to the Company that the Company has assigned to the
lenders under any Senior Credit Facility, as collateral securing Indebtedness of
the Company under such Senior Credit Facility.
"Attributable Indebtedness"' means the total net amount of rent required to
be paid during the remaining primary term of any particular lease under which
any person is at the time liable, discounted at the rate per annum equal to the
weighted average interest rate borne by the Notes.
"Average Life" means, with respect to any Indebtedness, at any date of
determination, the quotient obtained by dividing (i) the sum of the products of
(a) the number of years (and any portion thereof) from the date of determination
to the date or dates of each successive scheduled principal payment (including,
without limitation, any sinking fund or mandatory redemption payment
requirements) of such Indebtedness multiplied by (b) the amount of each such
principal payment by (ii) the sum of all such principal payments.
"Capital Lease Obligation" means any obligation which is required to be
classified and accounted for as a capital lease obligation in accordance with
GAAP, and the amount of Indebtedness represented by such obligation shall be the
capitalized amount of such obligation determined in accordance with GAAP, and
the Stated Maturity thereof shall be the date of the last payment date of rent
or any other amount due in respect of such obligation. For purposes of the
provisions of the Indenture described under "-- Certain Covenants -- Limitation
on Liens," a Capital Lease Obligation shall be deemed to be secured by a Lien on
the Property being leased.
"Capital Stock" in any Person means any and all shares, interests,
participations or other equivalents in the equity interest (however designated)
in such Person and any rights (other than debt securities convertible into an
equity interest), warrants or options to subscribe for or to acquire an equity
interest in such Person; provided, however, that "Capital Stock" shall not
include Redeemable Stock.
"Cash Equivalents" means (i) United States dollars, (ii) securities issued
or directly and fully guaranteed or insured by the United States government or
any agency or instrumentality thereof, (iii) certificates of deposit and
eurodollar time deposits with maturities of six months or less from the date of
acquisition, bankers' acceptances with maturities not exceeding six months and
overnight bank deposits, in each case with any domestic commercial bank having
capital and surplus in excess of $500 million and a Keefe Bank Watch Rating of
"B" or better, (iv) repurchase obligations with a term of not more than seven
days for underlying securities of the types described in clauses (ii) and (iii)
entered into with any financial institution meeting the qualifications specified
in clause (iii) above and (v) commercial paper having the highest rating
obtainable from Moody's or S&P and, in each case, maturing within six months
after the date of acquisition.
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"Consolidated Interest Coverage Ratio" means, as of the date of the
transaction giving rise to the need to calculate the Consolidated Interest
Coverage Ratio (the "Transaction Date"), the ratio of (i) the aggregate amount
of EBITDA of the Company and its consolidated Restricted Subsidiaries for the
four full fiscal quarters immediately prior to the Transaction Date for which
financial statements are available to (ii) the aggregate Consolidated Interest
Expense of the Company and its Restricted Subsidiaries that is anticipated to
accrue during a period consisting of the fiscal quarter in which the Transaction
Date occurs and the three fiscal quarters immediately subsequent thereto (based
upon the pro forma amount and maturity of, and interest payments in respect of,
Indebtedness of the Company and its Restricted Subsidiaries expected by the
Company to be outstanding on the Transaction Date), assuming for the purposes of
this measurement the continuation of market interest rates prevailing on the
Transaction Date and base interest rates in respect of floating interest rate
obligations equal to the base interest rates on such obligations in effect as of
the Transaction Date; provided, that if the Company or any of its Restricted
Subsidiaries is a party to any Interest Rate Protection Agreement which would
have the effect of changing the interest rate on any Indebtedness of the Company
or any of its Restricted Subsidiaries for such four quarter period (or a portion
thereof), the resulting rate shall be used for such four quarter period or
portion thereof; provided further that any Consolidated Interest Expense with
respect to Indebtedness Incurred or retired by the Company or any of its
Restricted Subsidiaries during the fiscal quarter in which the Transaction Date
occurs shall be calculated as if such Indebtedness was so Incurred or retired on
the first day of the fiscal quarter in which the Transaction Date occurs. In
addition, if since the beginning of the four full fiscal quarter period
preceding the Transaction Date, (a) the Company or any of its Restricted
Subsidiaries shall have engaged in any Asset Sale, EBITDA for such period shall
be reduced by an amount equal to the EBITDA (if positive), or increased by an
amount equal to the EBITDA (if negative), directly attributable to the assets
which are the subject of such Asset Sale for such period calculated on a pro
forma basis as if such Asset Sale and any related retirement of Indebtedness had
occurred on the first day of such period or (b) the Company or any of its
Restricted Subsidiaries shall have acquired any material assets, EBITDA shall be
calculated on a pro forma basis as if such asset acquisitions had occurred on
the first day of such four fiscal quarter period.
"Consolidated Interest Expense" means, with respect to any Person for any
period, without duplication, (i) the sum of (a) the aggregate amount of cash and
noncash interest expense (including capitalized interest) of such Person and its
Restricted Subsidiaries for such period as determined on a consolidated basis in
accordance with GAAP in respect of Indebtedness (including, without limitation,
(1) any amortization of debt discount, (2) net costs associated with Interest
Rate Protection Agreements (including any amortization of discounts), (3) the
interest portion of any deferred payment obligation, (4) all accrued interest
and (5) all commissions, discounts, commitment fees, origination fees and other
similar fees and charges owed with respect to the Senior Credit Facilities and
other Indebtedness) paid, accrued or scheduled to be paid or accrued during such
period; (b) Redeemable Stock dividends of such Person (and of its Restricted
Subsidiaries if paid to a Person other than such Person or its Restricted
Subsidiaries) declared and payable other than in kind; (c) the portion of any
rental obligation of such Person or its Restricted Subsidiaries in respect of
any Capital Lease Obligation allocable to interest expense in accordance with
GAAP; (d) the portion of any rental obligation of such Person or its Restricted
Subsidiaries in respect of any Sale and Leaseback Transaction that is
Indebtedness allocable to interest expense (determined as if such obligation
were treated as a Capital Lease Obligation); and (e) to the extent any
Indebtedness of any other Person (other than Restricted Subsidiaries) is
Guaranteed by such Person or any of its Restricted Subsidiaries, the aggregate
amount of interest paid, accrued or scheduled to be paid or accrued by such
other Person during such period attributable to any such Indebtedness; less (ii)
to the extent included in (i) above, amortization or write-off of deferred
financing costs of such Person and its Restricted Subsidiaries during such
period; in the case of both (i) and (ii) above, after elimination of
intercompany accounts among such Person and its Restricted Subsidiaries and as
determined in accordance with GAAP.
"Consolidated Net Income" of any Person means, for any period, the
aggregate net income (or net loss, as the case may be) of such Person and its
Restricted Subsidiaries for such period on a consolidated basis, determined in
accordance with GAAP; provided that there shall be excluded therefrom, without
duplication, (i) the amount of non-cash writedowns attributable to any period
ending on or before January 1, 1999 if in compliance with GAAP or Commission
guidelines, and plus or minus, as appropriate, foreign currency translation
adjustments, all determined on a consolidated basis; (ii) items classified as
extraordinary gains or losses net of tax (less all fees and expenses relating
thereto); (iii) any gain or loss, net of taxes, on the sale or other disposition
of assets (less all fees and expenses relating thereto and including the Capital
Stock of any other Person) (but in no event shall this clause (iv) apply to the
sale in the ordinary course of business of oil, gas or other hydrocarbons
produced or manufactured or other personal property other than oil and gas in
place); (v) the net income of any Subsidiary of such specified Person to the
extent the transfer to that Person of that income is restricted by contract or
otherwise, except for any cash dividends or cash distributions actually paid by
such Subsidiary to such Person during such period; (vi) the net
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income (or loss) of any other Person in which such specified Person or any of
its Restricted Subsidiaries has an interest (which intertest does not cause the
net income of such other Person to be consolidated with the net income of such
specified Person in accordance with GAAP or is an interest in a consolidated
Unrestricted Subsidiary), except to the extent of the amount of cash dividends
or other cash distributions actually paid to such Person or its Restricted
Subsidiaries by such other Person during such period; (vii) the net income of
any Person acquired by such specified Person or any of its Restricted
Subsidiaries in a pooling-of-interests transaction for any period prior to the
date of such acquisition; (viii) any gain or loss, net of taxes, realized on the
termination of any employee pension benefit plan; (ix) any adjustments of a
deferred tax liability or asset pursuant to Statement of Financial Accounting
Standards No. 109 which result from changes in enacted tax laws or rates; and
(x) the cumulative effect of a change in accounting principles.
"Consolidated Net Tangible Assets" means (without duplication), as of the
date of determination, the sum of (a) discounted future net revenues from proved
oil and gas reserves of the Company and its Restricted Subsidiaries calculated
in accordance with Commission guidelines before any state, federal or foreign
income taxes, as estimated by the Company and confirmed by a nationally
recognized firm of independent petroleum engineers in a reserve report prepared
as of the end of the Company's most recently completed fiscal year for which
audited financial statements are available, as increased by, as of the date of
determination, the estimated discounted future net revenues from (1) estimated
proved oil and gas reserves acquired since such year-end, which reserves were
not reflected in such year-end reserve report, and (2) estimated oil and gas
reserves attributable to upward revisions of estimates of proved oil and gas
reserves since such year-end due to exploration, development or exploitation
activities, in each case calculated in accordance with SEC guidelines (utilizing
the prices utilized in such year-end reserve report), and decreased by, as of
the date of determination, the estimated discounted future net revenues from (3)
estimated proved oil and gas reserves produced or disposed of since such
year-end and (4) estimated oil and gas reserves attributable to downward
revisions of estimates of proved oil and gas reserves since such year-end due to
changes in geological conditions or other factors which would, in accordance
with standard industry practice, cause such revisions, in each case calculated
in accordance with Commission guidelines (utilizing the prices utilized in such
year-end reserve report); provided that, in the case of each of the
determinations made pursuant to clauses (1) through (4), such increases and
decreases shall be as estimated by the Company's petroleum engineers, unless
there is a Material Change as a result of such acquisitions, dispositions or
revisions, in which event the discounted future net revenues utilized for
purposes of this clause (i)(a) shall be confirmed in writing by a nationally
recognized firm of independent petroleum engineers, (b) the capitalized costs
that are attributable to oil and gas properties of the Company and its
Restricted Subsidiaries to which no proved oil and gas reserves are
attributable, based on the Company's books and records as of a date no earlier
than the date of the Company's latest annual or quarterly financial statements,
(c) the Net Working Capital on a date no earlier than the date of the Company's
latest annual or quarterly financial statements and (d) the greater of (1) the
net book value on a date no earlier than the date of the Company's latest annual
or quarterly financial statements and (2) the appraised value, as estimated by
independent appraisers, of other tangible assets (including, without
duplication, Investments in unconsolidated Restricted Subsidiaries) of the
Company and its Restricted Subsidiaries, as of the date no earlier than the date
of the Company's latest audited financial statements.
"Consolidated Net Worth" of any Person means the stockholders' equity of
such Person and its Restricted Subsidiaries, as determined on a consolidated
basis in accordance with GAAP, less (to the extent included in stockholders'
equity) amounts attributable to Redeemable Stock of such Person or its
Restricted Subsidiaries.
"Credit Agreement" means the Amended and Restated Credit Agreement, dated
as of April 17, 1998, by and among the Company, QSRn, Bank of Montreal, Enron
Capital & Trade Resources Corp., Joint Energy Development Investments II Limited
Partnership and each of the lenders now or hereafter signatories thereto and
Bank of Montreal, as agent for such lenders, as the same may be amended,
modified, extended, renewed, refunded, replaced or refinanced from time to time.
"Default" means any event, act or condition the occurrence of which is, or
after notice or the passage of time or both would be, an Event of Default.
"Dollar-Denominated Production Payments" means production payment
obligations recorded as liabilities in accordance with GAAP, together with all
undertakings and obligations in connection therewith.
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"EBITDA" means with respect to any Person for any period, the Consolidated
Net Income of such Person for such period, plus (i) the sum of, to the extent
reflected in the consolidated income statement of such Person and its Restricted
Subsidiaries for such period from which Consolidated Net Income is determined
and deducted in the determination of such Consolidated Net Income, without
duplication, (a) income tax expense (but excluding income tax expense relating
to sales or other disposition of assets (including the Capital Stock of any
other Person) the gains and losses from which are excluded in the determination
of such Consolidated Net Income), (b) Consolidated Interest Expense, (c)
depreciation and depletion expense, (d) amortization expense, (e) exploration
expense, and (f) any other noncash charges including, without limitation,
unrealized foreign exchange losses; less (ii) the sum of, to the extent
reflected in the consolidated income statement of such Person and its Restricted
Subsidiaries for such period from which Consolidated Net Income is determined
and added in the determination of such Consolidated Net Income, without
duplication (a) income tax recovery (but excluding income tax recovery relating
to sales or other dispositions of assets (excluding the Capital Stock of any
other Person) the gains and losses from which are included in the determination
of such Consolidated Net Income) and (b) unrealized foreign exchange gains.
"ECT Credit Agreement" means that certain Subordinated Revolving Credit
Loan Agreement, dated as of December 29, 1997, by and among QSRn and Enron
Capital & Trade Resources Corp., as agent for itself and the other lenders now
or hereafter party thereto, as the same may be amended, modified, extended,
renewed, refunded, replaced or refinanced from time to time.
"Equity Offering" means any public or private sale of Capital Stock
(including options, warrants or rights with respect thereto) of the Company.
"Event of Default" has the meaning set forth under the caption "-- Events
of Default and Notice."
"Exchanged Properties" means properties used or useful in the Oil and Gas
Business received by the Company or a Restricted Subsidiary in trade or as a
portion of the total consideration for other such properties.
"Fair Market Value" means, with respect to any assets to be transferred
pursuant to any Asset Sale or Sale and Leaseback Transaction or any non-cash
consideration or property transferred or received by any Person, the fair market
value of such consideration or property as determined in good faith by the Board
of Directors of the Company as evidenced by a certified resolution delivered to
the Trustee; provided that if such resolution indicates that such fair market
value is equal to or in excess of $5.0 million and such transaction involves any
Affiliate of the Company (other than a Restricted Subsidiary), such resolution
shall be accompanied by the written opinion of an independent, nationally
recognized investment banking firm or appraisal firm, in either case
specializing or having a specialty in the type and subject matter of the
transaction (or series of transactions) at issue, to the effect that such
consideration or property is fair, from a financial point of view, to such
Person.
"GAAP" means United States generally accepted accounting principles as in
effect on the date of the Indenture, unless stated otherwise.
"Guarantee" by any Person means any obligation, contingent or otherwise, of
such Person guaranteeing or having the economic effect of guaranteeing any
Indebtedness of any other Person (the "primary obligor") in any manner, whether
directly or indirectly, and including, without limitation, any Lien on the
assets of such Person securing obligations to pay Indebtedness of the primary
obligor and any obligation of such Person (i) to purchase or pay (or advance or
supply funds for the purchase or payment of) such Indebtedness or to purchase
(or to advance or supply funds for the purchase or payment of) any security for
the payment of such Indebtedness, (ii) to purchase Property, securities or
services for the purpose of assuring the holder of such Indebtedness of the
payment of such Indebtedness, or (iii) to maintain working capital, equity
capital or other financial statement condition or liquidity of the primary
obligor so as to enable the primary obligor to pay such Indebtedness (and
"Guaranteed," "Guaranteeing" and "Guarantor" shall have meanings correlative to
the foregoing); provided, however, that a Guarantee by any Person shall not
include (a) endorsements by such Person for collection or deposit, in either
case, in the ordinary course of business or (b) a contractual commitment by one
Person to invest in another Person for so long as such Investment is reasonably
expected to constitute a Permitted Investment under clause (ii) of the
definition of Permitted Investments.
"Holder" means the Person in whose name a Note is registered on the
Securities Register.
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"Incur" means, with respect to any Indebtedness or other obligation of any
Person, to create, issue, incur (by conversion, exchange or otherwise), assume,
Guarantee or become liable in respect of such Indebtedness or other obligation
or the recording, as required pursuant to GAAP or otherwise, of any such
Indebtedness or obligation on the balance sheet of such Person (and
"Incurrence," "Incurred," "Incurrable" and "Incurring" shall have meanings
correlative to the foregoing); provided, however, that a change in GAAP that
results in an obligation of such Person that exists at such time, and is not
theretofore classified as Indebtedness, becoming Indebtedness shall not be
deemed an Incurrence of such Indebtedness. For purposes of this definition,
Indebtedness of the Company or a Restricted Subsidiary held by a Wholly Owned
Subsidiary shall be deemed to be Incurred by the Company or such Restricted
Subsidiary in the event such Wholly Owned Subsidiary ceases to be a Wholly Owned
Subsidiary or in the event such Indebtedness is transferred to a Person other
than the Company or a Wholly Owned Subsidiary. For purposes of this definition,
any non-interest bearing or other discount Indebtedness shall be deemed to have
been incurred only on the date of original issue thereof.
"Indebtedness" means at any time (without duplication), with respect to any
Person, whether recourse is to all or a portion of the assets of such Person,
and whether or not contingent, (i) any Obligation of such Person for borrowed
money, (ii) any Obligation of such Person evidenced by bonds, debentures, notes,
Guarantees or other similar instruments, including, without limitation, any such
Obligations Incurred in connection with the acquisition of Property, assets or
businesses, (iii) any reimbursement obligation of such Person with respect to
letters of credit, bankers' acceptances or similar facilities issued for the
account of such Person, (iv) any Obligation of such Person issued or assumed as
the deferred purchase price of Property or services (other than Trade Accounts
Payable and other accrued current liabilities incurred in the ordinary course of
business), (v) any Capital Lease Obligation of such Person, (vi) the maximum
fixed redemption or repurchase price of Redeemable Stock of such Person at the
time of determination, (vii) any payment obligation of such Person under
Interest Rate Protection Agreements or Oil and Gas Hedging Contracts at the time
of determination, (viii) any obligation to pay rent or other payment amounts of
such Person with respect to any Sale and Leaseback Transaction to which such
Person is a party and (ix) any obligation of the type referred to in clauses (i)
through (viii) of this paragraph of another Person and all dividends of another
Person the payment of which, in either case, such Person has Guaranteed or is
responsible or liable, directly or indirectly, as obligor, Guarantor or
otherwise; provided that Indebtedness shall not include Production Payments and
Reserve Sales. For purposes of this definition, the maximum fixed repurchase
price of any Redeemable Stock that does not have a fixed repurchase price shall
be calculated in accordance with the terms of such Redeemable Stock as if such
Redeemable Stock were repurchased on any date on which Indebtedness shall be
required to be determined pursuant to the Indenture; provided, however, that if
such Redeemable Stock is not then permitted to be repurchased, the repurchase
price shall be the book value of such Redeemable Stock. The amount of
Indebtedness of any Person at any date shall be the outstanding balance at such
date of all unconditional Obligations as described above and the maximum
liability at such date in respect of any contingent Obligations described above.
"Independent Investment Banker" means Nesbitt Burns Securities Inc. and its
successor or, if such firm is unwilling or unable to select the applicable
Comparable Treasury Issue, an independent investment banking institution of
national standing appointed by the Trustee.
"Initial Subsidiary Guarantors" means Queen Sand Resources, Inc., a Nevada
corporation, Northland Operating Co., a Nevada corporation, and Corrida
Resources, Inc., a Nevada corporation.
"Interest Rate Protection Agreement" means, with respect to any Person, any
interest rate swap agreement, forward rate agreement, interest rate cap or
collar agreement or other financial agreement or arrangement entered into for
the purpose of limiting or managing interest rate risks, to or under which such
Person is a party or otherwise obligated.
"Investment" means, with respect to any Person (i) any amount paid by such
Person, directly or indirectly, to any other Person for Capital Stock or other
Property of, or as a capital contribution to, any other Person or (ii) any
direct or indirect loan or advance to any other Person (other than accounts
receivable of such Person arising in the ordinary course of business); provided,
however, that Investments shall not include extensions of trade credit on
commercially reasonable terms in accordance with normal trade practices and any
increase in the equity ownership in any Person resulting from retained earnings
of such Person.
"Issue Date" means the date on which the Notes first were issued under the
Indenture.
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"Lien" means, with respect to any Property, any mortgage or deed of trust,
pledge, hypothecation, assignment, deposit arrangement, security interest, lien
(statutory or other), charge, easement, encumbrance, preference, priority or
other security or similar agreement or preferential arrangement of any kind or
nature whatsoever on or with respect to such Property (including, without
limitation, any conditional sale or other title retention agreement having
substantially the same economic effect as any of the foregoing). For purposes of
the provisions of the Indenture described under "-- Certain Covenants --
Limitation on Liens," a Capital Lease Obligation shall be deemed to be secured
by a Lien on the Property being leased.
"Liquid Securities" means securities (i) of an issuer that is not an
Affiliate of the Company, (ii) that are publicly traded on the New York Stock
Exchange, the American Stock Exchange or the Nasdaq National Market and (iii) as
to which the Company is not subject to any restrictions on sale or transfer
(including any volume restrictions under Rule 144 under the Securities Act or
any other restrictions imposed by the Securities Act) or as to which a
registration statement under the Securities Act covering the resale thereof is
in effect for as long as the securities are held; provided, that securities
meeting the requirements of clauses (i), (ii) and (iii) above shall be treated
as Liquid Securities from the date of receipt thereof until and only until the
earlier of (x) the date on which such securities are sold or exchanged for cash
or Permitted Short-Term Investments and (y) 180 days following the date of
receipt of such securities. If such securities are not sold or exchanged for
cash or Permitted Short-Term Investments within 180 days of receipt thereof, for
purposes of determining whether the transaction pursuant to which the Company or
a Restricted Subsidiary received the securities was in compliance with the
provisions of the Indenture described under "-- Certain Covenants -- Limitation
on Asset Sales," such securities shall be deemed not to have been Liquid
Securities at any time.
"Material Change" means an increase or decrease (except to the extent
resulting from changes in prices) of more than 30% during a fiscal quarter in
the estimated discounted future net revenues from proved oil and gas reserves of
the Company and its Restricted Subsidiaries, calculated in accordance with
clause (i)(a) of the definition of Adjusted Consolidated Net Tangible Assets;
provided, however, that the following will be excluded from the calculation of
Material Change: (i) any acquisitions during the quarter of oil and gas reserves
with respect to which the Company's estimate of the discounted future net
revenues from proved oil and gas reserves has been confirmed by independent
petroleum engineers and (ii) any dispositions of Properties during such quarter
that were disposed of in compliance with the provisions of the Indenture
described under "-- Certain Covenants -- Limitation on Asset Sales."
"Moody's" means Moody's Investors Service, Inc. and its successors.
"Net Available Cash" from an Asset Sale means cash proceeds received
therefrom (including (i) any cash proceeds received by way of deferred payment
of principal pursuant to a note or installment receivable or otherwise, but only
as and when received and (ii) the Fair Market Value of Liquid Securities and
Permitted Short-Term Investments, and excluding (i) any other consideration
received in the Form of assumption by the acquiring Person of Indebtedness or
other obligations relating to such properties or assets and (ii) except to the
extent subsequently converted to cash, Liquid Securities or Permitted Short-Term
Investments within 240 days after such Asset Sale, consideration constituting
Exchanged Properties or consideration other than Permitted Consideration), in
each case net of (a) all legal, title and recording expenses, commissions and
other fees and expenses incurred, and all federal, state, foreign and local
taxes required to be paid or accrued as a liability under GAAP as a consequence
of such Asset Sale, (b) all payments (which payments are made in a manner that
results in the permanent reduction in the balance of such Indebtedness and, if
applicable, a permanent reduction in any outstanding commitment for future
incurrences of Indebtedness thereunder) made on any Indebtedness (but
specifically excluding Indebtedness of the Company and its Restricted
Subsidiaries assumed in connection with or in anticipation of such Asset Sale)
which is secured by any assets subject to such Asset Sale, in accordance with
the terms of any Lien upon such assets, or which must by its terms, or in order
to obtain a necessary consent to such Asset Sale or by applicable law, be repaid
out of the proceeds from such Asset Sale, (c) all distributions and other
payments required to be made to minority interest holders in Subsidiaries or
joint ventures as a result of such Asset Sale and (d) the deduction of
appropriate amounts to be provided by the seller as a reserve, in accordance
with GAAP, against any liabilities associated with the assets disposed of in
such Asset Sale and retained by the Company or any Restricted Subsidiary after
such Asset Sale (to the extent such reserves are not subsequently reversed
within 365 days after such Asset Sale); provided, however, that if any
consideration for an Asset Sale (which would otherwise constitute Net Available
Cash) is required to be held in escrow pending determination of whether a
purchase price adjustment will be made, such consideration (or any portion
thereof) shall become Net Available Cash only at such time as it is released to
such
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Person or its Restricted Subsidiaries from escrow; and provided, further,
however, that any Exchanged Properties and any consideration other than
Permitted Consideration received in connection with an Asset Sale which is
subsequently converted to cash, Liquid Securities or Permitted Short-Term
Investments within 240 days after such Asset Sale shall be deemed to be Net
Available Cash at such time and shall thereafter be applied in accordance with
the provisions of the Indenture described under "-- Certain Covenants --
Limitation on Asset Sales."
"Net Working Capital" means (i) all current assets of the Company and its
Restricted Subsidiaries, less (ii) all current liabilities of the Company and
its Restricted Subsidiaries, except current liabilities included in
Indebtedness, in each case as set forth in financial statements of the Company
prepared in accordance with GAAP.
"Obligation" means any principal, interest, premium, penalty, fee and any
other liability payable under the documentation governing any Indebtedness.
"Oil and Gas Business" means the business of exploiting, exploring for,
developing, acquiring and producing hydrocarbons and other related energy
businesses.
"Oil and Gas Hedging Contract" means, with respect to any Person, any
agreement or arrangement, or any combination thereof, financially tied to oil
and gas or other hydrocarbon prices, transportation or basis costs or
differentials, or similar factors, that is customary in the Oil and Gas Business
and is entered into for the purpose of limiting or managing risks associated
with fluctuations in such prices, costs, differentials or similar factors.
"Oil and Gas Liens" means (i) Liens on any specific property or any
interest therein, construction thereon or improvement thereto to secure all or
any part of the costs incurred for surveying, exploration, drilling, extraction,
development, operation, production, construction, alteration, repair or
improvement of, in, under or on such property and the plugging and abandonment
of wells located thereon (it being understood that, in the case of oil and gas
producing properties, or any interest therein, costs incurred for "development"
shall include costs incurred for all facilities relating to such properties or
to projects, ventures or other arrangements of which such properties Form a part
or which relate to such properties or interests); (ii) Liens on an oil or gas
producing property to secure obligations Incurred or guarantees of obligations
Incurred in connection with or necessarily incidental to commitments for the
purchase or sale of, or the transportation or distribution of, the products
derived from such property; (iii) Liens arising under partnership agreements,
oil and gas leases, overriding royalty agreements, net profits agreements,
production payment agreements, royalty trust agreements, master limited
partnership agreements, farm-out agreements, division orders, contracts for the
sale, purchase, exchange, transportation, gathering or processing of oil, gas or
other hydrocarbons, unitizations and pooling designations, declarations, orders
and agreements, development agreements, operating agreements, production sales
contracts, area of mutual interest agreements, gas balancing or deferred
production agreements, injection, repressuring and recycling agreements, salt
water or other disposal agreements, seismic or geophysical permits or
agreements, and other agreements which are customary in the Oil and Gas
Business, provided in all instances that such Liens are limited to the assets
that are the subject of the relevant agreement; (iv) Liens arising in connection
with Production Payments and Reserve Sales; and (v) Liens on pipelines or
pipeline facilities that arise by operation of law.
"Permitted Business Investments" means Investments and expenditures made in
the ordinary course of, and of a nature that is or shall have become customary
in, the Oil and Gas Business as a means of actively engaging therein through
agreements, transactions, interests or arrangements which permit one to share
risks or costs, comply with regulatory requirements regarding local ownership or
satisfy other objectives customarily achieved through the conduct of Oil and Gas
Business jointly with third parties, including, without limitation, (i)
ownership interests in oil and gas properties or gathering, transportation,
processing, storage or related systems and (ii) Investments and expenditures in
the Form of or pursuant to operating agreements, processing agreements, farm-in
agreements, farm-out agreements, development agreements, area of mutual interest
agreements, unitization agreements, pooling arrangements, joint bidding
agreements, service contracts, joint venture agreements, partnership agreements
(whether general or limited), subscription agreements, stock purchase agreements
and other similar agreements with third parties (including Unrestricted
Subsidiaries).
"Permitted Hedging Agreements" means (i) Oil and Gas Hedging Contracts to
the extent entered into to limit or manage risks incurred in the ordinary course
of business and (ii) Interest Rate Protection Agreements but only to the extent
that the stated aggregate notional amount thereunder does not exceed 100% of the
aggregate principal
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amount of the Indebtedness of the Company or a Restricted Subsidiary covered by
such Interest Rate Protection Agreements at the time such agreements were
entered into.
"Permitted Investments" means any and all of the following: (i) Permitted
Short-Term Investments; (ii) Investments in property, plant and equipment used
in the ordinary course of business and Permitted Business Investments; (iii)
Investments by any Restricted Subsidiary in the Company; (iv) Investments by the
Company or any Restricted Subsidiary in any Restricted Subsidiary; (v)
Investments by the Company or any Restricted Subsidiary in a Person where that
Person becomes a Restricted Subsidiary or transfers or assigns all of its assets
to the Company (including the acquisition from a third party of the Capital
Stock of a Restricted Subsidiary or any other Person) if such Person or a
Subsidiary of such Person will, as a result of the making of such Investment and
all other contemporaneous related transactions, become a Restricted Subsidiary
or be merged or consolidated with or transfer or convey all or substantially all
of its assets to the Company or a Restricted Subsidiary; (vi) Investments in the
Form of securities received from Asset Sales, provided that such Asset Sales are
made in compliance with the provisions of the Indenture described under "--
Certain Covenants -- Limitation on Asset Sales;" (vii) Investments in negotiable
instruments held for collection, lease, utility and other similar deposits, and
stock, obligations or other securities received in settlement of debts
(including, without limitation, under any bankruptcy or other similar
proceeding) owing to the Company or any of its Restricted Subsidiaries as a
result of foreclosure, perfection or enforcement of any Liens or Indebtedness,
in each of the foregoing cases in the ordinary course of business of the Company
or such Restricted Subsidiary; (viii) Investments in the Form of Permitted
Hedging Agreements of the Company and its Restricted Subsidiaries; and (ix)
Investments pursuant to any agreement or obligation of the Company or any of its
Restricted Subsidiaries as in effect on the Issue Date (other than Investments
described in clauses (i) through (viii) above).
"Permitted Refinancing Indebtedness" means Indebtedness ("new
Indebtedness") Incurred in exchange for, or proceeds of which are used to
refinance, other Indebtedness ("old Indebtedness"), provided, however, that (i)
such new Indebtedness is in an aggregate principal amount not in excess of the
sum of (a) the aggregate principal amount then outstanding of the old
Indebtedness (or, if such old Indebtedness provides for an amount less than the
principal amount thereof to be due and payable upon a declaration of
acceleration thereof, such lesser amount as of the date of determination), and
(b) an amount necessary to pay any fees and expenses, including premiums related
to such exchange or refinancing, (ii) such new Indebtedness has a Stated
Maturity no earlier than the Stated Maturity of the old Indebtedness, (iii) such
new Indebtedness has an Average Life to Stated Maturity at the time such new
Indebtedness is Incurred that is equal to or greater than the Average Life to
Stated Maturity of the old Indebtedness at such time and (iv) such new
Indebtedness shall only be permitted if (a) in the case of any refinancing or
refunding of Indebtedness that is pari passu with the Notes the refinancing or
refunding Indebtedness is made pari passu with the Notes or subordinated to the
Notes, (b) in the case of any refinancing or refunding of Indebtedness that is
subordinated to the Notes the refinancing or refunding of Indebtedness is made
subordinated to the Notes at least to the same extent as the Indebtedness being
refinanced or refunded was subordinated to the Notes and (c) in the case of the
refinancing or refunding of Indebtedness that is subordinated to the Notes, the
refinancing or refunding Indebtedness by its terms, or by the terms of any
agreement or instrument pursuant to which such Indebtedness is issued, (x) does
not provide for payments of principal of such Indebtedness at the stated
maturity thereof or by way of a sinking fund applicable thereto or by way of any
mandatory redemption, defeasance, retirement or repurchase thereof by the
Company or such Restricted Subsidiary (including any redemption, retirement or
repurchase which is contingent upon events or circumstances, but excluding any
retirement required by virtue of acceleration of such Indebtedness upon an event
of default thereunder), in each case prior to the final stated maturity of the
Indebtedness being refinanced or refunded and (y) does not permit redemption or
other retirement (including pursuant to an offer to purchase made by the Company
or such Restricted Subsidiary) of such Indebtedness at the option of the holder
thereof prior to the final stated maturity of the Indebtedness being refinanced
or refunded, other than a redemption or other retirement at the option of the
holder of such Indebtedness (including pursuant to an offer to purchase made by
the Company or such Restricted Subsidiary), which is conditioned upon the change
of control of the Company or such Restricted Subsidiary)
"Permitted Short-Term Investments" means (i) Investments in U.S. Government
Obligations maturing within one year of the date of acquisition thereof, (ii)
Investments in demand accounts, time deposit accounts, certificates of deposit,
bankers acceptances and money market deposits maturing within one year of the
date of acquisition thereof issued by a bank or trust company which is organized
under the laws of the United States of America or any State thereof or the
District of Columbia that is a member of the Federal Reserve System having
capital, surplus and undivided profits aggregating in excess of $500.0 million
and whose long-term indebtedness is rated "A" (or higher)
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according to Moody's, (iii) Investments in demand accounts, time deposit
accounts, certificates of deposit, bankers acceptances and money market deposits
maturing within one year of the date of acquisition thereof issued by a Canadian
bank to which the Bank Act (Canada) applies having capital, surplus and
undivided profits aggregating in excess of U.S. $500.0 million, (iv) Investments
in deposits available for withdrawal on demand with any commercial bank that is
organized under the laws of any country in which the Company or any Restricted
Subsidiary maintains an office or is engaged in the Oil and Gas Business,
provided that (a) all such deposits have been made in such accounts in the
ordinary course of business and (b) such deposits do not at any one time exceed
$20.0 million in the aggregate, (v) repurchase and reverse repurchase
obligations with a term of not more than seven days for underlying securities of
the types described in clause (i) entered into with a bank meeting the
qualifications described in either clause (ii) or (iii), (vi) Investments in
commercial paper, maturing not more than one year after the date of acquisition,
issued by a corporation (other than an Affiliate of the Company) organized and
in existence under the laws of the United States of America or any State thereof
or the District of Columbia with a rating at the time as of which any Investment
therein is made of "P-1" (or higher) according to Moody's or "A-1" (or higher)
according to S&P and (vii) Investments in any money market mutual fund having
assets in excess of $250.0 million substantially all of which consist of other
obligations of the types described in clauses (i), (ii), (v) and (vi) hereof.
"Person" means any individual, corporation, partnership, joint venture,
limited liability company, unlimited liability company, trust, estate,
unincorporated organization or government or any agency or political subdivision
thereof.
"Preferred Stock" of any Person means Capital Stock of such Person of any
class or classes (however designated) that ranks prior, as to the payment of
dividends or as to the distribution of assets upon any voluntary or involuntary
liquidation, dissolution or winding up of such Person, to shares of Capital
Stock of any other class of such Person; provided, however, that "Preferred
Stock" shall not include Redeemable Stock.
"principal" of any Indebtedness (including the Notes) means the principal
amount of such Indebtedness plus the premium, if any, on such Indebtedness.
"Principal Property" means any oil and gas properties and oil and gas
gathering assets or related group of such assets of the Company having a fair
market value in excess of $10.0 million.
"Production Payments and Reserve Sales" means the grant or transfer by the
Company or a Restricted Subsidiary to any Person of a royalty, overriding
royalty, net profits interest, production payment (whether volumetric or dollar
denominated), partnership or other interest in oil and gas properties, reserves
or the right to receive all or a portion of the production or the proceeds from
the sale of production attributable to such properties where the holder of such
interest has recourse solely to such production or proceeds of production,
subject to the obligation of the grantor or transferor to operate and maintain,
or cause the subject interests to be operated and maintained, in a reasonably
prudent manner or other customary standard or subject to the obligation of the
grantor or transferor to indemnify for environmental, title or other matters
customary in the Oil and Gas Business.
"Property" means, with respect to any Person, any interest of such Person
in any kind of property or asset, whether real, personal or mixed, or tangible
or intangible, including, without limitation, Capital Stock and other securities
issued by any other Person (but excluding Capital Stock or other securities
issued by such first mentioned Person).
"Redeemable Stock" of any Person means any equity security of such Person
that by its terms (or by the terms of any security into which it is convertible
or for which it is exchangeable), or otherwise (including on the happening of
an event), is or could become required to be redeemed for cash or other
Property or is or could become redeemable for cash or other Property at the
option of the holder thereof, in whole or in part, on or prior to the first
anniversary of the Stated Maturity of the Notes; or is or could become
exchangeable at the option of the holder thereof for Indebtedness at any time
in whole or in part, on or prior to the first anniversary of the Stated
Maturity of the Notes; provided, however, that Redeemable Stock shall not
include the Series A Preferred Stock, the Series B Preferred Stock, the Series
C Preferred Stock or any security by virtue of the fact that it may be
exchanged or converted at the option of the holder for Capital Stock of the
Company having no preference as to dividends or liquidation over any other
Capital Stock of the Company.
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"Restricted Payment" means (i) a dividend or other distribution declared or
paid on the Capital Stock or Redeemable Stock of the Company or to the Company's
stockholders (other than dividends, distributions or payments made solely in
Capital Stock of the Company or in options, warrants or other rights to purchase
or acquire Capital Stock or Redeemable Stock), or declared and paid to any
Person other than the Company or any of its Restricted Subsidiaries on the
Capital Stock or Redeemable Stock of any Restricted Subsidiary, (ii) a payment
made by the Company or any of its Restricted Subsidiaries (other than to the
Company or any Restricted Subsidiary) to purchase, redeem, acquire or retire any
Capital Stock or Redeemable Stock or any options, warrants or other rights to
acquire such Capital Stock or Redeemable Stock of the Company or of a Restricted
Subsidiary, (iii) a payment made by the Company or any of its Restricted
Subsidiaries to redeem, repurchase, defease or otherwise acquire or retire for
value (including pursuant to mandatory repurchase covenants), prior to any
scheduled maturity, scheduled sinking fund or scheduled mandatory redemption,
any Subordinated Indebtedness of the Company except (a) to the extent such
Indebtedness may be purchased out of Net Available Cash in compliance with the
provisions of the Indenture described under "-- Certain Covenants -- Limitation
on Asset Sales," (b) to the extent such Indebtedness may be purchased out of the
net cash proceeds of one or more Equity Offerings as described under "--
Optional Redemption," (c) out of Net Available Cash and to the extent required
by the indenture or other agreement or instrument pursuant to which any other
Indebtedness was issued, an offer to purchase such Indebtedness upon a
disposition of assets, (d) to the extent of Excess Proceeds remaining after
compliance with the provisions of the Indenture described under "-- Certain
Covenants -- Limitation on Asset Sales," and to the extent required by the
indenture or other agreement or instrument pursuant to which any Indebtedness
was issued, an offer to purchase such Indebtedness upon a disposition of assets,
and (e) upon a "Change of Control" (even if such event is not a Change of
Control under the Indenture) to the extent required by the indenture or other
agreement or instrument pursuant to which any Indebtedness was issued provided
the Company is then in compliance with the provisions of the Indenture described
under "-- Purchase at the Option of Holders Upon a Change of Control," (iv) an
Investment (other than a Permitted Investment) by the Company or a Restricted
Subsidiary in any Person other than the Company or a Restricted Subsidiary, or
(v) the sale or issuance of Capital Stock of a Restricted Subsidiary to a Person
other than the Company or another Restricted Subsidiary if the result thereof is
that such Restricted Subsidiary shall cease to be a Restricted Subsidiary, in
which event the amount of such "Restricted Payment" shall be the Fair Market
Value of the remaining interest, if any, in such former Restricted Subsidiary
held by the Company and its other Restricted Subsidiaries.
"Restricted Subsidiary" means any Subsidiary of the Company that has not
been designated an Unrestricted Subsidiary in the manner provided in the
covenant described under "-- Certain Covenants -- Restricted and Unrestricted
Subsidiaries."
"S&P" means Standard & Poor's Ratings Services, a division of The
McGraw-Hill Companies, Inc., and its successors.
"Sale and Leaseback Transaction" means, with respect to any Person, any
direct or indirect arrangement (excluding, however, any such arrangement between
such Person and a Wholly Owned Restricted Subsidiary of such Person or between
one or more Wholly Owned Restricted Subsidiaries of such Person) pursuant to
which Property is sold or transferred by such Person or a Restricted Subsidiary
of such Person and is thereafter leased back from the purchaser or transferee
thereof by such Person or one of its Restricted Subsidiaries.
"Senior Credit Facilities" means collectively, one or more senior credit
facilities or commercial paper facilities with banks or other institutional
lenders (including, without limitation, the credit facility pursuant to the
Credit Agreement and the ECT Revolving Credit Agreement), together with any
guarantees, security and related documents, as all such credit facilities and
documents may be amended, supplemented, extended, increased, refinanced or
replaced from time to time.
"Significant Subsidiary" means, at any date of determination, any
Subsidiary of a Person that, together with its Subsidiaries, (i) for the most
recent fiscal year of such Person, accounted for more than 5% of the
consolidated revenues of such Person and its Subsidiaries or (ii) as of the end
of such fiscal year, was the owner of more than 5% of the consolidated assets of
such Person and its Subsidiaries.
"Stated Maturity," when used with respect to any security or any
installment of principal thereof or interest thereon, means the date specified
in such security as the fixed date on which the principal of such security or
such installment of principal or interest is due and payable, including pursuant
to any mandatory redemption provision
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(but excluding any provision providing for the repurchase of such security at
the option of the holder thereof upon the happening of any contingency unless
such contingency has occurred).
"Subordinated Indebtedness" means any Indebtedness of the Company or a
Subsidiary Guarantor (whether outstanding on the Issue Date or thereafter
Incurred) which is subordinate or junior in right of payment to the Notes or the
relevant Subsidiary Guarantor pursuant to a written agreement to that effect.
"Subsidiary" of a Person means (i) another Person which is a corporation a
majority of whose Voting Stock is at the time, directly or indirectly, owned or
controlled by (a) the first Person, (b) the first Person and one or more of its
Subsidiaries or (c) one or more of the first Person's Subsidiaries or (ii)
another Person which is not a corporation (x) at least 50% of the ownership
interest of which and (y) the power to elect or direct the election of a
majority of the directors or other governing body of which are controlled by
Persons referred to in clause (a), (b) or (c) above.
"Subsidiary Guarantors" means (i) as of the Issue Date, the Initial
Subsidiary Guarantors, and (ii) thereafter, unless released from their
Subsidiary Guarantees as permitted by the Indenture, the Initial Subsidiary
Guarantors and any other Restricted Subsidiary that becomes a guarantor of the
Notes in compliance with the provisions of the Indenture and executes a
supplemental indenture agreeing to be bound by the terms of the Indenture.
"Subsidiary Guaranty" means a guaranty of the Notes given by any Restricted
Subsidiary pursuant to the terms of the Indenture.
"Trade Accounts Payable" means accounts payable or other obligations of the
Company or any Restricted Subsidiary to trade creditors created or assumed by
the Company or such Restricted Subsidiary in the ordinary course of business in
connection with the obtaining of goods or services.
"12% Bonds" means the Series A Deutschemark denominated (DEM) 12% notes
issued by Queen Sands Resources and being due and payable on July 15, 2000, and
any renewals, extensions or replacements (but not increases in principal amount)
thereof.
"Unrestricted Subsidiary" means (i) each Subsidiary of the Company that the
Company has designated pursuant to the provision of the Indenture described
under "-- Certain Covenants -- Restricted and Unrestricted Subsidiaries" as an
Unrestricted Subsidiary and (ii) any Subsidiary of an Unrestricted Subsidiary.
"U.S. Government Obligations" means securities that are (i) direct
obligations of the United States of America for the timely payment of which its
full faith and credit is pledged or (ii) obligations of a Person controlled or
supervised by and acting as an agency or instrumentality of the United States of
America, the timely payment of which is unconditionally guaranteed as a full
faith and credit obligation by the United States of America which, in either
case, are not callable or redeemable at the option of the issuer thereof, and
shall also include a depository receipt issued by a bank (as defined in Section
3(a)(2) of the Securities Act), as custodian, with respect to any such U.S.
Government Obligation or a specific payment of principal of or interest on any
such U.S. Government Obligation held by such custodian for the account of the
holder of such depository receipt; provided, however, that (except as required
by law) such custodian is not authorized to make any deduction from the amount
payable to the holder of such depository receipt from any amount received by the
custodian in respect of the U.S. Government Obligation or the specific payment
of principal of or interest on the U.S. Government Obligation evidenced by such
depository receipt.
"Volumetric Production Payments" means production payment obligations
recorded as deferred revenue in accordance with GAAP, together with all
undertakings and obligations in connection therewith.
"Voting Stock" of any Person means Capital Stock of such Person which
ordinarily has voting power for the election of directors (or persons performing
similar functions) of such Person whether at all times or only so long as no
senior class of securities has such voting power by reason of any contingency.
"Wholly Owned Restricted Subsidiary" means any Restricted Subsidiary to the
extent all of the Capital Stock or other ownership interests in such Restricted
Subsidiary, other than any directors' qualifying shares mandated by applicable
law, is owned directly or indirectly by the Company.
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"Wholly Owned Subsidiary" means any Subsidiary of the Company to the extent
all of the Capital Stock or other ownership interests in such Subsidiary, other
than any directors' qualifying shares mandated by applicable law, is owned
directly or indirectly by the Company.
DEFEASANCE AND COVENANT DEFEASANCE
The Indenture provides that the Company and the Subsidiary Guarantors will
be discharged from all their obligations with respect to the Notes (except for
certain obligations to exchange or register the transfer of Notes, to replace
stolen, lost or mutilated Notes, to maintain paying agencies and to hold moneys
for payment in trust) upon the deposit in trust for the benefit of the Holders
of the Notes of money or U.S. Government Obligations, or a combination thereof,
which, through the payment of principal, premium, if any, and interest in
respect thereof in accordance with their terms, will provide money in an amount
sufficient to pay the principal of and any premium and interest on the Notes at
Stated Maturity thereof or on earlier redemption in accordance with the terms of
the Indenture and the Notes. Such defeasance or discharge may occur only if,
among other things, the Company has delivered to the Trustee an Opinion of
Counsel to the effect that (i) the Company has received from, or there has been
published by, the United States Internal Revenue Service a ruling or (ii) since
the date of the Indenture there has been a change in the applicable federal
income tax law, in either case to the effect that Holders of the Notes will not
recognize gain or loss for federal income tax purposes as a result of such
deposit, defeasance and discharge and will be subject to federal income tax on
the same amount, in the same manner and at the same times as would have been the
case if such deposit, defeasance and discharge were not to occur; and that the
resulting trust will not be an "investment company" within the meaning of the
Investment Company Act of 1940, as amended, unless such trust is qualified
thereunder or exempt from regulation thereunder.
The Indenture provides that if the Company takes certain actions described
below, it may omit to comply with certain covenants, including those described
under "-- Purchase at the Option of Holders Upon a Change of Control," "--
Certain Covenants" and in clauses (d) and (e) under the first paragraph of "--
Certain Covenants -- Merger, Consolidation and Sale of Substantially All
Assets," and the occurrence of certain Events of Default, which are described
below in clauses (iii) and (iv) (with respect to such covenants) and clauses (v)
and (vi) under "-- Events of Default and Notice" will be deemed not to be or
result in an Event of Default. The Company, in order to exercise such option,
will be required to deposit, in trust for the benefit of the Holders of the
Notes, money or U.S. Government Obligations, or a combination thereof, which,
through the payment of principal, premium, if any, and interest in respect
thereof in accordance with their terms, will provide money in an amount
sufficient to pay the principal of and any premium and interest on the Notes at
Stated Maturity thereof or on earlier redemption in accordance with the terms of
the Indenture and the Notes. The Company will also be required, among other
things, to deliver to the Trustee an Opinion of Counsel to the effect that
Holders of the Notes will not recognize gain or loss for federal income tax
purposes as a result of such deposit and defeasance of certain obligations and
will be subject to federal income tax on the same amount, in the same manner and
at the same times as would have been the case if such deposit and defeasance
were not to occur; and that the resulting trust will not be an "investment
company" within the meaning of the Investment Company Act of 1940, as amended,
unless such trust is qualified thereunder or exempt from regulation thereunder.
If the Company were to exercise this option and the Notes were declared due and
payable because of the occurrence of any Event of Default, the amount of money
and U.S. Government Obligations so deposited in trust would be sufficient to pay
amounts due on the Notes at the time of their Stated Maturity but may not be
sufficient to pay amounts due on the Notes upon any acceleration resulting from
such Event of Default. In such case, the Company would remain liable for such
payments.
EVENTS OF DEFAULT AND NOTICE
The following will be Events of Default under the Indenture with respect to
the Notes: (i) failure to pay any interest on the Notes when due, continued for
30 days; (ii) failure to pay principal of (or premium or Liquidated Damages, if
any, on) the Notes when due; (iii) failure to perform or comply with the
provisions described under "-- Certain Covenants -- Merger, Consolidation and
Sale of Substantially All Assets"; (iv) failure to perform any other covenant of
the Company or any Subsidiary Guarantor in the Indenture, continued for 30 days
after written notice as provided in the Indenture; (v) the occurrence and
continuation beyond any applicable grace period of any default in the payment of
the principal of (or premium, if any, on) or interest on any Indebtedness of the
Company (other than the Notes) or any Restricted Subsidiary for money borrowed
when due (whether resulting from maturity, acceleration, mandatory redemption or
otherwise), or any other default causing acceleration of any Indebtedness of the
Company or any Restricted Subsidiary for money borrowed, provided that the
aggregate principal amount of such
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Indebtedness shall exceed $5.0 million; (vi) one or more final judgments or
orders by a court of competent jurisdiction are entered against the Company or
any Restricted Subsidiary in an uninsured or unindemnified aggregate amount
outstanding at any time in excess of $5.0 million and such judgments or orders
are not discharged, waived, stayed, satisfied or bonded for a period of 60
consecutive days; (vii) certain events of bankruptcy, insolvency or
reorganization with respect to the Company or any Restricted Subsidiary; or
(viii) a Subsidiary Guaranty ceases to be in full force and effect (other than
in accordance with the terms of the Indenture and such Subsidiary Guaranty) or a
Subsidiary Guarantor denies or disaffirms its obligations under its Subsidiary
Guaranty.
The Indenture provides that if an Event of Default (other than an Event of
Default described in clause (vii) above) with respect to the Notes at the time
outstanding shall occur and be continuing, either the Trustee or the Holders of
at least 25% in aggregate principal amount of the outstanding Notes by notice as
provided in the Indenture may declare the principal amount of the Notes to be
due and payable immediately. If an Event of Default described in clause (vii)
above with respect to the Notes at the time outstanding shall occur, the
principal amount of all the Notes will automatically, and without any action by
the Trustee or any Holder, become immediately due and payable. After any such
acceleration, but before a judgment or decree based on acceleration, the Holders
of at least a majority in aggregate principal amount of the outstanding Notes
may, under certain circumstances, rescind and annul such acceleration if all
Events of Default, other than the nonpayment of accelerated principal (or other
specified amount), have been cured or waived as provided in the Indenture.
Subject to the provisions of the Indenture relating to the duties of the
Trustee, in case an Event of Default shall occur and be continuing, the Trustee
will be under no obligation to exercise any of its rights or powers under the
Indenture at the request or direction of any of the Holders of the Notes, unless
such Holders shall have offered to the Trustee reasonable indemnity. Subject to
such provisions for the indemnification of the Trustee, the Holders of at least
a majority in aggregate principal amount of the outstanding Notes will have the
right to direct the time, method and place of conducting any proceeding for any
remedy available to the Trustee or exercising any trust or power conferred on
the Trustee with respect to the Notes.
No Holder of Notes will have any right to institute any proceeding with
respect to the Indenture, or for the appointment of a receiver or a trustee, or
for any other remedy thereunder, unless (i) such Holder has previously given to
the Trustee written notice of a continuing Event of Default with respect to the
Notes, (ii) the Holders of at least 25% in aggregate principal amount of the
outstanding Notes have made written request, and such Holder or Holders have
offered reasonable indemnity, to the Trustee to institute such proceeding as
trustee and (iii) the Trustee has failed to institute such proceeding and has
not received from the Holders of at least a majority in aggregate principal
amount of the outstanding Notes a direction inconsistent with such request,
within 60 days after such notice, request and offer. However, such limitations
do not apply to a suit instituted by a Holder of Notes for the enforcement of
payment of the principal of or any premium or interest on such Notes on or after
the applicable due date specified in such Notes.
MODIFICATION OF THE INDENTURE; WAIVER
The Indenture provides that modifications and amendments of the Indenture
may be made by the Company, the Subsidiary Guarantors and the Trustee without
the consent of any Holders of Notes in certain limited circumstances, including
(i) to cure any ambiguity, omission, defect or inconsistency, (ii) to provide
for the assumption of the obligations of the Company under the Indenture upon
the merger, consolidation or sale or other disposition of all or substantially
all of the assets of the Company and its Restricted Subsidiaries taken as a
whole and certain other events specified in the provisions of the Indenture
described under "-- Certain Covenants -- Merger, Consolidation and Sale of
Substantially All Assets," (iii) to provide for uncertificated Notes in addition
to or in place of certificated Notes, (iv) to comply with any requirement of the
Commission in order to effect or maintain the qualification of the Indenture
under the Trust Indenture Act, (v) to make any change that does not adversely
affect the rights of any Holder of Notes in any material respect, (vi) to add or
remove Subsidiary Guarantors pursuant to the procedure set forth in the
Indenture and (vii) certain other modifications and amendments as set forth in
the Indenture.
The Indenture contains provisions permitting the Company, the Subsidiary
Guarantors and the Trustee, with the written consent of the Holders of not less
than a majority in aggregate principal amount of the outstanding Notes, to
execute supplemental indentures or amendments adding any provisions to or
changing or eliminating any of the provisions of the Indenture or modifying the
rights of the Holders of the Notes, except that no such supplemental indenture,
amendment or waiver may, without the consent of all the Holders of outstanding
Notes, among other
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things, (i) reduce the principal amount of Notes whose Holders must consent to
an amendment or waiver, (ii) reduce the rate of or change the time for payment
of interest on any Notes, (iii) change the currency in which any amount due in
respect of the Notes is payable, (iv) reduce the principal of or any premium on
or change the Stated Maturity of any Notes or alter the redemption or repurchase
provisions with respect thereto, (v) reduce the relative ranking of any Notes,
(vi) release any security that may have been granted to the Trustee in respect
of the Notes (except as contemplated in the documents under which such security
was granted to the Trustee) or (vii) make certain other significant amendments
or modifications as specified in the Indenture.
The Holders of at least a majority in principal amount of the outstanding
Notes may waive compliance by the Company with certain restrictive provisions of
the Indenture. The Holders of at least a majority in principal amount of the
outstanding Notes may waive any past default under the Indenture, except a
default in the payment of principal, premium or interest and certain covenants
and provisions of the Indenture which cannot be amended without the consent of
the Holders of each outstanding Note.
NOTICES
Notices to Holders of the Notes will be given by mail to the addresses of
such Holders as they may appear in the Security Register.
GOVERNING LAW
The Indenture and the Notes are governed by and construed in accordance
with the internal laws of the State of New York without reference to principles
of conflicts of law.
TRUSTEE
Harris Trust and Savings Bank is the Trustee under the Indenture. The
Trustee maintains normal banking relationships with the Company and its
Subsidiaries and may perform certain services for and transact other business
with the Company and its Subsidiaries from time to time in the ordinary course
of business. The Trustee is owned by Bank of Montreal, which is the agent bank
and one of the lenders under the Credit Agreement. The Trustee is an affiliate
of Nesbitt Burns Securities, Inc., which is one of the Initial Purchasers. In
the event of a default under the Indenture, the Trustee may, under certain
circumstances, be required to resign, in which case the Company would be
obligated to have a successor Trustee appointed under the applicable terms of
the Indenture.
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DESCRIPTION OF OTHER INDEBTEDNESS
Set forth below is a description of the Credit Agreement and the ECT Revolving
Credit Agreement.
CREDIT AGREEMENT
On April 17, 1998, the Company amended and restated its Credit Agreement
with Bank of Montreal, as agent for the lenders party thereto. The Credit
Agreement provides for borrowings up to $125.0 million (subject to borrowing
base limitations) from such lenders to, among other things, fund development and
exploitation expenditures, acquisitions and general working capital. The
proceeds under the Credit Agreement were used to fund the Property Acquisitions
in part. As of August 31, 1998, the Company was able to borrow up to $25.0
million under the Credit Agreement, of which $10.3 million was outstanding as of
August 31, 1998. The loan under the Credit Agreement matures on April 17, 2003.
In the event of a default on the indebtedness under the Credit Agreement, not
subsequently waived by the lenders, it is unlikely that the Company would be
able to continue its business.
Indebtedness incurred under the Credit Agreement generally bears interest
under various interest rate pricing options based upon a Federal Funds rate
(plus .5%), Prime Rate or LIBOR rate options. LIBOR rate loans bear an
applicable margin over the LIBOR rate of (i) 2.25%, if greater than 90% of the
available Borrowing Base has been drawn, (ii) 2%, if greater than 75% and not
more than 90% of the available Borrowing Base has been drawn, (iii) 1.5%, if
greater than 40% but not more than 75% of the available Borrowing Base has been
drawn, and (iv) 1%, if not more than 40% of the available Borrowing Base has
been drawn. There is no margin applicable for base rate pricing options.
The loan under the Credit Agreement is secured by a first lien on the oil
and natural gas properties of QSRn and the stock of two subsidiaries of QSRn. In
addition, Queen Sand Resources and its operating subsidiaries (other than QSRn
which is the borrower) entered into guaranty agreements guaranteeing the
repayment of the indebtedness under the Credit Agreement.
Pursuant to the Credit Agreement, the Company is subject to certain
affirmative and negative financial and operating covenants that are usual and
customary for transactions of this nature. The affirmative covenants include,
but are not limited to, covenants to (i) provide annual audited and unaudited
interim financial information, (ii) provide notices of the occurrence of certain
material events affecting the Company, (iii) promptly provide notice of all
legal or arbital proceedings affecting the Company or its subsidiaries which
could reasonably be expected to have a material adverse effect, (iv) maintain
and preserve its existence and oil and gas properties and other material
properties, (v) implement and comply with certain environmental procedures, (vi)
perform its obligations under the Credit Agreement, (vii) provide reserve
reports, (viii) deliver certain title information, (ix) grant a security
interest in oil and gas properties that are not currently subject to a lien
under the Credit Agreement such that the mortgaged property includes at least
85% (with an obligation to use reasonable efforts to maintain 95%) of the SEC
PV-10 of the Company's total proved reserves, and (x) deliver certain
information relating to compliance with ERISA laws and regulations. The negative
covenants include, but are not limited to, covenants (i) not to incur any
indebtedness except as expressly permitted under the Credit Agreement, (ii) not
to incur any lien on any of its properties except as expressly permitted under
the Credit Agreement, (iii) not to make any loans or advances to or investments
in any person except as expressly permitted under the Credit Agreement, (iv)
(with respect to Queen Sand Resources) not to declare or pay any dividends or
redeem or otherwise acquire for value any capital stock of Queen Sand Resources
except for stock dividends and certain permitted repurchases of Series C
Preferred Stock (defined herein), (v) not to enter into sale and leaseback
transactions, (vi) not to materially change the character of its business as an
independent oil and natural gas exploration and production company, (vii) not to
enter into lease agreements except as expressly permitted under the Credit
Agreement, (viii) not to merge with or sell all or substantially all of its
property or assets to any other person; (ix) not to permit the borrowed proceeds
under the Credit Agreement to be used for any purpose except as expressly
permitted under the Credit Agreement, (x) not to violate ERISA laws and
regulations, (xi) not to discount or sell any notes or accounts receivable,
(xii) not to maintain a working capital ratio of less than 1.0 to 1.0, (xiii)
not to maintain a tangible net worth of less than $18.5 million plus the amount
equal to 75% of the net proceeds of any equity offering, (xiv) to pay its trade
accounts payable when due, (xv) not maintain a fixed charge coverage ratio of
less than 1.5 to 1.0, (xvi) not to sell, assign or otherwise transfer any
interest in any oil or natural gas properties except as expressly permitted
under the Credit Agreement, (xvii) not to violate environmental laws and
regulations, (xviii) not to enter into transactions with affiliates other than
those
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entered into in the ordinary course of business on fair and reasonable terms,
(xix) not to create any additional subsidiaries unless such subsidiaries
guarantee the obligations of QSRn under the Credit Agreement or issue stock of
any subsidiaries to third parties, (xx) not to enter into negative pledge
agreements, (xxi) not to enter into any contracts which warrant production of
oil and natural gas and not allow gas imbalances, take-or-pay or other
prepayments which would require the delivery of oil or natural gas at some
future time without receiving full payment therefor to exceed 5% of the current
aggregate monthly gas production from the mortgaged oil and natural gas
properties, (xxii) not to amend or modify any material agreements, (xxiii) not
to repay other indebtedness except as expressly permitted under the Credit
Agreement and (xxiv) not make or pay capital expenditures more than specified
amounts.
The Credit Agreement also contains usual and customary events of default
and provides remedies to the lenders in the event of default. The events of
default include (i) default in payment when due of any principal of or interest
on indebtedness under the Credit Agreement, (ii) default in payment when due of
any principal of or interest on any other indebtedness aggregating $500,000 or
more or an event shall occur which requires the Company to mandatorily redeem
any of its existing preferred stock, (iii) breach of a representation and
warranty under the Credit Agreement, (iv) default in performance of obligations
under the Credit Agreement, (v) the Company shall admit in writing its inability
to pay debts as they become due, (vi) voluntary or involuntary bankruptcy, (vii)
a judgment in excess of $100,000 shall be entered and not vacated within 30
days, (viii) the security agreements under the Credit Agreement shall cease to
be in full force and effect and (ix) the Company discontinues its usual business
or any person or group of persons (other than JEDI, Enron or its affiliates)
shall have acquired beneficial ownership of 30% or more of the outstanding
shares of voting stock of Queen Sand Resources or individuals who constitute the
Board of Directors of Queen Sand Resources cease to constitute a majority of the
then-current Board of Directors of Queen Sand Resources. Although the Company
believes that its cash flows and available sources of financing will be
sufficient to satisfy the interest payments on its debt at currently prevailing
interest rates and oil and natural gas prices, the Company's level of debt may
adversely affect the Company's ability: (i) to obtain additional financing for
working capital, capital expenditures or other purposes, should it need to so
do; or (ii) to acquire additional oil and natural gas properties or to make
acquisitions utilizing new borrowings. There can be no assurances that the
Company will be able to obtain additional financing, if required, or that such
financing, if obtained, will be on terms favorable to the Company.
On September 30, 1997 and December 31, 1997 the Company was not in
compliance with its interest coverage ratio. Bank of Montreal waived the
September 30, 1997 covenant violation solely with respect to these specific
defaults. On February 10, 1998, Bank of Montreal waived the Company's December
31, 1997 noncompliance with the interest coverage ratio. On the same date, the
Credit Agreement was amended to reduce the interest coverage ratio to 1.75:1 for
the quarter ending March 31, 1998 and 3.0:1 thereafter. In addition, the Company
and its subsidiaries agreed that during calendar 1998, they would not incur,
without the prior written consent of Bank of Montreal, in the aggregate, capital
expenditures in excess of those disclosed to Bank of Montreal in the Company's
operating forecast ($2.6 million). The Company believes, but cannot assure, that
it will be able to comply with all restrictive covenants in the future or obtain
waivers from the bank with respect to noncompliance.
From time to time in the future, the Company may submit information to the
lenders in accordance with the procedures provided in the Credit Agreement to
support the Company's request to increase the maximum borrowing base as the
Company believes appropriate. All such applications will be subject to bank
approval. If available, these funds would be allocated toward future development
and acquisition programs.
ECT REVOLVING CREDIT FACILITY
Effective December 29, 1997, the Company established the ECT Revolving
Credit Agreement with ECT, as a lender and as agent for the lenders thereto, to
fund on a revolving basis capital costs incurred with future development
projects and to fund further acquisitions. The ECT Revolving Credit Agreement is
subordinate to the Credit Agreement. The ECT Revolving Credit Agreement provides
for borrowings up to $10.0 million, on a revolving basis and subject to
borrowing base limitations, which has been initially set at an amount equal to
40% of the borrowing base established from time to time under the Credit
Agreement. This facility is designed to provide bridge financing for development
projects and acquisitions to be completed on relatively short notice or until
the affected assets are eligible to be included in the borrowing base for the
Credit Agreement or financed with longer-term indebtedness or equity capital;
provided, that the availability for acquisitions under the facility is limited
to the lesser of $5.0 million or 50% of the borrowing base as in effect from
time to time. There is no indebtedness
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outstanding under this facility as of the date of this Prospectus. Borrowings in
excess of certain amounts under the ECT Revolving Credit Agreement will reduce
the available borrowing base under the Credit Agreement. The loan is secured by
a second priority lien and security interest (behind the first lien position of
the Credit Agreement) in approximately 95% of the oil and natural gas properties
of the Company.
The ECT Revolving Credit Agreement is subject to payment of interest at a
fluctuating rate per annum equal to (i) the rate of 1% above the then highest
rate of interest being paid on any portion of the indebtedness owed under the
Credit Agreement or (ii) the rate of 15%, depending upon whether there is any
indebtedness owed under the Credit Agreement outstanding or whether there has
been a certain amount of indebtedness owed under the ECT Revolving Credit
Agreement for certain time periods.
The maturity date for the ECT Revolving Credit Agreement is the earlier of
December 30, 2002 or the date that is 60 days after the Company receives written
notice that the lenders and their affiliates beneficially own in the aggregate
less than 10% of the capital stock of the Company entitled to vote in the
election of directors. From March 31, 1998 through the maturity date, the
Company will pay interest on the outstanding loans at quarterly intervals, on
the last business day of every March, June, September and December. In addition,
the ECT Revolving Credit Agreement provides for certain voluntary prepayments
and certain mandatory prepayments of amounts borrowed under the facility.
The Company paid an affiliate of ECT a fee of $200,000 in connection with
the arrangement of the ECT Revolving Credit Agreement. In addition, commencing
March 31, 1998, and on each payment date thereafter, the Company is obligated to
pay ECT, for the account of each lender under the ECT Revolving Credit
Agreement, a fee of 3/8% per annum on the daily average of the unadvanced
portion of the facility for the period since January 12, 1998 or the previous
payment date to such payment date, except that payment of this fee was waived
for the period from April 12, 1998 until the date on which the Bridge Facilities
are fully repaid.
The Company is subject to various covenants under the ECT Revolving Credit
Agreement, which covenants are substantially similar to the covenants described
above with respect to the Credit Agreement. In addition to the covenants, the
ECT Revolving Credit Agreement contains representations, warranties, covenants
and default provisions customary for a facility of this type.
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DESCRIPTION OF CAPITAL STOCK
The authorized capital of the Company consists of (i) 100,000,000 shares of
Common Stock and 50,000,000 shares of Preferred Stock. At August 31, 1998, the
Company had (i) 30,924,918 shares of Common Stock outstanding, (ii) one holder
of record and beneficial owner of Series A Participating Convertible Preferred
Stock (the "Series A Preferred Stock") with 9,600,000 shares outstanding, (iii)
no shares of Series B Participating Convertible Preferred Stock (the "Series B
Preferred Stock") issued or outstanding and (iv) approximately six holders of
record and beneficial owners of Series C Convertible Preferred Stock (the
"Series C Preferred Stock") with 9,700 shares outstanding.
COMMON STOCK
The holders of shares of Common Stock possess full voting power for the
election of directors and for all other purposes, each holder of Common Stock
being entitled to one vote for each share of Common Stock held of record by such
holder. The shares of Common Stock do not have cumulative voting rights.
As described below, the holders of Series A Preferred Stock are generally
entitled to vote (on an as-converted basis) as a single class with the holders
of the Common Stock, together with all other classes and series of stock of the
Company that are entitled to vote as a single class with the Common Stock, on
all matters coming before the Company's stockholders. Holders of a majority of
the shares of Common Stock and Series A Preferred Stock represented at a meeting
may approve most actions submitted to the stockholders except for certain
corporate actions (e.g. mergers, sale of assets and charter amendments) which
require the approval of holders of a majority of the total outstanding shares of
Common Stock and the Series A Preferred Stock or other matters that require a
class vote of the Preferred Stock.
Subject to the right of holders of any outstanding shares of Preferred
Stock, dividends may be paid on the Common Stock as and when declared by the
Company's Board of Directors out of any funds of the Company legally available
for the payment thereof. Holders of Common Stock have no subscription,
redemption, sinking fund, conversion or preemptive rights. The outstanding
shares of Common Stock are fully paid and nonassessable. After payment is made
in full to the holders of any outstanding shares of Preferred Stock in the event
of any liquidation, dissolution or winding up of the affairs of the Company, the
remaining assets and funds of the Company will be distributed to the holders of
Common Stock according to their respective shares.
PREFERRED STOCK
General
The Board of Directors may, without further action by the Company's
stockholders (subject to the terms of the Series A Preferred Stock and the
Series C Preferred Stock described below), from time to time, direct the
issuance of fully authorized shares of Preferred Stock, in classes or series and
may, at the time of issuance, determine the powers, rights, preferences and
limitations of each class or series. Satisfaction of any dividend preferences on
outstanding shares of Preferred Stock would reduce the amount of funds available
for the payment of dividends on Common Stock. Also, holders of Preferred Stock
would be entitled to receive a preference payment in the event of any
liquidation, dissolution or winding up of the Company before any payment is made
to the holders of Common Stock. Under certain circumstances, the issuance of
such Preferred Stock may render more difficult or tend to discourage a merger,
tender offer or proxy contest, the assumption of control by a holder of a large
block of the Company's securities or the removal of incumbent management.
Description of Series A Preferred Stock
General. The Certificate of Designation of the Series A Preferred Stock
authorizes the issuance of up to 9,600,000 shares of Series A Preferred Stock.
Voting. The holders of shares of Series A Preferred Stock are generally
entitled to vote (on an as-converted basis) together with the holders of the
Common Stock, together with all other classes and series of stock of the Company
that are entitled to vote as a single class with the Common Stock, on all
matters coming before the Company's stockholders. In any vote with respect to
which the Series A Preferred Stock shall vote with the holders
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of Common Stock as a single class, each share of Series A Preferred Stock shall
entitle the holder thereof to cast the number of votes equal to the number which
could be cast in such vote by a holder of the number of shares of Common Stock
into which such shares of Series A Preferred Stock is convertible on the date of
such vote. With respect to any matter for which class voting is required by law
or the Company's Restated Certificate of Incorporation, except as otherwise
described herein, the holders of the Series A Preferred Stock will vote as a
class and each holder shall be entitled to one vote for each share held. For so
long as at least 960,000 shares of Series A Preferred Stock are outstanding, the
following matters will require the approval of a majority of the holders of
shares of Series A Preferred Stock, voting together as a separate class:
(i) the amendment of any provision of the Company's Restated
Certificate of Incorporation or bylaws;
(ii) the creation, authorization or issuance, or the increase in the
authorized amount of, any class or series of shares ranking on a parity
with or prior to the Series A Preferred Stock either as to dividends or
upon liquidation, dissolution or winding up;
(iii) the merger or consolidation of the Company with or into any other
corporation or other entity or the sale of all or substantially all of the
Company's assets; or
(iv) the reorganization, recapitalization, or restructuring or similar
transaction that requires the approval of the stockholders of the Company.
Election of Directors. The holders of shares of Series A Preferred Stock
have the right, acting separately as a class, to elect a number of members to
the Company's Board of Directors in proportion to the percentage of the
outstanding voting power represented by the Series A Preferred Stock (currently,
such holders have the right to elect two directors). As of the date hereof, JEDI
has not elected to exercise its right to elect directors to the Company's Board
of Directors.
Conversion. A holder of shares of Series A Preferred Stock has the right,
at the holder's option, to convert all or a portion of its shares into shares of
Common Stock at any time at an initial rate, subject to antidilution
adjustments, of one share of Series A Preferred Stock for one share of Common
Stock.
Concurrently with the transfer of any shares of Series A Preferred Stock to
any person (other than a direct or indirect affiliate of JEDI or other entity
managed by Enron or any of its affiliates), the shares of Series A Preferred
Stock so transferred will automatically convert into a like number of shares of
Series B Preferred Stock.
Dividends. The holders of the shares of Series A Preferred Stock are
entitled to receive dividends, when, and as if declared by the Board of
Directors, out of funds legally available therefor, any dividend (other than a
dividend or distribution paid in shares of, or warrants, rights or options
exercisable for or convertible into or exchangeable for, Common Stock) payable
on the Common Stock, as and when paid, in an amount equal to the amount each
such holder would have received if such holder's shares of Series A Preferred
Stock had been converted into Common Stock immediately prior to the record date,
or if there is no record date, the date of payment thereof. The holders of
Series A Preferred Stock will also have the right to certain dividends upon and
during the continuance of an Event of Default (as described below).
Liquidation. Upon the liquidation, dissolution or winding up of the
Company, the holders of the shares of Series A Preferred Stock, before any
distribution to the holders of Common Stock, will be entitled to receive an
amount per share equal to (a) $0.521 plus (b) all accrued and unpaid dividends
thereon ("Series A Liquidation Preference"). The holders of the shares of Series
A Preferred Stock will not be entitled to participate further in the
distribution of the assets of the Company.
Events of Default; Remedies. The Certificate of Designation of the Series A
Preferred Stock provides that an Event of Default will be deemed to have
occurred if the Company fails to comply with any of its covenants in the
Securities Purchase Agreement, dated as of March 27, 1997, between the Company
and JEDI; provided, that the Company will have a 30-day cure period with respect
to the non-compliance with certain covenants.
Upon the occurrence but only during the continuance of an Event of Default,
the holders of Series A Preferred Stock will be entitled to receive, in addition
to other dividends payable to holders of Series A Preferred Stock, when,
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as, and if declared by the Board of Directors, out of funds legally available
therefor, cumulative preferential cash dividends accruing from the date of the
Event of Default in an amount per share per annum equal to 6% of the Series A
Liquidation Preference in effect at the time of accrual of such dividends,
payable quarterly in arrears on or before the 15th day after the last day of
each calendar quarter during which such dividends are payable. Unless full
cumulative dividends accrued on shares of Series A Preferred Stock have been or
contemporaneously are declared and paid, no dividend may be declared or paid or
set aside for payment on the Common Stock or any other junior securities (other
than a dividend or distribution paid in shares of, or warrants, rights or
options exercisable for or convertible into or exchangeable for, Common Stock or
any other junior securities), nor shall any Common Stock nor any other junior
securities be redeemed, purchased or otherwise acquired for any consideration
nor may any monies be paid to or made available for a sinking fund for the
redemption of any shares of any such securities.
Upon the occurrence and during the continuance of an Event of Default
resulting from the failure to comply with certain covenants, the holders of
shares of Series A Preferred Stock will have the right, acting separately as a
class, to elect a number of persons to the Board of Directors of the Company,
that along with any members of the Board of Directors who are serving at the
time of such action, will constitute a majority of the Board of Directors.
Upon the occurrence of an Event of Default resulting from the failure to
comply with certain covenants, each holder of shares of Series A Preferred Stock
will have the right, by written notice to the Company, to require the Company to
repurchase, out of funds legally available therefor, such holder's shares of
Series A Preferred Stock for an amount in cash equal to the Series A Liquidation
Preference in effect at the time of the Event of Default.
Description of Series B Preferred Stock
The Certificate of Designation of the Series B Preferred Stock authorizes
the issuance of up to 9,600,000 shares of Series B Preferred Stock. The terms of
the Series B Preferred Stock are substantially similar to those of the Series A
Preferred Stock except that the holders of Series B Preferred Stock will not (i)
have class voting rights except as required under Delaware corporate law, (ii)
be entitled to any remedies upon an event of default or (iii) be entitled to
elect any directors of the Company, voting separately as a class.
Description of Series C Preferred Stock
General. The Certificate of Designation of the Series C Preferred Stock
(the "Series C Certificate of Designation") authorizes the issuance of up to
10,400 shares of Series C Preferred Stock.
Voting. The holders of shares of Series C Preferred Stock are not entitled
to vote with the holders of the Common Stock except as required by law or as set
forth below. For so long as any shares of Series C Preferred Stock are
outstanding, the following matters will require the approval of the holders of
at least two-thirds of the then outstanding shares of Series C Preferred Stock,
voting together as a separate class:
(i) alter or change the rights, preferences or privileges of the Series
C Preferred Stock or any other capital stock of the Company so as to affect
adversely the Series C Preferred Stock;
(ii) create any new class or series of capital stock having a
preference over or ranking pari passu with the Series C Preferred Stock as
to redemption, the payment of dividends or distribution of assets upon a
Liquidation Event (as defined in the Series C Certificate of Designation)
or any other liquidation, dissolution or winding up of the Company;
(iii) increase the authorized number of shares of Preferred Stock of
the Company;
(iv) re-issue any shares of Series C Preferred Stock which have been
converted in accordance with the terms hereof;
(v) issue any Senior Securities (other than the Company's Series B
Preferred Stock pursuant to the terms of the Company's Series A Preferred
Stock) or Pari Passu Securities (each, as defined in the Series C
Certificate of Designation); or
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(vi) declare, pay or make any provision for any dividend or
distribution with respect to the Common Stock or any other capital stock of
the Company ranking junior to the Series C Preferred Stock as to dividends
or as to the distribution of assets upon liquidation, dissolution or
winding up of the Company.
In the event that the holders of at least two-thirds (2/3) of the then
outstanding shares of Series C Preferred Stock agree to allow the Company to
alter or change the rights, preferences or privileges of the shares of Series C
Preferred Stock pursuant to the terms hereof, or to waive any rights of the
holders hereunder, then the Company will deliver notice of such approved change
to the holders of the Series C Preferred Stock that did not agree to such
alteration or change (the "Dissenting Holders") and the Dissenting Holders shall
have the right for a period of thirty (30) days following such delivery to
convert their Series C Preferred Stock pursuant to the terms of the Series C
Preferred Stock as they existed prior to such alteration or change, or to
continue to hold such shares. No such change shall be effective to the extent
that, by its terms, it applies to less than all of the holders of Series C
Preferred Stock then outstanding.
Conversion. Subject to certain limitations set forth in the Series C
Certificate of Designation, a holder of shares of Series C Preferred Stock has
the right, at the holder's option, to convert all or a portion of its shares
into shares of Common Stock at any time. The number of shares of Common Stock
into which a share of Series C Preferred Stock may be converted will be
determined as of the conversion date according to a formula set forth in the
Series C Certificate of Designation. The conversion rate is equal to the
aggregate stated value of the shares to be converted divided by a floating
conversion price that is the lesser of (i) $7.35 and (ii) (a) the average of the
three lowest closing bid prices for the Common Stock during the 10 trading days
prior to the conversion date if the average daily trading volume for the Common
Stock on the Nasdaq SmallCap Market during the calender month of the conversion
date is equal to or greater than $540,000, or (b) the three lowest closing bid
prices for the Common Stock during the 20 days trading days prior to the
conversion date if the average daily trading volume for the Common Stock on the
Nasdaq SmallCap Market during the calender month of the conversion date is equal
to or greater than $360,000 but less than $540,000, or (c) the lowest closing
bid price for the Common Stock during the 15 trading days prior to the
conversion date if the average daily trading volume for the Common Stock on the
Nasdaq SmallCap Market during the calender month of the conversion date is less
than $360,000. By way of example only, if the effective conversion price was
$6.00 per share, each share of Series C Preferred Stock would be convertible
into approximately 167 shares of Common Stock (or 1,733,333 shares if all
outstanding shares of Series C Convertible Preferred Stock were converted). If
the effective conversion price was $4.00 per share, each share of Series C
Preferred Stock would be convertible into approximately 250 shares of Common
Stock (or 2,600,000 shares if all outstanding shares of Series C Preferred Stock
were converted). If the Company fails to deliver shares of Common Stock to a
holder following a conversion in accordance with the Series C Certificate of
Designation, then the Company will be liable to the holder for certain cash
default payments set forth in the Series C Certificate of Designation.
On December 24, 2001, all shares of Series C Preferred Stock that are then
outstanding shall be automatically converted into the number of shares of Common
Stock determined in accordance with the formula set forth in the Series C
Certificate of Designation.
The Series C Certificate of Designation provides for customary adjustments
to the number of shares issuable upon conversion in the event of certain
dividends and distributions to holders of Common Stock, certain
reclassifications of the Common Stock, stock splits, combinations and mergers
and similar transactions and certain changes of control.
Dividends. The holders of the shares of Series C Preferred Stock are
entitled to receive dividends, when, and as if declared by the Board of
Directors, out of funds legally available therefor, subject to the prior payment
of any accumulated and unpaid dividends to holders of Senior Securities, but
before payment of dividends to holders of Junior Securities (as defined in the
Series C Certificate of Designation), cumulative dividends on each share of
Series C Preferred Stock in an amount equal to the stated value of such share
multiplied by 5%.
Liquidation. Upon the liquidation, dissolution or winding up of the
Company, the holders of the shares of Series C Preferred Stock, before any
distribution to the holders of Junior Securities, and after payment to holders
of Senior Securities, will be entitled to receive an amount equal to the stated
value of the Series C Preferred Stock (subject to ratable adjustment in the
event of reclassification of the Series C Preferred Stock or other similar
event) plus any accrued and unpaid dividends thereon.
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Optional Redemption. The Company has the right to redeem all of the
outstanding Series C Preferred Stock at a price equal to the Liquidation
Preference of the Series C Preferred Stock then held by the holder divided by
80% ("Optional Redemption Price"), to the extent permitted by law and so long as
(i) the Company has sufficient cash available at the time; (ii) the Company
delivers written notice at least thirty trading days' prior to the redemption,
specifying both the date of the redemption and the amount payable to the holder;
and (iii) the Common Stock is actively traded on the NASDAQ Stock Market, the
New York Stock Exchange or the American Stock Exchange.
Mandatory Redemption. The Series C Certificate of Designation provides for
mandatory redemption by the Company when a Mandatory Redemption Event (as
defined in the Series C Certificate of Designation) occurs.
Upon the occurrence of a Mandatory Redemption Event, each holder of Series
C Preferred Stock will have the right to require the Company to redeem its
Series C Preferred Stock at a redemption price equal to the greater of (i) the
Liquidation Preference of the Series C Preferred Stock being redeemed multiplied
by 125% and (ii) an amount determined by dividing the Liquidation Preference of
the Series C Preferred Stock being redeemed by the conversion price in effect on
the mandatory redemption date and multiplying the resulting quotient by the
average closing bid price for the Common Stock on the 5 trading days preceding
the mandatory redemption date ("Mandatory Redemption Price").
If the Mandatory Redemption Price is not paid within five business days of
the redemption date and the holder has tendered its Series C Preferred Stock to
the Company, the holder is entitled to interest thereon, from the redemption
date until the Mandatory Redemption Price has been paid in full.
If the Mandatory Redemption Price is not paid within ten business days of
the redemption date, each holder of shares of Series C Preferred Stock will have
the right, by written notice to the Company, to require the Company to issue, in
lieu of the Mandatory Redemption Price, the number of shares of Common Stock of
the Company equal to the Mandatory Redemption Price divided by the conversion
price in effect on such conversion date as specified by the holder, with the
conversion price to be reduced by 1% for each day beyond the 10th business day
in which the Company fails to pay the Mandatory Redemption Price, but with the
maximum reduction of the conversion price to be 50%.
WARRANTS
As of August 31, 1998, JEDI held warrants to purchase an aggregate of
1,774,648 shares of Common Stock at prices ranging from $5.00 to $7.35. The
warrants held by JEDI expire at various times from March 9, 1999 to August 19,
1999. As of August 31, 1998, certain institutional investors held warrants to
purchase an aggregate of 1,440,138 shares of Common Stock at prices ranging from
$2.50 to a floating rate based on market price at the time of exercise. The
warrants held by the institutional investors expire at various times from
December 31, 1998 through December 24, 2001. In addition, certain investors and
placement agents hold warrants to purchase an aggregate of 1,085,000 shares of
Common Stock. See "Recent Developments -- Private Equity Placement."
EXCHANGE RIGHTS
The ECT Revolving Credit Agreement provides that, commencing January 1999,
during certain periods, any indebtedness of QSRn, may be exchanged by the
lenders for shares of the Company's Common Stock. The exchange ratio is based on
a formula that is a function of the market price of the Common Stock at the time
of exchange.
CERTAIN U.S. FEDERAL INCOME TAX CONSIDERATIONS
In the opinion of Haynes and Boone, LLP, special counsel to the Company,
the following discussion describes the material federal income tax consequences
expected to result to holders whose Old Notes are exchanged for New Notes in the
Exchange Offer but does not purport to be a complete analysis of all potential
federal income or other tax effects. The discussion is based upon the Internal
Revenue Code of 1986, as amended (the "Code"), Treasury Regulations, Internal
Revenue Service (the "IRS") rulings and pronouncements and judicial decisions
all in effect as of the date hereof, all of which are subject to change at any
time, and any such change may be applied retroactively in a manner that could
adversely affect a holder of the Notes. The discussion does not address all of
the federal income tax consequences that may be relevant to a holder in light of
such holder's particular
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circumstances or to holders subject to special rules, such as certain financial
institutions, tax-exempt entities, insurance companies, dealers in securities,
traders in securities who elect to mark to market and persons holding the Notes
as part of a "straddle," "hedge" or "conversion transaction." Moreover, the
effect of any applicable state, local or foreign tax laws is not discussed. The
discussion deals only with Notes held as "capital assets" within the meaning of
Section 1221 of the Code.
The exchange of Old Notes for New Notes will be treated as a "non-event"
for federal income tax purposes because the New Notes will not be considered to
differ materially in kind or extent from the Old Notes. As a result, no material
federal income tax consequences will result to holders exchanging Old Notes for
New Notes.
The exchange of an Old Note for a New Note pursuant to the Exchange Offer
will not be taxable to an exchanging Holder for federal income tax purposes. As
a result, (i) an exchanging Holder will not recognize any gain or loss on the
exchange, (ii) the holding period for the New Note will include the holding
period for the New Note and (iii) the tax basis of the New Note will be the same
as the tax basis for the Old Note.
The Exchange Offer will have no federal income tax consequences to a
nonexchanging Holder of Notes.
As used herein, the term "U.S. Holder" means a beneficial owner of a Note
who or which is for U.S. federal income tax purposes (i) a citizen or resident
of the United States, (ii) a corporation or partnership created or organized in
the United States or under the laws of the United States or of any State, (iii)
an estate the income of which is subject to U.S. federal income taxation
regardless of its source, or (iv) a trust if, and only if, (a) a court within
the United States is able to exercise primary supervision over the
administration of the trust and (b) one or more U.S. persons have the authority
to control all substantial decisions of the trust. The term U.S. Holder also
includes certain former U.S. citizens whose income and gain on the Notes will be
subject to U.S. taxation. As used herein, the term "Non-U.S. Holder" means a
beneficial owner of a Note that is not a U.S. Holder. Unless otherwise indicated
from the context, "Holder" means either a U.S. Holder or a Non-U.S. Holder.
The Company has not sought and will not seek any rulings from the Service
with respect to any position of the Company discussed below. There can be no
assurance that the Service will not take a different position from the Company
concerning aspects of the tax consequences of the acquisition, ownership or
disposition of the Notes or that any such position would not be sustained.
PROSPECTIVE INVESTORS SHOULD CONSULT THEIR OWN TAX ADVISORS WITH REGARD TO
THE APPLICATION OF THE TAX CONSIDERATIONS DISCUSSED BELOW TO THEIR PARTICULAR
SITUATIONS AS WELL AS THE APPLICATION OF ANY STATE, LOCAL, FOREIGN OR OTHER TAX
LAWS.
U.S. HOLDERS
Interest payable on the Notes will be includible in the income of a U.S.
Holder in accordance with such Holder's regular method of accounting. If a Note
is redeemed, sold or otherwise disposed of, a U.S. Holder generally will
recognize gain or loss equal to the difference between the amount realized on
the sale or other disposition of such Note (to the extent such amount does not
represent accrued but unpaid interest) and such Holder's tax basis in the Note.
Such gain or loss generally will be capital gain or loss, provided that the
Holder has held the Note as a capital asset. In general, the maximum tax rate
for non-corporate taxpayers on long-term capital gains is 20% for most capital
assets (including the Notes) held for more than 12 months.
NON-U.S. HOLDERS
On October 14, 1997, final Treasury Regulations (the "1997 Final
Regulations") were issued that affect the U.S. taxation of Non-U.S. Holders of
the Notes. The 1997 Final Regulations generally are effective for payments made
after December 31, 1999, regardless of the issue date of the Notes with respect
to which such payments are made, subject to certain transition rules.
THE DISCUSSION UNDER THIS HEADING AND UNDER "-- BACKUP WITHHOLDING" BELOW
IS FOR INFORMATIONAL PURPOSES ONLY AND IS NOT INTENDED TO BE A COMPLETE
DISCUSSION OF EITHER THE STATUTORY AND REGULATORY PROVISIONS THAT APPLY TO
PAYMENTS MADE
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ON THE NOTES BEFORE JANUARY 1, 2000 OR THE PROVISIONS OF THE 1997 FINAL
REGULATIONS. PROSPECTIVE NON-U.S. HOLDERS ARE URGED TO CONSULT THEIR TAX
ADVISORS WITH RESPECT TO THE POSSIBLE APPLICABILITY OF THE VARIOUS WITHHOLDING
PROVISIONS OF THE CODE AND THE TREASURY REGULATIONS PROMULGATED THEREUNDER.
Interest on the Notes. Payments of interest on the Notes by the Company or
any paying agent to a beneficial owner of a Note that is a Non-U.S. Holder will
not be subject to U.S. federal withholding tax, provided that (i) such holder
does not own, actually or constructively, 10% or more of the total combined
voting power of all classes of stock of the Company entitled to vote, (ii) such
holder is not, for U.S. federal income tax purposes, a controlled foreign
corporation related, directly or indirectly, to the Company through stock
ownership, (iii) such holder is not a bank receiving interest described in
Section 881(c)(3)(a) of the Code and (iv) certain certification requirements
(summarized below) are met (the "Portfolio Interest Exception"). If a Non-U.S.
Holder of a Note is engaged in a trade or business in the United States, and if
interest on the Note is effectively connected with the conduct of such trade or
business (and, if certain tax treaties apply, is attributable to a U.S.
permanent establishment maintained by the Non-U.S. Holder), the Non-U.S. Holder,
although exempt from U.S. withholding tax, will generally be subject to regular
U.S. income tax on such interest in the same manner as if it were a U.S. Holder.
In addition, if such Non-U.S. Holder is a foreign corporation, it may be subject
to a branch profits tax equal to 30% (or such lower rate provided by an
applicable treaty) of its effectively connected earnings and profits for the
taxable year, subject to certain adjustments. For purposes of the branch profits
tax, interest on a Note will be included in the earnings and profits of such
Non-U.S. Holder if such interest is effectively connected with the conduct by
the Non-U.S. Holder of a trade or business in the United States.
For payments of interest on the Notes made prior to January 1, 2000,
generally in order to qualify for the Portfolio Interest Exception, either (i)
the beneficial owner of a Note must certify on IRS Form W-8 (or an acceptable
substitute form), under penalties of perjury, to the Company or a paying agent,
as the case may be, that such owner is a Non-U.S. Holder and must provide such
owner's name and address or (ii) a securities clearing organization, bank or
other financial institution that holds customers' securities in the ordinary
course of its trade or business (a "Financial Institution") and holds the Note
on behalf of the beneficial owner thereof must certify, under penalties of
perjury, to the Company or paying agent, as the case may be, that such
certificate has been received from the beneficial owner by it or by a Financial
Institution between it and the beneficial owner and must furnish the payor with
a copy thereof. A certificate described in this paragraph is effective only with
respect to payments of interest made to the certifying Non-U.S. Holder after
delivery of the certificate in the calendar year of its delivery and the two
immediately succeeding calendar years. In lieu of the certificate described in
this paragraph, a Non-U.S. Holder engaged in a trade or business in the United
States (with which interest payments on the Note are effectively connected) must
provide to the Company a properly executed Internal Revenue Service Form 4224 in
order to claim an exemption from withholding tax.
A payment of interest on the Notes made to a foreign beneficial owner after
December 31, 1999, generally will qualify for the Portfolio Interest Exception
or, as the case may be, the exception from withholding for income effectively
connected with the conduct of a trade or business in the United States if, at
the time such payment is made, the withholding agent holds a valid Form W-8 (or
an acceptable substitute form) from the beneficial owner and can reliably
associate such payment with such Form W-8. In addition, under certain
circumstances a withholding agent is allowed under the 1997 Final Regulations to
rely on Form W-8 (or an acceptable substitute form) furnished by a financial
institution or other intermediary on behalf of one or more beneficial owners (or
other intermediaries) without having to obtain copies of the beneficial owner's
Form W-8 (or an acceptable substitute form), provided that the financial
institution or intermediary has entered into a withholding agreement with the
IRS and thus is a "qualified intermediary," and may not be required to withhold
on payments made to certain other intermediaries if certain conditions are met.
Disposition of Notes. Under current law, a Non-U.S. Holder of a Note
generally will not be subject to U.S. federal income tax on any gain recognized
on the sale, exchange or other disposition of such Note (other than gain
attributable to accrued interest, which is subject to the rules discussed
above), unless (i) the gain is effectively connected with the conduct of a trade
or business in the United States of the Non-U.S. Holder (and, if certain tax
treaties apply, is attributable to a U.S. permanent establishment maintained by
the Non-U.S. Holder), (ii) the Non-U.S. Holder is an individual who holds the
Note as a capital asset, is present in the United States for 183 days or more in
the taxable year of the disposition and either (a) such individual has a U.S.
"tax home" (as defined for U.S. federal income tax purposes) or (b) the gain is
attributable to an office or other fixed place of business
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maintained in the United States by such individual or (iii) the Non-U.S. Holder
is subject to tax pursuant to the Code provisions applicable to certain U.S.
expatriates. In the case of a Non-U.S. Holder that is described under clause (i)
above, its gain will be subject to the U.S. federal income tax on net income
that applies to U.S. persons and, in addition, if such Non-U.S. Holder is a
foreign corporation, it may be subject to the branch profits tax as described
above. An individual Non-U.S. Holder that is described under clause (ii) above
will be subject to a flat 30% tax on gain derived from the sale, which may be
offset by U.S. capital losses (notwithstanding the fact that he or she is not
considered a U.S. resident). Thus, individual Non-U.S. Holders who have spent
183 days or more in the United States in the taxable year in which they
contemplate a sale of a Note are urged to consult their tax advisors as to the
tax consequences of such sale.
Estate Tax Consequences. A Note held by an individual who is not a U.S.
citizen or resident (as specially defined for United States federal estate tax
purposes) at the time of his death will not be subject to U.S. federal estate
tax as a result of such individual's death, provided that, at the time of such
individual's death, the individual does not own, actually or constructively, 10%
or more of the total combined voting power of all classes of stock of the
Company entitled to vote and payments with respect to such Note would not have
been effectively connected with the conduct by such individual of a trade or
business in the United States.
BACKUP WITHHOLDING
A Holder may be subject, under certain circumstances, to backup withholding
at a 31% rate with respect to "reportable payments" on the Notes. This
withholding generally applies only if the Holder (i) fails to furnish his or her
social security or other taxpayer identification number ("TIN"), (ii) furnishes
an incorrect TIN, (iii) is notified by the Service that he or she has failed to
report properly payments of interest and dividends and the Service has notified
the Company that the Holder is subject to backup withholding or (iv) fails,
under certain circumstances, to provide a certified statement, signed under
penalty of perjury, that the TIN provided is his or her correct number and that
he or she is not subject to backup withholding. Any amount withheld from payment
to a holder under the backup withholding rules is allowable as a credit against
such holder's U.S. federal income tax liability, provided that the required
information is furnished to the Service. Certain Holders (including, among
others, corporations and foreign individuals who comply with certain
certification requirements) are not subject to backup withholding. Holders
should consult their tax advisors as to their qualifications for exemption from
backup withholding and the procedure for obtaining such an exemption.
INFORMATION REPORTING
The Company is required to furnish certain information to the IRS and will
furnish annually to record holders of the Notes information with respect to
interest paid on the Notes during the calendar year.
SUBSEQUENT PURCHASERS
The foregoing does not discuss special rules that may affect the treatment
of purchasers that acquire the Notes other than at the time of original issuance
at the issue price, including those provisions of the Code relating to the
treatment of "market discount" and "acquisition premium." For example, the
market discount provisions of the Code may require a subsequent purchaser of
Notes at a market discount to treat all or a portion of any gain recognized upon
sale or other disposition of such Notes as ordinary income and to defer a
portion of any interest expense that would otherwise be deductible on any
indebtedness incurred or maintained to purchase or carry such Notes until the
holder disposes of such Notes in a taxable transaction.
LEGAL MATTERS
The validity of the New Notes offered hereby, U.S. federal tax effects
relating to the Exchange Offer and certain other legal matters will be passed
upon for the Company by Haynes and Boone, LLP, Dallas, Texas.
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PLAN OF DISTRIBUTION
Each broker-dealer that receives New Notes for its own account pursuant to
the Exchange Offer must acknowledge that it will deliver a prospectus in
connection with any resale of such New Notes. This Prospectus, as it may be
amended or supplemented from time to time, may be used by a broker-dealer in
connection with resales of New Notes received in exchange for Old Notes where
such Notes were acquired as a result of market-making activities or other
trading activities. The Company has agreed that, starting on the Expiration Date
and ending on the close of business on the first anniversary of the Expiration
Date, it will make this Prospectus, as amended or supplemented, available to any
broker-dealer for use in connection with any such resale.
The Company will not receive any proceeds from any sale of New Notes by
broker-dealers. New Notes received by broker-dealers for their own account
pursuant to the Exchange Offer may be sold from time to time in one or more
transactions in the over-the-counter market, in negotiated transactions, through
the writing of options on the New Notes or a combination of such methods of
resale, at market prices prevailing at the time of resale, at prices related to
such prevailing market prices or negotiated prices. Any such resale may be made
directly to purchasers or to or through brokers or dealers who may receive
compensation in the Form of commissions or concessions from any such
broker-dealer and/or the purchasers of any such New Notes. Any broker-dealer
that resells New Notes that were received by it for its own account pursuant to
the Exchange Offer and any broker or dealer that participates in a distribution
of such New Notes may be deemed to be an "underwriter" within the meaning of the
Securities Act and any profit of any such resale of New Notes and any
commissions or concessions received by any such persons may be deemed to be
underwriting compensation under the Securities Act. The Letter of Transmittal
will not be deemed to admit that it is an "underwriter" within the meaning of
the Securities Act.
For a period of one year after the Expiration Date, the Company will
promptly send additional copies of this Prospectus and any amendment or
supplement to this Prospectus to any broker-dealer that requests such documents
in the Letter of Transmittal. The Company has agreed to pay all expenses
incident to the Exchange Offer (including the expenses of one counsel for the
holders of the Notes) other than commissions or concessions of any brokers or
dealers and will indemnify the holders of the Notes (including any
broker-dealers) against certain liabilities, including liabilities under the
Securities Act.
ENGINEERS
The estimates relating to the Company's proved oil and natural gas reserves
and future net revenues of oil and natural gas reserves as of June 30, 1997
(other than with respect to the Property Acquisitions) and at June 30, 1998
(other than with respect to the Morgan Properties) included in this Prospectus
and incorporated in this Prospectus by reference from the Company's Annual
Report on Form 10-KSB for the year ended June 30, 1998 are based upon estimates
of such reserves prepared by H.J. Gruy in reliance upon its reports and upon the
authority of this firm as experts in petroleum engineering.
The estimates relating to the Company's proved oil and natural gas reserves
and future net revenues of oil and natural gas reserves as of June 30, 1996
included in this Prospectus are based upon estimates of such reserves prepared
by Harper and Associates in reliance upon its reports and upon the authority of
this firm as experts in petroleum engineering.
The estimates relating to the Company's proved oil and natural gas reserves
and future net revenues of oil and natural gas reserves at June 30, 1998 with
respect to the Morgan Properties included in this Prospectus and incorporated in
this Prospectus by reference from the Company's Annual Report on Form 10-KSB for
the year ended June 30, 1998 are based upon estimates of such reserves prepared
by Ryder Scott, independent consulting petroleum engineers, in reliance upon its
report and upon the authority of this firm as experts in petroleum engineering.
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INDEPENDENT AUDITORS
The consolidated financial statements of the Company as of June 30, 1998
and 1997, and for each of the two years in the period ended June 30, 1998
included in this prospectus and appearing in the Company's Annual Report on
Form 10-KSB for the year ended June 30, 1998, and the statements of operating
revenues and direct operating expenses of the Collins and Ware Properties for
the years ended June 30, 1997 and 1996, included in this Prospectus and also
included in the Company's Annual Report (Form 10-KSB) for the year ended June
30, 1997 have been audited by Ernst & Young LLP, independent auditors, as set
forth in their reports thereon appearing elsewhere herein and also included in
the Forms 10-KSB incorporated herein by reference. Such financial statements
are included herein and incorporated herein by reference in reliance upon such
reports given upon the authority of such firm as experts in accounting and
auditing.
The statements of net profits interests and royalty interests revenues of
certain oil and gas producing properties acquired from pension funds managed by
J. P. Morgan Investments for the years ended June 30, 1997, 1996 and 1995
included in this Prospectus and also included in the Company's Current Report on
Form 8-K dated March 19, 1998, as amended by Current Report on Form 8-K/A-2
dated June 8, 1998, have been audited by Ernst & Young LLP, independent
auditors, as set forth in their report thereon appearing elsewhere herein and
also included in Form 8-K/A-2 and incorporated herein by reference. Such
financial statements are included herein and incorporated herein by reference in
reliance upon such report given upon the authority of such firm as experts in
accounting and auditing.
The consolidated statements of operations, stockholders' equity and cash
flows of the Company for the year ended June 30, 1996, have been included
herein and in the registration statement in reliance upon the report of KPMG
Peat Marwick LLP, independent certified public accountants, appearing elsewhere
herein, and upon the authority of said firm as experts in accounting and
auditing.
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GLOSSARY
The terms defined in this glossary are used throughout this Prospectus.
"average NYMEX price." The average of the NYMEX closing prices for the near
month.
Bbl. One stock tank barrel, or 42 U.S. gallons liquid volume, used herein
in reference to crude oil or other liquid hydrocarbons.
Bbl/d. Bbl per day.
Bcf. One billion cubic feet of natural gas.
Bcfe. One billion cubic feet of natural gas equivalents, converting one Bbl
of oil to six Mcf of gas.
"behind-the-pipe." Hydrocarbons in a potentially producing horizon
penetrated by a well bore the production of which has been postponed pending the
production of hydrocarbons from another formation penetrated by the well bore.
The hydrocarbons are classified as proved but non-producing reserves.
"development well." A well drilled within the proved boundaries of an oil
or natural gas reservoir with the intention of completing the stratigraphic
horizon known to be productive.
"dry well." A development or exploratory well found to be incapable of
producing either oil or natural gas in sufficient quantities to justify
completion as an oil or natural gas well.
"exploratory well." A well drilled to find and produce oil or natural gas
in an unproved area, to find a new reservoir in a field previously found to be
productive of oil or natural gas in another reservoir, or to extend a known
reservoir.
"gross acres" or "gross wells." The total number of acres or wells, as the
case may be, in which a working interest is owned.
LOE. Lease operating expenses are those expense directly associated with
crude oil and/or natural gas producing or service wells.
MBbl. One thousand barrels of crude oil or other liquid hydrocarbons.
Mcf. One thousand cubic feet of natural gas.
Mcf/d. Mcf per day.
Mcfe. One thousand cubic feet of natural gas equivalents, converting one
Bbl of oil to six Mcf of gas.
MMBbl. One million barrels of crude oil or other liquid hydrocarbons.
MMcfe. One million cubic feet of natural gas equivalents, converting one
Bbl of oil to six Mcf of gas.
MMcf. One million cubic feet of natural gas.
"net acres" or "net wells." The sum of the fractional working interests
owned in gross acres or gross wells.
122
<PAGE> 124
"net profits interest." A share of the gross oil and natural gas production
from a property, measured by net profits from the operation of the property,
that is carved out of the working interest. This is a non-operated interest.
"non-producing reserves." Non-producing reserves consist of (i) reserves
from wells that have been completed and tested but are not yet producing due to
lack of market or minor completion problems that are expected to be corrected,
and (ii) reserves currently behind-the-pipe in existing wells which are expected
to be productive due to both the well log characteristics and analogous
production in the immediate vicinity of the well.
NYMEX. New York Mercantile Exchange.
"producing well," "production well" or "productive well." A well that is
producing oil or natural gas or that is capable of production.
"proved developed reserves," "proved developed producing" or "PDP." Proved
developed reserves are oil and natural gas reserves that can be expected to be
recovered through existing wells with existing equipment and operating methods.
Additional oil and natural gas expected to be obtained through the application
of fluid injection or other improved recovery techniques for supplementing the
natural forces and mechanisms of primary recovery should be included as "proved
developed reserves" only after testing by a pilot project or after the operation
of an installed program has confirmed through production response that increased
recovery will be achieved.
"proved reserves." The estimated quantities of crude oil, natural gas and
natural gas liquids which geological and engineering data demonstrate with
reasonable certainty to be recoverable in future years from known reservoirs
under existing economic and operating conditions.
"proved undeveloped reserves" or PUD. Reserves are oil and natural gas
reserves that are expected to be recovered from new wells on undrilled acreage,
or from existing wells where a relatively major expenditure is required for
recompletion. Reserves on undrilled acreage shall be limited to those drilling
units offsetting productive units that are reasonably certain of production when
drilled. Proved reserves for other undrilled units can be claimed only where it
can be demonstrated with certainty that there is continuity of production from
the existing productive formation. Under no circumstances should estimates for
proved undeveloped reserves be attributable to any acreage for which an
application of fluid injection or other improved recovery techniques is
contemplated, unless such techniques have been proved effective by actual tests
in the area and in the same reservoir.
"Reserve Life Index." The estimated productive life of a proved reservoir
based upon the economic limit of such reservoir producing hydrocarbons in paying
quantities assuming certain price and cost parameters. For purposes of this
Prospectus, reserve life is calculated by dividing the Proved Reserves (on a
Mcfe basis) at the end of the period by production volumes for the previous 12
months.
"royalty interest." An interest in an oil and natural gas property
entitling the owner to a share of oil and natural gas production free of costs
of production.
"SEC PV-10." The present value of proved reserves is an estimate of the
discounted future net cash flows from each of the properties at June 30, 1998,
or as otherwise indicated. Net cash flow is defined as net revenues less, after
deducting production and ad valorem taxes, future capital costs and operating
expenses, but before deducting federal income taxes. As required by rules of the
Commission, the future net cash flows have been discounted at an annual rate of
10% to determine their "present value." The present value is shown to indicate
the effect of time on the value of the revenue stream and should not be
construed as being the fair market value of the properties. In accordance with
Commission rules, estimates have been made using constant oil and natural gas
prices and operating costs, at June 30, 1998, or as otherwise indicated.
"secondary recovery." A method of oil and natural gas extraction in which
energy sources extrinsic to the reservoir are utilized.
"service well." A well used for water injection in secondary recovery
projects or for the disposal of produced water.
123
<PAGE> 125
"Standardized Measure." Under the Standardized Measure, future cash flows
are estimated by applying year-end prices, adjusted for fixed and determinable
escalations, to the estimated future production of year-end proved reserves.
Future cash inflows are reduced by estimated future production and development
costs based on period-end costs to determine pretax cash inflows. Future income
taxes are computed by applying the statutory tax rate to the excess of pretax
cash inflows over the Company's tax basis in the associated properties. Tax
credits, net operating loss carryforwards, and permanent differences are also
considered in the future tax calculation. Future net cash inflows after income
taxes are discounted using a 10% annual discount rate to arrive at the
Standardized Measure.
"undeveloped acreage." Lease acreage on which wells have not been drilled
or completed to a point that would permit the production of commercial
quantities of oil and natural gas regardless of whether such acreage contains
proved reserves.
"working interest." The operating interest which gives the owner the right
to drill, produce and conduct operating activities on the property and a share
of production, subject to all royalties, overriding royalties and other burdens
and to all costs of exploration to, development and operations and all risks in
connection therewith.
124
<PAGE> 126
INDEX TO FINANCIAL STATEMENTS
<TABLE>
<CAPTION>
PAGE
----
<S> <C>
AUDITED CONSOLIDATED FINANCIAL STATEMENTS
Independent Auditors' Report -- Ernst & Young LLP......... F-2
Independent Auditors' Report -- KPMG Peat Marwick LLP..... F-3
Consolidated Balance Sheets as of June 30, 1998 and
1997................................................... F-4
Consolidated Statements of Operations for the years ended
June 30, 1998, 1997 and 1996........................... F-5
Consolidated Statements of Stockholders' Equity (Net
Capital Deficiency) for the years ended June 30, 1998,
1997 and 1996.......................................... F-6
Consolidated Statements of Cash Flows for the years ended
June 30, 1998, 1997 and 1996........................... F-7
Notes to Consolidated Financial Statements................ F-8
STATEMENTS OF REVENUE AND DIRECT OPERATING EXPENSE OF THE
COLLINS AND WARE PROPERTIES
Independent Auditors' Report -- Ernst & Young LLP......... F-27
Statements of Revenue and Direct Operating Expenses of the
Collins and Ware Properties for the years ended June
30, 1997 and 1996...................................... F-28
Notes to Statements of Revenue and Direct Operating
Expenses of the Collins and Ware Properties............ F-29
STATEMENTS OF NET PROFITS INTERESTS AND ROYALTY INTERESTS
REVENUES OF THE MORGAN PROPERTIES
Independent Auditors' Report -- Ernst & Young LLP......... F-31
Statements of Net Profits Interests and Royalty Interests
Revenues of the Morgan Properties for the years ended
June 30, 1997, 1996 and 1995........................... F-32
Unaudited Statement of Net Profits Interests and Royalty
Interests Revenues of the Morgan Properties for the
nine months ended March 31, 1998....................... F-32
Notes to Statements of Net Profits Interests and Royalty
Interests Revenues..................................... F-33
</TABLE>
F-1
<PAGE> 127
REPORT OF ERNST & YOUNG LLP, INDEPENDENT AUDITORS
The Board of Directors and Stockholders
Queen Sand Resources, Inc.
We have audited the accompanying consolidated balance sheets of Queen Sand
Resources, Inc. and subsidiaries as of June 30, 1998 and 1997, and the related
consolidated statements of operations, stockholders' equity (net capital
deficiency) and cash flows for each of the two years in the period ended June
30, 1998. These consolidated financial statements are the responsibility of the
Company's management. Our responsibility is to express an opinion on these
consolidated financial statements based on our audit.
We conducted our audit in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to obtain
reasonable assurance about whether the financial statements are free of material
misstatement. An audit includes examining, on a test basis, evidence supporting
the amounts and disclosures in the financial statements. An audit also includes
assessing the accounting principles used and significant estimates made by
management, as well as evaluating the overall financial statement presentation.
We believe that our audit provides a reasonable basis for our opinion.
In our opinion, the consolidated financial statements referred to above
present fairly, in all material respects, the financial position of Queen Sand
Resources, Inc. and subsidiaries as of June 30, 1998 and 1997, and the results
of their operations and their cash flows for each of the two years in the period
ended June 30, 1998, in conformity with generally accepted accounting
principles.
ERNST & YOUNG LLP
Dallas, Texas
September 2, 1998
F-2
<PAGE> 128
INDEPENDENT AUDITORS' REPORT
The Board of Directors
Queen Sand Resources, Inc.
We have audited the accompanying consolidated statements of operations,
stockholders' equity and cash flows of Queen Sand Resources, Inc. and
subsidiaries for the year ended June 30, 1996. These consolidated financial
statements are the responsibility of the Company's management. Our
responsibility is to express an opinion on these consolidated financial
statements based on our audit.
We conducted our audit in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to obtain
reasonable assurance about whether the financial statements are free of material
misstatement. An audit includes examining, on a test basis, evidence supporting
the amounts and disclosures in the financial statements. An audit also includes
assessing the accounting principles used and significant estimates made by
management, as well as evaluating the overall financial statement presentation.
We believe that our audit provides a reasonable basis for our opinion.
In our opinion, the consolidated financial statements referred to above
present fairly, in all material respects, the results of operations and cash
flows of Queen Sand Revenues, Inc. and subsidiaries for the year ended June 30,
1996, in conformity with generally accepted accounting principles.
KPMG PEAT MARWICK LLP
Dallas, Texas
August 30, 1996
F-3
<PAGE> 129
QUEEN SAND RESOURCES, INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
ASSETS
<TABLE>
<CAPTION>
JUNE 30
--------------------------
1998 1997
------------ -----------
<S> <C> <C>
Current assets:
Cash...................................................... $ 1,029,419 $ 309,695
Accounts receivable....................................... 5,251,739 744,923
Notes receivable from employee............................ 73,077 --
Other..................................................... 56,397 11,169
------------ -----------
Total current assets.............................. 6,410,632 1,065,787
------------ -----------
Property and equipment, at cost (Notes 1, 2, 3, and 9):
Oil and gas properties, based on full cost accounting
method................................................. 176,942,840 17,540,805
Other equipment........................................... 221,652 390,404
------------ -----------
177,164,492 17,931,209
Less accumulated depreciation, depletion, and
amortization........................................... (34,697,197) (1,744,000)
------------ -----------
Net property and equipment.................................. 142,467,295 16,187,209
Other assets................................................ 4,796,902 --
------------ -----------
$153,674,829 $17,252,996
============ ===========
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities:
Accounts payable.......................................... $ 5,493,219 $ 1,228,510
Accrued liabilities....................................... 1,258,196 360,158
Current portion of long-term obligations (Note 3)......... 84,862 2,080,897
------------ -----------
Total current liabilities......................... 6,836,277 3,669,565
Long-term obligations, net of current portion (Note 3)...... 153,619,247 7,151,881
Commitments (Note 5)
Stockholders' equity (net capital deficiency) (Notes 2 and
5):
Preferred stock, $.01 par value:
Authorized shares -- 50,000,000 at June 30, 1998 and
1997
Issued and outstanding shares -- 9,610,400 and
9,600,000 at June 30, 1998 and 1997, respectively..... 96,104 96,000
Aggregate liquidation preference -- $5,000,000
Common stock, $.0015 par value:
Authorized shares -- 100,000,000 at June 30, 1998 and
1997
Issued and outstanding shares -- 24,323,767 and
20,825,552 at June 30, 1998 and 1997, respectively.... 50,882 45,635
Additional paid-in capital................................ 34,011,501 14,474,844
Accumulated deficit....................................... (35,939,182) (3,184,929)
Treasury stock, 9,600,000 shares of common stock, at
cost................................................... (5,000,000) (5,000,000)
------------ -----------
Total stockholders' equity (net capital
deficiency).................................... (6,780,695) 6,431,550
------------ -----------
Total liabilities and stockholders' equity........ $153,674,829 $17,252,996
============ ===========
</TABLE>
See accompanying notes.
F-4
<PAGE> 130
QUEEN SAND RESOURCES, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS
<TABLE>
<CAPTION>
YEAR ENDED JUNE 30
----------------------------------------
1998 1997 1996
------------ ----------- -----------
<S> <C> <C> <C>
Revenues:
Oil and gas sales.................................. $ 6,446,055 $ 4,381,035 $ 2,079,413
Net profits and royalty interests.................. 4,432,010 -- --
Interest and other (Note 1)........................ 105,356 300,271 71,629
------------ ----------- -----------
10,983,421 4,681,306 2,151,042
Expenses:
Production expenses................................ 4,546,612 2,506,759 1,175,639
Depreciation, depletion, and amortization (Note
1).............................................. 4,809,322 982,000 630,000
Writedown of oil and gas properties (Note 1)....... 28,166,000 -- --
General and administrative (Notes 1 and 7)......... 2,259,132 1,452,402 1,113,146
Interest and financing costs....................... 3,956,608 877,967 420,790
------------ ----------- -----------
Loss before extraordinary item....................... (32,754,253) (1,137,822) (1,188,533)
Extraordinary item (Note 3).......................... -- 171,381 --
------------ ----------- -----------
Net loss................................... $(32,754,253) $(1,309,203) $(1,188,533)
============ =========== ===========
Loss before extraordinary item per common share...... $ (1.44) $ (.04) $ (.05)
============ =========== ===========
Net loss per common share............................ $ (1.44) $ (.05) $ (.05)
============ =========== ===========
Weighted average common shares outstanding........... 22,719,177 26,964,334 26,003,479
============ =========== ===========
</TABLE>
See accompanying notes.
F-5
<PAGE> 131
QUEEN SAND RESOURCES, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY
(NET CAPITAL DEFICIENCY)
YEARS ENDED JUNE 30, 1998, 1997 AND 1996
<TABLE>
<CAPTION>
TOTAL
STOCKHOLDERS'
EQUITY
PREFERRED STOCK COMMON STOCK ADDITIONAL (NET
------------------- -------------------- PAID-IN ACCUMULATED CAPITAL
SHARES AMOUNT SHARES AMOUNT CAPITAL TREASURY DEFICIT DEFICIENCY)
--------- ------- ---------- ------- ----------- ----------- ------------ -------------
<S> <C> <C> <C> <C> <C> <C> <C> <C>
Balance at June 30,
1995.................... -- $ -- 25,800,000 $38,700 $ 3,852,071 $ -- $ (687,193) $ 3,203,578
Issuance of common stock
for services.......... -- -- 350,000 525 62,475 -- -- 63,000
Issuance of common stock
for oil and gas
properties (Note 2)... -- -- 470,000 705 83,895 -- -- 84,600
Issuance of common stock
for cash.............. -- -- 400,000 600 999,400 -- -- 1,000,000
Net loss................ -- -- -- -- -- -- (1,188,533) (1,188,533)
--------- ------- ---------- ------- ----------- ----------- ------------ ------------
Balance at June 30,
1996.................... -- $ -- 27,020,000 $40,530 $ 4,997,841 $ -- $ (1,875,726) $ 3,162,645
Issuance of common stock
for services.......... -- -- 116,052 171 20,709 -- -- 20,880
Issuance of common stock
for oil and gas
properties (Note 2)... -- -- 1,529,500 2,294 638,852 -- -- 641,146
Issuance of common stock
for cash (Note 5)..... -- -- 1,760,000 2,640 4,056,360 -- -- 4,059,000
Issuance of convertible
preferred stock and
warrants to purchase
common stock for cash
(Note 5).............. 9,600,000 96,000 -- -- 4,904,000 -- -- 5,000,000
Repurchase of common
stock (Note 5)........ -- -- (9,600,000) -- (142,918) (5,000,000) -- (5,142,918)
Net loss................ -- -- -- -- -- -- (1,309,203) (1,309,203)
--------- ------- ---------- ------- ----------- ----------- ------------ ------------
Balance at June 30,
1997.................... 9,600,000 96,000 20,825,552 45,635 14,474,844 (5,000,000) (3,184,929) 6,431,550
Issuance of common stock
for services.......... -- -- 150,000 225 299,775 -- -- 300,000
Issuance of common stock
for oil and gas
properties (Note 2)... -- -- 1,337,500 2,006 4,810,494 -- -- 4,812,500
Issuance of common stock
for cash (Note 5)..... -- -- 2,010,715 3,016 4,882,797 -- -- 4,885,813
Issuance of convertible
preferred stock and
warrants to purchase
common stock for cash
(Note 5).............. 10,400 104 -- -- 9,543,591 -- -- 9,543,695
Net loss................ -- -- -- -- -- -- (32,754,253) (32,754,253)
--------- ------- ---------- ------- ----------- ----------- ------------ ------------
Balance at June 30,
1998.................... 9,610,400 $96,104 24,323,767 $50,882 $34,011,501 $(5,000,000) $(35,939,182) $ (6,780,695)
========= ======= ========== ======= =========== =========== ============ ============
</TABLE>
See accompanying notes.
F-6
<PAGE> 132
QUEEN SAND RESOURCES, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
<TABLE>
<CAPTION>
YEAR ENDED JUNE 30
-----------------------------------------
1998 1997 1996
------------- ----------- -----------
<S> <C> <C> <C>
OPERATING ACTIVITIES
Net loss............................................ $ (32,754,253) $(1,309,203) $(1,188,533)
Adjustments to reconcile net loss to net cash
provided by (used in) operating activities:
Extraordinary item................................ -- 171,381 --
Depreciation, depletion, and amortization......... 4,809,322 982,000 630,000
Writedown of oil and gas properties............... 28,166,000 -- (62,528)
Foreign currency translation gains................ (18,166) (300,271) 63,000
Issuance of common stock for services............. 300,000 20,880 --
Accretion of debt discount........................ -- 72,032 --
Changes in operating assets and liabilities:
Accounts receivable............................ (4,579,893) (316,664) (257,666)
Other assets................................... (45,228) (6,236) 7,951
Accounts payable and accrued liabilities....... 5,162,747 948,951 187,897
------------- ----------- -----------
Net cash provided by operating
activities.............................. 1,040,529 262,870 (619,879)
INVESTING ACTIVITIES
Additions to oil and gas properties................. (154,241,990) (4,179,956) (5,414,711)
Additions to other property and equipment........... (99,868) (125,107) --
Additions to other assets........................... -- -- (87,749)
------------- ----------- -----------
Net cash used in investing activities..... (154,341,858) (4,305,063) (5,502,460)
FINANCING ACTIVITIES
Proceeds from revolving credit facilities........... 103,000,000 275,982 4,582,011
Proceeds from bridge financing facilities........... 60,000,000 -- --
Repayments of borrowing from bridge financing
facilities........................................ (1,140,000) -- --
Debt issuance costs................................. (4,897,952) -- --
Payments on revolving credit facilities............. (15,357,993) -- (262,610)
Proceeds from private debt offerings................ 121,091 526,072 1,935,388
Payments on notes payable........................... (2,063,876) (1,407,923) (600,000)
Collection of stock subscription.................... -- 500,000 --
Proceeds from sale of convertible preferred stock
and warrants to purchase common stock............. 9,543,695 5,000,000 --
Proceeds from the sales of common stock............. 4,885,813 4,059,000 1,024,000
Repurchase of common stock.......................... -- (5,142,918) --
Payments on capital lease obligation................ (69,725) (57,946) (56,276)
------------- ----------- -----------
Net cash provided by financing
activities.............................. 154,021,053 3,752,267 6,622,513
Net increase (decrease) in cash..................... 719,724 (289,926) 500,174
Cash at beginning of year........................... 309,695 599,621 99,447
------------- ----------- -----------
Cash at end of year................................. $ 1,029,419 $ 309,695 $ 599,621
============= =========== ===========
Supplemental cash flow information:
Interest paid in cash............................. $ 3,946,340 $ 765,181 $ 168,870
============= =========== ===========
</TABLE>
See accompanying notes.
F-7
<PAGE> 133
QUEEN SAND RESOURCES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
JUNE 30, 1998
1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
GENERAL
Queen Sand Resources, Inc. (QSRI or the Company) was formed on August 9,
1994, under the laws of the State of Delaware. At June 30, 1998, EIBOC
Investments Ltd. (EIBOC) held approximately 6,600,000 shares of the Company's
common stock, par value $.0015 (Common Stock), representing approximately 13.9%
of the Company's outstanding shares of common stock on a fully diluted basis.
Certain officers of the Company have beneficial interests in EIBOC (see Note 5).
Joint Energy Development Investments Limited Partnership (JEDI), an affiliate of
Enron Corp. (Enron), holds approximately 33% of the Company's voting capital
stock on a fully diluted basis.
The Company is engaged in one industry segment, the acquisition,
exploration, development, production, and sale of crude oil and gas. The
Company's business activities are carried out primarily in Texas, New Mexico,
Mississippi, Louisiana, and Kentucky.
PRINCIPLES OF CONSOLIDATION
The accompanying consolidated financial statements include the accounts of
the Company and its wholly owned subsidiaries. All significant intercompany
balances and transactions have been eliminated in consolidation.
PROPERTY AND EQUIPMENT
The Company follows the full cost method of accounting for its oil and gas
activities under which all costs, including direct general and administrative
expenses associated with property acquisition, exploration, and development
activities, are capitalized. Capitalized general and administrative expenses
directly associated with acquisitions, exploration, and development of oil and
gas properties were $721,160, $316,070 and $231,750 for the years ended June 30,
1998, 1997 and 1996 respectively. Capitalized costs are depleted by the
unit-of-production method using estimates of proved oil and gas reserves
prepared by independent engineers. The costs of unproved properties are excluded
from depletion until the properties are evaluated. Sales of oil and gas
properties are accounted for as adjustments to the capitalized cost center
unless such sales significantly alter the relationship between capitalized costs
and proved reserves of oil and gas attributable to the cost center, in which
case a gain or loss is recognized.
The Company limits the capitalized costs of oil and gas properties, net of
accumulated depreciation, depletion, and amortization, to the estimated future
net revenues from proved oil and gas reserves less estimated future development
and production expenditures discounted at 10%, plus the lower of cost or
estimated fair value of unproved properties, as adjusted for related estimated
future tax effects. If capitalized costs exceed this limit (the full cost
ceiling), the excess is charged to depreciation, depletion, and amortization
expense. During the year ended June 30, 1998, the Company recorded a full cost
ceiling writedown of $28,166,000.
Depreciation, depletion, and amortization expense and limits to capitalized
costs are based on estimates of oil and gas reserves which are inherently
imprecise. Accordingly, it is reasonably possible that such estimates could
differ materially in the near term from amounts currently estimated.
Depreciation and amortization of other property and equipment is provided
principally by the straight-line method over the estimated service lives of the
related assets. Equipment under capital lease is recorded at the lower of fair
value or the present value of future minimum lease payments and are depreciated
over the lease term.
Costs incurred to operate, repair, and maintain wells and equipment are
expensed as incurred.
F-8
<PAGE> 134
QUEEN SAND RESOURCES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
The Company's oil and gas activities are conducted jointly with others and,
accordingly, the financial statements reflect only the Company's proportionate
interest in such activities.
The Company does not expect future costs for site restoration,
dismantlement and abandonment, postclosure and other exit costs which may occur
in the sale, disposal, or abandonment of a property to be material.
REVENUE RECOGNITION
The Company uses the sales method of accounting for oil and gas revenues.
Under the sales method, revenues are recognized based on actual volumes of oil
and gas sold to purchasers.
ENVIRONMENTAL MATTERS
The Company is subject to extensive federal, state, and local environmental
laws and regulations. These laws, which are constantly changing, regulate the
discharge of materials into the environment and may require the Company to
remove or mitigate the environmental effects of the disposal or release of
petroleum or chemical substances at various sites. Environmental expenditures
are expensed or capitalized depending on their future economic benefit.
Expenditures that relate to an existing condition caused by past operations and
that have no future economic benefits are expensed. Liabilities for expenditures
of a noncapital nature are recorded when environmental assessment and/or
remediation is probable, and the costs can be reasonably estimated.
INCOME TAXES
Income taxes are accounted for under the asset and liability method.
Deferred tax assets and liabilities are recognized for the future tax
consequences attributable to differences between the financial statement
carrying amounts of existing assets and liabilities and their respective tax
bases and operating loss and tax credit carryforwards. Deferred tax assets and
liabilities are measured using enacted tax rates. The effect on deferred tax
assets and liabilities of a change in tax rates is recognized in income in the
period that includes the enactment date. The measurement of deferred tax assets
is adjusted by a valuation allowance, if necessary, to recognize the extent to
which based on available evidence, the future tax benefits more likely than not
will be realized.
STATEMENT OF CASH FLOWS
The Company considers all highly liquid investments purchased with an
original maturity of three months or less to be cash equivalents.
In 1998, in connection with certain promotional services rendered by an
unrelated party, the Company issued 150,000 shares of Common Stock valued at
$300,000. Additionally, the Company issued an aggregate of 1,337,500 shares of
Common Stock valued at $4,813,000 in connection with the acquisitions of certain
interests in oil and gas properties during 1998 (see Note 2).
During 1997, in connection with the acquisitions of interests in oil and
gas properties, the Company issued an aggregate of 1,529,500 shares of Common
Stock valued at $641,146 and issued notes payable to the sellers which were
recorded at $2,473,000 net of issuance discount of $354,000 (see Notes 2 and 3).
In 1996, in connection with certain promotional services rendered by an
unrelated party, the Company issued 350,000 shares of Common Stock valued at
$63,000.
In 1996, in connection with the acquisition of certain interests in oil and
gas properties, the Company issued notes payable to the seller for $750,000 and
issued 470,000 shares of Common Stock valued at $84,600. See Notes 2 and 3.
F-9
<PAGE> 135
QUEEN SAND RESOURCES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
In 1996, in connection with the sale of 400,000 shares of Common Stock for
$1,000,000, the Company recorded accounts receivable from stockholders in the
amount of $500,000. The receivables were collected in September 1996.
NET LOSS PER COMMON SHARE
In 1997, the Financial Accounting Standards Board issued Statement of
Financial Accounting Standards No. 128, Earnings per Share. Statement 128
replaced the previously reported primary and fully diluted earnings per share
with basic and diluted earnings per share. Unlike primary earnings per share,
basic earnings per share excludes any dilutive effects of options, warrants, and
convertible securities. Diluted earnings per share is very similar to the
previously reported fully diluted earnings per share. All earnings per share
amounts for all periods presented have been, where necessary, restated to
conform to the Statement 128 requirements. As the Company incurred net losses
during each of the years ended June 30, 1998, 1997, and 1996 the loss per common
share data is based on the weighted average common shares outstanding.
STOCK OPTIONS
The Company has elected to follow Accounting Principles Board Opinion No.
25, Accounting for Stock Issued to Employees (APB 25) in accounting for its
employee stock options. Under APB 25, if the exercise price of an employee's
stock options equals or exceeds the market price of the underlying stock on the
date of grant and certain other plan conditions are met, no compensation expense
is recognized.
CONCENTRATIONS OF CREDIT RISK
For the year ended June 30, 1998, two oil and gas companies accounted for
17% and 13%, respectively, of the Company's oil and gas sales. For the year
ended June 30, 1997, five oil and gas companies accounted for 32%, 14%, 17%,
10%, and 9%, respectively, of the Company's oil and gas sales. During the year
ended June 30, 1996, five oil and gas companies accounted for 15%, 15%, 17%,
21%, and 24%, respectively, of the Company's oil and gas sales. The Company does
not believe that the loss of any of these buyers would have a material effect on
the Company's business or results of operations as it believes it could readily
locate other buyers. The Company's receivables are generally unsecured.
FOREIGN CURRENCY
Foreign currency transactions are translated into U.S. dollars at the rate
of exchange on the date of the transaction. Amounts payable and receivable in
foreign currency are translated at the exchange rate at the balance sheet date.
Translation gains of $18,166, $300,271, and $62,528 were recognized during the
years ended June 30, 1998, 1997 and 1996 respectively, and are included in
interest and other income in the accompanying consolidated statements of
operations.
USE OF ESTIMATES
The preparation of financial statements in conformity with generally
accepted accounting principles requires management to make estimates and
assumptions that affect the reported amounts of assets and liabilities and
disclosure of contingent assets and liabilities at the date of the financial
statements, and the reported amounts of revenue and expenses during the
reporting period. Because of the use of estimates inherent in the financial
reporting process, actual results could differ from those estimates.
DERIVATIVES
The Company utilizes certain derivative financial instruments to hedge
future oil and gas prices and interest rate risk (see Note 4). Gains and losses
arising from the use of the instruments are deferred until
F-10
<PAGE> 136
QUEEN SAND RESOURCES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
realized. Gains and losses from hedges of oil and gas prices are reported as oil
and gas sales. Gains and losses from interest rate hedges are reported in
interest expense.
In June 1998, the Financial Accounting Standards Board issued Statement of
Financial Accounting Standards No. 133, Accounting for Derivative Instruments
and Hedging Activities, which is required to be adopted in years beginning after
June 15, 1999. The Statement permits early adoption as of the beginning of any
fiscal quarter after its issuance. The Company expects to adopt the new
Statement effective July 1, 1999. The Statement will require the Company to
recognize all derivatives on the balance sheet at fair value. Derivatives that
are not hedges must be adjusted to fair value through income. If the derivative
is a hedge, depending on the nature of the hedge, changes in the fair value of
derivatives will either be offset against the change in fair value of the hedged
assets, liabilities, or firm commitments through earnings or recognized in other
comprehensive income until the hedged item is recognized in earnings. The
ineffective portion of a derivative's change in fair value will be immediately
recognized in earnings.
The Company has not yet determined what the effect of Statement 133 will be
on the earnings and financial position of the Company.
2. ACQUISITIONS
The consolidated financial statements include the results of operations of
the acquired interests in oil and gas properties from their respective
acquisition dates.
In April 1996, the Company purchased interests in oil and gas properties
located in East Texas (the East Texas Properties) for $4,250,000 in cash,
$750,000 in notes payable to the seller and 470,000 shares of Common Stock
valued at $84,600.
The following unaudited pro forma summary of the Company's consolidated
results of operations for the year ended June 30, 1996, was prepared as if the
acquisition of the East Texas Properties had occurred on July 1, 1995. The
unaudited pro forma data is based on numerous assumptions and is not necessarily
indicative of future operations or of results which would actually have occurred
if the acquisitions had been made on July 1, 1995.
<TABLE>
<CAPTION>
1996
-----------
<S> <C>
Revenues.................................................... $ 3,288,420
===========
Net loss.................................................... $(1,194,848)
===========
Loss per common share....................................... $ (.05)
===========
</TABLE>
On November 6, 1996, the Company acquired eight gross productive wells
(three net productive wells), all located in various counties in Texas (the
Frymire Purchase). In consideration for these properties the Company paid
approximately $650,000 in cash, issued notes for $427,000, and issued 100,000
shares of Common Stock valued at $18,000.
On December 16, 1996, the Company acquired 15 gross productive wells (15
net productive wells), all located in New Mexico (the Trigg Federal Purchase).
In consideration, the Company paid $100,000 in cash and issued 92,000 shares of
Common Stock valued at $16,560.
On February 5, 1997, the Company acquired 60 gross productive wells (48.4
net productive wells) and two developmental properties located in Mississippi,
Louisiana, and Texas (the Core Properties). The adjusted purchase price
consisted of cash of approximately $1,700,000, four notes payable totaling
$2,400,000, and 659,000 shares of Common Stock valued at $329,500. On March 13,
1997, the Company acquired one gross productive well (0.3375 net productive
well) located in Louisiana (the Intercoastal Property). The purchase price
consisted of cash of $562,500 and 578,500 shares of Common Stock valued at
$289,250. The
F-11
<PAGE> 137
QUEEN SAND RESOURCES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
cash portion of these acquisitions was funded through sales of 1,060,000 shares
of Common Stock pursuant to Regulation S, resulting in net proceeds to the
Company of $2,385,000 (the Equity Private Placements).
The following unaudited pro forma summary of the Company's consolidated
results of operations for the years ended June 30, 1997 and 1996, was prepared
as if the acquisitions of the Core Properties, the Intercoastal Property, and
the Equity Private Placements had occurred on July 1, 1995. The historical
results of the Frymire Purchase and the Trigg Federal Purchase were not
significant. The unaudited pro forma data is based on numerous assumptions and
is not necessarily indicative of future operations or of results which would
actually have occurred if the acquisitions and the Equity Private Placements had
been made on July 1, 1995.
<TABLE>
<CAPTION>
1997 1996
---------- ----------
<S> <C> <C>
Revenues.................................................... $6,318,362 $4,318,405
========== ==========
Net loss.................................................... $ (505,846) $ (822,537)
========== ==========
Loss per common share....................................... $ (.02) $ (.03)
========== ==========
</TABLE>
<TABLE>
<CAPTION>
1998
----------
<S> <C>
Oil and gas sales........................................... $6,218,660
Production expenses......................................... 1,786,650
----------
Net profits and royalty interest revenues......... $4,432,010
==========
</TABLE>
The following unaudited pro forma summary of the Company's consolidated
results of operations for the year ended June 30, 1998 was prepared as if the
acquisitions of the Collins and Ware Properties, the NASGAS Properties and the
Morgan Properties, including related borrowings, had occurred on July 1, 1997.
The unaudited pro forma data is based on numerous assumptions and is not
necessarily indicative of future operations or of results which would have
actually occurred if the acquisitions and related borrowings had been made on
July 1, 1997.
<TABLE>
<CAPTION>
1997 1998
----------- ------------
<S> <C> <C>
Revenues.................................................. $42,052,000 $ 34,635,000
=========== ============
Net income (loss)......................................... $ 2,316,000 $(31,528,000)
=========== ============
Income (loss) per common share:
Basic................................................... $ .08 $ (1.38)
=========== ============
Diluted................................................. $ .08 N/A
===========
</TABLE>
F-12
<PAGE> 138
QUEEN SAND RESOURCES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
3. CURRENT AND LONG-TERM DEBT
A summary of current and long-term debt follows:
<TABLE>
<CAPTION>
JUNE 30
-------------------------
1998 1997
------------ ----------
<S> <C> <C>
Prime plus 1.5% Revolving Credit Note...................... $ -- $4,857,993
12% unsecured DEM bonds, due July 2000..................... 2,196,200 2,093,275
9% Acquisition Notes....................................... -- 2,063,876
Bank of Montreal Revolving Credit Agreement................ 92,500,000 --
ECT Revolving Credit Facility.............................. -- --
Variable Rate Senior Third Secured Equity Bridge Note
Purchase Agreement....................................... 28,860,000 --
Variable Rate Senior Second Secured Note Purchase
Agreement................................................ 30,000,000 --
Capital lease obligations.................................. 147,909 217,634
------------ ----------
153,704,109 9,232,778
Less current portion of debt and capitalized lease
obligation............................................... 84,862 2,080,897
------------ ----------
Total long-term obligations...................... $153,619,247 $7,151,881
============ ==========
</TABLE>
On December 1, 1995, the Company entered into a revolving credit note
agreement with Comerica Bank to provide a revolving line of credit up to
$10,000,000, secured by substantially all of the Company's interests in oil and
gas properties. Effective August 1, 1997, the Company terminated this credit
agreement and entered into a new credit agreement with Bank of Montreal. This
agreement provided for an initial borrowing base of $17,000,000 to be
redetermined from time to time by Bank of Montreal based on engineering reports
of oil and gas reserves. The Company was required to pay a commitment fee
annually of .35% of the unused portion of the borrowing base.
On April 17, 1998, the Company entered into an amended and restated credit
agreement with Bank of Montreal and certain affiliates of JEDI. The amended and
restated agreement (the Credit Agreement) provides for borrowings up to
$125,000,000 (subject to borrowing base limitations). As of June 30, 1998,
$92,500,000 was outstanding under the Credit Agreement. The loan under the
Credit Agreement matures on April 17, 2003.
Indebtedness incurred under the Credit Agreement generally bears interest
under various interest rate pricing options based upon a Federal Funds rate
(plus .5%), Prime Rate or LIBOR rate options. LIBOR rate loans bear an
applicable margin over the LIBOR rate of (i) 2.25%, if greater than 90% of the
available Borrowing Base has been drawn, (ii) 2%, if greater than 75% and not
more than 90% of the available Borrowing Base has been drawn, (iii) 1.5%, if
greater than 40% but not more than 75% of the available Borrowing Base has been
drawn, and (iv) 1%, if not more than 40% of the available Borrowing Base has
been drawn. The interest rate at June 30, 1998 was 8.50%. There is no margin
applicable for base rate pricing options.
The loan under the Credit Agreement is secured by a first lien on the oil
and gas properties of the Company. Pursuant to the Credit Agreement, the Company
is subject to certain affirmative and negative financial and operating covenants
that are usual and customary for transactions of this nature. On September 30,
1997 and December 31, 1997, the Company was not in compliance with its interest
coverage ratio covenant. Bank of Montreal waived these covenant violations
solely with respect to these specific defaults. The Company believes, but cannot
assure, that it will be able to comply with all restrictive covenants in the
future or obtain waivers from the bank with respect to noncompliance.
F-13
<PAGE> 139
QUEEN SAND RESOURCES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
Also in April 1998, in connection with the acquisition of the Morgan
Properties, the company entered into a Variable Rate Senior Second Secured Note
Purchase Agreement (the Debt Bridge Facility) in the amount of $30,000,000 and a
Variable Rate Senior Third Secured Equity Bridge Note Purchase Agreement (the
Equity Bridge Facility and collectively the Bridge Facilities), also in the
amount of $30,000,000, with Bank of Montreal, Enron, and an affiliate of Enron.
As of June 30, 1998, an aggregate of $58,860,000 was outstanding under the
Bridge Facilities.
The Debt Bridge Facility bears interest at a rate of LIBOR plus 4% per
annum (10% at June 30, 1998). The Equity Bridge Facility bears interest at a
rate of LIBOR plus 6% per annum (12% at June 30, 1998).
Subsequent to June 30, 1998, the Bridge Facilities were retired and
approximately $82,200,000 of borrowings under the Credit Agreement were repaid
(see Note 11), and the borrowing base of the Credit Agreement was revised to
$25,000,000.
Effective December 29, 1997, the Company established the ECT Revolving
Credit Agreement with ECT, an affiliate of Enron, to fund on a revolving basis
capital costs incurred with future development projects and to fund future
acquisitions. The ECT Revolving Credit Agreement is subordinate to the Credit
Agreement. The ECT Revolving Credit Agreement provides for borrowing up to $10.0
million, on a revolving basis and subject to borrowing base limitations, which
has initially been set at an amount equal to 40% of the borrowing base
established from time to time under the Credit Agreement. This facility is
designed to provide bridge financing for development projects and acquisitions
to be completed on relatively short notice or until the affected assets are
eligible to be included in the borrowing base for the Credit Agreement or
financed with longer-term indebtedness or equal capital; provided, that the
availability for acquisitions under the facility is limited to the lesser of
$5.0 million or 50% of the borrowing base as in effect from time to time. There
is no indebtedness outstanding under this facility as of June 30, 1998.
Borrowings in excess of certain amounts under the ECT Revolving Credit Agreement
will reduce the available borrowing base under the Credit Agreement. The loan is
secured by a second priority lien and security interest (behind the first lien
position of the Credit Agreement) in approximately 95% of the oil and gas
properties of the Company.
The ECT Revolving Credit Agreement is subject to payment of interest at a
fluctuating rate per annum equal to (i) the rate of 1% above the then highest
rate of interest being paid on any portion of the indebtedness owed under the
Credit Agreement or (ii) 15%, under certain circumstances described in the
agreement.
The maturity date for the ECT Revolving Credit Agreement is the earlier of
December 30, 2002 or the date that is 60 days after the Company receives written
notice that Enron and its affiliates beneficially own in the aggregate less than
10% of the capital stock of the Company entitled to vote in the election of
directors. From March 31, 1998 through the maturity date, the Company will pay
interest on the outstanding loans at quarterly intervals, on the last business
day of every March, June, September, and December. In addition, the ECT
Revolving Credit Agreement provides for certain voluntary prepayments and
certain mandatory prepayments of amounts borrowed under the facility.
The ECT Revolving Credit Agreement also provides that, commencing January
1999, during certain periods any indebtedness of the Company under the agreement
may be exchanged for shares of the Company's common stock. The exchange ratio is
based on a formula that is a function of the market price of the common stock at
the time of exchange.
The Company is subject to various covenants under the ECT Revolving Credit
Agreement, which covenants are substantially similar to the covenants described
above with respect to the Credit Agreement. In addition to the covenants, the
ECT Revolving Credit Agreement contains representations, warranties, covenants,
and default provisions customary for a facility of this type.
The company paid ECT a fee of $200,000 in connection with the arrangement
of the ECT Revolving Credit Agreement. In addition, commencing March 31, 1998,
and on each payment date thereafter,
F-14
<PAGE> 140
QUEEN SAND RESOURCES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
the Company is obligated to pay ECT, for the account of each lender under the
ECT Revolving Credit Agreement, a fee of 3/8% per annum on the daily average of
the unadvanced portion of the facility for the period since January 12, 1998 or
the previous payment date to such payment date, except that payment of this fee
was waived for the period from April 12, 1998 until the date on which the Bridge
Facilities are fully repaid.
Beginning July 1995, the Company initiated private debt offerings whereby
it may issue up to a maximum of 5,000,000 Deutschmark (DEM) denominated 12%
notes due on July 15, 2000, of which DEM 3,950,000 was outstanding at June 30,
1998. The notes may be redeemed at the option of the Company, in whole or in
part, at any time prior to maturity date on or after December 15, 1997, at 101%
of the principal amount, plus accrued interest to the redemption date. The notes
are unsecured, general obligations of the Company, subordinated in right of
payment to any senior and secured indebtedness of the Company including all
other existing indebtedness. The note agreement contains covenants which place
limitations on dividends and liens. Subsequent to June 30, 1998, the Company
redeemed notes totaling DEM 2,350,000 for approximately $1,300,000.
In February 1997, in connection with the acquisition of the Core Properties
(Note 2), the Company issued four notes totaling $2,400,000 (the Acquisition
Notes) secured by a first lien on the Core Properties. Two of these notes,
totaling $400,000, bore no interest and were retired prior to June 30, 1997. The
remaining two notes, totaling $2,000,000, were originally payable no later than
February 4, 2000, and bore no interest for the first two years and 9% for the
final year, payable in Common Stock of the Company. The terms of the remaining
two notes were renegotiated, with the seller surrendering the first lien on the
Core Properties in exchange for a note requiring a payment of $2,000,000 on
January 31, 1998. As a result of the modification of the debt terms, in 1997 the
Company recognized an extraordinary loss on modification of $171,381, the
difference between the carrying value of the original notes (including accreted
discount totaling $72,032) and the present value of the new note. This note was
retired during 1998.
Although the Company believes that its cash flows and available sources of
financing will be sufficient to satisfy the interest payments on its debt at
currently prevailing interest rates and oil and gas prices, the Company's level
of debt may adversely affect the Company's ability: (i) to obtain additional
financing for working capital, capital expenditures or other purposes, should it
need to do so; or (ii) to acquire additional oil and gas properties or to make
acquisitions utilizing new borrowings. There can be no assurances that the
Company will be able to obtain additional financing, if required, or that such
financing, if obtained, will be on terms favorable to the Company.
4. HEDGING ACTIVITIES
The Company has entered into agreements with an affiliate of JEDI to hedge
50,000 MMBtu of natural gas production and 10,000 barrels of oil production
monthly. The agreements, effective September 1, 1997, and terminating August 31,
1998, call for a natural gas and oil ceiling and floor price of $2.66 and $1.90
per MMBtu and $20.40 and $18.00 per barrel, respectively. If the average market
price of oil and gas per month, as defined in the agreements, exceeds the
ceiling price, the Company must pay the counterparty an amount equal to one-half
the amount of the hedged quantities multiplied by the difference between the
ceiling price and the market price. If the average market price, as defined,
falls below the floor price, the counterparty will pay the Company an amount
equal to the amount of the hedged quantities multiplied by the difference in the
floor price and the market price. During the year ended June 30, 1998, the
Company recognized net hedging gains of approximately $120,000 relating to these
agreements, which are included in oil and gas sales.
The Company has implemented a comprehensive hedging strategy for its
natural gas production over the next five years. The table below sets out
volumes of natural gas hedged with a floor price of $1.90 per MMBtu
F-15
<PAGE> 141
QUEEN SAND RESOURCES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
with Enron, an affiliate of JEDI, which received a fee of $478,000 for entering
into this agreement. The volumes presented in this table are divided equally
over the months during the period:
<TABLE>
<CAPTION>
VOLUME
PERIOD BEGINNING PERIOD ENDING (MMBTU)
---------------- ------------- ---------
<S> <C> <C>
May 1, 1998........................................... December 31, 1998 885,000
January 1, 1999....................................... December 31, 1999 1,080,000
January 1, 2000....................................... December 31, 2000 880,000
January 1, 2001....................................... December 31, 2001 740,000
January 1, 2002....................................... December 31, 2002 640,000
January 1, 2003....................................... December 31, 2003 560,000
</TABLE>
The table below sets out volume of natural gas hedged with a swap at $2.40
per MMBtu with Enron. The volumes presented in this table are divided equally
over the months during the period:
<TABLE>
<CAPTION>
VOLUME
PERIOD BEGINNING PERIOD ENDING (MMBTU)
---------------- ------------- ---------
<S> <C> <C>
May 1, 1998........................................... December 31, 1998 2,210,000
January 1, 1999....................................... December 31, 1999 2,710,000
January 1, 2000....................................... December 31, 2000 2,200,000
January 1, 2001....................................... December 31, 2001 1,850,000
January 1, 2002....................................... December 31, 2002 1,600,000
January 1, 2003....................................... December 31, 2003 1,400,000
</TABLE>
Effective May 1, 1998 through December 31, 2003, the Company has a contract
involving the hedging of a portion of its future natural gas production
involving floor and ceiling prices as set out in the table below. The volumes
presented in this table are divided equally over the months during the period.
<TABLE>
<CAPTION>
VOLUME FLOOR CEILING
PERIOD BEGINNING PERIOD ENDING (MMBTU) PRICE PRICE
---------------- ------------- --------- ----- -------
<S> <C> <C> <C> <C>
May 1, 1998............................ December 31, 1998 3,540,000 $2.00 $2.70
January 1, 1999........................ December 31, 1999 4,330,000 2.00 2.70
January 1, 2000........................ December 31, 2000 3,520,000 2.00 2.70
January 1, 2001........................ April 30, 2001 990,000 2.00 2.70
May 1, 2001............................ December 31, 2001 1,980,000 2.00 2.80
January 1, 2002........................ April 30, 2002 850,000 2.00 2.80
May 1, 2002............................ December 31, 2002 1,700,000 2.00 2.90
January 1, 2003........................ December 31, 2003 2,250,000 2.00 2.90
</TABLE>
During the year ended June 30, 1998, the Company recognized hedging gains
of approximately $122,000 relating to these agreements, which are included in
oil and gas sales.
The Company has entered into a forward LIBOR interest rate swap effective
for the period June 30, 1998 through June 29, 2009 at a rate of 6.30% on $125.0
million, which may be unwound at any time at the option of the Company.
Subsequent to June 30, 1998, the Company terminated the agreement at a cost of
approximately $3,500,000 (see Note 11).
5. STOCKHOLDERS' EQUITY
GENERAL
On November 12, 1996, the Company entered into an agreement to sell 100,000
shares of common stock to an unrelated party for $2.50 per share.
F-16
<PAGE> 142
QUEEN SAND RESOURCES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
During 1997, the Company's Certificate of Incorporation was amended to (i)
authorize the issuance of 50,000,000 shares of preferred stock of the Company,
par value $.01 per share (the Preferred Stock), of which 9,600,000 shares have
been designated as Series A Preferred Stock, 9,600,000 shares have been
designated as Series B Preferred Stock, and (ii) increase the number of
authorized shares of Common stock from 40,000,000 shares to 100,000,000 shares.
During 1998, 10,400 shares of Preferred Stock were designated and issued as
Series C Preferred Stock.
Any authorized but unissued or unreserved Common Stock and undesignated
Preferred Stock is available for issuance at any time, on such terms and for
such purposes as the Board of Directors may deem advisable in the future without
further action by stockholders of the Company, except as may be required by law
or the Series A Certificate of Designation. The Board of Directors of the
Company has the authority to fix the rights, powers, designations, and
preferences of the undesignated Preferred Stock and to provide for one or more
series of undesignated Preferred Stock. The authority will include, but not be
limited to, determination of the number of shares to be included in the series;
dividend rates and rights; voting rights, if any; conversion privileges and
terms; redemption conditions; redemption values; sinking funds; and rights upon
involuntary or voluntary liquidation.
CAPITAL STOCK PURCHASE AGREEMENTS
In March 1997, the Company entered into a Securities Purchase Agreement
(the JEDI Purchase Agreement) with Joint Energy Development Investments Limited
Partnership (JEDI), an affiliate of Enron Finance Corp. (EFC), and a Securities
Purchase Agreement (the Forseti Purchase Agreement) with Forseti Investments
Ltd. (Forseti).
Pursuant to the JEDI Purchase Agreement, in May 1997, JEDI acquired
9,600,000 shares of Series A Participating Convertible Preferred Stock, par
value $0.01 per share, of the Company (the Series A Preferred Stock), certain
warrants to purchase Common Stock and nondilution rights as in regard to future
stock issuances. The aggregate consideration received by the Company consisted
of $5,000,000 ($0.521 per share).
The JEDI nondilution rights may result in JEDI receiving warrants, with a
one year term, in connection with certain future Company stock issuances prior
to December 31, 1998. The exercise price of any such warrants will be equal to
the price per share of the future issuances.
In connection with the issuance of the Series A Preferred Stock, the
Company granted JEDI certain maintenance rights and certain demand and piggyback
registration rights with respect to the shares of Common Stock issuable upon
conversion of the Series A Preferred Stock and the shares of Common Stock
issuable upon exercise of the warrants.
Pursuant to the terms of the Series A Preferred Stock, JEDI may designate a
number of directors to the Company's Board of Directors, such that the
percentage of the number of directors that JEDI may designate approximates the
percentage voting power JEDI has with respect to the Company's Common Stock. In
addition, upon certain events of default (as defined in the Series A Certificate
of Designation), JEDI will have the right to elect a majority of the directors
of the Company and an option to sell the Series A Preferred Stock to the
Company.
Pursuant to the Forseti Purchase Agreement, in May 1997, the Company
repurchased 9,600,000 shares of Common Stock owned by Forseti in exchange for
(i) $5,000,000 ($0.521 per share) cash, (ii) the issuance by the Company of
Class A Common Stock Purchase Warrants to purchase 1,000,000 shares of Common
Stock at an initial exercise price of $2.50 per share (the Class A Warrants) and
Class B Common Stock Purchase Warrants to purchase 2,000,000 shares of Common
Stock at an initial exercise price of $2.50 per share (the Class B Warrants, and
together with the Class A Warrants, the Forseti Warrants), and (iii) certain
contingent payments. Forseti had the option of either selling or exercising the
Forseti Warrants or receivingthe
F-17
<PAGE> 143
QUEEN SAND RESOURCES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
contingent payments. During the year ended June 30, 1998, Forseti elected to
sell the warrants to a third party and thus lost the rights to receive any
contingent payments.
The JEDI Purchase Agreement contains certain positive and negative
covenants. The Company was in compliance with all of the applicable covenants at
June 30, 1997 and 1998.
Pursuant to the JEDI Purchase Agreement, JEDI, EIBOC, and certain officers
of the Company (Management Stockholders) entered into a Stockholders Agreement
whereby JEDI, EIBOC, and the Management Stockholders agreed to certain
restrictions on the transfer of shares of Common Stock held by EIBOC and the
transfer of shares of Common Stock or securities convertible, exercisable, or
exchangeable for shares of Common Stock held by JEDI. The Stockholders Agreement
will terminate on the earlier of (i) the fifth anniversary of the date of the
Stockholders Agreement or (ii) the date on which JEDI and its affiliates
beneficially own in the aggregate less than 10% of the voting power of the
Company's capital stock.
SERIES A PREFERRED STOCK
The holders of shares of Series A Preferred Stock are generally entitled to
vote (on an as-converted basis) as a single class with the holders of the Common
Stock, together with all other classes and series of stock of the Company that
are entitled to vote as a single class with the Common Stock, on all matters
coming before the Company's stockholders.
For so long as at least 960,000 shares of Series A Preferred Stock are
outstanding, the following matters require the approval of the holders of shares
of Series A Preferred Stock, voting together as a separate class:
(i) the amendment of any provision of the Company's Certificate of
Incorporation or the bylaws;
(ii) the creation, authorization, or issuance of, or the increase in
the authorized amount of, any class or series of shares ranking on a parity
with or prior to the Series A Preferred Stock either as to dividends or
upon liquidation, dissolution, or winding up;
(iii) the merger or consolidation of the Company with or into any
other corporation or other entity or the sale of all or substantially all
of the Company's assets; or
(iv) the reorganization, recapitalization, or restructuring or similar
transaction that requires the approval of the stockholders of the Company.
The holders of shares of Series A Preferred Stock have the right, acting
separately as a class, to elect a number of members to the Company's Board of
Directors. The number shall be a number such that the quotient obtained by
dividing such number by the maximum authorized number of directors is as close
as possible to being equal to the percentage of the outstanding voting power of
the Company entitled to vote generally in the election of directors represented
by the outstanding shares of Series A Preferred Stock at the relevant time.
A holder of shares of Series A Preferred Stock has the right, at the
holder's option, to convert all or a portion of its shares into shares of Common
Stock at any time at an initial rate of one share of Series A Preferred Stock
for one share of Common Stock.
The Series A Certificate of Designation provides for customary adjustments
to the number of shares issuable upon conversion in the event of certain
dividends and distributions to holders of Common Stock, certain
reclassifications of the Common Stock, stock splits, and combinations and
mergers and similar transactions.
The holders of the shares of Series A Preferred Stock are entitled to
receive dividends (other than a dividend or distribution paid in shares of, or
warrants, rights, or options exercisable for or convertible into or exchangeable
for, Common Stock) when and if declared by the Board of Directors on the Common
Stock
F-18
<PAGE> 144
QUEEN SAND RESOURCES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
in an amount equal to the amount each such holder would have received if such
holder's shares of Series A Preferred Stock had been converted into Common
Stock. The holders of Series A Preferred Stock will also have the right to
certain dividends upon and during the continuance of an Event of Default.
Upon the liquidation, dissolution, or winding up of the Company, the
holders of the shares of Series A Preferred Stock, before any distribution to
the holders of Common Stock, are entitled to receive an amount per share equal
to $.521 plus all accrued and unpaid dividends thereon (Liquidation Preference).
The holders of the shares of Series A Preferred Stock will not be entitled to
participate further in the distribution of the assets of the Company.
The Series A Certificate of Designation provides that an Event of Default
will be deemed to have occurred if the Company fails to comply with any of its
covenants in the JEDI Purchase Agreement, provided that the Company will have a
30-day cure period with respect to the non-compliance with certain covenants.
Upon the occurrence but only during the continuance of an Event of Default,
the holders of Series A Preferred Stock are entitled to receive, in addition to
other dividends payable to holders of Series A Preferred Stock, when and if
declared by the Board of Directors, cumulative preferential cash dividends
accruing from the date of the Event of Default in an amount per share per annum
equal to 6% of the Liquidation Preference in effect at the time of accrual of
such dividends, payable quarterly in arrears on or before the 15th day after the
last day of each calendar quarter during which such dividends are payable.
Unless full cumulative dividends accrued on shares of Series A Preferred Stock
have been or contemporaneously are declared and paid, no dividend may be
declared or paid or set aside for payment on the Common Stock or any other
junior securities (other than a dividend or distribution paid in shares of, or
warrants, rights, or options exercisable for or convertible into or exchangeable
for, Common Stock or any other junior securities), nor shall any Common Stock
nor any other junior securities be redeemed, purchased, or otherwise acquired
for any consideration, nor may any monies be paid to or made available for a
sinking fund for the redemption of any shares of any such securities.
Upon the occurrence and during the continuance of an Event of Default
resulting from the failure to comply with certain covenants, the holders of
shares of Series A Preferred Stock have the right, acting separately as a class,
to elect a number of persons to the Board of Directors of the Company that,
along with any members of the Board of Directors who are serving at the time of
such action, will constitute a majority of the Board of Directors.
Upon the occurrence of an Event of Default resulting from the failure to
comply with certain covenants, each holder of shares of Series A Preferred Stock
has the right, by written notice to the Company, to require the Company to
repurchase, out of funds legally available therefor, such holder's shares of
Series A Preferred Stock for an amount in cash equal to the Liquidation
Preference in effect at the time of the Event of Default.
Concurrently with the transfer of any shares of Series A Preferred Stock to
any person (other than a direct or indirect affiliate of JEDI or other entity
managed by Enron Corp. or any of its affiliates), the shares of Series A
Preferred Stock so transferred will automatically convert into a like number of
shares of Series B Preferred Stock.
SERIES B PREFERRED STOCK
The Series B Certificate of Designation authorizes the issuance of up to
9,600,000 shares of Series B Preferred Stock. The terms of the Series B
Preferred Stock are substantially similar to those of the Series A Preferred
Stock, except that the holders of Series B Preferred Stock will not (i) have
class voting rights except as required under Delaware corporate law, (ii) be
entitled to any remedies upon an event of default, or (iii) be entitled to elect
any directors of the Company, voting separately as a class.
F-19
<PAGE> 145
QUEEN SAND RESOURCES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
SERIES C PREFERRED STOCK
The holders of shares of Series C Preferred Stock are not entitled to vote
with the holders of the Common Stock except as required by law or as set forth
below. For so long as any shares of Series C Preferred Stock are outstanding,
the following matters will require the approval of the holders of at least
two-thirds of the then outstanding shares of Series C Preferred Stock, voting
together as a separate class:
(i) alter or change the rights, preferences or privileges of the
Series C Preferred Stock or any other capital stock of the Company so as to
affect adversely the Series C Preferred Stock;
(ii) create any new class or series of capital stock having a
preference over or ranking pari passu with the Series C Preferred Stock as
to redemption, the payment of dividends or distribution of assets upon a
Liquidation Event (as defined in the Series C Certificate of Designation)
or any other liquidation, dissolution or winding up of the Company;
(iii) increase the authorized number of shares of Preferred Stock of
the Company;
(iv) re-issue any shares of Series C Preferred Stock which have been
converted in accordance with the terms hereof;
(v) issue any Senior Securities (other than the Company's Series B
Preferred Stock pursuant to the terms of the Company's Series A Preferred
Stock) or Pari Passu Securities (each, as defined in the Series C
Certificate of Designation); or
(vi) declare, pay or make any provision for any dividend or
distribution with respect to the Common Stock or any other capital stock of
the Company ranking junior to the Series C Preferred Stock as to dividends
or as to the distribution of assets upon liquidation, dissolution or
winding up of the Company.
The holders of at least two-thirds ( 2/3) of the then outstanding shares of
Series C Preferred Stock can agree to allow the Company to alter or change the
rights, preferences or privileges of the shares of Series C Preferred Stock.
Holders of the Series C Preferred Stock that did not agree to such alteration or
change shall have the right for a period of thirty (30) days following such
change to convert their Series C Preferred Stock to Common Stock.
A holder of shares of Series C Preferred Stock has the right, at the
holder's option, to convert all or a portion of its shares into shares of Common
Stock at any time. The number of shares of Common Stock into which a share of
Series C Preferred Stock may be converted will be determined as of the
conversion date according to a formula set forth in the Series C Certificate of
Designation. Generally, the conversion rate is equal to the aggregate stated
value of the shares to be converted divided by a floating conversion price that
may not exceed $7.35 per share. On December 24, 2001, all shares of Series C
Preferred Stock that are then outstanding shall be automatically converted into
shares of Common Stock.
The Series C Certificate of Designation provides for customary adjustments
to the number of shares issuable upon conversion in the event of certain
dividends and distributions to holders of Common Stock, certain
reclassifications of the Common Stock, stock splits, combinations and mergers,
and similar transactions and certain changes of control.
The holders of the shares of Series C Preferred Stock are entitled to
receive dividends, when and if declared by the Board of Directors, subject to
the prior payment of any accumulated and unpaid dividends to holders of Senior
Securities, but before payment of dividends to holders of Junior Securities (as
defined in the Series C Certificate of Designation), cumulative dividends on
each share of Series C Preferred Stock in an amount equal to the stated value of
such share multiplied by 5%.
Upon the liquidation, dissolution or winding up of the Company, the holders
of the shares of Series C Preferred Stock, before any distribution to the
holders of Junior Securities, and after payments to holders
F-20
<PAGE> 146
QUEEN SAND RESOURCES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
of Senior Securities, will be entitled to receive an amount equal to the stated
value of the Series C Preferred Stock (subject to ratable adjustment in the
event of reclassification of the Series C Preferred Stock or other similar
event) plus any accrued and unpaid dividends thereon.
The Company has the right to redeem all of the outstanding Series C
Preferred Stock under certain conditions. Holders of Series C Preferred Stock
have the right to tender shares for redemption upon the occurrence of certain
events, which are in the control of management.
WARRANTS
As of June 30, 1998, JEDI held warrants to purchase an aggregate of
1,009,001 shares of Common Stock at prices ranging from $2.00 to $5.00. The
warrants held by JEDI expire at various times from July 27, 1998 through March
9, 1999. In addition, certain institutional investors hold warrants to purchase
an aggregate of 2,840,138 shares of Common Stock at prices ranging from $2.50 to
a floating rate based on market price at the time of exercise. The warrants held
by the institutional investors expire at various times from December 31, 1998
through December 24, 2001. Subsequent to June 30, 1998, JEDI exercised an
aggregate of 1,602,236 warrants and 1,400,000 warrants were exercised by the
institutional investors (see Note 11).
The Company has also issued certain contingent floating conversion rate
warrants in connection with the Bridge Facilities arranged to fund the Morgan
Property Acquisition, which terminated upon the repayment of the Bridge
facilities subsequent to June 30, 1998 (see Note 11).
STOCK OPTIONS
In November 1997, the Company granted to certain officers and employees
173,000 options to purchase Common Stock of the Company (Stock Options), all of
which remain outstanding at June 30, 1998. The Stock Options, granted with an
exercise price of $5.25 per share, expire in November of 2007 and vest 50% on
the first anniversary of the grant date, 25% on the second anniversary and 25%
on the third anniversary.
Statement of Financial Accounting Standards No. 123, Accounting for Stock
Based Compensation, (SFAS 123) requires the disclosure of pro forma net income
and earnings per share information computed as if the Company had accounted for
its employee stock options under the fair value method set forth in SFAS 123.
The fair value for these options was estimated at the date of grant using a
Black-Scholes option pricing model with the following weighted-average
assumptions, respectively: a risk-free interest rate of 5.88%, a dividend yield
of 0%, and a volatility factor of .51. In addition, the fair value of these
options was estimated based on an expected weighted average life of 7.5 years.
The weighted average fair the options as of the grant date using the
Black-Scholes option valuation model was $3.22.
The Black-Scholes option valuation model was developed for use in
estimating the fair value of traded options which have no vesting restrictions
and are fully transferable. In addition, option valuation models require the
input of highly subjective assumptions including the expected stock price
volatility. Because the Company's employee stock options have characteristics
significantly different from those of traded options, and because changes in the
subjective input assumptions can materially affect the fair value estimate, in
management's opinion, the existing models do not necessarily provide a reliable
single measure of the fair value of its employee stock options. In addition,
because SFAS 123 is applicable only to options granted subsequent to December
31, 1994, the pro forma information does not reflect the pro forma effect of all
previous stock option grants of the Company, and thus the pro forma information
is not necessarily indicative of future amounts until SFAS 123 is applied to all
outstanding stock options.
F-21
<PAGE> 147
QUEEN SAND RESOURCES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
For purposes of pro forma disclosures, the estimated fair value of the
options is amortized to expense over the options' vesting period. The Company's
pro forma information follows (in thousands except for earnings per share
information)
<TABLE>
<S> <C>
Pro forma net loss.......................................... $(32,928,000)
============
Loss per common share....................................... $ (1.45)
============
</TABLE>
6. FAIR VALUE OF FINANCIAL INSTRUMENTS
The Company defines the fair value of a financial instrument as the amount
at which the instrument could be exchanged in a current transaction between
willing parties. The carrying value of accounts receivable, accounts payable,
and accrued liabilities approximates fair value because of the short maturity of
those instruments. The estimated fair value of the Company's long-term
obligations is estimated based on the current rates offered to the Company for
similar maturities. At June 30, 1998, 1997, and 1996 the carrying value of
long-term obligations approximates their fair values.
7. RELATED PARTY TRANSACTIONS
During 1997 and 1996, the Company was charged a monthly fee by Capital
House A Finance and Investment Corporation (Capital House) (owned by certain
officers of the Company) for general and administrative costs. Such fee covered
the services provided to the Company by certain employees of Capital House and
amounted to $440,000 and $480,000 for the years ended June 30, 1997 and 1996.
The Company also reimbursed Capital House for certain direct general and
administrative costs incurred by Capital House on behalf of the Company. The
Company reimbursed Capital House $128,880 and $164,000 for such costs for the
years ended June 30, 1997 and 1996. The Company capitalized $120,000 and
$129,000 of the management fees and general and administrative costs paid to
Capital House which were directly associated with oil and gas property
acquisitions, exploration, and development for the years ended June 30, 1997 and
1996. The agreement with Capital House was terminated effective May 31, 1997, at
which time the Company purchased all existing assets of Capital House.
The Company has entered into various hedging arrangements with affiliates
of Enron. (see Note 4).
The Company has entered into a revolving credit facility with ECT, an
affiliate of Enron. (see Note 3). Commitment fees and interest totaling
approximately $200,000 and $9,000, respectively, were paid to ECT during the
year ended June 30, 1998 in connection with this facility.
Enron, through its affiliates, participated in the Bridge Facilities and
the Credit Agreement (see Note 3). Enron has received fees and interest payments
of approximately $460,000 and $542,000, respectively, during the year ended June
30, 1998, from the Company relating to its participation in these facilities.
The Company has paid Enron approximately $100,000 during the year ended
June 30, 1998, under the terms of an agreement which allows the Company to
consult, among other things, with Enron's engineering staff.
The Company has paid approximately $26,000 to a company affiliated with a
director of the Company for operating certain of the Company's properties during
the year ended June 30, 1998.
8. INCOME TAXES
The Company's effective tax rate differs from the U.S. statutory rate due
to losses for which no deferred tax benefit was recognized. The tax effects of
the primary temporary differences giving rise to the
F-22
<PAGE> 148
QUEEN SAND RESOURCES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
deferred federal income tax assets and liabilities as determined under Statement
of Accounting Standards No. 109, "Accounting for Income Taxes," at June 30, 1998
and 1997, follow:
<TABLE>
<CAPTION>
1998 1997
------------ -----------
<S> <C> <C>
Deferred income tax assets (liabilities):
Reverse acquisition costs............................... $ 66,379 $ 87,967
Net operating loss carryforwards........................ 2,822,586 1,160,646
Statutory depletion carryforward........................ 125,983 125,983
Oil and gas properties, principally due to differences
in depreciation, depletion, and amortization......... 9,218,664 (273,789)
Other................................................... (20,774) (20,774)
------------ -----------
12,212,838 1,080,033
Less valuation allowance.................................. (12,212,838) (1,080,033)
------------ -----------
Net deferred income tax asset................... $ -- $ --
============ ===========
</TABLE>
The net changes in the total valuation allowance for the years ended June
30, 1998, 1997 and 1996 were increases of $11,132,805, $442,794 and $402,233
respectively. The Company's net operating loss carryforwards begin expiring in
2010.
9. OIL AND GAS PRODUCING ACTIVITIES
The following tables set forth supplementary disclosures for oil and gas
producing activities in accordance with Statement of Financial Accounting
Standards No. 69.
RESULTS OF OPERATIONS FOR PRODUCING ACTIVITIES
The following sets forth certain information with respect to results of
operations from oil and gas producing activities for the years ended June 30,
1998 and 1997:
<TABLE>
<CAPTION>
1998 1997 1996
------------ ----------- -----------
<S> <C> <C> <C>
Oil and gas sales............................ $ 6,446,000 $ 4,381,000 $ 2,079,000
Net profits and royalty interests revenues... 4,432,000 -- --
Production expenses.......................... (4,547,000) (2,507,000) (1,175,000)
Depreciation, depletion, and amortization.... (4,736,000) (915,000) (590,000)
Writedown of oil and gas properties.......... (28,166,000) -- --
------------ ----------- -----------
Results of operations (excludes
corporate overhead and interest
expense)......................... $(26,571,000) $ 959,000 $ 314,000
============ =========== ===========
</TABLE>
Depreciation, depletion, and amortization of oil and gas properties was
$.89 and $.68 and $.74 per Mcfe produced for the years ended June 30, 1998, 1997
and 1996, respectively.
F-23
<PAGE> 149
QUEEN SAND RESOURCES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
CAPITALIZED COSTS
The following table summarizes capitalized costs relating to oil and gas
producing activities and related amounts of accumulated depreciation, depletion,
and amortization at June 30, 1998 and 1997:
<TABLE>
<CAPTION>
1998 1997
------------ -----------
<S> <C> <C>
Oil and gas properties -- proved......................... $176,943,000 $17,541,000
Accumulated depreciation, depletion, and amortization.... (34,628,000) (1,627,000)
------------ -----------
Net capitalized costs.......................... $142,315,000 $15,914,000
============ ===========
</TABLE>
COSTS INCURRED
The following sets forth certain information with respect to costs
incurred, whether expensed or capitalized, in oil and gas activities for the
years ended June 30, 1998 and 1997:
<TABLE>
<CAPTION>
1998 1997 1996
------------ ---------- ----------
<S> <C> <C> <C>
Property acquisition costs..................... $153,196,000 $7,382,000 $5,057,000
============ ========== ==========
Development costs.............................. $ 6,031,000 $1,238,000 1,178,000
============ ========== ==========
</TABLE>
10. SUPPLEMENTARY OIL AND GAS DATA (UNAUDITED)
RESERVE QUANTITY INFORMATION
The following table presents the Company's estimate of its proved oil and
gas reserves, all of which are located in the United States. The Company
emphasizes that reserve estimates are inherently imprecise and that estimates of
new discoveries are more imprecise than those of producing oil and gas
properties. Accordingly, the estimates are expected to change as future
information becomes available. The estimates have been prepared by independent
petroleum reservoir engineers.
<TABLE>
<CAPTION>
OIL (BBLS) GAS (MCF)
---------- -----------
<S> <C> <C>
Proved reserves:
Balance at June 30, 1995................................. 6,190,000 420,000
Purchase of reserves in place............................ 788,000 12,781,000
Revisions in previous estimates and other................ 57,000 (63,000)
Production............................................... (103,000) (154,000)
---------- -----------
Balance at June 30, 1996................................. 6,932,000 12,984,000
Purchases of reserves in place........................... 916,000 7,730,000
Revisions of previous estimates and other................ (988,000) 805,000
Production............................................... (151,000) (546,000)
---------- -----------
Balance at June 30, 1997................................. 6,709,000 20,973,000
Purchases of reserves in place........................... 4,301,000 158,528,000
Revisions of previous estimates and other................ (2,736,000) (38,000)
Production............................................... (325,000) (3,368,000)
---------- -----------
Balance at June 30, 1998................................. 7,949,000 176,095,000
========== ===========
Proved developed reserves:
Balance at June 30, 1995................................. 1,817,000 312,000
========== ===========
Balance at June 30, 1996................................. 2,265,000 9,374,000
========== ===========
Balance at June 30, 1997................................. 2,188,000 12,412,000
========== ===========
Balance at June 30, 1998................................. 5,298,000 120,998,000
========== ===========
</TABLE>
F-24
<PAGE> 150
QUEEN SAND RESOURCES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
STANDARDIZED MEASURE OF DISCOUNTED FUTURE NET CASH FLOWS RELATING TO PROVED OIL
AND GAS RESERVES (UNAUDITED)
The Standardized Measure of Discounted Future Net Cash Flows Relating to
Proved Oil and Gas Reserves (Standardized Measure) is a disclosure requirement
under Statement of Financial Accounting Standards No. 69.
The Standardized Measure of discounted future net cash flows does not
purport to be, nor should it be interpreted to present, the fair value of the
Company's oil and gas reserves. An estimate of fair value would also take into
account, among other things, the recovery of reserves not presently classified
as proved, the value of unproved properties, and consideration of expected
future economic and operating conditions.
Under the Standardized Measure, future cash flows are estimated by applying
year-end prices, adjusted for fixed and determinable escalations, to the
estimated future production of year-end proved reserves. Future cash inflows are
reduced by estimated future production and development costs based on period-end
costs to determine pretax cash inflows. Future income taxes are computed by
applying the statutory tax rate to the excess of pretax cash inflows over the
Company's tax basis in the associated properties. Tax credits, net operating
loss carryforwards, and permanent differences are also considered in the future
tax calculation. Future net cash inflows after income taxes are discounted using
a 10% annual discount rate to arrive at the Standardized Measure.
The Standardized Measure of discounted future net cash flows relating to
proved oil and gas reserves as of June 30, 1998, 1997 and 1996, are as follows:
<TABLE>
<CAPTION>
1998 1997 1996
------------- ------------ ------------
<S> <C> <C> <C>
Future cash inflows....................... $ 524,585,000 $164,120,000 $167,229,000
Future costs and expenses:
Production expenses..................... (176,633,000) (59,955,000) (62,265,000)
Development costs....................... (29,289,000) (23,569,000) (32,208,000)
Future income taxes....................... (43,938,000) (21,649,000) (21,525,000)
------------- ------------ ------------
Future net cash flows..................... 274,725,000 58,947,000 51,231,000
10% annual discount for estimated timing
of cash flows........................... (132,410,000) (28,801,000) (27,260,000)
------------- ------------ ------------
Standardized measure of
discounted future net cash
flows......................... $ 142,315,000 $ 30,146,000 $ 23,971,000
============= ============ ============
</TABLE>
The weighted average price of oil and gas at June 30, 1998 and 1997, used
in calculating the Standardized Measure were $12.80 and $17.43 per barrel and
$2.40 and $2.25 per MCF, respectively.
F-25
<PAGE> 151
QUEEN SAND RESOURCES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
Changes in the Standardized Measure of discounted future net cash flows
relating to proved oil and gas reserves for the years ended June 30, 1998, 1997
and 1996, are as follows:
<TABLE>
<CAPTION>
1998 1997 1996
------------ ------------ -----------
<S> <C> <C> <C>
Beginning balance........................... $ 30,146,000 $ 23,971,000 $10,876,000
Purchases of minerals in place.............. 139,292,000 14,531,000 12,248,000
Developed during the period................. 6,031,000 1,238,000 233,000
Net change in prices and costs.............. (15,593,000) 5,055,000 9,357,000
Revisions of previous estimates............. (13,784,000) (13,405,000) (5,369,000)
Accretion of discount....................... 3,015,000 2,397,000 1,444,000
Net change in income taxes.................. (461,000) (1,767,000) (3,914,000)
Sales of oil and gas produced, net of
production expenses....................... (6,331,000) (1,874,000) (904,000)
------------ ------------ -----------
Balance at June 30, 1998 and
1997............................ $142,315,000 $ 30,146,000 $23,971,000
============ ============ ===========
</TABLE>
The future cash flows shown above include amounts attributable to proved
undeveloped reserves requiring approximately $22,583,000 of future development
costs. If these reserves are not developed, the standardized measure of
discounted future net cash flows as of June 30, 1998, shown above would be
reduced by approximately $33,920,000.
Estimates of economically recoverable gas and oil reserves and of future
net revenues are based upon a number of variable factors and assumptions, all of
which are to some degree speculative and may vary considerably from actual
results. Therefore, actual production, revenues, taxes, development, and
operating expenditures may not occur as estimated. The reserve data are
estimates only, are subject to many uncertainties, and are based on data gained
from production histories and on assumptions as to geologic formations and other
matters. Actual quantities of gas and oil may differ materially from the amounts
estimated.
11. SUBSEQUENT EVENTS
Subsequent to year end, the Company completed a private placement of
$125,000,000 principal amount of 12 1/2% Senior Notes (the Notes) due July 1,
2008 (the Notes Offering) and issued an aggregate of 3,428,574 shares of the
Company's Common Stock at $7 per share (the Equity Offerings) which included
certain repricing rights (the Repricing Rights) to acquire additional shares of
Common Stock (Repricing Common Shares) and warrants (the Warrants) to purchase
an aggregate of up to 1,085,000 shares of Common Stock (Warrant Common Shares).
Additionally, JEDI exercised warrants to acquire an aggregate of 980,935 shares
of Common Stock at $3.33 per share and nondilution rights to purchase 693,301
shares of the Company's Common Stock at $2.50 per share and another entity
exercised warrants to acquire an aggregate of 1,400,000 shares of Common Stock
at $2.50 per share (collectively, the Warrant Exercises).
The net proceeds from the Note Offering ($120,500,000), the Equity Offering
($22,000,000) and the Warrant Exercises ($8,500,000) were used to repay
indebtedness outstanding under the Company's Credit Agreement and the Bridge
Facilities, substantially all of which was incurred to fund the Company's
acquisition of the Morgan Properties. Immediately following such repayments, the
amount of indebtedness under the Credit Agreement outstanding was approximately
$10,300,000.
F-26
<PAGE> 152
REPORT OF ERNST & YOUNG LLP, INDEPENDENT AUDITORS
The Board of Directors
Queen Sand Resources, Inc.
We have audited the accompanying statements of operating revenues and
direct operating expenses of the Collins and Ware Properties (as defined in Note
1 to the accompanying statements) for the years ended June 30, 1997 and 1996.
These statements are the responsibility of the Company's management. Our
responsibility is to express an opinion on these statements based on our audits.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audits to obtain
reasonable assurance about whether the statements of operating revenues and
direct operating expenses are free of material misstatement. An audit includes
examining, on a test basis, evidence supporting the amounts and disclosures in
the statements of operating revenues and direct operating expenses. An audit
also includes assessing the accounting principles used and significant estimates
made by management, as well as evaluating the overall statement presentation. We
believe that our audits provide a reasonable basis for our opinion.
The accompanying statements of operating revenues and direct operating
expenses were prepared for the purpose of complying with the rules and
regulations of the Securities and Exchange Commission and are not intended to be
a complete presentation of revenues and expenses of the Collins and Ware
Properties.
In our opinion, the statements of operating revenues and direct operating
expenses referred to above present fairly, in all material respects, the
operating revenues and direct operating expenses of the Collins and Ware
Properties for the years ended June 30, 1997 and 1996 in conformity with
generally accepted accounting principles.
ERNST & YOUNG LLP
Dallas, Texas
September 16, 1997
F-27
<PAGE> 153
COLLINS AND WARE PROPERTIES
STATEMENTS OF OPERATING REVENUES AND DIRECT OPERATING EXPENSES
<TABLE>
<CAPTION>
YEAR ENDED JUNE 30,
-----------------------
1997 1996
---------- ----------
<S> <C> <C>
Oil and natural gas sales................................... $2,635,277 $2,740,442
Direct operating expenses................................... 686,164 732,883
---------- ----------
Excess of revenues over direct operating
expenses........................................ $1,949,113 $2,007,559
========== ==========
</TABLE>
See accompanying notes to statements of operating revenues and direct operating
expenses.
F-28
<PAGE> 154
COLLINS AND WARE PROPERTIES
NOTES TO STATEMENTS OF OPERATING REVENUES AND
DIRECT OPERATING EXPENSES
1. BASIS OF PRESENTATION
On August 1, 1997 Queen Sand Resources, Inc. ("the Company") acquired from
an unaffiliated entity 77 gross productive wells (12.35 net productive wells)
and 8 developmental properties located in New Mexico, Oklahoma, and Texas (the
"Collins and Ware Properties"). The purchase price consisted of cash of
approximately $6,000,000 and 1,000,000 shares of restricted common stock of the
Company, valued at $3.125 per share.
The cash portion of this acquisition was funded through borrowings made
under the Company's credit facility with Bank of Montreal.
The accompanying financial statements present the operating revenues and
direct operating expenses of the Collins and Ware Properties. The operating
revenues and direct operating expenses presented herein relate only to the
interests in the producing oil and natural gas properties acquired and do not
represent all of the oil and gas operations of the sellers. Direct operating
expenses include the actual costs of maintaining the producing properties and
their production, but do not include charges for depletion, depreciation, and
amortization; federal and state income taxes; interest; or general and
administrative expenses. Presentation of complete historical financial
statements for the years ended June 30, 1997 and 1996 is not practicable because
the Collins and Ware Properties were not accounted for as a separate entity; and
therefore, such statements are not available. The operating revenues and direct
operating expenses for the periods presented may not be representative of future
operations.
Revenues in the accompanying statements of operating revenues and direct
operating expenses are recognized on the sales method. Direct operating expenses
are recognized on an accrual basis.
2. SUPPLEMENTAL OIL AND GAS RESERVE AND STANDARDIZED MEASURE
INFORMATION (UNAUDITED)
During the fiscal years ended June 30, 1996 and 1997, development costs of
$773,000 and $437,000, respectively, were incurred on the properties. There were
no exploratory costs or incremental general and administrative costs incurred.
RESERVE QUANTITY INFORMATION
The following table presents the Company's estimate of the proved oil and
natural gas reserves of the Collins and Ware Properties, all of which are
located in the United States, as of June 30, 1997. The Company emphasizes that
reserve estimates are inherently imprecise and that estimates of new discoveries
are more imprecise than those of producing oil and gas properties. Accordingly,
the estimates are expected to change as future information becomes available.
The estimates have been prepared by independent petroleum reservoir engineers.
<TABLE>
<CAPTION>
OIL GAS
(BBLS) (MCF)
------- ---------
<S> <C> <C>
Proved reserves............................................. 850,805 1,476,139
======= =========
Proved developed reserves................................... 632,825 1,228,483
======= =========
</TABLE>
STANDARDIZED MEASURE OF DISCOUNTED FUTURE NET CASH FLOWS RELATING TO PROVED OIL
AND GAS RESERVES
The Standardized Measure of Discounted Future Net Cash Flows Relating to
Proved Oil and Gas Reserves ("Standardized Measure") is a disclosure requirement
under Statement of Financial Accounting Standards No. 69.
F-29
<PAGE> 155
COLLINS AND WARE PROPERTIES
NOTES TO STATEMENTS OF OPERATING REVENUES AND
DIRECT OPERATING EXPENSES -- (CONTINUED)
The Standardized Measure does not purport to be, nor should it be
interpreted to present, the fair value of the oil and natural gas reserves of
the Collins and Ware Properties. An estimate of fair value would also take into
account, among other things, the recovery of reserves not presently classified
as proved, the value of unproved properties, and consideration of expected
future economic and operating conditions.
Under the Standardized Measure, future cash flows are estimated by applying
year-end prices, adjusted for fixed and determinable escalations, to the
estimated future production of year-end proved reserves. Future cash flows are
reduced by estimated future production costs, based on period-end costs, and
projected future development costs to determine net cash inflows. The Collins
and Ware Properties are not a separate tax paying entity. Accordingly, the
Standardized Measure for the Collins and Ware Properties is presented before
deduction of income taxes. Future net cash flows are discounted using a 10%
annual discount rate to arrive at the Standardized Measure.
The Standardized Measure of discounted future net cash flows relating to
proved oil and gas reserves of the Collins and Ware Properties at June 30, 1997
follows:
<TABLE>
<S> <C>
Future cash inflows......................................... $18,929,090
Future production and development........................... 6,031,055
-----------
Future net cash flows....................................... 12,898,035
10% annual discount for estimated timing of cash flows...... 4,932,053
-----------
Standardized Measure.............................. $ 7,965,982
===========
</TABLE>
Estimates of economically recoverable oil and natural gas reserves and of
future net revenues are based upon a number of variable factors and assumptions,
all of which are to some degree speculative and may vary considerably from
actual results. Therefore, actual production, revenues, taxes, development and
operating expenditures may not occur as estimated. The reserve data are
estimates only, are subject to many uncertainties and are based on data gained
from production histories and on assumptions as to geologic formations and other
matters. Actual quantities of natural gas and oil may differ materially from the
amounts estimated.
The weighted average prices of oil and natural gas at June 30, 1997 used in
the calculation of the Standardized Measure were $19.24 per barrel and $1.74 per
Mcf, respectively.
F-30
<PAGE> 156
REPORT OF INDEPENDENT AUDITORS
The Board of Directors and Stockholders
Queen Sand Resources, Inc.
We have audited the accompanying statements of net profits interests and
royalty interests revenues of certain oil and gas producing properties acquired
from pension funds managed by J.P. Morgan Investments (the "Morgan Properties")
by Queen Sand Resources, Inc. (the "Company") for the years ended June 30, 1997,
1996 and 1995. These statements are the responsibility of the Company's
management. Our responsibility is to express an opinion on these statements
based on our audits.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audits to obtain
reasonable assurance about whether the accompanying statements are free of
material misstatement. An audit includes examining, on a test basis, evidence
supporting the amounts and disclosures in the accompanying statements. An audit
also includes assessing the accounting principles used and significant estimates
made by management, as well as evaluating the overall statement presentation. We
believe that our audits provide a reasonable basis for our opinion.
The accompanying statements were prepared for the purpose of complying with
the rules and regulations of the Securities and Exchange Commission and are not
intended to be a complete presentation of the revenues and expenses of certain
oil and gas producing properties acquired from pension funds managed by J.P.
Morgan Investments.
In our opinion, the statements referred to above present fairly, in all
material respects, the net profits interests and royalty interest revenues of
the Morgan Properties for the years ended June 30, 1997, 1996 and 1995 in
conformity with generally accepted accounting principles.
/s/ ERNST & YOUNG LLP
Dallas, Texas
April 17, 1998
F-31
<PAGE> 157
CERTAIN OIL AND GAS PRODUCING PROPERTIES
ACQUIRED FROM PENSION FUNDS MANAGED BY J.P. MORGAN INVESTMENTS
STATEMENTS OF NET PROFITS INTERESTS AND ROYALTY INTERESTS REVENUES
($ THOUSANDS)
<TABLE>
<CAPTION>
YEAR ENDED JUNE 30,
NINE MONTHS ENDED ---------------------------
MARCH 31, 1998 1997 1996 1995
----------------- ------- ------- -------
(UNAUDITED)
<S> <C> <C> <C> <C>
Net profits interests and royalty interests
revenues..................................... $23,460 $31,953 $21,759 $18,657
======= ======= ======= =======
</TABLE>
See accompanying notes
F-32
<PAGE> 158
CERTAIN OIL AND GAS PRODUCING PROPERTIES
ACQUIRED FROM PENSION FUNDS MANAGED BY J.P. MORGAN INVESTMENTS
NOTES TO STATEMENTS OF NET PROFITS INTERESTS
AND ROYALTY INTERESTS REVENUES
NOTE A -- BASIS OF PRESENTATION
In March, 1998, the Queen Sand Resources, Inc. (the "Company") completed
the acquisition of certain oil and natural gas producing properties, primarily
located in East and South Texas and the Mid-Continent region of the United
States, from pension funds managed by J.P. Morgan Investments (the "Morgan
Properties"). The Company's interest in the Morgan Properties primarily takes
the form of non-operated net profits overriding royalty interests, whereby the
Company is entitled to a percentage of the net profits from the operations of
the properties.
The net profits interests and royalty interests revenues presented herein
relate only to the interests in the certain oil and gas producing properties
acquired and do not represent all of the costs of oil and gas operations of the
acquired interests. In determining the overriding royalties and net profits
interest revenues, revenues are recognized on the sales method and production
expenses are recognized on the accrual method. Presentation of complete
historical financial statements is not practicable because these properties were
not accounted for as a separate entity during the past three years. The net
profits interests and royalty interests revenues for the periods presented may
not be indicative of the results of future operations of the acquired interests.
Presented below are the oil and natural gas sales and associated production
expenses from which the overriding royalties and net profits interests revenues
presented in the accompanying statements are derived:
<TABLE>
<CAPTION>
YEAR ENDED JUNE 30,
NINE MONTHS ENDED ---------------------------
MARCH 31, 1998 1997 1996 1995
----------------- ------- ------- -------
(UNAUDITED)
($ THOUSANDS)
<S> <C> <C> <C> <C>
Oil and natural gas sales.............. $30,747 $43,243 $35,283 $28,569
Production expenses.................... 7,287 11,290 13,524 9,912
------- ------- ------- -------
Net profits interests and
royalty interests
revenues................... $23,460 $31,953 $21,759 $18,657
======= ======= ======= =======
</TABLE>
NOTE B -- SUPPLEMENTARY OIL AND NATURAL GAS DATA (UNAUDITED)
OIL AND NATURAL GAS OPERATIONS
During the years ended June 30, 1997, 1996 and 1995, development costs of
$8.2 million, $14.9 million and $19.2 million, respectively, were incurred. No
exploration or incremental general and administrative costs were incurred.
RESERVE QUANTITY INFORMATION
The following table presents the Company's estimate of the proved oil and
natural gas reserves of the Morgan Properties, all of which are located in the
United States. The Company emphasizes that reserve estimates are inherently
imprecise and that estimates of new discoveries are more imprecise than those of
producing oil and natural gas properties. Accordingly, the estimates are
expected to change as future
F-33
<PAGE> 159
CERTAIN OIL AND GAS PRODUCING PROPERTIES
ACQUIRED FROM PENSION FUNDS MANAGED BY J.P. MORGAN INVESTMENTS
NOTES TO STATEMENTS OF NET PROFITS INTERESTS
AND ROYALTY INTERESTS REVENUES -- (CONTINUED)
information becomes available. The estimates have been prepared by independent
petroleum reservoir engineers.
<TABLE>
<CAPTION>
OIL NATURAL
(BBLS) GAS (MCF)
------ ---------
(IN THOUSANDS)
<S> <C> <C>
Proved reserves:
Balance at June 30, 1994.................................. 3,680 157,934
Acquisitions of reserves.................................. 1,362 --
Development and revisions of previous estimates........... 157 (1,620)
Production................................................ (473) (12,808)
------ -------
Balance at June 30, 1995.................................. 4,726 143,506
Sales of reserves in place................................ (46) --
Development and revisions of previous estimates........... (1,069) 12,662
Production................................................ (490) (13,714)
------ -------
Balance at June 30, 1996.................................. 3,121 142,454
Sales of reserves in place................................ (16) (2,694)
Development and revisions of previous estimates........... 960 (2,445)
Production................................................ (475) (13,188)
------ -------
Balance at June 30, 1997.................................. 3,590 124,127
====== =======
Proved developed reserves:
Balance at June 30, 1995.................................. 4,227 121,934
====== =======
Balance at June 30, 1996.................................. 2,960 118,950
====== =======
Balance at June 30, 1997.................................. 3,220 115,915
====== =======
</TABLE>
STANDARDIZED MEASURE OF DISCOUNTED FUTURE NET CASH FLOWS RELATING TO PROVED OIL
AND GAS RESERVES
The Standardized Measure of Discounted Future Net Cash Flows Relating to
Proved Oil and Natural Gas Reserves ("Standardized Measure") is a disclosure
requirement under Statement of Financial Accounting Standards No. 69.
The Standardized Measure does not purport to be, nor should it be
interpreted to present, the fair value of the oil and gas reserves of the Morgan
Properties. An estimate of fair value would also take into account, among other
things, the recovery of reserves not presently classified as proved, the value
of unproved properties, and consideration of expected future economic and
operating conditions.
Under the Standardized Measure, future cash flows are estimated by applying
year-end prices, adjusted for fixed and determinable escalations, to the
estimated future production of year-end proved reserves. Future cash flows are
reduced by estimated future production costs, based on period-end costs, and
projected future development costs to determine net cash inflows. The Morgan
Properties are not a separate tax paying entity. Accordingly, the Standardized
Measure for the Morgan Properties is presented before deduction of income taxes.
Future net cash flows are discounted using a 10% annual discount rate to arrive
at the Standardized Measure.
F-34
<PAGE> 160
CERTAIN OIL AND GAS PRODUCING PROPERTIES
ACQUIRED FROM PENSION FUNDS MANAGED BY J.P. MORGAN INVESTMENTS
NOTES TO STATEMENTS OF NET PROFITS INTERESTS
AND ROYALTY INTERESTS REVENUES -- (CONTINUED)
The Standardized Measure of discounted future net cash flows relating to
proved oil and gas reserves of the Morgan Properties at June 30, 1997, 1996 and
1995 follows:
<TABLE>
<CAPTION>
1997 1996 1995
--------- --------- ---------
($ THOUSANDS)
<S> <C> <C> <C>
Future cash inflows............................... $ 358,833 $ 380,027 $ 324,223
Future costs and expenses:
Production expenses............................. (123,525) (121,690) (115,797)
Development expenses............................ (9,012) (9,572) (9,209)
--------- --------- ---------
Future net cash flows............................. 226,296 248,765 199,217
10% annual discount............................... (99,400) (119,838) (103,611)
--------- --------- ---------
Standardized measure.................... $ 126,896 $ 128,927 $ 95,606
========= ========= =========
</TABLE>
The weighted average prices of oil and natural gas at June 30, 1997, 1996
and 1995 used in the calculation of the Standardized Measure were $19.26, $18.48
and $18.59 per barrel and $2.32, $2.26 and $1.65 per Mcf, respectively.
Changes in the Standardized Measure of discounted future net cash flows
relating to proved oil and gas reserves for the years ended June 30, 1997, 1996
and 1995 are as follows:
<TABLE>
<CAPTION>
1997 1996 1995
-------- -------- --------
($ THOUSANDS)
<S> <C> <C> <C>
Balance beginning of year.......................... $128,927 $ 95,606 $123,935
Sales of minerals in place....................... (2,510) (133) --
Net change in prices and costs................... (4,567) 73,425 (63,781)
Accretion of discount............................ 9,697 7,385 10,528
Sales of oil and gas produced, net of production
expenses...................................... (31,953) (21,759) (18,657)
Development and revisions of previous
estimates..................................... 27,302 (25,597) 43,581
-------- -------- --------
Balance end of year................................ $126,896 $128,927 $ 95,606
======== ======== ========
</TABLE>
Estimates of economically recoverable oil and gas reserves and of future
net revenues are based upon a number of variable factors and assumptions, all of
which are to some degree speculative and may vary considerably from actual
results. Therefore, actual production, revenues, taxes, development and
operating expenditures may not occur as estimated. The reserve data are
estimates only, are subject to many uncertainties and are based on data gained
from production histories and on assumptions as to geologic formations and other
matters. Actual quantities of gas and oil may differ materially from the amounts
estimated.
F-35
<PAGE> 161
===============================================================================
No person has been authorized to give any information or to make any
representations other than those contained in this Prospectus, and, if given or
made, such information or representations must not be relied upon as having been
authorized. This Prospectus does not constitute an offer to sell or the
solicitation of an offer to buy any securities other than the securities
described in this Prospectus or an offer to sell or the solicitation of an offer
to buy such securities in any circumstances in which such offer or solicitation
is unlawful. Neither the delivery of this Prospectus nor any sale made hereunder
shall, under any circumstances, create any implication that there has been no
change in the affairs of the Company since the date hereof or that the
information contained herein or therein is correct as of any time subsequent to
its date.
---------------
TABLE OF CONTENTS
<TABLE>
<S> <C>
Available Information........................................................4
Incorporation of Certain Documents
by Reference................................................................4
Forward-Looking Statements...................................................5
Summary......................................................................6
Risk Factors................................................................17
Recent Developments.........................................................26
The Exchange Offer; Registration Rights.....................................32
Use of Proceeds.............................................................40
Capitalization..............................................................41
Selected Consolidated Financial Information.................................42
Unaudited Pro Forma Condensed
Consolidated Financial Information.........................................44
Management's Discussion and Analysis of
Financial Condition and Results of Operations.............................48
Business....................................................................56
Management..................................................................73
Security Ownership of Certain Beneficial
Owners and Management.....................................................75
Description of Notes........................................................78
Description of Other Indebtedness..........................................109
Description of Capital Stock...............................................112
Certain U.S. Federal Income Tax
Considerations............................................................116
Legal Matters..............................................................119
Plan of Distribution.......................................................120
Engineers..................................................................120
Independent Auditors.......................................................121
Glossary...................................................................122
Index to Financial Statements..............................................F-1
</TABLE>
$125,000,000
QUEEN SAND RESOURCES, INC.
12 1/2% SENIOR NOTES DUE 2008
---------------
PROSPECTUS
---------------
===============================================================================
<PAGE> 162
PART II
INFORMATION NOT REQUIRED IN PROSPECTUS
ITEM 20. INDEMNIFICATION OF DIRECTORS AND OFFICERS.
The Company's Restated Certificate of Incorporation, as amended (the
"Certificate of Incorporation"), provides that no director of the Company will
be personally liable to the Company or any of its stockholders for monetary
damages arising from the director's breach of fiduciary duty as a director.
However, this does not apply with respect to any action in which the director
would be liable under Section 174 of the General Corporation Law of the State of
Delaware ("Delaware Code") nor does it apply with respect to any liability in
which the director (i) breached his duty of loyalty to the Company or its
stockholders; (ii) did not act in good faith or, in failing to act, did not act
in good faith; (iii) acted in a manner involving intentional misconduct or a
knowing violation of law or, in failing to act, shall have acted in a manner
involving intentional misconduct or a knowing violation of law; or (iv) derived
an improper personal benefit.
The Certificate of Incorporation of the Company provides that the Company
shall indemnify its directors and officers and former directors and officers to
the fullest extent permitted by the Delaware Code. Pursuant to the provisions of
Section 145 of the Delaware Code, the Company has the power to indemnify any
person who was or is a party or is threatened to be made a party to any
threatened, pending, or completed action, suit, or proceeding (other than an
action by or in the right of the Company) by reason of the fact that he is or
was a director, officer, employee, or agent of the Company, against any and all
expenses, judgments, fines and amounts paid in settlement actually and
reasonably incurred in connection with such action, suit, or proceeding. The
power to indemnify applies only if such person acted in good faith and in a
manner he reasonably believed to be in the best interest, or not opposed to the
best interest, of the Company and with respect to any criminal action or
proceeding, had no reasonable cause to believe his conduct was unlawful.
The power to indemnify applies to actions brought by or in the right of the
Company as well, but only to the extent of defense and settlement expenses and
not to any satisfaction of a judgment or settlement of the claim itself and with
the further limitation that in such actions no indemnification shall be made in
the event of any adjudication of negligence or misconduct unless the court, in
its discretion, believes that in light of all the circumstances indemnification
should apply.
The statute further specifically provides that the indemnification
authorized thereby shall not be deemed exclusive of any other rights to which
any such officer or director may be entitled under any bylaws, agreements, vote
of stockholders or disinterested directors, or otherwise.
Insofar as indemnification for liabilities arising under the Securities Act
may be permitted to directors, officers or persons controlling the Company
pursuant to the foregoing provisions, the Company has been advised that in the
opinion of the Commission such indemnification is against public policy as
expressed in the Securities Act and is therefore unenforceable.
ITEM 21. EXHIBITS AND FINANCIAL STATEMENT SCHEDULES.
(a) Exhibits:
<TABLE>
<S> <C>
1.1 Purchase Agreement, dated June 30, 1998 by and among Queen Sand
Resources, Inc. (the "Company") and certain of its subsidiaries,
and Nesbitt Burns Securities Inc., CIBC Oppenheimer Corp. and
Societe Generale Securities Corporation, as Placement Agents, filed
as an Exhibit to the Company's Current Report on Form 8-K dated
July 8, 1998, as amended, which Exhibit is incorporated herein by
reference.
3.1 Restated Certificate of Incorporation of the Company, filed as an
Exhibit to the Company's Registration Statement on Form S-3 filed
with the Securities and Exchange Commission on March 9, 1998, which
Exhibit is incorporated herein by reference.
</TABLE>
II-1
<PAGE> 163
<TABLE>
<S> <C>
3.2 Certificate of Designation of Series C Convertible Preferred Stock
of the Company, filed as an Exhibit to the Company's Current Report
on Form 8-K dated December 24, 1997, which Exhibit is incorporated
herein by reference.
3.3 Amended and Restated Bylaws of the Company, filed as an Exhibit to
the Company's Current Report on Form 8-K dated March 27, 1997,
which Exhibit is incorporated herein by reference.
4.1 Stockholders' Agreement dated as of May 6, 1997, among the Company,
Bruce I. Benn, Edward J. Munden, Ronald I. Benn, Robert P. Lindsay,
EIBOC Investments Ltd. and Joint Energy Development Investments
Limited Partnership ("JEDI"), filed as an Exhibit to the Company's
Current Report on Form 8-K dated May 6, 1997, which Exhibit is
incorporated herein by reference.
4.2 Indenture, dated July 1, 1998, in regard to 12 1/2% Senior Notes
due 2008 by and among the Company and certain of its subsidiaries
and Harris Trust and Savings Bank, as Trustee, filed as an Exhibit
to the Company's Current Report on Form 8-K dated July 8, 1998,
which Exhibit is incorporated herein by reference.
4.3 Form of 12% Notes due July 15, 2001, filed as an Exhibit to the
Company's Registration Statement on Form 10-SB filed with the
Securities and Exchange Commission on August 12, 1996, which
Exhibit is incorporated herein by reference.
4.4 Common Stock Purchase Warrant Representing Right to Purchase
100,000 Shares of Common Stock of the Company issued to Forseti
Investments Ltd. on May 6, 1997 and assigned to CSM GmbH, filed as
an Exhibit to the Company's Current Report on Form 8-K dated May 6,
1997, which Exhibit is incorporated herein by reference.
4.5 Common Stock Purchase Warrant Representing Right to Purchase
1,000,000 Shares of Common Stock of the Company issued to Forseti
Investments Ltd. on May 6, 1997 and assigned to CSM GmbH, filed as
an Exhibit to the Company's Current Report on Form 8-K dated May 6,
1997, which Exhibit is incorporated herein by reference.
4.6* Common Stock Purchase Warrant Representing Right to Purchase 28,066
Shares of Common Stock of the Company dated July 22, 1998 issued to
JEDI.
4.7* Common Stock Purchase Warrant Representing Right to Purchase
1,697,881 Shares of Common Stock of the Company dated July 22, 1998
issued to JEDI.
4.8 Form of Common Stock Purchase Warrant dated December 24, 1997 and
issued to certain institutional investors, filed as an Exhibit to
the Company's Current Report on Form 8-K dated December 24, 1997,
which Exhibit is incorporated herein by reference.
4.9 Form of Common Stock Purchase Warrant issued to certain investors
effective July 8, 1998, filed as an Exhibit to the Company's
Current Report on Form 8-K dated July 8, 1998, which Exhibit is
incorporated herein by reference.
4.10* Registration Rights Agreement between the Company and Collins &
Ware, Inc., dated August 1, 1997.
4.11* Registration Rights Agreement between the Company and Riata Energy,
et. al dated April 9, 1998.
4.12 Registration Rights Agreement among the Company and certain
institutional investors named therein, dated December 24, 1997,
filed as an Exhibit to the Company's Current Report on Form 8-K
dated December 24, 1997, which Exhibit is incorporated herein by
reference.
4.13 Registration Rights Agreement by and between the Company and JEDI
dated May 6, 1997, filed as an Exhibit to the Company's Current
Report on Form 8-K dated May 6, 1997, which Exhibit is incorporated
herein by reference.
4.14 Registration Rights Agreement dated as of December 29, 1997 among
the Company, the ECT Agent and JEDI, filed as an Exhibit to the
Company's Quarterly Report on Form 10-QSB for the quarter ended
December 30, 1997, which Exhibit is incorporated herein by
reference.
</TABLE>
II-2
<PAGE> 164
<TABLE>
<S> <C>
4.15 Registration Rights Agreement dated as of July 8, 1998 among the
Company and the buyers signatory thereto, filed as an Exhibit to
the Company's Current Report on Form 8-K dated July 8, 1998, which
Exhibit is incorporated herein by reference.
4.16 Registration Rights Agreement, dated July 8, 1998, by and among the
Company and certain of its subsidiaries and Nesbitt Burns
Securities Inc., CIBC Oppenheimer Corp. and Societe Generale
Securities Corporation, as Placement Agents, filed as an Exhibit to
the Company's Current Report on Form 8-K dated July 8, 1998, which
Exhibit is incorporated herein by reference.
4.17 Common Stock Purchase Warrant Representing Right to Purchase 48,701
Shares of Common Stock of the Company dated August 19, 1998 and
issued to JEDI, filed as an Exhibit to the Company's Annual Report
on Form 10-KSB for the fiscal year ended June 30, 1998, which
Exhibit is incorporated herein by reference.
5.1 Opinion of Haynes and Boone, LLP, regarding legality of the New
Notes issued.
8.1 Opinion of Haynes and Boone, LLP, as to certain tax matters.
10.1 Purchase and Sale Agreement between Eli Rebich and Southern
Exploration Company, a Texas corporation, and Queen Sand Resources,
Inc., a Nevada corporation, dated April 10, 1996, filed as an
Exhibit to the Company's Registration Statement on Form 10-SB filed
with the Securities and Exchange Commission on August 12, 1996,
which Exhibit is incorporated herein by reference.
10.2 Purchase and Sale Agreement dated June 20, 1997 between Queen Sand
Resources, Inc., a Nevada corporation, and Collins & Ware, Inc.,
filed as an Exhibit to the Company's Current Report on Form 8-K
dated August 1, 1997, which Exhibit is incorporated herein by
reference.
10.3 Purchase and Sale Agreement dated March 19, 1998 among the Morgan
commingled pension funds and Queen Sand Resources, Inc., a Nevada
corporation, filed as an Exhibit to the Company's Current Report on
Form 8-K dated March 19, 1998, which Exhibit is incorporated herein
by reference.
10.4 Securities Purchase Agreement dated as of March 27, 1997 between
JEDI and the Company, filed as an Exhibit to the Company's Current
Report on Form 8-K dated March 27, 1997, which Exhibit is
incorporated herein by reference.
10.5 Securities Purchase Agreement dated as of March 27, 1997 between
Forseti Investments Ltd, a Barbados corporation, and the Company,
filed as an Exhibit to the Company's Current Report on Form 8-K
dated March 27, 1997, which Exhibit is incorporated herein by
reference.
10.6 Securities Purchase Agreement among the Company and certain
institutional investors named therein, dated December 22, 1997,
filed as an Exhibit to the Company's Current Report on Form 8-K
dated December 24, 1997, which Exhibit is incorporated herein by
reference.
10.7* Queen Sand Resources 1997 Incentive Equity Plan.**
10.8* Employment Agreement dated December 15, 1997 between the Company
and Robert P. Lindsay.**
10.9* Employment Agreement dated December 15, 1997 among the Company,
Queen Sand Resources (Canada) Inc. and Bruce I. Benn.**
10.10* Employment Agreement dated December 15, 1997 among the Company,
Queen Sand Resources (Canada) Inc. and Ronald Benn.**
10.11* Employment Agreement dated December 15, 1997 among the Company,
Queen Sand Resources (Canada) Inc. and Edward J. Munden.**
10.12 Subordinated Revolving Credit Loan Agreement dated as of December
29, 1997, executed by Queen Sand Resources, Inc., certain lenders
now or hereafter parties thereto, and Enron Capital & Trade
Resources Corp. ("ECT"), as agent ("ECT Agent") for the lenders
("ECT Lenders"), filed as an Exhibit to the Company's Quarterly
Report on Form 10-QSB for the quarter ended December 30, 1997,
which Exhibit is incorporated herein by reference.
</TABLE>
II-3
<PAGE> 165
<TABLE>
<S> <C>
10.13* First Amendment to Loan Agreement among Queen Sand Resources, Inc.
as borrower, ECT Agent, and ECT Lenders, effective as of June 30,
1998.
10.14 Guaranty dated as of December 29, 1997, executed by Queen Sand
Resources, Inc., a Delaware corporation, in favor of ECT Agent and
the ECT Lenders, filed as an Exhibit to the Company's Quarterly
Report on Form 10-QSB for the quarter ended December 30, 1997,
which Exhibit is incorporated herein by reference.
10.15 Guaranty dated as of December 29, 1997, executed by Corrida
Resources, Inc., a Nevada corporation, and Northland Operating Co.,
a Nevada corporation, in favor of ECT Agent and the ECT Lenders,
filed as an Exhibit to the Company's Quarterly Report on Form
10-QSB for the quarter ended December 30, 1997, which Exhibit is
incorporated herein by reference.
10.16* Subordination Agreement dated as of December 29, 1997, executed by
the Agent in favor of the Bank of Montreal as agent for the senior
lenders, Queen Sand Resources, Inc. and the Guarantors.
10.17* Amended and Restated Credit Agreement, dated as of April 17, 1998,
among the Company, Queen Sand Resources, Inc., a Nevada
corporation, the Bank of Montreal and the lenders signatory
thereto.
10.18* First Amendment to Amended and Restated Credit Agreement executed
effective as of July 1, 1998, among the Company, Queen Sand
Resources, Inc., a Nevada corporation, the Bank of Montreal and the
lenders signatory thereto.
10.19* Amended and Restated Guaranty Agreement executed by the Company, in
favor of the Bank of Montreal, as agent, dated as of April 17,
1998.
10.20* Amended and Restated Guaranty Agreement executed by Northland
Operating Co. in favor of the Bank of Montreal, as agent, dated as
of April 17, 1998.
10.21* Amended and Restated Guaranty Agreement dated as of August 1, 1997
executed by Corrida Resources, Inc., a Nevada corporation, in favor
of the Bank of Montreal.
10.22* Amended and Restated Security Agreement dated as of April 17, 1998
executed by Queen Sand Resources, Inc., a Nevada corporation, in
favor of the Bank of Montreal.
10.23* Form of Qualified Stock Option Agreement.**
10.24 Amended and Restated Securities Purchase Agreement dated as of July
8, 1998 among the Company and the buyers signatory thereto, filed
as an Exhibit to the Company's Current Report on Form 8-K dated
July 8, 1998, which Exhibit is incorporated by reference herein.
12.1 Statement of computation of ratio of earnings to fixed charges.
12.2 Statement of computation of ratio of EBITDA to interest expense.
16.1 Letter regarding change in certifying accountant, filed as an
Exhibit to the Company's Current Report on Form 8-K dated March 19,
1997, which Exhibit is incorporated herein by reference.
21.1* Subsidiaries of the Registrant.
23.1 Consent of Ernst & Young LLP.
23.2 Consent of KPMG Peat Marwick LLP.
23.3 Consent of Haynes and Boone, LLP (contained in legal opinions filed
as Exhibits 5.1 and 8.1).
23.4 Consent of Ryder Scott Company.
23.5 Consent of H.J. Gruy and Associates, Inc.
23.6 Consent of Harper and Associates.
24.1* The power of attorney of officers and directors of the Company
(found on signature page).
24.2* The power of attorney of officers and directors of Queen Sand
Resources, Inc., a Nevada corporation (found on signature page).
</TABLE>
II-4
<PAGE> 166
<TABLE>
<S> <C>
24.3* The power of attorney of officers and directors of Northland
Operating Co. (found on signature page).
24.4* The power of attorney of officers and directors of Corrida
Resources, Inc. (found on signature page).
25.1* Statement of Eligibility and Qualification (Form T-1) under the
Trust Indenture Act of 1939 of Harris Trust and Savings Bank.
99.1* Form of Letter of Transmittal and related documents to be used in
conjunction with the Exchange Offer.
</TABLE>
- -----------------
* Previously filed.
** Denotes management contract.
(b) II Financial Statement Schedule and Auditors' Report on Schedule:
No schedules filed
No other financial statement schedules are filed as part of this
Registration Statement since the required information is included in the
financial statements, including the notes thereto, or circumstances requiring
the inclusion of such schedules are not present.
ITEM 22. UNDERTAKINGS.
Each of the undersigned Registrants hereby undertakes:
(1) to file, during any period in which offers or sales are being made, a
post-effective amendment to this Registration Statement:
(i) to include any prospectus required by section 10(a)(3) of the
Securities Act of 1933 (the "Securities Act");
(ii) to reflect in the prospectus any facts or events arising after the
effective date of this Registration Statement (or the most recent
post-effective amendment hereof) which, individually or in the aggregate,
represent a fundamental change in the information set forth in this
Registration Statement. Notwithstanding the foregoing, any increase or
decrease in volume of securities offered (if the total dollar value of
securities offered would not exceed that which was registered) and any
deviation from the low or high end of the estimated maximum offering range
may be reflected in the Form of prospectus filed with the Securities and
Exchange Commission pursuant to Rule 424(b) if, in the aggregate, the
changes in volume and price represent no more than a 20% change in the
maximum aggregate offering price set forth in the "Calculation of
Registration Fee" table in this Registration Statement when it becomes
effective;
(iii) to include any material information with respect to the plan of
distribution not previously disclosed in this Registration Statement or any
material change to such information in this Registration Statement;
(2) that, for the purpose of determining any liability under the Securities
Act, each such post-effective amendment shall be deemed to be a new registration
statement relating to the securities offered therein, and the offering of such
securities at that time shall be deemed to be the initial bona fide offering
thereof.
(3) to remove from registration by means of a post-effective amendment any
of the securities being registered which remain unsold at the termination of the
offering.
Insofar as indemnification for liabilities arising under the Securities Act
may be permitted to directors, officers and controlling persons of the
Registrant pursuant to the foregoing provisions, or otherwise, the Registrant
has been
II-5
<PAGE> 167
advised that in the opinion of the Securities and Exchange Commission such
indemnification is against public policy as expressed in the Securities Act and
is, therefore, unenforceable. In the event that a claim for indemnification
against such liabilities (other than the payment by the Registrant of expenses
incurred or paid by a director, officer or controlling person of the Registrant
in the successful defense of any action, suit or proceeding) is asserted by such
director, officer or controlling person in connection with the securities being
registered, the Registrant will, unless in the opinion of its counsel the matter
has been settled by controlling precedent, submit to a court of appropriate
jurisdiction the question whether such indemnification by it is against public
policy as expressed in the Securities Act and will be governed by the final
adjudication of such issue.
Each of the undersigned Registrants hereby undertakes to file an
application for the purpose of determining the eligibility of the trustee to act
under subsection (a) of Section 310 of the Trust Indenture Act in accordance
with the rules and regulations prescribed by the Commission under Section
305(b)(2) of the Trust Indenture Act.
Each of the undersigned Registrants hereby undertakes to respond to
requests for information that is incorporated by reference into the prospectus
pursuant to Items 4, 10(b), 11 or 13 of this Form, within one business day of
receipt of such request, and to send the incorporated documents by first class
mail or other equally prompt means. This includes information contained in
documents filed subsequent to the effective date of this Registration Statement
through the date of responding to the request.
Each of the undersigned Registrants hereby undertakes to supply by means of
a post-effective amendment all information concerning a transaction, and the
company being acquired involved therein, that was not the subject of and
included in this Registration Statement when it became effective.
The undersigned Registrant hereby undertakes that, for purposes of
determining any liability under the Securities Act, each filing of the
Registrant's annual report pursuant to Section 13(a) or Section 15(d) of the
Exchange Act (and, where applicable, each filing of an employee benefit plan's
annual report pursuant to Section 15(d) of the Exchange Act) that is
incorporated by reference in the registration statement shall be deemed to be a
new registration statement relating to the securities offered therein, and the
offering of such securities at that time shall be deemed to be the initial bona
fide offering thereof.
II-6
<PAGE> 168
SIGNATURES
Pursuant to the requirements of the Securities Act of 1933, the Company has
duly caused this Registration Statement to be signed on its behalf by the
undersigned, thereunto duly authorized, in the City of Dallas, State of Texas,
on the 14th day of October, 1998.
QUEEN SAND RESOURCES, INC.,
a Delaware corporation
By: /s/ EDWARD J. MUNDEN
-----------------------------------
Name: Edward J. Munden
Title: Chief Executive Officer, President
and Chairman of the Board
Pursuant to the requirements of the Securities Act of 1933, this Amendment
No. 1 to its Registration Statement on Form S-4 has been signed by the following
persons on behalf of the Registrant in the capacities and on the dates
indicated:
<TABLE>
<CAPTION>
Signature Title Date
- --------- ----- ----
<S> <C> <C>
EDWARD J. MUNDEN* Chairman of the Board, President, Chief Executive October 14, 1998
- ------------------------------- Officer and Director (principal executive officer)
Edward J. Munden
BRUCE I. BENN* Executive Vice President, Secretary and Director October 14, 1998
- -------------------------------
Bruce I. Benn
RONALD I. BENN* Chief Financial Officer (principal financial officer October 14, 1998
- ------------------------------- and accounting officer)
Ronald I. Benn
ROBERT P. LINDSAY* Chief Operating Officer, Executive Vice President October 14, 1998
- ------------------------------- and Director
Robert P. Lindsay
TED COLLINS, JR.* Director October 14, 1998
- -------------------------------
Ted Collins, Jr.
ELI REBICH* Director October 14, 1998
- -------------------------------
Eli Rebich
</TABLE>
William W. Lesikar, by signing his name hereto, does sign and execute this
Amendment No. 1 to its Registration Statement on behalf of each of the
above-named officers and directors of the Registrant on this 14th day of
October, 1998, pursuant to powers of attorneys executed on behalf of each such
officers and directors, and previously filed with the Securities and Exchange
Commission.
*By: /s/ WILLIAM W. LESIKAR
------------------------------
William W. Lesikar
Attorney-in-Fact
II-7
<PAGE> 169
SIGNATURES
Pursuant to the requirements of the Securities Act of 1933, the Company has
duly caused this Registration Statement to be signed on its behalf by the
undersigned, thereunto duly authorized, in the City of Dallas, State of Texas,
on the 14th day of October, 1998.
QUEEN SAND RESOURCES, INC.,
a Nevada corporation
By: /s/ EDWARD J. MUNDEN
-----------------------------------
Name: Edward J. Munden
Title: President
Pursuant to the requirements of the Securities Act of 1933, this Amendment
No. 1 to its Registration Statement on Form S-4 has been signed by the following
persons on behalf of the Registrant in the capacities and on the dates
indicated:
<TABLE>
<CAPTION>
Signature Title Date
- --------- ----- ----
<S> <C> <C>
EDWARD J. MUNDEN* President and Director (principal executive officer) October 14, 1998
- -------------------------------
Edward J. Munden
BRUCE I. BENN* Vice President, Secretary and Director October 14, 1998
- -------------------------------
Bruce I. Benn
RONALD I. BENN* Vice President and Treasurer (principal financial October 14, 1998
- ------------------------------- officer and accounting officer)
Ronald I. Benn
ROBERT P. LINDSAY* Vice President October 14, 1998
- -------------------------------
Robert P. Lindsay
</TABLE>
William W. Lesikar, by signing his name hereto, does sign and execute this
Amendment No. 1 to its Registration Statement on behalf of each of the
above-named officers and directors of the Registrant on this 14th day of
October, 1998, pursuant to powers of attorneys executed on behalf of each such
officers and directors, and previously filed with the Securities and Exchange
Commission.
*By: /s/ WILLIAM W. LESIKAR
-------------------------
William W. Lesikar
Attorney-in-Fact
II-8
<PAGE> 170
SIGNATURES
Pursuant to the requirements of the Securities Act of 1933, the Company has
duly caused this Registration Statement to be signed on its behalf by the
undersigned, thereunto duly authorized, in the City of Dallas, State of Texas,
on the 14th day of October, 1998.
NORTHLAND OPERATING CO.,
a Nevada corporation
By: /s/ EDWARD J. MUNDEN
-----------------------------------
Name: Edward J. Munden
Title: President
Pursuant to the requirements of the Securities Act of 1933, this Amendment
No. 1 to its Registration Statement on Form S-4 has been signed by the following
persons on behalf of the Registrant in the capacities and on the dates
indicated:
<TABLE>
<CAPTION>
Signature Title Date
- --------- ----- ----
<S> <C> <C>
EDWARD J. MUNDEN* President and Director (principal executive officer) October 14, 1998
- -------------------------------
Edward J. Munden
BRUCE I. BENN* Vice President, Secretary and Director October 14, 1998
- -------------------------------
Bruce I. Benn
RONALD I. BENN* Vice President and Treasurer (principal financial October 14, 1998
- ------------------------------- officer and accounting officer)
Ronald I. Benn
ROBERT P. LINDSAY* Vice President October 14, 1998
- -------------------------------
Robert P. Lindsay
</TABLE>
William W. Lesikar, by signing his name hereto, does sign and execute this
Amendment No. 1 to its Registration Statement on behalf of each of the
above-named officers and directors of the Registrant on this 14th day of
October, 1998, pursuant to powers of attorneys executed on behalf of each such
officers and directors, and previously filed with the Securities and Exchange
Commission.
*By: /s/ WILLIAM W. LESIKAR
-------------------------
William W. Lesikar
Attorney-in-Fact
II-9
<PAGE> 171
SIGNATURES
Pursuant to the requirements of the Securities Act of 1933, the Company has
duly caused this Registration Statement to be signed on its behalf by the
undersigned, thereunto duly authorized, in the City of Dallas, State of Texas,
on the 14th day of October, 1998.
CORRIDA RESOURCES, INC.,
a Nevada corporation
By: /s/ EDWARD J. MUNDEN
-----------------------------------
Name: Edward J. Munden
Title: President
Pursuant to the requirements of the Securities Act of 1933, this Amendment
No. 1 to its Registration Statement on Form S-4 has been signed by the following
persons on behalf of the Registrant in the capacities and on the dates
indicated:
<TABLE>
<CAPTION>
Signature Title Date
- --------- ----- ----
<S> <C> <C>
EDWARD J. MUNDEN* President, and Director (principal executive officer) October 14, 1998
- -------------------------------
Edward J. Munden
BRUCE I. BENN* Secretary and Director October 14, 1998
- -------------------------------
Bruce I. Benn
RONALD I. BENN* Treasurer (principal financial officer October 14, 1998
- ------------------------------- and accounting officer)
Ronald I. Benn
ROBERT P. LINDSAY* Vice President, Director October 14, 1998
- -------------------------------
Robert P. Lindsay
</TABLE>
William W. Lesikar, by signing his name hereto, does sign and execute this
Amendment No. 1 to its Registration Statement on behalf of each of the
above-named officers and directors of the Registrant on this 14th day of
October, 1998, pursuant to powers of attorneys executed on behalf of each such
officers and directors, and previously filed with the Securities and Exchange
Commission.
*By: /s/ WILLIAM W. LESIKAR
-------------------------
William W. Lesikar
Attorney-in-Fact
II-10
<PAGE> 172
INDEX TO EXHIBITS
<TABLE>
<S> <C>
1.1 Purchase Agreement, dated June 30, 1998 by and among Queen Sand
Resources, Inc. (the "Company") and certain of its subsidiaries,
and Nesbitt Burns Securities Inc., CIBC Oppenheimer Corp. and
Societe Generale Securities Corporation, as Placement Agents, filed
as an Exhibit to the Company's Current Report on Form 8-K dated
July 8, 1998, as amended, which Exhibit is incorporated herein by
reference.
3.1 Restated Certificate of Incorporation of the Company, filed as an
Exhibit to the Company's Registration Statement on Form S-3 filed
with the Securities and Exchange Commission on March 9, 1998, which
Exhibit is incorporated herein by reference.
3.2 Certificate of Designation of Series C Convertible Preferred Stock
of the Company, filed as an Exhibit to the Company's Current Report
on Form 8-K dated December 24, 1997, which Exhibit is incorporated
herein by reference.
3.3 Amended and Restated Bylaws of the Company, filed as an Exhibit to
the Company's Current Report on Form 8-K dated March 27, 1997,
which Exhibit is incorporated herein by reference.
4.1 Stockholders' Agreement dated as of May 6, 1997, among the Company,
Bruce I. Benn, Edward J. Munden, Ronald I. Benn, Robert P. Lindsay,
EIBOC Investments Ltd. and Joint Energy Development Investments
Limited Partnership ("JEDI"), filed as an Exhibit to the Company's
Current Report on Form 8-K dated May 6, 1997, which Exhibit is
incorporated herein by reference.
4.2 Indenture, dated July 1, 1998, in regard to 12 1/2% Senior Notes
due 2008 by and among the Company and certain of its subsidiaries
and Harris Trust and Savings Bank, as Trustee, filed as an Exhibit
to the Company's Current Report on Form 8-K dated July 8, 1998,
which Exhibit is incorporated herein by reference.
4.3 Form of 12% Notes due July 15, 2001, filed as an Exhibit to the
Company's Registration Statement on Form 10-SB filed with the
Securities and Exchange Commission on August 12, 1996, which
Exhibit is incorporated herein by reference.
4.4 Common Stock Purchase Warrant Representing Right to Purchase
100,000 Shares of Common Stock of the Company issued to Forseti
Investments Ltd. on May 6, 1997 and assigned to CSM GmbH, filed as
an Exhibit to the Company's Current Report on Form 8-K dated May 6,
1997, which Exhibit is incorporated herein by reference.
4.5 Common Stock Purchase Warrant Representing Right to Purchase
1,000,000 Shares of Common Stock of the Company issued to Forseti
Investments Ltd. on May 6, 1997 and assigned to CSM GmbH, filed as
an Exhibit to the Company's Current Report on Form 8-K dated May 6,
1997, which Exhibit is incorporated herein by reference.
4.6* Common Stock Purchase Warrant Representing Right to Purchase 28,066
Shares of Common Stock of the Company dated July 22, 1998 issued to
JEDI.
4.7* Common Stock Purchase Warrant Representing Right to Purchase
1,697,881 Shares of Common Stock of the Company dated July 22, 1998
issued to JEDI.
4.8 Form of Common Stock Purchase Warrant dated December 24, 1997 and
issued to certain institutional investors, filed as an Exhibit to
the Company's Current Report on Form 8-K dated December 24, 1997,
which Exhibit is incorporated herein by reference.
4.9 Form of Common Stock Purchase Warrant issued to certain investors
effective July 8, 1998, filed as an Exhibit to the Company's
Current Report on Form 8-K dated July 8, 1998, which Exhibit is
incorporated herein by reference.
4.10* Registration Rights Agreement between the Company and Collins &
Ware, Inc., dated August 1, 1997.
4.11* Registration Rights Agreement between the Company and Riata Energy,
et. al dated April 9, 1998.
</TABLE>
II-11
<PAGE> 173
<TABLE>
<S> <C>
4.12 Registration Rights Agreement among the Company and certain
institutional investors named therein, dated December 24, 1997,
filed as an Exhibit to the Company's Current Report on Form 8-K
dated December 24, 1997, which Exhibit is incorporated herein by
reference.
4.13 Registration Rights Agreement by and between the Company and JEDI
dated May 6, 1997, filed as an Exhibit to the Company's Current
Report on Form 8-K dated May 6, 1997, which Exhibit is incorporated
herein by reference.
4.14 Registration Rights Agreement dated as of December 29, 1997 among
the Company, the ECT Agent and JEDI, filed as an Exhibit to the
Company's Quarterly Report on Form 10-QSB for the quarter ended
December 30, 1997, which Exhibit is incorporated herein by
reference.
4.15 Registration Rights Agreement dated as of July 8, 1998 among the
Company and the buyers signatory thereto, filed as an Exhibit to
the Company's Current Report on Form 8-K dated July 8, 1998, which
Exhibit is incorporated herein by reference.
4.16 Registration Rights Agreement, dated July 8, 1998, by and among the
Company and certain of its subsidiaries and Nesbitt Burns
Securities Inc., CIBC Oppenheimer Corp. and Societe Generale
Securities Corporation, as Placement Agents, filed as an Exhibit to
the Company's Current Report on Form 8-K dated July 8, 1998, which
Exhibit is incorporated herein by reference.
4.17 Common Stock Purchase Warrant Representing Right to Purchase 48,701
Shares of Common Stock of the Company dated August 19, 1998 and
issued to JEDI, filed as an Exhibit to the Company's Annual Report
on Form 10-KSB for the fiscal year ended June 30, 1998, which
Exhibit is incorporated herein by reference.
5.1 Opinion of Haynes and Boone, LLP, regarding legality of the New
Notes issued.
8.1 Opinion of Haynes and Boone, LLP, as to certain tax matters.
10.1 Purchase and Sale Agreement between Eli Rebich and Southern
Exploration Company, a Texas corporation, and Queen Sand Resources,
Inc., a Nevada corporation, dated April 10, 1996, filed as an
Exhibit to the Company's Registration Statement on Form 10-SB filed
with the Securities and Exchange Commission on August 12, 1996,
which Exhibit is incorporated herein by reference.
10.2 Purchase and Sale Agreement dated June 20, 1997 between Queen Sand
Resources, Inc., a Nevada corporation, and Collins & Ware, Inc.,
filed as an Exhibit to the Company's Current Report on Form 8-K
dated August 1, 1997, which Exhibit is incorporated herein by
reference.
10.3 Purchase and Sale Agreement dated March 19, 1998 among the Morgan
commingled pension funds and Queen Sand Resources, Inc., a Nevada
corporation, filed as an Exhibit to the Company's Current Report on
Form 8-K dated March 19, 1998, which Exhibit is incorporated herein
by reference.
10.4 Securities Purchase Agreement dated as of March 27, 1997 between
JEDI and the Company, filed as an Exhibit to the Company's Current
Report on Form 8-K dated March 27, 1997, which Exhibit is
incorporated herein by reference.
10.5 Securities Purchase Agreement dated as of March 27, 1997 between
Forseti Investments Ltd, a Barbados corporation, and the Company,
filed as an Exhibit to the Company's Current Report on Form 8-K
dated March 27, 1997, which Exhibit is incorporated herein by
reference.
10.6 Securities Purchase Agreement among the Company and certain
institutional investors named therein, dated December 22, 1997,
filed as an Exhibit to the Company's Current Report on Form 8-K
dated December 24, 1997, which Exhibit is incorporated herein by
reference.
10.7* Queen Sand Resources 1997 Incentive Equity Plan.**
10.8* Employment Agreement dated December 15, 1997 between the Company
and Robert P. Lindsay.**
</TABLE>
II-12
<PAGE> 174
<TABLE>
<S> <C>
10.9* Employment Agreement dated December 15, 1997 among the Company,
Queen Sand Resources (Canada) Inc. and Bruce I. Benn.**
10.10* Employment Agreement dated December 15, 1997 among the Company,
Queen Sand Resources (Canada) Inc. and Ronald Benn.**
10.11* Employment Agreement dated December 15, 1997 among the Company,
Queen Sand Resources (Canada) Inc. and Edward J. Munden.**
10.12 Subordinated Revolving Credit Loan Agreement dated as of December
29, 1997, executed by Queen Sand Resources, Inc., certain lenders
now or hereafter parties thereto, and Enron Capital & Trade
Resources Corp. ("ECT"), as agent ("ECT Agent") for the lenders
("ECT Lenders"), filed as an Exhibit to the Company's Quarterly
Report on Form 10-QSB for the quarter ended December 30, 1997,
which Exhibit is incorporated herein by reference.
10.13* First Amendment to Loan Agreement among Queen Sand Resources, Inc.
as borrower, ECT Agent, and ECT Lenders, effective as of June 30,
1998.
10.14 Guaranty dated as of December 29, 1997, executed by Queen Sand
Resources, Inc., a Delaware corporation, in favor of ECT Agent and
the ECT Lenders, filed as an Exhibit to the Company's Quarterly
Report on Form 10-QSB for the quarter ended December 30, 1997,
which Exhibit is incorporated herein by reference.
10.15 Guaranty dated as of December 29, 1997, executed by Corrida
Resources, Inc., a Nevada corporation, and Northland Operating Co.,
a Nevada corporation, in favor of ECT Agent and the ECT Lenders,
filed as an Exhibit to the Company's Quarterly Report on Form
10-QSB for the quarter ended December 30, 1997, which Exhibit is
incorporated herein by reference.
10.16* Subordination Agreement dated as of December 29, 1997, executed by
the Agent in favor of the Bank of Montreal as agent for the senior
lenders, Queen Sand Resources, Inc. and the Guarantors.
10.17* Amended and Restated Credit Agreement, dated as of April 17, 1998,
among the Company, Queen Sand Resources, Inc., a Nevada
corporation, the Bank of Montreal and the lenders signatory
thereto.
10.18* First Amendment to Amended and Restated Credit Agreement executed
effective as of July 1, 1998, among the Company, Queen Sand
Resources, Inc., a Nevada corporation, the Bank of Montreal and the
lenders signatory thereto.
10.19* Amended and Restated Guaranty Agreement executed by the Company, in
favor of the Bank of Montreal, as agent, dated as of April 17,
1998.
10.20* Amended and Restated Guaranty Agreement executed by Northland
Operating Co. in favor of the Bank of Montreal, as agent, dated as
of April 17, 1998.
10.21* Amended and Restated Guaranty Agreement dated as of August 1, 1997
executed by Corrida Resources, Inc., a Nevada corporation, in favor
of the Bank of Montreal.
10.22* Amended and Restated Security Agreement dated as of April 17, 1998
executed by Queen Sand Resources, Inc., a Nevada corporation, in
favor of the Bank of Montreal.
10.23* Form of Qualified Stock Option Agreement.**
10.24 Amended and Restated Securities Purchase Agreement dated as of July
8, 1998 among the Company and the buyers signatory thereto, filed
as an Exhibit to the Company's Current Report on Form 8-K dated
July 8, 1998, which Exhibit is incorporated by reference herein.
12.1 Statement of computation of ratio of earnings to fixed charges.
12.2 Statement of computation of ratio of EBITDA to interest expense.
16.1 Letter regarding change in certifying accountant, filed as an
Exhibit to the Company's Current Report on Form 8-K dated March 19,
1997, which Exhibit is incorporated herein by reference.
21.1* Subsidiaries of the Registrant.
23.1 Consent of Ernst & Young LLP.
</TABLE>
II-13
<PAGE> 175
<TABLE>
<S> <C>
23.2 Consent of KPMG Peat Marwick LLP.
23.3 Consent of Haynes and Boone, LLP (contained in legal opinions filed
as Exhibits 5.1 and 8.1).
23.4 Consent of Ryder Scott Company.
23.5 Consent of H.J. Gruy and Associates, Inc.
23.6 Consent of Harper and Associates.
24.1* The power of attorney of officers and directors of the Company
(found on signature page).
24.2* The power of attorney of officers and directors of Queen Sand
Resources, Inc., a Nevada corporation (found on signature page).
24.3* The power of attorney of officers and directors of Northland
Operating Co. (found on signature page).
24.4* The power of attorney of officers and directors of Corrida
Resources, Inc. (found on signature page).
25.1* Statement of Eligibility and Qualification (Form T-1) under the
Trust Indenture Act of 1939 of Harris Trust and Savings Bank.
99.1* Form of Letter of Transmittal and related documents to be used in
conjunction with the Exchange Offer.
</TABLE>
- -----------------
* Previously filed.
** Denotes management contract.
II-14
<PAGE> 1
EXHIBIT 5.1
LEGALITY OPINION
October 13, 1998
Queen Sand Resources, Inc.
Queen Sand Resources, Inc.
Northland Operating Co.
Corrida Resources, Inc.
Re: Registration Statement on Form S-4; $125,000,000 Aggregate Principal
Amount of 12 1/2% Senior Notes due 2008 and the Guarantees thereof
Ladies and Gentlemen:
We have acted as special counsel for Queen Sand Resources, Inc., a
Delaware corporation (the "Company"), and Queen Sand Resources, Inc., a Nevada
corporation, Northland Operating Co., a Nevada corporation, and Corrida
Resources, Inc., a Nevada corporation (the "Guarantors"), in connection with the
proposed issuance by the Company of $125,000,000 aggregate principal amount of
12 1/2% Senior Notes due 2008 (the "Notes") and the guarantees thereof by the
Guarantors (the "Guarantees") in exchange for an equivalent amount of the
Company's outstanding 12 1/2% Senior Notes due 2008 (the "Old Notes"), which are
also guaranteed by the Guarantors. The terms of the offer to exchange are
described in the Registration Statement on Form S-4 (the "Registration
Statement") filed with the Securities and Exchange Commission for the
registration of the Notes and the Guarantees under the Securities Act of 1933,
as amended (the "Act"). The Old Notes have been, and the Notes will be, issued
pursuant to an indenture (the "Indenture") dated as of July 1, 1998, among the
Company, the Guarantors and Harris Trust and Savings Bank, as Trustee (the
"Trustee").
In our capacity as your special counsel in connection with such
registration, we are familiar with the proceedings taken and proposed to be
taken by the Company and the Guarantors in connection with the authorization and
issuance of the Notes and the Guarantees and, for the purposes of this opinion,
have assumed such proceedings will be timely completed in the manner presently
proposed. In addition, we have made such legal and factual examinations and
inquiries, including an examination of originals or copies certified or
otherwise identified to our satisfaction of such documents, corporate records
and instruments, as we have deemed necessary or appropriate for purposes of this
opinion.
In our examination, we have assumed the genuineness of all signatures,
the authenticity of all documents submitted to us as originals, and the
conformity to authentic original documents of all documents submitted to us as
copies.
We are opining herein as to the effect on the subject transaction only
of the internal laws of the State of Texas. To the extent that the opinions
expressed involve considerations of the laws of the State of New York, we have
assumed, with your consent, that the laws of the State of New York are identical
in all respects to the laws of the State of Texas, other than as to usury (as to
which we express no opinion). We express no opinion with respect to the
applicability thereto, or the effect thereon, of the laws of any other
jurisdiction or as to any matters of municipal law or the laws of any other
local agencies within any state.
<PAGE> 2
Queen Sand Resources, Inc.
October 13, 1998
Page 2
Subject to the foregoing and the other matters set forth herein, it is
our opinion that, as of the date hereof:
1. When executed and delivered by or on behalf of the Company and the
Guarantors and authenticated by the Trustee in accordance with the terms of the
Indenture, the Notes and the Guarantees will constitute valid and binding
obligations of the Company and the Guarantors, enforceable against the Company
and the Guarantors in accordance with their terms.
To the extent that the obligations of the Company or the Guarantors
under the Indenture may be dependent upon such matters, we assume for purposes
of this opinion that the Trustee is duly organized, validly existing and in good
standing under the laws of its jurisdiction of organization; that the Trustee is
duly qualified to engage in the activities contemplated by the Indenture; that
the Indenture has been duly authorized, executed and delivered by the Trustee
and constitutes the legally valid and binding obligation of the Trustee,
enforceable against the Trustee in accordance with its terms; that the Trustee
is in compliance, generally and with respect to acting as a trustee under the
Indenture, with all applicable laws and regulations; and that the Trustee has
the requisite organizational and legal power and authority to perform its
obligations under the Indenture.
We consent to your filing this opinion as an exhibit to the
Registration Statement and to the reference to our firm contained therein under
the heading "Legal Matters."
Specific Limitations and Qualifications on
Opinions Regarding Enforceability of the Notes and Guarantees
The enforceability of the Notes and the Guarantees are subject to (a) the
effects of (i) applicable bankruptcy, insolvency, reorganization, moratorium,
rearrangement, liquidation, conservatorship or similar laws of general
application now or hereafter in effect relating to or affecting the rights or
remedies of creditors generally, (ii) general equity principles (regardless of
whether enforcement is sought in a proceeding in equity or law), and (iii)
statutory provisions of the federal Bankruptcy Code and the Uniform Fraudulent
Conveyance Act as adopted by the State of Texas (and related court decisions)
pertaining to the voidability of preferential or fraudulent transfers,
conveyances and obligations, (b) the rights of the United States under the
Federal Tax Lien Act of 1966, as amended, and (c) the application of a standard
of "good faith" such as that defined in Section 1.203 of the Uniform Commercial
Code as adopted in the State of Texas (the "Code"); provided, however, that we
note that any limitations referred to in clauses (a)(ii), and (c) imposed by
such laws on the enforceability of the Notes and the Guarantees will not prevent
the holders thereof from the ultimate realization of the practical benefits of
such instruments, except for the economic consequences of any judicial,
administrative or other procedural delay that may result from such laws.
We express no opinion as to the enforceability of provisions of the Notes or the
Guarantees to the extent that such provisions: (i) state that any party's
failure or delay in exercising rights, powers, privileges or remedies under the
Notes or the Guarantees, as the case may be, shall not operate as a waiver
thereof; (ii) purport to preclude the amendment, waiver, release or discharge of
obligations except by an instrument in writing; (iii) purport to indemnify any
person for (A) such person's violations of federal or state
<PAGE> 3
Queen Sand Resources, Inc.
October 13, 1998
Page 3
securities laws or environmental laws, or (B) any obligation to the extent such
obligation arises from or is a result of such person's own negligence; (iv)
purport to establish or satisfy certain factual standards or conditions; (v)
purport to sever unenforceable provisions from the Notes or the Guarantees, to
the extent that the enforcement of remaining provisions would frustrate the
fundamental intent of the parties to such instruments; (vi) restrict access to
legal or equitable remedies; or (vii) purport to waive any claim arising out of,
or in any way related to, the Notes or the Guarantees. We advise you that the
inclusion of such provisions in the Notes or the Guarantees does not render void
or invalidate the obligations and liabilities of the Company under other
provisions of such instruments.
We express no opinion as to: (i) whether a court would grant specific
performance or any other equitable remedy with respect to enforcement of any
provision contained in the Notes or the Guarantees; or (ii) the enforceability
of any provision contained in the Indenture relating to the appointment of a
receiver, to the extent that appointment of a receiver is governed by applicable
statutory requirements, and to the extent that such provision may not be in
compliance with such requirements.
We express no opinion as to the enforceability of those provisions of the
Guarantees that state or mean that the Guarantees shall not be impaired,
adversely affected or released by any of the following: (i) any action taken by
any holder of the Notes in bad faith, for the purpose of or with the effect of,
impairing any of the Guarantors' rights of subrogation, reimbursement,
contribution, indemnity or exoneration against the Company, any other guarantor
or collateral for the obligations guaranteed; or (ii) a legal determination that
the obligations guaranteed are void as a result of illegality.
Very truly yours,
/s/ HAYNES AND BOONE, LLP
Haynes and Boone, LLP
<PAGE> 1
EXHIBIT 8.1
TAX OPINION
October 13, 1998
Queen Sand Resources, Inc.
Queen Sand Resources, Inc.
Northland Operating Co.
Corrida Resources, Inc.
Re: Registration Statement on Form S-4; $125,000,000 Aggregate
Principal Amount of 12 1/2% Senior Notes due 2008 and the
Guarantees thereof
Ladies and Gentlemen:
We have acted as special counsel for Queen Sand Resources, Inc., a
Delaware corporation (the "Company"), and Queen Sand Resources, Inc., a Nevada
corporation, Northland Operating Co., a Nevada corporation, and Corrida
Resources, Inc., a Nevada corporation (the "Guarantors"), in connection with the
proposed issuance by the Company of $125,000,000 aggregate principal amount of
12 1/2% Senior Notes due 2008 (the "Notes") and the guarantees thereof by the
Guarantors (the "Guarantees") in exchange for an equivalent amount of the
Company's outstanding 12 1/2% Senior Notes due 2008 (the "Old Notes"), which are
also guaranteed by the Guarantors. The terms of the offer to exchange (the
"Exchange Offer") are described in the Registration Statement on Form S-4 (the
"Registration Statement") filed with the Securities and Exchange Commission for
the registration of the Notes and the Guarantees under the Securities Act of
1933, as amended. The Old Notes have been, and the Notes will be, issued
pursuant to an indenture (the "Indenture") dated as of July 1, 1998, among the
Company, the Guarantors and Harris Trust and Savings Bank, as Trustee.
You have requested our opinion as to certain United States federal
income tax consequences of the Exchange Offer. In preparing our opinion, we have
reviewed and relied upon the Company's Registration Statement and such other
documents as we deemed necessary.
On the basis of the foregoing, it is our opinion that the exchange of
the Private Notes for Exchange Notes pursuant to the Exchange Offer will not be
treated as an "exchange" for United States federal income tax purposes and
therefore, is not a taxable transaction for such purposes.
The opinion set forth above is based upon the applicable provisions of
the Internal Revenue Code of 1986, as amended, the Treasury Regulations
promulgated or proposed thereunder, current positions of the Internal Revenue
Service (the "IRS") contained in published revenue rulings, revenue procedures,
and announcements, existing judicial decisions, and other applicable
authorities. No tax rulings have been or will be sought from the IRS with
respect to any of the matters discussed herein. Unlike a ruling from the IRS,
opinions of counsel are not binding on the IRS. Hence, no assurance can be given
that the opinion stated in this letter will not be successfully challenged by
the IRS. We express no opinion concerning any United States federal income tax
consequences of the Exchange Offer except as expressly set forth above.
We hereby consent to the filing of this opinion as an exhibit to the
Registration Statement and to the reference to this firm and the summarization
of this opinion under the section titled "Certain Federal Income Tax
Considerations" in the Registration Statement.
Very truly yours,
/s/ HAYNES AND BOONE, LLP
Haynes and Boone, LLP
<PAGE> 1
Statement of Computation of Earnings to Fixed Charges Exhibit 12.1
<TABLE>
<CAPTION>
Year Ended June 30,
-----------------------------------------------------
Pro Forma
Historical As Adjusted
------------------------------------- -----------
1996 1997 1998 1998
-------- -------- -------- --------
<S> <C> <C> <C> <C>
Income (Loss) before extraordinary $ (1,189) $ (1,138) $(32,754) $(34,004)
items and income taxes
Fixed Charges $ 421 $ 878 $ 3,957 $ 17,547
-------- -------- -------- --------
Earnings for Computation $ (768) $ (260) $(28,797) $(16,455)
Fixed Charges
Interest and financing costs $ 421 $ 878 $ 3,957 $ 17,547
Ratio of Earnings to NM NM NM NM
Fixed Charges
Short Fall $ (1,189) $ (1,138) $(24,892) $ (1,946)
</TABLE>
<PAGE> 1
Statement of Computation of EBITDA to interest expense Exhibit 12.2
<TABLE>
<CAPTION>
Year Ended June 30,
------------------------------------------------
Pro Forma
Historical As Adjusted
-------------------------------- -------------
1996 1997 1998 1998
-------- -------- -------- --------
<S> <C> <C> <C> <C>
Income (Loss) before extraordinary
item and income taxes $ (1,189) $ (1,138) $(32,754) $(34,004)
Interest and other excluded $ (72) $ (300) $ (105) $ (105)
Interest and financing costs $ 421 $ 878 $ 3,957 $ 17,547
Depreciation, Depletion and Depreciation $ 630 $ 982 $ 4,809 $ 15,343
Ceiling Write Down $ 28,166 $ 28,166
-------- -------- -------- --------
EBITDA $ (210) $ 422 $ 4,072 $ 26,947
Interest and financing costs $ 421 $ 878 $ 3,956 $ 17,547
less debt issuance costs $ -- $ -- $ 101 $ 980
-------- -------- -------- --------
Interest Costs $ 421 $ 878 $ 3,855 $ 16,567
Ratio of EBITDA to NM NM 1.1 1.6
Interest Expense
Short Fall $ (631) $ (426)
</TABLE>
<PAGE> 1
EXHIBIT 23.1
CONSENT OF ERNST & YOUNG LLP
We consent to the reference to our firm under the caption "Independent Auditors"
and to the use of our reports dated (i) September 2, 1998 with respect to
the financial statements of Queen Sand Resources, Inc. for the years ended June
30, 1998 and 1997, (ii) September 16, 1997 with respect to the statements of
operating revenues and direct operating expenses of the Collins and Ware
Properties for the years ended June 30, 1997 and 1996, and (iii) April 17, 1998
with respect to the statements of net profits interests and royalty interests
revenues of certain oil and gas producing properties acquired from pension funds
managed by J.P. Morgan Investments for the years ended June 30, 1997, 1996 and
1995 in the Registration Statement (Form S-4) and related Prospectus of Queen
Sand Resources, Inc. (the "Company") for the registration of its' 12 1/2%
Senior Notes Due 2008.
/s/ ERNST & YOUNG LLP
Dallas, Texas
October 13, 1998
<PAGE> 1
EXHIBIT 23.2
CONSENT OF INDEPENDENT AUDITORS
The Board of Directors
Queen Sand Resources, Inc.
We consent to the inclusion in the registration statement on Form S-4 of Queen
Sand Resources, Inc. of our report dated August 30, 1996, relating to the
consolidated statements of operations, stockholders' equity and cash flows of
Queen Sand Resources, Inc. for the year ended June 30, 1996, and to the
reference to our firm under the heading "Independent Auditors" in the
prospectus.
Dallas, Texas
October 13, 1998 KPMG PEAT MARWICK LLP
<PAGE> 1
EXHIBIT 23.4
[RYDER SCOTT COMPANY LETTERHEAD]
CONSENT OF INDEPENDENT PETROLEUM ENGINEERS
We hereby consent to (i) the inclusion, and the incorporation by
reference, in the prospectus (the "Prospectus") constituting a part of the
Pre-Effective Amendment No. 1 to the Registration Statement on Form S-4 filed
by Queen Sand Resources, Inc., a Delaware corporation (the "Company"), under
the Securities Act of 1933, of information contained in our reserve report
relating to the proved oil and natural gas reserves and future net revenues of
oil and natural gas reserves of the Company as of June 30, 1998 with respect to
the Morgan Properties (as defined in the Prospectus) and all references to such
report letters and/or this firm in such Prospectus and (ii) further consent to
our being named as an expert therein in the section titled "Engineers."
RYDER SCOTT COMPANY
PETROLEUM ENGINEERS
<PAGE> 1
EXHIBIT 23.5
[H.J. GRUY AND ASSOCIATES, INC. LETTERHEAD]
CONSENT OF INDEPENDENT PETROLEUM ENGINEERS
We hereby consent to (i) the inclusion, and the incorporation by
reference, in the Prospectus (the "Prospectus") constituting a part of the
Pre-Effective Amendment No. 1 to the Registration Statement on Form S-4 filed by
Queen Sand Resources, Inc., a Delaware corporation (the "Company"), under the
Securities Act of 1933, of information contained in our reserve reports relating
to the proved oil and natural gas reserves and future net revenues of oil and
natural gas reserves of the Company as of June 30, 1997 (other than with respect
to the Property Acquisitions (as defined in the Prospectus)) and 1998 (other
than with respect to the Morgan Properties (as defined in the Propectus)) and
all references to such report letters and/or this firm in such Prospectus and
(ii) further consent to our being named as an expert therein in the section
titled "Engineers."
H.J. GRUY AND ASSOCIATES, INC.
D-568063.1
<PAGE> 1
EXHIBIT 23.6
[HARPER AND ASSOCIATES, INC. LETTERHEAD]
CONSENT OF INDEPENDENT PETROLEUM ENGINEERS
We hereby consent to (i) the inclusion, and the incorporation by
reference, in the prospectus (the "Prospectus") constituting a part of the
Pre-Effective Amendment No. 1 to the Registration Statement on Form S-4 filed by
Queen Sand Resources, Inc., a Delaware corporation (the "Company"), under the
Securities Act of 1933, of information contained in our reserve reports relating
to the proved oil and natural gas reserves and future net revenues of oil and
natural gas reserves as of June 30, 1996 and, with respect to the Nasgas
Properties, as of June 30, 1997 and all references to such report letters and/or
this firm in such Prospectus and (ii) further consent to our being named as an
expert therein in the section titled "Engineers."
HARPER AND ASSOCIATES, INC.
