As filed with the Securities and Exchange Commission on October 27, 1997
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SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
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AMENDMENT NO. 2
TO
FORM 10
GENERAL FORM FOR REGISTRATION OF SECURITIES PURSUANT TO
SECTION 12(b) OR (g) OF THE SECURITIES EXCHANGE ACT OF 1934
----------------------
SEVEN SEAS PETROLEUM INC.
(Exact name of registrant as specified in its charter)
YUKON TERRITORY 73-1468669
(State or other jurisdiction (I.R.S. Employer Identification No.)
of incorporation)
SUITE 960, THREE POST OAK CENTRAL
1990 POST OAK BOULEVARD
HOUSTON, TEXAS 77056
(Address of principal executive offices) (Zip Code)
Registrant's telephone number, including area code: (713) 622-8218
Securities to be registered pursuant to Section 12(b) of the Act:
Name of each exchange on which
Title of each class to be so registered each class is to be registered
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NONE NOT APPLICABLE
Securities to be registered pursuant to Section 12(g) of the Act:
COMMON SHARES, NO PAR VALUE PER SHARE
(Title of class)
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<PAGE>
ITEM 1. BUSINESS.
GENERAL
Seven Seas Petroleum Inc. ("Seven Seas") is engaged in the exploration and
development of oil and gas properties outside of North America. Seven Seas,
through its subsidiaries, owns interests in prospective areas located in
Colombia, Australia and Papua New Guinea, all of which are in the initial stages
of exploration and development. The Company's primary business strategy is to
explore and develop its existing interests in Colombia. The Company also may
seek to acquire additional oil and gas exploration opportunities in Colombia
which management believes have large reserve potential. As a result of its focus
on its Colombian properties, the Company intends to divest or farmout its other
oil and gas interests in Australia and Papua New Guinea. Seven Seas and its
subsidiaries are collectively referred to herein as the "Company." Certain oil
industry terms used herein are defined in the Glossary of Technical Terms
attached hereto as Appendix A.
The Company's principal asset is a 57.7% interest in the Dindal Association
Contract and Rio Seco Association Contract (collectively, the "Association
Contracts") that relate to oil and gas prospects located in the Magdalena Basin
in Colombia, approximately 90 kilometers northwest of Bogota. In 1996, two
exploratory wells were drilled on the Dindal block. The Association Contracts
were issued by Empresa Colombiana de Petroleos ("ECOPETROL"), the stateowned
Colombian oil company, in March 1993 and August 1995, respectively, and provide
generally for a six-year exploration phase followed by a 22-year production
period, with partial relinquishments of acreage, excluding commercial fields,
required commencing at the end of the sixth year of each contract. See "Item 3.
Properties -Colombia -- Dindal and Rio Seco Association Contracts; Magdalena
Basin -- Terms of Association Contracts and Related Matters." For a description
of the Company's interests in these properties, see "Item 3. Properties."
The Association Contracts entitle the Company to engage in exploration,
development and production activities in approximately 106,000 acres located in
the Magdalena Basin. Recent discoveries in the Magdalena Basin include Amoco's
Opon Field, located approximately 170 kilometers north of the prospect area, and
Lasmo's Venganza/Revancha complex, located approximately 150 kilometers to the
south.
Three wells have been drilled, to date, on the Dindal block under the Dindal
Association Contract. The El Segundo #1 well commenced drilling in December
1995, reached total depth in mid-January 1996 and was placed on a long-term
production test in July 1996. The El Segundo #2 well was completed for testing
in November 1996 and a long-term production test commenced in February 1997. The
Escuela #1 well, which was drilled in 1994 prior to the acquisition of an
interest in the block by the Company, was plugged and abandoned as a dry hole. A
fourth well, El Segundo #3, has been drilled to a total depth of 6,920 feet.
Production testing on this well has commenced with results expected in late
September 1997. The following table provides a summary of the El Segundo #1 well
and the El Segundo #2 wells:
TOTAL DRILLING MAXIMUM TESTED
DEPTH PRODUCTION
WELL DATE COMPLETED (FEET) BOPD RATE (1)
- ---- -------------- ------ -------------
El Segundo #1.......... February 1996 5,718 3,415
El Segundo #2.......... November 1996 6,820 8,948
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(1) References are from production testing only and are not necessarily
indicative of flow rates that may be utilized during production. Production
tests are conducted to obtain an indication of the flow capacity of
individual wells and to give an indication of reservoir quality. Actual
producing rates from individual wells will depend on the results of an
integrated reservoir study and an engineering production plan which will
incorporate data from all wells in the field in a development plan to
maximize economic recovery of oil from the reservoir.
The first well for the Rio Seco Association Contract, the Tres Pasos #1
well, commenced drilling on September 10, 1997. The Tres Pasos #1 well is an
appraisal well for the oil accumulation discovered in the Dindal block and is
located some 2.5 kilometers northwest of the surface location of the El Segundo
#1 and #2 wells.
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The Company plans to commence drilling at least two additional wells on the
Dindal block in 1997 and to acquire permits for a seismic survey, in each case,
to determine the potential size of the oil accumulation by further delineating
the areal extent and reservoir geology of the structure. The Company has
budgeted up to $14.0 million on the exploration of the Dindal and Rio Seco
blocks in the second half of 1997, including the cost of four wells.
RISKS ASSOCIATED WITH THE COMPANY'S BUSINESS
EXPLORATION AND DEVELOPMENT RISKS. Oil and gas exploration and development
is a speculative business and involves a high degree of risk. The Company has
expended, and plans to continue to expend, significant amounts of capital on the
acquisition and exploration of its oil and gas interests. Even if the results of
such activities are favorable, subsequent drilling at significant costs must be
conducted on a property to determine if commercial development of the property
is feasible. Oil and gas drilling may involve unprofitable efforts, not only
from dry holes but from wells that are productive but do not produce sufficient
net revenues to return a profit after drilling, operating and other costs. It is
difficult to project the costs of implementing an exploratory drilling program
due to the inherent uncertainties of drilling in unknown formations, the costs
associated with encountering various drilling conditions such as overpressured
zones and tools lost in the hole, and changes in drilling plans and locations as
a result of prior exploratory wells or additional seismic data and
interpretations thereof. Exploration of offshore oil and gas properties also
involves an increased degree of risk relative to onshore or close-to-shore
exploration primarily due to greater technical obstacles. The marketability of
oil and gas which may be acquired or discovered by the Company will be affected
by the quality and viscosity of the production and by numerous factors beyond
its control, including market fluctuations, the proximity and capacity of oil
and gas pipelines and processing equipment, government regulations, including
regulations relating to prices, taxes, royalties, land tenure, importing and
exporting of oil and gas and environmental protection. There can be no assurance
the Company will be able to discover, develop and produce sufficient reserves in
Colombia or elsewhere to recover the costs and expenses incurred in connection
with the acquisition, exploration and development thereof and achieve
profitability.
NEED FOR ADDITIONAL FINANCING. The Company has no significant income
producing properties and its principal asset, its interest in the Dindal and Rio
Seco blocks, is in the early stage of exploration and development. Since
inception through June 30, 1997, the Company incurred cumulative losses of
$7,173,485 and, because of its continued exploration activities, expects that it
will continue to incur losses and that its accumulated deficit will increase
until commencement of production from the Dindal and Rio Seco blocks in
quantities sufficient to cover operating expenses related thereto. The
exploration and development of the Company's current properties and any
properties acquired in the future is expected to require substantial amounts of
additional capital which the Company may be required to raise through debt or
equity financings, encumbering properties or entering into arrangements whereby
certain costs of exploration will be paid by others to earn an interest in the
property. There can be no assurance that the additional debt or equity financing
expected to be necessary to fund the Company's operations and obligations will
be available to the Company on economically acceptable terms. If sufficient
funds cannot be raised to meet the Company's obligations with respect to a
property, the Company may elect to forfeit its interest in such property. The
Company does not anticipate that it will lose any of its Colombian property to
forfeiture in the next 18 months. See "Management's Discussion and Analysis of
Financial Condition and Results of Operations."
RISKS INHERENT IN FOREIGN OPERATIONS. There are risks inherent in the fact
that the Company has acquired and intends to continue to acquire interests in
oil and gas properties located outside of North America in some cases in
countries which may be considered politically and economically unstable.
Foreign properties, operations or investments may be adversely affected by
local political and economic developments, exchange controls, currency
fluctuations, royalty and tax increases, retroactive tax claims, renegotiation
of contracts with governmental entities, expropriation, import and export
regulations and other foreign laws or policies governing operations of
foreign-based companies, as well as by laws and policies of the United States
affecting foreign trade, taxation and investment. In addition, as the Company's
operations are governed by foreign laws, in the event of a dispute, the Company
may be subject to the exclusive jurisdiction of foreign courts or may not be
successful in subjecting foreign persons to the jurisdiction of courts in the
United States. The Company may also be hindered or prevented from enforcing its
rights with respect to a governmental instrumentality because of the doctrine of
sovereign immunity.
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<PAGE>
The Company's business is subject to political risks inherent in all foreign
operations. While Colombia has no history of nationalizing its business nor
expropriation of foreign assets, the Company's oil and gas operations are
subject to certain risks, including: (i) loss of revenue, property, and
equipment as a result of unforeseen events such as expropriation,
nationalization, war and insurrection, (ii) risks of increases in taxes and
governmental royalties, (iii) renegotiation of contracts with governmental
entities, and (iv) changes in laws and policies governing operations of
foreign-based companies in Colombia. Guerrilla activity in Colombia has
disrupted the operation of oil and gas projects in certain areas in Colombia but
has not affected the Dindal and Rio Seco Association Contracts. The government
continues its efforts through negotiation and legislation to reduce the problems
and effects of insurgent groups, including regulations containing sanctions such
as impairment or loss of contract rights on companies and contractors if found
to be giving aid to such groups. The associate parties will continue to
cooperate with the government, and do not expect that future guerrilla activity
will have a material impact on the exploration and development of the
Association Contracts. However, there can be no assurance that such activity
will not occur or have such an impact and no opinion can be given on what steps
the government may take in response to any such activity. Colombia is among
several nations whose progress in stemming the production and transit of illegal
drugs is subject to annual certification by the President of the United States.
In March 1996, the President of the United States announced that Colombia would
neither be certified nor granted a national interest waiver. The consequences of
the failure to receive certification generally include the following: all
bilateral aid, except anti-narcotics and humanitarian aid, has been or will be
suspended; the Export-Import Bank of the United States and the Overseas Private
Investment Corporation will not approve financing for new projects in Colombia;
United States representatives at multilateral lending institutions will be
required to vote against all loan requests from Colombia, although such votes
will not constitute vetoes; and the President of the United States and Congress
retain the right to apply future trade sanctions. Each of these consequences of
the failure to receive such certification could result in adverse economic
consequences in Colombia and could further heighten the political and economic
risks associated with the Company's operations in Colombia.
DEPENDENCE ON ACTIVITIES IN COLOMBIA. The Company's success currently
depends to a high degree on its activities in Colombia. This dependence is
likely to be reflected in both the short-term performance and the Company's
long-term financial results. The Company currently is drilling one well and
intends to drill up to three additional wells on the Dindal and Rio Seco blocks
in 1997. The market price of the Common Shares may significantly fluctuate based
on the outcome of individual wells.
RISKS OF JOINT VENTURES. The Company has and expects to continue to acquire
only partial interests in oil and gas properties through joint venture
agreements with other oil and gas corporations that may, by the terms of such
joint venture agreements, be the operators of such programs. Although the
Company can take certain steps to determine if the risk of the program to be
conducted by the operator is appropriately spread over a number of prospects,
there can be no assurance that the risk will be so allocated, that the program
will be carried out by the operator in a manner deemed appropriate by the
Company or that the prospects will be successful. In addition, the Company's
ability to continue its exploration and development programs may be dependent
upon the decision of its joint venture partners to continue exploration and
development programs and to finance their portion of the costs and expenses of
the joint venture. If the Company's partners do not elect to continue and to
finance their obligations to the joint ventures, the Company may be required to
accept an assignment of the partners' interests therein and assume their
financing obligations or relinquish its interest in the joint venture.
OPERATING HAZARDS AND UNINSURED RISKS. The Company is also subject to all
the risks normally incident to drilling for and producing oil and gas, including
hazards such as over-pressured formations, blowouts, cratering, fires, spills,
or other hazards or conditions, any of which could result in damage to or loss
of life or property. In accordance with industry practice, the Company is not
fully insured against these risks nor are all such risks insurable. Payment of
such potential liabilities would reduce the funds available for exploration,
drilling and production and could have a material adverse effect on the Company.
LIMITED OPERATING HISTORY; DEPENDENCE ON KEY PERSONNEL. The Company has a
limited operating history and the success of the Company depends to a large
degree upon the efforts of its executive officers, the loss of whose services
could have a material adverse effect on the business and prospects of the
Company. The Company has entered into employment agreements with three of its
executive officers, the terms of which are more particularly described under
"Executive Compensation" below. The Company does not maintain key man insurance.
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<PAGE>
POTENTIAL CONFLICTS. Certain of the directors of Seven Seas also serve as
officers, directors or consultants of other companies involved in natural
resource development which activities may be in competition with the Company and
may result in conflicts of interest. In the event a director has an interest in
an investment or proposed investment of the Company or other conflict of
interest, it is the Company's policy that such director not participate in the
Company's decision-making with respect thereto and that any transactions with
such officers or directors be on terms consistent with industry standards and
sound business practices.
UNCERTAINTY OF ESTIMATES OF OIL AND NATURAL GAS RESERVES. Estimates of the
Company's proved oil and gas reserves and projected future net revenues
appearing elsewhere herein are based on reserve reports prepared by independent
petroleum engineers. The estimation of reserves requires substantial judgment on
the part of the petroleum engineers, resulting in imprecise determinations,
particularly with respect to new discoveries. Different reserve engineers may
make different estimates of reserve quantities and revenues attributable thereto
based on the same data. Estimates of proved undeveloped reserves, which comprise
a substantial portion of the Company's reserves, are by their nature less
certain. The accuracy of any reserve estimate depends on the quality of the
available data as well as engineering and geological interpretation and
judgment. Results of drilling, testing and production and changes in the
assumptions regarding decline and production rates, crude oil prices, revenues,
taxes, capital expenditures, operating expenses, geologic success and quantities
of recoverable crude oil may vary substantially from those assumed in the
estimates, may result in revisions to such estimates and could materially affect
the estimated quantities and related value of reserves set forth herein. The
estimates of future net revenues reflect oil and gas prices as of the date of
estimation, without escalation. There can be no assurance, however, that such
prices will be realized or that the estimated production volumes will be
produced during the periods indicated. Future performance that deviates
significantly from the reserve reports could have a material adverse effect on
the Company.
SERVICE AND ENFORCEMENT OF LEGAL PROCESS. The Company is continued under the
laws of the Yukon Territory in Canada. One of the directors of the Company, and
certain experts utilized by the Company, are residents of Canada and all or
substantially all of such persons' assets are located outside of the United
States. As a result, it may be difficult for holders of the Common Shares to
effect service within the United States upon the director and experts who are
not residents of the United States or to realize in the United States upon
judgments of courts of the United States against such persons and the Company
predicated upon civil liability under the United States federal securities laws.
The Company has been advised by its counsel that there is no assurance that
judgments of U.S. courts for liabilities predicated solely upon U.S. federal
securities laws will be enforceable in Canada against the Company or against any
of its directors or experts who are not residents of the United States.
MARKETS. There is substantial uncertainty as to the prices which the Company
may receive for production from its existing oil reserves or from additional oil
and gas reserves, if any, which the Company may discover. The availability of a
ready market and the prices received for oil and gas produced depend upon
numerous factors beyond the control of the Company including, but not limited
to, adequate transportation facilities (such as pipelines), the marketing of
competitive fuels, fluctuating market demand, governmental regulation and world
political and economic developments. Prices for crude oil are subject to wide
fluctuation in response to relatively minor changes in supply and demand, market
uncertainty and a variety of additional factors that are beyond the control of
the Company. It is possible that, under market conditions prevailing in the
future, the production and sale of oil, if any, from certain of the Company's
properties may not be commercially feasible and the production of gas from the
Company's oil and gas interests in Colombia is not currently commercially
feasible. The sale of oil from the production tests on the Company's properties
in Colombia has been sold to Ecopetrol.
COMPETITION. Oil and gas exploration is extremely competitive in all of its
phases and particularly in exploration for and development of new sources of
crude oil and natural gas. The Company must compete with other companies that
are larger and financially stronger in acquiring properties suitable for
exploration, in contracting for drilling equipment and in securing trained
personnel.
REGULATION. The Company's operations are subject to regulations imposed by
the local regulatory authorities including, without limitation, currency
regulation, import and export regulation, taxation and environmental controls.
The regulations also generally specify, among other things, the extent to which
properties may be acquired or relinquished, permits necessary for drilling of
wells, spacing of wells, measures required for preventing waste of oil and gas
resources and, in some cases, rates of production and sales prices to be charged
to purchasers. Specifically, Colombian operations are governed by a number of
ministries and agencies including Ecopetrol, the Ministry of Mines
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<PAGE>
and Energy, and the Ministry of the Environment. It is possible that the
administration and enforcement of current environmental laws and regulations or
the passage of new environmental laws or regulations in Colombia could result in
substantial costs and liabilities in the future or in delays in obtaining the
necessary permits to conduct and expand the Company's operations in such
country. The Company has experienced and may continue to experience delays in
obtaining the necessary environmental permits to expand its operations in
Colombia.
FORWARD-LOOKING INFORMATION
All statements other than statements of historical fact contained herein,
including statements in "Management's Discussion and Analysis of Financial
Condition and Results of Operations," "Business" and "Properties," are
forward-looking statements. Forward-looking statements in this Prospectus
generally are accompanied by words such as "anticipate," "believe," "estimate,"
"project," "potential" or "expect" or similar statements. Although the Company
believes that the expectations reflected in such forward-looking statements are
reasonable, no assurance can be given that such expectations will prove correct.
Factors that could cause the Company's results to differ materially from the
results discussed in such forward-looking statements include the aforementioned
risks, such as the uncertainty of costs associated with exploratory drilling,
drilling results and reserve estimates, operating hazards, need for additional
capital, competition from other exploration, development and production
companies, the fluctuations of the prices received or demand for the Company's
oil and gas, and the effects of governmental and environmental regulation. All
forward-looking statements included herein are expressly qualified in their
entirety by the cautionary statements in this paragraph.
HISTORY AND ORGANIZATIONAL STRUCTURE
Seven Seas became subject to the laws of the Yukon Territory in August 1996.
Seven Seas was formed effective June 29, 1995 as a result of an amalgamation
(the "Amalgamation") under the laws of the province of British Columbia of Rusty
Lake Resources Ltd. ("Rusty Lake") and Seven Seas Petroleum Inc. (the
"Predecessor"), which was incorporated under the laws of British Columbia on
February 3, 1995. Under the terms of the Amalgamation, the shares of Rusty Lake
were exchanged for shares of Seven Seas on a 35-to-1 basis, while the shares of
the Predecessor were exchanged for shares of Seven Seas on a 1-to-1 basis. Rusty
Lake was formed by an amalgamation of the Lithium Corporation of Canada, Limited
and Stockgold Resources Inc. under the laws of Ontario effective January 31,
1993. Prior to the Amalgamation, Rusty Lake was a mineral exploration and
development corporation whose common shares were quoted for trading on The
Canadian Dealing Network.
The Company's principal executive office is located at Suite 960, Three Post
Oak Central, 1990 Post Oak Boulevard, Houston, Texas 77056, and its telephone
number is (713) 622-8218. The Company's operations are managed from its Houston,
Texas headquarters which consists of a staff of seven employees, using
professional consulting services as needed. The Company also maintains an
exploration office in Denver, Colorado with a staff of two employees.
The Company, through a wholly owned subsidiary, owns a 62.963% membership
interest in Cimarrona Limited Liability Company ("Cimarrona"). The remaining
37.037% membership interest is owned by MTV Investments, Limited Partnership, a
party at arms' length to the Company. Cimarrona owns a 25.38% interest in the
Dindal and Rio Seco Association Contracts. All of the Company's other
subsidiaries are wholly owned.
Financial information about foreign operations may be found in Notes 8 and
11 of the Notes to Consolidated Financial Statements contained in Item 13 below.
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ITEM 2. SELECTED FINANCIAL DATA.
The following selected financial data should be read in conjunction with the
Consolidated Financial Statements and Notes thereto included herein.
<TABLE>
<CAPTION>
PERIOD FROM INCEPTION
SIX MONTHS SIX MONTHS YEAR ENDED (FEBRUARY 3, 1995)
ENDED ENDED DECEMBER 31, THROUGH
JUNE 30, 1997 JUNE 30, 1996 1996 DECEMBER-31,-1995
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<S> <C> <C> <C> <C>
INCOME STATEMENT DATA
Revenues......................... $ 670,901 $ 132,182 $ 575,281 $ 152,383
Net loss......................... (2,858,863) (797,930) (2,194,637) (2,119,985)
Net loss per common share........ (.10) (.06) (0.17) (0.23)
Weighted average shares outstanding 30,033,434 12,817,020 12,971,871 9,247,101
</TABLE>
DECEMBER 31, DECEMBER 31,
JUNE 30, 1997 1996 1995
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BALANCE SHEET DATA
Cash and cash equivalents... $ 8,948,909 $ 10,620,477 $3,365,603
Total assets................ 261,014,164 235,500,982 4,170,437
Current liabilities......... 1,339,486 2,805,665 120,305
Minority interest........... 2,124,170 1,060,433 --
Stockholder's equity........ 187,091,996 167,667,109 4,050,132
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF
OPERATIONS
LIQUIDITY AND CAPITAL RESOURCES
The Company's activities have been funded primarily by proceeds from private
placements of the Company's securities from inception through August 1997,
resulting in aggregate gross cash proceeds of $47,500,000. In 1996, the Company
acquired an additional 36.7% interest in the Association Contracts in Colombia
in exchange for the issuance of the Company's securities valued at $153,091,430
in the aggregate. From inception through June 30, 1997, the Company expended
$10,830,394 for the acquisition, exploration and development of its oil and gas
properties including $9,074,937 with respect to its interests in Colombia and
approximately $1,755,457 with respect to its interests in Australia, Papua New
Guinea, Argentina, Turkey and other countries, of which $1,144,668 has been
expensed through June 30, 1997. This amount included $500,800 for the cost of an
option to acquire a 5% participating interest in three exploration blocks in
North Africa. The Company declined to exercise the option and expensed the cost.
Additionally, the Company expensed $622,006 associated with a dry hole in the
San Jorge Basin, Argentina. The Company's activities in North Africa, Argentina
and Turkey have been discontinued.
COLOMBIA. The Company is required to drill a well on each of the Rio Seco
and Dindal blocks by August and September 1997, respectively, at an estimated
total cost to the Company of approximately $5,900,000, to fulfill its work
commitments for the current contract year. The Tres Pasos #1 and El Segundo #3
wells are intended to fulfill these obligations. In 1997, the Company also plans
to drill at least two additional wells on the Dindal block and to conduct
seismic operations at an aggregate estimated cost to the Company of
approximately $7,700,000. The Company may also spend up to an additional
$400,000 in operating costs. An exploration well is also required to be drilled
on the Tapir block at an estimated proportionate cost to the Company of
$250,000.
For the first six months of 1997 and the last six months of 1996, the
Company had oil and gas sales of $436,333 and $233,682, respectively, which
pertained solely to production testing of the Company's two wells in Colombia.
These sales represented the Company's only sales of production since its
inception. Although the Company intends to continue to sell oil resulting from
production tests, significant production from the El Segundo #1 well and the El
Segundo #2 well is not expected to commence until further work is done to
evaluate the field through the drilling of additional wells, and producing
facilities and pipelines have been constructed. Although the Company has
solicited proposals for various pipeline options, the substance and timing of
any decision regarding appropriate pipeline and production facilities will
depend on the results of the evaluation and appraisal of the Company's
discovery.
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AUSTRALIA AND PAPUA NEW GUINEA. The Company has entered into an agreement to
sell its Southern Perth Basin permits. (EP381 and EP408) "See Item 3.
Properties--Australia--Southern Perth Basin Permits." The Company intends to
divest or farmout its interests in other properties in Australia and its
property in Papua New Guinea.
The operator of the Bass Basin permit in Australia plans to drill an
exploratory well on a prospect located 10 kilometers north of the Yolla Field,
which was discovered by Amoco in the mid-1980's, and has applied for a permit
extension until a suitable rig can be contracted. "See
Properties--Australia--Bass Basin, Block T27P." As the operator is also seeking
additional participants in the block to share the cost of the well, which is
estimated to be $5,000,000, the estimated cost of the well to the Company cannot
now be determined. The Company is obligated to participate in this well with a
20% interest, unless it first divests or farms out its interest.
The cost of the first year work program for PPL-182 in Papua New Guinea was
completed at a total cost of approximately $116,000. Based on the results of the
first year program, the Company has decided to proceed with the second year work
program, subject to divestiture or farmout. The second year program is expected
to cost the Company approximately $500,000.
WORKING CAPITAL. The Company had working capital of $7,771,887 as of June
30, 1997 and realized an additional $23,400,000 in cash proceeds in August 1997
from a private placement of convertible debentures described below. See
"--Convertible Debentures." Current funds on hand will not be sufficient to meet
all planned exploration and development costs. Therefore, additional financing
will be necessary to complete these projects prior to the start-up of production
and generation of cash flows from the Company's oil discovery in Colombia in
quantities sufficient to cover operating expenses related thereto. In addition,
it is anticipated that the Company's future exploration activities with respect
to its current properties and any additional properties which may be acquired
will require substantial amounts of additional capital which the Company may be
required to raise through debt or equity financing, encumbering properties or
entering into arrangements whereby certain costs of exploration will be paid by
others to earn an interest in the property. There can be no assurance that the
additional debt or equity financing expected to be necessary to fund the
Company's operations and obligations will be available to the Company on
economically acceptable terms. If sufficient funds are not available to meet the
Company's obligations with respect to a property, the Company may elect to
forfeit its interest in such property. The Company does not anticipate that it
will forfeit its interests in such property within the next 18 months and
intends to use the proceeds of the recently completed $25 million debt offering
to meet its current drilling obligations and for general corporate purposes.
CONVERTIBLE DEBENTURES
In August 1997, the Company issued $25 million of Special Notes in a private
transaction to institutional and accredited investors. Interest on the Special
Notes is due and payable in arrears at a rate of 6% per annum on December 31 and
June 30 in each year until maturity, commencing on December 31, 1997.
The Special Notes are exchangeable for a like principal amount of
convertible redeemable debentures (the "Debentures") on or before August 7,
1998. The Special Notes will be deemed to be exchanged upon the earlier to occur
of (i) the effectiveness of a registration statement under the Securities Act of
1933, as amended (the "Securities Act"), covering the resale of the Debentures
and compliance by the Company with certain Canadian securities requirements and
(ii) August 7, 1998. The Debentures are convertible into units (the "Units") on
the basis of one Unit for each $11.50 principal amount of Debentures outstanding
(initially 2,173,913 Common Shares), subject to adjustment. Each Unit consists
of one common share and one-half of a common share purchase warrant (the
"Warrants"). The Debentures mature on August 7, 2003. Each whole Warrant is
exercisable for one common share at an exercise price of $15.00 per share. The
Warrants expire August 7, 1998.
At the option of the Company, the Debentures are convertible into common
shares if a registration statement for resale of the common shares has been
declared effective under the Securities Act and has been effective during the
seven-day notice period required by the Company to the holders of Debentures of
its intent to exercise its conversion rights, provided that the Company's common
shares have traded at or above U.S. $14.00 per share for 20 consecutive trading
days on the Toronto Stock Exchange.
The Special Notes and Debentures are secured by a pledge of the shares of
the Company's subsidiaries and a guarantee by Seven Seas Petroleum Holdings Inc.
-7-
<PAGE>
RESULTS OF OPERATIONS
The Company reported net losses of $2,858,863 ($.10 per share) for the six
months ended June 30, 1997, $797,930 ($.06 per share) for the six months ended
June 30, 1996, $2,194,637 ($.17 per share) for the year ended December 31, 1996
and $2,119,985 ($.23 per share) for the period from inception through December
31, 1995. Oil revenues for the first six months of 1997 and the 1996 calendar
year were $436,333 and $233,682, respectively. Production costs for the same
periods were $231,155 and $252,504, respectively. Oil revenues and production
costs in 1996 occurred in the second half of the year. Oil revenues and the
associated production costs pertained solely to production testing of two wells
in Colombia.
General and administrative costs increased from $1,070,765 for the period
from inception through December 31, 1995 to $2,452,546 for the year ended
December 31, 1996 primarily as a result of a full year of expenses incurred by
the Company in 1996 as compared to 1995, and the increase in activities
associated primarily with the acquisition of GHK Company Colombia, Esmeralda LLC
and Cimarrona. Additionally, general and administrative costs increased
significantly for the first six months of 1997 to $3,281,260 as compared to only
$892,391 for the first six months of 1996. These increases occurred principally
as a result of the expansion of the Company's activities, the acquisition of
additional interests in the Association Contracts in Colombia, costs associated
with listing the Company's securities on the Toronto Stock Exchange, additions
to the professional staff as well as severance payments and related compensation
costs associated with former executives of the Company. Depreciation and
amortization increased also from $37,671 for the period from inception through
December 31, 1995 to $111,334 for the year ended December 31, 1996 primarily as
a result of the acquisitions mentioned above and the inclusion of a full year of
depreciation expense for the Company in 1996.
Colombian oil production (net to the Company, including minority interest)
of 30,748 barrels in the first six months of 1997 and 14,188 barrels in 1996
pertained solely to the Company's share of oil produced from production testing
of the Company's two wells and was sold to Ecopetrol at an average price of
$14.19 per barrel in 1997 and $16.47 per barrel in 1996.
Interest income increased from $152,383 for the period from inception
through December 31, 1995 to $341,599 for the year ended December 31, 1996, and
from $132,182 for the first six months of 1996 to $234,568 for the first six
months of 1997, as a consequence of higher cash balances resulting from the
private placements of the Company's securities.
ITEM 3. PROPERTIES.
COLOMBIA
DINDAL AND RIO SECO ASSOCIATION CONTRACTS; MAGDALENA BASIN
INTRODUCTION AND REGIONAL OVERVIEW. Colombia is the fourth largest country
in South America, with a total land area of more than 440,000 square miles and a
population of more than 35 million. Colombia has a strong, stable and
diversified economy. According to publicly available information, Colombia's
Gross Domestic Product ("GDP") has grown by an average of 4% annually in the
last ten years, approximately twice the average for Latin America. Colombia is
the only country in South America that did not have a single year of negative
GDP or declining per capita income growth in the 1980s and the 1990s. Colombia
recently introduced legislation to attract foreign investment in energy
projects. The measures include the exemption of new oil operations from the $1/b
tax which was levied in 1992 to finance protection of oil operations.
According to publicly available information, the U.S. is Colombia's largest
trading partner, accounting for more than 43% of that country's total imports
and 38% of its total exports. The U.S. is also the top provider of eight of
Colombia's 15 largest imports. U.S. Oil companies now account for 11 of the 18
largest foreign oil concerns operating in the country. Colombia is Latin
America's third leading crude exporter to the U.S., after Venezuela and Mexico.
Colombia is the only country in South America that has seaports on both the
Pacific and Atlantic Oceans, which provide access to major oil markets. The
country has two main crude oil export pipelines leading to the port of Covenas
in Colombia. The pipeline from Cano Limon has a maximum capacity of 200,000
BOPD, and the second pipeline from
-8-
<PAGE>
Vasconia has recently been expanded to 300,000 BOPD. A 500,000 BOPD pipeline
connecting Vasconia to Covenas is scheduled for operation in late 1997.
The geology of Colombia has been studied since the mid-1800s and has
continued to the present, amassing some detail of the tectonic framework and
related stratigraphy. During the evolution of the geological knowledge of
Colombia, oil and natural gas exploration has been pursued in the Llanos,
Putumayo and Magdalena basins. Exploration in the Magdalena Valley Basin began
in 1918 with the drilling of the Guataqui wells in the Girardot subbasin,
followed in 1951 by the Ortega discovery. As of December 1993, 210 exploratory
wells had been drilled, resulting in the discovery of 30 fields.
Two major physiographic features dominate the geography of Colombia. To the
west lie the Andes mountains, which, north of the Ecuador border, bifurcate into
three ranges, the Western, Central and Eastern Cordillera, extending toward the
Caribbean coast. These ranges are separated by the Cauca and Magdalena valleys,
respectively. To the east lies the Llanos, a savanna within the bounds of the
Orinoco Basin, which extends over the remainder of the country.
Association Contracts acquired from Ecopetrol, after being approved by all
proper Colombian governmental authorities as well as the board of Ecopetrol, are
mutually executed by the parties and subsequently recorded as a public deed in
Colombia. Therefore, ownership of an Association Contract is of public record
and protected by Colombian law.
-9-
<PAGE>
This page consists of a map outlining the Republic of Colombia, South
America and portions of the bordering countries of Venezuela, Brazil, Peru and
Ecuador. The Company's Dindal and Rio Seco Blocks and the Tapir Block are shown
in yellow; producing oil fields are indicated by green ovals and the Cusiana,
Cano Limon-Guafita and Shushufindi oil fields are also identified by name; oil
pipelines are indicated by green lines, including outlets to the Pacific Ocean
and Caribbean Sea. The map references distance measurements in kilometers and
miles.
-10-
<PAGE>
This page consists of a map entitled: "Emerald Mountain Cimarrona
Structure." The map references distance measurements in miles, and shows the
depth in feet of certain areas. The map shows the location of the El Segundo #1
and El Segundo #2 oil wells, the appraisal locations of El Segundo #3 and Tres
Pasos #1 wells and additional proposed appraisal locations. The map also shows
the location of additional wells drilled in the area, the potential oil field
area and location of the Guaduas Fault.
-11-
<PAGE>
The Company's principal asset is a 57.7% interest in the Association
Contracts with Empresa Colombiana de Petroleos, the Colombian national oil
company ("Ecopetrol"), which entitle the Company to engage in exploration,
development and production activities in approximately 106,000 acres located in
the oil producing Magdalena Basin, about 90 kilometers northwest of Bogota. The
area is accessible via the main road between Bogota and Honda. The village of
Guaduas lies within the block and provides infrastructure for the local economy
which is primarily agrarian in nature. The remaining interests are owned by MTV
Investments Limited Partnership (9.4%) and Sociedad Internacional Petrolera,
S.A. ("Sipetrol") (32.9%). Sipetrol is the international exploration and
production subsidiary of the Chilean national oil company.
Recent discoveries in the Magdalena Basin include Amoco's Opon Field,
located approximately 170 kilometers north of the prospect area, and Lasmo's
Venganza/Revancha complex, located approximately 150 kilometers to the south.
The main Rio Magdalena oil pipelines (12" to 20" diameters) lie approximately 20
kilometers west of the prospect area and provide an opportunity for oil
transportation from the Company's discovery. Early production from the discovery
well and subsequent wells in Dindal and Rio Seco blocks, subject to further
engineering and economic studies, will likely be truck transported by road to an
oil terminal on the Rio Magdalena pipeline system approximately 78 miles away,
prior to full field development and pipeline installation.
PROSPECT GEOLOGY. The Dindal structure is formed by a faulted anticlinal
closure in the foot wall of the Bituima thrust fault system on the eastern side
of the Rio Magdalena river valley. The primary oil reservoir is the Upper
Cretaceous Cimarrona formation which is comprised of both limestones and
sandstones in the vicinity of the Dindal structure. These reservoir sequences
are charged with oil generated from the immediately underlying Villeta (also
called LaLuna) shale which is considered the principal source rock for the oil
accumulations throughout Colombia and Venezuela.
The Cimarrona formation is seen in surface outcrop to the north and west of
the structure, as well as in the Lasmo Madrigal #1 well, the AIPC Quina #1 well
and the Company's El Segundo #1 and #2 wells. From this geologic control
information, the Cimarrona is shown to be depositionally complex, exhibiting
changes in both gross thickness and rock types in the region of the Dindal
structure. In the Madrigal #1 well, the Cimarrona is approximately 1,600 feet
thick with mixed rock types including sandstones, conglomerates, siltstones and
shales. Approximately nine kilometers east in the El Segundo #2 well, the
Cimarrona has thinned to approximately 450 feet in thickness and contains
limestones, calcareous sandstones, and siltstones. Additional data from
appraisal wells concerning these variations is required before oil reserves can
be reliably assessed for the structure and an appropriate field development plan
drafted.
Evidence for the structural trap is found in both seismic data over the
prospect and in surface geologic mapping. The trapping mechanism is believed to
be formed by structural closure in three directions (north, south and west), and
an imbricate fault within the Bituima Fault system to the east, which is
evidenced in the Escuela #1 well which was drilled in 1994, prior to the
acquisition of an interest in the block by the Company, and was plugged and
abandoned as a dry hole. The Escuela #1 well is located four kilometers
southeast of the El Segundo #1 well location and encountered Tertiary and
Cretaceous shales and siltstones from surface to total depth. This predominantly
shale section, emplaced by thrust faulting adjacent to the Cimarrona reservoir
section, is believed to form the eastern critical element of the trap for the
prospect.
EXPLORATION ACTIVITY. The El Segundo #1 discovery well commenced drilling in
December 1995 and reached total depth in mid-January 1996. The well reached the
objective Cimarrona formation at a depth of 5,630 feet, but stopped drilling
after penetrating only 88 feet of the Cimarrona due to circulation problems
encountered while drilling. The well was then completed for testing in February
1996 and drill stem tests recovered 19(degree) API oil at surface limited rates
of 300-500 barrels per day. Operations were then suspended pending receipt of a
permit to transport produced oil by truck from a long-term production test.
Permits for the long-term production test were received in late June 1996 and
production testing commenced in early July. Tests using electric submersible
pumps produced oil at rates of 3,400 barrels per day. No aquifer water was
produced during the tests, and analysis of reservoir pressure response during
testing and the shut-in period following testing showed no evidence of reservoir
boundaries, geologic complexities or oil-water contact. Analysis of oil
recovered during testing showed 19(degree) API gravity, low sulphur crude oil,
with reservoir temperature of 120(degree)F and pressure of 1,640 psi (at
collection datum). Following testing during July and August 1996, El Segundo #1
was shut-in to allow drilling of the El Segundo #2 well from the same surface
location.
-12-
<PAGE>
The El Segundo #2 well commenced drilling in early September 1996 and
reached total drilling depth of 6,820 feet in late October. The well was
intentionally deviated from the surface location of the El Segundo #1 well to a
bottom hole location some 2,000 feet north of the surface location. The well
encountered approximately 450 feet of oil saturated and highly fractured Upper
Cretaceous Cimarrona formation at a drilling depth of 6,052 feet (vertical depth
of 5,588 feet). The well was completed for testing in November, and five drill
stem tests were conducted in late November through February. The first two tests
in the upper Villeta formation and the lower Cimarrona formation recovered no
oil and have been interpreted to be low permeability. The last three tests,
conducted in separate intervals of the upper Cimarrona between 6,052 and 6,280
feet, produced oil at rates from 3,866 to 6,154 barrels per day each. Following
these tests in February 1997, production tests were conducted of the combined
interval between 6,052 and 6,315 feet. These tests produced oil at rates as high
as 8,948 barrels per day. Analysis of reservoir pressure performance during and
following the production testing in El Segundo #2 well supported the conclusions
from the production testing of the El Segundo #1 well in July and August 1996.
The El Segundo #3 well has been drilled to a total depth of 6,920 feet.
Production testing on this well has commenced with results expected in late
September 1997.
There can be no assurance that the Company will be able to discover, develop
and produce sufficient reserves in Colombia or elsewhere to recover the costs
and expenses incurred in connection with the acquisition, exploration and
development thereof and achieve profitability.
The first well for the Rio Seco Association Contract, the Tres Pasos #1
well, commenced drilling on September 10, 1997. The Tres Pasos #1 well is an
appraisal well and is located some 2.5 kilometers northwest of the surface
location of the El Segundo #1 and #2 wells. The Company plans to drill up to two
additional wells on the Dindal block in 1997 and to acquire permits for a
seismic survey to further delineate the areal extent and reservoir geology of
the structure.
The Company and its partners have paid all costs of the exploration program
under the Association Contracts to date. Under the terms of the Dindal and Rio
Seco Association Contracts, the Company and its partners are required to drill
one well on each contract per year through 1999 and 2001, respectively, and will
continue to bear all exploration costs relating to a field until such field is
declared commercial. The Company plans to submit a commerciality application to
Ecopetrol in 1998 with respect to its discovery.
GHK Company Colombia, a wholly-owned subsidiary of the Company, serves as
the operator of the joint venture to develop the Dindal and Rio Seco blocks,
pursuant to the terms of operating agreements between the Company, its
respective subsidiaries and its joint venture partners. GHK Company Colombia has
exclusive charge of carrying out the program of operations within the budgets
approved by the operating committee and may demand payment in advance from each
party of its respective shares of estimated monthly expenditures.
TERMS OF ASSOCIATION CONTRACTS AND RELATED MATTERS. The Association
Contracts were issued by Ecopetrol in March 1993 and August 1995, respectively,
and provide generally for a six year exploration phase followed by a 22-year
production period, with partial relinquishments of acreage, excluding commercial
fields, required commencing at the end of the sixth year of each contract. Under
the terms of the Association Contracts, Ecopetrol will receive a royalty equal
to 20% of production (after pipeline tariffs are deducted) on behalf of the
Colombian government and, in the event a commercially feasible discovery is
made, Ecopetrol will acquire a 50% interest in the remaining production, bear
50% of the development costs, and reimburse the joint venture, from Ecopetrol's
share of future production, for 50% of the joint venture's costs of certain
exploration activities. Upon acceptance of a field as commercial, Ecopetrol will
acquire a 50% interest therein and the interests of the other parties to the
contract, including the Company, will be reduced by 50%; all decisions regarding
the development of a commercial field will be made by an Executive Committee
consisting of representatives of the parties to the contract who will vote in
proportion to their respective interests in such contract. Decisions of the
Executive Committee will be made by the affirmative vote of the holders of over
50% of the interests in the contract.
If any commercial field in the respective contract areas produces in excess
of 60 million barrels, Ecopetrol's interest in production and costs for such
contract area increases as follows: (i) under the terms of the Dindal
Association Contract, such increases occur in 5% increments from 50% to 70% as
accumulated production from any field increases in 30 million barrel increments
from 60 million barrels to 150 million barrels; and (ii) under the terms of the
Rio Seco Association Contract, Ecopetrol's interest increases from 50% to 75% as
the ratio of the accumulated income attributable to the parties to the contract
other than Ecopetrol to the accumulated development, exploration and operating
costs of such parties (less any expenses reimbursed by Ecopetrol) increases from
one to one to two to one.
-13-
<PAGE>
Under the terms of the Association Contracts, in the event a discovery is
made and is not deemed to be commercially feasible by Ecopetrol, the joint
venture may expend up to $2 million over a one-year period to further develop
the field, 50% of which will be reimbursed if Ecopetrol subsequently accepts the
commercial feasibility thereof. If Ecopetrol does not declare the field
commercial, the joint venture may continue to develop the field at its own
expense. In such event, Ecopetrol will have the right to acquire a 50% interest
therein upon payment of 200% of the amounts expended by the joint venture, which
payment may be made out of Ecopetrol's share of future production.
Oil produced from the Dindal block to date under the long term production
tests has been sold to Ecopetrol. Upon Ecopetrol's declaration of the
commerciality of the Company's discovery, oil produced from the Dindal and Rio
Seco blocks may be sold to Ecopetrol or to third parties provided that 75% of
the purchase price is paid in U.S. dollars and the remainder in Colombian pesos.
In the event the production is required to satisfy internal demand for oil in
Colombia, the Company may be required to sell some or all of its production to
Ecopetrol at prevailing market prices.
The Company's net income, as defined under Colombian law, from Colombian
sources is subject to Colombian corporate income tax at a rate of 35%. An
additional remittance tax is imposed upon remittance of profits abroad at a rate
of 7%.
ACQUISITION OF INTEREST. Pursuant to an agreement dated August 14, 1995, as
amended, the Company acquired from GHK Company Colombia, a 15% interest in the
Association Contracts in consideration of the payment of approximately $106,000
and its share of the cost of drilling, testing and completing the El Segundo #1
well and its proportionate share of the obligations for the first year of the
Rio Seco Association Contract. The Company acquired an additional 36.7% interest
in the Association Contracts indirectly through its acquisition of 100% of the
outstanding securities of GHK Company Colombia and Esmeralda Limited Liability
Company and its acquisition of 62.963% of the outstanding securities of
Cimarrona Limited Liability Company. For a more particular description of these
transactions, see "Certain Transactions."
The Company acquired a 6% interest in the Association Contracts indirectly
through its acquisition of 100% of the outstanding securities of Petrolinson
S.A. (Petrolinson"), the holder of such 6% interest, in consideration of the
issuance of 1,000,000 Common Shares to the shareholder of Petrolinson. As the
holders of the remaining 94% interest in the Association Contracts, including
the Company, had previously agreed to pay 100% of the exploration costs
attributable to such 6% interest through the exploration period, approximately
45% of the exploration costs for the Association Contracts attributable to the
6% interest acquired by the Company are paid by the other holders of interests
in the Association Contracts. The exploration period will terminate upon
Ecopetrol's declaration of the commerciality of a field.
Under the terms of a letter agreement dated September 11, 1992, as amended,
between GHK Company Colombia and Dr. Jay Namson, the holders of interests in the
Association Contracts, as a group, will be required to assign a 2% working
interest in the Dindal Association Contract and the Rio Seco Association
Contract to Dr. Namson after recovery from production of 100% of all costs
incurred in connection with the exploration and development of the Dindal and
Rio Seco blocks since the completion of the first year work obligations under
the Dindal Association Contract. Accordingly, when such costs have been
recovered, the Company will be required to assign to Dr. Namson 2% of its
interests prior to the acquisition of the 6% Petrolinson interest (or a 0.517%
interest in each Association Contract, after adjusting for the acquisition of a
50% interest by Ecopetrol which is expected to occur prior to the assignment to
Dr. Namson).
TAPIR ASSOCIATION CONTRACT, LLANOS BASIN
INTRODUCTION. The Company acquired an 11.875% interest in the Tapir
Association Contract (the "Tapir Association Contract") in April 1996. The Tapir
block consists of 250,000 acres located in the Llanos Basin of east central
Colombia and is crossed by two oil pipelines carrying production from nearby oil
fields. Other Tapir Association Contract interests are held by Ampolex (56.25%),
Mohave Oil & Gas Corp. ("Mohave") (10.205%), Doreal Energy (11.67%) and Heritage
Minerals Colombia ("Heritage Minerals") (10%), which serves as the operator.
EXPLORATION PROSPECTS. There are three exploration prospect types on the
Tapir block: several conventional Llanos Basin small structural closures, a deep
Paleozoic anomaly and two basal Cretaceous stratigraphic prospects. The small
structural closures are relatively low risk, but are expected to have low
reserves potential (10-30 MMBO each). The Paleozoic prospect is of geologic
interest, but relies on unproven source and reservoir rocks, and is therefore
high risk
-14-
<PAGE>
until further geologic work can be completed. The geologic risk for the two
Cretaceous stratigraphic prospects depends on the effectiveness of the lateral
seal between the Ubaque sandstone and the adjacent Paleozoic section.
The Mateguafa prospect, one of the small structural closures in the central
portion of the Tapir block, has been selected as the first exploration drill
site in the Tapir block and is expected to commence drilling in late 1997 or the
first quarter of 1998, following receipt of required permits from the Ministry
of Environment.
EXISTING WELL. In 1993, the Macarenas #1 well, a discovery well, was drilled
on the Tapir block and produced 320 BOPD in a short-term test, but was not
completed for production. Since the well was drilled and tested, additional oil
pipeline infrastructure has been built in the area. The operator plans to place
the well on long-term production test after the completion of the exploratory
well to determine sustainable production rates and the extent of the reservoir.
TERMS OF TAPIR CONTRACT. The Tapir Association Contract was effective on
February 6, 1995 on terms substantially similar to the Rio Seco Association
Contract. Heritage Minerals, the Tapir Association Contract operator, has
completed an 83 kilometer seismic program in the field, which satisfied the work
program for the first year of the Tapir Association Contract and part of the
second year. The commitment for the second year well has been extended and the
exploration well required in the second year work program is expected to
commence drilling in late 1997 or the first quarter of 1998.
The Company acquired its interest in the Tapir Association Contract in April
1996 in consideration of the payment for $104,000 which represents reimbursement
for past seismic costs and permit administration, and its agreement to pay its
proportionate share of the costs of a seismic program, the first exploratory
well, the production test on the Macarenas #1 well (assuming the parties elect
to proceed therewith) and certain additional costs to earn its interest in the
Tapir Contract. The Company estimates that its proportionate share of these
costs, which are required to be paid to retain its interest in the Tapir
Association Contract, is approximately $300,000.
AUSTRALIA
The following is a description of the Company's interests in Australia,
which the Company plans to divest or farmout.
SOUTHERN PERTH BASIN PERMITS
The Company holds an 11.77% working interest in Exploration Permit 381
("EP381") and Exploration Permit 408 ("EP408"), both of which relate to
properties that are located in the southern Perth Basin, Western Australia.
Other interests in these permit areas are held by: Pennzoil (44.115%), Amity Oil
(30.115%) and GeoPetro Company (14%).
The Company has entered into a letter of intent with respect to the sale of
its interests in EP 381 and EP 408 for $850,000. In addition, the Company would
reserve a small overriding royalty in each permit. Consummation of the
transaction contemplated by the letter of intent is subject to several
conditions, including obtaining approvals of third parties and governmental
authorities. No assurance can be given that the Company will complete this sale.
BASS BASIN, BLOCK T27P
The Company holds a 20% working interest in Block T27P, a 1.8 million acre
block in approximately 70 meters of water, in the Bass Basin, the central of
three basins offshore southern Australia. The easternmost basin is the Gippsland
Basin where BHP Petroleum and Esso have a series of large oil and gas fields.
The westernmost basin is the Otway Basin, the site of recent gas discoveries by
BHP Petroleum and others which will likely serve the South Australia and
Victoria gas market. The T27P block lies about halfway between the Victoria
coast to the north and the Tasmania coast to the south (about 90 kilometers each
way). The Bass Basin has been the site of a series of gas and oil shows and
discoveries, including the Yolla Field, which is adjacent to Block T27P. The
Yolla Field was discovered by Amoco in the mid-1980's and has not yet been
appraised or developed.
Globex Exploration, the operator of the permit with an 80% working interest,
was granted the Offshore Petroleum Exploration Permit effective August 10, 1994
(the "Bass Basin Permit"). Globex completed a 1,000 kilometer 2D seismic program
in the block. The remaining work commitment in the block consists of a 3D
seismic survey and two exploration wells. Globex has selected a drillable
prospect some 10 kilometers north of the Yolla Field and is seeking
-15-
<PAGE>
additional participants in the block to share the cost of an exploratory well
which is estimated to be approximately $5 million. As suitable drilling rigs are
not available in the near term, Globex has applied for a permit extension in the
block until a suitable rig can be contracted.
In March 1996, the Company acquired a six-month option to purchase its
interest in the block for $250,000 and exercised that option in September 1996.
Pursuant to the terms of the option agreement, the Company may elect to farmout
up to 50% of its interest in the Bass Basin Permit. In addition, if Globex
Exploration and the other interest holders seek to enter into a farmout, the
Company has agreed to participate proportionally with such parties in such
farmout provided that its interest may not be reduced below 10%.
PAPUA NEW GUINEA
The following is a description of the Company's permit in Papua New Guinea.
PERMIT PPL-182
The Company holds 100% of exploration permit PPL-182 in southern Papua New
Guinea effective June 11, 1996. The permit covers an area of 1,200,000 acres
located both onshore and offshore in the Fly River Delta and the Gulf of Papua.
The nearest discovery to the permit area is the Pandora Gas Discovery
located in PPL-82 approximately 150 kilometers to the east in the Gulf of Papua.
The International Petroleum Corporation and Chevron announced in March 1996 a
feasibility study for the delivery of gas from the Pandora Gas Field and from
other fields in Papua New Guinea to be transported south to northern Australia.
Past exploration activity within PPL-182 has resulted in the acquisition of
seismic data and the drilling of several exploration wells. The Company's first
year work program consisted of a geological and geophysical review of existing
data. Based on the results of this study, the Company has decided to proceed
with the second year's work commitment which provides for seismic reprocessing
and acquisition of a high resolution aeromagnetic survey and is expected to cost
approximately $500,000. The Company plans to divest or farmout its interest. If
such divestiture or farmout is unsuccessful, it is the Company's intention to
drop the block if it is unable to secure an industry partner. If the block is
relinquished, the Company's exposure would be forfeiture of its approximate
$40,000 bond.
OTHER PROPERTIES
As a result of the Amalgamation, Seven Seas acquired three mineral
properties owned by Rusty Lake, two of which have been sold. The remaining
property, consisting of a 60% interest in two patented mining parcels located in
Whitney Township in the Province of Ontario, is being offered for sale. The
Company has no plans to explore these mining properties.
Since its inception, the Company has been involved in exploration activities
in Colombia, Australia, Argentina, Turkey and Papua New Guinea. Exploration
activities in Argentina and Turkey have been discontinued and an option for the
right to participate in future exploration activities in North Africa was never
exercised.
SUPPLEMENTARY INFORMATION IN RESPECT OF OIL AND GAS PROPERTIES
RESERVES REPORTED TO OTHER AGENCIES. No estimates of the Company's total
proved net oil and gas reserves have been filed with or included in reports to
any federal authority or agency in the United States.
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<PAGE>
PRODUCTIVE WELLS AND ACREAGE. The following table sets forth the productive
oil and gas wells and developed acreage owned by the Company as of June 30,
1997:
WELLS(1)
------------------------------------------ DEVELOPED ACREAGE
OIL GAS -----------------
GROSS NET GROSS NET GROSS(2) NET
----- --- ----- --- ------ ---
Colombia..... 2 1.154 640 369
-- ----- --- --- --- ---
Total.... 2 1.154 640 369
== ===== === === === ===
- ---------------
1 One or more completions in the same well bore are counted as one well.
2 Assumes 320 acre well spacing.
UNDEVELOPED ACREAGE. The following table sets forth estimates of the
undeveloped acreage for which oil and gas leases or concessions were held by the
Company as of June 30, 1997.
GROSS ACRES NET ACRES
--------------- -------------
Colombia........................ 355,360 90,774
Papua New Guinea................ 1,200,000 1,200,000
Australia....................... 2,694,546 317,148
--------- ----------
Total....................... 4,249,906 1,601,286
========= =========
DRILLING ACTIVITIES. The following table sets forth the number of wells
drilled by the Company since its inception:
<TABLE>
<CAPTION>
EXPLORATORY DEVELOPMENT
---------------------------------- ------------------------------
PRODUCTIVE DRY PRODUCTIVE DRY
---------------- ---------------- ------------- ------------
GROSS NET GROSS NET GROSS NET GROSS NET
----- --- ----- --- ----- --- ----- ---
<S> <C> <C> <C> <C> <C> <C> <C> <C>
Six months ended June 30, 1997 -- -- -- -- -- -- -- --
Year ended December 31, 1996:
Colombia................ 2 1.154 -- -- -- -- -- --
Argentina............... -- -- 1 .25 -- -- -- --
----- ------ --------- ------ ----- --- ----- ---
2 1.154 1 .25
======= ======= ========= ===== ===== === ===== ===
Year ended December 31, 1995:
Australia............... -- -- 1 .1
====== ======== ======== ====== ===== === ===== ===
</TABLE>
PRESENT ACTIVITIES. As of August 15, 1997, one well was in progress in
Colombia.
ADDITIONAL INFORMATION. Reference is made to the Supplemental Oil and Gas
Information (Unaudited) included in the Notes to Consolidated Financial
Statements of the Company included herein for additional information regarding
the Company's oil and gas producing activities prepared in accordance with the
requirements of Statement of Financial Accounting Standards No. 69 "Disclosures
About Oil and Gas Producing Activities."
-17-
<PAGE>
ITEM 4. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT
The following table sets forth certain information as of August 15, 1997
with respect to the beneficial ownership of the Common Shares, by (i) each
person known by the Company to own beneficially more than 5% of the issued and
outstanding Common Shares, (ii) each director of the Company and each of the
Named Officers, and (iii) all executive officers and directors of the Company as
a group.
NUMBER OF PERCENT
BENEFICIAL OWNER COMMON SHARES(1) OF CLASS
- ---------------- ---------------- --------
Robert A. Hefner III ..................... 6,418,300(2) 18%
c/o Seven Seas Petroleum Inc.
Suite 960, Three Post Oak Central
1990 Post Oak Boulevard
Houston, Texas 77056
Breene M. Kerr ........................... 3,030,883(3) 9%
c/o Brookside Company
115 Bay Street
Easton, Maryland 21601
Brian Egolf .............................. 126,386(4) *
Sir Mark Thomson Bt. ..................... 452,566(5) 1%
Robert B. Panero.......................... 779(6) *
Gary F. Fuller............................ 27,000(7) *
James D. Scarlett......................... 25,000(7) *
Herbert C. Williamson, III ............... --(8) --
Timothy T. Stephens....................... 353,500(9) 1%
Albert E. Whitehead....................... 1,246,758(10) 4%
Larry A. Ray.............................. 262,167(11) *
David F. DeCort........................... 236,915(12) *
John P. Dorrier........................... 277,486(13) *
All executive officers and directors
as a group (10 persons)................. 10,857,482(14) 30%
- ---------------
* Less than 1%
(1) Unless otherwise indicated, each of the parties listed has sole voting and
investment power over the shares owned. The number of shares indicated
includes, in each case, the number of Common Shares issuable upon exercise
of stock options ("Options") subject to the Amended 1996 Stock Option
Plan, to the extent that such Options are currently exercisable. For
purposes of this table, Options are deemed to be "currently exercisable"
if they may be exercised within 60 days following August 15, 1997.
(2) Includes 150,000 Common Shares currently issuable upon exercise of
Options, 20,000 shares held by an entity in which Mr. Hefner has a
substantial interest and 3,360,607 Common Shares beneficially owned by Mr.
Hefner and held in escrow pursuant to the Escrow Agreement.
(3) Includes 25,000 Common Shares currently issuable upon exercise of an
Option, consists of [3,005,883] shares beneficially owned by a limited
partnership in which Mr. Kerr serves as a general partner and includes
1,915,216 Common Shares held in escrow pursuant to the Escrow Agreement.
(4) Includes 12,650 Common Shares owned by a member of Mr. Egolf's family,
2,000 Common Shares owned by a trust for the benefit of members of Mr.
Egolf's family, 75,000 Common Shares currently issuable upon exercise of
Options and 39,147 shares held in escrow pursuant to the Escrow Agreement.
(5) Includes 25,000 Common Shares currently issuable upon exercise of an
Option and 199,531 shares held in escrow pursuant to the Escrow Agreement.
(6) Includes 234 shares held by Mr. Panero's wife and 363 shares held in
escrow pursuant to the Escrow Agreement.
(7) Includes 25,000 Common Shares currently issuable upon exercise of an
Option.
(8) Subsequent to August 15, 1997, Mr. Williamson received options for 150,000
Common Shares that are currently exercisable.
(9) Includes 172,000 Common Shares currently issuable upon exercise of
Options. Mr. Stephens resigned as an officer and director of the Company
in May 1997.
(10) Includes 235,000 Common Shares currently issuable upon exercise of Options
and 166,667 Common Shares held in escrow pursuant to the Founder's Escrow
Agreement. Mr. Whitehead resigned as an officer and director of the
Company in May 1997.
(11) Includes 66,667 Common Shares currently issuable upon exercise of an
Option and an additional 194,000 owned by Mr. Ray's wife.
(12) Includes 801 shares owned by Mr. DeCort's wife and 184,000 Common Shares
currently issuable upon exercise of Options.
(13) Includes 266,000 Common Shares currently issuable upon exercise of
Options.
(14) Includes 816,667 Common Shares currently issuable upon exercise of Options
and an aggregate of 5,514,864 Common Shares and 166,667 Common Shares held
in escrow pursuant to the GHK Escrow Agreement and the Founder's Escrow
Agreement, respectively.
-18-
<PAGE>
VOTING SUPPORT AGREEMENT
Under the terms of a voting support agreement by and between the Company and
Hazel Ventures Ltd., the sole shareholder of Petrolinson ("Hazel Ventures"),
Hazel Ventures agreed that prior to July 19, 1998, it will vote all Common
Shares of the Company owned or controlled by it in favor of the slate of
directors proposed by the Company's chief executive officer and will require any
purchaser of its shares to agree to be bound by the terms of the agreement
unless the purchaser acquires the shares in the open market. Hazel acquired
1,000,000 Common Shares, or 2.9% of the Company's outstanding Common Shares, in
exchange for the transfer of its ownership of Petrolinson, the holder of a 6%
interest in the Association Contracts, to a subsidiary of the Company.
ITEM 5. DIRECTORS AND EXECUTIVE OFFICERS
On May 20, 1997, seven of the Company's nine directors resigned and
confirmed they would not stand for re-election as directors at the Annual
General Meeting of shareholders of the Company on June 12, 1997. The seven
directors included Albert E. Whitehead, Malcolm Butler, William G. McIntosh,
Harvey S. Robinson, James A. Millard, John B. Zaozirny and Timothy T. Stephens.
At the June 12, 1997 meeting, the Company re-elected Robert A. Hefner III and
Brian Egolf to the Board, as well as the following new directors: Breene M.
Kerr, Sir Mark Thomson Bt., Robert B. Panero, Gary F. Fuller and James D.
Scarlett. Subsequent to the meeting, the Board of Directors appointed Larry A.
Ray as a director of the Company. In addition, in September 1997, Mr. Williamson
was appointed as a director of the Company. As indicated in the Supplemental
Management Proxy Circular dated as of May 26, 1997 that was furnished to the
shareholders of the Company in connection with the Annual General Meeting,
certain disagreements with respect to how the Company should be operated to
become self-sufficient to manage its Colombian properties was voiced by the two
largest shareholders, Messrs. Hefner and Kerr, and by Mr. Egolf to other members
of the Board of Directors. Thereafter, Mr. Whitehead indicated he would retire
and resign as a director of the Company. As a result, the Voting Support
Agreement, which contained an obligation of Messrs. Hefner and Kerr to vote in
favor of a slate proposed by the Chief Executive Officer, was subject to
termination. Due to these events, the senior officers, Messrs. Butler and
Stephens, together with all the directors other than Messrs. Hefner and Egolf,
resigned.
The information set forth below, furnished to the Company by the respective
individuals, shows as to each director and executive officer of the Company (i)
his name and age; (ii) his principal positions with the Company; (iii) his
principal occupation or employment during the last five years; (iv) other public
directorships, and (v) the month and year in which he began to serve as a
director. No family relationship exists among any of the executive officers and
directors of the Company.
<TABLE>
<CAPTION>
PRESENT POSITION PRINCIPAL OCCUPATION DURING THE DIRECTOR
NAME AGE WITH THE COMPANY LAST FIVE YEARS; OTHER DIRECTORS SINCE
- ----------------------------- ------ ---------------- -------------------------------- --------
<S> <C> <C> <C>
Robert A. Hefner III(1)..... 62 Chairman, Chief Chairman, Chief Executive Office 11/96
Executive Officer and and Managing Director of the
Managing Director Company since May 1997; Owner
and Managing Member, The GHK
Company L.L.C., a private
company engaged in oil and gas
exploration
Breene M. Kerr(1)(2)(3)..... 68 Vice Chairman General Partner, Talbot Fairfiel 6/97
L.P., an oil and gas exploration
undertaking; Chairman of Kerr
Consolidated, an equipment sales
and leasing undertaking from 1969
to 1995; Director of Chesapeake
Energy Corp.
</TABLE>
-19-
<PAGE>
<TABLE>
<CAPTION>
PRESENT POSITION PRINCIPAL OCCUPATION DURING THE DIRECTOR
NAME AGE WITH THE COMPANY LAST FIVE YEARS; OTHER DIRECTORS SINCE
- ----------------------------- ------ ---------------- -------------------------------- --------
<S> <C> <C> <C>
Larry A. Ray(1)................ 49 Executive Vice President Executive Vice President and Chief 6/97
and Chief Operating Operating Officer since September
Officer 1997 and director; Executive Vice
President - Operations from June
1997 to September 1997; Manager,
The GHK Company L.L.C.
Herbert C. Williamson, III..... 49 Executive Vice President Executive Vice President and Chief 9/97
and Chief Financial Financial Officer of the Company
Officer since September 1997 and director;
from 1995 through September 1997,
Director of the Investment Banking
Department of Credit Suisse First
Boston; from 1985 through 1995,
Vice Chairman and Executive Vice
President, Parker & Parsley
Petroleum Company
David F. DeCort................ 41 Vice President - Finance Vice President - Finance and N/A
and Secretary Secretary of the Company since
June 1995; Treasurer/Controller of
Huffco Group Inc., a Houston
independent oil and gas company,
from August 1990 to June 1995
Brian Egolf(3)................. 49 Director President, Petroleum Management 11/96
Corporation, a private oil and gas
exploration company
Sir Mark Thomson Bt.(2)........ 57 Director Managing Director of B&N Invest 6/97
ments Limited, an investment
management company
Robert B. Panero............... 68 Director Founder and President of Robert 6/97
Panero Associates, international
strategic policy and project studies
advisors
Gary F. Fuller(3).............. 60 Director Shareholder/director of McAfee & 6/97
Taft, attorneys-at-law
James D. Scarlett(2)........... 44 Director Partner in McMillan, Binch,
attorneys-at-law 6/97
</TABLE>
- ---------------
(1) Member of the Executive Committee.
(2) Member of the Audit Committee.
(3) Member of the Stock Option and Compensation Committee.
-20-
<PAGE>
Executive officers of the Company serve at the pleasure of the Board of
Directors. The term of office of each director of the Company ends at the next
annual meeting of the Company's shareholders or when his or her successor is
elected and qualifies. Vacancies on the Board are filled by the remaining
directors and directors elected to fill such vacancies hold office until the
next annual meeting of the Company's shareholders.
MEETINGS AND COMMITTEES OF THE BOARD
The Board of Directors of the Company held three meetings during 1996 and
took action by unanimous written consent twenty times during 1996. All directors
attended 75% or more of the total number of meetings of the Board and of the
committees of which they were members.
The Executive Committee, the Audit Committee and the Stock Option and
Compensation Committee (the "Compensation Committee") are the only standing
committees of the Board. There is no formal nominating committee of the Company.
The Executive Committee, which is currently composed of Messrs. Hefner, Kerr
and Ray, is delegated, during the intervals between the meetings of the Board of
Directors, all the powers of the Board in respect of the management and
direction of the business and affairs of the Company (except only those
specified in Subsection 116(2) of the Yukon Business Corporation Act) in all
cases in which specified direction in writing shall not have been given by the
Board. During 1996 and until their resignation from the Board of Directors, the
Executive Committee was composed of Messrs. Whitehead, Stephens, Hefner and
Plewes. The Executive Committee met once during 1996.
The Audit Committee, which is currently composed of Messrs. Kerr, Scarlett
and Thomson, consults with the auditors of the Company and such other persons as
the members deem appropriate, reviews the preparations for and scope of the
audit of the Company's annual financial statements, makes recommendations
concerning the engagement and fees of the independent auditors, and performs
such other duties relating to the financial statements of the Company as the
Board of Directors may assign from time to time. During 1996, and until their
resignation from the Board of Directors, the Audit Committee was comprised of
William G. McIntosh and John B. Zaozirny. The Audit Committee met two times
during 1996 and took action by unanimous consent twice during 1996.
The Compensation Committee, which currently is composed of Messrs. Kerr,
Egolf and Fuller, has all of the powers of the Board of Directors, including the
authority to issue shares or other securities of the Company, in respect of any
matters relating to the administration of the Company's 1996 Stock Option Plan
and the compensation of officers, directors, employees and other persons
performing substantial services for the Company. During 1996 and until May 1997,
the Compensation Committee was comprised of James A. Millard, George Plewes and
Harvey S. Robinson. The Compensation Committee took action by unanimous written
consent twice during 1996.
DIRECTORS' FEES
Directors who are officers or employees of the Company receive no additional
compensation for their service as members of the Board of Directors or as
members of Board committees. Directors who are not officers or employees of the
Company are eligible to participate in the Company's Amended 1996 Stock Option
Plan and are reimbursed for their out-of-pocket expenses incurred in connection
with their service as directors, including travel expenses. In July 1996, each
non-employee director received a five year option to purchase 10,000 Common
Shares at an exercise price of $7.125 per share. In November 1996, upon their
election as directors, Messrs. Hefner and Egolf each received a five year option
to purchase 50,000 Common Shares at an exercise price of $18.75 per share. In
May 1997, each non-officer received an option for 15,000 shares of common stock
at $10.90. Messrs. Hefner and Egolf declined to accept such options. In June
1997, the Company granted Mr. Ray an option to purchase 200,000 Common Shares at
a price of $10.70 per share. Such options vest one-third immediately with the
remaining vesting 50% at the end of one year from the date of grant and the
remaining 50% at the end of the second year from the date of grant. On September
9, 1997, the Company granted Mr. Ray options to purchase an additional 200,000
Common Shares at a price of $13.23 per share. Such options vest one-third each
on the third, fourth and fifth anniversaries of the date of grant. The Company
granted options to the other directors as follows on July 17, 1997 at an
exercise price of $10.95 per share: Mr. Hefner -- 300,000; Mr. Egolf -- 75,000;
Mr. Kerr -- 75,000; Mr. Fuller -- 75,000; Mr. Panero -- 50,000; Mr. Scarlett --
75,000;
-21-
<PAGE>
and Mr. Thomson -- 75,000. One-third of the options are vested immediately, with
the remaining vesting 50% at the end of one year from the date of grant and the
remaining 50% at the end of the second year from the date of grant. Mr. Panero's
options will vest 50% at the end of one year from the date of grant and the
remaining 50% at the end of the second year from the date of grant. Mr. Panero
also received a payment of $37,500 in lieu of 25,000 options which would have
vested immediately. In each case, the Company granted these options at the
approximate prevailing market price on the date of grant.
-22-
<PAGE>
ITEM 6. EXECUTIVE COMPENSATION
SUMMARY COMPENSATION TABLE
The following table sets forth certain information regarding compensation
which was awarded or paid to, or earned by, the Company's Chief Executive
Officer and the Company's four most highly compensated officers (other than the
Chief Executive Officer) who were serving as officers at December 31, 1996, and
whose total salary and bonus during the fiscal year ended December 31, 1996
exceeded $100,000 (the "Named Officers").
<TABLE>
<CAPTION>
LONG TERM COMPENSATION
--------------------------------------------
ANNUAL COMPENSATION AWARDS PAYOUTS
--------------------------------- ------------------------- -------
OTHER RESTRICTED
ANNUAL SHARES LTIP ALL OTHER
NAME AND PRINCIPAL YEAR SALARY BONUS COMPENSATION AWARD(S) OPTIONS/SARS PAYOUTS COMPENSATION
POSITION ($) ($) ($)(1) ($) (#) ($) ($)(3)
- --------------------------- ---- -------- ----- ------------ ---------- ------------ ------- ------------
<S> <C> <C> <C> <C> <C> <C> <C> <C>
Albert E. Whitehead(4) .... 1996 $150,000 -0- -0- -0- 185,000(5) -0- 14,634
Chairman of the Board .. 1995 125,000 -0- -0- -0- 200,000 -0- --
and Chief Executive
Officer
Timothy T. Stephens(4) .... 1996 $135,000 93,840 -0- -0- 172,000(5) -0- 13,170
President .............. 1995 106,875(2) -0- -0- -0- 250,000 -0- --
John P. Dorrier(6) ........ 1996 $120,000 83,520 -0- 151,000 -0- 11,707
Executive Vice President 1995 80,000(2) -0- -0- -0- 125,000 -0- --
David F. DeCort ........... 1996 $ 90,000 62,640 -0- -0- 124,000 -0- 8,780
Vice President-Finance . 1995 52,500(2) -0- -0- -0- 100,000 -0- --
</TABLE>
- ---------------
(1) Except as otherwise indicated, the dollar value of perquisites and other
personal benefits for each of the Named Executive Officers was less than
established reporting thresholds.
(2) Represents salary received from commencement of employment through December
31, 1995 from the Company and the Predecessor, which amount does not reflect
an annual rate of compensation.
(3) Consists solely of amounts contributed by the Company to the Named Executive
Officer's account in the Company's 401(k) Plan.
(4) On May 20, 1997, Messrs. Whitehead and Stephens resigned as executive
officers and directors of the Company. As part of a settlement agreement
with Mr. Stephens, the Company agreed to pay Mr. Stephens $525,000. The
Company also entered into a consulting agreement with Mr. Whitehead for a
three-year term for $200,000 per annum. Mr. Malcolm Butler was named Chief
Executive Officer of the Company in May 1997 and received 200,000 options at
$10.90, but resigned on May 20, 1997 when Mr. Hefner was named Chief
Executive Officer. Mr. Butler received a lump sum payment of $250,000,
representing one year's salary, as part of the settlement agreement with
him.
(5) In May 1997, Messrs. Whitehead and Stephens were each granted options
exercisable for 50,000 shares of common stock at $10.90 per share. As part
of the arrangements surrounding the resignation of such persons, the
exercise period of the options for Messrs. Whitehead and Stephens was
extended from 90 days to 18 months.
(6) Mr. Dorrier terminated his employment by the Company in September 1997.
As a result of the resignations and the appointment of Mr. Robert A. Hefner
III as Chief Executive Officer and Mr. Larry A. Ray as Executive Vice
President-Operations, the Company anticipates that Messrs. Ray, Dorrier and
DeCort will be the Company's most highly compensated executive officers for
1997. Mr. Hefner will not receive any salary from the Company for 1997.
-23-
<PAGE>
OPTION/SAR GRANTS DURING 1996
The following table sets forth information regarding individual grants of
Options by the Company during the fiscal year ended December 31, 1996 to each of
the Named Officers, and their potential realizable values.
<TABLE>
<CAPTION>
INDIVIDUAL GRANTS
----------------------------------------
POTENTIAL REALIZABLE VALUE AT
NUMBER OF ASSUMED ANNUAL RATES OF
SHARES % OF TOTAL SHARE PRICE APPRECIATION FOR
UNDERLYING OPTIONS/SARS OPTION TERM(1)
OPTIONS/SARS GRANTED TO EXERCISE OR --------------------
GRANTED EMPLOYEES IN BASE PRICE EXPIRATION 5% 10%
(#) FISCAL YEAR ($/SH) DATE ($) ($)
------------- ------------ ----------- ---------- ------ -------
<S> <C> <C> <C> <C> <C> <C> <C>
Albert E. Whitehead(2).. 85,000 13.1% $18.75 11/26/2001 440,324 973,000
100,000 15.4% $ 7.125 07/23/2001 196,851 434,988
Timothy T. Stephens(2).. 82,000 12.6% $18.75 11/26/2001 424,783 938,659
90,000 13.8% $ 7.125 07/23/2001 177,166 391,490
John P. Dorrier(2)...... 71,000 10.9% $18.75 11/26/2001 367,800 812,741
80,000 12.3% $ 7.125 07/23/2001 157,480 347,990
54,000 8.3% $18.75 11/26/2001 279,735 618,141
David F. DeCort(2)...... 70,000 10.7% $ 7.125 07/23/2001 137,795 304,492
</TABLE>
- ---------------
(1) The assumed rates of annual appreciation are calculated from the date of
grant through the assumed expiration date. Actual gains, if any, on stock
option exercises and Common Share holdings are dependent on the future
performance of the Common Shares and overall stock market conditions. There
can be no assurance that the value reflected in the table will be achieved.
(2) In addition to the grants of options indicated in the table above, in May
1997, Messrs. Whitehead, Stephens, Dorrier and DeCort received options
exercisable for 50,000, 50,000, 40,000 and 30,000 common shares,
respectively, at an exercise price of US $10.90.
OPTION EXERCISES DURING 1996 AND FISCAL YEAR END OPTION VALUES
The following table provides information related to Options exercised by the
Named Officers during 1996 and the number and value of unexercised Options held
by the Named Officers at year-end. The Company does not have any outstanding
stock appreciation rights.
<TABLE>
<CAPTION>
VALUE OF UNEXERCISED
NUMBER OF UNEXERCISED IN THE MONEY
OPTIONS, WARRANTS/SARS AT OPTIONS, WARRANTS/SARS
SHARES FISCAL YEAR-END (#)(1) AT FISCAL YEAR END ($)(3)
ACQUIRED VALUE REALIZED ------------------------------------------------------------------
NAME ON EXERCISE (#) ($)(2) EXERCISABLE - UNEXERCISABLE EXERCISABLE UNEXERCISABLE
- ------ ----------------------------------- ------------------ -----------------------------------------------
<S> <C> <C> <C> <C> <C> <C>
Albert E. Whitehead.......... 200,000 $2,312,500 185,000 -0- $1,100,000 -0-
Timothy T. Stephens.......... 228,333 $3,767,951 193,667 -0- $1,192,714 -0-
John P. Dorrier.............. 50,000 $328,750 226,000 -0- $2,183,125 -0-
David F. DeCort.............. 30,000 $502,500 194,000 -0- $1,986,250 -0-
</TABLE>
- ---------------
(1) The number of exercisable and unexercisable Options set forth in the above
table may differ from the number reflected in the table on page 27 because
the information in the above table is as of December 31, 1996.
(2) Represents the difference between the exercise price of the option and the
closing price on the date of exercise.
(3) Based on a closing price on December 31, 1996 of $18.125 per share.
EMPLOYMENT CONTRACTS AND CHANGE OF CONTROL ARRANGEMENTS
The Company and each of Messrs. Dorrier and DeCort have entered into three
year employment contracts which provide that they will receive annual base
salaries of $150,000 and $112,500, respectively, and, in the sole discretion of
the Compensation Committee of the Board, may receive annual merit increases,
annual bonuses and stock option awards. The contracts may be terminated for
"cause" which includes death or serious incapacity and the executive officers
may resign upon three months' prior written notice. The Company and each of
Messrs. Dorrier and DeCort have also entered into agreements which provide for
payments to the executive in the event there is a Change of Control of
-24-
<PAGE>
the Company and the executive's employment is terminated (i) by the Company
within twelve months thereafter, (ii) by the executive within six months
thereafter, or (iii) by the executive between six and twelve months after a
Change of Control if a Triggering Event has occurred. In any such event, the
executive shall be entitled to a payment equal to the aggregate salary payable
for the remaining term of his employment agreement and the Company shall pay the
executive's health insurance premium for a period of one year unless the
executive has secured comparable health insurance prior thereto. If bonuses are
paid by the Company for the year in which the executive's employment terminated,
the executive shall be entitled to a bonus equal to the most recent annual bonus
paid to him for each year or part of the year remaining on his employment
agreement, provided that such bonus payment shall only be paid with respect to a
year that the Company otherwise pays bonuses to some or all of its employees. In
addition, all stock options held by the executive shall be extended until the
earlier to occur of the expiration date of the option or eighteen months after
the date of the termination of his employment by the Company or the date of his
notice of intent to terminate his employment if he elected to resign. The
agreements also provide that in the event the exercise price of any option
granted simultaneously with the option issued to the executive is reduced, the
exercise price of the executive's option shall also be reduced. For purposes of
the agreement, the term "Change of Control" is defined to include the
acquisition by any person or combination of persons of a sufficient number of
securities of the Company to materially affect the control of the Company which,
for purposes of the agreement, shall be deemed to occur if 20% or more of the
votes which may be cast in the election of directors have been acquired by any
person or combination of persons; a merger, consolidation, or amalgamation with
or into any other person if all or part of the outstanding voting securities of
the Company shall be changed, reclassified, converted, exchanged or otherwise
acquired for shares or other securities of the Company or any other person or
for cash or any other property, unless such transaction has been approved by a
majority of the directors in office on April 28, 1997; a majority of the
directors in office on April 28, 1997 shall cease to serve as directors of the
Company for any reason including resignation; the sale or other transfer of
assets which constitute more than 50% of the consolidated assets of the Company
(measured by either book value or fair market value) or which generated more
than 50% of the consolidated operating income or cash flow of the Company. The
term "Triggering Event" shall include any adverse change in the duties, powers
or compensation of the executive in effect prior to the Change in Control or a
change in the person to whom the executive reports, other than as a result of a
promotion in the normal course of business. As a result of the resignation by
the directors of the Company in May 1997, a change of control occurred with
respect to such officers.
The Company has entered into a five year employment agreement with Mr. Larry
A. Ray that provides for an annual base salary of $262,500 and in the sole
discretion of the Compensation Committee of the Board, Mr. Ray may receive
annual merit increases, annual bonuses and stock option awards. As part of his
employment agreement, Mr. Ray was granted options to purchase 200,000 Common
Shares at an exercise price of $10.70 per share. One-third of the options vested
immediately and the remainder vest one-half each on the first and second
anniversaries of the date of grant. On September 9, 1997, the Company granted
Mr. Ray options to purchase an additional 200,000 Common Shares under the 1997
Stock Option Plan at a price of $13.23 per share, subject to shareholder
approval of the 1997 Stock Option Plan at the next annual or special meeting.
Such options vest one-third each on the third, fourth, and fifth anniversaries
of the date of grant. The employment agreement may be terminated for "cause"
which includes death or serious incapacity. Under the terms of the employment
agreement, Mr. Ray will receive payments equal to the amounts remaining to be
paid under the agreement in the event of a "change in control" and his
employment terminates for any reason, including resignation by Mr. Ray. For
purposes of this Agreement, the term "Change in Control" shall mean (1) any
merger, consolidation, or reorganization in which the Company is not the
surviving entity (or survives only as a subsidiary of an entity), (2) any sale,
lease, exchange, or other transfer of (or agreement to sell, lease, exchange, or
otherwise transfer) all or substantially all of the assets of the Company to any
other person or entity (in one transaction or a series of related transactions),
(3) dissolution or liquidation of the Company, (4) when any person or entity,
including a "group" as contemplated by Section 13(d) of the Securities Exchange
Act of 1934, as amended, acquires or gains ownership or control (including
without limitation, power to vote) of more than 50% of the outstanding shares of
the Company's voting stock (based upon voting power), or (5) as a result of or
in connection with a contested election of directors, the persons who were
directors of the Company before such election cease to constitute a majority of
the Board of Directors; provided, however, that the term "Change in Control"
shall not include any reorganization, merger, consolidation, sale, lease,
exchange, or similar transaction involving solely the Company and one or more
previously wholly-owned subsidiaries of the Company.
The Company will enter into a five year employment agreement with Mr.
Herbert C. Williamson, III that provides for an annual base salary of $100,000,
and in the sole discretion of the Compensation Committee of the Board, Mr.
Williamson may receive annual merit increases, annual bonuses and stock option
awards. As part of his employment
-25-
<PAGE>
agreement, Mr. Williamson was granted options to purchase 500,000 Common Shares
at an exercise price of $13.23 per share. Options to purchase 150,000 Common
Shares vest immediately, options to purchase 150,000 Common Shares vest on
September 9, 1998, and options to purchase 50,000 Common Shares each vest on
September 9, 1999, 2000, 2001 and 2002, respectively. All of the options granted
by the Board of Directors to Mr. Williamson are subject to approval of the 1997
Stock Option Plan by the stockholders at the next annual or special meeting. The
remaining terms and conditions of Mr. Williamson's employment agreement are
substantially similar to Mr. Ray's employment agreement.
ITEM 7. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS.
THE GHK TRANSACTION
In April 1996, the Company and GHK Company Colombia, an Oklahoma corporation
controlled by Robert A. Hefner III, entered into a non-binding letter of intent
governing a proposed acquisition by the Company of an additional 35%
participating interest in the Association Contracts in consideration of the
issuance of up to 16,000,000 Common Shares by the Company to three entities
holding such interests or to their respective shareholders (collectively, the
"GHK Transaction"). Effective July 26, 1996, pursuant to the terms of three
separate share purchase agreements, the Company agreed to issue an aggregate of
16,777,143 Common Shares to nineteen unrelated parties, in consideration of the
Company's acquisition of (a) 100% of the issued and outstanding shares of GHK
Company Colombia which serves as the operator under the Association Contracts
and holds a 10.944% interest in such contracts, (b) 100% of the membership
interests of Esmeralda Limited Liability Company ("Esmeralda") which holds a
9.776% interest in the Association Contracts, and (c) 62.963% membership
interest in Cimarrona Limited Liability Company ("Cimarrona") which holds a
25.38% interest in the Association Contracts. As a result of the transaction,
the Company acquired an additional 36.7% indirect interest in the Association
Contracts. As a condition to the GHK Transaction, the Company also entered into
the Registration Rights Agreement, the Escrow Agreement, the Management
Agreement and the Voting Support Agreement, each of which is more particularly
described below.
Pursuant to the terms of the share purchase agreement between the Company
and Robert A. Hefner III, the Company purchased 100% of the issued and
outstanding shares of GHK Company Colombia from Mr. Hefner in consideration for
the issuance of 5,002,972 Class A Preferred Shares Series 1 of the Company to
him. Pursuant to the terms of the share purchase agreement between the Company
and the members of Esmeralda, the Company purchased 100% of the membership
interests of Esmeralda from such members in consideration for the issuance of an
aggregate of 4,469,028 B Special Warrants (the "B Warrants") to such members .
Pursuant to the terms of the share purchase agreement between the Company and
the members of Cimarrona, the Company purchased a 62.963% membership interest in
Cimarrona from such members in consideration for the issuance of an aggregate of
7,305,143 B Warrants to such members. The Preferred Shares and the B Warrants
were issued at a deemed price per share of $9.125 which was based upon the
closing price of the Company's Common Shares on the Canadian Dealer Network on
July 26, 1996. Under the terms of the share purchase agreement each of the
parties agree to indemnify the other for certain matters relating to the
business prior to the transaction.
Each B Warrant was exercisable into one Common Share without payment of
additional consideration and was automatically converted into a Common Share, in
accordance with the terms of the Company's Articles of Continuance, in February
1997. Each Preferred Share was entitled to one vote per share, was exercisable
into one Common Share without payment of additional consideration and was also
automatically converted into a Common Share, in accordance with the terms of the
Company's Articles of Continuance, in February 1997.
The shares of GHK Company Colombia and the 62.963% interest in Cimarrona
were transferred to Seven Seas Petroleum Colombia Inc.; 50% of the membership
interest in Esmeralda was transferred to Seven Seas Petroleum Colombia Inc.; and
50% of such membership interest was transferred to Seven Seas Petroleum
Holdings, Inc. as a limited liability company is required to have a minimum of
two members.
As a condition of completing the GHK Transaction, the Company also entered
into a Registration Rights Agreement with the holders of the B Warrants and the
Preferred Shares which currently entitles such holders to notice of proposed
public offerings or private placements by the Company under the Securities Act
(Ontario) and to include Common Shares held by such holders in such offerings
subject to limitations which may be imposed by the managing underwriter of any
such offering.
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As a condition of the Company obtaining the consent of the Ontario
Securities Commission to the GHK Transaction, the Company, the holders of
Preferred Shares and B Warrants and the Montreal Trust Company of Canada, as
trustee, entered into an escrow agreement dated July 26, 1996 (the "GHK Escrow
Agreement") pursuant to which 70% of the securities issued by the Company in the
GHK Transaction, or upon conversion or the securities issued therein, are held
in escrow. An aggregate of 11,744,000 Common Shares are currently held in escrow
and such Common Shares may not be sold, assigned, pledged, or transferred until
released from escrow in accordance with the terms of the GHK Escrow Agreement.
Shares held in escrow may be voted by the registered holders thereof. Pursuant
to the terms of the Escrow Agreement, the securities held in escrow shall be
released as follows: (i) one-third of the securities deposited in escrow shall
be released on each of July 26, 1997, 1998 and 1999 or (ii) the securities may
be released in full if the Company or the owner of such securities provides the
Ontario Securities Commission with technical reports acceptable to the director
thereof that establish a determinate value as of April 26, 1996 for the
interests in the Association Contracts transferred to the Company or its
subsidiaries, of $118,908,000 or more. If interim technical reports establish a
determinate value of less than $118,908,000 for such interests, proportionate
releases from escrow may be permitted.
Prior to the GHK Transaction, GHK Company L.L.C. ("GHK L.L.C."), an
Oklahoma limited liability company, the principal owner of which is Robert A.
Hefner III, provided administrative and management services to GHK Company
Colombia in connection with its obligations as operator of the Dindal and Rio
Seco blocks. As a condition of completing the GHK Transaction, the Company, GHK
Company Colombia and GHK L.L.C. entered into a Management Agreement pursuant to
which GHK L.L.C. was retained by GHK Company Colombia to perform the duties and
obligations of GHK Company Colombia under the Association Contracts and as
operator of the Dindal blocks under the joint operating agreement dated August
1, 1996 (the "JOA"). GHK Company Colombia agreed to pay GHK L.L.C. a monthly sum
equal to 100% of the overhead charges authorized under the JOA relating to such
blocks (which costs are estimated to be approximately $15,000 per month) plus an
additional $15,000 per month and to reimburse GHK L.L.C. for all expenses
incurred in the performance of its duties under the Management Agreement. The
costs and expenses under the JOA are paid by the interest holders under the
Association Contracts proportionately to their percentage interests therein.
From July 26, 1996 to June 30, 1997, GHK Company Colombia paid an aggregate of
$374,109 to GHK L.L.C. for services provided under this agreement. The
Management Agreement was terminated June 30, 1997.
Under the terms of a Voting Support Agreement executed in connection with
the GHK Transaction, Seven Seas, Robert A. Hefner III, Breene M. Kerr, Albert E.
Whitehead, George H. Plewes, and Timothy T. Stephens agreed to vote or cause to
be voted all shares owned or controlled by them in favor of the slate of
directors proposed by the Company's chief executive officer. The Voting Support
Agreement also provides that a sale by Messrs. Hefner and Kerr of a block of
10,000 Common Shares or more which were initially subject to the GHK Escrow
Agreement, must first be offered to be made through Yorkton Securities, Inc. or
such other investment dealer as may be designated by the Board of Directors or
the securities sold will remain subject to the Voting Support Agreement. In the
event any such dealer is unable or unwilling to sell such securities in a timely
manner at a price acceptable to the seller, the seller may sell to a third party
without being subject to the Voting Support Agreement provided that such sale is
not to a person or one or more of a group of persons acting in concert, who is
acquiring the securities of the seller in connection with a takeover bid, other
than where such takeover bid is an offer made generally to the shareholders of
the Company. The Voting Support Agreement terminated on May 20, 1997.
Prior to the GHK Transaction, neither Mr. Hefner, Mr. Egolf nor Mr. Kerr
were affiliated with the Company. As a result of the GHK Transaction, Messrs.
Hefner and Egolf were elected directors of the Company and Mr. Hefner and Mr.
Kerr became substantial shareholders of the Company. In addition, as a result of
an agreement between Mr. Hefner, in his capacity as the selling shareholder of
GHK Company Colombia, the members of Esmeralda and Cimarrona and Mr. Egolf
(collectively, the Sellers"), the Sellers paid Mr. Egolf an aggregate of 83,886
B Warrants, which were subsequently converted into 83,886 Common Shares of which
58,720 shares were held in escrow pursuant to the Escrow Agreement, as
consideration for his services to the Sellers in connection with the GHK
Transaction. As of August 15, 1997, 39,147 shares remain subject to the Escrow
Agreement.
TRANSACTIONS WITH FORMER DIRECTOR AND OFFICER. Mr. Albert E. Whitehead,
formerly Chairman and Chief Executive Officer of the Company and a director, may
be deemed a promotor of the Company. In connection with the formation of the
Predecessor of the Company in February 1995, Mr. Whitehead received 1,000,000
Common Shares for a total consideration of $1.00. As of condition of the Common
Shares being listed on the Toronto Stock Exchange ("TSE"), the TSE required Mr.
Whitehead to place 500,000 Common Shares held by him in escrow in accordance
with the TSE's
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founder stock policy. Under the terms of the escrow agreement (the "Founder's
Escrow Agreement") between Mr. Whitehead, the Company and Montreal Trust Company
of Canada as escrow agent dated January 21, 1997, one-third of the shares
subject thereto were to be released from escrow on each of June 29, 1996, 1997
and 1998 and, accordingly, 166,667 Common Shares are currently subject to the
Founder's Escrow Agreement. For a description of the Common Shares and options
held by Mr. Whitehead, see "Principal Stockholders" and "Executive
Compensation."
TRANSACTIONS WITH DIRECTOR AND OFFICER. The Company has agreed to loan Larry
A. Ray $200,000 at 6.06% interest. Interest on the loan is payable monthly with
a single principal payment due at the end of five years.
ITEM 8. LEGAL PROCEEDINGS.
There are no material legal proceedings to which the Company is a party or
to which any of its property is subject.
ITEM 9. MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER MATTERS.
(A) MARKET INFORMATION.
The Company's Common Shares have been listed on the Toronto Stock Exchange
("TSE") in Toronto, Ontario, Canada, since February 10, 1997 and currently trade
under the symbol "SVS.U". From June 30, 1995 through February 7, 1997, the
Company's Common Shares traded on the Canadian Dealer Network under the symbol
"SVSE.U". The following table summarizes the high and low closing prices as
reported on the Canadian Dealer Network for each quarterly period since the
commencement of trading through February 7, 1997 and the high and low sales
prices as reported on the TSE from February 10, 1997 through August 15, 1997.
The prices listed below are stated in U.S. dollars, which is the currency in
which they were quoted:
HIGH LOW VOLUME
(US $)
1995
Third Quarter 2.15 0.90 2,101,602
Fourth Quarter 1.15 0.60 1,974,615
1996
First Quarter 6.75 0.55 8,402,885
Second Quarter 10.50 5.25 4,107,361
Third Quarter 20.00 7.00 6,655,958
Fourth Quarter 25.75 14.75 8,537,978
1997
First Quarter (through February 7, 1997) 19.00 15.00 3,018,441
First Quarter (since February 10, 1997) 17.40 9.00 3,718,929
Second Quarter 13.10 8.25 3,200,200
Third Quarter (through August 15, 1997) 12.00 9.60 1,018,400
(B) HOLDERS.
As of August 15, 1997, the Common Shares of Seven Seas were held of record
by approximately 6,635 holders, including several holders who are nominees for
an undetermined number of beneficial owners.
(C) DIVIDENDS
The Company has not declared or paid any cash dividends on its Common Shares
since its inception nor does the Company intend to do so in the immediate
future. It is currently the policy of the Company's Board of Directors to retain
earnings to finance the Company's exploration and development activities and
operations and the expansion of the Company's business.
ITEM 10. RECENT SALES OF UNREGISTERED SECURITIES.
Within the last three years, the Company issued the following securities
which were not registered under the Securities Act of 1933, as amended (the
"Securities Act"):
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On June 30, 1995, upon the Amalgamation, 11,999,999 Common Shares of the
Company were issued to the holders of the common shares of the Predecessor and
680,464 Common Shares of the Company were issued to the holders of shares of
Rusty Lake. The Amalgamation was conducted in Canada, was effected in accordance
with the laws of British Columbia and approved by the Supreme Court of British
Columbia.
In March 1996, 2,000,000 Special Warrants were issued at a purchase price of
$2.75 per Unit pursuant to a brokered private offering of units conducted in
Canada pursuant to the British Columbia securities laws. The Units were
convertible into one common share and one half of one Class A share purchase
warrant (the "Class A Warrants"). Each whole Class A Warrant entitled the holder
thereof to acquire one additional Common Share at a price of $3.50 per share at
any time on or before March 14, 1997. Yorkton Securities Inc., First Marathon
Securities Limited and Griffiths McBurney & Partners Inc. served as agents for
the private placement and received a 7% commission on the gross proceeds
thereof. To the extent U.S. residents were involved in this transaction, the
Company believes that the issuance of securities was exempt from registration
under the Securities Act by virtue of the provision of Section 4(2) thereof.
In July 1996, the Company issued the following securities in the GHK
Transaction: (i) an aggregate of 7,305,143 B Special Warrants to certain members
of Cimarrona Limited Liability Company as consideration for the transfer of a
62.963% membership interest in Cimarrona Limited Liability Company by such
members to a subsidiary of the Company,; (ii) 4,469,028 B Special Warrants to
the members of Esmeralda Limited Liability Company as consideration for the
transfer of a 100% membership interest in Esmeralda by such members to a
subsidiary of the Company, and (iii) 5,002,972 Class A Preferred Shares to
Robert A. Hefner III as consideration for the transfer of all of the issued and
outstanding shares of GHK Company Colombia to a subsidiary of the Company. The B
Special Warrants and the Class A Preferred Shares were each issued at a deemed
purchase price of $9.125 per Special Warrant and per Preferred Share. Each B
Special Warrant and each Class A Preferred Share was convertible in each case
into one Common Share of the Company. To the extent U.S. residents were involved
in this transaction, the Company believes that the issuance of securities was
exempt from registration under the Securities Act by virtue of the provision of
Section 4(2) thereof.
In October 1996, 500,000 C Special Warrants were issued at a purchase price
of $15.00 per Unit pursuant to a brokered private offering of Units conducted in
Canada pursuant to the British Columbia securities laws. The Units were
convertible into one common share and one half of one Class B share purchase
warrant (the "Class B Warrants"). Each whole Class B Warrant entitles the holder
thereof to acquire one additional Common Share at a price of $18.50 per share at
any time on or before October 15, 1997. Yorkton Securities and Tuscarora
Capital, Inc. jointly served as the agent for the private placement and jointly
received a 6% commission on the gross proceeds thereof. To the extent U.S.
residents were involved in this transaction, the Company believes that the
issuance of securities was exempt from registration under the Securities Act by
virtue of the provisions of Section 4(2) thereof.
In February 1997, 19,277,143 Common Shares were issued upon the automatic
conversion of (i) the Special Warrants issued in March 1996, (ii) the B Special
Warrants and the Class A Preferred Shares issued in July 1996, and (iii) the C
Special Warrants issued in October 1996. As the conversion of such securities
was automatic, to the extent U.S. residents were involved in such transaction,
the Company relied on the exemption from registration under the Securities Act
by virtue of the provisions of Section 3(a)(9) thereof, since the securities
issued were exchanged by the Company with existing security holders exclusively
and no commission or other remuneration was paid or given directly or indirectly
for soliciting such exchange.
In February 1997, 1,000,000 Common Shares were issued in a private
transaction to Hazel Ventures Ltd., a British Virgin Islands company, in
consideration of the transfer of 100% of the capital stock of Petrolinson S.A.
to a subsidiary of the Company in a transaction conducted outside of the United
States.
From February 1996 through August 1997, an aggregate of 912,000 Common
Shares were issued to former directors and former and current employees of the
Company upon the exercise of employee stock options at purchase prices of $0.75
to $7.125 per share. To the extent U.S. residents were involved in these
transactions, the Company believes that the issuance of securities was exempt
from registration under the Securities Act by virtue of the provisions of
Section 4(2) thereof.
In March 1997, 1,000,000 Common Shares were issued upon exercise of the
Class A Warrants at an exercise price of $3.50 per share. To the extent U.S.
residents were involved in this transaction, the Company believes that the
issuance of securities was exempt from registration under the Securities Act by
virtue of the provisions of Section 4(2) thereof.
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On August 7, 1997, the Company issued $25,000,000 principal amount of
Special Notes. See "Item 2. Manage ment's Discussion and Analysis of Financial
Condition and Results of Operations--Convertible Debentures." To the extent U.S.
residents were involved in this transaction, the Company believes that the
issuance of securities was exempt from registration under the Securities Act by
virtue of the provisions of Section 4(2) thereof and Rule 506 of Regulation D.
ITEM 11. DESCRIPTION OF REGISTRANT'S SECURITIES TO BE REGISTERED.
The following statements are subject to the detailed provisions of the
Company's Articles of Continuance and ByLaws, do not purport to be complete, and
are qualified in their entirety by reference thereto.
The Company's Articles of Continuance authorizes the issuance of an
unlimited number of Common Shares without par value and an unlimited number of
Class A Preferred Shares, without par value. As of August 15, 1997, 34,869,575
Common Shares were issued and outstanding. As of August 15, 1997, the Company
had 6,635 shareholders of record.
COMMON SHARES
No holder of Common Shares has any preemptive right to subscribe for any of
the Company's securities. All outstanding shares are fully paid and
nonassessable. Holders of Common Shares are not entitled to cumulative voting
and are entitled to one vote per share with respect to all matters that are
required by law to be submitted to shareholders, including the election of
directors.
Subject to the prior rights of the holders of any Preferred Shares that may
be outstanding, holders of Common Shares are entitled to share pro rata in such
dividends as may be declared by the Board of Directors out of funds legally
available for that purpose. In the event of liquidation of the Company, all
assets available for distribution (after satisfaction of the prior rights of the
holders of any outstanding Preferred Shares) are distributable among the holders
of the Common Shares according to their respective holdings.
Montreal Trust Company of Canada, Suite 600, 530-8th Avenue, S.W., Calgary,
Alberta T2P 3S8, is the transfer agent and the registrar for the Company's
Common Shares.
The authorized but unissued Common Shares and Preferred Shares could be
used to dilute the share ownership of persons seeking to obtain control of the
Company, and thereby defeat a possible takeover attempt which, if shareholders
were offered a premium over the market value of their shares, might be viewed as
being beneficial to the Company's shareholders. In addition, the Preferred
Shares could be issued with voting, conversion rights and preferences which
would adversely affect the voting power and other rights of holders of Common
Shares.
PREFERRED SHARES
The Company's Articles of Continuance provide that the Board of Directors,
without shareholder approval, has the authority to issue Preferred Shares from
time to time in series and to fix the designation, powers (including voting
powers, if any), preferences and relative, participating, optional, conversion
and other special rights, and the qualifications, limitations, and restrictions
of each series, except that with respect to the payment of dividends and the
distribution of assets upon liquidation, each series shall rank equally with any
other series of Preferred Shares outstanding.
In the event of issuance, the Preferred Shares could be utilized, under
certain circumstances, as a method of discouraging, delaying or preventing a
change in control of the Company. Such actions could have the effect of
discouraging bids for the Company, thereby preventing shareholders from
receiving the maximum value for their shares. Although the Company has no
present intention to issue any additional Preferred Shares, there can be no
assurance that the Company will not do so in the future.
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CANADIAN FEDERAL INCOME TAX CONSIDERATIONS.
The following is a summary of the principal Canadian income tax
considerations generally applicable to nonresidents of Canada who hold the
Common Shares as capital property, deal at arm's length with the Company and do
not use or hold and are deemed not to use or hold their Common Shares in the
course of carrying on a business in Canada and do not carry on insurance
business in Canada. This summary has been prepared by reference to the existing
provisions of the Income Tax Act (Canada) (the "Act"), the Income Tax
Regulations (the "Regulations"), all published proposals for the amendment of
the Act and the Regulations to the date hereof and the published administrative
practices of Revenue Canada, the agency that administers the Act. Although this
summary does not specifically address the provincial income tax consequences of
an investment in Common Shares, generally speaking, provincial taxation does not
apply to persons who are not resident in Canada and who do not own or hold
property in the course of carrying on a business in Canada. Apart from changes
to the Act and the Regulations which have been publicly announced to the date
hereof, this summary does not consider the potential for any future alterations
to Canadian income tax legislation.
DISPOSITIONS OF COMMON SHARES. A nonresident of Canada will only be subject
to taxation in Canada under the Act in respect of a disposition of Common Shares
if such shares constitute "taxable Canadian property" to such nonresident.
Provided that the Common Shares are listed on a recognized stock exchange in
Canada at the time of a disposition, they will only constitute "taxable Canadian
property" to a holder if the holder, either alone or together with persons with
whom the holder does not deal at arm's length, owns or at any time in the five
years prior to the date of disposition, has owned in excess of 25% of the issued
and outstanding shares of a class or series of the capital of the Company.
Persons who are related by blood or marriage, or are subject to common control
are deemed to deal otherwise than at arm's length; other persons may also be
considered to be dealing otherwise than at arm's length in certain
circumstances. For the purposes of determining the 25% threshold, rights or
options to acquire Common Shares will be treated as ownership thereof. Subject
to the comments set out below in respect of the application of the U.S. --
Canada Income Tax Convention to U.S. resident holders, nonresidents whose shares
constitute "taxable Canadian property" will be subject to taxation thereon on
the same basis as Canadian residents. Generally speaking, three-quarters of the
excess of the holder's proceeds of disposition, over the adjusted cost base of
the Common Shares, must be included in income as a taxable capital gain, to be
taxed at prevailing federal Canadian rates, which range from approximately 26%
to 39%.
Nonresidents whose shares are repurchased by the Company, except in respect
of certain purchases made by the Company in the open market, will give rise to
the deemed payment of a dividend by the Company to the former holder of Common
Shares in an amount equal to the excess paid over the paid-up capital of the
Common Shares so repurchased. Such deemed dividend will be excluded from the
former holders' proceeds of disposition of his Common Shares for the purposes of
computing any capital gain but will be subject to Canadian nonresident
withholding tax in the manner described below under "Dividends." In certain
limited circumstances, a sale by a holder of the Common Shares to a corporation
resident in Canada with which the holder does not deal at arm's length may give
rise to the deemed payment of a dividend, to the extent the amount received in
consideration therefor exceeds the paid-up capital of the Common Shares disposed
of.
Pursuant to the U.S.-Canada Income Tax Convention (the "Convention"),
shareholders of the Company who are resident in the U.S. for the purposes of the
Convention and whose shares might otherwise be "taxable Canadian property" may
be exempt from Canadian taxation in respect of any gains on the Common Shares
provided the principal value of the Company is not derived from real property
located in Canada at the time of the disposition.
The Company owns no Canadian real property and the Company has no present
intention to acquire Canadian real property.
DIVIDENDS. Under the Act, withholding tax is imposed at the rate of 25% on
the amount of any dividends paid or credited on the Common Shares to a person
not resident in Canada. Pursuant to the U.S. -- Canada Income Tax Convention,
the rate of tax on such dividends is reduced to 6% for dividends received in
1996 and 5% thereafter by any U.S. resident corporation who owns in excess of
10% of the voting shares of the corporation, and to 15% in all other instances.
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INVESTMENT CANADA ACT
The Investment Canada Act (the "ICA") prohibits the acquisition of control
of a Canadian business by non-Canadians without review and approval of the
Investment Review Division of Industry Canada, the agency that administers the
ICA, unless such acquisition is exempt from review under the provisions of the
ICA. Investment Review Division of Industry Canada must be notified of such
exempt acquisitions. The ICA covers acquisitions of control of corporate
enterprises, whether by purchase of assets, shares of "voting interests" of an
entity that controls, directly or indirectly, another entity carrying on a
Canadian business.
Apart from the ICA, there are no other limitations on the right of
nonresident or foreign owners to hold or vote securities imposed by Canadian law
or the Certificate of Continuance of the Company. There are no other decrees or
regulations in Canada which restrict the export or import of capital, including
foreign exchange controls, or that affect the remittance of dividends, interest
or other payments to nonresident holders of the Company's Common Shares except
as discussed above.
ITEM 12. INDEMNIFICATION OF DIRECTORS AND OFFICERS.
The Yukon BUSINESS CORPORATIONS ACT and the Company's Bylaws provide the
following authority to indemnify directors or officers or former directors or
officers of the Company or of a company of which the Company is or was a
shareholder:
(1) Except in respect of an action by or on behalf of the corporation or a
body corporate to procure a judgment in its favor, a corporation may
indemnify a director or officer of the corporation, a former director
or officer of the corporation or a person who acts or acted at the
corporation's request as a director or officer of a body corporate of
which the corporation is or was a shareholder or creditor, and his
heirs and legal representatives, against all costs, charges and
expenses, including an amount paid to settle an action or satisfy a
judgment, reasonably incurred by him in respect of any civil, criminal
or administrative action or proceeding to which he is made a party by
reason of being or having been a director or officer of that
corporation or body corporate, if (a) he acted honestly and in good
faith with a view to the best interests of the corporation, and (b) in
the case of a criminal or administrative action or proceeding that is
enforced by a monetary penalty, he had reasonable grounds for
believing that his conduct was lawful.
(2) A corporation may, with the approval of the Supreme Court, indemnify a
person referred to in subsection (1) in respect of an action by or on
behalf of the corporation or body corporate to procure a judgment in
its favor, to which he is made a party by reason by being or having
been a director or an officer of the corporation or body corporate,
against all costs, charges and expenses reasonably incurred by him in
connection with the action if he fulfills the conditions set out in
paragraphs (1)(a) and (b).
The Yukon BUSINESS CORPORATIONS ACT also provides that:
(3) Notwithstanding anything in subsections (1) through (6), a person
referred to in subsection (1) is entitled to indemnity from the
corporation in respect of all costs, charges and expenses reasonably
incurred by him in connection with the defense of any civil, criminal
or administrative action or proceeding to which he is made a party by
reason of being or having been a director or officer of the
corporation or body corporate, if the person seeking indemnity (A) was
substantially successful on the merits of his defense of the action or
proceeding, (B) fulfills the conditions set out in paragraphs (1)(a)
and (b), and (C) is fairly and reasonably entitled to indemnity.
(4) A corporation may purchase and maintain insurance for the benefit of
any person referred to in subsection (1) against any liability
incurred by him (a) in his capacity as a director or officer of the
corporation, except when the liability relates to his failure to act
honestly and in good faith with a view to the best interests of the
corporation, or (b) in his capacity as a director or officer of
another body corporate if he acts or acted in that capacity at the
corporation's request, except when the liability relates to his
failure to act honestly and in good faith with a view to the best
interests of the body corporate.
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(5) A corporation or a person referred to in subsection (1) may apply to
the Supreme Court for an order approving an indemnity under this
section and the Supreme Court may so order and make any further order
it thinks fit.
(6) On an application under subsection (5), the Supreme Court may order
notice to be given to any interested person and that person is
entitled to appear and be heard in person or by counsel.
The Bylaws of the Company also provide that the provisions for
indemnification contained in the Bylaws (outlined in subsections (1) and (2)
above) shall not be deemed exclusive of any other rights to which a person
seeking indemnification may be entitled under any Bylaws, agreement, vote of
shareholders or disinterested directors or otherwise both as to an action in his
official capacity and as to an action in any other capacity while holding such
office and shall continue as to a person who has ceased to be a director of
officer and shall enure to the benefit of the heirs and legal representatives of
such person. The Company maintains director's and officer's insurance.
Insofar as indemnification for liabilities arising under the Securities Act
of 1933 may be permitted to directors, officers, or persons controlling the
Company pursuant to the foregoing provisions, the Company has been informed that
in the opinion of the Securities and Exchange Commission, such indemnification
is against public policy as expressed in the Act and is therefore unenforceable.
ITEM 13. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA.
See Financial Statement and Financial Statement Schedules included
separately herein.
ITEM 14. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURE.
None.
ITEM 15. FINANCIAL STATEMENTS AND EXHIBITS.
(a) FINANCIAL STATEMENTS AND FINANCIAL STATEMENT SCHEDULES. See the
accompanying Index to Financial Statements.
(b) EXHIBITS. See the accompanying Index of Exhibits.
-33-
<PAGE>
SIGNATURES
Pursuant to the requirements of Section 12 of the Securities Exchange Act
of 1934, the registrant has duly caused this registrant statement to be signed
on its behalf by the undersigned, thereunto duly authorized.
SEVEN SEAS PETROLEUM INC.
By /s/ HERBERT C. WILLIAMSON, III
Herbert C. Williamson, III
Executive Vice President
and Chief Financial Officer
Date: October 24, 1997
-34-
<PAGE>
APPENDIX A
GLOSSARY OF TECHNICAL TERMS
ANTICLINAL TRAP means a subsurface, geological structure in the form of a sine
curve (i.e., the information rises to a rounded peak) as a result of which any
oil in the deposit will normally rise to the highest point in the structure.
APPRAISAL WELL means a well drilled subsequent to a discovery well in order to
confirm potential recoverable reserve quantities prior to development drilling
of the field.
AQUIFER means water bearing rock structure.
BOPD means barrels of oil per day.
COMMISSION means the U.S. Securities and Exchange Commission.
COMPLETION means the installation of permanent equipment for the production of
crude oil or gas, or in the case of a dry hole, the reporting of abandonment to
the appropriate agency.
DEVELOPMENT WELL means a well drilled within the proved area of a oil or gas
reservoir to the depth of a stratigraphic horizon known to be productive.
DRILL STEM TEST means a method of determining the presence of oil and gas in a
formation. When the depth to be tested has been reached in a well being drilled,
a special tool is lowered into the hole. The drilling mud is removed and the
contents of the formation allowed to flow into the tool while an instrument
measures the pressure.
ECOPETROL means Empresa Colombiana de Petroleos, the Colombian national oil
company.
EXPLORATORY WELL means a well drilled to find and produce oil and gas reserves
in an unproved area, to find a new reservoir in a field previously found to be
productive of oil and gas in another reservoir, or to extend a known reservoir.
FARMOUT means an agreement whereby the owner of a lease agrees to assign or
transfer the lease (or some portion of it), retaining some interest (such as an
overriding royalty or right to share in production), subject to the drilling of
one or more wells as a prerequisite to completion of the transfer by him.
MMBO means one million barrels of crude oil.
OPERATOR means any person, partnership, corporation or other entity engaged in
the business of exercising direct supervision over the drilling or completion of
or production from a well.
PRODUCTIVE WELL means a well that is found to be capable of producing
hydrocarbons in sufficient quantities such that proceeds from the sale of such
production exceed production expenses and taxes.
PROVEN OR PROVED DEVELOPED RESERVES means those proved reserves that can be
expected to be recovered through existing wells with existing equipment and
operating methods.
PROVEN OR PROVED RESERVES means 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.
PROVEN OR PROVED UNDEVELOPED RESERVES means those proved 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.
RESERVOIR means a porous and permeable underground formation containing a
natural accumulation of producible oil and/or gas that is confined by
impermeable rock or water barriers and is individual and separate from other
reservoirs.
- 35 -
<PAGE>
INDEX OF EXHIBITS
NO. EXHIBIT DOCUMENT
(1) Not Applicable
(2) Not Applicable
(3) Articles of Incorporation and By-laws
*(A) The Amalgamation Agreement effective June 29, 1995 by and
between Seven Seas Petroleum Inc., a British Columbia
corporation; and Rusty Lake Resources Ltd.
*(B) Certificate of Continuance and Articles of Continuance into
the Yukon Territory
*(C) By-Laws
(4) Instruments defining the rights of security holders, including
indentures
*(A) Excerpts from the Articles of Continuance
*(B) Excerpts from the By-laws
*(C) Specimen stock certificate
*(D) Form of Class B Warrant
*(E) Class B Warrant Indenture dated as of October 15, 1996 by and
between the Company of Canada and Montreal Trust Company
(9) Not Applicable
(10) Material Contracts
*(A) Agreement dated August 14, 1995 by and between the Company and
GHK Company Colombia, as amended by letter agreement dated
November 30, 1995
*(B) The Association Contract by and between Ecopetrol, GHK Company
Colombia and Petrolinson, S.A. relating to the Dindal block,
as amended
*(C) The Association Contract by and between Ecopetrol and GHK
Company Colombia relating to the Rio Seco block
*(D) Joint Operating Agreement dated as of August 1, 1994 by and
between GHK Company Colombia and the holders of interests in
the Dindal block
*(E) The GHK Company Colombia Share Purchase Agreement dated as of
July 26, 1996 by and between Robert A. Hefner III, Seven Seas
Petroleum Colombia Inc. and the Company
<PAGE>
NO. EXHIBIT DOCUMENT
*(F) The Cimarrona Purchase Agreement dated as of July 26, 1996 by
and between the members of Cimarrona Limited Liability
Company, the Company, Seven Seas Petroleum Colombia Inc., and
Robert A. Hefner III
*(G) The Esmeralda Purchase Agreement dated as of July 26, 1996 by
and between the members of Esmeralda Limited Liability
Company, Robert A. Hefner III, the Company, Seven Seas
Petroleum Holdings, Inc. and Seven Seas Petroleum Colombia
Inc.
*(H) The Registration Rights Agreement dated as of July 26, 1996 by
and between the Company and certain individuals
*(I) Shareholders' Voting Support Agreement dated as of July 26,
1996 by and between Seven Seas Petroleum Inc. and Messrs.
Hefner, Kerr, Whitehead, Plewes and Stephens
*(J) Management Services Agreement by and among GHK Company
Colombia, the Company and The GHK Company LLC
*(K) The Escrow Agreement for a Natural Resources Company by and
among Montreal Trust Company as trustee, the Company and
certain individuals and entities
*(L) The Escrow Agreement for a Natural Resources Company by and
among Montreal Trust Company, as trustee, the Company and
Albert E. Whitehead
*(M) Amended 1996 Stock Option Plan
*(N) Form of Incentive Stock Option Agreement
*(O) Form of Directors' Stock Option Agreement
*(P) Form of Employment Agreement between the Company and each of
Messrs. Stephens, Dorrier and DeCort
*(Q) Form of Agreement between the Company and each of Messrs.
Stephens, Dorrier and DeCort relating to a change of control
*(R) Form of Employment Agreement between the Company and Larry A.
Ray
*(S) Settlement Agreement between the Company and Mr. Whitehead
dated May 20, 1997
*(T) Petrolinson S.A. Share Purchase Agreement dated February 14,
1997, between Hazel Ventures LTD., Seven Seas Petroleum
Colombia Inc. and Seven Seas Petroleum Inc.
<PAGE>
NO. EXHIBIT DOCUMENT
*(U) Pledge Agreement dated March 5, 1997 among Hazel Ventures
LTD., Seven Seas Petroleum Inc., Seven Seas Petroleum Colombia
Inc., and Integro Trust (BVI Limited)
*(V) Shareholder Voting Support Agreement made as of March 5, 1997
between Seven Seas Petroleum Inc. and Hazel Ventures LTD.
*(W) Purchase Warrant Indenture made as of August 7, 1997 between
Seven Seas Petroleum Inc. and Montreal Trust Company of Canada
*(X) Indenture made as of August 7, 1997 between Seven Seas
Petroleum Inc. and Montreal Trust Company of Canada
*(Y) Limited Recourse Guarantee, Security and Pledge Agreement made
as of August 7, 1997 between Seven Seas Petroleum Holdings
Inc. and Montreal Trust Company of Canada
*(Z) Limited Recourse Guarantee, Security and Pledge Agreement made
as of August 7, 1997 between Seven Seas Petroleum Colombia
Inc. and Montreal Trust Company of Canada
*(AA) Private Placement Subscription Agreement made as of August 7,
1997 between Seven Seas Petroleum Inc. and Jasopt Pty Limited
*(BB) 1997 Stock Option Plan
(11.1) Not Applicable
(12) Not Applicable
(13) Not Applicable
(16) Not Applicable
(18) Not Applicable
(21) Not Applicable
*(22) Subsidiaries of the Registrant
(23) Consent of experts and counsel
*(A) Consent of Jerry L. Williams, Independent Public Accountants
*(B) Consent of Arthur Andersen LLP
(24) Not Applicable
*(27) Financial Data Schedule
(28) Not Applicable
<PAGE>
(99) Not Applicable
- ------------
* Previously filed.
<PAGE>
SEVEN SEAS PETROLEUM INC. AND SUBSIDIARIES
INDEX TO FINANCIAL STATEMENTS
<TABLE>
<CAPTION>
Page
<S> <C>
Historical Financial Statements of Acquired Companies
Introduction to the Acquisition.................................................... F-1
GHK Company Colombia
Report of Independent Public Accountant........................................ F-2
Balance Sheets as of July 26, 1996 and December 31, 1995, 1994 and 1993........ F-3
Statements of Operations for the Period from January 1, 1996 to July 26, 1996
and the Years Ended December 31, 1995, 1994 and 1993....................... F-4
Statements of Stockholder's Equity for the Period from January 1, 1996 to
July 26, 1996 and the Years Ended December 31, 1995, 1994 and 1993......... F-5
Statements of Cash Flows for the Period from January 1, 1996 to July 26, 1996
and the Years Ended December 31, 1995, 1994 and 1993....................... F-6
Notes to Financial Statements.................................................. F-7
Esmeralda Limited Liability Company
Report of Independent Public Accountant........................................ F-8
Balance Sheets as of July 26, 1996 and December 31, 1995, 1994 and 1993........ F-9
Statements of Operations for the Period from January 1, 1996 to July 26, 1996
and the Years Ended December 31, 1995, 1994 and 1993....................... F-10
Statements of Members' Equity for the Period from January 1, 1996 to July 26,
1996 and the Years Ended December 31, 1995, 1994 and 1993.................. F-11
Statements of Cash Flows for the Period from January 1, 1996 to July 26, 1996
and the Years Ended December 31, 1995, 1994 and 1993....................... F-12
Notes to Financial Statements.................................................. F-13
Cimarrona Limited Liability Company
Report of Independent Public Accountant........................................ F-14
Balance Sheets as of July 26, 1996 and December 31, 1995 and 1994.............. F-15
Statements of Operations for the Period from January 1, 1996 to July 26, 1996
and the Years Ended December 31, 1995 and 1994............................. F-16
Statements of Members' Equity for the Period from January 1, 1996 to July 26,
1996 and the Years Ended December 31, 1995 and 1994........................ F-17
Statements of Cash Flows for the Period from January 1, 1996 to July 26, 1996
and the Years Ended December 31, 1995 and 1994............................. F-18
Notes to Financial Statements.................................................. F-19
Pro Forma Financial Statement
Introduction to the Pro Forma Statement and Pro Forma Statement of
Operations (Unaudited)......................................................... F-20
Consolidated Financial Statements
Report of Independent Public Accountants........................................... F-21
Consolidated Balance Sheets as of June 30, 1997, December 31, 1996 and 1995........ F-22
Statements of Consolidated Operations and Accumulated Deficit for the Six
Months Ended June 30, 1997 and 1996, the Year Ended December 31, 1996,
From Inception (February 3, 1995) to December 31, 1995, and Cumulative
Total from Inception to June 30, 1997.......................................... F-23
Statement of Consolidated Stockholders' Equity for the Period from Inception
(February 3, 1995) through June 30, 1997....................................... F-24
Statements of Consolidated Cash Flows for the Six Months Ended June 30,
1997 and 1996, the Year Ended December 31, 1996, Period from Inception
(February 3, 1995) to December 31, 1995, and Cumulative Total from
Inception to June 30, 1997..................................................... F-25
Notes to Consolidated Financial Statements......................................... F-26
</TABLE>
<PAGE>
SEVEN SEAS PETROLEUM INC. AND SUBSIDIARIES
(A Development Stage Enterprise)
Introduction to the Acquisition
On July 26, 1996, Seven Seas acquired 100 percent of the outstanding stock,
which represented 100 percent of the voting shares held in GHK Company Colombia
and Esmeralda LLC. Additionally, on the same date, the Company acquired 62.963
percent of the outstanding shares and voting stock of Cimarrona LLC.
Collectively, the acquisition of these three companies resulted in the purchase
of an additional 36.7 percent participating interest in the Dindal and Rio Seco
Association Contracts ("the Association Contracts") in which the Company
previously held a 15 percent participating interest. All three entities were oil
and gas exploration companies whose only material asset was the participating
interest they held in the Association Contracts in Colombia. As consideration
for the increased interest, Seven Seas issued to the stockholders in GHK Company
Colombia, Esmeralda LLC and Cimarrona LLC a combination of preferred shares and
special warrants which are exchangeable into a total of 16,777,143 common shares
upon the earlier of the approval of a prospectus qualifying the exchange, or one
year from the closing of the transaction. This transaction has been reflected as
an acquisition using the purchase method of accounting, whereby the assets
acquired and the liabilities assumed were fair valued and the three respective
entities have been prospectively reflected in the Company's financial statements
since July 26, 1996. The historical financial statements of the acquired
companies are presented on the succeeding pages.
F-1
<PAGE>
INDEPENDENT AUDITOR'S REPORT
To the Board of Directors of
GHK Colombia Company
I have audited the accompanying balance sheets of GHK Company Colombia (an
Oklahoma Corporation) as of July 26, 1996 (prior to the sale of stock discussed
in Note 5) and December 31, 1995, 1994, and 1993 and the related statements of
operations, stockholder's equity, and cash flows for the periods then ended.
These financial statements are the responsibility of the Company's management.
My responsibility is to express an opinion on these financial statements based
on my audits.
I conducted my audits in accordance with generally accepted auditing standards.
These standards require that I plan and perform the audits 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.
I believe that my audits provide a reasonable basis for my opinion.
In my opinion, the financial statements referred to above present fairly, in all
material respects, the financial position of GHK Company Colombia as of July 26,
1996 and December 31, 1995, 1994 and 1993, and the results of its operations and
its cash flows for the periods then ended in conformity with generally accepted
accounting principles.
Jerry L. Williams, CPA
Oklahoma City, Oklahoma
August 5, 1997
F-2
<PAGE>
GHK Company Colombia
Balance Sheets
<TABLE>
<CAPTION>
December 31,
July 26, -------------------------------------
1996 1995 1994 1993
---------- ---------- ---------- ----------
<S> <C> <C> <C> <C>
Assets
Current assets:
Cash and cash equivalents (Note 3) ....... $ 546,943 $ 561,039 $ 28,667 $ 18,928
Accounts receivable:
Joint venture operations (Note 2) ..... -- 48,600 1,001 324,328
Affiliates (Notes 2 and 7) ............ -- 667,723 162,143 146,629
Oil and gas sales ..................... 5,766 -- -- --
---------- ---------- ---------- ----------
Total current assets ....................... 552,709 1,277,362 191,811 489,885
Properties and equipment,
at cost, (Notes 2 and 9):
Oil and gas properties (full cost method)
Proved ............................... -- -- -- --
Unproved (excluded from amortization) 757,331 410,630 253,260 28,851
---------- ---------- ---------- ----------
757,331 410,630 253,260 28,851
Less accumulated depreciation,
depletion, and amortization .......... -- -- -- --
---------- ---------- ---------- ----------
Net properties and equipment ............... 757,331 410,630 253,260 28,851
---------- ---------- ---------- ----------
$1,310,040 $1,687,992 $ 445,071 $ 518,736
========== ========== ========== ==========
Liabilities and stockholder's equity
Current liabilities:
Accounts payable ......................... $ 489,077 $ 958,408 $ 4,314 $ 190,047
Payable to former stockholder (Note 6) .. 21,215 -- -- --
Advance payments from joint venture
participants (Note 2 ) ................. 45,573 44,535 -- --
Advances from affiliates (Note 7) ........ 73,998 -- -- --
Note payable to affiliate
due within one year (Note 4) ........... -- 360,889 -- --
---------- ---------- ---------- ----------
Total current liabilities .................. 629,863 1,363,832 4,314 190,047
Note payable to affiliate due after
one year (Note 4) ........................ -- -- 360,889 355,889
Commitments and contingencies
(Notes 2,3, and 8) ...................... -- -- -- --
Stockholder's equity (Notes 2, 5, 6, and 9):
Common stock, $.50 par value, 100,000
shares authorized and 1,000 shares
outstanding ............................ 500 500 500 500
Additional paid in capital ............... 369,038 -- -- --
Retained earnings ........................ 310,639 323,660 79,368 (27,700)
---------- ---------- ---------- ----------
680,177 324,160 79,868 (27,200)
---------- ---------- ---------- ----------
$1,310,040 $1,687,992 $ 445,071 $ 518,736
========== ========== ========== ==========
</TABLE>
The accompanying notes are an integral part of these financial statements.
F-3
<PAGE>
GHK Company Colombia
Statements of Operations
<TABLE>
<CAPTION>
Period from
January 1 to Year ended December 31,
July 26, ------------------------------
1996 1995 1994 1993
-------- -------- -------- --------
<S> <C> <C> <C> <C>
Revenues:
Oil and gas sales ................. $ 5,766 $ -- $ -- $ --
Joint operations income (Note 2) . -- -- 84,783 --
Promotion fees (Note 7) .......... -- 246,383 25,000 --
-------- -------- -------- --------
Total revenues ...................... 5,766 246,383 109,783 --
Cost and expenses:
Lease operating expenses .......... 13,411 -- -- --
General and administrative ........ 5,376 2,091 2,715 27,700
-------- -------- -------- --------
Total costs and expenses ............ 18,787 2,091 2,715 27,700
-------- -------- -------- --------
Net income (loss) before income taxes (13,021) 244,292 107,068 (27,700)
-------- -------- -------- --------
Provision for income taxes .......... -- -- -- --
-------- -------- -------- --------
Net income (loss) ................... $(13,021) $244,292 $107,068 $(27,700)
======== ======== ======== ========
</TABLE>
The accompanying notes are an integral part of these financial statements.
F-4
<PAGE>
GHK Company Colombia
Statements of Stockholder's Equity
For the period from January 1, 1996 to July 26, 1996,
and the years ended December 31, 1995, 1994, and 1993
<TABLE>
<CAPTION>
Additional
Common Paid In Retained
Stock Capital Earnings
---------- ---------- ----------
<S> <C> <C> <C>
Balance at December 31, 1992 ................................ $ -- $ -- $ --
Issuance of 1,000 shares of common stock .................... 500 -- --
Net loss .................................................... -- -- (27,700)
---------- ---------- ----------
Balance at December 31, 1993 ................................ 500 -- (27,700)
Net income .................................................. -- -- 107,068
---------- ---------- ----------
Balance at December 31, 1994 ................................ 500 -- 79,368
Net income .................................................. -- -- 244,292
---------- ---------- ----------
Balance at December 31, 1995 ................................ 500 -- 323,660
Conversion of note payable obligation into additional
paid in capital (Note 4) .................................. -- 390,253 --
Net loss for the period from January 1, 1996 to July 26, 1996 -- -- (13,021)
Excess advance by former shareholder (Note 6) .............. -- (21,215) --
---------- ---------- ----------
Balance at end of period .................................... $ 500 $ 369,038 $ 310,639
========== ========== ==========
</TABLE>
The accompanying notes are an integral part of these financial statements.
F-5
<PAGE>
GHK Company Colombia
Statements of Cash Flows
<TABLE>
<CAPTION>
Period from
January 1 to Year ended December 31,
July 26, --------------------------------------------
1996 1995 1994 1993
------------ ------------ ------------ ------------
<S> <C> <C> <C> <C>
Cash flows from operating activities:
Net income (loss) ........................ $ (13,021) $ 244,292 $ 107,068 $ (27,700)
Adjustments to reconcile net loss to net
cash provided by operating activities:
(Increase) decrease in:
Accounts receivable ................. 710,557 (553,179) 307,813 (470,957)
Increase (decrease) in:
Accounts payable .................... (469,331) 954,094 (185,733) 190,047
Advance payments from joint venture
participants ...................... 1,038 44,535 -- --
Advances from affiliates ............ 73,998 -- -- --
------------ ------------ ------------ ------------
Total adjustments ........................ 316,262 445,450 122,080 (280,910)
Net cash provided by (used for)
operating activities ................... 303,241 689,742 229,148 (308,610)
Cash flows from investing activities:
Additions to oil and gas properties ...... (346,701) (157,370) (224,409) (28,851)
------------ ------------ ------------ ------------
Net cash used for investing activities ... (346,701) (157,370) (224,409) (28,851)
Cash flows from financing activities:
Proceeds from borrowings ................. 1,119,081 155,000 1,490,000 335,889
Payments on notes payable ................ (1,089,717) (155,000) (1,485,000) --
------------ ------------ ------------ ------------
Net cash provided by financing activities 29,364 -- 5,000 335,889
Net increase (decrease) in cash and
cash equivalents ....................... (14,096) 532,372 9,739 (1,572)
Cash and cash equivalents
at beginning of year ................... 561,039 28,667 18,928 20,000
------------ ------------ ------------ ------------
Cash and cash equivalents
at end of period ....................... $ 546,943 $ 561,039 $ 28,667 $ 18,428
============ ============ ============ ============
Noncash financing activities:
Conversion of note payable obligation into
additional paid in capital ............. $ 390,253 -- -- --
Excess advance by former
shareholder (Note 6) .................. $ 21,215
</TABLE>
The accompanying notes are an integral part of these financial statements.
F-6
<PAGE>
GHK Company Colombia
Notes to Financial Statements
July 26, 1996 and December 31, 1995, 1994, and 1993
1. ORGANIZATION AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
ORGANIZATION AND PRESENTATION
GHK Company Colombia (the "Company") was incorporated on November 24, 1992,
under the laws of the State of Oklahoma. The Company's original stockholder was
The GHK Company, an Oklahoma general partnership, whose managing partner is
Robert A. Hefner III ("Hefner"). In December 1993, The GHK Company assigned all
of the outstanding stock of the Company to Hefner.
As discussed in Note 5, on July 26, 1996, Hefner sold all of the outstanding
shares of the Company. The financial statements have been prepared and are
presented prior to the sale by Hefner and before any write up of oil and gas
properties.
OPERATIONS
The Company is engaged in the exploration, development and production of oil and
gas properties located in Colombia, South America. The principal asset of the
Company is a participating interest in certain association contracts allowing
for the exploration and development of the Dindal and Rio Seco blocks located in
the Upper Magdalena Basin of Colombia.
All of the Company's exploration and development are conducted jointly with
others, and the financial statements reflect only the Company's proportionate
interest in such activities.
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 on
contingent assets and liabilities at the date of the financial statements and
the reported amounts of revenue and expenses during the reporting periods.
Actual results could differ from those estimates.
OIL AND GAS PROPERTIES
The Company follows the full cost method of accounting for oil and gas
properties. Accordingly, all costs associated with acquisition, exploration, and
development of oil and gas reserves, including directly related overhead costs,
are capitalized.
F-7
<PAGE>
GHK Company Colombia
Notes to Financial Statements
July 26, 1996 and December 31, 1995, 1994, and 1993
1. ORGANIZATION AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
OIL AND GAS PROPERTIES (CONTINUED)
All capitalized costs of oil and gas properties, including the estimated future
costs to develop proved reserves, are amortized on the unit-of-production method
using estimates of proved reserves. Investments in unproved properties and major
development projects are not amortized until proved reserves associated with the
projects can be determined or until impairment occurs. If the results of an
assessment indicate that the properties are impaired, the amount of the
impairment is added to the capitalized costs to be amortized.
In addition, the capitalized costs are subject to a "ceiling test", which
basically limits such costs to the aggregate of the present value of estimated
future net revenues, based on current economic and operating conditions, plus
the lower of cost or fair market value of unproved properties.
Sales of proved and unproved properties are accounted for as adjustments of
capitalized costs with no gain or loss recognized, unless such adjustments would
significantly alter the relationship between capitalized costs and proved
reserves of oil and gas, in which case the gain or loss is recognized in income.
Abandonments of properties are accounted for as adjustments of capitalized costs
with no loss recognized.
INCOME TAXES
The Company, with the consent of its stockholder, elected to be an S Corporation
under the provision of the Internal Revenue Code. Instead of paying corporate
income taxes, the stockholders of an "S" Corporation are taxed individually on
their proportionate share of the Company's taxable income.
As a result of the sale of the Company's stock on July 26, 1996, (see Note 5),
the Company's S Corporation election was terminated. Therefore no provision or
liability for federal or state income taxes has been included in the financial
statements for 1993, 1994, 1995 and for the period from January 1, 1996 to July
26, 1996.
<PAGE>
GHK Company Colombia
Notes to Financial Statements
July 26, 1996 and December 31, 1995, 1994, and 1993
1. ORGANIZATION AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
FOREIGN CURRENCY TRANSLATION
The Company's reporting and functional currency is U. S. dollars. No material
translation gains or losses were recorded during the periods reported.
FINANCIAL INSTRUMENTS
The carrying amounts of the Company's financial instruments including cash and
cash equivalents, accounts receivable, and accounts payable approximates fair
value as of July 26, 1996 and December 31, 1995.
The Company does not hold or issue financial instruments for trading purposes.
REVENUE RECOGNITION
Generally, oil and gas revenues from producing wells are recognized when the oil
or gas is produced and sold.
2. COLOMBIAN OPERATIONS
In January 1993, effective in March 1993, the Company and Petrolinson S. A.
("Petrolinson"), a Panamanian Corporation, entered into a risk sharing
Association Contract (the "Dindal Contract") with Empresa Colombiana de
Petroleos, the Colombian national oil company ("Ecopetrol"). The Dindal Contract
entitled the Company to explore for oil and gas on approximately 198,000 net
acres located in the Cundinamarca Region of Colombia (the "Dindal Block") and
provides for a six-year exploration period expiring in 1999, subject to a
requirement for additional partial relinquishments in 1999, and for a production
period expiring in 2021. Under the terms of the Dindal Contract, as modified in
1994, the Company is obligated to drill one exploratory well a year for six
years ending in 1999, and provide certain geological and geophysical information
and training. In 1994, under the terms of the Dindal Contract, the Company
returned 54,000 acres in the Northern Part of the Dindal Block, in exchange for
certain drilling concessions.
<PAGE>
GHK Company Colombia
Notes to Financial Statements
July 26, 1996 and December 31, 1995, 1994, and 1993
2. COLOMBIAN OPERATIONS (CONTINUED)
In June 1995, effective August 1995, the Company entered into a risk sharing
Association Contract (the "Rio Seco Contract") with Ecopetrol. The Rio Seco
contract covers an area of approximately 43,000 acres contiguous to the western
boundary of the Dindal Block (the "Rio Seco Block"). The six year exploration
period will expire in 2001 and is subject to a requirement for additional
partial relinquishments of acreage in 2001. The Rio Seco Contract also provides
for a 22-year production period with the contract expiring in 2023. Under the
terms of the Rio Seco Contract, the Company is obligated to perform certain
geological and geophysical studies and drill one exploratory well a year for
five years ending in 2001.
In February 1993 and June 1995, the Company and Petrolinson, wholly owned by
Norman R. Rowlinson, a geologist, entered agreements, whereby, the Company
assigned to Petrolinson, a 6% interest in the Dindal and Rio Seco Contracts (the
"Contracts") in exchange for services provided in obtaining the Contracts. The
Company agreed to pay Petrolinson's share of costs through the exploration
period of the Contracts. As discussed in Note 9, Seven Seas Petroleum Inc.
purchased this 6% interest from Petrolinson in March 1997.
During 1994 and 1995, the Company assigned various participation interests in
the Contracts, subject to the same commitments and obligations as the Company,
totaling 83.056%, while retaining a 10.944% participation interest. Under the
terms of the assignments, the participants are obligated to pay certain
exploration and developments costs in excess of their participation interest
assigned, and to reimburse the Company certain costs and expenses incurred in
securing the Contracts.
The Company serves as the operator of the Colombian properties under the
Contracts. The Contracts provide for the Company to be reimbursed for overhead
expenses based upon a stated percentage of expenditures under the Contracts. In
1994 the Company received income of $84,783 under this provision. In 1995, the
Company and The GHK Company entered into an agreement, whereby, the Company
assigned its rights to the overhead reimbursement to The GHK Company in exchange
for The GHK Company providing the personnel and technical expertise required
under the Contract.
<PAGE>
GHK Company Colombia
Notes to Financial Statements
July 26, 1996 and December 31, 1995, 1994, and 1993
2. COLOMBIAN OPERATIONS (CONTINUED)
The Dindal and Rio Seco Contracts provides that Ecopetrol will receive a royalty
equal to 20% of production on behalf of the Colombian government and, is
entitled to an additional 50% of the remaining production. In the event a
discovery field is deemed commercially feasible, initiating the "Exploitation"
period under the Contracts, Ecopetrol will bear 50% of the future costs in that
field, and reimburse the joint venture, from Ecopetrol's share of future
production from the field, for 50% of the joint venture's costs of successful
exploratory wells in the field. If a commercial field on the Dindal Block
produces in excess of 60 million barrels, Ecopetrol's interest in production and
costs will increase in 5% increments from 50% to 70% as accumulated production
from the field increases in 30 million barrel increments from 60 million barrels
to 150 million barrels. If a commercial field on the Rio Seco Block produces in
excess of 60 million barrels, Ecopetrol's interest in production and costs
ranges from 50% to 75% based on annual measurements of profitability as defined
in the Rio Seco Contract. The joint venture bears all costs and risks of
exploration activities on the Dindal Block and Rio Seco Block, subject to
Ecopetrol's right to acquire a 50% interest in commercial discoveries.
If a discovery is made and is not deemed by Ecopetrol to be commercially
feasible, the joint venture may continue to develop the field at its own expense
and will recover 200% of the costs from Ecopetrol, at which time Ecopetrol will
then acquire a 50% interest.
The joint venture has completed its drilling and other obligations for the first
three years of the Dindal Contract. Management of the Company believes
additional development activities are necessary before a commerciality
application will be submitted to Ecopetrol. The joint venture has the right to
continue the exploration program through 1999 with an obligation to conduct
exploration programs to be approved by Ecopetrol in 1997, 1998, and 1999. By
letter dated November 7, 1996, Ecopetrol granted the first annual extension of
the exploration program for the year 1997. The joint venture has also completed
its geological and geophysical obligations for the first year of the Rio Seco
Contract, but no wells have yet been drilled on the Rio Seco Block.
3. CONCENTRATION OF CREDIT RISK
The Company maintains cash balances with high credit quality financial
institutions, one located in the United States and one located in Colombia. The
balances in these accounts, at times, have exceeded insured limits.
<PAGE>
GHK Company Colombia
Notes to Financial Statements
July 26, 1996 and December 31, 1995, 1994, and 1993
3. CONCENTRATION OF CREDIT RISK (CONTINUED)
As noted previously, the Company's oil and gas operations are in the country of
Colombia. Because of this, the Company is subject not only to the ordinary
economic risks of the country such as changes in taxes, rate of inflation, etc.,
but also to changes in the political environment which may take place within
Colombia.
4. NOTE PAYABLE TO AFFILIATE
In 1993, the Company entered into a loan agreement with The GHK Company for cash
advances previously made to the Company. Under the terms of the loan agreement,
the outstanding balance accrued interest at 9% per annum and was payable
monthly. The outstanding principal balance was due on December 31st of each
year. The note was secured by all of the assets of the Company and was
guaranteed by Hefner. Each year the loan agreement was renewed for a one year
period. During the life of the loan the Company did not pay any interest, and in
1996, The GHK Company relieved the Company of any obligation to pay interest
accrued under the loan agreement.
Below is a schedule of note activity:
<TABLE>
<CAPTION>
Period from Year ended December 31,
January 1 to --------------------------------------------
July 26, 1996 1995 1994 1993
------------ ------------ ------------ ------------
<S> <C> <C> <C> <C>
Beginning balance .......... $ 360,889 $ 360,889 $ 355,889 $ 20,000
Advances ................... 1,119,081 155,000 1,490,000 335,889
Payments:
Cash ..................... (1,089,717) (155,000) (1,485,000) --
Conversion of note payable
obligation to additional
paid in capital ........ (390,253) -- -- --
------------ ------------ ------------ ------------
Ending balance ............. $ -- $ 360,889 $ 360,889 $ 355,889
============ ============ ============ ============
Current portion ............ $ -- $ 360,889 $ -- $ --
Long term portion .......... -- -- 360,889 355,889
$ -- $ 360,889 $ 360,889 $ 355,889
------------ ------------ ------------ ------------
</TABLE>
<PAGE>
GHK Company Colombia
Notes to Financial Statements
July 26, 1996 and December 31, 1995, 1994, and 1993
4. NOTE PAYABLE TO AFFILIATE (CONTINUED)
During the period from January 1, 1996 to July 26, 1996, advances of $1,119,081
and cash payments of $1,089,717 were made on the note. On July 26, 1996, the
remaining balance on the loan of $390,253 was retired by converting the
obligation to additional paid in capital of the Company.
5. SALE OF THE COMPANY'S STOCK
On July 26, 1996, Robert A. Hefner III, the sole shareholder of the Company,
sold all of the issued and outstanding stock of the Company in exchange for
5,002,972 Class A Preferred Shares Series 1 (the "Preferred Shares") issued by
Seven Seas Petroleum Inc. ("SSPI"). SSPI is incorporated under the laws of
British Colombia and had previously acquired a 15% participation interest in the
Dindal and Rio Seco Contracts. In accordance with the terms of the sales
agreement, 70% or 3,502,080 of the Preferred Shares were placed in escrow. Under
the terms of the escrow agreement, the escrowed Preferred Shares are to be
released on the earlier of (a) on July 26, 1997, 1998, and 1999, one third of
the warrants shall be released or (b) a value of $118,908,000 for the properties
under the Dindal and Rio Seco Contracts is approved by the Director of the
Ontario Securities Commission.
The shares of the Company were transferred to Seven Seas Petroleum Colombia
Inc., a wholly owned subsidiary ofSSPI. Pursuant to the special rights and
restrictions attaching to the Preferred Shares, each Preferred Share may be
converted, without payment of additional consideration, to common shares on the
earlier of: (a) five business days following the issuance of a receipt for
SSPI's final prospectus by the last of the British Columbia, Alberta and Ontario
Securities Commissions or (b) July 25, 1997. The required receipt was received
in February 1997.
As part of the Seven Seas sale, the Company, on July 26, 1996, The GHK Company
and Seven Seas entered into a Management Services Agreement, whereby The GHK
Company, as Manager under the agreement, will provide the necessary services and
administrative support as may be required for the Company to perform its duties
and obligations under the terms of the Dindal and Rio Seco Contracts. The GHK
Company is entitled to $15,000 a month plus all of the overhead charges
authorized under the joint operating agreements for the Contracts.
<PAGE>
GHK Company Colombia
Notes to Financial Statements
July 26, 1996 and December 31, 1995, 1994, and 1993
5. SALE OF THE COMPANY'S STOCK (CONTINUED)
Members of two affiliates, Cimarrona Limited Liability Company ("Cimarrona") and
Esmeralda Limited Liability Company ("Cimarrona"), sold their interest in the
affiliates, to SPPI in exchange for certain special warrants ofSSPI. These sales
represented a 25.756% participation interest in the Contracts. After the
purchase of the various participation interests, SSPI owned a 51.7% interest in
the Dindal and Rio Seco Contracts.
In connection with the sale of his stock, Hefner, entered into an agreement with
an individual agreeing to pay him a fee equal to 0.5% of the Preferred Shares,
otherwise issuable to him, in exchange for his services in structuring,
negotiating and closing the sale transaction. The individual elected to receive
B Special Warrants issued by SSPI in lieu of the Preferred Shares.
6. EQUITY ADJUSTMENT
Under the terms of the sales agreement covering the sale of the Company's stock,
discussed in Note 5, post closing adjustments are to be completed within 120
days of the closing date. It was determined that Hefner had advanced $21,215 in
excess of his share of cost and expenses as of July 26, 1996. An adjustment to
additional paid in capital has been made for this amount.
7. RELATED PARTY TRANSACTIONS
Substantially all the Company's activity represents costs and expenses relating
to the Dindal and Rio Seco Contracts. Below is a schedule of payments received
by the Company from Esmeralda and Cimarrona.
ESMERALDA CIMARRONA
------------ ------------
January 1 to July 26, 1996 ... $ 635,622 1,255,663
Year ended December 31, 1995 . 5,000 --
Year ended December 31, 1994 . 703,611 1,045,686
Year ended December 31, 1993 . -- --
------------ ------------
$ 1,344,233 $ 2,301,349
============ ============
At December 31, 1995, 1994 and 1993, Esmeralda owed the Company $295,283,
$158,771, and $146,129, respectively, for their share of costs and expenses
under the Contracts. At December 31, 1995 and 1994, Cimarrona owed the Company
$371,840, and $2,872, respectively for their share of costs and expenses under
the Contracts. At July 26, 1996, Esmeralda and Cimarrona had advanced $13,759
and $36,231, respectively, in excess of their share of accrued expenses.
<PAGE>
GHK Company Colombia
Notes to Financial Statements
July 26, 1996 and December 31, 1995, 1994, and 1993
7. RELATED PARTY TRANSACTIONS (CONTINUED)
At July 26, 1996, SSPI had advanced to the Company $24,008 in excess of their
share of accrued expenses.
In 1995, the Company received promotion fees of $246,383, including $106,383
from SSPI and $140,000 from new members in Cimarrona, for the right to
participate in the Dindal and Rio Seco Contracts.
In March 1993, the Company was required under the terms of the Dindal Contract
to provide a $500,000 letter of credit in favor of Ecopetrol in order to
guarantee payment of the first year costs under the Contract. The letter of
credit expired in March 1994. An affiliate, The GHK Company, guaranteed the
letter of credit by pledging a $500,000 certificate of deposit during the term
of the letter of credit.
In February 1993, the Company entered into a consulting services agreement with
Minandina Ltda. ("Minandina"), wholly owned by Norman R. Rowlinson. Under the
agreement Minandina provided managerial, administrative and technical assistance
to the Company, and act as a Company liaison to various Colombian government
agencies. The agreement was amended effective August 1, 1995. For the period
from January 1 to July 26, 1996 and for the years ended December 31, 1995, 1994,
and 1993 the Company paid Minandina $48,522, $23,216, $87,317, and $61,180,
respectively.
In 1994, the Company, Esmeralda, and Cimarrona entered into an agreement with
two individuals to serve as principal legal representatives of the Company in
Colombia in exchange for a monthly payment of $5,000. These individuals or their
controlled corporations indirectly own membership interests in Esmeralda. For
the period from January 1 to July 26, 1996 and for the years ended December 31,
1995 and 1994, payments of $37,500, $37,000 and $29,308, respectively, were made
under the agreement.
8. COMMITMENTS AND CONTINGENCIES
For the period from July 27, 1996 to June 30, 1997, Seven Seas Petroleum
Colombia, Inc. had advanced to the Company approximately $1,673,000 representing
the Company's share of exploration costs under the Rio Seco and Dindal Contracts
for that period. In addition, the Company has elected to participate in two
wells with an estimated total cost of $8,500,000. These wells are required to be
drilled by September 1997 and will fulfill the Company's 1997 work commitment
under these Contracts. The Company will be required to pay their proportionate
share of the total cost of these two wells or approximately $990,000.
<PAGE>
GHK Company Colombia
Notes to Financial Statements
July 26, 1996 and December 31, 1995, 1994, and 1993
9. SUBSEQUENT EVENTS
As discussed in Note 5, on July 26, 1996, the shares of the Company were
exchanged for 5,002,972 shares of Class A Preferred Shares Series 1 of Seven
Seas Petroleum Inc. As of the date of the acquisition, the shares had a market
value of $9.125 per share. In accordance with the purchase agreement, the shares
were transferred into the name of Seven Seas Petroleum Colombia, Inc., a wholly
owned subsidiary of Seven Sea Petroleum Inc.
In March 1997, Seven Seas Petroleum Inc. entered into an agreement with
Petrolinson to acquire its 6% interest in the Dindal and Rio Seco Contracts, in
exchange for 1,000,000 shares of its common stock. After this transaction, SSPI
owned a 57.7% interest in the Dindal and Rio Seco Contracts.
In May 1997, Robert A. Hefner III was named Chairman, Managing Director and
Chief Executive Officer of Seven Seas Petroleum, Inc.
<PAGE>
INDEPENDENT AUDITOR'S REPORT
To the Members of
Esmeralda Limited Liability Company
I have audited the accompanying balance sheets of Esmeralda Limited Liability
Company (an Oklahoma Limited Liability Company) as of July 26, 1996 (prior to
the sale of members' interests discussed in Note 6) and December 31, 1995, 1994,
and 1993 and the related statements of operations, members' equity, and cash
flows for the periods then ended. These financial statements are the
responsibility of the Company's management. My responsibility is to express an
opinion on these financial statements based on my audits.
I conducted my audits in accordance with generally accepted auditing standards.
These standards require that I plan and perform the audits 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.
I believe that my audits provide a reasonable basis for my opinion.
In my opinion, the financial statements referred to above present fairly, in all
material respects, the financial position of Esmeralda Limited Liability Company
as of July 26, 1996 and December 31, 1995, 1994, and 1993, and the results of
its operations and its cash flows for the periods then ended in conformity with
generally accepted accounting principles.
Jerry L. Williams, CPA
Oklahoma City, Oklahoma
August 5, 1997
F-8
<PAGE>
Esmeralda Limited Liability Company
Balance Sheets
<TABLE>
<CAPTION>
December 31,
July 26, ------------------------------------------
1996 1995 1994 1993
------------ ------------ ------------ ------------
<S> <C> <C> <C> <C>
Assets
Current assets:
Cash and cash equivalents (Note 3) ......... $ 43,266 $ 158,421 $ 19,908 $ 591,647
Accounts receivable from members (Note 4) .. 127,019 -- -- --
Advance payment to affiliate (Note 4) ..... 13,759 -- -- --
Accounts receivable - oil and gas sales .... 5,151 -- -- --
------------ ------------ ------------ ------------
Total current assets ......................... 189,195 158,421 19,908 591,647
Properties and equipment, at cost,
(Notes 2 and 5):
Oil and gas properties (full cost method)
Proved ................................. -- -- -- --
Unproved (excluded from amortization) .. 1,321,027 1,011,330 864,483 113,481
------------ ------------ ------------ ------------
1,321,027 1,011,330 864,483 113,481
Less accumulated depreciation,
depletion, and amortization ............ -- -- -- --
------------ ------------ ------------ ------------
Net properties and equipment ................. 1,321,027 1,011,330 864,483 113,481
------------ ------------ ------------ ------------
Organizational costs ......................... 28,271 28,271 28,271 28,271
Less accumulated amortization ................ 17,434 14,135 8,481 2,827
------------ ------------ ------------ ------------
10,837 14,136 19,790 25,444
------------ ------------ ------------ ------------
$ 1,521,059 $ 1,183,887 $ 904,181 $ 730,572
============ ============ ============ ============
Liabilities and members' equity
Current liabilities:
Accounts payable to affiliate (Note 4) ..... $ 132,522 $ 295,377 $ 158,765 $ 146,129
Accounts payable to members (Note 4) ....... 18,951 -- -- --
------------ ------------ ------------ ------------
Total current liabilities .................... 151,473 295,377 158,765 146,129
Commitments and contingencies
(Notes 2, 3, and 5) ....................... -- -- -- --
Members' equity (Notes 2, 4, and 5) .......... 1,369,586 888,510 745,416 584,443
------------ ------------ ------------ ------------
$ 1,521,059 $ 1,183,887 $ 904,181 $ 730,572
============ ============ ============ ============
</TABLE>
The accompanying notes are an integral part of these financial statements.
F-9
<PAGE>
Esmeralda Limited Liability Company
Statements of Operations
<TABLE>
<CAPTION>
For the period
from January 1 Year ended December 31,
to July 26, --------------------------------------
1996 1995 1994 1993
---------- ---------- ---------- ----------
<S> <C> <C> <C> <C>
Revenues:
Oil and gas sales .................. $ 5,151 $ -- $ -- $ --
Cost and expenses:
Amortization of organizational costs 3,298 5,654 5,654 2,827
Lease operating expenses ........... 11,980 -- -- --
General and administrative ......... 8,288 2,452 9,373 12,730
---------- ---------- ---------- ----------
Total costs and expenses ............. 23,566 8,106 15,027 15,557
---------- ---------- ---------- ----------
Net loss ............................. $ (18,415) $ (8,106) $ (15,027) $ (15,557)
========== ========== ========== ==========
</TABLE>
The accompanying notes are an integral part of these financial statements.
F-10
<PAGE>
Esmeralda Limited Liability Company
Statements of Members' Equity
<TABLE>
<CAPTION>
For the period
from January 1 Year ended December 31,
to July 26, --------------------------------------------
1996 1995 1994 1993
------------ ------------ ------------ ------------
<S> <C> <C> <C> <C>
Balance at the beginning of year ........... $ 888,510 $ 745,416 $ 584,443 $ --
Member contributions ....................... 518,442 188,000 218,000 600,000
Member distributions ....................... -- (36,800) (42,000) --
Net loss for the year ...................... -- (8,106) (15,027) (15,557)
Excess advance by members (Note 4) ........ (18,951)
Net loss for the period from January 1, 1996
through July 26, 1996 .................... (18,415) -- -- --
------------ ------------ ------------ ------------
Balance at the end of period ............... $ 1,369,586 $ 888,510 $ 745,416 $ 584,443
============ ============ ============ ============
</TABLE>
The accompanying notes are an integral part of these financial statements.
F-11
<PAGE>
Esmeralda Limited Liability Company
Statements of Cash Flows
<TABLE>
<CAPTION>
For the period
from January 1 Year ended December 31,
to July 26, --------------------------------------
1996 1995 1994 1993
---------- ---------- ---------- ----------
<S> <C> <C> <C> <C>
Cash flows from operating activities:
Net loss .................................... $ (18,415) $ (8,106) $ (15,027) $ (15,557)
Adjustments to reconcile net loss to net
cash provided by operating activities:
Additions to organizational costs ....... -- -- -- (28,271)
Amortization of organizational costs .... 3,298 5,654 5,654 2,827
(Increase) decrease in:
Accounts receivable from members ...... (127,019) -- -- --
Advance payment to affiliate .......... (13,759) -- -- --
Accounts receivable - oil and gas sales (5,151) -- -- --
Increase (decrease) in:
Accounts payable to affiliate ......... (162,854) 136,612 12,636 146,129
---------- ---------- ---------- ----------
Total adjustments ........................... (305,485) 142,266 18,290 120,685
---------- ---------- ---------- ----------
Net cash provided by (used for)
operating activities ...................... (323,900) 134,160 3,263 105,128
Cash flows from investing activities:
Additions to oil and gas properties ......... (309,697) (146,847) (751,002) (113,481)
---------- ---------- ---------- ----------
Net cash used for investing activities ...... (309,697) (146,847) (751,002) (113,481)
Cash flows from financing activities:
Contributions by members .................... 518,442 188,000 218,000 600,000
Distributions to members .................... -- (36,800) (42,000) --
---------- ---------- ---------- ----------
Net cash provided by financing activities .. 518,442 151,200 176,000 600,000
Net increase (decrease) in cash and
cash equivalents .......................... (115,155) 138,513 (571,739) 591,647
Cash and cash equivalents
at beginning of year ...................... 158,421 19,908 591,647 --
---------- ---------- ---------- ----------
Cash and cash equivalents
at end of period .......................... $ 43,266 $ 158,421 $ 19,908 $ 591,647
========== ========== ========== ==========
Noncash financing activities:
Excess advance by members (Note 4) .......... $ 18,951
</TABLE>
The accompanying notes are an integral part of these financial statements.
F-12
<PAGE>
Esmeralda Limited Liability Company
Notes to Financial Statements
July 26, 1996 and December 1995, 1994, and 1993
1. ORGANIZATION AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
ORGANIZATION
Esmeralda Limited Liability Company (the "Company") was formed as a limited
liability company under the laws of the State of Oklahoma on December 20, 1993.
Operations of the Company began in September 1993. The GHK Company, who is owned
primarily by Robert A. Hefner III ("Hefner"), serves as Manager of the Company
and owned a 50% interest in the Company until July 26, 1996 (See Note 6).
As discussed in Note 6, on July 26, 1996, the members of the Company sold their
interests in the Company. These financial statements have been prepared and are
presented prior to the sale by the members and before any write-up of oil and
gas properties.
OPERATIONS
The Company is engaged in the exploration, development and production of oil and
gas properties located in Colombia, South America. The principal asset of the
Company is a participating interest in certain association contracts allowing
for the exploration and development of the Dindal and Rio Seco blocks located in
the Upper Magdalena Basin of Colombia.
All of the Company's exploration and development are conducted jointly with
others, and the financial statements reflect only the Company's proportionate
interest in such activities.
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 on
contingent assets and liabilities at the date of the financial statements and
the reported amounts of revenue and expenses during the reporting periods.
Actual results could differ from those estimates.
OIL AND GAS PROPERTIES
The Company follows the full cost method of accounting for oil and gas
properties. Accordingly, all costs associated with acquisition, exploration, and
development of oil and gas reserves, including directly related overhead costs,
are capitalized.
F-13
<PAGE>
Esmeralda Limited Liability Company
Notes to Financial Statements
July 26, 1996 and December 1995, 1994, and 1993
1. ORGANIZATION AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
OIL AND GAS PROPERTIES (CONTINUED)
All capitalized costs of oil and gas properties, including the estimated future
costs to develop proved reserves, are amortized on the unit-of-production method
using estimates of proved reserves. Investments in unproved properties and major
development projects are not amortized until proved reserves associated with the
projects can be determined or until impairment occurs. If the results of an
assessment indicate that the properties are impaired, the amount of the
impairment is added to the capitalized costs to be amortized.
In addition, the capitalized costs are subject to a "ceiling test", which
basically limits such costs to the aggregate of the present value of estimated
future net revenues, based on current economic and operating conditions, plus
the lower of cost or fair market value of unproved properties.
Sales of proved and unproved properties are accounted for as adjustments of
capitalized costs with no gain or loss recognized, unless such adjustments would
significantly alter the relationship between capitalized costs and proved
reserves of oil and gas, in which case the gain or loss is recognized in income.
Abandonments of properties are accounted for as adjustments of capitalized costs
with no loss recognized.
INCOME TAXES
The financial statements do not include a provision for income taxes, because
the Company does not incur federal or state income taxes. Instead, its earnings
and losses are included in the members' personal income tax returns and are
taxed based on their personal tax rates.
FOREIGN CURRENCY TRANSLATION
The Company's reporting and functional currency is U. S. dollars. No material
translation gains or losses were recorded during the periods reported.
FINANCIAL INSTRUMENTS
The carrying amounts of the Company's financial instruments including cash and
cash equivalents, accounts receivable, and accounts payable approximates fair
value as of July 26, 1996 and December 31, 1995. The Company does not hold or
issue financial instruments for trading purposes.
<PAGE>
Esmeralda Limited Liability Company
Notes to Financial Statements
July 26, 1996 and December 1995, 1994, and 1993
1. ORGANIZATION AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
REVENUE RECOGNITION
Generally, oil and gas revenues from producing wells are recognized when the oil
or gas is produced and sold.
ORGANIZATIONAL COSTS
Costs associated with the organization and formation of the Company are being
amortized over a sixty-month period.
2. COLOMBIAN OPERATIONS
In January 1993, effective in March 1993, GHK Company Colombia ("GHK Colombia"),
wholly owned by Hefner until July 26, 1996, (See Note 6), and Petrolinson S. A.
("Petrolinson"), a Panamanian Corporation, entered into a risk sharing
Association Contract (the "Dindal Contract") with Empresa Colombiana de
Petroleos, the Colombian national oil company ("Ecopetrol"). The Dindal Contract
entitled GHK Colombia to explore for oil and gas on approximately 198,000 net
acres located in the Cundinamarca Region of Colombia (the "Dindal Block") and
provides for a six-year exploration period expiring in 1999, subject to a
requirement for additional partial relinquishments in 1999, and for a production
period expiring in 2021. Under the terms of the Dindal Contract, as modified in
1994, GHK Colombia is obligated to drill one exploratory well a year for six
years ending in 1999, and provide certain geological and geophysical information
and training. In 1994, under the terms of the Dindal Contract, GHK Colombia
returned 54,000 acres in the Northern Part of the Dindal Block, in exchange for
certain drilling concessions.
In 1993, the Company entered into an agreement with GHK Colombia and Petrolinson
S.A., whereby GHK Colombia assigned an undivided 21.12% interest in the Dindal
Contract. In November 1995, as a result of certain members of the Company not
wanting to make additional capital contributions, GHK Colombia assigned the
Company an undivided 9.776% interest in the Dindal Contract. Under the terms of
both agreements, the Company was obligated to pay certain exploration and
development costs in excess of their Contract interest assigned, and to
reimburse GHK Colombia certain costs and expenses incurred in securing the
Contract.
<PAGE>
Esmeralda Limited Liability Company
Notes to Financial Statements
July 26, 1996 and December 1995, 1994, and 1993
2. COLOMBIAN OPERATIONS (CONTINUED)
In June 1995, effective August 1995, GHK Colombia entered into a risk sharing
Association Contract (the "Rio Seco Contract") with Ecopetrol. The Rio Seco
contract covers an area of approximately 43,000 acres contiguous to the western
boundary of the Dindal Block (the "Rio Seco Block"). The six year exploration
period will expire in 2001 and is subject to a requirement for additional
partial relinquishments of acreage in 2001. The Rio Seco Contract also provides
for a 22-year production period with the contract expiring in 2023. Under the
terms of the Rio Seco Contract, GHK Colombia is obligated to perform certain
geological and geophysical studies and drill one exploratory well a year for
five years ending in 2001.
In February 1993 and June 1995, GHK Colombia and Petrolinson, wholly owned by
Norman R. Rowlinson, a geologist, entered into an agreement, whereby, GHK
Colombia assigned to Petrolinson, a 6% interest in the Dindal and Rio Seco
Contracts (the "Contracts") in exchange for services provided in obtaining the
Contracts. GHK Colombia agreed to pay Petrolinson's share of costs through the
exploration period of the Contracts. As discussed in Note 6, Seven Seas
Petroleum Inc. purchased this 6% interest from Petrolinson in March 1997.
In 1995, the Company entered into an agreement with GHK Colombia, whereby GHK
Colombia assigned an undivided 9.776% participation interest in the Rio Seco
Contract. Under the terms of the agreement, the Company is obligated to pay
certain exploration and development costs in excess of their participation
interest assigned, and to reimburse GHK Colombia certain costs and expenses
incurred in securing the Contract. The Company's interest is subject to the same
royalty and working interest after payout described above in the Dindal
Contract.
In addition to the participation interests assigned to the Company, during 1994
and 1995, GHK Colombia assigned other various participation interests in the
Dindal and Rio Seco Contracts, while retaining a 10.944% participation interest.
The terms of the other various participation interests assigned were similar to
the Company's.
GHK Colombia serves as the operator of the Colombian properties under the
Contracts. The Contracts provide for GHK Colombia to be reimbursed for overhead
expenses based upon a stated percentage of expenditures under the Contracts. In
1994, GHK Colombia received income of $84,783 under this provision. In 1995, GHK
Colombia and The GHK Company entered into an agreement, whereby, GHK Colombia
assigned its rights to the overhead reimbursement to The GHK Company in exchange
for The GHK Company providing the personnel and technical expertise required
under the Contract.
<PAGE>
Esmeralda Limited Liability Company
Notes to Financial Statements
July 26, 1996 and December 1995, 1994, and 1993
2. COLOMBIAN OPERATIONS (CONTINUED)
The Contracts provide that Ecopetrol will receive a royalty equal to 20% of
production on behalf of the Colombian government and, is entitled to an
additional 50% of the remaining production. In the event a discovery is deemed
commercially feasible, Ecopetrol will bear 50% of the future costs in that
field, and reimburse the joint venture, from Ecopetrol's share of future
production from the field, for 50% of the joint venture's costs of successful
exploratory wells in the field. If a commercial field on the Dindal Block
produces in excess of 60 million barrels, Ecopetrol's interest in production and
costs will increase in 5% increments from 50% to 70% as accumulated production
from the field increases in 30 million barrel increments from 60 million barrels
to 150 barrels. If a commercial field on the Rio Seco Block produces in excess
of 60 million barrels, Ecopetrol's interest in production and costs ranges from
50% to 75% based on annual measurements of profitability as defined in the Rio
Seco Contract. The joint venture bears all costs and risks of exploration
activities on the Dindal Block and Rio Seco Block, subject to Ecopetrol's right
to acquire a 50% interest in commercial discoveries.
If a discovery is made and is not deemed by Ecopetrol to be commercially
feasible, the joint venture may continue to develop the field at its own expense
and will recover 200% of the costs from Ecopetrol, at which time Ecopetrol will
acquire a 50% interest.
The joint venture has completed its drilling and other obligations for the first
three years of the Dindal Contract. Management of GHK Colombia believes
additional development activities are necessary before a commerciality
application will be submitted to Ecopetrol. The joint venture has the right to
continue the exploration program through 1999 with an obligation to conduct
exploration programs to be approved by Ecopetrol in 1997, 1998, and 1999. By
letter dated November 7, 1996, Ecopetrol granted the first annual extension of
the exploration program for the year 1997. The joint venture has also completed
its geological and geophysical obligations for the first year of the Rio Seco
Contract, but no wells have yet been drilled on the Rio Seco Block.
3. CONCENTRATION OF CREDIT RISK
The Company maintains cash balances with high credit quality financial
institutions, one located in the United States and one located in Colombia. The
balances in these accounts, at times, have exceeded insured limits.
<PAGE>
Esmeralda Limited Liability Company
Notes to Financial Statements
July 26, 1996 and December 1995, 1994, and 1993
3. CONCENTRATION OF CREDIT RISK (CONTINUED)
As noted previously, the Company's oil and gas operations are in the country of
Colombia. Because of this, the Company is subject not only to the ordinary
economic risks of the country such as changes in taxes, rates of inflation,
etc., but also to changes in the political environment which may take place
within Colombia.
4. RELATED PARTY TRANSACTIONS
Substantially all the Company's activity represents costs and expenses paid to
GHK Colombia as a result of their participation interests in the Dindal and Rio
Seco Contracts. Below is a schedule of payments made by the Company to GHK
Colombia.
January 1 to July 26, 1996 ..... $ 635,622
Year ended December 31, 1995 ... 5,000
Year ended December 31, 1994 ... 703,611
Year ended December 31, 1993 ... --
------------
$ 1,344,233
============
At December 31, 1995, 1994, and 1993, the Company owed GHK Colombia $295,283,
$158,771, and $146,129, respectively, for the Company's share of costs and
expenses under the Contracts. At July 26, 1996, the Company had advanced GHK
Colombia $13,759 in excess of their share of accrued expenses.
In 1994, the Company, GHK Colombia, and Cimarrona, entered into an agreement
with two individuals to serve as principal legal representatives of the Company
in Colombia in exchange for a monthly payment of $5,000. These individuals or
their controlled corporations indirectly own membership interests in the
Company. For the period from January 1, 1996 to July 26, 1996 and for the years
ended December 31, 1995 and 1994, payments of $37,500, $37,000, and $29,308,
respectively, were made by GHK Colombia under the agreement.
At July 26, 1996, certain members of the Company who sold their interests, as
discussed in Note 6, owed the Company $127,019, representing their share of
costs and expenses associated with the sale.
At July 26, 1996, the Company owed The GHK Company $132,522 for the Company's
share of costs and expenses associated with the sale discussed in Note 6.
<PAGE>
Esmeralda Limited Liability Company
Notes to Financial Statements
July 26, 1996 and December 1995, 1994, and 1993
4. RELATED PARTY TRANSACTIONS (CONTINUED)
Under the terms of the sale agreement covering the sale of the members
interests, discussed in Note 6, post closing adjustments are to be completed
within 120 days of the closing date. It was determined that the members who sold
their interests had advanced $18,951 in excess of their share of costs and
expenses as of July 26, 1996. An adjustment to members' equity has been made for
this amount.
5. COMMITMENTS AND CONTINGENCIES
For the period from July 27, 1996 to June 30, 1997, the Company had been
advanced approximately $1,494,000 from Seven Seas Petroleum Holdings Inc. and
Seven Seas Petroleum Colombia Inc. representing the Company's share of
exploration and administrative costs incurred under the Rio Seco and Dindal
Contracts. In addition, the Company has elected to participate in two wells with
an estimated total cost of $8,500,000. These wells are required to be drilled by
September 1997 and will fulfill the Company's 1997 work commitment under these
Contracts. The Company will be required to pay their proportionate share of the
total cost of these two wells or approximately $884,000.
6. SUBSEQUENT EVENTS
On July 26, 1996, the members of the Company sold their interests in the Company
in exchange for 4,469,028 B Special Warrants issued by Seven Seas Petroleum Inc.
("SSPI"). SSPI is incorporated under the laws of the Yukon Territories and had
previously acquired a 15% participation interest in the Dindal and Rio Seco
contracts. The membership interests in the Company were transferred 50% into the
name of Seven Seas Petroleum Colombia Inc. and 50% into the name of Seven Seas
Petroleum Holdings Inc., both wholly owned subsidiaries of SSPI.
Other parties who owned participation interest in the Dindal and Rio Seco
Contracts totaling 26.924%, including Hefner who sold all of his GHK Colombia
stock, also sold their interest to SSPI in exchange for certain preferred shares
or special warrants ofSSPI. After the purchase of these various participation
interests, SSPI owned a 51.7% interest in the Contracts.
In March 1997, SSPI entered into an agreement with Petrolinson to acquire its 6%
interest in the Dindal and Rio Seco Contracts, in exchange for 1,000,000 shares
of its common stock. After this transaction, SSPI owned a 57.7% interest in the
Dindal and Rio Seco Contracts.
In May 1997, Robert A. Hefner III was named Chairman, Managing Director and
Chief Executive Officer of Seven Seas Petroleum Inc.
<PAGE>
INDEPENDENT AUDITOR'S REPORT
To the Members of
Cimarrona Limited Liability Company
I have audited the accompanying balance sheets of Cimarrona Limited Liability
Company (an Oklahoma Limited Liability Company) as of July 26, 1996 (prior to
the sale of members' interests discussed in Note 7) and December 31, 1995 and
1994 and the related statements of operations, members' equity, and cash flows
for the periods then ended. These financial statements are the responsibility of
the Company's management. My responsibility is to express an opinion on these
financial statements based on my audits.
I conducted my audits in accordance with generally accepted auditing standards.
These standards require that I plan and perform the audits 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.
I believe that my audits provide a reasonable basis for my opinion.
In my opinion, the financial statements referred to above present fairly, in all
material respects, the financial position of Cimarrona Limited Liability Company
as of July 26, 1996 and December 31, 1995 and 1994, and the results of its
operations and its cash flows for the periods then ended in conformity with
generally accepted accounting principles.
Jerry L. Williams, CPA
Oklahoma City, Oklahoma
August 5, 1997
F-14
<PAGE>
Cimarrona Limited Liability Company
Balance Sheets
<TABLE>
<CAPTION>
December 31,
July 26, -----------------------
1996 1995 1994
---------- ---------- ----------
<S> <C> <C> <C>
Assets
Current assets:
Cash and cash equivalents (Note 3) ........... $ 39,263 $ 424,775 $ 2,080
Accounts receivable from members (Note 5 ) .. 178,228 -- --
Advance payment to affiliate (Note 5) ........ 36,231 -- --
Accounts receivable - oil and gas sales ...... 13,373 -- --
---------- ---------- ----------
Total current assets ........................... 267,095 424,775 2,080
Properties and equipment, at cost (Note 2)
Oil and gas properties (full cost method)
Proved ................................... -- -- --
Unproved (excluded from amortization) .... 2,231,479 1,427,455 1,061,734
---------- ---------- ----------
2,231,479 1,427,455 1,061,734
Less accumulated depreciation,
depletion, and amortization .............. -- -- --
---------- ---------- ----------
Net properties and equipment ................... 2,231,479 1,427,455 1,061,734
---------- ---------- ----------
Organizational costs ........................... 8,256 8,256 8,256
Less accumulated amortization .................. 4,266 3,302 1,651
---------- ---------- ----------
3,990 4,954 6,605
---------- ---------- ----------
$2,502,564 $1,857,184 $1,070,419
========== ========== ==========
Liabilities and members' equity
Current liabilities:
Accounts payable to affiliate (Note 5) ....... $ 216,455 $ 371,840 $ 2,872
Accounts payable to members (Note 5) ......... 30,977 -- --
---------- ---------- ----------
Total current liabilities ...................... 247,432 371,840 2,872
Commitments and contingencies (Notes 2, 3 and 6) -- -- --
Members' equity (Notes 2, 4, 5 and 6) .......... 2,255,132 1,485,344 1,067,547
---------- ---------- ----------
$2,502,564 $1,857,184 $1,070,419
========== ========== ==========
</TABLE>
The accompanying notes are an integral part of these financial statements.
F-15
<PAGE>
Cimarrona Limited Liability Company
Statements of Operations
Period from
January 1 to Year ended December 31,
July 26, ------------------------
1996 1995 1994
---------- ---------- ----------
Revenues:
Oil and gas sales .................. $ 13,373 $ -- $ --
Interest income .................... 837 1,550 2,246
---------- ---------- ----------
Total revenues ....................... 14,210 1,550 2,246
Cost and expenses:
Amortization of organizational costs 964 1,651 1,651
Lease operating expenses ........... 31,100 -- --
General and administrative ......... 13,294 5,852 15,635
---------- ---------- ----------
Total costs and expenses ............. 45,358 7,503 17,286
---------- ---------- ----------
Net loss ............................. $ (31,148) $ (5,953) $ (15,040)
========== ========== ==========
The accompanying notes are an integral part of these financial statements.
F-16
<PAGE>
Cimarrona Limited Liability Company
Statements of Members' Equity
Period from
January 1 to Year ended December 31,
July 26, --------------------------
1996 1995 1994
----------- ----------- -----------
Balance at the beginning of year .. $ 1,485,344 $ 1,067,547 $ --
Member contributions .............. 831,913 423,750 1,082,587
Excess advance by members (Note 5) (30,977) -- --
Net loss .......................... (31,148) (5,953) (15,040)
----------- ----------- -----------
Balance at the end of period ...... $ 2,255,132 $ 1,485,344 $ 1,067,547
=========== =========== ===========
The accompanying notes are an integral part of these financial statements.
F-17
<PAGE>
Cimarrona Limited Liability Company
Statements of Cash Flows
<TABLE>
<CAPTION>
Period from
January 1 to Year ended December 31,
July 26, ----------------------------
1996 1995 1994
------------ ------------ ------------
<S> <C> <C> <C>
Cash flows from operating activities:
Net income (loss) ............................. $ (31,148) $ (5,953) $ (15,040)
Adjustments to reconcile net loss to net
cash provided by operating activities:
Additions to organizational costs ......... -- -- (8,256)
Amortization of organizational costs ...... 964 1,651 1,651
(Increase) decrease in:
Accounts receivable from members ........ (178,228) -- --
Advance payment to affiliate ............ (36,231) -- --
Accounts receivable - oil and gas sales . (13,373) -- --
Increase (decrease) in:
Accounts payable to affiliate ........... (155,385) 368,968 2,872
------------ ------------ ------------
Total adjustments ............................. (382,253) 370,619 (3,733)
------------ ------------ ------------
Net cash provided by (used for)
operating activities ........................ (413,401) 364,666 (18,773)
Cash flows from investing activities:
Additions to oil and gas properties ........... (804,024) (365,721) (1,061,734)
------------ ------------ ------------
Net cash used for investing activities ........ (804,024) (365,721) (1,061,734)
Cash flows from financing activities:
Contributions by members ...................... 831,913 423,750 1,082,587
Net cash provided by
financing activities ........................ 831,913 423,750 1,082,587
Net increase (decrease) in cash and
cash equivalents ............................ (385,512) 422,695 2,080
Cash and cash equivalents
at beginning of year ........................ 424,775 2,080 --
------------ ------------ ------------
Cash and cash equivalents
at end of period ............................ $ 39,263 $ 424,775 $ 2,080
============ ============ ============
Noncash financing activities:
Excess advance by members (Note 5) ............ $ 30,977
</TABLE>
The accompanying notes are an integral part of these financial statements.
F-18
<PAGE>
Cimarrona Limited Liability Company
Notes to Financial Statements
July 26, 1996, and December 31, 1995, and 1994
1. ORGANIZATION AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
ORGANIZATION
Cimarrona Limited Liability Company (the "Company") was formed as a limited
liability company under the laws of the State of Oklahoma on December 8, 1993.
Operations of the Company did not start until January 1994. The GHK Company,
although not a member of the Company, serves as Manager of the Company.
As discussed in Note 7, on July 26, 1996, certain members of the Company, whose
membership interest totaled 62.963%, sold their interests in the Company. These
financial statements have been prepared and are presented prior to the sale
discussed in Note 7.
OPERATIONS
The Company is engaged in the exploration, development and production of oil and
gas properties located in Colombia, South America. The principal asset of the
Company is a participating interest in certain association contracts allowing
for the exploration and development of the Dindal and Rio Seco blocks located in
the Upper Magdalena Basin of Colombia.
All of the Company's exploration and development are conducted jointly with
others, and the financial statements reflect only the Company's proportionate
interest in such activities.
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 on
contingent assets and liabilities at the date of the financial statements and
the reported amounts of revenue and expenses during the reporting periods.
Actual results could differ from those estimates.
OIL AND GAS PROPERTIES
The Company follows the full cost method of accounting for oil and gas
properties. Accordingly, all costs associated with acquisition, exploration, and
development of oil and gas reserves, including directly related overhead costs,
are capitalized.
F-19
<PAGE>
Cimarrona Limited Liability Company
Notes to Financial Statements
July 26, 1996, and December 31, 1995, and 1994
1. ORGANIZATION AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
OIL AND GAS PROPERTIES (CONTINUED)
All capitalized costs of oil and gas properties, including the estimated future
costs to develop proved reserves, are amortized on the unit-of-production method
using estimates of proved reserves. Investments in unproved properties and major
development projects are not amortized until proved reserves associated with the
projects can be determined or until impairment occurs. If the results of an
assessment indicate that the properties are impaired, the amount of the
impairment is added to the capitalized costs to be amortized.
In addition, the capitalized costs are subject to a "ceiling test", which
basically limits such costs to the aggregate of the present value of estimated
future net revenues, based on current economic and operating conditions, plus
the lower of cost or fair market value of unproved properties.
Sales of proved and unproved properties are accounted for as adjustments of
capitalized costs with no gain or loss recognized, unless such adjustments would
significantly alter the relationship between capitalized costs and proved
reserves of oil and gas, in which case the gain or loss is recognized in income.
Abandonments of properties are accounted for as adjustments of capitalized costs
with no loss recognized.
INCOME TAXES
The financial statements do not include a provision for income taxes, because
the Company does not incur federal or state income taxes. Instead, its earnings
and losses are included in the members' personal income tax returns and are
taxed based on their personal tax rates.
FOREIGN CURRENCY TRANSLATION
The Company's reporting and functional currency is U. S. dollars. No material
translation gains or losses were recorded during the periods reported.
<PAGE>
Cimarrona Limited Liability Company
Notes to Financial Statements
July 26, 1996, and December 31, 1995, and 1994
1. ORGANIZATION AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
FINANCIAL INSTRUMENTS
The carrying amounts of the Company's financial instruments including cash and
cash equivalents, accounts receivable, and accounts payable approximates fair
value as of July 26, 1996 and December 31, 1995. The Company does not hold or
issue financial instruments for trading purposes.
REVENUE RECOGNITION
Generally oil and gas revenues from producing wells are recognized when the oil
or gas is produced and sold.
ORGANIZATIONAL COSTS
Costs associated with the organization and formation of the Company are being
amortized over a sixty-month period.
2. COLOMBIAN OPERATIONS
In January 1993, effective in March 1993, GHK Company Colombia ("GHK Colombia"),
wholly owned by Robert A. Hefner III ("Hefner") until July 26, 1996, (See Note
7), and Petrolinson S. A. ("Petrolinson"), a Panamanian Corporation, entered
into a risk sharing Association Contract (the "Dindal Contract") with Empresa
Colombiana de Petroleos, the Colombian national oil company ("Ecopetrol"). The
Dindal Contract entitled GHK Colombia to explore for oil and gas on
approximately 198,000 net acres located in the Cundinamarca Region of Colombia
(the "Dindal Block") and provides for a six-year exploration period expiring in
1999, subject to a requirement for additional partial relinquishments in 1999,
and for a production period expiring in 2021. Under the terms of the Dindal
Contract, as modified in 1994, GHK Colombia is obligated to drill one
exploratory well a year for six years ending in 1999, and provide certain
geological and geophysical information and training. In 1994, under the terms of
the Dindal Contract, GHK Colombia returned 54,000 acres in the Northern Part of
the Dindal Block, in exchange for certain drilling concessions.
<PAGE>
Cimarrona Limited Liability Company
Notes to Financial Statements
July 26, 1996, and December 31, 1995, and 1994
2. COLOMBIAN OPERATIONS (CONTINUED)
In 1994, the Company entered into an agreement with GHK Colombia and Petrolinson
S.A., whereby GHK Colombia assigned an undivided 20.9% interest in the Dindal
Contract. In November 1995, as a result of member withdrawals and new member
additions discussed in Note 4, GHK Colombia assigned the Company an undivided
25.38% interest in the Dindal Contract. Under the terms of both agreements, the
Company was obligated to pay certain exploration and development costs in excess
of their Contract interest assigned, and to reimburse GHK Colombia certain costs
and expenses incurred in securing the Contract.
In June 1995, effective August 1995, GHK Colombia entered into a risk sharing
Association Contract (the "Rio Seco Contract") with Ecopetrol. The Rio Seco
contract covers an area of approximately 43,000 acres contiguous to the western
boundary of the Dindal Block (the "Rio Seco Block"). The six year exploration
period will expire in 2001 and is subject to a requirement for additional
partial relinquishments of acreage in 2001. The Rio Seco Contract also provides
for a 22-year production period with the contract expiring in 2023. Under the
terms of the Rio Seco Contract, GHK Colombia is obligated to perform certain
geological and geophysical studies and drill one exploratory well a year for
five years ending in 2001.
In February 1993 and June 1995, GHK Colombia and Petrolinson, wholly owned by
Norman R. Rowlinson, a geologist, entered into agreements, whereby, GHK Colombia
assigned to Petrolinson, a 6% interest in the Dindal and Rio Seco Contracts (the
"Contracts") in exchange for services provided in obtaining the Contracts. GHK
Colombia agreed to pay Petrolinson's share of costs through the exploration
period of the Contracts. As discussed in Note 7, Seven Seas Petroleum Inc.
purchased this 6% interest from Petrolinson in March 1997.
In 1995, the Company entered into an agreement with GHK Colombia, whereby GHK
Colombia assigned an undivided 25.38% participation interest in the Rio Seco
Contract. Under the terms of the agreement, the Company is obligated to pay
certain exploration and development costs in excess of their participation
interest assigned, and to reimburse GHK Colombia certain costs and expenses
incurred in securing the Contract. The Company's interest is subject to the same
royalty and working interest after payout described above in the Dindal
Contract.
In addition to the participation interests assigned to the Company, during 1994
and 1995, GHK Colombia assigned other various participation interests in the
Dindal and Rio Seco Contracts, while retaining a 10.944% participation interest.
The terms of the other various participation interests assigned were similar to
the Company's.
<PAGE>
Cimarrona Limited Liability Company
Notes to Financial Statements
July 26, 1996, and December 31, 1995, and 1994
2. COLOMBIAN OPERATIONS (CONTINUED)
GHK Colombia serves as the operator of the Colombian properties under the
Contracts. The Contracts provide for GHK Colombia to be reimbursed for overhead
expenses based upon a stated percentage of expenditures under the Contracts. In
1994, GHK Colombia received income of $84,783 under this provision. In 1995, GHK
Colombia and The GHK Company entered into an agreement, whereby, GHK Colombia
assigned its rights to the overhead reimbursement to The GHK Company in exchange
for The GHK Company providing the personnel and technical expertise required
under the Contract.
The Contracts provide that Ecopetrol will receive a royalty equal to 20% of
production on behalf of the Colombian government and, is entitled to an
additional 50% of the remaining production. In the event a discovery is deemed
commercially feasible, initiating the "Exploitation" period under the Contracts,
Ecopetrol will bear 50% of the future costs in that field, and reimburse the
joint venture, from Ecopetrol's share of future production from the field, for
50% of the joint venture's costs of successful exploratory wells in the field.
If a commercial field on the Dindal Block produces in excess of 60 million
barrels, Ecopetrol's interest in production and costs will increase in 5%
increments from 50% to 70% as accumulated production from the field increases in
30 million barrel increments from 60 million barrels to 150 barrels. If a
commercial field on the Rio Seco Block produces in excess of 60 million barrels,
Ecopetrol's interest in production and costs ranges from 50% to 75% based on
annual measurements of profitability as defined in the Rio Seco Contract. The
joint venture bears all costs and risks of exploration activities on the Dindal
Block and Rio Seco Block, subject to Ecopetrol's right to acquire a 50% interest
in commercial discoveries.
If a discovery is made and is not deemed by Ecopetrol to be commercially
feasible, the joint venture may continue to develop the field at its own expense
and will recover 200% of the costs from Ecopetrol, at which time Ecopetrol will
then acquire a 50% interest.
The joint venture has completed its drilling and other obligations for the first
three years of the Dindal Contract. Management of GHK Colombia believes
additional development activities are necessary before a commerciality
application will be submitted to Ecopetrol. The joint venture has the right to
continue the exploration program through 1999 with an obligation to conduct
exploration programs to be approved by Ecopetrol in 1997, 1998, and 1999. By
letter dated November 7, 1996, Ecopetrol granted the first annual extension of
the exploration program for the year 1997. The joint venture has also completed
its geological and geophysical obligations for the first year of the Rio Seco
Contract, but no wells have yet been drilled on the Rio Seco Block.
<PAGE>
Cimarrona Limited Liability Company
Notes to Financial Statements
July 26, 1996, and December 31, 1995, and 1994
3. CONCENTRATION OF CREDIT RISK
The Company maintains cash balances with high credit quality financial
institutions, one located in the United States and one located in Colombia. The
balances in these accounts, at times, have exceeded insured limits.
As noted previously, the Company's oil and gas operations are in the country of
Colombia. Because of this, the Company is subject not only to the ordinary
economic risks of the country such as changes in taxes, rate of inflation, etc.,
but also to changes in the political environment which may take place within
Colombia.
4. WITHDRAWALS OF MEMBERS
During 1994 and 1995 three members, whose ownership totaled 65.27% of the
Company, withdrew from the partnership, and the Company added five new partners.
The Limited Liability Agreement of the Company was amended in July 1995 to
reflect these changes. Promotion fees totaling $140,000 were paid by the new
members to GHK Colombia.
5. RELATED PARTY TRANSACTIONS
Substantially all the Company's activity represents costs and expenses paid to
GHK Colombia as a result of their participation interests in the Dindal and Rio
Seco Contracts. For the year ended December 31, 1994 the Company paid GHK
Colombia $1,045,686. No payments were made in 1995. For the period from January
1, 1996 to July 26, 1996, payments totaling $1,255,663 were made by the Company
to GHK Colombia.
At December 31, 1995 and 1994, the Company owed GHK Colombia $371,840 and
$2,872, respectively, for their share of costs and expenses under the Contracts.
At July 26, 1996, the Company had advanced GHK Colombia $36,231 in excess of
their share of accrued expenses.
In 1995, GHK Colombia received promotion fees of $246,383, including $106,383
from SSPI and $140,000 from new members in the Company, for the right to
participate in the Dindal and Rio Seco Contracts.
In 1994, the Company, GHK Colombia, and Esmeralda, entered into an agreement
with two individuals to serve as principal legal representatives of the Company
in Colombia in exchange for a monthly payment of $5,000. These individuals or
their controlled corporations indirectly own membership interests in Esmeralda.
For the period from January 1, 1996 to July 26, 1996 and for the years ended
December 31, 1995 and 1994, payments of $37,500, $37,000 and $29,308,
respectively, were made by GHK Colombia under the agreement.
<PAGE>
Cimarrona Limited Liability Company
Notes to Financial Statements
July 26, 1996, and December 31, 1995, and 1994
5. RELATED PARTY TRANSACTIONS (CONTINUED)
At July 26, 1996, certain members of the Company who sold their interests, as
discussed in Note 7, owed the Company $178,228, representing their share of
costs and expenses associated with the sale.
At July 26, 1996, the Company owed The GHK Company $216,455 for the Company's
share of costs and expenses associated with the sale discussed in Note 7.
Under the terms of the sale agreement covering the sale of the members
interests, discussed in Note 7, post closing adjustments are to be completed
within 120 days of the closing date. It was determined that the members who sold
their interests had advanced $30,977 in excess of their share of costs and
expenses as of July 26, 1996. An adjustment to members' equity has been made for
this amount.
6. COMMITMENTS AND CONTINGENCIES
For the period from July 27, 1996 to June 30, 1997, the Company received
contributions from the members of approximately $3,867,000 representing the
Company's share of exploration and administrative costs under the Rio Seco and
Dindal Contracts. In addition, the Company has elected to participate in two
wells with an estimated total cost of $8,500,000. These wells are required to be
drilled by September 1997 and will fulfill the Company's 1997 work commitment
under these Contracts. The Company will be required to pay their proportionate
share of the total cost of these two wells or approximately $2,295,000.
7. SUBSEQUENT EVENTS
On July 26, 1996, certain members of the Company, whose membership interests
totaled 62.963%, sold their interests in the Company in exchange for 7,305,143 B
Special Warrants issued by Seven Seas Petroleum Inc. ("SSPI"). SSPI is
incorporated under the laws of Yukon Territories and had previously acquired a
15% participation interest in the Dindal and Rio Seco Contracts. The membership
interests sold were transferred into the name of Seven Seas Petroleum Colombia
Inc., a wholly owned subsidiary of SSPI.
Other parties who owned participation interest in the Dindal and Rio Seco
Contracts totaling 20.72%, including Hefner who sold all of his GHK Colombia
stock, also sold their interest to SSPI in exchange for certain preferred shares
or special warrants of SSPI. After the purchase of these various participation
interests, SSPI owned a 51.7% interest in the Contracts.
<PAGE>
Cimarrona Limited Liability Company
Notes to Financial Statements
July 26, 1996, and December 31, 1995, and 1994
7. SUBSEQUENT EVENTS (CONTINUED)
In March 1997, SSPI entered into an agreement with Petrolinson to acquire its 6%
interest in the Dindal and Rio Seco Contracts, in exchange for 1,000,000 shares
of its common stock. After this transaction, SSPI owned a 57.7% interest in the
Dindal and Rio Seco Contracts.
In May 1997, Robert A. Hefner III was named Chairman, Managing Director and
Chief Executive Officer of Seven Seas Petroleum Inc.
<PAGE>
SEVEN SEAS PETROLEUM INC. AND SUBSIDIARIES
(A Development Stage Enterprise)
PRO FORMA FINANCIAL STATEMENT
INTRODUCTION
On July 26, 1996, Seven Seas acquired 100 percent of the outstanding stock,
which represented 100 percent of the voting shares held in GHK Company Colombia
and Esmeralda LLC. Additionally, on the same date, the Company acquired 62.963
percent of the outstanding shares and voting stock of Cimarrona LLC.
Collectively, the acquisition of these three companies resulted in the purchase
of an additional 36.7 percent participating interest in the Dindal and Rio Seco
Association Contracts ("the Association Contracts") in which the Company
previously held a 15 percent participating interest. All three entities were oil
and gas exploration companies whose only material asset was the participating
interest they held in the Association Contracts in Colombia. As consideration
for the increased interest, Seven Seas issued to the stockholders in GHK Company
Colombia, Esmeralda LLC and Cimarrona LLC a combination of preferred shares and
special warrants which are exchangeable into a total of 16,777,143 common shares
upon the earlier of the approval of a prospectus qualifying the exchange, or one
year from the closing of the transaction. This transaction has been reflected as
an acquisition using the purchase method of accounting, whereby the assets
acquired and the liabilities assumed were fair valued and the three respective
entities have been prospectively reflected in the Company's financial statements
since July 26, 1996. The Pro Forma Statement of Operations below shows the
results of operations, combining this purchase-method acquisition as though the
three companies were acquired at the beginning of the year 1996:
SEVEN SEAS PETROLEUM INC. AND SUBSIDIARIES
PRO FORMA STATEMENT OF OPERATIONS
(UNAUDITED)
<TABLE>
<CAPTION>
GHK Companies(A)
January 1, July 26, Pro forma
1996 1996 adjustment Combined
------------ -------- ----------- ------------
<S> <C> <C> <C> <C>
Revenues:
Crude oil sales ............................... $ 233,682 $ 24,290 $ -- $ 257,972
Interest income ............................... 341,599 837 -- 342,436
------------ -------- ----------- ------------
575,281 25,127 -- 600,408
Expenses:
General & administrative ...................... 2,452,546 26,958 -- 2,479,504
Lease operating ............................... 252,504 56,491 -- 308,995
Other ......................................... 129,103 4,262 -- 133,365
Minority interest ............................. (64,235) -- (11,536)(B) (75,771)
------------ -------- ----------- ------------
2,769,918 87,711 (11,536) 2,846,093
------------ -------- ----------- ------------
Net Loss .......................................... $ (2,194,637) $(62,584) $ 11,536 $ (2,245,685)
------------ -------- ----------- ------------
Net loss per Common Share ......................... $ (0.17) $ (0.17)(C)
Weighted Average Number of Common
Shares Outstanding ................................ 12,971,871 12,971,871
============ ============
</TABLE>
NOTES TO PRO FORMA STATEMENT OF OPERATIONS:
(A) GHK Companies includes the three entities acquired on July 26, 1996: GHK
Company Colombia, Esmeralda LLC, and Cimarrona LLC.
(B) The pro forma adjustment is required to record the 37. 037 percent
minority interest in the historical net loss of Cimarrona LLC totalling
($31,148) for the period January 1, 1996 to July 26, 1996.
(C) Net loss per share is computed using the weighted average number of
shares outstanding. No effect was given to common stock equivalents as
the effect would be antidilutive. All shares issued in connection with
the conversion of preferred shares and special warrants were not
considered outstanding until registration with the Canadian Securities
Commissions occurred on February 7, 1997.
F-20
<PAGE>
REPORT OF INDEPENDENT PUBLIC ACCOUNTANTS
To the Stockholders of Seven Seas Petroleum Inc.:
We have audited the accompanying consolidated balance sheets of Seven Seas
Petroleum Inc. (a Yukon Territory, Canada corporation in the development stage)
and subsidiaries as of December 31, 1996 and 1995, and the related consolidated
statement of operations and accumulated deficit, stockholders' equity and cash
flows for the year ended December 31, 1996 and for the period from inception
(February 3, 1995) through December 31, 1995. These financial statements are the
responsibility of the Company's management. Our responsibility is to express an
opinion on these financial statements based on our audit.
We conducted our audits 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 Seven Seas Petroleum
Inc. and subsidiaries as of December 31, 1996 and 1995, and the results of their
operations and their cash flows for the year ended December 31, 1996, and for
the period from inception (February 3, 1995) through December 31, 1995, in
conformity with generally accepted accounting principles.
Arthur Andersen LLP
Houston, Texas
February 22, 1997
F-21
<PAGE>
SEVEN SEAS PETROLEUM INC. AND SUBSIDIARIES
(A Development Stage Enterprise)
CONSOLIDATED BALANCE SHEETS
<TABLE>
<CAPTION>
December 31,
----------------------------
June 30, 1997 1996 1995
------------- ------------- -----------
(Unaudited)
<S> <C> <C> <C>
ASSETS
CURRENT
Cash and cash equivalents ..................................................... $ 8,948,909 $ 10,620,477 $ 3,365,603
Marketable securities ......................................................... 43,795 43,795 43,795
Accounts receivable ........................................................... 109,117 1,241,430 43,642
Prepaids and other ............................................................ 9,552 -- 482
------------- ------------- -----------
9,111,373 11,905,702 3,453,522
EVALUATED OIL AND GAS INTERESTS, full-cost method ................................. 1,831,713 1,611,665 --
UNEVALUATED OIL AND GAS INTERESTS, full-cost method, net .......................... 249,980,012 221,884,126 574,137
FIXED ASSETS, net of accumulated depreciation of $84,332 at June 30, 1997, ........ 88,060 74,219 63,707
$68,733 at December 31, 1996 and $9,965 at December 31, 1995
ORGANIZATION COSTS, net of accumulated depreciation of $102,536 at June 30, 1997,
$80,272 at December 31, 1996 and $27,706 at December 31, 1995 ................ 3,006 25,270 79,071
------------- ------------- -----------
TOTAL ASSETS ...................................................................... $ 261,014,164 $ 235,500,982 $ 4,170,437
------------- ------------- -----------
LIABILITIES AND STOCKHOLDERS' EQUITY
CURRENT
Accounts payable ............................................................. $ 830,486 $ 2,560,665 $ 120,305
Accrued compensation ......................................................... 509,000 245,000 --
------------- ------------- -----------
1,339,486 2,805,665 120,305
DEFERRED INCOME TAXES ............................................................. 70,458,512 63,967,775 --
MINORITY INTEREST ................................................................. 2,124,170 1,060,433 --
COMMITMENTS AND CONTINGENCIES (Note 9)
STOCKHOLDERS' EQUITY
Share capital -
Authorized unlimited common shares without par value and
unlimited Class A preferred shares without par value;
34,819,606 issued and outstanding common shares at June 30, 1997,
13,315,796 at December 31, 1996 and 12,680,463 at December 31, 1995 ............ 194,265,713 6,781,616 6,170,117
Preferred share subscriptions - 5,002,972 shares at December 31, 1996 ............. -- 45,652,120 --
Special warrant subscriptions - 14,274,171 warrants at December 31, 1996 .......... -- 119,548,227 --
Deficit accumulated during development stage ...................................... (7,173,485) (4,314,622) (2,119,985)
Treasury stock, 29 shares held at June 30, 1997 and December 31, 1996 ............. (232) (232) --
------------- ------------- -----------
Total Stockholders' Equity ........................................................ 187,091,996 167,667,109 4,050,132
------------- ------------- -----------
TOTAL LIABILITIES AND STOCKHOLDERS' EQUITY ........................................ $ 261,014,164 $ 235,500,982 $ 4,170,437
============= ============= ===========
</TABLE>
The accompanying notes are an integral part of these financial statements.
F-22
<PAGE>
SEVEN SEAS PETROLEUM INC. AND SUBSIDIARIES
(A Development Stage Enterprise)
STATEMENTS OF CONSOLIDATED OPERATIONS AND ACCUMULATED DEFICIT
<TABLE>
<CAPTION>
From Inception Cumulative Total
(February 3, from Inception
Six Months Ended June 30, Year Ended 1995) to (February 3, 1995)
---------------------------- December 31, December 31, to
1997 1996 1996 1995 June 30, 1997
------------ ------------ ------------ ------------ ------------
(Unaudited) (Unaudited) (Unaudited)
<S> <C> <C> <C> <C> <C>
REVENUE
Crude oil sales ........................... $ 436,333 $ -- $ 233,682 $ -- $ 670,015
Interest income ........................... 234,568 132,182 341,599 152,383 728,550
------------ ------------ ------------ ------------ ------------
670,901 132,182 575,281 152,383 1,398,565
EXPENSES
Lease operating expenses .................. 231,155 -- 252,504 -- 483,659
General and administrative ................ 3,281,260 892,391 2,452,546 1,070,765 6,804,571
Depreciation and amortization ............. 37,863 35,212 111,334 37,671 186,868
Dry hole and abandonment costs ............ 16,952 -- 4,910 1,122,806 1,144,668
Geological and geophysical ................ 27,372 1,759 10,521 9,769 47,662
Loss on sale of resource properties ....... -- -- -- 31,357 31,357
------------ ------------ ------------ ------------ ------------
3,594,602 929,362 2,831,815 2,272,368 8,698,785
LOSS BEFORE INCOME TAXES .................... (2,923,701) (797,180) (2,256,534) (2,119,985) (7,300,220)
INCOME TAX EXPENSE .......................... 7,733 750 2,338 -- 10,071
------------ ------------ ------------ ------------ ------------
NET LOSS BEFORE MINORITY INTEREST ........... (2,931,434) (797,930) (2,258,872) (2,119,985) (7,310,291)
MINORITY INTEREST ........................... 72,571 -- 64,235 -- 136,806
------------ ------------ ------------ ------------ ------------
NET LOSS .................................... $ (2,858,863) $ (797,930) $ (2,194,637) $ (2,119,985) $ (7,173,485)
============ ============ ============ ============ ============
DEFICIT ACCUMULATED DURING THE DEVELOPMENT
STAGE, beginning of period ................ (4,314,622) ($ 2,119,985) (2,119,985) -- --
DEFICIT ACCUMULATED DURING THE DEVELOPMENT
STAGE, end of period ...................... $ (7,173,485) $ (2,917,915) $ (4,314,622) $ (2,119,985) $ (7,173,485)
============ ============ ============ ============ ============
NET LOSS PER COMMON SHARE ................... $ (0.10) $ (0.06) $ (0.17) $ (0.23) $ (0.48)
============ ============ ============ ============ ============
WEIGHTED AVERAGE NUMBER OF
COMMON SHARES OUTSTANDING ................. 30,033,434 12,817,020 12,971,871 9,247,101 15,078,264
============ ============ ============ ============ ============
</TABLE>
The accompanying notes are an integral part of these financial statements.
F-23
<PAGE>
SEVEN SEAS PETROLEUM INC. AND SUBSIDIARIES
(A Development Stage Enterprise)
STATEMENT OF CONSOLIDATED STOCKHOLDERS' EQUITY
For the Period from Inception (February 3, 1995) through June 30, 1997
<TABLE>
<CAPTION>
Common Stock
---------------------------
Date Number Amount
--------------------- ----------- -------------
<S> <C> <C> <C>
Issuance of common share to founder ................................. February 3, 1995 .... 1 $ --
Issuance of common shares to founder for cash ....................... February 27, 1995 ... 999,999 1
Issuance of common shares in a private placement for cash
($0.25 per share) ................................................. March 22, 1995 ...... 4,000,000 1,000,000
Issuance of common shares in private placements for cash
($0.75 per share): ................................................ May 31, 1995 ........ 5,687,666 4,265,750
.......................................................... June 9, 1995 ........ 979,000 734,250
Issuance of common shares in settlement of agents' fees
($0.75 per share): ................................................ May 31, 1995 ........ 284,383 213,287
............................................................ June 9, 1995 ........ 48,950 36,713
Less: Common share issuance cost .................................... May 31 - June 9, 1995 -- (250,000)
Issuance of common shares in connection with the May 5,
1995 amalgamation agreement with Rusty Lake Resources
($0.25 per share) ................................................. June 29-30, 1995 .... 680,464 170,116
Net loss ............................................................ -- --
----------- -------------
Balance at December 31, 1995 ........................................ 12,680,463 6,170,117
Issuance of special warrants in a brokered private
placement for cash ($2.75 per warrant) ............................ March 15, 1996 ...... -- --
Issuance of common shares to the Company's 401(k) plan
($7.875 per share) ................................................ April 29,1996 ....... 10,000 78,750
Purchase Treasury Stock ($8.00 per share) ........................... June 26, 1996 ....... -- --
Exercise of stock options for cash ($.75 per share) ................. Jan. - June 1996 .... 305,000 228,750
Exercise of stock options for cash ($7.125 per share) ............... April 29, 1996 ...... 10,000 71,250
Issuance of exchangeable preferred stock in connection with
business combination ( $9.125 per share) .......................... July 26, 1996 ....... -- --
Issuance of special warrants in connection with business
combination ($9.125 per warrant) .................................. July 26, 1996 ....... -- --
Issuance of convertible special warrants in a brokered private
placement for cash ($15.00 per warrant) ........................... October 16, 1996 .... -- --
Exercise of stock options for cash ($.75 per share) ................. July - December 1996 310,333 232,749
Net loss ............................................................ -- --
----------- -------------
Balance at December 31, 1996 ........................................ 13,315,796 6,781,616
Unaudited:
Conversion of special warrants issued in connection with the business
combination dated July 26, 1996 ($9.125 per share) ................ February 7, 1997 .... 11,774,171 107,439,309
Conversion of the preferred shares in connection with the business
combination dated July 26, 1996 ($9.125 per share) ................ February 7, 1997 .... 5,002,972 45,652,120
Conversion of privately placed special warrants ($15.00 per warrant) February 7, 1997 .... 500,000 7,013,370
Conversion of privately placed special warrants ($2.75 per warrant) February 7, 1997 .... 2,000,000 5,095,548
Issuance of common shares in connection with the business
combination ($18.55 per share) .................................... March 5, 1997 ....... 1,000,000 18,550,000
Conversion of privately placed special warrants ($3.50
per warrant) ...................................................... March 14, 1997 ...... 1,000,000 3,500,000
Exercise of stock options for cash ($7.125 per share) ............... April 15, 1997 ...... 10,000 71,250
Exercise of stock options for cash ($.75 per share) ................. Jan. -June 1997 ..... 216,667 162,500
Net loss ............................................................ -- --
----------- -------------
Balance at June 30, 1997 (Unaudited) ................................ $34,819,606 $ 194,265,713
=========== =============
</TABLE>
<TABLE>
<CAPTION>
Preferred Stock Special Warrants
--------------------------- -----------------------------
Number Amount Number Amount
----------- ------------ ------------ -------------
<S> <C> <C> <C> <C>
Issuance of common share to founder ......................... -- -- -- $ --
Issuance of common shares to founder for cash ............... -- $ -- -- --
Issuance of common shares in a private placement for
cash ($0.25 per share) .................................... -- -- -- --
Issuance of common shares in private placements for
cash ($0.75 per share): ................................... -- -- -- --
............................................................. -- -- -- --
Issuance of common shares in settlement of agents' fees
($0.75 per share): ........................................ -- -- -- --
............................................................. -- -- -- --
Less: Common share issuance cost ............................ -- -- -- --
Issuance of common shares in connection with the
May 5, 1995 amalgamation agreement with Rusty Lake
Resources ($0.25 per share) ............................... -- -- -- --
Net loss .................................................... -- -- -- --
----------- ------------ ------------ -------------
Balance at December 31, 1995 ................................ -- -- -- --
Issuance of special warrants in a brokered private placement
for cash ($2.75 per warrant) .............................. -- -- 2,000,000 5,095,548
Issuance of common shares to the Company's 401(k) plan
($7.875 per share) ........................................ -- -- -- --
Purchase Treasury Stock ($8.00 per share) ................... -- -- -- --
Exercise of stock options for cash ($.75 per share) ......... -- -- -- --
Exercise of stock options for cash ($7.125 per share) ....... -- -- -- --
Issuance of exchangeable preferred stock in connection with
business combination ( $9.125 per share) .................. -- -- -- --
Issuance of special warrants in connection with business
combination ($9.125 per warrant) .......................... 5,002,972 45,652,120 11,774,171 107,439,309
Issuance of convertible special warrants in a brokered
private placement for cash ($15.00 per warrant) ........... -- -- 500,000 7,013,370
Exercise of stock options for cash ($.75 per share) ......... -- -- -- --
Net loss .................................................... -- -- -- --
----------- ------------ ------------ -------------
Balance at December 31, 1996 ................................ -- -- 14,274,171 119,548,227
Unaudited: .................................................. 5,002,972 45,652,120
Conversion of special warrants issued in connection with the
business combination dated July 26, 1996 ($9.125 per share) -- -- (11,774,171) (107,439,309)
Conversion of the preferred shares in connection with the
business combination dated July 26, 1996 ($9.125 per share) (5,002,972) (45,652,120) -- --
Conversion of privately placed special warrants ($15.00 per
warrant) .................................................. -- -- (500,000) (7,013,370)
Conversion of privately placed special warrants ($2.75 per
warrant) .................................................. -- -- (2,000,000) (5,095,548)
Issuance of common shares in connection with the business
combination ($18.55 per share) ............................ -- -- -- --
Conversion of privately placed special warrants ($3.50 per
warrant) .................................................. -- -- -- --
Exercise of stock options for cash ($7.125 per share) ....... -- -- -- --
Exercise of stock options for cash ($.75 per share) ......... -- -- -- --
Net loss .................................................... -- -- -- --
----------- ------------ ------------ -------------
Balance at June 30, 1997 (Unaudited) ........................ $ -- $ -- $ -- $ --
=========== ============ ============ =============
</TABLE>
<TABLE>
<CAPTION>
Deficit
Accumulated
Treasury Stock during
----------------------- Development
Number Amount Phase Total
---------- ---------- ----------- -------------
<S> <C> <C> <C> <C>
Issuance of common share to founder ................... -- $-- $ -- $ --
Issuance of common shares to founder for cash ......... -- -- -- 1
Issuance of common shares in a private placement for
cash ($0.25 per share) .............................. -- -- -- 1,000,000
Issuance of common shares in private placements for
cash ($0.75 per share): ............................. -- -- -- 4,265,750
.......................................... -- -- -- 734,250
Issuance of common shares in settlement of agents'
fees ($0.75 per share): ............................. -- -- -- 213,287
............................................ -- -- -- 36,713
Less: Common share issuance cost ...................... -- -- -- (250,000)
Issuance of common shares in connection with the May 5,
1995 amalgamation agreement with Rusty Lake
Resources ($0.25 per share) ......................... -- -- -- 170,116
Net loss .............................................. -- -- (2,119,985) (2,119,985)
---------- ---------- ----------- -------------
Balance at December 31, 1995 .......................... -- -- (2,119,985) 4,050,132
Issuance of special warrants in a brokered private
placement for cash ($2.75 per warrant) .............. -- -- -- 5,095,548
Issuance of common shares to the Company's 401(k)
plan ($7.875 per share) ............................. -- -- -- 78,750
Purchase Treasury Stock ($8.00 per share) ............. 29 (232) -- (232)
Exercise of stock options for cash ($.75 per share) ... -- -- -- 228,750
Exercise of stock options for cash ($7.125 per share) . -- -- -- 71,250
Issuance of exchangeable preferred stock in connection
with business combination ( $9.125 per share) ....... -- -- -- 45,652,120
Issuance of special warrants in connection with
business combination ($9.125 per warrant) ........... -- -- -- 107,439,309
Issuance of convertible special warrants in a brokered
private placement for cash ($15.00 per warrant) ..... -- -- -- 7,013,370
Exercise of stock options for cash ($.75 per share) ... -- -- -- 232,749
Net loss .............................................. -- -- (2,194,637) (2,194,637)
---------- ---------- ----------- -------------
Balance at December 31, 1996 .......................... 29 (232) (4,314,622) 167,667,109
Unaudited:
Conversion of special warrants issued in connection
with the business combination dated July 26, 1996
($9.125 per share) .................................. -- -- -- --
Conversion of the preferred shares in connection
with the business combination dated July 26, 1996
($9.125 per share) .................................. -- -- -- --
Conversion of privately placed special warrants
($15.00 per warrant) ................................ -- -- -- --
Conversion of privately placed special warrants
($2.75 per warrant) ................................. -- -- -- --
Issuance of common shares in connection with the
business combination ($18.55 per share) ............. -- -- -- 18,550,000
Conversion of privately placed special warrants
($3.50 per warrant) ................................. -- -- -- 3,500,000
Exercise of stock options for cash ($7.125 per share) . -- -- -- 71,250
Exercise of stock options for cash ($.75 per share) ... -- -- -- 162,500
Net loss .............................................. -- -- (2,858,863) (2,858,863)
---------- ---------- ----------- -------------
Balance at June 30, 1997 (Unaudited) .................. $ 29 $ (232) $(7,173,485) $ 187,091,996
========== ========== =========== =============
</TABLE>
The accompanying notes are an integral part of these financial statements.
F-24
<PAGE>
SEVEN SEAS PETROLEUM INC. AND SUBSIDIARIES
(A Development Stage Enterprise)
STATEMENTS OF CONSOLIDATED CASH FLOWS
<TABLE>
<CAPTION>
From Inception
(February 3, Cumulative Total
Year Ended 1995) to from Inception
Six Months Six Months December 31, December 31, (February 3, 1995)
Ended 1997 Ended 1996 1996 1995 to June 30, 1997
------------ ----------- ------------- ----------- -------------
(Unaudited) (Unaudited) (Unaudited)
<S> <C> <C> <C> <C> <C>
OPERATING ACTIVITIES
Net loss ................................... $ (2,858,863) $ (797,930) $ (2,194,637) $(2,119,985) $ (7,173,485)
Add (subtract) items not requiring
(providing) cash:
Minority interest .......................... (72,571) -- (64,235) -- (136,806)
Common stock contribution to 401(k)
retirement plan ........................... -- 78,750 78,750 -- 78,750
Dry hole and abandonment costs ............. 16,952 -- -- 1,122,806 1,139,758
Loss on sale of resource properties ........ -- -- -- 31,357 31,357
Depreciation and amortization .............. 37,863 35,212 111,334 37,671 186,868
Changes in working capital excluding changes
to cash and cash equivalents:
Accounts receivable ..................... 1,138,757 163 (316,431) (43,642) 778,684
Prepaids and other, net ................. (9,552) (7,177) 482 (482) (9,552)
Accounts payable ........................ (1,731,781) (117,691) 1,509,348 120,305 (102,128)
Accrued liabilities ..................... 264,000 -- 245,000 -- 509,000
------------ ----------- ------------- ----------- -------------
Cash Flow Used in Operating Activities ....... (3,215,195) (808,673) (630,389) (851,970) (4,697,554)
------------ ----------- ------------- ----------- -------------
INVESTING ACTIVITIES
Exploration of oil and gas properties ...... (3,297,185) (943,468) (5,836,266) (1,696,943) (10,830,394)
Proceeds from acquisition .................. 194 -- 630,226 -- 630,420
Proceeds from sale of property ............. -- -- -- 84,336 84,336
Other asset additions ...................... (29,440) (152) (64,135) (169,821) (263,396)
------------ ----------- ------------- ----------- -------------
Cash Flow Used in Investing Activities ....... (3,326,431) (943,620) (5,270,175) (1,782,428) (10,379,034)
------------ ----------- ------------- ----------- -------------
FINANCING ACTIVITIES
Proceeds from special warrants issued ...... -- 5,095,548 12,108,917 -- 12,108,917
Proceeds from share capital issued ......... 3,733,751 228,750 532,750 6,000,001 10,266,502
Proceeds from additional paid-in
capital contributed ....................... -- -- 999 -- 999
Contributions by minority interest ......... 1,136,307 -- 513,004 -- 1,649,311
Purchase of treasury stock ................. -- (232) (232) -- (232)
------------ ----------- ------------- ----------- -------------
Cash Flow Provided by Financing Activities ... 4,870,058 5,324,066 13,155,438 6,000,001 24,025,497
------------ ----------- ------------- ----------- -------------
NET INCREASE (DECREASE) IN CASH AND
CASH EQUIVALENTS ........................... (1,671,568) 3,571,773 7,254,874 3,365,603 8,948,909
Cash and cash equivalents, beginning of period 10,620,477 3,365,603 3,365,603 -- --
------------ ----------- ------------- ----------- -------------
CASH AND CASH EQUIVALENTS, END OF PERIOD ..... $ 8,948,909 $ 6,937,376 $ 10,620,477 $ 3,365,603 $ 8,948,909
============ =========== ============= =========== =============
SUPPLEMENTAL DISCLOSURES
Common stock granted pursuant to an agency
agreement for a private placement ........ $ -- $ -- $ -- $ 250,000 $ 250,000
Common stock issued pursuant to amalgamation -- -- -- 170,116 170,116
Common stock issued pursuant to acquisitions 18,550,000 -- 153,091,430 -- 171,641,430
</TABLE>
The accompanying notes are an integral part of these financial statements.
F-25
<PAGE>
SEVEN SEAS PETROLEUM INC. AND SUBSIDIARIES
(A Development Stage Enterprise)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
1. DEVELOPMENT STAGE OPERATIONS:
Seven Seas Petroleum Inc. (a Yukon Territory, Canada corporation) was
formed on February 3, 1995. Seven Seas Petroleum Inc. and its subsidiaries
(collectively referred to as "Seven Seas" or the "Company") are
collectively a development stage enterprise engaging in acquisition,
exploration, and development of interests in oil and gas projects
worldwide. The Company's primary business operations to date have been the
exploration and development of its interests in Colombia, South America.
The Company has yet to generate any significant revenue from oil and gas
sales and has no assurance of future revenues. The Company's principal
asset is its 57.7 percent participating interest in the Dindal Association
Contract and Rio Seco Association Contract (collectively, the "Association
Contracts"). The Association Contracts were issued by Empresa Colombiana
de Petroleos ("Ecopetrol"), the National Oil Company of Colombia, in March
1993 and August 1995, repectively, and entitle the Company to engage in
exploration, development, and production activities in Colombia. As of
June 30, 1997, three wells have been drilled and completed on the Dindal
Association Contract. Two of the wells have been production tested by the
Company and one was plugged and abandoned as a dry hole prior to the
Company acquiring an interest in the Association Contracts. The Company is
currently drilling a fourth well in the Dindal Block with results expected
in September 1997 and plans to drill a fifth well located in the Rio Seco
Block in September 1997.
Seven Seas is subject to several categories of risk associated with its
development stage activities. Oil and gas exploration and development is a
speculative business and involves a high degree of risk. The Company has
expended, and plans to expend, significant amounts of capital on the
acquisition and exploration of its properties, and most of such properties
have not been fully evaluated for hydrocarbon potential. The exploration
and development of current properties and any properties acquired in the
future are expected to require substantial amounts of additional capital
which the Company may be required to raise through debt or equity
financings, which might involve encumbering properties or entering into
arrangements where certain costs of exploration will be paid by others to
earn an interest in the property. There are risks that result because the
Company has acquired, and intends to continue to acquire, interests in
properties outside of North America, in some cases in countries that may
be considered politically and economically unstable. Seven Seas' success
currently depends to a high degree on its activities in Colombia.
F-26
<PAGE>
2. BUSINESS COMBINATION:
On June 29, 1995 the Supreme Court of British Columbia approved the May 5,
1995 amalgamation of Seven Seas and Rusty Lake Resources Ltd. Stockholders
of Rusty Lake Resources Ltd. were issued one common share in Seven Seas,
the new company after the amalgamation, for each 35 common shares held in
Rusty Lake Resources Ltd. Additional shares of Seven Seas were issued in
settlement of certain indebtedness of Rusty Lake Resources Ltd. This
transaction has been reflected as an acquisition by Seven Seas using the
purchase method of accounting, whereby the assets acquired and liabilities
assumed were fair valued and Rusty Lake Resources Ltd. has been
prospectively reflected in the Company's financial statements since June
29, 1995. The net assets of Rusty Lake Resources Ltd. were recorded on the
books of Seven Seas as follows:
Marketable securities $ 3,370
Goods and services tax receivable 3,099
Resource properties 115,693
Other assets (organization costs) 87,481
Accounts payable (39,527)
Share capital (680,464 shares) (170,116)
On July 26, 1996 the Company acquired 100 percent of the outstanding stock
which represented 100 percent of the voting shares held in GHK Company
Colombia and Esmeralda LLC. Additionally, on the same date, the Company
acquired 62.963 percent of the outstanding shares and voting stock in
Cimarrona LLC. This transaction has been reflected as an acquisition by
Seven Seas using the purchase method of accounting, whereby the assets
acquired and liabilities assumed were fair valued and the operations of
the acquired entities have been reflected in the Company's financial
statements since July 26, 1996. As consideration for the increased
interest from these acquisitions, Seven Seas issued to the stockholders in
GHK Company Colombia, Esmeralda LLC and Cimarrona LLC a combination of
preferred shares and special warrants which are exchangeable into a total
of 16,777,143 common shares upon the earlier of the approval of a
prospectus qualifying the exchange, or one year from the closing of the
transaction. Of the 16,777,143 preferred shares and special warrants,
5,002,972 preferred shares were issued for all of the common shares in GHK
Company Colombia, 4,469,028 special warrants were issued for all of the
common shares in Esmeralda LLC, and 7,305,143 special warrants were issued
for 62.963 percent of the common shares in Cimarrona LLC. The remaining
37.037 percent interest in Cimarrona LLC represents a minority interest
which is reflected as such on the balance sheet. The 16,777,143 preferred
shares and special warrants were recorded based on the closing stock price
of Seven Seas on July 26, 1996 at $9.125 totaling $153,091,430. Net assets
acquired include $217,090,298 assigned to oil and gas properties (which
are subject to future evaluation based on further appraisal drilling) and
other nominal net working capital, less amounts attributable to the
minority interest in Cimarrona LLC. Because of the differences
<PAGE>
in tax basis and the financial statement valuation of such acquired oil
and gas properties, $63,967,775 of deferred Colombian and U.S. income
taxes was also recorded in this acquisition (see Note 3 and 5) and is
included in the amount assigned to oil and gas properties. Any income and
expenditures incurred by these three entities after July 26, 1996, are
included in the December 31, 1996 and June 30, 1997 statement of
operations and accumulated deficit.
Of the 16,777,143 preferred shares and special warrants issued, 11,744,000
are held subject to an escrow agreement, whereby one third of the
securities are released each year for three years. The securities may be
released earlier based upon a valuation of the Seven Seas interests in the
Contract Areas. Collectively, the acquisition of these three companies
resulted in the purchase of an additional 36.7 percent participating
interest in the Association Contracts in which the Company previously held
a 15 percent participating interest. All three entities were oil and gas
exploration companies whose only material asset was the participating
interest they held in the Association Contracts in Colombia.
On February 7, 1997 approvals were granted by the Ontario Securities
Commission, British Columbia Securities Commission and the Alberta
Securities Commission for the prospectus filed to qualify 11,774,171
special warrants and 5,002,972 preferred shares which were automatically
converted to common stock. These shares were issued in connection with the
acquisition of a 36.7 percent participating interest in the Association
Contracts in Colombia by the Company on July 26, 1996.
On March 5, 1997 the Company acquired 100 percent of the outstanding
voting stock held in Petrolinson, S.A. The terms of the transaction were
agreed to in a letter of intent dated November 22, 1996. The principal
asset owned by Petrolinson, S.A. is a six percent participating interest
in the Association Contracts. As consideration for the six percent
participating interest in the Association Contracts, Seven Seas issued to
the sole shareholder in Petrolinson, S.A. 1,000,000 common shares of Seven
Seas Petroleum Inc. common stock. The common shares issued to the sole
shareholder of Petrolinson, S.A. are subject to an escrow agreement, the
terms of which provide for a 120 day escrow of shares commencing from
March 5, 1997 with an option by the Company to extend the escrow period
for an additional 30 days. This six percent interest will be carried
through exploration by the other 94 percent participating interest
parties. This transaction has been reflected in 1997 as an acquisition by
Seven Seas using the purchase method of accounting, whereby the assets
acquired and liabilities assumed were fair valued and the acquired
operations have been reflected in the Company=s financial statements since
March 5, 1997. The 1,000,000 shares were recorded based on the weighted
average closing stock price of Seven Seas for the period beginning 30 days
prior to and 30 days subsequent to November 22, 1996, or $18.55. This
represents a transaction cost of $18,550,000. Net assets acquired include
$25,035,701 assigned to oil and gas properties (which are subject to
future evaluation based on further appraisal drilling) and other nominal
net working capital. Because of the differences in tax basis and the
financial statement valuation of such acquired oil and gas properties,
$6,490,737 of deferred Colombian income tax was also recorded in this
acquisition (see Note 3 and 5) and is included in the amount assigned to
oil and gas properties.
<PAGE>
3. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES:
The Company follows U.S. generally accepted accounting principles. A
summary of the Company's significant policies is set out below:
USE OF ESTIMATES
The preparation of financial statements in conformity with generally
accepted accounting principles requires the Company to make estimates and
assumptions that affect the reported amounts of assets and liabilities,
revenues, and expenses. Actual results could differ from the estimates and
assumptions used.
RECLASSIFICATION OF PRIOR PERIOD STATEMENTS
Consistent with the asset/liability method of accounting for income taxes,
the Company recorded deferred income tax liabilities relating to the
acquisitions of GHK Company Colombia, Esmeralda LLC, and 62.963% of
Cimarrona LLC in 1996 and Petrolinson, S.A. on March 5, 1997. The credit
to deferred income tax liabilities and the corresponding increase in
unevaluated oil and gas interests amounted to $70,458,512 and $63,967,775
as of June 30, 1997 and December 31, 1996, respectively. The nature of the
amounts recorded is described in Note 5, Income Taxes. Additionally,
certain other minor reclassifications have been made to conform to current
reporting practices.
CONSOLIDATION
The consolidated financial statements include the accounts of the Company
and its wholly owned and majority owned subsidiaries, after eliminating
all material intercompany accounts and transactions.
INTERIM FINANCIAL INFORMATION
All interim financial information for 1997 and 1996 included herein is
unaudited but includes all adjustments, consisting only of normal
recurring adjustments, which the Company considers necessary for a fair
presentation of the financial position at June 30, 1997 and the operating
results and cash flows for the interim periods. Results of the six months
ended June 30, 1997 are not necessarily indicative of results for the
entire year.
STATEMENT OF CASH FLOWS
Cash and cash equivalents include bank deposits and short-term
investments, which upon acquisition have a maturity of three months or
less. Cash payments for income taxes amounted to $7,733, $750, and $2,338
for the six months ended June 30, 1997, the six months ended June 30,
1996, and for the year ended December 31, 1996, respectively.
<PAGE>
ACCOUNTS RECEIVABLE
Accounts receivable included the following at June 30, 1997 and December
31, 1996 and 1995:
June 30, 1997 1996 1995
------------- ---------- -------
(Unaudited)
Crude oil sales ............... $ 94,193 $ 58,845 $ --
Joint venture partners ....... -- 1,117,635 --
Other ......................... 14,924 64,950 43,642
-------- ---------- -------
Total accounts receivable ..... $109,117 $1,241,430 $43,642
======== ========== =======
MARKETABLE SECURITIES
The Company has adopted the Statement of Financial Accounting Standards
No. 115 ("SFAS 115"), "Accounting for Certain Investments in Debt and
Equity Securities." SFAS 115 requires that all investments in debt
securities and certain investments in equity securities be reported at
fair value except for those investments which management has the intent
and the ability to hold to maturity. Investments which are held-for-sale
are classified based on the stated maturity and management's intent to
sell the securities. Changes in fair value are reported as a separate
component of stockholders' equity, but were immaterial for all periods
presented herein.
OIL AND GAS INTERESTS
The Company follows the full-cost method of accounting for oil and natural
gas properties. Under this method, all costs incurred in the acquisition,
exploration and development, including unproductive wells are capitalized
in separate cost centers for each country. Such capitalized costs include
contract and concession acquisition, geological, geophysical and other
exploration work, drilling, completing and equipping oil and gas wells,
constructing production facilities and pipelines, and other related costs.
As of December 31, 1996 and 1995, unevaluated oil and gas interests
include capitalized general and administrative costs of $140,628 and
$130,866, respectively. No additional general and administrative costs
were capitalized during the six months ended June 30, 1997.
The capitalized costs of oil and gas properties in each cost center are
amortized on a composite units of production method based on future gross
revenues from proved reserves. Sales or other dispositions of oil and gas
properties are normally accounted for as adjustments of capitalized costs.
Gain or loss is not recognized in income unless a significant portion of a
cost center's reserves is involved. Capitalized costs associated with the
acquisition and evaluation of unproved properties are excluded from
amortization until it is determined whether proved reserves can be
assigned to such properties or until the value of the properties is
impaired. If the net capitalized costs of oil and gas properties in a cost
center exceed an amount equal to the sum of the present value of estimated
future net revenues from proved oil and gas reserves in the cost center
and the lower of cost or fair value of properties not being amortized,
both adjusted for income tax effects, such excess is charged to expense.
<PAGE>
Since the Company has not completed its evaluation of its oil and gas
reserves in Colombia and has only produced test quantities of oil, a
provision for depletion has not been made.
Substantially all the Company's exploration and production activities are
conducted jointly with others and the accounts reflect only the Company's
proportionate interest in such activities.
FOREIGN CURRENCY TRANSLATION
The Company's foreign operations are a direct and integral extension of
the parent company's operations and the majority of all costs associated
with foreign operations are paid in U.S. dollars and not the local
currency of the operations; therefore, the reporting and functional
currency is the U.S. dollar. Gains and losses from foreign currency
transactions are recognized in current net income. Monetary items are
translated using the exchange rate in effect at the balance sheet date;
non-monetary items are translated at historical exchange rates. Revenues
and expenses are translated at the average rates in effect on the dates
they occur. No material translation gains or losses were incurred during
the periods presented.
INCOME TAXES
The Company follows the asset/liability method of accounting for income
taxes under which deferred tax assets and liabilities are recognized for
the future tax consequences of (i) temporary differences between the tax
bases of assets and liabilities and their reported amounts in the
financial statements and (ii) operating loss and tax credit carryforwards
for tax purposes. Deferred tax assets are reduced by a valuation allowance
when, based upon management's estimates, it is more likely than not that a
portion of the deferred tax assets will not be realized in a future
period. For the six months ended June 30, 1997, June 30, 1996, and the
year ended December 31, 1996, the Company has recorded income tax expense
of $7,733; $750; and $2,338, respectively.
FIXED ASSETS
Fixed assets are recorded at cost. Depreciation is provided on a
straight-line basis over three to five years.
ORGANIZATION COSTS
Organization costs represent the normal cost of incorporating the Company.
In association with the amalgamation agreement with Rusty Lake Resources
Ltd., organization costs of $87,481 were recorded to reflect the excess
purchase price of Seven Seas common shares provided to Rusty Lake
Resources Ltd. stockholders over and above the net asset value of Rusty
Lake Resources Ltd. as of June 29, 1995. Organization costs are being
amortized on a straight-line basis over two years.
EARNINGS PER SHARE
Net loss per share is computed using the weighted average number of shares
outstanding. No effect was given to common stock equivalents as the effect
would be antidilutive. All shares issued in connection with the conversion
of preferred shares and special warrants during 1996 were not considered
outstanding until registration with the Canadian Securities Commissions
<PAGE>
occurred on February 7, 1997, including the shares held in escrow for the
former shareholders of GHK Company Colombia, Esmeralda LLC and Cimarrona
LLC. The common shares held in escrow were considered in the weighted
average shares outstanding since they are considered outstanding by the
transfer agent and have voting rights.
In February 1997, the Financial Accounting Standards Board issued
Statement of Financial Accounting Standards No. 128 ("SFAS 128") "Earnings
per Share." SFAS 128 establishes standards for computing and presenting
earnings per share ("EPS") and applies to entities with publicly held
common stock or potential common stock. This statement simplifies the
standards for computing and presenting EPS previously found in Accounting
Principles Board Opinion No. 15, "Earnings Per Share," and makes them
comparable to international EPS standards. This statement is effective for
financial statements issued for periods ending after December 15, 1997,
including interim periods; earlier application is not permitted. The
statement requires restatement of all prior-period EPS data presented.
Considering the guidelines as prescibed by SFAS 128, the Company's
management believes that the adoption of this statement will not have a
material effect on EPS and thus pro forma EPS, as suggested for all
interim and annual periods prior to required adoption, have been omitted.
4. CASH AND CASH EQUIVALENTS:
June 30, December 31, December 31,
1997 1996 1995
----------- ----------- ----------
(Unaudited)
Cash ............................ $2,525,077 $ 170,684 $ 53,103
Short-term investments .......... 6,423,832 10,449,793 3,312,500
---------- ----------- ----------
Total cash and cash equivalents . $8,948,909 $10,620,477 $3,365,603
========== =========== ==========
The carrying value of short-term investments approximates fair value
5. INCOME TAXES:
The geographical sources of income (loss) before income taxes and minority
interest were as follows:
December 31, December 31,
1996 1995
----------- -----------
United States ............... $ (277,456) $ --
Foreign ..................... (1,979,078) (2,119,985)
----------- -----------
Income (loss) before taxes -. $(2,256,534) $(2,119,985)
=========== ===========
<PAGE>
The provision for income taxes is summarized as follows:
<TABLE>
<CAPTION>
Six Months ended Six Months ended December 31, December 31,
June 30, 1997 June 30, 1996 1996 1995
---------------- ---------------- ------------- ------------
(Unaudited) (Unaudited)
<S> <C> <C> <C> <C>
Current:
United States ....... $ -- $-- $ -- $--
Foreign ............. 7,733 750 2,338 --
------ ---- ------ ---
Income tax expense .. $7,733 $750 $2,338 $--
====== ==== ====== ===
</TABLE>
No deferred taxes were recorded during the periods presented, as there
were no significant changes in the temporary differences between the book
and tax bases of assets and liabilities. Deferred U.S. and Colombian
income taxes have been provided for the book-tax basis differences related
to the Colombian acquisitions discussed further in Note 2. These foreign
subsidiaries' cumulative undistributed earnings are considered to be
indefinitely reinvested outside of Canada and, accordingly, no Canadian
deferred income taxes have been provided thereon.
The Company's net deferred income tax liabilities consist of the
following:
December 31, 1996 December 31, 1995
----------------- -----------------
Deferred tax liability .. $ 63,967,775 $ --
Deferred tax asset ...... (1,531,782) (741,995)
Valuation allowance ..... 1,531,782 741,995
------------ ---------
Total ................... $ 63,967,775 $ --
============ =========
Temporary differences included in the deferred tax liabilities relate
primarily to excess of book over tax basis on acquired oil and gas
properties. During the six months ended June 30, 1997, deferred Colombian
income tax in the amount of $6,490,737 was recorded in the acquisition of
Petrolinson, S.A., as described in Note 2. Deferred tax assets principally
consist of net operating loss carryforwards.
As of December 31, 1996 the Company's subsidiaries had net operating loss
carryforwards in various foreign jurisdictions (primarily Colombia) of
approximately $4,100,000. These loss carryforwards will expire beginning
in 2000 if not utilized to reduce Colombian income taxes. In addition, the
Company had approximately $277,000 of U.S. tax net operating loss
carryforwards expiring in varying amounts between 2003 and 2004. A
valuation allowance has been provided for the deferred tax assets
resulting from these loss carryforwards because their future realization
is not currently deemed probable by management. This valuation allowance
is the primary reason the total income tax provisions in 1995 and 1996
differ from the amounts computed at the statutory rates, which are 35% in
Colombia and in the United States.
<PAGE>
6. SHARE CAPITAL:
On March 15, 1996, a brokered private placement was carried out in Canada.
The Company issued 2,000,000 special warrants at $2.75 per warrant for a
net offering after commissions and expenses of $5,095,548 to a third party
financial brokerage institution. Each special warrant was convertible into
one unit. Each unit consisted of one share of common stock and a one-half
common share purchase warrant at $3.50 per full share. The warrants were
convertible at the earlier of (a) one year from date of issuance or (b)
the date an approval is issued for a prospectus qualifying the conversion
in the appropriate jurisdictions. On March 14, 1997, the 1,000,000 common
share purchase warrants were exercised and converted to common shares for
net proceeds of $3,500,000.
On October 16, 1996, another brokered private placement was carried out in
Canada. Seven Seas issued to a third party financial brokerage institution
500,000 special warrants at $15.00 per warrant for a net offering after
commissions and expenses of $7,013,370. Each special warrant was
convertible into one unit. Each unit consisted of one share of common
stock and a one-half common share purchase warrant at $18.50 per full
share. The warrants were convertible at the earlier of (a) one year from
date of issuance or (b) the date an approval is issued for a prospectus
qualifying the conversion in the appropriate jurisdictions. As of June 30,
1997 the 250,000 common share purchase warrants have not been exercised at
$18.50 per share.
An approval for qualification of the conversion of the 2,000,000 and
500,000 special warrants issued in the brokered private placements on
March 15 and October 16, 1996, respectively, was received on February 7,
1997 by the Ontario, Alberta, and British Columbia Securites Commissions.
All special warrants were exercised and have been converted to common
shares.
The proceeds of the brokered private placements on March 15 and October
16, 1996 will be used for additional drilling, seismic and production
facilities related to the Company's 57.7 percent participating interest in
the Association Contracts and for further exploration activities.
7. STOCK OPTIONS
Officers, directors and employees have been granted stock options under
the Company's 1995 Stock Option Plan and the Amended 1996 Stock Option
Plan. Pursuant to the Amended 1996 Stock Option Plan ("the Plan"),
3,000,000 shares were authorized for issuance of which 1,164,667 were
outstanding as of December 31, 1996, the effective date of the Toronto
Stock Exchange's approval. Under rules of the Toronto Stock Exchange, the
net options outstanding at the effective date are considered as being
granted under the Plan. As of December 31, 1996, 1,835,333 stock options
were available for issuance. The stock options granted during 1995, 1996
and through May 1997 were not subject to vesting requirements. The term of
the stock options is five years from the date of grant. The Company grants
options at the approximate prevailing market price on the date of grant.
Effective June 1997, stock options
<PAGE>
granted under the Plan became subject to a vesting requirement; one-third
of the stock options granted vest immediately, and the remainder vests
one-half each on the first and second anniversaries of the date of grant.
The Board of Directors is responsible for administering the Amended 1996
Stock Option Plan, determining the terms upon which options may be
granted, prescribing, amending and rescinding such interpretations and
determinations and granting options to employees, directors, and officers.
A summary of the status of the Company's Stock Option Plan as of December
31, 1995 and 1996 and changes during the periods ended on those dates is
presented below:
<TABLE>
<CAPTION>
1995 1996
--------------------- ------------------------
Weighted Weighted
Average Average
Excercise Excercise
Shares Price Shares Price
------- ----- ---------- ------
<S> <C> <C> <C> <C>
Outstanding options at inception
(February 3, 1995) and beginning
of the year .................................. -- -- 985,000 $ 0.75
Options granted .............................. 985,000 $0.75 805,000 $12.86
Options excercised ........................... -- -- (625,333) $ 0.85
Options outstanding at year end .............. 985,000 $0.75 1,164,667 $ 9.07
Options excercisable at year end ............. 985,000 $0.75 764,667 $ 4.00
Weighted-average fair value of options
granted during the year ...................... -- $0.19 -- $ 4.65
</TABLE>
The following table summarizes information about stock options outstanding
at December 31, 1996:
<TABLE>
<CAPTION>
Options Outstanding Options Exercisable
Number Weighted- Weighted- Number Weighted-
Outstanding at Average Average Exercisable At Average
Range of Exercise December 31, Contractual Life Exercise December 31, Exercise
Price 1996 (Years) Price 1996 Price
----------------- ------------------- ---------------- ---------- -------------------- -----------
<S> <C> <C> <C> <C> <C>
$0.75 374,667 3.3 $ 0.75 374,667 $ 0.75
$7.13 390,000 4.5 $ 7.13 390,000 $ 7.13
$18.75 400,000 4.9 $ 18.75 -- --
------------- ----------
1,164,667 764,667
============= ==========
</TABLE>
On May 20, 1997, the Chairman of the Board, the Chief Executive Officer,
and the President of the Company resigned and received settlements from
the Company. Seven Seas entered into a consulting agreement with the
former Chairman of the Board for a three-year term for $200,000 per year.
The Company agreed to pay compensation of $525,000 to the former President
and $250,000 to the former Chief Executive Officer. The former President
is also
<PAGE>
entitled to receive a payment equal to the bonus paid to him during 1996,
or $98,840, for each year, or part of a year remaining on the employment
contract, provided that such payment shall only be made in respect of any
year that the Company otherwise declares and pays bonuses to some or all
of its employees. The term of the President's employment contract is the
three-year period from April 28, 1997. As part of the arrangements
surrounding the resignations, the exercise period of the options granted
to the former officers during their employment was extended from ninety
days to eighteen months. Due to the change in the measurement date, the
Company was required to record compensation expense of $508,250 for the
six-month period ended June 30, 1997, representing the market value of the
common shares on the new measurement date less the exercise price of the
options granted. Only the exercisable options granted to the former
Chairman and the former President were considered in the computation. As
of May 20, 1997, 190,000 options were outstanding with an exercise price
of $7.125 and a market value of $9.80 per share.
In accordance with the provisions of Statement of Financial Accounting
Standards No. 123, "Accounting for Stock-Based Compensation" (SFAS 123"),
the Company applies APB Opinion 25 in accounting for its stock option
plan, and accordingly does not recognize compensation cost as it relates
to SFAS 123.
If the Company had elected to recognize compensation cost based on the
fair value of the options granted at the grant date as prescribed by SFAS
123, net loss and net loss per share would have increased to the proforma
amounts shown below:
DECEMBER 31, 1996 DECEMBER 31, 1995
----------------- -----------------
Pro Forma Net Loss ....... $(5,938,372) $(2,309,940)
Pro Forma
Net Loss per Share ....... $ (.46) $ (.25)
The effects of applying SFAS 123 in this proforma are not indicative of
future amounts.
The fair value of each option grant is estimated on the date of grant
using the Black-Scholes option pricing model with the following
assumptions used for grants during the year ended December 31, 1996:
weighted average risk free interest rate of 6.29%; no dividend yield;
volatility of .2686; and expected life of five years. The Company granted
options prior to public trading on the Canadian Dealer Network on June 30,
1995. Consequently, the underlying common stock had no historic volatility
prior to June 30, 1995. The fair value of the options granted prior to
June 30, 1995 was based on the difference between the present value of the
exercise price of the option and the estimated fair value price of the
stock.
<PAGE>
8. OPERATIONS BY GEOGRAPHIC AREA:
The Company operates in one industry segment. Information about the
Company=s operations for the year ended December 31, 1996 and the period
from inception to December 31, 1995 by different geographic areas is shown
below:
<TABLE>
<CAPTION>
Other Foreign
Canada United States Colombia Areas Total
----------- -------------- ------------ -------------- ------------
<S> <C> <C> <C> <C> <C>
Year ended December 31, 1996
Revenues......................... $ 333,598 $ -- $ 239,345 $ 2,338 $ 575,281
Operating Loss................... (1,399,866) (277,456) (438,948) (140,264) (2,256,534)
Capital Expenditures............. -- -- 5,564,861 271,405 5,836,266
Identifiable Assets............. 10,497,084 46,939 224,436,899 520,060 235,500,982
Depreciation and Amortization.... -- -- -- -- --
<CAPTION>
Canada Colombia Argentina
----------- ------------ -----------
<S> <C> <C> <C>
Year ended December 31, 1995
Revenues......................... $ 147,372 $ -- $ --
Operating Loss................... (863,787) (3,147) (625,771)
Capital Expenditures............. -- 369,723 622,006
Identifiable Assets............. 3,565,647 385,999 --
Depreciation and Amortization.... -- -- --
<CAPTION>
Other Foreign
North Africa Areas Total
------------ ------------ -----------
Year ended December 31, 1995
Revenues......................... $ -- $ 5,011 $ 152,383
Operating Loss................... (509,878) (117,402) (2,119,985)
Capital Expenditures............. 500,800 204,414 1,696,943
Identifiable Assets............. -- 218,791 4,170,437
Depreciation and Amortization.... -- -- --
</TABLE>
The Financial Accounting Standards Board issued Statement of Financial
Accounting Standards No. 131 ("SFAS 131") "Disclosures about Segments of
an Enterprise and Related Information." SFAS 131 establishes standards for
the way that public business enterprises report information about
operating segments in annual financial statements and requires that those
enterprises report selected information about operating segments in
interim financial reports. It also establishes standards for related
disclosures about products and services, geographic areas, and major
customers. This statement is effective for financial statements issued for
periods ending after December 15, 1997. The Company's management believes
that the adoption of this statement will not have a material effect on its
consolidated results of operations, financial position, or cash flows.
9. COMMITMENTS AND CONTINGENCIES:
The Company leases property and equipment under various operating leases.
Aggregate minimum lease payments under existing contracts as of December
31, 1996, are as follows: $63,799 for 1997; $54,902 for 1998; $25,138 for
1999; $0 for 2000 and thereafter. Rental expense amounted to $82,928 in
1996; $58,536 in 1995; $39,859 for the six months ended June 30, 1997; and
$40,420 for the six months ended June 30, 1996.
Two wells estimated at a total cost of $10,600,000 are required to be
drilled on the Company's Association Contracts during 1997 to fulfill the
Company's 1997 work commitments. The drilling of a well on the Dindal
Association Contract commenced on June 23, 1997, but is not expected to be
completed until September 1997. The Company
<PAGE>
plans to commence drilling a well on the Rio Seco Association Contract in
September 1997. Seven Seas will be required to pay their proportionate
share of the total cost of these two wells, or approximately $5,900,000.
10. SUBSEQUENT EVENTS (UNAUDITED):
On August 7, 1997, a brokered private placement with two third parties was
carried out in Canada involving the issuance of $25,000,000 of Special
Notes. The net proceeds after commissions and expenses were approximately
$23,400,000. The Special Notes will be exchangeable by the holders into
Convertible Debentures at any time and will be automatically converted
upon approval of a prospectus qualifying the issuance of the Convertible
Debentures. The Convertible Debentures will be issued in denominations of
$100, have a maturity date of August 7, 2003 and will bear interest at a
rate of 6 percent per annum. The Convertible Debentures are convertible
into units of the Company, at a rate of $11.50 per unit. Each unit
consists of one share of common stock and a one-half common share purchase
warrant with each whole warrant exercisable for a period of one year from
August 7, 1997 at $15.00 per share. These Convertible Debentures are
common stock equivalents (potentially 3,260,870 common shares) and are
potentially dilutive to future earnings, if the Company has net earnings
in the future. The Convertible Debentures are secured by a pledge of
shares of the subsidiaries of the Company.
On July 26, 1997, one-third of the 11,744,000 common shares or 3,914,667,
issued in the business combination with GHK Company Colombia, Esmeralda
LLC, and Cimarrona LLC were released from escrow pursuant to the escrow
agreement as descibed in Note 2.
The 1,000,000 common shares issued to the sole shareholder of Petrolinson,
S.A. on March 5, 1997 in a business combination were released from escrow
on July 3, 1997, in accordance with the escrow agreement as described in
Note 2.
The Company has signed a letter of intent to sell its 11.77 percent
interest in the Southern Perth Basin Permits (EP381 and EP408) located in
Southwestern Australia. The Company will receive cash of $850,000 and a
small overriding royalty interest in each permit. Completion of the
transaction contemplated by the letter of intent is subject to several
conditions, including obtaining approvals of third parties and
governmental authorities. No assurance can be given that the Company will
complete this sale.
<PAGE>
11. SUPPLEMENTAL OIL AND GAS INFORMATION:
Capitalized costs at December 31, 1996 and December 31, 1995 relating to the
Company's oil and gas activities are shown below:
<TABLE>
<CAPTION>
Colombia Argentina North Africa Others Total
------------ ---------- --------- --------- -------------
<S> <C> <C> <C> <C> <C>
As of December 31, 1996
Proved properties ........................ $ 1,611,665 $ -- $ -- $ -- $ 1,611,665
============ ========== ========= ========= =============
Unproved properties ...................... $221,413,217 $ -- $ -- $ 475,819 $ 221,889,036
Less: Dry Hole and Abandonment ........... -- -- -- (4,910) (4,910)
------------ ---------- --------- --------- -------------
Unproved properties, net ................. $221,413,217 $ -- $ -- $ 470,909 $ 221,884,126
As of December 31, 1995
Proved properties ........................ $ -- $ -- $ -- $ -- $ --
============ ========== ========= ========= =============
Unproved properties ...................... $ 369,723 $ 622,006 $ 500,800 $ 204,414 $ 1,696,943
Less: Dry Hole and Abandonment ........... -- (622,006) (500,800) -- (1,122,806)
------------ ---------- --------- --------- -------------
Unproved properties, net ................. $ 369,723 $ -- $ -- $ 204,414 $ 574,137
============ ========== ========= ========= =============
</TABLE>
Cost incurred during the years ended December 31, 1996 and 1995, respectively,
were as follows:
<TABLE>
<CAPTION>
Colombia Argentina North Africa Others Total
------------ -------- -------- -------- ------------
<S> <C> <C> <C> <C> <C>
Year ended December 31, 1996
Property acquisition cost:
Proved ............................. $ 1,554,041 $ -- $ -- $ -- $ 1,554,041
Unproved ........................... 215,536,257 -- -- 250,000 215,786,257
Exploration cost ........................... 5,564,861 -- -- 21,405 5,586,266
------------ -------- -------- -------- ------------
Total cost incurred ................ $222,655,159 $ -- $ -- $271,405 $222,926,564
============ ======== ======== ======== ============
Year ended December 31, 1995
Property acquisition cost:
Proved ............................. $ -- $ -- $ -- $ -- $ --
Unproved ........................... 106,383 75,000 500,800 6,073 688,256
Exploration cost ........................... 263,340 547,006 -- 198,341 1,008,687
------------ -------- -------- -------- ------------
Total cost incurred ................ $ 369,723 $622,006 $500,800 $204,414 $ 1,696,943
============ ======== ======== ======== ============
</TABLE>
As of December 31, 1996, the Company has not made a provision for
depletion. The Company has yet to fully evaluate its prospect related to
the Association Contracts in Colombia and to date produced only
insignificant amounts of oil under its production-testing plan. At such
time that the Company completes its evaluation of the Association
Contracts and if a significant level of production of proved reserves
occurs, the currently excluded oil and gas properties will be included in
the amortization base. The Company anticipates completion of its
evaluation of the Association Contracts mid-year 1998 and will commence
development immediately if the evaluation proves successful.
<PAGE>
EXPLORATION COSTS
The Company has been involved in exploration activities in Colombia,
Australia, Argentina, Turkey and Papua New Guinea. Also, the Company
purchased an option for the right to participate in future exploration
activities in North Africa, but the option was never exercised.
Additionally, the Company acquired oil and gas properties in Colombia
totaling $217,090,298 in 1996 and $25,035,701 in 1997. Capitalized
acquisition costs incurred during 1996 and 1997 include $63,967,775 and
$6,490,737, respectively, of deferred income tax as disclosed in Note 2,
Business Combination. Also, $57,624 of exploration costs incurred in 1996
was reclassified as proved oil and gas interests.
The Company had oil and gas sales of $233,682 and $436,333 for 1996 and
1997 respectively which pertained solely to production testing of two
wells located in Colombia.
On May 16, 1995, the Company entered into an agreement whereby Seven Seas
purchased an option for $500,000 to acquire a 5 percent participating
interest in three exploration blocks in North Africa upon completion of
the first exploration well drilled. The first exploration well was
completed as a dry hole in July of 1995. After careful review, Seven Seas
decided not to exercise its option. The cost of the option, $500,000, plus
additional costs of $800 incurred toward purchasing this option was
originally recorded as unproved oil and gas interests and were
subsequently expensed.
The El Catamarqueno X-1 test well on the Sur Rio Deseado Block in the San
Jorge Basin, Argentina, was determined to be unsuccessful during the first
week of January 1996, prior to release of the 1995 financial statements.
Consequently, the Company determined that further drilling on the block
was not justified and exploration costs of $622,006 incurred in Argentina
during 1995 were expensed in 1995.
Ecopetrol has the right to back into Seven Seas' participating interest in
the Association Contracts upon declaration of commerciality at an initial
50 percent participating interest. Ecopetrol's interest can increase based
upon accumulated production levels. Ecopetrol will at the time of
commerciality bear 50 percent of the future costs in the field and
reimburse the other parties in these two blocks for 50 percent of
previously incurred costs associated with successful wells.
PROVED RESERVES (UNAUDITED)
Proved reserves represent estimated quantities of crude oil which
geological and engineering data demonstrate to be reasonably recoverable
in the future from known reservoirs under existing economic and operating
conditions. Estimates of proved developed oil reserves are subject to
numerous uncertainties inherent in the process of developing the estimates
including the estimation of the reserve quantities and estimated future
rates of production and timing of development expenditures. The accuracy
of any reserve estimate is a function of the quantity and quality of
available data and of engineering and geological interpretation and
judgement. Results of drilling, testing and production subsequent to the
date of the estimate may justify revision of such estimate. Additionally,
the estimated volumes to be commercially recoverable may fluctuate with
<PAGE>
changes in the price of oil. The proved reserves at December 31, 1996 are
based solely on the results of the drilling of the El Segundo No. 1 well
on the Dindal Association Contract.
Estimates of future recoverable oil reserves and projected future net
revenues were provided by Sproule International Limited. The Company's
proved reserves were comprised entirely of crude oil in Colombia.
Proved developed and undeveloped reserves (barrels):
TOTAL
-------
December 31, 1995............... --
Discoveries..................... 818,000
-------
December 31,1996................ 818,000
=======
Proved Developed................ 408,000
=======
The following table presents the standardized measure of discounted future
net cash flows relating to proved oil reserves. Future cash inflows and
costs were computed using prices and costs in effect at the end of the
year without escalation less a $3.00 gravity adjustment. Future income
taxes were computed by applying the appropriate statutory income tax rate
to the pretax future net cash flows reduced by future tax deductions and
net operating loss carryforwards.
STANDARDIZED MEASURE OF DISCOUNTED FUTURE NET CASH FLOWS AT DECEMBER 31,
1996
Future cash inflows......................................... $15,006,000
Future costs
Production............................................ 2,112,000
Development........................................... 1,939,000
-----------
Future net cash flows before income taxes................... 10,955,000
Future income taxes......................................... 5,122,000
Future net cash flows....................................... 5,833,000
10% discount factor......................................... 822,000
-----------
Standardized measure of discounted future net cash flows.... $ 5,011,000
===========
The standardized measure of discounted future net cash flows shown above
relates to the Company's discovery of oil from the El Segundo No. 1 well
on the Dindal Association Contract in 1996. There were no other changes in
the components of the standardized measure of discounted future net cash
flows during 1996.
The standardized measure of discounted future net cash flows does not
purport to present the fair market value of the Company's proved reserves.
An estimate of fair value would also take into account, among other
things, the recovery of reserves in excess of proved reserves, anticipated
future changes in prices and costs and a discount factor more
representative of the time value of money and the risks inherent in
reserve estimates.
