STRATUM HOLDINGS, INC.
Consolidated Balance Sheets
(Unaudited)
September 30, December 31,
2010 2009
Assets
Current assets:
Cash and cash equivalents $ 131,082 $ 142,703
Restricted cash - 1,613,637
Accounts receivable 3,004,983 2,948,159
Prepaid expenses and other 192,886 132,325
Total current assets 3,328,951 4,836,824
Property and equipment:
Oil and gas properties, evaluated (full cost method) 14,543,924 14,425,950
Other property and equipment 174,676 144,625
14,718,600 14,570,575
Less: Accumulated depreciation, depletion & amortization (8,713,744 ) (8,017,822 )
Net property and equipment 6,004,856 6,552,753
Other assets:
Goodwill (less impairment allowance of $3,400,000) 1,536,313 1,536,313
Other assets 102,678 76,021
Total other assets 1,638,991 1,612,334
Total assets $ 10,972,798 $ 13,001,911
Liabilities and Stockholders’ Deficit
Current liabilities:
Current portion of long-term debt - stockholders $ 861,564 $ 1,682,317
Current portion of long-term debt - others 4,047,475 5,226,861
Accounts payable 2,804,302 2,436,846
Accrued liabilities 1,279,006 1,518,698
Fair value of oil and gas derivatives 6,330 88,990
Total current liabilities 8,998,677 10,953,712
Long-term debt, net of current portion 172,739 408,179
Deferred income taxes 1,655,600 1,513,847
Asset retirement obligations 326,327 305,370
Total liabilities 11,153,343 13,181,108
Stockholders’ deficit:
Preferred stock, $.01 par value per share, 1,000,000 shares authorized,
None issued - -
Common stock, $.01 par value per share, 5,000,000 shares authorized,
2,655,738 shares issued and outstanding 26,557 26,557
Additional paid in capital 12,894,489 12,808,867
Accumulated deficit (12,868,546 ) (12,783,790 )
Accumulated foreign currency translation adjustment (233,045 ) (230,831 )
Total stockholders’ deficit (180,545 ) (179,197 )
Total liabilities and stockholders’ deficit $ 10,972,798 $ 13,001,911
See accompanying notes to consolidated financial statements.
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STRATUM HOLDINGS, INC.
Consolidated Statements of Operations
(Unaudited)
Three Months Ended September 30,
2010 2009
Revenues:
Energy services $ 4,694,278 $ 2,876,844
Oil and gas sales 689,502 782,297
Other 8,851 13,192
5,392,631 3,672,333
Expenses:
Energy services 4,341,858 2,620,190
Lease operating expense 320,411 368,301
Depreciation, depletion & amortization 216,333 118,402
Workover expense 93,461 105,579
Selling, general and administrative 389,309 405,724
5,361,372 3,618,196
Operating income 31,259 54,137
Other income (expense):
Interest expense (228,282 ) (192,969 )
Gain on oil and gas derivatives 160 4,868
Loss from continuing operations before income taxes (196,863 ) (133,964 )
Benefit (provision) for income taxes 66,900 (68,500 )
Net loss from continuing operations (129,963 ) (202,464 )
Discontinued operations, net of tax - -
Net loss $ (129,963 ) $ (202,464 )
Net loss per share, basic and diluted
Net loss from continuing operations $ (0.05 ) $ (0.08 )
Discontinued operations - -
Net loss $ (0.05 ) $ (0.08 )
Weighted average shares outstanding, basic and diluted 2,655,738 2,655,738
See accompanying notes to consolidated financial statements.
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STRATUM HOLDINGS, INC.
Consolidated Statements of Operations
(Unaudited)
Nine Months Ended September 30,
2010 2009
Revenues:
Energy services $ 14,687,137 $ 10,691,581
Oil and gas sales 2,061,977 1,915,140
Other 50,711 63,757
16,799,825 12,670,478
Expenses:
Energy services 13,469,582 9,758,434
Lease operating expense 1,151,154 1,308,523
Depreciation, depletion & amortization 626,234 341,137
Impairment of acquisition goodwill - 1,900,000
Workover expense 310,630 297,723
Selling, general and administrative 1,283,315 1,385,827
16,840,915 14,991,644
Operating loss (41,090 ) (2,321,166 )
Other income (expense):
Interest expense (608,893 ) (581,230 )
Gain on debt extinguishment 438,967 -
Gain (loss) on oil and gas derivatives 82,660 (92,520 )
Loss from continuing operations before income taxes (128,356 ) (2,994,916 )
Benefit for income taxes 43,600 154,700
Net loss from continuing operations (84,756 ) (2,840,216 )
Discontinued operations, net of tax - (25,419 )
Net loss $ (84,756 ) $ (2,865,635 )
Net loss per share, basic and diluted
Net loss from continuing operations $ (0.03 ) $ (1.07 )
Discontinued operations - (0.01 )
Net loss $ (0.03 ) $ (1.08 )
Weighted average shares outstanding, basic and diluted 2,655,738 2,655,738
See accompanying notes to consolidated financial statements.
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STRATUM HOLDINGS, INC.
Consolidated Statements of Cash Flows
(Unaudited)
Nine Months Ended September 30,
2010 2009
Cash flows provided by (used in) operating activities:
Net loss from continuing operations $ (84,756 ) $ (2,840,216 )
Adjustments to reconcile net loss from continuing
operations to cash provided by (used in) operations:
Depreciation, depletion & amortization 626,234 341,137
Impairment expense - 1,900,000
Benefit for income taxes (43,600 ) (154,700 )
Stock based compensation 11,525 41,149
Gain on debt extinguishment (438,967 ) -
Unrealized gain on oil and gas derivatives (82,660 ) 92,520
Changes in current assets and liabilities 425,119 (274,036 )
Other changes, net 63,988 (103,154 )
Net cash flows from continuing operations 476,883 (997,300 )
Net cash flows from discontinued operations - (25,419 )
Total cash flows from operating activities 476,883 (1,022,719 )
Cash flows provided by (used in) investing activities:
Decrease in restricted cash from sale of subsidiary 1,613,637 1,490,466
Purchase of property and equipment (148,025 ) (173,793 )
Net cash flows from investing activities 1,465,612 1,316,673
Cash flows provided by (used in) financing activities:
Proceeds from long term debt 32,725 640,280
Payments of long term debt (1,525,987 ) (714,337 )
Net payments of stockholder advances (460,854 ) (260,000 )
Net cash flows from financing activities (1,954,116 ) (334,057 )
Net decrease in cash and cash equivalents (11,621 ) (40,103 )
Cash and equivalents at beginning of period 142,703 203,200
Cash and equivalents at end of period $ 131,082 $ 163,097
Supplemental cash flow data:
Cash paid for interest $ 411,815 $ 399,932
Cash paid for income taxes - 273,682
Supplemental financing activity:
Gain on debt extinguishment - related party $ 74,097 $ -
See accompanying notes to consolidated financial statements.
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STRATUM HOLDINGS, INC.
Notes to Consolidated Financial Statements
(Unaudited)
(1) Basis of Presentation
Interim Financial Information – The accompanying consolidated financial statements have been prepared by the Company without audit, in accordance with accounting principles generally accepted in the Unites States of America for interim financial information and pursuant to the rules and regulations of the Securities and Exchange Commission. In the opinion of management, these consolidated financial statements contain all adjustments, consisting only of normal recurring adjustments, necessary to fairly state the financial position of the Company as of September 30, 2010, the results of its operations for the three month and nine month periods ended September 30, 2010 and 2009, and cash flows for the nine month periods ended September 30, 2010 and 2009. Certain prior year amounts have been reclassified to conform with the current year presentation. These financial statements should be read in conjunction with our Annual Report on Form 10-K for the year ended December 31, 2009.
Reverse Stock Split – On December 17, 2009, the Company completed a Board of Directors approved 1-for-10 reverse stock split. Accordingly, all Common Stock share and per share amounts in the consolidated financial statements have been retroactively adjusted to reflect the reverse stock split.
Changes in Accounting Principles – Effective January 1, 2010, the Company adopted revised oil and gas reserve estimation standards. These standards allow the use of reliable technology in determining estimates of proved reserve quantities and require the use of a 12-month average price to estimate proved reserves. Adoption did not have a material impact on depreciation, depletion and amortization expense.
Recently Issued Accounting Pronouncements – In April 2010, the FASB issued ASU 2010-14, “Accounting for Extractive Activities – Oil and Gas.” This update amends ASC 932-10-S99-1 to conform to the SEC’s recently issued final rules regarding amendments to current oil and gas reporting requirements. The Company’s adoption of ASU 2010-14 has had no impact on its financial position, results of operations or cash flows.
(2) Going Concern
The accompanying consolidated financial statements have been prepared on a going concern basis, which contemplates the realization of assets and satisfaction of liabilities in the normal course of business. The Company has reported substantial losses from continuing operations in the last two years and has a net working capital deficit in the amount of $5,669,726 (including bank borrowings described in Note 6). These factors, among others, indicate that the Company may be unable to continue as a going concern for a reasonable period of time. The consolidated financial statements do not contain any adjustments to reflect the possible future effects on the classification of assets or the amounts and classification of liabilities that may result should the Company be unable to continue as a going concern.
(3) Impairment Adjustment
As of March 31, 2009, the Company recognized a non-cash impairment adjustment in the carrying value of the goodwill assigned to its Canadian Energy Services subsidiary, Decca Consulting, Ltd. (“Decca”), in the amount of $1,900,000.
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This impairment adjustment was based on then current projections of Decca’s discounted future net cash flows and, based on the latest such projections, no further impairment has been recorded since that date through September 30, 2010. The Company did not recognize a tax benefit for this impairment adjustment in the nine months ended September 30, 2009 because no temporary difference was recognized when the goodwill was initially established upon the acquisition of Decca in March 2007.
(4) Discontinued Operations
In March 2008, the Company sold the capital stock of its domestic Energy Services subsidiary, Petroleum Engineers, Inc. (“PEI”), to Hamilton Engineering, Inc. for a total sales price of $15.0 million. The Company applied the sales proceeds to the repayment of debt and other accrued obligations including the outstanding indebtedness of PEI under a revolving bank credit agreement in the amount of $3.2 million and unsecured seller debt and other liabilities in the amount of $4.5 million. The Company recognized a pre-tax gain from the sale of PEI in the first quarter of 2008 in the amount of $1,358,000, however, this amount was subsequently reduced in the first quarter of 2009 due to payment of an indemnified loss on accounts receivable in the amount of $39,000. This payment was recorded as a, net of tax, loss on discontinued operations of $25,000 in the nine months ended September 30, 2009.
The Company indemnified Hamilton with respect to certain other pre-sale contingencies of PEI for a two year period. In order to secure such indemnities, Hamilton withheld sales proceeds in a two-year escrow account in the amount of $1.6 million and a one-year tax reserve account in the amount of $1.5 million. The two-year indemnity period expired on March 12, 2010 with no indemnified losses being paid from the escrow account. Accordingly, the Company received the full amount of the escrow account at that time in the amount of $1,614,000, including accrued interest, and applied most of the proceeds to pay unsecured notes payable to certain related and unrelated parties (see Note 6). The escrow account, along with accrued interest thereon, was reflected as restricted cash on the consolidated Balance Sheet as of December 31, 2009.
(5) Commodity Derivatives
In May 2009, the Company entered into a commodity derivative contract with a major energy company covering a portion of a subsidiary’s domestic oil production. This contract consisted of a “put” option covering 2,000 barrels of oil per month for 16 months. In November 2009, the subsidiary sold this contract back to the counterparty and entered into a new commodity derivative contract with the same counterparty. The new contract consists of a “costless collar,” with a floor price of $65 per barrel and a ceiling price of $90 per barrel, covering 2,000 barrels of oil per month for the calendar year 2010.
The Company applies “mark to market” accounting to open derivative contract in accordance with ASC 815-20, “Accounting for Derivative Instruments and Hedging Activities”. The Company accounts for commodity derivative contracts as non-hedging transactions, as defined in ASC 815-20. Accordingly, changes in the fair value of such derivative contracts are reflected in current earnings in the period of the change. In the nine months ended September 30, 2010 and 2009, the Company reported an unrealized derivative gain of $82,660 and an unrealized derivative loss of $92,520, respectively.
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(6) Long Term Debt
As of September 30, 2010 and December 31, 2009, the Company had the following long-term debt obligations:
September 30, December 31,
2010 2009
$25,000,000 line of credit with a bank, maturing on April 1, 2011, interest at 1.0% above prime (but not less than 6.0%) payable monthly, secured by first lien on CYMRI, LLC’s oil and gas properties, with a declining borrowing base of $3,076,000 as of September 30, 2010 $ 3,001,000 $ 3,001,000
Notes payable to individuals and entities, incurred in acquisition of CYMRI, bearing interest at 10%, with principal and accrued interest due at extended maturity in March 2010, unsecured - 1,125,000
$2,500,000 (Cdn) revolving line of credit with a bank, interest at 6.5% above Canadian prime payable monthly through extended maturity in September 2010, secured by accounts receivable of Canadian energy services business (see Note 12) 877,556 1,389,667
Notes payable to 2 individuals, incurred in acquisition of Decca Consulting, Ltd., bearing interest at 9%, payable in monthly installments of $30,099 (Cdn) from April 1, 2007 through March 31, 2012, unsecured 504,303 618,179
Advances from stockholders, bearing interest at 10%, with principal and accrued interest due in March 2010, unsecured ($530,000 extended as of September 30, 2010 - see discussion below) 530,000 1,047,317
Other short term notes for liability insurance and accrued payables, interest rates at 7% to 9% 168,919 136,194
5,081,778 7,317,357
Current portion of long term debt - stockholders (861,564) (1,682,317)
Current portion of long term debt - others (4,047,475) (5,226,861)
$ 172,739 $ 408,179
Borrowings under the bank credit agreement secured by the oil and gas properties owned by CYMRI, LLC (“CYMRI”), a subsidiary in the Exploration & Production segment, are subject to a borrowing base, which is periodically redetermined, based on oil and gas reserves. The bank credit agreement requires maintenance of certain financial covenants regarding working capital, interest coverage level, total debt level, and the level of administrative expenses. The bank credit agreement does not require monthly principal payments so long as outstanding borrowings are less than a declining borrowing base. Pursuant to an amendment executed in September 2010, the borrowing base was acknowledged to be $3,076,000 and a one-time principal payment of $50,000 was required to be made in October 2010, with monthly borrowing base reductions of $75,000 scheduled to begin in December 2010.
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Based on the financial statements as of September 30, 2010, CYMRI did not meet certain financial covenants under the credit agreement. Due to the covenant violations as well as the scheduled maturity on April 1, 2011, we have reported this debt in our current liabilities at September 30, 2010.
Through September 30, 2010, the Company had a second bank credit agreement, which was secured by accounts receivable of its Canadian Energy Services subsidiary, Decca. The credit agreement, as amended in July 2010, provided for a revolving borrowing base of 85% of qualifying accounts receivable up to $2,500,000 (Cdn) at an annual interest rate of 6.5% above Canadian prime (plus additional bank fees) and expired on September 30, 2010. As more fully described in Note 12, Decca paid the entire amount of the borrowings outstanding under this credit agreement on October 1, 2010 and replaced the bank credit agreement with an accounts receivable factoring facility.
On March 12, 2010, the Company’s unsecured notes payable to certain related and unrelated parties became due and payable in the principal amount of $2,172,000. At that time, the Company reached an agreement with noteholders in the principal amount of $1,407,000 to accept a payment of 80% of the principal balance in full satisfaction of their unsecured notes payable. Accordingly, the Company fully extinguished the debt to these noteholders in March 2010 with principal payments totaling $1,125,000 resulting in a total gain of $551,000 on the forgiven principal and accrued interest. Of this amount, $112,000 was attributable to debt of a current shareholder, therefore, the Company credited the after-tax equivalent of $74,000 to Additional paid in capital and recognized a pre-tax gain on the remaining portion attributable to unrelated parties in the amount of $439,000.
Another unsecured noteholder is a company owned by our Chairman and Chief Executive Officer and the Company also reached an agreement with that company in March 2010 to make a net principal payment of $265,000, in exchange for deferring the maturity of the remaining balance of $500,000 to a date to be mutually determined (an additional $30,000 was borrowed on the same terms in May 2010). The Company evaluated the application of ASC 470-50 and ASC 470-60 and concluded that the revised terms constituted a debt modification, rather than a debt extinguishment or a troubled debt restructuring.
(7) Net Income (Loss) Per Share
Basic income (loss) per common share is computed by dividing the net income or loss by the weighted average number of shares of common stock outstanding during the period. Diluted income (loss) per common share is computed by dividing net income or loss by the weighted average number of shares of common stock outstanding during the period and potentially dilutive common share equivalents, consisting of stock options and warrants, under the Treasury Stock Method. The effects of potential common stock equivalents are not included in computations when their effect is anti-dilutive. Because of the net loss for the nine month periods ended September 30, 2010 and 2009, the basic and diluted average outstanding shares are considered the same, since including the shares would have an antidilutive effect on the net loss per share calculation.
(8) Stock-Based Compensation
The Company has a stock-based compensation plan which was approved by the stockholders in October 2005 and amended in October 2006. Under the plan, a maximum of 240,000 shares may be awarded to directors and employees in the form of stock options, restricted stock or stock appreciation rights. The exercise price, terms and other conditions applicable to each stock option grant are generally determined by the Board of Directors. The exercise price of stock options is set on the grant date and may not be less than the fair market value of the Company’s Common Stock on that date. Option activity with directors and employees since January 1, 2009 were as follows (including options granted to directors outside of the plan):
