UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-Q
(X) QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended September 30, 2004
or
___ TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934
For the Transition Period From __________ To __________
Commission file number 1-7375
COMMERCE GROUP CORP.
(Exact name of registrant as specified in its charter)
WISCONSIN 39-1942961
(State or other jurisdiction of (I.R.S. Employer Identification Number)
incorporation or organization)
6001 North 91st Street
Milwaukee, Wisconsin 53225-1795
(Address of principal executive offices) (Zip Code)
Registrant's telephone number, including area code: (414) 462-5310
Indicate by check mark whether the registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange
Act of 1934 during the preceding 12 months (or for such shorter period
that the registrant was required to file such reports), and (2) has been
subject to such filing requirements for the past 90 days. Yes X No ___
Indicate by check mark whether the registrant is an accelerated filer (as
defined in Rule 12b-2 of the Exchange Act). Yes ___ No X
Indicate the number of shares outstanding of each of the issuer's classes
of common stock, as of the latest practicable date: 22,810,448 common
shares of the Company's common stock, $0.10 par value, were issued and
outstanding as of September 30, 2004.
1
COMMERCE GROUP CORP.
FORM 10-Q
FOR THE SECOND QUARTER ENDED SEPTEMBER 30, 2004
INDEX
PART I. FINANCIAL INFORMATION
Item 1. Financial Statements
The following consolidated financial statements have been prepared by
Commerce Group Corp. ("the Company") pursuant to the rules and
regulations of the Securities and Exchange Commission ("SEC"). Certain
information and footnote disclosures normally included in financial
statements prepared in accordance with generally accepted accounting
principles have been condensed and omitted pursuant to such SEC rules and
regulations.
These consolidated financial statements should be read in conjunction
with the financial statements and accompanying notes included in the
Company's Form 10-K for the fiscal year ended March 31, 2004.
Consolidated Balance Sheets 3
Consolidated Statements of Operations 4
Consolidated Statements of Changes in Shareholders' Equity 5
Consolidated Statements of Cash Flows 6
Notes to the Unaudited Consolidated Financial Statements 8
Item 2. Management's Discussion and Analysis of
Financial Condition and Results of Operations 25
Item 3. Quantitative and Qualitative Disclosures About Market Risk 34
Item 4. Controls and Procedures 34
PART II. OTHER INFORMATION
Item 1. Legal Proceedings 36
Item 2. Changes in Securities 36
Item 3. Default Upon Senior Securities 36
Item 4. Submission of Matters to a Vote of Security Holders 36
Item 5. Other Information 36
Item 6. Exhibits and Reports on Form 8-K 37
SIGNATURES:
Registrant's Signature Page 37
Certification of Chief Executive Officer (Section 302) 38
Certification of Executive Vice President (Section 302) 39
Certification of Chief Executive Officer (Section 906) 40
Certification of Executive Vice President (Section 906) 41
2
COMMERCE GROUP CORP., ITS SUBSIDIARIES, AND THE JOINT VENTURE
CONSOLIDATED BALANCE SHEETS
Sept. 30, 2004 March 31, 2004
(Unaudited) (Audited)
-------------- --------------
ASSETS
------
Current assets
Cash $ 25,094 $ 30,348
Investments 219,098 219,098
Accounts receivable 608,669 608,669
Inventories 39,562 39,562
Prepaid items and deposits 97,032 95,794
----------- -----------
Total current assets 989,455 993,471
Property, plant and equipment, net 4,339,291 4,288,953
Mining resources investment 31,184,041 30,111,890
------------ ------------
Total assets $36,512,787 $35,394,314
============ ============
LIABILITIES
-----------
Current liabilities
Accounts payable $ 495,964 $ 488,589
Notes and accrued interest payable to
related parties 10,350,498 9,400,682
Notes and accrued interest payable to
others 258,407 247,579
Accrued salaries 2,965,628 2,871,128
Accrued legal fees 327,015 327,015
Other accrued expenses 685,259 646,523
------------ ------------
Total liabilities 15,082,771 13,981,516
Commitments and contingencies (Notes 2, 4, 5, 6, 7, 8, 10 & 12)
SHAREHOLDERS' EQUITY
--------------------
Preferred Stock
Preferred stock, $0.10 par value:
Authorized 250,000 shares;
Issued and outstanding
2004-none; 2003-none $ 0 $ 0
Common stock, $0.10 par value:
Authorized 50,000,000 shares;
Issued and outstanding:
09/30/2004-22,810,448 2,281,045
03/31/2004-22,681,591 2,268,159
Capital in excess of par value 19,286,510 19,274,597
Retained earnings (deficit) (137,539) (129,958)
------------ ------------
Total shareholders' equity 21,430,016 21,412,798
Total liabilities and shareholders' ------------ ------------
equity $36,512,787 $35,394,314
============ ============
The accompanying notes are an integral part of these consolidated
financial statements.
3
COMMERCE GROUP CORP., ITS SUBSIDIARIES, AND THE JOINT VENTURE
CONSOLIDATED STATEMENTS OF OPERATIONS
FOR THE SIX MONTHS ENDED SEPTEMBER 30 (UNAUDITED)
Three Months Ended
Second Quarter Six Months Ended
09/30/04 09/30/03 09/30/04 09/30/03
--------- --------- --------- ---------
Revenues: $ 0 $ 0 $ 0 $ 0
Expenses:
General and adminis-
trative 4,124 3,364 7,581 6,762
---------- ---------- ---------- ----------
Total expenses 4,124 3,364 7,581 6,762
Net profit (loss) (4,124) (3,364) (7,581) (6,762)
Credit (charges) for
income taxes 0 0 0 0
---------- ---------- ---------- ----------
Net income (loss)
after income tax
credit charge $ (4,124) $ (3,364) $ (7,581) $ (6,762)
========== ========== ========== ==========
Basic net income
(loss) per share $ (.0002) $ (.0002) $ (.0003) $ (.0003)
========== ========== ========== ==========
Diluted net income
(loss) per share $ (.0002) $ (.0002) $ (.0003) $ (.0003)
========== ========== ========== ==========
Weighted av. common
shares outstanding 22,560,928 20,628,566 22,560,928 20,628,566
========== ========== ========== ==========
Weighted av. diluted
common shares 22,560,928 21,068,566 22,560,928 21,068,566
========== ========== ========== ==========
The accompanying notes are an integral part of these consolidated financial
statements.
4
COMMERCE GROUP CORP., ITS SUBSIDIARIES, AND THE JOINT VENTURE
CONSOLIDATED STATEMENTS OF CHANGES IN SHAREHOLDERS' EQUITY
THROUGH THE PERIOD ENDED SEPTEMBER 30, 2004 (UNAUDITED)
Common Stock
-----------------------------------
Capital in Retained
Number of Excess of Earnings
Shares Par Value Par Value (Deficit)
---------- ---------- ----------- ----------
Balances March 31, 2002 17,468,008 1,746,801 $18,792,109 $(79,691)
Net income (loss) for
FY March 31, 2003 (35,886)
Dir./off./employee/
services comp. 693,221 69,322 85,848
Payment of debt 1,435,200 143,520 85,805
Cash 811,000 81,100 33,650
---------- ----------- ------------ -----------
Balances March 31, 2003 20,407,429 $2,040,743 $18,997,412 $(115,577)
Net income (loss) for
FY March 31, 2004 (14,381)
Dir./off./employee/
services comp. 630,862 63,086 92,014
Payment of debt 928,300 92,830 138,657
Stock options exercised 230,000 23,000 6,500
Cash 485,000 48,500 63,350
Reduce asset account (23,336)
---------- ----------- ------------ -----------
Balances March 31, 2004 22,681,591 $2,268,159 $19,274,597 $(129,958)
Net income (loss)
for second quarter
ended September 30, 2004 $ (7,581)
Common shares issued:
Cash 106,357 10,636 9,663
Dir./off./employee
services comp. 22,500 2,250 2,250
---------- ----------- ------------ -----------
Balances September 30,
2004 22,810,448 $2,281,045 $19,286,510 $(137,539)
========== =========== ============ ===========
The accompanying notes are an integral part of these consolidated financial
statements.
5
COMMERCE GROUP CORP., ITS SUBSIDIARIES, AND THE JOINT VENTURE
CONSOLIDATED STATEMENTS OF CASH FLOWS
FOR THE SIX MONTHS ENDED SEPTEMBER 30 (UNAUDITED)
2004 2003
----------- ------------
OPERATING ACTIVITIES:
Net income (loss) $ (7,581) $ (6,762)
----------- ------------
ADJUSTMENTS TO RECONCILE
NET INCOME (LOSS) TO
NET CASH USED IN OPERATING
ACTIVITIES:
Changes in assets and liabilities
Increase (decrease) in accounts receivable (285)
Decrease (increase) in investments 9,880
Decrease (increase) in prepaid items and
deposits (1,239) (54,987)
Increase (decrease) in accounts payable
and accrued liabilities 37,312 32,382
Increase (decrease) in director fees 8,800 8,800
Increase (decrease) in accrued salaries 94,500 90,000
Increase (decrease) in accrued legal fees 0 74
---------- --------
Total adjustments 139,373 85,864
---------- --------
Net cash provided by (used in)
operating activity 131,792 79,102
INVESTING ACTIVITIES:
Investment in mining resources (1,122,489) (954,732)
----------- ---------
Net cash used in investing activities (1,122,489) (954,732)
FINANCING ACTIVITIES:
Net borrowings 960,644 788,338
Common stock issued 24,799 96,291
---------- --------
Net cash provided by (used in)
financing activities 985,443 884,629
Net increase (decrease) in cash and
cash equivalents (5,254) 8,999
Cash - beg. of year 30,348 28,004
---------- -----------
Cash - end of fiscal period $ 25,094 $ 37,003
========== ===========
The accompanying notes are an integral part of these consolidated financial
statements.
6
COMMERCE GROUP CORP., ITS SUBSIDIARIES, AND THE JOINT VENTURE
CONSOLIDATED STATEMENTS OF CASH FLOWS, CONTINUED (UNAUDITED)
Supplemental disclosures of cash information for the six months:
Six Months Ended
A. Cash information September 2004 September 2003
-------------- --------------
1. Accrued interest capitalized $808,559 $697,196
2. Interest expense paid in cash None None
3. Income taxes paid None None
B. Non cash inventory and financing
1. Common stock issued for services None None
2. Accruals: salaries, legal and
director fees $128,800 $116,874
3. Equipment lease or purchases None None
C. Other supplemental disclosures
1. Investments consist of securities held by Commerce for the
Commerce Group Corp. Benefit Account, which are stated at cost.
Also included are the precious stones and jewelry inventory stated
at cost.
2. The accounts receivable consist of advances to Mineral San
Sebastian S.A. (Misanse), which is 52% owned by the Company.
These advances will be an offset for the Misanse rental charges
that are included in the accounts payable.
3. Inventory consists of consumable items used in processing gold
ore, which are stated at the average cost.
The accompanying notes are an integral part of these consolidated
financial statements.
7
COMMERCE GROUP CORP., ITS SUBSIDIARIES, AND THE JOINT VENTURE
NOTES TO THE UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS
SEPTEMBER 30, 2004
(1) THE COMPANY AND BASIS OF PRESENTATION OF FINANCIAL STATEMENTS
- ------------------------------------------------------------------
(a) Commerce Group Corp. ("Commerce," the "Company" and/or "Registrant")
and its 82 1/2%-owned subsidiary, San Sebastian Gold Mines, Inc.
("Sanseb") both United States' corporations, have formed the
Commerce/Sanseb Joint Venture ("Joint Venture") for the purpose of
performing gold mining and related activities, including, but not
limited to, exploration, exploitation, development, extraction and
processing of precious metals in the Republic of El Salvador,
Central America. Gold bullion, currently the Joint Venture's
principal product, was produced (but not on a full production basis)
in El Salvador and refined and sold in the United States. Expansion
of exploration is a goal at the San Sebastian Gold Mine ("SSGM")
which is located near the city of Santa Rosa de Lima. Limited
exploration is being performed at other mining projects until
adequate funding is obtained under satisfactory terms and
conditions. All of the Company's mining projects are located in the
Republic of El Salvador, Central America.
On March 3, 2003, the Company received an exploration license dated
February 24, 2003, for the exploration of minerals in an area
encompassing the SSGM, consisting of 42 square kilometers, which is
hereafter referred to as the "New SSGM Exploration
Concession/License" or the "New SSGM." This expanded area provides
the Company with an opportunity to increase its gold and silver ore
reserves. Included in this area are three formerly-operated gold
and silver mines: the La Lola Mine, the Santa Lucia Mine and the
Tabanco Mine.
As of March 31, 2000 the Joint Venture had temporarily suspended the
San Cristobal Mill and Plant ("SCMP") operations (operations ceased
on December 31, 1999) until such time as it has adequate funds to
retrofit, rehabilitate, restore and expand these facilities and
until there is certainty that the price of gold will be stabilized
at the current or a higher selling price.
The Joint Venture plans to begin its open-pit, heap-leaching process
on the SSGM site when adequate funding becomes available, and if the
price of gold maintains the current price level. It also plans to
continue its SSGM site preparation, the expansion of its exploration
and exploitation targets, and the enlargement and development of its
gold ore reserves. Furthermore, it plans to explore the potential
of other gold mine exploration prospects in El Salvador.
Concurrently, it is in the process of obtaining necessary funding
for each of these separate programs while its Joint Venture is
performing minor retrofit and rehabilitation work at the SCMP. It
commenced an exploration program on the New SSGM.
(b) Basis of presentation:
Management estimates and assumptions:
Certain amounts included in or affecting the Company's financial
statements and related disclosures must be estimated, requiring that
certain assumptions be made with respect to values or conditions
which cannot be made with certainty at the time the financial
statements are prepared. Therefore, the reported amounts of the
Company's assets and liabilities, revenues and expenses, and
associated disclosures with respect to contingent assets and
obligations are necessarily affected by these estimates. The
Company evaluates these estimates on an ongoing basis, utilizing
historical experience, consultation with experts, and other methods
considered reasonable in the particular circumstances.
Nevertheless, actual results may differ significantly from the
Company's estimates.
8
COMMERCE GROUP CORP., ITS SUBSIDIARIES, AND THE JOINT VENTURE
NOTES TO THE UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
SEPTEMBER 30, 2004
(2) SIGNIFICANT ACCOUNTING POLICIES
- ------------------------------------
CONSOLIDATED STATEMENTS
The Joint Venture and the following subsidiaries are all majority-owned
by the Company and are included in the consolidated financial statements
of the Company. All significant intercompany balances and transactions
have been eliminated.
%
Owner- Charter/Joint Venture
ship Place Date
----- ----------- ----------
Homespan Realty Co., Inc. ("Homespan") 100.0 Wisconsin 02/12/1959
Mineral San Sebastian, S.A. de C.V. ("Misanse") 52.0 El Salvador 05/08/1960
Ecomm Group Inc. ("Ecomm") 100.0 Wisconsin 06/24/1974
San Luis Estates, Inc. ("SLE") 100.0 Colorado 11/09/1970
San Sebastian Gold Mines, Inc. ("Sanseb") 82.5 Nevada 09/04/1968
Universal Developers, Inc. ("UDI") 100.0 Wisconsin 09/28/1964
Commerce/Sanseb Joint Venture ("Joint Venture") 90.0 Wisconsin & 09/22/1987
El Salvador
INVESTMENTS
The investments consist of recently acquired securities held for the
Commerce Group Corp. Employee Benefit Account, and are stated at cost.
The precious stones included in the investment account are stated at
cost.
ACCOUNTS RECEIVABLE
The accounts receivable primarily consists of the advances to Misanse, a
52%-owned subsidiary, which will be offset for the Misanse rental charges
included in the accounts payable.
INTERCOMPANY BALANCES
All significant intercompany balances and transactions have been
eliminated.
INVENTORY
Inventory consists of consumable supplies and are stated at cost, which
is lower than the market value.
DEFERRED MINING COSTS
The Company, in order to avoid expense and revenue unbalance, capitalizes
all costs directly associated with acquisition, exploration and
development of specific properties, until these properties are put into
operation, sold or are abandoned. Gains or losses resulting from the
sale or abandonment of mining properties will be included in operations.
The Joint Venture capitalizes its costs and expenses and will write off
these cumulative costs on a units of production method at such time as it
begins producing gold derived from the virgin gold ore on a full
production basis. If the prospect of gold production, due to different
conditions and circumstances becomes unlikely, all of these costs may be
written off in the year that this occurs.
9
COMMERCE GROUP CORP., ITS SUBSIDIARIES, AND THE JOINT VENTURE
NOTES TO THE UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
SEPTEMBER 30, 2004
The Company regularly evaluates its carrying value of exploration
properties in light of their potential for economic mineralization and
the likelihood of continued work by either the Company or a joint venture
partner. The Company may, from time to time, reduce its carrying value
to an amount that approximates fair market value based upon an assessment
of such criteria.
REVENUE RECOGNITION
Revenue from the sale of gold is recognized when delivery has occurred,
title and risk of loss passes to the buyer, and collectability is
reasonably assured. Gold sales are made in accordance with sales
contracts where the price is fixed or determinable.
PROPERTY, PLANT AND EQUIPMENT
Property, plant, and equipment is stated at the lower of cost or
estimated net realizable value. Mining properties, development costs and
plant and equipment will be depreciated when full production takes place
using the units of production method based upon proven and probable
reserves. Until the Company suspended its mining operations, the assets
were depreciated using the straight-line method over estimated useful
lives ranging from three to ten years. Depreciation and amortization
expenses include the amortization of assets acquired, if any, under
capital leases. Replacements and major improvements are capitalized.
When in operation, maintenance and repairs will be charged to expense
based on average estimated equipment usage. Interest costs incurred in
the construction or acquisition of property, plant, and equipment are
capitalized and amortized over the useful lives of the related assets.
Since the Company suspended its gold processing operations as of March
31, 2000, it also ceased to depreciate its fixed assets.
MINERAL EXPLORATION AND DEVELOPMENT COSTS
Significant property acquisition payments for active exploration
properties are capitalized. If no minable ore body is discovered,
previously capitalized costs are expensed in the period the property is
abandoned. Expenditures for the development of new mines, to define
further mineralization at and adjacent to existing ore bodies, and to
expand the capacity of operating mines, are capitalized and amortized on
the units of production basis over proven and probable reserves.
RECENTLY ISSUED ACCOUNTING STANDARDS
In August 2001, the FASB issued SFAS No. 143, "Accounting for Asset
Retirement Obligations," which addresses financial accounting and
reporting for obligations associated with the retirement of tangible
long-lived assets and the associated asset retirement costs. This
Statement requires that the fair value of a liability for an asset
retirement obligation be recognized in the period in which it is incurred
if a reasonable estimate of fair value can be made. The associated asset
retirement costs are capitalized as part of the carrying amount of the
long-lived asset. All provisions of this Statement will be effective
when the occurrence arises. At this time, the Company believes that the
adoption of SFAS No. 143 should not have a material impact on the
Company's results of operations or financial position.
10
COMMERCE GROUP CORP., ITS SUBSIDIARIES, AND THE JOINT VENTURE
NOTES TO THE UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
SEPTEMBER 30, 2004
In October 2001, the FASB issued SFAS No. 144, "Accounting for the
Impairment or Disposal of Long-Lived Assets." This Statement supersedes
SFAS No. 121, "Accounting for the Impairment of Long-Lived Assets and for
Long-Lived Assets to be Disposed Of" and amends APB No. 30, "Reporting
the Effects of Disposal of a Segment of a Business, and Extraordinary,
Unusual and Infrequently Occurring Events and Transactions." This
Statement requires that long-lived assets that are to be disposed of by
sale be measured at the lower of book value or fair value less costs to
sell. SFAS No. 144 retains the fundamental provision of SFAS 121 for (a)
recognition and measurement of the impairment of long-lived assets to be
held and used and (b) measurement of long-lived assets to be disposed of
by sale. This statement also retains APB No. 30's requirement that
companies report discontinued operations separately from continuing
operations. All provisions of this statement are effective in the first
quarter of 2003. At this time, the Company believes that the impact of
this standard should have no material impact on the financial statements
taken as a whole.
In December 2002, the Financial Accounting Standards Board issued
Financial Accounting Standards No. 148, Accounting for Stock-Based
Compensation - Transition and Disclosure (SFAS No. 148). SFAS No. 148,
amends SFAS No. 123, Accounting for Stock-Based Compensation (SFAS No.
123), to provide alternative methods of transition for a voluntary change
to the fair value based method of accounting for stock-based employee
compensation. In addition, SFAS No. 148 amends the disclosure
requirement of SFAS No. 123 to require prominent disclosures in both
annual and interim financial statements about the method of accounting
for stock-based employee compensation and the effect of the method used
on reported results. The amendments to SFAS No. 123 are effective for
financial statements for fiscal years ending after December 15, 2002. As
the Company accounts for stock-based employee compensation using the
intrinsic value method in accordance with APB No. 25, Accounting for
Stock Issued to Employees, the Company has adopted the disclosure
requirements of SFAS No. 148, effective April 1, 2003.
Management's estimates of gold and other metal prices, recoverable proven
and probable reserves, operating, capital, and reclamation costs are
subject to certain risks and uncertainties which may affect the
recoverability of the Company's investment in property, plant, and
equipment. Although management has made its best estimate of these
factors based on current conditions, it is reasonably possible that
changes could occur in the near-term which could adversely affect
management's estimate of the net cash flows expected to be generated from
its mining properties.
Estimates of future cash flows are subject to risks and uncertainties.
It is possible that changes could occur which may affect the
recoverability of property, plant and equipment.
DEFERRED FINANCING COSTS
Costs incurred to obtain debt financing are capitalized and amortized
over the life of the debt facilities using the effective interest method.
INTEREST CAPITALIZATION
Interest costs are capitalized as part of the historical cost of
facilities and equipment, if material.
INCOME TAXES
The Company files a consolidated federal income tax return with its
subsidiaries (See Note 9). The Joint Venture files a U.S. partnership
return.
11
COMMERCE GROUP CORP., ITS SUBSIDIARIES, AND THE JOINT VENTURE
NOTES TO THE UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
SEPTEMBER 30, 2004
COMPREHENSIVE INCOME
Effective April 1, 1999, the Company adopted Statement of Financial
Accounting Standards No. 130 (SFAS 130), Reporting Comprehensive Income.
SFAS 130 is designed to report a measure of all changes in equity of an
enterprise that result from recognized transactions and other economic
events of the period. Besides net income, other comprehensive income
includes foreign currency items, minimum pension liability adjustments,
and unrealized gains and losses on certain investments in debt and equity
securities. The Company believes that it has no material items or other
comprehensive income in any period presented in the accompanying
financial statements.
EARNINGS (LOSS) PER COMMON SHARE
The Company has in the past years reported its "Earnings per Share" which
presently complies with the provisions of Statement of Financial
Accounting Standards No. 128 (SFAS No. 128). As required by this
standard, the Company reports two earnings per share amounts, basic net
income and diluted net income per share. Basic net income per share is
computed by dividing income or loss reportable to common shareholders
(the numerator) by the weighted average number of common shares
outstanding (the denominator). The computation of diluted net income or
loss per share is similar to the computation of basic net income per
share except that the denominator is increased to include the dilutive
effect of the additional common shares that would have been outstanding
if all convertible securities, stock options, rights, share loans, etc.
had been converted to common shares at the last day of the fiscal year.
Reference is made to the computations included in the Consolidated
Statements of Operations.
The number of diluted net income or loss shares is the same as the basic
net income or loss shares.
FOREIGN CURRENCY
The Company conducts the majority of its operations in the Republic of El
Salvador, Central America. Currently, El Salvador is on the U.S. dollar
system and therefore all receipts and expenditures since January 1, 2001
are in U.S. dollars.
MAJOR CUSTOMER
In the past, the Joint Venture produced gold and silver. It sold its gold
at the world market price to a refinery located in the United States.
Given the nature of the precious metals that are sold, and because many
potential purchasers of gold and silver exist, it is not believed that
the loss of any customer would adversely affect either the Company or the
Joint Venture.
12
COMMERCE GROUP CORP., ITS SUBSIDIARIES, AND THE JOINT VENTURE
NOTES TO THE UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
SEPTEMBER 30, 2004
(3) INVESTMENT IN PROPERTY, PLANT, EQUIPMENT AND MINING RESOURCES
- -----------------------------------------------------------------
The following is a summary of the investment in property, plant,
equipment, mining resources and development costs:
September 30, 2004 September 30, 2003
--------------------------- ---------------------------
Accumulated Accumulated
Cost Amortization Net Cost Amortization Net
---- ------------ --- ---- ------------ ---
Mineral
Proper-
ties
and
Deferred
Develop-
ment $31,184,041 $31,184,041 $29,008,711 $29,008,711
Property,
Plant
and
Equip-
ment 6,591,434 2,252,143 4,339,291 6,537,581 2,252,143 4,285,438
----------- ----------- ----------- ----------- ---------- -----------
$37,775,475 $ 2,252,143 $35,523,332 $35,546,292 $2,252,143 $33,294,149
=========== =========== =========== =========== ========== ===========
Vehicles, office, mining and laboratory equipment, buildings, etc. are
stated at cost and are depreciated using the straight-line method over
estimated useful lives of three to ten years. Maintenance and repairs
are charged to expense as incurred. Since the Joint Venture suspended
operations in view of the weak price of gold and the need to expand these
facilities, no depreciation has been recorded during this fiscal year.
IMPAIRMENTS
The Company evaluates the carrying value of its properties and equipment
by applying the provisions of Statement of Financial Accounting Standards
No. 121 (SFAS 121), Accounting for the Impairment of Long-Lived Assets
and for Long-Lived Assets to be Disposed of. Estimated future net cash
flows, on an undiscounted basis, from each property are calculated using
estimated recoverable ounces of gold (considering current proven and
probable reserves and mineral resources expected to be converted into
mineral reserves.) The inclusion of mineral resources is based on
various circumstances, including but not limited to, the existence and
nature of known mineralization, location of the property, results of
drilling; and analysis to demonstrate the ore is commercially
recoverable; and no estimated future gold price realization (considering
historical and current prices, price trends and related factors); and
operating, capital and site restoration costs. Reduction in the carrying
value of property, plant and equipment, with a corresponding charge to
income, are recorded to the extent that the estimated future net cash
flows are less than the carrying value.
(4) COMMERCE/SANSEB JOINT VENTURE ("JOINT VENTURE")
- ---------------------------------------------------
The Company is in a joint venture with and owns 82 1/2% of the total
common stock (2,002,037 shares) of Sanseb, a U.S. State of Nevada
chartered (1968) corporation. The balance of Sanseb's stock is held by
approximately 180 non-related shareholders, including the President of
the Company who owns 2,073 common shares. Sanseb was formed in 1968 to
explore, exploit, research, and develop adequate gold reserves. Sanseb
produced gold from the SSGM from 1972 through February 1978.
13
COMMERCE GROUP CORP., ITS SUBSIDIARIES, AND THE JOINT VENTURE
NOTES TO THE UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
SEPTEMBER 30, 2004
On September 22, 1987, the Company and Sanseb entered into a joint
venture agreement to formalize their relationship with respect to the
mining venture and to account for the Company's substantial investment in
Sanseb. Under the terms of the agreement, the Company is authorized to
supervise and control all of the business affairs of the Joint Venture
and has the authority to do all that is necessary to resume mining
operations at the SSGM on behalf of the Joint Venture. The net pre-tax
profits of the Joint Venture will be distributed as follows: Company
90%; and Sanseb 10%. Since the Company owns 82 1/2% of the authorized
and issued shares of Sanseb, the Company in effect has over a 98%
interest in the Joint Venture activities.
The joint venture agreement further provides that the Company has the
right to be compensated for its general and administrative expenses in
connection with managing the Joint Venture.
Under the joint venture agreement, agreements signed by the Company for
the benefit of the Joint Venture create obligations binding upon the
Joint Venture.
The Joint Venture is registered to do business in the State of Wisconsin
and in the Republic of El Salvador, Central America.
INVESTMENTS IN JOINT VENTURE
As of September 30, 2004, the Company's investments, including charges
for interest expense to the Joint Venture, were $46,453,166 and three of
the Company's subsidiaries' advances were $590,265 for a total of
$47,043,431.
INVESTMENT IN EL SALVADOR MINING PROJECTS
During the fiscal year, the Company has advanced funds, performed
services, and allocated its general and administrative costs to the Joint
Venture.
As of September 30, 2004 and 2003, the Company, Sanseb and three of the
Company's subsidiaries have invested (including carrying costs) the
following in its Joint Venture:
2004 2003
---- ----
The Company's advances (net of gold
sale proceeds) since 09/22/87 $46,453,166 $42,164,248
The Company's initial investment
in the Joint Venture 3,508,180 3,508,180
Sanseb's investment in the Joint Venture 3,508,180 3,508,180
Sanseb's investment in the mining projects
and amount due to the Company 37,479,058 35,244,522
----------- ------------
Total: 90,948,584 84,425,130
Advances by the Company's three
subsidiaries 590,265 590,265
----------- -----------
Combined total investment $91,538,849 $85,015,395
=========== ===========
SSGM ACTIVITY
The Company had no significant activity at the SSGM site from February
1978 through January 1987. The present status is that, the Company,
since January 1987, and thereafter, the Joint Venture, since September
1987, have completed certain of the required mining pre-production
preliminary stages in the minable and proven gold ore reserve area, and
the Company is active in attempting to obtain adequate financing for the
proposed open-pit, heap-leaching operations at the SSGM and for the
retrofitting and
14
COMMERCE GROUP CORP., ITS SUBSIDIARIES, AND THE JOINT VENTURE
NOTES TO THE UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
SEPTEMBER 30, 2004
expansion of its San Cristobal Mill and Plant. The Joint Venture plans
to resume its exploration and expansion program to develop additional
gold ore reserves in the area surrounding the minable gold ore reserves
and at the recently acquired exploration concession area consisting of
21,489 acres. Presently, it is erecting its cone crushing system and
performing minor rehabilitation repairs to its San Cristobal Mill and
Plant. On March 3, 2003, the Company received the New SSGM from the
Ministry of Economy's Director of El Salvador Department of Hydrocarbons
and Mines (DHM) which includes and encompasses the existing SSGM, and is
in the process of exploring three of the formerly operated gold mines.
On May 25, 2004 the Company received from the Ministry of Economy's
office its Nueva Esparta Exploration Concession/License (Nueva Esparta)
which consists of eight formerly operated gold and silver mines.
MINERAL SAN SEBASTIAN S.A. DE C.V. ("MISANSE")
(a) MISANSE CORPORATE STRUCTURE
The SSGM real estate is owned by and leased to the Joint Venture by
Misanse, a Salvadoran-chartered corporation. The Company owns 52% of the
total of Misanse's issued and outstanding shares. The balance is owned
by approximately 100 El Salvador, Central American, and United States'
citizens.
(b) SSGM MINING LEASE
On January 14, 2003, the Company entered into an amended and renewed
30-year lease agreement with Mineral San Sebastian Sociedad Anomina de
Capital Variable (Misanse) pursuant to the approval of the Misanse
shareholders and Misanse directors at a meeting held on January 12, 2003.
The renewed lease is for a period of thirty (30) years commencing on the
date that the Company received its Renewed San Sebastian Gold Mine
Exploitation Concession/License, hereinafter identified as the "Renewed
SSGM," from the DHM. The lease is automatically extendible for one or
more equal periods. The Company will pay to Misanse for the rental of
this real estate the sum of five percent of the net sales of the gold and
silver produced from this real estate, however, the payment will not be
less than $343.00 per month. The Company has the right to assign this
lease without prior notice or permission from Misanse. This lease is
pledged as collateral for loans made to related parties (Note 7).
(c) MINERAL CONCESSIONS/LICENSES
Renewed San Sebastian Gold Mine Exploitation Concession/License (Renewed
SSGM) - approximately 1.2306 square kilometers (304 acres), Department of
La Union, El Salvador, Central America
On September 6, 2002, at a meeting held with the El Salvadoran Minister
of Economy and the DHM, it was agreed to submit an application for the
Renewed SSGM for a 30-year term and to simultaneously cancel the
concession obtained on July 23, 1987. On September 26, 2002, the Company
filed this application. On February 28, 2003 (received March 3, 2003)
the DHM admitted to the receipt of the application and the Company
proceeded to file public notices as required by Article 40 of the El
Salvadoran Mining Law and its Reform (MLIR). On April 16, 2003, the
Company's El Salvadoran legal counsel filed with the DHM notice that it
believed that it complied with the requirements of Article 40, and that
there were no objections; and requested that the DHM make its inspection
as required by MLIR Article 42. The Company then provided a bond which
was required by the DHM to protect third parties against any damage
caused from the mining operations, and it simultaneously paid the annual
surface tax. On August 29, 2003 the Office of the Ministry of Economy
formally presented the Company with a twenty-year Renewed SSGM which was
dated August 18, 2003. On May 20, 2004 (delivered June 4,
15
COMMERCE GROUP CORP., ITS SUBSIDIARIES, AND THE JOINT VENTURE
NOTES TO THE UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
SEPTEMBER 30, 2004
2004) the Government of El Salvador under their Agreement Number 519
extended the exploitation concession for a period of thirty (30) years.
This Renewed SSGM replaces the collateral that the same parties held with
the previous concession.
New SSGM Exploration Concession/License (New SSGM) - approximately
40.7694 square kilometers (10,070 acres)
On October 20, 2002, the Company applied for the New SSGM, which covers
an area of 42 square kilometers and includes approximately 1.2306 square
kilometers of the Renewed SSGM. The New SSGM is in the jurisdiction of
the City of Santa Rosa de Lima in the Department of La Union and in the
Nueva Esparta in the Department of Morazan, Republic of El Salvador,
Central America. On February 24, 2003, the DHM under Resolution Number
27 issued the New SSGM for a period of four years starting from the date
following the notification of this resolution which was received on March
3, 2003. The New SSGM may be extended for two two-year periods, or for a
total of eight years. Besides the San Sebastian Gold Mine, three other
formerly operative gold and silver mines known as the La Lola Mine, the
Santa Lucia Mine, and the Tabanco Mine are included in the New SSGM and
are being explored. The Company has complied as required by filing its
annual activity report and it paid the annual surface tax to the
Government of El Salvador.
Nueva Esparta Exploration Concession/License (Nueva Esparta) - 45 square
kilometers (11,115 acres)
On or about October 20, 2002, the Company filed an application with the
DHM for the Nueva Esparta, which consists of 45 square kilometers north
and adjacent to the New SSGM. On May 28, 2004 the Government of El
Salvador, under their Resolution Number 271, issued the Nueva Esparta
Exploration Concession/License for a period of four years starting from
the date following the notification of this resolution which was received
on June 4, 2004. This concession/license may be extended for two
two-year periods or for a total of eight years. This rectangular area is
in the Departments of La Union (east) and Morazan (west) and in the
jurisdiction of the City of Santa Rosa de Lima, El Salvador, Central
America. Included in the Nueva Esparta are eight other formerly operated
gold and silver mines known as: the Banadero Mine, the Carrizal Mine,
the Copetillo Mine, the Grande Mine, the La Joya Mine the Las Pinas Mine,
the Montemayor Mine, and the Oro Mine.
El Salvador Mineral Production Fees
As of July 2001, a series of revisions to the El Salvador Mining Law
offer to make exploration more economical. The principal change is that
the fee has been reduced to two percent of the gross gold and silver
receipts. The Company believes that it is in compliance with the new
law, and plans to file applications for all of the mining concessions in
which it has an interest.
SCMP LAND AND BUILDING LEASE
On November 12, 1993, the Joint Venture entered into an agreement with
Corporacion Salvadorena de Inversiones ("Corsain"), an El Salvadoran
governmental agency, to lease for a period of ten years, approximately
166 acres of land and buildings on which its gold processing mill, plant
and related equipment (the SCMP) are located, and which is approximately
15 miles west of the SSGM site. The basic annual lease payment was U.S.
$11,500, payable annually in advance, unless otherwise amended, and
subject to an annual increase based on the annual United States'
inflation rate. As agreed, a security deposit of U.S. $11,500 was paid
on the same date and this deposit was subject to increases based on any
United States' inflationary rate adjustments.
16
COMMERCE GROUP CORP., ITS SUBSIDIARIES, AND THE JOINT VENTURE
NOTES TO THE UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
SEPTEMBER 30, 2004
On April 26, 2004, a three-year lease, which includes an automatic
additional three-year extension subject to Corsain's review, was executed
by and between Corsain and the Company. This lease is retroactive to
November 12, 2003 and the monthly lease payments are $1,418.51 plus the
El Salvadoran added value tax. The lease is subject to an annual
increase based on the U.S. annual inflationary rate adjustments. The
SCMP is strategically located to process ore from other mining projects.
MODESTO MINE
REAL ESTATE
The Company owns 63 acres of land which are a key part of the Modesto
Mine that is located near the city of El Paisnal, El Salvador. This real
estate is subject to a mortgage and promissory note and is pledged as
collateral to certain parties described in Note 7.
SAN FELIPE-EL POTOSI MINE ("POTOSI")
REAL ESTATE LEASE AGREEMENT
The Joint Venture entered into a lease agreement with the San Felipe-El
Potosi Cooperative ("Cooperative") of the city of Potosi, El Salvador on
July 6, 1993, to lease the real estate encompassing the San Felipe-El
Potosi Mine consisting of 675 acres based on a royalty payment for a
period of 30 years and with an option to renew the lease for an
additional 25 years, for the purpose of mining and extracting minerals.
MONTEMAYOR MINE
The Joint Venture has leased approximately 175 acres of land that it
considers to be the key mining property. The terms of the various leases
are one year with automatic renewal rights. This property is located 14
miles northwest of the SCMP, six miles northwest of the SSGM, and about
two miles east of the city of San Francisco Gotera in the Department of
Morazan, El Salvador.
(5) SYNOPSIS OF REAL ESTATE OWNERSHIP AND LEASES
- -------------------------------------------------
The Company's 52%-owned subsidiary, Misanse, owns the 1,470 acre SSGM
site located near the city of Santa Rosa de Lima in the Department of La
Union, El Salvador; on January 14, 2002, it entered into an agreement to
lease the premises for a period of thirty years. Other real estate
ownership or leases in El Salvador are as follows: the Company owns
approximately 63 acres at the Modesto Mine; and the Joint Venture leases
the SCMP land and buildings on which its mill, plant and equipment are
located. In addition, the Joint Venture has entered into a lease
agreement to lease approximately 675 acres based on the production of
gold payable in the form of royalties with a mining prospect in the
Department of San Miguel and it previously leased approximately 175 acres
in the Department of Morazan in the Republic of El Salvador. The Company
also leases on a month-to-month basis approximately 4,032 square feet of
office space in Milwaukee, Wisconsin.
17
COMMERCE GROUP CORP., ITS SUBSIDIARIES, AND THE JOINT VENTURE
NOTES TO THE UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
SEPTEMBER 30, 2004
(6) NOTES PAYABLE AND ACCRUED INTEREST
- ---------------------------------------
09/30/04 09/30/03
-------- --------
Related Parties
Mortgage and promissory notes to
related parties, interest ranging from
one percent to four percent over prime
rate, but not less than 16%, payable
monthly, due on demand, using the
Misanse lease, real estate and all
other assets owned by the Company,
its subsidiaries and the Joint Venture
as collateral. (Note 7) $10,350,498 $8,804,890
Other
Short-term notes and accrued interest
(September 30, 2004, $123,407 and
September 30, 2003, $101,750) issued
to creditors and other non related parties,
interest rates of varying amounts, in lieu of
actual cash payments and includes a
mortgage on a certain parcel of land
pledged as collateral located in El
Salvador. 258,407 236,700
----------- ----------
Total: $10,608,905 $9,041,640
=========== ==========
(7) RELATED PARTY TRANSACTIONS
- -------------------------------
The Company, in an attempt to preserve cash, had prevailed on its
President to accrue his salary for the past 24 years and three months,
including vacation pay, for a total of $2,897,765.
In addition, with the consent and approval of the Directors, the
President of the Company, as an individual and not as a Director or
Officer of the Company, entered into the following financial transactions
with the Company, the status of which is reflected as of September 30,
2004:
The amount of cash funds which the Company has borrowed from its
President from time to time, together with accrued interest, amounts to
$7,228,268. To evidence this debt, the Company has issued to its
President a series of open-ended, secured, on-demand promissory notes,
with interest payable monthly at the prime rate plus two percent, but not
less than 16% per annum.
The Company had borrowed an aggregate of $992,060, including accrued
interest, from the Company's President's Rollover Individual Retirement
Account (ELM RIRA). These loans are evidenced by the Company's
open-ended, secured, on-demand promissory note, with interest payable
monthly at the prime rate plus four percent per annum, but not less than
16% per annum.
In order to satisfy the Company's cash requirements from time to time,
the Company's President has sold or pledged as collateral for loans,
shares of the Company's common stock owned by him. In order to
compensate its President for selling or pledging his shares on behalf of
the Company, the Company has made a practice of issuing him the number of
restricted shares of common stock equivalent to the number of shares sold
or pledged, plus an additional number of shares equivalent to the amount
of accrued interest calculated at the prime rate plus three percent per
annum and payable monthly. The Company receives all of the net cash
proceeds from the sale or from the pledge of these shares. The Company
did not borrow any common shares during this fiscal period. The share
loans, if any, are all in accordance with the terms and conditions of
Director-approved, open-ended loan agreements dated June 20, 1988,
October 14, 1988, May 17, 1989, and April 1, 1990.
18
COMMERCE GROUP CORP., ITS SUBSIDIARIES, AND THE JOINT VENTURE
NOTES TO THE UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
SEPTEMBER 30, 2004
On February 16, 1987, the Company granted its President, by unanimous
consent of the Board of Directors, compensation in the form of a bonus in
the amount of two percent of the pre-tax profits realized by the Company
from its gold mining operations in El Salvador, payable annually over a
period of twenty years commencing on the first day of the month following
the month in which gold production commences.
The President, as an individual, and not as a Director or Officer of the
Company, presently owns a total of 467 Misanse common shares. There are
a total of 2,600 Misanse shares issued and outstanding.
Also with the consent and approval of the Directors, a company in which
the President has a 55% ownership, General Lumber & Supply Co., Inc.
(GLSCO), entered into the following agreements, and the status is
reflected as of September 30, 2004:
The Company leased approximately 4,032 square feet on a month-to-month
basis for its corporate headquarters' office; the monthly rental charge
was $2,789. The same related company provides administrative services,
use of its vehicles, and other property, as required by the Company.
In lieu of cash payments for the office space rental and for the
consulting, administrative services, etc., these amounts due are added
each month to this related company's open-ended, secured, on-demand
promissory note issued by the Company.
In addition, this related company does from time to time use its credit
facilities to purchase items needed for itself or for the Joint Venture's
mining needs.
This related company has been issued an open-ended, secured, on-demand
promissory note which amounts to $1,417,446; the annual interest rate is
four percent plus the prime rate, but not less than 16%, and it is
payable monthly.
The Company's Directors have consented and approved the following
transactions of which the status of each are reflected as of September
30, 2004:
The President's wife's Rollover Individual Retirement Account (SM RIRA)
has the Company's open-ended, secured, on-demand promissory note in the
sum of $545,952 which bears interest at an annual rate of prime plus
three percent, but not less than 16% and the interest is payable monthly.
The Directors also have acknowledged that the wife of the President is to
be compensated for her consulting fees due to her from October, 1, 1994
through September 30, 2000 or 72 months at $2,800 a month, and thereafter
at $3,000 per month. The Company owes her as an individual and as a
consultant, the sum of $345,600 for services rendered from October 1994.
The Law Firm which represents the Company in which a son of the President
is a principal is owed the sum of $327,015 for 1,767.65 hours of legal
services rendered from July 1980 through September 30, 2004. By
agreement on the date of payment, these fees are to be adjusted to
commensurate with the hourly fees charged by the Law Firm.
The son of the President and his son's wife have the Company's
open-ended, on-demand promissory note in the sum of $166,772 which bears
interest at an annual rate of 16% payable monthly.
19
COMMERCE GROUP CORP., ITS SUBSIDIARIES, AND THE JOINT VENTURE
NOTES TO THE UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
SEPTEMBER 30, 2004
The Directors, by their agreement, have deferred cash payment of their
Director fees beginning on January 1, 1981, until such time as the
Company's operations are profitable. Effective from October 1, 1996,
the Director fees are $1,200 for each quarterly meeting and $400 for
attendance at any other Directors' meeting. The Executive Committee
Director fees are $400 for each meeting. The Directors and Officers have
an option to receive cash at such time as the Company has profits and an
adequate cash flow, or to exchange the amount due to them for the
Company's common shares. As of September 30, 2004, the Company owes
$8,800 for Director fees (President excluded) and $67,863 for the accrued
Officers'/employee compensation.
The Company advances funds, allocates and charges its expenses to the
Joint Venture. The Joint Venture in turn capitalizes all of these
advances, costs and expenses. When full production commences, these
capitalized costs will be charged as an expense based on a per unit
production basis. The Company also charges interest for its advances to
the Joint Venture which interest rate is established to be the prime rate
quoted on the first day of each month plus four percent and said interest
is payable monthly. This interest is eliminated from the consolidated
statement of operations. However, a separate accounting is maintained
for the purpose of recording the amount that is due to the Company from
the Joint Venture.
COMPANY NET ADVANCES TO THE JOINT VENTURE
- -----------------------------------------
2004 2003
---- ----
Total Interest Total Interest
Advances Charges Advances Charges
----------- ----------- ----------- -----------
Beginning balances
4/1/04 $44,295,125 $27,200,167 $40,181,015 $23,751,735
Advances through
September 30, 2004 2,158,041 1,850,273 1,983,233 1,695,979
----------- ----------- ----------- -----------
Total Company advances 46,453,166 29,050,440 42,164,248 25,447,714
Advances by three of the
Company's subsidiaries 590,265 0 590,265 0
----------- ----------- ----------- -----------
Total net advances
September 30, 2004 $47,043,431 $29,050,440 $42,754,513 $25,447,714
=========== =========== =========== ===========
(8) COMMITMENTS
- ----------------
Reference is made to Notes 2, 4, 5, 6, 7, 10 and 12.
(9) INCOME TAXES
- -----------------
At March 31, 2004, the Company and its subsidiaries, excluding the Joint
Venture, have estimated net operating losses remaining in a sum of
approximately $6,397,280 which may be carried forward to offset future
taxable income; the net operating losses expire at various times to the
year of 2018.
(10) DESCRIPTION OF SECURITIES
- -------------------------------
a. COMMON STOCK
The Company's Wisconsin Certificate of Incorporation effective as of
April 1, 1999 authorizes the issuance of 50,000,000 shares of common
stock, $0.10 par value per share of which 22,810,448 shares were issued
and outstanding as of September 30, 2004. Holders of shares of common
stock are entitled to one vote for each share on all matters to be voted
on by the shareholders. Holders of common stock have no cumulative
voting rights. Holders of shares of common stock are entitled to share
ratably in
20
COMMERCE GROUP CORP., ITS SUBSIDIARIES, AND THE JOINT VENTURE
NOTES TO THE UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
SEPTEMBER 30, 2004
dividends, if any, as may be declared, from time to time by the Board of
Directors in its discretion, from funds legally available therefore. In
the event of a liquidation, dissolution or winding up of the Company, the
holders of shares of common stock are entitled to share pro rata all
assets remaining after payment in full of all liabilities. Holders of
common stock have no preemptive rights to purchase the Company's common
stock. There are no conversion rights or redemption or sinking fund
provisions with respect to the common stock. All of the issued and
outstanding shares of common stock are validly issued, fully paid and
non-assessable.
b. PREFERRED STOCK
There were no preferred shares issued and outstanding for the periods
ending September 30, 2004 or 2003.
The Company's Wisconsin Certificate of Incorporation authorizes the
issuance of 250,000 shares of preferred stock, $0.10 par value.
The preferred shares are issuable in one or more series. If issued, the
Board of Directors is authorized to fix or alter the dividend rate,
conversion rights (if any), voting rights, rights and terms of redemption
(including any sinking fund provisions), redemption price or prices,
liquidation preferences and number of shares constituting any wholly
unissued series of preferred shares.
c. STOCK OPTION ACTIVITY:
09/30/04 03/31/04
------------------ ----------------
Weighted Weighted
Option Average Option Average
Shares Price Shares Price
------ ----- ------ -----
Outstanding, beg. yr. 210,000 $0.23 960,000 $0.21
Granted
Exercised (500,000) N/A
Forfeited (60,000) N/A
Expired (210,000) (190,000) N/A
--------- ----- ---------- -----
Outstanding, 09/30/04 0 $0.00 210,000 $0.23
========= ===== ========== =====
There were no options issued.
d. STOCK RIGHTS - TO THE PRESIDENT
Reference is made to Note 7, Related Party Transactions, of the Company's
financial statements which disclose the terms and conditions of the share
loans to the Company by the President and the interest which is payable
to him by the Company's issuance of its restricted common shares.
Any share interest payable to the President is for shares loaned to the
Company and/or for such shares loaned or pledged for collateral purposes,
or for unpaid interest, from time to time, all in accordance with the
terms and conditions of Director-approved, open-ended loan agreements
dated June 20, 1988, October 14, 1988, May 17, 1989 and April 1, 1990.
21
COMMERCE GROUP CORP., ITS SUBSIDIARIES, AND THE JOINT VENTURE
NOTES TO THE UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
SEPTEMBER 30, 2004
e. SHARE LOANS - OTHERS
In the past, a series of borrowings of the Company's common shares were
made from time to time under the provision that the owners would sell
said shares as the Company's designee, with the proceeds payable to the
Company. In exchange, the Company agreed to pay these shares loaned
within 30 days or less by issuing its restricted common shares, together
with interest payable in restricted common shares payable at a negotiated
rate of interest normally payable in advance for a period of one year.
As of September 30, 2004, there were no shares due to other parties for
shares borrowed or due for interest payment.
f. S.E.C. FORM S-8 REGISTRATION
On June 10, 2002, the Company filed its fifth Securities and Exchange
Commission Form S-8 Registration Statement No. 333-90122 under the
Securities Act of 1933, and it registered 1,500,000 of the Company's
$0.10 par value common shares for the purpose of distributing shares
pursuant to the plan contained in such registration. From the 1,500,000
shares registered 704,959 shares were issued, and 795,041 shares remain
to be issued as of September 30, 2004.
g. COMMERCE GROUP CORP. EMPLOYEE BENEFIT ACCOUNT (CGCEBA)
This account was established for the purpose of compensating the
Company's employees for benefits such as retirement, severance pay, and
all other related compensation that is mandatory under El Salvadoran
labor regulations, and/or as determined by the Officers of the
Corporation. The Directors provided the Officers of the Company with the
authority to issue its common shares to the CGCEBA on an as needed basis.
Under this plan, payment can be made to any employee of the Company or
the Company's subsidiaries. The CGCEBA has sold some of the shares
issued to this account from time to time to meet its obligations to its
El Salvadoran employees. As of September 30, 2004, 385,000 shares
remained in the account.
(11) CERTAIN CONCENTRATIONS AND CONCENTRATIONS OF CREDIT RISK
The Company is subject to concentrations of credit risk in connection
with maintaining its cash primarily in two financial institutions for the
amounts in excess of levels. One is insured by the Federal Deposit
Insurance Corporation. The other is an El Salvadoran banking institution
which the Company uses to pay its El Salvadoran expenses and obligations.
The Company considers the U.S. institution to be financially strong and
does not consider the underlying risk at this time with its El Salvadoran
bank to be significant. To date, these concentrations of credit risk
have not had a significant effect on the Company's financial position or
results of operations.
The Company, when it produced gold and silver, sold its gold and silver
production predominantly to one customer. Given the nature of the
commodities being sold, and because many other potential purchasers of
gold and silver exist, it is not believed that the loss of such customer
would adversely affect the Company.
The Company is not subject to credit risk in connection with any hedging
activities as it has not hedged any of its gold production. If the
Company changes its policies, then it will only use highly-rated credit
worthy counterparties, therefore it should not anticipate
non-performance.
22
COMMERCE GROUP CORP., ITS SUBSIDIARIES, AND THE JOINT VENTURE
NOTES TO THE UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
SEPTEMBER 30, 2004
(12) COMMITMENTS AND CONTINGENCIES
- ----------------------------------
ENVIRONMENTAL COMPLIANCE
Based upon current knowledge, the Company believes that it is in
compliance with the U.S. and El Salvadoran environmental laws and
regulations as currently promulgated. However, the exact nature of
environmental control problems, if any, which the Company may encounter
in the future cannot be predicted, primarily because of the increasing
number, complexity and changing character of environmental requirements
that may be enacted or of the standards being promulgated by governmental
authorities.
GUARANTEES
The Company has provided the Government of El Salvador with the following
guarantees on September 27, 2002: three-year guarantees were issued by
the Banco Agricola, S.C. on behalf of the Company to the Ministry of
Environment and Natural Resources; Guarantee No. 1901-0000059-8 was
issued for the San Cristobal Mill and Plant in the sum of $771.49; and
Guarantee no. 1901-0000058-7 was issued for the Renewed SSGM in the sum
of $14,428.68.
On July 10, 2003 a one-year third party liability guarantee in the sum of
$42,857.14 was issued by Compania Anglo Salvadorena de Seguros, S.A. on
behalf of the Company to the Ministry of Economy's Office of the
Department of Hydrocarbons and Mines. This guarantee/bond was renewed
for one year retroactive to July 15, 2004.
LEASE COMMITMENTS
The month-to-month lease of its offices is described in note (7) Related
Party Transactions of the Notes to the Consolidated Financial Statements.
The lease of the SCMP and other mining leases are described in note (4)
Commerce/Sanseb Joint Venture ("Joint Venture") and in note (5) Synopsis
of Real Estate Ownership and Leases of the Notes to the Consolidated
Financial Statements.
(13) BUSINESS SEGMENTS
- ----------------------
The Statement of Financial Accounting Standards No. 131 (SFAS 131),
Disclosures about Segments of an Enterprise and Related Information
became effective for fiscal years beginning after December 15, 1997.
SFAS 131 establishes standards for the way that public business
enterprises determine operating segments and report information about
those segments in annual financial statements. SFAS 131 also requires
those enterprises to report selected information about operating segments
in interim financial reports issued to shareholders. SFAS 131 further
establishes standards for related disclosure about products and services,
geographic areas, and major customers.
The Company presently has two reportable segments: mining and other.
The mining segment was engaged in exploration and in the processing of
gold. The mining operations are temporarily suspended. The other
segments are those activities that are combined for reporting purposes.
23
COMMERCE GROUP CORP., ITS SUBSIDIARIES, AND THE JOINT VENTURE
NOTES TO THE UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
SEPTEMBER 30, 2004
(14) UNAUDITED FINANCIAL STATEMENTS
- -----------------------------------
The consolidated financial statements have been prepared by the Company,
without audit, pursuant to the rules and regulations of the Securities
and Exchange Commission. The financial information included herein is
unaudited; however, the Company believes that the information reflects
all adjustments (consisting solely of normal recurring adjustments) that
are, in the opinion of management, necessary to be a fair presentation of
the financial position, results of operations, and cash flows for the
interim periods. Certain information and footnote disclosures normally
included in the financial statements prepared in accordance with
generally accepted accounting principles have been condensed or omitted
pursuant to such rules and regulations. The Company believes that the
disclosures are adequate to make the information presented not
misleading. It is suggested that these consolidated financial statements
be read in connection with the financial statements and the notes thereto
included in the Company's latest annual report and the filing of the
required Securities and Exchange Commission annual Form 10-K.
24
COMMERCE GROUP CORP., ITS SUBSIDIARIES, AND THE JOINT VENTURE
S.E.C. FORM 10-Q - SEPTEMBER 30, 2004
PART I - FINANCIAL INFORMATION
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS
- ------------------------------------------------------------------------
CAUTIONARY STATEMENT FOR PURPOSES OF THE "SAFE HARBOR" PROVISIONS OF THE
PRIVATE SECURITIES LITIGATION REFORM ACT OF 1995
The matters discussed in this report on Form 10-Q, when not historical
matters, are forward-looking statements that involve a number of risks
and uncertainties that could cause actual results to differ materially
from projected results. Such factors include, among others, the
speculative nature of mineral exploration, gold and silver prices,
production and reserve estimates, litigation, environmental and
government regulations, general economic conditions, conditions in the
financial markets, political and competitive developments in domestic and
foreign areas in which the Company operates, availability of financing,
force majeure events, technological and operational difficulties
encountered in connection with the Company's mining activities, labor
relations, other risk factors as described from time to time in the
Company's filings with the Securities and Exchange Commission and other
matters discussed under this reporting category. Many of these factors
are beyond the Company's ability to control or predict. The Company
disclaims any intent or obligation to update its forward-looking
statements, whether as a result of receiving new information, the
occurrence of future events, or otherwise. Should one or more of those
risks or uncertainties materialize, or should any underlying assumption
prove incorrect, actual results or outcomes may vary materially from
those described herein as anticipated, believed, estimated, expected or
intended.
Management's discussion and analysis ("MD&A") of the financial condition
and results of operations of the Company should be read in conjunction
with the latest audited consolidated financial statements and the notes
thereto. The Company prepares and files its consolidated financial
statements and MD&A in United States ("U.S.") dollars and in accordance
with U.S. generally accepted accounting principles ("GAAP").
The following discussion provides information on the results of
operations, the financial condition, liquidity and capital resources for
the second quarter periods ended September 30, 2004 and 2003. The
financial statements of the Company and the notes thereto contain
detailed information that should be referred to in conjunction with this
discussion.
CRITICAL ACCOUNTING POLICIES AND ESTIMATES
- ------------------------------------------
The ensuing discussion and analysis of financial condition and results of
operations are based on the Company's unaudited consolidated financial
statements, prepared in accordance with the accounting principles
generally accepted in the United States of America and contained within
this report on S.E.C. Form 10-Q. Certain amounts included in or
affecting the Company's financial statements and related disclosures must
be estimated, requiring that certain assumptions be made with respect to
values or conditions which cannot be made with certainty at the time the
financial statements are prepared. Therefore, the reported amounts of
the Company's assets and liabilities, revenues and expenses, and
associated disclosures with respect to contingent assets and obligations
are necessarily affected by these estimates. The more significant areas
requiring the use of management estimates and assumptions relate to
mineral reserves that are the basis for future cash flow estimates and
units-of-production amortization determination; recoverability and timing
of gold production from the heap-leaching process; environmental,
reclamation and closure obligations; asset impairments (including
estimates of future cash flows); useful lives and residual values of
intangible assets; fair value of financial instruments; valuation
allowances for deferred tax assets; and contingencies and litigation.
The Company bases its estimates on
25
historical experience and on various other assumptions that are believed
to be reasonable under the circumstances. Actual results may differ from
these estimates under different assumptions or conditions.
A critical accounting policy is one that is important to the portrayal of
the Company's financial condition and results, and requires the Company
to make difficult subjective and/or complex judgments. Critical
accounting policies cover accounting matters that are inherently
uncertain because the future resolution of such matters is unknown. The
Company believes the following accounting policies are critical policies;
accounting for its gold ore reserves, environmental liabilities, income
taxes and asset retirement obligations.
The Company believes the following significant assumptions and estimates
affect its more critical practices and accounting policies used in the
preparation of its consolidated financial statements.
The preparation of financial statements in conformity with generally
accepted accounting principles requires the Company to make estimates and
assumptions for the reporting period and as of the financial statement
date. These estimates and assumptions affect the reported amounts of
assets and liabilities, the disclosure of contingent liabilities and the
reported amounts of revenues and expenses. Actual results could differ
from those amounts.
Gold ore reserves include proved reserves that represent estimated
quantities of gold in which geological and engineering data demonstrate
with reasonable certainty to be recoverable in future years from known
reserves under existing economic and operating conditions. The gold ore
reserves are based on estimates prepared by geology consultants and are
used to calculate depreciation, depletion and amortization (DD&A) and
determine if any potential impairment exists related to the recorded
value of the Company's gold ore reserves.
The Company reviews, on an as needed basis, its estimates of costs of
compliance with environmental laws and the cleanup of various sites,
including sites in which governmental agencies have designated the
Company as a potentially responsible party. When it is probable that
obligations have been incurred and where a minimum cost or a reasonable
estimate of the actual costs of compliance or remediation can be
determined, the applicable amount is accrued. Actual costs can differ
from estimates due to changes in laws and regulations, discovery and
analysis of site conditions and changes in technology.
The Company makes certain estimates, which may include various tax
planning strategies, in determining taxable income, the timing of
deductions and the utilization of tax attributes, which can differ from
estimates due to changes in laws and regulations, discovery and analysis
of site conditions and changes in technology.
Management is required to make judgments based on historical experience
and future expectations on the future abandonment cost, net of salvage
value, of its mining properties and equipment. The Company reviews its
estimate of the future obligation periodically and will accrue the
estimated obligation based on the SFAS No. 143 "Account for Asset
Retirement Obligations."
From time to time, the Company estimates its ore reserves when it is in
production. There are a number of uncertainties inherent in estimating
quantities of reserves, including many factors beyond the control of the
Company. Ore reserve estimates are based upon engineering evaluations of
assay values derived from samplings of drill holes and other openings.
Additionally, declines in the market price of gold may render certain
reserves containing relatively lower grades of mineralization uneconomic
to mine. Further, availability of permits, changes in operating and
capital costs, and other factors could materially and adversely affect
ore reserves. The Company uses its ore reserve estimates in determining
the unit basis
26
for mine depreciation and closure rates, as well as in evaluating mine
asset impairments. Changes in ore reserve estimates could significantly
affect these items.
The Company will assess its producing properties and undeveloped mineral
claims and leases for impairment when events or changes in circumstances
warrant and at least annually. For producing properties and equipment,
an impairment is recognized when the estimated future cash flows
(undiscounted and without interest) expected to result in the use of the
asset are less than the carrying amount of that asset. Measurement of
the impairment loss is based on discounted cash flows. Undeveloped
mineral claims and leases are measured on a fair value basis. Fair value
with respect to such mineral interest, pursuant to Statement of Financial
Accounting Standards No. 144, Accounting for the Impairment or Disposal
of Long-Lived Assets, effective January 1, 2002, would generally be
assessed with reference to comparable property sales transactions in the
market place.
The financial statements for the six month periods ended September 30,
2004, 2003 and prior years reflect and include Commerce Group Corp.'s
subsidiaries and the Commerce Group Corp./Sanseb Joint Venture (Joint
Venture) on a consolidated basis. Previously, the Company reported the
investment in the Joint Venture as advances to the Joint Venture and the
Company's advances included the interest earned on these advances in
anticipation of the interest being reimbursed. Now these advances are
restated and combined with the Company's Consolidated Financial
Statements. Although the elimination of interest income reduces the
retained earnings, it does not eliminate the interest charged by and
earned by the Company which is due and payable to it and which is
maintained additionally with a separate accounting. At such time when
the profits from the gold mining operation are distributed, the interest
earned on these advances will be paid first to the Company pursuant to an
agreement entered into by the joint venture parties.
THE COMPANY'S CURRENT STATUS
CURRENT EVENTS
Since February 2003, the Company has substantially increased its gold ore
reserve potential by obtaining from the El Salvador Ministry of Economy
through its Department of Hydrocarbons and Mines, three major
concessions/licenses in the Republic of El Salvador, Central America.
All properties below the subsurface are owned by the Government of El
Salvador. Therefore, in order to mine and extract precious metals, a
concession license must be granted by the Government of El Salvador. The
Company was able to obtain the following concessions/licenses:
1. New San Sebastian Gold Mine Exploration Concession/License (New
SSGM) consisting of 40.7694 square kilometers (10,070 acres) issued
under Government of El Salvador (GOES) Resolution Number 27 dated
February 24, 2003 (Received March 3, 2003)
The New SSGM is in the jurisdiction of the City of Santa Rosa de Lima in
the Department of La Union and in the Nueva Esparta in the Department of
Morazan, Republic of El Salvador, Central America, and encompasses the
existing San Sebastian Gold Mine. On February 24, 2003, the DHM issued
the New SSGM for a period of four years starting from the date following
the notification of this resolution which was received on March 3, 2003.
The New SSGM may be extended for two two-year periods, or for a total of
eight years. Besides the San Sebastian Gold Mine, the following three
other formerly operative gold and silver mines included in the New SSGM
are being explored: the La Lola Mine, the Santa Lucia Mine, and the
Tabanco Mine.
27
2. Renewed San Sebastian Gold Mine Exploitation Concession/License
(Renewed SSGM) - approximately 1.2306 square kilometers (304 acres),
Department of La Union, El Salvador, Central America, which is a
part of the New SSGM. This exploitation concession/license was
issued under GOES Agreement 591 on May 20, 2004 and delivered on
June 4, 2004.
This exploitation concession/license was initially issued on August 18,
2003 and delivered to the Company on August 29, 2003 as a 20-year right.
On May 20, 2004 (delivered June 4, 2004) the term of this right was
changed to provide a term of 30 years. This right allows the Company to
continue its exploitation, development and to extract and process gold
and silver.
3. The Nueva Esparta Exploration Concession/License (Nueva Esparta)
which consists of an area of 45 square kilometers (11,115 acres) was
issued under GOES Resolution No. 271 on May 28, 2004 and delivered
on June 4, 2004.
This rectangular area is north and adjacent to the New SSGM and it is in
the Departments of La Union (east) and Morazan (west) and in the
jurisdiction of the City of Santa Rosa de Lima, El Salvador, Central
America. Included in the Nueva Esparta are eight other formerly operated
gold and silver mines known as: the Banadero Mine, the Carrizal Mine,
the Copetillo Mine, the Grande Mine, the La Joya Mine, the Las Pinas
Mine, the Montemayor Mine and the Oro Mine.
These concessions/licenses provide the Company with a right to explore a
total area of 21,489 acres. Of more importance than area is that this
area includes 12 formerly operated mines and is in a mineralized zone.
All indications are positive and the gold and silver ore potential will
become known when exploration takes place. The Company is performing
preliminary exploration in the identified mines.
GOLD ORE RESERVES (SEPTEMBER 30, 2004)
The Company's geologists have defined the following San Sebastian Gold
Mine gold ore reserves:
Tons Average Grade Ounces
---- ------------- ------
Virgin ore 14,404,096 0.081 1,166,732
Stope fill estimated 1,000,000 0.340 340,000
---------- ---------
Totals 15,404,096 1,506,732
The estimated recoverable ounces by processing through the San Cristobal
Mill and Plant range from 85% to 95%; the recovery of gold from the
heap-leaching operations should range from 60% to 70%.
PRECIOUS METAL MINING STRATEGY
The Joint Venture has produced gold from March 31, 1995 through December
31, 1999. Its San Cristobal Mill and Plant (SCMP) consisted primarily of
used equipment that had been installed at its leased site by a previous
mining company. The used processing equipment was acquired by the Joint
Venture on February 23, 1993, and the SCMP operations were officially
suspended as of March 31, 2000. During this period, the price of gold
suffered a severe decline.
Although while in operation the Company has on a continuous basis
retrofitted, modified, and restored the equipment, it presently lacks
sufficient funds to perform a major overhaul and to expand the SCMP
facilities.
28
The Company's management has temporarily suspended its gold processing
until such time as it has adequate funds for the retrofitting,
rehabilitation, restoration, overhauling, and most importantly for the
expansion of the SCMP facilities. During the past two calendar years,
the price of gold has increased to a level to place the SCMP into a
profitable position.
The Company has a number of non-exclusive independent consulting
agreements for the purpose of raising the sum of up to U.S. $20 million.
The funds are to be used to purchase and install equipment, perform site
development, working capital for the SSGM open-pit, heap-leaching
operation, and for the expansion of the Joint Venture's SCMP.
Through December 1999, the Joint Venture produced gold on a curbed basis
primarily from processing the tailings and from the virgin ore it was
excavating from its SSGM open pit. The gold was processed at its SCMP
facility which is located approximately 15 miles from the SSGM site. It
is contemplating the installation of a pilot open-pit, heap-leaching
gold-processing system on the SSGM site. The cone crushing system is
being erected at this site. It also is continuing its SSGM site
preparation, the expansion of its exploration and exploitation targets,
and the enlargement and development of its gold ore reserves. The
Modesto Mine has been placed on a standby basis pending the advice from
its legal counsel relative to the filing of an application for
concessions (licenses) on the properties it owns in this area. All of
the Company's mining properties are located in the Republic of El
Salvador, Central America.
The Joint Venture will continue its attempts to commence its production
of gold. Its objectives are to have an expanded complementary operation
while continuing its endeavor to obtain sufficient funds for the SSGM
open-pit, heap-leach operation. The Company's main objective and plan,
through the Joint Venture, is to operate at the SSGM site, a moderate
tonnage, low-grade, open-pit, heap-leaching, gold-producing mine. It
intends to commence this gold-mining operation as soon as adequate
funding at a reasonable cost is in place and providing the gold price
stabilizes at the current level. Dependent on the grade of gold ore
processed and the funds it is able to obtain, it then anticipates
producing annually approximately 10,000 ounces of gold from the SCMP
operation and eventually up to 113,000 ounces of gold from its SSGM
open-pit, heap-leaching operation. The Joint Venture continues on a
limited basis to conduct an exploration program to develop additional
gold ore reserves at the SSGM. Since it has the New SSGM, it is
exploring the La Lola Mine, the Tabanco Mine and the Santa Lucia Mine.
The Joint Venture produced gold from March 1995 through December 1999 at
the SCMP through a start-up or preliminary operation, which was a
forerunner of its greater goals. The Company's revenues, profitability
and cash flow are greatly influenced by the price of gold. Gold prices
fluctuate widely and are affected by numerous factors which will be
beyond the Company's control, such as, expectations for inflation, the
strength of the U.S. dollar, overproduction of gold, global and regional
demand, acts of terrorism, or political and economic conditions, or for
that matter, many other reasons. The combined effect of these and other
factors is difficult; perhaps impossible to predict. Should the market
price of gold fall below the Company's production costs and remain at
such level for any sustained period, the Company could experience losses.
The Company believes that neither it, nor any other competitor, has a
material effect on the precious metal markets and that the price it will
receive for its production is dependent upon world market conditions over
which it has no control.
29
RESULTS OF OPERATION FOR THE FISCAL YEAR ENDED SEPTEMBER 30, 2004
COMPARED TO SEPTEMBER 30, 2003
- -----------------------------------------------------------------
There are no revenues as the Company has suspended its gold production
until it is able to procure the funds it requires to rehabilitate,
retrofit, overhaul, and expand its SCMP and/or when it has funds to
commence an open-pit, heap-leach operation at the SSGM site. The price
of gold has stabilized at a price level that could assure a profitable
operation. During this six-month period, the Company recorded a net loss
of $7,581 or $.0003 cents per share. This compares to a net loss of
$6,762 or $.0003 cents per share for the six-month period ended September
30, 2003.
There was no current or deferred provision for income taxes during the
fiscal period ended September 30, 2004 or 2003. Additionally, even
though the Company has an operating tax loss carryforward, the Company
has previously recorded a net deferred tax asset due to an assessment of
the "more likely than not" realization criteria required by the Statement
of Financial Accounting Standards No. 109, Accounting for Taxes.
Inflation did not have a material impact on operations in the fiscal
periods ended September 30, 2004 or 2003. The Company does not
anticipate that inflation will have a material impact on continuing
operations during this next fiscal year.
Interest expense in the sum of $808,559 was recorded by the Joint Venture
during this six-month period compared to $697,196 for the same period in
2003, and it was eliminated as an offset with the interest income earned
from the Joint Venture.
Almost all of the costs and expenses incurred by the Company are
allocated and charged to the Joint Venture. The Joint Venture capitalizes
these costs and expenses and will continue to do so until such time when
it is in full production. At the time production commences, these
capitalized costs will be charged as an expense based on a per unit
basis. If the prospect of gold production becomes unlikely, all of these
costs will be written off in the year that this occurs.
RESULTS OF OPERATION FOR THE SECOND QUARTER ENDED SEPTEMBER 30, 2003
COMPARED TO SEPTEMBER 30, 2002
- --------------------------------------------------------------------
There are no revenues as the Company has suspended its gold production
until it is able to procure the funds it requires to rehabilitate,
retrofit, overhaul, and expand its SCMP, when it has funds to commence an
open-pit, heap-leach operation at the SSGM site, and when the price of
gold stabilizes at a price level to assure a profitable operation. The
Company recorded a net loss of $6,762 or $.0003 cents per share. This
compares to a net loss of $19,841 or $.0011 cents per share for the
six-month period ended September 30, 2002.
There was no current or deferred provision for income taxes during this
fiscal period ended September 30, 2003 or 2002. Additionally, even
though the Company has an operating tax loss carryforward, the Company
has previously recorded a net deferred tax asset due to an assessment of
the "more likely than not" realization criteria required by the Statement
of Financial Accounting Standards No. 109, Accounting for Taxes.
Inflation did not have a material impact as there were no operations.
30
Interest expense in the sum of $697,191 was recorded by the Joint Venture
during this fiscal period compared to $585,425 for the same period in
2002, and it was eliminated by reducing the interest income earned from
the Joint Venture.
Almost all of the costs and expenses incurred by the Company are
allocated and charged to the Joint Venture. The Joint Venture capitalizes
or expenses these costs and will continue to do so until such time when
it is in full production. At the time production commences, these
capitalized costs will be charged as an expense based on a per unit
basis. If the prospect of gold production becomes unlikely, all of these
costs will be written off in the year that this occurs.
FINANCING ACTIVITIES, LIQUIDITY AND CAPITAL RESOURCES
- -----------------------------------------------------
As of December 31, 1999, the Joint Venture suspended its SCMP operations
until such time as it has adequate funding to repair, retrofit, overhaul
and expand the mill to process its gold ore, and at such time that the
price of gold will stabilize at a higher price. After almost five years
of 24-hour-per-day operation with used equipment, the plant requires a
major overhaul. At that time the low price of gold did not provide an
adequate cash reserve for these needs. Additional equipment has to be
purchased, delivered and installed. It estimates that the cost to
perform the required improvements and to have a reserve for working
capital will be $3 million.
In addition to the SCMP operation, the Company will endeavor to commence
an open-pit, heap-leaching operation at the SSGM as there is a
substantial amount of gold ore that grades less than 0.04 ounces per ton.
The Company's engineers had determined that a 2,000 ton-per-day open-pit,
heap-leach, start-up operation may produce 1,280 ounces of gold per
month. It is necessary to raise adequate funds from outside sources for
this operation; the amount required is dependent on the targeted daily
volume of production.
The Company estimates that it will need up to U.S. $17 million to start
a 2,000 ton-per-day open-pit, heap-leaching operation. Eventually the
production capacity would be increased in stages to 6,000 tons per day so
that annual production could be 113,000 ounces of gold at the SSGM. The
use of the $17,000,000 proceeds is as follows: $8,250,000 for mining
equipment and the completion of erecting a crushing system; $3,783,548
for the processing equipment and site and infrastructure costs; and a sum
of $4,966,452 is to be used for working capital. The once depressed
price of gold has substantially increased during the last two years. The
Company's incredibly low common share market price is a major deterrent
in raising funds for the Company's needs.
The Company continues to be cognizant of its cash liquidity until it is
able to produce adequate profits from its SSGM gold production. It will
attempt to obtain sufficient funds to assist the Joint Venture in placing
the SSGM into production as the anticipated profits from the existing
SCMP operation (unless accumulated over a period of time) appear
insufficient to meet the SSGM capital and the other mining exploration
requirements. In order to continue obtaining funds to conduct the Joint
Venture's exploration, exploitation, development, expansion programs, and
the production of gold from the SSGM open-pit, heap-leaching operation,
it is necessary for the Company to obtain funds from other sources. In
order for the Company to reach its goal of gold production, it may have
to borrow funds by issuing open-ended, secured, on-demand or unsecured
promissory notes, by selling its shares to its directors, officers and
other interested accredited investors, or by entering into a joint
venture, merging, or developing an acceptable form of a business
combination with other companies.
31
During the past, the Joint Venture was engaged in exploration,
exploitation and development programs designed to increase its gold ore
reserves. The prospects of expanding the gold reserves with the recent
acquired concession/license are extremely positive. The Company believes
that the past invested funds significantly contributed to the value of
the SSGM and to the value of its other mining prospects as the results
of the exploratory efforts evidence the potential for a substantial
increase of gold ore reserves. The Company was unable to obtain
sufficient funds during this fiscal period to complete the modification
and expansion of the SCMP or for its open-pit, heap-leach operation.
However, the Company did invest funds during this fiscal period which
were used for a limited exploration program, to progress the erection of
the cone crushing system, and to maintain the SCMP.
The Company continues to rely on its directors, officers, related parties
and others for its funding needs. The Company believes that it may be
able to obtain such short-term and/or equity funds as are required from
similar sources as it has in the past. It further believes that the
funding needed to proceed with the continued exploration of the other
exploration targets for the purpose of increasing its gold ore reserves
will be greatly enhanced if the price of gold continues to increase.
These exploration programs may involve the use of airborne geophysics,
stream chemistry, geological mapping, trenching, drilling, etc. The
Joint Venture believes that it may be able to joint venture or enter into
other business arrangements to share these exploration costs with other
entities.
From September 1987 through September 30, 2004, the Company has advanced
the sum of $46,453,166 to the Joint Venture (which includes interest
charges payable to the Company), and three of the Company's subsidiaries
have advanced the sum of $590,265, for a total of $47,043,431. This
investment includes the charge of $29,050,440 for interest expense during
this period of time. The funds invested in the Joint Venture were used
primarily for the exploration, exploitation, and development of the SSGM,
for the construction of the Joint Venture laboratory facilities on real
estate owned by the Company near the SSGM site, for the operation of the
laboratory, for the purchase of a 200-ton per day used SCMP precious
metals' cyanide leaching mill and plant, for the initial retrofitting,
repair, modernization and expansion of its SCMP facilities, for
consumable inventory, for working capital, for exploration and holding
costs of the San Felipe-El Potosi Mine, the Modesto Mine, the Hormiguero
Mine, and the Montemayor Mine, for SSGM infrastructure, including
rewiring, repairing and installation of about two miles of the Company's
electric power lines to provide electrical service, for the purchase of
equipment, laboratory chemicals, and supplies, for parts and supply
inventory, for the maintenance of the Company-owned dam and reservoir,
for extensive road extension and preservation, for its participation in
the construction of a community bridge, for community telephone building
and facilities, for a community place of worship, for the purchase of the
real estate on the Modesto Mine, for leasing the Montemayor real estate,
for the purchase and erection of a cone crushing system, for diamond
drilling at the SSGM, for the purchase of a rod mill and a carbon
regeneration system, for holding and standby maintenance costs, for the
acquisition of the three concession/licenses, and all other related
needs.
EMPLOYEES
- ---------
As of September 30, 2004, the Joint Venture employed between 35 and 45
full-time persons in El Salvador to perform its limited exploration,
exploitation, and development programs; to erect the cone crushing
system, to provide 24-hour seven-day-a-week security at three different
sites; to provide engineering, geology, drafting, and computer-related
services; and to handle the administration of its activities. None of
these employees are covered by any collective bargaining agreements. It
has developed a harmonious relationship with its employees, and it
believes that in the past, it was one of the largest single
non-agricultural employers in the El Salvador Eastern Zone. Also, the
Company employs up to four persons, including part-time help, in the
United States. Since the Joint Venture has laid off most of its
employees, the Joint Venture had to pay the severance pay and other
benefits to its employees
32
and therefore it had to sell and continues to sell the Company's common
shares which were issued to the Commerce Group Corp. Employee Benefit
Account. El Salvador employees are entitled to receive severance pay,
which is based on one month's pay for each year of employment.
RELATED PARTY LOANS, OBLIGATIONS AND TRANSACTIONS
- -------------------------------------------------
The related party transactions are included in detail in Note 7 to the
Consolidated Financial Statements.
COMPANY ADVANCES TO THE JOINT VENTURE
- -------------------------------------
Since September 1987 through September 30, 2004, the Company, and three
of its subsidiaries, have advanced to the Joint Venture $47,043,432.
Included in the total advances is the interest charged to the Joint
Venture by the Company which amounts to $29,050,044 through September 30,
2004. The Company furnishes all of the funds required by the Joint
Venture. This interest expense charge has been eliminated from these
financial statements.
EFFORTS TO OBTAIN CAPITAL
- -------------------------
Since the concessions were granted, and through the present time,
substantial effort is exercised by the Directors and Officers in
attempting to secure funding through various sources, all with the
purpose to refurbish and expand the operations of the SCMP, to construct
an open-pit heap-leach operation at the SSGM site, and to continue the
exploration of its other mining prospects.
The Company, Sanseb, and the Joint Venture consider the past political
situation in the Republic of El Salvador to have been unstable, and
believe that the final peace declaration on December 16, 1992, has put an
end to the conflict. Even though many years have passed, the stigma of
the past unfavorable political status in the Republic of El Salvador
exists and therefore certain investors continue to be apprehensive to
invest the funds required. The Heritage Foundation
(http://www.heritage.org/about/advancedsearch.cfw) rates El Salvador as
number 24 in the 2004 Index of Economic Freedom. The United States has a
number 10 rating. However, as explained in this report, the Company was
able to obtain a sum of funds to invest in the expansion and retrofitting
of its SCMP and for the exploration of its other mining prospects. The
decline in the Company's stock market price places the Company in a
situation of substantially diluting its common shares if it wants to
raise equity capital via the sale of its common shares. The Company
believes that it will be able to obtain adequate financing to conduct its
operations from the same sources as in the past. There are no assurances
that funds will be available, except at this time, there is a greater
world-wide interest in the ownership of gold. The price of gold has
increased substantially during this past fiscal year which should
encourage investors to invest in gold mining companies.
ENVIRONMENTAL REGULATIONS
- -------------------------
The Company's operations are subject to environmental laws and
regulations adopted by various governmental authorities in the
jurisdictions in which the Company operates. Accordingly, the Company
has adopted policies, practices and procedures in the areas of pollution
control, product safety, occupational health and the production,
handling, storage, use and disposal of hazardous materials to prevent
material environmental or other damage, and to limit the financial
liability which could result from such events. However, some risk of
environmental or other damage is inherent in the business of the Company,
as it is with other companies engaged in similar businesses.
33
The DHM requires environmental permits to be issued in connection with
the application of the Renewed SSGM. The issuance of these permits are
under the jurisdiction of the El Salvador Ministry of Environment and
Natural Resources Office (MARN). On October 15, 2002, MARN issued an
environmental permit under Resolution 474-2002 for the SCMP. On October
20, 2002, MARN issued an environmental permit under Resolution 493-2002
for the Renewed SSGM Exploitation area.
DIVIDENDS
- ---------
For the foreseeable future, it is anticipated that the Company will use
all of its earnings to finance its growth and expansion, therefore,
dividends will not be paid to shareholders.
IMPACT OF INFLATION
- -------------------
The impact of inflation on the Company has not been significant in recent
years because of the relatively low rates of inflation and deflation
experienced in the United States.
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
- -------------------------------------------------------------------
COMMODITY PRICES
- ----------------
When in production, the Company's earnings and cash flow will be
significantly impacted by changes in the market price of gold. Gold
prices can fluctuate widely and are affected by numerous factors, such as
demand, production levels, economic policies of central banks, producer
hedging, and the strength of the U.S. dollar relative to other
currencies. During the last five years, the average annual market price
of gold has fluctuated between $270 per ounce and $425 per ounce. The
Company has not been engaged in any hedging contracts whatsoever.
FOREIGN CURRENCY
- ----------------
The Company conducts the majority of its operations in the Republic of El
Salvador, Central America. Currently, El Salvador is on the U.S. dollar
system, and therefore all receipts and expenditures since January 1, 2001
are in U.S. dollars.
ITEM 4. CONTROLS AND PROCEDURES
- --------------------------------
Evaluation of Disclosure Controls and Procedures
The Company maintains a system of disclosure controls and procedures.
The term "disclosure controls and procedures," as defined by regulations
of the Securities and Exchange Commission ("SEC"), means controls and
other procedures that are designed to ensure that information required to
be disclosed in the reports that the Company files or submits to the SEC
under the Securities Exchange Act of 1934, as amended (the "Act"), is
recorded, processed, summarized and reported, within the time periods
specified in the SEC's rules and forms. Disclosure controls and
procedures include, without limitation, controls and procedures designed
to ensure that information required to be disclosed by the Company in the
reports that it files or submits to the SEC under the Act is accumulated
and communicated to the Company's management, including its principal
executive officer and its principal financial officer, as appropriate to
allow timely decisions to be made regarding required disclosure. The
Company's Chief Executive Officer and Chief Financial Officer have
evaluated the Company's disclosure controls and procedures as of the end
of the period covered by this quarterly report on Form 10-Q and have
concluded that the Company's disclosure controls and procedures are
effective as of the date of such evaluation.
34
Changes in Internal Control Over Financial Reporting
The Company also maintains a system of internal controls. The term
"internal controls," as defined by the American Institute of Certified
Public Accountants' Codification of Statement on Auditing Standards, AU
Section 319, means controls and other procedures designed to provide
reasonable assurance regarding the achievement of objectives in the
reliability of the Company's financial reporting, the effectiveness and
efficiency of the Company's operations and the Company's compliance with
applicable laws and regulations. There have been no changes in the
Company's internal controls or in other factors during this first fiscal
quarter that could significantly affect the Company's internal control
over financial reporting.
CAUTIONARY STATEMENT FOR PURPOSES OF THE "SAFE HARBOR" PROVISIONS OF THE
PRIVATE SECURITIES LITIGATION REFORM ACT OF 1995
- -------------------------------------------------------------------------
Some of the statements contained in this report are forward-looking
unaudited statements, such as estimates and statements that describe the
Company's future plans, objectives or goals, including words to the
effect that the Company or management expects a stated condition or
result to occur. Since forward-looking statements address future events
and conditions, by their very nature, they involve inherent risks and
uncertainties. Actual results in each case could differ materially from
those currently anticipated in such statements by reason of factors such
as production at the Company's mines, changes in operating costs, changes
in general economic conditions and conditions in the financial markets,
changes in demand and prices for the products the Company produces,
litigation, legislative, environmental and other judicial, regulatory,
political and competitive developments in areas in which the Company
operates and technological and operational difficulties encountered in
connection with mining. Many of these factors are beyond the Company's
ability to control or predict. The Company disclaims any intent or
obligation to update its forward-looking statements, whether as a result
of receiving new information, the occurrence of future events, or
otherwise.
35
COMMERCE GROUP CORP., ITS SUBSIDIARIES, AND THE JOINT VENTURE
S.E.C. FORM 10-Q - SEPTEMBER 30, 2004
PART II - OTHER INFORMATION
Item 1. Legal Proceedings
None pending.
Item 2. Changes in Securities
Reference is made to the financial statements which explain the
status of common shares and stock options issued and
outstanding as of September 30, 2004.
Item 3. Default Upon Senior Securities
None.
Item 4. Submission of Matters to a Vote of Security Holders
On October 15, 2004, the Company held its annual meeting of
shareholders. From the 22,794,091 issued and outstanding
common shares entitled to vote, 20,857,649 (91.505%) of the
common shares voted in person or by proxy. The shareholders
voted affirmatively on the following two proposals at this
meeting:
Proposal I was for the election of one Class III Director of
the Company. Sidney Sodos has been elected as a Class III
Director, whose term expires at the annual shareholders'
meeting to be held in 2007 and/or until such time as his
successor shall be elected and qualified. From the 20,857,649
shares voting at the meeting, the proposal electing Sidney
Sodos as a Class III Director passed with votes of 20,650,862
(90.597%) in favor; 206,787 votes withheld authority.
The following individuals continued in their capacity as
Directors of the Company subsequent to the annual shareholders'
meeting: Edward L. Machulak, Class I Director, whose term
expires at the annual shareholders' meeting to be held in 2005,
John H. Curry and Edward A. Machulak, Class II Directors,
whose terms expire at the annual meeting to be held in 2006.
Proposal II was to ratify the Directors' appointment of Bruce
Michael Redlin, C.P.A., LLC as the Company's independent public
accountant for its fiscal year ended March 31, 2005 and to
authorize the Directors to fix the remuneration to be paid to
the auditing firm. The proposal passed with 20,712,532
(90.868%) votes in favor; 129,436 votes were against the
proposal, and 15,681 votes abstained.
A proposal from the floor was made to ratify, approve and
confirm all of the past acts of the Directors and Officers,
including all related party transactions to the date of the
meeting in furtherance of the business and affairs of the
Company. All of the votes were in favor of the proposal and
none were against it.
Item 5. Other Information
None.
36
Item 6(a). Exhibits and Reports on Form 8-K
(a) Exhibits
Exhibit No. Description of Exhibit
----------- ----------------------
31.1* Certification of President, Treasurer,
Chief Executive, Operating and
Financial Officer pursuant to Section
302 of the Sarbanes-Oxley Act of 2002
31.2* Certification of Executive Vice
President and Secretary pursuant to
Section 302 of the Sarbanes-Oxley Act
of 2002
32.1* Certification of President, Treasurer,
Chief Executive, Operating and
Financial Officer pursuant to 18 U.S.C.
Section 1350 as adopted pursuant to
Section 906 of the Sarbanes-Oxley Act
of 2002
32.2* Certification of the Executive Vice
President and Secretary pursuant to 18
U.S.C. Section 1350 as adopted pursuant
to Section 906 of the Sarbanes-Oxley
Act of 2002
*Filed herewith
(b) Reports on Form 8-K
None filed during this second quarter ended September
30, 2004.
SIGNATURE
Pursuant to the requirements of the Securities and Exchange Act of 1934,
the Registrant/Company has duly caused this report to be signed on its
behalf by the undersigned thereunto duly authorized.
COMMERCE GROUP CORP.
Registrant/Company
/s/ Edward L. Machulak
Date: November 5, 2004 ______________________________________
Edward L. Machulak
President, Chief Executive,
Operating and Financial Officer and
Treasurer
37