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U.S. SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-Q
QUARTERLY REPORT UNDER SECTION 13 OR 15(d) OF
THE SECURITIES EXCHANGE ACT OF 1934
FOR THE QUARTERLY PERIOD ENDED SEPTEMBER 30, 2002
COMMISSION FILE NO. 0-20975
TENGASCO, INC. AND SUBSIDIARIES
TENNESSEE 87-0267438
------------------------------ ---------------------------------
STATE OR OTHER JURISDICTION OF (IRS EMPLOYER IDENTIFICATION NO.)
INCORPORATION OR ORGANIZATION
603 MAIN AVENUE, SUITE 500, KNOXVILLE, TN 37902
-----------------------------------------------
(ADDRESS OF PRINCIPAL EXECUTIVE OFFICES)
(865-523-1124)
--------------
(ISSUER'S TELEPHONE NUMBER, INCLUDING AREA CODE)
CHECK WHETHER THE ISSUER (1) FILED ALL REPORTS REQUIRED TO BE FILED BY SECTION
13 OR 15(D) OF THE EXCHANGE ACT DURING THE PAST 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 / /
STATE THE NUMBER OF SHARES OUTSTANDING OF EACH OF THE ISSUER'S CLASSES OF COMMON
EQUITY, AS OF THE LATEST PRACTICABLE DATE: 11,444,779 COMMON SHARES AT OCTOBER
31, 2002.
TRANSITIONAL SMALL BUSINESS DISCLOSURE FORMAT (CHECK ONE): YES / / NO /X/
1
TENGASCO, INC. AND SUBSIDIARIES
TABLE OF CONTENTS
PART I. FINANCIAL INFORMATION PAGE
ITEM 1. FINANCIAL STATEMENTS
* CONDENSED CONSOLIDATED BALANCE SHEETS AS OF
SEPTEMBER 30, 2002 (UNAUDITED) AND DECEMBER 31,
2001................................................ 3-4
* CONSOLIDATED STATEMENTS OF OPERATIONS FOR THE
THREE MONTHS AND NINE MONTHS ENDED SEPTEMBER
30, 2002 AND 2001 (UNAUDITED)....................... 5
* CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY
FOR THE NINE MONTHS ENDED SEPTEMBER 30, 2002
(UNAUDITED)......................................... 6
* CONSOLIDATED STATEMENTS OF CASH FLOWS FOR THE NINE
MONTHS ENDED SEPTEMBER 30, 2002 AND 2001
(UNAUDITED)......................................... 7
* NOTES TO CONDENSED CONSOLIDATED FINANCIAL
STATEMENTS.......................................... 8-12
ITEM 2. MANAGEMENT'S DISCUSSION AND
ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS................ 13-19
ITEM 3. QUANTITATIVE AND QUALITATIVE
DISCLOSURE ABOUT MARKET RISK............... 20-21
ITEM 4. CONTROLS AND PROCEDURES...................... 22
PART II. OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS............................ 23-24
ITEM 2. CHANGES IN SECURITIES AND USE OF
PROCEEDS................................... 24
* SIGNATURES................................... 25
* CERTIFICATIONS............................... 26-31
2
TENGASCO, INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATED BALANCE SHEETS
ASSETS
September 30, 2002 December 31, 2001
(UNAUDITED)
---------------
Current Assets:
Cash and cash equivalents $ 322,539 $ 393,451
Investments 75,000 150,000
Accounts receivable, net 717,290 661,475
Participant receivable 69,622 84,097
Inventory 159,364 159,364
--------------- --------------
Total current assets 1,343,815 1,448,387
Oil and gas properties, net (on the basis of full cost
accounting) 14,047,392 13,269,930
Completed pipeline facilities, net 15,397,420 15,039,762
Property and equipment, net 1,783,630 1,680,104
Restricted cash - 120,872
Loan fees, net 420,579 496,577
Other 53,181 72,613
--------------- --------------
$ 33,046,017 $ 32,128,245
=============== ==============
SEE ACCOMPANYING NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
3
TENGASCO, INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATED BALANCE SHEETS
LIABILITIES AND STOCKHOLDERS' EQUITY
September 30, 2002 December 31, 2001
(Unaudited)
------------------
Current liabilities
Current maturities of long-term debt $ 5,345,417 $ 6,399,831
Accounts payable-trade 1,203,143 1,208,164
Accrued interest payable 44,557 54,138
Accrued dividends payable 134,194 112,458
--------------- ----------------
Total current liabilities 6,727,311 7,774,591
Long term debt, less current maturities 4,464,560 3,902,757
--------------- ----------------
Total long term debt 4,464,560 3,902,757
--------------- ----------------
Total liabilities 11,191,871 11,677,348
--------------- ----------------
Preferred Stock
Cumulative convertible redeemable preferred; redemption
value $7,072,000 and $5,622,900;
70,720 and 56,229 shares outstanding; respectively 6,762,218 5,459,050
--------------- ----------------
Stockholders' Equity
Common stock, $.001 par value, 50,000,000 shares
authorized 11,460 10,561
Additional paid-in capital 42,237,276 39,242,555
Accumulated deficit (26,935,921) (24,115,382)
Accumulated other
comprehensive loss (75,000) -
Treasury stock, at cost (145,887) (145,887)
--------------- ----------------
Total stockholders' equity 15,091,928 14,991,847
--------------- ----------------
$ 33,046,017 $ 32,128,245
=============== ================
SEE ACCOMPANYING NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
4
TENGASCO, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS
For the Three Months Ended For the Nine Months Ended
September 30, September 30,
-------------------------------- -------------------------------
2002 2001 2002 2001
-------------- ------------- ------------- --------------
Revenues and other income
Oil and gas revenues $ 1,450,133 $ 2,306,279 $ 3,859,050 $ 5,550,640
Pipeline transportation revenues 56,088 127,479 197,333 194,504
Interest income 1,087 - 2,782 -
Equipment sales - 150,000 - 150,000
Total revenues and other income 1,507,308 2,583,758 4,059,165 5,895,144
Costs and other deductions
Production costs and taxes 815,293 1,112,471 2,084,597 2,463,401
Depletion, depreciation and amortization 756,486 779,551 1,731,182 1,048,008
Interest expense 146,382 248,328 448,046 577,342
General and administrative costs 417,688 763,569 1,704,086 2,567,876
Professional fees 93,388 58,436 539,198 321,916
-------------- ------------- ------------- --------------
Total costs and other deductions 2,229,187 2,962,355 6,507,109 6,978,543
-------------- ------------- ------------- --------------
Net loss (721,879) (378,597) (2,447,944) (1,083,399)
-------------- ------------- ------------- --------------
Dividends on preferred stock 134,195 112,458 372,595 278,725
-------------- ------------- ------------- --------------
Net loss attributable to common shareholders $ (856,074) $ (491,055) $ (2,820,539) $ (1,362,124)
-------------- ------------- ------------- --------------
Net loss attributable to common shareholders
Per share basic and diluted $ (0.08) $ (0.05) $ (0.26) $ (0.13)
-------------- ------------- ------------- --------------
Weighted average shares outstanding 11,365,431 10,393,140 10,933,588 10,303,126
-------------- ------------- ------------- --------------
SEE ACCOMPANYING NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
5
TENGASCO, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY
(UNAUDITED)
Common Stock
------------ Additional Accumulated Other
Paid in Comprehensive Accumulated Comprehensive
Shares Amount In Capital Loss Deficit Loss
------ ------ ---------- ---- ------- ----
Balance December 31, 2001 10,560,605 $ 10,561 $ 39,242,555 $(24,115,382)
Net Loss 0 0 0 (2,447,944)
Comprehensive Loss
Net Loss $(2,447,944)
Other Comprehensive
Loss
Net Market Valuation
Adjustment on Securities
Available for Sale $(75,000) (75,000)
Comprehensive Loss (2,522,944)
Common Stock Issued in Private
Placements 850,000 850 2,676,150 0
Common Stock Issued in Conversion
of Debt 20,592 20 119,980 0
Common Stock Issued on Purchase of
Equipment 19,582 20 149,980 0
Common Stock Issued for Services 8,500 9 48,611
Dividends on Convertible Redeemable
Preferred Stock 0 0 0 (372,595)
Net loss for the nine months ended
September 30, 2002 11,459,279 $11,460 $42,237,276 $(75,000) $(26,935,921)
=============================================================================================
Treasury Stock
--------------
Shares Amount Total
------ ------ -----
Balance December 31, 2001 14,500 $ (145,887) $14,991,847
Net Loss 0 0 (2,447,944)
Comprehensive Loss
Net Loss
Other Comprehensive
Loss
Net Market Valuation
Adjustment on Securities
Available for Sale (75,000)
Comprehensive Loss
Common Stock Issued in Private
Placements 0 0 2,677,000
Common Stock Issued in Conversion
of Debt 0 0 120,000
Common Stock Issued on Purchase of
Equipment 0 0 150,000
Common Stock Issued for Services 48,620
Dividends on Convertible Redeemable
Preferred Stock 0 0 (372,595)
Net loss for the nine months ended
September 30, 2002 14,500 $(145,887) $ 15,091,928
===============================================================================
SEE ACCOMPANYING NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
6
TENGASCO, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
For the Nine For the Nine
Months Ended Months Ended
September 30, 2002 September 30, 2001
(Unaudited) (Unaudited)
----------- -----------
Operating activities
Net loss $ (2,447,944) $ (1,083,399)
Adjustments to reconcile net loss to net cash
provided by (used in) operating activities:
Depletion, depreciation and amortization 1,731,182 1,048,008
Compensation paid in stock options and common stock 48,620 55,200
Changes in assets and liabilities
Accounts receivable (41,340) (528,015)
Other current assets 0 (50,000)
Accounts payable (5,021) (63,626)
Accrued liabilities 0 7,948
Accrued interest payable (9,581) 157,199
Accrued dividends payable 21,736 -
--------------- ----------------
Net cash used in operating activities (702,348) (456,685)
--------------- ----------------
Investing activities
Additions to property and equipment (154,526) -
Net additions to oil and gas properties (1,796,600) (3,871,362)
Net additions to pipeline facilities (739,162) (3,800,325)
Decrease in restricted cash 120,872 0
Other assets 19,432 49,888
--------------- ----------------
Net cash used in investing activities (2,549,984) (7,621,799)
--------------- ----------------
Financing activities
Repayments of borrowings (2,129,256) (1,120,304)
Proceeds from borrowings 1,703,103 1,000,000
Dividends on convertible redeemable preferred stock (372,595) (245,045)
Proceeds from private placements of common stock 2,677,000 6,003,805
Proceeds from private placements of preferred stock 1,303,168 1,755,000
--------------- ----------------
Net cash provided by financing activities 3,181,420 7,393,456
--------------- ----------------
Net change in cash and cash
equivalents (70,912) (685,028)
Cash and cash equivalents, beginning of period 393,451 1,603,975
--------------- ----------------
Cash and cash equivalents, end of period $ 322,539 $ 918,947
=============== ================
SEE ACCOMPANYING NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
7
TENGASCO, INC. AND SUBSIDIARIES
CONDENSED NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
(1) BASIS OF PRESENTATION
The accompanying unaudited consolidated financial statements have been
prepared in accordance with generally accepted accounting principles for interim
financial information and with the instructions to Form 10-Q and Item 210 of
Regulation S-X. Accordingly, they do not include all of the information and
footnotes required by generally accepted accounting principles for complete
financial statements. In the opinion of management, all adjustments (consisting
of only normal recurring accruals) considered necessary for a fair presentation
have been included. Operating results for the three months or the nine months
ended September 30, 2002 are not necessarily indicative of the results that may
be expected for the year ended December 31, 2002. For further information, refer
to the Company's consolidated financial statements and footnotes thereto for the
year ended December 31, 2001 included in the Company's annual report on Form
10-K.
The accompanying comparative financial statements for the three month and
nine month periods ended September 30, 2001 have been amended to reflect an
increase in depletion expense recorded in error totaling $562,000. The Form 10
Q/A as of September 30, 2001 has been filed concurrently with this Form 10-Q.
(2) GOING CONCERN UNCERTAINTY
The accompanying condensed consolidated financial statements have been
prepared in conformity with accounting principles generally accepted in the
United States of America, which contemplate continuation of the Company as a
going concern which assumes realization of assets and the satisfaction of
liabilities in the normal course of business. The Company continues to be in the
early stages of its oil and gas related operating history as it endeavors to
expand its operations through the continuation of its drilling program in the
Tennessee Swan Creek Field. Accordingly, the Company has incurred continuous
losses and has an accumulated deficit of $26,935,921 and a working capital
deficit of $5,383,496 as of September 30, 2002. On April 5, 2002, the Company
was informed by its primary lender that $6,000,000 of its outstanding credit
facility was due and payable within 30 days, as provided for in the Credit
Agreement between the Company and its lender. The Company's auditors indicated
in their report on the audit of the Company's consolidated financial statements
for the year ended December 31, 2001 that these circumstances raise substantial
doubt about the Company's ability to continue as a going concern.
The Company has disputed its obligation to make this payment under the
terms of the Credit Agreement. On May 2, 2002, the Company filed suit in Federal
Court to restrain Bank One from taking further action under the terms of the
Credit Agreement. The Company is attempting to obtain alternative financing to
replace Bank One. There can be no assurance that the Company will be successful
in its plans to obtain the financing necessary to satisfy their current
obligations. The Company has deferred loan costs relative to the Bank One credit
facility which it is amortizing over the 36 month term of the loan. If this
credit facility is terminated, the unamortized balance of
8
deferred loan fees of $367,036 at September 30, 2002 would be immediately
expensed.
The Company is reducing this loan by $200,000 per month plus interest
which the Company contends is its correct obligation to Bank One pursuant to the
Credit Agreement.
On November 5, 2002 the Company announced that it had reached a
preliminary agreement with Bank One. N.A. that outlines a settlement that would
amicably resolve all issues. The preliminary agreement is subject to the
execution of formal settlement documents and provides that Bank One will enter
into an Amended and Restated Credit Agreement with the Company maturing in
April, 2004 to replace the current credit facility. The principal amount of the
amended credit agreement will be the existing indebtedness as of November 1,
2002 which is $7,701,776.66. The Company has maintained strongly that the Bank's
action was unwarranted. The Company has reserved the right to approve the form
of settlement documents and in considering the form of final documents will
maintain a strong posture based on this position. The parties contemplate that
the settlement is to be documented and closed on or before November 29, 2002.
(3) SALES OF EQUIPMENT
During the third quarter of 2001, the Company sold two fully depreciated
compressors to Miller Petroleum, Inc. ("Miller"), a joint venturer with the
Company, for $150,000. In exchange for this equipment, the Company agreed to
accept 150,000 shares of Miller's stock which had an approximate fair value of
$1 per share.
These investment securities are considered available-for-sale and are
reported at their fair value, with unrealized gains and losses reported as a
separate component of stockholders' equity. At December 31, 2001, the cost and
fair value of available-for-sale securities was $150,000. At September 30, 2002,
the approximate fair value of these available-for-sale securities was $75,000.
The related unrealized loss of $75,000 during the nine months ended September
30, 2002, has been reflected as Other Comprehensive Loss in the accompanying
Statement of Stockholders' Equity.
(4) EARNINGS PER SHARE
In accordance with Statement of Financial Accounting Standards(SFAS) No.
128, "Earnings Per Share", basic and diluted loss per share are based on
11,365,431 and 10,393,140 weighted average shares outstanding for the quarters
ended September 30, 2002 and 2001, respectively. Basic and diluted loss per
share are based on 10,933,588 and 10,303,126 weighted average shares outstanding
for the nine months ended September 30, 2002 and 2001, respectively. During the
three month and nine month periods ended September 30, 2002, potential weighted
average stock equivalents outstanding were approximately 1,102,000 during both
periods. Potential weighted average stock equivalents outstanding for the three
month and nine month periods ended September 30, 2001 were 1,084,000 and
1,230,000, respectively. These shares are not included in the computation of the
diluted loss per share amount because the Company was in a net loss position and
their effect would have been antidilutive.
(5) NEW ACCOUNTING PRONOUNCEMENTS:
In July 2001, the Financial Accounting Standards Board issued SFAS No.
141,
9
"Business Combinations" and SFAS No. 142, "Goodwill and Other Intangible
Assets". SFAS No. 141 addresses the initial recognition and measurement of
goodwill and other intangible assets acquired in a business combination and SFAS
No. 142 addresses the initial recognition and measurement of intangible assets
acquired outside of a business combination whether acquired individually or with
a group of other assets. These standards require all future business
combinations to be accounted for using the purchase method of accounting.
Goodwill will no longer be amortized but instead will be subject to impairment
tests at least annually. The Company would have been required to adopt SFAS No.
141 on July 1, 2001, and SFAS 142 on a prospective basis as of January 1, 2002.
The Company has not effected a business combination and carries no goodwill on
its balance sheet; accordingly, the adoption of these standards did not have an
effect on the Company's financial position or results of operations.
In June 2001, the Financial Accounting Standards Board approved the
issuance of SFAS No. 143, "Accounting for Asset Retirement Obligations." SFAS
143 establishes accounting standards for the recognition and measurement of
legal obligations associated with the retirement of tangible long-lived assets
and requires recognition of a liability for an asset retirement obligation in
the period in which it is incurred. The provisions of this statement are
effective for financial statements issued for fiscal years beginning after June
15, 2002. The adoption of this statement is not expected to have a material
impact on the Company's financial position or results of operations.
SFAS No. 144, Accounting for the Impairment or Disposal of Long-Lived
Assets, addresses accounting and reporting for the impairment or disposal of
long-lived assets. SFAS No. 144 supersedes SFAS No 121, "Accounting for the
Impairment of Long-Lived Assets and for Long-Lived Assets to be Disposed of".
SFAS No. 144 establishes a single accounting model for long-lived assets to be
disposed of by sale and expands on the guidance provided by SFAS No. 121 with
respect to cash flow estimations. SFAS No. 144 becomes effective for the
Company's fiscal year beginning January 1, 2002. The adoption of this statement
is not expected to have a material impact on the Company's financial position or
results of operations.
In April 2002, the FASB issued Statement of Financial Accounting
Standards No. 145, "Recision of No. 4, 44, 64, Amendment of SFAS No. 13, and
Technical Correction." SFAS No. 4 which was amended by SFAS No. 64 required all
gains and losses from the extinguishment of debt to be aggregated and if
material classified in an extraordinary item net of related income tax effect.
As a result, the criteria in Opinion 30 will now be used to classify those gains
and losses. SFAS No. 13 was amended to eliminate an inconsistency between the
required accounting for sale-leaseback transactions and the required accounting
for certain lease modifications that have economic effects that are similar to
sale-leaseback transactions. The adoption of SFAS No. 145 will not have a
current impact on the Company's consolidated financial statements.
In July 2002, The Financial Accounting Standards Board (FASB) issued No.
146, Accounting for Costs Associated with Exit or Disposal Activities. The
standard requires companies to recognize costs associated with exit or disposal
activities when they are incurred rather than at the date of commitment to an
exit or disposal plan. Examples of costs covered by the standard include lease
termination costs and certain employee severance costs that are associated with
restructuring, discontinued operation, plant closing, or other exit or disposal
activity. Previous accounting guidance was provided by EITF Issue No. 94-3,
"Liability Recognition for Certain Employee Termination Benefits and Other Costs
to Exit an Activity (including Certain Costs Incurred in a
10
Restructuring)." Statement 146 replaces Issue 94-3.
Statement 146 is to be applied prospectively to exit or disposal
activities initiated after December 31, 2002. The Company does not currently
have any plans for exit or disposal activities, and therefore does not expect
this standard to have a material effect on the Company's consolidated financial
statements upon adoption.
(6) STOCK OPTIONS
For the nine months ended September 30, 2002 the Company granted options
to purchase 160,742 shares of the Company's common stock at a price of $2.86 per
share for a term of three years from August 5, 2002, to employees and directors.
None of the stock options granted have been exercised.
During the nine months ended September 30, 2002, the Company extended the
exercise period of one employee's stock option who was retiring resulting in
recorded compensation of $55,200.
(7) LETTER OF CREDIT AGREEMENT
On November 8, 2001, the Company signed a credit facility with the Energy
Finance Division of Bank One, N.A. in Houston, Texas whereby Bank One extended
to the Company a revolving line of credit of up to $35 million. The initial
borrowing base under the facility was $10 million. The interest rate is the Bank
One base rate plus one-quarter percent, which at the present time is 5.25%.
On November 9, 2001, funds from this credit line were used to (1)
refinance existing indebtedness on the Company's Kansas properties
($1,427,309.25); (2) to repay the internal financing provided by directors and
shareholders on the Company's recently completed 65-mile Tennessee intrastate
pipeline system ($3,895,490.83); (3) to repay a note payable to Spoonbill, Inc.
($1,080,833.34); (4) to repay a purchase money note due to M.E. Ratliff, the
Company's chief executive officer, for purchase by the Company of a drilling rig
and related equipment in the amount of ($1,003,844.44); and (5) to repay in full
the remaining principal of the working capital loan due December 31, 2001 to
Edward W.T. Gray III, who at that time was a director of the Company, in the
amount $304,444.44. All of these obligations incurred interest at a rate
substantially greater than the rate being charged by Bank One under the credit
facility.
On April 5, 2002, the Company received a notice from Bank One stating
that it had redetermined and reduced the borrowing base under the Credit
Agreement by $6,000,000 to $3,101,766. Bank One demanded that the Company pay
the $6,000,000 within thirty days of the notice. The Company has filed a lawsuit
in Federal Court to prevent Bank One from exercising any rights under the Credit
Agreement. See, Part II, Item 1, Legal Proceedings.
(8) SALES OF PREFERRED STOCK:
During the nine months ended September 30, 2002, the Company sold 14,491
shares of its Series C 6% Cumulative Convertible Preferred Stock, $100 Par Value
("Series C Shares")
11
pursuant to a private placement offering which terminated on July 15, 2002. Net
proceeds of the offering, after issuance costs, totaled $1,328,168.
(9) SUPPLEMENTAL DISCLOSURE OF CASH FLOW INFORMATION:
During the nine months ended September 30, 2002, the Company converted
$120,000 of debt owed to holders of Series A convertible notes into 20,592
shares of common stock. Additionally, during the three months ended June 30,
2002, the Company acquired equipment with a fair market value of $150,000
through an exchange of 19,582 shares of common stock.
Cash paid for interest during the nine months ended September 30, 2002
and 2001 was approximately $403,489 and $523,204 respectively.
The Company issued 8,500 shares of common stock for payment of public
relations work performed in the amount of $48,620.
(10) LOAN PAYABLE TO RELATED PARTY
During the second quarter of 2002, the Company received a short term loan
from an officer of the Company to fund operating cash deficiencies. No interest
was charged on the loan, and the balance of $110,000 was repaid in July 2002.
(11) CONVERTIBLE NOTES
On August 21, 2002, the Company executed a series of unsecured promissory
notes bearing 8% interest, with payments of interest on a quarterly basis, with
principal due and payable January 4, 2004. The principal amount of the notes is
convertible into common stock of the Company at the rate of $3.00 per common
share at the option of the holders of the notes. The total principal amount of
the Convertible Notes is $650,000. The Company paid a finder's fee of eight
percent of the principal amount of the notes to Kenny Securities Corporation and
agreed to issue five year warrants to Kenny Securities Corporation to purchase
that number of shares equal to 5% of the amount raised, $650,000, calculated at
$3.00 per share.
Subsequent to the end of the third quarter, an additional convertible
note in the principal amount of $500,000 was executed by Dolphin Offshore
Partners, LP, which owns more then 10% of the Company's outstanding common stock
and whose general partner is Peter E. Salas, a director of the Company. The
remaining holders of these notes are individuals that are not officers,
directors, or affiliates of the Company. The proceeds of the sale of these notes
have been used to provide working capital for the Company's operations.
(12) RECLASSIFICATIONS
Certain prior period amounts have been reclassified to conform to the
current period's presentation.
12
ITEM 2 MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL
CONDITION AND RESULTS OF OPERATIONS
RESULTS OF OPERATIONS AND FINANCIAL CONDITIONS
KANSAS
During the third quarter of 2002, the Company produced and sold 34,559
barrels of oil and 73,867 Mcf of natural gas from its Kansas Properties
comprised of 149 producing oil wells and 59 producing gas wells. July production
was 11,736 barrels of oil and 23,931 Mcf of gas. August production was 11,134
barrels and 24,722 Mcf. of gas. September production was 11,689 barrels of oil
and 25,214 Mcf of gas. The third quarter production of 34,559 barrels of oil
compares to 36,318 barrels produced in the second quarter of 2002. The third
quarter production of 73,867 Mcf of gas compares to 69,884 Mcf produced in the
second quarter. In summary, the third quarter production reflected expected
continued stable production levels from the Kansas Properties which have been in
production for many years.
TENNESSEE
During the third quarter of 2002, the Company produced gas from 25 wells
in the Swan Creek field which it sold to its two industrial customers in
Kingsport, Tennessee, BAE SYSTEMS Ordnance Systems Inc. as operator of the
Holston Army Ammunition Plant ("BAE") and Eastman Chemical Company ("Eastman").
Natural gas production from the Swan Creek field for the first three
quarters of 2002 was an average of 2.567 million cubic feet per day in the first
quarter; 2.553 million cubic feet per day in the second quarter; and 2.224
million cubic feet per day in the third quarter. The third quarter production
reflected expected natural decline in production from the existing Swan Creek
gas wells which were first brought into production in mid-2001 upon completion
of the Company's pipeline. This natural decline is normal for any producing
well, and this decline as experienced on existing wells in Swan Creek was not
unexpected; however, volumes were not replaced as expected as a result of
additional drilling. In order for overall field production to remain steady or
grow, new wells must be brought online. Any of the new wells drilled by the
Company would also experience the same harmonic (i.e. a relatively steep initial
decline curve followed by longer periods of relatively flat or stable
production) decline as does every natural well in a formation similar to the
Knox formation, so continuous drilling is vital to maintaining or increasing
earlier levels of production. Only two gas wells have been drilled by the
Company to date in 2002 due to the destabilized lending arrangements caused by
the actions of Bank One and ongoing litigation regarding that matter. The
Company anticipates that the natural decline
13
of production from existing wells is now predictable in Swan Creek, that the
total volume of the Company's reserves remains largely intact, and that these
reserves can be extracted through existing wells and also by steady additional
drilling brought on by reliable financial arrangements to fund drilling. Upon
conclusion of the Bank One litigation, the Company expects that additional or
replacement financing may more easily be obtainable to allow drilling to
increase; however, no assurances can be made that such financing will be
obtained. See, Liquidity and Capital Resources discussion below.
Due to natural and expected declines that occur in ongoing production
from any oil and gas well, including the Company's existing wells, some decline
will continue to occur in production from the Company's existing wells in Swan
Creek. The Company expects this natural decline to be less than the decline
experienced to date, and ongoing production from existing wells to level off, in
view of two factors: first, additional work, repairs, and recompletions have
been performed on many of the existing wells; and second, the fact that natural
production decline from any well is greatest during the initial producing
periods, which periods as to the Company's existing wells are now coming to the
point where future production is expected to remain relatively level. Declines
in production in the Swan Creek Field experienced in the last quarter of 2001
and the first quarter of 2002 began to stabilize in March 2002 at approximately
2.5 million cubic feet per day as these factors came into play.
Although the Company was capable of continuing to produce and deliver
slightly decreased quantity of approximately 2.2 million cubic feet per day in
the third quarter on a daily basis, volumes of gas sold to BAE and Eastman in
the third quarter declined in the first part of the quarter primarily due to
factors beyond the Company's control.
During the period from June 28, 2002 through July 29, 2002, Eastman
temporarily ceased its purchases from the Company because the Company was
delivering most of its then available volumes to supply BAE's newly increased
requirements resulting from BAE connecting additional gas burning facilities to
its operations. The Company was unable to sell all volumes of gas exceeding
BAE's increased requirements to Eastman, although the Company was able to
produce these volumes, because Eastman requires a minimum for its meters that
available volumes did not exceed, and a uniform rate of delivery that taking
short term volumes would interrupt. During the time Eastman was not purchasing
gas from the Company, BAE purchased additional volumes until BAE experienced a
partial equipment outage on July 15, 2002 and reduced its purchased volumes. As
a result of these occurrences, which were not within the control of the Company,
the Company's sales volume to BAE and Eastman in July 2002 declined to 42,382
Mcf or an average of 1,367 Mcf per day. Eastman recommenced its purchases of gas
from the Company on July 29, 2002. The Company is presently capable of
delivering gas to both BAE and Eastman from the Swan Creek field of
approximately 2.2 million cubic feet per day and expects daily deliveries to
continue with minor, if any, future interruptions as a result of fluctuation in
one customer's usage requirements.
During the third quarter, the Company drilled and completed two wells in
the Swan Creek field, the Paul Reed No. 8 and the Paul Reed No. 9, to offset in
part the normal and expected natural decline in production from the Company's
existing wells, and
14
to thereby increase overall oil and gas production capability and deliverability
to BAE and Eastman.
On July 1, 2002, the Paul Reed No. 8 well was drilled to a total depth of
4,600 feet and although gas was present, based on information acquired during
drilling, the Company determined that it was economically more beneficial to the
Company in view of current oil prices and the anticipated levels of potential
gas production, to complete this well as an oil well in the Murfreesboro and
Stone River formations at a depth of 2500-3200 feet. The Paul Reed No. 8 well
was successfully completed as an oil well and came in producing 100 barrels per
day. This well is currently producing approximately 65 barrels per day.
The Company drilled the Paul Reed No. 9 well to a total depth of 4,860
feet and completed it as a gas well. The well was connected to the Company's
pipeline in early August 2002 and is currently producing approximately 300,000
cubic feet of gas per day.
The completion stimulation techniques used on the Paul Reed No. 8 well
were also used on two existing oil wells with moderate success. The Paul Reed
No. 5 which had stopped production in March 2002 due to paraffin build-up was
re-stimulated with a similar technique to enhance flow and limit build-up of
paraffin. Additional production was achieved, with 828 barrels produced in July
and 1,036 barrels in August 2002, and production continues to date.
Subsequently, the R.D. Helton No. 3 was completed in late September and
responded by also regaining production which had been halted since March 2002.
Altogether, in September 2002, Swan Creek oil production achieved its highest
monthly total to date of 2,423 barrels, which increased again in October 2002 to
3,012 barrels of oil.
The Company has not been able to drill a substantial number of additional
gas or oil wells at Swan Creek in 2002 because it has not had sufficient funds
to do so. Although the Company had expected to commence and continue its
drilling program in 2002, the Company now anticipates that drilling will be
postponed until additional funds become available and the dispute between the
Company and its primary lender Bank One are resolved. The Company is attempting
to obtain financing to complete its drilling program and believes it will be
able to do so, however, there is no guarantee that the Company will be
successful.
Because the Knox formation has been well defined by the accumulation of
data from previously drilled wells, new locations and new wells when drilled are
expected to contribute to achieving net increases to production totals. The
Company plans to continue to drill new wells within the Knox formation in the
Swan Creek field. The Company is hopeful that production from these new wells
will be in line with the production from its best existing wells in the Swan
Creek Field and will have a noticeable effect on increasing the total production
from the Field. Although no assurances can be made, the Company believes that,
once this work is completed and the new wells are drilled, production from the
Swan Creek Field will increase. However, even if such production increase does
occur, the ultimate deliverability from the Swan Creek Field will not be
sufficient to meet the Company's maximum daily requirements under its contracts
with BAE and Eastman. While the Swan Creek Field has proved reserves of natural
gas in excess of 34 Bcf, a valuable reserve base, the natural reduction decline
rates of production evidenced during the initial startup year, have been
adversely affected by the lower than expected matrix permeability of the
formation, (the ability of the gas to flow out of the well), and the occurrence
of more gas condensate occupying some of the pore space, than originally
expected. Consequently, achieving the production totals solely from Swan Creek
sufficient to supply the maximum daily volumes under the Company's existing
contracts does not appear likely. However, production rates from Swan Creek
while lower will last for a substantially longer period of time, giving a good
stable foundation for long term production.
15
The Company also intends to commence drilling in other formations in its
Swan Creek Field. To date, drilling in the Swan Creek Field has focused on
production of gas primarily from the Knox formation. This is a lower Ordovician
Dolomite, and the heart of the anticline structure at Swan Creek. However,
immediately adjacent to this formation and shallower over these formations are
other formations which the Company believes have potential for gas production.
The Stones River and Trenton formations hold the possibility for both oil and
gas and have produced some gas to date. These Upper Ordovician formations have
not been a primary target for gas production, but the shallower depths needed
for drilling and the moderate gas production per well might make a potential
cumulative significant source for additional gas production. With the completion
of only one well in the Trenton formation which is producing approximately 100
Mcf per day, the impact of these targets is has not yet been defined.
COMPARISON OF THE QUARTERS ENDING SEPTEMBER 30, 2002 AND 2001
The Company recognized $1,450,133 in oil and gas revenues from its Kansas
Properties and the Swan Creek Field during the third quarter of 2002 compared to
$2,306,279 in the third quarter of 2001. The decrease in revenues was due to a
decline in gas production in the Swan Creek Field. The Swan Creek Field produced
434,557 Mcf and 162,290 Mcf in the third quarter of 2001 and 2002, respectively.
The decrease in pipeline transportation revenues is directly related to the
decrease in gas sales. See Results of Operations and Financial Condition section
of this Item 2.
As a result of the decrease in oil and gas revenues, the Company realized
a net loss attributable to common shareholders of $856,074 ($0.08 per share of
common stock) during the third quarter of 2002 compared to a net loss in the
third quarter of 2001 to common shareholders of ($491,055) ($0.05 per share of
common stock).
Production costs and taxes in the third quarter of 2002 of $815,293 were
lower than production costs and taxes of $1,112,471 in the third quarter of
2001, due primarily to lower maintenance costs in Swan Creek as the field had
just begun operation in 2001 and several maintenance procedures were required.
Depreciation, Depletion, and Amortization expense for the third quarter
of 2002 was $756,486 compared to $779,551 in the third quarter of 2001. The
December 31, 2001 and the June
16
30, 2002, Ryder Scott reserve reports were used as a basis for the 2002
estimate. The Company reviews its depletion analysis and industry oil and gas
prices on a quarterly basis to ensure that the depletion estimate is reasonable.
Additionally, the Company took depreciation on its pipeline in the third quarter
of 2002 of $127,168, while in the third quarter of 2001 the depreciation was
only $63,584 as the Company only used one-half year depreciation in 2001, the
first year the pipeline was in service. The Company also amortized $43,180 of
loan fees relating to the Bank One note.
Interest expense for the third quarter of 2002 was $146,382 as compared
to $248,328 in the third quarter of 2001. This decrease is due to reduced
interest rates on the Bank One debt compared to the interest rates on debt
associated with financing for the completion of Phase II of the Company's
65-mile pipeline in 2001.
During the third quarter the Company reduced its general and
administrative costs significantly from 2001. Management has made an effort to
control costs in every aspect of its operations. Some of these cost reductions
included the closing of the Company's New York office and a reduction in
personnel from 2001 levels, as well as significant reductions in public
relations costs.
Professional fees have increased dramatically primarily due to costs
incurred for legal and accounting services as a result of the Bank One lawsuit.
Dividends on preferred stock have increased from $112,458 in 2001 to
$134,195 in 2002 as a result of the increase in the amount of preferred stock
outstanding from new private placements occurring during the second quarter of
2002.
COMPARISON OF THE NINE MONTH PERIODS ENDING SEPTEMBER 30, 2002 AND 2001
The Company recognized $3,859,050 in oil and gas revenues from the Kansas
and Swan Creek oil and gas fields during the nine months ended September 30,
2002 compared to $5,550,640 for the nine months ended September 30, 2001. This
$1,691,590 decrease in revenues was due to the following reasons: Kansas gas
sales decreased approximately $490,000 due to price decreases in the first six
months of 2002. Gas production volumes in Kansas remained constant, as 220,650
Mcf were produced in 2002 compared to 241,892 Mcf in 2001. Also, oil revenues in
Kansas decreased by approximately $170,000 due to price decreases, whereas the
volumes remained fairly consistent. The Kansas oil field produced 115,472 Bbls
of oil in 2001 as compared to 106,683 in 2002. Another primary reason for the
decrease in revenues was a decrease in oil production in the Swan Creek field
from 26,165 Bbls in 2001 to 10,788 Bbls in 2002. This resulted in approximately
a $290,000 decrease in oil sales. Production of gas in Swan Creek also decreased
during the first six months of 2002 because the Company was in the process of
performing well work-overs on its best wells in Swan Creek and because of the
inability of the Company to finance the continuation of its drilling program.
However, oil production in the Swan Creek field was back to 2001 levels in the
third quarter of 2002. During the first nine months of 2002, the Company
produced 570,883 Mcf of gas from its Swan Creek Field as compared to 646,958 Mcf
in 2001. Revenues were also affected by losses on hedging activities previously
required by the Company's agreement with Bank One totaling approximately
$160,000 during the six month period ended June 30, 2002. There were no hedging
activities in the third quarter of 2002 because that hedging requirement was
eliminated.
17
As a result of the decrease in revenues, the Company incurred a net loss
attributable to holders of common stock of $2,820,539 ($0.26 per share) in the
first nine months of 2002 compared to a net loss of $1,362,124 ($0.13 per share)
in 2001.
Depletion, Depreciation and Amortization costs have dramatically
increased during the first nine months in 2002 from $1,048,008 in 2001 to
$1,731,182 in 2002 due to depreciation on the pipeline. The Company also
amortized $129,540 of loan fees relating to the Bank One credit agreement.
Interest costs for 2002 decreased from 2001 levels, due to reduced
interest rates with Bank One. However, interest costs of approximately $148,000
were capitalized in the first three months of 2001 during construction of the
pipeline which resulted in lower interest expenses during that period.
General and Administrative Costs have been reduced significantly from
2001 levels as the Company has made an effort to control levels as explained in
the three month comparison.
Professional fees have increased dramatically due to costs incurred for
legal and accounting services as a result of the Bank One lawsuit.
Dividends on preferred stock has increased from $278,725 in 2001 to
$372,595 in 2002 as a result of the increase in the amount of preferred stock
outstanding.
LIQUIDITY AND CAPITAL RESOURCES
On November 8, 2001, the Company signed a credit facility agreement (the
"Credit Agreement") with the Energy Finance Division of Bank One, N.A. in
Houston Texas ("Bank One") whereby Bank One extended to the Company a revolving
line of credit of up to $35 million. The initial borrowing base under the Credit
Agreement was $10 million. As of April 1, 2002 the outstanding balance was
$9,101,776.66. On or about April 5, 2002, the Company received a notice from
Bank One stating that it had redetermined and reduced the borrowing base under
the Credit Agreement to $3,101,776.66 and required a $6 million reduction of the
outstanding loan.
The schedule of reserve reports required by the Credit Agreement upon
which such re-determinations are to be based also specifically sets up a
procedure involving an automatic monthly principal payment of $200,000
commencing February 1, 2002. The Company has remained current in payments of
this monthly reduction through November 1, 2002. As of November 1, 2002, the
outstanding balance was $7,701,776.66.
As a result of Bank One's unexpected reduction of the borrowing base and
the
18
corresponding demand for payment of $6 million, combined with the fact that the
Company is still in the early stages of its oil and gas operating history during
which time it has had a history of losses from operations and had an accumulated
deficit of $25,095,708 and a working capital deficit of $6,507,649 as of March
31, 2002, the Company's independent auditors indicated in their report on the
audit of the Company's consolidated financial statements for the year ended
December 31, 2001 that the Company's ability to continue as a going concern is
uncertain. The Company's ability to continue as a going concern depends upon its
ability to obtain long-term debt or raise capital and satisfy its cash flow
requirements.
On May 2, 2002, the Company filed suit against Bank One in Federal Court
in the Eastern District of Tennessee, Northeastern Division at Greeneville,
Tennessee to restrain Bank One from taking any steps pursuant to its Credit
Agreement with the Company to enforce its demand that the Company reduce its
loan obligation or else be deemed in default and for damages resulting from the
wrongful demand.
On July 1, 2002, Bank One filed its answer and counterclaim, alleging
that its actions were proper under the terms of the Credit Agreement, and in the
counterclaim, seeking to recover all amounts it alleges to be owed under the
Credit Agreement, including principal, accrued interest, expenses and attorney's
fees in the approximate amount of $9 million.
On November 5, 2002, the Company and Bank One concluded a series of
meetings and correspondence by reaching preliminary agreement upon the basic
terms of a potential settlement. Any settlement is conditioned upon execution of
final settlement documents, and the parties agreed to attempt to close the
settlement by November 29, 2002. The principal element of the settlement
proposal is for the Bank and the Company to enter into an amended and restated
agreement for a new term loan to replace the prior revolving credit facility,
which new loan will not be due until April, 2004. The amount of the new loan
will be $7,701,776.66 to be repaid at the rate of $200,000 per month plus
interest with the balance of $4,500,000 payable on maturity. The proposed
settlement agreement would place specific limits and requirement upon any
ability of Bank One to require a reduction of the loan balance. Such a reduction
could only occur in the event the value of the oil and gas reserves of the
Company falls below an agreed-upon figure in relation to the loan balance,
pursuant to a formula which management is satisfied provides ample protection
against any future reasonable likelihood of a similar problem arising in the
manner causing initiation of the litigation between the Company and Bank One.
Further detail of the settlement will be announced upon conclusion of the final
settlement documents.
19
ITEM 3 QUANTITATIVE AND QUALITATIVE DISCLOSURE ABOUT MARKET RISKS
COMMODITY RISK
The Company's major market risk exposure is in the pricing applicable to
its oil and gas production. Realized pricing is primarily driven by the
prevailing worldwide price for crude oil and spot prices applicable to natural
gas production. Historically, prices received for oil and gas production have
been volatile and unpredictable and price volatility is expected to continue.
Monthly oil price realizations for the first nine months of 2002 ranged from a
low of $15.20 per barrel to high of $27.49 per barrel. Gas price realizations
ranged from a monthly low of $1.91 per Mcf to a monthly high of $3.40 per Mcf
during the same period.
As required by its Credit Agreement with Bank One, the Company entered
into hedge agreements on December 28, 2001 on notional volumes of oil and
natural gas production for the first six months of 2002 in order to manage some
exposure to oil and gas price fluctuations. Realized gains or losses from the
Company's price risk management activities are recognized in oil and gas
production revenues when earned since the Company's positions are not considered
hedges for financial reporting purposes. Notional volumes associated with the
Company's derivative contracts
20
are 27,000 barrels and 630,000 MMBtu's f or oil and natural gas, respectively.
The Company does not generally hold or issue derivative instruments for trading
purposes. These hedge agreements expired in June 2002 and have not been renewed.
Hedging activities resulted in a loss to the Company of approximately $160,000
during the nine months ended September 30, 2002.
At December 31, 2001, the Company's open natural gas and crude oil price
swap positions are not considered to have a material fair value. Assuming
natural gas production and sales volumes remain consistent with levels for the
month of December 2001 during the entire year of fiscal 2002, management
believes that a 10 percent decrease in natural gas prices from September 2002
price levels would reduce the Company's natural gas revenues by approximately
$483,000 on an annual basis. Assuming crude oil production and sales volumes
remain consistent with levels for the month of December 2001 during the entire
year of fiscal 2002, management believes that a 10 percent decrease in crude oil
prices from September 2002 price levels would reduce the Company's crude oil
revenues by approximately $450,000 on an annual basis.
INTEREST RATE RISK
At September 30, 2002, the Company had debt outstanding of approximately
$9.8 million. The interest rate on the revolving credit facility of $8.1 million
is variable based on the financial institution's prime rate plus 0.25%. The
remaining debt of $1.7 million has fixed interest rates ranging from 6% to
11.95%. As a result, the Company's annual interest costs in 2002 would fluctuate
based on short-term interest rates on approximately 83% of its total debt
outstanding at September 30, 2002. The impact on annual interest expense and the
Company's cash flows of a 10 percent increase in the financial institution's
prime rate (approximately .5 basis points) would be approximately $41,000,
assuming borrowed amounts under the credit facility remain at $8.1 million. The
Company did not have any open derivative contracts relating to interest rates at
September 30, 2002.
FORWARD-LOOKING STATEMENTS AND RISK
Certain statements in this report, including statements of the future
plans, objectives, and expected performance of the Company, are forward-looking
statements that are dependent upon certain events, risks and uncertainties that
may be outside the Company's control, and which could cause actual results to
differ materially from those anticipated. Some of these include, but are not
limited to, the market prices of oil and gas, economic and competitive
conditions, inflation rates, legislative and regulatory changes, financial
market conditions, political and economic uncertainties of foreign governments,
future business decisions, and other uncertainties, all of which are difficult
to predict.
There are numerous uncertainties inherent in estimating quantities of
proved oil and gas reserves and in projecting future rates of production and the
timing of development expenditures. The total amount or timing of actual future
production may vary significantly from reserves and production estimates.
The drilling of exploratory wells can involve significant risks,
including those related to timing, success rates and cost overruns. Lease and
rig availability, complex geology and other factors can also affect these risks.
Additionally, fluctuations in oil and gas prices, or a prolonged period of low
prices, may substantially adversely affect the Company's financial position,
results of operations and cash flows.
21
ITEM 4 CONTROLS AND PROCEDURES
EVALUATION OF DISCLOSURE CONTROLS AND PROCEDURES
The Company's Chief Executive Officer, President and our Chief Financial
Officer, with the participation of other members of senior management, reviewed
and evaluated the effectiveness of the design and operation of the Company's
disclosure controls and procedures as of a date within 90 days before the filing
of this quarterly report on Form 10-Q. Based on this evaluation, the Company's
Chief Executive Officer, President and Chief Financial Officer believe:
The Company's disclosure controls and procedures are designed to ensure
that information required to be disclosed by the Company in the reports it files
or submits under the Securities Exchange Act of 1934 is recorded, processed,
summarized and reported within the time periods specified in the SEC's rules and
forms; and
The Company's disclosure controls and procedures were effective to ensure
that material information was accumulated and communicated to management,
including the Chief Executive Officer, President and Chief Financial Officer, as
appropriate to allow timely decisions regarding required disclosure.
CHANGES IN INTERNAL CONTROLS
There were no significant changes in the Company's internal controls or,
to their knowledge, in other factors that could significantly affect these
controls subsequent to the date of their evaluation, nor were there any
significant deficiencies or material weaknesses in internal controls. As a
result, no corrective actions were required or undertaken.
22
PART II OTHER INFORMATION
ITEM 1 LEGAL PROCEEDINGS
On May 2, 2002, the Company filed suit in Federal Court in the Eastern
District of Tennessee, Northeastern Division at Greeneville, Tennessee to
restrain Bank One from taking any steps pursuant to its Credit Agreement with
the Company to enforce its demand that the Company reduce its loan obligation or
else be deemed in default and for damages resulting from the wrongful demand. It
is the position of the Company that Bank One's demand that the Company reduce
its loan from $9,101,776.66 to $3,101,776.66 within thirty days, coming as it
did only four months after the loan was made, in the absence of any change in
the Company's production of oil and gas from the time the loan was closed or the
condition of the Company's assets, without any warning
23
and prior to the receipt of the December 2002 reserve report, without any basis
or explanation, is a violation of the terms of the Credit Agreement and an act
of bad faith. The Company is seeking a jury trial and actual damages sustained
by it as a result of this arbitrary, wrongful demand, in the amount of
$51,000,000 plus punitive damages in the amount of $100 million. On July 1,
2002, Bank One filed its answer and counterclaim, alleging that its actions were
proper under the terms of the Credit Agreement, and in the counterclaim, seeking
to recover all amounts it alleges to be owed under the Credit Agreement,
including principal, accrued interest, expenses and attorney's fees in the
approximate amount of $9 million. No hearings have occurred or been scheduled in
the court proceeding. The Company has filed initial written discovery requests
from Bank One. No trial date has been set. On November 5, 2002 the Company
announced that it had reached a preliminary agreement with Bank One. N.A. that
outlines a settlement that would amicably resolve all issues. The preliminary
agreement is subject to the execution of formal settlement documents and
provides that Bank One will enter into an Amended and Restated Credit Agreement
with the Company maturing in April, 2004 to replace the current credit facility.
The principal amount of the amended credit agreement will be the existing
indebtedness of $7,701,776.66. The Company has maintained strongly that the
Bank's action was unwarranted. The Company has reserved the right to approve the
form of settlement documents and in considering the form of final documents will
maintain a strong posture based on this position. The parties contemplate that
the settlement is to be documented and closed on or before November 29, 2002.
See, Part I, Item 2, Management's Discussion and Analysis of Financial Condition
and Results of Operations, Liquidity and Capital Resources.
On July 29, 2002, the Chancery Court of Knox County, Tennessee granted
summary judgment confirming an arbitration award dated October 30, 2001. The
arbitration was between the Company's wholly owned subsidiary Tengasco Pipeline
Corporation (TPC and King Pipeline & Utility Company (King), the contractor for
the construction of Phase II of the Company's pipeline and concerned disputes
concerning final billings by King for the pipeline construction. The award found
that King was entitled to recover the sum of $266,390.66 for straw matting work
performed by King; that King was entitled to retain the $72,500 payment made to
it by TPC for clearing and grubbing work, and that King be awarded its attorneys
fees of approximately $14,000 plus interest at the statutory rate from date of
the award. TPC moved for relief from the award in the Chancery Court in Knox
County, Tennessee, and King moved for confirmation of the award by the Court.
Formal entry of the judgment confirming the award to King was entered on
September 8, 2002. Following entry of judgment, and in lieu of appeal by the
Company, the parties reached settlement by TPC agreeing to pay King an amount
equal to approximately a ten percent discount from the amount confirmed in the
judgment of the court confirming the award. Based on the evidence presented at
the arbitration hearing, the Company and TPC intend to seek recovery of the
payments made to King in satisfaction of this judgment as an additional element
of damages being sought from Caddum, Inc., the project engineer, in the action
now pending in the United States District Court for the Eastern District of
Tennessee entitled C.H. FENSTERMAKER & ASSOCIATES, INC. V. TENGASCO, INC., which
is set for trial in February, 2003.
ITEM 2 CHANGES IN SECURITIES AND USE OF PROCEEDS
On August 21, 2002, the Company executed a series of unsecured promissory
notes bearing 8% interest, with payments of interest on a quarterly basis, with
principal due and payable January 4, 2004. The principal amount of the notes is
convertible into common stock of the Company at the rate of $3.00 per common
share at the option of the holders of the notes. The total principal amount of
the Convertible Notes is $650,000. The Company paid a finder's fee of eight
percent of the principal amount of the notes to Kenny Securities Corporation and
agreed to issue five year warrants to Kenny Securities Corporation to purchase
that number of shares equal to 5% of the amount raised calculated at $3.00 per
share. Subsequent to the end of the third quarter, an additional convertible
note in the principal amount of $500,000 was purchased by Dolphin Offshore
Partners, LP, which owns more than 10% of the Company's outstanding common stock
and whose general partner is Peter E. Salas, a director of the Company. No
finder's fee was paid on this note. The remaining holders of these notes are
individuals that are not officers, directors, or affiliates of the Company. The
proceeds of the sale of these notes have been used to provide working capital
for the Company's operations.
Also, during the third quarter of 2002, 650,000 shares of restricted
common stock were sold to Dolphin Offshore Partners, L.P. in a private placement
transaction.
24
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the
registrant has duly caused this report to be signed on its behalf by the
undersigned hereto duly authorized.
Dated: November 14, 2002
/s/ Malcolm E. Ratliff
------------------------------
Malcolm E. Ratliff
Chief Executive Officer
Dated: November 14, 2002
/s/ Mark A. Ruth
------------------------------
Mark A. Ruth
Chief Financial Officer
25
CERTIFICATION
I, Malcolm E. Ratliff, certify pusuant to Section 302 of the Sarbanes-Oxley Act
of 2002 that:
1. I have reviewed this quarterly report on Form 10-Q of Tengasco, Inc.
2. Based on my knowledge, this quarterly report does not contain any untrue
statement of a material fact or omit to state a material fact necessary to make
the statements made, in light of the circumstances under which such statements
were made, not misleading with respect to the period covered by this quarterly
report;
3. Based on my knowledge, the financial statements, and other information
included in this quarterly report, fairly present in all material respects the
financial condition, results of operations and cash flows of the Registrant as
of, and for, the periods presented in this quarterly report;
4. The Registrant's other certifying officers and I are responsible for
establishing and maintaining disclosure controls and procedures (as defined in
Exchange Act Rules 13a-14 and 15d-14) for the Registrant and we have:
(a) designed such disclosure controls and procedures to ensure that
material information relating to the Registrant, including its consolidated
subsidiaries, is made known to us by others within those entities, particularly
during the period in which this quarterly report is being prepared;
(b) evaluated the effectiveness of the Registrant's disclosure controls
and procedures as of a date within 90 days prior to the filing date of this
quarterly report (the "Evaluation Date'); and
(c) presented in this quarterly report our conclusions about the
effectiveness of the disclosure controls and procedures based on our evaluation
as of the Evaluation Date;
5. The Registrant's other certifying officers and I have disclosed, based on our
most recent evaluation, to the Registrant's auditors and the audit committee of
the Registrant's board of directors (or persons performing the equivalent
function);
(a) all significant deficiencies in the design or operation of internal
controls which could adversely affect the Registrant's ability to record,
process, summarize and report financial data and have identified for the
Registrant's auditors any material weakness in internal controls; and
(b) any fraud, whether or not material that involves the management or
other employees who have a significant role in the Registrant's internal
controls; and
6. The Registrant's other certifying officers and I have indicated in this
quarterly report whether or not there were significant changes in internal
controls or in other factors that could significantly affect internal controls
subsequent to the date of our most recent evaluation, including any corrective
actions with regard to significant deficiencies and material weaknesses.
Dated: November 14, 2002 /s/ Malcolm E. Ratliff
--------------------------------
Malcolm E. Ratliff
Chief Executive Officer
26
CERTIFICATION
Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 I hereby certify that:
(13) I have reviewed the Quarterly Report on Form 10Q(i);
(2) To the best of my knowledge this Quarterly Report on Form 10-Q (i)
fully complies with the requirements of section 13(a) or 15(d) of the Securities
and Exchange Act of 1934(U.S.C. 78m(a) or 78o(d)); and, (ii) the information
contained in this Report fairly present, in all material respects, the financial
condition and results of operations of Tengasco, Inc. and its Subsidiaries
during the period covered by this report.
Dated: November 14, 2002 /s/ Malcolm E. Ratliff
----------------------------
Malcolm E. Ratliff
Chief Executive Officer
27
CERTIFICATION
I, Jeffrey R. Bailey, certify pursuant to Section 302 of the Sarbanes-Oxley Act
of 2002 that:
1. I have reviewed this quarterly report on Form 10-Q of Tengasco, Inc.
2. Based on my knowledge, this quarterly report does not contain any untrue
statement of a material fact or omit to state a material fact necessary to make
the statements made, in light of the circumstances under which such statements
were made, not misleading with respect to the period covered by this quarterly
report;
3. Based on my knowledge, the financial statements, and other information
included in this quarterly report, fairly present in all material respects the
financial condition, results of operations and cash flows of the Registrant as
of, and for, the periods presented in this quarterly report;
4. The Registrant's other certifying officers and I are responsible for
establishing and maintaining disclosure controls and procedures (as defined in
Exchange Act Rules 13a-14 and 15d-14) for the Registrant and we have:
(a) designed such disclosure controls and procedures to ensure that
material information relating to the Registrant, including its consolidated
subsidiaries, is made known to us by others within those entities, particularly
during the period in which this quarterly report is being prepared;
(b) evaluated the effectiveness of the Registrant's disclosure controls
and procedures as of a date within 90 days prior to the filing date of this
quarterly report (the "Evaluation Date'); and
(c) presented in this quarterly report our conclusions about the
effectiveness of the disclosure controls and procedures based on our evaluation
as of the Evaluation Date;
5. The Registrant's other certifying officers and I have disclosed, based on our
most recent evaluation, to the Registrant's auditors and the audit committee of
the Registrant's board of directors (or persons performing the equivalent
function);
(a) all significant deficiencies in the design or operation of internal
controls which could adversely affect the Registrant's ability to record,
process, summarize and report financial data and have identified for the
Registrant's auditors any material weakness in internal controls; and
(b) any fraud, whether or not material that involves the management or
other employees who have a significant role in the Registrant's internal
controls; and
6. The Registrant's other certifying officers and I have indicated in this
quarterly report whether or not there were significant changes in internal
controls or in other factors that could significantly affect internal controls
subsequent to the date of our most recent evaluation, including any corrective
actions with regard to significant deficiencies and material weaknesses.
Dated: November 14, 2002 /s/ Jeffrey R. Bailey
--------------------------------
Jeffrey R. Bailey
President
28
CERTIFICATION
Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 I hereby certify that:
(14) I have reviewed the Quarterly Report on Form 10Q(i);
(3) To the best of my knowledge this Quarterly Report on Form 10-Q (i)
fully complies with the requirements of section 13(a) or 15(d) of the Securities
and Exchange Act of 1934(U.S.C. 78m(a) or 78o(d)); and, (ii) the information
contained in this Report fairly present, in all material respects, the financial
condition and results of operations of Tengasco, Inc. and its Subsidiaries
during the period covered by this report.
Dated: November 14, 2002 /s/ Jeffrey R. Bailey
--------------------------------
Jeffrey R. Bailey
President
29
CERTIFICATION
I, Mark A. Ruth, certify pursuant to Section 302 of the Sarbanes-Oxley Act of
2002 that:
1. I have reviewed this quarterly report on Form 10-Q of Tengasco, Inc.
2. Based on my knowledge, this quarterly report does not contain any untrue
statement of a material fact or omit to state a material fact necessary to make
the statements made, in light of the circumstances under which such statements
were made, not misleading with respect to the period covered by this quarterly
report;
3. Based on my knowledge, the financial statements, and other information
included in this quarterly report, fairly present in all material respects the
financial condition, results of operations and cash flows of the Registrant as
of, and for, the periods presented in this quarterly report;
4. The Registrant's other certifying officers and I are responsible for
establishing and maintaining disclosure controls and procedures (as defined in
Exchange Act Rules 13a-14 and 15d-14) for the Registrant and we have:
(a) designed such disclosure controls and procedures to ensure that
material information relating to the Registrant, including its consolidated
subsidiaries, is made known to us by others within those entities, particularly
during the period in which this quarterly report is being prepared;
(b) evaluated the effectiveness of the Registrant's disclosure controls
and procedures as of a date within 90 days prior to the filing date of this
quarterly report (the "Evaluation Date'); and
(c) presented in this quarterly report our conclusions about the
effectiveness of the disclosure controls and procedures based on our evaluation
as of the Evaluation Date;
5. The Registrant's other certifying officers and I have disclosed, based on our
most recent evaluation, to the Registrant's auditors and the audit committee of
the Registrant's board of directors (or persons performing the equivalent
function);
(a) all significant deficiencies in the design or operation of internal
controls which could adversely affect the Registrant's ability to record,
process, summarize and report financial data and have identified for the
Registrant's auditors any material weakness in internal controls; and
(b) any fraud, whether or not material that involves the management or
other employees who have a significant role in the Registrant's internal
controls; and
6. The Registrant's other certifying officers and I have indicated in this
quarterly report whether or not there were significant changes in internal
controls or in other factors that could significantly affect internal controls
subsequent to the date of our most recent evaluation, including any corrective
actions with regard to significant deficiencies and material weaknesses.
Dated: November 14, 2002 /s/ Mark A. Ruth
--------------------------------
Mark A. Ruth
Chief Financial Officer
30
CERTIFICATION
Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 I hereby certify that:
(15) I have reviewed the Quarterly Report on Form 10Q(i);
(4) To the best of my knowledge this Quarterly Report on Form 10-Q (i)
fully complies with the requirements of section 13(a) or 15(d) of the Securities
and Exchange Act of 1934(U.S.C. 78m(a) or 78o(d)); and, (ii) the information
contained in this Report fairly present, in all material respects, the financial
condition and results of operations of Tengasco, Inc. and its Subsidiaries
during the period covered by this report.
Dated: November 14, 2002 /s/ Mark A. Ruth
--------------------------------
Mark A. Ruth
Chief Financial Officer
31