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SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, DC 20549
FORM 10-K
FOR ANNUAL AND TRANSITION REPORTS
PURSUANT TO SECTIONS 13 OR 15(D) OF THE
SECURITIES EXCHANGE ACT OF 1934
ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
ACT OF 1934
For the fiscal year ended July 31, 1997
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: 000-24394
PENN OCTANE CORPORATION
(Exact Name of Registrant as Specified in Its Charter)
DELAWARE 52-1790357
(State or Other Jurisdiction of
Incorporation or Organization) (I.R.S. Employer Identification No.)
900 VETERANS BOULEVARD, SUITE 240, REDWOOD CITY, CALIFORNIA 94063
(Address of Principal Executive Offices) (Zip Code)
Registrant's Telephone Number, Including Area Code: (415) 368-1501
Securities registered pursuant to Section 12(b) of the Act: NONE
Securities registered pursuant to Section 12(g) of the Act: COMMON STOCK, PAR
VALUE $.01
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 if disclosure of delinquent filers pursuant to
Item 405 of Regulation S-K is not contained herein, and will not be contained,
to the best of registrant's knowledge, in definitive proxy or information
statements incorporated by reference in Part III of this Form 10-K or any
amendment to this Form 10-K or any amendment to this Form 10-K.
The aggregate market value of the voting stock held by non-affiliates of
the Registrant as of October 31, 1997 was $26,189,549. The last reported sale
price of the Registrant's Common Stock as reported on the Nasdaq SmallCap
Market on October 31, 1997 was $5.94 per share.
The number of shares of Common Stock, par value $.01 per share,
outstanding on October 31, 1997 was 8,694,600.
DOCUMENTS INCORPORATED BY REFERENCE
None
TABLE OF CONTENTS
ITEM PAGE NO.
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Part I 1. Business 3
2. Properties 9
3. Legal Proceedings 10
4. Submission of Matters to a Vote of Security Holders 11
Part II 5. Market for Registrant's Common Equity and Related
Stockholder Matters 12
6. Selected Financial Data 13
7. Management's Discussion and Analysis of Financial Condition
and Results of Operations 14
7A. Quantitative and Qualitative Disclosures About Market Risks 20
8. Financial Statements and Supplementary Data 21
9. Changes in and Disagreements with Accountants on Accounting
and Financial Disclosure 57
Part III 10. Directors and Executive Officers of the Registrant 58
11. Executive Compensation 60
12. Security Ownership of Certain Beneficial Owners and Management 62
13. Certain Relationships and Related Transactions 63
Part IV 14. Exhibits, Financial Statement Schedules, and Reports on Form 8-K 64
PART I
This report contains "forward-looking statements" within the meaning of
Section 27A of the Securities Act of 1933, as amended, (the "Securities Act"),
and may include the words "believes," "will enable," "will depend," and
"intends to" or similar expressions as well as other statements of
expectations, beliefs, future strategies and comments concerning matters which
are not historical facts. These forward-looking statements are subject to
risks and uncertainties which could cause actual results to differ materially
from those expressed or implied by the statements.
ITEM 1. BUSINESS.
INTRODUCTION
Penn Octane Corporation (the "Company"), formerly known as International
Energy Development Corporation ("International Energy"), was incorporated in
Delaware in August 1992. The Company is principally engaged in the purchase,
transportation and sale of liquified petroleum gas ("LPG") and the provision
of equipment and services to the compressed natural gas ("CNG") industry. The
Company owns and operates a terminal facility in Brownsville, Texas (the
"Brownsville Terminal Facility") and has a long-term lease agreement for
approximately 132 miles of pipeline from certain gas plants in Texas to the
Brownsville Terminal Facility (the "Pipeline"). The Company sells its LPG
primarily to PMI Trading Limited ("PMI"), which is the exclusive importer of
LPG into Mexico and a subsidiary of Petroleos Mexicanos, the state-owned
Mexican oil company ("PEMEX"), for distribution in the northeast region of
Mexico. The Company's CNG activities include the design, packaging,
construction, operation and maintenance of CNG fueling stations. In addition,
the Company is planning the construction and operation of a CNG vehicle and
station infrastructure in Mexico City, Mexico. The Company has recently
entered the business of buying, transporting and selling propylene ("PPL").
On October 21, 1993, International Energy purchased 100% of the common
stock of Penn Octane Corporation, a Texas corporation ("POC"), and merged POC
into International Energy as a division. As a result of the merger of POC
with and into the Company, the Company assumed the lease agreement between POC
and Seadrift Pipeline Corporation ("Seadrift") relating to the Pipeline which
connects Exxon Company, U.S.A.'s ("Exxon") King Ranch Gas Plant in Kleberg
County, Texas and Duke Energy's LaGloria Gas Plant in Jim Wells County, Texas,
to the Company's Brownsville Terminal Facility. In January 1995, the Board of
Directors approved the change of the Company's name to Penn Octane
Corporation.
The Company commenced commercial operations for the purchase, transport
and sale of LPG in July 1994 upon completion of construction of the
Brownsville Terminal Facility. The primary market for the Company's LPG is
the northeast region of Mexico, which includes the states of Coahuila, Nuevo
Leon and Tamaulipas. The Company believes it has a competitive advantage in
the supply of LPG for the northeast region of Mexico as a result of the
geographic proximity of its Brownsville Terminal Facility to consumers of LPG
in such major Mexican cities as Matamoros, Reynosa and Monterrey. Since 1994,
the Company's primary customer for LPG has been PMI. Sales of LPG to PMI
accounted for 90%, 96% and 95% of the Company's total revenues for the fiscal
years ended July 31, 1995, 1996 and 1997, respectively.
In March 1997, the Company, through its wholly-owned subsidiary
PennWilson CNG, Inc., a Delaware corporation ("PennWilson"), acquired certain
assets, including inventory, equipment and intangibles, from Wilson
Technologies Incorporated ("WTI"), a company formerly engaged in the design,
construction, installation and maintenance of turnkey CNG fueling stations,
hired certain of WTI's former employees and commenced operations for the
provision of equipment and services used in the CNG industry. See Note C to
the Consolidated Financial Statements. As of October 31, 1997, the Company had
substantially completed performance under two contracts relating to the
design, construction and installation of CNG equipment valued at approximately
$1.7 million and was bidding for additional contracts. The Company currently
intends to expand its CNG-related operations into Mexico through the
development of a CNG vehicle and station infrastructure in Mexico City (the
"Mexico City Project").
On October 28, 1997, the Company formed Penn CNG Holdings, Inc. ("Penn
CNG"), a Delaware corporation and wholly-owned subsidiary, to act as the
holding company for the Company's CNG operations in the United States, Mexico
and other countries.
In September 1997, the Company began selling limited volumes of PPL to
U.S. customers, purchased from PMI and entered into negotiations with PMI and
other suppliers to obtain a long-term PPL supply agreement.
Pursuant to an option, the Company currently intends to acquire ownership
of Penn Octane de Mexico S.A. de C.V. ("PennMex"), a Mexican company which has
had minimal operations since its inception and is owned 90% by Jorge R.
Bracamontes, an officer and director of the Company, for a nominal sum, to
pursue opportunities in Mexico other than CNG.
The Company's principal executive offices are located at 900 Veterans
Boulevard, Suite 240, Redwood City, California 94063, and its telephone number
is (415) 368-1501. The offices of PennWilson are located at 12118 South
Bloomfield, Santa Fe Springs, California 90670, and its telephone number is
(562) 929-6789.
LIQUIFIED PETROLEUM GAS
OVERVIEW. Since July 1994, the primary business of the Company has been
the purchase, transportation and sale of LPG. LPG is a mixture of propane and
butane principally used for residential and commercial heating and cooking.
LPG is also widely used as a motor fuel.
Mexico is the largest market for LPG in the world. LPG is the most
widely used domestic fuel in Mexico and is the primary energy source for
nearly two-thirds of Mexican households. In 1996, domestic sales of LPG in
Mexico averaged approximately 11.1 million gallons per day, an increase of
3.9% over sales for 1995, of which approximately 2.3 million gallons per day
were imported from the United States. The majority of Mexico's domestic LPG
production is located in the southeastern region of Mexico, while consumption
is heaviest in central, northern and Pacific coast regions. Demand for LPG in
Mexico is projected to grow at a compounded annual growth rate of
approximately 3% from 1996 to 2000.
The Company has been able to successfully compete with other LPG
suppliers in the provision of LPG to customers in northeast Mexico primarily
as a result of the Pipeline and the geographic proximity of its Brownsville
Terminal Facility to consumers of LPG in such major cities as Matamoros,
Reynosa and Monterrey, Mexico. Prior to the commencement of operations by the
Company at its Brownsville Terminal Facility in 1994, LPG exports to northeast
Mexico from the United States had been transported by truck and rail primarily
through Eagle Pass, Texas which is approximately 240 miles northwest of
Brownsville. The Company's Brownsville Terminal Facility provides
significantly reduced trucking distances from Ciudad Madero and Piedras
Negras, the principal LPG supply centers (other than Brownsville) used by PMI,
to points of distribution in northeast Mexico. The Company's Brownsville
Terminal Facility is approximately 331 miles closer to Matamoros than either
Ciudad Madero or Piedras Negras, and approximately 57 miles closer to
Monterrey than Piedras Negras.
THE BROWNSVILLE TERMINAL FACILITY. The Company's Brownsville Terminal
Facility occupies approximately 31 acres of land located adjacent to the
Brownsville Ship Channel, a major deep-water port serving northeastern Mexico,
including the city of Monterrey, and southeastern Texas. Total rated storage
capacity of the Brownsville Terminal Facility is approximately 675,000 gallons
of LPG. The Brownsville Terminal Facility includes 11 storage and mixing
tanks, 4 mixed product truck loading racks, one specification product propane
loading rack and two racks capable of receiving LPG delivered by truck. The
truck loading racks are linked to a computer-controlled loading and remote
accounting system. The Brownsville Terminal Facility also contains a railroad
spur.
The Company leases the land on which the Brownsville Terminal Facility is
located from the Brownsville Navigation District under a lease agreement (the
"Brownsville Lease") that expires on October 15, 1998 and is renewable by the
Company for an additional five (5) year term which would expire on October 15,
2003. The Brownsville Lease contains a pipeline easement to the Brownsville
Navigation District oil dock.
THE PIPELINE. The Company has a lease agreement (the "Pipeline Lease")
with Seadrift, a subsidiary of Union Carbide Corporation ("Union Carbide"),
for approximately 132 miles of pipeline which connects Exxon's King Ranch Gas
Plant in Kleberg County, Texas and Duke Energy Corporation's LaGloria Gas
Plant in Jim Wells County, Texas, to the Company's Brownsville Terminal
Facility.
The Pipeline Lease currently expires in March 2004. On May 21, 1997,
the Company and Seadrift entered into an amendment to the Pipeline Lease to
extend the term of the Pipeline Lease through March 31, 2013. This amendment
will become effective on the earlier of April 1, 1998 and the completion of
certain enhancements to the Pipeline by the Company, at the Company's option.
The Company believes the extension of the Pipeline Lease will give the Company
increased flexibility in negotiating sales and supply agreements with its
customers.
Present Pipeline capacity is approximately 265 million gallons per year.
In fiscal year 1997, the Company transported 61.7 million gallons of LPG
through the Pipeline. The Company can increase the Pipeline's capacity to
approximately 350 million gallons per year through the installation of
additional pumping equipment.
DISTRIBUTION. Historically, all of the LPG from the Pipeline has been
delivered to the Company's customers at the Brownsville Terminal Facility and
then transported by truck to the U.S. Rio Grande Valley and northeast Mexico
either by the customers or by the Company on behalf of the customers. The
Company is currently considering constructing extensions to the Pipeline from
the Brownsville Terminal Facility to the Brownsville Navigation District oil
dock and to the railroad spur located at the Brownsville Terminal Facility,
which would enable the Company to transport LPG by ocean-going vessels and by
railcar to customers in Mexico, the United States or elsewhere. The Company
is also exploring the possibility of constructing a terminal facility in
Matamoros, Mexico and a pipeline to connect such a terminal facility with the
Brownsville Terminal Facility to enable the Company to transport LPG by
pipeline directly into northeast Mexico for subsequent sale and distribution.
The Company owns 14 trailers which are approved for the transport of
petrochemicals over U.S. roadways. These trailers have been used to transport
LPG on behalf of PMI from the Brownsville Terminal Facility to points of
distribution in northeast Mexico, and to transport PPL from Mexico to the
United States.
LPG SALES AGREEMENT. Since July of 1994, the Company has been a supplier
of LPG to PMI, which, under current Mexican law, has exclusive responsibility
for importing LPG into Mexico. PMI is the Company's largest customer, with
sales of LPG to PMI accounting for 90%, 96% and 95% of the Company's total
revenues for the fiscal years ended July 31, 1995, 1996 and 1997,
respectively. The Company and PMI have entered into a sales agreement (the
"PMI Sales Agreement") for the period October 1, 1997 through September 30,
1998, under which PMI has committed to purchase from the Company a minimum
volume of LPG each month, mixed to PMI's specifications, subject to seasonal
variability, with a total committed minimum annual volume of 69.0 million
gallons, representing a 15% increase over minimum volume requirements under
the previous sales agreement with PMI effective during the period from October
1, 1996 through September 30, 1997.
DEREGULATION OF THE LPG MARKET IN MEXICO. The Mexican petroleum industry
is governed by the Ley Reglarmentaria del Arti culo 27 Constitutional en el
Ramo del Petroleo (the Regulatory Law to Article 27 of the Constitution of
Mexico concerning Petroleum Affairs (the "Regulatory Law"), and Ley Organica
del Petroleos Mexicanos y Organismos Subsidiarios (the Organic Law of Petr
leos Mexicanos and Subsidiary Entities (the "Organic Law")). Under Mexican
law and related regulations, PEMEX is entrusted with the central planning and
the strategic management of Mexico's petroleum industry, including
importation, sales and transportation of LPG. In carrying out this role,
PEMEX controls pricing and distribution of various petrochemical products,
including LPG.
Beginning in 1995, as part of a national privatization program, the
Regulatory Law was amended to permit private entities to transport, store and
distribute natural gas with the approval of the Ministry of Energy. As part
of this national privatization program, the Mexican Government is expected to
completely deregulate the LPG market. Upon the completion of such
deregulation, the Company expects to be able to import LPG into Mexico for
sale directly to independent distributors. Pursuant to the PMI Sales
Agreement upon deregulation by the Mexican government of the LPG market, the
Company will have the right to renegotiate the PMI Sales Agreement. Depending
on the outcome of any such renegotiation, the Company expects either to (i)
enter into contracts directly with LPG distributors located in the northeast
region of Mexico, or (ii) modify the terms of the PMI Sales Agreement to
account for the effects of such deregulation.
LPG SUPPLY. Historically, the Company has purchased LPG from Exxon,
mixed to PMI's specifications, at variable posted prices below those provided
for in the PMI Sales Agreement thereby providing the Company with a fixed
margin over the cost of LPG. Between November 1, 1996 and early November
1997, PMI guaranteed the Company's credit with Exxon. In November 1997, the
Company obtained a $3.8 million letter of credit in favor of Exxon under a
$6.0 million credit facility (the "RZB Credit Facility") with RZB Finance,
L.L.C. ("RZB Finance"), which can be terminated at any time by RZB. As a
result of the letter of credit, PMI no longer provides credit guarantees to
Exxon on behalf of the Company. See "Management's Discussion and Analysis of
Financial Condition and Results of Operations - Liquidity and Capital
Resources - Credit Arrangements." In November 1997, the Company and Exxon
entered into a new supply agreement pursuant to which Exxon agreed to provide
minimum monthly volumes of LPG to the Company through September 1998 under
payment terms similar to the PMI Sales Agreement. The Company believes it has
access to an adequate supply of LPG to satisfy the requirements of PMI under
the PMI Sales Agreement. The LPG purchased from Exxon is delivered to the
Company at the opening of the Pipeline in Kleberg County, Texas, and then
transported through the Pipeline to the Brownsville Terminal Facility.
COMPRESSED NATURAL GAS
OVERVIEW. Extracted from underground reservoirs, natural gas is a fossil
fuel composed primarily of methane, hydrocarbons and inert gases. Natural gas
is widely available and in abundant supply. North American supplies are
reported to be sufficient to meet an estimated 150 years of demand at current
usage rates. CNG is measured by volume in cubic feet and sold by mass, energy
units or gasoline liter or gallon equivalents. CNG requires no refining and
is normally distributed to fueling stations via natural gas pipelines that
operate at a pressure of approximately 250 to 1,000 pounds per square inch
(psi). For use in vehicles, the gas is pressurized from 3,000 to 3,600 psi
and stored in the vehicle's gas storage tanks.
In the United States, federal and state legislation have tightened
pollution control measures to meet federal air quality standards and
encouraged the use of alternative fuels. Other countries, including Mexico,
have also enacted legislation promoting the use of alternative fuels, such as
CNG.
COMPANY CNG PRODUCTS AND SERVICES. In March 1997, the Company entered
the business for the design, construction, installation and maintenance of
equipment for CNG fueling stations after purchasing certain assets from, and
hiring personnel formerly employed by WTI, a company previously engaged in
such operations. See Note C to the Consolidated Financial Statements.
Equipment comprising a CNG fueling station typically consists of a compressor
skid package (engine, compressor and cooler), dispensing equipment, storage
bottles and gas dryers.
As of October 31, 1997, the Company had substantially completed work
under a subcontract for the design and construction of equipment for a CNG
fueling station for the New York City Department of Transportation ("NYCDOT")
valued at approximately $1.5 million, and under a contract with the Orange
County Sanitation District in California worth approximately $250,000 to
provide equipment for a CNG fueling station. The Company is actively pursuing
additional contracts to provide equipment for CNG fueling stations for other
large CNG fleet operators.
EXPANSION OF CNG OPERATIONS. The Company currently intends to expand its
CNG operations into Mexico City, a city which has been identified as having
one of the world's worst air pollution problems. In an effort to improve the
deteriorating air quality caused by vehicle emissions, the Mexican Government
has enacted legislation to decrease the number of gasoline powered vehicles
operating in Mexico City. The Company believes that vehicle owners in Mexico
City have been reluctant or unable to acquire CNG-powered vehicles or to
convert their vehicles to CNG due to the lack of CNG-powered vehicles,
facilities to convert vehicles to CNG and CNG stations in Mexico City.
In connection with the proposed Mexico City Project, the Company intends
to (i) construct and operate a flagship CNG fueling station in Mexico City;
(ii) acquire a franchise dealership from Grupo Dina S.A. de C.V. ("Dina"), one
of the largest truck and bus manufacturers in Mexico, to sell CNG-powered
buses and trucks to operators of public and private fleets; and (iii) supply
CNG-powered vehicles with CNG.
PROPYLENE
In September 1997, the Company began limited sales of PPL purchased in
Mexico from PMI for resale to industrial PPL consumers in the United States.
PPL is a liquid petroleum based product from which polypropylene is made.
Polypropylene is used in the manufacture of a variety of household and
industrial products including clothing and plastics. Although the Company has
no formal contract for the supply of PPL, the Company purchases available
quantities of PPL from PMI under a month-to-month arrangement. The Company
has entered into a one year contract with Union Carbide pursuant to which
Union Carbide has agreed to purchase nine million pounds of high-grade PPL per
month, if available, from the Company at a variable posted price through July
31, 1998. The Company hires independent contractors to transport the PPL
purchased from PMI by truck from Mexico to the United States. The Company is
currently seeking to obtain adequate supplies of high-grade PPL from PMI and
other suppliers.
COMPETITION
LPG. The Company competes with several major oil and gas and trucking
companies for the export of LPG from Texas to northeastern Mexico. In many
cases these companies own or control their LPG supply and have significantly
greater financial resources than the Company.
The Company competes in the supply of LPG on the basis of price. As
such, LPG providers who own or control their LPG supply may have a competitive
advantage over the Company. Pipelines generally provide a relatively low-cost
alternative for the transportation of petroleum products, however, at certain
times of the year, trucking companies may reduce their rates to levels lower
than those charged by the Company. The Company believes that such reductions
are limited in both duration and volumes and that on an annualized basis the
Pipeline provides a transportation cost advantage over the Company's trucking
competitors.
The Company believes that its Pipeline and the location of the
Brownsville Terminal Facility leave it well positioned to successfully compete
for LPG supply contracts with PMI and upon deregulation of the Mexican LPG
market with local distributors in northeast Mexico.
CNG. Several companies offer products and services that compete directly
with the Company's provision of CNG equipment and services, including the
design, packaging, construction and maintenance of equipment for CNG fueling
stations. If the market for CNG-fueled vehicles develops as anticipated by
the Company, it is likely that new competitors will enter the market. The
Company competes in the provision of equipment and services to the CNG
industry principally on the basis of price and product performance. Many of
the Company's competitors have significantly greater financial, technical and
marketing resources and greater name recognition than the Company. There can
be no assurance that the Company will compete successfully with its existing
competitors or with any new competitors.
In order to meet the emissions standards that have been established by
United States and Mexican federal and state mandates over the past several
years, several alternative fuels in addition to CNG are being used or have
been proposed for use in alternative fuel vehicles. These include
electricity, LPG, methanol, ethanol, hydrogen, reformulated gasoline and
liquefied natural gas. Each of these other fuels has comparative advantages
and disadvantages over CNG and each is expected to occupy part of the market
for alternative fuels. In addition, research is being conducted to develop a
gasoline powered engine that would compete with alternative fuel vehicles in
emissions, the successful development of which could impact the size of the
alternative fuels market.
PPL. The Company competes with several major oil and gas, petrochemical
and trucking companies for the supply of PPL to U.S. consumers. In many cases
these companies own or control their PPL supply and have significantly greater
financial resources than the Company. Historically, PMI, the Company's sole
supplier of PPL, has not supplied PPL for export to the U.S. market. The
Company currently purchases PPL from PMI on a month-to-month basis.
ENVIRONMENTAL AND TARIFF REGULATIONs
The operations of the Company are subject to certain federal, state and
local laws and regulations relating to the protection of the environment, and
future regulations may impose additional requirements. Although the Company
believes that its operations are in compliance with applicable environmental
laws and regulations, because the requirements imposed by environmental laws
and regulations are frequently changed, the Company is unable to predict with
certainty the ultimate cost of compliance with their requirements and their
effect on the Company operations and business prospects.
The intrastate petroleum pipeline operations of the Company are subject
to regulation by the Texas Railroad Commission. The Texas regulation requires
that intrastate tariffs be filed with the Railroad Commission and allows
shippers to challenge such tariffs. The Company believes it is in compliance
with all applicable regulations of the Texas Railroad Commission.
EMPLOYEES
As of July 31, 1997, the Company had 41 employees, including two in
finance, 10 in sales and administration, three in design, and 26 in
production. The Company's engineers and supervisors generally oversee
operation of the Pipeline and the Brownsville Terminal Facility and the
design, construction, transportation and installation of CNG equipment. In
addition, the Company occasionally retains subcontractors and consultants in
connection with its operations.
Seventeen of the Company's employees are covered by a collective
bargaining agreement. Thirteen of the Company's employees are covered by the
Southern California MEA Maintenance Agreement between the Millwright and
Machine Erectors Local 1607, an affiliate of the United Brotherhood of
Carpenters and Joiners of America. Four of the Company's welders are covered
by a Standard Form of Union Agreement between the Company and Local Union
Number 102 of the Sheet Metal Workers' International Association.
The Company has not experienced any work stoppages and considers
relations with its employees to be satisfactory.
ITEM 2. PROPERTIES.
As of July 31, 1997, the Company owned or leased the following
facilities:
APPROXIMATE LEASED OR
LOCATION TYPE OF FACILITY SIZE OWNED
Brownsville, Texas Pipeline and Storage Facility, On-site 31 acres Leased(1)(2)(3)
Administrative Offices
Brownsville, Texas Brownsville Terminal Facility Building 19,200 square feet Owned(1)(2)
Extending from Kleberg Seadrift Pipeline 132 miles Leased(2)(4)
County, Texas to
Cameron County, Texas
Santa Fe Springs, CNG Manufacturing Facilities and 17,347 square Leased(2)(5)
California Administrative Offices feet and
4,000 square feet
Redwood City, Penn Octane Corporation Headquarters 1,559 square feet Leased(2)(6)
California
________________
(1) The Company's lease with respect to the Brownsville Terminal Facility expires on October
15, 1998 and the Company has a five-year renewal option to extend the lease through October 15,
2003.
(2) Pursuant to a $6.0 million credit facility, the Company has agreed to grant a mortgage
security interest and assignment in any and all of the Company's real property, buildings,
pipelines, fixtures, and interests therein, including, without limitation, the lease agreement with
the Navigation District of Cameron County, Texas, and the Pipeline Lease. See "Management's
Discussion and Analysis of Financial Condition and Results of Operation - Liquidity and Capital
Resources - Credit Arrangements."
(3) The Company's leasehold rights with respect to 14.51 acres of this land are subject to a
subordinated perfected security interest held by Western Wood Equipment Corporation (Hong Kong)
("Western Wood") pursuant to a Purchase Agreement, Secured Promissory Note and Security Agreement
dated June 16, 1997 entered into by and between Western Wood and the Company. See "Management's
Discussion and Analysis of Financial Condition and Results of Operations - Liquidity and Capital
Resources - Private Placements and Other Transactions."
(4) The Company's lease with Seadrift expires on March 31, 2013.
(5) The Company's lease with respect to the Santa Fe Springs, California site and facilities
expires December 31, 1997.
(6) The Company's lease with respect to its headquarters offices is in the name of Jerome B.
Richter, the Company's Chairman, President and Chief Executive Officer. The lease expires on June
30, 1998.
For information concerning the Company's operating lease commitments, see Note
N to Consolidated Financial Statements.
ITEM 3. LEGAL PROCEEDINGS.
On August 24, 1994, the Company filed an Original Petition and
Application for Injunctive Relief against the International Bank of
Commerce-Brownsville ("IBC-Brownsville"), a Texas state banking association,
seeking (i) either enforcement of a credit facility between the Company and
IBC-Brownsville or a release of the Company's property granted as collateral
thereunder consisting of significantly all of the Company's business and
assets; (ii) declaratory relief with respect to the credit facility; and (iii)
an award for damages and attorneys' fees. After completion of an arbitration
proceeding, on February 28, 1996, the 197th District Court in and for Cameron
County, Texas entered judgment (the "Judgment") confirming the arbitral award
for $3,246,754 to the Company by IBC-Brownsville.
On April 18, 1996, the Company reached an agreement (the "IBC Settlement
Agreement") to accept $400,000 to settle a lawsuit it filed in October 1995
against International Bank of Commerce-San Antonio, a bank related to
IBC-Brownsville ("IBC-San Antonio"). As part of the settlement agreement, the
parties, including IBC-Brownsville and IBC-San Antonio, executed mutual
releases from future claims related to the IBC-Brownsville litigation.
Additionally, IBC-San Antonio agreed to indemnify the Company for any such
claims made or asserted.
On June 26, 1996, IBC-Brownsville filed a suit against the Company (Case
No. 96-06-3502) in the 357th Judicial District Court of Cameron County
alleging that the Company, in filing the Judgment against IBC-Brownsville in
order to clear title to its assets, slandered the name of IBC-Brownsville.
IBC-Brownsville contends that the Judgment against it prevented it from
selling certain property. IBC-Brownsville has claimed actual damages of
$600,000 and requested punitive damages of $2,400,000.
On September 23, 1996, the court which entered the Judgment on behalf of
the Company indicated in a preliminary ruling that the Company was privileged
in filing the Judgment to clear title to its assets. In connection with the
lawsuit, IBC-Brownsville filed an appeal with the Texas Court of Appeals on
January 21, 1997. The Company responded on February 14, 1997. On September
18, 1997, the appeal was heard by the Texas Court of Appeals. A decision is
expected sometime in 1998. The Company believes the case to be frivolous and
a breach of the IBC Settlement Agreement. Further, the Company believes this
cause of action is covered by an indemnity agreement from IBC-San Antonio.
The Company continues to believe that the Judgment is final, binding and
collectible.
On July 30, 1996, the Company filed suit in the District Court of Harris
County, Texas against Jorge V. Duran, former Chairman of the Board of the
Company, regarding alleged conversion and fraud by Mr. Duran during his time
as an employee of the Company. The Company has not yet quantified its damages
and is seeking a declaration that the termination of employment of Mr. Duran
was lawful and within the rights of the Company based on Mr. Duran's status as
an at-will employee of the Company. On December 12, 1996, Mr. Duran filed a
counterclaim in the District Court of Harris County, Texas asserting the
following claims: breach of contract against the Company and Mr. Richter;
wrongful discharge against the Company, Mr. Richter, and Mark Casaday, a
former officer and director of the Company; defamation against the Company,
Mr. Richter, Mark Casaday, and Jorge Bracamontes; and interference with
contract against Jorge Bracamontes. On February 27, 1997, the two actions
were consolidated into Case No. 96-37447, Penn Octane Corporation v. Jorge V.
Duran, in the 164th District Court of Harris County, Texas. Mr. Duran is
seeking (i) judgment against the Company and Messrs. Richter, Casaday and
Bracamontes for unspecified money damages, punitive damages in the amount of
$10.0 million, prejudgment interest as provided for by law, and attorneys'
fees; (ii) 400,000 shares of Common Stock from the Company, (iii) 100,000
shares of common stock from Mr. Richter; and (iv) such further relief to which
he may be justly entitled. The Company intends to vigorously defend against
Mr. Duran's counterclaim.
In October 1996, the Company and Mr. Richter, without admitting or
denying the findings contained therein (other than as to jurisdiction),
consented to the issuance of an order by the Securities and Exchange
Commission (the "SEC") in which the SEC (i) made findings that the Company and
Mr. Richter had violated portions of Section 13 of the Securities Exchange Act
of 1934, as amended (the "Exchange Act"), relating to the filing of periodic
reports and the maintenance of books and records, and certain related rules
under the Exchange Act, and (ii) ordered respondents to cease and desist from
committing or causing any current or future violation of such section and
rules.
For further information concerning the aforementioned legal proceedings,
see Note N to Consolidated Financial Statements.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS.
The 1997 Annual Meeting of Stockholders of the Company (the Meeting) was
held on May 29, 1997 at the Companys executive offices. The record date for
the Meeting was April 18, 1997. Proxies for the meeting were solicited
pursuant to Regulation 14A under the Exchange Act. There was no solicitation
in opposition to managements five proposals, and all of the nominees for
election as director were elected. The results of the voting by the
stockholders for each proposal are presented below.
Proposal #1 Election of Directors
Name of Director Elected Votes For Votes Withheld
- ------------------------ --------- --------------
Jerome B. Richter 6,672,950 18,150
Ian T. Bothwell 6,672,950 18,150
Jorge R. Bracamontes 6,672,850 18,250
John P. Holmes 6,672,950 18,150
Kenneth G. Oberman 6,672,950 18,150
Stewart J. Paperin 6,672,850 18,250
John H. Robinson 6,672,950 18,150
Proposal #2 Proposal to amend the Companys Restated Certificate of
Incorporation to authorize 5,000,000 shares, $.01 par value per share, of a
new class of senior preferred stock for possible future issuance in connection
with acquisitions and general corporate purposes, including public or private
offerings of shares for cash and stock dividends. The Board of Directors has
made no determination with respect to the issuance of any shares of the new
preferred stock and has no present commitment, arrangement or plan which would
require the issuance of such additional shares of new preferred stock in
connection with any equity offering, merger, acquisition or otherwise.
For Against Abstain Broker Non Votes
5,053,429 153,850 15,050 1,468,771
Proposal #3 Proposal to approve the amendment and restatement of the
Companys Amended and Restated By-Laws to allow, among other things, the Board
of Directors of the Company to amend the by-laws and to take certain other
actions and to effect certain other matters by an affirmative vote of a
majority of the Board of Directors.
For Against Abstain Broker Non Votes
4,950,749 255,730 15,850 1,468,771
Proposal #4 Proposal to approve and ratify certain private
transactions entered into by the Company involving the issuance of shares of
common stock of the Company and warrants to purchase shares of common stock of
the Company or the incurrence of indebtedness in excess of $100,000.
For Against Abstain
6,643,571 39,980 7,549
Proposal #5 Proposal to ratify the appointment of Burton McCumber &
Prichard, L.L.P. as the independent auditors of the Company.
For Against Abstain
6,673,701 15,450 1,949
PART II
ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER
MATTERS.
The Company's common stock began trading in the over-the-counter ("OTC")
market on the Nasdaq SmallCap Market under the symbol "POCC" in December 1995.
The following table sets forth the reported high and low bid quotations
of the Common Stock for the periods indicated. Such quotations reflect
inter-dealer prices, without retail mark-ups, mark-downs or commissions and
may not necessarily represent actual transactions.
HIGH LOW
------ ------
FISCAL YEAR ENDED JULY 31, 1996:
First Quarter $4.750 $3.500
Second Quarter 4.750 3.125
Third Quarter 6.750 3.625
Fourth Quarter 6.063 3.500
FISCAL YEAR ENDED JULY 31, 1997:
First Quarter $4.625 $2.375
Second Quarter 4.000 1.750
Third Quarter 4.063 2.250
Fourth Quarter 4.938 2.125
On October 31, 1997, the closing bid price of the Common Stock as
reported on the Nasdaq SmallCap Market was $5.94 per share. On October 31,
1997, the Company had 8,694,600 shares of Common Stock outstanding and
approximately 319 holders of record of the Common Stock.
The Company has not paid and does not intend to pay any dividends to
shareholders in the foreseeable future and intends to retain any future
earnings for capital expenditures and otherwise to fund the Company's
operations.
On October 31, 1997, the Company had outstanding 270,000 shares of
Preferred Stock, convertible into 3.333 shares of Common Stock per share of
Preferred Stock. On September 10, 1997, the Board of Directors approved the
proposed issuance of 100,000 shares of Common Stock to the holders of
Preferred Stock, pro rata according to ownership, as inducement to convert
their shares of Preferred Stock into shares of Common Stock, issuable upon
conversion, and in consideration for the waiver by the holders of Preferred
Stock of any rights relating to such Preferred Stock, including dividends, if
any. The Company expects conversion of substantially all shares of Preferred
Stock to occur prior to December 31, 1997.
ITEM 6. SELECTED FINANCIAL DATA.
The following selected consolidated financial data for each of the years
in the five-year period ended July 31, 1997, have been derived from the
audited consolidated financial statements of the Company. The data set forth
below should be read in conjunction with "Management's Discussion and Analysis
of Financial Condition and Results of Operations" and the Consolidated
Financial Statements of the Company and related notes included elsewhere
herein. All information is in thousands, except per share data.
Year Ended July 31,
1993 1994 1995 1996 1997
------ -------- -------- -------- ----------
Revenues $ -(1) $ 475(1) $14,787 $26,271 $30,367(1)
Loss from continuing operations (83) (1,234) (2,047) (724) (2,923)
Loss per common share (.03) (.37) (.47) (.14) (.48)
Total assets 444 6,747 6,159 5,190 5,496
Long-term obligations - 1,589 95 1,060 1,113
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS
The following discussion of the Company's results of operations and
liquidity and capital resources should be read in conjunction with the
Consolidated Financial Statements of the Company and related Notes thereto
appearing elsewhere herein. References to specific years preceded by "fiscal"
(e.g. fiscal 1997) refer to the Company's fiscal year ended July 31. The
results of operations of PennWilson, which began operations in March 1997,
have been included in the Company's results of operations for fiscal 1997
discussed below.
OVERVIEW
The Company is principally engaged in the purchase, transportation and
sale of LPG and the provision of equipment and services to the CNG industry.
Since July 1994, the Company has bought and sold LPG for distribution into
northeast Mexico and the U.S. Rio Grande Valley. In March 1997, the Company
expanded its operations to include the design, construction, installation and
maintenance of turnkey CNG fueling stations. In September 1997, the Company
commenced limited sales of PPL, purchased from PMI in Mexico, to consumers in
the United States.
Historically, the Company has derived substantially all of its revenues
from sales to PMI, its primary customer, of LPG purchased from Exxon. In
fiscal 1997, the Company derived approximately 97.8% of its revenues from
sales of LPG, of which sales to PMI accounted for 95.0% of total sales.
As part of its business strategy, in March 1997 the Company acquired
certain assets and hired certain former employees from WTI, a company engaged
in the engineering, design and construction of equipment for turnkey CNG
fueling stations. In connection with this acquisition, the Company paid
$394,000 and is committed to pay up to $2.0 million in royalty payments based
on future sales, if any. The acquisition was accounted for as a purchase and
is reflected as such in the Company's financial statements for fiscal 1997.
The Company provides products and services through a combination of
fixed-margin and fixed-priced contracts. Under the Company's agreements with
its customers and suppliers, the buying and selling prices of LPG and PPL are
based on variable posted prices that provide the Company with a fixed margin.
Costs included in costs of goods sold other than the purchase price of LPG and
PPL may affect actual profits from sales, including costs relating to
transportation, storage, leases, maintenance and financing. The Company
generally attempts to purchase in volumes commensurate with projected sales.
However, mismatches in volumes and prices of LPG purchased from Exxon and
resold to PMI could result in unanticipated costs.
The Company's CNG revenues are principally derived from contracts awarded
on a fixed-price, as-completed basis. In competing for contracts to construct
CNG fueling stations or components thereof, the Company normally must submit
bids for specific projects. The Company's ability to achieve a profit margin
for a specific project is dependent on the accuracy of its assessment of the
costs associated with that project.
LPG SALES
The following table shows the Company's volume sold in gallons, average
sales price and average purchase price of LPG for fiscal 1995, 1996 and 1997.
Fiscal Year Ended July 31,
------------------------------
1995 1996 1997
----- ----- -----
Volume Sold
LPG (millions of gallons) 37.9 65.4 61.7
Average sales price
LPG (per gallon) $0.39 $0.40 $0.48
Average purchase price
LPG (per gallon) $0.33 $0.36 $0.43
RESULTS OF OPERATIONS
YEAR ENDED JULY 31, 1997 COMPARED WITH JULY 31, 1996
Revenues. Revenues for fiscal 1997 were $30.4 million compared with
$26.3 million for fiscal 1996, an increase of $4.1 million or 15.6%. Of this
increase (i) $4.9 million was attributable to increased average sales prices
for LPG in fiscal 1997 partially offset by a decrease in volumes of LPG sold
in fiscal 1997 resulting in a decrease in sales of $1.5 million, and (ii)
$663,000 was attributable to revenues from sales of equipment for CNG fueling
stations. The decrease in volume of LPG sales in fiscal 1997 resulted from
the lack of sales to PMI during the first two months of fiscal 1997 due to the
expiration of the Company's sales agreement with PMI on July 31, 1996. Sales
of LPG to PMI totaled $3.5 million (9.6 million gallons) for the first two
months of fiscal 1996.
Cost of sales. Cost of sales for fiscal 1997 was $29.7 million compared
with $25.0 million for fiscal 1996, an increase of $4.7 million or 18.8%. Of
this increase (i) $5.1 million was attributable to an increased average
purchase prices for LPG purchased in fiscal 1997 partially offset by the
reduction in volumes of LPG sold in fiscal 1997 resulting in a decrease in
cost of goods sold of $897,000, and (ii) $547,000 was attributable to costs
associated with sales of equipment for CNG fueling stations.
Selling, general and administrative expenses. Selling, general and
administrative expenses were $3.4 million in fiscal 1997 compared with $2.2
million in fiscal 1996, an increase of $1.2 million or 54.5%. This increase
was primarily attributable to (i) $838,000 of compensation associated with the
issuance of warrants to an employee and a consultant, and (ii) $372,000 of
consulting and professional fees and travel costs associated with the
commencement of the CNG business, litigation and other legal matters. The
increase in fiscal 1997 was partially offset by reductions in amortization
expense related to prepaid commissions totaling $341,000 which was fully
amortized in fiscal 1996.
Other income and expense, net. Other income (expense), net was
($163,000) in fiscal 1997 compared with $221,000 in fiscal 1996. Income in
fiscal 1996 included an award from litigation of $400,000.
Income tax. Due to the net losses for fiscal 1997 and fiscal 1996, there
was no income tax expense in either year. At July 31, 1997, the Company had
net operating loss carryforwards for federal income tax purposes of
approximately $5.3 million. The ability to utilize such net operating loss
carryforwards, which expire in the years 2009 to 2012, may be significantly
limited by the application of the change of ownership rules under Section 382
of the Internal Revenue Code.
YEAR ENDED JULY 31, 1996 COMPARED WITH JULY 31, 1995
Revenues. Revenues for fiscal 1996 were $26.3 million compared with
$14.8 million for fiscal 1995, an increase of $11.5 or 77.7%. Of this
increase (i) $10.7 million was attributable to the increase in volumes of LPG
sold in fiscal 1996, and (ii) $654,000 was attributable to increased average
prices for LPG sold in fiscal 1996.
Cost of Sales. Cost of sales for fiscal 1996 were $25.0 million compared
with $14.7 for fiscal 1995, an increase of $10.3 or 70.1%. Of this increase
(i) $9.7 million was attributable to the increase in volumes of LPG sold in
fiscal 1996, and (ii) $1.1 million was attributable to the increased average
costs for LPG purchased in fiscal 1996.
Selling, general and administrative expenses. Selling, general and
administrative expenses were $2.2 million in fiscal 1996 compared with $1.8
million in fiscal 1995, an increase of $400,000 or 22.2%. Of this increase
(i) $208,000 was attributable to an increase in executive salaries, and (ii)
$101,000 was attributable to increased commissions.
Other income and expense, net. Other income (expense), net was $221,000
in fiscal 1996 compared with ($365,000) in fiscal 1995. Primary differences
in fiscal 1996 compared to fiscal 1995 were (i) a decrease in interest expense
of $827,000 in fiscal 1996 due to the payoff of a factoring agreement in
August 1995, (ii) a gain of $722,000 on the sale of the Companys option to
purchase National Power Exchange Group in fiscal 1995, and (iii) an award from
litigation of $400,000 in fiscal 1996.
Income tax. Due to the net losses for fiscal 1996 and fiscal 1995, there
was no income tax expense in either year.
QUARTERLY RESULTS OF OPERATIONS
The following table presents certain condensed unaudited quarterly
financial information for each of the eight most recent quarters in the period
ended July 31, 1997. This information is derived from unaudited consolidated
financial statements of the Company that include, in the opinion of
management, all adjustments (consisting only of normal recurring adjustments)
necessary for a fair presentation of results of operations for such periods,
when read in conjunction with the audited Consolidated Financial Statements of
the Company and notes thereto appearing elsewhere in this Annual Report. All
information is in thousands, except per share data.
Quarter Ended
Oct. 31, Jan. 31, Apr. 30, July 31, Oct. 31, Jan. 31, Apr. 30, July 31,
1995 1996 1996 1996 1996 1997 1997 1997
Net revenues $ 5,557 $ 6,717 $ 7,832 $ 6,165 $ 2,546 $ 13,513 $ 8,021 $ 6,287
Gross Profit 262 389 376 265 (206) 785 386 (317)
Net income (loss) (89) (77) 113 (671) (687) 249 (99) (2,386)
Earnings (loss) per
common and common
equivalent share $ ( .02) $ ( .02) $ .02 $ ( .12) $ ( .13) $ .04 $ ( .02) $ ( .37)
The net loss for the quarter ended July 31,1997 was primarily
attributable to increases in the following selling, general and administrative
expenses: (1) stock based compensation of $838,000, (2) PennWilson expenses
of $125,000, (3) professional fees of $388,000, and (4) travel expenses of
$125,000.
Historically, the Company has received the majority of its total annual
revenues during the months of October through March. Such pattern is
attributable to the seasonal demand for LPG, which is typically greatest
during the winter months of the second and third quarters of the Company's
fiscal year. The Companys quarterly earnings may vary considerably due to the
impact of such seasonality. Upon expiration of the Company's sales
arrangement with PMI, effective during the period from August 1, 1995 to July
31, 1996, sales of LPG to PMI were interrupted during August and September
1996 pending the negotiation of a new sales contract that became effective
in October 1996.
LIQUIDITY AND CAPITAL RESOURCES
General. The Company has incurred losses since its inception in 1992,
has used cash in operations and has a deficit in working capital. In
addition, the Company is involved in litigation, the outcome of which cannot
be determined at the present time. The Company depends heavily on sales to
one major customer. In addition, there is no significant operating history on
which to base the results of the additional business generated through
PennWilson or contracts to purchase and sell PPL. The Company's sources of
liquidity and capital resources historically have been provided by sales of
LPG and CNG-related equipment, proceeds from the issuance of short-term and
long-term debt, revolving credit facilities and credit arrangements, private
placements and proceeds from the exercise of warrants to purchase shares of
the Company's Common Stock.
The following summary table reflects comparative cash flows for fiscal
1995, 1996 and 1997. All information is in thousands.
YEAR ENDED JULY 31,
1995 1996 1997
Net cash used in operating activities $(2,103) $(808) $(1,847)
Net cash provided by (used in) investing
activities 209 347 (514)
Net cash provided by financing activities 1,951 769 2,027
-------- ------ --------
Net increase (decrease) in cash $ 57 $ 308 $ (334)
======== ====== ========
The Company's LPG sales agreement with PMI, its primary customer, is
effective for the period from October 1, 1997 through September 30, 1998 and
provides for the purchase by PMI of minimum monthly volumes of LPG aggregating
a minimum annual volume of 69 million gallons, representing a 15% increase
over minimum volume requirements under the previous sales agreement with PMI
effective during the months of October 1, 1996 to September 30, 1997. In
November 1997, the Company entered into a new supply agreement with Exxon
pursuant to which Exxon has agreed to supply minimum volumes of LPG to the
Company under payment terms similar to those required in the PMI Sales
Agreement. The Company believes it has access to an adequate supply of LPG as
a result of its supply agreement with Exxon to satisfy the requirements of PMI
under the LPG sales agreement with PMI. Under the current agreement with
Exxon, the Company's current sole source of supply of LPG, the Company
anticipates greater gross margins on its LPG sales as a result of lower LPG
costs. In addition, the Company anticipates increased gross margins as a
result of the elimination of certain costs associated with transportation,
mixing and testing of LPG purchased from Exxon, which are no longer incurred
in the Company's operations.
The Company has substantially completed two contracts for the supply of
CNG-related equipment totaling approximately $1.7 million, one for the NYCDOT
and one for the Orange County Sanitation District. Under the terms of these
contracts, the Company anticipates that there will be adequate cash flow to
fund the Company's performance of its obligations thereunder. The Company
intends to bid on additional contracts for the supply of CNG-related equipment
and services in the future. See Note N to the Consolidated Financial
Statements.
On October 21, 1997, the Company announced that it is contemplating
filing a registration statement with the SEC for the sale to the public of
additional shares of its Common Stock. While the Company is still
contemplating such a filing, no assurance can be given as to the timing of
such offering or that the Company will be successful in raising additional
capital.
Pipeline Lease. In May 1997, the Company entered into the Pipeline Lease
Amendment with Seadrift which, once effective, will extend the term of the
lease through 2013. Under the Pipeline Lease Amendment, the Company will be
required to make minimum monthly lease payments of $75,000, subject to
abatement during the first two years of the extended term, an increase of
$21,000 per month over the Company's current Pipeline Lease Agreement. The
Pipeline Lease Amendment will be effective no later than April 1, 1998. See
Note N to the Consolidated Financial Statements.
Credit Arrangements. In connection with the PMI Sales Agreement,
invoicing is to occur weekly. Between November 1996 and early November 1997,
the Company and PMI made an arrangement under which PMI guaranteed credit with
the Company's main supplier and invoicing occurred on a monthly, rather than a
weekly basis.
On October 22, 1997, the Company entered into a $6.0 million credit
facility with RZB to finance the Company's purchase of LPG and PPL. Under the
RZB Credit Facility, the Company has agreed to pay a fee with respect to each
letter of credit thereunder in an amount equal to the greater of (i) $500,
(ii) 1.5% of the maximum face amount of such letter of credit, or (iii) such
higher amount as may be agreed between the Company and RZB. Any amounts
outstanding under the RZB Credit Facility shall accrue interest at a rate
equal to the rate announced by the Chase Manhattan Bank as its prime rate plus
2.5%. Pursuant to the RZB Facility, RZB has sole and absolute discretion to
terminate the RZB Credit Facility and to make any loan or issue any letter of
credit thereunder. RZB also has the right to demand payment of any and all
amounts outstanding under the RZB Credit Facility at any time. In connection
with the RZB Credit Facility, the Company has agreed to grant a mortgage,
security interest and assignment in any and all of the Company's real
property, buildings, pipelines, fixtures and interests therein or relating
thereto, including, without limitation, the Brownsville Lease, the Pipeline
Lease, and in connection therewith to enter into leasehold deeds of trust,
security agreements, financing statements and assignments of rent, in forms
satisfactory to RZB. The Company has also agreed that it shall not permit to
exist any lien, security interest, mortgage, charge or other encumbrance of
any nature on any of its properties or assets, except in favor of RZB. In
connection with the RZB Credit Facility, Western Wood has agreed to
subordinate its security interest in the Brownsville Terminal Facility. See
"-Private Placements and Other Transactions." On November 5, an irrevocable
letter of credit was established under the RZB Credit Facility in favor of
Exxon in the amount of $3.8 million. Mr. Richter, the Company's Chairman and
Chief Executive Officer, has personally guaranteed all of the Company's
payment obligations with respect to the RZB Credit Facility. See "Certain
Relationships and Related Transactions."
In March 1997, the Company obtained a letter of credit from the Bay Area
Bank in the amount of approximately $251,000 in connection with the obligation
of PennWilson to complete certain work for the Orange County Sanitation
District. In September 1997, the letter of credit was extended to November
26, 1997. Any amounts outstanding under the letter of credit shall accrue
interest at the prime rate plus 3%. Mr. Richter, the Company's Chairman and
Chief Executive Officer, has personally guaranteed all of the Company's
payment obligations with respect to the letter of credit. No amounts have
been drawn down under the letter of credit. See "Certain Relationships and
Related Transactions."
Private Placements and Other Transactions. During October 1996, the
Company completed a private placement of warrants and promissory notes due
November 1997. Proceeds raised from the private placement totaled $325,000,
which the Company used for working capital. During April 1997, 250,000
warrants to purchase 250,000 shares of the Common Stock issued in connection
with the private placement were exercised at prices below the original stated
exercise price in exchange for a cash payment of $188,000, and cancellation of
$250,000 of indebtedness from the private placement, plus accrued interest
thereon. During August 1997, 75,000 warrants to purchase 75,000 shares of the
Common Stock of the Company issued in connection with the private placement
were exercised at prices below the original stated exercise price in exchange
for a cash payment of $56,000, and cancellation of $75,000 of indebtedness
from the private placement, plus accrued interest thereon.
On June 15, 1997, the Company completed a private placement with Western
Wood, pursuant to which it issued a $1.0 million promissory note and warrants
to purchase 500,000 shares of Common Stock exercisable until June 15, 2002 at
an exercise price of $2.50 per share. Proceeds raised from the private
placement totaled $1.0 million, which the Company used for working capital
requirements. The promissory note accrues interest at the rate of 10.5% per
annum, payable semi-annually on December 15 and June 15 of each year. The
promissory note is secured by certain specified assets of the Company,
including the Brownsville Terminal Facility. In addition, the Company is
required to prepay the promissory note if the Company receives proceeds of
$5.0 million or more in a single debt and/or equity financing transaction.
On October 21, 1997, the Company completed a private placement pursuant
to which it issued promissory notes in the amount of $1.5 million and warrants
to purchase 250,000 shares of Common Stock exercisable until October 21, 2000
at an exercise price of $6.00 per share. The notes are unsecured. Proceeds
raised from the private placement totaled $1.5 million, which the Company used
for working capital requirements. The promissory notes accrue interest at the
rate of 10% per annum. Payment of the principal and any accrued and unpaid
interest on the promissory notes is due on the earlier to occur of June 30,
1998, and the closing of any public offering of debt or equity securities of
the Company resulting in net proceeds to the Company in excess of $5.0
million. The purchasers in the private placement were granted one-time demand
registration rights with respect to the shares issuable upon exercise of the
warrants.
In March and April 1997, warrants to purchase 2,790,000 shares of Common
Stock were exercised, resulting in cash proceeds and debt repayments of
$894,000 and promissory notes to the Company in the aggregate principal amount
of $2.8 million. The Company used the net cash proceeds from the exercises of
these warrants for working capital. In January 1997, the Company issued
10,000 shares of Common Stock to a consultant in payment for services rendered
to the Company. In February 1997, warrants to purchase 702,856 shares of
Common Stock were exchanged for 164,286 shares of Common Stock.
In August and September 1997, warrants to purchase a total of 505,000
shares of Common Stock were exercised, resulting in cash proceeds to the
Company of $1.2 million. The proceeds of such exercises were used for working
capital and repayment of Company debt. Pursuant to the 1997 Stock Award Plan,
in October 1997, the Company issued 20,314 shares of Common Stock to a Mexican
consultant in payment for services rendered to the Company valued at $113,000.
See "Executive Compensation - 1997 Stock Award Plan."
On August 29, 1997, in connection with the exercise of warrants to
purchase 100,000 shares of Common Stock by an unrelated third party, the
Company entered into a Registration Rights Agreement agreeing to register the
Common Stock issued upon exercise on or before February 1, 1998. In the event
the Company fails to register the Common Stock by February 1, 1998, for each
month thereafter until September 1, 1998, during which the shares have not
been not registered, the Company will be required to issue the holder Common
Stock warrants to purchase 10,000 shares of Common Stock at an exercise price
of $2.50 per share, exercisable within a year from the date of issuance.
For a detailed listing of Common Stock and warrant transactions during
fiscal 1995, 1996 and 1997, see Note L to Consolidated Financial Statements.
Judgment in favor of the Company. Judgment has been rendered in favor of
the Company in connection with its litigation against IBC-Brownsville in the
amount of approximately $3.5 million including accrued interest and legal fees
and expenses, which Judgment is being appealed by the defendant. Although no
assurance can be made, management believes that the Company will ultimately
prevail on appeal and will receive the proceeds from such Judgment. A former
officer of the Company is entitled to 5% of the net proceeds. A significant
portion of the Judgment, upon realization by the Company, will be used to pay
attorneys' fees incurred in connection with the IBC-Brownsville litigation.
See "Legal Proceedings" and Note N to the Consolidated Financial Statements.
Realization of Assets. Recoverability of a major portion of the recorded
asset amounts on the Company's balance sheet is dependent upon the collection
of the Judgment, the Company's ability to obtain additional financing and to
raise additional equity capital, and the success of the Company's future
operations. See Note Q to the Consolidated Financial Statements.
To provide the Company with the ability it believes necessary to continue
in existence, management is taking steps to (i) collect the Judgment, (ii)
increase sales to its current customers, (iii) increase its customer base,
(iv) expand its product lines and (v) raise additional debt and/or equity
capital.
FINANCIAL ACCOUNTING STANDARDS
In February 1997, the Financial Accounting Standards Board issued
Statement of Financial Accounting Standards No. 128 (SFAS 128), Earnings per
Share. SFAS 128 supersedes APB Opinion No. 15 (Opinion No. 15), Earnings per
Share, and requires the calculation and dual presentation of basic and diluted
earnings per share (EPS), replacing the measures of primary and fully-diluted
EPS as reported under Opinion No. 15. SFAS 128 is effective for financial
statements issued for periods ending after December 15, 1997; earlier
application is not permitted. Accordingly, EPS for fiscal 1995, 1996 and 1997
presented on the accompanying statements of income are calculated under the
guidance of Opinion No. 15.
The Company does not expect a material change in earnings per share data
in any of the periods presented in the accompanying Consolidated Statements of
Operations as a result of adopting SFAS 128, except for the quarter ended
April 30, 1996, during which fully diluted EPS, as defined in APB 15, was
$0.02 per share and diluted EPS, as defined in SFAS 128, would have been $0.01
per share.
In June 1997, the Financial Accounting Standards Board issued Statement
of Financial Accounting Standards No. 130 (SFAS 130), Reporting Comprehensive
Income and Statement of Financial Accounting Standards No. 131 (SFAS 131),
Disclosure about Segments of an Enterprise and Related Information. Both are
effective for periods beginning after December 15, 1997, with earlier
application encouraged for SFAS 131. The Company adopted SFAS 131 in fiscal
1997. The Company will adopt SFAS 130 in fiscal 1998.
ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK.
Not Applicable.
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA.
Report of Independent Certified Public Accountants
--------------------------------------------------
To the Board of Directors
Penn Octane Corporation
We have audited the accompanying consolidated balance sheets of Penn Octane
Corporation and its subsidiary (Company) as of July 31, 1996 and 1997, and the
related consolidated statements of operations, stockholders' equity, and cash
flows for each of the three years in the period ended July 31, 1997. These
financial statements are the responsibility of the Company's management. Our
responsibility is to express an opinion on these financial statements based on
our audits.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to
obtain reasonable assurance about whether the financial statements are free of
material misstatement. An audit includes examining, on a test basis, evidence
supporting the amounts and disclosures in the financial statements. An audit
also includes assessing the accounting principles used and significant
estimates made by management, as well as evaluating the overall financial
statement presentation. We believe that our audits provide a reasonable basis
for our opinion.
In our opinion, the consolidated financial statements referred to above
present fairly, in all material respects, the consolidated financial position
of the Company as of July 31, 1996 and 1997, and the consolidated results of
their operations and their consolidated cash flows for each of the three years
in the period ended July 31, 1997 in conformity with generally accepted
accounting principles.
We have also audited Schedule II of the Company for each of the three years in
the period ended July 31, 1997. In our opinion, this schedule presents fairly
in all material respects, the information required to be set forth therein.
The accompanying financial statements have been prepared assuming that the
Company will continue as a going concern. As discussed in Note Q, conditions
exist which raise substantial doubt about the Company's ability to continue as
a going concern including 1) the Company has not achieved profitable
operations, 2) outstanding litigation and 3) a deficit in working capital.
Management's plans in regard to these matters are described in Note Q. The
financial statements do not include any adjustments that might result from the
outcome of these uncertainties.
As discussed in note B, the Company adopted the provisions of SFAS 107,
"Disclosures about Fair Value of Financial Instruments", and SFAS 123,
"Accounting for Stock Based Compensation" during the year ended July 31, 1996.
As discussed in note S, the Company adopted the provisions of SFAS 131,
Disclosures about Segments of an Enterprise and Related Information during the
year ended July 31, 1997.
BURTON McCUMBER & PRICHARD, L.L.P.
Brownsville, Texas
October 3, 1997
PENN OCTANE CORPORATION AND SUBSIDIARY
CONSOLIDATED BALANCE SHEETS
JULY 31
ASSETS
1996 1997
Current Assets
Cash $ 364,525 $ 31,142
Trade accounts receivable, less allowance for doubtful accounts
of $0 and $53,406 29,463 281,500
Related party receivables (note D) - 171,601
Interest receivable (note D) 26,233 -
Costs and estimated earnings in excess of billings on uncompleted
contracts (notes B8 and F) - 196,888
Inventories (notes B1 and F) 445,051 795,797
Prepaid expenses and other current assets 47,810 83,082
Total current assets 913,082 1,560,010
Property, plant and equipment - net (notes B2 and E) 3,395,150 3,185,148
Lease rights (net of accumulated amortization of $317,361 and
432,765) (note B2) 836,679 721,274
Other noncurrent assets (notes B2, D and G) 45,421 29,935
Total assets $5,190,332 $5,496,367
The accompanying notes are an integral part of these statements.
PENN OCTANE CORPORATION AND SUBSIDIARY
CONSOLIDATED BALANCE SHEETS - CONTINUED
JULY 31
LIABILITIES AND STOCKHOLDERS' EQUITY
1996 1997
Current Liabilities
Current maturities of long-term debt (note K) $ 83,871 $ 1,152,391
Revolving line of credit (note K) - 140,000
Construction accounts payable (note J) 609,107 121,801
Trade accounts payable 284,057 481,348
Billings in excess of costs and estimated earnings in excess of
billings on uncompleted contracts (notes B8 and F) - 7,596
Borrowings from IBC-Brownsville (note N) 672,552 672,552
Accrued liabilities 560,912 1,055,237
Total current liabilities 2,210,499 3,630,925
Long-term debt, less current maturities (note K) 1,060,044 1,112,833
Commitments and contingencies (notes C, N and R) - -
Stockholders' Equity (note L)
Senior Preferred stock-$.01 par value, 5,000,000 shares
authorized; 0 shares issued and outstanding at July 31, 1996 and 1997 - -
Preferred stock-$.01 par value, 5,000,000 shares authorized;
270,000 convertible shares issued and outstanding at July 31,
1996 and 1997 2,700 2,700
Common stock-$.01 par value, 25,000,000 shares authorized;
5,205,000 and 8,169,286 shares issued and outstanding at July
31, 1996 and 1997 52,050 81,693
Additional paid-in capital 5,954,565 10,515,266
Notes receivable from the president of the Company and a
related party for exercise of warrants - (2,834,865)
Accumulated deficit (4,089,526) (7,012,185)
Total stockholders' equity 1,919,789 752,609
Total liabilities and stockholders' equity $ 5,190,332 $ 5,496,367
The accompanying notes are an integral part of these statements.
PENN OCTANE CORPORATION AND SUBSIDIARY
CONSOLIDATED STATEMENTS OF OPERATIONS
YEARS ENDED JULY 31
1995 1996 1997
Revenues (note B8) $14,787,467 $26,270,673 $30,367,134
Cost of goods sold 14,615,431 24,978,265 29,718,734
Gross profit 172,036 1,292,408 648,400
Selling, general and administrative expenses
Commissions 240,529 341,464 -
Legal and professional fees 755,950 789,761 1,075,824
Salaries and payroll related expenses 288,018 548,409 707,884
Stock based compensation (note M) - - 837,600
Travel 199,225 143,102 229,506
Other 370,878 414,666 556,955
1,854,600 2,237,402 3,407,769
Operating loss (1,682,564) (944,994) (2,759,369)
Other income (expense)
Interest expense (1,087,137) (259,608) (239,431)
Interest income - 4,161 71,893
Gain on sale of option (note O) 722,212 10,886 -
Other income - 65,447 4,248
Award from litigation (note N) - 400,000 -
Net loss before taxes (2,047,489) (724,108) (2,922,659)
Provision for income taxes (notes B3 and I) - - -
Net loss $(2,047,489) $ (724,108) $(2,922,659)
Loss per common share (note B4) $ (0.47) $ (0.14) $ (0.48)
Weighted average common shares outstanding 4,340,632 5,130,191 6,144,724
The accompanying notes are an integral part of these statements.
PENN OCTANE CORPORATION AND SUBSIDIARY
CONSOLIDATED STATEMENT OF STOCKHOLDERS' EQUITY
FOR THE YEARS ENDED JULY 31
1995 1996 1997
Shares Amount Shares Amount Shares Amount
SENIOR PREFERRED STOCK - $ - - $ - - $ -
PREFERRED STOCK
Beginning balance 300,000 $ 3,000 270,000 $ 2,700 270,000 $ 2,700
Conversion of 30,000 shares of Preferred
Stock to 100,000 shares of Common Stock
On May 15, 1995 (30,000) (300) - - - -
Ending balance 270,000 $ 2,700 270,000 $ 2,700 270,000 $ 2,700
COMMON STOCK
Beginning balance 3,750,000 $ 37,500 5,065,000 $ 50,650 5,205,000 $ 52,050
Issuance of common stock on September
29, 1994 to stockholder for partial payment
on promissory note 300,000 3,000 - - - -
Issuance of common stock on January 31,
1995 to stockholder for payment on
promissory note 300,000 3,000 - - - -
Issuance of common stock on March 1, 1995
For cancellation of commission agreement 200,000 2,000 - - - -
Issuance of common stock on April 12, 1995
To stockholder in exchange for a note 150,000 1,500 - - - -
Issuance of common stock on April 19, 1995 to
stockholder in exchange for a note 100,000 1,000 - - - -
Conversion of 30,000 shares of preferred
Stock to 100,000 shares of common stock on
May 15, 1995 100,000 1,000 - - - -
Issuance of common stock on July 5, 1995, in
exchange for a note 165,000 1,650 - - - -
Issuance of 40,000 shares of common stock
For services and settlement of accrued
Liability - - 40,000 400 - -
Issuance of common stock upon exercise of
Warrants on February 16, 1996, in exchange
For future legal services - - 100,000 1,000 - -
Issuance of common stock for services in
January 1997 - - - - 10,000 100
Issuance of common stock in connection
With Exchange Agreements between the
Company and certain warrant holders to
Purchase shares of common stock in the
Company - - - - 164,286 1,643
Issuance of common stock upon exercise of
Warrants on April 1, 1997, in connection
With retirement of $250,000 debt
Obligations - - - - 250,000 2,500
Issuance of common stock upon exercise of
Warrants in April 1997, in exchange for
Settlement of $46,759 of outstanding
Contractor payables - - - - 25,000 250
Issuance of common stock upon exercise of
Warrants during April 1997, in exchange for
Promissory note - - - - 2,200,000 22,000
Issuance of common stock upon exercise of
Warrants during March 1997, in exchange
For promissory note - - - - 15,000 150
Issuance of common stock upon exercise of
Warrants during April 1997 - - - - 300,000 3,000
Ending balance 5,065,000 $ 50,650 5,205,000 $ 52,050 8,169,286 $ 81,693
1995 1996 1997
Amount Amount Amount
ADDITIONAL PAID-IN CAPITAL
Beginning balance $ 3,019,500 $ 5,637,965 $ 5,954,565
Issuance of common stock for notes,
cancellation of commission agreements,
services and payment on promissory note 2,619,165 238,600 13,200
Conversion of preferred stock to common
stock (700) - -
Grant of warrants for services - 78,000 917,785
Exercise of warrants in connection with
retirement of debt - - 494,009
Exercise of warrants - - 3,135,707
Ending balance $ 5,637,965 $ 5,954,565 $10,515,266
STOCKHOLDERS' NOTES
Beginning balance $ - $ - $ -
Notes receivable from the President and a
related party for exercise of warrants - - (2,834,865)
Ending balance $ - $ - $(2,834,865)
ACCUMULATED DEFICIT
Beginning balance $(1,317,929) $(3,365,418) $(4,089,526)
Net loss for the year (2,047,489) (724,108) (2,922,659)
Ending balance $(3,365,418) $(4,089,526) $(7,012,185)
PENN OCTANE CORPORATION AND SUBSIDIARY
CONSOLIDATED STATEMENT OF STOCKHOLDERS' EQUITY - CONTINUED
FOR THE YEARS ENDED JULY 31
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The accompanying notes are an integral part of these statements.
PENN OCTANE CORPORATION AND SUBSIDIARY
CONSOLIDATED STATEMENTS OF CASH FLOWS
YEARS ENDED JULY 31
1995 1996 1997
INCREASE (DECREASE) IN CASH
Cash flows from operating activities:
Net loss $(2,047,489) $ (724,108) $(2,922,659)
Adjustments to reconcile net loss to net cash used in
operating activities:
Depreciation and amortization 378,431 414,412 448,019
Amortization of lease rights and other non-current
assets 173,940 620,807 132,188
Compensation cost - 36,000 929,785
Gain on sale of option (722,212) (10,886) -
NPEG interest (79,957) - -
Changes in current assets and liabilities:
Trade accounts receivable 474,885 (29,463) (252,037)
Related party receivable - - (171,601)
Interest receivable 7,208 495 26,233
Costs and estimated earnings in excess of billings on
uncompleted contracts - - (196,888)
Inventories 57,208 (71,756) (74,746)
Prepaids and other current assets 45,820 113,322 (35,272)
Construction and accounts payable (601,402) (1,201,307) (263,082)
Advances from related party (140,353) (67,977) -
Billings in excess of costs and estimated earnings in
excess of billings on uncompleted contracts - - 7,596
Accrued liabilities 350,620 112,722 525,716
Net cash used in operating activities (2,103,301) (807,739) (1,846,748)
Cash flows from investing activities:
Acquisition of inventory and fixed assets from WTI - - (394,000)
NPEG note 300,000 790,843 -
Capital expenditures (78,518) (451,826) (120,017)
Other (12,874) 7,846 -
Net cash provided by (used in) investing
activities 208,608 346,863 (514,017)
Cash flows from financing activities:
Revolving credit facilities - - 140,000
Issuance of debt 2,630,907 1,000,000 1,502,033
Issuance of common stock 2,231,315 - 516,073
Shareholder notes 500,000 100,000 -
Reduction in debt (3,447,955) (198,252) (130,724)
Increase (decrease) in bank overdraft 37,212 (133,133) -
Net cash provided by financing activities 1,951,479 768,615 2,027,382
Net increase (decrease) in cash 56,786 307,739 (333,383)
Cash at beginning of period - 56,786 364,525
Cash at end of period $ 56,786 $ 364,525 $ 31,142
Supplemental disclosures of cash flow information:
Cash paid during the year for:
Interest $ 827,400 $ 308,458 $ 165,964
Supplemental disclosures of noncash transactions:
Common stock and warrants issued (notes K, L and M) $ 400,000 $ 318,000 $ 4,004,756
The accompanying notes are an integral part of these statements.
PENN OCTANE CORPORATION AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE A - ORGANIZATION
Penn Octane Corporation, which was formerly International Energy Development
Corporation (IEDC) and The Russian Fund, is a Delaware corporation which was
incorporated on August 27, 1992. On October 21, 1993, IEDC acquired Penn
Octane Corporation (POC), a Texas corporation, whose primary asset was a
liquid petroleum gas (LPG) pipeline lease agreement with Seadrift Pipeline
Corporation, a subsidiary of Union Carbide Corporation. On January 6, 1995,
the Board of Directors approved the change of IEDC's name to Penn Octane
Corporation. The Company is engaged primarily in the business of purchasing,
transporting and selling LPG and providing services and equipment to the
compressed natural gas (CNG) industry. A significant portion of the sales
volume since inception has been to one major customer. This customer
purchases LPG at the Company's terminal in Brownsville, Texas where the
customer transports the LPG across the border for distribution throughout
northeastern Mexico.
POC was in the "development stage" until the business was established and
planned principal operations commenced during the year ended July 31, 1995.
In February 1997, POC formed Wilson Acquisition Corporation, a Delaware
corporation and a wholly-owned subsidiary, for the purpose of engaging in the
business of selling, designing, constructing, installing and servicing CNG
fueling stations and related products for use in the CNG industry throughout
the world. The subsidiarys name was changed to PennWilson CNG, Inc.
(PennWilson) in August 1997.
BY-LAWS
- -------
At the 1997 Annual Meeting of Stockholders of the Company on May 29, 1997, the
stockholders approved an amendment and restatement of POCs by-laws to, among
other things, allow the Board of Directors of POC to amend the by-laws and to
take certain other actions and to effect certain other matters without the
further approval of the stockholders.
BASIS OF PRESENTATION
- -----------------------
The accompanying financial statements include POC and its subsidiary,
PennWilson (Company). All significant intercompany accounts and transactions
are eliminated.
PENN OCTANE CORPORATION AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE B - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
A summary of the significant accounting policies consistently applied in the
preparation of the accompanying consolidated financial statements follows.
1. INVENTORIES
Inventories are stated at the lower of cost or market. For valuing propane
and butane gas, the Company changed costing methods from the weighted average
method to the first-in, first-out method for the year ended July 31, 1997.
The Company determined that the first-in, first-out method was preferable for
matching costs with income. The effect of this change in accounting method
was immaterial to the consolidated financial statements. For valuing
CNG-related inventory, cost is determined on the first-in, first-out basis.
2. PROPERTY, PLANT AND EQUIPMENT, LEASE RIGHTS AND CONSULTING SERVICES
CONTRACTS
Property, plant and equipment are recorded at cost. Assets are depreciated
and amortized using the straight-line method over their estimated useful lives
as follows:
LPG terminal, building and leasehold
improvements 10 years
Automobiles 3-5 years
Furniture, fixtures and equipment 3-7 years
Trailers 8 years
The lease rights, consulting services and service contracts are being
amortized as follows:
Lease rights 10 years
Consulting services (note D) 41 - 48 months
Financial advisory services (note G) 12 months
Legal services (note G) 36 months
Maintenance and repair costs are charged to expense as incurred, and renewals
and improvements that extend the useful life of the assets are added to the
property, plant and equipment accounts.
The Financial Accounting Standards Board (FASB) has issued 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",
effective for fiscal years beginning after December 15, 1995. The provisions
of SFAS 121 require the Company to review long-lived assets and certain
identifiable intangibles for impairment whenever events or changes in
circumstances indicate that the carrying amount of an asset may not be
recoverable. If it is determined that an impairment has occurred, the amount
of the impairment is charged to operations. No impairments were recognized.
PENN OCTANE CORPORATION AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE B - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES - CONTINUED
3. INCOME TAXES
The Company will file a consolidated income tax return for the year ended July
31, 1997. Penn Wilson will be included for the period from February 12, 1997
through July 31, 1997.
The Company accounts for deferred taxes in accordance with Statement of
Financial Accounting Standards No. 109 (SFAS 109), "Accounting for Income
Taxes". Under the liability method specified by SFAS 109, deferred tax assets
and liabilities are determined based on the difference between the financial
statement and tax bases of assets and liabilities as measured by the enacted
tax rates which will be in effect when these differences reverse. Deferred
tax expense is the result of changes in deferred tax assets and liabilities.
The principal types of differences between assets and liabilities for
financial statement and tax return purposes are accumulated depreciation,
start up costs, amortization of professional fees and deferred compensation
expense.
4. LOSS PER COMMON SHARE
Loss per share of common stock is computed based solely on the weighted
average number of shares outstanding because the Company incurred losses in
each of the three years presented; therefore, giving effect to common stock
equivalents would be antidilutive. Fully diluted loss per share of common
stock assumes the conversion of preferred stock and is only presented in
periods where such computation results in dilution greater than 3% of primary
earnings (loss) per share of common stock.
The FASB issued Statement of Financial Accounting Standards No. 128 (SFAS
128), Earnings Per Share, which supersedes Accounting Principles Board Opinion
No. 15 (APB 15), Earnings Per Share. The statement is effective for financial
statements issued for periods ending after December 15, 1997, including
interim periods. Early adoption is not permitted. The Company does not expect
a material change in earnings per share data as a result of adopting SFAS 128.
5. CASH EQUIVALENTS
For purposes of the cash flow statement, the Company considers cash in banks
and securities purchased with a maturity of three months or less to be cash
equivalents.
6. USE OF ESTIMATES
The preparation of financial statements in conformity with generally accepted
accounting principles requires the Company to make estimates and assumptions
that affect the reported amounts of assets and liabilities, the disclosure of
contingent assets and liabilities at the date of the financial statements and
the reported amounts of revenues and expenses during the reporting period.
Actual results could differ from those estimates.
PENN OCTANE CORPORATION AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE B - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES - CONTINUED
7. FAIR VALUE OF FINANCIAL INSTRUMENTS
Statement of Financial Accounting Standards No. 107 (SFAS 107), "Disclosures
about Fair Value of Financial Instruments", requires the disclosure of fair
value information about financial instruments, whether or not recognized on
the balance sheet, for which it is practicable to estimate the value. SFAS
107 excludes certain financial instruments from its disclosure requirements.
Accordingly, the aggregate fair value amounts are not intended to represent
the underlying value of the Company. The carrying amounts of cash and cash
equivalents, current receivables and payables and long-term liabilities
approximate fair value because of the short-term nature of these instruments.
8. REVENUES AND COST RECOGNITION
Certain of the Companys work is performed under fixed-price contracts.
Revenues are recognized on the percentage-of-completion method, measured by
the percentage of total costs incurred to date to estimated total costs for
each contract. This method is used because management considers expended
costs to be the best available measure of progress on these contracts.
Contracts in progress at July 31, 1997 are for a duration of less than one
year.
Contract costs include all direct materials and labor costs and those indirect
costs related to contract performance, such as indirect labor, supplies, tools
and repair costs. General and administrative costs are charged to expense as
incurred. Provisions for estimated losses on uncompleted contracts are made
in the period in which such losses are determined. Changes in job
performance, job conditions, and estimated profitability, including those
arising from contract penalty provisions, and final contract settlements may
result in revisions to costs and income. These revisions are recognized in
the period in which the revisions are determined.
The asset, Costs and estimated earnings in excess of billings on uncompleted
contracts, represents revenues recognized in excess of amounts billed. The
liability, Billings in excess of cost and estimated earnings on uncompleted
contracts, represents billings in excess of revenues recognized.
9. STOCK-BASED COMPENSATION
In October 1995, the Financial Accounting Standards Board issued Statement of
Financial Accounting Standards No. 123 (SFAS 123), Accounting for Stock-Based
Compensation, which establishes financial accounting and reporting standards
for stock-based employee compensation plans and for transactions in which an
entity issues its equity instruments to acquire goods and services from
nonemployees.
PENN OCTANE CORPORATION AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE B - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES - CONTINUED
9. STOCK-BASED COMPENSATION-CONTINUED
The Company has elected under the guidance provided by SFAS 123 to continue to
account for employee stock-based compensation using the intrinsic value method
prescribed in Accounting Principles Board Opinion No. 25 (APB 25), Accounting
for Stock Issued to Employees and related Interpretations.
10. RECLASSIFICATIONS
Certain reclassifications have been made to prior year balances to conform to
the current presentation.
NOTE C - COMPRESSED NATURAL GAS
ACQUISITION OF ASSETS FROM WILSON TECHNOLOGIES INCORPORATED
- -----------------------------------------------------------------
In connection with POCs plans to enter the CNG fueling business, on March 7,
1997, PennWilson and Wilson Technologies Incorporated (Wilson), a leading
supplier of CNG fueling stations engaged in the business of selling,
designing, constructing, installing and servicing CNG fueling stations and
related products for use in the CNG industry throughout the world, entered
into an Interim Operating Agreement (the Arrangement). Under the terms of the
Arrangement, effective as of February 17, 1997, PennWilson was granted the
right to use the Wilson name, technology and employees, subject to certain
restrictions, as well as rights to perform contracts which Wilson had not
begun to perform, in exchange for monthly payments of $84,000, and royalty
payments not to exceed $3,000,000 cumulatively, less certain adjustments, if
any, based on 5% of net revenues. The arrangement provided that PennWilson
was entitled to all revenues earned by PennWilson and by certain businesses of
Wilson commencing as of February 17, 1997. In addition, Zimmerman Holdings
Inc. (ZHI), the parent of Wilson, agreed to reimburse the Company for 50% of
the net operating cash deficit of PennWilson, if any. In carrying out the
business, PennWilson was also entitled to use the Wilson premises as well as
available inventory of Wilson at cost plus 10% or any other amount mutually
agreed upon by PennWilson and Wilson. The Arrangement was to have terminated
on the earlier to occur of 90 days from the date of the Arrangement or the
closing of the Acquisition described below. If the Acquisition was not
completed within 90 days, the Arrangement could be extended by PennWilson for
up to three years.
PENN OCTANE CORPORATION AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE C - COMPRESSED NATURAL GAS - CONTINUED
ACQUISITION OF ASSETS FROM WILSON TECHNOLOGIES INCORPORATED - Continued
- -----------------------------------------------------------------
Simultaneously with the Arrangement, POC, PennWilson, Wilson and ZHI entered
into a purchase agreement (the Acquisition), whereby PennWilson would acquire
certain assets, including trademarks and licenses, and certain ongoing
businesses of Wilson, in exchange for the assumption of certain liabilities, a
$3,000,000 contingent royalty note, a promissory note based upon certain
operating expenses and a $220,000 convertible debenture issued by POC. The
Acquisition was subject to several conditions, including obtaining
satisfactory restructuring of all of Wilsons creditor obligations including
the consent of such creditors to the proposed Acquisition.
Effective as of March 21, 1997, the Arrangement was amended (the Amendment) so
that PennWilson agreed to acquire $394,000 of Wilsons inventory and/or other
assets to be paid for through the application of $294,000 previously paid
under the Arrangement, plus other adjustments. In addition, PennWilson issued
a promissory note in the amount of $100,000 to Wilson which is payable in
equal annual installments of $20,000 plus interest at the prime rate (8.5% at
July 31, 1997) beginning June 5, 1998. Furthermore, the cumulative royalty to
be paid to Wilson was reduced from $3,000,000 to $2,000,000, less certain
adjustments. Also under the Amendment, effective June 1, 1997, the Company
ceased making the monthly payment and assumed direct responsibility for
expenses relating to the operation of Wilsons facilities, including the lease
of the premises and the hiring of certain employees formerly employed by
Wilson. Pursuant to the Amendment, and except as provided for therein, the
Arrangement and Acquisition were terminated effective as of March 21, 1997.
The acquisition was accounted for as a purchase. Accordingly, the results of
operations of PennWilson are included in the consolidated financial statements
from the effective date of the acquisition.
Proforma operating results for the years ended July 31, 1997 and 1996, as if
the acquisition had been completed on August 1, 1995, are not available.
However, WTIs revenues for the period from August 1, 1995 to March 21, 1997
were not significant.
PENN OCTANE CORPORATION AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE D - RELATED PARTIES
DIRECTORS, OFFICERS AND SHAREHOLDERS
- ---------------------------------------
During the year ended July 31, 1996, POC made advances to, and received
advances from, three of the Company's nine directors. As of July 31, 1996, a
director owed the Company a balance of $26,233 for interest on loans that the
Company made to the director's related businesses. All previous loans and
receivables from the director had been settled as of July 31, 1996 and the
interest receivable referred to above was settled as of July 31, 1997.
In March 1996 and April 1996, the Company received $500,000 loans from two
shareholders. The notes bear interest at 10% and had accrued interest at
July 31, 1996 of $20,833 and $15,000, respectively, and accrued interest at
July 31, 1997 of $17,594 and $15,068, respectively. During the year ended
July 31, 1997, the Company paid interest totaling $98,794 and reduced the
principal balance outstanding by $100,000. During September and October 1997,
the Company repaid the amount owing on the loans (note K).
During March 1997, the Company received advances from its President in the
amount of $85,000. This amount was repaid during April 1997.
As of July 31, 1997, the Company had a receivable from a corporation owned by
an officer of the Company in the amount of $171,601 of which approximately
$130,000 was repaid in September 1997 (see note L for other related party
transactions).
PENN OCTANE CORPORATION AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE D - RELATED PARTIES- Continued
COMMISSION AGREEMENT
- ---------------------
During the year ended July 31, 1994, the Company entered into a commission
agreement with a consulting firm covering a forty-one month period. The firm
assisted the Company in its efforts to negotiate purchase orders with its
major customer. The former Chairman of the Company is related to a person in
the consulting firm who had a decision-making role.
On March 1, 1995, the consulting firm accepted 200,000 shares of the Company's
common stock in lieu of any future commissions due under the original
agreement signed on February 10, 1994. The stock was valued at $400,000
($2.00 per share). The consulting firm remained liable for the services to be
performed; therefore, the $400,000 was being amortized over the remaining life
of the original agreement.
On July 31, 1996, the Company determined that no future benefit would be
derived from the consulting services contract, and the remaining balance was
charged to operations.
NOTE E - PROPERTY, PLANT AND EQUIPMENT
Property, plant and equipment consists of the following as of July 31,:
1996 1997
------------- -------------
LPG:
Building $ 173,500 $ 173,500
LPG terminal 3,426,440 3,426,440
Automobile and equipment 389,431 378,039
Office equipment 17,589 22,202
Leasehold improvements 220,629 237,899
CNG:
Furniture, fixtures and equipment - 162,161
Automobiles - 40,023
Leasehold improvements - 8,575
------------- -------------
4,227,589 4,448,839
Less: accumulated depreciation and
amortization ( 832,439) ( 1,263,691)
------------- -------------
$ 3,395,150 $ 3,185,148
============= =============
Depreciation and amortization expense of property, plant and equipment totaled
$378,431, $414,412 and $448,019 for the years ended July 31, 1995, 1996 and
1997, respectively.
PENN OCTANE CORPORATION AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE F - INVENTORIES
Inventories consist of the following as of July 31:
1996 1997
------------ ---------
LPG
Pipeline $ 413,820 $ 406,371
LPG terminal 31,231 86,180
CNG
Raw material and supplies - 199,519
Work in progress - 103,727
------------ ---------
$ 445,051 $ 795,797
============ =========
Costs and estimated earnings on uncompleted contracts consist of the following
at July 31, 1997:
Uncompleted contracts consist of:
Costs incurred on uncompleted contracts $ 488,560
Estimated earnings 101,294
----------
589,854
Less: billings to date 400,562
----------
189,292
==========
Included in the accompanying balance sheet under the
following captions:
Costs and estimated earnings in excess of
billings on uncompleted contracts $ 196,888
Billings in excess of costs and estimated
earnings on uncompleted contracts ( 7,596)
----------
189,292
==========
PENN OCTANE CORPORATION AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE G - OTHER ASSETS
On August 25, 1995, the Company entered into a one year contract with an
investment advisory firm for future financial advisory services in exchange
for 20,000 shares of common stock. In February 1996, an attorney exercised
his 100,000 warrants to purchase 100,000 shares of common stock for $1.25 per
share in exchange for legal services for a three year period.
On July 31, 1996, the Company determined that the attorney would not be
required to render future services. The Company has retained another
attorney; therefore, the remaining balance was charged to operations. Other
assets consist of the following at July 31:
1996 1997
-------- --------
Prepaid compensation cost $ 30,000 $ 18,000
Other 15,421 11,935
-------- --------
45,421 29,935
======== ========
NOTE H - SHORT-TERM BORROWING
The Company had short-term borrowings of $672,552 from International Bank of
Commerce-Brownsville as of July 31, 1997 and 1996 (note N).
PENN OCTANE CORPORATION AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE I - INCOME TAXES
At July 31, 1997, the approximate amount of net operating loss carryforwards
and expiration dates for U.S. income tax purposes were as follows:
Year ending Tax Loss
July 31 Carryforward
- ----------- -------------
2009 $ 930,000
2010 2,370,000
2012 2,048,000
-------------
$ 5,348,000
=============
Deferred tax assets and liabilities were as follows as of July 31,:
1996 1997
Assets Liabilities Assets Liabilities
Depreciation $ 20,000 $ - $ 15,000 $ -
Capitalized start-up costs 5,000 - 3,000 -
Warranty reserves - - 1,000 -
Bad debt reserve 11,000 - 19,000 -
Amortization of professional fees 112,000 - 58,000 -
Deferred compensation expense 12,000 - 318,000 -
Net operating loss carryforward 1,122,000 - 1,818,000 -
---------- ------------ ---------- ------------
1,282,000 - 2,232,000 -
Less: valuation allowance 1,282,000 - 2,232,000 -
---------- ------------ ---------- ------------
$ - $ - $ - $ -
========== ============ ========== ============
Management believes that the valuation allowance reflected above is
warranted because of the uncertainty that sufficient taxable income will be
generated in future taxable years by the Company to absorb the entire amount
of such net operating losses.
PENN OCTANE CORPORATION AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE J - CONSTRUCTION PAYABLES
As of July 31, 1995, two companies: Lauren Constructors, Inc. (Lauren) and
Thomas G. Janik & Associates, Inc. (Janik), had filed Mechanic's and
Materialmen's Liens against the Company's Brownsville terminal. The Company
was in litigation with Lauren and Janik but the parties reached a settlement
agreement on June 21, 1995. Under the terms of the settlement agreement, the
parties agreed to stay the pending legal proceedings provided the Company
adhered to an agreed-upon payment schedule. The minimum monthly payment due
according to the payment schedule was $34,445, which included interest at 12%
per annum. In addition, the agreement provided for additional payments
related to the monthly volume of gallons of LPG sold by the Company through
its Brownsville terminal. At July 31, 1996, the principal amount owed Lauren
and Janik was $360,145 and $77,689, respectively. Under terms of the
settlement agreement, the Company was to have paid the remaining balance on
August 15, 1996. The Company did not make the required payment but because
the Company had complied with all other terms and conditions of the settlement
agreement and had made combined principal and interest payments of $984,480 to
Lauren and Janik, the parties agreed to extend the settlement agreement to
April 14, 1997, under substantially similar terms and conditions. In exchange
for this extension, the Company made an immediate lump sum payment of
approximately $50,000 and executed a promissory note for the remaining balance
due. In addition, the Company provided Lauren and Janik a first lien position
on the improvements at the Brownsville terminal and a mortgagee's title policy
for the full amount of the principal and accrued interest remaining due. If
the entire amount due Lauren and Janik was not paid by April 14, 1997, the
Company would be considered to be in breach of the agreement and the interest
rate would escalate to 18% or the maximum rate allowed by law, whichever is
lower.
During April 1997, Janik agreed to exercise 25,000 warrants to purchase 25,000
shares of common stock of the Company at an exercise price below the stated
exercise price of $2.50 per share, and the Company agreed to accept in lieu of
cash payment on the exercise of the warrants, full cancellation of the
remaining approximately $46,000 principal amount of indebtedness and interest
thereon due Janik. In connection with the remaining obligation owed to Lauren
of approximately $212,000, which was due in April 1997, the Company and Lauren
reached an agreement whereby the Company paid Lauren $100,000 in April 1997,
and the remaining balance was paid in four equal monthly installments during
the period from May 15, 1997 through August 15, 1997.
PENN OCTANE CORPORATION AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE K - LONG-TERM DEBT
Long-term debt consists of the following as of July 31:
1996 1997
Contract for Bill of Sale; due in semi-annual payments of $22,469, including
interest at 11.8%; due in October 1998; collateralized by a building $ 143,915 $ 113,191
Subordinated note with warrants to purchase 50,000 shares of common
stock at $2.50 per share expiring February 28, 2001; principal due August
31, 1997, or upon receipt of proceeds from secondary equity offering in the
minimum amount of $5,000,000; interest at 10% due annually on the
anniversary date of the note; collateralized by all tanks, pumps, equipment
and other terminal property, and proceeds from a judgment or settlement
of litigation (Paid in September 1997) 500,000 400,000
Subordinated note with warrants to purchase 50,000 shares of common
stock at $2.50 per share expiring April 11, 2001; principal due October 11,
1997, or upon receipt of proceeds from secondary equity offering in the
minimum amount of $5,000,000; interest at 10% due annually on the
anniversary date of the note; collateralized by all tanks, pumps, equipment
and other terminal property and proceeds from the judgment or settlement
of litigation (Paid in October 1997) 500,000 500,000
Unsecured note with warrants to purchase 75,000 shares of common stock
at $3.00 per share expiring October 10, 1997; principal due November 7,
1997, or upon receipt of proceeds from offering of securities prior to
payment date in excess of $250,000; Company shall utilize one half of
proceeds from such sale to satisfy this note; interest at 10% due annually on
the anniversary date of the note (Paid in August 1997) - 75,000
Unsecured note with principal due in equal annual installments of $20,000
beginning June 5, 1998, plus interest at the prime rate (8.5% at July 31,
1997); due June 5, 2002 - 100,000
Unsecured promissory note due May 29, 1998 - 33,000
Secured promissory note with warrants to purchase 500,000 shares of
common stock at $2.50 per share expiring June 15, 2002; principal due June
15, 1999, or upon receipt of proceeds from secondary debt or equity
offering in the minimum amount of $5,000,000; interest at 10.5% due semi-
annually on December 15 and June 15; collateralized by certain specified
assets of the Company - 1,000,000
Capitalized lease obligations payable in monthly installments totaling
3,138; due on various dates through January 1999 - 44,033
---------- ----------
1,143,915 2,265,224
Current maturities 83,871 1,152,391
---------- ----------
$1,060,044 $1,112,833
========== ==========
PENN OCTANE CORPORATION AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE K - LONG-TERM DEBT - CONTINUED
Scheduled maturities are as follows:
Year ending July 31,
- --------------------
1998 $1,152,391
1999 1,052,833
2000 20,000
2001 20,000
2002 20,000
----------
$2,265,224
==========
In December 1995, the Company obtained a revolving line of credit for
$140,000. The credit line was renewed in December 1996 for the period
through September 30, 1997. Interest is calculated on this credit line at the
prime rate (8.5% at July 31, 1997) plus 3%. At July 31, 1997, the outstanding
balance under the revolving line of credit totaled $140,000.
NOTE L - STOCKHOLDERS' EQUITY
SENIOR PREFERRED STOCK
- ------------------------
At the 1997 Annual Meeting of Stockholders of the Company held on May 29,
1997, the stockholders authorized the amendment of the Companys Restated
Certificate of Incorporation to authorize 5,000,000 shares, $.01 par value per
share, of a new class of senior preferred stock for possible future issuance
in connection with acquisitions and general corporate purposes, including
public or private offerings of shares for cash and stock dividends. The Board
of Directors has made no determination with respect to the issuance of any
shares of the new preferred stock and has no present commitment, arrangement
or plan which would require the issuance of such additional shares of new
preferred stock in connection with any equity offering, merger, acquisition or
otherwise.
PENN OCTANE CORPORATION AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE L - STOCKHOLDERS EQUITY - CONTINUED
PREFERRED STOCK
- ----------------
On September 18, 1993, the Company entered into a private placement offering
for the sale of 150,000 shares of its $.01 par value, 11% convertible,
cumulative to the extent of net earnings, non-voting preferred stock at a
purchase price of $10.00 per share. The Company has had no earnings to date
and therefore no dividends have been declared or paid. The preferred stock is
convertible, at the option of the holder for a period of 5 years, into common
voting shares of the Company at a conversion ratio of one share of preferred
stock for 3.333 shares of common stock. The preferred stock is not redeemable
by the Company. On September 10, 1997, the Board of Directors of the Company
approved the issuance of an additional 100,000 shares of common stock as an
inducement for the preferred shareholders to convert the shares of preferred
stock under certain circumstances.
COMMON STOCK
- -------------
On September 29, 1994, the Company issued 300,000 common shares at
approximately $2.25 per share in exchange for partial payment of a promissory
note to a shareholder.
On January 31, 1995, the Company issued 300,000 common shares at
approximately $2.42 per share in exchange for full payment of a promissory
note to a shareholder.
Effective March 1, 1995, the Company issued 200,000 common shares at $2.00 per
share to the Company's sales agent in exchange for canceling the original
agreement which was to have expired June 30, 1998. The value assigned to the
commission agreement was being amortized over the life of the original
agreement.
On April 12, 1995 and April 19, 1995, the Company issued 150,000 and 100,000
common shares.
On May 15, 1995, one shareholder converted 30,000 preferred shares to 100,000
common shares.
On July 5, 1995, the Company issued 165,000 common shares at $2.00 per share
to a new shareholder in exchange for promissory notes. The notes were paid in
full on August 23, 1995.
PENN OCTANE CORPORATION AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE L - STOCKHOLDERS EQUITY - CONTINUED
On August 25, 1995, the Company issued 20,000 shares of common stock to an
investment advisory firm as compensation for financial advisory services to be
provided for a period of one year. As additional compensation, the firm was
to receive a "cash success" fee and common stock warrants based on capital
raised.
On February 16, 1996, the Company allowed the holder of 100,000 of the
Company's $1.25 per share warrants to convert the warrants into common stock
in exchange for a three year retainer contract for future legal fees.
On February 26, 1996, the Company granted 330,000 warrants to a director to
purchase 330,000 shares of common stock for $2.50 per share through February
8, 2000, in exchange for advisory services during that period.
On February 26, 1996, the Company granted 200,000 warrants to the new Chairman
of the Board to purchase 200,000 shares of common stock for $2.50 per share
through February 29, 2000.
On July 16, 1996, the Company issued 20,000 shares of common stock as
settlement for consulting services previously accrued during the year ended
July 31, 1995.
In November 1996, the Company issued 100,000 warrants to a third party to
obtain the rights to construct, own and operate a Dina dealership in Mexico.
Grupo Dina, S.A. de C.V. (Dina) is one of the largest bus and truck
manufacturers in Mexico.
In January 1997, the Company issued 10,000 shares of common stock to an
advertising firm for services provided.
During February 1997, the Company and certain prior officers of the Company
(the Officers) agreed to an exchange offer whereby the Officers, on a weighted
average basis, received 164,286 shares of the Companys common stock in
exchange for 702,856 outstanding warrants to purchase 702,856 shares of common
stock of the Company. The warrants were canceled.
During March 1997, the Company reduced from $5.00 per share to $2.50 per share
the exercise price of 100,000 warrants to purchase 100,000 shares of common
stock of the Company held or controlled by a director of the Company.
During March 1997, the Company approved the issuance of 200,000 warrants to
purchase 200,000 shares of common stock of the Company to a director and
officer of the Company, at an exercise price of $3.625 per share, exercisable
on or before March 24, 2000. As a bonus for the year ended July 31, 1997, on
September 10, 1997, the Company reduced the exercise price of the warrants to
$2.50 per share.
PENN OCTANE CORPORATION AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE L - STOCKHOLDERS EQUITY - CONTINUED
During March 1997, the Company approved the issuance of 200,000 warrants to
purchase 200,000 shares of common stock of the Company to a director and
officer of the Company upon his one-year anniversary of employment with the
Company. The exercise price of the warrants was to be based on the closing
stock price the day prior to the issuance of the warrants and are exercisable
three years from the date of issuance. On September 10, 1997, the Company
agreed to waive the one year requirement and immediately granted the warrants
as a bonus for the year ended July 31, 1997 at an exercise price of $2.50 per
share exercisable on or before September 9, 2000.
During March 1997, a related party exercised 15,000 warrants to purchase
15,000 shares of common stock of the Company at an exercise price of $2.50 per
share. The consideration for the exercise of the warrants included $150 in
cash and a $37,350 promissory note. The note accrues interest at the rate of
8.25% per annum to be paid annually on March 26 until the note is due in full
on March 26, 2000. The promissory note has been recorded as a reduction of
stockholders equity.
In April 1997, 250,000 warrants were exercised for 250,000 shares of common
stock of the Company in exchange for the cancellation of $250,000 in
outstanding notes plus accrued interest thereon, and a cash payment received
by the Company of $188,438.
During April 1997, Janik agreed to exercise 25,000 warrants to purchase 25,000
shares of common stock of the Company (note J).
During April 1997, the Companys President exercised 2,200,000 warrants to
purchase 2,200,000 shares of common stock of the Company at an exercise price
of $1.25 per share. The consideration for the exercise of the warrants
included $22,000 in cash and a $2,728,000 promissory note. The note accrues
interest at the rate of 8.25% per annum and is payable annually on April 11
until maturity on April 11, 2000. The promissory note is collateralized by
1,000,000 shares of common stock of the Company owned by the President and has
been recorded as a reduction of stockholders equity.
During April 1997, an additional 300,000 warrants to purchase 300,000 shares
of common stock of the Company at an exercise price of $1.25 per share were
exercised by a director of the Company and other third parties.
During June 1997, in connection with the Secured Note, the Company approved
the issuance of 500,000 warrants to purchase 500,000 shares of common stock of
the Company (note K).
In August 1997, 75,000 warrants to purchase 75,000 shares of common stock of
the Company were exercised in exchange for cancellation of a $75,000 note
payable, plus accrued interest thereon, and a cash payment to the Company of
$56,250.
PENN OCTANE CORPORATION AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE L - STOCKHOLDERS EQUITY - CONTINUED
During September 1997, an additional 430,000 warrants to purchase 430,000
shares of common stock of the Company were exercised by a director of the
Company (130,000) and other third parties at an exercise price of $2.50 per
share resulting in a cash payment received by the Company of $1,075,000. In
connection with the exercise of 100,000 of these warrants (the Exercised
Securities), the Company entered into a Registration Rights Agreement,
agreeing to register the Exercised Securities on or before February 1, 1998.
In the event the Company fails to register the Exercised Securities by
February 1, 1998, for each month beginning March 1, 1998 and ending on
September 1, 1998, the Company will be required to issue the holder of the
Exercised Securities warrants to purchase 10,000 shares of common stock of the
Company at an exercise price of $2.50 per share, exercisable within one year
from the date of issuance.
NOTE M - STOCK WARRANTS
The Company applies APB 25 for warrants granted to the Companys employees.
The compensation cost recorded in the consolidated statements of operations
for warrants granted to employees totaled $0, $0 and $837,600 for the years
ended July 31, 1995, 1996 and 1997, respectively.
Had compensation cost related to the warrants granted to employees been
determined based on the fair value at the grant dates, consistent with the
methodology of SFAS 123, the Company?s pro forma net loss and loss per share
would have been as follows for the year ended July 31, 1997:
Net loss as reported $( 2,922,659)
Net loss proforma ( 3,054,615)
Loss per common share as reported ( 0.48)
Loss per common share proforma ( 0.50)
PENN OCTANE CORPORATION AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE M - STOCK WARRANTS - Continued
The following assumptions were used for two grants of warrants to
employees in the year ended July 31, 1997 to compute the fair value of the
warrants using the Black-Scholes option-pricing model: dividend yield of 0%
for both grants; expected volatility of 95% and 90%; risk-free interest rate
of 7% for both grants; and expected lives of 3 years for both grants.
For warrants granted to nonemployees, the Company applies the methodology
of SFAS 123 to determine the fair market value of the warrants issued. Costs
associated with warrants granted to nonemployees for the years ended July 31,
1995, 1996 and 1997, totaled $0, $36,000, and $92,185, respectively. Warrants
granted to nonemployees simultaneously with the issuance of debt are accounted
for based on the guidance provided by Accounting Principles Board Opinion No.
14 (APB 14), ?Accounting for Convertible Debt and Debt Issued with Stock
Purchase Warrants?.
A summary of the status of the Company?s warrants as of July 31, 1995,
1996 and 1997, and changes during the years ending on those dates is presented
below:
1995 1996 1997
Warrants Shares Weighted Shares Weighted Shares Weighted
Average Average Average
Exercise Price Exercise Price Exercise Price
Outstanding at beginning of year 2,980,000 $ 1.25 4,150,000 $ 1.66 4,680,000 $ 1.84
Granted 1,170,000 2.71 630,000 2.90 1,325,000 2.66
Exercised - (100,000) 1.25 (3,492,856) 1.55
Expired - - (297,144) 2.56
Outstanding at end of year 4,150,000 $ 1.66 4,680,000 $ 1.84 2,215,000 $ 2.61
Warrants exercisable at year-end 4,150,000 4,680,000 2,015,000
The following table summarizes information about the warrants outstanding
at July 31, 1997:
Warrants Outstanding Warrants Exercisable
Weighted
Number Average Weighted Number Weighted
Outstanding Remaining Average Exercisable Average
at Contractual Exercise at Exercise
Range of Exercise Prices July 31, 1997 Life Price July 31, 1997 Price
- ------------------------- ------------- ----------- --------- ------------- ---------
1.25 to $3.00 2,165,000 2.53 years $ 2.49 1,965,000 $ 2.49
7.50 50,000 .25 7.50 50,000 7.50
------------- -------------
1.25 to $7.50 2,215,000 2.48 $ 2.61 2,015,000 $ 2.61
============= =============
PENN OCTANE CORPORATION AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE N - COMMITMENTS AND CONTINGENCIES
LITIGATION
During 1994, the Company entered into discussions with International Bank of
Commerce-Brownsville (IBC), a Texas state banking association, for a proposed
letter of credit, term loan, and working capital financing. In anticipation
of receiving funding, the Company executed various documents including a
Security Agreement dated July 1, 1994, assigning and granting to IBC a
security interest in significantly all of the Company's business and assets,
including its pipeline lease agreement, its leased land at the Port of
Brownsville, its terminal facilities and related equipment, inventories and
all contracts and accounts receivable.
Beginning July 1, 1994, IBC advanced the Company directly or made payments
directly to certain of the Company's creditors a total of $1,507,552 against
the collateral. On August 5, 1994, IBC notified the Company that it would not
honor certain of the Company's checks but would continue to honor its
irrevocable letters of credit issued on behalf of the Company.
On August 24, 1994, the Company filed an Original Petition and Application for
Injunctive Relief against IBC seeking 1) either enforcement of the credit
facility between the Company and IBC or a release of the Company's collateral
consisting of significantly all of the Company's business and assets, 2)
declaratory relief with respect to the credit facility and 3) an award for
damages and attorney's fees.
In response to the Company's request for injunctive relief, IBC filed a motion
on August 29, 1994, to compel arbitration and to stay the proceedings. On
September 12, 1994, a State District Court in Cameron County, Texas signed an
order compelling the Company and IBC to resolve all of the Company's claims
against IBC in final arbitration. The arbitration was conducted through the
American Arbitration Association, Commercial Arbitration No. B 70 148 0133 94
A.
On November 3, 1994, IBC filed a Responsive Pleading in Arbitration alleging
that there was no loan agreement between the Company and IBC. In addition,
IBC requested that the arbitrators declare that IBC was not liable to the
Company as alleged, and that IBC was entitled to an award of $25,000,000 for
Business Disparagement/Defamation and $100,000,000 in Punitive Damages plus
reasonable attorney's fees.
On November 7, 1994, the Company and IBC agreed to a partial release of
certain collateral (accounts receivable) after the Company made cumulative
payments through that date to IBC totaling $800,000. The remaining unpaid
balance to IBC at that date totaled $672,552, excluding interest ($30,448) and
fees ($39,853).
On May 5, 1995, IBC filed a First Amended Responsive Pleading in Arbitration
again alleging there was no loan agreement between the Company and IBC and
requesting damages in excess of $750,000 plus $3,500,000 for Business
Disparagement/Defamation plus an amount of Punitive Damages to be determined
by the trier of fact.
PENN OCTANE CORPORATION AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE N - COMMITMENTS AND CONTINGENCIES - Continued
The arbitration hearing, held before a panel of three neutral arbitrators,
commenced on July 19, 1995 and concluded on August 2, 1995. On October 10,
1995, the Company received notification of the Award of Arbitrators (Award)
which called for IBC to pay to the Company the sum of (a) $3,246,754 for
Breach of Contract and (b) attorneys' fees of $568,000. In addition, the
Award stated that IBC was entitled to an offset of (a) the sum of $804,016 and
(b) attorneys' fees of $200,000 on IBC's counterclaim against the Company for
Breach of Contract. Both parties' awards accrue post-award interest at 9.75%
compounded annually.
On February 28, 1996, after hearing and denying IBC-Brownsville's motion to
vacate the arbitration award, the following judgment was ordered:
International Energy Development Corporation n/k/a Penn Octane
Corporation shall have a judgment against International Bank of
Commerce-Brownsville in the sum of $2,810,737, plus post-award interest at a
rate of 9.75% compounded annually to begin running 10 days after the date the
award was signed by the requisite number of arbitrators (September 21, 1995)
to the entry of this Judgment and thereafter at the statutory rate.
Upon the entry of this Judgment International Bank of
Commerce-Brownsville shall release all collateral transferred to it by
International Energy Development Corporation n/k/a Penn Octane Corporation.
The Court further ordered that International Energy Development
Corporation n/k/a Penn Octane Corporation shall have and recover from
International Bank of Commerce-Brownsville attorney's fees in the sum of
$100,000 for services rendered in pursuing the entry of Judgment in this case,
together with interest at the statutory rate from date of entry of this
Judgment until paid and conditionally $7,500 for any appeal to the Court of
Appeals and $5,000 for any appeal to the Texas Supreme Court and $2,500 in the
event Writ is granted by the Supreme Court.
On June 3, 1996, IBC filed an appeal, but the Company continues to believe
that the judgment is final, binding, collectible and will resolve the
litigation with IBC.
The financial statements do not include any adjustments reflecting the gain
contingency of the Award, net of attorney's fees, or the offset (principal and
interest). Short-term borrowing of $672,552 and accrued interest of $191,192
reflect the amount of the offsets at July 31, 1997. The Award will be
accounted for when it is actually realized and the offset will be accounted
for at the time IBC has exhausted all appeals.
A former officer of the Company is entitled to a payment of 5% of the net
proceeds (after expenses and legal fees) received by the Company arising from
the above-mentioned litigation.
PENN OCTANE CORPORATION AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE N - COMMITMENTS AND CONTINGENCIES - Continued
On April 18, 1996, the Company reached agreement to accept $400,000 to settle
a lawsuit it filed in October 1995 against International Bank of Commerce-San
Antonio, a bank related to IBC (IBC-San Antonio). As part of the settlement
agreement, the parties executed mutual releases from future claims related to
the IBC litigation. Additionally, the defendant provided an indemnity
agreement to the Company against future claims from IBC. The amount is
recorded in the statement of operations for the year ended July 31, 1996.
On June 26, 1996, IBC filed suit against the Company, Case No. 96-06-3502 in
the 357th Judicial District Court of Cameron County, Texas alleging that the
Company, in filing the Judgment against IBC in order to clear title to its
assets, slandered the name of IBC. IBC contends that the Company's Judgment
against them prevented them from selling certain property. IBC has claimed
actual damages of $600,000 and requested punitive damages of $2,400,000. On
September 23, 1996, the court which entered the Judgment on behalf of the
Company indicated in a preliminary ruling that the Company was privileged in
filing the Judgment to clear title to its assets. The Company believes the
case to be frivolous and is a breach of the settlement agreement entered into
with IBC-San Antonio. Further, the Company believes this cause of action is
covered by an indemnity agreement from IBC-San Antonio.
In connection with the lawsuit, IBC filed an appeal with the Texas Court of
Appeals on January 21, 1997. The Company responded on February 14, 1997. On
September 18, 1997, the appeal was heard by the Texas Court of Appeals.
On July 30, 1996, the Company filed suit in the District Court of Harris
County, Texas against the former Chairman of the Company, Jorge V. Duran,
regarding alleged conversion and fraud by Mr. Duran during his time as an
employee of the Company. The Company has not yet quantified its damages and
is seeking a declaration that the termination of employment of Mr. Duran was
lawful and within the rights of the Company based on Mr. Durans status as an
at-will employee of the Company. On December 12, 1996, Mr. Duran filed a
counterclaim against the Company in the District Court of Harris County, Texas
alleging, among other things, wrongful termination and seeking compensation in
an unspecified amount. On February 27, 1997, the two actions were
consolidated into one.
LETTERS OF CREDIT
In January 1996, the Company obtained a standby letter of credit in favor of a
propane supplier. The standby letter of credit is for $40,000 and expired
December 1, 1996. In August 1996, the Company obtained a $40,000 standby
letter of credit for another supplier. The letter of credit expired on
September 30, 1996.
PENN OCTANE CORPORATION AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE N - COMMITMENTS AND CONTINGENCIES - Continued
In connection with the Term Sale Agreement, in September 1996 the Company
obtained a $625,000 letter of credit in favor of its main propane supplier.
As part of the terms and conditions of this letter of credit, which was due to
expire September 30, 1997, the Company executed a $625,000 demand promissory
note to the issuing bank. The note was initially collateralized by a $500,000
deposit, accrued interest at the prime rate (8.25% as of October 31, 1996)
plus 3%, and was guaranteed by the Companys president.
On November 5, 1996, the Companys main propane supplier presented for payment
a $495,315 invoice, which was paid through the initial $500,000 collateral
deposit. After such payment, the balance available under the letter of credit
remained $625,000 and the remaining balance of the collateral deposit totaled
$4,685. In March 1997, the letter of credit, collateral and guaranty were
released.
During March 1997, the Company obtained a letter of credit in the amount of
approximately $251,000 in connection with the obligation of PennWilson to
complete certain work under contract by WTI to be performed by PennWilson.
During September 1997, the letter of credit was extended to November 26, 1997.
This letter of credit is guaranteed by the Companys president.
During June 1997, PennWilson entered into a performance and payment bond (the
Bonds) in connection with a contract to design, construct and install
equipment totaling approximately $1,487,000. The Bonds will remain
outstanding until the equipment is delivered to the customer, estimated to be
completed as prescribed under the contract in November 1997. There are no
liquidating damages under the contract.
OPERATING LEASE COMMITMENTS
The Company has lease commitments for its pipeline, land, office space and
office equipment. The pipeline lease requires fixed monthly payments of
$45,834 and monthly service payments of $8,690 through March 2004. The
service payments are subject to an annual adjustment based on a labor cost
index and an electric power cost index. The lessor has the right to terminate
the lease agreement under certain limited circumstances, which management
believes are remote, as provided for in the lease agreement at specific times
in the future by giving twelve months written notice. The Company can also
terminate the lease at any time after the first twelve months by giving thirty
days notice only if its sales agreement with its main customer is terminated.
The Company can also terminate the lease at any time after the fifth
anniversary date of the lease by giving twelve months notice. Upon
termination by the lessor, the lessor has the obligation to reimburse the
Company the lesser of 1) net book value of its liquid propane gas terminal at
the time of such termination or 2) $2,000,000.
PENN OCTANE CORPORATION AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE N - COMMITMENTS AND CONTINGENCIES - Continued
In May 1997, the Company reached an agreement to amend (the Amendment) its
lease agreement (the Seadrift Lease) with Seadrift Pipeline Corporation
(Seadrift), a subsidiary of Union Carbide Corporation, pursuant to which the
Company leases a pipeline running from Exxon USAs King Ranch Gas Plant in
Kleberg County, Texas (the Pipeline) to the fence line of certain property
owned by the Brownsville Navigation District of Cameron County, Texas. On the
effective date of the Amendment, the term of the Seadrift Lease will be
extended until March 31, 2013, and may provide, among other things, for
additional storage access, and inter-connection with another pipeline
controlled by Seadrift thereby providing greater access to and from the
Pipeline. Pursuant to the Amendment, the Companys fixed annual fee associated
with use of the Pipeline will increase by $350,000. Under certain conditions
described below, $250,000 and $125,000 of the annual fee will be waived for
the first two years, respectively, from the effective date of the Amendment.
The Amendment will become effective on the earlier of April 1, 1998 or the
date that Seadrift notifies the Company of the completion by the Company of
certain Pipeline enhancements, which, if undertaken, are anticipated to cost
no more than $5,000,000. The Amendment may also require the Company to make
available to Seadrift, under certain conditions, access to the Pipeline based
on specified volumes at specified rates.
The operating lease for the land requires semi-annual payments of $17,712
through October 1998, and gives the Company the option of one additional five
year term. In May 1997, the Company amended its lease with the Brownsville
Navigation District to include rental of additional space adjacent to the
existing terminal location. Effective April 15, 1997, the lease amount was
increased to $74,784 annually. The additional space will allow the Company to
develop additional storage, add railroad access to its storage facility and
facilitate port activities.
In May 1997, the Company renewed the lease for its executive offices located
in Redwood City, California. The monthly rental is $3,508 through June 1998.
Rent expense was $730,011, $773,847 and $781,750 for the years ended July 31,
1995, 1996 and 1997, respectively. As of July 31, 1997, the minimum
lease payments are as follows:
Year ending July 31,
- ---------------------
1998 $ 894,119
1999 710,973
2000 820,393
2001 900,835
2002 900,000
Thereafter 9,600,000
-----------
$13,826,320
===========
PENN OCTANE CORPORATION AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE N - COMMITMENTS AND CONTINGENCIES - Continued
The Company has not made all payments required by the lease agreements.
Approximately $65,000 is owed under the pipeline lease for reimbursement for
repairs to the pipeline made prior to the commencement of the lease. The July
and June 1997 monthly pipeline lease payments were paid in August 1997. The
lessor has not made demand for payment. The Company has included the amounts
owed in the accompanying consolidated balance sheet as trade accounts payable.
EMPLOYMENT CONTRACTS
The Company has a six year employment agreement with the President for the
period through January 31, 2001. Under that agreement, he is entitled to
receive $300,000 in annual compensation equal to a monthly salary of $25,000
until earnings exceed a gross profit of $500,000 per month, whereupon he is
entitled to an increase in his salary to $40,000 per month for the first year
of the agreement increasing to $50,000 per month during the second year of the
agreement. He is also entitled to (i) an annual bonus of 5% of all pre-tax
profits of the Company, (ii) 200,000 options for the purchase of 200,000
shares of Common Stock that can be exercised under certain circumstances at an
option price of $7.50 per share (giving effect to a 2-for-1 stock split on
June 10, 1994), and (iii) a term life insurance policy commensurate with the
term of employment agreement, equal to six times his annual salary and three
times his annual bonus. The employment agreement also entitles him to a right
of first refusal to participate in joint venture opportunities in which the
Company may invest, contains a covenant not to compete until one year from the
termination of the agreement and restrictions on use of confidential
information. Through July 31, 1997, he waived his rights to his full salary,
receipt of the stock options and the purchase by the Company of a term life
insurance policy. In the future, he may elect not to waive such rights.
Aggregate compensation under employment agreements totaled $196,000, $327,692
and $174,524 for the years ended July 31, 1995, 1996 and 1997, respectively,
which included agreements with former executives. Minimum salaries under the
remaining agreement amount to $300,000 per year.
PENN OCTANE CORPORATION AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE O - OPTION TO ACQUIRE NATIONAL POWER EXCHANGE GROUP, INC.
On October 30, 1994, the Company signed an agreement to sell its option to
purchase National Power Exchange Group, Inc. (NPEG) in exchange for a
promissory note of $2,000,000 to be paid over various periods no later than
January 1, 1996. A gain of $1,222,212 was recorded during the quarter ended
October 31, 1994, which reflected the settlement agreement discounted by the
Company's incremental borrowing rate less the funds advanced to NPEG during
the fiscal year ended July 31, 1994. NPEG made a payment of $300,000 during
the quarter ended January 31, 1995, and a payment of $200,000 during the
quarter ended October 31, 1995. Due to uncertainties related to the timing of
the financing of NPEG's power project, the Company made a provision to reduce
the amount due under the settlement agreement to $779,957 at July 31, 1995.
At October 31, 1995, the net amount due was $589,114. On April 5, 1996, NPEG
made a final payment of $600,000. In accordance with the settlement agreement
with two of the contractors involved in constructing the terminal, most of
these funds were used to reduce construction payables.
NOTE P - ACCOUNTS RECEIVABLE FACTORING AND SECURITY AGREEMENT
On October 24, 1994, the Company entered into an Accounts Receivable Factoring
and Security Agreement under which the Company submitted all invoices and was
advanced funds sufficient to pay for LPG purchases. As of July 31, 1995, the
Company and the factor negotiated an acceptable payoff schedule for the
outstanding balance due under the agreement. The principal balance of
$160,000 outstanding at July 31, 1995, was paid in August 1995.
NOTE Q - REALIZATION OF ASSETS
The accompanying financial statements have been prepared in conformity with
generally accepted accounting principles, which contemplate continuation of
the Company as a going concern. The Company has incurred losses since
inception, has used cash in operations and has a deficit in working capital.
In addition, the Company is involved in litigation, the outcome of which
cannot be determined at the present time. As discussed in Note A, the Company
has historically depended heavily on sales to one major customer. In
addition, there is no significant operating history on which to base the
results of the additional business generated through PennWilson or contracts
to purchase and sell propylene.
In view of the matters described in the preceding paragraph, recoverability of
a major portion of the recorded asset amounts as shown in the accompanying
consolidated balance sheet is dependent upon the collection of the Award, the
Company's ability to obtain additional financing and to raise additional
equity capital, and the success of the Company's future operations. The
financial statements do not include any adjustments related to the
recoverability and classification of recorded asset amounts or amounts and
classification of liabilities that might be necessary should the Company be
unable to continue in existence.
PENN OCTANE CORPORATION AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE Q - REALIZATION OF ASSETS-Continued
To provide the Company with the ability it believes necessary to continue in
existence, management is taking steps to 1) collect the Award, 2) increase
sales to its current customers, 3) increase its customer base, 4) expand its
product lines and 5) raise additional debt and/or equity capital.
At July 31, 1997, the Company had net operating loss carryforwards for federal
income tax purposes of approximately $5,348,000 (note I). The ability to
utilize such net operating loss carryforwards may be significantly limited by
the application of the change of ownership rules under Section 382 of the
Internal Revenue Code.
NOTE R - CONTRACTS
LPG BUSINESS
The Company has entered into a sales agreement (Agreement) with its major
customer, P.M.I. Trading Limited (PMI), a subsidiary of Petroleos Mexicanos
(PEMEX), the state-owned Mexican oil company, to provide a minimum monthly
volume of LPG to PMI through September 30, 1998. Sales to PMI for the years
ended July 31, 1995, 1996 and 1997 totaled $13,299,169, $25,336,151 and
$28,836,820, respectively, representing 90%, 96% and 95% of total revenues for
each year. The Company currently is purchasing LPG on a month-to-month basis
from a major supplier to meet the minimum monthly volumes required in the
Agreement (See Note T). The suppliers price is below the sales price provided
for in the Agreement.
PPL BUSINESS
In August 1997, the Company entered into an agreement to sell (Sales
Agreement) propylene (PPL) to Union Carbide Corporation through July 31, 1998.
In order to supply the PPL, the Company is currently purchasing PPL on a month
to month basis from PMI at a price per pound less than the price provided for
in the Sales Agreement.
CNG BUSINESS
Prior to July 31, 1997, the Company was awarded two contracts for the design,
construction and installation of CNG fueling station components for A.E.
Schmidt Environmental in connection with CNG fueling stations being
constructed for the New York City Department of Transportation (total contract
amount of approximately $1,487,000) and the Orange County Sanitation District
(total contract amount of approximately $236,000). The Company anticipates
completion of the projects during the second quarter of its 1998 fiscal year.
The Company intends to pursue additional CNG contracts; however, the Company
has not entered into any other CNG contracts subsequent to July 31, 1997.
PENN OCTANE CORPORATION AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE S - SEGMENT INFORMATION
The FASB issued Statement of Financial Accounting Standards No. 131 (SFAS No.
131), Disclosure about Segments of an Enterprise and Related Information,
effective for years beginning after December 15, 1997, with earlier
application encouraged. The Company adopted SFAS 131 in 1997.
The Company has the following reportable segments: LPG and CNG. The LPG
segment is a distributor of fuel and the CNG segment designs, constructs and
installs fueling stations.
The accounting policies used to develop segment information correspond to
those described in the summary of significant accounting policies. Segment
profit or loss is based on profit or loss from operations before income taxes.
The reportable segments are distinct business units operating in similar
industries. They are separately managed, with separate marketing and
distribution systems. The following information about the segments is for
the year ended July 31, 1997.
LPG CNG Totals
Revenues from external customers $ 29,703,650 $ 663,484 $ 30,367,134
Interest expense 236,236 3,195 239,431
Depreciation and amortization 434,960 13,059 448,019
Segment profit (loss) ( 2,886,067) ( 36,592) ( 2,922,659)
Segment assets 4,550,915 945,452 5,496,367
Segment liabilities ( 3,762,714) ( 981,044) ( 4,743,758)
Expenditure for segment assets 27,257 210,760 238,017
Reconciliation to Consolidated Amounts
Revenues
Total revenues for reportable segments $ 30,367,134
Other revenues -
Elimination of intersegment revenues -
--------------------
Total consolidated revenues $ 30,367,134
====================
Profit or Loss
Total profit or loss for reportable segments $ ( 2,922,659)
Other profit or loss -
Elimination of intersegment profits -
Unallocated amounts
Corporate headquarters expense -
Other expenses -
--------------------
Consolidated income before income taxes $ (2,922,659)
====================
Assets
Total assets for reportable segments $ 5,496,367
Other assets -
Corporate headquarters -
Other unallocated amounts -
--------------------
Total consolidated assets $ 5,496,367
====================
Geographic Information Revenues Assets
--------------- --------------------
United States $ 30,337,208 $5,496,367
Canada 29,926 -
--------------------
$ 30,367,134 $5,496,367
=============== ============
PENN OCTANE CORPORATION AND SUBSIDIARY
NOTES TO FINANCIAL STATEMENTS
NOTE T - SUBSEQUENT EVENTS - UNAUDITED
PRIVATE PLACEMENT
On October 21, 1997, the Company closed a private placement (the Private
Placement), pursuant to which it issued and sold $1,500,000 principal amount
of promissory notes and warrants to purchase 250,000 shares of the Company's
common stock exercisable during a three year period ending October 21, 2000 at
an exercise price of $6.00 per share, resulting in net proceeds to the Company
of approximately $1,400,000. The promissory notes accrue interest at the rate
of 10% per annum. Payment of the principal and any accrued and unpaid
interest on the promissory notes is due on the earlier to occur of June 30,
1998, and the closing of any public offering of debt or equity securities of
the Company resulting in net proceeds to the Company in excess of $5,000,000.
The purchasers in the Private Placement were granted one-time demand
registration rights with respect to the shares issuable upon exercise of the
warrants.
STOCK AWARD PLAN
On October 21, 1997, the Company adopted the 1997 Stock Award Plan (Plan).
Under the terms of the Plan, the Company has reserved for issuance 150,000
shares of common stock. The purpose of the Plan is to compensate consultants
who have rendered significant services to the Company. The Plan will be
administered by the compensation committee of the Company which shall have
complete authority to select participants, determine the awards of common
stock to be granted and the times such awards will be granted.
CREDIT FACILITY
On October 22, 1997, the Company entered into a $6.0 million credit facility
with RZB Finance L.L.C. (RZB) for demand loans and standby letters of credit
(RZB Credit Facility) to finance the Company's purchase of LPG and PPL. Under
the RZB Credit Facility, the Company has agreed to pay a fee with respect to
each letter of credit thereunder in an amount equal to the greater of (i)
$500, (ii) 1.5% of the maximum face amount of such letter of credit, or (iii)
such higher amount as may be agreed between the Company and RZB. Any amounts
outstanding under the RZB Credit Facility shall accrue interest a rate equal
to the rate announced by the Chase Manhattan Bank as its prime rate plus 2.5%.
Pursuant to the RZB Facility, RZB has sole and absolute discretion to
terminate the RZB Credit Facility and to make any loan or issue any letter of
credit thereunder. RZB also has the right to demand payment of any and all
amounts outstanding under the RZB Credit Facility at any time. In connection
with the RZB Credit Facility, the Company has agreed to grant a mortgage,
security interest and assignment in any and all of the Company's real
property, buildings, pipelines, fixtures and interests therein or relating
thereto, including, without limitation, the lease with the Brownsville
Navigation District of Cameron County for the land on which the Brownsville
Terminal Facility is located, the Pipeline Lease, and in connection therewith
to enter into leasehold deeds of trust, security agreements, financing
statements and assignments of rent, in forms satisfactory to RZB. The Company
has also agreed that it shall not permit to exist any lien, security interest,
mortgage, charge or other encumbrance of any nature on any of its properties
or assets, except in favor of RZB. In connection with the RZB Credit
Facility, Western Wood has agreed to subordinate its security interest in the
Brownsville Terminal Facility. On November 5, an irrevocable letter of credit
was established under the RZB Credit Facility in favor of Exxon in the amount
of $3.8 million. The Company's Chairman and Chief Executive Officer has
personally guaranteed all of the Company's payment obligations with respect to
the RZB Credit Facility.
LPG SUPPLY CONTRACT
On November 12, 1997, the Company entered into a supply contract with a major
supplier to purchase minimum monthly volumes of LPG through September 1998
under payment terms similar to those required in the Agreement (Note R). The
supply price is below the sales price provided for in the Agreement.
Schedule II - Valuation and Qualifying Accounts
Additions
Description Balance at Charged to Charged to
Beginning of Costs and Other Balance at End
Period Expenses Accounts Deductions of Period
Year ended
- -------------
July 31, 1997
- -------------
Allowance for $ - $ 53,406 $ - $ - $ 53,406
doubtful
accounts
Year ended
- -------------
July 31, 1996
- -------------
Allowance for $ - $ - $ - $ - $ -
doubtful
accounts
Year ended
- -------------
July 31, 1995
- -------------
Allowance for $ - $ - $ - $ - $ -
doubtful
accounts
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURE.
Not applicable.
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT.
DIRECTORS AND OFFICERS OF THE COMPANY
The executive officers and directors of the Company are as follows:
Name of Director Age Positions and Offices Held
- -------------------- --- ------------------------------------------------
Jerome B. Richter 61 Chairman, President, Chief Executive Officer
and Director
Ian T. Bothwell 37 Vice President, Treasurer, Assistant Secretary,
Chief Financial Officer and Director
Jorge R. Bracamontes 33 Executive Vice President, Secretary and Director
John P. Holmes 59 Director
Kenneth G. Oberman 37 Director
Stewart J. Paperin 49 Director
John H. Robinson 74 Director
All directors were elected at the 1997 Annual Meeting of Stockholders of
the Company held on May 29, 1997 and hold office until the next annual meeting
of shareholders and until their successors are duly elected and qualified.
Executive officers of the Company are elected annually by the Board of
Directors and serve until their successors are duly elected and qualified.
JEROME B. RICHTER founded the Company and served as its Chairman of the
Board and Chief Executive Officer from the date of its organization in August
1992 to December 1994, when he resigned from such positions and became
Secretary and Treasurer of the Company, positions he held until he resigned
therefrom on August 1, 1996. Effective October 29, 1996, Mr. Richter was
elected Chairman of the Board, President and Chief Executive Officer of the
Company.
IAN T. BOTHWELL was elected Vice President, Treasurer, Assistant
Secretary and Chief Financial Officer of the Company on October 29, 1996 and a
director of the Company on March 25, 1997. Since July 1993, Mr. Bothwell has
been a principal of Bothwell & Asociados, S.A. de C.V., a Mexican management
consulting and financial advisory company that was founded by Mr. Bothwell in
1993 and specializes in financing infrastructure projects in Mexico. During
the period from February 1992 through November 1993, Mr. Bothwell was a senior
manager with Ruiz, Urquiza y Cia., S.C., the affiliate in Mexico of Arthur
Andersen L.L.P., an accounting firm. From 1987 through 1992, Mr. Bothwell was
Controller and Director of Financial Analysis for Brooke Management Inc., a
management company which is an affiliate of Brooke Group Ltd., a financial
services and investment company.
JORGE R. BRACAMONTES was elected a director of the Company in February
1996. Effective October 29, 1996, he was elected Executive Vice President and
Secretary of the Company. Mr. Bracamontes also serves as President and Chief
Executive Officer of PennMex. Prior to joining the Company, Mr. Bracamontes
was General Counsel for Environmental Matters at PMI, for the period from May
1994 to March 1996. During the period from November 1992 to May 1994, Mr.
Bracamontes was legal representative for PMI in New York. From May 1990
through November 1992, Mr. Bracamontes served as in-house counsel for PMI in
Houston, Texas.
JOHN P. HOLMES was elected a director of the Company in February 1996.
Since 1991, Mr. Holmes has served as President and Chief Executive Officer of
John P. Holmes and Co., a private investment company. Mr. Holmes is also a
member of the Board of Directors of Village Green Books, an operator of retail
book stores.
KENNETH G. OBERMAN has been a director of the Company since its
organization in August 1992. Since 1996, Mr. Oberman has been Senior Director
of Fujitsu Computer Products of America, a San Jose, California-based computer
peripherals company. From 1994 through 1995, Mr. Oberman held the position of
business unit manager for Conner Peripherals, a computer peripherals company,
in San Jose, California. During the period from 1992 through 1994, Mr.
Oberman served as Vice President of International Economic Development
Corporation in Moscow, Russia, a consulting company to the Ministry of Sports
of the Government of Russia involved in the sale of sporting goods and sports
apparel. From 1989 through 1992, Mr. Oberman was employed by Conner
Peripherals, where he was a sales and world accounts manager.
STEWART J. PAPERIN was elected a director of the Company in February
1996. Mr. Paperin has been Managing Director of Lionrock Partners Ltd., a
management consulting and investment firm, and Managing Director of Capital
Resources East, a management consulting firm, since 1993. From 1990 to 1993,
Mr. Paperin served as President of Brooke Group International, an
international trading company and a subsidiary of Brooke Group Ltd., a
financial services and investment company.
JOHN H. ROBINSON was elected a director of the Company in February 1996.
Mr. Robinson serves as Vice Chairman of Commonwealth Associates, an investment
banking firm. Prior to 1993, Mr. Robinson served as Chairman of the Harper
Group, an international transportation and information management company.
Mr. Robinson is also a member of the Board of Directors of Lukens Medical
Corp., a specialized medical products company.
Mr. Oberman is Mr. Richter's son. There are no other family
relationships among the Company's officers and directors.
INVOLVEMENT IN CERTAIN LEGAL PROCEEDINGS
In October, 1996 the Company and Mr. Richter, Chairman and President,
without admitting or denying the findings contained therein (other than as to
jurisdiction), consented to the issuance of an order by the SEC in which the
SEC (i) made findings that the Company and Richter has violated portions of
Section 13 of the Exchange Act relating to the filing of periodic reports and
the maintenance of books and records, and certain related rules under said
Act, and (ii) ordered respondents to crease and desist from committing or
causing any current or future violation of such sections and rules.
COMPLIANCE WITH SECTION 16(A) OF THE EXCHANGE ACT
Section 16(a) of Exchange Act, requires the Company's directors and
officers, and persons who own more than 10% of a registered class of the
Company's equity securities, to file initial reports of ownership and reports
of changes in ownership with the SEC. Such persons are required by the SEC to
furnish the Company with copies of all Section 16(a) forms they file. Based
solely on its review of the copies of Forms 3, 4 and 5 received by it, the
Company believes that, with the exception of those persons indicated below,
all directors, officers and 10% stockholders complied with such filing
requirements.
According to the Company's records, the following filings appear not to
have been timely made. A Form 3 for Mr. Bothwell relating to his election as
an officer of the Company in October 1996 was not filed on a timely basis. A
Form 3 correcting this matter was filed in April 1997.
ITEM 11. EXECUTIVE COMPENSATION.
DIRECTOR COMPENSATION
Other than reimbursement for out-of-pocket expenses incurred to attend
Board and committee meetings, directors do not receive any compensation for
their services as such.
EXECUTIVE COMPENSATION
The following table sets forth annual and all other compensation for
services rendered in all capacities to the Company and its subsidiaries during
each of the fiscal years indicated of those persons who, at July 31, 1997,
were (i) the Company's Chief Executive Officer and a former executive officer
who acted in a similar capacity, and (ii) the other two most highly
compensated executive officers (collectively, the "Named Executive Officers").
No other executive officer received compensation in excess of $100,000 during
fiscal 1997. This information includes the dollar values of base salaries,
bonus awards, the number of warrants granted and certain other compensation,
if any, whether paid or deferred. The Company does not grant stock
appreciation rights and has no stock option or other long-term compensation
plans.
SUMMARY COMPENSATION TABLE
ANNUAL COMPENSATION
----------------------------------------------------
NAME AND OTHER ANNUAL ALL OTHER
PRINCIPAL POSITION YEAR SALARY BONUS COMPENSATION COMPENSATION($)
- ------------------------------ ---- -------- ---------- ------------ ----------------
Jerome B. Richter, President, 1997 $138,603 - - -
Chairman of the Board and 1996 132,923 - - -
Chief Executive Officer 1995 - - - -
Ian T. Bothwell, 1997 90,077 418,800(1) - -
Vice President, Treasurer, 1996 - - - -
Assistant Secretary and 1995 - - - -
Chief Financial Officer
Jorge R. Bracamontes, 1997 - - - 526,921(2)
Executive Vice President 1996 - - - -
and Secretary 1995 - - - -
Mark D. Casaday, (3) 1997 35,921 - - -
Former President 1996 111,692 - - -
1995 78,312 - - -
(1) As a bonus for the year ended July 31, 1997, on September 10, 1997 the Board of
Directors granted to Mr. Bothwell warrants to purchase 200,000 shares of Common Stock for
$2.50 per share to expire on September 9, 2000.
(2) Mr. Bracamontes received consulting fees totaling $108,121 for services performed
on behalf of the Company in Mexico. On March 25, 1997, the Board of Directors granted to
Mr. Bracamontes warrants to purchase 200,000 shares of Common Stock for $3.625 per share
to expire on March 24, 2000. An additional consulting fee for the year ended July 31,
1997, on September 10, 1997, the Board of Directors lowered the exercise price of the
200,000 warrants granted to Mr. Bracamontes from $3.625 to $2.50.
(3) In October 1996, Mr. Casaday resigned as Director and President of the Company.
In connection with his resignation, the Company agreed to extend 200,000 warrants held by
Mr. Casaday for an additional three year period. In February 1997, Mr. Casaday exchanged
200,000 warrants for 50,000 shares of Common Stock.
AGGREGATED WARRANT EXERCISES IN FISCAL 1997 AND WARRANT VALUES ON JULY
31, 1997
The following table provides certain information with respect to
warrants exercised by the Named Executive Officers during fiscal 1997 by the
persons named below. The table also presents information as to the number of
warrants outstanding as of July 31, 1997.
Number Of
Securities Value Of
Number of Underlying Unexercised
Shares Unexercised In-The-Money
Acquired Value Warrants Warrants
Upon Realized At July 31, 1997 At July 31, 1997
Exercise of Upon Exercisable/ Exercisable/
Name Warrants Exercise Unexercisable Unexercisable
- -------------------- ----------- ---------- ---------------- ------------------
Jerome B. Richter 2,200,000 $5,088,600 0/0 $ 0/0
Jorge R. Bracamontes 0 $ 0 200,000/0 $ 450,000/0(1)
Ian T. Bothwell 0 $ 0 0/200,000 $ 0/450,000(1)
Mark D. Casaday 50,000 $ 0 0/0 $ 0/0
(1) Based on a closing price of $4.75 per share of Common Stock on July 31,
1997.
EMPLOYMENT AGREEMENTS
The Company has entered into a six year employment agreement with
Mr. Richter, the President of the Company, through January 31, 2001. Under
Mr. Richter's agreement, he is entitled to receive $300,000 in annual
compensation equal to a monthly salary of $25,000 until earnings exceed a
gross profit of $500,000 per month, whereupon Mr. Richter is entitled to an
increase in his salary to $40,000 per month for the first year of the
agreement increasing to $50,000 per month during the second year of the
agreement. Mr. Richter is also entitled to (i) an annual bonus of 5% of all
pre-tax profits of the Company; (ii) 200,000 stock options for the purchase of
200,000 shares of Common Stock that can be exercised under certain
circumstances at an option price of $7.50 (giving effect to a 2-for-1 stock
split on June 10, 1994), and (iii) a term life insurance policy commensurate
with the term of the employment agreement, equal to six times Mr. Richter's
annual salary and three times his annual bonus. Mr. Richter's employment
agreement also entitles him to a right of first refusal to participate in
joint venture opportunities in which the Company may invest, contains a
covenant not to compete until one year from the termination of the agreement
and restrictions on use of confidential information. To date, Mr. Richter has
waived his rights to his full salary, receipt of the options and the purchase
by the Company of a term life insurance policy. In the future, Mr. Richter
may elect not to waive such rights.
1997 STOCK AWARD PLAN
Under the Company's 1997 Stock Award Plan, the Company has reserved
for issuance 150,000 shares of Common Stock, of which 129,686 shares were
unissued as of the date of this Annual Report, to compensate consultants who
have rendered significant services to the Company. The Plan is administered
by the Compensation Committee of the Board of Directors of the Company which
has complete authority to select participants, determine the awards of Common
Stock to be granted and the times such awards will be granted, interpret and
construe the 1997 Stock Award Plan for purposes of its administration and make
determinations relating to the 1997 Stock Award Plan, subject to its
provisions, which are in the best interests of the Company and its
stockholders. Only consultants who have rendered significant advisory
services to the Company are eligible to be participants under the Plan. Other
eligibility criteria may be established by the Compensation Committee as
administrator of the Plan.
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT.
The following table sets forth certain information, as of October
31, 1997, regarding the beneficial ownership of the Company's Common Stock by
(i) each stockholder known by the Company to beneficially own more than five
percent of the Company's Common Stock, (ii) each director and (iii) each Named
Executive Officer of the Company.(() The number of shares of Common Stock
issued and outstanding on October 31, 1997 was 8,694,600 and all calculations
and percentages are based on such number. The beneficial ownership indicated
in the table includes shares of Common Stock subject to common stock purchase
warrants held by the respective persons as of October 31, 1997, that are
exercisable on the date hereof or within 60 days thereafter. Unless otherwise
indicated, each person has sole voting and sole investment power with respect
to the shares shown as beneficially owned.)
AMOUNT AND NATURE OF
NAME BENEFICIALOWNERSHIP(1) PERCENT OF CLASS
- ----------------------------------- ---------------------- -----------------
Jerome B. Richter 3,902,000(4) 44.87%
Western Wood Equipment Corporation 500,000((5) 5.44%
(Hong Kong)
20/F Tung Way Commercial Building
Wanchai, Hong Kong
John Holmes 230,000 2.65%
Ian T. Bothwell 218,600(5) 2.46%
Jorge R. Bracamontes 215,500(5) 1.81%
Kenneth G. Oberman 89,000 1.02%
Stewart J. Paperin 16,500 *
John H. Robinson 12,500 *
Mark D. Casaday 0((7) *
As a group, the current officers and directors of the Company are
beneficial owners of 4,284,100 shares of Common Stock or 49.27% of the voting
power of the Company excluding warrants held by members of such group and
4,684,100 shares of Common Stock or 57.94% of the voting power of the Company
including warrants so held.
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS.
On October 21, 1996, Thomas P. Muse resigned as a Director and as
Chairman of the Board of the Company. In connection with his resignation, the
Company agreed to extend the expiration date of warrants to purchase 42,856
shares of Common Stock held by Mr. Muse for an additional three year period.
In February 1997, the Company issued 55,195 shares of Common Stock to Mr. Muse
in exchange for warrants to purchase 242,856 shares of Common Stock then owned
by Mr. Muse.
On October 24, 1996, Thomas A. Serleth resigned as a Director and
Executive Vice President of the Company. In connection with his resignation,
the Company agreed to enter into a two month consulting agreement, at a fee of
$10,000 per month, through December 31, 1996 and agreed that Mr. Serleth would
be entitled to a payment of 5% of the net proceeds (after expenses and legal
fees) received by the Company arising out of the lawsuit with IBC-Brownsville.
In February 1997, the Company issued 59,091 shares of Common Stock to Mr.
Serleth in exchange for warrants to purchase 260,000 shares of Common Stock
then owned by Mr. Serleth. See "Legal Proceedings" for information concerning
the IBC-Brownsville litigation
In October 1996, Mr. Casaday resigned as Director and President of the
Company. In connection with his resignation, the Company agreed to extend the
expiration date of warrants to purchase 200,000 shares of Common Stock held
by Mr. Casaday for an additional three year period. In February 1997, the
Company issued 50,000 shares of Common Stock to Mr. Casaday in exchange for
warrants to purchase 200,000 shares of Common Stock then owned by the Company.
In addition, the Company agreed to sell Mr. Casaday the Company car that he
was using for $1.00.
On March 25, 1997, the Board of Directors granted to Jorge R.
Bracamontes, an officer and director, warrants to purchase 200,000 shares of
Common Stock of the Company exercisable until March 24, 2000 with an exercise
price of $3.625 per share. As additional consulting fees for the year ended
July 31, 1997, on September 10, 1997, the Company agreed to adjust the
exercise price of the 200,000 warrants owned by Mr. Bracamontes to $2.50 per
share.
In March 1997, Jerome B. Richter, the President, Chief Executive Officer
and Chairman, made an interest free demand loan to the Company in the amount
of $85,000 for working capital purposes. The loan was fully repaid by the
Company in April 1997.
On March 25, 1997, the Company agreed to allow Mr. Richter to exercise
warrants to purchase 2,200,000 shares of Common Stock at an exercise price of
$1.25 through payment of $22,000 and issuance of a promissory note to the
Company in the amount of $2.7 million which accrues interest at the rate of
8.25% annually payable on April 11 and is payable in full on April 11, 2000.
In connection with the promissory note, Mr. Richter entered into a security
agreement with the Company pursuant to which a security interest was granted
to the Company in one million shares of Common Stock owned by Mr. Richter.
On March 25, 1997, the Company agreed to adjust the exercise price per
share of warrants to purchase 50,000 shares of Common Stock held by Mr.
Robinson and 50,000 warrants held by TRAKO International Company Limited to
$2.50 from $5.00. In all other respects, the terms of the warrants remain the
same.
In April 1997, an additional 300,000 warrants to purchase 300,000 shares
of common stock of the Company at an exercise price of $1.25 per share were
exercised by a director of the Company and other third parties.
On April 2, 1997, in connection with the Company's irrevocable standby
letter of credit with Bay Area Bank in the amount of $251,495, Mr. Richter
granted a security interest in 1.7 million shares of Common Stock of the
Company owned by him to Bay Area Bank to secure the obligations of the Company
thereunder. See "Management's Discussion and Analysis of Financial Condition
and Results of Operations - Credit Arrangements."
During the fiscal year ended July 31, 1997, the Company made an interest
free demand loan in the amount of $170,000 to PennMex. In September 1997,
PennMex repaid $130,000 on the loan. The Company currently intends to acquire
ownership of PennMex for a nominal sum plus assumption of any outstanding
liabilities of PennMex. PennMex's operation since inception have been
minimal.
In September 1997, John P. Holmes, a director, exercised warrants to
purchase 130,000 shares of Common Stock of the Company at an exercise price of
$2.50 per share.
In August 1997, an additional 430,000 warrants to purchase 430,000 shares
of Common Stock were exercised by a director of the Company and other third
parties at an exercise price of $2.50 per share resulting in a cash payment
received by the Company of $1,075,000. In connection with the exercise of
100,000 of these warrants Common Stock issued upon exercise, the Company
entered into a Registration Rights Agreement, agreeing to register the Common
Stock issued upon exercise on or before February 1, 1998. In the event that
the Company fails to register the Common Stock by February 1, 1998, for each
month thereafter until September 1, 1998, during which the shares have not
been registered, the Company will be required to issue the holder Common Stock
warrents to purchase 10,000 shares of Common Stock at an exercise price of
$2.50 per share, exercisable within a year from the date of issuance.
As a bonus for the year ended July 31, 1997, on September 10, 1997, the
Board of Directors granted to Ian T. Bothwell, an officer and director,
warrants to purchase 200,000 shares of Common Stock exercisable until
September 10, 2000 with an exercise price of $2.50 per share.
In October 1997, the Company made payment of $500,000 plus accrued
interest to TRAKO International Limited, a company affiliated with John H.
Robinson, in full satisfaction of amounts owing under a promissory note dated
March 1, 1996. In August 1997, the Company made payment of $400,000 plus
accrued interest to John H. Robinson, a director, in full satisfaction of
amounts owing under a promissory note dated March 1, 1996.
In October 1997, in connection with the RZB Credit Facility, Mr. Richter
entered into a Guaranty & Agreement pursuant to which Mr. Richter personally
guaranteed all of the Company's payment obligations with respect to the RZB
Credit Facility. See "Management's Discussion and Analysis of Financial
Condition and Results of Operations - Credit Arrangements."
The lease for the Company's executive offices located at 900 Veterans
Boulevard in Redwood City, California is between Mr. Richter, as an
individual, and Nine-C Corporation, as landlord. The Company currently makes
monthly payments directly to Nine-C Corporation in satisfaction of obligations
under such lease.
Operator: Please take care in this section, Item 14 - There are a number of
"Color: White" codes. PART IV
ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES, AND REPORTS ON FORM 8-K.
a. Financial Statements and Financial Statement Schedules.
The following documents are filed as part of this report:
(1) Consolidated Financial Statements:
Penn Octane Corporation
Independent Auditor's Report
Consolidated Balance Sheet as of July 31, 1996 and 1997
Consolidated Statement of Operations for the years ended July
31, 1997, 1996 and 1995
Consolidated Statements of Stockholders' Equity for the years
ended July 31, 1997, 1996 and 1995.
Consolidated Statements of Cash Flows for the years ended July
31, 1997, 1996 and 1995
Notes to Consolidated Financial Statements
(2) Financial Statement Schedules:
Schedule II - Valuation and Qualifying Accounts
b. Exhibits.
The following Exhibits are incorporated herein by reference:
Exhibit No.
------------
3.1 Restated Certificate of Incorporation, as amended. (Incorporated
by reference to the Company's Quarterly Report on Form 10-QSB for the
quarterly period ended April 30, 1997 filed on June 16, 1997, SEC File No.
000-24394).
3.2 Amended and Restated By-Laws of the Company. (Incorporated by
reference to the Company's Quarterly Report on Form 10-QSB for the quarterly
period ended April 30, 1997 filed on June 16, 1997, SEC File No. 000-24394).
10 10.1 Employment Agreement dated July 12, 1993 between the
Registrant and Jerome B. Richter. (Incorporated by reference to the Company's
Quarterly Report on Form 10-QSB for the quarterly period ended October 31,
1993 filed on March 7, 1994, SEC File No. 000-24394).
10.2 Security Agreement dated July 1, 1994 between International Bank
of Commerce and the Company. (Incorporated by reference to the Company's
Quarterly Report on Form 10-QSB for the quarterly period ended October 31,
1993 filed on March 7, 1994, SEC File No. 000-24394).
10.3 Security Agreement dated December 6, 1995 between Bay Area Bank
and Registrant. (Incorporated by reference to the Company's Annual Report on
Form 10-KSB for the annual period ended July 31, 1996 filed on November 13,
1996, SEC File No. 000-24394).
10.4 Purchase Agreement dated February 22, 1996 between Eagle Oil
Company and Registrant. (Incorporated by reference to the Company's Annual
Report on Form 10-KSB for the annual period ended July 31, 1996 filed on
November 13, 1996, SEC File No. 000-24394).
10.5 Judgment from litigation with International Bank of Commerce -
Brownsville dated February 28, 1996. (Incorporated by reference to the
Company's Annual Report on Form 10-KSB for the annual period ended July 31,
1996 filed on November 13, 1996, SEC File No. 000-24394).
10.6 Loan Agreement, Promissory Note, Security Agreement, and Common
Stock Purchase Warrant Agreement dated March 1, 1996 between John H. Robinson
and Registrant. (Incorporated by reference to the Company's Annual Report on
Form 10-KSB for the annual period ended July 31, 1996 filed on November 13,
1996, SEC File No. 000-24394).
10.7 Loan Agreement, Promissory Note, Security Agreement, and Common
Stock Purchase Warrant Agreement dated as of April 30, 1996 between TRAKO
International Company LTD and Registrant. (Incorporated by reference to the
Company's Annual Report on Form 10-KSB for the annual period ended July 31,
1996 filed on November 13, 1996, SEC File No. 000-24394).
10.8 Extension of June 16, 1996 Payout Agreement between Penn Octane
Corporation and Lauren Constructors, Inc., and Tom Janik and Associates, Inc.
dated October 10, 1996 (Including June 16, 1995 Payout Agreement).
(Incorporated by reference to the Company's Annual Report on Form 10-KSB for
the annual period ended July 31, 1996 filed on November 13, 1996, SEC File No.
000-24394).
10.9 LPG Purchase Agreement dated October 1, 1996 between Exxon
Company U.S.A. and Registrant. (Incorporated by reference to the Company's
Annual Report on Form 10-KSB for the annual period ended July 31, 1996 filed
on November 13, 1996, SEC File No. 000-24394).
10.10 Promissory Note, Letter of Credit and Security Agreement dated
October 3, 1996 between Bay Area Bank and Registrant. (Incorporated by
reference to the Company's Annual Report on Form 10-KSB for the annual period
ended July 31, 1996 filed on November 13, 1996, SEC File No. 000-24394).
10.11 Promissory Note dated October 7, 1996 between Jerry Williams
and Registrant. (Incorporated by reference to the Company's Quarterly Report
on Form 10-QSB for the quarterly period ended October 31, 1996 filed on
December 16, 1996, SEC File No. 000-24394).
10.12 Promissory Note dated October 9, 1996 between Richard Serbin
and Registrant. (Incorporated by reference to the Company's Quarterly Report
on Form 10-QSB for the quarterly period ended October 31, 1996 filed on
December 16, 1996, SEC File No. 000-24394).
10.13 LPG Sales Agreement dated October 10, 1996 between P.M.I.
Trading Ltd. and Registrant. (Incorporated by reference to the Company's
Annual Report on Form 10-KSB for the annual period ended July 31, 1996 filed
on November 13, 1996, SEC File No. 000-24394).
10.14 Promissory Note dated October 29, 1996 between James Mulholland
and Registrant. (Incorporated by reference to the Company's Quarterly Report
on Form 10-QSB for the quarterly period ended October 31, 1996 filed on
December 16, 1996, SEC File No. 000-24394).
10.15 Promissory Note between Frederick Kassner and Registrant dated
October 29, 1996. (Incorporated by reference to the Company's Quarterly
Report on Form 10-QSB for the quarterly period ended October 31, 1996 filed on
December 16, 1996, SEC File No. 000-24394).
10.16 Agreement between Roberto Keoseyan and the Registrant dated
November 12, 1996. (Incorporated by reference to the Company's Quarterly
Report on Form 10-QSB for the quarterly period ended January 31, 1997 filed on
March 17, 1997, SEC File No. 000-24394).
10.17 Promissory Note between Bay Area Bank and the Registrant dated
December 20, 1996. (Incorporated by reference to the Company's Quarterly
Report on Form 10-QSB for the quarterly period ended January 31, 1997 filed on
March 17, 1997, SEC File No. 000-24394).
10.18 Agreement for Exchange of Warrants for Common Stock dated
February 5, 1997 between the Registrant and Mark D. Casaday. (Incorporated by
reference to the Company's Quarterly Report on Form 10-QSB for the quarterly
period ended January 31, 1997 filed on March 17, 1997, SEC File No.
000-24394).
10.19 Agreement for Exchange of Warrants for Common Stock dated
February 5, 1997 between the Registrant Thomas P. Muse. (Incorporated by
reference to the Company's Quarterly Report on Form 10-QSB for the quarterly
period ended January 31, 1997 filed on March 17, 1997, SEC File No.
000-24394).96, SEC File No. 000-24394).
10.20 Agreement for Exchange of Warrants for Common Stock dated
February 19, 1997 between the Registrant and Thomas A. Serleth. (Incorporated
by reference to the Company's Quarterly Report on Form 10-QSB for the
quarterly period ended January 31, 1997 filed on March 17, 1997, SEC File No.
000-24394).
10.21 Interim Operating Agreement between Wilson Acquisition
Corporation and Wilson Technologies Incorporated dated March 7, 1997.
(Incorporated by reference to the Company's Quarterly Report on Form 10-QSB
for the quarterly period ended January 31, 1997 filed on March 17, 1997, SEC
File No. 000-24394).
10.22 Purchase Agreement dated March 7, 1997 between the Registrant,
Wilson Acquisition Corporation, Wilson Technologies Incorporated and Zimmerman
Holdings Inc. (Incorporated by reference to the Company's Quarterly Report on
Form 10-QSB for the quarterly period ended January 31, 1997 filed on March 17,
1997, SEC File No. 000-24394).
10.23 Amendment of the Interim Operating Agreement dated March 21,
1997 between the Registrant, Wilson Acquisition Corporation, Wilson
Technologies Incorporated and Zimmerman Holdings Inc. (Incorporated by
reference to the Company's Quarterly Report on Form 10-QSB for the quarterly
period ended April 30, 1997 filed on June 16, 1997, SEC File No. 000-24394).
10.24 Promissory Note and Pledge and Security Agreement dated March
26, 1997 between M.I. Garcia Cuesta and the Registrant. (Incorporated by
reference to the Company's Quarterly Report on Form 10-QSB for the quarterly
period ended April 30, 1997 filed on June 16, 1997, SEC File No. 000-24394).
10.25 Real Estate Lien Note, Deed of Trust and Security Agreement
dated April 9, 1997 between Lauren Constructors, Inc. and the Registrant .
(Incorporated by reference to the Company's Quarterly Report on Form 10-QSB
for the quarterly period ended April 30, 1997 filed on June 16, 1997, SEC File
No. 000-24394).
10.26 Promissory Note and Pledge and Security Agreement dated April
11, 1997 between Jerome B. Richter and the Registrant. (Incorporated by
reference to the Company's Quarterly Report on Form 10-QSB for the quarterly
period ended April 30, 1997 filed on June 16, 1997, SEC File No. 000-24394).
10.27 Lease dated October 20, 1993 between Brownsville Navigation
District of Cameron County, Texas and Registrant with respect to the Company's
land lease rights, including related amendment to the Lease dated as of
February 11, 1994 and Purchase Agreement. (Incorporated by reference to the
Company's Quarterly Report on Form 10-QSB filed for the quarterly period ended
April 30, 1994 on February 25, 1994, SEC File No. 000-24394).
10.28 Lease Amendment dated May 7, 1997 between Registrant and
Brownsville Navigation District of Cameron County, Texas. (Incorporated by
reference to the Company's Quarterly Report on Form 10-QSB for the quarterly
period ended April 30, 1997 filed on June 16, 1997, SEC File No. 000-24394).
10.29 Lease dated May 22, 1997 between Nine-C Corporation and J.B.
Richter, Capital resources and J.B. Richter and J.B. Richter, an individual,
as amended with respect to the Company's executive offices. (Incorporated by
reference to the Company's Quarterly Report on Form 10-QSB for the quarterly
period ended April 30, 1997 filed on June 16, 1997, SEC File No. 000-24394).
10.30 Promissory Note dated May 28, 1997 between Bay Area Bank and
the Registrant. (Incorporated by reference to the Company's Quarterly Report
on Form 10-QSB for the quarterly period ended April 30, 1997 filed on June 16,
1997, SEC File No. 000-24394).
10.31 Lease dated September 1, 1993 between Seadrift Pipeline
Corporation and Registrant with respect to the Company's pipeline rights.
(Incorporated by reference to the Company's Quarterly Report on Form 10-QSB
for the quarterly period ended October 31, 1993 filed on March 7, 1994, SEC
File No. 000-24394).
10.32 Lease Amendment dated May 29, 1997 between Seadrift Pipeline
Corporation and the Registrant . (Incorporated by reference to the Company's
Quarterly Report on Form 10-QSB for the quarterly period ended April 30, 1997
filed on June 16, 1997, SEC File No. 000-24394).
The following material contracts are filed as part of this report:
10.33 Irrevocable Standby Letter of Credit No. 310 dated April 2,
1997 between Bay Area Bank and the Company.
10.34 Commercial Guaranty dated April 2, 1997 between Bay Area Bank
and Jerome B. Richter.
10.35 Commercial Pledge and Security Agreement dated April 2, 1997
between Bay Area Bank and the Company.
10.36 Promissory Note dated April 2, 1997 between Bay Area Bank and
the Company.
10.37 Amendment to Irrevocable Standby Letter of Credit No. 310 dated
September 15, 1997.
10.38 Warrant Purchase Agreement, Promissory Note and Common Stock
Warrant dated June 15, 1997 between Western Wood Equipment Corporation and the
Company.
10.39 Security Agreement, Common Stock Warrant and Promissory Note
dated June 15, 1997 between Western Wood Equipment Corporation and the
Company.
10.40 Performance Bond dated June 25, 1997 between PennWilson CNG and
Amwest Surety Insurance Company.
10.41 Labor and Material Payment Bond dated June 11, 1997 between
PennWilson CNG and Amwest Surety Insurance Company.
10.42 Subcontract Agreement dated between A.E. Schmidt and PennWilson
CNG June 25, 1997.
10.43 Propylene Purchase Agreement dated July 31, 1997 between Union
Carbide and the Company.
10.44 Release of Lien dated August 1997 by Lauren Constructors, Inc.
10.45 LPG Purchase Agreement dated August 28, 1997 between PMI
Trading Company Ltd and the Company.
10.46 Continuing Agreement for Private Letters of Credit dated
October 14, 1997 between RZB Finance LLC and the Company.
10.47 Promissory Note dated October 14, 1997 between RZB Finance LLC
and the Company.
10.48 General Security Agreement dated October 14, 1997 between RZB
Finance LLC and the Company.
10.49 Guaranty and Agreement dated October 14, 1997 between RZB
Finance LLC and Jerome Richter.
10.50 Purchase Agreement dated October 21, 1997 among Castle Energy
Corporation, Clint Norton, Southwest Concept, Inc., James F. Meara, Jr.,
Donaldson Luftkin Jenrette Securities Corporation Custodian SEP FBO James F.
Meara IRA, Lincoln Trust Company FBO Perry D. Snavely IRA and the Company.
10.51 Registration Rights Agreement dated October 21, 1997 among
Castle Energy Corporation, Clint Norton, Southwest Concept, Inc., James F.
Meara, Jr., Donaldson Luftkin Jenrette Securities Corporation Custodian SEP
FBO James F. Meara IRA, Lincoln Trust Company FBO Perry D. Snavely IRA and the
Company.
10.52 Promissory Note dated October 21, 1997 between Castle Energy
Corporation and the Company.
10.53 Common Stock Purchase Warrant dated October 21, 1997 issued to
Castle Energy Corporation by the Company.
10.54 Promissory Note dated October 21, 1997 between Clint Norton and
the Company.
10.55 Common Stock Purchase Warrant dated October 21, 1997 issued to
Clint Norton by the Company.
10.56 Promissory Note dated October 21, 1997 between Southwest
Concept, Inc. and the Company.
10.57 Common Stock Purchase Warrant dated October 21, 1997 issued to
Southwest Concept, Inc. by the Company.
10.58 Promissory Noted dated October 21, 1997 between James F. Meara,
Jr. and the Company.
10.59 Common Stock Purchase Warrant dated October 21, 1997 issued to
James F. Meara, Jr. by the Company.
10.60 Promissory Note dated October 21, 1997 between Donaldson
Luftkin Jenrette Securities Corporation Custodian SEP FBO James F. Meara IRA
and the Company.
10.61 Common Stock Purchase Warrant dated October 21, 1997 issued to
Donaldson Luftkin Jenrette Securities Corporation Custodian SEP FBO James F.
Meara IRA and the Company.
10.62 Promissory Note dated October 21, 1997 between Lincoln Trust
Company FBO Perry D. Snavely IRA and the Company.
10.63 Common Stock Purchase Warrant dated October 21, 1997 issued to
Lincoln Trust Company FBO Perry D. Snavely IRA by the Company.
10.64 Agreement dated November 7, 1997 between Ernesto Rubio del
Cueto and the Company.
10.65 LPG Sales Agreement dated November 12, 1997 between Exxon and
the Company.
21.1 Subsidiaries of the registrant. (Filed herewith.)
27.1 Financial Data Schedule. (Filed herewith.)
b. Reports on Form 8-K.
The following Reports on Form 8-K are incorporated herein by reference:
Company's Current Report on Form 8-K filed on October 28, 1997 regarding the
Company's (i) completion of a $1.5 million private placement consisting of
promissory notes and warrants and (ii) contemplation to file a registration
statement with the Securities and Exchange Commission for the sale of its
Common Stock.
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the Securities and
Exchange Act of 1934, the registrant has duly caused this report to be signed
on its behalf by the undersigned, thereunto duly authorized.
PENN OCTANE CORPORATION
By: /s/Ian T. Bothwell
--------------------
Ian T. Bothwell
Vice President, Treasurer, Assistant Secretary,
Chief Financial Officer
November 12, 1997
Pursuant to the requirements of the Securities Exchange Act of 1934,
this report has been signed by the following persons on behalf of the
registrant and in the capacities and on the dates indicated.
SIGNATURE TITLE DATE
- ----------------------------- ------------------------------------------------ ----
/s/Jerome B. Richter Jerome B. Richter
- -----------------------------
Chairman, President and Chief
Executive Officer November 12, 1997
/s/Jorge R.Bracamontes Jorge R. Bracamontes
- -----------------------------
Executive Vice President,
Secretary and Director November 12, 1997
/s/Ian T.Bothwell Ian T. Bothwell
- -----------------------------
Vice President, Treasurer,
Assistant Secretary, Chief
Financial Officer, Principal
Accounting Officer and Director November 12, 1997
/s/John P.Holmes John P. Holmes
- -----------------------------
Director November 12, 1997
/s/Kenneth G.Oberman Kenneth G. Oberman
- -----------------------------
Director November 12, 1997
/s/Stewart J.Paperin Stewart J. Paperin
- -----------------------------
Director November 12, 1997
/s/John H.Robinson John H. Robinson
- -----------------------------
Director November 12, 1997