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FORM 10-K
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
[X] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES ACT OF 1934
For the fiscal year ended December 31, 1998
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 0-19365
CROWN ENERGY CORPORATION
(Exact name of registrant as specified in its charter)
UTAH 87-0368981
(State or other jurisdiction of (I.R.S. Employer Identification No.)
incorporation or organization
215 South State, Suite 650
Salt Lake City, Utah 84111
(Address of principal executive offices) (Zip Code)
Registrant's telephone number, including area code: (801) 537-5610
Securities registered pursuant to Section 12(b) of the Act: (None)
Securities registered pursuant to Section 12(g) of the Act:
$0.02 PAR VALUE COMMON STOCK
(Title of Class)
Indicate by check mark whether the registrant (1) has filed all reports
required to be filed by Section 13 of the Securities Exchange Act of 1934 during
the preceding 12 months and (2) has been subject to such filing requirements for
the past 90 days.
YES [ ] NO [X]
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. [ ]
The aggregate market value of common stock, par value $0.02 per share,
held by non-affiliates of the registrant on May 24, 1999 was $10,391,916 using
the average bid and asked price for Registrant's common stock. As of May 24,
1999, registrant had 13,285,581 shares of its common stock outstanding.
DOCUMENTS INCORPORATED BY REFERENCE
(None)
Transitional Small Business Disclosure Format (check one) YES [ ] NO [X]
PART I.
STATEMENTS MADE OR INCORPORATED IN THIS ANNUAL REPORT INCLUDE A NUMBER OF
FORWARD-LOOKING STATEMENTS WITHIN THE MEANING OF SECTION 27A OF THE SECURITIES
ACT OF 1933 AND SECTION 21E OF THE SECURITIES EXCHANGE ACT OF 1934.
FORWARD-LOOKING STATEMENTS INCLUDE, WITHOUT LIMITATION, STATEMENTS CONTAINING
THE WORDS "ANTICIPATES", "BELIEVES", "EXPECTS", "INTENDS", "FUTURE", AND WORDS
OF SIMILAR IMPORT WHICH EXPRESS MANAGEMENT'S BELIEF, EXPECTATIONS OR INTENTIONS
REGARDING THE COMPANY'S FUTURE PERFORMANCE OR FUTURE EVENTS OR TRENDS. RELIANCE
SHOULD NOT BE PLACED ON FORWARD-LOOKING STATEMENTS BECAUSE THEY INVOLVE KNOWN
AND UNKNOWN RISKS, UNCERTAINTIES AND OTHER FACTORS, WHICH MAY CAUSE ACTUAL
RESULTS, PERFORMANCE OR ACHIEVEMENTS OF THE COMPANY TO DIFFER MATERIALLY FROM
ANTICIPATED FUTURE RESULTS, PERFORMANCE OR ACHIEVEMENTS EXPRESSLY OR IMPLIED BY
SUCH FORWARD-LOOKING STATEMENTS. IN ADDITION, THE COMPANY UNDERTAKES NO
OBLIGATION TO PUBLICLY UPDATE OR REVISE ANY FORWARD-LOOKING STATEMENT, WHETHER
AS A RESULT OF NEW INFORMATION, FUTURE EVENTS OR OTHERWISE.
ITEM 1. BUSINESS
General
Crown Energy Corporation is a Utah corporation that specializes in the
production and distribution of premium asphalt products to meet the new, higher
quality standards for federal and state highways. The Company is based in Salt
Lake City, Utah and operates primarily through two wholly owned subsidiaries,
Crown Asphalt Corporation ("CAC") and Crown Asphalt Products Company ("Capco"),
both of which are Utah corporations. CAC operates the asphalt production
business through its minority interest in Crown Asphalt Ridge, L.L.C., a Utah
limited liability company ("Crown Ridge"), and Capco operates the asphalt
distribution business through its majority interest in Crown Asphalt
Distribution, L.L.C., a Utah limited liability company ("Crown Distribution").
Crown Energy Corporation's consolidated financial statements and
results of operations include the accounts and results of operations of CAC,
Capco and Crown Distribution. Accordingly, references in this Annual Report to
"Crown" or the "Company" include, unless otherwise noted, CAC, Capco and Crown
Distribution.
The Company was formed in 1981 as an oil and gas production company.
The Company changed its business focus to concentrate on the production and
distribution of premium asphalt products in 1995. The Company's results of
operations for the preceding three fiscal years reflect this change in focus. In
particular, for the years ended December 31, 1996 and 1997, the Company reported
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declining revenues from oil and gas sales of $224,855 and $86,781, respectively,
as oil and gas operations were phased out. For the year ended December 31, 1998,
the Company reported revenues from the sale of asphalt products of approximately
$24 million. See "Item 6 - Selected Data." Most of these revenues were recorded
in the last half of 1998 as a result of Crown Distribution's asphalt product
sales.
The Company's recent accomplishments include the formation and ongoing
progress of two joint ventures. One such joint venture, Crown Ridge, constructed
an approximate $22 million Asphalt Oil Sand Production Facility at Asphalt
Ridge, near Vernal, Utah (the "Facility"). Through another joint venture entity,
Crown Distribution, the Company has acquired ownership interests in asphalt
distribution facilities located in Utah, Arizona, Colorado and Nevada.
In August 1997, the Company formed Crown Ridge with MCNIC Pipeline &
Processing Company, a Michigan corporation ("MCNIC"), to construct, own and
operate the Facility at the Company's Asphalt Ridge deposit in northeast Utah.
MCNIC is a wholly-owned subsidiary of MCN Energy Group, Inc. ("MCN") (NYSE:MCN),
a large diversified energy holding company with over $4 billion in assets and
investments throughout North America and India. MCN is involved in oil and gas
exploration and production, natural gas gathering, processing, transmission and
storage, energy marketing, electric power generation and distribution, and other
energy-related businesses and serves 1.2 million customers in more than 500
communities throughout Michigan. Information about MCN Energy Group is available
on the World Wide Web at http://www.mcnenergy.com. The Company has contributed
significant resources, including certain Oil Sand Resources and a technology
sublicense through which Crown Ridge may utilize certain proprietary technology
to extract marketable products from the oil sand reserves, in order to further
the continued development of the Facility by Crown Ridge. To date, Crown Ridge
has invested approximately $22 million in the Facility. The construction of the
Facility has been substantially completed, however the Facility has encountered
certain construction technical difficulties which the Company believes will be
resolved. The Facility has a designed capacity of 100,000 tons of asphalt per
year and the Company believes it will be operational in the second half of 1999.
The Company presently owns a 25% equity interest in Crown Ridge and MCNIC holds
the remaining 75% equity interest. The Company has the right to acquire up to a
60% equity interest in Crown Ridge contingent, however, upon MCNIC's receipt of
certain preferential returns and Crown Ridge's election to pursue certain
expansion opportunities. See "Item 1. Business - Asphalt Production - Crown
Asphalt Ridge, L.L.C." below.
In August 1997, contemporaneous with the Company's Crown Ridge joint
venture with MCNIC, the Company also closed on an agreement for the private sale
of $5 million of the Company's $10 Series A Cumulative Convertible Preferred
Stock (the "Series A Preferred") to Enron Capital & Trade Resources Corp.
("ECT"), a subsidiary of Enron Corp. ("Enron"), (NYSE:ENE). Enron is a major
buyer and seller of natural gas with assets of approximately $20 billion. Enron
also builds and manages worldwide natural gas transportation, power generation,
liquids and clean fuels facilities. Information about Enron is available on the
World Wide Web at http://enron.com. Proceeds from the sale of stock to ECT have
been used for working capital and to finance the Company's share of construction
and start-up costs related to Crown Ridge, which includes the construction of
the Facility. Certain rights, preferences and limitations relating to the Series
A Preferred are detailed in "Item 5. Market Price for the Company's Common
Equity and Related Stockholder Matters" below.
3
In June 1998, the Company, through Capco, entered into a joint venture
by forming Cowboy Asphalt Terminal, L.L.C., a Utah limited liability company
("CAT LLC"), with Foreland Asphalt Corporation, a Utah corporation engaged in
the asphalt roofing products business ("Foreland"). CAT LLC was formed to
acquire an asphalt terminal and its underlying real property located in North
Salt Lake City. The asphalt terminal property of CAT LLC was apportioned and
portions designated for the exclusive uses of either Capco or Foreland, each of
which will retain all revenues and profits generated from their respective
exclusive operations. Crown Distribution, through the exercise of an option on
or about December 21, 1998, owns 66.67% of CAT LLC and the remaining 33.33% is
owned by Foreland. CAT LLC is a majority owned and controlled subsidiary of
Crown Distribution and the accounts and results of operations of CAT LLC will be
included within the Company's consolidated financial statements and results of
operations. See "Item 1. Business - Asphalt Distribution - Cowboy Asphalt
Terminal, L.L.C." below.
On July 2, 1998, Crown Distribution was formed as a second joint
venture between the Company (through its Capco subsidiary) and MCNIC. Crown
Distribution is owned 50.01% by the Company and 49.99% by MCNIC. Crown
Distribution was formed to acquire the inventory and assets of Petro Source
Asphalt Company, a Texas corporation. By completing this acquisition, the
Company acquired ownership or leasehold interests in certain asphalt
distribution facilities located in Utah, Arizona, Colorado and Nevada. These
asphalt distribution facilities enable the Company to purchase oil products and
related raw materials from its suppliers and to store, process, blend and
otherwise produce various grades of asphalt and asphalt products for sale to its
customers in the western United States. The Company's revenues during the year
ended December 31, 1998 were generated primarily through Crown Distribution's
asphalt product operations. See "Item 1. Business - Asphalt Distribution - Crown
Asphalt Distribution, L.L.C." below.
The Company's control of Crown Distribution and CAT LLC complement the
Company's interest in Crown Ridge and Crown Ridge's ownership and operation of
the newly constructed Facility. The asphalt distribution capabilities of Crown
Distribution and CAT LLC offer vertical integration for the Company's operations
- - the Company can now produce, process, blend, store, transport, distribute and
sell finished asphalt products in its western United States target market. These
operations rely primarily upon the purchase of oils, hydrocarbons and other raw
materials from third party suppliers. As Crown Ridge's extraction and processing
operations at the Facility produce commercial quantities of asphalt products,
management of the Company expects that all of such products will be marketed,
distributed and sold through Crown Distribution's asphalt terminals, thereby
displacing some of the raw materials purchased by Crown Distribution from third
party suppliers for resale.
On April 17, 1999, the Company acquired fixed terminal assets at Laurel
(Billings), Montana and Williston, North Dakota along with the associated
inventory, and certain contractual agreements of Asphalt Supply & Services, Inc.
and Inoco, Inc. for $4,000,000, consisting of $750,000 in cash and 2,500,000
shares of unregistered common stock. In the event that the bid price of the
common stock is less than $1.10 for 120 consecutive trading days at any time
between April 17, 1999 and December 31, 2000, the seller has the right to
require the Company to purchase all shares for $1.10 per share. The Company has
the right to repurchase up to 2,000,000 of the shares of common stock from the
seller, at any time, for $2.05 per share. The acquisition has been accounted for
as a purchase.
4
On May 12, 1999, the Company entered into an agreement to acquire an
asphalt terminal in Rawlins, Wyoming and inventory for $2,291,571 from S&L
Industrial. Upon closing of this transaction, the Company will assume S&L's debt
of approximately $1,800,000, issue a note payable to S&L for $225,000, and make
a cash payment of $266,571 to S&L. Closing of this transaction will occur when
all conditions have been satisfied, such as the delivery of consents of third
parties. The Company expects closing to occur in the near future. Under the
Company's contractual joint venture relationships with MCNIC, MCNIC may have
certain rights to participate in additional business opportunities, if any,
which may be pursued by the Company. See "Item 1. Business - Asphalt
Distribution Crown Asphalt Distribution, L.L.C. - Additional Opportunities."
As the Company increases its asphalt products marketing and
distribution activities at its asphalt terminals, the Company remains open to
other asphalt related business opportunities and is actively seeking to acquire
asphalt terminals which can complement the Company's existing asphalt
distribution capabilities.
More detailed information about the asphalt industry and the Company's
asphalt production and distribution businesses is provided below.
The Asphalt Industry
The United States asphalt market is estimated to be a 30 million-ton
market which historically has been supplied by the large U.S. oil refiners. In
recent years, management of the Company believes that the U.S. asphalt market
has undergone significant changes. In particular, national and international
demand for asphalt has increased. Further, recently established standards which
require the use of higher quality asphalt for federal and state highways in the
United States have increased the demand for higher quality asphalts. At the same
time, recent reductions of heavy crude production have resulted in a decrease in
asphalt supply. The Company believes that these changes are favorable to asphalt
producers and suppliers such as the Company.
Deterioration of the nation's infrastructure has drawn increasing
public attention and concern, and the emphasis in the highway industry is
shifting from construction of new roads and bridges to maintenance and
replacement of aging facilities. As the U.S. government, state and federal
agencies focus on decaying infrastructure and facilities, the need for better
techniques and materials to build longer-lasting roads and to repair existing
ones cost-effectively has developed. Congress authorized the Strategic Highway
Research Program (SHRP) as a coordinated national effort to meet the tough
challenges facing the highway industry. SHRP was a five year, $150 million
research program funded through state-apportioned federal highway aid funds. Its
research was tightly focused on the development of pragmatic products of
immediate use to the highway agencies. Using a wide range of advanced materials
characterization techniques that had not been applied to asphalt previously,
SHRP determined how asphalt material properties affect pavement performance. The
new performance graded (PG) specifications focus on the climate conditions of a
given location and the specific temperature band in which the PG asphalt must
work within. The recommendation for the improved PG asphalt binder
specifications has been adopted by the Federal Highways Administration (FHWA)
and many states. The remaining states are in different stages of implementation
5
and will be required to have implemented the new PG specifications by the year
2000. The result of the more stringent SHRP performance grades in the western
United States is that most asphalts used on state and federal projects will need
to be modified with polymers or high performance asphalts, or both, to meet the
required specifications.
The Company believes that the Facility will produce asphalt products
which meet the SHRP performance specifications. However, until the asphalt is
produced at the Facility in commercial quantities there can be no assurance of
its quality or performance.
Through its relationships with producers, refiners, suppliers,
transporters and users of asphalt, including state and federal governmental
departments, asphalt associations, consultants and private sector companies; as
well as its strategically located asphalt distribution terminals, PG asphalt
blending processes and Asphalt Ridge reserves, the Company believes that it is
well positioned to meet the needs of the changing asphalt market. However, the
Company will be competing with several larger companies in the regional asphalt
supply business. Competition in the asphalt supply business is based primarily
on price and quality. Further, the Company will be competing with traditional
refineries with respect to the production of asphalt products. In general, these
competitors have significant financial, technical, managerial and marketing
resources and, both separately and combined, represent significant competition
for the Company in its markets.
The asphalt industry is seasonal. Demand for asphalt decreases
significantly during the winter months when cold weather and snow interferes
with highway construction and repair. Notwithstanding the decrease in demand for
asphalt and asphalt-related products during the winter months, the Company
believes that it can continue producing asphalt, and storing such product, to
meet the peak demands of spring and summer. In addition, the Company expects to
continue purchasing asphalt from outside suppliers in the winter months, when
prices are lower, for storage at its asphalt terminals and resale in the spring
and summer.
Asphalt Distribution
Crown Asphalt Distribution, L.L.C.
Formation and Current Development Status. On July 2, 1998, Crown
Distribution was formed as a second joint venture between the Company and MCNIC.
The Company and MCNIC (sometimes referred to hereafter as the members) possess
sharing ratios ("sharing ratios") of 50.01% and 49.99%, respectively, in the
profits, losses and obligations of Crown Distribution. Accordingly, the Company
holds a majority and controlling interest in Crown Distribution and the accounts
and results of operations of Crown Distribution are included within the
Company's consolidated financial statements.
On July 2, 1998, Crown Distribution purchased the inventory and assets
of Petro Source Asphalt Company, a Texas corporation. The purchased assets
included asphalt supply and marketing contracts, owned and leased equipment,
personal property, fixtures, equipment leases, real estate leases, technology
licenses, other related agreements, certain intellectual property, products
6
inventory, ownership interests in and to asphalt distribution facilities in
Utah, Colorado, Nevada and Arizona and certain processing rights at a refinery
in Santa Maria, California (see below).
These assets (excluding products inventory) were purchased for $7.5
million, the amount determined by the parties to be the fair market value of
such assets, with capital contributed to Crown Distribution by MCNIC. The
products inventory was also purchased by Crown Distribution for $6,797,932 and
this portion of the purchase price was funded by a loan to Crown Distribution
from MCNIC.
Collectively, the asphalt distribution facilities purchased from Petro
Source Asphalt Company enable the Company to purchase asphalt products and
related raw materials from third party vendors and to produce various grades of
asphalt for sale to its customers. During the period between July 2, 1998 and
December 31, 1998, these asphalt distribution facilities distributed
approximately 41,000 tons of asphalt and generated revenue of approximately
$6,423,000 (excluding revenues associated with the Santa Maria processing
agreement discussed below.) Company management believes that Crown
Distribution's acquisition of these assets creates excellent vertical
integration for the Company's overall asphalt business and provides a solid
distribution network for the asphalt production from the Company's Facility at
Asphalt Ridge.
Under the Santa Maria Refinery processing agreement, Crown
Distribution's predecessor (and Crown Distribution since July 2, 1998) marketed
and sold the asphalt products and maintained the inventory at this refinery, in
exchange for approximately 50% of the net profit realized upon the sale of the
processed product. During 1998, the refinery processed on average 3,850 barrels
a day of throughput. Revenues from the processing agreement were approximately
$15.9 million (or roughly 65% of the Company's total consolidated revenues) for
the year ended December 31, 1998. In February 1999, however, the Company
received a notice from the refinery owner that this processing agreement will
terminate as of April 30, 1998. The potential loss of revenues associated with
this processing contract was known to the Company prior to the July 2, 1998
acquisition transaction and factored into the purchase price. Management of the
Company believes that revenues generated from the Company's recently acquired
asphalt terminals will offset a significant portion of such revenues. Further,
the Company is presently negotiating and expects to enter into some arrangement
under which the Santa Maria refinery will process asphalt products for the
Company for sale by the Company in the markets served by the refinery.
Therefore, the Company does not expect the termination of this processing
agreement to have a material adverse impact upon the Company's financial
condition. Subsequent to the termination of the processing contract, the
refinery owner purchased asphalt products located at the refinery from the
Company for a sum, after offsetting certain expense reimbursements owed to the
refinery, of roughly $1.7 million, of which $1,000,000 has been paid to the
Company.
7
The Company and MCNIC are joint venture partners in both Crown Ridge
and Crown Distribution (the Company is in control of Crown Distribution and
MCNIC is in control of Crown Ridge). Although there can be no assurance,
management of the Company expects that Crown Distribution will distribute the
asphalt products extracted and produced by Crown Ridge. Crown Distribution's
asphalt distribution facilities will allow the Company to store, transport,
distribute, market and sell the asphalt products extracted by and produced at
the Facility owned and operated by Crown Ridge, assuming acceptable transfer
pricing and other payment terms will be agreed upon by Crown Distribution and
Crown Ridge.
The Company's original capital contribution to Crown Distribution of a
nominal amount was paid on or about the date of formation of Crown Distribution.
Thereafter, on December 21, 1998, Crown Distribution exercised an option under
its Operating Agreement such that the Company was required to transfer and
assign to Crown Distribution, as an additional capital contribution, its 66.67%
membership interest in CAT LLC. The Company was credited with a $1.5 million
capital contribution to Crown Distribution as a result of the assignment of the
CAT LLC membership interests to Crown Distribution. Subsequent to year end,
Crown Distribution also assumed CAT LLC's payment obligations under a $1,282,070
promissory note. As a result of this assignment, Crown Distribution now holds
66.67% of the ownership interests of CAT LLC, and the remaining 33.33% ownership
interests are owned by Foreland. Crown Distribution's proportionate share of the
accounts and results of operations of CAT LLC are therefore included within the
consolidated financial statements of the Company. See "Item 1. Business Asphalt
Distribution - Cowboy Asphalt Terminal, L.L.C." below for further information
regarding CAT LLC.
MCNIC originally contributed the amount of $100 to the capital of Crown
Distribution. MCNIC also made a capital contribution in the amount of $6 million
(the "Preferential Capital Contribution"). The Preferential Capital
Contribution, together with working capital loans in the amounts of $1,500,000
and $7,141,930 respectively, were used by Crown Distribution to acquire the
assets of Petro Source Asphalt Company and pay related closing and other
acquisition costs. When Crown Distribution elected to take by assignment the
Company's interest in CAT LLC, MCNIC was obligated to, and did, contribute
additional capital in the amount of $1.5 million. That sum, however, was
immediately used by Crown Distribution to pay down the working capital loan
previously advanced by MCNIC. See "Item 1. Business - Asphalt Distribution Crown
Asphalt Distribution, L.L.C. - Working Capital Loans" below.
Management of Crown Distribution; Major Decisions. Crown Distribution
is governed by a management committee consisting of three managers. The Company
is entitled to appoint two managers and MCNIC is entitled to appoint one
manager. Management decisions are generally made by the management committee.
However, one of the managers appointed by the Company shall serve as the
operating manager and have the powers, authority, duties and obligations
specified in the operating agreement, which generally requires the operating
manager to implement the policies and pursue the objectives specified in the
annual operating plan.
The annual operating plan is adopted by the management committee on an
annual basis and addresses all aspects of Crown Distribution's operations for
the coming year, including the nature and extent of the proposed activities,
marketing plans, capital expenditure plans and similar matters. In the event the
management committee is unable to unanimously approve an annual operating plan
for any given calendar year, a majority of the managers shall have the authority
to continue to maintain Crown Distribution's operations at levels comparable to
those approved in its most recent annual operating plan.
Additional Opportunities. The Crown Distribution operating agreement
provides that certain additional business opportunities which are the same as or
similar to Crown Distribution's then current business must be first offered to
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Crown Distribution by its members. Crown Distribution will have a 30-day period
after receipt of notice of any additional opportunity within which to exercise
its right to pursue the additional business opportunity. If this right is
exercised, the Company and MCNIC have agreed to negotiate an appropriate
business structure under which the Company and MCNIC, or their respective
affiliates, have the option, but not the obligation, to acquire up to a 50%
sharing ratio or equity interest in any new opportunity.
Working Capital Loans. MCNIC has extended two working capital loans to
Crown Distribution, each of which bears interest at the rate of 8% per annum.
MCNIC extended the first working capital loan in order for Crown
Distribution to fund the purchase price and related acquisition costs with
respect to the Petro Source Asphalt Company acquisition. The entire outstanding
principal balance of this working capital loan (the outstanding balance as of
December 31, 1998 was $5,810,581), together with all accrued interest thereon,
is due and payable in full on or before December 31, 1999.
MCNIC extended a working capital line in order for Crown Distribution
to fund its inventory purchases and general working capital needs. The entire
outstanding principal balance of this working capital line as of December 31,
1998 was $3,124,640. As of June 10, 1999, the principal balance owed MCNIC for
the working capital line was $7,124,641.
Under related provisions of Crown Distribution's Operating Agreement,
Crown Distribution is obligated to provide MCNIC advance written notice of any
proposed borrowing of additional working capital to fund its operations.
However, MCNIC has verbally indicated its desire and agreement to fund any
additional borrowings of Crown Distribution on terms and conditions acceptable
to both parties and generally prevailing in the market. MCNIC's first working
capital loan and its Preferential Capital Contribution are both secured by a
first priority lien, security interest in and pledge of all the property of
Crown Distribution including, without limitation, Crown Distribution's rights,
title and interest in and to the membership interests in CAT LLC. MCNIC's second
working capital loan is secured by Crown Distribution's inventory and accounts
receivable.
Distributions; Allocations of Profits and Losses. Until such time as
MCNIC has received the return of its Preferential Capital Contribution and a 15%
internal rate of return on its investment in Crown Distribution, Crown
Distribution is obligated to distribute to MCNIC 50% of the net cash flow from
operations. The remaining cash flow balance is distributed roughly 50% to MCNIC
and 50% to the Company (in accordance with their respective sharing ratios).
During 1998, Crown Distribution made distributions of $1,090,989 to MCNIC for
its Preferential Capital Contribution and additional distributions of $545,494
to each of MCNIC and the Company. Upon liquidation, MCNIC would receive 100% of
any and all amounts available for distribution up to its outstanding
Preferential Capital Contribution balance and remaining amounts would be
distributed in proportion to the members capital account balances. Profits and
losses are generally allocated in accordance with the members' respective
sharing ratios. However, after profits are allocated to offset any previous
allocations of losses made to members, in the event of a complete liquidation of
Crown Distribution profits will be allocated 100% to MCNIC until its
Preferential Capital Contribution and 15% rate of return has allocated to it in
the form of profits.
9
Management Agreement. Pursuant to an Operating and Management
Agreement, the Company provides management, supervision and operational services
to Crown Distribution in relation to its annual Operating Plan for Crown
Distribution. As compensation for the services rendered under the Management
Agreement, the Company receives (i) a monthly fee of $5,000, (ii) the payment of
all out-out-pocket expenses incurred through the performance of its duties;
(iii) the reimbursement of the reasonable salaries, wages, overtime and other
similar compensation paid to employees of the Company who are employed full-time
in connection with and dedicated to the management services under the Management
Agreement; and (iv) a monthly home office overhead charge of $10,000.
The term of the Management Agreement is five years, which term will be
automatically extended for unlimited successive one-year periods unless either
party furnishes the other with written notice at least ninety (90) days prior to
the expiration of any such initial or extended period. During the initial term
of the Management Agreement, the Company can be removed only for good cause by
the affirmative vote of the management committee. The Management Agreement also
contains provisions allowing the replacement of the Company as the manager on
economic grounds if Crown Distribution notifies the Company that it believes the
operations may be conducted more efficiently and is willing to become the
operating manager or has a commitment from a third party to do so. Following the
receipt of an economic challenge, the Company will have thirty (30) days to
notify Crown Distribution that it elects to allow Crown Distribution or its
designee to become the operator under the proposed terms or that the Company
elects to continue as the operator under the proposed terms.
Cowboy Asphalt Terminal, L.L.C.
Formation and Acquisition of Assets. CAT LLC is a joint venture between
the Company (through its Capco subsidiary) and Foreland. Foreland is engaged in
the asphalt roofing products business. On June 16, 1998, CAT LLC was formed to
acquire an asphalt terminal and related refinery assets and real estate located
in North Salt Lake City (the "Cowboy Terminal Assets"). The real property
acquired by CAT LLC as part of the Cowboy Terminal Assets is referred to
hereinafter as the "Cowboy Terminal Property." Refinery Technologies, Inc., a
Utah corporation ("Refinery Technologies"), held the rights to acquire the
Cowboy Terminal Assets under a purchase contract with their former owner.
On September 11, 1998, CAT LLC, Capco, Foreland and Refinery
Technologies entered into an Assignment and Agreement (the "Assignment
Agreement") under which Refinery Technologies assigned all of its ownership
rights in and to the Cowboy Terminal Assets purchase contract to CAT LLC. In
turn, CAT LLC agreed to assume all of the obligations under the real property
purchase contract and issued a promissory note in connection with the purchase
in the amount of $1,067,111 to the former owner. The Company's primary objective
in forming this joint venture was to acquire control of the Cowboy Terminal
Property for use as an asphalt storage and terminal facility. The Cowboy
Terminal Property has been divided into portions dedicated (i) to the exclusive
uses of the Company for its asphalt paving products business and (ii) to the
exclusive uses of Foreland for its asphalt roofing products business. Revenues
or profits generated by such exclusive uses will belong to the Company or
Foreland, as the case may be, and the other party will have no right to
participate in the revenues, profits or income generated by the business of the
10
other with respect to such exclusive uses. Further, the use of the Cowboy
Terminal Property by the Company and by Foreland is free of charge or other
cost. The Company anticipates that its exclusive portion of the Cowboy Terminal
Property can be used by the Company to store, process and transport up to
roughly 60,000 tons of throughput per year.
The Company and Foreland initially owned sharing ratios ("sharing
ratios") of 66.67% and 33.33%, respectively, in the profits, losses and
obligations of CAT LLC. However, the Company has assigned its sharing ratios and
ownership interests in CAT LLC to Crown Distribution. See "Item 1. Business -
Asphalt Distribution - Crown Asphalt Distribution, L.L.C."
The Cowboy Terminal Assets were purchased on January 9, 1999 for
$1,477,070. CAT LLC paid $195,000 in cash at closing and executed and delivered
a promissory note in the amount of $1,282,070. This promissory note is payable
in 84 equal monthly installments of $20,627 beginning on February 1, 1999 and
ending on January 1, 2006. The note bears interest at the rate of 9% and is
secured by a deed of trust encumbering the Cowboy Terminal Property. In
connection with the transfer of the 66.67% interest in CAT LLC to Crown
Distribution, Crown Distribution assumed payment obligations under this
promissory note.
The CAT LLC Operating Agreement obligates both the Company and Foreland
to make additional capital contributions equal to one-half of any additional
amounts needed for (i) CAT LLC to fulfill its obligations, not to exceed
$650,000, under any corrective action plan that may be accepted by CAT LLC and
the Utah Department of Environmental Quality with respect to certain
environmental conditions at the Cowboy Terminal Property and (ii) legal costs
incurred in the purchase or related to the environmental matters in (i) of this
paragraph. The CAT LLC Operating Agreement also obligates the Company and
Foreland to make additional capital contributions, in proportion to their
ownership percentages, in order to fund any additional amounts required for CAT
LLC to fulfill its obligations under the purchase contract for the Cowboy
Terminal Assets, for environmental management and containment costs, expenses
for operations, or the construction of certain approved capital improvements to
the Cowboy Terminal Property. None of the foregoing additional contributions
will result in an increase in the number of units or percentage interests held
by the Company or Foreland.
As noted above, CAT LLC has title to the Cowboy Terminal Property and
the Company has the exclusive right to use portions thereof for its asphalt
terminal operations. Refinery Technologies did, however, retain certain contract
rights with respect to the Cowboy Terminal Assets, including rentals generated
from a portion of the Cowboy Terminal Property, certain rights to receive
payments upon any liquidation of CAT LLC and a right of first refusal to
purchase the Cowboy Terminal Property or membership interests in CAT LLC under
certain conditions.
Management of Cowboy Asphalt Terminal, LLC; Major Decisions. CAT LLC is
managed by the Company. The manager generally has authority to conduct the
day-to-day business and affairs of the Company. Certain matters must be approved
by members holding 75% or more of the outstanding units of CAT LLC. The Company
is not compensated for its services as manager.
Asphalt Production
11
Crown Asphalt Ridge, L.L.C.
Formation and Current Development Status. Effective August 1, 1997, the
Company jointly formed Crown Ridge with MCNIC to construct and operate an oil
sand processing facility for the production of premium asphalt oil at Asphalt
Ridge in Uintah County, Utah. The Company believes that the Asphalt Ridge oil
sand reserves constitute one of Utah's largest and most accessible deposits.
There are three "pit" areas along Asphalt Ridge where the recoverable reserves
are principally located. These areas are referred to as the "A", "D" and "South"
tracts. The Company controls, through numerous operating leases, approximately
7,000 acres of private and state land encompassing these tracts, which the
Company believes contains in excess of 100 million barrels of surface minable
reserves (the "Oil Sand Resources").
The Facility constructed by Crown Ridge is located at the "A" tract of
the Oil Sand Resources. The "A" tract contains in excess of 18 million barrels
of surface minable reserves with an average oil saturation of 11% by weight.
This pit is partially opened as a result of prior small scale mining operations
for the production of local asphalt road base. The pit has been mined since the
1940's and provides a natural site to commence operations as overburden has been
removed and an open pit area exists for waste sand storage. The production
process entails three major steps: (1) mining, (2) extraction (separation of the
oil from the sand), and (3) distillation (recovery of the solvent and separation
of light fractions from the asphalt). The "D" and "South" tracts have not yet
been opened for asphalt production by the Company. The "D" tract contains in
excess of 30 million barrels of surface minable reserves with an average oil
saturation of 8.5% by weight. The "South" tract contains in excess of 65 million
barrels of surface minable reserves with an average oil saturation of 7.5% by
weight. Crown Ridge and the Company's joint venture partner in Crown Ridge,
MCNIC, have certain rights to develop the asphalt resources found in the "D" and
"South" tracts. See "Item 1. Business - Asphalt Production - Crown Asphalt
Ridge, L.L.C. - Additional Opportunities Within the Project Area and Areas of
Mutual Interest." MCNIC and the Company (sometimes referred to hereafter as the
"Members") own sharing ratios ("sharing ratios") of 75% and 25%, respectively,
in the profits, losses and obligations of Crown Ridge. However, the Company has
the right to acquire up to a 60% equity interest in Crown Ridge, contingent upon
MCNIC's receipt of certain preferential financial returns (as described below)
and Crown Ridge's election to pursue certain expansion opportunities. The
Company currently owns 25% of Crown Ridge and operates the business pursuant to
an Operating and Management Agreement. The Company holds only a minority
interest in Crown Ridge and the Company's consolidated financial statements and
results of operations only include its net interest in the accounts and results
of operations of Crown Ridge.
Once the economic operations of Crown Ridge are successful to the
extent of paying out to MCNIC an amount equal to 115% of its cash investment in
Crown Ridge, excluding tax benefits, the Company's sharing ratio in Crown Ridge
will increase to 50%. Thereafter, the Members may build other plants to further
develop the Oil Sand Resources. These plants will require additional capital
contributions from the Members, which are described in more detail below. The
Company may participate up to 50% in the additional facilities and up to 60%
after payout of the cash investment in such facilities. There are provisions for
the Company to retain an interest in these facilities after the recoupment of
certain amounts in the event the Company does not participate in the costs of
such additional facilities, as provided in the "Back-In Option."
12
Crown Ridge has been and will be developed in phases in order to
minimize the risks and leverage the resources of the Members. Each phase calls
for the Members to contribute new capital to move Crown Ridge through the next
phase. The first phase called for detailed engineering and verification of the
Oil Sand Resources of the Company. MCNIC and the Company both contributed
capital of $300,000 and $100,000, respectively, to Crown Ridge to cover the
engineering and verification costs and complete the first phase. The second
phase required the Company to contribute the following to Crown Ridge:
1. The Company's rights as a future lessee under certain
equipment leases on mining equipment with a fair market value
of up to $3.5 million dollars. Such equipment will be
contributed to Crown Ridge when the mining requirements for
the project are conclusively known. This contribution was
agreed to have a capital contribution value of $3.5 million;
2. A sublicense of Crown's license of proprietary oil sands
refining technology from Park Guymon Enterprises, Inc., which
is accorded only a nominal value under Crown Ridge's Operating
Agreement (the "Operating Agreement"). Crown Ridge is
responsible for paying the 2-5% royalty required by the
sublicense;
3. Tract "A" of the Oil Sand Resources (these properties are
initially valued by Crown Ridge at $500,000); and
4. An amount of cash needed to bring the Company's new capital
contributions up to 25% capital to construct the Facility,
giving full credit to the $3.5 million of equipment leases and
the $500,000 of property rights in 1 and 3 above.
Under the Crown Ridge Operating Agreement, MCNIC will initially fund
75% of the amounts required by Crown Ridge to construct the Facility and to
operate Crown Ridge. Both Members may make such additional contributions as may
be required or agreed in the course of building the Facility. As of December 31,
1998, the Company has made cash contributions of approximately $1,651,000 to
Crown Ridge and MCNIC has contributed approximately $17,397,000. To date, the
Company has invested a total of approximately $4,600,000 in the development of
Asphalt Ridge, which includes costs incurred prior to the joint venture with
MCNIC.
The Company initially projected that Crown Ridge would be operational
by June, 1998. However, construction of the Facility was delayed as a result of
certain construction technical difficulties. Management of the Company believes
that the construction difficulties experienced are of the type anticipated in
the construction of this type of project, which is a sophisticated asphalt
processing facility utilizing new or evolving processes. The Company believes
the Facility will be operational in the second half of 1999. However, continued
difficulties or the inability to commercially operate the Facility economically
could significantly impact Crown Ridge's ability to continue as a going concern
and would have a materially adverse impact on the Company's operations and
financial condition.
13
The Facility is designed to initially process approximately 3,000 tons
of oil sands daily for an average production of 1,700 barrels of asphalt per
day. The estimated annual production of asphalt is approximately 100,000 tons.
The Company believes that the asphalt produced at the Facility will meet new
stringent highway specifications and will have high durability at lower cost.
However, there can be no assurance that the Facility will be fully operational
within the expected time frame or that the Facility will produce premium asphalt
at lower cost than is presently available in the market.
Crown Ridge may market, distribute and sell its asphalt products
independent of the Company and has no obligation to utilize the asphalt
distribution facilities of the Company. However, it is expected that Crown Ridge
will utilize the asphalt distribution terminals and facilities of Crown
Distribution, subject to acceptable pricing and other compensation arrangements.
Subsequent Plants. Under the Crown Ridge Operating Agreement, the
Members may construct up to two subsequent plants (the "Subsequent Plants")
similar to the Facility if the economics of Crown Ridge's oil sands processing
business so permit. In sum, a Subsequent Plant may be constructed if certain
economic returns (approximately 18% on 50% of its Capital Contributions to Crown
Ridge or any successor joint venture during any 12 month period) have been
experienced by MCNIC from the Facility and if the Members believe or are
independently advised that a sufficient market exists to allow for the operation
of the Subsequent Plants without damaging the competitive position or returns of
the Facility or any other then-existing asphalt processing plants owned or
operated by Crown Ridge or any Successor Entity (as defined below). The
agreement of MCNIC and the Company is that any Subsequent Plant will be held and
operated by a separate legal entity (a "Successor Entity") formed by the Members
with governing terms and provisions similar to Crown Ridge. The Company may
elect to participate in either of the Subsequent Plants and may obtain, at its
option, between 10% and 50% of the interests in the newly-formed entity. A
portion of the Company's obligations to contribute to the Successor Entity may
be satisfied through the value of the contributed properties which the Company
may be credited with, as described below.
Following the determination by both Members or one Member to proceed
with the construction of a Subsequent Plant, Crown Ridge will convey to the
Successor Entity sufficient Oil Sand Resources or other property and water
rights to enable it to sustain operations in accordance with the applicable
projections and market study. If, during the twelve months prior to the sale of
products from the first Subsequent Plant, MCNIC has realized a return of
approximately 30% on 50% of its Capital Contributions to Crown Ridge, the
Company will be credited with a value for these Oil Sand Resources and
properties equal to $.10 per barrel for the products estimated to be produced
from the Subsequent Plant over a 20 year period.
If the Company elects not to proceed with any Subsequent Plant, and to
not make the needed capital contributions to build and operate the Subsequent
Plant, Crown will have a reduced interest in the Subsequent Plant (but will
still be credited with an interest equal to the value of the contributed
properties as described below, if the requisite return is achieved), subject to
an escalation under the Back-In Option described below.
14
Whether or not the Company elects to proceed with either Subsequent
Plant, if the Subsequent Plants reach certain levels of economic success
(approximately 115% of MCNIC's investment in plant 2 without giving effect to
any tax benefits), the Company will receive an increased interest of 10% in the
Subsequent Plant as a result of its oil sand properties and technology being
used by the Subsequent Plant(s).
Management of Crown Ridge; Major Decisions. Crown Ridge is governed by
a management committee consisting of five managers. The Company is entitled to
appoint one manager and MCNIC is entitled to appoint four managers. Management
decisions are generally made by the management committee. However, one of the
managers appointed by the Company shall serve as the operating manager and have
the powers, authority, duties and obligations specified in the operating
agreement, which generally requires the operating manager to implement the
policies and pursue the objectives specified in the annual operating plan. Any
Manager may be removed or replaced from time to time by the Member which
appointed such Manager. If any adjustment is made in the Members' respective
sharing ratios both the Company and MCNIC will be entitled to appoint one
Manager for each 20% of Crown Ridge interest held by that Member (rounded to the
nearest 20% level), provided, that MCNIC and the Company shall each be entitled
to at least one Manager at all times that they are Members of Crown Ridge. The
size of the Management Committee may be increased to six Managers if the
foregoing calculation requires it.
Management decisions shall generally be made through a majority vote of
the Managers. However, certain "Major Decisions," such as: (i) the approval of
the detailed engineering for the Facility; (ii) the approval of, or substantial
amendment to, the annual operating plan described below; and (iii) calls for
additional Capital Contributions (except for calls contemplated by the EPC
Contract as defined in Crown Ridge's Operating Agreement and those required to
maintain Crown Ridge in emergencies), require unanimous approval of all
Managers. Most distributions to the Members require unanimous approval of the
Managers.
Crown Ridge's operations shall be conducted each year pursuant to the
annual operating plan. The annual operating plan shall address all aspects of
Crown Ridge's operations for the coming year, including budgeting for
operations, the mining of oil sand products and the marketing of those products.
In the event the Management Committee is unable to unanimously approve an annual
operating plan for any given calendar year, a majority of the Managers shall
have the authority to continue to maintain Crown Ridge's operations at levels
comparable to those approved under the last annual operating plan.
15
Additional Opportunities Within the Project Area and Area of Mutual
Interest. Crown Ridge may elect to pursue additional opportunities ("Additional
Opportunities") within the Asphalt Ridge project area ("Project Area") which are
brought to its attention by one of its Members. Should Crown Ridge elect to
pursue such an Additional Opportunity, it may do so either through Crown Ridge
or by forming a new company containing terms and provisions substantially
similar to those of Crown Ridge. In the event that Crown Ridge does proceed with
any Additional Opportunity, the Company shall have the right, but not the
obligation, to obtain an equity interest in each such Additional Opportunity of
no less than 10% and no greater than 50% (with MCNIC obtaining the remaining
interest). If the Management Committee determines not to proceed with the
Additional Opportunity, any Member of Crown Ridge may then do so alone, subject
to the Back-In Option, discussed below, of the nonparticipating Member.
If either Member desires to develop any interests in real property,
fixtures or improvements within the State of Utah relating to the processing of
oil sands, bitumen, asphaltum or other minerals or mineral resources into
asphalt, performance grade asphalt, synthetic crude oil, diesel fuel, or any
other product produced using the intellectual property sublicensed by the
Company to Crown Ridge or any derivation thereof (an "AMI Opportunity"), the AMI
Opportunity must first be offered to Crown Ridge. The Company, shall then have
the option, but not the obligation, of acquiring (i) up to a 50% equity interest
if the AMI Opportunity relates to, or is designed for, the production and sale
of asphalt or performance grade asphalt; or (ii) up to a 66% equity interest if
the AMI Opportunity relates to the production of synthetic crude oil, diesel
fuel or any other similar products.
If Crown Ridge elects not to proceed with the AMI Opportunity, the
Member who brought the opportunity to Crown Ridge may proceed alone and the
nonparticipating Member shall have no further interest in the activity covered
by such opportunity. Except as limited in the discussion above, each Member of
Crown Ridge shall have the right to independently engage in any business
activities except that MCNIC shall not be entitled to use the Company's
technology provided to Crown Ridge in connection with such activities.
The Back-In Option. The Back-in Option is a means by which the Member
which initially elects not to participate in a plant may subsequently
participate at a later date upon favorable terms. The Back-in Option applies if:
(i) The Company elects not to proceed with construction of the
Facility following the completion of the detailed engineering
(and MCNIC elects to proceed);
(ii) either Member elects not to participate in the construction of
a Subsequent Plant; or
(iii) either Member elects not to participate in an Additional
Opportunity.
In the case of the Company's election not to participate in Subsequent
Plants or Additional Opportunities, the Company shall be entitled to a 60%
interest in the particular plant or opportunity if it is the non-participating
Member, and MCNIC shall be entitled to a 40% interest if it is the
non-participating Member, after the participating Member has achieved a 200%
payout of the costs of the respective facility.
Distributions; Allocations of Profits and Losses. The Management
Committee shall cause Crown Ridge to distribute Available Cash, as defined
within the Operating Agreement, to the Members quarterly, within 30 days
following the end of each quarter. Distributions will be made in connection with
the respective capital account balances after taking into account all
allocations.
Management Agreement. Pursuant to an Operation and Management Agreement
(the "Management Agreement"), the Company is the "Operator" of the Facility upon
commencement of operations. Under the Management Agreement, the Company will act
as an independent contractor to Crown Ridge and will (i) manage, supervise and
conduct the operations of Crown Ridge; (ii) carry out the terms of the Annual
Operating Plan adopted and approved by the Management Committee of Crown Ridge;
(iii) implement the decisions made and instructions given from time to time by
the Management Committee. As compensation for the services rendered under the
Management Agreement, the Company will receive (i) a monthly fee of $3,000; (ii)
the payment of all out-of-pocket expenses incurred through the performance of
its duties; (iii) the payment of the reasonable salaries, wages, overtime and
other similar compensation paid to employees who are employed full time in
connection with the operations of Crown Ridge; and (iv) a monthly home office
overhead charge of $10,000.
During the first two years, the Company may be removed as Operator only
for "good cause" as defined within the Management Agreement. After this initial
term, the agreement will automatically renew for unlimited succeeding one-year
terms unless either party indicates its desire to not renew within 90 days of
the expiration of the term. Also following the expiration of the initial term,
Crown Ridge may challenge the Company's status as Operator on economic grounds
by serving written notice to the Company that it believes that the operations of
the Facility may be conducted more efficiently and cheaply and that it is
willing to become the Operator (or has a bona fide commitment from a third party
to do so) on a reduced charge basis. Following the receipt of the economic
challenge, the Company will have 30 days to notify Crown Ridge that it elects to
(i) allow Crown Ridge, or its designee, to become the Operator under the
proposed terms, or (ii) continue as the Operator under the proposed terms.
Environment
The Company and its subsidiaries are subject to federal, state and
local requirements regulating the discharge of materials into the environment,
the handling and disposal of solid and hazardous wastes, and protection of
health and the environment generally (collectively "Environmental Laws").
Governmental authorities have the power to require compliance with these
Environmental Laws, and violators may be subject to civil or criminal penalties,
injunctions or both. Third parties may also have the right to sue for damages
and/or enforce compliance and to require remediation or contamination.
The Company and its subsidiaries are also subject to Environmental Laws
that impose liability for costs of cleaning up contamination resulting from past
spills, disposal and other releases of substances. In particular, an entity may
be subject to liability under the Federal Comprehensive Environmental Response,
Compensation and Liability Act and similar state laws that impose liability
without a showing of fault, negligence, or regulatory violations - for the
generation, transportation or disposal of hazardous substances that have caused
or may cause environmental contamination. In addition, an entity could be liable
for cleanup of property it owns or operates even if it did not contribute to
contamination of such property.
The Company expects that it may be required to expend funds to comply
with federal, state and local provisions and orders which relate to the
environment. Based upon information available to the Company at this time, the
Company believes that compliance with such provisions will not have a material
effect on the capital expenditures, earnings and competitive position of the
Company.
16
Subsidiaries of the Company
Crown Asphalt Corporation was formerly known as Buena Ventura Resources
Corporation, a Utah Corporation. Crown Asphalt Corporation was organized October
24, 1985 and was acquired by the Company on September 30, 1992. Crown Asphalt
Corporation is a member of and holds roughly 25% of the membership interests in
Crown Ridge. The Company includes its net share of the net assets and results of
operations of Crown Ridge in its consolidated financial statements.
Crown Asphalt Products Company ("Capco") was formerly known as Energy
Technologies Corporation. Capco was formed in 1991, but until 1998 has been a
dormant entity. The Company recently activated Capco for the purpose of
developing an asphalt marketing and distribution business. Capco is a member of
and holds 50.01% of the membership interests in Crown Distribution. Crown
Distribution is a member of and holds 66.67% of the membership interests in CAT
LLC. The Company includes within its consolidated financial statements the
accounts and results of operations of both Crown Distribution and CAT LLC.
On July 2, 1998, Crown Distribution was formed as a second joint
venture between the Company and MCNIC. Crown Distribution is owned 50.01% by the
Company and 49.99% by MCNIC. Crown Distribution was formed to acquire the
inventory and assets of Petro Source Asphalt Company, a Texas corporation.
Applied Enviro Systems, Inc. is a dormant Oregon corporation.
Employees
As of May 31, 1999, the Company had 88 full and part-time employees.
None of the Company's employees are represented by a union or other collective
bargaining group. Management believes that its relations with its employees are
good.
ITEM 2. PROPERTIES
The Company conducts its business operations at 215 South State, Suite
650, Salt Lake City, Utah, where it has approximately 6,571 square feet of
office space under lease until July 30, 2003. Under the terms of the lease, the
Company pays $9,172 per month through July 30, 1999; $9,493 per month through
July 30, 2000; $9,825 per month through July 30, 2001; $10,169 per month through
July 30, 2002; and $10,525 through the lease expiration date of July 30, 2003.
There is no renewal option under the terms of this lease. Management of the
Company believes that its current office lease is sufficient for its needs and
believes that it will either be able to negotiate a new lease on its existing
space or obtain suitable other space in the Salt Lake City area upon the
expiration of the existing lease. As described above in the section captioned
"Item 1. Business - Asphalt Production - Crown Asphalt Ridge, L.L.C.," the
Company controls through operating leases certain Oil Sand Resources consisting
of approximately 7,000 acres of private and state land encompassing at Asphalt
Ridge in Uintah County, Utah. The Asphalt Ridge oil sand deposit is located in
the Uintah Basin in eastern Utah near the town of Vernal.
17
Extensive reserve studies, including core drilling performed by Bechtel
and Sohio between the late 1950's and mid-1980's, estimate surface minable
reserves to be in excess of 100 million barrels. The Company controls the Oil
Sand Resources through certain long term operating leases and the Company has
the right to extract mineral reserves on these tracts so long as the Company
continues to conduct active operations under such leases, pay required royalties
and otherwise comply with the terms of the leases.
In connection with the formation and development of Crown Ridge, the
Company contributed the operating leases related to the "A" tract to Crown Ridge
and Crown Ridge holds certain rights to develop the "D" and "South" tracts. The
Company believes it and Crown Ridge are in compliance with, and not in material
default under, such operating leases. Further information regarding the Oil Sand
Resources controlled by the Company is found at "Item 1. Business - Asphalt
Production - Crown Asphalt Ridge, L.L.C." above.
Crown Distribution owns asphalt distribution facilities located in
Utah, Colorado, Nevada and Arizona. These properties are used by Crown
Distribution to process, blend, store, transport, distribute and sell finished
asphalt products, and may be used with respect to the asphalt products produced
from the oil sands ore expected to be extracted by Crown Ridge's Facility
constructed at Asphalt Ridge. All of Crown Distribution's assets are encumbered
by the lien and security interest of MCNIC, which advanced the purchase price
for such assets and has made certain working capital loans to Crown
Distribution. See "Item 1. Business - Asphalt Distribution - Crown Asphalt
Distribution, L.L.C."
CAT LLC's asphalt distribution and storage facility is located just
north of Salt Lake City, Utah. CAT LLC owns all of the underlying Cowboy
Terminal Property, which is encumbered by a Deed of Trust in favor of the
seller.
ITEM 3. LEGAL PROCEEDINGS
On May 21, 1998, Road Runner Oil, Inc. ("Road Runner") and Gavilan
Petroleum, Inc. ("Gavilan") filed an action in the Third Judicial District
Court, Salt Lake County, State of Utah, as Civil Number 98-0905064 against the
Company and its President. The action relates to the purchase by Road Runner of
100% of the stock of Gavilan in 1997, and generally seeks to (i) obtain
corporate records of Gavilan in the Company's possession relating to the amount
of oil and gas royalties potentially owed to third parties prior to the
aforementioned stock sale, and (ii) to determine the amount of royalties owed.
The action further alleges, on behalf of Gavilan, claims of breach of fiduciary
duty, professional negligence and mismanagement against the Company's President
for alleged mismanagement of Gavilan's affairs. The Plaintiffs seek injunctive
relief requiring the tendering by the Company of the referenced records and such
damages as may be proven at trial. The Company believes that the Plaintiffs
claims are groundless and that it is entitled to payment of the $75,000 plus
interest still owed by Road Runner as part of the purchase price for Gavilan. In
addition, since the action was filed, the Company has tendered substantial
quantities of corporate records to the Plaintiffs for their review. On June 17,
1998, an order was entered granting an open extension to the Company of its
obligation to file an answer to the above-described Complaint so that the
parties may informally pursue a settlement, if any, of the matter. The Company
is aware that the new principals of Gavilan have experienced extensive legal
18
difficulties and the law firm which previously represented Gavilan has withdrawn
as counsel in this matter. Gavilan has taken no action to prosecute this matter
for some months, and the Company has not been notified that Gavilan has engaged
new legal counsel. Accordingly, the Company expects, although there can be no
assurance, that Gavilan will fail or refuse to prosecute this matter further.
The Company is not certain as to whether or not the outstanding balance under
the promissory note is collectible by the Company.
On February 10, 1999 CEntry Constructors and Engineers L.L.C.
("CEntry") filed a demand for arbitration with the American Arbitration
Association for claims arising out of the November 5, 1997 Engineering,
Construction and Procurement Agreement between Crown Ridge and CEntry (the
"Contract") for the design and construction of Crown Ridge's Facility near
Vernal, Utah. CEntry seeks damages in excess of $1.0 million for amounts
allegedly due to CEntry under the Contract, including a retention or liquidated
damages amount ($803,660), as well as amounts for modifications to the Contract
allegedly made by Crown Ridge. Crown Ridge has denied the claims and filed its
own counterclaims against CEntry. Crown Ridge asserts, among other things, that
Crown Ridge is entitled to the retention amount based upon certain breaches of
the Contract by CEntry and that Crown Ridge is entitled to liquidated damages
for CEntry's failure to meet a mechanical completion deadline specified in the
Contract. An arbitration panel has been selected and arbitration will begin
August 2, 1999. The arbitration will take place in Salt Lake City, Utah and the
case is currently in the discovery phase. Due to the uncertainties inherent in
any litigation or arbitration proceeding, there can be no assurance that Crown
Ridge will or will not prevail or that significant damages will not be awarded
against Crown Ridge.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
On November 18, 1998, the Company held an annual meeting of its
shareholders to elect members of the Company's Board of Directors and to approve
the appointment of Deloitte & Touche LLP as independent accountants for the
Company. Proxies for the meeting were solicited pursuant to Regulation 14A under
the Securities and Exchange Act of 1934. At the meeting, 7,201,011 shares of
common stock of the Company were represented in person or by proxy out of a
total of 12,668,512 shares issued and outstanding as of the record date
established with respect to such meeting.
All three of the Company's directors were re-elected to successive
terms as directors of the Company. With respect to the election of James A.
Middleton, 6,746,686 shares were voted in favor of his election, 429,450 shares
were voted against and 24,925 either abstained from voting or were broker
non-votes.
With respect to the election of Jay Mealey, 6,588,180 shares were voted
in favor of his election, 587,956 shares were voted against and 24,875 either
abstained from voting or were broker non votes. Lastly, with respect to the
election of Richard S. Rawdin, 6,528,430 shares were voted in favor of his
election, 647,706 shares were voted against and 24,875 either abstained from
voting or were broker non votes. The Company's shareholders also voted in favor
of appointing the accounting firm of Deloitte & Touche LLP as the Company's
independent auditors for the next fiscal year, with 7,188,939 shares voting in
favor of the appointment, 9,372 shares voting against, and 2,700 shares
abstaining or were broker non-votes.
No other matters were presented to the Company's shareholders for their
approval in the fourth quarter of the Company's 1998 fiscal year.
19
PART II.
ITEM 5. MARKET PRICE FOR THE COMPANY'S COMMON EQUITY AND RELATED STOCKHOLDER
MATTERS
The Company's Common Stock has been traded in the over-the-counter
market since 1980. The common stock is currently listed on the NASD OTC Bulletin
Board under the symbol CROE. At the present time, only the common stock is
publicly traded. The following table sets forth the range of high and low bid
quotations, as adjusted for stock splits, of the Company's common stock as
reported by the National Quotation Bureau for each full quarter during the two
most recent fiscal years. The table represents prices between dealers, and does
not include retail markups, markdowns or commissions, and may not represent
actual transactions:
CALENDAR QUARTER ENDED HIGH BID LOW BID
March 31, 1998 1.56 1.19
June 30, 1998 2.13 1.47
September 30, 1998 2.16 1.25
December 31, 1998 1.50 0.97
March 31, 1997 1.25 0.63
June 30, 1997 1.03 0.53
September 30, 1997 1.50 0.63
December 31, 1997 2.00 1.22
As of May 25, 1999, the high bid and low offer quotations reported by
the National Quotation Bureau were $.97 and $1.00, respectively. On May 23,
1999, approximately 748 shareholders of record held the Company's common stock.
The Company declared and paid in 1999 the 8% dividend on the Company's Series A
Preferred Stock which accumulated and was due with respect to the 1998 calendar
year. The Company paid this dividend by issuing 317,069 shares of its common
stock on or about February 2, 1999 to Sundance Assets, L.P., a controlled
affiliate of ECT which now owns the Company's Series A Preferred stock. The
Company relied upon the exemption from registration afforded by Section 4(2) of
the Securities Act of 1933, as amended, and other available exemptions.
The Company has not paid any dividends or made any other distributions
on its common shares. It is the present policy of the Board of Directors of the
Company to retain any earnings for use in the business, and therefore, the
Company does not anticipate paying any cash dividends on its common stock in the
foreseeable future. The terms of the Company's Series A Preferred Stock prohibit
the payment of dividends on common stock at any time that dividends on the
Series A Preferred Stock are due yet unpaid.
By letter agreement dated April 3, 1998, the Company retained Ladenburg
Thalmann & Co., Inc. ("Ladenburg") as its financial advisor to provide corporate
finance assistance, review Company operations and financial condition, analyze
financing alternatives and strategies, evaluate potential transactions and
20
enhance the market for the Company's stock. In exchange for these services, the
Company is obligated to issue to Ladenburg warrants to acquire 400,000 shares of
the Company's common stock. The warrants will be exercisable for five years from
the date of issuance at the following prices: 150,000 shares at $1.50 a share,
150,000 shares at $2.00 per share and 100,000 shares at $2.50 per share. The
Company relied upon the exemption from registration afforded by Section 4(2) of
the Securities Act of 1933, as amended, and other available exemptions.
The Series A Preferred shares are convertible at the option of its
holder(s) into approximately 24% of the common stock of the Company. The number
of shares of common stock issuable upon conversion of the Series A Preferred is
subject to adjustment upon the issuance of additional shares of the Company's
common stock resulting from stock splits, share dividends and other similar
events as well as upon the issuance of additional shares or portions which are
issued (i) in connection with the Company's venture with MCNIC in Crown Ridge,
or (ii) as compensation to any employee, director, consultant or other service
provider of the Company or any subsidiary (other than options to acquire up to
5% of the Company's common stock at or less than the then fair market value).
Dividends accrue on the outstanding Series A Preferred shares at the rate of 8%
per annum and may be paid through cash or common shares of the Company at the
option of the holder(s) of such stock. Subject to the holder(s)' right to
convert the Series A Preferred, the Company may redeem such stock at any time
from the date on which it was issued at a percentage of the Series A Preferred's
stated value ($10) which will vary depending on when the Company exercises such
right. The holder(s) of the Series A Preferred may also require the Company to
redeem its Series A Preferred under certain circumstances after the eighth
anniversary of the issuance of such stock.
The holder(s) of the Series A Preferred have the right, but not the
obligation, to appoint 20% of the Company's Board of Directors. To date, the
holders(s) have not appointed any Directors. In addition, the holder(s) of the
Series A Preferred have certain voting rights upon any attempt by the Company to
alter the rights and preferences, redemption, voting or dividend rights senior
to the Series A Preferred, increase the number of Series A Preferred, reclassify
the Company's securities or enter into specified extraordinary events. All
voting rights of the Series A Preferred expire upon the issuance by the Company
of a notice to redeem such shares.
ITEM 6. SELECTED FINANCIAL DATA
The financial data included in the following table has been derived
from the financial statements for the periods indicated. The financial
statements as of and for the years ended December 31, 1994 through 1997 were
audited by Pritchett, Siler & Hardy, P.C., independent public accountants. The
financial statements as of and for the year ended December 31, 1998 were audited
by Deloitte & Touche, LLP, independent public accountants. The following
financial data should be read in conjunction with the financial statements and
related notes and with management's discussion and analysis of financial
conditions and results of operations included elsewhere herein.
21
Year Ended December 31
(In thousands except per share)
1998 1997 1996 1995 1994
---- ---- ---- ---- ----
Net Revenues $23,836 $87 $225 $214 $326
Income (Loss from
Continuing Operations) ($498) ($1,153) ($422) ($234) ($230)
Income (Loss) Per Share
From Continuing Operations ($0.07) ($0.11) ($0.04) ($0.03) ($0.03)
Total Assets $23,571 $6,610 $4,591 $4,344 $4,351
Total Long-Term Obligations $4,326 $0.00 $182 $794 $964
Redeemable Preferred Stock $4,783 $4,726 -0- -0- -0-
Cash Dividends Per Common Share $0.00 $0.00 $0.00 $0.00 $0.00
Common Stockholders' Equity $767 $1,749 $3,018 $2,611 $2,940
The foregoing selected financial data is presented on a historical
basis and may not be comparable from period to period due to changes in the
Company's operations. Common Stockholders' Equity was restated as of January 1,
1996 to reflect the amortization of $453,649 in research and development
expenditures previously capitalized by the Company.
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULT
OF OPERATIONS
The following discussion and analysis of the Company's financial
condition, results of operations and related matters includes a number of
forward-looking statements within the meaning of Section 27A of the Securities
Act of 1933 and Section 21E of the Securities Exchange Act of 1934.
Forward-looking statements include, by way of illustration and not limitation,
statements containing the works "anticipates," "believes," "expects," "intends,"
"future" and words of similar import which express, either directly or by
implication, management's beliefs, expectations or intentions regarding the
Company's future performance or future events or trends which may affect the
Company or its results of operations.
Forward-looking statements are subject to known and unknown risks,
uncertainties and other factors, including but not limited to changes in
economic conditions generally or with respect to the Company's asphalt products
market in particular, new or increased governmental regulation, increased
competition, shortages in labor or materials, delays or other difficulties in
shipping or transporting the Company's products, technical or operational
difficulties at the Facility of Crown Ridge, difficulties in integrating the
Company's recent joint venture and acquisition related businesses and other
similar risks inherent in the Company's operations or in business operations
generally. Any such risks or uncertainties, either alone or in combination with
other factors, may cause the actual results, performance or achievements of the
Company to differ materially from its anticipated future results, performance or
achievements (which may be expressed or implied by such forward looking
statements). Consequently, the following management's discussion and analysis,
including all forward-looking statements contained therein, is qualified and
22
limited by the foregoing cautionary factors. Interested persons are advised to
consider all forward-looking statements within the context of such cautionary
factors.
Liquidity and Capital Resources
At December 31, 1998, the Company had cash and other current assets of
$11,044,600 as compared to cash and other current assets of $3,288,989 at
December 31, 1997. The increase of $7,755,611 was primarily due to the Company's
formation and the related capitalization of its majority owned subsidiary, Crown
Distribution. Crown Distribution had current assets of $10,104,000 as of
December 31, 1998 which includes approximately $2.8 million in cash, $4.4
million in inventory and $2.8 million in accounts receivable. Crown Distribution
operations require a working capital line for inventory purchases and other
operating expenses. MCNIC, the minority interest owner, has established such
line, in addition to a working capital loan provided, at an interest rate of 8%.
At December 31, 1998, the line had a balance of $3,124,641 and the working
capital loan had a balance of $5,810,581.
The Company also owed MCNIC an additional $5,325,723 at December 31,
1998 with respect to the Preferential Capital Contribution which funded Crown
Distribution's acquisition of the assets of Petro Source Asphalt Company. See
"Item 1. Business Asphalt Distribution - Crown Asphalt Distribution, L.L.C." The
Preferential Capital Contribution requires payment of a 15% rate of return and
is payable solely from 50% of the cash flow from Crown Distribution's
operations. At December 31, 1998, the Company has estimated $1,000,000 of this
balance to be current.
The Company believes its asphalt distribution business, which is
operated through Capco, is a growth business whose success is not dependent on
the Company's interest in the Crown Ridge Project. However, the asphalt
distribution business is capital intensive and requires substantial investments
to acquire terminal storage, blending and raw material assets. The Company
recently acquired several terminals in transactions requiring substantial
capital commitments. On April 17, 1999, the Company acquired the asphalt
terminal fixed assets in Laurel, Montana and Williston, North Dakota along with
certain contractual agreements of Asphalt Supply & Services, Inc. and Inoco,
Inc. for $4,000,000, consisting of $750,000 in cash and 2,500,000 shares of
unregistered common stock. On May 12, 1999, the Company acquired an asphalt
terminal in Rawlins, Wyoming along with inventory for $2,291,571 from S&L
Industrial. The purchase price consisted of the Company assuming S&L's debt of
approximately $1,800,000, entering into a note payable to S&L for $225,000, and
a cash payment of $266,571. The Company remains open to other asphalt related
business opportunities to complement its existing asphalt distribution
capabilities. There can be no assurance that the Company can obtain additional
capital financing required to finance such transactions on acceptable terms and
conditions.
Under the Company's contractual relationships with MCNIC, MCNIC may
have certain rights to participate in additional business opportunities, if any,
which may be pursued by the Company. In the event MCNIC participates in these
business opportunities, the Company expects that MCNIC will fund its
23
proportionate share of the capital expenditures needed to pursue such
opportunities.
The Company believes it has sufficient capital to meet all of its
current working capital requirements from its cash reserve, working capital line
and other financing sources. However, the Company is required to fund 25% of
Crown Ridge's capital costs, start-up costs and operating expenses. As of
December 31, 1998, the Company has made cash contributions of approximately
$1,651,000. Crown Ridge has experienced certain technical difficulties which the
Company believes will be resolved. However, should such delays continue, or
should the facility be unable to operate economically, the Company believes this
would significantly impact Crown Ridge's ability to continue as a going concern
and would adversely impact the Company's operations and financial condition. See
- - "Item 1. Business - Asphalt Production - Crown Asphalt Ridge, L.L.C."
Results of Operations
1998 vs. 1997
During the 1998 fiscal year, the Company made significant progress in
the development of Crown Distribution and its asphalt terminal, blending,
emulsion and distribution facilities. In particular, the Company acquired
facilities located in Utah, Arizona, Colorado, Nevada, Wyoming, Montana and
North Dakota. These asphalt distribution facilities enable the Company to
purchase oil products and related raw materials from its suppliers and to store,
process, blend and otherwise produce various grades of asphalt and asphalt
products for sale to its customers in the western United States. As a result,
the Company's revenues during the year ended December 31, 1998 were generated
primarily from the asphalt product operations of Crown Distribution. Management
of the Company expects these operations to increase in importance as the Company
pursues it business plans. See "Item 1. Business."
The Company's results for the year ended December 31, 1998 include
expenses of $880,186 relating to the Company's early adoption of Statement of
Position (SOP) No. 98-5 which requires expensing of start-up costs. The Company
could have deferred this expense until 1999 but elected to record this change in
accounting principle in 1998. Of this amount, $615,323 relates to expenses
incurred in prior years and $264,863 relates to the current period. Also
included in 1998 results is the value of certain warrants issued totaling
$186,256. These warrants have exercise prices of $1.50, $2.00 and $2.50 per
share. The total of these expenses of $1,066,442 represents approximately 96% of
the Company's loss for 1998.
Total revenue increased from $86,781 for the year ended December 31,
1997 to $23,835,734 for the year ended December 31, 1998, an increase of
$23,748,953. The increase was due to revenue from the Company's recently
acquired subsidiary, Crown Distribution. Crown Distribution is an asphalt
distribution business that was formed to acquire the assets of Petro Source
Asphalt Company, a Texas corporation. Crown Distribution sold approximately
151,000 tons of asphalt during the period.
24
Cost of sales increased from $54,653 for the year ended December 31,
1997 to $21,916,816 for the year ended December 31, 1998, an increase of
$21,862,163. This increase was due to the cost of asphalt sold from the
Company's recently acquired asphalt distribution business. Cost of sales
includes asphalt costs of $17,465,416 and asphalt terminal operating costs of
$4,451,400.
General and administrative expenses increased from $815,401 for the
year ended December 31, 1997 to $1,253,953 for the year ended December 31, 1998,
an increase of $438,552 (54%). This change was due to an increase in the
Company's overhead related to its asphalt distribution business.
Interest and other income/expenses increased from net expenses of
$803,290 for the year ended December 31, 1997 to net expenses of $922,283 for
the year ended December 31, 1998, a decrease of $118,993. The 1998 total was
comprised of interest costs related to the Company's working capital line and
preferential loan for its asphalt distribution business of $851,917, start-up
costs of $264,863 related to Crown Ridge which were expensed pursuant to a
change in accounting principle and $186,256 of expenses related to the valuation
of warrants issued. These amounts were partially offset by interest and other
income of $380,753. The 1997 total was comprised primarily of an $801,461
expense related to a loss on the sale of a subsidiary.
Minority interest of $300,971 represents MCNIC's approximate 49%
interest in Crown Distribution.
1996 vs. 1997
Oil and gas revenue decreased from $224,855 for the year ended December
31, 1996 to $86,781 for the year ended December 31, 1997, a decrease of $138,074
(61%). This decrease was due to the sale of the Company's oil and gas producing
subsidiary, Gavilan Petroleum, Inc. in July, 1997.
Oil and gas production costs decreased from $137,340 for the year ended
December 31, 1996 to $54,653 for the year ended December 31, 1997, a decrease of
$82,687 (60%). This decrease was due to the sale of the Company's oil and gas
producing subsidiary, Gavilan Petroleum, Inc. in July, 1997.
General and administrative expenses increased from $631,463 for the
year ended December 31, 1996 to $815,401 for the year ended December 31, 1997,
an increase of $189,938 (29%). This increase was primarily due to an increase in
expenses relating to the Asphalt Ridge oil sand project financing.
Other income/expenses increased from total expenses of $6,682 for the
year ended December 31, 1996, to total expenses of $803,290 for the year ended
December 31, 1997, an increase of $796,608. This increase was due to the loss
recorded on the sale of Gavilan Petroleum, Inc.
25
Year 2000 Assessment
Like many other companies, the "Year 2000 problem" creates risks for
the Company. The "Year 2000 problem" is the result of computer systems and other
equipment with embedded chips or processors using two digits, rather than four,
to define a specific year and potentially being unable to accurately process,
provide and/or receive date and time data from, into and between the twentieth
and twenty-first centuries, including the years 1999 and 2000, and leap year
calculations. The Year 2000 problem, if not identified and corrected in a timely
manner, could result in system failures or miscalculations, causing disruptions
to various Company activities and operations and adversely impact its financial
condition and results of operations.
The Company is addressing the Year 2000 problem in three overlapping
phases: (i) the identification and assessment of all critical equipment,
hardware and software systems requiring modification or replacement prior to
2000; (ii) the remediation and testing of modifications to critical items; and
(iii) the development of contingency and business continuation plans to mitigate
the extent of any disruption to the Company's operations arising from the Year
2000 problem.
The Company began its assessment of Year 2000 issues in the first
quarter of 1999 and the Company continues to assess the Year 2000 problem and
its potential impact on its information technology ("IT") and non-IT systems.
These activities are intended to encompass all major categories of systems in
use by the Company, including oil sands extraction functions, asphalt
processing, transportation and logistics systems, sales and finance and
accounting. The Company is also actively working with critical suppliers of
products and services to determine that the suppliers' operations and the
products and services they provide are Year 2000 compliant or to monitor their
progress toward year 2000 compliance. The Company expects that assessment,
remediation and contingency planning activities will continue throughout 1999
with the goal of appropriately resolving all material internal systems and third
party issues. However, there can be no assurance that the Company will be able
to complete its assessment, remediate problems or implement effective
contingency plans before the end of 1999. Further, the Company's recent
acquisitions of asphalt terminals, and the Company's continuing efforts to
integrate these assets and new personnel into the Company's overall operations,
present additional difficulties in the Company's assessment and remediation
efforts.
The Company and its affiliated joint venture entity, Crown Ridge,
employ a number of IT systems in their operations, including, without
limitation, computer networking systems, financial systems and other similar
systems. In 1998, the Company and its subsidiaries began conversion of their
principal computer software systems to a new integrated system to support future
growth and improve productivity. Although no independent assessment has been
conducted, management of the Company believes that the new computer system is
Year 2000 compliant based upon indications from its computer systems vendors
that the new computer systems incorporate current technology and software which
are Year 2000 compliant.
26
The Facility constructed by Crown Ridge incorporates state of the art
technology and the Company believes that its IT and non-IT systems are Year 2000
compliant. However, the sophisticated nature of this Facility and the fact that
it is in its initial operational phase requires that the Company continue to
assess its Year 2000 readiness.
The Company is also assessing its non-IT systems containing embedded
electronic circuits. The Company's has identified the operations of Crown Ridge,
Crown Distribution and CAT LLC, the Company's joint venture operating companies,
as having the most non-IT Year 2000 operational risks since the Company's
revenues and income are or will be derived primarily from these operations. As
of March 15, 1999, the Company has not identified any material non-IT systems
that are not Year 2000 compliant, although the Company's assessment efforts are
ongoing.
The Company is highly dependant upon electric power, natural gas,
asphalt, petroleum based products and chemicals, as well as the delivery of such
items by all forms of transportation, including, pipeline, shipping, rail and
truck. A shortage of any of the foregoing products or a failure of or delays in
one or more methods of transportation could have a material adverse affect on
the Company and Crown Ridge and their respective operations.
Although the Company has obtained assurances from some of its key
suppliers, it has not independently evaluated whether its key suppliers are or
will be Year 2000 compliant, and therefore the Company's contingency plans will
assume that at least some of these suppliers will have disruptions in their
deliveries and services to the Company or Crown Ridge. Given that assumption
(and the risk that some of the Company's IT or non-IT systems will experience
unidentified or unremediated Year 2000 problems), some of the worst case Year
2000 scenarios the Company might experience include a complete shut-down of
Crown Ridge's Facility and one or more of the asphalt terminals of Crown
Distribution, or a failure or substantial delay in the transportation of the
Company's asphalt products. The occurrence of any of these events could result
in lost revenues, lost customers, increased processing, storage or
transportation costs, increased financing costs related to inventory shortages
or sales order backlogs, substantial remediation costs and other similar costs
and expenses.
The potential costs, if any, to remediate direct or indirect Year 2000
problems the Company may have or identify has not been determined, nor can such
costs, if any, be accurately predicted or determined given the ongoing nature of
the Company's assessment efforts. At present, the Company has spent
approximately $96,000 upgrading its IT systems and has spent roughly $5,000 to
assess or remediate non-IT issues (excluding salaries of Company personnel). The
Company currently expects that the total cost of these programs, including both
incremental spending and redeployed resources, will not be in excess of
$150,000. The total cost estimate is based on the current assessment of the
projects and is subject to change as the project's progress.
The Company has not yet developed any contingency plans in the event
that it or its subsidiaries' IT or non-IT systems fail or in the event that
material suppliers of goods or services fail or have significant disruptions in
deliveries to the Company and its subsidiaries.
The foregoing disclosure is based on the Company's current
expectations, estimates and projections, which could ultimately prove to be
27
inaccurate. Because of uncertainties, the actual effects of the Year 2000
problem on the Company may be different from the Company's current assessment.
Factors, many of which are outside the control of the Company, that could affect
the Company's ability to be Year 2000 compliant by the end of 1999 include the
failure of customers, suppliers, governmental entities and others to achieve
compliance; the inability or failure to identify all critical Year 2000 issues
or to develop appropriate contingency plans for all Year 2000 issues that
ultimately may arise.
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATE
The financial statements required by this item are set forth following
Item 14 hereof.
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURE
On June 2, 1998, the Company terminated its independent auditor
relationship with Pritchett, Siler & Hardy, P.C. ("Pritchett").
Pritchett's report on the financial statements of the Company for the
fiscal year ended December 31, 1997 did not contain an adverse opinion or a
disclaimer of opinion, and were not qualified or modified as to uncertainty,
audit scope or accounting principles. The Pritchett report for the fiscal year
ended December 31, 1996 contained a statement as to the ability of the Company
to continue as a going concern. Other than the foregoing, there were no adverse
opinions or disclaimers of opinion, or qualifications or modifications as to
uncertainty, audit scope or accounting principles.
The decision to change accountants was approved by the Company's Board
of Directors.
During the fiscal years ended December 31, 1997, 1996 and 1995, and the
period January 1, 1998 through June 2, 1998, there were no disagreements with
Pritchett on any matter of accounting principles or practices, financial
statement disclosure, or auditing scope or procedures or any reportable events.
On June 2, 1998, the Company engaged Deloitte & Touche LLP ("Deloitte")
as its independent auditors to audit and report on the financial statements of
the Company for the fiscal year ended December 31, 1998. During the audit for
the year ended December 31, 1998, certain prior period R & D expenditures
totaling $453,649 have been reclassified as an expense as of January 1, 1996.
Prior to engaging Deloitte, neither the Company nor anyone acting on
its behalf consulted with Deloitte regarding the application of accounting
principles to any specified transaction or the type of audit opinion that might
be rendered on the Company's financial statements. In addition, during the
Company's fiscal years ended December 31, 1997 and 1996, and during the period
January 1, 1998 through June 2, 1998, neither the Company nor anyone acting on
28
its behalf consulted with Deloitte with respect to any matters that were the
subject of a disagreement (as defined in Item 304(a)(1)(iv) of Regulation S-K)
or a reportable event (as described in Item 304(a)(1)(v) of Regulation S-K).
PART III.
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT
The executive officers and directors of the Company, their ages and
their positions are set forth below:
NAME AGE POSITION
James A. Middleton 63 Chairman of the Board of Directors
Jay Mealey 42 Chief Executive Officer
President, Treasurer, Director
Alexander L. Searl 56 Chief Operating and Financial Officer
Richard S. Rawdin 40 Vice President, Secretary, Director
James A. Middleton has served as a director since February 1996 and
served as Chief Executive Officer from December 1996 until his resignation on
April 16, 1999. Mr. Middleton will continue to serve as a director until a new
director is duly elected and qualified. Mr. Middleton was an Executive Vice
President and director of Atlantic Richfield Co. from October 1987 to September
1994 and is presently a director of Texas Utilities Co.
Jay Mealey has served as President and Chief Operating Officer and as a
director of the Company since 1991. Mr. Mealey was appointed as Chief Executive
Officer on April 16, 1999 and will serve as Chief Executive Officer, President
and Treasurer and as a director, until a new officer and director, respectively,
are elected and qualified. Mr. Mealey has been actively involved in the oil and
gas exploration and production business since 1978. Prior to employment with the
Company, Mr. Mealey served as Vice President of Ambra Oil and Gas Company and
prior to that worked for Belco Petroleum Corporation and Conoco, Inc. in their
exploration divisions. Mr. Mealey is responsible for managing the day-to-day
operations of the Company.
Alexander L. Searl was appointed as Chief Operating Officer and Chief
Financial Officer of the Company on June 4, 1999. Prior to joining the Company,
Mr. Searl was Senior Vice President and Chief Financial Officer of TheraTech,
Inc., a publicly-held pharmaceutical drug delivery company. Prior to joining
Theratech, Mr. Searl was employed by American Stores Company, one of the
nation's leading food and drug retailers, where he was Executive Vice President
and Treasurer. He previously served 21 years in management positions of
increasing responsibility with Hercules Incorporated, including several years as
the international chemical manufacturer's corporate vice president and
treasurer.
29
Richard S. Rawdin has served as a Vice President and Secretary and as a
director of the Company since 1991 and will serve as Vice-President and
Secretary and as a director, until a new officer and director, respectively, are
elected and qualified. From February 1986 to September 1991, Mr. Rawdin served
as Controller and Vice President of Finance for Kerry Petroleum Company, Inc.
Prior to that, he was employed as a senior consultant with Deloitte and Touche.
Mr. Rawdin is a Certified Public Accountant.
Compliance with Section 16(a) of the Securities and Exchange Act of 1934
Section 16(a) of the Securities and Exchange Act of 1934 (the "Exchange
Act") requires the Company's executive officers and directors and certain
shareholders to file initial reports of ownership and reports of changes in
ownership with the Securities and Exchange Commission (the "Commission"). Such
persons are required by Commission regulations to furnish the Company with
copies of all Section 16(a) forms they file. Based solely on a review of the
copies of such forms furnished to the Company and written representations from
the Company's executive officers and directors, the Company notes that James A.
Middleton, a director of the Company and it former Chief Executive Officer, was
late in reporting that he was granted, on February 6, 1998, options to acquire
75,000 shares of Company common stock at an exercise price of $1.50 per share.
Mr. Middleton filed a Form 5 on February 16, 1999 reporting the grant of such
options.
ITEM 11. EXECUTIVE COMPENSATION
The compensation of James A. Middleton, the Company's Chief Executive
Officer and the Company's two highly paid executive officers (collectively, the
"Named Officers") is discussed in the following tables.
Summary Compensation Table
The following table contains information regarding compensation paid to
the Company's Named Officers for the fiscal years listed. No other executive
officer of the Company earned compensation in excess of $100,000 in fiscal year
1998.
=============================== ===================================================== ========================================
Annual Compensation Long Term
Compensation
=============================== ===================================================== ========================================
Name and Principal Position Salary Bonus ($) Other Annual Securities All Other
Year ($) Compensation ($) Underlying Compensation ($)
Options/SARS (#)
- ------------------------------- ---------- ------------ ---------- ------------------ --------------------- ------------------
James A. Middleton, Chief 1998 $0 $0 $0 0 0
Executive Officer(1) 1997 $0 $0 $0 0 0
1996(1) $0 $0 $0 0 0
- ------------------------------- ---------- ------------ ---------- ------------------ --------------------- ------------------
Jay Mealey, President 1998 $155,000 $0 $48,539(4) 0 $539(5)
1997 $100,000 $56,250 $0 450,000 (3) 0
1996 $78,000 $0 $0 0 0
- ------------------------------- ---------- ------------ ---------- ------------------ --------------------- ------------------
Richard S. Rawdin, Vice 1998 $78,000 $0 $31,672(4) 0 0
President and Secretary 1997 $52,500 $56,250 $0 0(3) 0
1996(2) * * * * *
=============================== ========== ============ ========== ================== ===================== ==================
30
(1) Mr. Middleton resigned as Chief Executive Officer on April 16, 1999.
(2) Although employed by the Company, Mr. Rawdin did not earn compensation in
excess of $100,000 in 1996.
(3) Does not include 148,148 options to purchase Common Stock of the Company at
the purchase price of $.5625 per share which were previously granted to both Mr.
Mealey and Mr. Rawdin in May 1995 and which became exercisable upon satisfaction
of a condition precedent to vesting and exercise, namely, the receipt and
completion of financing on the Company's Asphalt Ridge project.
(4) Includes non-cash compensation expense in the amounts of $40,139 and $31,672
for Mr. Mealey and Mr. Rawdin, respectively, recorded by the Company in
connection with their exercise of options to acquire Company common stock. The
foregoing sums represent the value of such options, generally determined by the
difference between the fair market value of the stock subject to the options and
the exercise price paid for the common stock. Mr. Mealey's amount also includes
a car allowance of $8,400.
(5) Represents life insurance paid for Mr. Mealey.
Option/SAR Grants Table
The following table sets forth information with respect to individual
grants of stock options made by the Company to the Named Officers during the
fiscal year ended December 31, 1998. The Company did not grant any stock
appreciation rights during the fiscal year ended December 31, 1998.
============================ ============= ==================== =================== ============== ===========================
Number of % of Total Options Exercise or Base Expiration Potential Realizable Value
Securities Granted to Price ($/Sh) Date for at Assumed Annual Rates of
Name Underlying Employees in Fiscal Option Term Stock Price Appreciation
Options year for Option Term
Granted (#)
============================ ============= ==================== =================== ============== ===========================
James A. Middleton (1) 75,000 100% $1.50 per share 1/29/03 $22,500
Jay Mealey 0 N/A N/A N/A N/A
Richard S. Rawdin 0 N/A N/A N/A N/A
============================ ============= ==================== =================== ============== ===========================
(1) Granted as of February 6, 1998 under Mr. Middleton's Employment Agreement
dated January 26, 1996, which obligated the Company to grant such options as
additional compensation for services during the period February 6, 1997
- -February 6, 1998.
31
Aggregated Option/SAR Exercises and Fiscal Year-End Option/SAR Value Table
The following table contains information regarding the fiscal year-end
value of unexercised options held by the Named Officers. The aggregate value of
the options was calculated using the average bid and asked price for the
Company's Common Stock on December 31, 1998.
========================= ================= =============== ================================== ==================================
Number of securities underlying Value of unexercised in-the-money
unexercised options/SARs at options/SARs at fiscal year end
fiscal year end ($)
(#)
---------------------------------- ----------------------------------
Shares Value
Name Acquired Realized
on Exercise (#) ($) Exercisable Unexercisable Exercisable Unexercisable
========================= ================= =============== ================================== ==================================
James A. Middleton 0 0 450,000 0 $0 $0
Jay Mealey 548,148 $40,139(1) 0 450,000 (2) $0 $0
Richard S. Rawdin 398,148 $31,672(1) 0 398,148 $0 $0
========================= ================= =============== ================================== ==================================
(1) Includes non-cash compensation expense in the amounts of $40,139 and $31,672
for Mr. Mealey and Mr. Rawdin, respectively, recorded by the Company in
connection with their exercise of options to acquire Company common stock. The
foregoing sums represent the value of such options, generally determined by the
difference between the fair market value of the stock subject to the options and
the exercise price paid for the common stock.
(2) Represents three tranches of 150,000 options granted in a single grant to
Mr. Mealey in November of 1997. The first tranche of options vested on November
1, 1997, but is not exercisable until the average offer price of the Company's
Common Stock equals or exceeds $2.00 per share for thirty days. The second
tranche of options vested in November 1, 1998, provided that Mr. Mealey is
employed by the Company, but will not be exercisable until the average offer
price of the Company's Common Stock equals or exceeds $3.00 per share for thirty
days. The third tranche of options will vest on November 1, 1999, provided that
Mr. Mealey is employed by the Company, but will not be exercisable until the
average offer price of the Company's Common Stock equals or exceeds $4.00 per
share for thirty days.
Director Compensation
The Company does not presently offer any compensation to its directors
for their service as members of the Company's Board of Directors. Directors,
however, are reimbursed for their expenses in attending Board meetings and are
not precluded from serving the Company in any other capacity and receiving
compensation therefor. Following his resignation as Chief Executive Officer of
the Company on April 16, 1999, James A. Middleton serves the Company only in the
capacity as a director and is therefore the Company's only outside director.
32
Employment Contracts
On January 26, 1996, the Company entered into an employment agreement
with James A. Middleton, the Chief Executive Officer and Chairman of the Board
of the Company. Mr. Middleton's employment agreement terminated on February 6,
1999. The agreement provided for a base salary equal to five percent of the
Company's net profits from operations before depletion, depreciation, tax
credits and amortization, but after interest on debt, with a salary cap of
$1,000,000 per calendar year. Under his employment agreement, Mr. Middleton was
granted options to purchase 300,000 shares of the Company's Common Stock at an
exercise price of $.66 per share pursuant to the employment agreement. Mr.
Middleton was also granted, on February 6, 1998 and 1999, additional options to
purchase 75,000 shares of the Company's Common Stock (when combined, these
options allow Mr. Middleton to acquire 150,000 shares of Common Stock). Mr.
Middleton has resigned his position as Chief Executive Officer of the Company
and now serves only as a director.
On November 1, 1997, the Company entered into an employment agreement
with Jay Mealey, the Company's President and Treasurer. Mr. Mealey's employment
agreement expires on December 31, 1999, but will automatically be extended until
December 31, 2002, unless the Company gives written notice of non-renewal during
the year 2000, in which case the agreement will terminate 12 months after
delivery of the written notice of non-renewal. The employment agreement provided
for an initial base salary of $150,000, which amount was increased to $180,000
on November 1, 1998 and will be further increased to $210,000 on November 21,
1999. Thereafter, the agreement increases each subsequent year by 20% per annum
effective as of January 1 of each successive year beginning January 1, 2001. In
addition to the base salary, Mr. Mealey is entitled to compensation bonuses
based on (1) the Company's earnings per share and (2) the price of the Company's
Common Stock. Mr. Mealey is also eligible to receive a discretionary bonus each
fiscal year during the term or renewed terms of the agreement in amounts
determined by the Board of Directors of the Company in its sole discretion.
Under the terms of the employment agreement, Mr. Mealey was also issued options
pursuant to the Company's Long Term Equity-Based Incentive Plan to purchase
450,000 shares of the Company's Common Stock at an exercise price of $1.62 per
share. The options vest in three equal tranches. The first tranche of options to
purchase 150,000 shares vested on November 1, 1997, the second tranche of
150,000 options vests on November 1, 1998 and the final tranche vests on
November 1, 1999. None of the options, however, can be exercised until the offer
price of the Company's Common Stock, for thirty days, equals or exceeds $2.00
per share with respect to the first tranche of options, $3.00 per share with
respect to the second tranche and $4.00 per share with respect to the final
tranche.
Mr. Mealey's employment agreement is terminable upon his death or
disability, terminable for cause and terminable by Mr. Mealey for Good Reason
(as defined in the Employment Agreement) following a Change of Control (as
defined in the Employment Agreement). If terminated for "cause" as defined in
the Employment Agreement, Mr. Mealey is not entitled to receive compensation or
benefits beyond that which has been earned or has vested on the date of
termination. If terminated by Mr. Mealey's death or disability, Mr. Mealey's
legal representatives or beneficiaries are entitled to receive continued
payments in an amount equal to 70% of his base salary in effect at the time of
his death or disability until the end of the term of the Employment Agreement or
for a period of twelve months, whichever is longer, plus a prorated amount of
33
any Bonus payable under the Employment Agreement. In the event of the
termination of Mr. Mealey's employment without cause or upon termination of
employment by Mr. Mealey for Good Reason following a Change of Control, Mr.
Mealey is entitled to payment of his unpaid base salary, plus a lump sum payment
equal to three times the sum of his base salary and bonuses. Further, all
options granted to Mr. Mealey vest and become fully exercisable and, at Mr.
Mealey's option, can be surrendered to the Company for cash in an amount equal
to the fair market value of a share of the Company's common stock minus the
exercise price of the option times the number of options surrendered. Mr. Mealey
is also entitled to receive any and all fringe benefits offered to employees of
the Company for a certain period of time. In addition, if the benefit payments
are subject to excise taxes, the Company is required to pay Mr. Mealey an amount
sufficient to cover such taxes.
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT
The following table sets forth certain information with respect to
beneficial ownership of the Company's Common Stock as of May 31, 1999 for (i)
each executive officer of the Company, (ii) each director of the Company, (iii)
each person known to the Company to be the beneficial owner of more than 5% of
the outstanding shares of any class of the Company's stock, and (iv) all
directors and officers as a group.
Name and Address (1) Number of Shares Percentage of Class (2)
Beneficially Owned
- ------------------------------ ------------------- -----------------------
Common Stock
Sundance Assets, L.P. (3) 4,602,069(4) 26.19%
Jay Mealey 2,337,699(5) 17.26%
Thomas W. Bachtell 2,124,100(6) 15.35%
Richard S. Rawdin 589,308 4.44%
James A. Middleton 505,000(7) 3.68%
Alexander L. Searl 0 0%
Executive Officers and
Directors as Group (4 persons) 3,432,007 24.52%
================================ ==================== ======================
(1) The address for Sundance Assets, L.P. is 1400 Smith, Houston,
Texas, 77002. The address for Messrs. Middleton, Mealey and Rawdin is c/o Crown
Energy Corporation, 215 South State Suite 650, Salt Lake City, Utah 84111. The
address for Mr. Bachtell is 3245 Big Spruce Way, Park City, Utah 84060.
(2) Based on 13,285,581 shares of the Company's Common Stock issued and
outstanding on May 23, 1999. Under Rule 13d-3 of the Exchange Act, shares are
deemed to be beneficially owned by a person if the person has the right to
acquire the shares (for example, upon exercise of an option) within 60 days of
the date as of which the information is provided. In computing the percentage
34
ownership of any person, the amount of shares outstanding is deemed to include
the amount of shares beneficially owned by such person (and only such person) by
reason of these acquisition rights. As a result, the percentage of outstanding
shares of any person as shown in this table does not necessarily reflect the
person's actual ownership or voting power with respect to the number of shares
of Common Stock actually outstanding.
(3) Sundance Assets, L.P., a Delaware limited partnership ("Sundance"),
is a controlled affiliate of Enron Corp., an Oregon corporation. The general
partner of Sundance is Ponderosa Assets, L.P., a Delaware limited partnership
("Ponderosa") and wholly-owned subsidiary of Enron Corp. and certain of it
subsidiaries. The general partner of Ponderosa is Enron Ponderosa Management
Holdings, Inc., a Delaware corporation ("EPMH") and wholly-owned subsidiary of
Enron Corp. Because of its control of Ponderosa, EPMH and Sundance, Enron Corp.
may be deemed to be the beneficial owner of all securities of the Company
beneficially owned by Sundance. However, Enron Corp., Ponderosa and EPMH
disclaim beneficial ownership of all such securities of the Company.
(4) Includes 317,069 shares of Company common stock issued to Sundance
on February 2, 1999, and 4,285,000 common stock shares issuable upon exercise of
500,000 shares of the Company's $10 Class A Convertible Preferred Stock (which
are convertible into shares of the Company's Common Stock at the rate of 8.57
shares of common stock for each share of preferred stock, subject to adjustment
as set forth in the Certificate of Designations of the Class A Preferred Stock).
(5) Includes 2,077,699 shares owned directly by Mr. Mealey, 150,000
shares underlying options to acquire common stock exercisable within 60 days and
110,000 shares gifted by Mr. Mealey to Glenn Mealey as custodian for Mr.
Mealey's children, Cameron and Andrew Mealey. Mr. Mealey expressly disclaims
beneficial ownership of the shares held by Glenn Mealey.
(6) Includes 548,148 shares underlying options to acquire common stock
which are exercisable within 60 days.
(7) Includes 450,000 shares underlying options to acquire common stock
which are exercisable within 60 days.
Change in Control Contracts
In November 1997, the Company entered into an Employment Agreement with
Mr. Jay Mealey which contains "change of control" provisions providing for the
payment of compensation and benefits upon the Company's termination of Mr.
Mealey's employment without cause or termination by Mr. Mealey for Good Reason
(as defined in that agreement). The change of control terms of Mr. Mealey's
contract are more fully discussed above in Item 11. "Executive
Compensation--Employment Contracts." The Company's Long Term Equity-Based
Incentive Plan ("Plan") also contains change-in-control provisions.
Specifically, the Plan provides that upon a change-in-control as defined in the
35
Plan, that all options issued pursuant to the Plan will automatically vest and
all periods or conditions of restriction will be deemed to have been completed
or fulfilled, as the case may be.
In addition, Jay Mealey, the Company's President has entered into a
Right to Co-Sale Agreement (the "Co-Sale Agreement") with ECT wherein he agreed
not to sell any securities of the Company which he owns, or any interests in
such securities, to any person for a period of five years except in accordance
with the terms of the Co-Sale Agreement which generally requires that upon
receipt of a bona fide offer to purchase more than 50% of the shares of the
Company's stock held by Mr. Mealey or more than 50% of the outstanding
securities of the Company, Mr. Mealey shall give ECT notice of the offer and an
opportunity to sell all or a pro-rata portion of the shares of the Company's
stock held by ECT. The sale of 50% or more of the shares held by Mr. Mealey
together with the sale of a similar number of the shares held by ECT could
result in a change in control of the Company.
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
Effective as of January 2, 1998, the President and Treasurer of the
Company, Jay Mealey, and the Vice President and Secretary of the Company,
Richard Rawdin, both of whom are also directors of the Company, executed
Promissory Notes in the amounts of $319,583 and $229,583, respectively, as
consideration for the purchase of shares of Common Stock of the Company through
the exercise of options previously granted to each of them. The notes bear
interest at an adjustable rate of interest equal to the prime rate of interest
as published by the Wall Street Journal on the first business day of each
calendar quarter. The notes are secured by respective stock pledge agreements
granting the Company a security interest in the shares of stock purchased upon
the exercise of the options. Each note is payable on a pro rata basis upon the
sale of the underlying stock securing repayment thereof or January 2, 2003,
whichever occurs first.
As of December 31, 1998, there existed certain payables and receivables
between the Company and Crown Ridge. In particular, Crown Ridge owed $3,290 to
CAC and $69,711 to the Company and Capco owed $3,227 to Crown Ridge. The Company
has also paid various construction costs, start-up expenses and royalties for
and on behalf of Crown Ridge. MCNIC holds a majority interest in Crown Ridge.
On August 1, 1997, Capco entered into a two-year Operating and
Management Agreement to manage, supervise and conduct the operations of Crown
Ridge. See "Item 1. Business of the Company - Asphalt Production - Crown Ridge,
L.L.C." MCNIC holds a majority interest in Crown Ridge.
During 1998, the Company issued 300,000 shares of its common stock at
the price of $1.34 per share to Asphalt Ridge, L.P. in exchange for certain
research and development services provided to the Company. Certain owners of
Asphalt Ridge, L.P. own shares of the Company's common stock, although such
interests in the aggregate are believed to be less than 5% of the Company's
issued and outstanding stock.
In July 1998, Capco entered into an Operating and Management Agreement
to manage, supervise and conduct the operations of Crown Distribution. See "Item
36
1. Business of the Company - Asphalt Distribution - Crown Distribution, L.L.C."
MCNIC holds a minority interest in Crown Distribution.
The Company serves as manager of CAT LLC. See "Item 1. Business of the
Company - Asphalt Distribution - Cowboy Asphalt Terminal, L.L.C." MCNIC holds
a minority interest in CAT LLC through its interest in Crown Distribution.
37
PART IV.
ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES AND REPORTS ON FORM 8-K
(a) Documents filed as part of this report:
(1) Financial statements, as set forth on the attached Index to Financial
Statements.
(2) Exhibits, as set forth on the attached Exhibit Index.
(b) On November 18, 1998, the Company filed an amendment to its Form 8-K
filed on July 17, 1998 to include certain pro forma financial
statements regarding Petro Source Asphalt Company. During the quarter
ended December 31, 1998, the Company did not file any other reports on
Form 8-K.
38
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the Securities
Exchange Act of 1934, the registrant has duly caused this Registration Statement
to be signed on its behalf by the undersigned, thereunto duly authorized.
CROWN ENERGY CORPORATION
(Registrant)
/s/ Jay Mealey
---------------------------
Jay Mealey
Chief Executive Officer,
Director
Date: June 14, 1999
Pursuant to the requirements of the Securities Exchange Act of 1934, this report
has been signed below by the following persons on behalf of the Registrant and
in the capacities and on the dates indicated.
Jay Mealey
/s/ Jay Mealey
---------------------------
Chief Executive Officer and
director
Date: June 14, 1999
Richard S. Rawdin
/s/ Richard S. Rawdin
---------------------------
Vice President, Director
and Secretary
Date: June 14, 1999
39
EXHIBIT INDEX
EXHIBIT NO. DOCUMENT
2.1 Purchase and Sale Agreement regarding Petro Source Asphalt
Company, dated July 2, 1998 (15)
2.2 Memorandum of Closing regarding Refinery Technologies, Inc.*
2.3 Assignment and Agreement with Refinery Technologies, Inc.*
3.1 Articles of Incorporation (6)
3.2 Certificate of Voting Powers, etc. of the Company's Preferred
Stock (10)
3.3 Amended Bylaws (1)
4.1 Convertible Debenture - Agreement dated May 6, 1997, between
Crown Energy Corporation and
Oriental New Investments, Ltd. (7)
4.2 Warrant with Encap Investments, L.C. (12)
4.3 Form of Stock Option Agreements between the Company and (1)
Jay Mealey, (2) Richard Rawdin
and (3) Thomas Bachtell (12)
4.4 The Crown-Energy Long Term Equity Basic Incentive Plan (13)
4.5 Common Stock Purchase Warrant dated November 4, 1997
issued to Enron Capital & Trade
Resources Corp. (10)
4.6 Form of Warrant issued to principals of IBEX Group, Inc. and
Hoffman Partners, Inc.
4.7 May 1998 Warrant issued to Ladenburg Thalmann
10.1 License Agreements with Park Guymon Enterprises, Inc., dated
January 20, 1989, June 1, 1990
and June 1, 1990 (3)
10.2 Amendment to License Agreement with Park Guymon Enterprises,
Inc. (6)
10.3 Employment Agreement with Jay Mealey (12)
10.4 Consulting Agreement with IBEX Group, Inc. and Hoffman
Partners, Inc. (6)
10.5 Promissory Note issued to Jay Mealey 12/31/95 (6)
10.6 Promissory Note issued to Thomas W. Bachtell 12/31/95 (6)
10.7 Promissory Note issued to Thomas W. Bachtell 12/31/95 (6)
10.8 Oil and Gas Minerals Lease, dated September 1, 1991 with
Wembco, Inc. (4)
10.9 Crown Office Space Lease (5)
10.10 First Amendment to Crown Office Space Lease (12)
10.11 Investment Banking Agreement with Fortress Financial Group,
Ltd. (12)
10.12 Promissory Note from Jay Mealey (12)
10.13 Promissory Note from Rich Rawdin (12)
10.14 Stock Pledge Agreement with Jay Mealey (12)
10.15 Stock Pledge Agreement with Rich Rawdin (12)
10.16 Assignment of Assets to Crown Asphalt Ridge, L.L.C. by Crown
Asphalt Corporation (12)
10.17 Assignment to Crown Asphalt Ridge, L.L.C. by Crown Asphalt
Corporation (12)
10.18 Asphalt Ridge Project Operating and Management Agreement with
Crown Asphalt Ridge L.L.C., dated August 1, 1997 (12)
10.19 Sublicense and Agreement between Crown Asphalt Ridge, L.L.C.
and Crown Asphalt Corporation (12)
10.20 Stock Purchase Agreement with Enron Capital & Trade Resources
Corp. (10)
40
10.21 Engineering, Construction and Procurement Agreement with
CEntry Constructors & Engineers, LLC (12)
10.22 Revised Right of Co-Sale Agreement between Jay Mealey and
Enron Capital & Trade Resources Corp. (11)
10.23 Guaranty Agreement in favor of MCNIC Pipeline & Processing
Company (12)
10.24 Crown Office Space Sublease (12)
10.25 Stock Purchase Agreement dated July 2, 1997, between Crown
Energy Corporation and Road Runner Oil, Inc. (8)
10.26 Letter Agreement with EnCap Investments L.C. (12)
10.27 Purchase and Sale Agreement dated July 2, 1998 between
Petro Source Asphalt Company and
Crown Asphalt Distribution LLC (15)
10.28 Saba Petroleum Processing Agreement for Santa Maria
Refinery in California dated May 1, 1997 between Petro
Source Refining Corporation and Santa Maria Refining
Company and Saba Petroleum Company, which was assigned
to the Company on or about July 2, 1998. (16)
10.29 MetLife Equipment Lease dated May 1, 1997 between Petro
Source Refining Corporation and MetLife Capital
Corporation, which was assigned to the Company on or
about July 2, 1998. (16)
10.30 PacifiCorp Property Lease dated April 1, 1996 between
Petro Source Refining Corporation and PacifiCorp, which
was assigned to the Company on or about July 2, 1998. (16)
10.31 GATX Rail Car Lease dated December 10, 1987 between Petro
Source Corporation and General American Transportation
Corporation, which was assigned to the Company on or about
July 2, 1998 (16)
10.32 Office Space Lease (16)
10.33 Operating Agreement for Crown Asphalt Ridge, L.L.C. (17)
10.34 Operating Agreement for Crown Asphalt Distribution L.L.C.*
10.35 Operating and Management Agreement for Crown Asphalt
Distribution L.L.C.*
10.36 Operating Agreement for Cowboy Asphalt Terminal L.L.C. *
10.37 April 3, 1998 Agreement regarding investment banking services
with Ladenburg Thalmann*
10.38 Indemnification Agreement with Ladenburg Thalmann*
10.39 Asset Purchase Agreement - Asphalt Supply & Services, Inc.
and Inoco, Inc. (18)
11 Statement regarding computation of per share earnings (the
information required for Exhibit 11 is set forth on page F-5
of the Financial Statements of this Form 10-K)
16 Letter of Pritchett, Siler & Hardy, P.C. dated June 5,
1998 (14)
21 Subsidiaries of the Company (the information required for
Exhibit 21 is set forth in "Item 1 - Subsidiaries of the
Company")
27 Financial Data Schedule
- ---------------------------------
(1) Incorporated by reference from the Company's Registration Statement on
Form 10 filed with the Commission on July 1, 1991, amended August 30,
1991 and bearing Commission file number 0-19365.
(2) Incorporated by reference from the Company's Annual Report on Form 10-K
for the year ended December 31, 1991 bearing Commission file number
0-19365.
41
(3) Incorporated by reference from the Company's Report on Form 8-K filed
with the Commission on or about September 30, 1992, bearing Commission
file number 0-19365.
(4) Incorporated by reference from the Company's Annual Report on Form 10-K
for the year ended December 31, 1992, bearing Commission file number
0-19365.
(5) Incorporated by reference from the Company's Annual Report on Form 10-K
for the year ended December 31, 1992, bearing Commission file number
0-19365.
(6) Incorporated by reference from the Company's Registration Statement on
Form S-1 filed with the Commission on or about March 13, 1996, bearing
Commission file number 0-19365.
(7) Incorporated by reference from the Company's Form 8-K filed with the
Commission on or about June 12, 1997, bearing Commission file number
0-19365.
(8) Incorporated by reference from the Company's Form 8-K filed with the
Commission on or about July 21, 1997, bearing Commission file number
0-19365.
(9) Incorporated by reference from the Company's Form 8-K filed with the
Commission on or about November 18, 1997, bearing Commission file
number 0-19365.
(10) Incorporated by reference from Enron Capital & Trade Resources Corp.
Form 13D filed with the Commission on or about October 10, 1997.
(11) Incorporated by reference from Enron Capital & Trade Resources Corp.
Form 13D/A filed with the Commission on or about November 12, 1997.
(12) Incorporated by reference from the Company's Annual Report on Form 10-K
for the year ended December 31, 1997, filed with the Commission on or
about March 31, 1998, bearing Commission file number 0-19365.
(13) Incorporated by reference from the Company's Amended Annual Report on
Form 10-K for the year ended December 31, 1997, filed with the
Commission on or about April 30, 1998, bearing Commission file number
0-19365.
(14) Incorporated by reference from the Company's Form 8-K filed with the
Commission on or about June 9, 1998, bearing Commission file number
0-19365.
(15) Incorporated by reference from the Company's Form 8-K filed with the
Commission on or about July 17, 1998, bearing Commission file number
0-19365
(16) Incorporated by reference of the Company's Amended Form 10-Q filed with
the Commission for the period ending September 30, 1998, filed with the
Commission on November 25, 1998.
(17) Incorporated by reference from the Company's Amended Form 8-K filed
with the Commission on or about November 18, 1997, bearing Commission
file number 0-19365.
(18) Incorporated by reference from the Company's Form 8-K filed with the
Commission on or about May 3, 1999, bearing Commission file number
0-19365.
* The Company agrees to furnish supplementally to the Commission a copy of any
omitted schedule or exhibit to such agreement upon request by the Commission.
42
CROWN ENERGY CORPORATION
FINANCIAL STATEMENTS
PAGE
Independent Auditors' Report of Deloitte & Touche LLP F-1
Independent Auditors' Report of Pritchett, Siler and Hardy, P.C. F-2
Consolidated Balance Sheets, December 31, 1998 and 1997 F-3
Consolidated Statements of Operations for the years ended
December 31, 1998, 1997 and 1996 F-5
Consolidated Statements of Stockholders' Equity, for the years
ended December 31, 1998, 1997 and 1996 F-6
Consolidated Statements of Cash Flows, for the years ended
December 31, 1998, 1997 and 1996 F-7
Notes to Consolidated Financial Statements F-10
43
CROWN ASPHALT RIDGE, LLC
FINANCIAL STATEMENTS
Independent Auditors' Report of Deloitte & Touche LLP F-27
Independent Auditors' Report of Pritchett, Siler and Hardy, P.C. F-28
Balance Sheets, December 31, 1998 and 1997 F-29
Statements of Operations for the year ended
December 31, 1998 and Inception through December 31, 1997 F-30
Statement of Member's Equity, for the years
ended December 31, 1998 and 1997 F-31
Statement of Cash Flows, for the years ended
December 31, 1998 and Inception through December 31, 1997 F-32
Notes to Consolidated Financial Statements F-34
44
CROWN ENERGY CORPORATION
Consolidated Financial Statements as of December 31, 1998 and 1997 and for
Each of the Three Years in the Period Ended December 31, 1998 and
Independent Auditors' Report
45
INDEPENDENT AUDITORS' REPORT
To the Board of Directors
Crown Energy Corporation
Salt Lake City, Utah
We have audited the accompanying consolidated balance sheet of Crown Energy
Corporation and Subsidiaries (the Company) at December 31, 1998 and the related
consolidated statements of operations, stockholders' equity, and cash flows for
the year then ended. These financial statements are the responsibility of the
Company's management. Our responsibility is to express an opinion on these
financial statements based on our audit.
We conducted our audit in accordance with generally accepted auditing standards.
Those standards require that we plan and perform the audit to obtain reasonable
assurance about whether the financial statements are free of material
misstatement. An audit includes examining, on a test basis, evidence supporting
the amounts and disclosures in the financial statements. An audit also includes
assessing the accounting principles used and significant estimates made by
management, as well as evaluating the overall financial statement presentation.
We believe that our audit provides a reasonable basis for our opinion.
In our opinion, such consolidated financial statements present fairly, in all
material respects, the consolidated financial position of the Company as of
December 31, 1998, and the results of its operations and its cash flows for the
year then ended, in conformity with generally accepted accounting principles.
As discussed in Note 1 to the consolidated financial statements, in 1998 the
Company and an unconsolidated equity method affiliate changed their method of
accounting for the costs of start-up activities to conform with Statement of
Position No. 98-5, Reporting on the Costs of Start-Up Activities.
DELOITTE & TOUCHE LLP
Salt Lake City, Utah
March 26, 1999
(May 12, 1999 as to the last
two paragraphs of Note 16)
F-1
INDEPENDENT AUDITORS' REPORT
Board of Directors
CROWN ENERGY CORPORATION
Salt Lake City, Utah
We have audited the accompanying consolidated balance sheet of Crown Energy
Corporation at December 31, 1997 and the related consolidated statements of
operations, stockholders' equity and cash flows for the years ended December 31,
1997 and 1996. These financial statements are the responsibility of the
Company's management. Our responsibility is to express an opinion on these
consolidated 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 audited by us present
fairly, in all material respects, the consolidated financial position of Crown
Energy Corporation as of December 31, 1997, and the results of its operations
and its cash flows for the years ended December 31, 1997 and 1996, in conformity
with generally accepted accounting principles.
/s/ Pritchett, Siler and Hardy, P.C.
March 5, 1997, except as to Note 1 as to which the date is June 8, 1999 Salt
Lake City, Utah
F-2
CROWN ENERGY CORPORATION
CONSOLIDATED BALANCE SHEETS
DECEMBER 31, 1998 AND 1997
- ------------------------------------------------------------------------------------------------------------------------
ASSETS 1998 1997
CURRENT ASSETS:
Cash and cash equivalents $ 3,735,632 $3,100,765
Accounts receivable, net of allowance for uncollectible
accounts of $100,475 and $75,000 at December 31, 1998
and 1997, respectively 2,823,778 10,808
Inventory 4,445,819
Prepaid and other current assets 39,371 177,416
----------- ----------
Total current assets 11,044,600 3,288,989
PROPERTY, PLANT, AND EQUIPMENT, Net 3,013,792 7,383
INVESTMENT IN AND ADVANCES
TO AN EQUITY AFFILIATE 4,551,441 3,149,045
GOODWILL, Net 4,040,231
OTHER INTANGIBLE ASSETS, Net 225,000
OTHER ASSETS 696,200 164,591
----------- ----------
TOTAL $23,571,264 $6,610,008
=========== ==========
See notes to consolidated financial statements.
F-3
CROWN ENERGY CORPORATION
CONSOLIDATED BALANCE SHEETS
DECEMBER 31, 1998 AND 1997
- ------------------------------------------------------------------------------------------------------------------------
LIABILITIES AND STOCKHOLDERS' EQUITY 1998 1997
CURRENT LIABILITIES:
Accounts payable $ 1,857,407 $ 9,535
Preferred stock dividends payable 467,433 65,414
Accrued expenses 180,116 59,567
Long-term debt to related party - estimated current portion 1,000,000
Line-of-credit to related party 8,935,221
---------- ----------
Total current liabilities 12,440,177 134,516
COMMITMENTS AND CONTINGENCIES
(Notes 3, 6, 8, 9, 11, 12, and 16)
MINORITY INTEREST IN CONSOLIDATED
JOINT VENTURE 1,255,477
CAPITALIZATION:
Long-term debt to related party 4,325,723
Redeemable preferred stock 4,783,019 4,726,415
Common stockholders' equity 766,868 1,749,077
---------- ----------
Total capitalization 9,875,610 6,475,492
----------- ----------
TOTAL $23,571,264 $ 6,610,008
=========== ===========
See notes to consolidated financial statements.
F-4
CROWN ENERGY CORPORATION
CONSOLIDATED STATEMENTS OF OPERATIONS
FOR THE YEARS ENDED DECEMBER 31, 1998, 1997, AND 1996
- ------------------------------------------------------------------------------------------------------------------------
1998 1997 1996
SALES, Net of demerits $23,835,734 $ 86,781 $224,855
COST OF SALES 21,856,171 54,653 137,340
----------- ---------- ---------
GROSS PROFIT 1,979,563 32,128 87,515
GENERAL AND ADMINISTRATIVE EXPENSES 1,253,953 815,401 631,463
----------- -------- --------
INCOME (LOSS) FROM OPERATIONS 725,610 (783,273) (543,948)
----------- ---------- ---------
OTHER INCOME (EXPENSE):
Interest income 132,225 35,451 20,589
Interest expense (851,917) (37,280) (27,271)
Equity in start-up costs of unconsolidated equity affiliate (264,863)
Other income 248,528
Other expenses related to valuation of warrants (186,256)
Loss on sale of subsidiary (801,461)
----------- -------- --------
Total other expense, net (922,283) (803,290) (6,682)
----------- ---------- ---------
LOSS BEFORE INCOME TAXES
AND MINORITY INTERESTS (196,673) (1,586,563) (550,630)
DEFERRED INCOME TAX BENEFIT 434,056 129,044
MINORITY INTEREST IN EARNINGS OF
CONSOLIDATED JOINT VENTURE (300,971)
----------- ---------- ---------
LOSS BEFORE CUMULATIVE EFFECT OF
A CHANGE IN ACCOUNTING PRINCIPLE (497,644) (1,152,507) (421,586)
CUMULATIVE EFFECT OF A CHANGE IN
ACCOUNTING PRINCIPLE - Expensing of
start-up costs (615,323)
----------- ---------- ---------
NET LOSS $(1,112,967) $1,152,507) $(421,586)
=========== ========== =========
LOSS PER COMMON SHARE BEFORE
CUMULATIVE EFFECT OF CHANGE IN
ACCOUNTING PRINCIPLE - Basic and diluted $ (0.07) $ (0.11) $ (0.04)
=========== ========== =========
CUMULATIVE EFFECT OF EXPENSING
START-UP COSTS - Basic and diluted $ (0.05) NONE NONE
=========== ========== =========
NET LOSS PER COMMON SHARE -
Basic and diluted $ (0.12) $ (0.11) $ (0.04)
=========== ========== =========
See notes to consolidated financial statements.
F-5
CROWN ENERGY CORPORATION
CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY
FOR THE YEARS ENDED DECEMBER 31, 1998, 1997, AND 1996
- -----------------------------------------------------------------------------------------------------------------------------------
Common Stock Common
Warrants Stock
Common Stock Additional Outstanding Subscrip-
-------------------- Paid-in --------------------- tions Retained
Shares Amount Capital Warrants Amount Receivable Deficit Total
------ ------ ------- -------- ------ ---------- ------- -----
BALANCE, January 1,
1996 (as previously
reported) 9,861,069 $197,220 $4,701,193 183,750 NONE NONE $(1,833,541) $ 3,064,872
To record various
expenses incurred in
prior years (453,649) (453,649)
---------- -------- ---------- ------- -------- --------- ----------- ---------
BALANCE, January 1,
1996 (as restated,
see Note 1) 9,861,069 197,220 4,701,193 183,750 NONE NONE (2,287,190) 2,611,223
Shares issued for
cash at $.50 per
share, net of
placement costs
of $65,000 800,000 16,000 319,000 335,000
Shares issued for
commissions 80,000 1,600 38,400 40,000
Shares issued for
services at $.79 to
$1.00 per share 241,547 4,832 224,542 229,374
Shares issued for
payment of note payable 47,955 959 22,637 23,596
Shares issued for
cash at $.50 per share 400,000 8,000 192,000 200,000
Net loss (421,586) (421,586)
---------- -------- ---------- ------- -------- --------- ----------- ---------
BALANCE, December 31,
1996 as restated (Note 1) 11,430,571 228,611 5,497,772 183,750 NONE NONE (2,708,776) 3,017,607
Shares issued for
non-cash consideration
at $1.00 per share 35,000 700 34,300 35,000
Shares issued for
payables at $.86 per share 10,000 200 8,406 8,606
Shares issued for
payment of note payable 56,877 1,138 24,847 25,985
Shares issued upon
conversion of convertible
debentures at $.90 per share 173,101 3,462 152,441 155,903
Cancellation of
shares previously issued (25,000) (500) (19,188) (19,688)
Issuance of common
stock upon exercise
of stock options 41,667 833 (833)
Preferred shares
offering cost (587,318) 100,000 $ 57,318 (530,000)
Allocation of proceeds
from issuance of
preferred stock to estimated
fair value of
detachable stock warrant 283,019 283,019
Accretion of preferred
stock to stated value (9,434) (9,434)
Dividends on redeemable
preferred stock (65,414) (65,414)
Net loss (1,152,507) (1,152,507)
---------- -------- ---------- ------- -------- --------- ----------- ---------
BALANCE, December 31,
1997 as restated (Note 1) 11,722,216 234,444 5,318,598 283,750 57,318 NONE (3,861,283) 1,749,077
Issuance of common
stock upon exercise of
stock options in
exchange for notes
receivable 946,296 18,926 530,240 $(549,166)
Shares issued at
$1.34 per share 300,000 6,000 397,125 403,125
Dividends on redeemable
preferred stock (402,019) (402,019)
Warrants issued for
consulting services 400,000 186,256 186,256
Accretion of preferred
stock to stated value (56,604) (56,604)
Net loss (1,112,967) (1,112,967)
---------- -------- ---------- ------- -------- --------- ----------- ---------
BALANCE, December 31, 1998 12,968,512 $259,370 $5,787,340 683,750 $243,574 $(549,166) $(4,974,250) $ 766,868
========== ======== ========== ======= ======== ========= =========== =========
See notes to consolidated financial statements.
F-6
CROWN ENERGY CORPORATION
CONSOLIDATED STATEMENTS OF CASH FLOWS
FOR THE YEARS ENDED DECEMBER 31, 1998, 1997, AND 1996
- ------------------------------------------------------------------------------------------------------------------------
1998 1997 1996
CASH FLOWS FROM OPERATING ACTIVITIES:
Net loss $ (1,112,967) $(1,152,507) $(421,586)
----------- ----------- ---------
Adjustments to reconcile net loss to net
cash provided by (used in) operating activities:
Depreciation, depletion, and amortization 235,374 39,857 80,062
Provision for uncollectible accounts receivable 25,475
Equity in start-up costs of unconsolidated equity affiliate 376,693
Distributions to minority interest net of minority
interest in earnings of consolidated joint venture (244,523)
Deferred income tax benefit (434,056) (129,044)
Loss on sale of subsidiary 801,461
Other expenses paid through equity instruments 589,381 117,738 474,082
Changes in operating assets and liabilities (net of effect
of acquisition, see Note 4):
Accounts receivable (2,838,445) (12,529) 7,318
Inventory 3,187,170
Prepaid and other current assets 138,045 35,464
Other assets (544,355) 1,792 (102,981)
Accounts payable 1,847,872 (78,576) (151,651)
Accrued expenses 120,549 (140,209) (52,072)
----------- ----------- ---------
Total adjustments 2,893,236 330,942 125,714
----------- ----------- ---------
Net cash provided by (used in) operating activities 1,780,269 (821,565) (295,872)
----------- ----------- ---------
CASH FLOWS FROM INVESTING ACTIVITIES:
Purchase of property, plant, and equipment (904,277) (6,960)
Acquisition of Petro Source Asphalt Company (14,235,726)
Investment in and advances to Crown
Asphalt Ridge, LLC (1,766,343) (433,219)
Proceeds from sale of oil and gas investments 75,000
Additions to mining properties (25,060) (185,997)
Payment for reclamation deposit (138,701)
----------- ----------- ---------
Net cash used in investing activities (16,906,346) (528,940) (185,997)
----------- ----------- ---------
CASH FLOWS FROM FINANCING ACTIVITIES:
Net change in line-of-credit to related party 8,935,221
Proceeds from long-term debt 6,000,000
Payments on long-term debt (674,277) (311,502) (7,606)
Sale of equity interest in subsidiary to a
minority shareholder 1,500,000
Proceeds from convertible debentures 150,000
Net proceeds from issuance of preferred stock 4,470,000
Net proceeds from issuance of common stock 535,000
----------- ----------- ---------
Net cash provided by financing activities 15,760,944 4,308,498 527,394
----------- ----------- ---------
NET INCREASE IN CASH AND CASH
EQUIVALENTS 634,867 2,957,993 45,525
CASH AT BEGINNING OF YEAR 3,100,765 142,772 97,247
----------- ----------- ---------
CASH AT END OF YEAR $ 3,735,632 $ 3,100,765 $ 142,772
=========== =========== =========
(Continued)
F-7
CROWN ENERGY CORPORATION
CONSOLIDATED STATEMENTS OF CASH FLOWS
FOR THE YEARS ENDED DECEMBER 31, 1998, 1997, AND 1996
- --------------------------------------------------------------------------------
1998 1997 1996
SUPPLEMENTAL DISCLOSURE OF CASH
FLOW INFORMATION:
Cash paid during the period for interest $ 678,870 $ 27,131 $ 7,744
========= ======== =======
SUPPLEMENTAL SCHEDULE OF NON-CASH INVESTING AND FINANCING ACTIVITIES:
For the year ended December 31, 1998:
o The Company issued 946,296 shares of common stock upon the exercise of
stock options in exchange for notes receivable totaling $549,166.
o The Company issued 300,000 shares of common stock in payment of
research and development expenses of $403,125.
o The Company issued 400,000 common stock warrants, valued at $186,256,
in payment of consulting fees.
o The Company accrued dividends totaling $402,019 on the redeemable
preferred stock.
For the year ended December 31, 1997:
o The Company accrued dividends totaling $65,414 on the redeemable
preferred stock.
o The Company issued 41,667 shares of common stock upon the exercise of
stock options in consideration for the individual canceling 83,333
stock options.
o The Company issued 45,000 shares of common stock in payment of $43,606
in licensing fees and other accounts payable.
o The Company issued 56,877 shares of common stock in payment of a
promissory note and accrued interest totaling $25,985.
o The Company contributed extraction technology, oil sand properties, and
a license agreement, with a combined net book value of $2,715,428, to
Crown Ridge.
o The Company issued 10,000 and 35,000 shares of common stock in payment
of $8,606 in accounts payable and $35,000 in oil sand extraction
licensing fees. The Company also canceled 25,000 previously issued
shares valued at $19,688.
o The Company issued a $150,000, 9%, convertible debenture which matured
November 13, 1997. The debenture was converted into 173,101 shares of
the Company's common stock, valued at $.901 per share, which was 65% of
the average closing bid price for the ten days prior to the date of
conversion.
o The Company issued 100,000 common stock warrants valued at $57,318 in
payment of offering costs on the issuance of preferred stock.
(Continued)
F-8
CROWN ENERGY CORPORATION
CONSOLIDATED STATEMENTS OF CASH FLOWS
FOR THE YEARS ENDED DECEMBER 31, 1998, 1997, AND 1996
- --------------------------------------------------------------------------------
For the year ended December 31, 1996:
o The Company issued 51,547 shares of unregistered common stock in
payment of a $50,000 finders fee included in accounts payable, 10,000
shares of unregistered common stock in connection with the
renegotiations of oil sand leases, 50,000 shares of common stock in
payment of accrued liabilities, and 130,000 shares of common stock in
payment of consulting and engineering work performed.
o The Company issued 241,547 shares of common stock in payment of
$229,375 in consulting fees.
o The Company issued 47,955 shares of common stock in payment of $23,596
for payment on a promissory note.
o Accounts payable in the amount of $78,708 were converted to a note
payable.
o The Company renewed certain notes payable and accrued interest of
$17,032 was added to the principal of the new notes.
See notes to consolidated financial statements. (Concluded)
F-9
CROWN ENERGY CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
FOR THE YEARS ENDED DECEMBER 31, 1998 AND 1997
- --------------------------------------------------------------------------------
1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Organization - Crown Energy Corporation (CEC) and its wholly-owned
subsidiaries, Crown Asphalt Corporation (CAC) and Crown Asphalt Products
Company (Capco) (collectively referred to as the "Company"), are engaged
in the mining, production, and selling of asphalt products. Prior to 1998,
the Company was engaged in the production and selling of oil and gas from
leases it operated in the state of Utah through its previously owned
subsidiary, Gavilan Petroleum, Inc. (Gavilan). By December 31, 1997, the
Company had divested itself of all oil and gas properties and related
operations. The accompanying 1997 consolidated financial statements have
not been reclassified to reflect the discontinued operations because such
operations were not considered significant and do not affect
comparability.
Majority-Owned Subsidiaries - Capco is the majority-owner of Crown Asphalt
Distribution, LLC (Crown Distribution) and Cowboy Asphalt Terminal, LLC
(CAT LLC). Crown Distribution is a joint venture formed on July 2, 1998,
between Capco and MCNIC Pipeline and Processing Company (MCNIC) for the
purpose of acquiring certain assets of Petro Source Asphalt Company (Petro
Source) (see Note 4). Capco owns 50.01% and MCNIC owns 49.99% of Crown
Distribution. Capco is the general manager and operating agent of Crown
Distribution. CAT LLC is a joint venture formed on June 16, 1998 between
Capco and Foreland Asphalt Corporation (Foreland). CAT LLC is an asphalt
terminal and storage facility. On December 21, 1998, Capco assigned its
interest in CAT LLC to Crown Distribution. Crown Distribution owns 66.67%
and Foreland owns 33.33% of CAT LLC.
Principles of Consolidation - The consolidated financial statements
include the accounts of the Company and its wholly-owned subsidiaries. All
significant intercompany transactions have been eliminated in
consolidation.
Investment in and Advances to Equity Affiliate -The Company's investment
in Crown Asphalt Ridge LLC (Crown Ridge) is accounted for using the equity
method (see Note 3). Accordingly, the Company's investment is recorded at
cost and adjusted by the Company's share of undistributed earnings and
losses. The excess of the Company's investment in Crown Ridge over its
equity in the related underlying net assets (approximately $2,168,000) is
being amortized over 40 years.
Restatement - Subsequent to the issuance of the Company's 1997 financial
statements, the Company determined that it had not expensed certain
amounts, primarily related to research and development, which were
incurred in developing the technology utilized by Crown Ridge in the
extraction of premium grade asphalt from tar sands. In addition, the
Company had not amortized costs incurred in acquiring such technology.
Accordingly, retained earnings as of January 1, 1996 has been restated
from the amount previously reported to reflect these expenses totaling
$453,649.
Basis of Presentation - The accompanying consolidated financial statements
have been prepared on a going concern basis, which contemplates the
realization of assets and satisfaction of liabilities in the normal course
of business. The consolidated financial statements do not include any
adjustments relating to the recoverability and classifications of recorded
F-10
amounts of assets or the amounts and classifications of liabilities that
might be necessary should the Company be unable to continue as a going
concern. The Company's continuation as a going concern depends upon its
ability to generate sufficient cash flows to meet its obligations on a
timely basis and to obtain additional financing or refinancing as may be
required.
At December 31, 1998, the Company's current liabilities exceeded current
assets by $1,395,577 and the Company has had recurring net losses and a
retained deficit of $4,974,250 as of December 31, 1998. However, for the
year ended December 31, 1998, the Company generated cash flows from
operating activities of $1,780,269. The Company has a line-of-credit with
a related party for working capital purposes, under which $8,935,221 had
been drawn as of December 31, 1998. The line-of-credit is available to
cover additional estimated working capital requirements. With the
anticipated completion of the Crown Ridge Facility in 1999 (see Note 3)
and a full year of operations of Crown Distribution in 1999, management
expects to achieve a higher level of operational efficiency in 1999.
Management believes that the Company's cash flows will continue to be
adequate to meet its obligations as they become due.
Property, Plant, and Equipment - Property, plant, and equipment are
recorded at cost and are depreciated over the estimated useful lives of
the related assets. Depreciation is computed using the straight-line
method for financial reporting purposes. The estimated useful lives of
property, plant, and equipment are as follows:
Plant and improvements 10-30 years
Tankage 25 years
Equipment 7 years
Computer equipment, furniture, and fixtures 3 years
Revenue Recognition - Revenues are recognized when the related product is
shipped.
Income Taxes - The Company utilizes an asset and liability approach for
financial accounting and reporting for income taxes. Deferred income taxes
are provided for temporary differences in the bases of assets and
liabilities as reported for financial statement and income tax purposes.
As of December 31, 1998, all deferred tax assets were offset by a
valuation allowance.
Loss Per Share - Effective for the year ended December 31, 1997, the
Company adopted Statement of Financial Accounting Standards (SFAS) No.
128, Earnings Per Share. Accordingly, net loss per common share computed
under the basic method uses the weighted average number of the Company's
common shares outstanding. The effect of common shares from stock options,
warrants, and convertible securities is not considered in the loss per
share computations as such common stock equivalents are anti-dilutive.
Cash and Cash Equivalents - For purposes of the statements of cash flows,
the Company considers all highly liquid debt investments purchased with a
maturity of three months or less to be cash equivalents.
Use of Estimates in Preparing Financial Statements - The preparation of
financial statements in conformity with generally accepted accounting
principles requires management to make estimates and assumptions that
affect the reported amounts of assets and liabilities, the disclosures of
contingent assets and liabilities at the date of the financial statements
and the reported amount of revenues and expenses during the reporting
period. Actual results could differ from those estimated.
Inventory - Inventories consist principally of asphalt hydrocarbons and
chemical supplies which are valued at the lower of cost (computed on a
first-in, first-out basis) or market.
F-11
Long-Lived Assets - The Company evaluates the carrying value of long-term
assets including intangibles based on current and anticipated undiscounted
cash flows and recognizes impairment when such cash flows will be less
than the carrying values. Measurement of the amount of impairments, if
any, is based upon the difference between carrying value and fair value.
There were no impairments as of December 31, 1998 and 1997.
Goodwill - The Company has recorded the amount paid for Petro Source
Asphalt Company (see Note 4) in excess of the fair value of the net
tangible assets acquired at the date of acquisition as goodwill. Such
goodwill is amortized using the straight-line method over 20 years.
Asphalt Demerits - Crown's subsidiary, Capco, blends asphalt for sale to
contractors and state agencies. The asphalt sold must meet certain
specifications for a particular application. If the asphalt sold does not
meet these specifications for whatever reason, the asphalt supplier may be
held liable for possible damages (asphalt demerits) therefrom. Management
believes that the Company's product liability insurance would cover any
significant damages.
Environmental Expenditures - Environmental related restoration and
remediation costs are recorded as liabilities when site restoration and
environmental remediation and clean-up obligations are either known or
considered probable, and the related costs can be reasonably estimated.
Other environmental expenditures, that are principally maintenance or
preventative in nature, are recorded when expended and expensed or
capitalized as appropriate.
Comprehensive Income - In 1998, the Company adopted SFAS No. 130,
"Reporting Comprehensive Income". SFAS 130 requires that an enterprise (a)
classify items of other comprehensive income by their nature in a
financial statement and (b) display the accumulated balance of other
comprehensive income separately from additional paid-in capital, retained
earnings, and stockholders' equity. The Company does not currently have
any components of comprehensive income other than net loss.
Segment Reporting - In 1998, the Company adopted SFAS No. 131,
"Disclosures About Segments of an Enterprise and Related Information",
which redefined how business enterprises report information about
operating segments in annual financial statements. The statement also
establishes standards for related disclosures about products and services,
geographical areas, and major customers. During 1998, the Company operated
primarily in the production and distribution of asphalt. The Company's
operations and sales are dispersed throughout Utah, Arizona, California,
Nevada, and Colorado and could be adversely affected by economic downturns
in these states and by federal or state funding policies related to road
construction or improvements.
Derivative Instruments and Hedging - In June 1998, the FASB issued SFAS
No. 133, Accounting for Derivative Instruments and Hedging Activities,
which supersedes SFAS No. 80, Accounting for Futures Contracts, SFAS No.
105, Disclosure of Information About Financial instruments with
Off-Balance-Sheet Risk and Financial instruments with Concentration of
Credit Risk, and SFAS No. 119, Disclosure about Derivative Financial
Instruments and Fair Value of Financial Instruments, and also amends
certain aspects of other SFAS's previously issued. SFAS No. 133
establishes accounting and reporting standards for derivative instruments
and hedging activities. It requires that an entity recognize all
derivatives as either assets or liabilities in the balance sheet and
measure those instruments at fair value. SFAS No. 133 is effective for the
Company's financial statements for the year ending December 31, 2001. The
Company does not expect the impact of SFAS No. 133 to be material in
relation to its financial statements.
F-12
Stock-Based Compensation - The Company has elected to continue to apply
Accounting Principles Board (APB) Opinion 25 (as permitted by SFAS No.
123, Accounting for Stock-Based Compensation). The appropriate disclosures
required by SFAS No. 123 are included in Note 8.
Change in Accounting Principle - In 1998, the Company early adopted
Statement of Position (SOP) No. 98-5, Reporting on the Costs of Start-Up
Activities, which requires costs of start-up activities to be expensed as
incurred. In addition, Crown Ridge, an unconsolidated affiliate of the
Company, adopted SOP No. 98-5. The effect on 1998 of adopting SOP No. 98-5
resulted in additional expenses of $204,218. The cumulative effect on
years prior to 1998 of the accounting change totaled $615,323 and relates
to the following entities:
Start-up costs expensed by the Company $503,493
Equity in start-up costs of CAR 111,830
--------
Total cumulative effect of change in accounting principle $615,323
========
Reclassifications - Certain amounts in the 1997 and 1996 consolidated
financial statements have been reclassified to conform with
classifications adopted in the current year.
2. PROPERTY, PLANT, AND EQUIPMENT
The following is a summary of property, plant, and equipment as of
December 31, 1998 and 1997:
1998 1997
Land $ 100,000
Plant and improvements 70,742
Tankage 1,390,016
Equipment 1,160,221
Computer equipment, furniture, and fixtures 241,723 $ 73,506
Construction in progress 223,991
---------- --------
Total property, plant, and equipment 3,186,693 73,506
Less accumulated depreciation (172,901) (66,123)
Total $3,013,792 $ 7,383
========== ========
3. INVESTMENT IN AND ADVANCES TO AN EQUITY AFFILIATE
In August 1997, the Company through its wholly owned subsidiary, CAC,
entered into a joint venture with MCNIC for the purpose of developing,
mining, processing, and marketing asphalt, performance grade asphalt,
diesel fuel, hydrocarbons, bitumen, asphaltum, minerals, mineral
resources, and other oil sand products. The joint venture resulted in the
formation of Crown Ridge, which is a development stage company. During the
year ended December, 31, 1997, the Company contributed cash of $433,219
and the right to its oil sand properties and a license agreement, which
allows the Company to use certain patented oil extraction technology and
oil sand property leases, with a book value of $2,715,428 to CEC. This
technology was recorded at $500,001 by Crown Ridge. During the year ended
December 31, 1998, the Company contributed cash of $1,217,449 to Crown
F-13
Ridge. MCNIC and the Company initially own interests of 75% and 25%,
respectively, in the profits and losses of Crown Ridge. Once operations of
Crown Ridge are generating sufficient cash flows to pay specific returns,
as defined, to MCNIC then CAC's interest in Crown Ridge will increase to
50%. The excess of the Company's investment in Crown Ridge over its share
in the related underlying equity in net assets (approximately $2,168,000
at December 31, 1998) is being amortized over 40 years. In addition, as of
December 31, 1998, the Company had made advances to Crown Ridge totaling
$548,894, which amount has been reflected as investment in and advances to
equity investment in the accompanying balance sheet.
During the year ended December 31, 1997, Crown Ridge entered into an
engineering, construction, and procurement agreement to construct a mining
and production plant which is projected to be completed in the second
quarter of 1999. The Company has incurred approximately $20 million of
construction and mine development costs as of December 31, 1998. The
Company's ability to realize its investment in and advances to Crown Ridge
is dependent upon Crown Ridge's successful construction and operation of
the production plant on a full scale basis. In connection with Crown Ridge
acquiring the rights to use patented oil extraction technology, Crown
Ridge is required to pay royalties of 2% to 5% of future revenues, as
defined.
Crown Ridge has experienced certain construction difficulties relating to
its production plant. Management of the Company believes that the
construction difficulties experienced were of the type anticipated in the
construction of the facility, which is a sophisticated asphalt processing
facility utilizing new or evolving processes. However, continued
difficulties or the inability to commercially operate the facility
economically could significantly impact Crown Ridge's ability to continue
as a going concern and would have a materially adverse impact on the
Company's operations and financial condition.
The following summarizes the separate financial information of Crown Ridge
at December 31, 1998 and 1997:
1998 1997
Assets $ 20,351,151 $ 4,985,212
Liabilities 2,067,947 812,293
Equity 18,283,199 4,172,919
Revenues None None
Net loss (1,264,194) None
The Company's equity in net assets $ 1,834,619 $ 933,220
Excess of investment over the Company's
equity in net assets 2,167,928 2,215,825
Advances to affiliate 548,894 None
------------ -----------
Total investment in and advances to an equity affiliate $ 4,551,441 $ 3,149,045
============ ===========
The Company's 25% equity in net loss plus
amortization of excess of investment over the
Company's equity in net assets totaling $60,645 $ (376,693) None
============ ===========
Reported in the accompanying consolidated statement of operations as follows:
Equity in start-up costs of unconsolidated equity affiliate $ (264,863)
Cumulative effect of change in accounting principle (111,830)
------------ -----------
Total $ (376,693) None
============ ===========
4. ACQUISITION OF PETRO SOURCE ASPHALT COMPANY
On July 2, 1998, Crown Distribution acquired the inventory and assets of
Petro Source Asphalt Company (Petro Source) for $14,235,726. The
acquisition was accounted for as a purchase. In conjunction with the
acquisition, the Company recorded goodwill of $4,143,827. The assets
F-14
acquired relate to the refining, production, and distribution of asphalt
products. The sale of the equity interest of $1.5 million as reported in
the consolidated statement of cash flows represents MCNIC's contribution
toward the purchase of their interest in Crown Distribution.
Crown Distribution is governed by a management committee consisting of
three managers. The Company is entitled to appoint two managers and MCNIC
is entitled to appoint one manager. Management decisions are generally
made by the management committee. However, one of the managers appointed
by the Company serves as the operating manager and has the powers,
authority, duties, and obligations specified in the operating agreement,
which generally requires the operating manager to implement the policies
and pursue the objectives specified in the annual operating plan.
The annual operating plan is adopted by the management committee on an
annual basis and addresses all aspects of Crown Distribution's operations
for the coming year, including the nature and extent of the proposed
activities, marketing plans, capital expenditure plans, and similar
matters. In the event the management committee is unable to unanimously
approve an annual operating plan for any given calendar year, a majority
of the managers shall have the authority to continue to maintain Crown
Distribution's operations at levels comparable to those approved in its
most recent annual operating plan.
Unaudited pro-forma financial information of the Company as if the
acquisition of Petro Source had occurred on January 1, 1997 is as follows:
1998 1997
Sales, net $ 38,017,677 $ 38,880,874
Net loss (1,163,013) (1,330,587)
Dividend requirement of preferred stock (402,019) (65,414)
Net loss applicable to common stock (1,565,032) (1,396,001)
Net loss per common share - basic and diluted $ (0.13) $ (0.12)
Weighted average common shares outstanding -
basic and diluted 12,506,125 11,524,822
5. OIL AND GAS PROPERTIES
Upon placing oil and gas properties and productive equipment in use, the
unit-of-production method, based upon estimates of proven developed and
undeveloped reserves was used in the computation of depletion. Depletion
expense for the years ended December 31, 1997 and 1996 amounted to $23,817
and $61,332, respectively. Because the Company has elected to value its
properties under the "full cost" method of accounting for oil and gas
properties, it has a maximum allowance value which is related to the
underlying oil and gas reserves. Where the capitalized value of its
properties exceeds the fair market value of the oil and gas reserves, the
Company is required to adjust the value of properties to the cost center
ceiling by increasing the valuation allowance. The Company did not record
a valuation adjustment for the years ended December 31, 1997 or 1996.
On July 2, 1997, the Company sold Gavilan Petroleum, Inc. with all the
remaining oil and gas interests for $150,000.
F-15
6. LONG-TERM DEBT AND LINE-OF-CREDIT TO RELATED PARTY
Long-term debt to related party consists of the following at December 31,
1998:
Preferential debt with MCNIC,
interest at 15%, with annual
principal and interest
installments equal to 50% of the
net cash flows (as defined) of
Crown Distribution. This debt is
secured by all of the assets of
Crown Distribution $ 5,325,723
Less estimated current portion (1,000,000)
Long-term portion $ 4,325,723
===========
The line-of-credit to related party of $8,935,221 represents a working
capital line to Crown Distribution, extended by MCNIC, to finance the
Company's asphalt purchases and accounts receivable. The line, which is
secured by inventory, accrues interest at 8% and is payable in full on
December 31, 1999.
7. COMMON STOCKHOLDERS' EQUITY AND REDEEMABLE PREFERRED STOCK
At December 31, 1998 and 1997, common stockholders' equity and redeemable
preferred stock consists of the following:
1998 1997
Redeemable preferred stock - $.005
par value; 1,000,000 shares
authorized; $10.00 stated value;
500,000 Series A cumulative
convertible shares issued and
outstanding; original estimated
fair value of $4,716,981,
accretion of $56,604 and $9,434
for the years ended December 31,
1998 and 1997, respectively,
toward the stated value of
$5,000,000 $ 4,783,019 $ 4,726,415
----------- -----------
Common stockholders' equity:
Common stock, $.02 par value;
50,000,000 shares authorized;
12,968,512 and 11,722,216 shares
issued and outstanding at December
31, 1998 and 1997, respectively $ 259,370 $ 234,444
Additional paid-in capital 5,787,340 5,318,598
Stock warrants outstanding; 683,750
and 283,750 at
December 31, 1998 and 1997, respectively 243,574 57,318
Common stock subscription receivable
from officers (549,166)
Retained deficit (4,974,250) (3,861,283)
----------- -----------
Total $ 766,868 $ 1,749,077
=========== ===========
8. CAPITAL TRANSACTIONS
During February 1996, the Company successfully completed a private
placement of 800,000 shares of unregistered common stock for $400,000. In
connection with the private placement, the Company issued 80,000 shares of
unregistered common stock in commissions.
On November 7, 1996, the Company sold 400,000 shares of unregistered
common stock in a private placement offering at $.50 per share. Total
proceeds amounted to $200,000.
F-16
Stock Options- The Company has an incentive stock option plan for salaried
employees. Options are granted at a price not less than the fair market
value on the date of grant, become exercisable between one to two years
following the date of grant, and generally expire in ten years. Fair
market value is determined based on quoted market prices.
Changes in stock options are as follows for the years ended December 31,
1998, 1997, and 1996:
1998 1997 1996
-------------------------- -------------------------- --------------------------
Weighted Weighted Weighted
Average Average Average
Exercise Exercise Exercise
Shares Price Shares Price Shares Price
------ ----- ------ ----- ------ -----
Outstanding at beginning of year 2,294,444 $ 0.80 1,860,444 $ 0.60 1,560,444 $ 0.59
Granted 117,800 1.50 450,000 1.62 300,000 0.66
Exercised (946,296) 0.58
Forfeited (16,000) 0.51
--------- ------ --------- ------ --------- ------
Outstanding at end of year 1,465,948 $ 1.00 2,294,444 $ 0.81 1,860,444 $ 0.60
========= ====== ========= ====== ========= ======
Options exercisable at year end 1,123,148 1,416,000 1,391,000
========= ========= =========
Weighted average fair value of
options granted during year $0.93 $0.12 $0.04
========= ========= =========
The following table summarizes information about stock options outstanding
at December 31, 1998:
Options Outstanding Options Exercisable
- ------------------------------------------------------------------------- -----------------------------
Weighted
Average
Remaining Weighted Weighted
Range of Contractual Average Average
Exercise Number Life Exercise Number Exercise
Prices Outstanding (in years) Price Exercisable Price
------ ----------- ---------- ----- ----------- -----
$0.56 - $0.60 573,148 1.7 $ 0.58 573,148 $ 0.58
0.66 - 1.44 352,000 2.5 0.74 325,000 0.69
1.50 - 1.62 528,800 8.4 1.60 225,000 1.58
1.66 - 1.72 12,000 9.5 1.69
------------- --------- --- ------ --------- ------
$0.56 - $1.72 1,465,948 4.4 $ 1.00 1,123,148 $ 0.81
============= ========= === ====== ========= ======
F-17
The Corporation has adopted the disclosure-only provisions of SFAS No.
123, Accounting for Stock-Based Compensation. Accordingly, no compensation
cost has been recognized for the stock option plans. Had compensation cost
for the Company's stock option plans been determined based on the fair
value at the grant date for awards in 1998, 1997, and 1996 consistent with
the provisions of SFAS No. 123, the Company's net loss and loss per common
share would have been increased to the pro forma amounts indicated below:
1998 1997 1996
Net loss:
As reported $(1,112,967) $(1,152,507) $(421,586)
Pro forma (1,521,872) (1,166,606) (428,760)
Net income per common share - basic and diluted:
As reported $ (0.12) $ (0.11) $ (0.04)
Pro forma (0.15) (0.11) (0.04)
The fair value of each option grant is estimated on the date of grant
using the Black-Scholes option-pricing model with the following
weighted-average assumptions used for grants in 1998, 1997, and 1996
dividend yield of 0%, respectively; expected volatility of 76%, 111%, and
110%, respectively; risk-free interest rate of 4.80%, 5.5%, and 5.9%,
respectively; and expected lives of approximately 4.1, 10, and 6.1 years,
respectively.
Stock Warrants - In addition, the Company has issued stock warrants which
become exercisable at the date of issuance or in the year following
issuance and generally expire in five years. The fair value of warrants
issued is credited to warrants outstanding and charged to the appropriate
expense account. Changes in warrants are as follows for the years ended
December 31, 1998, 1997, and 1996:
1998 1997 1996
-------------------------- -------------------------- --------------------------
Weighted Weighted Weighted
Average Average Average
Exercise Exercise Exercise
Shares Price Shares Price Shares Price
------- ------ ------- ------ ------- ------
Outstanding at beginning of year 283,750 $ 0.84 183,750 $ 0.75 183,750 $ 0.75
Granted 400,000 1.94 100,000 1.00
Exercised
Canceled
------- ------ ------- ------ ------- ------
Outstanding at end of year 683,750 $ 1.48 283,750 $ 0.84 183,750 $ 0.75
======= ====== ======= ====== ======= ======
Warrants exercisable at year end 283,750 283,750 183,750
======= ======= =======
Weighted average fair value of
warrants granted during year $0.47 $0.57 $0.64
======= ======= =======
F-18
The following table summarizes information about warrants outstanding at
December 31, 1998:
Warrants Outstanding Warrants Exercisable
- ---------------------------------------------------------------------- --------------------------
Weighted
Average
Remaining Weighted Weighted
Range of Contractual Average Average
Exercise Number Life Exercise Number Exercise
Prices Outstanding (in years) Price Exercisable Price
------ ----------- ---------- ----- ----------- -----
$0.75 - $1.00 283,750 1.83 $ 0.84 283,750 $ 0.84
1.50 150,000 4.33 1.50
2.00 150,000 4.33 2.00
2.50 100,000 4.33 2.50
------------- ------- ---- ------ ------- ------
$0.75 - $2.50 683,750 3.29 $ 1.48 283,750 $ 0.84
The fair value of each warrant was computed on the date of grant using the
Black-Scholes option-pricing model with the following weighted-average
assumptions used for grants in 1998 and 1997 dividend yield of 0%,
respectively; expected volatility of 76% and 111%, respectively; risk-free
interest rate of 5.5% and 5.8%, respectively; and expected lives of
approximately 1.5 years.
Preferred Stock - The Company is authorized to issue 1,000,000 preferred
shares, par value $.005 per share. On November 4, 1997, the Company
completed the sale of 500,000 shares of its Series A Cumulative
Convertible Preferred Stock ("Series A Preferred") pursuant to a stock
purchase agreement dated September 25, 1997 for an aggregate sales price
of $5,000,000. Each share of Series A Preferred is convertible at the
option of its holder, at any time, into 8.57 shares of common stock of the
Company. At the date of the issuance of the preferred stock, the embedded
conversion price was $1.17 and the estimated fair value of the common
stock was $1.03. Dividends accrue on the outstanding Series A Preferred at
the rate of 8% per annum and may be paid through cash or common shares of
the Company at the option of the holder. Subject to the holder's right to
convert the Series A Preferred, the Company may redeem the Series A
Preferred at any time from the date on which it is issued at a percentage
of the Series A Preferred's stated value of $10 per share; 130% of stated
value if redemption occurs within thirty-six months of the date of
issuance, 115% of stated value if redemption occurs between thirty-six and
forty-eight months after the date of issuance, 110% of stated value if
redemption occurs between forty-eight and sixty months after the date of
issuance, and 100% if redemption occurs thereafter. The holder of the
Series A Preferred may also require the Company to redeem the Series A
Preferred after the eighth anniversary of the Series A Preferred's
issuance. The holders of the Series A Preferred shall have the right, but
shall not be obligated, to appoint 20% of the Company's Board of
Directors. The Company may not alter the rights and preferences of the
Series A Preferred, authorize any security having liquidation preference,
redemption, voting or dividend rights senior to the Series A Preferred,
increase the number of Series A Preferred, reclassify its securities or
enter into specified extraordinary events without obtaining written
consent or an affirmative vote of at least 75% of the holders of the
outstanding shares of the Series A Preferred stock. All voting rights of
the Series A Preferred expire upon the issuance by the Company of its
notice to redeem such shares. The shares of common stock issuable upon
conversion of the Series A Preferred are subject to adjustment upon the
issuance of additional shares of the Company's common stock resulting from
stock splits, share dividends, and other similar events as well as upon
the issuance of additional shares or options which are issued in
connection with the Company's equity investment (see Note 3) or as
compensation to any employee, director, consultant, or other service
provider of the Company or any subsidiary, other than options to acquire
up to 5% of the Company's common stock at or less than fair market value.
Common Stock Warrant - In conjunction with the issuance of the preferred
stock described above, the Company issued a warrant to the holders of the
preferred stock. The fair value of the warrant at the date of issuance was
estimated to be $283,019 and was recorded to additional paid-in capital
and as a reduction to the stated value of the preferred stock. The
reduction in preferred stock is being accreted over the five-year period
from the date of issuance to the earliest exercise date of the warrant.
Upon the fifth anniversary of the issuance of the preferred stock, the
warrant becomes exercisable, at $.002 per share, into the number of common
shares of the Company equal to (a) [$5,000,000 plus the product of (i)
($5,000,000 multiplied by (ii) 39% (internal rate of return) multiplied by
(iii) 5 years] (14,750,000), minus (b) the sum of (i) all dividends and
other distributions paid by the Company on the preferred stock or on the
common stock received upon conversion of the preferred stock plus (ii) the
greater of the proceeds from the sale of any common stock received by the
holder upon the conversion of the preferred stock prior to the fifth
anniversary date or the terminal value (as defined below) of such common
stock sold before the fifth anniversary plus (iii) the terminal value of
the preferred stock and common stock received upon conversion of the
preferred stock then held, divided by (c) the fair market value of the
Company's common stock on a weighted average basis for the 90 days
immediately preceding the fifth anniversary date of the issuance of the
preferred stock. Terminal value is defined as the sum of (i) the shares of
common stock into which the preferred stock then held is convertible, plus
F-19
(ii) shares of common stock received upon conversion of preferred stock,
multiplied by the fair market value of the Company's common stock on a
weighted average basis for the 90 days immediately preceding the fifth
anniversary date of the issuance of the preferred stock. The warrants will
expire in 2007.
9. LEASES
Operating Leases - The Company leases certain premises and equipment under
operating leases. Future minimum lease payments under non-cancelable
operating leases as of December 31, 1998 are as follows:
Year ending December 31:
1999 $ 638,626
2000 532,045
2001 521,824
2002 495,094
2003 444,960
Thereafter 362,460
----------
Total $2,995,009
==========
Lease expense for the years ended December 31, 1998, 1997, and 1996,
totaled $899,452, $36,437, and $31,778, respectively.
10. INCOME TAXES
The Company has recorded net deferred tax assets and liabilities at
December 31, 1998 and 1997 which consisted of the following temporary
differences and carryforward items:
1998 1997
-------------------------------- --------------------------------
Long- Long-
Current Term Current Term
Deferred tax assets:
Net operating loss carryforwards $ 1,212,387 $ 1,184,675
Allowance for uncollectible
accounts receivable $ 37,176
Start-up costs 60,646 242,584
Capital loss carryforwards 203,332 133,144
Other 27
-------- ---------- ---------- ----------
Total deferred tax assets 97,822 1,658,303 NONE 1,317,846
-------- ---------- ---------- ----------
Deferred income tax liabilities:
Amortization of goodwill (15,673)
Differences between tax basis
and financial reporting basis of
property, plant and equipment (12,558)
Other (24,050)
-------- ---------- ---------- ----------
Deferred tax liabilities (24,050) (28,231) NONE NONE
-------- ---------- ---------- ----------
Valuation allowance (73,772) (1,630,072) NONE (1,317,846)
-------- ---------- ---------- ----------
Net deferred tax assets NONE NONE NONE NONE
======== ========== ========== ==========
The components of income tax (benefit) for the years ended December 31,
1998, 1997, and 1996 are summarized as follows:
1998 1997 1996
Current NONE NONE NONE
---- --------- ---------
Deferred:
Federal NONE $(398,862) $(118,581)
State NONE (35,194) (10,463)
---- --------- ---------
NONE (434,056) (129,044)
---- --------- ---------
Total NONE $(434,056) $(129,044)
==== ========= =========
F-20
Income tax expense (benefit) differed from amounts computed by applying
the federal statutory rate to pretax loss as follows:
December 31,
---------------------------------------------------
1998 1997 1996
Loss before income taxes and minority
interest - computed tax at the expected
federal statutory rate, 34% $ (66,869) $ (539,431) $(187,214)
State income taxes, net of federal
income tax benefits (14,929) (47,597) (16,519)
Minority interest (102,330)
Expiration of net operating losses 31,042
Excess of book over tax basis
depletion in oil & gas properties (201,624) 20,193
Excess of book over tax basis
depletion in oil sand properties (968,283) 40,521
Other (5,242) 5,033 13,975
Change in valuation reserve 385,998 1,317,846
Change in valuation reserve related
to cumulative effect of a change in
accounting principle (227,670)
-------- ---------- ---------
Total income tax (benefit) NONE $ (434,056) $(129,044)
======== ========== =========
The Company has available at December 31, 1998, unused tax operating loss
carryforwards of approximately $3,277,000 which may be applied against
future taxable income and expire in varying amounts through 2012. The
Company also has unused capital loss carryforwards of approximately
$550,000 which may be applied against future taxable income and expire in
2002.
11. RELATED PARTY TRANSACTIONS NOT OTHERWISE DISCLOSED
The Company entered into an employment agreement, effective November 1,
1997, with a director who is also an officer of the Company. The agreement
covers the three year period ending December 31, 2000, with the option to
extend the agreement through December 31, 2002. The agreement includes a
base salary of $150,000 subject to various increases as of November 1 of
each year provided that the Company achieves positive cash flows from
operations before interest, debt service, taxes, depreciation,
amortization, extraordinary, and non-recurring items and dividends. In
addition to the base salary, the director is entitled to receive a bonus
for each fiscal year of the agreement provided certain earnings levels are
obtained or the underlying price of the Company's stock increases to
determined levels. An earnings per share (EPS) bonus, which is computed as
50% of the officers salary, will be paid to the director based upon the
year's EPS. If the earnings per share is positive and increase from the
preceding fiscal year, the director shall be paid a bonus of 20% of the
applicable EPS bonus payment for each $.01 per share increases. However,
the amount of this payment is subject to certain limitations. In addition,
the director and officer shall be paid a bonus if the average bid price
for the Company's common stock for all of the trading days in the month of
October in each applicable year exceeds $2.62 and $3.62 for the years
ending December 31, 1999 and 2000. The director, for each applicable year,
shall be paid a bonus equal to 10% of the base salary for each $.20
increase in the average stock price over the predetermined levels. In the
event the stock price exceeds the determined levels, the director and
officer shall receive a bonus equal to the pro rata portion of the stock
bonus payment for additional increases which are less than $.20. In
F-21
addition to the bonuses, the director and officer shall be granted an
option to purchase 450,000 shares of the Company's common stock at an
exercise price of $1.62 per share. These options were granted in 1997.
The Company entered into an employment agreement, effective January 26,
1996 with the Chief Executive Officer who is also the Chairman of the
Board of Directors of the Company. The agreement extends through February
26, 1999. The agreement includes a base salary of 5% of the Company's net
profits from operations before depletion, depreciation, tax credits, and
amortization, but after interest expense on debt; not to exceed $1,000,000
per year. The agreement also calls for the Company to grant 300,000 stock
options to purchase the Company's unregistered common stock at $.66 per
share and an additional 75,000 options for each year of executive
employment which is completed after funding is achieved. In 1996, 300,000
options were issued at $.66 per share. In 1998, 75,000 options were issued
at $1.50 per share. Additionally, other benefits are provided including
participation in certain insurance, vacation, and expense reimbursements.
Pursuant to the operating agreement of Crown Distribution, the Company
receives monthly payments of $5,000 and $10,000 for management services
and overhead charges, respectively. Pursuant to the operating agreement of
Crown Ridge, the Company receives monthly payments of $3,000 and $10,000
for management services and overhead charges, respectively. The Company
eliminates the portion of such payments which relate to its ownership
percentages in consolidation.
12. COMMITMENTS AND CONTINGENCIES
The Company may become or is subject to investigation, claim, or lawsuits
ensuing out of the conduct of its business, including those related to
environmental, safety and health, commercial transactions, etc. Management
of the Company is currently not aware of any investigations, claims, or
lawsuits which it believes could have a material adverse affect on its
financial position.
Construction Arbitration - On February 10, 1999, CEntry Constructors and
Engineers, L.L.C. (CEntry) filed a demand for arbitration with the
American Arbitration Association for claims arising out of the November 5,
1997 Engineering, Construction and Procurement Agreement between Crown
Ridge and CEntry (the Contract) for the design and construction of Crown
Ridge's facility near Vernal, Utah. CEntry seeks damages in excess of $1.0
million for amounts allegedly due to CEntry under the Contract, including
a retention or liquidated damages amount of $803,660, as well as amounts
for modifications to the Contract allegedly made by Crown Ridge. Crown
Ridge has denied the claims and filed its own counterclaims against
CEntry. Crown Ridge asserts, among other things, that Crown Ridge is
entitled to the retention amount based upon certain breaches of the
Contract by CEntry and that Crown Ridge is entitled to liquidated damages
for CEntry's failure to meet a mechanical completion deadline specified in
the Contract. An arbitration panel has been selected and arbitration will
begin August 2, 1999. The arbitration will take place in Salt Lake City,
Utah and the case is currently in the discovery phase. Due to the
uncertainties inherent in any litigation or arbitration proceeding, there
can be no assurance that Crown Ridge will or will not prevail or that
significant damages will not be awarded against Crown Ridge.
13. CONCENTRATION OF CREDIT RISK
Financial instruments which subject the Company to concentration of credit
risk consist principally of trade receivables. The Company's policy is to
evaluate, prior to shipment, each customer's financial condition and
determine the amount of open line credit to be extended. It is also the
Company's policy to obtain adequate letters of credit or other acceptable
security as collateral for amounts in excess of the open line.
F-22
14. SERVICES AGREEMENT
During April 1995, the Company entered into an agreement with a third
party to obtain services, which included professional, technical, and
project development services in connection with the planned oil sand
processing facility, identification of potential investors for the project
financing, and assisting the Company in negotiating and closing project
financing terms and agreements. The terms of the agreement provided for
the Company to pay monthly amounts of $5,000 in cash or $7,500 in common
stock of the Company and to issue monthly 15,000 warrants to purchase one
share per warrant of the Company's common stock at $.75 per share. These
warrants are exercisable for seven years after their issuance. These
warrants allow the organization to purchase one common share of the
Company's stock at $0.75 per share and are exercisable for a period of
seven years from the date of issuance. A total of 183,750 warrants valued
at $9,665 were issued under the agreement. The agreement was terminated
during 1997 at no additional cost to the Company.
15. LOSS PER SHARE
The following table is a reconciliation of the net loss numerator of basic
and diluted net loss per common share for the years ended December 31,
1998, 1997, and 1996:
1998 1997 1996
--------------------------- --------------------------- ---------------------------
Loss Loss Loss
Loss Per Share Loss Per Share Loss Per Share
--------------------------- --------------------------- ---------------------------
Loss before cumulative
effect of a change in
accounting principle $ (497,644) $ (1,152,507) $ (421,586)
Redeemable preferred
stock dividends (402,019) (65,414)
---------- ------------ ----------
Loss attributable to
common stockholders
before cumulative effect
of a change in
accounting principle (899,663) $ (0.07) (1,217,921) $ (0.11) (421,586) $ (0.04)
Cumulative effect of a
change in accounting
principle (615,323) (0.05)
-------- ------- ---------- ------- -------- -------
Net loss attributable to
common stockholders $ (1,514,986) $ (0.12) $ (1,217,921) $ (0.11) $ (421,586) $ (0.04)
============ ======= ============ ======= ========== =======
Weighted average common
shares outstanding -
basic and diluted 12,506,125 11,524,822 10,932,091
============ ============ ==========
The Company had at December 31, 1998, 1997, and 1996 incremental options
and warrants to purchase, computed under the treasury stock method,
668,256, 2,103,194, and 1,535,444 shares of common stock, respectively
that were not included in the computation of diluted earnings per share
because their effect was anti-dilutive. The Company also has preferred
stock outstanding at December 31, 1998 and 1997 which is convertible into
approximately 4,300,000 shares of common stock that was not included in
the computation of diluted earnings per share as its effective was
anti-dilutive. Accordingly, diluted earnings per share does not differ
from basic earnings.
16. SUBSEQUENT EVENTS
Processing Agreement Expiration - The Company, through its subsidiary,
Crown Distribution had an agreement with Santa Maria Refining Company
(SMRC) and SABA Petroleum whereby Crown Distribution purchased crude oil
for processing at the Santa Maria Refinery, and markets the slate of
products produced, primarily asphalt. This agreement was acquired through
the Petro Source asset acquisition described in Note 4. Revenues resulting
from the agreement were approximately $15.9 million in 1998, which
accounts for approximately 65% of total consolidated revenues. Gross
profits for the year ended December 31, 1998 from operations at the Santa
Maria Refinery totaled approximately $1.2 million. SMRC extended the
agreement, which expired on December 31, 1998, to April 30, 1999. The
agreement was not extended subsequent to April 30, 1999.
F-23
Acquisition of Cowboy Terminal Property - On January 9, 1999, CAT LLC
acquired the Cowboy Terminal Property for $1,973,511. CAT LLC paid
deposits totaling $496,441 during 1998. In addition, CAT LLC paid $195,000
in cash at closing and executed and delivered a promissory note in the
amount of $1,282,070. This promissory note is payable in 84 equal monthly
installments of $20,627 beginning on February 1, 1999 and ending on
January 1, 2006. The note bears interest at the rate of 9% and is secured
by a deed of trust encumbering the Cowboy Terminal Property. The
acquisition was accounted for as a purchase.
The CAT LLC Operating Agreement obligates both the Company and Foreland to
make additional capital contributions equal to one-half of any additional
amounts, not to exceed $650,000, required for (i) CAT LLC to fulfill its
obligations under any corrective action plan that may be accepted by CAT
LLC and the Utah Department of Environmental Quality with respect to
certain environmental conditions at the Cowboy Terminal Property and (ii)
any additional amounts required to cover legal costs incurred in obtaining
title to the Cowboy Terminal Property or otherwise relating to the
environmental remediation work potentially needed.
The CAT LLC Operating Agreement also obligates the Company and Foreland to
make additional capital contributions, in proportion to their ownership
percentages, in order to fund any additional amounts required for CAT LLC
to fulfill its obligations under the purchase contract for the Cowboy
Terminal Assets, for environmental management and containment costs,
expenses for operations, or the construction of certain approved capital
improvements to the Cowboy Terminal Property. None of the foregoing
additional contributions will result in an increase in the number of units
or percentage interests held by the Company or Foreland.
CAT LLC is managed by the Company. The Company has authority to conduct
the day-to-day business and affairs of the Company. However, certain
matters must be approved by members holding 75% or more of the outstanding
units of CAT LLC. The Company is not compensated for its services as
manager.
Conversion of Preferred Dividends to Common Stock - On January 27, 1999,
the Company issued 317,069 shares of common stock to its preferred
stockholders as payment in full of preferred stock dividends payable
totaling $467,433.
Other Acquisitions - On April 17, 1999, the Company acquired the fixed
assets, the associated inventory, and certain contractual agreements of
Asphalt Supply & Services, Inc. and Inoco, Inc. (collectively, the Seller)
for $4,000,0000, consisting of $750,000 in cash and 2,500,000 shares of
unregistered common stock valued at $1.30 per share. In the event that the
bid price of the common stock is less than $1.10 for 120 consecutive
F-24
trading days at any time between April 17, 1999 and December 31, 2000, the
Seller has the right to require the Company to repurchase all shares
issued for $1.10 per share. The Company has the right to repurchase up to
2,000,000 of the shares of common stock from the Seller, at any time, for
$2.05. Per the agreement, the Seller may only sell up to 500,000 shares of
the Company's common stock per calendar quarter. The acquisition has been
accounted for as a purchase.
On May 12, 1999, the Company acquired the Rawlins Asphalt Terminal and
inventory for $2,291,571 from S&L Industrial (S&L). The purchase price
consists of the Company assuming S&L's debt of approximately $1,800,000,
entering into a note payable to S&L for $225,000, and a cash payment of
$266,571.
******
F-25
CROWN ASPHALT RIDGE, LLC
(A Development Stage Company)
Financial Statements for the Year Ended December 31, 1998 and the Period August
1, 1997 through December 31, 1997 and Independent Auditors' Report
F-26
INDEPENDENT AUDITORS' REPORT
To the Members of
Crown Asphalt Ridge, LLC
Salt Lake City, Utah
We have audited the accompanying balance sheet of Crown Asphalt Ridge, LLC (a
development stage company) (the Company) as of December 31, 1998 and the related
statements of operations, members' equity, and cash flows for the year then
ended and for the period August 1, 1997 (date of incorporation) through December
31, 1998. These financial statements are the responsibility of the Company's
management. Our responsibility is to express an opinion on these financial
statements based on our audit. The Company's financial statements as of December
31, 1997, and for the period August 1, 1997 (date of incorporation) through
December 31, 1997 were audited by other auditors whose report, dated March 5,
1998, expressed an unqualified opinion on those statements. The financial
statements for the period August 1, 1997 (date of incorporation) through
December 31, 1997 reflect no revenues, expenses, or income. The other auditors'
report has been furnished to us, and our opinion, insofar as it relates to the
amounts included for such prior period, is based solely on the report of such
other auditors.
We conducted our audit 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 statements presentation.
We believe that our audit and the report of other auditors provides a reasonable
basis for our opinion.
In our opinion, based on our audit and the report of other auditors, such
financial statements present fairly, in all material respects, the financial
position of the Company as of December 31, 1998, and the results of its
operations and its cash flows for the year then ended, and for the period from
August 1, 1997 (date of incorporation) to December 31, 1998, in conformity with
generally accepted accounting principles.
As discussed in Note 1 to the financial statements, in 1998 the Company changed
its method of accounting for the costs of start-up activities to conform with
Statement of Position No. 98-5, Reporting on the Costs of Start-Up Activities.
DELOITTE & TOUCHE LLP
Salt Lake City, Utah
March 26, 1999
F-27
INDEPENDENT AUDITORS' REPORT
Members
CROWN ASPHALT RIDGE, LLC
Salt Lake City, Utah
We have audited the accompanying balance sheet of Crown Asphalt Ridge, LLC (a
Utah Limited Liability Company) [a development stage company] at December 31,
1997 and the related statement of operations, and cash flows from inception on
August 1, 1997 through December 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 audit.
We conducted our audit 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 statements presentation.
We believe that our audit provides a reasonable basis for our opinion.
In our opinion, the financial statements audited by us presents fairly, in all
material respects, the financial position of Crown Asphalt Ridge, LLC (a Utah
Limited Liability Company) as of December 31, 1997 and the results of its
operations and its cash flows for the period from inception through December 31,
1997 in conformity with generally accepted accounting principles.
/s/ Pritchett, Siler and Hardy, P.C.
March 5, 1997
Salt Lake City, Utah
F-28
CROWN ASPHALT RIDGE, LLC
(A Development Stage Company)
BALANCE SHEETS
DECEMBER 31, 1998 AND 1997
- ------------------------------------------------------------------------------------------------------------------------
ASSETS 1998 1997
CURRENT ASSETS:
Cash and cash equivalents $ 5,080 $ 47,530
Accounts receivable 3,227
Deposits 138,701
Prepaid royalties 213,194 174,384
Other assets 37,865
----------- ----------
Total current assets 398,067 221,914
PLANT AND EQUIPMENT 18,819,170 4,263,299
CAPITALIZED MINE DEVELOPMENT COSTS 633,908
INTANGIBLE ASSETS 500,001 500,001
----------- ----------
TOTAL $20,351,146 $4,985,214
=========== ==========
LIABILITIES AND MEMBERS' EQUITY
CURRENT LIABILITIES:
Accounts payable $ 715,393 $ 489,671
Retention payable 803,660 189,720
Due to member 548,894 132,902
----------- ----------
Total current liabilities 2,067,947 812,293
----------- ----------
COMMITMENTS AND CONTINGENCIES (Note 4)
MEMBERS' EQUITY:
Crown Asphalt Corporation 1,834,619 933,220
MCNIC Pipeline and Processing Company 16,448,580 3,239,701
----------- ----------
Total members' equity 18,283,199 4,172,921
----------- ----------
TOTAL LIABILITIES AND MEMBERS' EQUITY $20,351,146 $4,985,214
=========== ==========
See notes to financial statements.
F-29
CROWN ASPHALT RIDGE, LLC
(A Development Stage Company)
STATEMENTS OF OPERATIONS
FOR THE YEAR ENDED DECEMBER 31, 1998 AND
FOR THE PERIOD FROM AUGUST 1, 1997 (DATE OF INCORPORATION) THROUGH DECEMBER 31,
1997 AND FOR THE PERIOD FROM AUGUST 1, 1997 THROUGH DECEMBER 31, 1998
- ------------------------------------------------------------------------------------------------------------------------
August 1, August 1,
1997 1997
(Incorporation) (Incorporation)
through through
December 31, December 31,
1998 1997 1998
---------- --------------- --------------
OPERATING EXPENSES - Start-up costs $ (801,264) $ (801,264)
LEASE EXPENSE (15,609) (15,609)
---------- ---------- ----------
LOSS BEFORE CUMULATIVE EFFECT OF A
CHANGE IN ACCOUNTING PRINCIPLE (816,873) (816,873)
CUMULATIVE EFFECT OF A CHANGE IN
ACCOUNTING PRINCIPLE - Expensing of
start-up costs (447,321) (447,321)
----------- ---------- -----------
NET LOSS $(1,264,194) NONE $(1,264,194)
=========== ========== ===========
F-30
CROWN ASPHALT RIDGE, LLC
(A Development Stage Company)
STATEMENTS OF MEMBERS' EQUITY
FOR THE YEAR ENDED DECEMBER 31, 1998 FOR THE PERIOD FROM
AUGUST 1, 1997 (DATE OF INCORPORATION) THROUGH DECEMBER 31, 1997
- ------------------------------------------------------------------------------------------------------------------------
MCNIC
Crown Pipeline and
Asphalt Processing
Corporation Company Total
BALANCE, August 1, 1997 NONE NONE NONE
Member contributions $ 933,220 $ 3,239,701 $ 4,172,921
BALANCE, December 31, 1997 933,220 3,239,701 4,172,921
Net loss (316,049) (948,145) (1,264,194)
Member contributions 1,217,448 14,157,024 15,374,472
--------- ---------- ----------
BALANCE, December 31, 1998 $1,834,619 $16,448,580 $18,283,199
---------- ----------- -----------
See notes to financial statements.
F-31
CROWN ASPHALT RIDGE, LLC
(A Development Stage Company)
STATEMENTS OF CASH FLOWS
FOR THE YEAR ENDED DECEMBER 31, 1998 AND
FOR THE PERIOD FROM AUGUST 1, 1997 (DATE OF INCORPORATION) THROUGH DECEMBER 31,
1997 AND FOR THE PERIOD FROM AUGUST 1, 1997 THROUGH DECEMBER 31, 1998
- -----------------------------------------------------------------------------------------------------------------------
August 1, August 1,
1997 1997
(Incorporation) (Incorporation)
through through
December 31, December 31,
1998 1997 1998
CASH FLOWS FROM DEVELOPMENT ACTIVITIES:
Net loss $ (1,264,194) $ (1,264,194)
------------ ---------- ------------
Adjustments to reconcile net loss to net cash
used in development activities:
Changes in assets and liabilities:
Accounts receivable (3,227) (3,227)
Deposits (138,701) (138,701)
Prepaid royalties (38,810) $ (41,482) (80,292)
Other assets (37,865) (37,865)
Due to member 415,992 415,992
------------ ---------- ------------
Total adjustments 197,389 (41,482) 155,907
------------ ---------- ------------
Net cash used in development activities (1,066,805) (41,482) (1,108,287)
------------ ---------- ------------
CASH FLOWS FROM INVESTING ACTIVITIES:
Capital expenditures for plant and equipment (13,716,209) (3,583,908) (17,300,117)
Capital expenditures for mine development (633,908) (633,908)
------------ ---------- ------------
Net cash used in investment activities (14,350,117) (3,583,908) (17,934,025)
============ ========== ============
CASH FLOWS FROM FINANCING ACTIVITIES -
Members' contributions 15,374,472 3,672,920 19,047,392
------------ ---------- ------------
NET INCREASE (DECREASE) IN CASH (42,450) 47,530 5,080
CASH AND CASH EQUIVALENTS
AT BEGINNING OF PERIOD 47,530 NONE NONE
------------ ---------- ------------
CASH AND CASH EQUIVALENTS
AT END OF PERIOD $ 5,080 $ 47,530 $ 5,080
============ ========== ============
(Continued)
F-32
CROWN ASPHALT RIDGE, LLC
(A Development Stage Company)
STATEMENTS OF CASH FLOWS
FOR THE YEAR ENDED DECEMBER 31, 1998 AND
FOR THE PERIOD FROM AUGUST 1, 1997 (DATE OF INCORPORATION) THROUGH DECEMBER 31,
1997 AND FOR THE PERIOD FROM AUGUST 1, 1997 THROUGH DECEMBER 31, 1998
- --------------------------------------------------------------------------------
1998 1997
SUPPLEMENTAL DISCLOSURES OF
CASH FLOW INFORMATION:
Cash paid for:
Interest NONE NONE
==== ====
Income taxes NONE NONE
==== ====
SUPPLEMENTAL SCHEDULE OF NON-CASH INVESTING AND FINANCING ACTIVITIES:
For the year ended December 31, 1998:
o Plant and equipment was purchased through increases in accounts payable
of $225,722 and retention payable of $613,940. At December 31, 1998,
accounts payable and retention payable totaled $715,393 and $803,660,
respectively, as a result of the purchase of plant and equipment.
For the period August 1, 1997 through December 31, 1997:
o A member of the Company contributed rights to oil sand properties and a
license agreement valued at $500,001 in accordance with the Company's
operating agreement, and is included in property, plant, and equipment.
o Plant and equipment was purchased through increases in accounts payable
of $489,671 and retention payable of $189,720.
o A member advanced prepaid royalties of $132,902 to the Company.
See notes to financial statements. (Concluded)
F-33
CROWN ASPHALT RIDGE, LLC
(A Development Stage Company)
NOTES TO FINANCIAL STATEMENTS
- --------------------------------------------------------------------------------
1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Basis of Presentation and Ownership - Crown Asphalt Ridge, LLC (the
Company) was organized under the laws of the State of Utah as a Limited
Liability Company on August 1, 1997 and will cease to exist on January 1,
2090. The Company is owned 25% by Crown Asphalt Corporation (CAC) and 75%
by MCNIC Pipeline and Processing Company (collectively referred to as the
"Members"). The Company was organized for the purpose of developing,
mining, processing, and marketing asphalt, performance grade asphalt,
diesel fuel, hydrocarbons, bitumen, asphaltum, minerals, mineral resources
and other oil sand products through the patented oil extraction process
from tar sands located in eastern Utah.
Basis of Presentation - During 1997, the Company entered into an
engineering, construction, and procurement agreement to construct a mining
and production plant. Operations are projected to commence in the second
half of 1999. The Company has incurred approximately $20 million of
construction and mine development costs as of December 31, 1998. The
Company's ability to realize its investment in the project is dependent
upon the successful construction and operation of the production plant on
a full scale basis. The Company has experienced certain construction
difficulties relating to its production plant. Management of the Company
believes that the construction difficulties experienced were of the type
anticipated in the construction of the facility, which is a sophisticated
asphalt processing facility utilizing new or evolving processes. However,
continued difficulties or the inability to commercially operate the
facility economically could significantly impact the Company's ability to
continue as a going concern and would have a materially adverse impact on
the Company's operations and financial condition.
The accompanying financial statements have been prepared on a going
concern basis, which contemplates the realization of assets and
satisfaction of liabilities in the normal course of business. The
financial statements do not include any adjustments relating to the
recoverability and classifications of recorded amounts of assets or the
amounts and classifications of liabilities that might be necessary should
the Company be unable to continue as a going concern. The Company's
continuation as a going concern depends upon its ability to generate
sufficient cash flows to meet its obligations on a timely basis and to
obtain additional financing or refinancing as may be required.
At December 31, 1998, the Company's current liabilities exceeded current
assets by approximately $1,670,000. During 1998, the Members contributed
approximately $15,374,000 to the Company. Management believes that the
Members will continue to provide sufficient cash flows to enable the
Company to meet its current obligations as they become due.
Organization - On August 1, 1997, CAC and MCNIC made initial member
contributions of $100,000 and $300,000 respectively. The operating
agreement requires additional capital contributions from the members in
amounts proportionate to the sharing ratios to cover expenses of the
Company. During 1997, CAC and MCNIC made additional contributions of
$333,219 and $2,939,701. In 1997, CAC also contributed the rights to the
oil sand properties and a license agreement that allows the Company to use
certain patented oil extraction technology and oil sand property leases
(the Oil Sand Properties). The Oil Sand Properties had a carrying value of
F-34
approximately $2,715,000 at the date of the contribution. The Company
assigned a value of $500,001 to the Oil Sand Properties. During 1998, CAC
and MCNIC made additional cash contributions of $1,217,448 and
$14,157,024, respectively. In addition, CAC will be required to contribute
certain mining equipment with an estimated value of $3,500,000 to the
Company when operations commence.
The operating agreement provides for profits and losses of the Company to
be shared 25% to CAC and 75% to MCNIC until the Company has paid specific
returns to MCNIC (Initial Plant Payout) as defined in the operating
agreement. When the Initial Plant Payout has been achieved, CAC's
ownership and distribution percentage will increase to 50% and MCNIC's
ownership will decrease to 50%.
Use of Estimates in Preparing Financial Statements - The preparation of
financial statements in conformity with generally accepted accounting
principles requires management to make estimates and assumptions that
affect the reported amount of assets and liabilities, the disclosures of
contingent assets and liabilities at the date of the financial statements
and the reported amount of revenues and expenses during the reporting
period. Actual results could differ from those estimated.
Plant and Equipment - Plant and equipment is stated at cost. When the
property begins commercial production and planned principal operations
commence, depreciation will be computed using a unit of production method
based on the estimated reserves to be recovered. Mining and other
equipment that have useful lives shorter than the life of the mine will be
depreciated on a straight-line basis over their estimated useful lives
which range from 5 to 15 years.
Carrying Value of Long-Lived Assets - The Company evaluates the carrying
value of long-lived assets based upon current and anticipated undiscounted
cash flows, and recognizes an impairment when such estimated cash flows
will be less than the carrying value of the asset. Measurement of the
amount of impairment, if any, is based upon the difference between
carrying value and fair value. There were no impairments as of December
31, 1998 and 1997.
Intangible Assets - The Company has recorded the $500,001 assigned value
of the contributed Oil Sand Properties as an intangible asset. The
intangible asset will be amortized over 40 years, using the straight-line
method, once operations commence.
Capitalized Mine Development Costs - Capitalized mine development costs
include costs of overburden removal to uncover asphalt reserves. Such
costs are deferred and will be amortized when asphalt is extracted using a
units of production method based on estimated reserves to be recovered.
Final Reclamation and Mine Closure Costs - Final reclamation and mine
closure costs will be estimated (based primarily on environmental and
regulatory requirements) and accrued over the expected life of each site
using a unit of production method. On-going environmental and reclamation
expenditures will be expensed as incurred.
Revenue Recognition - Once planned principal operations commence, sales
revenue will be recognized upon shipment of product in fulfillment of a
customer order.
Income Taxes - The Company is a limited liability company. Under the
provisions of the Internal Revenue Code, the members of the Company will
be taxed on their proportionate share of the income of the Company.
Therefore, no current or deferred income taxes have been included in the
accompanying financial statements.
Cash and Cash Equivalents - For purposes of the statements of cash flows,
the Company considers all highly liquid debt investments with an original
maturity of three months or less to be cash equivalents.
F-35
Deposits - The Company has a deposit totaling $138,701 with the Bureau of
Land Management pertaining to the use of land for the removal of tar
sands.
Change in Accounting Principle - In 1998, the Company early adopted
Statement of Position (SOP) No. 98-5, Reporting on the Costs of Start-Up
Activities, which requires costs of start-up activities to be expensed as
incurred. The effect on 1998 of adopting SOP No. 98-5 resulted in
additional expenses of $801,264. The cumulative effect on years prior to
1998 of the accounting change totaled $447,321.
Recently Issued Financial Accounting Standards - In June 1998, the
Financial Accounting Standards Board (FASB) issued SFAS No. 133,
Accounting for Derivative Instruments and Hedging Activities. SFAS No. 133
establishes accounting and reporting standards for derivative instruments
and hedging activities. It requires that an entity recognize all
derivatives as either assets or liabilities in the balance sheet and
measure those instruments at fair value. SFAS No. 133 is effective for the
Company's financial statements for the year ending December 31, 2001. The
Company is currently evaluating the effects of SFAS No. 133 on its
financial statements.
Reclassifications - Certain 1997 amounts have been reclassified to conform
to the 1998 presentation.
2. PLANT AND EQUIPMENT
Plant and equipment consists of the following at December 31, 1998 and
1997:
1998 1997
Construction in progress $18,819,175 $4,263,299
Less accumulated depreciation and depletion None None
----------- ----------
Total $18,819,175 $4,263,299
=========== ==========
There was no depreciation or amortization expense for the years ended
December 31, 1998 and 1997 as the property had not yet been placed in
service.
3. RELATED PARTY TRANSACTIONS
Accounts receivable at December 31, 1998 represents amounts due from Crown
Asphalt Products Company (an affiliated company). Accounts payable at
December 31, 1998 includes $3,290 owed to CAC and $69,711 owed to Crown
Energy Corporation (CEC), the parent company of CAC. In addition, CEC and
CAC paid various construction costs, start-up expenses, and royalties (see
Note 4) for and in behalf of the Company. Such amounts totaling $548,894
have been reflected as Due to Member in the accompanying balance sheets.
4. COMMITMENTS AND CONTINGENCIES
Mineral Lease Agreement - In connection with certain oil sand mineral
leases the Company has agreed to pay a royalty of $.50 per ton mined. The
Company is required to pay a minimum royalty of $40,000 per year that will
be used to reduce future royalties when mining operations commence. As of
December 31, 1998, CAC had paid minimum royalties of approximately
$133,000 on behalf of the Company. In connection with these minimum
royalties, the Company has recorded prepaid royalties of approximately
$213,000 as of December 31, 1998.
F-36
Operating and Management Agreement - On August 1, 1997, the Company
entered into a two year operating and management agreement with CAC to
manage, supervise, and conduct the operations of the Company. The term of
the agreement shall be automatically extended for unlimited successive one
year periods. The Company shall compensate CAC $3,000 a month for
management fees, $10,000 a month for office and administrative costs and
for all reasonable direct costs actually paid in the performance of this
agreement. During the year ended December 31, 1998, the Company accrued
and/or paid $143,000 to CAC for the management fee and other direct costs.
No amount was accrued during 1997.
Oil Sand Oil Extraction License Agreement - In connection with the rights
to use patented oil extraction technology, the Company will be required to
pay royalties of 2% to 5% based on revenues adjusted for certain
production costs and taxes once planned principal operations commence.
Lease Commitments - The Company leases certain property under long-term
lease arrangements. The total expense recorded under operating lease
arrangements in the accompanying statement of operations is $15,609 for
the year ended December 31, 1998.
Future minimum lease payments under noncancelable operating leases as of
December 31, 1998 are as follows:
Year ending December 31:
1999 $ 9,562
2000 8,705
2001 8,705
2002 8,705
2003 7,924
Thereafter 9,336
-------
Total minimum lease payments $52,937
=======
******
F-37