UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

 

FORM 10-Q

 

[X]	QUARTERLY REPORT UNDER TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

 

FOR THE QUARTERLY PERIOD ENDED: SEPTEMBER 30, 2015

 

OR

 

[  ]	TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

 

Commission File Number: 000-53923

 

 

 

CARDINAL ENERGY GROUP, INC.

(Exact name of registrant as specified in its charter)

 

Nevada		26-0703223
(State or other jurisdiction of		(I.R.S. Employer
incorporation or organization)		Identification No.)
500 Chestnut Street, Suite 1615, Abilene, TX		79602
(Address of principal executive offices)		(Zip Code)

 

(325) 762-2112

(Registrant’s telephone number, including area code)

 

Not Applicable

(Former name or former address, if changed since last report)

 

Indicate by check mark whether the issuer (1) has filed all reports required to be filed by Section 13 or 15(d) of the Exchange Act during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the last 90 days. YES [X] NO [  ]

 

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (SS 232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files). YES [X] NO [  ]

 

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See the definitions of “large accelerated filer,” “accelerated filer,” “non-accelerated filer,” and “smaller reporting company” in Rule 12b-2 of the Exchange Act. (Check one):

 

Large Accelerated Filer	[  ]	Accelerated Filer	[  ]
Non-accelerated Filer	[  ]	Smaller Reporting Company	[X]
(Do not check if smaller reporting company)

 

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). YES [  ] NO [X]

 

Indicate the number of shares outstanding of each of the issuer’s classes of common stock, as of the latest practicable date:

 

Class		Outstanding as of November [18], 2015
Common Stock, $0.00001 par value		[72,295,921]

 

 

 

CARDINAL ENERGY GROUP, INC.

For the Quarter Ended September 30, 2015

 

TABLE OF CONTENTS

 

			Page
	PART I - FINANCIAL INFORMATION
Item 1.	Financial Statements		F-1
	Condensed Consolidated Balance Sheets (Unaudited)		F-1
	Condensed Consolidated Statements of Operations and Other Comprehensive Loss (Unaudited)		F-2
	Condensed Consolidated Statements of Stockholders’ Deficit (Unaudited)		F-3
	Condensed Consolidated Statements of Cash Flows (Unaudited)		F-4
	Notes to Condensed Consolidated Financial Statements (Unaudited)		F-6
Item 2.	Management’s Discussion and Analysis of Financial Condition and Results of Operations		3
Item 3.	Quantitative and Qualitative Disclosures About Market Risk		9
Item 4.	Controls and Procedures		9
	PART II - OTHER INFORMATION
Item 1.	Legal Proceedings		10
Item 1A.	Risk Factors		12
Item 2.	Unregistered Sales of Equity Securities and Use of Proceeds		12
Item 3.	Defaults upon Senior Securities		12
Item 4.	Mine Safety Disclosures		12
Item 5.	Other Information		12
Item 6.	Exhibits		13
Signatures			14

 

  

PART I - FINANCIAL INFORMATION

 

ITEM 1. FINANCIAL STATEMENTS.

 

Cardinal Energy Group, Inc.

Condensed Consolidated Balance Sheets

 

		September 30, 2015				December 31, 2014
		(unaudited)
ASSETS
CURRENT ASSETS
Cash		$	62,286			$	115,398
Accounts receivable			3,287				10,453
Accounts receivable - related party			306,403				225,000
Marketable securities			62,725				69,300
Prepaid expenses - debt issuance costs, net			112,902				331,664
Other current assets			41,155				-
Total Current Assets			588,758				751,815
PROPERTY AND EQUIPMENT, net			292,797				339,753
OIL AND GAS PROPERTIES (full cost method)
Unproved properties			2,993,341				3,449,487
OTHER ASSETS
Non-current prepaid debt issuance costs			22,118				-
Deposits and deferred charges			58,552				73,755
TOTAL ASSETS		$	3,955,566			$	4,614,810
LIABILITIES AND STOCKHOLDERS’ DEFICIT
CURRENT LIABILITIES
Accounts payable and accrued expenses		$	572,562			$	448,133
Accounts payable - related party			44,000				-
Accrued legal settlement			-				100,000
Convertible notes, net of debt discount of $368,834 and $303,106, respectively			458,111				329,894
Note payable			-				340,000
Derivative liability			3,342,642				382,836
Current portion of long term convertible promissory note, net of debt discount of $77,546 and $295,128, respectively			4,422,454				4,204,872
Deferred revenue, related party			130,000				-
Current portion of equipment purchase contracts payable			17,023				17,023
Total Current Liabilities			8,986,791				5,822,758
LONG-TERM LIABILITIES
Convertible notes, net of debt discount of $119,601			71,369				-
Equipment purchase contracts payable			65,501				77,608
Asset retirement obligation			93,169				162,321
Total Long-Term Liabilities			230,039				239,929
TOTAL LIABILITIES			9,216,830				6,062,687
Commitments and contingencies			-				-
STOCKHOLDERS’ DEFICIT
Common stock, 100,000,000 shares authorized at par value of $0.00001; 66,290,865 and 38,040,046 shares issued; and 63,190,865 and 34,940,046 shares outstanding, respectively			632				350
Additional paid-in capital			8,859,550				8,058,665
Stock subscription receivable			(3,500	)			(3,500	)
Treasury stock			(2,013,380	)			(2,013,380	)
Accumulated other comprehensive loss			(2,156,000	)			(2,148,300	)
Retained deficit			(9,948,566	)			(5,341,712	)
TOTAL STOCKHOLDERS’ DEFICIT			(5,261,264	)			(1,447,877	)
TOTAL LIABILITIES AND STOCKHOLDERS’ DEFICIT		$	3,955,566			$	4,614,810

 

The accompanying notes are an integral part of these unaudited condensed consolidated financial statement.

 

 

Cardinal Energy Group, Inc.

Condensed Consolidated Statements of Operations and Other Comprehensive Loss

(unaudited)

 

		For the Three Months Ended September 30,								For the Nine Months Ended September 30,
		2015				2014				2015				2014
REVENUES
Oil and gas revenues		$	9,030			$	47,649			$	47,658			$	122,363
Operating income from escrowed property - related party			-				-				250,000				-
Related party income from contract development operations			13,500				975,000				425,279				975,000
Total Revenues			22,530				1,022,649				722,937				1,097,363
COSTS & OPERATING EXPENSES
Operating and production costs			12,559				69,065				67,521				363,140
Costs of contract development operations			59,349				328,189				178,630				328,189
Depreciation and amortization			17,251				9,699				51,321				22,296
Property and other operating taxes			-				3,978				2,621				6,589
Accretion on asset retirement obligation			3,000				4,296				9,000				12,888
General and administrative			275,334				373,604				1,130,211				1,669,899
Total Operating Expenses			367,493				788,830				1,439,303				2,403,001
OPERATING INCOME (LOSS)			(344,964	)			233,819				(716,366	)			(1,305,638	)
OTHER INCOME (EXPENSES)
Gain on sale of lease			-				93,448				-				93,448
Interest expense, net			(2,944,428	)			(555,617	)			(4,453,472	)			(888,868	)
Gain on change in the fair value of derivative liability			417,102				113,068				549,059				123,528
Gain on sale of property and equipment			-				-				930				-
Related party investment income			-				-				12,994				-
Loss on extinguishment of debt			-				-				-				(76,581	)
Total Other Income (Expenses)			(2,527,326	)			(349,101	)			(3,890,489	)			(748,473	)
NET LOSS		$	(2,872,289	)		$	(115,282	)		$	(4,606,854	)		$	(2,054,111	)
OTHER COMPREHENSIVE INCOME (LOSS)
Change in value of investments			-				-				(7,700	)			35
NET COMPREHENSIVE LOSS		$	(2,872,289	)		$	(115,282	)		$	(4,614,554	)		$	(2,054,076	)
Loss per share of common stock (basic & diluted)		$	(0.06	)		$	(0.00	)		$	(0.12	)		$	(0.06	)
Weighted average shares outstanding			48,400,900				35,128,576				39,797,864				35,865,804

 

The accompanying notes are an integral part of these unaudited condensed consolidated financial statements.

 

 

Cardinal Energy Group, Inc.

Condensed Consolidated Statements of Stockholders’ Deficit

(Unaudited)

 

																										Accumulated
										Additional				Stock												Other
		Common Stock								Paid-In				Subscription				Treasury				Accumulated				Comprehensive
		Shares				Amount				Capital				Receivable				Stock				Deficit				Loss				Total
Balance at December 31, 2013			35,944,750			$	359			$	5,293,772			$	(3,500	)		$	-			$	(2,850,318	)		$	(2,193,765	)		$	246,548
Common stock issued for cash			699,929				7				195,968				-				-				-				-				195,975
Common stock issued for services			922,867				9				415,211				-				-				-				-				415,220
Common stock issued for settlement of accounts payable			100,000				1				29,999				-				-				-				-				30,000
Common stock issued for purchase of oil and gas properties			50,000				1				34,999				-				-				-				-				35,000
Common stock issued for conversion of debt			437,500				4				174,803				-				-				-				-				174,807
Common stock cancelled			(150,000	)			(1	)			1				-				-				-				-				-
Extinguishment of derivative liability on conversion of debt			-				-				22,068				-				-				-				-				22,068
Beneficial conversion feature on warrants issued concurrent with convertible notes			-				-				519,286				-				-				-				-				519,286
Treasury stock received for assets transferred to related party			(3,100,000	)			(31	)			1,356,308				-				(2,013,380	)			-				-				(657,103	)
Common stock issued to pay interest on debt			50,000				1				34,999				-				-				-				-				35,000
Common stock cancelled upon lease expiration			(15,000	)			-				(18,750	)			-				-				-				-				(18,750	)
Unrealized holding gain on available-for-sale-securities			-				-				-				-				-				-				45,465				45,465
Net loss for the year ended December 31, 2014			-				-				-				-				-				(2,491,393	)			-				(2,491,393	)
Balance at December 31, 2014			34,940,046			$	350			$	8,058,665			$	(3,500	)		$	(2,013,380	)		$	(5,341,712	)		$	(2,148,300	)		$	(1,447,877	)
Common stock issued for services			248,874				2				92,281				-				-				-				-				92,283
Common stock issued employee bonus			100,000				1				40,000				-				-				-				-				40,000
Common stock issued for payment of short-term note payable interest and notes payable extension			530,000				5				119,495				-				-				-				-				119,500
Common stock cancelled			-33,333				-				(15,667	)			-				-				-				-				(15,667	)
Common stock issued to convert convertible note payable			27,405,278				274				564,777				-				-				-				-				565,051
Unrealized holding gain on available-for-sale-securities			-				-				-				-				-				-				(7,700	)			(7,700	)
Net loss for the nine months ended September 30, 2015			-				-				-				-				-				(4,606,854	)							(4,606,854	)
Balance at September 30, 2015			63,190,865			$	632			$	8,859,551			$	(3,500	)		$	(2,013,380	)		$	(9,948,566	)		$	(2,156,000	)		$	(5,261,264	)

 

The accompanying notes are an integral part of these unaudited condensed consolidated financial statements.

 

 

Cardinal Energy Group, Inc.

Condensed Consolidated Statements of Cash Flows

(Unaudited)

 

		For the Nine Months Ended
		September 30,
		2015				2014
CASH FLOWS FROM OPERATING ACTIVITIES
Net loss		$	(4,606,854	)		$	(2,054,111	)
Other comprehensive income			-				-
Adjustments to reconcile net loss to net cash used in operations:
Depreciation			51,321				22,297
Accretion			9,000				12,888
Amortization of debt discount			961,058				193,435
Amortization of pre-paid debt issuance costs			374,672				160,293
Stock based compensation			132,285				453,945
Loss on settlement of debt			-				76,581
Fair value of shares to be issued for services			44,000				-
Gain on change in fair value of derivative liability			(549,059	)			(123,528	)
Non-cash interest expense			2,623,803				204,772
Gain on sale of lease			-				(93,448	)
Stock issued for interest expense			119,500				-
Common stock cancelled			(15,667	)			-
Gain on sale of property and equipment			(931	)			-
Changes in operating assets and liabilities:
Accounts receivable - related party			(81,403	)			-
Accounts receivable			7,166				(1,189,225	)
Unbilled costs on turnkey wells			-				(56,036	)
Prepaid expenses			(41,155	)
Other assets			14,078				(81,933	)
Accounts payable and accrued expenses			(47,000	)			349,550
Deferred revenue			130,000				-
Net Cash Used in Operating Activities			(875,186	)			(2,124,520	)
CASH FLOWS FROM INVESTING ACTIVITIES
Purchase of property and equipment			(3,434	)			(231,738	)
Purchase of oil and gas properties			(12,006	)			(1,591,252	)
Sale of oil and gas properties			50,000				-
Net Cash Used in Investing Activities			34,560				(1,822,990	)
CASH FLOWS FROM FINANCING ACTIVITIES
Repayment of notes payable -equipment			(12,108	)			-
Payment of notes payable			(15,000	)			296,000
Stock issued for cash			-				195,975
Payment of deferred financing costs			-				(515,000	)
Net proceeds from convertible notes payable			814,622				4,750,000
Repayment of convertible notes payable			-				(469,256	)
Net Cash Provided by Financing Activities			787,514				4,257,719
NET (DECREASE) INCREASE IN CASH			(53,112	)			310,209
CASH AT BEGINNING OF PERIOD			115,398				18,694
CASH AT END OF PERIOD		$	62,286			$	328,903

 

The accompanying notes are an integral part of these unaudited condensed consolidated financial statements.

 

 

Cardinal Energy Group, Inc.

Condensed Consolidated Statements of Cash Flows (Continued)

(Unaudited)

 

SUPPLEMENTAL DISCLOSURES OF CASH FLOW INFORMATION:
CASH PAID FOR:
Interest		$	18,134			$	19,708
Income Taxes		$	-			$	-
NON-CASH INVESTING AND FINANCING ACTIVITIES:
Unrealized gain (loss) on AFS securities		$	7,700			$	(35	)
Reduction in note payable for reduction in purchase price of oil properties		$	340,000			$	60,000
Extinguishment of derivative liability		$	-			$	22,069
Derivative liability on convertible notes payable and warrants at inception		$	3,643,326			$	544,772
ARO estimate on assets purchased		$	78,152			$	143,303
Common stock issued for prepaid services		$				$	438,600
Common stock issued for conversion of debt		$	565,051			$	174,807
Beneficial conversion feature on warrants issued concurrent with convertible note		$	-			$	519,289
Common stock issued for oil and gas properties		$	-			$	35,000
Common stock issued for prepaid interest		$	-			$	35,000
Common stock cancelled for assets transferred to related party		$	-			$	657,106
Purchase of fixed assets through financing		$	-			$	55,753
Common stock returned reflecting employment agreement changes		$	-			$	207,302
Common stock issued for settlement of accounts payable		$	-			$	30,000
Loan extension fees		$	71,429			$	-
Reversal of derivative liability and debt discount on convertible notes payable		$	131,902			$	-
Original issue discount on convertible note payable		$	106,600			$	90,000

 

The accompanying notes are an integral part of these unaudited condensed consolidated financial statements.

 

 

Cardinal Energy Group, Inc.

Notes to the Unaudited Condensed Consolidated Financial Statements

For the Periods Ended September 30, 2015 and December 31, 2014

 

NOTE 1 - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES

 

The accompanying condensed consolidated financial statements have been prepared by the Company without audit. In the opinion of management, all adjustments (which include only normal recurring adjustments) necessary to present fairly the financial position, results of operations, and cash flows at September 30, 2015, and for all periods presented herein, have been made.

 

Certain information and footnote disclosures normally included in financial statements prepared in accordance with accounting principles generally accepted in the United States of America have been condensed or omitted. It is suggested that these unaudited condensed consolidated financial statements be read in conjunction with the consolidated financial statements and notes thereto included in the Company’s December 31, 2014 audited consolidated financial statements. The results of operations for the periods ended September 30, 2015 and 2014 are not necessarily indicative of the operating results for the full year.

 

Nature of Operations and Organization

 

Cardinal Energy Group, Inc. (the “Company”) was incorporated in the State of Nevada on June 19, 2007. On September 28, 2012, the Company changed the focus of its business when it acquired all of the ownership interests of Cardinal Energy Group, LLC, an Ohio limited liability company which was engaged in the business of exploring, purchasing, developing and operating oil and gas leases. The Company changed its name to Cardinal Energy Group, Inc. on October 10, 2012 in connection with this acquisition. On June 10, 2015 the Company moved its executive offices from Dublin, Ohio to Abilene, Texas.

 

The Company has been engaged in the exploration, development, exploitation and production of oil and natural gas. The Company sells its oil and gas products to domestic purchasers of oil and gas production. Its operations were focused in the states of California, Ohio and Texas during 2012 and 2013. In 2014, management decided to focus its oil and gas operations entirely within the state of Texas. The Company established a regional operations office in Albany, Texas and retained the services of operating personnel with ties to the exploration and development of oil and gas fields in Texas. The recoverability of the capitalized acquisition and development costs for these properties is dependent upon the existence of economically recoverable reserves, the Company’s ability to obtain the necessary financing to complete required development activities, and future positive cash flows from operations and/or sufficient proceeds from the disposition of one or more of such properties.

 

On April 30, 2015 the Company formed High Performance Energy Fund Corporation, a Delaware corporation (“High Performance”), for the purposes of identifying, developing and financing new prospective oil and gas properties. High Performance is a wholly-owned subsidiary of the Company.

 

Basis of Presentation and Use of Estimates

 

These financial statements have been prepared in accordance with accounting principles generally accepted in United States of America which require management to make estimates and assumptions that affect the reported amounts of assets, liabilities, and the disclosures of revenues and expenses for the reported periods. Actual results may differ from those estimates.

 

Revenues and direct operating expenses of the California and Ohio properties represent members’ interest in the properties acquired for the periods prior to the closing date and are presented on the accrual basis of accounting and in accordance with generally accepted accounting principles. The financial statements presented herein include the revenues and operating expenses of the California and Ohio properties for the period of January 1, 2014 through the sale date of the properties on April 1, 2014.

 

Oil and Gas Properties

 

The Company follows the full cost method of accounting for its oil and natural gas properties, whereby all costs incurred in connection with the acquisition, exploration for and development of petroleum and natural gas reserves are capitalized. Such costs include lease acquisition, geological and geophysical activities, rentals on non-producing leases, drilling, completing and equipping of oil and gas wells and administrative costs directly attributable to those activities and asset retirement costs. Disposition of oil and gas properties are accounted for as a reduction of capitalized costs, with no gain or loss recognized unless such adjustment would significantly alter the relationship between capital costs and proved reserves of oil and gas, in which case the gain or loss is recognized to income.

 

Depletion and depreciation of proved oil and gas properties is calculated on the units-of-production method based upon estimates of proved reserves. Such calculations include the estimated future costs to develop proved reserves. Oil and gas reserves are converted to a common unit of measure based on the energy content of 6,000 cubic feet of gas to one barrel of oil. Costs of unevaluated properties are not included in the costs subject to depletion. These costs are assessed periodically for impairment. As of September 30, 2015 and December 31, 2014 there were no proved reserves.

 

 

During the nine months ended September 30, 2015, the Company disposed of its working interests in the Stroebel-Broyles leases in Eastland County, Texas. The Company assigned its interests in the leases to two local companies in exchange for the assumption of the plugging and abandonment liability associated with the thirty-two wells located on the properties. The disposition is in keeping with the Company’s decision to focus its drilling and development activities in and adjacent to its properties in Shackelford County, Texas.

 

Asset Retirement Obligation

 

The Company follows FASB ASC 410, Asset Retirement and Environmental Obligations which requires entities to record the fair value of a liability for asset retirement obligations (“ARO”) and to record a corresponding increase in the carrying amount of the related long-lived asset. The asset retirement obligation primarily relates to the abandonment of oil and gas properties. The present value of the estimated asset retirement cost is capitalized as part of the carrying amount of oil and gas properties and is depleted over the useful life of the asset. The settlement date fair value is discounted at our credit adjusted risk-free rate in determining the abandonment liability. The liability is accreted with the passage of time to its expected settlement fair value. Revisions to such estimates are recorded as adjustments to ARO and are charged to operations in the period in which they become known. At the time the abandonment cost is incurred, the Company is required to recognize a gain or loss if the actual costs do not equal the estimated costs included in ARO. The ARO is based upon numerous estimates and assumptions, including future abandonment costs, future recoverable quantities of oil and gas, future inflation rates, and the credit adjusted risk free interest rate. Different, but equally valid, assumptions and judgments could lead to significantly different results. Future geopolitical, regulatory, technological, contractual, legal and environmental changes could also impact future ARO cost estimates. Because of the intrinsic uncertainties present when estimating asset retirement costs as well as asset retirement settlement dates, our ARO estimates are subject to ongoing volatility. The ARO is $93,169 and $162,321 as of September 30, 2015 and December 31, 2014, respectively. The reduction in the ARO at September 30, 2015 reflects the aforementioned sale of the Stroebel-Broyles leases in March of 2015. The Company accreted $9,000 and $12,888 to ARO during the nine months ended September 30, 2015 and 2014, respectively.

 

Revenue and Cost Recognition

 

The Company uses the sales method to account for the sales of crude oil and natural gas. Under this method, revenues are recognized based on the actual volumes of oil and gas sold to purchasers. The volumes sold may differ from the volumes to which the Company is entitled based on its interest in the properties. These differences create imbalances which are recognized as a liability or as an asset only when the imbalance exceeds the estimate of remaining reserves. For the periods ending September 30, 2015 and December 31, 2014 there were no such differences.

 

The Company has agreed with the Bradford JV and Keystone Energy, LLC to provide drilling, infrastructure and work-over services to support the development of certain oil leases. The revenue and costs arising from the drilling and other services are matched and recorded as income and expense as each project is completed in accordance with their agreements, effectively recognizing income on the percentage of completion basis.

 

Costs associated with the production of oil and gas (sometimes referred to as “lifting costs”) are expensed in the period incurred.

 

Accounts Receivable

 

Uncollectible accounts receivable are charged directly against earnings when they are determined to be uncollectible. Use of this method does not result in a material difference from the valuation method required by generally accepted accounting principles. At September 30, 2015 and December 31, 2014, no reserve for doubtful accounts was needed.

 

New Accounting Pronouncements

 

ASU 2015-03

 

In April 2015, the Financial Accounting Standards Board (“FASB”) issued Accounting Standards Update (“ASU”) No. 2015-03, Interest - Imputation of Interest (Subtopic 835-30): Simplifying the Presentation of Debt Issuance Costs. The amendments in this ASU require that debt issuance costs related to a recognized debt liability be presented in the balance sheet as a direct deduction from the carrying amount of that debt liability, consistent with debt discounts. The recognition and measurement guidance for debt issuance costs are not affected by the amendments in this ASU. The amendments are effective for financial statements issued for fiscal years, and interim periods within those fiscal years, beginning after December 15, 2015. The amendments are to be applied on a retrospective basis, wherein the balance sheet of each individual period presented is adjusted to reflect the period-specific effects of applying the new guidance. The Company is evaluating possible effect of this guidance on future disclosures.

 

 

ASU 2015-02

 

In February 2015, the FASB issued ASU No. 2015-02, Consolidation (Topic 810): Amendments to the Consolidation Analysis, which is intended to improve targeted areas of consolidation guidance for legal entities such as limited partnerships, limited liability corporations, and securitization structures (collateralized debt obligations, collateralized loan obligations, and mortgage-backed security transactions). The ASU focuses on the consolidation evaluation for reporting organizations that are required to evaluate whether they should consolidate certain legal entities. In addition to reducing the number of consolidation models from four to two, the new standard simplifies the FASB Accounting Standards Codification and improves current U.S. GAAP by placing more emphasis on risk of loss when determining a controlling financial interest, reducing the frequency of the application of related-party guidance when determining a controlling financial interest in a variable interest entity (“VIE”), and changing consolidation conclusions for companies in several industries that typically make use of limited partnerships or VIEs. The ASU will be effective for fiscal years, and interim periods within those fiscal years, beginning after December 15, 2015. Early adoption is permitted, including adoption in an interim period. We do not expect the adoption of ASU 2015-02 to have a material effect on our financial position, results of operations or cash flows.

 

ASU 2015-01

 

In January 2015, the FASB issued ASU No. 2015-01, “Income Statement - Extraordinary and Unusual Items (Subtopic 225-20): Simplifying Income Statement Presentation by Eliminating the Concept of Extraordinary Items.” This ASU eliminates from U.S. GAAP the concept of extraordinary items. ASU 2015-01 is effective for fiscal years, and interim periods within those fiscal years, beginning after December 15, 2015. A reporting entity may apply the amendments prospectively. We do not expect the adoption of ASU 2015-01 to have a material effect on our financial position, results of operations or cash flows.

 

ASU 2014-17

 

In November 2014, the FASB issued ASU No. 2014-17, “Business Combinations (Topic 805): Pushdown Accounting.” This ASU provides an acquired entity with an option to apply pushdown accounting in its separate financial statements upon occurrence of an event in which an acquirer obtains control of the acquired entity. An acquired entity may elect the option to apply pushdown accounting in the reporting period in which the change-in-control event occurs. If pushdown accounting is applied to an individual change-in-control event, that election is irrevocable. ASU 2014-17 was effective on November 18, 2014. The adoption of ASU 2014-17 did not have any effect on our financial position, results of operations or cash flows.

 

ASU 2014-16

 

In November 2014, the FASB issued ASU 2014-16, “Derivatives and Hedging (Topic 815).” ASU 2014-16 addresses whether the host contract in a hybrid financial instrument issued in the form of a share should be accounted for as debt or equity. ASU 2014-16 is effective for fiscal years, and interim periods within those fiscal years, beginning after December 15, 2015. We do not currently have issued, nor are we investors in, hybrid financial instruments. Accordingly, we do not expect the adoption of ASU 2014-16 to have any effect on our financial position, results of operations or cash flows.

 

ASU 2014-15

 

In August 2014, the FASB issued ASU No. 2014-15, “Presentation of Financial Statements - Going Concern (Subtopic 205-40)”. ASU 2014-15 provides guidance related to management’s responsibility to evaluate whether there is substantial doubt about an entity’s ability to continue as a going concern and to provide related footnote disclosure. ASU 2014-15 is effective for annual periods ending after December 15, 2016, and for interim and annual periods thereafter. Early application is permitted. We do not expect the adoption of ASU 2014-15 to have a material effect on our financial position, results of operations or cash flows.

 

ASU 2014-12

 

In June 2014, the FASB issued ASU No. 2014-12, “Compensation - Stock Compensation (Topic 718): Accounting for Share-Based Payments When the Terms of an Award Provide That a Performance Target Could Be achieved after the Requisite Service Period.” This ASU requires that a performance target that affects vesting and that could be achieved after the requisite service period be treated as a performance condition. ASU 2014-12 is effective for fiscal years, and interim periods within those fiscal years, beginning after December 15, 2015. We do not expect the adoption of ASU 2014-12 to have a material effect on our financial position, results of operations or cash flows.

 

ASU 2014-09

 

In May 2014, the FASB issued ASU No. 2014-09, “Revenue from Contracts with Customers (Topic 606).” ASU 2014-09 affects any entity using U.S. GAAP that either enters into contracts with customers to transfer goods or services or enters into contracts for the transfer of nonfinancial assets unless those contracts are within the scope of other standards (e.g., insurance contracts or lease contracts). ASU 2014-09 is effective for fiscal years, and interim periods within those fiscal years, beginning after December 15, 2016. We are still evaluating the effect of the adoption of ASU 2014-09. On April 1, 2015, the FASB voted to propose to defer the effective date of the new revenue recognition standard by one year.

 

 

ASU 2014-08

 

In April 2014, the FASB issued ASU No. 2014-08, “Presentation of Financial Statements (Topic 205) and Property, Plant, and Equipment (Topic 360) and Reporting Discontinued Operations and Disclosures of Disposals of Components of an Entity.” ASU 2014-08 amends the definition for what types of asset disposals are to be considered discontinued operations, as well as amending the required disclosures for discontinued operations and assets held for sale. ASU 2014-08 is effective for fiscal years, and interim periods within those fiscal years, beginning on or after December 15, 2014. The adoption of ASU 2014-08 did not have any effect on our financial position, results of operations or cash flows.

 

Management has considered all recent accounting pronouncements issued since the last audit of our financial statements. The Company’s management believes that these recent pronouncements will not have a material effect on the Company’s unaudited condensed consolidated financial statements.

 

NOTE 2 - GOING CONCERN

 

The Company’s unaudited condensed consolidated financial statements are prepared using accounting principles generally accepted in the United States of America applicable to a going concern, which contemplate the realization of assets and the liquidation of liabilities in the normal course of business. The Company currently utilizes revenues from the sale of crude oil and natural gas and contract drilling and operating services plus the proceeds from the private sales of common stock and/or convertible debt instruments to fund its operating expenses. The Company’s minimal cash flows from operations, working capital deficit and the projected cost of capital improvements of its oil and gas wells raise substantial doubt about its ability to continue as a going concern. The Company has not yet established an adequate ongoing source of operating revenues sufficient to cover its operating costs and to allow it to continue as a going concern. The ability of the Company to continue as a going concern is dependent on the Company obtaining adequate capital to fund operating losses until it becomes profitable. If the Company is unable to obtain adequate capital, it could be forced to cease development of operations.

 

In order to continue as a going concern, develop a reliable source of revenues, and achieve a profitable level of operations the Company will need, among other things, additional capital resources. Management’s plans to continue as a going concern include raising additional capital through increased sales of oil and gas, providing additional contract drilling and operating services for the development of proven undeveloped shallow oil projects and by the sale of debt securities in both public and private transactions. However, management cannot provide any assurances that the Company will be successful in accomplishing any of its plans. The ability of the Company to continue as a going concern is dependent upon its ability to successfully accomplish the plans described in the preceding paragraph and eventually secure other sources of financing and attain profitable operations. These unaudited condensed consolidated financial statements do not include any adjustments that might be necessary should the Company be unable to continue as a going concern.

 

NOTE 3 - FAIR VALUE OF FINANCIAL INSTRUMENTS

 

ASC 820 defines fair value as the price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement date (exit price). The Company utilizes market data or assumptions that market participants would use in pricing the asset or liability, including assumptions about risk and the risks inherent in the inputs to the valuation technique. These inputs can be readily observable, market corroborated, or generally unobservable. The Company classifies fair value balances based on the observability of those inputs.

 

The following tables set forth by level within the fair value hierarchy the Company’s financial assets and liabilities that were accounted for at fair value as of September 30, 2015 and December 31, 2014. As required by ASC 820, a financial instrument’s level within the fair value hierarchy is based on the lowest level of input that is significant to the fair value measurement. The Company’s assessment of the significance of a particular input to the fair value measurement requires judgment, and may affect the valuation of fair value assets and liabilities and their placement within the fair value hierarchy levels. There were no transfers between fair value hierarchy levels as of September 30, 2015 and December 31, 2014.

 

The carrying amounts reported in the balance sheets for cash, accounts receivable, loans payable, and accounts payable and accrued expenses, approximate their fair market value based on the short-term maturity of these instruments. The following table presents assets and liabilities that are measured and recognized at fair value as of September 30, 2015 and December 31, 2014, on a recurring basis:

 

Assets and liabilities at fair value on a recurring basis at September 30, 2015:

 

		Level 1				Level 2				Level 3				Total
Assets
Marketable securities		$	62,725				-				-			$	62,725
Total		$	62,725				-				-			$	62,725
Liabilities
Derivative liability			-				-			$	3,342,642			$	3,342,642
Total			-				-			$	3,342,642			$	3,342,642

 

 

Assets and liabilities at fair value on a recurring basis at December 31, 2014:

 

		Level 1				Level 2				Level 3				Total
Assets
Marketable securities		$	69,300				-				-			$	69,300
Total		$	69,300				-				-			$	69,300
Liabilities
Derivative liability			-				-			$	382,836			$	382,836
Total			-				-			$	382,836			$	382,836

 

The following table provides a summary of changes in fair value of the Company’s Level 3 financial liabilities as of September 30, 2015:

 

		2015
Balance, December 31, 2014		$	382,836
Initial fair value of debt derivatives at note issuances			3,643,326
Reversal of derivative liability and offset with debt discount and interest expense			(131,902	)
Other adjustments			(2,559	)
Mark-to-market at September 30, 2015 -Embedded debt derivatives			(549,059	)
Balance, September 30, 2015		$	3,342,642
Net gain for the period included in earnings relating to the liabilities held at September 30, 2015		$	549,059

 

The carrying value of short term financial instruments including cash, accounts payable, accrued expenses and short-term borrowings approximate fair value due to the short period of maturity for these instruments. The long-term debentures payable approximates fair value since the related rates of interest approximate current market rates.

 

NOTE 4 - STOCKHOLDERS’ DEFICIT

 

At December 31, 2014 the Company had 34,940,046 shares of common stock outstanding.

 

During the nine months ended September 30, 2015, the Company issued 248,874 shares of common stock for services valued at fair market value of $92,283. This charge was expensed during the nine months ended September 30, 2015.

 

During the nine months ended September 30, 2015, the Company issued 100,000 shares of common stock valued at $40,000 as part of an employment agreement with an officer of the Company.

 

During the nine months ended September 30, 2015 the Company issued 30,000 shares of common stock valued at fair market value of $12,000 as payment for interest under a short-term note payable issued in 2014.

 

During the nine months ended September 30, 2015, the Company issued 69,697 shares of stock, valued at $23,000 in a debenture conversion.

 

During the nine months ended September 30, 2015, the Company issued 500,000 shares of stock, valued at a fair market value of $107,500 as consideration for the extension of a short-term note and the interest payable thereon.

 

During the nine months ended September 30, 2015, the Company issued 27,335,581 shares of stock, valued at $542,051 for the conversion of short-term notes payable.

 

During the nine month period ending September 30, 2015 the Company cancelled 33,333 shares of common stock valued at $15,667.

 

As of September 30, 2015 the Company had 63,190,865 shares of common stock outstanding.

 

NOTE 5 - RELATED PARTY TRANSACTIONS

 

Various general and administrative expenses of the Company as well as loans for operating purposes have been paid for or made by related parties of the Company.

 

On June 1, 2014, the Company, through its wholly owned subsidiary, CEGX of Texas, LLC entered into a Contract Operating Agreement with Bradford JV. Under the terms of this agreement, the Company agreed to perform routine and major operations, marketing services, accounting services, reporting services and other administrative services on behalf of Bradford JV as necessary to operate Bradford JV’s oil and gas lease operations on the Bradford oil and gas leases located in Shackelford County, Texas. Bradford JV agreed to pay the Company an administrative and pumping fee of $500 per well per month, 93.7% of the actual cost of electricity, taxes and ongoing maintenance and repairs to operate Bradford JV’s assets. The agreement is for a term of three years and automatically renews for one year periods until one of the parties notifies the other party not later than 60 days prior to commencement of a renewal term of its desire to not renew the agreement.

 

 

During the last week of December 2014, the Company obtained 20 units (out of 100 total units) in the Bradford Joint Venture exploration and drilling program located in Shackelford County, Texas. The operation is accounted for as an investment included in Oil and Gas Properties as of December 31, 2014. The Company purchased their interest for $25,000 per unit on December 31, 2014.

 

The Company had determined that the agreement and the Company’s participation in the joint venture at December 31, 2014 created a related party relationship and as such has reported the billed revenues and any unpaid accounts receivable balances as related party transactions in the financial statements. During the three and nine months ended September 30, 2015, the Company received $nil and $12,994 in revenue related to the investment. The income has been included in other income for the nine months ended September 30, 2015.

 

During 2014, the Company transferred the oil and gas producing properties located in Ohio and California to a former officer and significant shareholder of the Company in exchange for the return of 3,100,000 shares of the Company’s common stock. As a part of the transaction, the Company returned a $20,000 bond received in a prior year from the related party.

 

Related party receivables were $306,403 and $225,000 at September 30, 2015 and December 31, 2014, respectively. Related party payables are $44,000 at September 30, 2015 and nil at December 31, 2014, respectively. Deferred revenue from related party is $130,000 at September 30, 2015 and nil at December 31, 2014.

 

NOTE 6 - SENIOR SECURED CONVERTIBLE PROMISSORY NOTES PAYABLE

 

In March 2014, the Company issued senior secured convertible promissory notes in an aggregate principal amount of $3,225,000 (the “Senior Secured Convertible Notes”) together with common stock purchase warrants (the “Warrants”) to purchase an aggregate of 1,290,000 shares of the Company’s common stock at an exercise price of $1.00 per share as part of a private placement offering. The Senior Secured Convertible Notes bear interest at a rate of 12.0% per annum until they mature on December 15, 2015 or are converted. The note is secured by senior secured interest in the assets of the Company’s working interest in the Dawson-Conway Lease, Powers-Sanders Lease, and Stroebel-Broyles Lease and a pledge of a number of shares of restricted Stock (the “Stock Coverage”) whose value based on the bid price of the Stock is twice (or 200%) the amount in outstanding and unpaid principal and interest of the Notes.

 

During the three month period ended June 30, 2014 the Company issued additional Senior Secured Convertible Notes in an aggregate principal amount of $1,275,000 together with common stock purchase warrants (the “Warrants”) to purchase an aggregate of 510,000 shares of the Company’s common stock at an exercise price of $1.00 per share as part of the same private placement offering.

 

The remaining $500,000 of principal available under the facility was not secured during the fourth quarter of 2014 and the offering of units was closed during February 2015.

 

In accordance with ASC 470-20, the Company recognized an embedded beneficial conversion feature in the notes. The Company allocated a portion of the proceeds equal to the intrinsic value of that feature to additional paid-in capital. The Company recognized and measured an aggregate of nil of the proceeds, which is equal to the intrinsic value of the embedded beneficial conversion feature.

 

In connection with the issuance of the convertible promissory notes, the Company issued detachable warrants granting the holders the right to acquire an aggregate of 1,800,000 shares of the Company’s common stock for $1.00 per share. The warrants expire on December 31, 2019. In accordance with ASC 470-20, the Company recognized the value attributable to the warrants in the amount of $519,286 to additional paid-in capital and as a discount against the notes. The Company valued the warrants in accordance with ASC 470-20 using the Black-Scholes pricing model and the following assumptions: contractual terms of 2 years, an average risk free interest rate of 0.69%, a dividend yield of 0% and volatility of 238.45%. The debt discount attributed to the value of the warrants issued is amortized over the notes’ maturity as interest expense.

 

The Company amortized debt discount $224,924 to current operations as a component of interest expense for the year ended December 31, 2014. During the nine months ended September 30, 2015 the Company amortized an additional $217,582 to current operations as a component of interest expense.

 

Through the end of December 2014, the Company had paid $515,000 in commissions and fees related to the financing. Of the foregoing total $220,837 had been amortized as a component of interest expense while the remaining balance of $294,163 is classified as pre-paid debt issuance costs on the balance sheet at December 31, 2014. During the nine month period ended September 30, 2015 the Company amortized an additional $221,162 of the commissions and fees to interest expense leaving a balance of $73,001 classified as pre-paid debt issuance costs on the balance sheet at September 30, 2015.

 

The Company failed to make the $270,000 semi-annual interest payment that was due to the noteholders on July 31, 2015 under the terms of the senior secured convertible promissory notes in an aggregate principal amount of $4,500,000 issued by the Company in 2014. The Company has held several telephone conference calls with the noteholders and has been in continuous contact with Syndicated Capital, the placement agent for the Notes and representative of the noteholders, to discuss plans to bring the interest payment to a current status. To date, the noteholders have elected not to exercise their rights to trigger certain default provisions under the senior secured promissory notes. The Company has calculated a derivative liability on the note principle payable of $4,500,000 and accrued interest of $405,000 at September 30, 2015. In July 2015 the Company identified embedded derivatives related to the theoretical default of the Convertible Promissory Notes. These embedded derivatives included certain conversion features. The accounting treatment of derivative financial instruments requires that the Company record the fair value of the derivatives as of the inception date of the Convertible Promissory Note and to adjust the fair value as of each subsequent balance sheet date. At the inception of the Convertible Promissory Note, the Company determined a fair value of $2,105,115 of the embedded derivative. The fair value of the embedded derivative was determined using the Black-Scholes Model based on the following assumptions:

 

Dividend yield:			0	%
Volatility			255.01	%
Risk free rate:			0.11	%

 

The Company charged to operations initial fair value of $2,105,115 as interest expense during the nine months ended September 30, 2015. 

 

 

The net proceeds from the borrowing were used primarily to acquire selected oil and gas properties in Texas, to fund the Company’s well work-over and drilling programs, to purchase and equip a regional office, to purchase various well testing and production equipment, to fund lease operating expenses and to retire short-term debt. The Company previously disclosed the details of the Senior Secured Convertible Notes offering in a Form 8-K filed on March 7, 2014.

 

NOTE 7 - NOTES PAYABLE AND CONVERTIBLE NOTES PAYABLE

 

The Company has the following notes payable outstanding at September 30, 2015 and December 31, 2014:

 

		September 30, 2015				December 31, 2014
Promissory notes		$	-			$	340,000
Total			-				340,000
Less: Current portion			-				(340,000	)
Long-term portion		$	-			$	-

 

July 2013, NOTE PAYABLE:

 

In July 2013, the Company purchased an 85% working interest and 75% net revenue interest in certain oil and gas leases covering 618 acres of land located in Shackelford County, Texas (the “Dawson-Conway Leases”) for a purchase price of $400,000. The Company issued a promissory note in the amount of $400,000 to finance the purchase (the “HLA Note”). The promissory note accrues interest at 6% per annum, is due two years from issuance and is secured by the Dawson-Conway Leases. During March of 2014, pursuant to property title related issues, the note was reduced to $340,000. All of other terms of the note agreement remain unchanged. The Company has treated the reduction as an adjustment to the purchase price of the properties. At December 31, 2014, the $340,000 balance of the HLA Note remained outstanding. Pursuant to a partial default judgement awarded in favor of the Company on August 5, 2015, the Company was relieved of any responsibility for repayment of the HLA Note. Accordingly, the Company has removed the HLA Note from the liability section of the balance sheet and has treated the previously outstanding balance of $340,000 as a reduction to the carrying value of the properties as of September 30, 2015. In addition, the $10,200 of accrued and unpaid interest payable under the HLA Note, previously recorded during the first six months of 2015, was reversed during the quarter ended September 30, 2015.

 

See Note 10, Commitments and Contingencies regarding legal proceedings relating to this transaction.

 

September 11, 2014, NOTE PAYABLE:

 

On September 11, 2014, the Company issued a 90 day promissory note to an unrelated entity in the amount of $120,000. The Company received $120,000 in cash. Under the terms of the note, the Company issued 50,000 shares of restricted common stock as a prepayment of interest and agreed to pay an additional $15,000 of interest on maturity of the note. The stock that was issued was valued at $0.70 per share based upon the trading value of the stock when issued resulting in a credit to common stock of $35,000 which is being amortized over the 90 days to maturity of the note. During December 2014 the Company repaid the note principal in cash, during January 2015 the Company paid the interest by issuing 30,000 shares of common stock valued at $12,000.

 

The Company has the following convertible notes payable outstanding at September 30, 2015 and December 31, 2014:

 

		September 30, 2015				December 31, 2014
Promissory notes		$	1,017,915			$	633,000
Unamortized debt discount			(488,435	)			(303,106	)
Total			529,480				329,894
Less: Current portion			(458,111	)			(329,894	)
Long-term portion		$	71,369			$	-

 

September 22, 2014, NOTE PAYABLE:

 

On September 22, 2014, the Company issued a short term convertible promissory note payable to an unrelated entity. Under the terms of the note, the Company received $250,000. The Company paid $10,000 as a commission related to this credit facility. The repayment of the note is due 180 days after the funds were received. The repayment is subject to the convertible features of the note. The creditor has a conversion option allowing it to choose to receive repayment of the stated principal either in cash or, at the creditor’s option, in the Company’s restricted common stock. If paid in cash the principal repayment $340,000. During April 2015, the Company completed an agreement to extend the repayment date to May 10, 2015 and issued 250,000 shares of common stock valued at $55,000 during the six months ended June 30, 2015 as interest expense. The extension was treated as effective on the due date, March 19, 2015 and the value of the stock to be issued was included as accrued expense and interest was charged $87,500 during the quarter, based upon the trading value of the common stock at the date issued. In connection with a second extension, the value of the common stock was reduced to $55,000 and a credit to interest of $32,500 was recorded in connection with the transaction. On May 10, 2015, the noteholder agreed to extend the due date another 45 days and the Company issued 250,000 shares of common stock valued at $52,500 as consideration during the nine months ended September 30, 2015 as interest expense. In connection with a third extension, the Company recorded $5,000 during the nine months ended September 30, 2015.

 

At the option of the note holder, the Company may repay the note by issuing restricted common stock based upon a valuation formula, which includes a calculation based upon 80% of an average of the lowest 3-day closing price during the immediate 20 days prior to the calculation of the conversion notice.

 

The note was issued with an original issue discount of $90,000 and the Company recorded it as prepaid debt issuance cost which is amortized over the term of the note. During the year ended December 31, 2014, the company amortized $52,500 to current period operations as interest expense. During the period ended September 30, 2015 the balance of the prepaid debt issuance of cost $37,500 was amortized to current operations as interest expense.

 

 

The Company identified embedded derivatives related to the Convertible Promissory Notes entered into in September 2014. These embedded derivatives included certain conversion features. The accounting treatment of derivative financial instruments requires that the Company record the fair value of the derivatives as of the inception date of the Convertible Promissory Note and to adjust the fair value as of each subsequent balance sheet date. At the inception of the Convertible Promissory Note, the Company determined a fair value of $392,710 of the embedded derivative. The fair value of the embedded derivative was determined using the Black-Scholes Model based on the following assumptions:

 

Dividend yield:			0	%
Volatility			168	%
Risk free rate:			0.01	%

 

In conjunction with the issuance of the Convertible Promissory Notes, the Company issued an aggregate of 250,000 Class C detachable warrants exercisable three years from the date of issuance with an initial exercise price of $1.00 per share.

 

The Company identified embedded derivatives related to the warrants issued September 22, 2014. These embedded derivatives included certain reset provisions. The accounting treatment of derivative financial instruments requires that the Company record the fair value of the derivatives as of the inception date to adjust the fair value as of each subsequent balance sheet date. At the date of issuance, the Company determined a fair value of $152,062 of the embedded derivative. The fair value of the embedded derivative was determined using the Black-Scholes Model based on the following assumptions:

 

Dividend yield:			0	%
Volatility			168	%
Risk free rate:			1.08	%

 

The initial fair values of the embedded debt derivative of $392,710 and warrants of $152,062 was allocated as a debt discount up to the proceeds of the note ($340,000) with the remainder ($204,772) charged to operations as interest expense during year ended December 31, 2014.

 

During the year ended December 31, 2014, the Company amortized $158,535 to current period operations as interest expense.

 

The fair value of the described embedded derivative of $250,942 at December 31, 2014 was determined using the Black-Scholes Model with the following assumptions:

 

Dividend yield:			0	%
Volatility			160.22	%
Risk free rate:			0.04%-1.10	%

 

At December 31, 2014, the Company adjusted the recorded fair value of the derivative liability to market resulting in non-cash, non-operating gain of $293,830 for the year ended December 31, 2014.

 

During the period ended September 30, 2015, the Company extended the repayment date on three occasions and issued common stock to the note holder as consideration for the extension concessions. The Company issued 250,000 shares on May 5, 2015 and an additional 250,000 shares on May 28, 2015. The shares were valued based upon an agreed formula consistent with the conversion terms applied to the embedded derivative. The 500,000 shares of common stock was valued at $107,500 which was charged to interest during the second quarter. The Company has completed a third extension, for which it paid $5,000 for legal fees incurred by the note holder. As of September 30, 2015 the balance of the note is $278,370 and it was due on August 8, 2015. The note is currently in default and the Company and the note holder have agreed to arbitration in 2016.

 

The fair value of the described embedded derivative of $139,299 at September 30, 2015 was determined using the Black-Scholes Model with the following assumptions:

 

Dividend yield:			0	%
Volatility			255.01	%
Risk free rate:			0.02	%

 

During the nine months September 30, 2015, the Company adjusted the fair value of the derivative liability resulting in a non-cash non-operating gain of $111,626.

 

Additionally the creditor agreed to accept 967,742 shares of the Company’s common stock in satisfaction of $71,640 in debt. The conversion was accounted for as a reduction in the debt and a credit to stockholders’ equity.

 

December 23, 2014, NOTE PAYABLE:

 

On December 23, 2014, the Company issued a short term convertible promissory note payable to an unrelated entity. Under the terms of the note, the Company received $95,000. The Company paid $5,000 as a legal fees related to this credit facility. The repayment of the note is due one year after the funds were received. The repayment is subject to the convertible features of the note. The creditor has a conversion option allowing it to choose to receive repayment of the stated principal either in cash or, at the creditor’s option, in the Company’s restricted common stock. If paid in cash the principal repayment will be $120,000 if paid on or before 180 days from the execution of the agreement. At the option of the note holder, the Company may repay the note by issuing restricted common stock based upon a valuation formula, which includes a calculation based upon a 40% discount to the lowest closing price during the immediate 20 days prior to the calculation of the conversion notice.

 

 

The Company identified embedded derivatives related to the Convertible Promissory Notes entered into in December 2014. These embedded derivatives included certain conversion features. The accounting treatment of derivative financial instruments requires that the Company record the fair value of the derivatives as of the inception date of the Convertible Promissory Note and to adjust the fair value as of each subsequent balance sheet date. At the inception of the Convertible Promissory Note, the Company determined a fair value of $148,858 of the embedded derivative. The fair value of the embedded derivative was determined using the Black-Scholes Model based on the following assumptions:

 

Dividend yield:			0	%
Volatility			160.22	%
Risk free rate:			0.26	%

 

The initial fair values of the embedded debt derivative of $148,858 was allocated as a debt discount up to the proceeds of the note ($110,000) with the remainder ($38,858) charged to operations as interest expense during year ended December 31, 2014.

 

The fair value of the described embedded derivative of $131,902 at December 31, 2014 was determined using the Black-Scholes Model with the following assumptions:

 

Dividend yield:			0	%
Volatility			160.22	%
Risk free rate:			0.23	%

 

At December 31, 2014, the Company adjusted the recorded fair value of the derivative liability to market resulting in non-cash, non-operating gain of $16,956 for the year ended December 31, 2014.

 

During the period ended March 31, 2015, the Company reclassified the debt from convertible notes to note payable to report the status of the note consistently with other convertible notes which, under the prepayment terms, were not convertible until the prepayment period expired. In connection with reclassifying the debt, the derivative liability of $131,902 and the debt discount of $107,288 which were reported in the December 31, 2014 balance sheet were eliminated with an offsetting credit to interest expense of $29,644. The note balance was adjusted to $123,370 to reflect the interest expense under the prepayment terms, increasing the balance of the note payable due under the existing prepayment terms at March 31, 2015.

 

At March 31, 2015 and December 31, 2014, the note balance outstanding was $123,370 and $110,000, respectively.

 

During the period ended September 30, 2015, the prepayment term expired and the conversion feature became operative as of June 23, 2015. In connection with the change in the status of the note, it was transferred to convertible note status. The Company identified embedded derivatives related to the Convertible Promissory Notes entered into as of June 30, 2015. These embedded derivatives included certain conversion features. The accounting treatment of derivative financial instruments requires that the Company record the fair value of the derivatives as of the inception date of the Convertible Promissory Note provisions and to adjust the fair value as of each subsequent balance sheet date. At June 30, 2015 the Company determined a fair value of $130,000 of the embedded derivative. The fair value of the embedded derivative was determined using the Black-Scholes Model based on the following assumptions:

 

Dividend yield:			0	%
Volatility			187.68	%
Risk free rate:			0.11	%

 

The initial fair values of the embedded debt derivative of $130,000 was allocated as a debt discount up to the proceeds of the note ($110,000) with the remainder ($20,000) charged to operations as interest expense during nine months ended September 30, 2015. Additionally the creditor agreed to accept 7,396,917 shares of the Company’s common stock in satisfaction of $106,601 in debt. The conversion was accounted for as a reduction in the debt and a credit to stockholders’ equity. Finally, the Company amortized the proportionate share of the Beneficial Conversion Feature, reducing the value to $90,151 and charging amortization expense that amount.

 

During the nine months ended September 30, 2015, the Note Holder converted $91,233 from the note into 7,140,787 shares of the Company’s common stock. As of September 30, the note obligation had been reduced to $10,198. The derivative liability had also been reduced to $9,861. The fair value of the embedded derivative was determined using the Black-Scholes Model based on the following assumptions:

 

Dividend yield:			0	%
Volatility			243.89	%
Risk free rate:			0.08	%

 

During the nine months ended September 30, 2015, the Company adjusted the fair value of the derivative liability resulting in a non-cash non-operating gain of $120,137.

 

 

January 12, 2015 NOTE PAYABLE:

 

On January 12, 2015, the Company issued a one year promissory note payable of $100,000, due January 12, 2016, with an unrelated entity. Under the terms of the note, the Company received $90,000 and was charged an original issue discount of $5,000. The Company was also charged $5,000 as legal fees related to this credit facility. The repayment, if not completed within 180 days may, at the option of the note holder, be repaid in common stock of the Company. After 180 days, the creditor will have a conversion option allowing it to choose to receive repayment of the stated principal and interest either in cash or, at the creditor’s option, in the Company’s restricted common stock. If paid in cash, during the 180 day prepayment period, the repayment will be $120% of the principle and any accrued interest. At September 30, 2015, the outstanding balance, subject to prepayment was $38,350. During the period ended September 30, 2015, the Company recognized interest in the amount of $6,364 and amortized the original issue discount in the amount of $7,151 as additional interest expense.

 

The prepayment term expired and the conversion feature became operative as of July 12, 2015. In connection with the change in the status of the note, it was transferred to convertible note status. The Company identified embedded derivatives related to the Convertible Promissory Notes entered into as of June 30, 2015. These embedded derivatives included certain conversion features. The accounting treatment of derivative financial instruments requires that the Company record the fair value of the derivatives as of the inception date of the Convertible Promissory Note provisions and to adjust the fair value as of each subsequent balance sheet date. At June 30, 2015 the Company determined a fair value of $98,444 of the embedded derivative. The fair value of the embedded derivative was determined using the Black-Scholes Model based on the following assumptions:

 

Dividend yield:			0	%
Volatility			187.59	%
Risk free rate:			0.24	%

 

At June 30, 2015, the Company had recognized a Beneficial Conversion Feature of $98,444 on July 12, 2015.

 

The Company identified embedded derivatives related to the Convertible Promissory Notes entered into as of September 30, 2015. These embedded derivatives included certain conversion features. The accounting treatment of derivative financial instruments requires that the Company record the fair value of the derivatives as of the inception date of the Convertible Promissory Note provisions and to adjust the fair value as of each subsequent balance sheet date. At September 30, 2015 the Company determined a fair value of $35,026 of the embedded derivative. The fair value of the embedded derivative was determined using the Black-Scholes Model based on the following assumptions:

 

Dividend yield:			0	%
Volatility			243.89	%
Risk free rate:			0.08	%

 

During the nine months ended September 30, 2015, the Company charged to operations amortization expense of $89,775. During the nine months ended September 30, 2015, the Company adjusted the fair value of the derivative liability resulting in a non-cash non-operating gain of $63,418. At September 30, 2015 the outstanding balance of the note was $38,350. Additionally the creditor agreed to accept 2,833,442 shares of the Company’s common stock in satisfaction of $68,024 in debt. The conversion was accounted for as a reduction in the debt and a credit to stockholders’ equity.

 

January 16, 2015 NOTE PAYABLE:

 

On January 16, 2015, the Company issued a short-term promissory note payable of $114,000, due October 13, 2015, with an unrelated entity. Under the terms of the note, the Company received $110,000 and was charged an original issue discount of $4,000. The repayment, if not completed within 180 days may, at the option of the note holder, be repaid in common stock of the Company. After 180 days, the creditor will have a conversion option allowing it to choose to receive repayment of the stated principal and interest either in cash or, at the creditor’s option, in the Company’s restricted common stock. If paid in cash, during the 180 day prepayment period, the repayment will be $130% of the principle and any accrued interest.

 

The prepayment term expired and the conversion feature became operative as of July 09, 2015. In connection with the change in the status of the note, it was transferred to convertible note status. The Company identified embedded derivatives related to the Convertible Promissory Notes entered into as of June 30, 2015. These embedded derivatives included certain conversion features. The accounting treatment of derivative financial instruments requires that the Company record the fair value of the derivatives as of the inception date of the Convertible Promissory Note provisions and to adjust the fair value as of each subsequent balance sheet date. At June 30, 2015 the Company determined a fair value of $88,331 of the embedded derivative. The fair value of the embedded derivative was determined using the Black-Scholes Model based on the following assumptions:

 

Dividend yield:			0	%
Volatility			187.65	%
Risk free rate:			0.24	%

 

The Company recognized a Beneficial Conversion Feature of $88,331 on July 9, 2015.

 

During the period ended September 30, 2015, the Company recognized a net credit to interest in the amount of $(14,422) (due to the elimination of the prepayment penalty amount of $15,104) and amortized the original issue discount in the amount of $3,813 as additional interest expense.

 

The Company identified embedded derivatives related to the Convertible Promissory Notes entered into as of September 30, 2015. These embedded derivatives included certain conversion features. The accounting treatment of derivative financial instruments requires that the Company record the fair value of the derivatives as of the inception date of the Convertible Promissory Note provisions and to adjust the fair value as of each subsequent balance sheet date. At September 30, 2015 the Company determined a fair value of $1,652 of the embedded derivative. The fair value of the embedded derivative was determined using the Black-Scholes Model based on the following assumptions:

 

Dividend yield:			0	%
Volatility			255.55	%
Risk free rate:			0.05	%

 

The outstanding balance of the note at September 30, 2015 with accrued interest was $3,322.

 

During the nine months ended September 30, 2015, the Company charged to operations amortization expense of $87,356. During the nine months ended September 30, 2015, the Company adjusted the fair value of the derivative liability resulting in a non-cash non-operating gain of $86,679. Additionally the creditor agreed to accept 4,169,691 shares of the Company’s common stock in satisfaction of $115,482 in debt. The conversion was accounted for as a reduction in the debt and a credit to stockholders’ equity.

 

 

January 22, 2015 NOTE PAYABLE:

 

On January 22, 2015, the Company issued a two year convertible promissory note payable with an unrelated entity. Under the terms of the note, the Company received $50,000. The repayment of the note is due on or before January 28, 2017, 2 years after the funds were received. The repayment is subject to the convertible features of the note. The creditor has a conversion option allowing it to choose to receive repayment of the stated principal either in cash or, at the creditor’s option, in the Company’s restricted common stock. If paid in cash the principal repayment $55,000. Including an original issue discount of $5,000.

 

At the option of the note holder, the Company may repay the note by issuing restricted common stock based upon a valuation formula, which includes a calculation based upon 60% of the lowest closing price during the immediate 25 days prior to the calculation of the conversion notice.

 

The note was issued with an original issue discount of $5,000 and the Company recorded it as prepaid debt issuance cost which is amortized over the term of the note. Through the period ended September 30, 2015, $1,675 has been charged to interest expense.

 

The Company identified embedded derivatives related to the Convertible Promissory Notes entered into in January 2015. These embedded derivatives included certain conversion features. The accounting treatment of derivative financial instruments requires that the Company record the fair value of the derivatives as of the inception date of the Convertible Promissory Note and to adjust the fair value as of each subsequent balance sheet date. At the inception of the Convertible Promissory Note, the Company determined a fair value of $119,228 for the embedded derivative. The fair value of the embedded derivative was determined using the Black-Scholes Model based on the following assumptions:

 

Dividend yield:			0	%
Volatility			159.91	%
Risk free rate:			0.50	%

 

The initial fair values of the embedded debt derivative of $119,228 was allocated as a debt discount of $55,000 with the remainder ($64,228) charged to operations as interest expense during the nine months ended September 30, 2015.

 

During the nine months ended September 30, 2015, the Company charged to operations amortization expense of $34,632. During the nine months ended September 30, 2015, the note holder elected to convert $26,485 of the debt into 2,433,596 shares of the Company’s common stock. The embedded derivative liability was reviewed and adjusted to $82,449. The net adjustment, of $36,779 was credited to gain on change in derivative liability, a non-operating, non-cash transaction during the nine months ended September 30, 2015. The fair value of the derivative was determined using the Black-Scholes Model with the following assumptions:

 

Dividend yield:			0	%
Volatility			256.02	%
Risk free rate:			0.11	%

 

January 28, 2015 NOTE PAYABLE:

 

On January 28, 2015, the Company issued a two-year promissory note payable of $55,000, due January 28, 2017 with an unrelated entity. Under the terms of the note, the Company received $50,000 and was charged an original issue discount of $5,000. The repayment, if not completed within 180 days may, at the option of the note holder, be repaid in common stock of the Company. After 180 days, the creditor will have a conversion option allowing it to choose to receive repayment of the stated principal and interest either in cash or, at the creditor’s option, in the Company’s restricted common stock. If paid in cash, during the initial 90 days, the repayment will be 120% of the principle and any accrued interest. During the succeeding 90 day prepayment period, the repayment will be 130% of the principle and any accrued interest.

 

The prepayment term expired and the conversion feature became operative as of July 28, 2015. In connection with the change, the note was transferred to convertible note status. The Company identified embedded derivatives related to the Convertible Promissory Notes entered into as of June 30, 2015. These embedded derivatives included certain conversion features. The accounting treatment of derivative financial instruments requires that the Company record the fair value of the derivatives as of the inception date of the Convertible Promissory Note provisions and to adjust the fair value as of each subsequent balance sheet date. At June 30, 2015, the Company determined a fair value of $103,032 of the embedded derivative. The fair value of the embedded derivative was determined using the Black-Scholes Model based on the following assumptions:

 

Dividend yield:			0	%
Volatility			187.59	%
Risk free rate:			0.24	%

 

The Company had recognized a Beneficial Conversion Feature of $61,600 with the remainder ($41,432) charged to operations as interest expense during the nine months ended September 30, 2015.

 

The Company identified embedded derivatives related to the Convertible Promissory Notes entered into as of September 30, 2015. These embedded derivatives included certain conversion features. The accounting treatment of derivative financial instruments requires that the Company record the fair value of the derivatives as of the inception date of the Convertible Promissory Note provisions and to adjust the fair value as of each subsequent balance sheet date. At September 30, 2015, the Company determined a fair value of $64,078 of the embedded derivative. The net adjustment of $38,954 was credited to gain on change in derivative liability, a non-operating, non-cash transaction during the nine months ended September 30, 2015. The fair value of the embedded derivative was determined using the Black-Scholes Model based on the following assumptions:

 

Dividend yield:			0	%
Volatility			255.01	%
Risk free rate:			0.33	%

 

During the nine months ended September 30, 2015, the creditor elected to convert $34,286 of the obligation to the Company’s common stock under the terms of the convertible note. The Company issued 2,000,000 shares of its common stock based on an average exchange rate of $0.018 per share.

 

The Company charged $42,673 to amortization expense during the nine months ended September 30, 2015, leaving the balance of $18,927. The note also accrued $14,021 interest which was charged to current period interest. The balance of the note at September 30, 2015 was $27,314.

 

 

March 18, 2015, NOTE PAYABLE:

 

On March 18, 2015, the Company issued a two-year promissory note payable of $60,000, due March 18, 2017 with an unrelated entity. Under the terms of the note, the Company received $54,000 and was charged an original issue discount of $6,000. The repayment, if not completed within 180 days may, at the option of the note holder, be repaid in common stock of the Company. After 180 days, the creditor will have a conversion option allowing it to choose to receive repayment of the stated principal and interest either in cash or, at the creditor’s option, in the Company’s common stock. If paid in cash, during the initial 90 days, the repayment will be 115% of the principle and accrued interest. During the succeeding 90 day prepayment period, the repayment will be $130% of the principle and any accrued interest. If the creditor elects to convert the note to stock, the conversion feature allows for a valuation of the stock based upon a 35% discount to the average of the lowest three trading prices during the 10 days preceding the conversion date.

 

During the quarter ended September 30, 2015, the outstanding balance, subject to prepayment was converted to the convertible note conditions as follows: Prepayment interest was removed by crediting interest expense $19,778 during the nine months ended September 30, 2015.

 

The prepayment term expired and the conversion feature became operative as of September 14, 2015. In connection with the change, the note was transferred to convertible note status. The Company identified embedded derivatives related to the Convertible Promissory Notes entered into as of September 30, 2015. These embedded derivatives included certain conversion features. The accounting treatment of derivative financial instruments requires that the Company record the fair value of the derivatives as of the inception date of the Convertible Promissory Note provisions and to adjust the fair value as of each subsequent balance sheet date. At September 30, 2015, the Company determined a fair value of $128,192 of the embedded derivative. The fair value of the embedded derivative was determined using the Black-Scholes Model based on the following assumptions:

 

Dividend yield:			0	%
Volatility			255.01	%
Risk free rate:			0.08	%

 

The Company had recognized a Beneficial Conversion Feature of $60,000 with the remainder ($68,192) charged to operations as interest expense during the nine months ended September 30, 2015. During the period ended September 30, 2015, the Company recognized interest expense in the amount of $2,578 and amortized the original issue discount in the amount of $4,033 as additional interest expense. At September 30, 2015, the balance of the note is $48,655.

 

During September the creditor elected to convert under the terms of the note, $13,923 of the note obligation to 2,100,000 shares of the Company’s common stock at a price of $0.007.

 

March 18, 2015, NOTE PAYABLE:

 

On March 18, 2015, the Company issued a two year convertible promissory note payable with an unrelated entity. Under the terms of the note, the Company received $54,000. The repayment of the note is due on or before March 18, 2017, two years after the funds were received. The repayment is subject to the convertible features of the note. The creditor has a conversion option allowing it to choose to receive repayment of the stated principal with accrued interest. The note was not prepaid by June 18, 2015, and accordingly the Company was charged 12% interest, bringing the note obligation to $72,000 at maturity. The note is to be repaid either in cash or, at the creditor’s option, in the Company’s restricted common stock. If paid in cash, the principal repayment is to be $60,000 (including an original issue discount of $4,000), and the interest is to be $12,000 since the note was not prepaid by June 18, 2015.

 

At the option of the note holder, the Company may repay the note by issuing restricted common stock based upon a valuation formula, which includes a calculation based upon 60% of the lowest closing price during the immediate 25 days prior to the calculation of the conversion notice.

 

The note was issued with an original issue discount of $6,000 and a charge for legal fees of $4,000. The Company recorded the costs as prepaid debt issuance cost which is amortized over the term of the note. As of June 30, 2015 the Company accounted for the note as a convertible note payable. As of June 30, 2015, the Company identified embedded derivatives related to the note. These embedded derivatives included certain conversion features. The accounting treatment of derivative financial instruments requires that the Company record the fair value of the derivatives as of the inception date of the convertible promissory note and to adjust the fair value as of each subsequent balance sheet date. At the inception of the note, the Company determined a fair value of $86,665 for the embedded derivative. The fair value of the embedded derivative was determined using the Black-Scholes Model based on the following assumptions:

 

Dividend yield:			0	%
Volatility			174.28	%
Risk free rate:			0.57	%

 

The initial fair value of the embedded debt derivative of $86,665 was allocated as a debt discount of $43,448 with the remainder ($43,217) charged to operations as interest expense at March 18, 2015.

 

 

On September 30, 2015, no additional interest was incurred as there is only a one time charge of 12% under the note, the interest was to be recorded 60 days after the note was issued. During the period from March 18, 2015 to September 30, 2015 the derivative liability was increased to $124,378 with a charge to expense from change in derivative liability during the nine months ended September 30, 2015 of $37,313. During the nine months ended the beneficial conversion feature and the prepaid loan costs of $20,901 and $2,860 were amortized and charged to interest, respectively. The change in derivative liability was determined using the Black Scholes option model calculation with the following assumptions:

 

Dividend yield:			0	%
Volatility			255.01	%
Risk free rate:			0.33	%

 

During September of 2015, the creditor elected to convert $14,812 of note obligation into 3,940,000 shares of the Company’s common stock at an average price of $0.004 per share. At September 30, 2015 the outstanding balance due was $52,837.

 

April 6, 2015, NOTE PAYABLE:

 

On April 6, 2015, the Company issued a nine-month promissory note payable of $60,000, due January 6, 2016 with an unrelated entity. Under the terms of the note, the Company received $54,750 and was charged an original issue discount of $5,250. The repayment, if not completed within 180 days may, at the option of the note holder, be repaid in common stock of the Company. After 180 days, the creditor will have a conversion option allowing it to choose to receive repayment of the stated principal and interest either in cash or, at the creditor’s option, in the Company’s restricted common stock. If paid in cash, during the initial 180 days, the repayment will be calculated based upon the period paid, with prepayment terms requiring 125% to 150% of the principal and any accrued interest. The outstanding obligation at September 30, 2015 was adjusted to $66,000, based upon interest of 10% being assessed after 90 days.

 

During the quarter ended September 30, 2015, the derivative liability was adjusted to $160,526. The liability is charged as follows: $60,000 to the Beneficial Conversion Feature, $100,526 to interest expense. The derivative liability was determined using the Black-Scholes Black Scholes option model calculation with the following assumptions:

 

Dividend yield:			0	%
Volatility			255.01	%
Risk free rate:			0.24	%

 

During the nine months ended September 30, 2015, $3,379 of prepaid debt financing costs were amortized and charged to interest expense.

 

May 1, 2015, NOTE PAYABLE:

 

On May 1, 2015, the Company issued a nine-month promissory note payable of $59,000, due February 6, 2016 with an unrelated entity. Under the terms of the note, the Company received $55,000 and was charged prepaid loan costs of $4,000. The repayment, if not completed within 180 days may, at the option of the note holder, be repaid in common stock of the Company. After 180 days, the creditor will have a conversion option allowing it to choose to receive repayment of the stated principal and interest either in cash or, at the creditor’s option, in the Company’s restricted common stock. If paid in cash, during the initial 180 days, the repayment will be calculated based upon the period paid, with prepayment terms requiring 115% to 130% of the principal and any accrued interest. The outstanding obligation at September 30, 2015 was adjusted to $72,428. During the nine months ended September 30, 2015 interest of $13,428 and amortization of original issue discount expense of $3,018 was charged to operations.

 

May 8, 2015, NOTE PAYABLE:

 

On May 8, 2015, the Company issued a ten-month convertible promissory note payable of $145,000 to an unrelated entity. Under the terms of the note, the third party creditors were bought out by the note holder and the Company entered into an arrangement to encourage the conversion of the credit facility into common stock. At September 30, 2015, the noteholder had converted $90,894 of the $145,000 note to 1,494,193 shares of common stock. The conversion price of the stock issued in connection with the note ranged from $0.014 to $0.22 based upon the conversion calculation which includes a 30% discount to the Company’s stock, based upon stock market quotations.

 

The repayment of the note is due on or before March 8, 2016, ten months after the issue date of the note. The repayment is subject to the convertible features of the note. The creditor has a conversion obligation allowing it to convert the notes during the pendency of the note, but repayment in cash is not expected.

 

At the option of the note holder, the Company may repay the note by issuing restricted common stock based upon a valuation formula, which includes a calculation based upon 70% of the lowest volume weighted average price (“VWAP”) during the immediate 10 days prior to the calculation of the conversion notice.

 

 

The Company identified embedded derivatives related to the Convertible Promissory Notes entered into in May 2015. These embedded derivatives included certain conversion features. The accounting treatment of derivative financial instruments requires that the Company record the fair value of the derivatives as of the inception date of the Convertible Promissory Note and to adjust the fair value as of each subsequent balance sheet date. At the inception of the Convertible Promissory Note, the Company determined a fair value of $147,426 for the embedded derivative. The fair value of the embedded derivative was determined using the Black-Scholes Model based on the following assumptions:

 

Dividend yield:			0	%
Volatility			146.89	%
Risk free rate:			0.22	%

 

The initial fair value of the embedded debt derivative of $147,426 was allocated as a debt discount.

 

The derivative liability was reduced by $123,730 to $23,697 with a credit to gain from change in derivative liability during the nine months ended September 30, 2015. The change in derivative liability was determined using the Black Scholes option model calculation with the following assumptions:

 

Dividend yield:			0	%
Volatility			255.01	%
Risk free rate:			0.08	%

 

Interest expense arising from the amortization of the beneficial conversion feature and the stated interest included in the note terms was charged $124,690.

 

May 21, 2015 NOTE PAYABLE:

 

On May 21, 2015, the Company issued a ten-month convertible promissory note payable with an unrelated entity. Under the terms of the note, the Company received $100,000. The repayment of the note is due on or before March 8, 2016, ten months after the issue date of the note. The repayment is subject to the convertible features of the note. The creditor has a conversion option allowing it to choose to receive repayment of the stated principal with accrued interest. The note is to be repaid either in cash or, at the creditor’s option, in the Company’s restricted common stock. If paid in cash the principal repayment is to be $110,000 (including an original issue discount of $10,000) and the interest after the initial 90 days is to be 12%.

 

At the option of the note holder, the Company may repay the note by issuing restricted common stock based upon a valuation formula, which includes a calculation based upon 70% of the lowest volume weighted average price (“VWAP”) during the immediate 10 days prior to the calculation of the conversion notice.

 

The original issue discount of $10,000 has been recorded as prepaid debt issuance cost along with legal and commission expenses of $11,350. The prepaid debt issuance costs will be amortized over the term of the note.

 

The Company identified embedded derivatives related to the Convertible Promissory Notes entered into in May 2015. These embedded derivatives included certain conversion features. The accounting treatment of derivative financial instruments requires that the Company record the fair value of the derivatives as of the inception date of the Convertible Promissory Note and to adjust the fair value as of each subsequent balance sheet date. At the inception of the Convertible Promissory Note, the Company determined a fair value of $106,018 for the embedded derivative. The fair value of the embedded derivative was determined using the Black-Scholes Model based on the following assumptions:

 

Dividend yield:			0	%
Volatility			145.89	%
Risk free rate:			0.26	%

 

On September 30, 2015, interest of $4,774 was incurred under the note, the interest was to be recorded 60 days after the note was issued at 12%. There will be no additional interest due under the note. On September 30, 2015, the embedded derivative liability was reviewed and adjusted to $55,661. The derivative liability was reduced by $50,357 with a credit to gain from change in derivative liability during the nine months ended September 30, 2015. The beneficial conversion feature and the prepaid loan costs were amortized of $46,502 and $9,652, respectively during the nine months ended September 30, 2015. The change in derivative liability was determined using the Black Scholes option model calculation with the following assumptions:

 

Dividend yield:			0	%
Volatility			255.01	%
Risk free rate:			0.08	%

 

 

June 2, 2015 NOTE PAYABLE:

 

On June 2, 2015, the Company issued a twelve-month convertible promissory note payable with an unrelated entity. Under the terms of the note, the Company received $100,000. The repayment of the note is due on or before June 2, 2016, one year after the issue date of the note. The repayment is subject to the convertible features of the note. The creditor has a conversion option allowing it to choose to receive repayment of the stated principal with accrued interest (12%). The note is to be repaid either in cash or, at the creditor’s option, in the Company’s restricted common stock. If paid in cash the principal repayment is to be $121,000 (including an original issue discount of $10,000 and professional fees of $11,000) and the interest after the initial 90 days is to be a one-time charge of 12%.

 

At the option of the note holder, the Company may repay the note by issuing common stock based upon a valuation formula, which includes a calculation based upon 70% of the lowest trade price during the immediate 15 days prior to the calculation of the conversion notice.

 

The original issue discount of $10,000 and the $11,000 legal fees have been recorded as prepaid debt issuance cost which is amortized over the term of the note. Additionally, the Beneficial Conversion Feature of $121,000 has also been amortized and recorded as interest expense. During the period ended September 30, 2015, amortization of beneficial conversion feature of $39,672 and deferred financing cost of $6,886 was charged to interest expense during the nine months ended September 30, 2015.

 

The Company identified embedded derivatives related to the Convertible Promissory Notes entered into in June 2015. These embedded derivatives included certain conversion features. The accounting treatment of derivative financial instruments requires that the Company record the fair value of the derivatives as of the inception date of the Convertible Promissory Note and to adjust the fair value as of each subsequent balance sheet date. At the inception of the Convertible Promissory Note, the Company determined a fair value of $120,311 for the embedded derivative. The fair value of the embedded derivative was determined using the Black-Scholes Model based on the following assumptions:

 

Dividend yield:			0	%
Volatility			180.03	%
Risk free rate:			0.26	%

 

The initial fair value of the embedded debt derivative of $120,311 was allocated as a debt discount of $120,311.

 

At September 30, 2015, the derivative was re-evaluated and the amount was increased by $98,571 to $218,882. The corresponding charge was to loss on change in derivative liability, a non-cash expense during the nine months ended September 30, 2015. The note was increased for the accrued interest of $4,774. The fair value of the embedded derivative was determined using the Black-Scholes Model based on the following assumptions:

 

Dividend yield:			0	%
Volatility			255.01	%
Risk free rate:			0.08	%

 

July 17, 2015, Note Payable

 

On July 17, 2015, the Company issued a twelve-month convertible note to an unrelated party with a face amount of $57,750. The note contains an original issue discount of $5,000 and bears interest on the face amount at the rate of 8% per annum. The loan is due on July 17, 2016 and includes a convertible feature that allows the note holder to be paid in common stock of the Company. Any shares converted by the note holder will be valued at 60% of the lowest trading value during the 20 days immediately preceding the conversion. The note may be prepaid within 90 days of issuance at 110% of the principal amount plus accrued interest, and at 120% of principal plus accrued interest if prepaid after 90 days from the date of issuance but before 180 days of such date. The note may not be prepaid after 180 days. In the event of a default under the note, interest accrues at the rate of 24% per annum. In the event the Company fails to deliver shares of its common stock upon conversion within the time frames provided for in the note, the Company is subject to a $250 penalty per day increasing to $500 per day beginning on the 10th day after the prescribed delivery date. Further, in the event the Company is no longer current in its SEC filings for a period of six months or more, the conversion price shall be the lowest closing bid price during the delinquency period.

 

The Company identified embedded derivatives related to the Convertible Promissory Notes entered into in September, 2015. These embedded derivatives included certain conversion features. The accounting treatment of derivative financial instruments requires that the Company record the fair value of the derivatives as of the inception date of the Convertible Promissory Note and to adjust the fair value as of each subsequent balance sheet date. At the inception of the Convertible Promissory Note, the Company determined a fair value of $72,520 for the embedded derivative. The fair value of the embedded derivative was determined using the Black-Scholes Model based on the following assumptions:

 

Dividend yield:			0	%
Volatility			238.70	%
Risk free rate:			0.33	%

 

The initial fair value of the embedded debt derivative of $72,520 was allocated as a debt discount.

 

At September 30, 2015, the derivative was re-evaluated and the amount was increased by $54,630 to $127,150. The corresponding charge was to loss on change in derivative liability, a non-cash expense during the nine months ended September 30, 2015. The fair value of the embedded derivative was determined using the Black-Scholes Model based on the following assumptions:

 

Dividend yield:			0	%
Volatility			255.01	%
Risk free rate:			0.08	%

 

The note was increased for the accrued interest of $970. Additionally, the beneficial conversion feature and the prepaid finance charges were amortized during the period in the amount of $16,999, which were charged to interest.

 

August 27, 2015, NOTE PAYABLE:

 

On March 18, 2015, the Company issued a two year convertible promissory note payable with an unrelated entity. Under the terms of the note, the Company received $25,000 on August 27, 2015. The repayment of the note is due on or before March 18, 2017, two years after the funds were received. The repayment is subject to the convertible features of the note. The creditor has a conversion option allowing it to choose to receive repayment of the stated principal with accrued interest. The note is to be repaid either in cash or, at the creditor’s option, in the Company’s restricted common stock.

 

At the option of the note holder, the Company may repay the note by issuing restricted common stock based upon a valuation formula, which includes a calculation based upon 60% of the lowest closing price during the immediate 25 days prior to the calculation of the conversion notice.

 

 

The Company identified embedded derivatives related to the Convertible Promissory Notes entered into in September 2015. These embedded derivatives included certain conversion features. The accounting treatment of derivative financial instruments requires that the Company record the fair value of the derivatives as of the inception date of the Convertible Promissory Note and to adjust the fair value as of each subsequent balance sheet date. At the inception of the Convertible Promissory Note, the Company determined a fair value of $26,026 for the embedded derivative. The fair value of the embedded derivative was determined using the Black-Scholes Model based on the following assumptions:

 

Dividend yield:			0	%
Volatility			238.70	%
Risk free rate:			0.33	%

 

The initial fair values of the embedded debt derivative of $26,026 was allocated as a debt discount.

 

At September 30, 2015, the derivative was re-evaluated and the amount was increased by $39,264 to $65,290. The corresponding charge was to loss on change in derivative liability, a non-cash expense during the nine months ended September 30, 2015. The fair value of the embedded derivative was determined using the Black-Scholes Model based on the following assumptions:

 

Dividend yield:			0	%
Volatility			255.01	%
Risk free rate:			0.08	%

 

The beneficial conversion feature and the prepaid finance charges of $1,555 and $149, respectively were amortized during the period, which were charged to interest.

 

Other Notes:

 

During the period ended September 30, 2015, the Company repaid by cash $15,000 of the convertible notes payable issued in 2013 and issued 69,697 shares to convert $23,000 convertible notes issued in 2013.

 

During the nine months ended September 30, 2015, noteholders of $145,000 of convertible notes payable entered into an assignment agreement and assigned their debts to other note holder. The Company issued convertible note payable of $145,000 on May 8, 2015 - see above.

 

NOTE 8 - WARRANTS AND WARRANT LIABILITY

 

On December 31, 2012 the Company issued 30,000 units at $1.00 per unit resulting in total cash proceeds of $30,000. Each unit sold consists of one share of the Company’s common stock, one Class A Redeemable Warrant, and one Class B Redeemable Warrant.

 

The Class A warrants are exercisable into one share of the Company’s common stock at $5.00 per share, expire on December 31, 2015, and are callable by the Company any time after December 31, 2014 upon 30 days written notice by the Company. If the holders do not exercise the warrants within 30 days of receiving notice from the Company, the warrants terminate 30 days from the date of notice.

 

The Class B warrants are exercisable into one share of the Company’s common stock at $9.375 per share, expire on December 31, 2017, and are callable by the Company any time after December 31, 2015 upon 30 days written notice by the Company. If the holders do not exercise the warrants within 30 days of receiving notice from the Company, the warrants terminate 30 days from the date of notice.

 

For both the Class A and Class B warrants, the exercise price and/or the number of shares of common stock to be issued upon exercise is subject to adjustment in certain cases. Such adjustments would be triggered in instances where the Company does any of the following: a) pays a stock dividend, splits or reverse-splits its common stock; b) issues common stock, convertible securities, or debentures to obtain shares at a price less than the warrant exercise price; or c) distributes to shareholders evidences of its indebtedness or securities or assets.

 

On September 10, 2013, the Company and the warrant holders agreed to amend the Class A and Class B warrant agreements whereby the warrant holders waived any rights to exercise warrants that had not been exercised as of the amendment date.

 

The Company has analyzed this price adjustment provision under ASC 815 “Derivative and Hedging” and determined that these instruments should be classified as liabilities and recorded at fair value do to there being no explicit limit to the number of shares to be delivered upon settlement of the warrants. The Company has estimated the fair value of the derivative using the Black-Scholes option-pricing model at September 10, 2013. At the date the warrant agreements were amended, the embedded derivative liability was valued at $63,000 and a gain of $11,240 was recorded for the year ended December 31, 2013. The Company determined that after the amendment to the warrant agreements no derivative liability existed and the Company wrote off the derivative liability in the amount of $63,000 to additional paid-in capital.

 

On September 22, 2014, the Company issued 250,000 Class C warrants in connection with a short term credit facility. Each of the 250,000 warrants is exercisable into one share of the Company’s common stock at $1.00 per share. The warrants were immediately exercisable. The warrants will expire if not converted into stock by September 29, 2017. After September 29, 2015, the shares are callable by the Company.

 

During the year ended December 31, 2014, the Company issued common stock purchase warrants to purchase an aggregate of 1,800,000 shares of the Company’s common stock at an exercise price of $1.00 per share in connection with the issuance of its Senior Secured Convertible Notes discussed in Note 6 above.

 

On February 25, 2015, the Company entered into an agreement with Syndicated Capital, Inc. (the “Holder”) granting Syndicated Capital, Inc. the right to subscribe for and purchase 450,000 shares of the Company’s common stock at an initial purchase price of $1.00 per share. This right will expire, if not terminated earlier in accordance with the provisions of the agreement, on December 31, 2019.

 

The Warrant was issued as compensation to the Holder for services rendered as placement agent in connection with the Company’s private offering of units of the Company’s securities, each unit consisting, in part, of $50,000 principal amount of 12% Senior Secured Convertible Promissory Notes maturing December 31, 2017 and warrants to purchase 20,000 shares of the Company’s Common Stock until December 31, 2019.

 

 

The Company identified embedded derivatives related to the warrants issued February 25, 2015. These embedded derivatives included certain reset provisions. The accounting treatment of derivative financial instruments requires that the Company record the fair value of the derivatives as of the inception date and to adjust the fair value as of each subsequent balance sheet date. At the date of issuance, the Company determined a fair value of $151,091 of the embedded derivative. The fair value of the embedded derivative was determined using the Black-Scholes Model based on the following assumptions:

 

Dividend yield:			0	%
Volatility			198.2	%
Risk free rate:			1.47	%

 

The initial fair values of the embedded warrants derivative of $151,091 charged to operations as interest expense at February 25, 2015. The fair value was adjusted to $1,384 and a gain on change in derivative liability was recorded in the amount of $149,707 for the nine months ended September 30, 2015. The fair value of the embedded derivative was determined using the Black-Scholes Model based upon the following assumptions:

 

Dividend yield:			0	%
Volatility			255	%
Risk free rate:			1.10	%

 

NOTE 9 - Participation Interest Purchase Agreement

 

On June 12, 2015, the Company, and each of the other beneficial owners of seventy-three (73) participation interests (“Participation Interests”) in the Bradford JV (collectively, the “Sellers”) entered into a Participation Interest Purchase Agreement (“Purchase Agreement”) with Keystone Energy, LLC.

 

Pursuant to the terms of the Purchase Agreement, Keystone Energy agreed to purchase, and the Sellers agreed to sell, all of the Participation Interests representing 100% of the beneficial ownership of (i) those certain oil and gas leases, along with the associated contracts and real property interests necessary and useful in the ownership and operation thereof, all situated in Shackelford County, Texas (the “Oil and Gas Leasehold”), (ii) the oil and gas wells located on the Oil and Gas Leasehold, along with the associated fixtures and personal property, including hydrocarbons produced therefrom (the “Wells”), and (iii) the rights in and to that certain Farmout Agreement between CEGX and Bluff Creed Petroleum, LLC for a total consideration of $1,825,000.

 

As payment in full for the Participation Interests and the Oil and Gas Properties, Keystone Energy agreed to, within 365 days following execution of the Purchase Agreement, pay to the Sellers the aggregate cash amount of $1,575,000 (the “Cash Purchase Price”). As to the Company’s twenty (20) Participation Interests, the Purchase Agreement additionally provided that Cardinal would (i) be presently paid the amount of $250,000 included in the cash purchase amount in consideration of the Company’s assignment thereunder to Keystone Energy of the beneficial interest in ten (10) of its twenty (20) Participation Interests and (ii) as to the other ten (10) of the Company’s Participation Interests, exchange the Company’s rights therein to Keystone for a five (5%) percent equity ownership interest in Keystone Energy. The Participation Interests of all Sellers acquired under the Purchase Agreement were designated to be and are being held in escrow pending the acquisition of all of the Sellers Participation Interests or the expiration of the 365 day period, whichever occurs first. As of September 30, 2015, the balance of the cash purchase amount was $1,075,000 reflecting the balance of the 43 remaining Participation Interests which Keystone Energy remains obligated to purchase under the terms of the Purchase Agreement.

 

The $250,000 received by the Company for the Company’s ten (10) Participation Interests for Keystone’s right to beneficial enjoyment thereof is not subject to forfeiture by the Company under any circumstances. For financial reporting purposes the Company has recognized this amount as a component of related party operating revenues during the nine months ended September 30, 2015.

 

The exchange of the other ten (10) Cardinal Participation Interests for a 5% equity interest in Keystone Energy has been reported as an income tax neutral, tax-deferred, property for property exchange in accordance with applicable provisions of federal income tax law and is reflected on the balance sheet at September 30, 2015 as an investment in oil and gas properties valued at it’s fair market value of $250,000.

 

The Purchase Agreement further provided that Keystone would deliver to CEGX of Texas, as irrevocable consideration, an initial advance in an amount of $250,000 for improvements to be made to the Oil and Gas Properties. The amount is not subject to refund or forfeiture and has been included in related party operating revenues from contract operations during the nine months ended September 30, 2015.

 

 

Finally, in accordance with the terms of the Purchase Agreement and as of the date thereof, Keystone Energy entered into a Master Loan Agreement with Maximilian Bradford, LLC (“Maximilian”), a Keystone Energy related party, providing for the loan by Maximilian to Keystone of the amount of $2,600,000. The proceeds under this loan are to be used for the purchase of the Participation Interests and the development of the underlying interests in the Bradford “A” and “B” leases. Upon full repayment by Keystone Energy of the loan, the Company is granted an option to convert its 5% interest in Keystone Energy into either (i) an undivided 50% of the working interest owned by Keystone Energy in the Oil and Gas Properties, or (ii) a 50% equity interest in Keystone Energy.

 

Concurrent with the Participation Interest Purchase Agreement, Keystone Energy entered into an Operating Agreement with the company’s wholly-owned subsidiary, CEGX of Texas, LLC authorizing CEGX of Texas to conduct the drilling operations and related activities necessary to develop the properties.

 

NOTE 10 - COMMITMENTS AND CONTINGENCIES

 

Litigation

 

Borets USA, Inc. f/k/a Borets-Weatherford US, Inc. v. Cardinal Energy Group, Inc.(Case No. 2015-028, 259^th Judicial District Shackelford County, Texas) .

 

On March 2, 2015 Borets filed a lawsuit against the Company claiming damages totaling $90,615 in damages for unpaid invoices for services rendered to the Company. On March 18th 2015, the Company filed an Original Answer and Counterclaim against Borets. The original answer set forth a general denial, certain specific denials, a verified denial denying the account amount and affirmative defenses of failure of consideration and offset. The counterclaim contains a cause of action for breach of contract and seeks $150,000 in damages. As of the date of this report, the case is still in the early stages of discovery.

 

CEGX of Texas, LLC v. Scott Miller, Miller Energy Services, Inc. and US Fuels, Inc. (Case No. CV1543707 91^st Judicial Court Eastland County, Texas) .

 

The lawsuit was filed on May 22, 2015. The lawsuit alleges a cause of action against the above named defendants for breach of contract, breach of fiduciary duty and fraud. This lawsuit concerns the sale of the Company’s property (the Stroebel-Broyles leases in Eastland County, Texas) by Mr. Miller. Mr. Miller indicated that no one would pay anything for the property, and we agreed to assign the property for no cash consideration. We subsequently determined that Mr. Miller sold the property for $30,000 and pocketed all of the funds from the sale. Answers have been filed by each of the defendants and the case is in the early stages of discovery.

 

CEGX of Texas, LLC v. P.I.D. Drilling, Inc.(Case No. 2015-062 259^th Judicial District Shackelford County, Texas).

 

This lawsuit was filed by the Company on June 10, 2015 and contains causes of action for breach of contract and also requests an accounting. The lawsuit is claiming damages for overcharges by PID and also asking that PID be removed as operator after a vote by the non-operating working interest owners. As of the date of this report an answer has been filed on behalf of PID and discovery is ongoing.

 

Cardinal Energy Group, Inc. v. HLA Interests, LLC, Phillip Allen, SEDCO Operating, LLC (“SEDCO”) , ERCO Holdings, Ltd (“ERCO”), Caleb David Elks, and Michael Cies D/B/A Terlingua Oil Associates, Case No. 2015-059 (District Court of Shackelford County, Texas, 259th Judicial District) .

 

The Company filed this lawsuit against the corporate defendants and the individual members in their personal capacity on June 3, 2015. The lawsuit stems from a Working Interest Purchase Agreement that the Company entered into on July 3, 2013 with Defendant HLA Interests (an oil and gas management company that owns and controls existing oil fields in Texas), pursuant to which the Company agreed to purchase from HLA Interests its 85% working interest in 5 oil and gas leases known as the Dawson-Conway Leases (the “Leases”) in Shackelford County, Texas (the “Agreement”). The Company was fraudulently induced to enter into the Agreement by the defendants, who knew that 3 of the 5 leases had expired prior to executing the Agreement.

 

The Company agreed to pay $400,000 to HLA Interests for its complete working interest in the 5 Leases, which HLA Interests represented to be 85%. The Company executed a Note for payment of the $400,000 purchase price, pursuant to which the entire principal balance is to be paid within 24 months of the date that the Agreement was executed. HLA Interests acquired title to the 5 Leases by Assignment of Oil and Gas Leases dated December 1, 2011 from Defendant ERCO, as Assignor, to HLA Interests recorded in Volume 552, Page 343 of the Official Records of Shackelford County, Texas (the “ERCO Assignment”). The ERCO Assignment purported to convey to HLA Interests 85% of 75% net revenue interest on the 5 Leases. Defendant SEDCO was the operator of the 5 Leases.

 

Defendants HLA, its Managing Member, Allen, SEDCO, ERCO and Elks all made false representations with the intent to fraudulently induce the Company into entering into the Agreement. Specifically, prior to entering into the Agreement with the Company, Defendants HLA Interests and Allen knew that at least 3 of the 5 Leases had expired and that the Company would only be purchasing 2 active Leases. Defendants SEDCO, as the Operator of the 5 Leases, ERCO, as an assignor of the remaining 15% working interest in the 5 Leases, and Elks (SEDCO’s Chief Operating Officer and the Managing Member of ERCO) also all knew that 3 of the Leases had expired and that Defendant HLA did not own a working interest in them free and clear as represented to the Company. All of the Defendants intentionally failed to disclose this material information to the Company so as to fraudulently induce the Company into entering into the Agreement.

 

 

As a direct result of relying upon Defendants HLA, Allen, SEDCO, ERCO and Elk’s intentional and material misrepresentations and intentional failures to disclose the material facts, the Company suffered damages for which it seeks recovery in this lawsuit. Further, the false, misleading, and deceptive acts of these Defendants in misrepresenting the true legal status of title to the 5 Leases and the actual working interests prior to the execution of the Agreement, the Operating Agreement, and the March 11, 2014 Assignment are violations of Texas’ Deceptive Trade Practices Act.

 

Finally, Defendant Terlingua entered into a Master Land Services Contract with the Company in or about June 2013, whereby Terlingua agree to provide due diligence services to the Company in furtherance of the Company entering into the Agreement with Defendants HLA Interests, SEDCO, and ERCO. Pursuant to the Master Land Services Contract, Terlingua agreed to investigate titles and the oil and gas records to determine the actual legal status of the ownership interests in the 5 Leases, and advise the Company of same. Terlingua breached its obligations under the Master Land Services Agreement by failing to perform its due diligence investigation of the titles and working interests in the 5 Leases in a good and workmanlike manner, and failing to discover that at least 3 of the 5 Leases had expired and that the Company would only be purchasing 2 active Leases.

 

As a result of all of this, the Company filed a lawsuit asserting claims for breach of contract against Defendants HLA, SEDCO, ERCO, and Cies/Terlingua; Money had and Received against Defendants HLA, SEDCO, and Cies/Terlingua; Fraud and Fraud by Non-Disclosure against Defendants HLA, Allen, SEDCO, ERCO, and Elks; and Deceptive Trade Practices against Defendants HLA, SEDCO, and ERCO.

 

To date, only Defendants Cies/Terlingua and Elks have answered the lawsuit.

 

On August 5, 2015, the Company was granted a Partial Default Judgment for the following:

 

HLA Interests, LLC: Judgment on our causes of action for breach of contract, money had and received, fraud, fraud by non-disclosure and deceptive trade practices;

 

Phillip Allen: Judgment on our causes of action for fraud, and fraud by non-disclosure;

 

Sedco Operating, LLC: Judgment on our causes of action for breach of contract, money had and received, fraud, fraud by non-disclosure and deceptive trade practices; and

 

Judgment against Erco Holdings, Ltd. for causes of action for breach of contract, fraud, fraud by non-disclosure and deceptive trade practices.

 

The Company’s out-of-pocket damages as a result of the claims asserted in this lawsuit have been calculated at $1,735,765. Adding the claims for attorneys’ fees, and other damages, including punitive damages as a result of the intentional fraudulent conduct, the Company’s damages exceed $2,000,000. At present, we are in the process of attempting to obtain a judgment for damages against Philip Allen, individually, HLA Interests, LLC, SEDCO, and ERCO.

 

Edward A. Mitchell v. Cardinal Energy Group, Inc. and Timothy W. Crawford (Case No. 15CV-04-3538, Franklin County Common Pleas Court)

 

Mr. Mitchell filed suit on April 27, 2015, claiming to be owed 200,000 shares of stock that he earned during his brief tenure as Controller of the Company, as well as additional compensation to which he claims he’s entitled. The Company denies the claims, and filed a counterclaim to recover damages caused by Mitchell during his tenure for failure to perform his duties and to recover unauthorized reimbursements he improperly issued. As of the date of this report, discovery remains ongoing. Trial is currently scheduled for April 26, 2016.

 

On September 11, 2015 Tonaquint, Inc. (“Tonaquint”) filed for arbitration under a Securities Purchase Agreement and Convertible Promissory Note, claiming that the Company is in default for failing to deliver all earned shares, failing to satisfy the remaining balance of the note and failing to maintain adequate stock reserves. The Company has answered, denying the claims and asserting that Company has satisfied its obligations with respect to the Tonaquint Note. Arbitration is scheduled for February 11 & 12, 2016 in Salt Lake City, Utah.

 

General

 

The Company believes that its claims and defenses in the above cases where it is a defendant are substantial for the reasons discussed above. Litigation is, however, inherently unpredictable. The outcome of lawsuits is subject to significant uncertainties and, therefore, determining the likelihood of a loss and/or the measurement of any loss is complex. Consequently, we are unable to estimate the range of reasonably possible loss. Our assessments are based on estimates and assumptions that have been deemed reasonable by management, but the assessment process relies heavily on estimates and assumptions that may prove to be incomplete or inaccurate, and unanticipated events and circumstances may occur that might cause us to change those estimates and assumptions.

 

 

The Company has potential contingent liabilities arising in the ordinary course of business. Matters that are probable of unfavorable outcomes to the Company and which can be reasonably estimated are accrued. Such accruals are based the Company’s estimates of the outcomes of such matters and its experience in contesting, litigating and settling similar matters. To date no litigation has been filed in connection with any of these matters. The Company’s counsel believes that the claims against the Company are groundless and any damages which may arise from these matters will not be material. Thus there are no contingencies or additional litigation that require accrual or disclosure as of September 30, 2015.

 

NOTE 11 - SUBSEQUENT EVENTS

 

In accordance with ASC 855, Company management reviewed all material events through the filing or these unaudited condensed consolidated financial statements and there are no material subsequent events to report, except as follows.

 

Equity Issued

 

Subsequent to the quarter ended September 30, 2015 the Company issued:

 

9,105,056 shares, valued at $29,752 for the conversion of notes payable.

 

 

ITEM 2. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS.

 

This section of the quarterly report includes a number of forward-looking statements that reflect our current views with respect to future events and financial performance. Forward-looking statements are often identified by words like: believe, expect, estimate, anticipate, intend, project and similar expressions, or words which, by their nature, refer to future events. You should not place undue certainty on these forward-looking statements, which apply only as of the date of this report. These forward-looking statements are subject to certain risks and uncertainties that could cause actual results to differ materially from historical results of our predictions.

 

This discussion relates to Cardinal Energy Group, Inc. and its consolidated subsidiaries and should be read in conjunction with our unaudited condensed consolidated financial statements and accompanying notes included under Part I, Item 1, “Financial Statements” of this Quarterly Report on Form 10-Q, as well as our consolidated financial statements, accompanying notes and Management’s Discussion and Analysis of Financial Condition and Results of Operations included in our Annual Report on Form 10-K filed with the SEC on April 6, 2015.

 

We are engaged in the business of acquiring, developing and operating oil and gas leases. These operations are primarily focused on properties in which we hold a leasehold interest. We may however, from time to time, offer our drilling and field development and production services to third parties. We are focused on growth via the development of shallow proven undeveloped reserves in or adjacent to currently producing fields, exploiting untapped “behind the pipe” reserves by recompleting existing well bores in zones overlying currently producing formations and by the selected application of waterflood and other secondary recovery techniques to mature but marginally producing fields throughout north-central Texas. We may enter into agreements with mid-sized and independent oil and natural gas companies to drill wells and own interests in oil and natural gas properties. We also may drill and own interests without such strategic partners.

 

The Company differentiates itself in the marketplace by focusing on smaller older oil and gas properties that have been allowed to deplete because of either multiple changes in ownership or due to a lack of capital required to maintain production rates. We have focused our operations in north-central Texas. These properties generally feature simple vertical well completions which typically produce from relatively shallow (in most cases from 400 ft. to 2,000 ft. below the surface) reservoirs. In most instances these properties have been overlooked by the “major” and “mid-major” players in the industry due to their geographic location relative to other existing oil and gas properties (absence of potential operating synergies) and/or because the required costs to optimize production levels is not compatible with their internal cost structures.

 

In June of 2014 we acquired a half-acre site in Albany, Texas. The complex contains offices, a shop area for repairing and reconditioning oilfield equipment and a secure yard for the storage of rolling stock and oilfield equipment and materials. The Company has spent approximately $170,000 to acquire and update the facilities which serve as the Company’s regional operations office in north-central Texas. The facility is fully insured for its estimated replacement value of $280,000.

 

As of December 31, 2014 the Company held interests 2,068 gross acres (1,279 net acres) of undeveloped oil and gas leases in north-central Texas. Due to the limited quantities of crude oil produced from these properties during 2014 these leases are considered to be “unproven” in terms of oil and gas reserves at December 31, 2014. Our net acreage total consists of the following interests; a 100% working interest (75%-77.5% net revenue interest) in the Dawson-Conway leases; a 100% working interest (80% net revenue interest) in the Powers-Sanders leases; a 100% working interest (78% net revenue interest) in the Stroebel lease; a 100% working interest (76% net revenue interest) in the Broyles lease; a 100% working interest (77% net revenue interest) in the West Bradford lease; a 43.75% working interest (32.375% net revenue interest) in the Fortune prospect and by virtue of the Company’s acquisition of units in the Bradford JV an effective 18.75% working interest (15.0% net revenue interest) in the Bradford “A” and Bradford “B” leases. All of these interests, with the exception our initial 85% working interest in the Dawson-Conway leases, were acquired during 2014. The Company disposed of its working interests in the Stroebel-Broyles leases (235 gross acres) in Eastland County, Texas during the three months ended March 31, 2015 and transferred its interests in the Bradford “A” and Bradford “B” leases to Keystone Energy, LLC in June 2015 pursuant to a Participation Interest Purchase Agreement. The Company is the operator for all of the leases on these properties with the exception of the Fortune prospect.

 

Recent Developments

 

During the fourth quarter of 2014 the plugged well on the Fortune Prospect was re-drilled and completed in the prolific Caddo limestone formation and two new wells were drilled and completed in the Cooke sandstone formation. The remote location of the lease caused some delays in getting electricity to the location, obtaining approval for hook-up to a natural gas pipeline and the delivery and installation of tank batteries and associated production equipment. The lease came on production in January 2015 and production peaked at just under 25 barrels of oil equivalent (“BOE”) per day. Production from the three wells has steadily declined from its peak to approximately 13 BOE/d for the first quarter of 2015 to just under 7 BOE per day during the second quarter of 2015 and approximately 3 BOE/d during the third quarter of 2015. Following the initial completion of the three producers the Company asked for a full accounting of the drilling costs and requested a refund for excess charges billed by the operator. In March 2015 the Company voted to remove the operator and in June 2015 filed suit in the District Court for Shackelford County seeking recovery of damages (please refer to Part II, Item 1 - Legal Proceedings of this report for additional details). Future development activities for the prospect have been placed on hold pending the outcome of the litigation.

 

 

At the close of the initial phase of development at December 31, 2014 the Company acquired a 20% percent interest in the Bradford JV for a cost of $500,000. The Bradford “A” and “B” leases at year-end 2014 were producing approximately 25 barrels of oil per day (“25 B/d”). Production at these leases drifted downwards during the first six months of 2015 reaching a low point of just under 13 B/d. In June 2015 the Company transferred its 20% interest in the Bradford JV to Keystone Energy, LLC in a series of transactions which resulted in securing a line of credit initially totaling $2.6 million which will be specifically utilized to further develop the Bradford “A” and “B” leases. As a result of the transactions the Company has also acquired an initial 5% equity interest in Keystone Energy. In July 2015 the Company completed a drilling and re-work program at the leases which resulted in the addition of one new producing oil well, the addition of a new source water well and the re-perforating of an existing water source well, the drilling of a new water injection well, and the replacement of bottom-hole pumps in four oil producers. In September 2015 the Company added additional perforations and treated 10 wells in the tight sections of the Tannihill sands to enhance the results of the waterflood secondary recovery program at the leases. As a result of these programs we are seeing an initial increase of approximately 30% in the volumes of clean oil from our producing wells. The Company expects production to further increase once all the injection wells are completed and the waterflood is in full operation. If we achieve the expected results with the waterflood operation at Bradford, we may apply this operating strategy to our operations on neighboring leases.

 

On December 31, 2014 the Company acquired a 100% working interest (77% net revenue interest) in the Bradford West lease for a cash payment of $20,000. The prospect is comprised of 200 acres and is located adjacent and to the west of the existing Bradford “A” and “B” leases. In July 2015, the Company drilled the initial well (Bradford West #1). We have perforated and treated the well, ran the production tubing and set the pump jack. In view of the sub-par results from the initial well, the Company is assessing various other development options for the property.

 

On June 30, 2015 the Company announced that it had settled the dispute with Concho Oilfield Services over services provided by Concho. As a part of the settlement Concho agreed to re-enter the #5B well on the Dawson-Conway 195B lease to repair damage to the wellbore and production string and to return the well to production. In July 2015 Concho did return to the #5B well and commenced jarring and fishing operations in an attempt to repair the well. These operations did not result in success and the well remains shut-in at this time. In June 2015 the Company filed suit in the District Court for Shackelford County against HLA Interests, LLC and Sedco (a former operator of the Dawson-Conway leases) alleging misrepresentation and fraud concerning title to the leases and compliance in regards to various regulations and permitting requirements of the Texas Railroad Commission (please refer to Part II, Item 1- Legal Proceedings in this report for additional details). In light of these developments all operations at the Dawson-Conway leases have been suspended pending the outcome of the litigation.

 

During the three months ended March 31, 2015, the Company completed the disposition of its working interests in the Stroebel-Broyles leases (235 gross acres) in Eastland County, Texas. The Company assigned its interests in the leases to two local companies in exchange for the assumption of the plugging and abandonment liability associated with the thirty-two wells located on the properties. The disposition is in keeping with the Company’s decision to focus its drilling and development activities in and adjacent to its properties in Shackelford County, Texas. In May 2015, the Company filed suit in the District Court for Eastland County seeking disgorgement of the $30,000 in sales proceeds received by the defendants for the sale of the leases (please refer to Part II, Item 1 - Legal Proceedings of this report for additional details).

 

On June 12, 2015, the Company, and each of the other beneficial owners of seventy-three (73) participation interests (“Participation Interests”) in the Bradford JV (collectively, the “Sellers”) sold to a third party their Participation Interests in certain oil and gas leases, along with the associated contracts and real property interests necessary and useful in the ownership and operation thereof, all situated in Shackelford County, Texas (the “Oil and Gas Leasehold”), (ii) the oil and gas wells located on the Oil and Gas Leasehold, along with the associated fixtures and personal property, including hydrocarbons produced therefrom (the “Wells”), and (iii) the rights to that certain Farmout Agreement between CEGX and Bluff Creed Petroleum, LLC for a total consideration of $1,825,000. Concurrent with the sale of the Participation Interests, the purchaser entered into an Operating Agreement with CEGX to conduct the drilling operations and related activities necessary to develop the properties. See Financial Statement Notes, Note 9 - Participation Interest Purchase Agreement included in this report for additional details.

 

We anticipate that the Bradford “A”, Bradford “B”, and Fortune projects will become important producing properties as we begin enhanced oil recovery. We anticipate having close to 20 new wells producing by the end of the fourth quarter of 2015 in keeping with our focus on the development of shallow oil and gas reserves in north-central Texas. This focus on the development of shallow reservoirs and the close proximity of our operating leases to one another and to our regional operations office in Albany, Texas should help us to reduce development cycle times while simultaneously driving downwards our lifting costs in 2015 and 2016.

 

Through the close of the quarter ended September 30, 2015, we have had nominal revenues, incurred losses since inception, been issued a going concern opinion by our auditors, and have relied primarily upon the sale of our securities and other assets to fund operations.

 

We may enter into agreements with major and independent oil and natural gas companies to drill and own interests in oil and natural gas properties. We also may drill and own interests without such strategic partners. We have no plans to change our business activities and are not aware of any events or circumstances that might cause us to change our plans.

 

 

Financial Overview

 

The following reflects how we intend to spend our capital over the next twelve months:

 

Acquisition of Leases		$	1,500,000
Drilling and Well Workovers		$	5,775,000
Lease Operating Costs		$	400,000
General and Administrative Expenses		$	2,200,000

 

Currently, we do not have sufficient cash flows from currently producing properties to fully fund our proposed budget and maintain operations for the current year. Accordingly, we will have to raise additional capital through either mineral conveyances (such as farmouts, production payments, net profits interests, or unitizations), entering into joint ventures with other parties to promote, develop and operate development drilling programs, the sale of interests in selected oil and gas properties, accessing bank financing facilities, the sale of debt and/or equity securities in both public and private transactions or via a combination of these and other sources.

 

Results of Operations

 

The results discussed below are for the three and nine month periods ended September 30, 2015 and September 30, 2014, respectively.

 

Revenues

 

For the three months ended September 30, 2015 revenues decreased to $22,530 compared to $1,022,649 for the three months ended September 30, 2014. For the nine months ended September 30, 2015 revenues decreased to $722,937 compared to $1,097,363 for the nine months ended September 30, 2014. These decreases are primarily a result of lower revenues from contract drilling and operating income associated with the Company’s former interests in the Bradford JV, a reduction in oil and gas revenues stemming from lower crude oil prices, curtailed production due to mechanical and down-hole issues at some of our recently acquired Texas properties, and the absence of $4,869 in natural gas sales from our former lease in the Kirk field in northern California that were included in prior periods. We sold our California natural gas property effective April 1, 2014.

 

Operating and Production Costs

 

For the three months ended September 30, 2015 operating and production costs decreased to $12,559 compared to $69,065 for the three months ended September 30, 2014. For the nine months ended September 30, 2015 operating and production costs decreased to $67,521 from $363,140 for the nine months ended September 30, 2014. The decreases were primarily due to a shift in company focus from the remediation of older wells to development drilling on our recently acquired oil and gas leases in Texas.

 

Costs of Contract Development Operations

 

For the three months ended September 30, 2015 costs of contract development operations decreased to $59,349 compared to $328,189 for the three months ended September 30, 2014. For the nine months ended September 30, 2015 contract development costs decreased to $178,630 from $328,189 for the nine months ended September 30, 2014. The decreases reflect the timing and level of our operating expenses for services provided to the Bradford JV and Keystone Energy, LLC.

 

General and Administrative Expenses

 

For the three months ended September 30, 2015 general and administrative expenses decreased to $275,334 compared to $373,604 for the three months ended September 30, 2014. For the nine months ended September 30, 2015 general and administrative expenses decreased to $1,130,211 compared to $1,669,899 for the nine months ended September 30, 2014. The decreases reflects the Company’s efforts to focus on our production and development activities while containing home office and public company administrative costs.

 

Depreciation, Depletion and Amortization

 

For the three months ended September 30, 2015 depreciation and amortization expense increased to $17,251 compared to $9,699 for the three months ended September 30, 2014. For the nine months ended September 30, 2015 depreciation and amortization expense increased to $51,321 compared to $22,296 for the nine months ended September 30, 2014. These increases are mainly due to the purchases of additional information technology assets and rolling-stock required to support the Company’s operations.

 

Property and Operating Taxes

 

Property and other operating taxes were $nil for the three months ended September 30, 2015 compared to $3,978 for the three months ended September 30, 2014. For the nine months ended September 30, 2015 property and other operating taxes totaled $2,621 versus $6,589 for the same period of 2014. The current year periods solely reflect production and severance taxes from our Texas properties. The prior year periods reflect production and severance taxes from our Texas properties and also include $458 in property taxes for our California natural gas property which was sold effective April 1, 2014.

 

 

Accretion on Asset Retirement Obligation

 

Accretion expense for the three months ended September 30, 2015 decreased to $3,000 compared to $4,296 for the three months ended September 30, 2014. For the nine months ended September 30, 2015 accretion expensed totaled $9,000 versus $12,888 for the nine months ended September 30, 2014. These decreases reflect the adjustments to the estimated costs to abandon wells based on operating experience and adoption of Texas Railroad Commission guidelines and the removal of wells from the Company’s inventory of wells subject to future plugging and abandonment liability due to the sale of the Company’s California and Ohio wells effective April 1, 2014 and the sale of the Stroebel-Broyles leases in March 2015.

 

Other Income (Expenses)

 

Other expense for the three months ended September 30, 2015 totaled $2,527,326 compared to $349,101 for the three months ended September 30, 2014. Interest expense during the quarter ended September 30, 2015 was $2,944,428 versus $555,617 in the same quarter of 2014 and reflected the higher level of debt outstanding partially offset by a gain of $417,102 related to the change in the fair value of derivative liabilities.

 

Other expense for the nine months ended September 30, 2015 was $3,890,489 compared to $748,473 for the nine months ended September 30, 2014. Interest expense increased to $4,453,472 versus $888,868 reflecting the higher level of debt outstanding. The prior period included $76,581 of “premium” costs due to the early extinguishment of debt. During the nine months ended September 30, 2015 the Company recorded a gain on the fair value of derivative liabilities of $549,059 while the prior period included a gain on derivative liabilities of $123,528. The current year periods also benefited from $12,994 of related party investment income.

 

Net Loss

 

For the three months ended September 30, 2015 our net loss was $2,872,289 compared to a net loss of $115,282 for the three months ended September 30, 2014. The increase was a result of higher interest related costs and decreases in revenues partially offset by a reduction in operating expenses discussed above and translates into a loss of $0.06 per basic and diluted share for the three months ended September 30, 2015 compared to a loss of $0.00 per basic and diluted share for the three months ended September 30, 2014.

 

For the nine months ended September 30, 2015 our net loss was $4,606,854 compared to a net loss of $2,054,111 for the nine months ended September 30, 2014. The results reflect lower operating revenues net of the reduction in operating expenses and the increase in other expenses (primarily interest related expense) discussed above and translates into to a loss of $0.12 per basic and diluted share in the current period versus a loss of $0.06 per basic and diluted shares in 2014.

 

Financial Condition, Liquidity and Capital Resources

 

We used cash in operations of $875,186 during the nine months ended September 30, 2015 compared to $2,124,520 used during the nine months ended September 30, 2014. The decrease was due primarily to increases in non-cash interest expense, depreciation and amortization, amortization of debt discount, stock issued for interest expense and services, net of cancellations, partially offset by and decrease in accounts receivable related party and gain on change in fair value of derivative liability.

 

Net cash provided by investing activates was $34,560 during the nine months ended September 30, 2015 compared to net cash used in investing activities of $1,822,990 during the nine months ended September 30, 2014. In 2015, the cash was generated from the sale of oil and gas properties. In 2014, we used $1,591,252 to acquire and develop oil and gas properties and $231,738 to purchase other property and equipment.

 

Net cash provided by financing activities was $787,514 during the nine months ended September 30, 2015 compared to $4,257,719 provided during the same period in 2014. The funds in 2015 came primarily from the issuance of convertible short-term and long-term notes with maturities ranging from 180 days to two years. The funds in 2014 came primarily from the sales of the 12% senior secured convertible notes for $3,985,000 net of deferred financing costs of $515,000, $195,975 from the sale of stock for cash, and proceeds from the issuance of notes payable of $469,256, and proceeds from short-term notes of $296,000.

 

At September 30, 2015 we had cash on hand of $62,286 which is not sufficient to meet our operating needs for the next twelve months. Because we operate in a cash intensive industry we anticipate the need to raise additional capital on a continuous basis. As previously noted in the “Recent Developments” discussion earlier in this report, the Company expects to utilize the proceeds from the sale of its interest in the Bradford JV to Keystone for working capital purposes and the development of oil and gas properties. We anticipate that we may need to secure additional sources of capital to support our operating and development budgets and to grow the company.

 

At September 30, 2015, our current assets were $588,758 and our current liabilities were $8,986,791 resulting in a working capital deficit of $8,398,033. The capital expenditures required to re-work and re-complete existing wells and to drill additional development wells when coupled with the timing of proceeds from debt offerings may result in short-term liquidity imbalances until cash flows from operating activities turn consistently positive.

 

 

Critical Accounting Policies and Estimates

 

We prepared our financial statements and the accompanying notes in conformity with accounting principles generally accepted in the United States of America, which require management to make estimates and assumptions about future events that affect the reported amounts in the financial statements and the accompanying notes. We identified certain accounting policies as critical based on, among other things, their impact on the portrayal of our financial condition, results of operations, or liquidity and the degree of difficulty, subjectivity, and complexity in their deployment. Critical accounting policies cover accounting matters that are inherently uncertain because the future resolution of such matters is unknown. Management routinely discusses the development, selection, and disclosure of each of the critical accounting policies. The following is a discussion of our most critical accounting policies.

 

Oil and Gas Properties

 

We follow the full cost method of accounting for our oil and natural gas properties, whereby all costs incurred in connection with the acquisition, exploration for and development of petroleum and natural gas reserves are capitalized. Such costs include lease acquisition, geological and geophysical activities, rentals on non-producing leases, drilling, completing and equipping of oil and gas wells and administrative costs directly attributable to those activities and asset retirement costs. Disposition of oil and gas properties are accounted for as a reduction of capitalized costs, with no gain or loss recognized unless such adjustment would significantly alter the relationship between capital costs and proved reserves of oil and gas, in which case the gain or loss is recognized to income.

 

Depletion and depreciation of proved oil and gas properties is calculated on the units-of-production method based upon estimates of proved reserves. Such calculations include the estimated future costs to develop proved reserves. Oil and gas reserves are converted to a common unit of measure based on the energy content of 6,000 cubic feet of gas to one barrel of oil. Costs of unevaluated properties are not included in the costs subject to depletion. These costs are assessed periodically for impairment.

 

In applying the full cost method, we performed an impairment test (ceiling test) at each reporting date, whereby the carrying value of oil and gas property and equipment is limited to the “estimated present value” of the future net revenues from its proved reserves, discounted at a 10-percent interest rate and based on current economic and operating conditions, plus the cost of properties not being amortized, plus the lower of cost or fair market value of unproved properties included in costs being amortized, less the income tax effects related to any book and tax basis differences of the properties. As of September 30, 2015 and 2014 no impairment of oil and gas properties was recorded.

 

Asset Retirement Obligation

 

We follow FASB ASC 410, Asset Retirement and Environmental Obligations which requires entities to record the fair value of a liability for asset retirement obligations (“ARO”) and recorded a corresponding increase in the carrying amount of the related long-lived asset. The asset retirement obligation primarily relates to the abandonment of oil and gas properties. The present value of the estimated asset retirement cost is capitalized as part of the carrying amount of oil and gas properties and is depleted over the useful life of the asset. The settlement date fair value is discounted at our credit adjusted risk-free rate in determining the abandonment liability. The abandonment liability is accreted with the passage of time to its expected settlement fair value. Revisions to such estimates are recorded as adjustments to ARO are charged to operations in the period in which they become known. At the time the abandonment cost is incurred, the Company is required to recognize a gain or loss if the actual costs do not equal the estimated costs included in ARO. The ARO is based upon numerous estimates and assumptions, including future abandonment costs, future recoverable quantities of oil and gas, future inflation rates, and the credit adjusted risk free interest rate. Different, but equally valid, assumptions and judgments could lead to significantly different results. Future geopolitical, regulatory, technological, contractual, legal and environmental changes could also impact future ARO cost estimates. Because of the intrinsic uncertainties present when estimating asset retirement costs as well as asset retirement settlement dates, our ARO estimates are subject to ongoing volatility. The ARO is $93,169 as of September 30, 2015.

 

Recently Issued Accounting Pronouncements

 

ASU 2015-03

 

In April 2015, the Financial Accounting Standards Board (“FASB”) issued Accounting Standards Update (“ASU”) No. 2015-03, Interest - Imputation of Interest (Subtopic 835-30): Simplifying the Presentation of Debt Issuance Costs. The amendments in this ASU require that debt issuance costs related to a recognized debt liability be presented in the balance sheet as a direct deduction from the carrying amount of that debt liability, consistent with debt discounts. The recognition and measurement guidance for debt issuance costs are not affected by the amendments in this ASU. The amendments are effective for financial statements issued for fiscal years, and interim periods within those fiscal years, beginning after December 15, 2015. The amendments are to be applied on a retrospective basis, wherein the balance sheet of each individual period presented is adjusted to reflect the period-specific effects of applying the new guidance. The Company is evaluating possible effect of this guidance on future disclosures.

 

 

ASU 2015-02

 

In February 2015, the FASB issued ASU No. 2015-02, Consolidation (Topic 810): Amendments to the Consolidation Analysis, which is intended to improve targeted areas of consolidation guidance for legal entities such as limited partnerships, limited liability corporations, and securitization structures (collateralized debt obligations, collateralized loan obligations, and mortgage-backed security transactions). The ASU focuses on the consolidation evaluation for reporting organizations that are required to evaluate whether they should consolidate certain legal entities. In addition to reducing the number of consolidation models from four to two, the new standard simplifies the FASB Accounting Standards Codification and improves current U.S. GAAP by placing more emphasis on risk of loss when determining a controlling financial interest, reducing the frequency of the application of related-party guidance when determining a controlling financial interest in a variable interest entity (“VIE”), and changing consolidation conclusions for companies in several industries that typically make use of limited partnerships or VIEs. The ASU will be effective for fiscal years, and interim periods within those fiscal years, beginning after December 15, 2015. Early adoption is permitted, including adoption in an interim period. We do not expect the adoption of ASU 2015-02 to have a material effect on our financial position, results of operations or cash flows.

 

ASU 2015-01

 

In January 2015, the FASB issued ASU No. 2015-01, “Income Statement - Extraordinary and Unusual Items (Subtopic 225-20): Simplifying Income Statement Presentation by Eliminating the Concept of Extraordinary Items.” This ASU eliminates from U.S. GAAP the concept of extraordinary items. ASU 2015-01 is effective for fiscal years, and interim periods within those fiscal years, beginning after December 15, 2015. A reporting entity may apply the amendments prospectively. We do not expect the adoption of ASU 2015-01 to have a material effect on our financial position, results of operations or cash flows.

 

ASU 2014-17

 

In November 2014, the FASB issued ASU No. 2014-17, “Business Combinations (Topic 805): Pushdown Accounting.” This ASU provides an acquired entity with an option to apply pushdown accounting in its separate financial statements upon occurrence of an event in which an acquirer obtains control of the acquired entity. An acquired entity may elect the option to apply pushdown accounting in the reporting period in which the change-in-control event occurs. If pushdown accounting is applied to an individual change-in-control event, that election is irrevocable. ASU 2014-17 was effective on November 18, 2014. The adoption of ASU 2014-17 did not have any effect on our financial position, results of operations or cash flows.

 

ASU 2014-16

 

In November 2014, the FASB issued ASU 2014-16, “Derivatives and Hedging (Topic 815).” ASU 2014-16 addresses whether the host contract in a hybrid financial instrument issued in the form of a share should be accounted for as debt or equity. ASU 2014-16 is effective for fiscal years, and interim periods within those fiscal years, beginning after December 15, 2015. We do not currently have issued, nor are we investors in, hybrid financial instruments. Accordingly, we do not expect the adoption of ASU 2014-16 to have any effect on our financial position, results of operations or cash flows.

 

ASU 2014-15

 

In August 2014, the FASB issued ASU No. 2014-15, “Presentation of Financial Statements - Going Concern (Subtopic 205-40)”. ASU 2014-15 provides guidance related to management’s responsibility to evaluate whether there is substantial doubt about an entity’s ability to continue as a going concern and to provide related footnote disclosure. ASU 2014-15 is effective for annual periods ending after December 15, 2016, and for interim and annual periods thereafter. Early application is permitted. We do not expect the adoption of ASU 2014-15 to have a material effect on our financial position, results of operations or cash flows.

 

ASU 2014-12

 

In June 2014, the FASB issued ASU No. 2014-12, “Compensation - Stock Compensation (Topic 718): Accounting for Share-Based Payments When the Terms of an Award Provide That a Performance Target Could Be achieved after the Requisite Service Period.” This ASU requires that a performance target that affects vesting and that could be achieved after the requisite service period be treated as a performance condition. ASU 2014-12 is effective for fiscal years, and interim periods within those fiscal years, beginning after December 15, 2015. We do not expect the adoption of ASU 2014-12 to have a material effect on our financial position, results of operations or cash flows.

 

ASU 2014-09

 

In May 2014, the FASB issued ASU No. 2014-09, “Revenue from Contracts with Customers (Topic 606).” ASU 2014-09 affects any entity using U.S. GAAP that either enters into contracts with customers to transfer goods or services or enters into contracts for the transfer of nonfinancial assets unless those contracts are within the scope of other standards (e.g., insurance contracts or lease contracts). ASU 2014-09 is effective for fiscal years, and interim periods within those fiscal years, beginning after December 15, 2016. We are still evaluating the effect of the adoption of ASU 2014-09. On April 1, 2015, the FASB voted to propose to defer the effective date of the new revenue recognition standard by one year.

 

 

ASU 2014-08

 

In April 2014, the FASB issued ASU No. 2014-08, “Presentation of Financial Statements (Topic 205) and Property, Plant, and Equipment (Topic 360) and Reporting Discontinued Operations and Disclosures of Disposals of Components of an Entity.” ASU 2014-08 amends the definition for what types of asset disposals are to be considered discontinued operations, as well as amending the required disclosures for discontinued operations and assets held for sale. ASU 2014-08 is effective for fiscal years, and interim periods within those fiscal years, beginning on or after December 15, 2014. The adoption of ASU 2014-08 did not have any effect on our financial position, results of operations or cash flows.

 

Management has considered all recent accounting pronouncements issued since the last audit of our financial statements. The Company’s management believes that these recent pronouncements will not have a material effect on the Company’s unaudited condensed consolidated financial statements

 

Management does not believe that any other recently issued but not yet effective accounting pronouncements, if adopted, would have an effect on the accompanying unaudited condensed consolidated financial statements.

 

Off-Balance Sheet Arrangements.

 

Under SEC regulations, we are required to disclose our off-balance sheet arrangements that have or are reasonably likely to have a current or future effect on our financial condition, such as changes in financial condition, revenues or expenses, results of operations, liquidity, capital expenditures or capital resources that are material to investors. We do not have any off-balance sheet arrangements that we are required to disclose pursuant to these regulations. In the ordinary course of business, we enter into lease commitments, purchase commitments and other contractual obligations. These transactions are recognized in our financial statements in accordance with generally accepted accounting principles in the United States.

 

ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURE ABOUT MARKET RISK.

 

We are a smaller reporting company as defined by Rule 12b-2 of the Securities Exchange Act of 1934 and are not required to provide the information under this item.

 

ITEM 4. CONTROLS AND PROCEDURES.

 

Evaluation of Disclosure Controls and Procedures

 

We maintain disclosure controls and procedures (as defined in Rule 13a-15(e) under the Securities Exchange Act of 1934 (the “Exchange Act”) that are designed to ensure that information required to be disclosed by us in reports that we file under the Exchange Act is recorded, processed, summarized and reported as specified in the SEC’s rules and forms and that such information required to be disclosed by us in reports that we file under the Exchange Act is accumulated and communicated to our management, including our Chief Executive Officer, or CEO, and our Chief Financial Officer, CFO, to allow timely decisions regarding required disclosure. Management, with the participation of our CEO and CFO, performed an evaluation of the effectiveness of our disclosure controls and procedures as of September 30, 2015. Based on that evaluation, our management, including our CEO and CFO, concluded that our disclosure controls and procedures were ineffective as of September 30, 2015 due to an insufficient number of qualified accounting personnel governing the financial close and reporting process, the lack of an appropriate segregation of duties and the absence of a functioning audit committee. For additional details please refer to Management’s Annual Report on Internal Control over Financial Reporting disclosed in Item 9A of the Company’s Annual Report on Form 10-K filed with the S.E.C. on April 6, 2015.

 

Our management, including our Chief Executive Officer and our Chief Financial Officer, does not expect that our disclosure controls and procedures or our internal controls will prevent all error and all fraud. A control system, no matter how well conceived and operated, can provide only reasonable, not absolute, assurance that the objectives of the control system are met. Further, the design of a control system must reflect the fact that there are resource constraints and the benefits of controls must be considered relative to their costs. Due to the inherent limitations in all control systems, no evaluation of controls can provide absolute assurance that all control issues and instances of fraud, if any, within our company have been detected.

 

Changes in Internal Control

 

There were no changes identified in connection with our internal control over financial reporting during the three months ended September 30, 2015 that have materially affected, or are reasonably likely to materially affect, our internal control over financial reporting.

 

 

PART II - OTHER INFORMATION

 

ITEM 1. LEGAL PROCEEDINGS.

 

Borets USA, Inc. f/k/a Borets-Weatherford US, Inc. v. Cardinal Energy Group, Inc.(Case No. 2015-028, 259^th Judicial District Shackelford County, Texas) .

 

On March 2, 2015 Borets filed a lawsuit against the Company claiming damages totaling $90,615 in damages for unpaid invoices for services rendered to the Company. On March 18th 2015, the Company filed an Original Answer and Counterclaim against Borets. The original answer set forth a general denial, certain specific denials, a verified denial denying the account amount and affirmative defenses of failure of consideration and offset. The counterclaim contains a cause of action for breach of contract and seeks $150,000 in damages. As of the date of this Report, the case is still in the early stages of discovery.

 

CEGX of Texas, LLC v. Scott Miller, Miller Energy Services, Inc. and US Fuels, Inc. (Case No. CV1543707 91^st Judicial Court Eastland County, Texas) .

 

The lawsuit was filed on May 22nd 2015. The lawsuit alleges a cause of action against the above named defendants for breach of contract, breach of fiduciary duty and fraud. This lawsuit concerns the sale of the Company’s property (the Stroebel-Broyles leases in Eastland County, Texas) by Mr. Miller. Mr. Miller indicated that no one would pay anything for the property, and we agreed to assign the property for no cash consideration. We subsequently determined that Mr. Miller sold the property for $30,000 and pocketed all of the funds from the sale. Answers have been filed by each of the defendants and the case is in the early stages of discovery.

 

CEGX of Texas, LLC v. P.I.D. Drilling, Inc.(Case No. 2015-062 259^th Judicial District Shackelford County, Texas).

 

This lawsuit was filed by the Company on June 10, 2015 and contains causes of action for breach of contract and also requests an accounting. The lawsuit is claiming damages for overcharges by PID and also asking that PID be removed as operator after a vote by the non-operating working interest owners. As of the date of this Report an answer has been filed on behalf of PID and discovery is ongoing.

 

Cardinal Energy Group, Inc. v. HLA Interests, LLC, Phillip Allen, SEDCO Operating, LLC , ERCO Holdings, Ltd, Caleb David Elks, and Michael Cies D/B/A Terlingua Oil Associates, Case No. 2015-059 (District Court of Shackelford County, Texas, 259th Judicial District) .

 

The Company filed this lawsuit against the corporate defendants and the individual members in their personal capacity on June 3, 2015. The lawsuit stems from a Working Interest Purchase Agreement that the Company entered into on July 3, 2013 with Defendant HLA Interests (an oil and gas management company that owns and controls existing oil fields in Texas), pursuant to which the Company agreed to purchase from HLA Interests its 85% working interest in 5 oil and gas leases known as the Dawson-Conway Leases (the “Leases”) in Shackelford County, Texas (the “Agreement”). The Company was fraudulently induced to enter into the Agreement by the defendants, who knew that 3 of the 5 leases had expired prior to executing the Agreement.

 

The Company agreed to pay $400,000 to HLA Interests for its complete working interest in the 5 Leases, which HLA Interests represented to be 85%. The Company executed a Note for payment of the $400,000 purchase price, pursuant to which the entire principal balance is to be paid within 24 months of the date that the Agreement was executed. HLA Interests acquired title to the 5 Leases by Assignment of Oil and Gas Leases dated December 1, 2011 from Defendant ERCO, as Assignor, to HLA Interests recorded in Volume 552, Page 343 of the Official Records of Shackelford County, Texas (the “ERCO Assignment”). The ERCO Assignment purported to convey to HLA Interests 85% of 75% net revenue interest on the 5 Leases. Defendant SEDCO was the operator of the 5 Leases.

 

Defendants HLA, its Managing Member, Allen, SEDCO, ERCO and Elks all made false representations with the intent to fraudulently induce the Company into entering into the Agreement. Specifically, prior to entering into the Agreement with the Company, Defendants HLA Interests and Allen knew that at least 3 of the 5 Leases had expired and that the Company would only be purchasing 2 active Leases. Defendants SEDCO, as the Operator of the 5 Leases, ERCO, as an assignor of the remaining 15% working interest in the 5 Leases, and Elks (SEDCO’s Chief Operating Officer and the Managing Member of ERCO) also all knew that 3 of the Leases had expired and that Defendant HLA did not own a working interest in them free and clear as represented to the Company. All of the Defendants intentionally failed to disclose this material information to the Company so as to fraudulently induce the Company into entering into the Agreement.

 

As a direct result of relying upon Defendants HLA, Allen, SEDCO, ERCO and Elk’s intentional and material misrepresentations and intentional failures to disclose the material facts, the Company suffered damages for which it seeks recovery in this lawsuit. Further, the false, misleading, and deceptive acts of these Defendants in misrepresenting the true legal status of title to the 5 Leases and the actual working interests prior to the execution of the Agreement, the Operating Agreement, and the March 11, 2014 Assignment are violations of Texas’ Deceptive Trade Practices Act.

 

Finally, Defendant Terlingua entered into a Master Land Services Contract with the Company in or about June 2013, whereby Terlingua agree to provide due diligence services to the Company in furtherance of the Company entering into the Agreement with Defendants HLA Interests, SEDCO, and ERCO. Pursuant to the Master Land Services Contract, Terlingua agreed to investigate titles and the oil and gas records to determine the actual legal status of the ownership interests in the 5 Leases, and advise the Company of same. Terlingua breached its obligations under the Master Land Services Agreement by failing to perform its due diligence investigation of the titles and working interests in the 5 Leases in a good and workmanlike manner, and failing to discover that at least 3 of the 5 Leases had expired and that the Company would only be purchasing 2 active Leases.

 

 

As a result of all of this, the Company filed a lawsuit asserting claims for breach of contract against Defendants HLA, SEDCO, ERCO, and Cies/Terlingua; Money had and Received against Defendants HLA, SEDCO, and Cies/Terlingua; Fraud and Fraud by Non-Disclosure against Defendants HLA, Allen, SEDCO, ERCO, and Elks; and Deceptive Trade Practices against Defendants HLA, SEDCO, and ERCO.

 

To date, only Defendants Cies/Terlingua and Elks have filed answers to the lawsuit.

 

On August 5, 2015, the Company was granted a Partial Default Judgment for the following:

 

HLA Interests, LLC: Judgment on our causes of action for breach of contract, money had and received, fraud, fraud by non-disclosure and deceptive trade practices;

 

Phillip Allen: Judgment on our causes of action for fraud, and fraud by non-disclosure;

 

Sedco Operating, LLC: Judgment on our causes of action for breach of contract, money had and received, fraud, fraud by non-disclosure and deceptive trade practices; and

 

Judgment against Erco Holdings, Ltd. for causes of action for breach of contract, fraud, fraud by non-disclosure and deceptive trade practices.

 

The Company’s out-of-pocket damages as a result of the claims asserted in this lawsuit have been calculated at $1,735,765. Adding the claims for attorneys’ fees, and other damages, including punitive damages as a result of the intentional fraudulent conduct, the Company’s damages exceed $2,000,000.

 

At present, we are in the process of attempting to obtain a damages judgement against Philip Allen, individually, HLA Interests, LLC, SEDCO, and ERCO.

 

Edward A. Mitchell v. Cardinal Energy Group, Inc. and Timothy W. Crawford (Case No. 15CV-04-3538, Franklin County Common Pleas Court)

 

Mr. Mitchell filed suit on April 27, 2015, claiming to be owed 200,000 shares of stock that he earned during his brief tenure as Controller of the Company, as well as additional compensation to which he claims he’s entitled. The Company denies the claims, and filed a counterclaim to recover damages caused by Mitchell during his tenure for failure to perform his duties and to recover unauthorized reimbursements he improperly issued. As of the date of this report, discovery remains ongoing. Trial is currently scheduled for April 26, 2016.

 

On September 11, 2015 Tonaquint, Inc. (“Tonaquint”) filed for arbitration under a Securities Purchase Agreement and Convertible Promissory Note, claiming that the Company is in default for failing to deliver all earned shares, failing to satisfy the remaining balance of the note and failing to maintain adequate stock reserves. The Company has answered, denying the claims and asserting that Company has satisfied its obligations with respect to the Tonaquint Note. Arbitration is scheduled for February 11 & 12, 2016 in Salt Lake City, Utah.

 

General

 

The Company believes that its claims and defenses in the above cases where it is a defendant are substantial for the reasons discussed above. Litigation is, however, inherently unpredictable. The outcome of lawsuits is subject to significant uncertainties and, therefore, determining the likelihood of a loss and/or the measurement of any loss is complex. Consequently, we are unable to estimate the range of reasonably possible loss. Our assessments are based on estimates and assumptions that have been deemed reasonable by management, but the assessment process relies heavily on estimates and assumptions that may prove to be incomplete or inaccurate, and unanticipated events and circumstances may occur that might cause us to change those estimates and assumptions.

 

The Company has potential contingent liabilities arising in the ordinary course of business. Matters that are probable of unfavorable outcomes to the Company and which can be reasonably estimated are accrued. Such accruals are based the Company’s estimates of the outcomes of such matters and its experience in contesting, litigating and settling similar matters. To date no litigation has been filed in connection with any of these matters. The Company’s counsel believes that the claims against the Company are groundless and any damages which may arise from these matters will not be material. Thus there are no contingencies or additional litigation that require accrual or disclosure as of September 30, 2015.

 

 

ITEM 1A. RISK FACTORS.

 

We are a smaller reporting company as defined by Rule 12b-2 of the Securities Exchange Act of 1934 and are not required to provide the information under this item. 

  

ITEM 2. UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS.

 

During the three months ended September 30, 2015, the Company issued 26,586,608 shares of common stock, valued at $473,991 for the conversion of short-term notes payable.

 

These shares of our common stock, convertible notes and warrants were issued in reliance on the exemption from registration provided by Rule 506 of Regulation D and Sections 4(a)(2) and 3(a)(9) of the Securities Act of 1933, as amended (the “Securities Act”). In addition, the recipients of our shares were sophisticated investors and had access to information normally provided in a prospectus regarding us. In addition, the recipients of these shares had the necessary investment intent as required by Section 4(a)(2) since they agreed to allow us to include a legend on the shares stating that such shares are restricted pursuant to Rule 144 of the Securities Act. These restrictions ensure that these securities would not be immediately redistributed into the market and therefore not be part of a “public offering.” Based on an analysis of the above factors, we have met the requirements to qualify for exemption under Rule 506 of Regulation D and Sections 4(a)(2) and 3(a)(9) of the Securities Act for the above transactions.

 

ITEM 3. DEFAULTS UPON SENIOR SECURITIES.

 

The Company failed to make the $270,000 semi-annual interest payment that was due to the noteholders on July 31, 2015 under the terms of the senior secured convertible promissory notes in an aggregate principal amount of $4,500,000 issued by the Company in March 2014 and during the three month period ended June 30, 2014. The Company has had discussions with a representative of the noteholders to discuss plans to bring the interest payment to a current status. To date, the noteholders have not exercised their rights to trigger certain default provisions under the senior secured convertible promissory notes.

 

The senior secured convertible promissory notes bear interest at a rate of 12.0% per annum until they mature on December 15, 2015 or are converted. The note is secured by senior secured interest in the assets of the Company’s working interest in the Dawson-Conway Lease, Powers-Sanders Lease, and Stroebel-Broyles Lease and a pledge of a number of shares of restricted Stock (the “Stock Coverage”) whose value based on the bid price of the Stock is twice (or 200%) the amount in outstanding and unpaid principal and interest of the Notes.

 

ITEM 4. MINE SAFETY DISCLOSURES.

 

This Item is not applicable.

 

ITEM 5. OTHER INFORMATION.

 

None.

 

 

ITEM 6. EXHIBITS.

 

				Incorporated by reference						Filed
Exhibit		Document Description		Form		Date		Number		herewith
2.1		Articles of Merger.		8-K		10/17/2012		2.1
3.1		Articles of Incorporation.		S-1		3/12/2009		3.1
3.2		Bylaws.		S-1		3/12/2009		3.2
3.3		Articles of Incorporation of Continental Energy Partners, LLC.		8-K		10/04/2012		3.3
3.4		Amended Articles of Incorporation of Cardinal Energy Group, LLC.		8-K		10/04/2012		3.4
3.5		Amendment to Articles of Incorporation of Koko, Ltd.		10-Q		5/15/2013		3.1(b)
3.5		Operating Agreement of Cardinal Energy Group, LLC.		8-K		10/04/2012		3.5
4.1		Form of Common Stock Purchase Warrant		8-K		3/7/2013		4.1
4.2		Form of Convertible Promissory Note		8-K		3/7/2013		4.2
4.3		Form of Subscription Agreement		8-K		3/7/2013		4.3
4.4		Form of Class A Redeemable Warrant		10-Q		5/15/2013		4.1
4.5		Form of Class B Redeemable Warrant		10-Q		5/15/2013		4.2
10.1		Share Exchange Agreement.		8-K		10/04/2012		10.4
10.2		Commercial Lease Agreement - Triangle Commercial Properties, LLC.		10-K		3/28/2013		10.1
10.4		Form of 8% Convertible Debenture		10-Q		5/15/2013		10.4
10.5		Consulting Agreement with Atlanta Capital Partners, LLC dated May 31, 2013		10-Q		6/10/2013		10.8
10.6		Working Interest Purchase Agreement with HLA Interests, LLC dated July 3, 2013		8-K		7/9/2013		10.1
10.7		Form of Secured Promissory Note		8-K		7/9/2013		10.2
10.8		Form of Security Agreement		8-K		7/9/2013		10.3
10.9		Working Interest Purchase and Sale Agreement dated April 22, 2014 between California Hydrocarbons Corporation and Cardinal Energy Group, Inc.		8-K		5/1/2014		10.1
10.10		Contract Operating Agreement between CEGX of Texas, LLC and Bradford Joint Venture Partnership dated June 1, 2014.		10-Q		11/14/2014		10.2
10.11		Participation Interest Purchase Agreement dated June 5, 2015 by and among Keystone Energy, LLC and CEGX of Texas, LLC.		8-K		6/23/2015		10.1
10.12		Joint Settlement Agreement and Release of All Claims by and among Concho Oilfield Services, LLC, Hudson Petroleum Ltd. Co., Cardinal Energy Group, Inc. and CEGX of Texas, LLC, effective March 10, 2015.		8-K		7/1/2015		10.1
31.1		Certification of Principal Executive Officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.								X
31.2		Certification of Principal Financial Officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.								X
32.1		Certification of Chief Executive Officer pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.								X
32.2		Certification of Chief Financial Officer pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.								X
101.INS		XBRL Instance Document.								X
101.SCH		XBRL Taxonomy Extension - Schema.								X
101.CAL		XBRL Taxonomy Extension - Calculations.								X
101.DEF		XBRL Taxonomy Extension - Definitions.								X
101.LAB		XBRL Taxonomy Extension - Labels.								X
101.PRE		XBRL Taxonomy Extension - Presentation.								X

 

 

SIGNATURES

 

Pursuant to the requirements of the Securities Exchange Act of 1934, this registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized on this 23rd day of November, 2015.

 

CARDINAL ENERGY GROUP, INC.
BY:	/s/ TIMOTHY W. CRAWFORD
	Timothy W. Crawford
	Chief Executive Officer (Principal Executive Officer)
BY:	/s/ JOHN R. JORDAN
	John R. Jordan
	Chief Financial Officer (Principal Financial and Accounting Officer)