Notes to Condensed Consolidated Financial Statements
1. Basis of presentation
In the opinion of management, the accompanying unaudited condensed consolidated financial statements include all necessary adjustments (consisting of normal recurring adjustments) and present fairly the condensed consolidated financial position of TransCoastal Corporation and Subsidiary (the "Company" or “TransCoastal”) as of March 31, 2014 and December 31, 2013 and the results of their operations for the three months ended March 31, 2014 and 2013 in conformity with generally accepted accounting principles for interim financial information applied on a consistent basis. The results of operations for the three months ended March 31, 2014 are not necessarily indicative of the results to be expected for the full year.
Certain information and footnote disclosures normally included in financial statements prepared in accordance with generally accepted accounting principles have been omitted. These condensed consolidated financial statements should be read in conjunction with the audited condensed consolidated financial statements and notes thereto included in the Company’s Annual Report on Form 10-K/A, as filed with the Securities and Exchange Commission on May 9, 2014. Certain reclassifications have been made to the condensed consolidated financial statements for prior periods in order to conform to the current period presentation.
Recently adopted accounting pronouncements
From time to time, new accounting pronouncements are issued by the Financial Accounting Standards Board or other standard setting bodies that may have an impact on the Company’s accounting and reporting. The Company believes that such recently issued accounting pronouncements and other authoritative guidance for which the effective date is in the future either will not have an impact on its accounting or reporting or that such impact will not be material to its financial position, results of operations, and cash flows when implemented.
2.
Going concern consideration
The consolidated financial statements have been prepared assuming the Company will continue as a going concern. As of March 31, 2014 and December 31, 2013, the Company had a working capital deficit of approximately $1,150,000 and $1,351,000, respectively, and an accumulated deficit of approximately $42,678,000 and $42,572,000, respectively. For the quarter ended March 31, 2014, the Company had a net loss of approximately $106,000. The working capital deficit at March 31, 2014 and December 31, 2013 is primarily the result of increased aged accounts payable and accrued liabilities due to a reduction in available cash to pay third party vendors. These conditions raise substantial doubt about the Company’s ability to continue as a going concern. During the year ended December 31, 2013, the Company entered into an investment agreement with a third party which allows the Company to put common shares to the third party for an aggregate purchase price up to $5,000,000.
The ability to put the common shares is dependent on the effective registration of the Company’s S-1 filing. As of March 31, 2014, and through the date of this report, the registration of the Company’s S-1filing has not been deemed effective. If the Company is unable to obtain this additional equity financing, it may require the Company to liquidate a portion of its oil and natural gas properties to meet its liquidity needs, which could affect the Company’s long-term strategic plan and require the Company to liquidate certain oil and natural gas properties at an amount less than would normally be achieved if sold in the ordinary course of business. The consolidated financial statements do not include any adjustments that might result from the outcome of this uncertainty.
3. Summary of significant accounting policies
Fair Value Measurements
The Company has adopted and follows ASC 820,
Fair Value Measurements and Disclosures
, for measurement and disclosures about fair value of its financial instruments. ASC 820 establishes a framework for measuring fair value in GAAP, and expands disclosures about fair value measurements. To increase consistency and comparability in fair value measurements and related disclosures, ASC 820 establishes a fair value hierarchy which prioritizes the inputs to valuation techniques used to measure fair value into three (3) broad levels. The fair value hierarchy gives the highest priority to quoted prices (unadjusted) in active markets for identical assets or liabilities and the lowest priority to unobservable inputs. The three (3) levels of fair value hierarchy defined by ASC 820 are:
Level 1 — Inputs are unadjusted, quoted prices in active markets for identical assets or liabilities at the measurement date.
Level 2 — Inputs (other than quoted market prices included in Level 1) are either directly or indirectly observable for the asset or liability through correlation with market data at the measurement date and for the duration of the instrument’s anticipated life.
Level 3 — Inputs reflect management’s best estimate of what market participants would use in pricing the asset or liability at the measurement date. Consideration is given to the risk inherent in the valuation technique and the risk inherent in the inputs to the model. Valuation of instruments includes unobservable inputs to the valuation methodology that are significant to the measurement of fair value of assets or liabilities.
As defined by ASC 820, the fair value of a financial instrument is the amount at which the instrument could be exchanged in a current transaction between willing parties, other than in a forced or liquidation sale, which was further clarified as the price that would be received to sell an asset or paid to transfer a liability (“an exit price”) in an orderly transaction between market participants at the measurement date. The carrying amounts of the Company’s financial assets and liabilities, such as cash and cash equivalents, oil and natural gas sales receivable, and accounts payable and accrued liabilities, approximate their fair values because of the short maturity of these instruments.
Cash and Cash Equivalents
The Company considers all highly-liquid debt instruments with original maturities of three months or less to be cash equivalents.
The Company maintains its cash balances in financial institutions which are insured by the Federal Deposit Insurance Corporation (“FDIC”). All accounts maintain FDIC coverage of up to $250,000 per institution. As of March 31, 2014 and December 31, 2013, the Company had $0 and $44,000, respectively, of cash and cash equivalents in excess of its FDIC coverage.
Accounts Receivable
Accounts receivable is comprised of billings for services as the operator on certain wells, that TransCoastal has no working interest in, and accrued natural gas and crude oil sales. The Company performs ongoing credit evaluations of its customers’ and extends credit to virtually all of its customers. Credit losses to date have not been significant and have been within management’s expectations. In the event of complete non-performance by the Company’s customers, the maximum exposure to the Company is the outstanding accounts receivable, net balance at the date of non-performance. The amounts billed to third parties for services as the operator have rights of offset against revenues generated from the sale of oil and gas commodities. For the three months ended March 31, 2014 and 2013, the Company had no bad debt expense.
Derivative Activities
The Company utilized oil and natural gas derivative contracts to mitigate it’s exposure to commodity price risk associated with its future oil and natural gas production. These derivative contracts have historically consisted of options, in the form of price floors or collars. The Company’s derivative financial instruments are recorded on the consolidated balance sheets as either an asset or a liability measured at fair value. The Company does not apply hedge accounting to its oil and natural gas derivative contracts and accordingly the changes in the fair value of these instruments are recognized in the consolidated statements of operations in the period of change.
The Company’s derivative instruments are issued to manage the price risk attributable to our expected natural gas and oil production. While there is risk that the financial benefit of rising natural gas and oil prices may not be captured, Company management believes the benefits of stable and predictable cash flow are more important. Among these benefits are more efficient utilization of existing personnel and planning for future staff additions, the flexibility to enter into long-term projects requiring substantial committed capital, smoother and more efficient execution of our ongoing development drilling and production enhancement programs, more consistent returns on invested capital and better access to bank and other capital markets. Every unsettled derivative instrument is recorded on the accompanying consolidated balance sheets as either an asset or a liability measured at its fair value. Changes in a derivative’s fair value are recognized in earnings unless specific hedge accounting criteria are met. Cash flows from natural gas and oil derivative contract settlements are reflected in operating activities in the accompanying consolidated statements of cash flows.
Realized and unrealized gains and losses on derivatives are accounted for using the mark-to-market accounting method. We recognize all unrealized and realized gains and losses related to these contracts in each period in derivative gains or (losses) in the accompanying condensed consolidated statements of operations.
Oil and Gas Natural Gas Properties
The Company uses the full-cost method of accounting for its oil and natural gas producing activities as further defined under ASC 932,
Extractive Activities -Oil and natural gas
. Under these provisions, all costs incurred for both successful and unsuccessful exploration and development activities, including salaries, benefits and other internal costs directly identified with these activities, and oil and natural gas property acquisitions are capitalized. All costs related to production, general corporate overhead or similar activities are expensed as incurred.
Proved properties are amortized using the units of production method (“UOP”). The UOP calculation, in its simplest terms, multiplies the percentage of estimated proved reserves produced at year end by the cost of those reserves.
The amortization base in the UOP calculation includes the sum of proved property, net of accumulated depreciation, depletion and amortization (“DD&A”), estimated future development costs (future costs to access and develop reserves) and asset retirement costs that are not already included in oil and natural gas property, less related salvage value.
The cost of unproved properties and properties under development are excluded from the amortization calculation until it is determined whether or not proved reserves can be assigned to such properties or until development projects are placed in service. Geological and geophysical costs not associated with specific properties are recorded to proved properties. Unproved properties and properties under development are reviewed for impairment at least quarterly. In countries where proved reserves exist, exploratory drilling costs associated with dry holes are transferred to proved properties immediately upon determination that a well is dry and amortized accordingly. As of March 31, 2014 and December 31, 2013, no unproved properties or properties under development were included in the oil and natural gas properties of the accompanying condensed consolidated financial statements.
Proceeds from the sale or disposition of oil and natural gas properties are accounted for as a reduction to capitalized costs unless a significant portion (greater than 25 percent) of the Company’s reserve quantities in a particular country are sold, in which case a gain or loss is recognized in income. For the three months ended March 31, 2014 and 2013 no gain or loss from the sale or disposition of oil and natural gas properties occurred.
Under the full-cost method of accounting, the net book value of oil and natural gas properties, less related deferred income taxes, may not exceed a calculated “ceiling.” The ceiling limitation is the estimated after-tax future net cash flows from proved oil and natural gas reserves, discounted at 10 percent per annum based on industry standards and adjusted for cash flow hedges. Estimated future net cash flows exclude future cash outflows associated with settling accrued asset retirement obligations. Any excess of the net book value of proved oil and gas properties, less related deferred income taxes, over the ceiling is charged to expense and reflected as additional DD&A in the accompanying condensed consolidated statements of operations. For the three months ended March 31, 2014 and 2013 no impairment charge occurred.
During the three months ended March 31, 2014 and 2013, the Company determined approximately $0 and $8,000 of interest costs were incurred during the development period of our wells.
Other Property and Equipment
Other property and equipment, which includes buildings, field equipment, vehicles, and office equipment, is stated at cost less accumulated depreciation. Depreciation is computed using the straight-line method over the estimated useful lives of the assets. Vehicles and office equipment are generally depreciated over a useful life of five or six years, field equipment is generally depreciated over a useful life of ten years and buildings are generally depreciated over a useful life of twenty years.
Impairment of Long-Lived Assets
The Company assesses the impairment of long-lived assets when circumstances indicate that the carrying value may not be recoverable. The Company determines if impairment has occurred through adverse changes. When it is determined that the estimated future net cash flows of an asset will not be sufficient to recover its carrying amount, an impairment loss must be recorded to reduce the carrying amount to its estimated fair value. For the three months ended March 31, 2014, and 2013 no circumstances indicated an unrecoverable carrying value of the long-lived assets.
Goodwill
Goodwill was generated as part of the CTO (CoreTerra Operating LLC) acquisition during the year ended December 31, 2011 and represents the excess of the purchase price over the estimated fair value of the net assets acquired in the acquisition. Goodwill is not amortized; rather, it is tested for impairment annually and when events or changes in circumstances indicate that fair value of a reporting unit with goodwill has been reduced below carrying value. To assess impairment, the Company has the option to qualitatively assess if it is more likely than not that the fair value of the reporting unit is less than the book value. Absent a qualitative assessment, or, through the qualitative assessment, if the Company determines it is more likely than not that the fair value of the reporting unit is less than the book value, a quantitative assessment is prepared to calculate the fair market value of the reporting unit. If it is determined that the fair value of the reporting unit is less than the book value, the recorded goodwill is impaired to its implied fair value with a charge to operating expenses. For the three and nine months ended March 31, 2014, and 2013 no impairment charge occurred.
Asset Retirement Obligations
The Company follows the provisions of ASC 410-20,
Asset Retirement Obligations
. ASC 410-20 requires entities to record the fair value of obligations associated with the retirement of tangible long-lived assets in the period in which it is incurred. When the liability is initially recorded, the entity capitalizes a cost by increasing the carrying amount of the related long-lived asset. Over time, the liability is accreted to its present value each period, and the capitalized cost is depleted as part of the oil and natural gas property. Upon settlement of the liability, an entity either settles the obligation for its recorded amount or incurs a gain or loss upon settlement. The Company’s asset retirement obligations relate to the plugging, dismantlement, removal, site reclamation and similar activities of its oil and natural gas properties.
Asset retirement obligations are estimated at the present value of expected future net cash flows and are discounted using the Company’s credit adjusted risk free rate. The Company uses unobservable inputs in the estimation of asset retirement obligations that include, but are not limited to, costs of labor, costs of materials, profits on costs of labor and materials, the effect of inflation on estimated costs, and the discount rate. Accordingly, asset retirement obligations are considered a Level 3 measurement under ASC 820. Additionally, because of the subjectivity of assumptions and the relatively long lives of the Company’s wells, the costs to ultimately retire the Company’s wells may vary significantly from prior estimates.
Revenue Recognition and Natural Gas Imbalances
The Company utilizes the accrual method of accounting for natural gas and crude oil revenues, whereby revenues are recognized based on the Company’s net revenue interest in the wells. The Company will also enter into physical contract sale agreements through its normal operations. These contracts are not considered derivative contracts by the Company in accordance with the normal purchases and normal sales provision of ASC 815-10-15.
Gas imbalances are accounted for using the sales method. Under this method, revenues are recognized based on actual volumes of oil and gas sold to purchasers. However, the Company has no history of significant gas imbalances.
Net Income (Loss) Per Common Share
Basic net income (loss) per common share is computed by dividing the net income (loss) attributable to shareholders by the weighted average number of common shares outstanding during the period. Diluted net income per common share is calculated in the same manner, but also considers the impact to net income (loss) and common shares for the potential dilution from convertible preferred stock and warrants. For the quarter ended March 31, 2014, there were 2,494,500 potentially dilutive shares considered in the diluted weighted average common shares. For the year ended December 31, 2013, there were 1,374,500 potentially dilutive shares considered in the diluted weighted average common shares.
Stock-Based Compensation
The Company accounts for stock-based compensation in accordance with ASC 718,
Compensation – Stock Compensation
. The standard requires the measurement and recognition of compensation expense in the Company’s consolidated statements of operations for all share-based payment awards made to the Company’s employees, directors and consultants including employee stock options, non-vested equity stock and equity stock units, and employee stock purchase grants. Stock-based compensation expense is measured at the grant date, based on the estimated fair value of the award, reduced by an estimate of the annualized rate of expected forfeitures, and is recognized as an expense over the employees’ expected requisite service period, generally using the straight-line method. In addition, ASC 718 requires the benefits of tax deductions in excess of recognized compensation expense to be reported as a financing cash flow, rather than as an operating cash flow as prescribed under previous accounting rules.
The Company’s forfeiture rate represents the historical rate at which the Company’s stock-based awards were surrendered prior to vesting. ASC 718 requires forfeitures to be estimated at the time of grant and revised on a cumulative basis, if necessary, in subsequent periods if actual forfeitures differ from those estimates.
During the quarter ended March 31, 2014 and 2013, the Company incurred a stock based compensation expense of approximately $13,000 and $0, respectively, related to stock grant issuances and is included in the accompanying consolidated statement of operations in general and administrative expenses.
4. Oil and natural gas properties
The Company has invested in proved properties:
|
(in thousands)
|
|
Acquisition and
Development Costs
|
|
|
Accumulated
Depletion
|
|
|
Total
|
|
|
Balance at December 31, 2013
|
|
$
|
25,930
|
|
|
$
|
(2,330
|
)
|
|
$
|
23,600
|
|
|
Activity from January 1, 2014 through March 31, 2014
|
|
|
124
|
|
|
|
(128
|
)
|
|
|
(4
|
)
|
|
|
|
$
|
26,054
|
|
|
$
|
(2,458
|
)
|
|
$
|
23,596
|
|
5. Shareholder’s equity
During the quarter ended March 31, 2014 the Company issued 256,875 shares of their common stock as settlement of stock to be issued
. 251,875 of the common shares were issued with 52,125 warrants that will allow the holder(s), for a period of two years from the date of issue, to acquire one additional share of the Company’s common stock for each warrant at a purchase price of $3.75 per share.
During the quarter ended March 31, 2014, the Company issued 12,500 shares of their common stock as stock based compensation.
During the quarter ended March 31, 2014, the Company issued 560,000 shares of Series G convertible preferred stock at 8%, payable annually, for $560,000. The preferred stock may be converted any time after the first year at the request of the shareholder or the Company into two (2) shares of common stock of the Company and two (2) warrants that will allow the holder, for a period of two years from the date of issue, to acquire one additional share of the Company’s common stock for each warrant at a purchase price of $3.75 per share. The Series G preferred stock issued in 2014 resulted in a beneficial conversion feature at the date of issuance. As a result, a constructive dividend on the Series G preferred stock of approximately $635,000 is reflected in the accompanying condensed consolidated statements of changes in shareholders’ equity.
6. Notes payable
On May 19, 2011, as amended from time to time through February 12, 2014, the Company entered into a loan agreement (the “Agreement”) with Green Bank with an initial borrowing base of $15,000,000 and amended to $16,825,000 on February 12, 2014. The Agreement bears interest at the prime rate minus 0.5%, but not less than 4.5%. Interest payments are due monthly with all principal and any unpaid interest being due on June 1, 2015. The interest rate was 4.5% at March 31, 2014 and December 31, 2013. On February 12, 2014, the monthly borrowing base reductions were amended to $125,000 payable on the first of each month for the period of March 1, 2014 through May 1, 2014.
The Agreement is collateralized by essentially all of the oil and natural gas related assets of the Company, contains personal guarantees from the principal officers, and requires compliance with certain financials covenants including, among others: (1) a requirement to maintain a current ratio of not less than 1.0 to 1.0; (2) a maximum permitted ratio of total liabilities to tangible net worth of not more than 2.0 to 1.0; and (3) a requirement to maintain a ratio of EBITDAX, as defined by the Agreement, to interest expense of not less than (a) 3.00 to 1.00 for all fiscal quarters prior to December 31, 2011, (b) 3.25 to 1.00 for the fiscal quarter ending March 31, 2012, and (c) 3.50 to 1.00 for all fiscal quarters ending on or after June 30, 2012. As of March 31, 2014 and December 31, 2013, the Company was not in compliance with its current ratio requirements but obtained a waiver for the quarter ended March 31, 2014 and the year ended December 31, 2013 under the Agreement.
As of March 31, 2014 and December 31, 2013, the Company had an outstanding principal balance due to Green Bank of approximately $16,825,000 and $17,500,000, respectively. As of March 31, 2014 and December 31, 2013, the current maturities of the outstanding principal balance were approximately $0 and $375,000, respectively.
Additionally, on October 21, 2013, the Company entered into a vehicle loan agreement (“Car Note”) with Western Equipment Finance, Inc. for a total borrowing base of $74. The Car Note bears interest at an approximate rate of 9%. Interest and principal payments are due monthly with any unpaid principal and interest due on August 18, 2018. As of March 31, 2014 and December 31, 2013, the Company had an outstanding principal balanced due to Western Equipment Finance, Inc. of approximately $64,000 and $68,000, respectively. As of March 31, 2014 and December 31, 2013, the current maturities of the outstanding principal balance were approximately $13,000
.
7. Related party transactions
There have been no related party transactions for the three months ended March 31, 2014 and 2013.
8. Subsequent Events
On May 12, 2014, the Company completed a sale of its Shelby County oil and natural gas properties for a total cash consideration of $508,000. This sale represents a disposition of all of the Company’s “Savell” properties that comprised 100% of the Company’s Shelby County assets.
