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NXT ENERGY SOLUTIONS INC. | ||||||
As at and for the three and six month periods ended June 30, 2011 | ||||||
MANAGEMENT'S DISCUSSIONAND ANALYSIS | ||||||
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The following management's discussion and analysis ("MD&A") was prepared by management based on information available as at August 26, 2011. It should be reviewed in conjunction with the audited Consolidated Financial Statements for the year ended December 31, 2010. This MD&A is for the 3 month ("Q2-11") and 6 month year-to-date ("2011 YTD") periods ended June 30, 2011, with comparative 2010 totals for the 3 month ("Q2-10") and 6 month year-to-date ("2010 YTD") periods ended June 30, 2010. | ||||||
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As used in this MD&A, the terms "we", "us", "our", "NXT" and the "Company" mean NXT Energy Solutions Inc. | ||||||
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Our functional and reporting currency is the Canadian dollar. All references to "dollars" in this MD&A refer to Canadian or Cdn. dollars unless specific reference is made to United States or U.S. dollars. | ||||||
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Forward-Looking Statements |
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Certain statements in this document may constitute "forward-looking statements". These forward-looking statements can generally be identified as such because of the context of the statements including words such as "believes", "anticipates", "expects", "plans", "estimates" or words of a similar nature. | ||||||
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These forward-looking statements are based on current expectations and are subject to known and unknown risks, uncertainties and other factors that may cause the actual results, performance or achievements of the Company to be materially different from any future results, performance or achievements expressed or implied by such forward-looking statements. Except as required by law, the Company assumes no obligation to update forward-looking statements should circumstances or the Company's estimates or opinions change. | ||||||
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Description of the Business |
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NXT is a Calgary based company providing an airborne survey system that enables our clients to focus their exploration decisions concerning land commitments, data acquisition expenditures or prospect prioritization onto the areas as identified by SFD® with the greatest hydrocarbon potential. Utilizing its proprietary airborne Stress Field Detection ("SFD®") survey system, NXT provides a unique survey method that is environmentally noninvasive and unaffected by ground security issues or difficult terrain. Additionally, surveys can generally be conducted year round and are effective both onshore and offshore. The advantage to NXT’s clients is an efficient and reliable method to explore for hydrocarbons. SFD® and NXT® in Canada and the U.S. are the registered trademarks of NXT Energy Solutions Inc. | ||||||
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Overall Performance |
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Business Overview | ||||||
In 2011, NXT expects to generate revenue from various sales opportunities as were discussed in our 2010 year-end MD&A. | ||||||
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Our focus on Colombia and Latin America remains unchanged. The delays caused by national elections and the finalization of the 2010 bid round awards in Colombia are now behind us and we anticipate that our position in the Colombian market will be the catalyst for new sales growth within Latin America. NXT recently announced a letter of intent ("LOI") with a major exploration and production company to conduct a U.S. $4.6 million SFD® survey on several exploration blocks in Columbia and Guatemala. We are currently awaiting final approvals from the Columbia regulators on the terms of the contract, which we hope to execute in the next 1 to 2 months. Depending on permitting and weather conditions, we would plan to commence flight operations in Columbia before the end of October. | ||||||
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Market conditions for our SFD® survey services have improved domestically and accordingly we have increased our sales and marketing activities within North America. This effort resulted in a U.S. $150,000 pilot project survey which was conducted in Montana, USA in Q2-2011. | ||||||
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Our previously announced U.S. $2.7 million contract in South Asia has encountered ongoing flight permitting delays, and our local agent continues to diligently advance the permitting process. Multiple government agencies are being consulted, with each having a role in the permitting process. Several of these agencies and key government decision makers have provided support for our SFD® survey, but the exact timing for completion of the permitting process is unknown at this time. | ||||||
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NXT plans to continue to broaden the profile of SFD® within our target markets through the generation and dissemination of SFD® case studies. SFD® case studies are an effective tool to showcase SFD® capabilities and to educate the industry about the value of our service. We are scheduled to present one study on the use of SFD® within Colombia at the XIV Latin American Congress of Geology and the XIII Colombian Congress of Geology to be held in Medellín, Colombia on August 29 through September 2, 2011. NXT will also be conducting technical presentations at the NGO&G summit in Cancun, Mexico (August 23-25, 2011). | ||||||
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NXT continues to project a working capital deficiency related to its anticipated operational requirements in 2011. This anticipated shortfall has increased since the end of 2010 due to not only the delay in commencing the South Asia survey project, but also the projected working capital requirements for pending and potential new contracts. This shortfall is mitigated through our normal practice of obtaining partial pre-payments from clients prior to commencing surveys. In addition, several sources of finance capital are being contemplated at this time. NXT expects to source this additional capital by the time ongoing operational requirements become in need of additional funding, however, there can be no assurances that future financings will be available to the Company, or if available, that the terms will be acceptable to NXT. | ||||||
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Results of Operations |
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The nature of NXT's business is such that operating results are not readily comparable on a quarter to quarter, or year over year basis. This is because revenues are derived from periodic large value survey projects, which can be conducted in a relatively short time frame, but can have a large effect on any single period in which they occur. In both 2011 and 2010, all of the year-to-date revenues were earned in the Q2 periods. | ||||||
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The Company incurred a loss of $692,510 for Q2-11 as compared to a loss of $890,673 for Q2-10. For 2011 YTD, the loss was $1,485,227 as compared to $2,213,145 for 2010 YTD. The significantly lower YTD loss for 2011 YTD was primarily due to lower G&A costs, as discussed below. | ||||||
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Revenue |
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| Q2-11 | Q2-10 |
| 2011 YTD | 2010 YTD |
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| SFD® survey revenue | $ 144,650 | $ 443,011 |
| $ 144,650 | $ 443,011 |
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In Q2-11, NXT earned SFD® survey revenue of U.S. $150,000 from a small project conducted in Montana, USA. | ||||||
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Expenses | ||||||
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| Q2-11 | Q2-10 |
| 2011 YTD | 2010 YTD |
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| SFD® survey cost | $ 43,990 | $ 342,959 |
| $ 43,990 | $ 461,015 |
| General and administrative ("G&A") | 762,743 | 973,927 |
| 1,496,151 | 2,122,011 |
| Amortization and depreciation | 39,351 | 41,231 |
| 75,618 | 85,522 |
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| 846,084 | 1,358,117 |
| 1,615,759 | 2,668,548 |
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| G&A expense above includes non-cash stock based compensation expense ("SBCE") as follows: |
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| Q2-11 | Q2-10 |
| 2011 YTD | 2010 YTD |
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| G&A | $ 743,900 | $ 942,419 |
| $ 1,447,366 | $ 2,021,147 |
| SBCE | 18,843 | 31,508 |
| 48,785 | 100,864 |
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| 762,743 | 973,927 |
| 1,496,151 | 2,122,011 |
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● | SFD® survey costs - the 2010 YTD total includes approximately $118,000 of costs for conducting research related surveys which did not generate revenues. In Q1-11, NXT incurred start-up costs of approximately $50,000 for a survey contract which has not yet commenced, and which have been recorded as work-in progress on the balance sheet. | |||||
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● | Administrative - the $211,184 decrease in G&A expenses for Q2-11 as compared to Q2-10 (and a decrease of $625,860 for 2011 YTD) is a combination of several factors. Primarily, it is due to salary reductions and administrative personnel cutbacks, and reduced SBCE mostly due to the repricing of all options in December 2010 to $0.63, which led to a very high SBCE recognized in Q4-10. In addition, one time start-up costs for the Colombia branch office were reflected in the Q1-10 period. | |||||
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Other Expense (Income) |
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| Q2-11 | Q2-10 |
| 2011 YTD | 2010 YTD |
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Interest income, net | (3,111) | (2,547) |
| (5,528) | (3,494) | |
Loss (gain) on foreign exchange | (4,013) | (19,461) |
| 20,929 | (7,148) | |
Oil and natural gas operations and other | 360 | (1,276) |
| - | (1,276) | |
Loss on sale of property | - | - |
| - | 1,074 | |
Accretion and abandonments re asset retirement obligation | 1,012 | 798 |
| 1,889 | 1,794 | |
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| (5,752) | (22,486) |
| 17,290 | (9,050) |
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Interest income, net - interest income earned on short-term investments is offset by interest expense on capital lease obligations. | ||||||
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Loss (gain) on foreign exchange - caused by changes in the relative exchange values of the U.S. dollar, Canadian dollar and Colombian peso ("COP"). For example, when the Canadian dollar trades higher relative to the U.S. dollar or COP, cash held in U.S. dollars or COP will decline in value and this decline will be reflected as a foreign exchange loss in the period. NXT normally holds its cash and short-term investments in Canadian dollars to reduce the effect of market volatility; however, we currently are contractually obligated to hold certain restricted cash funds in U.S. dollar instruments to support performance bond commitments. | ||||||
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Accretion of asset retirement obligation ("ARO")- ARO reflects the estimated net present value of NXT's net working interest in 8 gross (1.1 net) oil & gas wells in which NXT had a historical participation prior to 2005. The ARO is based upon estimates of the future costs (to be settled in approximately 4 years) to abandon, remediate and reclaim the well sites. Accretion expense represents the ongoing increase in the ARO due to the passage of time. | ||||||
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Summary of Quarterly Results (Unaudited) |
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A summary of operating results for each of the trailing 8 quarters follows. The extent of the loss each quarter is mainly due to the timing of survey contract activity, and variances in SBCE. | ||||||
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| Q2-11 | Q1-11 |
| Q4-10 | Q3-10 |
| Jun 30, 2011 | Mar 31, 2011 |
| Dec 31, 2010 | Sep 30, 2010 | |
Survey revenue | $ 144,650 | $ - |
| $ - | $ - | |
Net loss | (692,510) | (792,717) |
| (1,276,690) | (962,590) | |
Basic and diluted loss per share | (0.02) | (0.02) |
| (0.04) | (0.03) | |
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| Q2-10 | Q1-10 |
| Q4-09 | Q3-09 |
| Jun 30, 2010 | Mar 31, 2010 |
| Dec 31, 2009 | Sep 30, 2009 | |
Survey revenue | $ 443,011 | $ �� - |
| $ 1,044,766 | $ - | |
Net loss | (890,673) | (1,322,472) |
| (657,401) | (969,591) | |
Basic and diluted loss per share | (0.03) | (0.04) |
| (0.02) | (0.03) | |
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Q2-11 to Q1-11 comparison - NXT had survey revenue of $144,650 (nil in Q1-11), SBCE of $18,843 ($29,942 in Q1-11) and survey costs of $43,990 (nil in Q1-11). | ||||||
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Q1-11 to Q4-10 comparison - NXT recognized nil survey revenue (nil in Q4-10) and SBCE of $29,942 ($404,053 in Q4-10). The $374,111 decrease in SBCE from Q4-10 is attributed to nearly all contractor options being fully vested in Q1-11 and the large expense that was recognized in Q4-10 upon re-pricing of stock options to $0.63. | ||||||
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Q4-10 to Q3-10 comparison - NXT recognized nil in survey revenue (nil in Q3-10) and SBCE of $404,053 ($72,899 in Q3-10). The increase in SBCE was due to a one-time valuation adjustment that occurred when 2,113,204 stock options were re-priced in December 2010 to a new exercise price of $0.63 per share. | ||||||
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Q3-10 to Q2-10 comparison - in Q3-10 NXT had nil survey revenue ($443,011 in Q2-10) and SBCE of $72,899 ($31,507 in Q2-10). | ||||||
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Q2-10 to Q1-10 comparison - in Q2-10 NXT recognized survey revenue of $443,011 (nil for Q1-10) SBCE of $31,507 ($69,356 for Q1-10) and survey costs of $342,959 ($118,056 for Q1-10). | ||||||
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Q1-10 to Q4-09 comparison - in Q1-10 NXT had nil survey revenue ($1,044,766 in Q4-09) SBCE of $69,356 ($187,343 for Q4-09) and $118,056 survey costs ($508,308 for Q4-09). The survey costs in Q1-10 were for non-revenue projects. | ||||||
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Q4-09 to Q3-09 comparison - in Q4-09 NXT had survey revenue of $1,044,766 (nil in Q3-09) SBCE of $187,343 ($112,254 in Q3-09) and survey costs of $508,308. | ||||||
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Q3-09 to Q2-09 comparison - NXT had no survey revenue in Q3-09 ($2,638,560 in Q2-09). | ||||||
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Liquidity and Capital Resources |
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NXT's cash and cash equivalents plus short-term investments at the end of Q2-11 was $1,010,432. This excludes a total of $299,644 which is encumbered as security for contract performance bonds, and is classified on the Balance Sheet as restricted cash. | ||||||
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The process of gaining acceptance of NXT's revolutionary technology in the oil & gas exploration industry has been challenging. However, customer success in using SFD to reduce their exploration time, cost, and risk is growing, and starting to yield repeat business. NXT is in process of finalizing an agreement to undertake a large SFD survey project in Columbia and Guatemala totaling U.S. $4.6 million. In addition, we are awaiting final security clearances and permits to conduct a U.S. $2.7 million survey contract in South Asia. We project that these survey contracts (a portion of which may commence before the end of Q3-11) will be profitable, but will require cash outflows during the pre-survey phase. Uncertainty as to the timeline from customer interest, through contract negotiation and actual project kick-off puts additional strain on capital resources. | ||||||
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In late 2010 the Company implemented salary reductions and administrative personnel cutbacks, and has reviewed other options to conserve cash. Despite these measures the Company expects that it will need to raise additional capital in the short-term. NXT has an option of calling for an accelerated conversion (if NXT's common shares trade at over $0.90 for ten consecutive days) of the common share purchase warrants which were issued in the February 2011 private placement. These 3,345,920 warrants expire February 16, 2012 and have an exercise price of $0.60 per share, which would yield maximum exercise proceeds to NXT of up to $2 million if exercised in full. | ||||||
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The following summarizes NXT's net cash flows for 2011 and 2010: | ||||||
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Cash flows from (used in): | Q2-11 | Q2-10 |
| 2011 YTD | 2010 YTD | |
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| Operating activities | $ (731,922) | $ (766,931) |
| $ (1,623,768) | $ (1,141,170) |
| Financing activities | (9,000) | 31,435 |
| 1,482,436 | 50,269 |
| Investing activities | 358,545 | (2,098,936) |
| 687,181 | (2,139,972) |
| Net source (use) of cash | (382,377) | (2,834,432) |
| 545,849 | (3,230,873) |
| Cash, start of period | 1,392,809 | 3,777,704 |
| 464,583 | 4,174,145 |
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| Cash, end of period | 1,010,432 | 943,272 |
| 1,010,432 | 943,272 |
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The major components of the above noted 2011 YTD totals are: |
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Operating Activities |
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● | the net cash use of $1,623,768 is comprised of: | |||||
| net loss for the period |
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| (1,485,227) |
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| adjustment for non-cash expenses |
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| 126,158 |
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| (increase) in non-cash working capital balances |
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| (264,699) |
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| net cash (used in) operating activities |
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| (1,623,768) |
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Financing Activities |
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● | the February 2011 private placement ($1.6 million gross) resulted in net proceeds of $1,487,827. | |||||
● | repayment of capital lease obligation totaled $5,391. | |||||
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Investing Activities |
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● | the $905,651 funds inflow arising from the net redemption of short-term investments was primarily used to fund ongoing operating expenses, and an increase in restricted cash balances. | |||||
● | a cash outflow of $197,788 was used to fund a net increase in restricted cash balances which were issued as security for contract performance bonds. | |||||
● | $20,682 was used in the purchase of property and equipment. | |||||
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Contractual Commitments |
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The Company has an office lease commitment until October 31, 2012 which requires minimum monthly lease payments of $32,212. | ||||||
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Transactions with Related Parties |
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In Q1-11 two officers of the Company subscribed for a total of $40,000 of the private placement. | ||||||
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Additional Disclosures |
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Outstanding securities |
| as at |
| as at | as at | |
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| August 26, |
| June 30, | December 31, |
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| 2011 |
| 2011 | 2010 |
Shares issued: |
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| Common shares |
| 34,002,396 |
| 34,002,396 | 30,801,796 |
| Preferred shares |
| 10,000,000 |
| 10,000,000 | 10,000,000 |
Common shares reserved for issue re: |
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| Stock options |
| 2,443,141 |
| 2,073,341 | 2,134,804 |
| Common share purchase warrants |
| 3,345,920 |
| 3,345,920 | - |
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| Total |
| 49,791,457 |
| 49,421,657 | 42,936,600 |
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Critical Accounting Estimates |
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Factors are substantially unchanged; refer to NXT's annual MD&A as at and for the year ended December 31, 2010. | ||||||
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Changes in Accounting Policies Including Initial Adoption |
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Factors are substantially unchanged; refer to NXT's annual MD&A as at and for the year ended December 31, 2010. | ||||||
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Disclosure Controls, Procedures and Internal Controls over Financial Reporting |
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The Company's Chief Executive Officer ("CEO") and Chief Financial Officer ("CFO") (together, the "Responsible Officers") are responsible for establishing and maintaining disclosure controls and procedures, or causing them to be designed under their supervision, for the Company to provide reasonable assurance that material information relating to the Company is made known to the Responsible Officers by others within the organization, particularly during the period in which the Company's quarterly and year-end financial statements and MD&A are being prepared. | ||||||
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Disclosure controls and other procedures are designed to ensure that information required to be disclosed in reports that are filed or submitted is recorded, processed, summarized and reported within the time periods specified by the relevant security authority in either Canada or the United States of America. Disclosure controls and procedures include controls and procedures designed to ensure that information required to be disclosed in our reports is accumulated and communicated to management, including our Responsible Officers, to allow timely decisions regarding required disclosure. | ||||||
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As of June 30, 2011 an evaluation was carried out under the supervision of, and with the participation of management, including the CEO and the CFO, of the effectiveness of the Company's disclosure controls and procedures as defined under the rules adopted by the Canadian securities regulatory authorities and by the SEC. Through this evaluation the CEO and the CFO concluded that there are material weaknesses in the Company’s internal controls over financial reporting that have a direct impact on the Company’s disclosure controls: | ||||||
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● | Due to the limited number of staff at the Company’s Calgary head office, it is not feasible to achieve adequate segregation of incompatible duties. The Company mitigates this deficiency by adding management and audit committee review procedures over the areas where inadequate segregation of duties are of the greatest concern; | |||||
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● | The Company does not retain staff with the specialized expertise required to prepare, nor does the Company employ sufficient staff, to adequately review some complex or highly judgmental accounting issues. These complex areas include income tax accounting, financial reporting and other complex accounting matters. The Company mitigates this deficiency by preparing financial statements with their best judgments and estimates of the complex accounting matters and relies on reviews by management, external consultants and the audit committee for quality assurance; and | |||||
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● | In 2010 there was a change in the company's internal controls following the formation of a Colombian branch office that processes regional financial transactions. Although the branch is staffed solely by one senior administrative manager, the Company mitigated this deficiency by adding administrative and management procedures in the Calgary head office. | |||||
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Notwithstanding the Company’s efforts to mitigate the risks associated with the above mentioned deficiencies, the CEO and its' former CFO (who left the company in July 2011) concluded that the Company's internal controls over financial reporting are not effective and as a result its disclosure controls and procedures are not effective as at June 30, 2011. The Company reached this conclusion based upon their assessment that there is more than a remote likelihood that its internal controls over financial reporting will not prevent or detect material misstatements if they should exist in our financial statements. | ||||||
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For additional information on NXT Energy Solutions Inc. please consult our web page at www.nxtenergy.com, or the SEDAR webpage at http://www.sedar.com. |