UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-QSB
(Mark One)
(X) QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended July 31, 2006
OR
( ) TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the transition period from _____________ to _________
Commission File Number:000-28915
Sonoran Energy, Inc.
(Exact name of registrant as specified in its charter)
Washington, United States
(State or other jurisdiction of incorporation or organization)
13-4093341
(I.R.S. Employer ID Number)
3100 W. Ray Road, Ste 130, Chandler, AZ 85226
(Address of principal executive offices) (Zip code)
480-963-8800
(Issuer's telephone number)
N/A
(Former Name, Former Address and Former Fiscal Year if Changed Since Last Report)
Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.
YES NO X
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).
YES NO X
The number of shares outstanding of the Company's no par common stock as of July 31, 2006 was 83,928,330.
Traditional Small Business Disclosure Format:
YES NO X
Page 1
CONTENTS
PART I. FINANCIAL INFORMATION
Item 1. Financial Statements
Item 2. Management's Discussion and Analysis of Financial Condition
and Results of Operations
Item 3. Controls and Procedures
PART II. OTHER INFORMATION
Item 1. Legal Proceedings
Item 2. Unregistered Sales of Equity Securities and Use of Proceeds
Item 5. Other Information
Item 6. Exhibits
Page 2
PART I - FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS.
SONORAN ENERGY, INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
For the Periods Ended July 31, 2006 and 2005
TABLE OF CONTENTS
&nb sp; PAGE
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Condensed Consolidated Balance Sheet (Unaudited) | F-1 |
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Condensed Consolidated Statements of Operations (Unaudited) | F-2 |
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Condensed Consolidated Statements of Cash Flows (Unaudited) | F-3 |
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Notes to Unaudited Condensed Consolidated Financial Statements | F-4 |
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Page 3
SONORAN ENERGY, INC. AND SUBSIDIARIES
Condensed Consolidated Balance Sheet
(Unaudited)
July 31, 2006 | |
Assets | |
Current assets: | |
Cash and cash equivalents | $ 440,225 |
Accounts receivable | 295,187 |
Prepaid and other current assets | 207,926 |
Total current assets | 943,338 |
| |
Oil and gas properties - full cost method | |
Proved, less accumulated depletion of $314,407 | 3,458,693 |
Unproved, less impairment charge of $71,078 | 24,572,973 |
Property, less accumulated depreciation of $85,939 (Note 1) | 86,041 |
Total capital assets | 28,117,707 |
| |
Other assets (Note 2): | |
Certificate of deposit | 350,000 |
Prepaid legal settlement | 497,330 |
Deferred finance charge | 255,939 |
Goodwill | 394,585 |
Intangible assets, net of accumulated amortization of $10,500 | 199,500 |
Total other assets | 1,697,354 |
| |
| $ 30,758,399 |
| |
Liabilities and Shareholders' Equity/(Deficit) | |
| |
Current liabilities: | |
Accounts payable | $ 5,812,475 |
Accounts payable - ad valorem tax | 249,424 |
Indebtedness to related parties (Note 3) | 56,342 |
Accrued expenses | 354,282 |
Convertible debentures (Note 4), net of discount of $157,189 | 1,593,983 |
Loans payable (Note 5) | 117,253 |
Total current liabilities | 8,183,759 |
| |
Long-term liabilities: | |
Deferred rent | 30,265 |
Deferred gains on oil and gas property sales | 484,046 |
Deferred commission payable | 250,000 |
Asset retirement obligation (Note 6) | 812,550 |
| 1,576,861 |
| |
Contingencies | - |
| |
Shareholders' equity/(deficit) (Note 8): | |
Series "A" convertible preferred stock, no par value, 25,000,000 | |
shares authorized, 0 shares issued and outstanding | - |
Common stock, no par value, 250,000,000 shares authorized, | |
83,928,330 shares issued and outstanding | 60,357,770 |
Paid-in capital | 1,783,105 |
Deferred compensation | (376,615) |
Accumulated deficit | (40,766,481) |
Total shareholders' equity | 20,997,779 |
| |
| $ 30,758,399 |
|
See accompanying notes to consolidated financial statements
F-1
SONORAN ENERGY, INC. AND SUBSIDIARIES
Consolidated Statements of Operations
(Unaudited)
For the Three Months Ended July 31,
|
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| 2006 |
| 2005 |
|
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Revenue: |
|
|
|
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|
Oil and gas sales |
|
| $ 445,184 |
| $ 316,937 |
Other |
|
| 86,813 |
| 108,895 |
Total revenue |
|
| 531,997 |
| 425,832 |
|
|
|
|
|
|
Expenses: |
|
|
|
|
|
Oil and gas production costs |
|
| 448,168 |
| 245,676 |
Workover expense |
|
| 10,588 |
| - |
Ad valorem and other taxes |
|
| 50,804 |
| 42,292 |
Accretion expense |
|
| 16,960 |
| 21,195 |
Depletion, depreciation and amortization |
|
| 76,558 |
| 49,851 |
Stock-based compensation: |
|
|
|
|
|
Officers | 31,385 | - | |||
Stock options | 15,385 | - | |||
Consulting |
|
| - |
| 165,000 |
Directors |
|
| 33,501 |
| - |
General and administrative |
|
| 1,319,763 |
| 933,725 |
Total expenses |
|
| 2,003,112 |
| 1,457,739 |
Other income/(expense): |
|
|
|
|
|
Interest income |
|
| 21,815 |
| 191 |
Interest expense |
|
| (124,152) |
| (82,531) |
Total net expense | (102,337) | (82,340) | |||
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Loss from continuing operations before income taxes |
|
| (1,573,452) |
| (1,114,438) |
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Income tax provision |
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| - |
| - |
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Net loss |
|
| $ (1,573,452) |
| $ (1,114,438) |
Net loss per common share: |
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Basic and diluted |
|
| $ (0.02) |
| $ (0.03) |
Weighted average common shares outstanding: |
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Basic and diluted |
|
| 83,733,886 |
| 33,684,282 |
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|
|
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See accompanying notes to consolidated financial statements
F-2
SONORAN ENERGY, INC. AND SUBSIDIARIES
Consolidated Statements of Cash Flows
(Unaudited)
| For the Three Months Ended July 31, | ||
2006 | 2005 | ||
Net cash provided by (used in) operating activities | $ 1,127,626 | $ (423,764) | |
Cash flows from investing activities: | |||
Acquisition of property | - | (7,500) | |
Payments for certificate of deposit | - | (50,000) | |
Payment for oil and gas equipment | (5,519,728) |
| - |
Net cash used in investing activities | (5,519,728) | (57,500) | |
Cash flows from financing activities: | |||
Proceeds from exercised options and warrants | - | 50 | |
Repayment of advance from related party advances | - | (75,000) | |
Proceeds from the sale of common stock | - |
| 1,189,412 |
Net cash provided by financing activities | - | 1,114,462 | |
Net change in cash and cash equivalents | (4,392,102) | 633,198 | |
Cash and cash equivalents, beginning of quarter | 4,832,327 | 62,313 | |
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Cash and cash equivalents, end of quarter | $ 440,225 |
| $ 695,511 |
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Supplemental disclosure of cash flow information: |
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Cash paid for income taxes | $ - |
| $ - |
Cash paid for interest | $ - |
| $ - |
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Non-cash investing and financing activities: |
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Common stock issued for payment of debt and current liabilities | $ - |
| $ - |
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See accompanying notes to unaudited consolidated financial statements
F-3
SONORAN ENERGY, INC. AND SUBSIDIARIES
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
July 31, 2006
General Information
The accompanying un-audited condensed consolidated financial statements of Sonoran Energy, Inc. and Subsidiaries as of and for the three months ended July 31, 2006 and July 31, 2005 have been prepared in accordance with the rules and regulations of the Securities and Exchange Commission and do not include all of the information and footnotes required by generally accepted accounting principles for complete financial statements.
In the opinion of management, all adjustments considered necessary for a fair presentation of the results of the interim period have been included. Operating results for any interim period are not necessarily indicative of the results that may be expected for the entire fiscal year. These statements should be read in conjunction with the consolidated financial statements and notes thereto for the year ended April 30, 2006 included in the Company's report in Form 10-KSB as filed with the Securities and Exchange Commission.
Note 1: Property
The Company’s property is made up of the following:
Computers | $ 58,620 |
Furniture and fixtures | 85,800 |
Leasehold improvements | 27,560 |
171,980 | |
Accumulated depreciation | 85,939 |
Property total | $ 86,041 |
Note 2: Other Assets
Certificate of Deposit
The Company was required to post $350,000 in Bonds with governments for the operations in the U.S. The funds are held by financial institutions in investment certificates, which bear interest at a variable rate, and are included in certificates of deposit.
Deferred Finance Charges
The Company incurred commitment fees and finder fees for the Cornell Capital convertible debentures totaling $689,000. The term of the debenture is three years and the Company has chosen to amortize the commitment and finder fees over the life of the debenture resulting in a charge to interest expense of $51,187 for the quarters ended July 31, 2006 and 2005.
Goodwill, Intangible Assets
The Company acquired Scottsdale Oil Field Services Ltd. during the year ended April 30, 2006 for 1 million restricted common stock shares valued at $0.65 per share for $650,000. Based on a third party valuation of the acquisition the Company has recorded goodwill of $394,585 and intangible assets, being proprietary computer programs, for an amount of $210,000. The Company charged $10,500 to expense for the amortization of the Intangible Asset for the quarter ended July 31, 2006.
Note 3: Indebtedness to Related Parties
The balance of $56,342 shown on the accompanying condensed consolidated balance sheet relates to funds owed to a past CEO of the Company.
Note 4: Convertible Debentures
On October 18, 2004, the Company entered into a Standby Equity Distribution Agreement with Cornell Capital Partners, L.P. wherein we may, at our discretion, periodically sell to Cornell Capital Partners shares of our common stock for a total purchase price of up to $15,000,000. For each share of common stock purchased under the Standby Equity Distribution Agreement, Cornell Capital Partners will pay 100% of the lowest volume weighted average price of the common stock as quoted on Bloomberg LP during the five consecutive trading days immediately following the notice date.
On August 17, 2005 the Company signed an agreement with Cornell Capital Partners, LP that replaces the existing agreement. Under the new agreement the lender chose to convert the $425,000 commitment fee note into 1,000,000 shares of restricted common stock. The balance of $1,680,000 plus accrued interest, plus a delay fee of approximately $272,000 resulted in a total debt of $2,021,172 bearing interest at 5% annually, repayable at $150,000 per month plus interest over 13 months starting November 1, 2005 with a final payment of $71,461 in the 14th month. Subsequently, the lender has converted $270,000 of the loan to shares at $0.54.
The lender has the right to convert all or a portion of the outstanding amount to common stock at a price of $0.54 per share subject to the actual shares received cannot exceed 4.99% of the then outstanding shares. The Company recorded a debt discount for the beneficial conversion feature in the note agreement of $336,833 resulting in an allocation to interest expense of $44,911 for the quarter ended July 31, 2006.
F-4
Convertible debentures and loans payable at July 31 are comprised of the following:
| 2006 |
| 2005 |
|
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|
Convertible debentures bearing interest at 5% repayable December 1, 2006 | $ 1,751,172 |
| $ 1,680,000 |
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|
Convertible debenture for commitment fee, non-interest bearing, discounted at an imputed rate of 5%, repayable December 1, 2006 | - |
| 371,842 |
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Total convertible debentures | 1,751,172 |
| 2,051,842 |
|
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Loan payable to Camden Holdings, on demand and non-interest bearing | 48,476 |
| 84,824 |
Credit line bearing interest of 14.99%, repayable at a minimum of 2 ½ % of the outstanding balance | 12,467 |
| - |
Loan payable bearing interest of 10.81%, repayable in monthly installments of $609 for 36 months | 13,110 | 18,053 | |
Loan payable for cancelled stock purchase | 43,200 | - | |
Loan payable to Zenith Financial, on demand and non-interest bearing | - |
| 218,121 |
| 117,253 |
| 320,998 |
|
|
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|
Loan from related party, due August 5, 2005 | - |
| 25,972 |
|
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Totals | $ 1,868,425 |
| $ 2,398,812 |
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Principal payments due in years ended April 30:
2007 $ 1,852,975
2008 12,780
2009 2,670
Total $ 1,868,425
Note 5: Loans Payable
The balance of $117,253 consists of loans covering furniture and equipment purchases plus two advances that may be paid in stock.
F-5
Note 6: Asset Retirement Obligation
In June 2001, FASB issued SFAS No. 143,Accounting for Asset Retirement Obligations. SFAS No. 143 requires entities to record the fair value of a liability for an asset retirement obligation in the period in which it is incurred and a corresponding increase in the carrying amount of the related long-lived asset. Subsequently, the asset retirement cost is allocated to expense using a systematic and rational method. The provisions of SFAS No. 143 were effective for fiscal years beginning after June 15, 2002.
The following table is a reconciliation of the Company's liability for asset retirement obligations:
Balance April 30, 2006 | $ | 795,590 |
Addition to Liability |
| - |
Liability Settled |
| - |
Accretion Expense |
| 16,960 |
Balance July 31, 2006 | $ | 812,550 |
Note 7: Stock Based Compensation
We adopted Statement of Financial Accounting Standards No. 123 (revised 2004), Share-Based Payment (“SFAS 123R”), effective May 1, 2006. SFAS 123R requires the recognition of the fair value of stock-based compensation in net income. SFAS 123R supersedes Statement of Financial Accounting Standards No. 123, Accounting for Stock-Based Compensations (“SFAS 123”) and Accounting Principles Board Opinion No. 25, Accounting for Stock Issued to Employees (“APB 25”). The Company has adopted SFAS 123R using the modified prospective method. Accordingly, prior period amounts have not been restated. Under the modified prospective method, stock options awards that are granted, modified or settled after April 30, 2006 will be valued at fair value in accordance with provisions of SFAS 123R and recognized on a straight line basis over the service period of the entire award.. As there were no option awards granted in the three months ended Ju ly 31, 2006 and all prior option awards were fully vested prior to May1, 2006 there was no effect due to the implementation of SFAS 123R in the three months ended July 31, 2006.
Common Stock Options
A summary of the status of the Company's stock option awards as of April 30, 2006 and the changes during the three months ended July 31, 2006 are presented below:
|
| Options Issued to Non-Employees | Weighted Average Exercise Price | Weighted Average Fair Value | Exercisable | Weighted Average Exercise Price - Exercisable |
| Options Issued to Employees | |||||
Outstanding, April 30, 2005 | 10,100,000 | 4,175,000 | $ 0.53 | $ 0.29 | 14,275,000 | $ 0.53 |
Options granted | - | - | - | - | - | - |
Options exercised | - | - | - | - | - | - |
Options cancelled | (150,000) | - | - | - | (150,000) | - |
Outstanding, April 30, 2006 | 9,950,000 | 4,175,000 | 0.53 | 0.29 | 14,125,000 | 0.53 |
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Options granted | 1,000,000 | - | 0.33 | 0.20 | - | .- |
Options exercised | - | - | - | - | - | - |
Options cancelled | - | - | - | - | - | - |
Outstanding, July 31, 2006 | 10,950,000 | 4,175,000 | $ 0.52 | $ 0.28 | 14,125,000 | $ 0.53 |
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The weighted average remaining contractual term and aggregate intrinsic value for options outstanding at July 31, 2006 was .4 years and $4,500.00.
F-6
As part of a private placement done during the year ended April 30, 2006, investors were granted warrants to purchase additional shares. The exercise price on 4,863,438 warrants was set at $0.95 per share and 156,250 warrants set at $1.50 per share were outstanding at July 31, 2006.
Effective July 1, 2006 the Company granted 1,200,000 shares of common stock to Frank T. Smith, Jr. in conjunction with his Employment Agreement of the same date. These grant shares vest monthly in twelve equal 100,000 share installments beginning on August 1, 2006. In addition, Mr. Smith was granted options to purchase 1,000,000 common shares were awarded to Frank T. Smith, Jr. at $0.33 per share (closing price July 14, 2006). Beginning on August 1, 2006, the options will vest monthly in eleven equal 83,333 share increments plus 83,337 shares in the twelfth month.
The Company has valued the stock grant at the market price on July 1 for a total cost of $408,000 to be charged against expense over the next 12 months. The Company allocated $31,385 to stock paid compensation – officers for the quarter ended July 31, 2006 leaving a balance of $376,615 to be allocated over future periods. The Company has valued the stock option grant using the Black-Sholes option-pricing model for a total cost of $200,000 to be charged against expense over the next 12 months. The Company allocated $15,385 to stock paid compensation – options for the quarter ended July 31, 2006 leaving a balance of $184,615 to be allocated over future periods.
The fair value for the options granted during the three months ended July 31, 2006 was estimated at the date of grant using the Black-Scholes option-pricing model with the following assumptions:
Risk-free interest rate . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 4.10%
Dividend yield . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 0.00%
Volatility factor . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 118.75%
Weighted average expected life . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 3 years
The Black-Scholes options valuation model was developed for use in estimating the fair value of traded options, which have no vesting restrictions and are fully transferable. In addition, option valuation models require the input of highly subjective assumptions including the expected stock price volatility. Because the Company's stock options have characteristics significantly different from those of traded options, and because changes in the subjective input assumptions can materially affect the fair value estimate, in management's opinion, the existing models do not necessarily provide a reliable single measure of the fair value of its stock options. However, the Company has presented the pro forma net loss and pro forma basic and diluted loss per common share using the assumptions noted above.
Note 8: Common Stock
The Company issued 50,001 restricted common shares at $0.67 per share, being market price on the day of the grant, for payment of Director fees amounting to $33,500.
The Company also issued 532,666 shares of common stock at $0.42 per share, being market price at the date of agreement, for payment of prepaid legal settlement expense amounting to $223,667.
Note 9 -Recent Accounting Pronouncements
In December 2004, the FASB issued SFAS 123R which requires public entities to measure the cost of employee services received in exchange for an award of equity instruments based on fair value at the date of grant. The cost will be recognized over the period during which an employee is required to provide service in exchange for the award, which is usually the vesting period. We have adopted this pronouncement effective May 1, 2006.
Note 10: Segmented Information
The Company is presently is operating in two segments:
Oil and Gas: | Three months ended July 31 | |
| 2006 | 2005 |
Revenue | 449,291 | 320,345 |
Income | (1,497,446) | (1,118,117) |
Assets | 30,918,965 | 6,516,419 |
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Consulting Services: | Three months ended July 31 | |
| 2006 | 2005 |
Revenue | 82,706 | 105,487 |
Income | 6,263 | 3,679 |
Assets | 0 | 0 |
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Oil field services work consists of engineers performing services based outside the Corporate offices therefore no Company assets being allocated to this function.
F-7
Note 11: Subsequent Events
On September 11, 2006 the Company received a commitment from a financial institution for a 12 million senior secured credit facility that is expected to close on or before October 2, 2006. Funds will be used to repay debt, develop reserves and for working capital purposes.
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
This report contains forward-looking statements within the meaning of Section 21E of the Securities Exchange Act of 1934, as amended and Section 27A of the Securities Act of 1933, as amended. For this purpose, any statements contained herein that are not statements of historical fact may be deemed forward-looking statements. Without limiting the foregoing, the words "believes", "anticipates", "plans", "expects" and similar expressions are intended to identify forward-looking statements. Readers are cautioned not to place undue reliance on forward-looking statements, which speak only as of the date hereof. Sonoran Energy, Inc. (the "Company", "Sonoran", and sometimes "we", "us", "our" and derivatives of such words) undertakes no obligation to publicly release the results of any revisions to these forward-looking statements that may be made to reflect events or circumstances after the date hereof or to reflect the occurrence of unanticipated events. These forward-looking statements should be read in conjunction with the Company's disclosures included in their Form 10-KSB for the fiscal year ended April 30, 2006.
General
US Operations:
East Texas Fields:
·
JRC/Lisa Layne:
As mentioned in the previously, water disposal problems appear to have been resolved, although there is still a potential need for additional disposal capacity. However, issues with electrical fluctuations causing surging and submersible pump outages and damage to surface equipment has continued to be an issue and is under investigation. The Lisa Layne field has produced without major upset, with only the JW Wells #2 being down for a month while we waited for a pulling unit to repair the pump jack. The availability of services in the area continues to delay operations and is a function of the activity in the area.
The majority of the electrical issues and down time have been related to operations on the JRC Field where the J W Wells #2, the horizontal well and major producer was down for half of the period under discussion requiring the pump to be pulled. In addition the JW Wells #3 well has been down for the majority of the period while we source new transformers for this well.
Page 4
·
Ann McKnight Unit:
The AMU 101 and AMU 201 wells continued to produce without any serious problems. The AMU 801 had a submersible pump installed and was completed in early May but was not brought immediately onto production as the injection pump installed to handle the increased volumes of produced water was over pressuring the field disposal lines and the AMU 801 was shut down while additional pump parts were sourced. The AMU 801 was finally brought onto production in July but results have been disappointing as the well continues to produce large volumes of water with little oil. Tubing was bought to complete the AMU 1601 but operations were put on hold while the results from the AMU 801 were analyzed. In addition recent samples of gas from the field indicated unexpected levels of hydrogen sulphide that were unacceptable to the gas purchaser and the upgrade of the gas handling facilities was also put on hold pending the results from the AMU 801 and identification of the source of the increased levels of hydrogen sulphide.
Louisiana:
Work continued on the Crosby 25 well and the obstructions that had been identified in the wellbore removed. However, hard calcium carbonate was unexpectedly encountered in the lower part of the well that delayed the clean out of the wellbore. By the middle of May, the snubbing unit was moved from the Crosby 25 well to the Strickland 17, and a coiled tubing unit brought onto the Crosby 25 to complete the clean out operations. Unfortunately a further obstruction that had not been identified was discovered and the coiled tubing unit could not complete the clean out operations. The coiled tubing unit was removed and the Snubbing Unit returned in late July after completing work on the Strickland 17 well. Operations are currently underway on the Crosby 25 to remove the new obstruction and bring the well onto production.
Work on the Strickland 17 was successfully completed to remove obstructions from the wellbore and establish production from the well. Not all of the obstructions were recovered but as the well was successfully flowing it was decided to discontinue operations and move the snubbing unit back to the Crosby 25. The well flowed for a short period before debris from the well plugged some of the surface facilities. As of the end of this period operations were underway to clean out the debris and return the well to production.
Planning continues to improve production from all of the wells and to determine the best route forward with the next high impact well, the Crosby 36A.
West Texas:
KWB Field:
We continue to work with the Railroad Commission of Texas to bring all of the existing wells in the KWB Unit into full compliance. Discussions have been undertaken with all of the major landowners in the area with regards to continuing operations as a unit or to dissolving the unit and returning operations to a lease by lease basis.
The reservoir engineering study that was undertaken by AGR, one of our strategic partners has been completed and is under review in house.
Middle East, North Africa and Caspian:
The Company finalized the terms of a Production Sharing Agreement (PSA) with the Natural Resource Authority (NRA) of the Hashemite Kingdom of Jordan. The PSA was signed by the Government on November 23, 2005. The terms of the PSA calls for the exploration and development of the Azraq Block in Jordan including the existing producing Hamza Oil field. The PSA is being discussed by the Jordanian Parliament for formal approval and ratification leading to the signature by His Majesty King Abdullah II, King of Jordan.
The Company is actively in discussions with potential joint venture partners for this project.
Page 5
Analysis of Operations
Results of operations for the three months ended July 31, 2006 compared to the three months ended July 31, 2005:
REVENUES
The Company generated total revenues of $531,997 during the three months ended July 31, 2006 as compared to $425,832 revenue generated for the three months ended July 31, 2005 as a result of improved operations on the East Texas and Louisiana operations.
OIL AND GAS PRODUCTION COSTS
Oil and gas production costs were $448,168 for the three months ending July 31, 2006 as compared to the $245,676 for the three months ending July 31, 2005. The increase reflects the increased operations as well as higher one time maintenance costs. Management continues to review the operating costs to determine areas in which to improve performance and to lower costs.
DEPLETION, DEPRECIATION AND AMORTIZATION
Depletion, depreciation and amortization charge was $76,558 for the three months ended July 31, 2006 compared to $42,292 for the three months ended July 31, 2005. The increase in cost reflects the addition to the full cost pool of Louisiana wells in the last quarter which were considered part of the unproven assets last year.
STOCK-BASED COMPENSATION
Stock based compensation has decreased substantially from previous periods. During this quarter the Company issued 50,001 shares to Directors as fees.
GENERAL AND ADMINISTRATIVE EXPENSES
General and administrative expenses increased by $386,000 for the three months ended July 31, 2006, when compared with the same period for 2005. The increase is due primarily to increased legal fees associated with the Anderson case, see Item 1 below, and an increase in employee compensation due to increased staff resulting from the Scottsdale Oil Field Services acquisition and other hires.
OTHER INCOME (EXPENSE)
Workover expense and ad valorem taxes reflect full year and increased operations at East Texas and Louisiana operations.
Accretion expense reflects the current quarter allocation of estimated plugging and abandonment costs estimated for the three properties.
(Gain)/Loss on debt repaid with stock results from the application of market prices at the time the payment by stock was agreed to versus the share price used to establish the number of shares to be issued in payment of the debt.
Results of operations for the three months ended July 31, 2005 compared to the three months ended July 31, 2004:
REVENUES
Revenues were $425,832 for the three months ended July 31, 2005 and $31,282 for the three months ended July 31, 2004.
This quarter's revenue reflects sales from the East Texas properties of $290,763 and consulting revenue from Scottsdale Oil of $105,487. The July 31, 2204 revenue was from the Louisiana operation which was the only property the Company owned during that quarter.
As the Company does not expect the consulting revenue from third parties to continue as the staff from Scottsdale will be completely occupied in the operations of Sonoran Energy, segmented information is not considered meaningful nor informative.
OIL AND GAS PRODUCTION COSTS
Oil and gas production costs were $245,676 for the three months ending July 31, 2005 and $135,707 for the three months ending July 31, 2004. The increase also reflects one full quarter operation of the East Texas operation which the Company did not own in the first quarter of 2004. Increased oil prices and improved operations resulted in a gross margin of 22% for this quarter compared to a loss for the same period last year. Management continues to review the operating costs to determine areas in which to improve performance and to lower costs.
DEPLETION, DEPRECIATION AND AMORTIZATION
Depletion, depreciation and amortization was $49,851 for the three months ended July 31, 2005 compared to $274 for the three months ended July 31, 2004. The current three months reflects the depreciation on equipment plus depletion expense of $43,199 on the East Texas fields. Last year the Company did not record any depletion expense on its unproved properties and had not yet acquired the East Texas property.
STOCK-BASED COMPENSATION
Stock based compensation for Consultants was $165,000 for the three months ended July 31, 2005 compared to $100,000 for the three months ended July 31, 2004. The Company was able to use stock to pay more of the consulting expense concerned with oil and gas projects as well as sourcing financing.
GENERAL AND ADMINISTRATIVE EXPENSES
General and administrative expenses increased by $431,000 dollars for the three months ended July 31, 2005, when compared with the same period for 2004. The Company now employs several experienced oil and gas personal, and has offices in Arizona, London and Amman. The increase is also attributable to the increased travel expense due to the Company's efforts to penetrate the global market place.
CRITICAL ACCOUNTING POLICIES
Use of Estimates
Under generally accepted accounting principles management is required to make use of estimates and assumptions that could affect the reported amounts on the financial statements and in disclosures in the notes to the financial statements at the date of financial statements and the reported amounts of revenues and expenses during the reporting period. Actual results could differ from those estimates.
Oil & Gas Producing Activities
The Company follows the full cost method of accounting for its oil and gas activities. Accordingly, all costs associated with the acquisition, exploration and development of oil and gas properties are capitalized within the appropriate cost center. Any internal costs that are capitalized are limited to those costs that can be directly identified with acquisition, exploration, and development activities undertaken by the Company for its own account, and do not include any costs related to production, general corporate overhead, or similar activities.
Revenue Recognition
The Company utilizes the accrual method of accounting for crude oil revenues whereby revenues are recognized as the Company's entitlement share of the oil that is produced and delivered to a purchaser based upon its working interest in the properties. The Company records a receivable (payable) to the extent that it receives less (more) than its proportionate share of the gas revenues.
Impairments on Long-Lived Assets
The Company evaluates the carrying value of its long-lived assets under the provisions of Statement of Financial Accounting Standards ("SFAS") No. 144, "Accounting for the Impairment or Disposal of Long-Lived Assets". SFAS No. 144 requires impairment losses to be recorded on long-lived assets used in operations when indicators of impairment are present and the undiscounted future cash flows estimated to be generated by those assets are less than the assets' carrying amount. If such assets are impaired, the impairment to be recognized is measured by the amount by which the carrying amount of the assets exceeds the fair value of the assets. Assets to be disposed of are reported at the lower of the carrying value or fair value, less costs to sell.
LIQUIDITY AND CAPITAL RESOURCES
The Company has successfully managed to source sufficient immediate funding through a market priced equity during the last several months. These funds will be targeted at developing the Company’s current assets to enable it generate positive cash flow and be the basis for additional future oil field acquisitions. The Company believes that the cash resources will be sufficient to fund its anticipated requirements for the next twelve months. Management is pleased that most of the funds raised came from either our Strategic Partners or strategic investors from out international core areas, thus supporting our active support network for future expansion.
The Company is not a party to off-balance sheet arrangements and does not engage in trading activities involving non-exchange traded contracts. In addition, the Company has no financial guarantees, or lease agreements or other arrangements that could trigger a requirement for an early payment or that could change the value of the Company's assets. Management continues to examine various alternatives for increasing capital resources including, among other things, participation with industry and/or private partners and specific rework of existing properties to enhance production and expansion of its sales of crude oil and natural gas.
Foreign Currency Exposure
Sonoran is not exposed to fluctuations in foreign currencies relative to the U.S. dollar at this time but, as Sonoran expands its operations, it may begin to collect revenues from customers in currencies other than the U.S. dollar. Sonoran does not currently engage in any hedging activities.
Item 3. Controls and Procedures.
The Company's Chief Executive Officer and Chief Financial Officer have concluded, based on an evaluation conducted within 90 days prior to the filing date of this quarterly report on Form 10-QSB, that the Company's disclosure controls and procedures have functioned effectively so as to provide those officers the information necessary whether:
(i) this quarterly report on Form 10-QSB contains any untrue statement of a material fact or omits to state a material fact necessary to make the statements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by this quarterly report on Form 10-QSB, and
(ii) the financial statements, and other financial information included in this quarterly report on Form 10-QSB, fairly present in all material respects the financial condition, results of operations and cash flows of the Company as of, and for, the periods presented in this quarterly report on Form 10-QSB.
There have been no significant changes in the Company's internal controls or in other factors since the date of the Chief Executive Officer's and Chief Financial Officer's evaluation that could significantly affect these internal controls, including any corrective actions with regards to significant deficiencies and material weaknesses.
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PART II - OTHER INFORMATION
Item 1. Legal proceedings
Longbow, LLC v. Sonoran Energy, Inc. - Superior Court of California, County of Kern, Metropolitan Division Case No. S-1500-CV-25398-SPC
On or about March 8, 2004, a complaint was filed by Longbow, LLC against the Company alleging that Sonoran breached the agreement to purchase Longbow's interest in the Emjayco Glide #33 Property, the Keystone-Deer Creek Property and the Deer Creek-Merzonian Property. The action essentially alleges that, according the agreements entered into between Longbow and Sonoran, Longbow had the right of first refusal on the properties in the event that Sonoran offered those properties for sale. In addition, Longbow claims that they are entitled to a percentage of the profits if the property is sold to a third party. Subsequent to the execution of those agreements, Sonoran entered into an agreement to sell those properties to a third party, Harvest Worldwide, LLC. Sonoran filed a cross-complaint against Harvest and Longbow seeking the rescission of the Harvest purchase agreements. This case was cons olidated withHarvest Worldwide, LLC v. Longbow, LLC(Case no. S-1500-CV-253284-SPC). Trial is set currently set for September 25, 2006.
Sonoran Energy, Inc v. Mark Roy Anderson et al
Mark Anderson was sued, individually and in the form of his corporate alter egos, by Sonoran (Los Angeles County Superior Court Case No. BC327099), seeking rescission of all shares issued to these entities, with additional compensation due for various timing failures and legal exposures resulting from Anderson's various shortcomings. Anderson cross-complained against Sonoran, alleging certain commissions earned for projects Sonoran has undertaken that occurred during the pendency of his (Camden Holdings) consulting agreement . On June 5, 2006 the Company entered in a tentative settlement of their court case wherein Mr. Anderson has agreed to transfer control of the shares in controversy to settle debts that were to be originally assumed by Anderson, and retire obligations associated with project developments underway at the time of the original dealings. The settlement is also dependent on the outcome of the case to be heard on September 25, 2006 concerning disposition of three properties tentatively sold by the Company to affiliates of Anderson in January 2004. The settlement includes the cancellation of a commission payable of $250,000 and a loan payable of $48,000. The ultimate disposition of the properties will dictate the accounting treatment of the $484,000 gain on disposal presently showing in other liabilities. Sonoran has agreed to pay down a note on the three properties, subject to the case decision and has prepaid part of the note with stock and included the payment in prepaids on the balance sheet. Sonoran hopes to have this matter completely settled by the end of its third quarter.
John Punzo
J. Punzo, previous CEO initiated an action to obtain funds he is owed for past services in the amount of $147,000. The company is presently negotiating the amount and payment terms and believes this action will be settled without the necessity for trial.
Item 2. Unregistered Sales of Equity Securities and Use of Proceeds
During the quarter the Company issued restricted common stock as follows:
- 50,001 shares of common stock at $0.67 per share, being market price at time of grant, for payment of Director's fees amounting to 33,001. These shares were issued to a non-U.S. resident under the auspices of Regulation S.
- 532,666 shares of common stock at $0.65 per share, being market price at the date of agreement, for payment of prepaid legal settlement expense amounting to $346,232. These shares were issued to non-U.S. residents under the auspices of Regulation S.
Item 5. Other Information
On September 11, 2006 the Company received a commitment from a financial institution for a 12 million senior secured credit facility that is expected to close on or before October 2, 2006. Funds will be used to repay debt, develop reserves and for working capital purposes.
Item 6. Exhibits
10.14 – Agreement Between Sonoran Energy, inc and AGR Holdings AS Concerning Cooperation of Oil and Gas Projects
31.1 - Rule 13a-14a/15d-14(a) Certification by Chief Executive Officer
31.2 - Rule 13a-14a/15d-14(a) Certification by Chief Financial Officer
32.1 - Section 1350 Certification by Chief Executive Officer
32.2 - Section 1350 Certification by Chief Financial Officer
SIGNATURES
In accordance with the requirements of the Exchange Act , the registrant caused this report to be signed on its behalf by the undersigned thereunto duly authorized.
Dated: September 21, 2006
SONORAN ENERGY, INC.
/s/ Peter Rosenthal
Peter Rosenthal,
Chief Executive Officer
/s/ Frank T. Smith Jr.
Frank T. Smith Jr.
Exec VP/CFO
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Exhibit 31.1
Pursuant to the requirements of Rule 13a-14 of the Securities Exchange Act of 1934, as amended, provides the following certification. | |
1. | I have reviewed this quarterly report on Form 10-QSB of Sonoran Energy, Inc.; |
2. | Based on my knowledge, this quarterly report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make the statements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by this quarterly report; |
3. | Based on my knowledge, the financial statements, and other financial information included in this quarterly report, fairly present in all material respects the financial condition, results of operations and cash flows of the small business issuer as of, and for, the periods presented in this quarterly report; |
4. | The other certifying directors and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange Act Rules 13a-15(e) and 15d-15(e)) for the small business issuer and have:
a. Designed such disclosure controls and procedures, or caused such disclosure controls and procedures to be designed under my supervision, to ensure that material information relating to the small business isser, including its consolidated subsidiaries, is made known to us by other within those entities, particularly during the period in which this report is being prepared;
b. Evaluated the effectiveness of the small business issuer's disclosure controls and procedures and presented in this report our conclusions about the effectiveness of the disclosure controls and procedures, as of the end of the period covered by this report on such evaluation; and
c. Disclosed in this report any change in the small business issuer's internal control over financial reporting that occurred during the small business issuer's first fiscal quarter that has materially affected, or is reasonably likely to materially affect, the small business issuer's internal control over financial reporting; and |
5. | The other certifying directors and I have disclosed, based on our most recent evaluation of internal control over financial reporting, to the small business issuer's auditors and the audit committee of our board of directors (or persons performing the equivalent functions): |
a. | All significant deficiencies and material weaknesses in the design or operation of internal control over financial reporting which are reasonably likely to adversely affect the small business issuer's ability to record, process, summarize and report financial data; and
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b. | Any fraud, whether or not material, that involves management or other employees who have a significant role in the small business issuer's internal control over financial reporting; and |
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Date: September 21, 2006 | /s/ Peter Rosenthal |
| Peter Rosenthal, President |
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Exhibit 31.2
Pursuant to the requirements of Rule 13a-14 of the Securities Exchange Act of 1934, as amended, provides the following certification. |
1. | I have reviewed this quarterly report on Form 10-QSB of Sonoran Energy, Inc.; |
2. | Based on my knowledge, this quarterly report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make the statements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by this quarterly report;
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3. | Based on my knowledge, the financial statements, and other financial information included in this quarterly report, fairly present in all material respects the financial condition, results of operations and cash flows of the small business issuer as of, and for, the periods presented in this quarterly report; |
4. | The other certifying director and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange Act Rules 13a-15(e) and 15d-15(e)) for the small business issuer and have:
a. Designed such disclosure controls and procedures, or caused such disclosure controls and procedures to be designed under my supervision, to ensure that material information relating to the small business issuer, including its consolidated subsidiaries, is made known to us by other within those entities, particularly during the period in which this report is being prepared;
b. Evaluated the effectiveness of the small business issuer's disclosure controls and procedures and presented in this report our conclusions about the effectiveness of the disclosure controls and procedures, as of the end of the period covered by this report on such evaluation; and
c. Disclosed in this report any change in the small business issuer's internal control over financial reporting that occurred during the small business issuer's first fiscal quarter that has materially affected, or is reasonably likely to materially affect, the small business issuer's internal control over financial reporting; and |
5. | The other certifying director and I have disclosed, based on our most recent evaluation of internal control over financial reporting, to the small business issuer's auditors and the audit committee of our board of directors (or persons performing the equivalent functions): |
a. | All significant deficiencies and material weaknesses in the design or operation of internal control over financial reporting which are reasonably likely to adversely affect the the small business issuer's ability to record, process, summarize and report financial data; and
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b. | Any fraud, whether or not material, that involves management or other employees who have a significant role in the small business issuer's internal control over financial reporting; and |
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Date: September 21,2006 | /s/ Frank T. Smith Jr. |
| Frank T. Smith Jr., Exec VP/CFO |
Exhibit 32.1
CERTIFICATION PURSUANT TO 18 U.S.C. Section 1350, AS ADOPTED PURSUANT TO SECTION 906 OF THE SARBANES-OXLEY ACT OF 2002
In connection with the Quarterly Report of Sonoran Energy, Inc. on Form 10-QSB for the quarter ending July 31, 2006, as filed with the Securities and Exchange Commission on the date hereof (the "Report"), I, Peter Rosenthal, President of the Company, certify, pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002, that, to the best of my knowledge and belief: (1) the Report fully complies with the requirements of Section 13(a) or 15(d) of the Securities Exchange Act of 1934; and (2) the information contained in the Report fairly presents, in all material respects, the financial condition and result of operations of the Company.
/s/ Peter Rosenthal
Peter Rosenthal
President
September 21, 2006
Exhibit 32.2
CERTIFICATION PURSUANT TO 18 U.S.C. Section 1350, AS ADOPTED PURSUANT TO SECTION 906 OF THE SARBANES-OXLEY ACT OF 2002
In connection with the Quarterly Report of Sonoran Energy, Inc. on Form 10-QSB for the quarter ending July 31, 2006, as filed with the Securities and Exchange Commission on the date hereof (the "Report"), I, Frank T. Smith Jr., Interim CFO of the Company, certify, pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002, that, to the best of my knowledge and belief: (1) the Report fully complies with the requirements of Section 13(a) or 15(d) of the Securities Exchange Act of 1934; and (2) the information contained in the Report fairly presents, in all material respects, the financial condition and result of operations of the Company.
/s/ Frank T. Smith Jr.
Frank T. Smith Jr.
Exec VP/CFO
September 21, 2006
