| OIL & GAS PROPERTIES | The
following table presents the capitalized costs for oil & gas properties of the Company as of June 30, 2018 and December 31,
2017:
Evaluated
costs subject to amortization $ 5,035,285 $ 5,022,129
Unevaluated
costs 33,618,930 26,100,749
Total
capitalized costs 38,654,215 31,122,878
Less
accumulated depreciation, depletion and amortization (5,939,608 ) (5,543,599 )
Total
oil and gas properties $ 32,714,607 $ 25,579,279 Unevaluated
costs as of June 30, 2018 include cumulative costs on developing projects including the Orogrande, Hazel, and Warwink projects
in West Texas. The
Company identified impairment of $2,300,626 in 2017 related to its unevaluated properties. Although we had no recognized impairment
expense in 2017, the Company has adjusted the separation of evaluated versus unevaluated costs within its full cost pool to recognize
the value impairment related to the expiration of unevaluated leases in 2017 in the amount of $2,300,626. The impact of this change
will be to increase the basis for calculation of future period’s depletion, depreciation and amortization to include $2,300,626
of cost which will effectively recognize the impairment on the Consolidated Statement of Operations over future periods. The $2,300,626
has also become an evaluated cost for purposes of future period’s Ceiling Tests and which may further recognize the impairment
expense recognized in future periods. The impact of this cost reclassification at March 31, 2018 was a recognized impairment expense
of $139,891. No impairment adjustment was required at June 30, 2018. Due
to the volatility of commodity prices, should oil and natural gas prices decline in the future, it is possible that a further
write-down could occur. Proved reserves are estimated quantities of crude oil, natural gas, and natural gas liquids, which geological
and engineering data demonstrate with reasonable certainty to be recoverable from known reservoirs under existing economic and
operating conditions. The independent engineering estimates include only those amounts considered to be proved reserves and do
not include additional amounts which may result from new discoveries in the future, or from application of secondary and tertiary
recovery processes where facilities are not in place or for which transportation and/or marketing contracts are not in place.
Estimated reserves to be developed through secondary or tertiary recovery processes are classified as unevaluated properties. Acquisition
of Additional Interests in Hazel Project On
January 30, 2017, we and our then wholly-owned subsidiary, Torchlight Acquisition Corporation, a Texas corporation (“TAC”),
entered into and closed an Agreement and Plan of Reorganization and a Plan of Merger with Line Drive Energy, LLC, a Texas limited
liability company (“Line Drive”), and Mr. Gregory McCabe, our Chairman, under which agreements TAC merged with and
into Line Drive and the separate existence of TAC ceased, with Line Drive being the surviving entity and becoming our wholly-owned
subsidiary. Line Drive, which was wholly-owned by Mr. McCabe, our Chairman, owned certain assets and securities, including approximately
40.66% of 12,000 gross acres, 9,600 net acres, in the Hazel Project and 521,739 warrants to purchase shares of our common stock
(which warrants had been assigned by Mr. McCabe to Line Drive). Upon the closing of the merger, all of the issued and outstanding
shares of common stock of TAC automatically converted into a membership interest in Line Drive, constituting all of the issued
and outstanding membership interests in Line Drive immediately following the closing of the merger, the membership interest in
Line Drive held by Mr. McCabe and outstanding immediately prior to the closing of the merger ceased to exist, and we issued Mr.
McCabe 3,301,739 restricted shares of our common stock as consideration therefor. Immediately after closing, the 521,739 warrants
held by Line Drive were cancelled, which warrants had an exercise price of $1.40 per share and an expiration date of June 9, 2020.
A Certificate of Merger for the merger transaction was filed with the Secretary of State of Texas on January 31, 2017. Subsequent
to the closing, the name of Line Drive Energy, LLC was changed to Torchlight Hazel, LLC. We are required to drill one well every
six months to hold the entire 12,000 acre block for eighteen months, and thereafter two wells every six months effective June
2018. Also
on January 30, 2017, TEI entered into and closed a Purchase and Sale Agreement with Wolfbone. Under the agreement, TEI acquired
certain of Wolfbone’s Hazel Project assets, including its interest in the Flying B Ranch #1 well and the 40 acre unit surrounding
the well, for consideration of $415,000, and additionally, Wolfbone caused to be cancelled a total of 2,780,000 warrants to purchase
shares of our common stock, including 1,500,000 warrants held by McCabe Petroleum Corporation, an entity owned by Mr. McCabe and
1,280,000 warrants held by Green Hill Minerals, an entity owned by Mr. McCabe’s son, which warrant cancellations were effected
through certain Warrant Cancellation Agreements. The 1,500,000 warrants held by MPC that were cancelled had an exercise price
of $1.00 per share and an expiration date of April 4, 2021. The warrants held by Green Hill Minerals that were cancelled included
100,000 warrants with an exercise price of $1.73 and an expiration date of September 30, 2018 and 1,180,000 warrants with an exercise
price of $0.70 and an expiration date of February 15, 2020. Since
Mr. McCabe held the controlling interest in both Line Drive and Wolfbone, the transactions were combined for accounting purposes.
The working interest in the Hazel Project was the only asset held by Line Drive. The warrant cancellation was treated in the aggregate
as an exercise of the warrants with the transfer of the working interests as the consideration. We recorded the transactions as
an increase in its investment in the Hazel Project working interests of $3,644,431, which is equal to the exercise price of the
warrants plus the cash paid to Wolfbone. Upon
the closing of the transactions, our working interest in the Hazel Project increased by 40.66% to a total ownership of 74%. Effective
June 1, 2017, we acquired an additional 6% working interest from unrelated working interest owners in exchange for 268,656 shares
of common stock valued at $373,430, increasing our working interest in the Hazel project to 80%, and an overall net revenue interest
of 74-75%. In
April 2018, we announced that we have commenced a process that could result in the monetization of the Hazel Project. We believe
the development activity at the Hazel Project, coupled with nearby activities of other oil and gas operators, suggests that this
project has achieved a level of value worth monetizing. We anticipate that the liquidity that would be provided from selling the
Hazel Project could be redeployed into the Orogrande Project. Winkler
Project, Winkler County, Texas On
December 1, 2017, the Agreement and Plan of Reorganization that we and our then wholly-owned subsidiary, Torchlight Wolfbone Properties,
Inc., a Texas corporation (“TWP”), entered into with MPC and Warwink Properties, LLC (Warwink Properties) on November
14, 2017 closed. Under the agreement, TWP merged with and into Warwink Properties and the separate existence of TWP ceased, with
Warwink Properties being the surviving entity and becoming our wholly-owned subsidiary. Warwink Properties was wholly owned by
MPC. Warwink Properties owns certain assets, including a 10.71875% working interest in approximately 640 acres in Winkler County,
Texas. Upon the closing of the merger, all of the issued and outstanding shares of common stock of TWP converted into a membership
interest in Warwink Properties, constituting all of the issued and outstanding membership interests in Warwink Properties immediately
following the closing of the merger, the membership interest in Warwink Properties held by MPC and outstanding immediately prior
to the closing of the merger ceased to exist, and we issued MPC 2,500,000 restricted shares of our common stock as consideration.
Also on December 1, 2017, MPC closed its transaction with MECO IV, LLC (“MECO”) for the purchase and sale of certain
assets as contemplated by the Purchase and Sale Agreement dated November 9, 2017 among MPC, MECO and additional parties thereto,
or the MECO PSA, to which we are not a party. Under the MECO PSA, Warwink Properties received a carry from MECO (through the tanks)
of up to $1,475,000 in the next well drilled on the Winkler County leases. A Certificate of Merger for the merger transaction
was filed with the Secretary of State of Texas on December 5, 2017. Also
on December 1, 2017, the transactions contemplated by the Purchase Agreement that TEI entered into with MPC closed. Under the
Purchase Agreement, which was entered into on November 14, 2017, TEI acquired beneficial ownership of certain of MPC’s assets,
including acreage and wellbores located in Ward County, Texas, (“the Ward County Assets”). As consideration under
the Purchase Agreement, at closing TEI issued to MPC an unsecured promissory note in the principal amount of $3,250,000, payable
in monthly installments of interest only beginning on January 1, 2018, at the rate of 5% per annum, with the entire principal
amount together with all accrued interest due and payable on January 1, 2021. In connection with TEI’s acquisition of beneficial
ownership in the Ward County Assets, MPC sold those same assets, on behalf of TEI, to MECO at closing of the MECO PSA, and accordingly,
TEI received $3,250,000 in cash for its beneficial interest in the Ward County Assets. Additionally, at closing of the MECO PSA,
MPC paid TEI a performance fee of $2,781,500 in cash as compensation for TEI’s marketing and selling the Winkler County
assets of MPC and the Ward County Assets as a package to MECO. MECO
expects to drill two gross horizontal well in this project in 2018. The first well was spudded on May 7, 2018. Addition
to the Winkler Project As
of May 7, 2018 our Winkler project in the Delaware Basin has begun the drilling phase of the first Winkler Project well, the UL
21 War-Wink 47 #2H. Our operating partner, MECO had begun the pilot hole on the project. The plan is to evaluate the various
potential zones for a lateral leg to be drilled once logging is completed. We expect the most likely target to be the Wolfcamp
A interval. The well is on 320 newly acquired acres offsetting the original leasehold we entered into in December, 2017. The additional
acreage was leased by our operating partner under the Area of Mutual Interest Agreement (AMI) and we recently exercised our right
to participate for its 12.5% in the additional 1,080 gross acres at a cash cost of $447,847. Our carried interest in the first
well, as outlined in the agreement, was originally planned to be on the first acreage acquired. That carried interest is being
applied to this new well and will allow MECO to drill and produce potential revenues sooner than originally planned. The primary
leasehold is a 320-acre block directly west of the current position and will allow for 5,000-foot lateral wells to be drilled. Reference
is made to Note 11, “Subsequent Events” below, regarding the acquisition of additional interest in the oil and gas
leases in the Orogrande Project. |
