| DEBT | Line of credit On
May 13, 2015, the Company entered into a Revolving Line of Credit Facility Agreement ("initial line of credit", “Line
of credit”) with PEO, a related party, which provided the Company with a revolving line of credit of up to $5.0 million. As
of December 31, 2017, the outstanding balance on the Line of credit was $5.0 million and accrued interest was $0.5 million.
During the nine months ended September 30, 2018 and 2017, the Company recorded interest expense of $0.3 million and $0.1 million
respectively, related to the initial line of credit. Supplemental line of credit On October 13, 2016, the
Company entered into a revolving line of credit facility agreement (the “supplemental line of credit”) with PEP III.
PEP III is an affiliate of PEO by having affiliated personnel. The supplemental line of credit permitted the Company to borrow
up to $10.0 million to pay costs associated with its acquisition and development of oil and gas properties in the Wattenberg Field.
Interest on the supplemental line initially accrued at the rate of 8% per year. The supplemental line of
credit was amended on March 30, 2017, pursuant to which the Company agreed not to borrow additional amounts against the supplemental
line of credit and to repay $3.6 million. On June 8, 2017, the Company
entered into a letter agreement (“PEP III Agreement”) with PEP III and PEO, pursuant to which PEP III agreed to modify
the Company’s supplemental line of credit. The PEP III Agreement extended the maturity date of the supplemental line of credit,
including approximately $3.8 million in outstanding principal and accrued interest, from June 13, 2017 until December 27,
2017, and increased the interest rate on the supplemental line from 8% to 10%, effective June 8, 2017. The Company and PEO also
agreed to amend the participation agreement between the Company and PEO, dated May 13, 2015 (“Participation Agreement”),
in order to expand the area of mutual interest (“AMI”) established, and grants PEP III an option to participate under
the Participation Agreement. As amended, the Participation Agreement grants PEO the option to acquire up to a 45% interest and,
so long as the supplemental line of credit remains outstanding, grants PEP III the option to acquire up to a 10% interest
in and participate in any oil and gas development on acreage acquired by the Company within the expanded AMI. The expanded AMI
covers a total of four and one-half townships in Adams and Weld Counties, Colorado. On December 21, 2017 in
connection with the execution of a Letter Agreement (as described more fully below) the interest rate on the supplemental line
of credit was increased to 15% and the maturity date was extended until June 30, 2018. On February 1, 2018 concurrent
with the closing of the Secured Credit Facility (as described more fully below), $1.5 million of principal plus accrued interest
was repaid. Effective June 1, 2018,
the Company and PEP III closed on a transaction to exchange the Company’s interest in the Ocho Assets (Note 5)
in full satisfaction of the remaining $2.1 million of outstanding principal balance. The Company accounted for this transaction
as retirement in accordance with ASC 932-360-40-3. As the retirement did not impact the unit-of-production amortization rate no
gain or loss was recognized on the transaction. Series A Convertible Notes During the nine months ended
September 30, 2018 one Convertible Note in the principal amount of $0.2 million plus accrued interest was converted into 135,963
shares of common stock. The conversion was recorded at the contractual conversion rate of $1.50 per share. No gain or loss was
recognized in connection with the conversion (Note 9). As of September 30, 2018, the
balance of accrued interest related to the Convertible Notes outstanding was $0.1 million. As of December 31, 2017, accrued interest
related to the notes was $0.3 million. The Series A Convertible Notes, together with all accrued and unpaid interest, are due and
payable on December 31, 2018. Series B Convertible Notes As of September 30, 2018, there
was no accrued interest related to the Series B Notes outstanding. As of December 31, 2017, accrued interest related to the
Series B Notes was $0.2 million. The Series B Convertible Notes, together with all accrued and unpaid interest, are due
and payable on December 31, 2018. Secured Credit Facility On February 1, 2018, the
Company closed on a $25.0 million Secured Credit Facility with Providence Wattenberg, LP and 5NR Wattenberg, LLC (“Secured
Lenders”). Each of Providence and 5NR are affiliates of the Lenders under a Letter Agreement entered into by the Company
on December 21, 2017, under which the Company borrowed $5.0 million. The closing on February 1, 2018 fully incorporates the 2017
Letter Agreement and represents additional borrowings of $20.0 million (Note 11).
● Interest on the outstanding principal balance accrues at the base rate of 14% per year plus the greater of either 1% or U S Dollar LIBOR (three-month tenor). In no event shall interest rate exceed 17%. Interest payments are due and payable each month commencing March 1, 2018.
● The Company paid a
$1.25 million origination fee at the time of the closing and agreed to pay a $1.25 million underwriting fee on February 1,
2019.
● The borrowing is secured by a lien on all the Company’s assets.
● All principal is due February 1, 2020 (“Maturity Date”).
● At any time, each
Secured Lender may convert 20% of the outstanding principal balance into common stock of the Company at a conversion rate of
$1.15 per share and 80% of the outstanding principal balance at a conversion rate of $1.55 per share.
● The Secured Lenders received warrants to purchase 1,500,000 shares of common stock of the Company at a price of $0.01 per share (Note 9).
● The Secured Lenders were granted the right to participate in any public or private securities offering by the Company, limited to 50% of securities offered until December 31, 2018, and 25% of any securities offered thereafter; and
● The Secured Lenders
were granted an option to purchase up to $25 million of the Company’s common stock at a 10% discount from the 30-day
volume-weighted average trading price(“VWAP”) of the common stock at the time the option is exercised, but in no
event shall the exercise price be less than$1.85 per share, which option will become exercisable on the Maturity Date and
expire on February 1, 2021; and registration rights in connection with the common stock that may be issued upon exercise of
the foregoing rights. The Secured Credit Facility
is subject to certain financial and restrictive covenants under which the Company’s failure to comply might result in mandatory
redemption of the outstanding balance. The covenants include;
● The Company has agreed not to issue any equity securities or securities convertible into or exercisable for equity securities without the consent of Lenders, except for common stock issuable under the Company’s equity incentive plan, certain registered public offerings, common stock issuable in connection with certain convertible promissory notes and certain outstanding warrants; and
● Maintenance of a Total Leverage Ratio and a Present Value of Proved Developed Producing Reserves Coverage Ratio, as defined in the Credit Agreement. As of September 30, 2018,
the Company is in default with certain provisions of the Secured Credit Facility. The Company is currently in negotiation with
the lender as to the impact and resolution of the default. The Company received net
cash proceeds of $11.2 million from the Secured Credit Facility after the deduction of amounts paid to the Secured Lenders and
their affiliates for (i) full repayment of $5.0 million borrowed under the initial line of credit, (ii) partial repayment of $1.5
million against the Supplemental line of credit, (iii) payment of $1.25 million in origination fees to the Secured Lenders, and
(iv) repayment of accrued interest of $1.1 million to the Secured Lenders. The following table
reconciles the use of the $20.0 million in additional borrowings under the terms of the Secured Credit Facility;
Gross Proceeds $ 20,000,000
Payment of origination fee (1,250,000 )
Principal repayment on Initial Line of Credit (5,000,000 )
Principal repayment on Supplemental Line of Credit (1,500,000 )
Payment of accrued interest costs $ (1,086,808 )
Net Cash Proceeds $ 11,163,192 The Secured Credit Facility
is considered a hybrid debt instrument with several elements that required identification and valuation. As the fair value of the
embedded elements is not readily determinable through an active marketplace of identical instruments, the Company employed other
valuation techniques, including a Monte Carlo simulation, to determine the fair value of the components of the instrument. It was determined that the
rights to convert the debt into common shares contained a beneficial conversion feature that could be detached from the debt and
valued as a component of equity. It was likewise determined that the warrants could be detached from the debt and valued as a component
of equity. It was determined that the option to purchase shares at a 10% discount from VWAP represented a derivative liability
that should be remeasured at fair value for each reporting period. The Company further determined that certain provisions
of the agreement which provide for additional interest payments under certain conditions represent an additional compound derivative
liability that should also be remeasured at fair value for each reporting period. For both the share purchase option and the additional
interest provisions, a Monte Carlo simulation model was used to calculate estimates of fair value. The model was used
as of February 1, 2018 to determine the initial valuation. In each interim reporting period subsequent to February 1, 2018, the
model was updated to determine changes in the estimated values. The values allocated to
each component of the debt instrument are set forth below;
Secured Credit Facility, net of all discounts $ 16,786,981
Compound derivative liability 322,164
Share purchase option derivative liability 1,347,853
Stock purchase warrants 1,538,943
Beneficial conversion feature 2,272,775
Legal fees and other 231,284
Subtotal $ 22,500,000
Origination fee and Underwriting fee 2,500,000
Secured Credit Facility $ 25,000,000 The following table presents a reconciliation
of activity under the various debt arrangements for the period from December 31, 2017 to September 30, 2018:
Initial Supplemental Convertible Convertible Secured
Line of Line of Notes Notes Credit
Credit Credit Series A Series B Facility
December 31, 2017, Principal Balance $ (5,000,000 ) $ (3,552,500 ) $ (4,833,200 ) $ (4,724,900 ) $ (5,000,000 )
December 31, 2017, Total, net $ (5,000,000) $ (3,552,500) $ (2,319,862) $ (4,512,035) $ (4,896,565)
Principal
Borrowings - - - - (20,000,000 )
Repayments 5,000,000 3,552,500 - - -
Conversions - - 200,000 - -
- - -
Beginning Balance - Unamortized Debt Issuance Costs - Original Issuer Discount - - 266,509 168,324 103,435
Additions - - - - 4,284,416
Accretion - - (202,335 ) (126,298 ) (1,286,800 )
Ending - Unamortized Debt Issuance Costs - Original Issuer Discount - - 64,174 42,026 3,101,051
Beginning Balance - Unamortized Debt Issuance Costs - Beneficial Conversion Feature - - 1,324,748 44,541 -
Additions - - - - 2,272,775
Accretion - - (1,007,088 ) (33,406 ) (666,523 )
Ending - Unamortized Debt Issuance Costs - Beneficial Conversion Feature - - 317,660 11,135 1,606,252
Beginning Balance - Unamortized Debt Issuance Costs - Warrant Discount - - 922,081 - -
Additions - - - - 1,538,943
Accretion - - (701,134 ) - (451,317 )
Ending - Unamortized Debt Issuance Costs - Warrant Discount - - 220,947 - 1,087,626
September 30, 2018, Principal Balance $ - $ - $ (4,633,200 ) $ (4,724,900 ) $ (25,000,000 )
September 30, 2018, Total, net $ - $ - $ (4,030,419) $ (4,671,739) $ (19,205,071) |
