OCEANIC EXPLORATION COMPANY
AND SUBSIDIARIES
Condensed Consolidated Statements of Cash Flows
(Unaudited)
| | | | | | | | | |
| | | Nine Months Ended | |
| | | September 30, | |
| | | 2006 | | | 2005 | |
| Cash flows from operating activities: | | | | | | | | |
| Net loss | | $ | (1,459,705 | ) | | $ | (1,752,156 | ) |
| Adjustments to reconcile net loss to net cash used in operating activities: | | | | | | | | |
| Depreciation | | | 3,384 | | | | 3,544 | |
| Changes in operating assets and liabilities: | | | | | | | | |
| Increase (decrease) in due from affiliates | | | (83 | ) | | | 46,987 | |
| Increase in prepaid expenses and other assets | | | (14,925 | ) | | | (10,000 | ) |
| Decrease in accounts payable | | | (27,603 | ) | | | (48,990 | ) |
| Increase in accrued expenses | | | 111,688 | | | | 161,958 | |
| Increase in other current liabilities | | | 887 | | | | — | |
| Decrease in other non-current liabilities | | | — | | | | (2,841 | ) |
| Decrease in security for legal costs | | | (1,965 | ) | | | — | |
| Increase (decrease) in United Kingdom taxes payable, including accrued interest payable | | | 77,820 | | | | (44,885 | ) |
| | | | | | | |
| Net cash used in operating activities | | | (1,310,502 | ) | | | (1,646,383 | ) |
| | | | | | | | | |
| Cash used in investing activities: | | | | | | | | |
| Purchase of fixed assets | | | (2,414 | ) | | | — | |
| | | | | | | | | |
| Cash flows from financing activities: | | | | | | | | |
| Use of short-term investments and cash equivalents | | | — | | | | 409,576 | |
| Proceeds from rights offering, net | | | 6,031,610 | | | | — | |
| Payment of note payable to NWO Resources, Inc., including accrued interest | | | (2,569,456 | ) | | | — | |
| Increase in note payable, related party — NWO Resources, Inc., including accrued interest payable | | | 1,177,279 | | | | 917,837 | |
| | | | | | | |
| Net cash provided by financing activities | | | 4,639,433 | | | | 1,327,413 | |
| | | | | | | | | |
| Net increase (decrease) in cash | | | 3,326,517 | | | | (318,970 | ) |
| | | | | | | | | |
| Cash at beginning of period | | | 79,706 | | | | 382,436 | |
| | | | | | | |
| | | | | | | | | |
| Cash at end of period | | $ | 3,406,223 | | | $ | 63,466 | |
| | | | | | | |
See accompanying notes to condensed consolidated financial statements.
OCEANIC EXPLORATION COMPANY
AND SUBSIDIARIES
Condensed Consolidated Statements of Stockholders’ Equity (Deficit)
| | | | | | | | | |
| | | September 30, | | | December 31, | |
| | | 2006 | | | 2005 | |
| | | (unaudited) | | | (audited) | |
| Common stock: | | | | | | | | |
| Balance, beginning of year | | $ | 2,543,055 | | | $ | 2,543,055 | |
| Common stock issued in connection with rights offering | | | 1,187,500 | | | | — | |
| | | | | | | |
| Balance, end of period | | $ | 3,730,555 | | | $ | 2,543,055 | |
| | | | | | | |
| | | | | | | | | |
| Capital in excess of par value: | | | | | | | | |
| Balance, beginning of year | | $ | 3,323,410 | | | $ | 3,323,410 | |
| Additional paid in capital from rights offering | | | | | | | | |
| Net of related costs of $48,390 (note 3) | | | 4,844,110 | | | | — | |
| | | | | | | |
| Balance, end of period | | $ | 8,167,520 | | | $ | 3,323,410 | |
| | | | | | | |
| | | | | | | | | |
| Retained earnings: | | | | | | | | |
| Balance, beginning of year | | $ | (8,394,449 | ) | | $ | (6,196,270 | ) |
| Net loss for the nine months ended September 30, 2006 and the twelve months ended December 31, 2005, respectively | | | (1,459,705 | ) | | | (2,198,179 | ) |
| | | | | | | |
| Balance, end of period | | $ | (9,854,154 | ) | | $ | (8,394,449 | ) |
| | | | | | | |
| | | | | | | | | |
| | | | | | | |
| Total stockholders’ equity (deficit) | | $ | 2,043,921 | | | $ | (2,527,984 | ) |
| | | | | | | |
See accompanying notes to consolidated financial statements.
OCEANIC EXPLORATION COMPANY AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
September 30, 2006
(1)SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
The condensed consolidated balance sheet as of December 31, 2005 that has been derived from audited financial statements, and the unaudited interim condensed consolidated financial statements included herein, have been prepared pursuant to the rules and regulations of the Securities and Exchange Commission. Certain information and note disclosures normally included in annual financial statements, prepared in accordance with accounting principles generally accepted in the United States of America, have been condensed or omitted pursuant to those rules and regulations, although Oceanic Exploration Company (Oceanic or the Company) believes that the disclosures made are adequate to make the information presented not misleading. In the opinion of management, all adjustments consisting of normal recurring accruals have been made which are necessary for the fair presentation of the periods included. Certain amounts recorded in prior periods have been reclassified to conform to current presentation. Interim results are not necessarily indicative of results for a full year. The information included herein should be read in conjunction with the financial statements and notes thereto included in the December 31, 2005 Form 10-KSB.
All of the Company’s revenue is derived from management contracts with related parties. The Company operates as one segment.
(2)PENDING LITIGATION
On March 1, 2004, Oceanic and Petrotimor filed a Complaint in the United States District Court for the District of Columbia. Oceanic and Petrotimor, as plaintiffs, brought this action to redress the harm caused by the defendants’ (collectively including ConocoPhillips, Inc. and designated subsidiaries, the Timor Sea Designated Authority for the Joint Petroleum Development Area, the Timor Gap Joint Authority for the Zone of Cooperation, PT Pertamina and BP Migas) theft, misappropriation and conversion of oil and gas resources within the Company’s 14.8 million-acre Timor Gap concession. On March 1, 2005, the Complaint was amended to reflect claims that the misdeeds of the defendants effectively prevented the Company from competing for concessions granted by the Designated Authority.
The Complaint describes violations of the following United States statutes: Racketeer Influenced Corrupt Organizations Act (RICO), the Lanham Act and the Robinson-Patman Act. The Complaint seeks damages of at least $10.5 billion from the defendants, and cites unjust enrichment, unfair competition, and intentional interference with the contract and prospective economic advantage. Based upon the RICO and anti-trust claims, Oceanic and Petrotimor seek to recover treble damages, reasonable attorneys’ fees and punitive damages.
On February 8, 2005, the Court heard oral arguments on the defendants’ motions to dismiss. The Court denied the defendants’ motions to dismiss as moot. However, the Court also dismissed the plaintiffs’ First Amended Complaint without prejudice to the filing of a Second Amended Complaint, as described below, to more fully reflect the plaintiffs’ case. The Complaint was amended to reflect claims that the Company was effectively prevented from obtaining concessions granted by the Designated Authority due to the misdeeds of the defendants. The Court directed the plaintiffs to precisely respond to each and every argument raised by the defendants’ “compelling motions to dismiss.” The Second Amended Complaint was filed with the Court on March 1, 2005. The defendants filed new motions to dismiss with the Court on March 28, 2005. The Company’s opposition to defendants’ motions to dismiss was filed with the Court on April 18, 2005. A final response by the defendants to the Company’s revised Complaint was filed on April 28, 2005.
On September 21, 2006, the Court issued an Order and Memorandum Opinion deciding these motions. The Court denied the motions of defendants ConocoPhillips, Inc. and ConocoPhillips Company (ConocoPhillips) with respect to Oceanic’s claims under RICO, the Robinson-Patman Act and under common law theories of intentional interference with prospective economic advantage and unfair competition. Since the Court found that Oceanic had stated legally cognizable claims against ConocoPhillips, these two defendants were ordered and did file an answer to the Second Amended Complaint on October 10, 2006. In addition, these two defendants have filed a motion for reconsideration or in the alternative to certify the Order and Memorandum Opinion for interlocutory appeal.
The Court granted ConocoPhillips’ Motion to Dismiss with respect to Oceanic’s claims under the Lanham Act and under the common law theory of unjust enrichment. These claims were dismissed with prejudice. Although the litigation will continue
against the two ConocoPhillips’ parent corporations, the Court also granted ConocoPhillips’ Motion to Dismiss the ConocoPhillips’ domestic and foreign subsidiaries on jurisdictional grounds. The domestic subsidiaries were dismissed without prejudice. Based on the Act of State Doctrine, the Court dismissed with prejudice all claims against the Timor Sea Designated Authority and related entities.
As stated in the Second Amended Complaint, the Company has consistently proposed to locate liquefied natural gas facilities in East Timor which would significantly benefit the people of East Timor, yet the Company has not been given an opportunity to bid on production sharing contracts granted by the Designated Authority due to bribes and corruption. Under these circumstances, the Company believes it is entitled to prove its case, and if given the opportunity by the Court, intends to do so. The Company continues to believe that it has a persuasive case against the defendants based on the evidence.
The Company anticipates that the defendants will continue to deny the allegations of the Second Amended Complaint and will otherwise vigorously defend against the Company’s claims. We anticipate that ConocoPhillips will raise additional defenses. These could include factual defenses to the allegations in the Complaint as well as additional legal arguments. We understand that pursuing this lawsuit fully in 2006 could take substantial time by our personnel, and that we could incur substantial expense. The current litigation has been pending for over two years and is still at a preliminary stage. This litigation may extend over many years. Certain of the defendants are well-capitalized and are financially able to bear substantial legal costs over an extended period. The Company will require additional resources in connection with this litigation if it continues after the proceeds from the rights offering have been spent. We believe that the financial opportunity justifies this substantial commitment of time and expense. However, we cannot predict the outcome of the litigation and there is a possibility that the Company will not recover the damages it is seeking.
(3)EXPLORATION EXPENSES
On August 21, 2001, Oceanic and Petrotimor issued a Statement of Claim (as amended) out of the Federal Court of Australia against the Commonwealth of Australia, the Joint Authority established under the Timor Gap Treaty and the Phillips Petroleum companies operating within the Timor Gap area (the Respondents). Oceanic and Petrotimor claimed that the Timor Gap Treaty and the related legislation of the Australian Parliament was void or invalid for a number of reasons including (i) the Timor Gap Treaty and the legislation sought to claim significant portions of the continental shelf over which it had no sovereign rights for Australia, which the Company believes under international law belonged to East Timor, and (ii) the Timor Gap Treaty and the legislation attempted to extinguish the property interest and rights granted by the then legitimate power, Portugal, to Oceanic and Petrotimor, without providing for just compensation as required by Australian law. On February 3, 2003, the Federal Court of Australia issued an adverse decision in Petrotimor v. Commonwealth of Australia. The Federal Court ruled that it lacked the jurisdiction to hear the claims made by Oceanic and Petrotimor. The Company sought special leave in 2003 to appeal to the High Court. These appeals were discontinued on February 6, 2004 when the Company determined that the most appropriate venue, under the circumstances, would be in the United States courts.
As part of the Australian litigation, Oceanic was required to provide Bank Guarantees as security for costs. The Australia and New Zealand Banking Group (ANZ Bank) in Sydney, Australia provided the necessary guarantees. As of September 30, 2006 and December 31, 2005, the Company had $288,980 and $274,459, respectively, on deposit with ANZ Bank as collateral for the guarantees. The change in the balance is due to the exchange rate fluctuation between the U.S. and Australian dollars offset by interest earned on the account. In September, 2005 the Australian Government Solicitor accepted the Company’s offer of $250,000 AU ($186,708 in U.S. dollars) in full and final settlement of their outstanding costs. We expect this amount to be withdrawn from this bank account in the near future. The Company believes that the deposit will be forfeited to pay for the defendants’ legal expenses. At the present time, the Company is unable to quantify the total costs and expenses that may be assessed against it by the Court.
During the nine months ended September 30, 2006 and 2005, the Company incurred expenses of $907,160 and $1,258,296, respectively, specifically related to legal, consulting and commercial activities in Australia and the Timor Gap area. These expenses have been recorded as exploration expenses in the accompanying statements.
Although Oceanic is not currently directly involved in any other oil and gas exploration or production activities, the Company continues to evaluate potential exploration and production activities elsewhere in the world. The Company did not receive any revenue from oil and gas properties in 2005 or 2004. Other than the potential recovery of damages from the pending litigation, the Company is not currently conducting any activities that would result in material oil and gas revenue in 2006.
(4)CAPITAL STOCK
On March 6, 2006, the Board of Directors unanimously voted to increase the authorized common stock from 50,000,000 shares to 100,000,000 shares. This was adopted by written consent on May 8, 2006 by holders entitled to vote a majority of the outstanding shares of the Company’s common stock. The Company filed a Certificate of Amendment to its Amended and Restated Certificate of Incorporation, effecting this increase with the Secretary of State of the State of Delaware on July 13, 2006.
On May 18, 2006, the Company filed a Registration Statement on Form SB-2 with the Securities and Exchange Commission registering shares of common stock to be issued to stockholders pursuant to a rights offering. Under the terms of the rights offering, the Company offered the holders of its common stock the rights to subscribe for additional shares at a purchase price of $.32 per share on the basis of 0.466958 shares of common stock for each share held as of September 19, 2006. A total of 19,000,000 shares of common stock were offered to all stockholders. The Registration Statement was declared effective on June 19, 2006 and copies of the corresponding prospectus and subscription documents were subsequently mailed to stockholders.
The rights to purchase common stock expired on July 21, 2006. The following subscriptions were accepted by the Company, resulting in gross proceeds of $6,080,000:
| | • | | 16,050,851 shares of common stock, at an aggregate purchase price of $5,136,272, pursuant to the basic subscription rights, and |
| |
| | • | | 2,949,149 shares of common stock, at an aggregate purchase price of $943,728, pursuant to the over-subscription privilege. |
The Company also received, but did not accept, subscriptions for an additional 43,337 shares of common stock pursuant to the over-subscription privilege. The $13,868 received by the Company as a result of these unaccepted subscriptions was returned to the subscribing shareholders immediately after the expiration date of the rights offering.
NWO Resources, Inc. (NWO) purchased 18,949,116 shares of common stock in the rights offering pursuant to its basic subscription rights and over-subscription privilege. At the completion of the rights offering, NWO’s ownership increased from 84.2% to 89.2%.
The proceeds of the rights offering will be used to pay off the note and accrued interest with NWO, fund the cost of the rights offering, to pay for the legal and professional expenses associated with the Petrotimor lawsuit and to cover the cost of operations.
(5)NOTE PAYABLE – RELATED PARTY
In 2005, the Company established a line of credit with NWO, Oceanic’s principal shareholder, evidenced by a promissory note in the amount of $2,000,000 at an interest rate of 2% over the prime rate with repayment due on or before March 6, 2006. In addition, NWO committed to increase the line of credit to $4,000,000 under certain circumstances. These circumstances occurred and the promissory note was increased to $4,000,000 with a due date of March 6, 2007. On July 24, 2006, after the termination of the rights offering, the Company paid the note and accrued interest in full, paying NWO $2,569,456 in principal and interest as of that date. The line of credit was then terminated.
The Company believes that the cash on hand at September 30, 2006, plus cash generated from 2006 revenues will be sufficient to fund operations beyond December 31, 2006. The status of Oceanic’s current litigation may substantially affect our need for and the ability to raise capital in the long-term.
(6)INCOME TAXES
Oceanic and NWO maintain a tax-sharing agreement with the same provisions applicable to all subsidiaries included in NWO’s consolidated return. Oceanic’s tax provision is calculated using the then-current statutory rates, on a stand-alone basis, and specifically estimating the book-tax differences, including the share of any differences applied ratably to all subsidiaries. Oceanic includes a tax benefit from losses to the extent of the previous profits, but only to the extent such profits were included in the NWO consolidated return. To the extent a tax benefit for a loss has not been previously allowed,
and Oceanic has profits in a future year which falls within the period to which, on a stand-alone basis, the prior tax loss could be carried forward under United States tax rules, the benefit of the loss will be included in the provision to the extent the loss would provide a tax benefit on a stand-alone basis.
In evaluating the realizability of the net deferred tax assets, the Company takes into account a number of factors, primarily relating to the ability to generate taxable income. Where it is determined that it is likely that the Company will be unable to realize deferred tax assets, a valuation allowance is established against the portion of the deferred tax asset.
Because it cannot be accurately determined when the Company will become profitable, a valuation allowance was provided against the entire deferred income tax asset attributable to the net operating loss incurred during the nine months ended September 30, 2006 and 2005.
The foreign tax credit carryforwards of Oceanic from taxable periods prior to April 2, 2003 expired in 2005.
(7)OIL AND GAS INTERESTS
Oceanic holds various interests in concessions or leases for oil and gas exploration around the world as described in the December 31, 2005 Form 10-KSB. Costs for these oil and gas property interests have been charged to expense in prior years so no amounts are reflected on the balance sheet. The Company is not currently conducting any direct exploration activities other than pursuing legal claims relating to the disputed oil and gas concession existing in the Timor Gap between East Timor and Australia.
(8)NEW ACCOUNTING PRONOUNCEMENTS
In September 2006, the SEC staff issued Staff Accounting Bulletin (SAB) No. 108, “Considering the Effects of Prior Year Misstatements when Quantifying Misstatements in Current Year Financial Statements.” SAB 108 was issued to provide consistency between how registrants quantify financial statement misstatements. The provisions of SAB 108 are effective for the annual period ending after November 15, 2006. The Company is currently determining the effect, if any, the adoption of SAB 108 will have on its financial statements.
In June 2006, the Financial Accounting Standards Board issued FASB Interpretation No. 48, Accounting for Uncertainty in Income Taxes – an Interpretation of FASB statement 109 (FIN 48). FIN 48 clarifies the accounting for uncertainty in income taxes recognized in an entity’s financial statements and provides guidance on the recognition, de-recognition, and measurement of benefits related to an entity’s uncertain tax positions. FIN 48 is effective for the Company beginning January 1, 2007. The Company is currently evaluating the impact of its adoption of FIN 48 on its financial position and results of operations.
ITEM 2.MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
Any statements that are contained in this Form 10-QSB that are not statements of historical fact are forward-looking statements. Readers can identify these statements by words such as ‘may,’ ‘will,’ ‘expect,’ ‘anticipate,’ ‘estimate,’ ‘continue’ or other similar words. These statements discuss future expectations, contain projections of results of operations or financial condition or state other forward-looking information and are based on certain assumptions and analyses made by the Company in light of its experience and its perception of historical trends, current conditions, expected future developments and other factors it believes are appropriate in the circumstances. Such statements are subject to a number of assumptions, risks and uncertainties, including such factors as uncertainties in cash flow, expected costs of litigation, the outcome of litigation, the potential impact of government regulations and rulings, fluctuations in the economic environment and other such matters, many of which are beyond the control of the Company. Readers are cautioned that forward-looking statements are not guarantees of future performance and that actual results or developments may differ materially from those expressed or implied in the forward-looking statements.
The following discussion and analysis should be read in conjunction with Oceanic’s condensed consolidated financial statements and notes thereto as of December 31, 2005 and September 30, 2006 and 2005, for the respective periods then ended.
Critical Accounting Policies
The discussion and analysis of financial condition and results of operations is based on the Company’s condensed consolidated financial statements, which have been prepared in accordance with generally accepted accounting principles in the United States of America. The preparation of these financial statements requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities, the disclosure of contingent liabilities and the reported amounts of revenues and expenses. On an on-going basis, management evaluates the estimates including those related to the realizability of income tax assets and the provision for loss contingencies. These estimates are based on historical experience and on various other assumptions that are believed to be reasonable under the circumstances, the results of which form the basis for making judgments about the carrying values of assets and liabilities that are not readily apparent from other sources. Actual results could differ from those estimates. Management believes the following critical accounting policies affect the significant judgments and estimates used in the preparation of the Company’s condensed consolidated financial statements.
To record income tax expense, the Company is required to estimate income taxes in each of the jurisdictions in which it operates. This involves estimating actual current tax exposure together with assessing temporary differences that result in deferred tax assets and liabilities and expected future tax rates. The Company records a valuation allowance to reduce the deferred tax assets to an amount that management believes is more likely than not to be realized. Management considers future taxable income and prudent and feasible tax planning strategies in assessing the need for a valuation allowance. If management subsequently determines that the Company will realize more or less of the net deferred tax assets in the future, such adjustment would be recorded as an increase or reduction of income tax expense in the period such determination is made.
In evaluating the need to provide for contingent liabilities, the Company takes into account a number of factors, including the expected likelihood of an unfavorable outcome and the ability to reasonably estimate the financial impact of an unfavorable outcome and management’s intentions with respect to the contingency.
Liquidity and Capital Resources
Oceanic has historically addressed long-term liquidity needs for oil and gas exploration and development through the use of farm-out agreements. Under such agreements, the Company sells a portion of its ownership interest in the concession to an outside party who is then responsible for the exploration activities. This is a strategy that management intends to continue in the event it becomes feasible to begin further exploration in any of the areas where the Company currently owns concessions.
Cash Flow.Cash used in operating activities was $1,310,502 for the first nine months of 2006, compared to $1,646,383 in the first nine months of 2005. Financing activities, including net proceeds from the rights offering, generated positive cash flows in the first nine months of 2006 of $4,639,433 compared to the 2005 borrowings of $917,837 and proceeds from the sale of short-term investments of $409,576. The first nine months of 2006 ended with a net increase in total cash of $3,326,517. During the nine months ended September 30, 2006 and 2005, Oceanic made actual cash payments of $727,291 and $862,795, respectively, related to legal and professional activities in Australia and the Timor Gap area. An additional $195,559 of expenses were accrued and remained unpaid as of September 30, 2006. These costs are included in exploration expenses. Exploration expenses have decreased in 2006 compared to the same period in 2005, primarily because of the lack of court activity until September 2006. Until a final judgment is obtained or settlement of the lawsuit occurs, exploration expenses will continue to be high and will consume most of Oceanic’s cash resources.
Oceanic had $3,406,223 in cash at September 30, 2006 compared with $79,706 in cash and cash equivalents at December 31, 2005. The Company had a positive working capital of $2,785,975 at September 30, 2006 compared to a negative working capital of $1,864,720 at December 31, 2005. Negative working capital occurs where current liabilities exceed cash and other current assets. This increase in working capital from December 31, 2005 to September 30, 2006 was primarily a result of the proceeds from the rights offering.
Revenue.Oceanic provides management services to various entities with which our Chairman of the Board of Directors and Chief Executive Officer is affiliated. Services provided are:
| | • | | Management, administrative and bookkeeping services to San Miguel Valley Corporation (San Miguel), |
| |
| | • | | Management, administrative and professional services to Cordillera Corporation (Cordillera), and |
| |
| | • | | Consulting services, including monitoring exploration and production activities on a worldwide basis to identify potential investment opportunities for Harvard International Resources Ltd. (HIRL). |
Together, these management services provided all of Oceanic’s total revenue for the nine months ended September 30, 2006 and 2005.
Management Fee Revenue
(Unaudited)
| | | | | | | | | | | | | | | | | |
| | | Nine months ended September 30, | | | | |
| | | 2006 | | | | | | | 2005 | | | | | |
Company | | | | | | | | | | | | | | | | |
| Cordillera Corporation | | $ | 328,545 | | | | 41 | % | | $ | 355,230 | | | | 50 | % |
| San Miguel Valley Corporation | | | 443,790 | | | | 56 | % | | | 320,580 | | | | 45 | % |
| Harvard International Resources, Ltd. | | | 25,330 | | | | 3 | % | | | 38,368 | | | | 5 | % |
| | | | | | | | | | | | | | | |
| Total management fee revenue | | $ | 797,665 | | | | | | | $ | 714,178 | | | | | |
| | | | | | | | | | | | | | | |
Except for the contract with HIRL, all labor services are provided at payroll cost plus benefits and include a 5% markup on that total to cover the administrative expense. This charge is calculated annually and readjusted at year-end. All expenses are billed at cost. The purpose of the management agreements is to avoid duplication of functions and costs for the economic benefit of all of the companies involved.
Results of Operations
Revenue.Management fee revenue for the nine months ended September 2006 increased $83,487 or 12%, compared to the nine months ended September 30, 2005. The total increase is due to an increase in the fees charged to San Miguel, offset by a smaller decrease in fees charged to Cordillera. Because the level of service is dependent upon the needs of the applicable corporations and available employees, it is normal to see fluctuations in management fee rates from year to year.
Although Oceanic is not currently directly involved in any other oil and gas exploration or production activities, the Company continues to evaluate potential exploration and production activities elsewhere in the world, including Indonesia and the United States. The Company did not receive any revenue from oil and gas properties in 2005. Other than the potential recovery of damages from the pending litigation, the Company is not currently conducting any activities that would result in oil and gas revenue in 2006.
Exploration Expenses.The Company continues to have ongoing legal and professional fees associated with the litigation in the U.S. District Court and the pursuit of commercial opportunities in East Timor. During the nine months ended September 30, 2006 and 2005, the Company incurred total exploration expenses of $922,850 and $1,282,238, respectively. These related primarily to legal and professional fees associated with the litigation in the U.S. court and the pursuit of commercial opportunities in East Timor. These expenses have been recorded as exploration expenses.
As part of the Australian litigation, Oceanic was required to provide Bank Guarantees as security for costs. The Australia and New Zealand Banking Group (ANZ Bank) in Sydney, Australia provided the necessary guarantees. As of September 30, 2006 and December 31, 2005, the Company had $288,980 and $274,459, respectively, on deposit with ANZ Bank as collateral for the guarantees. The change in the balance is due to the exchange rate fluctuation between the U.S. and Australian dollars offset by interest earned on the account. In September, 2005 the Australian Government Solicitor accepted the Company’s offer of $250,000 ($186,708 U.S. dollars) in full and final settlement of their outstanding costs. We expect this amount to be withdrawn from this bank account in the near future. The Company believes that the deposit will be forfeited to pay for the defendants’ legal expenses. At the present time, the Company is unable to quantify the total costs and expenses that may be assessed against it by the Court.
Pending Litigation.On March 1, 2004, Oceanic and Petrotimor filed a Complaint in the United States District Court for the District of Columbia. Oceanic and Petrotimor, as plaintiffs, brought this action to redress the harm caused by the defendants’ (collectively including ConocoPhillips, Inc. and designated subsidiaries, the Timor Sea Designated Authority for the Joint Petroleum Development Area, the Timor Gap Joint Authority for the Zone of Cooperation, PT Pertamina and BP Migas) theft, misappropriation and conversion of oil and gas resources within our 14.8 million-acre Timor Gap concession. On March 1, 2005, the Complaint was amended to reflect claims that the misdeeds of the defendants effectively prevented the Company from competing for concessions granted by the Designated Authority.
The Complaint describes violations of the following United States statutes: Racketeer Influenced Corrupt Organizations Act (RICO), the Lanham Act and the Robinson-Patman Act. The Complaint seeks damages of at least $10.5 billion from the
defendants, also citing unjust enrichment, unfair competition, and intentional interference with the contract and with prospective economic advantage. Based upon the RICO and anti-trust claims, Oceanic and Petrotimor seek to recover treble damages, reasonable attorneys’ fees and punitive damages.
On February 8, 2005, the Court heard oral arguments on the defendants’ motions to dismiss. The Court denied the defendants’ motions to dismiss as moot. However, the Court also dismissed the plaintiffs’ First Amended Complaint without prejudice to the filing of a Second Amended Complaint, as described above, to more fully reflect the plaintiffs’ case. The Complaint was amended to reflect claims that the Company was effectively prevented from obtaining concessions granted by the Designated Authority due to the misdeeds of other defendants. The Court directed the plaintiffs to precisely respond to each and every argument raised by the defendants’ “compelling motions to dismiss.” The Second Amended Complaint was filed with the Court on March 1, 2005. The defendants filed new motions to dismiss with the Court on March 28, 2005. The Company’s opposition to defendants’ motions to dismiss was filed with the Court on April 18, 2005. A final response, by the defendants, to the Company’s revised Complaint was filed on April 28, 2005.
On September 21, 2006, the Court issued an Order and Memorandum Opinion deciding these motions. The Court denied the motions of defendants ConocoPhillips, Inc. and ConocoPhillips Company (ConocoPhillips) with respect to Oceanic’s claims under RICO, the Robinson-Patman Act and under common law theories of intentional interference with prospective economic advantage and unfair competition. Since the Court found that Oceanic had stated legally cognizable claims against ConocoPhillips, these two defendants were ordered and did file an answer to the Second Amended Complaint on October 10, 2006. In addition, these two defendants have filed a motion for reconsideration or in the alternative to certify the Order and Memorandum Opinion for interlocutory appeal.
The Court granted ConocoPhillips’ Motion to Dismiss with respect to Oceanic’s claims under the Lanham Act and under the common law theory of unjust enrichment. These claims were dismissed with prejudice. Although the litigation will continue against the two ConocoPhillips’ parent corporations, the Court also granted ConocoPhillips’ Motion to Dismiss the ConocoPhillips’ domestic and foreign subsidiaries on jurisdictional grounds. The domestic subsidiaries were dismissed without prejudice. Based on the Act of State Doctrine, the Court dismissed with prejudice all claims against the Timor Sea Designated Authority and related entities.
As stated in the Second Amended Complaint, the Company has consistently proposed to locate liquefied natural gas facilities in East Timor which would significantly benefit the people of East Timor, yet the Company has not been given an opportunity to bid on production sharing contracts granted by the Designated Authority due to bribes and corruption. Under these circumstances, the Company believes it is entitled to prove its case, and if given the opportunity by the Court, intends to do so. The Company continues to believe that it has a persuasive case against the defendants based on the evidence.
The Company anticipates that the defendants will continue to deny the allegations of the Second Amended Complaint and will otherwise vigorously defend against the Company’s claims. We anticipate that ConocoPhillips will raise additional defenses. These could include factual defenses to the allegations in the Complaint as well as additional legal arguments. We understand that pursuing this lawsuit fully in 2006 and 2007 could take substantial time by our personnel, and that we could incur substantial expense. The current litigation has been pending for over two years and is still at a preliminary stage. This litigation may extend over many years. Certain of the defendants are well-capitalized and are financially able to bear substantial legal costs over an extended period. The Company will require additional resources in connection with this litigation if it continues after the proceeds from the rights offering have been spent. We believe that the financial opportunity justifies this substantial commitment of time and expense. However, we cannot predict the outcome of the litigation and there is a possibility that the Company will not recover the damages it is seeking.
General and Administrative Expenses.Total general and administrative costs and expenses for the nine months ended September 30, 2006 decreased by $4,328 from the same period in 2005. While total expenses remained very similar between the two years, the most significant differences in expenses were:
| | • | | Legal fees decreased approximately $30,200 from amounts spent in 2005, due to the resolution of legal issues and less use of outside attorneys; |
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| | • | | The Company’s lease was renegotiated in November 2005, reducing the monthly rent by $1,041 or $9,356 year to date; |
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| | • | | Group insurance increased by approximately $22,000 for the first nine months of 2006 compared to the same time period in 2005, because of an increase in rates. |
Other Income and Expense.Interest income for the nine months ended September 30, 2006 is $43,714 which is $32,215 higher than the amount for the same period last year. This is because the Company did not have available cash to invest in 2005. Interest income increased substantially for this quarter because of increased cash balances in August and September 2006, placed in low-risk investments, resulting from the proceeds of the rights offering. Interest expense of $17,678 is from the United Kingdom estimated tax liability, which is compounded on both static principal and the increasing accrued interest payable. Additional interest of $102,278 was paid on the note payable to NWO. Non-cash foreign exchange losses of $50,982 at September 30, 2006 versus gains of $52,199 at September 30, 2005 resulted from the fluctuations in exchange rates in 2006 and 2005 between the U.S. dollar, the British pound, the Euro and the Australian dollar.
ITEM 3. CONTROLS AND PROCEDURES
At the end of the period covered by this report, the President and the Chief Financial Officer carried out an evaluation, which included inquiries made to certain other of our employees, of the Company’s disclosure controls and procedures (as defined in Rules 13a–15(e) and 15d–15(e) under the Securities Exchange Act of 1934) as of the end of the period covered by this report.
Based upon that evaluation, the President and Chief Financial Officer have concluded that the design and operation of the Company’s disclosure controls and procedures were effective to ensure that information required to be disclosed by the Company in reports that it files or submits under the Exchange Act is recorded, processed, summarized and reported within the time period specified in SEC rules and forms.
There have been no changes in the Company’s internal controls over financial reporting that occurred during the period covered by this report that has materially affected, or is reasonably likely to materially affect, our internal controls over financial reporting.
PART II — OTHER INFORMATION
ITEM 1.LEGAL PROCEEDINGS
Legal proceeding developments in 2005 were reported in the December 31, 2005 Form 10-KSB. See the ‘Pending Litigation’ sections in Management’s Discussion and Analysis above for activity through November 8, 2006.
ITEM 6.EXHIBITS AND REPORTS ON FORM 8-K
| (a) | | Exhibits filed herewith are listed below and attached to this report. The ‘Exhibit Number’ refers to the Exhibit Table in Item 601 of Regulation S-B. |
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| Exhibit Number | | Name of Exhibit |
| 31.1 | | Rule 13a4-14(a) Certification of Chief Executive Officer |
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| 31.2 | | Rule 13a4-14(a) Certification of Chief Financial Officer |
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| 32.1 | | Rule 13a4-14(b) Certification of Officers |
| (b) | | On July 25, 2006, the Company filed a Form 8-K dated July 21 to report the results from the rights offering. |
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| (c) | | On September 25, 2006, the Company filed a Form 8-K dated September 25 to report the decision rendered by the United States District Court for the District of Columbia. |
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.
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| | Oceanic Exploration Company
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| Date: November 9, 2006 | /s/ Charles N. Haas | |
| | Charles N. Haas — President | |
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| Date: November 9, 2006 | /s/ Courtney Cowgill | |
| | Courtney Cowgill — Chief Financial Officer | |
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EXHIBIT INDEX
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| Exhibit Number | | Name of Exhibit |
| 31.1 | | Rule 13a4-14(a) Certification of Principal Executive Officer |
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| 31.2 | | Rule 13a4-14(a) Certification of Chief Financial Officer |
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| 32.1 | | Rule 13a4-14(b) Certification of Officers |
