SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-Q
[X] QUARTERLY REPORT UNDER SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934
FOR THE QUARTERLY PERIOD ENDED MARCH 31, 1999
OR
[ ] TRANSITION REPORT UNDER SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934
FOR THE TRANSITION PERIOD FROM ______ TO _______
COMMISSION FILE NUMBER: 0-8043
SOUTHERN MINERAL CORPORATION
(Exact Name of Registrant as Specified in Its Charter)
NEVADA 36-2068676
(State or Other Jurisdiction of (I.R.S. Employer
Incorporation or Organization) Identification No.)
1201 LOUISIANA, SUITE 3350 77002-5609
HOUSTON, TEXAS (Zip Code)
(Address of Principal Executive Offices)
Registrant's Telephone Number, Including Area Code: (713) 658-9444
Check 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 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 [X] No [ ]
Indicate the number of shares outstanding of each of the issuer's classes
of common equity, as of the latest practicable date: As of May 4, 1999, there
were 12,803,488 shares of the Registrant's common stock outstanding.
SOUTHERN MINERAL CORPORATION
TABLE OF CONTENTS
PART I. FINANCIAL INFORMATION
Item 1. Unaudited Consolidated Financial Statements
CONSOLIDATED FINANCIAL STATEMENTS:
Consolidated Balance Sheets as of March 31, 1999
(unaudited) and December 31, 1998 ................................. 3
Unaudited Consolidated Statements of Operations for
the three months ended March 31, 1999 and 1998 .................... 4
Unaudited Consolidated Statements of Cash Flows for
the three months ended March 31, 1999 and 1998 .................... 5
Notes to Consolidated Financial Statements .......................... 6
Item 2. Management's Discussion and Analysis of Financial
Condition and Results of Operations
Financial Condition and Results of Operations .................. 11
Liquidity and Capital Resources ................................ 12
Item 3. Quantitative and Qualitative Disclosures about Market Risk ..... 16
PART II. OTHER INFORMATION
Item 6. Exhibits and Reports on Form 8-K ............................... 17
2
PART I - FINANCIAL INFORMATION
ITEM 1. UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS
SOUTHERN MINERAL CORPORATION AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEET
(in thousands, except share amounts)
MARCH 31, DECEMBER 31,
1999 1998
--------- ---------
ASSETS (UNAUDITED)
CURRENT ASSETS
Cash ............................................. $ 677 $ 1,541
Receivables ...................................... 4,810 5,602
Other ............................................ 680 633
--------- ---------
Total current assets ....................... 6,167 7,776
PROPERTY AND EQUIPMENT, AT COST USING SUCCESSFUL
EFFORTS METHOD FOR OIL AND GAS ACTIVITIES
Oil and gas producing properties............ 138,339 136,833
Mineral rights ............................. -- 167
Unproven properties ........................ 3,673 3,634
Office equipment ........................... 547 580
Accumulated depreciation, depletion and
amortization ............................. (30,149) (27,027)
--------- ---------
112,410 114,187
PROPERTIES HELD FOR SALE AND OTHER ................. 6,543 6,327
--------- ---------
Total assets ............................... $ 125,120 $ 128,290
========= =========
LIABILITIES AND STOCKHOLDERS' EQUITY
CURRENT LIABILITIES
Accounts payable ............................... $ 7,455 $ 10,300
Canadian bank loan ............................. 18,590 18,490
Current portion of long-term debt .............. 13,169 13,124
--------- ---------
Total current liabilities ................... 39,214 41,914
LONG-TERM DEBT (LESS CURRENT PORTION) .............. 60,273 64,370
DEFERRED INCOME TAXES .............................. 7,204 7,279
STOCKHOLDERS' EQUITY
Preferred stock, par value $.01 per share;
authorized 5,000,000 shares at
March 31, 1999; none issued ................ -- --
Common stock, par value $.01 per share;
authorized 50,000,000 shares at
at March 31, 1999; issued 12,894,711
and 12,884,672 shares at March 31,
1999 and December 31, 1998, respectively;
outstanding 12,803,488 and 12,793,449
shares at March 31, 1999 and
December 31, 1998, respectively ............ 129 128
Additional paid-in capital ...................... 30,852 30,848
Accumulated other comprehensive loss-foreign
currency translation adjustment ............ (1,535) (2,304)
Retained deficit ................................ (10,965) (13,893)
Less: Treasury stock ............................ (52) (52)
--------- ---------
Total stockholders' equity ....... 18,429 14,727
--------- ---------
Total liabilities and
stockholders' equity ........... $ 125,120 $ 128,290
========= =========
The accompanying notes to consolidated financial statements of Southern Mineral
Corporation and subsidiaries are an integral part of these statements.
3
SOUTHERN MINERAL CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS
(in thousands, except per share amounts)
THREE MONTHS ENDED
MARCH 31,
----------------------
1999 1998
-------- --------
(UNAUDITED)
REVENUE
Oil and gas ..................................... $ 5,621 $ 4,410
Gains on sales of properties and other assets ... 5,073 4
-------- --------
10,694 4,414
EXPENSES
Production ..................................... 2,081 1,163
Exploration .................................... 47 139
Depreciation, depletion and amortization ....... 3,081 1,610
General and administrative ..................... 1,040 1,060
-------- --------
6,249 3,972
-------- --------
Income from operations ............................. 4,445 442
Other income, expenses and deductions
Interest and other income ...................... 27 92
Interest and debt expense ...................... (1,774) (834)
-------- --------
Income (loss) before income taxes .................. 2,698 (300)
Provision (benefit) for foreign, federal and
state income taxes
Current provision .............................. 33 25
Deferred benefit ............................... (263) (30)
-------- --------
(230) (5)
-------- --------
Net income (loss) ................................. $ 2,928 $ (295)
======== ========
Net income (loss) per share-basic ................. $ .23 $ (0.03)
======== ========
Net income (loss) per share-diluted ............... $ .20 $ (0.03)
======== ========
Weighted average number of shares
outstanding-basic ............................... 12,800 11,486
======== ========
Weighted average number of shares
outstanding-diluted ............................. 17,812 11,486
======== ========
The accompanying notes to consolidated financial statements of Southern Mineral
Corporation and subsidiaries are an integral part of these statements.
4
SOUTHERN MINERAL CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
(in thousands)
THREE MONTHS ENDED
MARCH 31,
---------------------
1999 1998
------- --------
(UNAUDITED)
CASH FLOWS FROM OPERATING ACTIVITIES
Net income (loss) ................................ $ 2,928 $ (295)
Adjustments to net income ........................ (4,439) (176)
------- --------
NET CASH USED IN OPERATING
ACTIVITIES .......................... (1,511) (471)
CASH FLOWS FROM INVESTING ACTIVITIES
Proceeds from sales of properties ............... 6,204 5
Acquisition of Amerac, net of cash received ..... -- (8,242)
Acquisition of Neutrino, net of cash received ... 285 --
Capital expenditures ............................ (1,161) (8,136)
------- --------
NET CASH PROVIDED BY (USED IN)
INVESTING ACTIVITIES ................ 5,328 (16,373)
CASH FLOWS FROM FINANCING ACTIVITIES
Payments of long-term debt ...................... (4,437) --
Proceeds from long-term debt .................... -- 7,800
Debenture offering costs ........................ -- (12)
Payments on note payable ........................ -- (208)
Loan acquisition costs .......................... (258) (68)
------- --------
NET CASH (USED IN) PROVIDED BY
FINANCING ACTIVITIES ................ (4,695) 7,512
EFFECT OF EXCHANGE RATE CHANGES ON CASH ............ 14 --
------- --------
NET DECREASE IN CASH AND CASH
EQUIVALENTS ......................... (864) (9,332)
Cash and cash equivalents at beginning of period ... 1,541 10,011
------- --------
Cash and cash equivalents at end of period ......... $ 677 $ 679
======= ========
SUPPLEMENTAL DISCLOSURE OF CASH FLOW INFORMATION
Cash paid for interest .......................... $ 2,940 $ 1,412
Cash paid for taxes ............................. 45 27
NON-CASH INVESTING AND FINANCING ACTIVITIES
Issuance of common stock in exchange for
Amerac common stock ........................... $ 0 $ 15,000
Issuance of common stock for property
acquisition ................................... 0 50
Directors' fees paid in stock ................... 5 82
The accompanying notes to consolidated financial statements of Southern Mineral
Corporation and subsidiaries are an integral part of these statements.
5
SOUTHERN MINERAL CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 1. BASIS OF PRESENTATION
The consolidated financial statements included herein have been prepared by the
Company, without audit, pursuant to the rules and regulations of the Securities
and Exchange Commission. Certain information and note disclosures normally
included in financial statements prepared in accordance with generally accepted
accounting principles have been condensed or omitted pursuant to such rules and
regulations, though the Company believes that the disclosures are adequate to
make the information presented not misleading. These consolidated financial
statements should be read in conjunction with the financial statements and the
notes thereto included in the Company's latest Annual Report to the Securities
and Exchange Commission on Form 10-K, as amended, for the year ended December
31, 1998. In the opinion of the Company, all adjustments, consisting only of
normal recurring adjustments, necessary to present fairly the financial position
as of March 31, 1999 and December 31, 1998, the results of operations for the
three months ended March 31, 1999 and 1998 and statements of cash flows for the
three months then ended have been included.
USE OF ESTIMATES -The preparation of financial statements in conformity with
generally accepted accounting principles requires management to make estimates
and assumptions that affect the reported amount of assets and liabilities and
disclosure of contingent assets and liabilities at the date of the financial
statements and the reported amounts of revenues and expenses during the
reporting period. Actual results could differ from those estimates.
EARNINGS (LOSS) PER SHARE - Basic earnings per share is based on the weighted
average shares outstanding without any dilutive effects considered. Diluted
earnings per share reflects dilution from all potential common shares, including
options and convertible debt.
For the period ended March 31, 1998, the issuance or conversion of potential
common shares of 5,164,000 would have had an antidilutive effect on the diluted
earnings per share calculation and therefore were not considered in the
calculation of the diluted weighted average number of shares outstanding.
RECLASSIFICATIONS - Certain amounts in prior financial statements may have been
reclassified to conform to the 1999 financial statement presentation.
COMPREHENSIVE INCOME - Comprehensive income includes all changes in a company's
equity, including, among other things, foreign currency translation adjustments
and unrealized gains (losses) on marketable securities classified as
available-for-sale. The Company's total comprehensive income (loss) for the
three months ended March 31, 1999 and 1998 was as follows (in thousands):
THREE MONTHS ENDED
MARCH 31,
-------------------
1999 1998
------ -----
Net income (loss) .................................. $2,928 $(295)
Foreign currency translation adjustment ............ 769 26
------ -----
Total comprehensive income (loss) .............. $3,697 $(269)
====== =====
6
SOUTHERN MINERAL CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS-(CONTINUED)
NOTE 2. ACQUISITIONS AND DIVESTITURES
NEUTRINO
On June 23, 1998, the Company agreed to acquire 92.3% of the outstanding common
shares of Neutrino Resources Inc. ("Neutrino"), which was effective as of June
30, 1998 and funded on July 2, 1998. On July 3, 1998, the Company initiated a
compulsory acquisition of the remaining Neutrino shares outstanding, which was
effective as of June 30, 1998 and funded on July 21, 1998. The Company acquired
Neutrino through a cash tender offer for the common shares outstanding, and
assumed Neutrino's bank debt and working capital deficit. Neutrino is an
independent oil and gas company located in Calgary, Canada. The merger was
accounted for as a purchase. The total purchase price of approximately
$56,903,000, consisted of the following:
Cash consideration for common stock ........... $34,091,000
Fair value of 324,430 shares of common stock... 1,095,000
Debt assumed and working capital deficit ...... 20,050,000
Legal, accounting and transaction costs ....... 1,667,000
-----------
$56,903,000
===========
The allocation of the purchase price is summarized as follows:
Oil and gas properties and other assets (net)... $ 66,333,000
Deferred income taxes .......................... (9,430,000)
------------
$ 56,903,000
============
Following the acquisition of Neutrino, the purchase price was reduced to reflect
the proceeds from the sale of non-strategic assets in the amount of $3,390,000.
AMERAC
On January 28, 1998, the shareholders of both the Company and Amerac Energy
Corporation ("Amerac") approved the merger of Amerac into a subsidiary of the
Company. Pursuant to the merger agreement, the Company issued 3,333,333 shares
of its Common Stock to acquire all of the outstanding common stock of Amerac and
assumed Amerac's outstanding debt, which was approximately $8,700,000. The debt
was retired upon consummation of the acquisition. The merger was effective on
January 28, 1998, and was accounted for as a purchase. The total purchase price
of approximately $24,820,000 consisted of the following :
Issuance of Common Stock ................. $15,433,000
Debt assumed and working capital ......... 8,714,000
Legal, accounting and transaction costs... 673,000
-----------
$24,820,000
===========
Subsequent to the acquisition of Amerac, the purchase price was reduced by
$7,919,000 to reflect the sale of non-strategic assets, including Amerac's
Golden Trend properties for $6,969,000 on June 30, 1998 and the Riffe Field for
$510,000 on July 1, 1998.
PRO FORMA
The following summarized pro forma (unaudited) information assumes the
acquisitions of Neutrino and Amerac had occurred on January 1, 1998:
THREE MONTHS
ENDED MARCH 31, 1998
---------------------
(in thousands, except
per share data)
Revenues ...................... $ 7,759
Net loss ...................... (1,878)
Net loss per share-basic ...... $ (.15)
Net loss per share-diluted..... (.15)
7
SOUTHERN MINERAL CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS-(CONTINUED)
The above pro forma results are not necessarily indicative of those that would
have occurred had the acquisitions taken place at the beginning of 1998. The
above amounts reflect adjustments for interest on indebtedness incurred in
connection with the transactions and depreciation, depletion and amortization on
revalued property, plant and equipment. During 1998, the Company made additional
acquisitions, none of which would have had a material effect on the historical
results of operations of the Company. During the first quarter of 1999, the
Company sold its mineral interests and substantially all of its royalty
interests in Texas, Mississippi and New Mexico for approximately $6,000,000. The
effect of this divestiture would not have had a material effect on the Company's
historical results of operations.
NOTE 3. LONG-TERM DEBT
Effective May 29, 1998, the Company amended its domestic bank credit facility to
increase the borrowing base from $38,400,000 to $45,000,000. Subsequently, the
credit facility has been reduced and restructured as a result of lower oil and
natural gas price assumptions, the sale of certain domestic assets and the
scheduled reduction discussed below. A restructured and amended credit facility
("Amended Credit Facility") was entered into on March 29, 1999. The Amended
Credit Facility provides for a borrowing base of $19,353,000, plus a principal
tranche of $12,500,000 ("Tranche A") that matures on September 1, 1999. The
borrowing base reflects the $5,400,000 received in March 1999 for the sale of
the Company's mineral interests in Texas, Mississippi and New Mexico. Following
the closing of the remaining $600,000 in proceeds from the sale, the borrowing
base was reduced to $18,830,000 on April 1, 1999. In addition to reductions
which may result from the sale of assets, the borrowing base under the Amended
Credit Facility reduces $40,000 per month and is subject to semi-annual
redeterminations until maturity on June 1, 2001. The next borrowing base review
is July 1, 1999. As of March 31, 1999 and December 31, 1998, Tranche A principal
was classified as current portion of long-term debt in the Company's
Consolidated Balance Sheet.
The Amended Credit Facility requires the Company, among other provisions, to:
(i) apply the majority of proceeds from asset sales to reduction in the
outstanding principal under the credit facility (to the extent the assets are
not otherwise encumbered), (ii) obtain lender's approval of the Company's
domestic general and administrative expense budget and (iii) pay a $187,500
restructuring fee upon completion of a transaction that allows the Company to
repay Tranche A principal. The Amended Credit Facility also reduced the
Company's tangible net worth requirement beginning December 31, 1998. As of
March 31, 1999 and May 4, 1999, the Company was in compliance with the terms and
conditions of the Amended Credit Facility.
The obligations under the Amended Credit Facility are secured by substantially
all of the assets of the Company and its subsidiaries other than Neutrino. The
Amended Credit Facility prohibits the payment of dividends and contains certain
covenants relating to the financial condition of the Company. Outstanding
borrowings under the domestic bank credit facility were $31,853,000 at March 31,
1998. On May 4, 1999, outstanding borrowings under the Amended Credit Facility
were $31,209,000 with no further borrowing availability. Outstanding principal
under the Amended Credit Facility bears interest at the Bank Index Rate (7.75%
at March 31, 1999) to the extent of the borrowing base and at Bank Index Rate
plus 1% on Tranche A principal.
The Company believes that it may be necessary to sell significant oil and gas
assets to raise the substantial additional funds necessary to meet the September
1, 1999 maturity of Tranche A principal. No assurance can be given that such
transactions can be consummated on terms acceptable to the Company or its
lenders, whose approval may be required. If the Company is unable to raise the
necessary funds, further restructuring of its Amended Credit Facility will be
required or the Company could become in default on the full amount of its
indebtedness, as discussed below. These circumstances resulted in the Company's
independent auditors, in their opinion on the 1998 financial statements,
disclosing their substantial doubt about the Company's ability to continue as a
going concern. In February 1999, the Board of Directors of the Company retained
CIBC Oppenheimer Corp. as independent advisors to assist in evaluating various
strategic alternatives for maximizing shareholder value. The Board is
considering a number of proposals including a sale or merger of the Company,
restructuring or a recapitalization. No assurance can be given as to whether the
Company will be successful in implementing any of these current strategic
alternatives on terms acceptable to the Company or its lenders.
8
SOUTHERN MINERAL CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS-(CONTINUED)
Effective June 25, 1998, Neutrino entered into a new Cdn $40,000,000 (US
$26,512,000) revolving demand loan facility (the "Canadian Credit Facility")
under which it could borrow at bank prime or Bankers Acceptance Rates plus a 1%
stamping fee. At March 31, 1999, the Canadian Bank prime rate was 6.75% and the
Bankers Acceptance Rate for 30-day maturities was 5.08%. Effective February 26,
1999, the borrowing base under the Canadian Credit Facility was reduced to Cdn
$33,000,000 (US $21,872,000) and the interest rate was increased to prime plus
1/4% and the stamping fee on Bankers Acceptance was increased to 1 1/4% per
annum. These changes were a result of a lender review giving effect to lower
world oil prices, the sale of certain non-strategic oil and gas properties, and
the Company's financial condition. At March 31, 1999, outstanding borrowings
under the Canadian Credit Facility were Cdn $28,047,000 (US $18,590,000). On May
4, 1999, outstanding borrowings under the Canadian Credit Facility were Cdn
$30,663,000 (US $21,106,000). However, after giving consideration to the minimum
working capital requirement contained in the Canadian Credit Facility, the
Company estimates that at May 4, 1999, there is very little remaining borrowing
availability under the facility. The Canadian Credit Facility contains certain
covenants relating to the financial condition of Neutrino, including, at each
quarter's end, maintenance of a working capital ratio of 1:1. In calculation of
this ratio, any undrawn portion of the credit facility may be treated as if
advanced and held in cash. The obligations under the Canadian Credit Facility
are secured by substantially all of the assets of Neutrino. As of March 31, 1999
and May 4, 1999, Neutrino was in compliance with the terms of the credit
facility. The outstanding balance under the Canadian Credit Facility is
classified as a current liability because of the demand feature of the loan.
However, it is management's intention that the facility be utilized to provide
long-term financing for the Company.
The Company's financial condition and liquidity are impacted by prices the
Company receives for its oil and natural gas. In the first quarter of 1999, oil
and natural gas prices continued to be weak, but began to strengthen early in
the second quarter. Judgments by both domestic and Canadian lenders regarding
the level of future oil and natural gas prices, among other things, will impact
their borrowing base determinations for the Company's credit facilities.
On October 2, 1997, the Company issued $41,400,000 of 6.875% convertible
subordinated debentures due on October 1, 2007. The debentures are convertible
into Common Stock of the Company at any time prior to maturity, at a conversion
price of $8.26 per share. Proceeds of the offering were used to reduce bank debt
and fund subsequent acquisitions. Pursuant to the debenture indenture, in the
event of a change of control of the Company, debenture holders have the right to
require the Company to repurchase the security at face value plus accrued
interest.
The Company's substantial leverage poses certain risks, including the risk that
the Company may not generate sufficient cash flow to service its indebtedness or
that the Company may be unable to obtain additional financing in the future and,
as a result, may not have the necessary resources to respond to market
conditions and opportunities. The Company's high level of indebtedness, covenant
requirements and working capital deficit subjects it to risks of default, which
may significantly impair its ability to meet its liquidity needs. The Company's
Amended Credit Facility contains provisions whereby a default under the
Company's Canadian Credit Facility or pursuant to the 6.875% Convertible
Subordinated Debentures indenture would create a default condition under the
Amended Credit Facility. In such a default condition, the banks may declare
amounts outstanding under the Amended Credit Facility to become immediately due
and payable. In addition, the holders of Convertible Subordinated Debentures
have acceleration rights if the Company is in payment default under either its
Amended Credit Facility or Canadian Credit Facility.
Long-term debt consisted of the following at March 31, 1999 and December 31,
1998 (in thousands):
MARCH 31, DECEMBER 31,
1999 1998
------- -------
Domestic bank credit facility ...................... $31,853 $35,910
Canadian bank credit facility (U.S. Dollars) ...... 18,590 18,490
Convertible subordinated debentures ................ 41,400 41,400
Other .............................................. 189 184
------- -------
Total indebtedness ..................... 92,032 95,984
Less: Current maturities of long-term debt ......... 13,169 13,124
Canadian bank credit facility
(U.S. Dollars) ............................. 18,590 18,490
------- -------
$60,273 $64,370
======= =======
9
SOUTHERN MINERAL CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
NOTE 4. NATURAL GAS HEDGING
During 1998, the Company entered into natural gas price swaps with third parties
to hedge a portion of its production from the effects of fluctuations in the
market price of natural gas. The Company uses the deferral method of accounting
for its natural gas price swaps and, therefore, offsets any gain or loss on the
swap contract with the realized prices for its production. While the swaps
reduce the Company's exposure to declines in the market price of natural gas,
this also limits the Company's gains from increases in market price. At March
31, 1999, the Company had swap contracts on approximately 420 MMcf of natural
gas for the period April through October 1999 at an average price of $2.135. The
Company estimates the gain from unwinding the position to be approximately
$42,000 at March 31, 1999.
NOTE 5. COMMITMENTS AND CONTINGENCIES
The Company is involved in several lawsuits arising in the ordinary course of
business, only one of which management believes presents the possibility of a
material payment. The Company's Canadian subsidiary, Neutrino Resources Inc.,
was sued alleging damages resulting from the calculation of third party facility
and processing fees at its Pine Creek Field, Alberta, Canada. The suit was filed
on January 27, 1999 in the Court of Queen's Bench of Alberta in the Judicial
District of Calgary by EnerMark Inc. The amount of alleged damages approximated
Cdn $1,350,000 (US $900,000). On April 27, 1999 the lawsuit was discontinued
following agreement by both parties to have their dispute dealt with in a final
and binding arbitration. In advance of the arbitration process, Neutrino
disbursed approximately Cdn $500,000 (US $330,000) to EnerMark Inc. and placed
an additional Cdn $500,000 in a trust account pending the conclusion of the
arbitration process. Although the outcome of the dispute cannot be predicted
with certainty, management believes (based on discussions with its legal
counsel) that the outcome of the arbitration process will not have a material
adverse effect on the Company's consolidated financial condition or results of
operations.
NOTE 6. NASDAQ NATIONAL MARKET LISTING
The Company has been advised that it is not in compliance with Nasdaq Stock
Market listing requirements due to the recent low price per share of its Common
Stock. The Company has been granted a hearing on May 27, 1999 to present a plan
to the Nasdaq National Market for compliance with the $1.00 per share minimum
bid requirement. The previously scheduled delisting action has been stayed
pending the hearing and the Nasdaq determination. The Company believes a
delisting of its Common Stock would impair the liquidity of the Common Stock and
capital raising flexibility of the Company. The Company cannot assure that it
will be successful in maintaining its Nasdaq listing.
10
SOUTHERN MINERAL CORPORATION AND SUBSIDIARIES
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
RESULTS OF OPERATIONS FOR THE QUARTER ENDED MARCH 31, 1999
AS COMPARED TO THE QUARTER ENDED MARCH 31, 1998
Oil and gas revenues for the quarter ended March 31, 1999 were $5,621,000
compared to oil and gas revenues of $4,410,000 for the same period in 1998. The
increase in revenues reflects an increase in oil and NGL production of 83% to
235,784 barrels and an increase in natural gas production of 40% to 1,722 MMcf
in the first quarter of 1999 compared to the first quarter of 1998. The higher
production levels in the first quarter of 1999 are due primarily to the
acquisition of Neutrino Resources Inc. in July 1998, and the development of a
discovery at the Brushy Creek Field in Texas during 1998. Declines in commodity
prices offset much of the impact of the higher volumes.
The average realized oil price declined 28% from $14.47 per barrel in the first
quarter of 1998 to $10.46 per barrel in the first quarter of 1999. Average
realized natural gas prices declined 12% to $1.71 per Mcf during the first
quarter of 1999 compared to $1.95 per Mcf in same period a year earlier.
During the first quarter of 1999, the Company sold its mineral interests and
substantially all of its royalty interests in Texas, New Mexico and Mississippi
for approximately $6,000,000. The gain on the sale of these assets was
$5,073,000 compared to a gain of $4,000 on the sale of assets in the first
quarter of 1998. The proceeds from asset sales in the first quarter of 1999 were
used to reduce bank indebtedness and for other corporate purposes.
First quarter 1999 production costs, including production and ad valorem taxes,
rose 79% to $2,081,000 compared to $1,163,000 in the first quarter of 1998.
However, on an energy equivalent unit basis, production costs rose only 14%
quarter-over-quarter.
General and administrative expenses were $1,040,000 in the first quarter of
1999, essentially unchanged from $1,060,000 in the prior year's first quarter.
However, on an energy equivalent unit basis, costs declined 37% from the first
quarter of 1998 to the same period in 1999.
Depreciation, depletion and amortization ("DD&A") increased 91% to $3,081,000 in
the first quarter of 1999 compared to $1,610,000 in 1998. On a unit of
equivalent production basis, DD&A increased 22% from $0.80 per Mcfe to $0.98 per
Mcfe. The increase reflects the acquisition of Neutrino during 1998 at a higher
per unit average cost.
Interest and debt expense in the quarter ended March 31, 1999 was $1,774,000
compared to $834,000 in the same period in 1998. The increase primarily reflects
the additional indebtedness incurred and acquired in the Neutrino transaction in
July 1998.
Tax benefits in the first quarter 1999 were $230,000 compared to $5,000 in the
same period in 1998. The increase primarily reflects the increased pre-tax loss
from the Company's Canadian operations in the first quarter of 1999 compared to
the same period in 1998.
The Company recorded net income of $2,928,000, or $0.23 per basic share for the
quarter ended March 31, 1999 compared to a net loss of $295,000 or $0.03 per
basic share for the quarter ended March 31, 1998.
FOR THE QUARTER ENDED MARCH 31, 1998
AS COMPARED TO THE QUARTER ENDED MARCH 31, 1997
Oil and gas revenues for the quarter ended March 31, 1998, were $4,410,000,
compared to oil and gas revenues for the same period in 1997 of $3,832,000. The
increase in revenues reflects higher production volumes of both natural gas and
crude oil, which are partially offset by lower commodity prices for both natural
gas and crude oil. High production volumes were primarily due to the acquisition
of Amerac Energy Corporation on January 28, 1998 and
11
BEC Energy, Inc. on May 20, 1997, as well as the acquisition of a working
interest in the A. Philyaw 8-1 #1 on April 7, 1997, and the acquisition on June
13, 1997 of a 10% interest in the Santa Elena Concession located in the Santa
Elena Peninsula in Ecuador.
Natural gas production in the three months ended March 31, 1998 was 1,233 MMcf,
a 38% increase as compared to production for the same period in 1997 of 893
MMcf. The Company's crude oil and NGL production for the three months ended
March 31, 1998 increased 149% to 128,699 barrels as compared to 51,652 barrels
for the same period in 1997.
Average realized natural gas prices in the first quarter of 1998 decreased 32%
to $1.95 per Mcf compared to $2.88 per Mcf in the same quarter of 1997. During
the first quarter of 1998, crude oil prices decreased 34% to $14.47 per barrel,
compared to $21.76 per barrel in the same period in 1997.
Production costs, including production and ad valorem taxes, increased in the
first quarter of 1998 to $1,163,000, up 45% from $801,000 in the same period in
1997, due in part to the above mentioned acquisitions. On a cost per Mcfe basis,
production costs for the three months ended March 31, 1998 decreased to $.58 per
Mcfe, or 12% from $0.66 per Mcfe in 1997.
General and administrative expenses increased to $1,060,000 in the first quarter
of 1998, up 70% from $622,000 in the first quarter of 1997. However, on a cost
per Mcfe basis, general and administrative first quarter expenses increased only
4% in the first three months of 1998 to $0.53 per Mcfe from $0.51 per Mcfe in
the same period of 1997. The increase in general and administrative expenses is
due in part to $220,000 in accrued and paid bonuses in the first quarter of 1998
compared to $99,800 in the first quarter of 1997, and due to the acquisition of
Amerac Energy Corporation in January 1998.
Exploration, dry hole and lease impairment expenses decreased in the quarter
ended March 31, 1998 to $139,000, compared to $283,000 in the same period of
1997. The amount recorded in the quarter ended March 31, 1998 was primarily for
seismic costs incurred in Ecuador, compared to costs associated with a dry hole
drilled in Lavaca County, Texas in the same period in 1997. Since the Company
uses the successful efforts method of accounting, exploration expenses may vary
greatly from period to period based upon the level of exploration activity.
DD&A expense for the first quarter of 1998 increased to $1,610,000, up 133% from
$691,000 in the first quarter of 1997, due primarily to the above mentioned
acquisitions. The Company computes depreciation and depletion on each producing
property on a unit-of-production method. Since this method employs estimates of
remaining reserves, depreciation and depletion expenses may vary from period to
period because of revisions to reserve estimates, production rates, and other
factors. DD&A expenses increased in the first three months of 1998 to $.80 per
Mcfe, up 40% from $0.57 per Mcfe in the same period of 1997.
Interest and debt expense in the quarter ended March 31, 1998 was $834,000,
compared to $65,000 in the same period in 1997. Interest expense increased as a
result of an increase in the outstanding bank debt and the issuance of
$41,400,000 in 6.875% convertible subordinated debentures, which was used
primarily to finance the above-mentioned acquisitions.
Tax (benefit) expense in the first quarter of 1998 and 1997 was ($5,000) and
$458,000, respectively, with the decrease related to a loss in the 1998 period.
The Company reported a loss in the quarter ended March 31, 1998, of $295,000, or
$.03 per basic share, compared to earnings of $1,111,000, or $0.12 per basic
share, in the same period in 1997.
LIQUIDITY AND CAPITAL RESOURCES
The Company has historically funded its operations, acquisitions, exploration
and development expenditures from cash flows from operating activities, bank
borrowing, issuance of common stock and debt securities, and the sale of
non-strategic assets.
The Company's cash flow used in operating activities for the three months ended
March 31, 1999 and 1998 was $ 1,511,000 and $471,000, respectively.
12
Effective May 29, 1998, the Company amended its domestic bank credit facility to
increase the borrowing base from $38,400,000 to $45,000,000. Subsequently, the
credit facility has been reduced and restructured as a result of lower oil and
natural gas price assumptions, the sale of certain domestic assets and the
scheduled reduction discussed below. A restructured and amended credit facility
("Amended Credit Facility") was entered into on March 29, 1999.
The Amended Credit Facility provides for a borrowing base of $19,353,000, plus a
principal tranche of $12,500,000 ("Tranche A") that matures on September 1,
1999. The borrowing base reflects the $5,400,000 received in March 1999 for the
sale of the Company's mineral interests in Texas, Mississippi and New Mexico.
Following the closing of the remaining $600,000 in proceeds from the sale, the
borrowing base was reduced to $18,830,000 on April 1, 1999. In addition to
reductions which may result from the sale of assets, the borrowing base under
the Amended Credit Facility reduces $40,000 per month and is subject to
semi-annual redeterminations until maturity on June 1, 2001. The next borrowing
base review is July 1, 1999. As of March 31, 1999 and December 31, 1998, Tranche
A principal was classified as current portion of long-term debt in the Company's
Consolidated Balance Sheet.
The Amended Credit Facility requires the Company, among other provisions, to:
(i) apply the majority of proceeds from asset sales to reduction in the
outstanding principal under the credit facility (to the extent the assets are
not otherwise encumbered), (ii) obtain lender's approval of the Company's
domestic general and administrative expense budget and (iii) pay a $187,500
restructuring fee upon completion of a transaction that allows the Company to
repay Tranche A principal. The Amended Credit Facility also reduced the
Company's tangible net worth requirement beginning December 31, 1998. As of
March 31, 1999 and May 4, 1999, the Company was in compliance with the terms and
conditions of the Amended Credit Facility.
The obligations under the Amended Credit Facility are secured by substantially
all of the assets of the Company and its subsidiaries other than Neutrino. The
Amended Credit Facility prohibits the payment of dividends and contains certain
covenants relating to the financial condition of the Company. Outstanding
borrowings under the domestic bank credit facility were $31,853,000 at March 31,
1998. On May 4, 1999, outstanding borrowings under the Amended Credit Facility
were $31,209,000 with no further borrowing availability. Outstanding principal
under the Amended Credit Facility bears interest at the Bank Index Rate (7.75%
at March 31, 1999) to the extent of the borrowing base and at Bank Index Rate
plus 1% on Tranche A principal.
The Company believes that it may be necessary to sell significant oil and gas
assets to raise the substantial additional funds necessary to meet the September
1, 1999 maturity of Tranche A principal. No assurance can be given that such
transactions can be consummated on terms acceptable to the Company or its
lenders, whose approval may be required. If the Company is unable to raise the
necessary funds, further restructuring of its Amended Credit Facility will be
required or the Company could become in default on the full amount of its
indebtedness, as discussed below. These circumstances resulted in the Company's
independent auditors, in their opinion on the 1998 financial statements,
disclosing their substantial doubt about the Company's ability to continue as a
going concern. In February 1999, the Board of Directors of the Company retained
CIBC Oppenheimer Corp. as independent advisors to assist in evaluating various
strategic alternatives for maximizing shareholder value. The Board is
considering a number of proposals including a sale or merger of the Company,
restructuring or a recapitalization. No assurance can be given as to whether the
Company will be successful in implementing any of these current strategic
alternatives on terms acceptable to the Company or its lenders.
Effective June 25, 1998, Neutrino entered into a new Cdn $40,000,000 (US
$26,512,000) revolving demand loan facility (the "Canadian Credit Facility")
under which it could borrow at bank prime or Bankers Acceptance Rates plus a 1%
stamping fee. At March 31, 1999, the Canadian Bank prime rate was 6.75% and the
Bankers Acceptance Rate for 30-day maturities was 5.08%. Effective February 26,
1999, the borrowing base under the Canadian Credit Facility was reduced to Cdn
$33,000,000 (US $21,872,000) and the interest rate was increased to prime plus
1/4% and the stamping fee on Bankers Acceptance was increased to 1 1/4% per
annum. These changes were a result of a lender review giving effect to lower
world oil prices, the sale of certain non-strategic oil and gas properties, and
the Company's financial condition. At March 31, 1999, outstanding borrowings
under the Canadian Credit Facility were Cdn $28,047,000 (US $18,590,000). On May
4, 1999, outstanding borrowings under the Canadian Credit Facility were Cdn
$30,663,000 (US $21,106,000). However, after giving consideration to the minimum
working capital requirement contained in the Canadian Credit Facility, the
Company estimates that at May 4, 1999, there is very little remaining borrowing
availability under the facility. The Canadian Credit Facility contains certain
covenants relating to the financial condition of Neutrino, including, at each
quarter's end, maintenance of a working capital ratio of 1:1. In calculation of
this ratio, any undrawn portion of the credit facility may be treated as if
advanced and held in cash. The obligations under the Canadian Credit Facility
are secured by substantially all of the assets of Neutrino. As of March 31, 1999
and May 4, 1999, Neutrino was in compliance with the terms of the credit
facility. The outstanding
13
balance under the Canadian Credit Facility is classified as a current liability
because of the demand feature of the loan. However, it is management's intention
that the facility be utilized to provide long-term financing for the Company.
The Company's financial condition and liquidity are impacted by prices the
Company receives for its oil and natural gas. In the first quarter of 1999, oil
and natural gas prices continued to be weak, but began to strengthen early in
the second quarter. Judgments by both domestic and Canadian lenders regarding
the level of future oil and natural gas prices, among other things, will impact
their borrowing base determinations for the Company's credit facilities.
On October 2, 1997, the Company issued $41,400,000 of 6.875% convertible
subordinated debentures due on October 1, 2007. The debentures are convertible
into Common Stock of the Company at any time prior to maturity, at a conversion
price of $8.26 per share. Proceeds of the offering were used to reduce bank debt
and fund subsequent acquisitions. Pursuant to the debenture indenture, in the
event of a change of control of the Company, debenture holders have the right to
require the Company to repurchase the security at face value plus accrued
interest.
The Company's substantial leverage poses certain risks, including the risk that
the Company may not generate sufficient cash flow to service its indebtedness or
that the Company may be unable to obtain additional financing in the future and,
as a result, may not have the necessary resources to respond to market
conditions and opportunities. The Company's high level of indebtedness, covenant
requirements and working capital deficit subjects it to risks of default, which
may significantly impair its ability to meet its liquidity needs. The Company's
Amended Credit Facility contains provisions whereby a default under the
Company's Canadian Credit Facility or pursuant to the 6.875% Convertible
Subordinated Debentures indenture would create a default condition under the
Amended Credit Facility. In such a default condition, the banks may declare
amounts outstanding under the Amended Credit Facility to become immediately due
and payable. In addition, the holders of Convertible Subordinated Debentures
have acceleration rights if the Company is in payment default under either its
Amended Credit Facility or Canadian Credit Facility.
The Company has been advised that it is not in compliance with Nasdaq Stock
Market listing requirements due to the recent low price per share of its Common
Stock. The Company has been granted a hearing on May 27, 1999 to present a plan
to the Nasdaq National Market for compliance with the $1.00 per share minimum
bid requirement. The previously scheduled delisting action has been stayed
pending the hearing and the Nasdaq determination. The Company believes a
delisting of its Common Stock would impair the liquidity of the Common Stock and
capital raising flexibility of the Company. The Company cannot assure that it
will be successful in maintaining its Nasdaq listing.
Capital spending in the first quarter of 1999 for development and exploration
totaled $1,161,000 and was funded from cash flows from operating activities and
bank debt. The Company's capital spending during 1999 is expected to be reduced
significantly from 1998, and will be greatly influenced by the level of oil and
gas prices, and the availability of excess funds, if any, beyond repayment of
the September 1, 1999 Tranch A maturity. Capital availability from outside
sources, including debt and equity markets, is expected to be limited.
The Company did not declare dividends in the three months ended March 31, 1999
and 1998. The Company does not expect, under its existing capital structure, to
be able to pay dividends for the foreseeable future. Payment of dividends is
currently prohibited by the terms of the Company's Amended Credit Facility.
YEAR 2000 COMPLIANCE
THE COMPANY'S STATE OF READINESS
The "Year 2000" problem concerns the ability of technology to properly recognize
and process date sensitive information beyond December 31, 1999. The Company is
in the process of evaluating its information technology (IT) and non-information
technology. Year 2000 Committees have been formed at the Company's office in
Houston and at the Company's Canadian subsidiary headquarters in Calgary. The
Committees include members of senior management and key employees from major
business units. The Committees assess Year 2000 issues; direct remedial actions
necessary to minimize systems disruptions and other risks; contact significant
third party purchasers, suppliers, vendors and operators with whom there are
material transactions and data exchange; test internal hardware and software;
and make appropriate contingency plans. Neutrino has engaged a consulting firm
which has prepared a report on the Year 2000 readiness of Neutrino, including a
detailed inventory of hardware and software priorities for action and an
implementation plan. Additionally, the Company, on behalf of itself and its
other subsidiaries, has
14
contacted principal software vendors. Thus far, the Company has received a
letter of compliance for its accounting and payroll systems and product
conformity assurance for its reservoir engineering system. Additionally, the
land lease record systems vendor has informed the Company that the system is
Year 2000 compatible. The Company has no proprietary software. Purchased
software and hardware systems have been installed and assembled by third party
vendors that provide network and software IT services to the Company. Vendors
have been engaged to evaluate the systems for Year 2000 compliance.
COSTS TO ADDRESS THE COMPANY'S YEAR 2000 ISSUES
Management expects the costs of compliance, excluding internal costs, will not
exceed $120,000, which includes the evaluation, planning, replacement of the
land and lease records systems at Neutrino and the replacement of several
desktop computers and other hardware. Approximately $9,000 was expended in 1998,
with the balance to be incurred in 1999. The amount spent during the first
quarter of 1999 was not significant.
RISKS OF THE COMPANY'S YEAR 2000 ISSUES
Risks associated with the Year 2000 problem are potentially significant. Failure
to remedy a critical system problem could have a material affect on the results
of operations and financial condition. The Company has interests in operated and
non-operated properties in the United States, Canada and Ecuador. The Company
will continue to review and monitor software and equipment within its control.
The Company will continue to contact operators of its non-operated properties
and other third parties to determine their Year 2000 compliance procedures, but
cannot warrant the readiness of those systems. As the Company is in the process
of collecting this information from third parties, the Company cannot currently
state whether its operations will be materially affected by third party
compliance. However, the Company is not currently aware of any third party that
could cause a significant business disruption. While there can be no assurance,
the Company believes that it will be able to achieve Year 2000 compliance by the
end of 1999 with respect to the Company's internal systems, and does not
currently anticipate any disruption in its operations or any materially adverse
effects to its financial condition, results of operations or cash flows as the
result of any failure by the Company to be in compliance.
In a recent Securities and Exchange Commission ("SEC") release regarding Year
2000 disclosures, the SEC required public companies to disclose the most likely
worst case Year 2000 scenario. Situations which must be included in any worst
case scenario include: the possibility of widespread failure of oil and gas
transportation systems, the inability of Company personnel to gain access to
offices and other facilities, and the inability of customers to make payment for
purchases. The effects of such occurrences would have a cumulative material
adverse impact on the Company, although not quantifiable at this time.
THE COMPANY'S CONTINGENCY PLAN
Contingency plans are being developed at this time, and will be monitored and
modified after the initial evaluation by the Year 2000 Committees is complete.
The Company intends to have such plans in place by June 30, 1999.
DEFINITIONS
As used herein:
Thousand cubic feet ("Mcf")
Million cubic feet ("MMcf")
Natural gas liquids ("NGL")
Energy Equivalents Units (1 barrel of liquids = 6 Mcf of natural gas)
Thousand cubic feet of gas equivalent ("Mcfe")
RECENT ACCOUNTING PRONOUNCEMENTS
Statement of Financial Accounting Standards No. 133, "Accounting for Derivative
Instruments and Hedging Activities" ("SFAS 133"), was issued by the Financial
Accounting Standards Board in June 1998. SFAS 133 standardizes the accounting
for derivative instruments, including certain derivative instruments embedded in
other contracts. Under the standard, entities are required to carry all
derivative instruments in the statement of financial position at fair value. The
Company will adopt SFAS 133 beginning in fiscal year 2000. The Company has not
yet determined the impact that SFAS 133 will have on its financial statements.
15
FORWARD-LOOKING STATEMENTS
All statements other than statements of historical fact contained in this
report, including statements in Management's Discussion and Analysis of
Financial Condition and Results of Operations, are forward-looking statements.
When used herein, the words "budget", "expressions", "anticipate", "expects",
"believes", "seeks", "goals", "plans", "strategy", "intends", or "projects" and
similar expressions are intended to identify forward-looking statements. It is
important to note that the Company's actual results could differ materially from
those projected by such forward-looking statements and no assurance can be given
that the expectations will prove correct. In reliance upon the Private
Securities Litigation Reform Act of 1995, factors identified by the Company that
could cause the Company's future results to differ materially from the results
discussed in such forward-looking statements include the risks described under
"Risk Factors" in Item 1 of its Annual Report on Form 10-K, as amended, for the
year ended December 31, 1998. All forward-looking statements in this report are
expressly qualified in their entirety by the cautionary statements in this
paragraph and shall be deemed in the future to be modified in their entirety by
the Company's public pronouncements, including those contained in all future
reports and other documents filed by the Company with the Securities and
Exchange Commission.
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
The Company is exposed to a variety of market risks including the potential for
adverse changes in oil and gas prices, foreign currency exchange rates and
interest rates. There have been no material changes to the Company's disclosures
about market risk from those contained in its 10-K, as amended, for the year
ended December 31, 1998.
16
PART II - OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS
The Company is involved in several lawsuits arising in the ordinary course of
business, only one of which management believes presents the possibility of a
material payment. The Company's Canadian subsidiary, Neutrino Resources Inc.,
was sued alleging damages resulting from the calculation of third party facility
and processing fees at its Pine Creek Field, Alberta, Canada. The suit was filed
on January 27, 1999 in the Court of Queen's Bench of Alberta in the Judicial
District of Calgary by EnerMark Inc. The amount of alleged damages approximated
Cdn $1,350,000 (US $900,000). On April 27, 1999 the lawsuit was discontinued
following agreement by both parties to have their dispute dealt with in a final
and binding arbitration. In advance of the arbitration process, Neutrino
disbursed approximately Cdn $500,000 (US $330,000) to EnerMark Inc. and placed
an additional Cdn $500,000 in a trust account pending the conclusion of the
arbitration process. Although the outcome of the dispute cannot be predicted
with certainty, management believes (based on discussions with its legal
counsel) that the outcome of the arbitration process will not have a material
adverse effect on the Company's consolidated financial condition or results of
operations.
Items 2, 3, 4 and 5 for which provision is made in the applicable regulations of
the Securities and Exchange Commission are not required under the related
instructions or are inapplicable, and therefore have been omitted.
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
(a) EXHIBITS:
27.1 -- Financial Data Schedule
(b) REPORT ON FORM 8-K:
None
17
SIGNATURE
Pursuant to the requirements of the Securities Exchange Act of 1934, the Company
has duly caused this report to be signed on its behalf by the undersigned
thereunto duly authorized.
SOUTHERN MINERAL CORPORATION
By /s/ MICHAEL R. DAWSON
Date: May 7, 1999 Michael R. Dawson
Vice President-Finance and
Chief Financial Officer
18