SCHEDULE 14A INFORMATION
Proxy Statement Pursuant to Section 14(a) of the Securities
Exchange Act of 1934 (Amendment No. )
Filed by the Registrant [X]
Filed by a Party other than the Registrant [_]
Check the appropriate box:
[_] Preliminary Proxy Statement [_] Confidential, for Use of the
Commission Only (as permitted by
Rule 14a-6(e)(2))
[X] Definitive Proxy Statement
[_] Definitive Additional Materials
[_] Soliciting Material Pursuant to Section 240.14a-11(c) or Section 240.14a-12
HONDO OIL & GAS COMPANY
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(Name of Registrant as Specified In Its Charter)
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(Name of Person(s) Filing Proxy Statement, if other than the Registrant)
Payment of Filing Fee (Check the appropriate box):
[X] No fee required.
[_] Fee computed on table below per Exchange Act Rules 14a-6(i)(4) and 0-11.
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(3) Per unit price or other underlying value of transaction computed
pursuant to Exchange Act Rule 0-11 (Set forth the amount on which
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[_] Fee paid previously with preliminary materials.
[_] Check box if any part of the fee is offset as provided by Exchange
Act Rule 0-11(a)(2) and identify the filing for which the offsetting fee
was paid previously. Identify the previous filing by registration statement
number, or the Form or Schedule and the date of its filing.
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Notes:
HONDO OIL & GAS COMPANY
10375 RICHMOND AVENUE, SUITE 900, HOUSTON, TX 77042
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NOTICE OF ANNUAL MEETING OF SHAREHOLDERS
TO BE HELD MARCH 10, 1998
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TO THE SHAREHOLDERS OF HONDO OIL & GAS COMPANY:
NOTICE IS HEREBY GIVEN that the Annual Meeting of the shareholders of Hondo
Oil & Gas Company will be held in the Board of Governors' Room, American Stock
Exchange, 86 Trinity Place, New York, New York, on Tuesday, March 10, 1998 at
10:00 o'clock A.M., for the following purposes:
(1) To elect a board of six directors;
(2) To approve an option for London Australian and General Property
Company Limited to convert $7.0 million of the Company's debt into shares
of the Company's common stock;
(3) To approve the grant, cancellation and regrant of certain stock
options to certain directors and employees during fiscal year 1997;
(4) To approve the appointment of Ernst & Young LLP as independent
auditors for fiscal year 1998; and
(5) To transact such other business as may properly come before the
meeting, or any adjournment thereof.
The Board of Directors has fixed January 16, 1998 as the record date for the
determination of shareholders entitled to notice of and to vote at the
meeting. Accordingly, only shareholders of record at the close of business on
that date are entitled to vote at the meeting, or any adjournment thereof. Any
shareholder who wishes to examine a list of the shareholders entitled to vote
at the meeting may do so at the offices of Parker Chapin Flattau & Klimpl,
LLP, 1211 Avenue of the Americas, 18th Floor, New York, New York, on and after
February 27, 1998.
Shareholders are cordially invited to attend the Annual Meeting. Regardless
of whether you expect to attend the meeting in person, we urge you to read the
attached Proxy Statement and sign, date and mail the accompanying proxy card
in the enclosed postage-prepaid envelope. It is important that your shares be
represented at the meeting, and your promptness will assist us in making
necessary preparations for the meeting. If you receive more than one proxy
card because your shares are registered in different names or addresses, each
card should be completed and returned to assure that all your shares are
voted.
A copy of the Company's 1997 Annual Report is enclosed herewith. Please take
time to read the report.
By Order of the Board of Directors,
John J. Hoey
President and Chief Executive
Officer
Houston, Texas
January 26, 1998
HONDO OIL & GAS COMPANY
10375 RICHMOND AVENUE, SUITE 900
HOUSTON, TEXAS 77042
PROXY STATEMENT
ANNUAL MEETING OF SHAREHOLDERS
TO BE HELD MARCH 10, 1998
This Proxy Statement is furnished to shareholders of Hondo Oil & Gas Company
(the "Company") in connection with the solicitation by the Board of Directors
of the Company of proxies to be voted at the 1998 Annual Meeting of
Shareholders (the "Annual Meeting") at the time and place set forth in the
attached Notice of Annual Meeting. This Proxy Statement was first mailed to
shareholders on or about February 2, 1998. All costs of soliciting proxies
will be borne by the Company.
At the Annual Meeting, the Company's shareholders will be asked to consider
and vote upon (1) the election of the six nominees for directors named below;
(2) the approval of an option for London Australian and General Property
Company Limited to convert $7.0 million of the Company's debt into shares of
the Company's common stock; (3) the approval of the grant, cancellation and
regrant of certain stock options to certain directors and employees during
fiscal year 1997; and (4) the appointment of Ernst & Young LLP as independent
auditors for fiscal year 1998.
Any shareholder present at the Annual Meeting may withdraw his or her proxy
and vote in person on each matter brought before the Annual Meeting. The
accompanying proxy is also subject to revocation at any time before it is
exercised by filing with the Secretary of the Company an instrument revoking
the proxy or a duly executed proxy bearing a later date. All shares
represented by each properly signed and returned proxy in the accompanying
form, unless revoked, will be voted at the Annual Meeting, or at any
adjournment thereof, in accordance with the instructions thereon. If no
instructions are specified, the shares will be voted in favor of the election
of the nominees for directors; the approval of an option for London Australian
and General Property Company Limited to convert $7.0 million of the Company's
debt into shares of the Company's common stock; the approval of the grant,
cancellation and regrant of certain stock options to certain directors and
employees during fiscal year 1997; and the approval of the appointment of
Ernst & Young LLP as independent auditors for fiscal year 1998. If any other
matters are properly presented at the Annual Meeting, or any adjournment
thereof, the persons voting the proxies will vote them in accordance with
their best judgment.
Votes cast by proxy or in person at the Annual Meeting will be counted by
the persons appointed by the Company to act as election inspectors for the
meeting. The election inspectors will treat shares represented by proxies that
reflect abstentions as shares that are present and entitled to vote, for
purposes of determining the presence of a quorum and for purposes of
determining the outcome of any matter submitted to the shareholders for a
vote. Abstentions, however, do not constitute a vote "for" or "against" any
matter and thus will be disregarded in the calculation of a plurality of
"votes cast."
The election inspectors will treat shares referred to as "broker non-votes"
(i.e., shares held by brokers or nominees as to which instructions have not
been received from the beneficial owners or persons entitled to vote that the
broker or nominee does not have discretionary power to vote on a particular
matter) as shares that are present and entitled to vote for purposes of
determining the presence of a quorum. However, for purposes of
determining the outcome of any matter as to which the broker has physically
indicated on the proxy that it does not have discretionary authority to vote,
those shares will be treated as not present and not entitled to vote with
respect to that matter (even though those shares are considered entitled to
vote for quorum purposes and may be entitled to vote on other matters).
In the election of directors, shares present but not voting will be
disregarded (except for quorum purposes) and the candidates for election
receiving the highest number of affirmative votes of the shares entitled to be
voted for them, up to the number of directors to be elected by those shares,
will be elected and votes cast against a candidate or votes withheld will have
no legal effect.
Only holders of shares of the Company's common stock of record at the close
of business on January 16, 1998 are entitled to notice of and to vote at the
Annual Meeting and any adjournment thereof. On that date, there were
13,798,424 shares of common stock outstanding and entitled to one vote per
share.
ADDITIONAL MATERIALS
Enclosed with this Proxy Statement is a copy of the Company's 1997 Annual
Report which is not to be regarded as proxy soliciting material or as a
communication by means of which solicitation is made, except as expressly
incorporated herein by reference. See "Incorporation of Certain Documents by
Reference."
AVAILABILITY OF FORM 10-K
SHAREHOLDERS MAY OBTAIN WITHOUT CHARGE A COPY OF THE COMPANY'S ANNUAL REPORT
ON FORM 10-K FOR THE FISCAL YEAR ENDED SEPTEMBER 30, 1997, AS FILED WITH THE
SECURITIES AND EXCHANGE COMMISSION, BY WRITING TO THE SECRETARY, HONDO OIL &
GAS COMPANY, 10375 RICHMOND AVENUE, SUITE 900, HOUSTON, TEXAS 77042.
SHAREHOLDER PROPOSALS
To be considered for inclusion in the Proxy Statement and for consideration
at the Annual Meeting, shareholder proposals must be submitted on a timely
basis. Proposals for the 1999 Annual Meeting of Shareholders must be received
by the Company no later than October 5, 1998. Any such proposals, as well as
any questions related thereto, should be directed to the Secretary of the
Company.
ELECTION OF DIRECTORS
INFORMATION REGARDING THE NOMINEES
All of the members of the Board of Directors listed below were elected at
the 1997 Annual Meeting of Shareholders held on March 12, 1997. C. B. McDaniel
resigned as a director on December 22, 1997, and the authorized number of
directors was reduced to six.
At the Annual Meeting six directors are to be elected, each director to hold
office until the next Annual Meeting. In the absence of contrary instructions,
it is the intention of the persons named in the accompanying proxy to vote for
the nominees listed below, all of whom are members of the current Board of
Directors. A majority of the votes cast at the Annual Meeting shall be
sufficient to elect a director. The Board of Directors recommends that
shareholders vote FOR each of the nominees. In the event that any of the
nominees should become unavailable for any reason, it is intended that proxies
will be voted for the election of those persons, if any, as shall be
designated by the Board of Directors.
2
John J. Hoey: Mr. Hoey, 58, became a director on June 2, 1993 and became
President and Chief Executive Officer of the Company on December 1, 1993. He
is a director and President or Managing Director of each of the Company's
subsidiaries. He is also President and sole shareholder of Beneficial Capital
Corp. of New York, an investment company with ownership in a number of public
and private companies. From 1985 to 1992, he was associated with Atlantic
Petroleum Corp. of Pennsylvania, including serving as President of Atlantic
Refining and Marketing Corporation until its sale to Sun Co. in November 1988.
From 1972 to 1984, Mr. Hoey held various executive positions in international
banking and investment companies. From 1967 to 1971, he served in the U. S.
Department of State in Saigon, South Vietnam. He is currently a director of
GVC Corp., a publicly-held corporation.
Douglas G. McNair: Mr. McNair, 69, has been a director of the Company since
February 25, 1993. He was an independent consultant for international
transactions, marketing and negotiations. From 1985 to 1986 he was Vice
President and Assistant to the Chairman and Chief Executive Officer of
Atlantic Richfield Company. From 1977 to 1985, he was Vice President of
Atlantic Richfield Company and worked with that company's subsidiary,
Anaconda, in connection with international operations. From 1972 to 1977, he
was Vice President of Atlantic Richfield Company in charge of international
marketing. From 1970 to 1972, he was President and Chief Executive Officer of
Atlantic Richfield Company's Brazilian marketing subsidiary.
Nicholas J. Morrell: Mr. Morrell, 50, became a director of the Company on
November 21, 1996. He was appointed a director of Lonrho Plc in 1992, the
Deputy Managing Director in 1994, and Chief Executive in November 1996. In
1978, Mr. Morrell joined The Observer newspaper which subsequently became a
member of the Lonrho Group in 1981, becoming Managing Director in 1988 and, in
1989, was appointed Chief Executive in charge of Lonrho's printing and
publishing operations. See "Security Ownership of Management and Certain
Beneficial Owners of the Company."
John F. Price: Mr. Price, 56, became a director of the Company on November
16, 1992 and is a director of Hondo Magdalena Oil & Gas Limited. He is also
President and a director of The Hondo Company. He has been President of
Princess Hotels International, Inc. and Executive Vice President of Princess
Properties International Limited since March 1983. He was appointed an
Associate Director of Lonrho Plc in 1991. He is a Chartered Accountant and
joined the Lonrho group in 1969. He was appointed Managing Director of Lonrho
(Zambia) Ltd. in 1974 and was Managing Director of Lonrho (Zimbabwe) Ltd. from
1979 to 1983. See "Security Ownership of Management and Certain Beneficial
Owners of the Company."
Robert K. Steer: Mr. Steer, 67, became a director of the Company on November
10, 1994. He has been an independent consulting geologist since 1987. He
retired from Exxon Corporation in 1986 where he served as Executive Vice
President of Esso Exploration, Inc. from 1982 to 1986. From 1978 to 1981, he
was Exploration Department Manager for Exxon Corporation, and from 1974 to
1978, he was President and Managing Director of Exxon Malaysia Inc.
R. E. Whitten: Mr. Whitten, 57, has been a director of the Company since
January 19, 1988 and is director of Hondo Magdalena Oil & Gas Limited. He has
been an Executive Director of Lonrho Plc since July 1981 and became Finance
Director on January 1, 1995. He joined the Lonrho group in 1978. He is also a
director of some 50 other companies in the Lonrho group, including Princess
Hotels International, Inc. and The Hondo Company. See "Security Ownership of
Management and Certain Beneficial Owners of the Company."
3
EXECUTIVE OFFICERS
The following is a list of the executive officers of the Company and their
positions:
OFFICER POSITION
------- ----------------------------------
John J. Hoey President, Chief Executive Officer
S. J. Urquhart Vice President and Controller
S. J. Urquhart: Mr. Urquhart, 35, joined the Company on May 15, 1988 as a
Financial Analyst and became Controller of the Company on August 1, 1992. He
was appointed Vice President and Controller on May 3, 1994. He is also a
director and Vice President of each of the Company's subsidiaries and a
director of Hondo Magdalena Oil & Gas Limited. Mr. Urquhart is a Certified
Public Accountant and was employed by Ernst & Whinney (now Ernst & Young LLP)
from 1984 to 1988.
For a description of Mr. Hoey, see "Information Regarding the Nominees."
SECURITY OWNERSHIP OF MANAGEMENT AND CERTAIN BENEFICIAL OWNERS OF THE COMPANY
The following table sets forth certain information concerning the beneficial
ownership of the Company's common stock as of January 16, 1998, by (i) each
person who is known by the Company to own beneficially more than five percent
of the Company's common stock, (ii) each nominee for director, (iii) each of
the Company's directors and each of its executive officers identified under
"Executive Compensation" and (iv) all directors and current executive officers
of the Company as a group. Under Securities and Exchange Commission rules,
several persons may be deemed to be the beneficial owners of the same shares.
As a result, readers are urged to read the footnotes to the following table.
COMMON STOCK PERCENTAGE OF
BENEFICIALLY OWNED COMMON STOCK
------------------ -------------
The Hondo Company.......................... 9,434,596(1) 68.4%
Lonrho Plc................................. 9,434,596(1) 68.4%
London Australian General & Property
Company Limited........................... 9,434,596(1) 68.4%
John J. Hoey............................... 134,500 *
C. B. McDaniel (2)......................... 55,000 *
Douglas G. McNair.......................... 25,750 *
Nicholas J. Morrell........................ 0(3) --
John F. Price.............................. 0(3) --
Robert K. Steer............................ 25,750 *
S. J. Urquhart............................. 27,000 *
R. E. Whitten.............................. 0(3) --
All directors and current executive
officers as a group....................... 213,000 1.5%
- --------
* less than 1%
(1) These 9,434,596 shares are owned as follows: The Hondo Company, 410 East
College Boulevard, Roswell, NM 88201, 8,651,200 shares; and London
Australian and General Property Company Limited ("LAGP"), Four Grosvenor
Place, London SW1X 7DL, England, 783,396 shares. The Hondo Company is
wholly owned by LAGP. LAGP is wholly owned by Lonrho Plc, Four Grosvenor
Place, London SW1X 7DL, England.
4
Because they may be deemed a group, within the meaning of Rule 13d-5 under
the Securities and Exchange Act of 1934 (the "Exchange Act"), each of The
Hondo Company, Lonrho Plc and LAGP may be deemed to be the beneficial
owner, within the meaning of Rule 13d-3 under the Exchange Act, of
9,434,596 shares. Lonrho Plc, by virtue of its ownership interest in each
of The Hondo Company and LAGP, may be deemed to share the right to direct
the voting and disposition of 9,434,596 shares which (a) as to 8,651,200
shares, by virtue of its ownership interest in The Hondo Company may also
be deemed to be the beneficial owner with shared voting and dispositive
power and (b) as to 783,396 shares owned by LAGP, LAGP is also a beneficial
owner.
(2) Mr. McDaniel resigned as a director on December 22, 1997 and as an
executive officer as of January 26, 1998.
(3) Nicholas J. Morrell is Managing Director and Chief Executive of Lonrho
Plc. John F. Price is an Associate Director of Lonrho Plc and President
and director of The Hondo Company. R. E. Whitten is Finance Director of
Lonrho Plc and a director of LAGP and The Hondo Company. See Note (1),
above, "Information Regarding the Nominees" and "Compensation Committee
Interlocks and Insider Participation in Compensation Decisions." None of
these directors of the Company hold shares of the Company's common stock
individually.
COMMITTEES, ATTENDANCE AND COMPENSATION OF DIRECTORS
The Company's Board of Directors has created and delegated certain of its
authority to an Audit Committee, a Compensation and Benefits Committee and a
1993 Stock Incentive Plan Committee. The Company does not have a standing
Nominating Committee. The Bylaws authorize the establishment of an Executive
Committee which possesses and may exercise all of the powers of the Board of
Directors. No Executive Committee was appointed by the Board during the fiscal
year.
The Audit Committee consists of Messrs. McNair, Steer and Whitten. The Audit
Committee performs numerous functions, including making a review of
management's selection of an independent accounting firm, meeting with the
independent accounting firm to review the scope and conduct of the annual
audit, reviewing the selection of acceptable accounting principles and making
inquiries about and reviewing the Company's policies and procedures with
respect to principles of business conduct, financial and accounting controls,
areas of special concern and other related matters. During fiscal year 1997,
the Audit Committee met on one occasion.
The Compensation and Benefits Committee consists of Messrs. Steer, Price and
Whitten. The primary functions of the Compensation and Benefits Committee are
to review and determine salaries of officers, to review and approve officers'
employment contracts, and to review and establish Company policy with respect
to compensation of all employees. During fiscal year 1997, the Compensation
and Benefits Committee met on two occasions.
The 1993 Stock Incentive Plan Committee consists of Messrs. Price and
Whitten. The purpose of the 1993 Stock Incentive Plan Committee is to
administer the Company's 1993 Stock Incentive Plan. During fiscal year 1997,
this committee met on two occasions.
There were four meetings of the Board of Directors during fiscal year 1997.
Mr. Morrell attended fewer than 75% of these meetings.
Outside directors are paid $15,000 per year and Messrs. McNair and Steer
were paid this amount during fiscal year 1997. Mr. Steer was paid $3,800
during fiscal 1997 for consulting services.
5
EXECUTIVE COMPENSATION
The following tables set forth, for the fiscal year ended September 30,
1997, certain information concerning compensation paid to or accrued for the
Chief Executive Officer and all other executive officers who were serving as
executive officers on September 30, 1997.
SUMMARY COMPENSATION TABLE
LONG TERM
ANNUAL COMPENSATION COMPENSATION
------------------------------------- ------------
SECURITIES
OTHER ANNUAL UNDERLYING ALL OTHER
NAME AND PRINCIPAL BONUS COMPENSATION(1) OPTIONS/SARS COMPENSATION(2)
POSITION YEAR SALARY($) ($) ($) (#) ($)
- ------------------ ---- --------- ------ --------------- ------------ ---------------
John J. Hoey............ 1997 220,032 -- -- 25,000 9,479
Chief Executive Officer 1996 194,062 -- -- 22,000 9,703
1995 170,833 -- -- 50,000 8,542
S. J. Urquhart.......... 1997 98,741 -- -- 8,000 4,429
Vice President 1996 86,094 20,000 -- 8,000 4,305
1995 73,333 -- -- 15,000 2,233
C. B. McDaniel (3)...... 1997 170,700 -- -- 10,000 7,994
Secretary 1996 166,018 20,000 -- 10,000 8,451
1995 142,583 -- -- 20,000 7,129
- --------
(1) Includes perquisites and other personal benefits, securities or property
only if the aggregate amount of such compensation is greater than the
lesser of either $50,000 or 10% of the total of annual salary and bonus
reported for the named executive officer.
(2) The amounts in this column are the matching contributions made by the
Company under its profit sharing plan described below.
(3) Mr. McDaniel resigned as of January 26, 1998.
6
OPTION/SAR GRANTS IN LAST FISCAL YEAR
POTENTIAL
REALIZABLE
VALUE AT
ASSUMED ANNUAL
RATES OF STOCK
PRICE
APPRECIATION
FOR OPTION
INDIVIDUAL GRANTS(1) TERM(2)
- ------------------------ -------------------------------------------------- --------------
NUMBER OF % OF TOTAL
SECURITIES OPTIONS/SARS EXERCISE
UNDERLYING GRANTED TO OR BASE
OPTIONS/SARS EMPLOYEES IN PRICE
NAME GRANTED (#) FISCAL YEAR ($/SH) EXPIRATION DATE 5% ($) 10% ($)
---- ------------ ------------ -------- --------------- ------ -------
John J. Hoey............ 25,000 58% 9.00 June 4, 2002 62,163 137,365
S.J. Urquhart........... 8,000 19% 9.00 June 4, 2002 19,892 43,957
C.B. McDaniel (3)....... 10,000 23% 9.00 June 4, 2002 24,865 54,957
- --------
(1) The options to Messrs. Hoey, Urquhart and McDaniel were granted on June 4,
1997 under the Company's 1993 Stock Incentive Plan (the "Plan"). These
options were regranted to replace options for the same amounts of shares
that were granted on March 12, 1997, at an exercise price of $12.125 per
share. See "Report of the 1993 Stock Incentive Plan Committee on Repricing
of Options/SARs" and "Ten-Year Option/SAR Repricings." Each option became
exercisable as to 50% of the total shares granted six months after the
date of grant; the remaining 50% will become exercisable 18 months after
the date of grant. In each case, the options were granted at an exercise
price equal to the fair market value of the shares (as defined in the
Plan) on the date of grant. Upon a recipient's termination of employment,
options that are not yet exercisable will terminate; options that are
exercisable will terminate three months after the termination of
employment (one year in the case of death, retirement or total
disability). Each option will terminate in all events not later than the
expiration date of the option. The 1993 Stock Incentive Plan Committee
administers the Plan and may modify and amend previous options granted,
subject to the terms of the Plan.
(2) These columns present hypothetical future values of the stock obtainable
upon exercise of the options net of the option's exercise price, assuming
that the market price of the Company's common stock appreciates at a five
and ten percent compound annual rate over the five year term of the
options. The five and ten percent rates of stock price appreciation are
presented as examples pursuant to the proxy rules and do not necessarily
reflect management's assessment of the Company's future stock performance.
(3) Mr. McDaniel resigned as of January 26, 1998.
AGGREGATED OPTION/SAR EXERCISES IN LAST FISCAL YEAR AND FY-END OPTION/SAR
LONRHO PLC(1) HONDO OIL & GAS
------------- ------------------ VALUE OF
NUMBER OF NUMBER OF UNEXERCISED
UNEXERCISED UNEXERCISED IN-THE-MONEY
SHARES OPTIONS/SARS OPTIONS/SARS AT OPTIONS/SARS AT
ACQUIRED AT SEPTEMBER SEPTEMBER 30, 1997 SEPTEMBER 30, 1997
ON VALUE 30, 1997 (#) (#) ($)
EXERCISE REALIZED EXERCISABLE/ EXERCISABLE/ EXERCISABLE/
NAME (#) ($) UNEXERCISABLE UNEXERCISABLE UNEXERCISABLE(2)
---- -------- -------- ------------- ------------------ ------------------
John J. Hoey............ -- -- 50,000/50,000 80,232/36,000 0/0
S.J. Urquhart........... -- -- 0/10,000 19,000/12,000 0/0
C.B. McDaniel (3)....... -- -- 24,832/5,000 45,000/15,000 0/0
- --------
(1) The Board of Directors of Lonrho Plc grants options to employees of
companies in which Lonrho Plc owns an interest. See "Security Ownership of
Management and Certain Beneficial Owners of the Company." The options are
granted under plans adopted and administered by Lonrho Plc.
7
(2) The value of unexercised in-the-money options was determined by
multiplying the value of the underlying shares at September 30, 1997
($1.61 per share for Lonrho Plc and $7.00 per share for Hondo Oil & Gas
Company) less the amount per share payable by the option holder upon
exercise, times the number of shares subject to the option.
(3) Mr. McDaniel resigned as of January 26, 1998.
There were no awards made to the named executive officers in the fiscal year
ended September 30, 1997, under any other long-term incentive plan.
The Company's defined benefit retirement plan was terminated on December 31,
1989. No other defined benefit or actuarial plan exists with respect to the
named executive officers. The Company has made available to all full-time
administrative employees who have completed at least one year of service a
defined contribution profit sharing plan ("401(k) Plan"). Qualifying employees
may contribute up to 10% of their annual earnings, but not in excess of the
maximum allowed by Internal Revenue Service regulations, and the Company will
match employee contributions up to a maximum of 5% of an employee's annual
earnings. Matching contributions made by the Company under the 401(k) plan for
the benefit of the named executive officers are included in the "Summary
Compensation Table."
The Company has entered into Termination Benefits Agreements with Mr.
Urquhart on February 23, 1995 and Mr. Hoey on March 12, 1997. These agreements
provide for an extended severance benefit to the two executives in the event
of a change of control of the Company. Such benefit is payable if, within
three years after the change of control occurs (i) the Company terminates the
employment of the executive for any reason other than cause (as defined in the
agreement), death, the executive's attainment of age 65 or total and permanent
disability or (ii) the executive voluntarily terminates employment, in his
discretion, for any reason. As defined in the agreement, a "change of control"
means after the date of the respective agreement, (i) attaining ownership of
50% or more of the shares of voting stock of the Company by any person or
group (other than a person or group including the executive or with whom or
which the executive is affiliated); (ii) the occurrence of a change of control
required to be described under the rules of the Securities and Exchange
Commission; (iii) the sale by the Company of 50% or more of the shares of the
voting stock of its wholly-owned subsidiary, Hondo Magdalena Oil & Gas
Limited; or (iv) the sale of all or substantially all of Hondo Magdalena Oil &
Gas Limited's 30% interest in the Opon Association Contract, Department of
Santander, Colombia. A "change of control" shall not include changes in
ownership of the shares of voting stock of the Company occurring among or
between The Hondo Company, Robert O. Anderson, Robert B. Anderson, Phelps
Anderson, Lonrho, Inc., Scottsdale Princess, Inc., Lonrho Plc or the
affiliates of any of them. The amount of the extended severance benefit
payable under the agreement is two times the executive's average annual
compensation for the last two calendar years preceding the date upon which a
change of control occurs, except that if all or part of such benefit would be
nondeductible by the Company for federal income tax purposes because of
limitations on "parachute payments," then the benefit would be reduced to the
amount so deductible. The agreements expire as to Mr. Urquhart on February 23,
2000 and as to Mr. Hoey on March 12, 2002, if no event constituting a change
of control has occurred prior to that date. If a change of control occurs
prior to February 23, 2000 and March 12, 2002, respectfully, then the
agreements terminate on the date that is three years after the change of
control occurs.
8
Compensation and Benefits Committee Report
To: The Board of Directors
As members of the Compensation and Benefits Committee, it is our duty to
review and determine salaries of officers, to review and approve officers'
employment contracts, and to review and establish Company policy with
respect to compensation of all employees.
For the majority of the past fiscal year, Mr. Hoey's compensation was
$225,000 annually. He was also granted a new option for 25,000 shares of
the Company's common stock during the fiscal year by the 1993 Stock
Incentive Plan Committee which now administers the 1993 Stock Incentive
Plan, and is composed of Messrs. Price and Whitten. That option was later
canceled and regranted at a lower option price. See "Report of the 1993
Stock Incentive Plan Committee on Repricing of Options/SARs," below. This
compensation was considered to be necessary to induce Mr. Hoey to remain as
CEO of the Company, given the financial condition of the Company and
alternative opportunities that may be available to him. Also, this
compensation was intended to compensate Mr. Hoey for frequent travel to
Colombia and to reward him for his achievements on behalf of the Company.
His compensation, particularly the stock option he has been granted, is
intended to provide incentive to Mr. Hoey to continue to improve the
Company's financial condition.
The Committee has concluded that the executive officers must be
compensated for the extraordinary time and efforts required of such a small
group and for uncertainties associated with the future of the Company. The
Committee believes that the circumstances of the Company are unique,
therefore, the Committee has not considered comparable compensation.
During the past fiscal year, the 1993 Stock Incentive Plan Committee made
new grants of options to Mr. Hoey for 25,000 shares, to Mr. McDaniel for
10,000 shares and to Mr. Urquhart for 8,000 shares. Each of these grants
was later canceled and regranted at a lower price. See "Report of the 1993
Stock Incentive Plan Committee on Repricing of Options/SARs," below. The
1993 Stock Incentive Plan Committee and the Board feel there is a definite
need for stock option incentives given the present condition of the
Company. Without such incentives it might prove difficult to keep the key
executives. Mr. McDaniel has decided to leave the Company, making the
retention of Messrs. Hoey and Urquhart even more important. In making
awards of options, the 1993 Stock Incentive Plan Committee considered the
amount and terms deemed necessary to retain the executive officers, to
reward them for their efforts, and to provide a supplement to cash
compensation, as well as the number of shares available under the plan.
Also, as a further means of retaining key executives, Termination Benefits
Agreements, providing for extended severance benefits to the officers in
the event of a change of control of the Company, were put in place for Mr.
Urquhart in fiscal 1995 and for Mr. Hoey in fiscal 1997.
An annual fee of $15,000 is paid to outside directors (Messrs. McNair and
Steer). Mr. Steer was paid $3,800 for his services to the Company as a
consultant. Options for 7,500 shares were granted to Messrs. McNair and
Steer and were later canceled and regranted in the same manner as that
described below in "Report of the 1993 Stock Incentive Plan Committee on
Repricing of Options/SARs."
Compensation and Benefits Committee
Robert K. Steer, Chairman
John F. Price
R. E. Whitten
Date: January 13, 1998
9
TEN-YEAR OPTION/SAR REPRICINGS
LENGTH OF
ORIGINAL
NUMBER OF OPTION TERM
SECURITIES MARKET PRICE EXERCISE REMAINING
UNDERLYING OF STOCK AT PRICE AT TIME AT DATE OF
OPTION/SARS TIME OF OF NEW REPRICING
REPRICED OR REPRICING OR REPRICING OR EXERCISE OR
NAME DATE AMENDED (#) AMENDMENT ($) AMENDMENT ($) PRICE ($) AMENDMENT
---- ------------ ----------- ------------- ------------- --------- -----------
John J. Hoey............. June 4, 1997 25,000 9.00 12.125 9.00 4.75 years
Chief Executive Officer
S. J. Urquhart........... June 4, 1997 8,000 9.00 12.125 9.00 4.75 years
Vice President
C.B. McDaniel (1)........ June 4, 1997 10,000 9.00 12.125 9.00 4.75 years
Secretary
- --------
(1) Mr. McDaniel resigned as an executive officer as of January 26, 1998.
Report of the 1993 Stock Incentive Plan Committee on Repricing of
Options/SARs
To: The Board of Directors
During the past fiscal year, the 1993 Stock Incentive Plan Committee
granted certain stock options to Messrs. Hoey, Urquhart, McDaniel, McNair
and Steer. The Committee initially made the grants on March 12, 1997, the
date of the Company's annual meeting. The exercise price was set at $12.125
per share, the closing price for the Company's stock on the American Stock
Exchange for that date. On June 4, 1997, the Committee decided to cancel
and regrant each of the options at an exercise price of $9.00 per share,
the closing price for the Company's stock on the American Stock Exchange
for that date. The change was made because of the fall in the share price
during the three months between March and June. The Committee decided to
regrant the options at the lower price to provide greater financial
incentive to the holders to improve the Company's condition. These changes
were approved by the board of directors, and are submitted to the
shareholders for approval in this Proxy Statement. See "Approval of Grant,
Cancellation and Regrant of Stock Options."
1993 Stock Incentive Plan Committee
John F. Price
R. E. Whitten
Date: January 13, 1998
Compensation Committee Interlocks And Insider Participation In Compensation
Decisions
Messrs. Price and Whitten, members of the Compensation and Benefits
Committee and the 1993 Stock Incentive Plan Committee, are President and
director, and director, respectively, of The Hondo Company and also Associate
Director and Finance Director, respectively, of Lonrho Plc. Mr. Morrell (who
is not a member of either committee) is Managing Director and Chief Executive
of Lonrho Plc. See "Security Ownership of Management and Certain Beneficial
Owners of the Company." The Company has entered into loan and certain other
transactions with Lonrho Plc and its affiliates.
10
On November 30, 1988, the Company made a private placement of a $75,000,000
13.5% Senior Subordinated Note to Thamesedge Ltd. ("Thamesedge"), a wholly
owned subsidiary of Lonrho Plc. The terms of the transaction were approved by
all of the disinterested directors of the Company upon the recommendation of a
special committee of the Board appointed to review the transaction. The terms
are substantially the same as those which were under discussion and
negotiation with an underwriter for a public offering of a similar debt
instrument and were no less favorable to the Company than could be obtained
with non-affiliated parties.
During calendar year 1991, the Company entered into and amended a loan
agreement with Lonrho Plc pursuant to which it borrowed the sum of
$32,000,000. At the time the loans were made, the interest rates were similar
to that in the Company's former working capital loan with a bank for its
refining and marketing operations. The terms of the loan, and all amendments
thereto, were approved by all of the disinterested directors of the Company
and were no less favorable to the Company than could be obtained with non-
affiliated parties.
On December 18, 1992, the Company entered into an agreement with Lonrho Plc
and Thamesedge to defer interest and principal payments on the loans described
above. As consideration for the deferral of interest and principal payments,
the Company granted Lonrho Plc a 5% share of the Company's net profits, as
defined, under the Opon Contract. On April 30, 1993, Lonrho Plc loaned the
Company an additional $3,000,000, and as security the Company granted to
Lonrho Plc a mortgage on certain real property. On June 25, 1993, Lonrho Plc
loaned the Company an additional $4,000,000, and as security the Company
granted to Lonrho Plc a mortgage on certain other real property. The interest
rate of the new loans was the same as that for other loans from Lonrho Plc.
The terms of the agreement to defer interest and principal payments and the
terms of the new loans were approved by all of the disinterested directors of
the Company and were no less favorable to the Company than could be obtained
with non-affiliated parties.
On December 17, 1993, Thamesedge and Lonrho Plc agreed to add interest
accrued at September 30, 1993 to principal, to reduce the annual interest rate
on each of the foregoing loans to the Company to 6% effective September 30,
1993, and to defer principal payments on the loans. Lonrho Plc and the Company
have further agreed that, if the Company does not have sufficient cash
resources to pay interest on any of the foregoing indebtedness of the Company
when due, the Company may offer to pay such interest in shares of its common
stock valued at their market price on the day the interest is due. Thereupon
Lonrho Plc may either accept such offer or add the amount of interest then due
to the remaining outstanding principal balance of the applicable obligation.
The terms of these agreements were approved by all of the disinterested
directors of the Company and were no less favorable to the Company than could
be obtained with non-affiliated parties.
On October 18, 1994, the Company paid to Lonrho Plc $5,000,000 to repay a
portion of the loans made in calendar 1991. At the same time, Lonrho Plc
provided a $5,000,000 loan facility to the Company. On November 10, 1994,
Thamesedge and Lonrho Plc agreed to extend the maturities of all of the above
debts to not earlier than October 1, 1996. The terms of the loan facility and
the agreement to extend debt maturities were approved by all of the
disinterested directors of the Company and were no less favorable to the
Company than could be obtained with non-affiliated parties.
On December 22, 1995, Thamesedge and Lonrho Plc agreed to extend the
maturities of all the above debts to not earlier than October 1, 1997.
On March 29, 1996, Lonrho Plc assigned to Thamesedge all of its interest in
the above loans and indebtedness. On June 28, 1996, the Company and Thamesedge
entered into a Revolving Credit Agreement under which Thamesedge agreed to
loan to the Company $13.5 million. The interest rate on this loan is 13%,
11
and interest is payable as provided in the December 17, 1993 letter agreement
described above. The terms of the Revolving Credit Agreement were approved by
all of the disinterested directors of the Company and were no less favorable
to the Company than could be obtained with non-affiliated parties.
On December 13, 1996, Thamesedge and Lonrho Plc agreed to extend the
maturities of all the above debts maturing on October 1, 1997 to not earlier
than January 1, 1998. As consideration for the extensions and certain other
financial undertakings, the Company granted to Lonrho a security interest in
all of the shares of the Company's subsidiary, Hondo Magdalena Oil & Gas
Limited ("Hondo Magdalena"), and agreed to give Thamesedge an option to
convert $13.5 million of the November 1988 indebtedness to Thamesedge into the
Company's common stock. The Company signed a Security Interest Agreement dated
as of May 13, 1997 to document the pledge of the Hondo Magdalena shares. The
debt was convertible at any time prior January 1, 1998 at a rate of $12.375
per share, 110% of the closing price of the Company's common stock on December
11, 1996, and was approved by the Company's shareholders in the 1997 annual
meeting. The portion of the debt that was subject to the option is not secured
by the pledge of the Hondo Magdalena shares.
In July 1997, the Company and Thamesedge, Ltd. agreed to amend and restate
the June 1996 Revolving Credit Agreement. Under the Amended and Restated
Revolving Credit Agreement dated as of July 2, 1997, Thamesedge agreed to make
additional advances of $7.0 million to the Company, making the total amount of
the loan $20.5 million. The interest rate remains 13%, due semi-annually and;
as described above, the Company may make interest payments in shares of its
common stock. The terms of the Amended and Restated Revolving Credit Agreement
were approved by all of the disinterested directors of the Company. The
Company was unable to obtain any commitment or terms from a disinterested
third party. The loan now matures January 1, 1999. As additional consideration
for the loan, the Company agreed to give Lonrho an option to convert $7.0
million of existing debt with an interest rate of 6% into the Company's shares
at $7.70 per share (110% of the closing price on July 1, 1997). The option to
convert must be approved by the Company's shareholders. See "Approval of
Option to Convert Debt into Shares of Common Stock." If the option to convert
is not approved by the shareholders, the interest rate on $7 million of
existing debt will increase to 13.5%.
In August 1997, Thamesedge assigned all of its interest in the indebtedness
of the Company to London Australian and General Property Company Limited
("LAGP"), a wholly-owned subsidiary of Lonrho Plc.
In a letter agreement dated December 18, 1997, LAGP agreed to advance an
additional $7.0 million to the Company during fiscal 1998 and to extend the
maturity of the above described indebtedness due on January 1, 1998 to January
15, 1999. In consideration for the additional advances and extension of
maturities, the notes have been amended by adding a cross-default provision
and a new event of default. The new event of default requires the Company to
furnish to LAGP by October 1, 1998 a reserve report that shows an increase of
a minimum of 13 billion cubic feet of gas over the report of proved reserves
in the Company's 1997 Annual Report on Form 10-K. In the event of a default
under this provision, LAGP has the right to declare all the loans in default
and demand payment. The new $7.0 million commitment from LAGP for fiscal 1998
will be included in the July 1997 Amended and Restated Revolving Credit
Agreement.
F. E. Wright, a subsidiary of Lonrho Plc, acts as insurance broker for the
Company's directors' and officers' liability insurance. The insurance
companies who provide the policy are those from whom coverage could be
obtained by the use of other insurance brokers. The terms of the policy are
identical to the ones which could be obtained through an independent broker.
Based upon quotes received from other brokers, management believes that F. E.
Wright is able to obtain more favorable premiums for the insurance coverage by
virtue of inclusion in the larger, group-wide programs of Lonrho Plc, and that
the terms and cost of the insurance coverage are no less favorable to the
Company than could be obtained with non-affiliated parties. During the fiscal
year ended September 30, 1997, F. E. Wright received commissions of $33,040 in
respect of policies issued to the Company.
12
Performance Graph
The following graph compares the yearly change in the Company's cumulative
total shareholder return on its common stock to that of the American Stock
Exchange Market Index and MG Industry Group 36, an industry index of companies
engaged in oil and gas exploration and production.
LOGO
COMPARISON OF CUMULATIVE TOTAL RETURN
OF COMPANY, INDUSTRY INDEX AND BROAD MARKET
PERFORMANCE GRAPH APPEARS HERE
Measurement Period HONDO OIL INDUSTRY BROAD
(Fiscal Year Covered) & GAS CO. INDEX MARKET
- --------------------- --------------- ---------- ----------
FYE 1992 $100.00 $100.00 $100.00
FYE 1993 $ 95.00 $122.40 $117.39
FYE 1994 $203.33 $132.54 $119.64
FYE 1995 $260.00 $137.38 $144.16
FYE 1996 $200.00 $160.20 $150.03
FYE 1997 $ 95.00 $182.46 $182.45
ASSUMES $100 INVESTED ON OCTOBER 1, 1992
ASSUMES DIVIDENDS REINVESTED
FISCAL YEAR ENDING SEPTEMBER 30, 1997
The stock price performance depicted in the above graph is not necessarily
indicative of future price performance. The Performance Graph will not be
deemed to be incorporated by reference in any filing by the Company under the
Securities Act of 1933 or the Securities Exchange Act 1934, except to the
extent that the Company specifically incorporates same by reference.
REPORTS UNDER SECTION 16(A) OF THE SECURITIES EXCHANGE ACT OF 1934
Section 16(a) of the Securities Exchange Act of 1934 and the rules
thereunder require the Company's officers and directors, and persons who own
more than ten percent of a registered class of the Company's equity
securities, to file reports of ownership and changes in ownership with the
Securities and Exchange Commission and the American Stock Exchange and to
furnish the Company with copies.
13
Based on its review of the copies of such forms received by it, or written
representations from certain reporting persons, the Company believes that,
from October 1, 1996 to September 30, 1997, all filing requirements applicable
to its officers, directors, and greater than ten percent beneficial owners
were complied with except that (i) London Australian and General Property
Company Limited's Initial Statement of Beneficial Ownership of Securities
which involved an inter-company share transfer from parent to subsidiary was
not filed timely and (ii) the cancellation of the options granted to Messrs.
Hoey, Urquhart, McDaniel, McNair and Steer and described in "Approval of
Grant, Cancellation and Regrant of Stock Options" was not reported timely and
the grant of those options may not have been reported timely (the
corresponding regrant of options was reported timely).
APPROVAL OF OPTION TO CONVERT DEBT INTO SHARES OF COMMON STOCK
The Company and London Australian General and Property Company Limited
("LAGP," successor to Thamesedge Ltd.) entered in to an Amended and Restated
Revolving Credit Agreement (the "Credit Agreement") dated as of July 2, 1997,
in which the Company has agreed that LAGP, subject to approval of the
shareholders, has an option to convert $7.0 million of the debt owed to LAGP
by the Company into shares of the Company's common stock at the rate of $7.70
per share. The conversion price is 110% of the closing price of the Company's
common stock on July 1, 1997, $7.00. LAGP is a subsidiary of Lonrho Plc,
indirect controlling shareholder of the Company. See "Security Ownership of
Management and Certain Beneficial Owners of the Company" and "Compensation
Committee Interlocks and Insider Participation in Compensation Decisions." The
Company is indebted to LAGP for approximately $99.9 million as of September
30, 1997. In the Amended and Restated Revolving Credit Agreement, LAGP agreed
to make new advances of $7.0 million.
The option to convert would be exercisable by LAGP at any time prior to the
present maturity of the Credit Agreement, January 1, 1999. If the conversion
option is not approved by the shareholders, the interest rate on the $7.0
million will revert to 13.5%, the rate of interest on such debt under the
November 1988 $75,000,000 13.5% Senior Subordinated Note prior to December 17,
1993. On December 17, 1993, LAGP agreed to reduce the interest rate on the
13.5% Senior Subordinated Note to 6%, the rate at present. See "Compensation
Committee Interlocks and Insider Participation in Compensation Decisions."
If the option to convert is approved, upon exercise of the option the
Company will issue shares of common stock, $1.00 par value, that have no
preemptive rights to subscribe to any additional securities which the Company
may issue. To the extent the option is exercised, the Company's indebtedness
to LAGP will be reduced by $7.70 for each share issued to LAGP.
The proposed option to convert will allow the Company to reduce its
indebtedness if and when, and to the extent that, the option is exercised.
Also, the option to convert (subject to the approval of shareholders) was a
part of the consideration for the extension of additional credit by LAGP. If
the option to convert is approved and LAGP exercises the option in total, the
Company would issue 909,091 shares of authorized but unissued share of common
stock. These shares would dilute the current issued and outstanding shares of
common stock by 6.6%. Because of its beneficial ownership of common stock,
Lonrho Plc controls the Company, and will continue to control the Company if
LAGP exercises the option to convert. See "Security Ownership of Management
and Certain Beneficial Owners of the Company." If the option to convert is not
approved by the shareholders, then the Company will incur approximately
$423,955 additional interest expense to January 1, 1999 because of the
increase in the interest rate on the $7.0 million of debt. Under existing
agreements, the additional interest may be paid in shares of common stock or
added to principal if the Company does not have sufficient cash to pay the
interest. See "Compensation Committee Interlocks and Insider Participation in
Compensation Decisions."
14
The proposal will be approved if it receives the affirmative vote of holders
of a majority of the shares of common stock present or represented and
entitled to vote on the proposal at the Annual Meeting. Because the option to
convert would be exercisable by a related party, the Company and LAGP have
agreed to submit the matter to the shareholders for approval. Lonrho Plc has
further agreed to cause its subsidiaries, The Hondo Company and LAGP, to vote
at that meeting the Company's shares held by them in proportion to the votes
cast by shareholders other than The Hondo Company and LAGP. This voting
procedure shall apply only to this matter.
APPROVAL OF GRANT, CANCELLATION AND REGRANT OF STOCK OPTIONS
During fiscal year 1997, certain options were granted to officers and
directors of the Company under the 1993 Stock Incentive Plan. These options
were initially granted on March 12, 1997, after the Company's annual meeting.
These options were granted to: John J. Hoey for 25,000 shares, Stanton J.
Urquhart for 8,000 shares, C. B. McDaniel for 10,000 shares, Douglas G. McNair
for 7,500 shares, and Robert K. Steer for 7,500 shares. The March grants were
made by the 1993 Stock Incentive Plan Committee at an exercise price of
$12.125 per share, the closing price for the Company's stock on the American
Stock Exchange on that date. On June 4, 1997, the Committee decided to cancel
the options granted in March and regrant them. This resulted in lowering the
exercise price to $9.00, the closing price for the Company's stock on the
American Stock Exchange on June 4, 1997 and a revised vesting schedule. See
"Option/SAR Grants in Last Fiscal Year," "Ten-Year Option/SAR Repricings" and
"Report of the 1993 Stock Incentive Plan Committee on Repricing of
Options/SARs."
The 1993 Stock Incentive Plan Committee, consisting of directors Price and
Whitten, neither of whom is eligible for awards under the 1993 Plan, approved
these actions, each of which was subsequently approved by the Board of
Directors.
The shareholders are being asked to ratify the grant, cancellation and
regrant in order, among other things, to avoid any possible, unintended
exposure of the optionees to liability under Section 16 of the Securities and
Exchange Act of 1934, or for the defense of any claims of liability
thereunder. Section 16 imposes liability on executive officers and directors
for so-called "short-swing profits" on purchases and sales of the Company's
stock within a six-month period. Any such liability under Section 16 is
payable to the Company. None of the affected officers or directors purchased
or sold stock in the market in the applicable six-month period, but the reach
and application of the applicable rules in this context are not entirely clear
and any valuation of the benefits is highly speculative. The officers and
directors could be expected to deny any claim of liability in these
circumstances. In any event, the submission of this item for shareholder
approval is not an admission by the Company or the optionees that any
liability would otherwise exist.
The proposal will be approved if it receives the affirmative vote of holders
of a majority of the shares of common stock present or represented and
entitled to vote on the proposal at the Annual Meeting. The Board of Directors
(Messrs. Hoey, McNair and Steer abstaining) recommends that shareholders vote
FOR the proposal to approve the grant, cancellation and regrant of the stock
options to Messrs. Hoey, Urquhart, McDaniel, McNair and Steer.
INDEPENDENT CERTIFIED PUBLIC ACCOUNTANTS
The Company engaged Ernst & Young LLP as principal independent public
accountants for the audit of the Company's financial statements for the fiscal
year ended September 30, 1997. Ernst & Young LLP has acted in this capacity
since 1988. From time to time, Ernst & Young LLP also performs consulting work
for the
15
Company. The firm has no other relationship with the Company except the
existing professional relationships of Certified Public Accountants. The Board
of Directors has appointed Ernst & Young LLP to audit the financial statements
of the Company for the fiscal year 1998. At the Annual Meeting, the
shareholders will be asked to approve the appointment.
Representatives of Ernst & Young LLP are expected to be present at the
Annual Meeting, will have an opportunity to make a statement if they desire to
do so and will be available to respond to appropriate questions. The proposal
will be approved if it receives the affirmative vote of holders of a majority
of the shares of common stock present or represented and entitled to vote at
the Annual Meeting. The Board of Directors recommends that shareholders vote
FOR the proposal to approve the appointment of Ernst & Young LLP as the
Company's independent auditors for fiscal year 1998.
OTHER MATTERS
The Board of Directors knows of no matters which are likely to be brought
before the Annual Meeting other than those listed in the attached Notice of
Annual Meeting. If any other matters should properly come before the Annual
Meeting or any adjournment thereof, the persons named on the enclosed proxy
card will vote all proxies given to them in accordance with their best
judgment on such matters.
INCORPORATION OF CERTAIN DOCUMENTS BY REFERENCE
The Company's 1997 Annual Report to Shareholders (the "1997 Annual Report")
is enclosed with this Proxy Statement. The information set forth in Item 7,
Management's Discussion and Analysis of Financial Condition and Results of
Operations, pages 14-21; Item 8, Financial Statements, pages 22-49; and Item
9, Changes In and Disagreements with Accountants on Accounting and Financial
Disclosure, page 50, are hereby incorporated by reference into this Proxy
Statement.
SOLICITATION OF PROXIES
Solicitation of proxies is to be conducted primarily by mail, although
officers and other employees of the Company, without receiving additional
compensation therefor, may also solicit proxies by telephone, telegraph or
personal interview. Arrangement may be made with brokerage houses and with the
Company's transfer agent, ChaseMellon Shareholder Services, Ridgefield Park,
New Jersey, to send notices, proxy statements, proxies and other materials to
shareholders. The cost for these services is estimated to be nominal. All
costs of soliciting proxies will be borne by the Company.
By Order of the Board of Directors,
John J. Hoey
President and Chief Executive
Officer
January 26, 1998
16
APPENDIX
THE FOLLOWING INFORMATION IS INCORPORATED BY REFERENCE IN THE PRECEDING PROXY
STATEMENT IN ACCORDANCE WITH ITEM 13(B)(2) OF SCHEDULE 14A AND IS PROVIDED IN
ELECTRONIC FORMAT IN ACCORDANCE WITH NOTE D.4 OF SCHEDULE 14A.
Item 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS
GENERAL DISCUSSION
Introduction
- ------------
Hondo Oil & Gas Company is an independent oil and gas company focusing on
international oil and gas exploration and development. The Company's principal
asset is its interest in the Opon Association Contract (the "Opon Contract"), an
exploration concession for an area in the Middle Magdalena Valley of Colombia,
South America. Significant reserves of natural gas and condensate were shown to
exist in the Opon Contract area by two discovery wells drilled during 1994 and
1995. In accordance with the terms of the Opon Contract, Empresa Colombiana de
Petroleos ("Ecopetrol") declared a portion of the area as commercial in May
1996. A pipeline and related wellsite facilities to deliver natural gas and
condensate to a market are complete, and production began in December 1997.
Deliveries of natural gas to a power plant located at the Opon Contract area
also began in December 1997. The Opon No. 6 well encountered mechanical problems
during completion operations and is temporarily suspended to evaluate
information and develop plans for further operations on the well, including
workover of the well.* Drilling of the Opon No. 14 well began in October 1997.
If no problems are encountered, the Opon No. 14 well should be completed and
tested in the Spring of 1998.* As further described below, the Company will
require additional financing to continue development of the Opon project.
Cautionary Statements
- ---------------------
The Company believes that this report contains certain forward-looking
statements, as defined in the Private Securities Litigation Reform Act of 1995,
including, without limitation, statements containing the words "believes,"
"anticipates," "estimates," "expects," "may" and words of similar import, or
statements of management's opinion. Such forward looking statements involve
known and unknown risks, uncertainties and other factors which may cause the
actual results, performance or achievements of the Company to be materially
different from any future results, performance or achievements expressed or
implied by such forward-looking statements. Such factors include, among others,
the following:
Substantial Reliance On Single Investment. The Company's success currently is
dependent on its investment in the Opon project in Colombia, South America. See
Note 1 to the Consolidated Financial Statements in Item 8.
Role Of Ecopetrol. Ecopetrol is a quasi-governmental corporate organization
wholly-owned by the Colombian government, a party to the Opon Contract and the
purchaser of natural gas and liquid hydrocarbons under contracts for the sale of
production from the Opon field. See International Operations, above. At present,
the price of natural gas is set by law enacted by the legislature of Colombia in
1983. The
____________________
* This statement may be considered forward-looking. See Cautionary Statements.
20
regulated price of natural gas could be changed in the future by
governmental action. The participation of Ecopetrol, a government-owned
company, in the Opon project as a producer and as a purchaser, and the
power of the government of Colombia to set the price of natural gas
creates the potential for a conflict of interest in Ecopetrol and/or the
government. If such a conflict of interest materializes, the economic
value of the Company's interest in the Opon project could be diminished.
Marketing Of Natural Gas. The Company must secure additional markets
and sales contracts for natural gas in Colombia in order to increase
production and cash flow from the Opon project. This will depend on the
continued development of gas markets and an infrastructure for the
delivery of natural gas in Colombia. Also, other producers of natural
gas in Colombia will compete for the natural gas market and for access
to limited pipeline transportation facilities. See International
Operations and Competitive Factors in Item 1.
Foreign Operations. The Company's operations in Colombia are subject to
political risks inherent in all foreign operations. See International
Operations in Item 1.
Risks Of Oil And Gas Exploration. Inherent to the oil and gas industry
is the risk that future wells will not find hydrocarbons where
information from prior wells and engineering and geological data
indicate hydrocarbons should be found. Further, existing wells can
deplete faster than anticipated, potentially causing revisions to
reserve estimates and increasing costs due to replacement wells. Also,
because of the limited number of wells in the Opon Contract area, the
impact of the loss of a single well would potentially affect the
Company's production capability. Operations in the Opon Contract area
are subject to the operating risks normally associated with exploration
for, and production of oil and gas. See International Operations in
Item 1.
Laws And Regulations. The Company may be adversely affected by new laws
or regulations in the United States or Colombia regarding its operations
and/or environmental compliance, or by existing laws and regulations.
For additional information, see Other Factors Affecting the Company's
Business in Item 1.
Limited Capital. At September 30, 1997 the Company had a deficiency in
net assets of $93.2 million. The Company's principal asset, its
investment in the Opon project, will require additional capital for
exploitation. The Company has been unable to secure financing from
sources other than its principal shareholder. See Liquidity and Capital
Resources below and Note 1 to the Consolidated Financial Statements in
Item 8.
Losses From Operations. The Company experienced losses of $11,906,000,
$12,657,000 and $12,388,000 for the years ended September 30, 1995, 1996
and 1997, respectively. The Company anticipates continued losses
through fiscal 1998. See Results of Operations below.
Continuation Of American Stock Exchange Listing. Because of continuing
losses and decreases in shareholders' equity, the Company does not fully
meet all of the guidelines of the American Stock Exchange for continued
listing of its shares. See Market for Registrant's Common Equity and
Related Stockholder Matters in Item 5. Management has kept the Exchange
fully informed regarding the Company's present status and future plans.
21
Although the Company does not or may not meet all of the guidelines, to
date, the American Stock Exchange has chosen to allow the Company's
shares to remain listed. However, no assurances can be given that the
Company's shares will remain listed on the Exchange in the future.
Given these uncertainties, prospective investors are cautioned not to
place undue reliance on such forward-looking statements. The Company
disclaims any obligation to update any such factors or to publicly
announce the result of any revisions to any of the forward-looking
statements contained herein to reflect future events or developments.
Opon Exploration
----------------
Hondo Magdalena Oil & Gas Limited ("Hondo Magdalena"), a wholly-owned
subsidiary, became involved in the Opon Contract through a farmout
agreement with Opon Development Company ("ODC") in 1991. In August
1993, Hondo Magdalena and ODC entered into a Farmout Agreement under
which Amoco Colombia Petroleum Company ("Amoco Colombia") earned a 60%
participating interest in the Opon Contract. To earn the interest,
Amoco Colombia paid $3.0 million in cash in 1993 and paid all of the
costs related to drilling the Opon No. 3 well in 1994. In addition,
Amoco Colombia paid Hondo Magdalena $5.0 million in October 1994 and
paid all but $2.0 million of Hondo Magdalena's costs for drilling the
Opon No. 4 well in 1995.
The Opon No. 3 well, completed in September 1994, was drilled to a depth
of 12,710 feet at a total cost of approximately $30.0 million. The well
tested at a daily rate of 45 million cubic feet of natural gas and 2,000
barrels of condensate. Downhole restrictions prevented the well from
testing at higher rates. The Opon No. 4 well, completed in September
1995, was drilled to a depth of 11,500 feet at a total cost of
approximately $28.5 million. The well tested at a daily rate of 58
million cubic feet of natural gas and 1,900 barrels of condensate.
These two wells have confirmed the existence of a significant natural
gas field and will supply gas for the contracts described below.
Presently, Amoco Colombia, Hondo Magdalena and ODC have interests in the
Opon Contract (outside the commercial area described below) of
approximately 60%, 30.9% and 9.1%, respectively. As provided in the
Opon Contract, upon the designation of an area or field as commercial,
Ecopetrol acquires a 50% interest in such area or field and will
reimburse the associate parties for 50% of the direct exploration costs
for each commercial discovery from its share of production. In May
1996, Ecopetrol approved a commercial field of approximately 2,500 acres
around the Opon No. 3 and No. 4 wells. The interests in the commercial
field are approximately 50%, 30%, 15.4%, and 4.6% for Ecopetrol, Amoco
Colombia, Hondo Magdalena, and ODC, respectively. The commercial field
is substantially smaller than that requested, but may be enlarged by
future drilling and/or additional technical information.* The
associate parties submitted an application to declare the area around
the Opon No. 6 well commercial in August 1997. Ecopetrol responded in
September 1997 that it considered the information presented to be
insufficient to evaluate the application for the extension of the
commercial area. The associate parties are evaluating Ecopetrol's
response in light of the terms of the Opon Contract and plan to approach
Ecopetrol for clarification of its response. At this date, the area
____________________
* This statement may be considered forward-looking. See Cautionary
Statements under General Discussion, above.
22
around the Opon No. 6 well is not a part of the commercial area.
Ecopetrol will not pay for its share of expenditures to enlarge the
commercial field until the new areas are proven and declared commercial.
Ecopetrol will participate in further development costs of the existing
commercial field.
The Opon Contract provides that the Opon Contract area will be reduced
after the end of the exploration period, or September 30, 1995. The
first acreage relinquishment of 50% was completed during 1996. The Opon
Contract area now covers 25,021.5 hectares (61,827 acres). The second
acreage relinquishment was due on September 30, 1997. By agreement with
Ecopetrol, the second relinquishment has been postponed until September
30, 1998. As consideration, the associate parties agreed to perform,
for the full Opon Contract area, surface geological studies and
petrochemical analysis, and to undertake a study to determine the
economic and technical viability of putting the shallow oil producing
wells in the Opon Contract area into production. On September 30, 1999,
the Opon Contract area will be reduced to the area of the commercial
field that is in production or development, plus a reserve zone of five
kilometers in width around the productive limit of such field. The
commercial field plus the zone surrounding such field will become the
area of exploitation. The associate parties designate the acreage to be
released. Additional wells will be required to enlarge the commercial
area and to increase the size of the area of exploitation.*
The Opon No. 6 well commenced drilling in October 1996. This well is
slightly more than 1 kilometer north of the Opon No. 3 well and is
outside the current commercial area. The well is presently estimated to
cost $30.2 million, of which Hondo Magdalena's share is 30.9%.* After
the drilling was completed, several mechanical problems in the
completion and testing of the Opon No. 6 well occurred. After there was
a failure of a portion of the guns during the initial completion attempt
in April 1997, a second set of perforating guns were fired. Cleanup and
testing on the second set of perforations commenced in May 1997 and,
while all the guns fired, the well has not flowed as anticipated. The
associate parties have suspended operations on the well in order to
fully evaluate all data from the well and prepare a plan for further
actions. Amoco Colombia has recently proposed a workover of the Opon
No. 6 well using propellant stimulation technology. A decision on the
proposal will be made in January 1998 following an economic analysis.*
The associate parties are attempting to negotiate a settlement of claims
against suppliers of services and equipment related to the problems
encountered during completion operations on the Opon No. 6 well, but no
settlement has been reached. If a settlement is not reached, the next
step will be arbitration.* No prediction of the outcome of these
matters can be made at this time.
The Opon No. 14 well, approximately 4 kilometers south of the Opon No. 4
well, commenced drilling in October 1997. The total cost of the well is
estimated to be $21.5 million, of which Hondo Magdalena will bear
30.9%.* The well is planned for a total depth of 11,000 feet and is
intended to confirm the existence of the La Paz gas and condensate
reservoir in the south of the Opon Contract area.* The drilling of the
well has progressed in accordance with its plan to this date.
____________________
* This statement may be considered forward-looking. See Cautionary
Statements under General Discussion, above.
23
In July 1995, Hondo Magdalena, ODC, Amoco Colombia and Ecopetrol agreed
to construct a pipeline and wellhead facilities (which were not
contemplated in the Opon Contract). The parties constructed a 16 inch
pipeline approximately 88 kilometers in length from the Opon Contract
area north to Ecopetrol's gas processing plant at El Centro, and from
there to Ecopetrol's refinery at Barrancabermeja. The investment in
pipeline costs will be recovered through a pipeline tariff.* Ecopetrol
has constructed improvements at its El Centro gas processing plant to
handle incremental production from the Opon Contract area. Ecopetrol
will recover its investment through a gas processing fee.
The Comision de Regulacion de Energia y Gas (Commission for the
Regulation of Energy and Gas, "CREG"), an agency of the Ministry of
Mines and Energy of the Colombian government, regulates natural gas
pipelines and the sale of natural gas in Colombia. CREG's regulations
provide the ceiling price for natural gas and the methodology for
establishing pipeline tariffs. Based upon these regulations, Amoco
Colombia, as operator applied for a tariff for the pipeline; CREG has
not yet responded to this application.
Contracts, covering the sale of natural gas, the sale of condensate and
natural gas liquids, the processing of the gas stream, and
transportation of natural gas and liquids are complete and have been
signed by all parties. The contracts provide for: (i) the sale of 100
million cubic feet of natural gas per day for the life of the Opon
Contract at the regulated price determined semi-annually by a formula
based upon the average price received by Ecopetrol for exported fuel oil
during the prior two six-month periods (currently US$1.08 per million
British Thermal Units); (ii) the sale of condensate and natural gas
liquids at market-related and market-indexed prices; and (iii) the
processing of the gas stream at Ecopetrol's El Centro gas processing
plant for a fee of $0.159 per thousand cubic feet of gas. In a recent
amendment to the gas processing agreement the associate parties agreed
to bear the cost of processing royalty gas that is attributable to their
interests and Ecopetrol reduced the fee for processing from $0.20 to
$0.159 per thousand cubic feet of gas. Ecopetrol, as purchaser, pays
the pipeline tariff for the natural gas sold by the associate parties.
In March 1997, Hondo Magdalena, ODC, Amoco Colombia and Ecopetrol, as
sellers, signed a contract with Termo Santander de Colombia E.S.P., as
purchaser ("Termo Santander"), to supply, subject to the conditions
noted below, natural gas to an electric generation plant at the Opon
Contract area. Termo Santander's power plant is located at the Opon
Contract area. Under the contract, the sellers will supply natural gas
requested by the purchaser up to 60 million cubic feet per day. The
sellers will receive $4.2 million per year for making the gas available
for purchaser's call. Purchaser will pay 60% of the government-
regulated price (described above) for the natural gas it takes. The
sellers will also receive additional bonus payments if the power plant
achieves a price for its electrical power in excess of certain target
rates. Condensate associated with the natural gas that is delivered to
the purchaser will be separately sold to Ecopetrol. The contract
provides for substantial penalties, decreasing over the life of the
contract, to the sellers for the failure to deliver gas. The
commencement of the contract is conditioned upon the completion of the
electric generation plant and a determination by the sellers that there
____________________
* This statement may be considered forward-looking. See Cautionary
Statements under General Discussion, above.
24
are sufficient reserves to supply natural gas to the purchaser for the
entire term of the agreement. In order to begin deliveries before the
condition concerning the sufficiency of reserves is satisfied, an
interim agreement for the sale of gas to Termo Santander was signed on
November 20, 1997. The interim agreement will be effective until
January 1, 1999, or until sufficient reserves are determined through
additional work on the Opon No. 6 well or the successful completion of
the Opon No. 14 well.* The gas sales price under the interim agreement
will be equivalent to the price, including pipeline tariff, that would
have been received if the same gas were sold under the contract with
Ecopetrol described in the preceding paragraph.
The pipeline and wellsite facilities were completed in June 1997.
Ecopetrol completed the improvements to the El Centro gas plant in
November 1997. Production from the Opon field began on December 1,
1997, with gas supplied to Termo Santander for testing the first of two
turbines at the power plant. The first shipment of gas through the
pipeline began on December 5, 1997, but was interrupted for one week
shortly thereafter by a landslide. The first shipment of gas was 10
million cubic feet and the quantity is expected to increase to the
contract quantity of 100 million cubic feet per day by the end of
calendar 1997.*
The associate parties have submitted invoices to Ecopetrol under the gas
sales agreement for payments under the take-or-pay clause. Ecopetrol
has indicated that it will not pay these invoices. The associate
parties are reviewing their legal options to pursue the collection of
these invoices.*
Amoco Colombia has submitted budgets to Hondo Magdalena and ODC for
calendar years 1996, 1997 and 1998. Hondo Magdalena approved capital
expenditures for wells and the pipeline projects, and certain other
expenditures, but did not approve the proposed overhead. As of this
date, no final budget has been approved for calendar years 1996, 1997 or
1998. The parties are currently at an impasse in resolving the dispute
about overhead. Hondo Magdalena has paid invoices from Amoco Colombia,
including disputed overhead and has charged the full overhead amount to
expense. It is management's opinion that the Company is not obligated
to pay for overhead unless charged pursuant to an approved budget;
however the Company has paid Amoco Colombia's invoices, under protest
and subject to audit, in the hope of resolving the dispute. If the
dispute cannot be resolved, the joint operating agreement among Amoco
Colombia, Hondo Magdalena and ODC provides for arbitration of disputes.
____________________
* This statement may be considered forward-looking. See Cautionary
Statements under General Discussion, above.
25
Discontinued Operations
-----------------------
Two of the Company's former business segments, refining and marketing
operations and real estate operations were discontinued in 1991.
On December 15, 1989, the Company suspended operations at its Newhall
refinery. Subsequently, the Company adopted a plan of disposition which
included dismantling the refinery, effecting environmental remediation
of the land and further developing the land to a condition where it may
be sold. Execution of the plan was suspended in September 1993 and the
Company is now marketing the site in its current condition and with
existing land-use entitlements. The Newhall refinery site consists of
approximately 105 acres located adjacent to a major freeway intersection
in northern Los Angeles County. See Management's Discussion and
Analysis of Financial Condition and Results of Operations in Item 7 and
Note 12 to the Consolidated Financial Statements in Item 8.
The Company owns in fee simple approximately 11 acres of undeveloped
land located in eastern Los Angeles County. An option to a developer on
the Company's Via Verde tract at a price of $3.1 million expires in
December 1997. The option agreement allows the Company the right to be
released from the current agreement should there be a potential sale of
the parcel to a ready and willing buyer.
On October 1, 1993 the Company completed a transaction for the sale of
its Fletcher refinery and related assets. In the agreement for the sale
of the Fletcher refinery, the Company indemnified the buyer as to
liabilities in excess of $0.3 million for certain federal and state
excise taxes arising from periods prior to the sale. As more fully
described in Note 12 to the Consolidated Financial Statements in Item 8,
the State of California issued a preliminary report in June 1996 finding
that the Fletcher refinery owed $10.8 million for certain state excise
taxes (and related penalties and interest) arising from periods when the
Company owned the Fletcher refinery. The State of California issued a
Notice of Determination in July 1997 reducing this amount to $5.7
million. Assessed amounts are subject to a process of appeals and may
be further adjusted.* The Company and the Fletcher refinery intend to
further contest the assessment through the appeals and hearing process.
The Company believes the liability it has accrued is sufficient to
provide for the amount ultimately found to be due.*
RESULTS OF OPERATIONS
Results of operations for the year ended September 30, 1997 amounted to
a loss of $12.4 million, or 90 cents per share, of which $10.8 million
arose from continuing operations and $1.6 million resulted from
discontinued operations. The Company reported a net loss of $12.7
million, or 93 cents per share, for the year ended September 30, 1996.
The 1996 loss included discontinued loss provisions of $1.3 million and
a loss of $11.4 million from continuing operations. In 1995, the
Company reported a net loss of $11.9 million, or 90 cents per share,
which included losses from discontinued operations of $5.0 million and a
loss of $6.9 million from continuing operations.
____________________
* This statement may be considered forward-looking. See Cautionary
Statements under General Discussion, above.
26
As described previously, the Company had moved from a domestic oil and
gas operation to a foreign oil and gas operation. The historical
results of continuing operations contain many non-recurring
transactions. As a result, they are not comparable and are a poor
indicator of the Company's future operating results. Management expects
losses from continuing operations to continue through fiscal 1998.*
1997 vs 1996
------------
Operating costs for fiscal 1997 include an accrual of $0.4 million for
revisions to estimated plugging and abandonment costs of an offshore
unit in California. No comparable costs were incurred in fiscal 1996.
Overhead, Colombian operations decreased $0.4 million between the years
ended September 30, 1997 and 1996 primarily because:(i) year end
adjustments recorded by Amoco Colombia increasing the figure in December
1995 did not recur in December 1996 and (ii) Ecopetrol participated in
overhead expenses pertaining to the commercial operations for all of
fiscal 1997, but only the last five months of fiscal 1996.
The Company's Colombian operations undertook a seismic exploration
program during fiscal 1996. The decrease of $1.7 million in exploration
costs between the years arises because there were no comparable expenses
incurred in fiscal 1997.
The level of the Company's indebtedness to Lonrho Plc and to Amoco
Colombia under the Funding Agreement has increased by $31.1 million
between September 30, 1996 and September 30, 1997. Interest expense
increased by only $1.2 million between the years ended September 30,
1997 and 1996 because the majority of the charges from the Funding
Agreement are capitalized.
Management has the following expectations for 1998 results of
operations: revenue and related operating costs and depreciation,
depletion and amortization will increase significantly in conjunction
with the commencement of production in December 1997; overhead,
Colombian operations, general and administrative expense, and
exploration expenses should not vary significantly from 1997.* These
factors are expected to combine to produce approximately break-even
results before interest expense.* The level of interest expense to be
reported in 1998 is difficult to predict at the current time, but it
will increase substantially from 1997 if no outside financing to repay
the Funding Agreement is acquired.*
1996 vs 1995
------------
The Company's share of expenses from the Opon operation was borne solely
by Amoco Colombia during 1995 and 1994 while the Opon Nos. 3 and 4 wells
were being drilled. The increases in operating expenses, overhead,
Colombian operations and exploration costs of $0.1 million, $2.5 million
and $1.6 million, respectively, for the year ended September 30, 1996 as
compared to the year ended September 30, 1995, all arise from the
Company assuming its share of these costs in 1996. The increase in
interest expense of $0.3 million between the years arises primarily from
Colombian costs financed with the Funding Agreement.
____________________
* This statement may be considered forward-looking. See Cautionary
Statements under General Discussion, above.
27
Discontinued Operations
-----------------------
The Company implemented disposal accounting for its refining and
marketing and real estate segments during 1991. In 1997, the Company
recorded loss provisions of $1.2 million and $0.4 million for its
refining and marketing and real estate segments, respectively, as
described previously. Loss provisions of $0.4 million for the refining
and marketing segment and $0.9 million for the real estate segment were
recorded in 1996. Loss provisions for 1995 amounted to $0.7 million and
$4.3 million for refining and marketing and real estate, respectively.
Operating losses from discontinued operations of $0.3 million, $0.1
million, and $0.4 million for 1997, 1996, and 1995, respectively, were
charged against loss provisions established in earlier periods.
LIQUIDITY AND CAPITAL RESOURCES
During fiscal, 1997, cash inflows of $14.6 million arose from borrowings
from Lonrho Plc. The Company utilized cash of $3.9 million and $0.4
million to finance continuing and discontinued operations, respectively,
$8.9 million for capital expenditures, and made scheduled debt
repayments of $0.8 million. At September 30, 1997, the Company had cash
balances of $1.0 million.
In December 1993, the Company restructured the terms of its debts to
Lonrho Plc. The revised terms included reduction of interest rates to a
fixed rate of 6% and provisions allowing the Company to offer payment of
future interest in shares of its common stock, and allowing Lonrho Plc
to either accept such payment in kind or add the amount of the interest
due to principal. The ability to pay interest in kind or capitalize
interest allows the Company to service its debt while cash resources are
scarce.
The Company obtained a facility loan of $13.5 million in a Revolving
Credit Agreement dated as of June 28, 1996, between the Company and
Thamesedge, Ltd., a subsidiary of Lonrho Plc. This loan was amended and
restated, as described below. Under a December 1996 letter agreement,
as consideration for extension of maturities and certain other financial
undertakings, the Company granted to Lonrho a security interest in all
of the shares of Hondo Magdalena. The Company signed a Security
Interest Agreement dated as of May 13, 1997 to document the pledge of
the Hondo Magdalena shares. The Company also agreed to give Lonrho an
option to convert $13.5 million of existing loans with an interest rate
of 6% into the Company's common stock. The debt will be convertible at
Lonrho's option at any time prior to January 1, 1998 at a rate of
$12.375 per share. The portion of the debt that may be converted into
common stock is not secured by the pledge of the Hondo Magdalena shares.
The option to convert the debt into common stock was approved by the
Company's shareholders at the 1997 Annual Meeting.
In July 1997, the Company and Thamesedge, Ltd. agreed to amend and
restate the June 1996 Revolving Credit Agreement. Under the Amended and
Restated Revolving Credit Agreement dated as of July 2, 1997, Thamesedge
agreed to make additional advances of $7.0 million to the Company,
making the total amount of the loan $20.5 million. The interest rate
remains 13%, due semi-annually; as provided in other debts to Thamesedge
and described above, the Company may make interest payments in shares of
its common stock. The loan now matures January 1, 1999. As additional
28
consideration for the loan, the Company agreed to give Lonrho an option
to convert $7.0 million of existing debt with an interest rate of 6%
into the Company's shares at $7.70 per share (110% of the closing price
on July 1, 1997). The option to convert must be approved by the
Company's shareholders at the next annual meeting. If the option to
convert is not approved by the shareholders, the interest rate on $7
million of existing debt will increase to 13.5%. Lonrho has further
agreed to vote its shares on the matter of the option to convert in
proportion to the votes cast by disinterested shareholders. As of
September 30, 1997, $14.6 million of this facility has been drawn.
In August 1997, Thamesedge Ltd. assigned all of its interest in the
Company's indebtedness to London Australian & General Property Company
Limited ("LAGP"), a subsidiary of Lonrho Plc. In December 1997 the
Company restructured the terms of certain debt to LAGP, and obtained an
additional funding commitment of $7.0 million for fiscal 1998. The
Company extended all of the above described indebtedness due on January
1, 1998 to January 15, 1999 and amended the notes by adding a cross-
default provision and a new event of default. The new event of default
requires the Company to furnish to LAGP by October 1, 1998 a reserve
report that shows a minimum of 13 billion cubic feet of gas increase
over the 1997 proved reserve figure. In the event of a default under
this new provision, LAGP has the right to declare all the loans in
default and demand payment. The new $7.0 million commitment from Lonrho
Plc for fiscal 1998 will be added to the July 1997 Amended and Restated
Revolving Credit Agreement under the same terms and condition as the
existing agreement explained above. The Company presently owes Lonrho
Plc $99.9 million, of which $93.8 million is due January 15, 1999.
On May 5, 1995, Hondo Magdalena, ODC and Amoco Colombia entered into a
Funding Agreement for Tier I Development Project costs (the "Funding
Agreement") for the interim financing of costs associated with the
construction of a pipeline from the Opon Contract area (see Note 6 to
the Consolidated Financial Statements in Item 8) and certain other costs
related to the Opon Contract. The Funding Agreement became effective on
July 26, 1995. Hondo Magdalena has financed its share of the costs
(including overhead) for the pipeline and an approved geological and
geophysical work program. The Funding Agreement provides that Hondo
Magdalena may repay the amounts financed up to 365 days after the date
of first production, along with an equity premium computed on a 22%
annualized interest rate. The equity premium is computed monthly on
Hondo Magdalena's share of expenditures (including any amounts to be
later recouped from Ecopetrol after commerciality). Alternatively, from
the date of first production until 90 days thereafter, Hondo Magdalena
may elect to repay 125% of its share (excluding any amounts to be later
recouped from Ecopetrol after commerciality) of the total costs
accumulated up to the date of repayment. If the financed amounts are
not repaid within 365 days after the date of first production, an
additional penalty of 100% of the amount then due would be recovered out
of Hondo Magdalena's revenues. Hondo Magdalena's revenues from
production of the first 80 million cubic feet of natural gas and
corresponding condensate and natural gas liquids are pledged to secure
its obligations under the Funding Agreement. Production may be deemed
to have commenced in December 1997 and the Company does not have the
commitments or funds to repay the Funding Agreement within either the 90
or 365 day option periods.* If the Company does not secure financing to
____________________
* This statement may be considered forward-looking. See Cautionary
Statements under General Discussion, above.
29
repay the Funding Agreement prior to 365 days after the date of first
production, it will incur the 100% penalty and will pay the increased
amount out of production, as described above.*
Based upon the Company's budget and current information, management
believes existing cash, available facilities, Lonrho commitments, net
proceeds from the sale of Opon gas and the Funding Agreement will be
sufficient to finance the Company's known obligations (the pipeline and
related facilities, estimated completion expenses of the Opon No. 6
well, estimated drilling and completion expenses of the Opon No. 14
well, overhead obligations unrelated to capital projects and other
business activities) during fiscal 1998.* However, management believes
the Company will need additional cash to participate in the drilling of
additional wells in Colombia and/or to participate in other capital
projects.* If the Company becomes obligated for the drilling of an
additional well, or other capital projects, the Company has the option
to not participate in some or all of the capital projects.* In
management's view, use of this election would be a last resort to
preserve the Company's existing interest in the Opon Contract area
because substantial penalties would be incurred by not participating.
Cash flow from operations which commenced in December 1997 is not
expected to be a source of free funds since pursuant to the Funding
Agreement, Amoco receives the proceeds from the first 80 million cubic
feet of gas and associated liquids.* Any additional free cash flow is
committed to existing loan obligations. Management is reviewing several
options for raising funds including sale of the Company's 15.4% interest
in the pipeline.* Management continues to pursue discussions with a
number of financial institutions regarding debt or equity financing of
the Company's future obligations for the Opon project but has received
no commitments.* Additional deliverability from current drilling
projects and adequate production capability through the pipeline
infrastructure will be important factors in obtaining third party
financing.* In the interim, the Company must continue to rely on the
financial support of Lonrho.* While the Company will continue to seek
permanent financing in the near-term, there can be no assurance that the
Opon Project will be successfully developed or that additional debt or
equity funds will become available.* Furthermore, the success of the
Opon No. 14 well is critical to obtaining third party financing (either
debt or equity) and for the decision by the associate parties to the
Opon Contract to continue the development of the Opon project.*
____________________
* This statement may be considered forward-looking. See Cautionary
Statements under General Discussion, above.
30
Item 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
HONDO OIL & GAS COMPANY
CONSOLIDATED FINANCIAL STATEMENTS
SEPTEMBER 30, 1997
INDEX TO FINANCIAL STATEMENTS
PAGE
----
Report of Independent Auditors 32
Financial Statements:
Consolidated Balance Sheets as of
September 30, 1997 and 1996 33
Consolidated Statements of Operations for the years ended
September 30, 1997, 1996 and 1995 34
Consolidated Statements of Shareholders' Equity (Deficit)
for the years ended September 30, 1997, 1996 and 1995 35
Consolidated Statements of Cash Flows for the years ended
September 30, 1997, 1996 and 1995 36
Notes to Consolidated Financial Statements 37
Supplementary Information about Oil and Gas Producing Activities
and Reserves (Unaudited) 56
31
<AUDIT-REPORT>
REPORT OF INDEPENDENT AUDITORS
Board of Directors and Shareholders
Hondo Oil & Gas Company
We have audited the accompanying consolidated balance sheets of Hondo Oil & Gas
Company as of September 30, 1997 and 1996, and the related consolidated
statements of operations, shareholders' equity (deficit), and cash flows for
each of the three years in the period ended September 30, 1997. Our audits
also included the financial statement schedule listed in the Index at Item
14(a). These financial statements and schedule are the responsibility of the
Company's management. Our responsibility is to express an opinion on these
financial statements and schedule based on our audits.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to
obtain reasonable assurance about whether the financial statements are free of
material misstatement. An audit includes examining, on a test basis, evidence
supporting the amounts and disclosures in the financial statements. An audit
also includes assessing the accounting principles used and significant
estimates made by management, as well as evaluating the overall financial
statement presentation. We believe that our audits provide a reasonable basis
for our opinion.
In our opinion, the consolidated financial statements referred to above present
fairly, in all material respects, the consolidated financial position of Hondo
Oil & Gas Company at September 30, 1997 and 1996, and the consolidated results
of its operations and its cash flows for each of the three years in the period
ended September 30, 1997, in conformity with generally accepted accounting
principles. Also, in our opinion, the related financial statement schedule,
when considered in relation to the basic financial statements taken as a whole,
presents fairly in all material respects the information set forth therein.
/s/ ERNST & YOUNG LLP
Denver, Colorado
November 21, 1997,
except for Note 5 as to which the date is
December 18, 1997
</AUDIT-REPORT>
32
HONDO OIL & GAS COMPANY
CONSOLIDATED BALANCE SHEETS
(In Thousands Except Share Information)
September 30,
1997 1996
----------- -----------
ASSETS
Current assets:
Cash and cash equivalents $1,019 $374
Accounts receivable, net of allowances
of $44 and $332, respectively 296 317
Prepaid expenses and other 1 79
----------- -----------
Total current assets 1,316 770
Properties, net (Note 3) 40,612 21,248
Net assets of discontinued operations (Note 12) 2,137 2,202
Other assets 865 320
----------- -----------
$44,930 $24,540
=========== ===========
LIABILITIES AND SHAREHOLDERS' EQUITY (DEFICIT)
Current liabilities:
Accounts payable $3,464 $2,849
Current portion of long-term debt (Note 5) 265 738
Accrued expenses and other (Note 4) 3,421 2,292
----------- -----------
Total current liabilities 7,150 5,879
Long-term debt, including $99,943 and
$80,109, respectively, payable to a
related party (Note 5) 102,903 83,334
Funding agreement (Note 6) 22,788 11,513
Other liabilities, including $3,407 and
$2,411, respectively, payable to a
related party (Note 7) 5,262 4,705
----------- -----------
138,103 105,431
Contingent liabilities (Notes 10 and 12)
Shareholders' equity (deficit) (Notes 5 and 8):
Preferred stock -- --
Common stock, $1 par value, 30,000,000 shares
authorized; shares issued and outstanding:
13,788,424 and 13,776,194, respectively 13,788 13,776
Additional paid-in capital 53,675 53,581
Accumulated deficit (160,636) (148,248)
----------- -----------
(93,173) (80,891)
----------- -----------
$44,930 $24,540
=========== ===========
The accompanying notes are an integral part of these financial statements.
33
HONDO OIL & GAS COMPANY
CONSOLIDATED STATEMENTS OF OPERATIONS
(In Thousands Except Share and Per Share Data)
For the years ended
-------------------------------------
September 30,
1997 1996 1995
----------- ----------- -----------
REVENUES
Sales and operating revenue $4 $2 $23
Other income 25 110 23
----------- ----------- -----------
29 112 46
----------- ----------- -----------
COSTS AND EXPENSES
Operating costs 575 169 47
Depreciation, depletion, and amortization 230 156 266
Overhead, Colombian operations 2,183 2,576 119
General and administrative 1,582 1,779 1,608
Exploration costs 27 1,769 169
Interest on indebtedness including $6,222,
$4,786 and $4,659, respectively, to a
related party (Note 5) 6,222 5,009 4,680
Loss on sale of assets -- 6 --
----------- ----------- -----------
10,819 11,464 6,889
----------- ----------- -----------
Loss from continuing operations
before income taxes (10,790) (11,352) (6,843)
Income tax expense (benefit) (Note 9) (2) 5 113
----------- ----------- -----------
Loss from continuing operations (10,788) (11,357) (6,956)
Loss from discontinued operations (Note 12) (1,600) (1,300) (4,950)
----------- ----------- -----------
Net Loss $(12,388) $(12,657) $(11,906)
=========== =========== ===========
Loss per share:
Continuing operations $(0.78) $(0.83) $(0.53)
Discontinued operations (0.12) (0.10) (0.37)
----------- ----------- -----------
Net loss per share $(0.90) $(0.93) $(0.90)
=========== =========== ===========
Weighted average common shares outstanding 13,780,963 13,672,722 13,171,049
The accompanying notes are an integral part of these financial statements.
34
HONDO OIL & GAS COMPANY
CONSOLIDATED STATEMENTS OF SHAREHOLDERS' EQUITY (DEFICIT)
(In Thousands Except Common Shares)
Common Stock Retained
------------------------ Additional Earnings
Paid-In (Accumulated
Shares Amount Capital Deficit)
----------- ----------- ----------- -----------
Balance at October 1, 1994 13,032,276 $13,032 $43,972 $(123,685)
Purchase of interest in Opon Association
Contract with common stock (Note 3) 44,438 44 845 --
Payment of interest with common stock (Note 5) 189,080 189 2,104 --
Exercise of stock options (Note 8) 157,584 158 1,883 --
Net loss -- -- -- (11,906)
----------- ----------- ----------- -----------
Balance at September 30, 1995 13,423,378 13,423 48,804 (135,591)
Payment of interest with common stock (Note 5) 319,316 319 4,423 --
Exercise of stock options (Note 8) 33,500 34 354 --
Net loss -- -- -- (12,657)
----------- ----------- ----------- -----------
Balance at September 30, 1996 13,776,194 13,776 53,581 (148,248)
Payment of liabilities with common stock 12,230 12 94 --
Net loss -- -- -- (12,388)
----------- ----------- ----------- -----------
Balance at September 30, 1997 13,788,424 $13,788 $53,675 $(160,636)
=========== =========== =========== ===========
The accompanying notes are an integral part of these financial statements.
35
HONDO OIL & GAS COMPANY
CONSOLIDATED STATEMENTS OF CASH FLOWS
(In Thousands)
For the years ended
-------------------------------------
September 30,
1997 1996 1995
----------- ----------- -----------
Cash flows from operating activities:
Pretax loss from continuing operations $(10,790) $(11,352) $(6,843)
Adjustments to reconcile pretax loss from continuing
operations to net cash used by continuing operations:
Depreciation, depletion and amortization 230 156 266
Loss on sale of assets -- 6 --
Accrued interest added to long-term debt 5,261 34 2,385
Accrued interest paid with common stock -- 4,742 2,292
Changes in operating assets and liabilities:
Decrease (increase) in:
Accounts receivable 21 10 199
Prepaid expenses and other 78 (72) 26
Other assets (731) (12) (201)
Increase (decrease) in:
Accounts payable 230 1,189 159
Accrued expenses and other (40) -- 123
Funding agreement 1,961 3,361 275
Other liabilities (118) (178) (357)
----------- ----------- -----------
Net cash used by continuing operations (3,898) (2,116) (1,676)
Net cash used by discontinued operations (366) (210) (473)
----------- ----------- -----------
Net cash used by operating activities (4,264) (2,326) (2,149)
----------- ----------- -----------
Cash flows from investing activities:
Sale of assets -- 1 4,804
Capital expenditures (8,926) (913) (2,021)
----------- ----------- -----------
Net cash provided (used) by investing activities (8,926) (912) 2,783
----------- ----------- -----------
Cash flows from financing activities:
Proceeds from long-term borrowings 14,600 1,825 3,175
Principal payments on long-term debt (765) (235) (5,220)
Issuance of stock -- 251 2,041
----------- ----------- -----------
Net cash provided (used) by financing activities 13,835 1,841 (4)
----------- ----------- -----------
Net increase (decrease) in cash and cash equivalents 645 (1,397) 630
Cash and cash equivalents at the beginning of the year 374 1,771 1,141
----------- ----------- -----------
Cash and cash equivalents at the end of the year $1,019 $374 $1,771
=========== =========== ===========
Refer to Notes 3 and 6 for descriptions of non-cash transactions.
The accompanying notes are an integral part of these financial statements.
36
HONDO OIL & GAS COMPANY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
September 30, 1997
(All Dollar Amounts in Thousands)
1) Nature of Business
------------------
Hondo Oil & Gas Company ("Hondo Oil" or "the Company") is an independent oil
and gas exploration and development company. The Hondo Company owns 62.7%
of Hondo Oil & Gas Company. Lonrho Plc ("Lonrho"), a publicly-traded
English company and the Company's primary lender, owns 100% of The Hondo
Company and owns an additional 5.7% of the Company through another
wholly-owned subsidiary. In total, Lonrho controls 68.4% of the Company's
outstanding shares.
During 1991 the Company adopted plans of disposal for its refining and
marketing and real estate operations. Substantially all of the refining and
marketing assets were sold in 1993. Following the sale of substantially all
of its domestic oil and gas properties in 1992, the Company's sole
continuing business activity is exploitation of an oil and gas concession in
Colombia, South America.
The Company's wholly-owned subsidiary, Hondo Magdalena Oil & Gas Limited
("Hondo Magdalena"), became involved in the Opon Association Contract (the
"Opon Contract") in Colombia in 1991. Amoco Colombia Petroleum Company
("Amoco Colombia") earned an interest in the Opon Contract through a Farmout
Agreement executed in 1993. Amoco Colombia, Hondo Magdalena, and Opon
Development Company presently have working interests of approximately 60%,
31%, and 9%, respectively. The Colombian national oil company, Ecopetrol,
has the right to acquire 50% of the Opon Contract when commerciality is
declared and will reimburse the associate parties (out of future production)
for 50% of the direct exploration costs. In 1995, Ecopetrol agreed to
include certain costs related primarily to construction of a pipeline and
wellsite facilities in the commercial area, and to pay cash for its share of
those costs. Commerciality was declared for a portion of the Contract area
in May 1996 and Ecopetrol reimbursed the associate parties for its share of
the above described costs in September 1996 (See Note 6). Subsequent to the
declaration of commerciality, the Company's share of costs for activities
within the commercial area is approximately 15%.
Amoco Colombia was obligated by the 1993 Farmout Agreement to fund all but
$2,000 of Hondo Magdalena's share of drilling and related costs during the
drilling of two exploration wells and to make certain payments to Hondo
Magdalena. Amoco Colombia spent approximately $56,500 to drill the first
two exploratory natural gas wells in 1994 and 1995. The combined results of
production tests of these wells indicate they will produce at a daily rate
of 103 million cubic feet of natural gas and 3,900 barrels of condensate.
The Company was able to attribute proved reserves to this discovery as of
September 30, 1996 following completion of negotiations for sales of the
discovered hydrocarbons. As more fully described in Note 6, Amoco Colombia
agreed to finance the Company's share of costs to build a natural gas
pipeline, construct wellhead facilities, and acquire seismic data, including
related overhead. Acquisition of the seismic data was completed during
fiscal 1996, and construction of the pipeline and related wellhead
facilities was completed during fiscal 1997. The Company began earning
revenue in December 1997.
37
HONDO OIL & GAS COMPANY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
September 30, 1997
(All Dollar Amounts in Thousands)
1) Nature of Business (continued)
------------------------------
A third well was drilled during fiscal 1997. In April and May 1997, several
mechanical problems were encountered during the completion and testing of
the third well. Further work on the well has been suspended until a plan
has been finalized (estimated to occur in January 1998). Drilling of a
fourth well commenced in October 1997. Both of the third and fourth wells
are located in the non-commercial portion of the concession, therefore,
Ecopetrol does not pay a share of the drilling costs.
As more fully described in Note 6, a substantial portion of the Company's
revenue is pledged to repayment of the Funding Agreement. Cash from
operations after Funding Agreement repayments will not be sufficient to fund
Colombian operating costs and capital expenditures, and U.S. overheads,
during fiscal 1998. Based upon the Company's budget, management believes
existing facilities and further commitments from Lonrho and the Funding
Agreement will be sufficient to finance the Company's known cash
requirements during fiscal 1998. The Company will require significant
additional funding for the continued development of the Opon Contract area
and repayment of the Funding Agreement subsequent to fiscal 1998. The
Company has the option to not participate in some or all of the Opon capital
projects which may be proposed in the future and the option to allow the
Funding Agreement to be repaid entirely from production. However,
substantial penalties would be incurred by choosing either of these
alternatives.
The Company continues to be dependent on its majority shareholder, Lonrho
Plc, to fund its future cash needs. Management believes that outside
financing will not be forthcoming until Opon 14 is successfully completed in
the spring of 1998. Obtaining permanent financing for development of the
Company's Opon project is vital to the Company's ability to successfully
exploit this concession in the future. There can be no assurance that the
Opon Project will be successfully developed or that additional debt or
equity funds will become available.
2) Summary of Significant Accounting Policies
------------------------------------------
(a) Basis of Consolidation and Presentation
---------------------------------------
The consolidated financial statements of Hondo Oil include the accounts of
all subsidiaries, all of which are wholly owned. All significant
intercompany transactions have been eliminated.
In 1991, the Company adopted plans of disposal for its refining and
marketing and its real estate segments, respectively. Accordingly, the
results of operations and the net assets of the discontinued segments have
been reclassified to discontinued operations for all periods presented.
Assets of discontinued operations are recorded at the lower of cost or net
realizable value. Refer to Note 12.
38
HONDO OIL & GAS COMPANY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
September 30, 1997
(All Dollar Amounts in Thousands)
2) Summary of Significant Accounting Policies (continued)
------------------------------------------------------
(b) Cash Equivalents
----------------
Cash equivalents represent highly liquid investments with original
maturities of three months or less.
(c) Oil and Gas Properties
----------------------
Oil and gas properties are accounted for using the successful efforts
method. Under this method, property acquisition costs are capitalized when
incurred. Exploratory geological and geophysical costs and general and
administrative costs, including salaries, are expensed as incurred. The
Company capitalizes interest expense for individual capital projects
requiring more than three months for completion and costing more than
$1,000. The costs of drilling exploratory wells are capitalized pending
determination of whether the wells have found proved reserves. If proved
reserves are not discovered, such dry hole costs are expensed. All
developmental drilling costs, including those for unsuccessful wells, are
capitalized.
Acquisition costs of unproved properties which are considered to be
individually significant are periodically assessed for impairment on a
property-by-property basis. Individually insignificant properties are
assessed for impairment as a group. Any decline in value is included in the
statement of operations in exploration costs.
Intangible drilling and development costs and tangible equipment are
depleted by the units-of-production method using proved developed reserves
on a field basis. Leasehold costs are also depleted on a field basis using
total proved reserves. Estimates of proved reserves are based upon reports
of independent petroleum engineers.
(d) Other Fixed Assets
------------------
Other fixed assets are recorded at historical cost and are depreciated by
the straight-line method using useful lives of 7 to 10 years.
(e) Earnings Per Share
------------------
In February 1997, the Financial Accounting Standards Board issued SFAS No.
128, Earnings per Share. Under the new requirements, the dilutive effect of
stock options is to be excluded from the primary earnings per share
computation. The Company has incurred losses in each of the periods covered
in these financial statements, thereby making the inclusion of stock options
in the primary earnings per share computation antidilutive. Accordingly,
stock options have already been excluded from the primary earnings per share
computation and previously reported primary earnings per share amounts do
not need to be restated. Fully diluted per share amounts are the same as
primary per share amounts and, accordingly, are not presented.
39
HONDO OIL & GAS COMPANY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
September 30, 1997
(All Dollar Amounts in Thousands)
2) Summary of Significant Accounting Policies (continued)
------------------------------------------------------
(f) Income Taxes
------------
The Company accounts for income taxes under the provisions of SFAS No. 109,
"Accounting For Income Taxes." Under Statement 109, the liability method is
used in accounting for income taxes. Deferred tax assets and liabilities
are determined based on reversals of differences between financial reporting
and tax bases of assets and liabilities and are measured using the enacted
effective tax rates and laws that will be in effect when the differences are
expected to reverse.
Investment tax credits are accounted for by the flow-through method which
recognizes related benefits in the year realized.
(g) Loan Fees
---------
Capitalized loan fees pertaining to long-term loans are included in other
assets. The loan fees are stated at cost and are amortized by the
straight-line method, which approximates the level yield method, over the
life of the related loan.
(h) Foreign Currency Translation
----------------------------
The Company's Colombian business is conducted in a highly inflationary
economic environment. Accordingly, the financial statements of the
Company's foreign subsidiary are remeasured as if the functional currency
were the U.S. dollar using historical exchange rates. Exchange gains and
losses, which have been immaterial to date, are included in operating costs.
(i) 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 amounts reported in the financial statements and
accompanying notes. Actual results could differ from those estimates.
(j) Fair Value of Financial Instruments
-----------------------------------
SFAS Statement No. 107, Disclosures About Fair Value of Financial
Instruments, requires disclosures of fair value information about financial
instruments for which it is practicable to estimate that value. The
Company's financial instruments include: cash and cash equivalents,
receivables, accounts payable, long-term debt, the Funding Agreement, and
certain other long-term liabilities. Disclosures of fair values determined
in accordance with SFAS No. 107 are included in Notes 5, 6, and 7. The
Company believes that the recorded values approximate fair values for
financial instruments for which no separate disclosure of fair value is
made.
40
HONDO OIL & GAS COMPANY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
September 30, 1997
(All Dollar Amounts in Thousands)
2) Summary of Significant Accounting Policies (continued)
------------------------------------------------------
(k) Stock Option Valuation
----------------------
The Company implemented the disclosure requirements of SFAS No. 123,
Accounting and Disclosure of Stock-Based Compensation as of September 30,
1997. The Statement gives companies the option to either follow fair value
accounting or to continue to follow Accounting Principles Board Opinion No.
25, Accounting for Stock Issued to Employees ("APB No. 25"), and related
interpretations. The Company has elected to continue to follow APB No. 25
for recognition of expense from stock options and stock-based awards.
Therefore, implementation of the Statement had no impact on results of
operations for any of the years reported.
(l) Reclassifications
-----------------
Certain reclassifications have been made to the prior years' amounts to make
them comparable to the fiscal 1997 presentation. These additional changes
had no impact on previously reported results of operations or shareholders'
equity (deficit).
3) Properties
----------
Properties, at cost, consist of the following:
September 30,
1997 1996
----------- -----------
Oil and gas properties (Colombia):
Proved $11,923 $11,803
Accumulated depletion, depreciation
and amortization -- --
----------- -----------
11,923 11,803
----------- -----------
Other properties - Colombia:
Wellsite facilities 4,689 2,039
Pipelines 12,061 5,398
Wells in progress 11,821 1,858
Other properties - domestic
Other fixed assets 323 311
Accumulated depreciation (205) (161)
----------- -----------
$40,612 $21,248
=========== ===========
41
HONDO OIL & GAS COMPANY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
September 30, 1997
(All Dollar Amounts in Thousands)
3) Properties (continued)
----------------------
The balance of wells in progress includes non-cash increases of $674 and
$1,225 which were accrued in accounts payable as of September 30, 1997 and
1996, respectively. The Company capitalized interest of $782 and $180 in
the balance of wells in progress for the years ended September 30, 1997
and 1996, respectively. The balances of wellsite facilities and pipelines
include non-cash increases of $6,538 and $7,968 for 1997 and 1996,
respectively, which were charged to the Funding Agreement (Note 6). The
balances of wells in progress, wellsite facilities and pipelines include
a non-cash decrease of $2,916 for 1996 pertaining to amounts due from
Ecopetrol under the commerciality declaration (See Note 1), of which $2,629
had been collected and applied to the Funding Agreement as of September 30,
1997. The balance of $287 was retained by Ecopetrol subject to completion
of an audit and is included in accounts receivable as of September 30, 1997.
Total costs incurred (both capitalized and expensed) in Colombia for oil and
gas producing activities were:
<HEADING>
For the years ended
-------------------------------------
September 30,
1997 1996 1995
----------- ----------- -----------
Property acquisition costs (a) $-- $38 $889
=========== =========== ===========
Exploration costs $10,051 $3,731 $169
=========== =========== ===========
Development costs $2,709 $2,558 $190
=========== =========== ===========
(a) In September 1995, the Company acquired an additional 0.88875%
interest in the Opon Contract by the issuance of 44,438 shares of its
common stock.
4) Accrued expenses
----------------
Accrued expenses consist of the following:
September 30,
1997 1996
----------- -----------
Refining and marketing costs (Note 12) $3,198 $2,028
Other 223 264
----------- -----------
$3,421 $2,292
=========== ===========
42
HONDO OIL & GAS COMPANY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
September 30, 1997
(All Dollar Amounts in Thousands)
5) Long-Term Debt
--------------
Long-term debt consists of the following: September 30,
1997 1996
----------- -----------
Notes payable to Lonrho Plc (a),(b):
Note A (c) $3,479 $3,277
Note B (c) 4,535 4,271
Note C (a),(d) 38,577 36,361
Note D (d) 33,126 31,200
Note E (e) 5,294 5,000
Note F (f) 14,932 --
Pollution Control Revenue Bonds (g) 2,225 2,475
Industrial Development Revenue Bonds (g) 1,000 1,000
Other -- 488
----------- -----------
103,168 84,072
Less current maturities (265) (738)
----------- -----------
$102,903 $83,334
=========== ===========
Maturities are as follows for the years ending September 30:
1998 $265
1999 93,812
2000 1,898
2001 1,918
2002 1,938
Thereafter 3,337
-----------
$103,168
===========
(a) In December 1997, the Company and Lonrho agreed to defer commencement
of principal amortization for Notes A through E. The descriptions in
(b) through (e) below reflect the revisions. As consideration for
extensions and certain other financial undertakings received from
Lonrho in 1996, the Company granted to Lonrho a security interest in
all of the shares of Hondo Magdalena and agreed to give Lonrho an
option to convert $13,500 of Note C into the Company's common stock at
a rate of $12.375 per share. The portion of the debt that may be
converted into common stock will not be secured by the pledge of the
Hondo Magdalena shares. In 1997, as consideration for extension of
the term of Note F and the granting of $7,000 additional credit
thereunder, the Company gave Lonrho an option to convert another
$7,000 of Note C into the Company's common stock at a rate of $7.70
per share. The debt will be convertible at Lonrho's option at any
time prior to maturity. The option to convert the debt into common
stock given in 1997 will be subject to shareholder approval at the
Company's 1998 annual meeting. If the conversion option is not
approved by the shareholders, the interest rate on the $7,000 will
revert to 13.5%, the rate of interest on such debt prior to the 1993
restructuring.
43
HONDO OIL & GAS COMPANY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
September 30, 1997
(All Dollar Amounts in Thousands)
5) Long-Term Debt (continued)
--------------------------
(b) The following terms apply to Notes A through E:
(1) Interest is payable semiannually at a rate of 6%.
(2) If management determines sufficient cash is not available to pay
interest, management may offer to issue the Company's unregistered
stock valued at the American Stock Exchange closing price on the
interest due date as payment in kind. Lonrho may choose to either add
the accrued interest to the balance of the debt outstanding or accept
the payment in kind. The Company has an obligation to register any
shares issued in connection with the above if so requested by Lonrho.
(3) Accrued interest of $3,407, $2,823, $2,411 and $2,354 has been
added to the outstanding debt as of October 1, 1997, April 1, 1997,
October 1, 1996, and October 1, 1994, respectively. Accrued interest
of $2,375, $2,367 and $2,293 has been paid by the issuance of 197,944,
121,372 and 189,080 shares, respectively, of the Company's common
stock for amounts due on April 1, 1996, October 1, 1995 and April 1,
1995, respectively.
(4) As consideration for past deferrals of interest and principal
payments due under the terms of the first four notes, the Company has
granted Lonrho Plc a 5% share of the Company's net profits, as
defined, under the Opon Contract. Following repayment of these notes,
Lonrho's entitlement will be reduced by half.
(5) If the Company does not furnish to Lonrho by October 1, 1998 a
report that shows an increase in proved gas reserves of 13,000,000
mcf, then Lonrho has the right to declare Notes A through E in default
and demand payment.
(c) Notes A and B are secured by mortgages on the Company's real estate
included in discontinued operations. Absent repayment in full as a
result of the sale of the securing real estate, principal amortization
in ten equal semiannual installments will commence January 15, 1999.
Note A is secured by the Company's Via Verde Bluffs real estate. Note
B is secured by the Company's Valley Gateway real estate.
(d) Notes C and D are secured by the Company's Valley Gateway real estate.
Notes C and D are due January 15, 1999 and are subordinated to the
Company's other indebtedness existing at September 30, 1997.
(e) In October 1994, the Company received $4,800, net of withholding
taxes, from Amoco Colombia under the terms of the Farmout Agreement
(See Note 1). Also in October 1994, the Company paid $5,000 to Lonrho
Plc to reduce the balance of Note D and the related interest expense.
At the same time, Lonrho Plc made available $5,000 in the form of a
new facility loan to be drawn as needed by the Company. The Company
drew $3,175 of this facility loan during 1995 and the remaining $1,825
during 1996. Note E is due January 15, 1999.
(f) In June 1996, Lonrho Plc agreed to provide the Company an additional
facility loan of $13,500 at a rate of 13%, payable semiannually. In
July 1997, the loan was amended to extend the maturity date to January
1, 1999 and revise the amount available to $20,500. The provisions
for payment of interest with the Company's common shares described in
(b)(2) above apply to this loan. The loan is secured by free cash
flow, as defined, from Hondo Magdalena's operations. The Company drew
$14,600 during fiscal 1997 and additional amounts of $1,700 and $1,400
in October and December 1997, respectively.
44
HONDO OIL & GAS COMPANY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
September 30, 1997
(All Dollar Amounts in Thousands)
5) Long-Term Debt (continued)
--------------------------
(g) Both issues of these tax-exempt bonds were issued under the authority
of the California Pollution Control Financing Authority. The
Pollution Control Revenue bonds bear interest at an average rate of
6.15%, payable semiannually, and mature serially through November 1,
2003. The Industrial Development Revenue Bonds bear interest at a
rate of 7.5%, payable semiannually, and mature September 1, 2011.
Both bond issues are collateralized by certain refinery facilities and
equipment located at Valley Gateway and the Fletcher refinery. The
collateral at the Fletcher refinery is leased to the buyer for a
nominal annual fee. The trustee of the bonds was notified of changes
to the collateral in 1993 and the trustee has not taken any action to
declare a breach of covenant or a default. The Company routinely
communicates with the Trustee and has received no indication that the
Trustee is contemplating any such action.
According to the terms of the various credit agreements, the Company is
restricted in its ability to: (a) incur additional debt; and (b) pay
dividends on and/or redeem capital stock.
Hondo Oil paid interest of $219, $234 and $248 for the years ended September
30, 1997, 1996 and 1995, respectively. In accordance with the provisions of
SFAS No. 107, the Company has estimated the fair value of its long-term debt
to be $97,414 as of September 30, 1997 using a discount rate of 13%.
6) Funding Agreement
-----------------
Effective July 26, 1995, Hondo Magdalena, Amoco Colombia, and Opon
Development Company entered into a Funding Agreement for Tier I Development
Project costs (the "Funding Agreement") for the interim financing of costs
associated with the construction of a pipeline from the Opon Contract area,
certain wellsite facilities, a geological and geophysical work program, and
for related overheads. The Funding Agreement provides that Hondo Magdalena
may repay the amounts financed by Amoco Colombia from prior to the date of
first production until 365 days thereafter, along with an equity premium
computed using a 22% annualized interest rate. The equity premium will be
computed monthly on Hondo Magdalena's share of expenditures (including any
amounts to be recouped from Ecopetrol after commerciality). Alternatively,
from the date of first production until 90 days thereafter, Hondo Magdalena
may elect to repay 125% of its share (excluding any amounts to be recouped
from Ecopetrol after commerciality) of the total costs accumulated up to the
date of repayment. If the financed amounts are not repaid within 365 days
after the date of first production, an additional penalty of 100% of the
amount then due would be recovered out of Hondo Magdalena's revenues. Hondo
Magdalena's revenues from production of the first 80 million cubic feet of
natural gas and related condensate and natural gas liquids are pledged to
secure its obligations under the Funding Agreement.
45
HONDO OIL & GAS COMPANY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
September 30, 1997
(All Dollar Amounts in Thousands)
6) Funding Agreement (continued)
-----------------------------
The Company has accrued equity premiums computed in accordance with the 22%
annualized interest rate option. Equity premiums of $2,774, $1,262 and $57
related to the financed pipeline costs and wellsite facilities have been
capitalized for the years ended September 30, 1997, 1996 and 1995,
respectively. The remainder of the equity premiums accrued to date,
relating to the financed geological and geophysical work and overheads, have
been expensed.
The balance of the Funding Agreement consists of the following:
September 30,
1997 1996
----------- -----------
Outstanding principal $17,566 $9,771
Equity premiums 5,222 1,742
----------- -----------
$22,788 $11,513
=========== ===========
The balance of the Funding Agreement was reduced by $2,629 in September 1996
by application of the Company's share of payments from Ecopetrol arising
from the declaration of commerciality (Note 1).
In accordance with the provisions of SFAS No. 107, the Company has estimated
the fair value of the Funding Agreement to be $24,690 as of September 30,
1997 using a discount rate of 13%.
7) Other Liabilities
-----------------
Other liabilities consist of the following:
September 30,
1997 1996
----------- -----------
Interest payable to Lonrho Plc (Note 5) $3,407 $2,411
City of Long Beach (a) 1,594 1,533
Other 261 761
----------- -----------
$5,262 $4,705
=========== ===========
(a) Due January 1, 1999 together with interest accrued at 6%. In
accordance with the provisions of SFAS No. 107, the Company has
estimated the fair value of this liability to be $1,462 as of
September 30, 1997 using a discount rate of 13%.
46
HONDO OIL & GAS COMPANY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
September 30, 1997
(All Dollar Amounts in Thousands)
8) Shareholders' Equity
--------------------
In addition to its common shares, the Company has authorized 10,000,000
shares of one dollar par value preferred stock. No preferred shares have
been issued as of September 30, 1997.
The Company has a stock option plan under which options to purchase common
shares of the Company are granted to certain officers, directors and key
employees. The options are priced equal to or greater than the market price
in effect at the date of grant. Accordingly, no compensation expense is
recognized in connection with this plan. Generally, options granted under
the plan have a term of five years, are half vested after six months of
service and are fully vested after eighteen months of service. As of
September 30, 1997 and 1996 additional options of 94,000 and 15,000,
respectively, were available for future grants under the stock option plan.
The information for 1995 in the table below includes the exercise of 74,700
options priced at $19.00 per share originating from the Company's terminated
1982 Stock Option Plan. The Company granted an option for 25,000 shares at
$7.50 per share to a former officer in March 1995. The option was not
granted under a stock option plan and was priced less than the market price
at date of grant. Compensation of $138 was included in general and
administrative expense at the date of grant. The option was exercised
during 1996. All other reported options originate from the Company's 1993
Stock Incentive Plan.
As required by SFAS 123 "Accounting for Stock-Based Compensation," the
Company has determined the fair value of options granted in 1997 and 1996
and the pro forma effect on net loss and net loss per share as if
compensation expense equal to that fair value had been recorded. The fair
value at date of grant was determined using the Black-Scholes option pricing
model and the assumptions listed in the table below. The Black-Scholes
option valuation model was developed for use in estimating the fair value of
traded options which have no vesting restrictions and are fully
transferable. In addition, option valuation models require the input of
highly subjective assumptions including the expected stock price volatility.
Because the Company's employee stock options have characteristics
significantly different from those of traded options, and because changes in
the subjective input assumptions can materially affect the fair value
estimate, management believes the model used does not necessarily provide a
reliable single measure of the fair value of its stock options. The
estimated fair value of an option is included in pro forma expense as it
vests. Therefore, as required by the transition provisions of SFAS 123,
options granted in 1995 and vesting in 1996 were not valued and were not
included in the pro forma computations.
47
HONDO OIL & GAS COMPANY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
September 30, 1997
(All Dollar Amounts in Thousands)
8) Shareholders' Equity (continued)
--------------------------------
The following table summarizes information relative to stock options
outstanding:
<HEADING>
For the years ended
-------------------------------------
September 30,
1997 1996 1995
----------- ----------- -----------
Options outstanding - beginning of year 218,232 187,732 220,316
Granted 58,000 64,000 125,000
Exercised -- (33,500) (157,584)
----------- ----------- -----------
Options outstanding - end of year 276,232 218,232 187,732
=========== =========== ===========
Options exercisable - end of year 186,232 154,232 137,732
Weighted-average exercise prices:
Options outstanding - beginning of year $12.57 $11.14 $11.40
Granted
Contractual price $9.00 $14.13 $12.96
Fair value price $3.99 $6.24 NA
Exercised NA $7.50 $12.95
Options outstanding - end of year $11.82 $12.57 $11.14
Options exercisable - end of year $12.30 $11.93 $9.98
End of year - outstanding options:
Low exercise price $7.50 $7.50 $7.50
High exercise price $14.63 $14.63 $14.63
Average remaining contractual life (years) 2.81 3.32 3.29
Fair value of options granted:
Net loss - as reported $(12,388) $(12,657) NA
Net loss - pro forma $(12,630) $(12,773) NA
Loss per share - as reported $(0.90) $(0.93) NA
Loss per share - pro forma $(0.92) $(0.93) NA
Assumptions for fair value determination:
Expected life (years) 3.56 3.56 NA
Volatility 0.52 0.52 NA
Interest rate 6.41% 6.30% NA
Dividend yield 0.00% 0.00% NA
48
HONDO OIL & GAS COMPANY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
September 30, 1997
(All Dollar Amounts in Thousands)
9) Income Taxes
------------
Income tax expense (benefit) reported in the statements of operations is
comprised entirely of current income taxes paid (received) in Colombia.
Significant components of the Company's deferred tax assets and
liabilities are as follows:
September 30,
1997 1996
----------- -----------
Deferred tax assets, long-term:
Domestic net operating loss carryforwards $44,953 $43,734
Foreign income tax basis of
capitalized assets in excess of
financial reporting basis 1,178 1,432
Income tax basis of real estate in
excess of financial reporting basis 1,991 1,965
Financial reporting basis of accrued
liabilities in excess of tax basis 1,311 1,045
Valuation allowances (48,850) (47,467)
----------- -----------
583 709
----------- -----------
Deferred tax liabilities, long-term:
Foreign income tax depreciation in
excess of financial reporting
depreciation 583 709
----------- -----------
583 709
----------- -----------
Net deferred tax liability $-- $--
=========== ===========
The differences between income tax expense (benefit) from continuing opera-
tions and the amount computed by applying the statutory Federal income tax
rate to loss from continuing operations before income taxes are as follows:
<HEADING>
For the years ended
-------------------------------------
September 30,
1997 1996 1995
----------- ----------- -----------
Benefit computed at the effective
statutory rate $(4,273) $(4,499) $(2,365)
Nondeductible interest 2,468 1,425 --
Losses from foreign operations 999 1,919 215
Foreign income tax expense (2) 5 113
Net operating loss for which no benefit
is recognized 806 1,155 2,150
----------- ----------- -----------
$(2) $5 $113
=========== =========== ===========
49
HONDO OIL & GAS COMPANY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
September 30, 1997
(All Dollar Amounts in Thousands)
9) Income Taxes (continued)
------------------------
At September 30, 1997, the Company had the following domestic net operating
loss and investment tax credit carryforwards:
<HEADING>
Alternative
Tax Net Minimum Net Investment
Operating Tax Operating Tax
Year of Expiration Loss Loss Credit
------------------ ----------- ----------- -----------
Consolidated Carryforwards:
2003 $3,166 --
2004 12,469 $10,917
2005 2,803 --
2006 26,755 22,155
2007 15,807 30,041
2008 25,551 23,919
2009 13,115 14,517
2010 7,616 7,620
2011 3,388 3,393
2012 2,818 2,818
----------- -----------
$113,488 $115,380
=========== ===========
Separate Carryforwards (a)
1998 -- -- $144
1999 -- -- 210
2000 $12,397 $12,397 74
2002 6,101 6,101 --
2003 6,714 10,715 --
----------- ----------- -----------
$25,212 $29,213 $428
=========== =========== ===========
(a) These separate carryforwards can only be used against future income
and tax liabilities of the company within the consolidated group which
generated the carryforwards.
In conjunction with the sale of the Fletcher refinery in 1993 as described
in Note 12, unrestricted net operating loss carryforwards of $59,658 and
separate net operating loss carryforwards of $23,983 pertaining to the
Fletcher refinery were reattributed to Hondo Oil.
50
HONDO OIL & GAS COMPANY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
September 30, 1997
(All Dollar Amounts in Thousands)
10) Contingent liabilities
----------------------
The Company is involved in a number of legal and administrative proceedings
incident to the ordinary course of its business. In the opinion of
management, any liability to the Company relative to the various proceedings
will not have a material adverse effect on the Company's operations or
financial condition.
The Company is subject to various environmental laws and regulations of the
United States and Colombia. As is the case with other companies engaged in
similar industries, the Company faces exposure from actual or potential
claims and lawsuits involving environmental matters. These matters may
involve alleged soil and water contamination and air pollution. The
Company's policy is to accrue environmental and clean-up costs when it is
probable that a liability has been incurred and the amount of the liability
is reasonably estimable. However, future environmental related expenditures
cannot be reasonably quantified in many circumstances due to the conjectural
nature of remediation and clean-up cost estimates and methods, the imprecise
and conflicting data regarding the characteristics of various types of
waste, the number of other potentially responsible parties involved, and
changing environmental laws and interpretations. Management believes the
reduced scope of the Company's operations following the sale of the
Company's domestic oil and gas properties and the Fletcher refinery have
significantly reduced the Company's potential exposure to environmental
liability, including potential Superfund claims against Fletcher, which
liability, in the opinion of management, is not material.
51
HONDO OIL & GAS COMPANY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
September 30, 1997
(All Dollar Amounts in Thousands)
11) Segment information
-------------------
The Company's operations are concentrated in one industry segment, the
exploration for and production of reserves of oil and natural gas. Since
1992, the Company's continuing activities have been limited to exploration
for oil and gas reserves located in Colombia. The Company has no foreign
sales and no export sales in the reported periods, but has begun producing
its reserves in fiscal 1998. The Company currently has two contracts for
the sale of its production in place. These two customers, Ecopetrol and
Termosantander (an affiliate of Amoco Corporation separate from the
Company's partner in Opon), will comprise 100% of the Company's revenue.
Information segregating the Company's continuing domestic and foreign
operations is as follows:
<HEADING>
For the years ended
-------------------------------------
September 30,
1997 1996 1995
----------- ----------- -----------
Sales and operating revenue:
United States $1 $2 $23
Foreign 3 -- --
----------- ----------- -----------
$4 $2 $23
=========== =========== ===========
Operating profit (loss):
United States $(406) $(45) $(140)
Foreign (2,419) (4,511) (326)
----------- ----------- -----------
Operating loss (2,825) (4,556) (466)
Loss on sale of assets -- (6) --
Interest expense (6,222) (5,009) (4,680)
Corporate expense and other (1,743) (1,781) (1,697)
----------- ----------- -----------
Loss from continuing operations
before income taxes $(10,790) $(11,352) $(6,843)
=========== =========== ===========
Identifiable assets:
United States $3,247 $2,973 $5,645
Foreign 41,683 21,567 12,753
----------- ----------- -----------
$44,930 $24,540 $18,398
=========== =========== ===========
52
HONDO OIL & GAS COMPANY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
September 30, 1997
(All Dollar Amounts in Thousands)
12) Discontinued Operations
-----------------------
In 1991, the Company adopted plans of disposal for its refining and
marketing and real estate segments. A summary, by segment, of the results of
discontinued operations is as follows:
<HEADING>
For the years ended
-------------------------------------
September 30,
1997 1996 1995
----------- ----------- -----------
Refining and marketing $(1,200) $(400) $(650)
Real estate (400) (900) (4,300)
Income tax expense (benefit) -- -- --
----------- ----------- -----------
$(1,600) $(1,300) $(4,950)
=========== =========== ===========
Per share $(0.12) $(0.10) $(0.37)
=========== =========== ===========
In September 1993, the Company executed an agreement for the sale of its
Fletcher refinery and its asphalt terminal in Hilo, Hawaii. These assets
represented the material portion of the Company's refining and marketing
segment. Loss provisions pertaining to the refining and marketing segment of
$1,200, $400 and $650 have been required in 1997, 1996 and 1995 for reasons
described below.
The agreement for the sale of Fletcher included a provision allowing the
Company to share in the proceeds from the sale of certain components of the
refinery equipment which the buyer planned to sell. Based on estimates of a
broker of used refinery equipment, the Company recorded $1,000 as the
estimated realizable value at the time of the transaction. The buyer and
the Company have not succeeded in selling this equipment. In September
1994, the Company reduced the carrying value of the receivable by $600 on
the basis of an offer from the buyer for the Company's share of equipment
sale proceeds. In September 1996, the Company wrote off the remaining
receivable of $400 as uncollectible.
53
HONDO OIL & GAS COMPANY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
September 30, 1997
(All Dollar Amounts in Thousands)
12) Discontinued Operations (continued)
-----------------------------------
In the agreement for the sale of the Fletcher refinery, the Company
indemnified the buyer as to liabilities in excess of $300 for certain
federal and state excise taxes arising from periods prior to the sale.
Fletcher notified the Company in July 1994 that an audit for California
Motor Vehicle Fuels Tax was underway and a preliminary review by then
Fletcher employees indicated that a significant liability might exist. The
Company retained a consultant to evaluate the contingent liability. In
September 1994, the Company accrued $1,400 as a result of the consultant's
evaluation. An additional $650 was accrued in September 1995, primarily
because of increases in the estimated amounts of penalties and interest
which could be due. The State of California issued a preliminary report in
June 1996 which concluded taxes and penalties of $10,820 were due as a
result of the audit. The State of California issued a Notice of
Determination in July 1997 reducing the taxes and penalties due to $5,740.
Assessed amounts are subject to a process of appeal and further adjustment,
which remedies are still being pursued. The buyer notified the Company that
it claims indemnity in this matter and in January 1997 filed suit in
Superior Court, Los Angeles, California for a declaratory judgment enforcing
the indemnity and for other relief. The Company accrued an additional
$1,200 in September 1997. The Company has accrued its best estimate of the
ultimate liability and believes this is sufficient to provide for the amount
that will ultimately be paid based on the information available.
In 1989, the Company permanently suspended operations at its Newhall
refinery because of expectations of continued operating losses. The Company
reclassified the cost of Newhall's dismantled properties to the real estate
segment. All costs incurred subsequent to 1989 have been charged against
previously established loss provisions. In 1993, the Company suspended
execution of a development plan for the property, now referred to as Valley
Gateway, which included dismantling the refinery, effecting environmental
remediation of the land and further developing the land to a condition where
it could be sold as land ready for construction. This decision was made as
a result of continued declines in the local real estate market and the
Company's limited cash resources. Management believed that a sale of the
property in its present condition with existing entitlements was the best
course of action. The Company has conducted an environmental assessment of
the refinery site and a remediation plan for the site has been submitted to
the Regional Water Quality Control Board and has received staff approval.
The Company estimates that $2.0 million would be incurred in executing the
approved remediation plan; however, the Company expects to sell the property
without incurring these costs by reducing the purchase price. The Company's
estimate of the net realizable value of this property has been reduced by
estimated remediation costs in determining the carrying value of the
property and therefore the remediation costs will not affect future results
of operations.
In addition to the Valley Gateway property, the Company owns the 11 acre Via
Verde Bluffs property, carried at $2,580 and $2,548 at September 30, 1997
and 1996, respectively. Both properties have been listed with brokers since
1994.
54
HONDO OIL & GAS COMPANY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
September 30, 1997
(All Dollar Amounts in Thousands)
12) Discontinued Operations (continued)
-----------------------------------
In 1995 the carrying value of the real estate was reduced by $4,300 as a
result of depressed demand in the local market, sale negotiations, and the
timing of possible sales. In September 1996, the Company revised its
estimate of the realizable value of the Valley Gateway property to zero,
resulting in an additional loss provision of $900. This decision was made
following three years of unsuccessful efforts to sell the property in its
present state and little interest from potential buyers. In September 1997,
the Company provided for an additional carrying costs of $400. Management
believes it can dispose of the property and any associated liabilities for
little or no additional cost.
Changes in the balance of real estate are as follows:
September 30,
1997 1996
----------- -----------
Beginning balance $2,202 $2,978
Development and dismantlement costs -- --
Valuation provisions established (400) (900)
Valuation provisions used 335 124
----------- -----------
Ending balance $2,137 $2,202
=========== ===========
Remaining acres 116 116
=========== ===========
Interest expense included in the losses from discontinued operations
pertains only to debt directly attributable to the discontinued segments.
Allocations of interest to the real estate operations were $240, $262 and
$274 for 1997, 1996 and 1995, respectively.
55
HONDO OIL & GAS COMPANY
SUPPLEMENTARY INFORMATION ABOUT OIL AND GAS PRODUCING
ACTIVITIES AND RESERVES (UNAUDITED)
September 30, 1997
(All Dollar Amounts in Thousands)
The following supplemental information regarding the oil and gas activities of
Hondo Oil is presented pursuant to the disclosure requirements promulgated by
the Securities and Exchange Commission ("SEC") and Statement of Financial
Accounting Standards ("SFAS") No. 69, "Disclosures About Oil and Gas Producing
Activities." Estimated Reserve Quantities and the Standardized Measure of
Discounted Future Net Cash Flows Relating to Proved Reserves are presented on
the basis of reserve reports prepared by Netherland, Sewell & Associates.
Information regarding capitalized costs relating to oil and gas producing
activities and costs incurred for property acquisition, exploration, and
development activities are included in Note 3 to the consolidated financial
statements. SEC rules restrict the disclosure of reserves to proved reserves.
Proved reserves are estimated quantities of crude oil, condensate, natural gas,
and natural gas liquids which geological and engineering data demonstrate with
reasonable certainty to be recoverable in future years from known reservoirs
under existing economic and operating conditions. Proved reserves do not
include hydrocarbons the recovery of which is subject to reasonable doubt
because of uncertainty as to economic factors.
During fiscal 1996, three contracts covering the sale of natural gas, the sale
of condensate and natural gas liquids, and the processing of the gas stream
were executed with the Colombian national oil company, Ecopetrol. These
provide for (i) the sale of 100 million cubic feet of natural gas per day for
the life of the concession (July 2015) at the regulated price determined
semi-annually by a formula based upon the average price received by Ecopetrol
for exported fuel oil during the prior two six-month periods; (ii) the sale of
condensate and natural gas liquids at market-related and market-indexed prices;
and (iii) the processing of the gas stream at Ecopetrol's El Centro gas
processing plant for a fee of $0.20 per thousand cubic feet of gas. In March
1997, a contract was executed for the sale of up to 60 million cubic feet of
natural gas per day to an electric generation facility being constructed
adjacent to the concession. The contract has not and will not become effective
until the sellers determine that there are sufficient reserves to supply
natural gas to the purchaser for the life of the contract. An interim one-year
agreement has recently been executed to allow deliveries of available gas.
The Company successfully completed drilling of a second well in Colombia in
September 1995 and commenced construction of a pipeline and related wellhead
facilities for production and transportation of the discovered natural gas and
related liquids. Following execution of the first contract described above,
the Company reported proved reserves for the first time in it's 1996 Annual
Report.
A third well was drilled during fiscal 1997. In April and May 1997, several
mechanical problems were encountered during the completion and testing of the
third well. Further work on the well has been suspended until a plan has been
finalized. Construction of the pipeline and wellhead facilities is complete
and production commenced in December 1997. A fourth well is presently being
drilled and is expected to be completed in the spring of 1998.
56
HONDO OIL & GAS COMPANY
SUPPLEMENTARY INFORMATION ABOUT OIL AND GAS PRODUCING
ACTIVITIES AND RESERVES (UNAUDITED)
September 30, 1997
(All Dollar Amounts in Thousands)
Assumptions used in determining proved reserves and future net cash flows are:
- - Condensate and natural gas liquid reserves produced in association with the
natural gas are a function of the natural gas reserves.
- - The Company's share of reserves and future net cash flows is 15.444375%,
subject to a royalty of 20% payable to the Colombian government.
- - Prices of $18.64 and $21.31 per barrel of condensate and natural gas liquids
and $1.09 and $1.20 per million British Thermal Units of natural gas are
used in the cash flow projections for September 30, 1997 and 1996,
respectively. These prices were determined in accordance with the terms of
the executed sales contract described above. Both prices are held constant
through the life of the properties. Production costs and capital costs were
projected at current price levels.
- - Pipeline capital and operating costs are not included in the cash flow
projections because these costs will be recovered through pipeline tariffs.
Estimated Reserve Quantities
- ----------------------------
Proved reserves are estimated quantities of crude oil, condensate, natural gas,
and natural gas liquids which geological and engineering data demonstrate with
reasonable certainty to be recoverable in future years from known reservoirs
under existing economic and operating conditions. Proved developed reserves
are those proved reserves that can be expected to be recovered through existing
wells with existing equipment and operating methods.
Estimates of oil and gas proved reserves and production, all located in
Colombia, are as follows:
Oil (a) Gas
(MBBLS) (MMCF)
----------- -----------
Proved reserves, October 1, 1995 -- --
Revisions in previous estimates -- --
Extensions, discoveries and purchases 2,337 61,561
----------- -----------
Proved reserves, September 30, 1996 2,337 61,561
Revisions in previous estimates (394) (9,085)
----------- -----------
Proved reserves, September 30, 1997 1,943 52,476
=========== ===========
(a) All condensate and natural gas liquids.
As of September 30, 1997, 671 mbbls and 18,176 mmcf of the above reserves were
classified as proved developed. None of the 1996 reserves were classified as
proved developed.
A new interpretation (by the reserve engineers) of the reservoir limits after
the drilling of the third well was the primary reason for a downward revision
of the proved reserves for fiscal 1997.
57
HONDO OIL & GAS COMPANY
SUPPLEMENTARY INFORMATION ABOUT OIL AND GAS PRODUCING
ACTIVITIES AND RESERVES (UNAUDITED)
September 30, 1997
(All Dollar Amounts in Thousands)
Standardized Measure of Discounted Future Net Cash Flows Relating to Proved
- ---------------------------------------------------------------------------
Reserves
- --------
The following table sets forth the computation of the standardized measure of
discounted future cash flows relating to proved reserves. The standardized
measure is the estimated future cash inflows from proved reserves less
estimated future production and development costs, estimated future income
taxes and a discount factor. Future cash inflows represent expected revenues
from the production of proved reserves based on prices in existence at the
fiscal year end. Escalation based on inflation, regulatory changes and supply
and demand are not considered. Estimated future production and development
costs related to future production of reserves are based on historical
information, as available, and estimates drawn from similar gas fields in other
locations. Such costs include, but are not limited to, production, drilling
development wells and installation of production facilities. Inflation and
other anticipatory costs are not considered until the actual cost change takes
effect. Estimated future income tax expenses are computed using tax rates
legislated in Colombia. Consideration is given to the effects of permanent
differences, utilization of net operating loss carryforwards, tax credits and
allowances. A discount rate of 10% is applied to the annual future net cash
flows after income taxes.
The methodology and assumptions used in calculating the standardized measure
are those required by SFAS NO. 69. It is not intended to be representative of
the fair market value of proved reserves. The valuations of revenues and costs
do not necessarily reflect the amounts to be received or expended by the
Company. In addition to the valuations used, numerous other factors are
considered in evaluating known and prospective oil and gas reserves.
For the years ended
------------------------
September 30,
1997 1996
----------- -----------
Future cash inflows $96,223 $126,564
Future production costs (40,239) (33,934)
Future development costs (27,028) (36,063)
Future income tax expenses -- (14,843)
----------- -----------
Net future cash flows 28,956 41,724
10% annual discount for estimated timing
of cash flows (12,942) (22,071)
----------- -----------
Standardized measure of discounted
future net cash flows $16,014 $19,653
=========== ===========
58
HONDO OIL & GAS COMPANY
SUPPLEMENTARY INFORMATION ABOUT OIL AND GAS PRODUCING
ACTIVITIES AND RESERVES (UNAUDITED)
September 30, 1997
(All Dollar Amounts in Thousands)
Standardized Measure of Discounted Future Net Cash Flows Relating to Proved
- ---------------------------------------------------------------------------
Reserves (continued)
- --------------------
The principal sources of changes in the standardized measure of discounted
future cash flows between September 30, 1997 and 1996 are as follows:
Net change due to changes in prices and production
costs $(12,532)
Net change due to revisions in quantity estimates (5,530)
Previously estimated development costs incurred
during the period 11,056
Changes in estimated future development costs (1,324)
Net change in income taxes 6,991
Accretion of discount 1,965
Other (4,265)
-----------
$(3,639)
===========
Results of Operations for Oil and Gas Producing Activities
- ----------------------------------------------------------
The following table sets forth the results of operations from oil and gas
producing and exploration activities. Income tax expense was computed using
the statutory tax rate for the period adjusted for utilization of net operating
loss carryforwards, permanent differences, tax credits and allowances.
<HEADING> For the years ended
-------------------------------------
September 30,
1997 1996 1995
----------- ----------- -----------
Revenues $4 $2 $23
Production costs (2,758) (2,745) (166)
Exploration expenses (27) (1,769) (169)
Depreciation, depletion and amortization -- -- --
----------- ----------- -----------
(2,781) (4,512) (312)
Income tax benefit (1,102) (1,787) (124)
----------- ----------- -----------
Results of operations from exploration
and production activities (excluding
corporate overhead and interest) $(1,679) $(2,725) $(188)
=========== =========== ===========
59
HONDO OIL & GAS COMPANY
Schedule II - VALUATION AND QUALIFYING ACCOUNTS
September 30, 1997
(All Dollar Amounts in Thousands)
<HEADING>
Additions
Balance at charged to Balance
beginning costs and at end
of period expenses Write-offs of period
----------- ----------- ----------- -----------
Allowance for doubtful receivables:
Continuing operations:
1997 $332 $-- $(288) $44
=========== =========== =========== ===========
1996 $399 $4 $(71) $332
=========== =========== =========== ===========
1995 $399 $-- $-- $399
=========== =========== =========== ===========
60
Item 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURE
None
PROXY
HONDO OIL & GAS COMPANY
ANNUAL MEETING OF SHAREHOLDERS, MARCH 10, 1998
THIS PROXY IS SOLICITED BY THE BOARD OF DIRECTORS
The undersigned hereby appoints John J. Hoey and Stanton J. Urquhart, or ei-
ther of them, attorneys and proxies to represent the undersigned, with power
of substitution, to appear and to vote all of the shares of stock of HONDO OIL
& GAS COMPANY (the "Company") which the undersigned would be entitled to vote
if personally present at the Annual Meeting of Shareholders of the Company to
be held in the Board of Governors' Room, American Stock Exchange, 86 Trinity
Place, New York, New York on Tuesday, March 10, 1998 at 10:00 A.M., or any ad-
journment thereof.
(CONTINUED AND TO BE SIGNED ON REVERSE SIDE)
- -------------------------------------------------------------------------------
Please mark
your votes as [X]
indicated in
this example
Item 1-Election of directors duly nominated: John J. Hoey, Douglas G. McNair,
Nicholas J. Morrell, John F. Price, Robert K. Steer and R. E. Whitten
WITHHELD
FOR FOR ALL
[_] [_]
WITHHELD FOR: (Write that nominee's name in the space provided below).
- -------------------------------------------------------------------------------
Item 2-Approval of an option for London Australian and General Property
Company Limited to convert $7.0 million of the Company's debt into shares of
the Company's common stock.
FOR AGAINST ABSTAIN
[_] [_] [_]
Item 3-Approval of the grant, cancellation and regrant of certain stock
options to certain directors and employees during fiscal year 1997.
FOR AGAINST ABSTAIN
[_] [_] [_]
Item 4-Approval of the appointment of Ernst & Young LLP as independent
auditors for fiscal year 1998.
FOR AGAINST ABSTAIN
[_] [_] [_]
Item 5-Upon such other business as may properly come before said meeting, or
any adjournment thereof.
FOR AGAINST ABSTAIN
[_] [_] [_]
UNMARKED PROXIES SHALL BE VOTED IN FAVOR OF EACH OF THE FOREGOING MATTERS
UNLESS SPECIFIED TO THE CONTRARY.
Receipt of copies of the Proxy Statement dated January 26, 1997 and the 1997
Annual Report is hereby acknowledged.
Annual Meeting: March 10, 1998
Please return this proxy promptly in the enclosed envelope which requires no
postage if mailed in the U.S.A.
Signature(s) Date
------------------------------------------- -------------------
NOTE: Please sign as name appears hereon. Joint owners should each sign. When
signing as attorney, executor, administrator, trustee or guardian, please
give full title as such.