HART & TRINEN, LLP
ATTORNEYS AT LAW
1624 Washington Street
Denver, CO 80203
William T. Hart, P.C. ________ Email: harttrinen@aol.com
Donald T. Trinen Facsimile: (303) 839-5414
(303) 839-0061
July 9, 2008
Kristina Aberg
Securities and Exchange Commission
Mail Stop 4561
100 F Street, NE
Washington, DC 20549
Re: Epic Energy Resources, Inc.
Form S-1/A
This office represents Epic Energy Resources, Inc. (the "Company").
Amendment #3 to the Company's registration statement has been field with the
Commission. This letter provides the Company's responses to the comments
received from the Staff by letter dated June 4, 2008. The paragraph numbers in
this letter correspond with the numbered paragraphs in the Staff's comment
letter. The number under the "Page Number" column indicates the page number in
the registration statement where the response to the comment can be found. The
letters "FS" in the page number column refer to the page in the Company's
financial statements.
Page Number
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1. Comment complied with. 6-9
2. Comment complied with. 12
3. Comment complied with. 12
4. The Company has a gas purchase contract with IACX
Energy, Inc. which has been filed as Exhibit 10.8 to
the registration statement. The Company expects that
production from its Kansas wells will resume in
August 2008. Exhibit 10.8
5. Comment complied with. 9
6. The reference to the independent petroleum engineer
has been removed. 34
7. Comment complied with. 47
8. The fair values of the assets acquired and liabilities
assumed were determined on a preliminary basis as of the
dates of the acquisition of Carnrite Group and Pearl
Development Company. As of December 31, 2007, the Company
was still reviewing the preliminary allocation, and the
Company did not have the required information (such as
projections, attrition rates for
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customers, etc.) necessary to determine the value of the
intangible assets for customer relationships recognized
separately from goodwill in accordance with SFAS No. 141.
In order to make the determination of the value of the
intangible assets for customer relationships during the
one year period from the date of the acquisitions, the
Company recently retained the services of a third party
valuation services firm to assist in properly valuing
the intangible assets associated with these acquisitions.
The Company expects the results of the analysis and
independent report will properly identify the intangible
assets based on the application of accepted valuation
methods for each of the identified intangible assets.
9. After a more thorough analysis of the terms of the
purchase of the Carnrite Group, the Company has determined
that the contingent consideration should be considered
additional purchase price rather than compensation expense.
Please refer to the attached "Position Paper - Accounting
for Contingent Consideration" for the Company's analysis
in this regard.
10. Comment complied with. F-16
11. Please refer to the attached "Position Paper - Accounting
for Contingent Consideration" for the Company's analysis that
supports its conclusion that the contingent consideration
should be considered additional purchase price.
12. In 2007 the Company entered into a contract with a third
party to provide services related to securing financing for
future acquisitions. During 2007 no services were provided
and the Company did not make any payments to the third party.
During February 2008 the Company canceled the contract which
provided for a $300,000 termination payment. The Company
expensed the termination payment in the first quarter of 2008
when the decision was made to cancel the contract.
13. See response to comment 8 above. Fitts Roberts & Co.,
P.C. has been retained to assist the Company with valuing
the intangible assets associated with the acquisition of
Epic Integrated Solutions.
14. Per Paragraph 26 of SFAS 141, "Cash and other assets
distributed, securities issued unconditionally, and amounts
of contingent consideration that are determinable at the
date of acquisition shall be included in determining the
cost of an acquired entity and recorded at that date."
The $1,400,000 of cash to be paid in periodic installments
during 2008 and 2009 is not contingent on any future factors
such as employment, profits of the company, etc. According
to Article 2, Section 2.4 of the Membership Interest
Purchase Agreement with Epic Integrated Solutions, "Purchaser
shall deliver one million four hundred thousand dollars
($1,400,000.00) in accordance with the schedule set forth
in Exhibit 2." Therefore, the Company believes that this
consideration is determinable at the date of acquisition
and thus properly included in the cost of the acquisition
of Epic Integrated Solutions.
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General
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We have removed the risk factor pertaining to foreign currency since all
payments to the Company's subsidiaries are made in U.S. dollars.
If you should have any questions concerning the foregoing, please do not
hesitate to contact the undersigned.
Very Truly Yours,
HART & TRINEN, L.L.P.
By
William T. Hart
WTH:ap
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Epic Energy Resources, Inc.
Position Paper
Accounting for Contingent Consideration
The following information summarizes the position of Epic Energy Resources, Inc.
related to the consideration paid to shareholders for the Carnrite Group
("Carnrite") and Epic Integrated Solutions ("EIS") acquisitions.
Background
EITF (Emerging Issues Task Force) Issue No. 95-8 entitled "Accounting for
Contingent Consideration Paid to Shareholders of an Acquired Enterprise in a
Purchase Business Combination" is summarized below.
Opinion 16 addresses two types of contingent consideration in a purchase method
business combination. Paragraph 80 of Opinion 16 discusses the accounting for a
contingency based on maintaining or achieving specified earnings levels.
Paragraphs 81-83 of Opinion 16 discuss the accounting for a contingency based on
the market price of a specified security issued to effect a business
combination.
The issue is what criteria should be used to determine whether contingent
consideration based on earnings or other performance measures should be
accounted for as (1) an adjustment of the purchase price of an acquired
enterprise or (2) compensation for services, use of property, or profit sharing.
The Task Force reached a consensus that the determination of whether contingent
consideration based on earnings or other performance measures should be
accounted for as an adjustment of the purchase price of the acquired enterprise
or as compensation for services, use of property, or profit sharing is a matter
of judgment that depends on the relevant facts and circumstances.
The Task Force also reached a consensus that the following factors or indicators
should be considered in evaluating whether an arrangement for contingent
consideration based on earnings or other performance measures is, in substance,
additional purchase price of the acquired enterprise or compensation for
services, use of property, or profit sharing.
Factors involving terms of continuing employment
1. Linkage of continuing employment and contingent consideration: The terms of
continuing employment by selling shareholders who become key employees may be
an indicator of the substance of a contingent consideration arrangement. The
relevant terms of continuing employment may be included in an employment
agreement, purchase agreement, or some other document. A contingent
consideration arrangement in which the payments are automatically forfeited
if employment terminates is a strong indicator that the arrangement is
compensation for postcombination services. Arrangements in which the
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contingent payments are not affected by employment termination may indicate
that the contingent payments are additional purchase price rather than
compensation.
Company Position: While our arrangements for both acquisitions would tend
to indicate that the contingent consideration should be treated as
compensation, we believe that factor #3 (Level of compensation) below is the
most relevant in our case.
In addition, the following relevant points should be considered: (1) all
selling shareholders are subject to the same contingency formula; (2) the
compensation of the continuing employees including the contingent payments
would be far in excess of reasonable compensation; (3) the contingent
consideration formula is consistent with how the acquired businesses would be
valued.
2. Duration of continuing employment: If the length of time of required
employment coincides with or is longer than the contingent payment period,
that fact may indicate that the contingent payments are, in substance,
compensation.
Company Position: While our arrangements would tend to indicate that the
contingent consideration should be treated as compensation, we believe that
factor #3 (Level of compensation) below is the most relevant in our case
(see discussion below).
3. Level of compensation: Situations in which employee compensation other than
the contingent payments is at a reasonable level in comparison to that of
other key employees in the combined enterprise may indicate that the
contingent payments are additional purchase price rather than compensation.
Company Position: For both acquisitions, the selling shareholders who are
part of the contingent consideration arrangements continue to be paid a
salary of market value or above after the acquisition. Each Carnrite selling
shareholder is now paid a salary of $150,000 per year which is essentially
the same (or higher) salary as they were making at Carnrite before the
acquisition. Each EIS selling shareholder is now paid a salary of $150,000
per year which is essentially the same (or higher) salary as they were making
at EIS before the acquisition.
Factors involving components of shareholder group
1. If selling shareholders who do not become employees receive lower contingent
payments on a per share basis from what the selling shareholders who become
employees of the combined enterprise receive, that fact may indicate that the
incremental amount of contingent payments to the selling shareholders who
become employees is compensation.
Company Position: For both acquisitions, all selling shareholders became
employees of the new, combined Epic Energy Resources, thus this factor is not
applicable.
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2. The relative amount of stock owned by the selling shareholders who remain as
key employees may be an indicator of the substance of the contingent
consideration arrangement. For example, if selling shareholders who owned
substantially all of the stock in the acquired enterprise continue as key
employees, that fact may indicate that the arrangement is, in substance, a
profit-sharing arrangement intended to provide compensation for
postcombination services. Alternatively, if selling shareholders who continue
as key employees owned only a minor amount of stock of the acquired
enterprise and all selling shareholders receive the same amount of contingent
consideration on a per share basis, that fact may indicate that the
contingent payments are additional purchase price.
Company Position: The selling shareholders of both acquisitions owned 100%
of the stock of each company and all selling shareholders received the same
amount of contingent consideration on a per share basis. Thus, in our
opinion, this factor is not determinative in our analysis of the contingent
consideration.
3. The preacquisition ownership interests held by parties related to selling
shareholders who continue as key employees, such as family members, should
also be considered.
Company Position: Not applicable for either the Carnrite acquisition.
Factors involving reasons for contingent payment provisions
1. Understanding the reasons why the acquisition agreement includes a provision
for contingent payments may be helpful in assessing the substance of the
arrangement. For example, if the initial consideration paid at the
acquisition date is based on the low end of a range established in the
valuation of the acquired enterprise and the contingent formula relates to
that valuation approach, that fact may suggest that the contingent payments
are additional purchase price. Alternatively, if the contingent payment
formula is consistent with prior profit-sharing arrangements, that fact may
suggest that the substance of the arrangement is to provide compensation.
Company Position: For the Carnrite and EIS acquisitions, the value of each
company was determined using a multiple of cash flows. The total amount of
Epic stock to be issued, including the contingent shares issued to the
selling shareholders of the company was considered as part of the purchase
price (ie. the value) of both acquisitions. The intent of the management of
Epic, and the understanding of the selling shareholders of Carnrite and EIS,
was that these contingent shares were part of the value of the target
company. Excluding the value of the contingent shares from the purchase price
would have yielded an unreasonable purchase price for the acquisition:
Value of Carnrite (prepared by management):
Average net income before tax of $2,509,553 x 5 (multiple of cash flows) =
$12,547,765 (Total Enterprise Value)
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Total Stock Value = 4,600,848 shares to be issued per the Term Sheet
(inclusive of 1,673,036 of contingent consideration shares ) x $3.00 stock
price = $13,802,544.
Per the Term Sheet, it was the Company's intention that the Total Stock Value
be 10% above the Total Enterprise Value. Thus, Epic was valuing the Carnrite
acquisition using the total shares issued (which includes the contingent
consideration shares).
Value of EIS (prepared by management):
Average net income before tax of $767,305 x 5.6 (multiple of cash flows) =
$4,300,000 (Total Enterprise Value)
Total Stock Value = $2,000,000 (1,000,000 shares to be issued per the Term
Sheet (all are contingent consideration shares) x $2.00 stock price)
Total Cash Value = $2,300,000.
Thus, Epic was valuing the EIS acquisition using the total shares + total
cash issued. The value of the stock is 47% of the Total Enterprise Value and
thus should be included as part of the purchase price of the company and not
future compensation.
Factors involving formula for determining contingent consideration
1. The formula used to determine the contingent payment may be helpful in
assessing the substance of the arrangement. For example, a contingent payment
of five times earnings may suggest that the formula is intended to establish
or verify the fair value of the acquired enterprise while a contingent
payment of 10 percent of earnings may suggest a profit-sharing arrangement.
Company Position: For the Carnrite and EIS acquisitions, the value of the
company was determined using a multiple of cash flows. The total amount of
Epic stock to be issued, including the contingent shares issued to the
selling shareholders of the company was considered as part of the purchase
price (ie. the value) of both acquisitions. The intent of the management of
Epic, and the understanding of the selling shareholders of Carnrite and EIS,
was that these contingent shares were part of the value of the target
company. The Carnrite and EIS acquisitions were valued at 5.0 and 5.6 times
estimated average net income before tax, respectively. The number of shares
issued to obtain this purchase price was the number of shares issued at
closing PLUS the shares to be issued under the contingent shares arrangement
See calculations above.
Factors involving other agreements and issues
1. The terms of other arrangements with selling shareholders (such as noncompete
agreements, executory contracts, consulting contracts, and property lease
agreements) and the income tax treatment of contingent payments may indicate
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that contingent payments are attributable to something other than
consideration for the acquired enterprise. For example, if in connection with
the acquisition the combined enterprise enters into a property lease
arrangement with a significant selling shareholder with lease payments
significantly below market value, that fact may indicate that some or all of
the contingent payments are, in substance, for the use of the leased property
rather than additional purchase price of the enterprise.
Company Position: Each of the selling shareholders of Carnrite and EIS are
now employees of Epic and are subject to similar employment arrangements as
all other employees of Epic. No other special arrangements exist for the
selling shareholders of Carnrite and EIS, thus this factor is not relevant to
our analysis of the contingent consideration.