UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, DC 20549
FORM 10-Q
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
ACT OF 1934
For the quarterly period ended January 31, 2002
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the transition period from to
---------------- -----------------
Commission file number: 000-24394
PENN OCTANE CORPORATION
(Exact Name of Registrant as Specified in Its Charter)
DELAWARE 52-1790357
(State or Other Jurisdiction (I.R.S.Employer
of Incorporation or Organization) Identification No.)
77-530 ENFIELD LANE, BLDG. D, PALM DESERT, CALIFORNIA 92211
(Address of Principal Executive Offices) (Zip Code)
Registrant's Telephone Number, Including Area Code: (760) 772-9080
Indicate by check mark whether the registrant: (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days.
Yes X No
--- ---
The number of shares of Common Stock, par value $.01 per share, outstanding on
February 28, 2002 was 14,857,694.
PENN OCTANE CORPORATION
TABLE OF CONTENTS
ITEM PAGE NO.
---- --------
Part I 1. Financial Statements
Independent Certified Public Accountants' Review Report 3
Consolidated Balance Sheets as of January 31, 2002 (unaudited) 4-5
and July 31, 2001
Unaudited Consolidated Statements of Operations for the three months
and six months ended January 31, 2002 and 2001 6
Unaudited Consolidated Statement of Stockholders' Equity for the six
months ended January 31, 2002 7
Unaudited Consolidated Statements of Cash Flows for the six months
ended January 31, 2002 and 2001 8
Notes to Unaudited Consolidated Financial Statements 9-19
2. Management's Discussion and Analysis of Financial Condition
and Results of Operations 20-30
3. Quantitative and Qualitative Disclosures About Market Risk 30
Part II 1. Legal Proceedings 31
2. Changes in Securities and Use of Proceeds 31
3. Defaults Upon Senior Securities 31
4. Submission of Matters to a Vote of Security Holders 31
5. Other Information 32
6. Exhibits and Reports on Form 8-K 32
7. Signatures 33
2
Independent Certified Public Accountants' Review Report
Board of Directors and Shareholders
Penn Octane Corporation
We have reviewed the accompanying consolidated balance sheets of Penn Octane
Corporation and subsidiaries (Company) as of January 31, 2002, the related
consolidated statements of operations for the three months and six months ended
January 31, 2002, the consolidated statement of stockholders' equity for the six
months ended January 31, 2002 and the consolidated statements of cash flows for
the six months ended January 31, 2002 and 2001. These financial statements are
the responsibility of the Company's management.
We conducted our review in accordance with standards established by the American
Institute of Certified Public Accountants. A review of interim financial
information consists principally of applying analytical procedures to financial
data and making inquiries of persons responsible for financial and accounting
matters. It is substantially less in scope than an audit conducted in
accordance with auditing standards generally accepted in the United States of
America, the objective of which is the expression of an opinion regarding the
financial statements taken as a whole. Accordingly, we do not express such an
opinion.
Based on our review, we are not aware of any material modifications that should
be made to the accompanying financial statements for them to be in conformity
with accounting principles generally accepted in the United States of America.
We have previously audited, in accordance with auditing standards generally
accepted in the United States of America, the consolidated balance sheet as of
July 31, 2001, and the related consolidated statements of operations,
stockholders' equity, and cash flows for the year then ended (not presented
herein) and in our report dated October 12, 2001, we expressed an unqualified
opinion on those consolidated financial statements. Our report letter
contained a paragraph stating that conditions existed which raised substantial
doubt about the Company's ability to continue as a going concern. In our
opinion, the information set forth in the accompanying consolidated balance
sheet as of July 31, 2001, is fairly stated, in all material respects, in
relation to the consolidated balance sheet from which it has been derived.
/s/ BURTON MCCUMBER & CORTEZ, L.L.P.
Brownsville, Texas
March 11, 2002
3
PART I
ITEM 1.
PENN OCTANE CORPORATION AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
ASSETS
January 31,
2002 July 31,
(Unaudited) 2001
-------------- -----------
Current Assets
Cash (including restricted cash of $3,656,691 and $971,875) $ 3,691,858 $ 1,322,560
Trade accounts receivable (less allowance for doubtful accounts of $0
and $779,663) 2,732,990 4,802,897
Notes receivable (including related parties' notes of $414,355 and
214,355) 649,639 439,053
Inventories 6,385,597 12,384,847
Prepaid expenses and other current assets 244,200 298,828
-------------- -----------
Total current assets 13,704,284 19,248,185
Property, plant and equipment - net 18,398,620 18,260,384
Lease rights (net of accumulated amortization of $638,843 and $615,945) 515,196 538,094
Mortgage receivable 1,943,212 1,934,872
Other non-current assets 216,293 312,808
-------------- -----------
Total assets $ 34,777,605 $40,294,343
============== ===========
The accompanying notes and accountants' report are an integral part of these
statements.
4
PENN OCTANE CORPORATION AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS - CONTINUED
LIABILITIES AND STOCKHOLDERS' EQUITY
January 31,
2002 July 31,
(Unaudited) 2001
------------- ---------------
Current Liabilities
Current maturities of long-term debt $ 916,884 $ 918,885
Short-term debt 2,981,246 5,650,430
LPG trade accounts payable 5,921,683 9,537,825
Obligation to deliver LPG 11,128,698 10,942,817
Other accounts payable and accrued liabilities 5,714,577 4,867,870
------------- ---------------
Total current liabilities 26,663,088 31,917,827
Long-term debt, less current maturities 2,892,767 3,273,969
Commitments and contingencies - -
Stockholders' Equity
Series A - Preferred stock-$.01 par value, 5,000,000 shares authorized;
No shares issued and outstanding at January 31, 2002 and July 31, 2001 - -
Series B - Senior preferred stock-$.01 par value, $10 liquidation value,
5,000,000 shares authorized; No shares issued and outstanding at January
31, 2002 and July 31, 2001 - -
Common stock - $.01 par value, 25,000,000 shares authorized;
14,857,694 and 14,427,011 shares issued and outstanding at January 31,
2002 and July 31, 2001 148,578 144,270
Additional paid-in capital 26,941,749 25,833,822
Notes receivable from officers of the Company and a related party for
exercise of warrants, less reserve of $650,570 and $596,705 at
January 31,2002 and July 31, 2001 (3,761,350) (3,761,350)
Accumulated deficit (17,914,533) (17,114,195)
Accumulated other comprehensive loss (192,694) -
------------- ---------------
Total stockholders' equity 5,221,750 5,102,547
------------- ---------------
Total liabilities and stockholders' equity $ 34,777,605 $ 40,294,343
============= ===============
The accompanying notes and accountants' report are an integral part of these
statements.
5
PENN OCTANE CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS
(UNAUDITED)
Three Months Ended Six Months Ended
------------- -------------- ------------- --------------
January 31, January 31, January 31, January 31,
2002 2001 2002 2001
------------- -------------- ------------- --------------
Revenues $ 32,897,657 $ 47,637,301 $ 64,769,547 $ 86,018,420
Cost of goods sold 30,635,630 47,592,280 61,881,420 84,384,974
------------- -------------- ------------- --------------
Gross profit 2,262,027 45,021 2,888,127 1,633,446
Selling, general and administrative expenses
Legal and professional fees 320,834 445,419 944,786 649,933
Salaries and payroll related expenses 306,586 318,508 668,931 575,981
Travel 45,131 65,293 99,245 100,453
Other 216,019 172,778 414,047 351,031
------------- -------------- ------------- --------------
888,570 1,001,998 2,127,009 1,677,398
------------- -------------- ------------- --------------
Operating income (loss) 1,373,457 (956,977) 761,118 (43,952)
Other income (expense)
Interest expense (691,391) (854,633) (1,643,990) (1,660,790)
Interest income 16,481 19,754 29,228 22,291
Settlement of litigation - (14,173) - (114,173)
------------- -------------- ------------- --------------
Income (loss) before taxes 698,547 (1,806,029) (853,644) (1,796,624)
Refund of income taxes - - 53,306 -
------------- -------------- ------------- --------------
Net income (loss) $ 698,547 $ (1,806,029) $ (800,338) $ (1,796,624)
============= ============== ============= ==============
Net income (loss) per common share $ 0.05 $ (0.13) $ (0.05) $ (0.13)
============= ============== ============= ==============
Net income (loss) per common share assuming
dilution $ 0.05 $ (0.13) $ (0.05) $ (0.13)
============= ============== ============= ==============
Weighted average common shares outstanding 14,832,871 14,188,936 14,722,282 13,886,346
============= ============== ============= ==============
The accompanying notes and accountants' report are an integral part of these
statements.
6
PENN OCTANE CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENT OF STOCKHOLDERS' EQUITY
FOR THE SIX MONTHS ENDED JANUARY 31, 2002
(UNAUDITED)
ACCUMULATED
SENIOR ADDITIONAL STOCK- OTHER
PREFERRED PREFERRED COMMON PAID-IN HOLDERS' ACCUMULATED COMPREHENSIVE
STOCK STOCK STOCK CAPITAL NOTES DEFICIT LOSS
---------- ---------- -------- ----------- ------------ ------------- --------------
Balance at July 31, 2001 $ - $ - $144,270 $25,833,822 $(3,761,350) $(17,114,195) $ -
Comprehensive income (loss)
Net loss (800,338)
Unrealized loss on derivatives,
net of tax (192,694)
Total comprehensive loss
Exercise of warrants 788 137,025
Exchange of debt for exercise of
warrants 3,135 611,698
Discount on extension of debt 207,283
Other 10 2,296
Stock issued as payment for
consulting services 375 149,625
---------- ---------- -------- ----------- ------------ ------------- --------------
Balance at January 31, 2002 $ - $ - $148,578 $26,941,749 $(3,761,350) $(17,914,533) $ (192,694)
========== ========== ======== =========== ============ ============= ===============
TOTAL
-----------
Balance at July 31, 2001 $5,102,547
Comprehensive income (loss)
Net loss (800,338)
Unrealized loss on derivatives,
net of tax (192,694)
-----------
Total comprehensive loss (993,032)
Exercise of warrants 137,813
Exchange of debt for exercise of
warrants 614,833
Discount on extension of debt 207,283
Other 2,306
Stock issued as payment for
consulting services 150,000
-----------
Balance at January 31, 2002 $5,221,750
===========
The accompanying notes and accountants' report are an integral part of these
statements.
7
PENN OCTANE CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
(UNAUDITED)
Six Months Ended
January 31,
---------------------------
2002 2001
------------- ------------
Cash flows from operating activities:
Net loss $ (800,338) $(1,796,624)
Adjustments to reconcile net loss to net cash provided by operating activities:
Depreciation and amortization 371,600 371,190
Amortization of lease rights 22,898 22,898
Non-employee stock based costs 262,434 109,991
Loan discount 803,099 896,037
Write-down of inventory to lower of cost or market - 2,337,124
Other (7,786) 29,157
Changes in current assets and liabilities:
Trade accounts receivable 2,069,906 (3,370,151)
Deferred revenues - 561,750
Inventories 5,997,447 (3,437,712)
Prepaid and other current assets (450,500) 133,166
LPG trade accounts payable (3,616,142) 7,596,027
Obligation to deliver LPG 187,684 -
Other assets and liabilities, net 96,517 (6,250)
Other accounts payable and accrued liabilities 872,332 (214,557)
------------- ------------
Net cash provided by operating activities 5,809,151 3,232,046
Cash flows from investing activities:
Capital expenditures (509,836) (1,356,271)
------------- ------------
Net cash used in investing activities (509,836) (1,356,271)
Cash flows from financing activities:
Revolving credit facilities - (2,543,537)
Issuance of common stock 137,813 1,419,581
Costs of registration ( 494) (49,438)
Issuance of debt - 991,000
Reduction in debt (3,067,336) (291,000)
------------- ------------
Net cash used in financing activities (2,930,017) (473,394)
------------- ------------
Net increase in cash 2,369,298 1,402,381
Cash at beginning of period 1,322,560 25,491
------------- ------------
Cash at end of period $ 3,691,858 $ 1,427,872
============= ============
Supplemental disclosures of cash flow information:
Cash paid during the year for:
Interest (including capitalized interest of $90,000 in 2001) $ 913,785 $ 829,468
============= ============
Supplemental disclosures of noncash transactions:
Preferred stock, common stock and warrants issued $ 974,915 $ 2,910,820
============= ============
Notes receivable exchanged for common stock $ - $ (555,661)
============= ============
Unrealized loss on a derivative $ (192,694) $ -
============= ============
The accompanying notes and accountants' report are an integral part of these
statements.
8
PENN OCTANE CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
NOTE A - ORGANIZATION
Penn Octane Corporation was incorporated in Delaware in August 1992. The
Company has been principally engaged in the purchase, transportation and
sale of liquefied petroleum gas (LPG). The Company owns and operates a
terminal facility on leased property in Brownsville, Texas (Brownsville
Terminal Facility) and owns a LPG terminal facility in Matamoros,
Tamaulipas, Mexico (Matamoros Terminal Facility) and pipelines (US - Mexico
Pipelines) which connect the Brownsville Terminal Facility to the Matamoros
Terminal Facility. The Company has a long-term lease agreement for
approximately 132 miles of pipeline (Leased Pipeline) which connects Exxon
Mobil Corporation's (Exxon) King Ranch Gas Plant in Kleberg County, Texas
and Duke Energy's La Gloria Gas Plant in Jim Wells County, Texas, to the
Company's Brownsville Terminal Facility. In addition, the Company has
access to a twelve-inch pipeline (ECCPL), which connects Exxon's Viola
valve station in Nueces County, Texas to the inlet of the King Ranch Gas
Plant as well as existing and other potential propane pipeline suppliers
which have the ability to access the ECCPL. In connection with the
Company's lease agreement for the Leased Pipeline, the Company may access
up to 21,000,000 gallons of storage located in Markham, Texas (Markham
Storage), as well as other potential propane pipeline exchange suppliers,
via approximately 155 miles of pipeline located between Markham, Texas and
the Exxon King Ranch Gas Plant. The Company also has up to 8,400,000
gallons of available storage in Mont Belvieu, Texas. The Company sells LPG
primarily to P.M.I. Trading Limited (PMI). PMI is the exclusive importer of
LPG into Mexico. PMI is also a subsidiary of Petroleos Mexicanos, the
state-owned Mexican oil company (PEMEX). The LPG purchased from the Company
by PMI is generally destined for consumption in the northeastern region of
Mexico.
The Company commenced operations during the fiscal year ended July 31,
1995, upon construction of the Brownsville Terminal Facility. Since the
Company began operations, the primary customer for LPG has been PMI. Sales
of LPG to PMI accounted for approximately 73% of the Company's total
revenues for the six months ended January 31, 2002.
BASIS OF PRESENTATION
-----------------------
The accompanying consolidated financial statements include the Company and
its United States subsidiaries, Penn Octane International, L.L.C.,
PennWilson CNG, Inc. (PennWilson) and Penn CNG Holdings, Inc. and
subsidiaries, its Mexican subsidiaries, Penn Octane de Mexico, S.A. de C.V.
(PennMex) and Termatsal, S.A. de C.V. (Termatsal) and its other inactive
Mexican subsidiaries, (collectively the Company). All significant
intercompany accounts and transactions have been eliminated.
The unaudited consolidated balance sheet as of January 31, 2002, the
unaudited consolidated statements of operations for the three months and
six months ended January 31, 2002 and 2001, the unaudited consolidated
statement of stockholders' equity for the six months ended January 31, 2002
and the consolidated statements of cash flows for the six months ended
January 31, 2002 and 2001, have been prepared by the Company without audit.
In the opinion of management, the unaudited consolidated financial
statements include all adjustments (which include only normal recurring
adjustments) necessary to present fairly the unaudited consolidated
financial position of the Company as of January 31, 2002, the unaudited
consolidated results of operations for the three months and six months
ended January 31, 2002 and 2001, the unaudited consolidated statement of
stockholders' equity for the six months ended January 31, 2002 and the
consolidated statements of cash flows for the six months ended January 31,
2002 and 2001.
Certain information and footnote disclosures normally included in
consolidated financial statements prepared in accordance with accounting
principles generally accepted in the United States of America have been
omitted. These unaudited consolidated financial statements should be read
in conjunction with the consolidated financial statements and notes thereto
included in the Company's Annual Report on Form 10-K for the fiscal year
ended July 31, 2001.
9
PENN OCTANE CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
NOTE A - ORGANIZATION - CONTINUED
Certain reclassifications have been made to prior period balances to
conform to the current presentation. All reclassifications have been
consistently applied to the periods presented.
NOTE B - INCOME (LOSS) PER COMMON SHARE
Income (loss) per share of common stock is computed on the weighted average
number of shares outstanding. During periods in which the Company incurs
losses, giving effect to common stock equivalents is not presented as it
would be antidilutive.
The following tables present reconciliations from income (loss) per common
share to income (loss) per common share assuming dilution:
For the three months ended January 31, 2002 For the three months ended January 31, 2001
------------------------------------------ ----------------------------------------------
Income (loss) Shares Per-Share Income (loss) Shares Per-Share
(Numerator) (Denominator) Amount (Numerator) (Denominator) Amount
-------------- ------------- ----------- --------------- ------------- --------------
Net income (loss) $ 698,547 - - $( 1,806,029) - -
BASIC EPS
Net income (loss) available to common 698,547 14,832,871 $ 0.05 (1,806,029) 14,188,936 $ (0.13)
stockholders =========== ==============
EFFECT OF DILUTIVE SECURITIES
Warrants - 544,458 - - N/A -
Convertible Preferred Stock - - - - N/A -
-------------- ------------- --------------- -------------
DILUTED EPS
Net income (loss) available to common $ 698,547 15,377,329 $ 0.05 $ N/A N/A $ N/A
stockholders ============== ============= =========== =============== ============= ==============
For the six months ended January 31, 2002 For the six months ended January 31, 2001
-------------------------------------------- --------------------------------------------
Income (loss) Shares Per-Share Income (loss) Shares Per-Share
(Numerator) (Denominator) Amount (Numerator) (Denominator) Amount
-------------- ------------- ------------- -------------- ------------- -------------
Net income (loss) $ ( 800,338) - - $ (1,796,624) - -
BASIC EPS
Net income (loss) available to common (800,338) 14,722,282 $ (0.05) (1,796,624) 13,886,346 $ (0.13)
Stockholders ============= =============
EFFECT OF DILUTIVE SECURITIES
Warrants - N/A - - N/A -
Convertible Preferred Stock - N/A - - N/A -
-------------- ------------- -------------- -------------
DILUTED EPS
Net income (loss) available to common $ N/A N/A $ N/A $ N/A N/A $ N/A
stockholders ============== ============= ============= ============== ============= =============
10
PENN OCTANE CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
NOTE C - NOTES FROM RELATED PARTIES
As of January 31, 2002, the amounts due from notes issued to the Company by
certain officers, directors and a related party (Note Issuers) for the
exercise of warrants have not been paid as required by the terms of the
notes. All accrued but unpaid interest from officers, directors and a
related party has been reserved. During November 2001, the Company and the
Note Issuers agreed to exchange 36,717 shares of common stock of the
Company held by the Note Issuers for payment of all unpaid interest owing
to the Company through October 31, 2001 ($146,869). In addition upon
receipt of the common stock, the Company agreed to extend the due date of
the notes to October 31, 2003.
During January 2002, the Company received a note in the amount of $200,000
for a loan to the Company's president. The note bears interest at the prime
rate and the note plus accrued interest are due on January 31, 2003. The
note is collateralized by shares collateralizing another obligation of the
president to the Company.
NOTE D - PROPERTY, PLANT AND EQUIPMENT
Property, plant and equipment consists of the following:
January 31, July 31,
2002 2001
------------- ------------
LPG:
Brownsville Terminal Facility:
Building $ 173,500 $ 173,500
Terminal facilities 3,631,207 3,631,207
Tank Farm 370,855 370,855
Midline pump station 2,437,696 2,293,121
Leasehold improvements 298,157 291,409
Capital construction in progress 96,212 67,002
Equipment 490,149 469,545
------------- ------------
7,497,776 7,296,639
US - Mexico Pipelines and Matamoros Terminal
Facility:
U.S. Pipelines and Rights of Way 6,317,703 6,245,614
Mexico Pipelines and Rights of Way 993,300 993,300
Matamoros Terminal Facility 5,074,087 5,078,336
Saltillo Terminal Facility 1,027,266 799,309
Land 644,526 644,526
------------- ------------
Total LPG 21,554,658 21,057,724
------------- ------------
Other:
Automobile 10,800 10,800
Office equipment 69,168 56,266
------------- ------------
79,968 67,066
------------- ------------
21,634,626 21,124,790
Less: accumulated depreciation and amortization (3,236,006) (2,864,406)
------------- ------------
$ 18,398,620 $18,260,384
============= ============
The above includes $6,914,026, and $6,738,746 net of accumulated depreciation,
of costs of property, plant and equipment located in Mexico at January 31, 2002
and July 31, 2001, respectively.
11
PENN OCTANE CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
NOTE E - DEBT OBLIGATIONS
SHORT-TERM DEBT
----------------
Restructuring of Notes
------------------------
During December 2000, the Company entered into agreements (Restructuring
Agreements) with the holders of $5,409,000 in principal amount of the
promissory notes (Notes) providing for the restructuring of such Notes
(Restructuring).
Under the terms of the Restructuring Agreements, the due dates for the
restructured Notes (Restructured Notes) were extended to December 15, 2001
and were payable on December 17, 2001 (see below). Additionally, beginning
December 16, 2000, the annual interest rate on the Restructured Notes was
increased to 13.5% (subject to adjustment). Interest payments were due
quarterly beginning March 15, 2001.
Issuance of New Promissory Notes
------------------------------------
On January 31, 2001, the Company completed the placement of $991,000 in
principal amount of promissory notes (New Notes) which were due December
15, 2001 and were payable on December 17, 2001 (see below). The terms of
the New Notes are substantially the same as those contained in the
Restructured Notes issued in connection with the Restructuring described
above.
Payment on Restructured Notes
------------------------------
During August 2001 and September 2001, warrants to purchase 313,433 shares
of common stock of the Company owned by certain holders of the Restructured
Notes were exercised. The exercise price was satisfied by the Company
reducing the outstanding debt and accrued interest due on the Restructured
Notes by $614,833.
Extension of Restructured Notes and New Notes
---------------------------------------------
During December 2001, the Company and certain holders of the New Notes and
the Restructured Notes (Accepting Noteholders) reached an agreement whereby
the due date for $3,135,000 of principal due on the Accepting Noteholders'
Restructured Notes and/or New Notes was extended to June 15, 2002. In
connection with the extension, the Company agreed to (i) continue paying
interest at a rate of 16.5% annually on the Accepting Noteholders'
Restructured Notes and/or New Notes, payable quarterly, (ii) pay the
Accepting Noteholders a fee equal to 1% of the Restructured Notes and/or
New Notes extended, (iii) modify the warrants held by the Accepting
Noteholders by extending the expiration date to December 14, 2004 and (iv)
remove the Company's repurchase right with regard to the warrants.
In connection with the issuance of the Restructured Notes and New Notes,
the Company recorded a discount of $1,946,634, to be amortized over the
life of the Restructured Notes and New Notes. At January 31, 2002, the
entire discount has been amortized. Amortization of discounts totaling
$749,570 related to the Restructured Notes and New Notes is included in the
unaudited consolidated statement of operations for the six months ended
January 31, 2002.
In connection with the extension of the Accepting Noteholders' warrants,
the Company recorded a discount of $207,283, of which $53,529 has been
amortized as of January 31, 2002.
12
PENN OCTANE CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
NOTE E - DEBT OBLIGATIONS - CONTINUED
Extension of Restructured Notes and New Notes - Continued
---------------------------------------------------------
The remaining principal amount of Restructured Notes and New Notes which
were not extended totaled approximately $2,676,000, plus accrued interest
and was paid during December 2001 and January 2002.
LONG-TERM DEBT
--------------
Long-term debt consists of the following:
January 31, July 31,
2002 2001
------------ ----------
Promissory note issued in connection with the acquisition of the US - Mexico Pipelines
and the Matamoros Terminal Facility, due in monthly installments of $46,000 including
interest at 9% through February 2004 (CPSC Note); collateralized by the US portion of
the US - Mexico Pipelines $ 1,045,602 $1,263,634
Promissory note issued in connection with the acquisition of the US - Mexico Pipelines
and the Matamoros Terminal Facility, due in monthly installments of $29,000 including
interest at 9% through March 2004; collateralized by the US portion of the US - Mexico
Pipelines 673,772 811,532
Promissory note issued in connection with the purchase of property, due in monthly
minimum installments of $15,000 or $.001 for each gallon that flows through the US
Pipelines including interest at 10% with a balloon payment due in April 2003 (Mortgage
Note) 1,943,212 1,934,872
Unsecured noninterest-bearing note payable, discounted at 7%, for legal services; due in
February 2001 137,500 147,500
Other long-term debt 9,565 35,316
------------ ----------
3,809,651 4,192,854
Current maturities 916,884 918,885
------------ ----------
$ 2,892,767 $3,273,969
============ ==========
The Company's President is providing a personal guarantee for the punctual
payment and performance under the CPSC Note until collateral pledged in
connection with the note is perfected.
13
PENN OCTANE CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
NOTE E - DEBT OBLIGATIONS - CONTINUED
CPSC International, Inc. (CPSC) agreed to be responsible for payments
required by the Mortgage Note in connection with a settlement in March 2001
between CPSC and the Company. CPSC's obligations under the Mortgage Note
are to be paid by the Company to the extent that there are amounts owed by
the Company under the CPSC Note, through direct offsets by the Company
against the CPSC Note. After the CPSC Note is fully paid, the Company will
no longer have any payment obligation to CPSC in connection with the
Mortgage Note. Thereafter, CPSC will be fully responsible to the Company
for any remaining obligations in connection with the Mortgage Note
(Remaining Obligations). CPSC's obligations to the Company relating to the
Remaining Obligations are collateralized by a deed of trust lien granted by
CPSC in favor of the Company against the land pledged as collateral under
the Mortgage Note. The principal of $1,908,000 plus accrued and unpaid
interest is included in long-term debt and the corresponding amount
required to be paid by CPSC has been recorded as a mortgage receivable.
In connection with the note payable for legal services, the Company has not
made all of the required payments. The Company provided a "Stipulation of
Judgment" to the creditor in the event that the Company defaulted under a
settlement agreement.
NOTE F - STOCKHOLDERS' EQUITY
COMMON STOCK
-------------
The Company routinely issues shares of its common stock for cash, as a
result of the exercise of warrants, in payment of notes and other
obligations and to settle lawsuits.
During August and September 2001, warrants to purchase 37,500 and 275,933
shares, respectively, of common stock of the Company owned by certain
holders of the Restructured Notes were exercised. The exercise price was
satisfied by reductions of debt obligations (see note E).
During November 2001, warrants to purchase a total of 78,750 shares of
common stock of the Company were exercised, resulting in cash proceeds to
the Company of $137,813.
STOCK AWARD PLAN
------------------
During September 2001, the Company issued 37,500 shares of common stock of
the Company pursuant to the Plan to a consultant in payment for services
rendered to the Company valued at $150,000.
STOCK WARRANTS
---------------
The Company applies APB 25 for warrants granted to the Company's employees
and to the Company's Board of Directors serving in the capacity as
directors and SFAS 123 for warrants issued to acquire goods and services
from non-employees.
In connection with warrants previously issued by the Company, certain of
these warrants contain a call provision whereby the Company has the right
to purchase the warrants for a nominal price if the holder of the warrants
does not elect to exercise the warrants during the call provision period.
14
PENN OCTANE CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
NOTE F - STOCKHOLDERS' EQUITY - CONTINUED
BOARD COMPENSATION PLAN
In connection with the Board Plan, during August 2001 the Board granted
warrants to purchase 10,000 and 20,000 shares of common stock of the
Company at exercise prices of $3.99 and $4.05 per share to outside
directors. Based on the provisions of APB 25, no compensation expense was
recorded for these warrants.
In connection with the Board Plan, during November 2001 the Board granted
warrants to purchase 30,000 shares of common stock of the Company at
exercise prices of $3.66 per share to a newly appointed outside director.
Based on the provisions of APB 25, no compensation expense was recorded for
these warrants.
NOTE G - COMMITMENTS AND CONTINGENCIES
LITIGATION
On March 2, 2000, litigation was filed in the Superior Court of California,
County of San Bernardino by Omnitrans against Penn Octane Corporation, Penn
Wilson and several other third parties alleging breach of contract, fraud
and other causes of action related to the construction of a refueling
station by a third party. Penn Octane Corporation and PennWilson have been
dismissed from the litigation pursuant to summary judgments.
On July 10, 2001, litigation was filed in the 164th Judicial District Court
of Harris County, Texas by Jorge V. Duran, a former chairman of the board,
and Ware, Snow, Fogel & Jackson L.L.P. against the Company alleging breach
of contract, common law fraud and statutory fraud in connection with the
settlement agreement between the parties dated July 26, 2000. Plaintiffs
seek actual and punitive damages. The Company believes the claims are
without merit and intends to vigorously defend against the lawsuit.
On August 7, 2001, a Mexican company, Intertek Testing Services de Mexico,
S.A. de C.V. (Plaintiff), which contracts with PMI for LPG testing
services, filed suit in the Superior Court of California, County of San
Mateo against the Company alleging breach of contract. The Company has no
contract with the Plaintiff and, therefore, believes that the complaint is
without merit and intends to vigorously defend against the lawsuit.
The Company and its subsidiaries are also involved with other proceedings,
lawsuits and claims. The Company believes that the liabilities, if any,
ultimately resulting from such proceedings, lawsuits and claims should not
materially affect its consolidated financial statements.
15
PENN OCTANE CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
NOTE G - COMMITMENTS AND CONTINGENCIES - CONTINUED
CREDIT FACILITY, LETTERS OF CREDIT AND OTHER
As of January 31, 2002, the Company has a $20,000,000 credit facility with
RZB Finance L.L.C. (RZB) and Bayerische Hypo-und Vereinsbank
Aktiengeselischaft, New York Branch (HVB), whereby RZB and HVB will each
participate up to $10,000,000 toward the total credit facility for demand
loans and standby letters of credit (RZB Credit Facility) to finance the
Company's purchases of LPG. Under the RZB Credit Facility, the Company pays
a fee with respect to each letter of credit thereunder in an amount equal
to the greater of (i) $500, (ii) 2.5% of the maximum face amount of such
letter of credit, or (iii) such higher amount as may be agreed to between
the Company and RZB. Any amounts outstanding under the RZB Credit Facility
shall accrue interest at a rate equal to the rate announced by the JPMorgan
Chase Bank as its prime rate plus 2.5%. Pursuant to the RZB Credit
Facility, RZB and HVB each have sole and absolute discretion to limit or
terminate their participation in the RZB Credit Facility and to make any
loan or issue any letter of credit thereunder. RZB also has the right to
demand payment of any and all amounts outstanding under the RZB Credit
Facility at any time. In connection with the RZB Credit Facility, the
Company granted a security interest and assignment in any and all of the
Company's accounts (including cash of $3,656,691 at January 31, 2002),
inventory, real property, buildings, pipelines, fixtures and interests
therein or relating thereto, including, without limitation, the lease with
the Brownsville Navigation District of Cameron County (District) for the
land on which the Company's Brownsville Terminal Facility is located, the
Pipeline Lease, and in connection therewith agreed to enter into leasehold
deeds of trust, security agreements, financing statements and assignments
of rent, in forms satisfactory to RZB. Under the RZB Credit Facility, the
Company may not permit to exist any subsequent lien, security interest,
mortgage, charge or other encumbrance of any nature on any of its
properties or assets, except in favor of RZB, without the consent of RZB.
HVB has not participated in the RZB Credit Facility since September 2001.
The Company's President, Chairman and Chief Executive Officer has
personally guaranteed all of the Company's payment obligations with respect
to the RZB Credit Facility.
In connection with the Company's purchases of LPG from Exxon, El Paso NGL
Marketing Company, L.P. (El Paso), Duke Energy NGL Services, Inc. (Duke)
and/or Koch Hydrocarbon Company (Koch), letters of credit are issued on a
monthly basis based on anticipated purchases.
OTHER
At January 31, 2002, the obligation to deliver LPG totaled $11,128,698,
representing 32,317,733 gallons of LPG, most of which has been designated
for delivery from Markham. Upon request for delivery by the customer, the
Company's requirement to deliver the LPG from Markham will be limited to
among other things, the hydraulic and logistical capabilities of the
Markham storage system. Furthermore, the Company's storage capacity at
Markham is limited to space which is available to the Company pursuant to
the Markham storage contract. At January 31, 2002, storage balances at
Markham exceed amounts which had previously been reserved by the Company.
To the extent that quantities related to the obligation to deliver LPG
exceed quantities of LPG on hand, the Company is exposed to price risk.
16
PENN OCTANE CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
NOTE G - COMMITMENTS AND CONTINGENCIES - CONTINUED
DERIVATIVE INSTRUMENT
To the extent that quantities related to the obligation to deliver LPG
exceed quantities of LPG on hand, the Company may purchase derivative
financial instruments to hedge against the risks associated with negative
price fluctuations in LPG until such time as the Company expects to be
required to purchase the necessary LPG.
The Company has adopted Statement of Financial Accounting Standards No.
133, "Accounting for Derivative Instruments and Hedging Activities" (FASB
133), which requires that all derivative financial instruments be
recognized in the financial statements and measured at fair value
regardless of the purpose or intent for holding them. Changes in the fair
value of derivative financial instruments are either recognized
periodically in income or stockholders' equity (as a component of
comprehensive income), depending on whether the derivative is being used to
hedge changes in fair value or cash flows.
The carrying value of the Company's financial instrument approximates fair
value, which is generally determined by quoted prices at the balance sheet
date for similar instruments with similar terms.
At January 31, 2002, the Company has a financial Asian TET Mont Belvieu,
Texas propane call option on 8,400,000 gallons of propane for March 2002
with a strike price of $.39 per gallon (Option). Settlement of the Option
is based on the monthly average price of TET propane for March 2002, as
published by the Oil Price Information Service. The cost to acquire the
Option was $192,694. The Company considers the call option to be a cash
flow hedge and therefore, the Company has recorded a $192,694 loss in
comprehensive income for the six months ended January 31, 2002. Any
ultimate gain or loss will be recognized upon the exercise or expiration of
the option.
CONCENTRATIONS OF CREDIT RISK
Financial instruments that potentially subject the Company to credit risk
include cash balances at banks which at times exceed the federal deposit
insurance.
NOTE H - REALIZATION OF ASSETS
The accompanying consolidated financial statements have been prepared in
conformity with accounting principles generally accepted in the United
States of America, which contemplate continuation of the Company as a going
concern. The Company has had an accumulated deficit since inception, has
used cash in operations, continues to have a deficit in working capital,
and has exposure to price risk (see note G). Also at the time that the
Company is required by a customer to deliver quantities of LPG related to
its obligation to deliver LPG, subject to the limitations described in note
G, to the extent that quantities of LPG to be delivered exceed the
quantities of LPG on hand, the Company may not have the financing available
to fund the purchase of such quantities. In addition, significantly all of
the Company's assets are pledged or committed to be pledged as collateral
on existing debt in connection with the Restructured Notes, the New Notes,
the RZB Credit Facility and the notes related to the Settlement. The
Restructured Notes and the New Notes, which total $3,135,000 at January 31,
2002, are due on June 15, 2002. In addition, the Company entered into
supply agreements for quantities of LPG totaling 26,500,000 gallons per
month (actual deliveries have been approximately 23,000,000 gallons per
month) although a new sales agreement with PMI has not been consummated
(see note I). As discussed in note A, the Company has historically depended
heavily on sales to PMI.
17
PENN OCTANE CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
NOTE H - REALIZATION OF ASSETS - CONTINUED
In view of the matters described in the preceding paragraph, recoverability
of a major portion of the recorded asset amounts as shown in the
accompanying consolidated balance sheets is dependent upon the Company's
ability to obtain additional financing, repay, renew or extend the
Restructured Notes and the New Notes referred to in the preceding paragraph
and to raise additional equity capital, resolve uncertainties related to
the Saltillo Terminal Facility and the success of the Company's future
operations. The unaudited consolidated financial statements do not include
any adjustments related to the recoverability and classification of
recorded asset amounts or amounts and classification of liabilities that
might be necessary should the Company be unable to continue in existence.
To provide the Company with the ability it believes necessary to continue
in existence, management is taking steps to (i) increase sales to its
current customers including consummation of the Proposed Agreement (see
note I), (ii) increase its customer base assuming deregulation of the LPG
industry in Mexico, (iii) extend the terms of the Pipeline Lease and the
Brownsville Lease, (iv) expand its product lines, (v) obtain additional
letters of credit financing, (vi) raise additional debt and/or equity
capital, (vii) collect unrecorded revenues from PMI that the Company
believes it is due under the Old Agreement and Proposed Agreement (see note
I) and (viii) relocate the Satillo Terminal Facility to another location in
or near Saltillo, Coahuila, Mexico.
At July 31, 2001, the Company had net operating loss carryforwards for
federal income tax purposes of approximately $11,700,000. The ability to
utilize such net operating loss carryforwards may be significantly limited
by the application of the "change of ownership" rules under Section 382 of
the Internal Revenue Code.
NOTE I- CONTRACTS
LPG SALES TO PMI
The Company entered into sales agreements with PMI for the period from
April 1, 2000 through March 31, 2001 (Old Agreements), for the annual sale
of a combined minimum of 151,200,000 gallons of LPG, mixed to PMI
specifications, subject to seasonal variability, which was delivered to PMI
at the Company's terminal facilities in Matamoros, Tamaulipas, Mexico,
Saltillo, Coahuila, Mexico or alternative delivery points as prescribed
under the Old Agreements.
On October 11, 2000, the Old Agreements were amended to increase the
minimum amount of LPG to be purchased during the period from November 2000
through March 2001 by 7,500,000 gallons resulting in a new annual combined
minimum commitment of 158,700,000 gallons. Under the terms of the Old
Agreements, sales prices were indexed to variable posted prices.
The Old Agreements expired March 31, 2001. On April 26, 2001, PMI confirmed
to the Company in writing (Confirmation) the following terms of a new
agreement (Proposed Agreement) effective April 1, 2001, subject to
revisions to be provided by PMI's legal department. The Confirmation
provides for minimum monthly volumes of 19,000,000 gallons at indexed
variable posted prices plus premiums that provide the Company with annual
fixed margins, which increase annually over a three year period. From April
1, 2001 through December 31, 2001, the Company and PMI operated under the
terms provided for in the Confirmation. Beginning January 1, 2002, PMI has
purchased minimum monthly volumes of 17,000,000 gallons per month at
slightly higher premiums than those specified in the Confirmation. From
April 1, 2001 through November 30, 2001, the Company sold PMI 39,555,216
gallons (Sold LPG) for which PMI has taken delivery on 7,237,483 gallons
through January 31, 2002 and has not taken delivery on the remaining
32,317,733 gallons (Undelivered Sold LPG) as of January 31, 2002
(obligation to deliver LPG - see note G). The Company received the posted
price plus other fees but has not received the fixed margin referred to in
the Confirmation on 28,702,207 gallons of the Undelivered Sold LPG. At
January 31, 2002, the obligation to deliver LPG totals $11,128,698 related
to such sales.
18
PENN OCTANE CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
NOTE I- CONTRACTS - CONTINUED
LPG SALES TO PMI - CONTINUED
During February 2002, the Company delivered 12,015,443 gallons of the
Undelivered Sold LPG at Mont Belvieu of which 3,615,443 gallons were
delivered from quantities of inventory held by the Company at Mont Belvieu
and 8,400,000 gallons were delivered through an exchange with Exxon
(Exchange). Under the terms of the Exchange, the Company is required to pay
for the net cost of the gallons purchased totaling approximately $2,688,000
through an additional surcharge on the propane and butane gallons purchased
from Exxon pursuant to the Exxon Supply Contract of $.092 per gallon,
beginning February 15, 2002 until such time as the total purchase price has
been paid.
Since March 2001, PMI has used the Matamoros Terminal Facility to load a
portion of LPG purchased from the Company for distribution in Mexico. The
Company continues to use the Brownsville Terminal Facility in connection
with LPG delivered by railcar to other customers or as an alternative
terminal in the event the Matamoros Terminal Facility cannot be used.
Based on the Company's interpretation of certain of the provisions of the
Old Agreements, additional amounts are due from PMI totaling $5,900,000 as
of January 31, 2002, resulting principally from shortfalls in the minimum
volume requirements (approximately 15,100,000 gallons) and other price
adjustments as provided for under those agreements. In addition, the
Company's interpretation of the Confirmation results in amounts due from
PMI totaling $2,156,672 as of January 31, 2002, related to the fixed margin
on undelivered LGP regardless of where the LPG is ultimately delivered.
Furthermore, beginning January 1, 2002, PMI began purchasing lower volumes
than those provided for in the Confirmation, resulting in additional lost
revenues to the Company. The Company will not record revenues, if any,
until they are paid by PMI or the validity of the Company's interpretations
can otherwise be determined.
To date, the Company's attempts to consummate an agreement and reach a
settlement regarding the above matters with PMI has been unsuccessful.
Revenues from PMI totaled $47,224,001 for the six months ended January 31,
2002, representing approximately 73% of total revenues for the period.
19
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS
The following discussion of the Company's results of operations and
liquidity and capital resources should be read in conjunction with the unaudited
consolidated financial statements of the Company and related notes thereto
appearing elsewhere herein.
FORWARD-LOOKING STATEMENTS
The statements contained in this Report that are not historical facts are
forward-looking statements within the meaning of Section 27A of the Securities
Act of 1933. These forward-looking statements may be identified by the use of
forward-looking terms such as "believes," "expects," "may," "will", "should" or
anticipates" or by discussions of strategy that involve risks and uncertainties.
From time to time, we have made or may make forward-looking statements, orally
or in writing. These forward-looking statements include statements regarding
anticipated future revenues, sales, LPG supply, operations, demand, competition,
capital expenditures, the deregulation of the LPG market in Mexico, the
operations of the US - Mexico Pipelines, the Matamoros Terminal Facility and the
Saltillo Terminal Facility, other upgrades to our facilities, foreign ownership
of LPG operations, short-term obligations and credit arrangements, outcome of
litigation and other statements regarding matters that are not historical facts,
and involve predictions which are based upon a number of future conditions that
ultimately may prove to be inaccurate. Actual results, performance or
achievements could differ materially from the results expressed in, or implied
by, these forward-looking statements. Factors that may cause or contribute to
such differences include those discussed under Part I of the Company's Annual
Report on Form 10-K for the fiscal year ended July 31, 2001, as well as those
discussed elsewhere in this Report. We caution you, however, that this list of
factors may not be complete.
OVERVIEW
The Company has been principally engaged in the purchase, transportation
and sale of LPG for distribution into northeast Mexico. In connection with the
Company's desire to reduce quantities of inventory, the Company also sells LPG
to U.S. and Canadian customers.
During the three months ended January 31, 2002, the Company derived 73% of
its revenues from sales of LPG to PMI, its primary customer.
The Company provides products and services through a combination of
fixed-margin and fixed-price contracts. Costs included in cost of goods sold,
other than the purchase price of LPG, may affect actual profits from sales,
including costs relating to transportation, storage, leases and maintenance.
Mismatches in volumes of LPG purchased from suppliers and volumes sold to PMI or
others could result in gains during periods of rising LPG prices or losses
during periods of declining LPG prices as a result of holding inventories or
disposing of excess inventories.
LPG SALES
The following table shows the Company's volume sold and delivered in
gallons and average sales price for the three and six months ended January 31,
2002 and 2001.
Three months ended January 31, Six months ended January 31,
---------------------------------- --------------------------------
2002 2001 2002 2001
---------------- ---------------- --------------- ---------------
Volume Sold and Delivered
LPG (millions of gallons) - PMI 62.9 50.0 107.8 90.0
LPG (millions of gallons) - Other 17.3 13.8 41.4 32.8
---------------- ---------------- --------------- ---------------
80.2 63.8 149.2 122.8
================ ================ =============== ===============
Average sales price
LPG (per gallon) - PMI $ 0.40 $ 0.77 $ 0.44 $ 0.73
LPG (per gallon) - Other 0.45 0.66 0.42 0.62
20
RESULTS OF OPERATIONS
THREE MONTHS ENDED JANUARY 31, 2002 COMPARED WITH THREE MONTHS ENDED JANUARY 31,
2001
Revenues. Revenues for the three months ended January 31, 2002, were $32.9
million compared with $47.6 million for the three months ended January 31, 2001,
a decrease of $14.7 million or 30.9%. Of this decrease, $18.5 million was
attributable to decreases in average sales prices of LPG sold to PMI during the
three months ended January 31, 2002 and $2.9 million was attributable to
decreased average sales prices of LPG sold to customers other than PMI during
the three months ended January 31, 2002 in connection with the Company's desire
to reduce quantities of inventory, partially offset by increases of $5.1 million
attributable to increased volumes of LPG sold to PMI and $1.6 million
attributable to increased volumes of LPG sold to customers other than PMI during
the three months ended January 31, 2002.
Cost of goods sold. Cost of goods sold for the three months ended January
31, 2002, was $30.6 million compared with $47.6 million for the three months
ended January 31, 2001, a decrease of $17.0 million or 35.6%. Of this decrease,
$21.0 million was attributable to decreases in the cost of LPG sold to PMI
during the three months ended January 31, 2002, $2.2 million was attributable to
the decreased costs of LPG sold to customers other than PMI in connection with
the Company's desire to reduce quantities of inventory during the three months
ended January 31, 2002, partially offset by increases of $4.1 million
attributable to increased volume of LPG sold to PMI during the three months
ended January 31, 2002, $1.8 million attributable to increased volume of LPG
sold to customers other than PMI during the three months ended January 31, 2002
and $229,120 attributable to net increases in other operating costs associated
with LPG during the three months ended January 31, 2002.
Selling, general and administrative expenses. Selling, general and
administrative expenses were $888,570 for the three months ended January 31,
2002, compared with $1.0 million for the three months ended January 31, 2001, a
decrease of $113,428 or 11.3%. The decrease during the three months ended
January 31, 2002, was principally due to reduced nonrecurring legal and
consulting fees incurred in connection with the negotiation of contracts with
PMI and costs associated with the Company's plans to import LPG directly into
Mexico.
Other income (expense). Other income (expense) was $(674,910) for the
three months ended January 31, 2002, compared with $(849,052) for the three
months ended January 31, 2001, a decrease of $174,142. The decrease in other
expense was due primarily to decreased interest costs and amortization of
discounts on outstanding debt during the three months ended January 31, 2002.
Income tax. Due to the availability of net operating loss carryforwards
during the three months ended January 31, 2002 and 2001, there was no income tax
expense recorded in either period. The Company had net operating loss
carryforwards of approximately $12.0 million at July 31, 2001, which expire in
the years 2010 to 2021, and may be significantly limited by the application of
the "change in ownership" rules under Section 382 of the Internal Revenue Code.
The Company can receive a credit against any future tax payments to the extent
of any prior alternative minimum taxes paid.
21
SIX MONTHS ENDED JANUARY 31, 2002 COMPARED WITH SIX MONTHS ENDED JANUARY 31,
2001
Revenues. Revenues for the six months ended January 31, 2002, were $64.8
million compared with $86.0 million for the six months ended January 31, 2001, a
decrease of $21.2 million or 24.7%. Of this decrease, $26.3 million was
attributable to decreases in average sales prices of LPG sold to PMI during the
six months ended January 31, 2002, and $6.0 million was attributable to
decreased average sales prices of LPG sold to customers other than PMI during
the six months ended January 31, 2002, in connection with the Company's desire
to reduce quantities of inventory, partially offset by increases of $7.8 million
attributable to increased volumes of LPG sold to PMI and $3.3 million
attributable to increased volumes of LPG sold to customers other than PMI during
the six months ended January 31, 2002.
Cost of goods sold. Cost of goods sold for the six months ended January
31, 2002, was $61.9 million compared with $84.4 million for the six months ended
January 31, 2001, a decrease of $22.5 million or 26.7%. Of this decrease, $28.4
million was attributable to decreases in the cost of LPG sold to PMI during the
six months ended January 31, 2002, $4.8 million was attributable to the
decreased costs of LPG sold to customers other than PMI in connection with the
Company's desire to reduce quantities of inventory during the six months ended
January 31, 2002, partially offset by increases of $6.5 million attributable to
increased volume of LPG sold to PMI during the six months ended January 31,
2002, $3.7 million attributable to increased volume of LPG sold to customers
other than PMI during the six months ended January 31, 2002 and $545,285
attributable to net increases in other operating costs associated with LPG
during the six months ended January 31, 2002.
Selling, general and administrative expenses. Selling, general and
administrative expenses were $2.1 million for the six months ended January 31,
2002, compared with $1.7 million for the six months ended January 31, 2001, an
increase of $449,611 or 26.8%. The increase during the six months ended
January 31, 2002, was principally due to nonrecurring legal and consulting fees.
Other income (expense). Other income (expense) was $(1.6) million for the
six months ended January 31, 2002, compared with $(1.8) million for the six
months ended January 31, 2001, a decrease of $137,910. The decrease in other
expense was due primarily to decreased interest costs and amortization of
discounts on outstanding debt during the six months ended January 31, 2002.
Income tax. Due to the availability of net operating losses during the
six months ended January 31, 2002 and 2001, there was no income tax expense
recorded in either period. The Company had net operating loss carryforwards of
approximately $12.0 million at July 31, 2001, which expire in the years 2010 to
2021, and may be significantly limited by the application of the "change in
ownership" rules under Section 382 of the Internal Revenue Code. The Company
can receive a credit against any future tax payments to the extent of any prior
alternative minimum taxes paid.
22
LIQUIDITY AND CAPITAL RESOURCES
General. The Company has had an accumulated deficit since its inception,
has used cash in operations, continues to have a deficit in working capital and
has exposure to price risk (see note G to the unaudited consolidated financial
statements). Also at the time that the Company is required by a customer to
deliver quantities of LPG related to its obligation to deliver LPG, subject to
the limitations described in note G, to the extent that quantities of LPG to be
delivered exceed the quantities of LPG on hand, the Company may not have the
financing available to fund the purchases of such quantities. In addition,
significantly all of the Company's assets are pledged or committed to be pledged
as collateral on existing debt in connection with the Restructured Notes, the
New Notes, the RZB Credit Facility and the notes related to the Settlement.
The Restructured Notes and the New Notes, which total approximately $3.1 million
at January 31, 2002, are due on June 15, 2002. The Company may need to increase
its credit facility for increases in quantities of LPG purchased and/or to
finance future price increases of LPG. Further, the Company may find it
necessary to liquidate inventories at a loss to provide working capital, to
reduce outstanding balances under its credit facility and/or due to storage
limitations at Markham Storage. The Company depends heavily on sales to one
major customer for which a new sales agreement has not been consummated. The
Company's sources of liquidity and capital resources historically have been
provided by sales of LPG, proceeds from the issuance of short-term and long-term
debt, revolving credit facilities and credit arrangements, sale or issuance of
preferred and common stock of the Company and proceeds from the exercise of
warrants to purchase shares of the Company's common stock.
The following summary table reflects comparative cash flows for the six
months ended January 31, 2002 and 2001. All information is in thousands.
JANUARY 31, JANUARY 31,
2002 2001
------------- -------------
Net cash provided by operating activities $ 5,810 $ 3,232
Net cash used in investing activities . . (510) (1,356)
Net cash used in financing activities . . (2,931) (474)
------------- -------------
Net increase in cash. . . . . . . . . . . $ 2,369 $ 1,402
============= =============
Sales to PMI. The Company entered into sales agreements with PMI for the
period from April 1, 2000 through March 31, 2001 (the "Old Agreements"), for the
annual sale of a combined minimum of 151.2 million gallons of LPG, mixed to PMI
specifications, subject to seasonal variability, which was delivered to PMI at
the Company's terminal facilities in Matamoros, Tamaulipas, Mexico and Saltillo,
Coahuila, Mexico or alternative delivery points as prescribed under the Old
Agreements.
On October 11, 2000, the Old Agreements were amended to increase the
minimum amount of LPG to be purchased during the period from November 2000
through March 2001 by 7.5 million gallons resulting in a new annual combined
minimum commitment of 158.7 million gallons. Under the terms of the Old
Agreements, sales prices were indexed to variable posted prices.
The Old Agreements expired March 31, 2001. On April 26, 2001, PMI confirmed
to the Company in writing (the "Confirmation") the following terms of a new
agreement (the "Proposed Agreement") effective April 1, 2001, subject to
revisions to be provided by PMI's legal department. The Confirmation provides
for minimum monthly volumes of 19.0 million gallons at indexed variable posted
prices plus premiums that provide the Company with annual fixed margins, which
increase annually over a three year period. From April 1, 2001 through December
31, 2001, the Company and PMI operated under the terms provided for in the
Confirmation. Beginning January 1, 2002, PMI has purchased minimum monthly
volumes of 17,000,000 gallons per month at slightly higher premiums than those
specified in the Confirmation. From April 1, 2001 through November 30, 2001, the
Company sold PMI approximately 39.6 million gallons (the "Sold LPG") for which
PMI has taken delivery on 7.2 million gallons through January 31, 2002 and has
not taken delivery on the remaining 32.3 million gallons (the "Undelivered Sold
LPG") as of January 31, 2002 (obligation to deliver LPG - see note G to the
unaudited consolidated financial statements). The Company received the posted
price plus other fees but has not received the fixed margin referred to in the
Confirmation on 28.7 million gallons of the Undelivered Sold LPG. At January 31,
2002, the obligation to deliver LPG totals approximately $11.1 million related
to such sales.
23
During February 2002, the Company delivered approximately 12.0 million
gallons of the Undelivered Sold LPG at Mont Belvieu of which 3.6 million gallons
were delivered from quantities of inventory held by the Company at Mont Belvieu
and 8.4 million gallons were delivered through an exchange with Exxon (the
"Exchange"). Under the terms of the Exchange, the Company is required to pay for
the net cost of the gallons purchased totaling approximately $2.6 million
through an additional surcharge on the propane and butane gallons purchased from
Exxon pursuant to the Exxon Supply Contract of $.092 per gallon, beginning
February 15, 2002 until such time as the total purchase price has been paid.
Since March 2001, PMI has used the Matamoros Terminal Facility to load a
portion of LPG purchased from the Company for distribution in Mexico. The
Company continues to use the Brownsville Terminal Facility in connection with
LPG delivered by railcar to other customers or as an alternative terminal in the
event the Matamoros Terminal Facility cannot be used.
Based on the Company's interpretation of certain of the provisions of the
Old Agreements, additional amounts are due from PMI totaling approximately $5.9
million as of January 31, 2002, resulting principally from shortfalls in the
minimum volume requirements (approximately 15.1 million gallons) and other price
adjustments as provided for under those agreements. In addition, the Company's
interpretation of the Confirmation results in amounts due from PMI totaling
approximately $2.2 million as of January 31, 2002, related to the fixed margin
on undelivered LPG regardless of where the LPG is ultimately delivered.
Furthermore, beginning January 1, 2002, PMI began purchasing lower volumes than
those provided for in the Confirmation, resulting in additional lost revenues to
the Company. The Company will not record revenues, if any, until they are paid
by PMI or the validity of the Company's interpretations can otherwise be
determined.
To date, the Company's attempt to consummate an agreement and reach a
settlement regarding the above matters with PMI has been unsuccessful.
Revenues from PMI totaled approximately $47.2 million for the six months
ended January 31, 2002, representing approximately 73% of total revenue for the
period.
LPG Supply Agreements. The Company has entered into supply agreements for
quantities of LPG totaling approximately 26.5 million gallons per month (actual
deliveries have been approximately 23.0 million gallons per month) although a
new sales agreement with PMI has not been consummated.
In addition to the LPG costs charged by the Suppliers, the Company also
incurs additional costs to deliver the LPG to the Company's facilities.
Furthermore, the Company may incur significant additional costs associated with
the storage, disposal and/or changes in LPG prices resulting from the excess of
the Plant Commitment, El Paso Supply, Koch Supply or Duke Supply over actual
sales volumes. Under the terms of the Supply Contracts, the Company must provide
letters of credit in amounts equal to the cost of the product to be purchased.
In addition, the cost of the product purchased is tied directly to overall
market conditions. As a result, the Company's existing letter of credit facility
may not be adequate to meet the letter of credit requirements under the
agreements with the Suppliers or other suppliers due to increases in quantities
of LPG purchased and/or to finance future price increases of LPG.
Pipeline Lease. The Pipeline Lease currently expires on December 31, 2013,
pursuant to an amendment (the "Pipeline Lease Amendment") entered into between
the Company and Seadrift on May 21, 1997, which became effective on January 1,
1999 (the "Effective Date"). The Pipeline Lease Amendment provides, among other
things, for additional storage access and inter-connection with another pipeline
controlled by Seadrift, thereby providing greater access to and from the Leased
Pipeline. Pursuant to the Pipeline Lease Amendment, the Company's fixed annual
rent for the use of the Leased Pipeline beginning January 1, 2001 until its
expiration is $1.0 million. The Company is required to pay a minimum charge for
storage of $300,000 per year (based on reserved storage of 8.4 million gallons).
In connection with the Pipeline Lease, the Company reserved up to 12.6 million
gallons of storage through December 31, 2002, and may reserve up to 21.0 million
gallons each year thereafter provided that the Company notifies Seadrift in
advance. As of January 31, 2002, the Company's inventory balances at Markham
exceeded the amount the Company had reserved for storage at Markham.
24
The Pipeline Lease Amendment provides for variable rental increases based
on monthly volumes purchased and flowing into the Leased Pipeline and storage
utilized. The Company believes that the Pipeline Lease Amendment provides the
Company increased flexibility in negotiating sales and supply agreements with
its customers and suppliers. The Company has made all payments required under
the Pipeline Lease Amendment.
The Company recently began utilizing a mid-line pump station which included
the installation of additional piping, meters, valves, analyzers and pumps along
the Leased Pipeline to increase the capacity of the Leased Pipeline. The Leased
Pipeline's capacity is estimated to be between 300 million gallons per year and
360 million gallons per year.
Deregulation of the LPG Industry in Mexico. The Mexican petroleum industry
is governed by the Ley Reglarmentaria del Art culo 27 Constitutional en el Ramo
del Petr leo (the Regulatory Law to Article 27 of the Constitution of Mexico
concerning Petroleum Affairs (the "Regulatory Law")), and Ley Org nica del Petr
leos Mexicanos y Organismos Subsidiarios (the Organic Law of Petr leos Mexicanos
and Subsidiary Entities (the "Organic Law")). Under Mexican law and related
regulations, PEMEX is entrusted with the central planning and the strategic
management of Mexico's petroleum industry, including importation, sales and
transportation of LPG. In carrying out this role, PEMEX controls pricing and
distribution of various petrochemical products, including LPG.
Beginning in 1995, as part of a national privatization program, the
Regulatory Law was amended to permit private entities to transport, store and
distribute natural gas with the approval of the Ministry of Energy. As part of
this national privatization program, the Mexican Government is expected to
deregulate the LPG market ("Deregulation"). In June 1999, the Regulatory Law for
LPG was changed to permit foreign entities to participate without limitation in
the defined LPG activities related to transportation and storage. However,
foreign entities are prohibited from participating in the distribution of LPG in
Mexico. Upon Deregulation, Mexican entities will be able to import LPG into
Mexico. Under Mexican law, a single entity is not permitted to participate in
more than one of the defined LPG activities (transportation, storage and
distribution). The Company or its affiliates expect to sell LPG directly to
independent Mexican distributors as well as PMI upon Deregulation. The Company
anticipates that the independent Mexican distributors will be required to obtain
authorization from the Mexican government for the importation of LPG upon
Deregulation prior to entering into contracts with the Company.
During July 2001, the Mexican government announced that it would begin to
accept applications from Mexican companies for permits to allow for the
importation of LPG pursuant to provisions already provided for under existing
Mexican law.
In connection with the above, in August 2001, Tergas received a permit from
the Mexican government to import LPG. Tergas also received authorization from
Mexican customs authorities regarding the use of the US-Mexico Pipelines for the
importation of LPG.
Although Tergas is currently able to import LPG into Mexico by virtue of
the permit, the Mexican government has asked Tergas to defer use of the permit
and, as a result, the Company has not sold LPG to distributors other than PMI.
In March 2002, the Mexican government again announced its intention to issue
permits for free importation of LPG into Mexico by distributors and others
beginning in the near future. As a result of the foregoing, it is uncertain as
to when, if ever, Deregulation will actually occur and the effect, if any, it
will have on the Company. However, it is the Company's intention, that should
Deregulation occur, to sell LPG directly to distributors in Mexico as well as
PMI.
The point of sale for LPG which flows through the US-Mexico Pipelines for
delivery to the Matamoros Terminal Facility is the United States-Mexico border.
Revenue is not recognized on these transactions until physical delivery.
25
Credit Arrangements and Other. As of January 31, 2002, the Company has a
$20.0 million credit facility with RZB Finance L.L.C. ("RZB") and Bayerische
Hypo-und Vereinsbank Aktiengeselischaft, New York Branch ("HVB"), whereby RZB
and HVB will each participate up to $10.0 million toward the total credit
facility for demand loans and standby letters of credit (RZB Credit Facility) to
finance the Company's purchases of LPG. Under the RZB Credit Facility, the
Company pays a fee with respect to each letter of credit thereunder in an amount
equal to the greater of (i) $500, (ii) 2.5% of the maximum face amount of such
letter of credit, or (iii) such higher amount as may be agreed to between the
Company and RZB. Any amounts outstanding under the RZB Credit Facility shall
accrue interest at a rate equal to the rate announced by the JPMorgan Chase Bank
as its prime rate plus 2.5%. Pursuant to the RZB Credit Facility, RZB and HVB
each have sole and absolute discretion to limit or terminate their participation
in the RZB Credit Facility and to make any loan or issue any letter of credit
thereunder. RZB also has the right to demand payment of any and all amounts
outstanding under the RZB Credit Facility at any time. In connection with the
RZB Credit Facility, the Company granted a security interest and assignment in
any and all of the Company's accounts (including cash of approximately $3.7
million at January 31, 2002), inventory, real property, buildings, pipelines,
fixtures and interests therein or relating thereto, including, without
limitation, the lease with the Brownsville Navigation District of Cameron County
(the "District") for the land on which the Company's Brownsville Terminal
Facility is located, the Pipeline Lease, and in connection therewith agreed to
enter into leasehold deeds of trust, security agreements, financing statements
and assignments of rent, in forms satisfactory to RZB. Under the RZB Credit
Facility, the Company may not permit to exist any subsequent lien, security
interest, mortgage, charge or other encumbrance of any nature on any of its
properties or assets, except in favor of RZB, without the consent of RZB. HVB
has not participated in the RZB Credit Facility since September 2001.
The Company's President, Chairman and Chief Executive Officer has
personally guaranteed all of the Company's payment obligations with respect to
the RZB Credit Facility.
In connection with the Company's purchases of LPG from Exxon, El Paso, Duke
and/or Koch, letters of credit are issued on a monthly basis based on
anticipated purchases.
At January 31, 2002, the obligation to deliver LPG totaled approximately
$11.1 million, representing approximately 32.3 million gallons of LPG, most of
which has been designated for delivery from Markham. Upon request for delivery
by the customer, the Company's requirement to deliver the LPG from Markham will
be limited to among other things, the hydraulic and logistical capabilities of
the Markham storage system. Furthermore, the Company's storage capacity at
Markham is limited to space which is available to the Company pursuant to the
Markham storage contract. At January 31, 2002, storage balances at Markham
exceed amounts which had previously been reserved by the Company. To the extent
that quantities related to the obligation to deliver LPG exceed quantities of
LPG on hand, the Company is exposed to price risk.
To the extent that quantities related to the obligation to deliver LPG
exceed quantities of LPG on hand, the Company may purchase derivative financial
instruments to hedge against the risks associated with negative price
fluctuations in LPG until such time as the Company expects to be required to
purchase the necessary LPG.
The Company has adopted Statement of Financial Accounting Standards No.
133, "Accounting for Derivative Instruments and Hedging Activities" ("FASB
133"), which requires that all derivative financial instruments be recognized in
the financial statements and measured at fair value regardless of the purpose or
intent for holding them. Changes in the fair value of derivative financial
instruments are either recognized periodically in income or stockholders' equity
(as a component of comprehensive income), depending on whether the derivative is
being used to hedge changes in fair value or cash flows.
The carrying value of the Company's financial instruments approximates fair
value, which is generally determined by quoted prices at the balance sheet date
for similar instruments with similar terms.
At January 31, 2002, the Company has a financial Asian TET Mont Belvieu,
Texas propane call option on 8.4 million gallons of propane for March 2002 with
a strike price of $.39 per gallon (the "Option"). Settlement of the Option is
based on the monthly average price of TET propane for March 2002, as published
by the Oil Price Information Service. The cost to acquire the Option was
$192,694. The Company considers the call option to be a cash flow hedge and
therefore, the Company has recorded a $192,694 loss in comprehensive income for
the six months ended January 31, 2002. Any ultimate gain or loss will be
recognized upon the exercise or expiration of the option.
26
Private Placements and Other Transactions. During December 2000, the
Company entered into agreements (the "Restructuring Agreements") with the
holders of $5.4 million in principal amount of the promissory notes (the
"Notes") providing for the restructuring of such remaining Notes (the
"Restructuring").
Under the terms of the Restructuring Agreements, the due dates for the
restructured notes (the "Restructured Notes") were extended to December 15, 2001
and were payable on December 17, 2001 (see below). Additionally, beginning
December 16, 2000, the annual interest rate on the Restructured Notes was
increased to 13.5% (subject to adjustment). Interest payments were due quarterly
beginning March 15, 2001.
Under the terms of the Restructuring Agreements, the Company is also
required to provide the holders of the Restructured Notes with collateral to
secure the Company's payment obligations under the Restructured Notes consisting
of a senior interest in substantially all of the Company's assets which are
located in the United States (the "US Assets") and Mexico (the "Mexican
Assets"), excluding inventory, accounts receivable and sales contracts with
respect to which the Company is required to grant a subordinated security
interest (collectively referred to as the "Collateral"). The Company's President
has also pledged 2.0 million shares of common stock of the Company owned by the
President (1.0 million shares to be released when the required security
interests in the US Assets have been granted and perfected and all of the shares
are to be released when the required security interests in all of the Collateral
have been granted and perfected). The granting and perfection of the security
interests in the Collateral, as prescribed under the Restructured Notes, have
not been finalized. Accordingly, the interest rate under the Restructured Notes
increased to 16.5% on March 16, 2001, and will continue at such rate until the
required security interest in all of the Collateral has been granted and
perfected. The Collateral is also being pledged in connection with the issuance
of other indebtedness by the Company (see note H to the unaudited consolidated
financial statements). PMG has agreed to serve as the collateral agent.
On January 31, 2001, the Company completed the placement of $991,000 in
principal amount of promissory notes (the "New Notes") which were due December
15, 2001 and were payable on December 17, 2001 (see below). The terms of the New
Notes are substantially the same as those contained in the Restructured Notes
issued in connection with the Restructuring described above. As described above,
the Company's payment obligations under the New Notes will also be received by
the Collateral and the shares of the Company which are being pledged by the
Company's President.
During August 2001 and September 2001, warrants to purchase 313,433 shares
of common stock of the Company owned by certain holders of the Restructured
Notes were exercised. The exercise price was satisfied by the Company reducing
the outstanding debt and accrued interest due on the Restructured Notes by
$614,833.
During December 2001, the Company and certain holders of the New Notes and
the Restructured Notes (the "Accepting Noteholders") reached an agreement
whereby the due date for approximately $3.0 million of principal due on the
Accepting Noteholders' Restructured Notes and/or New Notes was extended to June
15, 2002. In connection with the extension, the Company agreed to (i) continue
paying interest at a rate of 16.5% annually on the Accepting Noteholders'
Restructured Notes and/or New Notes, payable quarterly, (ii) pay the Accepting
Noteholders a fee equal to 1% of the Restructured Notes and/or New Notes
extended, (iii) modify the warrants held by the Accepting Noteholders by
extending the expiration date to December 14, 2004 and (iv) remove the Company's
repurchase right with regard to the warrants.
In connection with the issuance of the Restructured Notes and New Notes,
the Company recorded a discount of approximately $1.9 million to be amortized
over the life of the Restructured Notes and New Notes. At January 31, 2002, the
entire discount has been amortized. Amortization of discounts totaling $749,570
related to the Restructured Notes and New Notes is included in the unaudited
consolidated statement of operations for the six months ended January 31, 2002.
In connection with the extension of the Accepting Noteholders' warrants,
the Company recorded a discount of $207,283, of which $53,529 has been amortized
as of January 31, 2002.
27
The remaining principal amount of Restructured Notes and New Notes which
were not extended totaled approximately $2.7 million, plus accrued interest and
was paid during December 2001 and January 2002.
During September 2001, the Company issued 37,500 shares of common stock of
the Company to a consultant in payment for services rendered to the Company
valued at $150,000.
During November 2001, warrants to purchase a total of 78,750 shares of
common stock of the Company were exercised, resulting in cash proceeds to the
Company of $137,813.
As of January 31, 2002, the amounts due from notes issued to the Company by
certain officers, directors and a related party (the "Note Issuers") for the
exercise of warrants have not been paid as required by the terms of the notes.
All accrued but unpaid interest from officers, directors and a related party has
been reserved. During November 2001, the Company and the Note Issuers agreed to
exchange 36,717 shares of common stock of the Company held by the Note Issuers
for payment of all unpaid interest owing to the Company through October 31, 2001
($146,869). In addition upon receipt of the common stock, the Company agreed to
extend the due date of the notes to October 31, 2003.
During January 2002 the Company received a note in the amount of $200,000
for a loan to the Company's president. The note bears interest at the prime rate
and the note plus accrued interest are due on January 31, 2003. The note is
collateralized by shares collateralizing another obligation of the president to
the Company.
In connection with warrants previously issued by the Company, certain of
these warrants contain a call provision whereby the Company has the right to
purchase the warrants for a nominal price if the holder of the warrants does not
elect to exercise the warrants during the call provision period.
Litigation. On March 2, 2000, litigation was filed in the Superior Court of
California, County of San Bernardino by Omnitrans against Penn Octane
Corporation, Penn Wilson and several other third parties alleging breach of
contract, fraud and other causes of action related to the construction of a
refueling station by a third party. Penn Octane Corporation and PennWilson have
recently been dismissed from the litigation pursuant to summary judgments.
On July 10, 2001, litigation was filed in the 164th Judicial District Court
of Harris County, Texas by Jorge V. Duran, a former chairman of the board, and
Ware, Snow, Fogel & Jackson L.L.P. against the Company alleging breach of
contract, common law fraud and statutory fraud in connection with the settlement
agreement between the parties dated July 26, 2000. Plaintiffs seek actual and
punitive damages. The Company believes the claims are without merit and intends
to vigorously defend against the lawsuit.
On August 7, 2001, a Mexican company, Intertek Testing Services de Mexico,
S.A. de C.V. (the "Plaintiff"), which contracts with PMI for LPG testing
services, filed suit in the Superior Court of California, County of San Mateo
against the Company alleging breach of contract. The Company has no contract
with the Plaintiff and, therefore, believes that the complaint is without merit
and intends to vigorously defend against the lawsuit.
The Company and its subsidiaries are also involved with other proceedings,
lawsuits and claims. The Company believes that the liabilities, if any,
ultimately resulting from such proceedings, lawsuits and claims should not
materially affect its consolidated financial statements.
28
Realization of Assets. The Company has had an accumulated deficit since
inception, has used cash in operations, continues to have a deficit in working
capital and has exposure to price risk (see note G to the unaudited consolidated
financial statements). Also at the time that the Company is required by a
customer to deliver quantities of LPG related to its obligation to deliver LPG,
subject to the limitations described in note G to the unaudited consolidated
financial statements, to the extent that quantities of LPG to be delivered
exceed the quantities of LPG on hand, the Company may not have the financing
available to fund the purchase of such quantities. In addition, significantly
all of the Company's assets are pledged or committed to be pledged as collateral
on existing debt in connection with the Restructured Notes, the New Notes, the
RZB Credit Facility and the notes related to the Settlement. The Restructured
Notes and the New Notes, which total approximately $3.1 million at January 31,
2002, are due on June 15, 2002. The Company may need to increase its credit
facility for the purchase of quantities of LPG in excess of current quantities
sold and/or to finance future price increases of LPG, if any. Further, the
Company may find it necessary to liquidate inventories at a loss to provide
working capital, to reduce outstanding balances under its credit facility or due
to storage limitations at Markham storage. In addition, the Company entered into
supply agreements for quantities of LPG totaling approximately 26.5 million
gallons per month (actual deliveries have been approximately 23.0 million
gallons per month) although a new sales agreement with PMI has not been
consummated (see note I to the unaudited consolidated financial statements). As
discussed in note A to the unaudited consolidated financial statements, the
Company has historically depended heavily on sales to PMI.
In view of the matters described in the preceding paragraph, recoverability
of a major portion of the recorded asset amounts as shown in the accompanying
consolidated balance sheets is dependent upon the Company's ability to obtain
additional financing, repay, renew or extend the Restructured Notes and the New
Notes referred to in the preceding paragraph and to raise additional equity
capital, resolve uncertainties related to the Saltillo Terminal Facility and the
success of the Company's future operations. The unaudited consolidated financial
statements do not include any adjustments related to the recoverability and
classification of recorded asset amounts or amounts and classification of
liabilities that might be necessary should the Company be unable to continue in
existence.
To provide the Company with the ability it believes necessary to continue
in existence, management is taking steps to (i) increase sales to its current
customers including consummation of the Proposed Agreement (see note I to the
unaudited consolidated financial statements), (ii) increase its customer base
assuming Deregulation, (iii) extend the terms of the Pipeline Lease and the
Brownsville Lease, (iv) expand its product lines, (v) obtain additional letters
of credit financing, (vi) raise additional debt and/or equity capital, (vii)
collect unrecorded revenues from PMI that the Company believes it is due under
the Old Agreement and Proposed Agreement (see note I to the unaudited
consolidated financial statements) and (viii) relocate the Saltillo Terminal
Facility to another location in or near Saltillo, Coahuila, Mexico.
At July 31, 2001, the Company had net operating loss carryforwards for
federal income tax purposes of approximately $12.0 million. The ability to
utilize such net operating loss carryforwards may be significantly limited by
the application of the "change of ownership" rules under Section 382 of the
Internal Revenue Code.
29
The following is a summary of the Company's estimated minimum contractual
obligations and commercial obligations as of January 31, 2002. Where applicable
LPG prices are based on the January 2002 monthly average as published by Oil
Price Information Services.
PAYMENTS DUE BY PERIOD
(AMOUNTS IN MILLIONS)
----------------------------------------------------------------
Less than 1 - 3 4 - 5 After
Contractual Obligations Total 1 Year Years Years 5 Years
----------------------- ------------- ---------- --------- -------------- ----------
Long -Term Debt $ 3.8 $ 0.9 $ 2.9 $ - $ -
Operating Leases 15.8 1.4 2.8 2.8 8.8
LPG Purchase Obligations 406.9 85.1 100.2 95.0 126.6
------------- ---------- --------- -------------- ----------
Total Contractual Cash Obligations $ 426.5 $ 87.4 $ 105.9 $ 97.8 $ 135.4
============= ========== ========= ============== ==========
Obligation to Deliver LPG $ 11.1 $ 11.1 $ 0.0 $ 0.0 $ 0.0
------------- ---------- --------- -------------- ----------
Total Commercial Commitments $ 11.1 $ 11.1 $ 0.0 $ 0.0 $ 0.0
============= ========== ========= ============== ==========
STATEMENT BY MANAGEMENT CONCERNING REVIEW OF INTERIM INFORMATION BY INDEPENDENT
CERTIFIED PUBLIC ACCOUNTANTS.
The unaudited consolidated financial statements included in this filing on
Form 10-Q have been reviewed by Burton McCumber & Cortez, L.L.P., independent
certified public accountants, in accordance with established professional
standards and procedures for such review. The report of Burton McCumber &
Cortez, L.L.P. commenting on their review, accompanies the unaudited
consolidated financial statements included in Item 1 of Part I.
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK.
To the extent that the Company maintains quantities of LPG inventory in
excess of commitments for quantities of undelivered LPG and/or has commitments
for undelivered LPG in excess of inventory balances, the Company is exposed to
market risk related to the volatility of LPG prices. In the event that
inventory balances exceed commitments for undelivered LPG, during periods of
falling LPG prices, the Company may sell excess inventory to customers to reduce
the risk of these price fluctuations. In the event that commitments for
undelivered LPG exceed inventory balances, the Company may purchase contracts
which protect the Company against future price increases of LPG (see note G to
the unaudited consolidated financial statements).
30
PART II
ITEM 1. LEGAL PROCEEDINGS
See note G to the accompanying unaudited consolidated financial
statements and note L to the Company's Annual Report on Form 10-K for
the fiscal year ended July 31, 2001.
ITEM 2. CHANGES IN SECURITIES AND USE OF PROCEEDS
See note F to the accompanying unaudited consolidated financial
statements and notes J and K to the Company's Annual Report on Form
10-K for the fiscal year ended July 31, 2001, for information
concerning certain sales of Securities.
In connection with the issuances of securities discussed in notes E
and F to the accompanying unaudited consolidated financial statements,
the transactions were issued without registration under the Securities
Act of 1933, as amended, in reliance upon the exemptions from the
registration provisions thereof, contained in Section 4(2) thereof and
Rule 506 of Regulation D promulgated thereunder.
ITEM 3. DEFAULTS UPON SENIOR SECURITIES
None.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
The 2001 Annual Meeting of Stockholders of the Company (the "Meeting")
was held on December 14, 2001 at the Company's executive offices. The
record date for the Meeting was November 19, 2001. Proxies for the
meeting were solicited pursuant to Regulation 14A under the Exchange
Act. There was no solicitation in opposition to management's five
proposals, and all of the nominees for election as director were
elected. The results of the voting by the stockholders for each
proposal are presented below.
Proposal #1 Election of Directors
Name of Director Elected Votes For Votes Withheld
------------------------ ---------- --------------
Jerome B. Richter 11,065,592 165,130
Jorge R. Bracamontes 11,065,592 165,130
Ian T. Bothwell 11,065,592 165,130
Jerry L. Lockett 11,065,592 165,130
Charles Handly 11,065,592 165,130
Stewart J. Paperin 11,065,592 165,130
Harvey L. Benenson 11,065,592 165,130
Emmett M. Murphy 11,065,592 165,130
Proposal #2 Proposal to ratify the compensation of the outside
directors of the Company by the issuance of warrants of
the Company.
For Against Abstain
--- ------- -------
6,518,165 359,477 17,370
Proposal #3 Proposal to ratify the issuance of warrants of the
Company to certain executive officers of the Company as
bonus compensation.
For Against Abstain
--- ------- -------
6,492,465 377,077 25,470
31
Proposal #4 Proposal to ratify the adoption of a warrant plan for
the benefit of Company officers, directors, employees,
and consultants.
For Against Abstain
--- ------- -------
6,527,365 361,477 6,170
Proposal #5 Proposal to ratify the appointment of Burton McCumber
& Cortez, L.L.P. as the independent auditors of the
Company for the fiscal year ending July 31, 2002.
For Against Abstain
--- ------- -------
10,962,222 259,950 8,550
ITEM 5. OTHER INFORMATION
None.
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
a. Exhibits
THE FOLLOWING EXHIBITS ARE INCORPORATED HEREIN BY REFERENCE:
10.01 Form of Amendment to Promissory Note (the "Note") of Penn Octane
Corporation (the "Company") due December 15, 2001, and related
agreements and instruments dated November 28, 2001, between the
Company and the holders of the Notes.
b. Reports on Form 8-K
None.
32
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, this
report has been signed by the following persons on behalf of the registrant and
in the capacities and on the dates indicated.
PENN OCTANE CORPORATION
March 15, 2001 By: /s/Ian T. Bothwell
--------------------------
Ian T. Bothwell
Vice President, Treasurer,
Assistant Secretary,
Chief Financial Officer
33