As filed with the Securities and Exchange Commission on August 20, 2002
Registration No. 333-88314
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
AMENDMENT NO. 2
TO
FORM SB-2
REGISTRATION STATEMENT UNDER THE SECURITIES ACT OF 1933
NATURAL GAS SERVICES GROUP, INC.
--------------------------------
(Name of small business issuer in its charter)
<Table>
Colorado 3533 75-2811855
------------------------------ ------------------------------ ---------------------------------------------
(State or jurisdiction of (Primary Standard Industrial (I.R.S. Employer Identification No.)
incorporation or organization) Classification Code Number)
WAYNE L. VINSON
2911 SOUTH COUNTY ROAD 1260 2911 SOUTH COUNTY ROAD 1260
MIDLAND, TEXAS 79706 MIDLAND, TEXAS 79706
(915) 563-3974 (915) 563-3974
- ------------------------------------------------------ --------------------------------------------
(Address and telephone number of principal executive (Name, address and telephone number of
offices and address of principal place of business) agent for service)
WITH COPIES TO:
THOMAS S. SMITH, ESQ. SAMUEL E. WING, ESQ.
KEVIN J. KANOUFF, ESQ. JONES & KELLER, PC
DORSEY & WHITNEY LLP 1625 BROADWAY STREET, 16TH FLOOR
370 SEVENTEENTH STREET, SUITE 4700 DENVER, COLORADO 80202
DENVER, COLORADO 80202 (303) 573-1600
(303) 629-3400
</Table>
Approximate date of proposed sale to the public: As soon as practicable
following the date on which this Registration Statement becomes effective.
If this Form is filed to register additional securities for an offering
pursuant to Rule 462(b) under the Securities Act, check the following box and
list the Securities Act registration statement number of the earlier effective
registration statement for the same offering. [ ]
If this Form is a post-effective amendment filed pursuant to Rule
462(c) under the Securities Act, check the following box and list the Securities
Act registration statement number of the earlier effective registration
statement for the same offering. [ ]
If this Form is a post-effective amendment filed pursuant to Rule
462(d) under the Securities Act, check the following box and list the Securities
Act registration statement number of the earlier effective registration
statement for the same offering. [ ]
If delivery of the prospectus is expected to be made pursuant to Rule
434, please check the following box. [ ]
CALCULATION OF REGISTRATION FEE
<Table>
<Caption>
TITLE OF EACH PROPOSED MAXIMUM AMOUNT
CLASS OF SECURITIES AGGREGATE OFFERING OF
TO BE REGISTERED PRICE (1) REGISTRATION FEE
--------------------------------------------------- ------------------ ----------------
Common Stock (2) ............................ $ 10,910,625 $ 1,004
Warrants to purchase common stock (2) ....... $ 474,375 $ 44
Common stock underlying warrants............. $ 13,638,281 $ 1,255
Representative's options .................... $ 100 $ 1
Common stock (3) .......................... $ 1,185,938 $ 110
Warrants to purchase common stock (3) ..... $ 51,563 $ 5
Common stock underlying warrants .......... $ 1,482,422 $ 137
------------ --------
Total (4) ......................................... $ 27,743,304 $ 2,556*
------------ --------
</Table>
(1) Estimated pursuant to Rule 457(o) under the Securities Act of 1933
solely for the purpose of calculating the registration fee.
(2) Includes shares of common stock and warrants the underwriters have the
option to purchase from us to cover overallotments, if any.
(3) Issuable upon exercise of the representative's options to purchase
common stock and warrants.
(4) In accordance with Rule 416 under the Securities Act of 1933, a
presently indeterminable number of shares of common stock are
registered hereunder which may be issued in the event provisions
preventing dilution become operative, as provided in the
representative's warrant for the purchase of common stock. No
additional registration fee has been paid for these shares of common
stock.
* Previously paid.
THE REGISTRANT HEREBY AMENDS THIS REGISTRATION STATEMENT ON SUCH DATE
OR DATES AS MAY BE NECESSARY TO DELAY ITS EFFECTIVE DATE UNTIL THE REGISTRANT
SHALL FILE A FURTHER AMENDMENT WHICH SPECIFICALLY STATES THAT THIS REGISTRATION
STATEMENT SHALL THEREAFTER BECOME EFFECTIVE IN ACCORDANCE WITH SECTION 8(a) OF
THE SECURITIES ACT OF 1933 OR UNTIL THE REGISTRATION STATEMENT SHALL BECOME
EFFECTIVE ON SUCH DATE AS THE SECURITIES AND EXCHANGE COMMISSION, ACTING
PURSUANT TO SAID SECTION 8(a), MAY DETERMINE.
ii
SUBJECT TO COMPLETION, DATED AUGUST 20, 2002
1,650,000 SHARES OF COMMON STOCK
AND
1,650,000 WARRANTS
NATURAL GAS SERVICES GROUP, INC.
[LOGO]
This is an initial public offering of our common stock and warrants. We
expect that the public offering price of the common stock will be between $5.00
and $5.75 per share and that the public offering price of the warrants will be
$0.25 per warrant. Each person who purchases securities in this offering must
purchase the same number of shares of common stock and warrants.
Subject to the completion of this offering, The American Stock Exchange
has approved our application to have our common stock and warrants included for
quotation on The American Stock Exchange under the symbols "NGS" and "NGS.WS."
The common stock and warrants will trade separately in any market that might
develop.
INVESTING IN THE COMMON STOCK AND WARRANTS INVOLVES CERTAIN RISKS. SEE
"RISK FACTORS" BEGINNING ON PAGE 8.
<Table>
<Caption>
PER SHARE PER WARRANT TOTAL
--------- ----------- -----
Public offering prices $ $0.25 $
------- -------
Underwriting discounts $ $0.25 $
------- -------
Proceeds to us, before expenses $ $0.25 $
------- -------
</Table>
The underwriters have options, for 60 days from the date of this
prospectus, to purchase up to an additional 247,500 shares of common stock, to
purchase up to an additional 247,500 warrants, or to purchase both from us, to
cover over-allotments, if any.
NEITHER THE SECURITIES AND EXCHANGE COMMISSION NOR ANY STATE SECURITIES
COMMISSION HAS APPROVED OR DISAPPROVED OF THESE SECURITIES OR DETERMINED IF THIS
PROSPECTUS IS TRUTHFUL OR COMPLETE. ANY REPRESENTATION TO THE CONTRARY IS A
CRIMINAL OFFENSE.
The underwriters expect to deliver the shares of common stock and
warrants to purchasers on ________________, 2002.
NEIDIGER, TUCKER, BRUNER, INC.
THE DATE OF THIS PROSPECTUS IS , 2002.
-----------
THE INFORMATION IN THIS PRELIMINARY PROSPECTUS IS NOT COMPLETE AND MAY BE
CHANGED. WE MAY NOT SELL THE SECURITIES UNTIL THE REGISTRATION STATEMENT FILED
WITH THE SECURITIES AND EXCHANGE COMMISSION IS EFFECTIVE. THIS PROSPECTUS IS NOT
AN OFFER TO SELL THE SECURITIES AND IT IS NOT SOLICITING AN OFFER TO BUY THESE
SECURITIES IN ANY STATE WHERE THE OFFER OR SALE IS NOT PERMITTED.
There will be four pictures
on the inside front cover page of
the Prospectus
Picture of a trailer mounted flare system Picture of a production flare system
labeled, "TRAILER MOUNTED FLARE SYSTEM" labeled, "PRODUCTION FLARE"
Picture of a natural gas compressor Picture of a natural gas compressor
labeled, "WELLMAKER GTA 8.3" labeled, "WELLMAKER GS-10"
2
PROSPECTUS SUMMARY
This summary highlights information contained elsewhere in this
prospectus. This summary does not contain all of the information that you should
consider before investing in the common stock and warrants.
NATURAL GAS SERVICES GROUP, INC.
We provide equipment and services to the natural gas and oil industry.
We manufacture, fabricate, sell and lease natural gas compressors that enhance
the production of oil and gas wells and we provide maintenance services for
those compressors. We define a natural gas compressor as a mechanical device
with one basic goal - to deliver gas at a pressure higher than that originally
existing. It may be powered by a natural gas burning engine or an electric motor
to accommodate different applications. Gas compression is undertaken to
transport and distribute natural gas to pipelines. Pipeline pressures vary and
with the addition of new wells to the pipeline, the need for compression
increases. We also manufacture and sell flare tips and ignition systems for oil
and gas plant and production facilities. We define a flare tip as a burner on
the upper end of a flare stack that is designed to combust waste gases to assure
a clean environment. An ignition system is a pilot light or a spark generator
that assures continuous ignition of the waste gases going through the burner in
the flare tip.
We primarily lease natural gas compressors. As of June 30, 2002, we had
254 natural gas compressors under lease to third parties.
We also fabricate natural gas compressors for our customers, designing
compressors to meet unique specifications dictated by well pressures, production
characteristics and particular applications for which compression is sought.
Although natural gas compressors generally do not suffer significant
technological obsolescence, they do require routine maintenance and periodic
refurbishing to prolong their useful life. As of June 30, 2002, we had written
maintenance agreements with third parties relating to 79 compressors. The
written maintenance agreements have terms that expire at December 31, 2005.
During the year ended December 31, 2001, and during the six months ended June
30, 2002, we received revenue of approximately $704,000 (approximately 8% of our
total consolidated revenue) and $530,000 (approximately 10% of our total
consolidated revenue), respectively, from maintenance agreements. In addition to
the written maintenance agreements, we provide maintenance as a part of the
rental of our compressor leases.
We have established an exchange and rebuild program to attempt to help
minimize costs and maximize revenue for our customers. Under the program, we
work with maintenance and operating personnel of a customer to identify
equipment for exchange. When we receive a compressor for exchange because of a
maintenance problem, we deliver to our customer a replacement compressor at full
price. We then rebuild the exchange compressor and credit our customer an amount
based on the value of the rebuilt compressor. During the year ended December 31,
2001, and during the six months ended June 30, 2002, we received revenue of
approximately $402,000 (approximately 5% of our total consolidated revenue) and
$314,000 (approximately 6% of our total consolidated revenue), respectively,
which represents the difference between the full price of the replacement
compressors and the values of the rebuilt compressors credited to our customers.
We also offer a retrofitting service by repackaging a customer's
compressor with a compressor that meets our customer's changed conditions.
We design, manufacture, install and service flare stacks and related
ignition and control devices for onshore and offshore burning of gas compounds
such as hydrogen sulfide, carbon dioxide, natural gas and liquefied petroleum
gases. We produce two ignition systems for varied applications: (a) a standing
jet-like pipe for minimal fuel consumption, with a patented electronic igniter;
and (b) an electronic
3
sparked ignition system. During the year ended December 31, 2001, and during the
six months ended June 30, 2002, we sold 54 and 10, respectively, flare systems
to our customers generating approximately $703,000 (approximately 8% of our
total consolidated revenue) and $275,000 (approximately 10% of our total
consolidated revenue) in revenue, respectively.
We were incorporated on December 17, 1998 and initially operated as a
holding company of Flare King, Inc., Hi-Tech Compressor Company, L.C., NGE
Leasing, Inc. and CNG Engines Company. In July 2000, Flare King and Hi-Tech
merged and now operate as Rotary Gas Systems, Inc. Effective March 31, 2000, we
sold CNG.
On March 29, 2001, we acquired, through our subsidiary, Great Lakes
Compression, Inc., all of the compression related assets of Dominion Michigan
Petroleum Services, Inc., an unaffiliated company that is a subsidiary of
Dominion Resources, Inc. and that was in the business of manufacturing,
fabricating, selling, leasing and maintaining natural gas compressors. The total
purchase price was $8,000,000. We paid Dominion Michigan $1,000,000 cash and are
obligated to pay Dominion Michigan an additional approximately $7,000,000 in
March, 2003. The deferred purchase price bears interest at a rate of nine
percent per annum, which is payable on the first business day of each month. The
deferred purchase price is secured by all of the assets we acquired and the
pledge of all of our stock ownership in Great Lakes Compression. We will utilize
approximately $3,500,000 of the net proceeds from this offering to reduce our
debt to Dominion Michigan. Our bank has committed to loan us $3,500,000 which we
will use to pay the remainder of our debt to Dominion Michigan The bank loan
will be amortized over a five-year period.
As a part of the transaction an affiliate of Dominion Michigan
committed to purchase or to enter into five year leases for compressors totaling
five thousand horsepower. The purchases or leases are to be made by December 31,
2005.
We maintain our principal office at 2911 South County Road 1260,
Midland, Texas 79706 and our telephone number is (915) 563-3974.
OUR OPPORTUNITY
The current market for gas compressors indicates that we can grow our
fleet at approximately 10 gas compressors per month for the foreseeable future.
This estimate is based solely on demand by our current customers in the states
of Colorado, Kansas, Louisiana, Michigan, New Mexico, Oklahoma and Texas, the
geographic areas where we currently operate. According to the Energy Information
Administration, there are over 166,000 producing gas and gas condensate wells in
these geographic areas, which indicates that we can acquire more customers in
our current geographic areas. There are also many other geographic areas that
could be added to increase our marketing area. We believe that our reputation
for quality service and equipment will be instrumental in enabling us to obtain
these additional customers.
OPERATING PHILOSOPHY AND GROWTH STRATEGY
Our operating philosophy is to increase shareholders' equity through
profitable growth, primarily through internal growth of our ongoing operations.
Our management believes that, with the proceeds from this offering, we can
continue to accelerate internal growth by more actively pursuing leasing
programs for compressors. When opportunities present themselves, we also may
grow through acquisitions. However, our growth through operations and
acquisitions will be limited unless we are able to obtain capital in addition to
proceeds from this offering.
4
THE OFFERING
<Table>
Securities offered.............................. 1,650,000 shares of our common stock and 1,650,000
warrants to purchase 1,650,000 shares of our common
stock. In this offering, an equal number of shares and
warrants must be purchased.
Warrant attributes.............................. Each warrant is exercisable to purchase one share of
our common stock at an exercise price of $________ per
share (125% of the public offering price of the common
stock) during the four years ending _______, 2006,
subject to our redemption rights.
Shares of common stock to be
outstanding after the offering......... 5,007,632 shares.
Use of Proceeds................................. We plan to use the net proceeds to reduce indebtedness,
to pay for the manufacture and fabrication of gas
compressors to be placed in our rental fleet for future
leasing and for working capital.
Proposed American Stock Exchange Symbols........ NGS and NGS.WS
</Table>
Unless the context otherwise requires, use of the terms "us," "we,"
"our," and similar possessive terms in this prospectus include our wholly owned
subsidiaries.
Unless otherwise stated, all information in this prospectus assumes no
exercise of the over-allotment options by the underwriters to purchase up to an
additional 247,500 shares of common stock, purchase up to an additional 247,500
warrants, or to purchase both from us.
5
SUMMARY CONSOLIDATED FINANCIAL DATA
The following table summarizes our financial data. The consolidated
balance sheet data includes a column entitled "As Adjusted" that reflects the
sale of 1,650,000 shares of common stock and warrants at an assumed combined
offering price of $6.00, net of a combined underwriting discount of $.54 and
estimated total offering expenses of $520,000. You should refer to the
consolidated financial statements included elsewhere in this prospectus for a
more complete description of our financial condition and results of operations.
CONSOLIDATED STATEMENT OF
INCOME AND OTHER DATA (1):
<Table>
<Caption>
FOR THE SIX MONTHS ENDED
FOR THE YEAR ENDED DECEMBER 31, JUNE 30,
------------------------------------------ --------------------------
1999 2000 2001 2001 2002
---------- ---------- ---------- ---------- ----------
(in thousands except per share data)
Revenue ................................ $ 2,629 $ 3,652 $ 8,762 $ 3,898 $ 5,120
Total costs of revenue ................. 1,194 1,535 4,942 2,115 2,806
---------- ---------- ---------- ---------- ----------
Gross profit ........................... 1,435 2,117 3,820 1,783 2,314
Total operating expenses ............... 1,070 1,594 2,621 1,185 1,382
---------- ---------- ---------- ---------- ----------
Income from operations ................. 365 523 1,199 598 932
Total other income (expense) ........... (26) (159) (503) (223) (313)
---------- ---------- ---------- ---------- ----------
Income from continuing operations
before income taxes ............... 339 364 696 375 619
Total income tax expense ............... 98 147 314 203 280
---------- ---------- ---------- ---------- ----------
Income before discontinued operations .. 241 217 382 172 339
Discontinued operations (2) ............ (212) 692 -- -- --
---------- ---------- ---------- ---------- ----------
Net income ............................. 29 909 382 172 339
---------- ---------- ---------- ---------- ----------
Preferred dividends .................... -- -- 11 -- 76
---------- ---------- ---------- ---------- ----------
Net income available to common
shareholders ...................... $ 29 $ 909 $ 371 $ 172 $ 263
========== ========== ========== ========== ==========
PER COMMON SHARE DATA:
Basic ............................. $ .01 $ .27 $ .11 $ .05 $ .08
========== ========== ========== ========== ==========
Diluted ........................... $ .01 $ .27 $ .11 $ .05 $ .06
========== ========== ========== ========== ==========
WEIGHTED AVERAGE SHARES
OF COMMON STOCK OUTSTANDING
Basic ............................. 3,357,632 3,357,632 3,357,632 3,357,632 3,357,632
Diluted ........................... 3,357,632 3,357,632 3,483,987 3,357,632 4,163,710
</Table>
CONSOLIDATED BALANCE SHEET DATA (1):
<Table>
<Caption>
DECEMBER 31, 2001 JUNE 30, 2002
----------------- -----------------------------
ACTUAL ACTUAL AS ADJUSTED
----------------- ------- -----------
(in thousands)
Current assets............................ $ 3,248 $3,535 $ 8,524
Total assets.............................. 18,810 21,070 26,059
Current liabilities....................... 2,049 10,900 7,400
Shareholders' equity...................... 5,781 6,099 14,588
</Table>
6
CONSOLIDATED STATEMENT OF
CASH FLOWS:
<Table>
<Caption>
FOR THE SIX MONTHS
FOR THE YEAR ENDED DECEMBER 31, ENDED JUNE 30,
------------------------------------ ----------------------
1999 2000 2001 2001 2002
-------- -------- -------- -------- --------
(in thousands)
Cash flows provided by (used in)
operating activities ................... $ 307 $ (253) $ 840 $ 147 $ 1,278
Cash flow used in investment
activities ............................. (1,116) (1,836) (3,087) (1,833) (2,131)
Cash flow provided by financing
activities ............................. 2,248 698 2,611 1,556 689
OTHER DATA
EBITDA (3) ............................. $ 507 $ 1,619 $ 2,523 $ 1,102 $ 1,679
</Table>
INFORMATION PERTAINING TO COMPRESSORS LEASED
<Table>
<Caption>
COMPRESSORS LEASED
----------------------------
1999 2000 2001
------ ------ ------
Leased at beginning of year ....... 14 41 75
Leased during year ................ 27 34 152
Returned during year .............. 0 0 20
Leased at year end ................ 41 75 207
</Table>
- ----------
(1) The financial information reflects the acquisition by us of the compression
related assets of Dominion Michigan on March 29, 2001. The purchase price was
$8,000,000 of which $1,000,000 was paid at closing and the net balance was
financed by Dominion Michigan. The operations and assets of Dominion Michigan
that we acquired are included in our consolidated financial statements
commencing on April 1, 2001.
(2) On March 31, 2000, we disposed of CNG, a former subsidiary, in a transaction
whereby we transferred all of the common stock of CNG to the former owner in
exchange for all of the former owner's shares of our outstanding common stock
(692,368 shares) and a note receivable for $350,000. During the year ended
December 31, 2000, the former owner defaulted on all payments due under the note
receivable, and the entire amount has been reserved and reflected as a reduction
in the gain from discontinued operations. The sale resulted in a non-taxable
gain from discontinued operations of approximately $944,000. Pre-tax loss from
discontinued operations of approximately $232,000 in the summary consolidated
statement of income data reflects the net loss from operations of CNG from
January 1, 2000 through the date of disposal. Total revenue of CNG was
approximately $3,915,000 in 1999 and approximately $828,000 from January 1, 2000
through the date of disposal.
(3) The row entitled "EBITDA" reflects net income or loss before interest,
taxes, depreciation and amortization. EBITDA is a measure used by analysts and
investors as an indicator of operating cash flow since it excludes the impact of
movements in working capital items, non-cash charges and financing costs.
However, EBITDA is not a measure of financial performance under generally
accepted accounting principles and should not be considered a substitute for
other financial measures of performance. EBITDA as calculated by us may not be
comparable to EBITDA as calculated and reported by other companies.
7
RISK FACTORS
You should carefully consider the following risks before you decide to
buy the common stock and warrants. The risks and uncertainties described below
are not the only ones facing us. Additional risks and uncertainties that are not
presently known to us or that we currently deem immaterial may also impair our
business.
If any of the events described in the following risks actually occur,
our business, financial condition and results of operations could be materially
adversely affected. In such case, the trading prices of our common stock or
warrants could decline and you could lose all or part of your investment.
OUR CURRENT DEBT IS LARGE AND MAY NEGATIVELY IMPACT OUR CURRENT AND FUTURE
FINANCIAL STABILITY.
As of June 30, 2002, we had an aggregate of approximately $12,220,000
of outstanding indebtedness not including accounts payable and accrued expenses
of approximately $1,226,000. As a result of our significant indebtedness, we
might not have the ability to incur any substantial additional indebtedness. The
level of our indebtedness could have several important effects on our future
operations, including:
o our ability to obtain additional financing for working capital,
acquisitions, capital expenditures and other purposes may be
limited;
o a significant portion of our cash flow from operations may be
dedicated to the payment of principal and interest on our debt,
thereby reducing funds available for other purposes; and
o our significant leverage could make us more vulnerable to economic
downturns.
IF WE ARE UNABLE TO SERVICE OUR DEBT, WE WILL LIKELY BE FORCED TO TAKE REMEDIAL
STEPS THAT ARE CONTRARY TO OUR BUSINESS PLAN.
As of June 30, 2002, our debt service requirements on a monthly,
quarterly and annual basis were $138,164, $414,492 and $1,657,968, respectively.
In addition, after applying the proceeds from this offering and after borrowing
from our bank the remaining approximately $3,450,000 of debt that we still will
owe Dominion Michigan, it is possible that our business will not generate
sufficient cash flow from operations to meet our debt service requirements and
the payment of principal when due. If this were to occur, we may be forced to:
o sell assets at disadvantageous prices;
o obtain additional financing; or
o refinance all or a portion of our indebtedness on terms that may be
very unfavorable to us.
OUR CURRENT BANK LOAN CONTAINS, AND OUR PROPOSED BANK LOAN WILL CONTAIN,
COVENANTS THAT LIMIT OUR OPERATING AND FINANCIAL FLEXIBILITY AND, IF BREACHED,
COULD EXPOSE US TO SEVERE REMEDIAL PROVISIONS.
Under the terms of the bank loans, we must:
o comply with a debt to asset ratio;
o maintain minimum levels of tangible net worth;
o not exceed specified levels of debt;
o comply with a cash flow to fixed charges ratio;
o comply with a debt to net worth ratio; and
o not incur additional debt over a specified amount.
8
Our ability to meet the financial ratios and tests under our current
bank loan and proposed bank loan can be affected by events beyond our control,
and we may not be able to satisfy those ratios and tests. A breach under either
could permit the bank to accelerate the debt so that it is immediately due and
payable. No further borrowings would be available under the credit facility. If
we were unable to repay the debt, the bank could proceed against our assets.
APPROXIMATELY 78% OF OUR COMPRESSOR LEASES ARE LEASED FOR TERMS OF SIX MONTHS OR
LESS THAT, IF TERMINATED, WOULD ADVERSELY IMPACT OUR REVENUE AND OUR ABILITY TO
RECOVER OUR INITIAL EQUIPMENT COSTS.
Approximately 78% of our compressor leases are for terms of up to six
months. There is a possibility that these leases could be terminated by lessees
within short periods of time and that we may not be able to recover the cost of
the compressor for which a lease is terminated.
THE ANTICIPATED REVENUE FROM THE AFFILIATE OF DOMINION MICHIGAN CANNOT BE
GUARANTEED.
In connection with our acquisition of the compression related assets of
Dominion Michigan, an affiliate of Dominion Michigan committed to purchase
compressors from us or enter into five year leases of compressors with us
totaling five-thousand horsepower. If, for any reason, the affiliate does not
fulfill this obligation to any material extent, our cash flow will be
significantly reduced and we may not be able to pay the principal or interest on
our debt as it becomes due.
WE ARE DEPENDENT ON A FEW SUPPLIERS FOR SOME OF OUR COMPRESSOR COMPONENTS AND
THE LOSS OF ONE OF THESE SUPPLIERS COULD CAUSE A DELAY IN THE MANUFACTURING OF
OUR COMPRESSORS AND REDUCE OUR REVENUE.
We currently obtain approximately 35% of our compressor components from
two suppliers. We order from these suppliers as needed and we have no long-term
contracts with either supplier. If either of these suppliers should curtail its
operations or be unable to meet our needs, we would encounter delays in
supplying our customers with compressors until an alternative supplier, if any,
could be found. Such delays in our manufacturing process could reduce our
revenue and negatively impact our relationships with customers.
DECREASED OIL AND GAS INDUSTRY EXPENDITURE LEVELS WOULD ADVERSELY AFFECT OUR
REVENUE.
Our revenue is derived from expenditures in the oil and gas industry
which, in turn, are based on budgets to explore for, develop and produce oil and
natural gas. If these expenditures decline, our revenue will suffer. The
industry's willingness to explore, develop and produce depends largely upon the
prevailing view of future oil and gas prices. Many factors affect the supply and
demand for oil and gas and, therefore, influence product prices including:
o the level of oil and gas production;
o the levels of oil and gas inventories;
o the expected cost of developing new reserves;
o the cost of producing oil and gas;
o the level of drilling activity;
o inclement weather;
o worldwide economic activity;
o regulatory and other federal and state requirements in the United
States;
o the ability of the Organization of Petroleum Exporting Countries to
set and maintain production levels and prices for oil;
9
o terrorist activities in the United States and elsewhere;
o the cost of developing alternate energy sources;
o environmental regulation; and
o tax policies.
If the demand for oil and gas decreases, then demand for our
compressors likely will decrease.
THE INTENSE COMPETITION IN OUR INDUSTRY COULD RESULT IN REDUCED PROFITABILITY
AND LOSS OF MARKET SHARE FOR US.
We sell or lease our products and sell our services in competitive
markets. In most of our business segments, we compete with the oil and gas
industry's largest equipment and service providers who have greater name
recognition than we do. These companies also have substantially greater
financial resources, larger operations and greater budgets for marketing,
research and development than we do. They may be better able to compete in
making equipment available quickly and more efficiently, meeting delivery
schedules or reducing prices. As a result, we could lose customers and market
share to those competitors. These companies may also be better positioned than
us to successfully endure down turns in the oil and gas industry.
Our operations may be adversely affected if our current competitors or
new market entrants introduce new products or services with better prices,
features, performance or other competitive characteristics than our products and
services. Competitive pressures or other factors also may result in significant
price competition that could harm our revenue and our business.
WE MIGHT BE UNABLE TO EMPLOY ADEQUATE TECHNICAL PERSONNEL WHICH COULD HAMPER OUR
PLANS FOR EXPANSION OR INCREASE OUR COSTS.
Many of the compressors that we sell or lease are technically complex
and often must perform in harsh conditions. We believe that our success depends
upon our ability to employ and retain a sufficient number of technical personnel
who have the ability to design, utilize, enhance and maintain these compressors.
Our ability to expand our operations depends in part on our ability to increase
our skilled labor force. The demand for skilled workers is high and supply is
limited. A significant increase in the wages paid by competing employers could
result in a reduction of our skilled labor force or cause an increase in the
wage rates that we must pay or both. If either of these events were to occur,
our cost structure could increase and our operations and growth potential could
be impaired.
IF WE DO NOT DEVELOP, PRODUCE AND COMMERCIALIZE NEW COMPETITIVE TECHNOLOGIES AND
PRODUCTS, OUR REVENUE MAY DECLINE.
The markets for natural gas compressor products and services and for
flare systems, ignition systems and components for plant and production
facilities are characterized by continual technological developments. As a
result, substantial improvements in the scope and quality of product function
and performance can occur over a short period of time. If we are not able to
develop commercially competitive products in a timely manner in response to
changes in technology, our business and revenue may be adversely affected.
We may encounter financial constraints or technical or other
difficulties that could delay introduction of new products and services in the
future. Our competitors may introduce new products before we do and achieve a
competitive advantage.
Additionally, the time and expense invested in product development may
not result in commercial applications that provide revenue. We could be required
to write off our entire investment in a new product that does not reach
commercial viability. Moreover, we may experience operating losses after new
products
10
are introduced and commercialized because of high start-up costs, unexpected
manufacturing costs or problems, or lack of demand.
WE ARE SUBJECT TO EXTENSIVE ENVIRONMENTAL LAWS AND REGULATIONS THAT COULD
REQUIRE US TO TAKE COSTLY COMPLIANCE ACTIONS THAT COULD HARM OUR FINANCIAL
CONDITION.
Our manufacturing and maintenance operations are significantly affected
by stringent and complex federal, state and local laws and regulations governing
the discharge of substances into the environment or otherwise relating to
environmental protection. In these operations, we generate and manage hazardous
wastes such as solvents, thinner, waste paint, waste oil, washdown wastes, and
sandblast material. We attempt to use generally accepted operating and disposal
practices and, with respect to acquisitions, will attempt to identify and assess
whether there is any environmental risk before completing an acquisition. Based
on the nature of the industry, however, hydrocarbons or other wastes may have
been disposed of or released on or under properties owned, leased, or operated
by us or on or under other locations where such wastes have been taken for
disposal. The waste on these properties may be subject to federal or state
environmental laws that could require us to remove the wastes or remediate sites
where they have been released. We could be exposed to liability for cleanup
costs, natural resource and other damages as a result of our conduct or the
conduct of, or conditions caused by, prior operators or other third parties.
Environmental laws and regulations have changed in the past, and they are likely
to change in the future. If existing regulatory requirements or enforcement
policies change, we may be required to make significant unanticipated capital
and operating expenditures.
Any failure by us to comply with applicable environmental laws and
regulations may result in governmental authorities taking actions against our
business that could harm our operations and financial condition, including the:
o issuance of administrative, civil and criminal penalties;
o denial or revocation of permits or other authorizations;
o reduction or cessation in operations; and
o performance of site investigatory, remedial or other corrective
actions.
WE COULD BE SUBJECT TO SUBSTANTIAL LIABILITY CLAIMS THAT COULD HARM OUR
FINANCIAL CONDITION.
Our products are used in hazardous drilling and production applications
where an accident or a failure of a product can cause personal injury, loss of
life, damage to property, equipment or the environment, or suspension of
operations.
While we maintain insurance coverage, we face the following risks under
our insurance coverage:
o we may not be able to continue to obtain insurance on commercially
reasonable terms;
o we may be faced with types of liabilities that will not be covered
by our insurance, such as damages from significant product
liabilities and from environmental contamination;
o the dollar amount of any liabilities may exceed our policy limits;
and
o we do not maintain coverage against the risk of interruption of our
business.
Any claims made under our policy will likely cause our premiums to
increase. Any future damages caused by our products or services that are not
covered by insurance, are in excess of policy limits or are subject to
substantial deductibles, would reduce our earnings and our cash available for
operations.
LIABILITY TO CUSTOMERS UNDER WARRANTIES MAY MATERIALLY AND ADVERSELY AFFECT OUR
EARNINGS.
11
We provide warranties as to the proper operation and conformance to
specifications of the equipment we manufacture. Our equipment is complex and
often deployed in harsh environments. Failure of this equipment to operate
properly or to meet specifications may increase our costs by requiring
additional engineering resources and services, replacement of parts and
equipment or monetary reimbursement to a customer. We have in the past received
warranty claims and we expect to continue to receive them in the future. To the
extent that we incur substantial warranty claims in any period, our reputation,
our ability to obtain future business and our earnings could be materially and
adversely affected.
LOSS OF KEY MEMBERS OF OUR MANAGEMENT COULD ADVERSELY AFFECT OUR BUSINESS WHILE
WE ATTEMPT TO FIND THEIR REPLACEMENTS.
We depend on the continued employment and performance of Wayne L.
Vinson, our President and the President of Rotary Gas Systems, Scott W.
Sparkman, our Secretary and the Executive Vice President of NGE Leasing, Alan P.
Kurus, our Vice President-Sales and Marketing, Earl R. Wait, our Treasurer and
Chief Financial Officer, and other key members of our management. We currently
have employment agreements only with Wayne L. Vinson and Earl R. Wait. If any of
our key managers resigns or becomes unable to continue in his present role and
is not adequately replaced, our business operations could be materially
adversely affected. We do not maintain any "key man" life insurance for any of
our officers, except for policies totaling $1,500,000 on the life of Wayne L.
Vinson. We are the beneficiary of these policies.
WE ARE RELIANT ON OUR CURRENT CUSTOMERS FOR FUTURE CASH FLOWS AND THE LOSS OF
ONE OR MORE OF OUR CURRENT CUSTOMERS COULD ADVERSELY AFFECT OUR RESULTS OF
OPERATIONS.
Our business is dependent not only on securing new customers but also
on maintaining current customers. Dominion Exploration & Production, Inc., an
affiliate of Dominion Resources, Inc., accounted for approximately 37% and
approximately 26% of our consolidated revenue during the six months ended June
30, 2002, and the year ended December 31, 2001, respectively. The loss of one or
more of our significant customers would have an adverse effect on our revenue
and results of operations.
PROVISIONS CONTAINED IN OUR GOVERNING DOCUMENTS COULD HINDER A CHANGE IN OUR
CONTROL.
Our articles of incorporation and bylaws contain provisions that may
discourage acquisition bids and may limit the price investors are willing to pay
for our common stock and warrants. Our articles of incorporation and bylaws
provide that:
o directors will be elected for three-year terms, with approximately
one-third of the board of directors standing for election each year;
o cumulative voting is not allowed which limits the ability of
minority shareholders to elect any directors;
o the unanimous vote of the board of directors or the affirmative vote
of the holders of not less than 80% of the votes entitled to be cast
by the holders of all shares entitled to vote in the election of
directors is required to change the size of the board of directors;
and
o directors may only be removed for cause by holders of not less than
80% of the votes entitled to be cast on the matter.
Our board of directors has the authority to issue up to five million
shares of preferred stock. The board of directors can fix the terms of the
preferred stock without any action on the part of our shareholders. The issuance
of shares of preferred stock may delay or prevent a change in control
transaction. In addition, preferred stock could be used in connection with the
board of director's adoption of a shareholders' rights plan (also known as a
poison pill), which would make it much more difficult to effect a change in
control of our company through acquiring or controlling blocks of stock. Also,
after completion of this offering, our directors
12
and officers as a group will continue to beneficially own stock. Although this
is not a majority of our stock, it confers substantial voting power in the
election of directors and management of our company. This would make it
difficult for other minority shareholders, such as the investors in this
offering, to effect a change in control or otherwise extend any significant
control over the management of our company. This may adversely affect the market
price and interfere with the voting and other rights of our common stock.
YOU MAY BE UNABLE TO EXERCISE THE WARRANTS IF WE ARE UNABLE TO QUALIFY OUR
SECURITIES UNDER APPLICABLE SECURITIES LAWS OR IF WE REDEEM YOUR WARRANTS.
You will initially own one warrant for each share of common stock
purchased in this offering. You may purchase one share of common stock through
the exercise of one warrant on payment of the $___ exercise price. You may only
exercise your warrants if a registration statement relating to the common stock
underlying the warrants is then in effect and we have complied with applicable
state securities laws. There is a risk that we may be unsuccessful in
maintaining a current registration statement covering the common stock
underlying the warrants. We may not have sufficient funds or may not be able to
obtain the financial statements necessary to maintain a current registration
statement covering the common stock underlying the warrants. As a result, you
may be unable to exercise the warrants for this or other reasons. We may also
redeem your warrants under certain circumstances. Your warrants may be exercised
during the notice period prior to the date of redemption. If you do not exercise
your warrants prior to the redemption date, you will only be entitled to receive
the redemption price of $0.25 per warrant.
IF OUR COMMON STOCK DOES NOT TRADE FOR A CERTAIN PRICE PER SHARE AFTER SIX
MONTHS FROM THE CLOSING OF THIS OFFERING, OUR PREFERRED STOCK WILL NOT
AUTOMATICALLY CONVERT INTO OUR COMMON STOCK.
Our currently outstanding 381,654 shares of 10% Convertible Series A
Preferred Stock will automatically convert into shares of our common stock if,
after six months from the closing of this offering, our common stock trades at
or above $6.50 per share for 20 consecutive trading days. Until such event
occurs, we will be required to:
o continue to pay the preferred stock dividend;
o permit the preferred stock holders to vote as a separate class where
required by Colorado law; and
o pay the holders of preferred stock a preference upon our
liquidation.
The same consequences would likely result from any additional preferred
stock that our board of directors may authorize for issuance in the future, as
well as additional rights and preferences that could be included in the terms of
the preferred stock.
SALES OF LARGE NUMBERS OF SHARES COULD ADVERSELY AFFECT THE PRICE OF OUR COMMON
STOCK.
Substantial sales of our common stock, including shares issued upon the
exercise of outstanding options and warrants, in the public market following
this offering, or the perception that these sales could occur, may have a
depressive effect on the market price of our common stock and could impair our
ability to raise capital or make acquisitions through the issuance of equity
securities. As of June 30, 2002, there were 3,357,632 shares of our common stock
outstanding of which 2,710,132 shares are subject to a 12 month lock-up
agreement as further described below.
Of these shares, 1,367,691 are freely tradable without restriction or
further registration under the securities laws and 1,989,941 shares are held by
directors, officers and other of our affiliates. The shares held by our
directors, officers and other affiliates are subject to the resale limitations
of Rule 144 described below. Further, our officers, directors, other affiliates,
beneficial holders of 5% or more of our outstanding shares of common stock and
three other individuals have agreed, pursuant to lock-up agreements relating to
the transfer of shares of our common stock, that they will not sell, transfer,
hypothecate or convey any of our 2,710,132 shares of common stock they now own
or any of our shares of common stock that underlie options, warrants or our 10%
Series A Preferred Stock they now own, by registration or otherwise, for a
period of 12 months from the date of this prospectus without the prior written
consent of the representative of the underwriters. However, after the lock-up
expires, such persons will be able to sell their shares as the securities laws
and market conditions permit. Each holder of our 10% Convertible Series A
Preferred Stock has agreed not to sell it or the 381,654 shares of our common
stock into which all of our outstanding 10% Convertible Series A Preferred Stock
is convertible for a period of 180 days after the closing date of this offering
without the prior written consent of the representative of the underwriters. All
shares of common stock sold in this offering will be freely tradable, unless
purchased by our affiliates.
13
permit. All shares of common stock sold in this offering will be freely
tradable, unless purchased by our affiliates.
In general, under Rule 144 adopted under the Securities Act, any person
that beneficially owns restricted securities for one year and any person deemed
to be an affiliate of our company is entitled to sell, within any three-month
period, a number of shares that does not exceed the greater of (1) 1% of the
then outstanding shares of common stock of our company or (2) the average weekly
trading volume in common stock during the four calendar weeks preceding such
sale. A person that is not an affiliate and has held restricted securities for
at least two years is entitled to sell such shares without any limitation.
WE WILL HAVE A COMPARATIVELY LOW NUMBER OF SHARES OF COMMON STOCK AND WARRANTS
OUTSTANDING AND, THEREFORE, OUR COMMON STOCK AND WARRANTS MAY SUFFER FROM
LIMITED LIQUIDITY AND THEIR PRICES WILL LIKELY BE VOLATILE AND THEIR VALUE MAY
BE ADVERSELY AFFECTED.
Because the number of freely transferable shares of our common stock
and number of our warrants will be low, the trading prices of our common stock
and warrants will likely be subject to significant price fluctuations and
limited liquidity. This may adversely affect the value of your investment. In
addition, our common stock and warrants could be subject to fluctuations in
response to variations in quarterly operating results, changes in management,
future announcements concerning us, general trends in the industry and other
events or factors as well as those described above.
OUTSTANDING DERIVATIVE SECURITIES MAY DILUTE THE VALUE OF YOUR INVESTMENT.
We have issued and outstanding options and warrants to acquire up to
916,270 shares of our common stock at exercise prices ranging from $2.00 to
$3.25 per share and a warrant to purchase 38,165 shares of our 10% Convertible
Series A Preferred Stock at $3.25 per share. Under the terms of the options and
warrants, the holders will have an opportunity to profit from a rise in the
market price of our common stock without assuming the risks of ownership. This
may have an adverse effect on the terms upon which we could obtain additional
capital. It should be expected that the holders of such options and warrants
will exercise them at a time when we would be able to issue stock at prices
higher than the exercise prices of the options and warrants.
WE MUST EVALUATE OUR INTANGIBLE ASSETS ANNUALLY FOR IMPAIRMENT.
Our intangible assets are recorded at cost less accumulated
amortization and consist of goodwill and patent costs. Through December 31,
2001, goodwill was amortized using the straight-line method over 15 years and
patent costs were amortized over 13 to 15 years.
In June 2001, the Financial Accounting Standards Board issued Statement
of Financial Accounting Standards No. 142, "Goodwill and Other Intangible
Assets." SFAS 142 provides that: 1) goodwill and intangible assets with
indefinite lives will no longer be amortized; 2) goodwill and intangible assets
with indefinite lives must be tested for impairment at least annually; and 3)
the amortization period for intangible assets with finite lives will no longer
be limited to forty years. In the event that we determine our intangible assets
with indefinite lives have been impaired, we must record a write-down of those
assets on our statement of operations during the period of impairment. Our
determination of impairment will be based on various factors, including any of
the following factors, if they materialize:
o significant underperformance relative to expected historical or
projected future operating results;
o significant changes in the manner of our use of the acquired assets
or the strategy for our overall business;
o significant negative industry or economic trends;
o significant decline in our stock price for a sustained period; and
o our market capitalization relative to net book value.
14
We adopted SFAS 142 as of January 1, 2002. Based on an independent
valuation in July 2002 of our reporting units with goodwill, we do not believe
that adoption of SFAS 142 will have a material adverse effect on us through at
least 2002. In the future it could result in impairments of our intangible
assets or goodwill. We expect to continue to amortize our intangible assets with
finite lives over the same time periods as previously used, and we will test our
intangible assets with indefinite lives for impairment at least once each year.
In addition, we are required to assess the consumptive life, or longevity, of
our intangible assets with finite lives and adjust their amortization periods
accordingly. Our net intangible assets were recorded on our balance sheet at
approximately $2,745,000 as of June 30, 2002, and we expect the carrying value
of net intangible assets will increase significantly if we acquire additional
businesses. Any impairments in future periods of those assets, or a reduction in
their consumptive lives, could materially and adversely affect our statement of
operations and financial position.
In August 2001, the FASB issued SFAS No. 144, "Accounting for the
Impairment or Disposal of Long-Lived Assets." SFAS 144 requires the recognition
of an impairment loss if the carrying amount of a long-lived asset is not
recoverable from its undiscounted cash flows and measures the impairment loss as
the difference between the carrying amount and fair value of the assets.
Although we do not believe that the requirements of SFAS 144 will have a
material adverse effect on us through 2002, it could in the future require
material write-downs of our long-lived assets.
15
CAUTIONARY STATEMENT ABOUT FORWARD-LOOKING STATEMENTS
This prospectus, including the sections entitled "Summary," "Risk
Factors," "Management's Discussion and Analysis of Financial Condition and
Results of Operations" and "Business," contains forward-looking statements.
These statements relate to future events or our future financial performance,
including our business strategy and product development plans, and involve known
and unknown risks and uncertainties. These risks and other factors include those
listed under "Risk Factors" and elsewhere in this prospectus. These factors may
cause our actual results, levels of activity, performance or achievements to be
materially different from those expressed or implied by the forward-looking
statements. In some cases, you can identify forward-looking statements by
terminology such as "may," "will," "should," "could," "expects," "intends,"
"plans," "anticipated," "believes," "estimated," "potential," or the negative of
these terms or other comparable terminology.
When considering these forward-looking statements, you should keep in
mind the risk factors and other cautionary statements in this prospectus.
16
USE OF PROCEEDS
We estimate that our net proceeds from the sale of the 1,650,000 shares
of common stock and 1,650,000 warrants in this offering, assuming a combined
initial public offering price of $6.00 per share and warrant, will be
approximately $8,489,000. If the underwriters exercise their over-allotment
options in full, our net proceeds will be approximately $9,810,650. Our net
proceeds is the amount we expect to receive from this offering after deducting
the underwriting discounts and estimated offering expenses payable by us. We
intend to use these proceeds for the following purposes:
o $3,500,000 to reduce indebtedness;
o $4,700,000 for the manufacture of gas compressors to be placed in
our rental fleet and leased over the next one to two years; and
o the remainder for working capital.
The $3,500,000 allocated to pay indebtedness was incurred in connection
with our acquisition of the compression related assets of Dominion Michigan on
March 29, 2001. After the payment, we will still owe approximately $3,500,000 to
Dominion Michigan. The balance bears interest at a rate of nine percent per
annum and is due in March 2003.
We have secured a letter from a bank, wherein the bank, subject to the
closing of this offering, has committed to loan us $3,500,000 to pay the balance
of the amount we owe to Dominion Michigan. The loan will bear interest at prime
plus 1% and will be payable in equal amounts of principal plus interest over a
period of five years. The loan will be collateralized with our accounts
receivable, inventory and equipment and the $1,000,000 life insurance policy on
the life of Wayne Vinson and will be guaranteed by our subsidiaries. The loan
will prohibit us from the payment of dividends without the consent of the bank.
A condition to the closing of this offering is that the loan transaction close
simultaneously with the closing of this offering.
If the underwriters exercise their over-allotment options, we will
allocate the additional net proceeds of up to $1,321,650 to working capital.
Working capital will be used to pay such items as rent, office expenses,
equipment, equipment repairs, salaries and our other day-to-day costs of doing
business.
The previous paragraphs describe our present estimates of our use of
the net proceeds of this offering based on our current plans and estimates of
anticipated expenses. Our actual expenditures may vary from these estimates. We
may also find it necessary or advisable to reallocate the net proceeds within
the uses outlined above or to use portions of the net proceeds for other
purposes.
Pending these uses, we will invest the net proceeds of this offering
primarily in cash equivalents or direct or guaranteed obligations of the United
States government.
17
DIVIDEND POLICY
We have never declared or paid any dividends on our common stock. We
anticipate that, for the foreseeable future, all earnings will be retained for
use in our business and no cash dividends will be paid to holders of our common
stock. If we were to pay cash dividends in the future on the common stock, it
would be dependent upon our:
o financial condition,
o results of operations,
o current and anticipated cash requirements,
o plans for expansion,
o restrictions, if any, under debt obligations,
as well as other factors that our board of directors deemed relevant. Our
agreement with our bank and our commitment from our bank contain provisions that
restrict us from paying dividends on our common stock.
We have 381,654 shares of our 10% Convertible Series A Preferred Stock
outstanding. Holders of that stock are entitled to cash dividends paid quarterly
at a rate equal to 10% per annum or $0.325 per share annually. The 10%
Convertible Series A Preferred stock will automatically convert into our common
stock at any time after six months from the closing of this offering, if our
common stock trades for 20 consecutive trading days after the six month period
at a price of $6.50 or more per share.
18
DILUTION
As of June 30, 2002, we had a net tangible book value of $3,201,971 or
approximately $0.95 per share of common stock. After giving effect to the sale
of 1,650,000 shares of common stock at an assumed initial offering price of
$5.75 per share, our pro forma net tangible book value, based on 5,007,632
shares of common stock outstanding as of June 30, 2002, would have been
$11,315,596 or $2.26 per share of common stock. This amount represents an
immediate increase in pro forma net tangible book value of $1.31 per share of
common stock to the existing holders of common stock and an immediate dilution
of $3.46 per share of common stock to new investors. "Dilution" is determined by
subtracting pro forma net tangible book value per share of common stock after
the offering from the offering price per share of common stock, as illustrated
by the following table:
<Table>
Assumed initial public offering price per share of common stock...... $ 5.75
Net tangible book value per share of common
stock as of March 31, 2002........................................ $ 0.95
Increase in pro forma net tangible book value per share of
common stock attributable to new investors........................ $ 1.31
--------
Pro forma net tangible book value per share of common
stock after the offering.......................................... $ 2.26
--------
Dilution per share of common stock to new investors.................. $ 3.49
========
Dilution as percentage of assumed offering price..................... 61%
========
</Table>
The following table sets forth as of June 30, 2002, the number of
shares of common stock acquired from us, the total cash consideration paid to us
and the average cash price per share of common stock paid to us by our existing
shareholders and by new investors (assuming the sale of 1,650,000 shares of
common stock at an assumed initial public offering price of $5.75 per share,
before deduction of the underwriting discount and other estimated offering
expenses):
<Table>
<Caption>
VALUE OF AVERAGE PRICE
SHARES PURCHASED CONSIDERATION PAID PER SHARE
----------------------------- ----------------------- ---------------
NUMBER PERCENT AMOUNT PERCENT
---------- --------- ----------- ---------
Existing shareholders.......... 3,357,632 67.1% $ 3,456,131 26.7% $1.03
New investors.................. 1,650,000 32.9 9,487,500 73.3 $5.75
---------- --------- ----------- ---------
Total.......................... 5,007,632 100.0% $12,943,631 100.0%
========== ========= =========== =========
</Table>
The foregoing information assumes no conversion of our outstanding
preferred stock, no exercise of the warrants being offered hereby, no exercise
of outstanding options and warrants and no exercise of the underwriters'
over-allotment options for the purchase of common stock and warrants. To the
extent that outstanding preferred stock is converted or outstanding options or
warrants are exercised at prices below the assumed public offering price of
$5.75 per share of common stock, there will be further dilution to investors.
19
CAPITALIZATION
The following table sets forth our capitalization as of June 30, 2002.
Our capitalization is presented:
o on an actual basis; and
o on an as adjusted basis to reflect our receipt of the estimated net
proceeds from the sale of 1,650,000 shares of common stock at an
assumed initial public offering price of $5.75 per share and
1,650,000 warrants at $0.25 per warrant, after deducting
underwriting discounts and other estimated offering expenses.
<Table>
<Caption>
JUNE 30, 2002
-----------------------------
ACTUAL AS ADJUSTED
------------ ------------
Borrowings:
Bank line of credit ....................................... $ -- $ --
Subordinated notes ........................................ 1,306,495 1,306,495
Capital leases ............................................ 50,153 50,153
Long-term debt ............................................ 10,863,236 7,363,236
------------ ------------
Total borrowings: .............................................. $ 12,219,884 $ 8,719,884
Shareholders' equity:
Preferred Stock, par value $0.01 per share;
5,000,000 shares authorized; 381,654 shares issued and
outstanding ............................................... 3,817 3,817
Common stock, $0.01 par value
30,000,000 shares authorized; 3,357,632
shares issued and outstanding, 5,007,632 shares
issued and outstanding, as adjusted ....................... 33,576 50,076
Additional paid-in capital ................................ 4,497,520 12,970,020
Retained earnings ......................................... 1,563,881 1,563,881
------------ ------------
Total shareholders' equity .............................. $ 6,098,794 $ 14,587,794
------------ ------------
Total capitalization .......................................... $ 18,318,678 $ 23,307,678
============ ============
</Table>
The foregoing table does not give effect to:
o 916,270 shares of common stock issuable on exercise of outstanding
options and warrants;
o 1,650,000 shares of common stock issuable on exercise of the
warrants being offered hereby;
o 247,500 shares of common stock issuable upon exercise of the
underwriters' over-allotment option for common stock; and
o 247,500 warrants issuable upon exercise of the underwriters'
over-allotment option for warrants.
20
SELECTED CONSOLIDATED FINANCIAL DATA
You should read the selected consolidated data for the fiscal years
ended December 31, 1999, 2000 and 2001, and for the six months ended June 30,
2002, in the tables below together with our consolidated financial statements
and the related notes and the section entitled "Management's Discussion and
Analysis of Financial Condition and Results of Operations" included in this
prospectus. Our historical results are not necessarily indicative of our future
results.
SUMMARY CONSOLIDATED INCOME
AND OTHER DATA (1):
(in thousands)
<Table>
<Caption>
SIX MONTHS ENDED
FOR THE YEAR ENDED DECEMBER 31 JUNE 30
------------------------------------------ --------------------------
1999 2000 2001 2001 2002
---------- ---------- ---------- ---------- ----------
(unaudited)
Total revenue ............................... $ 2,629 $ 3,652 $ 8,762 $ 3,898 $ 5,120
Total costs of revenue ...................... 1,194 1,535 4,942 2,115 2,806
---------- ---------- ---------- ---------- ----------
Gross profit ................................ 1,435 2,117 3,820 1,783 2,314
Total operating expenses .................... 1,070 1,594 2,621 1,185 1,382
---------- ---------- ---------- ---------- ----------
Income from operations ...................... 365 523 1,199 598 932
Total other income (expense) ................ (26) (159) (503) (223) (313)
---------- ---------- ---------- ---------- ----------
Income from continuing operations
before income taxes .................... 339 364 696 375 619
Total income tax expense .................... 98 147 314 203 280
Income before discontinued operations ....... 241 217 382 172 339
Discontinued operations (2) ................. (212) 692 -- -- --
---------- ---------- ---------- ---------- ----------
Net income .................................. $ 29 $ 909 $ 382 $ 172 $ 339
---------- ---------- ---------- ---------- ----------
Preferred dividends ......................... -- -- 11 -- 76
---------- ---------- ---------- ----------
Net income available to common
shareholders ........................... $ 29 $ 909 $ 371 $ 172 $ 263
========== ========== ========== ========== ==========
PER COMMON SHARE DATA:
Basic ....................................... $ .01 $ .27 $ .11 $ .05 $ .08
========== ========== ========== ========== ==========
Diluted ..................................... $ .01 $ .27 $ .11 $ .05 $ .06
========== ========== ========== ========== ==========
WEIGHTED AVERAGE SHARES
OF COMMON STOCK OUTSTANDING
Basic ....................................... 3,357,632 3,357,632 3,357,632 3,357,632 3,357,632
Diluted ..................................... 3,357,632 3,357,632 3,483,987 3,357,632 4,163,710
</Table>
SUMMARY CONSOLIDATED BALANCE SHEET
DATA (1):
<Table>
<Caption>
DECEMBER 31, 2001 JUNE 30, 2002
----------------- ------------------------------
ACTUAL ACTUAL AS ADJUSTED
----------------- -------- -----------
Current assets........................ $ 3,248 $ 3,535 $ 8,524
Total assets.......................... 18,810 21,070 26,059
Current liabilities................... 2,049 10,900 7,400
Shareholders' equity.................. 5,781 6,099 14,588
</Table>
21
CONSOLIDATED STATEMENT OF
CASH FLOWS (1):
<Table>
<Caption>
FOR THE PERIOD
FOR THE YEAR ENDED DECEMBER 31 ENDED JUNE 30
------------------------------------ ----------------------
1999 2000 2001 2001 2002
-------- -------- -------- -------- --------
Cash flows provided by (used in)
operating activities ................ $ 307 $ (253) $ 840 $ 147 $ 1,278
Cash flow used in investment
activities .......................... (1,116) (1,836) (3,087) (1,833) (2,131)
Cash flow provided by financing
activities .......................... 2,248 698 2,611 1,556 689
OTHER DATA
EBITDA (3) .......................... $ 507 $ 1,619 $ 2,523 $ 1,102 $ 1,689
</Table>
INFORMATION PERTAINING TO COMPRESSORS LEASED
<Table>
<Caption>
COMPRESSORS LEASED
----------------------------
1999 2000 2001
------ ------ ------
Leased at beginning of year ......... 14 41 75
Leased during year .................. 27 34 152
Returned during year ................ 0 0 20
Leased at year end .................. 41 75 207
</Table>
- ----------
(1) The financial information reflects the acquisition by us of the compression
related assets of Dominion Michigan on March 29, 2001. The purchase price was
$8,000,000 of which $1,000,000 was paid at closing and the net balance was
financed by Dominion Michigan. The operations and assets of Dominion Michigan
that was acquired are included in our consolidated financial statements
commencing on April 1, 2001.
(2) On March 31, 2000, we disposed of CNG in a transaction whereby we
transferred all of the common stock of CNG to the former owner in exchange for
all of the former owner's shares of our outstanding common stock (692,368
shares) and a note receivable for $350,000. During the year ended December 31,
2000, the former owner defaulted on all payments due under the note receivable,
and the entire amount has been reserved and reflected as a reduction in the gain
from discontinued operations. The sale resulted in a non-taxable gain from
discontinued operations of approximately $944,000. Pre-tax loss from
discontinued operations of approximately $232,000 in the summary consolidated
statement of income data reflects the net loss from operations of CNG from
January 1, 2000 through the date of disposal. Total revenue of CNG was
approximately $3,915,000 in 1999 and approximately $828,000 from January 1, 2000
through the date of disposal.
(3) The row entitled "EBITDA" reflects net income or loss before interest,
taxes, depreciation and amortization. EBITDA is a measure used by analysts and
investors as an indicator of operating cash flow since it excludes the impact of
movements in working capital items, non-cash charges and financing costs.
However, EBITDA is not a measure of financial performance under generally
accepted accounting principles and should not be considered a substitute for
other financial measures of performance. EBITDA as calculated by us may not be
comparable to EBITDA as calculated and reported by other companies.
22
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
The following discussion should be read in conjunction with the
consolidated financial statements and attached notes thereto and the other
financial information included elsewhere in this prospectus. This discussion
contains forward looking statements that involve risks and uncertainties. Our
actual results could differ materially from those anticipated in these forward
looking statements as a result of any number of factors, including those set
forth under the section entitled "Risk Factors" and elsewhere in this
prospectus.
OVERVIEW
We combine the operations of Rotary Gas Systems, NGE Leasing and Great
Lakes Compression. These entities provide products and services to the oil and
gas industry and are engaged in (1) the manufacture, sale and rental of natural
gas compressors to enhance the productivity of oil and gas wells, and (2) the
manufacture, sale and rental of flares and flare ignition systems for plant and
production facilities. We are the parent company and provide administrative and
management support and, therefore, have expenses associated with that activity.
We acquired the compression related assets of Great Lakes from Dominion
Michigan on March 29, 2001. This acquisition significantly increased the number
of compressor units that we own and service and thereby increased our revenue
and operating income beginning April 1, 2001.
RESULTS OF OPERATIONS
PERIOD ENDED JUNE 30, 2002 COMPARED TO THE PERIOD ENDED JUNE 30, 2001
<Table>
<Caption>
NATURAL GAS
ROTARY NGE GREAT LAKES SERVICES
GAS LEASING COMPRESSION (1) GROUP TOTAL
------- ------- --------------- ----------- -------
(IN THOUSANDS)
SIX MONTHS ENDED JUNE 30, 2002
Revenue $ 1,571 $ 1,059 $ 2,490 $ $ 5,120
Gross margin 656 761 897 2,314
Gross margin percentage 42% 72% 36% 45%
Selling, general and
administrative expense 398 80 126 240 844
Depreciation and amortization expense 59 189 270 20 538
Interest expense 4 186 313 20 523
Other income 1 1 2
Equity in earnings from joint
venture 208 208
Income tax 280 280
------- ------- --------------- ----------- -------
Net Income $ 196 $ 515 $ 188 $ (560) $ 339
======= ======= =============== =========== =======
SIX MONTHS ENDED JUNE 30, 2001
Revenue $ 2,170 $ 695 $ 1,033 $ $ 3,898
Gross margin 767 496 520 1,783
Gross margin percentage 35% 71% 50% 46%
Selling, general and administrative
expense 507 85 99 140 831
Depreciation and amortization
expense 52 112 137 54 355
Interest expense 1 196 159 15 371
Other income 1 80 81
Equity in earnings from joint venture 67 67
Income tax 202 202
------- ------- --------------- ----------- -------
Net income $ 208 $ 250 $ 125 $ (411) $ 172
======= ======= =============== =========== =======
</Table>
23
- ----------
(1) We purchased the compression related assets of Great Lakes from Dominion
Michigan on March 29, 2001. Therefore, the information for the period ending
March 31, 2001, is not included.
Rotary Gas Systems Operations
Revenue from outside sources decreased approximately $599,000 or
approximately 28% for the six months ended June 30, 2002 compared to the same
period ended June 30, 2001. Because our products are custom-built, fluctuations
in revenue from outside sources are expected. Our main focus is to build our
rental fleet and associated lease revenue in NGE Leasing, which in the long term
is more profitable and has a more stable cash flow. For the six months ended
June 30, 2001, approximately 33% of our plant output was used to build gas
compressors for NGE Leasing as opposed to approximately 65% for the same period
in 2002. Our focus from a management and sales prospective is to achieve a
balance of 70% - 30% ratio of leased natural gas compressors to outside sales.
We feel that our plant capacity is achievable in the foreseeable future by
adding personnel and using the Great Lakes Compression facility if an overrun
occurs.
The gross margin percentage increased from 35% for the six months ended
June 30, 2001, to 42% for the same period ended June 30, 2002. The increase
resulted mainly from some change in product mix. A greater part of sales during
the period ending June 30, 2002, included flares, parts and service which
normally have a higher margin than gas compressors. At times even the margin on
individual compressors can vary since they are normally custom designed and
manufactured.
Selling, general and administrative expense decreased from $507,000, to
$398,000 or 21% for the six months ended June 30, 2001, as compared to the same
period ended June 30, 2002. This was mainly the result of the reduction of
selling expenses related to the decision to discontinue the air compressor line.
We discontinued this line of product in the development stage so that we could
concentrate on our main product, gas compression.
Depreciation expense increased 14% from $52,000 to $59,000 for the six
months ended June 30, 2001, compared to the same period ended June 30, 2002.
This increase was mainly due to the purchase of additional vehicles, shop and
office equipment.
There was a $3,000 increase in interest expense for the six months
ended June 30,2002 compare to the same period ended June 30, 2001 mainly due to
financing the purchase of additional vehicles.
NGE Leasing Operations
Revenue from rental of natural gas compressors increased 52% for the
six months ended June 30, 2002, compared to the same period in 2001. This
increase is the result of the increase in our rental fleet of which 50 new
compressors were added during the six months ended June 30, 2002, as compared to
the addition of 17 during the 2001 period. The compressors were manufactured by
Rotary Gas Systems.
The gross margin percentage increased 1% from 71% for the period ending
June 30, 2001 to 72% for the same period in 2002. The cost of revenue is
comprised mainly of expenses associated with the maintenance of the gas
compressor rental activity. This increase resulted from the fact that 50 new
compressors were added to the fleet during the period. Normally the cost of the
equipment maintenance will naturally increase over time as the equipment ages
thereby reducing the gross margin. The expected life of a gas compressor unit
will exceed 15 years with routine maintenance and a major overhaul every three
to four years. As of June 30, 2002, 46% of our compressor rental fleet was less
than one year old, 22% was one to two years old, 16% was two to three years old,
and 16% was older than three years.
24
Selling, general and administrative expense decreased from $85,000 to
$80,000 or 6% for the six months ended June 30, 2001, as compared to the same
period ended June 30, 2002. This was mainly the result of an decrease in legal
and insurance expense.
Depreciation expense increased 69% from $112,000 to $189,000 for the
six months ended June 30, 2001, compared to the same period ended June 30, 2002.
This increase was the result of new gas compressor rental units being added to
the rental fleet during the period.
There was a decrease in interest expense from $196,000 to $186,000 for
the six months ended June 30, 2001 as compared to the same period ended June 30,
2002. This is mainly as a result of additional equity funding that occurred in
the year from June 30, 2001 to June 30, 2002.
Equity in earnings from joint venture increased 210% from $67,000 to
$208,000 during the six months ended June 30, 2001, compared to the same period
ended June 30, 2002. This is a joint venture, called Hy-Bon Rotary Compression,
LLC, that serves a mutual area of interest in which we contribute gas compressor
units for rental. The increase is due to net profits associated with the
additional units leased in 2002 as compared to those in 2001. As of June 30,
2002, we had contributed 36 gas compressors to the joint venture as compared to
11 at June 30, 2001.
Great Lakes Compression
We acquired the compression related assets of Great Lakes Compression
from Dominion Michigan as of March 29, 2001. Therefore, there is no historical
comparative data for the six months ended June 30, 2001.
Natural Gas Services Group
Selling, general and administrative expense increased from $140,000 to
$240,000 or 71% for the six months ended June 30, 2001, as compared to the same
period ended June 30, 2002. This was mainly the result of an added expense for
warrants valued at $42,000 granted to certain officers and directors as
consideration for their guarantee of restructured corporate bank debt and an
increase in accrual for officer bonuses normally paid at year end.
Amortization and depreciation expense decreased from $54,000 to $20,000
or 62% for the six months ended June 30, 2001 compared to the same period ended
June 30, 2002. This decrease was mainly the result of changes in the accounting
method for amortizing goodwill.
Interest expense increased from $15,000 to $20,000 or 33% for the six
months ended June 30, 2001 compared to the same period ended June 30, 2002. This
increase was the result of financing the purchase on three new service vehicles.
Income tax expense is accounted for on a consolidated basis. Therefore,
the tax for all companies is included in the tax expense for Natural Gas
Services Group. Income tax expense increased 40% from $202,000 to $280,000 for
the six months ended June 30, 2001 compared to same period ended June 30, 2002.
This increase is mainly due to an increase in income before taxes.
25
FISCAL YEAR ENDED DECEMBER 31, 2001 COMPARED TO FISCAL YEAR ENDED DECEMBER 31,
2000
<Table>
<Caption>
NATURAL
GAS
ROTARY NGE GREAT LAKES SERVICES
GAS LEASING COMPRESSION (1) GROUP TOTAL
-------- ------- --------------- ----------- -------
(IN THOUSANDS)
TWELVE MONTHS ENDED DECEMBER 31, 2001
Revenue $ 3,841 $ 1,519 $ 3,402 $ $ 8,762
Gross margin 1,231 1,076 1,513 3,820
Gross margin percentage 32% 71% 47% 45%
Selling, general and administrative expense 962 234 297 225 1,718
Depreciation and amortization expense 104 252 423 124 903
Interest expense 4 395 489 36 924
Other income 19 130 3 45 197
Equity in earnings from joint venture 224 224
Income tax 314 314
------- ------- --------------- ----------- -------
Net income $ 180 549 $ 307 $ (654) $ 382
======= ======= =============== =========== =======
TWELVE MONTHS ENDED DECEMBER 31, 2000
Revenue $ 2,576 $ 1,076 $ $ $ 3,652
Gross margin 1,291 826 2,117
Gross margin percentage 50% 77% 58%
Selling, general and administrative
expense 900 185 153 1,238
Depreciation and amortization expense 91 163 102 356
Interest expense 7 194 6 207
Other income (expense) 13 33 (16) 30
Equity in earnings from joint venture 18 18
Income tax 147 147
------- ------- --------------- ----------- -------
Net Income before discontinued
operations $ 306 335 $ (424) $ 217
======= ======= =========== =======
</Table>
(1) We purchased the compression related assets of Great Lakes from Dominion
Michigan on March 29, 2001. Therefore, the information for the year ended
December 31, 2000, is not included.
Rotary Gas Systems Operations
Revenue increased approximately $1,265,000 or approximately 49% for the
twelve months ended December 31, 2001 as compared to the same period for 2000.
This increase resulted from our increased marketing efforts and funding as well
as from increased recognition in the marketplace of our name and products.
The gross margin percentage decreased from 50% for the twelve months
ended December 31, 2000 to 32% for the same period in 2001. This decrease was
the result of several factors, such as (1) in 2000 the product mix included
higher margin items such as flares, parts and service, (2) in 2001 the cost of
revenue included additional costs for increased support personnel and
supervision, intended to increase our production capability for 2001 and beyond,
and (3) in 2001 we had increased expenses attributable to our work on
development of several new product lines, including larger horsepower gas
compressors for third party customers.
Selling, general and administrative expense increased 7% from $900,000
to $962,000 for the year ended December 31, 2000, as compared to the same period
ended December 31, 2001. This was the result of
26
increased wages, audit fees and various other expense associated with financing
transactions and increased volume of sales.
Depreciation expense increased 14% from $91,000 to $104,000 for the
year ended December 31, 2001. This increase was mainly due to the purchase of
additional vehicles, shop and office equipment.
Interest expense decreased 43% from $7,000 to $4,000 for the year ended
December 31, 2001, compared to the same period ended December 31, 2000. This was
mainly due to the pay off of certain auto loans.
Other income increased 46% from $13,000 to $19,000 for the year ended
December 31, 2000, compared to the same period ended December 31, 2001. This
increase resulted from the sale of used vehicles.
NGE Leasing Operations
Revenue from rental of natural gas compressors increased 42% for the
period ended December 31, 2001 as compared to the same period in 2000. This
increase resulted from the addition of 40 new gas compressors to the rental
fleet during the twelve months ended December 31, 2001 as compared to 34 in
operation in 2000. These compressors were manufactured by Rotary Gas Systems.
The gross margin percentage decreased 6% from 77% for the period ending
December 31, 2000 to 71% for the same period in 2001. The cost of revenue is
comprised primarily of expenses associated with the maintenance and repair of
the gas compressors. This decrease in gross margin resulted from the fact that
the cost of maintenance and repair will naturally increase over time as the
equipment ages. As of December 31, 2001, 36% of our compressor rental fleet was
less than a year old, 28% was one to two years old, 27% was two to three years
old and 9% was older than three years.
Selling, general and administrative expense increased from $185,000 to
$234,000 or 26% for the year ended December 31, 2000 as compared to the same
period ended December 31, 2001. This was mainly the result of increased sales
commissions reflecting increased rental activity for the period.
Depreciation expense increased 55% from $163,000 to $252,000 for the
year ended December 31, 2000, compared to the year ended December 31, 2001. This
increase was the result of new gas compressor rental units being added to the
fleet.
Interest expense increased 104% from $194,000 to $395,000 for the year
ended December 31, 2000, compared to the year ended December 31, 2001. This
increase is the result of the additional debt that was required to build
additional rental compressors.
Equity in earnings from joint venture increased 1144% from $18,000 to
$224,000 for the year ended December 31, 2000, compared to the same period ended
December 31, 2001. This is a joint venture, called Hy-Bon Rotary Compression,
LLC, which serves a mutual area of interest in which we contribute gas
compressor units for rental. The increase is due to net profits associated with
the additional units leased in 2001 as compared to those in 2000. As of December
31, 2001, we had contributed 19 gas compressors to the joint venture, an
increase of 14 units from the comparative period.
Great Lakes Compression
We acquired the compression related assets of Great Lakes from Dominion
Michigan as of March 29, 2001. Therefore, no historical comparative data is
included.
27
Natural Gas Services Group
Selling, general and administrative expense increased from $153,000 to
$225,000 or 47% for the year ended December 31, 2000 as compared to the same
period ended December 31, 2001. This was mainly the result of an increase in
administrative salaries and in audit fees.
Depreciation expense increased from $102,000 to $124,000 or 22% for the
year ended December 31, 2000 compared to the same period ended December 31,
2001. This increase was the result of the purchase of four new service trucks.
Interest expense increased from $6,000 to $36,000 or 500% for the year
ended December 31, 2000 compared to the same period ended December 31, 2001.
This increase was the result of the financing for the purchase of four new
service trucks in June of 2001 and for the purchase of our production facility
in October 2000.
Income tax expense is accounted for on a consolidated basis therefore
the tax for all companies is included in the tax expense for Natural Gas
Services Group. Income tax expense increased 114% from $147,000 to $314,000 for
the year ended December 31, 2000 compared to the same period ended December 31,
2001. This increase is the result of an increase in income before taxes.
CRITICAL ACCOUNTING POLICIES
We have identified the policies below as critical to our business
operations and the understanding of our results of operations. In the ordinary
course of business, we have made a number of estimates and assumptions relating
to the reporting of results of operations and financial condition in the
preparation of our financial statements in conformity with accounting principles
generally accepted in the United States. Actual results could differ
significantly from those estimates under different assumptions and conditions.
We believe that the following discussion addresses our most critical accounting
policies, which are those that are most important to the portrayal of our
financial condition and results of operations and require our most difficult,
subjective, and complex judgments, often as a result of the need to make
estimates about the effect of matters that are inherently uncertain.
Our critical accounting policies are as follows:
o revenue recognition;
o estimating the allowance for doubtful accounts;
o accounting for income taxes;
o valuation of long-lived and intangible assets and goodwill; and
o valuation of inventory
Revenue recognition
We recognize revenue from sales of compressors or flare systems at the
time of shipment and passage of title when collectability is reasonably assured.
We also offer certain of our customers the right to return products that do not
function properly within a limited time after delivery. We continuously monitor
and track such product returns and we record a provision for the estimated
amount of such future returns, based on historical experience and any
notification we receive of pending returns. While such returns have historically
been within our expectations and the provisions established, we cannot guarantee
that we will continue to experience the same return rates that we have in the
past. Any significant increase in product failure rates and
28
the resulting credit returns could have a material adverse impact on our
operating results for the period or periods in which such returns occur.
When product is billed to customers based on contractual agreements,
but has not yet been shipped, payments are recorded as deferred revenue, pending
shipment.
Rental and lease revenue are recognized over the terms of the
respective lease agreements based upon the classification of the lease.
Allowance for doubtful accounts receivable
We perform ongoing credit evaluations of our customers and adjust
credit limits based upon payment history and the customer's current credit
worthiness, as determined by our review of their current credit information. We
continuously monitor collections and payments from our customers and maintain a
provision for estimated credit losses based upon our historical experience and
any specific customer collection issues that we have identified. While such
credit losses have historically been within our expectations and the provisions
established, we cannot guarantee that we will continue to experience the same
credit loss rates that we have in the past. Since our accounts receivable are
concentrated in approximately 107 customers at June 30, 2002, a significant
change in the liquidity or financial position of any one of these customers
could have a material adverse impact on the collectability of our accounts
receivables and our future operating results.
Accounting for income taxes.
As part of the process of preparing our consolidated financial
statements we are required to estimate our Federal income taxes as well as
income taxes in each of the states in which we operate. This process involves us
estimating our actual current tax exposure together with assessing temporary
differences resulting from differing treatment of items for tax and accounting
purposes. These differences result in deferred tax assets and liabilities, which
are included in our consolidated balance sheet. We must then assess the
likelihood that our deferred tax assets will be recovered from future taxable
income and to the extent we believe that recovery is not likely, we must
establish a valuation allowance. To the extent we establish a valuation
allowance or increase this allowance in a period, we must include an expense in
the tax provision in the statement of operations.
Significant management judgment is required in determining our
provision for income taxes, our deferred tax assets and liabilities and any
valuation allowance recorded against our net deferred tax assets.
Valuation of long-lived and intangible assets and goodwill.
We assess the impairment of identifiable intangibles, long-lived assets
and related goodwill whenever events or changes in circumstances indicate that
the carrying value may not be recoverable. Factors we consider important which
could trigger an impairment review include the following:
o significant underperformance relative to expected historical or
projected future operating results;
o significant changes in the manner of our use of the acquired assets
or the strategy for our overall business; and
o significant negative industry or economic trends;
When we determine that the carrying value of intangibles, long-lived
assets and related goodwill may not be recoverable based upon the existence of
one or more of the above indicators of impairment, we measure any impairment
based on a projected discounted cash flow method using a discount rate
determined by our management to be commensurate with the risk inherent in our
current business model.
In 2002, Statement of Financial Accounting Standards ("SFAS") No. 142,
"Goodwill and Other Intangible Assets" became effective and as a result, we
ceased to amortize approximately $2.6 million of goodwill as of January 1, 2002.
In lieu of amortization, we are required to perform an initial impairment
29
review of our goodwill in 2002 and an annual impairment review thereafter. Based
upon a valuation of our reporting units with goodwill, we do not expect to
record an impairment charge during 2002.
Inventories
We value our inventory at the lower of the actual cost to purchase
and/or manufacture the inventory or the current estimated market value of the
inventory. We regularly review inventory quantities on hand and record a
provision for excess and obsolete inventory based primarily on our estimated
forecast of product demand and production requirements.
RECENTLY ISSUED ACCOUNTING PRONOUNCEMENTS
In June 2001, the Financial Accounting Standards Board issued
Statements of Financial Accounting Standards No. 141, Business Combinations, and
No. 142, Goodwill and Other Intangible Assets . SFAS 141 requires all business
combinations initiated after June 30, 2001 to be accounted for under the
purchase method. For all business combinations for which the date of acquisition
is after June 30, 2001, SFAS 141 also establishes specific criteria for the
recognition of intangible assets separately from goodwill and requires
unallocated negative goodwill to be written off immediately as an extraordinary
gain, rather than deferred and amortized. SFAS 142 changes the accounting for
goodwill and other intangible assets after an acquisition. The most significant
changes made by SFAS 142 are: 1) goodwill and intangible assets with indefinite
lives will no longer be amortized; 2) goodwill and intangible assets with
indefinite lives must be tested for impairment at least annually; and 3) the
amortization period for intangible assets with finite lives will no longer be
limited to forty years. We do not believe that the adoption of SFAS 141 or SFAS
142 will have a material effect on our financial position, results of
operations, or cash flows.
In June 2001, the FASB also approved for issuance SFAS 143, Asset
Retirement Obligations. SFAS 143 establishes accounting requirements for
retirement obligations associated with tangible long-lived assets, including 1)
the timing of the liability recognition, 2) initial measurement of the
liability, 3) allocation of asset retirement cost to expense, 4) subsequent
measurement of the liability and 5) financial statement disclosures. SFAS 143
requires that an asset retirement cost should be capitalized as part of the cost
of the related long-lived asset and subsequently allocated to expense using a
systematic and rational method. We will adopt the statement effective no later
than January 1, 2003, as required. The transition adjustment resulting from the
adoption of SFAS 143 will be reported as a cumulative effect of a change in
accounting principle. We do not believe that the adoption of this statement will
have a material effect on its financial position, results of operations, or cash
flows. See Note 15 to the financial statements filed with this prospectus.
In October 2001, the FASB approved SFAS 144, Accounting for the
Impairment or Disposal of Long-Lived Assets. SFAS 144 replaces SFAS 121,
Accounting for the Impairment of Long-Lived Assets and for Long-Lived Assets to
Be Disposed Of. The new accounting model for long-lived assets to be disposed of
by sale applies to all long-lived assets, including discontinued operations, and
replaces the provisions of APB Opinion No. 30, Reporting Results of
Operations-Reporting the Effects of Disposal of a Segment of a Business, for the
disposal of segments of a business. Statement 144 requires that those long-lived
assets be measured at the lower of carrying amount or fair value less cost to
sell, whether reported in continuing operations or in discontinued operations.
Therefore, discontinued operations will no longer be measured at net realizable
value or include amounts for operating losses that have not yet occurred.
Statement 144 also broadens the reporting of discontinued operations to include
all components of an entity with operations that can be distinguished from the
rest of the entity and that will be eliminated from the ongoing operations of
the entity in a disposal transaction. The provisions of Statement 144 are
effective for financial statements issued for fiscal years beginning after
December 15, 2001 and, generally, are to be applied prospectively. Presently, we
do not believe the adoption of this statement will have a material effect on our
financial position, results of operations, or cash flows.
30
SEASONALITY AND ECONOMIC CONDITIONS
Our sales are affected by the timing of planned development and
construction projects by energy industry customers. The fourth quarter is
generally favorably affected.
INFLATION
We do not believe that inflation had a material impact upon our results
of operations during the six months ended June 30, 2002, or during the years
ended December 31, 2001 and 2000.
LIQUIDITY AND CAPITAL RESOURCES
We have funded our operations through private offerings of our common
and preferred stock, subordinated debt, bank debt and seller debt in our
acquisition of the compression related assets of Dominion Michigan. Proceeds
were primarily used to fund the manufacture and fabrication of additional units
for our rental fleet of gas compressors and to help fund the cash portion of the
payment for the compression related assets of Dominion Michigan during the first
quarter of 2001.
At June 30, 2002, we had cash and cash equivalents of approximately
$342,000, a working capital deficit of approximately $7,366,000 and debt of
approximately $12,220,000 of which approximately $9,042,000 was classified as
current. We had approximately $1,278,000 of net cash flow from operating
activities during the first six months of 2002. This was primarily from net
income of approximately $339,000 plus depreciation and amortization of
approximately $538,000 and increases in deferred taxes of approximately
$280,000, deferred income of approximately $449,000 and accounts payable and
accrued liabilities of approximately $276,000, offset by increases in inventory,
receivables and equity in earnings of joint venture.
We realized approximately $840,000 of net cash flow from operating
activities during the twelve months ended December 31, 2001. This was primarily
due to income from continuing operations before tax of approximately $696,000
plus depreciation and amortization of approximately $903,000, for a total of
approximately $1,599,000, offset by increases in inventory and receivables.
Upon completion of this offering, we intend to actively pursue adding
gas compressors to our rental fleet and seeking acquisitions. No specific
candidates have yet been identified. We expect to fund additional rental units
though borrowings and cash flow from operations. We believe that the revenue
generated by our operations and the proceeds from this offering will be adequate
to meet our anticipated cash, capital and debt service requirements for
approximately twelve months following this offering.
Maturities of long-term debt based on contractual requirements for the
years ending December 31, are as follows:
<Table>
2002 $ 904,000
2003 7,624,000
2004 698,000
2005 309,000
2006 195,000
Thereafter 222,000
-----------
$ 9,952,000
===========
</Table>
Through the end of December 2002, we will need approximately $983,000
to service the principal and interest payments that will be due on our current
debt. The approximately $983,000 includes approximately
31
$154,000 of interest that will be due on December 31, 2002, on notes we sold in
a private offering in 2000 and 2001. If we do not have sufficient cash flow to
cover the principal and interest payments, we will not be able to pay the
quarterly dividends on our outstanding preferred stock. In this regard, until
Dominion Michigan is paid in full, we currently are not able to use any cash
flow from the operations of Dominion Michigan to pay the principal and interest
payments or dividends.
As a result of the issuance of warrants to directors and shareholders
with an exercise price of $3.25 per share in April 2002 in connection with
guaranteeing restructured bank debt, we recorded an expense of approximately
$42,000 during the six months ending June 30, 2002.
MARKET RISK
We significantly rely upon debt financing provided by various financial
institutions. Most of these instruments contain interest provisions that are at
least a percentage point above the published prime rate. This creates a
vulnerability to us relative to the movement of the prime rate. Should the prime
rate increase, our cost of funds will increase and affect our ability to obtain
additional debt. We have not engaged in any hedging activities to offset such
risks.
32
BUSINESS
OVERVIEW
We were incorporated on December 17, 1998. In early 1999, we underwent
a reorganization by acquiring CNG Engines Company, Flare King, Inc., Hi-Tech
Compressor Company, L.C. and NGE Leasing, Inc. In March 2000, we sold CNG back
to its former principal owner. In July 2000, Flare King and Hi-Tech merged and
now operate as Rotary Gas Systems, Inc. On March 29, 2001, we acquired, through
our subsidiary, Great Lakes Compression, Inc., all of the compression related
assets of Dominion Michigan Petroleum Services, Inc., a company that was in the
business of manufacturing, fabricating, selling, leasing and maintaining natural
gas compressors and related equipment. We now operate through our three
subsidiaries, Rotary Gas, NGE Leasing and Great Lakes Compression and through
one joint venture, HyBon Rotary.
Our principal executive offices are located at 2911 South County Road
1260, Midland, Texas 79706 and our telephone number is (915) 563-3974.
ACQUISITION OF COMPRESSION RELATED ASSETS OF DOMINION MICHIGAN
On March 29, 2001, we acquired the compression related assets of
Dominion Michigan, which is a subsidiary of Dominion Exploration, Inc., for a
total of $8,000,000. The purchase price was reduced by approximately $43,600
which was the net cash generated from the assets acquired from January 1, 2001
to the date of closing.
In consideration for the assets, we paid Dominion Michigan $1,000,000
and are obligated to pay an additional approximately $7,000,000 in March, 2003.
The deferred purchase price bears interest at a rate of nine percent per annum,
which is payable on the first business day of each month. The deferred purchase
price is secured by all of the assets we acquired and the pledge of all of our
stock ownership in our subsidiary that acquired the assets.
The assets acquired consisted of approximately five acres of land,
fabrication and storage facilities, equipment and 93 compressors that are
leased. Of the 93 compressors, 35 are leased to Dominion Michigan and its
affiliates and 58 are leased month-to-month to other parties. We also assumed
six leases of compressors and maintenance agreements for 77 other compressors.
Further, as a part of the transaction, Dominion Exploration & Production, Inc.,
an affiliate of Dominion Michigan, committed to purchase or enter into five year
leases for compressors totaling five thousand horsepower. The purchases or
leases are to be made by December 31, 2005, and the compressors will be sold or
leased by us at our normal rates.
Dominion Exploration has agreed that no more than 30% of the
compressors will be purchased and that 70% (or more at its option) will be
leased. Dominion Exploration is required to order compressors, either for
purchase or lease totaling not less than 800 horsepower and not more than 1300
horsepower during each calendar year. The number of compressor units and the
size and type of each compressor unit will be determined solely by Dominion
Exploration. As of June 30, 2002, the affiliate had purchased or leased
compressors totaling 1,830 horsepower and was in compliance with its agreement.
Until we have paid the deferred purchase price, our subsidiary is
limited in the amount of debt and liens it may have, restricted from
consolidating or merging with or into any other entity or selling or otherwise
transferring all or any substantial part of its assets to any other person, is
prohibited from paying dividends, is limited in making investments and is
limited in making capital expenditures.
OUR BUSINESS
The compression business of our predecessors was formed in 1984 to take
advantage of the concept of packaging a rotary screw compressor thereby making
available lower cost compression for marginal wells. We are involved in the
manufacture, fabrication, sale, lease, and maintenance of compressors and the
33
manufacture and sale of natural gas flare systems, components and ignition
systems. We have manufacturing and fabrication facilities located in Lewiston,
Michigan, and Midland, Texas, where we manufacture and fabricate natural gas
compressors. We design and manufacture natural gas flare systems, components and
ignition systems in our facility in Midland, Texas, for use in oilfield,
refinery and petrochemical plant applications.
We currently provide our products and services to a customer base of
oil and gas exploration and production companies operating primarily in
Colorado, Kansas, Louisiana, Michigan, New Mexico, Oklahoma, Texas and Wyoming.
INDUSTRY BACKGROUND
Our products and services are related to the oil and natural gas
industries. The oil and natural gas industry is comprised of several large,
well-capitalized companies accounting for the majority of the market. There also
exist a large number of small privately held companies making up the remainder
of the market. According to a report by the National Petroleum Council in
December 1999, there is a growing consumption of natural gas in this country.
We believe that there will continue to be a growing demand for natural
gas. Because of this, demand for our products and services is expected to
continue to rise as a result of:
o the increasing demand for energy, both domestically and abroad;
o environmental considerations which provide strong incentives to use
natural gas in place of other carbon fuels;
o the cost savings of using natural gas rather than electricity for
heat generation;
o implementation of international environmental and conservation laws;
o the aging of producing natural gas reserves worldwide; and
o the extensive supply of undeveloped natural gas reserves.
By using a compressor, the operator of a natural gas well is able to
increase the pressure of natural gas from a well to make it economically viable
by enabling gas to continue to flow in the pipeline to its destination. We feel
that we are well positioned through our gas compression and flare system
activities to take advantage of the aging of reserves and the development of new
reserves.
THE COMPRESSION BUSINESS
Natural gas compressors are used in a number of applications intended
to enhance the productivity of oil and gas wells, gas transportation lines and
processing plants. Compression equipment is often required to boost a well's
production to economically viable levels and enable gas to continue to flow in
the pipeline to its destination. We believe that most producing gas wells in
North America, at some point, will utilize compression. As of December 31, 2000,
the Energy Information Administration reported that there were approximately
306,000 producing gas and gas condensate wells in the United States. The states
where we currently operate account for approximately 166,000 of these wells.
THE LEASING BUSINESS
We primarily lease natural gas compressors. As of June 30, 2002, we had
254 natural gas compressors totaling approximately 32,000 horsepower leased to
24 third parties, compared to 182 natural gas compressors totaling approximately
16,000 horsepower leased to 21 third parties at June 30, 2001. Of the 254
natural gas compressors, 44 were leased to Dominion Michigan and its affiliates.
As a part of our leasing business, in 2000 we formed a limited
liability company, Hy-Bon Rotary Compression LLC, ("HBRC") with Hy-Bon
Engineering Company, Inc., a non-affiliated company, to lease
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natural gas compressors. We formed HBRC to lease compressors to a customer with
which the non-affiliated company had a relationship. The non-affiliated company
owns 50% and we own 50% of HBRC. The non-affiliated company has appointed a
majority of the persons who serve as managers of HBRC. As of June 30, 2002, we
had contributed 36 compressors totaling approximately 2,700 horsepower to HBRC
and the non-affiliated company had contributed 26 compressors totaling
approximately 2,300 horsepower to HBRC. We split the expenses of HBRC with the
other company. After the payment of expenses, we receive whatever profit is
realized by HBRC in proportion to the amount received by HBRC from the lease of
natural gas compressors that are contributed by us and by the non-affiliated
company to HBRC.
In addition to 79 separate written maintenance agreements that we had
at June 30, 2002, we provide maintenance as a part of the rental in our
compressor leases. Many companies and individuals are turning to leasing of
equipment instead of purchasing. Leasing does not require the purchaser to make
large capital expenditures for new equipment or to obtain financing through a
lending institution. This frees the customer's assets for developing the
customer's business. Our leases generally have initial terms of from six to 18
months and then continue on a month-to-month basis. The leases with Dominion
Exploration have an initial five year term. Lease rentals are paid monthly. At
the end of a lease term, the customer may continue to pay monthly rentals on the
equipment, or we may require them to purchase it or return it to us.
Changing well and pipeline pressures and conditions over the life of a
well often require producers to reconfigure their compressor units to optimize
the well production or pipeline efficiency. Because the equipment is highly
technical, a trained staff of field service personnel, a substantial parts
inventory and a diversified fleet of natural gas compressors are often necessary
to perform reconfiguration functions in an economic manner. It is not efficient
or, in many cases, economically possible for independent natural gas producers
to maintain reconfiguration capabilities individually. Also, our management
believes that, in order to streamline their operations and reduce their capital
expenditures and other costs, a number of major oil and gas companies have sold
portions of their domestic energy reserves to independent energy producers and
have outsourced many facets of their operations. We believe that these
initiatives are likely to contribute to increased rental of compressor
equipment. For that reason, we have created our own compressor-rental fleet to
take advantage of the rental market, and intend to expand our fleet by
approximately 120 natural gas compressors over the next 12 months through the
proceeds of this offering and cash flow.
The size, type and geographic diversity of our rental fleet enables us
to provide our customers with a range of compression units that can serve a wide
variety of applications, and to select the correct equipment for the job, rather
than the customer trying to fit the job to its own equipment. We base our gas
compressor rental rates on several factors, including the cost and size of the
equipment, the type and complexity of service desired by the customer, the
length of contract, and the inclusion of any other services desired, such as
leasing, installation, transportation and daily operation.
CUSTOM FABRICATION
We also engineer and fabricate natural gas compressors for our
customers to meet their unique specifications based on well pressure, production
characteristics and the particular applications for which compression is sought.
In order to meet the ongoing needs of our customers for whom we custom
fabricate, we offer a variety of services, including: (i) engineering,
manufacturing and fabrication of the compressors; (ii) installation and testing
of compressors; (iii) ongoing performance review to assess the need for a change
in compression: and (iv) periodic maintenance and parts replacement. We receive
revenue for each service.
MAINTENANCE
Although natural gas compressors generally do not suffer significant
technological obsolescence, they do require routine maintenance and periodic
refurbishing to prolong their useful life. Routine maintenance includes
alignment and compression checks and other parametric checks indicate a change
in the condition of
35
the compressors. In addition, oil and wear-particle analysis is performed on all
compressors. Overhauls are done on a condition-based interval or a time-based
schedule. Based on our past experience, these maintenance procedures maximize
component life and unit availability and minimize downtime.
As of June 30, 2002, we had written maintenance agreements with third
parties relating to 79 compressors. Each written maintenance agreement expires
on December 31, 2005. During our year ended December 31, 2001, and the six
months ended June 30, 2002, we received revenue of approximately $704,000
(approximately 8% of our total consolidated revenue) and $530,000 (approximately
10% of our total consolidated revenue), respectively, from maintenance
agreements.
EXCHANGE AND REBUILD PROGRAM
We have established an exchange and rebuild program to attempt to help
minimize costs and maximize our customers' revenue. This program is designed for
operations with rotary screw compressors where downtime and lost revenue are
critical.
Under the program, we work with our customer's maintenance and
operating personnel to identify and quantify equipment for exchange. When we
receive a compressor for exchange due to a problem with the compressor, we
deliver to our customer a replacement compressor at full price. We then rebuild
the exchange compressor and credit our customer with an amount based on the
value of the compressor we rebuild.
This program enables our customers to obtain replacement compressors
and shorten the time that the customer is unable to realize gas production from
one or more wells because of the lack of a compressor.
During our year ended December 31, 2001, and the six months ended June
30, 2002, we received revenue of approximately $402,000 (approximately 5% of our
total consolidated revenue) and approximately $314,000 (approximately 6% of our
total consolidated revenue), respectively, from exchanging and rebuilding rotary
screw compressors for our customers.
RETROFITTING SERVICE
We recognize the capital invested by our customers in compressors. We
also recognize that producing wells and gas gathering systems change
significantly during their operating life. To meet these changing conditions and
help our customers maximize their operating income, we offer a retrofitting
service by repackaging a customer's compressor with a compressor that meets our
customer's changed conditions.
THE FLARE BUSINESS
The drilling for and production of oil and gas results in certain
gaseous hydrocarbon byproducts that generally must be burned off at the source.
Although flares and flare systems have been part of the oilfield and
petrochemical environment for many years, increasing regulation of emissions has
resulted in a significant increase in demand for flare systems of increasingly
complex design meeting new environmental regulations. Growth is primarily
related, as is the case for most industries connected with oil and gas, to the
price of oil and gas and new environmental regulations.
We design, manufacture, install and service flare stacks and related
ignition and control devices for the onshore and offshore burning of gas
compounds such as hydrogen sulfide, carbon dioxide, natural gas and liquified
petroleum gases. We produce two ignition systems for varied applications: (a) a
standing jet-like pipe for minimal fuel consumption, with a patented electronic
igniter; and (b) an electronic sparked ignition system. Flare tips are available
in carbon steel as well as many grades of stainless steel alloys. The stacks can
be free standing, guyed, or trailer mounted. The flare stack and ignition
systems use a smokeless design for reduced emissions to meet or exceed
government regulated clean air standards. Our product line includes
solar-powered flare ignition systems and thermocouple control systems designed
to detect the loss of combustion in the product stream and reignite the product
stream. These products contain specially-designed combustion tips and utilize
pilot flow Venturi tubes to maximize the efficient burning of waste gas with a
36
minimal use of pilot or assist gas, thereby minimizing the impact on the
environment of the residual output. Increased emphasis on "clean air" and
industry emissions has had a positive effect on the flare industry. Our broad
energy industry experience has allowed us to work closely with our customers to
seek cost-effective solutions to their flare requirements.
During the year ended December 31, 2001, and the six months ended June
30, 2002, we sold 54 and 20 flare systems. respectively, to our customers
generating approximately $703,000 (approximately 8% of our total consolidated
revenue) and $562,000 (approximately 11% of our total consolidated revenue) in
revenue, respectively.
MAJOR CUSTOMERS
During our year ended December 31, 2001, sales to Dominion Exploration
& Production, Inc., an affiliate of Dominion Resources, Inc., amounted to
approximately 26% and during our year ended December 31, 2000, sales to the same
customer amounted to approximately 12% of our consolidated revenue. No other
single customer accounted for more than 10% of our revenue in either of those
two years.
During the six months ended June 30, 2002, sales to Dominion
Exploration & Production, Inc. amounted to approximately 37% of our consolidated
revenue and during the six months ending June 30, 2001, sales to the same
customer amounted to approximately 15% of our consolidated revenue. No other
single customer accounted for more than 10% of our revenue during these periods.
BACKLOG
We had a backlog of approximately $692,000 as of June 30, 2002 as
compared to approximately $476,000 as of the same date in 2001. Backlog consists
of firm customer orders for which a purchase order has been received,
satisfactory credit or a financing arrangement exists, and delivery is
scheduled. Our backlog at June 30, 2002, includes sales to outside third parties
and does not include the backlog that we may receive from the lease or sale of
compressors over the next four years to Dominion Exploration.
CONTINUING PRODUCT DEVELOPMENT
We engage in a continuing effort to improve our compressor and flare
operations. Continuing development activities in this regard include new and
existing product development testing and analysis, process and equipment
development and testing, and product performance improvement. We also focus our
activities on reducing overall costs to the customer, which include the initial
capital cost for equipment, the monthly leasing cost if applicable, and the
operating costs associated with such equipment, including energy consumption,
maintenance costs and environmental emissions.
During our years ended December 31, 2001, and December 31, 2000, we did
not spend any material amounts on research and development activities. Rather,
product improvements were made as a part of our normal operating activities.
SALES AND MARKETING
General. We conduct our operations from two locations. These locations,
with exception of our executive offices, maintain an inventory for local
customer requirements, trained service technicians, and manufacturing
capabilities to provide quick delivery and service for our customers. Our sales
force also operates out of these locations and focuses on communication with our
customers and potential customers through frequent direct contact, technical
assistance, print literature, direct mail and referrals. Our sales and marketing
is performed by 6 employees.
Additionally, our personnel coordinate with each other to develop
relationships with customers who operate in multiple regions. Our sales
personnel maintain intensive contact with our operations personnel in order to
promptly respond to and address customer needs. Our overall sales efforts
concentrate on
37
demonstrating our commitment to enhancing the customer's cash flow through
enhanced product design, fabrication, manufacturing, installation, customer
service and support.
During the years ended December 31, 2001 and 2000, we spent
approximately $56,000 and approximately $12,000, respectively, on advertising.
During the six months ended June 30, 2002 and 2001, we spent
approximately $27,000 and approximately $32,000, respectively, on advertising.
Compression Activity. The compression marketing program emphasizes our
ability to design and fabricate natural gas compressors in accordance with the
customer's unique specifications and to provide all necessary service for such
compressors.
Flare Systems Activity. The flare systems marketing program emphasizes
our ability to design, manufacture, install and service flares with the updated
technology.
COMPETITION
Compression Activity. The natural gas compression business is
competitive. We experience competition from companies with greater financial
resources. On a regional basis, we experience competition from several smaller
companies that compete directly with us. We have a number of competitors in the
natural gas compression segment, but we do not have sufficient information to
determine our competitive position within that group. We believe that we compete
effectively on the basis of price, customer service, including the ability to
place personnel in remote locations, flexibility in meeting customer needs and
quality and reliability of our compressors and related services.
Compressor industry participants can achieve significant advantages
through increased size and geographic breadth. As the number of rental
compressors in our rental fleet increases, the number of sales, support, and
maintenance personnel required and the minimum level of inventory does not
increase commensurately. As a result of economies of scale, we believe that we,
with a growing rental fleet, have relatively lower operating costs and higher
margins than smaller companies.
Flare Systems Activity. The flare business is highly competitive. We
have a number of competitors in the flare systems segment, but we do not have
sufficient information to determine our competitive position within that group.
We believe that we are able to compete by our offering products specifically
engineered for the customer's needs.
PROPERTIES
We maintain our executive offices in Midland, Texas. This facility is
owned by us and is used for manufacturing, fabrication, remanufacturing,
operations, testing, warehousing and storage, general and administrative
functions and training. Prior to September 2000 the facility was leased. The
aggregate rental expense was approximately $33,000 in 2000. We purchased the
building and land in September 2000 for approximately $329,000 (which includes
closing costs) from an unaffiliated party.
The facility in Midland is an approximately 24,600 square foot building
that provides us with sufficient space to manufacture, fabricate and test our
equipment on site and has land available to expand the building when needed. Our
current facilities in Midland are anticipated to provide us with sufficient
space and capacity for at least the next year and thus there are no current
plans to open new locations, unless they are acquired as a result of any future
acquisitions.
The facilities in Lewiston, Michigan consist of a total of
approximately 15,360 square feet. Approximately 9,360 square feet are used as
offices and a repair shop and approximately 6,000 square feet are used for
manufacturing and fabrication of compressors and storage.
38
We also own an approximate 4,100 square foot building in Midland that
is leased at a current rate of $1,000 per month to an unaffiliated party
pursuant to a lease that terminates in May 2005. This facility previously
contained our executive offices and manufacturing and fabrication operations.
We believe that our properties are generally well maintained and in
good condition.
LIABILITY AND OTHER INSURANCE COVERAGE
Our equipment and services are provided to customers who are subject to
hazards inherent in the oil and gas industry, such as blowouts, explosions,
craterings, fires, and oil spills. We maintain liability insurance that we
believe is customary in the industry. We also maintain insurance with respect to
our facilities. Based on our historical experience, we believe that our
insurance coverage is adequate.
GOVERNMENT REGULATION
We are subject to numerous federal, state and local laws and
regulations relating to the storage, handling, emission and discharge of
materials to the environment, including the Comprehensive Environmental
Response, Compensation and Liability Act, the Clean Water Act, the Clean Air Act
and the Resource Conservation and Recovery Act. As a result of our operations,
we generate or manage hazardous wastes, such as solvents, thinner, waste paint,
waste oil, washdown wastes and sandblast material. We currently spend a
negligible amount each year to dispose of the wastes. Although we attempt to
identify and address contamination before acquiring properties, and although we
attempt to utilize generally accepted operating and disposal practices,
hydrocarbons or other wastes may have been disposed of or released on or under
properties owned, leased, or operated by us or on or under locations where such
wastes have been taken for disposal. These properties and the wastes or remedial
sites where they have been released might have to be remediated at our expense.
We believe that our existing environmental control procedures are
adequate and we have no current plans for substantial operating or capital
expenditures relating to environmental control requirements. We believe that we
are in substantial compliance with environmental laws and regulations and that
the phasing in of emission controls and other known regulatory requirements at
the rate currently contemplated by such laws and regulations will not have a
material adverse affect on our financial condition or operational results. Some
risk of environmental liability and other costs are inherent in the nature of
our business, however, and there can be no assurance that environmental costs
will not rise. Moreover, it is possible that future developments, such as
increasingly strict requirements and environmental laws and enforcement policies
thereunder, could lead to material costs of environmental compliance by us.
While we may be able to pass on the additional cost of complying with such laws
to our customers, there can be no assurance that attempts to do so will be
successful.
PATENTS, TRADEMARKS AND OTHER INTELLECTUAL PROPERTY
We believe that the success of our business depends more on the
technical competence, creativity and marketing abilities of our employees than
on any individual patent, trademark, or copyright. Nevertheless, as part of our
ongoing research, development and manufacturing activities, we have a policy of
seeking patents when appropriate on inventions concerning new products and
product improvements. We currently own two United States patents covering
certain flare system technologies, which expire in May 2006 and in January 2010,
respectively. We do not own any foreign patents. Although we continue to use the
patented technology and consider it useful in certain applications, we do not
consider these patents to be material to our business as a whole.
SUPPLIERS AND RAW MATERIALS
With respect to our flare system and compressor operations, our raw
materials used consist of cast and forged iron and steel. Such materials are
generally available from a number of suppliers, and accordingly, we
39
are not dependent on any particular supplier for these new materials. We
currently do not have long term contracts with our suppliers of raw materials,
but believe our sources of raw materials are reliable and adequate for our
needs. We have not experienced any significant supply problems in the past.
Certain of our components of our compressors are obtained primarily
from two suppliers. If either one of our current major suppliers should curtail
its operations or be unable to meet our needs, we would encounter delays in
supplying our customers with compressors until an alternative supplier could be
found. We may not be able to find acceptable alternative suppliers.
EMPLOYEES
As of June 30, 2002, we had 70 employees, of which 12 are employed in
administration, 5 in sales and marketing, 39 in technical and manufacturing
capacities and 14 in field services. All 70 of our employees at June 30, 2002,
were employed on a full-time basis. No employees are represented by labor unions
and we believe that our relations with our employees are satisfactory.
LEGAL PROCEEDINGS
There are no pending or, to our knowledge, threatened claims against
us. However, from time to time, we expect to be subject to various legal
proceedings, all of which are of an ordinary or routine nature and incidental to
our operations. Such proceedings have not in the past, and we do not expect they
will in the future have, a material impact on our results of operations or
financial condition.
40
MANAGEMENT
EXECUTIVE OFFICERS AND DIRECTORS
The table below contains information about our executive officers and
directors:
<Table>
<Caption>
NAME AGE POSITION
---- --- --------
Wallace O. Sellers(1)(2) 72 Director, Chairman
Wayne L. Vinson 43 Director and President
Scott W. Sparkman 40 Director and Secretary
Charles G. Curtis(1)(2) 69 Director
James T. Grigsby(1)(2) 54 Director
Alan P. Kurus 49 Vice President - Sales and Marketing
Earl R. Wait 58 Chief Financial Officer and Treasurer
</Table>
- ----------
(1) Member of our audit committee
(2) Member of our compensation committee
The Board of Directors has been divided into three classes with
directors serving staggered three-year terms expiring at the annual meeting of
stockholders in 2002, 2003 and 2004, respectively. At each annual meeting of
stockholders, one class of directors is elected for a full term of three years
to succeed those directors in the class whose term is expiring. With respect to
the existing Board of Directors, the terms of Mr. Curtis and Mr. Sellers will
expire in 2005, the terms of Mr. Sparkman and Mr. Grigsby will expire in 2003;
and the term of Mr. Vinson in 2004. All officers serve at the discretion of the
Board of Directors.
The following sets forth biographical information for at least the past
five years for our directors and executive officers.
WALLACE O. SELLERS is one of our founders and has served as a director
and the Chairman of our Board of Directors since December 17, 1998, and as the
Chairman of the Board of Directors of Great Lakes Compression since February
2001. Although Mr. Sellers retired in December 1994, he served as Vice-Chairman
of the Board and Chairman of the Executive Committee of Enhance Financial
Services, Inc., a financial guaranty reinsurer, from January 1995 to 2001. From
November 1986 to December 1991 he was President and Chief Executive Officer of
Enhance. Mr. Sellers serves as a director of Danielson Holding Corp., an
insurance holding company which is a reporting company under the Securities
Exchange Act of 1934. From 1951 to 1986 Mr. Sellers was employed by Merrill
Lynch, Pierce, Fenner & Smith Incorporated, an investment banker, in various
capacities, including Director of the Municipal and Corporate Bond Division and
Director of the Securities Research Division. Immediately prior to his
retirement from Merrill Lynch, he served as Senior Vice President and Director
of Strategic Development. Mr. Sellers received a BA degree from the University
of New Mexico, an MA degree from New York University and attended the Advanced
Management Program at Harvard University. Mr. Sellers is a Chartered Financial
Analyst.
WAYNE L. VINSON has served as one of our directors since April 2000, as
our President since July 2001, as our Executive Vice President from October 31,
2000 to July 2001, as the President of Rotary (and its predecessor, Hi-Tech)
since February 1994, as a director of NGE between 1996 and 1998 and as Executive
Vice President of Great Lakes Compression since February 2001. He also served as
our Vice President from April 2000 to October 2000. From January 1990 to June
1995, Mr. Vinson served as Vice President and since June 1995 he has served as
President of Vinson Operating Company, an oil and gas well operator. Mr. Vinson
has more than 22 years of experience in the energy services industry.
41
SCOTT W. SPARKMAN has been one of our directors since 1998, has served
as Executive Vice-President of NGE since July 2001, has served as a director
since December 1998 and as Secretary and Treasurer of NGE since March 1999 and
has served as the Secretary of Great Lakes Compression since February 2001. Mr.
Sparkman served as the President of NGE from December 1998 to July 2001. From
May 1997 to July 1998, Mr. Sparkman served as Project Manager and Comptroller
for Business Development Strategies, Inc., a designer of internet websites. Mr.
Sparkman pursued personal business interests from May 1996 to May 1997. From
February 1991 to May 1996, Mr. Sparkman served as Vice President and Director,
later as President and Director, of Diamond S Safety Services, Inc., a seller
and servicer of hydrogen sulfide monitoring equipment. Mr. Sparkman filed for
personal bankruptcy in 1998 as a result of personal debt created when there was
a decline in the need for the oilfield services that were provided by a company
that was owned by Mr. Sparkman. He received a BBA degree from Texas A&M
University.
CHARLES G. CURTIS has been one of our directors since April 2001. Since
1992, Mr. Curtis has been the President and Chief Executive Officer of Curtis
One, Inc. d/b/a/ Roll Stair, a manufacturer of aluminum and steel mobile stools
and mobile ladders. From 1988 to 1992, Mr. Curtis was the President and Chief
Executive Officer of Cramer, Inc. a manufacturer of office furniture. Mr. Curtis
has a B.S. degree from the United States Naval Academy and a MSAE degree from
the University of Southern California.
JAMES T. GRIGSBY has served as one of our directors since 1999 and as
one of the directors of Great Lakes Compression since February 2001. Since 1996,
Mr. Grigsby has been a director of and a consultant to Blue River Paint Co., a
development stage environmental friendly coatings technology company. From 1996
to 1997, Mr. Grigsby was a consultant to Outlook Window Partnership, a regional
wood window manufacturer. From 1989 to 1996, Mr. Grigsby was President and Chief
Executive Officer of Seal Right Windows, Inc. and Chief Executive Officer of
Oldach Window Corp., manufacturers of wood, wood-clad and vinyl windows and
doors. Mr. Grigsby received a BS degree from the University of Michigan and an
MBA degree from Stanford University.
ALAN P. KURUS has served as our Vice President - Sales and Marketing
since March 2001 and one of our employees since October 2000. From 1997 to 2000,
Mr. Kurus was Vice President - Sales and Marketing of CompAir Americas, a
manufacturer of compressors. From 1993 to 1997, Mr. Kurus was the Director of
Sales for Le ROI International, a manufacturer of compressors.
EARL R. WAIT has served as our Chief Financial Officer since May 2000
and our Treasurer since 1998. Mr. Wait was our Chief Accounting Officer from
1998 to May 2000. Mr. Wait has been the Chief Financial Officer and
Secretary/Treasurer of Flare King and then Rotary since April 1993, the
Assistant Secretary/Treasurer for Hi-Tech since June 1996, the Controller and
Assistant Secretary/Treasurer for Hi-Tech from 1994 to 1999, a director of NGE
since July 1999 and the Chief Accounting Officer and Treasurer of Great Lakes
Compression since February 2001. Mr. Wait is a certified public accountant with
an MBA in management and has more than 25 years of experience in the energy
industry.
The following sets forth biographical information for at least the past
five years for two of our employees whom we consider to be key employees.
WALLACE C. SPARKMAN, age 72, is one of our founders and has been the
President of NGE since July 2001, a director of NGE since February 1996, the
President of Rotary (and its predecessor, Flare King) from April 1993 to April
1997. Mr. Sparkman served as our President from May 2000 to July 2001 and as the
President of Great Lakes Compression from February 2001 to July 2001. Mr.
Sparkman was Vice President of NGE from February 1996 to November 1999. Since
December 1998, Mr. Sparkman has acted as a consultant to our Board of Directors.
From 1985 to 1998, Mr. Sparkman acted as a management consultant to various
entities and acted as a principal in forming several privately-owned companies.
Mr. Sparkman was a co-founder of Sparkman Energy Corporation, a natural gas
gathering and transmission company, in 1979 and served as its Chairman of the
Board, President and Chief Executive Officer until 1985, when ownership control
changed. From 1968 to 1979, Mr. Sparkman held various executive positions and
served as a director of Tejas Gas Corporation, a natural gas gathering and
transmission company. At the time of his resignation
42
from Tejas Gas Corporation in 1979, Mr. Sparkman was President and Chief
Executive Officer. Mr. Sparkman has more than 34 years of experience in the
energy service industry.
RONALD D. BINGHAM, age 57, has served as the President of Great Lakes
Compression since 2001. From March 2001 to July 2001, Mr. Bingham was the
General Manager of Great Lakes Compression. From January 1989 to March 2001, Mr.
Bingham was the District Manager for Waukesha Pearce Industries, Inc., a
distributor of Waukesha natural gas engines. Mr. Bingham is a member of the
Michigan Oil and Gas Association and received a bachelors degree in Graphic Arts
from Sam Houston State University.
All of the officers and key employees devote substantially all of their
working time to our business.
43
EXECUTIVE COMPENSATION
The following table sets forth information regarding the compensation
paid during the years ended December 31, 2001, 2000 and 1999 by us to Wayne L.
Vinson and Earl R. Wait, our only executive officers whose combined salary and
bonuses exceeded $100,000 during the year ended December 31, 2001, and to
Wallace C. Sparkman, who was our chief executive officer until July 25, 2001.
<Table>
<Caption>
LONG-TERM
ANNUAL COMPENSATION COMPENSATION AWARDS
------------------- -------------------
NAME
PRINCIPAL POSITION YEAR SALARY BONUS SECURITIES UNDERLYING OPTIONS
------------------ ---- --------- -------- -----------------------------
Wayne L. Vinson 2001 $ 102,692 $ 25,583 -0- (1)
Executive Vice President 2000 74,423 25,604 -0-
until 7/25/01 1999 60,000 47,168 -0-
President since 7/25/01
Earl R. Wait 2001 85,385 23,164 -0-
Chief Financial Officer 2000 80,088 7,416 -0-
1999 60,000 21,616 -0-
Wallace C. Sparkman 2001 98,583 (2) -0- 21,467 (3)
President until 7/25/01 2000 60,750 (2) -0- -0-
President of NGE since 1999 21,770 (2) -0- -0-
7/25/01
</Table>
- ----------
(1) CAV-RDV, Ltd., a Texas limited partnership for the benefit of the
children of Wayne L. Vinson, was issued a five year warrant to purchase
15,756 shares of our common stock at $2.50 per share in consideration
for CAV-RDV, Ltd. guaranteeing a portion of our debt. The children are
eighteen years old or older and Mr. Vinson is not a partner in CAV-RDV,
Ltd. and disclaims beneficial ownership of the warrants.
(2) This amount was paid as a management or consulting fee to a corporation
in which Mr. Sparkman is the sole shareholder.
(3) Wallace C. Sparkman subsequently transferred his warrants for 21,467
shares to Diamond S. DGT, a trust of which Scott W. Sparkman is the
trustee and a beneficiary. Wallace C. Sparkman has represented to us
that he has no beneficial interest in Diamond S. DGT.
We have established a bonus program for our officers. At the end of
each of our fiscal years, our Board of Directors reviews our operating history
and determines whether or not any bonuses should be paid to our officers. If so,
the Board of Directors determines what amount should be allocated to each of two
bonus pools. The first bonus pool is payable directly to officers recommended by
the Compensation Committee to the Board of Directors based upon the officers'
percentages of annual salaries. The second bonus pool is paid
44
to officers based upon an evaluation process whereby the officers evaluate each
other. The Board of Directors may discontinue the bonus program at any time.
No options or warrants were granted by us to Wayne L. Vinson or Earl R.
Wait during our fiscal year ended December 31, 2001. The following table
provides information with respect to warrants granted during our fiscal year
ended December 31, 2001, to Wallace C. Sparkman.
OPTION AND WARRANT GRANTS IN LAST FISCAL YEAR
<Table>
<Caption>
Percent
of Total
Options and
Number of Warrants
Shares Granted to
Underlying Employees Grant Prospectus
Warrants In Fiscal Exercise Expiration Date Date
Name Granted Year Price Date Value Value
- ---- ---------- ----------- -------- ---------- ------ ----------
Wallace C. Sparkman 21,467 100% $2.50 12/31/06 $7,309 $80,730
</Table>
We utilize the Black-Scholes option pricing model to calculate the
grant date and prospectus date fair value of each individual option grant.
Assumed prices of $2.00 per share and $5.75 per share were used for the grant
date and prospectus date fair values, respectively. The following additional
assumptions were utilized in calculating the values: expected average annual
volatility of 17.8%; average annual risk-free interest rate of 5.0%; and
expected terms of five years.
AGGREGATE OPTION EXERCISES IN LAST FISCAL YEAR AND FISCAL YEAR END OPTION VALUES
<Table>
<Caption>
Fiscal Year End Option Values
-----------------------------
Number of Securities Value of Unexercised
Shares Underlying Unexercised In-the-Money Warrants
Acquired Value Warrants at Fiscal Year End at Fiscal Year End
Name On Exercise Received Exercisable/Unexercisable Exercisable/Unexercisable
- ---- ----------- -------- --------------------------- -------------------------
Wayne L. Vinson 0 0 0/0 0/0
Earl R. Wait 0 0 0/0 0/0
Wallace C. Sparkman 0 0 21,467/0 $69,767/0
</Table>
The fiscal year end option value is based on an assumed initial public
offering price of $5.75 per share of common stock less the exercise price of the
warrant.
COMPENSATION OF DIRECTORS
Our directors who are not employees are paid $1,000 per quarter and at
December 31 of each year will be issued a five year option to purchase 2,500
shares of our common stock at the then market value. We also reimburse our
directors for accountable expenses incurred on our behalf.
EMPLOYMENT AGREEMENTS
We have entered into an employment agreement with Wayne L. Vinson that
was in effect until December 31, 2001, and now continues indefinitely unless
terminated on 90 days written notice by either Mr.
45
Vinson or us. We have agreed to pay Mr. Vinson an annual minimum compensation of
$120,000 and an annual bonus to be determined at the discretion of the
directors.
We have entered into an employment agreement with Earl R. Wait that is
in effect until September 30, 2002. We have agreed to pay Mr. Wait an annual
minimum compensation of $90,000 and an annual bonus to be determined at the
discretion of the directors.
1998 STOCK OPTION PLAN
We have adopted the 1998 Stock Option Plan which provides for the
issuance of options to purchase up to 150,000 shares of our common stock. The
purpose of the plan is to attract and retain the best available personnel for
positions of substantial responsibility and to provide additional incentive to
employees and consultants and to promote the success of our business. The plan
is administered by the Board of Directors or a compensation committee consisting
of two or more non-employee directors, if appointed. At its discretion, the
administrator of the plan may determine the persons to whom options may be
granted and the terms upon which such options will be granted. In addition, the
administrator of the plan may interpret the plan and may adopt, amend and
rescind rules and regulations for its administration. Options to purchase 12,000
shares of our common stock at an exercise price of $2.00 per share and options
to purchase 42,000 shares of our common stock at an exercise price of $3.25 per
share have been granted under the plan and are outstanding.
LIMITATIONS ON DIRECTORS' AND OFFICERS' LIABILITY
Our Articles of Incorporation provide our officers and directors with
certain limitations on liability to us or any of our shareholders for damages
for breach of fiduciary duty as a director or officer involving certain acts or
omissions of any such director or officer.
This limitation on liability may have the effect of reducing the
likelihood of derivative litigation against directors and officers and may
discourage or deter shareholders or management from bringing a lawsuit against
directors and officers for breach of their duty of care even though such an
action, if successful, might otherwise have benefited us and our shareholders.
Our Articles of Incorporation and bylaws provide certain
indemnification privileges to our directors, employees, agents and officers
against liabilities incurred in legal proceedings. Also, our directors,
employees, agents or officers who are successful, on the merits or otherwise, in
defense of any proceeding to which he or she was a party, are entitled to
receive indemnification against expenses, including attorneys' fees, incurred in
connection with the proceeding.
Insofar as indemnification for liabilities arising under the Securities
Act may be permitted to our directors, officers and controlling persons pursuant
to the foregoing provisions, or otherwise, we have been advised that in the
opinion of the Securities and Exchange Commission such indemnification is
against public policy as expressed in the Securities Act and is, therefore,
unenforceable.
We are not aware of any pending litigation or proceeding involving any
of our directors, officers, employees or agents as to which indemnification is
being or may be sought, and we are not aware of any other pending or threatened
litigation that may result in claims for indemnification by any of our
directors, officers, employees or agents.
46
PRINCIPAL SHAREHOLDERS
The following table sets forth, as of the date hereof, the beneficial
ownership of our common stock: (i) by each of our directors and executive
officers and by Wallace C. Sparkman; (ii) by all of our executive officers and
directors as a group; and (iii) by all persons known by us to beneficially own
more than five percent of our common stock.
<Table>
<Caption>
SHARES OF PERCENT BENEFICIALLY OWNED
COMMON STOCK ----------------------------------------
NAME AND ADDRESS BENEFICIALLY OWNED BEFORE OFFERING AFTER OFFERING
- ---------------- ------------------ --------------- --------------
Wallace O. and Naudain Sellers 685,659(1) 20.2% 13.6%
P.O. Box 106, 6539 Upper York Road
Solebury, PA 18963-0106
Wayne L. Vinson 0(2) 0.0% 0.0%
4404 Lennox Drive
Midland, TX 79707
Scott W. Sparkman 516,467(3) 15.3% 10.3%
1604 Ventura Avenue
Midland, TX 79705
Charles G. Curtis 58,000(4) 1.7% 1.1%
1 Penrose Lane
Colorado Springs, CO 80906
James T. Grigsby 60,000 1.8% 1.2%
3345 Grimsby Lane
Lincoln, NE 68502
Alan P. Kurus 31,704(5) 1.0% 0.6%
2000 Centerview
Midland, TX 79706
Earl R. Wait 60,000(6) 1.8% 1.2%
109 Seco
Portland, TX 78374
Wallace C. Sparkman 165,691(7) 4.9% 3.3%
4906 Oakwood Court
Midland, TX 79707
All directors and executive officers as a group 1,411,830 40.3% 27.4%
(seven persons)
CAV-RDV, Ltd. 491,324(2) 14.6% 9.8%
1541 Shannon Drive
Lewisville, TX 75077
RWG Investments LLC 394,000(8) 11.3% 7.6%
5980 Wildwood Drive
Rapid City, SD 57902
Richard L. Yadon 294,183(9) 8.7% 5.9%
P.O. Box 8715
Midland, TX 79708-8715
</Table>
47
- ----------
(1) Includes 300,000 shares of common stock owned by the Wallace Sellers,
July 11, 2002 GRAT, warrants to purchase 21,936 shares of common stock
and 9,032 shares of common stock at $ 2.50 per share and at $3.25 per
share, respectively, owned by Wallace Sellers, 34,691 shares of common
stock owned by Naudain Sellers, and 300,000 shares of common stock
owned by the Naudain Sellers, July 11, 2002 GRAT. Wallace and Naudain
Sellers are husband and wife. Wallace Sellers is the trustee of his
wife's trust and his wife is the trustee of his trust. The
beneficiaries of the trusts are two trusts. The beneficiaries of one
trust are Naudain Sellers and their three children and the
beneficiaries of the other trust are their three children.
(2) CAV-RDV, Ltd., a Texas limited partnership for the benefit of the
children of Wayne L. Vinson, owns 470,250 shares of common stock and
warrants to purchase 15,756 shares of common stock at $2.50 per share
and 2,122 shares of common stock at $3.25 per share, respectively. Both
children are 18 years old or older and Mr. Vinson is not a partner in
CAV-RDV, Ltd. Mr. Vinson disclaims beneficial ownership of any of the
shares of common stock.
(3) Includes 20,000 shares of common stock owned by Scott W. Sparkman and
475,000 shares of common stock and warrants to purchase 21,467 shares
of common stock at $2.50 per share owned by Diamond S DGT, a trust for
which Mr. Sparkman is a co-trustee and co-beneficiary with his sister.
(4) Represents warrants to purchase 40,000 shares of common stock at $3.25
per share and 18,000 shares of common stock which may be obtained upon
conversion of shares of our 10% Convertible Series A Preferred Stock.
(5) Represents warrants to purchase 31,704 shares of common stock at $3.25
per share owned by Mr. Kurus' individual retirement account but does
not include options to purchase 9,000 shares of common stock at $3.25
per share that do not begin to vest until April 2003.
(6) Does not include options to purchase 15,000 shares of common stock at
$3.25 per share that do not begin to vest until April 2003.
(7) Includes 105,691 shares owned by Diamente Investments, LLP, a Texas
limited partnership of which Mr. Sparkman is a general and limited
partner.
(8) Includes an option to purchase 100,000 shares of common stock at $2.00
per share, warrants to purchase 32,000 shares of common stock at $3.25
per share and 12,000 shares of common stock which may be obtained upon
conversion of shares of our 10% Convertible Series A Preferred Stock.
RWG Investments LLC is a limited liability company the beneficial owner
of which is Roland W. Gentner, 5980 Wildwood Drive, Rapid City, South
Dakota 57902.
(9) Includes warrants to purchase 14,683 shares of common stock at $2.50
per share.
48
CERTAIN TRANSACTIONS
In March 2001, we issued warrants that will expire on December 31,
2006, to purchase shares of our common stock at $2.50 per share to the following
persons for guaranteeing the amount of our debt indicated:
<Table>
<Caption>
NUMBER OF SHARES AMOUNT OF
NAME UNDERLYING WARRANTS DEBT GUARANTEED
---- ------------------- ---------------
Wallace O. Sellers 21,936 $548,399
Wallace C. Sparkman(1) 21,467 536,671
CAV-RDV, Ltd.(2) 15,756 393,902
Richard L. Yadon 9,365 234,121
</Table>
- ----------
(1) Wallace C. Sparkman subsequently transferred his warrants for 21,467
shares to Diamond S DGT, a trust of which Scott W. Sparkman is the
trustee and a beneficiary. Wallace C. Sparkman has represented to us
that he has no beneficial interest in Diamond S DGT.
(2) CAV-RDV, Ltd., is a Texas limited partnership for the benefit of the
children of Wayne L. Vinson. Both children are eighteen years old or
older and Mr. Vinson is not a partner in CAV-RDV, Ltd. Mr. Vinson
disclaims beneficial ownership of the warrants.
In April 2002, we issued five year warrants to purchase shares of our
common stock at $3.25 per share to the following persons for guaranteeing our
restructured bank debt indicated:
<Table>
<Caption>
NUMBER OF SHARES AMOUNT OF ADDITIONAL
NAME UNDERLYING WARRANTS DEBT GUARANTEED
---- ------------------- --------------------
Wallace O. Sellers 9,032 $ 451,601
CAV-RDV, Ltd.(1) 2,122 106,098
Richard L. Yadon 5,318 265,879
</Table>
- ----------
(1) CAV-RDV, Ltd., is a Texas limited partnership for the benefit of the
children of Wayne L. Vinson. Both children are eighteen years old or
older and Mr. Vinson is not a partner in CAV-RDV, Ltd. Mr. Vinson
disclaims beneficial ownership of the warrants.
Wayne L. Vinson, Earl R. Wait and Wallace C. Sparkman have also
guaranteed approximately $197,000, $84,000 and $92,000, respectively, of
additional debt for us without consideration. This debt was incurred when we
acquired vehicles, equipment and software. The following schedule provides
information as to the remaining debt balances as of June 30, 2002:
<Table>
<Caption>
BALANCE AT INTEREST MATURITY
GUARANTOR JUNE 30, 2002 RATE DATE
--------- ------------- -------- -----------
Earl Wait $ 22,983 1.90% 3/26/2004
Earl Wait 50,153 10.50% 10/10/2005
Wallace Sparkman 84,405 10% 10/15/2010
Wayne Vinson 5,248 9.50% 12/15/2002
Wayne Vinson 5,879 Prime + 1.0% 7/15/2003
Wayne Vinson 20,636 1.90% 4/22/2004
Wayne Vinson 10,563 7.50% 6/21/2004
</Table>
49
In October, 1999, RWG Investments, LLC was granted a five year option
to purchase 100,000 shares of our common stock at $2.00 per share in
consideration of one of its members serving as an advisor to us.
Hunter Wise Financial Group LLC served as our investment banker and
advisor in connection with our acquisition of the compression related assets of
Dominion Michigan for which we paid Hunter Wise a total fee of $440,000. James
T. Grigsby, one of our directors, has a 1% interest in Hunter Wise.
Charles G. Curtis, one of our directors, Alan P. Kurus, one of our
officers, and RWG Investments, LLC, a beneficial owner of more than 5% of our
outstanding stock, purchased our notes and five year warrants to purchase common
stock in a private offering that commenced in October 2000 and concluded in May
2001. Mr. Curtis purchased $100,000 of the notes and warrants, Mr. Kurus
purchased approximately $79,000 of the notes and warrants and RWG Investments,
LLC purchased $80,000 of the notes and warrants. The notes and warrants
purchased by Mr. Curtis, Mr. Kurus and RWG Investments, LLC were on the same
terms and conditions as sales to non-affiliated purchasers in the private
offering.
Charles G. Curtis, one of our directors, and RWG Investments, LLC, a
beneficial owner of more than 5% of our outstanding stock, purchased 18,000
shares and 12,000 shares, respectively, or $58,500 and $39,000, respectively, of
our 10% Convertible Series A Preferred Stock in a private offering that
commenced in July 2001. The shares purchased by Mr. Curtis and RWG Investments,
LLC were on the same terms and conditions as sales to non-affiliated purchasers
in the private offering.
50
DESCRIPTION OF SECURITIES
THE FOLLOWING IS A SUMMARY DESCRIPTION OF ALL OF THE MATERIAL TERMS OF THE
SECURITIES SPECIFIED.
COMMON STOCK
We are authorized to issue up to 30,000,000 shares of our common stock,
$.01 par value. There are 3,357,632 shares of our common stock issued and
outstanding as of the date of this prospectus. All shares of our common stock
have equal voting rights and, when validly issued and outstanding, have one vote
per share in all matters to be voted upon by shareholders. The shares of common
stock have no preemptive, subscription, conversion or redemption rights and may
be issued only as fully paid and non-assessable shares. Cumulative voting in the
election of directors is not allowed, which means that the holders of a majority
of the outstanding shares represented at any meeting at which a quorum is
present will be able to elect all of the directors if they choose to do so and,
in such event, the holders of the remaining shares will not be able to elect any
directors. On liquidation, each common shareholder is entitled to receive a pro
rata share of the assets available for distribution to holders of common stock.
We have no stock option plan or similar plan which may result in the
issuance of stock options, stock purchase warrants, or stock bonuses other than
our 1998 Stock Option Plan pursuant to which an aggregate of 150,000 shares of
common stock have been reserved for issuance. Options to purchase 12,000 shares
of common stock with an average exercise price of $2.00 per share and options to
purchase 42,000 shares of our common stock at an exercise price of $3.25 per
share have been granted and are outstanding under the 1998 Stock Option Plan.
WARRANTS
Each warrant will entitle the holder to purchase one share of common
stock at an exercise price of $____ for a period of four years from the date
hereof subject to our redemption rights described below. The warrants will be
issued pursuant to the terms of a warrant agreement between us and the warrant
agent, Computershare Investor Services, Inc. We have authorized and reserved for
issuance the shares of common stock issuable on exercise of the warrants. The
warrants are exercisable to purchase a total of 1,650,000 shares of our common
stock unless the underwriters' over-allotment option relating to the warrants is
exercised, in which case the warrants are exercisable to purchase a total of
1,897,500 shares of common stock.
The warrant exercise price and the number of shares of common stock
purchasable upon exercise of the warrants are subject to adjustment in the event
of, among other events, a stock dividend on, or a subdivision, recapitalization
or reorganization of, the common stock, or the merger or consolidation of us
with or into another corporation or business entity.
Commencing one year from the date of this prospectus and until the
expiration of the warrants, we may redeem all outstanding warrants, in whole but
not in part, upon not less than 30 days' notice, at a price of $0.25 per
warrant, provided that the closing price of our common stock equals or exceeds
175% of the warrant exercise price ($____ per share) for 20 consecutive trading
days. The redemption notice must be provided not more than five business days
after conclusion of the 20 consecutive trading days in which the closing price
of the common stock equals or exceeds 175% of the warrant exercise price per
share. In the event we exercise our right to redeem the warrants, the warrants
will be exercisable until the close of business on the date fixed for redemption
in such notice. If any warrant called for redemption is not exercised by such
time, it will cease to be exercisable and the holder thereof will be entitled
only to the redemption price.
51
We must have on file a current registration statement with the SEC
pertaining to the common stock underlying the warrants in order for a holder to
exercise the warrants or in order for the warrants to be redeemed by us. The
shares of common stock underlying the warrants must also be registered or
qualified for sale under the securities laws of the states in which the warrant
holders reside. We intend to use our best efforts to keep the registration
statement current, but there can be no assurance that such registration
statement (or any other registration statement filed by us covering shares of
common stock underlying the warrants) can be kept current. In the event the
registration statement covering the underlying common stock is not kept current,
or if the common stock underlying the warrants is not registered or qualified
for sale in the state in which a warrant holder resides, the warrants may be
deprived of any value.
We are not required to issue any fractional shares of common stock upon
the exercise of warrants or upon the occurrence of adjustments pursuant to
anti-dilution provisions. We will pay to holders of fractional shares an amount
equal to the cash value of such fractional shares based upon the then-current
market price of a share of common stock.
The warrants may be exercised upon surrender of the certificate
representing such warrants on or prior to the expiration date (or earlier
redemption date) of such warrants at the offices of the warrant agent with the
form of "Election to Purchase" on the reverse side of the warrant certificate
completed and executed as indicated, accompanied by payment of the full exercise
price by check payable to the order of us for the number of warrants being
exercised. Shares of common stock issued upon exercise of warrants for which
payment has been received in accordance with the terms of the warrants will be
fully paid and nonassessable.
The warrants do not confer on the warrantholder any voting or other
rights of our shareholders. Upon notice to the warrantholders, we have the right
to reduce the exercise price or extend the expiration date of the warrants.
Although this right is intended to benefit warrantholders, to the extent we
exercise this right when the warrants would otherwise be exercisable at a price
higher than the prevailing market price of the common stock, the likelihood of
exercise, and the resultant increase in the number of shares outstanding, may
impede or make more costly a change in our control.
PREFERRED STOCK
We are authorized to issue up to a total of 5,000,000 shares of
preferred stock, $.01 par value. The shares of preferred stock may be issued in
one or more series from time to time with such designations, rights, preferences
and limitations as our Board of Directors may determine without the approval of
our shareholders. The rights, preferences and limitations of separate series of
preferred stock may differ with respect to such matters as may be determined by
our Board of Directors, including without limitation, the rate of dividends,
method or nature or prepayment of dividends, terms of redemption, amounts
payable on liquidation, sinking fund provisions, conversion rights and voting
rights. The ability of our Board of Directors to issue preferred stock could
also be used by it as a means for resisting a change in our control and can
therefore be considered an "anti-takeover" device. We currently have no plans to
issue any additional shares of preferred stock.
We designated 1,177,000, shares of our preferred stock as 10%
Convertible Series A Preferred Stock. In 2001 and 2002, 381,654 of these shares
were sold in a private offering. At our next Annual Meeting of Shareholders, we
plan to reduce the number of designated shares of Preferred Stock to the number
of shares of Preferred Stock actually sold in the offering and underlying the
warrants that were issued to the placement agent. The Preferred Stock has a
cumulative annual dividend rate of 10% in cash. The annual dividend rate is
payable 30 days after the end of each quarter beginning with the quarter ending
September 30, 2001, when and if declared by our Board of Directors. Each share
of Preferred Stock will be entitled to one vote per share with the holders of
our outstanding common stock on any matter voted on at a meeting of our
shareholders and to vote as a class on any matter required to be voted on by
classes under Colorado law. The Preferred Stock initially is convertible into
common stock on a one for one basis. The Conversion Price will be adjusted if at
any time we complete an offering of our common stock at a price equivalent to
less than 150% of the then Conversion Price of the Preferred Stock. The
Conversion Price will also be adjusted if any investment is made
52
in us at a price equivalent to less than the then Conversion Price of the
Preferred Stock. The Conversion Price may also be adjusted for stock splits,
stock dividends, certain reorganizations and certain reclassifications. The
Preferred Stock will automatically convert into our common stock at any time
after six months from the date hereof, if our common stock trades for 20
consecutive trading days after the six-month period at a price equivalent to
200% of the then Conversion Price (initially 200% is $6.50 per share).
The Preferred Stock has a per share liquidation preference of $3.25
plus accrued and unpaid dividends over our common stock.
SERIES A 10% SUBORDINATED NOTES DUE DECEMBER 31, 2006 AND OUTSTANDING OPTIONS
AND WARRANTS
At the present time, we have outstanding $1,539,260 of Series A 10%
Subordinated Notes due December 31, 2006. NGE, one of our subsidiaries, is the
primary obligor on the notes and we are the guarantor. Interest only on the
notes is payable annually on December 31. In addition, in conjunction with the
issuance of the notes, we issued five year warrants to purchase 677,274 shares
of common stock at $3.25 per share. In addition to those warrants, we have
outstanding options to purchase 112,000 shares of our common stock at $2.00 per
share, outstanding warrants to purchase 68,524 shares of our common stock at
$2.50 per share and outstanding warrants to purchase 38,165 shares of our 10%
Series A Preferred Stock at $3.25 per share.
ANTI-TAKEOVER PROVISIONS
Provisions of our Articles of Incorporation and bylaws could discourage
acquisition bids and cause our common stock and warrants to trade at discounts
to where they otherwise would trade.
Our articles of incorporation and bylaws contain provisions that may
discourage acquisition bids and may limit the price investors are willing to pay
for our common stock and warrants. Our Articles of Incorporation and bylaws
provide that:
o directors will be elected for three-year terms, with approximately
one-third of the board of directors standing for election each year;
o the unanimous vote of the board of directors or the affirmative vote
of the holders of not less than 80% of the votes entitled to be cast
by the holders of all shares entitled to vote in the election of
directors is required to change the size of the board of directors;
and
o directors may only be removed for cause by holders of not less than
80% of the votes entitled to be cast on the matter.
Our board of directors has the authority to issue up to five million
shares of preferred stock. The board of directors can fix the terms of the
preferred stock without any action on the part of our stockholders. The issuance
of shares of preferred stock may delay or prevent a change in control
transaction or could be used to put in place a poison pill. This may adversely
affect the market price and interfere with the voting and other rights of our
common stock.
TRANSFER AGENT, WARRANT AGENT AND REGISTRAR
We have retained Computershare Investor Services, Inc., 350 Indiana
Street, Suite 800, Golden, Colorado 80401, to serve as the transfer agent and
registrar for our common stock and as the warrant agent for the warrants.
53
SHARES ELIGIBLE FOR FUTURE SALE
On completion of this offering, we will have 5,007,632 shares of common
stock outstanding. If the underwriters' over-allotment option is exercised in
full, 5,255,132 shares of common stock will be outstanding. All of the shares of
common stock sold in this offering and any shares sold by us upon exercise of
the underwriters' over-allotment option will be freely tradeable without
restriction or further registration under the Securities Act, except that any
shares purchased by our "affiliates," as the term is defined in Rule 144,
generally only may be sold in compliance with the limitations of Rule 144
described below.
Of the 5,007,632 shares of common stock outstanding after this
offering, 3,017,691 shares will be freely tradable without restriction in the
public market, and 1,989,941 shares may be sold publicly only if registered
under the 1933 Act or sold in accordance with an exemption from the registration
requirements of the 1933 Act, such as Rule 144.
As of the date of this prospectus we had 36 holders of our common
stock. Prior to this offering, there has been no public market for our common
stock. We are unable to estimate the number of shares that may be sold in the
future by our existing shareholders or the effect, if any, that sales of shares
by such shareholders, or the availability of the shares for sale, will have on
the market price of the common stock prevailing from time to time. Sales of
substantial amounts of our common stock in the public market could adversely
affect prevailing market prices.
For purposes of Rule 144, an "affiliate" of us is a person that,
directly or indirectly through one or more intermediaries, controls, or is
controlled by or is under common control with, us. In general, under Rule 144, a
shareholder including an "affiliate," who has beneficially owned our shares for
at least one year is entitled to sell, within any three-month period, a number
of "restricted" shares that does not exceed the greater of:
o one percent of the then outstanding shares of our common stock, or
approximately 50,422 shares expected to be outstanding immediately
after this offering; or
o the average weekly trading volume in our common stock during the
four calendar weeks preceding the filing of the notice reporting the
sale.
Sales under Rule 144 are subject to manner of sale limitations, notice
requirements and the availability of current public information about us. Rule
144(k) provides that a person who is not deemed our "affiliate" and who has
beneficially owned our shares for at least two years is entitled to sell such
shares at any time under Rule 144 without regard to the limitations described
above. We estimate that approximately 1,367,691 outstanding shares of common
stock fall in this category.
As of the date of this prospectus, there were options and warrants
outstanding to purchase 916,270 shares of our common stock with a weighted
average exercise price of $3.04 and 381,654 shares of 10% Convertible Series A
Preferred Stock outstanding that are convertible into 381,654 shares of our
common stock. Each holder of our 10% Convertible Series A Preferred Stock has
agreed to not sell any of the 10% Convertible Series A Preferred Stock or the
common stock into which it is convertible for a period of 180 days after the
closing date of this offering without the prior written consent of the
representative of the underwriters.
There are 150,000 shares that have been authorized to be issued
pursuant to our 1998 Stock Option Plan. Following this offering, we may file a
registration statement on Form S-8 covering the 150,000 shares of common stock
issuable under our 1998 Stock Option Plan, thus permitting the resale of these
shares in the public market without restriction under the Securities Act other
than restrictions applicable to affiliates.
Our executive officers, directors, holders of five percent or more of
our common stock and three other persons have agreed, pursuant to lock-up
agreements relating to the transfer of shares of our common stock, that they
will not sell, transfer, hypothecate or convey any of our 2,710,132 shares of
common stock that they now own or shares of our common stock underlying
derivative securities they own by
54
registration or otherwise, for a period of 12 months from the date of this
prospectus without the prior written consent of the representative of the
underwriters. The representative of the underwriters has informed us that it has
no current intentions of releasing any shares subject to the aforementioned
lock-up agreements. Any determination by the representative of the underwriters
to release any shares subject to the lock-up agreements would be based on a
number of factors at the time of determination, including the market price and
trading volumes of the common stock, the liquidity of the trading market for the
common stock, general market conditions, the number of shares proposed to be
sold, and the timing, purpose and terms of the proposed sale. There are no
exceptions to the lock-up agreements except that individuals subject to the
lock-up agreements may dispose of shares as bona fide gifts to persons who also
enter into lock-up agreements that terminate 12 months after the date of this
prospectus.
55
UNDERWRITING
Subject to the terms and conditions of the underwriting agreement, the
underwriters named below, for which Neidiger, Tucker, Bruner, Inc. is acting as
the underwriters' representative, have agreed to purchase from us the number of
shares and warrants set forth opposite their names, and will purchase the shares
and warrants at the price to public less the underwriting discount set forth on
the cover page of this prospectus:
<Table>
<Caption>
UNDERWRITER NUMBER OF SHARES NUMBER OF WARRANTS
----------- ---------------- ------------------
Neidiger, Tucker, Bruner, Inc.
---------- ----------
Total 1,650,000 1,650,000
========== ==========
</Table>
The underwriting agreement provides that the underwriters' obligations
are subject to conditions precedent and that the underwriters are committed to
purchase all shares and warrants offered hereby (other than those covered by the
over-allotment option described below) if the underwriters purchase any shares
and warrants.
The representative has advised us that the underwriters propose to
offer the shares and warrants offered hereby directly to the public at the price
to public set forth on the cover page of this prospectus, and that they may
allow to certain dealers that are members of the National Association of
Securities Dealers, Inc., concessions not in excess of $_____. After the initial
public distribution, the prices of the shares of common stock and warrants may
change as a result of market conditions. No change in the terms will change the
amount of proceeds to be received by us as set forth on the cover page of this
prospectus. The representative has further advised us that the underwriters do
not intend to confirm sales to any accounts over which any of them exercise
discretionary authority.
We have agreed to pay the representative a nonaccountable expense
allowance of two percent of the aggregate public offering price of the shares
and warrants offered, including the price of shares of common stock and warrants
sold on exercise of the over-allotment option. We have paid $40,000 of the
nonaccountable expense allowance to the representative. We have also agreed to
pay all expenses in connection with qualifying the shares and warrants offered
hereby for sale under the laws of such states as the representative may
designate.
We have granted the underwriters options, exercisable for 60 days after
the date of this prospectus, to purchase up to 247,500 additional shares of
common stock and to purchase up to 247,500 additional warrants at the same
prices as the initial shares of common stock and warrants offered. The
underwriters may purchase the shares of common stock and warrants solely to
cover over-allotments, if any, in connection with the sale of shares of shares
and warrants offered hereby. If the over-allotment options are exercised in
full, the total public offering price, underwriting discounts and gross proceeds
to us will be $11,385,000, $1,024,650 and $10,360,350, respectively. The
expenses of this offering are estimated to be $520,000.
Our underwriters may engage in over-allotments, stabilizing
transactions, syndicate short covering transactions and penalty bids in
accordance with Regulation M under the Securities Exchange Act of 1934.
Stabilizing transactions permit bids to purchase our securities so long as the
stabilizing bids do not exceed a specified maximum. Penalty bids permit our
underwriters to reclaim a selling concession from a syndicate member when our
securities originally sold by such selling group member are repurchased in the
open market by the underwriters.
Over-allotments, or short sales, consist of sales by underwriters of a
greater number of securities than they are required to purchase in an offering.
In connection with this offering, our underwriters may make over-allotments, or
short sales, of the shares of common stock and warrants and may engage in
syndicate short
56
covering transactions, consisting of purchases of common stock and warrants on
the open market, to cover positions created by short sales.
"Covered" short sales are sales made in an amount not greater than any
over-allotment options for the underwriters to purchase additional securities in
an offering. Underwriters may close out any covered short position by either
exercising an over-allotment option or purchasing securities in the open market.
In determining the source of securities to close out a covered short position in
an offering, underwriters will consider, among other things, the price of the
securities available for purchase in the open market as compared to the price at
which they may purchase the securities through an over-allotment option.
"Naked" short sales are short sales of securities in excess of
over-allotment options. Underwriters must close out any naked short positions by
engaging in syndicate short covering transactions, purchasing securities in the
open market. Underwriters are more likely to create naked short positions if
they are concerned that, after pricing, there may be downward pressure on the
open market price of the securities, thus adversely affecting investors who
purchased in the offering.
Similar to other purchase transactions, syndicate short covering
transactions, in which underwriters purchase securities in the open market to
cover short sales, may have the effect of raising or maintaining the market
price of securities or preventing or retarding a decline in the market price of
securities.
In this offering, any syndicate short covering transactions,
stablilizing transactions and penalty bids in which the underwriters engage may
cause the price of the common stock and warrants to be higher than they would
otherwise be in the absence of such transactions. These transactions may be
effected on the American Stock Exchange or otherwise and, if commenced, may be
discontinued at any time.
Neither we nor the underwriters make any representation or prediction
as to the direction or magnitude of any effect that the transactions described
above may have on the prices of the common stock or warrants. In addition,
neither we nor any of the underwriters makes any representation that the
underwriters will engage in such transactions or that such transactions, once
commenced, will not be discontinued without notice.
Our officers, directors and beneficial holders of 5% or more of our
outstanding shares of common stock have agreed, pursuant to lock-up agreements
relating to the transfer of shares of our common stock, that they will not sell,
transfer, hypothecate or convey any of our shares of common stock by
registration or otherwise for a period of 12 months from the date of this
prospectus without the prior written consent of the representative of the
underwriters.
We will sell to the representative on completion of the offering, for a
total purchase price of $100, representative's options entitling the
representative or its assigns to purchase 165,000 shares of common stock and
165,000 warrants. The representative's options will be exercisable commencing
one year from the date of this prospectus and will expire five years from the
date of this prospectus. The representative's options will contain certain
anti-dilution provisions and provide for the cashless exercise of the
representative's options utilizing our securities. The exercise price of the
representative's options to purchase common stock and warrants is 125% of the
public offering price or $______ and $____ , respectively. The representative's
warrants are exercisable at $____ per share.
We will set aside and at all times have available a sufficient number
of shares of common stock and warrants to be issued upon exercise of the
representative's options and warrants. The representative's options and warrants
and underlying securities will be restricted from sale, transfer, assignment or
hypothecation for a period of one year after the date of this prospectus, except
to officers of the representative, co-underwriters, selling group members and
their officers or partners. Thereafter, the representative's options and
warrants and
57
underlying securities will be transferable provided such transfer is in
accordance with the provisions of the Securities Act. Subject to certain
limitations and exclusions, we have agreed, at the request of the
representative, to register for sale the common stock and warrants issuable upon
exercise of the representative's options and the underlying shares of common
stock issuable upon exercise of the warrants included in the representative's
options.
For a period of three years after the date hereof, the representative
has the right to designate an advisor to our board of directors. Such advisor
will be reimbursed for his or her expenses for attending meetings of our board
of directors and will receive compensation excluding any grants of options,
equal to that received by the highest compensated outside director but will have
no voting rights.
At the closing of the offering, we will enter into a consulting
agreement retaining the representative as a financial consultant at $3,000 per
month for a 24 month period.
In the third and fourth quarters of 2001 and first quarter of 2002, we
sold 381,654 shares of our 10% Convertible Series A Preferred Stock at $3.25 per
share for gross proceeds of approximately $1,240,000. We paid the representative
a commission of approximately $124,000 and a nonaccountable expense allowance of
approximately $37,000 and issued the representative warrants to purchase 38,165
shares of our 10% Convertible Series A Preferred Stock at $3.25 per share.
Prior to this offering, there has not been a public market for our
securities. The public offering prices of the common stock and warrants have
been determined by arm's-length negotiation between us and the representative.
There is no direct relation between the offering prices and our assets, book
value or net worth. Among the factors considered by us and the representative in
pricing the common stock and warrants were the results of operations, the
current financial condition and our future prospects, the experience of
management, the amount of ownership to be retained by present stockholders, the
general condition of the economy and the securities markets and the demand for
securities of companies considered comparable to us.
In connection with this offering, we and the underwriters have agreed
to indemnify each other against certain liabilities, including liabilities under
the Securities Act of 1933 and if such indemnification is unavailable or
insufficient, we and the underwriters have agreed to damage contribution
arrangements based upon relative benefits received from this offering and
relative fault resulting in such damage.
LEGAL MATTERS
Dorsey & Whitney LLP, will pass upon the validity of the common stock
and warrants offered in this prospectus. Jones & Keller, P.C, will pass upon
certain legal matters for Neidiger, Tucker, Bruner, Inc., the representative of
the underwriters.
EXPERTS
Our consolidated balance sheet as of December 31, 2001 and the
consolidated statements of income and shareholders' equity and cash flows for
the two years ended December 31, 2000 and 2001 and the statement of revenue and
direct expenses of assets acquired by Great Lakes Compression, Inc. for the year
ended December 31, 2000, included in this prospectus have been included herein
in reliance on the report of HEIN + ASSOCIATES LLP , independent certified
public accountants, given on the authority of that firm as experts in auditing
and accounting.
ADDITIONAL INFORMATION
We have filed a registration statement on Form SB-2 under the
Securities Act with the SEC in connection with this offering. This prospectus is
part of the registration statement and does not contain all of
58
the information contained in the registration statement or any of the exhibits
filed with the registration statement. For further information about us, please
see the registration statement and the exhibits filed with the registration
statement. Summaries in this prospectus of the contents of any agreement or
other document filed as an exhibit to this registration statement are not
necessarily complete. In each instance, please refer to the copy of the
agreement or other document filed as an exhibit to the registration statement.
After we complete this offering, we will be required to file annual,
quarterly and current reports, proxy statements and other information with the
SEC. You may read any document we file with the SEC, including the registration
statement and the exhibits filed with the registration statement, without
charge, at the SEC public reference room at 450 Fifth Street, N.W., Judiciary
Plaza, Room 1024, Washington, D.C. 20549.
You may copy all or any part of our SEC filings from these offices upon
payment of the fees charged by the SEC. You may obtain information on the
operation of the public reference room in Washington, D.C. by calling the SEC at
1-800-SEC-0330.
Our SEC filings, including the registration statement and the exhibits
filed with the registration statement, are available from the SEC's website at
http://www.sec.gov, which contains reports, proxy and information statements and
other information regarding issuers that file electronically with the SEC.
59
NATURAL GAS SERVICES GROUP, INC. AND SUBSIDIARIES
INDEPENDENT AUDITOR'S REPORT
The Board of Directors
Natural Gas Services Group, Inc.
We have audited the accompanying consolidated balance sheet of Natural Gas
Services Group, Inc. and subsidiaries (the "Company") as of December 31, 2001,
and the related consolidated statements of income, shareholders' equity and cash
flows for the years ended December 31, 2001 and 2000. These financial statements
are the responsibility of the Company's management. Our responsibility is to
express an opinion on these financial statements based on our audits.
We conducted our audits in accordance with auditing standards generally accepted
in the United States of America. Those standards require that we plan and
perform the audit to obtain reasonable assurance about whether the financial
statements are free of material misstatement. An audit includes examining on a
test basis evidence supporting the amounts and disclosures in the financial
statements. An audit also includes assessing the accounting principles used and
significant estimates made by management as well as evaluating the overall
financial statement presentation. We believe that our audits provide a
reasonable basis for our opinion.
In our opinion, the consolidated financial statements referred to above present
fairly, in all material respects, the financial position of the Company as of
December 31, 2001, and the results of its operations and its cash flows for the
years ended December 31, 2001 and 2000 in conformity with accounting principles
generally accepted in the United States of America.
HEIN + ASSOCIATES LLP
Dallas, Texas
March 14, 2002
F-1
NATURAL GAS SERVICES GROUP, INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
ASSETS
<Table>
<Caption>
JUNE 30, 2002 DECEMBER 31, 2001
------------- -----------------
(Unaudited)
CURRENT ASSETS:
Cash and cash equivalents $ 342,397 $ 506,669
Trade accounts receivable, no allowance for doubtful accounts considered
necessary 1,146,478 985,709
Lease receivable, net of unearned interest of $33,498 and $36,620 90,069 84,916
Inventory 1,863,398 1,615,407
Prepaid expenses and other 92,728 55,000
----------- -----------
Total current assets 3,535,070 3,247,701
PROPERTY AND EQUIPMENT, NET 14,214,544 12,442,368
GOODWILL, net of accumulated amortization of $325,192 2,589,655 2,589,655
PATENTS, net of accumulated amortization of $96,196 and $82,454 155,168 168,910
LEASE RECEIVABLE, net of unearned interest of $15,904 and $32,592 164,397 210,504
INVESTMENT IN JOINT VENTURE 202,920 118,669
DEFERRED OFFERING COSTS 152,326 --
OTHER ASSETS 55,765 32,006
----------- -----------
Total assets $21,069,845 $18,809,813
=========== ===========
LIABILITIES AND SHAREHOLDERS' EQUITY
CURRENT LIABILITIES:
Current portion of long-term debt and capital lease $ 9,042,405 $ 916,291
Accounts payable and accrued liabilities 1,225,728 949,308
Deferred income 632,439 183,374
----------- -----------
Total current liabilities 10,900,572 2,048,973
LONG-TERM DEBT, less current portion 1,833,060 9,048,028
CAPITAL LEASE, less current portion 37,924 44,807
SUBORDINATED NOTES, net of discount of $232,765 and $265,243 1,306,495 1,274,018
DEFERRED TAX LIABILITY 893,000 613,437
COMMITMENTS (Note 5 and 13)
SHAREHOLDERS' EQUITY:
Preferred stock, 5,000,000 shares authorized, par value $0.01:
10% Convertible Series A: 1,177,000 shares authorized; 10% cumulative,
liquidation preference of $1,240,376 and $1,225,751, respectively;
381,654 and 377,154 shares outstanding, respectively 3,817 3,772
Common stock, 30,000,000 shares authorized, par value $0.01; 3,357,632
shares issued and outstanding 33,576 33,576
Additional paid-in capital 4,497,520 4,442,816
Retained earnings 1,563,881 1,300,386
----------- -----------
Total shareholders' equity 6,098,794 5,780,550
----------- -----------
Total liabilities and shareholders' equity $21,069,845 $18,809,813
=========== ===========
</Table>
SEE ACCOMPANYING NOTES TO THESE CONSOLIDATED FINANCIAL STATEMENTS.
F-2
NATURAL GAS SERVICES GROUP, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF INCOME
<Table>
<Caption>
FOR THE YEARS ENDED
FOR THE SIX MONTHS ENDED JUNE 30, DECEMBER 31,
--------------------------------- ------------------------------
2002 2001 2001 2000
------------ ------------ ------------ ------------
(Unaudited) (Unaudited)
REVENUE:
Sales, net $ 3,063,289 $ 2,621,577 $ 5,667,106 $ 2,576,144
Leasing income and interest 2,056,267 1,276,404 3,095,001 1,075,509
------------ ------------ ------------ ------------
Total revenue 5,119,556 3,897,981 8,762,107 3,651,653
COSTS OF REVENUE:
Cost of sales, excluding depreciation 2,219,501 1,754,321 4,032,846 1,285,334
Cost of leasing, excluding depreciation 586,299 360,667 909,299 249,480
------------ ------------ ------------ ------------
Total costs of revenue 2,805,800 2,114,988 4,942,145 1,534,814
------------ ------------ ------------ ------------
GROSS PROFIT 2,313,756 1,782,993 3,819,962 2,116,839
OPERATING EXPENSES:
Selling expenses 243,670 305,838 612,670 286,540
General and administrative 600,487 523,504 1,105,290 951,323
Depreciation and amortization 537,600 355,757 903,166 355,705
------------ ------------ ------------ ------------
Total operating expenses 1,381,757 1,185,099 2,621,126 1,593,568
------------ ------------ ------------ ------------
INCOME FROM OPERATIONS 931,999 597,894 1,198,836 523,271
OTHER INCOME (EXPENSE):
Interest expense (522,840) (371,811) (924,382) (207,129)
Equity in earnings of joint venture 207,603 67,352 224,231 17,792
Other income 1,910 81,133 197,208 30,608
------------ ------------ ------------ ------------
Total other income (expense) (313,327) (223,326) (502,943) (158,729)
------------ ------------ ------------ ------------
INCOME FROM CONTINUING OPERATIONS
BEFORE PROVISION FOR INCOME TAXES
618,672 374,568 695,893 364,542
PROVISION FOR INCOME TAXES:
Current -- -- 9,100 38,262
Deferred 279,563 202,363 304,800 108,973
------------ ------------ ------------ ------------
Total income tax expense 279,563 202,363 313,900 147,235
------------ ------------ ------------ ------------
INCOME BEFORE DISCONTINUED OPERATIONS 339,109 172,205 381,993 217,307
DISCONTINUED OPERATIONS:
Loss from operations, including tax benefit of
$20,000 -- -- -- (252,000)
Gain on sale of subsidiary, no tax effect -- -- -- 943,771
------------ ------------ ------------ ------------
Total discontinued operations -- -- -- 691,771
------------ ------------ ------------ ------------
NET INCOME 339,109 172,205 381,993 909,078
PREFERRED DIVIDENDS 75,614 -- 10,908 --
------------ ------------ ------------ ------------
NET INCOME AVAILABLE TO COMMON SHAREHOLDERS
$ 263,495 $ 172,205 $ 371,085 $ 909,078
============ ============ ============ ============
NET INCOME PER COMMON SHARE:
BASIC $ .08 $ .05 $ 0.11 $ 0.27
============ ============ ============ ============
DILUTED $ .06 $ .05 $ 0.11 $ 0.27
============ ============ ============ ============
WEIGHTED AVERAGE COMMON SHARES OUTSTANDING:
BASIC 3,357,632 3,357,632 3,357,632 3,357,632
DILUTED 4,163,710 3,357,632 3,483,987 3,357,632
</Table>
SEE ACCOMPANYING NOTES TO THESE CONSOLIDATED FINANCIAL STATEMENTS.
F-3
NATURAL GAS SERVICES GROUP, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF SHAREHOLDERS' EQUITY
FOR THE PERIOD FROM JANUARY 1, 2000 THROUGH JUNE 30, 2002
<Table>
<Caption>
PREFERRED STOCK COMMON STOCK
--------------------- ------------------------
SHARES AMOUNT SHARES AMOUNT
-------- -------- ---------- --------
BALANCES, January 1, 2000 -- $ -- 4,050,000 $ 40,500
Forgiveness of receivable in
divesture of subsidiary -- -- -- --
Common stock repurchased in divesture
of subsidiary -- -- (692,368) (6,924)
Net income -- -- -- --
-------- -------- ---------- --------
BALANCES, January 1, 2001 -- -- 3,357,632 33,576
Issuance of preferred stock 377,154 3,772 -- --
Warrants issued in connection with
subordinated notes -- -- -- --
Warrants issued for debt guaranty -- -- -- --
Dividends on preferred stock -- -- -- --
Net income -- -- -- --
-------- -------- ---------- --------
BALANCES, January 1, 2002 377,154 3,772 3,357,632 33,576
Issuance of preferred stock 4,500 45 -- --
Dividends on preferred stock
(unaudited) -- -- -- --
Warrants issued for debt guaranty
(unaudited) -- -- -- --
Net income (unaudited) -- -- -- --
-------- -------- ---------- --------
BALANCES, June 30, 2002 (unaudited)
381,654 $ 3,817 3,357,632 $ 33,576
======== ======== ========== ========
<Caption>
NOTE
RECEIVABLE ADDITIONAL TOTAL
FROM PAID-IN RETAINED SHAREHOLDERS'
SHAREHOLDER CAPITAL EARNINGS EQUITY
----------- ----------- ----------- -------------
BALANCES, January 1, 2000 $ (164,558) $ 4,801,666 $ 20,223 $ 4,697,831
Forgiveness of receivable in
divesture of subsidiary 164,558 -- -- 164,558
Common stock repurchased in divesture
of subsidiary -- (1,377,812) -- (1,384,736)
Net income -- -- 909,078 909,078
----------- ----------- ----------- -------------
BALANCES, January 1, 2001 -- 3,423,854 929,301 4,386,731
Issuance of preferred stock -- 899,461 -- 903,233
Warrants issued in connection with
subordinated notes -- 96,364 -- 96,364
Warrants issued for debt guaranty -- 23,137 -- 23,137
Dividends on preferred stock -- -- (10,908) (10,908)
Net income -- -- 381,993 381,993
----------- ----------- ----------- -------------
BALANCES, January 1, 2002 -- 4,442,816 1,300,386 5,780,550
Issuance of preferred stock -- 12,679 -- 12,724
Dividends on preferred stock
(unaudited) -- -- (75,614) (75,614)
Warrants issued for debt guaranty
(unaudited) -- 42,025 -- 42,025
Net income (unaudited) -- -- 339,109 339,109
----------- ----------- ----------- -------------
BALANCES, June 30, 2002 (unaudited)
$ -- $ 4,497,520 $ 1,563,881 $ 6,098,794
=========== =========== =========== =============
</Table>
SEE ACCOMPANYING NOTES TO THESE CONSOLIDATED FINANCIAL STATEMENTS.
F-4
NATURAL GAS SERVICES GROUP, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
<Table>
<Caption>
FOR THE SIX MONTHS ENDED FOR THE YEARS ENDED DECEMBER 31,
----------------------------- --------------------------------
JUNE 30, 2002 June 30, 2001 2001 2000
------------- ------------- ----------- -----------
(Unaudited) (Unaudited)
CASH FLOWS FROM OPERATING ACTIVITIES:
Net income $ 339,109 $ 172,205 $ 381,993 $ 909,078
Adjustments to reconcile net income to net cash
provided by (used in) operating activities:
Depreciation and amortization 537,600 355,757 903,166 355,705
Deferred taxes 279,563 202,363 304,800 108,973
Amortization of debt issuance costs 32,477 32,478 64,956
Gain on disposal of assets -- (80,143) (117,387) (957,959)
Warrants issued for debt guarantee 42,025 23,137 23,137 --
Equity in earnings of joint venture (207,603) (67,352) (224,231) (17,792)
Changes in current assets:
Trade and other receivables (174,984) (371,226) (360,868) (160,219)
Inventory (247,991) (564,233) (593,403) (695,908)
Prepaid expenses and other (23,513) (174,953) 25,190 (48,560)
Changes in current liabilities:
Accounts payable and accrued liabilities 276,419 619,339 472,779 241,319
Deferred income 449,065 390 (9,826) 133,156
Other (23,760) (884) (30,551) (121,228)
------------- ------------- ----------- -----------
Net cash provided by (used in) operating
activities 1,278,407 146,878 839,755 (253,435)
CASH FLOWS FROM INVESTING ACTIVITIES:
Purchase of property and equipment (2,296,033) (844,279) (2,220,110) (1,909,459)
Proceeds from sale of property and equipment -- 215,500 328,500 9,850
Decrease in lease receivable 40,954 35,554 73,711 63,991
(Contributions to) distributions from joint venture 123,353 15,385 124,353 (1,000)
Cash paid for acquisition -- (1,255,096) (1,393,113) --
------------- ------------- ----------- -----------
Net cash used in investing activities (2,131,726) (1,832,936) (3,086,659) (1,836,618)
CASH FLOWS FROM FINANCING ACTIVITIES:
Net proceeds from lines of credit -- 653,332 750,000 700,000
Proceeds from long-term debt 1,353,386 67,949 249,761 344,480
Repayments of long-term debt (449,123) (475,941) (592,258) (346,909)
Dividends on preferred stock (75,614) -- (10,908) --
Deferred offering costs (152,326) -- -- --
Proceeds from preferred stock, net of offering costs 12,724 -- 903,233 --
Proceeds from note offering, net of offering costs -- 1,310,839 1,310,839 --
------------- ------------- ----------- -----------
Net cash provided by financing activities 689,047 1,556,179 2,610,667 697,571
NET INCREASE (DECREASE) IN CASH (164,272) (129,879) 363,763 (1,392,482)
CASH, beginning of period 506,669 142,906 142,906 1,535,388
------------- ------------- ----------- -----------
CASH, end of period $ 342,397 $ 13,027 $ 506,669 $ 142,906
============= ============= =========== ===========
SUPPLEMENTAL DISCLOSURES OF CASH FLOW INFORMATION:
Interest paid $ 470,697 $ 313,761 $ 872,239 $ 207,129
============= ============= =========== ===========
Income taxes paid $ -- $ -- $ 2,566 $ --
============= ============= =========== ===========
Purchase of property and equipment for note payable $ -- $ -- $ 7,148,949 $ 328,540
============= ============= =========== ===========
Common stock repurchased in disposal of subsidiary $ -- $ -- $ -- $ 1,384,736
============= ============= =========== ===========
</Table>
SEE ACCOMPANYING NOTES TO THESE CONSOLIDATED FINANCIAL STATEMENTS.
F-5
NATURAL GAS SERVICES GROUP, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(the period subsequent to December 31, 2001 is unaudited)
1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Organization and Principles of Consolidation
Natural Gas Services Group, Inc. (the "Company" or "NGSG") (a Colorado
corporation) was formed on December 18, 1998 for the purposes of combining
the operations of certain manufacturing, service and leasing entities
providing services to a customer base of oil and gas exploration and
production companies operating primarily in Colorado, Kansas, Louisiana,
Michigan, New Mexico, Oklahoma, Texas and Wyoming.
On March 15, 1999, the Company acquired the following entities:
o Flare King, Inc. ("Flare King") (a Texas corporation) is engaged in the
manufacturing and distribution of natural gas flare stacks and ignition
systems for use in oilfield, refinery, petrochemical plant, and
landfill applications in New Mexico, California and Texas. In July
2000, the name of Flare King was changed to Rotary Gas Systems, Inc.
("RGS, Inc.").
o Rotary Gas Systems, LLC ("RGS") (a Texas limited liability corporation)
was engaged in the packaging and distribution of natural gas
compressors primarily for petroleum applications in New Mexico and
Texas. In July 2000, RGS was dissolved and its operations are now
conducted through RGS, Inc.
o NGE Leasing, Inc. ("NGE") (a Texas corporation) is engaged in leasing
irrigation motor units to entities in the agricultural industry and
natural gas compressor packages to entities in the petroleum industry.
NGE's leasing income is concentrated in New Mexico, California and
Texas.
o CNG Engines Co. ("CNG") (a Texas corporation) was engaged principally
in the manufacturing and distribution of irrigation motor units, and
its sales were concentrated in California and Texas. The Company
disposed of CNG on March 31, 2000. See Note 12.
o Gas Engine Service, LLC ("GES") (a California limited liability
corporation) was engaged in providing maintenance and repair services
for natural gas engines and its revenues were concentrated in
California. GES is a wholly-owned subsidiary of CNG and was disposed of
with CNG on March 31, 2000. See Note 12.
In March 2001, the Company's newly formed subsidiary, Great Lakes
Compression, Inc. (a Colorado corporation) ("GLC"), acquired certain assets
and operations of a business that fabricates, leases and services natural
gas compressors to producers of oil and natural gas, primarily in Michigan.
The accompanying financial statements present the consolidated results of the
Company and its wholly-owned subsidiaries. Investments in joint ventures in
which the Company does not have majority voting control are accounted for by the
equity method. All intercompany balances and transactions have been eliminated
in consolidation.
Cash Equivalents
For purposes of reporting cash flows, the Company considers all short-term
investments with an original maturity of three months or less to be cash
equivalents.
F-6
NATURAL GAS SERVICES GROUP, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(the period subsequent to December 31, 2001 is unaudited)
Inventory
Inventory is valued at the lower of cost or market. The cost of inventories
are determined by the first-in, first-out method. Inventory consists of the
following:
<Table>
<Caption>
JUNE 30, 2002 DECEMBER 31, 2001
------------- -----------------
(Unaudited)
Raw materials $ 1,525,221 $ 1,340,930
Work in process 338,177 274,477
------------- -----------
$ 1,863,398 $ 1,615,407
============= ===========
</Table>
Property and Equipment
Property and equipment is recorded at cost less accumulated depreciation
and amortization. Depreciation and amortization is computed using the
straight-line method over the estimated useful lives of the assets, which
range from five to thirty years.
Gains and losses resulting from sales and dispositions of property and
equipment are included in current operations. Maintenance and repairs are
charged to operations as incurred.
Patents
The Company has patents for a flare tip ignition device and flare tip burner
pilot held by RGS. The costs of the patents are being amortized on a
straight-line basis over nine years, the remaining life of the patents when
acquired. Amortization expense for patents of $27,484 was recognized for each of
the years ended December 31, 2001 and 2000. Amortization expense for each of the
next five years is estimated to be $27,484 per year. Amortization expense for
patents was $13,742 for each of the six-month periods ended June 30, 2002 and
2001.
Goodwill
Goodwill represents the cost in excess of fair value of the identifiable
net assets acquired in various acquisitions and is being amortized on a
straight-line basis over 20 years. Amortization expense of $124,425 and
$100,404 was recognized for the years ended December 31, 2001 and 2000,
respectively, and $50,202 was recognized for the six months ended June 30,
2001. The Company ceased amortization of goodwill effective January 1,
2002, in accordance with FAS 142. See Note 15.
Long-Lived Assets
The Company's policy is to periodically review the net realizable value
of its long-lived assets, including patents and goodwill, through an
assessment of the estimated future cash flows related to such assets.
In the event that assets are found to be carried at amounts in excess
of estimated undiscounted future cash flows, then the assets will be
adjusted for impairment to a level commensurate with a discounted cash
flow analysis of the underlying assets. Based upon its most recent
analysis, the Company believes no impairment of long-lived assets
exists at December 31, 2001 and June 30, 2002.
Advertising Costs
Advertising costs are expensed as incurred. Total advertising expense
was $56,335 in 2001 and $12,072 in 2000, and was $27,090 and $32,469
for the six months ended June 30, 2002 and 2001, respectively.
F-7
NATURAL GAS SERVICES GROUP, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(the period subsequent to December 31, 2001 is unaudited)
Revenue Recognition
Revenue from the sale of custom and fabricated and rebuilt compressors,
and flare systems are recognized upon shipment of the equipment to
customers. Exchange and rebuilt compressor revenue is recognized when
both the replacement compressor has been delivered and the rebuild
assessment has been completed. Revenue from compressor service, and
retrofitting services is recognized upon providing services to the
customer. Operating lease revenue is recognized, over the term of the
agreements. Maintenance agreement revenue is recognized as services are
rendered. Deferred income represents items that have been billed to
customers based on contractual agreements, but have not yet been
shipped. Rental and lease revenue are recognized over the terms of the
respective lease agreements based upon the classification of the lease.
Stock-Based Compensation
The Company applies Statement of Financial Accounting Standards No. 123
("SFAS 123"), Accounting for Stock-Based Compensation, which requires
recognition of the value of stock options and warrants granted based on an
option pricing model. However, as permitted by SFAS 123, the Company
continues to account for stock options and warrants granted to directors
and employees pursuant to Accounting Principles Board Opinion No. 25,
Accounting for Stock Issued to Employees, and related interpretations. See
Note 11.
Description of Leasing Arrangements
The Company's leasing operations principally consist of the leasing of natural
gas compressor packages and flare stacks. The Company has one seven-year lease
of natural gas irrigation engines to an agricultural entity that is classified
as a sales-type lease. The remaining leases are all classified as operating
leases. See Note 5.
Income Taxes
The Company files a consolidated tax return for all the entities. Deferred
tax assets and liabilities are recognized for the future tax consequences
attributable to temporary differences between the financial statement
carrying amounts of assets and liabilities and their respective tax bases,
and operating losses and tax credit carryforwards. Deferred tax assets and
liabilities are measured using enacted tax rates expected to apply to
taxable income in the years in which those temporary differences are
expected to be recovered or settled.
Use of Estimates
The preparation of the Company's financial statements in conformity with
generally accepted accounting principles requires the Company's management
to make estimates and assumptions that affect the amounts reported in these
financial statements and accompanying notes. Actual results could differ
from those estimates. Significant estimates include the valuation of assets
and goodwill acquired in acquisitions. It is at least reasonably possible
these estimates could be revised in the near term and the revisions would
be material.
Recently Issued Accounting Pronouncements
In June 2001, the Financial Accounting Standards Board ("FASB") issued
Statements of Financial Accounting Standards No. 141, Business Combinations
("FAS 141"), and No. 142, Goodwill and Other Intangible Assets ("FAS 142").
FAS 141 requires all business combinations initiated after June 30, 2001 to
be accounted for under the purchase method. For all business combinations
for which the date of acquisition is after June 30, 2001, FAS 141 also
establishes specific criteria for the recognition of intangible assets
separately from goodwill and requires unallocated negative goodwill to be
written off immediately as an extraordinary gain, rather than deferred and
amortized. FAS 142 changes the
F-8
NATURAL GAS SERVICES GROUP, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(the period subsequent to December 31, 2001 is unaudited)
accounting for goodwill and other intangible assets after an acquisition.
The most significant changes made by FAS 142 are: 1) goodwill and
intangible assets with indefinite lives will no longer be amortized; 2)
goodwill and intangible assets with indefinite lives must be tested for
impairment at least annually; and 3) the amortization period for intangible
assets with finite lives will no longer be limited to forty years. The
Company does not believe that the adoption of FAS 141 will have a material
effect on its financial position, results of operations, or cash flows. The
Company adopted FAS 142 on January 1, 2002, at which time it ceased the
amortization of goodwill. The result of the application of the
non-amortization provisions of FAS 142 for goodwill resulted in a $42,502
reduction of amortization expense for the six months ended June 30, 2002 as
compared to the six months ended June 30, 2001. At June 30, 2002, the
Company's goodwill had a carrying value of $2,589,655. Pursuant to FAS 142,
the Company completed its initial test for goodwill impairment at which
time no impairment was indicated. See Note 15.
In June 2001, the FASB also approved for issuance FAS 143, Asset Retirement
Obligations. FAS 143 establishes accounting requirements for retirement
obligations associated with tangible long-lived assets, including 1) the
timing of the liability recognition, 2) initial measurement of the
liability, 3) allocation of asset retirement cost to expense, 4) subsequent
measurement of the liability and 5) financial statement disclosures. FAS
143 requires that an asset retirement cost should be capitalized as part of
the cost of the related long-lived asset and subsequently allocated to
expense using a systematic and rational method. The Company will adopt the
statement effective no later than January 1, 2003, as required. The
transition adjustment resulting from the adoption of FAS 143 will be
reported as a cumulative effect of a change in accounting principle. The
Company does not believe that the adoption of this statement will have a
material effect on its financial position, results of operations, or cash
flows.
In October 2001, the FASB also approved for issuance FAS 144, Accounting
for the Impairment or Disposal of Long-Lived Assets. FAS 144 replaces SFAS
121, Accounting for the Impairment of Long-Lived Assets and for Long-Lived
Assets to Be Disposed Of. The new accounting model for long-lived assets to
be disposed of by sale applies to all long-lived assets, including
discontinued operations, and replaces the provisions of APB Opinion No. 30,
Reporting Results of Operations-Reporting the Effects of Disposal of a
Segment of a Business, for the disposal of segments of a business. FAS 144
requires that those long-lived assets be measured at the lower of carrying
amount or fair value less cost to sell, whether reported in continuing
operations or in discontinued operations. Therefore, discontinued
operations will no longer be measured at net realizable value or include
amounts for operating losses that have not yet occurred. FAS 144 also
broadens the reporting of discontinued operations to include all components
of an entity with operations that can be distinguished from the rest of the
entity and that will be eliminated from the ongoing operations of the
entity in a disposal transaction. The provisions of FAS 144 are effective
for financial statements issued for fiscal years beginning after December
15, 2001 and, generally, are to be applied prospectively. Presently, the
Company does not believe the adoption of this statement will have a
material effect on its financial position, results of operations, or cash
flows.
Unaudited Information
The balance sheet as of June 30, 2002 and the statements of income for the
six-month periods ended June 30, 2002 and 2001 were taken from the
Company's books and records without audit. However, in the opinion of
management, such information includes all adjustments which are necessary
to properly reflect the Company's financial position as of June 30, 2002
and the results of operations for the six months ended June 30, 2002 and
2001. The results of operations for the interim periods presented are not
necessarily indicative of those expected for the year.
F-9
NATURAL GAS SERVICES GROUP, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(the period subsequent to December 31, 2001 is unaudited)
2. ACQUISITION
In March 2001, the Company acquired the assets, primarily compressors, office
furniture and fixtures, building and land of Dominion Michigan Production
Services, Inc. ("Dominion") for a total purchase price of $8 million, subject to
adjustment. $1 million of the purchase price was paid in cash with the remainder
financed by the seller (see Note 7). The transaction was accounted for under the
purchase method of accounting and the purchase price was allocated to the net
assets acquired based on their estimated fair values. The excess of cost over
the fair value of net assets acquired totaled approximately $741,000 and was
recorded as goodwill as of the acquisition date. The operating results of the
acquired business have been included in the Company's financial statements
beginning April 1, 2001.
The following unaudited pro forma information has been prepared as if the
acquisition of the assets of Dominion had occurred at the beginning of each of
the years ended December 31, 2001 and 2000. Such information is not necessarily
reflective of the actual results that would have occurred had the acquisition
occurred on those dates.
<Table>
<Caption>
SIX MONTHS YEAR ENDED YEAR ENDED
ENDED JUNE 30, DECEMBER 31, DECEMBER 31,
------------- ------------- -------------
2001 2001 2000
------------- ------------- -------------
Net sales $ 4,699,020 $ 9,563,146 $ 7,306,065
Net income $ 268,681 $ 429,276 $ 897,895
Net income per common share $ 0.08 $ 0.13 $ 0.27
Net income per common share, assuming
dilution $ 0.08 $ 0.12 $ 0.27
</Table>
In connection with the acquisition, a total fee of $440,000 was paid to the
investment banker/advisor. A director of the Company has a 1% interest in the
investment banker/advisor.
3. PROPERTY AND EQUIPMENT
Property and equipment consists of the following:
<Table>
<Caption>
JUNE 30, DECEMBER 31,
2002 2001
------------ ------------
(Unaudited)
Land and building $ 1,345,740 $ 1,345,740
Leasehold improvements 90,757 70,201
Equipment and furniture 531,122 505,120
Rental equipment 13,219,980 11,043,564
Vehicles 623,957 550,974
------------ ------------
15,811,556 13,515,599
Less accumulated depreciation (1,597,012) (1,073,231)
------------ ------------
$ 14,214,544 $ 12,442,368
============ ============
</Table>
F-10
NATURAL GAS SERVICES GROUP, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(the period subsequent to December 31, 2001 is unaudited)
Depreciation expense for property and equipment of $751,257 and $227,816 was
recognized for the years ended December 31, 2001 and 2000, respectively.
Depreciation expense for property and equipment of $523,858 and $299,513 was
recognized for the six months ended June 30, 2002 and 2001, respectively.
4. INVESTMENT IN JOINT VENTURE
The Company owns a non-controlling 50% interest in a joint venture, Hy-Bon
Rotary Compression, LLC ("Hy-Bon"). This interest is accounted for on the equity
method, in which the Company recognizes its share of the earnings or loss of the
joint venture determined in accordance with the Hy-Bon operating agreement. The
Company's total equity method investment in Hy-Bon at December 31, 2001 was
$118,669. The Company's equity in the earnings of Hy-Bon was $224,231 and
$17,792 in 2001 and 2000, respectively. Summarized financial information of
Hy-Bon follows:
<Table>
<Caption>
DECEMBER 31, 2001
-----------------
BALANCE SHEET:
ASSETS:
Accounts receivable $ 178,255
Other current assets 62,842
Equipment, net 100,770
-------------
Total assets $ 341,867
=============
LIABILITIES:
ACCOUNTS PAYABLE AND ACCRUED EXPENSES $ 16,582
Notes payable 73,773
Members' capital 251,512
-------------
Total liabilities and equity $ 341,867
=============
</Table>
<Table>
<Caption>
FOR THE YEAR ENDED DECEMBER 31,
-------------------------------
2001 2000
------------ ------------
STATEMENT OF OPERATIONS:
Total revenue $ 644,170 $ 36,392
Total expenses 193,756 15,427
------------ ------------
Net income $ 450,414 $ 20,965
============ ============
</Table>
5. LEASING ACTIVITY
The following lists the components of the net investment in the Company's
sales-type lease:
<Table>
<Caption>
JUNE 30, 2002 DECEMBER 31, 2001
------------- -----------------
Total minimum lease payments receivable $ 303,868 $ 364,632
Less unearned income (49,402) (69,212)
------------ ------------
$ 254,466 $ 295,420
============ ============
</Table>
Future minimum lease payments are $121,536 per year until the lease
expiration in December 2004.
F-11
NATURAL GAS SERVICES GROUP, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(the period subsequent to December 31, 2001 is unaudited)
The Company leases natural gas compressor packages to entities in the petroleum
industry. These leases are classified as operating leases and generally have
original lease terms of one to five years and continue on a month-to-month basis
thereafter. Future minimum lease payments for leases not on a month-to-month
basis at December 31, 2001 are as follows:
<Table>
<Caption>
Year Ended December 31,
-----------------------
2002 $ 1,680,476
2003 799,831
2004 828,085
2005 861,208
---------------
Total $ 4,169,600
===============
</Table>
6. LINE OF CREDIT
The Company has a line of credit with a financial institution that allows
for borrowings up to $750,000, bears interest at the prime rate plus 1%
(5.75% and 6.75% at December 31, 2001 and June 30, 2002, respectively) and
requires monthly interest payments with principal due at maturity on
December 15, 2002. The note is collateralized by substantially all of the
assets of the Company and is personally guaranteed by certain shareholders
and their affiliated entities. Warrants were issued in 2001 to these
shareholders for their guarantees (see Note 10). The line of credit
includes certain covenants, the most restrictive of which requires the
Company to maintain certain working capital and debt to equity ratios and
certain minimum net worth. The Company was in compliance with all covenants
on the line of credit at December 31, 2001. At December 31, 2001, there was
no outstanding balance. This line of credit was consolidated with other
notes outstanding at the same financial institution in April 2002.
7. LONG-TERM DEBT
Long-term debt consists of the following:
<Table>
<Caption>
JUNE 30, DECEMBER 31,
2002 2001
---------- ------------
(Unaudited)
Note payable to a bank, interest at bank's prime rate plus 1.5% (6.25% at
December 31, 2001), monthly payments of principal and interest of
$10,127, until maturity in November 2002, with a final lump-sum
payment. This note is collateralized by equipment leased to a third
party under a sales-type lease and is guaranteed by certain officers
and shareholders of the Company $ 106,487 $ 213,302
Three notes payable to a bank, interest at the prime rate plus 1% - 1.5%
(5.75% - 6.25% at December 31, 2001), monthly principal payments of
$11,667, $12,500 and $25,000, plus interest, until maturity in January
2006, November 2006 and December 2004. In April 2002, the notes were
consolidated into a single note, interest at prime rate plus 1% (5.75%
at June 30, 2002), monthly principal payments of $45,746 plus interest
until maturity March 15, 2006. The note has the same collateral and
personal guarantees as the line of credit (Note 6) 2,009,423 2,294,162
Note payable to a bank, interest at prime rate plus 1% (5.75% at June 30,
2002), monthly payments of interest only until all outstanding
principal and interest due upon maturity on March 15, 2003. This note
replaces the line of credit (Note 6), and has the same collateral and
personal guarantees 1,295,000 --
Note payable to an individual, interest at 10%, monthly payments of
principal and interest totaling $1,255 until maturity in August 2010
This note is collateralized by a building 84,405 87,623
</Table>
F-12
NATURAL GAS SERVICES GROUP, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(the period subsequent to December 31, 2001 is unaudited)
<Table>
<Caption>
JUNE 30, DECEMBER 31,
2002 2001
------------ ------------
(Unaudited)
Note payable to a bank, interest at 11%, monthly payments of principal and
interest totaling $2,614, until maturity in September 2010, collateralized by
a building 217,961 221,407
Various notes payable to commercial lenders, interest rates ranging from
1.9% to 10.5%, monthly payments of principal and interest until
maturity dates ranging from March 2004 to October 2005. These notes
are collateralized by various vehicles 87,932 68,901
Various notes payable to a bank, interest rates ranging from prime plus 1%
(5.75% at December 31, 2001 and June 30, 2002) to 9.5%, monthly
payments of principal and interest until maturity dates ranging from
April 2002 to July 2004. These notes are collateralized by various
vehicles and certain of these notes are guaranteed by an officer and
shareholder 109,565 114,229
Note payable to Dominion (Note 2), interest at 9%, monthly payments of
interest only until all outstanding principal and interest due upon
maturity in March 2003. This note is collateralized by all assets
originally acquired by GLC and a stock pledge of all issued and
outstanding shares of GLC. No cash flow from GLC operations can be used
to pay down any debt except this note until paid in full. 87.5% of
the proceeds from any sale of collateralized assets must be immediately
remitted to Dominion 6,952,464 6,952,464
------------ ------------
Total 10,863,237 9,952,088
Less current portion (9,030,177) (904,060)
------------ ------------
$ 1,833,060 $ 9,048,028
============ ============
</Table>
Maturities of long-term debt based on contractual requirements for the
years ending December 31, 2001 are as follows:
<Table>
<Caption>
2002 $ 904,060
2003 7,624,487
2004 697,918
2005 309,092
2006 194,569
Thereafter 221,962
-----------------
$ 9,952,088
=================
</Table>
8. SUBORDINATED NOTES
On October 31, 2000, the Company initiated a private placement of subordinated
debt units. Each unit consists of a $25,000 10% subordinated note due December
31, 2006 and a five-year warrant to purchase 10,000 shares of the Company's
common stock at $3.25 per share. Interest only is payable annually, with all
principal due at maturity. The warrants were valued at their estimated fair
market value resulting in a discount relating to the warrants of $87,128.
Proceeds from this offering totaled $1,539,260. Under the terms of the offering,
all proceeds from the notes must be used for the operations of NGE Leasing.
In connection with the offering, a placement agent was paid a 10% cash
commission and 3% non-accountable expense allowance totaling $200,104, and was
issued warrants in the same form as those issued in the offering for a total of
61,570 shares. The warrants were valued at their estimated fair market value of
$9,236. Total debt issuance costs of $237,658 plus the $87,128 discount related
to warrants issued as part of the offering
F-13
NATURAL GAS SERVICES GROUP, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(the period subsequent to December 31, 2001 is unaudited)
result in total debt discount of $324,786 which is being amortized using the
effective interest rate method over the life of the notes.
Certain shareholders, officers and directors purchased units in this offering,
(totaling $259,261 in notes and warrants representing 103,704 shares) on the
same terms and conditions as non-affiliated purchasers in the offering.
9. INCOME TAXES
The provision for income taxes consists of the following:
<Table>
<Caption>
FOR THE YEAR ENDED DECEMBER 31,
-------------------------------
2001 2000
------------- -------------
Current provision:
Federal $ -- $ 12,967
State 9,100 25,295
------------ ------------
9,100 38,262
Deferred provision:
Federal 269,100 72,823
State 35,700 36,150
------------ ------------
304,800 108,973
------------ ------------
$ 313,900 $ 147,235
============ ============
</Table>
The income tax effects of temporary differences that give rise to
significant portions of deferred income tax assets and liabilities are as
follows:
<Table>
<Caption>
AS OF
DECEMBER 31,
2001
-------------
Deferred income tax asset-
Net operating loss 260,048
-------------
Deferred income tax liabilities:
Property and equipment 735,600
Goodwill and other intangible assets 137,885
-------------
Total deferred income tax liabilities 873,485
-------------
Net deferred income tax liabilities $ 613,437
=============
</Table>
The effective tax rate differs from the statutory rate as follows:
<Table>
<Caption>
FOR THE YEAR ENDED DECEMBER 31,
-------------------------------
2001 2000
------------ ------------
Statutory rate 34% 34%
State and local taxes 6% 4%
Non-deductible goodwill amortization 14% 9%
Other (9%) 5%
Disposal of discontinued operations -- (38%)
------------ ------------
Effective rate 45% 14%
============ ============
</Table>
F-14
NATURAL GAS SERVICES GROUP, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(the period subsequent to December 31, 2001 is unaudited)
At December 31, 2001, the Company had available net operating loss ("NOL")
carryforwards of approximately $705,700, which may be used to reduce future
taxable income and begin to expire in 2020 through 2021.
10. SHAREHOLDERS' EQUITY
Warrants
In March 2001 and April 2002, five year warrants to purchase common stock at
$2.50 per share and $3.25 per share, respectively, exercisable immediately, were
issued to certain board members and shareholders as consideration for their debt
guarantees. These warrants were recorded at their estimated fair value of
$23,137 and $42,025, respectively.
Preferred Stock
The Company has a total of 5,000,000 authorized preferred shares, with rights
and preferences as designated by the Board of Directors. Of the preferred
shares, 1,177,000 shares are designated 10% Convertible Series A Preferred
Stock. The Series A shares have a cumulative annual dividend rate of 10%, when
and if declared by the Board of Directors payable thirty days after the end of
each quarter. Holders are entitled to one vote per share and the Series A shares
are convertible into common stock initially at a price of $3.25 per share,
subject to adjustment based on the market price and various other contingencies.
In addition, Series A shares will automatically be converted to common stock on
a one-for-one basis if or when the Company's common stock trades on a public
exchange at a price of $6.50 per share or greater for twenty consecutive days.
The Series A shares have a liquidation preference of $3.25 per share plus
accrued and unpaid dividends over common stock.
The Company initiated a private placement of its Series A shares in July 2001.
Under the terms of the placement agreement, the Company offered a maximum of
770,000 Series A shares at a price of $3.25 per share. As of December 31, 2001,
the Company had received gross proceeds of $1,225,751 from the offering, net of
$322,518 of offering costs, for 377,154 Series A shares. Included in the
offering costs, are a 10% commission and 3% non-accountable expense allowance
paid to the placement agent. Subsequent to December 31, 2001, additional
proceeds of $14,625 were received representing 4,500 additional Series A shares
issued. Total Series A shares outstanding at June 30, 2002 were 381,654.
A total of 18,000 and 12,000 Series A shares were issued in this offering to a
director and a shareholder, respectively, on the same terms and conditions as
those sold to non-affiliated purchasers in the private offering.
11. STOCK-BASED COMPENSATION
Stock Options
In December 1998, the Board of Directors adopted the 1998 Stock Option Plan (the
"Plan"). 150,000 shares of common stock have been reserved for issuance under
the Plan. All options granted under the Plan will expire ten years after date of
grant. The option price is to be determined by the Board of Directors on date of
grant.
In September 1999, the Company granted 27,000 non-qualified stock options to
certain employees to purchase the Company's common stock at $2.00 per share. The
options vest over three years and expire in 2009. Also in
F-15
NATURAL GAS SERVICES GROUP, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(the period subsequent to December 31, 2001 is unaudited)
September 1999, the Company granted 100,000 non-qualified stock options to an
advisory director to purchase the Company's common stock at $2.00 per share
anytime through September 30, 2004.
The following is a summary of activity for the stock options outstanding for the
years ended December 31, 2001 and 2000:
<Table>
<Caption>
DECEMBER 31, 2001 DECEMBER 31, 2000
----------------------------- ------------------------------
Weighted Weighted
Number Average Number Average
Of Exercise Of Exercise
Shares Price Shares Price
------------ ------------ ------------ ------------
Outstanding, beginning of year 112,000 $ 2.00 127,000 $ 2.00
Canceled or expired -- -- (15,000) --
Granted -- -- -- --
Exercised -- -- -- --
------------ ------------ ------------ ------------
Outstanding, end of year 112,000 $ 2.00 112,000 $ 2.00
============ ============ ============ ============
Exercisable, end of year 112,000 $ 2.00 104,000 $ 2.00
============ ============ ============ ============
</Table>
Pro Forma Stock-Based Compensation Disclosures
As discussed in Note 1, the Company applies APB Opinion No. 25 and related
interpretations in accounting for its stock options. Accordingly, no
compensation cost has been recognized for grants of options to employees since
the exercise prices were not lower than the market prices of the Company's
common stock on the measurement date. Had compensation been determined based on
the estimated fair value at the measurement dates for awards under those plans
consistent with the method prescribed by SFAS No. 123, the Company's net income
would have been changed to the pro forma amounts indicated below.
<Table>
<Caption>
2001 2000
-------------- --------------
Net income:
As reported $ 381,993 $ 909,078
Pro forma $ 373,390 $ 900,475
</Table>
The fair value of each option granted prior to fiscal year 2000 was
estimated on the date of grant using the Black-Scholes option-pricing
model. There were no options issued in 2001 or 2000.
12. DISCONTINUED OPERATIONS
On March 31, 2000, the Company disposed of CNG Engine Co. ("CNG") in a
transaction whereby NGSG transferred all of the common stock of CNG to the
former owner in exchange for all of the former owner's outstanding common
stock in NGSG (692,368 shares) and a note receivable for $350,000. During
the year ended December 31, 2000, the former owner defaulted on all
payments due under the note receivable, and the entire amount has been
reserved and reflected as a reduction in the gain from discontinued
operations. The sale resulted in a non-taxable gain from discontinued
operations of $943,771. Pre-tax loss from discontinued operations of
$232,000 in the accompanying statement of income reflects the net loss from
operations of CNG from January 1, 2000 through the date of disposal. Total
revenue of CNG was $828,000 from January 1, 2000 through the date of
disposal.
F-16
NATURAL GAS SERVICES GROUP, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(the period subsequent to December 31, 2001 is unaudited)
13. COMMITMENT
401(k) Plan
Effective January 1, 2001, the Company offered a 401(k) Plan (the "Plan") to all
employees that had reached the age of eighteen and had completed six months of
service. The participants may contribute up to 15% of their salary. Employer
contributions are subject to Board discretion and are subject to a vesting
schedule of 20% each year after the first year and 100% after six years. The
Company contributed $43,500 to the Plan in 2001.
14. MAJOR CUSTOMERS AND CONCENTRATION OF CREDIT RISK
Sales to one customer in the year ended December 31, 2001 and one customer in
the year ended December 31, 2000 amounted to a total of 26% and 12% of
consolidated revenue, respectively. No other single customer accounted for more
than 10% of the Company's sales in 2001 or 2000. At December 31, 2001, the
Company had one customer that accounted for 18% of the Company's trade accounts
receivable. Sales to one customer in the six months ended June 30, 2002 and to
one customer in the six months ended June 30, 2001, amounted to a total of 37%
and 15% of our consolidated revenue, respectively. At June 30, 2002, the Company
had one customer that accounted for 17% of the Company trade accounts
receivable. The Company generally does not obtain collateral, but requires
deposits of as much as 50% on large custom contracts. The Company performs
periodic credit evaluations on its customers' financial condition and believes
that no allowance for doubtful accounts for trade receivables is necessary at
December 31, 2001 or June 30, 2002.
15. GOODWILL--ADOPTION OF STATEMENT 142 (UNAUDITED)
The Company adopted FAS 142 on January 1, 2002, at which time it ceased the
amortization of goodwill. At June 30, 2002, the Company's goodwill had a
carrying value of $2,589,655. Pursuant to FAS 142, the Company completed its
initial test for goodwill impairment and no impairment was indicated. The
following table sets forth the effect of the adoption of FAS 142 for each
period:
<Table>
<Caption>
FOR THE SIX MONTHS ENDED FOR THE YEAR ENDED DECEMBER
JUNE 30, 31,
------------------------------- -------------------------------
2002 2001 2001 2000
------------- ------------- ------------- -------------
Reported net income $ 263,495 $ 172,205 $ 371,085 $ 909,078
Add back: Goodwill amortization,
net of tax effect
-- 50,202 124,425 100,363
------------- ------------- ------------- -------------
Adjusted net income $ 263,495 $ 222,407 $ 495,510 $ 1,009,441
============= ============= ============= =============
BASIC EARNINGS PER SHARE:
Reported net income $ .08 $ .05 $ .11 $ .27
Goodwill amortization -- .01 .04 .03
------------- ------------- ------------- -------------
Adjusted net income $ .08 $ .06 $ .15 $ .30
============= ============= ============= =============
DILUTED EARNINGS PER SHARE:
Reported net income $ .06 $ .05 $ .11 $ .27
Goodwill amortization -- .01 .04 .03
------------- ------------- ------------- -------------
Adjusted net income $ .06 $ .06 $ .15 $ .30
============= ============= ============= =============
</Table>
F-17
NATURAL GAS SERVICES GROUP, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(the period subsequent to December 31, 2001 is unaudited)
16. SEGMENT INFORMATION
FAS No. 131, Disclosures About Segments of an Enterprise and Related
Information, establishes standards for public companies relating to the
reporting of financial and descriptive information about their operating
segments in financial statements. Operating segments are components of an
enterprise about which separate financial information is available that is
evaluated regularly by chief operating decision makers in deciding how to
allocate resources and in assessing performance.
The Company identifies its segments based on its subsidiary entities.
The Company's reportable operating segments have been determined as separately
identifiable business units. The Company measures segment earnings as operating
earnings, defined as income before interest and income taxes. The following
amounts are expressed in thousands:
<Table>
<Caption>
RGS NGE GLC NGSG Total
--------- --------- --------- --------- ---------
FOR THE SIX MONTHS ENDED JUNE 30, 2002:
Revenue from external customers $ 1,571 $ 1,059 $ 2,490 $ -- $ 5,120
Inter-segment revenue 3,046 -- -- -- 3,046
Gross profit 656 761 897 -- 2,314
Depreciation and amortization 59 189 270 20 538
Interest expense 4 186 313 20 523
Equity in earnings of joint venture -- 208 -- -- 208
Other income 1 1 -- -- 2
Income taxes -- -- -- 280 280
Net income 196 515 188 (560) 339
AS OF JUNE 30, 2002:
Segment assets 3,397 7,828 9,160 685 21,070
Goodwill 1,873 -- 717 -- 2,590
FOR THE SIX MONTHS ENDED JUNE 30, 2001:
Revenue from external customers $ 2,170 $ 695 $ 1,033 $ -- $ 3,898
Inter-segment revenue 1,102 -- -- -- 1,102
Gross profit 767 496 520 -- 1,783
Depreciation and amortization 52 112 137 54 355
Interest expense 1 196 159 15 371
Equity in earnings of joint venture -- 67 -- -- 67
Other income 1 80 -- -- 81
Income taxes -- -- -- 202 202
Net income 208 250 125 (411) 172
AS OF JUNE 30, 2001:
Segment assets 1,818 4,503 8,898 2,348 17,567
Goodwill 1,873 -- 717 -- 2,590
FOR THE YEAR ENDED DECEMBER 31, 2001:
Revenue from external customers $ 3,841 $ 1,519 $ 3,402 $ -- $ 8,762
Inter-segment revenue 2,691 -- -- -- 2,691
Gross profit 1,231 1,076 1,513 -- 3,820
Depreciation and amortization 104 252 423 124 903
Interest expense 4 395 489 36 924
Equity in earnings of joint venture -- 224 -- -- 224
Other income 19 130 3 45 197
Income taxes -- -- -- 314 314
Net income 180 549 307 (654) 382
</Table>
F-18
NATURAL GAS SERVICES GROUP, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(the period subsequent to December 31, 2001 is unaudited)
<Table>
AS OF DECEMBER 31, 2001:
Segment assets 3,073 6,109 9,181 447 18,810
Goodwill 1,873 -- 717 -- 2,590
FOR THE YEAR ENDED DECEMBER 31, 2000:
Revenue from external customers $ 2,576 $ 1,076 $ -- -- $ 3,652
Inter-segment revenue 2,119 -- -- -- 2,119
Gross profit 1,291 826 -- -- 2,117
Depreciation and amortization 91 163 -- 102 356
Interest expense 7 194 -- 6 207
Equity earnings of joint venture -- 18 -- -- 18
Other income 13 33 -- (16) 30
Income taxes -- -- -- 147 147
Discontinued operations -- -- -- 692 692
Net income 306 335 -- 268 909
AS OF DECEMBER 31, 2000:
Segment assets 3,409 4,236 -- 364 8,009
Goodwill 1,974 -- -- -- 1,974
</Table>
**************
F-19
ASSETS ACQUIRED BY
GREAT LAKES COMPRESSION, INC.
INDEX TO FINANCIAL STATEMENTS
<Table>
<Caption>
Page
----
INDEPENDENT AUDITOR'S REPORT.......................................................................................... F-21
STATEMENT OF REVENUES AND DIRECT EXPENSES -
for the Three Months Ended March 31, 2001 (Unaudited) and for the Year Ended December 31, 2000..................... F-22
NOTES TO FINANCIAL STATEMENTS......................................................................................... F-23
</Table>
F-20
INDEPENDENT AUDITOR'S REPORT
Board of Directors
Great Lakes Compression, Inc.
We have audited the accompanying statement of revenue and direct
expenses of assets acquired by Great Lakes Compression, Inc. for the year ended
December 31, 2000. This statement of revenue and direct expenses is the
responsibility of the Company's management. Our responsibility is to express an
opinion on this statement based on our audit.
We conducted our audit in accordance with auditing standards generally
accepted in the United States of America. Those standards require that we plan
and perform the audit to obtain reasonable assurance about whether the financial
statements are free of material misstatement. An audit includes examining, on a
test basis, evidence supporting the amounts and disclosures in the financial
statements. An audit also includes assessing the accounting principles used and
significant estimates made by management, as well as evaluating the overall
financial statement presentation. We believe that our audit provides a
reasonable basis for our opinion.
The accompanying statement of revenue and direct expenses was prepared
for the purpose of complying with the rules and regulations of the Securities
and Exchange Commission as described in Note 1 and is not intended to be a
complete presentation of the revenues and expenses related to the net assets
acquired.
In our opinion, the statement of revenue and direct expenses presents
fairly, in all material respects, the revenues and direct expenses for the year
ended December 31, 2000 in conformity with accounting principles generally
accepted in the United States of America.
HEIN + ASSOCIATES LLP
Dallas, Texas
July 31, 2001
F-21
ASSETS ACQUIRED BY
GREAT LAKES COMPRESSION, INC.
STATEMENTS OF REVENUE AND DIRECT EXPENSES
<Table>
<Caption>
FOR THE THREE FOR THE YEAR
MONTHS ENDED ENDED
MARCH 31, DECEMBER 31,
------------- -------------
2001 2000
------------- -------------
(Unaudited)
REVENUE:
Compressor fabrication and sales $ 298,831 $ 102,731
Compressor leasing and service 502,208 3,551,681
------------- -------------
Total revenue 801,039 3,654,412
COSTS AND EXPENSES:
Costs of compressor sales 96,296 118,885
Costs of compressor leasing and service 251,104 2,013,920
------------- -------------
Total costs and expenses 347,400 2,132,805
------------- -------------
EXCESS OF REVENUE OVER DIRECT EXPENSES
$ 453,639 $ 1,521,607
============= =============
</Table>
F-22
ASSETS ACQUIRED BY
GREAT LAKES COMPRESSION, INC.
1. BASIS OF PRESENTATION
The accompanying financial statements present the historical revenue and
direct expenses of certain compressors, facilities and related equipment
(the "Assets") which were owned by Dominion Michigan Production Services,
Inc. ("Dominion") and sold to Great Lakes Compression, Inc. (the "Company"
or "GLC") on March 29, 2001 (Note 5). The assets are primarily located in
Michigan. GLC is a wholly-owned subsidiary of Natural Gas Services Group,
Inc.
These financial statements present the revenue and direct expenses of these
acquired assets on the accrual basis. These financial statements do not
include general and administrative, depreciation or interest expense,
because the Company only acquired certain assets of a cost center
maintained by Dominion, not an entire business, and, therefore, these items
are not expected to be comparable with those that would result from future
operations of the assets. The financial statements were prepared for the
purpose of complying with the rules and regulations of the Securities and
Exchange Commission and are not intended to be a complete presentation of
the results of operations of Dominion or GLC.
The activity from March 29, 2001, through March 31, 2001, is insignificant
to the financial statements as a whole. Therefore, these financial
statements are presented as if the acquisition closed on March 31, 2001.
Unaudited Information
The accompanying revenue and direct expenses for the three-month period
ended March 31, 2001 are included herein without audit. In the opinion of
management, these financial statements contain all adjustments (consisting
only of normal recurring items) necessary to make the financial position
and the results of operations for the periods presented not misleading. The
results of operations as of and for the three months ended March 31, 2001
are not necessarily indicative of the results to be expected for the full
year.
2. NATURE OF OPERATIONS
GLC fabricates, leases and services natural gas compressors to producers of
oil and natural gas, primarily in Michigan.
3. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Revenue Recognition
Revenue from the sale of fabricated equipment and services is recognized
upon shipping of equipment and providing services to the customer. Rental
and lease revenue is recognized over the terms of the respective lease
agreements based upon the classification of the lease.
Depreciation
Depreciation of property, plant and equipment are computed using the
straight-line method of accounting with estimated economic lives ranging
from 3 to 30 years. Maintenance, repairs, and minor replacements are
charged to expense as incurred.
Depreciation expense was approximately $66,456 (unaudited) for the three
months ended March 31, 2001, and $178,392 (unaudited) for the year ended
December 31, 2000.
F-23
ASSETS ACQUIRED BY
GREAT LAKES COMPRESSION, INC.
NOTES TO FINANCIAL STATEMENTS
Estimates
The preparation of financial statements in conformity with generally
accepted accounting principles requires management to make estimates and
assumptions that affect the reported amounts of assets and liabilities and
disclosure of contingent assets and liabilities at the date of the
financial statements and the reported amounts of revenue and expenses
during the reporting period. Actual results could differ from those
estimates.
4. COMMITMENTS AND CONTINGENCIES
Lease Commitments
The Company's leasing arrangements consist primarily of compressor leases
that are classified as operating leases requiring monthly payments of
$10,800. The minimum required rental period has expired and all leases are
now on a month-to-month basis.
Service Agreements
The Company has compressor service agreements covering approximately
seventy compressors that are owned by Dominion Exploration & Production,
Inc. Under these agreements, GLC is to provide certain daily maintenance
and routine service to these units for an agreed-upon monthly fee through
December 31, 2005. For these services, GLC receives total monthly fees from
Dominion Exploration & Production, Inc. of $77,620.
Environmental
The Company is subject to environmental issues which are not considered
routine for its business activities. In the opinion of management, the
ultimate liability to the Company of such issues will not have a material
adverse impact on its financial position.
5. SUBSEQUENT EVENT
On March 29, 2001 GLC completed the purchase of all operating compression
related assets from Dominion for cash consideration of $1,000,000 and a
note payable to the seller of $7,000,000 subject to final purchase price
adjustments. This acquisition included all tangible compression assets of
the seller including compression fleet assets, related real estate, all
compressor leases and service contracts as well as intangible compression
assets owned by the seller including the corporate name of Great Lakes
Compression, Inc. The acquisition was effective for accounting purposes
March 31, 2001 and will be accounted for as a purchase.
F-24
================================================================================
We have not authorized any dealer, salesperson or other person to give any
information or represent anything not contained in this prospectus. You must not
rely on any unauthorized information. This prospectus does not offer to sell or
buy any units in any jurisdiction where it is unlawful. The information in this
prospectus is current only as of its date.
<Table>
PROSPECTUS SUMMARY 3
RISK FACTORS 8
USE OF PROCEEDS 17
DIVIDEND POLICY 18
DILUTION 19
CAPITALIZATION 20
SELECTED CONSOLIDATED FINANCIAL DATA 21
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS 23
BUSINESS 33
MANAGEMENT 41
EXECUTIVE COMPENSATION 44
PRINCIPAL SHAREHOLDERS 47
CERTAIN TRANSACTIONS 49
DESCRIPTION OF SECURITIES 51
SHARES ELIGIBLE FOR FUTURE SALE 54
UNDERWRITING 56
LEGAL MATTERS 58
EXPERTS 58
ADDITIONAL INFORMATION 58
</Table>
Until ______, 2002, all dealers that effect transactions in these securities
common stock, whether or not participating in this offering, may be required to
deliver a prospectus. This is in addition to the dealers' obligation to deliver
a prospectus when acting as underwriters and with respect to their unsold
allotments or subscriptions.
================================================================================
================================================================================
NATURAL GAS SERVICES GROUP, INC.
1,650,000 SHARES OF COMMON STOCK
AND
1,650,000 WARRANTS TO
PURCHASE 1,650,000 SHARES OF
COMMON STOCK
----------
PROSPECTUS
----------
NEIDIGER, TUCKER, BRUNER, INC.
, 2002
-------------
================================================================================
PART II
INFORMATION NOT REQUIRED IN PROSPECTUS
ITEM 24. INDEMNIFICATION OF DIRECTORS AND OFFICERS.
Section 7-109-102 of the Colorado Business Corporation Act permits a
Colorado corporation to indemnify any director against liability if such person
acted in good faith and, in the case of conduct in an official capacity with the
corporation, that the director's conduct was in the corporation's best interests
and, in all other cases, that the director's conduct was at least not opposed to
the best interests of the corporation or, with regard to criminal proceedings,
the director had no reasonable cause to believe the director's conduct was
unlawful.
Section 7-109-103 of the Colorado Business Corporation Act provides
that, unless limited by its articles of incorporation, a Colorado corporation
shall indemnify a person who was wholly successful, on the merits or otherwise,
in the defense of any proceeding to which the person was a party because the
person is or was a director, against reasonable expenses incurred by him or her
in connection with the proceeding.
Section 3 of Article IX of our articles of incorporation, filed as
Exhibit 3.1 hereto, provides that we shall indemnify, to the maximum extent
permitted by law in effect from time to time, any person who is or was a
director, officer, agent, fiduciary or employee of ours against any claim,
liability or expense arising against or incurred by such person made party to a
proceeding because such person is or was a director, officer, agent, fiduciary
or employee of ours or because such person is or was serving another entity as a
director, officer, partner, trustee, employee, fiduciary or agent at our
request. We further have the authority to the maximum extent permitted by law to
purchase and maintain insurance providing such indemnification.
Article VI of our bylaws, filed as Exhibit 3.4 hereto, provides for the
indemnification of certain persons.
Section 8(b) of the form of underwriting agreement filed as Exhibit 1.1
hereto provides that the underwriter agrees to indemnify and hold harmless us,
each of our directors, each of our officers who has signed the registration
statement, each other person, if any, who controls us within the meaning of
Section 15 of the Securities Act of 1933 or Section 20(a) of the Securities
Exchange Act of 1934 with respect to statements or omissions, if any, made in
any preliminary prospectus, the registration statement or the prospectus, or any
amendment or supplement thereto, or in any application, in reliance upon and in
conformity with written information furnished to us with respect to the
underwriters, by or on behalf of the underwriters expressly for inclusion in any
such document. Section 8(c) provides for contribution in circumstances where the
indemnity provisions are unavailable.
Insofar as indemnification for liabilities arising under the Securities
Act of 1933 may be permitted to our directors, officers and controlling persons
pursuant to the foregoing provisions, or otherwise, we have been advised that in
the opinion of the Securities and Exchange Commission such indemnification is
against public policy as expressed in the Securities Act of 1933 and is,
therefore, unenforceable.
ITEM 25. OTHER EXPENSES OF ISSUANCE AND DISTRIBUTION.
Expenses payable by us in connection with the issuance and distribution of the
securities being registered hereby are as follows:
II-1
<Table>
SEC Registration Fee $ 2,556
NASD Filing Fee 3,275
American Stock Exchange Listing Fee 55,000*
Accounting Fees and Expenses 55,000*
Legal Fees and Expenses 100,000*
Representative's Non-Accountable Expense Allowance 198,000
Printing, Freight and Engraving 100,000*
Transfer Agent Fee 5,000*
Miscellaneous 1,169*
-----------
Total $ 520,000
===========
</Table>
*Estimated.
ITEM 26. RECENT SALES OF UNREGISTERED SECURITIES.
Beginning in March 1999, we issued 1,000,000 shares of our common stock to 25
investors. The shares were issued in transactions not involving a public
offering and were issued in reliance upon the exemption from registration
provided by Section 4(2) of the Securities Act of 1933. The persons to whom the
shares were issued had access to full information concerning us and represented
that they acquired the shares for their own account and not for the purpose of
distribution. The certificates for the shares contain a restrictive legend
advising that the shares may not be offered for sale, sold or otherwise
transferred without having first been registered under the 1933 Act or pursuant
to an exemption from registration under the 1933 Act. The underwriter of this
offering was Berry-Shino Securities, Inc. which received a commission of
$126,000 and a nonaccountable expense allowance of $15,000.
Beginning in October 2000, we issued 62 units comprised of Series A 10%
Subordinated Notes and Five Year Warrants to Purchase Common Stock to 34
investors. The units were issued in transactions not involving a public offering
and were issued in reliance upon the exemption from registration provided by
Section 4(2) of the Securities Act of 1933. A Form D relating to the offering
was filed with the Securities and Exchange Commission. The persons to whom the
units were issued had access to full information concerning us and represented
that they acquire the shares for their own account and not for the purpose of
distribution. The certificates for the securities contain a restrictive legend
advising that the shares may not be offered for sale, sold or otherwise
transferred without having first been registered under the 1933 Act or pursuant
to an exemption from registration under the 1933 Act. The underwriter of this
offering was Berry-Shino Securities, Inc. which received a commission of
$153,926, a nonaccountable expense allowance of $46,178 and warrants to purchase
61,570 shares of our common stock at $3.25 per share.
In March 2001, we issued five year warrants to purchase 68,524 shares of our
common stock at $2.50 per share in exchange for persons guaranteeing
approximately $1,749,000 of our debt. The warrants were issued in a transaction
not involving a public offering and were issued in reliance upon the exemption
from registration provided by Section 4(2) of the Securities Act of 1933. The
persons to whom the warrants were issued had access to full information
concerning us. The certificates for the warrants contain a restrictive legend
advising that the warrants and underlying shares may not be offered for sale,
sold or otherwise transferred without having first been registered under the
1933 Act or pursuant to an
II-2
exemption from registration under the 1933 Act. There was no underwriter
involved in the exchange of the warrants for the guaranteeing of the debt.
Beginning in July 2001, we issued 381,654 shares of our 10% Convertible Series A
Preferred Stock to 35 investors. The shares were issued in transactions not
involving a public offering and were issued in reliance upon the exemption from
registration provided by Section 4(2) of the Securities Act of 1933. A Form D
relating to the offering was filed with the Securities and Exchange Commission.
The persons to whom the shares were issued had access to full information
concerning us and represented that they acquired the shares for their own
account and not for the purpose of distribution. The certificates for the shares
contain a restrictive legend advising that the shares may not be offered for
sale, sold or otherwise transferred without having first been registered under
the 1933 Act or pursuant to an exemption from registration under the 1933 Act.
The underwriter of this offering was Neidiger, Tucker, Bruner, Inc. which
received a commission of $124,037 a nonaccountable expense allowance of $37,211
and warrants to purchase 38,165 shares of our 10% Convertible Series A Preferred
Stock.
In April 2002, we issued five year warrants to purchase 16,472 shares of our
common stock at $3.25 per share in exchange for three persons guaranteeing
approximately $824,000 of our debt. The warrants were issued in a transaction
not involving a public offering and were issued in reliance upon the exemption
from registration provided by Section 4(2) of the Securities Act of 1933. The
persons to whom the warrants were issued had access to full information
concerning us. The certificates for the warrants contain a restrictive legend
advising that the warrants and underlying shares may not be offered for sale,
sold or otherwise transferred without having first been registered under the
1933 Act or pursuant to an exemption from registration under the 1933 Act. There
was no underwriter involved in the exchange of the warrants for the guaranteeing
of the debt.
ITEM 27. EXHIBITS.
The following is a list of all exhibits filed as part of this
Registration Statement:
<Table>
<Caption>
EXHIBIT NO. DESCRIPTION AND METHOD OF FILING
- ----------- --------------------------------
1.1 Underwriting agreement.*
1.2 Form of selected dealers agreement.*
3.1 Articles of incorporation.*
3.2 Amendment to articles of incorporation dated March 31, 1999,
and filed on May 25, 1999.*
3.3 Amendment to articles of incorporation dated July 25, 2001,
and filed on July 30, 2001.*
3.4 Bylaws.*
4.1 Form of warrant certificate.*
4.2 Form of warrant agent agreement.*
4.3 Form of lock-up agreement.*
4.4 Form of representative's option for the purchase of common
stock.*
4.5 Form of representative's option for the purchase of
warrants.*
</Table>
II-3
<Table>
<Caption>
EXHIBIT NO. DESCRIPTION AND METHOD OF FILING
- ----------- --------------------------------
4.6 Form of consulting agreement between Natural Gas Services
Group, Inc. and the representative.*
5.1 Opinion of Dorsey & Whitney LLP on legality.
10.1 1998 Stock Option Plan.*
10.2 Asset Purchase Agreement between Natural Gas Acquisition
Corporation and Great Lakes Compression, Inc. dated January
1, 2001.*
10.3 Amendment to Guaranty Agreement between Natural Gas Services
Group, Inc. and Dominion Michigan Production Services, Inc.*
10.4 Loan Agreement between Natural Gas Services Group, Inc.,
Wallace Sparkman, Wallace O. Sellers, CAV-RDV, Ltd.,
Diamente Investments, L.P., Rotary Gas Systems, Inc., NGE
Leasing, Inc. and Western National Bank dated September 15,
1999, and First Amendment dated March 9, 2001, Second
Amendment dated March 20, 2001, Third Amendment dated July
25, 2001, Fourth Amendment dated December 12, 2001, and
Fifth Amendment dated April 2, 2002.*
10.5 Employment Agreement between Natural Gas Services Group,
Inc. and Alan Kurus dated August 31, 2000.*
10.6 Employment Agreement between Natural Gas Services Group,
Inc. and Wayne Vinson dated January 1, 1999.*
10.7 Employment Agreement between Natural Gas Services Group,
Inc. and Earl R. Wait dated January 1, 1999.*
10.8 Form of Series A 10% Subordinated Notes due December 31, 2006.*
10.9 Form of Five-Year Warrants to Purchase Common Stock.*
10.10 Warrants issued to Berry-Shino Securities, Inc.*
10.11 Warrants issued to Neidiger, Tucker, Bruner, Inc.*
10.12 Form of warrant issued in March 2001 for guaranteeing debt.*
10.13 Form of warrant issued in April 2002 for guaranteeing debt.*
10.14 Exhibits 3(c)(1), 3(c)(2), 3(c)(3), 3(1)(4), 13(d)(1),
13(d)(2) and 13(d)(3) to Asset Purchase Agreement between
Natural Gas Acquisition Corporation and Great Lakes
Compression, Inc. dated January 1, 2001.*
10.15 Amendment No. 6 to Loan Agreement between Natural Gas
Services Group, Inc., Wallace Sparkman, Wallace O. Sellers,
CAV-RDV, Ltd., Diamente Investments, L.P., Rotary Gas
Systems, Inc., NGE Leasing, Inc. and Western National Bank
dated September 15, 1999.*
10.16 Certain exhibits to Loan Agreement between Natural Gas
Services Group, Inc., Wallace Sparkman, Wallace O. Sellers,
CAV-RDV, Ltd., Diamente Investments, L.P., Rotary Gas
Systems, Inc., NGE Leasing, Inc. and Western National Bank
dated September 15, 1999.*
</Table>
II-4
<Table>
<Caption>
EXHIBIT NO. DESCRIPTION AND METHOD OF FILING
- ----------- --------------------------------
10.17 Commitment Letter dated June 24, 2002, from Western National
Bank to Natural Gas Services Group, Inc.*
10.18 Articles of Organization of Hy-Bon Rotary Compression,
L.L.C. dated April 17, 2000 and filed on April 20, 2001.*
10.19 Regulations of Hy-Bon Rotary Compression, L.L.C.*
21 Subsidiaries of the registrant.*
23.1 Consent of HEIN + ASSOCIATES LLP.
23.4 Consent of Dorsey & Whitney LLP (included in Exhibit 5.1).
</Table>
*Previously filed.
ITEM 28. UNDERTAKINGS.
The undersigned will:
(1) File, during any period in which it offers or sells securities, a
post-effective amendment to this registration statement to:
(i) include any prospectus required by section 10(a)(3) of the
Securities Act;
(ii) reflect in the prospectus any facts or events which, individually
or together, represent a fundamental change in the information in the
registration statement; and
(iii) include any additional or changed material information on the
plan of distribution.
(2) For determining liability under the Securities Act, treat each
post-effective amendment as a new registration statement of the securities
offered, and the offering of the securities at that time to be the initial bona
fide offering.
(3) File a post-effective amendment to remove from registration any of the
securities that remain unsold at the end of the offering.
The undersigned will provide to the underwriter at the closing specified in the
underwriting agreement, certificates in such denominations and registered in
such names as required by the underwriter to permit prompt delivery to each
purchaser.
Insofar as indemnification for liabilities arising under the Securities Act may
be permitted to directors, officers and controlling persons of the undersigned
pursuant to the foregoing provisions, or otherwise, the undersigned has been
advised that in the opinion of the Securities and Exchange Commission such
indemnification is against public policy as expressed in the Act and is,
therefore, unenforceable. In the event that a claim for indemnification against
such liabilities (other than the payment by the undersigned of expenses incurred
or paid by a director, officer or controlling person of the undersigned in the
successful defense of any action, suit or proceeding) is asserted by such
director, officer or controlling person in connection with the securities being
registered, the undersigned will, unless in the opinion of its counsel the
matter has been settled by controlling precedent, submit to a court of
appropriate jurisdiction the question whether such indemnification by it is
against public policy as expressed in the Securities Act and will be governed by
the final adjudication of such issue.
II-5
The undersigned will:
(1) For determining any liability under the Securities Act, treat the
information omitted from the form of prospectus filed as part of this
registration statement in reliance upon Rule 430A and contained in a form of
prospectus filed by the undersigned under Rule 424(b)(1), or (4) or 497(h) under
the Securities Act as part of this registration statement as of the time the
Securities and Exchange Commission declared it effective.
(2) For determining any liability under the Securities Act, treat each
post-effective amendment that contains a form of prospectus as a new
registration statement for the securities offered in the registration statement,
and that offering of the securities at that time as the initial bona fide
offering of those securities.
II-6
SIGNATURES
In accordance with the requirements of the Securities Act of 1933, the
registrant certifies that it has reasonable grounds to believe that it meets all
of the requirements of filing on Form SB-2 and authorized this registration
statement to be signed on its behalf by the undersigned, in the City of Midland,
State of Texas on August 19, 2002.
NATURAL GAS SERVICES GROUP, INC.
/s/ Wayne L. Vinson
------------------------------------------
Wayne L. Vinson, President and Principal
Executive Officer
/s/ Earl R. Wait
------------------------------------------
Earl R. Wait, Principal Financial and
Accounting Officer
In accordance with the requirements of the Securities Act of 1933, this
registration statement was signed by the following persons in the capacities and
on the dates stated:
<Table>
<Caption>
SIGNATURE TITLE DATE
- --------- ----- ----
/s/ Wallace O. Sellers Director August 19, 2002
- ---------------------------------
Wallace O. Sellers
/s/ Wayne L. Vinson Director August 19, 2002
- ---------------------------------
Wayne L. Vinson
/s/ Scott W. Sparkman Director August 19, 2002
- ---------------------------------
Scott W. Sparkman
/s/ Charles G. Curtis Director August 19, 2002
- ---------------------------------
Charles G. Curtis
/s/ James T. Grigsby Director August 19, 2002
- ---------------------------------
James T. Grigsby
</Table>
II-7
EXHIBIT INDEX
<Table>
<Caption>
EXHIBIT
NUMBER DESCRIPTION
- ------- -----------
1.1 Underwriting agreement.*
1.2 Form of selected dealers agreement.*
3.1 Articles of incorporation.*
3.2 Amendment to articles of incorporation dated March 31, 1999,
and filed on May 25, 1999.*
3.3 Amendment to articles of incorporation dated July 25, 2001,
and filed on July 30, 2001.*
3.4 Bylaws.*
4.1 Form of warrant certificate.*
4.2 Form of warrant agent agreement.*
4.3 Form of lock-up agreement.*
4.4 Form of representative's option for the purchase of common
stock.*
4.5 Form of representative's option for the purchase of warrants.*
4.6 Form of consulting agreement between Natural Gas Services
Group, Inc. and the representative.*
5.1 Opinion of Dorsey & Whitney LLP on legality.
10.1 1998 Stock Option Plan.*
10.2 Asset Purchase Agreement between Natural Gas Acquisition
Corporation and Great Lakes Compression, Inc. dated January 1,
2001.*
10.3 Amendment to Guaranty Agreement between Natural Gas Services
Group, Inc. and Dominion Michigan Production Services, Inc.*
10.4 Loan Agreement between Natural Gas Services Group, Inc.,
Wallace Sparkman, Wallace O. Sellers, CAV-RDV, Ltd., Diamente
Investments, L.P., Rotary Gas Systems, Inc., NGE Leasing, Inc.
and Western National Bank dated September 15, 1999, and First
Amendment dated March 9, 2001, Second Amendment dated March
20, 2001, Third Amendment dated July 25, 2001, Fourth
Amendment dated December 12, 2001, and Fifth Amendment dated
April 2, 2002.*
10.5 Employment Agreement between Natural Gas Services Group, Inc.
and Alan Kurus dated August 31, 2000.*
</Table>
<Table>
<Caption>
EXHIBIT
NUMBER DESCRIPTION
- ------- -----------
10.6 Employment Agreement between Natural Gas Services Group, Inc.
and Wayne Vinson dated January 1, 1999.*
10.7 Employment Agreement between Natural Gas Services Group, Inc.
and Earl R. Wait dated January 1, 1999.*
10.8 Form of Series A 10% Subordinated Notes due December 31,
2006.*
10.9 Form of Five-Year Warrants to Purchase Common Stock.*
10.10 Warrants issued to Berry-Shino Securities, Inc.*
10.11 Warrants issued to Neidiger, Tucker, Bruner, Inc.*
10.12 Form of warrant issued in March 2001 for guaranteeing debt.*
10.13 Form of warrant issued in April 2002 for guaranteeing debt.*
10.14 Exhibits 3(c)(1), 3(c)(2), 3(c)(3), 3(1)(4), 13(d)(1),
13(d)(2) and 13(d)(3) to Asset Purchase Agreement between
Natural Gas Acquisition Corporation and Great Lakes
Compression, Inc. dated January 1, 2001.*
10.15 Amendment No. 6 to Loan Agreement between Natural Gas Services
Group, Inc., Wallace Sparkman, Wallace O. Sellers, CAV-RDV,
Ltd., Diamente Investments, L.P., Rotary Gas Systems, Inc.,
NGE Leasing, Inc. and Western National Bank dated September
15, 1999.*
10.16 Certain exhibits to Loan Agreement between Natural Gas
Services Group, Inc., Wallace Sparkman, Wallace O. Sellers,
CAV-RDV, Ltd., Diamente Investments, L.P., Rotary Gas Systems,
Inc., NGE Leasing, Inc. and Western National Bank dated
September 15, 1999.*
10.17 Commitment Letter dated June 24, 2002, from Western National
Bank to Natural Gas Services Group, Inc.*
10.18 Articles of Organization of Hy-Bon Rotary Compression, L.L.C.
dated April 17, 2000 and filed on April 20, 2001.*
10.19 Regulations of Hy-Bon Rotary Compression, L.L.C.*
21 Subsidiaries of the registrant.*
23.1 Consent of HEIN + ASSOCIATES LLP
23.4 Consent of Dorsey & Whitney LLP (included in Exhibit 5.1).
</Table>
*Previously filed.