UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, DC 20549
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FORM 10Q
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(Mark One)
[ X ] QUARTERLY REPORT UNDER SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT
OF 1934 For the quarterly period ended June 30, 2011
[ ] TRANSITION REPORT UNDER SECTION 13 OR 15(d) OF THE EXCHANGE ACT
For the transition period from __________ to ___________
Commission file number: 333-151398
GULFSTAR ENERGY CORPORATION
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(Exact name of registrant as specified in its charter)
Colorado 02-0511381
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(State of Incorporation) (IRS Employer ID Number)
600 17th Street, Suite 2800, Denver, Colorado 80202
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(Address of principal executive offices)
303-260-6492
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(Registrant's Telephone number)
Indicate by check mark whether the registrant (1) has filed all reports required
to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during
the past 12 months (or for such shorter period that the registrant was required
to file such reports), and (2) has been subject to the filing requirements for
the past 90 days. Yes [X] No [ ]
Indicate by check mark whether the registrant has submitted electronically and
posted on its corporate Web site, if any, every Interactive Data File required
to be submitted and posted pursuant to Rule 405 of Regulation S-T (ss.232.405 of
this chapter) during the preceding 12 months (or for such shorter period that
the registrant was required to submit and post such files). Yes [X] No [ ]
Indicate by check mark whether the registrant is a large accelerated file, an
accelerated filer, a non-accelerated filer, or a smaller reporting company. See
the definitions of "large accelerated filer," "accelerated filer" and "smaller
reporting company" in Rule 12b-2 of the Exchange Act.
Large accelerated filer [ ] Accelerated filer [ ] Non-accelerated filer [ ] (Do
not check if a smaller reporting company) Smaller reporting company [X]
Indicate by check mark whether the registrant is a shell company (as defined in
Rule 12b-2 of the Exchange Act). Yes [ ] No [ X]
Indicate the number of share outstanding of each of the issuer's classes of
common stock, as of the latest practicable date.
As of September 9, 2011, there were 11,324,479 shares of the registrant's common
stock outstanding.
PART I - FINANCIAL INFORMATION Page
Item 1. Condensed Consolidated Financial Statements
Condensed Consolidated Balance Sheets (Unaudited) - June 30, 2011
and December 31, 2010 1
CondensedConsolidated Statements of Operations (Unaudited) - Three and
Six months ended June 30, 2011 and 2010 and
From May 19, 2006 (Inception) to June 30, 2011 2
CondensedConsolidated Statements of Cash Flows (Unaudited) - Six
months ended June 30, 2011 and 2010 and
From May 19, 2006 (Inception) to June 30, 2011 3
Notes to the Unaudited Condensed Consolidated Financial Statements 4
Item 2. Management's Discussion and Analysis of Financial Condition
and Results of Operations 16
Item 3. Quantitative and Qualitative Disclosures About Market Risk - Not Applicable 21
Item 4. Controls and Procedures 21
PART II - OTHER INFORMATION
Item 1. Legal Proceedings - Not Applicable 22
Item 1A. Risk Factors - Not Applicable 22
Item 2. Unregistered Sales of Equity Securities and Use of Proceeds 23
Item 3. Defaults Upon Senior Securities - Not Applicable 23
Item 4. Removed and Reserved 23
Item 5. Other Information 23
Item 6. Exhibits 23
SIGNATURES 24
PART I
ITEM 1. FINANCIAL STATEMENTS
GULFSTAR ENERGY CORPORATION AND SUBSIDIARIES
(FORMERLY BEDROCK ENERGY, INC)
(A Company in the Development Stage)
CONDENSED CONSOLIDATED BALANCE SHEETS
(Unaudited)
June 30, December 31,
2011 2010
----------------- ----------------
ASSETS
Cash and cash equivalents $ 473,655 $ 65,799
Account receivable 63,770 33,653
Prepaids and other assets 47,547 33,660
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Total current assets 584,972 133,112
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Property, plant and equipment, net 4,385,848 4,404,314
Goodwill - 368,369
Intangible assets 170,874 170,874
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Total other assets 170,874 539,243
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Total assets $ 5,141,694 $ 5,076,669
================= ================
LIABILITIES AND STOCKHOLDERS' EQUITY
Accounts payable $ 824,472 $ 936,418
Litigation settlement payment - 15,000
Oil and gas proceeds due to others - 33,477
Notes payable, related party 9,835 335,078
Notes payable 48,233 -
Accrued liabilities 592,696 488,380
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Total current liabilities 1,475,236 1,808,353
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Commitments and Contingencies
STOCKHOLDERS' EQUITY
Preferred shares, no par value, 100,000,000 shares authorized;
no shares issued and outstanding - -
Common shares, $0.001 par value, 200,000,000 shares authorized;
17,984,138 and 16,985,086 shares issued and outstanding
at June 30, 2011 and December 31, 2010, respectively 17,984 16,985
Additional paid in capital 7,600,942 6,296,863
Treasury shares - 6,659,659 shares, at cost (929,744) -
Accumulated deficit (4,444,976) (4,332,703)
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Stockholders' equity before non-controlling interest 2,244,206 1,981,145
Non-controlling interest 1,422,252 1,287,171
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Total stockholders' equity 3,666,458 3,268,316
----------------- ----------------
Total liabilities and stockholders' equity $ 5,141,694 $ 5,076,669
================= ================
The accompanying notes are an integral part of the financial statements.
1
GULFSTAR ENERGY CORPORATION AND SUBSIDIARIES
(FORMERLY BEDROCK ENERGY, INC.)
(A Company in the Development Stage)
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
(Unaudited)
Three Months Ended Six Months Ended Period From
May 19, 2006
(Inception)
Through
-------------------------------- --------------------------------
June 30, 2011 June 30, 2010 June 30, 2011 June 30, 2010 June 30, 2011
-----------------------------------------------------------------------------------
Net revenues $ 36,675 $ 33,134 $ 82,367 $ 37,303 $ 183,644
Cost of sales 7,797 11,342 16,228 11,342 53,070
-------------- --------------- -------------- --------------- --------------
Gross profit 28,878 21,792 66,139 25,961 130,574
-------------- --------------- -------------- --------------- --------------
Operating expenses:
General and administrative expense 459,956 427,361 1,012,738 625,200 5,768,486
Goodwill impairment 368,369 - 368,369 - 368,369
-------------- --------------- -------------- --------------- --------------
Total operating expenses 828,325 427,361 1,381,107 625,200 6,136,855
-------------- --------------- -------------- --------------- --------------
(Loss) from operations (799,447) (405,569) (1,314,968) (599,239) (6,006,281)
-------------- --------------- -------------- --------------- --------------
Other income (expense):
Other income 1,234,674 1,988 1,234,690 233,353 1,483,298
Other expense (1,710) - (2,641) - (241,898)
-------------- --------------- -------------- --------------- --------------
Total other income (expense) 1,232,964 1,988 1,232,049 233,353 1,241,400
-------------------------------- -------------- --------------- --------------
Income (loss) before income taxes 433,517 (403,581) (82,919) (365,886) (4,764,881)
Income taxes - - - - -
-------------- --------------- -------------- --------------- --------------
Net income (loss) 433,517 (403,581) (82,919) (365,886) (4,764,881)
Net (income) loss attributable to the
non-controlling interest (128,361) - (29,354) - 319,905
-------------- --------------- -------------- --------------- --------------
Net income (loss) attributable to
Common stockholders $ 305,156 $ (403,581) $ (112,273) $ (365,886) $ (4,444,976)
============== =============== ============== =============== ==============
Basic and diluted net income (loss)
per common share $ 0.02 $ (0.03) $ (0.01) $ (0.03)
============== =============== ============== ===============
Weighted average number of
common shares outstanding 16,617,576 11,918,189 16,908,331 11,821,647
============== =============== ============== ===============
The accompanying notes are an integral part of the financial statements.
2
GULFSTAR ENERGY CORPORATION AND SUBSIDIARIES
(FORMERLY BEDROCK ENERGY, INC.)
(A Company in the Development Stage)
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(Unaudited)
Six Months Ended Period From
May 19, 2006
(Inception)
Through
OPERATING ACTIVITIES June 30, June 30, June 30,
2011 2010 2011
---------- ---------- -----------
Net loss attributable to Gulfstar common stockholders $ (112,273) $ (365,886) $ (4,444,976)
Adjustments to reconcile net loss to net cash
flows used in operating activities:
Non-controlling interest 29,354 - (319,905)
Non-cash transfer of related party note receivable - 82,325 82,325
Non-cash issuance of equity for services - - 331,565
Depreciation 111,629 54,004 295,178
Gain on disposal of equipment (1,067) - (1,067)
Non-cash gain on settlement (929,744) - (929,744)
Non-cash gain on reduction of note payable to related
party (303,804) - (303,804)
Impairment loss of goodwill 368,369 - 368,369
Changes in:
Account receivable (30,117) (28,245) (63,770)
Prepaids and other assets (13,887) - (47,547)
Litigation settlement payable (15,000) (25,000) -
Accounts payable and accrued liabilities (41,108) (221,109) 1,074,388
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Net cash used in operating activities (937,648) (503,911) (3,958,988)
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INVESTING ACTIVITIES
Expenditures for property, plant and equipment (1) (33,596) (635,371) (4,621,459)
Acquisition of Talon Energy Corporation, cash acquired - 76,977 76,977
Collection of note receivable - 10,000 -
Issuance of related party note receivable - - (82,325)
Proceeds from sale of equipment 16,500 - 16,500
Expenditures for intangible assets - - (170,874)
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Net cash used in investing activities (17,096) (548,394) (4,781,181)
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FINANCING ACTIVITIES
Issuance of shares and member contributions (1) 1,304,532 739,000 8,962,314
Redemption of shares - (41,000) (141,636)
Proceeds from short term notes payable 48,233 - 48,233
Proceeds from related party notes payable, net of
repayments (2) 9,835 - 344,913
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Net cash provided by financing activities 1,362,600 698,000 9,213,824
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NET CHANGE IN CASH 407,856 (354,305) 473,655
CASH, Beginning 65,799 645,622 -
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CASH, Ending $ 473,655 $ 291,317 $ 473,655
========== ========== ===========
NON CASH ACTIVITIES:
(1) Issuance of 50,000 shares Gulfstar LLC member
interest for PP&E $ 75,000 $ - $ 75,000
========== ========== ===========
(2) Issuance of 223,378 shares to reduce note
payable to related party $ 335,078 $ - $ 335,078
========== ========== ===========
The accompanying notes are an integral part of the financial statements.
3
GULFSTAR ENERGY CORPORATION AND SUBSIDIARIES
(A Company in the Development Stage)
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
FOR THE SIX MONTHS ENDED JUNE 30, 2011 and 2010
(Unaudited)
NOTE 1 - ORGANIZATION AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Nature of Operations and Organization
Bedrock Energy, Inc. was incorporated in Colorado on August 11, 2004 and on May
5, 2010 its name was changed to Gulfstar Energy Corporation ("Gulfstar" or the
"Company").
On May 5, 2010, the Company entered into a Share Exchange Agreement with Talon
Energy Corporation ("Talon"). Talon was a Florida company engaged in management
activities in the oil and gas industry. On June 24, 2010, the Share Exchange
Agreement with Talon was replaced by a similar Revised and Amended Share
Acquisition Agreement between Talon and the Company and in conjunction with a
June 24, 2010 Share Exchange Agreement between the Company and Gulfstar Energy
Group, LLC ("Gulfstar LLC"), a privately held Mississippi Limited Liability
Company, for 58.3% of the outstanding equity interests of Gulfstar LLC, and an
Acquisition Agreement between the Company and Gulfstar LLC to acquire the
remaining 41.7% of the outstanding equity interests of Gulfstar LLC. The Revised
and Amended Share Acquisition Agreement and Share Exchange Agreement were both
effective as of June 30, 2010.
The Share Exchange Agreement between the Company and Gulfstar LLC provided for
Jason Sharp and Timothy Sharp ("Sharps"), officers and members of Gulfstar LLC,
to exchange their 58.3% of Gulfstar LLC outstanding equity interests for
11,659,659 restricted shares of common stock of the Company.
The Gulfstar LLC exchange was accounted for as a reverse recapitalization in
which Gulfstar LLC was determined to be the acquirer for accounting purposes.
The June 24, 2010 Acquisition Agreement between the Company and Gulfstar LLC
provides for the acquisition of the remaining outstanding equity interests of
Gulfstar LLC, but requires a Registration Statement to be filed with the
Securities and Exchange Commission by September 30, 2011 to register these
remaining shares of common stock offered by the Company to the individual equity
interest holders of Gulfstar LLC. This Registration Statement has until December
31, 2011 to become effective. As of June 30, 2011, these remaining 41.7% equity
interests of Gulfstar LLC have not been acquired by the Company.
The Revised and Amended Share Acquisition Agreement with Talon provided for the
Company to issue 3,509,530 restricted shares of its common stock to the
shareholders of Talon in exchange for the issued and outstanding shares of
Talon. After the exchange of such shares the Company owned 100% of the issued
and outstanding shares of Talon.
On June 15, 2011, the Company entered into an Agreement with Gulfstar LLC and
the Sharps in order for the Sharps to compensate the Company as a result of
events that had taken place over a period of time since July 2010 and as such
adjust the share consideration for the change in value of the assets previously
acquired. The parties acknowledged that this Agreement was not intended to
otherwise change or amend that certain Acquisition Agreement and Share Exchange
Agreement entered into on June 24, 2010 by and between the parties. As a result
and as part of the Agreement, the Sharps agreed to return to the Company
6,659,659 shares of their common stock valued at $929,744 or approximately $.14
per share. The Company has recorded these shares as Treasury Shares and recorded
the claims settlement as other income during the second quarter of 2011. In
addition, as part of this Agreement, the Sharps agreed to place into escrow
2,408,985 shares of their remaining 5,000,000 shares of common stock for the
benefit of the remaining minority equity holders of Gulfstar LLC subject to the
filing and effectiveness of the Registration Statement with the Security and
Exchange Commission. As a result of this Agreement, the Sharps have retained an
ownership of 2,591,015 shares of common stock of the Company.
Gulfstar LLC built and currently operates a 16-mile natural gas pipeline supply
system in Western Kentucky for the transportation of natural gas and provides
property management services for the operation of 20 wells in Kentucky of which
it holds overriding royalty interest of approximately 12.5% and holds mineral
rights on approximately 9,000 acres of leased land. Since the inception of the
Pipeline and the flow of natural gas during the second quarter of 2010, Gulfstar
LLC has encountered significant challenges in increasing the flow of natural gas
through its Pipeline. As a result of these challenges and limited ability of the
Company to fund future development of natural gas wells to the Pipeline, the
Company has decided to additionally focus on the exploration and production of
oil and gas leases located in other parts of the United States, including
Kentucky and Colorado.
4
As part of its focus on exploration and production, the Company acquired on
August 5, 2011 at a cost of $80,000 a 100% working interest, 81.25% net revenue
interest, in approximately 320 acres in Weld County, Colorado which is located
about 40 miles north of Denver, Colorado and lies in what is called the Denver,
Julesberg Basin (DJ Basin). The DJ Basin is the predominant geological structure
in Northern Colorado. The shallow "J" and "D" sand formations of the DJ Basin
constitute a common source of oil and gas. The acreage in Weld County has forty
(40) acre drilling and spacing units for the production of oil and gas from the
"D" and "J" sand formations.
The acreage contained within this lease has an 18-month term ("Primary Term"),
and may be extended if the Company drills two wells during the Primary Term, or
if other conditions are met. The term of the lease can continue as long as the
Company produces oil and gas in paying quantities during the term of the lease.
Interim Presentation
In the opinion of the management of the Company, the accompanying unaudited
financial statements include all material adjustments, including normal and
recurring adjustments, considered necessary to present fairly the financial
position and operating results of the Company for the period presented. The
financial statements and notes are presented as permitted by Form 10-Q, and do
not contain certain information included in the Company's Annual Report on Form
10-K for the fiscal year ended December 31, 2010. It is the Company's opinion
that when the interim financial statements are read in conjunction with the
December 31, 2010 Annual Report on Form 10-K and its Current Report on Form
10-Q, the disclosures are adequate to make the information presented not
misleading. Interim results are not indicative of results for a full year or any
future period.
Principles of Consolidation
Gulfstar LLC was determined to be the accounting acquirer in the reverse
recapitalization that occurred on June 30, 2010. As a result, all financial
information prior to June 30, 2010 will include only the accounts of Gulfstar
LLC. Subsequent to June 30, 2010, the accompanying financial information will
include the accounts of Gulfstar, its wholly owned subsidiary, Talon, and its
majority owned subsidiary, Gulfstar LLC. As of June 30, 2011, Gulfstar
liquidated Talon and assumed net liabilities in the amount of $263,083. All
significant inter-company balances and transactions have been eliminated during
consolidation.
Development Stage
The Company and its subsidiaries are currently focusing on the exploration and
production activities, limited operation of its pipeline gathering system and
management of existing oil and gas wells. Significant additional efforts, and
funding, neither of which is assured, are required for the Company to achieve
its intended normalized operating level. Substantially all of the Company's
efforts are devoted to the establishment of sufficient resources and revenue
producing assets in order to achieve its overall operational goals. Though
planned principal operations are anticipated to commence, no significant revenue
has been realized from the Company's to-date activities. The consolidated
statements of operations are shown inclusive of all cumulative revenue and
expense activity since the inception date of the Company, May 19, 2006, while
the Company is in the development stage.
Non-Controlling Interest
The non-controlling interest is related to Gulfstar LLC, which is consolidated,
but not wholly owned by the Company. At June 30, 2011, the Company owned 58.3%
of the equity interest of Gulfstar LLC and therefore, the non-controlling
interest of 41.7% was $1,422,252. At December 31, 2010, the Company owned 58.4%
of the equity interest of Gulfstar LLC and therefore, the non-controlling
interest of 41.6% was $1,287,171.
5
Income Taxes
Gulfstar LLC, a limited liability company, is not a tax paying entity for
Federal income tax purposes. Its pro rata share of income, losses and tax
credits is passed through to its members and reported by its members on their
individual income tax returns. The consolidated statement of operations for the
six months ended June 30, 2010 and for the period from May 19, 2006 (inception)
through June 30, 2010 includes the accounts of Gulfstar LLC only, therefore, no
provision for federal income taxes or for deferred taxes has been determined.
The Company has determined, for the period July 1, 2010 through December 31,
2010 and for the period January 1, 2011 through June 30, 2011, any provision for
income taxes or deferred taxes and this determination has been based upon the
accounts of Gulfstar Energy Corporation, Talon and the pro rata loss of Gulfstar
LLC passed through and reportable by Gulfstar Energy Corporation.
The Company accounts for income taxes under the liability method as prescribed
by ASC authoritative guidance. Deferred tax liabilities and assets are
determined based on the difference between the financial statement and tax bases
of assets and liabilities using enacted rates expected to be in effect during
the year in which the basis difference reverses. The realizability of deferred
tax assets are evaluated quarterly and a valuation allowance is provided if it
is more likely than not that the deferred tax assets will not give rise to
future benefits in the Company's income tax returns. The primary timing
differences between financial and tax reporting arise from federal net operating
loss carryforwards, amortization of start up costs, and accrued expenses.
The Company assessed the likelihood of utilization of the deferred tax assets,
in light of recent and expected continuing losses. As a result of this review,
the deferred tax asset of $745,871 and $758,227 has been fully reserved at June
30, 2011 and December 31, 2010, respectively. As of June 30, 2011, the Company
had net operating loss carryforwards for income tax and financial reporting
purposes of approximately $760,000 expiring in the years 2020 through 2031.
The Company has adopted ASC guidance regarding accounting for uncertainty in
income taxes. This guidance clarifies the accounting for income taxes by
prescribing the minimum recognition threshold an income tax position is required
to meet before being recognized in the financial statements and applies to all
income tax positions. Each income tax position is assessed using a two step
process. A determination is first made as to whether it is more likely than not
that the income tax position will be sustained, based upon technical merits,
upon examination by the taxing authorities. If the income tax position is
expected to meet the more likely than not criteria, the benefit recorded in the
financial statements equals the largest amount that is greater than 50% likely
to be realized upon its ultimate settlement. At June 30, 2011, there were no
uncertain tax positions that required accrual.
None of the Company's federal or state income tax returns are currently under
examination by the Internal Revenue Service or state authorities. However,
calendar years 2007 and later remain subject to examination by the Internal
Revenue Service and respective states.
Business Combinations
The Company accounts for acquisitions in accordance with guidance found in ASC
805, Business Combinations. The guidance, effective January 1, 2009, requires
consideration given, including contingent consideration, assets acquired and
liabilities assumed to be valued at their fair market values at the acquisition
date. The guidance further provides that: (1) in-process research and
development will be recorded at fair value as an indefinite-lived intangible
assets; (2) acquisition costs will generally be expensed as incurred, (3)
restructuring costs associated with a business combination will generally be
expensed subsequent to the acquisition date; and (4) changes in deferred tax
asset valuations and income tax uncertainties after the acquisition date
generally will affect income tax expense.
6
ASC 805 requires that any excess of purchase price over fair value of assets
acquired, including identifiable intangibles and liabilities assumed be
recognized as goodwill. In accordance with ASC 805, any excess off fair value of
acquired net assets, including identifiable intangible assets, over the
acquisition consideration results in a bargain purchase gain. Prior to recording
a gain, the acquiring entity must reassess whether all acquired assets and
assumed liabilities have been identified and recognized and perform
re-measurements to verify that the consideration paid, assets acquired and
liabilities assumed have been properly valued.
Income or Loss Per Share
Income or loss per share is computed by dividing net income or loss by the
weighted average number of common shares outstanding and requires presentation
of both basic and diluted loss per common share. Common share equivalents, if
used, would consist of any options, warrants and contingent shares. Common share
equivalents would not be included in the weighted average calculation for the
periods that reported a net loss since their effect would be anti-dilutive. As
of June 30, 2011 and December 31, 2010, the Company had outstanding no options,
warrants or contingent shares.
Use of Estimates
The preparation of financial statements in conformity with generally accepted
accounting principles in the United States of America requires management to
make estimates and assumptions that affect the reported amount of assets and
liabilities and disclosures of contingent assets and liabilities at the date of
the financial statements and the reported amounts of revenues and expenses
during the reporting period. Actual results could differ from those estimates,
and such differences may be material to the financial statements.
Concentration of Credit Risk
The Company, from time to time during the periods covered by these consolidated
financial statements, may have bank balances in excess of its insured limits.
Management has deemed this a normal business risk.
Cash and Cash Equivalents
For purposes of the statement of cash flows, the Company considers all cash and
highly liquid investments with initial maturities of three months or less to be
cash equivalents.
Accounts Receivable
Accounts receivable are stated at their cost less any allowance for doubtful
accounts. The allowance for doubtful accounts is based on the management's
assessment of the collectability of specific customer accounts and the aging of
the accounts receivable. If there is deterioration in a major customer's
creditworthiness or if actual defaults are higher than the historical
experience, the management's estimates of the recoverability of amounts due to
the Company could be adversely affected. Based on the management's assessment,
no reserve is deemed necessary at June 30, 2011 and December 31, 2010.
Revenue Recognition
The Company recognizes revenue from its Pipeline segment upon shipment of the
gas to its customers. Royalty revenue is recognized from the Company's oil and
gas property management and exploration and production segment in the period of
production.
7
Property and Equipment
The Company follows the full cost method of accounting for oil and natural gas
operations. Under this method, all productive and nonproductive costs incurred
in connection with the acquisition, exploration, and development of oil and
natural gas reserves are capitalized. No gains or losses are recognized upon the
sale or other disposition of oil and natural gas properties except in
transactions that would significantly alter the relationship between capitalized
costs and proved reserves. The costs of unevaluated oil and natural gas
properties are excluded from the amortizable base until the time that either
proven reserves are found or it has been determined that such properties are
impaired. As properties become evaluated, the related costs transfer to proved
oil and natural gas properties using full cost accounting. None of the
capitalized costs in the amount of $320,980 were included in the amortization
base as of June 30, 2011, nor did the Company expense any capitalized costs
during the six months ended June 30, 2011 and 2010. The Company does not have
significant oil and gas producing activities as of June 30, 2011 and December
31, 2010, and its oil and gas properties are still in the drilling phase and
have not been evaluated.
Management capitalizes additions to property and equipment including its
pipeline. Expenditures for repairs and maintenance are charged to expense.
Property and equipment are carried at cost. Adjustment of the asset and the
related accumulated depreciation accounts are made for property and equipment
retirements and disposals, with the resulting gain or loss included in the
consolidated statements of operations.
In accordance with authoritative guidance on accounting for the impairment of
disposal of long-lived assets, as set forth in Topic 360 of the ASC, the Company
assesses the recoverability of the carrying value of its non-oil and gas
long-lived assets when events occur that indicate an impairment in value may
exist. An impairment loss is indicated if the sum of the expected undiscounted
future net cash flows is less than the carrying amount of the assets. If this
occurs, an impairment loss is recognized for the amount by which the carrying
amount of the assets exceeds the estimated fair value of the asset. During the
quarter ended June 30, 2011, the Company entered into an agreement with Gulfstar
LLC and the Sharps which the Company determined is an event that required the
Company to assess whether the carrying value of the Pipeline was impaired. As a
result of the Company's analysis, the Company assessed there was no impairment
to the Pipeline.
Goodwill
In accordance with generally accepted accounting principles, goodwill cannot be
amortized, however, it must be tested annually for impairment. This impairment
test is calculated at the reporting unit level. The goodwill impairment test has
two steps. The first identifies potential impairments by comparing the fair
value of a reporting unit with its book value, including goodwill. If the fair
value of the reporting unit exceeds the carrying amount, goodwill is not
impaired and the second step is not necessary. If the carrying value exceeds the
fair value, the second step calculates the possible impairment loss by comparing
the implied fair value of goodwill with the carrying amount. If the implied
goodwill is less than the carrying amount, a write-down is recorded. Management
tests goodwill each year for impairment, or when facts or circumstances indicate
impairment has occurred. During the quarter ended June 30, 2011, the Company
entered into an agreement with Gulfstar LLC and the Sharps which the Company
determined is an event that required the Company to assess whether the carrying
value of goodwill was impaired. As a result of the Company's analysis, the
Company assessed that goodwill was impaired and therefore an impairment loss was
recorded in the amount of $368,369 as an operating expense.
Intangible Assets
Intangible assets consist of right of way deposits, which are contracts allowing
the Company to install pipeline on private land. The rights exist indefinitely
and therefore, no amortization has been recorded. Management evaluates the
assets for impairment whenever events or circumstances indicate a possible
impairment. During the quarter ended June 30, 2011, the Company entered into an
agreement with Gulfstar LLC and the Sharps which the Company determined is an
event that required the Company to assess whether the carrying value of the
right of ways were impaired. As a result of the Company's analysis, the Company
assessed there was no impairment to the right of ways.
8
Significant Customer
The Company's pipeline construction was finished during the second quarter of
2010 and is currently delivering natural gas to one manufacturing customer
located in Kentucky. Revenue earned from the oil and gas property management
segment and exploration and production segment are determined based upon
division orders with one purchaser.
Depreciation
For financial reporting purposes, depreciation of property and equipment is
computed using the straight-line method over the estimated useful lives of
assets at acquisition. For income tax reporting purposes, depreciation of
property and equipment is computed using the straight-line and accelerated
methods over the estimated useful lives of assets at acquisition.
Recent Accounting Pronouncements
There were accounting standards and interpretations issued during the six months
ended June 30, 2011, none of which are expected to have a material impact on the
Company's financial position, operations or cash flows.
NOTE 2 - SIGNIFICANT ACQUISITIONS
Effective June 30, 2010, the Company acquired 100% of the issued and outstanding
stock of Talon. The acquisition was accounted for using the purchase method in
accordance with guidance provided in Topic 805 of the Codification. As of June
30, 2011, Talon has been liquidated with Gulfstar assuming $263,083 of net
liabilities.
The following table presents the allocation of the purchase price to the assets
acquired and liabilities assumed, based on their fair values at June 30, 2010:
Purchase price
Assumed liabilities in excess of cash $263,083
3,509,530 shares of the Company common
Stock valued at $.03 per share $105,286
--------
Total consideration $368,369
========
Allocation of purchase price
Goodwill $368,369
--------
Net assets acquired $368,369
========
Goodwill associated with the above transaction is not amortizable for tax
purposes. During the quarter ended June 30, 2011, the Company wrote off goodwill
as an operating expense after the Company assessed that goodwill has been
impaired.
NOTE 3 - GOING CONCERN AND MANAGEMENT'S PLAN
As shown in the accompanying consolidated financial statements, the Company has
recognized a net loss of $112,273 for the six months ended June 30, 2011 and
reported an accumulated deficit of $4,444,976. At June 30, 2011, the Company had
total current assets of $584,972 and total current liabilities of $1,475,236 for
a working capital deficiency of $890,264.
9
To the extent the Company's operations are not sufficient to fund the Company's
capital requirements, the Company will attempt to enter into a revolving loan
agreement with a financial institution or attempt to raise capital through the
sale of additional capital stock or through the issuance of debt. At the present
time, the Company does not have a revolving loan agreement with any financial
institution nor can the Company provide assurance that it will be able to enter
into any such agreement in the future or be able to raise funds through the
further issuance of debt or equity in the Company.
The accompanying consolidated financial statements have been prepared assuming
that the Company will continue as a going concern; however, the above conditions
raise substantial doubt about the Company's ability to do so. The consolidated
financial statements do not include any adjustment to reflect the possible
future effect on the recoverability and classification of assets or the amounts
and classifications of liabilities that may result should the Company be unable
to continue as a going concern.
NOTE 4 - RELATED PARTY TRANSACTIONS
Note Receivable
At December 31, 2009, the Company was owed $82,325 from an officer. The note was
non-interest bearing, unsecured and due no later than two years after the
completion of the pipeline, which was completed during the second quarter of
2010. During second quarter of 2010 and prior to the acquisition of Gulfstar
LLC, the note receivable was written-off as compensation expense.
Oil and Gas Proceeds Due to Others
As described in Note 6, the Company owed oil and gas proceeds to working
interest owners totaling $49,011 and $33,477 as of June 30, 2011 and December
31, 2010, respectively.
Notes Payable
During the six months ended June 30, 2011, the Company borrowed $40,000 from an
affiliate of a member-manager of Gulfstar LLC and a greater than 5% shareholder
of the Company and in exchange issued an unsecured promissory note dated January
4, 2011 that is due in full on or before December 31, 2011. Interest is accrued
at the rate of one percent (1.0%) per annum. As of June 30, 2011, the Company
owes $9,835 on the promissory note.
During the year ended December 31, 2010, the Company borrowed a total of
$335,078 from an affiliate of a member-manager of Gulfstar LLC and a greater
than 5% shareholder of the Company and in exchange issued an unsecured
promissory note dated November 30, 2010 that is due in full on or before
December 31, 2011. Interest is accrued at the rate of one percent (1.0%) per
annum. On May 30, 2011, the Company and the affiliate entered into an agreement
whereby the parties agreed to pay the promissory in full in exchange for 223,385
shares of the Company's common stock valued at $.14 per share. As a result of
this agreement, Gulfstar LLC recognized a gain on extinguishment of debt in the
amount of $303,804 that was recorded as other income during the second quarter
of 2011.
10
NOTE 5 - PROPERTY AND EQUIPMENT
Property and equipment consist of the following at:
June 30, December 31,
--------- ------------
2011 2010
---- ----
Pipeline $ 4,194,885 $4,119,885
Oil and Gas Properties (in process) 320,980 287,024
Office Equipment 26,652 27,014
Vehicles 80,140 103,940
Land 50,000 50,000
--------------- ----------
Total Property & Equipment 4,622,659 4,587,863
Less Accumulated Depreciation (236,811) (183,549)
--------------- ----------
Net Property & Equipment $4,385,848 $4,404,314
================ ==========
Depreciation expense was $55,769 and $111,629, respectively, for the three
months and six months ended June 30, 2011 and $49,619 and $54,005, respectively,
for the three and six months ended June 30, 2010.
NOTE 6 - DRILLING VENTURES
The Company holds overriding royalty interests in various wells in Kentucky. The
Company syndicated the financing of these wells through offering a 100% working
interest in the wells in exchange for contribution of funds to drill the wells.
As part of the transaction, the Company retained approximately 12.5% overriding
royalty interests in the wells and also agreed to provide property management
services on behalf of the working interest owners in the wells. This income from
the wells earned by the Company is reported as royalty income as reflected in
Note 8 - Information on business segments.
As part of the property management services provided, the Company collects the
royalties generated from the wells on behalf of the working interest owners and
pays the various costs and expenses incurred on behalf of the wells. The Company
records no costs or expenses relative to these wells on its consolidated
statements of operations. The excess of the royalties collected by the Company
on behalf of the working interest owners were recorded as oil and gas proceeds
due to others on the consolidated balance sheets of the Company. At June 30,
2011 and December 31, 2010, the Company owed oil and gas proceeds to working
interest owners in the amount of $49,011 and $33,477, respectively. At June 30,
2011, the Company has netted the amount of $49,011 against advances by the
Company to the working interest owners.
NOTE 7- LITIGATION SETTLEMENT PAYMENT
In March 2010, the Company settled certain environmental litigation. As a result
of the settlement, the Company was required to pay $70,000 during the year ended
December 31, 2010. This amount was paid by the Company during the second quarter
of 2010, in addition to $100,000, which was paid during the year ended December
31, 2009. As a result, $170,000 was recorded as other expense in the
consolidated statement of operations for the year ended December 31, 2009.
Additionally, the Company received $230,000 from a consultant contracted by the
Company for services provided related to the environmental litigation. The
income from the settlement with the consultant was recognized as other income
during the first quarter of 2010.
In February, 2009, the Company received two Notices of Violation from the
Commonwealth of Kentucky's Energy and Environment Cabinet ("Cabinet") as a
result of the Company's failure to obtain appropriate permits in advance of
certain construction activities and for "causing or contributing to the
pollution of the waters of the Commonwealth of Kentucky" during 2007. The
Company neither admitted to nor denied the alleged violations but accepted civil
responsibility for the violations on May 6, 2010. As a result of the settlement
of the dispute, the Company agreed to pay a civil penalty of $60,000 to the
Commonwealth of Kentucky by way of 12 equal monthly installment payments,
beginning in May of 2010. The Company recorded a $60,000 General &
Administration Expense during the second quarter of 2010 to recognize the
settlement with the Cabinet and as of June 30, 2011, the liability was paid in
full.
11
NOTE 8 - INFORMATION ON BUSINESS SEGMENTS
The Company operates in three business segments: Pipeline, Oil and Gas Property
Management, and Exploration and Production.
Pipeline
Gulfstar LLC has built and currently operates a 16-mile nature gas pipeline
located in Western Kentucky for the transportation of natural gas. The pipeline
operations transport gas to a burner tip processing plant located near Bowling
Green, Kentucky where it is sold pursuant to a gas purchase agreement. Pipeline
revenue is recognized upon delivery of the gas to its customer. The pipeline has
a throughput capacity of 18 Million Cubic Feet per day (MMcf/d). The pipeline is
currently not operating at full capacity as it transported an average of 83 and
81 Mcf/d respectively of natural gas during the three and six months ended June
30, 2011 and an average of 102 and 51 Mcf/d, respectively, of natural gas during
the three and six months ended June 30, 2010.
Oil and Gas Property Management ("O&G Property Mgmt")
Gulfstar LLC is the manager and operator of 20 wells in Western Kentucky.
Gulfstar LLC offers working interests in the properties on behalf of the
leaseholders. Using these funds, Gulfstar LLC pays for the costs incurred in
drilling, reworking and development of the wells. Gulfstar LLC holds an
overriding royalty interest of approximately 12.5% and holds mineral rights on
approximately 9,000 acres of leased land. Gulfstar collects revenues on behalf
of the working interest holders and distributes each working interest holders'
share of revenue when collected. A receivable is recorded for oil and gas
revenue when earned and a related payable due to interest holders is recorded
net of the 12.5% revenue interest and direct costs due to Gulfstar LLC.
Exploration and Production ("E&P")
During the fourth quarter of 2010, Gulfstar LLC began drilling a horizontal well
located in Warren County, Kentucky with total capitalized costs of $320,980 as
of June 30, 2011. Gulfstar LLC owns a working interest of 64.0% and a net
revenue interest of 48.0% in this well and anticipates completion of this well
by the end of 2011. After completion, the well will be connected to Gulfstar
LLC's pipeline for delivery of gas. Also, Gulfstar LLC own a similar working and
net revenue interest in an offset well that produces oil. During the three and
six months ended June 30, 2011, this well produced net revenue of $7,407 and
$26,940, respectively.
The following data is presented for the Company's three operating segments:
Pipeline, O&G Property Management and E&P.
12
Three Months Ended Six Months Ended
June 30, June 30,
2011 2010 2011 2010
---- ---- ---- ----
Net Revenue
Pipeline $ 18,539 $ 28,245 $ 35,661 $ 28,245
O&G Property Management 10,729 4,889 19,766 9,058
E&P 7,407 - 26,940 -
------------------------------ --------------------------------
Total Net Revenues 36,675 33,134 82,367 37,303
Operating Income (Loss)
Pipeline (69,341) 16,903 (137,670) 16,903
O&G Property Management 10,729 4,889 19,766 9,058
E&P (360,962) - (341,429) -
Corporate (379,873) (427,361) (855,635) (625,200)
------------------------------ --------------------------------
Total Operating (Loss) (799,447) (405,569) (1,314,968) (599,239)
Other Income (Expense) 1,232,964 1,988 1,232,049 233,353
------------------------------ --------------------------------
(Loss) Before Income Taxes $ 433,517 $(403,581) $ (82,919) $(365,886)
============================== ================================
June 30, 2011 December 31, 2010
------------- -----------------
Total Assets
Pipeline $4,230,922 $4,213,512
O&G Property Management 18,145 3,758
E&P 417,479 706,893
Corporate 475,148 170,456
------------ ------------
Total Assets $5,141,694 $5,076,669
========== ==========
GULFSTAR ENERGY CORPORATION AND SUBSIDIARIES
(A Company in the Development Stage)
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
FOR THE SIX MONTHS ENDED JUNE 30, 2011 and 2010
(Unaudited)
NOTE 9 - NOTE PAYABLE
The Company borrowed funds in the amount of $48,000 from a financial institution
for working capital purposes during the second quarter of 2011 and the loan is
evidenced by a promissory note dated April 7, 2011 that is collateralized by
vehicles. The promissory note is due on demand and matures on April 7, 2012 at
an interest rate of 6.99% per annum with monthly interest only payments. As of
June 30, 2011 the Company owes $48.233. Interest expense was $1,710 and $1,710,
respectively, during the three and six months ended June 30, 2011.
NOTE 10 - STOCKHOLDERS' EQUITY
Preferred Shares
The Company is authorized to issue 100,000,000 shares of no par value preferred
stock. As of June 30, 2011 and December 31, 2010, the Company has no shares
issued and outstanding.
13
Common Shares
The Company is authorized to issue 200,000,000 shares of $.001 voting common
stock. At June 30, 2011 and December 31, 2010, there were a total of 17,984,138
and 16,985,086 shares of common stock issued and 11,324,479 and 16,985,086
shares of common stock outstanding, respectively. On May 5, 2010, the Board of
Directors of the Company authorized a one share for eight share reverse stock
split, effective on May 5, 2010. All share and per share references have been
adjusted for the reverse split.
Treasury Shares
On May 30, 2011 the Company acquired 6,659,659 shares of common stock from the
Sharps in exchange for the payment of claims valued at $929,744 and these shares
are still in treasury as of June 30, 2011.
Stock Option Plan
In the first quarter of 2011, the Company adopted the 2011 Stock Option Plan.
The maximum number of shares of common stock reserved for issuance under the
Plan is 3,000,000 shares. The number of shares, however, may be adjusted to
reflect certain corporate transactions or changes in our capital structure. All
employees of the Company and its subsidiaries, including employees who are
officers or members of our Board of Directors and non-employee members of our
Board of Directors are eligible to participate in the Plan. In addition, key
advisors who perform services for the Company and its subsidiaries are eligible
to participate in the Plan. The Plan is administered by our Board of Directors
and they have the authority to, among other things, select plan participants,
determine the type and amount of awards, determine awards terms, and interpret
the Plan and any Plan awards. During any calendar year, participants are limited
in the number of grants they may receive under the Plan. In any year, an
individual may not receive options for more than 300,000 shares. The Plan
requires that the exercise price for stock options be equal to or greater than
the fair market value of our common stock on the date of the grant. If the
option is granted to an employee who, at the time of grant, owns stock
possessing more than ten percent of the total combined voting power of all
classes of stock of the Company or subsidiary of the Company, the exercise price
shall not be less than one-hundred and ten percent of the fair market value of
our common stock on the date of the grant. As of June 30, 2011, no shares have
been issued in relation to the 2011 Stock Option Plan.
NOTE 11 - AGREEMENTS
On October 20, 2010, the Company engaged Maxim Group LLC to provide gross
proceeds of up to $100 Million from a proposed private placement of Company
equity and/or convertible debt. The precise terms of the private placement will
be negotiated between Maxim Group LLC, potential investors and the Company. As
of June 30, 2011 there is no financing in place.
On January 19, 2011, the Company signed a letter agreement with Wright Capital
Corporation to pursue a proposed financing of up to $90 Million to be used to
assist the Company in the proposed purchase of assets connected to oil and gas
leases and for the further development of the Company's existing pipeline
structure in Kentucky. The Company was unsuccessful in purchasing these oil and
gas leases. However the Company will continue its relationship with Wright
Capital in an effort to bring additional financing to the Company and as of June
30, 2011 there is no financing in place.
NOTE 12 - GULFSTAR LLC CASH DISTRIBUTIONS
The Gulfstar LLC operating agreement provides a priority preference as to any
future cash distributions paid by Gulfstar LLC to the owners of its equity
interests. As such, fifty percent (50%) of all cash distributions shall be paid
first to the non-controlling equity interests until such time they have received
in full their capital contributions. After which time, cash distributions shall
be paid in proportion to the percentage of all equity interests. As of June 30,
2011 and December 31, 2010, Gulfstar LLC has not repaid any of the
non-controlling equity interests' capital contributions.
14
NOTE 13 - SUBSEQUENT EVENTS
Effective July 1, 2011, the Company granted options as part of the 2011 Stock
Option Plan to each of its five members to acquire 150,000 shares of common
stock each at an exercise price of $1.50 per share. Also, the Board approved the
granting of options to two of its Board committee members to acquire 75,000
shares of common stock each and one key advisor to acquire 50,000 shares of
common stock at an exercise price of $1.50 per share.
The Company acquired on August 5, 2011 at a cost of $80,000 a 100% working
interest, 81.25% net revenue interest, in approximately 320 acres in Weld
County, Colorado which is located about 40 miles north of Denver, Colorado and
lies in what is called the Denver, Julesberg Basin (DJ Basin). The acreage
contained within this lease has an 18-month term ("Primary Term"), and may be
extended if the Company drills two wells during the Primary Term, or if other
conditions are met. The term of the lease can continue as long as the Company
produces oil and gas in paying quantities during the term of the lease.
15
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
The following discussion should be read in conjunction with our unaudited
financial statements and notes thereto included herein. In connection with, and
because we desire to take advantage of, the "safe harbor" provisions of the
Private Securities Litigation Reform Act of 1995, we caution readers regarding
certain forward looking statements in the following discussion and elsewhere in
this report and in any other statement made by, or on our behalf, whether or not
in future filings with the Securities and Exchange Commission. Forward-looking
statements are statements not based on historical information and which relate
to future operations, strategies, financial results or other developments.
Forward looking statements are necessarily based upon estimates and assumptions
that are inherently subject to significant business, economic and competitive
uncertainties and contingencies, many of which are beyond our control and many
of which, with respect to future business decisions, are subject to change.
These uncertainties and contingencies can affect actual results and could cause
actual results to differ materially from those expressed in any forward looking
statements made by, or on our behalf. We disclaim any obligation to update
forward-looking statements.
OPERATIONS
Since the second half of 2010, Gulfstar LLC has transported limited quantities
of gas via its pipeline system due to its inability to bring additional flow of
natural gas from existing wells. The Company has worked with its drilling
partners to increase the production of natural gas through reworking the wells
but has found limited success. Also, Gulfstar LLC operates as a manager and
operator of these wells that are connected to the Pipeline. Gulfstar LLC holds
overriding royalty interests of approximately 12.5% in these wells and financed
these wells through offering a 100% working interest in the wells in exchange
for contribution of funds to drill the wells. Therefore, Gulstar LLC does not
hold any working interest in the wells. As a result of its limited success in
owning and operating the Pipeline, the Company has decided to additionally focus
its operations on exploration & production.
As part of its focus on exploration and production, the Company acquired on
August 5, 2011 at a cost of $80,000 a 100% working interest, 81.25% net revenue
interest, in approximately 320 acres in Weld County, Colorado which is located
about 40 miles north of Denver, Colorado and lies in what is called the Denver,
Julesberg Basin (DJ Basin). The DJ Basin is the predominant geological structure
in Northern Colorado. The shallow "J" and "D" sand formations of the DJ Basin
constitute a common source of oil and gas. The acreage in Weld County has forty
(40) acre drilling and spacing units for the production of oil and gas from the
"D" and "J" sand formations.
The acreage contained within this lease has an 18-month term ("Primary Term"),
and may be extended if the Company drills two wells during the Primary Term, or
if other conditions are met. The term of the lease can continue as long as the
Company produces oil and gas in paying quantities during the term of the lease.
Further, the Company is currently in discussions to acquire additional acreage
of oil and gas leases located in other parts of the United States that will
greatly benefit its revenues and intends to leverage its assets to develop
energy prospects for its own account or co-venture with other companies, which
can benefit from an association with the Company's management.
On January 19, 2011, the Company signed a letter agreement with Wright Capital
Corporation to pursue a proposed financing of up to $90 Million to be used to
assist the Company in the proposed purchase of assets connected to oil and gas
leases and for the further development of the Company's existing pipeline
structure in Kentucky. The Company was unsuccessful in purchasing these oil and
gas leases however the Company will continue its relationship with Wright
Capital in an effort to bring additional financing to the Company.
The Company will need substantial additional capital to support its proposed
future operations and as such is aggressively seeking this capital, as evidenced
by its current arrangement with Wright Capital Corporation and Maxim Group LLC.
Nonetheless, there are currently minimal revenues and limited committed sources
for additional funds as of the date hereof. No representation is made that any
funds will be available when needed. In the event funds cannot be raised when
needed, the Company may not be able to carry out its business plan, may never
achieve projected levels of sales or royalty income, and could fail in business
as a result of these uncertainties.
16
RESULTS OF OPERATIONS
For the Three and Six Months Ended June 30, 2011 Compared to the Three and Six
Months Ended June 30, 2010
During the three and six months ended June 30, 2011, we recognized net revenues
of $36,675 and $82,367 as more specifically described in the notes to the
financial statements with corresponding direct costs of $7,797 and $16,228 for a
gross profit of $28,878 and $66,139 respectively. During the three and six
months ended June 30, 2010, we recognized net revenues of $33,134 and $37,303
with corresponding direct costs of $11,342 and $11,342 for a gross profit of
$21,792 and $25,961 respectively. The increase in net revenues $45,064 for the
six months ended June 30, 2011 as compared to June 30, 2010 was due to the
pipeline not being in service until the second quarter of 2010.
During the three months ended June 30, 2011, we incurred total operating
expenses of $828,325 as compared to $427,361 for the three months ended June 30,
2010. This increase of $400,964 was due to a write off of goodwill in the amount
of $368,369 and an increase in general and administrative expenses. During the
six months ended June 30, 2011, we incurred total operating expenses of
$1,381,107 as compared to $625,200 for the six months ended June 30, 2010. The
increase of $755,907 was the result of a write off of goodwill in the amount of
$368,369, an increase in general and administrative expenses due to increased
operational activities of the Company, the pipeline being in existence for the
entire six months of 2011 as compared to only the second quarter of 2010 and the
Company's expenses related to its compliance with the financial reporting
requirements of the SEC. Management of the Company does expect operational
expenses to be stable as the Company focuses on its operational activities.
During the three months ended June 30, 2011, we incurred a net profit of
$305,156 compared to net loss of $403,581 during the three months ended June 30,
2010. The decrease in net loss of $708,737 was due primarily to the gain on the
settlement claim in the amount of $929,744 and the gain on the extinguishment of
debt in the amount of $303,804 off set by the net income attributable to the
non-controlling interest of $128,361 and an increase in operating expenses.
During the six months ended June 30, 2011, we incurred a net loss of $112,273
compared to $365,886 during the six months ended June 30, 2010. The decrease in
net loss of $253,613 is a result of an increase of $45,064 in revenues offset by
the $755,907 increase in operating expenses, the $998,696 increase in other
income primarily due to the gain from the settlement and extinguishment of debt
and the $29,354 of net income attributable to the non-controlling interest.
LIQUIDITY
At June 30, 2011, we had total current assets of $584,972 consisting of $473,665
in cash and cash equivalents, $63,770 in accounts receivable and $47,547 in
prepaids and other assets. At June 30, 2011, we had total current liabilities of
$1,475,236, consisting of $824,472 in accounts payable, $9,835 in related party
notes payable, $48,233 in notes payable and $592,696 in accrued liabilities. At
June 30, 2011, we had a working capital deficit of $890,264 and an accumulated
deficit of $4,444,976.
During the six months ended June 30, 2011, we used net cash of $937648, in
operational activities. During the six months ended June 30, 2010, we used net
cash of $503,911 from operational activities.
During the six months ended June 30, 2011, we recognized a net loss of $112,273
which was adjusted for a non-cash activity consisting of depreciation of
$111,629, net income attributable to the non-controlling interest of $29,354,
gain on settlement of $929,744, gain on reduction of note payable related party
of $303,804, impairment loss on goodwill of $368,369 and a gain on disposal on
equipment of $1,067. During the six months ended June 30, 2010, we recognized a
net loss of $365,886, which was adjusted for a non-cash activity of $82,325 from
related party note receivable and depreciation of $54,004.
During the six months ended June 30, 2011, the Company used funds of $17,096 in
its investing activities. Investing activities included expenditures of $33,596
in property, plant and equipment net of $16,500 from the sale of equipment.
During the six months ended June 30, 2010, the Company used $548,394 in its
investing activities. Investing activities included expenditures of $635,371 in
property, plant and equipment net of $10,000 from the collection of a note
receivable and $76,977 from cash acquired through the acquisition of Talon
Energy Corporation.
17
During the six months ended June 30, 2011, the Company received $1,362,600 net
proceeds from its financing activities. Financing activities during the six
months ended June 30, 2011 included equity contributions of $1,304,532, proceeds
from short term loan of $48,233 and net proceeds from related party loan payable
of $9,835. During the six months ended June 30, 2010, the Company received
$698,000 from its financing activities. Financing activities during the six
months ended June 30, 2010, included equity contributions of $739,000 and
$41,000 paid in equity redemptions.
During the six months ended June 30, 2011, the Company borrowed $40,000 from an
affiliate of a member-manager of Gulfstar LLC and a greater than 5% shareholder
of the Company and in exchange issued an unsecured promissory note dated January
4, 2011 that is due in full on or before December 31, 2011. Interest is accrued
at the rate of one percent (1.0%) per annum. As of June 30, 2011, the Company
owes $9,835 on the promissory note.
During the year ended December 31, 2010, the Company borrowed a total of
$335,078 from an affiliate of a member-manager of Gulfstar LLC and a greater
than 5% shareholder of the Company and in exchange issued an unsecured
promissory note dated November 30, 2011 that is due in full on or before
December 31, 2011. Interest is accrued at the rate of one percent (1.0%) per
annum. On May 30, 2011, the Company and the affiliate entered into an agreement
whereby the parties agreed to pay the promissory in full in exchange for 223,385
shares of the Company's common stock valued at $.14 per share. As a result of
this agreement, Gulfstar LLC recognized a gain on extinguishment of debt in the
amount of $303,804 that was recorded as other income during the second quarter
of 2011.
The Gulfstar LLC operating agreement provides a priority preference as to any
future cash distributions paid by Gulfstar LLC to the owners of its equity
interests. As such, fifty percent (50%) of all cash distributions shall be paid
first to the non-controlling equity interests until such time they have received
in full their capital contributions. After which time, cash distributions shall
be paid in proportion to the percentage of all equity interests. As of June 30,
2011 and December 31, 2010, Gulfstar LLC has not repaid any of the
non-controlling equity interests' capital contributions.
Capital Resources
We have only common stock as our capital resource.
We have no material commitments for capital expenditures within the next year,
however if operations are commenced, substantial capital will be needed to pay
for participation, investigation, exploration, acquisition and working capital.
Need for Additional Financing
We do not have capital sufficient to meet our cash needs. We will have to seek
loans or equity placements to cover such cash needs and therefore the Company
currently is still seeking financing with Maxim Group LLC to provide gross
proceeds of up to $100 Million from a proposed private placement of Company
equity and/or convertible debt. The precise terms of the private placement will
be negotiated between Maxim Group LLC, potential investors and the Company.
Further, the Company is seeking through Wright Capital Corporation to pursue
proposed financing of up to $90 Million to be used to assist the Company in the
proposed purchase of assets connected to oil and gas leases and for the further
development of the Company's existing pipeline structure in Kentucky. The
definitive terms of the proposed transaction are subject to an agreement between
Wright Capital Corporation and the Company.
No commitments to provide additional funds have been made by our management or
other stockholders. Accordingly, there can be no assurance that any additional
funds will be available to us to allow it to cover our expenses as they may be
incurred.
Going Concern
As shown in the accompanying consolidated financial statements, the Company has
recognized a net loss of $112,273 for the six months ended June 30, 2011 and
reported an accumulated deficit of $4,444,976. At June 30, 2011, the Company had
total current assets of $584,972 and total current liabilities of $1,475,236 for
a working capital deficit of $890,264.
18
To the extent the Company's operations are not sufficient to fund the Company's
capital requirements, the Company will attempt to enter into a revolving loan
agreement with a financial institution or attempt to raise capital through the
sale of additional capital stock or through the issuance of debt. At the present
time, the Company does not have a revolving loan agreement with any financial
institution nor can the Company provide assurance that it will be able to enter
into any such agreement in the future or be able to raise funds through the
further issuance of debt or equity in the Company.
Management is actively pursuing additional financing and revenue solutions as
stated elsewhere in this report.
CRITICAL ACCOUNTING POLICIES
Gulfstar has identified the policies below as critical to its business
operations and the understanding of results from operations. The impact and any
associated risks related to these policies on the Company's business operations
is discussed throughout Management's Discussion and Analysis of Financial
Conditions and Results of Operations where such policies affect Gulfstar's
reported and expected financial results. For a detailed discussion on the
application of these and other accounting policies, see Note 1 in the Notes to
the Financial Statements. Note that Gulfstar's preparation of this document
requires Gulfstar to make estimates and assumptions that affect the reported
amounts of assets and liabilities, disclosure of contingent assets and
liabilities at the date of Gulfstar's financial statements, and the reported
amounts of expenses during the reporting periods. There can be no assurance that
actual results will not differ from those estimates.
Revenue Recognition
The Company recognizes revenue from its Pipeline segment upon shipment of the
gas to its customers. Royalty revenue is recognized from the Company's oil and
gas property management and exploration and production segment in the period of
production.
Accounts Receivable
Accounts receivable are stated at their cost less any allowance for doubtful
accounts. The allowance for doubtful accounts is based on the management's
assessment of the collectability of specific customer accounts and the aging of
the accounts receivable. If there is deterioration in a major customer's
creditworthiness or if actual defaults are higher than the historical
experience, the management's estimates of the recoverability of amounts due to
the Company could be adversely affected. Based on the management's assessment,
no reserve is deemed necessary at June 30, 2011 and December 31, 2010.
Property and Equipment
The Company follows the full cost method of accounting for oil and natural gas
operations. Under this method, all productive and nonproductive costs incurred
in connection with the acquisition, exploration, and development of oil and
natural gas reserves are capitalized. No gains or losses are recognized upon the
sale or other disposition of oil and natural gas properties except in
transactions that would significantly alter the relationship between capitalized
costs and proved reserves. The costs of unevaluated oil and natural gas
properties are excluded from the amortizable base until the time that either
proven reserves are found or it has been determined that such properties are
impaired. As properties become evaluated, the related costs transfer to proved
oil and natural gas properties using full cost accounting. None of the
capitalized costs in the amount of $320,980 were included in the amortization
base as of June 30, 2011, nor did the Company expense any capitalized costs
during the six months ended June 30, 2011 and 2010. The Company does not have
significant oil and gas producing activities as of June 30, 2011 and December
31, 2010, and its oil and gas properties are still in the drilling phase and
have not been evaluated.
Management capitalizes additions to property and equipment including its
pipeline. Expenditures for repairs and maintenance are charged to expense.
Property and equipment are carried at cost. Adjustment of the asset and the
related accumulated depreciation accounts are made for property and equipment
retirements and disposals, with the resulting gain or loss included in the
consolidated statements of operations.
19
In accordance with authoritative guidance on accounting for the impairment of
disposal of long-lived assets, as set forth in Topic 360 of the ASC, the Company
assesses the recoverability of the carrying value of its non-oil and gas
long-lived assets when events occur that indicate an impairment in value may
exist. An impairment loss is indicated if the sum of the expected undiscounted
future net cash flows is less than the carrying amount of the assets. If this
occurs, an impairment loss is recognized for the amount by which the carrying
amount of the assets exceeds the estimated fair value of the asset. During the
quarter ended June 30, 2011, the Company entered into an agreement with Gulfstar
LLC and the Sharps which the Company determined is an event that required the
Company to assess whether the carrying value of the Pipeline was impaired. As a
result of the Company's analysis, the Company assessed there was no impairment
to the Pipeline.
Goodwill
In accordance with generally accepted accounting principles, goodwill cannot be
amortized, however, it must be tested annually for impairment. This impairment
test is calculated at the reporting unit level. The goodwill impairment test has
two steps. The first identifies potential impairments by comparing the fair
value of a reporting unit with its book value, including goodwill. If the fair
value of the reporting unit exceeds the carrying amount, goodwill is not
impaired and the second step is not necessary. If the carrying value exceeds the
fair value, the second step calculates the possible impairment loss by comparing
the implied fair value of goodwill with the carrying amount. If the implied
goodwill is less than the carrying amount, a write-down is recorded. Management
tests goodwill each year for impairment, or when facts or circumstances indicate
impairment has occurred. During the quarter ended June 30, 2011, the Company
entered into an agreement with Gulfstar LLC and the Sharps which the Company
determined is an event that required the Company to assess whether the carrying
value of goodwill was impaired. As a result of the Company's analysis, the
Company assessed that goodwill was impaired and therefore an impairment loss was
recorded in the amount of $369,369 as an operating expense.
Intangible Assets
Intangible assets consist of right of way deposits, which are contracts allowing
the Company to install pipeline on private land. The rights exist indefinitely
and therefore, no amortization has been recorded. Management evaluates the
assets for impairment whenever events or circumstances indicate a possible
impairment. During the quarter ended June 30, 2011, the Company entered into an
agreement with Gulfstar LLC and the Sharps which the Company determined is an
event that required the Company to assess whether the carrying value of the
right of ways were impaired. As a result of the Company's analysis, the Company
assessed there was no impairment to the right of ways.
Income Taxes
Gulfstar LLC, a limited liability company, is not a tax paying entity for
Federal income tax purposes. It's pro rata share of income, losses and tax
credits is passed through to its members and reported by its members on their
individual income tax returns. The consolidated statement of operations for the
six months ended June 30, 2010 and for the period from May 19, 2006 (inception)
through June 30, 2010 includes the accounts of Gulfstar LLC only, therefore, no
provision for federal income taxes or for deferred taxes has been determined.
The Company has determined, for the period July 1, 2010 through December 31,
2010 and for the period January 1, 2011 through June 301, 2011, any provision
for income taxes or deferred taxes and this determination has been based upon
the accounts of Gulfstar Energy Corporation, Talon and the pro rata loss of
Gulfstar LLC passed through and reportable by Gulfstar Energy Corporation.
The Company accounts for income taxes under the liability method as prescribed
by ASC authoritative guidance. Deferred tax liabilities and assets are
determined based on the difference between the financial statement and tax bases
of assets and liabilities using enacted rates expected to be in effect during
the year in which the basis difference reverses. The realizability of deferred
tax assets are evaluated quarterly and a valuation allowance is provided if it
is more likely than not that the deferred tax assets will not give rise to
future benefits in the Company's income tax returns. The primary timing
differences between financial and tax reporting arise from federal net operating
loss carryforwards, amortization of start up costs, and accrued expenses.
The Company assessed the likelihood of utilization of the deferred tax assets,
in light of recent and expected continuing losses. As a result of this review,
the deferred tax asset of $745,871 and $758,227 has been fully reserved at June
30, 2011 and December 31, 2010, respectively. As of June 30, 2011, the Company
had net operating loss carryforwards for income tax and financial reporting
purposes of approximately $760,000 expiring in the years 2020 through 2031.
20
The Company has adopted ASC guidance regarding accounting for uncertainty in
income taxes. This guidance clarifies the accounting for income taxes by
prescribing the minimum recognition threshold an income tax position is required
to meet before being recognized in the financial statements and applies to all
income tax positions. Each income tax position is assessed using a two step
process. A determination is first made as to whether it is more likely than not
that the income tax position will be sustained, based upon technical merits,
upon examination by the taxing authorities. If the income tax position is
expected to meet the more likely than not criteria, the benefit recorded in the
financial statements equals the largest amount that is greater than 50% likely
to be realized upon its ultimate settlement. At June 30, 2011, there were no
uncertain tax positions that required accrual.
None of the Company's federal or state income tax returns are currently under
examination by the Internal Revenue Service or state authorities. However,
calendar years 2007 and later remain subject to examination by the Internal
Revenue Service and respective states.
Business Combinations
The Company accounts for acquisitions in accordance with guidance found in ASC
805, Business Combinations. The guidance, effective January 1, 2009, requires
consideration given, including contingent consideration, assets acquired and
liabilities assumed to be valued at their fair market values at the acquisition
date. The guidance further provides that: (1) in-process research and
development will be recorded at fair value as an indefinite-lived intangible
assets; (2) acquisition costs will generally be expensed as incurred, (3)
restructuring costs associated with a business combination will generally be
expensed subsequent to the acquisition date; and (4) changes in deferred tax
asset valuations and income tax uncertainties after the acquisition date
generally will affect income tax expense.
ASC 805 requires that any excess of purchase price over fair value of assets
acquired, including identifiable intangibles and liabilities assumed be
recognized as goodwill. In accordance with ASC 805, any excess off fair value of
acquired net assets, including identifiable intangible assets, over the
acquisition consideration results in a bargain purchase gain. Prior to recording
a gain, the acquiring entity must reassess whether all acquired assets and
assumed liabilities have been identified and recognized and perform
re-measurements to verify that the consideration paid, assets acquired and
liabilities assumed have been properly valued.
Recent Accounting Pronouncements
There were accounting standards and interpretations issued during the six months
ended June 30, 2011, none of which are expected to have a material impact on the
Company's financial position, operations or cash flows.
ITEM 3. QUANTATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK.
Not Applicable
ITEM 4. CONTROLS AND PROCEDURES
Disclosures Controls and Procedures
We have adopted and maintain disclosure controls and procedures (as such term is
defined in Rules 13a 15(e) and 15d-15(e) under the Securities Exchange Act of
1934, as amended (the "Exchange Act")) that are designed to ensure that
information required to be disclosed in our reports under the Exchange Act, is
recorded, processed, summarized and reported within the time periods required
under the SEC's rules and forms and that the information is gathered and
communicated to our management, including our Chief Executive Officer (Principal
Executive Officer) and Chief Financial Officer (Principal Financial Officer), as
appropriate, to allow for timely decisions regarding required disclosure.
21
As required by SEC Rule 15d-15(b), our Chief Executive Officer and Chief
Financial Officer for the quarter ended June 30, 2011, carried out an evaluation
under the supervision and with the participation of our management, of the
effectiveness of the design and operation of our disclosure controls and
procedures pursuant to Exchange Act Rule 15d-14 as of the end of the period
covered by this report. Based on the foregoing evaluation, our Chief Executive
Officer and Chief Financial Officer have concluded that our disclosure controls
and procedures are ineffective in timely alerting them to material information
required to be included in our periodic SEC filings and to ensure that
information required to be disclosed in our periodic SEC filings is accumulated
and communicated to our management, including our Chief Executive Officer and
Chief Financial Officer, to allow timely decisions regarding required
disclosure.
We have identified certain material weaknesses in internal control over
financial reporting relating to a shortage of accounting and reporting personnel
due to limited financial resources and the size of our Company, as detailed
below:
1. The Company currently does not have, but is in the process of
developing formally documented accounting policies and procedures,
which includes establishing a well-defined process for financial
reporting. After our documentation of our accounting policies and
procedures takes place, we plan to focus on performing and documenting
tests of our internal controls on an ongoing basis throughout the year.
2. Due to the limited size of our accounting department, we currently lack
the resources to handle complex accounting transactions. We believe
this deficiency could lead to errors in the presentation and disclosure
of financial information in our annual, quarterly, and other filings.
3. We currently have a lack of segregation of duties within our accounting
department. Until our operations expand and additional cash flow is
generated from operations, a complete segregation of duties will not be
possible.
Considering the nature and extent of our current operations and any risks or
errors in financial reporting under current operations and the fact that we have
been a small business with limited employees, such items caused a weakness in
internal controls involving the areas disclosed above.
Due to financial restrictions at this time, the Company has not taken any action
to resolve such weakness.
There was no change in our internal control over financial reporting that
occurred during the quarter ended June 30, 2011, that has materially affected,
or is reasonably likely to materially affect, our internal control over
financial reporting.
PART II. OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS
NONE
ITEM 1A. RISK FACTORS
Not applicable.
22
ITEM 2. UNREGISTERED SALE OF EQUITY SECURITIES AND USE OF PROCEEDS
The Company made the following unregistered sales of its securities from April
1, 2011 through June 30, 2011.
DATE OF SALE TITLE OF SECURITIES NO. OF SHARES CONSIDERATION CLASS OF PURCHASER
------------ ------------------- ------------- ------------- ------------------
April 1, 2011 through
June 30, 2011 Common Stock 186,665 Cash Business Associates
May 30, 2011 Common Stock 223,385 Debt Affiliate of a
member-manager of
Gulfstar LLC
Exemption From Registration Claimed
All of the above sales by the Company of its unregistered securities were made
by the Company in reliance upon Rule 506 of Regulation D of the Securities Act
of 1933, as amended (the "1933 Act"). All of the individuals and/or entities
that purchased the unregistered securities were primarily existing shareholders,
known to the Company and its management, through pre-existing business
relationships, as long standing business associates. All purchasers were
provided access to all material information, which they requested, and all
information necessary to verify such information and were afforded access to
management of the Company in connection with their purchases. All purchasers of
the unregistered securities acquired such securities for investment and not with
a view toward distribution, acknowledging such intent to the Company. All
certificates or agreements representing such securities that were issued
contained restrictive legends, prohibiting further transfer of the certificates
or agreements representing such securities, without such securities either being
first registered or otherwise exempt from registration in any further resale or
disposition.
ITEM 3. DEFAULTS UPON SENIOR SECURITIES
NONE.
ITEM 4. REMOVED AND RESERVED
ITEM 5. OTHER INFORMATION
NONE.
ITEM 6. EXHIBITS
Exhibits. The following is a complete list of exhibits filed as part of this
Form 10-Q. Exhibit numbers correspond to the numbers in the Exhibit Table of
Item 601 of Regulation S-K.
Exhibit 31.1 Certification of Chief Executive Officer pursuant to Section 302 of
the Sarbanes-Oxley Act
Exhibit 31.2 Certification of Chief Financial Officer pursuant to Section 302 of
the Sarbanes-Oxley Act
Exhibit 32.1 Certification of Principal Executive Officer pursuant to Section 906
of the Sarbanes-Oxley Act
Exhibit 32.1 Certification of Principal Financial Officer pursuant to Section 906
of the Sarbanes-Oxley Act
23
SIGNATURES
Pursuant to the requirements of Section 12 of the Securities and Exchange
Act of 1934, the Registrant has duly caused this report to be signed on its
behalf by the undersigned, thereunto duly authorized.
GULFSTAR ENERGY, CORPORATION
(Registrant)
Dated: September __, 2011 By: /s/Robert McCann
----------------
Robert McCann, Chief
Executive Officer
Dated: September __, 2011 By: /s/Stephen Warner
-----------------
Stephen Warner, Chief Financial
Officer
(Principal Accounting Officer)
24