U.S. SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-QSB
(Mark One)
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
ACT OF 1934
For the quarterly period ended June 30, 2005
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the transition period from _______ to _______
Commission file number 0-25455
LEXINGTON RESOURCES, INC.
(Exact name of small business issuer as specified in its charter)
NEVADA 88-0365453
(State or other jurisdiction of (I.R.S. Employer
incorporation of organization) Identification No.)
7473 West Lake Mead Road
Las Vegas, Nevada 89128
(Address of Principal Executive Offices)
(702) 382-5139 (Issuer's telephone number)
n/a
(Former name, former address and former fiscal year,
if changed since last report)
Check whether the issuer (1) filed all reports required to be filed by Section
13 or 15(d) of the Exchange Act 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 such filing requirements for the past 90 days.
Yes X No
------- -------
Applicable only to issuers involved in bankruptcy proceedings during the
preceding five years.
N/A
Check whether the Registrant filed all documents required to be filed by Section
12, 13 and 15(d) of the Exchange Act after the distribution of securities under
a plan confirmed by a court.
Yes No
------- -------
Applicable only to corporate issuers
State the number of shares outstanding of each of the issuer's classes of common
equity, as of the latest practicable date:
Class Outstanding as of August 12, 2005
17,403,405
Common Stock, $.00025 par value
Transitional Small Business Disclosure Format (check one)
Yes No X
PART I. FINANCIAL INFORMATION
ITEM 1. INTERIM CONSOLIDATED FINANCIAL STATEMENTS
CONSOLIDATED BALANCE SHEETS 2
INTERIM CONSOLIDATED STATEMENTS OF OPERATIONS 3
INTERIM CONSOLIDATED STATEMENT OF STOCKHOLDERS' EQUITY
INTERIM CONSOLIDATED STATEMENTS OF CASH FLOWS 4
NOTES TO INTERIM CONSOLIDATED FINANCIAL STATEMENTS 5
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL
CONDITION OR PLAN OF OPERATION
ITEM 3. CONTROLS AND PROCEDURES
PART II. OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS 16
ITEM 2. CHANGES IN SECURITIES AND USE OF PROCEEDS 21
ITEM 3. DEFAULTS UPON SENIOR SECURITIES 22
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS 22
ITEM 5. OTHER INFORMATION 22
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K 22
SIGNATURES 23
PART 1. FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS
- -----------------------------
LEXINGTON RESOURCES, INC.
INTERIM CONSOLIDATED FINANCIAL STATEMENTS
JUNE 30, 2005
(Unaudited)
LEXINGTON RESOURCES, INC.
INTERIM CONSOLIDATED FINANCIAL STATEMENTS
JUNE 30, 2005
(unaudited)
CONSOLIDATED BALANCE SHEETS
INTERIM CONSOLIDATED STATEMENTS OF OPERATIONS
INTERIM CONSOLIDATED STATEMENTS OF CASH FLOWS
NOTES TO INTERIM CONSOLIDATED FINANCIAL STATEMENTS
F-1
LEXINGTON RESOURCES, INC.
CONSOLIDATED BALANCE SHEETS
June 30, December 31,
2005 2004
- --------------------------------------------------------------------------------------------- ---------------- ----------------
(unaudited)
ASSETS
CURRENT ASSETS
Cash and cash equivalents $ 24,920 $ 326,293
Accounts receivable 240,602 136,573
- --------------------------------------------------------------------------------------------- ---------------- ----------------
265,522 462,866
- --------------------------------------------------------------------------------------------- ---------------- ----------------
PROPERTY AND EQUIPMENT ( Note 4)
Oil and gas properties full cost method of accounting
Proved, net of accumulated depletion ($301,208) 2,986,515 1,209,938
Unproved 931,318 1,419,447
- --------------------------------------------------------------------------------------------- ---------------- ----------------
3,917,833 2,629,385
Other equipment, net of accumulated depreciation 2,665 2,997
- --------------------------------------------------------------------------------------------- ---------------- ----------------
3,920,498 2,632,382
- --------------------------------------------------------------------------------------------- ---------------- ----------------
$ 4,186,020 $ 3,095,248
============================================================================================= ================ ================
LIABILITIES AND STOCKHOLDER'S EQUITY
CURRENT LIABILITIES
Accounts payable and accrued liabilities $ 939,000 $ 228,819
Current portion of drilling obligations (Note 5) 702,383 617,000
Current portion of promissory notes (Notes 6 & 7 ) 179,915 -
- --------------------------------------------------------------------------------------------- ---------------- ----------------
1,821,298 845,819
PROMISSORY NOTES (Notes 6 & 7) 635,602 -
DRILLING OBLIGATIONS (Note 5) 307,447 563,915
- --------------------------------------------------------------------------------------------- ---------------- ----------------
2,764,347 1,409,734
- --------------------------------------------------------------------------------------------- ---------------- ----------------
CONTINGENCIES AND COMMITMENTS (Notes 1, 4 & 5)
STOCKHOLDERS' EQUITY (Note 7)
Common stock $.00025 par value: 200,000,000 shares authorized
Preferred stock, $.001 par value: 75,000,000 shares authorized
Issued and outstanding:
17,403,405 common shares (December 31, 2004 - 16,999,038) 4,351 4,250
Additional paid-in capital 10,510,501 8,947,604
Common stock purchase warrants 298,228 301,815
Deficit accumulated during the exploration stage (9,391,407) (7,568,155)
- --------------------------------------------------------------------------------------------- ---------------- ----------------
1,421,673 1,685,514
- --------------------------------------------------------------------------------------------- ---------------- ----------------
$ 4,186,020 $ 3,095,248
============================================================================================= ================ ================
The accompanying notes are an integral part of these
interim consolidated financial statements.
F-2
LEXINGTON RESOURCES, INC.
INTERIM CONSOLIDATED STATEMENT OF OPERATIONS
(unaudited)
Three months Three months Six months Six months
Ended June 30, Ended June 30, Ended June 30, Ended June 30,
2005 2004 2005 2004
- --------------------------------------------- ------------------ ----------------- ---------------- -----------------
OIL AND GAS REVENUE $ 263,204 $ 53,517 $ 393,263 $ 94,207
- --------------------------------------------- ------------------ ----------------- ---------------- -----------------
EXPENSES
Depletion 84,972 3,879 139,880 6,558
Operating costs and taxes 63,396 - 121,461 -
- --------------------------------------------- ------------------ ----------------- ---------------- -----------------
148,368 3,879 261,341 6,558
- --------------------------------------------- ------------------ ----------------- ---------------- -----------------
GROSS PROFIT 114,836 49,638 131,922 87,649
- --------------------------------------------- ------------------ ----------------- ---------------- -----------------
OTHER EXPENSES
Consulting - stock based (Note 8) - - 775,753 2,989,221
General and administrative 283,469 1,233,552 1,170,671 1,361,701
Interest expense 8,750 5,317 8,750 19,717
- --------------------------------------------- ------------------ ----------------- ---------------- -----------------
292,219 1,238,869 1,955,174 4,370,639
- --------------------------------------------- ------------------ ----------------- ---------------- -----------------
NET LOSS FOR THE PERIOD (177,383) $ (1,189,231) $ (1,823,252) $ (4,282,990)
============================================= ================== ================= ================ =================
BASIC NET LOSS PER SHARE $ (0.01) $ (0.08) $ (0.11) $ ( 0.30)
============================================= ================== ================= ================ =================
WEIGHTED AVERAGE COMMON
OF SHARES OUTSTANDING 17,365,104 14,618,332 17,227,525 14,282,945
============================================= ================== ================= ================ =================
The accompanying notes are an integral part of these
interim consolidated financial statements.
F-3
LEXINGTON RESOURCES, INC.
INTERIM CONSOLIDATED STATEMENTS OF CASH FLOWS
(unaudited)
For the Six For the six
month period month period
ended June 30, ended June 30,
2005 2004
- --------------------------------------------------------------------------- ------------------ -----------------
CASH FLOWS FROM OPERATING ACTIVITIES
Net loss for the period $ ( 1,823,252) $ (4,282,990)
Adjustments to reconcile net loss to net cash from operating activities:
Stock-based consulting fees 775,753 2,989,221
Non-cash compensation 146,429 6,667
Oil and gas depletion 139,880 6,558
Depreciation 332 166
Changes in working capital assets and liabilities
Prepaid expenses - (13,550)
Accounts receivable (104,029) (48,394)
Accounts payable (79,429) 18,147
Accrued interest payable - 19,710
Accrued and unpaid fees payable - 60,000
- --------------------------------------------------------------------------- ------------------ -----------------
NET CASH FLOWS USED IN OPERATING ACTIVITIES (944,316) (1,244,465)
- --------------------------------------------------------------------------- ------------------ -----------------
CASH FLOWS FROM INVESTING ACTIVITIES
Purchase of equipment - (3,495)
Oil and gas properties (785,146) (1,386,876)
- --------------------------------------------------------------------------- ------------------ -----------------
NET CASH FLOWS USED IN INVESTING ACTIVITIES (785,146) (1,390,371)
- --------------------------------------------------------------------------- ------------------ -----------------
CASH FLOWS FROM FINANCING ACTIVITIES
Drilling obligation (repayments) advances (171,086) 678,869
Advances payable - (74,694)
Promissory notes, net of repayments (Notes 6 and 7) 1,086,545 500,000
Net proceeds on sale of common stock 512,630 1,960,000
- --------------------------------------------------------------------------- ------------------ -----------------
NET CASH FLOWS FROM FINANCING ACTIVITIES 1,428,089 3,064,175
- --------------------------------------------------------------------------- ------------------ -----------------
INCREASE (DECREASE) IN CASH (301,373) 429,339
CASH, BEGINNING OF PERIOD 326,293 351,420
- --------------------------------------------------------------------------- ------------------ -----------------
CASH, END OF PERIOD $ 24,920 $ 780,759
=========================================================================== ================== =================
SUPPLEMENTAL CASH FLOW INFORMATION (Refer to Note 11)
The accompanying notes are an integral part of these
interim consolidated financial statements.
F-4
LEXINGTON RESOURCES, INC.
NOTES TO INTERIM CONSOLIDATED FINANCIAL STATEMENTS
JUNE 30, 2005
(UNAUDITED)
- --------------------------------------------------------------------------------
NOTE 1: NATURE OF CONTINUED OPERATIONS AND BASIS OF PRESENTATION
- --------------------------------------------------------------------------------
By Share Exchange Agreement dated November 19, 2003, Lexington Resources, Inc.
(formerly Intergold Corporation) ("LRI" or "the Company"), a Nevada corporation,
acquired 100% of the issued and outstanding shares of Lexington Oil & Gas Ltd.
Co. LLC, (an exploration stage company) ("Lexington"), in exchange for 9,000,000
(3,000,000 pre January 26, 2004 3:1 forward split) restricted shares of common
stock of the Company representing 85% of the total issued and outstanding shares
of the Company at the time. In connection with this transaction, the Company
changed its name to Lexington Resources, Inc. (Refer to Note 3.)
This acquisition has been accounted for as a reverse acquisition with Lexington
being treated as the accounting parent and LRI, the legal parent, being treated
as the accounting subsidiary. Accordingly, the consolidated results of
operations of the Company include those of Lexington for the period from its
inception on September 29, 2003 and those of LRI since the date of the reverse
acquisition.
Lexington is an Oklahoma Limited Liability Corporation incorporated on September
29, 2003 formed for the purposes of the acquisition and development of oil and
natural gas properties in the United States, concentrating on unconventional gas
production initiatives that include coal bed methane gas acquisitions and
developments in the Arkoma Basin in the State of Oklahoma as well as Barnett
Shale targeted acquisitions and developments in the Dallas Fort Worth Basin in
the State of Texas. As planned principal operations commenced in 2004, the
Company is no longer considered to be an exploration stage company.
GOING CONCERN The consolidated financial statements have been prepared on the
basis of a going concern which contemplates the realization of assets and the
satisfaction of liabilities in the normal course of business. The Company has a
working capital deficiency of $1,555,776 at June 30, 2005, has incurred losses
since inception of $9,391,407, and further losses are anticipated in the
development of its oil and gas properties raising substantial doubt as to the
Company's ability to continue as a going concern. The ability of the Company to
continue as a going concern is dependent on raising additional capital to fund
ongoing research and development and ultimately on generating future profitable
operations. The company currently has unfunded property acquisition obligations
as disclosed in Note 4. The Company will continue to fund operations with
advances and debt instruments, as well as further equity placements.
UNAUDITED INTERIM FINANCIAL STATEMENTS
The accompanying unaudited interim consolidated financial statements have been
prepared in accordance with generally accepted accounting principles for interim
financial information and with the instructions to Form 10-QSB of Regulation
S-B. They do not include all information and footnotes required by United States
generally accepted accounting principles for complete financial statements.
However, except as disclosed herein, there have been no material changes in the
information disclosed in the notes to the financial statements for the year
ended December 31, 2004 included in the Company's Annual Report on Forms 10-KSB
and 10-KSB/A filed with the Securities and Exchange Commission. The interim
unaudited consolidated financial statements should be read in conjunction with
those financial statements included in the Form 10-KSB and 10-KSB/A. In the
opinion of Management, all adjustments considered necessary for a fair
presentation, consisting solely of normal recurring adjustments, have been made.
Operating results for the six months ended June 30, 2005 are not necessarily
indicative of the results that may be expected for the year ending December 31,
2005.
NOTE 2: SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
- --------------------------------------------------------------------------------
(A) PRINCIPLES OF CONSOLIDATION
The consolidated financial statements include the accounts of the Company and
its wholly-owned subsidiary, Lexington. Lexington was acquired by reverse
acquisition on November 19, 2003. All significant inter-company transactions and
account balances have been eliminated upon consolidation.
F-5
LEXINGTON RESOURCES, INC.
NOTES TO INTERIM CONSOLIDATED FINANCIAL STATEMENTS
JUNE 30, 2005
(UNAUDITED)
- --------------------------------------------------------------------------------
NOTE 2: SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
- --------------------------------------------------------------------------------
(B) OIL AND GAS PROPERTIES
The Company follows the full cost method of accounting for its oil and gas
operations whereby all costs related to the acquisition of methane, petroleum,
and natural gas interests are capitalized. Under this method, all productive and
nonproductive costs incurred in connection with the exploration for and
development of oil and gas reserves are capitalized. Such costs include land and
lease acquisition costs, annual carrying charges of non-producing properties,
geological and geophysical costs, costs of drilling and equipping productive and
non-productive wells, and direct exploration salaries and related benefits.
Proceeds from the disposal of oil and gas properties are recorded as a reduction
of the related capitalized costs without recognition of a gain or loss unless
the disposal would result in a change of 20 percent or more in the depletion
rate. The Company currently operates solely in the U.S.A.
Depletion of proved oil and gas properties is computed on the
units-of-production method based upon estimates of proved reserves, as
determined by independent consultants, with oil and gas being converted to a
common unit of measure based on their relative energy content.
The costs of acquisition and exploration of unproved oil and gas properties,
including any related capitalized interest expense, are not subject to
depletion, but are assessed for impairment either individually or on an
aggregated basis. The costs of certain unevaluated leasehold acreage are also
not subject to depletion. Costs not subject to depletion are periodically
assessed for possible impairment or reductions in value. If a reduction in value
has occurred, costs subject to depletion are increased or a charge is made
against earnings for those operations where a reserve base is not yet
established.
Estimated future removal and site restoration costs are provided over the life
of proven reserves on a units-of-production basis. Costs, which include
production equipment removal and environmental remediation, are estimated each
period by management based on current regulations, actual expenses incurred, and
technology and industry standards. The charge is included in the provision for
depletion and depreciation and the actual restoration expenditures are charged
to the accumulated provision amounts as incurred.
The Company applies a ceiling test to capitalized costs which limits such costs
to the aggregate of the estimated present value, using a ten percent discount
rate of the estimated future net revenues from production of proven reserves at
year end at market prices less future production, administrative, financing,
site restoration, and income tax costs plus the lower of cost or estimated
market value of unproved properties. If capitalized costs are determined to
exceed estimated future net revenues, a write-down of carrying value is charged
to depletion in the period.
(C) ASSET RETIREMENT OBLIGATIONS
The Company has adopted the provisions of SFAS No. 143, "Accounting for Asset
Retirement Obligations." SFAS No. 143 requires the fair value of a liability for
an asset retirement obligation to be recognized in the period in which it is
incurred if a reasonable estimate of fair value can be made. The associated
asset retirement costs are capitalized as part of the carrying amount of the
related oil and gas properties. As of June 30, 2005 management has determined
that there are no material asset retirement obligations.
(D) EARNINGS (LOSS) PER SHARE
Basic earnings (loss) per share is computed by dividing earnings (loss) for the
period by the weighted average number of common shares outstanding for the
period. Diluted earnings (loss) per share reflects the potential dilution of
securities by including other potential common stock, including convertible
preferred shares, in the weighted average number of common shares outstanding
for a period and is not presented where the effect is anti-dilutive. The
presentation is only of basic earnings (loss) per share as the effect of
potential dilution of securities has no impact on the current period's basic
earnings (loss) per share. Loss per share, as presented, has been restated to
reflect the forward stock split described in Note 7. The weighted average number
of shares outstanding prior to the reverse acquisition is deemed to be the
number of shares issued in connection with the reverse acquisition being
9,000,000 shares (3,000,000 pre January 26, 2004 3:1 forward split).
(E) REVENUE RECOGNITION
Oil and natural gas revenues are recorded using the sales method, whereby the
Company recognizes oil and natural gas revenue based on the amount of oil and
gas sold to purchasers, when title passes, the amount is determinable and
collection is reasonably assured.
F-6
LEXINGTON RESOURCES, INC.
NOTES TO INTERIM CONSOLIDATED FINANCIAL STATEMENTS
JUNE 30, 2005
(UNAUDITED)
- --------------------------------------------------------------------------------
NOTE 2: SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
- --------------------------------------------------------------------------------
(F) FINANCIAL INSTRUMENTS
The fair values of cash, accounts receivable, accounts payable, accrued
liabilities, drilling obligations and advances due to related parties were
estimated to approximate their carrying values due to the immediate or
short-term maturity of these financial instruments. The Company's current and
planned operations are located in the States of Oklahoma and Texas, in the
United States, and as a result the Company is not subject to significant
exposure to market risks from changes in foreign currency rates.
The Company's financial instruments that are exposed to concentrations of credit
risk consist primarily of cash and accounts receivable. The Company's cash is
held at a major U.S. based financial institution. The Company manages and
controls market and credit risk through established formal internal control
procedures, which are reviewed on an ongoing basis.
The Company sells its gas to only two customers as there is currently
insufficient production for multiple purchasers. The Company manages and
controls this situation by ensuring it only deals with gas purchasers that are
reputable and are well established.
(G) CONCENTRATION OF CREDIT RISK
Substantially all of the Company's sales are to two parties. Consequently the
Company is exposed to a concentration of credit risk.
(H) USE OF ESTIMATES
The preparation of these consolidated financial statements requires the use of
certain estimates by management in determining the Company's assets,
liabilities, revenues and expenses. Actual results could differ from such
estimates. Depreciation, depletion and amortization of oil and gas properties
and the impairment of oil and gas properties are determined using estimates of
oil and gas reserves. There are numerous uncertainties in estimating the
quantity of reserves and in projecting the future rates of production and timing
of development expenditures, including future costs to dismantle, dispose, plug,
and restore the Company's properties. Oil and gas reserve engineering must be
recognized as a subjective process of estimating underground accumulations of
oil and gas that cannot be measured in an exact way. Proved reserves of oil and
natural gas are estimated quantities that geological and engineering data
demonstrate with reasonable certainty to be recoverable in the future from known
reservoirs under existing conditions.
(I) STOCK-BASED COMPENSATION
In December 2002, the Financial Accounting Standards Board ("FASB") issued
Financial Accounting Standard No. 148, "Accounting for Stock-Based Compensation
- - Transition and Disclosure" ("SFAS No. 148"), an amendment of Financial
Accounting Standard No. 123 "Accounting for Stock-Based Compensation" ("SFAS No.
123"). The purpose of SFAS No. 148 is to: (1) provide alternative methods of
transition for an entity that voluntarily changes to the fair value based method
of accounting for stock-based employee compensation, (2) amend the disclosure
provisions to require prominent disclosure about the effects on reported net
income of an entity's accounting policy decisions with respect to stock-based
employee compensation, and (3) to require disclosure of those effects in interim
financial information. The disclosure provisions of SFAS No. 148 were effective
for the Company for the period ended December 31, 2003.
The Company has elected to continue to account for stock-based employee
compensation arrangements in accordance with the provisions of Accounting
Principles Board Opinion No. 25, "ACCOUNTING FOR STOCK ISSUED TO EMPLOYEES",
("APB No. 25") and comply with the disclosure provisions of SFAS No. 123 as
amended by SFAS No. 148 as described above. In addition, in accordance with SFAS
No. 123 the Company applies the fair value method using the Black-Scholes
option-pricing model in accounting for options granted to consultants. Under APB
No. 25, compensation expense is recognized based on the difference, if any, on
the date of grant between the estimated fair value of the Company's stock and
the amount an employee must pay to acquire the stock. Compensation expense is
recognized immediately for past services and pro-rata for future services over
the option-vesting period.
F-7
LEXINGTON RESOURCES, INC.
NOTES TO INTERIM CONSOLIDATED FINANCIAL STATEMENTS
JUNE 30, 2005
(UNAUDITED)
- --------------------------------------------------------------------------------
NOTE 2: SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
- --------------------------------------------------------------------------------
(I) STOCK-BASED COMPENSATION - CONTINUED
The Company accounts for equity instruments issued in exchange for the receipt
of goods or services from other than employees in accordance with SFAS No. 123
and the conclusions reached by the Emerging Issues Task Force in Issue No.
96-18. Costs are measured at the estimated fair market value of the
consideration received or the estimated fair value of the equity instruments
issued, whichever is more reliably measurable. The value of equity instruments
issued for consideration other than employee services is determined on the
earliest of a performance commitment or completion of performance by the
provider of goods or services as defined by EITF 96-18.
The Company has also adopted the provisions of the FASB Interpretation No.44,
ACCOUNTING FOR CERTAIN TRANSACTIONS INVOLVING STOCK COMPENSATION - AN
INTERPRETATION OF APB OPINION NO. 25 ("FIN 44"), which provides guidance as to
certain applications of APB 25.
(J) INCOME TAXES
The Company follows the liability method of accounting for income taxes. Under
this method, deferred tax assets and liabilities are recognized for the future
tax consequences attributable to differences between the financial statement
carrying amounts of existing assets and liabilities and their respective tax
balances. Deferred tax assets and liabilities are measured using enacted or
substantially enacted tax rates expected to apply to the taxable income in the
years in which those differences are expected to be recovered or settled. The
effect on deferred tax assets and liabilities of a change in tax rates is
recognized in income in the period that includes the date of enactment or
substantial enactment. A valuation allowance is provided for deferred tax assets
if it is more likely than not that the Company will not realize the future
benefit, or if future deductibility is uncertain.
(K) CASH AND CASH EQUIVALENTS
The Company considers all highly liquid instruments with an original maturity of
three months or less at the time of issuance to be cash equivalents.
- --------------------------------------------------------------------------------
NOTE 3 - ACQUISITION OF LEXINGTON OIL & GAS LTD. CO. LLC ("LEXINGTON")
- --------------------------------------------------------------------------------
By Share Exchange Agreement dated November 19, 2003, the Company acquired 100%
of the issued and outstanding shares of Lexington (an exploration stage
company), in exchange for 9,000,000 (3,000,000 pre January 26, 2004 3:1 forward
split) restricted shares of common stock of the Company. As a result of this
transaction the former stockholders of Lexington acquired approximately 85% of
the total issued and outstanding shares of the Company as at November 19, 2003,
resulting in a change in control of the Company.
During January, 2004, the parties to the Share Exchange Agreement, Orient
Exploration Ltd. ("Orient"), Douglas Humphreys ("Humphreys"), the Company,
Lexington, and Paluca Petroleum Inc. ("Paluca") re-evaluated the terms of the
original Share Exchange Agreement and upon further negotiations desired to
modify the terms of the original agreement in the best interest of all parties
such that: (i) 2,250,000 post forward split shares of restricted Common Stock of
the Company held of record by Humphreys were transferred to Orient in
consideration therefore; (ii) the Company assigned to Humphreys a 5% carried
working interest in every well drilled by the Company on the Wagnon Property;
(iii) the Company agreed to allow Humphreys to participate up to an additional
5% working interest in every well drilled by the Company on the Wagnon Property;
(iv) the Company agreed to transfer to Paluca certain assets previously acquired
by the Company (which included working interests and net revenue interests in
certain oil and gas leases located on the Doc Cole Property, the Atwood Booch
Sand Property, the Jeneva Property and the Sasakwa Gilcrease Sand Property).
Management of the Company decided not to proceed with the acquisition or
development of the described properties as set out in item (iv) due to
management's analysis that the properties did not contain the appropriate oil
and gas development elements that form part of the Company's current focus and
criteria for corporate oil and gas development initiatives.
F-8
LEXINGTON RESOURCES, INC.
NOTES TO INTERIM CONSOLIDATED FINANCIAL STATEMENTS
JUNE 30, 2005
(UNAUDITED)
- --------------------------------------------------------------------------------
NOTE 3 - ACQUISITION OF LEXINGTON OIL & GAS LTD. CO. LLC ("LEXINGTON") -
(CONTINUED)
- --------------------------------------------------------------------------------
This acquisition has been accounted for as a recapitalization using accounting
principles applicable to reverse acquisitions with Lexington being treated as
the accounting parent (acquirer) and Lexington Resources, Inc. being treated as
the accounting subsidiary (acquiree). The value assigned to the capital stock of
consolidated Lexington Resources, Inc. on acquisition of Lexington is equal to
the book value of the capital stock of Lexington plus the book value of the net
assets (liabilities) of Lexington Resources, Inc. as at the date of the
acquisition.
The book value of Lexington's capital stock subsequent to the reverse
acquisition is calculated and allocated as follows:
Lexington capital stock $ 300
Lexington Resources, Inc. net assets (liabilities) (1,430,969)
--------------
(1,430,669)
Charge to deficit on reverse acquisition 1,433,317
--------------
Consolidated stock accounts post reverse acquisition $ 2,648
==============
These consolidated financial statements include the results of operations of
subsidiary Lexington since September 29, 2003 (inception) and the results of
operations of parent Lexington Resources, Inc. since the date of the reverse
acquisition effective November 19, 2003. The Company's consolidated results of
operations for the period from January 1, 2003 to September 30, 2003 have been
reported in the Company's September 30, 2003 filing on Form 10-QSB.
In order to reflect the revised operating arrangement resulting from
modifications to the original terms of the Share Exchange Agreement, the
Humphreys Purchase and Sale Agreement and the Paluca Agreement both outlined in
the following sections were simultaneously executed.
HUMPHREYS PURCHASE AND SALE AGREEMENT
On January 21, 2004, Orient and Humphreys, a director of the Company, entered
into a purchase and sale agreement (the "Humphreys Purchase and Sale
Agreement"). Pursuant to the terms and provisions of the Humphreys Purchase and
Sale Agreement: Humphreys agreed to transfer 2,250,000 shares of restricted
Common Stock of the Company held of record by Humphreys to Orient.
PALUCA AGREEMENT
On January 21, 2004, the Company, Lexington, Paluca, and Humphreys entered into
an agreement whereby: (i) the Company assigned to Humphreys a 5% carried working
interest in every well drilled by the Company on the Wagnon Property; (ii) the
Company agreed to allow Humphreys to participate up to an additional 5% working
interest in every well drilled by the Company on the Wagnon Property; (iii)
Humphreys agreed to waive any and all other claims, debts or obligations owed to
Humphreys by the Company or by Lexington, and (iv) the Company agreed to
transfer to Paluca certain assets previously acquired by the Company (which
included working interests and net revenue interests in certain oil and gas
leases located on the Doc Cole Property, the Atwood Booch Sand Property, the
Jeneva Property and the Sasakwa Gilcrease Sand Property).
MANAGEMENT COMPENSATION AGREEMENT
The Company and Lexington have negotiated a new compensation agreement ("New
Agreement") with Humphreys for his assistance in overseeing the drilling
operations and the completion, management of wells, and for his increasing role
in development of the Company on a performance basis. Under the covenants
provided under the New Agreement and within its effective term, Humphreys, or
his designate: (1) will receive compensation of $7,500 per month, effective
April 1, 2004; (2) will be assigned up to a 10% carried working interest of
Lexington's total interest in every well drilled by the Company on all
properties held by the Company, including the Wagnon property, (3) will have the
right to purchase up to an additional 5% working interest of Lexington's total
interest in all wells drilled by the Company on its properties provided that
funds for this participation are paid prior to the commencement of drilling of
said wells; and (4) will receive a further 200,000 options in the Company to be
granted at $3.00 per share exercisable for a five year term. These options were
granted in July 2004. (Refer to Note 8.)
During the period ended June 30, 2005 the Company recorded additional
compensation expense to Humphreys of $146,429 (June, 2004 - $NIL) being the
estimated value of his 10% carried interest in the Company's wells that were
successfully developed in the period ended June 30, 2005. (Refer to Note 4.)
F-9
LEXINGTON RESOURCES, INC.
NOTES TO INTERIM CONSOLIDATED FINANCIAL STATEMENTS
JUNE 30, 2005
(UNAUDITED)
- --------------------------------------------------------------------------------
NOTE 3 - ACQUISITION OF LEXINGTON OIL & GAS LTD. CO. LLC ("LEXINGTON") -
(CONTINUED)
- --------------------------------------------------------------------------------
Humphreys is a director of the Company and is the Drilling Operations Manager of
Lexington, and also a director, General Manager, and 25% shareholder in Oak
Hills Drilling and Operating, LLC ("Oak Hills"), an oil and gas drilling and
well operating company based in Holdenville, Oklahoma that acts as designated
"operator" to Lexington since January 1, 2005. Humphreys is in charge of oil and
gas operations for Lexington in the United States. (Refer to Note 9.) The
previous operator in charge of drilling and operating of wells for Lexington was
Oakhills Energy, Inc.
Paluca Petroleum Inc. is a private Oklahoma based oil and gas services company
owned by Humphreys and his immediate family. Some of the services provided by
Humphreys to the Company are provided through this business entity. Mr.
Humphreys is also the President of Paluca.
NOTE 4 - PROPERTY AND EQUIPMENT
- --------------------------------------------------------------------------------
Property and equipment include the following:
JUNE 30, DECEMBER 31,
2005 2004
---------------- ----------------
OIL AND GAS PROPERTIES:
Proved, subject to depletion $3,287,723 $1,371,266
Unproved, not subject to depletion 931,318 1,419,447
Accumulated depletion (301,208) (161,328)
---------------- ----------------
Net oil and gas properties 3,917,833 2,629,385
---------------- ----------------
Other equipment 3,495 3,495
Accumulated depreciation (830) (498)
---------------- ----------------
Net other property and equipment 2,665 2,997
---------------- ----------------
Property and equipment, net of accumulated
depreciation and depletion 3,920,498 2,632,382
================ ================
The Company's oil and gas activities are currently conducted in the United
States. During the current period the Company incurred development costs of
$1,574,757 on its properties inclusive of carrying costs to Humphreys of
$146,429.
WAGNON LEASE
By agreement dated October 9, 2003, Lexington acquired an interest in a section
of farm-out acreage with the intention to develop coal bed methane gas producing
wells in Pittsburg County, Oklahoma. Lexington holds an 80% working interest and
a 60.56% net revenue interest in approximately 590 gross acreage of a potential
gas producing property located in Pittsburg County, Oklahoma (the "Wagnon
Property"). The Company's interest relating to the Wagnon Property is subject to
farm-out agreements equating to a total 20% working interest between Paluca,
Oakhills Energy, Inc. and the lessee of the Wagnon Property. Drilling targets
are Hartshorne Coal bed methane gas zones.
A director and an officer of the Company were minority owners in Oakhills
Energy, Inc. in 2003. Their interest in Oakhills Energy, Inc. was purchased by
the majority shareholder on January 26, 2004.
During the year ended December 31, 2004, three horizontal gas wells (the
Kellster 1-5, Kyndal 2-2 and Bryce 3-2) have been put into production.
On March 15, 2005 the Company began drilling a fourth horizontal gas well on the
Wagnon Property (Caleigh 4-2). The well began producing on April 2, 2005. During
the period ended June 30, 2005 the Company has incurred $528,110 on drilling
expenditures relating to four total producing gas wells on the Wagnon lease.
(Refer to Note 5.)
F-10
LEXINGTON RESOURCES, INC.
NOTES TO INTERIM CONSOLIDATED FINANCIAL STATEMENTS
JUNE 30, 2005
(UNAUDITED)
- --------------------------------------------------------------------------------
NOTE 4 - PROPERTY AND EQUIPMENT - (CONTINUED)
- --------------------------------------------------------------------------------
COAL CREEK PROSPECT
In March 2004 the Lexington obtained an option to purchase an undivided 95%
interest in approximately 2,500 net leasehold acres in 5 sections of the Coal
Creek Prospect located in Hughes and Pittsburg Counties, in the State of
Oklahoma. During the year ended December 31, 2004 the Company acquired 1,932 net
leasehold acres under the option. Lexington does not expect to acquire any
additional acreage under this option. Under the terms of the purchase of these
leases, Lexington has an undivided 95% - 100% working interest in the subject
lands and a minimum 79% net revenue interest. The terms of the leases are for
two years. Drilling targets are Hartshorne Coal bed methane gas zones.
On March 31, 2005 Lexington began drilling its first horizontal coal bed methane
gas well on the Coal Creek Prospect (Lex 1-34). The well began production in
April 2005. Lexington has approximately a 50% working interest in the well and
has accrued $317,071 in costs associated with the well for the period.
On April 14, 2005 Lexington began drilling its second horizontal coal bed
methane gas well on its Coal Creek Prospect (Braumbaugh 1-10). Lexington has
approximately a 22% working interest in the well and has accrued $142,471 in
costs associated with the well for the period. The well began production in May
2005.
On May 31, 2005 Lexington began drilling its third horizontal coal bed methane
gas well on its Coal Creek Prospect (Ellis 1-15). Lexington has approximately an
88% working interest in the well and has incurred $593,588 in costs associated
with the well for the period. The well is currently in drilling and development
stages.
In June 2005 the Company received loans totaling $1,100,000 which have been
secured against the Coal Creek property. (Refer to Note 6.)
PANTHER CREEK PROSPECT
In March 2004 Lexington purchased a 3 year lease of approximately 300 acres
located in five separate sections to develop the Panther Creek Project in Hughes
County, Oklahoma. Lexington has an undivided 100% working interest in subject
lands and an approximate 81% net revenue interest. Part of the acreage in this
lease has been subject to three division pooling orders by Newfield Exploration
Mid-Continent, Inc. ("Newfield"), for three wells to be drilled and operated by
Newfield in which Lexington has elected to participate. Lexington's working
interests in the three wells to be drilled are proportionate to Lexington's
Panther Creek lease ownership in areas pooled by Newfield. Lexington working
interests in the three wells are estimated to be as follows; 25.78% (contingent
liability of $419,801 for a completed well based on Newfield Authority For
Expenditure "AFE), 10.94% (contingent liability of $159,655 for a completed well
based on Newfield AFE if drilled), and 4.06% (contingent liability of $58,521
for a completed well based on Newfield AFE if drilled). Newfield has up to
approximately the end of 2005 to drill the remaining two wells and may or may
not proceed with any individual well project at their election. Contingent
liability exists to Lexington for any well drilled by Newfield that Lexington
has elected to participate.
Newfield has proceeded with the drilling and completion of one of the wells in
which Lexington has leased acreage. The first of the three vertical wells
targeting a Woodford Shale gas zone, the POE 1-29, commenced drilling on
February 9, 2005 and began producing on March 21, 2005. Lexington has incurred
$453,059 for drilling and completion costs relating to the POE 1-29 as of June
30, 2005.
SOUTH LAMAR PROSPECT
By agreement dated April 21, 2004, Lexington acquired a 100% working interest,
78.5% net revenue interest, in three sections (960 acres) of farm-out acreage in
Hughes County, Oklahoma (the "South Lamar Prospect") with the intention to
develop coal bed methane gas producing wells and Caney Shale wells. The term of
the lease is two years. On July 26, 2004, Lexington acquired a further 183.98
acres in the South Lamar prospect and a 100% working interest and a 79% net
revenue interest in the additional acreage. The term of the lease is two years.
Lexington has begun site preparation on the first well (Goodson 1-23) to be
drilled on the property.
F-11
LEXINGTON RESOURCES, INC.
NOTES TO INTERIM CONSOLIDATED FINANCIAL STATEMENTS
JUNE 30, 2005
(UNAUDITED)
- --------------------------------------------------------------------------------
NOTE 4 - PROPERTY AND EQUIPMENT - (CONTINUED)
- --------------------------------------------------------------------------------
H-9 PROSPECT
By agreement dated June 29, 2004, Lexington has obtained an option to purchase
an undivided 100% leasehold interest, 79.25% net revenue interest, in
approximately 4,600 net leasehold acres in approximately 38 sections of the H-9
Prospect located in Hughes and McIntosh Counties, in the State of Oklahoma.
Lexington concluded the purchase of the property on July 29, 2004. The terms of
leases acquired within the prospect are between three and four years.
On July 19, 2004 Lexington acquired an additional 325 acres of gas target
drillable acreage in the northeast portion of Hughes County, Oklahoma in the
vicinity of the approximate 4,600 acres of farm out leases under acquisition
(H-9) Prospect. Drilling targets that are included in the lease include
Hartshorne and Booch Coal gas zones with a 100% Working Interest and a 78.3% Net
Revenue Interest. The acquired lease is held by production. The term of the
lease is three years.
- --------------------------------------------------------------------------------
MIDDLE CREEK PROSPECT
By agreement dated October 28, 2004, Lexington has purchased an undivided 100%
leasehold interest, 70% net revenue interest, in 320 net leasehold acres in two
sections of the Middle Creek Prospect located in Hughes County, in the State of
Oklahoma. Drilling targets are the Caney Shale and Hartshorne coal bed methane
zones. The leasehold interest acquired is held by production.
BARNETT PATHWAY PROSPECT On June 2, 2005 (amended on July 14, 2005) the Company
entered into an agreement whereby it has the option to purchase up to a 100 %
working interest in net revenue interests ranging between 70% and 75% in up to
3,687 acres of Barnett Shale gas targeted properties located in Jack and Palo
Pinto Counties in the State of Texas for between $450 and $500 per acre together
with a 30 month best efforts drilling commitment. On June 8, 2004 the Company
provided the seller a $100,000 non-refundable deposit. The closing date of this
acquisition is expected to be on or before August 19, 2005 subject to the seller
delivering good and marketable title to the leases as approved by the Company.
NOTE 5: DRILLING OBLIGATIONS
- --------------------------------------------------------------------------------
During the period ended December 31, 2003 Lexington, the Company, and Oakhills
Energy, Inc. entered into drilling agreements with private investors (the
"Funding Investors") for the funding for the first three wells, the Kellster
1-5, the Kyndal 2-2 and the Bryce 3-2, located on the Wagnon Lease. The Funding
Investors subsequently each provided one-third of the Authorization For
Expenditure ("AFE") capital estimated at $360,000 for the drilling and
completion of each of the first three wells. As of June 30, 2005 a total of four
such drilling agreements with private investors had been entered into between
Funding Investors, the Company, and Lexington. The Company had received the
total required funding of $1,485,000 ( 2004 - $720,000) for the drilling and
completion of the four horizontal coal bed methane Wagnon Lease wells and has
successfully drilled and completed the Kellster 1-5, the Kyndal 2-2, the Bryce
3-2 and the Caleigh 4-2 wells. The terms of the drilling agreements of all wells
on the Wagnon Lease are the same for each well on the property. The Caleigh 4-2
began production on April 2, 2005.
Wells to be drilled on the Wagnon Lease property carry royalty interests
totaling 25% to land owners and property interest holders and carried working
interests of 5% to a land owner, and 10% to a company related to a director of
the Company, Paluca Petroleum, Inc. (see Note 3 - Management Compensation
Agreement). Paluca Petroleum, Inc. also owns a non-carried working interest of
5% as part of capital participation funding provided by Paluca.
The Funding Investors are provided an 80% working interest, 60.56% net revenue
interest, in the wells until their invested capital for each well is repaid,
after which time the Funding Investors revert to an aggregate 20.1% working
interest, 15.075% net revenue interest, in the wells located on the Wagnon
Lease. Oakhills Energy, Inc., the previous operator responsible for drilling the
wells, will "back-in" to a reversionary 6.7% working interest after invested
capital is repaid to the Funding Investors in the wells located on the Wagnon
Lease and Lexington will back-in to a reversionary 53.2% working interest. The
Company's repayment obligation to the Funding Investors is limited to the
production revenues generated from wells located on the Wagnon Lease.
Accordingly, if any of the subject wells on the Wagnon Lease become
unsuccessful, the drilling advances will be written off when such determination
is made.
F-12
LEXINGTON RESOURCES, INC.
NOTES TO INTERIM CONSOLIDATED FINANCIAL STATEMENTS
JUNE 30, 2005
(UNAUDITED)
- --------------------------------------------------------------------------------
NOTE 5: DRILLING OBLIGATIONS (CONTINUED)
- --------------------------------------------------------------------------------
As of June 30, 2005, the Funding Investors have been repaid $475,171 of their
$1,485,000 investment in the Kellster 1-5, Kyndal 2-2, Bryce 3-2 and Caleigh 4-2
wells drilled from February, 2004 to April, 2005. The amount paid in the six
month period ended June 30, 2005 was $171,086 (June 30, 2004 - $52,211).
NOTE 6: PROMISSORY NOTES
- --------------------------------------------------------------------------------
In June 2005 the Company obtained loans by way of promissory notes from two
shareholders of the Company totaling $1,100,000 ($600,000 and $500,000). The
terms of the loans are 5 years from the dates of issue with an interest rate of
10%. Payments of blended principal and interest are payable monthly over a 60
month amortization. In conjunction with the promissory note advances, 220,000
warrants, valued at $271,028 (refer to Note 7), were issued exercisable at $3.00
per share with exercise terms until May 31, 2010. The promissory notes may be
repaid at anytime without penalty, and such notes are secured against the
Company's Coal Creek oil and gas property leases. As of June 30, 2005 the total
loan amount outstanding was $1,086,545 which has been recorded net of the
$271,028 fair value of the warrants. The fair value of the warrants will be
expensed over the term of the loans and accreted to the principal of the debt.
PRINCIPAL REPAYMENT
The aggregate amount of principal payments required in each of the next five
years to meet debt retirement provisions is as follows:
2006 $ 179,915
2007 198,754
2008 219,566
2009 242,558
2010 245,752
-----------------
$ 1,086,545
=================
NOTE 7: STOCKHOLDERS' EQUITY
- --------------------------------------------------------------------------------
The authorized capital of the Company consists of 200,000,000 voting common
shares with $0.00025 par value, and 75,000,000 non-voting preferred shares with
$0.001 par value.
REVERSE STOCK SPLIT
Effective August 7, 2003 the Company completed a reverse stock split of
one-for-three hundred of the Company's outstanding common stock, resulting in a
reduction of the then outstanding common stock from 156,328,943 shares to
521,184 shares. The par value and the number of authorized but unissued shares
of the Company's common stock was not changed as a result of the reverse stock
split.
FORWARD STOCK SPLIT
On January 26, 2004 the Company forward split its common shares on the basis of
three new shares for each common share outstanding. The par value and the number
of authorized but unissued shares of the Company's common stock was not changed
as a result of the forward stock split.
Unless otherwise noted, all references to common stock, common shares
outstanding, average numbers of common shares outstanding and per share amounts
in these Financial Statements and Notes to Financial Statements prior to the
effective dates of the reverse and forward stock splits have been restated to
reflect the one-for-three hundred reverse split and the one-for-three forward
split on a retroactive basis.
STOCK OPTION EXERCISE - 2004
On January 22, 2004 the Company issued 1,200,000 post forward split shares of
its common stock, upon the exercise of 1,200,000 post forward share split stock
options at $0.167 per post forward share split share for proceeds of $200,000,
which was paid by way of offset of $200,000 originally advanced to the Company
by ICI which was assigned by Investor Communications International, Inc. ("ICI")
to International Market Trend, Inc. ("IMT") designated option holders as
described in Note 8.
F-13
LEXINGTON RESOURCES, INC.
NOTES TO INTERIM CONSOLIDATED FINANCIAL STATEMENTS
JUNE 30, 2005
(UNAUDITED)
- --------------------------------------------------------------------------------
NOTE 7: STOCKHOLDERS' EQUITY - (CONTINUED)
- --------------------------------------------------------------------------------
On May 18, 2004 the Company issued 495,000 shares of its common stock, upon the
exercise of 495,000 stock options at $1.00 per share for proceeds of $495,000,
which was paid by way of offset of $495,000 originally advanced to the Company
by ICI, which was assigned to an IMT designated option holder, as described in
Note 8.
STOCK OPTION EXERCISE - 2004 - CONTINUED
- --------------------------------------------------------------------------------
On June 25, 2004 the Company issued 320,000 shares of its common stock, upon the
exercise of 320,000 stock options at $3.00 per share for cash proceeds of
$960,000.
STOCK OPTION EXERCISE - 2005
On May 23, 2005 the Company issued 100,000 shares of its common stock, upon the
exercise of 100,000 stock options at $0.167 per share for cash proceeds of
$16,667.
PRIVATE PLACEMENTS
On September 9, 2004 the Company approved a financing of up to 4,150,000 units
of restricted common shares at a price of $1.47 per share plus a full share
purchase warrant exercisable at a price of $1.68 per share for each share
purchased (the "September Unit(s)"). The unexercised warrants expired on July
23, 2005, such date being six months from the effective date of registration of
the stock and warrants issued under the offering. Brokers' fees payable on the
September Units were: cash of 8% of gross proceeds, brokers' warrants equal to
4% of the gross proceeds (to be issued under the same terms as the warrants
issued under the offering), and a warrant exercise fee equal to 5% of proceeds
received as a result of the future exercise of the warrants by the investors. On
November 1, 2004 the Company completed the sale of an aggregate of 1,700,686
Units. The Company filed a registration statement (form SB-2) with the
Securities and Exchange Commission ("SEC") on December 15, 2004, covering the
resale of shares of common stock sold in the private placement or issuable upon
exercise of the warrants. Under the terms of the financing, the registration
statement is to become effective within 120 days after the filing date; the
registration statement went effective on January 24, 2005 in less than 42 days
from the filing date.
As of December 31, 2004, 1,700,686 September Units had been sold for proceeds of
$2,319,264, net of an $180,746 agent fee which was charged to additional paid in
capital. Of the 1,700,686 units sold 376,318 were non-brokered and 1,324,368
were brokered. The fair value of the warrants was estimated to be $0.147 each
and $250,001 has been recorded as a separate component of stockholders' equity.
The fair value of the 46,353 broker warrants issued to date has been estimated
to be $0.147 per warrant and as a result, $6,814 has been recorded as a separate
component of stockholders' equity. The non-brokered units in the amount of
376,318 were issued upon: (1) settlement of a $500,000 convertible promissory
note and accrued interest of approximately $12,637 for 348,733 units; and (2)
pursuant to a non-brokered placee that paid $40,550 for 27,585 units. The
Company does not intend to sell any further securities under this offering.
SHARE PURCHASE WARRANTS
Share purchase warrants outstanding at June 30, 2005 are:
Weighted average
Range of exercise Weighted remaining contractual
prices average price Number of shares life (in years)
- --------------------------------------------------------------------------------
$1.68 - $5.00 $2.19 1,862,672 .94
================================================================================
F-14
LEXINGTON RESOURCES, INC.
NOTES TO INTERIM CONSOLIDATED FINANCIAL STATEMENTS
JUNE 30, 2005
(UNAUDITED)
- --------------------------------------------------------------------------------
NOTE 7: STOCKHOLDERS' EQUITY - (CONTINUED)
- --------------------------------------------------------------------------------
A summary of the Company's stock purchase warrants as of June 30, 2005, and
changes during the period ended is presented below:
--------------------- ----------------------- -----------------------
Weighted average Weighted average
Number of Warrants exercise price remaining contractual
per share life (in years)
--------------------- ----------------------- -----------------------
$
Outstanding at December 31, 2003 -
Granted May 3, 2004 200,000
Granted September 30, 2004 1,018,680
Granted November 1, 2004 728,359
--------------------- ----------------------- -----------------------
Balance at December 31, 2004 1,947,039 2.02 .60
Exercised March 31, 2005 (278,014)
Exercised April 1, 2005 (26,353)
Granted May 31, 2005 220,000
--------------------- ----------------------- -----------------------
Balance at June 30, 2005 1,862,672 2.19 .94
===================== ======================= =======================
On May 31, 2005 the Company issued 220,000 warrants at $3.00 per unit in
conjunction with the issuing of promissory notes totaling $1,100,000 to two
shareholders ($500,000 and $600,000) to the Company (see Note 6). The term of
these warrants are five years. The fair value of these warrants at the date of
grant of $271,028 was estimated using the Black-Scholes warrant pricing model
with an expected life of 5 years, a risk free interest rate of 3%, a dividend
yield of 0% and an expected volatility of 159.69% and has been recorded as an
increase in equity and a reduction of the debt (refer to Note 9, Related
Parties).
In the period ended June 30, 2005, 304,367 share purchase warrants were
exercised at $1.68 per purchase warrant providing $495,964 in proceeds to the
Company, net of brokers' fees of $15,373.
NOTE 8: STOCK OPTION PLAN
- --------------------------------------------------------------------------------
As of June 30, 2005, 4,700,000 options under the Company's current SOP have been
granted and 3,765,000 have been exercised.
A summary of the Company's stock options as of June 30, 2005, and changes during
the period ended is presented below:
--------------------- ----------------------- -----------------------
Weighted average Weighted average
Number of exercise price remaining contractual
options per share life (in years)
--------------------- ----------------------- -----------------------
$
Outstanding at December 31, 2003 1,350,000 0.50 3.392
Exercised January 22, 2004 (1,200,000)
Granted February 2, 2004 1,000,000
Exercised May 18, 2004 (495,000)
Exercised June, 2004 (320,000)
Granted July 26, 2004 200,000
--------------------- ----------------------- -----------------------
Exercisable at December 31, 2004 535,000 1.64 4.26
Cancellation, February 1, 2005 (100,000)
Granted February 1, 2005 600,000
Exercised May 11, 2005 (100,000)
--------------------- ----------------------- -----------------------
Exercisable at June 30, 2005 935,000 1.77 3.17
===================== ======================= =======================
F-15
LEXINGTON RESOURCES, INC.
NOTES TO INTERIM CONSOLIDATED FINANCIAL STATEMENTS
JUNE 30, 2005
(UNAUDITED)
- --------------------------------------------------------------------------------
NOTE 8: STOCK OPTION PLAN (CONTINUED)
- --------------------------------------------------------------------------------
In January 2004, 1,200,000 stock options (400,000 pre-forward split shares) were
exercised at $0.167 per share ($0.50 per pre-forward split share) for proceeds
of $200,000 which was paid by way of offset of $200,000 originally advanced to
the Company by ICI which was assigned by ICI to IMT designated option holders.
On February 2, 2004, an additional 1,000,000 share options were granted to
consultants and three directors, 500,000 exercisable at $1.00 and 500,000
exercisable at $3.00. The term of these options is five years. The fair value of
these options at the date of grant of $2,989,221 was estimated using the
Black-Scholes option pricing model with an expected life of 5 years, a risk free
interest rate of 3%, a dividend yield of 0%, and an expected volatility of 251%
and has been recorded as a consulting expense in the period. Of these options,
100,000 of the $3.00 options were granted to an officer/director of the Company
and 10,000 of the $1.00 options were granted to two directors.
In April 2004 the Company registered 500,000 common stock options exercisable at
$1.00 per share under an S-8 Registration Statement. On May 18, 2004, 495,000 of
these stock options were exercised at $1.00 per share for proceeds of $495,000
which was paid by way of offset of $495,000 originally advanced to the Company
by ICI which was assigned to a designated option holder.
In June 2004 the Company registered 400,000 common stock options exercisable at
$3.00 per share under an S-8 Registration Statement. And, in June 2004, 320,000
of these stock options were exercised at $3.00 per share for cash proceeds of
$960,000.
By Directors' Resolution dated July 2, 2004, the Company increased the
authorized number of options under its Stock Option Plan ("SOP") from 4,000,000
to 5,000,000.
On July 12, 2004, 200,000 stock options were granted at $3.00 per share to
Humphreys. The term of these options is five years. The fair value of these
options at the date of grant of $692,051 was estimated using the Black-Scholes
option pricing model with an expected life of 5 years, a risk free interest rate
of 3%, a dividend yield of 0%, and an expected volatility of 222% and in
accordance with the provisions of SFAS 148, has been disclosed on a pro-forma
basis in Note 2.
On February 1, 2005, 500,000 options were granted at $1.00 per share to IMT. The
term of these options is five years. The fair value of these options at the date
of grant of $646,054 was estimated using the Black-Scholes option pricing model
with an expected life of 5 years, a risk free interest rate of 3%, a dividend
yield of 0%, and an expected volatility of 239.25%.
On February 1, 2005, 100,000 existing S-8 options were granted at $0.16667 per
share to IMT. The term of these options is five years. The fair value of these
options at the date of grant of $129,699 was estimated using the Black-Scholes
option pricing model with an expected life of 5 years, a risk free interest rate
of 3%, a dividend yield of 0% and an expected volatility of 239.25%.
On May 23, 2005, 100,000 S-8 registered share options were exercised at $0.16667
per share for cash proceeds of $16,667.
NOTE 9: RELATED PARTY TRANSACTIONS
- --------------------------------------------------------------------------------
FOR THE SIX MONTH PERIOD ENDED JUNE 30, 2005
The Company previously entered into a contract with IMT, a private company to
whom certain of the Company's directors and officers provide consulting services
relating to oil and gas industry and market development services. The Company
incurred $60,000 in fees to IMT for the period ended June 30, 2005 (2004 -
$NIL).
On February 1, 2005 IMT was granted 600,000 stock options (refer to Note 8).
On November 9, 2004, the Company reached an agreement with Oak Hills, to drill a
ten well program. Humphreys is a director of the Company and is the Drilling
Operations Manager of Lexington, and also the General Manager, director, and 25%
shareholder of Oakhills, an oil and gas drilling and well operating company
based in Holdenville, Oklahoma that acts as "operator" to Lexington. Mr.
Humphreys is in charge of oil and gas operations for Lexington in the United
States.
F-16
LEXINGTON RESOURCES, INC.
NOTES TO INTERIM CONSOLIDATED FINANCIAL STATEMENTS
JUNE 30, 2005
(UNAUDITED)
- --------------------------------------------------------------------------------
NOTE 9: RELATED PARTY TRANSACTIONS - (CONTINUED)
- --------------------------------------------------------------------------------
Humphreys has been assigned a 10% carried Working Interest in each well
successfully drilled on the Wagnon lease, as partial compensation for his
involvement in obtaining and facilitating the execution of the Farm-Out
Agreement and to compensate for his services relating to operation and
completion of wells to be located on the Wagnon Lease. The estimated value of
the 10% carried Working Interest of $146,429 has been recorded as additional
compensation expense during the period ended June 30, 2005. Humphreys also has
the right to purchase an additional 5% working interest in each well to be
located on the Wagnon Lease and has elected to do so for the first four wells
drilled on this lease. The original 5% cost to participate in the wells by
Humphreys was $60,000. As of June 30, 2005 the Company was still owed $15,000
(December 31, 2004 - $22,500) and has recorded the amount as a receivable from
Humphreys as full payment for an additional 5% working interest in each of the
Kellster 1-5, the Kyndal 2-2, and the Bryce 3-2. Refer to Notes 3, 5, and 8.
During the period ended June 30, 2005 the Company incurred $102,500 to its
officers for management fees (June 30, 2004 - $103,800).
On January 1, 2005, the Company appointed Oak Hills as its elected operator for
wells on its Wagnon Lease, and for further drilling to be conducted by
Lexington. Oak Hills Drilling and Operating, LLC replaces Oakhills Energy, Inc.
as its designated operator.
Refer to Note 3.
NOTE 10: INCOME TAXES
- --------------------------------------------------------------------------------
The Company has adopted FASB No. 109 for reporting purposes. As of June 30,
2005, the Company had net operating loss carry forwards of approximately
$4,200,000 that may be available to reduce future years' taxable income and will
expire between the years 2006 - 2025. Availability of loss usage is subject to
change of ownership limitations under Internal Revenue Code 382. Future tax
benefits which may arise as a result of these losses have not been recognized in
these financial statements, as their realization is determined not likely to
occur and accordingly, the Company has recorded a valuation allowance for the
deferred tax asset relating to these tax loss carry forwards.
The Company evaluates its valuation allowance requirements on an annual basis
based on projected future operations. When circumstances change and this causes
a change in management's judgment about the recoverability of future tax assets,
the impact of the change on the valuation allowance is generally reflected in
current income.
NOTE 11: SUPPLEMENTAL DISCLOSURE WITH RESPECT TO CASH FLOWS
- --------------------------------------------------------------------------------
Period ended June 30, 2005 Period ended June 30, 2004
--------------------------------- ---------------------------- --------------------------------
Cash paid during the year for:
Interest $ 8,750 $ -
Income taxes $ - $ -
--------------------------------- ---------------------------- --------------------------------
F-17
Statements made in this Form 10-QSB that are not historical or current
facts are "forward-looking statements" made pursuant to the safe harbor
provisions of Section 27A of the Securities Act of 1933 (the "Act") and Section
21E of the Securities Exchange Act of 1934. These statements often can be
identified by the use of terms such as "may," "will," "expect," "believe,"
"anticipate," "estimate," "approximate" or "continue," or the negative thereof.
We intend that such forward-looking statements be subject to the safe harbors
for such statements. We wish to caution readers not to place undue reliance on
any such forward-looking statements, which speak only as of the date made. Any
forward-looking statements represent management's best judgment as to what may
occur in the future. However, forward-looking statements are subject to risks,
uncertainties and important factors beyond our control that could cause actual
results and events to differ materially from historical results of operations
and events and those presently anticipated or projected. We disclaim any
obligation subsequently to revise any forward-looking statements to reflect
events or circumstances after the date of such statement or to reflect the
occurrence of anticipated or unanticipated events.
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION OR PLAN OF
OPERATION
GENERAL
Lexington Resources, Inc. is a corporation organized under the laws of
the State of Nevada (herein known as "we" or the "Company"). We currently trade
on the OTC Bulletin Board under the symbol "LXRS" and on the Frankfurt and
Berlin Stock Exchanges under the symbol "LXR"; WKN: A0BKLP.
CURRENT BUSINESS OPERATIONS
We are a natural resource exploration and production company currently
engaged in the acquisition and development of oil and gas properties in the
United States. We expect to weight our future development initiatives towards
gas production. We are committed to developing into a profitable independent oil
and gas producer through the systematical expansion of operations and the
acquisition of new drilling targets while organizing drilling and production
initiatives on leased properties.
Our wholly owned subsidiary, Lexington Oil & Gas Ltd. Co., an Oklahoma
limited liability company ("Lexington"), previously acquired a 590 gross acre
section of farm-out acreage in Pittsburg County, Oklahoma for the development
and production of coal bed methane gas (the "Wagnon Property"). We hold an 80%
working interest and a 60.56% net revenue interest in the Wagnon Property. We
have drilled, completed and are producing gas from four wells drilled on the
Wagnon Property.
We have also successfully drilled, completed, and are producing from
two further CBM gas wells located on our Coal Creek Project with working
interests of 50% and 22%, respectively. In addition, we have a 25% working
interest in a third gas well drilled, completed, and producing by Newfield
Exploration Mid-Continent, Inc. on our Panther Creek prospect. In total, we have
interests in six coal bed methane gas wells and one Woodford Shale gas well, and
estimated acreage suitable for the drilling of an estimated further seventy to
one hundred gas wells primarily targeting coal bed methane gas wells.
We have also consummated the acquisition of certain additional coal bed
methane gas prospects in the Arkoma Basin in the State of Oklahoma, including
1,932 gross leasehold acres in the Coal Creek Prospect, 292 gross acres in the
Panther Creek Prospect, 320 gross acres in the Middlecreek Prospect, 1,144 gross
acres in the South Lamar Prospect, and 4,925 gross acres in the H-9 Prospect. In
addition, we have committed to purchase up to a 100% working interest in up to
3,687 gross acres of Barnett Shale targeted gas leases in the Dallas Fort Worth
Basin in the State of Texas. We currently have an aggregate of approximately 590
gross developed and 12,300 gross undeveloped acres pursuant to leases and/or
concessions as more fully described below. It is anticipated that our ongoing
efforts, subject to adequate funding being available, will continue to be
focused on successfully concluding negotiations for additional tracts of prime
gas and oil producing domains, and to implement additional drilling and
production development initiatives through the drilling of new wells to develop
reserves and to provide revenues. We plan to continue building and increasing a
strategic base of proven reserves and production opportunities within Oklahoma's
Arkoma Basin, and development initiatives in the State of Texas.
OIL AND GAS PROPERTIES
As of the date of this Quarterly Report, we have not reported nor filed
any reserve estimates with any Federal agencies, but have commenced production
from certain properties as more fully described below. We obtained an
independent reserve and economic evaluation report regarding the Wagnon Property
that was conducted by Fletcher Lewis Engineering, Inc. of Oklahoma. The
following is a description of our oil and gas properties.
WAGNON PROPERTY
We hold an 80% working interest and a 60.56% net revenue interest in
approximately 590.2 gross acres of a gas lease located in Pittsburg County,
Oklahoma (the "Wagnon Property"). The gas lease was acquired from Oak Hills
Energy, Inc. ("Oak Hills Energy"), which acquired the lease pursuant to a
farm-out agreement with Quinton Rental & Repair Services, Inc. (the "Wagnon
Farm-Out Agreement"). Our interest relating to the Wagnon Property is subject to
farm-out agreements equating to a total 20% working interest between Paluca
Petroleum Inc. ("Paluca"), an affiliate of one of our directors, Douglas
Humphreys, Oak Hills Energy, and the lessee of the Wagnon Property.
As of June 30, 2005, we have drilled, completed and put four wells into
production on this prospect, the Kellster #1-5, the Kyndal #2-2, the Bryce #3-2,
and the Caleigh #4-2. On April 2, 2005, the Caleigh #4-2 coal bed methane gas
well commenced production. It is estimated that up to a total of five wells may
drilled on this the Wagnon Property.
We previously entered into funding agreements for the Kellster #1-5,
Kyndal #2-2, Bryce #3-2, and Caleigh #4-2 wells (collectively, the "Funding
Agreements"). Pursuant to the Funding Agreements, private investors were
provided with an 80% working interest and a 60.56% net revenue interest in the
wells until their respective invested capital in each well is repaid, after
which time the private investors will revert to an aggregate 20.1% working
interest and a 15.075% net revenue interest. Oak Hills Energy, the original
driller and operator of the wells, will "back-in" to a reversionary 6.7% working
interest after invested capital is repaid to the private investors and we will
"back-in" to a reversionary 53.2% working interest. Pursuant to the further
terms and provisions of the Funding Agreements, all wells to be drilled on the
Wagnon property carry royalty interests totaling 25% to landowners and property
interest holders and carried working interests of 5% to a landowner, as well as
a 10% carried working interest to Paluca. Paluca also owns a non-carried working
interest of 5% as part of capital participation funding provided by Paluca. As
of June 30, 2005, we have received the total required funding of $1,485,000
under the Funding Agreements for drilling and completion of the four horizontal
coal bed methane gas wells on the Wagnon Property. As of June 30, 2005, private
investors have been repaid an aggregate of $475,171 of their $1,485,000
investment under the Funding Agreements, of which $171,086 was paid during the
six-month period ended June 30, 2005.
COAL CREEK PROSPECT
During fiscal year 2004, we obtained an option to purchase an undivided
95% interest in approximately 2,500 net leasehold acres in five sections located
in Hughes and Pittsburg Counties, State of Oklahoma (the "Coal Creek Prospect").
On March 12, 2004, we entered into a two-year lease for approximately 1,536
gross acres in the Coal Creek Prospect pursuant to which we have an undivided
95% working interest and a minimum 79% net revenue interest. On May 20, 2004, we
entered into a two-year lease pursuant to which we acquired an additional 372
acres of the Coal Creek Prospect with a minimum 95 working interest and a 78%
net revenue interest. On August 20, 2004, we entered into an additional two-year
lease pursuant to which we acquired an additional 23 acres of the Coal Creek
Prospect with a minimum 95% working interest and a 79% net revenue interest. As
of the date of this Quarterly Report, the total acreage acquired in the Coal
Creek Gas Prospect is approximately 1,932 gross leasehold acres.
On March 31, 2005, we began drilling the first well on the Coal Creek
Prospect, the Lex #1-34, of which we have a 50% working interest. The Lex #1-34
well has been completed and is currently in production. On April 15, 2005, we
began drilling a second well on the Coal Creek Project, the Brumbaugh #1-10
well, of which we have a 22% working interest. The Brumbaugh #1-10 well has been
completed and began production in May 2005. It is estimated that interests in
twelve to sixteen wells may be drilled on lease acreage owned by us that forms
part of the Coal Creek Prospect.
On May 31, 2005, we began drilling a third CBM well on our Coal Creek
Prospect, the Ellis #1-15, of which we have an 88.5 % working interest. Drilling
on this well has encountered a shallow "Bartlesville Sand" gas zone that
produced a significant gas flair upon testing of the zone. The zone was logged,
underwent economic and geological study to assess commercial potential of the
new, non-CBM gas zone, and we attempted completion in the Barlesville Sand zone
without success due to intrusion of water from a salt water disposal well. As a
result, procedures are under evaluation for the completion of the well in the
originally targeted, Hartshorne CBM gas zone that is unaffected by the intrusion
of water.
PANTHER CREEK PROSPECT
During March 2004, we entered into a three-year lease for approximately
292 acres located in five separate sections in the Panther Creek coal bed
methane gas prospect located in Hughes County, State of Oklahoma (the "Panther
Creek Prospect"). We have a 100% working interest and an approximate 81% net
revenue interest in the Panther Creek Prospect acreage acquired.
A portion of the acreage in the Panther Creek Prospect is subject to
three division pooling orders by Newfield Exploration Mid-Continent Inc., a
subsidiary of Newfield Exploration Company ("Newfield"), for three wells to be
drilled and operated by Newfield in which we have elected to participate. On
January 25, 2005, we entered into the joint operating agreement with Newfield to
participate in the proposed wells to be drilled (the "Joint Operating
Agreement"). Pursuant to the terms and provisions of the Joint Operating
Agreement: (i) Newfield shall drill and operate the first well and explore other
zones up to 8500 feet in depth; (ii) we have an approximate 25% working interest
in the first completed well; (iii) we have an approximate 10.94% working
interest in the second completed well; (iv) we have an approximate 4.06% working
interest in the third completed well; and (v) Newfield has up to approximately
the end of fiscal year 2005 to drill such wells and may or may not proceed with
any individual well project at their discretion.
On February 9, 2005, Newfield commenced drilling on the first well, the
POE #1-29 and, as of March 21, 2005, the POE #1-29 gas well commenced production
from a Woodford Shale gas zone.
SOUTH LAMAR PROSPECT
On April 21, 2004, we entered into a two-year lease agreement to
acquire a 100% working interest and a 78.5% net revenue interest in 960 gross
undeveloped acres to develop coal bed methane gas wells in Hughes County, State
of Oklahoma (the "South Lamar Prospect"). On July 26, 2004, we acquired a
further 183.98 gross acres in the South Lamar Prospect pursuant to which we hold
a 100% working interest and a 79% net revenue interest. As of the date of this
Quarterly Report, we are preparing the drill site for the drilling of a first
well on this site on this prospect, the Goodson #1-24 well. The planned "Goodson
#1-23" CBM Hartshorne Coal targeted gas well has undergone drilling site
preparations, road work, and pipeline planning phases of development.
MIDDLECREEK PROSPECT
On May 24, 2004, we entered into an agreement to acquire an undivided
100% leasehold interest and a 70% net revenue interest in 320 gross leasehold
acres located in two sections in the Middlecreek Prospect located in Hughes
County, State of Oklahoma (the "Middlecreek Prospect"). Rights to drill all
geological zones are included and primary gas targets include the Caney shale
and Hartshorne coal zones with further possibilities in the Booch, Stuart and
Savannah zones.
H-9 PROSPECT
On June 29, 2004, we entered into an option agreement to purchase a
leasehold interest and a net revenue interest in approximately 4,600 net
leasehold acres located in approximately 38 sections of the H-9 Prospect in
Hughes and McIntosh counties, State of Oklahoma (the "H-9 Prospect"). On July
29, 2004, we entered into three to four year lease agreements to acquire an
undivided 100% leasehold interest and a 79.25% net revenue interest in the 4,600
gross leasehold acres on the H-9 Prospect. On July 19, 2004, we entered into
another three-year lease to acquire a 100% leasehold interest and a 78.3% net
revenue interest in an additional 325 gross acres of gas target drillable
acreage on the H-9 Prospect.
BARNETT SHALE PROJECT
On June 2, 2005, as amended July 14, 2005, we entered into a definitive
agreement with a Texas-based limited partnership (the "Barnett Agreement"),
regarding a gas well horizontal drilling venture in the Jack, Wise, and Palo
Pinto Counties in the State of Texas (the "Barnett Shale Project"). Pursuant to
the terms and provisions of the Barnett Agreement: (i) we will be able to
acquire 75% to 100% working interests in delivered net revenue interests of 70%
and 75%, respectively, in up to 3,687 net leasehold acres in the Barnett Shale
Project for between $450 and $500 per acre; (ii) we paid a non-refundable
deposit of $100,000 which deposit shall be credited against the total purchase
price to be paid by us for the working interests; (iii) the closing date of this
acquisition is expected to be on or before August 19, 2005 subject to the seller
delivering good and marketable title to the leases as approved by the Company;
(iv) in the event we purchase the maximum 100% working interest, we will receive
a 70% net revenue interest on the leases without carried interest to the Texas
limited and the remaining net revenue interest shall be reserved as an
overriding royalty interest for the Texas limited partnership; (v) in the event
we purchase a 75% working interest, we will receive a 56.25% net revenue
interest on the leases and we will carry for the Texas limited partnership a 10%
working interest in the drilling, completion and equipping of the pipeline on
all wells drilled on the acreage purchased by us; and (vi) our contract
operator, Oak Hills Drilling and Operating LLC ("Oak Hills"), will be the
operator for the project.
We anticipate, subject to financing, that the first well will be
spudded in September 2005 and that all drilling on the acquired acreage will be
completed in less than two years.
WELLS DEVELOPED ON OIL AND GAS PROPERTIES
As of the date of this Quarterly Report, the following table summarizes
wells and working interests in wells under current development initiatives:
- -------------------------------- ----------------------------- ---------------------------- -----------------------------
COMPANY LEASE/PROSPECT WELL NAME INTEREST STATUS
- -------------------------------- ----------------------------- ---------------------------- -----------------------------
Wagnon Kellster #1-5 53.2% Back WI APO Producing
- -------------------------------- ----------------------------- ---------------------------- -----------------------------
Wagnon Kyndal #2-2 53.2% Back WI APO Producing
- -------------------------------- ----------------------------- ---------------------------- -----------------------------
Wagnon Bryce #3-2 53.2% Back WI APO Producing
- -------------------------------- ----------------------------- ---------------------------- -----------------------------
Wagnon Calleigh #4-2 53.2% Back WI APO Producing
- -------------------------------- ----------------------------- ---------------------------- -----------------------------
Panther Creek POE #1-29 25.7% WI Producing
- -------------------------------- ----------------------------- ---------------------------- -----------------------------
Coal Creek LEX #1 50.1% WI Producing
- -------------------------------- ----------------------------- ---------------------------- -----------------------------
Coal Creek Brumbaugh #1-10 22.2% WI Producing
- -------------------------------- ----------------------------- ---------------------------- -----------------------------
Coal Creek Ellis #1-15 88.5% WI In drilling stages
- -------------------------------- ----------------------------- ---------------------------- -----------------------------
South Lamar Goodson #1-23 87.5% WI Drilling site prepared
- -------------------------------- ----------------------------- ---------------------------- -----------------------------
To date, we have committed to interests in eight gas wells. We estimate
that we have additional available acreage suitable for the drilling of a further
seventy to one hundred, primarily coal bed methane gas wells.
RESULTS OF OPERATION
SIX-MONTH PERIOD ENDED JUNE 30, 2005 COMPARED TO SIX-MONTH PERIOD ENDED JUNE 30,
2004
Our net loss for the six-month period ended June 30, 2005 was
approximately ($1,823,252) compared to a net loss of ($4,282,990) during the
six-month period ended June 30, 2004 (a decrease of $2,459,738). During the
six-month period ended June 30, 2005, we generated $393,263 in gross revenue
compared to $94,207 in gross revenue generated during the same period in 2004
(an increase of $299,056), resulting primarily from the sale of gas produced
from coal bed methane gas wells on the Wagnon Property that started production
in mid February 2004. Depletion and operating costs and taxes increased during
the six-month period ended June 30, 2005 compared to the same period in 2004.
The gross revenue of $393,263 generated during the six-month period ended June
30, 2005 was reduced by an aggregate of $261,341 ($139,880 in estimated
depletion and $121,461 in operating costs and taxes), resulting in operating
income of $131,922. The gross revenue of $94,207 generated during the six-month
period ended June 30, 2004 was reduced by an aggregate of $6,558 in estimated
depletion, resulting in operating income of $87,649. The increase in depletion
and operating expenses and taxes during the six-month period ended June 30, 2005
from the six-month period ended June 30, 2004 was primarily the result of the
increase in operating costs and estimated depletion resulting from the increased
number of operating wells.
During the six-month period ended June 30, 2005, we incurred other
expenses in the aggregate amount of $1,955,174 compared to $4,370,639 incurred
during the same period in 2004 (a decrease of $2,415,465), which consisted of:
(i) general and administrative expenses of $1,170,671 (2004: $1,361,701); (ii)
consulting fees - stock based compensation relating to the fair value of stock
options granted to consultants of $775,753 (2004: $2,989,221); and (iii)
interest expense of $8,750 (2004: $19,717). The decrease in other expenses
incurred during the six-month period ended June 30, 2005 compared to the same
period during 2004 resulted primarily from the decrease in fair value of stock
options granted to consultants. General and administrative expenses generally
include corporate overhead, financial and administrative contracted services,
marketing, and consulting costs.
Of the $1,955,174 incurred as other expenses during the six-month
period ended June 30, 2005, an aggregate of $60,000 was incurred payable to
International Market Trend ("IMT") for amounts due and owing for operational,
administrative and financial services rendered during the six-month period ended
June 30, 2005. On November 10, 2003, we entered into a consulting agreement with
IMT (the "Consulting Agreement"), whereby IMT performs a wide range of
management, administrative, financial, and business development services for us.
On February 1, 2005, we granted to IMT an aggregate of 500,000 stock options
exercisable at $1.00 per share for a period of five years. On February 1, 2005,
we also granted to IMT an aggregate of 100,000 stock options registered under an
S-8 Registration Statement exercisable at $0.16667 per share for a period of
five years.
Of the $1,955,174 incurred as other expenses during the six-month
period ended June 30, 2005, an aggregate of $102,500 was incurred to our
officers for management fees. Furthermore, $146,429 was recorded as additional
compensation expense to one of our directors, Mr. Humphreys, relating to the
estimated valuation of his 10% carried working interest in our wells developed
during the six month period ened June 30, 2005. On July 12, 2004, we entered
into a consultation agreement (the "Humphreys Consultation Agreement") with
Lexington Oil & Gas and Mr. Humphreys. Pursuant to the Humphreys Consultation
Agreement, Mr. Humphreys assists in overseeing the drilling operations and the
completion and management of our wells. Mr. Humphreys compensation pursuant to
the terms and provisions of the Humphreys Consultation Agreement is: (i) $7,500
per month; (ii) the assignment of up to 10% carried working interest in every
well drilled on all properties held by us, including the Wagnon Lease; (iii) the
right to purchase up to an additional 5% working interest in all wells drilled
by us on our properties provided that funds for this participation are paid
prior to the commencement of drilling of said wells; and (iv) grant of 200,000
Stock Options to purchase shares of our common stock at an exercise price of
$3.00 per share (which were granted July 2004). The Humphreys Consultation
Agreement can be terminated at any time with ninety days written notice by
either party.
As discussed above, the decrease in net loss during the six-month
period ended June 30, 2005 compared to the six-month period ended June 30, 2004
is attributable primarily to the increase in oil and gas gross revenue and the
decrease in consulting fees - stock based compensation. Our net revenue loss
during the six-month period ended June 30, 2005 was approximately ($1,955,174)
or ($0.10) per share compared to a net loss of ($4,282,990) or ($0.30) during
the six-month period ended June 30, 2004. The weighted average number of shares
outstanding was 17,227,525 for the six-month period ended June 30, 2005 compared
to 14,282,945 for the six-month period ended June 30, 2004 (which had been
restated in accordance with the forward stock split of three-for-one shares of
common stock effected January 26, 2004).
THREE-MONTH PERIOD ENDED JUNE 30, 2005 COMPARED TO THREE-MONTH PERIOD ENDED JUNE
30, 2004
Our net loss for the three-month period ended June 30, 2005 was
approximately ($177,383) compared to a net loss of ($1,189,231) during the
three-month period ended June 30, 2004 (a decrease of $1,011,848). During the
three-month period ended June 30, 2005, we generated $263,204 in gross revenue
compared to $53,517 in gross revenue generated during the same period in 2004,
resulting primarily from the sale of gas produced from coal bed methane gas
wells on the Wagnon Property. Depletion and operating costs and taxes increased
during the three-month period ended June 30, 2005 compared to the same period in
2004. The gross revenue of $263,204 generated during the three-month period
ended June 30, 2005 was reduced by an aggregate of $148,368 ($84,972 in
estimated depletion and $63,396 in operating costs and taxes), which resulted in
operating income of $114,836. The gross revenue of $53,517 generated during the
three-month period ended June 30, 2004 was reduced by an aggregate of $3,879 in
estimated depletion, which resulted in operating income of $49,638. The increase
in depletion and operating expenses and taxes during the three-month period
ended June 30, 2005 from the three-month period ended June 30, 2004 was
primarily the result of the increase in operating costs and estimated depletion
resulting from the increased number of operating wells.
During the three-month period ended June 30, 2005, we incurred other
expenses in the aggregate amount of $292,219 compared to $1,238,869 incurred
during the same period in 2004 (a decrease of $946,650), which consisted of: (i)
general and administrative expenses of $283,469 (2004: $1,233,552); and (ii)
interest expense of $8,750 (2004: $5,317). The decrease in other expenses
incurred during the three-month period ended June 30, 2005 compared to the same
period during 2004 resulted primarily from the decrease in general and
administrative expenses.
As discussed above, the decrease in net loss during the three-month
period ended June 30, 2005 compared to the three-month period ended June 30,
2004 is attributable primarily to the increase in oil and gas gross revenue and
the decrease in general and administrative expenses. Our net loss during the
three-month period ended June 30, 2005 was approximately ($177,383) or ($0.01)
per share compared to a net loss of ($1,189,231) or ($0.08) during the
three-month period ended June 30, 2004. The weighted average number of shares
outstanding was 17,365,104 for the three-month period ended June 30, 2005
compared to 14,618,332 for the three-month period ended June 30, 2004 (which had
been restated in accordance with the forward stock split of three-for-one shares
of common stock effected January 26, 2004).
LIQUIDITY AND CAPITAL RESOURCES
Our financial statements have been prepared assuming that we will
continue as a going concern and, accordingly, do not include adjustments
relating to the recoverability and realization of assets and classification of
liabilities that might be necessary should we be unable to continue in
operation.
SIX-MONTH PERIOD ENDED JUNE 30, 2005
As of the six-month period ended June 30, 2005, our current assets were
$265,522 and our current liabilities were $1,821,298, which resulted in a
working capital deficit of $1,555,776. As of the six-month period ended June 30,
2005, our total assets were $4,186,020 consisting of: (i) $24,920 in cash; (ii)
$240,602 in accounts receivable; (iii) $2,986,515 carrying value of proved oil
and gas properties (net of depletion); (iv) $931,318 carrying value of unproved
oil and gas properties; and (v) $2,665 in other property and equipment (net of
accumulated depreciation). As of the six-month period ended June 30, 2005, our
total liabilities were $2,764,347 consisting of: (i) $1,009,830 in current and
non-current drilling obligations; (ii) $939,000 in accounts payable and accrued
liabilities; and (iii) $815,517 in current and non-current portion of promissory
notes.
Stockholders' equity decreased from $1,685,514 for fiscal year ended
December 31, 2004 to $1,421,673 for the six-month period ended June 30, 2005.
We have not generated positive cash flows from operating activities.
For the six-month period ended June 30, 2005, net cash flows used in operating
activities was ($944,316) compared to net cash flows used in operating
activities for the six-month period ended June 30, 2004 of ($1,244,465). Net
cash flows used in operating activities for the six-month period ended June 30,
2005 consisted primarily of a net loss of ($1,823,252). Net cash flows used in
operating activities was adjusted by $878,936 to reconcile net loss to net cash
from operating activities primarily relating to the non-cash expense of the
grant of stock options and non-cash compensation, oil and gas depletion and
accounts payable.
Net cash flows used in investing activities was ($785,146) for the
six-month period ended June 30, 2005 compared to net cash flows used in
investing activities for the six-month period ended March 31, 2004 of
($1,390,371), which primarily pertained to the acquisition of the oil and gas
properties.
Net cash flows from financing activities was $1,428,089 for the
six-month period ended June 30, 2005 compared to net cash flows from financing
activities for the six-month period ended June 30, 2004 of $3,064,175. Net cash
flows from financing activities for the six-month period ended June 30, 2005
consisted of $1,086,545 (2004: $500,000) in promissory notes (net of
repayments), $512,630 (2004: $1,960,000) in net proceeds on sale of stock, and
$-0- in drilling advances (2004: $678,869), amounts were adjusted by $171,086
(2004: $-0-) in repayment of drilling advances and $-0- in advances payable
(2004: $74,694).
PLAN OF OPERATION
During fiscal year 2004, we completed the sale of an aggregate of
1,700,686 Units at a purchase price of $1.47 per Unit for gross proceeds of
approximately $2,319,264. Further, the holder of two of our outstanding
promissory notes in the aggregate principal amount of $500,000 plus accrued
interest of $12,637 exchanged the promissory notes and accrued interest for
Units, resulting in the issuance of an additional 376,318 Units. Each Unit
consists of one share of our common stock and one warrant to purchase a share of
our common stock at an exercise price of $1.68 (the "September Warrants"). The
September Warrants from the offering were exercisable for a term of 180 days
after the Registration Statement was declared effective on January 21, 2005
creating an expiry term of July 23, 2005. As of the date of this Quarterly
Report, an aggregate of 304,367 September Warrants were exercised for aggregate
proceeds of $495,964, net of $15,373 in brokers' fees. The remaining 1,396,319
September Warrants have expired by their terms and declared void.
Existing working capital, further advances and possible debt
instruments, anticipated warrant exercises, further private placements, and
anticipated cash flow are expected to be adequate to fund our operations over
the next six months. We have no lines of credit or other bank financing
arrangements. Generally, we have financed operations to date through the
proceeds of the private placement of equity and debt securities. In connection
with our business plan, management anticipates additional increases in operating
expenses and capital expenditures relating to: (i) oil and gas operating
properties; (ii) drilling initiatives; and (iii) property acquisitions. We
intend to finance these expenses with further issuances of securities, debt and
or advances, and revenues from operations. Thereafter, we expect we will need to
raise additional capital and increase its revenues to meet long-term operating
requirements.
Additional issuances of equity or convertible debt securities will
result in dilution to our current shareholders. Further, such securities might
have rights, preferences or privileges senior to our common stock. Additional
financing may not be available upon acceptable terms, or at all. If adequate
funds are not available or are not available on acceptable terms, we may not be
able to take advantage of prospective new business endeavors or opportunities,
or existing agreements which could significantly and materially restrict our
business operations.
The independent auditors' report accompanying our December 31, 2004 and
December 31, 2003 consolidated financial statements contains an explanatory
paragraph expressing substantial doubt about our ability to continue as a going
concern. The consolidated financial statements have been prepared "assuming that
we will continue as a going concern," which contemplates that we will realize
our assets and satisfy our liabilities and commitments in the ordinary course of
business.
MATERIAL COMMITMENTS
DRILLING OBLIGATIONS
As of the date of this Quarterly Report, we have committed to drilling
and operating four wells on the Wagnon Property and have elected to participate
in the drilling of a well on the Panther Creek Prospect with Newfield.
Pertaining to the private drilling capital obtained for the drilling of the four
wells on our Wagnon Property, as at June 30, 2005, we have received from the
funding investors the total funding requirement of $1,485,000 for the drilling
and completion of the Kellster #1-5, the Kyndal #2-2, the Bryce #3-2 and the
Caleigh #4-2 wells. As at June 30, 2005, we have paid the funding investors
approximately $475,171, of which $171,086 was paid during the six-month period
ended June 30, 2005.
PROMISSORY NOTES
As of the date of this Quarterly Report, we have obtained funds in the
amounts of $600,000 and $500,000, respectively, pursuant to three promissory
notes from two of our shareholders totaling $1,100,000 (collectively, the
"Promissory Notes"). The terms of the Promissory Notes provide for: (i) a due
date of five years from the date of issuance; (ii) an interest rate of 10% per
annum; (iii) monthly payments of principal and interest payable over a 60-month
amortization; and (iv) a security interest in our Coal Creek oil and gas
property leases. In conjunction with the issuance of the Promissory Notes, we
granted 220,000 warrants exercisable at $3.00 per share with exercise terms
until May 31, 2010.
OFF-BALANCE SHEET ARRANGEMENTS
As of the date of this Quarterly Report, we do not have any off-balance
sheet arrangements that have or are reasonably likely to have a current or
future effect on our financial condition, changes in financial condition,
revenues or expenses, results of operations, liquidity, capital expenditures or
capital resources that are material to investors. The term "off-balance sheet
arrangement" generally means any transaction, agreement or other contractual
arrangement to which an entity unconsolidated with us is a party, under which we
have: (i) any obligation arising under a guaranteed contract, derivative
instrument or variable interest; or (ii) a retained or contingent interest in
assets transferred to such entity or similar arrangement that serves as credit,
liquidity or market risk support for such assets.
ITEM III. CONTROLS AND PROCEDURES
An evaluation was conducted under the supervision and with the
participation of our management, including Grant Atkins, our President and Chief
Executive Officer, and Vaughn Barbon, our Treasurer and Chief Financial Officer,
of the effectiveness of the design and operation of our disclosure controls and
procedures as at June 30, 2005. Based on that evaluation, Messrs. Atkins and
Barbon concluded that our disclosure controls and procedures were effective as
of such date to ensure that information required to be disclosed in the reports
that we file or submit under the Securities Exchange Act of 1934, as amended
(the "Exchange Act"), is recorded, processed, summarized and reported within the
time periods specified in Commission rules and forms. Such officers also confirm
that there was no change in our internal control over financial reporting during
the six-month period ended June 30, 2005 that has materially affected, or is
reasonably likely to materially affect, our internal control over financial
reporting.
AUDIT COMMITTEE REPORT
The Board of Directors has established an audit committee. The members
of the audit committee are Mr. Steven Jewett, Mr. Doug Humphreys, and Mr. Norman
MacKinnon. Two of the three members of the audit committee are "independent"
within the meaning of Rule 10A-3 under the Exchange Act. The audit committee was
organized in April 2004 and operates under a written charter adopted by our
Board of Directors.
The audit committee has reviewed and discussed with management our
unaudited financial statements as of and for the six-month period ended June 30,
2005. The audit committee has also discussed with Dale Matheson Carr-Hilton
LaBonte the matters required to be discussed by Statement on Auditing Standards
No. 61, Communication with Audit Committees, as amended, by the Auditing
Standards Board of the American Institute of Certified Public Accountants. The
audit committee has received and reviewed the written disclosures and the letter
from Dale Matheson Carr-Hilton LaBonte required by Independence Standards Board
Standard No. 1, Independence Discussions with Audit Committees, as amended, and
has discussed with Dale Matheson Carr-Hilton LaBonte their independence.
Based on the reviews and discussions referred to above, the audit
committee has recommended to the Board of Directors that the unaudited financial
statements referred to above be included in our Quarterly Report on Form 10-QSB
for the six-month period ended June 30, 2005 filed with the Securities and
Exchange Commission.
PART II. OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS
Management is not aware of any legal proceedings contemplated by any
governmental authority or any other party involving us or our properties. As of
the date of this Quarterly Report, no director, officer or affiliate is (i) a
party adverse to us in any legal proceeding, or (ii) has an adverse interest to
us in any legal proceedings. Management is not aware of any other legal
proceedings pending or that have been threatened against us or our properties.
ITEM 2. CHANGES IN SECURITIES AND USE OF PROCEEDS
EXERCISE OF SHARE PURCHASE WARRANTS
As of the date of this Quarterly Report, we have issued an aggregate of
304,367 shares of common stock to shareholders pursuant to the exercise of the
September Warrants. During fiscal year 2004, we completed the sale of an
aggregate of 1,700,686 Units at a purchase price of $1.47 per Unit for gross
proceeds of approximately $2,319,264. Further, the holder of two of our
outstanding promissory notes in the aggregate principal amount of $500,000 plus
accrued interest of $12,637 exchanged the promissory notes and accrued interest
for Units, resulting in the issuance of an additional 348,733 Units. Each Unit
consists of one share of our common stock and one warrant to purchase a share of
our common stock at an exercise price of $1.68. The September Warrants were
exercisable until July 23, 2005.
As of the date of this Quarterly Report, an aggregate of 304,367
September Warrants were exercised for aggregate proceeds of $495,964, net of
$15,373 in brokers' fees. The 304,367 shares of common stock were issued to the
shareholders in reliance on the registration provisions of the Securities Act of
1933, as amended, in accordance with the terms of the Registration Statement.
EXERCISE OF STOCK OPTIONS
During the six-month period ended June 30, 2005, an aggregate of
100,000 Stock Options were exercised at $0.16667 per share for cash proceeds of
$16,667. The shares of common stock were issued to the shareholder in accordance
with the S-8 Registration Statement.
ITEM 3. DEFAULTS UPON SENIOR SECURITIES
No report required.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
No report required.
ITEM 5. OTHER INFORMATION
No report required.
ITEM 5. OTHER INFORMATION
No report required.
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
Exhibits:
31.1 Certification of Chief Executive Officer pursuant to Securities
Exchange Act of 1934 Rule 13a-14(a) or 15d-14(a).
31.2 Certification of Chief Financial Officer pursuant to Securities
Exchange Act of 1934 Rule 13a-14(a) or 15d-14(a).
32.1 Certifications pursuant to Securities Exchange Act of 1934 Rule
13a- 14(b) or 15d-14(b) and 18 U.S.C. Section 1350, as adopted
pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.
Reports on Form 8-K:
Report on Form 8-K Item 5.01 filed on February 18, 2005. Report on Form
8-K Item 1.01 filed on June 8, 2005.
SIGNATURES
In accordance with the requirements of the Exchange Act, the registrant
caused this report to be signed on its behalf by the undersigned, thereunto duly
authorized.
LEXINGTON RESOURCES, INC.
Dated: August 13, 2005 By: /s/ GRANT ATKINS
---------------------------
Grant Atkins, President and
Chief Executive Officer
Dated: August 13, 2005 By: /s/ VAUGHN BARBON
---------------------------
Vaughn Barbon, Chief Financial
Officer