UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
---------------
Form 10-K/A
(AMENDMENT NO. 1)
[X] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE SECURITIES EXCHANGE
ACT OF 1934
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the year ended December 31, 2001
Commission File No. 0-9092
CHENIERE ENERGY, INC.
(Exact name of registrant as specified in its charter)
Delaware 95-4352386
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
333 Clay Street, Suite 3400 77002-4102
Houston, Texas (Zip code)
(Address of principal executive offices)
Registrant's telephone number, including area code: (713) 659-1361
Securities registered pursuant to Section 12(b) of the Act:
None
Securities registered pursuant to Section 12(g) of the Act:
Common Stock, $ 0.003 par value
(Title of Class)
Indicate by check mark whether the registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days. Yes [X] No[ ]
Indicate by check mark if disclosure of delinquent filers pursuant to Item
405 of Regulation S-K is not contained herein, and will not be contained, to the
best of the registrant's knowledge, in definitive proxy or information
statements incorporated by reference in Part III of this Form 10-K/A or any
amendment to this Form 10-K/A. [ ]
The aggregate market value of the registrant's common stock held by
non-affiliates of the registrant was approximately $14,244,127 as of March 29,
2002 (based upon the March 29, 2002 closing market price of such common stock as
reported on The American Stock Exchange). 13,297,393 shares of the registrant's
Common Stock were outstanding as of March 29, 2002.
Documents incorporated by reference: Proxy Statement for the registrant's
Annual Meeting of Stockholders (to be filed within 120 days of the close of the
registrant's fiscal year) is incorporated by reference into Part III.
1
CHENIERE ENERGY, INC.
Index to Form 10-K
PART I......................................................................................................3
Items 1 and 2. Business and Properties......................................................................3
Item 3. Legal Proceedings..................................................................................22
Item 4. Submission of Matters to a Vote of Security Holders................................................22
PART II....................................................................................................23
Item 5. Market Price of Dividends on the Registrant's Common Equity and Related Stockholder Matters........23
Item 6. Selected Financial Data............................................................................23
Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations..............24
Item 7A. Quantitative and Qualitative Disclosures About Market Risk........................................33
Item 8. Financial Statements and Supplementary Data........................................................34
Item 9. Changes in and Disagreements with Accountants on Accounting and Financial Disclosure...............62
PART III...................................................................................................62
Items 10-13. (Incorporated by reference to Proxy Statement)................................................62
PART IV....................................................................................................62
SIGNATURES.................................................................................................66
Gryphon Exploration Company Audited Financial Statements...................................................67
2
PART I
ITEMS 1. AND 2. BUSINESS AND PROPERTIES
General
Cheniere Energy, Inc., a Delaware corporation, is a Houston-based
company engaged in oil and gas exploration, development and exploitation and in
the development of a liquefied natural gas (LNG) receiving terminal business.
The LNG receiving terminal business consists of receiving deliveries of LNG from
LNG ships, processing such LNG to return it to a gaseous state and delivering it
to pipelines for transportation to purchasers. The terms Cheniere and the
Company refer to Cheniere Energy, Inc. and its subsidiaries. The Company has
historically focused on evaluating and generating drilling prospects using a
regional and integrated approach with a large seismic database as a platform.
The Company is currently focusing, and expects to continue to focus, its
attention on the development of its LNG receiving terminal business. Cheniere's
management expects that the Company's active interpretation of 3D seismic data
and generation of prospects will continue, though its participation in the
drilling of wells within the coming year or two will be accomplished through
farmout arrangements and back-in interests (a reversionary interest reserved by
Cheniere in oil and gas leases typically taking effect upon the happening of
certain future events) whereby the capital costs are borne by industry partners.
Cheniere has been publicly traded since July 3, 1996 under the name
Cheniere Energy, Inc. The Company's principal executive offices are located at
333 Clay Street, Suite 3400, Houston, Texas 77002, and its telephone number is
(713) 659-1361. Cheniere's internet website is located at www.cheniere.com.
On October 16, 2000 the Company's stockholders approved a one-for-four
reverse stock split. The reverse stock split became effective on October 18,
2000 and reduced Cheniere's issued and outstanding shares from 43,989,572 shares
to 10,997,393 shares. All historical share and per share data appearing in this
document have been restated to reflect the reverse stock split.
As used in this Report, Mcf means thousand cubic feet, Mmcf means
million cubic feet, Bcf means billion cubic feet, Bbl means barrel or 42 U.S.
gallons liquid volume, Mbbl means thousand barrels, Mcfe means thousand cubic
feet of natural gas equivalent using the ratio of six Mcf of natural gas to one
Bbl of crude oil, condensate and natural gas liquids, Mmcfe means million cubic
feet of natural gas equivalent, Bcfe means billion cubic feet of natural gas
equivalent, and Mmbtu means million British thermal units. This Report includes
various other capitalized terms that are defined when first used.
General Development of Business
Cheniere Energy Operating Co., Inc. (Cheniere Operating) was
incorporated in Delaware in February 1996 for the purpose of engaging in the oil
and gas exploration business, initially on the Louisiana Gulf Coast. On July 3,
1996, Cheniere Operating underwent a reorganization whereby Bexy Communications,
Inc., a publicly held Delaware corporation (Bexy), received 100% of the
outstanding shares of Cheniere Operating, and the former stockholders of
Cheniere Operating received approximately 93% of the issued and outstanding Bexy
shares. As a result of the share exchange, a change in the control of the
Company occurred. The transaction was accounted for as a recapitalization of
Cheniere Operating. Bexy spun off its existing assets and liabilities to its
original stockholders and changed its name to Cheniere Energy, Inc. Cheniere
Operating became a wholly owned subsidiary of the Company.
Cameron Project. In 1996, Cheniere entered into an exploration
agreement with Zydeco Exploration, Inc. to acquire and process proprietary
seismic data along the transition zone (the area approximately 3-5 miles on
either side of the Gulf of Mexico shore line) in Cameron Parish, Louisiana,
covering a 228-square-mile area (the Cameron Project). The 228-square-mile
survey was acquired jointly by Cheniere and its industry partner, and initial
processing was completed in 1997. Interpretation of the data yielded drilling
prospects located onshore and in the state and federal waters of offshore
Louisiana. Leasing activity occurred over identified prospects throughout these
areas, and five prospects were drilled during 1999. Leasing over additional
prospects began in 2000 and continues. In September 2001, Cheniere acquired for
$500,000 all rights to the Cameron Project from the industry partner with whom
it had jointly acquired the data in 1996 and 1997. Cheniere subsequently sold
the seismic data to a seismic marketing company for $2,500,000 and a 50% share
in licensing proceeds generated by the marketing company. Cheniere retains a
license to all of the seismic data for use in its exploration program. See
Exploration Programs.
Offshore Louisiana Area. In an effort to provide continued access to
high quality drilling prospects, the Company expanded beyond the Cameron Project
and into the shallow waters of the Gulf of Mexico. In 1999,
3
Cheniere licensed 8,800 square miles of seismic data from Fairfield Industries
(the Offshore Louisiana Area). The Company also made a commitment (estimated to
be approximately $5,500,000 at the time) to fund the reprocessing of the entire
8,800-square-mile seismic database.
On September 15, 2000 Cheniere entered into an agreement (the Gryphon
Transaction) with Warburg, Pincus Equity Partners, L.P. (Warburg), a global
private equity fund based in New York, to fund exploration and development in
the Offshore Louisiana Area through a newly formed private corporation, Gryphon
Exploration Company (Gryphon). The Company contributed to Gryphon: (i) the
Company's license from Fairfield Industries to seismic data covering the
Offshore Louisiana Area; (ii) the Company's interest in its Joint Exploration
Agreement with Samson Offshore Company (Samson), (iii) certain offshore leases,
including its Shark prospect on West Cameron Block 49, (iv) a producing well,
(v) certain prepaid expenses and (vi) furniture and fixtures, all in exchange
for (i) the assumption by Gryphon of certain accounts payable and (ii) 100% of
the common stock of the subsidiary and cash. Warburg invested $25,000,000 and
received preferred stock, with an 8% accruing dividend, convertible into 63.2%
of Gryphon's common stock. In the event Gryphon's board of directors approves a
capital call and Gryphon delivers written notice of such capital call pursuant
to the terms of the agreement. Cheniere and Warburg have an option, subject to
certain customary conditions, to contribute to Gryphon their respective shares
of an additional $75,000,000 investment. The Gryphon Transaction was consummated
on October 11, 2000. See Investment in Gryphon Exploration Company.
Offshore Texas Project Area. Between June 2000 and October 2000,
Cheniere acquired licenses to approximately 6,800 square miles of seismic data
primarily in the shallow waters offshore Texas and also in the West Cameron area
in the Gulf of Mexico (the Offshore Texas Project Area) in separate transactions
with Seitel Data Ltd., a division of Seitel Inc., and JEBCO Seismic, L.P.
Cheniere has committed to reprocess all of the data from the Offshore Texas
Project Area at a cost of approximately $8,500,000, payable in installments
beginning in October 2000 and continuing through the final delivery of
reprocessed data, which is expected to occur in 2002.
In June 2001, Cheniere sold to Gryphon for $3,500,000 one of its two
licenses to the Seitel 3D seismic data. Gryphon paid $853,197 in cash to
Cheniere and agreed to pay $2,646,803 of Cheniere's obligations related to the
reprocessing of the data. Cheniere remained responsible for payment of the final
$1,061,692 in reprocessing charges upon final delivery of all reprocessed data,
which is expected to be completed in 2002. (See Note 16 in Notes to Consolidated
Financial Statements for complete discharge of this obligation in March 2002.)
Cheniere retains one license to the seismic data.
In July 2001, Cheniere sold to Gryphon one of its two licenses to
certain 3D seismic data covering an additional 3,000 square miles. Gryphon
agreed to pay Cheniere's accounts payable of $1.3 million and the remaining
commitment of $2.9 million related to the reprocessing of the data. In
connection with the transaction, Cheniere also transferred to Gryphon 6,740
shares of Gryphon common stock, valued by the parties at approximately $418,000
or $62 per share, based on the estimated fair market value of the Gryphon common
stock, which considered the fair value of such stock at the formation of Gryphon
and any significant changes in Gryphon's operations or market conditions since
that date. The proceeds at closing of $1.3 million were allocated as a reduction
to the carrying amount of Cheniere's investment in Gryphon ($418,000) and
unproved oil and gas properties ($882,000). Cheniere retains one license to the
seismic data.
Cheniere's existing data set covering the Cameron Project and the
reprocessed data set covering the Offshore Texas Project Area, as it is
delivered, provide the Company the framework with which to identify potential
drilling prospects which may then be acquired through leasing at the area-wide
federal and state lease sales, through farm-ins (agreements whereby a third
party owner of lease interests grants to the Company the right to earn an
assignment of an interest in the lease, typically by drilling one or more
wells), and through participation in industry prospects. Cheniere plans to
continue to identify potential drilling prospects and may participate in any
drilling activities through farm-ins or by selling an interest to an industry
partner.
As a part of its plans to add exploration staff, in December 2000,
Cheniere entered into a consulting agreement with Aurora Exploration, LLC
(Aurora) to assist Cheniere in the interpretation of the Company's seismic data
sets and in the Company's prospect generation activities. The initial term of
the agreement was through March 2001, but it was extended through September
2001. Aurora, based in Lafayette, LA, focused its efforts on the Mustang Island,
Matagorda and West Cameron areas of the Gulf of Mexico shelf, using a portion of
Cheniere's licensed seismic data from the Offshore Texas Project Area.
LNG Receiving Terminal Development. In late 2000, Cheniere undertook a
feasibility study to assess the long-term natural gas markets in the U.S. and,
in particular, the potential role of LNG in meeting a portion of the gas supply
deficit expected to develop later in this decade. Based on that analysis,
Cheniere's management concluded that LNG would become an economically viable
source of natural gas supply in the U.S.
4
In 2001, Cheniere assembled an experienced LNG project development
team and began a study to determine viable locations for LNG receiving terminals
in the U.S. The Company then acquired options to enter into long-term leases for
two terminal sites and an option to purchase one terminal site, all along the
Texas Gulf Coast. The options may be renewed through the payment of annual or
semi-annual rentals. Cheniere has undertaken preliminary engineering due
diligence work on its initial terminal site in Freeport, Texas, with the
objective of filing by mid-2002 an application with the Federal Energy
Regulatory Commission (FERC) to permit the construction of an LNG receiving
terminal.
Business Strategy
It is the Company's belief that the long-term outlook for natural gas
prices in the U.S. is one that will sustain prices at or above $3.00 per Mcf.
The Company believes that such an environment will favor not only domestic
exploration and production, but also LNG imports into the U.S. The Company's
objective is to develop its LNG receiving terminal business and to expand the
net value of its assets by building an oil and gas reserve base in a
cost-efficient manner, through its investment in Gryphon and through
exploitation of its seismic database to facilitate identifying drilling
prospects. Cheniere's exploration program combines the use of regional seismic
data in shallow water areas of the Gulf of Mexico, advanced analytical
technologies, a methodology that integrates geoscience and engineering
disciplines, and a core of experienced staff.
LNG Receiving Terminals
Cheniere has assembled a team of professionals with extensive
experience in the LNG industry. The Company has researched the LNG opportunity,
developed a plan to exploit the opportunity and initiated the process of
identifying and securing sites for LNG receiving terminals as well as
undertaking the necessary regulatory and permitting work to advance the project.
A substantial portion of the time and attention of Cheniere's employees is
currently focused on developing an LNG terminal.
Seismic Data
Cheniere has acquired two significant seismic database assets: (i) a
license to a 228-square-mile seismic program covering the transition zone in
Cameron Parish (the Cameron Project described above), and (ii) a
6,800-square-mile seismic database comprising several seismic surveys in the
shallow waters offshore Texas (the Offshore Texas Project Area described above).
The offshore Texas database has been available previously to the industry and
was processed using a technique called dip move out (DMO). Cheniere has acquired
the DMO data and is underwriting the reprocessing of the data utilizing another
technology known as prestack time migration (PSTM). Both DMO and PSTM are
processing techniques which improve seismic data quality to more accurately
image subsurface features. Of the two techniques, PSTM is more advanced and
technically accurate. The regional PSTM data is the technology tool which
management believes gives Cheniere a competitive advantage.
Analysis and Methodology
Cheniere has developed a prospect generation infrastructure capable of
detailed analyses of large volumes of seismic, geological, and engineering data.
Cheniere employs a rigorous methodology which includes: 1) the detailed analyses
of existing fields to identify geological and geophysical attributes for use as
analogs, 2) regional trend mapping to extend prolific plays into under-explored
areas, 3) the use of workstation interpretation techniques to rapidly identify
prospects with attributes similar to those identified in the analog fields, 4)
the integration of seismic interpretation, well control, structure,
stratigraphy, timing, sourcing factors, and production data to quantify prospect
potential, and 5) the integration of the above sciences with experience and
conservative economic evaluation to focus the exploration program on highly
commercial projects. By conducting a thorough analysis of the data and strict
adherence to the methodology, Cheniere believes it can reduce the risk of dry
holes and achieve significant growth, while maintaining a competitive cost of
finding and development.
Experience
Cheniere has built a technical and management team that is experienced
in the Gulf of Mexico and in various technical specialties required for its
exploration program. The technical staff averages over 20 years of experience
exploring for oil and gas in the Gulf Coast. The Company believes this
experienced team allows it to be very productive in the generation and
acquisition of
5
prospects.
LNG Receiving Terminal Business
LNG is natural gas that has been reduced to a fraction of its volume
through a sophisticated refrigeration process. The liquefication of natural gas
(into LNG) allows it to be transported long distances comparatively safely and
economically. Outside the U.S., utilization of LNG has grown dramatically, with
12 countries capable of producing 5 Tcf (gas equivalent) of LNG per year and 13
countries capable of importing LNG. In the U.S., due mainly to an abundant
supply of natural gas, LNG has not historically been a major energy source.
However, with expected increases in natural gas demand, the recent experience of
U.S. natural gas producers' limited ability to increase supply and the
increasing cost of domestic exploration and production, the Company believes LNG
will become a competitive supply alternative to domestic natural gas and other
import alternatives. Assuming current construction costs of LNG-related
facilities and tankers, LNG can be economically produced and delivered as
natural gas into U.S. pipelines at a cost of $2.50 - $3.50/MMBtu.
Cheniere has been developing its LNG business since late 2000 and has
made substantial progress. After completing a U.S. gas market study and
preliminary terminal location study in 2000, Cheniere decided to focus on
developing terminals in Texas. Texas offers several important advantages,
including (i) it is the largest natural gas-consuming state in the U.S., (ii)
the government and general population are familiar with and supportive of the
energy industry, (iii) with declining production, Texas has under-utilized
intrastate and interstate pipelines with access to Midwest and Northeast U.S.
markets, and (iv) Texas has an extended coast providing a number of ports with
adequate facilities for such a terminal.
Cheniere secured lease options on sites in Freeport, Texas and
Brownsville, Texas and has a purchase option on a site in Sabine Pass, Texas.
In connection with Cheniere's acquisition of its option to lease the Freeport,
Texas LNG receiving terminal site, Cheniere issued 500,000 shares of common
stock valued at $1,150,000 or $2.30 per share, the closing price of the
Company's common stock on the date of the transaction. Additionally, Cheniere
has committed to issue 750,000 shares of its common stock to the seller of the
lease option at such time as Cheniere receives a permit for the construction of
an LNG receiving terminal on the site, and Cheniere will receive no additional
consideration. Cheniere is also obligated to pay to the seller of the lease
option an overriding royalty interest equal to approximately 10% of processing
revenues from the LNG receiving terminals which Cheniere develops. Under the
terms of the option to lease the Freeport site, the Company may exercise the
option during the six-month period commencing on March 23, 2001, and such
option is renewable for five additional six-month periods by paying additional
consideration of $125,000 every six months commencing on September 23, 2001.
Such option payments have been and will be applied toward lease rentals upon the
execution of a long-term lease.
In connection with Cheniere's acquisition of its option to lease the
Brownsville, Texas LNG terminal site, Cheniere paid $33,600 for a one-year
option commencing in July 2001. Such option is renewable for two additional
one-year periods for additional consideration of $33,600 per year.
Cheniere obtained a one-year purchase option to acquire the LNG
terminal site in Sabine Pass, Texas, commencing in November 2001, in exchange
for initial consideration of $200,000, of which $75,000 was paid in cash at
closing and $125,000 is due six months from closing provided that such option
is not terminated at an earlier date. The purchase option is renewable by
Cheniere for up to five additional years for additional consideration equal to
$200,000 per year for the years commencing November 2002 and 2003 and $400,000
for each of the remaining three years.
Initially, Cheniere plans to permit the Freeport site with average
annual capacity of 365 Bcf of gas per year. Cheniere has commenced development
of its Freeport, Texas site, including (i) completing a feasibility study, (ii)
initiating the preparation of forms and collection of information for the
permitting and Federal Energy Regulatory Commission related filings, (iii)
meeting with local agencies and planners and (iv) conducting preliminary
discussions concerning the financing of the project. In order to exploit the
opportunity to develop an LNG receiving terminal, Cheniere will need to obtain
additional equity or debt financing. Cheniere has executed non-binding Memoranda
of Understanding (MOUs) for the sale of 450 MMcf per day of natural gas from the
proposed terminal and is pursuing discussions with other consumers of natural
gas to arrange for additional gas sales through the terminal. Cheniere has also
held discussions with several LNG suppliers. Assuming prompt regulatory
approvals and adequate financing, and subject to all of the risks inherent in a
new venture of this type as described under the "Forward Looking Statements and
Risk Factors" herein, construction of the first terminal could commence as
early as 2003 with LNG being imported at the beginning of 2006. However, there
can be no assurance whether or when such regulatory approvals and financing may
be obtained. See Forward Looking Statements and Risk Factors.
Exploration Programs
The Company's current oil and gas exploration and development
activities are focused on two areas: (i) the Cameron Project, which covers an
area extending roughly three to five miles on either side of the westernmost 28
miles of Louisiana coastline; and (ii) the Offshore Texas Project Area, which
covers approximately 6,800 square miles in the shallow waters offshore Texas.
Substantial infrastructure along the Gulf Coast and in the shallow Gulf of
Mexico should permit Cheniere to lower its development costs compared to those
in other geographic regions and facilitate timely development of oil and gas
discoveries. The Company's officers and technical staff have extensive
experience both onshore and offshore in the Gulf Coast and believe the Company
is well-positioned to evaluate, explore and develop properties in these areas.
Cameron Project Seismic Exploration Program
Under the terms of an exploration agreement with an industry partner
covering the Cameron Project, Cheniere paid for certain seismic costs in the
amount of approximately $16,500,000 and acquired ownership of seismic data
covering the Cameron Project, among other interests that have subsequently
expired or terminated. After the termination of the exploration agreement,
Cheniere sold the seismic data to a seismic marketing company for $2,500,000 and
a 50% share in
6
licensing proceeds generated by the marketing company. Cheniere also retained a
license to all of the seismic data for use in its exploration program.
Seismic Exploration Program in Offshore Texas Project Area
In June 2000, Cheniere acquired a license to approximately 1,900
square miles of seismic data from Seitel Data Ltd., a division of Seitel Inc. In
October 2000, Cheniere exercised its option to expand the agreement with Seitel
Data Ltd. to cover an additional 1,900 square miles of seismic data. Together,
the licenses acquired from Seitel represent coverage of over 433 Outer
Continental Shelf blocks in the shallow waters offshore Texas and Louisiana in
the Gulf of Mexico.
In October 2000, Cheniere negotiated a Master Data Users Agreement
with the Houston-based firm, JEBCO Seismic L.P., to acquire 3,000 square miles
(333 blocks) of seismic data in both state and federal waters offshore Texas,
bringing Cheniere's total data set in the shallow waters offshore Texas and
Louisiana to approximately 6,800 square miles of seismic coverage. Cheniere has
committed to reprocess all of the data from the Offshore Texas Project Area at a
cost of approximately $8,500,000, payable in installments beginning in October
2000 and continuing through the final delivery of reprocessed data, which is
expected to occur in 2002. As of December 31, 2001, Cheniere had received
reprocessed data for the 3,000 square miles of seismic data in the Jebco data
set, representing 43% of the total reprocessing to be done in the Offshore Texas
Project Area.
Cheniere's exploration team generated ten prospects during 2001 and
sold interests in eight of the prospects to industry partners, retaining various
overriding royalty interests and working interests ranging from an overriding
royalty interest (a share of the hydrocarbons produced from an oil and gas
property, free of the expenses of production) of less than 1% to a carried
working interest (an agreement whereby Cheniere retains an interest in a well
but bears none or only a portion of the cost of drilling the initial well) of
approximately 24%. Cheniere expects that the prospects will be drilled by its
industry partners during 2002, but Cheniere does not serve as operator of the
wells and does not control the timing of such drilling activities.
Drilling Activities
In 1999, the Company drilled and completed two discovery wells located
in adjacent fault blocks on West Cameron Block 49 in Louisiana state waters: the
Redfish well and the Stingray well. The wells were tied into a common platform
and began production during September 1999. Both wells are located in shallow
waters of approximately 25 feet and were drilled into the Lower Miocene
formation, from 9,000 to 11,000 feet. Cheniere owns a 30% working interest in
the Redfish well and a 45% working interest in the Stingray well.
During 2000, the Company commenced drilling an additional exploration
well on West Cameron Block 49, known as the Shark well. In connection with the
Gryphon Transaction, Cheniere assigned its interest in the Shark well, which was
then being drilled, to Gryphon. Gryphon subsequently completed the well in
February 2001. Production of natural gas from the Shark well is handled through
a common platform which, since September 1999, has also handled production from
the Company's Stingray and Redfish wells.
During 2001, Cheniere did not participate in the drilling of any
wells.
Investment in Gryphon Exploration Company
Cheniere owns 100% of the outstanding common stock of Gryphon and
exercises significant influence over Gryphon's financial and operating policies
through its participation on Gryphon's board of directors; however, Cheniere
does not participate in the day-to-day management of Gryphon, does not exercise
control over Gryphon and cannot effect a change in the management of Gryphon.
Cheniere's equity share of Gryphon's losses for 2001 was $2,974,191, calculated
by applying Cheniere's 100% common stock ownership interest to Gryphon's net
income of $84,000 and reducing such result for Gryphon's preferred dividend
arrearages of $3,058,191 for the year. As of December 31, 2001, after giving
effect to the conversion of all shares of Gryphon's convertible preferred stock
to shares of Gryphon common stock, Cheniere had a 20.2% interest in Gryphon.
Subsequent to the period covered by this report, in March 2002, Cheniere sold
51,400 shares of its Gryphon common stock to Gryphon, subject to certain
repurchase options, thereby further reducing its interest to 13.7% on an
as-converted basis. See Liquidity and Capital Resources - Exploration Funding
under Item 7 of this report.
In the Gryphon Transaction, the Company contributed the license to
8,800 square miles of seismic data that it had originally licensed from
Fairfield Industries. The data covered more than 1,100 outer continental shelf
blocks in the shallow waters of the Gulf of Mexico (the Offshore Louisiana
Area). Cheniere also assigned its rights in its
7
Joint Exploration Agreement with Samson, which ran from March 2000 through
August 2001.
From its inception in October 2000 through December 2001, Gryphon
drilled nine exploratory wells, yielding four discoveries and five dry holes. As
of March 22, 2002, Gryphon had three wells on production, one well awaiting
completion and production facilities and one well drilled in 2002 for which
completion activities were underway. Depending on rig availability, Gryphon
anticipates drilling up to twelve exploration wells during 2002. Gryphon is also
engaged in acquiring drilling prospects through leasing at area-wide federal and
state lease sales and through farm-ins of leased acreage.
Production and Sales
The following table presents certain information with respect to oil
and natural gas production attributable to the Company, average sales prices
received and average production costs during 2001, 2000 and 1999. The Company
commenced oil and gas production on September 9, 1999.
Year Ended December 31,
--------------------------------
2001 2000 1999
-------- ---------- --------
Production:
Oil (bbls) 2,608 3,703 2,975
Gas (mcf) 542,774 1,459,897 633,432
Gas equivalents (mcfe) 558,422 1,482,117 651,282
Average sales prices:
Oil (per barrel) $ 27.43 $ 29.78 $ 23.18
Gas (per mcf) $ 4.48 $ 3.79 $ 2.59
Selected data per mcfe:
Average sales price $ 4.25 $ 3.59 $ 2.48
Production costs $ 0.75 $ 0.26 $ 0.20
Oil and gas depreciation, depletion and
amortization excluding impairments $ 1.84 $ 2.04 $ 1.84
For the year ended December 31, 2001 Gryphon had production of 824,458 mcfe.
Acreage and Wells
The following table sets forth certain information with respect to the
Company's developed and undeveloped leased acreage as of December 31, 2001.
Developed Acres Undeveloped Acres (1)
---------------- ---------------------
Gross Net Gross Net
----- --- ------ -----
Louisiana 1,333 499 10,157 9,563
Texas -- -- 1,440 209
----- --- ------ -----
Total 1,333 499 11,597 9,772
===== === ====== =====
(1) The Company has no leases which expire in 2002.
At December 31, 2001, the Company had working interests in 2 gross
(0.75 net) producing gas wells.
At December 31, 2001, Gryphon held interests in leases covering 7,188
gross (3,407 net) developed acres in 103,979 gross (52,901 net) undeveloped
acres. Gryphon has interests in 3 gross (0.95 net) producing wells at December
31, 2001.
Drilling Activities
All of Cheniere's drilling activities are conducted through
arrangements with independent contractors. Cheniere owns no drilling equipment.
During the years ended December 31, 2001 and 2000, the Company did not drill any
wells. Certain information with regards to the Company's drilling activities for
the year ended
8
December 31, 1999 is set forth below:
Year Ended
December 31, 1999
------------------
Net
Working
Gross Interest
----- --------
Development wells -- --
--- ---
Exploratory wells:
Oil -- --
Gas 2.0 0.8
Nonproductive 4.0 2.5
--- ---
Total 6.0 3.3
--- ---
Total wells 6.0 3.3
=== ===
All of the Company's wells are located in the United States. In 1999,
the Company completed two wells. In 2000, the Company commenced drilling a well
on its Shark Prospect, but prior to completion the Company assigned its interest
in the Shark well to Gryphon, its unconsolidated affiliate in connection with
the Gryphon Transaction in October 2000. In 2001, the Company did not
participate in the drilling of any wells.
During 2001, Gryphon drilled 9 gross (3.1 net) wells of which 4 gross
(1.6 net) wells were successful.
Oil and Gas Reserves
All information herein regarding estimates of Cheniere's proved
reserves, related future net revenues and PV-10 is taken from reports generated
by Ryder Scott Company, the Company's independent petroleum engineers, in
accordance with the rules and regulations of the SEC. The independent engineers'
estimates were based upon a review of production histories and other geologic,
economic, ownership and engineering data provided by the Company.
December 31, 2001
Proved Reserves
-----------------------------------------------
Oil Gas
(Bbls) (Mcf) Mcfe PV-10 (1)
------- ---------- ---------- -----------
Cheniere Reserves
West Cameron Block 49 15,088 3,245,000 3,335,528 $ 2,922,901
------- ---------- ---------- -----------
Proved Reserves 15,088 3,245,000 3,335,528 $ 2,922,901
======= ========== ========== ===========
Proved Developed Reserves 15,088 3,245,000 3,335,528 $ 2,922,901
======= ========== ========== ===========
Equity Interest in Reserves of Unconsolidated Affiliate (2)
Proved Reserves 210,151 17,468,000 18,728,906 $32,568,000
======= ========== ========== ===========
Proved Developed Reserves 192,569 13,022,000 14,177,414 $27,033,000
======= ========== ========== ===========
(1) The PV-10 amount (present value of estimated pre-tax future net revenues
discounted at 10%) is calculated using year-end prices of $19.00 per barrel
of oil and $2.61 per Mcf of gas.
(2) Includes Cheniere's proportional share, based on its 100% common stock
ownership, of the proved reserves, proved developed reserves and PV-10
value of Gryphon. Such proportional share of Gryphon reserves and PV-10
value is based upon Cheniere's ownership of 100% of Gryphon's common stock
and will be reduced to 20.2% upon the conversion of Gryphon's preferred
shares outstanding at December 31, 2001. Upon such conversion Cheniere's
equity interest in Gryphon's proved reserves and PV-10 value would be
reduced to 3,783,239 Mcfe and $6,578,736, respectively. See General
Development of Business.
There are numerous uncertainties inherent in estimating quantities of
proved reserves and in projecting
9
future rates of production and future amounts and timing of development
expenditures, including many factors beyond the control of the Company. Reserve
engineering is a subjective process of estimating underground accumulations of
crude oil and natural gas that cannot be measured in an exact manner, and the
accuracy of any reserve estimate is a function of the quality of available data
and of engineering and geological interpretation and judgment. Estimates of
proved undeveloped reserves are inherently less certain than estimates of proved
developed reserves. The quantities of oil and gas that are ultimately recovered,
production and operating costs, the amount and timing of future development
expenditures, geologic success and future oil and gas sales prices may all
differ from those assumed in these estimates. In addition, the Company's
reserves may be subject to downward or upward revision based upon production
history, purchases or sales of properties, results of future development,
prevailing oil and gas prices and other factors. Therefore, the present value
shown above should not be construed as the current market value of the estimated
oil and gas reserves attributable to the Company's properties.
In accordance with SEC guidelines, the independent engineers'
estimates of future net revenues from the Company's proved reserves and the
present value thereof are made using oil and gas sales prices in effect as of
the dates of such estimates and are held constant throughout the life of the
properties except where such guidelines permit alternate treatment, including,
in the case of gas contracts, the use of fixed and determinable contractual
price escalations. The Company may receive amounts different than the
independent engineers' estimates for a number of reasons, including changes in
prices. See Supplemental Information to Consolidated Financial Statements.
Estimates of the Company's proved oil and gas reserves were not filed with or
included in reports to any other federal authority or agency other than the SEC
during the fiscal year ended December 31, 2001.
Competition and Markets
Competition in the industry is intense, particularly with respect to
the acquisition of producing properties and proved undeveloped acreage. The
Company competes with the major oil companies and other independent producers of
varying sizes, all of which are engaged in the exploration, development and
acquisition of producing and non-producing properties. Many of the Company's
competitors have financial resources and exploration and development budgets
that are substantially greater than those of the Company, which may adversely
affect the Company's ability to compete.
Although the LNG receiving business is in its developmental stages,
several companies are exploring the possibility of engaging or developing an LNG
business. Many of these companies have financial resources and exploration and
development budgets that are substantially greater than those of the Company,
which may adversely affect the Company's ability to compete.
The Company anticipates selling a portion of its interest in certain
prospects as a means of funding its participation in the development of these
properties. The Company anticipates that competition will arise from other
companies seeking drilling funds from potential working interest partners. There
can be no assurance that the Company will be successful in securing funds in
this manner.
The availability of a ready market for and the price of any
hydrocarbons produced by the Company will depend on many factors beyond the
control of the Company, including the extent of domestic production and imports
of foreign oil, the marketing of competitive fuels, the proximity and capacity
of natural gas pipelines, the availability of transportation and other market
facilities, the demand for hydrocarbons, the political conditions in
international oil-producing regions, the effect of federal and state regulation
of allowable rates of production, taxation, the conduct of drilling operations,
and federal regulation of natural gas. In the past, as a result of excess
deliverability of natural gas, many pipeline companies curtailed the amount of
natural gas taken from producing wells, shut in some producing wells,
significantly reduced gas taken under existing contracts, refused to make
payments under applicable take-or-pay provisions, and have not contracted for
gas available from some newly completed wells. The Company can give no assurance
that such conditions will not arise again.
In addition, the restructuring of the natural gas pipeline industry
has eliminated the gas purchasing activity of traditional interstate gas
transmission pipeline buyers. Producers of natural gas, therefore, have been
required to develop new markets among gas marketing companies, end-users of
natural gas, and local distribution companies. All of these factors, together
with economic factors in the marketing area, generally may affect the supply
and/or demand for oil and gas and thus the prices available for sales of oil and
gas.
In addition, in the event the Company completes the LNG receiving
facility, the profitability of its
10
operations and the price of its gas will be dependent on the availability of
liquefied natural gas, the volume and price of domestic production of natural
gas, the marketing of competitive fuels, the proximity and capacity of natural
gas pipelines, the availability of transportation and other market facilities,
the demand for hydrocarbons, the political conditions in international
oil-producing regions, taxation and the domestic demand for natural gas.
Government Regulation
The Company's oil and gas exploration, production and related
operations are, and its LNG receiving facility will be, subject to federal and
state statutes and extensive rules and regulations promulgated by federal and
state agencies. Failure to comply with such laws can result in substantial
penalties. The regulatory burden on the oil and gas industry increases the
Company's cost of doing business and affects its profitability. Because such
laws are frequently amended or reinterpreted, the Company is unable to predict
the future cost or impact of complying with them.
Cheniere's construction and operation of the proposed LNG receiving
terminal will be subject to extensive federal, state and local laws and
regulations, including laws and regulations relating to safety, as well as laws
and regulations governing environmental protection and pollution control. These
laws and regulations will require the acquisition of certain permits or other
authorizations before construction and operation of the terminal may occur. For
example, in order to site, construct and operate the proposed receiving
terminal, Cheniere will be required to apply for and receive authorization from
the FERC under Section 3 of the Natural Gas Act of 1938 (NGA). While Cheniere
believes that the likelihood is great that it will be able to obtain all permits
and approvals necessary for the construction and operation of the proposed
facilities, including NGA Section 3 authorization from FERC, Cheniere cannot
guarantee that it will be able to do so. Nor can Cheniere guarantee that the
authorizations and permits will not include unfavorable terms or conditions. The
permits and authorizations required for various operations and activities are,
in many instances, subject to revocation, modification and renewal by the
issuing authorities.
While these compliance activities increase the cost of planning,
installing and operating facilities, Cheniere does not expect environmental and
other regulatory compliance matters to have a material adverse effect on its
financial position or results of operations. However, because such laws and
regulations are frequently changed and may impose increasingly stricter
requirements, Cheniere is unable to predict the ultimate cost of complying with
such laws and regulations.
Production
In most, if not all, areas in which the Company conducts activities,
statutes concerning the production of oil and natural gas authorize
administrative agencies to adopt rules which, among other matters, (i) regulate
the operation of, and production from, both oil and gas wells, (ii) determine
the reasonable market demand for oil and gas, and (iii) establish allowable
rates of production. Such regulation may restrict the rate at which the
Company's wells may produce oil or gas, with the result that the amount or
timing of the Company's revenues could be adversely affected.
MMS Regulation
The Company may conduct certain activities on federal oil and gas
leases which the Minerals Management Service (MMS) administers. The MMS grants
leases through competitive bidding. These leases contain relatively standardized
terms and require compliance with detailed MMS regulations and orders pursuant
to The Outer Continental Shelf Lands Act (OCSLA) (which regulations and orders
are subject to change by the MMS). For offshore operations, lessees must obtain
MMS approval for exploration plans and development and production plans prior to
the commencement of such operations. In addition to permits which may be
required from other agencies (such as the Coast Guard, the Army Corps of
Engineers and the Environmental Protection Agency), lessees must obtain a permit
from the MMS prior to the commencement of drilling. The MMS has adopted
regulations requiring offshore production facilities located on the Outer
Continental Shelf (OCS) to meet stringent engineering and construction
specifications. The MMS also has regulations restricting the flaring or venting
of natural gas, and has amended such regulations to prohibit the flaring of
liquid hydrocarbons and oil without prior authorization except under certain
limited circumstances. Also, the MMS has promulgated other regulations governing
the plugging and abandonment of wells located offshore and the removal of all
production facilities. To cover the various obligations of lessees on the OCS,
the MMS generally requires that lessees post substantial bonds or other
acceptable assurances
11
that such obligations will be met. The cost of such bonds or other surety can be
substantial and there is no assurance that the Company will be able to obtain
such bonds or other surety in all cases.
In March 2000, the MMS amended its regulations governing the
calculation of royalties and the valuation of crude oil produced from federal
leases. This rule modifies the valuation procedures for both arm's length and
non-arm's length crude oil transactions to decrease reliance on oil posted
prices and assign a value to crude oil that better reflects its market value.
The Company cannot predict how it will be affected by this regulation.
In April 1997, after two years of study, the MMS withdrew proposed
changes to the way it values natural gas for royalty payments and requested
comment on two alternative options for natural gas valuation. The changes as
originally proposed would have established an alternative market-based method to
calculate royalties on certain natural gas sold to affiliates or pursuant to
non-arm's length sales contracts. Informal discussions among the MMS and
industry officials are continuing, although it is uncertain whether, and what,
changes may be proposed regarding gas royalty valuation.
Bonding and Financial Responsibility Requirements
The Company is required to obtain bonding, or otherwise demonstrate
financial responsibility at varying levels, by governmental agencies in
connection with obtaining state or federal leases or acting as an owner or
operator on such leases or of exploration and production related facilities.
These bonds may cover such obligations as plugging and abandonment of
unproductive wells, removal and closure of related exploration, production
facilities and pollution liabilities. The costs of such bonding and financial
responsibility requirements can be substantial, and there can be no assurance
that the Company will be able to obtain such bonds and/or otherwise demonstrate
financial responsibility in all cases.
Natural Gas Marketing and Transportation
The FERC regulates the transportation and sale for resale of natural
gas in interstate commerce pursuant to the NGA and the Natural Gas Policy Act of
1978 (the NGPA). In the past, the federal government has regulated the prices at
which natural gas could be sold. Deregulation of wellhead sales of natural gas
began with the enactment of the NGPA in 1978. In 1989, Congress enacted the
Natural Gas Wellhead Decontrol Act (the Decontrol Act) which removed all NGA and
NGPA price and non-price controls affecting wellhead sales of natural gas
effective January 1, 1993. While sales by producers of natural gas can currently
be made at uncontrolled market prices, Congress could reenact price controls in
the future.
Commencing in April 1992, the FERC issued its Order No. 636 and
related clarifying orders (Order No. 636), which, among other things,
restructured the interstate natural gas industry and required interstate
pipelines to provide transportation services separate, or unbundled, from the
pipelines' sales of natural gas. Order No. 636 and certain related proceedings
have been the subject of a number of judicial appeals and orders on remand by
the FERC. Order No. 636 has largely been upheld on appeal. The Company cannot
predict when these remaining appeals will be completed or their impact on the
Company. The FERC continues to address Order 636-related issues (including
capacity brokering, alternative and negotiated ratemaking and transportation
policy matters) in a number of pending proceedings. It is unclear what impact,
if any, increased competition within the natural gas industry under Order Nos.
636, et al., will have on the Company's activities. Although Order No. 636 could
provide the Company with additional market access and more fairly applied
transportation service rates, Order No. 636 could also subject the Company to
more restrictive pipeline imbalance tolerances and greater penalties for
violations of these tolerances.
The FERC has announced its intention to re-examine certain of its
transportation-related policies, including the appropriate manner in which
interstate pipelines release transportation capacity under Order No. 636, and
the use of market-based rates for interstate gas transmission. While any
resulting FERC action would affect the Company only indirectly, the FERC's
current rules and policy statements may have the effect of enhancing competition
in natural gas markets by, among other things, encouraging non-producer natural
gas marketers to engage in certain purchase and sale transactions. The Company
cannot predict what action the FERC will take on these matters, nor can it
accurately predict whether the FERC's actions will achieve the goal of
increasing competition in markets in which the Company's natural gas is sold.
However, the Company does not believe that it will be treated materially
differently than other natural gas producers and marketers with which it
competes.
12
OCSLA requires that all pipelines operating on or across the OCS
provide open-access, non-discriminatory service. Although the FERC has opted not
to impose the regulations of Order No. 509, in which the FERC implemented OCSLA,
on gatherers and other non-jurisdictional entities, the FERC has retained the
authority to exercise jurisdiction over those entities, if necessary, to permit
non-discriminatory access to service on OCS. In this regard, the FERC issued a
Statement of Policy (Policy Statement) regarding the application of its
jurisdiction under the NGA and OCSLA over natural gas facilities and service on
OCS. In the Policy Statement, the FERC concluded that facilities located in
water depths of 200 meters or more shall be presumed to have a primary purpose
of gathering up to the point of interconnection with the interstate pipeline
grid. The FERC has determined that gathering facilities are outside of its
jurisdiction, and thus it will no longer regulate the rates and services of such
OCS facilities under the NGA. While it is not possible to determine what the
actual impact of this new policy will be, it is possible that the Company could
experience an increase in transportation costs associated with its OCS natural
gas production and possibly reduced access to OCS transmission capacity.
The FERC has also issued numerous orders approving the sale and
abandonment of natural gas gathering facilities previously owned by interstate
pipelines and has acknowledged that if the FERC does not have jurisdiction over
services provided thereon, then such facilities and services may be subject to
regulation by state authorities in accordance with state law. A number of states
have either enacted new laws or are considering the inadequacy of existing laws
affecting gathering rates and/or services. In addition, the FERC's approval of
transfers of previously regulated gathering systems to independent or
pipeline-affiliated gathering companies that are not subject to FERC regulation
may affect both the costs and the nature of gathering services that will be
available to interested producers or shippers in the future. The effects, if
any, of state and federal gathering policies on the Company's operations are
uncertain.
Oil Sales and Transportation Rates
Sales of crude oil, condensate, and gas liquids by the Company are not
currently regulated under federal or state law and are made at market prices.
The FERC regulates the transportation of oil in interstate commerce pursuant to
the Interstate Commerce Act. However, the price a Company receives from the sale
of these products is affected by the cost of transporting the products to
market. Effective as of January 1, 1995, the FERC implemented regulations
establishing an indexing system for transportation rates for oil pipelines,
which would generally index such rates to inflation, subject to certain
conditions and limitations. Over time, these regulations could increase the cost
of transporting crude oil, liquids, and condensate by pipeline. The Company is
not able to predict with certainty what effect, if any, these regulations will
have on it; but other factors being equal, these regulations may tend to
increase transportation costs or reduce wellhead prices for such commodities.
Operating Hazards and Environmental Matters
The oil and gas business involves a variety of operating risks,
including the risk of fire, explosions, blow-outs, pipe failure, casing
collapse, abnormally pressured formations and environmental hazards such as oil
spills, natural gas leaks, ruptures and discharge of toxic gases, the occurrence
of any of which could result in substantial losses to the Company due to injury
or loss of life, severe damage to or destruction of property, natural resources
and equipment, pollution or other environmental damage, clean-up
responsibilities, regulatory investigation and penalties and suspension of
operations. Such hazards may hinder or delay drilling, development and on-line
production operations.
Extensive federal, state and local laws and regulations applicable to
oil and gas operations regulate the discharge of substances into the environment
or otherwise relate to the protection of the environment. These laws and
regulations may require the acquisition of a permit before drilling commences,
restrict or prohibit the types, quantities and concentration of substances that
can be released into the environment or wastes that can be disposed of in
connection with drilling and production activities, prohibit drilling activities
on certain lands lying within wetlands or other protected areas and impose
substantial liabilities for pollution or releases of hazardous substances
resulting from drilling and production operations. Failure to comply with these
laws and regulations may also result in civil and criminal fines and penalties.
Moreover, state and federal environmental laws and regulations may become more
stringent.
The Comprehensive Environmental Response, Compensation and Liability
Act (CERCLA), also known as the Superfund law, imposes liability, without regard
to fault or the original conduct, on certain classes of persons who are
considered to be responsible for the release of a hazardous substance into the
environment. These persons
13
include the owner or operator of the disposal site or sites where the release
occurred and companies that disposed or arranged for the disposal of the
hazardous substances. Under CERCLA, such persons may be subject to joint and
several liability for the costs of cleaning up the hazardous substances that
have been released into the environment, for damages to natural resources and
for the costs of certain health studies, and it is not uncommon for neighboring
landowners and other third parties to file claims for personal injury and
property damage allegedly caused by the release of hazardous substances.
The Company's operations may be subject to the Clean Air Act (CAA) and
comparable state and local requirements. Amendments to the CAA were adopted in
1990 and contain provisions that may result in the gradual imposition of certain
pollution control requirements with respect to air emissions from the operations
of the Company. The EPA and states have been developing regulations to implement
these requirements. The Company may be required to incur certain capital
expenditures in the next several years for air pollution control equipment in
connection with maintaining or obtaining permits and approvals addressing other
air emission-related issues. The Company does not believe, however, that its
operations will be materially adversely affected by any such requirements.
In addition, the U.S. Oil Pollution Act (OPA) requires owners and
operators of facilities that could be the source of an oil spill into waters of
the United States (a term defined to include rivers, creeks, wetlands and
coastal waters) to adopt and implement plans and procedures to prevent any spill
of oil into any waters of the United States. OPA also requires affected facility
owners and operators to demonstrate that they have at least $35 million in
financial resources to pay for the costs of cleaning up an oil spill and
compensating any parties damaged by an oil spill. Such financial assurances may
be increased to as much as $150 million if a formal assessment indicates such an
increase is warranted.
Operations of the Company are also subject to the federal Clean Water
Act (CWA) and analogous state laws. In accordance with the CWA, the state of
Louisiana has issued regulations prohibiting discharges of produced water in
state coastal waters, effective July 1, 1997. Producers may be required to incur
certain capital expenditures in the next several years in order to comply with
the prohibition against the discharge of produced waters into Louisiana coastal
waters or increase operating expenses in connection with offshore operations in
Louisiana coastal waters. Pursuant to other requirements of the CWA, the EPA has
adopted regulations concerning discharges of storm water runoff. This program
requires covered facilities to obtain individual permits, participate in a group
permit or seek coverage under an EPA general permit.
In addition, the disposal of wastes containing naturally occurring
radioactive material, which are commonly generated during oil and gas
production, is regulated under state law. Typically, wastes containing naturally
occurring radioactive material can be managed on site or disposed of at
facilities licensed to receive such waste at costs that are not expected to be
material.
Operational Risks and Insurance
The Company anticipates that any wells established by it will be
drilled by proven industry contractors. Based on financial considerations, the
Company may choose to utilize turnkey drilling contracts that limit its
financial and legal exposure. Under a turnkey drilling contract, a negotiated
price is agreed upon and the money is placed in escrow. The drilling contractor
then assumes all of the risk and expense, including any cost overruns, of
drilling a well to contract depth and completing any agreed upon evaluation of
the wellbore. Upon performance of all these items, the escrowed money is
released to the contractor. Circumstances may arise where the Company is unable
to secure a turnkey contract on satisfactory terms. In this case, the Company
may decide to drill, or cause to be drilled, the applicable test well(s) on
either a footage or day-rate basis. Under a footage drilling contract, the
operator pays to the drilling contractor an agreed sum per foot drilled. Under a
day-rate drilling contract, the operator pays an agreed sum for each day of
drilling required to reach contract depth. All risk and expense, including cost
overruns, of drilling a well to total depth lies with the operator in both
footage and day-rate contracts. The drilling of such test wells will be subject
to the usual drilling hazards such as cratering, explosions, uncontrollable
flows of oil, gas or well fluids, fires, pollution and other environmental
risks. The Company's activities are also subject to perils specific to marine
operations, such as capsizing, collision and damage or loss from severe weather.
These hazards can cause personal injury and loss of life, severe damage to and
destruction of property and equipment, pollution or environmental damage and
suspension of operations. In accordance with customary industry practices, the
Company intends to maintain insurance against some, but not all, of such risks
and
14
some, but not all, of such losses. The occurrence of a significant event not
fully insured or indemnified against could materially and adversely affect the
Company's financial condition and operations. Moreover, no assurance can be
given that the Company will be able to maintain adequate insurance in the future
at rates considered reasonable by the Company.
Employees
The Company had 12 full-time employees as of March 22, 2002.
Forward-Looking Statements and Risk Factors
This annual report contains certain statements that may be deemed
forward-looking statements within the meaning of Section 27A of the Securities
Act of 1933, as amended (Securities Act), and Section 21E of the United Stated
Securities Exchange Act of 1934, as amended (Exchange Act). Readers of this
annual report are cautioned that such forward-looking statements are not
guarantees of future performance and that actual results, developments and
business decisions may differ from those envisaged by such forward-looking
statements.
All statements, other than statements of historical facts, so included
in this annual report that address activities, events or developments that the
Company intends, expects, projects, believes or anticipates will or may occur in
the future, including, without limitation: statements regarding the Company's
business strategy, plans and objectives and statements expressing beliefs and
expectations regarding the ability of the Company to successfully raise the
additional capital necessary to meet its obligations, the ability of the Company
to secure the leases necessary to facilitate anticipated drilling activities and
the ability of the Company to attract additional working interest owners to
participate in the exploration and development of oil and gas reserves, are
forward-looking statements within the meaning of the Act. These forward-looking
statements are and will be based on management's then-current views and
assumptions regarding future events.
The following are some of the important factors that could affect the
Company's financial performance or could cause actual results to differ
materially from estimates contained in the Company's forward-looking statements.
The important factors are not exclusive.
The Company is a development stage company, and it is subject to the expenses,
difficulties and uncertainties generally associated with early stage companies.
Cheniere has a limited operating history with respect to its oil and
gas exploration activities, which were commenced in April 1996, and the Company
has not yet started operating any LNG receiving facilities. As a development
stage company, Cheniere faces all of the risks inherent in the establishment and
growth of any new business. From the Company's inception until the quarter ended
June 30, 2000 and subsequently, Cheniere has incurred losses and may continue to
incur losses, depending on whether it generates sufficient revenue either from
producing reserves acquired through acquisitions or drilling activities or from
the eventual commencement of LNG receiving operations. Cheniere may be unable to
implement and complete its business plan, and the Company's business may be
ultimately unsuccessful. These factors make evaluating Cheniere's business and
forecasting its future operating results difficult. Furthermore, any continued
losses and any delays in the implementation or completion of the Company's
business plan may have a material adverse effect on Cheniere's business, its
results of operations, its financial condition and the market price of its
common stock.
The Company's future growth and profitability are highly dependent on the
success of its exploration program and the development of its LNG receiving
terminal business.
The primary focus of Cheniere's operations has been identifying
drilling prospects, but Cheniere is also currently focusing on developing its
LNG receiving facilities. Almost all of the Company's assets are represented by
investments to date in its exploration program, including the seismic data
related thereto. Through its drilling in 1999 and 2000, Cheniere has established
only limited proved reserves (oil and gas reserves that geological and
engineering data demonstrate with reasonable certainty to be recoverable in
future years from known reservoirs under existing economic and operating
conditions). Furthermore, the Company has achieved only limited oil and gas
production as of the date of this report. Cheniere's future growth and
profitability therefore depend heavily on the success of its exploration program
in locating additional proved reserves and achieving additional oil and gas
production or the development of its LNG receiving facilities. Failure to locate
such additional reserves and to
15
achieve additional production may have a material adverse effect on Cheniere's
business, results of operations and financial condition.
Failure to obtain approvals and permits from governmental and regulatory
agencies with respect to the Company's LNG project could have a detrimental
effect on the project and on the Company.
Cheniere is currently focusing on developing its LNG receiving
facilities. The transportation of LNG is highly regulated, and Cheniere has yet
to obtain several governmental and regulatory approvals and permits required in
order to complete and maintain its LNG project. Company management estimates
that it may take two to three years of work to obtain the approvals and permits
necessary to proceed with the construction and operation of an LNG receiving
terminal. The Company has no control over the outcome of the review and approval
process. If Cheniere is unable to obtain the approvals and permits, the Company
may not be able to recover its investment in the project. In addition, failure
to obtain these approvals and permits may have a material adverse effect on the
Company's business, results of operations and financial condition.
Failure of LNG to become a competitive factor in the U.S. oil and gas industry
could have a detrimental effect on the Company's ability to implement and
complete its business plan.
In the U.S., due mainly to an abundant supply of natural gas, LNG has
not historically been a major energy source. Furthermore, LNG may not become a
competitive factor in the U.S. oil and gas industry. The failure of LNG to
become a competitive supply alternative to domestic natural gas and other import
alternatives may have a material adverse effect on Cheniere's ability to
implement and complete its business plan as well as the Company's business,
results of operations and financial condition.
The Company may not be able to obtain additional financing on terms that are
acceptable to the Company, which could harm its ability to conduct business.
As of December 31, 2001, Cheniere had $1,344,159 of current assets and
a working capital deficit of $530,242. Because of its low level of current
assets, the Company may need additional capital for a number of purposes. If the
Company is unable to obtain additional financing, it could significantly harm
Cheniere's ability to conduct its business, including its ability to take
advantage of opportunities that come from its exploration program and its
ability to construct LNG terminals. Cheniere's needs for additional financing
include the following:
. Additional capital may be required to pay for Cheniere's share of
costs relating to the drilling of prospects and development of those
that are successful, to exercise lease options and to acquire
additional oil and gas leases. The total amount of the Company's
capital needs will be determined in part by the number of prospects
generated within its exploration program and by the working interest
that the Company retains in those prospects.
. The Company may need capital to fund its pro-rata share of the capital
calls by Gryphon that are approved by Gryphon's board of directors. If
the Company subscribes to its pro-rata portion of such capital calls
but fails to fund, it would lose its ability to subscribe to any
future capital calls and would suffer further dilution of its holdings
in Gryphon. In 2001, Gryphon made cash calls in the aggregate amount
of $30,000,000, which were funded entirely by Warburg, in May, July
and November 2001. Cheniere declined to participate in these cash
calls and its interest in Gryphon has been reduced from 36.8% to 20.2%
on an as-converted basis, as of December 31, 2001. Subsequent to the
period covered by this report, in March 2002, Cheniere sold 51,400
shares of its Gryphon common stock to Gryphon, subject to certain
repurchase options, thereby further reducing Cheniere's interest to
13.7% on an as-converted basis. Also in March 2002, Gryphon made a
cash call for $5,000,000 and Cheniere declined to participate. If
Warburg funds the full amount of the cash call in April 2002, as it is
entitled to do, Cheniere's effective interest will be reduced to
12.7%. It is anticipated that Gryphon will make cash calls for
additional funds. The Company's share of such future capital calls
could total up to approximately $5,000,000. If the Company elects not
to fund its pro-rata portion of such capital calls, and Warburg funds
its portion, as they would be entitled to do, and as they have since
the formation of Gryphon, the Company's ownership percentage of
Gryphon's common stock on an as-converted basis will be further
reduced (to as low as 8%) if it chooses not to participate in such
additional cash calls or to exercise its option to repurchase all or a
portion of the 51,400 shares it sold to Gryphon in March 2002. See
Liquidity and Capital Resources - Exploration Funding under Item 7 of
this report.
16
. The Company will need substantial additional funds to execute its plan
for developing and implementing an LNG receiving terminal business,
including engineering, environmental, marine, regulatory, construction
and legal work, including any such work involved in permitting and
FERC filings. Such costs are estimated to be approximately $8,000,000
for the two-year period ending December 31, 2003, and include
semi-annual rental payments totaling approximately $500,000 per year
to renew lease and purchase options on potential sites for LNG
receiving terminals.
Additional capital could be obtained from a combination of funding
sources, many of which may have a material adverse effect on the Company's
business, results of operations and financial condition. These potential funding
sources include:
. cash flow from operating activities, which is sensitive to prices the
Company receives for its oil and natural gas,
. borrowings from financial institutions, which may subject the Company
to certain restrictive covenants, including covenants restricting the
Company's ability to raise additional capital or pay dividends,
. debt offerings, which would increase the Company's leverage and add to
its need for cash to service such debt,
. additional offerings of the Company's equity securities, which would
cause dilution of its common stock,
. sales of portions of its working interest in the prospects within its
exploration program, which would reduce future revenues from its
exploration program,
. sale to an industry partner of a participation in the Company's
exploration program, which would reduce future revenues from its
exploration program,
. sale of all or a portion of the Company's producing oil and gas
properties, which would reduce future revenues (see Note 16 in Notes
to the Consolidated Financial Statements concerning March 2002
agreement to sell the Company's producing oil and gas properties),
. sale of an interest in the Company's LNG project and
. arrangement of a business development loan from, or prepayment of
terminal use fees by, prospective sellers or purchasers of LNG.
Cheniere's ability to raise additional capital will depend on the
results of its operations and the status of various capital and industry markets
at the time such additional capital is sought. Accordingly, capital may not
become available to the Company from any particular source or at all. Even if
additional capital becomes available, it may not be on terms acceptable to the
Company. Failure to obtain additional financing on acceptable terms may have a
material adverse effect on the Company's business, results of operations and
financial condition.
Because of the Company's lack of diversification, factors harming the oil and
gas industry in general, including downturns in prices for oil and gas, would be
especially harmful to it.
The Company is an independent energy company and is not actively
engaged in any other industry. Cheniere's revenues and profits are substantially
dependent on the oil and gas industry in general and the prevailing prices for
oil and gas in particular. Circumstances that harm the oil and gas industry in
general will have an especially harmful effect on Cheniere. Oil and gas prices
have been and are likely to continue to be volatile and subject to wide
fluctuations in response to any of the following factors:
. relatively minor changes in the supply of and demand for oil and gas,
. political conditions in international oil producing regions,
. the extent of domestic production and importation of oil in relevant
markets,
17
. the level of consumer demand,
. weather conditions,
. the competitive position of oil or gas as a source of energy as
compared with other energy sources,
. the refining capacity of oil purchasers and
. the effect of federal and state regulation on the production,
transportation and sale of oil and gas.
It is likely that adverse changes in the oil market or the regulatory
environment would have an adverse effect on the Company's business results of
operations and financial condition, including its ability to develop and
implement its LNG project and to obtain capital from lending institutions,
industry participants, private or public investors or other sources.
The Company experiences intense competition in the oil and gas industry, which
may make it difficult for the Company to succeed.
The oil and gas industry is highly competitive. If Cheniere is unable
to compete effectively, it will not succeed. A number of factors may give the
Company's competitors advantages over Cheniere. For example, most of the
Company's current and potential competitors have significantly greater financial
resources and a significantly greater number of experienced and trained
managerial and technical personnel than the Company does. In addition, the
businesses of such competitors are in many cases more diversified than that of
Cheniere. Cheniere may not be able to compete effectively with such companies.
Moreover, the oil and gas industry competes with other industries in supplying
the energy and fuel needs of industrial, commercial and other consumers.
Increased competition causing over-supply and depressed prices could have a
substantially negative impact on Cheniere's operating revenues.
Fluctuation in energy prices or supply of liquefied natural gas could adversely
affect our LNG receiving terminals business.
If LNG prices are higher than prices of domestically produced natural
gas or natural gas derived from other sources, our ability to compete with such
suppliers may be negatively impacted. In addition, in the event the supply of
LNG is limited or restricted for any reason, our ability to profitably operate
an LNG receiving facility could be materially impacted. Revenues generated by an
LNG receiving terminal depend on the volume of LNG processed and the price of
the natural gas produced, both of which can be affected by the price of natural
gas and natural gas liquids.
The Company is subject to significant operating hazards and uninsured risks, one
or more of which may create significant liabilities for it.
The Company's oil and gas operations are subject to all of the risks
and hazards typically associated with the exploration for and the development
and production of oil and gas. In accordance with customary industry practices,
the Company intends to maintain insurance against some, but not all, of these
risks and losses. Moreover, the Company may not be able to maintain adequate
insurance in the future at rates it considers reasonable. The occurrence of a
significant event not fully insured or indemnified against could seriously harm
the Company's business, results of operations and financial condition.
Risks in drilling operations include cratering, explosions,
uncontrollable flows of oil, gas or well fluids, fires, pollution and other
environmental risks. The Company's activities are also subject to perils
specific to marine operations, such as capsizing, collision and damage or loss
from severe weather. These hazards can cause personal injury and loss of life,
severe damage to and destruction of property and equipment, pollution or
environmental damage and suspension of operations.
In the event the Company completes the LNG receiving terminal, the
operations of such facility will be subject to the inherent risks normally
associated with those operations, including explosions, pollution, release of
toxic substances, fires, hurricanes and adverse weather conditions and other
hazards, each of which could result in
18
damage to or destruction of the Company's facilities or damages to persons and
property. In addition, the Company's operations face possible risks associated
with acts of aggression on our assets. If any of these events were to occur, the
Company could suffer substantial losses. The Company will maintain insurance
against these types of risks to the extent and in the amounts that it believes
are reasonable. Its financial condition and operations could be adversely
affected if a significant event occurs that is not fully covered by insurance.
The Company is subject to significant exploration risks, including the risk that
it may not be able to find or produce enough oil and gas to generate any
profits.
The Company's exploration activities involve significant risks,
including the risk that it may not be able to find or produce enough oil and gas
to generate any profits. The wells drilled by the Company may not discover any
oil or gas. Further, there is no way to know in advance of drilling and testing
whether any prospect will yield oil or gas in sufficient quantities to make
money for the Company. In addition, the Company is highly dependent on seismic
activity and the related application of new technology as a primary exploration
methodology. This methodology, however, requires greater pre-drilling
expenditures than traditional drilling strategies. Even when fully used and
properly interpreted, 3D seismic data can only assist the Company in identifying
subsurface reservoirs and hydrocarbon indicators, and will not allow the Company
to determine conclusively if hydrocarbons will in fact be present and
recoverable. If the Company's exploration efforts are unsuccessful, its business
and financial condition will be substantially harmed.
The Company may not be able to acquire the oil and gas leases it needs to
sustain profitable operations.
In order to engage in oil and gas exploration in the areas covered by
its 3D seismic data, the Company must first acquire rights to conduct
exploration and recovery activities on such properties. Cheniere may not be
successful in acquiring farm-outs (agreements whereby the Company, as owner of
lease interests, grants to a third party the right to earn an assignment of an
interest in the lease, typically by drilling one or more wells), seismic
permits, lease options, leases or other rights to explore for or recover oil and
gas. Both the United States Department of the Interior and the States of Texas
and Louisiana award oil and gas leases on a competitive bidding basis.
Non-governmental owners of the onshore mineral interests within the area covered
by the Company's exploration program are not obligated to lease their mineral
rights to the Company except where the Company has already obtained lease
options. In addition, other major and independent oil and gas companies with
financial resources significantly greater than Cheniere's may bid against
Cheniere for the purchase of oil and gas leases. If the Company is unsuccessful
in acquiring these leases, permits, options and other interests, the area
covered by the Company's 3D seismic data that could be explored through drilling
will be significantly reduced, and Cheniere's business, results of operations
and financial condition will be substantially harmed.
If the Company is unable to obtain satisfactory turnkey contracts, it may have
to assume additional risks and expenses when drilling wells.
Cheniere anticipates that any wells drilled in which it has an
interest will be drilled by established industry contractors under turnkey
contracts that limit its financial and legal exposure. Under a turnkey drilling
contract, a negotiated price is agreed upon and the money placed in escrow. The
contractor then assumes all of the risk and expense, including any cost
overruns, of drilling a well to contract depth and completing any agreed upon
evaluation of the wellbore. Upon performance of all these items, the escrowed
money is released to the contractor.
Circumstances may arise, however, where a turnkey contract is not
economically beneficial to the Company or is otherwise unobtainable from proven
industry contractors. In such instances, the Company may decide to drill wells
on a day-rate basis. Under a day-rate drilling contract, the operator pays an
agreed sum for each day of drilling required to reach contract depth. All risk
and expense of drilling a well to total depths lies with the operator in
day-rate contracts. The drilling of such test wells would subject the Company to
the usual drilling hazards such as cratering, explosions, uncontrollable flows
of oil, gas or well fluids, fires, pollution and other environmental risks. The
Company would also be liable for any cost overruns attributable to drilling
problems that otherwise would have been covered by a turnkey contract. These
liabilities, if incurred, may have a materially adverse impact on Cheniere's
business and financial condition.
Existing and future United States governmental regulation, taxation and price
controls could seriously harm the Company.
19
Oil and gas production and exploration are subject to comprehensive
federal, state and local laws and regulations controlling the exploration for
and production and sale of oil and gas and the possible effects of such
activities on the environment. Failure to comply with such rules and regulations
can result in substantial penalties and may harm the Company. Present, as well
as future, legislation and regulations could cause additional expenditures,
restrictions and delays in the Company's business, the extent of which cannot be
predicted and which may require the Company to limit substantially, delay or
cease operations in some circumstances. In most areas where the Company plans to
conduct activities, there are statutory provisions regulating the production of
oil and natural gas which may restrict the rate of production and adversely
affect revenues. The Company plans to acquire oil and gas leases in the Gulf of
Mexico, which, if acquired, would be granted by the federal government and
administered by the U.S. Department of Interior Minerals Management Service. The
Department strictly regulates the exploration, development and production of oil
and gas reserves in the Gulf of Mexico. Such regulations could seriously harm
the Company's operations in the Gulf of Mexico. The federal government regulates
the interstate transportation of oil and natural gas, through the Federal Energy
Regulatory Commission (FERC). The FERC has in the past regulated the prices at
which oil and gas could be sold. Federal reenactment of price controls or
increased regulation of the transport of oil and natural gas could seriously
harm the Company.
The Company's operations are also subject to extensive federal, state
and local laws and regulations governing the discharge of oil and hazardous
materials into the environment or otherwise relating to environmental
protection. These laws and regulations may require the acquisition of a permit
before drilling commences, restrict or prohibit the types, quantities and
concentration of substances that can be released into the environment or wastes
that can be disposed of in connection with drilling and production activities,
prohibit drilling activities on certain lands lying within wetlands or other
protected areas and impose substantial liabilities for pollution or releases of
hazardous substances resulting from drilling and production operations. Failure
to comply with these laws and regulations may also result in civil and criminal
fines and penalties. Moreover, state and federal environmental laws and
regulations may become more stringent.
Federal laws and regulations such as the Comprehensive Environmental
Response, Compensation and Liability Act (CERCLA), the Clean Air Act (CAA), the
Oil Pollution Act of 1990 (OPA) and the Clean Water Act (CWA) and analogous
state laws have continually imposed increasingly strict requirements for water
and air pollution control, solid waste management and strict financial
responsibility and remedial response obligations relating to oil spill
protection. The cost of complying with such environmental legislation could have
a general harmful effect on the Company's operations.
There is only limited trading in the Company's common stock, which makes its
stock more difficult to sell than the stock of companies with more active
markets.
There is only limited trading in Cheniere's common stock, which makes
its stock more difficult for an investor to sell than the stock of companies
with more active markets. For the year 2001, the average daily trading volume of
Cheniere's common stock on The American Stock Exchange was approximately 19,000
shares.
The Company has not paid dividends and does not expect to do so in the
foreseeable future, so its stockholders will not be able to receive a return on
their investment without selling their shares.
The Company has not paid dividends since its inception and does not
expect to in the foreseeable future, so Cheniere's stockholders will not be able
to receive a return on their investments without selling their shares. The
Company presently anticipates that all earnings, if any, will be retained for
development of its business. Any future dividends will be subject to the
discretion of the Company's board of directors and will depend on, among other
things, future earnings, the Company's operating and financial condition, its
capital requirements and general business conditions.
The Company's stockholders could experience dilution in the value of their
shares because of additional issuances of shares.
Any issuance of common stock by the Company may result in a reduction
in the book value per share or market price per share of its outstanding shares
of common stock and will reduce the proportionate ownership and voting power of
such shares. The Company has 45,000,000 authorized shares of stock, consisting
of 40,000,000 shares of common stock and 5,000,000 shares of preferred stock. As
of December 31, 2001, approximately 67% of the shares of the common stock
remained unissued. The board of directors has the power to issue any and all of
such
20
shares without shareholder approval. It is likely that the Company will issue
shares of common stock, among other reasons, in order to raise capital to
sustain operations and/or to finance future oil and gas exploration projects. In
addition, the Company has reserved 2,850,288 shares of the common stock for
issuance upon the exercise of outstanding warrants and 1,500,000 shares of the
common stock for issuance upon the exercise of stock options. As of December 31,
2001, there were 1,741,111 issued and outstanding options to purchase common
stock, 241,111 of which are conditional upon subsequent approval by the
Company's stockholders of an amendment to the Company's option plan, increasing
the number of shares authorized for issuance under the plan from 1,500,000 to
2,000,000. To the extent that outstanding warrants and options are exercised,
the percentage ownership of common stock of the Company's stockholders will be
diluted. Moreover, the terms upon which the Company will be able to obtain
additional equity capital may be adversely affected because the holders of
outstanding warrants and options can be expected to exercise them at a time when
the Company would, in all likelihood, be able to obtain any needed capital on
terms more favorable than the exercise terms provided by such outstanding
securities. In the event of the exercise of a substantial number of warrants and
options, within a reasonably short period of time after the right to exercise
commences, the resulting increase in the amount of the Company's common stock in
the trading market could substantially adversely affect the market price of the
common stock or the Company's ability to raise money through the sale of equity
securities.
The Company depends on key personnel and could be seriously harmed if it lost
their services.
Cheniere depends on its executive officers for various activities. The
Company does not maintain key person life insurance policies on any of its
personnel. The loss of the services of any of these individuals could seriously
harm the Company. Although Cheniere has agreements relating to compensation and
benefits with certain of its executive officers, Cheniere does not have any
employment contracts or other agreements with key personnel binding them to
provide services for any particular term. In addition, the Company's future
success will depend in part on its ability to attract and retain additional
qualified personnel. Cheniere currently has 12 full-time employees.
The Company depends on industry partners and could be seriously harmed if they
do not perform satisfactorily, which is usually not within the Company's
control.
Because the Company has few employees and limited operating revenues,
it is and will continue to be largely dependent on industry partners for the
success of the Company's oil and gas exploration projects. Cheniere could be
seriously harmed if its industry partners do not perform satisfactorily on
projects that affect it. The Company often has and will continue to have no
control over factors that would influence the performance of its partners.
The Company is controlled by a small number of principal stockholders who may
exercise a proportionately larger influence on Cheniere than its stockholders
with smaller holdings.
Cheniere is controlled by a small number of principal stockholders who
may cause events to occur that are not in the interests of the Company's
stockholders with smaller holdings. BSR Investments, Ltd. (BSR) is an entity
controlled by the mother of Charif Souki, Cheniere's chairman. BSR owns
approximately 11% of the outstanding common stock. Accordingly, it is likely
that BSR will have significant influence on the election of Cheniere's directors
and on its management, operations and affairs, including the ability to prevent
or cause a change in control of the Company.
Anti-takeover provisions of the certificate of incorporation, bylaws and
Delaware law could adversely impact a potential acquisition by third parties
that may ultimately be in the financial interests of the Company's stockholders.
Cheniere's certificate of incorporation, bylaws and the Delaware
General Corporation Law contain provisions that may discourage unsolicited
takeover proposals. These provisions could have the effect of inhibiting
fluctuations in the market price of the Company's shares that could result from
actual or rumored takeover attempts, preventing changes in its management or
limiting the price that investors may be willing to pay for shares of common
stock. These provisions, among other things, authorize the board of directors to
designate the terms of and to issue new series of preferred stock, to limit the
personal liability of directors, to require the Company to indemnify directors
and officers to the fullest extent permitted by applicable law and to impose
restrictions on business combinations with some interested parties.
A significant portion of the value of the Company is derived from its ownership
interest in Gryphon, over which the Company exercises no day-to-day control.
21
Cheniere owns 100% of the outstanding common stock of Gryphon (13.7%
effective ownership after giving effect to the conversion of Gryphon's preferred
stock outstanding at December 31, 2001 and Cheniere's March 2002 sale of 51,400
shares of its Gryphon common stock to Gryphon) and a significant portion of the
Company's value is derived from this investment. Cheniere exercises significant
influence, primarily through board participation. Cheniere does not exercise
control over Gryphon and therefore does not have the ability to effect a change
of control of Gryphon. Accordingly, Gryphon's management team could make
business decisions without Cheniere's consent that could impair the value of
Cheniere's investment in Gryphon.
Item 3. Legal Proceedings
The Company has been and may in the future be involved as a party to
various legal proceedings, which are incidental to the ordinary course of
business. Management regularly analyzes current information and as necessary,
provides accruals for probable liabilities on the eventual disposition of these
matters. In the opinion of management and legal counsel, as of December 31,
2001, there were no threatened or pending legal matters that would have a
material impact on the Company's consolidated results of operations, financial
position or cash flows.
In February 2002, the Company received a copy of a lawsuit styled
Fairfield Industries Incorporated Fairfield vs. Cheniere Energy, Inc. and
Gryphon Exploration Company, which was filed in district court in Harris County,
Texas. The lawsuit related to a seismic license agreement between Fairfield
and Cheniere, which was later assigned to Gryphon. In the lawsuit, Fairfield
alleged that Cheniere and Gryphon conspired to defraud the plaintiff of certain
transfer payments, which may be owed by Cheniere in connection with the transfer
to Gryphon of the initial seismic contributed at the time of its formation. In
March 2002, Fairfield, Gryphon, and the Company settled this lawsuit. Existing
and contingent obligations to Fairfield by Cheniere totaling $2,500,000 have
been fully discharged through agreement by Gryphon to make current and
contingent payments in exchange for the transfer of 30,000 Gryphon common shares
from Cheniere to Gryphon.
Item 4. Submission of Matters to a Vote of Security Holders
None.
22
PART II
Item 5. Market Price of Dividends on the Registrant's Common Equity and Related
Stockholder Matters
Beginning on March 5, 2001, the common stock of the Company has traded
on The American Stock Exchange under the symbol CXY. Between December 14, 2000
and March 2, 2001, Cheniere's common stock traded on the OTC Bulletin Board
under the symbol CHEX. Between April 11, 1997 and December 13, 2000, the common
stock of the Company traded on The Nasdaq SmallCap Market under the symbol CHEX.
From the time the Company first traded publicly until April 11, 1997, the
Company's common stock traded on the OTC Bulletin Board. The table below
presents the high and low daily closing sales prices of the common stock, as
reported by the Nasdaq SmallCap Market, the OTC Bulletin Board and The American
Stock Exchange, for each quarter during 2000 and 2001, and for a portion of the
Company's current quarter, as reported by The American Stock Exchange.
High Low
----- -----
Three Months Ended
March 31, 2000 $4.57 $3.91
June 30, 2000 $4.00 $2.13
September 30, 2000 $3.30 $2.91
December 31, 2000 $2.27 $1.98
Three Months Ended
March 31, 2001 $3.38 $2.09
June 30, 2001 $2.88 $1.85
September 30, 2001 $2.19 $0.90
December 31, 2001 $1.25 $0.75
Three Months Ended
March 31, 2002 $1.50 $0.93
As of March 29, 2002, there were 13,297,393 shares of the Company's
common stock outstanding held by approximately 2,800 beneficial owners.
The Company has never paid a cash dividend on its common stock. The
Company currently intends to retain earnings to finance the growth and
development of its business and does not anticipate paying any cash dividends on
the common stock in the foreseeable future. Any future change in the Company's
dividend policy will be made at the discretion of the Company's board of
directors in light of the financial condition, capital requirements, earnings
and prospects of the Company, and any restrictions under any credit agreements,
as well as other factors the board of directors deems relevant.
Item 6. Selected Financial Data
Selected financial data set forth below are derived from the Company's
audited Consolidated Financial Statements for the periods indicated, except for
the data as of December 31, 1996 and for the four months ended December 31,
1996, which is derived from the Company's unaudited financial data. The
financial data should be read in conjunction with the Management's Discussion
and Analysis of Financial Condition and Results of Operations and the Company's
Consolidated Financial Statements and Notes thereto included elsewhere in this
report.
23
Year Ended
December 31,
---------------------------------------------------------
2001 2000 1999 1998
------------ ----------- ----------- -----------
Revenues $ 2,372,632 $ 5,320,432 $ 1,614,055 $ --
Production costs 420,242 388,637 128,859 --
Depreciation, depletion and amortization 1,243,828 3,371,383 1,361,644 39,171
Ceiling test write-down 5,126,248 -- -- --
General and administrative expenses 4,291,963 1,938,659 1,908,805 1,619,307
Loss from operations (8,709,649) (378,247) (1,785,253) (1,658,478)
Interest income (expense) 18,578 23,916 31,530 20,634
Equity in net loss of affiliate (2) (2,974,191) (426,649) -- --
Net loss (11,665,262) (780,980) (1,753,723) (1,637,844)
Net loss per share (basic and diluted)(3) (0.89) (0.07) (0.27) (0.41)
Cash dividends per share $ -- $ -- $ -- $ --
Weighted average shares outstanding (3) 13,035,256 10,732,678 6,449,104 4,003,864
Four Months Ended Period Ended
December 31, August 31,
------------------------ -------------------------
1997 1996 (1) 1997 1996
---------- ---------- ----------- ----------
Revenues $ -- $ -- $ -- $ --
Production costs -- -- -- --
Depreciation, depletion and amortization 2,936 2,695 8,268 3,603
Ceiling test write-down -- -- -- --
General and administrative expenses 444,087 189,635 1,705,193 100,211
Loss from operations (447,023) (192,330) (1,713,461) (103,814)
Interest income (expense) 58,662 (1,223) 36,993 (18,033)
Equity in net loss of affiliate (2) -- -- -- --
Net loss (388,361) (193,553) (1,676,468) (121,847)
Net loss per share (basic and diluted)(3) (0.11) (0.07) (0.55) (0.06)
Cash dividends per share $ -- $ -- $ -- $ --
Weighted average shares outstanding (3) 3,587,032 2,650,342 3,035,980 2,152,735
December 31,
--------------------------------------------------------------------------------
2001 2000 1999 1998 1997 1996 (1)
----------- ----------- ----------- ----------- ----------- ----------
Cash $ 610,718 $ 1,888,562 $ 1,175,950 $ 143,868 $ 787,523 $2,419,264
Oil and gas properties, proved, net 1,929,124 6,727,613 9,459,041 -- -- --
Oil and gas properties, unproved 16,236,962 18,253,731 20,648,923 20,000,425 16,534,054 6,000,000
Total assets 25,023,676 34,665,618 34,481,275 20,840,474 17,705,627 8,476,710
Long-term notes payable -- -- -- 2,025,020 2,025,000 --
Total liabilities 1,874,401 1,604,410 6,735,537 4,523,144 4,285,599 262,798
Total stockholders' equity 23,149,275 33,061,208 27,745,738 16,317,330 13,420,028 8,213,912
August 31,
------------------------
1997 1996
----------- ----------
Cash $ 234,764 $1,093,180
Oil and gas properties, proved, net -- --
Oil and gas properties, unproved 13,500,000 4,000,000
Total assets 13,841,712 5,145,310
Long-term notes payable -- --
Total liabilities 888,291 718,855
Total stockholders' equity 12,953,421 4,426,455
(1) On April 7,1998, the Company's board of directors approved a change in
fiscal year-end. The change in year-end resulted in a transition period
from September 1, 1997 to December 31, 1997.
(2) Represents the Company's equity in the net loss of Gryphon. See Note 7 to
the Company's Consolidated Financial Statements.
(3) Net loss per share and weighted average shares outstanding have been
restated to give effect to the one-for-four reverse stock split which was
effective in October 2000. See Note 2 to Consolidated Financial Statements.
Item 7. Management's Discussion and Analysis of Financial Condition and Results
of Operations
General
Cheniere is engaged in oil and gas exploration, development and
exploitation and in the development of an LNG receiving terminal business. The
Company has historically focused on evaluating and generating drilling prospects
using a regional and integrated approach with a large seismic database as a
platform. The Company is currently focusing, and expects to continue to focus,
its attention and resources on the development of its LNG receiving terminal
business. Cheniere's management expects that the Company's active interpretation
of 3D seismic data and generation of prospects will continue, though its
participation in the drilling of wells will be accomplished through farmout
arrangements and back-in interests, whereby the capital costs are borne by
industry partners.
Production and Product Prices
Information concerning the Company's production and average prices
received for the years ended December 31, 2001, 2000 and 1999 is presented in
the following table. Cheniere commenced its production of oil and gas on
September 9, 1999.
24
Year Ended December 31,
--------------------------------
2001 2000 1999
-------- ---------- --------
Production
Oil (Bbls) 2,608 3,703 2,975
Gas (Mcf) 542,774 1,459,897 633,432
Gas equivalents (Mcfe) 558,422 1,482,117 651,282
Average sales prices:
Oil (per Bbl) $ 27.43 $ 29.78 $ 23.18
Gas (per Mcf) $ 4.48 $ 3.79 $ 2.59
Results of Operations - Comparison of the Fiscal Years Ended December 31, 2001
and 2000
The Company's financial results for the year ended December 31, 2001
reflect a loss of $11,665,262, or $0.89 per share (basic and diluted), compared
to a loss of $780,980, or $0.07 per share (basic and diluted) in 2000. The major
factors contributing to the Company's loss in 2001 were: $5,126,248 in ceiling
test write-downs, general and administrative expenses of $4,291,963 and equity
in loss of unconsolidated affiliate of $2,974,911 (including accrued dividend
obligations totaling $3,058,191 for the year, payable by Gryphon, related to its
preferred stock).
Oil and gas revenues decreased to $2,372,632 in 2001 from $5,320,432
in 2000 as a result of decreased production volumes (558,422 Mcfe in 2001
compared with 1,482,117 Mcfe in 2000). The decline in production volumes
represents normal depletion of currently producing zones for the Company's two
producing wells at West Cameron Block 49. The effect of declining production was
partially offset by an increase in average gas prices to $4.48 per Mcf in 2001
compared to $3.79 per Mcf in the prior year. Production costs increased 8% to
$420,242 in 2001 from $388,637 in 2000.
Depreciation, depletion and amortization (DD&A) decreased to
$1,243,828 in 2001 from $3,371,383 in 2000 as a result of both a lower DD&A rate
per unit ($1.84 per Mcfe versus $2.04 per Mcfe) and the decline in the Company's
production volumes.
Gross general and administrative (G&A) expenses totaled $5,073,963 in
2001, compared to $4,366,207 in 2000. The most significant component of the
increase between years was in legal fees, which increased by $716,588 to
$912,514 in 2001 compared to $195,926 in 2000. The increased legal expenses in
2001 include approximately $545,000 related to the Company's development of an
LNG receiving terminal business and approximately $120,000 related to Cheniere's
buyout of its partner's interest in the proprietary Cameron 3D seismic data set.
Also affecting the net G&A expenses reported between the years were reduced
recoveries from management fees and reduced amounts capitalized as oil and gas
property costs. In 2000, Cheniere received management fees from an industry
partner in the amount of $1,684,193 of which $988,548 was recorded as a recovery
of G&A expenses. The exploration agreement under which these management fees
were received was assigned to Gryphon in October 2000. Cheniere received no
management fees in 2001. Cheniere capitalizes as oil and gas property costs that
portion of G&A expenses directly related to its exploration and development
activities. Cheniere capitalized $782,000 in 2001 compared to $1,439,000 in
2000, the change being a direct result of the decreased level of exploration
activity following the Gryphon Transaction in October 2000. G&A expenses, net of
recoveries and amounts capitalized, were $4,291,963 and $1,938,659 in 2001 and
2000, respectively.
Equity in net loss of unconsolidated affiliate for 2001 includes
Cheniere's equity share of Gryphon's losses of $2,974,191, calculated by
applying Cheniere's 100% common stock ownership interest to Gryphon's net income
of $84,000 and reducing such result for Gryphon's preferred dividend arrearages
of $3,058,191 for the year. Cheniere's equity share of Gryphon's losses for the
period from October 11, 2000 through December 31, 2000 was $426,649, calculated
by applying Cheniere's 100% common stock ownership interest to Gryphon's net
income of $19,003 and reducing such result for Gryphon's preferred dividend
arrearages of $445,652. At such time as Warburg converts its preferred shares to
common shares, Cheniere's equity share of Gryphon's earnings will be calculated
at 20.2% based on ownership interests outstanding at December 31, 2001.
Results of Operations - Comparison of the Fiscal Years Ended December 31, 2000
and 1999
25
The Company's financial results for the year ended December 31, 2000,
reflect a loss of $780,980 or $0.07 per share (basic and diluted), as compared
to a loss of $1,753,723, or $0.27 per share (basic and diluted), for the fiscal
year ended December 31, 1999.
Cheniere commenced production of oil and gas on September 9, 1999.
Accordingly, oil and gas revenues and related costs and expenses include a full
year of production in 2000, compared to approximately four months of production
in 1999. As a result, revenues totaled $5,320,432 for the year ended December
31, 2000, compared to $1,614,055 in 1999; production costs were $388,637 in 2000
compared to $128,859 in 1999; and DD&A increased to $3,371,383 in 2000 from
$1,361,644 in 1999.
Gross G&A expenses totaled $4,366,207 in 2000, compared to $2,868,805
in 1999. In mid-1999, Cheniere licensed 8,800 square miles of seismic data (the
Fairfield Database) and doubled the number of its employees, adding management
and exploration professionals to exploit its expanded database. In October 2000,
Cheniere transferred to Gryphon the Fairfield Database, other assets and
liabilities and substantially all of the management and technical team assembled
in mid-1999 to exploit the Fairfield Database. As a result, salaries, benefits
and consulting expenses increased to $2,735,337 for 2000, compared to $1,674,200
for 1999. In connection with the October 2000 Gryphon Transaction, Cheniere
issued its financial advisers warrants to purchase 125,000 shares of common
stock, valued at $165,000. Also in 2000, Cheniere received management fees
totaling $1,684,193, of which $988,548 was recorded as a recovery of G&A
expenses. The management fees were received from the Company's industry partner,
Samson, beginning in March 2000 and running through October 11, 2000, at which
time the related exploration agreement was assigned to Gryphon. G&A expenses,
net of recoveries, were $3,377,659 in 2000 compared with $2,868,805 in 1999.
Cheniere capitalizes as oil and gas property costs that portion of G&A expenses
directly related to its exploration and development activities. Cheniere
capitalized $1,439,000 in 2000 compared to $960,000 in 1999, the change being a
direct result of the increased level of exploration activity. G&A expenses, net
of recoveries and amounts capitalized, were $1,938,659 and $1,908,805 in 2000
and 1999, respectively.
Cheniere's equity share of Gryphon's losses for the period from
October 11, 2000 through December 31, 2000 was $426,649, calculated by applying
Cheniere's 100% common stock ownership interest to Gryphon's net income of
$19,003 and reducing such result for Gryphon's preferred dividend arrearages of
$445,652.
Liquidity and Capital Resources
Cash balances and cash flows from current operations will not be
adequate to meet the future liquidity requirements of the Company. In addition
to its operating expenses, the Company will need to finance approximately
$8,000,000 of costs and expenses in connection with the developing of its LNG
receiving terminal. As a result of this, there is some uncertainty about the
Company's ability to continue as a going concern. The Company expects that
future liquidity requirements will be met by one or more of the following: the
divestiture of producing oil and gas properties, sales of portions of its
working interest in the prospects within its exploration program, sale to an
industry partner of a participation in the Company's exploration program, sale
of Cameron Project 3D seismic data licenses, sale of a participation interest in
the Company's LNG project and/or additional offerings of the Company's equity
securities. Management expects to meet all of its liquidity requirements for the
next twelve months through such sources. In the event that the Company is unable
to obtain additional capital from one or more of these sources, its operations
could be adversely affected.
Cash Flow from Operating Activities
Cheniere commenced production of oil and gas in September 1999. Net
cash used in operations for the year ended December 31, 2001 totaled $2,212,277,
compared to net cash provided by operations of $5,203,406 in 2000 and $603,133
in 1999. During 2001, declines in daily production rates and in natural gas
prices resulted in a decline in monthly revenues from approximately $513,000 in
January 2001 to approximately $59,000 in December 2001. On March 21, 2002, the
Company signed a purchase and sale agreement to sell its producing oil and gas
properties for $2,350,000. Closing is expected to occur in April 2002.
Private Placements of Equity
Since its inception, Cheniere's primary source of financing for
operating expenses and investments in its exploration program has been the sale
of its equity securities. Through December 31, 2001, the Company has issued
26
13,297,393 shares of its common stock, generating net proceeds of $39,090,960.
During 2001, the Company raised $493,329, net of offering costs, from the sale
of units (common stock and warrants) to accredited investors pursuant to
Regulation D. Proceeds of the offering were used for the acquisition of leases
and other exploration costs and for general corporate purposes.
In February 2001, the Company issued to one stockholder 250,000 units
at a cash purchase price of $2.00 per unit (for an aggregate offering price of
$500,000), each unit consisting of one share of common stock, $.003 par value
per share, and one warrant to purchase one-sixth of a share of common stock.
Warrants issued in connection with this sale of units are exercisable at a price
of $3.00 per share on or before December 31, 2003. These units were sold
pursuant to offers made exclusively to accredited investors, in reliance on the
exemption from registration provided by Section 506 of Regulation D. No
underwriting discounts or commissions were made with respect to the offering.
Proceeds of the offering, net of offering costs, were $493,329. The purchaser of
the shares of common stock issued in this private placement was granted certain
registration rights.
In May 2001, as compensation for assistance in the Company's listing
on The American Stock Exchange, Cheniere issued to a consultant warrants to
purchase 50,000 shares of common stock at an exercise price of $3.00 per share,
exercisable on or before April 30, 2005. The issuance was made to one consultant
without any advertising or solicitation. This issuance was made in reliance on
the exemption from registration provided by Section 4(2) of the Securities Act
of 1933.
In June 2001, Cheniere issued 500,000 shares of common stock to Crest
Financial Ltd. in exchange for 100% ownership of Freeport LNG Terminal, LLC,
whose sole asset was a lease option on an LNG receiving terminal site in
Freeport, Texas. The stock was valued at the closing market price on the date of
the transaction, $2.30 per share, for an aggregate transaction value of
$1,150,000. The stock was issued as part of the consideration pursuant to an
agreement resolving certain disputes between Crest Financial Ltd. and Cheniere.
Based on the fact that the issuance was made to a single person without any
advertisement or solicitation, this issuance was made in reliance on the
exemption from registration provided by Section 4(2) of the Securities Act of
1933.
Short-Term Promissory Notes
At December 31, 2001 and 2000, Cheniere had no outstanding debt
obligations.
In March 2002, the Company entered into a short-term bridge financing
arrangement with an unrelated third party lender. The amount of the borrowing
was $500,000. The term is 120 days. Interest is payable monthly at 10% per
annum. Warrants were issued to the lender for the purchase of 150,000 shares of
Cheniere common stock, exercisable at a price of $2.50 per share on or before
March 7, 2012. Additionally, Cheniere extended the term to March 7, 2012 on
existing warrants for the purchase of 255,417 shares held by parties affiliated
with the lender. The Black-Scholes valuation of warrants issued (150,000 shares)
and of the extension of existing warrants (255,417 shares) in connection with
this financing arrangement totals $241,939. An additional 50,000 warrants are to
be issued to the lender for each month or partial month for which the principal
remains unpaid after April 7, 2002.
Exploration Funding
On October 11, 2000, Cheniere completed a transaction with Warburg to
fund its exploration program on approximately 8,800 square miles of seismic data
in the Gulf of Mexico (the Louisiana Data Set) through a newly formed affiliated
company, Gryphon. Cheniere contributed selected assets and liabilities in
exchange for 100% of the common stock of Gryphon and $2,000,000 in cash (36.8%
effective interest after conversion of preferred stock). Such assets included:
the Louisiana Data Set, certain offshore leases, a prospect then being drilled,
its exploration agreement with an industry partner and certain other assets and
liabilities. The net book value of the assets and liabilities contributed was
$7,065,919, which consisted of assets of $9,115,963 (primarily unproved oil and
gas properties) and liabilities of $2,050,044, (primarily accounts payable).
Warburg contributed $25,000,000 and received preferred stock, with an 8%
cumulative dividend, convertible into 63.2% of Gryphon's common stock.
Cheniere and Warburg also have the option, in connection with
subsequent capital calls made by Gryphon, to contribute up to an additional
$75,000,000 to Gryphon, proportionate to their respective ownership interests.
Under the terms of the agreement governing these additional contributions, in
the event that either Cheniere or Warburg elects not to participate in any
additional contribution, the other investor has the option to purchase the
non-participating investor's proportionate share. Assuming (i) that Gryphon
makes subsequent capital calls for an aggregate of $75,000,000, (ii) that
Cheniere elects not to participate in any of the capital calls and (iii) that
Warburg elects to purchase all of Cheniere's proportionate share, and giving
effect to Cheniere's sale to Gryphon of 6,740 shares of Gryphon common stock in
July 2001 and its sale to Gryphon of 51,400 shares of Gryphon common stock
27
in March 2002, the Company's effective interest in Gryphon, after giving effect
to the conversion of Gryphon's preferred stock, will be reduced to 12.2%.
Cheniere accounted for the contribution of net assets at its historical cost,
whereby the net amount of such assets and liabilities less the $2,000,000 in
cash was reclassified to investment in unconsolidated affiliate. No gain or loss
was recognized at the time of contribution.
During 2001, Gryphon made cash calls totaling $30,000,000 against its
capital commitment of $75,000,000. Cheniere declined to participate in such cash
calls, and Warburg elected to purchase all of Cheniere's proportionate share of
such cash calls. Also during 2001, Cheniere transferred 6,740 shares of Gryphon
common stock to Gryphon in connection with the sale of licenses to certain
seismic data. As a result of these transactions, Cheniere's ownership interest
in Gryphon, after the effect of converting preferred stock into common stock,
was reduced from 36.8% at December 31, 2000 to 20.2% as of December 31, 2001.
Subsequent to the period covered by this report, in March 2002, Cheniere sold
51,400 shares of its Gryphon common stock to Gryphon, subject to certain
repurchase options, thereby further reducing Cheniere's interest to 13.7% on an
as-converted basis.
In connection with the seismic license contributed to Gryphon upon its
formation, Cheniere entered into an agreement with the third party issuer of the
license. The agreement provided that Cheniere would pay a transfer fee to the
third party in an aggregate amount of up to $2,500,000. Such transfer fee was
contingent upon Gryphon's completion of up to ten successful wells during the
license period and within the license area. Upon Gryphon's completion of such a
well, an amount of $250,000 was payable by Cheniere one month after production
commences. If such amount were not paid at the end of the one-month period, it
would bear interest of 18% per annum from such date until paid. Any transfer
fees payable will be recorded as additions to Cheniere's investment in Gryphon.
As of December 31, 2001, two such installments, totaling $500,000, were payable.
(See Note 16 in Notes to Consolidated Financial Statements for full discharge of
this obligation in March 2002.)
Cheniere accounts for its investment in Gryphon using the equity
method of accounting. Although Cheniere's participation on the Gryphon board of
directors provides significant influence over the operating and financial
policies of Gryphon, Cheniere does not participate in the day-to-day management
of Gryphon, does not exercise control over Gryphon and cannot effect a change in
the management of Gryphon. Cheniere's equity share of Gryphon's losses for 2001
was $2,974,191, calculated by applying Cheniere's 100% common stock ownership
interest to Gryphon's net income of $84,000 and reducing such result for
Gryphon's preferred dividend arrearages of $3,058,191 for the year.
Seismic Reprocessing
Between June 2000 and October 2000, Cheniere acquired licenses to
approximately 6,800 miles of seismic data primarily in the shallow waters
offshore Texas and also in the West Cameron area in the Gulf of Mexico (the
"Offshore Texas Project Area") in separate transactions with Seitel Data Ltd., a
division of Seitel Inc., and JEBCO Seismic, L.P. Cheniere committed to reprocess
all of the data from the Offshore Texas Project Area at a cost of approximately
$8,500,000, payable in installments beginning in October 2000 and continuing
through the final delivery of reprocessed data, which is expected to occur in
2002. Deliveries of reprocessed data began in May 2001. After the assumption of
liabilities by Gryphon related to its purchase of one license to the data
(discussed below), Cheniere's remaining liability for reprocessing was
$1,061,692 as of December 31, 2001. (See Note 16 in Notes to Consolidated
Financial Statements for full discharge of this obligation in March 2002.)
Sale of Licenses to Seismic Data
In June and July 2001, Cheniere sold licenses to 6,800 square miles of
seismic data to Gryphon for $7,000,000. Cash proceeds to Cheniere were $853,197.
Gryphon also assumed $6,820,824 of Cheniere's obligation to fund the
reprocessing of the seismic data. In connection with the transaction, Cheniere
also transferred 6,740 shares of Gryphon common stock to Gryphon. Cheniere
retains one license to all of the data in the Offshore Texas Project Area.
Sale of Proprietary Seismic Data
In September 2001, Cheniere acquired for $500,000 all rights to its
228-square-mile proprietary seismic database from the industry partner with whom
it had jointly acquired the data in 1996 and 1997. Cheniere
28
subsequently sold the seismic data to a seismic marketing company for $2,500,000
and a 50% share in licensing proceeds generated by the marketing company.
Proceeds from the September 2001 sale of 3D seismic data were recorded as a
reduction to the Company's unproved oil and gas property costs. Cheniere retains
a license to all of the seismic data for use in its exploration program.
Contractual Cash Obligations
Cheniere is committed to making cash payments in the future on certain
of its contracts. The Company has no off-balance sheet debt or other such
unrecorded obligations and Cheniere has not guaranteed the debt of any other
party. Below is a schedule of the future payments that Cheniere was obligated to
make based on agreements in place as of December 31, 2001.
Payments Due for Years Ended December 31,
--------------------------------------------
Total 2002 2003 2004 2005 & Beyond
---------- ---------- -------- ---- -------------
Operating Leases (1) $ 850,581 $ 488,465 $362,116 $-- $--
Seismic Commitments (2) $2,034,983 $2,034,983 $ -- $-- $--
Transfer Fees (2) $2,500,000 $2,500,000 $ -- $-- $--
LNG Consulting Retainer (3) $ 630,000 $ 360,000 $270,000 $-- $--
(1) A discussion of operating leases can be found in Note 13 of the Notes to
the Consolidated Financial Statements. Cheniere has no capital leases.
(2) In March 2002, Cheniere sold 51,400 shares of Gryphon common stock in
exchange for Gryphon's agreement to pay contingent liabilities totaling
$3,561,692. The effect of this stock sale, combined with the terms of
Cheniere's sale of seismic licenses to Gryphon, results in all of
Cheniere's contingent liabilities for seismic reprocessing and transfer
fees being assumed by Gryphon.
(3) In April 2001, the Company engaged research consultants in connection
with the development of its LNG receiving terminal business. The
consultants are working on the project on a non-cash, retainer basis at a
rate of $30,000 per month for 30 months, which amount is to be paid in the
form of an equity ownership equal to 4.5% of the economic value of the LNG
project at the time the project is financed.
Cheniere's obligations under LNG site options are renewable on an annual or
semiannual basis. Cheniere may terminate its obligation at any time by electing
not to renew or by exercising the option.
Recoverability of Investment in Oil and Gas Properties
The recoverability of the Company's unevaluated oil and gas properties
is dependent on future events, including obtaining adequate financing for its
exploration and development program, the successful reprocessing of the 3D
seismic data in the Offshore Texas Project Area, the successful sale of
prospects generated by the Company or the successful completion of its planned
drilling program, and the achievement of a level of operating revenues that is
sufficient to support the Company's cost structure. At various times during the
life of the Company to date, it has been necessary for the Company to raise
additional capital through private placements of debt or equity financing. When
such a need has arisen, the Company has met it successfully. It is management's
belief that it will continue to be able to meet its needs for additional capital
as such needs arise in the future.
Cheniere's needs for additional financing include the following:
. Additional capital may be required to pay for Cheniere's share of
costs relating to the drilling of prospects and development of those
that are successful, to exercise lease options and to acquire
additional oil and gas leases. The total amount of the Company's
capital needs will be determined in part by the number of prospects
generated within its exploration program and by the working interest
that the Company retains in those prospects.
29
. The Company may need capital to fund its pro-rata share of the capital
calls by Gryphon that are approved by Gryphon's board of directors.
It is anticipated that Gryphon will make cash calls for additional
funds. The Company's share of such future capital calls could total up
to approximately $5,000,000. If the Company elects not to fund its
pro-rata portion of such capital calls, and Warburg funds its portion,
as they would be entitled to do, and as they have since the formation
of Gryphon, the Company's ownership percentage of Gryphon's common
stock on an as-converted basis will be further reduced (to as low as
8%) if it chooses not to participate in such additional cash calls or
to exercise its option to repurchase all or a portion of the 51,400
shares it sold to Gryphon in March 2002.
. The Company will need substantial additional funds to execute its plan
for developing and implementing an LNG receiving terminal business,
including engineering, environmental, marine, regulatory, construction
and legal work, including any such work involved in permitting and
FERC filings. Such costs are estimated to be approximately $8,000,000
for the two-year period ending December 31, 2003, and include
semi-annual rental payments totaling approximately $500,000 per year
to renew lease and purchase options on potential sites for LNG
receiving terminals.
Additional capital could be obtained from a combination of funding sources,
many of which may have a material adverse effect on the Company's business,
results of operations and financial condition. These potential funding sources
include:
. cash flow from operating activities, which is sensitive to prices the
Company receives for its oil and natural gas,
. borrowings from financial institutions, which may subject the Company
to certain restrictive covenants, including covenants restricting the
Company's ability to raise additional capital or pay dividends,
. debt offerings, which would increase the Company's leverage and add to
its need for cash to service such debt,
. additional offerings of the Company's equity securities, which would
cause dilution of its common stock,
. sales of portions of its working interest in the prospects within its
exploration program, which would reduce future revenues from its
exploration program,
. sale to an industry partner of a participation in the Company's
exploration program, which would reduce future revenues from its
exploration program,
. sale of all or a portion of the Company's producing oil and gas
properties, which would reduce future revenues (see Note 16 in Notes
to the Consolidated Financial Statements concerning March 2002
agreement to sell the Company's producing oil and gas properties),
. sale of an interest in the Company's LNG project and
. arrangement of a business development loan from, or prepayment of
terminal use fees by, prospective sellers or purchasers of LNG.
30
Cheniere's ability to raise additional capital will depend on the
results of its operations and the status of various capital and industry markets
at the time such additional capital is sought. Accordingly, capital may not
become available to the Company from any particular source or at all. Even if
additional capital becomes available, it may not be on terms acceptable to the
Company. Failure to obtain additional financing on acceptable terms may have a
material adverse effect on the Company's business, results of operations and
financial condition.
Other Matters
Critical Accounting Policies
The selection and application of accounting policies is an important
process that has developed as Cheniere's business activities have evolved and as
the accounting rules have developed. Accounting rules generally do not involve a
selection among alternatives, but involve an implementation and interpretation
of existing rules, and the use of judgment, to the specific set of circumstances
existing in Cheniere's business. The Company makes every effort to properly
comply with all applicable rules on or before their adoption, and believes the
proper implementation and consistent application of the accounting rules is
critical. However, not all situations are specifically addressed in the
accounting literature. In these cases, the Company must use its best judgment to
adopt a policy for accounting for these situations. Cheniere accomplishes this
by analogizing to similar situations and the accounting guidance governing them,
and often consults with its independent accountants about the appropriate
interpretation and application of these policies. Cheniere's most critical
accounting policy is its accounting under the full cost method of accounting.
This area involves complex situations and a high degree of judgment either in
the application and interpretation of existing literature or in the development
of estimates that impact the Company's financial statements.
Full Cost Method of Accounting.
The Company follows the full cost method of accounting for its oil and
gas properties. Under this method, all productive and non-productive exploration
and development costs incurred for the purpose of finding oil and gas reserves
are capitalized. Such capitalized costs include lease acquisition, geological
and geophysical work, delay rentals, drilling, completing and equipping oil and
gas wells, together with internal costs directly attributable to property
acquisition, exploration and development activities. Interest is capitalized on
oil and gas properties not subject to amortization and in the process of
development.
The costs of the Company's oil and gas properties, including the
estimated future costs to develop proved reserves, are depreciated using a
composite units-of-production rate based on estimates of proved reserves.
Investments in unproved properties and major development projects are not
amortized until proved reserves associated with the projects can be determined
or until impairment occurs. If the results of an assessment indicate that the
properties are impaired, the amount of the impairment is added to the
capitalized costs to be amortized. Net capitalized costs are limited to a
capitalization ceiling, calculated on a quarterly basis as the aggregate of the
present value, discounted at 10%, of estimated future net revenues from proved
reserves, based on current economic and operating conditions, plus the lower of
cost or fair market value of unproved properties, less related income tax
effects. At June 30, 2001 and September 30, 2001, the Company's capitalized
costs exceeded its capitalization ceiling, resulting in ceiling test write-downs
totaling $5,126,248 for the year.
The Company's allocation of seismic exploration costs to proved
properties involves an estimate of the total reserves to be discovered in the
project. It is reasonably possible, based on the results obtained from future
drilling, that revisions to this estimate could occur within the next twelve
months, which could affect the Company's capitalization ceiling.
Commodity Prices
The Company's revenues, operating results, financial condition and
ability to borrow funds or obtain additional capital depend substantially on
prevailing prices for natural gas and, to a lesser extent, oil. Declines in oil
and gas prices may materially adversely affect Cheniere's financial condition,
liquidity, ability to obtain financing and operating results. Lower oil and gas
prices also may reduce the amount of oil and gas that the Company can produce
economically. Historically, oil and gas prices and markets have been volatile,
with prices fluctuating widely, and they are likely to continue to be volatile.
Depressed prices in the future would have a negative impact on
31
Cheniere's future financial results. In particular, substantially lower prices
would significantly reduce revenue and could potentially impact the outcome of
the Company's ceiling test under Regulation S-X Rule 4-10. Because Cheniere's
reserves are predominantly natural gas, changes in natural gas prices may have a
particularly large impact on its financial results.
Oil and Gas Reserves
The process of estimating quantities of proved reserves is inherently
uncertain, and the reserve data included in this document are only estimates.
Reserve engineering is a subjective process of estimating underground
accumulations of natural gas and crude oil that cannot be measured in an exact
manner. The process relies on interpretations of available geologic, geophysic,
engineering and production data. The extent, quality and reliability of this
technical data can vary. The process also requires certain economic assumptions,
some of which are mandated by the SEC, such as oil and gas prices, drilling and
operating expenses, capital expenditures, taxes and availability of funds. The
accuracy of a reserve estimate is a function of the quality and quantity of
available data, the interpretation of that data, the accuracy of various
mandated economic assumptions and the judgment of the persons preparing the
estimate.
Cheniere's proved reserve information included in this document is
based on estimates prepared by Ryder Scott Company. Estimates prepared by others
may be higher or lower than Cheniere's estimates.
Because these estimates depend on many assumptions, all of which may
substantially differ from actual results, reserve estimates may be different
from the quantities of natural gas and crude oil that are ultimately recovered.
In addition, results of drilling, testing and production after the date of an
estimate may justify material revisions to the estimate.
The present value of future net cash flows does not necessarily
represent the current market value of Cheniere's estimated proved natural gas
and oil reserves. In accordance with SEC requirements, the Company bases the
estimated discounted future net cash flows from proved reserves on prices and
costs on the date of the estimate. Actual future prices and costs may be
materially higher or lower than the prices and costs as of the date of the
estimate.
Cheniere's rate of recording depreciation, depletion and amortization
expense (DD&A) is dependent upon its estimate of proved reserves. If the
estimate of proved reserves declines, the rate at which Cheniere records DD&A
expense increases, reducing net income. Such a decline may result from lower
market prices, which may make it uneconomic to drill for and produce higher
cost fields.
Equity Method of Accounting
The Company uses the equity method of accounting to account for its
investment in Gryphon in accordance with APB No. 18, The Equity Method of
Accounting for Investments in Common Stock. We consider the equity method to be
appropriate, because the Company exercises significant influence over the
operating and financial policies of Gryphon through its two member board
participation on Gryphon's five member board, and because we have an as-
converted 20.2% effective voting interest in Gryphon as of December 31, 2001.
See Note 7 in the Notes to the Consolidated Financial Statements.
32
New Accounting Pronouncements
In June 2001, the Financial Accounting Standard Board (FASB) issued
SFAS No. 141, Business Combinations, which requires that all business
combinations initiated after June 30, 2001 be accounted for using the purchase
method. This Statement also requires that intangible assets be recognized as
assets apart from goodwill if certain criteria are met. Management will consider
the impact of this statement for future acquisitions.
In June 2001, the FASB also issued SFAS No. 142, Goodwill and Other
Intangible Assets, which established standards for reporting acquired goodwill
and other intangible assets. This Statement accounts for goodwill based on the
reporting units of the combined entity into which an acquired entity is
integrated. In accordance with the statement, goodwill and indefinite-lived
intangible assets will not be amortized but will be tested for impairment at
least annually at the reporting unit level. In addition, the amortization period
of intangible assets with finite lives will not be limited to forty years. The
provisions of this Statement are required to be applied starting with fiscal
years beginning after December 15, 2001. The Company adopted SFAS 142 on January
1, 2002; such adoption did not have a material effect on the Company's financial
position, results of operations or cash flows.
In July 2001, the FASB issued SFAS No. 143, Accounting for Asset
Retirement Obligations (ARO), which requires that an asset retirement cost be
capitalized as part of the cost of the related long-lived asset and allocated to
expense by using a systematic and rational method. Under this Statement, an
entity is not required to re-measure an ARO liability at fair value each period
but is required to recognize changes in an ARO liability resulting from the
passage of time and revisions in cash flow estimates. This Statement is
effective for financial statements issued for fiscal years beginning after June
15, 2002. The Company expects to adopt SFAS 143 on January 1, 2003. The Company
has not yet determined the impact that the adoption of SFAS 143 will have on its
earnings or statement of financial position.
In August 2001, the FASB issued SFAS No. 144, Accounting for the
Impairment or Disposal of Long-Lived Assets, which addresses financial
accounting and reporting for the impairment of long-lived assets and for
long-lived assets to be disposed of. The purpose of this Statement was to
establish a single accounting model for long-lived assets to be disposed of by
sale, based on the framework established in FASB No. 121, Accounting for the
Impairment of Long-Lived Assets and for Long-Lived Assets to Be Disposed Of, and
to resolve certain implementation issues related to SFAS 121. This Statement
also supersedes the accounting and reporting provisions of APB Opinion No. 30,
Reporting the Results of Operations - Reporting the Effects of Disposal of a
Segment of a Business, but retains the requirement of Opinion 30 to report
discontinued operations separately from continuing operations. This Statement is
effective for financial statements issued for fiscal years beginning after
December 15, 2001, and generally is to be applied prospectively. The Company
adopted SFAS 144 on January 1, 2002. Such adoption did not have a material
effect on the Company's financial position, operations or cash flows.
Other Developments
In February 2002, the Company received a copy of a lawsuit styled
Fairfield Industries Incorporated vs. Cheniere Energy, Inc. and Gryphon
Exploration Company, which was filed in district court in Harris County, Texas.
The lawsuit is related to a seismic license agreement between Fairfield and
Cheniere, which was later assigned to Gryphon. In the lawsuit, Fairfield alleges
that Cheniere and Gryphon conspired to defraud the plaintiff of certain transfer
payments, which may be owed by Cheniere in connection with the transfer to
Gryphon of the initial seismic contributed at the time of its formation. In
March 2002, Fairfield, Gryphon, and the Company settled this lawsuit. All
existing and contingent obligations to Fairfield by Cheniere have been fully
discharged through agreement by Gryphon to make current and contingent payments
totaling no more than $2,500,000 to Fairfield. Additionally, Gryphon has assumed
all of Cheniere's remaining contingent obligations to Seitel for seismic
reprocessing ($1,061,692). In exchange for Gryphon's assumption of these
liabilities, Cheniere transferred to Gryphon 51,400 shares of Gryphon common
stock. (See Note 16 in Notes to Consolidated Financial Statements.)
Item 7A. Quantitative and Qualitative Disclosures About Market Risk
The Company produces and sells natural gas, crude oil and condensate.
As a result, the Company's financial results can be significantly affected as
these commodity prices fluctuate widely in response to changing market forces.
The Company has not entered into any derivative transactions.
33
Item 8. Financial Statements and Supplementary Data
INDEX TO FINANCIAL STATEMENTS
CHENIERE ENERGY, INC. AND SUBSIDIARIES
Report of Independent Accountants....................................35
Consolidated Balance Sheet...........................................36
Consolidated Statement of Operations.................................37
Consolidated Statement of Stockholders' Equity.......................38
Consolidated Statement of Cash Flows.................................39
Notes to Consolidated Financial Statements...........................40
Supplemental Information to Consolidated Financial Statements........57
All schedules are omitted because they are not applicable or the
required information is shown in the consolidated financial statements or notes
thereto.
34
REPORT OF INDEPENDENT ACCOUNTANTS
To the Board of Directors and
Stockholders of Cheniere Energy, Inc:
In our opinion, the accompanying consolidated balance sheets and the
related consolidated statements of operations, stockholders' equity and cash
flows present fairly, in all material respects, the financial position of
Cheniere Energy, Inc. and its subsidiaries at December 31, 2001 and 2000, and
the results of their operations and their cash flows for each of the three years
in the period ended December 31, 2001 in conformity with accounting principles
generally accepted in the United States of America. These financial statements
are the responsibility of the Company's management; our responsibility is to
express an opinion on these financial statements based on our audits. We
conducted our audits of these statements in accordance with auditing standards
generally accepted in the United States of America, which require that we plan
and perform the audit to obtain reasonable assurance about whether the financial
statements are free of material misstatement. An audit includes examining, on a
test basis, evidence supporting the amounts and disclosures in the financial
statements, assessing the accounting principles used and significant estimates
made by management, and evaluating the overall financial statement presentation.
We believe that our audits provide a reasonable basis for our opinion.
The accompanying financial statements have been prepared assuming that
the Company will continue as a going concern. As discussed in Note 14 to the
consolidated financial statements, the Company has experienced recurring losses
from operations and has a negative working capital balance at December 31, 2001
that raise substantial doubt about its ability to continue as a going concern.
Management's plans in regard to these matters are also described in Note 14. The
consolidated financial statements do not include any adjustments that might
result from the outcome of this uncertainty.
PRICEWATERHOUSECOOPERS LLP
Houston, Texas
March 29, 2002
35
Cheniere Energy, Inc. and Subsidiaries
Consolidated Balance Sheet
December 31, December 31,
2001 2000
------------ ------------
ASSETS
------
CURRENT ASSETS
Cash $ 610,718 $ 1,888,562
Accounts Receivable 636,527 851,706
Prepaid Expenses 96,914 98,532
------------ -----------
Total Current Assets 1,344,159 2,838,800
OIL AND GAS PROPERTIES, full cost method
Proved Properties, net 1,929,124 6,727,613
Unproved Properties, not subject to amortization 16,236,962 18,253,731
------------ -----------
Total Oil and Gas Properties 18,166,086 24,981,344
LNG SITE COSTS 1,350,000 --
FIXED ASSETS, net 416,232 206,204
INVESTMENT IN UNCONSOLIDATED AFFILIATE 3,747,199 6,639,270
------------ -----------
Total Assets $ 25,023,676 $34,665,618
============ ===========
LIABILITIES AND STOCKHOLDERS' EQUITY
------------------------------------
CURRENT LIABILITIES
Accounts Payable $ 1,464,812 $ 1,472,293
Accrued Liabilities 409,589 132,117
------------ -----------
Total Current Liabilities 1,874,401 1,604,410
COMMITMENTS AND CONTINGENCIES (NOTE 13)
STOCKHOLDERS' EQUITY
Preferred Stock, $.0001 par value
Authorized: 5,000,000 shares
Issued and Outstanding: none -- --
Common Stock, $.003 par value
Authorized: 40,000,000 shares at December 31, 2001
and 120,000,000 shares at December 31, 2000
Issued and Outstanding: 13,297,393 shares at December 31, 2001
and 12,547,393 shares at December 31, 2000 39,892 37,642
Additional Paid-in-Capital 41,133,868 39,382,789
Accumulated Deficit (18,024,485) (6,359,223)
------------ -----------
Total Stockholders' Equity 23,149,275 33,061,208
------------ -----------
Total Liabilities and Stockholders' Equity $ 25,023,676 $34,665,618
============ ===========
The accompanying notes are an integral part of these financial statements.
36
Cheniere Energy, Inc. and Subsidiaries
Consolidated Statement of Operations
Year Ended
December 31,
----------------------------------------
2001 2000 1999
------------ ----------- -----------
Revenues
Oil and Gas Sales $ 2,372,632 $ 5,320,432 $ 1,614,055
------------ ----------- -----------
Total Revenues 2,372,632 5,320,432 1,614,055
------------ ----------- -----------
Operating Costs and Expenses
Production Costs 420,242 388,637 128,859
Depreciation, Depletion and Amortization 1,243,828 3,371,383 1,361,644
Ceiling Test Write-down 5,126,248 -- --
General and Administrative Expenses 4,291,963 1,938,659 1,908,805
------------ ----------- -----------
Total Operating Costs and Expenses 11,082,281 5,698,679 3,399,308
------------ ----------- -----------
Loss from Operations Before Interest,
Equity in Net Loss of Unconsolidated Affiliate and Income Taxes (8,709,649) (378,247) (1,785,253)
Equity in Net Loss of Unconsolidated Affiliate (2,974,191) (426,649) --
Interest Income 18,578 23,916 31,530
------------ ----------- -----------
Loss Before Income Taxes (11,665,262) (780,980) (1,753,723)
Provision for Income Taxes -- -- --
------------ ----------- -----------
Net Loss $(11,665,262) $ (780,980) $(1,753,723)
============ =========== ===========
Net Loss Per Share - Basic and Diluted $ (0.89) $ (0.07) $ (0.27)
============ =========== ===========
Weighted Average Number of Shares Outstanding - Basic and Diluted 13,035,256 10,732,678 6,449,104
============ =========== ===========
The accompanying notes are an integral part of these financial statements.
37
Cheniere Energy, Inc. and Subsidiaries
Consolidated Statement of Stockholders' Equity
Common Stock Additional Total
-------------------- Paid-In Accumulated Stockholders'
Shares Amount Capital Deficit Equity
---------- ------- ------------ ------------ -------------
Balance - December 31, 1998 4,743,437 $14,230 $20,127,620 $ (3,824,520) $ 16,317,330
Issuance of Shares in Exchange for Notes 792,590 2,378 2,243,759 -- 2,246,137
Issuance of Warrants -- -- 200,000 -- 200,000
Repricing of Warrants to Extend Bridge Notes -- -- 35,702 -- 35,702
Issuance of Shares in Exchange for Production Payment 146,119 438 399,562 -- 400,000
Issuances of Stock 4,370,972 13,113 11,001,567 -- 11,014,680
Expenses Related to Offerings -- -- (714,388) -- (714,388)
Net Loss -- -- -- (1,753,723) (1,753,723)
---------- ------- ----------- ------------ ------------
Balance - December 31, 1999 10,053,118 30,159 33,293,822 (5,578,243) 27,745,738
Issuance of Shares in Exchange for Note 250,000 750 499,250 -- 500,000
Issuance of Warrants -- -- 722,800 -- 722,800
Issuances of Stock 2,244,275 6,733 5,199,767 -- 5,206,500
Expenses Related to Offerings -- -- (332,850) -- (332,850)
Net Loss -- -- -- (780,980) (780,980)
---------- ------- ----------- ------------ ------------
Balance - December 31, 2000 12,547,393 37,642 39,382,789 (6,359,223) 33,061,208
Issuance of Stock 750,000 2,250 1,647,750 -- 1,650,000
Issuance of Warrants and Options -- -- 110,000 -- 110,000
Expenses Related to Offerings -- -- (6,671) -- (6,671)
Net Loss -- -- -- (11,665,262) (11,665,262)
---------- ------- ----------- ------------ ------------
Balance - December 31, 2001 13,297,393 $39,892 $41,133,868 $(18,024,485) $ 23,149,275
========== ======= =========== ============ ============
The accompanying notes are an integral part of these financial statements.
38
Cheniere Energy, Inc. and Subsidiaries
Consolidated Statement of Cash Flows
Year Ended
December 31,
----------------------------------------
2001 2000 1999
------------ ----------- -----------
CASH FLOWS FROM OPERATING ACTIVITIES:
Net Loss $(11,665,262) $ (780,980) $(1,753,723)
Adjustments to Reconcile Net Loss to
Net Cash (Used in) Provided by Operating Activities:
Depreciation, Depletion and Amortization 1,243,828 3,371,383 1,361,644
Ceiling Test Write-down 5,126,248 -- --
Compensation Paid in Common Stock -- -- 37,500
Non-Cash Expense 380,000 134,250 100,000
Equity in Net Loss of Unconsolidated Affiliate 2,974,191 426,649 --
------------ ----------- -----------
(1,940,995) 3,151,302 (254,579)
Changes in Operating Assets and Liabilities
Accounts Receivable 591,672 54,863 (808,732)
Subscriptions Receivable -- -- 500,000
Prepaid Expenses 14,818 (16,787) (82,734)
Accounts Payable and Accrued Liabilities (877,772) 2,014,028 1,249,178
------------ ----------- -----------
NET CASH (USED IN) PROVIDED BY OPERATING ACTIVITIES (2,212,277) 5,203,406 603,133
------------ ----------- -----------
CASH FLOWS FROM INVESTING ACTIVITIES:
Purchases of Fixed Assets (407,817) (320,362) (999,965)
Oil and Gas Property Additions (4,343,705) (6,561,169) (8,534,225)
Sale of Interest in Oil and Gas Prospects 2,039,429 -- --
Sale of Oil and Gas Seismic Data 3,353,197 -- 275,000
Proceeds from Contribution of Assets to Unconsolidated Affiliate -- 2,000,000
LNG Site Costs (200,000) -- --
------------ ----------- -----------
NET CASH PROVIDED BY (USED IN) INVESTING ACTIVITIES 441,104 (4,881,531) (9,259,190)
------------ ----------- -----------
CASH FLOWS FROM FINANCING ACTIVITIES:
Proceeds from Issuance of Notes Payable -- 2,605,000 3,100,000
Repayment of Notes Payable -- (7,068,213) (996,846)
Sale of Common Stock 500,000 5,156,500 8,438,282
Offering Costs (6,671) (302,550) (714,388)
Debt Issuance Costs -- -- (138,909)
------------ ----------- -----------
NET CASH PROVIDED BY FINANCING ACTIVITIES 493,329 390,737 9,688,139
------------ ----------- -----------
NET (DECREASE) INCREASE IN CASH (1,277,844) 712,612 1,032,082
CASH - BEGINNING OF PERIOD 1,888,562 1,175,950 143,868
------------ ----------- -----------
CASH - END OF PERIOD $ 610,718 $ 1,888,562 $ 1,175,950
============ =========== ===========
The accompanying notes are an integral part of these financial statements.
39
CHENIERE ENERGY, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 1-ORGANIZATION AND NATURE OF OPERATIONS
Cheniere Energy, Inc., a Delaware corporation, is engaged in
exploration for and production of oil and gas reserves and in the development of
a liquefied natural gas (LNG) receiving terminal business. The terms Cheniere
and Company refer to Cheniere Energy, Inc. and its subsidiaries. Cheniere is a
Houston-based company formed for the purpose of oil and gas exploration,
development, exploitation and production. The Company is currently engaged in
the exploration for and production of oil and natural gas along the Gulf Coast
of Texas and Louisiana, onshore and in the shallow waters of the Gulf of Mexico.
The Company employs a small staff of experienced oil and gas exploration
professionals who utilize third party drilling contractors and others in the
oilfield service industry in executing Cheniere's exploration program.
NOTE 2-SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Basis of Presentation
The consolidated financial statements include the accounts of Cheniere
Energy, Inc. and its wholly owned subsidiaries. As of December 31, 2001,
Cheniere also owned an effective 20.2% interest in an affiliated company,
Gryphon Exploration Company, and accounts for this investment using the equity
method of accounting see Note 7). All significant intercompany accounts and
transactions have been eliminated in consolidation.
Oil and Gas Properties
The Company follows the full cost method of accounting for its oil and
gas properties. Under this method, all productive and nonproductive exploration
and development costs incurred for the purpose of finding oil and gas reserves
are capitalized. Such capitalized costs include lease acquisition, geological
and geophysical work, delay rentals, drilling, completing and equipping oil and
gas wells, together with internal costs directly attributable to property
acquisition, exploration and development activities. Interest is capitalized on
oil and gas properties not subject to amortization and in the process of
development. The Company capitalized interest totaling $165,813, $1,154,099 and
$415,262 and general and administrative expenses, net of reimbursements,
totaling $782,000, $743,355 and $960,000 for the years 2001, 2000 and 1999,
respectively.
The costs of the Company's oil and gas properties, including the
estimated future costs to develop proved reserves, are depreciated using a
composite units-of-production rate based on estimates of proved reserves.
Investments in unproved properties and major development projects are not
amortized until proved reserves associated with the projects can be determined
or until impairment occurs. If the results of an assessment indicate that the
properties are impaired, the amount of the impairment is added to the
capitalized costs to be amortized. Net capitalized costs are limited to a
capitalization ceiling, calculated on a quarterly basis as the aggregate of the
present value, discounted at 10%, of estimated future net revenues from proved
reserves, based on current economic and operating conditions, plus the lower of
cost or fair market value of unproved properties, less related income tax
effects.
The Company's allocation of seismic exploration costs between proved
and unproved properties involves an estimate of the total reserves to be
discovered in the Company's exploration program. It is reasonably possible,
based on the results obtained from future drilling and prospect generation, that
revisions to this estimate could occur within the next twelve months, which
could affect the Company's capitalization ceiling.
Sales of proved and unproved properties are accounted for as
adjustments of capitalized costs with no gain or loss recognized, unless such
adjustments would significantly alter the relationship between capitalized costs
and proved oil and gas reserves.
Revenue Recognition
Revenues from the sale of oil and gas production are recognized upon
passage of title, net of royalty interests. When sales volumes differ from the
Company's entitled share, an underproduced or overproduced imbalance occurs. To
the extent an overproduced imbalance exceeds the Company's share of the
remaining estimated proved natural gas reserves for a given property, the
Company records a liability. At December 31, 2001 and 2000, the Company had no
gas imbalances.
40
CHENIERE ENERGY, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
Debt Issuance Costs
Costs incurred in connection with the issuance of debt are capitalized
and amortized into interest expense using the straight line method which
approximates the interest method, a portion of which is then capitalized as a
cost of oil and gas properties over the term of the related debt.
LNG Site Costs
The Company initially capitalizes the cost of options to purchase LNG
sites and the cost of options to lease LNG sites. Upon execution of a lease
agreement, such costs are amortized over the lease period. Should the Company
make a decision not to lease a particular site, the costs associated with that
site are expensed in the period in which the decision is made. (See Note 13).
All other costs incurred in the initial development of the Company's LNG
receiving terminal business are charged to expense as incurred.
Fixed Assets
Fixed assets are recorded at cost. Repairs and maintenance costs are
charged to operations as incurred. Depreciation is computed using the
straight-line method calculated to amortize the cost of assets over their
estimated useful lives, which range from two to seven years. Upon retirement or
other disposition of fixed assets, the cost and related depreciation is removed
from the accounts and the resulting gains or losses are recorded.
Offering Costs
Offering costs consist primarily of placement fees, professional fees
and printing costs. These costs are charged against the related proceeds from
the sale of common stock in the periods in which they occur or charged to
expense in the event of a terminated offering.
Income Taxes
Provisions for income taxes are based on taxes payable or refundable
for the current year and deferred taxes on temporary differences between the
amount of taxable income and pretax financial income and between the tax bases
of assets and liabilities and their reported amounts in the financial
statements. Deferred tax assets and liabilities are included in the financial
statements at currently enacted income tax rates applicable to the period in
which the deferred tax assets and liabilities are expected to be realized or
settled as prescribed in Statement of Financial Accounting Standards (SFAS) No.
109, Accounting for Income Taxes. As changes in tax laws or rates are enacted,
deferred tax assets and liabilities are adjusted through the current period's
provision for income taxes.
Stock-Based Compensation
SFAS No. 123, Accounting for Stock-Based Compensation, encourages, but
does not require, companies to record compensation cost for stock-based employee
compensation plans at fair value. The Company has chosen to continue to account
for stock-based compensation issued to employees using the intrinsic value
method prescribed in Accounting Principles Board (APB) Opinion No. 25,
Accounting for Stock Issued to Employees, and related interpretations.
Accordingly, compensation cost for stock options is measured as the excess, if
any, of the quoted market price of the Company's stock at the date of the grant
over the amount an employee must pay to acquire the stock. The Company grants
options at or above the market price of its common stock at the date of each
grant. The Company accounts for stock-based compensation issued to non-employees
using SFAS No. 123.
Earnings (Loss) Per Share
Earnings (loss) per share (EPS) is computed in accordance with the
requirements of SFAS No. 128, Earnings Per Share. Basic EPS excludes dilution
and is computed by dividing net income (loss) by the weighted average number of
shares outstanding during the period. Diluted EPS reflects potential dilution
and is computed by dividing net income (loss) by the weighted average number of
common shares outstanding during the period increased by the number of
additional common shares that would have been outstanding if the potential
common shares had been issued. Potential dilutive common stock equivalents
include stock options from employee benefit
41
CHENIERE ENERGY, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
plans and warrants to purchase common stock. Basic and diluted EPS for all
periods presented are the same since the effect of the Company's options and
warrants is antidilutive to its net loss per share under SFAS No. 128. No
adjustments were made to reported net income in the computation of EPS.
Reverse Stock Split
On October 16, 2000, the Company's stockholders approved a
one-for-four reverse stock split, which became effective on October 18, 2000.
All per share amounts and numbers of shares in the financial statements have
been restated for the effect of this reverse stock split.
Cash Equivalents
The Company classifies all investments with original maturities of
three months or less as cash equivalents.
Fair Value of Financial Instruments
The carrying amounts of cash and cash equivalents, accounts receivable
and accounts payable approximate fair value because of the short maturity of
those instruments.
Commodity Price Risk
The Company produces and sells natural gas, crude oil and condensate.
As a result, the Company's financial results can be significantly affected as
these commodity prices fluctuate widely in response to changing market forces.
The Company has not entered into any hedging transactions. The Company's market
risk with respect to its fixed-rate, short-term notes payable is considered to
be immaterial due to the short-term nature of these instruments.
Concentration of Credit Risk
All of the Company's revenues are derived from a single customer. The
Company's products are commodities and constantly have a readily available
market for sale.
Use of Estimates
The preparation of financial statements in conformity with accounting
principles generally accepted in the United States of America requires that the
Company make estimates and assumptions that affect the amounts reported in the
financial statements and the accompanying notes. The most significant estimate
pertains to proved oil and gas reserve volumes. Actual results could differ from
those estimates. Management believes its estimates are reasonable.
New Accounting Pronouncements
In June 2001, the Financial Accounting Standard Board (FASB) issued
SFAS No. 141, Business Combinations, which requires that all business
combinations initiated after June 30, 2001 be accounted for using the purchase
method. This Statement also requires that intangible assets be recognized as
assets apart from goodwill if certain criteria are met. Management will consider
the impact of this statement for future acquisitions.
In June 2001, the FASB also issued SFAS No. 142, Goodwill and Other
Intangible Assets, which established standards for reporting acquired goodwill
and other intangible assets. This Statement accounts for goodwill based on the
reporting units of the combined entity into which an acquired entity is
integrated. In accordance with the statement, goodwill and indefinite-lived
intangible assets will not be amortized but will be tested for impairment at
least annually at the reporting unit level. In addition, the amortization period
of intangible assets with finite lives will not be limited to forty years. The
provisions of this Statement are required to be applied starting with fiscal
years beginning after December 15, 2001. The Company adopted SFAS 142 on January
1, 2002; such adoption did not have a material effect on the Company's financial
position, results of operations or cash flows.
42
CHENIERE ENERGY, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
In July 2001, the FASB issued SFAS No. 143, Accounting for Asset
Retirement Obligations (ARO), which requires that an asset retirement cost be
capitalized as part of the cost of the related long-lived asset and allocated to
expense by using a systematic and rational method. Under this Statement, an
entity is not required to re-measure an ARO liability at fair value each period
but is required to recognize changes in an ARO liability resulting from the
passage of time and revisions in cash flow estimates. This Statement is
effective for financial statements issued for fiscal years beginning after June
15, 2002. The Company expects to adopt SFAS 143 on January 1, 2003. The Company
has not yet determined the impact that the adoption of SFAS 143 will have on its
earnings or statement of financial position.
In August 2001, the FASB issued SFAS No. 144, Accounting for the
Impairment or Disposal of Long-Lived Assets, which addresses financial
accounting and reporting for the impairment of long-lived assets and for
long-lived assets to be disposed of. The purpose of this Statement was to
establish a single accounting model for long-lived assets to be disposed of by
sale, based on the framework established in FASB No. 121, Accounting for the
Impairment of Long-Lived Assets and for Long-Lived Assets to Be Disposed Of, and
to resolve certain implementation issues related to SFAS 121. This Statement
also supersedes the accounting and reporting provisions of APB Opinion No. 30,
Reporting the Results of Operations - Reporting the Effects of Disposal of a
Segment of a Business, but retains the requirement of Opinion 30 to report
discontinued operations separately from continuing operations. This Statement is
effective for financial statements issued for fiscal years beginning after
December 15, 2001, and generally is to be applied prospectively. The Company
adopted SFAS 144 on January 1, 2002. Such adoption did not have a material
effect on the Company's financial position, operations or cash flows.
NOTE 3-ACCRUED LIABILITIES
Accrued liabilities are comprised of the following:
December 31,
-------------------
2001 2000
-------- --------
Taxes other than income $ 91,695 $ 29,649
Accrued LNG cost 270,000 --
Other accrued liabilities 47,894 102,468
-------- --------
Accrued Liabilities $409,589 $132,117
======== ========
NOTE 4-FIXED ASSETS
Fixed assets consist of the following:
December 31,
--------------------
2001 2000
--------- --------
Furniture and fixtures $ 48,618 $ 43,391
Computers and office equipment 342,674 132,673
Other 253,566 60,977
--------- --------
644,858 237,041
Less accumulated depreciation (228,626) (30,837)
--------- --------
Fixed assets, net $ 416,232 $206,204
========= ========
Depreciation expense related to the Company's fixed assets totaled
$197,789, $347,865 and $161,458 for
43
CHENIERE ENERGY, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
the years ended December 31, 2001, 2000 and 1999, respectively.
NOTE 5-OIL AND GAS PROPERTIES
Investments in oil and gas properties were as follows:
December 31,
--------------------------
2001 2000
------------ -----------
Oil and gas properties:
Proved $ 12,308,315 $10,951,317
Unproved 16,236,962 18,253,731
------------ -----------
28,545,277 29,205,048
Less accumulated depreciation,
depletion and amortization (10,379,191) (4,223,704)
------------ -----------
$ 18,166,086 $24,981,344
============ ===========
Depreciation, depletion and amortization of oil and gas property costs
totaled $1,029,239, $3,023,518 and $1,200,186 for the years ended December 31,
2001, 2000 and 1999, respectively. Depreciation, depletion and amortization per
equivalent Mcf (using an Mcf-to-barrel conversion factor of 6 to 1) was $1.84,
$2.04 and $1.84 for the year ended December 31, 2001, 2000 and 1999,
respectively.
Costs incurred for unproved oil and gas properties were $4,807,808 in
2001 and $6,603,296 in 2000. The Company believes that all unproved property
costs will be evaluated within six years.
At June 30, 2001 and September 30, 2001, the Company's capitalized
costs exceeded its capitalization ceiling, resulting in ceiling test write-downs
totaling $5,126,248 for the year ended December 31, 2001.
The Company has made substantial investments in acquiring, processing
and reprocessing its seismic databases covering a 6,800-square-mile project area
offshore Texas and Louisiana and a 228-square-mile project area onshore and
offshore Louisiana. The costs of these projects become subject to amortization
on a ratable basis as the oil and gas reserves expected to be recovered from the
projects are discovered. The Company began drilling prospects identified within
its seismic databases in 1999, but did not participate in the drilling of any
wells in 2000 or 2001. Interpretation of this data and related prospect
generation is ongoing.
In September 2001, Cheniere paid $500,000 to acquire all rights to its
228-square-mile proprietary seismic database from the industry partner with whom
it had jointly owned the data since 1996. Cheniere subsequently sold the seismic
data to a seismic marketing company for $2,500,000 and a 50% share in licensing
proceeds generated by the marketing company. Proceeds from the September 2001
sale of 3D seismic data were recorded as a reduction to the Company's unproved
oil and gas property costs. Cheniere retained a license to all of the seismic
data for use in its exploration program.
NOTE 6-EXPLORATION AGREEMENT
On March 10, 2000, Cheniere entered into an exploration agreement with
an industry partner. Under the terms of the agreement, Cheniere's exploration
partner acquired an option to participate at a 50% working interest level in any
drilling prospects generated by Cheniere over the subsequent eighteen-month
period within a defined area of mutual interest in the Gulf of Mexico. Pursuant
to the exploration agreement, Cheniere received a fixed management fee of
$230,000 per month over the eighteen-month term of the agreement. In addition,
Cheniere's partner paid a disproportionate share of the cost of leasing and of
the initial test well on each prospect. Cheniere was the operator of the
drilling program. Management fees received by Cheniere in 2000 totaled
$1,684,193 and were reported as a $988,548 recovery of general and
administrative expenses attributable to generating the management fee and a
$695,645 reduction to the amount of general and administrative expenses which
were capitalized as oil and gas property costs. Each such portion of the
management fee was allocated based on the historical cost and expense structure
of the Company. In October 2000, Cheniere assigned its rights and obligations
under this agreement to Gryphon, its unconsolidated affiliate, in connection
with the Company's investment in Gryphon, as described in
44
CHENIERE ENERGY, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
Note 7.
NOTE 7-INVESTMENT IN UNCONSOLIDATED AFFILIATE
On October 11, 2000, Cheniere completed a transaction with Warburg to
fund its exploration program on approximately 8,800 square miles of seismic data
in the Gulf of Mexico (the Louisiana Data Set) through a newly formed affiliated
company, Gryphon. Cheniere contributed selected assets and liabilities in
exchange for 100% of the common stock of Gryphon (36.8% voting interest after
conversion of preferred stock) and $2,000,000 in cash. Such assets included: the
Louisiana Data Set, certain offshore leases, a prospect then being drilled, its
exploration agreement with an industry partner and certain other assets and
liabilities. The net book value of the assets and liabilities contributed was
$7,065,919, which consisted of assets of $9,115,963 (primarily unproved oil and
gas property) and liabilities of $2,050,044 (primarily accounts payable).
Warburg contributed $25,000,000 and received preferred stock, with an 8% accrued
dividend, convertible into 63.2% of Gryphon's common stock. Cheniere accounted
for the contribution of net assets at its historical cost, whereby the net
amount of such assets and liabilities less the $2,000,000 in cash was
reclassified to investment in affiliate. No gain or loss was recognized at the
time of contribution, primarily due to Cheniere's commitment to provide
additional funding described above and due to the uncertainty of realization of
the carrying value of the contributed unproved oil and gas properties.
Cheniere and Warburg also have the option, in connection with
subsequent capital calls made by Gryphon, to contribute up to an additional
$75,000,000 to Gryphon, proportionate to their respective ownership interests.
Under the terms of the agreement governing these additional contributions, in
the event that either Cheniere or Warburg elects not to participate in any
additional contribution, the other investor has the option to purchase the
non-participating investor's proportionate share. Assuming (i) that Gryphon
makes subsequent capital calls for an aggregate of $75,000,000, (ii) that
Cheniere elects not to participate in any of the capital calls and (iii) that
Warburg elects to purchase all of Cheniere's proportionate share, and giving
effect to Cheniere's sale to Gryphon of 6,740 shares of Gryphon common stock in
July 2001 and its sale to Gryphon of 51,400 shares of Gryphon common stock in
March 2002 (See Note 16), the Company's effective interest in Gryphon, after
giving effect to the conversion of Gryphon's preferred stock, will be reduced to
8.0%.
During 2001, Gryphon made cash calls totaling $30,000,000 against its
capital commitment of $75,000,000. Cheniere declined to participate in such cash
calls, and Warburg elected to purchase all of Cheniere's proportionate share of
such cash calls. Also during 2001, Cheniere transferred 6,740 shares of Gryphon
common stock to Gryphon in connection with the sale of licenses to certain
seismic data. As a result of these transactions, Cheniere's ownership interest
in Gryphon, after the effect of converting preferred stock into common stock,
was reduced from 36.8% at December 31, 2000 to 20.2% as of December 31, 2001. In
March 2002, Cheniere sold 51,400 shares of its Gryphon common stock to Gryphon,
subject to certain repurchase options, thereby further reducing Cheniere's
interest to 13.7% on an as-converted basis. (See Note 16.)
In connection with the seismic license contributed to Gryphon upon its
formation, Cheniere entered into an agreement with the third party issuer of the
license. The agreement provides that Cheniere will pay a transfer fee to the
third party in an aggregate amount of up to $2,500,000. Such transfer fee is
contingent upon Gryphon's completion of up to ten successful wells during the
license period and within the license area. Upon Gryphon's completion of such a
well, an amount of $250,000 is payable by Cheniere one month after production
commences. If such amount is not paid at the end of the one-month period, it
will bear interest of 18% per annum from such date until paid. Any transfer fees
payable will be recorded as additions to Cheniere's investment in Gryphon. As of
December 31, 2001, two such installments, totaling $500,000, were payable. (See
Note 16 for a discussion of the settlement and full discharge of these
obligations in March 2002.)
Cheniere accounts for its investment in Gryphon using the equity
method of accounting. Although Cheniere's participation on the Gryphon board of
directors provides significant influence over the operating and financial
policies of Gryphon, Cheniere does not participate in the day-to-day management
of Gryphon, does not exercise control over Gryphon and cannot effect a change in
the management of Gryphon. Cheniere's equity share of Gryphon's losses for the
period from October 11, 2000 through December 31, 2000 was $426,649, calculated
by applying Cheniere's 100% common stock ownership interest to Gryphon's net
income of $19,003 and reducing such result for Gryphon's preferred dividend
arrearages of $445,652. For 2001, Cheniere's equity share of Gryphon's losses
was $2,974,191, calculated by applying Cheniere's 100% common stock ownership
interest to Gryphon's net
45
CHENIERE ENERGY, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
income of $84,000 and reducing such result for Gryphon's preferred dividend
arrearages of $3,058,191 for the year. At such time as Warburg converts its
preferred shares to common shares, Cheniere's equity share of Gryphon's earnings
(losses) will be calculated using the effective ownership interest at the time
of such conversion, and will no longer be reduced by preferred dividends.
Gryphon's preferred stock is convertible at the option of the holder at a rate
of $100 per share of common stock at any time after the holders of a majority of
the preferred stock execute a written consent permitting a conversion of the
preferred stock or, if earlier, at any time after August 31, 2010. In the event
the holders of a majority of the preferred stock vote to convert all of their
shares of preferred stock into common stock, all shares of preferred stock shall
automatically be converted, without further action by Gryphon or its
shareholders. In addition, Gryphon has the right, at its option, to convert
shares of preferred stock into common stock upon Gryphon's closing of a firm
commitment qualified public offering.
Summarized financial information relative to Gryphon is set forth
below (in thousands):
December 31,
-----------------
2001 2000
------- -------
Current assets $14,864 $24,042
Oil and gas properties, full cost method 53,551 18,196
Noncurrent cash deposits -- 2,608
Fixed assets 616 651
Current liabilities 5,001 11,125
Long-term liabilities -- --
Deferred tax liabilities 1,182 1,184
Year Ended December 31,
-----------------------
2001 2000
------- ------
Revenues $ 2,382 $ --
Income from continuing operations 82 29
Net income 84 19
Cheniere's equity in losses from unconsolidated affiliate (2,974) (427)
The following items represent the differences between Cheniere's
equity share of Gryphon net assets and the balance in Cheniere's investment in
unconsolidated affiliate (in thousands).
Year Ended December 31,
-----------------------
2001 2000
----------- ---------
Cheniere's equity share of Gryphon's net assets $ 7,848 $ 8,189
Preferred stock dividends in arrears (3,504) (446)
Excess of Cheniere cost basis (1,500) (2,000)
Gryphon offering expenses 903 896
------- -------
Cheniere's investment basis $ 3,747 $ 6,639
======= =======
NOTE 8-NOTES PAYABLE
At December 31, 2001 and 2000, Cheniere had no outstanding debt
obligations. Set forth below is a description of financing facilities used by
the Company under which financing cash inflows and outflows occurred during the
three years ended December 31, 2001.
46
CHENIERE ENERGY, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
April 2000 - $2,000,000 Bridge Financing
In April 2000, the Company established a bridge financing facility
which provided for: borrowings of up to $2,000,000 bearing interest at a rate
equal to LIBOR plus 2%, a placement fee equal to 2% of the commitment amount,
the issuance of warrants to purchase 250,000 shares of common stock at an
exercise price of $4.00 per share on or before September 6, 2003, and conversion
of the notes payable into common stock, at Cheniere's election, at a price per
share equal to $2.00 per share. Cheniere borrowed an aggregate of $2,000,000
under the facility during 2000. In September 2000, the Company repaid $500,000
in cash and issued 250,000 shares to satisfy an additional $500,000. In December
2000, Cheniere repaid the remaining balance of $1,000,000 plus accrued interest.
September 1999 - $3,100,000 Platform Financing
On September 1, 1999, Cheniere established a $3,100,000 financing
facility to fund a production platform and other exploration and development
costs in the West Cameron Block 49 area. Borrowings under the facility were
repaid from Cheniere's share of net cash flow from production through the West
Cameron Block 49 platform. The note was secured by Cheniere's oil and gas
properties and had a maturity date of June 30, 2000. Financing costs included
interest at 10% per annum and a 5% net profit interest in the initial two wells
producing through the platform. During 2000, the Company borrowed an additional
$605,000 under the same facility and repaid all principal and interest due
thereunder.
December 1999 - $1,117,570 Well Services Financing
In December 1999, Cheniere entered into a financing agreement with a
supplier of well services to consolidate and convert trade accounts payable
balances into a short-term secured note payable. Interest was payable at 10% per
annum. The note was secured by Cheniere's oil and gas properties and matured on
July 5, 2000. All principal and related interest under the agreement were repaid
during 2000.
December 1997 - $4,000,000 Bridge Financing
In December 1997, Cheniere completed the private placement of a
$4,000,000 bridge financing. The notes payable issued by Cheniere had an initial
maturity date of March 15, 1998, which was extended ultimately to March 15,
2000, when the then-remaining balance of $755,000 was paid.
NOTE 9-INCOME TAXES
From its inception, the Company has recorded losses for both financial
reporting purposes and for federal income tax reporting purposes. Accordingly,
the Company is not presently a taxpayer and has not recorded a provision for
income taxes in any of the periods presented in the accompanying financial
statements.
At December 31, 2001, the Company had net operating loss (NOL)
carryforwards for tax reporting purposes of approximately $31,898,180. In
accordance with SFAS No. 109, a valuation allowance equal to the net tax benefit
for deferred taxes has been established due to the uncertainty of realizing the
benefit of such NOL carryforwards.
Deferred tax assets and liabilities reflect the net tax effect of
temporary differences between the carrying amount of assets and liabilities for
financial reporting purposes and amounts used for income tax purposes.
Significant components of the Company's deferred tax assets and liabilities at
December 31, 2001 and 2000 are as follows:
47
CHENIERE ENERGY, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
Year Ended December 31,
--------------------------
2001 2000
------------ -----------
Deferred tax assets
NOL carryforwards $ 11,802,327 $ 6,267,000
Oil and gas properties and fixed assets (150,330) --
------------ -----------
11,952,657 6,267,000
============ ===========
Deferred tax liabilities
Oil and gas properties and fixed assets -- 971,880
Investment in unconsolidated affiliate 560,532 1,642,160
------------ -----------
560,532 2,614,040
------------ -----------
Net deferred tax assets 11,392,125 3,652,960
Less: valuation allowance (11,392,125) (3,652,960)
------------ -----------
$ -- $ --
============ ===========
NOL carryforwards expire starting in 2006 extending through 2022. NOLs
incurred prior to July 3, 1996 (approximately $747,000) are subject to per year
availability under Internal Revenue Code Section 382 change of ownership
limitations. Certain of the Company's NOLs incurred after July 3, 1996 are also
subject to an annual limitation of approximately $2,000,000 under Section 382.
The gross change in the valuation allowance for deferred tax assets
was approximately $7,739,165, $679,000 and $1,420,000 during the years ended
December 31, 2001, 2000 and 1999, respectively.
NOTE 10-WARRANTS
As of December 31, 2001, Cheniere has issued and outstanding 2,850,288
warrants for the purchase of its common stock. The Company has reserved an equal
number of shares of common stock for issuance upon the exercise of its
outstanding warrants. Warrants issued by the Company do not confer upon the
holders thereof any voting or other rights of a stockholder of the Company. The
Company has granted warrants in connection with certain of its debt or equity
financings and as compensation for services. In instances where warrants were
granted in connection with financings, such warrants were valued based on the
estimated fair market value of the stock at the date of issuance. Where warrants
were issued for services, fair value was calculated using the Black-Scholes
pricing model. The terms of warrants outstanding at December 31, 2001 range from
three years to six years, with a weighted average remaining life of 1.8 years at
December 31, 2001. All outstanding warrants are fully exercisable. Prices at
which the warrants are exercisable range from $1.75 to $11.50 per share, with a
weighted average exercise price of $4.47 per share at December 31, 2001.
Information related to Cheniere's warrants is summarized in the following table:
December 31,
------------------------------------
2001 2000 1999
---------- ---------- ----------
Outstanding at beginning of period 2,758,621 2,116,951 1,200,834
Warrants issued 91,667 1,291,462 941,117
Warrants exercised -- (234,375) (25,000)
Warrants canceled -- (415,417) --
---------- ---------- ----------
Outstanding at end of period 2,850,288 2,758,621 2,116,951
========== ========== ==========
Weighted average exercise price of warrants outstanding $ 4.47 $ 4.52 $ 5.94
========== ========== ==========
Weighted average remaining contractual life of warrants outstanding 1.8 years 2.5 years 3.0 years
48
CHENIERE ENERGY, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
Weighted Average
Exercise Number Years Remaining
Prices Outstanding Contractual Life
- ------------ ----------- ----------------
$9.50-$11.50 25,000 2.7
$7.00-$8.00 313,542 2.0
$5.00-$6.00 794,384 1.2
$4.00 992,350 1.4
$3.00 350,012 2.2
$1.75 375,000 3.5
---------
2,850,288
=========
In February 2001, the Company issued to one stockholder 250,000 units,
each unit consisting of one share of common stock, $.003 par value per share,
and one warrant to purchase one-sixth of a share of common stock. The 41,667
warrants issued in connection with this sale of units are exercisable at a price
of $3.00 per share on or before December 31, 2003.
In May 2001, as compensation for assistance in the Company's listing
on The American Stock Exchange, Cheniere issued to a consultant warrants to
purchase 50,000 shares of common stock at an exercise price of $3.00 per share,
exercisable on or before April 30, 2005.
NOTE 11-STOCK-BASED COMPENSATION
In 1997, the Company established the Cheniere Energy, Inc. 1997 Stock
Option Plan (the Option Plan), which allows for the issuance of options to
purchase up to 1,500,000 shares of Cheniere common stock. The Company has
reserved 1,500,000 shares of common stock for issuance upon the exercise of
options which have been granted or which may be granted. As of December 31, 2001
the Company had granted options on 1,741,111 shares, 241,111 being subject to
ratification through amendment of the Option Plan. The term of options granted
under the Option Plan is generally five years. Vesting varies, but generally
occurs over three or four years, in increments of 33% or 25%, respectively, on
each anniversary of the grant date. All options granted under the Option Plan
have exercise prices equal to or greater than fair market value at the date of
grant.
A summary of the status of the Company's stock options is presented
below:
December 31,
----------------------------------
2001 2000 1999
---------- --------- ---------
Outstanding at beginning of period 884,236 540,299 171,611
Options granted at an exercise price of $12.00 per share -- -- 8,750
Options granted at an exercise price of $6.00 per share -- 83,750 368,375
Options granted at an exercise price of $2.75 per share -- 450,875 --
Options granted at an exercise price of $2.38 per share 20,000 -- --
Options granted at an exercise price of $2.16 per share 20,000 -- --
Options granted at an exercise price of $1.94 per share -- 380,000 --
Options granted at an exercise price of $1.70 per share 100,000 -- --
Options granted at an exercise price of $1.06 per share 760,000 -- --
Options canceled (43,125) (570,688) (8,437)
---------- --------- ---------
Outstanding at end of period 1,741,111 884,236 540,299
========== ========= =========
Exercisable at end of period 664,444 220,799 190,299
========== ========= =========
Weighted average exercise price of options outstanding $ 2.21 $ 3.45 $ 6.32
========== ========= =========
Weighted average exercise price of options exercisable $ 3.16 $ 5.03 $ 6.56
========== ========= =========
Weighted average fair value of options granted during the period $ 0.76 $ 1.39 $ 3.40
========== ========= =========
Weighted average remaining contractual life of options outstanding 4.1 years 4.3 years 4.7 years
The following table summarizes information about fixed options outstanding at
December 31, 2001:
49
CHENIERE ENERGY, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
Options
Options Outstanding Exercisable
------------------------------ -----------
Weighted Average
Exercise Number Years Remaining Number
Prices Outstanding Contractual Life Outstanding
- -------- ----------- ---------------- -----------
$12.00 8,750 1.3 8,750
$ 7.20 4,861 1.9 4,861
$ 6.00 210,000 2.8 175,000
$ 2.75 237,500 3.4 137,500
$ 2.38 20,000 4.0 --
$ 2.16 20,000 4.1 --
$ 1.94 380,000 3.8 171,667
$ 1.70 100,000 4.7 33,333
$ 1.06 760,000 4.9 133,333
--------- -------
1,741,111 664,444
========= =======
The fair value of options is calculated using the Black-Scholes
option-pricing model. Assumptions used in the pricing model and pro forma
effects on the Company's net losses had it adopted the optional recognition
provisions of SFAS No. 123 are summarized in the following table. The effects of
applying SFAS No. 123 in this pro forma disclosure are not indicative of future
amounts.
Year Ended December 31,
----------------------------------------
2001 2000 1999
------------ ----------- -----------
Dividend yield 0.0% 0.0% 0.0%
Weighted average volatility 84.3% 82.0% 124.0%
Risk-free interest rate 3.5% 5.8% 6.3%
Expected lives of options 4.0 years 4.0 years 3.0 years
Net loss $(11,665,262) $ (780,980) $(1,753,723)
Net loss per share (basic and diluted) $ (0.89) $ (0.07) $ (0.27)
Pro forma net loss $(12,092,837) $(1,019,208) $(3,184,723)
Pro forma net loss per share (basic and diluted) $ (0.93) $ (0.09) $ (0.49)
In June 1999, the Company issued 250,000 warrants to its president and
chief executive officer and 50,000 warrants to another member of its board of
directors, both of whom were instrumental in negotiating the Company's license
of 8,800 square miles of 3-D seismic data in the Gulf of Mexico. Warrants issued
in connection with this transaction are exercisable on or before the fifth
anniversary of the date the transaction closed at an exercise price of $6.00 per
share. The 250,000 warrants issued to Cheniere's president and chief executive
officer were canceled in October 2000, when he resigned from Cheniere to become
president and chief executive officer of Gryphon. An additional 250,000 warrants
were issued to Cheniere's new president and chief executive officer in October
2000, pursuant to the terms of his employment agreement. The fair value of these
warrants is included in the above pro forma net loss calculated under SFAS No.
123.
NOTE 12-RELATED PARTY TRANSACTIONS
In April 2001, the Company sold an interest in a prospect to Gryphon.
Gryphon paid Cheniere $225,563 for a 50% interest in the related leases and will
pay a disproportionate share of the drilling costs on terms representative of
what a third party would pay for participation in the prospect generated by
Cheniere.
In June 2001, Cheniere sold to Gryphon for $3,500,000 one of its two
licenses to certain 3D seismic data covering 3,800 square miles. Gryphon paid
$853,197 in cash to Cheniere and agreed to pay $2,646,803 of Cheniere's
obligations related to the reprocessing of the data. Cheniere is responsible for
the cost of reprocessing
50
CHENIERE ENERGY, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
the remainder of the data ($1,061,692), which is expected to be completed in
2002. Cheniere retains one license to the seismic data. (See Note 16 for
complete discharge of this obligation in March 2002.)
In July 2001, Cheniere sold to Gryphon one of its two licenses to
certain 3D seismic data covering an additional 3,000 square miles. Gryphon
agreed to pay Cheniere's accounts payable of $1.3 million and the remaining
commitment of $2.9 million related to the reprocessing of the data. In
connection with the transaction, Cheniere also transferred to Gryphon 6,740
shares of Gryphon common stock, valued at approximately $418,000 or $62 per
share, based on the estimated fair market value of the Gryphon common stock,
which considered the fair value of such stock at the formation of Gryphon and
any significant changes in Gryphon's operations or market conditions since that
date. The proceeds at closing of $1.3 million were allocated as a reduction to
the carrying amount of Cheniere's investment in Gryphon ($418,000) and unproved
oil and gas properties ($882,000). Cheniere retains one license to the seismic
data. At December 31, 2001, Cheniere has included $376,493 in accounts
receivable and in accounts payable related to reprocessing charges which are to
be paid by Gryphon.
In September 2001, the Company made a payment of $40,000 to its
chairman representing consulting fees for the months of October 2001 through
January 2002. The unearned balance of $10,000 is included in prepaid expenses at
December 31, 2001.
Under the terms of the Contribution and Subscription Agreement dated
October 11, 2000 by and among the Company, Gryphon and the other investors
listed therein, Gryphon provided office space to Cheniere at no cost from the
closing date of October 11, 2000 until Cheniere relocated in December 2000, and
Cheniere provided accounting and cash management services to Gryphon without
charge for six months following the closing date. The values of the office space
and the accounting and cash management services offset and were not significant
to the Company.
In 2000, Cheniere served as contract operator for the well contributed
to Gryphon on which drilling was underway at the date of Gryphon's inception.
Cheniere received industry standard overhead reimbursements from all working
interest owners, including Gryphon, in accordance with the terms of the joint
interest operating agreement.
BSR Investments, Ltd., a major stockholder of the Company controlled
by the mother of Charif Souki, Chairman of Cheniere, purchased $2,000,000 of the
notes issued in the Company's $4,000,000 December 1997 Bridge Financing and
pledged a portion of its investment in Cheniere common stock to fund its
participation. In March 1999, BSR exchanged notes payable of $2,000,000 for
694,445 shares of Cheniere common stock ($2.88 per share).
In May 1999, BSR purchased from another noteholder $240,000 in
short-term notes payable by Cheniere. In July 1999, the Company repaid $120,000
to BSR at the time it repaid 50% of the outstanding balances on all of the notes
issued in the December 1997 Bridge Financing. On September 30, 1999, BSR
exchanged its remaining $120,000 note payable and $1,000 in accrued interest for
27,500 units ($4.40 per unit), each unit representing one share of common stock
and one half warrant to purchase a share of common stock at an exercise price of
$6.00 per share, exercisable on or before September 30, 2002.
In conjunction with certain of the Company's private placements of
equity, placement fees have been paid to Investors Administration Services,
Limited (IAS), a company in which the brother of Charif Souki, Cheniere's
chairman, is a principal. Placement fees paid to IAS totaled $30,000 for 2001,
$99,000 for 2000 and $562,372 for 1999. As of December 31, 2001, the Company had
accrued placement fees of $30,000 included in accrued liabilities. Such payments
made in 2000 and 1999 were recorded as offering costs and reflected as a
reduction of additional paid-in capital. Payments made in 2001 were expensed. In
addition, in connection with the sale in 1999 of 2,620,758 units (of common
stock and warrants), Cheniere granted to IAS, or its assigns, warrants to
purchase 161,250 shares of common stock at an exercise price of $4.00 per share,
exercisable on or before December 30, 2002.
NOTE 13-COMMITMENTS AND CONTINGENCIES
Lease Commitments
In November 2000, the Company entered into an office lease agreement
with a term which runs through
51
CHENIERE ENERGY, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
March 31, 2003. Future minimum lease payments are $128,465 and $32,116 for the
years ended December 31, 2002 and 2003, respectively. Effective in October 2000,
Cheniere assigned its rights and obligations under its previous office lease
agreement to Gryphon. Cheniere's total rental expense for office space for the
years ended December 31, 2001, 2000 and 1999 was $157,146, $222,394 and
$229,381, respectively. Cheniere also leases exploration software at a cost of
$30,000 per month on a term which runs through December 2003.
Seismic Commitments
In June 1999, Cheniere entered into a master license agreement
covering the license of approximately 8,800 square miles of seismic data in the
Gulf of Mexico. In connection with the license agreement, the Company made a
commitment to reprocess certain of the seismic data and to pay a fee for such
reprocessing as the reprocessed data are delivered. In October 2000, Cheniere's
rights and obligations arising from this license agreement were assigned to
Gryphon. Related to the assignment of this license, Cheniere is obligated to pay
a transfer fee of up to $2,500,000, payable in ten installments of $250,000,
which become payable one month after production commences from each of ten
separate successful wells completed by Gryphon within the data set. As of
December 31, 2001, Cheniere owed $500,000 in such transfer fees.
In 2000, Cheniere entered into agreements whereby Cheniere acquired
licenses to seismic data covering 6,800 square miles in the Gulf of Mexico in
exchange for its commitment to fund the third-party reprocessing of the data.
The Company had a commitment to fund approximately $8,500,000 for the
third-party processing of such data. In 2001, Cheniere sold to Gryphon one
license to the data and 6,740 shares of Gryphon common stock in exchange for
$853,197 in cash and Gryphon's agreement to pay $6,820,824 of the current and
future reprocessing obligations, leaving Cheniere with a $1,061,692 contingent
liability for future reprocessing. Cheniere retained one license to the data. In
the event the reprocessing is not completed, the Company would retain the data
in the existing format and would not be required to pay any additional amounts.
In March 2002, the Company sold 51,400 shares of its Gryphon common
stock to Gryphon, subject to certain repurchase options. In exchange for the
shares, Gryphon agreed to make payment on Cheniere's behalf of these existing
and contingent liabilities totaling $3,561,692.
See Note 16 for complete discharge in March 2002 of all of the
existing and contingent seismic obligations described above.
Gryphon Capital Commitments
Under the terms of the Contribution and Subscription Agreement dated
October 11, 2000 by and among the Company, Gryphon and the other investors
listed therein, Cheniere and the other investors have the option under certain
circumstances to contribute their pro rata shares of as much as an additional
$75,000,000 to Gryphon. The amount of such contributions, if any, will depend on
the future cash requirements of Gryphon. During 2001, Warburg made $30,000,000
in contributions. Cheniere may choose to make such contributions in the future
to maintain its then-current voting ownership interest in Gryphon or it may
choose to contribute a lesser amount or zero, in which case its ownership
interest in Gryphon would be reduced. If the Company elects not to fund its
pro-rata portion of such capital calls, and Warburg funds its portion, as they
would be entitled, the Company will suffer dilution of its holdings in Gryphon
from 20.2% to 12.2% (8% after consideration of the March 2002 transaction --see
Note 16), on an as-converted basis.
LNG Commitments
In April 2001, the Company has engaged research consultants in
connection with the development of its LNG receiving terminal business. The
consultants are working on the project on a non-cash, retainer basis at a rate
of $30,000 per month for 30 months, which amount is to be paid in the form of an
equity ownership equal to 4.5% of the economic value of the LNG project at the
time the project is financed.
In connection with the Company's acquisition of its Freeport, Texas
LNG receiving terminal site option in 2001, Cheniere issued 500,000 shares of
common stock valued at $1,150,000 or $2.30 per share, the closing price of the
Company's common stock on the date of the transaction. Additionally, Cheniere
has committed to issue 750,000 shares of its common stock to the seller of the
option at such time as Cheniere receives a permit for the construction of an LNG
receiving terminal, and Cheniere will receive no additional consideration.
Cheniere is also obligated to
52
CHENIERE ENERGY, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
pay to the seller of the option an overriding royalty interest equal to
approximately 10% of processing revenues from the LNG receiving terminals which
Cheniere develops. Under the terms of the Freeport lease option, the Company is
obligated to make semi-annual payments of $125,000 commencing in September 2001
and continuing throughout the 3-year term of the lease option. Such option
payments have been and will be applied toward lease rentals upon the execution
of a long-term lease.
In connection with Cheniere's acquisition of its option to lease the
Brownsville, Texas LNG terminal site, Cheniere paid $33,600 for a one-year
option commencing in July 2001. Such option is renewable for two additional
one-year periods for additional consideration of $33,600 per year.
Cheniere obtained a one-year purchase option to acquire the LNG
terminal site in Sabine Pass, Texas, commencing in November 2001, in exchange
for initial consideration of $200,000, of which $75,000 was paid in cash at
closing and $125,000 is due six months from closing provided that such option
is not terminated at an earlier date. The purchase option is renewable by
Cheniere for up to five additional years for additional consideration equal to
$200,000 per year for the years commencing November 2002 and 2003 and $400,000
for each of the remaining three years.
Legal proceedings
The Company has been and may in the future be involved as a party to
various legal proceedings, which are incidental to the ordinary course of
business. Management regularly analyzes current information and as necessary,
provides accruals for probable liabilities on the eventual disposition of these
matters. In the opinion of management and legal counsel, as of December 31,
2001, there were no threatened or pending legal matters that would have a
material impact on the Company's consolidated results of operations, financial
position or cash flows.
In February 2002, the Company received a copy of a lawsuit styled
Fairfield Industries Incorporated vs. Cheniere Energy, Inc. and Gryphon
Exploration Company, which was filed in district court in Harris County, Texas.
The lawsuit related to a seismic license agreement between Fairfield and
Cheniere, which was later assigned to Gryphon. In the lawsuit, Fairfield alleged
that Cheniere and Gryphon conspired to defraud the plaintiff of certain transfer
payments, which may be owed by Cheniere in connection with the transfer to
Gryphon of the initial seismic contributed at the time of its formation. In
March 2002, Fairfield, Gryphon, and the Company settled this lawsuit (See Note
16). Existing and contingent obligations to Fairfield by Cheniere totaling
$2,500,000 have been fully discharged through agreement by Gryphon to make
current and contingent payments in exchange for the transfer of 30,000 Gryphon
common shares from Cheniere to Gryphon.
NOTE 14-LIQUIDITY
The accompanying financial statements have been prepared on a going
concern basis, which contemplates continuity of operations, realization of
assets and liquidation of liabilities in the ordinary course of business. The
Company has experienced recurring losses from operations and, during 2001, had
negative cash flows from operating activities. In addition, the Company has a
working capital deficiency of $530,242 and an accumulated deficit of $18,024,485
as of December 31, 2001. These considerations raise substantial doubt about
Cheniere's ability to continue as a going concern. Furthermore, the
recoverability of the Company's unevaluated oil and gas properties and
development of its LNG receiving terminal business are dependent on future
events, including obtaining adequate financing for these programs, the
successful reprocessing of the 3D seismic data in the Offshore Texas Project
Area, the successful completion of its planned drilling program, and the
achievement of a level of operating revenues that is sufficient to support the
Company's cost structure. At various times during the life of the Company to
date, it has been necessary for the Company to raise additional capital through
private placements of debt or equity financing. When such a need has arisen, the
Company has met it successfully. It is management's belief that it will continue
to be able to meet its needs for additional capital as such needs arise in the
future.
Cheniere's needs for additional financing include the following:
. Additional capital may be required to pay for Cheniere's share of
costs relating to the drilling of prospects and development of those
that are successful, to exercise lease options and to acquire
additional oil and gas leases. The total amount of the Company's
capital needs will be determined in part by the number of prospects
generated within its exploration program and by the working interest
that the Company retains in those prospects.
. The Company may need capital to fund its pro-rata share of the capital
calls by Gryphon that are approved by Gryphon's board of directors. If
the Company subscribes to its pro-rata portion of such capital calls
but fails to fund, it would lose its ability to subscribe to any
future capital calls and would suffer further dilution of its holdings
in Gryphon. In 2001, Gryphon made cash calls in the aggregate amount
of $30,000,000, which were funded entirely by Warburg, in May, July
and November 2001. Cheniere declined to participate in these cash
calls and its interest in Gryphon has been reduced from 36.8% to 20.2%
on an as-converted basis, as of December 31, 2001. Subsequent to the
period covered by this report, in March 2002, Cheniere sold 51,400
shares of its Gryphon common stock to Gryphon, subject to certain
repurchase options, thereby further reducing Cheniere's interest to
13.7% on an as-converted basis. Also in
53
CHENIERE ENERGY, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
March 2002, Gryphon made a cash call for $5,000,000 and Cheniere
declined to participate. If Warburg funds the full amount of the cash
call in April 2002, as it is entitled to do, Cheniere's effective
interest will be reduced to 12.7%. It is anticipated that Gryphon will
make cash calls for additional funds. The Company's share of such
future capital calls could total up to approximately $5,000,000. If
the Company elects not to fund its pro-rata portion of such capital
calls, and Warburg funds its portion, as they would be entitled to do,
and as they have since the formation of Gryphon, the Company's
ownership percentage of Gryphon's common stock on an as-converted
basis will be further reduced (to as low as 8%) if it chooses not to
participate in such additional cash calls or to exercise its option to
repurchase all or a portion of the 51,400 shares it sold to Gryphon in
March 2002.
. The Company will need substantial additional funds to execute its plan
for developing and implementing an LNG receiving terminal business,
including engineering, environmental, marine, regulatory, construction
and legal work, including any such work involved in permitting and
FERC filings. Such costs are estimated to be approximately $8,000,000
for the two-year period ending December 31, 2003, and include
semi-annual rental payments totaling approximately $500,000 per year
to renew lease and purchase options on potential sites for LNG
receiving terminals.
Additional capital could be obtained from a combination of funding
sources, many of which may have a material adverse effect on the Company's
business, results of operations and financial condition. These potential funding
sources include:
. cash flow from operating activities, which is sensitive to prices the
Company receives for its oil and natural gas,
. borrowings from financial institutions, which may subject the Company
to certain restrictive covenants, including covenants restricting the
Company's ability to raise additional capital or pay dividends,
. debt offerings, which would increase the Company's leverage and add to
its need for cash to service such debt,
. additional offerings of the Company's equity securities, which would
cause dilution of its common stock,
. sales of portions of its working interest in the prospects within its
exploration program, which would reduce future revenues from its
exploration program,
. sale to an industry partner of a participation in the Company's
exploration program, which would reduce future revenues from its
exploration program,
. sale of all or a portion of the Company's producing oil and gas
properties, which would reduce future revenues (see Note 16 in Notes
to the Consolidated Financial Statements concerning the March 2002
agreement to sell the Company's producing oil and gas properties),
. sale of an interest in the Company's LNG project and
. arrangement of a business development loan from, or prepayment of
terminal use fees by, prospective sellers or purchasers of LNG.
Cheniere's ability to raise additional capital will depend on the
results of its operations and the status of various capital and industry markets
at the time such additional capital is sought. Accordingly, capital may not
become available to the Company from any particular source or at all. Even if
additional capital becomes available, it may not be on terms acceptable to the
Company. Failure to obtain additional financing on acceptable terms may have a
material adverse effect on the Company's business, results of operations and
financial condition.
NOTE 15-SUPPLEMENTAL CASH FLOW DISCLOSURES AND DISCLOSURES OF NON-CASH
54
CHENIERE ENERGY, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
TRANSACTIONS
In 2001, Cheniere issued warrants to purchase 50,000 shares of common
stock to a consultant valued at $93,000. The Company issued 500,000 shares
valued at $1,150,00 to acquire an LNG site lease option. The Company sold 6,740
shares of Gryphon common stock with a fair market value of $417,880 to Gryphon
in connection with the sale of a license to 3D seismic data. Additional value
ascribed to sale of seismic was $256,141 (see Note 12). In connection with the
Company's sale of licenses to 3D seismic data to Gryphon, Gryphon assumed
liabilities for reprocessing charges of $6,820,824 and made payment on behalf of
Cheniere in the amount of $5,847,533 during 2001. The Company has accrued
$270,000 as of December 31, 2001, related to an obligation to issue to a
consultant an equity participation in its LNG project. The Company issued 25,000
stock options valued at $17,000 to a consultant for assistance in securing
long-term supplies of LNG.
In 2000, Cheniere issued 16,667 shares of common stock in exchange for
seismic data reprocessing services valued at $50,000. The Company issued 50,000
shares of common stock as a price adjustment to shares issued in 1999 for oil
and gas drilling services. Cheniere issued warrants to purchase 25,000 shares of
common stock (valued at $30,300) as a placement fee in connection with the sale
of securities. The Company issued warrants to purchase 250,000 shares of common
stock (valued at $528,000) in connection with the establishment of a bridge
financing facility. Cheniere issued 250,000 shares of common stock in
satisfaction of $500,000 in short-term notes payable issued under a bridge
financing facility. Cheniere also issued warrants to purchase 250,000 shares of
common stock to its president and chief executive officer in October 2000,
pursuant to his employment agreement. The Company issued its financial advisers
warrants to purchase 125,000 shares of common stock, valued at $164,500, as
consideration for assistance in the capitalization of Gryphon.
In 1999, the Company issued 703,132 shares of common stock in exchange
for $2,025,020 in notes payable and 56,250 shares of common stock in exchange
for $75,000 in notes payable. The Company also issued 36,047 units (each unit
representing one share of common stock and one half of a warrant to purchase one
share of common stock) in exchange for notes payable and accrued interest
totaling $158,608. In March 1999, the Company adjusted the exercise price for
certain warrants (valued at $35,702) in connection with the extension of the
maturity dates of notes payable. Also in 1999, the Company issued 32,773 shares
of common stock and warrants to purchase 95,600 shares of common stock
(collectively valued at $98,197) in connection with the extension of maturity
dates of notes payable. The Company issued 514,366 shares of common stock to
purchase oil and gas services and seismic data valued at $2,828,210. In October
1999, the Company issued warrants to purchase 50,000 shares of common stock
(valued at $200,000) in payment for investor relations consulting services. The
Company issued 37,500 shares (valued at $37,500) in connection with the
employment of one of its executives. The Company issued a short-term note
payable for oil and gas services valued at $1,117,570.
In connection with the Gryphon transaction in October 2000, Cheniere
contributed to Gryphon certain assets and liabilities with a net book value of
$7,065,919 for a 36.8% ownership interest in Gryphon.
The Company paid $105,813, $329,232 and $256,980 for interest in the
years ended December 31, 2001, 2000 and 1999, respectively. The Company has not
paid any income taxes in the three years ended December 31, 2001.
The values of securities issued by the Company in connection with the
transactions described above are based on third party arms-length negotiated
prices.
NOTE 16-SUBSEQUENT EVENTS
In March 2002, the Company entered into a short-term bridge financing
arrangement with an unrelated third party lender. The amount of the borrowing
was $500,000. The term is 120 days. Interest is payable monthly at 10% per
annum. Warrants were issued to the lender for the purchase of 150,000 shares of
Cheniere common stock, exercisable at a price of $2.50 per share on or before
March 7, 2012. Additionally, Cheniere extended the term to March 7, 2012 on
existing warrants for the purchase of 255,417 shares held by parties affiliated
with the lender. The Black-Scholes valuation of warrants issued (150,000 shares)
and of the extension of existing warrants (255,417 shares) in connection with
this financing arrangement totals $241,939. An additional 50,000 warrants are to
be issued to the lender for each month or partial month for which the principal
remains unpaid after April 7, 2002.
55
CHENIERE ENERGY, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
In March 2002, the Company entered into a purchase and sale agreement
for the sale of its proved oil and gas properties. The purchase price, effective
January 1, 2002, is $2,350,000. Net proceeds, after payment of a commission, are
expected to be approximately $2,256,000. Closing is scheduled to occur in April
2002.
Also in March 2002, Cheniere sold 51,400 shares of its Gryphon common
stock, subject to certain repurchase options, thereby reducing its interest in
Gryphon to 13.7% on an as-converted basis. Such sale was made in connection with
settlement of the Fairfield litigation described in Note 13. In connection with
its sale of Gryphon common stock to Gryphon, Cheniere has a one-year option to
repurchase all or a portion of the 51,400 shares at a price of $50 per share if
exercised within 120 days of the sale or at prices increasing ratably thereafter
to approximately $68 per share one year after the sale. As consideration for the
shares, Gryphon has agreed to make payments in full satisfaction of certain
existing and contingent obligations of Cheniere totaling $3,561,692 (see Note
13). Cheniere, Gryphon and Fairfield reached a settlement agreement whereby the
lawsuit and related claims asserted by Fairfield against Cheniere and Gryphon
have been dismissed (See Note 13).
On March 11, 2002, the board of directors of Gryphon approved a cash
call in the amount of $5,000,000. Cheniere's 20.2% share of the cash call is
$1,009,500 and will be payable approximately 30 days from the receipt of the
cash call. Cheniere has elected not to participate in the March 11 cash call.
Assuming that Warburg purchases Cheniere's portion of the cash call, Cheniere's
ownership in Gryphon on an as-converted basis, will be further reduced to 12.7%.
56
CHENIERE ENERGY, INC. AND SUBSIDIARIES
SUPPLEMENTAL INFORMATION TO CONSOLIDATED FINANCIAL STATEMENTS
OIL AND GAS RESERVES AND RELATED FINANCIAL DATA
(unaudited)
Costs Incurred in Oil and Gas Producing Activities
Presented below are costs incurred in oil and gas property
acquisition, exploration and development activities:
Year Ended December 31,
---------------------------------------
2001 2000 1999
----------- ----------- -----------
Acquisition of properties
Proved properties $ -- $ -- $ 1,364,809
Unproved properties 4,807,808 6,603,296 648,498
Exploration costs -- -- 7,675,809
Development costs 99,800 673,136 1,618,609
----------- ----------- -----------
Subtotal 4,907,608 7,276,432 11,307,725
Amounts contributed to
unconsolidated affiliate -- (9,379,534) --
----------- ----------- -----------
Total $ 4,907,608 $(2,103,102) $11,307,725
=========== =========== ===========
Proportional share of
unconsolidated affiliate(1) $36,576,000 $18,196,000 $ --
=========== =========== ===========
(1) Represents Cheniere's proportional share, based on its 100% common stock
ownership, of the costs incurred in oil and gas activities of Gryphon. Upon
the conversion of Gryphon's preferred shares, such proportional share of
Gryphon activities would be reduced to 20.2%, or $7,388,000 for 2001.
Included in the above amounts for the years ended December 31, 2001,
2000 and 1999 were $947,813, $1,897,454 and $1,375,262, respectively, of
capitalized general and administrative expenses and capitalized interest expense
directly related to property acquisition, exploration and development.
Capitalized Costs Related to Oil and Gas Producing Activities
The following table presents total capitalized costs of proved and
unproved properties and accumulated depreciation, depletion and amortization
related to oil and gas producing operations:
December 31,
----------------------------------------
2001 2000 1999
------------ ----------- -----------
Proved properties $ 12,308,315 $10,951,317 $10,659,227
Unproved properties 16,236,962 18,253,731 20,648,923
------------ ----------- -----------
28,545,277 29,205,048 31,308,150
Accumulated depreciation, depletion and amortization (10,397,191) (4,223,704) (1,200,186)
------------ ----------- -----------
$ 18,166,086 $24,981,344 $30,107,964
============ =========== ===========
Proportional share of unconsolidated affiliate(1) $ 53,551,000 $18,196,000 $ --
============ =========== ===========
(1) Represents Cheniere's proportional share, based on its 100% common stock
ownership, of the capitalized costs related to oil and gas producing
activities of Gryphon. Upon the conversion of Gryphon's preferred shares,
such proportional share of Gryphon's capitalized costs related to oil and
gas producing activities would be reduced to 20.2%, or $10,817,000 at
December 31, 2001.
Results of Operations from Oil and Gas Producing Activities
The results of operations from oil and gas producing activities are as follows:
57
CHENIERE ENERGY, INC. AND SUBSIDIARIES
SUPPLEMENTAL INFORMATION TO CONSOLIDATED FINANCIAL STATEMENTS
OIL AND GAS RESERVES AND RELATED FINANCIAL DATA
(unaudited)
Year Ended December 31,
---------------------------------------
2001 2000 1999
----------- ----------- -----------
Revenues $ 2,372,632 $ 5,320,432 $ 1,614,055
Production costs (420,242) (388,637) (128,859)
Depreciation, depletion and amortization (1,029,239) (3,023,518) (1,200,186)
Ceiling write-down (5,126,248) -- --
Income tax benefit (expense) -- -- --
----------- ----------- -----------
Results of operations from oil and gas producing activities
(excluding corporate overhead and interest costs) $(4,203,097) $ 1,908,277 $ 285,010
=========== =========== ===========
Equity in results of operations from oil and gas
producing activities (excluding corporate overhead
and interest costs) of unconsolidated affiliate(1) $ 907,000 $ -- $ --
=========== =========== ===========
(1) Represents Cheniere's proportional share, based on its 100% common stock
ownership, of the results of operations from oil and gas producing
activities (excluding corporate overhead and interest costs). Such
proportional share will be reduced to 20.2% upon the conversion of
Gryphon's preferred shares, resulting in a decrease in Cheniere's
proportional interest in the results of operations from oil and gas
producing activities to ($183,214) for 2001.
Reserve Quantities
Estimates of proved reserves of Cheniere and the related standardized
measure of discounted future net cash flow information are based on the reports
generated by the Company's independent petroleum engineers (Ryder Scott Company)
in accordance with the rules and regulations of the SEC. The independent
engineers' estimates were based upon a review of production histories and other
geologic, economic, ownership and engineering data provided by the Company.
These estimates represent the Company's interest in the reserves associated with
its properties. All of the Company's oil and gas reserves are located within the
United States or its territorial waters.
The Company's estimates of its proved reserves and proved developed
reserves of oil and gas as of December 31, 2001, 2000 and 1999 and the changes
in its proved reserves are as follows:
2001 2000 1999
-------------------- ------------------- ------------------
Oil Gas Oil Gas Oil Gas
(Bbls) (Mcf) (Bbls) (Mcf) (Bbls) (Mcf)
------- ---------- ------ ---------- ------ ---------
Proved reserves:
Beginning of year 19,874 4,568,000 27,816 5,796,000 -- --
Revisions of prior estimates (2,178) (780,226) (7,200) (354,103) -- --
Production (2,608) (542,774) (3,703) (1,459,897) (2,975) (633,432)
Extensions, discoveries and other additions -- -- 2,961 586,000 30,791 6,429,432
------- ---------- ------ ---------- ------ ---------
End of year 15,088 3,245,000 19,874 4,568,000 27,816 5,796,000
======= ========== ====== ========== ====== =========
Interest in proved reserves of
unconsolidated affiliate - end of year(1) 210,151 17,468,000 2,640 1,674,000 -- --
======= ========== ====== ========== ====== =========
Proved developed reserves:
Beginning of year 16,913 3,982,000 27,816 5,796,000 -- --
======= ========== ====== ========== ====== =========
End of year 15,088 3,245,000 16,913 3,982,000 27,816 5,796,000
======= ========== ====== ========== ====== =========
Interest in proved developed reserves of
unconsolidated affiliate - end of year(1) 192,569 13,022,000 2,640 1,674,000 -- --
======= ========== ====== ========== ====== =========
58
CHENIERE ENERGY, INC. AND SUBSIDIARIES
SUPPLEMENTAL INFORMATION TO CONSOLIDATED FINANCIAL STATEMENTS
OIL AND GAS RESERVES AND RELATED FINANCIAL DATA
(unaudited)
(1) Represents Cheniere's proportional share, based on its 100% common stock
ownership, of the proved reserves and proved developed reserves of Gryphon.
Upon the conversion of Gryphon's preferred shares, such proportional share
of Gryphon reserves would be reduced to 20.2%, or proved reserves of 42,451
Bbls and 3,528,536 Mcf and proved developed reserves of 38,899 Bbls and
2,630,444 Mcf at December 31, 2001. Such reserves were not considered in
the Company's calculation of depreciation, depletion and amortization or
the calculation of its ceiling test.
There are numerous uncertainties inherent in estimating quantities of
proved reserves and in projecting future rates of production and future amounts
and timing of development expenditures, including many factors beyond the
control of the Company. Reserve engineering is a subjective process of
estimating underground accumulations of crude oil and natural gas that cannot be
measured in an exact manner, and the accuracy of any reserve estimate is a
function of the quality of available data and of engineering and geological
interpretation and judgment. Estimates of proved undeveloped reserves are
inherently less certain than estimates of proved developed reserves. The
quantities of oil and gas that are ultimately recovered, production and
operating costs, the amount and timing of future development expenditures,
geologic success and future oil and gas sales prices may all differ from those
assumed in these estimates. In addition, the Company's reserves may be subject
to downward or upward revision based upon production history, purchases or sales
of properties, results of future development, prevailing oil and gas prices and
other factors.
Standard Measure of Discounted Future Net Cash Flows
The standardized measure of discounted future net cash flows was
calculated by applying year-end prices, (adjusted for location and quality
differentials) to estimated future production, less future expenditures (based
on year-end costs) to be incurred in developing and producing the Company's
proved reserves and the estimated effect of future income taxes based on the
current tax law. The resulting future net cash flows were discounted using a
rate of 10% per annum.
The standardized measure of discounted future net cash flow amounts
contained in the following tabulation does not purport to represent the fair
market value of oil and gas properties. No value has been given to unproved
properties. There are significant uncertainties inherent in estimating
quantities of proved reserves and in projecting rates of production and the
timing and amount of future costs. Future realization of oil and gas prices over
the remaining reserve lives may vary significantly from current prices. In
addition, the method of valuation utilized, based on year-end prices and costs
and the use of a 10% discount rate, is not necessarily appropriate for
determining fair value.
The standardized measure of discounted future net cash flows relating
to proved oil and gas reserves is as follows:
December 31,
----------------------------------------
2001 2000 1999
----------- ------------ -----------
Future gross revenues $ 8,076,063 $ 48,989,932 $13,651,636
Less - future costs:
Production (2,570,550) (5,853,817) (2,050,892)
Development (910,800) (2,823,300) (1,516,500)
Income Taxes -- (7,947,748) --
----------- ------------ -----------
Future net cash flows 4,594,713 32,365,067 10,084,244
Less - 10% annual discount for estimated timing of cash flows (1,671,812) (11,747,065) (2,514,115)
----------- ------------ -----------
Standardized measure of discounted future net cash flows $ 2,922,901 $ 20,618,002 $ 7,570,129
=========== ============ ===========
The following table summarizes the principal sources of change in the
standardized measure of discounted future net cash flows:
59
CHENIERE ENERGY, INC. AND SUBSIDIARIES
SUPPLEMENTAL INFORMATION TO CONSOLIDATED FINANCIAL STATEMENTS
OIL AND GAS RESERVES AND RELATED FINANCIAL DATA
(unaudited)
Year Ended December 31,
----------------------------------------
2001 2000 1999
------------ ----------- -----------
Standardized measure - beginning of period $ 20,618,002 $ 7,570,129 $ --
Sales of oil and gas produced, net of production costs (1,952,390) (4,931,795) (1,485,196)
Extensions, discoveries and other additions -- 3,537,975 9,055,325
Revisions to previous quantity estimates, timing and other (675,047) (2,349,930) --
Net changes in prices and production costs (21,242,047) 20,424,190 --
Development costs incurred 99,800 673,136 --
Changes in estimated development costs (1,556,205) -- --
Net changes in income taxes 5,062,716 (5,062,716) --
Accretion of discount 2,568,072 757,013 --
------------ ----------- -----------
Standardized measure - end of period $ 2,922,901 $20,618,002 $ 7,570,129
============ =========== ===========
Standardized measure - end of period - proportional interest in
reserves of unconsolidated affiliate (1) $ 28,778,000 $ 9,138,920 $ --
============ =========== ===========
Current prices at year-end, used in standardized measure
Oil (per barrel) $ 19.00 $ 29.72 $ 25.47
Gas (per mcf) 2.61 10.71 2.34
(1) Represents Cheniere's proportional share, based on its 100% common stock
ownership, of the standardized measure of Gryphon's proved oil and gas
reserves. Such proportional share of Gryphon's standardized measure will be
reduced to 20.2% upon the conversion of Gryphon's preferred shares,
resulting in a decrease in Cheniere's proportional interest in the
standardized measure of unconsolidated affiliate to $5,813,156 at December
31, 2001.
The Company may receive amounts different than those incorporated into
the standardized measure of discounted cash flow for a number of reasons,
including changes in prices. Therefore, the present value shown above should not
be construed as the current market value of the estimated oil and gas reserves
attributable to the Company's properties.
60
CHENIERE ENERGY, INC. AND SUBSIDIARIES
SUPPLEMENTAL INFORMATION TO CONSOLIDATED FINANCIAL STATEMENTS
OIL AND GAS RESERVES AND RELATED FINANCIAL DATA
(unaudited)
Quarterly Financial Data - (unaudited)
First Second Third Fourth
Quarter Quarter Quarter Quarter Year
---------- ----------- ----------- ----------- ------------
Year ended December 31, 2001:
Revenues $ 971,656 $ 774,832 $ 395,540 $ 230,604 $ 2,372,632
Ceiling Test Write-down -- 2,159,645 2,966,603 -- 5,126,248
Gross profit (3) 523,248 (1,904,100) (2,972,576) (64,258) (4,417,686)
Income (loss) from operations (502,374) (3,200,636) (4,130,150) (876,489) (8,709,649)
Net income (loss) (2) (910,851) (3,785,625) (5,057,915) (1,910,871) (11,665,262)
Net loss per share - basic and diluted (2) $ (0.07) $ (0.29) $ (0.38) $ (0.14) $ (0.89)
Year ended December 31, 2000:
Revenues (1) $1,173,605 $ 1,731,078 $ 1,198,052 $ 1,217,697 $ 5,320,432
Gross profit (3) 165,923 546,680 176,474 671,335 1,560,412
Income (loss) from operations (311,086) 353,925 (86,036) (335,050) (378,247)
Net income (loss) (302,377) 358,135 (81,131) (755,607) (780,980)
Net loss per share - basic and diluted $ (0.03) $ 0.03 $ (0.01) $ (0.07) $ (0.07)
(1) Revenues for the first three quarters of 2000 have been revised by
$230,000, $373,333 and $373,334 to present management fees as a
reduction of general and administrative expenses instead of as
revenues as reported in the quarterly financial statements. These
reclassifications had no effect on net income.
(2) Third quarter results in 2001 have been restated to reverse a $425,678
($0.03 per share) gain on sale of unconsolidated affiliate stock.
(3) Revenues less operating expenses other than general and
administrative.
61
Item 9. Changes in and Disagreements with Accountants on Accounting and
Financial Disclosure
None.
PART III
In accordance with paragraph (3) of General Instruction G to form
10-K, Part III of this Report is omitted because the Company will file with the
Securities and Exchange Commission not later than 120 days after the end of the
fiscal year ended December 31, 2001 a definitive proxy statement pursuant to
Regulation 14A involving the election of directors, which proxy statement is
incorporated herein by reference (with the exception of certain portions noted
therein that are not so incorporated by reference).
PART IV
Item 14. Exhibits, Financial Statement Schedules and Reports on Form 8-K
(a) Financial Statements, Schedules and Exhibits
(1) Financial Statements - Cheniere Energy, Inc. and Subsidiaries
Report of Independent Accountants.............................................35
Consolidated Balance Sheet....................................................36
Consolidated Statement of Operations..........................................37
Consolidated Statement of Stockholders' Equity................................38
Consolidated Statement of Cash Flows..........................................39
Notes to Consolidated Financial Statements....................................40
Supplemental Information to the Consolidated Financial Statements.............57
The financial statements of Gryphon Exploration Company, for which
Cheniere uses the equity method of accounting have been filed as part of this
report on Form 10-K. (See Item 14 (d).)
(2) Financial Statement Schedules.
All consolidated financial statement schedules have been omitted
because they are not required, are not applicable, or the required information
has been included elsewhere within this Form 10-K.
(3) Exhibits
Exhibit No Description
- ---------- -----------
3.1 Amended and Restated Certificate of Incorporation of Cheniere
Energy, Inc. (Cheniere) (Incorporated by reference to Exhibit 3.1
of the Company's Quarterly Report on Form 10-Q for the quarter
ended June 30, 1999 (File No. 0-9092) filed on August 16, 1999)
3.2 Certificate of Amendment to the Amended and Restated Certificate
of Incorporation of Cheniere (Incorporated by reference to
Exhibit 3.2 of the Company's Quarterly Report on Form 10-Q for
the quarter ended June 30, 1999 (File No. 0-9092) filed on
August 16, 1999)
3.3 By-laws of Cheniere as amended through April 7, 1997
(Incorporated by reference to Exhibit 3.2 of the Company's Annual
Report on Form 10-K for the year ended December 31, 1998 (File
No. 0-9092)filed on March 29, 1999)
4.1 Specimen Common Stock Certificate of Cheniere (Incorporated by
reference to Exhibit 4.1 of the Company's Registration Statement
on Form S-1 filed on August 27, 1996 (File No. 333-10905) filed
on January 14, 1998)
62
10.1 Cheniere Energy, Inc. 1997 Stock Option Plan (Incorporated by
reference to Exhibit 10.25 of the Quarterly on Form 10-Q for the
quarter ended November 30, 1997 (File No. 0-9092) filed on
January 14, 1998)
63
10.2 Master License Agreement dated June 9, 1999 between Fairfield
Industries Incorporated and Cheniere. Certain information in this
exhibit has been omitted and filed separately with the
Commission. Confidential treatment has been requested with
respect to the omitted portions. (Incorporated by reference to
Exhibit 10.28 of the Quarterly Report on Form 10-Q for the
quarter ended June 30, 1999 (File No. 0-9092) filed on August 16,
1999)
10.3 Supplement Agreement No. 1 to Master License Agreement dated June
9, 1999 between Fairfield Industries Incorporated and Cheniere.
Certain information in this exhibit has been omitted and filed
separately with the Commission. Confidential treatment has been
requested with respect to the omitted portions. (Incorporated by
reference to Exhibit 10.29 of the Quarterly Report on Form 10-Q
for the quarter ended June 30, 1999 (File No. 0-9092) filed on
August 16, 1999))
10.4 First Amendment to Cheniere Energy, Inc. 1997 Stock Option Plan.
(Incorporated by reference to Exhibit 10.26 of the Annual Report
on Form 10-K for the year ended December 31, 1999 (File No.
0-9092) filed on March 29, 2000)
10.5 Exploration Agreement dated as of March 31, 2000 between Cheniere
and Samson Offshore Company. Certain information in this exhibit
has been omitted and filed separately with the Commission.
Confidential treatment has been requested with respect to the
omitted portions. (Incorporated by reference to Exhibit 10.28 of
the Annual Report on Form 10-K for the year ended December 31,
1999 (File No. 0-9092) filed on March 29, 2000)
64
10.6 Seismic Data Purchase Agreement dated June 21, 2000 between
Seitel Data and Cheniere. (Incorporated by reference to Exhibit
10.39 of the Quarterly Report on Form 10-Q for the quarter ended
June 30, 2000 (File No. 0-9092) filed on August 11, 2000)
10.7 Contribution and Subscription Agreement dated October 11, 2000,
by and among the Company, Gryphon Exploration Company and the
other investors listed therein. (Incorporated by reference to
Exhibit 10.1 of the Company's Current Report on Form 8-K filed on
October 20, 2000) (File No. 0-9092))
10.8 Stockholders Agreement dated October 11, 2000. (Incorporated by
reference to Exhibit 10.2 of the Company's Current Report on Form
8-K filed on October 20, 2000 (File No. 0-9092))
10.9 Certificate of Designations, Preferences and Rights of Series A
Convertible Preferred Stock of Gryphon Exploration Company.
(Incorporated by reference to Exhibit 10.3 of the Company's
Current Report on Form 8-K filed on October 20, 2000 (File No.
0-9092))
10.10 Settlement and Purchase Agreement, dated effective as of June 14,
2001 by and between Cheniere Energy, Inc., CXY Corporation, Crest
Energy, L.L.C., Crest Investment Company and Freeport LNG
Terminal, LLC (Incorporated by reference to Exhibit 10.10 of the
Company's Annual Report on Form 10-K for the fiscal year ended
December 31, 2001 (File No. 1-16383) filed on April 1, 2002)
10.11 Stock Purchase Agreement by and between Gryphon Exploration
Company and Cheniere Energy, Inc. dated March 19, 2002
(Incorporated by reference to Exhibit 10.11 of the Company's
Annual Report on Form 10-K for the fiscal year ended December 31,
2001 (File No. 1-16383) filed on April 1, 2002)
21.1 Subsidiaries of Cheniere Energy, Inc. (Incorporated by reference
to Exhibit 21.1 of the Annual Report on Form 10-K for the fiscal
year ended August 31, 1997 filed on October 14, 1997 (File No.
0-9092))
23.1 Consent of PricewaterhouseCoopers LLP
(b) Reports On Form 8-K - None.
(c) Not applicable.
(d) Gryphon Exploration Company Financial Statements, for which Cheniere uses
the equity method of accounting, are filed as a part of this report beginning
on page 67.
65
SIGNATURES
Signatures
Pursuant to the requirements of Section 13 or 15(d) of the Securities
Exchange Act of 1934, the registrant has duly caused this report to be signed on
its behalf by the undersigned, thereunto duly authorized.
CHENIERE ENERGY, INC.
By: /s/ CHARLES M. REIMER
----------------------
Charles M. Reimer
President and Chief Executive Officer
Date: April 23, 2002
66
INDEX TO FINANCIAL STATEMENTS
GRYPHON EXPLORATION COMPANY
Report of Independent Accountants...................................68
Balance Sheets......................................................69
Statements of Income................................................70
Statements of Stockholders' Equity..................................71
Statements of Cash Flows............................................72
Notes to Financial Statements.......................................73
67
Report of Independent Accountants
To the Board of Directors and Stockholders of
Gryphon Exploration Company
In our opinion, the accompanying balance sheets and the related statements of
income, stockholders' equity and cash flows present fairly, in all
material respects, the financial position of Gryphon Exploration Company at
December 31, 2001 and 2000, and the results of its operations and its cash flows
for the year ended December 31, 2001 and for the period from inception (October
11, 2000) through December 31, 2000 in conformity with accounting principles
generally accepted in the United States of America. These financial statements
are the responsibility of the Company's management; our responsibility is to
express an opinion on these financial statements based on our audits. We
conducted our audits of these statements in accordance with auditing standards
generally accepted in the United States of America, which require that we plan
and perform the audit to obtain reasonable assurance about whether the financial
statements are free of material misstatement. An audit includes examining, on a
test basis, evidence supporting the amounts and disclosures in the financial
statements, assessing the accounting principles used and significant estimates
made by management, and evaluating the overall financial statement presentation.
We believe that our audits provide a reasonable basis for our opinion.
Houston, Texas
March 29, 2002
68
GRYPHON EXPLORATION COMPANY
BALANCE SHEETS
(dollars in thousands, except share related items)
December 31, December 31,
ASSETS 2001 2000
------ ------------ ------------
CURRENT ASSETS
Cash and Cash Equivalents $ 7,931 $13,952
Restricted Cash Deposits 1,751 7,172
Receivables from Joint Interest Owners and Revenue Receivables 1,941 1,695
Prepaid Expenses and Other 3,241 1,223
------- -------
Total Current Assets 14,864 24,042
OIL AND GAS PROPERTIES, full cost method
Proved Properties, net 25,484 2,727
Unproved Properties, not subject to amortization 28,067 15,469
------- -------
Total Oil and Gas Properties 53,551 18,196
NONCURRENT RESTRICTED CASH DEPOSITS -- 2,608
FIXED ASSETS, net 616 651
------- -------
Total Assets $69,031 $45,497
======= =======
LIABILITIES AND STOCKHOLDERS' EQUITY
------------------------------------
CURRENT LIABILITIES
Accounts Payable and Accrued Liabilities $ 1,948 $ 3,953
Advances from Joint Interest Owners 566 7,172
Revenue Payable 1,411 --
Short-term Note Payable 1,076 --
------- -------
Total Current Liabilities 5,001 11,125
------- -------
DEFERRED TAX LIABILITY 1,182 1,184
COMMITMENTS AND CONTINGENCIES (NOTE 9)
STOCKHOLDERS' EQUITY
Preferred Stock, $.01 par value
Authorized: 500,000 shares; Issued and Outstanding: 1 --
55,000 shares in 2001 and 25,000 shares in 2000
Common Stock, $.01 par value
Authorized: 4,000,000 shares; Issued and Outstanding: 145,600 shares 1 1
Additional Paid-in-Capital 63,161 33,168
Retained Earnings 103 19
Treasury Stock, 6,740 shares at Cost (418) --
------- -------
Total Stockholders' Equity 62,848 33,188
------- -------
Total Liabilities and Stockholders' Equity $69,031 $45,497
======= =======
The accompanying notes are an integral part of these financial statements.
69
GRYPHON EXPLORATION COMPANY
STATEMENTS OF INCOME
(dollars in thousands)
Inception
(October 11, 2000)
Year ended Through
December 31, 2001 December 31, 2000
----------------- ------------------
Oil and Gas Revenue $2,382 $ --
------ -----
Operating Costs and Expenses
Production Costs 254 --
Depreciation, Depletion and Amortization 1,769 113
General and Administrative Expenses 685 119
------ -----
Total Operating Costs and Expenses 2,708 232
------ -----
Loss from Operations Before Interest Income and Income Taxes (326) (232)
Interest Income 408 261
------ -----
Income From Operations Before Income Taxes 82 29
Income Tax Benefit/(Expense) 2 (10)
------ -----
Net Income $ 84 $ 19
====== =====
The accompanying notes are an integral part of these financial statements.
70
GRYPHON EXPLORATION COMPANY
STATEMENTS OF STOCKHOLDERS' EQUITY
(dollars in thousands)
Common Stock Preferred Stock Additional
----------------- --------------- Paid-In
Shares Amount Shares Amount Capital
-------- ------ ------ ------ ----------
Balance - Date of Inception
(October 11, 2000) -- $-- -- $-- $ --
Issuance of Common Stock 145,600 1 -- -- 9,064
Issuance of Preferred Stock -- -- 25,000 -- 25,000
Offering Costs -- -- -- -- (896)
Net Income -- -- -- -- --
-------- --- ------ --- -------
Balance - December 31, 2000 145,600 1 25,000 -- 33,168
-------- --- ------ --- -------
Treasury Stock (6,740) -- -- -- --
Issuance of Preferred Stock -- -- 30,000 1 29,999
Offering Costs -- -- -- -- (6)
Net Income -- -- -- -- --
-------- --- ------ --- -------
Balance - December 31, 2001 138,860 $ 1 55,000 $ 1 $63,161
======== === ====== === =======
Total
Retained Treasury Stockholders'
Earnings Stock Equity
-------- -------- -------------
Balance - Date of Inception
(October 11, 2000) $ -- $ -- $ --
Issuance of Common Stock -- -- 9,065
Issuance of Preferred Stock -- -- 25,000
Offering Costs -- -- (896)
Net Income 19 -- 19
---- ----- --------
Balance - December 31, 2000 19 -- 33,188
---- ----- --------
Treasury Stock -- (418) (418)
Issuance of Preferred Stock -- -- 30,000
Offering Costs -- -- (6)
Net Income 84 -- 84
---- ----- --------
Balance - December 31, 2001 $103 $(418) $ 62,848
==== ===== ========
The accompanying notes are an integral part of these financial statements.
71
GRYPHON EXPLORATION COMPANY
STATEMENTS OF CASH FLOWS
(dollars in thousands)
Inception
(October 11, 2000)
Year ended Through
December 31, 2001 December 31, 2000
----------------- ------------------
CASH FLOWS FROM OPERATING ACTIVITIES:
Net Income $ 84 $ 19
Adjustments to Reconcile Net Income to
Net Cash Provided by Operating Activities:
Depreciation, Depletion and Amortization 1,769 113
Non-Cash Expense -- 15
Deferred Income Taxes (2) 10
-------- --------
1,851 156
Changes in Operating Assets and Liabilities
Restricted Cash Deposits 5,421 (7,172)
Accounts Receivable (246) (1,695)
Prepaid Expenses (3,084) (181)
Accounts Payable (6,123) 10,962
-------- --------
NET CASH PROVIDED BY (USED IN) OPERATING ACTIVITIES (2,181) 2,071
-------- --------
CASH FLOWS FROM INVESTING ACTIVITIES:
Oil and Gas Property Additions (36,599) (9,546)
Noncurrent Restricted Cash Deposits 2,608 (2,608)
Purchases of Fixed Assets (513) (70)
-------- --------
NET CASH USED IN INVESTING ACTIVITIES (34,504) (12,223)
-------- --------
CASH FLOWS FROM FINANCING ACTIVITIES:
Sale of Preferred Stock 30,000 25,000
Purchase of Treasury Stock (418) --
Offering Costs (6) (896)
Proceeds from borrowings 1,804 --
Repayment of borrowings (716) --
-------- --------
NET CASH PROVIDED BY FINANCING ACTIVITIES 30,664 24,104
-------- --------
NET INCREASE (DECREASE) IN CASH (6,021) 13,952
CASH - BEGINNING OF PERIOD 13,952 --
-------- --------
CASH - END OF PERIOD $ 7,931 $ 13,952
======== ========
The accompanying notes are an integral part of these financial statements.
72
Gryphon Exploration Company
Notes to Financial Statements
(dollars in thousands, except share related items)
NOTE 1-ORGANIZATION AND NATURE OF OPERATIONS
Gryphon Exploration Company, a Delaware corporation, ("Gryphon" or the
"Company") is a Houston-based company formed for the purpose of oil and gas
exploration, development and exploitation. The Company is currently engaged in
the exploration and production for oil and natural gas in the Gulf of Mexico.
The Company began operations October 2000.
On October 11, 2000 ("Inception"), Gryphon completed a transaction
with Warburg, Pincus Equity Partners, L.P. and certain affiliates thereof,
("Warburg") a global private equity fund based in New York, and Cheniere Energy,
Inc. ("Cheniere") to fund an exploration program based upon approximately 8,800
square miles of 3D seismic data in the Gulf of Mexico (the "Fairfield data
set"). Cheniere contributed selected net assets in exchange for 100% of the
common stock of Gryphon. Such assets include: the Fairfield data set, certain
offshore leases, a prospect then being drilled, an exploration agreement with an
industry partner (described in Note 4) and certain other assets and liabilities.
The net assets received from Cheniere were recorded at their estimated fair
value at the date of the transaction. Warburg contributed $25,000 and received
Gryphon Series A preferred stock, with an 8% cumulative dividend (Series A
preferred stock), and which are convertible into 63.2% of Gryphon's common
stock. Cheniere and Warburg also agreed, under certain circumstances, to
contribute an additional $75,000 to Gryphon, proportionate to their respective
ownership interests.
As further discussed in Note 6, in 2001, Warburg and certain employees
of the Company contributed an additional $30,000 in exchange for 30,000 shares
of Series A preferred stock.
NOTE 2-SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Basis of Presentation
The financial statements include the accounts of Gryphon Exploration
Company. As an independent oil and gas producer, the Company's revenue,
profitability and future rate of growth are substantially dependent upon
prevailing prices for natural gas, oil and condensate, which are dependent upon
numerous factors beyond the Company's control, such as economic, political and
regulatory developments and competition from other sources of energy. The energy
markets have historically been very volatile, and there can be no assurance that
oil and gas prices will not be subject to wide fluctuations in the future. A
substantial or extended decline in oil and gas prices could have a material
adverse effect on the Company's financial position, results of operations, cash
flows, access to capital, and on the quantities of oil and gas reserves that may
be economically produced.
Oil and Gas Properties
The Company follows the full cost method of accounting for its oil and
gas properties. Under this method, all productive and non-productive exploration
and development costs incurred in connection with the acquisition, exploration
and development of oil and gas reserves are capitalized in separate cost centers
for each country in which the Company has operations. Such capitalized costs
include lease acquisition, geological and geophysical, and other exploration
work, delay rentals, drilling, completing and equipping oil and gas wells,
together with internal costs directly attributable to property acquisition,
exploration and development activities. The Company will also capitalize
interest costs related to unevaluated oil and gas properties. No interest costs
were capitalized in 2001 or 2000.
The costs of the Company's oil and gas properties, including the
estimated future costs to develop proved reserves, are depreciated using a
units-of-production rate based on estimates of proved reserves. Investments in
unproved properties and major development projects are not amortized until
proved reserves associated with the projects can be determined or until
impairment occurs. Unproved properties are assessed at least annually to
determine whether any impairment has occurred. If the net capitalized costs of
oil and gas properties in a cost center exceed an amount equal to the sum of the
present value, discounted at 10%, of estimated future net revenues from proved
oil and gas reserves in the cost center and the costs of properties not being
amortized, both adjusted for income tax effects, such excess is charged to
expense. The Company's allocation of 3D seismic exploration costs to proved
properties is based upon the capitalized costs of each data set divided by the
estimated number of prospects projected to be developed from each respective
data set. During 2001 and 2000, respectively, the Company allocated
approximately $1,800 and $0 of seismic exploration cost, general and
administrative, and other costs transferred by Cheniere at Inception, to the
cost of proved properties based on this allocation method. It is
73
Gryphon Exploration Company
Notes to Financial Statements
(dollars in thousands, except share related items)
reasonably possible, based on the results obtained from future drilling, that
revisions to this estimate could occur within the next twelve months, which
could affect the Company's capitalization ceiling.
Sales of proved and unproved properties are accounted for as
adjustments of capitalized costs with no gain or loss recognized, unless such
adjustments would significantly alter the relationship between capitalized costs
and proved oil and gas reserves.
Revenue Recognition
Revenues from the sale of oil and gas produced are recognized upon
passage of title, net of royalty interests. When sales volumes differ from the
Company's entitled share, an overproduced or underproduced imbalance occurs. To
the extent the overproduced imbalance exceeds the Company's share of the
remaining estimated proved natural gas reserves for a given property, the
Company records a liability. At December 31, 2001 and 2000, the Company had no
gas imbalances.
Reimbursable expenses
The Company performs administrative services on behalf of third
parties in accordance with certain contractual arrangements. The Company was
reimbursed $449 and $20 during 2001 and 2000, respectively, related to these
services. These reimbursements are offset against general and administrative
expenses of the Company.
Prepaid expenses
Prepaid expenses at December 31, 2001 consist of prepaid insurance
premiums of $1,850 and other prepaid expenses.
Fixed Assets
Fixed assets are recorded at cost. Repairs and maintenance costs are
charged to operations as incurred. Depreciation is computed using the
straight-line method calculated to amortize the cost of assets over their
estimated remaining useful lives, which are estimated as 9 to 36 months for
software and computer equipment and 1 to 5 years for office furnishings.
Leasehold improvements are amortized over five years. Upon retirement or other
disposition of property and equipment, the cost and related depreciation is
removed from the accounts and the resulting gains or losses are recorded.
Offering Costs
Offering costs consist primarily of placement fees, professional fees
and printing costs. These costs are charged against the related proceeds from
the sale of equity securities in the periods in which they occur.
Income Taxes
The Company utilizes the liability method of accounting for income
taxes, as set forth in Statement of Financial Accounting Standards No. 109,
"Accounting for Income Taxes." Under the liability method, deferred taxes are
determined based on the difference between the financial statement and tax bases
of assets and liabilities using enacted tax rates in effect in the years in
which the differences are expected to reverse. Valuation allowances are recorded
against deferred tax assets when it is considered more likely than not that the
deferred tax assets will not be utilized.
Stock-Based Compensation
SFAS No. 123, "Accounting for Stock-Based Compensation," encourages,
but does not require, companies to record compensation cost for stock-based
employee compensation plans at fair value. The Company has chosen to account for
stock-based compensation using the intrinsic value method prescribed in
Accounting Principles Board (APB) Opinion No. 25, "Accounting for Stock Issued
to Employees" ("APB 25"), and related interpretations. Accordingly, compensation
cost for stock options is measured as the excess, if any, of the market price of
the Company's stock at the date of the grant over the amount an employee must
pay to acquire the stock. The Company grants options at or above the market
price of its common stock at the date of each grant.
Cash Equivalents
The Company classifies all investments with original maturities of
three months or less as cash equivalents.
74
Gryphon Exploration Company
Notes to Financial Statements
(dollars in thousands, except share related items)
Restricted Cash Deposits
Current restricted cash deposits represent deposits reserved for the
funding of contractual drilling costs on behalf of the Company and its working
interest partners within one year. Noncurrent restricted cash deposits represent
amounts advanced by the Company into escrow or deposit accounts related to its
portion of drilling costs under contractual arrangements.
Fair Value of Financial Instruments
The carrying amounts of cash and cash equivalents, accounts
receivable, accounts payable, and short-term debt approximate fair value because
of the short maturities of those instruments.
Commodity Price Risk Management
The Company produces and sells natural gas, crude oil and condensate.
As a result, the Company's financial results can be significantly affected as
these commodity prices fluctuate widely in response to changing market forces.
In late 2001, the Company entered into three commodity hedging transactions with
respect to its expected 2002 natural gas production. The purpose of these
transactions was to utilize the derivative financial instruments to hedge
against market price fluctuation for natural gas. The Company does not engage in
speculative trading. The Company accounts for price risk management activities
based upon the hedge accounting method provided they meet hedge accounting
criteria. These accounting rules require that the Company determines the fair
values of the instruments and reflect them in our financial statements at their
fair values. These securities values are reflected as assets or liabilities and
in accumulated other comprehensive income. An unrealized gain or loss is
reclassified from accumulated other comprehensive income to revenues upon the
physical delivery of the hedged commodity and the corresponding expiration of
the hedge. These instruments are measured for correlation at both the inception
of the contract and on an ongoing basis. If these instruments cease to meet the
criteria for hedging accounting, any subsequent gains or losses are recognized
in revenue. The fair value of derivatives outstanding as of December 31, 2001
was $0. All the derivative instruments outstanding as of December 31, 2001
expire in January - March, 2002. Total realized gain of $25 was recognized in
February, 2002.
In the future, the Company may enter into additional commodity price
hedging contracts with respect to its oil and gas production. While the use of
these hedging arrangements limits the downside risk of adverse price movements,
they may also limit future revenues from favorable price movements. The use of
hedging transactions also involves the risk that the counterparties will be
unable to meet the financial terms of such transactions.
Use of Estimates
The preparation of financial statements in conformity with accounting
principles generally accepted in the United States of America requires
management to make estimates and assumptions that affect the amounts reported in
the financial statements and the accompanying notes. Actual results could differ
from those estimates. Changes in such estimates may affect amounts reported in
future periods.
Reclassifications
Certain reclassifications have been made to the 2000 financial
statements to conform with the current year presentation.
New Accounting Pronouncements
In July 2001, the Financial Accounting Standard Board ("FASB") issued
Statement of Financial Accounting Standards No. 141 ("SFAS 141"), "Business
Combinations", which requires that all business combinations be accounted for
using the purchase method. In addition, this Statement requires that intangible
assets be recognized as assets apart from goodwill if certain criteria are met.
As the provisions of this Statement apply to all business combinations initiated
after June 30, 2001, the Company will consider the impact of this statement for
future combinations.
In July 2001, the Financial Accounting Standard Board issued Statement
of Financial Accounting Standards No. 142 ("SFAS 142"), "Goodwill and Other
Intangible Assets", which established standards for reporting acquired goodwill
and other intangible assets. This Statement accounts for goodwill based on the
reporting units of the combined entity into which an acquired entity is
integrated. In accordance with the statement, goodwill and indefinite lived
intangible assets will not be amortized but will be tested for impairment at
least annually at the reporting unit level, and the amortization period of
intangible assets with finite lives will not be limited to forty
75
Gryphon Exploration Company
Notes to Financial Statements
(dollars in thousands, except share related items)
years. The provisions of this Statement are required to be applied starting with
fiscal years beginning after December 15, 2001. The Company adopted SFAS 142 on
January 1, 2002; such adoption did not have an effect on the Company's results
of operations or its financial position.
In August 2001, the Financial Accounting Standard Board issued the
Statement of Financial Accounting Standards No. 143 ("SFAS 143"), "Accounting
for Asset Retirement Obligations" (ARO), which requires that an asset retirement
cost be capitalized as part of the cost of the related long-lived asset and
allocated to expense by using a systematic and rational method. Under this
Statement, an entity is not required to re-measure an ARO liability at fair
value each period but is required to recognize changes in an ARO liability
resulting from the passage of time and revisions in cash flow estimates. This
Statement is effective for financial statements issued for fiscal years
beginning after June 15, 2002. The Company expects to adopt SFAS 143 on January
1, 2003. The Company has not yet determined the impact that the adoption of SFAS
143 will have on its earnings or statement of financial position.
In October 2001, the Financial Accounting Standard Board issued the Statement of
Financial Accounting Standards No. 144 ("SFAS 144"), "Accounting for the
Impairment or Disposal of Long-Lived Assets". The Statement requires that
long-lived assets that are to be disposed of by sale be measured at lower of
book value or fair value less cost of sale. The Statement also expanded the
scope of discontinued operations to include all components of an entity with
operations that can be distinguished from the rest of the entity and that will
be eliminated from the ongoing operations of the entity in a disposal
transaction. The provisions of this Statement are effective for fiscal years
beginning after December 15, 2001. The provisions of this Statement will impact
any asset dispositions the Company makes after January 1, 2002.
Concentration of Credit Risk
The Company maintains cash balances with a bank and frequently exceeds
federally insured limits. The Company invests its cash in money market
securities, investment grade commercial paper, and U.S. Government-backed
securities. The Company's joint interest partners consist primarily of
independent oil and gas producers. The Company's oil and gas production
purchasers consist primarily of independent marketers and major gas pipeline
companies. The Company performs credit evaluations of its customers' financial
condition and, if deemed necessary, obtains letters of credit and parental
guarantees from selected customers. The Company has not experienced any
significant losses from uncollectible accounts. All of the Company's hedging
transactions have been carried out in the over-the-counter market.
NOTE 3-FIXED ASSETS
Fixed assets consisted of the following:
December 31,
---------------
2001 2000
------ -----
Computers and Office Equipment $1,089 $ 597
Furniture, Fixtures and Other 188 167
------ -----
1,277 764
Less Accumulated Depreciation (661) (113)
------ -----
Fixed Assets, net $ 616 $ 651
====== =====
NOTE 4-EXPLORATION AGREEMENT
The Company is party to an exploration agreement with an industry
partner. Cheniere contributed this exploration agreement at Inception (See Note
1). Under the terms of the agreement, Gryphon's exploration partner acquired an
option to participate at a 50% working interest level in any drilling prospect
generated by Gryphon through August 2001 within a defined area of mutual
interest in the Gulf of Mexico. During the term of the agreement, Gryphon
received a management fee of $230 per month from its partner. In addition, for
each well
76
Gryphon Exploration Company
Notes to Financial Statements
(dollars in thousands, except share related items)
drilled, Gryphon's partner pays a disproportionate share of the cost of leasing
and of the initial test well on each prospect. Gryphon is the operator of the
drilling program. A portion of the management fee payments was credited as a
recovery of general and administrative expenses and the remaining portion
reduced capitalized G&A expenses. Management fees received by Gryphon in 2001
and 2000 totalled $1,120 and $617, respectively. Certain provisions of this
agreement, including those related to management fees, expired August 2001. The
Company intends to enter into one or more new industry partner agreements in
2002.
NOTE 5-INCOME TAXES
The difference between the provision for income taxes and the amount
that would be determined by applying the statutory federal income tax rate to
the income or loss before income taxes is set forth below:
Inception
(October 11, 2000)
Year ended Through
December 31, 2001 December 31, 2000
---------------- -----------------
Federal Income Tax Expense at 34% $ 28 $ 10
Permanent Differences 16 --
Provision to Return Reconciliation (46) --
---- ----
Income Tax Provision (Benefit) $ (2) $ 10
==== ====
Deferred income taxes reflect the net tax effects of temporary differences
between the carrying amounts of assets and liabilities for financial reporting
purposes and the carrying amounts used for income tax purposes. Deferred income
taxes also reflect the net tax effects of net operating loss carryforwards. The
tax effects of the Company's temporary differences and carryforwards are as
follows:
December 31,
------------------
2001 2000
------- -------
Deferred tax assets:
Net Operating Loss Carryforwards $ 7,264 $ 751
------- -------
Total Deferred Tax Assets 7,264 751
Deferred Tax Liabilities:
Differences between Book and Tax
Bases of Oil and Gas Properties,
Plant and Equipment (8,446) (1,935)
------- -------
$(1,182) $(1,184)
======= =======
There was no current income tax provision for 2001 or 2000.
The Company has determined that it is more likely than not that the
deferred tax assets will be realized and a valuation allowance for such assets
is not required.
At December 31, 2001, the Company had net operating loss (NOL)
carryforwards for tax reporting purposes of approximately $21,307. These NOL's
will expire starting in 2020, if not utilized to reduce income taxes otherwise
payable in future years. No income taxes were currently payable.
77
Gryphon Exploration Company
Notes to Financial Statements
(dollars in thousands, except share related items)
In 2000, the Company recorded a deferred tax liability of
approximately $1,174 to account for the difference between the tax basis of
assets contributed by Cheniere and the estimated fair value of those assets at
the date of Inception.
NOTE 6-EQUITY TRANSACTIONS
At December 31, 2001, the Company had 55,000 shares of Series A
preferred stock issued and outstanding. The preferred stock is convertible at
the option of the holder at a rate of $100 per share of common stock upon the
occurrence of certain qualifying events. The preferred stock has voting rights
as if converted. Each share has a liquidation preference of $1,000. Dividends
accrue at a rate of 8% per annum, become payable quarterly as declared, and are
cumulative and payable in the event of liquidation of the Company. At December
31, 2001 and 2000, there were $3,504 and $446, respectively, of undeclared
dividends in arrears.
During 2001, the Company issued three private placements of Series A
preferred stock, each in the amount of $10,000, which closed on May 15, July 23,
and November 19, 2001. As discussed in Note 1, Cheniere has a right to
participate in offerings of Series A preferred stock by the Company. Cheniere
elected not to participate in any of the Company's offerings during 2001. Based
upon the conversion features of the Company's Series A preferred stock, the
interests of the Company's holders of Series A preferred stock would represent
79.84%, and 63.20% on an as converted basis of the outstanding and issued Common
Stock at December 31, 2001 and 2000, respectively.
As further discussed in Note 8, in July 2001, the Company acquired a
3D seismic data set from Cheniere. In connection with that transaction, the
Company repurchased 6,740 shares of Common Stock. These shares are included as
treasury stock as of December 31, 2001. Pursuant to the terms of that
transaction, Cheniere has a right until July 2002 to repurchase those shares.
Based upon the foregoing transactions, Cheniere holds a 20.16%
interest in the Company, calculated on a fully diluted basis as of December 31,
2001.
78
Gryphon Exploration Company
Notes to Financial Statements
(dollars in thousands, except share related items)
NOTE 7-STOCK-BASED COMPENSATION
In 2000, the Company established the Gryphon Exploration Company 2000
Stock Option Plan (the "Option Plan"). In 2001, the Option Plan was amended and
restated. The Option Plan, as amended, allows for the issuance of options to
purchase up to 186,493 shares of Gryphon common stock at an exercise price of
$100 per share. The Company has reserved an equivalent number of shares of
common stock for issuance upon the exercise of options which have been granted
or which may be granted. The term of options granted under the Option Plan is
generally ten years. Vesting occurs over a three-year period, one third on each
anniversary of the grant date. The following table summarizes the Company's
stock option activity and related information for the periods presented:
Inception
(October 11, 2000)
Year ended Through
December 31, 2001 December 31, 2000
----------------- ------------------
Outstanding at Beginning of Period 39,400 --
Options Granted at an Exercise Price of $100 per share 42,722 39,750
Options Gorfeited (1,000) (350)
--------- ---------
Outstanding at End of Period 81,122 39,400
========= =========
Exercisable at End of Period 13,483 --
========= =========
Weighted Average Exercise Price of Options Outstanding $ 100 $ 100
========= =========
Weighted Average Exercise Price of Options Exercisable $ 100 N/A 100
========= =========
Weighted Average Fair Value of Options Granted During the Period $ -- $ --
========= =========
Weighted Average Remaining Contractual Life of Options Outstanding 9.3 years 9.8 years
Weighted Average Remaining Contractual Life of Options Exercisable 8.8 years --
The fair value of options is calculated using the Black-Scholes
option-pricing model. Assumptions used for 2001 and for the period from
Inception through December 31, 2000 were: no dividend yield, no volatility,
risk-free interest rate of 3.8% and 5.6%, respectively, and an expected average
option life of 5 years. If the Company had adopted the recognition provisions of
SFAS No. 123 for 2001 and 2000, the Company's financial statements would have
not reflected a change in reported net income.
NOTE 8-RELATED PARTY TRANSACTIONS
Under the terms of the Contribution and Subscription Agreement dated
October 11, 2000 by and among the Company, Cheniere and the other investors
listed therein, Gryphon provided office space to Cheniere at no cost from
Inception through December 2000. Also, pursuant to that agreement, Cheniere
provided accounting and cash management services to Gryphon without charge for
six months following the closing date.
Cheniere served as contract operator throughout 2000 for the well
contributed to Gryphon on which drilling was underway at Inception. Cheniere
received industry standard overhead reimbursements from all working interest
owners, including Gryphon, in accordance with the terms of the joint interest
operating agreement.
In April 2001, Gryphon purchased from Cheniere a 50% working interest
in a Texas offshore lease for cash consideration of $225, and simultaneously
executed a joint operating agreement which provided that Gryphon would become
the operator of the lease.
In June 2001, Gryphon completed a transaction with Cheniere for the
purchase of a license for 3D seismic data (the Seitel data set) granted to
Cheniere by Seitel Data Ltd. As a result of this transaction, Gryphon acquired
the rights to approximately 3,900 square miles of seismic data in the Gulf of
Mexico for a total purchase price of $3,500 (See Note 11).
79
Gryphon Exploration Company
Notes to Financial Statements
(dollars in thousands, except share related items)
In July 2001, Gryphon purchased the right arising under an agreement
between JEBCO and Cheniere whereby Cheniere was to receive a seismic data
license (the JEBCO data set) to approximately 3,000 square miles of 3D seismic
data in the Gulf of Mexico. As part of this transaction, Gryphon also acquired
6,740 shares of Gryphon common stock from Cheniere. The aggregate purchase price
of $4,174 was allocated between seismic data and treasury stock based upon their
relative fair values at date of the transaction. Pursuant to the terms of the
transaction, Cheniere has a right to repurchase the acquired shares through May
2002.
NOTE 9-COMMITMENTS AND CONTINGENCIES
The Company has entered into an office lease agreement with a
non-cancelable term, which runs through March 2003. Future minimum lease
payments are $235 and $59 for the years ended December 31, 2002 and 2003,
respectively. Total rental expense for office space for 2001 and the period from
Inception through December 31, 2000 was $285 and $57, respectively.
At Inception, Gryphon acquired a master license agreement covering the
license of approximately 8,800 square miles of 3-D seismic data in the Gulf of
Mexico. In connection with the license agreement, the Company has made a
commitment to reprocess certain of the seismic data and to pay a fee for such
reprocessing as the reprocessed data are delivered. At December 31, 2001, the
Company had met its commitments related to future deliveries of reprocessed
data.
In connection with the purchase from Cheniere of the JEBCO data set
(see Note 8), the Company has an obligation to pay for the related seismic data
once it has been delivered to the Company, and accepted by Cheniere. At December
31, 2001, the Company had a commitment of $597 related to future deliveries of
data due under the JEBCO license.
In February 2002, the Company received a copy of a lawsuit (the
Fairfield litigation) styled Fairfield Industries Incorporated ("Fairfield") vs.
Cheniere Energy, Inc. and Gryphon Exploration Company, which was filed in
district court in Harris County, Texas. The lawsuit, is related to a seismic
license agreement between the Fairfield and Cheniere, which was later assigned
to Gryphon. In the lawsuit, Fairfield alleges that Cheniere and Gryphon
conspired to defraud the plaintiff of certain transfer payments, which are owed
by Cheniere in connection with the transfer to Gryphon of the initial seismic
contributed at the time of its formation. In March 2002, Fairfield, Cheniere,
and the Company settled this lawsuit (See Note 11).
80
Gryphon Exploration Company
Notes to Financial Statements
(dollars in thousands, except share related items)
NOTE 10-SUPPLEMENTAL DISCLOSURES OF NON-CASH TRANSACTIONS
At Inception, the Company received a contribution of net assets which
were recorded at their estimated fair value and which are summarized as follows:
Estimated
Item: Fair Value
----------
Prepaid Expenses $ 1,042
Unproved Oil and Gas Properties 9,380
Fixed Assets 694
Accounts Payable (2,050)
-------
Net Assets Contributed at Inception $ 9,066
=======
NOTE 11-SUBSEQUENT EVENTS
In March 2002, the Company issued a cash call to its shareholders in
the amount of $5,000. The Company expects to receive the proceeds from this cash
call and to issue the related Series A preferred shares in April 2002.
In March 2002, the Company, Fairfield, and Cheniere settled the
Fairfield litigation (See Note 9). Pursuant to this settlement, the Company made
a payment to Fairfield and committed to make certain additional payments if
production rights are obtained by the Company or Cheniere in the area covered by
the Fairfield data set. In addition, the Company and Cheniere agreed that the
Company would become responsible for certain contingent payments associated with
the Seitel data set. The maximum amount of the assumed liabilities associated
with the Fairfield litigation and the contingent liabilities associated with the
Seitel dataset is approximately $2,561 in the aggregate. As consideration for
the Company's agreement to assume these contingent liabilities, Cheniere has
transferred to Gryphon 51,400 shares of the Company's common stock which
Cheniere held. Pursuant to this agreement, Cheniere has an option valid for one
year from the date of the agreement to repurchase these shares from the Company
at a cost equal to $50 per share subject to escalation beginning four months
after the date of the stock transfer.
81
Gryphon Exploration Company
Notes to Financial Statements
DECEMBER 31, 2001
SUPPLEMENTAL OIL AND GAS DISCLOSURES
The following tables set forth information about the Company's oil and
gas producing activities pursuant to the requirements of Statement of Financial
Accounting Standards No. 69, "Disclosures About Oil and Gas Producing
Activities" ("SFAS 69").
Investments in oil and gas properties are set forth below:
December 31,
-------------------
2001 2000
-------- -------
Oil and Gas Properties:
Proved $ 26,705 $ 2,727
Unproved 28,067 15,469
-------- -------
54,772 18,196
Less Accumulated Depreciation,
Depletion and Amortization (1,221) --
-------- -------
$ 53,551 $18,196
======== =======
As of December 31, 2001 and 2000, the Company's investment in oil and
gas properties included $28,067 in unevaluated properties, which have been
excluded from amortization. Such costs will be evaluated in future periods based
on management's assessment of exploration activities, expiration dates of
licenses, permits and concessions, changes in economic conditions and other
factors.
The Company began production of oil and gas in February 2001. The
Company capitalized as oil and gas property costs approximately $2,023 and $98
of general and administrative expenses directly related to its exploration and
development activities in 2001 and 2000, respectively.
The Company has made a substantial investment in acquiring, processing
and reprocessing three Gulf of Mexico data sets, which cover project areas
having an aggregate size of 15,700 square miles. The costs of these projects
become subject to amortization on a ratable basis as prospects are identified in
each of the data set project areas.
The Company commenced drilling exploratory wells in December 2000
related to its unproved properties in the area covered by the Fairfield data set
and anticipates completing drilling activities sufficient to fully evaluate
these properties within three to five years. As of December 31, 2001, the
Company allocated part of the cost related to acquisition and processing of this
database from unproved properties to proved properties as areas were evaluated.
As discussed in Note 8, in 2001 the Company acquired licenses to the
Seitel data set and the JEBCO data set covering separate Gulf of Mexico areas
containing 3,800 and 3,000 square miles, respectively. The capitalized costs of
these data sets will become subject to amortization on a ratable basis, as
described above. No exploratory drilling related to these areas was commenced as
of December 31, 2001.
82
Gryphon Exploration Company
Notes to Financial Statements
(dollars in thousands, except share related items)
Costs Incurred
Costs incurred in oil and gas property acquisition, exploration, and
development activities are set forth in the table below:
Inception
(October 11, 2000)
Year ended Through
December 31, 2001 December 31, 2000
----------------- ------------------
Acquisition of Properties:
Proved Properties $ 227 $ --
Unproved Properties 14,360 7,876
Exploration Costs 12,430 2,018
Development Costs 9,559 729
------- -------
36,576 10,623
Assets Contributed at Inception -- 7,573
------- -------
Total $36,576 $18,196
======= =======
For the year ended December 31, 2001 depreciation, depletion and
amortization of the capitalized costs of oil and gas properties was $1.52 per
MCFE. Depreciation, depletion and amortization of oil and gas properties during
the period from Inception to December 31, 2000 was $0.
Reserve Quantities (Unaudited)
Estimates of proved reserves of the Company and the related
standardized measure of discounted future net cash flow information are based on
the reports generated by independent petroleum engineers in accordance with the
rules and regulations of the Securities and Exchange Commission. The independent
engineers' estimates were based upon a review of production histories and other
geologic, economic, ownership and engineering data provided by the Company.
These estimates represent the Company's interest in the reserves associated with
its properties. All of the Company's oil and gas reserves are located within the
United States and its territorial waters. The standardized measure amounts are
based on year-end prices of $19.33 and $29.72 per barrel of oil and $2.63 and
$10.60 per mcf of gas as of December 31, 2001 and 2000, respectively.
83
Gryphon Exploration Company
Notes to Financial Statements
(dollars in thousands, except share related items)
The Company's estimates of its proved reserves and proved developed reserves of
oil and gas, and the changes therein are as follows:
Inception
Year Ended (October 11, 2000) through
December 31, 2001 December 31, 2000
---------------------- --------------------------
Oil Gas Oil Gas
(Bbls) (Mcf) (Bbls) (Mcf)
-------- ---------- ------ --------
Proved Reserves:
Beginning of Period 2,640 1,674,000 -- --
Revisions of Previous Estimates (845) (1,268,000) -- --
Extensions, Discoveries and Other Additions 219,099 17,822,000 2,640 1,674,000
Production (10,743) (760,000) -- --
-------- ---------- ----- ---------
End of Period 210,151 17,468,000 2,640 1,674,000
======== ========== ===== =========
Proved Developed Reserves:
Beginning of Period 2,640 1,674,000 -- --
End of Period 192,569 13,022,000 2,640 1,674,000
There are numerous uncertainties inherent in estimating quantities of
proved reserves and in projecting future rates of production and future amounts
and timing of development expenditures, including many factors beyond the
control of the Company. Reserve engineering is a subjective process of
estimating underground accumulations of crude oil and natural gas that cannot be
measured in an exact manner, and the accuracy of any reserve estimate is a
function of the quality of available data and of engineering and geological
interpretation and judgment. Estimates of proved undeveloped reserves are
inherently less certain than estimates of proved developed reserves. The
quantities of oil and gas that are ultimately recovered, production and
operating costs, the amount and timing of future development expenditures,
geologic success and future oil and gas sales prices may all differ from those
assumed in these estimates. In addition, the Company's reserves may be subject
to downward or upward revision based upon production history, purchases or sales
of properties, results of future development, prevailing oil and gas prices and
other factors.
Standardized Measure of Discounted Future Net Cash Flows (Unaudited)
The standardized measure of discounted future net cash flows was
calculated by applying year-end prices to estimated future production, less
future expenditures (based on year-end costs) to be incurred in developing and
producing such proved reserves and the estimated effect of future income taxes
based on the current tax law. Future income taxes were computed by applying the
appropriate statutory income tax rate to the pretax future net cash flows,
reduced by future tax deductions and net operating loss carryforwards. The
resulting future net cash flows were discounted using a rate of 10% per annum.
The standardized measure of discounted future net cash flow amounts
contained in the following tabulation does not purport to represent the fair
market value of oil and gas properties. No value has been given to unproved
properties. There are significant uncertainties inherent in estimating
quantities of proved reserves and in projecting rates of production and the
timing and amount of future costs. Future realization of oil and gas prices over
the remaining reserve lives may vary significantly from current prices. In
addition, the method of valuation utilized, based on year-end prices and costs
and the use of a 10% discount rate, is not necessarily appropriate for
determining fair value.
84
Gryphon Exploration Company
Notes to Financial Statements
(dollars in thousands, except share related items)
The standardized measure of discounted future net cash flows relating
to proved oil and gas reserves is set forth in the following table:
December 31,
-----------------
2001 2000
------- -------
Future Gross Revenues $49,949 $17,645
Less - Future Costs:
Production (4,499) (901)
Development and Dismantlement (2,926) (1,206)
------- -------
Future Net Cash Clows before Income Taxes 42,524 15,539
Less - 10% Annual Discount for Estimated Timing of Cash Flow (9,956) (2,472)
------- -------
Present Value of Future net Cash Flows before Income Taxes 32,568 13,067
Less - Present Value of Future Income Taxes (3,790) (3,928)
------- -------
Standardized Measure of Discounted Future net Cash Flows $28,778 $ 9,139
======= =======
The following table summarizes the principal sources of change in the
standardized measure of discounted future net cash flows:
Inception
(October 11, 2000)
Year ended Through
December 31, 2001 December 31, 2000
----------------- ------------------
Standardized Measure - Beginning of Period $ 9,139 $ --
Increases (Decreases) -
Sales, net of Production Costs (2,128) --
Net Change in Sales Prices, net of Production Costs (11,258) --
Extensions, Discoveries and Other Additions, net of Future
Production and Development Costs 34,232 9,139
Development Costs Incurred during the Period that
Reduced Previously Estimated Development Cost 735 --
Revisions of Quantity Estimates (3,047) --
Accretion of Discount 975 --
Net Change in Income Taxes 138 --
Changes in Production Rates (timing) and Other (8) --
-------- ------
Standardized Measure - End of Period $ 28,778 $9,139
======== ======
85