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| PFAP.OB > SEC Filings for PFAP.OB > Form 10-K on 27-Feb-2009 | All Recent SEC Filings |
27-Feb-2009
Annual Report
Throughout this Annual Report on Form 10-K, the terms "we," "us," "our," "the Company," and "our Company" refer to Pacific Asia Petroleum, Inc., a Delaware corporation, and its subsidiaries, including former subsidiaries Inner Mongolia Production Company LLC ("IMPCO") (which merged into Pacific Asia Petroleum, Inc. in December 2007), and Advanced Drilling Services, LLC ("ADS") (which merged into Pacific Asia Petroleum, Inc. in December 2007), and its current subsidiaries and joint ventures (i) Pacific Asia Petroleum (HK) Limited, (ii) Pacific Asia Petroleum, Limited, (iii) Inner Mongolia Production Company (HK) Limited, and (iv) Inner Mongolia Sunrise Petroleum JV Company (collectively, the "Company"). References to "PAP" refer to Pacific Asia Petroleum, Inc. prior to the Mergers of IMPCO and ADS into wholly-owned subsidiaries thereof, effective May 7, 2007.
As discussed in Note 1 and Note 2 of the consolidated financial statements, historical financial results presented herein are the results of IMPCO from inception on August 25, 2005 to May 6, 2007, and the consolidated entity Pacific Asia Petroleum, Inc. from May 7, 2007 forward, which is considered to be the continuation of IMPCO as Pacific Asia Petroleum, Inc.
You should read the information in this Item 7 together with our consolidated financial statements and notes thereto that appear elsewhere in this Report.
Cautionary Statement Regarding Forward-Looking Statements
This Annual Report contains forward-looking statements, which reflect the views of our management with respect to future events and financial performance. These forward-looking statements are subject to a number of uncertainties and other factors that could cause actual results to differ materially from such statements. Forward-looking statements are identified by words such as "anticipates," "believes," "estimates," "expects," "plans," "projects," "targets" and similar expressions. Readers are cautioned not to place undue reliance on these forward-looking statements, which are based on the information available to management at this time and which speak only as of this date. We undertake no obligation to update or revise any forward-looking statements, whether as a result of new information, future events or otherwise. For a discussion of some of the factors that may cause actual results to differ materially from those suggested by the forward-looking statements, please read carefully the information under "Risk Factors" included in this Annual Report. The identification in this Annual Report of factors that may affect future performance and the accuracy of forward-looking statements is meant to be illustrative and by no means exhaustive. All forward-looking statements should be evaluated with the understanding of their inherent uncertainty.
Our Business
The Company is a development stage company formed to develop new energy ventures, directly and through joint ventures and other partnerships in which it may participate.
Members of the Company's senior management team have experience in the fields of international business development, and finance, petroleum engineering, geology, field development and production, and operations. Several members of the Company's management team have held management and executive positions with Texaco Inc. and have managed energy projects in China, elsewhere in Asia and in other parts of the world. Members of the Company's management team also have experience in oil drilling, operations, geological engineering and sales in China's energy sector.
Pacific Asia Petroleum, Inc. is the successor company from a reverse merger involving the former Pacific East Advisors, Inc. and other entities on May 7, 2007. The Company was originally incorporated in Delaware on December 12, 1979 as Gemini Marketing Associates Inc.
Effective May 7, 2007, IMPCO and ADS merged (the "Mergers") with and into wholly-owned subsidiaries of PAP pursuant to (i) an Agreement and Plan of Merger and Reorganization (the "ADS Merger Agreement") with DrillCo Acquisition, LLC ("ADS Merger Sub"), a Delaware limited liability company and a wholly-owned subsidiary of PAP, and ADS, and (ii) an Agreement and Plan of Merger and Reorganization (the "IMPCO Merger Agreement," and together with the ADS Merger Agreement, the "Merger Agreements") with IMPCO Acquisition, LLC ("IMPCO Merger Sub"), a New York limited liability company and a wholly-owned subsidiary of PAP, and IMPCO. Under applicable accounting standards, IMPCO was defined as the acquiring company. Accordingly, the reportable results
of operations for the Company through the merger date of May 7, 2007 are comprised only of the historical results of the former IMPCO. Therefore, for purposes of financial reporting, the inception of the Company is reflected as August 25, 2005, the inception date of IMPCO.
The cumulative net losses of the Company from inception through December 31, 2008 are $8,968,064. Our losses have resulted primarily from general and administrative expenditures associated with developing a new enterprise, and consulting, legal and accounting expenses. From inception through December 31, 2008, we did not generate revenues from operations.
The Company's current operations commenced in 2005 through IMPCO, formed as a limited liability company under New York State law on August 25, 2005. These operations consist of the drilling of oil wells in recently discovered fields in Inner Mongolia, China, and exploration and development operations with respect to CBM opportunities in the Shanxi Province of China. We consider the Company to be a single line of business.
In the fourth quarter of 2006, pursuant to a joint development contract with Chifeng, a company incorporated in Inner Mongolia, China, the Company drilled its first oil well in Inner Mongolia. This well was producing during part of 2007 under an exploration and development license issued by the relevant Chinese authorities. However, no revenue or related depletion expense have been recognized to date due to uncertainty of realization of the revenue until a permanent production license is obtained.
The Company is pursuing a combination of strategies to have such production license awarded, including a possible renegotiation of the Chifeng Agreement increasing the financial incentives to all the parties involved and the Company is also pursuing a strategy focused on entering into negotiations with respect to an opportunity to acquire the existing production from the 22 sq. km. Kerqing Oilfield. The acquisition of the Kerqing Oilfield could significantly enhance the Chifeng Agreement in scale and value. If this Production License is not issued, the opportunities to drill additional long-term production wells under the contract, including future production from this first well, will be at risk.
Chifeng has accounted for our share of the production revenue in the form of a credit which will be allocated to the Company retroactively when and if the production license is issued. Operations from the well were suspended in 2007, and it is planned to resume operations when and if the production license is received. To date, the total production from the well has been approximately 400 tons of crude oil (all of which has been sold), and total producing revenues credited to the Company (after costs and royalties) were approximately $135,000.
In September 2007, the Company entered into the Chevron Agreements with ChevronTexaco for the purchase by the Company of participating interests held by ChevronTexaco in production sharing contracts in respect of four CBM and tight gas sand resource blocks located in the Shanxi Province of China with an aggregate contract area of approximately 1.5 million acres. The aggregate base purchase price for all of the participating interests was $61,000,000, adjusted in April 2008 to $50,000,000, and was subject to certain income and expense adjustments prior to closing. The Company paid to ChevronTexaco a $3,050,000 deposit toward the purchase price in 2007, which was refundable if the Chevron Agreements were terminated under certain conditions. The closing of the asset transfers contemplated pursuant to the Chevron Agreements was contingent upon a number of conditions precedent, including the approval of certain related agreements by the PRC Ministry of Land and Natural Resources and the assignment of ChevronTexaco's participating interest by the PRC Ministry of Commerce. On December 5, 2008, the Company exercised its right to terminate three of the four Chevron Agreements due to delays in receipt of required Chinese government approvals of the transfers, coupled with renewal terms proposed by ChevronTexaco that were not acceptable to the Company. The remaining ChevronTexaco ATA to purchase ChevronTexaco's 35.7142% interest in the Baode PSC for CBM at a purchase price of $2,000,000 and a deposit of $650,000 was retained and remains in effect. Following termination by the Company of the three Chevron Agreements, ChevronTexaco returned $2,400,000 of prepaid deposits to the Company in December 2008 as required under the terminated Chevron Agreements.
On March 29, 2008, the Company entered into the BHP ATA with BHP for the purchase by the Company of BHP's 64.2858% interest in the Baode PSC for CBM. The purchase price is $2,000,000, subject to upward adjustment to account for BHP's cash flow payments and operating costs paid with respect to BHP's interest in the Baode PSC from April 1, 2008 through the closing date, and downward adjustment to account for BHP's receipt of revenues derived from BHP's interest in the Baode PSC from that date through the closing date. The Company has paid BHP
a $500,000 deposit toward the purchase price, which is refundable if the BHP ATA is terminated under certain conditions. Upon closing, the Company will assume BHP's operating obligations related to the Baode PSC.
Assuming all conditions precedent to closing of each of the ChevronTexaco ATA and BHP ATA are satisfied, upon closing of both the ChevronTexaco ATA and the BHP ATA, the Company will acquire a 100% participating interest in the Baode PSC. Pursuant to the terms of the Baode PSC, the Chinese government is entitled to acquire up to a 30% participating interest in the Baode PSC from the then-current parties to the Baode PSC upon certain conditions and in exchange for certain payments to such parties. Assuming the Company consummates one or both of the ChevronTexaco ATA and the BHP ATA, such asset acquisitions will not constitute the acquisition of a business, but the acquisition of title to hydrocarbon natural resources under the surface of the land. These assets are not presently capable of independent operation as a business, and no employees, revenues, or customers will be acquired.
On October 26, 2007, PAPL, a wholly-owned subsidiary of the Company, entered into the Zijinshan PSC with CUCBM for the exploitation of CBM resources in the Zijinshan block, which is located in the Shanxi Province in China. The Zijinshan PSC provides, among other things, that PAPL must drill three (3) exploration wells and carry out 50 km of 2-D seismic data acquisition (a minimum commitment for the first three (3) years with an estimated expenditure of $2.8 million) and drill four (4) pilot development wells during the next two (2) years at an estimated cost of $2 million (in each case subject to PAPL's right to terminate the Zijinshan PSC). During the development and production period, CUCBM will have the right to acquire a 40% participating interest and work jointly to develop and produce CBM under the Zijinshan PSC. The Zijinshan PSC has a term of thirty (30) years. The Zijinshan PSC was approved in 2008 by the Ministry of Commerce of China. Pursuant to the Zijinshan PSC, all CBM resources (including all other related hydrocarbon resources) produced from the Zijinshan block is to be shared as follows: (i) 80% of production is provided to PAPL and CUCBM for recovery of all costs incurred; (ii) PAPL has the first right to recover all of its exploration costs from such 80% and then development costs are recovered by PAPL and CUCBM pursuant to their respective participating interests; and (iii) the remainder of the production is split by CUCBM and PAPL receiving between 99% and 90% of such remainder depending on the actual producing rates (a sliding scale) and the balance of the remainder (between 1% and 10%) is provided to the Government of China. On December 9, 2008 the Company and CUCBM finalized a mutually agreed work program pursuant to which the Company may immediately commence development operations under the PSC.
On September 30, 2008, the Company entered into an AOC with Well Lead, pursuant to which the parties agreed to use reasonable efforts to negotiate and enter into a mutually acceptable Sale and Purchase Agreement for purchase by the Company of up to 39% of the WL Interest in Northeast Oil. Northeast Oil owns a 95% interest in the WL Oil Blocks located in the Fulaerjiqu Oilfield in Qiqihar City, Heilongjiang Province in the People's Republic of China. The proposed transaction is subject to due diligence review of the WL Interest, the WL Oil Blocks and other due diligence. Under the proposed transaction, the Company would acquire a 25% interest in Northeast Oil for a purchase price of $9.8 million, composed of $5 million cash (one-half paid at closing and the remainder in five equal monthly installments commencing eight months after closing) and the issuance of Company Common Stock valued at $4.8 million. In addition, at closing, the Company would have the option to purchase an additional 14% interest in Northeast Oil for $5.5 million in cash payable at closing. In accordance with the AOC, the Company paid Well Lead a nonrefundable payment of $50,000 in cash for the right of exclusive negotiations for the acquisition of the Interest through November 30, 2008, which exclusive term has expired.
After completing the initial phase of due diligence on Well Lead, the WL Interest and the WL Oil Blocks, the Company has commenced additional negotiations with Well Lead and other related parties to expand the potential acquisition to include other Well Lead interests and related parties. These additional Well Lead interests and related parties include additional producing oilfields in China, a Well Lead-affiliated technology company that has been applying its intellectual property to successfully enhance production in the WL Oil Blocks, and certain Well Lead-related venture companies. The Company now seeks to acquire a 51% participating interest in all these Well Lead assets and related parties, and the Company and Well Lead have reached a verbal agreement in principle with respect thereto. The Company anticipates that the total purchase price for all Well Lead interests to be acquired by the Company will be less than the amounts originally provided for in the AOC for the WL Oil Blocks alone. The Company has commenced phase two of its due diligence review with a goal to conclude such review and negotiate, sign and consummate a definitive acquisition agreement by April 30, 2009; however, the Company can make no assurances that it will be able to successfully consummate any transaction with Well Lead on terms and conditions satisfactory to the Company, or at all.
In order to fully implement its business strategy, including development and production required under the Zijinshan PSC, ongoing production under the Chifeng Agreement, consummation of the asset transfers contemplated pursuant to the ChevronTexaco ATA and the BHP ATA and development and production under the Baode PSC, thereafter, as well as other transactions contemplated with Well Lead, and the Beijing Tai He Sheng Ye Investment Company Limited, the Company will need to raise significant additional capital. In the event the Company is unable to raise such capital on satisfactory terms or in a timely manner, the Company would be required to revise its business plan and possibly cease operations completely.
Plan of Operation
The following describes in general terms the Company's plan of operation and development strategy for the twelve-month period ending December 31, 2009 (the "Next Year"). During the Next Year, the Company plans to focus its efforts on commencing operations under the Zijinshan PSC in the area in the Shanxi Province of China referred to as the Zijinshan Block (the "CUCBM Contract Area"), drilling activities under its agreement with Chifeng, and consummating the purchase of the participating interests under the Baode PSC from ChevronTexaco and BHP, as well as developing additional enhanced oil production opportunities in China through potential acquisitions from Well Lead and other parties and pursuit of the gas distribution venture with Handan Changyuan Gas Co., Ltd. ("HCG").
In addition to these opportunities, the Company plans to continue to identify other opportunities in the energy sectors in China and the Pacific Rim, particularly with respect to oil and gas exploration, development, production, refining and trading. Since we are a development stage company, we are limited in our ability to grow by the availability of capital for our businesses and each project. The Company's ability to successfully consummate any of its projects, including the projects described above, is contingent upon the making of any required deposits, obtaining the necessary governmental approvals and executing binding agreements to obtain the rights we seek within limited timeframes.
The Company has assembled a management team with experience in the fields of international business development, petroleum and geologic engineering, geology, petroleum field development and production, petroleum operations and finance. Members of the Company's management team previously held positions in similar oil and gas development, and screening roles at Texaco Inc., and will seek to utilize their contacts in Asia to provide us with access to a variety of energy projects. Among the strategies that we plan to use are:
· Focusing on projects that play to the expertise of our management team;
· Leveraging our productive asset base and capabilities to develop value;
· Actively managing our assets and ongoing operations while attempting to limit capital exposure;
· Enlisting external resources and talent as necessary to operate/manage our properties during peak operations; and
· Implementing an exit strategy with respect to each project with a view to maximizing asset values and returns.
Product Research and Development
The Company has not engaged in any product research or development and does not anticipate engaging in product research or development during the Next Year.
Liquidity and Capital Resources
The Company has sufficient funds to fund all of its current operations for the Next Year provided, however, that if the conditions precedent to the closing are satisfied and the Company elects to consummate the purchase of the ChevronTexaco and BHP participating interests in the Baode PSC, as well as consummate the transactions currently contemplated with Well Lead, the Company will be required to raise additional capital to fund ongoing operational expenses related to the participating interests to be purchased from ChevronTexaco and BHP, and those operational expenses related to the interests of Well Lead. The remaining discussion considers the Company's ability to fund its other operations and overhead expenses, exclusive of the funding necessary for the aforementioned purchases, except insofar as that the deposit required for those agreements has reduced our liquidity.
As of December 31, 2008, the Company had net working capital of $11,223,902 and
cash, including cash equivalents of $10,515,657 and short-term investments
of $1,260,000. The Company also has deposited $650,000 with ChevronTexaco as
required under the ChevronTexaco ATA, and $500,000 with BHP as required under
the BHP ATA. For the year ended December 31, 2008, the Company incurred a net
loss of $5,446,649. As a result of our operating losses from our inception
through December 31, 2008, we generated a cash flow deficit of $6,092,999 from
operating activities during this period. Cash flows used in investing activities
- net were $3,128,538 during the period from inception (August 25, 2005) through
December 31, 2008, comprised of net purchases of $1,260,000 of short-term
investments, the acquisition of $618,304 of property and equipment and an
increase of $1,250,234 in deferred charges. We met our cash requirements during
this period through net proceeds of $19,699,092 from the private placement of
the Company's restricted equity securities.
As of December 31, 2008, the Company had short-term development commitments (within the next 12 months) of approximately $1.3 million to fund drilling activities under our agreement with Chifeng, and approximately $2.9 million to fund operations under our agreement with CUCBM. In the event the conditions precedent to the closing of the ChevronTexaco ATA and the BHP ATA are satisfied, the Company will be required to pay $1.35 million and $1.5 million, respectively, for the unpaid base purchase prices and other costs detailed in Part I, Item 1, "Description of Business," under these agreements, as well as additional capital to fund ongoing operational expenses related to the participating interests purchased from ChevronTexaco and BHP under the Baode PSC, which have been estimated by them to be $2.6 million.
Net cash used in operating activities was $3,208,017 in 2008 compared to $2,060,887 in 2007 and $814,024 in 2006. The increases in 2008 versus 2007 and in 2007 versus 2006 were principally due to increases in expenses paid, most of which were also incurred in the same respective years. The cash effect of net changes in current assets and liabilities was a significant factor in the 2008 versus 2007 comparative period due to accrued liabilities for expenses. For the 2007 versus 2006 comparative period it was not a significant factor.
Net cash provided by investing activities was $11,511,505 in 2008 compared to net cash used in investing activities of $13,040,176 in 2007 and $1,599,867 in 2006. The net change in 2008 versus 2007 was principally due to net sales of $9,940,000 of available-for-sale short-term securities and a decrease in deferred charges of $1,905,824 from deposits and other costs related to pending asset purchases under asset purchase agreements. This was partially offset by an increase in additions to property, plant and equipment in 2008 versus 2007. The net change in 2007 versus 2006 was principally due to an increase of $9,800,000 in net purchases of short-term investments.
Net cash used in financing activities was $2,513 in 2008 compared to net cash provided by financing activities of $15,421,002 in 2007 and $4,162,526 in 2006. The net change in 2008 versus 2007 was due to a lack of financing activity in 2008 versus financing activity in 2007 conducted in connection with the Mergers. The net increase in 2007 versus 2006 was principally due to the equity financing conducted in connection with the Mergers of May 7, 2007, which was significantly larger than the equity financing conducted in 2006 as IMPCO. Also affecting the increase in 2007 versus 2006 was a decrease in notes payable repaid and an increase in net cash flow from minority interest investment and advances activity.
Based on expenditures for development and operations included above (excluding the closing of the ChevronTexaco ATA and BHP ATA, and the transactions contemplated with Well Lead) of $4.2 million in total over 12 months, there would be $7.0 million available to fund expenses at $3.5 million per year for 2.0 years.
Our available working capital and capital requirements will depend upon numerous factors, including progress of our exploration and development programs, including under our agreements with Chifeng and CUCBM, closing of the ChevronTexaco ATA and BHP ATA and purchase of the ChevronTexaco and BHP participating interests, in the Baode PSC, consummation of the transactions contemplated with Well Lead and Beijing Tai He Sheng Ye Investment Company Limited, market developments and the status of our competitors. Our continued operations will depend on whether we are able to raise additional funds through various potential sources, such as equity and debt financing and strategic alliances. Such additional funds may not become available on acceptable terms, if at all, and any additional funding obtained may not be sufficient to meet our needs in the long term. Through December 31, 2008, virtually all of our financing has been raised through private placements of equity instruments. The Company at December 31, 2008 had no credit lines for financing and no short-term or long-term debt.
We intend to continue to fund operations from cash on hand and through the similar sources of capital previously described for the foreseeable future. Any additional capital that we are able to obtain may not be sufficient to meet
our needs. We believe that we will continue to incur net losses and negative cash flows from operating activities for the next 1-2 years. Based on the resources available to us on December 31, 2008, we can sustain operations at the present "burn rate" for more than one year. We will need additional equity or debt financing to expand our operations through 2009 and we may need additional financing thereafter.
By adjusting our operations and development to the level of capitalization, we believe we have sufficient capital resources to meet our projected cash flow deficits. However, if during the Next Year or thereafter, we are not successful in generating sufficient liquidity from operations or in raising sufficient capital resources, on terms acceptable to us, this could have a material adverse effect on our business, results of operations, liquidity, and financial condition.
To the extent the Company acquires additional CBM, tight gas sand and other energy-related rights consistent with its business plan, including the participating interests from ChevronTexaco and BHP, and the consummation of the transactions contemplated with Well Lead and Beijing Tai He Sheng Ye Investment Company Limited, the Company will need to raise additional funds for development of such projects.
Employees
As of December 31, 2008, we had 18 full-time employees and 8 part-time employees/contractors. In order for us to attract and retain quality personnel, we anticipate we will have to offer competitive salaries to future employees. During the Next Year, the Company may need to hire additional personnel in certain operational and other areas as required for its expansion efforts, and to maintain focus on its then-existing and new projects. The number and skill sets of individual employees will be primarily dependent on the relative rates of growth of the Company's different projects, and the extent to which operations and development are executed internally or contracted to outside parties. Subject to the availability of sufficient working capital and assuming initiation of additional projects, the Company currently plans to increase full-time staffing to over twenty people during the Next Year, although such hiring may not occur or may be inadequate to execute the Company's growth plans. As we continue to expand, we will incur additional cost for personnel.
Results of Operations
The Company is in the development stage and to date has not generated any significant revenues. During the fiscal year 2006, the Company focused its efforts on developing onshore development and production opportunities in China . . .
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