UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, DC 20549
FORM 10-QSB
(Mark One)
[X] QUARTERLY REPORT UNDER SECTION 13 OR 15(d) OF THE SECURITIES AND EXCHANGE
ACT OF 1934
For the quarterly period ended September 30, 2006
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the transition period from ___________ to ______________.
Commission File Number 0-33027
HOUSTON AMERICAN ENERGY CORP
(Exact name of small business issuer as specified in its charter)
Delaware 76-0675953
(State or other jurisdiction of (IRS Employer
incorporation or organization) Identification No.)
801 Travis Street, Suite 2020, Houston, Texas 77002
(Address of principal executive offices)(Zip Code)
(713) 222-6966
(Registrant's telephone number, including area code)
(Former name, former address and former fiscal year, if changed since last
report)
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 whether the registrant is a shell company (as
defined in Rule 12b-2 of the Exchange Act). Yes [ ] No [X]
As of November 1, 2006, we had 27,820,172 shares of $.001 par value Common
Stock outstanding.
Transitional Small Business Disclosure Format (check one) Yes [ ] No [X]
HOUSTON AMERICAN ENERGY CORP
----------------------------
FORM 10-QSB
INDEX
Page No.
--------
PART I. FINANCIAL INFORMATION
Item 1. Financial Statements (Unaudited)
Balance Sheet as of September 30, 2006 . . . . . . . . . . . . . . 3
Statements of Operations for the three months and nine
months ended September 30, 2006 and September 30, 2005 . . . . . 4
Statements of Cash Flows for the nine months
ended September 30, 2006 and September 30, 2005. . . . . . . . . 5
Notes to Financial Statements. . . . . . . . . . . . . . . . . . . 6
Item 2. Management's Discussion and Analysis of
Financial Condition and Results of Operations. . . . . . . . . . 11
Item 3. Controls and Procedures. . . . . . . . . . . . . . . . . . . . . 16
PART II OTHER INFORMATION
Item 6. Exhibits . . . . . . . . . . . . . . . . . . . . . . . . . . . . 18
PART I - FINANCIAL INFORMATION
ITEM 1. Financial Statements
HOUSTON AMERICAN ENERGY CORP
BALANCE SHEET
September 30, 2006
(Unaudited)
ASSETS
------
CURRENT ASSETS
Cash $ 14,421,365
Accounts receivable 262,070
Prepaid expenses 64,461
--------------
Total current assets 14,747,896
--------------
PROPERTY, PLANT AND EQUIPMENT
Oil and gas properties - full cost method
Costs subject to amortization 5,636,687
Costs not being amortized 947,638
Furniture and equipment 11,878
--------------
Total property, plant and equipment 6,596,203
Accumulated depreciation and depletion (1,827,796)
--------------
Total property, plant and equipment, net 4,768,407
--------------
OTHER ASSETS 3,167
--------------
Total Assets $ 19,519,470
==============
LIABILITIES AND SHAREHOLDERS' EQUITY
------------------------------------
CURRENT LIABILITIES
Accounts payable $ 72,353
Accrued expenses 16,866
--------------
Total current liabilities 89,219
--------------
LONG-TERM LIABILITIES
Reserve for plugging costs 41,249
--------------
Total long-term liabilities 41,249
--------------
SHAREHOLDERS' EQUITY
Common stock, $0.001 par value; 100,000,000 shares
authorized; 27,820,172 shares outstanding 27,820
Additional paid-in capital 21,687,835
Treasury stock, at cost; 100,000 shares (85,834)
Accumulated deficit (2,240,819)
--------------
Total shareholders' equity 19,389,002
--------------
Total liabilities and shareholders' equity $ 19,519,470
==============
The accompanying notes are an integral part of these financial statements
3
HOUSTON AMERICAN ENERGY CORP
STATEMENT OF OPERATIONS
(Unaudited)
Nine Months Ended Three Months Ended
September 30, September 30,
-------------------------- --------------------------
2006 2005 2006 2005
------------ ------------ ------------ ------------
Oil and gas revenue $ 2,380,593 $ 1,824,582 $ 891,029 $ 732,642
Consulting fees - 25,000 - 25,000
------------ ------------ ------------ ------------
Total revenues 2,380,593 1,849,582 891,029 757,642
------------ ------------ ------------ ------------
Expenses of operations:
Lease operating expense and
severance tax 736,803 710,702 285,767 239,727
Joint venture expenses 121,206 43,105 40,083 15,681
General and administrative
expense (including share-based
compensation expenses of $209,867,
$0, $164,667, and $0 respectively) 971,698 542,590 454,257 200,837
Depreciation and depletion 455,246 223,392 275,234 53,034
------------ ------------ ------------ ------------
Total operating expenses 2,284,953 1,519,789 1,055,341 509,279
------------ ------------ ------------ ------------
Income (loss) from operations 95,640 329,793 (164,312) 248,363
Other (income) expenses:
Interest income (316,697) (21,084) (238,814) (13,314)
Interest expense 57,278 69,420 - 42,500
Interest expense - derivative 37,773 304,753 - 12,317
Net change in fair value of
derivative liabilities 170,949 351,244 - 289,214
Interest expense - shareholders 20,440 54,000 - 18,000
Financing costs 110,787 10,431 104 6,386
------------ ------------ ------------ ------------
Total other (income) expenses, net 80,530 768,764 (238,710) 355,103
------------ ------------ ------------ ------------
Net income (loss) before taxes 15,110 (438,971) 74,398 (106,740)
Income tax expense 198,099 - 76,402 -
------------ ------------ ------------ ------------
Net loss $ (182,989) $ (438,971) $ (2,004) $ (106,740)
============ ============ ============ ============
Basic and diluted loss per share $ (0.01) $ (0.02) $ (0.00) $ (0.01)
============ ============ ============ ============
Basic and diluted weighted average shares 24,158,638 19,968,089 27,820,172 19,968,089
============ ============ ============ ============
The accompanying notes are an integral part of these financial statements
4
HOUSTON AMERICAN ENERGY CORP
STATEMENTS OF CASH FLOWS
(Unaudited)
For the Nine Months Ended
September 30,
----------------------------
2006 2005
------------- -------------
CASH FLOWS FROM OPERATING ACTIVITIES
Net loss $ (182,989) $ (438,971)
Adjustments to reconcile net loss
to net cash from operations
Depreciation and depletion 455,246 223,392
Stock based compensation 209,867 -
Change in fair value of derivatives 170,949 351,244
Amortization of debt discount and deferred financing cost 148,456 304,753
Changes in operating assets and liabilities:
(Increase) decrease in accounts receivable 311,251 (233,508)
(Increase) decrease in prepaid expense (54,496) 88,551
(Increase) decrease in other assets - (117,069)
Increase (decrease) in accounts payable and accrued liabilities (446,446) 118,264
------------- -------------
Net cash provided by operations 611,838 296,656
------------- -------------
CASH FLOWS FROM INVESTING ACTIVITIES
Acquisition of oil and gas properties (2,592,406) (1,353,085)
------------- -------------
Net cash used in investing activities (2,592,406) (1,353,085)
------------- -------------
CASH FLOWS FROM FINANCING ACTIVITIES
Sale of common stock, net of costs 15,386,583 -
Issuance of debt - 2,125,000
Exercise of warrants 191,250 -
Repayment of shareholder loan (900,000) -
------------- -------------
Net cash provided by financing activities 14,677,833 2,125,000
------------- -------------
Increase in cash and equivalents 12,697,265 1,068,571
Cash, beginning of period 1,724,100 721,613
------------- -------------
Cash, end of period $ 14,421,365 $ 1,790,184
============= =============
SUPPLEMENTAL CASH FLOW INFORMATION:
Interest paid $ 110,773 $ 54,000
============= =============
SUPPLEMENTAL SCHEDULE OF NON-CASH INVESTING AND FINANCING ACTIVITIES:
Conversion of convertible notes to common stock $ 2,445,545 $ -
============= =============
Warrants issued for financing fees - 162,562
============= =============
Exercise of warrants 610,719 -
============= =============
The accompanying notes are an integral part of these financial statements
5
HOUSTON AMERICAN ENERGY CORP
Notes to Financial Statements
September 30, 2006
(Unaudited)
NOTE 1. - BASIS OF PRESENTATION
The accompanying unaudited financial statements of Houston American Energy Corp,
a Delaware corporation (the "Company"), have been prepared in accordance with
accounting principles generally accepted in the United States of America for
interim financial information and with the instructions to Form 10-QSB and Item
310(b) of Regulation S-B. They do not include all of the information and
footnotes required by accounting principles generally accepted in the United
States of America for a complete financial presentation. In the opinion of
management, all adjustments, consisting only of normal recurring adjustments,
considered necessary for a fair presentation, have been included in the
accompanying unaudited financial statements. Operating results for the periods
presented are not necessarily indicative of the results that may be expected for
the full year.
These financial statements should be read in conjunction with the financial
statements and footnotes which are included as part of the Company's Form 10-KSB
for the year ended December 31, 2005.
NOTE 2. - CHANGES IN PRESENTATION
Certain financial presentations for the periods presented for 2005 have been
reclassified to conform to the 2006 presentation.
NOTE 3. - ISSUANCES OF COMMON STOCK AND WARRANTS
April 2006 Private Placement
On April 28, 2006, the Company entered into Subscription Agreements (the
"Purchase Agreements") with multiple investors pursuant to which the Company
sold 5,533,333 shares of common stock (the "Shares") for $16,599,999.
The Shares were offered and sold in a private placement transaction pursuant to
the exemption from registration provided by Section 4(2) of the Securities Act
of 1933 and Rule 506 promulgated thereunder. Each investor was an "accredited
investor" as defined in Rule 501 promulgated under the Securities Act.
Pursuant to the terms of the Subscription Agreements, the Company and the
investors entered into Registration Rights Agreements under which the Company
agreed to file with the Securities and Exchange Commission, within 60 days, a
registration statement covering the Shares. In conjunction with the placement
of the Shares, John Terwilliger, O. Lee Tawes III and Edwin Broun III each
entered into lock-up agreements pursuant to which each agreed not to offer or
sell any shares of the Company's common stock until the earlier of the effective
date of the registration statement relating to the Shares or one year from the
sale of the Shares.
Sanders Morris Harris Inc. acted as placement agent in connection with the offer
and sale of the Shares. For its services as placement agent, Sanders Morris
Harris Inc. received commissions totaling $1,162,000 and a warrant (the
"Placement Agent Warrant") to purchase 415,000 shares of common stock at $3.00
per share. The Registration Rights Agreements provide that the shares of common
stock underlying the Placement Agent Warrant are to be included in the
registration statement to be filed.
6
Conversion of 8% Subordinated Convertible Notes
On May 2, 2006, the Company notified the holders of its 8% Subordinated
Convertible Notes (the "Convertible Notes") of its election to convert the
Convertible Notes into shares of the Company's common stock. As a result of
such election, the full principal amount of the Convertible Notes of $2,125,000
has been satisfied by conversion of the same into 2,125,000 shares of common
stock.
The shares of common stock issued on conversion of the Convertible Notes were
offered and issued pursuant to the exemption from registration provided by
Section 4(2) of the Securities Act of 1933. Each of the investors is an
"accredited investor", as defined in Rule 501 promulgated under the Securities
Act.
Exercise of Warrants
In May 2006, the holders of warrants issued in conjunction with the May 2005
private placement of the Convertible Notes exercised all 191,250 warrants and
were issued an aggregate of 191,250 shares of common stock for aggregate
consideration of $191,250.
The shares of common stock issued on exercise of the warrants were offered and
issued pursuant to the exemption from registration provided by Section 4(2) of
the Securities Act of 1933. Each of the investors is an "accredited investor",
as defined in Rule 501 promulgated under the Securities Act.
NOTE 4. - SUBORDINATED CONVERTIBLE NOTES AND WARRANTS - DERIVATIVE LIABILITIES
In conjunction with the issuance in May 2005 of Convertible Notes, the
conversion feature, the conversion price, reset provision and the Company's
optional early redemption right in the Convertible Notes were bundled together
as a single compound embedded derivative liability and, using a layered
discounted probability-weighted cash flow approach, were initially fair valued
at $2,368,485 at May 4, 2005. The fair value model comprises multiple
probability-weighted scenarios under various assumptions reflecting the
economics of the Convertible Notes, such as the risk-free interest rate,
expected Company stock price and volatility, likelihood of conversion and or
redemption, and likelihood default status and timely registration. At inception,
the fair value of this single compound embedded derivative was bifurcated from
the host debt contract and recorded as a derivative liability which resulted in
a reduction of the initial notional carrying amount of the Convertible Notes (as
unamortized discount which will be amortized over a five-year period under the
effective interest method). At inception the excess of the unamortized discount
over the notional amount of the Convertible Note in the amount of $285,547 was
charged to expense in the Company's statement of operations.
As noted above, the Convertible Notes were satisfied in full in May 2006 upon
the conversion of the same to common stock. As a result of conversion of the
Convertible Notes, the compound embedded derivative liability of $2,373,405 was
reclassified as additional paid in capital, and the unamortized discount in the
amount of $2,053,060 was credited as a reduction of additional paid in capital,
during the nine month period ended September 30, 2006.
Also as noted above, the warrants issued in conjunction with the Convertible
Notes were exercised in full. As a result of exercise of the warrants, the
derivative liability associated with the warrants, in the amount of $610,719,
was reclassified as additional paid in capital during the nine month period
ended September 30, 2006.
7
NOTE 5. - SHAREHOLDER LOAN
Shareholder loans, in the principal amount of $900,000, were repaid in full from
the proceeds of the April 2006 private placement.
NOTE 6. - STOCK BASED COMPENSATION
We maintain performance incentive plans under which incentive stock options and
non-qualified stock options may be granted to employees, consultants and
non-employee directors. Stock options are granted at the market price on the
date of grant, vesting over varying periods, and generally expire ten years from
the date of grant. We issue new shares of common stock upon exercise of stock
options.
Effective January 1, 2006, the first day of our 2006 fiscal year, we adopted
Financial Accounting Standards Board ("FASB") Statement No. 123(R), "Share-Based
Payment" ("SFAS 123R"), using the modified prospective transition method, and as
a result, did not retroactively adjust results from prior periods. Under this
transition method, stock-based compensation was recognized for expense related
to the options vesting in the first nine months of 2006 based on the grant date
fair value estimated in accordance with the provisions of SFAS 123R. We apply
the Black-Scholes valuation model in determining the fair value of share-based
payments to employees, non-employee directors and consultants. The resulting
compensation expense is recognized over the requisite service period, which is
generally the option vesting term. Options issued to non-employee directors are
vested 100% at grant date. 20,000 options were granted to non-employee directors
during the nine months ended September 30, 2006. Prior to fiscal 2006,
stock-based compensation was included as a pro forma disclosure in the Notes to
the Consolidated Financial Statements as permitted by SFAS 123.
Compensation expense is recognized only for those options expected to vest, with
forfeitures estimated based on our historical experience and future
expectations. Prior to the adoption of SFAS 123R, the effect of forfeitures on
the pro forma expense amounts was recognized as the forfeitures occurred.
200,000 options were granted to employees during the quarter and nine months
ended September 30, 2006. Adoption of SFAS 123R resulted in a compensation
charge of $164,667 in the Statement of Operations for the quarter ended
September 30, 2006.
The expected term of the options represents the estimated period of time until
exercise and is based on historical experience of similar options, giving
consideration to the contractual terms, vesting schedules and expectations of
future employee behavior. For fiscal 2006, expected stock price volatility is
based on the historical volatility of our stock. The risk-free interest rate is
based on the U.S. Treasury yield in effect at the time of grant with an
equivalent remaining term. The Company has not paid dividends in the past and
does not currently plan to pay any dividends in the near future.
8
The fair value of each option grant issued is estimated at the date of grant
using the Black-Scholes option-pricing model with the following weighted average
assumptions for the periods indicated:
For the three months
September 30, 2006
----------------------
Expected volatility 77.0%
Risk free interest rate 5.24%
Expected option life 10 years
Dividend yield 0%
Fair value of options granted $ 494,000
Stock option activity during the nine months ended September 30, 2006 was as
follows:
Weighted
Weighted Average
Average Remaining Aggregate
Exercise Contractual Intrinsic
Shares Price Term (in years) Value
------- --------- --------------- ----------
Outstanding at December 31, 2005 89,000 $ 2.42 8.95
Granted 220,000 3.08 9.75
Exercised -
Cancelled -
-------
Outstanding at September 30, 2006 309,000 2.89 9.52 $ 24,000
=======
Vested and expected to vest at September
30, 2006 309,000 2.89 9.52 $ 24,000
Exercisable at September 30, 2006 109,000 2.73 9.07 $ 24,000
The aggregate intrinsic value in the table above represents the total pretax
intrinsic value (the difference between our closing stock price on September 30,
2006 and the exercise price, multiplied by the number of in-the-money options)
that would have been received by the option holders had all option holders
exercised their options on September 30, 2006. This amount changes based on the
fair market value of our stock. No options were exercised for the nine moths
ended September 30, 2006. As of September 30, 2006, total unrecognized
stock-based compensation expense related to non-vested stock options was
$329,333, which is expected to be recognized over 1.75 years. As of September
30, 2006 there were 191,000 shares of common stock available for issuance
pursuant to future stock option grants.
Additional information regarding options outstanding as of September 30, 2006 is
as follows:
Options Outstanding Options Exercisable
------------------------------------- --------------------------
Weighted-
Number Average Weighted- Number Weighted-
Outstanding Remaining Average Exercisable at Average
at September Contractual Exercise September Exercise
Range of Exercise Price 30, 2006 Life Price 30, 2006 Price
----------------------- ------------ ----------- ---------- -------------- ----------
2.00 60,000 8.87 $ 2.00 60,000 $ 2.00
2.98 200,000 9.76 $ 2.98 0 $ -
3.30 29,000 9.12 $ 3.30 29,000 $ 3.30
4.10 20,000 9.63 $ 4.10 20,000 $ 4.10
9
NOTE 7. - COMMITMENTS AND CONTINGENCIES
In May 2006, the Company named an additional director to its board and revised
the compensation of its President and its non-employee directors.
Pursuant to a resolution adopted by the board of directors, the base salary of
the Company's president was increased, effective June 1, 2006 from $180,000
annually to $300,000 annually.
Pursuant to a resolution adopted by the board of directors, the Company fixed
the compensation of non-employee directors to consist of (1) an annual retainer
of $6,000 payable in quarterly installments, (2) an annual retainer of $2,000
per committee on which a director serves, payable in quarterly installments, (3)
an annual retainer of $2,500 for service as audit committee chair, payable in
quarterly installments, (4) an annual retainer of $1,500 for service as chair of
committees other than the audit committee, payable in quarterly installments,
(5) a grant of 20,000 stock options on initial election or appointment as a
director exercisable at fair market value on the date of grant for a term of 10
years, and (6) a grant of 10,000 stock options immediately following each
subsequent shareholders meeting at which a director stands for reelection and is
reelected.
In July 2006, the Company appointed James "Jay" Jacobs as Chief Financial
Officer and fixed Mr. Jacobs' compensation as follows: (1) base salary of
$125,000; and (2) a stock option to purchase 200,000 shares of common stock at
$2.98 per share, the closing price on first day of employment, vesting over a 2
year period and exercisable over a period of ten years. The Company has agreed,
by the end of the 2nd quarter of 2007, to retain the services of an outside
compensation consulting firm to review and make recommendations with respect to
the compensation of Mr. Jacobs and each of the Company's executive officers and
directors.
NOTE 8. - LOSS PER SHARE
Pursuant to SFAS No. 128, "Earnings Per Share," basic net income per share is
computed by dividing the net income attributable to common shareholders by the
weighted-average number of common shares outstanding during the period. Diluted
net income per share is computed by dividing the net income attributable to
common shareholders by the weighted-average number of common and common
equivalent shares outstanding during the period. Common share equivalents
included in the diluted computation represent shares issuable upon assumed
exercise of stock options, warrants, and convertible notes using the treasury
stock and "if converted" method. Our securities do not have a contractual
obligation to share in the losses in any given period. As a result these
securities were not allocated any losses in the periods of net losses.
For the three months ended September 30, 2006, 309,000 options and 415,000
warrants to purchase common stock were excluded from the calculation of diluted
net loss per share because they were anti-dilutive. For the three months ended
September 30, 2005, 2,125,000 shares of common stock issuable upon conversion of
convertible notes and 191,250 warrants to purchase common stock were excluded
from the calculation of diluted net loss per share because they were
anti-dilutive.
For the nine months ended September 30, 2006, 309,000 options and 415,000
warrants to purchase common stock were excluded from the calculation of diluted
net loss per share because they were anti-dilutive. For the nine months ended
September 30, 2005, 2,125,000 shares of common stock issuable upon conversion of
convertible notes and 191,250 warrants to purchase common stock were excluded
from the calculation of diluted net loss per share because they were
anti-dilutive.
10
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OR PLAN OF OPERATIONS
FORWARD-LOOKING INFORMATION
This Form 10-QSB quarterly report of Houston American Energy Corp (the
"Company") for the nine months ended September 30, 2006, contains certain
forward-looking statements within the meaning of Section 27A of the Securities
Act of 1933, as amended, and Section 21E of the Securities Exchange Act of 1934,
as amended, which are intended to be covered by the safe harbors created
thereby. To the extent that there are statements that are not recitations of
historical fact, such statements constitute forward-looking statements that, by
definition, involve risks and uncertainties. In any forward-looking statement,
where the Company expresses an expectation or belief as to future results or
events, such expectation or belief is expressed in good faith and believed to
have a reasonable basis, but there can be no assurance that the statement of
expectation or belief will be achieved or accomplished.
The actual results or events may differ materially from those anticipated and as
reflected in forward-looking statements included herein. Factors that may cause
actual results or events to differ from those anticipated in the forward-looking
statements included herein include the Risk Factors described in Item 1 of the
Company's Form 10-KSB for the year ended December 31, 2005.
Readers are cautioned not to place undue reliance on the forward-looking
statements contained herein, which speak only as of the date hereof. The
Company believes the information contained in this Form 10-QSB to be accurate as
of the date hereof. Changes may occur after that date, and the Company will not
update that information except as required by law in the normal course of its
public disclosure practices.
Additionally, the following discussion regarding the Company's financial
condition and results of operations should be read in conjunction with the
financial statements and related notes contained in Item 1 of Part 1 of this
Form 10-QSB, as well as the Risk Factors in Item 1 and the financial statements
in Item 7 of Part II of the Company's Form 10-KSB for the fiscal year ended
December 31, 2005.
CRITICAL ACCOUNTING POLICIES
The Company's discussion and analysis of its financial condition and results of
operations are based upon the Company's financial statements, which have been
prepared in accordance with accounting principles generally accepted in the
United States of America. The Company believes certain critical accounting
policies affect its more significant judgments and estimates used in the
preparation of its financial statements. A description of the Company's
critical accounting policies is set forth in the Company's Form 10-KSB for the
year ended December 31, 2005. As of, and for the nine months ended, September
30, 2006, there have been no material changes or updates to the Company's
critical accounting policies other than (1) the adoption of stock-based
compensation in accordance with the provisions of SFAS 123R, constituting a new
critical accounting policy, and (2) the following updated information relating
to Unevaluated Oil and Gas Properties:
STOCK-BASED COMPENSATION. We account for stock-based compensation in accordance
with the provisions of SFAS 123R. We use the Black-Scholes option-pricing
model, which requires the input of highly subjective assumptions. These
assumptions include estimating the volatility of the Company's common stock
price over the vesting term and the number of options that will ultimately not
complete their vesting requirements ("forfeitures"). Changes in the subjective
assumptions can materially affect the estimated fair value of stock-based
compensation and consequently, the related amount recognized on the Statements
of Operations. See Note 6 of the Notes to the Financial Statements in this Form
10-QSB for further discussion of stock-based compensation.
11
UNEVALUATED OIL AND GAS PROPERTIES. Unevaluated oil and gas properties not
subject to amortization include the following at September 30, 2006:
September 30, 2006
Acquisition costs $ 177,993
Evaluation costs 769,645
-------------------
Total $ 947,638
===================
The carrying value of unevaluated oil and gas prospects include $729,445
expended for properties in the South American country of Colombia at September
30, 2006. We are maintaining our interest in these properties and development
has or is anticipated to commence within the next twelve months.
CURRENT YEAR DEVELOPMENTS
Drilling Activity
During the nine months ended September 30, 2006, the Company drilled 3 on-shore
domestic wells as follows:
- The Obenhaus #1, a 7,100 -foot well on the Obenhaus Prospect in Wilbarger
County, Texas was drilled and was a dry hole.
- The Riggins #1, a 6,400-foot test well on the West Fargo Prospect in
Wilbarger County, Texas was drilled and was deemed non-commercial.
- The DDD-Evans #1, a 8,500-foot test well on the West Turkey Prospect in
Hardeman County, Texas, was completed in April 2006 and began production in
May 2006.
At September 30, 2006, the Company had no domestic wells being drilled.
At September 30, 2006, the Company had no plans to drill additional domestic
wells during the balance of 2006.
During the nine months ended September 30, 2006, the Company drilled 9
international wells in Colombia. Of the wells drilled in Colombia, 5 were
successfully drilled and producing at September 30, 2006 and 4 were dry holes.
At September 30, 2006, the Company had 1 well being drilled in Colombia with
plans to drill 7 wells during the balance of 2006.
Leasehold Activity
During the nine months ended September 30, 2006, the Company acquired interests
in an additional domestic prospect, a 10% working interest with a 7.5% net
revenue interest in the 91.375 acre West Turkey Prospect in Hardeman County,
Texas.
During the 2006 period, the Company terminated its interest in the Green Jacket
Prospect in Iberville Parish, Louisiana.
12
Seismic Activity
During the nine months ended September 30, 2006, the Company continued its
ongoing investment in acquiring and developing seismic data with respect to its
Colombian properties with shooting being completed on approximately 133 square
miles of prospect acreage during the period.
Capital Raising Activity
In April 2006, the Company sold, in a private placement, 5,533,333 shares of
common stock for gross proceeds of $16,599,999. In connection with the private
placement of shares, the Company paid to the placement agent commissions of
$1,162,000 and issued to the placement agent five year warrants to purchase
415,000 shares of common stock at $3.00 per share.
In May 2006, the Company repaid loans from its principal shareholder, in the
principal amount of $900,000, from the proceeds of the April 2006 private
placement.
In May 2006, the Company exercised its right to cause its outstanding
Subordinated Convertible Notes, in the aggregate principal amount of $2,125,000,
to be converted into 2,125,000 shares of common stock.
In May 2006, the holders of $1.00 warrants issued in connection with the
Subordinated Convertible Notes exercised all of the warrants resulting in the
issuance of 191,250 shares of common stock for aggregate consideration of
$191,250.
Corporate Developments
During May 2006, the Company's board of directors appointed an additional
non-employee director and revised the compensation of the Company's President
and non-employee directors. Effective June 1, 2006, the base salary of the
Company's President was increased from $180,000 to $300,000 annually. The board
fixed the compensation of non-employee directors to consist of (1) an annual
retainer of $6,000 payable in quarterly installments, (2) an annual retainer of
$2,000 per committee on which a director serves, payable in quarterly
installments, (3) an annual retainer of $2,500 for service as audit committee
chair, payable in quarterly installments, (4) an annual retainer of $1,500 for
service as chair of committees other than the audit committee, payable in
quarterly installments, (5) a grant of 20,000 stock options on initial election
or appointment as a director exercisable at fair market value on the date of
grant for a term of 10 years, and (6) a grant of 10,000 stock options
immediately following each subsequent shareholders meeting at which a director
stands for reelection and is reelected.
In July 2006, the Company appointed James "Jay" Jacobs as Chief Financial
Officer and fixed Mr. Jacobs' compensation, subject to review and adjustment by
mid-2007, as follows: (1) base salary of $125,000; and (2) a stock option to
purchase 200,000 shares of common stock at $2.98 per share, the closing price on
first day of employment, vesting over a 2 year period and exercisable over a
period of ten years.
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RESULTS OF OPERATIONS
Oil and Gas Revenues. Total oil and gas revenues increased 28.7% to $2,380,593
in the nine months ended September 30, 2006 when compared to the nine months
ended September 30, 2005. The increase in revenue is due to (1) increased
production resulting from the development of the Columbian fields and the new
domestic wells that have come on line since September 2005, and (2) increases in
oil and gas prices. The Company had interests in 21 producing wells in Colombia
and 12 producing wells in the U.S. during the 2006 period as compared to 16
producing wells in Columbia and 8 producing wells in the U.S. during the 2005
period. Average prices from sales were $58.66 per barrel of oil and $6.72 per
mcf of gas during the 2006 period as compared to $47.81 per barrel of oil and
$6.32 per mcf of gas during the 2005 period.
Columbia U.S. Total
---------- -------- ----------
2006 Period
Oil sales $1,816,048 $ 69,916 $1,885,964
Gas sales - 494,629 494,629
2005 Period
Oil sales 1,360,647 62,978 1,423,625
Gas sales - 400,957 400,957
Lease Operating Expenses. Lease operating expenses, excluding joint venture
expenses relating to our Columbian operations discussed below, increased 3.7% to
$736,803 in the 2006 period from $710,702 in the 2005 period. The increase in
lease operating expenses was attributable to the increase in the number of wells
operated during the 2006 period (33 wells as compared to 24 wells) partially
offset by improved operating efficiencies. Following is a summary comparison of
lease operating expenses for the periods.
Columbia U.S. Total
---------- -------- ----------
2006 Period $ 584,810 $151,993 $ 736,803
2005 Period 660,446 50,256 710,702
Joint Venture Expenses. The Company's allocable share of joint venture expenses
attributable to the Colombian Joint Venture totaled $121,206 during the 2006
period and $43,105 for the 2005 period. The increase in joint venture expenses
was attributable to an increase in operational activities of the joint venture
in acquiring new concessions.
Depreciation and Depletion Expense. Depreciation and depletion expense was
$455,246 and $223,392 for the nine months ended September 30, 2006 and 2005,
respectively. The increase is due to increases in domestic and Colombian
production.
General and Administrative Expenses. General and administrative expense
increased by 79.1% to $971,698 during the 2006 period from $542,590 in the 2005
period. The increase in general and administrative expense was primarily
attributable to (1) payment of state taxes ($19,383), (2) compensation expense
relating to the grant of stock options to a new director and a new officer
($209,867), (3) an increase in officer salary, director compensation and the
hiring of a new officer, ($95,135), (4) an increase in travel and entertainment
expense ($19,808), and (5) transfer agent fees and fees relating to the listing
of the Company's stock on the American Stock Exchange ($87,926). General and
administrative expense is expected to continue at an increased level during the
4th quarter of 2006 due to an increase in salary of the Company's President, the
hiring of a Chief Financial Officer and the recognition of compensation
associated with options granted to the Chief Financial Officer.
Other Income/Expense, Net. Other income/expense, net, consists of interest
income, net of financing costs in the nature of interest and deemed interest
associated with outstanding shareholder loans and convertible notes and warrants
issued in May 2005. Certain features of the convertible notes and warrants
resulted in
14
the recording of a deemed derivative liability on the balance sheet and periodic
interest associated with the deemed derivative liabilities and changes in the
fair market value of those deemed liabilities.
Other income/expenses, net, totaled $768,764 of net expenses in the 2005 period
compared to $80,530 of net expenses in the 2006 period. The improvement in
other income/expense, net, was attributable to interest earned on funds received
from the 2006 private placement, reduced interest on shareholder debt,
derivative interest expense, interest expense on convertible notes net changes
in fair value of derivatives partially offset by increases in financing costs,
which charges primarily related to retirement of the convertible notes and
warrants. As a result of the retirement of the shareholder loan and the
convertible notes, the Company had no substantial debt at September 30, 2006
and, accordingly, following the conversion or retirement of the shareholder
loans and convertible notes and related warrants the Company will no longer
incur interest or derivative related charges associated with the loans, notes
and warrants.
Income Tax. Income taxes totaled $198,099 during the 2006 nine month period as
compared to $0 during the 2005 nine month period. Income taxes for the 2006
period relates to foreign taxes in connection with the Company's Colombian
operations. The increase in income tax expense was attributable to increased
production and profitability in Colombia. The Company had no provision for U.S.
income taxes for either period due to the availability of net operating losses.
FINANCIAL CONDITION
Liquidity and Capital Resources. At September 30, 2006 the Company had a cash
balance of $14,421,365 and working capital of $14,658,677 compared to a cash
balance of $1,724,100 and working capital of $1,771,722 at December 31, 2005.
The increase in cash and working capital during the period was primarily
attributable to the receipt of $15,386,583 of net proceeds from the April 2006
private placement of common stock as well as the receipt of $191,250 from the
exercise of warrants, partially offset by acquisitions of and investments in oil
and gas properties and the retirement of $900,000 of shareholder loans.
Derivative liabilities are $0 at September 30, 2006 as compared to $2,813,175 at
December 31, 2005 but are not considered in computing working capital. The
decrease in derivative liabilities was attributable to the conversion, during
2006, of the convertible notes and warrants into common stock and the
accompanying reclassification of the derivative liability in the amount of
$2,894,124 to additional paid in capital. The derivative liabilities
represented the deemed fair value of the embedded derivatives included in the
subordinated convertible notes and accompanying warrants that were issued during
2005 as measured at September 30, 2006 and December 31, 2005.
Cash Flows. Cash flows provided by operations for the 2006 period totaled
$611,838 as compared to cash provided by operations during the 2005 period of
$296,656. The increase in operating cash flow was primarily attributable to
decreases in accounts receivable, increased changes in the fair value of
derivatives and non cash expenses, offset by decreases in accounts accrued
liabilities and increases in prepaid expenses.
Investing activities used $2,592,406 during the 2006 period as compared to
$1,353,085 used during the 2005 period. The increase in funds used in investing
activities during the current period was primarily attributable to seismic costs
incurred in South America and increased drilling activity.
Financing activities provided $14,677,833 during the 2006 period as compared to
$2,125,000 provided during the 2005 period. Cash flows from financing
activities during 2006 related to the private placement of common stock
resulting in the receipt of net proceeds of $15,386,583 and the receipt of
$191,250 from the exercise of warrants partially offset by the repayment of
shareholder loans of $900,000.
15
Long-Term Liabilities. At September 30, 2006, the Company had long-term
liabilities of $41,249 as compared to $975,416 at December 31, 2005. Long-term
liabilities at September 30, 2006 consisted of a reserve for plugging costs.
The change in long-term debt was attributable to the retirement of shareholder
loans of $900,000 and the conversion of convertible notes into common stock.
Capital and Exploration Expenditures and Commitments. The Company's principal
capital and exploration expenditures relate to our ongoing efforts to acquire,
drill and complete prospects. With the receipt of additional financing in 2006
and prior years, and the increase in our revenues, profitability and operating
cash flows, the Company expects that future capital and exploration expenditures
will be funded principally through funds on hand and funds generated from
operations.
During the first nine months of 2006, the Company invested $2,592,406 for the
acquisition and development of oil and gas properties, consisting of (1)
drilling of 3 domestic wells ($320,971), (2) drilling 9 wells in Colombia
($1,327,964), (3) acquisition of leases domestically ($294,401) and (4) seismic
activity in Colombia ($649,070).
At September 30, 2006, the Company's only material contractual obligations
requiring determinable future payments were a lease relating to the Company's
executive offices which was unchanged when compared to the 2005 Form 10-KSB.
At September 30, 2006, the Company's acquisition and drilling budget for the
balance of 2006 totaled approximately $1,346,000, consisting entirely of the
budget for drilling of 7 wells in South America on the Cara Cara and Cabiona
concessions. The Company's acquisition and drilling budget has historically
been subject to substantial fluctuation over the course of a year based upon
successes and failures in drilling and completion of prospects and the
identification of additional prospects during the course of a year.
Management anticipates that the Company's current financial resources will meet
our anticipated objectives and business operations, including our planned
property acquisitions and drilling activities, for at least the next 12 months
without the need for additional capital. Management continues to evaluate
producing property acquisitions as well as a number of drilling prospects. It
is possible, although not anticipated, that the Company may require and seek
additional financing if additional drilling prospects are pursued beyond those
presently under consideration.
OFF-BALANCE SHEET ARRANGEMENTS
The Company had no off-balance sheet arrangements or guarantees of third party
obligations at September 30, 2006.
INFLATION
The Company believes that inflation has not had a significant impact on
operations since inception.
ITEM 3. CONTROLS AND PROCEDURES
As of the end of the period covered by this report, we have evaluated the
effectiveness of the design and operation of our disclosure controls and
procedures under the supervision and with the participation of our chief
executive officer ("CEO") and chief financial officer ("CFO"). Based on this
evaluation, our management, including the CEO and CFO, concluded that our
disclosure controls and procedures were not effective at September 30, 2006.
16
During the quarter ended September 30, 2006, we hired a full-time Chief
Financial Officer to oversee and manage the accounting and financial reporting
functions. Otherwise, there were no changes in our internal controls over
financial reporting that materially affected, or are reasonably likely to
materially affect, internal controls over financial reporting.
In connection with the quarterly review for the period ended September 30, 2006,
our independent registered public accounting firm informed us that we have
significant deficiencies constituting material weaknesses as defined by the
standards of the Public Company Accounting Oversight Board. The material
weaknesses identified consisted of a lack of certain procedures to properly
account for non-routine transactions and preparation of certain financial
statement disclosures in accordance with U.S. GAAP. Additionally, the
independent registered public accounting firm identified, during its review,
certain closing and adjusting entries that had not been made prior to the
review.
In addition to the weaknesses identified by our independent registered public
accounting firm, management notes that the Company continues to lack adequate
segregation of duties in our financial reporting process, as our CFO serves as
our only internal accounting and financial reporting personnel and, as such,
performs all accounting and financial reporting functions. Accordingly, the
preparation of financial statements and the related monitoring controls
surrounding this process were not segregated.
The Company plans to increase its emphasis on identification of, and accounting
for, non-routine transactions, in particular SFAS 123R accounting, and timely
preparation of closing and adjusting entries. The Company has no current plans
to add accounting or financial reporting personnel and, accordingly, expects to
continue to lack segregation of accounting, financial reporting and oversight
functions. As operations increase in scope, the Company intends to evaluate
hiring additional in-house accounting personnel so as to provide for appropriate
segregation of duties within the accounting function.
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PART II
ITEM 6. EXHIBITS
Exhibit
Number Description
------ -----------
31.1 Certification of CEO pursuant to Section 302 of the Sarbanes-Oxley Act
of 2002
31.2 Certification of CFO pursuant to Section 302 of the Sarbanes-Oxley Act
of 2002
32.1 Certification of CEO Pursuant to 18 U.S.C. Section 1350, as Adopted
Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002
32.2 Certification of CFO Pursuant to 18 U.S.C. Section 1350, as Adopted
Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002
18
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the
registrant has duly caused this report to be signed on behalf by the undersigned
thereunto duly authorized.
HOUSTON AMERICAN ENERGY CORP.
By: /s/ John Terwilliger
John Terwilliger
CEO and President
By: /s/ James Jacobs
James Jacobs
Chief Financial Officer
Date: November 13, 2006
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