CALGARY, ALBERTA–(Marketwire – Nov. 10, 2010) – Storm Resources Ltd. (TSX VENTURE:SRX)
- On August 17, 2010, Storm Resources Ltd. (“Storm” or the “Company”) commenced operations after certain assets were transferred to Storm under the Plan of Arrangement involving the sale of Storm Exploration Inc. to ARC Energy Trust. The assets transferred to Storm included approximately 117,200 net acres of undeveloped land in the Horn River Basin, Cabin/Kotcho/Junior and Umbach areas in North East British Columbia and in the Red Earth area of Alberta. In addition, Storm received share ownership positions in Storm Gas Resource Corp., Bellamont Exploration Ltd., Bridge Energy ASA and Chinook Energy Inc. plus a cash payment of $9.4 million.
- Also on August 17, 2010, Storm completed a private placement of 2.3 million common shares, at a price of $3.28 per share, with directors, officers, and employees, for proceeds totaling $7.5 million.
- On September 21, 2010, 6.6 million warrants which had been issued to Storm Exploration Inc. shareholders under the Plan of Arrangement with ARC Energy Trust, were exercised at a price of $3.28 per share for proceeds totaling $21.5 million. This represented approximately 99% of the warrants outstanding. All warrants have either been exercised or have expired.
- During the quarter, capital expenditures totaled $3.4 million which included completing a horizontal well at Umbach (1.0 net) and preparatory work for the first Horn River Basin horizontal (0.4 net) which was spudded early in October.
- At September 30, 2010, funds available for investment totaled $34.4 million and the publicly listed securities owned by Storm had an estimated market value of $16.2 million (proceeds from the possible future sale of these securities may also be used to finance the company’s capital programs).
In the Horn River Basin (“HRB”) of North East British Columbia, the first horizontal well (0.4 net) has been cased at A-11-A/94-O-9 after drilling 1,800 metres laterally into the Muskwa and Otter Park shales (spudded October 6). The rig will move to drill a second horizontal (0.4 net) from an adjacent surface location which is expected to spud in late November. Drilling each horizontal is estimated to cost between $4.0 and $5.5 million ($1.6 to $2.2 million net). Completion of the first horizontal with 12 fracture stimulations is planned for early December and the second horizontal will be completed next summer depending on results from the first horizontal and natural gas prices. As a result of rainy weather delaying the drilling of the first horizontal, the completion of this well in December has increased the estimated completion cost to $12.0 to $14.0 million ($4.8 to $5.6 million net). Cost of completing the second horizontal next summer with 12 fracture stimulations is estimated to be $9.0 to $10.0 million ($3.6 to $4.0 million net). An additional $10.0 million ($4.0 million net) will be invested this winter to construct associated infrastructure including roads, a wellsite facility, pipelines and a dehydration/compression facility with capacity for 20 Mmcf per day of raw gas. A total of $40 to $50 million gross is expected to be invested over the next 12 months to validate the commerciality of Storm’s HRB shale lands which total 25,000 net undeveloped acres. First gas sales from a successful horizontal well is possible by March 2011, but it will be several months later before we have enough production history to determine the economics associated with larger scale development.
At Umbach in North East British Columbia, the horizontal gas well (1.0 net) that was drilled in July was completed in September with 7 fracture treatments, each with 100 tons of sand. Results from the completion are currently being evaluated. This completion fulfilled a farm-in commitment and by so doing Storm has earned 8,100 net acres of undeveloped land (27 gross sections with Storm average working interest of 43%).
In the Junior area of North East British Columbia, Storm has 33 net sections which have potential to be developed with horizontal wells in the Jean Marie formation. This is based on mapping and proximity to offsetting horizontals which are producing from the Jean Marie formation. The estimated cost to drill, complete, and tie in a horizontal well on our lands is expected to be $2.1 million and, based on offsetting wells, first-year rates are expected to average 800 to 1,400 Mcf/d with 1.0 to 1.5 Bcf of recoverable raw gas per horizontal well. Initial drilling density would be one horizontal well per section. Two horizontal locations have been licensed to test the economics associated with larger scale development. Both will be drilled when sufficient discretionary cash flow is available which is primarily dependent on an improvement in natural gas prices. No activity is planned for this area at this time.
At Red Earth, Storm is participating at a 20% working interest in two horizontal wells (0.4 net) targeting light oil in the Slave Point formation. Expected gross cost to drill, complete and equip each horizontal is $4.2 million. Based on the performance of offsetting horizontals, production in the first year could average 80 to 100 barrels per day.
Storm has share ownership positions in one private company and three publicly traded companies. These shareholdings were transferred to Storm under the Plan of Arrangement with ARC Energy Trust. The value of the share positions in the three public companies totaled $16.2 million at the end of the third quarter and these securities could possibly be sold in the future with the proceeds being used to finance the Company’s capital programs.
Storm Gas Resource Corp. (“SGR”)
SGR is a private company formed in June 2007, to pursue unconventional gas opportunities in the HRB and elsewhere. Storm’s share ownership position totals 2.5 million shares, representing 22% ownership of SGR. Currently, SGR’s land position totals 83,644 acres with 53,065 acres in the HRB. At the end of the third quarter of 2010, SGR’s balance sheet showed a cash position of $24.6 million.
Chinook Energy Inc. (“Chinook”)
Storm holds 4.5 million shares of Chinook which is a TSX-listed oil and gas exploration and production company (symbol ‘CKE’) based in Calgary with operations focused in Tunisia and Western Canada. Storm Exploration Inc. had previously owned 4.5 million shares of Storm Ventures International Inc. (“SVI”) which were converted into shares of Chinook when SVI and Iteration Energy Ltd. completed a business combination on June 29, 2010.
Bridge Energy ASA (“Bridge”)
Storm holds 1.05 million common shares of Bridge (symbol ‘Bridge’ on the Oslo Stock Exchange), a Norwegian based exploration and production company with production of approximately 1,500 Boe per day, several development opportunities in the UK sector of the North Sea, and a number of exploratory leads in the Norwegian sector of the North Sea. Bridge is the result of a business combination whereby SVI’s United Kingdom North Sea assets were combined with a private Norwegian based company in March 2010. SVI received 28,776,000 common shares of Bridge which were then distributed to SVI shareholders, including SEO.
Bellamont Exploration Ltd. (“Bellamont”)
Storm holds 5.08 million shares of Bellamont, a TSX-listed oil and gas exploration and production company, as a result of a disposition of non-core properties by Storm Exploration Inc. in the Grande Prairie area in November 2009.
Capital investment in 2010 from August 17 to December 31 is expected to total $18.0 million with $2.5 million allocated to land and asset acquisitions and $15.5 million for drilling, completions, facilities, and tie-ins. In 2011, capital investment is expected to total $19.0 million with $3.5 million allocated to undeveloped land and asset acquisitions and $15.5 million for drilling, completions, facilities, and tie-ins. This level of capital investment is expected to result in production averaging 1,000 Boe per day in the fourth quarter of 2011. Up to four gross wells (1.8 net) are planned for 2010 and three gross wells (1.8 net) in 2011. Ultimately, capital allocation and the size of the drilling program will depend on results, natural gas prices, and the size of any asset or undeveloped land acquisitions. Our cash general and administrative budget will be approximately $2.5 million per year. The current cash balance and the possible sale of our share positions in the three public companies listed on stock exchanges will be used to fund planned 2010 and 2011 capital expenditures.
Storm’s undeveloped land position prospective for Devonian shales in the HRB represents a substantial resource but exploitation will not be quick or easy given the associated higher cost structure, various operational challenges, and the continued volatility in natural gas prices. A core project area has been identified which consists of 19 gross sections with an estimated 1.7 to 2.1 gross TCF of DPIIP in the Muskwa and Otter Park shales (internal estimate by Storm management). Our near-term objective is to prove commerciality of this core project area with two horizontal wells while longer term exploitation will depend on natural gas prices.
In addition to advancing projects on our existing undeveloped lands, we have been reviewing asset acquisition opportunities with a focus on adding near term exploitation upside and cash flow to fund exploitation activities on our existing asset base. Any potential asset acquisition would be funded in part with existing unallocated cash, debt if available, and the possible sale of our public company share positions.
Storm Resources Ltd. is the fourth ‘Storm’ and, as in the previous Storm entities, our objective will be to generate accretive, per-share growth which will involve pursuing specific opportunities based on finding and development costs, netback, and rate of return. Although Storm is at an early stage, we have significant capital resources ($50 million including cash and publicly listed securities) which will be used to advance current projects and to fund potential new ventures or acquisitions.
President and Chief Executive Officer
November 10, 2010
Boe Presentation – For the purpose of calculating unit revenues and costs, natural gas is converted to a barrel of oil equivalent (“Boe”) using six thousand cubic feet (“Mcf”) of natural gas equal to one barrel of oil unless otherwise stated. Boe may be misleading, particularly if used in isolation. A Boe conversion ratio of six Mcf to one barrel (“Bbl”) is based on an energy equivalency conversion method primarily applicable at the burner tip and does not represent a value equivalency at the wellhead. All Boe measurements and conversions in this report are derived by converting natural gas to oil in the ratio of six thousand cubic feet of gas to one barrel of oil. Mboe means 1,000 Boe.
Discovered Petroleum Initially in Place (“DPIIP”) – Is defined in the COGEH handbook as the quantity of hydrocarbons that are estimated to be in place within a known accumulation. Original Gas in Place (“OGIP”) is a more commonly used industry term when referring to gas accumulations.
DPIIP is divided into recoverable and unrecoverable portions, with the estimated future recoverable portion classified as reserves and contingent resources. There is no certainty that it will be economically viable or technically feasible to produce any portion of this DPIIP except for those portions identified as proved or probable reserves.
Forward-Looking Statements – such statements made in this press release are subject to the limitations set out in the Management’s Discussion and Analysis for the period to September 30, 2010.
MANAGEMENT’S DISCUSSION AND ANALYSIS
Set out below is management’s discussion and analysis (“MD&A”) of financial and operating results for Storm Resources Ltd. (“Storm” or the “Company”) for the period ended September 30, 2010. It should be read in conjunction with the unaudited financial statements for the period from June 8, 2010 to September 30, 2010 and other operating and financial information included in this press release. In addition, readers are directed to the discussion below regarding Forward-Looking Statements, Boe Presentation and Non-GAAP Measurements.
The Company was incorporated on June 8, 2010 as 1541229 Alberta Ltd. with nominal share capital and was inactive until August 17, 2010 when the Company participated in a Plan of Arrangement (the “Arrangement”) along with Storm Exploration Inc (“SEO”), ARC Energy Trust (“ARC”) and ARC Resources Ltd. The Arrangement resulted in the sale of SEO to ARC and the spin out of the Company as a junior exploration and development company. As part of the series of transactions associated with the Arrangement, the Company issued shares in exchange for certain assets as more fully described in Note 4 to the unaudited financial statements as at and for the period ended September 30, 2010. On August 31, 2010 the Company began trading on the TSX Venture Exchange under the symbol “SRX”. As operations began following the completion of the Arrangement, the discussion of operations in this MD&A is for the approximate six week period ended September 30, 2010.
This management’s discussion and analysis is dated November 10, 2010. Unless otherwise indicated all dollar amounts are in thousands.
Basis of Presentation – Financial data presented below have largely been derived from the Company’s unaudited financial statements for the period from June 8, 2010 until September 30, 2010, prepared in accordance with International Financial Reporting Standards (“IFRS”). Accounting policies adopted by the Company are set out in Note 3 to the unaudited financial statements for the period ended September 30, 2010. The reporting and the measurement currency is the Canadian dollar. Unless otherwise indicated, tabular financial amounts, other than per share amounts, are in thousands.
The Company’s use of IFRS in the unaudited financial statements for the period ended September 30, 2010 anticipates the mandatory adoption of IFRS in Canada, effective for reporting periods ending after December 31, 2010. The Company has received the necessary regulatory approvals for early adoption of IFRS.
Forward-Looking Statements – Certain information set forth in this document, including management’s assessment of Storm’s future plans and operations, contains forward-looking information (within the meaning of applicable Canadian securities legislation). Such statements or information are generally identifiable by words such as “anticipate”, “believe”, “intend”, “plan”, “expect”, “estimate”, “budget”, “outlook”, “forecast” or other similar words and include statements relating to or associated with individual wells, regions or projects. Any statements regarding the following are forward-looking statements:
- future crude oil or natural gas prices;
- future production levels;
- future revenues or costs or revenues or costs per commodity unit;
- future capital expenditures and their allocation to specific exploration and development activities;
- future drilling;
- future earnings;
- future asset acquisitions or dispositions;
- future sources of funding for capital program;
- future decommissioning costs;
- development plans;
- ultimate recoverability of reserves or resources;
- expected finding and development costs and operating costs;
- estimates on a per-share basis;
- dates or time periods by which certain geographical areas will be developed; and
- changes to any of the foregoing.
Statements relating to “reserves” or “resources” are forward-looking statements, as they involve the implied assessment, based on estimates and assumptions, that the reserves and resources described exist in the quantities predicted or estimated, and can be profitably produced in the future.
The forward-looking statements are subject to known and unknown risks and uncertainties and other factors which may cause actual results, levels of activity and achievements to differ materially from those expressed or implied by such statements. Such factors include the material risks described in this MD&A under “Risk Assessment” and the material assumptions described under the headings “Production and Revenue”; “Share-based Payments”; “Depreciation”; “Accretion”; Comprehensive Income (Loss)”; “Cash”; “Investments”; “Investment in Associate”; “Accounts Payable and Accrued Liabilities”; “Decommissioning Liability”; industry conditions, volatility of commodity prices, currency fluctuations, imprecision of reserve estimates, environmental risks, competition from other industry participants, the lack of availability of qualified personnel or management, stock market volatility and ability to access sufficient capital from internal and external sources. All of these caveats should be considered in the context of current economic conditions, in particular reduced prices for natural gas and the condition of financial institutions and markets, each of which is outside the control of the Company. Readers are advised that the assumptions used in the preparation of such information, although considered reasonable at the time of preparation, may prove to be imprecise and, as such, undue reliance should not be placed on forward-looking statements. Storm’s actual results, performance or achievement, could differ materially from those expressed in, or implied by, these forward-looking statements. Storm disclaims any intention or obligation to publicly update or revise any forward-looking statements, whether as a result of new information, future events or otherwise, except as required under securities law. References to forward-looking information are made in the press release dated November 10, 2010 this MD&A forms part of. The forward-looking statements contained herein are expressly qualified by this cautionary statement.
Boe Presentation – Natural gas is converted to a barrel of oil equivalent (“Boe”) using six thousand cubic feet (“Mcf”) of natural gas equal to one barrel of oil unless otherwise stated. Boe may be misleading, particularly if used in isolation. A Boe conversion ratio of six Mcf to one barrel (“Bbl”) is based on an energy equivalency conversion method primarily applicable at the burner tip and does not represent a value equivalency at the wellhead. All Boe measurements and conversions in this report are derived by converting natural gas to oil in the ratio of six thousand cubic feet of gas to one barrel of oil.
Non-GAAP Measurements – Within management’s discussion and analysis, there may be references made to terms which are not recognized under GAAP. Specifically, “funds from operations”, “funds from operations per share” and netbacks do not have any standardized meaning as prescribed by GAAP and are regarded as non-GAAP measures. It is likely that these non-GAAP measurements may not be comparable to the calculation of similar amounts for other entities. In particular, funds from operations is not intended to represent, or be equivalent to, cash flow from operating activities calculated in accordance with GAAP which appears on the Company’s statement of cash flows. Funds from operations and similar non-GAAP terms are used to benchmark operations against prior periods and peer group companies.
A reconciliation of funds from operations to cash flows from operating activities is as follows:
|June 8 to September 30, 2010|
|Cash flow from operating activities||$||(245||)|
|Net change in non-cash working capital items||(3||)|
|Non-GAAP funds from operations||$||(248||)|
OPERATIONAL AND FINANCIAL RESULTS
Production and Revenue
During the period to September 30, 2010, the Company had no production and no production revenue.
Interest is received on cash on deposit with the Company’s bankers, ATB Financial.
General and Administrative Costs
Compensation costs accounted for 68% of the charge for the period, with accommodation costs accounting for an additional 19%.
Share-based payments are non-cash charges which reflect the estimated value of stock options issued to Storm’s directors, officers and employees. The value of the award is recognized as an expense over the period from the grant date to the date of vesting of the award. During the period options in respect of approximately two million shares were issued with an exercise price of $3.28. This issue, considerable in size, formed part of the initial compensation program put in place for directors, officers and staff for the newly established business.
The charge for depreciation for the period relates to office equipment which is depreciated over its estimated useful life. No depletion or depreciation is provided in respect of intangible and tangible field assets as the Company has no production and no facilities in use.
Accretion represents the time value increase of the Company’s decommissioning liability for the period.
As described in Notes 3 and 7 to the unaudited financial statements for the period to September 30, 2010, the Company accounts for its investment in Storm Gas Resource Corp. (“SGR”) using the equity method, where the Company’s pro rata share of changes in SGR’s equity is included in the determination of the Company’s net loss for the period. The investment loss recorded in the period represents Storm’s share of changes in SGR’s equity from the date of completion of the Arrangement to September 30, 2010.
Due to uncertainty of realization, no deferred income tax asset has been set up in respect of potential future income tax reductions resulting from the use of the taxable loss for the period.
Comprehensive Income (Loss)
Comprehensive income (loss) comprises net loss for the period plus the unrealized gains and losses resulting from the mark-to-market valuation of certain assets and liabilities. For the period to September 30, 2010, Storm’s comprehensive income included adjustments to reflect the period end mark-to-market valuation of listed securities as follows:
|Gain(Loss) for Period|
|Bellamont Exploration Ltd.||$||–|
|Bridge Energy ASA||469|
|Chinook Energy Inc.||450|
INVESTMENT AND FINANCING
The Company has cash on deposit derived from the following transactions:
|Received under Arrangement||August 17, 2010||$||9,370|
|Proceeds of private placement||August 17, 2010||7,544|
|Proceeds from exercise of warrants||September 22, 2010||21,522|
|Total cash received||38,436|
|Cash outlays in period||August 17 to September 30, 2010||(606||)|
|Cash at end of period||$||37,830|
Cash has been placed on deposit with the Company’s bankers, ATB Financial. Protection of principal is paramount; correspondingly the Company does not seek to maximize interest and other income from investment of cash surplus to immediate operating requirements. Monies on deposit with ATB Financial are guaranteed by the Government of Alberta, which has a triple A credit rating.
The Company owns listed securities as set out below which are valued at the closing price on the relevant stock exchange at September 30, 2010.
|Holding||Number of Shares||Exchange||Closing Price||Value at September 30, 2010|
|Bellamont Exploration Ltd.||Class A Common Shares||5,080,645||TSX-V||$||0.53||$||2,693|
|Bridge Energy ASA||Common Shares||1,052,910||Oslo Børs Axess||$||2.45||2,575|
|Chinook Energy Inc.||Common Shares||4,500,001||TSX||$||2.42||10,890|
Additions to exploration and evaluation assets in the period to September 30, 2010 were as follows:
|Fair value of exploration and evaluation assets transferred under Arrangement||$||19,041|
|Land and lease||177|
|Total capital expenditures in period||22,465|
Investment in Associate
The company owns 2,500,000 common shares of Storm Gas Resources Corp, representing a 22% interest. The Company accounts for its interest in SGR using the equity method. The carrying amount of the Company’s interest in SGR at September 30, 2010 is $5.57 per share, representing the transfer amount under the Arrangement, plus the Company’s share of SGR’s loss since August 17, 2010. This amount should not be regarded as representative of the value of Storm’s investment in SGR. In addition to its investment in SGR, Storm has a direct 40% working interest in undeveloped lands jointly acquired with SGR in the Horn River Basin of northeastern British Columbia. This interest, together with Storm’s investment in SGR, provides the Company with 53% exposure to the potential upside in the Horn River Basin lands. The Company also provides management services to SGR and the amount billed for such services totaled $33,000 for the period ended September 30, 2010.
Accounts Payable and Accrued Liabilities
Accounts payable and accrued liabilities include operating, administrative and capital costs payable. Net payables in respect of cash calls issued to partners regarding capital projects and estimates of amounts owing but not yet invoiced to the Company have been included in accounts payable.
The Company’s decommissioning liability represents the present value of estimated future costs to be incurred to abandon and reclaim wells drilled on lands transferred to the Company under the Arrangement. Changes in amount of the liability between the Arrangement date and September 30, 2010, comprise the present value of additional liabilities accruing to the Company as a result of field activity during the period, less costs paid in settlement of abandonment obligations, plus the time related increase in the present value of the liability. The discount rate used to establish the present value is 4%. Future costs to abandon and reclaim the Company’s properties are based on an internal evaluation, supported by external data from industry sources.
Details of share issuances in the period to September 30, 2010 are as follows:
|Nature of Transaction||Number of Shares||Price per Share||Gross Proceeds|
|June 8, 2010||Issued upon incorporation||1||$||1.00||$||–|
|August 17, 2010||Issued to ARC Resources Ltd.||884,173||$||3.28||2,900|
|August 17, 2010||Issued under the Arrangement||16,631,240||$||3.28||54,700|
|August 17, 2010||Issued under private placement||2,300,000||$||3.28||7,544|
|September 22, 2010||Issued upon exercise of warrants||6,561,556||$||3.28||21,522|
In the course of its business, Storm enters into various contractual obligations, including the following:
- purchase of services;
- royalty agreements;
- operating agreements;
- processing agreements;
- right of way agreements; and
- lease obligations for accommodation, office equipment and automotive equipment.
All such contractual obligations reflect market conditions at the time of contract and do not involve related parties except that SGR subleases office space from the Company at the same rate as the Company’s head lease. At present the Company has no obligations with a term longer than twelve months.
CRITICAL ACCOUNTING ESTIMATES
Financial amounts included in this Management’s Discussion and Analysis and in the unaudited financial statements for the period ended September 30, 2010 are based on accounting policies, estimates and judgments which reflect information available to management at the time of preparation. Certain financial amounts are derived from a fully completed transaction cycle, or are validated by events subsequent to the end of the reporting date, or are based on established and effective measurement and control systems. However, other amounts, as described below, are based on estimations using information that involves a high degree of measurement uncertainty which could have a material effect on Storm’s operating results and financial position.
Acquisition of Net Assets
The carrying amount of net assets acquired by the Company under the Arrangement is based on management’s estimate of the fair value of the net assets at the time of closing of the Arrangement. The fair value of certain assets can be established by reference to objective third party data, for example, cash and listed securities. However, the estimated fair value of other assets acquired under the Arrangement is based on management judgment which, in part, will include references to third party data. Management’s estimate of fair value may differ from estimates of fair value determined by third parties and such differences could be material.
Exploration and Evaluation Assets
At present the Company has no production and recovery of the Company’s investment in oil and gas properties is dependent on the future identification, development and sale of hydrocarbons at a price sufficient to recover and provide an acceptable return on the Company’s existing and future investment. The Company’s properties are gas prone and recovery of the Company’s investment and the establishment of profitable operations is dependant on pricing for natural gas increasing considerably from current levels.
Storm records as a liability the estimated fair value of obligations associated with the decommissioning of field assets. Although the Company had no production in the quarter to September 30, 2010, a provision is required for certain standing wells, as well as an interest in a currently unused pipeline. The carrying amount of exploration and evaluation assets is increased by an amount equivalent to the liability. The decommissioning liability reflects estimated costs to complete the abandonment and reclamation of field assets as well as the estimated timing of the costs to be incurred in future periods. The liability is increased each reporting period to reflect the passage of time, with the accretion charged to earnings. The liability is also adjusted to reflect changes in the amount and timing of the future retirement obligation and is reduced by the amount of any costs incurred in the period. The amount of the decommissioning liability, the charge for accretion and the charge for depletion of the amount added to exploration and evaluation assets are subject to uncertainty of estimation.
The measurement of Storm’s tax pools, losses and deferred tax assets and liabilities requires interpretation of complex laws and regulations. All tax filings and compliance with tax regulations are subject to audit and reassessment, potentially several years after the initial filing. Accordingly, actual income tax assets or liabilities may differ significantly from the amounts initially estimated.
To determine the charge for share-based payments, the Company estimates the fair value of stock options at time of issue using assumptions regarding the life of the option, dividend yields, interest rates and the volatility of the security under option. Although the assumptions used to value a specific option remain unchanged throughout the life of the option, assumptions may change with respect to subsequent option grants. In addition, the assumptions used may not properly represent the fair value of stock options at any time; as no alternative valuation model is applied, the difference between the Company’s estimation of fair value and the actual value of the option is not measurable.
There are a number of risks facing participants in the Canadian oil and gas industry. Some risks are common to all businesses while others are specific to the industry. The following reviews a number of the identifiable business risks faced by the Company. Business risks evolve constantly and additional risks emerge periodically. The risks below are those identified by management at the date of completion of this report, and may not describe all of the business risks faced by the Company.
Storm’s exploration program requires sophisticated and scarce technical skills as well as capital and access to land and equipment to generate and test exploration ideas. Further, the drilling of an exploratory prospect frequently does not result in the discovery of economical reserves. Storm endeavours to minimize finding risk by ensuring that:
- Where possible, prospects have multi-zone potential.
- Activity is focused in core regions where expertise and experience can be levered.
- Prospects are internally generated.
- Geophysical techniques such as seismic are utilized where appropriate and available.
Commodity Price Fluctuations
In the event that the Company identifies hydrocarbons of sufficient quantity and quality and successfully brings them on stream, it will face a pricing environment which is volatile and subject to a myriad of factors, largely out of the Company’s control. Low prices, particularly for the Company’s expected primary product, natural gas, will have a material effect on the Company’s re-investment capacity, and hence ultimate growth potential and profitability. Low prices will also limit access to capital, both equity and debt.
Adverse Well or Reservoir Performance
Changes in productivity in wells and pools developed and brought on stream by the Company in future periods could result in termination or limitation of production, or acceleration of decline rates, resulting in reduced overall corporate volumes and revenues. In addition, new wells, particularly new wells in the Horn River Basin, the Company’s primary investment focus, tend to produce at high initial rates followed by rapid declines until a flattening decline profile emerges. There is a risk that the sustainable decline profile which eventually emerges is sub-economic. In addition, the Horn River Basin is in the early stage of development and there is a risk that circumstances may emerge which will adversely affect reservoir performance.
Storm’s current and future exploration, development and production activities involve the use of heavy equipment and the handling of potentially volatile liquids and gases. Catastrophic events such as well blowouts, explosions and fires within pipeline, gathering, or facility infrastructure, as well as failure of mechanical equipment, could lead to releases of liquids or gases, spills, personal injuries and damage to the environment, as well as uncontrolled cost escalation. With support from suitably qualified external parties, the Company has developed and implemented policies and procedures to mitigate environmental, health and safety risks. These policies and procedures include the use of formal corporate policies, emergency response plans, and other policies and procedures reflecting best oil field practices. These policies and procedures are subject to periodic review. Storm also manages environmental and safety risks by maintaining its operations to a high standard and complying with all provincial and federal environmental and safety regulations.
The Company’s primary investment focus, the Horn River Basin in northeastern British Columbia, is a remote and climatically hostile area. As a relatively new area of activity for the oil and gas industry in Canada, access and production facilities require considerable new investment to support expansion of production, which is not necessarily applicable to more mature producing areas. In addition, supervision and maintenance of production facilities is likely to be more expensive than in existing and more southerly producing areas.
Storm maintains industry-specific insurance policies, including, in future, business interruption on production facilities. Although the Company believes its current insurance coverage corresponds to industry standards, there is no guarantee that such coverage will be available in the future, and if it is, at a cost acceptable to the Company, or that existing coverage will necessarily extend to all circumstances or incidents resulting in loss.
The Company’s operations are subject to extensive environmental regulation which are addressed through formal polices and procedures and application of best field practices. In addition, the Company’s primary area of focus, the Horn River Basin in northeastern British Columbia, involves the exploitation of, potentially, several shale gas formations. Development of shale gas is relatively new and involves horizontal drilling and fracturing applications specific to shale formations. Fracturing involves the use of large quantities of liquids and chemicals, whose use and subsequent disposal has resulted in the emergence of environmental concerns, primarily in more heavily populated areas elsewhere in North America. In addition, exploitation of shale gas in the Horn River Basin suggests that management of carbon dioxide volumes produced concurrently with natural gas may become an operational issue.
The evolution of environmental regulation, in particular as it relates to shale gas exploitation, cannot be predicted at this stage. Nevertheless it is reasonable to expect that management of environmental issues and societal expectations will become an increasingly important part of the Company’s business, with a corresponding effect on costs.
In Company-specific environmental concerns, increasing public and political focus on climate change and its possible amelioration may cause changes in demand for the Company’s products and the introduction of regulations which may result in changes to the Company’s operating practices as well as additional and unforeseeable costs. Changes in public policy over the next several years, and the effect on the Company, cannot be determined at this stage, but given that the Company is a producer of primary hydrocarbons it is likely that its business will be subject to increased regulation and potentially subject to additional taxes and costs.
Industry Capacity Constraints
High levels of field activity can result in shortages of services, products, equipment, or manpower in many or all necessary components of the exploration and development cycle. Increased demand leads to higher land and service costs during peak activity periods. Competition in the Canadian oil and gas industry, particularly in recent years, has been considerable. Although current economic conditions suggest an easing of competitive conditions in the short and medium term, competition in the Company’s most prospective areas continues to be intense. Storm’s competitors include companies with far greater resources, including access to capital. Storm competes by maintaining a large inventory of self-generated exploration and development locations, by acting as operator where possible, and through facility access and ownership. Storm also seeks to mitigate such risks through careful management of key supplier relationships.
Capital expenditures are designed to accomplish two main objectives, being the generation of short and medium term cash flow from development activities, and expansion of future cash flow from the discovery of reserves through exploration. The Company focuses its activity in core areas, which allows it to leverage its experience and knowledge, and will act as operator wherever possible. The Company uses farmouts to minimize risk on plays it considers higher risk or where total capital invested exceeds an acceptable level. In addition, Storm may enter into hedging agreements in support of capital programs, particularly when cash flow for any period is anticipated to be lower than capital expenditures. Current capital programs are being financed from existing cash resources. Failure to develop producing wells and an acceptable level of cash flow will result in the exhaustion of available cash or near cash resources and will require the Company to seek additional capital which may not be available, or only available on terms dilutive to existing shareholders. In addition, although the Company at present has no bank debt, future credit availability from the Company’s bankers will also be necessary to support capital programs and any changes to credit availability may have an effect on both the size of the Company’s future capital program and the timing of expenditures.
The Company’s objective of rapid and controlled growth is, in part, supported through carefully selected and managed acquisitions. Acquisitions have to be acceptably priced and production should provide acceptable netbacks, or provide identifiable opportunities to increase value. Under current natural gas prices, properties providing a reasonable netback are difficult to identify. An acquisition should also offer potential for near and medium term development and be in areas where the Company can readily add to the acquired land position. Processing and transportation infrastructure must also be in place, or within the Company’s financial capacity to construct.
Estimates of economically recoverable oil and natural gas reserves and natural gas liquids, and related future net cash flows, are based upon a number of variable factors and assumptions. These include commodity prices, production, future development and operating costs and potential changes to the Company’s operations arising from regulatory or fiscal changes. All of these estimates may vary from actual results, with the result that estimates of recoverable oil and natural gas reserves attributable to any property are subject to revision. In future the Company’s actual production, revenues, taxes, development and operating expenditures associated with its reserves may vary from such estimates, and such variances may be material.
Production of oil and natural gas reserves at an acceptable level of profitability may not be possible during periods of low commodity prices. The Company will attempt to mitigate this risk by focusing on high netback opportunities and will act as operator where possible, thus allowing the Company to manage costs, timing, method and marketing of production. Production risk is also addressed by concentrating exploration efforts in regions where infrastructure will be Storm owned or readily accessible at an acceptable cost.
Financial and Liquidity Risks
The Company faces a number of financial risks over which it has no control, such as commodity prices, exchange rates, interest rates, access to credit and capital markets, as well as changes to government regulations and tax and royalty policies. The Company uses the following guidelines to address financial exposure:
- Internally available cash and marketable securities provide the initial source of funding on which the Company’s capital expenditure program is based.
- Debt, if available, may be utilized to expand capital programs, including acquisitions, when it is deemed appropriate and where debt retirement can be controlled.
- Equity, including flow-through shares, if available on acceptable terms, may be raised to fund acquisitions.
- Farmouts of projects may be arranged if management considers that a project requires too much capital or where the project affects the Company’s risk profile.
Markets for future production of oil and natural gas are outside the Company’s capacity to control or influence and can be affected by events such as weather, regional, national and international supply and demand imbalances, geopolitical events, currency fluctuation, introduction of new, or termination of existing supply arrangements, as well as downtime due to facility maintenance or damage. The Company will attempt to mitigate these risks as follows:
- Natural gas properties are developed in areas where there is or will be suitable processing and pipeline infrastructure.
- Financial instruments may be used to manage commodity price volatility when the Company has capital programs, including acquisitions, whose cost exceeds near term projected cash flows.
- The Company will delay tie in of new wells or shut in production if an acceptable netback cannot be realized.
Access to Debt and Equity and Going Concern
The Company’s cash and potential proceeds from the sale of listed securities are sufficient to fund our existing capital budget. Nevertheless, available cash is finite and investment must result in production being brought on stream, the generation of cash flow, and the identification of proven and probable reserves. The Company’s current asset base cannot be used as security for bank financing, which for junior oil and gas companies like Storm, is conventionally a loan, renewable annually, which is based on anticipated future cash flows. Correspondingly, the emergence of profitable operations, from investment of existing cash and proceeds from the sale of listed securities, is essential if the Company is to receive bank financing to expand future operations. Proceeds from the sale of listed securities are dependent on a continuing liquid market for the shares of each company. It should also be recognized that the size of the Company’s holdings in each entity may make the shareholdings difficult to sell within a reasonable time, or saleable only at a significant discount to quoted prices.
Concurrent with the completion of the Arrangement, the Company completed two equity placements. The first was a private placement of the maximum amount of 2.3 million shares to directors, officers and employees, with the second being the issue of 6.6 million shares upon the exercise of warrants issued to existing shareholders. The take up of the warrants was 99%. Both transactions were priced at $3.28 per share and aggregate gross proceeds amounted to $29 million. Although these share sales show considerable support for the Company in the equity markets, such support will only be sustainable if the Company can execute a successful investment program. Even if profitable operations do emerge, the Company will be exposed to changes in the equity markets, which could result in equity not being available, or only available under conditions which are dilutive to existing shareholders. The inability of the Company to develop profitable operations, with the consequent exclusion from debt and equity markets, will result in the Company being unable to continue as a going concern.
Storm’s operations and its financial condition may be affected by uncontrollable and unpredictable circumstances such as weather patterns, changes in contractual, regulatory or fiscal terms, exclusion from third party pipelines or facilities, or actions by certain groups such as industry organizations, local communities, or militant groups.
INTERNATIONAL FINANCIAL REPORTING STANDARDS
The Canadian Institute of Chartered Accountants, the primary source for accounting standards in Canada, proposes to implement International Financial Reporting Standards (“IFRS”) as part of Canadian GAAP. Such standards have been established cooperatively by many countries and have widespread application to financial reporting throughout the world. The effective date of introduction for IFRS in Canada is proposed for reporting periods beginning after December 31, 2010. Rather than apply existing Canadian GAAP to financial statements for the reporting periods ended September 30, 2010 and December 31, 2010, then adopt IFRS for all subsequent reporting periods, the Company elected to adopt IFRS with immediate effect, as permitted under NI 51-107 and has applied for and received the necessary regulatory approvals for early adoption.
With respect to implementation of IFRS, the Company recruited appropriately qualified staff and identified external resources to assist in the process. Key elements of the implementation plan to IFRS included: staff education; choosing among policies permitted under IFRS; evaluating the effect of adoption on the Company’s information technology and data systems and internal control over financial reporting and disclosure controls and procedures; alignment of internal and outsourced processes, applications and internal controls; external and internal communications; and liaison with peers, industry groups and professional advisors.
As discussed in Note 2, the Company elected to adopt IFRS at inception. The following table provides a brief summary of the primary financial statement line items affected by IFRS and the impact on Storm’s financial statement presentation, measurement and disclosure:
|Financial Statement Category||Change Under IFRS||Effect on Financial Statements of Storm|
|Exploration and evaluation (“E&E”) assets||Under Canadian GAAP, E&E assets were accounted for using the full-cost rules and grouped with property and equipment. Exploration and evaluation expenditures are now segregated from development and producing assets until commercial production commences, at which time, the assets are tested for impairment and the recoverable amount transferred to property and equipment.||New line item on the Statement of Financial Position
More disclosure required in both Accounting Policies and E&E notes to the financial statements
|Exploration and evaluation (“E&E”) assets||E&E assets are only tested for impairment when indicators of impairment exist.
Under full-cost rules, E&E assets were excluded from the ceiling test calculation.
|If an indicator of impairment exists, assets in that area must be written down to their net recoverable amount and the difference charged as impairment expense on the statement of income.
More note disclosure required in the event of a write-down
|Property and Equipment||Development and producing assets to be allocated into cash generating units (“CGUs”) and depleted at the CGU level.||Multiple depletion calculations will be required at each reporting period once production commences.|
|Property and Equipment||Depletion can be calculated using either proven or proved plus probable reserves.||Use of proved plus probable reserves in depletion calculation will reduce depletion expense.|
|Property and Equipment||Gains and losses on dispositions will be measured and recognized in the statement of income. There is no de minimis rule as previously existed under Canadian GAAP.||Gains and losses on property sales may be a frequent income statement item, leading to a more erratic earnings profile.|
|Property and Equipment||Impairment test will be calculated at the CGU level. Changes to the impairment calculation methodology are also required.||Impairment tests will be more difficult to pass as less profitable areas can no longer be sheltered by more successful ones.|
|Share-Based Payments||Stock options that vest in installments are valued separately.||The graded vesting rules result in higher share-based payment expense in the earlier years of the amortization period.|
Additional information relating to the Company can be viewed at www.sedar.com or on the Company’s website at stormresourcesltd.com. Information can also be obtained by contacting the Company at Storm Resources Ltd., 800, 205 – 5th Avenue SW, Calgary, Alberta, T2P 2V7.
Statement of Financial Position
|($000s) (unaudited)||September 30, 2010|
|Investments (Note 6)||16,158|
|Prepaids and other||274|
|Investment in associate (Note 7)||13,925|
|Exploration and evaluation assets (Note 5)||23,461|
|LIABILITIES AND SHAREHOLDERS’ EQUITY|
|Accounts payable and accrued liabilities||$||3,620|
|Decommissioning liability (Note 8)||1,003|
|Share capital (Note 10)||86,581|
|Contributed surplus (Note 11)||126|
|Retained earnings (deficit)||(406||)|
|Accumulated other comprehensive income (deficit)||919|
Statement of Comprehensive Income (Loss)
|($000s except per-share amounts) (unaudited)||Inception, June 8, 2010 to September 30, 2010|
|General and administrative||267|
|Income (loss) before the following:||(381||)|
|Investment gain (loss) (Note 7)||(25||)|
|Net income (loss) for the period||(406||)|
|Unrealized gain (loss) on investments available for sale (Note 6)||919|
|Other comprehensive income||919|
|Comprehensive income (loss) for the period||$||513|
|Net income (loss) per share (Note 12)|
Statement of Changes in Equity
|($000s) (unaudited)||Inception, June 8, 2010 to September 30, 2010|
|Share Capital||Contributed Surplus||Retained Earnings (Deficit)||Accumulated Other Comprehensive Income||Total Equity|
|Balance, beginning of period||$||–||$||–||$||–||$||–||$||–|
|Net loss for the period||–||–||(406||)||–||(406||)|
|Issue of common shares (Note 10)||86,666||–||–||–||86,666|
|Share issue costs (Note 10)||(85||)||–||–||–||(85||)|
|Share-based payments (Note 11)||–||126||–||–||126|
|Unrealized gain on investments available for sale (Note 13)||–||–||–||919||919|
|Balance, end of period||$||86,581||$||126||$||(406||)||$||919||$||87,220|
Statement of Cash Flows
|($000s) (unaudited)||Inception, June 8, 2010 to September 30, 2010|
|Net income (loss) for the period||$||(406||)|
|Investment loss (gain) (Note 7)||25|
|Depreciation and accretion||7|
|Funds from operations||(248||)|
|Net change in non-cash working capital items (Note 16)||3|
|Cash transferred under Plan of Arrangement (Notes 1 and 4)||9,370|
|Issue of common shares – net of expenses||28,981|
|Additions to exploration and evaluation assets (Note 5)||(3,424||)|
|Net change in non-cash working capital items (Note 16)||3,148|
|Change in cash during the period||37,830|
|Cash, beginning of period||–|
|Cash, end of period||$||37,830|
NOTES TO THE FINANCIAL STATEMENTS
From inception, June 8, 2010 to September 30, 2010
Tabular amounts in Cdn$ thousands, except per share amounts
1. REPORTING ENTITY
Storm Resources Ltd. (the “Company” or “Storm”), is an oil and gas exploration and development company incorporated in the province of Alberta, Canada on June 8, 2010 and is listed on the TSX Venture Exchange under the symbol “SRX”. The Company operates in the provinces of Alberta and British Columbia and its office is located at 800, 205 – 5th Avenue S.W., Calgary, Alberta.
The Company became a reporting issuer pursuant to a plan of arrangement (the “Arrangement”) involving ARC Energy Trust (“ARC”), ARC Resources Ltd., Storm Exploration Inc. (“SEO”) and the Company. Under the Arrangement, which was completed on August 17, 2010, 884,173 common shares were issued to ARC and 16,631,241 common shares and 6,653,161 warrants to purchase common shares of the Company were issued to shareholders of SEO in exchange for undeveloped lands and facility interests in northeastern British Columbia and Alberta, various corporate investments and $9.4 million in cash (see Note 4).
2. BASIS OF PRESENTATION
Statement of Compliance
The financial statements have been prepared in accordance with International Financial Reporting Standards (“IFRS”) as issued by the International Accounting Standards Board (“IASB”) and Interpretations of the International Financial Reporting Interpretations Committee (“IFRIC”) and adopted by the Canadian Institute of Chartered Accountants (“CICA”), including IAS 34. The Company received approval from the Canadian Securities Administrators under National Instrument 52-107, Acceptable Accounting Principles, Auditing Standards and Reporting Currency (“NI 52-107”) to adopt IFRS as of June 8, 2010, the date of Storm’s incorporation.
The financial statements were authorized for issue by the Board of Directors on November 10, 2010.
These financial statements have been prepared on a going concern basis, which implies the Company will continue to realize its assets and discharge its liabilities in the normal course of business. Although the Company has, at September 30, 2010, considerable cash reserves and various marketable securities, its continuance as a going concern is dependent upon the ability of the Company to attain profitable operations or to obtain additional financing. The outcome of these matters cannot be predicted at the present time. These financial statements do not include any adjustments to the recoverability and classification of recorded asset amounts and classification of liabilities that might be necessary should the Company be unable to continue as a going concern.
The emergence of profitable operations requires that reserves in economic quantities be identified and brought into production and sold at an acceptable price. This will require the dedication of part or all of the Company’s existing cash resources and, if required, additional equity, to be raised under future market conditions. As part of management of capital, the Company prepares an annual budget, periodically updated, for approval of the Board of Directors, which aligns spending programs with available cash resources and identifies future capital requirements.
Basis of Measurement
The Company’s financial statements have been prepared on the historical cost basis, except for certain financial assets and financial liabilities, which are measured at fair value, as explained in Note 13.
Use of Estimates and Judgements
The preparation of the financial statements in accordance with IFRS requires management to make judgements, estimates and assumptions that affect the reported amounts of assets, liabilities, income and expenses. Actual results may differ from these estimates.
Estimates and underlying assumptions are continuously reviewed. Changes to accounting estimates are recognized in the period in which the estimates are revised.
Information about critical judgments in applying accounting policies that have the most significant effect on the amounts recognized in the financial statements is included in the following notes to the financial statements:
- Note 3 – Classification and valuation of exploration and evaluation assets
- Note 8 – Decommissioning liability
- Note 9 – Valuation and utilization of tax losses
- Note 11 – Measurement of share-based payments
- Note 13 – Valuation of financial instruments
3. SIGNIFICANT ACCOUNTING POLICIES
Jointly Controlled Assets and Operations
Substantially all of the Company’s exploration and production activities are conducted under joint operating agreements, whereby two or more parties jointly control the assets. These financial statements reflect only the Company’s share of these jointly controlled assets and, once production commences, a proportionate share of the relevant revenue and related costs.
Investment in Associates
An associate is an entity over which the Company has significant influence, but not control, over financing and operations. The investment in associated companies is initially recognized at cost and subsequently accounted for using the equity method, with the Company’s share of changes in equity of associates recognized in the statement of income.
The Company assesses at each reporting period whether there is any objective evidence that its interests in associates are impaired. If impaired, the carrying value of the Company’s share of the underlying assets of associates is written down to its estimated recoverable amount and the amount of the write-down charged to the statement of income.
Oil and Gas Exploration and Evaluation Expenditures
Oil and gas exploration and evaluation (“E&E”) expenditures are accounted for in accordance with IFRS 6, Exploration for and Evaluation of Mineral Resources, whereby costs associated with the exploration for and evaluation of oil and gas reserves are accumulated on an area-by-area basis and are capitalized as either tangible or intangible E&E assets when incurred. Costs incurred in advance of land acquisition are charged to the statement of income; however, all other costs, including directly attributable general and administrative costs, are added to E&E assets.
At each reporting date, E&E assets are reviewed for indicators of impairment and, if circumstances suggest that the carrying amount of a particular area exceeds its recoverable amount, the associated cost is written down to its estimated recoverable amount and the difference is accounted for as impairment expense on the statement of income. Once commercial production commences in a specific area, the associated E&E assets are tested for impairment and the estimated recoverable amount is transferred to property and equipment. If, at any time, it is determined that the Company has no future exploration plans and commercial production cannot be achieved in relation to an area, the associated costs are written down to the estimated recoverable amount or fully de-recognized and the amount of the write-down is expensed as impairment on the statement of income.
No depletion or depreciation is provided for exploration and evaluation assets.
Property and Equipment
Property and equipment, which includes oil and natural gas development and production assets, represents costs incurred in developing oil and natural gas reserves and maintaining or enhancing production from such reserves. Future decommissioning costs, related to producing assets, are also capitalized to property and equipment. Property and equipment is carried at cost, less accumulated depletion and depreciation and accumulated impairment losses.
Gains and losses on disposal of property and equipment are determined as the difference between proceeds from disposal and the carrying amount of the asset sold and are recognized as other income or other expense in the statement of income.
Depletion and Depreciation
The net carrying value of the intangible oil and gas assets is depleted using the unit-of-production method based on estimated proven and probable oil and natural gas reserves, taking into account the future development costs required to produce the reserves.
Proven and probable reserves are determined by independent engineers in accordance with Canadian National Instrument 51-101. Production and reserves of natural gas are converted to equivalent barrels of crude oil on the basis of six thousand cubic feet of gas to one barrel of oil. Changes in estimates used in prior periods, such as proved and probable reserves, that affect the unit-of-production calculations do not give rise to prior year adjustments and are dealt with on a prospective basis.
Processing facilities and well equipment will be depreciated on a straight-line basis over the estimated useful life of the facilities and equipment. Where facilities and equipment includes major components having different useful lives, they are depreciated separately.
Depreciation rates, useful lives and residual values are reviewed at each reporting date.
The carrying amounts of property and equipment are reviewed at each reporting date to determine whether there is any indication of impairment. If such an indication exists, the estimated recoverable amount is calculated. For the purpose of impairment testing, property and equipment assets are grouped together into the smallest group of assets that generates cash inflows that are largely independent of the cash flows of other assets or group of assets (the “cash generating unit” or “CGU”). The recoverable amount of an asset or CGU is the greater of its value in use and its fair value less cost to sell. In assessing value in use, the estimated future cash flows are adjusted for the risks specific to the asset group and are discounted to their present value using a pre-tax discount rate that reflects current market assumptions regarding the time value of money. Fair value less costs to sell is the amount obtainable from the sale of an asset or CGU in an arm’s length transaction between knowledgeable, willing parties, less the costs of disposal. An impairment loss is recognized in the statement of income if the carrying amount of an asset or CGU exceeds its estimated recoverable amount.
Impairment losses previously recognized are assessed at each reporting date for indications that the loss has decreased or no longer exists. An impairment loss is reversed to the extent that the asset’s new carrying amount does not exceed the original carrying amount, net of related accumulated depletion and depreciation, if there has been an increase in the estimate of the recoverable amount.
Decommissioning liabilities are measured as the present value of management’s best estimate of the expenditure required to settle the decommissioning liability at the reporting date using a risk-free discount rate. This estimate is recognized when a legal or constructive obligation arises and is capitalized as part of E&E assets or property and equipment. The amount capitalized to property and equipment is amortized on a unit-of-production basis as part of depreciation and depletion. Subsequent to the initial measurement, the obligation is adjusted at the end of each period to reflect the passage of time and changes in the estimated future costs underlying the obligation. The increase in the balance due to the passage of time is charged to accretion expense whereas increases or decreases due to changes in the estimated future costs are capitalized. Actual costs incurred upon settlement of the decommissioning obligations are charged against the liability or expensed if greater than the liability.
The Company has issued options to acquire common shares to directors, officers and employees of the Company. These options are accounted for using the fair-value method which estimates the value of the options at the date of the grant using the Black-Scholes option pricing model. The fair value thus established is recognized as compensation expense over the vesting period of the options with an equivalent increase to contributed surplus. A forfeiture rate is estimated on the grant date and is subsequently adjusted to reflect the actual number of options that vest.
Financial assets and liabilities are recognized when the Company becomes a party to the contractual provisions of the instrument. Financial assets are derecognized when the rights to receive cash flows from the assets have expired, or when the Company has transferred substantially all risks and rewards of ownership.
Financial assets and liabilities are offset and the net amount reported in the statement of financial position when there is a legally enforceable right to offset the recognized amounts, and there is an intention to settle on a net basis, or realize the asset and settle the liability simultaneously.
Cash and cash equivalents
Cash and cash equivalents comprise cash on hand and other short-term highly liquid investments. Due to the short-term nature of cash and cash equivalents, its carrying value approximates fair value.
Trade receivables, loans and other receivables
Trade receivables, loans and other receivables, which are non-derivative financial assets that have fixed or determinable payment terms and are not quoted in an active market, are classified as loans and receivables. They are included in current assets, except for maturities greater than 12 months after the reporting date, which are classified as non-current assets. The Company’s loans and receivables comprise accounts receivables in the statement of financial position.
Loans and receivables are recognized initially at fair value and subsequently measured at amortized cost using the effective interest rate method, net of any impairment.
A provision for impairment of trade receivables is established when there is objective evidence that the Company will not be able to collect all amounts due according to the original terms of the receivables. Significant financial difficulties of the debtor, probability that the debtor will enter bankruptcy or financial reorganization, and default or significant delinquency in payments are considered indicators that a trade receivable is impaired.
The Company’s investments in publicly-listed companies are classified as available-for-sale investments. Available-for-sale financial instruments are non-derivatives that are either designated in this category or not classified in any of the other categories.
Investments in publicly-listed companies are recognized initially at fair value and subsequently are fair valued using marked-to-market principles. Gains or losses arising from changes in fair value are recognized in the statement of comprehensive income.
The investment in the associated company is initially recognized at cost and subsequently accounted for using the equity method of accounting, with the Company’s share of the investee’s income or loss for the period recorded as investment income (loss) on the statement of income.
Available-for-sale investments are classified as current, unless the investment does not mature or management does not expect to dispose of the investments within twelve months. When an available-for-sale investment is sold or impaired, the accumulated gains or losses are transferred from accumulated other comprehensive income to the statement of income and included in other gains and losses.
Trade payables are obligations to pay for goods or services that have been acquired in the ordinary course of business from suppliers. Accounts payable are classified as current liabilities if payment is due within one year or less. Trade payables are measured at amortized cost using the effective interest method.
Impairment of financial assets
At each reporting date, the company assesses whether there is objective evidence that a financial asset is impaired. If such evidence exists, the company recognizes an impairment loss, as follows:
- Financial assets carried at amortized cost: The amount of the impairment is the difference between the amortized cost of the loan or receivable and the present value of the estimated future cash flows, discounted using the original effective interest rate. The carrying amount of the asset is reduced and the amount of the loss is recognized in the statement of income.
- Available-for-sale financial assets: The impairment loss is the difference between the original cost of the asset and its fair value at the measurement date, less any impairment losses previously recognized in the statement of income.
Cash and Cash Equivalents
Cash and cash equivalents comprise cash in hand and other short-term highly liquid investments.
Borrowing costs attributable to the acquisition, construction or production of assets that require a considerable period of time to be ready for their intended use are added to the cost of those assets, until such time as the assets are substantially ready for their intended use. All other borrowing costs are recognized as interest expense in the statement of income in the period in which they are incurred.
Income tax comprises current and deferred taxes. Income tax is recognized in the statement of income except to the extent that it relates to items recognized directly in other comprehensive income or elsewhere in shareholders’ equity, in which case the related income tax expense or recovery is also recognized directly in other comprehensive income or elsewhere in shareholders’ equity.
Current tax expense is the expected cash tax payable on the taxable income for the year, using tax rates enacted, or substantively enacted, at the end of the reporting period, and any adjustment to tax payable in respect of previous years.
In general, deferred tax expense and related liability is recognized in respect of temporary differences arising between the tax bases of assets and liabilities and their carrying amounts in the financial statements. Deferred income tax is determined on a non-discounted basis using tax rates and laws that have been enacted or substantively enacted at the reporting date and are expected to continue to apply when the deferred tax asset or liability is settled. Deferred tax assets are recognized to the extent that it is probable that the assets can be recovered. Deferred income tax assets and liabilities are presented as non-current.
Tax on income in interim periods is accrued using the tax rate that would be applicable to expected total annual earnings.
Proceeds from the issuance of common shares are classified as equity. Incremental costs directly attributable to the issuance of shares are recognized as a deduction from equity.
Net Income (Loss) Per Share
Net income (loss) per share is calculated by dividing the net income (loss) for the period attributable to equity owners by the weighted average number of common shares outstanding during the period.
Diluted net income (loss) per share is calculated by adjusting the weighted average number of common shares outstanding for dilutive instruments. The Company’s potentially dilutive common shares comprise stock options granted to employees and directors. The number of shares included with respect to options is computed using the treasury stock method.
Changes in Accounting Policies
International Financial Reporting Standard 9, Financial Instruments (“IFRS 9”), was issued in November 2009. It addresses classification and measurement of financial assets and replaces the multiple category and measurement models in IAS 39 for debt instruments with a new mixed measurement model having only two categories: amortized cost and fair value . IFRS 9 also replaces the models for measuring equity investments; such investments are either recognized at fair value through profit or loss or at fair value through other comprehensive income. Where such equity instruments are measured at fair value through other comprehensive income, dividends, to the extent not clearly representing a return of investment, are recognized in profit or loss; however, other gains and losses (including impairments) associated with such instruments remain in accumulated comprehensive income indefinitely. This standard is required to be applied for accounting periods beginning on or after January 1, 2013, with earlier adoption permitted. The Company has not yet assessed the impact of the standard or determined whether it will adopt the standard early.
4. ACQUISITION OF ASSETS
Under the Arrangement referred to in Note 1, the Company issued common shares to ARC and to the former shareholders of SEO in exchange for certain assets, being approximately 117,200 net acres of undeveloped land and facility interests in northeastern British Columbia and Alberta, as well as share ownership positions in Storm Gas Resource Corp. (“SGR”), Chinook Energy Inc. (“Chinook”), Bridge Energy Norge ASA (“Bridge”) and Bellamont Exploration Ltd. (“Bellamont”) and $9.4 million in cash as follows:
|Investment in SGR||13,950|
|Investment in Chinook||10,440|
|Investment in Bridge||2,106|
|Investment in Bellamont||2,693|
|Exploration and evaluation assets||19,041|
|Net assets acquired and share capital issued||$||57,600|
The assets were transferred to the Company from SEO at the estimated fair values on the date of transfer as follows:
- Investment in SGR – private company, estimated fair value of SGR’s net assets
- Investment in Chinook – listed security, at market value
- Investment in Bridge – listed security, at market value
- Investment in Bellamont – listed security, at market value
- Exploration and evaluation assets – at estimated fair value
5. EXPLORATION AND EVALUATION ASSETS
|June 8 to September 30, 2010|
|Balance, beginning of period||$||–|
|Transfers to property and equipment||–|
|Cost, end of period||$||23,463|
|Depreciation on furniture and fixtures||(2||)|
|Carrying value, end of period||$||23,461|
Additions include $1.0 million in respect of the Company’s decommissioning provision on its existing wells.
|September 30, 2010|
|Bellamont Exploration Ltd.||$||2,693|
|Bridge Energy ASA||2,575|
|Chinook Energy Inc.||10,890|
The investments in Bellamont, Bridge and Chinook shares are classified as available-for-sale financial instruments and are carried at fair value, determined with reference to the published share prices. Holding gains for the period from August 17, 2010, the date of closing of the Arrangement, to September 30, 2010, in the amount of $919,000 are recognized in other comprehensive income.
7. INVESTMENT IN ASSOCIATE
The Company’s 22% interest in SGR is accounted for using the equity method, with recorded investment losses representing Storm’s pro-rata share of changes in SGR’s equity since August 17, 2010. The common shares of SGR are unlisted and the carrying amount of the Company’s investment does not represent a market valuation of the Company’s investment.
SGR’s summarized financial information as at and for the nine months ended September 30, 2010, which represents SGR’s book values, is as follows:
|Total assets||$||52.3 million|
|Total liabilities||$||0.3 million|
|Net loss||$||0.8 million|
The Company also provides administrative services to SGR at a cost of $33,000 for the period ended September 30, 2010. The Company and SGR are also 40:60 joint venture participants in certain undeveloped lands.
8. DECOMMISSIONING LIABILITY
The Company provides for the future cost of decommissioning oil and gas production facilities, including well sites and gathering systems. The total decommissioning obligation is estimated based on the Company’s net ownership interest in wells and facilities, the estimated costs to abandon and reclaim the wells and facilities and the estimated timing of future costs. The total estimated undiscounted amount required to settle the Company’s decommissioning obligation is approximately $1.3 million, which will be paid over the next 18 years, with the majority of costs paid between 2012 and 2028. A risk-free discount rate of four percent was used to calculate the present value of the decommissioning obligation, amounting to $1.0 million.
The following table provides a reconciliation of the carrying amount of the obligation associated with the decommissioning of oil and gas properties:
|June 8 to September 30, 2010|
|Balance, beginning of period||$||–|
|Decommissioning costs incurred||–|
|Balance, end of period||$||1,003|
9. DEFERRED INCOME TAXES
Deferred income tax assets and liabilities are based on the differences between the accounting amounts and the related tax bases of the Company’s property and equipment, exploration and evaluation assets, decommissioning liability, share capital and unrealized fair market gains and losses on investments.
The Company has tax pools associated with exploration and evaluation assets of approximately $20.0 million as well as a non-capital loss of approximately $1.0 million. The tax loss expires in 2030. Deferred tax assets have not been recognized due to the uncertainty as to future realization.
10. SHAREHOLDERS’ EQUITY
An unlimited number of voting common shares without nominal or par value
An unlimited number of first preferred shares without nominal or par value
Common shareholders are entitled to receive dividends if, as and when declared by the Board of Directors. In the event of liquidation, dissolution or winding up of the Company, common shareholders shall, subject to the priority of preferred shareholders, participate in such distribution in equal amounts per share.
|Number of Common Shares||Consideration|
|Balance as at June 8, 2010||–||$||–|
|Shares issued under plan of arrangement(1)||17,515||57,600|
|Management private placement (2)||2,300||7,544|
|Exercise of warrants(3)||6,562||21,522|
|Share issue costs||(85||)|
|Balance as at September 30, 2010||26,377||$||86,581|
(1) On August 17, 2010 the Company completed the Arrangement with ARC and SEO (Note 4) whereby the Company acquired from SEO undeveloped land, equipment, cash and corporate investments in exchange for 16,631,241 common shares of the Company which were transferred to the former shareholders of SEO. In addition, as per the terms of the Arrangement, 884,173 common shares were issued to ARC.
(2) Concurrent with the completion of the Arrangement, the Company completed a private placement of 2.3 million voting common shares, at a price of $3.28 per share, with directors, officers and employees of the Company for total proceeds of $7.5 million.
(3) As part of the Arrangement, the Company issued warrants to acquire common shares at a price of $3.28 prior to September 21, 2010. A total of 6,562,000 warrants were exercised for total proceeds of $21.5 million.
11. SHARE-BASED PAYMENTS
The Company has a stock option plan under which it may grant, at the Company’s discretion, options to purchase common shares to directors, officers, employees and consultants. Options are granted at the market price of the shares on the date of grant, have a four-year term and vest over three years. Under the stock option plan, a total of 2.6 million common shares have been reserved for issuance.
Details of the options outstanding at September 30, 2010 are as follows:
|Number of Options||Weighted Average Exercise Price|
|Outstanding at June 8, 2010||–||$||–|
|Granted during the period||1,974||3.28|
|Exercised during the period||–||–|
|Expired during the period||–||–|
|Forfeited during the period||–||–|
|Outstanding at September 30, 2010||1,974||$||3.28|
|Number exercisable at September 30, 2010||–||$||–|
|Range of Exercise Price||Outstanding||Life (years)||Price|
|$0 to $3.28||1,974||3.9||$||3.28|
The fair value of employee stock options is measured using the Black Scholes option pricing model. Measurement inputs include the share price on measurement date, exercise price of the instrument, expected volatility (based on weighted average historical volatility adjusted for changes expected due to publicly available information), weighted average expected life of the instruments (based on historical experience and general option holder behavior), expected dividends, and the risk-free interest rate (based on government bonds).
The weighted average inputs used in the Black-Scholes pricing model to determine the fair value of the options at grant date of $1.06 include the following:
|Risk-free interest rate||1.9||%|
The initial forfeiture rate was estimated to be 10%. This estimate will be adjusted to the actual forfeiture rate. Share-based payment expense of $126,000 was charged to the statement of income during the period with an equivalent offset to contributed surplus.
|June 8 to September 30, 2010|
|Balance, beginning of period||$||–|
|Transfer to share capital on exercise of options||–|
|Balance, end of period||$||126|
12. NET INCOME (LOSS) PER SHARE
Basic and diluted net income (loss) per share were calculated as follows:
|June 8 to September 30, 2010|
|Net loss for the period||$||406|
|Weighted average number of common shares outstanding – basic:|
|Common shares outstanding at June 8, 2010||–|
|Stock options exercised||–|
|Effect of shares issued||8,109|
|Weighted average number of common shares outstanding – basic||8,109|
|Effect of outstanding options||–|
|Weighted average number of common shares outstanding – diluted||8,109|
|Net income (loss) per share|
The average market value of the Company’s shares for purposes of calculating the dilutive effect of share options was based on quoted market prices for the period that the options were outstanding. Excluded from diluted earnings per share is the effect of the outstanding options as their effect is anti-dilutive.
13. FINANCIAL INSTRUMENTS
The following table sets out, for each class of financial asset and financial liability, the carrying amount and fair value as at September 30, 2010. The carrying value of cash and cash equivalents, accounts receivable and accounts payable and accrued liabilities included on the statement of financial position approximate their fair values due to the short-term nature of those instruments and are not included in the table below.
Storm classifies the fair value of these financial instruments according to the following hierarchy based on the amount of observable inputs used to value the instrument.
- Level 1 – Quoted prices are available in active markets for identical assets or liabilities as of the reporting date. Active markets are those in which transactions occur in sufficient frequency and volume to provide pricing information on an ongoing basis.
- Level 2 – Pricing inputs are other than quoted prices in active markets included in Level 1. Prices in Level 2 are either directly or indirectly observable as of the reporting date. Level 2 valuations are based on inputs, including quoted forward prices for commodities, time value and volatility factors, which can be substantially observed or corroborated in the marketplace.
- Level 3 – Valuations in this level are those with inputs for the asset or liability that are not based on observable market data.
|September 30, 2010|
|Classification||Carrying Amount||Fair Value|
|Investments in publicly traded companies(i)||Available for sale||$||16,158||$||16,158|
- The fair value of the Company’s investments in Bellamont, Chinook and Bridge are determined with reference to published share prices and are therefore classified as Level 1 financial instruments.
Assessment of the significance of a particular input to the fair value measurement requires judgment and may affect the placement within the fair value hierarchy level.
The Company’s activities expose it to a variety of financial risks that arise as a result of its exploration, development, production and financing activities such as:
- credit risk;
- market risk; and
- liquidity risk.
Management has primary responsibility for monitoring and managing financial instrument risks under direction from the Board of Directors, which has overall responsibility for establishing the Company’s risk management framework.
Credit risk is the risk of financial loss to the Company if a customer or counterparty to a financial instrument fails to meet its contractual obligations, and arises principally from the Company’s receivables from joint venture partners. The maximum exposure to credit risk at period end is as follows:
|Carrying Amount as at September 30, 2010|
|Cash and cash equivalents||$||37,830|
Cash and cash equivalents
The Company limits its exposure to credit risk by only investing in liquid securities and only with counterparties that have an acceptable credit rating. Given these factors, management does not expect any counterparty to fail to meet its obligations.
In future periods a substantial portion of the Company’s accounts receivable will be trade receivables, concentrated with a limited number of joint venture partners in the oil and gas industry and is subject to normal industry credit risk. The Company attempts to mitigate the risk from such joint venture receivables by obtaining pre-approval and cash call deposits from its partners in advance of significant capital expenditures. The Company does not typically obtain collateral from joint venture partners.
The Company’s accounts receivable are all current at September 30, 2010. No default on outstanding receivables is anticipated and, as such, no provision for doubtful accounts has been recorded.
Market risk is the risk that changes in market prices, such as commodity prices, interest rates and foreign exchange rates, will affect the Company’s income or the value of the financial instruments. The objective of market risk management is to manage and control market risk exposures within acceptable parameters, while optimizing the return.
Market risks are as follows and are largely outside the control of the Company:
- commodity prices;
- interest rates;
- foreign exchange rates.
Commodity price risk is the risk that the fair value or future cash flows will fluctuate as a result of changes in commodity prices. Commodity prices for oil and natural gas are affected by many known and unknown factors such as demand and supply imbalances, the relationship between the Canadian and United States dollar as well as national and international economic and geopolitical events.
Although the Company currently does not have any production from its oil and gas properties, it is exposed to the risk of declining prices for anticipated future production resulting in a corresponding reduction in projected cash flow. Reduced cash flow may result in lower levels of capital being available for field activity, thus compromising the Company’s capacity to grow production while at the same time replacing continuous production declines from existing properties.
Once production is established, the Company may choose to enter into oil and natural gas hedging contracts in order to reduce the fluctuation in production revenue by fixing prices of future deliveries of oil and natural gas and thus provide stability of future cash flow. The Company would not use these instruments for trading or speculative purposes.
The Company does not currently have any debt and is not exposed to the risk of reduced cash flow from increasing interest rates.
Foreign exchange rates
Prices for oil are determined in global markets and generally denominated in United States dollars. Natural gas prices are influenced by both US and Canadian supply and demand and by imports of liquefied natural gas. Changes in the Canadian dollar relative to the US dollar have no impact on the Company’s results at this time.
Liquidity difficulties would emerge if the Company was unable to establish a profitable production base and thus generate sufficient cash flow to cover both operating and capital requirements. This may be the consequence of insufficient cash flows resulting from low product prices, production interruptions, operating or capital cost increases, or unsuccessful investment programs.
Accounts payable and accrued liabilities, with a contractual maturity of less than one year, is the only financial liability outstanding and is more than offset by current assets at September 30, 2010.
14. CAPITAL MANAGEMENT
The Company’s capital structure is comprised of shareholders’ equity. The Company’s objective when managing capital is to maintain financial flexibility to preserve its investment program until internally generated cash flow emerges. Capital management involves the preparation of an annual budget, which may only be implemented after approval by the Company’s Board of Directors. As the Company’s business evolves, the budget will be amended; however, any changes are again subject to approval by the Board of Directors. The Company is not currently exposed to any externally imposed capital restrictions.
At present the Company has no revenue from oil and natural gas operations. Cash and potential proceeds from sale of investments, will be invested in exploration and development operations with the intent of generating short and medium term cash flow, and thus financial sustainability. It may be that capital currently available to the Company is insufficient to generate positive cash flow, thus requiring additional capital which is likely to be available only on terms dilutive to existing shareholders, if available at all. However, the establishment of positive cash flow should enable the Company to access debt financing which will provide a source of investment capital additional to existing resources or future equity issues.
15. RELATED PARTY TRANSACTIONS
The remuneration of the key management personnel of the Company, which includes directors and officers, is set out below in aggregate:
|June 8 to September 30, 2010|
|Salaries and short-term benefits||$||61|
16. SUPPLEMENTAL CASH FLOW INFORMATION
Changes in non-cash working capital
|Period ended September 30, 2010|
|Prepaids and other||(274||)|
|Accounts payable and accrued liabilities||3,620|
|Change in non-cash working capital||$||3,151|
|Brian Lavergne||Daniel J. Fitzgerald|
|President & CEO||Vice President, Corporate Development|
|Robert S. Tiberio||John Devlin|
|Chief Operating Officer||Controller|
|Donald G. McLean||Mark G. Eade|
|Vice President, Finance & CFO||Corporate Secretary|
|Matthew J. Brister (1) (2)||Brian Lavergne|
|John A. Brussa (3)|
|Gregory G. Turnbull (3)|
|Mark A. Butler (3)|
|P. Grant Wierzba (2)|
|Stuart G. Clark (1)|
|Chairman||James K. Wilson (1)|
|(1) Member, Audit Committee (2) Member, Reserves Committee (3) Member, Compensation, Governance and Nomination Committee|
|Stock Exchange Listing||Registrar & Transfer Agent|
|TSX Venture Exchange||Alliance Trust Company|
|Trading Symbol “SRX”||Calgary, Alberta|
|McCarthy Tétrault LLP||ATB Financial|
|Burnet Duckworth & Palmer LLP||Calgary, Alberta|
|Suite 800, 205 – 5th Avenue S.W.|
|PricewaterhouseCoopers LLP||Calgary, Alberta, T2P 2V7 Canada|
|Calgary, Alberta||Tel: (403) 817-6145
Fax: (403) 817-6146
|3-D||Three-dimensional||Mcf||Thousands of cubic feet|
|API||American Petroleum Institute||Mcf/d||Thousands of cubic feet per day|
|ARTC||Alberta Royalty Tax Credit||Mmbbls||Millions of barrels|
|Bbls||Barrels of oil or natural gas liquids||Mmbtu||Millions of British Thermal Units|
|Bbls/d||Barrels per day||Mmbtu/d||Millions of British Thermal Units per day|
|Bcf||Billions of cubic feet||Mmcf||Millions of cubic feet|
|Bcfe||Billions of cubic feet equivalent||Mmcf/d||Millions of cubic feet per day|
|Boe||Barrels of oil equivalent||Mstb||Thousand stock tank barrels|
|Boe/d||Barrels of oil equivalent per day||NAV||Net Asset Value|
|Bopd||Barrels of oil per day||NGL||Natural gas liquids|
|Cdn$||Canadian dollar||NPV||Net present value|
|DPIIP||Discovered Petroleum Initially in Place||OGIP||Original Gas in Place|
|ETAP||Entreprise Tunisienne d’Activités Pétrolières||OPEC||Organization of Petroleum Exporting Countries|
|FPSO||Floating, Production, Storage, Offloading vessel||Scf/ton||Standard cubic foot per ton|
|GJ||Gigajoules||STOOIP||Stock Tank Original Oil in Place|
|GJ/d||Gigajoules per day||Tcf||Trillions of cubic feet|
|Mbbls||Thousands of barrels||TSX||Toronto Stock Exchange|
|Mboe||Thousands of barrels of oil equivalent||US$||United States dollar|
|WTI||West Texas Intermediate|