-----BEGIN PRIVACY-ENHANCED MESSAGE----- Proc-Type: 2001,MIC-CLEAR Originator-Name: webmaster@www.sec.gov Originator-Key-Asymmetric: MFgwCgYEVQgBAQICAf8DSgAwRwJAW2sNKK9AVtBzYZmr6aGjlWyK3XmZv3dTINen TWSM7vrzLADbmYQaionwg5sDW3P6oaM5D3tdezXMm7z1T+B+twIDAQAB MIC-Info: RSA-MD5,RSA, QxprJtTCZK98/JZn1EC5evjiI1mVxtrKfajFLFWuD3FtVDgL2g8PYONb+Qb0CTEh SXbg23gtBsoYRug0DzH8uQ== 0000930661-98-001787.txt : 19980817 0000930661-98-001787.hdr.sgml : 19980817 ACCESSION NUMBER: 0000930661-98-001787 CONFORMED SUBMISSION TYPE: 10QSB PUBLIC DOCUMENT COUNT: 3 CONFORMED PERIOD OF REPORT: 19980630 FILED AS OF DATE: 19980814 SROS: NASD FILER: COMPANY DATA: COMPANY CONFORMED NAME: GOTHIC ENERGY CORP CENTRAL INDEX KEY: 0000878482 STANDARD INDUSTRIAL CLASSIFICATION: CRUDE PETROLEUM & NATURAL GAS [1311] IRS NUMBER: 222663839 STATE OF INCORPORATION: OK FISCAL YEAR END: 1231 FILING VALUES: FORM TYPE: 10QSB SEC ACT: SEC FILE NUMBER: 000-19753 FILM NUMBER: 98688771 BUSINESS ADDRESS: STREET 1: 5727 S LEWIS AVE STE 700 STREET 2: P O BOX 186 CITY: TULSA STATE: OK ZIP: 74105 BUSINESS PHONE: 9187495666 FORMER COMPANY: FORMER CONFORMED NAME: TNC MEDIA INC DATE OF NAME CHANGE: 19930328 FILER: COMPANY DATA: COMPANY CONFORMED NAME: GOTHIC PRODUCTION CORP CENTRAL INDEX KEY: 0001061312 STANDARD INDUSTRIAL CLASSIFICATION: CRUDE PETROLEUM & NATURAL GAS [1311] IRS NUMBER: 731539475 STATE OF INCORPORATION: OK FISCAL YEAR END: 1231 FILING VALUES: FORM TYPE: 10QSB SEC ACT: SEC FILE NUMBER: 333-52225 FILM NUMBER: 98688772 BUSINESS ADDRESS: STREET 1: 5727 SOUTH LEWIS AVE STREET 2: STE 700 CITY: TULSA STATE: OK ZIP: 74105 BUSINESS PHONE: 9187495666 10QSB 1 FORM 10-QSB UNITED STATES SECURITIES AND EXCHANGE COMMISSION WASHINGTON, DC 20549 FORM 10-QSB [ X ] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 FOR THE QUARTERLY PERIOD ENDED JUNE 30, 1998 or [ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the period from____________________to_______________________ ------------------------------------------------------------ Commission file number 0-19753 GOTHIC ENERGY CORPORATION (Exact name of registrant as specified in its charter) OKLAHOMA 22-2663839 (State or other jurisdiction of (IRS Employer incorporation or organization) Identification No.) 5727 SOUTH LEWIS, #700, TULSA, OKLAHOMA 74105-7148 (Address of principal executive offices) 918-749-5666 (Registrant's telephone number, including area code) Check whether the issuer (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes X No --- --- APPLICABLE ONLY TO CORPORATE ISSUERS: As of August 12, 1998, 16,261,640 shares of the Registrant's Common Stock, $.01 par value, were outstanding. ------------------------------------------------------------ Commission file number 333-52225 GOTHIC PRODUCTION CORPORATION (Exact name of registrant as specified in its charter) OKLAHOMA 73-1539475 (State or other jurisdiction of (IRS Employer incorporation or organization) Identification No.) 5727 SOUTH LEWIS, #700, TULSA, OKLAHOMA 74105-7148 (Address of principal executive offices) 918-749-5666 (Registrant's telephone number, including area code) Check whether the issuer (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes X No --- --- APPLICABLE ONLY TO CORPORATE ISSUERS: As of August 12, 1998,100 shares of the Registrant's Common Stock, $1.00 par value, were outstanding. GOTHIC ENERGY CORPORATION GOTHIC PRODUCTION CORPORATION This Quarterly Report on Form 10-QSB is filed by Gothic Energy Corporation (file number 0-19753) pursuant to Section 13 of the Securities Exchange Act of 1934, as amended, and by Gothic Production Corporation (file number 333-52225) pursuant to Section 15(d) of the Securities Exchange Act of 1934, as amended. See Note 6 to Notes to Unaudited Consolidated Financial Statements. TABLE OF CONTENTS PART I - FINANCIAL INFORMATION PAGE ITEM 1 - FINANCIAL STATEMENTS Consolidated Unaudited Balance Sheets December 31, 1997 and June 30, 1998.......................... 3 Consolidated Unaudited Statements of Operations Six Months ended June 30, 1997 and 1998...................... 4 Consolidated Unaudited Statements of Operations Three Months ended June 30, 1997 and 1998.................... 5 Consolidated Unaudited Statements of Cash Flows Six Months ended June 30, 1997 and 1998...................... 6 Notes to Unaudited Consolidated Financial Statements......... 7 Report of Review by Independent Accountants.................. 17 ITEM 2 - MANAGEMENT'S DISCUSSION AND ANALYSIS Management's Discussion and Analysis or Plan of Operations... 18 PART II - OTHER INFORMATION Item 2 - Changes in Securities and Use of Proceeds........... 29 Item 6 - Exhibits and Reports on Form 8-K.................... 30 Signatures................................................... 31 2 GOTHIC ENERGY CORPORATION AND SUBSIDIARY CONSOLIDATED BALANCE SHEETS (DOLLARS IN THOUSANDS, EXCEPT PAR VALUE)
DECEMBER 31, JUNE 30, ASSETS 1997 1998 ------ ------------ -------- (Unaudited) CURRENT ASSETS: Cash and cash equivalents $ 16,722 $ 8,010 Available-for-sale investments 406 - Natural gas and oil receivables 3,200 5,936 Receivable from officers and employees 82 75 Other 78 146 -------- -------- TOTAL CURRENT ASSETS 20,488 14,167 PROPERTY AND EQUIPMENT: Natural gas and oil properties on full cost method: Properties being amortized 94,168 307,558 Unproved properties not subject to amortization 2,103 2,103 Deposit for natural gas and oil property acquisition 23,750 - Gas gathering and processing system 5,404 - Equipment, furniture and fixtures 558 710 Accumulated depreciation, depletion and amortization (9,456) (22,956) -------- -------- PROPERTY AND EQUIPMENT, NET 116,527 287,415 OTHER ASSETS, NET 1,360 14,983 NOTE RECEIVABLE FROM OFFICER AND DIRECTOR 167 - -------- -------- TOTAL ASSETS $138,542 $316,565 ======== ======== LIABILITIES AND STOCKHOLDERS' EQUITY - ------------------------------------ CURRENT LIABILITIES: Accounts payable trade $ 2,081 $ 1,675 Revenues payable 1,553 4,013 Accrued interest and dividends 4,018 5,700 Accrued liabilities 182 128 -------- -------- TOTAL CURRENT LIABILITIES 7,834 11,516 LONG-TERM DEBT, NET 117,704 296,735 GAS IMBALANCE LIABILITY 551 6,213 STOCKHOLDERS' EQUITY: Series B Redeemable Preferred stock, par value $.05, authorized 500,000 shares; issued and outstanding 50,000 shares - 31,834 Common stock, par value $.01, authorized 100,000,000 shares; issued and outstanding 16,261,640 shares 162 162 Additional paid in capital 36,043 42,997 Accumulated deficit (23,462) (72,723) Unrealized loss on available-for-sale investments (121) - Note receivable (169) (169) -------- -------- TOTAL STOCKHOLDERS' EQUITY 12,453 2,101 -------- -------- TOTAL LIABILITIES AND STOCKHOLDERS' EQUITY $138,542 $316,565 ======== ========
See accompanying notes 3 GOTHIC ENERGY CORPORATION AND SUBSIDIARY CONSOLIDATED STATEMENTS OF OPERATIONS (IN THOUSANDS, EXCEPT PER SHARE AMOUNTS) (UNAUDITED)
FOR THE SIX MONTHS ENDED JUNE 30, ---------------------------------------- 1997 1998 ----------------- ----------------- REVENUES: Natural gas and oil sales $ 8,025 $ 27,921 Gas system revenues 2,179 - Well operations 631 1,152 ------- -------- TOTAL REVENUES $10,835 $ 29,073 COSTS AND EXPENSES: Lease operating expenses 3,222 7,495 Gas system expenses 1,742 - Depreciation, depletion and amortization 2,673 13,755 General and administrative expense 1,041 1,512 Severance for former officer - 258 ------- -------- Operating income 2,157 6,053 Interest expense and amortization of debt issuance costs (2,926) (17,094) Interest and other income 20 179 Loss on sale of investments - (305) ------- -------- LOSS BEFORE EXTRAORDINARY ITEM $ (749) $(11,167) LOSS ON EARLY EXTINGUISHMENT OF DEBT - 31,459 ------- -------- NET LOSS (749) (42,626) PREFERRED DIVIDEND ($35.38 AND $65.92 PER PREFERRED SHARE) 196 2,464 PREFERRED DIVIDEND AMORTIZATION OF PREFERRED DISCOUNT - 4,171 ------- -------- NET LOSS AVAILABLE FOR COMMON SHARES $ (945) $(49,261) ======= ======== LOSS PER COMMON SHARE BEFORE EXTRAORDINARY ITEM, BASIC AND DILUTED $ (.07) $ (1.09) ======= ======== NET LOSS PER COMMON SHARE, BASIC AND DILUTED $ (.07) $ (3.03) ======= ======== WEIGHTED AVERAGE COMMON SHARES OUTSTANDING 12,820 16,262 ======= ========
See accompanying notes 4 GOTHIC ENERGY CORPORATION AND SUBSIDIARY CONSOLIDATED STATEMENTS OF OPERATIONS (IN THOUSANDS, EXCEPT PER SHARE AMOUNTS) (UNAUDITED)
FOR THE THREE MONTHS ENDED JUNE 30, -------------------------------- 1997 1998 --------------- -------------- REVENUES: Natural gas and oil sales $ 3,318 $ 11,405 Gas system revenues 910 - Well operations 325 566 ------- -------- TOTAL REVENUES $ 4,553 $ 11,971 COSTS AND EXPENSES: Lease operating expenses 1,521 2,831 Gas system expenses 639 - Depreciation, depletion, and amortization 1,438 6,311 General and administrative expense 493 857 ------- -------- Operating income 462 1,972 Interest expense and amortization of debt issuance costs (1,740) (9,061) Interest and other income 2 13 Loss on sale of investments - (40) ------- -------- LOSS BEFORE EXTRAORDINARY ITEM $(1,276) $ (7,116) LOSS ON EARLY EXTINGUISHMENT OF DEBT - 4,398 ------- -------- NET LOSS (1,276) (11,514) PREFERRED DIVIDEND ($16.61 AND $31.91 PER PREFERRED SHARE) 92 1,490 PREFERRED DIVIDEND AMORTIZATION OF PREFERRED DISCOUNT - 4,171 ------- -------- NET LOSS AVAILABLE FOR COMMON SHARES $(1,368) $(17,175) ======= ======== LOSS PER COMMON SHARE BEFORE EXTRAORDINARY ITEM, BASIC AND DILUTED $ (.10) $ (.79) ======= ======== NET LOSS PER COMMON SHARE, BASIC AND DILUTED $ (.10) $ (1.06) ======= ======== WEIGHTED AVERAGE COMMON SHARES OUTSTANDING 13,172 16,262 ======= ========
See accompanying notes 5 GOTHIC ENERGY CORPORATION AND SUBSIDIARY CONSOLIDATED STATEMENTS OF CASH FLOWS (IN THOUSANDS) (UNAUDITED)
FOR THE SIX MONTHS ENDED JUNE 30, ---------------------------------------------- 1997 1998 -------------------- -------------------- CASH FLOWS FROM OPERATING ACTIVITIES: Net loss $ (749) $ (42,626) ADJUSTMENTS TO RECONCILE NET LOSS TO NET CASH PROVIDED BY OPERATING ACTIVITIES: Depreciation, depletion and amortization 2,673 13,755 Amortization of discount and loan costs 954 1,173 Loss on early extinguishment of debt - 31,459 Accretion of interest on discount notes - 1,579 CHANGES IN ASSETS AND LIABILITIES: Increase in accounts receivable (60) (2,729) Increase in other current assets (214) (68) Increase in accounts and revenues payable 442 2,054 Decrease in gas imbalance payable (405) - (Decrease) increase in accrued liabilities (198) 576 Decrease in other assets 494 - -------- --------- NET CASH PROVIDED BY OPERATING ACTIVITIES $ 2,937 $ 5,173 NET CASH USED BY INVESTING ACTIVITIES: Collection of note receivable from officer and director - 167 Purchase of available-for-sale investments - (462) Proceeds from sale of investments - 1,359 Proceeds from sale of property and equipment 305 43,025 Purchase of property and equipment (27,964) (217,476) Property development costs (1,406) (6,158) -------- --------- NET CASH USED BY INVESTING ACTIVITIES $(29,065) $(179,545) CASH FLOWS FROM FINANCING ACTIVITIES: Proceeds from short-term borrowings 14,500 60,000 Payment of short-term borrowings - (60,000) Proceeds from long-term borrowings 36,250 429,340 Payments of long-term borrowings (23,411) (257,934) Proceeds from sale of preferred stock, net - 73,475 Redemption of preferred stock, net - (40,809) Proceeds from exercise of common stock warrants 325 - Payment of loan and offering fees (1,369) (38,271) Other (70) (141) -------- --------- NET CASH PROVIDED BY FINANCING ACTIVITIES $ 26,225 $ 165,660 NET CHANGE IN CASH AND CASH EQUIVALENTS 97 (8,712) CASH AND CASH EQUIVALENTS, BEGINNING OF PERIOD 207 16,722 -------- --------- CASH AND CASH EQUIVALENTS, END OF PERIOD $ 304 $ 8,010 ======== ========= SUPPLEMENTAL DISCLOSURE OF INTEREST PAID $ 1,973 $ 14,342 ======== =========
See accompanying notes 6 GOTHIC ENERGY CORPORATION AND SUBSIDIARY NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS NOTE 1. GENERAL AND ACCOUNTING POLICIES ORGANIZATION AND NATURE OF OPERATIONS - The consolidated financial statements include the accounts of Gothic Energy Corporation, (the "Company"), and its subsidiary, Gothic Production Corporation ("Gothic Production"), since its formation in March of 1998. The Company is primarily engaged in the business of acquiring, developing and exploiting oil and gas reserves in Oklahoma, Texas, New Mexico and Kansas. Substantially all of the Company's natural gas and oil production is being sold regionally in the "spot market" or under short-term contracts, not extending beyond twelve months. PREPARATION OF FINANCIAL STATEMENTS - The preparation of financial statements in conformity with generally accepted accounting principles requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. Actual results could differ from those estimates. The December 31, 1997 consolidated balance sheet data was derived from the audited financial statements but does not include all disclosures required by generally accepted accounting principles. The financial statements should be read in conjunction with the Company's Annual Report on Form 10-KSB for the year ended December 31, 1997. In the opinion of management of the Company, the accompanying financial statements contain all adjustments, none of which were other than normal recurring accruals, necessary to present fairly the financial position of the Company as of June 30, 1998, and the results of its operations and cash flows for the periods ended June 30, 1997 and 1998. The results of operations for the periods presented are not necessarily indicative of the results of operations to be expected for the full year. INCOME (LOSS) PER COMMON SHARE - Income (loss) per common share before extraordinary item and net income (loss) per common share are computed in accordance with Statement of Financial Accounting Standards No. 128 ("FAS 128"), which is effective for reporting periods ending after December 15, 1997. FAS 128 requires the restatement of prior year's loss per share to conform to the new standard. Presented in the Consolidated Statements of Operations is a reconciliation of loss available to common shareholders. There is no difference between actual weighted average shares outstanding, which are used in computing basic income (loss) per share and diluted weighted average shares, which are used in computing diluted income (loss) per share because the effect of outstanding options and warrants would be antidilutive. Warrants and options to purchase approximately 21,307,000 shares were outstanding as of June 30, 1998 which were not included in the computation of diluted loss per share. RECENTLY ISSUED FINANCIAL ACCOUNTING PRONOUNCEMENTS - In June 1997, the Financial Accounting Standards Board ("FASB") issued FAS 130, "Reporting Comprehensive Income", and FAS 131, "Disclosures about Segments of an Enterprise and Related Information," effective for fiscal years beginning after December 15, 1997. The adoption of FAS 130 did not have a material effect in the Company's financial statements, as there was no material difference between net income (loss) and comprehensive income (loss). FAS 131 does not effect the Company as only one segment is reported by the Company. In June 1998, the FASB issued Statement No. 133, Accounting for Derivative Instruments and Hedging Activities ("FAS 133"). FAS 133 is effective for fiscal years beginning after June 15, 1999, but earlier application is permitted as of the beginning of any fiscal quarter subsequent to June 15, 1998. FAS 133 standardizes the accounting for derivative 7 NOTE 1. GENERAL AND ACCOUNTING POLICIES (CONTINUED) instruments by requiring that all derivatives be recognized as assets and liabilities and measured at fair value. Upon the Statement's initial application, all derivatives are required to be recognized in the statement of financial position as either assets or liabilities and measured at fair value. In addition, all existing hedging relationships must be designated, reassessed, documented and the accounting conformed to the provisions of FAS 133. Due to the limited nature of the Company's hedging activities, the Company does not expect the adoption of FAS 133 to have a significant impact on its financial position or results of operations when adopted. NOTE 2. OIL AND GAS PROPERTY ACQUISITIONS AND DISPOSITIONS AMOCO ACQUISITION On January 23, 1998, the Company completed the acquisition from Amoco Production Company ("Amoco"), a subsidiary of Amoco Corporation, of certain producing natural gas properties, located in the Anadarko and Arkoma Basins of Oklahoma. The purchase price was $237.5 million, including a $23.7 million deposit paid in November 1997 upon signing of the purchase agreement, subject to certain post-closing adjustments. Amoco also received warrants to purchase 1.5 million shares of the Company's common stock for $3.00 per share, with an estimated fair value at the date of acquisition of approximately $1.2 million, and certain producing properties having a value of less than $1.8 million. The acquisition and related fees and expenses were financed through an amended and restated credit facility with Bank One, Texas, NA. ("Bank One") (See Note 4) and the issuance of $37.0 million of Series A Preferred Stock (see Note 5). The Company acquired interests in 821 gross wells and assumed operations of 291 of the properties. The Company also acquired approximately 10,000 net undeveloped acres located throughout the Anadarko Basin as well as substantial mineral and overriding royalty interests. In connection with the Amoco Acquisition, the Company entered into a transition agreement which provides for a payment of $540,000 per month to be made to Amoco commencing January 1, 1998 for the operation and administration of the properties acquired. This transition payment was made by the Company for January and February 1998. Since March 1, 1998, the Company has operated the properties. The transition agreement established effective control for the Company over the properties, and accordingly, January 1, 1998 has been used as the effective date for the Amoco Acquisition for accounting purposes. CHESAPEAKE DISPOSITIONS On April 27, 1998, the Company sold to Chesapeake Energy Corporation ("Chesapeake") for $20.0 million, a 50% interest in its natural gas and oil properties in the Arkoma basin and sold for $10.5 million, a 50% participation right in substantially all of the Company's undeveloped acreage (see Note 3, "The Chesapeake Transaction"). In addition, in a separate transaction, on May 28, 1998, the Company sold to Chesapeake for $6.0 million its interest in certain natural gas and oil properties. NOTE 3. RECAPITALIZATION On April 27, 1998, the Company completed a series of transactions which recapitalized the Company through (i) the transfer of all of the Company's natural gas and oil assets to Gothic Production, (ii) the issuance by the Company of shares of its Series B Preferred Stock, (iii) the sale of interests in natural gas and oil properties for $20.0 million, subject to closing adjustments, (iv) the execution of a participation agreement granting a 50% interest in substantially all of the Company's undeveloped acreage for consideration of $10.5 million, (v) the issuance by the Company of its 14 1/8 % Senior Secured Discount Notes Due 2006, (vi) the issuance by Gothic Production of its 11 1/8% Senior Secured Notes Due 2005 and (vii) the repayment and/or refinancing of substantially all of the Company's then existing debt and preferred securities (together the "Recapitalization"). Certain transactions undertaken in the Recapitalization are described in greater detail below. 8 NOTE 3. RECAPITALIZATION (CONTINUED) Corporate Restructuring Gothic Production was organized as a wholly owned subsidiary of the Company in March 1998. At the closing of the Recapitalization, the Company transferred to Gothic Production its ownership of all its natural gas and oil properties. The natural gas and oil assets collateralize Gothic Production 's obligations under a credit facility with Bank One (the "Credit Facility") and the 11 1/8% Senior Secured Notes. THE CHESAPEAKE TRANSACTION On April 27, 1998, the Company completed several agreements with Chesapeake, pursuant to which the Company (i) executed a participation agreement granting a 50% interest in substantially all of Gothic Production's undeveloped acreage for consideration of $10.5 million, (ii) sold for $20.0 million, subject to closing adjustments, a 50% interest in Gothic Production's natural gas and oil properties in the Arkoma basin, and (iii) sold for $39.5 million, 50,000 shares of the Company's Series B Preferred Stock, having a liquidation value of $50.0 million, and ten-year warrants to purchase, at an exercise price of $0.01 per share, 2,439,246 shares of the Company's Common Stock. Such warrants had an estimated fair value of $4.9 million on the date of issuance. FINANCING TRANSACTIONS The following financing transactions were also completed as part of the Recapitalization: 11 1/8% Senior Secured Notes................. Gothic Production sold $235.0 million principal amount of 11 1/8% Senior Secured Notes 14 1/8% Senior Secured Discount Notes........ The Company sold approximately $60.2 million initial principal amount ($104.0 million principal amount at maturity) of 14 1/8 % Senior Secured Discount Notes due 2006 collateralized by the outstanding capital stock of Gothic Production held by the Company and seven-year common stock purchase warrants exercisable at $2.40 per share to purchase 825,000 shares of Common Stock. The estimated fair value of such warrants was approximately $554,000 on the date of issuance. 9 NOTE 3. RECAPITALIZATION (CONTINUED) Series B Preferred Stock and Warrants........ The Company sold for $39.5 million, 50,000 shares of its Series B Preferred Stock, having a liquidation preference of $50.0 million, and ten-year common stock purchase warrants exercisable at $0.01 per share to purchase 2,439,246 shares of Common Stock. The estimated fair value of such warrants was approximately $4.9 million on the date of issuance. Arkoma Property Sales........................ The Company sold for $20.0 million, subject to closing adjustments, a 50% interest in its natural gas and oil properties in the Arkoma basin. Credit Facility.............................. Gothic Production, with the Company as guarantor, entered into the Credit Facility with Bank One which provides among other things, an initial borrowing availability of approximately $25.0 million. REPAYMENTS AND REDEMPTIONS The net proceeds of approximately $350.5 million from the Recapitalization described above were applied to repay or redeem the following: 12 1/4% Senior Notes......................... These notes, outstanding in the principal amount of approximately $99.3 million, were redeemed for approximately $102.3 million, inclusive of a 1% redemption premium and accrued interest. Series A Preferred Stock.................... These shares were redeemed for $38.7 million, inclusive of a 1% redemption premium and payment- in-kind dividends through the redemption date. Credit Facility............................. An aggregate of $206.4 million of indebtedness owing to Bank One was repaid. 10 NOTE 4. FINANCING ACTIVITIES CREDIT FACILITY On April 27, 1998, in connection with the Recapitalization of the Company, including repayment of $206.4 million of indebtedness owing to Bank One, including accrued interest, Gothic Production, with the Company as guarantor, entered into the Credit Facility. The Credit Facility consists of a revolving line of credit, with an initial Borrowing Base of $25.0 million. Borrowings initially are limited to being available for the acquisition and development of natural gas and oil properties, letters of credit and general corporate purposes. The Borrowing Base will be redetermined at least semi-annually and the initial redetermination is scheduled for October 1, 1998. The principal is due at maturity, April 30, 2001. Interest is payable monthly calculated at the Bank One Base Rate, as determined from time to time by Bank One. Gothic Production may elect to calculate interest under a London Interbank Offered Rate ("LIBOR") plus 1.5% (or up to 2.0% in the event the loan balance is greater than 75% of the Borrowing Base). Gothic Production is required to pay a commitment fee on the unused portion of the Borrowing Base equal to 1/2 of 1% per annum. Under the Credit Facility, Bank One holds first priority liens on substantially all of the natural gas and oil properties of Gothic Production, whether currently owned or hereafter acquired. Gothic Production currently has no amount outstanding under the Credit Facility. The Credit Facility requires, among other things, semi-annual engineering reports covering oil and natural gas reserves on the basis of which semi-annual and other redeterminations of the borrowing base and monthly commitment reduction are made. The Credit Facility also includes various affirmative and negative covenants, including, among others, (i) prohibitions against additional indebtedness unless approved by the lenders, subject to certain exceptions, (ii) prohibitions against the creation of liens on the assets of the Company, subject to certain exceptions, (iii) prohibitions against cash dividends, (iv) prohibitions against hedging positions unless consented to by Bank One, (v) prohibitions on asset sales, subject to certain exceptions, (vi) restrictions on mergers or consolidations, (vii) a requirement to maintain a ratio of current assets to current liabilities of 1.0 to 1.0, and (viii) a minimum interest coverage ratio of not less than 1.5 to 1.0 as of the end of each quarter calculated quarterly beginning with the quarter ending June 30, 1998 and increasing to 2.0 to 1.0 as of the end of each quarter beginning with the quarter ending March 31, 1999. The Credit Facility includes covenants prohibiting cash dividends, distributions, loans or advances to third parties, subject to certain exceptions. If Gothic Production is required to purchase or redeem any portion of the 11 1/8% Senior Secured Notes, or if any portion of the 11 1/8% Senior Secured Notes become due, the Borrowing Base is subject to reduction. Gothic Production is required to escrow interest payments due on the Notes at such times as its borrowings under the Credit Facility equal or exceed 75% of the Borrowing Base. Events of default include the non-payment of principal, interest or fees, a default under other outstanding indebtedness, a breach of the representations and warranties contained in the loan agreement, material judgements, bankruptcy or insolvency, a default under certain covenants not cured within a grace period, and a change in the management or control of the Company. Gothic Production was not in compliance with the minimum interest coverage of at least 1.5 to 1.0 for the quarter ended June 30, 1998. Gothic Production received a waiver of compliance with the covenant for the quarter ended June 30, 1998. The amount of borrowings available under the Credit Facility depend upon the determination of the Borrowing Base by Bank One. The Borrowing Base is subject to periodic redetermination, at the discretion of Bank One, based on a review of reserve and other information. A reduction in the Borrowing Base could require the repayment of outstanding indebtedness under the Credit Facility in excess of the redetermined Borrowing Base, and would limit available borrowings thereunder. 11 NOTE 4. FINANCING ACTIVITIES (CONTINUED) 11-1/8% SENIOR SECURED NOTES The 11-1/8% Senior Secured Notes ("Senior Secured Notes") issued by Gothic Production are fully and unconditionally guaranteed by the Company. The aggregate principal amount of Senior Secured Notes outstanding is $235.0 million issued under an indenture dated April 21, 1998 (the "Senior Note Indenture"). The Senior Secured Notes bear interest at 11-1/8% per annum payable semi- annually in cash in arrears on May 1 and November 1 of each year commencing November 1, 1998. The Senior Secured Notes mature on May 1, 2005. All of the obligations of Gothic Production under the Senior Secured Notes are collateralized by a second priority lien on substantially all of Gothic Production's natural gas and oil properties, subject to certain permitted liens. Gothic Production may, at its option, at any time on or after May 1, 2002, redeem all or any portion of the Senior Secured Notes at redemption prices decreasing from 105.563%, if redeemed in the 12-month period beginning May 1, 2002, to 100.00% if redeemed in the 12-month period beginning May 1, 2004 and thereafter plus, in each case, accrued and unpaid interest thereon. Notwithstanding the foregoing, at any time prior to May 1, 2002, Gothic Production may, at its option, redeem all or any portion of the Senior Secured Notes at the Make-Whole Price (as defined in the Senior Note Indenture) plus accrued or unpaid interest to the date of redemption. In addition, in the event Gothic Production consummates one or more Equity Offerings (as defined in the Senior Note Indenture) on or prior to May 1, 2001, Gothic Production, at its option, may redeem up to 33-1/3% of the aggregate principal amount of the Senior Secured Notes with all or a portion of the aggregate net proceeds received by Gothic Production from such Equity Offering or Equity Offerings at a redemption price of 111.125% of the aggregate principal amount of the Senior Secured Notes so redeemed, plus accrued and unpaid interest thereon to the redemption date; provided, however, that following such redemption, at least 66-2/3% of the original aggregate principal amount of the Senior Secured Notes remains outstanding. Following the occurrence of any Change of Control (as defined in the Senior Note Indenture), Gothic Production will offer to repurchase all outstanding Senior Secured Notes at a purchase price equal to 101% of the aggregate principal amount of the Senior Secured Notes, plus accrued and unpaid interest to the date of repurchase. The Senior Note Indenture under which the Senior Secured Notes were issued contains certain covenants limiting Gothic Production with respect to or imposing restrictions on the incurrence of additional indebtedness, the payment of dividends, distributions and other restricted payments, the sale of assets, creating, assuming or permitting to exist any liens (with certain exceptions) on its assets, mergers and consolidations (subject to meeting certain conditions), sale leaseback transactions, and transactions with affiliates, among other covenants. Events of default under the Senior Note Indenture include the failure to pay any payment of principal or premium when due, failure to pay for 30 days any payment of interest when due, failure to make any optional redemption payment when due, failure to perform any covenants relating to mergers or consolidations, failure to perform any other covenant or agreement not remedied within 30 days of notice from the Trustee under the Senior Note Indenture or the holders of 25% in principal amount of the Senior Secured Notes then outstanding, defaults under other indebtedness of Gothic Production or the Company causing the acceleration of the due date of such indebtedness having an outstanding principal amount of $10.0 million or more, the failure of Gothic Production to be a wholly owned subsidiary of the Company, and certain other bankruptcy and other court proceedings, among other matters. 12 NOTE 4. FINANCING ACTIVITIES (CONTINUED) 14 1/8% SENIOR SECURED DISCOUNT NOTES The 14 1/8% Senior Secured Discount Notes (the "Discount Notes") were issued by the Company under an indenture (the "Discount Note Indenture") dated April 21, 1998 in such aggregate principal amount and at such rate of interest as generated gross proceeds of $60.2 million. The Company also issued seven-year warrants to purchase, at an exercise price of $2.40 per share, 825,000 shares of the Company's Common Stock with the Discount Notes. The estimated fair value of such warrants was approximately $554,000 on the date of issuance. The Discount Notes were issued at a substantial discount from their principal amount and accrete at a rate per annum of 14 1/8%, compounded semi-annually, to an aggregate principal amount of $104.0 million at May 1, 2002. Thereafter, the Discount Notes accrue interest at the rate of 14 1/8% per annum, payable in cash semi-annually in arrears on May 1 and November 1 of each year, commencing November 1, 2002. The Discount Notes mature on May 1, 2006. The Discount Notes are secured by a first priority lien against the outstanding shares of capital stock of Gothic Production. The Company may, at its option, at any time on or after May 1, 2003, redeem all or any portion of the Discount Notes at redemption prices decreasing from 107.063% if redeemed in the 12-month period beginning May 1, 2003 to 100.00% if redeemed in the 12-month period beginning May 1, 2005 and thereafter plus, in each case, accrued and unpaid interest thereon. Notwithstanding the foregoing, at any time prior to May 1, 2003, the Company may, at its option, redeem all or any portion of the Discount Notes at the Make-Whole Price (as defined in the Discount Note Indenture) plus accrued or unpaid interest to the date of redemption. In addition, in the event the Company consummates one or more Equity Offerings (as defined in the Discount Note Indenture) on or prior to May 1, 2001, the Company, at its option, may redeem up to 33-1/3% of the Accreted Value (as defined in the Discount Note Indenture) of the Discount Notes with all or a portion of the aggregate net proceeds received by the Company from such Equity Offering or Equity Offerings at a redemption price of 114.125% of the Accreted Value of the Discount Notes so redeemed, plus accrued and unpaid interest thereon to the redemption date; provided, however, that following such redemption, at least 66-2/3% of the Accreted Value of the Discount Notes remains outstanding. Following the occurrence of any Change of Control (as defined in the Discount Note Indenture), the Company will offer to repurchase all outstanding Discount Notes at a purchase price equal to, prior to May 1, 2002, 101% of the Accreted Value of the Discount Notes on the date of repurchase, plus accrued and unpaid interest to the date of repurchase and thereafter, 101% of the aggregate principal amount of the Discount Notes plus accrued and unpaid interest and Liquidated Damages, if any, to the date of repurchase. The Discount Note Indenture under which the Discount Notes were issued contains certain covenants limiting the Company with respect to or imposing restrictions on the incurrence of additional indebtedness, the payment of dividends, distributions and other restricted payments, the sale of assets, creating, assuming or permitting to exist any liens (with certain exceptions) on its assets, mergers and consolidations (subject to meeting certain conditions), sale leaseback transactions, and transactions with affiliates, among other covenants. Events of default under the Discount Note Indenture include the failure to pay any payment of principal or premium when due, failure to pay for 30 days any payment of interest when due, failure to make any optional redemption payment when due, failure to perform any covenants relating to mergers or consolidations, failure to perform any other covenant or agreement not remedied within 30 days of notice from the Trustee under the Discount Note Indenture or the holders of 25% in principal amount of the Discount Notes then outstanding, defaults under other indebtedness of the Company causing the acceleration of the due date of indebtedness having an outstanding principal amount of $10.0 13 NOTE 4. FINANCING ACTIVITIES (CONTINUED) million or more, the failure of Gothic Production to be a wholly owned subsidiary of the Company, and certain other bankruptcy and other court proceedings, among other matters. 12 1/4% SENIOR NOTES DUE 2004 On September 9, 1997, the Company issued $100.0 million principal amount of 12 1/4% Senior Notes Due 2004. On January 23, 1998, the Company obtained consents to the amendment of the Company's outstanding 12 1/4% Senior Notes. Of the consideration given for the consents, $15.0 million was paid by the issuance of 15,000 shares of Series A Preferred Stock (see Note 3) and $5.8 million was paid in cash. These consent fees totaling $20.8 million together with unamortized discount and debt issue costs of $5.3 million and a $1.0 million early redemption premium related to the 12 1/4 % Senior Notes have all been written off as an extraordinary loss during the quarter ended March 31, 1998, as the terms of the consent constitute a substantial modification of the terms of the 12 1/4% Senior Notes. In connection with obtaining the consents, the Company agreed to raise a total of at least $45.0 million of equity by February 28, 1998 and at least $100.0 million from the sale of senior subordinated notes by March 31, 1998. In the event the Company failed to comply with either of these agreements, until such conditions were met, the interest rate on the 12 1/4% Senior Notes increased by 1% until the additional equity was raised and also by 1% until the senior subordinated notes were sold, provided, if the senior subordinated notes were not sold by June 30, 1998, the interest rate on the 12 1/4% Senior Notes increased by 2% until such senior subordinated notes were sold. Such additional equity was not sold by February 28, 1998. Pursuant to such consents, the holders of the 12 1/4% Senior Notes agreed that the Company had the right to redeem such notes through March 31, 1998 at 100% of the principal amount thereof and at 101% of the principal amount thereof through April 30, 1998 when such redemption right expired. On April 27, 1998, as part of the Company's Recapitalization, the Senior Notes and all accrued interest were paid in full. (See Note 3) NOTE 5. STOCKHOLDERS' EQUITY PREFERRED STOCK OFFERINGS Series B Preferred Stock and Warrants. On April 27, 1998, as part of the Recapitalization, the Company issued 50,000 shares of Series B Preferred Stock with an aggregate liquidation value of $50.0 million, and ten-year warrants to purchase, at an exercise price of $0.01 per share, 2,439,246 shares of the Company's Common Stock. The estimated fair value of such warrants was $4.9 million on the date of issuance. The Series B Preferred Stock, with respect to dividend rights and rights on liquidation, winding-up and dissolution, ranks senior to all classes of Common Stock of the Company and senior to all other classes or series of any class of preferred stock. Holders of the Series B Preferred Stock are entitled to receive dividends payable at a rate per annum of 12% of the aggregate Liquidation Preference of the Series B Preferred Stock payable in additional shares of Series B Preferred Stock; provided that after April 1, 2000, at the Company's option, it may pay the dividends in cash. Dividends are cumulative and will accrue from the date of issuance and are payable quarterly in arrears. At any time prior to April 30, 2000, the Series B Preferred Stock may be redeemed at the option of the Company in whole or in part, at 105% of the Liquidation Preference payable in cash out of the net proceeds from a public or private offering of any equity security, plus accrued and unpaid dividends (whether or not declared), which shall also be paid in cash. At any time on or after April 30, 2000, the Series B Preferred Stock may be redeemed at the option of the Company in whole or in part, in cash at a redemption price equal to the Liquidation Preference. 14 NOTE 5. STOCKHOLDERS' EQUITY (CONTINUED) The Company is required to redeem the Series B Preferred Stock on June 30, 2008 at a redemption price equal to the Liquidation Preference payable in cash or, at the option of the Company, in shares of Common Stock valued at the fair market value at the date of such redemption. Except as required by Oklahoma law, the holders of Series B Preferred Stock are not entitled to vote on any matters submitted to a vote of the stockholders of the Company. The Series B Preferred Stock is convertible at the option of the holders on or after April 30, 2000 into the number of fully paid and non-assessable shares of Common Stock determined by dividing the Liquidation Preference by the higher of (i) $2.04167 or (ii) the fair market value on the date the Series B Preferred Stock is converted. Notwithstanding the foregoing, no holder or group shall be able to convert any shares of Series B Preferred Stock to the extent that the conversion of such shares would cause such holder or group to own more than 19.9% of the outstanding Common Stock of the Company. Series A Preferred Stock and Warrants. On January 23, 1998, the Company issued an aggregate of 37,000 shares of Series A Preferred Stock, inclusive of the shares issued as part of the consent fee described above, with each share having a liquidation preference of $1,000. The shares of Series A Preferred Stock were redeemable at any time upon payment in cash of 101% of the liquidation preference, inclusive of accrued but unpaid dividends, and the shares were mandatorily redeemable on December 31, 2004. The shares of Series A Preferred Stock entitled the holders to receive cumulative dividends payable in additional shares of Series A Preferred Stock at a rate per annum initially of 14% of the liquidation preference of the Series A Preferred Stock increasing on April 1, 1998 and each 90-day period thereafter that the Series A Preferred Stock remained outstanding by 1%, but not to exceed a maximum dividend per annum of 20%, excluding any other adjustments to the dividend rate. The issuance of the shares provided a portion of the cash paid as consideration in the Amoco Acquisition and a fee in connection with an amendment obtained from the holders of certain terms of the Company's 12 1/4% Senior Notes. Concurrently with the sale of the Series A Preferred Stock, the Company issued five-year Warrants to purchase an aggregate of 1,175,778 shares of Common Stock exercisable at the lesser of $2.75 per share or the average of the daily closing bid prices commencing five days and ending one day before the date of exercise, subject to reduction to $0.01 per share under certain circumstances. The estimated fair value of such Warrants was approximately $941,000 on the date of issuance. In March 1998, the Company obtained consents from the holders of approximately 95% of the Series A Preferred Stock and the related warrants to extend through April 30, 1998 the date on which (i) the warrant exercise price on existing warrants will reduce to $0.01 and (ii) such holders would receive additional warrants. On April 27, 1998, as part of the Company's Recapitalization Plan, all 37,000 shares of the Series A Preferred Stock were redeemed and all accrued dividends paid. (See Note 3) 15 NOTE 6. SUMMARIZED FINANCIAL INFORMATION Gothic Production Corporation was organized in March 1998 as a wholly owned subsidiary of the Company. On April 27, 1998, the Company transferred to Gothic Production its ownership of all its natural gas and oil properties. Following is the summarized financial information related to Gothic Production as of June 30, 1998 and for the six month and three month periods ended June 30, 1998. (in thousands)
As of June 30, 1998 ------------------------------------------------------------------------------------------- Gothic Energy Gothic Energy Gothic Production Corporation Corporation Corporation/(1)/ Consolidated --------------------------- ----------------------------- ------------------------------ Current assets $ - $ 14,167 $ 14,167 Non-current assets 2,191 300,207 302,398 Current liabilities 1,052 10,464 11,516 Non-current liabilities 61,735 241,213 302,948
For the six months ended June 30, 1998 -------------------------------------------------------------------------------------------- Gothic Energy Gothic Energy Gothic Production Corporation Corporation Corporation/(1)/ Consolidated --------------------------- ----------------------------- ------------------------------ Total revenues $ 21,033 $ 8,040 $ 29,073 Operating costs and expenses 16,172 6,848 23,020 Interest expense and amortization of debt issuance cost 12,527 4,567 17,094 Loss before extraordinary item (7,834) (3,333) (11,167) Net loss (39,268) (3,358) (42,626)
For the three months ended June 30, 1998 -------------------------------------------------------------------------------------------- Gothic Energy Gothic Energy Gothic Production Corporation Corporation Corporation/(1)/ Consolidated --------------------------- ----------------------------- ------------------------------ Total revenues $ 3,931 $ 8,040 $ 11,971 Operating costs and expenses 3,151 6,848 9,999 Interest expense and amortization of debt issuance cost 4,494 4,567 9,061 Loss before extraordinary item (3,783) (3,333) (7,116) Net loss (8,156) (3,358) (11,514)
/(1)/ Since the Recapitalization on April 27, 1998 16 INDEPENDENT ACCOUNTANT'S REPORT To the Board of Directors and Stockholders: We have reviewed the accompanying consolidated balance sheet of Gothic Energy Corporation and Subsidiary as of June 30, 1998 and the related consolidated statements of operations for the three and six month periods ended June 30, 1998, and the consolidated statement of cash flows for the six-month period ended June 30, 1998. These financial statements are the responsibility of the Company's management. We conducted our review in accordance with standards established by the American Institute of Certified Public Accountants. A review of interim financial information consists principally of applying analytical procedures to financial data and making inquiries of persons responsible for financial and accounting matters. It is substantially less in scope than an audit conducted in accordance with generally accepted auditing standards, the objective of which is the expression of an opinion regarding the financial statements taken as a whole. Accordingly, we do not express such an opinion. Based on our review, we are not aware of any material modifications that should be made to the accompanying financial statements for them to be in conformity with generally accepted accounting principles. We have previously audited, in accordance with generally accepted auditing standards, the consolidated balance sheet as of December 31, 1997, and the related consolidated statements of operations, stockholders' equity and cash flows for the year then ended (not presented herein); and in our report dated March 13, 1998, we expressed an unqualified opinion on those consolidated financial statements. In our opinion, the information set forth in the accompanying consolidated balance sheet as of December 31, 1997 is fairly stated in all material respects in relation to the consolidated balance sheet form which it has been derived. PricewaterhouseCoopers LLP Tulsa, Oklahoma August 10, 1998 17 ITEM 2 - MANAGEMENT'S DISCUSSION AND ANALYSIS OR PLAN OF OPERATION - ------------------------------------------------------------------ The following discussion relates to the operating history of the Company. Gothic Production was organized in March 1998 for the purpose of facilitating the Recapitalization. As part of the Recapitalization, Gothic Production succeeded to the natural gas and oil operations of the Company. Accordingly, following the Recapitalization, the Company, as the parent corporation, operates solely as a holding company with the outstanding capital stock of Gothic Production as its only material asset. The discussion herein of the Company includes the operating results and assets of the natural gas and oil properties that were transferred to Gothic Production on April 27, 1998. GENERAL The Company's results of operations have been significantly affected by its acquisition of producing natural gas and oil properties over the last two years. During January 1998, the Company completed the Amoco Acquisition for a purchase price of approximately $239.9 million. This acquisition included approximately 239.9 Bcfe. During 1997, the Company completed seven acquisitions (the "1997 Acquisitions") of producing natural gas and oil properties for an aggregate purchase price of approximately $52.8 million. These acquisitions included an aggregate of approximately 102.2 Bcfe. The 1997 Acquisitions and the Amoco Acquisition were financed primarily through borrowings under the Company's Credit Facilities throughout 1997 and 1998 and the sale of the Company's 12 1/4% Senior Notes in September 1997. In April 1998, the Company completed a series of transactions that recapitalized the Company. See Note 3 of the Notes to Unaudited Consolidated Financial Statements herein. Part of the Company's overall strategy is to divest itself of nonstrategic properties. During April and May of 1998, the Company sold to Chesapeake for $20.0 million and $6.0 million, respectively, certain interests in its natural gas and oil properties, with reserves of approximately 33.0 Bcfe. The following table reflects certain summary operating data for the periods presented: RESULTS OF OPERATIONS
Three Months Ended June 30, Six Months Ended June 30, ------------------------------------ ------------------------------------ 1997 1998 1997 1998 ----------------- ----------------- ----------------- ----------------- (in thousands, unless otherwise indicated) Net Production: Oil (Mbbls) 39 52 76 138 Natural gas (Mmcf) 1,522 5,710 2,932 12,666 Natural gas equivalent (Mmcfe) 1,757 6,022 3,388 13,494 Oil and Natural Gas Sales: Oil $ 757 $ 725 $1,638 $ 2,024 Natural gas(1) 2,561 10,680 6,387 25,897 ------ ------- ------ ------- Total $3,318 $11,405 $8,025 $27,921 ====== ======= ====== ======= Average Sales Price: Oil (Bbl) $19.44 $ 13.94 $21.59 $ 14.67 Natural gas (Mcf)/(1)/ 1.68 1.87 2.18 2.04 Natural gas equivalent (Mcfe) 1.89 1.89 2.37 2.07 Expenses ($ per Mcfe): Lease operating/(2)//(3)/ $ 0.68 $ 0.38 $ 0.76 $ 0.47 General and administrative/(4)/ 0.28 0.14 0.31 0.11 Depreciation, depletion and amortization/(5)/ 0.82 1.05 0.79 1.02 - -------------------------------------------
(1) The natural gas sales amount and natural gas price per mcf for the three month period ended June 30, 1998 reflect a downward adjustment of approximately $400,000 to correct an over accrual which was made in the first quarter. (2) Includes lease operating costs and production taxes and is net of well operator overhead reimbursement billed to working interest owners which is recorded as well operations revenue. (3) The 1998 lease operating expense amount includes $1.1 million of non- recurring costs associated with the Amoco Acquisition transition. (4) Excludes a non-recurring severance payment to a former officer in 1998. (5) Represents depreciation, depletion and amortization of oil and natural gas properties only. 18 ITEM 2 - MANAGEMENT'S DISCUSSION AND ANALYSIS OR PLAN OF OPERATION (CONTINUED) - ------------------------------------------------------------------------------ SIX MONTHS ENDED JUNE 30, 1998 COMPARED WITH SIX MONTHS ENDED JUNE 30, 1997 Revenues were $29.1 million for the six months ended June 30, 1998, as compared to $10.8 million for the six months ended June 30, 1997. This represents a 169% increase in total revenue for the period. Natural gas and oil sales for the six months ended June 30, 1998 increased $19.9 million (249%) to $27.9 million, with $2.0 million from oil sales and $25.9 million from natural gas sales, as compared to natural gas and oil sales of $8.0 million for the six months ended June 30, 1997, with $1.6 million from oil sales and $6.4 million from natural gas sales. The increase in natural gas and oil sales was primarily the result of a 332% increase in natural gas production and a 82% increase in oil production in 1998 compared to 1997. The increase in volumes of oil and gas sold resulted primarily from the Amoco Acquisition and those 1997 Acquisitions which were completed in the later half of that year. Oil sales in 1998 were based on the sale of 138,000 barrels at an average price of $14.67 per barrel as compared to 76,000 barrels at an average price of $21.59 per barrel in 1997. Natural gas sales in 1998 were based on the sale of 12,666,000 Mcf at an average price of $2.04 per Mcf compared to 2,932,000 Mcf at an average price of $2.18 per Mcf in 1997. Also included in the Company's revenue total for the six months ended June30, 1997 is $2.2 million related to the sale of natural gas and related products from the Company's interest in the Sycamore System, an Oklahoma gathering system processing plant and storage facility acquired effective January 1, 1997. The Company's interest in the Sycamore System and gas processing and gathering systems acquired from Amoco were sold effective January 1, 1998 for $6.0 million. The Company incurred lease operating expenses for the six months ended June 30, 1998 of $7.5 million compared with lease operating expenses of $3.2 million for the six months ended June 30, 1997. Lease operating expenses include approximately $1.9 million and $516,000, respectively, in production taxes which the Company incurred from its share of production in 1998 and 1997. The increase in lease operating expenses is primarily due to the 298% increase in natural gas and oil production (on an Mcfe basis) resulting primarily from the Amoco Acquisition and those 1997 Acquisitions which were completed in the later half of that year. Lease operating expenses as a percentage of natural gas and oil sales were 27% in 1998 as compared to 40% in 1997. Depreciation, depletion and amortization expense was $13.8 million for the six months ended June 30, 1998 as compared to $2.7 million for the six months ended June 30, 1997. The increase resulted primarily from the increased production associated with the properties acquired in the Amoco Acquisition and those 1997 Acquisitions which were completed in the later half of that year. General and administrative costs were $1.5 million for the six months ended June 30, 1998, as compared to $1.0 million for the six months ended June 30, 1997. This increase was primarily the result of additional personnel and other costs related to the Amoco Acquisition and the administrative costs incurred in operating the wells acquired in the Amoco Acquisition. Although general and administrative six month costs increased approximately $471,000 during 1998, the six month costs per Mcfe decreased from $0.31 in 1997 to $0.11 in 1998. Interest and debt issuance costs were $17.1 million for the six months ended June 30, 1998 as compared to $2.9 million for 1997. The increase primarily relates to interest on the Company's 12 1/4% Senior Notes which were issued in September 1997, interest on the 11 1/8% Senior Secured Notes which were issued in April 1998 by Gothic Production, interest on the 14 1/8% Senior Secured Discount Notes which were issued in April 1998 by the Company, and amortization of the costs incurred to complete the 1998 Notes offerings and amendments to the Bank One Credit Facility. The Company incurred interest costs of $5.4 million with Bank One, $4.2 million related to the 12 1/4% Senior Notes, $4.6 million related to the 11 1/8% Senior Secured Notes, $1.6 million related to the 14 1/8% Senior Secured Discount Notes, $1.2 million as amortization of loan costs and $105,000 with other parties. 19 ITEM 2 - MANAGEMENT'S DISCUSSION AND ANALYSIS OR PLAN OF OPERATION (CONTINUED) - ------------------------------------------------------------------------------ The Company earned $179,000 in interest and other income during the six months ended June 30, 1998 compared to $20,000 in 1997. The Company also recorded a loss of $305,000 on the sale of investments during the 1998 period. The Company recorded an extraordinary loss on early extinguishment of debt in the amount of $31.5 million (reflecting the payment of $20.8 million in consent fees, the write-off of $6.3 million in unamortized discount and debt issuance costs and the write-off of $4.4 million in unamortized loan costs with Bank One) in the six months ending June 30, 1998. The loss was recognized as a result of amendments to the Company's 12 1/4% Senior Notes which constituted a substantial modification to the terms of the Company's 12 1/4% Senior Notes and the retirement of the Company's original credit facility with Bank One. The Company also incurred $1.4 million in preferred dividends on its Series A Preferred Stock and $1.1 million in preferred dividends on its Series B Preferred Stock during the six months ended June 30, 1998, compared to $196,000 in preferred dividends on its 7 1/2% Cumulative Convertible Preferred Stock in 1997. All of the shares of the 7 1/2% Cumulative Convertible Preferred Stock were converted into Common Stock prior to December 31, 1997. The 1998 preferred dividends are composed of the 14% annual dividend rate for approximately three months in connection with the Series A Preferred Stock and the 12% annual dividend rate for approximately two months in connection with the Series B Preferred Stock. The Company also recognized $4.2 million as preferred dividend amortization of preferred discount during the six months ended June 30, 1998, of which $3.9 million related to the write-off of discount costs when the Series A Preferred Stock was redeemed in April 1998. The remaining $300,000 relates to two months of amortization of the discount resulting from the sale of the Series B Preferred Stock and the issuance of related warrants (exercise price of $.01). THREE MONTHS ENDED JUNE 30, 1998 AS COMPARED TO THREE MONTHS ENDED JUNE 30, 1997. Revenues were $12.0 million for the three months ended June 30, 1998, as compared to $4.6 million for the three months ended June 30, 1997. This represents a 161% increase in total revenue for the period. Natural gas and oil sales for the three months ended June 30, 1998 increased $8.1 million (245%) to $11.4 million, with $725,000 from oil sales and $10.7 million from natural gas sales, as compared to natural gas and oil sales of $3.3 million for the three months ended June 30, 1997, with $757,000 from oil sales and $2.6 million from natural gas sales. The increase in natural gas and oil sales was primarily the result of a 275% increase in natural gas production in 1998 compared to 1997. The increase in volumes of oil and gas sold resulted primarily from the Amoco Acquisition and those 1997 Acquisitions which were completed in the later half of that year. Oil sales in 1998 were based on the sale of 52,000 barrels at an average price of $13.94 per barrel as compared to 39,000 barrels at an average price of $19.44 per barrel in 1997. Natural gas sales in 1998 were based on the sale of 5,710,000 Mcf at an average price of $1.87 per Mcf compared to 1,522,000 Mcf at an average price of $1.68 per Mcf in 1997. The 1998 gas sales amount and average gas price reflects a downward adjustment of approximately $400,000 to correct an over accrual which was made in the first quarter of 1998. Excluding this adjustment, the Company would have realized an average natural gas price of $1.93 per Mcf for natural gas actually sold during the three months ended June 30, 1998. The Company incurred lease operating expenses for the three months ended June 30, 1998 of $2.8 million compared with lease operating expenses of $1.5 million for the three months ended June 30, 1997. Lease operating expenses include approximately $827,000 and $216,000, respectively, in production taxes which the Company incurred from its share of production in 1998 and 1997. The increase in lease operating expenses is primarily due to the 20 ITEM 2 - MANAGEMENT'S DISCUSSION AND ANALYSIS OR PLAN OF OPERATION (CONTINUED) - ------------------------------------------------------------------------------ increase in natural gas and oil production resulting primarily from the Amoco Acquisition and those 1997 Acquisitions which were completed in the later half of that year. Depreciation, depletion and amortization expense was $6.3 million for the three months ended June 30, 1998 as compared to $1.4 million for the three months ended June 30, 1997. The increase resulted primarily from the increased production associated with the properties acquired in the Amoco Acquisition and those 1997 Acquisitions which were completed in the later half of that year. General and administrative costs were $857,000 for the three months ended June 30, 1998, as compared to $493,000 for the three months ended June 30, 1997. This increase was primarily the result of additional personnel and other costs related to the Amoco Acquisition and the administrative costs incurred in operating the wells acquired in the Amoco Acquisition. Interest and debt issuance costs were $9.1 million for the three months ended June 30, 1998 as compared to $1.7 million for 1997. The increase primarily relates to interest on the Company's 12 1/4% Senior Notes which were issued in September 1997, interest on the 11 1/8% Senior Secured Notes which were issued in April 1998 by Gothic Production, interest on the 14 1/8% Senior Secured Discount Notes which were issued in April 1998 by the Company, and amortization of the costs incurred to complete the 1998 notes offerings and amendments to the Bank One Credit Facility. The Company incurred interest costs of $1.6 million with Bank One, $1.0 million related to the 12 1/4% Senior Notes, $4.6 million related to the 11 1/8% Senior Secured Notes, $1.6 million related to the 14 1/8% Senior Secured Discount Notes, and $253,000 as amortization of loan costs. The profitability and revenues of the Company are dependent, to a significant extent, upon prevailing spot market prices for natural gas and oil. In the past, natural gas and oil prices and markets have been volatile. Prices are subject to wide fluctuations in response to changes in supply of and demand for natural gas and oil, market uncertainty and a variety of additional factors that are beyond the control of the Company. Such factors include supply and demand, political conditions, weather conditions, government regulations, the price and availability of alternative fuels and overall economic conditions. Natural gas and oil prices have fluctuated significantly over the past twelve months. Subsequent to June 30, 1998 the natural gas industry experienced a significant decline in natural gas prices. The Company's reserves were determined at June 30, 1998 using a natural gas price of approximately $2.25 per Mcf. At August 7, 1998, the natural gas price received by the Company fell to approximately $1.70 per Mcf. Had the August 7, 1998 prices been used in the evaluation, the decline in natural gas prices would have resulted in a provision to reduce the oil and natural gas properties of approximately $76 million. Based on rules promulgated by the SEC, the Company evaluates any impairment of its natural gas and oil properties, based on prevailing prices as of the end of each quarter, and accordingly, the actual amount of impairment if any, will not be determinable until the end of the third quarter. 21 ITEM 2 - MANAGEMENT'S DISCUSSION AND ANALYSIS OR PLAN OF OPERATION (CONTINUED) - ------------------------------------------------------------------------------ LIQUIDITY AND CAPITAL RESOURCES GENERAL Since 1994, the Company's principal sources of cash have been bank borrowings, the sale of equity and debt securities and cash flow from operations. The following summary table reflects comparative cash flows for the Company for the six months ended June 30, 1997 and 1998:
SIX MONTHS ENDED JUNE 30, -------------------------------------- 1997 1998 -------------------------------------- (IN THOUSANDS) -------------------------------------- Net cash provided by operating activities $ 2,937 $ 5,173 Net cash used in investing activities (29,065) (179,545) Net cash provided by financing activities 26,225 165,660
Net cash provided by operations was $5.2 million for the six months ended June 30, 1998 as compared to net cash provided by operations of $2.9 million for the same period in 1997. The operating cash flows for the six months ended June 30, 1998 relate primarily to the increased income from operations resulting from the Amoco Acquisition and the 1997 Acquisitions, partially offset by related interest costs and changes in working capital. The Company used $179.5 million of net cash in investing activities for the six months ended June 30, 1998 compared to net cash used of $29.1 million for the same period in 1997. This increase was primarily due to cash paid of $217.5 million to complete the Amoco Acquisition and well enhancement costs of approximately $6.2 million. These uses were partially offset by proceeds of $20.0 million received from the sale of half the Company's interest in the Arkoma Basin to Chesapeake, $10.5 million received from Chesapeake for the right to participate in up to 50% of substantially all of the Company's undeveloped acreage, $6.0 million received from the sale of the Company's gas gathering and processing system and $6.0 million received from the sale of interests in certain natural gas and oil properties during 1998. 22 ITEM 2 - MANAGEMENT'S DISCUSSION AND ANALYSIS OR PLAN OF OPERATION (CONTINUED) - ------------------------------------------------------------------------------ Net cash provided by financing activities for the six months ended June 30, 1998 was $165.7 million compared to $26.2 million provided in 1997. The June 30, 1998 amount includes proceeds from short and long-term debt related to the Amoco Acquisition and subsequent Recapitalization of $429.3 million and proceeds from the issuance of the Company's Series A and Series B Preferred Stock of $73.5 million, partially offset by the redemption of the Series A Preferred Stock and accrued dividends for $40.8 million, payment of $38.3 million in 12 1/4% Senior Notes consent fees and other bank and offering fees and payments of short and long-term debt of $257.9 million. OUTSTANDING INDEBTEDNESS AND OTHER SECURITIES Credit Facility. On April 27, 1998, in connection with the Recapitalization, Gothic Production, with the Company as guarantor, entered into a Credit Facility. The Credit Facility consists of a revolving line of credit, with an initial Borrowing Base of $25.0 million. Borrowings initially are limited to being available for the acquisition and development of natural gas and oil properties, letters of credit and general corporate purposes. The Borrowing Base will be redetermined at lease semi-annually and the initial redetermination is scheduled for October 1, 1998. The principal is due at maturity, April 30, 2001. Interest is payable monthly calculated at the Bank One Base Rate, as determined from time to time by Bank One. Gothic Production may elect to calculate interest under a London Interbank Offered Rate ("LIBOR") plus 1.5% (or up to 2.0% in the event the loan balance is greater than 75% of the Borrowing Base). Gothic Production is required to pay a commitment fee on the unused portion of the Borrowing Base equal to 1/2 of 1% per annum. Under the Credit Facility, Bank One holds first priority liens on substantially all of the natural gas and oil properties of Gothic Production, whether currently owned or hereafter acquired. Gothic Production currently has no amount outstanding under the Credit Facility. The Credit Facility requires, among other things, semi-annual engineering reports covering oil and natural gas reserves on the basis of which semi-annual and other redeterminations of the borrowing base and monthly commitment reduction are made. The Credit Facility also includes various affirmative and negative covenants, including, among others, (i) prohibitions against additional indebtedness unless approved by the lenders, subject to certain exceptions, (ii) prohibitions against the creation of liens on the assets of the Company, subject to certain exceptions, (iii) prohibitions against cash dividends, (iv) prohibitions against hedging positions unless consented to by Bank One, (v) prohibitions on asset sales, subject to certain exceptions, (vi) restrictions on mergers or consolidations, (vii) a requirement to maintain a ratio of current assets to current liabilities of 1.0 to 1.0, and (viii) a minimum interest coverage ratio of not less than 1.5 to 1.0 as of the end of each quarter calculated quarterly beginning with the quarter ending June 30, 1998 and increasing to 2.0 to 1.0 as of the end of each quarter beginning with the quarter ending March 31, 1999. The Credit Facility includes covenants prohibiting cash dividends, distributions, loans or advances to third parties, subject to certain exceptions. If Gothic Production is required to purchase or redeem any portion of the 11 1/8% Senior Secured Notes, or if any portion of the 11 1/8% Senior Secured Notes become due, the Borrowing Base is subject to reduction. Gothic Production is required to escrow interest payments due on the Notes at such times as its borrowings under the Credit Facility equal or exceed 75% of the Borrowing Base. Events of default include the non-payment of principal, interest or fees, a default under other outstanding indebtedness, a breach of the representations and warranties contained in the loan agreement, material judgements, bankruptcy or insolvency, a default under certain covenants not cured within a grace period, and a change in the management or control of the Company. Gothic Production was not in compliance with the minimum interest coverage of at least 1.5 to 1.0 for the quarter ended June 30, 1998. Gothic Production received a waiver of compliance with the covenant for the quarter ended June 30, 1998. 23 ITEM 2 - MANAGEMENT'S DISCUSSION AND ANALYSIS OR PLAN OF OPERATION (CONTINUED) - ------------------------------------------------------------------------------ The amount of borrowings available under the Credit Facility depend upon the determination of the Borrowing Base by Bank One. The Borrowing Base is subject to periodic redetermination, at the discretion of Bank One, based on a review of reserve and other information. A reduction in the Borrowing Base could require the repayment of outstanding indebtedness under the Credit Facility in excess of the redetermined Borrowing Base, and would limit available borrowings thereunder. 11-1/8% SENIOR SECURED NOTES The 11-1/8% Senior Secured Notes ("Senior Secured Notes") issued by Gothic Production are fully and unconditionally guaranteed by the Company. The aggregate principal amount of Senior Secured Notes outstanding is $235.0 million issued under an indenture dated April 21, 1998 (the "Senior Note Indenture"). The Senior Secured Notes bear interest at 11-1/8% per annum payable semi-annually in cash in arrears on May 1 and November 1 of each year commencing November 1, 1998. . The Senior Secured Notes mature on May 1, 2005. All of the obligations of Gothic Production under the Senior Secured Notes are collateralized by a second priority lien on substantially all of Gothic Production's natural gas and oil properties, subject to certain permitted liens. Gothic Production may, at its option, at any time on or after May 1, 2002, redeem all or any portion of the Senior Secured Notes at redemption prices decreasing from 105.563%, if redeemed in the 12-month period beginning May 1, 2002, to 100.00% if redeemed in the 12-month period beginning May 1, 2004 and thereafter plus, in each case, accrued and unpaid interest thereon. Notwithstanding the foregoing, at any time prior to May 1, 2002, Gothic Production may, at its option, redeem all or any portion of the Senior Secured Notes at the Make-Whole Price (as defined in the Senior Note Indenture) plus accrued or unpaid interest to the date of redemption. In addition, in the event Gothic Production consummates one or more Equity Offerings (as defined in the Senior Note Indenture) on or prior to May 1, 2001, Gothic Production, at its option, may redeem up to 33-1/3% of the aggregate principal amount of the Senior Secured Notes with all or a portion of the aggregate net proceeds received by Gothic Production from such Equity Offering or Equity Offerings at a redemption price of 111.125% of the aggregate principal amount of the Senior Secured Notes so redeemed, plus accrued and unpaid interest thereon to the redemption date; provided, however, that following such redemption, at least 66-2/3% of the original aggregate principal amount of the Senior Secured Notes remains outstanding. Following the occurrence of any Change of Control (as defined in the Senior Note Indenture), Gothic Production will offer to repurchase all outstanding Senior Secured Notes at a purchase price equal to 101% of the aggregate principal amount of the Senior Secured Notes, plus accrued and unpaid interest to the date of repurchase. The Senior Note Indenture under which the Senior Secured Notes were issued contains certain covenants limiting Gothic Production with respect to or imposing restrictions on the incurrence of additional indebtedness, the payment of dividends, distributions and other restricted payments, the sale of assets, creating, assuming or permitting to exist any liens (with certain exceptions) on its assets, mergers and consolidations (subject to meeting certain conditions), sale leaseback transactions, and transactions with affiliates, among other covenants. Events of default under the Senior Note Indenture include the failure to pay any payment of principal or premium when due, failure to pay for 30 days any payment of interest when due, failure to make any optional redemption payment when due, failure to perform any covenants relating to mergers or consolidations, failure to perform any other covenant or agreement not remedied within 30 days of notice from the Trustee under the Senior Note Indenture or the holders of 25% in principal amount of the Senior Secured Notes then outstanding, defaults under other indebtedness of Gothic Production or the Company 24 ITEM 2 - MANAGEMENT'S DISCUSSION AND ANALYSIS OR PLAN OF OPERATION (CONTINUED) - ------------------------------------------------------------------------------ causing the acceleration of the due date of such indebtedness having an outstanding principal amount of $10.0 million or more, the failure of Gothic Production to be a wholly owned subsidiary of the Company, and certain other bankruptcy and other court proceedings, among other matters. 14-1/8% SENIOR SECURED DISCOUNT NOTES. The 14-1/8% Senior Secured Discount Notes (the "Discount Notes") were issued by the Company under an indenture (the "Discount Note Indenture") dated April 21, 1998 in such aggregate principal amount and at such rate of interest as generated gross proceeds of $60.2 million. The Company also issued seven-year warrants to purchase, at an exercise price of $2.40 per share, 825,000 shares of the Company's Common Stock with the Discount Notes. The estimated fair value of such warrants was approximately $554,000 on the date of issuance. The Discount Notes were issued at a substantial discount from their principal amount and accrete at a rate per annum of 14-1/8%, compounded semi-annually, to an aggregate principal amount of $104.0 million at May 1, 2002. Thereafter, the Discount Notes accrue interest at the rate of 14-1/8% per annum, payable in cash semi-annually in arrears on May 1 and November 1 of each year, commencing November 1, 2002. The Discount Notes mature on May 1, 2006. The Discount Notes are secured by a first priority lien against the outstanding shares of capital stock of Gothic Production. The Company may, at its option, at any time on or after May 1, 2003, redeem all or any portion of the Discount Notes at redemption prices decreasing from 107.063% if redeemed in the 12-month period beginning May 1, 2003 to 100.00% if redeemed in the 12-month period beginning May 1, 2005 and thereafter plus, in each case, accrued and unpaid interest thereon. Notwithstanding the foregoing, at any time prior to May 1, 2003, the Company may, at its option, redeem all or any portion of the Discount Notes at the Make-Whole Price (as defined in the Discount Note Indenture) plus accrued or unpaid interest to the date of redemption. In addition, in the event the Company consummates one or more Equity Offerings (as defined in the Discount Note Indenture) on or prior to May 1, 2001, the Company, at its option, may redeem up to 33-1/3% of the Accreted Value (as defined in the Discount Note Indenture) of the Discount Notes with all or a portion of the aggregate net proceeds received by the Company from such Equity Offering or Equity Offerings at a redemption price of 114.125% of the Accreted Value of the Discount Notes so redeemed, plus accrued and unpaid interest thereon to the redemption date; provided, however, that following such redemption, at least 66-2/3% of the Accreted Value of the Discount Notes remains outstanding. Following the occurrence of any Change of Control (as defined in the Discount Note Indenture), the Company will offer to repurchase all outstanding Discount Notes at a purchase price equal to, prior to May 1, 2002, 101% of the Accreted Value of the Discount Notes on the date of repurchase, plus accrued and unpaid interest to the date of repurchase and thereafter, 101% of the aggregate principal amount of the Discount Notes plus accrued and unpaid interest and Liquidated Damages, if any, to the date of repurchase. The Discount Note Indenture under which the Discount Notes were issued contains certain covenants limiting the Company with respect to or imposing restrictions on the incurrence of additional indebtedness, the payment of dividends, distributions and other restricted payments, the sale of assets, creating, assuming or permitting to exist any liens (with certain exceptions) on its assets, mergers and consolidations (subject to meeting certain conditions), sale leaseback transactions, and transactions with affiliates, among other covenants. 25 ITEM 2 - MANAGEMENT'S DISCUSSION AND ANALYSIS OR PLAN OF OPERATION (CONTINUED) - ------------------------------------------------------------------------------ Events of default under the Discount Note Indenture include the failure to pay any payment of principal or premium when due, failure to pay for 30 days any payment of interest when due, failure to make any optional redemption payment when due, failure to perform any covenants relating to mergers or consolidations, failure to perform any other covenant or agreement not remedied within 30 days of notice from the Trustee under the Discount Note Indenture or the holders of 25% in principal amount of the Discount Notes then outstanding, defaults under other indebtedness of the Company causing the acceleration of the due date of indebtedness having an outstanding principal amount of $10.0 million or more, the failure of Gothic Production to be a wholly owned subsidiary of the Company, and certain other bankruptcy and other court proceedings, among other matters. 12 1/4% SENIOR NOTES DUE 2004. On January 23, 1998, the Company obtained consents to the amendment of the Company's outstanding 12 1/4% Senior Notes. Of the consideration given for the consents, $15.0 million was paid by the issuance of 15,000 shares of Series A Preferred Stock (see Note 4) and $5.8 million was paid in cash. These consent fees totaling $20.8 million together with unamortized discount and debt issue costs of $5.3 million and a $1.0 million early redemption premium related to the 12 1/4 % Senior Notes have all been written off as an extraordinary loss during the quarter ended March 31, 1998, as the terms of the consent constitute a substantial modification of the terms of the 12 1/4% Senior Notes. In connection with obtaining the consents, the Company agreed to raise a total of at least $45.0 million of equity by February 28, 1998 and at least $100.0 million from the sale of senior subordinated notes by March 31, 1998. In the event the Company failed to comply with either of these agreements, until such conditions were met, the interest rate on the 12 1/4% Senior Notes increased by 1% until the additional equity was raised and also by 1% until the senior subordinated notes were sold, provided, if the senior subordinated notes were not sold by June 30, 1998, the interest rate on the 12 1/4% Senior Notes increased by 2% until such senior subordinated notes were sold. Such additional equity was not sold by February 28, 1998. Pursuant to such consents, the holders of the 12 1/4% Senior Notes agreed that the Company had the right to redeem such notes through March 31, 1998 at 100% of the principal amount thereof and at 101% of the principal amount thereof through April 30, 1998 when such redemption right expired. On April 27, 1998, as part of the Company's Recapitalization, the Senior Notes and all accrued interest were paid in full. SERIES B PREFERRED STOCK. On April 27, 1998, as part of the Recapitalization, the Company issued 50,000 shares of its Series B Preferred Stock with an aggregate liquidation value of $50.0 million, and ten-year warrants to purchase, at an exercise price of $0.01 per share, 2,439,246 shares of the Company's Common Stock. The estimated fair value of such warrants was $4.9 million on the date of issuance. The Series B Preferred Stock, with respect to dividend rights and rights on liquidation, winding-up and dissolution, ranks senior to all classes of Common Stock of the Company and senior to all other classes or series of any class of preferred stock. Holders of the Series B Preferred Stock are entitled to receive dividends payable at a rate per annum of 12% of the aggregate Liquidation Preference of the Series B Preferred Stock payable in additional shares of Series B Preferred Stock; provided that after April 1, 2000, at the Company's option, it may pay the dividends in cash. Dividends are cumulative and will accrue from the date of issuance and are payable quarterly in arrears. At any time prior to April 30, 2000, the Series B Preferred Stock may be redeemed at the option of the Company in whole or in part, at 105% of the Liquidation Preference payable in cash out of the net proceeds from a public or private offering of any equity security, plus accrued and unpaid dividends (whether or not declared), which shall also be paid in cash. At any time on or after April 30, 2000, the Series B Preferred Stock may be redeemed at the option of the Company in whole or in part, in cash at a redemption price equal to the Liquidation Preference. 26 ITEM 2 - MANAGEMENT'S DISCUSSION AND ANALYSIS OR PLAN OF OPERATION (CONTINUED) - ------------------------------------------------------------------------------ The Company is required to redeem the Series B Preferred Stock on June 30, 2008 at a redemption price equal to the Liquidation Preference payable in cash or, at the option of the Company, in shares of Common Stock valued at the fair market value at the date of such redemption. Except as required by Oklahoma law, the holders of Series B Preferred Stock are not entitled to vote on any matters submitted to a vote of the stockholders of the Company. The Series B Preferred Stock is convertible at the option of the holders on or after April 30, 2000 into the number of fully paid and non-assessable shares of Common Stock determined by dividing the Liquidation Preference by the higher of (i) $2.04167 or (ii) the fair market value on the date the Series B Preferred Stock is converted. Notwithstanding the foregoing, no holder or group shall be able to convert any shares of Series B Preferred Stock to the extent that the conversion of such shares would cause such holder or group to own more than 19.9% of the outstanding Common Stock of the Company. SERIES A PREFERRED STOCK AND WARRANTS. On January 23, 1998, the Company issued an aggregate of 37,000 shares of Series A Preferred Stock, inclusive of the shares issued as part of the consent fee described above, with each share having a liquidation preference of $1,000. The shares of Series A Preferred Stock were redeemable at any time upon payment in cash of 101% of the liquidation preference, inclusive of accrued but unpaid dividends, and the shares were mandatorily redeemable on December 31, 2004. The shares of Series A Preferred Stock entitled the holders to receive cumulative dividends payable in additional shares of Series A Preferred Stock at a rate per annum initially of 14% of the liquidation preference of the Series A Preferred Stock increasing on April 1, 1998 and each 90-day period thereafter that the Series A Preferred Stock remained outstanding by 1%, but not to exceed a maximum dividend per annum of 20%, excluding any other adjustments to the dividend rate. The issuance of the shares provided a portion of the cash paid as consideration in the Amoco Acquisition and a fee in connection with an amendment obtained from the holders of certain terms of the Company's 12 1/4% Senior Notes. Concurrently with the sale of the Series A Preferred Stock, the Company issued five-year Warrants to purchase an aggregate of 1,175,778 shares of Common Stock exercisable at the lesser of $2.75 per share or the average of the daily closing bid prices commencing five days and ending one day before the date of exercise, subject to reduction to $0.01 per share under certain circumstances. The estimated fair value of such Warrants was $941,000 on the date of issuance. In March 1998, the Company obtained consents from the holders of approximately 95% of the Series A Preferred Stock and the related warrants to extend through April 30, 1998 the date on which (i) the warrant exercise price on existing warrants will reduce to $0.01 and (ii) such holders would receive additional warrants. On April 27, 1998, as part of the Company's Recapitalization Plan, all 37,000 shares of the Series A Preferred Stock were redeemed and all accrued dividends paid. On April 27, 1998, the Company completed a series of transactions which recapitalized the Company (the "Recapitalization). See Note 3 to notes to financial statements for a description of the Recapitalization. As a consequence of the Recapitalization the Company now has outstanding the following: 27 ITEM 2 - MANAGEMENT'S DISCUSSION AND ANALYSIS OR PLAN OF OPERATION (CONTINUED) - ------------------------------------------------------------------------------ FUTURE CAPITAL REQUIREMENTS AND RESOURCES The Company's capital requirements relate to the acquisition, exploration, enhancement, development and operation of natural gas and oil properties. In general, because the natural gas and oil reserves the Company has acquired are depleted by production over time, the success of its business strategy is dependent upon a continuous acquisition, exploitation, enhancement, and development program. In order to achieve profitability and generate cash flow, the Company will be dependent upon acquiring or developing additional natural gas and oil properties or entering into joint natural gas and oil well development arrangements. The Company currently has $25.0 million in borrowing capacity available under its Credit Facility. YEAR 2000 COMPUTER ISSUES The Company has reviewed its computer systems and hardware to locate potential operational problems associated with the year 2000. Such review will continue until all potential problems are located and resolved. The Company believes that all year 2000 problems in its computer systems have been or will be resolved in a timely manner and have not caused and will not cause disruption of its operations or have a material adverse effect on its financial condition or results of operations. However, it is possible that the Company's cash flows could be disrupted by year 2000 problems experienced by outside operators of its wells, buyers of its natural gas and oil, financial institutions or other persons. The Company is unable to quantify the effect, if any, of year 2000 computer problems that may be experienced by these third parties. CAUTIONARY STATEMENT FOR PURPOSES OF THE "SAFE HARBOR" PROVISIONS OF THE PRIVATE SECURITIES LITIGATION REFORM ACT OF 1995. With the exception of historical matters, the matters discussed in this Report are "forward-looking statements" as defined under the Securities Exchange Act of 1934, as amended, that involve risks and uncertainties. Forward-looking statements include, but are not limited to, the matters described below, as well as "Item 2. Management's Discussion and Analysis or Plan of Operations - General," "- Liquidity and Capital Resources." Such forward-looking statements relate to the Company's ability to attain and maintain profitability and cash flow, the stability of and future prices for oil and gas, the ability of the Company to acquire additional natural gas and oil reserves, the ability of the Company to raise additional capital to meet its requirements and to obtain additional financing, its ability to successfully implement its business strategy, and its ability to maintain compliance with the covenants of its various loan documents and other agreements pursuant to which securities have been issued. The inability of the Company to meet these objectives or the consequences on the Company from adverse developments in general economic conditions, adverse developments in the oil and gas industry, and other factors could have a material adverse effect on the Company. The Company cautions readers that various risk factors described in the Company's Annual Report on Form 10-KSB for the year ended December 31, 1997 could cause the Company's operating results to differ materially from those expressed in any forward- looking statements made by the Company and could adversely affect the Company's financial condition and its ability to pursue its business strategy. 28 PART II. OTHER INFORMATION ITEM 2. CHANGES IN SECURITIES AND USE OF PROCEEDS. On April 27, 1998, as part of the Recapitalization, the Company issued to Chesapeake Energy Corporation 50,000 shares of Series B Preferred Stock with an aggregate liquidation value of $50.0 million, and ten-year warrants to purchase, at an exercise price of $0.01 per share, 2,439,246 shares of the Company's Common Stock. The securities were issued in consideration for $39.5 million. On April 27, 1998, as part of the Recapitalization, the Company issued and sold $60.2 million initial principal amount if its 14 1/8% Senior Secured Discount Notes, due 2006, and warrants to purchase 825,000 shares of Common Stock at an exercise price of $2.40 per share. The securities were issued in consideration for $60.2 million. The securities were purchased by persons who represented that they were "qualified institutional buyers", as defined under Rule 144A under the Securities Act of 1933, as amended (the Securities Act). The securities were issued in reliance upon the exemption from the registration requirements of the Securities Act afforded by Section 4 (2) thereof and Regulation D thereunder. Donaldson, Lufkin & Jenrette Securities Corporation acted as advisor to the Company in the transactions and received a fee in connection with its representation of the Company in the Recapitalization. 29 PART II. OTHER INFORMATION ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K (a) Exhibits: 15 - Letter Regarding Unaudited Interim Financial Information 27 - Financial Data Schedule (b) Reports on Form 8-K During the quarter ended June 30, 1998, the Company filed Current Reports on Form 8-K dated April 27, 1998. 30 SIGNATURES Pursuant to the requirements of the Securities and Exchange Act of 1934, the Registrant has duly caused the report to be signed on its behalf by the undersigned thereunto duly authorized. GOTHIC ENERGY CORPORATION Date: August 12, 1998 By: /s/ Michael Paulk -------------------------------------- MICHAEL PAULK, President, Chief Executive Officer Date: August 12, 1998 By: /s/ Steven Ensz -------------------------------------- STEVEN ENSZ, Vice President of Finance, Chief Financial Officer Date: August 12, 1998 By: /s/ Andrew McGuire -------------------------------------- ANDREW MCGUIRE, Controller GOTHIC PRODUCTION CORPORATION Date: August 12, 1998 By: /s/ Michael Paulk -------------------------------------- MICHAEL PAULK, President, Chief Executive Officer Date: August 12, 1998 By: /s/ Steven Ensz -------------------------------------- STEVEN ENSZ, Vice President of Finance, Chief Financial Officer Date: August 12, 1998 By: /s/ Andrew McGuire -------------------------------------- ANDREW MCGUIRE, Controller 31 EX-15 2 LETTER REGARDING UNAUDITED INTERIM FINANCIAL INFO EXHIBIT 15 Gothic Energy Corporation and Subsidiary Letter Regarding Unaudited Interim Financial Information Securities and Exchange Commission 450 Fifth Street, N.W. Washington, D.C. 20549 Re: Gothic Energy Corporation and Subsidiary Registration on Form S-3 We are aware that our report dated August 10, 1998 on our review of the interim financial information of Gothic Energy Corporation for the period ended June 30, 1998 and included in this Form 10-QSB is incorporated by reference in the Company's registration statement on Form S-3 (File No. 333-23239). Pursuant to Rule 436(c) under the Securities Act of 1933, this report should not be considered a part of the registration statement prepared or certified by us within the meaning of Sections 7 and 11 of that Act. PricewaterhouseCoopers LLP Tulsa, Oklahoma August 13, 1998 EX-27 3 FINANCIAL DATA SCHEDULE
5 0001061312 GOTHIC PRODUCTION CORPORATION 1,000 6-MOS DEC-31-1998 JAN-01-1998 JUN-30-1998 8,010 0 6,011 0 0 14,167 310,371 (22,956) 316,565 11,516 296,735 0 31,834 162 (29,895) 316,565 27,921 29,073 23,020 23,146 0 0 17,094 (11,167) 0 (11,167) 0 (31,459) 0 (42,626) (3.03) (3.03)
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