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Oil and Gas Properties

3 Months Ended

Dec. 31, 2014

3.	OIL AND GAS PROPERTIES

The Company’s oil sands acreage as of December 31, 2014, covers 43,015 gross acres (34,096 net acres) on 68 sections of land under nine oil sands leases. Until the Company extends the leases “into perpetuity” based on the Alberta governmental regulations, the lease expiration dates of the Company’s nine oil sands leases are as follows:

32 sections of land under 5 oil sands leases are set to expire on July 10, 2018;

31 sections of land under 3 oil sands leases are set to expire on August 19, 2019; and

5 sections of land under 1 oil sands lease are set expire on April 9, 2024. It is the Company’s opinion that the Company has already met the governmental requirements for this lease and it will be applying to continue this lease into perpetuity.

Effective September 25, 2014, the Company, through its subsidiary Deep Well Alberta, entered into a Purchase and Sale agreement with Classic Energy Inc. (“Classic”), pursuant to which the Company acquired Classic’s 20% working interest in five sections in one Sawn Lake oil sands lease where the Company already owned working interests. As of September 25, 2014, the Company increased its net acres in the Sawn Lake oil sands properties from 33,463 to 34,096 net acres.

Lease Rental Commitments

The Company has acquired interests in certain oil sands properties located in North Central Alberta, Canada. The terms include certain commitments related to oil sands properties that require the payments of rents as long as the leases are non-producing. As of December 31, 2014, the Company’s net payments due under this commitment are as follows:

	(Cdn $)
2015	$	36,221
2016	$	48,294
2017	$	48,294
2018	$	48,294
2019	$	29,478
Subsequent	$	22,400

The government of Alberta owns this land and the Company has acquired the rights to perform oil activities on these lands. If the Company meets the conditions of the leases the Company will then be permitted to drill on and produce oil from the land into perpetuity. These conditions give the Company until the expiration of the leases to meet the following requirements on its primary oil sands leases:

drill 68 wells throughout the 68 sections; or

drill 44 wells within the 68 sections and having acquired and processed two miles of seismic on each other undrilled section.

The Company plans to meet the second of these conditions. As at December 31, 2014 and September 30, 2014, the Company has an interest in ten wells, which can be counted towards these requirements.

The Company has identified two other wells drilled on these leases, which may be included in the satisfaction of this requirement. The Company has also acquired and processed 25 miles of seismic on the leases, which can be counted towards these requirements. Our joint venture partner and operator of the SAGD Project has also acquired additional seismic that can be used towards our MLE requirements.

The Company follows the successful efforts method of accounting for costs of oil properties. Under this method, only those exploration and development costs that relate directly to specific oil reserves are capitalized; costs that do not relate directly to specific reserves are charged to expense. Producing, non-producing and unproven properties are assessed annually, or more frequently as economic events indicate, for potential impairment.

This consists of comparing the carrying value of the asset with the asset’s expected future undiscounted cash flows without interest costs. Estimates of expected future cash flows represent management’s best estimate based on reasonable and supportable assumptions. Proven oil properties are reviewed for impairment on a field-by-field basis. No impairment losses were recognized for the period ended December 31, 2014 (September 30, 2014 - $nil).

Capitalized costs of proven oil properties will be depleted using the unit-of-production method when the property is placed in production.

Substantially all of the Company’s oil activities are conducted jointly with others. The accounts reflect only the Company’s proportionate interest in such activities.

Steam Assisted Gravity Drainage Demonstration Project

On July 30, 2013, the Company entered into a Steam Assisted Gravity Drainage Demonstration project (“SAGD Project”) to jointly participate in an Alberta Energy Regulator (“AER”) approved SAGD Project on one section of land where the Company now has a 25% working interest (after the execution of the Farmout Agreement as defined below). The SAGD Project is located on section 30-91-12W5 of the Company’s Peace River oil sands properties located in North Central Alberta, Canada (also known as the Sawn Lake heavy oil reservoir). On August 15, 2013, and in accordance with the SAGD Project Agreement and the Amendment, the Company served notice (“Notice of Election”) to of the operator of the Company’s election to participate in the SAGD Project. Upon signing the Notice of Election the Company was required to pay in full the cash calls for the Company’s initial share of the costs of the SAGD Project and in accordance with a Farmout Agreement dated July 31, 2013 the Company has since paid all cash calls in full to the operator of the SAGD Project.

Farmout Agreement

On July 31, 2013, the Company entered into a Farmout agreement (the “Farmout Agreement”) with an additional joint venture partner (the “Farmee”) to fund the Company’s share of the AER approved SAGD Project at the Company’s Sawn Lake heavy oil reservoir in North Central Alberta, Canada. In accordance with the Farmout Agreement the Farmee has agreed to provide up to $40,000,000 in funding for the Company’s portion of the costs for the SAGD Project, in return for a net 25% working interest in 12 sections where the Company had a working interest of 50% (before the execution of the Farmout Agreement). The Farmee will also provide funding to cover monthly operating expenses of the Company, of which the first such monthly payment began in respect of the month of August 2013 and shall not to exceed $30,000 per month. In addition, until December 31, 2015, as amended on November 17, 2014, the Farmee has the option to elect to obtain a working interest of 45% to 50% working interest in the remaining 56 sections of land where the Company has working interests ranging from 90% to 100%, by committing an additional $110,000,000 of financing to the development of the Company’s Sawn Lake oil sands properties.

SAGD Project – Phase 1

The SAGD Project started with the first phase (“Phase 1”) consisting of the drilling and completion of one SAGD well pair, the construction of a facility for steam generation, water handling and oil treating, plus water source and disposal facilities. As required by the Farmout Agreement, the Farmee has since paid Cdn $19,355,129 to the operator of the SAGD Project for the Farmee’s share and the Company’s share of the costs of the SAGD Project up to December 31, 2014. The total SAGD Project capital costs for Phase 1 plus additions have been estimated by the operator to be Cdn $36.9 million.

SAGD Project – Phase 2

On June 27, 2014, the Company paid a Cdn $300,000 cash call to the operator for the proposed Phase 2 front end costs for the SAGD Project. The Phase 2 front end costs include work on preliminary engineering design, regulatory approval, environmental approval work and determining regulatory requirements sufficient to define the work program, schedule and estimated cost of this second phase which is anticipated to include the drilling of two additional SAGD well pairs and the associated expansion of the current SAGD steam plant. The Farmee reimbursed the Company in the amount of Cdn $300,000 as per the Farmout Agreement dated July 31, 2013.

Water Rights Conveyance Agreement

On October 9, 2013, and in connection to the SAGD Project agreement dated July 30, 2013, the Company entered into a Water Rights Conveyance Agreement whereby the Company acquired a 25% working interest in one water source well and one water disposal well for a cost of Cdn $384,046, which in turn was reimbursed to the Company by the Farmee. Also pursuant to the Water Rights Conveyance Agreement dated October 9, 2013 and the SAGD Project agreement dated July 30, 2013, the Company was issued a cash call in the amount of Cdn $1,058,568 for the expenditures relating to the water source well, water disposal well and pipelines to connect them to the SAGD Project surface facility. The Farmee has since paid this cash call in the amount of Cdn $1,058,568 pursuant to the Farmout Agreement dated July 31, 2013.

Acquisition of Royalty Interests

On March 18, 2014 and June 27, 2014, the Company, through its 100% wholly owned subsidiary company Northern Alberta Oil Ltd., entered into and subsequently closed two Acquisition of Royalty Interest Agreements and General Indenture of Conveyance, Assignment and Transfer Agreements (collectively the “Agreements”), with the Company’s joint venture partner (“JV Partner”) and one related party (Mr. Malik Youyou), whereby the Company acquired and cancelled 5.5% of a disputed 6.5% overriding royalty claim (the “Purported 6.5% Royalty”) potentially on some lands owned by the Company. The Company’s counsel and vendor’s counsel negotiated the terms and conditions of both the “Acquisition of Royalty Interest” and “General Indenture of Conveyance, Assignment and Transfer” agreements. Although the Company does not confirm the validity of the Purported 6.5% Royalty, the Company determined that it was in the best interests of its shareholders to come to an arrangement to acquire and cancel most of the Purported 6.5% Royalty to prevent a potential encumbrance over its land or the possibility of future litigation resulting from these alleged royalty claims. Pursuant to the terms and conditions of the Agreements to acquire the purported overriding royalty interest claims, the Company paid the following consideration:

(i)

US $2,435,124 (Cdn $2,697,600) was paid to the JV Partner for the purchase and transfer of an undivided 3% interest out of the Purported 6.5% Royalty. The consideration paid was the original cost (in Canadian dollars) that the JV Partner paid to acquire its 3% interest in the Purported 6.5% Royalty.

(ii)

US $1,007,000 was paid to Mr. Malik Youyou, who is a director and majority shareholder of the Company, for the purchase and transfer of an undivided 2.5% interest out of the Purported 6.5% Royalty. The consideration paid was for the reimbursement of the original cost (in US dollars) that Mr. Youyou paid to acquire this 2.5% interest in the Purported 6.5% Royalty from an arm’s length third party.